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From the beginning, the RRGB advertising strategy has had severe limitations.


Advertising is a drug and RRGB is a clear case in point of that fact.  Without advertising and LTOs, RRGB would not be able to increase its customer counts.  (See chart below)  Now that they have gone down that road they can’t go back.  Well I guess they can, but they are not going to. 


The significant increase in traffic when using LTOs has trained the consumer to only come back when they have a coupon and rendered the margins of the concept too high.


There is no reason to get in front of this story or buy the dip.  In fact, it looks to be a “fade the strength” candidate (just like BWLD).


If you want to read management story telling about how this is all good news continue reading….






 Very pleased with the sales in the first seven weeks of the first quarter
 Opened three new company restaurants
 Two new franchise restaurants were opened
 Expecting 2010 investment per restaurant to be $1.9m vs $2.5m per restaurant three years ago


 Impact from weather was approximately 140 bps
 Average weekly sales for comparable units were $55,896 vs 58,079 in 1Q09
 AWS for non comp units were $56,560 vs $55,245 in 1Q09
 Guest satisfaction scores remain high
 New “certified designated trainers” program in all restaurants
 Increasing motivation
 Improving guest experience
 14 restaurant openings  all received with high volumes


Spring time LTO began in February with Chophouse Burger and Southwest Grilled Chicken salad at $5.99 each
 Supported by national cable TV over a 5 week period
 1Q10 guest counts were down 6.8% in first 7 weeks of quarter vs 7.3% in same period ‘09
 During the next 7 weeks, includes 4 weeks of TV, guest counts improved to +5.8% (12.6% delta)
 Last 3 weeks of quarter guest counts still up 4.6%
 During first 7 weeks of quarter, SSS were down 7.8%, next 6 weeks saw SSS of +2% (9.8% delta)
 Last 3 weeks of the quarter SSS were up 2%
 The LTO and TV initiatives generated enough returns to more than break even (even allowing for $1.2m funded on behalf of franchisees.
Other marketing
 Brand awareness increased in the quarter
 Summer LTO promotion kicks off June 14th with two new items
Gift cards
 Gift card sales were up 54% or $1.5m vs prior
Focusing on new product development
 New menus in restaurants by May 24th
 Adding a dozen new items
 Patty melt, tested well in spring
 New burger,  New pastas
 Lower priced appetizers
 No price increases in this new menu
Very excited about upcoming summer LTO promotion and other new initiatives for the balance of the year


Restaurant sales increased 0.3%
 Comparable restaurant sales decreased 2.3%
 106 US comp restaurants reported a 2.1% decrease
 SSS results for US and Canadian systems showed significant improvement
1Q ROP was 18.2% vs 19.4% 2009
 Decrease was from increased labor cost (130 bps) and higher occupancy cost
 Occupancy cost was due to deleveraging from lower volume
 Decreased productivity hurt labor
 Offset by food line 20 bps benefit
 Hamburger pricing ran below '09 levels
Late in the quarter, beef prices increased
Adjusted outlook for beef to deflation of 0.5% to 1% (from prior guidance of deflation of 2% to 2.5%)
Lower price point from LTO had a 50 bps negative impact on COGS
Produce hurt COGS by 25 bps
Decreased supply due to weather
Continuing impact into 2Q


Other miscellaneous items
Spring LTO campaign cost 6.6m and was funded by company including a $1.2 million or $0.06 EPS paid by company to fund a franchisee portion of the spring media investment
Preopening costs stayed level on a per unit basis year-over-year
CFFO was $23.9, exceeded Capex of $9.2m
Recorded other revenue from gift card breakage from the first time
Recognized if there is no legal obligation to remit cost of gift card to holder of unredeemed gift card that has a low chance of being redeemed
Breakage of gift cards expected to be 200k to 250k per quarter
Balance Sheet
$30.9m in cash
Debt balance of $170.2m
$113.3m borrowed under $150 term loan
Paid down debt $21.2m in 1Q and continuing to make repayments in 2Q
In compliance with all debt covenants.  Debt to EBITDA is just below 2:1, as of April 18th, 2010.


