A shift toward electric and self-driving vehicles has made it necessary for the Zacks Automotive- Replacement Parts industry participants to reorient their business model. Companies should develop a detailed roadmap to make the most out of the opportunities in a changing market scenario. As high operating costs play spoilsport, industry players should work on developing parts and components in a cost-effective way that helps them maintain market share. Additionally, the increasing cost of raw materials, adverse foreign exchange translations and logistical challenges are clipping margins. Despite the challenges surrounding the industry, Genuine Parts Corporation (GPC Quick QuoteGPC - Free Report) and LKQ Corp (LKQ Quick QuoteLKQ - Free Report) are worth considering if you wish to stay invested in this space.

Industry Overview

The Zacks Automotive - Replacement Parts industry comprises companies that engage in the production, marketing and distribution of replacement components for the automotive aftermarket. The industry players offer replacement systems, components, equipment, and parts to repair as well as accessorize vehicles. A few of the important auto replacement components include engine, steering, drive axle, suspension, brakes and gearbox parts. The auto replacement market is somewhat less exposed to business downturns as consumers are more inclined to spend on replacement parts to maintain their vehicles rather than splurge on new ones. Consumers can either opt for repairing vehicles on their own or can avail professional services for the same. The industry is undergoing a radical change, with evolving customer expectations and technological innovation acting as game changers.

Factors Deciding the Industry's Outlook

Aging Vehicles a Boon: Per IHS Markit, the current combined average age of passenger cars and light trucks has hit a record of 12.2 years. The increasing longevity of vehicles is serving as a key catalyst for auto replacement and repair companies. In a bid to ensure long-term functioning of the aging vehicle population, customers are making investments to replace faulty vehicle parts and components. This has boosted demand for auto replacement parts. Also, amid growing concerns of economic slowdown, customers are expected to opt for repairing old vehicles rather than splurging on highly priced new vehicles.

Rising Operational Costs: The industry is bearing high costs for developing technologically advanced auto components amid the soaring popularity of electric vehicles, which is likely to weigh on profits further. With the technology shift in full swing, industry players must develop and upgrade their offerings to remain on par with the evolving trends in the automotive market. The new features and upgrades call for high capex and research and development expenses, which are likely to limit operating margins and cash flows.

Commodity and Forex Woes: Costs of raw materials like steel and non-ferrous metals are on the rise, impacting the gross margins of auto replacement firms. Commodity inflation is not likely to abate anytime soon and will act as a major speed bump for quite some time.Further, most industry participants have a global presence, which makes them more vulnerable to forex woes. Adverse foreign currency translations are also likely to impact earnings and margins. Additionally, logistical challenges and disruptions in the supply chain systems are clouding the prospects of the industry.

Zacks Industry Rank Signals Glum Prospects

The Zacks Automotive – Replacements Parts industry is a seven-stock group within the broader Zacks Auto-Tires-Trucks sector. The industry currently carries a Zacks Industry Rank #214, which places it in the bottom 15% of around 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates bleak near-term prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The industry’s positioning in the bottom 50% of the Zacks-ranked industries is a result of negative earnings outlook for the constituent companies in aggregate. Looking at the aggregate earnings estimate revisions, it appears that analysts are losing confidence in this group’s earnings growth potential. Since October, the industry’s earnings estimates for 2023 have moved 3% south.

Despite the industry’s dim near-term outlook, we will present two stocks worth considering for your portfolio. But before that, let's take a look at the industry’s stock market performance and current valuation.

Industry Outperforms Sector and S&P 500

The Zacks Automotive – Replacement Parts industry has outpaced the Auto, Tires and Truck sector and the Zacks S&P 500 composite over the past year. The industry has risen 11.8% against the sector and the S&P 500’s decline of 31.5% and 7.7%, respectively.

One-Year Price Performance

Industry's Current Valuation

Since automotive companies are debt-laden, it makes sense to value them based on the EV/EBITDA (Enterprise Value/ Earnings before Interest Tax Depreciation and Amortization) ratio. On the basis of trailing 12-month enterprise value to EBITDA (EV/EBITDA), the industry is currently trading at 9.43X compared with the S&P 500’s 11.99X and the sector’s trailing-12-month EV/EBITDA of 13.74X. Over the past five years, the industry has traded as high as 15.08X, as low as 6.76X and at a median of 9.64X, as the chart below shows.

EV/EBITDA Ratio (Past Five Years)

 

2 Stocks Worth Considering

Genuine Parts: Atlanta-based Genuine Parts distributes auto and industrial replacement parts across the United States, Canada, Mexico, Australia, New Zealand, Singapore, Indonesia, France, the United Kingdom, Germany and Poland. The acquisitions of PartsPoint and Alliance Automotive Group and the possession of full ownership in Inenco have bolstered the company’s growth. The KDG acquisition has strengthened Genuine Parts’ market-leading position on the North American industrial platform. The company's dividend aristocrat status boosts investors’ confidence. Genuine Parts approved a $3.58 per share annual dividend for 2022, representing its 66th consecutive annual increase in the dividend.

The Zacks Consensus Estimate for GPC’s 2022 and 2023 sales implies year-over-year growth of 16.2% and 4%, respectively. The consensus mark for 2022 and 2023 earnings signals a year-over-year improvement of 18.6% and 7%, respectively. Genuine Parts— currently carrying a Zacks Rank #2 (Buy) and having a Value Score of A — topped earnings estimates in the trailing four quarters, with the average surprise being 9.8%.

You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Price & Consensus: GPC

LKQ: Headquartered in Illinois, LKQ is one of the leading providers of replacement parts, components and systems. The buyouts of Elite Electronics, Green Bean Battery, SeaWide Marine Distribution, Greenlight and Fabtech Industries have bolstered the firm’s product offerings as well as sales. LKQ’s focus on cost discipline and simplification of its operating model are likely to result in sustained margin expansion. Low leverage and high liquidity of the firm increase its financial flexibility and lower default risk. We like the company’s commitment to increasing shareholder value. In its last earnings release, LKQ hiked its dividend by 10% and boosted buyback by $1 billion, raising the aggregate authorization under the program to $3.5 billion.

The Zacks Consensus Estimate for LKQ’s 2023 earnings is pegged at $4.11 per share. The estimate implies year-over-year growth of 5.3%. LKQ — currently carrying a Zacks Rank #3 (Hold) and has a Value Score of A —topped earnings estimates in the trailing four quarters, with the average surprise being 8%.

Price & Consensus: LKQ