- 1) 70% of sales come from Famous Footwear – a moderate footwear chain with about 1,100 stores throughout the US. There’s nothing wrong with these stores, but I’m concerned that BWS has been underinvesting in store-level capex, and is now incrementally channeling its capital towards accelerated store openings. These stores are in more expensive locations with higher rent hurdles.
- 2) Competitive risk: there is an 87% store overlap between Payless Stores and Famous Footwear. At the same time where BWS arguably underinvested in its stores, Payless did the opposite. This puts Famous in a tough position regardless of the operating environment throughout ‘09.
- 3) The industry risk here is tremendous. BWS is at the apex of the massive margin squeeze I expect to see beginning in 1Q09. With 97% of its product made in China (both direct and indirect), and with brand exposure that is squarely ‘caught in the middle’, this company will be a price taker.
- 4) The wholesale portfolio accounts for about 40% of cash flow. Yes, there are some good brands like Via Spiga, and maybe even Naturalizer. But I’d argue that half of the portfolio does not even need to exist. (brands include Franco Sarto, Via Spiga, Etienne Aigner, Nickels, Private Label, Carlos, Naturalizer, Life Stride, Dr. Scholl's, plus Children's portfolio).
- 5) BWS looks relatively healthy from a balance sheet perspective with a 21% debt to total capital ratio. But including the impact of operating leases, it is about 61% based on my math. In addition, as I outlined in our bankruptcy call last week, we also need to look at the flexibility of the operating leases – which is often the key factor in retail bankruptcies. BWS’s trend is not good. The flexibility ratio has been declining, and particularly took a leg down last year as BWS reaccelerated its growth strategy. Translation = it is getting into more expensive properties with higher lease minimums just as the industry is heading into a major margin crimp.
- With EBIT margins at about 4%, this name might seem down and out, but the reality is that it has margins that in the same ballpark as others in the industry, and it has a materially weaker portfolio. I could make a case where margins head to zero – or worse.
- The bottom line -- Barron’s might have this ‘Trade’ right into 2H08, but if that materializes, then this could be one heck of a short for 2009.
CBOT December corn closed at 628.5 ($6.285 per bushel) on Friday, down -20.24% from the all time high close of 788 on June 26, while November Soybeans closed at 1,448 ($14.48 per bushel) down 11.22% from the all time high close of 1631 on July 3, 2008.
CBOT September wheat closed at 804 ($8.04 per bushel) on Friday, down 36.69% from the year’s high close of 1270 on March 12 (40.42% below the all time high intra-day on Feb 27th). Remember that wheat soared in February and March on increased export tariffs imposed in the Ukraine, Russia and Argentina as well as draught in Australia.
Things can change very quickly in this market. We have been very lucky with weather for this corn crop in recent months, but the crop is less mature than it would typically be at this time of year. In recent week estimates placed only 13% of total corn crop pollinating vs. a seasonal average of 50% . If we had any additional bad weather the impact on this crop could be profound, driving total corn yield down by more than the 10% decline estimated by the USDA.
Additionally, the strikes in Argentina took many farmers off their land to work the picket lines and roadblocks, and the threat of heavy export tariffs did not encourage production during the planting cycle. Put bluntly, a lower yield caused by less ideal weather, lower stocks at harvest in Argentina resulting from the strike – or a combination of both, could return pricing pressure into these markets. Proceed with caution.
For the last month, we've been talking about the breakdown in the Brazilian Bovespa as a leading indicator for inflation. After this week's stiff -7.4% correction in the CRB Commodities Index, this positive correlation proved powerful once again. Brazilian stocks sniffed this correction in inflation readings out well in advance of the crowd.
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I have zero interest in arguing about ethanol science or having a political debate over lifting trade sanctions against Cuba. What I am interested in is what any thaw in U.S./Cuban relations might mean for global sugar production and how that would impact the markets, which for the past year, have been driven by the sprint between surging Brazilian supply and demand.
It's important to remember that Cuba, today an importer of refined sugar, was the world largest exporter and third largest producer as recently as 20 years ago. Back then, total production on the island averaged as much as 7 million metric tons a year as opposed to this year's official (and probably overstated) 1.5 million. Decades with no reinvestment in infrastructure following the collapse of the Soviet Union have left the island's farms and refineries in shambles.
Since assuming power, Raul Castro has been slowly implementing small economic and social reforms leading many to conclude that he may be more open minded towards overtures from the U.S. than his older brother was. Meanwhile, Barack Obama openly indicated his willingness to consider steps towards normalizing relations with Cuba in recent years (although he has been much more tight lipped on the subject since assuming the role of candidate). Obama's real chance at victory in November, coupled with a new flexibility among Cuba's leaders make the end of nearly 50 years of trade sanctions seem like a possibility for the first time.
Regardless of whether Conason is right about the impact of sugar on global oil dependency, the re-emergence of Cuban Sugar exports to the U.S. would certainly recast the entire world market for Sugar.
Week Ended 7/18/08:
Dow Jones +3.6%, SP500 +1.7%, Nasdaq +2.00%, Russell2000 +2.7%
2008 Year To Date:
Dow Jones (13.3%), SP500 (14.1%), Nasdaq (13.9%), Russell2000 (9.5%)
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