Effective tax rate in 2010 expected to be 17%
Taking into account results from 1Q and trends for media campaigns and weather
Expecting deflation but changing outlook to -0.5% to flat
Some G&A savings
Gift card breakage was not included in guidance given in February
188k of pretax income is $0.01 in EPS
Revenues of 872-880m
$1.10 to $1.33 in EPS for 2010
Flat to up 1% SSS for 2010
1% SSS =~$0.21 EPS
$18.1m for TV vs 2.3m for TV in 2009
Expect  $3.3m in Q2, expect $3.4m in Q3, and $2.3m in Q4
Capex will be approx 35m to 40m
Funded out of cash flow
Debt payments of $18.7 million are scheduled on term loan, funded out of FCF less capex
Left over FCF will be used to pay down revolver


Q: The guidance of $1.10 to $1.30 includes the $0.19 benefit?
A: Yes.


Q: You started the LTOs in mid September, is that the explanation for labor delevering?
A: Labor was under pressure generally compared to our expectation. Weather didn’t help.  It’s a productivity issue.  It’s a combination of staffing up also. Fixed components of labor line also being delivered.


Q: Commodity costs, you’re modeling beef up year-over-year now?
A: Yes. Took it from deflation of 2% or 2.5% to -0.5% to -1%.


Q: Impact of advertising on comps…is it as natural as Jan and Feb being hit by weather, was that part of it?
A: We did see some weather impact that we saw in February but we also saw an impact in early March.  That was the difference for the remainder of the quarter. 


Q: First 4 weeks number…did you have any store closures? Days of operation lost?
A: No, only one store closing at the end of month and there were no other closures.  Even in Nashville we stayed open when others haven’t.


Q: Did your original guidance of $1.27 to $1.45 guidance assume any gift card breakage benefit?
A: No.


Q: In terms of the bounceback promotion, what kind of benefit did you see in terms of holding onto that traffic?
A: It hasn't been materially impactful.


Q: Participation rate? Low 10%?
A: It’s 5% or 5.5%, we didn't start it until after the promo was ended and the product was off promo.


Q: Salads are 8% of sales, and salad is an LTO, what are you thinking about salad mix going forward?
A: Driving value beyond burgers. It has helped awareness but not impacted mix.


Q: Did TV drive a lot of new customers?
A: Seen a little of both. Some new customers and some frequency but don’t have most up to date information – 6 month lag on credit card data.


Q: On revenue guidance, in the first quarter you saw sequential improvement in sales, also taking into account the weather impact and the TV program continuing, I’m surprised that you’re taking such a haircut in revenue guidance for the full year.
A: take down of SSS was weather (40 bps) and 2% reduction of SSS. Really it’s based on the pattern of the lift during media and the post media lack of retention.
When we think about the projection, we’ve had no national LTO promotion until this one. Tested regionally in 10 markets.   The effects of more difficult markets like California were not in those test promotions and those markets continue to post difficulties relative to other markets. 


Q: What kind of mix on the LTO items?
A: Very similar to in the fall. 10% overall.  More of a 40% chicken sandwich, 60% burger and it was similar this time too with 40% salad and 60% burger.


Q:  Is the post advertising period (the three weeks after) making you suppress expectations?
A: It was not quite as robust as what we were modeling originally.  Projecting that into the summer and fall.


Q: Average weekly sales numbers or gross sales before discounts, is that before couponing?
A: that’s the discount we give for team member meals or birthday burgers.  It has been running at 3% for a long time.


Q: Restaurant margins, with the LTO products, you could have done worse on food…why were food costs better year-over-year?
A: Deflation we expected and pressure from produce and promo (50 bps negatively) and benefit from hamburger and other costs. 


Q: It looks like you have a slight decrease in your ad budget this year, overall and in TV. Could you explain how it’s changed from the first quarter? Are you going for less impressions or gatting better pricing?
A: 15.6 company and between 16 and 17 million. Not a significant difference between the two.


Q: Can you still hit breakeven for SSS? On the media spending?
A: 1Q when compared with pre-media trend, and the lift we saw from media, was more than enough to pay for $6.6m invested in Q1. Confident on media mix going forward. 


