Genuine Parts Company (GPC) Earnings Call Transcript & Summary

Good morning. I'm Greg Melich. I cover the retail broadlines stocks here at Evercore ISI. It's my great pleasure to have with us today Genuine Parts Company. I used to cover autos before I did retail. So now we're going back to the last millennium. And through all that, I've had the pleasure of tracking Genuine Parts and its growth. And today, we've Paul Donahue, Chairman CEO, a real architect of the strategy and the repositioning of the company over the last few years. And the newest member of the management team, Bert Nappier, to take us through how the business is going and where they go next. So with no further ado, I'd just say Paul and Bert, it's great to have you both with us today.

Thanks, Greg. Great to be here with you.

And so I'll kick it off, Paul, with a simple one. There's been a lot of volatility in the market, a lot of debate about inflation, what it's doing to consumers, what it's doing the businesses. Could you just level set us now on the state of your business given the economic climate?

Yes. Happy to do so, Greg, and thanks again for having us. It's been a great morning. Listen, as you know, Greg, we had an exceptional 2021. We operate in 2 businesses, automotive and industrial, both performed at extremely high levels in 2021. We had record sales, record EPS of plus 31%. That carried over into the first quarter. So we again reported a record first quarter sales up 19% or EPS up 24%, which was our seventh consecutive quarter of double-digit earnings growth. We're expanding our operating margins. So a terrific start to the year. And what I -- Greg, like you, you can be kind of overwhelmed right now with a lot of negative news that we're all getting bombarded with. What I'm pleased to tell you is that as we're past the halfway point now in Q2, that momentum that we saw going into the year has continued on into Q2. And as you know, Greg, we raised our guidance coming out of Q1 for the year. So like much of what you hear across the many, many markets that you cover, the automotive aftermarket and industrial space continue to perform very, very well.

Great. And I guess the follow-on to that would be, right, it's good to hear that it's going well and you're pleased. But maybe talk about what you could do if things did slow down in a more general economic sense? What have you seen in the past? You guys have a lot of history and have managed these things. So I'd like to know like, one, what you're watching? And then two, if that does come to fruition, what can you do to get set the business up for it?

Well, you're right, right? We've got 90 years of history. So we've been through many, many cycles in our past. I would tell you this cycle feels different. And it feels different for a number of reasons. Certainly, jobs continue to be strong, 400,000 approximately in May. The PMI numbers, which we follow quite closely for our industrial business, we saw continued growth in the month of May and actually accelerated over April. So again, despite a lot of negative news, there are metrics out there that would say the business should continue to operate very, very well. And as we've seen through the years, Greg, the automotive aftermarket is pretty -- I don't want to say we're recession-proof, but we're certainly very resilient. And the automotive aftermarket does well in good times, and we do well in more challenging times, and lots of reasons for that. The vehicles are older today. Those on the road over 12 years old now, 5 consecutive years of aging, scrap rates are down, new cars are very few of, used cars are very high priced. The big -- I think, the big unknown right now, Greg, is miles driven. And with gas now approaching an average cost at a record high of $5, it remains to be seen, our consumers going to park their cars. It used to be -- we would see them park their cars at $4 a gallon. But we have not seen that at all in the last few months as gasoline has exceeded $4 a gallon. So look, that's a little bit of an unknown at this point. But look, I feel very good about the automotive aftermarket around the globe. And look, as we look at our industrial business, as you know, Greg, we did a significant acquisition at the beginning of the year with Command. That integration has gone incredibly well, and we're ahead of schedule. Our industrial business continues to be very, very strong. And I think the industrial metrics, I mentioned PMI, bode very, very well for continued growth on the industrial side. So Bert, maybe there's an additional comment or 2 you'd want to make?

