Category Archives: New Middle Class

Weekly Issue: While Most Eyes Are on the Fed, We Look at a Farfetch(ed) Idea

Weekly Issue: While Most Eyes Are on the Fed, We Look at a Farfetch(ed) Idea

Key points inside this issue

  • The Fed Takes Center Stage Once Again
  • Farfetch Limited (FTCH) – A fashionable Living the Life Thematic Leader
  • Digital Lifestyle – The August Retail Sales confirms the adoption continues

 

Economics & Expectations

The Fed Takes Center Stage Once Again

As we saw last week, the primary drivers of the stock market continue to be developments on the U.S.-China trade front and the next steps in monetary policy. As the European Central Bank stepped up its monetary policy loosening, it left some to wonder how much dry powder it had remaining should the global economy slow further and tip into a recession. Amid those concerns, along with some discrepancy among reports that President Trump would acquiesce to a two-step trade deal with China, stocks finished last week with a whimper after rebounding Wednesday and Thursday.

We continue to see intellectual property and national security as key tenets in negotiating a trade deal with China. We will watch as the lead up to October’s next round of trade negotiations unfolds. Given the Fed’s next two-day monetary policy meeting that begins on Tuesday and culminates with the Fed’s announcement and subsequent press conference, barring any new U.S.-China trade developments before then, it’s safe to say what the Fed says will be a key driver of the stock market this week.

Leading up to that next Fed press conference, we will get the August data for Industrial Production and Housing Starts as well as the September Empire State Manufacturing Index. Paired with Friday’s August Retail Sales report and last Thursday’s August CPI report, that will be some of the last data the Fed factors into its policy decision.

Per the CME Group’s FedWatch tool, the market sees an 82% probability for the Fed to cut interest rates by 25 basis points this week with possibly one more rate cut to be had before we exit 2019. Normally speaking, parsing the Fed’s words and Fe Chair Powell’s presser commentary are key to getting inside the central bank’s “head,” and this will be especially important this time around. One of our concerns has been the difference between the economic data and the expectations it is yielding in the stock market. Should the Fed manage to catch the market off guard, odds are it will give the market a touch of agita.

On the earnings front

there are five reports that we’ll be paying close attention to this week. They are Adobe Systems (ADBE), Chewy (CHWY), FedEx (FDX), General Mills (GIS) and Darden Restaurants (DRI). With Adobe, we’ll be examining the rate of growth tied to cloud, an aspect of our Disruptive Innovators investing theme. With Darden we’ll look to see if the performance at its full-service restaurants matches up with the consumer trade-down data being reported by the National Restaurant Association. That data has powered shares of Cleaner Living Thematic Leader and Cleaner Living Index resident Chipotle Mexican Grill (CMG) higher of late, bringing the year to date return to 82% vs. 20% for the S&P 500. Chewy is a Digital Lifestyle company that is focused on the pet market serving up food, toys, medications and other pet products. Fedex will not only offer some confirmation on the digital shopping aspect of our Digital Lifestyle investing theme it will also shed some light on the global economy as well.

 

Farfetch Limited – A fashionable Living the Life Thematic Leader

In last week’s issue, I mentioned that I was collecting my thoughts on Farfetch Limited (FTCH), a company that sits at the intersection of the luxury goods market and digital commerce. Said thematically, Farfetch is a company that reflects our Living the Life investment theme, while also benefitting from tailwinds of our Digital Lifestyle theme. Even though the company went public last year, it’s not a household name even though it operates a global luxury digital marketplace. As the shares have fallen over the last several weeks, I’ve had my eyes on them and now is the time to dip our toes in the water by adding FTCH as a Thematic Leader.

 

 

Farfetch Provides Digital Shopping to the Exploding Global Luxury Market

Farfetch is a play on the global $100 billion online luxury market with access to over 3,200 different brands across more than 1,100 brand boutique partners across its platform. With both high-end and every-day consumers continuing to shift their shopping to online and mobile platforms, we see Farfetch attacking a growing market that also has the combined benefit of appealing to the aspirational shopper and being relatively inelastic compared to mainstream apparel.

Part of what is fueling the global demand for luxury and aspirational goods is the rising disposable income of consumers in Asia, particularly China. According to Hurun’s report, The Chinese Luxury Traveler, enthusiasm for overseas travel shows no signs of abating, with the proportion of time spent on overseas tourism among luxury travelers increasing 5% to become 70% of the total. Cosmetics, (45%), local specialties (43%), luggage (39%), clothing and accessories (37%) and jewelry (34%) remain the most sought — after items among luxury travelers. High domestic import duties and concerns about fake products contribute to the popularity of shopping abroad.

It should come as little surprise then that roughly 31% of FarFetch’s 2018 revenue was derived from Asia-Pacific with the balance split between Europe, Middle East & Africa (40%) and the Americas (29%). At the end of the June 2019 quarter, the company had 1.77 million active customers, up from 1.35 million exiting 2018 and 0.9 million in 2017. As the number of active users has grown so too has Farfetch’s revenue, which hit $718 million over the 12 months ending June 2019 compared to $602 million in all of 2018 and $386 million in 2017.

Farfetch primarily monetizes its platform by serving as a commercial intermediary between sellers and end consumers and earns a commission for this service. That revenue stream also includes fees charged to sellers for other activities, such as packaging, credit-card processing, and other transaction processing activities. That business accounts for 80%-85% of Farfetch’s overall revenue with the balance derived from Platform Fulfillment Revenue and to a small extent In-Store Revenue.

