THE MACRO MIXER - When LEADING is LAGGING or just meaningless

Things could be worse than they appear but it’s not a leading anything.


Today the Conference Board's Leading Economic Index declined by 0.2 and has now declined for two of the last three months.  Upon further review, things could actually be worse that they appear.  The movements of the sub-components of the index were very mixed, with four of the components declining, five rising and one flat.


The rising components during June (in order of positive contribution):


(1)    The yield curve

(2)    Building permits

(3)    Index of consumer expectations

(4)    Manufacturers’ new orders (consumer goods and materials)


At this point in the economic cycle, the yield curve is somewhat meaningless.  The yield curve has been sending a strong growth signal continuously since 2008, but there is no expansion in credit and low mortgage rates are not stimulating home sales.  A favorable yield curve is not providing the kind of stimulus that has occurred historically at similar interest rate levels.


The rising consumer expectations number is in sharp contrast to the Conference Board’s June 29th report on consumer confidence, which showed a sharp drop in confidence.  How can the same organization show consumer confidence rising and falling the same month?

In addition, a good part of the index is subject to changes and given the recent softness in the MACRO data, we are not likely to see upward revisions.  The press release from the conference board states, “the resulting indexes are therefore constructed using real and estimated data, and will be revised as the unavailable data during the time of publication become available.”

Today’s surging S&P is on the back of strong earnings from a number of companies.  At the time of writing, 40 of the 52 companies due to report today have reported (the others are reporting post-market) and only 2 missed in the earnings line and 10 missed on the revenue line.   For now, the negative news on jobs, housing and the supposed leading indicator are taking a back seat.


Howard Penney

Managing Director


THE MACRO MIXER - When LEADING is LAGGING or just meaningless - 1


Fiscal 3Q10 was a great quarter and after listening to the earnings call, I was left thinking that everything seems to be working well.  Starbucks continues to have sales momentum, is investing in the right areas of the business and most importantly, has the financial flexibility to continue to do so.   However, as I said yesterday, expectations have caught up with the company. 


I have been confident in Starbucks’ ability to continue to yield better results in fiscal 2010, but I never expected the level of same-store sales growth achieved year-to-date in the U.S., particularly the 9% growth in 3Q10.  To that end, I have underestimated the company, but expectations will remain high as the company’s FY11 same-store sales guidance of low-to-mid single digit growth assumes a fairly steady improvement in two-year trends.  For reference, +1% same-store sales growth in the U.S. in FY11 would imply a 350 bp improvement in two-year average trends from FY10 (assuming 6.5% growth for FY10).


I think same-store sales and margin growth will continue to materialize in FY11 but the rate of growth will slow and the company’s ability to continue to surprise to the upside from both top-line and bottom-line perspectives will likely diminish.  That being said, I think the stock still makes sense on a long-term basis as the company stands to benefit from continued leverage of its existing store base, international growth, its increased investment in marketing and its pursuit of additional platforms of growth (largely VIA and Seattle’s Best Coffee). 


Given current expectations and the stock’s recent performance, getting the right entry point matters most.  Below I provided Keith McCullough’s long-term buy TAIL and sell TRADE levels.




Relative to our restaurant sigma charts that look at same-store sales and restaurant-level margin growth, Starbucks is likely to remain in the “Nirvana” quadrant in fiscal 4Q10 with both positive same-store sales and YOY restaurant-level margin growth.  Management guided to mid single-digit comp growth in both the fourth quarter and for the full year.  A +5% number implies a 50 bp sequential improvement in two-year average trends.  For FY11, I am modeling positive same-store sales and restaurant level margin growth; though the company may dip out of “Nirvana” from quarter-to-quarter as a function of difficult comparisons.




Starbucks Read-Through:


We know now that Starbucks had a strong quarter, particularly from a top-line perspective in the U.S.  I do not think these strong results, however, should be interpreted to mean that we will see similarly strong demand for the remainder of the restaurant companies left to report calendar 2Q10 results.  To recall, we already know that casual dining trends on average, as reported by Malcolm Knapp, slowed about 50 bps in 2Q10 on a two-year average basis from the prior quarter.



