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Dealership closings create opportunity for more independent aftermarket business

Saturday, August 1, 2009 - 00:00
Tony Cristello dealerships bankruptcy

We think that a more "do-it-yourself" attitude and trade-down mentality away from traditional dealer service on the part of the consumer has benefited many in the aftermarket so far in 2009. Looking to 2010, we expect to see this trend continue, in addition to the benefits provided by substantial contraction in the franchised dealer base.

While the number of franchised dealerships has declined, incredibly challenging conditions over the past year have greatly accelerated this contraction. General Motors sent letters to 1,380 dealerships asking them to wind down operations by October 2010. GM also expects a further reduction of 520 dealerships through attrition (excluding the impact of those brands GM steps away from), while Chrysler terminated franchise agreements with 789 of its dealers. Though the GM dealerships receiving wind-down letters have until Q4 2010 to cease new vehicle sales operations, we wouldn't be surprised to see a number close later this year and into early 2010 as they are likely to reduce their new vehicle inventories.

Slightly less than half of all dealers polled in a recent survey state that they plan to find a replacement franchise for their dealership. However, in our opinion, this will prove to be a challenge as import automakers (such as Toyota and Honda) have also seen their sales volumes come under significant pressure; with visibility still limited, we think it is highly unlikely that they will be looking to expand their U.S. dealer networks anytime soon. In fact, in 2008 alone the number of total import franchises in the United States declined by more than 3 percent. While other emerging players look to secure a U.S. foothold (such as Mahindra, Tata, etc.), we believe that this influx is still a few years out and unlikely to move the needle in the near term.

The distributors of wholesale mechanical parts into the independent aftermarket are likely to be some of the greatest beneficiaries of this contraction in the ranks of franchised new vehicle dealerships. The reason for this is that as a dealership loses its franchise agreement with an automaker, it loses access to that automaker's parts division, which is where the majority of parts for customer-paid (off warranty) mechanical work are sourced. It also means that the dealer is unable to wholesale OE parts (sourced through the automaker) to independent installers in competition with parts provided by traditional WDs, jobbers and dual-marketers. While all distributors stand to benefit, we believe that the industry leaders are likely to pick up a larger portion of the business. We conservatively estimate that roughly $1 billion-plus in annual incremental mechanical parts distribution should work its way into the independent aftermarket as a result of the GM and Chrysler dealership closings.

We believe professional installers and service shops also stand to benefit, although it is important to keep in mind that they will likely only prosper to the degree that dealerships not only lose their franchise agreements, but also exit the business completely. This is the case for maybe one-third of the total franchise terminations. With 2,700 GM and Chrysler dealerships losing their franchise agreements, independent body repair shops are simply going to have a more challenging time sourcing the OE parts that they need as there are fewer distribution points.

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, LLC NYSE/SIPC. Scott & Stringfellow is a registered broker/dealer subsidiary of BB&T Corporation, one of the nation's largest financial holding companies with $143 billion in assets.

TONY CRISTELLO Senior VP, BB&T Capital Markets Equity Research

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