Q: Was the mix for $7.99 the same as the $5.99 offers? Was it low and is that why you went back to $6.99?
A: The patty melt was introduced at $7.99 as a normal product…will go back to normal pricing with new menu next week.


Q: Sales guidance…we’re down 2% plus and 1% plus quarter to date…easier comparisons going forward. Going to spend on advertising? What am I missing?

A: Q4 comps will be more difficult. We go over that in Q4 this year. California and Arizona are still challenging markets and those are big markets. 


Q: That shows up in the 1Q and QTD numbers.

A: We used 4Q numbers to model original guidance…


Q: What’s your assumption for beef from here?

A: Probably year over year for Q2 to Q4 we’ll see somewhere around a 7% increase above 2009.


Q: $5.99 items advertised externally only…are you having your core guests use that price point?
A: Tough to tell, there is no way to accurately track.


Q: You discussed the align and engage program, was there incremental year-over-year G&A or restaurant operating cost and if so how should we model that for the rest of the year?
A: It won’t be material.


Q: When are you planning on rolling out royalty program?
A: Still monitoring it in test stores.


Q: Non comping units…on the units that opened in 1H09, what are you seeing there?
A: Not quite as strong…averaged 110k a week


Q: Lower guidance for the year…other than the lower comp and food costs, is there anything else causing you to lower?
A: No those are the two major buckets


Q: Retention of guests after lto, what were your expectations?
A: Not going to get that granular but the October lto testing was higher than what we’re seeing in 2010.  Seeing difficulty in CA and NV.



Howard Penney

Managing Director


The Shark Tank: SP500 Levels, Refreshed

The 200-day Moving Monkeys took a good, hard, and long look into the depths of The Shark Tank this morning. Both the pre and post opening bell trading saw some of the most reactive monkeys in this market get eaten. We like monkeys; we just don’t want to trade like them.


This isn’t to say that this market is without risk. It’s to remind ourselves that proactively predictable risks get priced in. From the April Flower peak of 1217 (April 23rd) to this morning’s freak-out May Shower low, we have witnessed a correction of -13%. For you stock market almanac fans, a -13% drop in 20 days of SP500 trading happens very infrequently!


Now I have never been a big fan of the sell side giving me a risk management life-line. Managing risk doesn’t happen in the vacuum that they and the media perpetuate. It changes as prices do. The quantitative levels I give you are born out of a multi-factor model that changes dynamically as market prices do.  Its math, not alchemy.


The thick green line in the chart below is the line you should be laser-like focused on. That’s the long term TAIL line of support for the SP500 at 1070. And we need more price, volume, and volatility data than a 1.5 hour feeding by Squeezy The Shark to validate it.


I’m going to give this 3-days. If the long term TAIL line of support can hold, the SP500 has no resistance up to the 1125 line. That would be a 5% squeeze that performance chasers and monkeys alike cannot afford to miss.


Take your time here and be patient. The big down moves are behind us, for now…



Keith R. McCullough
Chief Executive Officer


The Shark Tank: SP500 Levels, Refreshed - S P


The Macau Metro Monitor, May 21st, 2010


The SAR government is going to increase investment budget for public investment and development projects by more than MOP3.4 billion this year.  In order to fulfill Chief Executive Fernando Chui Sai's various policies and measures introduced in his 2010 Policy Address, the government would need to raise public expenditures by a total of MOP 8.45 billion. As a result, Secretary for Economy and Finance Francis Tam Pak Yuen attended the plenary meeting at the Legislative Assembly yesterday to present the bill to amend the Fiscal Year 2010 Budget.


Stronger than expected gaming revenues and therefore higher tax collections should easily fund the budget increases. Secretary Tam said “since the impact of the global financial crisis is fading away and the pace of the local economic recovery is being accelerated, the gaming tax revenues reported a more satisfactory increase than expectations over the past few months, and thus it is predicted that this year’s overall tax revenue will exceed the original forecast."



In a market that has been booming, MGM's performance has been uninspiring.  Its April numbers were sub-par, with gross gaming revenue of just HK$915 million giving the property only 6.6% market share.

MGM  is in discussions with banks about refinancing its debt and preparing for an IPO on the Hong Kong stock exchange later this year. The goal is to raise US$850 million through a club loan and raise at least US$500 million through their IPO.


