A gold medal is a wonderful thing. But if you're not enough without it. You'll never be enough with it.
- John Candy, Cool Runnings
GPC First Quarter Results
On April 10, 2007 I moved Genuine Parts (GPC) up to the number six slot in my rankings. I did so because I expect Genuine Parts to earn about $5.12 in 2012. If my forecast is correct, based on what GPC's stock price closed at Friday, it means for every $100 of Genuine Parts stock you buy today, you'll have claim to (ownership of) $10.30 of what GPC earns in 2012. A pretty attractive future "earnings yield" compared with many of the stocks in the index.
However, the price you pay for a stock and the returns you expect to receive from your investment are a BYPRODUCT of finding a need and filling a need. It would be like worrying about the cost of a movie ticket, before you know what the movie is and if you even have time to see the movie. This principle applies to more than just stocks. It really relates to just about anything you might invest in (employees, new equipment, etc.), and the returns those investments should generate.
So today, I want to focus on 5 key areas where Genuine Parts is filling a need:
3) Office Products
5) Electrical and Electronic Materials.
1) Company wide: roughly $83k of stuff sold per person. And each person employed at GPC made the shareholder roughly $3,800 in 1Q07.
In total, Genuine Parts Corporation said they sold $2.6 billion worth of auto parts, industrial equipment, office products, and electrical electronic materials (stuff) in January, February and March (2007). We often refer to these three months as the first quarter.
And even after all of the company's expenses, like what they had to pay for the stuff they sold (we call a cost of good), as well as things like store and management salaries, lighting, air conditioning, interest expense on a $500 million loan, and even Uncle Sam (government) his taxes, GPC was left with almost $122 million (we call net income). This works out to about $4.60 in net income for every $100 of stuff they sell (or a 4.6% net income margin).
But let's think about this in a slightly different way. GPC has 32,000 employees and more than 2,000 operations (based on the company's annual report). This means, on average, each employee generated nearly $83,000 in revenues in the first quarter. And even after these employees were paid, and any other company-wide expenses were made, each of these folks (on average) generated net income of $3,800 (per person). It also means that the company sold about $1.3 million worth of stuff, and made about $61,000 (on average) for each of its operations.
On Genuine Parts conference call Thursday, CEO Tom Gallagher said the company still hopes to earn somewhere between $2.95 to $3.05 a share. This works out to between $506 million to $523 million of net income for all of 2007. Or, if I take the midpoint (about $515 million) of this target, I end up with something like each employee making the shareholder more than $16,000, and each operation making the shareholder almost $260,000. Not a bad 2007 if the company hits Mr. Gallagher (and the rest of senior managements) goal. But once again, don't get caught up in the return, it is merely a byproduct.
When the company told us what they earned for October, November, and December (fourth quarter and year-end results), I talked about how I felt management was really good at kaizen "continuous improvement." And it is interesting that if you go to the "about us" section of Genuine Parts' website, while they don't use fancy business jargon terms like "kaizen," they do say:
Although each product is unique, we have leveraged 75 years of distribution know-how to manage these businesses the GPC way - continually improving operating and distribution efficiencies.
And there really seems to be a "GPC way."
As I look across these seemingly distinct business segments (i.e. automotive, office products, industrial, etc.), I think the GPC way is "empowering the entrepreneur." The distribution of the product is simply where the company collects the most amount of money. But they wouldn't be able to collect this money, if they didn't empower the entrepreneur. And it is this empowering the entrepreneur that I think best describes the real value proposition Genuine Parts brings to this world.
Anyone can sell a part. And even more people can open up a warehouse and ship product to a local store that is delivering hard to find parts/products on an as needed basis. But in a world where specialization is critical in delivering the best product and/or service, businesses are left with one of two options: 1) empower the entrepreneur (with systems and processes) so they can be more effective at serving the wants and needs of the customer, or 2) create the systems and processes so a large organization becomes less reliant (dependent) on the individuals at the store in meeting the needs and wants of the customer.
I think GPC clearly follows the first approach, very similar to Domino's pizza. . .
