HIBB
We added Hibbett Sports to Investing Ideas as a short this week. Retail analyst Alec Richards explains the rationale below.
A NOTE FROM THE EDITOR
In light of our increasing caution towards equities and the removal of many of our favorite names, last week we featured one of our analysts' favorite short ideas, Royal Caribbean. We received an overwhelmingly positive response from Investing Idea subscribers. The common refrain we heard was, "What took you so long?!"
To that end, this weekend we have chosen to showcase another stock we believe is massively overpriced. In fact, our Restaurants analyst Howard Penney says this company is 'egregiously valued' and poised to drop over 50% from its current sky-high perch.
Happy hunting out there on the long and short side.
Have a great weekend!
CARTOON OF THE WEEK
Below are Hedgeye analysts’ latest updates on our five current high-conviction long investing ideas, one short idea, and an additional new short idea from our Restaurants team.
We will send CEO Keith McCullough’s updated levels for each in a separate email.
We added Hibbett Sports (HIBB) this week.
As always, we also feature two additional pieces of content at the bottom.
SPOTLIGHT: BEST IDEA SHORT
For the most part, the Shake Shack (SHAK) growth story (business model) is predicated on the view that what works well in New York City will work well in the rest of the world. In our view, when it comes to operating a small cap growth restaurant company, NYC is not the center of the universe. Just ask the management team at DFRG.
The bull case for the stock centers on the brand’s unique beginnings and its “cult-like” status, which sets it apart from other better-burger operators. The company has guided the street to sustained, long-term EBITDA growth of +20%. This growth is expected to be driven by +20% domestic unit growth, execution on existing agreements for overseas licensed growth, low single digit SSS, and modest operating leverage.
The stock is reflecting a performance that assumes multiples of the aforementioned guidance. What the stock is not reflecting is the inevitable reality that, at the end of the day, it is just a restaurant company and the “cult-like” status will not last forever. We’ve seen many “cult-like” companies come and go and the vast majority of these stories have ended poorly.
To simplify the SHAK story, the only thing that will truly matter from here on out is the performance of new units.
There are currently 63 Shake Shacks worldwide, with about 49% of the store base company-owned. Most of the franchised stores are operated internationally, the majority of which are in the Middle East. Going forward, management is targeting at least ten company openings a year, and wants to triple its domestic footprint over the next five years. This translates to +32% and +27% domestic growth in 2015 and 2016, respectively. This would put SHAK’s growth rate at the highest in the industry and significantly above the more mature fast casual players that are growing in the +8-14% range.
Despite only having 63 units, management believes that Shake Shack “has become a beloved global brand with a power reaching multiples beyond [its] size.” Ah, a classic New Yorker’s view of the world. During the 4Q14 earnings call, CEO Randall Garutti went on to say, “The excitement we create during our openings and the ongoing connection we have with our fans through an intensive social media strategy, graphic design, and unique collaborations have together powered our voice and created a truly dynamic connection with our loyal Shack fans.”
Remember, Shake Shack is in the nascent stage of growth with a business model that is largely based on how New Yorkers view the brand. With 63 units, and only 13 in the same-store sales base (new units take 24 months to enter the base), management believes it has covered all of the bases. Its “versatile real estate model is built for growth, already proven throughout the country in varied formats: in urban, suburban, mall, train stations, airports, and even ballparks.” With roughly half of its units in the US, it’s difficult to imagine that management believes they have it all figured out. The runway for growth can be a lot smaller than most imagine and there is significant room for operational risk along the way.
Bottom line: SHAK shares are egregiously overvalued and could fall over 50%, perhaps even more.
IDEAS UPDATES
HIBB
We added Hibbett Sports to Investing Ideas as a short this week. Retail analyst Alec Richards explains the rationale above.
We think that HIBB is one of the most structurally challenged retailers in all of retail.
The company grew up to 1,000 retail stores mainly in the Southeastern United states with most of its doors within spitting distance of Walmart. The strategy was simple, 1) leverage WMT traffic, and 2) sell higher ticket sporting goods, footwear, and apparel from national brands that one cannot find at a WMT. But, now growth is tapped in its core market (over 95% of WMT’s in the company’s home state of Alabama have a HIBB within 5 miles) and must look to new markets like PA and the Southwestern United States for growth.
