Below are updates on our eighteen current high-conviction long and short ideas. We will send a separate email with Hedgeye CEO Keith McCullough's refreshed levels for each ticker.
KR & sfm
SFM & KR grocery spends stabilizing at “elevated.”
In the 8th week of our consumer survey, the share of respondents that said their grocery spending was the same as the prior week reached a new peak of 43%. Also, the number saying they are spending less reached a new low as seen in the following chart. Together this would point to a stabilization of grocery spend since the stockpiling in mid-March (at an elevated level as seen in the final chart).
Local grocery stores have also seen a stabilization of trend during April, as seen in the following chart from Womply (a CRM provider).
The sales data is adjusted to include only the local grocery stores still reporting transactions as many are closed.
We remain long Kroger (KR) and Sprouts Farmers Market (SFM)
GO
This week Grocery Outlet (GO) reported Q1 EPS of $.36 vs. the consensus estimate of $.30 and $.15 last year. SSS increased 17.4% (previously reported), accelerating from the +5% range in the previous three quarters. Gross margins expanded 30bps due to reduced markdowns due to faster inventory turnover. EBITDA margins expanded 100bps. SSS QTD is tracking up mid-teens despite traffic declines. In a typical environment, traffic declines concern us, but consumers have reduced shopping visits everywhere during the quarantine and consolidated trips. The company noted that operating expenses are higher for additional cleaning, costs for protective equipment, overtime, and premium pay during the current environment, similar to other food retailers.
Management said the inventory situation is very healthy as the strong comp sales in mid-March led to warehouses re-stocking the stores right before the end of the quarter. The company has developed many new relationships with non-traditional suppliers that serviced restaurants, food service, department stores, airports, etc. that have seen demand drop from COVID-19. The question often asked is, how long can this favorable (for GO) situation last. The grocery inventory from the immediate demand drop is generally past its use dates now, but demand has not improved dramatically for the previous customers of Grocery Outlet’s new suppliers. This is not to say the question isn’t the right one as supply disruptions generally benefit closeout buyers. Off-price clothing retailers TJ Maxx and Ross Stores benefited from the demand drop in clothing retailers after the last recession. They were able to find ever-increasing amounts of inventory over the following decade because the manufacturers still needed to find a retailer. Over time they even “trained” customers to reduce their spending on full-price apparel. The situation in grocery could have several similarities to the off-price apparel retailers.
TDOC
This past week, our team interviewed a gastrointerologist at a large group practice in St. Petersburg, FL. While the primary goal was to check in on patient volume trends, the plans for re-opening, and the outlook for the future, we also garnered key insights on his practice’s experience with telemedicine before and during the COVID-19 pandemic.
As many of you know, our view for a post-COVID recovery in medical care is reasonably negative. While there has been a "re-opening" and a recovery from zero, getting back to pre-COVID levels is out of reach in 2020. The toughest hurdle is not physically re-opening the office and the social distancing limits on capacity but overcoming patient fears. To combat this and maintain patient communication, his office will see half of the volume in person and half via telemedicine.
For Teladoc (TDOC), the forced adoption and increasing comfort with telemedicine among all types of practitioners is a developing headwind as the new opportunity creates a more competitive environment for the largest provider of telemedicine services. We remain Long Teladoc in the Hedgeye Health Care Position Monitor.
CHWY
As Covid-19 broke out and US consumer businesses were forced to close their doors there was an obvious opportunity for online retail. Demand has shifted to the online channel with the closure of brick and mortar driving accelerated online sales. Common sense, we know.
Perhaps there is a less obvious dynamic playing out within the retail channels, which is the change in the cost of customer or transaction acquisition. One of the biggest challenges to profitability in online has been the high customer acquisition costs, but over the last week or so earnings reports have outlined the drop in advertising market costs which several digital retailers have cited (such as PTON, W and PRPL).
Yet at the same time online sellers have talked about cutting advertising given that demand is shifting online regardless of the degree of spend on customer acquisition. The punchline is not only is the online channel seeing unprecedented demand, but it comes at unparalleled profit flow through for many. On the flip side, we think the opposite is happening for brick and mortar retail, the cost of customer or transaction acquisition is climbing.
There could be a lasting change on consumer shopping behavior which means reversion to the prior observed incremental profit levels never really happens (eCommerce settles at a higher profitability level, B&M at lower level).
Key winners in this environment are online retailers that own their customer, Chewy (CHWY) is a company we would definitely put in that category.