Domino's, like so many pizza chains recognize that some of the best service and best quality come from people owning the shops themselves. These independent pizza entrepreneurs are likely to be far more interested in seeing the store succeed and serve the customers best if they get the profits from the store than a manager working 12 - 16 hours a day who sends the profits up to corporate.
This is probably why a good chunk of the 8,366 Domino's pizza stores in the world today are owned by independent entrepreneurs. The entrepreneurs buy a license, or franchise right, to put the Domino's sign up over the store. And at least in the United States, even after paying for this right to license the Domino's brand name, the entrepreneurs turn around and buy most of their dough, grated cheese, and toppings from Domino's 17 domestic distribution centers.
Couldn't these entrepreneurs just open up a store and call it "Fred's pizza delivery?" And buy their dough and cheese from the supermarket down the street?
The answer is yes. These entrepreneurs could open up Fred's pizza delivery (and some do). But others feel they benefit a great deal from Domino's strong brand recognition. So someone moves from Chicago to Florida. They won't know Fred, but they'll know the Domino's name. And they buy the dough and cheese from Domino's, because the organization provides a comprehensive system and suite of products specifically designed for what Domino's pizza shop owners will need.
Let me be very clear about this. Domino's is not delivering a product (dough, cheese, etc.), they are providing a system. A specific amount of steak and green peppers in each topping bag to be used for the new "Philly Cheese Steak Pizza" (for example) that the company is aggressively telling customers about (through internet, television, radio and print advertisements).
Because any super market could sell the dough, cheese, steak or green onions. But when you put all this together and then leverage the advertising power of 5,000 stores in the United States. Wow, now it makes a ton of sense to buy the dough and green peppers from Domino's distribution centers than the supermarket down the street.
And while Genuine Parts may not have formal franchise agreements, if you look across the company's business lines, I think you will come to the conclusion very quickly that the reason why people buy parts and products from Genuine Parts, is also (like Domino's) because they are getting a system.
Now there is a school of debate (across all sorts of businesses) about whether owning the stores ensure better systems and processes or giving the system and processes to these entrepreneurs is the best way to efficiently serve the marketplace. Let's not have that debate/discussion today. It really depends on the type of product service being delivered.
But I will tell you that whether the store is owned by the company or the entrepreneur themselves. Time and again I am finding the successful organizations tend to be focused on creating systems and processes that empower the individuals at the store. To quote Jeff Rachor (CEO of Pep Boys) from his former days at Sonic Automotive, to allow for "fewer people making more."
In GPC's case, for the most part, they have chosen not to own the stores/local distribution points, but instead provide systems to these independent entrepreneurs. So let's look at these systems at their various segments in the context of the first quarter results.
2) Automotive [NAPA]. 2.7% year over year growth in 1Q07. Target 4% to 6% growth for all of 2007.
When you or I need windshield wipers or a spark plug for our car, we might go to NAPA. That is the "retail" side of their business. But it only represents around $3 - $4 out of every $10 of sales they make at the NAPA stores. Most of the time if we need a part for a repair, you or I would probably go to an AutoZone or Advance Auto Parts store or (more likely), just take the car into a professional repair shop.
Where NAPA stores really make their claim to fame is when you or I go to Midas, Jiffy Lube, or Fred's repair shop and they need a part to fix our vehicle. The parts that get shipped to professional repair shops (commercial) represent something like $6 to $7 out of every $10 in sales.
And keeping with this idea of empowering the entrepreneur, roughly 4 out of every 5 National Auto Parts Association [NAPA] stores are owned by "independents" (so you or I could be one if interested). "Get the Good Stuff" is the motto of NAPA stores, and whether it is more perception or reality, repair shop owners/managers I talk to indicate NAPA stores tend to have the highest quality parts. Although NAPA's prices are sometimes considered (perceived or real) higher as well.
And the local entrepreneurs running most of the stores tend to be better at developing relationships with the local entrepreneurs of these repair shops (versus some hourly employee at a "big box.") So service levels to the repair shops are also (at least) perceived as being better at NAPA stores.
In total, Genuine Parts' Automotive segment represented $4.80 out of every $10 of sales the company made in January, February and March. And was roughly $4.40 of every $10 of profits (operating income) the company generated in the first quarter.
