Wednesday, March 28, 2012

Pep Boys Goes Private – Gores Group Plucks a Future Winner

David Carlisle


A private equity group (Gores Group) is paying a 24% premium for Pep Boys , which comes up to a near-billion dollar price tag. You might ask: why?

Pep Boys’ stock prices lag its counterparts and have done so for years. It has been a dog so long that its bark is practically peeling.

Why?

Because the Gores Group is brilliant. They see that the aftermarket parts distribution market is evolving to the point where the chains will be the only significant players left. When Gores looks at Pep Boys they see Rocky before the big fight with Apollo Creed (played by AutoZone). Our post-recessionary aftermarket is one where cheap parts sell. To win in this market you need three things: (1) lots of distribution (Pep Boys has it), (2) DIY products and services (Pep Boys has them), and (3) huge volumes of product to buy (Pep Boys has this, too.)

OK, you need a bunch of other things that can be brought in the door:
  1. Capable purchasing organization to buy right, on a global basis (my guess is that Gores sees this as an opportunity)
  2. Brilliant store planographing, stocking, and merchandising – AutoZone is the best here and can be emulated
  3. Very capable Internet distribution strategy with mobile applications – B2B2C handles both DIY and DIFM segments
  4. Brilliant supply chain management – again, this can be brought in
  5. Brilliant digital marketing and social media strategy
So, what’s going to happen? PE firms do four things: (1) they build large investment funds from money sources, (2) they buy firms with these funds and borrowed capital, (3) they run the firms for 3-5 years, and (4) they sell them in order to give a return back to their money sources. The returns from PE firms are as good as it gets. So, Pep Boys will be sold at a premium in another five years, based on sales and EBITDA growth that will accelerate. Furthermore, the next set of buyers will need to see a clear sightline to another 3-5 years of growth … otherwise they would not pay a premium for it.

Bottom line: So, what’s going to happen? Rocky will do fair battle with Apollo – Pep Boys is about to get healthy again. Based on recent focus groups with IRFs, jobbers, and WDs, my money is on Gores Group.

Wednesday, March 21, 2012

Can Longer Warranties Sell Parts?

Yes. Especially wholesale. Play the video of an independent installer talking about selling a Jeep Grand Cherokee transmission at $2,000 more than the aftermarket. It is 58 seconds long and reads like War & Peace. Much more to come at the NAPB session on the state of the “aftermarket”. Customer panel surveys, leasing manager surveys, and focus groups of end-customers, dealer parts managers, independent installers, jobbers, and heavy truck fleet managers.

Friday, March 16, 2012

The Evolution of DSCs – 2012 Carlisle Consumer Sentiment Survey

A lot has changed since 2010. The percentage of the survey population represented by “DSCs” (Digital Service Customers) rose substantially – from 32% to 55% in 2012. Now, the majority of your service customers are DSCs. This surpassed our expectation, not to mention that we thought shifts like this would spell doom & gloom.

But, it didn’t. In fact, what happened was the rate of switching among DSCs, as a result of internet research, declined. In 2010, 39% of DSCs switched service providers based on internet research. In 2012 this went down to 30%.

Given the rise in number of DSCs in the consumer population, overall switching as a result of internet research still went up, from 12.5% of the total consumer population to 16.5% (a 32% increase). However, to put this in perspective, if the rate of internet-related switching had not declined, then 21.5% of the total consumer population would be switching as a result of internet research (a 72% increase!).

What happened? Two things:

First, the increase in digital customers was fueled by customers who used fewer web resources. In 2010, we saw that DSCs were more likely to comprehensively research providers on the internet. In 2012, DSCs are more likely to use the internet to answer specific questions (e.g. “When do they open?” or “How do I get in touch with them?”). DSCs who used more resources in their research were more likely to switch - probably because they are actually comparing the merits of providers, rather than just researching provider details.

Second, usage of brand sites increased for DSCs. In both surveys, we found that brand site usage positively correlates to lower switching behavior, so this increased usage pushed down the rate of switching for DSCs.

Bottom Line: In a nutshell, better and fewer resources were needed for research, and more DSCs landed on the brand sites. This helps explain why the third parties, like RepairPal, have not gained any traction in the market. Their offerings are too complex as they try to fulfill every service customer need. Their mobile applications are fairly primitive, as well. The OEMs have seen that offering an Owner’s Center makes a lot of sense. They have developed better applications that are more tailored to what service customers really want. So, yes, switching has increased, but the OEMs seem to be on the right side of these digital strategies.

