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Five Growth Stories (or Lack Thereof)

Jason Stipp

Jason Stipp: I am Jason Stipp for Morningstar and welcome to the Friday Five.

As the economy taps on the brakes in the early summer, a lot of investors are concerned about growth. Here with me to offer five growth stories--or lack there off--is Morningstar markets editor, Jeremy Glaser.

Jeremy, thanks for joining me.

Jeremy Glaser: Jason thanks for having me.

Stipp: So, what do you have for the Friday Five this week.

Glaser: This week we are going to take a look at J.C. Penney, at Facebook, at Greece, inflation, and finally at Arby's.

Stipp: So the department stores seem to be having somewhat of a small recovery, anyway, but there was news about one specific department store and a new hire. What was that news this week?

Glaser: J.C. Penney made a big splash this week by hiring Ron Johnson. He was formally the head of Apple's retail stores to become their new CEO. And the market was extremely excited about this. J.C. Penney shares really shot up, almost 20% at one point, and certainly people think that he is going to be able to come in there and really refocus J.C. Penney, reinvigorate a lot of the merchandizing, a lot of ways that they are doing business, and allow them to grow at a much faster rate than they are now, and compete better with resurgent rivals such as Macy's.

I don't think it going to be that simple. I think that Mr. Johnson is a very talented executive. I think a lot of what he did in the Apple stores, like mobile checkout and having the open, bright spaces was revolutionary at the time, but that's not going to translate necessarily so well into a retail environment like J.C. Penney.

People were drawn to the Apple stores because they liked the Apple products, and they are going to need to make sure that the merchandising inside J.C. Penney is going to get people excited. Buying a new pair of underwear is not quite as exciting as buying a new computer.

So it's going to be a challenge, but it seems like the market thinks that he is up to it, and I think certainly over the next couple of years, J.C. Penney is going to see a lot of changes.

Stipp: We will have to see if he can come through for them on that front.

Facebook, obviously a big growth story; what's the story recently with Facebook and why are they in the news?

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Glaser: We actually heard that Facebook's growth slowed a little bit in North America, in the U.K., in areas where they already are pretty well saturated.

This isn't terribly surprising; basically everybody in the United States who wants a Facebook account at this point has one. You have some seasonal factors--with the end of the school year, some people drop off the network for a little bit over the summer. But certainly it shows that growth is not going to be that easy for them in developed markets and that it is going to be really the emerging markets where Facebook is going to see more users come online.

But we also heard news this week from CNBC that Facebook is planning an IPO, probably in early 2012, that could be valued up to $100 billion, which would make it one of the largest companies in the United States. And I think certainly to justify that kind of valuation, they are going to need to be growing at an even faster pace than they are now. They are going to need to find ways to monetize those users in a better way than they are at the moment, and I think that that kind of valuation certainly sounds a little bit lofty.

Stipp: So given some of the recent IPO prices that we've seen, it is probably a good time for Facebook, the company, to go public, but for investors probably not so much. But we will just have to wait and see.

Jeremy, some other news this week that caused some turbulence is the story in Greece. Now this is an area that hasn't seen growth, probably won't see growth for a little while. What's the story there and how big of a concern is this right now?

Glaser: I think Greece is certainly an area that investors still need to be concerned about. We've been talking about this for over a year, and the problem still isn't even close to being solved yet.

The real issue is that Greece has more debt than they are ever reasonably going to be able to pay back. No amount of austerity measures, no amount of new taxes is going to make that economy grow enough, is going to get enough revenue to pay off the incredible debts that they have accumulated over the years. And I think that at this point, a default or restructuring is really what needs to happen, but there are a lot of institutional barriers to that. The European Central Bank, the IMF are really trying to find ways to postpone the Greek crisis, kick the can down the road so more and hope that we will be able to find some way out of it in the future. But that's just isn't the case.

The growth is never going to be there, and I think we saw this week, that just even more austerity measures aren't going to help. The Greek government was basically brought down by more people rioting in the streets, more people complaining that these huge measures that are being foisted upon them aren't even helping. They are having to give up all of their wage [increases], they have seen their pensions being cut, public services being cut, but the country is still in trouble and they are probably still going to have to default.

It shows just how difficult it is for the government to push through these measures, and I think that we are going to be hearing about Greece for a long time until they finally come up with a way to restructure this debt in a way that it actually could be paid back.

Stipp: One areas that we have seen growth that we probably don't want to see too much growth is in prices. We have got some inflation data this week. What's the possible impact of that tick-up in inflation that we saw?

Glaser: The inflation data this week wasn't terrible. Core prices increased by 0.3%, which is the fastest increase in a long time, but it is not outrageous ... or any kind of inflationary level that we would really be worried about.

But it does show that the Federal Reserve does need to be somewhat cognizant of what's happening with inflation. You know Bernanke has said before that he is really focused on core inflation, that strips out those volatile energy and food prices, and if we see that continue to tick up a little bit, there is going to be more and more pressure on the central bank to not keep monetary policy as loose as it is.

I think that this inflation data in many ways kills the prospects of QE3, or another round of Quantitative Easing, even more monetary easing. Once that the Quantitative Easing II ends at the end of this month, I think that's probably going to be it from the Federal Reserve. We are not going to see any more stimulus from there. That could have some knock-on effects on growth, could have some effects on other parts of the economy. But I think inflation is going to be something that they are going to need to be focused on, and I think a lot of consumers are focused on it. It is something that people are worried about, and the data this week was not that reassuring. It hasn't gotten out of control yet, but it is definitely something that people are going to be keeping an eye on.

Stipp: The restaurant industry, Jeremy, for the number five, we saw one company taking some action to cut off something that wasn't growing very much, so they can focus on a core brand. What's going to with fast-food?

Glaser: Wendy's Arby's Group finally was able to get rid of Arby's or most of Arby's, and it's really been kind of an albatross around their head for a long time. Arby's did not perform very well during the recession. Our analysts think that their lack of a value menu really made it difficult to attract a lot of customers who are extremely value-conscious through the past couple of years. Big players like McDonald's were doing very well, and it really sucked a lot of the oxygen out of the fast food room for them.

So they were able to sell to a private equity company, which has been a trend of private equity companies picking up restaurants, and hopefully they will be able to turn it around, but thankfully for Wendy's, they can now focus in on their core brand, which has been doing better. They want to roll out some new breakfast options, they want to roll out some new menu development and really try to become even a stronger player and retake that somewhat premium position they had before. I think not having Arby's there is going to be conducive to that. So I think that shareholders of Wendy's should be happy that they are able to get a decent price for it, get it out of the way, and they could focus on their core business.

Stipp: Well, Jeremy, I see some momentum growing for the Friday Five, thanks to your great reports. Thanks for joining me.

Glaser: You are quite welcome, Jason.

Stipp: For Morningstar, I'm Jason Stipp. Thanks for watching.