Revving Up Returns With AutoZone, Pep Boys

Car parts stores are benefiting as recession-wracked consumers keep their junkers on the road.
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The economy's looking grim -- which is just the way auto parts dealers like it.

Two big auto parts retailers,

AutoZone

(AZO) - Get Report

and

Pep Boys

(PBY) - Get Report

, have enjoyed skyrocketing share prices this year as cash-conscious consumers have increasingly opted to fix up their cars rather than put them in the shop or buy new ones. Indeed, a recession, with its attendant emphasis on consumer thrift, could prove a boon for outfits like these.

"We still think there's plenty of room" for growth, says John Lawrence, who covers AutoZone for Morgan Keegan. Lawrence began recommending that investors buy the stock about a year ago when it was trading in the $20 range. The stock recently traded at $58.40, up 112% on the year. (Johnson has an outperform rating on the stock, and his firm has had a banking relationship with the company.)

Meanwhile, Philadelphia-based Pep Boys has seen its stock more than triple this year, as investors have gained confidence in the company's plan to reduce expenses and boost profits, even if revenue has declined this year. Many of the gains at both companies can be attributed to initiatives announced several quarters ago. Last October, Pep Boys said it was closing 38 unprofitable stores and two distribution centers, and slashing 1,200 jobs.

The result: While revenue is expected to decline to about $2.2 billion this fiscal year from $2.4 billion last year, earnings per share should jump to 64 cents next year from 18 cents this year -- which includes restructuring charges from the store closures and layoffs -- according to Bret Jordan of Advest. Next year, he estimates earnings will climb to 77 cents a share, although he says that is a conservative estimate, given the sales outlook. (He has a buy rating on Pep Boys, and his firm doesn't have a banking relationship with the company.)

In the case of Memphis, Tenn.-based AutoZone, the company hired a new chief executive this year, Steve Odland from grocery kingpin Ahold, and fine-tuned its marketing campaign. It saw a healthy 8% gain in same-store sales in its recently completed fourth quarter, compared with a 3% rise in the year-ago period. "It was a major trend change, and a lot of that was from advertising," says Lawrence, who attributes about half of the same-store sales gain to the new marketing effort.

The Upsell
Car parts outfits benefit from recession

Source: Yahoo! Finance, Detox.

Imma Jo Kauffman, AutoZone's vice president of investor relations, says the company has largely switched from advertising on cable television sports to national drive time radio and Hispanic radio. The message has also been fine-tuned: Rather than simply touting low prices, the company has been more aggressively tying car maintenance to safety.

"Our new ad campaign is much more in your face," she says. "Historically our advertising has been much more low key."

Now, much of the bullish outlook centers on macroeconomic trends and data that suggest Americans are keeping cars on the road longer, which means they will be spending more on spare parts to keep them running.

In a recent report, Advest's Jordan calls auto parts retailers a "defense against a slowing economy," saying that "recent softening in the economy has provided a further catalyst for improving business trends."

He cites data that show the number of older cars on the road has increased for the first time in six years, as has their share of the vehicle population. "As cars age, their parts deteriorate and need replacing," he writes. "In a sluggish U.S. economy, we believe new-car sales will remain soft, further increasing the average age of vehicles in operation and general repair needs."

Wheel-Spinning
Annual sales of new cars and light trucks

Source: Advest

The stocks trade at similarly modest valuations and have nearly the same five-year projected growth rates. Despite their steep run-ups, both trade at close to 20 times forward earnings. AutoZone is projected to grow earnings at a 15% annual clip over the next five years, while Pep Boys is slated for 13% growth, according to Thomson Financial/First Call. But the earnings outlook could improve with the slowing economy.

These days most portfolios could use a couple of spark plugs.