UA: How Have Expectations Changed?

UA: How Have Expectations Changed?


Expectations are growing less apocalyptic, though the fundamental story is shaping up as it should. The one factor that could derail near-term earnings (SG&A spend around footwear) is the biggest revenue catalyst for 2010.



UA has been one of our favorites for most of 2009. As we do with all of our ideas, we step back daily, re-evaluate the facts, and see how reality does (or does not) synch with expectations. The bottom line is that this is still one of our favorites, and the only thing that has changed since we rolled out our Under Armour Black Book is 1) the price has gone up, and 2) evidence that the story is, in fact, playing out with the company’s fundamentals. As quantified in our report, we still believe that next 2-years’ estimates are low by 15% and 25%, respectively. Looking at this on an EV/Total Addressable Market Value basis, we still think that there’s no cheaper stock in Consumer Discretionary.


But looking into the quarter, what we won’t do, however, is turn a blind eye to changes in near-term expectations. Over the last month, consensus 3Q revenue growth forecasts have risen to 6-7%, about in line with our model. Though we still think that the Street is off with margin estimates, now we’re looking at around 7% EPS upside instead of the 10-12% we had after the last print. Also, while this name remains very much hated (only 2 of 20 Analysts have it rated ‘Buy’) short interest has come down to around 20% of the float (still understated, we think given certain long term holders that won’t sell), Is sentiment ugly? Yes. But it has grown somewhat less apocalyptic as the stock has more than doubled off its low.


So what could UA do or say on Oct 27th to change the thesis? Over an intermediate-term (and certainly a long-term) duration I don’t think there’s much that can slow this beast down. Over the near-term, we’d have to see either a meaningful slowdown in core apparel, or UA back off of footwear goals. We have 13 weeks of POS data under our belt, and the trends look good for UA. Tack that onto in-line inventories at the end of last quarter, and it smells fine by me – especially with 4Q starting off on a positive note as it relates to apparel growth industrywide.


As for footwear, the biggest and baddest thing the company can do is have Gene McCarthy get on the conference call and talk about how he is hiring 50 people to fill out his new footwear organization, which will take up the SG&A base this year.


Is this possible? Yes, very (as stated in our Black Book), and will make my EBIT numbers be too high. But the other numbers it will make unrealistic are my 2010 revenue numbers for footwear – they’ll prove too low. You see… this guy ‘gets it.’  How many times have we heard companies like Columbia Sportswear talk about ‘hiring a new footwear guy’ to solve their ills and capitalize on a ‘great brand opportunity’? Something that is consistently ‘a great brand opportunity’ but is never realized is not really an opportunity afterall…


McCarthy went in to Plank’s org chart with the understanding that he would build out his talent pool. Note that he started to do this with TBL’s Authentic Youth biz – and it started to work immediately. Then they made him Co-President of the company, did not back fill his efforts in the Authentic Youth segment and pulled resources accordingly in that area. 


Simply put, the ‘rock star’ approach does not work here. It takes a team, and McCarthy will build it. If people freak out because of higher spending to get this team built – then this will be a gift for a risk manager.


Revenue Analysis

Historically, the correlation between reported UA wholesale apparel revenue and the corresponding Sportscan athletic apparel data (lagged by one full quarter to account for wholesale to retail timing) is 76% based on analysis of the last 12 quarters. 


With the benefit of the late 1Q09 launch of running shoes, footwear revenues are forecast to benefit from an incremental $15 million in the quarter.  We’re assuming the legacy footwear base (cleats & trainers) will decline by 30% to ~$9 million due in part to difficult comparisons and insight we’re gleaning from the channel.  On the whole, we are modeling 85% growth in footwear during Q3.  While revenues are still challenging to pinpoint with a high degree of accuracy given the lack of history for running, we believe the directional trends highlighted in the weekly scan data support our estimates. 


Furthermore, while running and additional category expansion in footwear remains key to our longer-term thesis, we’ve got to keep in mind that we are still in the very early stages of the footwear maturation curve.  Anecdotally, in a recent meeting with Dick’s management, they candidly discussed their surprise that UA’s footwear launch was met with such mixed reviews, and that it met their launch expectations.


Take a look at the chart below depicting the historical relationship (spread) between UA reported results and Sportscan trend data.  It’s important to note that over the last four quarters the spread has been within a +/- 5% range, reflecting a fairly high degree of correlation.


