Genuine Parts Company (GPC) Earnings Call Transcript & Summary

All right. So just because we're running up against time, I'll introduce the next company. We have Genuine Parts, headquartered in Atlanta, Georgia. GPC is one of the largest global distributors of automotive aftermarket and industrial parts, 140 million shares at $165, market cap of $23 billion, net debt of $2.6 billion, for an enterprise value of $25 billion. Presenting today is Paul Donahue, CEO; William Stengel, President; and Bert Nappier, CFO. Paul, Will and Bert, thank you for being here today.

[ Thanks for having us ].

Sorry, it's for the cameras. Once again, thank you for being here. I think we'll just start with an introductory question, kind of if you could give a brief description of your 2 business segments and your overall business strategy over the next few years.

Sure. Well, thank you, Carolina, and thanks for having us and to Mario. Thank you again for including us in this great conference. Look, you all, I think, know our business. We have 2 segments, automotive and industrial. We sell auto parts and MRO replacement parts, primarily in North America, but we're also selling auto parts in Europe and in Asia Pac as well. Revenues of this year should be close to $21 billion. Our market cap is about $25 billion these days. The split in our business, we're still largely an automotive distribution business. 60-plus percent of our revenues come from our automotive group, 30-plus percent out of industrial. On the auto side, 75% of our business is North American-based. We go to market under the NAPA brand. We have 6,000 locations across the U.S., 9,500 when you include Europe and Asia Pac, largely on the DIFM side. So the current market trends certainly play well for us as vehicles get more and more difficult to repair. They come to our segment, which is largely DIFM. On the industrial side, we go to market under the Motion brand. We have 200,000 plus between MRO and OE customers around the U.S. We also sell industrial parts in both Asia -- Australia and New Zealand as well as Indonesia. We're in product categories like conveyance, automation, robotics, power transmission. Both businesses currently are performing very, very well. And as we think about the next few years, Carolina, the second part of your question, it's just to continue to grow both segments. We divested a couple of other businesses a couple of years back. We're very pleased with our footprint. We feel both businesses fit together very, very well. And to be honest, we're -- for a 95-year-old business, we're very, very excited about our future.

Great. And we are, too. Your stock has done extremely well, up 15% year-to-date, so thank you. Strong revenue growth and margin expansion in a highly inflationary environment, can you kind of discuss industry factors, also Genuine Parts-specific factors, as to how you're able to push this price through and do so well in this environment?

Sure. Yes. Look, we've been very fortunate, and we're in 2 great businesses that have just great industry fundamentals. When you look at automotive, whether it's the average age of the vehicle on the road, 290 million vehicles just in the U.S. The complexity of today's vehicles all play to the strengths of NAPA and Genuine Parts Company. When you look at our industrial space, we tend to go with industry fundamentals. So PMI numbers came out this morning, Carolina. We had 29th straight month of greater than 50%, which will certainly imply growth, and we've seen that in our business as well. So we're very fortunate. We've got 2 great businesses that have great industry fundamentals, and we don't see any slowdown despite what we see around the world.

Right. And just talking about around the world, relative to your peers, I would say that you're more global. Can you kind of just talk about the benefits of being a global distributor versus maybe your more domestic [ maybe peers ]?

Yes. So we said about 10 years ago to expand globally. We first put our toe in the water in Asia Pac with the acquisition of Repco. It's turned out to be one of the best acquisitions that we've ever done. We now have greater than 500 stores across New Zealand and Australia and growing double digit kind of year after year. So that gave us confidence that we could move to Europe. So we moved, with an acquisition called Alliance Automotive Group, back in 2017, the #2 player in Europe. And that business has performed extremely well. That business is up 20% in 2022. And so the advantage it gives us, Carolina, I'd say really 2 things, it gives us geographical diversity, but it also gives us scale. And I would add one more element, especially as we think about the European market. When you think about the expansion of the EV car park, we're going to see that in Europe first. So we are really learning a great deal about how to be an aftermarket provider, a strong aftermarket provider in the EV world, which we'll take that to Asia Pac and we'll also bring those learnings back here to North America.

Great. And you talked about PMI over 50%, which is great for Motion, but I did want to touch on your recent acquisition of Kaman for $1.3 billion this year. Can you kind of discuss your decision to enter there and your M&A strategy going forward?

