In hindsight, we think what began as a temporary deferral of automotive maintenance and repair services has perhaps led to a more permanent shift in pattern. Discretionary categories, such as truck running boards and lights, experienced an even more pronounced slowdown, followed by a decline in demand for such products as washes and waxes.
As gas prices retreated, both aftermarket demand and industry optimism improved somewhat, with the thought that in 2007 things would gradually get better. Unfortunately, this sentiment did not last. Despite pockets of strength, we would characterize 2007 as weak, even against the weaker sales comparisons from 2006.
The ghost of aftermarket present reveals that we thought the sales comparisons of 2006 and 2007, coupled with an inherently defensive industry, would translate into increased demand for auto parts and services in 2008.
The second quarter of 2008 showed some promise as most publicly traded companies posted better than expected sales results. As the summer months progressed, $3 gasoline rapidly became a thing of the past as crude oil prices climbed toward $150 per barrel and gasoline peaked at more than $4 per gallon. The magnitude of miles driven declines became more pronounced as consumers rapidly adjusted their driving habits, creating further revenue headwinds for the aftermarket.Two major hurricanes also hit toward the end of Q3, creating a gasoline shortage in the Southeast and major sales disruptions in the Gulf Coast regions. That said, same store sales growth appears to have rebounded in October and November as fuel prices moved materially lower, and to date December results appear to be holding steady. For now, it seems to us that the more "non-discretionary" elements of automotive parts and service demand should be sufficient to offset much of the impact of the deteriorating economy, particularly as the purchase of new replacement vehicles is likely to be postponed.
The ghost of aftermarket future is predicting that while the operating environment is likely to remain trying in the short term, we think it is important to remember that easing year over year comparisons in miles driven, gasoline prices at their lowest level since early 2004, and the turmoil under way in the OE channel should result in heightened demand for aftermarket parts and services.
Consolidation is also likely to play a larger role for the rest of the year, as the rate at which independent operators have been exiting the parts and service markets has gone up in recent months, driven by a tough operating environment, capital constraints, and in many cases, a lack of succession planning. Against this backdrop, we believe that many of the larger industry players stand to benefit, as they are better positioned to weather near-term results and will ultimately be the beneficiaries of lessened competition.
It will be necessary to continue monitoring the automobile manufacturers and their franchised dealers who may offer new sales inducements such as "free maintenance for life" packages that offer complimentary oil and fluid changes, brake pad replacements and new tires. We also think it is important to put the potential for elevated new vehicle dealership closures in perspective, as there has been a significant shift over the past few decades to larger dealer groups processing higher volumes.
Stability in gas prices should remain a key factor as it will provide consumers more flexibility in allocating dollars toward automotive needs and boost miles driven — the key determinant of component parts failure. From an investment standpoint, we think the majority of the companies we follow have been disciplined with a renewed focus on cost control. In 2009, we think that there could be greater-than-expected operating leverage due to a sales pickup and tighter expense controls. The new administration has already hinted at a sizable stimulus package to help revitalize consumer spending, and if recent history is any indicator, provide a nice same store sales spark for aftermarket participants.
BB&T Capital Markets is a full-service investment banking firm that focuses on specific industries, including the Automotive Aftermarket industry. BB&T Capital Markets is a division of Scott & Stringfellow, Inc., NYSE/SIPC. Scott & Stringfellow is a registered broker/dealer subsidiary of BB&T Corporation, one of the nation's largest financial holding companies with $137 billion in assets.
Disclosures: BB&T Capital Markets makes a market in the securities of Dorman Products, Inc.; Monro Muffler Brake, Inc.; Motorcar Parts of America, Inc.; and O'Reilly Automotive Inc.
BB&T Capital Markets has managed or co-managed a public offering of securities for AutoZone, Inc. in the last 12 months.
BB&T Capital Markets has received compensation for investment banking services from AutoZone, Inc. in the last 12 months.
BB&T Capital Markets expects to receive or intends to seek compensation for investment banking services from Advance Auto Parts, Inc.; AutoZone, Inc.; Dorman Products, Inc.; Genuine Parts Company; Monro Muffler Brake, Inc.; Motorcar Parts of America, Inc.; O'Reilly Automotive Inc.; Standard Motor Products, Inc.; and The Pep Boys—Manny, Moe & Jack in the next three months.
Midas, Inc. and Monro Muffler Brake, Inc. are, or during the past 12 months were, clients of BB&T Capital Markets, which provided non investment banking, securities-related services to, and received compensation from, the aforementioned companies for such services. The analyst or employees of BB&T Capital Markets with the ability to influence the substance of this report knows the foregoing facts.
An affiliate of BB&T Capital Markets received compensation from Advance Auto Parts, Inc.; AutoZone, Inc.; Genuine Parts Company; Midas, Inc.; Monro Muffler Brake, Inc.; and O'Reilly Automotive 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.
