Genuine Parts Company (GPC) Earnings Call Transcript & Summary

Good morning, everyone. I'm Greg Melich. I cover the retail broadlines and hardlines here at Evercore ISI. And it's a great pleasure of mine to have today kicking off the second day of our Annual Consumer Conference, genuine Parts Company, with both Will Stengel, the President and CEO; and Bert Nappier, the EVP and CFO of the company.

Guys, I would love to jump right into the key things. You've had a lot of -- some exciting updates on the leadership front and congrats Will on recently being named CEO in addition to President. And Paul has been a great steward of the culture for a long time. But you got there, what in 2019. So I'd love to hear from your words, the imprint you're expecting to make on the business going forward?

Yes, Greg, first and foremost, thanks for having us. It's a great conference and thanks to your team for pulling it all together. It's flawless and very professional as always. So thanks for having us. And thanks for the kind words, obviously, a massive honor and great responsibility to be only the 6th CEO in Genuine Parts Company's history over the last 100 years, nearly 100 years and so big honor, obviously. As we think about our culture here at Genuine Parts Company, it's largely rooted in that consistent leadership that we've had over the 100 years. As I said, only 5 CEOs prior to me and I think that consistency of leadership that continual emphasis on culture, has served this business really, really well. As we think about moving forward, we can't be complacent with our culture. It's a dynamic world. The pandemic has clearly challenged all companies to think about nurture and evolve culture. It's not a surprise that for our business, talent and culture is our first foundational pillar. So as we've talked about with all of our stakeholders, we have 5 or 6 areas of focus and it starts with talent and culture. And I think, while we're super proud of where we are today, roughly 80% of our global employees around the world per our engagement data says that they're proud to work for our company. That's an astounding statistic. And so while we're proud of that, we need to continually evolve and invest in our teams so that in essence, we're building high-performing culture conditions where everyone can be successful and deliver winning performance. So we'll stay in tune with what we need to do to continually invest and involve in talent and culture.

Well, look at that, I love how you went right to the core, which is a culture that ties it together. It is amazing to hear a 100-year-old company with just the 6th CEO. So I guess looking ahead, if we look back 4 or 5, 6 years from now, what do you think will be the hallmark of your tenure and are any focal points or things that you're -- even subtle changes and strategic focus that we should keep an eye on?

Yes. Look, I'm in day 8 of the role, so might reserve the right to declare a 5- or 6-year vision. But at the core, I think for any leader what you're solving for is making the business both strategically, financially, culturally a better place than when you start. That's kind of the high-level aspiration to do that. I think as you think about the last couple of years, I was a new talent coming into the organization. And so in a lot of ways, the body of work that Paul, Bert and the entire global executive team has been executing over the last 3 to 4 years, really has been a joint collaboration in terms of some of the thoughts that I brought to the table, Bert's brought to the table, et cetera. And so -- if you look at those 5 foundational pillars for us, talent and culture, technology, supply chain, sales effectiveness and then having an understanding and appreciation of how our markets and technologies are evolving from a innovation standpoint, doubling down and investing and accelerating emphasis on those areas, I think, is going to be super important. And what that does for us is, it extends and evolves our value proposition with our customer. And so simply, that's foundational work that I think is super important for us to do. It's a short, medium and long-term effort. And I think that's something that as we look back on the business 5 or 6 years from now. We want to make sure that we made really good progress serving our customers better and investing in the business.

I'd love to dig a little deeper there. Where do you see the biggest growth opportunities for Genuine Parts? Is it on an industry basis, geographic basis, business line basis? Where do you really want to lean in?

