Practical analysis for investment professionals
16 May 2016

The C-Suite Speaks: Department Store Decline

Posted In: Drivers of Value

The C-Suite Speaks: Department Store Decline

Each week our team at Avondale Asset Management reads dozens of transcripts from earnings calls and presentations as part of our investment process. Below is a weekly post which contains some of the most important quotes about the economy and industry trends from those transcripts as well as other forums.


Macy’s was the first department store retailer to report results for the first quarter and it set a negative tone for the industry. It’s not necessarily surprising that a brick-and-mortar retailer is struggling, but the extent of the deterioration did seem worse than expected. One can’t help but wonder whether the weakness is really just industry specific.

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The Macro Outlook

Macy’s set a negative tone for the retail industry.

“While the quarter started stronger, the business weakened considerably versus our expectations beginning in mid-March, and that trend continued through April . . . we are seeing weakness in consumer spending levels in apparel and related categories. The number of transactions declined 7% in the quarter, which is far worse than what was experienced last year.” — Macy’s CFO Karen Hoguet (Mall Retailing)

Department stores have clearly seen a “meaningful and sustained deceleration” in traffic.

“During the first quarter, the data we received from our wholesale partners indicated a meaningful sustained deceleration in wholesale sell-throughs, not only in the United States, but also with wholesale partners in Europe. Mall traffic remains difficult, and many of our wholesale partners have announced transitions in their own businesses.” — Fossil EVP, CFO, and treasurer Dennis Secor (Watches)

The question is whether that weakness extends beyond department stores. Macy’s is perplexed.

“All of us have been reading the stream of negative news stories about various retailers over the past several weeks. Clearly, our industry is in something of a rough patch. We know we are not alone. But the consumer seems to be doing okay. . . . We’re frankly scratching our heads. We see the same economic data you all see and it would point to a customer that would be spending more.” — Macy’s CFO Karen Hoguet (Mall Retailing)

Lending Club saw credit quality deteriorate among its subprime borrowers.

“Let me start with a few comments on credit . . . For grades D through G, as we have previously shared, we have identified pockets of under-performance. . . . These population segments were mainly characterized by high indebtedness and increased propensity to accumulate debt and lower credit scores.” — Lending Club president and CEO Scott Sanborn (P2P Lending)

But capital markets have opened back up.

“We see there is plenty of activity now. Bond markets seem to be rather wide open. There is a lot of M&A Chatter. It’s obviously far better in April and May than it was in January and February.” — JP Morgan Chase chairman, CEO and president Jamie Dimon (Bank)

There’s still a rut when it comes to IPOs though.

“There were only eight IPOs in the quarter compared to 34 in the prior year. . . . I would just say that I feel that sort of the malaise that surrounds the equity capital raising is still evident . . . I wouldn’t say there’s been a marked improvement certainly in April.” — Stifel Financial chairman and CEO Ronald Kruszewski (Investment Brokerage)

Art markets have also been challenged.

“On our last earnings call, we said that we did not expect sale levels for the full year 2016 to reach the annual held levels of 2014 or 2015. And as of right now our view remains unchanged. . . . Of course, our most significant data points for the second quarter kicked off tonight, with a number of important auctions to follow in the coming days, so the next two weeks should provide all of us with a lot of good market intelligence.” — Sotheby’s president and CEO Thomas Smith, Jr. (Art Broker)

Deteriorating conditions may make companies hesitant to buy back shares.

“We elected not to repurchase additional shares of Hertz Global Holdings during the quarter. While we clearly believe our stock is significantly undervalued, we concluded that given the challenging revenue environment in the US industry in the first quarter, it would be prudent to take a cautious stance for now.” — Hertz president and CEO John Tague (Rental Cars)

The set of investment opportunities is terrible anyway.

