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Fenco, Motorcar Parts tie the knot

Thursday, June 23, 2011 - 00:00

After 9 months and more than a double in its share price, Motorcar Parts (MPAA) has finally completed its acquisition of Fenwick Automotive Products Limited (Fenco). As a reminder, MPAA extended a $2.0 million conditional loan to the Toronto-based supplier back in late August that also provided a purchase option and subsequent call right to acquire Fenco on what we then believed to be very attractive terms. The ultimate transaction price was 360,000 shares of MPAA’s common stock (approximately 3 percent of shares out) which at current levels equates to $5.4 million, plus the assumption of a yet undisclosed amount of debt from Fenwick – all in, however, we expect that the total consideration paid will likely approach $60 million.

All along we thought that this acquisition would either be 1) very good for MPAA, or 2) simply too good to be true – and perhaps the verdict is still out as full integration of Fenco will take time. We have known since late August that the acquisition of Fenco would more than double MPAA’s existing revenue base (we previously assumed approximately $325 million in pro-forma revenue versus our current fiscal year 2011 revenue estimate of $158 million), although we would expect to get additional detail from the company on its earnings call later in June.

Prior to this announcement, we had conservatively assumed $8.5 million in annual synergies to be realized, upon full integration, driven by manufacturing and distribution efficiencies, as well as reductions in duplicative selling, general and administrative expense. Our initial assumption has proven conservative, as management now expects to achieve $20 million in annual cost savings following an expected two-year integration process; upon full integration, and barring any further growth of its base business, Fenco is expected to contribute at least $25 million in annual earnings before interest, taxes, depreciation and amortization (EBITDA). Relative to our current calendar 2011 and 2012 EBITDA estimates for MPAA of $31 million and $34 million, respectively, the addition of $25 million in incremental EBITDA from Fenco provides a very sizable lift.

From a strategic perspective, the acquisition of Fenco will allow MPAA to transition from a $150 million supplier to an estimated $325 million supplier in turn providing the company with much better leverage in dealings with its existing customer base, particularly as it diversifies and increases its breadth of product. That said, the integration of a company that will more than double MPAA’s size is not without risk, in our opinion. Management anticipates the full integration process will take two years, and we estimate that approximately $10-15 million will likely be required to fund restructuring. While we believe that management will ultimately be successful in integrating the two companies, the process will not be easy, and we expect to see some volatility in MPAA’s results during the transition.

Prior to the announcement, MPAA traded at enterprise value (EV)/EBITDA multiples of 5.8x and 5.3x, respectively, our current 2011 and 2012 EBITDA forecasts — excluding any contribution from Fenco. In valuing MPAA on a pro-forma basis, we assume 12.8 million shares outstanding, $7.5 million in debt outstanding on MPAA’s term loan, and that the company fully draws down its $50 million (recently increased from $35 million) revolving credit facility to reflect the assumption of pre-existing Fenco debt, as well as to fund cash restructuring and integration expenses. All in, at current prices, we estimate total post-transaction enterprise value for MPAA of $250 million. Factoring $25 million in additional Fenco EBITDA, shares of MPAA would trade at just 4.2x adjusted calendar year 2012 EBITDA.

Balancing the execution risk of such a combination with the possibility of material accretion is the tricky part here. At the time of this submission, we maintain our hold rating on shares of MPAA reflecting the inherent execution risk as well as limited insight into the exact timing and strategy of the integration process. That said, in time, we believe that this transaction could prove to be a transformative one for MPAA, and very rewarding for the company’s shareholders.

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