New Acquisition Transformed Farfetch’s Revenue Mix 

In August, Farfetch announced the acquisition of New Guards Group, the Milan-based parent company of Off-White, Heron Preston and Palm Angels, in a deal valued at $675 million. New Guards will serve as the basis for a new business segment at Farfetch, one that it has named Brand Platform. Brand Platform will allow Farfetch to leverage New Guards’ design and product capabilities to expand the reach of its brands as well as develop new brands that span the Farfetch platform. For the 12-month period ending April 2019, the New Guards portfolio delivered revenue of $345 million, with profits before tax of $95 million. By comparison, Farfetch posted $654 million in revenue and an operating loss of $183 million over that time frame.

Clearly, another part of the thought behind acquiring New Guards and building the Brand Platform business is to improve the company’s margin and profit profile. And on the housekeeping front, the $675 million paid for New Guards will be equally split between cash and stock. Following its IPO last year, Farfetch ended the June quarter with roughly $1 billion in cash and equivalents on its balance sheet.

In many ways what we have here is a baby Amazon (AMZN) that is focused on luxury goods. Ah, the evolution of digital shopping! And while there are a number of publicly traded companies tied to digital shopping, there are few that focus solely on luxury goods.

Why Now is the Time to Add FTCH Shares

We are heading into the company’s seasonally strongest time of year, the holiday shopping season, and over the last few years, the December quarter has accounted for almost 35% of Farfetch’s annual sales. With the company’s active user base continuing to grow by leaps and bounds, that historical pattern is likely to repeat itself. Current consensus expectations have Farfetch hitting $964 million in revenue for all of 2019 and then $1.4 billion in 2020.

At the current share price, FTCH shares are trading at 1.6x expected 2020 sales on an enterprise value-to-sales basis. The consensus price target among the 10 Wall Street analysts that cover the stock is $22, which equates to an EV/2020 sales multiple of near 3.5x when adjusting for the pending New Guards acquisition. As we move through this valuation exercise, we have to factor into our thinking that Farfetch is not expected to become EBITDA positive until 2021. In our view, that warrants a bit of haircut on the multiple side and utilizing an EV/2020 sale multiple of 2.5x derives our $16 price target.

  • Despite that multiple, there is roughly 60% potential upside to that target vs. downside to the 52-week low of $8.82.
  • We are adding FTCH shares to the Thematic Leaders for our Living the Life investing theme.
  • A $16 price target is being set and we will wait to put any sort of stop-loss floor in place.

 

Digital Lifestyle – The August Retail Sales confirms the adoption continues

One of last week’s key economic reports was the August Retail Sales report due in part to the simple fact the consumer directly or indirectly accounts for two-thirds of the domestic economy. Moreover, with the manufacturing and industrial facing data – both economic and other third-party kinds, such as truck tonnage, railcar loadings and the like – softening in the June quarter, that quarter’s positive GDP print hinged entirely on the consumer. With domestic manufacturing and industrial data weakening further in July and August, the looming question being asked by many an investor is whether the consumer can keep the economy chugging along?

In recent months, I’ve voiced growing concerns over the spending health of the consumer as more data suggests a strengthening tailwind for our Middle-Class Squeeze investing theme. Some of that includes the Federal Reserve Bank of New York’s latest Household Debt and Credit Report, consumer household debt balances have been on the rise for five years and quarterly increases continue on a consecutive basis, bringing the second quarter 2019 total to $192 billion. Also a growing number of banks are warning over rising credit card delinquencies even as the Federal Reserve’s July Consumer Credit data showed revolving credit expanded at its fastest pace since November 2017.

Getting back to the August Retail Sale report, the headline print was a tad better than expected, however once we removed auto sales, retail sales for the month were flat. That’s on a sequential basis, but when viewed on a year over year one, retail sales excluding autos rose 3.5% year over year. That brought the year over year comparison for the three-months ending with August to up 3.4% and 1.5% stronger than the three months ending in May on the same basis.

Again, perspective can be illuminating when looking at the data, but what really shined during the month of August was digital shopping, which rose 16.0% year over year. That continued strength following the expected July surge in digital shopping due to Amazon Prime Day and all the others that looked to cash in on it led year over year digital shopping sales to rise 15.0% for the three months ending in August.

Without question, this aspect of our Digital Lifestyle investing theme continues to take consumer wallet share, primarily at the expense of brick & mortar retailers, especially department stores, which saw their August retail sales fall 5.4%. That continues the pain felt by department stores and helps explain why more than 7,000 brick & mortar locations have shuttered their doors thus far in 2019. Odds are there is more of that to come as consumers continue to shift their dollar purchase volume to online and mobile shopping as Walmart (WMT), Target (TGT) and others look to compete with Amazon Prime’s one day delivery.

  • For all the reasons discussed above, Amazon remains our Thematic King as we head into the seasonally strong holiday shopping season. 

 

Meatless alternatives are on the rise, but so is global meat consumption

Meatless alternatives are on the rise, but so is global meat consumption

One of the dangers investors is looking at the world with blinders on because it means missing the larger picture. For example, if we were to look at the recent stock price success of Beyond Meat, a new constituent in the Tematica Research Cleaner Living index, and chatter over the expanding reach of Impossible Foods, one might think the world was no longer interesting in meat.

To the contrary, we are continuing to see the tailwind of our New Global Middle-Class investing them spur demand for the protein complex.

When it comes to the burgers or steaks on your plate, looks and tastes can be deceiving as “meatless meat” and “plant-based meat” gain traction.

