Another Weekend, Another US Bank Fails...

First Priority Bank was shut down by the Feds this weekend. FDIC insured customers will have to go to Suntrust Bank of Atlanta now. This is #8 on the US Bank Failure list.

The latest victim of the US financial system crisis had $259 million in assets and 6 branch offices. When we held our “Bankruptcy Cycle” conference call in mid July, this was one of the main points. We are in the early innings of the cycle here, not the late ones (see chart below).

Keep your eyes on your money – cash is king.

Nat Gas: The Calm Before the Storm...

The National Hurricane Center reported that a tropical disturbance (a baby storm) is forming today in the Gulf of Mexico. Any indication that this could turn into a storm of significance will be felt when the electronic market for Natural Gas futures opens this evening.

We had our eye on Natural Gas last week. The spike in NG futures late in Friday’s session was clearly a short covering event for some hedge funds that had successfully ridden the -30% July decline into the new month (see charts 1-2). There has been a general sense of calm in the market (see chart 3) after EIA inventory stats that came in on Thursday without any major surprises (Chart 4) and the lack of any major storms in the gulf so far this season.

It is important to note that historically NG has risen between July and October due to normal seasonal demand.

Besides any potential storm disruptions, we remain focused on price action in NG’s sister commodities (NG’s recent decline relative to the price of oil could spur utilities that have the capacity to switch) and, in the long term, what a sharp decline in US industrial manufacturing will mean for electricity demand.

The EIA estimated electricity consumed by manufacturing in the US at 964,112 Gwh in 02 (the last year available), which would equal over 23% of the total electricity generated in the US last year (based on estimates by the Edison Institute). Metal, metal fabrication and automotive manufacturing rank among the major domestic power hogs and we think that structural changes in US electricity consumption spurred by diminished output in these sectors could lead to further widening of the price correlation between NG & oil. Of course all that is meaningless in the near term –particularly if we experience a hurricane force supply shock.

Andrew Barber
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US Market Performance: Week Ended 8/1/08...

Index Performance:

Week Ended August 1,2008:
Dow Jones (0.4%), SP500 +0.2%, Nasdaq +0.02%, Russell2000 +0.8%

2008 Year to Date:
Dow Jones (14.6%), SP500 (14.2%), Nasdaq (12.9%), Russell2000 (6.5%)

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Restaurant Anthology – Part 2

For more details regarding any of the following highlights, please refer to the relevant postings over the past two weeks, which are sorted by date on the portal.
  • Trends in Casual Dining:
  • According to a report by real estate research firm Reis, U.S. store closings and cutbacks turned the second quarter into the worst one for strip mall owners in 30 years. Strip malls saw average vacancies spike 0.5% to 8.2%, a level not seen since 1995. To date, we have not seen a corresponding reduction in capacity at casual dining restaurants – posted July 21. Helping to alleviate some of these capacity issues is Bennigan’s and Steak & Ale's recent filing for Chapter 7 bankruptcy protection, which resulted in the immediate closure of about 200 restaurants. Although all casual dining operators will benefit from this reduced capacity, Brinker’s Chili’s restaurants should be the biggest beneficiary as Bennigan’s was a direct competitor within the bar and grill segment and there is much overlap within their biggest markets – posted July 30.
  • Current NPD data suggest that despite the gloomy economic situation, casual dining posted a 1% increase in traffic this quarter. Customer deal traffic was up 6% while non-deal traffic was down slightly and discounting and combo meal visits accounted for half of casual dining growth this quarter supported by promotions from major chains and increased visits with kids. Additionally, the bar and grill category posted the largest gains this quarter – posted July 25.
  • Eye on operating leases – CMG, CAKE and PFCB will all face higher operating leases going forward. Their high unit growth strategies have likely pushed their respective management teams to compromise their real estate standards, leading to less favorable terms. For reference, as of their most recent 10-Ks, JBX, DRI and EAT are all subject to operating lease obligations that decline each year – posted July 24.
  • Commodity Highlights:
  • America’s Chicken Crisis - Two chicken processors reported, and for the first 9 months of fiscal 2008, Tyson’s chicken segment and Pilgrim’s Pride have collectively lost $263 million. This trend can’t continue. Pilgrim’s Pride has cut back on chicken production to increase prices, but reductions have not yet been enough to cover costs. Management said that chicken prices need to increase over 60% just for the company to breakeven, which means chicken prices are inevitably going higher. The company also said that it is taking steps to shorten the duration of its fixed price sales contracts, which will force restaurant operators to float more of their key commodity exposures – posted July 29.
  • BWLD has been a clear beneficiary of these lower chicken prices as it has seen a significant decline in chicken wing prices. The marketplace for chicken processors remains volatile, which is not good news for the restaurant industry – posted July 31.
  • Both Pilgrim’s Pride and Tyson’s said that consumers have not yet felt the effect of higher grain prices. Those comments combined with Kraft saying that its prices are moving to “unchartered territory” as it, too, is facing higher costs across the board means prices are moving higher in the grocery channel, which can only help restaurant operators – posted July 28 and 29.
  • Bloomberg reported that wheat from Australia, forecasted to be the world’s third largest wheat exporter this year (behind the U.S. and Canada) should return to the global market in 2008 after two years of drought, which should help to ease prices – posted July 29.
  • Risk remains for corn as corn plant roots are shallow due to flood conditions earlier in the year and are currently more vulnerable to dry weather conditions. This year's crop is pollinating later than normal which puts it in harm’s way for hotter/dryer August conditions. The lateness of the growth could potentially expose the roots to frost. The same situation holds true for soy – posted July 24.
Restaurant Base Exposure to Bennigan's Most Penetrated States—% of Respective U.S. Restaurants
BWLD's Quarterly Chicken Wing Prices

Restaurant Anthology – Part 1

For more details regarding any of the following highlights, please refer to the relevant postings over the past two weeks, which are sorted by date on the portal.
  • Earnings Highlights:
  • MCD – MCD’s commodity costs are going up at the same time its customers are trading down. These two trends will put further pressure on MCD’s U.S. margins. MCD now expects its FY08 U.S. beef costs to be up 8%-9% (from its prior expectation of flat YOY) and its Europe beef costs up 8%-9% (from prior guidance of up 3%-4%) – posted July 23.