Yes, I'll let Will take that one. Go ahead.

Yes. Listen, I think at the highest level, Paul described the basis of the investment, which is we love the industry. We've got a great team at Motion. They're the market leader. We knew this business, KDG, well. They look very similar to our business. We had been in discussions with them over the years and found a way to get it done earlier this year. It's a pretty unique strategic transaction in that we were the #1. They were the #3. It's not too often that you get to put those types of businesses together. A ton of value creation that I think is playing out well this year. We talked about $50 million of run rate synergies. We're going to do better than that. We said that it would take us 2 to 3 years to do that. We're going to do better than that. So super pleased with how we're creating value by putting those 2 together. Great feedback from customers, great dialogue with vendors, very interesting, exciting discussions with employees who have come out of private equity and now are with the market leader. So all of the thoughts that we had when we doubled down, if you will, on Motion have played out in spades, and we're excited about the potential of that business. As we look at M&A as part of Genuine Parts Company, it's going to continue to be a part of our growth strategy. Historically, we add about 1 point or 2 each year with bolt-on M&A. We create a ton of value in those transactions, paying our multiples down usually 2 or 3 turns and have a very repeatable playbook. The great news about both of the markets that we're in is the fragmentation of the market, small local players, when we acquire those businesses, we bring a lot of capabilities and scale to them almost overnight. So an important part of our business going forward and something that I think is an advantage for our company.

Carolina, the only -- I'll wrap this question up. The only regret that one other person in this room knows is that we didn't do that acquisition sooner. It's a great business. It's been a great fit for Motion and has really accelerated the continued growth of our industrial business.

Perfect. So Will, since you were talking, you joined in 2019 as CTO, you're promoted to President in 2021. A lot has happened since you started in 2019. Can you kind of discuss any surprises regarding the automotive aftermarket that you've discovered? And then kind of any thoughts on technologies going forward or changes going forward that you want to make?

Yes. Listen, I think there have been a ton of surprises in the last 3 years in every dimension. And I would say, company-specific, all the surprises have been super positive, to be honest. Looking at the organization before I joined, I mean, it had a great reputation, but I think the surprises have been the power of both brands, the fragmentation of the market, the opportunity in the market, the role, to your second part of your question, that technology and supply chain can play in capturing our full potential. The culture of the organization is like something I've never seen before. I think it's a competitive weapon for us. I think our talent, investments and attracting net new talent to the organization is a great case study in that. So I couldn't be more pleased with my time over the last 3 years under Paul's leadership. The last 3 years has made Genuine Parts Company a better business. And I think it's forced us to make decisions faster, work together more closely as a team. And I think the recent performance over the last 12 to 15 months is a great example of that. Technology is at the core of any business, but certainly, for us, as we look to the future, we have a lot of interactions with every part of our business through technology. We can do more, whether it's the interaction with our customers, whether it's how we think about our supply chain, whether it's how we think about our sales strategies, et cetera. So we're going to continue to invest in that. We hired a world-class talent from Home Depot, Macy's, Target, who's seen almost everything in technology as it relates to digital and e-commerce. And he's making a big difference after only a short period of time with the organization.

Great. Yes. And e-commerce is a big question for the aftermarket. What have you seen in penetration or your growth there?

Yes, it continues to grow well. For us, the way to think about it is the electronic interaction we have with customers, whether it's on the do-it-for-me or do-it-yourself, is totally relevant. It's about 20% of our interactions with customers. So whether it's in integration into the customer, whether it's NAPA online, whether it's our B2B electronic interface, it's super critical to that customer experience. You have endless opportunities to make that easier. And when you do that, it drives growth and customer loyalty, share of wallet, transaction volume and transaction ticket size. So it's a big part of what we're doing and investing in. And I think the industry and most of these industries will continue to invest in the digital experience.

Right. And going to kind of more of your recent results, which have been very impressive, you talked about your ability to expand margins. You touched on that. But first, just on the top line, it's done very well. Automotive up 8%. Can you kind of discuss your thoughts around inflation and then the growth drivers for you at this point?

Okay. Well, the new guy gets to talk...

Yes, let's let the new guy chat a little bit here. Hold on, [ sure ]...