Howard Penney

Managing Director

No Pain, No Gain

Position: Long British Pound (FXB); Short US Dollar (UUP)


We’ve been vocal about the longer term benefit for economies that turn to austerity measures NOW to rein in bloated deficits. In making this call we’re by no means blind to the reality that over the intermediate term (1-3 years), austerity in forms such as higher consumption and income taxes, wage freezes, and job cuts (via trimming government positions and halting public works projects) should depress growth levels. This is the new reality!


Europe has already shown leadership in belt tightening, with the government of UK Prime Minister David Cameron holding the spotlight as lead horse. We believe the gains in both the British Pound versus the USD and the stabilization of the EUR versus the USD are the market’s bullish near-term reaction to Europe’s fiscal management.  While Europe’s sovereign debt issues are far from rear-view, the next question on our plate is the US’s response to its own debt and deficit imbalances, which we’ll be addressing in our next monthly theme call.


For now, we’re analyzing the fundamental macro data as it comes in and comparing movements in the market to the political and economic policy throughout the global economies we follow.  One notable data point released today was UK retail sales, which rose +0.7% month-over-month in June, and is showing an improving positive trend over the last three months. While we accredit this to the World Cup and promotional deals, the retail sales curve nevertheless looks very different in the US over the last three months (see chart below), a point worth highlighting.


Certainly, understanding the macro forces that influence economies is never an exact science. However, what stands out is that over the last months the jobless picture and consumer and presidential confidence have deteriorated in the US.   Conversely, across the pond in the UK a marginal level of optimism has paralleled the change in political leadership in May and the fiscal tightening measures announced since. We’re by no means bulled up on UK equities (or we’d have a position) and are cautious about economic fundamentals in the back half of 2H10. What’s clear, however, is that the current divergence between US and UK economic policy is flashing a clear signal to us from a currency standpoint, namely the divergence between a strengthening Pound and deteriorating USD.


We stand behind our short call on the USD via the etf UUP and long call on the British Pound (FXB), which we initiated in our virtual portfolio on 6/7/10 and 7/12/10, respectively. 


Matthew Hedrick



No Pain, No Gain - a1


No Pain, No Gain - a2

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Not much to dislike for now. Here are our notes from the recently ended conference call.



“Starwood’s global footprint and strong brands drove the Company’s second quarter revenues and earnings above expectations. Average daily rates are back into positive territory as occupancy levels continue their steady ascent towards pre-crisis levels... While global lodging demand is solid, the economic outlook around the world remains unpredictable. We will continue to plan for a range of potential scenarios, but each entails a focus on driving top-line growth with strong discipline in our cost base. We remain cautiously confident in our near-term outlook and are bullish over the long-term given our growth prospects.”

