Takeaway: We’re hosting a call on Wednesday, April 8 at 1:00pm EST. Dial-in details and associated materials to follow.
We are adding ZOES to the Hedgeye Best Ideas list as a long.
Standing Out From the Crowd
After coming down hard on NDLS, CHUY, PBPB, DFRG and SHAK over the past year, it’s probably apparent that we have a strong bias against “high growth” restaurant companies that have recently come public. Rest assured this bias has not detracted from our research process. In fact, this prior work in the small cap restaurant field has allowed us to identify a company that we believe is distinctly different from the rest – which, if you’re familiar with our work, can only be construed as a good thing.
We like ZOES on the long side for many reasons, including its:
- Superior brand positioning
- Management philosophy and execution
- Unit opening geographic profile
- Early-stage average unit volumes and returns
There is little competition in the Mediterranean category which directly appeals to the health conscious millennial crowd and has the potential to become America’s next big cuisine. Due in large part to a best-in-class management team and operating philosophy, we believe ZOES will be able to grow with minimal roadblocks.
Please join us on Wednesday as we walk through the intricacies of our call in a detailed Black Book.
Takeaway: MCD raises wages, adding to lower tier wage pressure. DKS implications of Leonard Greene stake in Bass Pro.
WAGE PRESSURE Builds Further For Retail
MCD, KSS, JCP, M, TGT, WMT - McDonald's USA Announces New Employee Benefit Package Including Wage Increase and Paid Time Off at Company-Owned Restaurants
Takeaway: The largest restaurant group in the US and two of the three largest retailers are setting the tone on the employment front. Some may minimize this announcement because it only applies to 10% of MCD's, 14k US stores, and it's unlikely that Franchisees will follow suit, but we point to a) the 90,000 employees it will effect and b) the legislative risk associated with these pay moves by MCD, WMT, and TGT. Will we see a sweeping national reform of the Federal Minimum Wage? Who knows -- but, what is clear is that the likes of KSS, JCP, and M will have to compete with the employment leaders to attract and retain workforces. The reason why we haven’t seen it yet is because we’re now at a seasonal lull for retail. By July, retailers will start beefing up temporary workforce ranks for ‘Back to School’ and then they kick it up a notch again in October as they prepare for Holiday. With the exception of grocery retailers, they ALL follow that pattern. That’s precisely when we’ll see the biggest wage pressure. And it's not like these companies can optimize payroll hours to offset the additional cost without sacrificing the in-store 'experience'. KSS in particular at it's analyst day characterized its employee management as 'world-class' and said there wasn't much wiggle room.
To review our outlook for the year, see our note Retail - Our 2015 Quarterly Playbook LINK: CLICK HERE
Additional data: According to Glassdoor, MCD pays its base level employees (crew members & cashiers) $8.31. That's just south of KSS territory, and below all of the big players in the retail industry. Here's a look at the average hourly wages by retailer.
DKS Implications of Possible Leonard Greene Stake in Bass Pro
Takeaway: Bass Pro stores are absolutely massive, about and pump north of $60mm through an average store -- close to $300 bucks per foot (vs DKS at $207). Those numbers have tailed off over the past couple of years according to Euromonitor, but at 1.1x EV/Sales (LTM) it doesn't seem like an egregious multiple for Leonard Green to stomach. With DKS trading at a discount it's likely we'll here some renewed talk in about the possibility of the company going private, though Stack has all but said he wouldn't sell. Here's how we are thinking about that talk…
Based on our LBO model (ping us is you want a copy), a DKS LBO at the current price -- and even 20% lower -- makes no financial sense. The IRR is negative in both instances.
To be clear, our model assumes…
- DKS tops out at 900 stores by 2018, below management's 1,100 goal
- 2% to 3% comp store sales growth as e-commerce offsets negative store traffic.
- Gross Margins fall by 50bp annually as e-commerce dilutes profitability, and aggregate sales growth is not strong enough for DKS to leverage occupancy costs.
- EBIT margins fall from 8% today to 6% in 2018.
Though the math on our model makes no sense, the reality is that a banker Dick's might hire to sell the company will use much more bulled-up assumptions. We've said it before and we'll say it again, if DKS could find a buyer with the stock at a $5-handle, it should hit the bit on that all day. Ed Stack built a good business in a tough space. But it's running out of growth and margin, and we think he knows it.
URBN - Comp sales QTD are mid single-digit positive
TGT - Target Canada to Close all Canadian Stores by April 12
LL - Formaldehyde Emission Standards for Composite Wood Products
APP - American Apparel to Lay Off 180 Employees
AMZN - We May Have Just Uncovered Amazon’s Vision for a New Kind of Retail Store
SQBG - Jessica Simpson Brand Bought by Sequential
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In this brief excerpt from today’s edition of The Macro Show (click here for full replay), Hedgeye CEO Keith McCullough discusses Doug Kass’ call (yet again) for rising interest rates.
We hope there are better days ahead for MCD, but on the surface it looks like the company is still struggling to find its way. We continue to believe MCD is a short.
Yesterday’s announcement about higher wages was largely a public relations stunt. Unlike the other large retailers that have announced similar wage rate actions, the majority of McDonald’s workforce is not eligible for this wage increase – unless the franchisees decided to follow suit (highly unlikely). To be clear, PR stunts and marketing gimmicks will not fix McDonald’s. It’s time for the company to get serious about making changes that will improve the operations of the company.
Traditionally, increased inflation (higher menu prices) benefits MCD’s bottom line which means that, on the surface, this announcement could potentially benefit the new CEO. If the franchisees are forced to raise wages, they’ll certainly raise menu prices, which will benefit MCD’s royalty stream. Good news for MCD right? Not so fast.
This news, along with other recent announcements, solidifies our short case for three reasons:
1. It appears the subject of raising wages was not on the agenda at the recent franchisee convention. If this is, in fact, true it raises the question: why was the new CEO unwilling to openly talk about this with franchisees? This goes against the founding principles of the company. The McDonald’s system was built on Ray Kroc’s vision of franchisees working not for McDonald’s, but for themselves in conjunction with McDonald’s. He constantly promoted the slogan: “In business for yourself, but not by yourself.” This philosophy was based on the simple principle of the 3-legged stool:
Given that the stool is only as strong as the three legs that formed its foundation, if one leg is broken the whole system will fail. Franchisees must be profitable and successful – the future of the company depends on it.
2. MCD is in no position to raise prices given the market place’s current brand perception. MCD already has a price-value perception issue and this will only be exacerbated by higher prices. The closer McDonald’s average check gets to the “better burger” category (without an improvement in quality), the more market share it will cede.
3. The new CEO hasn’t proven that he is willing to make drastic changes. While we’re in the early days of Steve Easterbrook’s tenure as CEO, it appears that he hasn’t yet taken charge of the company. The continued test of Create-Your-Taste and the recent announcement that the company will be testing all-day breakfast in Southern California are clear signs that this company isn’t serious about turning around.
Hedgeye CEO Keith McCullough shares the top three things in his macro notebook this morning.
The Top Three Things are part of The Macro Show, Hedgeye TV’s live and interactive pre-market show where we break down what’s happening in the markets and Global Macro. CLICK HERE to watch today's full 24-minute show.