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Panelists positive about trends in spite of near term hurdles

Monday, September 12, 2011 - 00:00

Looking back at our August automotive aftermarket investor conference, we would say the sentiment of those management teams participating was positive, perhaps even more so than we would have expected given the deterioration in consumer confidence over recent weeks. With the exception of those companies with greater exposure to tires (big ticket items = deferrals), we suspect that trends are holding up even against the difficult comparisons from a strong Q3’10 although we are also mindful that comparisons really don’t ease until Q1’12. We are optimistic that gas prices will retreat more appreciably in the coming weeks (outside of weather-related disruptions) and months based upon the current level of oil prices, which should help free up some much needed disposable income. And although miles driven may not be as important an indicator as in the past since the majority of these miles are now being driven on a much older vehicle, a recovery would likely provide a boost to store level traffic for both DIY and DIFM participants.

Our view remains that there will be pockets of volatility (outside of the macro gyrations) as investors digest the varying degrees of channel checks throughout Q3 and Q4, but overall we still think 2012 will be another solid year for the group and encourage investors to pick their buy spots but have exposure heading into next year.

In a period of weak economic growth, very elevated levels of un- and under-employment, and further deleveraging of household balance sheets, we believe underlying DIY demand fundamentals are likely to hang in fairly well over the intermediate term, outside of potential near-term shocks from higher gasoline prices and challenging yr/yr same store sales comparison. That said, we believe the wholesale parts distribution business remains by far the greater long-term opportunity for growth. Not only is the commercial/wholesale parts distribution market larger and more fragmented, but increasing vehicle complexity is likely to drive a larger share of aggregate maintenance and repair into the DIFM channel over the longer term.

From a management perspective, parts proliferation and inventory expansion continue to exert huge pressures on the automotive supply chain. That said, the larger players have done a solid job of finding ways to offset the capital intensity caused by slow inventory turnover rates through demand forecasting models, application of local VIO analyses, and greater utilization of supply chain finance programs to accelerate cash collection for suppliers while reducing net-owned inventory for the retailers and distributors. When interest rates increase, the higher cost to supply chain finance programs will be dealt with in much the same way as higher labor and raw material costs. However, we fear suppliers may bear the greatest burden.

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