Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)

Monro Muffler Brake (NASDAQ:MNRO)

Goldman Sachs Emerging Growth Conference

November 14, 2013 12:40 ET

Executives

Rob Gross - Executive Chairman

Analysts

Matthew Fassler – Goldman Sachs

Operator

Matthew Fassler – Goldman Sachs

In any event many of you know Rob, he has been the CEO of Monro. Was Chief Executive of Monro since 1999 and now I believe is Executive Chairman having ascended if you will to that role in October of 2012. So was with the company 14 years as CEO for most of that time. Prior to that he was Chairman and CEO of Tops Appliance City which was a consumer electronics retailer here in this part of the country. Those of you who know Monro know that it's been a terrific story. It's been a growth company in a fairly mature industry growing both organically and through M&A with a very sound business model, a very sound management if I may and has snuck up on us to become not such a small company even though here at our (indiscernible) conference. This is obviously been a sector that over the past probably year and half has been a little more controversial than we have been used to. Rob is always had great insight on the sectors as well as on its own company and it's called it as he sees it, some delay that he is here share some thoughts with us today. He will give a presentation and then we will have some Q&A.

Rob Gross

Thanks Matt. Thanks Goldman, everybody got their lunch? So I’m Rob Gross, Executive Chairman on Monro, been around for a while as Matt said and I’m going to try and go fairly quickly through the slides. I see a lot of familiar faces and then I can add all these brilliant insights as Matt was saying I have which I’m dying to figure out what they are but so be careful everybody. Who we’re? Monro Muffler Brake and Service is our core name. We started as a one unit might as franchise about 57 years ago. It's the new signs we’re putting up on the Monro stores as the signs get older we trade them. When I got there the first thing we did was we added and service and now the new signs are Monro Tire Brake and Service as Mufflers has gone from 40% of the business to 5%.

So the other pictures you see are the six brands of tire brand we have over the last 12 years, we started buying tire stores and felt having two brands in the market, a service brand and a tire brand gave us a competitive advantage. We don’t have any franchises so those are the six brands that remain upper left hand and corner of the Mr. Tire is our go to brand. Whenever we change a brand for the most part we put Mr. Tire on it. The other brands exist because we don’t believe in television, advertising. We think it's expensive. We’re not a national player, I don't want to spend a lot of money to talk to you for 30 seconds while you’re going to the bathroom or making a sandwich. I'd rather talk to for an hour or for 60 seconds when you're in your car listening to your bad brakes.

So when we buy a good brand that has been in business a long time. We keep the brand name and the customer goodwill that has been built up and that's why you see numerous brands there. Makes us largest chain of company operated under car care facilities in the United States, and as of September 28 which is the end of our Q2, we’re a March year-end company, 940 stores in 22 states.

Our geographic presence we go from St. Louis, Missouri to Maine to South Carolina, 22 states we get three times bigger and not leave that current footprint. If you ask where we would be in five years? I would say we probably be in 24, 25 states contiguous and twice as big and twice as profitable.

Our service mix you can see some of the changes, we have a comparative of Q3, Q2, FY ’13 and FY ’14. The biggest change you can see is the red area again 15 years ago we sold no tires, so the biggest change is we had starters, alternators, batteries and we added tires. We needed to compensate for exhaust with stainless steel became standard equipment on all cars and lasted 12 years versus what the normal replacement cycle used to be four years. So we had a category (indiscernible) decline needed to add other categories and move the business out. Tires has been the growth category with all the acquisitions we have done. One of the issues then coming from that salesmanship is our gross margin percentage, we run the company on operating margin percentage. Gross margin percentage is under pressure because tires are growing as a percentage of our business, and you can see that tires are typically 20 points below our core gross margin, why? Raw materials, oil, and rubber going in tires, it is the lowest margin product we sell. It was down 20, if you look at our core gross margin being about 40. What this box is same, brakes and steering are plus 15 above that.

Maintenance and exhaust, that are our baseline margin, tires are minus 20, not counting alignments and other services. So tires are improving now because cost of goods are coming down significantly. Tires has seen the quickest increase in the highest priced in history and started with the Chinese tariff that was put on adding 15% to all imported Chinese tires that by the way is now come off a year ago, October but what that effectively did is it raised the price of every tire sold in this country by 15% because the tire manufacturers said this is an opportunity for us to go for margin and if you follow any of the tire manufacturers their margins were at historic levels, not sustainable, but certainly they took advantage of the opening direct import price going up 15% every tier above that then went up 15%.

