Genuine Parts Company (GPC) Earnings Call Transcript & Summary

And next up, we are lucky enough to have Genuine Parts Company here to speak with us. Genuine Parts is a distributor of both automotive and industrial parts. As one of the largest automotive aftermarket distributors in the U.S., Europe and Australasia, GPC acts as a buyer and seller to many of the presenting companies today. The company has 140 million shares at $114, $16 billion market cap, net debt of $3.5 billion. Speaking with us today is Will Stengel, Chief Executive Officer. Will, thank you for being here.

Thanks so much for having us. I should say, on behalf of the company, I'm proud to represent Genuine Parts Company. This is officially our 48th consecutive year of participating. So Mario, Carolina, Brian, thanks for having us, as always. It's great to be here.

Perfect. And just for anyone that might not know the company, if you could give a description of the two different business segments and the synergies between them, that would be helpful.

Yes. You alluded to the Genuine Parts Company founded in 1928. So long storied history. We have two brands, our NAPA brand in our Automotive division and our Motion business in our Industrial segment. We are about a $24 billion top line business, 60,000 employees. We're in 17 countries. 75% of our revenue mix is in North America. About 15% in Europe and 10% in Asia Pacific. We are a B2B business, unlike some of our automotive competitors. Our customers on our automotive side are the repair technicians in repair shops. And on our industrial side, these are the maintenance and repair professionals that work on the factory floor. So we're industry agnostic in our motion business, meaning we sell to a lot of different end markets. And I would characterize the business as a break-fix business. So this is a situation where we're helping our customers solve the problems, whether it's on a car or in a factory that pop up each and every day. As we think about the business strategy, and the way in which these two businesses work together, as I described at the end of the day, these are B2B distribution businesses. We operate in wonderfully fragmented large markets. In the aggregate, we have less than 10% market share globally on both sides of our business. And as we look at the structure of our markets, we're really excited about the opportunities for growth as we move forward. How do we get that? It starts with having the right culture conditions. I'm fortunate to be the sixth CEO in a 100 years. I think with that comes an amazingly deep and rich people culture that we're continuing to build on and evolve. And then also investing in the business. I would say, over the last 2 to 3 years, after we simplified our portfolio, we sold a couple of different pieces of the businesses so that we could focus primarily on these two businesses and reinvest and accelerate the investments into these opportunities that we see available to us. The areas of investment are around talent and culture, technology and supply chain. We're a sales organization. So if you think about the way in which we serve our customers, it's all about our outside sales professionals, inside sales professionals, our digital marketing, our nontraditional selling efforts, to go and cover the market with technical expertise. So that's always an area of focus. And then also keeping an eye on what we call emerging technology. So whether that's electrification, whether that's AI, or the like. And so we've accelerated that investment in the recent past. We've historically been about 1% of sales in our CapEx spend. We're closer to 2%, and that's a function of the exciting opportunities that we see going forward. If you think about the synergies of the two businesses together, all of the initiatives and the investment opportunities that exist in the company are the same regardless of industrial or automotive. And one of the things that we've done in the recent past is reimagine the way in which the operating team works together globally, so that we can leverage the scale advantages associated with things like technology spend, indirect spend, selling effectiveness and just basically accelerate the execution of capturing all those growth opportunities.

Perfect. And you did report earnings a couple of weeks ago. Can you just give a quick recap on that as well?

Yes. We had a tough earnings call, but there was a lot to be proud of and then some things to call out. Top line was up low single digits, very strong gross margin quarter for us, very strong cash flow quarter for us. Balance sheet is in good shape. And as I said on the earnings call, operationally, we feel really good about the initiatives and the traction that we've got in the business. We did have some cost pressure. We planned for our earnings to be down year-over-year. Last year at $2.49. We had an internal plan at $2.20 to $2.25. Largely driven by the depreciation and amortization expense as well as interest costs that are higher this year relative to prior year that funded some acquisition activity. The two areas that surprised us a little bit related to market conditions. Our industrial business, which is about half of our profit pool. That business generated low single-digit declines in top line. We had expected them to inflect to flat based on easier comps in the second half of the year. Our European business was flat. We expected them to be low single digits. And when you do that math on the sales deleverage, it cost us about $0.25 to $0.30. We also had a $0.06 impact from the hurricanes. So I think the takeaway for us is the work that we're focused on, the controllable execution is solid. The markets are soft and when they come back, we'll be in great shape.

