After reporting earning and a share price decline is Bapcor an opportunity?
The discretionary slowdown weighs on retail, but maintenance remains resilient.
Mentioned: Bapcor Ltd (BAP)
We make no changes to our $8 fair value estimate for shares in narrow-moat Bapcor (ASX: BAP). First-half fiscal 2024 underlying earnings before interest, taxes, depreciation, and amortisation (“EBITDA”) is slated to be about $143 million, or about 2% below the previous corresponding period.
The shares have fallen approximately 13% over the past year and are currently 30% below our fair value discount. The dividend is fully franked and the shares are trading at just under a 4% yield.
Cost of living pressures drag on retail segment demand and, hence, the segment’s profitability. We lower our fiscal 2024 EBITDA forecast by 1% to $301 million, or 10% above fiscal 2023.
The discretionary spending slowdown, which weighed on Bapcor’s retail segment in the second half of fiscal 2023, is persisting. First-half retail EBITDA is expected to be about 13% lower than the PCP.
The retail segment, which caters to the do-it-yourself consumer through stores like Autobarn, is more exposed to discretionary purchases. Indeed, the firm noted lower spending on discretionary categories and lower fitting and installation volumes in bull bars and roof racks.
Despite a muted near-term outlook, the underlying dynamics in automotive spare parts remain positive, and our long-term forecasts are broadly intact. Real household income is down as inflation runs ahead of wage increases, and consumers are cutting back on nonessentials.
We think the slowdown in discretionary spending is cyclical as consumers cut back on nonessentials in the near term. But we expect consumer demand for discretionary goods to revert to trend levels in the longer term.
Most earnings are nondiscretionary. Bapcor’s trade and specialist wholesale businesses comprise about 80% of group earnings, principally selling maintenance-related automotive parts. First-half EBITDA is set to be about 4% higher compared with the PCP in these largely nondiscretionary “do-it-for-me” categories. We estimate about half of the remaining retail business is nondiscretionary spending for DIY maintenance.
We expect Bapcor's strong earnings growth to persist as the competitively advantaged trade business capitalizes on favorable industry dynamics.
We forecast Bapcor continuing to capture market share in the fragmented trade business as it rolls out stores. We also project same-store sales growth of around 3% per year and growing private-label penetration to more than offset near-term headwinds, leading to a five-year EPS compounded average growth rate ("CAGR") of 13%.
Compared with new vehicle sales, which can prove volatile, the automotive spare parts industry is resilient. Automotive spare parts, required for routine maintenance and repair of vehicles, are less affected by changes in discretionary income and consumer confidence, and demand is broadly driven by the increasing pool of vehicles.
We expect the number of registered vehicles to continue growing at a low-single-digit CAGR over the next decade, roughly in line with population growth.
We estimate there are currently around 20 million passenger vehicles in Australia, with an average age of about 11 years. We also argue an element of countercyclicality for auto parts. While maintenance can be delayed to some extent, it cannot be ignored completely.
Conversely, we expect new vehicle sales to slow in an economic downturn as consumers choose to maintain their existing car rather than upgrade to a newer vehicle.
We expect Bapcor's new stores will come at the expense of the competitively disadvantaged smaller players, which we anticipate make up more than 40% of the market, due to the firm's ability to provide parts to commercial customers more quickly, reliably, and at a lower cost.
Bapcor enjoys a narrow economic moat, thanks to the brand intangible assets and cost advantage in its trade and retail businesses. We expect returns on invested capital to average approximately 16% during the next 10 years, compared with 11% in the last decade, exceeding the company's 8.5% weighted average cost of capital.
Bapcor's trade businesses in Australia and New Zealand contribute the majority of consolidated earnings. The firm's extensive store network affords a durable cost advantage over smaller peers.
We estimate Bapcor's Burson stores hold the number two position in Australia, with a domestic share of around 27%—marginally behind major competitor Genuine Parts, which owns the Repco and NAPA businesses in Australia. The remainder of the industry is highly fragmented, comprising independent retailers and smaller regional chains.
The New Zealand market is similarly structured, although we estimate Bapcor holds a more dominant 35% market share in New Zealand, around 10% ahead of its next-closest competitor, Genuine Parts.
Bapcor operates more than 180 trade stores in Australia and around 60 trade stores in New Zealand. This scale allows not only additional buying power, but also the ability to source an extensive range of inventory and the flexibility to efficiently allocate inventory between stores.
We expect smaller players, lacking this scale, will be unable to replicate Bapcor's low-cost position. The firm is further bolstering its dominant position by aiming to increase trade stores by around 10 to 12 per year and two to three per year in Australia and New Zealand, respectively, over the next five years. We expect this will lead to Bapcor continuing to capture market share at the expense of the smaller operators—from around 27% in fiscal 2022 to 33% by fiscal 2027.
The flexibility in Bapcor's store network allows it to stock over 500,000 SKUs, many of these slow-moving, for over 20,000 different vehicles. The network's extensive reach means Bapcor is able to provide parts to more customers in a timelier manner than smaller competitors, often within the hour, even for slow-moving SKUs.
Bapcor's trade customers consist of principally chain and independent mechanic workshops. These businesses are relatively price inelastic, as costs are passed through to the end consumer, and these businesses instead value parts availability and convenience, allowing service bays to turn over quickly.
We estimate the three major players in Australian automotive parts retailing (Super Retail Group's Supercheap Auto, Genuine Parts' Repco, and Bapcor's AutoPro and Autobarn businesses) represent about 45% of the market. We expect Bapcor is the number three player with a market share of around 12%. The remainder of the market is highly fragmented and we estimate the next largest competitor, Auto One, has a market share of just 2%. The retail segment caters to the more price-sensitive DIY consumer.
Despite its number three position, we expect Bapcor's retail business enjoys a competitive advantage. Similar to the Burson businesses, Bapcor's extensive retail network of over 300 stores (including independents) affords a much greater level of buying power relative to smaller competitors. This is particularly powerful when combined with the trade segment as both businesses stock many of the same SKUs.
The DIY consumer is generally more price-sensitive as evidenced by Bapcor's retail margins being consistently lower than its trade business. Bapcor is able to instead add value in the retail space with in-store expertise, given the increasing complexity of vehicle hard parts, and value-added in-store services.
Providing this expertise, along with the price sensitivity of the DIY consumer, allows Bapcor to drive sales of lower-cost but higher-margin private-label products through its retail business. Since acquiring the retail business in fiscal 2016, Bapcor has increased private-label penetration from 14% of sales to 34% of sales in fiscal 2022.
Availability and timeliness of automotive spare parts is also often crucial for the DIY consumer as failure of critical parts generally requires near-immediate replacement. We expect this, along with the technical knowledge of Bapcor's sales staff, insulates the retail business from online competition somewhat, as demonstrated by Amazon's lack of headway in U.S. auto parts and the online channel's negligible share of auto spare parts in Australia.