    During 2Q, MCD’s U.S. same-store sales increased 3.4%, with 75% of the increase driven by traffic gains. MCD raised prices by 4% in the quarter, which implies that average check declined. The company is raising prices to help stabilize margins while advertising its dollar menu. So the trend is for customers to buy lower priced items and at the same time the company is raising prices – posted July 24.

    MCD’s Europe results remained strong in 2Q, but with Starbucks stating that it is seeing a slowdown in consumer spending in the U.K. and Bloomberg reporting that according to the Experian Group Ltd., British consumers made fewer visits to retail outlets in July, the third consecutive fall, as fears of an economic decline and rising energy and household bills deterred shoppers, I question how long MCD can buck the trend – posted August 1.
  • PNRA – PNRA is one of the most inflation sensitive business models in restaurants and the company is facing huge commodity headwinds in 2H08 and looking out to 2009, due primarily to higher wheat costs and gas prices. Management has set an internal goal to increase margins by 150-200 bps in 2009 off of 2007 levels despite these rising costs, which makes pricing a necessary component of this growth. PNRA has already raised prices three times since late 2007, is planning for another increase in September, and is testing a new pricing initiative for 2Q09. These price increases are concerning as it relates to their eventual impact on traffic trends (in the first 27 days of 3Q, transactions were running down 2.4% with retail pricing up 6%) – posted July 23.
  • PFCB – PFCB’s worse than expected 2Q same-store sales growth can be partly attributed to its focus on the dinner day part, which makes up 67% of revenues at the Bistro (NPD reported that traffic at the supper day part declined the most in the March-May 2008 time period), and its geographic exposure to Arizona, California, Florida and Nevada, which accounted for 84% of the Bistro’s total comparable sales decline. Despite weakening top-line results, the company is taking the right steps to manage the parts of the business it can control. Management has said it will not raise prices in the near-term as the risk to traffic is too great and it announced that it is significantly slowing new unit growth in FY09 – posted July 23.
  • DPZ – DPZ management said on its 2Q conference call that the same pressures that are impacting its business are hurting its smaller competitors in a bigger way. The NPD Group reported that the categories most dominated by independents experienced the most severe traffic declines in the March-May 2008 timeframe (small chains and independents accounted for 54% of pizza delivery dollar share in 2007, according to DPZ). If more independents are forced to close their doors as a result of their not having the scale necessary to deal with both lower consumer spending and higher commodity costs, the bigger chains, including DPZ, should emerge as winners – posted July 25.
  • SBUX – The bad news is that SBUX’s U.S. results remained weak (though not surprising) and the company is now experiencing challenges in its U.K. markets. The good news is that management further reduced both its U.S. and international new unit growth goals (now targeting negative 60 net new stores in FY09 in the U.S.) It was also encouraging to learn that the company is seeing incremental sales at the stores that are in proximity of the 50 stores that have already been closed. Additionally, management indicated that it is seeing an uptick in afternoon traffic as a result of its Vivanno and Sorbetto beverage launches – posted July 31.
  • GMCR - GMCR beat on the bottom line, but not the top. SG&A was down 610 bps in the quarter, which offset the 540 bp increase in COGS. The company can only cut SG&A so much to make up for lower gross margins which leads me to believe that by Q4 the signs of stress will be much more evident that they are today – posted July 31.
GMCR - Tick Tick....

Toyota (TM): How Do We Trade It From Here?

For those of you who have been following my strategy work since November's blog launch of MCM Macro, you're probably tired of my flashing the TM short call. We can get tired of things like this, as long as they keep working!

The thesis hasn't changed. The facts continue to play more and more into my hand and out of Toyota's. In their home market, Japanese economic trends have materially deteriorated in the past month - they look as bad as this TM chart. Domestically, I can argue forever and a day with the media and the sell side about why I don't care if and when TM overtakes GM as America's leading car salesman - why do I "have to own" a new car or either of these stocks anyway? Reality is that TM and GM are overspending to capture US consumer dollars that are being spent less and less on cars. In May GM was at 19% share and TM was at 18%. I don't buy shares of anything that's shrinking.

Europeans have one car basically per family. The Chinese have 1 child per family. The Japanese population of families is shrinking. What does all of this mean? I'll tell you what it doesn't mean - that Americans owning 2.2 vehicles per shrinking household of income isn't going to inspire a new car sales boom anytime soon, no matter how cool Toyota's used to be. Auto sales in the US are approximately 20% of the total retail sales number. The bulls eye on this line item in US Household spending budgets doesn’t say “yeah, but Toyota’s are different.”

If you're still with us on the TM short side, I'd cover some at $84.34, and re-short any strength back up to the $89-91 range. This one is macro, cyclical, and secular, all at once. I like 3's. Especially one's like these that come together like Toyota's short thesis.
(chart courtesy of

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