Perfect. And then within those opening remarks, you did talk about some of the investments in the company that you're making. Clearly, you still generate pretty significant cash from operating. You've talked about taking that investment from 1% to 2% of sales. Can you talk about where that's heading and some of those investments you're making?

Yes. Look, I think the way that we think about it internally is really in three layers of investment. We have what we call foundational investments. We have growth investments, and then we have more innovative investments. Roughly, it's a 70-20-10 investment profile, meaning 70% of our investment dollars are in foundational work at this moment in time, 20% are more growth oriented and then about 10% in the more futuristic, medium plus term investments. The foundational investments would be things like investing in the supply chain, so distribution centers, either a new facility or the automation and improvements of an existing facility. Those are medium-term returns, but super important if you think about what our customers need from us, which is the right part, the right place at the right time. And so your supply chain infrastructure is obviously super important. Technology, probably plays in all three of those buckets. I'll give you some examples of a growth investment. It might not be intuitive, but investing in the search experience and the data/catalog that underpins the way in which our customers find parts is critically important. If you think about what I described about right part, right place, right time, if they can't find that part, it's a problem. And so that has a real P&L benefit sooner rather than later as you continue to work out those efforts. Technology investments in pricing, that's got a growth element to it. We've been very consistent with our commentary about creating the right processes, tools, technology around all things category management, so that's pricing, sourcing. And then if you think about the innovative investments, we have a wonderful, loyal repair shop network associated with NAPA. It's called our AutoCare Network in the U.S. as an example, and we have it all around the world. Part of our responsibility serving those customers is to make their lives easier so that they can turn the cars in the bays and be more productive and earn a better living in their business. We're really excited about some of the things that we think we can do for that repair shop, leveraging data, leveraging technology. And so early days, obviously, but bigger thoughts that are more medium term in nature as we think about investing back in the company.

Great. And so some pretty big investments there, especially going from 1% to 2%. Can you talk about impact on margin maybe and when that becomes truly accretive to earnings?

Yes. I think it depends on the layer of investment that you're talking about. Obviously, the middle bucket is designed to be a quicker, faster payback. Some of your foundational investments take a little bit of time. So a new distribution center, each case is different, but I would tell you the infrastructure that we put into place as an operating team to evaluate these investments has a lot of rigor to it. And so ROIC and the payback is part of the equation, but the strategic implications on how do you serve the market. I would give you one very specific example, which is, when we open a new DC, we typically consolidate rooftops. And so that return associated with the project is multiyear because you need to be very thoughtful on how you consolidate those rooftops with the new building. The new building will always have better automation technology inside of it to drive that productivity return that you would expect from a distribution center. So it's a long-winded way of saying it depends, and our job is to make sure that we're balancing the entire capital request from all the stakeholders inside the company that want our capital, and Bert and I need to make sure that we layer in the appropriate returns and the P&L impact to deliver for our shareholders.

Right. And you did talk -- you touched on this just kind of the -- maybe the slight discrepancy between where you were expecting industrial to be versus where it ended. And it's a big part of your business now, the industrial segment. Can you discuss when we might see an inflection point or your thoughts on going forward?

Well, we've been wrong for a few months here. PMI just came out, and it was obviously depressed. Probably some noise with the hurricanes in that print out. But listen, we're in the industrial. So it's about 50% of our profit, about 40% of our revenue, but 50% of our profit. It's a low teens EBITDA rate business. It's a wonderful business. We are the distant #1 leader in this space, about $8 billion in revenue, next closest competitor, about $4 billion. And then there's a couple multibillion-dollar players and the rest of the market is largely regional. So we love the position we find ourselves in. It's increased its operating margins in the last 3 to 5 years of about 500 basis points. So Randy Breaux and the Motion team have done a really nice job to make that a better business. We are now in the longest contraction cycle in the industrial economy dating back 33 years. And we measure that with the metric of PMI. It's an index that anything above 50 means you're in a contraction period, anything below 50 -- expansion period. Anything below 50, you're in a contraction period. And we've been in a contraction period for the better part of 2.5 years now. So when that business and that market turns, we'll be in great position and the cost structure is very much in control. The competitive structure of the market is very much in control. And when that market comes, we'll be in a great spot.

Yes. And we've discussed tariffs here in the conference. And really in the industries in -- back 2017, 2018, have you seen your customers -- any near sourcing from your customers or any lift from that as an opportunity?

We have seen it. In recent past, as the election has become closer to us, the discussions that we're having with our customers is one of pause. So I would say, ironically, 12-plus months ago, there was a lot more traction around decisions being made about near-shoring and reshoring. And we've seen that and we've reacted accordingly. So we've created new sales verticals. We've reallocated different sales professionals to go and hunt a very targeted list of customer-backed opportunities that are really exciting. I'll tell you, in the U.S., we have a list of around 150 specific projects between now and 2030, that in our estimation, represent about $2.5 billion of MRO addressable spend to us. So some small fraction of that opportunity set will be a great tailwind. But I would tell you, as we talked about on our earnings call, people are waiting to see what happens today and for the balance of the year. And we're hopeful that 2025 with that clarity turns into a more expansionary period for the industrial economy.

And another catalyst we've talked about in the past in the industrial segment is automation. I mean given significant wage hikes, labor shortages, do you see any lift or interest in automation?

Yes. I mean it's an important part of the motion value proposition. If you think about it, we're there to be helpful to those customers, not just to fix things that go wrong, but help them optimize their facilities in the same way that we're helping that repair shop do business more easily and more efficiently. Part of those discussions are all around. How do you become more efficient inside the factory walls. And we have about $1 billion value-add solutions business inside of Motion that is all around that topic. And so yes, we totally agree. Automation inside the walls of factory is happening. It requires a very technical expertise that the Motion team has in spades. And so we feel really good about the way in which we can help those industrial customers as we move forward.

Great. So now we'll transition over to the automotive segment, which I believe is around 60% of your revenue. You operate over 150 distribution centers worldwide under -- many under the NAPA name. Can you discuss the automotive segment, who your customers are, how you utilize these distribution centers to really become one of the prominent leaders in this space?

Yes. We -- as I described, so our core customer around the world in our automotive business is the repair technicians. So that's the wholesale, do-it-for-me customer. About 20% of our business is in what we would characterize as the do-it-yourself. We love where we find ourselves in the market in that regard. As you think about the complexity of cars and the role in which the individual will be challenged to work on his or her own car, we really like how we're positioned. And as you alluded to, that's the bread and butter and the history of NAPA. Our customers need the right widget in the right market at the right time. And so as I described, the supply chain plays a critically important role in that. If you think about the global supply chain we bring in product from overseas, it shows up into certain buildings, which then flows down through the network and then down into the local market. So that's how we use the supply chain. Our "stores", in our NAPA business, are -- think of them as nodes on our distribution network. And our network today in the store count, we've got about 6,000 stores. 2/3 of those stores are through our independent owner network. 1/3 of those stores are company-owned. And we've been very explicit externally talking about a slowly but thoughtful evolution of the mix of our store group. Historically, it was closer to 80-20. And in the last few years, we've been more intentional about owning some of our independent owners in specific markets. And we think what that does for us is it allows us to surge resources, be more thoughtful, control our destiny a little bit more aggressively in specific markets. And make sure that our independent owners are focused on the markets where we need them to win, which are typically more rural markets, small town U.S.A. And we think that right balance is about a 50-50 mix over time. So we'll chip away at that. But just to be clear, the independent owners is an effective way in which to reach the small markets where the economics of a company-owned stores become tough.

And it's a constant conversation these days where the consumers pressure, they are facing higher interest rates, higher living costs. Can you kind of review your demand over the last 10 years, other periods of volatility and how your automotive segment has done?

Yes. Look, I think for our markets, we are in an unprecedented time, both on the industrial and the automotive side of our business. The impact of higher rates we have felt, really starting in, call it, Q2 of this year, in a pretty coordinated way globally. And for that to happen, the only common cause is the rising interest rates around the world. And so I do think we're in a moment in time. The good news is, hopefully, we're coming out through that side of the cycle. Our -- while we don't serve the consumer per se, the consumer is the customer of our customer, and so when that consumer is being more selective on their purchase behaviors, it's got an impact on that repair technician who quotes for four widgets and the consumer says I only want to do two. So we've seen that. We shared the statistic for our year-to-date trends on -- I think that illustrates the point. So in our NAPA business in the U.S., about 50% of our revenue is what we would call nondiscretionary, where you've got to fix it. About 35% of our revenue is what we would describe as general maintenance. On that nondiscretionary piece, that's up mid-single digits year-to-date. On the general maintenance, that's flattish. And then the balance of it is what we would describe as discretionary, and that's down mid-single digits. So I think that just illustrates the environment in which we find ourselves. The other point I would make is, if you think about our independent owners as a proxy for small business, higher rates have certainly impacted them over the last couple of years, and we see that in the way in which, and the frequency in which, they buy product from the NAPA team. So we're in a moment. And as I said, I think we're cautiously optimistic that they're brighter days ahead.

And then you've talked about these investments. You've talked about complexity. Clearly, we have AutoZone and O'Reilly presenting today. But there's still over 50% of the market that's held by the smaller WDs. How can they compete with you with all that investment?

We like our chances through the cycle. I mean, part of the way in which we've set our strategy was to pick fragmented markets where scale really matters. And the balance sheet of a company like Genuine Parts Company and the disciplined through-the-cycle investments, are, in our opinion, the right winning formula. And we have a lot of respect for the entire competitive set, small and large in the automotive aftermarket and the industrial business for that matter. And we think the path to winning is a lot of hustle, very thoughtful investment in the business, balancing an immediate-term perspective with a medium-term perspective and just doing really, really good work. These are back to basic types of businesses where you compete on service. And through the cycle, you need technology and supply chain to be better and that's why we're focused on it. But taking care of that customer at the local level, by having the right widget in the right market at the right time is all that matters. And that's where the core of our investment philosophy is based around.

Yes. And then what does -- one of the things that does make Genuine Parts a little more unique is your -- the U.S. business is now about only 56% of your automotive segment. Kind of -- can you discuss the decision to go international versus some of the other -- I think, what other competitors might have done in terms of just repurchasing share and kind of the opportunity for growth internationally?

Yes, the international, in particular, European and Australia for that matter, they had the same characteristics that I just described, where there was a big market opportunity. The business that we bought in Europe and Australia for that matter, was a leadership business. They had #1 or #2 positions in the markets in which they operate -- operated in. And all of their opportunities were exactly the same as we saw and we prioritized here in the balance of the business. And so we think that's a winning formula. We have, call it, $4 billion European business. We're in the U.K., France, Germany, Spain, and the Benelux. And so we've been very thoughtful around the markets within Europe in which we've prioritized. And if you look at each one of those markets, there's a great opportunity for us to grow many, many years in excess of the market and our peers by doing the basics really well. And we put investment into that business. Our Australian business is a wonderful business, largely known under the trade name Repco. That's a 100-year-old brand, and they have both a retail and a trade part of their business. They own all their stores, and they've had really nice success relative to market and peers by doing the same thing, which is being thoughtful about taking care of customers and investing strategically in the business.