What’s happening now is the Chinese import tires are down 15% to 20%, the branded guys have reduced their prices 8%, it continues to be an environment where the next move on cost of goods will be down. So that's why we say the tire prices are improving. What's important in our business remember it takes 90 days for something to get from dock to dock and another four months for it to move through our inventory turns. So on Chinese imports there is a seven month lag from when we buy something at a lower cost for it to make its way through our P&L and that same period which is four-month, the domestic product, which is why we said for the year operating margins would be a 75 to 100 bips where as the first six months they are flat.

Speaking to the fact that they are going to be up a 150 to 200 bips the back half of the year to average out to that kind of improvement and it's because the flow through of the cost of goods. Our operating model we’re all company operated stores, you know fast to better, cheaper, centralized purchasing, distribution, efficient marketing, we are 860 million sales company and a $160 billion do it for me aftermarket and we are the low cost operator with the highest operating margin by almost double of our closest competitors. And you can see that in our acquisition rollup strategy where we have done a number of deals every one of the deals we have done we pick up 800 or 1500 basis points of operating margin, everyone, 600 to a 1000 on cost of goods, a 100 to 150 on distribution and logistics, a 100 to 150 on advertising again number one or number two market share, store density makes for more efficient advertising and as we said we don't spend money on TV, so we’re much more efficient on the Internet buying keywords, things along those lines and then lastly our labor productivity because of our systems we know by store by our when customers are coming in the door our labor rate is typically a 100 to 150 basis points less than the competition creating a relatively risk-free way to grow the business.

If you think of the arbitrage we traded 10 to 11 times EBITDA, we buy things for 7 to 7.5 times EBITDA and after we put in our operating model after a year they effectively won at 5 to 5.5 times EBITDA. So our five year operating model then on average because it's choppy and we can talk about as Matt said the last year and half of choppiness, we will average 15% topline growth a year, 10% through acquisitions, 3% to 4% comps, 1% to 2% Greenfield stores. That 10% acquisition slog will lose a little money in the first six months of operation as we put our systems in and invest in the business, the disruption. It will get that money back the second six months of ownership, we will be $0.08 to $0.10 accretive in year two and an incremental $0.08 to $0.10 accretive in year three.

So with 28% acquisition growth that we did last year you can almost triple those numbers and move forward. Our value proposition again, build trust, we do that with the low price oil change, get someone in, have them see that we didn’t get grease on their steering wheel, we didn’t try and sell them bunch of stuff they didn’t need. Get their name in our database and direct market them. It's time for your next oil change, get your odometer reading, it's time for your 30,000 mile scheduled maintenance, get the once a year state inspection. It's time for your state inspection for your 30,000 miles scheduled maintenance, why drive-by two of our locations to pay twice as much at the dealer to keep your warranty in place.

High customer satisfaction, again you can look at this, the books are out there, but basically we phone shoppers stores constantly, we have mystery shops and a van out there where we are shopping them constantly and we asked our customers to give us a feedback on the website and every customer, good or bad experience as an opportunity to get that.

Again we talked about the industry very big, very fragmented, do it for me is growing, do-it-yourself is shrinking. The do it yourself that is shrinking though is a commodity business that the major players will continue to grab share at the expense of the middleman and the smaller players that side of the industry is about 15 years ahead of where our side of the industry is the do it for me which our side of the industry is probably about 15 years ahead of where the roll up of collision shops will be.

So it's just going to continue from a retail perspective doing you know what’s being going on. Average age of the vehicle, it's interesting when the average age has 10 years everyone thought that was a monster tailwind for us. Now the argument is now that it's 11 years and rising, cars that are too old everyone is going to buy a new car, makes no sense to me. If you’re going to buy a new car the argument should hold that the rest of the population that can't afford a new car might be doing a little bit they might fix their car and if the economy is so bad that you’re not going to drive, buy a new car maybe you’re going to fix your older car for longer. So you know this argument of secular decline, the cars are too old. Everyone is going to buy a new car doing buy into it at all and I guess the easiest way to prove it will be you know starting run some nice positive comp numbers again.

One thing I would say on that though is if you look at last quarter we ran a plus five in exhaust and a plus two in shocks. Those are two categories that are not safety-related that are typically done on older cars that don't add anything to resale value and that someone wouldn't do that high price service if they were planning on getting rid of their older car. So and again something like exhaust with 14 straight years of comp declines and exhaust as we cycled through what was occurring with stainless steel. So favorable industry trends, lot of cars on the road, they are older, they are more complex, demographics, baby boomers don't fix their cars. We've have had ability to raise prices, headwinds, fire cost of goods are starting to come down. If there is high gas prices out there that’s a negative, gas prices have been coming down that's a positive. The consumer in our geography, not these weather but the with last two year's winters have been nonexistent and November is very important month for us to sell snow tires. This is just graphically shown what we talked about, EPS trends looked a lot prettier few years back but we’re figuring it out.

