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PVH: Pulling The Goalie? Initial Take on 2Q

PVH 2H guidance still does not look like a slam dunk to me. The company is in a precarious position right now. I’ll refer, as usual, to my little inventory/margin Quad chart below. This quarter PVH slipped into the zone where gross margins are 184bps higher than last year, but where inventories are outclipping sales growth by 4%. If you check out PVH’s chart over the past few years, you’ll see that when inventories are growing faster than sales, this stock does not go up.

Moreover, the company’s guidance suggests that we need to see a 200-300bp revenue acceleration on a normalized run rate. Yes, we’ll see a ramp in PVH’s new Timberland business, and growth in Izod, but at a combined size of sub-5% of total, they’re still not particularly meaningful. Calvin Klein’s licensing business continues to crank – and I don’t have many concerns there aside from the negative impact of FX that is passed through indirectly to PVH. But let’s remember that ½ of the company’s cash flow is still men’s dress furnishings, which is in the bulls eye of both the negative secular inflection point for margins due to changes in sourcing patterns and global trade, as well as a cyclical hurdle in the form of white collar layoffs (see my prior posts on this relationship ).

With the company beating 2Q by a penney, and deleveraging SG&A by 233bps (more than I suspected) it smells to me like this company could have beat the quarter by much more than it did. That’s a positive in some respects, unless PVH only printed what it had to in order to keep its powder dry to fund an otherwise daunting (or simply unknown) 2H.

YUM: MY VERSION OF “LEVERING UP TO GET PAID”

On YUM’s next quarterly conference call, listen for the following items - because this is how management gets paid - (1) EPS growth of at least 10%; (2) system wide unit growth of 1,000 stores and (3) system wide sales growth of at least 3% in the US, 10% at YRI and 30% in China.

Also, let me know if you hear about customer satisfaction within the first 20 minutes of management’s comments.

With those metrics in mind look at the table from the proxy on how YUM senior management gets paid.

(1) Including the leverage factor (not included in the table), EPS growth of at least 10% can account for more than 50% of the bonus.
(2) Referring to my previous post, capital spending as a % of sales has been steadily increasing. This allows the company to open more units, allowing the company to hit another 20% of the performance targets.
(3) A direct result of the aggressive increase in unit openings will be system wide sales growth, allowing management to make 20% of the performance targets.
(4) These three metrics are all management needs to do to get paid millions.

No wonder KFC and Pizza Hut are not going anywhere. There is no incentive for management to improve the operating performance of the company. In light of the poor operating performance in the US, it is very clear why management wants to leverage the balance sheet and reduce the share count by 8%.

As you may have seen, Moody's downgraded YUM’s debt yesterday. In all likelihood, this is due to the increased debt levels and the poor operating performance in the US.

But who cares as management is all but guaranteed to make millions this year.
From the YUM proxy

The Sovereigns

Pay attention to what they do, not what they say…

I feel like I am watching Survivor. Yesterday, it was Goldman cutting estimates on Lehman; this morning, it is Citigroup cutting estimates on Goldman and Lehman; and for the last few weeks we’ve had 9 other analysts cutting numbers on all of these would be financial “innovation” kings. What an embarrassing mess.

Yesterday we called this “Macro Time” and it’s nice to see that Dick Fuld and John Thain are on board with the investment theme. After doing their best to tell us everything other than what we needed to know, these two are flying across the world in a final attempt to sell their wares to Asian governments. Remember Wall Street’s “Sovereign Fund” calling card theme from the “its global this time” 2007 highs? Well, this one is back, in full force.

How do you think this Asian story ends? Thain is cozying up to Singapore, and Fuld is allegedly crawling to the Koreans. That first slug of $5B in stock that Merrill sold to Temasek (Singapore’s Government Investment Company) was in December of 2007, and the latest wet Kleenex MER paper they sold to the folks in ‘Sea Town’ brings Temasek’s ownership close to the 10% line, which requires regulatory approval. The scary part about all of this is that it’s exactly what the investment banks did to the Middle Eastern “Sovereigns” right before oil prices tanked. Trying to plug Asian governments with toxic paper just as Asian economic growth is slowing smells all too familiar.

You see, this entire “liquidity” trade hinges on inflation. There are two interconnected parts to it: 1. Oil and 2. Global Growth. These are primary ways that Middle Eastern and Asian “Sovereigns” get richer. The problem, of course, is that the US government cannot afford importing inflation or devaluing the US Dollar anymore. They can’t afford much of anything really. They need liquidity, and every day that Oil declines or Global Growth slows further, the “Sovereigns” have less of it to give.

Don’t worry though. Fuld, Pandit, Thain, and Paulson are going to get in a room, close the doors, and hammer this out. Right. Right…

This is why credit spreads continue to widen. The TED Spread that we keep focusing on in the Portal is screaming counterparty risk. The spread between 3 month US Treasuries and 3 month LIBOR this morning has blown out to +113 basis points. Why? Well, Asian markets are telling you that they don’t like the smell of Fannie or Fuld’s paper anymore. The Asians do in fact have live quotes and charts of FNM and LEH. Now, they too are running for the exits.

We’re short Japan, but we should really be short everything in Asia. This morning China reversed for another -3.6% down day. India broke short term support, dropping another -3%. Stocks from Hong Kong to Thailand lost another 2-3% of their value, and Pakistan has dropped right back into its dark cesspool, falling -6.4% in the last 48 hours. Asian inflation is accelerating alongside social unrest, as Asian economic growth is decelerating.

As Sherlock Holmes appropriately stated, “there is nothing more deceptive than an obvious fact”, and I don’t see any way for the US Financial systems to absorb a protracted global economic slowdown. Not at this juncture at least.

This will crush corporate earnings levered to international growth, but also remove the only liquidity valve that American central and investment bankers have left – the “Sovereigns”. I wrote it on July 31st. I’ll print it again this morning, and tomorrow too. I am 85% in cash, waiting patiently to see this play out.

Good luck out there today,
KM



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Fannie (FNM): Where's Paulson's BUY BACK?!?

FNM lost another -27% of its value today. Now we're seeing why credit spreads continue to widen. If Hank Paulson and the US Treasury has Fannie's back, is that clearing price $3/share? Next Support is $3.15.
KM
  • Freefalling Fannie
chart courtesy of stockcharts.com

YUM: Levering Up To Get Paid?

Tops are processes, not points, and Howard Penney has had this one right. Evidently YUM's management team is going to do good on their word and deliver “10% earnings growth”, but they are going to have to lever up to get that share count down!

Moody's downgraded their unsecured rating on YUM's bank facility today, and I am downgrading my view on this stock's support level.
  • Breaking $36.61 was a material negative event here. Next support is $34.09.
    KM
chart courtesy of stockcharts.com

WYNN: Don't Buy the 50 Day Line!

WYNN has been breaking down since August 12th, and it doesn’t stop here. After breaking the $95.60 line, I have this stock in negative quantitative territory on both an immediate term "Trade" and intermediate term "Trend" basis.
  • The 50 day moving average is where the masses think it is going to find support. That price, as a reference point it $91.25. My model sees WYNN's next support at $84.22.
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