This week, some apparel and accessory producers and retailers offer a look at how they've been doing between early summer's economic stimulus spending and the coming holiday season. While Polo Ralph Lauren Corp. (NYSE: RL) reported higher earnings last week, Coldwater Creek Inc. (NASDAQ: CWTR), Eddie Bauer Holdings Inc. (NASDAQ: EBHI), Kenneth Cole Productions Inc. (NYSE: KCP), and K-Swiss Inc. (NASDAQ: KSWS) all reported net losses as consumers pulled back on spending over the summer due to higher fuel prices and other economic worries. The expectations of analysts surveyed by Thomson Financial for such companies scheduled to report this week don't look much different; i.e., a bright spot or two among lower expectations overall.
Hip retailer Urban Outfitters Inc. (NASDAQ: URBN) is expected to post earnings 22.9% higher than a year ago, to $0.35 per share, on revenue of $475.9 million (+26.4%). The Philadelphia-based company already said that same-store sales in the quarter were 10% higher. Urban Outfitters has beat expectations in recent quarters, by 11.5% in the previous quarter, and analysts on average recommend buying URBN. Shares fell to a 52-week low of $16.61 per share on Friday, and are down 29.5% from a year ago. Other companies expected to report more modest earnings growth in the coming week include watch and accessory maker Fossil Inc. (NASDAQ: FOSL), retail giant Wal-Mart Stores Inc. (NYSE: WMT), and TJX Companies Inc. (NYSE: TJX), parent of such discount retail chains as T.J. Maxx and Marshalls. These three companies have tended to top analysts estimates in recent quarters, and Fossil and TJX ended the week near their 52-week lows.
While Los Angeles-based American Apparel Inc. (AMEX: APP) had a strong second quarter, the casual wear maker is expected to report $0.13 per share earnings for the third quarter, the same as in the year-ago period. And analysts anticipate that Kohl's Corp. (NYSE: KSS) will report that profits fell 16.4% to $0.51 per share on revenue of $3.9 billion (+1.9%). Though same-store sales for October fell 9%, the Menomonee Falls, Wis.-based company reaffirmed its third-quarter forecast. Kohl's has offered positive surprises in recent quarters, topping estimates by 5.6% in the previous quarter. The consensus recommendation remains to buy KSS. Shares have been climbing after reaching a 52-week low in late October, but are still down 32.8% from a year ago.
Earlier this week, my colleague Douglas McIntyre observed that Sun Microsystems (NASDAQ: JAVA) "is one of the worst performing large-tech companies in America." It seems that ratings firm Fitch agrees with his take as last night it slashed JAVA's ratings outlook from "stable" to "negative." As a result of the move, JAVA is trading just pennies away from its annual low of $4.51 this morning.
In a release, Fitch cited a litany of challenges facing Sun Micro, including deteriorating demand outlook, recent share losses in the server market, significant decline in gross margin, and the expectation for continued pressure on information technology spending into 2009.
Even more troubling, investors learned today that Sun's co-founder, Andreas von Bechtolsheim, is stepping down from his role as chief architect to work for start-up firm Arista Networks.
However, as bleak as things may seem for Sun, another report adds an interesting angle to McIntyre's suggestion that JAVA should be sold to the highest bidder. Southeastern Asset Management, a value investment firm, said Wednesday that it's boosted its stake in Sun Microsystems to 21%. The firm said that it plans to hold discussions with Sun's management "regarding opportunities to maximize the value of the company for all shareholders." And we all know what that's code for, right? Stay tuned to see how this potential M&A deal unfolds.
For the first time since the current crisis hit the car industry, the issue of debt default at one of the Detroit car companies has been raised by a ratings agency. According toThe Wall Street Journal, "Fitch warned that Chrysler's issuer-default rating could be lowered two more notches from the current B-minus to CCC -- nearly default status -- if problems with rising loan delinquencies and losses on auto loans trickle down to retail volumes."
Fitch also downgraded GM (NYSE: GM). It has started to dawn on the experts in debt, cash flow, and balance sheets that if the current course of events in the US car industry continues, the former "Big Three" may have to raise more money or face a horrible cash crunch. There were concerns about Chapter 11 possibilities in Detroit three years ago and now those are returning.