Sales of meat alternative grew 30% in 2018 compared to the previous year, according to Nielsen Product Insider.

While the alternative meat market could grow to be worth $140 billion globally in the next ten years, according to Barclays, it’s still a small percentage of the current $1.4 trillion global meat market which is also showing no signs of slowing down.

Still, the demand for alternatives has increased.

Despite the trend in eating plant-based “meat,” global consumption for meat is still on the rise, driven in part by countries like China and Brazil which saw a massive increase in recent decades.

The average person in China, for instance, went from consuming just nine pounds of meat per year in 1961, to 137 pounds per year in 2013, according to The Economist.

“As countries get wealthier, there’s a tendency to eat more meat as a sign of wealth, as a sign of like, ‘I can afford it,’” said Lily Ng, CEO of Foodie, a food magazine and online platform based in Hong Kong.

Globally, the average amount of meat consumption has nearly doubled over the past 50 years.

Although, countries including the U.S. and the U.K. may have reached a so-called “Meat Peak” — which means total meat consumption has hit a peak and declined slightly recently. In addition to that, one in three people in the U.K. says they’ve stopped or cut down on eating meat, according to a survey by Waitrose supermarket.

Source: Meatless alternatives are on the rise, so is global meat consumption

After years of growth, Chinese tourism to the US falls

After years of growth, Chinese tourism to the US falls

The impact of the slowing global economy and current trade war can be found in a number of places. The most common is the equity markets, which have seen their 2019 gains recede. We’ve also seen US retailers report dismal quarterly results of late, with falling same-store comparisons. But another victim has been China led tourism to the U.S., which historically has brought Chinese consumers looking to snap up branded US goods as part of our Living the Life investing theme.

While the latest data shows a drop in 2018, so far this year US-China trade tensions have increased dramatically complete with another round of tariff increases on both sides. This combination is likely to divert Chinese travelers to the US yet again this year searching for luxury goods that are not impacted by trade tariffs. This suggests that at least one of several drivers of the challenging environment for US retailers is poised to continue.

Chinese tourism to the U.S. was down in 2018 for the first time since 2003 as the trade war between the two countries rages on.

According to a report in the AP, citing the National Travel and Tourism Office, travel from China to the U.S. declined 5.7 percent to 2.9 million visitors last year, marking the first year-over-year decline since 2003. Tensions between China and the U.S. was cited as one of the reasons fewer tourists are visiting.

Earlier this month, President Donald Trump slapped tariffs on $200 billion worth of Chinese products coming into the U.S. The White House also blacklisted Huawei, the Chinese telecom player, preventing it from doing business in the country. China has retaliated with its own tariffs on $60 billion of U.S. products coming into China. The report noted that in the summer of 2018, China issued a travel warning, urging its citizens to be careful due to shootings, robberies and costly medical care in the U.S. The U.S. countered with its own travel warning for U.S. citizens visiting China.

In addition to the trade war, the AP reported that economic concerns on the part of Chinese consumers are limiting travel to the U.S. Chinese citizens with less income are opting to vacation closer to home, noted Wolfgang Georg Arlt, the director of the Chinese Outbound Tourism Research Institute. The research firm said 56 percent of travelers leaving China in the last 90 days of 2018 were headed for Hong Kong, Macau or Taiwan, up from 50 percent in 2017. The Chinese consumers that are venturing farther are visiting exotic places including Croatia, Morocco and Nepal.

Industry watchers said the decline in Chinese tourism to the U.S. isn’t likely to last for long, as the middle class in China is expected to continue to grow. The U.S. expects Chinese tourism to increase by 2 percent in 2019, reaching 3.3 million visitors. By 2023, the U.S. government expects that will increase to 4.1 million visitors. “Even if the Chinese economy cools, it’s still going to continue to be a very good source of growth for the travel industry,” said David Huether, senior vice president of research for the U.S. Travel Association.

Source: Chinese Tourism To US Down After Years Of Growth | PYMNTS.com

Latin American Broadband Penetration to Cross Over 50% by 2020

Latin American Broadband Penetration to Cross Over 50% by 2020

In the United States over 80% of households enjoy broadband internet access, a fact that many of us take for granted and as we stream media to our TV’s and other devices and install IoT devices in an attempt to achieve the perfectly “connected home”.  Of course, no country has reached the heights of South Korea when it comes to broadband penetration — crossing over 100% as of the end of 2017.

When it comes to Latin America, the penetration of broadband has lagged the rest of the world; however that is changing:

Latin America’s broadband penetration reached 45 per cent of households in 2018 from a previous 43 per cent in 2017. Going forward, 10 million new accesses are expected within two years and internet household penetration will reach 50 per cent of households in 2020, according to GlobalData, a data and analytics company.Ivan Maldonado, Technology Analyst at GlobalData commented, “The total number of fixed broadband household penetration will rise 2 per cent or 5 million broadband connections in 2019, driven by telecommunication operators, reaching a household penetration of 47 per cent for the same period.”

Source: Analyst: LatAm broadband penetration at 50% by 2020 |

The expansion of broadband access across Latin America is a strong tailwind not only for our Digital Infrastructure theme, for also for our New Global Middle Class investment theme, which focuses on areas around the world where rising disposable incomes are driving demand for a host of products and services. And of course, with more disposable income and an improved digital infrastructure, this development also provides a tailwind for companies such as Netflix (NFLX), Disney (DIS) and Amazon (AMZN) that are riding the Digital Lifestyle tailwinds.

