Welcome to the latest edition of Ask the analyst, where I put questions from myself and readers about ASX200 companies and industries to our analysts. If you have a question, please email it to [email protected]. It may appear in a future article.

When it comes to picking individual shares, a strong candidate might boast some of the following qualities:

  • A defendable competitive advantage
  • A purchase price below a reasonable assessment of Fair Value
  • A reasonable long-term outlook for earnings growth

Since I started at Morningstar in April 2024, any list of ASX stocks meeting those criteria has included Bapcor (ASX: BAP). And apart for a very brief moment in time, the shares have only kept getting cheaper.

In the interest of trying to understand whether this is justified, I put a few questions to our Bapcor analyst Angus Hewitt. Our conversation touched several issues including the new management team, the potential impact of EV adoption on Bapcor, and what private equity saw in the company that markets didn’t.

First, though, a quick introduction to Bapcor and how it makes money.

Moaty in parts

Bapcor sells replacement vehicle parts to trade and retail customers. Through its Burson segment, Bapcor is one of Australia’s two biggest suppliers of parts to trade customers. Meanwhile, it has roughly 12% of Australia’s retail parts and accessories business thanks mostly to its Autobarn and Autopro stores.

Bapcor operates over 180 trade stores in Australia and around 60 trade stores in New Zealand. This scale gives Bapcor additional buying power and lets it stock over 500,000 different items, many of which are slow moving, across its store network.

Bapcor can usually provide more parts to customers in a timelier manner than smaller competitors, often within the hour. Although Bapcor’s retail arm has lower market share, it enjoys scale-based advantages over smaller peers thanks to its 300 strong store network.

Why Bapcor stock has fallen

Bapcor has delivered a slew of disappointing results in recent years, mostly because weaker consumer spending in Australia has flowed through into weak results in its retail parts and accessories segment.

At a very simplistic level, Autobarn sells things like simple DIY parts, roof-racks and fluffy dice to vehicle owners. As a result, it is more susceptible to economic cycles than the Burson parts business, where vehicle owners often have no choice but to pay their mechanic to source the necessary parts.

Several bungled efforts to find a long-term replacement for long-time CEO Darryl Abotomey only added further uncertainty over the past few years. So I thought this was a good place to start.

What are the new management team focused on?

Angus McKay became Bapcor’s latest CEO in August 2024 after spending several years as CEO of 7-Eleven Australia. Our analyst Angus feels that it is still too early to gauge McKay’s impact, but said it’s “good to finally get a bit of stability at the top”.

Angus said that Bapcor’s “Better than before” strategy – which Angus notes only seemed to makes things worse – has effectively been scrapped. The new management team are still forming a new masterplan, and Angus feels this will focus on leveraging Bapcor’s large store network and simplifying the business.

Angus wouldn’t be surprised to see around $25 million in annual cost-savings come from simple moves like cutting head office headcount and merging some of its wholesale networks. He also sees further upside for Bapcor’s trade business when you compare its profit margins to those of businesses like Autozone and O’Reilly in the US.

I then sought Angus’s council on the two different parts of Bapcor’s business. The trade parts business seems to have a nice moat and also provides relatively reliable cash flows regardless of the broader economic situation. Meanwhile, the retail arm seems less moated and more cyclical. Could this seemingly poorer business be sold?

Angus agrees that Bapcor’s trade business is in a far stronger competitive position than its Autobarn stores, which are the number three player in Australia behind Supercheap Auto and Repco. But he doesn’t think management are likely to target its sale. What’s more, he expects the business could recover with better discretionary spending.

What did private equity see in Bapcor?

We then moved to what was probably the most exciting part of Bapcor’s 2024: Bain Capital’s failed bid to buy the company for $5.40 a share, a price 15% higher than where Bapcor shares trade today. What value did they see that markets didn’t?

Angus says that Bain likely saw what he continues to see today: a business trading significantly below his estimate of Fair Value. He says that Bain were probably trying to turn Bapcor’s management tumult, weak recent trading and poor share price performance to their advantage through a cheap deal. Simple as that.

