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Tiffany & Co Sparkling After Less-Bad-Than-Feared Earnings Report

After spending all of 2015 year to date in dull trading range, shares of Tiffany & Co (TIF) were sparkling this week on the back of a better-than-expected earnings release.

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So, with the market now trading sideways and investors getting skittish, might TIF stock be a diamond in the rough?

Let’s take a look.

Tiffany & Co’s results look a lot less glittering and fabulous when you dig into the numbers. Total sales were actually down 5% in the quarter ended April 30, pulled lower by weak overseas sales, particularly in Japan. And earnings per share dropped 16%, from $0.97 to $0.81.

So, if sales and earnings were both down, what explains investor enthusiasm for TIF stock this morning?

I have two words for you: expectations and comps.

We’ll start with expectations. Tiffany & Co set the bar very low going into this release. In March, TIF said that it expected revenues to be down by as much as 10%. So being down “only” 5% looks fantastic by comparison.

Tiffany & Co actually had a respectable quarter in the Americas and Europe, where sales were up 1% and 2%, respectively, over the same quarter last year. Excluding the effects of a strong dollar, European sales were actually up 21% and same-store sales were up 17%. For a continent that is still struggling to shake off the effects of its worst recession since the 1930s, that’s nothing short of amazing.

It’s in Japan that the numbers start to look ugly. Total sales were down 30%, due in part to the collapsing value of the yen. But even excluding currency effects, Japanese sales were down 18%. Same store sales were down 24%.

This is where the comps come into play. The Japanese numbers look particularly bad because they are being compared to artificially high numbers from the previous year. Japanese consumers went on a spending binge in the first quarter of last year in anticipation of Shinzo Abe’s sales tax hike. On April 1 of last year, the Japanese sales tax rate jumped from 5% to 8%, so Japanese shoppers took a “now or never” approach to high-end shopping. Spending fell off a cliff in the quarters that followed, so Tiffany & Co’s Japanese comps should look a lot better next quarter.

So, what are the takeaways here?

The good news is that European luxury shoppers are opening their wallets again and that the worst damage has already been done to Japanese sales. The bad news—for Tiffany & Co and for American luxury retailers in general—is that the strong dollar is a major headwind.

A little over half of Tiffany’s reported sales come from overseas, but the number is actually a lot higher than that. Foreign tourists make up a high but hard-to-quantify percentage of domestic U.S. sales, particularly in the flagship New York store of Breakfast at Tiffany’s fame.

In a roaring market for luxury goods, the effects of a strong dollar could be overcome by even stronger foreign sales. But that’s not our situation today. Japan is still limping along, and China’s growth is slowing. It also doesn’t help that conspicuous consumption is passé in China after the government’s crackdown on bribery and gift giving.

So, Tiffany & Co and its peers will be operating in a very difficult environment for as long as the dollar remains strong.

What about TIF stock? Tiffany is an iconic brand and a wildly profitably company. But with shares fetching 25 times trailing earnings and 20 times next year’s expected earnings, the stock is by no means a screaming bargain. On a good pullback, TIF stock is worth considering. But for now, it might be best to leave it in its pretty blue box.

Disclosures: None

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.

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The Charter – Time Warner Merger: Big Cable Tries to Stave Off the Inevitable

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Charter Communications, Inc (CHTR) is looking to succeed where rival Comcast Corporation (CMCSA) failed in acquiring Time Warner Cable Inc. (TWC). Charter is buying Time Warner Cable for $55.3 billion ($79 billion including debt assumed). Time Warner Cable shareholders will get $195.71 per share in cash and Charter stock, a 14% premium over the market price going into the deal. After the merger, the new Charter Communications would be the second-largest cable TV and internet provider in America.

This assumes, of course, that the regulators let it happen. Comcast, America’s largest cable and internet provider, had its dreams of acquiring Time Warner shattered by regulators earlier this year. This time around, the regulators are less likely to get in the way, as the new Charter – Time Warner combo will still be smaller than Comcast.

Cable viewers were no doubt relieved when the original Comcast takeover was squashed. Comcast was named the “Worst Company in America” in 2014 for its… shall we say… “less than stellar” customer service, and Comcast has the unflattering distinction of being the only company in America to win the award twice. For what it’s worth, Time Warner Cable made a competitive run at Worst Company itself, as did Verizon (VZ) and AT&T (T). Customer satisfaction in cable and internet leaves a little something to be desired.

But while cable and internet customers are no doubt groaning about their service providers getting bigger and even more aloof, investors should be cheering. The industry is changing rapidly and with size comes pricing power.