Weekly Issue: A number of Thematic Leaders delivered outsized returns during Q1

Weekly Issue: A number of Thematic Leaders delivered outsized returns during Q1


Key points inside this issue

  • Despite a slowing global economy, the March quarter was a barn burner for stocks, but risks remain heading into the March quarter earnings season.
  • Our price target on Apple (AAPL) remains $225. 
  • Our price target on shares of Living the Life Thematic Leader Del Frisco’s Restaurant Group (DFRG) remains $14.
  • Our price target on Universal Display (OLED) shares of $150 is under review. 


Last week brought the March quarter to a close, and even though Friday’s personal income and spending data confirmed a slowing economy, it was the best quarter in nearly a decade for stocks. 

The bulk of the double-digit gains across all of the major domestic stock market indices — the Dow Jones Industrial Average, S&P 500, Nasdaq Composite Index, and the Russell 2000 — came early in the quarter due to positive expectations for U.S.-China trade talks, even as the market shrugged off the federal government shutdown. As the quarter wore on, data pointed to a slowing global economy, with more pronounced weakness in China, Japan and Europe, leaving the U.S. the best house on the slowing economic block. Even so, the domestic data point to a markedly slower U.S. economy compared to the second half of 2018, which in part reflects the anniversary of tax reform, but also consumers that increasingly appear to be hitting a spending wall.

Companies are also contending with higher wage costs, due in part to minimum wage hikes, as well as certain higher input costs. And of course, there is the current trade war with China that is also presenting a headwind, as is the slowing economies in Europe and Japan, especially given the year-over-year strength in the dollar, as you can see in the chart below.

In sum, we’ve seen a number of these headwinds result in reduced earnings expectations for the current quarter, and we’re now beginning to see companies once again trim back expectations. Last Thursday night DowDuPont Inc. (DWDP) slashed its sales and profits forecasts, joining the ranks of Infineon Technologies AG (IFX), Samsung Electronics Co., Ltd., Osram and others. This week, it was Walgreens Boots Alliance (WBA) that shared it had “the most difficult quarter we have had since the formation of Walgreens Boots Alliance.

On Monday we received a slew of economic data that included the March Manufacturing PMI data for China, Japan, the eurozone and the U.S. as well as the March ISM Manufacturing Index and February Retail Sales figures. There were bright spots inside this sea of data, most notably the March ISM Manufacturing Index that surprised modestly to the upside and showed a pickup in orders and employment.

That positive report was tempered by the IHS Markit Manufacturing PMI for the U.S., which showed a month-over-month decline in March and hit its lowest level since mid- 2017. As that report noted, “New order growth has fallen close to the lows seen in the 2016 slowdown, often linked to disappointing exports, tariffs and signs of increasing caution among customers.” This trend points to continued slow growth ahead for the domestic economy, though the latest data as a whole still leave the U.S. as the fastest-growing economy compared to China, Japan and the eurozone.

As for the February Retail Sales Report, it once again missed expectations, declining 0.2% month over month. This marks the third flat to down sequential comparison for this data set in the last four months. Viewing the data on a year-over-year basis, retail sales for the month rose 2.1%, which confirms a slower but still growing U.S. economy. While we don’t want to put too sunny of a view on it, the February year- over-year comparison was ahead of the 2.0% growth pace of the trailing three months. Still, there was no question the year-over-year rate of spending in February slowed compared to January.

While we don’t want to put too sunny of a view on it, the February year- over-year comparison was ahead of the 2.0% growth pace of the trailing three months. Still, there was no question the year-over-year rate of spending in February slowed compared to January.

In my view, this looks to be setting up a volatile earnings season, with earnings guidance that is likely to disappoint and lead to downward revisions for the June quarter as companies reset expectations. We will continue to be prudent, longer-term focused investors that take our cues from our 10 investing themes and the confirming signals to be had.


Tematica Investing

As we put the March quarter in the rear-view mirror, the market will continue to look for hope in a U.S.-China trade deal but given the factors outlined above, I see greater risk to the downside, generally speaking, than upside, as we begin the March-quarter earnings season. The stalwart among them was Clean Living Leader Chipotle Mexican Grill (CMG), as its shares rose more than 60% during the first three months of the year. Digital Lifestyle Leader Netflix (NFLX) as well as New Global Middle Class Leader, Alibaba (BABA), soared more than 30% during the quarter, and Thematic King Amazon (AMZN) climbed 20%. 

The quarter wasn’t without its challenges given declines experienced at Aging of the Population Leader AMN Healthcare (AMN), but as I am seeing with my 87 year old father, the need for elder care is pronounced and bodes well for nursing demand in the coming years. We will continue to hold AMN shares. Another laggard is Dycom Industries (DY), better known as the Digital Infrastructure Leader, which is positioned to benefit from the 5G and gigabit network buildout. We’re entering the seasonally strong time of the year for Dycom, which also brings us closer to initial 5G launches from AT&T (T), Verizon (VZ), T-Mobile USA (TMUS) and others. As with AMN shares, we will continue to hold DY shares as well. 

Now let’s dig into several Thematic Leaders and Select List positions that made news over the last week. 


Apple’s video and gaming efforts are interesting but not in the short-term

During the March quarter, Apple’s (AAPL) shares rebounded hard, rising just over 20%. Some of that climb was due to the excitement ahead of Apple’s services focused event last week, which candidly was largely as expected given prior news leaks. Leading up to the event we saw iPad, Mac and AirPod refreshes, but the event itself focused on Apple Card, Apple News+ and AppleTV+. The one surprise was the announcement of a streaming gaming service, which like AppleTV+ will debut later this year. 

