I am not an economist, don’t play one on TV, and didn’t spend the night in a Holiday Inn Express. Still, I think that 2012 will be another good year for the aftermarket — for the one simple reason that the average age of the fleet continues to trump other negative factors such as elevated gasoline prices and reduced miles driven (which have declined for 8 consecutive months based upon government data). Not surprisingly, the government data is dated, inconsistent and lags by a couple months. We will stop the political discussion there. Our best guess is that miles driven in November and December posted similar declines to the 2.3 percent year over year drop seen in October.
We admit that we may have been overly cautious about the second half of 2011 (H2’11). We were concerned that challenging H2’11 comps, elevated gasoline prices and the ongoing deferral mentality of the DIY consumer would present challenges, especially as consumers focused on the holidays rather than their vehicles. We didn’t see it — with Q3’11 results demonstrating that overall industry fundamentals (and the aging of the fleet) are simply too strong right now to be offset by challenging macro conditions for the consumer. Our recent checks indicate that trends for the December quarter held up well in spite of tough compares and underlying risks. We think moderate weather conditions have also helped versus last year, likely providing modest acceleration to retail trends.
As a result of encouraging trends, we recently upgraded the shares of Advance Auto Parts to a Buy rating. In addition to the solid industry fundamentals noted above, same store sales comparisons for Advance begin to ease in Q4, perhaps setting the company up for another earnings per share beat. And on a valuation basis, Advance is simply trading at a material discount to its peers. While colder temperatures may be needed heading into Q1’12, Advance faces easy weather comparisons as heavy East Coast snowfall plagued the company last year in January and again in March.
As we look to 2012, we believe that many of the dynamics that have underpinned solid aftermarket demand trends and performance over the past three years will remain in place. Elevated unemployment, depressed consumer confidence and the simple necessity of automotive maintenance and repair are all likely to keep the aftermarket in a phase of steady growth. To put it simply, we see a longer cycle for the aftermarket than originally expected, particularly given the slowing macro recovery, as favorable industry fundamentals are likely to persist for a few more years.
While the group will not be without volatility, we are not seeing new vehicle sales recover at a fast enough clip to halt the accelerated aging of the fleet that we believe has been a sizable catalyst to industry outperformance. In our opinion, the still-depressed level (although off the lows) of US new vehicle sales is a function of the still tenuous economic “recovery,” including subdued levels of employment and income gains, as well as continued consumer retrenchment and deleveraging. As such, until we gain comfort that the pace of payroll additions is likely to accelerate (and in a sustainable manner) and home prices are likely to stabilize and gradually recover, we do not foresee a meaningful pickup in US light vehicle sales. In essence, the US motor vehicle parc will continue to age, with trailing five-year new vehicle sales unlikely to bottom before mid-2013 (a good proxy for the number of vehicles still under warranty). With an increasing number of older vehicles on the road, we believe that aggregate demand for aftermarket parts and services will remain relatively robust for at least another 18–24 months. And whether or not the mindset of the consumer has really changed, we think the overhang from weak new unit sales will be felt for several years to come.
About BB&T Capital Markets:
BB&T Capital Markets is a full-service investment banking firm that focuses on specific industries, including the Automotive Aftermarket. BB&T Capital Markets is a division of Scott & Stringfellow, LLC, member NYSE/FINRA/SIPC. Scott & Stringfellow is a wholly-owned nonbank subsidiary of BB&T Corporation, one of the nation’s largest financial holding companies with $155 billion in assets. Securities and insurance products or annuities sold, offered or recommended by Scott & Stringfellow are not a deposit, not FDIC insured, not guaranteed by a bank, not insured by any federal agency and may lose value.
Disclosures:
BB&T Capital Markets makes a market in the securities of Advance Auto Parts, Inc.
BB&T Capital Markets expects to receive or intends to seek compensation for investment banking services from Advance Auto Parts, Inc. in the next three months.
An affiliate of BB&T Capital Markets received compensation from Advance Auto Parts, Inc. for products or services other than investment banking services during the past 12 months. The analyst or employees of BB&T Capital Markets with the ability to influence the substance of this report know or have reason to know the foregoing facts.