Sure. No. And look, I think, one thing that maybe gets a little bit overlooked as we come out of pandemic, and you can debate where we are in that phase. But the work that's been done here over the last couple of years on the transformative side of the business, we're really well positioned for whatever comes. You can handicap the probability of recession as we look ahead, and everybody has their own crystal ball. But as we look at it, we think we've never been more well positioned as a business, never been more lean and agile. Through the course of the pandemic, we set the business up to be more efficient. Took out $150 million of SG&A permanently. And we have a playbook that we can run. During the course of the pandemic, we took another $300 million of costs out. So we have a playbook we can execute. We're ready should that be the case. And we know how to do it successfully. Our results show that, our track record show that. So I'm very encouraged about where we're headed for all the reasons Paul talked about. I also know that we've got a lot of things that we've been able to do to manage the business in a very smart way. And most importantly, this business generates a lot of cash, and our cash flow has been pretty strong regardless of the cycle. And that was demonstrated again during the pandemic as we were able to maintain and grow our dividend through the course of the cycle when many could not. So look, I'm certainly aware of the dynamic nature of the environment. It is a bit uncertain, has been moving a lot around here in the last few weeks. But I really like where we're positioned should that be the case, and we see a tougher environment or even the [ hardware ] coming down the road.

That's great. I think we'll -- I'd love to dig a little deeper into those. Maybe we'll stop there for a second and pull back to the Kaman acquisition. M&A has always been a part of the strategy at GPC, and you've been willing to divest some businesses and add them over the last few years. So Paul, just sort of update us on that acquisition, but also how you see the M&A environment broadly speaking today? Can you still find deals at reasonable prices? Where does it make more sense geographic or product? Just talk us through that leg of the strategy.

Yes. I'll take the broader M&A environment. Bert, why don't you touch on maybe some of the details on the Command integration? I'll come back, Greg, to the larger M&A environment.

Yes. So Greg, KDG, great acquisition for the company, big step out strategic acquisition. Paul already hinted just a little bit, going very, very well. And synergy and integration efforts are on track, maybe a little bit ahead of schedule. We've got the right structure there. That's important to lead any integration. We've got a dedicated team that's focused on a day-to-day basis in executing their playbook and they're laser-focused on that and motivated, and we're excited about that. We have a competitive team down there running the Motion business, and they want to win. And so they're doing a really nice job. In terms of progress, sales teams, customer relationships, supplier alignment is all well underway with good success. And we've seen the initial phases of facility and operational integration underway here through the first half of the year. That's also off to a good start. We've done some rebranding and combining of businesses, Motion include power solutions. We also realigned our automation and robotics business under one new Motion AI brand, which gives us a market-leading $500 million national platform for that business. So we're really encouraged about the quick wins. And most importantly, the thing you really want to focus on is what's the customer saying, and our customers are giving us great feedback, vendors are giving us great feedback, suppliers as well, and our teammates and our approach in the business really love where we're headed. So a lot of great progress on KDG and an important acquisition for the business that sets it up for success going forward on the industrial side, and I'll pass it back to Paul for some further comments.

Yes. Greg, you've followed us a long time. So we're very good at doing bolt-on acquisitions, $50 million to $100 million type bolt-ons across our various geographies and industries. We will continue to do that. We've got a rich pipeline of bolt-on opportunities at reasonable valuations. The big strategic step out M&A that we did with KDG. Again, you followed us for a long time, Greg. We -- about every 4 to 5 years, we have stepped out, when the right opportunity comes along. We did it in Australia, we did it in Europe and now, of course, in our industrial business. If you look at most recently, we've done a couple of acquisitions in Europe on the automotive side. We expanded and planted a flag in Spain, which is the fifth largest market in Europe, 35 million vehicles, average age over 11 years and a very, very fragmented business. So we bought the market leader, acquired the market leader, and we think there's additional opportunities in that market as well as many others across Europe. But going forward, our growth strategy, Greg, has not changed. We will continue to look for organic growth in that 3% to 5% range, supplemented by 1% to 2% bolt-on acquisition growth on top, which gives us to our historic 10-year CAGR of 6% to 8%. And really pleased that we have the balance sheet, we have the cash to continue to really take advantage of M&A opportunities. And I would just conclude, right, by saying in a potentially challenging market, we think there's even going to be more opportunities for a company like Genuine Parts Company with the balance sheet we have, with the talent that we have to do successful M&A. We think there's going to be lots of opportunities in the next 12 to 24 months.