Yes. It's a great question, Greg. The good news for this company is we've got ample opportunities in front of us in both businesses. We've done a lot of work over the last 3 or 4 years to simplify the business so that we can reprioritize and emphasize areas of opportunity. And so if you just look at the dollar opportunity or in terms of addressable market, obviously, our North American industrial and automotive business presents the biggest dollar opportunity. And we've talked about with all of our stakeholders really driving and focusing on the basics to make sure that we do 1 or 2 really important things, which is, taking care of the existing customers that we have today, driving customer loyalty, wallet share. That's very tactical, very exciting, very attractive financial expression, body of work. And so we have that opportunity around the world but in particular, here in North America. I think we've also talked actively about this idea of increasing our value-add services and our solutions mix. So in addition to just putting a widget in a box for our customers, is bringing more value to that customer experience and making it easier for them to do business with their ultimate end customer and then also with us. The other thing I would just say is, one of the things that you've seen and it goes back to your previous question, we have been a bit more intentional and subtle changes around the emphasis on our industrial business. Today, that represents about 50% of the profits of Genuine Parts Company. Our Kaman Distribution group acquisition there, I think, is a great example where we're really excited about the fragmentation in the market, the megatrends in our industrial business. And so we're excited about areas of opportunity there. I think the other subtle change that we've also put forward to the market is a bit more clarity on -- in the U.S., how we're operating with our NAPA operating model and our independent owners and an evolution and philosophy tweak there. And so that's super exciting as well. And then lastly, Greg, sorry for the long-winded answer but the NAPA brand, in particular, around the world has proven to be incredibly powerful. And so you see that in the performance in our European business, where we've gone from 0 to about $500 million in NAPA branded product in Europe in a very short period of time. We've got a great NAPA presence in our Asia Pacific business. And so as we look out to the opportunities, it's to continue to propagate and expand on these strong brands that we have around the world.

Yes, I want to get deeper into NAPA for sure but I want to make sure we stay a little bit of a high level here. You talk about industrial becoming half the profit of the business. I guess what are the biggest risks that you see across the company from both industrial and auto? I mean, they are very different businesses, whatever makes sense to separate the 2, so they can grow faster and I know we get a lot of questions from investors about right to repair, disposable cars, the EV impact. So I would love to hear in your words what you think the biggest risks are to both sides of the business.

Yes, Greg, I think like every business, the reality is, most of the risks to the company are uncontrollable. And so whether it's the market dynamics, whether it's regulatory environment, I mean, all businesses fight through that. I would tell you, I think the pandemic experience in all of the lessons that Genuine Parts Company learned coming through that crisis has served this business really, really well so that we're ready and agile and proven to execute in the face of uncontrollable market dynamics. So as I think about it, it's hard to call the biggest risks. Having said that, I think we've got a great playbook to address anything that we've got -- that faces us. The thing that I would tell you is on right to repair, the evolution of these industries, these are slow changes. And one of the things that the team has been very mindful of is making sure that we're doing work today, understanding the different scenarios of change in the business and having a game plan to make sure that you're ready, regardless of how these industries evolve. So we feel really good about what we are working on. To your question about the 2 businesses. At the end of the day, Greg, these are distribution businesses. The 5 pillars of focus and investing in the business, serve the entire company and the entire globe in the same way in the sense that 1 playbook works no matter where we are. And so we're focused on making the business -- both businesses better as we move forward.

Got it. Well, I'd like to go deeper into that, the core business or the original business, I would say, NAPA in North America. Basically, there's a lot going on competitively. Advance has talked about Worldpac and even Carquest Canada sale. You had some of your own share pressures, they had as well. So I'd love to hear what your -- actions you're taking to stabilize share, win back jobber business or get the jobbers to win more business, so just, what are we doing there to fix it?

Yes. Thanks for the question. We've been very clear with everybody, the tactical things that we're working on in our NAPA business, the overarching theme is kind of executing the basics really, really well. So we talk about local store service. We talk about inventory availability and breadth and we talk about effective sales coverage and incentive alignment. Our owners play a very important role in our NAPA business, a long-standing history of success and I think the question that we've been executing against is, how do we partner together to effectively win in the local markets. And all of those activities that I just described line up with that objective. And so this is a self-help daily grind, execute well, category management, thinking about the very micro market pricing dynamics by category, by SKU and just being relentless at daily execution. And the team has made really, really nice progress. We need to continue it month after month and we feel good about what we're working on there, Greg.

Maybe I'll go a little deeper on that. One of the ways that NAPA has grown over time and Genuine Parts has been M&A, both acquisitions and divestitures over the years. So remind us of your typical acquisition discipline as you're going through what things to buy and not over the next couple of years.

