There is no downside support for a central bank that devalues their currency at every hint of local economic fragility (sound familiar?). With a recent technical breakdown and renewed fundamental frustrations, the March lows of sub 12,000 in the Nikkei Index are now in play.
It is global this time, indeed.
(chart courtesy of stockcharts.com)
In any economic situation with mounting inventories, eventually the dynamic of lower clearing prices evolves. US Pending Home Sales for the month of May was released this morning at -4.7%, down from the +7% reported in April.
Of course the revisionist historians can look back on April's rally in the US stock market (and the "housing is bottoming" thesis alike) as just another round of exuberant higher lows.
Marking US homes to market will reveal clearing prices that are much lower than those listed in your local real estate directory.
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In analyzing where the US apparel industry is in its earnings cycle, I come up with the view that NTM earnings growth will go negative. While there are trade-offs between sales and margins, the end result is the same. Down earnings. Consider the following...
- 1. Revenue still has a long way to go to secure the inevitable 'downtrend' a. As I've been posting, I believe we are on a multi-year consumption downtrend. With that, could the public companies print average revenue growth rates in the mid-single-digit range for the foreseeable future instead of the 10-12% 10-year average? ABSOLUTELY! b. Importantly, one of the drivers to above average top-line growth in this space has been $30+bn in sourcing savings injected into the supply chain over 8 years to stimulate per capita consumption. As that factor unwinds, growth goes into hiding. c. Consider that from a top-line perspective, the industry is still a good 3 quarters away from reaching the new trendline growth, and 1-2 years away from setting a new baseline.
- 2. Margins: I am absolutely convinced that margins will continue to trend down 100-200bp on both a 2 and 3 year basis for at least the next 1-2 years. Check out my posts on the supply chain squeeze for full color. Bulls will respond that even though the industry is likely never to post a positive margin comp again for another 3-5 years, the 1-year erosion should get 'less bad' in 2H.
- 3. In the context of troughy valuations and weak earnings expectations, a 'less bad' margin trend piques my interest. That is, until it is squashed by the simple math that even a 'less bad' margin trend coupled with slower consumption nets out to around a -10% EBIT growth rate for the space. That puts the earnings revision and industry valuation analysis into a new perspective.
- The issues that are within the company's control are the same issues that MCD faced in 2003 (a need to slow unit growth and refocus on the customer and in-store execution) with some slight differences. Unfortunately for SBUX, MCD's fix came at a time when we were in a much stronger consumer environment. Working in SBUX's favor, however, is the fact that the SBUX brand is not tarnished with the bad product image like MCD was. SBUX is just relatively expensive and frequency is declining.
- As it turned out, MCD's plan to win strategy had a silver bullet to bring customers back - salads. SBUX is losing frequency due to economic issues and not due to issues with the brand. The new coffee SBUX recently introduced helped to broaden the appeal of the concept, but it was not a silver bullet. Right now the SBUX silver bullet is on the drawing board in Seattle.
- MCD announced its plan to win in April of 2003 and saw immediate results in that quarter. Like SBUX, MCD had been experiencing declining same-store sales trends and operating margins. From a timing standpoint, MCD's plan translated into to an immediate uptick in trends because it coincided with the introduction of salads and the company was able to cut is capital spending right away. MCD's capital spending was down 22% in the same quarter the plan was announced and down 35% within the year the plan was implemented.
- 1) This is not a typical tighty-whity knock off product. It appears to target an 18-35-year old male willing to drop $12 on a pair of skivvies. This is right in line with CK Underwear's sweet spot.
- 2) Let's not underestimate the sheer size and marketing power of Levi's. This company is private, so naturally no one knows (or seems to care) how big it is. But at $4.4bn in revenue and a 15% operating margin, it is roughly the same size as Warnaco, Gildan and Hanesbrands combined. My point here is that its marketing budget is 1.5x Warnaco's total EBIT. If Levi's wants to take share - it will take share.
- 3) There's not that much share to go around. The chart to the right shows that 50% of the market is locked down by four brands. But when we take out lower priced basics, that concentration goes closer to 80%. That's where Levi's is headed.
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