I know I am not alone on my bearish stance on RRGB.  Nearly 30% of sell-side analysts rate the stock as a sell, which is the highest percentage of sell ratings among all of the casual dining names.  Short interest also remains high relative to its peers at 12%.  That being said, I would not view the nearly 20% pullback in RRGB’s stock price since reporting sequentially better 1Q10 same-store sales trends on May 20 or the company’s relatively low NTM EV/EBITDA multiple of 5.5x versus the casual dining group average of 6.1x as a reason to become incrementally more positive on the name.




Same-store sales trends continue to be choppy and unpredictable.  After showing a sharp improvement in comp trends during the first quarter, same-store sales during the second quarter slowed 115 bps on a two-year average.  The company attributed its improvement during the first quarter to the success of its spring LTO, which was supported with four weeks of TV advertising.  It is important to remember that RRGB spent about $6.7 million on its TV campaign during 1Q10 and expects to spend about $15.6 million for the full-year versus $2.5 million during 2009.  The increased advertising has driven improved comp results in the weeks the company is on air with its promotion but has not led to sustained improvements in the weeks following the campaign. 


During the second quarter, same-store sales growth improved to +1.6% during the last four weeks of the quarter when supported by three weeks of TV advertising relative to the 2.6% decline during the first eight weeks of the quarter with no TV support.  This implies a 225 bp improvement in two-year average trends from the first eight weeks of the quarter to the last four weeks, but for the entire second quarter, two-year average trends still decelerated 115 bps.  During the first four weeks of 3Q10, same-store sales increased 1.4%, which management seemed bulled up about as it shows a marked improvement from the -1.2% number in 2Q10.  However, given that the company is lapping a 15.3% decline from the first four weeks of 3Q09, the +1.4% actually implies continued deceleration in two-year average trends to -7% from -6.4% during 2Q10.  And, the first four weeks of 3Q10 included one week of TV support for RRGB’s summer LTO.


Advertising is Addictive…I have been highlighting this problem for some time as RRGB continually changes its strategy around whether or not to spend behind advertising.  Although the company often experiences a lift in comp results as a result of its incremental spending, the company cannot increase its level of spending forever.  And, the returns do not always justify the spending.  In 2008, RRGB spent about $18 million on TV advertising, up from $11.5 million in 2007.  After a difficult 2008, the company decided to not invest so heavily behind TV support and only spent about $2.5 million in 2009.  Now, in 2010, they are upping the spending drastically to $15.6 million. 


When the company first introduced its 2010 media plans, it said “Based on the results of the spring LTO promotion, television advertising may be used to support the remainder of Red Robin’s LTO promotions in 2010, but no decision on subsequent campaigns has been made.”  The spring LTO did drive sequentially better trends during the first quarter, but the company has lowered its comp guidance two times since initially providing its FY10 guidance.  Current same-store sales guidance is -0.5% to +0.5%, down significantly from the company’s initial +2.4% to +3.4% range.  In addition to the need to lower full-year same-store sales guidance, management said that macroeconomic conditions during the second quarter diminished the impact of the company’s Q2 TV media support.  And yet, the company is going ahead with its planned spending to support the final fall LTO in the back half of the year.  Management will not walk away from this spending because it needs the LTO and TV support in order to even come close to achieving its new comp target.


What happened in 2Q10 relative 1Q10? 


Management stated that macroeconomic challenges worsened during the second quarter and negatively impacted consumer spending consumer confidence.  Specifically, management stated, “We believe these challenges diminished the impact of our Q2 TV media support, compared to the impact of the TV in Q1, specifically the widely-publicized downturn in consumer confidence in June and July, as well as the underemployment and unemployment levels, have continued to create headwinds to strengthening guest count and sales trends.”  This is a valid point, but this will continue to be a headwind over the next couple of quarters. 


The company’s spring LTO, which ran during the first quarter, featured a $5.99 price point whereas the 2Q10/early 3Q10 summer LTO promoted a $6.99 price point.  Although this higher price point is more beneficial to average check and margin, it does not drive the same level of traffic.  The company reported that the summer promotion represented about 7% of total mix versus 10% mix for the $5.99 LTO in 1Q10.  The company is sticking with the $6.99 price point for its fall LTO, which will begin in September and will be supported by two weeks of TV advertising during 3Q10 and two weeks in 4Q10.


Highlighting the significant volatility in results in the post-media period early in the second quarter, management commented that it saw large spikes both up and down during the second quarter, as much as 15% swings either way from week to week.  Such volatility hurt margins in 2Q10 as the company was unable to adjust it labor levels accordingly as such swings were unpredictable.  This will likely continue to be a problem in the back half of the year as the company goes on and off air with its support around the fall LTO.