- Frits van Paasschen, CEO



  • Longer term, they are bullish about getting more than their fair share of growth in emerging markets
  • Rebound in business travel is the story behind their growth - which makes up 75% of their revenues
  • Total group business on the books is actually not down. Business travel back to 2008 levels
  • Rebound in business travel will help in their corporate rate negotiations
  • Accruals for incentive comp have gone up due to better than expected results
  • So far, they haven't seen any slowdown from the global turmoil, but they wouldn't really see it until the fall anyway
  • 52% of their hotels are located outside the US. 85% of their pipeline will open outside the US
  • 2/3 of their hotels are either new or newly renovated (over the last 5 years)
  • They would consider splitting off a REIT but only under the right circumstances
  • Today, they are seeing an increased interest in lodging assets despite money being on the sidelines for now
  • 55% of owned EBITDA was generated outside the US. 2500 rooms are leased. 18,000 are wholly owned.
  • 18,000 rooms that are 100% owned:
    • 60% of those rooms don't need much capex
    • 2,500 rooms need renovations subject to sale
    • Transaction with partner hotels- big boxes that need renovations or repositionings - about 15% of their rooms
  • 3,000 rooms in unconsolidated JV hotels
  • Cash from timeshare expect to generate north of $500MM over the next few years from this business
  • Think that they can offset 50% of cost inflation and so far, they have not had to increase headcount despite the large increase in occupancy
  • SPG members account for 40% of their websites
  • Luxury brand RevPAR is up 15% YTD
  • Investor Day at the St. Regis NY on Dec 8th
  • Asia continued its sharp recovery - China led the charge with RevPAR up over 40%. Comparisons get tougher in 2H- so the rate of growth will slow down.  Accounts for 60% of their 80k room pipeline,
  • North America - RevPAR accelerated from 12.6% in April to 14.6% in June. NY, Chicago and Toronto were their strongest RevPAR cities.
  • Group room nights were up 16%, rate down 3%.  Transient rates were up 5%.
  • June owned hotel RevPAR grew 27%, with rates up 9%.
  • In the year, net room production is running at 3x 2009 levels.  Reducing less attractive leisure channels to manage yields.
  • YoY RevPAR growth will be lower in 2H given the more difficult comps
  • In Europe - London, Paris, Frankfurt and Vienna had strong occupancies- in the 90's in June. Trajectory of the recovery in Europe is slower than in the US.  Weak Euro will help them (volume wise) in 3Q, but timing of Ramandan will hurt ME travel demand.
  • Middle East - 3Q - Ramandan will impact August results
  • Latin America will lap H1N1 swine flu next quarter
  • Returning to peak margins is their #1 goal.  Expect margin improvement to continue into the back half.
  • SG&A growth had a funky comp, as in 2Q09, as they were reducing accruals for incentive comp
  • Vacation ownership business can best be described as sluggish.  With consumer confidence declining, they don't see any improvement in the back half.
  • Are aware and sensitive to some leading indicators turning negative.  However, at this point, there is no sign of a slowdown in their business.
  • Leverage ratio is now below 4x.  They are working on a securitization deal which should happen in 3Q.  Expect net debt of $2.5BN by year end.



  • Asia Pacific - 18% of their fee-based business, but a larger % of their pipeline (over 50%).
    • Right now RevPAR in Asia is approaching pre-crisis levels
    • Appreciation in the Yuan would help them
  • Their flat headcount commentary was referring to headcount at the corporate level.  At the property level, they continue to try to improve operating efficiencies and by doing so, they expect that they can keep expense growth to 50% of inflation. Productivity in NA hotels is up 7%.
  • Are seeing the impact of the Sheraton revitalization program. The Sheraton RevPAR is outperforming its peer group by 300 bps.
  • Selling hotels in 2010?
    • If the price is right and the agreement is right, they will consider it
    • If they get the point of considering a bigger transaction, they would consider a REIT spinoff vs. selling to an individual buyer
  • Looking for high single digit increases for corporate negotiated rates
  • Booking windows?
    • Corporate transient is always short and hasn't really changed
    • Sense is that group business is shorter given the pent up demand. Sense is that once they get to the back half of 2010 and 2011, that the pent up and catch up demand piece will go away and that the overall booking window here will return to a more normalized level.
  • Uses of FCF?
    • Past behavior should be a good indicator on what they would do... special dividend/ buybacks/ brand acquisitions.
  • How long can they keep selling timeshare without developing more?
    • A few years...


Operators’ hiring expectations are almost at pre-recession levels.


According to the People Report Workforce Index, 42% of respondents to a survey of restaurant operators said they expect to add hourly workers in the third quarter while a mere 5% plan to cut labor.  None of the respondents plan to fire managers while almost 50% plan to hire at the management level.  According to an article published by National Restaurant News, approximately 50 restaurant companies from quick service, fast casual, casual dining, and fine dining, responded to the survey.  From the results of the survey, it seems that quick service and fast casual are poised to do more of the hiring.  Hiring accelerated in the first half of 2010 with restaurants hiring 64,000 employees during the period.


Despite the slew of negative economic data emerging of late and the reported slowdown in casual dining trends as reported by Malcolm Knapp, reflected in the recent downturn in stock prices, it seems that restaurant operators are seeing a need for larger labor forces in their restaurants. This could be a leading indicator for an uptick in demand.  The possible pitfall of this thesis is that the People Report Workforce Index could be at “peak” levels, given business’ tendency to sometimes “hire at the top and fire at the bottom”.


