Stocking up on auto parts for fun and profit
This U.S. advisory says the way to profit in the reviving auto industry is to invest in auto parts stocks — beginning with one big Canadian stock.
The automobile is back.
It didn’t exactly disappear. Massive traffic jams still occur every day and millions of vehicles roll along superhighways and county roads.
But less than two years ago, the automobile industry in North America looked like it was headed for the scrap heap.
General Motors, for one, lost every bit of the market capital it had built up since 1955 (back in the days when “what’s good for General Motors is good for the country”).
But since cars remain essential, somebody has to make them. The automakers are back behind the wheel. Yet if you want to profit, says one U.S. advisory, you don’t have to invest in the whole car.
The people who deal in auto parts have been doing a roaring business, says Mr. David Dittman in Personal Finance. And there’s more to come.
He has five U.S. stocks to recommend. They are in the “aftermarket” business, selling auto parts to repair shops and car owners.
His first choice, however, is the giant of the industry, a renowned Canadian maker of auto parts that has done some retooling on its own.
Changing your own oil
The financial crisis forced some hard decisions on consumers. Instead of buying a new car, many are keeping the old one on the road longer. That means taking off-warranty cars to independent repair shops, and even changing your own oil and wiper blades, says Mr. Dittman.
This so-called “aftermarket” accounts for about one third of auto parts business in the U.S. And it has done a booming business. Last year, the advisory’s picks in this field all had total returns at or above 40 per cent.
“But the top performer among the automotive names we follow — despite the impressive totals for the retailers — was an original equipment manufacturer, a company that makes the parts that go into new cars.”
The stock is Canada’s Magna International (TSX-MG; NYSE-MGA). The name did not just come across Mr. Dittman’s radar. As associate editor of an online advisory entitled Canadian Edge, he knows it well.
U-turn in sales
Mr. Dittman gives his readers a full profile of Magna. It has 245 manufacturing operations and 80 product development, engineering and sales centres in 25 countries on five continents.
The original equipment manufacturing group (OEM), which supplies parts for new Chevys, Fords, Volkswagens, Mercedes-Benzes, Chryslers and Fiats, saw revenue rise 27 per cent year over year in the third quarter.
“Much of the growth was driven by a faster-than-expected U-turn for U.S. domestic auto sales,” says the analyst. Higher content, higher value vehicles like pickups and SUVs led strong sales in December.
This still doesn’t match the pace set in the middle of the past decade, he states, “but it looks like a self-sustaining recovery is taking shape in the U.S. auto industry.” Magna’s sales could grow by 6.6 per cent in 2011.
“Although there are signs of saturation in several isolated markets, Magna should enjoy several more quarters of rising demand for its automotive systems, assemblies, modules and components.”
While the European and North American markets have stabilized, there’s plenty of room to expand sales in Asia, South America and Africa.
Of course, the biggest change at Magna was the agreement by its founder, Mr. Frank Stronach, to relinquish control and eliminate the company’s dual-share structure. There is now just one class of shares, all common shares, each entitled to one vote.
Even after a 100 per-cent return last year, the stock is still relatively cheap, says Mr. Dittman. Its forward price/earnings ratio is less than 12. It also raised the dividend to $0.41 in November, and it now yields 1.3 per cent. It’s not unreasonable to expect another increase when Magna reports full year results on February 25, he adds. He has the stock as a buy up to US$66. It trades today at $56.56.
The average age of cars
In 2010, the closing of 1,160 dealerships in the U.S. shifted some $7 billion worth of business to independent service shops, auto parts shops and parts distributors. The five retailers this advisory recommends do a lot of business with independent mechanics, and do-it-yourselfers.
As the average age of cars rises, these companies continue to benefit from cost-conscious U.S. consumers, notes Mr. Dittman.
The first two do a good deal of advertising and you may know their names. Advance Auto Parts (NYSE-AAP) reported a third-quarter gross margin of 50 per cent on sales growth of 11 per cent. It returned 58 per cent last year and recommended as a buy up to $64. It has already shot past that mark to reach $64.93, yielding 0.3 per cent on its $0.24 dividend.
Auto Zone (NYSE-AZO) is another name that may have popped up on your TV. It turned in an “impressive” 62.4 per cent return in 2010, reports the analyst. It had the best operating margin in the industry in its last quarter. Buy it to $260, he says. It trades at $258.59 with no dividend.
O’Reilly Automotive (NASDQ-ORLY) has been busy freeing up cash with a new bond issue. Part of this will go to a two-year share buyback plan. The company already has solid operating results, with a gross margin of 48 per cent on sales growth of 13 per cent in the last quarter. A buy up to $55, it, too, has gone past it, to $57.92. There’s no dividend.
US Auto Parts Network (NASDQ-PRTS) “uses the Internet to distribute goods to customers in a timely fashion,” says the analyst. Its business is rooted in customer service and the do-it-yourself experience. Year over year sales growth was 53 per cent in the last quarter and the stock’s valuation is rising rapidly. It’s not expensive however. It’s a buy up to $10, and trades at $9.75 with no dividend.
Genuine Parts (NYSE-GPC) trailed the others last year with a “mere” 39.9 per cent return on its shares. But it’s been just as successful on the balance sheet, with year over year growth of 13 per cent in the last quarter. It also offers the best dividend yield, at 3 per cent on a payout of $1.64. A buy up to $52, it, too, has forged ahead, to $53.31.
You may not be spending hours in the garage labouring to keep an old car as new as possible, but it looks like all those auto parts might fit nicely into your portfolio.
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