But, that was then and this is now. Past problems in Detroit were primarily on the cost side. The car companies have cut billions of dollars in expenses and put together a new deal with the UAW. The concern now swings to revenue. Lehman Bros. recently said the the rate at which autos are being sold in June could indicate an annual sales figure of only 12.5 million vehicles in the domestic market. Last year the US produced 16.1 million unit sales.
"Default" is back in the dictionary in Detroit.
Douglas A. McIntyre is an editor at 247wallst.com.
No more Bear Stearns. What a shame. It did not have to be, but alas -- bad management, greed, and too much negativity on Wall Street made it unsustainable when sustainability is the word of the day. It is, or should I say was, one of the foremost investment banks on Wall Street for many decades.
JPMorgan Chase (NYSE: JPM) completed it acquisition of Bear Stearns (NYSE: BSC) on May 30, 2008. As a result, Fitch Ratings has upgraded the ratings of BSC and removed them from Rating Watch Positive, where they were originally placed on March 17. As the direct and sole owner of BSC, JPM has assumed the capital structure of BSC.
Bear Stearns had been one of the top investment banking, clearing, and brokerage firms in the United States, serving major corporations, institutions, governments, and high net worth individuals. Through several subsidiaries, it provided asset management, lending, and merger and acquisition advisory services. It's been a leading market-maker for NYSE-listed securities (through Bear Wagner Specialists), as well as for OTC shares, corporate and government bonds, and derivative products.
It was these derivative loan instruments that did them in. Bear Stearns, a company that for decades was relied upon to help its customers assess risk, fell short when it came to managing its own. Management was not watching very closely, and if they were, they did not understand what they were seeing. (See Serious Money: The page on Buffett Part V: Company Management.)
Standard & Poors, a division of McGraw-Hill (NYSE: MHP), has joined Moody's (NYSE: MCO) and Fitch in announcing reforms in the wake of the criticism for their role in the subprime fiasco.
S&P says it will hire an ombudsman to investigate conflicts of interest and bring in an outside firm to look at compliance and ethics-related issues. Lead analysts will be rotated from time to time and the company will consider a slew of new factors: liquidity, volatility, correlation and recovery, and "worst-case scenarios."
But New York Attorney General Andrew Cuomo isn't buying it: "The supposed reforms announced today by Standard & Poor's and by Moody's on Tuesday are too little, too late. Both S.&P. and Moody's are attempting to make piecemeal change that seem more like public relations window-dressing than systemic reform."
From an investor's standpoint, I'm inclined to agree with Mr. Cuomo. Moody's carries a market cap of nearly $10 billion, but its entire business depends on the willingness of investors to take its ratings and analysis seriously.
But over the past year or so, the "work" of the ratings agencies has been exposed as pretty much a joke. It will take a lot more than this to recover the company's reputation.
BBC News reports that municipal and state bond insurer MBIA Inc. (NYSE: MBI) disclosed a previously hidden and salient fact -- it guarantees $31 billion worth of complex, subprime mortgage related securities known as Collateralized Debt Obligations (CDOs). One consequence of the surprise announcement is that MBIA's stock fell 26% to a 20-year low.
But the bigger fear is the repercussions of a serious ratings downgrade of MBIA. Fitch has threatened to cut its top-notch AAA-rating on fears that its capital base was not sufficient to cover its liabilities. That's because $2 trillion worth of insured securities held by mainstream investors, such as pension funds and local governments are at risk if MBIA and its peers lose their top tier credit ratings.
Once again, as I posted yesterday, the future of global capital markets rests in the hands of ratings agencies. In fact, Fitch's warning of a ratings downgrade seems to be a bit conservative. If MBIA had to pay out $31 billion to cover the guarantees on those CDOs, its $6.5 billion worth of capital could be wiped out. Meanwhile, any mainstream investor -- who owns MBIA insured CDOs -- will need to write them down and or sell them if MBIA loses its AAA rating.
The result could be a rise in interest rates paid by city and state governments and a cut in services or increase in taxes to balance those city and state budgets.
MBI announced on Dec. 10 it will raise up to $1 billion of capital through an investment by Warburg Pincus. Warburg will also purchase $500 million of MBI common stock and support a shareholder rights offering of up to another $500 million. MBI estimates it will incur a case loss reserve of $500 to $800 million in Q4. Fitch is expected to release a review of MBI's credit standing soon. MBI December 30 straddle is at $4.30. MBI January option implied volatility of 111 is above its 26-week average of 63 according to Track Data, suggesting larger price fluctuations.