Thursday, March 8, 2012

The Mysteries of Life and Parts Sales Trends

I have had the opportunity to learn from a wide range of folks. At the top of the heap was Stu Wagoner from General Motors. He encouraged me to slave away for months and create the “Crystal Ball” presentation at each year’s NAPB. He challenged me to leap and take risks with what I saw. Mediocrity and lazy thinking would result in much harsher lashings than hard fought, but na├»ve, stupidity. It is OK to be wrong when nobody else has yet to form an opinion. It is OK to be wrong when you are the first to catch your error. We have jettisoned the Crystal Ball, but we are still musing about things in the market. This crazy parts market has got me thinking.

I had dinner last week with a brilliant fellow who understands our aftersales parts business as well as anybody I know. I asked what was going on; he replied, “It looks like we have made more than a dent in retention.”

I will be talking a lot about this at the NAPB session on the aftermarket. The “what’s going on.” We seem to be in uncharted waters and have been since 2009 when sales took a fairly significant hit due to the recession. In the first chart I’ve plotted two different parts sales glide paths. The red bars represent what I term to be “the fundamentals.”

What I did was to tear apart the fleet into age of vehicle, forecast it out in time, and compute parts sales based on consumption rates for maintenance and repair (and powertrain), collision, and DIY. I ignore accessories simply because they are driven by new vehicle sales – they add about 15% to the bars in the chart. Next, I normalized the data so that it was no longer a predictor of $ but a predictor of trend. As you see, the red bars nicely dip in response to the huge drop in new vehicle sales that were a consequence of the recession – it will still take years for the industry to get to pre-2009 sales levels.

The green bars in the chart represent what’s really been going on and what will probably continue to go on. Here, I show the results we’ve seen from our monthly MarketWatch – 2009, 2010, and 2011. We have a large enough and broad enough sample to extrapolate it to the entire OEM sales segment and be roughly right. In 2009, the OEM segment slumped more than what was predicted in my “fundamentals” model. That made sense simply due to market overreactions caused by paradox of thrift and bullwhip effects. However, since 2009 the OEM segment has rebounded with annualized growth rates in the 8% range. They were growing when they should have been shrinking.

The second chart – the one with lines all across it – maps reported sales data from the most significant publically owned aftermarket parts companies. It contains two streams of percentages: the top one shows AAIA annual aftermarket segment growth for p-car and heavy truck, the bottom stream shows annual consolidated growth for the listed public companies. The composite group shows roughly double the growth shown by AAIA. A large portion of this “excess growth” is from industry consolidation where the top auto chains have been gobbling up each other. When I look at AAIA’s numbers, I see modest parts sales growth mostly coupled with pricing.

Roughly right, AAIA’s parts segment is growing about 3 percentage points a year due to price, and maybe 1 percentage point a year in true growth that reflects the needs of our burgeoning car parc. Recent post-recession growth for my set of public companies is in the 10% range, of which 4% is easy to explain. The other 6% is a combination of consolidation and acquisitions, and golly-I-just-don’t-know. It’s OK not to know everything.

I can better understand the OEM parts segment growth that has been in the 8% range for the past two years. The third bar chart helps – it is from the 2012 Customer Sentiment Survey. It shows where folks went for service the last time they went and where they typically go. They are either the “original” vehicle owner, or they bought the vehicle used. What this shows is that original vehicle owners go to the dealer a lot more than used vehicle owners. It is pretty whopping – the big numbers in the chart show this by age of vehicle. According to RL Polk, vehicle retention (i.e., holding on to cars longer) is up 31% since 2007. That’s a lot. When you take both these phenomena into account, you can begin to understand the OEM growth numbers.

Bottom Line: There seems to be evidence that the OEMs are regaining parts market share, and the most convincing argument in support of this is longer vehicle ownership by new car buyers, which has been bolstered by the recession’s bite out of consumer pocket books. It also seems logical that the parts market for p-car and heavy truck is growing at a faster rate than AAIA predicts. This is due to parts consumption rates from an older car parc. But, there’s a heck of a lot more to this story. See you in Chicago.