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Recycled Auto Parts: An Unconventional Niche with a Promising Outlook

March 20, 2014 | About:
Victor Selva

Victor Selva

9 followers

To supply collision-repair body shops and mechanical repair shops with recycled auto parts may not sound like a very profitable endeavour. Nevertheless, LKQ Corporation (LKQ), a massive company that reported revenue of $5.1 billion in 2013, would prove you wrong.

By developing a narrow economic moat, LKQ has become the biggest supplier of aftermarket, refurbished, and recycled collision replacement parts. Hence, the company has no other competitors with its magnitude and nationwide reach in this sector. Furthermore, the company reported full-year 2013 EPS before special items of $1.05. Let me show you why this stock is a great investment opportunity.

The Perks of Being the Strongest

The company has developed a narrow economic moat as a product of its singular network, which is comprised of 500 facilities across the United States. LKQ´s size is responsible for its cost advantage and customer ties with insurance companies and repair shops. Furthermore, the company´s network cannot be matched, and represents a barrier for new entrants, as well as for local parts yards.

In addition, insurance companies encourage repair shops to use alternative parts, since they cost 50% less than new OEM replacement parts. Moreover LKQ´s gigantic inventory can also supply alternative parts, orders can be delivered in a short time, and prices can be significantly cheaper for customers. These competitive advantages should enable LKQ to enjoy organic revenue growth for the next years.

A Competitive Position in the Market

LKQ Corporation works with alternative parts and recycled OEM products that have a lower price than new OEM parts. As mentioned before, the company´s annual revenue is remarkable given the market it operates in. Most of LKQ´s competitors, about 90% of the market’s companies, hardly make $3 million in annual revenue each, yet there are also significant rivals, such as Nitto Denko Corporation (NDEKY), and Genuine Parts Company (GPC).

In the alternative parts market LKQ has no real competition. The fact that little more than half of LKQ´s revenue comes from alternative and refurbished parts, indicates the company´s dominance in this market. In addition, given that LKQ is the only nationwide supplier of these products, it is generally designated by insurance companies as the preferred provider.

New Acquisitions Should Bring About a Profitable Future

Even though LKQ has high debt levels, I feel very bullish about this company. The firm has made some big acquisitions over the past years, which have proven to be very profitable. In October of 2011 for example, LKQ concluded the acquisition of Euro Car Parts Holdings Ltd. and in January 2014 the company purchased Keystone Automotive Operations Inc. for $450 million.

In spite of its expenditures, the company managed to sustain high levels of cash flow and free cash. Furthermore, after the acquisition of Keystone, LKQ´s liquidity was still around $850 million. This is another clear indicator of the company´s solid financial performance over the past years.

Finally, revenue growth is at a fair 25.30% and demonstrates the rising tendency the firm has achieved regarding revenue and net income. Hedge funds such as Meridian Funds (Trades, Portfolio) have also seen a great investment opportunity in this stock, increasing their stake in LKQ consistently. Hence, I feel quite confident this stock will continue to benefit shareholders, while looking highly bullish for those seeking to enter this exciting industry sector.

Disclosure: Victor Selva holds no position in any stocks mentioned.


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