MAR & HLT
Click here to read our analyst's original report for Marriott.
Marriott (MAR) made the critical, and intellectually honest, point on a conference call that jives with our longstanding view that while conversions may offer an offset, they are not going to be enough to offset the delays in construction, the cancellation of deals, or the systemwide attrition, all of which impact annual net unit growth.
In fact, looking at MAR and Hilton (HLT) in the last downturn, for the years 2010-2013, conversions were not even enough of a driver to offset systemwide attrition and deletion – yes, on average for those years, the net impact of conversions vs systemwide attrition was -50bps annually. Hardly a panacea of growth, and when considering the following chart, we’re even less optimistic that conversions will be able to really offset a significant amount of growth for the C-Corps that play at the higher end of the market.
CMI
Click here to read our analyst's original report.
Cummins (CMI) earnings ‘beat’ was partly a function of reduced warranty and compensation accruals and a lower than expected tax rate. Collectively, these added >~$0.30 to the quarter’s EPS by our estimate. The lagged effect of closures and some supply chain stocking likely accounts for the rest. With customers closed, 2Q20 guidance was not a management talking point. Given that truckload data is likely to sag in April alongside production shut-ins, the downcycle for CMI is far from over. Recent commodity price declines are likely to add to the difficulties associated with weak truck orders.
MDLA
Medallia (MDLA) was once a pioneer in the voice-of-customer software industry but MDLA’s high professional services touch, complete enterprise back-end integration, and long time to value / long sales cycle, caused the company to fall behind as the market moved to pure software approaches, easy to use, low dollar, fast time to value, with consequently wider adoption.
MDLA's pivot to fast time-to-value modules was necessary. But Medallia’s key differentiating factor has been interconnectivity w/ a customer’s ops & systems, without which, we wonder what kind of differentiation the new quickstart solutions offer relative to other survey tools.
MDLA remains a Hedgeye Technology Best Idea Short.
ATUS
Click here to read our analyst's original report.
Altice (ATUS) has underperformed the broader market since reporting weaker than expected results last week. Pay-TV subscriber trends continue to deteriorate, weighing on overall revenue per residential customer which only grew 0.2% YoY despite a 5% price increase across their base in February. Meanwhile, the company continues to plow all free cash flow into buying back the company’s stock while underinvesting in the core business.
The company repurchased $1B of stock in 1Q20, leaving $700M left under their authorization. Also weighing on shares, was news that top 10 shareholder CPPIB completely sold their position in ATUS in the last week. We continue to view ATUS as a melting ice cube/financial engineering story that will limit the companies future growth prospects (cutting back on fiber deployment). We continue to favor Charter Communications (CHTR) as a better pure-play on cable as the stronger operator over ATUS.
DFS
Discover's (DFS) card portfolio, despite record low household leverage amid a historically favorable labor environment, had already been deteriorating going into the Covid cliff.
As we have highlighted in our past work, we observed this downward credit trend to be a result of greater late-cycle subprime exposure brought on by adverse selection and masked by an inflationary FICO score phenomenon, starkly contrasting the company's behavior in the last downturn when it was shedding risk steadily in the years leading up to the crisis.
SYF
Synchrony Financial's (SYF) purchase volumes have fallen precipitously. Purchase volume growth tumbled from +14% Y/Y in the first half of March to -26% Y/Y in the second half of March. Moreover, when asked on the conference call for an update on April, management indicated that purchase volumes had deteriorated further in April and are now running at levels of -30% to -35%.
Also interesting from the slide below is the itemization of the Restaurant, Entertainment, Gas and Travel categories. Together, those four categories accounted for 27% of 2019 retail card consumer world sales for Synchrony. We also find it puzzling why the company chose to break out sales growth for January relative to February/March, which clearly understates the impact of Covid-19.
We think Synchrony remains behind the curve in terms of its provisioning and expect further catch-ups will be necessary in Q2 and likely beyond.
MCD
Click here to read our analyst's original report.
McDonald's (MCD) has about 1,450 restaurants across the UK and Ireland and employs more than 135,000 people, but only operated 15 restaurants for delivery only (UBER EATS) during the COVID-19 quaratine.
Orders are capped at a maximum of $31 as McDonald’s adjusts to fewer employees and social distancing regulations in its kitchens. The next phase of its reopening plan includes opening a modest 30 restaurants in a pilot test in the UK and Ireland, offering service only through the Drive-Thru. Reopening is not easy, and the process will be slow to get back to max capacity. MCD also announced it was spending an additional $200 million to support franchisees.