UA: How Have Expectations Changed? - UA apparel1


UA: How Have Expectations Changed? - UA Footwear1


Margin Analysis


Despite a smaller portion of lower margin footwear sales compared to the 1H, higher reserves, and increased liquidation activity will weigh on margins, which we are modeling down 200bps in Q3. Offsets will include strong higher margin direct-to-consumer sales that were impacted by ~100bps last year related to IT interruptions as well as fewer discounts in the outlets for apparel liquidation due to tighter inventories and a more stabilized retail environment. In addition, product costs are starting to swing the other way, which could lead to upside.  At the same time while UA will continue to invest in the brand growing SG&A roughly in-line with revenues, we expect modest deleverage of 90bps in the quarter as the company manages costs while the top-line recovers.


UA: How Have Expectations Changed? - UA Rev Waterfall


UA: How Have Expectations Changed? - UA EBIT Waterfall


UA: How Have Expectations Changed? - UA FCF Waterfall

“Weighty” Euro


Position: Long Germany via EWG


Although rear-view, it’s worth looking at today’s Eurozone trade balance release as a preview of the impact that a strong Euro is having  — exports were down 5.8% in August month-over-month, with imports declining 1.3%, dropping the trade balance to 1 Billion EUR from 6 Billion EUR in the previous month when exports rose 4.7% sequentially.


We’ve been hitting on the implications of currency strength in our European posts. With the Euro trading at an increase of +6.3% YTD versus the USD or +15.4% over the last 7 months, the impact on trade will be pronounced. As noted in yesterday’s post, ECB President Trichet has recently signaled his displeasure with a strong Euro, yet has not made explicit comments on raising rates in the near term.  


In order of absolute EUR of trade, exports from the Eurozone in the first seven months this year versus a year earlier declined to the UK by 26%, followed by a -20% contraction to the US, and declines of 10% and 4% to Switzerland and China respectively, according to Eurostat.


We continue to monitor the Euro versus major currencies. Certainly for Germany’s export-led economy, a strong Euro is a major headwind.  Today’s report shows that from January-July 2009 versus a year prior Germany far exceed any other country in the EU with a trade surplus of 73.4 Bill EUR, followed by Ireland (+23.3 Bill EUR) and the Netherlands (+20.9 Bill EUR). Conversely the UK far exceeded any other country with a trade deficit of -54.4 Bill EUR over the same period, followed by France (-30.4 Bill EUR) and Spain (-26.9 Bill EUR).


We’ll have our EYE on the Euro and its impact on trade, especially as it relates to Germany, which we’re currently long in our model portfolio.


Matthew Hedrick



“Weighty” Euro - a1



“Weighty” Euro - a2





The Economic Data calendar for the week of the 19th of October through the 23rd is full of critical releases and events.  Attached below is a snapshot of some (though far from all) of the headline numbers that we will be focused on.  


THE WEEK AHEAD - week ahead oct 19



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AMZN and WMT: 1-2 Punch

Did you see what transpired yesterday? If it’s any indication of what’s to come, we will have a highly competitive online market this holiday season. Yesterday alone held a back-and-forth price battle that provided entertaining sport (and a break from earnings). First, Wal-Mart announced it was cutting its online price for bestsellers to $10. Just a few hours later, Amazon cut its own prices to match. By the end of the day, both companies boasted books for a mere $9.00 and whopping discounts of up 70%.


AMZN and WMT: 1-2 Punch - 1


AMZN and WMT: 1-2 Punch - 2 



Obviously, this isn’t good for the overall profitability within the publishing industry (unless you believe in massive amounts of elasticity, which I don’t). In fact, moves like this just seem poised to hasten the demise of publishing profits with the digital transition about to shift into high-gear.


And in terms of Amazon and Wal-Mart, I won’t rush to any conclusions – other than to flag these moves as ones that I will keep on my radar screen. I can’t imagine that these price cuts will benefit anyone other than the consumers’ wallet, but the breadth and depth of such moves is what will really matter over time.


At the very least, to those that are writing off Wal-mart as a threat to Amazon – I say “not so fast”. This strikes at Amazon’s core and with increases in competition across Amazon’s portfolio (as I’ve highlighted in the past), moves like this are (on the margin) a negative.


AMZN and WMT: 1-2 Punch - 3


Google Trends tracks the rate at which people are searching for given terms (not necessarily visitors to a site). AMZN and WMT both show strong holiday seasonality in search.





The Macao Daily broke the news on Wednesday that visa restrictions have been tightened once again by the authorities in Guangdong.  Shares in Macau casino companies fell yesterday as the news broke.  The frequency with which visitors can apply for visas to travel to Macau has gone from once every three months, to once per month, to the current limit of once every two months.  The reasoning behind this fluctuation is unclear and has caused some confusion. 