Yes, I'll give Will a break and I'll take that one. I think, look, for us, as we look ahead, the opportunity set for us is pretty robust. We've got 2 great segments here with automotive globally and industrial. But the great thing for us is we have incredible balance sheet with a lot of firepower and we have a tremendous amount of discipline in the business. And so we don't shop without a list. We think about that in 3 key kind of criteria, cultural fit, strategic fit and financial fit. And cultural is really important. You heard Will open with comments around the culture of this company and how important it has been to our success. And so the first thing we look at is the cultural side of an acquisition, get to understand the management team, how they run their business, where they're focused on. And when we think about that, we think about how they think about customers, how do they think about their team members, how do they think about their stakeholders because any one of those things out of balance for us could lead to something that won't work when we bring the 2 businesses together. And a great example of that is KDG and the success we had there with the teams coming together and how they all believe in the same thing, customer-centric, taking care of team members and then also making sure we generate good return and good profits. When we think about strategic, we think about where do we really want to play. And that's different by geography. It's also different by segment. For the industrial business, we're really looking at adding vertical capability and filling in places where we may not have the right coverage from a geographic perspective in North America and to a certain extent in APAC as well. If we look at the automotive business, it's a little different by geography as well. We have market leadership in Canada and Australia and those businesses tend to look at things a little bit differently than the U.S. automotive business, where Will has just kind of talked through what we're doing there and pivot to shifting the balance between independent owners and company-owned stores. And then in Europe, we think about geographic expansion, additional bolt-ons there as well. So we're very deliberate about how we think about where our strategic opportunities lie. And then obviously, we move to the financial side of the house and we want to make sure that we're creating value, making accretive acquisitions and running through a process that generates good returns. And we've seen that. We talked about our ROIC last year at Investor Day, in the mid-30s, well above our cost of capital. And so I think we're doing a good job and we've demonstrated that we're doing a good job [Audio Gap] acquisition discipline. And there's no better example of that than KDG, which integrated 1 year earlier than we expected and with synergies well in excess of what we expected.

Maybe to circle back on to start, discussing NAPA before and the importance of the independents. I think you have had a major acceleration there. I guess MPEC is over 100 stores. Is that the largest of your independents that you recently bought in?

Yes, Greg, it is. And look, I'll give you a little bit more color there. We love the model in both respects. And I think this is more of a -- of a pivot and a mix shift than it is moving away from one or the other. We've had company-owned stores for some time. We've had an independent model that has proven to be successful at NAPA for nearly 100 years. And what we have seen, though, in the last couple of years is that there are advantages for us to shift the mix in terms of company-owned, particularly in strategic markets. The independent owner model works in a lot of places. It's great. It's capital light, particularly for a business that's relationship-oriented. We come from a place of strength where the trend of growth is going with -- our business is 80% commercial. We see the do-it-for-me space being a space of growth going forward. And in these businesses, because inventory availability is so critical and relationship is so key to driving that sale, the independent owner model has been successful and will continue to be a part of our business. But we are going to pivot in certain cases in strategic markets to having that company-owned model shift its mix and lift our percentage of the total. We love that because we own the -- we then own the full commercial transaction and independents. And in those key markets, we think that's important for us. These acquisitions have been attractive. They're generally at book value. In rare cases, we might pay a small premium and that makes them immediately accretive because we have the ability to go in, take out some of the SG&A and drop in our own back office capabilities. We have commercial opportunities while many of our independents buy 90% or more of their product from NAPA, there is a small portion that [Audio Gap] outspend ability to take that up to 100%. And then obviously, we gave the margin that we were sharing back as well. So these deals look good. The acceleration here, I think, was an important one. This MPEC acquisition, well run business. Joe did a great job running that company and we've inherited a great set of stores. Well, that really gives us a key kind of beachhead to start this new pivot and we like where we're headed in that regard.

Interesting. And so if we think ahead 5, 6 years, it wouldn't feel crazy if you said you ended up owning half of the stores and half for the independents. Does that feel like a reasonable mix?

Yes. Look, I mean, I don't know we're ready to set the high watermark on where the mix will go. We have -- it has to be a willing transaction. These are independent owners who have to be willing to sell. It has to be the right opportunity for us as well. With more than 2,000 independent owners, there would be a lot of wood to chop to get to 50% in the next, call it, usual time frame, 5 to 6 years. But we certainly would like to see the mix move higher -- the MPEC acquisition moved us up from about 25% to 30%. And we can see that continue to progress pretty nicely here in the short term. But I don't know. I'm going to reserve the right to kind of call the high watermark until we get a little bit more intel and we see how this goes. We certainly have picked up the pace and I think we'll continue to do so in the short term.

