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Pep Boys Still Driving to Nowhere

Gross margin continue to erode, including a Q3 drop of 150 basis points. Even though the company deserves credit for service revenue growth, service margin still managed to drop by five points. This is despite the fact that customers have responded well with higher transactions.

An argument can be made that the higher traffic actually hurt. Here too, Wal-Mart, which has an auto services business of its own, is undercutting Pep Boys' margins. And from a profitability standpoint, it doesn't appear as if management has an suitable answer. So does Pep Boys want to be a service-oriented business or a retail business? The "joint model" is still not working - not to the extent that it does for AutoZone and Advance Auto Parts.

Expectations for the Fourth Quarter

According to Yahoo! (YHOO), Pep Boys will announce fourth-quarter and full-year fiscal 2012 earnings on Tuesday. It's worth noting that the company has yet to confirm this. Here again, this brings up concern about the company's management and direction, which also suggests there's no enthusiasm about what the report may say. For that matter, the Street isn't expecting much.

Average estimates for full-year revenue is at $2.07 billion, which would represent 0.2% year-over-year growth, or roughly flat from the $2.06 billion posted a year ago. The company is expected to report earnings of 31 cents a share, which would be a year-over-year decline of 42% from earnings per share of 54 cents. These are not exactly breath-taking numbers.

Absent some clear fundamental changes, it's hard to see a silver lining with Pep Boys, especially since this turnaround story has been going on now for 15 years. Management must still address the fact that its stores are often considered to be in "undesirable locations" and are inefficiently operated from the standpoint that the store seems to have more space than is utilized.

Bottom Line

All of that said, the effort it would take for Pep Boys to fix itself is not impossible. However, it may require "getting worse" before the things get better.

Management should consider exiting the services business and focus solely on the retail end. Unfortunately, this would create additional "unusable space," which is already a concern. Thus, the "getting worse" part.

Suffice it to say, there are much better investment opportunities out there. And even for more risk-tolerant investors, this is not a stock bet on, especially since the valuation is already trading at almost twice that of Auto Zone and Advance Auto Parts.

At the time of publication, the author held no position in any of the stocks mentioned.

This article is commentary by an independent contributor, separate from TheStreet's regular news coverage.
Richard Saintvilus is a private investor with an information technology and engineering background and the founder and producer of the investor Web site Saint's Sense. He has been investing and trading for over 15 years. He employs conservative strategies in assessing equities and appraising value while minimizing downside risk. His decisions are based in part on management, growth prospects, return on equity and price-to-earnings as well as macroeconomic factors. He is an investor who seeks opportunities whether on the long or short side and believes in changing positions as information changes.
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