Historical financials again, you know we had three years of positive comps from fiscal ’09 through ’11 averaging 6% up. We’re not a 6% comp company, we benefited coming out of the banking and housing issues with three super years number one because of the deferral cycle was created but number two in our geography had outperformed because we didn’t have the structural housing problems as the lot of the rest of the country did. Cleveland, Buffalo, Rochester housing doesn’t go up, it doesn’t go own as Florida, Texas, other areas they were seeing these wild swings. So we had a normalized winter, we have three years running plus six, lot of questions we get now Rob, aren’t you an idiot for buying all these tire stores when tires has been your major problem. You know I didn’t get that question once in 9, 10 and 11 when tire comps were up 9.

So last year and half I would agree with that statement, long-term it is the business model issue that will give us market dominance and an opportunity to grow the business at lower risk and a faster pace. Balance sheet highlights were not highly levered. It continues to go down 50 million to 60 million free cash flow. Again Nancy you want to ask me all the tough questions, our growth strategy increased market share through same-store sales growth, acquire [ph] competitors cheaply, continue new store openings and existing markets. These are the acquisitions opportunities we've done. Why we got into the tire business? What it's done for us? The opportunity to grow the business at lower risk, to hedge the business. These are the deals we have done recently, you can look at them and our earnings estimate a buck 58 to a buck 65 for Q3, a buck 41 to a buck 46 versus $0.35.

Last year nice improvement, we said our earnings estimate for this year now incorporate things not getting better, so no benefit from weather. We’re hoping for a better winter we are assuming we’re going to continue to run our run-rate, it's not going to get better. That should be a worst case scenario or a realistic scenario. If things get good we should be able to beat those numbers. And just showing interest expense, D&A, EBITDA, approximately a 123 billion, cash flow priorities, due [ph] deals, same contiguous markets, buy them right, accretive quickly if not pay down debt.

We have bought back stock place in the past, last time was cash for clunkers when everyone thought we weren’t going to sell anything. If the stock gets cheap enough to where knowing what we do and knowing the lack of risk with perfect information on our own company mirrors buying something for 7 to 7.5 times, turning it into 5 to 5.5 we will buy back stock again. We have 1% dividend, we’re committed to maintain but short of that. We think growing the business the way we have been with minimum risk is the way to grow the business and investment highlights. Prior to last year 11 straight years of comp increases, eight dividend increases and the eight years since we initiated it and I’m all yours Matt.

Question-and-Answer Session

Matthew Fassler – Goldman Sachs

You could have got longer, you were terrific I appreciate it but I’m happy to engage you here. So the first question I want to ask, it's on the market but on the tire market. So and there is a couple of derivative questions from this but the basic question would be what will it take for that market to turn itself around? What are the drivers and how might they be distinct from other parts of the aftermarket business?

Rob Gross

Well I think in the time where the consumer has been stretched the price of tires is at an all-time high started with the Chinese tariff put on and then exacerbated by rubber and oil prices bouncing around and the tire manufacturers doing a real good job capturing all those benefits similar to probably pricing in the airline industry where oil keeps going down and airfares down.

So I think it created artificially high margins. I think you see some of that with the Cooper Apollo Deal and the question for the branded manufacturer is going to be how much share do they want to continue to seed to the Chinese imports because in our business, our units of direct import product went from 15% of our mix to 30% of our mix in 2.5 years and we are not a company that tries to shift the customer. You come in with a product, you're happy with it, that’s what we will sell. But the spread between the low end and first-tier branded product historically is about 15% that has grown to 25% and our customers on the highest ticket item they are going to put in their car that the sticker shock is absolutely there in a down economy they are saying I'm going to opt for this lower cost of goods and by the way I think the long-term risk is if I'm paying 25% less for something and it worked for four years, am I now going to go back to what is viewed as a branded product versus saving the money next time.

Matthew Fassler – Goldman Sachs

And can you live with the private label firms continuing to get your action, will that be consistent with the good business model for you?