Fair enough. One of the questions we're asking everybody at the conference this week. It is, give us an update on the current consumer trends. We heard yesterday from our consumer panel that the consumer is cautious, not necessarily trading down but holding on as long as they can before making need-based purchases. I guess have you been seeing the same thing in the auto aftermarket or just how spring is playing out into summer?

Yes, Greg, I would characterize it very similarly. The consumer is cautious. They have been cautious for some time. I think as the shock of higher rates kind of get -- got digested, people are -- kind of worked through that event. And now as rates have stayed higher probably for longer than people thought, people are working through that. And I think that all translates into just a general cautiousness. The beauty about our business is, as you know, it's a brake fix business, both on the industrial and automotive. And so if you have a problem in your car or a problem in your factory and it's mission critical, you're going to get it fixed. But we have seen some cautiousness in the conversations that we're having with our customers, especially in the backdrop of kind of the uncertainty of the election in the fall here in the U.S. And so I think it's a mixed and cautious consumer backdrop for both of our businesses and around the world for that matter.

Interesting. So you would say that, that trend in the U.S., it's not just because there was a warm winter. Again, it's also showing up in Europe and Asia Pacific.

Yes. Look, I mean I don't -- there's so many factors you can point to, right, Greg. I mean, obviously, the weather, as we all know, in the automotive aftermarket is a key variable. I don't know that it's necessarily been the best thing for most of us in the first quarter, probably would have liked to have seen a little colder winter, particularly with our Canadian business, as we talked about on our earnings call. But then as Will said, you got all these other factors, interest rates, inflation. You have an election here in the U.S. Now you've got 2 elections going on in Europe, one in France and one in the U.K. And so I think when you look at all that taken together, I would say the consumer climate in Europe is similar in terms of cautiousness. And I would say that's also true in our Australia and New Zealand businesses. So I think that the winds are blowing in a similar direction around the globe with an overall tone of caution and it's certainly pretty choppy out there. It's not getting any easier. I wouldn't say it's getting tougher but it's certainly not getting any easier in the near term.

Got it. One thing I did want to just click back on is we had a lot of disinflation in the auto parts industry. I think just most recently, several of your competitors have talked about it getting to near 0 or just slightly positive. Do you think that disinflation is over? Is the industry still rational from a price environment? I mean, could we actually go negative here?

Greg, I'll take the rationality point. The market is still rational. There is no fundamental shift in pricing strategies or pricing rationality in our markets. So I should just say that. We haven't -- despite what competitors are talking about, as you know, over the last couple of years, everybody has had some version of kind of pricing disclosure and stuff that they're doing. And we've been -- we've seen it very rational out there. For us, what we do each and every day across all of our businesses is what we call category management and that's the daily SKU by SKU, category by category analysis around ups and downs in strategic pricing so that we can serve the market and our customers as best we can. And so that's something that we do all the time and we'll continue to do as we move forward regardless of what's happening around us. And we think that, that's been a pretty effective strategy as you look at some of our gross margin performance across the business. But Bert, I don't know if you want to talk about the broader inflation impact.

On the inflation side, I think where we sit is, we see that somewhere between 0 and 1% for the year. I mean we've said less than 1% for the year in terms of our guide. That's obviously cooled down considerably over the last 2 years where you had '22 with it rising into the end of the fourth quarter and probably hitting its peak as we moved into the first quarter of 2023. And then cooling all the way back down as we exited '23 and leave this in a place where we expect it to be slightly positive for the balance of the year in both of our segments. But it's certainly moving in different directions when you think about like Europe. For example, Europe was still at mid-single digits as we exited the 2023 time frame and at entered the year. So it's still slightly positive. But when we take all that together for our business, I think that's why we're comfortable in our guide that it's going to be something slightly less than 1% for the year, still slightly positive but I wouldn't see it as -- building off of Will's point about rationality in the pricing environment, I wouldn't see it moving negatively.

