Summary
- Advanced Auto Parts surprised the market by reporting better than expected results. The earnings beat was driven by strong comparable sales growth of 7.6%.
- Management still sees strong momentum in the business, with the first 5 weeks of Q3 showing strong sales.
- The company gained market share.
- AAP is trading at a forward earnings multiple of 17x, which, compared to the 5-year average PE multiple of 23x, looks a bit pessimistic.
Advance Auto Parts (AAP) surprised the market by reporting better than expected results. The earnings beat was driven by strong comparable sales growth of 7.6% while analysts were only expecting comparable sales growth of 2.6% for the quarter ended.
While shelter-in-place restrictions did affect AAP on the professional side of the business, the company saw its retail brick-and-mortar stores benefit from the pandemic. External factors that provided a tailwind to AAP's second-quarter results can be pinpointed to stimulus checks, extended unemployment benefits, and to a lesser degree, time spent at home. We believe the combination of both three factors played an important role to spark discretionary spending. For example, a big category driver of sales growth was “maintenance and appearance”, which includes car waxes and wash products. Also, the fact that people had more time on their hands and fewer options to spend their money (restaurants, travel, and entertainment) fueled their interest to work on home projects. With stimulus checks expired, the good news is that management still sees strong momentum in the business, with the first 5 weeks of Q3 showing strong sales.
From a valuation point of view, analysts are currently expecting EPS of $8.99 and sales of $10B by 2021. At a recent price of $156, AAP is trading at a forward earnings multiple of 17x, which, compared to the 5-year average PE multiple of 23x, looks a bit pessimistic. If we apply the average earnings multiple to expected EPS of $8.99, we get a fair value estimate of $206 for AAP for a potential upside of 32%. Reasons for the market to re-rate AAP higher include implementing their Warehouse Management System, thus driving better efficiencies; brand expansion; a new pricing platform; and the restart of their buyback program. These initiatives (which would improve margins) and the use of their share repurchase program could accelerate EPS growth in the coming quarters.
Strong DIY results offset by a weak DIFM market, as professional service centers closed their doors
AAP reported second-quarter results a weak ago. Sales for the quarter came in at $2.5B, up 7.3% on a year-over-year basis, and beating the consensus estimate by $130M. The company also reported a non-GAAP EPS of $2.92, beating the analyst expectations by $0.95. Strong sales performance also resulted in gross margins of 43.9%, up 60 basis points from the prior-year period, and operating margins of 11.2%, compared to 8.4% a year ago.
The highlight of the quarter was the strong comparable sale growth of 7.5%, the highest quarterly growth rate in the last 10 years. As previously mentioned, the strong performance was related to external factors, such as stimulus payments and unemployment benefits. However, also contributing to the strong growth was the focus of large box retailers prioritizing the stock up of consumer staples like food and beverage while putting aside auto parts in their inventories, opening up a door to retailers like AAP. To take advantage of the strong demand, the company shifted its marketing strategy from “brand awareness” to the emphasis on “same-day delivery” and “same-day store pickup”. The company also started rolling out DieHard batteries nationwide in July, which are sold exclusively in AAP stores. AAP bought DieHard for $200M at the end of 2019. While results from DieHard batteries were meaningless for the quarter (as it recently launched), management feels it's going to be a big differentiator moving forward:
