As the market has basically recovered as of June 5th, it seems there are fewer opportunities for investors. Some see the recent market rally as being a party created by the Fed. Sooner or later, those Wall Street partyers will wake up with a big headache.
If you are worried about what may come this fall (bad earnings, second virus wave, stronger recession than expected, etc.), but you still are searching for decent sources of income for your portfolio, I'd like to suggest you take a close look at Genuine Parts (NYSE:GPC). This dividend king (50+ years with consecutive increases) has seen many other recessions and its business model has been proven more than efficient. Plus, GPC hasn't fully recovered from the most recent crash, so in the scheme of things, the security might be available at bargain prices.
Understanding the Business
Founded almost 100 years ago (1928), GPC has positioned itself as one of the top distributors of automotive (57%) and industrial parts (34%). The company is well-known for its famous Napa auto part stores where all good DIY customers and mechanics get the parts they are looking for. GPC is virtually everywhere in the U.S. through its 5,900 Napa stores offering a wide distribution network from coast to coast.
Source: GPC covid-19 presentation
GPC is known to have grown by acquisitions. The company has a ferocious appetite for acquiring small players in their highly fragmented markets. This is how it has posted sales increases 94.5% of the time and has increased its profit in 81.5% of its 92 years of existence.
Growth Vectors
Source: YCharts
The company's recipe to post consistent revenue increases is based on a single ingredient: acquisition.
Source: Investor presentation
There is a natural consolidation in both automotive and industrial parts as clients are looking at having everything in the same place. GPC uses commercial programs to create bonds with independent repair centers. Through constant acquisitions, GPC is adding more products to its inventory and continues to beat smaller peers by its scale and wide distribution network. GPC offers an "on demand" service on so many products, the customer has the impression the company has "everything in the store".
Strong from its position in North America (72% of its 2019 revenue comes from the U.S., 9% from Canada and 1% from Mexico), GPC is now looking at Europe for its next growth vector. The company expanded its footprint in 2017 with the acquisition of Alliance Automotive Group. GPC should be able to use its expertise in acquiring and integrating other auto part sellers into its business model.
Finally, GPC has a perfect business model to weather any recession. What happens when the economy slows down? You don't buy a new car, but you do fix your current car. GPC can continue to grow by acquiring smaller players with financial difficulties while enjoying a strong, steady cash flow from maintenance part sales.
Dividend Growth Perspective
Source: YCharts
Genuine Parts is a model of dividend growth consistency as 2020 marks its 64th consecutive year of dividend increases. GPC shows a strong dividend triangle (revenue, earnings and dividend growth) year after year.
With both payout cash and payout ratios around 75%, management has plenty of room to continue offering a growing dividend over the coming years. While GPC has started to increase its payouts more aggressively since 2010, future increases should go back to 5%/year considering the impact of the covid-19. This is not bad considering the 3.4% current yield.
Potential Downsides
As GPC operates in a cyclical market, some investors may bite their nails if the economy were to slow down in the coming quarters. The car industry is going sideways, but automobiles will continue to require maintenance. GPC's main source of growth is through acquisitions. The more businesses it acquires, the more expensive that next incremental company becomes. This may reduce GPC's profitability on future acquisitions.
As opposed to most of its competitors, GPC counts several independent operators among its Napa store chain (1,350 stores). This limits in-store decision control and some independent owners may run into financial difficulties during the economic lockdown.
Valuation
Unfortunately, great companies are not often offered at a discounted price. You obviously just missed a great opportunity to grab GPC at $70/share which would have been a steal! At a 23 PE ratio, the company seems a bit overvalued compared to its 10-year history.
Source: YCharts
Considering the dividend discount model, it seems that we are a bit late on this one. With a dividend growth rate of 5% (10-year CAGR is 6.8% and five-year at 5.14%) and a discount rate of 9%, GPC seems to be trading at a 10% premium. While it's not the end of the world, you may want to add the stock to your watch list and wait a little.
Input Descriptions for 15-Cell Matrix | INPUTS | |||
Enter Recent Annual Dividend Payment: | $3.16 | |||
Enter Expected Dividend Growth Rate Years 1-10: | 5.00% | |||
Enter Expected Terminal Dividend Growth Rate: | 5.00% | |||
Enter Discount Rate: | 9.00% | |||
Discount Rate (Horizontal) | ||||
Margin of Safety | 8.00% | 9.00% | 10.00% | |
20% Premium | $132.72 | $99.54 | $79.63 | |
10% Premium | $121.66 | $91.25 | $73.00 | |
Intrinsic Value | $110.60 | $82.95 | $66.36 | |
10% Discount | $99.54 | $74.66 | $59.72 | |
20% Discount | $88.48 | $66.36 | $53.09 | |
Please read the Dividend Discount Model limitations to fully understand my calculations.
If you only rely on valuation methodologies to buy GPC, you won't press the buy button now. However, if you consider the stock has lagged the market historically, is still down double digits this year, and its ability to go through any kind of recession, you may find that adding GPC to your portfolio is some sort of "insurance" in case the covid-19 comes back with a vengeance this fall.
Final Thought
Over the years, GPC has built a solid reputation through high-level service and high-quality parts. 75% of its auto parts sales come from the commercial segment (garages). This segment leads to highly repetitive orders. Genuine Parts is also known for its never-ending appetite when it comes to buying its competitors. A winning strategy for any portfolio building method is to pick strong companies with established business models which have become leaders in their industry. GPC meets all the requirements to be considered as such. It is now after the fragmented European market. This should help support growth going forward. While you will not see GPC's stock price expand by 20% in the next 12 months, you can count on a regular and sustainable growth. Astute investors may benefit from timely purchases when the share price drops on this King.
Many investors focus on dividend yield or dividend history. I respectfully think they’re making a mistake. While both metrics are important, aiming at companies that have and show the ability to continue raising their dividend by high single-digit to double-digit numbers will make your portfolio outperform others. When a company pushes its dividend so fast, it’s because it is also growing their revenues and earnings. Isn’t this the fundamental of investing – finding strong companies that will grow? If you are looking for a great combination of dividend and growth, check out Dividend Growth Rocks.