Yes. And then I know we did touch on this already, and you talked about some of the strategy around your independence, but it is something that has historically may be more unique as you transition towards this 50% exposure. Can you just talk about -- a little about the independent structure and the unit dynamics around them when you're purchasing them?

Yes. So as I said, in the U.S., 6,000 stores, 2,000 company-owned, 4,000 independent owners. As we think about acquiring an independent owner, it's not materially different than any other acquisition we would do. So there's a disciplined approach to value creation, meaning when you buy it, you need to make 1 plus 1 equals 3. The value drivers in this situation are up and down the P&L and the balance sheet in terms of the cash flow improvements that we see. Starting at the top of the P&L, you, by controlling your destiny, would drive a better growth algorithm. Working with those independent owners, bringing the scale advantage, bringing those sales playbook to those smaller businesses and growing the business in a more aggressive way. When we buy the business, we take back the gross margin dollars that we were sharing through the 2-step distribution. So there's a gross margin benefit. You obviously take on the SG&A cost of owning the stores. But these are accretive transactions as you go down the P&L and then you make them better over time as you create -- put the value creation playbook on top of it.

Perfect.

I just wanted to follow up on one of Carolina's questions. She asked about the WDs. But as you look at the aftermarket business domestically, is there anything changing competitively? So there was the WD dynamic post pandemic. We also have one of your competitors that isn't another turnaround effort. Are you seeing anything change competitively? And how is that impacting your business?

We haven't seen anything. We get that question often. We haven't seen a change in the competitive dynamic or structure of the U.S. automotive aftermarket. The pricing in the market is rational. I think it's a competitive space. Everyone has the same objective, which is to take care of that commercial customer with the right part in the right place at the right time. So the competitive intensity is high, and it's always been high. It really has been. And I think there have been moments through the last 5 years where different competitors have had different advantages. And so whether it was in the tough times when the WD probably wasn't getting the inventory they needed relative to the big guys, that was a moment, and everything in between. So we haven't seen anything structurally different in the aftermarket in the U.S. from a competitive standpoint. And as I said, we have a ton of respect for everybody in the market.

Yes. And we -- our keynote today is about electric vehicles evolved in aftermarket. Being able to evolve with those type of vehicles, just any thoughts you might have?

Yes. Listen, I think, we always say internally, you never want to be surprised about things that change in your industries, and we've been very intentional over the last 3 to 4 years to make all things, electrification, something that we focus on. I think we balance the realities of the time in which that will take to be a material part of the aftermarket. But we certainly have a perspective on it. We also have a unique difference relative to some of our other peers in the sense that we have a European platform that has a probably more informed perspective of all things electrification. Actually, our Canadian business has made great strides there. And so we think that global perspective creates a unique appreciation for the realities of electrification, up to and including hybrid, and everything in between.

Great. And I know Bert is not here. So answer -- Will, but your current leverage ratio is about 2.2x. And you -- just thoughts on changing your overall capital allocation strategy or anything going forward?

Nothing changing in our capital allocation. We've said publicly, our leverage ratio is somewhere between 2 to 2.5x as a target. We've been underneath that. And when we've been at the high end of that, we've paid it down quickly. So cash flow profile of the business is great. Very committed to investing in the business. We supplement it with thoughtful bolt-on M&A. And obviously, we have a long-standing track record with our dividend, and then we opportunistically buy back shares. So that's been a hallmark of Genuine Parts Company, and we look forward to continuing it that way.

Perfect. Great. And we have run up on time. Well, thank you so much for being here, 48th time for Genuine Parts, only sixth CEO in the history of the company. So once again, thanks.

Thank you for having us. Thank you so much.