IM thinks that MGM needs a better story to pitch investors aside from just a name change in order to execute on their plan. One story could be that it has been resisting demand from junkets to open more VIP rooms at the existing property due to probity issues and capacity constraints, but is now ready to make this business take off once it has raised the necessary financing to build out the necessary facilities.

Another is that the company is about to acquire a prime piece of land in Cotai on which it will build a property that will go head-to-head with the Venetian, City of Dreams and Galaxy.  Although the land in question is supposedly has a smallish plot out at the back, behind Lot 7&8, which isn't exactly enough to get investors excited. Surely there must be something better that Pansy could get her hands on?


SJM STILL RULES, OK? Intelligence Macau

IM editors still like SJM given their amazing 1Q2010 results and 50% discounted valuation compared to its US peers. Despite having lower margins, the third party business is still a significant contributor to the bottom line at HK$270MM in 1Q2010 alone.  Also Who would have thought that Grand Lisboa would be able to earn the same as Sands Macao or City of Dreams despite having to give an outrageous 57.5% revenue-share deal with its biggest VIP room operator.


As expected, Sands China has closed a US$1.75 billion project financing at HIBOR plus 4.5%, which will be used to complete construction on parcels 5 and 6.  Adelson expects the first phase of the development to feature approximately 3,700 hotel rooms and additional retail, gaming and meeting/convention facilities, to open in the third quarter of 2011.  Phase two includes a 2,300-room Sheraton hotel tower, as well as other non-gaming amenities, and is expected to open approximately six months later.  Timing for the completion of a third phase, which includes plans for a St. Regis hotel and serviced-apartments, will be announced at a later date.


GAMING PAYS macaubusiness.com

People working in Macau’s gaming sector had a median monthly employment earnings of MOP13,000 during the first quarter of 2010. That figure is 44% higher than the general monthly employment earnings in Macau, which stood at MOP9,000.


You can’t just slap a 14x multiple on managed and franchised fees.



Continuing our review of the valuation of HOT, we focus this post on valuing the Fee business and once again use JPM as a proxy for “consensus”.  At first glance, the “consensus” multiple of 14x times 2010 depressed Fees may look reasonable.  However, there are a few problems with this simple valuation of Starwood’s fee business.

  1. 2010 Fee estimates include about $80MM of amortization of deferred gains which are non-cash and have ZERO value.  They are remnants of the Host sale and will go away.  Take a look at Starwood’s cash flow statement; “amortization of deferred gains” are plain as day deductions on HOT’s cash flow statement.  That means zero cash.
  2. JPM’s Fee estimates also include roughly $40MM of termination fees and other one-time items.  While termination fees are certainly part of the fee business, by definition they are not “recurring.” Once someone terminates a contract you get the cash – that’s it.  We would value these fees as cash, perhaps even put a little multiple on them, but no one would pay 14x for them.
  3. JPM’s Fee number also includes $15-20MM of “miscellaneous other revenues” that used to be lumped in with Bliss before HOT sold that business.  As a reminder, Bliss revenues for Sept 09 TTM were $85MM - all included in “fee revenues” - which under the JPM method would have been valued at 14x.  Bliss Sept 09 TTM EBITDA was only $5.3MM, so the associated $80MM of expenses were captured in HOT’s SG&A, which gets a 50% reduction and a 12x multiple according to JPM… does that make sense to you?  Anyway, we don’t know exactly what's in the $15-20MM of other fee revenues line, but we’d bet that it’s low margin and doesn’t deserve more than 8x multiple.
  4. Another "small" issue with the above methodology is reducing total SG&A by 50% and classifying that reduced amount as "unallocated".  We know that roughly 75% or so of our estimated $325MM (ie $240MM) of SG&A in 2010 is related to the managed & franchised business.  Another $15MM or so is related to overhead of running the owned business.  The balance of roughly $70MM represents corporate overheard and unallocated expenses.  So again, I'm not sure how the 50% reduction makes sense, but this brings us to issue #4 relating specifically to the fee valuation – this isn’t a start up; EBITDA, not revenue, should be valued with multiples.  We don’t value Marriott or Choice by slapping a multiple on their revenue, so why would we value Starwood’s fee business this way? Management/ Franchise businesses have roughly 65-70% margins.  We would actually apply a higher multiple on the management and franchise base fee EBITDA since it's still depressed in 2010 and the highest quality piece of HOT’s fee business.  On a “revenue” basis, base fees are approximately 60% of HOT’s fee business.
  5. Incentive Fees – Sorry but this highly volatile revenue stream deserves a lower multiple than base fees since, as this cycle and every other cycle has illustrated, they are highly cyclical and cyclicals trade at lower multiples.