Rob Gross

Sure. I mean our gross margin percentage is higher with private label, our gross profit dollars are similar with private label and again we are still in the infancy of this program so it keeps getting better, but we will never be a company that tries to move the customer. If the customer is seeing value, we will bring them there from an economic standpoint the only thing that might show up as negative with the private label which we've commented on before is the average selling price obviously goes down. In Q1 we had a 4% tire unit comp increase for the first time in 18 months that only translated to a 1% tire comp improvement because of the average selling price. So we will cycle through that but we want to deliver value to our consumers and as long as we’re doing that we will figure out the business model beyond that.

Matthew Fassler – Goldman Sachs

Now the tire business has its own distinct supply chain and pricing dynamics as you stated. If I think about much of the rest of the business and if I group you into the broader aftermarket world, much of the slowdown in 2012 was attributed and it seemed it like it was pretty credibly attributed to weather and particularly for companies like your own that are focused in this part of the country and eastern part of the U.S. Now there have been some rays of light in 2013 but as I recall what the expectations were for lots of companies coming to ’13, cycling the weather was supposed to bring some bigger tailwinds than I think it ultimately did, which will leave us with two options for what’s going on, one is, lingering macro choppiness and the second would be if I can play devil’s advocate for second on your car age chart [ph] I saw it went up 8/10th of a year between 11 and 12 and then between 12 and 15 over three years. You go up slightly less than that, so the pace of aging is a little bit slower. Which do you think it is versus there are some other factor that’s trying to get in the way.

Rob Gross

Well certainly I think in our areas which is supported by National Parts Retailers you know that in our areas having difficulty in the same region and by the way they sell no tires which is the worst-performing category. Weather is an issue and you see West Coast Station, National Retailer continuing to knock the cover off the ball with no exposure to our area. So certainly that plays a piece of it. The weather I might say the reason that the rebound might be slower than we like is last winter was anemic also from a snowfall standpoint, certainly not as bad as the year before which was the softest winter since 1880. But we had two years of really bad winter, we have bad economics, but in our region I think the other thing is we outperform for three years and retail has a cyclical component. So if you’re getting three years of a product category that no one wants to buy consumer wise, and they bought it for three years. The deferral cycle shortens. We have now had two crummy years in our territory which starts to rebuild these cycle and we think that is the opportunity at some point. There are basically two points in the year where we will see something rebound and know the deferral cycle is shortening. It will either be off winter weather in November and early December, which should then drive a consistent good number through March and if it doesn't occur in November and December, end of December everybody is buying in Christmas, January everybody is paying for it. If it snows in February and March it's too late except potentially helping April and May.

So if we don't see it in November we’re not going to see it and our numbers reflect our current estimates that we won't see it. Then you look at the April, May timeframe and whatever we typically would run in April and May coming off now a third winter would be what we were expect to run through November next year.

Matthew Fassler – Goldman Sachs

I’m going to shift gears to the deal side. It's interesting clearly with your stocks trading where it is and the range of prices you say you pay, you can do deals with great accretion. That being said you know you think about private companies particularly in the sector that’s been troubled and you wonder why they can demand as much as 7 to 7.5 times EBITDA which is a pretty healthy public company kind of valuation in many, many industries but though your fortunate to trade at a higher level. So why is the price stiff as it is for some of these businesses?

Rob Gross

I guess I don’t feel the price is being that significant, maybe compared to some other retail but again, what we get out of that 7 and 7.5 is zero real estate risk because we’re not going into new markets we’re filling in markets where we know the real estate and also from a comparative standpoint I mean another multiple is $0.80 on a $1 of sales which might not look as rich versus what some other retailers are paying for. But if I'm paying that 7 and 7.5 what I am getting is I know exactly that the real estate is good. I know exactly what the reputation is, I have employees and I know what the sales number is and I’m buying it for $0.70 to $0.80 on a dollar replacement cost.

If I'm building Greenfield stores to fill out and leverage my infrastructure. I know if I as an example open 20 Greenfield stores a year, I know for sure I'm going to close two or three of them in five years. I just don't know which two or three. I’m starting with zero sales, zero employees and I don't know the real estate is good. So from growing a business standpoint while you’re filling in your market to have a real estate component not come up and bite you, worried about impairment charges, and other things that valuation number one works very well for us, but number two there is someone on the other side of the transaction that if they are going to waited it out we’re certainly not going to go above but if they don't go below that's why a lot of deals take three years to get done and in fact the eight deals we got done last year, 28% acquisition growth, the most ever think about the timing we bought them. You might say it's 7 to 7.5 but it is at their lowest EBITDA number in the last three years at the absolute highest cost of goods number on tires in the last three years. So you know picking that piece of it might not give a true picture of the growth prospects.