Let me go a little deeper on industrial. I mean it is half the profits now. And -- but we've seen some of the macro data there, has also looked choppy through the industrial production. Just -- or, is Motion still able to outgrow industrial production, the way it has the last couple of years? Or is there -- is that sort of normalizing to industry growth yet?

Yes, Greg, I think we love how our Motion business is positioned. Part of the industrial logic of the KDG acquisition was really to extend that leadership position that Motion has in its profit pool. We -- all the strategies that they're executing are the right ones. And as you noted, that's delivered performance in excess of the market through the cycle here. I will tell you, we were obviously disappointed to see the PMI [ print ] in the last couple of [Audio Gap] on our earnings call, we were cautiously excited about the March PMI [ print ]. And so those mixed data points we're digesting as well like everybody else. As I said, with the consumer, the market is choppy out there. The customer at Motion is waiting to see how the year plays out. They -- remember, they think about capital projects as well as their brake fix business, some of the more capital project oriented discussions with customers are cautious. But ultimately, those projects have to go at some point. And if you actually look at the data as it relates to PMI in particular and the cycles over time, once it inflects into an expansion period, that's a very good moment in time -- not moment in time, multiple years of really attractive growth. And the Motion team is a great operating team, great strategies in place. And so they're at or better than market now. And then as the market comes, it's going to be a very compelling situation for our Motion business.

How much of Motion's business now is brake fix versus more CapEx?

The vast majority is brake fix, Greg. But as you can imagine, when you're talking with a customer, it's a 2-dimensional discussion, it's -- how are you thinking about the future of new plants? How are you thinking about a major overhaul of line #1 in the plant. And by the way, the ordinary course brake fix, let us take care of your shop and keep you up and running. That's the vast, vast majority of the business.

Got it. And when people are making those plans, do the elections have anything to do with it? Like does that historically create a bit of a pause or even an acceleration sometimes?

I think it's more a pause, Greg, honestly. I think it's a general statement but it's certainly relevant when you talk to some of these Motion customers. They just -- uncertainty around kind of subsidy, if you're talking semiconductor industries and new plants for EV and not sure what the economics will be of that and how the world's going to play out later this year. I think it's on the margin, it's cautiousness as opposed to acceleration.

Yes, Greg, I would add to that. I just think when you think about in an election and the one we're facing here in the U.S., probably 2 big issues for business that have vastly different outcomes to taxes and tariffs. And depending on who you're following and who your favorite is, taxes can go one way or the other. Tariffs can go one way or the other and uncertainty is the enemy of business. And so when you're trying to make decisions about big capital projects or big investments and you know those are 2 variables and you're in the industrial business and manufacturing, those can be quite significant. So I think we're feeling a little bit of that. I would agree with Will that it's a pause and let's see how that's going to play out. And then you tell me the cards I've been dealt and then I can work around that. We're seeing a little bit of that. Then I also think that this PMI data and this choppiness has not been anyone's friend either. One of the longest cycles of PMI downturn since the '08, '09 period, border line on getting to as long as that one was. And that would be, in our opinion, based on kind of the last 25 years history, it would be nearing the final innings, we would think of breaking out of that cycle and hopefully turning positive in the later part of 2024 and there's the move to 2025. But I think that election piece too has something to be able to [indiscernible] as we look ahead.

Again, we've got just a few minutes left. I will resist the temptation to dig into tariffs. Because I want to get to the bigger question, I think, which is margins overall. You did have an Analyst Day last year, you outlined a new double-digit operating margin objective. Is that going to come more from gross margins or SG&A and sort of update us on the key initiatives to get there?

Yes. Look, I mean, I think in the near term, we're going to see more gross margin help than we were SG&A help and we would call for SG&A deleverage to a small degree, in 2024. We've got some important investments we're making in IT. Those are providing benefits to the business and they'll prove to be long-term benefits, particularly for SG&A but in the near term, a little bit of a headwind. Our gross margin has performed really well and we see a lot of runway there. [Audio Gap] pricing, I think we're going to see a little bit more success coming from sourcing and category management as we move forward. And so we feel good about where we're headed in terms of the expansion of margin in the business and across the business, in both segments. I think industrial has more room to run. And I think certainly, global automotive has room to run, particularly when we see a NAPA business improving sequentially. And with the size of the U.S. business and the totality of global automotive, we can't improve margin there unless you see the NAPA business recovering and we think it will. So we think in terms of margin and profitability, it's a key focus for us. We're going to -- we improved segment profit in Q1. I think that will be true for the full year as well. And we're feeling good about where we're headed for our 2025 targets.

