- A little context may allay concerns somewhat. It wasn't that long ago that IGT's ship share fell from 75% to below 60% earlier this decade. The company then took the lead in Ticket-in, Ticket-out (TITO) and dominated the technology and the roll-out. Market share climbed all the way to 80% at the height of the cycle in 2003-2004. A similar situation occurred with the bill acceptor in the mid 1990s. History shows us that market share could improve again with the advent of the next technological cycle, Server Based Gaming presumably. That will help. IGT also overcame a huge spurt in video gaming machines when it was primarily a stepper company. A concerted R&D effort led to the market share lead in the video space after the belated start. Finally, IGT blazed a huge video poker path in the 1980s to overtake Bally as the #1, a spot it has yet to relinquish.
- How does IGT ensure that it doesn't relinquish that spot? More R&D may not be the answer. The company is boastful of its significant R&D budget relative to the industry (see the 2nd chart). More importantly, IGT has spent wisely and efficiently, until recently. Prior to 2006, IGT's ship share and share of casino participation games exceeded its portion of industry R&D spend. Could it be that 70-80% market share is not normal for a semi-mature industry? It is reasonable to believe that the pathetic shape of the competition contributed to an artificially high market share. With a revamped WMS, Bally, and Aristocrat maybe 40-50% share should be the target. Acceptance is the first step on the path to recovery. The 2nd step may be to refocus spending. Rationalizing R&D is probably a good place to start. Industry consolidation may be another.
DPZ is not the only restaurant company to leverage the balance sheet at exactly the wrong time; they just took leverage to a whole new level. I guess that is what you get from a board that is controlled by a PE firm that wants to extract as much cash from the company as possible. The good thing is that the business model can support it.
- Current t Trends Look Positive Over the past three quarters, the international business has been posting same-store sale in the MSD while the U.S. has had a difficult time. While the US business is still challenged, the Pizza category is seeing a significant change in traffic trends in 2Q08. Since 2Q07 the pizza category had seen three straight quarter of sequential decline in traffic. So far in 2Q08 traffic trends are down 1.2% vs. 4% in 1Q08.
- Domino's is as global as you get. With global retail sales of $5.5 billion, the Domino's system operates 8,600 stores in over 55 countries around the world. The Domino's business model has three different operating units; domestic (which is comprised of about 4,600 franchise owned and operated stores and only 500 company-owned stores), International (which has over 3,500 stores in over 55 countries) and a supply chain business which is critical to the DPZ story. The supply chain business is important to Domino's business model as it provides quality and consistency of product to the stores. The supply chain aggregates the purchasing power of the 5,000 U.S. stores, and allows for passing those efficiencies onto franchise operators. Importantly, franchisees sign up for a ten-year profit-sharing agreement where they pledge their business to this entity, and in return receive on a proportionate basis 50% of the profit generation of the distribution center. This distribution business has helped mitigate some of the commodity volatility in 1Q08.
- Commodity IssuesDPZ is in the EYE of the storm from a commodity perspective. Cheese represents approximately 40% of the cost of the pizza and has been a very difficult commodity over the past couple years. Meat, wheat, tomatoes and corrugated boxes are the other key commodities for the company. Needles to say, virtually all of these commodity costs have been at a ten-year high, and in many cases, an all-time historical high over the last 12 to 18 months.
- Financial IssuesFinancial Issues
- The first is Carl Edwards, who UA endorsed earlier this year. UA added its' logo to the hood of Edwards' #60 Ford Fusion for the Camping World RV Sales 200 in Loudon, New Hampshire. This partnership with Roush-Fenway represents UA dipping its toe in the water with NASCAR. Edwards placed an impressive 5th out of 43.
- On July 10, those of you who are bass fishermen might have been watching the college bass championship in Little Rock. Lead sponsor? You guessed it... Under Armour.
- The funny thing here is that most people on Wall Street look at things like NASCAR and Bass Fishing, and think that it is a ridiculous place to spend money from a brand relevance perspective. I can't say that I have a strong view that this approach will work, but we need to keep ourselves honest and look at the possibility that marketing to Middle America might actually pay off in building longer-term brand loyalty.
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With that, I've got to highlight Friday's import statistical release from OTEXA (the government office of textiles and apparel) which shows that apparel import prices into the US for the month of May posted a 0.9% year/year increase. That might not seem so bad, but given the preceding three months were down an average of -1.8% -- this unfavorable 270bp delta is not looking good for go-forward margins.
I'm not against cost increases - as long as the consumer is funding these costs. But unfortunately the CPI for apparel is down about 1.5%. This is spot on with levels have been year-to-date. So costs are going up, but revenues are not. What does all this add up to? Margin compression.
The chart below shows the consumer price less the consumer price (a positive value means that consumer prices are going up at a faster rate than cost inflation). Unfortunately, the trends in this spread are making lower highs and lower lows. I think we'll see that trend through 2009. That's a loooong time to wait.
More quantifiable analysis to come on this.
This still makes me very wary about GIL, WRC, GES, VFC and PVH. RL and LIZ are the way to go here given company-specific growth and ROIC levers that can weather the storm.
Interestingly, per the article (link below), almost 1/4 of the Catholic Church's offerings annually come from Americans.
The US Peso's decline is proving to have far reaching effects within the contruct of the many geopolitical factors contributing to economies and organizations.
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