Well, look, thanks for having us again. And it's a pleasure for me to meet all of you and start to meet all of you again. It seems like that launch where we saw each other in New York was a long time ago. Today is my 6-month anniversary at Genuine Parts as CFO. So it's great to be in this forum, in this setting. They haven't thrown me out yet. Look, in terms of inflation, I think we talked about this a little bit on the call, and I'll reiterate it, we see inflation moderating and stabilizing at this point. And we assume that for our fourth quarter. So as we look at the broader indicators, while inflation has been dynamic through the course of the year, as we come into the fourth quarter, we really see a stabilization of that rate. And we assume the same level of inflation for the fourth quarter and the rest of the year as we look ahead. As it's impacted the business, that business top line impact has been high single digits for GPC, consolidated, high single digits for automotive, low single digits for the industrial side of the business. And as we look ahead, I mean, we really think that monetary policy as we move into 2023 will begin to have an effect. You guys know these businesses well. You know the industry well. And you know that those have a lagging effect on supply chains and working through the system. So we'll see how that comes into the turn of the next year. But as we think about inflation as a business, just to reset on our strategy, we're really trying to protect that gross margin rate. Our teams have done an outstanding job of working through what has been a very challenging year, a very dynamic year, and doing a good job of managing price and managing our category and supplier selection to make sure that we're holding that rate going forward. So it's been a tough year on that front. It's been a dynamic environment. And as we look ahead, we sort of see that in a stabilization mode, and we'll see how we turn into the next calendar year.

Carolina, I would just add, we're fortunate as we have through the decades to be in an industry that has a very rational pricing environment. So to Bert's point, it's been a challenging year for our merchants because we went the better part of a decade, we saw little or no inflation. So it came fast and furious. We were able to pass those along as did the marketplace. So again, I think we're all very fortunate to operate in a pretty rational environment.

And as we look -- this would be good, [ Brad ]?

Yes. I guess on the Motion business side, talking about PMI, you talked about the correlation on the [indiscernible] PMI [ bringing in that 5% ]. And you've been down on that [indiscernible] contracted volumes [indiscernible] project [indiscernible]...

Yes. Look, the historical correlation with Motion with PMI is kind of a 90- to 120-day lag. I have to tell you, the recent correlation is breaking apart a little bit. I'm not prepared to say that, that relationship is no longer the same as it was in the past. As we talked about on the earnings call, the Motion business is seeing incredibly broad-based strength, and they do have that nice mix of both project-based kind of capital projects and then the break/fix. Depending on your perspective, in slow times, there's more break/fix. So you have that goodness. It's actually better margin. It's shorter lead time. And so despite the softening in the market, this business actually holds up. It generates a ton of cash. It's very asset-light. And they have done a ton of cost structure work as you can see in the recent leverage over the last couple of years at Motion, plus the added benefit, a lot of the synergies. So we're watching it closely. We don't see it yet. The backlogs are healthy. The one thing that we spend a lot of time each quarter talking about is what's the voice of the customer in the Motion business. And we continue to be optimistic. I think everybody, like everybody probably in this room, from a customer's perspective, is cautious on '23. But backlog seems healthy. And we've got just an incredibly impressive leadership team at Motion, that regardless of what the market throws at them, I think they're going to produce for us.

Hey, [ Brad ]. I would just -- I would add to that, that as I think I mentioned in our last call, our Motion business, our footprint is different than it was a few years back, when we were largely power transmission, bearings distributor. Today, we are -- and fortunately, it came -- part of it came with the KDG acquisition. We're much stronger in automation robotics, which is a double-digit growth-type business right now. We're also very strong via acquisition on the conveyance side. So as DCs continue to expand around the country, we're seeing great growth out of that product category. So it is going to be interesting. We've had 29 now straight months of PMI growth. So it's been a while since we've seen -- if that number go the other way, I'm hopeful we don't see it anytime soon, but if we do, I think we're better positioned today with a more diversified business than we have been in the past.

Perfect. And I guess, to stay on the industrial division, since we're there, you talked about this, but a big conversation in the conference right now is nearshoring. Can you just talk about the impact of that thought process, at least, if you're seeing it more and then the benefit potentially to Motion?