You already answered my next question on that. So it sounds like industrial margins, there's no cap even though they've already gotten to record levels.

They're at record levels but I would just tell you some of the pace of acceleration in the margin expansion at Motion over the last couple of years, that's been a combination of factors: one, a great business that's very disciplined and is pulling levers around SG&A and gross margin but also you cannot discount the impact of the KDG acquisition, getting that faster than we expected and then being more than [indiscernible] twofold benefit there in terms of what we thought. That's contributed very nicely to Motion's profit expansion. And I would say that it's been at an exceptional level and you can't sustain exceptional forever but I think the solid good growth in Motion will continue. We're not ready to call any high watermark there either yet but certainly going to continue to build and we offer 10 to 20 basis points of improvement off of the record of last year, for this year, right in line with our long-term growth expectations. And if we can do better than that, we obviously will and we'll keep you updated.

And maybe on the auto side, where are you -- they've had a tough '23 in the U.S. at least, they've -- take a -- walk us through where the upside is in auto, either U.S. or Europe or Asia?

Yes. Look, I think the combination of the 3 is what's great about our business. We have this great geographic diversity that grow at different paces maybe. The European business continues to perform very well. It's growing at a nice pace, continue to contribute. They've done a lot of great initiatives there that are going to drive efficiency and productivity but they've also got their own improvement work going on as well. And in Asia, also the same. Got a lot of investments that going to drive productivity and efficiency in the business. Some of our transformational products around DC expansion and transformation, optimization of the network will drive efficiency there. And look at U.S., it's going to be a couple of levers. We're going to continue to focus on gross margin expansion in the U.S. We're going through a restructuring. It's largely U.S.-focused and that's going to take some costs out of the business. So that restructuring program we announced in the first quarter, it is largely centered around what we're doing in the U.S., particularly on the NAPA side. We've got some international benefits, too. So it's a global project but we see a nice lift coming on the back side of that, particularly in the NAPA business in the U.S.

Got it. Well, then in the last couple of minutes, I'd love to go to balance sheet and capital allocation and cash flow because strong free cash flow has sort of been a hallmark of the company for decades. Could you just discuss the uses of it, how many more years of consecutive dividend increases, et cetera? I'd love to hear in your words.

Look, I've had an enjoyable first 2 years as CFO of GPC. And I think touching the dividend increase might make me the shortest serving CFO in GPC history. So look, we're going to continue to stay focused on that dividend. It's an important part of our investor profile and thesis. We've had 68 consecutive years of increase and we're going to continue to grow the dividend as our earnings grow. And so that will be always an important part for our capital allocation. But we have many, many other great investment opportunities, particularly around CapEx and we see a lot of great projects in the business. We've increased our CapEx forecast over the last 2 years. We've been running historically around 1% of revenue. We've moved it to 2%, that's around $500 million of capital this coming year. And the investment there is really important around supply chain modernization and leveraging technology. And what [indiscernible] is doing in transforming this business through an IT prism in terms of modernizing our platforms and all of our systems is going to be important to our growth profile. But when we think about capital, obviously, we think about the dividend, we think about CapEx, we think about M&A, which will be another important lever, that one we talked about earlier. We can be very opportunistic there and follow our discipline and gives us a great ability to grow. And then we'll stay focused on share repurchase, I'll probably park that as the fourth priority but we have such great attractive opportunities in M&A and CapEx. And so we love our balance sheet. We love the firepower that we have. We're currently at about 1.8x levered, stated range of 2%, 2.5%. So we still have a little bit of room to work.

That's fantastic. Well, I think we used up all of our time. I could keep going for another half hour but I know we need to get everybody on their way. So Will and Bert, want to thank you both. We got through a lot and look forward to catching up later in the day.

Yes. Thanks, Greg. I appreciate it. Thank you for having us.

Thank you.