“We continue to face a lousy opportunity set in financial markets. Equity valuations are still rich, and interest rates are still near historic lows. Now, more than ever, some significant volatility in both equity and fixed-income markets would play to our advantage.” — White Mountains Capital managing director Reid Campbell (Insurance)

And Steve Wynn says that the stock market is “more stupid as a gambling game.”

“So the stock market has got more volatile, more stupid as a gambling game than ever before. And I look at it that way to be honest with you. I have very little respect for the integrity of the trading on the exchange in most stocks. And I have particular disdain for the fact that the SEC has failed to deal with high-frequency traders who are doing nothing more than taking advantage of inside information, a buy or a sell order, because of technology advantages.” — Wynn Resorts chairman and CEO Steve Wynn (Casinos)

International

China’s government appears to be boosting consumption.

“While there still remains uncertainty in the real estate industry, we believe market conditions will be stable in the coming quarter and expect favorable government policies to continue to enjoy additional demand for our projects.” — Xinyuan China director and CFO Huaiyu Liu (Real Estate Developer)

But China’s beer industry volumes declined by 4% in Q1.

“Moving now to China. China beer industry volumes declined by around 4% in the first quarter due to economic headwinds. Our own volumes were down just over 1% in the quarter versus the tough first quarter last year, wherein our volumes grew by 4.7%.” — AB Inbev CEO Carlos Brito

Weakness in Brazil is spilling over into Florida tourism.

“Orlando generates about 30-or-so percent of its attendance from international guests . . . Brazil is the lion’s share of that when you compare it to the other countries, so it’s significant for us. We’re seeing some softness in others, but Brazil really stands out, obviously, because of the currency, the currency difference.” — SeaWorld Parks and Entertainment CFO Peter Crage (Theme Parks)

Financials

The Department of Labor (DOL)’s new rules for investment advisers will force the sector to change.

“I think the industry will evolve and I think that you’re going to see manufacturers of product evolve as well, meaning that there will be more products that are available for advisory relationships because that’s certainly — make no mistake about it. The DOL rule certainly . . . discourages brokerage relationships.” — Stifel Financial chairman and CEO Ronald Kruszewski (Investment Brokerage)

There is a lot of focus on blockchain technology.

“Blockchain continues to be an area of critical focus across all of our business lines. It seems you can’t pick up an industry publication without reading about the power and potential of blockchain technology.” — Broadridge president and CEO Richard Daly (Information Processing)

Consumer

Disney’s studio is crushing it, but no one seems to care.

“This weekend, our 2016 box office total crossed $1 billion domestically, $2 billion internationally, and $3 billion globally, reaching those milestones faster than any studio in history . . . I’m actually kind of surprised that after almost 45 minutes of questioning, we didn’t get one question about our studio. But I just want to reiterate that the studio’s results were up tremendously.” – The Walt Disney Company chairman and CEO Robert Iger (Entertainment)

Traditional consumer companies are struggling to achieve scale in technology-oriented fields.

“Scale matters a lot in these products. . . . We’ve got to make a lot of upfront investments in engineering costs to get product to market. That requires for each major product line over one million units to really reach scale.” — Fossil EVP, chief strategy, and digital officer Gregory McKelvey (Watches)

“We are absolutely not pulling back our commitment to digital and omni-channel retailing. Mobile remains a very high priority, and we continue to invest.” — Macy’s CFO Karen Hoguet (Retail)

Technology

Rackspace thinks that Google will be a major player in the public cloud.

“Google is clearly making progress on GCP. We do think that they will end up being one of the winners in public cloud.” — Rackspace president and CEO Taylor Rhodes (Enterprise IT)

The cost of solar installation continues to decline.

“We’re seeing the average selling prices of modules decline. We’re seeing the same happening with inverters and then there’s a couple of pretty big breakthroughs in the mounting hardware on the residential side as well as on the commercial side that will further drive down costs.” — SolarCity co-founder and CTO Peter Rive (Solar)

Industrials

The industrial economy isn’t getting much better or much worse.

