Are Soaring New-Car Sales a Threat to Pep Boys Earnings?

Pep Boys (NYSE: PBY) will release its quarterly report on Tuesday, and investors have been somewhat uncertain lately about the company's future prospects. Although analysts see Pep Boys earnings continuing to grow, more favorable trends in the new-car market could eventually lead to less business for the parts and service company.

Pep Boys offers a combination that many of its peers don't, seeking to offer both automotive service and car-parts sales in a single unit. Yet that combination arguably leaves Pep Boys even more exposed to trends among retail customers than its more parts-focused competitors, which rely more on their relationships with outside commercial-repair businesses to drive sales. With more retail customers buying new cars, will Pep Boys suffer from less demand for its service offerings? Let's take an early look at what's been happening with Pep Boys over the past quarter and what we're likely to see in its report.

Stats on Pep Boys

Source: Yahoo! Finance.

How can Pep Boys earnings stop disappointing investors?
In recent months, analysts have marked down their views on the future of Pep Boys earnings. They've kept their July quarter estimates stable, but they've cut their full-year projections by $0.07 per share. The stock has followed suit, falling more than 7% since early June.

Pep Boys' first-quarter results showed some of the successes and challenges that the company has faced lately. Comparable-store sales rose just 1% during the April quarter, with merchandise sales staying mostly flat even as service-revenue comps jumped more than 4%. That's consistent with the company's strategy toward becoming more customer-focused as it seeks to differentiate itself from its rivals.

Yet one potential threat to Pep Boys and its peers is growth in U.S. auto sales. In August, U.S. automakers continued their positive trend, with Ford (F 0.69%) posting 12% gains in overall sales while General Motors (GM 1.20%) weighed in with a 15% increase. Ford's U.S. retail sales jumped 20%, with roughly equal gains in cars and trucks driving results higher. GM cited pent-up demand as helping to push sales up, but that same pent-up demand could reduce the need for new-car buyers to need as much service on their vehicles as they needed on long-owned used cars, hurting Pep Boys' service revenue.

Nevertheless, even with car sales rising, vehicle owners are keeping their cars and trucks longer before replacing them. That has benefited parts-oriented chains AutoZone (AZO -1.45%) and O'Reilly Automotive (ORLY -3.53%), with both companies looking for expansion opportunities. AutoZone in particular has focused on growing its e-commerce business, which posted 80% growth in its fiscal second-quarter. Meanwhile, O'Reilly has looked to more traditional expansion through its acquisition of VIP Auto Parts, greatly boosting its presence within New England and also looking at growth opportunities in California, Florida, and the greater Chicago area.

Still, Pep Boys sees opportunity in serving customers directly, and it's moving to expand. Yesterday, the company said that it had bought 17 discount-tire stores in the Southern California market. Pep Boys has made big efforts to boost its tire business, and the move expands Pep Boys' presence in greater Los Angeles, which is already an important market for the company.

In the Pep Boys earnings report, look to see whether the company's service-oriented strategy is continuing to pay off in greater sales. If Pep Boys can succeed in that area, it could prove to be instrumental in keeping a competitive advantage over AutoZone, O'Reilly, and more traditional auto-parts retailers.

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