Yes. Listen, I think this is a megatrend good guy, if you will, for our Motion business, that is part of our enthusiasm about the long-term potential of this business. We are seeing it. We talked a little bit, externally about it, 12 months ago. It wasn't quite as well defined. It was a little bit more anecdotal. I think the example that we provided on our earnings call was that now we have 1 or 2 very specific customer segments that the team is organized around to go get and sell to this concept. The good case study is chip factories. Another one is electric battery factories. And we've got a heat map all around the country of sales opportunities associated with that. It will be medium-term opportunities, but certainly something that a lot of our customers are talking to us about and that we're chasing down.

Great. And then another, I think, industry trend we'd like to understand more, you've talked about it in past calls, but maybe automation with SG&A, labor, wage growth, are you seeing any kind of accelerated growth in that area?

We are, Carolina. As I mentioned earlier, with the acquisition of KDG, we doubled our automation business, automation robotics. And that's a business, that for the past 3 years, has grown strong double digit. It's still -- we're still in a growth phase. It's about $0.5 billion of our total Motion business. We grew via regional, small regional acquisitions and rolled them all up to create a national footprint. We got a great leader who came from that industry, who is overseeing that business for us. But to your point, we believe factories here in the U.S., because of the labor challenges, are going to continue to look to companies like Motion to come in and help them find a solution via automation and robotics.

And maybe just to add, as it pertains to our own, you asked about SG&A, as it pertains to our own model, we've taken what we're learning from working with our customers and applying it to ourselves. And so we're seeing that efficiency drive through in the operation of the business. You'll hear us talk more and more. We'll talk about technology already. Technology and modernization of how we work is a big part of how we're going to transform and continue to grow our profitability. And just a very small example, because of labor tightness, and labor tightness has gotten better to some degree but still in pockets, it's challenging in DCs, on the frontlines with drivers and workers on the counter and things like that, particularly in DCs. And so where you have an inability to hire and you can leverage automation, we've seen this in our own Motion business, where going in and automating the pick-and-pack operation has reduced the workforce need by 90%. Now that wasn't letting people go. That was just we couldn't find these people. We found a better way to do it and a smarter way to work and a benefit to service and efficiency and everything else. So it's not only how we work with our customers, it's how we work internally and how that's driving a return on the bottom line.

Great. And we did -- I do want to talk about the supply chain. Can you just talk about any trends you're seeing there, any easing of the supply chain? And then a second question to that, that we do get often, if we do some see some moderation in this inflation and going forward, do we see growth in the automotive aftermarket?

Yes. So on the supply chain, we have seen an improvement through the balance of the year. I'd say some of the friction has moderated. Ocean freight gets a lot of press and discussion. We have seen the spot market come down. It's still elevated relative to where we typically see it. Ocean freight has implications, obviously, for freight in expense. So lower ocean freight rates are good for us and those continue to moderate. As Bert mentioned, labor is still tight. Port congestion getting better, not perfect, but significantly improved. So I would say as we look down each of the pieces of the global supply chain, factory and demand is kind of back to normal levels back in Asia. So we're cautiously optimistic that it's going to continue to get better and get more healthy. As it relates to impact on prices and kind of what that might mean for the aftermarket, look, I think it's a little bit like wages, you get wage inflation and then it's hard for wage inflation to turn the other way. I would say that generally in our industries for the top line as well. And so I wouldn't expect to see kind of, all else equal, now that the supply chain is healthy, prices are kind of going to start to decline in my opinion.

The second part of your question, Carolina, in terms of industry growth, historically, we're an industry that's grown organically, 2% to 3%, a year. And if you look at NAPA, GPC over the last decade, our CAGR is somewhere in the 6% to 8% range. So even if we return to the old days of no inflation, we'll get 2% to 3% organic. We've been very acquisitive through the years. So we'll layer on a couple of points of M&A each year. So we still believe we'll be in that target range of 6% to 8% on an ongoing basis.

Okay. Mario?

Yes, just to put some meat and bones on it. If you had constant volume, constant mix in Q4 of 2022, Bert, what was your price increases for purchase, for the parts that you're marketing through the domestic distribution business in NAPA, your inflation rate?

Yes. So our inflation rate for the U.S. auto business is in that high single digit, both on product cost input and on the top line.