As such while they are positives for the Services business, they will have little impact on the company’s bottom line near-term. That said, Canaccord Genuity upped its price target to $230 from $185 this week. The reality of the situation is that as much as we like content and Apple is looking to use it to make its devices and ecosystem even stickier with customers inside the Digital Lifestyle, in the near-term the primary driver of the company’s profits will continue to be the iPhone. 

  • Our price target on Apple (AAPL) remains $225. A key point to that target is the eventual upgrade cycle tied to 5G and the iPhone, which given our Dycom comments above, increasingly looks like it will happen in the second half of 2020.


Frustrated with Del Frisco’s Restaurant Group, but holding steady

If you’re growing frustrated with this Thematic Leader, you are not alone. During the March quarter, DFRG shares fell roughly 10%, but the inter quarter swing was far greater than that. What’s weighing on the shares is lack of news on the company’s strategic review process. Per some reports, the company could be cleaved into two parts to different buyers, which if true would explain the pronounced timetable.

From a fundamental perspective, while overall restaurant traffic and other metrics fell in February according to data published by TDN2K, the bulk of that decline was at fast casual restaurants, to which we have no exposure. Digging into the data, we find  fine dining was the best-performing industry segment during February for same-store sales growth. While I like such confirming data, as I noted above the DFRG share price will continue to be driven by any and all strategic review developments. This will continue to be our point of focus for now.

 Our plan is to hold DFRG as the takeout story evolves further, but as we have said previously, odds are we will use a deal- related pop in the stock to exit the position. 

  • Our price target on shares of Living the Life Thematic Leader Del Frisco’s Restaurant Group (DFRG) remains $14.


Universal Display should continue to shine

Universal Display (OLED) shares shined bright during the first quarter rising easily more than 50%. Yesterday, there were thesis confirming reports for the adoption of organic light emitting diode display that will drive demand for Universal’s chemical and IP licensing businesses. Those reports centered on Apple (AAPL) shifting its entire production of iPhones to organic light-emitting diode displays in 2020.

These same reports also suggest Apple will have three different- size iPhones, measuring 5.42 inches, 6.06 inches and 6.67 inches. While the varied iPhone sizing is new, we heard similar hints about the switch in display technology several months ago. We see this as follow up to that, which in our view increases the likelihood of this happening.

We’d also note the timing of these models and the display transition seem to coincide with the potential debut of a 5G iPhone. In light of the incremental RF chips the 5G model will contain, it makes sense that Apple would look to adopt this display technology for both space as well as power savings.

While we like seeing our investment thesis confirmed here, I’d note that not only have OLED shares climbed substantially over the last three months, but the transition to all organic light-emitting diode displays at Apple, and most likely others, is several quarters out. We will continue to be long- term investors in OLED shares. However, given market conditions and the upcoming earning season we could see OLED shares give some of its gains back in the near-term. We’ll continue to focus on the long-term opportunity not only in the smartphone market but in automotive and eventually the general illumination market. 

  • Our price target on Universal Display (OLED) shares of $150 is under review. 
Why Goldman Sachs Is Interested in a Small Bike Shop in Mexico – WSJ

Why Goldman Sachs Is Interested in a Small Bike Shop in Mexico – WSJ

 

Goldman Sach’s (GS) recent move into the more entrepreneurial side of Mexico via a credit line of up to $100 million to a four-year old fintech firm (Creditjusto) that specializes in making 3-year loans to small businesses is yet another aspect of our Rise of the New Middle Class. Advances in both technology and in finance are enabling individuals and small companies in emerging markets to access resources that had been previously completely unobtainable. This is allowing for access to the tools of wealth creation across a wider range of society, providing a tailwind for our Rise of the New Middle-Class Investing theme.

According to a recent WSJ article,

The bulk of lending by Mexican banks targets large corporations, home mortgages and consumers, according to the Bank of Mexico. More than 80% of Mexican small businesses rely primarily on supplier financing, not bank credit, Banxico said.

This is changing however, fueling the fires of innovation and entrepreneurship in countries in which such growth was limited.

A host of new online lending platforms and supply-chain financing services have popped up in recent years in Mexico to help fill the void, said Andres Fontao, a co-founder and managing partner of Finnovista, a firm that advises fintech startups.

As companies like Creditjusto expand, offering needed capital to fund growth, so will Mexico’s Middle Class. As the Wall Street Journal points out,

Goldman’s involvement is a reminder of how small fintech companies are challenging and reshaping the banking industry, especially in developing markets like Latin America.

Source: Why Goldman Sachs Is Interested in a Small Bike Shop in Mexico – WSJ

Slowing growth and rising debt hit China luxury brand sales

Slowing growth and rising debt hit China luxury brand sales

Over the last several months, we’ve received several pieces of data that not only point to a slowing global economy, particularly at Europe and China but also to growing worries over the consumer’s ability to spend. We’ve covered the US data points rather thoroughly on this episode of the Cocktail Investing Podcast as part of our Middle-class Squeeze investing theme. When it comes to China, from the CEIC shows why luxury goods companies associated with our Living the Life investing theme are seeing falling sales. Per the CEIC, China’s household debt as a percentage of GDP surged to 53.2% in December, from 36% five years earlier. While that remains below the global average of 62%, it’s the pace of growth that has caused concern likely leading to either a re-think or retrenchment in Chinses consumer spending.

