The auto parts industry is a tale of two markets, with the largest players, Advance Auto Parts (NYSE: AAP ) , AutoZone (NYSE: AZO ) , and O'Reilly Automotive (NASDAQ: ORLY ) , benefiting to different degrees.
There are two key markets in the auto parts business: the "Do-It-Yourself" Auto Aftermarket (DIY) and the "Do-It-for-Me" Commercial Auto Aftermarket (commercial market). The former relates to individuals who repair their own vehicles without the assistance of mechanics, while the latter comprises those who send their cars to the shop for repairs. According to data from the Automotive Aftermarket Industry Association (AAIA) 2014 Factbook, the commercial market ($59 billion) is about 25% larger than the DIY market ($47 billion), based on annual sales.
There are two key reasons the commercial market is bigger and also expected to grow faster than the DIY market in the near future. Firstly, vehicles are becoming more technologically advanced and complex, resulting in more car owners turning to professionals for assistance. Secondly, it's all about opportunity cost. The time spent on repairing one's own car might be better utilized elsewhere that is more profit enhancing, like taking a part-time job or getting additional educational qualifications.
Closing the gap
While AutoZone is the top player in the DIY market, it only has a 2% market share of the commercial market and is trying to further build its presence there. AutoZone has several initiatives in place to do that.
Firstly, AutoZone will add new commercial sales programs. It already added 174 new programs for fiscal 2014, compared with 93 programs during the same period a year ago. Secondly, AutoZone targets to increase its per program productivity. With about 30% of its commercial programs under three years old, AutoZone has the potential to grow average revenue per program as these "young" programs mature. Thirdly, it wants to increase its hard parts product availability, given that hard parts account for the bulk of commercial market demand.
Recent results have been encouraging. AutoZone grew its sales from the commercial market by 13.6% for the trailing 12 months. However, with close to only three-quarters of its 3,000 odd stores in the U.S. having commercial sales programs, there still remains ample room for growth.
Unlike AutoZone, which has chosen to build up its commercial market presence organically at the moment, Advance Auto Parts has transformed itself with the completion of the acquisition of its peer, General Parts International in January this year. While the commercial market used to account for 40% of Advance Auto Parts' total revenues, it will contribute approximately 55% of the combined entity in the future.
General Parts boasts two leading commercial brands: WORLDPAC, the market leader in wholesale delivery of import parts, and CARQUEST, a distributor of auto parts to commercial (85% of sales) and retail customers. WORLDPAC has gained the trust of professionals over the years, as evidenced by it being named Overall Best Program Distributor for Replacement Parts as part of Frost & Sullivan's survey of automotive technicians.
On the other hand, CARQUEST is a brand with a a history that spans half a century, and it owns more than 1,200 stores across the country. Advance Auto Parts plans to achieve synergies between its operations and that of CARQUEST by transferring the commercial capabilities of CARQUEST to Advance stores, and vice-versa, passing on its DIY capabilities to CARQUEST.
Advance Auto Parts has made progress in expanding its commercial business. In the most recent fourth quarter of 2013, its commercial sales mix increased from 38.1% the same quarter a year ago to 40.4% now, moving it closer to its 55% commercial sales mix target.
Back to basics
While both AutoZone and Advance Auto Parts have grown their commercial business by organic and inorganic means, respectively, it is worth keeping in mind the critical success factors of any parts business, notwithstanding the identity of the end-customer (commercial or retail). Nothing frustrates a customer more than having to go to multiple stores to get all the parts he needs.
O'Reilly Automotive has the best parts availability in the industry, thanks to its extensive distribution infrastructure that ensures all its stores have sufficient inventories. It has 24 distribution centers, each stocking 147,000 SKUs, sending parts to its service stores at least five times a week. O'Reilly Automotive has plans to add two new distribution centers by the end of the year.
More importantly, O'Reilly Automotive also has the highest commercial sales mix among its peers, at 42%. This serves as an indication that its commercial customers appreciate its industry-leading parts availability.
Foolish final thoughts
The commercial market's growth hasn't escaped the attention of large auto parts chains seeking to gain a share of the pie. However, a successful auto parts retailer is defined by its parts availability, and not who it sells to. In that aspect, O'Reilly Automotive stands out from its peers and is the best-positioned to benefit from the growth of the commercial market.
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