Okay. And then in 2023, you said [ that part ] of the full year estimate would be the equivalent of the fourth quarter.

So yes, so we're looking at...

So you're still top percentage...

Right. So the third quarter, where we left the third quarter, that's how we're modeling out the fourth quarter. And we're not ready to call the ball on 2023 [ yet ].

Yes. I know. I got that. But if I talk to Paul's comments about organic growth, tuck-in acquisitions and inflation and constant gross margins, that's the model that somebody would look at for next year. Changing subjects, interest rates and your balance sheet and currency, you came on board a year ago and really just 6 months on the -- as the CFO, put your arms around it for us.

Okay. Currency side, look, we are exposed in currency markets. We have a nice growing business in Europe. I think we managed that pretty well on how we're performing. We've had some currency impact here in the third quarter. We will have currency impact in the fourth quarter. We do our best to manage that with our programs internally on hedging and some of those things. But we have to be smart about that too and not overextend. We're in a very dynamic currency market, and we're going to be smart about how we look at that. This is probably not the time to get into some kind of position with the currency moving around as wildly as it has over the last month or so. And so we just tried to look at it as focused as we can and be disciplined around where we can manage other parts of our business to be smart. Interest rates, I think we'll see what happens this afternoon with them continuing to move. I do think monetary policy will have an impact on inflation as we move into 2023. That's the intended outcome of that kind of action. We're very fortunate that the vast majority of our debt is fixed rate. Our weighted average debt cost is 2.3%, so we don't have a lot of a cheer. I see a cheer from Mario on my fixed rate debt. So we don't have a lot of exposure there. We really do not have a tremendous amount of volatility in our P&L from these impacts of moving bits and pieces of the capital markets. The impact to our business is how it impacts our customers, and we're watching that very closely. Will we go into the R word? I have no idea. I'm not going to predict that. That's kind of a trick-or-treat question in the theme of Halloween. But there's a lot of people that try to predict those things. As we look ahead, we try to manage our interest rate risk. We try to manage our FX risk very thoughtfully. The most important thing we can do is just stay, I love this phrase, my dad taught it to me, is baseball-ready, for whatever comes ahead. If we have a period of softening, we're running scenarios internally right now about how we pivot and react to what happens in 2023. We're ready for that. And we'll continue to manage all the parts of the business, including margin and our supplier networks and pricing, but also in SG&A. And I think we proved through the course of the last couple of years, prior to me getting here with our transformation efforts, that we can leverage and be smarter and be more cost disciplined throughout our cost structure on the SG&A side as well.

I did want to talk -- you said impacts of interest rates on new customers, but I did also want to talk about the suppliers and what we've seen there, with your AP-to-inventory ratio as 130%, and really those interest rate -- rising interest rates impacting the factoring programs in your suppliers. Can you just talk about any thoughts you have on that, maybe allowing to push through some price or how you think through that?

Sure. In terms of working capital, we stay very, very focused on working capital. We've done a nice job this year. Through the course of the year, we're a 6-day improvement in our cost -- our cash conversion cycle. So we're on target for our goals for this year in terms of how we're thinking about working capital. Inventory remains our biggest opportunity in terms of how we manage cash and how we manage the business through that prism. The -- specifically, Carolina, to your question on supply chain financing in those programs, those programs actually remain very attractive to our suppliers. Our cost of those programs is a couple of hundred basis points below what those folks could get otherwise, and we're seeing record levels of participation. So we're not seeing a back-down. In fact, in most cycles, through the course of GPC's history, when we've seen a little bit of economic downturn or pressure, we've seen a pretty big uptick in our programs. They're very competitive, and we have a lot of funding partners and we have a lot of platforms. So we try to offer our partners as frictionless an opportunity to participate as possible and kind of align to their needs. So we're not seeing a big back-down there on that side of the house either. But we're going to kind of just stay very focused on managing inventory. That's our biggest opportunity outside of the really good work we've already done on AP and AR.

Okay. Great. Well, we have ran past time, but -- and I have a lot more questions. But no, thank you for being here. Once again, thank you for being here every year. We really appreciate you and how well -- how you've been managing the company. Thank you.

Thanks, thanks for having us.

Thank you very much.