So where do we shake out on the value of HOT’s Fee business versus JPM and consensus.  With the all-encompassing 14x multiple, JPM values the Fee business at $9.7BN or $52/share versus our valuation of the fee business at $5.2BN or $28/share - only a $24 difference.  To make things a little more "apples to apples,"  we can apply all of JPM's Unallocated SG&A which they value at 12x as a reduction to the fee business valuation, and come up with a net value of HOT's fees at $7.8 billion, which still represents an $18 differential in value per share compared to where we shake out. 


“The U.S. remains the proverbial elephant in the bathtub”

-John Williams


With S&P now down 11.9% from the peak on April 23rd on the fears of European financial instability, we are shifting our focus to when will the market shift and begin discount the fears of U.S. financial instability. The United States is not immune or separated from the current global crisis; Timmy Geither would be better served focusing on his own job rather than cheering Europe’s “capacity to manage through this”. Geithner said, “we just want to see them follow through”. In the interwoven web of global debt, there are many creditors hoping that their debtors follow through. China is indeed watching.


Yesterday, the S&P 500 index closed right around its worst levels for the day and postedthe biggest one-day decline for 2010. Once again, our “Sovereign Debt Dichotomy” theme is having a growing impact on the trajectory of the global economic recovery. On top of that, the issue is being exasperated by Germany's recent unilateral move to ban naked shorts on certain German banks, Eurozone government bonds and related CDS. Policy-related issues in China and the riots in Thailand also continued to weigh on sentiment.


At home, the economic calendar was a net negative, especially for consumer related names. Our Financials team has been harping on claims for a while now, pointing to the fact that they have been essentially flat for the last five months. Yesterday, they were actually up quite a bit. Initial claims unexpectedly rose 25,000 to 471,000 last week, the highest level in a month. The four-week moving average increased to 454,000 from 451,000. The reality is that without significant improvement in claims, a leading indicator, there will be little improvement in unemployment.


Leading indicators also disappointed, falling 0.1% month-to-month in April with negative contributions from six out of the ten components. The decline marked the end of a 12-month winning streak for leading indicators. The Philadelphia Fed Index rose for a fourth straight month in May, though the headline reading was only slightly better than consensus.


In early trading, the euro bounced big time from our intermediate term line of support of $1.21 and has now moved right to our target of $1.25. The euro is trading up versus all major currencies with the exception of the Swiss Franc. The Hedgeye Risk Management models have the following levels for the EURO – Buy Trade (1.21) and Sell Trade (1.25). Despite this brief reprieve for the euro, the issues in Europe continued to be a drag on sentiment.


Over the short-term, elements of "flight to safety" in the U.S. dollar will help to contain short-term U.S. inflation.  We do, however, suspect that the U.S.'s day of reckoning is coming. The Hedgeye Risk Management models have the following levels for the USD – Buy Trade (85.62) and Sell Trade (89.97).


Currently, equity futures are trading below fair value as markets can’t escape the “Sovereign Debt Dichotomy”. As we look at today’s set up the range for the S&P 500, is 34 points or 0.1% (1,070) downside and 6.0% (1,136) upside. For the first time since early 2009, the Hedgeye Risk management models have moved to 0/9 sectors on TRADE and 0/9 sectors positive on TREND.


Commodities fell to an eight-month low. The CRB Index dropped 1% to 250.07. Intraday, the index was at 247.49, the lowest level since Sept. 8. Energy and precious metals led the decline. The Hedgeye Risk Management models have the following levels for GOLD – Buy Trade (1,182) and Sell Trade (1,255).


