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The auto industry has been growing at a blistering rate since the 2008 financial crisis. Driving the acceleration are low gas prices, low interest rates and higher employment.
U.S. auto sales hit the 1.3 million mark in November, a 14-year high. Sales for 2015 are projected to eclipse 17.5 million vehicles, which would be an all-time record.
Without a doubt the auto market is in full swing. But besides the obvious investment choices, which includes the likes of automakers and car dealers, is there a better play here?
There certainly appears to be: The auto parts retailers are offering real value.
While many auto parts makers filed for bankruptcy amidst slumping U.S. auto sales in 2008 and 2009, the auto parts retailers excelled.
The likes of O’Reilly Automotive (NASDAQ: ORLY) and AutoZone (NYSE: AZO) have stood the test of time. Helping push them to new highs is the surge in auto industry sales. It doesn’t hurt that the average car on the road is over 11 years old, another record high.
Both of these tailwinds are giving auto parts retailers a steady customer base that will continue to perform maintenance on their cars regards of the economic backdrop.
Shares of both AutoZone and O’Reilly are up more than 25% for the last year. Advance Auto Parts (NYSE: AAP) is the smaller of the big three auto retailers, but shares are down 8% for the same period.
Advance Auto is the cheapest from a valuation perspective, trading at just 16 times next year’s earnings. It’s also the only one offering a dividend – albeit at a modest 0.16% yield.
Nonetheless, the key with Advance Auto is that it has the most room for improvement. Its profit and operating margins are about half what AutoZone and O’Reilly are generating.
Why Advance Auto Wins
Advance Auto, as mentioned, has the most upside thanks to its turnaround potential. This includes fully integrating its General Parts acquisition and the cost synergies from the merger.
Advance Auto has also made the shift from primarily a do-it-yourself parts retailer to a dual-market retailer and is now servicing the faster-growing do-it-for me (DIFM) market.
Commercial sales on the DIFM side now account for close to 60% of sales. This is setting the company up for long-term growth, but has meant hiccups in the near term – hence the declining stock price.
The company is in the process of ironing out its distribution strategy to better cater to the DIFM market, part of which includes daily replenishment of its stores. This means it can then use its massive store base as hubs to deliver to DIFM customers.
Look for Advance Auto’s recent investments in its inventory and point-of-sale systems to start paying off next year. It’s rolling out the new POS system next year and has an integrated parts catalog to help better match store inventory with demand. The latter is pivotal, as it will smooth out some supply chain issues which have helped push the stock down over the last few quarters.
It’s worth noting that there is an overseer of sorts at Advance Auto. The activist investor Starboard Value has a 3.7% stake and a board seat. The CEO of Advance Auto, Darren Jackson, is stepping down next month and it’s likely that Starboard is looking to guide the company through the transition.
While there are a lot of auto parts companies benefiting from the rise in auto sales, it’s tough to find a better company than Advance Auto that also has company-specific catalysts that can really drive peer outperformance.
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