DM believes that analysts have paid too much attention to the Individual Visit Scheme, both in boom and gloom days, stating that “there has been only two months out of the past 18 when mainland arrivals really plunged, and that was around this time last year, when both IVS arrivals and tour group arrivals fell sharply”.  The recent boom, according to the author, is more influenced by the financial well-being of Macau’s VIP customers than the IVS scheme.





The recent discussions led by Macau’s government regarding limits on table capacity expansion and raising the minimum age of casino visitors to 21.  DM sees this as positive news for the Big Six.  There is ample supply in the market; The Venetian had more than enough space no its floor during Golden Week. Considering that Lots 5&6 will be started as soon as possible, Galaxy is getting its Cotai resort going again, the government is clearly looking to calm the pace of expansion. If anything, DM believes investors should be concerned with diminishing industry ROI numbers as more projects are brought to completion.  There are many questions that remain to be answered, for instance, if there are unilateral caps or quotas imposed, how will the government decide who gets what?





MGM Mirage and Macau partner Pansy Ho plan on expanding their casino and exploring sites for potential resorts as they consider an initial public offering, according to a report on today.  Jim Murren, MGM CEO and Chairman, is quoted saying that MGM is “working on plans” to finish the 70,000 square feet of its casino’s second floor.  As for a possible IPO, Murren says that no decision has been taken but that “both partners have discussed it, and we believe it’s a very viable and attractive option… there’s been a very positive disposition towards it from both partners.”


Some commentators believe the indications from MGM that an IPO could be on the cards should be viewed cautiously given the “unclear picture” in light of the recent travel restrictions and the possible implementation of new laws concerning slot machines being banned from residential areas and raising the age for customers and staff at casinos to 21 from18 .


The visa situation is the first negative catalyst to emerge in Macau and the stocks are sliding. The remaining near-term (positive) catalysts could spark a rebound but investors shouldn’t lose sight of some 2010 warning signs.


The implementation of a new visa scheme was confirmed by the South China Morning Post today with the public security office in Guangdong.  It’s actually not a new scheme since they are reverting to the once every two month visit restriction in place pre-August.  We shouldn’t be surprised.  Beijing wants growth, but controlled growth - we think in the 5-10% range in terms of Mass revenues.  The restrictions shouldn’t be seen as a big negative since it’s indicative of excess demand – the only gaming market with excess demand – and will result in long-term predictable and strong Mass visitation.  Get used to it.


To us, the new restrictions are not all that important fundamentally but could continue to pressure the Macau stocks over the near term.  But we definitely care as more attractive buying opportunities may emerge.  Why aren’t we concerned about the reinstated restrictions?

  1. Solid, predictable growth generates very valuable cash flow streams as discussed above
  2. We’ve shown that there is little correlation between Mass visitation and gaming revenues, unlike every other market.  Macau follows a 90%+/10%- rule where less than 10% of the customers generate over 90% of the business.  This is clearly evident by the VIP contribution but also on the Mass side where the big hitters generate a huge amount of the Mass revenues.
  3. While Mass growth has been solid, VIP growth outstripped Mass in September and should continue to do so over the near term.  See the table below.  Other than the typical post holiday slowdown, the outlook for VIP growth looks terrific over the next few months owing to easy compares, excess liquidity, and Chinese stimulus.  VIP is unlikely to be affected by the visa restrictions.




Rather than focus on the visa restrictions, the Macau bears should focus their attention on two bigger issues facing Macau:

  1. Mass table game supply – 25% growth in YoY Mass table supply over the first half of 2010.  Beijing may be targeting 5-10% Mass growth but they are probably not targeting 5-10% Mass same store growth.
  2. VIP bubble? As shown in the chart, VIP is on a tear.  This business is a roller coaster recently fueled by Chinese stimulus and free flowing credit from the junkets.  We fear that we are in a bubble similar to 1H 2008 that will eventually pop, probably in 2010.

LVS looks to be most at risk from the new visa restrictions since they generate more of their business from Mass and are the slot revenue leaders.  It is also interesting to contemplate whether the restrictions were a big “Screw You” to Sheldon since visas were relaxed ahead of Wynn’s IPO but strengthened ahead of the LVS’ IPO.  LVS is also most susceptible to the Mass supply growth next year, particularly Oceanus which will be conveniently situated between Sands Macao and the Macau Ferry Terminal.  Longer-term, Mass is where you want to be so LVS is well positioned.  MPEL and WYNN seem better situated over the next few months, however, given their reliance on VIP and could experience a sharp rebound off the upcoming visa related lows.

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