• run with the bulls

    get your first month

    of hedgeye free



We’ve gotten comfortable with the higher R&D. Here we’d like to address the incremental $40m in capital investment.



Unlike the R&D which is expensed as incurred, WMS will capitalize the $40 million in incremental Capex.  Investors are not freaking out about that as much as the $10 million R&D ramp which is strange as both expenditures are investments with real ROI.  Oh well, we thought we’d address the additional spend here:



The $40MM of incremental investment

It’s actually 3 buckets:

  • Italy (1/3)
    • Concessionaire is in the US right now as we speak finalizing the details of their contract with WMS, with initial placements expected in December
    • Since Italy will be lease market, initial December placements won’t have much impact in the quarter but will ramp through the year.
  • Leased games (1/3)
    • Operators want to lease more games from WMS rather than buy all of them 
    • As they extend their efforts in Class II, they’re willing to commit capital to that 
    • Don’t have any specific deals in mind, but there are many operators that prefer to lease right now rather than commit capital to purchases
    • For example, Harrah's preference at the moment is to lease vs. purchase.  While their budget for game purchases is almost zero, they did make a huge increase in their capital budget for leasing games this year.
    • Florida is another market where the preference is to lease vs. own, since leases are tax deductible. 
    • WMS can always recycle leased boxes for use in their participation install base should they roll off in a short period of time.
  • Growing and refreshing their participation base (1/3)
    • WMS's entire participation base is on the Bluebird 1 ("BB1") platform, which was first released in December 2003
    • As those games age and need refreshing, WMS will replace them with fresh content on the Bluebird 2 cabinet, transitioning the base to their new platform over the next few years.
    • The reason that they have continued to put out their participation content on BB1 is because BB1 has been a cheaper platform for them and customers don't care since the content was so unique. 
    • So for example, even the new Lord of the Rings, which was created to run on a BB1 or a BB2 platform, is initially being released on repurposed BB1 cabinets that are only 2-3 years old


Headlines on the soaring price of wheat abound this week, but prices across the board are trending higher.


Back in November 2009, I wrote a post titled “RESTAURANTS – CHART OF THE WEEK”, detailing the risk to forward earnings for the restaurant space by rising food prices.  Looking at an updated version of the same chart I posted that day, the CRB Foodstuffs Index, it is clear that the risk is still very much alive. 


The CRB Foodstuffs Index is made up of the following: butter, cocoa, corn, hogs, lard, soybean oil, steers, sugar, and wheat.  


The index reflects spot prices and not the highly volatile prices for future delivery.  As you can see below, the index is only 15% below the peak reached in July 2008.


The prospect of food inflation and how the industry/individual companies deal with it (do they raise prices or not) will separate the have and have not’s.  To be sure, inflation pressures and the potential impact on margins in 2011 will be a hot topic in the 3Q10 earnings season. 


IT’S NOT JUST WHEAT - foodstuffs


Howard Penney

Managing Director


As we look at today’s set up for the S&P 500, the range is 19 points or 1% (1,115) downside and 0.7% (1,134) upside.













Bad To Worse

“I toil beneath the curse,

But, not knowing the universe,

I fear to slide from bad to worse.”

-Alfred, Lord Tennyson


Keith was off managing domestic risk last night taking his wife out for their anniversary dinner, so I’ve been handed the pen for the Early Look this morning.  Later today our firm will be having our annual picnic at our colleague Todd Jordan’s lake house in rural Connecticut.  It has just been over two years ago since we welcomed our first client, and the growth trajectory since has been meteoric.   On behalf of all of my teammates I’d like to thank all of our clients that have helped make this possible.  It has been a pleasure working with every one of you.


We now have close to forty employees.  We have three offices around the globe, with plans to open our fourth this fall.  And with the pending launch of Energy Sector Head Lou Gagliardi in September, we will have seven senior sector heads who cover close to 50% of the SP500.  Following our firm meeting yesterday, I can tell you this, we are just getting started.


So, as I was contemplating our firm’s growth yesterday at the Hedgeye Happy Hour following the firm meeting, I was also mulling over the future economic growth of the United States.  While I’m not in the double dip camp, I do “fear to slide from bad to worse”.  As Lord Tennyson would say.  (Incidentally, Tennyson is the second most quoted person in the English language after Shakespeare.)


Earlier this week, Keith and I presented to our clients on the topic of U.S. Sovereign Debt.  Debt and deficit issues in the United States are not exactly non-consensus as they are widely discussed and contemplated.  In fact, in the spirit of “watch what they do and not what they say”, we had the second Obama administration economic official resign today in Christina Romer, the chair of the Council of Economic Advisors.  This of course comes on the back of the July departure of Peter “The Paparazzi” Orzag, who ran the Office of Management and Budget.  Watch what they do and not what they say . . .


Undoubtedly, both Orzag and Romer have come to the same realization as us, which is that U.S. economic growth is poised to slow in coming years.  In our presentation on Tuesday, we narrowed this projection down to one key variable in our multi factor, chaos theory based model.  This factor is sovereign debt.  So if you are staffed with managing the budget or the economy in a slow growth environment, you better either wave the white flag and go back to teaching at Berkeley (Romer), or prepare your stomach for the new reality of Bad To Worse.


While many of you have read Reinhart and Rogoff’s book, “This Time is Different”, which studies the long term implications of large sovereign debt balances,  the professors also wrote a fascinating paper earlier this year, “Growth in a Time of Debt.”  This paper looks at over 210 years of data relating to sovereign debt balances and future economic growth.  The key conclusion is that as debt-as-percentage-of-GDP crosses the Rubicon of 90%, future growth slows.  And in dramatic fashion.


According to their paper, from 1790 to 2009, for 20 of the most modern economies, as debt exceeded 90% of GDP, average annual economic growth was 1.7%.  This was compared to economic growth of 3.7% at less than 30% of debt to GDP, economic growth of 3.0% with debt to GDP from 30% to 60%, and economic growth of 3.4% with debt to GDP of 60% to 90%.  In effect, as debt as a percentage of GDP passes the Rubicon of 90%, growth falls below the average by more than three standard deviations.  As the quants will tell you, that is statistically significant!


Being the industrious young analysts that we are, we actually applied this thesis to Japan.  In the attached chart of the day, we outline this point graphically. In the last three decades in Japan as we see a step up in debt, we see a corresponding step down of economic growth with the inflection point being . . . you guessed, it 90% debt-to-GDP.  Specifically,

  • 1981 – 1989 – Japan has average economic growth of just 4.6% and an average debt to GDP balance of 64%;
  • 1990 – 1999 – Japan had an average economic growth of 1.5% and an average debt to GDP balance of 92%; and
  • 2000 – 2009  - Japan had an average economic growth of 0.8% and an average debt to GDP balance of 179%.

As they say, facts don’t lie, politicians do.  And the facts as it relates to debt and growth are quite clear, as debt climbs and exceeds the Rubicon of 90%, economic growth will slow.  If you don’t believe me, believe the 200+ years of data.


It is clear to me that, “The old order changeth, yielding place to new.”  With the new order being a meaningfully different growth trajectory for the United States than the prior thirty years.  


But as always, “Tis better to have loved and lost, than never loved at all.”


The Poet Laureate of Hedgeye,


Daryl G. Jones

Managing Director


Bad To Worse - DJEL


The Macau Metro Monitor, August 6th, 2010



SJM has started putting up fences encircling an area near the Macau Dome, in Cotai. However, CEO So said no land concession approval has been received. So also said that its future Cotai resort  will maintain SJM's theme but with some "diversification".



As part of a facelift for Sydney's only casino, Star City, CEO Elmer Funke Kupper of Tabcorp Holdings Ltd said the company will send $146 million to woo high rollers from Crown Ltd, Macau, and Singapore.  The new look would include new luxury suites, private gambling rooms and its first two jet planes. The Star City refurbishment is being overseen by Larry Mullin, who joined the company from Borgata Hotel Casino & Spa.


Macau is no longer a top 5 destination for mainland visitors. According to the Visa and PATA travel association's "Travel & Tourism 2010 Outlook", the top 5 destinations this year are: Australia, Japan, HK , Singapore and Taiwan.


Here are our notes from the Hyatt Q2 conference call.



"We are pleased with improved transient demand experienced by many of our properties in the second quarter. At several properties, particularly those in international markets, average rate increases resulted in strong RevPAR growth versus the second quarter last year. Our fees increased over 16% due to RevPAR growth and new hotels in our portfolio. The group booking cycle continues to be short but we saw increased levels of booking activity for future periods during the second quarter. We experienced strong margin performance in our owned hotels despite the fact that the revenue increase was driven primarily by occupancy gains."