There are actually quite a few moving parts here. Cable TV and internet are two very different products, even if they are provided by the same companies. Cable TV is a premium product with premium pricing, but internet service is far more commoditized. While differences certainly exist between providers in terms of speed and reliability, most consumers will never know the difference. The only thing they see is the price they pay.

But as things stand now, both service models are at risk for the established players. I’ll start with cable TV.

Cable TV is doomed, and I’ll explain why with an example. For the first time in years, I had the pleasure of getting together with three of my cousins this past weekend. The four of us are all highly-educated, tech-savvy Generation Xers with above-average incomes. And as we sat around the fire pit chatting and drinking a local craft brew (yes, we fall into that stereotype), it came out that none of us paid for cable TV. Not a single one of us. We all get by with a combination of over-the-air antennae and internet streaming services like Netflix (NFLX) and Hulu. And for that occasional football game we can’t get at home, we go to a sports bar.

And I should emphasize that we are Gen Xers. The younger Millennials are even less likely than my generation to pay for TV. About a quarter of Millennials have cut the cord or have never paid for TV. As streaming services get better, that number will only rise. This leaves the cable providers ever more at the mercy of the aging Baby Boomers.

What’s more, Apple (AAPL) and Dish Networks (DISH) are aiming to land a crushing blow to the traditional cable model with their cheaper, slimmed-down paid-TV offerings that can be delivered over the internet to any connected device. Apple’s product has not been released yet, but Dish now offers 16 core channels for just $20 per month with no contract and no installation or hardware costs. While Dish’s Sling TV has not made much of a splash just yet, I expect that Apple’s will be a game changer. At the end of the day, there are diminishing marginal returns to additional cable channels. Most consumers would be happy to pay less each month and forgo watching Japanese girls soccer or Bangladeshi cricket on ESPN 47.

A consolidated cable TV industry cannot fight an inevitable shift in consumer preferences…particularly considering how tone deaf the industry has become over the years. But a consolidated industry is certainly in a better position to compete than a fragmented industry.

As for internet service, the story is much the same. In addition to fighting amongst themselves, the internet service providers are now having to compete with Google’s (GOOGL) Google Fiber in a growing number of markets. Google offers internet service that is competitive with today’s offerings from most providers for free and offers gigabit internet for as little as $70 per month.

Google may or may not turn a profit on Google Fiber…they don’t break out the numbers. But Google is of the opinion that faster access by consumers is in the company’s best interest, so they are making it happen. For a product in which price is the dominant factor for consumers, Google joining the fray is a very big deal.

Again, can a consolidated cable and internet industry compete here? Maybe, maybe not. Only time will tell. My bet is that eventually the current crop of cable and internet providers see major margin erosion as they are forced to compete with nibler upstart rivals. The best long-term move for investors might be simply to dump Comcast, Charter and the rest of the lot.

Disclosures: Long AAPL

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.

Photo credit: Joel Kiraly

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Why Big Beer is Struggling in the Age of the Hipster Craft Beer

 

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Note to Big Beer: Beware the affronted beard!

MillerCoors, the joint venture between SABMiller plc (SBMRY) and Molson Coors Brewing Company (TAP), is facing a class-action lawsuit from craft beer enthusiasts for having the audacity to imply that Blue Moon—one of the fastest-growing beer brands in America—was a craft beer.

Given the affection that hipsters have for all things vintage, retro, and old-man chic, I’m a little surprised the lead plaintiff didn’t slap the MillerCoors marketing director with a white riding glove and demand satisfaction with pistols at dawn. Such was the offense taken.

I personally like Blue Moon, and I expect the suit to eventually be thrown out and groundless. But the plaintiffs do raise interesting points when they claim that MillerCoors went to “great lengths to disassociate Blue Moon beer from the MillerCoors name.”

We see this all the time in marketing. General Motors (GM) doesn’t exactly go out of its way in its Cadillac Escalade ads to point out that it also makes the everyman’s Chevy Silverado pickup truck. And I could find no mention of parent company Swatch Group (SWGAY), maker of the kitschy plastic Swatch watches, on the website for it upscale Omega watches. Image is the core of marketing, and MillerCoors is simply playing the game.

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But in the case of craft beer, with its focus on small-batch and local brewing, association with a megabrewer is the kiss of death. And this is a major problem for Big Beer, as this is the only corner of the American beer market that is really growing these days. Overall beer sales were flat last year (up a measly 0.5%) and actually fell by 2% the year before. Yet craft beer sales are growing at 17.6% per year and now make up a sizable (and profitable) chunk of the market. Craft beer accounts for 11% of volume yet 19% of dollar sales. Spend any time in a pub frequented by beer snobs, and you’ll notice the price difference in your bar tab very quickly.