AMBAC Financial (NYSE: ABK), a provider of financial insurance-guarantee products, closed at $24.87 Wednesday.
Fitch is expected to release a review of ABK's credit standing soon. ABK January option implied volatility of 131 is above its 26-week average of 66 according to Track Data, suggesting larger risk.
Daily Options Update is provided by Stock Specialist Paul Foster of theflyonthewall.com
Freddie Mac (NYSE: FRE) indicated that it wants to seek more capital when it reported its $2 billion loss this morning, but that capital might be more expensive if Fitch Ratings cuts its rating by one notch. Fitch issued a statement this morning indicating that a cut in rating for Freddie Mac is being considered.
Fitch said in its statement reported by Reuters that Freddie Mac "faced a challenge in meeting capital targets set by its regulator, the Office of Federal Housing Enterprise Oversight (OFHEO)." Freddie is the second largest U.S. mortgage finance company. Fannie Mae is the largest.
Most investors probably think that when an investment ratings service like Moody's, Standard & Poors or Fitch gives a company, financial institution or security the highest rating of "AAA," it carries the least possible level of risk. Most investors would think that this rating would be reserved for United States Treasuries and only the most secure of companies like Berkshire Hathaway (NYSE: BRK.A), Johnson & Johnson (NYSE: JNJ), or United Parcel Service (NYSE: UPS). Actually, this happens to be the case, and these companies are among the very few to receive AAA ratings outside of financial institutions.
So what happened in the case of the Collateralized Debt Obligation (CDOs), where the ratings agencies determined that high-risk securities batched together had a smaller chance of default than the individual securities? Perhaps that is the case, but triple-A? Well, it seems to me that large investment banks knew they needed the AAA ratings to have a marketable security. They went to the ratings agencies that understood this and the agencies created the rational or plausible deniability to support the rating. This may be a bit harsh, but it does seem that the ratings agencies were working in reverse: first establish the rating and then the support for the rating. The ratings services are all heading for cover and many of the previously AAA-rated securities are being re-evaluated.
Ratings agencies have tremendous power in the financial markets because their ratings determine if a certain credit is "own-able" by funds, depending on their covenants. For example, low-risk pension funds can't own poorly graded credit simply because it increases the likelihood of losing money. When ratings agencies change their position on companies or sectors, the market listens. A perfect example of this was the recent subprime fall that resulted from S&P announcing it could downgrade some of the credit from the group.
Now the opposite has occurred -- Fitch announced that it has positive outlook for Doral Financial Corp. (NYSE: DRL). Fitch justified its optimistic outlook for Doral by mentioning the company's sale of a 90% stake in the company to Bear Stearns (NYSE: BSC) Merchant Banking, among other things.
Even though this upgrade was on the company's debt, the stock traded up as well. I think Doral is too speculative to play with, and the future of this company, especially the stock, is extremely up in the air at this point.
Traditionally, private equity firms have focused on brick-and-mortar companies. The targets are often underperforming – yet have strong cash flows and stable contracts.
But, recently, private equity firms have moved to tech companies. And some of the deals have been huge, such as the $17.6 billion buyout of Freescale Semiconductor, Inc. (NYSE:FSL) and the $11.4 billion Sungard buyout.
So, is this the beginning of a major trend?
The answer is "no" from a top credit analysis firm, Fitch Ratings.
Why?
First, tech companies are not ideal for loading-up the balance sheet with debt. That is, the free cash flow tends to be too low – or too erratic. Besides, there is "technology risk," in which a company's products can become obsolete from intense competitive forces.
Next, because of the dot-com implosion, many tech companies have already restructured operations. In other words, there is little opportunity for improvement that a private equity can provide.
This post is part of a series on some of the most memorable 
Standard & Poors, a division of 
MBIA
Traditionally, private equity firms have focused on brick-and-mortar companies. The targets are often underperforming – yet have strong cash flows and stable contracts.
Best & Worst in Money 2008: Most shocking financial collapse
Closing Bell: Stocks slump as AMD, AT&T, GM and Merck decline
Global Q&A: A rocky road, but profits ahead