- Mark S. Hoplamazian, president and chief executive officer of Hyatt Hotels Corporation



  • "The Company has begun renovations at these properties [5]and expects that displacement, resulting from a reduction in daily room inventory of approximately 400 rooms on average per day through year-end 2010, will negatively impact owned and leased segment results in the third and fourth quarters of 2010."
  • 2010 Guidance:
    • Capex: $270-280MM
    • D&A: $285-295MM
    • Interest expense: $50-55MM


  • Improvements that they have seen in the business this year has been driven by better demand. Rate improvements that they began to see in the first quarter continued in the second Q.
  • Group rates still saw a YoY decline, however, group demand increased
  • Expect to see higher corporate rates coming out of rate negotiations later this year
  • International managed & franchise strength was helped by the World Cup in Johannesburg, Shanghai expo and new openings
  • Plan to achieve earnings results by improving performance at existing hotels and growing their base of rooms
  • After the close of the quarter, they opened the Andaz on 5th Ave in NYC
  • Investing $60MM in a New Orleans asset in the form of preferred equity which will help redevelop the property
  • Exploring the sale of 11 properties / 4,500 rooms. Plan to keep them in the managed portfolio and sell them to owners who will invest in the assets. Expect the sale process to take several months.
  • Fees were partially higher by the increased number of rooms in the segment
  • Revenues from transient customers were (leisure and corporate) up 10% YoY, due to a 13% increase in rooms sold
  • Owned & Leased:
    • Results in NA were helped by the US Open (CA) & G20 summit in Toronto
    • Margin improvement was helped by productivity gains 
    • Lower cancellation and attrition fees YoY impacted margins by 40bps
  • Full Service North American mgmt/franchised - 45% of hotels showed rate increases. In June, rates were positive overall.
    • Corporate hotels were up while resort were down on rate
    • Group bookings pace is now ahead (from June)
    • In the quarter, bookings were up 35% for future quarters
    • Group rates were down in the single digits this q, but are up 5% on forward bookings made in the quarter
  • Booking window hasn't changed, so they are operating with low visibility
  • Select Service hotels:
    • Occupancy gains were driven by initiatives to increase midweek corporate and transient business
  • International business mgm'd & franchise:
    • Europe and Asia were very strong
    • RevPAR in China increased 50%
    • 45% of their hotels showed rate increases in the Q (compared to 35% in the first quarter)
    • Europe & Africa were strong
  • Higher incentive comp and professional fees drove the SG&A increase


  • Still expect to open 25 hotels this year
  • Expect expenses to continue to increase (bonuses and wage increases). Will keep staff constant for the short term, aside from cleaning staff - which varies with occupancy. Flow-through will depend on what ADRs do
  • M&A/ Uses of cash?
    • Focused across the capital structure 
    • Does believe that in the 2H2010 and 2011 there will be a pick up in M&A
  • Corporate group pricing and volumes in 2011
    • Working off a low base to begin with, so they definitely expect to see rate increases, but the amount depends on the account - range is low single digits to double digits. Expect high single digit increase
    • Still early to talk about 2011 - 50% of their bookings are within a 3 month window
  • RevPAR impact of 200-250bps by the renovations. Some renovations can push into 4Q2011
  • Property in San Diego and rumors around it?
    • They were in discussions with the current owner group (Manchester group) but there is nothing going on at this point
  • It's important for them to exit the base of Hyatt owners
  • Feel like they have a significant investment in hotels already and want to increase the velocity of recycling their capital
  • Why did they select the portfolio of 11 assets to take to market now?
    • The properties tend to be in suburban or secondary urban markets in the Midwest and West Coast
    • Some of them have capital needs
    • It comes down to value for them and their peak earnings potential
    • Part of it is that they can use this as an opportunity to get some more franchisees out of these properties
  • The 5 assets that they are currently renovating were at the top of their priority list, not sure if there are other big ones to come yet
  • Progression in China has been very significant so far. There is a significantly lower group component internationally - so the outlook is quite short. In NA, group business is 45-47% of total.
  • Thoughts on investing internationally vs. domestically?
    • Already announced a deal in India and are working on a JV deal in South America
    • Internationally, they are mostly JV deals.

get free cartoon of the day!

Start receiving Hedgeye's Cartoon of the Day, an exclusive and humourous take on the market and the economy, delivered every morning to your inbox

By joining our email marketing list you agree to receive marketing emails from Hedgeye. You may unsubscribe at any time by clicking the unsubscribe link in one of the emails.