Arcos Dorados (ARCO), MCD’s largest independent franchisee in the system (4-5% of system sales), announced it will be breaching its debt covenants in 2Q20. Arcos Dorados has received a deferral of royalties for the months of March through June until 2021 despite having modest leverage before the pandemic as seen in the following chart. The pressures on MCD’s financial conditions have continued to grow since the time of the 1Q20 earnings call on April 30.
ITW
Illinois Tool Works (ITW) looks to be at risk of a sizeable 2020 reset on consensus estimates, with very optimistic justifications focusing on bailout (‘cash for clunkers again’) and other stimulus measures. Conglomerates tend to look as though diversification reduces cyclicality, but the current COVID-19 driven downturn is likely to prove unusually challenging for the majority of ITW’s end-markets. We see 30% relative downside in shares of ITW, a name that every few years gets re-rated as a mediocre, discounted conglomerate.
ITW estimates for 2Q2020 should *run rate* about $4 per share, and that is assuming they can hit the sort of decremental margins discussed on the call. The shares may have bounced on flat YoY China comments, or maybe that the company plans to emerge stronger or whatever, but we doubt the street is ready to see the 2Q20 revenue declines that impact higher margin segments.
We remain firm on the short thesis.
SYY
As the largest food distributor to restaurants and food service companies Sysco (SYY) is eager to see on-premise dining open up. As of Saturday May 9, on average almost 30% of the restaurants operated by companies that participate in the Black Box Restaurants Recovery Sales Flash survey opened their dining rooms in some capacity.
Over the last week, the difference between comp sales for full-service restaurants that have dining rooms open in some capacity and overall comp sales for full-service restaurants has ranged between 8% and 15%.
Last week, dine-in sales represented an average of 11% of total limited-service sales and 13% of total sales in full-service restaurants. Before the pandemic full-service, dine-in sales averaged 86% to 88% of sales. Comp sales for the industry were -45% during the week ending May 3, a 2.5% improvement over the prior week. The early results suggest a slow recovery as even the reduced capacity of the dining areas are under-utilized. Consensus sales and EPS estimates for Sysco’s are too high based on this pace of recovery.
GOLF
Click here to read our analyst's original report.
Temporary Coverage Restriction Notice – Acushnet Company (GOLF)
From time to time, during the ordinary course of conducting our investing research, circumstances or events outside our control can cause us to temporarily restrict or halt our research coverage of a specific security. It’s inconvenient for Hedgeye analysts and our subscribers.
But we believe it is the appropriate and ethical way to conduct business.
Please be advised that Coverage of Acushnet Company (Ticker: GOLF) has been temporary halted at this time. We hope to resume coverage soon. Unfortunately, we cannot comment further and are unaware of exactly when we will be able to resume coverage.
BYD
If we apply the state by state reopening cadence + assume that casinos will only be included in either Phase 3 or later, it might not be until the end of Q2’20 before Boyd Gaming's (BYD) properties are fully open. Important to also note that these reopening forecasts assume that there are no setbacks during the phases (i.e. case count accelerations or spikes in positive Covid-19 test rates).
Unfortunately, the outlook for the Strip is pretty dire given the shutdown, layoffs, customer demographics, and reliance on travel. Las Vegas is one of the most travel oriented economies in the US and the travel environment will likely take a long time to recover. While all US casinos will face severe social distancing restrictions upon re-opening that will likely soften demand, the Las Vegas metro area will be under more economic pressure than most US jurisdictions. We see a recovery period of over 3 years for the Locals market to get back to 2019 levels of revenue. The setup is indeed bleak for BYD’s LV Locals business (29% of 2019 property EBITDAR).
We are firm on the short thesis.
BABA
Alibaba (BABA) releases FQ4 2020 earnings next Friday, May 22nd around 7am ET, followed by a conference call at 7:30am ET
Consensus estimates have dropped by 2-3% since BABA's FQ3 earnings call. We think it's enough for FQ4 2020, as we're in-line with consensus on revenues and EBITA. A better March partially offset a disastrous February. Billions (RMB) of govt vouchers have certainly helped e-commerce sales recently.
However, we still believe BABA is lagging its main peers, given its exposure to international supply disruptions stemming from COVID-19, market share losses to PDD, JD and other competitors, and overexposure to the lagging apparel category. In addition, BABA is most exposed among the Big 3 on any further tariffs or other punitive measures from President Trump.