Late last year, I wrote about the challenges Anheuser-Busch InBev’s (BUD) faced in its attempts to buy its way into the craft beer market. There are essentially two issues at play. The first is image. Craft beer is a luxury good subject to the changing whims of fashion. A sense of uniqueness or exclusivity is needed to convince drinkers to pay a premium over domestic Bud Light, and that is a tough act for a megabrewer to pull off.

The second issue is economies of scale. The beauty of Big Beer operations is their massive and efficient production and distribution. But this goes completely out the window when you buy a locally-produced microbrew. Mass producing it and selling it nationally—or globally—kills the “buy it local” vibe that made it popular to begin with. But keeping it local neutralizes Big Beer’s marketing and distribution power.

So, what is Big Beer to do?

While the megabrewers are in a tough spot, I would argue that their strategy is broadly the right one. Miller, Bud and Heineken (HEINY) will never be able to please the true hipster beer snob because the essense of hipsterism is the ability to one-up your friends by name dropping obscure references. Blue Moon is already far too popular to satisfy the thirst of a true hipster. (For a good–if somewhat crude–laugh at craft beer’s expense, enjoy this comedy skit by Nacho Punch: “Hipsters Love Beer.”)

But this subsector of the beer-drinking population is also small minority. MillerCoors is going after a much broader market: Higher-income casual drinkers looking to order a beer or two after work. It’s essentially the Sam Adam’s Boston Beer (SAM) crowd.

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Boston Beer is actually an interesting case study. You could call Sam Adams the vanguard of the craft beer revolution, and SAM stock has been one of the best growth plays of the past decade. Sam Adams drinkers like a good, premium beer, but their tastes are still pretty mainstream. Big Beer can compete well in this space with brands like Blue Moon.

I’m somewhat wary of the entire beer sector right now based on price. Boston Beer trades hands at 35 times trailing earnings, and this is after the recent share-price correction. Molson Coors and Heineken each trade at 27 times trailing earnings, and Anheuser-Busch InBev at 22. I would consider all to be worthy candidates on substantial pullbacks, but I’d avoid putting new money into them at current prices.

Disclosures: Long HEINY

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.

This piece first appeared on InvestorPlace. Photo credit: Quinn Dombrowski

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Reader Comment: Are E-Cigarettes Getting Stubbed Out?

In response to my article “Are E-Cigarettes Getting Stubbed Out?” and specifically to my comment that slowing imports could be a sign of slowing product demand, Pascal Culverhouse of Electric Tobacconist wrote a thoughtful reply. Mr. Culverhouse can certainly speak with authority on the subject; he happens to be the proprietor of an online vaping retailer based in the UK. He notes that his sales continue to grow at a rather brisk pace of 10% per month.

Here’s my take on your imports theory:

Two years ago, the model (in the US & UK) was that people would buy cigarette-style ecigs, followed by unique cartridge refills which weren’t interchangeable across brands. These cartridges were usually made in China, meaning that the majority of the products needed to be imported.

Fast forward two years and the bottom has fallen out of that side of the market. From occupying around 80% of our sales this time last year, it is now around 20%. Nowadays people are more interested in the ‘tank-style’ liquid kits which can be filled up with any e-liquid of their choosing.

This fact has the following implications:

  1. Liquid can be blended anywhere and the public is starting to favour domestically-made stuff (instead of bulk-made Chinese liquid), hence reduced imports.
  2. Tanks last longer, so less hardware is required. Again, meaning less importation of hardware.
  3. Brands find it harder to tie the customer down because the ‘cartridge refill’ model is all but dead.

There have been many reports about the slowing of the industry, but my feeling is that these reports come off the back of skewed statistics. If you measure the growth of, say, the five biggest brands in the US/UK then you will see their growth curve slowing (this is what we have seen among the major brands we carry – blu, NJOY, VIP, Vapestick etc), but the industry itself is dispersing and growing at a rapid rate.

So from an investment point of view, Big Tobacco has its work cut out, as the ecig industry is becoming more like the wine industry where from one day to the next a customer might want to try a ‘tipple’ of Five Pawns Bowden’s Mate, and then the next they might want some NJOY Samba Sun. I can’t see how punters are going to be tied down in the way they are with tobacco. Vaping is now akin to having a wine glass and the freedom to fill it up with whatever wine you want [Emphasis Charles] — bad news for anyone looking to dominate the industry.

