Below are analyst updates on our eleven current high-conviction long and short ideas. Please note we added Carnival (CCL), Target (TGT) and Tesla (TSLA) to the short side of Investing Ideas this week. We will send a separate email with Hedgeye CEO Keith McCullough's refreshed levels for each ticker.
IDEAS UPDATES
RRC
Click here to read our analyst's original report.
A key reason we were initially attracted to Range Resources (RRC) was the bombed out sentiment in the name: 22% short interest with less than 50% buy ratings from the sell-side. That’s a clear juxtaposition from the company’s industry leading Organic Recycle Ratios and Proved Developed F&D Costs.
We think the negative sentiment was well deserved due to the MRD acquisition, low in-basin prices, high leverage, growth at-any-cost, etc. But, we believe that the future looks better than the past.
Our contention is that with today’s current sentiment ostensibly priced into natural gas levered equities, RRC’s valuation implies that it would be punished more than peers in a lower gas price environment. RRC’s liquids exposure and industry leading full-cycle economics, however, suggest the opposite.
During our initial screen and subsequent due diligence, Range proved time and again that it had some of the highest quality rock in all of US E&P land. For a commodity producer, this should be a dominating factor in valuation - the lowest cost producer with the best economics should trade at premium multiples, see COG, CXO, FANG. We believe RRC’s rock and history of operational success are deserving of at least peer average multiples. The company has a long way to go to earn back investor confidence, but we’d argue that its operational history supports a premium valuation.
DFRG
Click here to read our analyst's original report.
We think Del Frisco's (DFRG) stock is intrinsically undervalued. Our sum-of-the-parts analysis suggests buying the stock today around $7 and you are essentially getting Del Frisco's Double Eagle for free! The Double Eagle is a highly prized asset in the restaurant space with strong margins and some growth potential. Our activist playbook focuses more on stronger capital allocation to concentrate on eliminating the massive economic risk inherent in the company’s financial. We think DFRG stock has the potential to double over the next 12-18 months.
SGRY
Click here to read our analyst's original report.
While we like the macro trend of inpatient surgeries moving to low-cost ambulatory surgical centers (ASCs), Surgery Partners (SGRY) is not the horse we want to bet on.
SGRY's ASC portfolio is low quality compared to peers USPI/THC and SCAI/UNH, and it does not have the balance sheet capacity to make the acquisitions necessary to improve payer and case mix. Meanwhile, we are several years from total joint procedures being a large enough percentage of total ASC case volume to have a meaningful fundamental impact, despite the favorable policy environment. From a valuation perspective, we question how much common equity value there is given SGRY's indebted capital structure and lack of free cash flow after minority interest obligations.
We see as much as 40% downside from current levels.
MCHP
Click here to read our analyst's original stock report.
When a publicly traded company completes an M&A deal using leverage, it is really, really, important to cue up the next deal already from the closing date of the existing deal. How? Setting up an easy path, or low bar, to successful de-leveraging by announcing a false starting point. Microchip Technology (MCHP) announced 4.7x leverage at the closing of MSCC, which turned out to overstate net debt and understate EBITDA.
AVLR
Click here to read our analyst's original report.
Avalara (AVLR) recently acquired a alcohol license compliance (+ excise tax) software provider. Is this the kind of purchase you would expect from a company that is supposedly revolutionizing sales tax automation? This has nothing to do with innovation for the core engine; Compli-Beverage will remain running on its own software and not integrated into AvaTax, and the functionality only tangentially touches on the core business. Why buy it? Filler. We guess that this is what you have to do when the brain of your IP is...multiplication.
SPLK
Click here to read our analyst's original report.
Here are the high-level thesis points on our Splunk (SPLK) short call...
SPLK is still priced on go-go growth but multiple recent tailwinds begin to fade on forward basis including shift to Term (i.e. taking price), data center / analytics capex explosion, effective sales reorg.
The company’s products are always benchmarked in big data as most expensive & most value; probably a good thing overall but in overcapitalized big data land, with tech innovation driving a wedge between low priced storage and flexible/elastic computation, Splunk stands out a bit more on the pricey side, and there are more recent wins/anecdotes by competitors that have caught our attention.