That algorithm remains the 1% to 2% sort of bolt-on with a year like this one being a step-up, this is still one.

Yes. Greg, and I know you've heard us mention that strategy before in our growth strategy. The big shift in 2022 is certainly around inflation, right? I mean we -- so the algorithm was 2% to 4%, 3% to 5% organic, get a couple of points in M&A and then you hope for a point in inflation. That's been our strategy for the past decades. I don't think anybody quite could see high single-digit inflation coming our way that we're seeing this year.

Well, so let's go there. So as we think about that growth algorithm and inflation, I mean, clearly, that's having an impact on all companies. I guess how would you describe your ability to pass through inflation, both in the automotive business and in the industrial business and maybe in different markets of the world? Is that having any demand destruction? Are there other challenges that are perking up as part of that? Or so far, it passes through?

Well, go ahead, Bert.

Yes, I'll take that one, Greg. And look, I mean, I think, you got a lot to unpack there. I do want to do a little bit of framing maybe to start, but I'll give you the top of the mountain in terms of general strategy. Our general strategy is to pass along inflation impacts to expect gross margin rate. But you have to think about our business a little bit in its multiple prisms. We're not a one size fits all on inflation. So U.S. auto business probably has the greatest impact of inflationary impacts. And when you compare that to a Motion business, it's a little bit more isolated. We are seeing the non-U.S. businesses impacted, but not quite to the same degree as the U.S. auto business, maybe more in line with what I'll talk about here on Motion. In terms of the first quarter, I think, we did a really nice job. Our results reflect, Paul already talked about, our great stats for Q1. We did a really nice job. The team did excellent managing all these dynamics and planning us in a good place in terms of inflation impacts. When you think about the U.S. auto business, mid-single-digit inflation impact in the first quarter, that business has a little different profile from Motion, and I'll talk about 2 of them. You think about a U.S. auto business that has some exposure to import, and the imports are affected by the cost of transportation, the availability of transportation and the supply chain things that we're all aware of. So you have some pressure there on freight cost and inflation and availability. And from the input side on SG&A, we certainly see wage inflation, which everybody is facing along with trade costs and fuel costs. So those are the principal areas of impact when you think about that U.S. auto business. When you turn your attention to Motion, we saw low single-digit inflation impact there in Q1. And that business has a different profile. So more U.S.-sourced product, so much, much less exposure to the dynamics that I just talked about for U.S. auto in terms of inflation on cost and freight and those things. But the workforce there, too, has a different profile. So typically, a little higher skill set and also started out at a higher wage rate, which protected us from some of these increases that we've seen in other parts of the business and that many others have experienced. And so a little less turnover and a little less need to keep raising the stakes in terms of what we're offering on pay. We expect inflation in our guidance to continue kind of at the 2 levels I talked about, mid-single digits for U.S. auto, low single digits for promotion as we look ahead, that's reflected in our guidance. To kind of get to the second part, in terms of behavior. Look, we generally think the consumer is still in pretty good shape despite all these swirling dynamics that we're hearing about. When we think about the consumer specifically, again, some framing is helpful there. We're talking about principally on the U.S. auto side, that's a smaller component of the 65% of the total business is automotive. And then within that, we're talking about an 80-20 split between the commercial and the retail side of the business. So when you start to look at that, you start to parse it down just to a little smaller piece of the total pie. As we look at what's happening, most of what's there, it is something that is tied to 2 key factors of decision making, its availability and consumers really focusing on I need it versus price and some of these other dynamics. And that goes back to underscoring the investments we've made in supply chain, diversification and supplier diversification, which is really a benefit of the business over the last couple of years. But Paul, you may want to add some?