You may have already heard that the reason the automotive segment only made $7.60 in operating profit for every $100 of sales they generated versus $7.80 last year (in January, February, and March), was because of $1 million in start up costs associated with the company's new heavy duty distribution business. And the automotive segment was also negatively impacted by an unfavorable currency exchange rate with Canada.
GPC's Chief Financial Officer, Jerry Nix, said if we just kind of ignored these additional costs (heavy duty and currency exchange), the automotive segment would have probably earned about $7.90 for every $100 of stuff they sold in the first quarter.
I am incredibly excited about the company targeting the heavy duty market. Genuine Parts' NAPA stores have proven really good at serving local repair shops with parts (having the right part, and the right place, at the right time). And I think they can leverage this capability by similarly empowering its stores (and store owners) with the ability to provide automotive aftermarket parts (and repair expertise, systems, processes, etc.), to folks that fix big rig trucks (heavy duty). Management says it is a $15 billion market, and seems a natural extension to the company's core competency.
I guess where I am a little concerned, however, is where a caller brought up the Midas' contract the NAPA stores won (and was announced on the Midas call) about a month ago. CEO Tom Gallagher hinted that there is another national contract they have been awarded, but would not say who. When the contract award was announced, I said it really shows the entrepreneurs at NAPA that have developed a direct relationship with the repair shop owner (because it is their livelihood) have a serious competitive advantage (and motivation) than an hourly employee at a DIY shop like AutoZone, Advance or CSK.
However, one of GPC's other "7 key initiatives" is developing these "NAPA Auto Care Centers." This is where Genuine Parts goes in, like it does with its parts stores, and tries to provide better systems, process, allows the repair shop to use the NAPA Auto Care brand name if they want (the sign up top), and even just offers advice. In return, the repair shop orders more parts from NAPA stores. The NAPA Auto Care Center program makes a tremendous amount of sense as it, like the systems it provides the individual NAPA parts store owners, or Domino's provides its pizza shop owners, leverages the company's ability to empower the entrepreneur.
And so this begs the question, who is the entrepreneur that is being empowered when NAPA sells/distributes parts to a Midas store? Don't forget, Midas (who franchises most of its stores) is similarly focused on empowering its entrepreneurs. So targeting national accounts like a Midas does not make a lot of sense in my book. Because on one side of the fence you are trying to empower the NAPA Auto Care Center repair shop owners. And on the other side of the fence you are empowering the Midas repair shop owners.
Instead, the type of national accounts I would rather see NAPA target are the fleet accounts, like a Hertz or Budget rental car company. Where NAPA can go in and provide systems, advice and service to internal parts departments of these big fleets that can benefit from the consistency of a national chain (and national pricing). Now only if we could figure out this reverse auction approach the rental car/fleet companies seem to be moving to.
3) Office Products (SP Richards). Down 3% in 1Q07. Target 3% to 5% growth for all of 2007.
Just like how Genuine Parts empowers independent auto parts store owners in servicing repair shop owners, S.P. Richards (GPC's office products group) empowers local office products resellers/distributors who then service small and large businesses office products needs. "A tradition of trust" is SP Richards motto, and they send these resellers everything from: furniture, computer supplies, general office supplies, school supplies, presentation products, business equipment, janitorial products, warehouse and safety items, to breakroom supplies.
Here again, a local reseller could get any of these supplies (possibly even cheaper) from a local office products store, warehouse, or maybe even the manufacturer themselves. But S.P. Richards empowers these local entrepreneurs with everything from automated order processing technologies to "innovative marketing programs" (like full line catalogs, flyers, calendars, and even customer appreciation boxes). The entrepreneurs are buying a system, not a product.
In total, Genuine Parts' Office Products segment represented $1.70 out of every $10 of sales the company made in January, February and March. And was roughly $2.20 of every $10 of profits (operating income) the company generated in the first quarter.
Now it is interesting that the company made $10.70 for every $100 of stuff they sold in the first quarter of 2007 versus $10.20 in the first quarter of 2006. As you may remember, when Genuine Parts reported its fourth quarter results, I said that I felt profit margins (so what GPC makes per $100 of stuff they sell) in the office products had likely peaked.
I said this because I felt large office product chains (Office Depot, Staples, etc). were focusing more on selling their products to businesses (than just you or I coming into the store for some stationary). And while S.P. Richards also distributes product to these chains, since the chains are bigger, they naturally would command lower prices, and thus lower profit margins. But I also felt growth with these chains could cause top line sales (overall) to be better. "And last I checked you spend dollars not percentages" I so boldly pronounced.
Instead, at least in the first three months of 2007, total sales for the group were down (year over year), and profit margins were up. I guess profit margins were up because the mix of products that the group sold in the quarter tended to be its mode profitable stuff (so fewer printers and more furniture for example).
Management said (year over year) sales were hurt by tough comparisons, bad weather in the Northeast, and some of the company's independent resellers being acquired by these big "mega" large office chains. When an independent reseller is acquired by a large office chain, I guess the chain comes in, stops orders, puts in the large chains (so Office Depot or Staples) ordering system/approach in, and over time then the orders return to S.P. Richards.
I think this is something we (investors) need to study a little harder in the coming months. If the market is shifting from independent resellers to these "mega" or large national chains, what is the value proposition S.P. Richards delivers to these large chains? I don't think it will be things like marketing materials and electronic ordering systems. Those are probably systems and capabilities an Office Depot or Staples already has. But clearly if these large chains are acquiring independent resellers, they lack some competency. Otherwise they would just hire sales people to sell to businesses in the community out of their stores (already in the community).
S.P. Richards has been empowering entrepreneurs who provide office products to businesses for decades. As the large chains try to similarly provide office products to these businesses, I can not think of a better partner than S.P. Richards who understands this market best. Only the "empowering" will likely need to take a different form. And as I discussed last quarter, whenever you have a bigger buyer (volume purchasing) you generally get lower margins. So I still think margins have peaked in this segment and are likely to move lower in the coming years.
4) Industrial (Motion Industries). Up 8.1% in 1Q07. Target 7% - 9% growth for all of 2007.
GPC's industrial group is a little different than the other segments. They provide all sorts of maintenance, repair and operational parts (bearings, hose and rubber products, industrial supply, etc). to some 150,000 customers at manufacturing plants (like: automotive, chemical, food and beverage, wood and lumber, pulp and paper, steel, textile, etc).
But unlike its other segments, the company does not distribute the parts to entrepreneurs servicing the manufacturing plants. But I still don't see the company as simply a distributor. "Delivering the difference" is the motto. And the focus is on becoming the "one stop shop" for these maintenance departments at the plants. So here again, Motion, like any of GPC's other companies, doesn't just sell a bearing or any other part to be used at the plant. They sell are selling a system. Helping the maintenance departments with everything from educational programs (through its Motion Institute) to: inventory management, technical support, cost management process, and even asset and repair tracking.
In total, Genuine Parts' Industrial segment represented $3.15 out of every $10 of sales the company made in January, February and March. And was roughly $3.00 of every $10 of profits (operating income) the company generated in the first quarter. The segment made something like $7.80 in operating profit for every $100 of stuff they sold in the quarter, better than the $7.50 they made last year.
I continue to think this is where Genuine Parts demonstrates its greatest growth and returns over the next few years. As businesses continue to focus on what they know best (making the product), the idea of "outsourcing" more "non core" functions, like inventory management (of the parts for the actual manufacturing equipments) and management of a plants assets becomes ideal so the employees at the plant can spend more time on making the products at the plant (than making sure the equipment at the plants run).
5) Electrical - Electronic Materials Group [EIS]. Up 11.8% in 1Q07. Target 8% - 10% growth for all of 2007.
The EIS segment is almost identical to the industrial segment. In fact, I think one of the division heads at Motion (industrial) is in charge of EIS. "Your one source for electrical assembly and industrial materials," the segment's motto, I think says it all.
In total, Genuine Parts' EIS segment represented $0.40 out of every $10 of sales the company made in January, February and March. And was roughly $0.33 of every $10 of profits (operating income) the company generated in the first quarter. The segment made roughly $6.80 in operating profit for every $100 of stuff they sold in the quarter, better than the $5.10 they made last year.
I look at EIS as essentially being a division of Motion (industrial).
GPC 1-yr chart: