Takeaway: UA helped the q by maybe $0.03. But little disclosure on the $1.70 in Credit -- that's breaking -- or on broken lease structure ($2.00).

I am so passionate about the HBI short that I mixed signals on McLean's KSS note by including HBI commentary. Now THAT's worthy of ribbing me this morning. 

2 main callouts from the 10-Q, both on the SG&A line...

Marketing Expense is now down $34mm YTD, that puts total marketing spend trending to down 4-5% YY with revenue trending to flat to down 1%.
Pulling back on marketing probably not the best idea to stem share loss -- especially when labor costs are going up. 

Credit was a $6mm headwind to SG&A this Q, $1mm worse than our estimate of $5mm.  This was the second time in three quarters that credit had a negative YY impact. The likelihood of continued declines in credit EBIT is high.

Here's why…

  • We continue to see delinquencies and charge-offs march higher YY at Capital One which we think is a reasonable proxy for the KSS portfolio. KSS has offset the rising costs in 2016 with higher fees, aided by an increase in its monthly late fee for card holders to federal maximum (which accounted for ALL of credit growth over 12 months). 
  • Looking at the commentary around credit this quarter KSS noted:
  • "Our credit business had lower profits as we waived fees for our customers impacted by hurricanes."
  • Waived fees should reflect forgone revenue, however KSS management also noted that portfolio revenue was positive YY in 3Q. Therefore costs (bad debt) are outgrowing and offsetting the revenue growth. With COF signaling delinquencies continuing to rise, we think the cost pressure continues to outpace revenue growth for KSS credit.
  • We're modeling a $7mm drop in credit income in 4Q17. We're conservatively modeling a $30mm+ ($0.11 EPS -- 3.5%) hit to credit next year -- again. If trends erode from what we see today, then $100mm ($0.35) is in play -- and that's 20% in EPS hit. Neither is in consensus estimates.

Credit Tail Outlook

  • The other info provided around credit on the conference call actually makes us even more bearish on credit long term.
  • The company noted that the customer count is still about 30mm, and card sales penetration still ~60%. The same it was 3 years ago.
  • That means credit revenue growth is not from growing the customer base (healthier), but either extending more credit to the same customers (somewhat unhealthy) and/or increasing fee revenue (very unhealthy).
  • If the credit portfolio/revenue is growing due to fee income, that is very bearish long term, since portfolio growth from fees late in the cycle is rapidly reversed when the cycle rolls and it becomes clear customers can’t pay their debts. Let's not forget that the customers that use KSS credit account for an ADDITIONAL $1.25 in sub-prime gross profit/EPS.

-- Jeremy McLean

KSS | Broken Credit -- 10Q Callouts -- REVISED, McGaffe - 2017 12 03  KSS