Matthew Fassler – Goldman Sachs

I want to get people on the audience a chance to ask a question if you have one. I have others, please feel free to grab your mikes or I will keep on going. So you have gotten acclimated to a lower level of sales growth for the moment obviously hope not.

Rob Gross

Yeah I wouldn’t say acclimated but…

Matthew Fassler – Goldman Sachs

That being said where have you found the ability to cut cost because you’ve brought your break even’s down on SG&A and so as you look at the changes you have made in the business, where have you been able to adjust effectively?

Rob Gross

Well I think John and his team took a hard look at the labor force this year leading into what we thought was going to be a Q4 for us introduction of Obama Care and rationalized for our business model, it doesn’t layout for part time workers because these guys are professionals, they have toolboxes. But what didn’t work out is paying our best people over time to keep them in touch with our customers, get their base up so there is less turnover, improving our customer satisfaction and eliminating a lot of the marginal positions in the labor pool. What that does for us as it relates to healthcare costs is you are limited to what you can charge employees to a percentage of what they may. So by having this group of people making more money it allows us to pass on more of the healthcare cost. We have less employees to pay fines on and that has helped their labor productivity this year going in. Additionally when you have 28% acquisition, growth last year you did not grow your corporate structure by anywhere near that, there might be a payable clerk or receivable clerk but layering in all of that sales volume, layering it into a distribution network in markets where we’re just doing more deliveries continues a lot of the benefits that we continue to move forward coupled with now a declining cost environment moving up all of these OpEx measures not so much by dollar decreases although there has been some of that but just the sales volume and the leverage gained on that is really started moving those metrics forward.

Matthew Fassler – Goldman Sachs

That’s very helpful. I think we had a question, we actually have two questions I don’t know if we have time for two but...

Rob Gross

I will talk quick.

Matthew Fassler – Goldman Sachs

Go ahead, we will try to do it. Lightening round. Go ahead, please.

Unidentified Analyst

You mentioned that the last year has been a year of more acquisitions than your historical business model. Can you talk a little bit about the experience integrating all of those deals and maybe what are the one or two kind of top things you do to turn a 7.5 times EBITDA purchase price into a 5 times realized?

Rob Gross

Sure I mean the initial brilliance is we buy 600 to a 1000 basis points better than anyone we’re buying. So it's just based on size but the distribution network pretty much everyone we have bought and even bigger players than us get 90% to a 100% of their product from an advanced and AutoZone in O'Reilly. Every time we do we pay twice as much as our cost of goods. So just think of that advantage by having that product on the shelf, number one, your consumers are happier because you don't have to run out for the part but number two, we buy about 10% of our product outside of our core network. Our system's advantage we talked about it as it relates to labor, every one of our stores has the 14 closest stores inventory on it's system, we have number one and number two store density in our markets, so we have 15 chances to get that part internally before we need to go and do business with very good vendors, very good partners but what we’re trying to avoid at all cost is doing business with them and that’s a huge competitive advantage for us.

Matthew Fassler – Goldman Sachs

Last question.

Unidentified Analyst

My question has to do with the 70% of your tire sales that are branded. I assume you’re buying principal brands. You say you buy cheaper than most of the people you buy, how did your cost compare to the auto supply stores?

Rob Gross

The auto supply stores if you’re thinking of parts retailers they don’t sell tires. So O'Reilly AutoZone advanced to not sell tires. So it's very difficult if you think of do-it-yourself versus do it for me. You know those guys don't sell them.

Unidentified Analyst

So are you the largest customer of your principal branded suppliers?

Rob Gross

We’re a big customer of our principal branded suppliers. We can be much bigger with whomever wants units and is willing to give up margin percentage, but we, Michelin, Pirelli Goodyear, Bridgestone, Yokohama were our major customers with all of them, they all have a great product and doing great job. We are just trying to deal with, stretch consumer and what they are looking for at a point in time and right now price is a major factor.

Unidentified Analyst

How would your retail price on branded tires compared to Costco’s?

Rob Gross

We will match whatever is coming out of Costco, Walmart, we operate 35 BJ stores for them. So our pricing will match whatever they're doing.

Unidentified Analyst

Would not the customer requesting a lower price?

Rob Gross

No the customer will request and say I got an estimate for this Michelin of a $159 at Costco and then we will match that price. We will match tire racks price over the internet.

Matthew Fassler – Goldman Sachs

Next up in this room is (indiscernible) please join me in thanking Rob for his remarks.

Rob Gross

Thank you guys. Appreciate it. Thank you Matt.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Monro Muffler Brake's Management Presents at Goldman Sachs Emerging Growth Conference (Transcript)
This Transcript
All Transcripts