Factor in the recent problems associated with Boeing’s 737 Max aircraft that are likely to crimp international air travel, and the outlook for luxury goods companies and others associated with our Living the Life investing theme, at least in the near-term, look for less vibrant than they have in several years. Casting a shadow as well is the latest pushout in US-China trade talks that appear to have slipped to June from March/April.

Prada SpA shares fell to the lowest close since 2016 as slower Chinese spending contributed to an unexpected drop in the Italian fashion house’s annual profit.

The Hong Kong-listed luxury group attributed a slump in Asia mostly to Chinese tourists reining in spending in Hong Kong and Macau because of the weakness in the yuan. Other luxury brands, including Kering SA’s Gucci, have seen the impact of softer buying by Chinese tourists offset by increased spending on the mainland, but Prada failed to get a similar boost from Chinese spending at home, said Citigroup analysts led by Thomas Chauvet.

Prada’s China sales were flat for the year, a “significant swing” after a first-half gain of 17 percent, Citigroup said. Monday’s stock plunge after the disappointing earnings shaved $864 million off the company’s market value.

Chinese consumers have turned more cautious amid the slowest economic expansion in almost three decades and a trade war with the U.S. While cars and iPhones have seen bigger slumps so far, Prada’s results could spark worry that China’s newly wealthy middle class is scaling back on high-end purchases. For an industry that relies on Chinese demand for 30 percent of $1 trillion in global luxury spending, that’s a chilling prospect.

Source: Prada Loses $864 Million in Value as China Slump Hits Profit – Bloomberg

Weekly Issue: Talking Thematics, Boeing and Retail Sales

Weekly Issue: Talking Thematics, Boeing and Retail Sales

Key points inside this issue

  • We are issuing a Buy on and adding shares of Energous Corp. (WATT) to the Select List as part of our Disruptive Innovators investing theme with an $11 price target.
  • We will continue to patiently hold Thematic Leader Del Frisco’s Restaurant Group (DFRG) shares as the Board continues to review potential strategic alternatives.

 

I’m just back from some meeting in New York, and it was a busy trip that included visits with Yahoo Finance and Cheddar to discuss the January retail sales report and the gyrations in the Dow Jones Industrial Average given the issues and concerns that have erupted with Boeing (BA) following another 737 MAX aircraft crash over the weekend. You can watch my appearance on Yahoo Finance here and the one with Cheddar here, but quickly on those two items, while the January retail sales report was better than expected, the headline figure for December was revised lower from the first negative print we received.

Also, we’ve started to get February same-store comp sales and from a growing number of retailers, those figures have been negative. And you’ve probably noticed that we are once again seeing a sea of store closures being announced by retailers. If you haven’t, I walked through some of these on last week’s Cocktail Investing podcast, which you can listen to here. As I pointed out on my appearances on Yahoo Finance and Cheddar, we are seeing a bifurcation in the retail land. Those that are riding the tailwinds associated with our Living the Life and Middle-Class Squeeze investing themes are thriving, while those caught in between – Macy’s (M), Gap (GPS), L Brands (LB) and others – are struggling once again. We here at Tematica have talked about rising consumer debt and delinquency levels, and I continue to see those increasingly cash-strapped consumers turning to off-price retailers and warehouse clubs, like Middle-Class Squeeze leader Costco Wholesale (COST) in the coming months.

With regard to Boeing, while it isn’t a Thematic Leader or on the Select List, the demand for its aircraft is being powered by international air travel, particularly out of Asia, which fits very well with our New Global Middle-Class investing theme. The issue plaguing the company and its shares is two 737 MAX planes have crashed in a relatively short time, and this has led several countries to ground those planes as issues behind the most recent crash are sought. This has raised several questions for Boeing as the 737 family is an important one, accounting for 80% of its aircraft backlog entering 2019 and 58% of its January order book. How long will those planes be grounded? What does it mean for future 737 family orders and production levels that drive revenue, profits, and earnings?

In the past Boeing has quickly dealt with situations such as these, and it has already announced an extensive change to the flight-control system in the 737 MAX aircraft. I’ll continue to watch these developments and gauge the impact to be had on2019 expectations. Odds are they will be coming in from where they were just a few weeks ago. In the past, these situations, while dreadful, have offered a favorable entry point to BA shares provided the timing is right. Right now, it seems to be a tad too early, but with upside to $450, it’s one to watch closely.

On a side note, the Boeing issue highlights a key difference in how the major market indices are constructed. BA shares account for just under 10% of Dow Jones Industrial Average, which means the recent stock pressure has weighed on that index heavily. This explains the wide difference this week between how the Dow has performed vs. the S&P 500, which only has 0.9% exposure to Boeing shares. That’s a huge difference, and it points to understanding the ins and outs of the indices for not only the market but for any passive ETFs that one may own. In the case of Boeing, there are a number of ETFs that hold the shares, but one of the ones with sizable exposure is the ETFMG Drone Economy Strategy ETF (IFLY). That ETF, which looks to invest in drones, holds 4.96% of its assets in BA shares, even though its revenues from drones and other autonomous systems are so small they aren’t even broken out by the company in SEC filings.

 

Tematica Investing

 

Powering up the Select List with WATT shares

In our increasingly connected society, two of the big annoyances we must deal with are keeping our devices charged and all the cords we need to charge them. When I upgraded my iPhone to one of the newer models, I was pleasantly surprised by the ease of charging it wirelessly by laying it on a charging disc. Pretty easy.

