Welcome back. In the few weeks I’ve been writing this newsletter, I’ve spent very little time on the finances of individual companies. But the question of what Soho House (aka Membership Collective Group Inc) might be worth is especially interesting. But before that, Unhedged’s first foray into a tricky topic: China’s influence on world prices.

There will be no newsletter on Thursday. I have other duties to attend to. See you Friday.

The standard explanation for why inflation has been so low for so long in so many places is three words long: “technology and globalisation”. The technology side has a lot to do with Moore’s law. Over time, more of the goods and services we buy are digital, and computing power gets cheaper all the time. The globalisation side has a lot to do with China. Its export machine gives us all cheap stuff and suppresses wages for manufacturing industries worldwide.

Is the China-as-deflation-exporter story over? Diana Choyleva of Enodo Economics thinks so. She charts the US’s import price index for China against the renminbi/dollar exchange rate:

As the chart makes clear, the exchange rate has a lot to do with whether China exports higher prices to the US. Beijing has allowed the renminbi to strengthen somewhat. But the great majority of China’s trade with the US is still denominated in dollars. So changes in the exchange rate force Chinese exporters to decide whether or not they are willing to absorb the cost of the stronger currency.

Those exporters, Choyleva points out, have seen their profit growth fall in recent years, hurt by both the stronger currency and increasing labour costs. Earnings received only a brief bump from Covid-19, which boosted global demand for electronics and healthcare equipment:

Now the pressure is really on, as reflected in the 9 per cent increase in Chinese producer prices in May. Choyleva argues that passing higher costs on to domestic customers is difficult in China, as evidenced by weak consumer price inflation. Nor is the government likely to provide relief by weakening the renminbi. It is more concerned about things like food price inflation and encouraging capital inflows. So Chinese producers, if they want to protect profits, have little choice but to jack up their export prices in dollars.

Not everyone agrees with Choyleva, naturally (this is economics). Larry Hu of Macquarie, for example, points out that China’s producer price index is tightly correlated with oil prices — it is, in other words, imported. Oil prices will lap their pandemic trough soon. Furthermore, Hu notes, high Chinese PPI has not historically led to higher export prices (he points in particular to the PPI jump in 2015-17).

The question about inflation that dogs all of us, though, is whether this time is different. The answer will depend, in part, on whether or not Chinese manufacturers are willing and able to pass on higher costs to international customers.

Soho House is an international chain of 28 fancy hotels (“Houses”), operating on a membership model. Members (there are 111,000 of them) pay an initial registration fee and an annual levy (about $3,400 in the US) for access, and then pay on top of that to stay and eat at the houses.

The company is planning an IPO, and reportedly the owners are looking for a valuation of $3bn. The registration document is a fun read. I think it can be summed up as follows:

You will recognise this as the standard pitch of any retail chain. Sometimes it really, really works (look at the Chipotle or Home Depot stock charts, for example).

Here’s the bit about the unit economics, from the filing:

That is to say, our members pay fees no matter how often they come to stay. Over time, they come to stay less (“frequency of use . . . normalises”). Then we add more members.

Here is how that cashes out:

That sounds great! 50 per cent cash returns! How much do they invest in each House? It’s a “capital light” model:

So, $5m or so invested, returning about half that every year in cash after five years or so. Very good. There are 28 houses now. The plan is to have 46 by the end of 2023. And then who knows what.

What is special about Soho House, what separates it from Chipotle or Home Depot, is the thing that supports those great unit economics — exclusivity:

Soho House’s success as an investment depends on one question, then. How much expansion is consistent with the whole thing still being cool and insidery? To the company’s credit, it flags this risk explicitly:

Mass produced exclusivity seems contradictory, but then, is it not the dream of the whole luxury industry?

I missed this essay by Stephen Roach when it came out about a month ago. Roach worked at the US Fed under Arthur Burns in the 1970s. Burns tended to dismiss the price increases of the early 1970s as one-offs driven by exogenous factors that would soon subside. They didn’t.