The CEO sees a path forward on functionality but it will involve ramping up the ‘M&A’ machine, already ~120bps of growth in F19 YTD; companies who pivot from go-go organic to M&A plus slowdown tend to transition from EV/S to EV/FCF and those transitions are rarely smooth; in this case SBC is an extenuating factor without which there really wouldn’t be any OCF
We see the company’s path forward but we think a digestion period would reset valuation 20-25% lower. We reiterate our SPLK Short here.
CGC
Click here to read our analyst's original report.
Is first the worst? Canada is the first G7 country to legalize the recreational use of cannabis. They are quickly becoming a testing ground for what works and what doesn’t from a cultivation, distribution and retail standpoint. 2019 will be the real test.
There may be a shortage today, but a massive oversupply is imminent once planned capacity comes online. Canopy Growth (CGC) alone will nearly have enough capacity to service the current size of the market, and once other players build out their capacity, we believe supply will be at least double the demand.
Price should be a huge concern. On one side, you have massive supply coming online that will push natural supply and demand dynamics bringing the price lower, while these business models need a certain amount of profit in order to operate. Cultivators and retailers in adult-use states in the U.S. are struggling due to a massive decline in price, what will happen to Canadian operators in two years?
DPZ
Click here to read our analyst's original report.
For Domino's Pizza (DPZ) to not be impacted by the health of its large franchisees is shocking, given internationally is where the company drives most of its unit growth. Both franchisees are struggling under the weight of aggressive unit growth which has led to significant cannibalization. It appears that the investment community broadly believes in the concept of a moat around DPZ, which we believe is a myth.
It’s nearly impossible for DPZ to separate itself from the unit-level economics of its franchisees. We believe, this reality is one or two earnings calls away from hitting home for DPZ.
CCL
Below is a note written by CEO Keith McCullough on why we added Carnival (CCL) to the short side of Investing Ideas earlier this week:
|
Another company (that we're bearish on) that's bounced from its recent lows on #decelerating volume, is Carnival Corp (CCL). Our veteran Gaming, Lodging & Keisure (GLL) analyst Todd Jordan recently hosted an Institutional Research conference call outlining both cyclical and secular head-winds to CCL's business. CCL "brands are struggling for a variety of reasons that we’ve discussed. But soft pricing is not the only headwind that could suppress valuation." Short the bounce, KM |
TGT
Below is a note written by CEO Keith McCullough on why we added Target (TGT) to the short side of Investing Ideas this week:
|
Updated view on Old Wall Retailers? A: Still Short. That includes both the ETF (XRT) and companies that Brian McGough remains The Bear on like Target (TGT) which has bounced on decelerating volume to lower-highs within a Bearish @Hedgeye TREND. Here's what Brian wrote recently about this sub-sector of names in his Institutional Research product (on me today!): “Holiday sales are flowing in on key retailers, several of which sit on our best ideas short list (KSS, TGT, M). Ultimately we are not surprised to see these stocks getting hit, especially after the post Christmas bounce. Our view heading into holiday results was that sales should generally look good. After all the consumer is at peak, companies are fully stocked with inventory, and data points were indicating that sales were solid heading into Christmas. However we expect margins to underperform relative to the sales performance with inventories building, more incremental $ coming from ecom vs B&M (see slide below), online free shipping battles, and high wage growth. Retailers have struggled to put up material(or any) EBIT growth while the consumer has accelerated to the best level seen in a decade. As we look at 2019 we think US GDP and the US consumer slow, while gross margin pressure increases, and wages still march higher. Street EPS numbers for KSS and TGT imply mid single digit growth as tax rate is no longer a help. We think the real result is more likely to be 10-20% declines in EPS.” Sell on green, KM |
TSLA
Below is a note written by CEO Keith McCullough on why we added Tesla (TSLA) to the short side of Investing Ideas earlier this week:
|
We generally don't like shorting Tesla (TSLA) into Elon's quarterly storytelling events… With that behind us and the stock making lower-highs within a Bearish @Hedgeye TREND (see our Risk Ranges product for a daily update on TSLA and the FAANGs), I'm reminded of Jay Van Sciver's Institutional Research: "Our recent deck on Tesla reviewed why the company would need to look abroad to maintain sales, and our data suggest that remains the case. We now have YoY S&X test drive activity data, and S&X test drive slots booked look to be down roughly 50% vs. January 2018." Sell on green, KM |