I’m hardly alone in appreciating this convenience, and we’ve heard that companies ranging from Tesla Inc. (TSLA) to Apple Inc. (AAPL) are looking to bring charging pads to market. That means a potential sea change in how we charge our devices is in the offing, which means a potential growth market for a company that has the necessary chipsets to power one or more of those pads. In other words, if there were no such chipsets, we would not be able to charge wirelessly.

Off to digging, I went to see if there is a pure-play company that fits this Disruptive Innovator investment theme charge (and yes, that was a very poor pun on my part.) What I turned up was Energous Corp. (WATT) and its WattUp solution. WattUp consists of proprietary semiconductor chipsets, software and antennas that enable radio frequency (RF)-based, wire-free charging of electronic devices. Like the charging disc I have, and the ones depicted by Apple, WattUp is both a contact-based charging and at-a-distance charging solution, which means all we need do is lay our wireless devices down be it on a disc, pad or other contraption to charge them. In November 2016, Energous entered into a Strategic Alliance Agreement with Dialog Semiconductor (DLGNF), under which Dialog manufactures and distributes IC products incorporating its wire-free charging technology.

Dialog happens to be the exclusive supplier of these Energous products for the general market and Dialog is also a well-known power management supplier to Apple across several products, including the iPhone. Indeed, last week Dialog bucked the headline trend of late and shared that it isn’t seeing a demand hit from Apple after fellow suppliers Lumentum Holdings Inc. (LITE) and Qorvo Inc. (QRCO) cut guidance earlier this week.

On its September quarter earnings call, Dialog shared it was awarded a broad range of new contracts, including charging across multiple next-generation products assets, with revenue expected to be realized starting in 2019 and accelerating into 2020. I already can feel several mental carts getting ahead of the horse as some think, “Ah, Energous might be the technology that will power Apple’s wireless charging solution!”

Adding fuel to that fire, on its September quarter earnings conference call Energous shared that “given the most recent advances in our core technology” its relationship with its key strategic partner – Dialog – “has now progressed beyond development, exploration and testing to actual product engineering.”

Since then, there have been several additional developments:

  • In late December, Energous announced its first commercial product to receive FCC approval, the WattUp-enabled personal sound amplification products (PSAPs) from Delight. Energous’ WattUp wireless technology allows the Delight PSAP to charge on a charging pad. The products are now certified to be marketed and sold in the United States.
  • At CES in January, Energous launched Wireless Charging 2.0 and demonstrated with Deutsche Telekom (DTEGY) a transmitter design that can charge multiple electronic devices at a distance.
  • We are hearing renewed chatter that Apple’s (AAPL) delayed wireless charging solution, known as the Airpower charging mat, is likely to hit shelves in the coming months. As I pointed out, Apple has long used Dialog Semiconductor (DLGNF) for its power solutions and Dialog is the exclusive supplier for Energous products. In early January, Apple supplier Luxshare Precision initiated AirPower production and that would seem to confirm rumored timetables that AirPower would begin shipping during the first half of 2019.
  • In the company’s December quarter earnings release, Energous shared that on the back of a favorable showing at the CES 2019 and Mobile World Congress 2019, “no less than 10 companies currently tracking for product launches to the consumer in 2019 with chip sales starting in the first half of the year and ramping in the second half.”

Taken together these recent developments point to robust revenue growth for Energous (WATT) compared to the $1.1 million-$1.4 million range between what was reported in 2017 and what’s expected for 2018. Current consensus estimates have the company delivering revenue of $94 million in 2020, which reflects a full year of shipping product. Two points of caution on that forecast: First, it comes from a combination of two Wall Street analysts, which is not a wide enough number that inspires 100% confidence; Second, Energous is on the cusp of going from essentially a start-up company to a real one, and odds are there will be fits and starts, delays and pushouts along the way. This will require us to be patient with the shares, but it also means continuously evaluating the competitive landscape.

As that revenue ramp and bottom-line improvement come to fruition, valuation metrics are likely to move higher for WATT shares. There is also potential upside following the eventual teardown analysis of Apple’s Airpower charging mat, which could very well bring the Apple halo to WATT.

So why now with WATT shares?

Alongside the company’s December quarter earnings report, it also completed a $25 million common stock offering of 3.3 million shares priced “in the hole” at $7.70. I say “in the hole” because prior to that offering the shares were trading well above $9. For some, that was clearly a disappointment, especially given the $20.1 million the company had in cash on its balance sheet exiting 2018. Odds are the company entered into this transaction in order to have sufficient capital as it heads into the oncoming production ramp to meet demand from these “no less than 10 customers.” Not a great transaction, but also not a horrible thing given that it likely heads off an even more painful one later on. For us, it’s given us the opportunity to get into WATT shares at a far better price point.

Our 12-18-month price target on WATT shares is $11, which equates to an enterprise value to 2020 revenue multiple of 4.0x vs. the current 2.4x multiple. If you’re thinking the combination of revenue growth and that valuation framework could make Energous a takeout candidate, I would have to agree.

  • We are issuing a Buy on and adding shares of Energous Corp. (WATT) to the Select List as part of our Disruptive Innovators investing theme with an $11 price target.

 

Del Frisco’s delivers, but no word on the strategic alternatives

Yesterday, Living the Life Thematic Leader Del Frisco’s (DFRG) reported its December quarter results, which were modestly ahead of expectations. On the company’s earnings call it reviewed the usual metrics and shared a long-term favorable outlook, which candidly was expected. What the company did not say, however, was anything about the strategic initiatives it is reviewing. Recall that several months ago, the company added a new Board member with investment banking experience to spearhead this activity. Given the level of steak house M&A that has happened in recent years, due in part to the more defensive nature of higher-end dining vs. casual restaurants, they’ve been a sought-after asset.