No, I think you covered it, Bert. It is a very fluid environment, Greg, something that we haven't seen in -- certainly in my almost 20 years here at GPC. But our teams have done a terrific job, I think, of monitoring our competitive set, ensuring that we remain competitive. We're never going to be the lowest priced supplier on the street, but we don't intend to be the highest priced guy either. So it's a very rational environment. And again, I give our teams a ton of credit how they dealt with it.

And just a follow up on that, those numbers, the mid-single digit and low single digit. Is that the cost inflation? Or is that what would be in your sales?

That's kind of a blended on both. So it's kind of the same, very -- pretty similar impact [indiscernible]

And so maybe another way to ask that is, so it's the same because the strategy is still to protect rate as opposed to dollars when you're [indiscernible]

That's exactly right, Greg. Yes.

Got it. Okay. I guess I'll leave that one a little bit more. You said that's your guidance working forward that, that's the same. I mean I think that's the sort of the big conundrum. Our macro team here thinks inflation will probably decelerate. The debate is does it get to 4 or get to 6 and hopefully, that's our range. Do you think that, that's -- it sounds like you're a little less optimistic at least on the cost side, assuming that inflation stays at that rate. Do you think that in your businesses, it's more likely to tick up or down going forward?

Well, I wish I had that perfect crystal ball to tell you what we thought. The great news is we had a pretty good visibility when we raised our guidance for the year coming out of the first quarter. We had a strong first quarter. And look, we're going to get another chance to take a bite at the apple here in a few weeks. Q2 will close at the end of June, and we'll do another hard look at forecasts and assumptions. So I don't want to get out in front of my skis on giving guidance just now for July. But again, I think, we had a lot of confidence coming out of Q1 about what we could see for the near term in Q2. We factored that into our guidance. We were certainly more conservative in the second half of the year as anybody would be because of the unpredictability of where we go from here, and there are so many factors that impact that.

And have you seen any trade down or shift in terms of what people are buying as maybe a reaction to the inflation or still if it's in stock, it goes?

No. Again, Greg, if we split business, right, industrial, we don't see any of that. Our suppliers, our Tier 1 suppliers, we still -- our supplying the Tier 1 premium products on the industrial side. On -- in automotive, and we got this question coming out of Q1, we really didn't see the trade down in the first quarter. And again, I think, Greg, if -- and you know the business quite well. On the DIFM side, the consumer is not really making the decision as to what part is going to get hung on the car, right? The technician is making that decision. And so Q1, I would stick with the same comment that we made coming out of Q1. We have not really seen a significant trade down from premium to value line. We have not seen it. And again, I think, part of that is our heavy, heavy concentration in DIFM versus DIY.

Great. Well, so then I guess my next question is, have you seen any shifts in the competitive dynamics at all in the market, given some of the initiatives your competitors have had, I think, O'Reilly has their pro pricing initiative and AutoZone just talked about accelerating their mega hub roll out. How do you guys respond to that? Are you seeing any impact to the market?

No. We -- well, listen, 2 parts of that question, Greg. I'll take the first one regarding the DIFM pricing and perhaps some of our competitors' strategy. I would tell you that we all listened to the same call, you did, and kind of scratched our heads a bit as to what exactly that new strategy meant in the marketplace. I can tell you that the DIFM segment in the automotive aftermarket in the U.S. is as rational today as it has been. And our teams are on the lookout. They're doing price they're doing price shopping every day in the marketplace to ensure that NAPA remains competitive in the market. So we have not, I can assure you, seen any significant shift in pricing strategies in the aftermarket. In terms of supply chain strategy, Greg, you mentioned one of our competitors' MegaHub strategy, which, look, every one of us and every one of them, I'm sure, companies you follow on the retail side is highly, highly focused on the supply chain, how to build a more efficient supply chain structure. We brought in a new executive on our supply chain side, Greg. In U.S. automotive, we recruited a young man out of Walmart to run our supply chain for U.S. automotive. We'll continue down the path that we have embarked on a couple of years ago, which is replacing some of our legacy smaller distribution centers with more automated, larger 400,000 to 500,000 square foot distribution centers like we recently opened in Nashville, Tennessee. That's the future for NAPA and quite honestly, that's a future from GPC. I would also tell you, Greg, we're looking at our supply chain just as we are in U.S. automotive in our international automotive businesses. And we're also looking at it in our industrial business. So look, today's battle in the streets is going to be won with who has the most efficient supply chain. So just like our competitors, we've got many initiatives. Certainly, a big part of that will be automation, more robotics, less and less reliance on labor in our DC. So we feel good about our strategy, and we feel good about our progress. And certainly, we'll keep you up to date as we move forward with that strategy.