The billion dollar question?

Looking further out, there is an obvious source of uncertainty for replacement car parts demand: the rise of electric vehicles. EVs might have a lot more semiconductors and chips than traditional combustion engine cars, but they have far fewer mechanical parts of the kind that Bapcor sells today.

Given that a company’s value is the sum of its future cash flows, perceived threats to the durability of those cash flows ten or twenty years from now can have a big impact on how markets value a share. Is this what markets are most worried about when it comes to Bapcor? And is it assessing the threat correctly?

Angus says there is definitely a lot of uncertainty here on what replacement parts business will look like many years from now – this being one of the only reasons he wouldn’t assign a Wide rather a Narrow moat rating to Bapcor’s trade operations.

Yet even when you assume rapid adoption of EVs as a percentage of new car sales, they are still likely to comprise a small percentage of the overall fleet for many years.

For reference, data from the Electric Vehicle Council suggests that around 7.7% of new Australian car sales in 2024 were pure EVs (as opposed to hybrids). Yet their share of the overall fleet is still closer to 1 or 2%.

Bapcor’s core market of vehicles is those aged five years or older, the age at which most vehicles fall out of manufacturer warranty. This means that EVs make up an even smaller part of Bapcor’s addressable market today, and the firm is well placed to see changing demand trends long before they actually affect sales.

Beyond this, Angus believes that Bapcor can pivot to provide EV spare parts and participate in the EV transition alongside its mechanic customer base. Although he concedes that it is hard to know exactly what this will look like. There simply isn’t enough long-term data yet on how expensive or easy EVs are to maintain later in life.

Cheap but markets need a sign

Angus thinks that Bapcor is worth $7.30 per share, a valuation that bakes in revenue growth of 5% in an average year underpinned by continued growth in Australia’s fleet of registered vehicles. He expects the company’s earnings to grow at a faster clip thanks to an improvement in profit margins.

While Angus clearly thinks that Bapcor trades a large discount to its Fair Value, he concedes that investors probably want to see a turnaround in earnings momentum and get a clear idea of management’s strategy before they come around to his way of thinking.

Bapcor (BAP)

  • Moat rating: Narrow
  • Fair Value estimate: $7.30 per share
  • Share price February 5: $4.87
  • Star Rating: ★★★★

Individual investments should only be considered as part of a broader investing strategy. For a step-by-step guide on how to create an investing strategy, read this article by my colleague Mark LaMonica.

Got your own question about a company or industry?

Email it to [email protected]. It may appear in a future edition of Ask the analyst.

Previously on Ask the analyst:

  • What to make of cash gushing Deterra?

  • Why has the market shunned APA Group?
  • Can this big Covid loser scale its former heights?

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Terms used in this article

Fair Value: Morningstar’s Fair Value estimate results from a detailed projection of a company's future cash flows, resulting from our analysts' independent primary research. Price To Fair Value measures the current market price against estimated Fair Value. If a company’s stock trades at $100 and our analysts believe it is worth $200, the price to fair value ratio would be 0.5. A Price to Fair Value over 1 suggests the share is overvalued.

Moat Rating: An economic moat is a structural feature that allows a firm to sustain excess profits over a long period. Companies with a narrow moat are those we believe are more likely than not to sustain excess returns for at least a decade. For wide-moat companies, we have high confidence that excess returns will persist for 10 years and are likely to persist at least 20 years. To learn about finding different sources of moat, read this article by Mark LaMonica.

Star Rating: Our one- to five-star ratings are guideposts to a broad audience and individuals must consider their own specific investment goals, risk tolerance, and several other factors. A five-star rating means our analysts think the current market price likely represents an excessively pessimistic outlook and that beyond fair risk-adjusted returns are likely over a long timeframe. A one-star rating means our analysts think the market is pricing in an excessively optimistic outlook, limiting upside potential and leaving the investor exposed to capital loss.