A few years ago Shuffle Master made a disastrous turn away from its pure lease model. The company began selling “lifetime licenses” for its shufflers and proprietary table games (PTGs) and converting existing leased product to one time sales. SHFL dominated these two segments and was foolish to sacrifice its pricing power. Unfortunately, it’s a long, painful journey back. Short term profits must be sacrificed for long-term recurring revenues, profits, and predictability. As can be seen in the chart, it appeared for awhile that SHFL was willing to make the sacrifice. YoY units sold declined for both shufflers and PTGs for 2 straight quarters last year. A bad inflection point occurred in the January 2008 quarter that carried into last quarter.

Some will make the replacement cycle argument that SHFL can obsolete its own products, thus forcing a more recurring revenue source. However, the health of the business is sometimes masked by quarterly unit sales that pull future earnings forward. I prefer the predictability and transparency of a pure lease model.

This stock will be interesting when the rate of change in shuffler and PTG units sold starts to decline again. This stock will be really interesting when units decline and SHFL meets and beats earnings expectations.

EWW (Mexican ETF): Staying Short...

When I think about the ramifications of a US consumer spending recession, I always think about Mexican GDP correlations. Revisiting my "Shorting Mexico" note from 6/18/08, the only thing that has changed in between then and now is that my outlook for unlevered future US growth has deteriorated.

Despite the short squeeze rally in global stock markets in July, the EWW (Mexican ETF) stands out as having underperformed. I have been using a stop loss of $54.78 for EWW, and that price was never realized in either of the two snap July rallies. This is an outright bearish negative divergence.

My near term target on the downside for the EWW is $51.65. Take a look at the long term chart attached, and tell me if you want to be long this call option if I am right on the economic cycle.

*Full Disclosure: I am short EWW in my fund.

  • EWW
chart courtesy of

TAGS: A Lesson In Key Customer Risk

Here’s a scary one. Tarrant Apparel Group, maker of private label apparel brands for department stores, was probably not happy with Mervyn’s Ch 11 filing. Mervyn’s is an 8% customer, and accounts for about $20mm in revenue. Not good when you consider that allowance for doubtful accounts was only $453k last year. Let’s say this business is lost at a 25-30% incremental margin, then that equates to about 2-3 points in margin. TAGS, unfortunately, has margins of only 0.9%, 94% debt to equity, and the majority of its debt due over the next 2 years. On one hand, I think that it is no wonder the market cap has nearly evaporated. On the flip side, there has been little meaningful change since Mervyn’s troubles became apparent. I’m no expert on this name, but I thought it worth pointing out.
Yes, Mervyn's exposure has been coming down. But it's still significant, and allowance for doubtful accounts has not budged.

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Trichet's Chart: European Inflation Fighting

Euro zone inflation for the month of July surprised me to the upside this morning, coming in higher than July than June by 10 basis points at +4.1% year over year growth.

The chart that we put together below underscores the mapping of Trichet’s decision making process (raising nominal rates in line with reported inflation). Bernanke has chosen to roll the dice, and let inflation run away from the Fed funds rate, by a significant margin.

Inflation needs to be fought. Central bankers around the world are gaining credibility by the day by doing so. The US government should realize that it is global this time, and do the same.


No doubt the weak US dollar has contributed to an influx of international visitors to Las Vegas this year. “The US is on sale” is a phrase I’ve heard countless times. Jim Murren, President of MGM MIRAGE, recently said that 30% of Bellagio’s customers are now international. Those international customers are likely providing well over 30% of revenues to the property. Foreign visitation is great for the Las Vegas model over the long term for a variety of reasons. The problem is that domestic weakness has been masked somewhat by the effects of the weak dollar. By my calculations, Strip revenues were inflated by 5% in 2008 from the weak dollar. What happens if the dollar strengthens and the consumer remains soft? This is a very plausible scenario if the Fed gets serious about attacking inflation and is one more reason to be cautious on Las Vegas.

Weak dollar drives international visitation

All That Glitters Is Not Gold

Goody’s Chapter 11 filing was the first of several large apparel retail chain casualties. That’s not news. What is news, however, is that the company tried to auction off 65 retail leases and its home-office lease. This represents 19% of its store base. The problem is that the of the 66 leases, there were bids for only 3. Yes, you heard that right – three.

What’s the conclusion? There is virtually zero optionality on many operating leases – for more companies than Goody’s. Their respective values are simply under water – or just so inflexible given anchor tenant status such that hurdles are too high to attract bidders. In other words, the properties need to be ‘marked to market’, instead of ‘marked to model’. Unfortunately, this is not done proactively by most CFOs, it is done in a bankruptcy court.

This is a great example as to why I look at more than debt levels in evaluating bankruptcy candidates. The key is to pinpoint REAL debt (capitalizing operating leases) and adjusting for the duration and/or flexibility of those leases. This is a key theme I discussed on our 7/16 bankruptcy conference call, and continue to think will be front and center for a while.

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