Well, given Motion's growing influence in robotics, you'll be -- have a front row seat as to what needs to get and where.

And Greg, seriously, on that note, Motion was one of our first business units to embark on an automation strategy in our Birmingham, Alabama distribution center. They launched an automated pick system about a year ago. We took our Board over to see it firsthand. And that automation allowed us to take 34 heads out of the business, if you will. So it's worked incredibly well. We took the learnings from Motion and are now bringing that to other businesses inside of GPC.

Got it. maybe staying on supply chain, we talk a little bit about your own distribution centers, and it sounds like you're not trying to get more into market. It's more of these efficient larger DCs. What's up in -- up the supply chain? So we've had the ability to get product that's imported. So maybe just level set us on how much of your product is imported? And if there are any easing in that? Is it still hard to get certain parts?

Yes. And I'll take that one, Greg. Look, I think, what's happening in supply chain, and Paul has talked about it a good bit here. It's never been more important to have a great team and a relentless focus on this space. It's a day-to-day, hand-to-hand combat. I guess to set the table a bit, I think, if we wanted to give an overall comment, it would be that it remains stable, maybe slight improvement from the beginning of the year. We have an outstanding global sourcing team that's working very, very closely with all of our key partners. I think one of the things that is a silver lining of all of this is it's made us all have to be a lot smarter about how we operate. And so I don't see and we don't see supply chains materially improving. I think they're going to continue to be challenged as we look through the course of 2022, and that's why you have to be smart and have a relentless focus. Paul talked about investments we've made in Nashville and improving our own things. So you have to be less reliant on the external and be really focused on the internal. Size and scale matters in this business, and we have an ability to flex our 2 big businesses and be able to take advantage of that. And that's led into being much smarter and more efficient on our supply chain as we look up and down the stream. We've got a lot more supplier diversification than we did pre-pandemic. And we have a lot more supplier diversification than we did pre-pandemic. If you look pre-pandemic, our sourcing East Coast, West Coast is probably a 90-10 split. Now we're probably more like 80-20, so we've been able to move the needle a bit and been able to move the needle across ports as well to make sure that we're getting customers the right product at the right time. Back to my earlier point about availability, we really are seeing a big customer focus on availability. We're going to continue to lean into these automation and modernization initiatives. Paul talked about robotics at Motion in Birmingham. We've got Jeff England in now from Walmart, who's got a lot of great work underway on modernizing supply chains on the U.S. auto side. But look, we're all having to face what it means in terms of inventory levels, still rates, freight costs and those things, and Swire requires a very, very intentional focus eaten every day.

Yes. One additional comment I would make, Greg, is I think as a result of what we've all experienced with supply chain disruption here over the last 18 months, I do believe we'll see more onshoring from many manufacturers. That's going to benefit Motion as more and more manufacturing moves back to North America as it moves back to U.S. Motion will be a prime benefactor of that shift. So a little bit of an additional benefit that we see coming down the path for GPC.

Got it. And -- but that's all on the [ com ]. It's sort of -- you think that's where it's going, but it's not there yet?

We -- I will tell you, Greg, we are seeing it. And we have a partner on the U.S. automotive side that recently opened -- it's opening up a manufacturing plant on a -- in the braking category here in the U.S. All of that manufacturing was previously done in Asia. They brought some of that back to the U.S. So is that a trend that we're going to see across many industries? One can only hope, right? It's good for U.S. economy, and ultimately, we will be very good for GPC and Motion.