With Just One More Restaurant, the company that licenses the Palm Steakhouse name, filing for Chapter 11 late last week due to fiduciary misconduct, there is one less prospect to be had. Much like a game of musical chairs, as the number of seats or in this case steak house businesses drop, they become more valuable. We will continue to patiently hold DFRG shares as the Board continues to review the alternatives. Should a transaction fail to emerge, I am inclined to revisit the company’s position on the Thematic Leader board.

  • For now, we will continue to patiently hold Thematic Leader Del Frisco’s Restaurant Group (DFRG) shares as the Board continues to review potential strategic alternatives.

 

 

You had me at chicken abnormalities and woody breast meat

You had me at chicken abnormalities and woody breast meat

Examining revenue growth at chicken-producing companies such as Tyson Foods and Sanderson Farms shows a surge in chicken consumption over the last several years. Some of this has to do with the consumer shift to healthier eating and alternative low-carb lifestyles that focus on protein consumption as well as rising demand associated with our New Global Middle-class investing theme. In a bid to meet demand, chicken producers have sought solutions to grow more birds and make them bigger to render more meat, but there have been abnormalities about these fast-growing birds that are prompting questions. When we hear abnormalities and problems when it comes to the food we eat, we see it as a prompt for consumers to knowingly look for foods that are in line with our Cleaner Living investment theme.  We are after all what we eat.

Chicken companies spent decades breeding birds to grow rapidly and develop large breast muscles. Now the industry is spending hundreds of millions of dollars to deal with the consequences ranging from squishy fillets known as “spaghetti meat,” because they pull apart easily, to leathery ones known as “woody breast.”

The abnormalities pose no food safety risk, researchers and industry officials say. They are suspected side effects of genetic selection that now allows meat companies to raise a 6.3-pound bird in 47 days, roughly twice as fast as 50 years ago, according to the National Chicken Council.

Researchers and breeders are still trying to pin down the exact cause of problems, a Tyson spokesman said. “While there are some factors linked to the occurrence—including bird weight, feed ingredients and the time of year the bird is grown—even a combination of these factors will not necessarily produce the same issues consistently,” he said.

That efficiency drive has helped U.S. meat giants such as Tyson Foods., Pilgrim’s Pride Corp, Perdue Farms Inc. and Sanderson Farms Inc. produce a record 42 billion pounds of chicken nuggets, tenders and other products in 2018. Now, it’s adding an estimated $200 million or more in annual industry expenses to identify and divert breast fillets that are too tough, too squishy or too striped with bands of white tissue to sell in restaurants or grocery stores, according to researchers at the University of Arkansas.

“There is proof that these abnormalities are associated with fast-growing birds,” said Dr. Massimiliano Petracci, a professor at the University of Bologna in Italy, who leads a team of researchers investigating the chicken breast problems in breeds used in commercial farms.

 

Source: Fast-Growth Chickens Produce New Industry Woe: ‘Spaghetti Meat’ – WSJ

New Global Middle Class and Digital Lifestyle Converge at Walgreens 

New Global Middle Class and Digital Lifestyle Converge at Walgreens 

A few days ago we ran across a story that probably didn’t make headlines in too many places. Here at Tematica, however, it was quickly shared with the team because it perfectly depicts the coming together of two of our investment themes: The New Global Middle Class and the Digital Lifestyle. Here is part of the story from Mediapost.com:

Walgreens is adding the Alipay mobile payment platform to more than 7,000 Walgreens locations nationwide. Alipay, operated by Ant Financial Services Group and used by 1 billion people globally, will allow shoppers at Walgreens to use the same payment system commonly used in China. More than two-thirds of Chinese tourists used smartphones for payments abroad last year, according to Nielsen.The Alipay deployment will allow Walgreens to offer the payment system to more than 4 million Chinese travelers in the U.S. at any given time, and Walgreens is the largest U.S. drugstore chain to deploy Alipay, according to Walgreens. “Walgreens is focused on making shopping more convenient for our customers. This collaboration has particular significance for our Chinese customer population, who now has a new way to experience Walgreens,” stated Richard Ashworth, Walgreens president of operations. “Not only can they buy our products via our dedicated store on Alibaba’s Tmall Global marketplace, but they will now also be able to shop in the U.S. using Alipay as they would in China.”

Source: Walgreens Starts Accepting Alipay Payments Nationwide 02/19/2019

 

So here we have a U.S. retailer adding a mobile payment option specifically to cater to tourists coming from China.  The global leader in mobile payments is mainland China, where 61% of worldwide users are based, and Alipay has emerged as the dominant provider, boasting over 850 million active users. In 2018, there were reports of apparel brand Guess adding Alipay as a payment option in 50 of its U.S. stores. That move by Guess followed on the heels of brands such as Lacoste, GNC, Rebecca Minkoff, Holt Renfrew and Harry Rosen offering up Alipay at checkout.

What we will be monitoring closely at Tematica Reseach is whether the use of Alipay can gain a foothold in the U.S. market beyond Chinese tourists. With over 189 million active iPhones in the United States, and most of those Apple (AAPL) devices equipped with the Apple Pay feature, a 2018 survey by CivicScience showed only 1 percent of respondents used mobile payments as their primary payment method over credit and debit cards or cash. With the average Chinese tourist spending over $5,000 on overseas trips, anything retailers can do to reduce the friction of a transaction is well worth it and U.S. consumers witnessing the ease of checkout for those tourists might just tip the balance across other apps as well.