EUR 850.00 For Business Accounts Only

Morningstar | Thailand Expansion Opportunity Looking Attractive, Adds 4% to Bapcor’s FVE

After attending narrow-moat-rated Bapcor's investor day and site tour, we are increasingly confident in our decision to add the stock to our global Best Ideas List. The consistent strategy looks attractive and can be simplified into a few key areas: (1) Grow the trade and retail footprint; (2) Extract higher margins through private label sales and increased buying power with suppliers; (3) Improve operating efficiency through investment in the distribution and warehousing network; and (4) Make strategic acquisitions where the opportunity arises. Management has navigated the company through a successful expansion during recent years, which gives us confidence in its ability to continue executing on these key initiatives.

We increase our fair value estimate by 4% to AUD 7.30 per share, after factoring in the Thailand expansion trial. If the offshore expansion of the trade business is successful, we’d value Bapcor’s 51% stake in the joint venture at AUD 0.50 per share. However, given the infant stages of the project and uncertainty, we assign a 50% probability of success, adding AUD 0.25 per share (4%) to our valuation. The valuation hinges on the following key assumptions: (1) around 10 new stores per year reaching 100 stores in the next decade versus Bapcor's Australian target of around 250 stores; (2) average store revenue of around AUD 3 million per year by year five, approximately 30% below Australia's average revenue per store; (3) sustainable EBITDA margin of 13% compared with 17% in Australia, reflecting the lower market share, scale, and private label penetration; and (4) approximately AUD 750,000 to setup each store, consistent with Australia.

The company’s exceptional domestic track record combined with the local expertise of the JV partner should prove a successful recipe. This is an attractive opportunity which we think the market is underappreciating. We applaud management’s tentative approach, having kicked off with just a few stores initially, rather than launching a full-blown assault (and risking shareholder capital doing so) on a foreign market. The entry is lower risk with a local JV partner, which gives an opportunity to learn the market and gauge the opportunity before risking more meaningful capital.

After falling by approximately 20% in the last 18 months, Bapcor's shares are now at an attractive 18% discount to our revised fair value estimate. We think the market is overly concerned by the slowdown in new vehicle sales, challenging retail environment, and eventual rise in electric vehicles. None of these factors is likely to impede the company's ability to generate excess returns for at least the next decade and we're optimistic on the long-term earnings growth outlook.

We are attracted to the defensive nature of Bapcor’s trade business. In contrast to automotive dealerships, trade sales are minimally impacted by new vehicle sales, but rather by the fleet size which we forecast to grow at 1.5% a year on average over the long term, and the fleet age which we expect to remain steady at between 10 and 11 years. Consumer spending is soft, but even amid the 8% slump in new vehicle sales in the past year, Bapcor should grow EPS by around 10% annually. In addition to fleet growth, EPS growth is supported by the ongoing network growth, modest pricing increases, and margin expansion.

While soft consumer spending modestly impacted Bapcor's revenue in the near term, overall, we are pleased with how the company continued to grow earnings, albeit at a slightly slower pace. The pronounced dip in same store sales during fiscal 2019 is a consequence of the macro environment. However, this does not concern us as it is cyclical rather than structural. In the coming years, we forecast like-for-like sales growth to return to 4% per year and remain there, in line with the long-term average. This is supported by population growth of 1.5%, growth in the vehicle fleet of 1%-2% and modest inflation.