RESTAURANT EMPLOYMENT - labor index restuarnts


Howard Penney

Managing Director


Solid Q2 and guidance


"While the economic recovery remains unpredictable, Penn National expects to continue to benefit from our focus on operations and margins, the substantial cash flow from our diversified operating base, modest maintenance cap-ex requirements and robust development pipeline. We remain confident in our ability to deploy our capital to generate significant value for our shareholders by continuing to execute on our long-term strategy of expanding and diversifying our facility portfolio through yield focused investments in existing facilities, the development of greenfield projects and, when available, accretive acquisitions. We believe this approach has served Penn National and its shareholders well and we intend to adhere to these financial and risk management strategies while remaining opportunistic in the current environment."

- Peter M. Carlino, Chairman and Chief Executive Officer of Penn National Gaming




  • Business isn't wonderful but it is stable with some bright spots (mostly on the development side).
  • Impact of table games in PA?
    • Have 40 table games and 12 poker games. Have seen some lift on slot play, but it's very early. Other competitors just opened on Sunday.
    • Charlestown has been a ramp up, as employees get licensed. Operating 60 table games and 14 poker tables.  Have seen a lift in slot volume and an increase in Asian play from the DC market.
  • Impact of Buell Park and Maryland Jockey Club on EBITDA guidance
    • Maryland track has a highly profitable 2Q with Preakness and then, they lose money for the other quarters of the year. For both quarters, they will have $3.5MM of total losses from this track in 2H2010.  2011 will have the benefit of Preakness.
  • Stock buyback?
    • Purchased stock because they thought it was cheap and even more accretive than a potential acquisition.
    • How about a 10b5-1 program? No, they like the discretion of being able to buy back stock.
  • $398MM of cash, $1.518MM of bank debt; $2.1BN of total debt; $60MM Capex in Q2, $23MM of which is project Capex; 2010 capex of $431MM, $92MM of which will be maintenance.  Assumed that license fees for Ohio will get paid this year instead of next ($100MM).
  • Ohio - VLTs at racetracks?
    • Don't have a sense of timing on the declaratory judgment that the governor requested.
    • Whatever the governor does will end up in the courts.
  • Any opinions on the proposed gaming rules in Ohio?
    • It's all preliminary at this point, so there's no point to speculate on them now.
  • Christie's proposed changes for AC... any opinion?
    • Thinks that there will still be a lot more pressure on AC given all the new supply coming to the NE in the near term.  So while the proposal is positive, AC still has too much hair on it for them.
    • Still years away from gauging when AC will even out.
  • Kentucky - opinion?
    • Just moved to instant racing machines, so it will be interesting on whether this will turn into a push for full slots... may just push it back since they just couldn't get there on legalizing full slots.
    • Rules and regulations are just being formed - no games yet.
  • Vegas?
    • Not aware that Rio is for sale. There is no active process that involves them..
    • Looking at Green Valley ranch, but are realistic that they won't get there on valuation or that they may not trade and just remain with the existing debt holders.
  • Margins implied for back half guidance?
    • Implied downtick - single biggest factor is negative factor from race tracks and then Perryville ramp when they open.
  • Spend per customer? Any change in trends?
    • No, still sluggish.
  • Aurora margins were very low - business was moved from Joliet last year plus one time payment to city and $330k of severance.
  • Racetrack (MD and OH) EBITDA could be break even next year.
  • Arena District land book value is now $10m - no time frame yet on disposal.
  • Pre-opening expense reflected in corporate, Penn National, and Charles Town.
  • Q2 cap interest was $1.7m, $2.1m expected in both Q3 and Q4.
  • Referendum will be held on whether to allow slots at the Cordish mall - PENN doesn't think it will pass.
  • $25m buyout of 10% Ohio minority interest was a negotiated price.
  • No major impact on Gulf casinos.
  • No public polls on Anne Arundel but a lot of support for slots at Laurel Park versus the Mall.
  • PENN opting not to open temporary casino in Ohio - great sites, so no need for temporary casino--don't want to pay pre-opening twice.
  • No change in spend per visitor in July from Q2.
  • Promotional activity - most of it is at St. Louis and southern MS (has been ongoing). PENN reduced it at most of its properties in Q2.
  • Gaming capacity in OH - reduced number of slots expected at opening, was just fine tuning.
  • Ohio budgets - no cost increases associated with remediation.

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