The problem is that a) HIBB has no brand equity in these markets, b) an underdeveloped distribution network making it impossible to service these markets in a cost effective manner, c) now has to compete in markets with an existing competitive presence (Dick’s Sporting Goods, Academy + Outdoor, Sports Authority) and d) manage competition entering its core market.
Add to that the fact that WMT – the retailer HIBB is most dependent on as a traffic driver – has posted negative traffic metrics in 8 of the past 9 quarters as it looks to e-commerce for its next leg of growth. The only problem is that HIBB can’t put a store next to WMT online, and it is one of the only retailers today that still does not have an e-commerce operation. That development of e-commerce capabilities appears to be in the works, but based on what we’ve seen from other retailers building out e-comm capabilities it could mean 300-500bps of margin headwind as the cost investment needed to enter the online marketplace, that has been driving outsized growth, flows through the P&L.
Ultimately we see top line trends decelerating, costs accelerating, and capital requirements are going nowhere but up. Any form of growth from here on out – in existing stores, new stores, and online, will all come at a lower margin. This year will be a roller coaster (mostly down) but we think next year’s earnings miss becomes explosive. HIBB is one of our top short ideas.
ITB
The ITB turned in modest positive absolute and relative performance in the latest week as the advance in interest rates ebbed and the high frequency mortgage purchase application data continued to reflect improving housing demand trends.
Purchase activity was flat week-over-week but held at 23-month highs with demand growing +11.7% on a year-over-year basis. As it stands, 2Q15 is currently running +14.5 QoQ, +13.7% YoY, and on track for its best quarter in two years.
The Mortgage Bankers Association also released its Mortgage Credit Availability Index (MCAI) for April on Tuesday. The MCAI made a new cycle high, increasing +0.5% month-over-month with the Government and Jumbo indices leading the gains. The regulatory pendulum continues to swing towards credit box expansion in 2015 and should provide marginal support to transaction volumes, particularly for prospective entry level buyers.
Next week will offer a more comprehensive update on the state of activity in both the New and Existing markets with the NAHB’s Builder Confidence Survey (May Data), Housing Starts (April Data), and Existing Home Sales (April data) slated for release on Monday, Tuesday & Thursday, respectively.
Click to enlarge.
VNQ | TLT | MUB | EDV
In last week’s newsletter, we asked the question as to whether or not interest rates can move lower in both a deflationary and inflationary environment:
“While history suggests long-duration fixed income works in a QUAD3 scenario which we are moving closer to hitting in Q2, the performance hasn’t been as strong as a QUAD 4 set-up. However if the debate is between QUAD4 and QUAD3, bonds work in both scenarios.”
The counter-TREND moves in the USD and commodities have been extensive and now confirmed:
- U.S. Dollar: Down another 1.20% w/w to complete its BULLISH to BEARISH TREND Reversal. The dollar is now BULLISH on a TAIL duration (three years or less) and BEARISH on a TREND duration (3-Months or more)
- CRB Index: +2.0% w/w and +5.5% 1-Month Change. The CRB is now BULLISH on a TREND duration and BEARISH on a TAIL duration
As Keith wrote in Friday’s Early Look newsletter , the longer-term sequence events causing the respective TAIL lines in the USD and Commodities to continue is as follows:
- “Currency War (centrally planned FX devaluations to create growth and inflation) will see Japan, Europe, and the USA fail
- As each of the 3 majors sees growth and/or inflation slowing, they’ll take their turn with more of what has not worked
- In the end, the US has the best demographics of the 3, so they’ll have the best real growth of the 3 (and strongest currency)”
The move in 10-Year treasury yields on Wednesday’s retail sales miss was a good exercise in markets front-running central-planning:
- Retail Sales printed a goose egg (0%) sequentially in April
- On a y/y basis retail sales printed a measly +0.9%, which is a major slowdown from the 4-5% growth rates back in the fall of 2014
- The USD got whacked for a -1% day Wednesday (-1% on the week and -5.8% over the last month)
- The U.S. 10-Year Yield which was pulled-up from the big move higher in European sovereign yields Wednesday, reverted 10bps from the End-of-Day highs on Wednesday to finish the week +4bps higher (2.19%).
The reality is that we are in a #LateCycle slowdown and the jockeying around each incremental data point will continue to get more and more intense as the Fed’s only ammo for suspending the cycle that has unfolded many times over is to push out the dots on a rate hike. #LowerForLonger.
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