Got it. Well, I think, we've got about 5 minutes. So there's one other big topic I want to make sure we give some time to, which is that PRO and DIY split. And obviously, during peak COVID, there was a DIY surge with your focus on PRO, there was some real pain in 2020. So what are the trends you're now seeing us -- that you're now seeing in PRO versus DIY? And how do you expect that to play out?

We did feel the pain in 2020, Greg, you're right. Fortunately, that's reverted back now to the more traditional norm of DIFM-DIY split and DIFM growth. So right now, overall, DIFM is outperforming DIY as we expected. In Q1, our DIFM business grew double digits, low double digits. But the good news was we still saw high single-digit growth in DIY. So really both segments were strong in Q1. What I would tell you, as we've now moved into Q2, we're seeing that going back to more traditional normal growth rate. So strong demand in DIFM, while DIY is beginning to lag a bit. So not a surprise. What happened in 2020, Greg, was a point in time that was really accelerated by incredible stimulus dollars that were put out into the market. You have a lot of folks working out of their homes, had a lot of spare time, so they tackle a few DIY projects. But as we expected, it has returned to more normal trends that we've seen, which is the DIFM growth. So we think that will continue in for GPC, certainly in the U.S. with 80% of our segment being DIFM. That bodes very well for us. But if you go around the world, right, in Europe, my gosh, in Europe, we're 95% DIFM. So again, that return to more traditional growth rates bodes very, very well for GPC. So yes, we're -- look, it's not -- it doesn't mean we're going to take our eye off DIY. We still think there's opportunities for NAPA and our automotive businesses to grow that segment. But look, our -- clearly, our strength in our future is squarely in DIFM, and we're pleased to see those growth rates return in more normal levels.

I'd love to go a little deeper on that. Where are we now in terms of that do it for me, you said getting back to normal, higher growth rates? Can you just remind us how much of your do-it-for-me business is traditional up and down the street, independents, how much might be national accounts or NAPA AutoCare, your own branded service centers and then the government fleets? I know those -- a couple of those later ones got really hurt.

No, they didn't, Greg. They did get hurt the municipalities, the fleets, the -- look, we do all the ground support equipment for a lot of the major airlines. And you can imagine how that business was impacted during the pandemic. So just as a quick refresher, a dominant share of our DIFM business is NAPA AutoCare Centers. So that's branded NAPA AutoCare Centers in which we have 17,000 plus across the U.S., and then the major account business, as you referenced, those 2 segments, Greg, make up close to 50% of our business. So both are doing extremely well. But we're also pleased to see that traditional fleet and heavy industrial municipality business has returned to more normal growth rates, more normal growth rates in that mid-single-digit range. So yes, we're bullish on that segment. We -- as we look across the aftermarket, the complexity of today's vehicles is going to ensure that, that shift to the PRO continues well out into the future, and we're really well positioned there.

And remind me that if you want pre-COVID that traditional fleet municipal part of the business, was that 1/4 of your PRO business? Just to...

That was close to -- yes, close to...

About 20%, Greg.

Close to 20% to 25%. Yes.

Pre all this. And then it dropped to maybe 10%?

We got hit hard. I think everybody knows, right? You go back to 2020. And as the competitors that are more geared towards DIY, they saw outsized growth. We struggled because of them had the influence of fleet municipality. Fortunately, that has now returned back to more normal growth rates.

Got it. So it's back to normal growth rates, but doesn't mean it's recovered in terms of percentage of your mix?

Correct.

Got it. Well, I think that's a great way to end. Thanks, guys. Thank you, Paul. Thank you, Bert. I think we got through a lot in 35 minutes, but I want to make sure you get time to get to the next breakout, and we'll take it from there.

Thanks for your time, Greg, and much appreciated. Good luck to you on your conference.

Appreciate it.

All right. Take care.

Bye-bye.