Given the slow start to the third quarter on a two-year average basis, which included one week of TV advertising, and the growing pressure on consumers, I am modeling +1.5% same-store sales growth during 3Q10, which implies a slight deceleration in two-year average trends from the second quarter.  On a full-year basis, I am modeling a 0.9% decline in comps, which falls short of management’s -0.5% to +0.5% guidance.  For reference, a 50 bp decrease in same-store sales growth equates to a $0.11 decrease in EPS.   My full-year EPS estimate is currently $0.75, below the street’s $0.85 estimate. 


Restaurant-level margin will come under increased pressure during the second half of the year as a result of continued pressure from lower check averages as a result of the summer and fall LTOs and due to higher ground beef and dairy prices.  Year-over-year restaurant-level margin compares get easier, however, in the back half of the year and although I would expect another quarter of declines during the third quarter, YOY restaurant-level margin will likely turn positive during 4Q10 for the first time in eight quarters. 


Increased visibility…


Although RRGB could potentially move out of Hedgeye’s Deep Hole during 3Q10 (after being there for seven consecutive quarters), I don’t think this name will really work until it pursues a strategy that drives more predictable top-line trends.  I am expecting the casual dining names in general to have a tough back half of the year from a demand perspective, but RRGB’s volatility in results exacerbates investor anxiety.  The company announced that Stephen E. Carley will be RRGB’s new CEO, effective September 13.  In the near-term, this transition could amplify the company’s lack of consistency.  New direction, with time, however, could lead to increased visibility and consistency, but we will have to wait to see.




Howard Penney

Managing Director

Europe’s August Woes and Germany’s Austerity Bill

Conclusion: European Manufacturing PMI and German retail sales show a negative inflection, in line with our call for European data in August to roll. We expect a decline in consumer consumption across Europe post the exuberance of the World Cup and in response to the enactment of austerity measures that should induce individual belt-tightening and hamper confidence. Also, we continue to favorably view Germany’s fiscal austerity; however we recognize its negative impact on select industries and overall growth.


European PMI – Manufacturing

Of the 16 countries reporting PMI this morning:

  • 9 countries fell month-over month: UK, Spain, Italy, Switzerland, Norway, Sweden, Ireland, Hungary, and Turkey
  • Germany was flat at 58.2 and the Eurozone average improved only 10bps month-over-month to 55.1
  • 5 countries rose month-over-month: Russia, Poland, Czech Republic, France, and Denmark

 German Retail Sales

  • fell -0.3% in July M/M, versus a decline of -0.3% in June M/M
  • Year-over-year, sales were up +0.8%

German Austerity

Today, Chancellor Angela Merkel and her cabinet approved budget cuts and revenue-raising measures worth 80 Billion Euros ($102 Bill.) through 2014, following an initial outline in June. The draft legislation will now go to the lower house of parliament for consideration. (Upper-house approval isn’t needed).


A decision on the controversial issue of the “nuclear tax” or the tax on nuclear-fuel rods was postponed to later this month. The tax remains a contentious issue opposed by utility companies that run the country’s 17 nuclear power plants, but a possible bargaining chip to extend the running life of nuclear power in Germany.  Germany’s largest operators include:  E.ON AG, RWE AG, EnBW Energie Baden Württemberg AG, and Vattenfall Europe AG.


Expectations of the levy have sent utility stocks plummeting, including for DAX-listed E.ON AG and RWE AG, down -24.3% and -24.8%, respectively, year-to-date. 


Germany’s austerity measures include:

-Financial tax on banks of about 2 Bill. EUR per year beginning in 2012

-Air passenger tax

-Welfare cuts

-Reductions in defense spending

-Delay in the rebuilding of Berlin’s royal palace


Matthew Hedrick



Europe’s August Woes and Germany’s Austerity Bill - rolling over

Sports Apparel Data: Pre Sales Day Scoop

Sports Apparel Data: Pre Sales Day Scoop


While we don’t read too deep into a single week’s sales as reported by POS data vendors, there’s a couple of items worth calling out for you to bake into your process for handling the sales-day onslaught tomorrow.


  • The punchline is that the back half of the month stabilized after a steep drop at the start of August.  
  • On the whole, the month does not appear to be meaningfully worse (or better) than July. But keep in mind that this sample is drawn from the sporting goods category – which consistently outpaced retail overall for the whole year.
  • Channel trends are consistent with what we’ve seen in the past, with the sporting goods channel proper leading the numbers. But as it relates to a read-through for the rest of retail, it’s worth noting that the discount and mass channels are getting ‘less horrible’ on the margin. That’s probably a decent sign for inventory.
  • There is fair consistency amongst regions, with the Middle Atlantic as the biggest negative callout. The Pacific region had a tough finish to the month, but that’s a wash as it also avoided the severe dropoff the rest of the country saw in week 2.

Sports Apparel Data: Pre Sales Day Scoop - 1


Sports Apparel Data: Pre Sales Day Scoop - 2


Sports Apparel Data: Pre Sales Day Scoop - 3


Sports Apparel Data: Pre Sales Day Scoop - 4


Sports Apparel Data: Pre Sales Day Scoop - 5



Early Look

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August was up a disappointing (at least for us) 40% in Macau.  With slowing growth, market share may again be a more important metric. Not good for Wynn.



Frankly, I’m disappointed in Macau’s August performance, not because +40% in and of itself is disappointing, but that mid-month trends indicated a bigger growth rate.  We should be getting our proprietary detail by property shortly so we do not yet know whether the second half slowdown was related to hold, volume, or both.  We are pretty sure that Wynn’s market share will be low with both hold and volume to blame.


The following chart shows monthly YoY change in total Macau gaming revenues.  We’ve also included a line that shows the monthly VIP hold percent since hold variances can drive big moves in revenues.




So what should we expect going forward?  On the chart, we’ve put in our estimates for the remaining months of the year and it is clear that we expect growth to slow.  Growth will still be solid though.  However, we may have to revise our estimates if the 2nd half of August slowdown was volume related.  That would be disconcerting.  As it stands now, we are projecting recent revenue levels will continue, adjusted for seasonality. 


Some may be surprised by our projection of 35% September growth since the month faces a +54% comparison last year.  However, September 2008 revenues were ridiculously low at HK$6.9 billion with a low hold percentage.  November should be the slowest growing month until we reach 2011, which will present its own challenges.

EARLY LOOK: Follow the Trail

This note was originally published at 8am this morning, September 1, 2010. INVESTOR and RISK MANAGER SUBSCRIBERS have access to the EARLY LOOK (published by 8am every trading day) and PORTFOLIO IDEAS in real-time.




“Do not go where the path may lead, go instead where there is not a path and leave a trail.”
-Ralph Waldo Emerson

A college hockey coach sent me a nice recruiting letter about fifteen years ago with the quote above handwritten on it.  Although I ended up not going to the college he coached at, he did catch my attention with the quote.  At the time, as a rangy defenseman from a small town in Alberta, I’m pretty sure I didn’t know who Emerson was and I had certainly never seen the quote before.  As a result, I was quite moved by the concept and idea embedded within the quote.
Emerson was known as a passionate individualist and a “prescient critic of the countervailing pressures of society”.  He spread his gospel via dozens of essays and many hundreds of public lectures across the United States.  According to Wikipedia, Ralph Waldo Emerson was an American philosopher, lecturer, essayist, and poet.  Were he alive today, I think he may have been a Hedgeye.
In the short history of our firm, we’ve been accused of many things.  On the political front, we’ve been accused of being both Republican and Democrat.   On the market front, we’ve been accused of being bullish and bearish, and sometimes both at the same time.  We’ve also been accused of being grumpy (well, mostly Keith before his coffee) and overly negative.  The bottom line is that we have opinions, which are sometimes offensive to people, but those opinions aren’t to make ourselves feel better.  They are based on data and analysis with the objective of producing high quality and accurate research.  We express that research with our opinions, and when the facts change, so too do our opinions.

Currently as we survey the global macro landscape, we see a number of markets making trails that both concern us and really inform our broader perspective.  This morning I want to highlight three of those: the yield curve, the Swiss Franc, and copper.

1. The Yield Curve - Yesterday in our morning call, our Financials Sector Head Josh Steiner noted that the yield curve was narrowing to a point where banks were going to potentially see an impact on their earnings.  Remember, banks borrow short and lend long, so as the yield curve narrows, so inherently do their margins. So it’s no surprise given this move in the yield curve that the financial sector ETF has been the worst performer of all the sector ETFs in the last three months (down 7.9%) and broken from both a Trend and Trade perspective.   

From a global macro perspective though, the yield curve narrowing is typically a leading indicator for slowing economic growth.  When we analyze the yield curve, we focus on two durations specifically - 10s and 2s. In the parlance of the nonfinancial world, that is 10-year treasuries and 2-year treasuries, or as we like to call it, The Piggy Banker Spread.  We've highlighted this point in the chart below, but the Piggy Banker Spread has narrowed dramatically through the course of the year from ~290 basis points at its peak to ~210 basis points now.  This narrowing provides further support for our view that global growth is going to slow as it is a real time indicator for which direction long term rates are going, and the answer seems to be lower.

As a side note, we read with interest quotes from Thirdpoint’s Dan Loeb's recent letter to his investors (Dan, if you get a minute, please email us a copy).  Dan's letter, from what we could tell, went off on the system being rigged and on government intervention generally.  Admittedly, this is a point we have been very vocal on and it does worry us as we analyze and try to infer research information from markets that are managed by the U.S. government because, to be frank, we don't trust the Fiat Fools in Washington.

Nonetheless, the yield curve is a trail that is leading us to slow growth. For now, we'll accept that for what it is.

2. Swiss Franc - We highlighted this point in a note to our subscribers yesterday and want to re-emphasize it today.  The Swiss Franc has had a massive move against the Euro in the last three weeks.  In fact, the Swiss Franc is up over 7% in the time period (that's a big move in currency land) and is now back at levels not seen since the May time frame when everyone and their mother was worried about sovereign debt issues.  Well, sovereign debt issues don't go away over night, or because of ECB interventions.

The rapid move in the Swiss Franc, in conjunction with widening of credit default swaps in Europe over the past few weeks, is signaling that we may be hearing and seeing more sovereign debt issues in Europe in the coming months.  The explicit buying of the Swiss Franc and selling of the Euro is a direct vote against the Euro, and an attempt by those institutions with large currency exposure in Europe to hedge or protect the relative value of those European assets.

3. Copper
- Dr. Copper over the past three months is up 9.9%, while its global commodity brother, Oil, is only up 1% on the same duration.  This isn't surprising since copper inventories globally, most specifically measured by the London Metals Exchange, are at nine month lows.  Moreover, based on normalized demand patterns and underinvestment over the past couple of years, we expect a global copper deficit next year for the first time in four years. Most importantly, this price divergence is a trail that is leading us to China. For the first time this year we are long China in the Hedgeye Virtual Portfolio via the etf, CAF.

Copper is verifying its trail this morning as it is up another 2.1%.  That is not necessarily a surprise given the Purchasing Managers Index report from China, which is an indicator of industrial activity.  This report saw a small increase sequentially going from 51.5 to 51.7.  While this is by no means massive, it does indicate stabilization.  In a country with 1.3 billion people growing at north of 10%, stabilization is perhaps all we need to be comfortable from a growth perspective.

Taken together these paths are leaving trails that we need to contemplate before our own portfolio trails.



EARLY LOOK: Follow the Trail - chart1



I'm not sure if Ralph Waldo Emerson ever traded a P&L, but I'm guessing if he did he’d have an investment notebook, and his quote inscribed on the inside:

"A hero is no braver than an ordinary man, but he is brave five minutes longer."

Sometime that's all we need in this interconnected global market place, five minutes.

Yours in risk management,

Daryl G. Jones


Over the past three months we have heard a lot of rumors about restaurant companies going private, especially the ones that are underperforming.  I get the theory that restaurants can sometimes be operated more efficiently as a private company.  In some cases that might be true, but I don’t find it to be the case with Burger King.


Rumors of the company going private have the stock up $3, which makes some sense.  Coming into today, a $3.33 move higher would add one multiple point to the valuation of the company, putting the company more in line with the average of its QSR peers, trading at 7.8X NTM EV/EBITDA. 


That is about as good as it gets for BKC.  If TPG, Goldman and Bain Capital can get out of their positions at 8.0x EV/EBITDA, they will be very happy.  BKC has been underperforming and was trading at a discount valuation primarily because MCD had made life very difficult.  This is true for all of the direct competitors of MCD - WEN, JACK, BKC and TAST.  YUM has been less adversely affected due to its global geographic diversity.  CKE restaurants would have been included on that list but they went private.   


Look no further than EPS revision trends for the past six months, which shows all of MCD’s direct competitors seeing significant downward earnings revisions.  Additionally, all of these companies are trading at a significant discount to the overall QSR peer group.


As I said last week, I believe that MCD will post something close to a +7% same-store sales figure for the month of August (sales of Frappes and Smoothies accelerated in August from July).  Currently, MCD is taking a significant amount of incremental market share in the QSR space and some of this is coming directly from BKC.  As an aside, we are hearing rumors that MCD is going to do a national McRib promotion in November.  Talk about stealing the thunder away from “the King,” as ribs have been the standout driver for BKC this year.  McDonald’s is Burger King’s problem.  What will change under private ownership?


While I would not put it past TPG, Goldman and Bain to get a deal done, I don’t see it happening at a price higher than $20-$21.  I would use this liquidity event as an exit strategy if I owned the equity.  Bottom line, I don’t see a deal getting done.


BKC - GOING PRIVATE? - estimate revisions


BKC - GOING PRIVATE? - valuation tabel


Howard Penney

Managing Director

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