“From our perspective, the environment continues to be uncertain with economic indicators signifying little trend movement either positive or negative. We recognize that we cannot control microeconomic issues.” — Sun Hydraulics director, president, and CEO Wolfgang Dangel (Industrial Equipment)

Companies are re-evaluating capital spending projects though.

“Global economic growth for the first quarter was weak, setting up another sub-par year. . . . For our commodity-influenced businesses, we’re beginning to see clients reevaluate projects through studies and pre-feeds. Going forward, we do expect clients to continue to take a cautious, disciplined approach when they make their capital investment decisions.” — Fluor chairman and CEO Dave Seaton (Construction)

Materials, Energy

It may take $65 oil for the industry to return to growth.

“We believe that in the US, it will take a sustained $60 to $65 oil price and 12 months of lead time for the industry to deliver a modest level of growth.” — EOG Resources chairman and CEO William Thomas (Oil Producer)

The recent rise in prices is helpful, but many oil companies are no longer expecting significant improvements.

“We’re definitely trying to structure the business around this new norm realizing that oil is going to be in this range, at least based on our best guess, and we need to have our cost structure and our business operating at this price level and not expecting any significant improvements.” — Clean Harbors chairman and CEO Alan McKim (Hazardous Materials Waste)

There is still a large glut of oil service equipment.

“Past overinvestments and overpayments for acquisitions for hundreds of millions of dollars are evident today in the oilfield services industry. Several companies are faced with massive write-downs of asset values and write-offs of acquired entities, thereby destroying capital and shareholder value.” — Core Labs 2015 Annual Report (Oil Service)

And some oil services competitors are acting irrationally.

“The competition in some regions for jobs has become so keen that some operators are willing to take multi-year contracts at day rates that appear, to us, to be below actual running costs, particularly when factoring in surveys that will have to be undertaken during the contract term.” — Seacor Holdings chairman and CEO Charles Fabrikant (Oil Services)

There will eventually have to be consolidation but how long will that take?

“Vessels (and drilling rigs) now compete for scraps of work. Most are living on a subsistence diet. Consolidation of operators and equipment is almost certainly inevitable. The question is: How much pain will precede it? How long will it take to work through the reorganizations? Cancellation of orders for new equipment is also almost certain.” — Seacor Holdings chairman and CEO Charles Fabrikant (Oil Services)

Miscellaneous Nuggets of Wisdom

Non-GAAP accounting doesn’t change reality.

“Managers thinking about accounting issues should never forget one of Abraham Lincoln’s favorite riddles: How many legs does a dog have if you call a tail a leg? The answer: four, because calling a tail a leg doesn’t make it a leg.” — Berkshire Hathaway CEO Warren Buffett (Conglomerate)

Competition is part of what makes capitalism work.

“I am a great believer that it is a wonderful thing in America that people try to compete with each other. It’s called capitalism. Of course companies are looking for weaknesses in banks and things they can do faster. Business grows when they can do something better, faster, quick, or cheaper for a customer. And if they can do better than me, so be it. I have to learn to get better or I lose.” — JP Morgan Chase chairman, CEO, and president Jamie Dimon (Bank)

Manage from the heart.

“I say good management is also about the heart. It’s about people trusting you and people knowing you give a damn…We have a great company and we’re doing a great job for our clients and that’s what, at the end of the day, really matters.” — JP Morgan Chase chairman, CEO, and president Jamie Dimon (Bank)

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All posts are the opinion of the author. As such, they should not be construed as investment advice, nor do the opinions expressed necessarily reflect the views of CFA Institute or the author’s employer.

Image credit: ©iStockphoto.com/Pgiam

About the Author(s)
Scott Krisiloff, CFA

Scott Krisiloff, CFA, is the CEO of Avondale Asset Management, an independent investment advisory firm located in Los Angeles. Krisiloff is the author of the firm's blog, Company Notes.

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