I genuinely feel we are one of the few companies who can truly offer an insight into the market, as we are the only company which covers everything from Big Tobacco, to major independents to quirky start-up brands.

Thanks to Pascal for his thoughtful comments.

I reasoned in my article that Big Tobacco might be better positioned than the smaller upstarts to withstand the inevitable legal and regulatory onslaught facing the industry. But beyond this, Big Tobacco really has no clear competitive advantage over the upstarts, and Pascal’s experience would seem to confirm this.

For those still unfamiliar with the ins and outs of electronic cigarettes, Pascal’s site will give you a good sampling of the market: www.electrictobacconist.com.

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Are E-Cigarettes Getting Stubbed Out?

Call it the revolution that wasn’t, but it looks like e-cigarettes might be getting stubbed out. Global trade data site Panjiva reported recently that shipments of e-cigarettes entering US. ports have been declining since late 2013:

Shipments of e-cigarettes entering US ports – by quarter

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Shipments of E-Cigarettes Entering US Ports

Meanwhile, shipments of actual tobacco—you know, the carcinogenic stuff that kill you—have actually been on the rise:

US Imports of Tobacco – Dollar Value by Quarter

US Imports of Tobacco (Dollar Value by Quarter)

US Imports of Tobacco (Dollar Value by Quarter)

Now, before I go any further, I should point out a couple things. These data sets are looking at imports, not total sales or production. Plenty of e-cigarette paraphernalia gets produced right here in the USA, and America is also a major grower of tobacco. Sales e-cigarettes and accessories have roughly doubled over the past two years to about $3.5 billion.

So, import data clearly does not tell the whole story. But it may give us advanced warning of a pending slowdown. If anything, the soaring U.S. dollar should have caused a nice bump in shipment imports, which clearly has not happened. And looking at the bigger picture, lower shipments today mean than retailers might be projecting lower sales tomorrow.

What’s the story here?

Part of it is regulation. When e-cigarettes were first introduced, they existed in something of a regulatory limbo. It wasn’t exactly clear which, if any, of the myriad of existing tobacco laws applied to e-cigarettes, and “vaping” had become a legal way to smoke in public places where traditional cigarettes are banned. They were also an easy way for underage teenagers to get their nicotine fix, as there were initially no age restrictions on sale. But those regulatory loopholes are quickly getting closed. At least 42 states now ban sales of e-cigarette products to minors, and bills are being considered in Massachusettes, North Dakota and even in lax-regulation states like Texas and Montana.

Now, I’m not necessarily a fan of government regulation. If I had my way, the e-smokers would be left to exhale their water vapor in peace. But given the aggressiveness of all levels of government towards tobacco products–everything from Washington DC down to the local neighborhood association–we should have known it was just a matter of time before we saw an organized crackdown. Though hard data is hard to come by, in most cities the existing rules that ban traditional cigarette smoking are getting applied to e-cigs. And the FDA is planning on releasing a set of new e-cig regulations in June that will probably come close to treating e-cigs like traditional cigarettes.

This is not necessarily a death knell for e-cigs. After all, cigars enjoyed a major boom in popularity in the 1990s and 2000s even while the anti-tobacco movement was in full swing. But it does suggest that the notion that e-cigs would be the savior of Big Tobacco is ludicrous. As I wrote late last year, rather than save Big Tobacco, cheap e-cigs filled with generic refill fluid are a lot more likely to speed up its demise. And to really put things in perspective, Altria’s (MO) annual revenues are more than five times larger than the most generous estimate of the revenues for the entire vaping industry. It’s hard to see vaping replacing those lost revenues.

Ironically, an FDA crackdown on vaping could play into Big Tobacco’s favor. Altria, Reynolds American (RAI) and their peers have the experience and legal budgets to navigate a regulatory onslaught better than newer e-cig upstarts. While I don’t believe that Big Tobacco has played its hand well with the rise of e-cigs (see “Big Tobacco Botches the E-Cig Name Game“), they will probably end up being the last men standing.

Is there a trade here?

Probably not. Big Tobacco stocks are surprisingly expensive at today’s prices. Altria and and Reynolds American trade for 17 times and 18 times their respective 2015 expected earnings and at the lowest dividend yields in memory. And remember, these are companies selling products in terminal decline.

My advice is to sell Big Tobacco. There are better–and safer–income options to be found elsewhere.

Charles Lewis Sizemore, CFA, is chief investment officer of the investment firm Sizemore Capital Management and the author of the Sizemore Insights blog.

 

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