Crude oil was poised for a third weekly decline as European leaders struggled to contain the region’s debt crisis and reports cast doubts on the strength of the economic recovery in the U.S. The Hedgeye Risk Management models have the following levels for OIL – Buy Trade (69.01) and Sell Trade (74.16).


Copper is headed for a sixth consecutive weekly loss as investors remains concerned that Europe’s debt crisis will spread and hurt a global economic recovery. The Hedgeye Risk Management Quant models have the following levels for COPPER – Buy Trade (2.85) and Sell Trade (3.09).


In credit markets, the TED spread has widened further to 0.37 and LIBOR has ticked up to 0.49 from 0.48 yesterday. The inverse correlation between the TED spread and the euro tightened further to -0.96.


Howard Penney

Managing Director













Fiat Flashes

“They must often change who would be constant in happiness or wisdom.”



As prices and circumstances change; we do. We’ve learned this risk management lesson from many of this world’s great strategists. Unfortunately, most of them don’t have an opportunity to lead us out of this mess. Most of them are dead.


Fortunately, crises of government sponsored groupthink give birth to tremendous change. From the fall of the Roman Empire to the falling of the proverbial Berlin Wall of Wall Street conflicts of interest, opportunities come and go. Sell high and buy low. That’s my kind of capitalism.


I started this business during the crash of 2008 because I believed in one thing – doing my own work. Some of Connecticut’s finest hedgies called me names. Some of Nebraska’s hardest working said thank you. All the while, I took the good with the bad and kept doing that one thing…


In May of 2008, there were 4 of us here in New Haven, CT. Today there are almost 40. In May of 2008, Lloyd Blankfein said the crisis was in the late innings. Today, some of those who said the same about the sovereign debt crisis before the May Showers of 2010 wish they hadn’t too.


Today is a new day in modern finance. No matter where you were positioned yesterday, here you are. Today, there are new rules. Everything you say and do will be You Tubed and Twittered. Everything in finance is moving toward where most industries have already gone. In principle, transparency is winning. Opacity is losing.


Just like me, the professional forecasters on Wall Street and in Washington are storytellers. Barring any intra-game moving of the goal posts by Fiat Fools, our stories are all marked-to-market every day. Real-time accountability in all that we tell stories about is a tremendous progress born out of this crisis of leadership.


In the month of May, we have seen plenty of Fiat Flashes. These flashes of market selloffs were proactively predictable and we aren’t done with them yet. That said, every market has a time and a price. Our task as risk managers is to use the groupthinkers as our backboard to play against. The good news is that there are many more of them than there are us.


I covered our short position in the SP500 yesterday, then went long the SPY intraday. In doing so, I took our allocation to US Equities in the Hedgeye Asset Allocation Model up from zero percent to 3%. I am not levered up long. I still hold a 55% position in cash.


The freak-outs and Fiat Flashes that you’ll see this morning in pre-open futures trading is for reactive monkeys who weren’t proactively prepared for yesterday’s selloff. Some of them literally call risk management a 200-day moving average. Now that that their branch is broken, the 200-Day Moving Monkeys are flailing. Throw them a banana, buy some stocks, and cover some shorts. You’ll find happiness that way.


Yesterday, my inbox started heating up mid-afternoon. I had a lot of questions about price, volume, and volatility. As is usually the case, there aren’t a lot of moves to make after the fact, so I went and got a haircut.


This morning was nice, because I don’t have to use hair product anymore. I have revealed some change in the volume of greys relative to the story that my Canadian hockey hair was hiding. Changing my hair color and market positioning this morning is good. After all, a great strategist once said we “must often change” if we’d like to strive to “be in constant happiness.”


My long term TAIL line (3 years or less in duration) for the SP500 remains 1070. While the plan is always that the plan is going to change, for the next 3-days of market trading I’ll be doing a lot of waiting and watching for that line to hold. There is now a full 6% of immediate term upside in the SP500 to 1136, despite the market’s intermediate term TREND line of 1144 remaining broken.


For now, the largest of the Fiat Flashes in both upside to volatility (VIX) and downside in the market (SPY) appears to be behind us.


Have a great weekend and best of luck out there today,



Keith R. McCullough
Chief Executive Officer


Fiat Flashes - 1

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