MONRO MUFFLER BRAKE INC MNRO S
October 02, 2012 - 4:21pm EST by
mjw248
2012 2013
Price: 33.46 EPS $1.67 $0.00
Shares Out. (in M): 32 P/E 20.0x 0.0x
Market Cap (in $M): 1,076 P/FCF 0.0x 0.0x
Net Debt (in $M): 91 EBIT 0 0
TEV ($): 1,167 TEV/EBIT 0.0x 0.0x
Borrow Cost: NA

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  • Automobiles
  • Insider selling

Description

I recommend a short position in the publicly-traded equity of Monro Muffler Brake (NASDAQ: MNRO). 

Monro is a chain of over 800 stores providing automotive undercar repair (% of revenue: brakes – 18%; exhaust – 5%; steering – 10%; maintenance – 28%) and tire services (39% of revenue) in 19 states in the northeast and mid-atlantic U.S.

The Lesser Depression has distorted the auto market in the United States.  Amid high unemployment, underwater household balance sheets, and economic uncertainty, consumers have delayed purchasing new cars in favor maintaining and repairing their existing cars.  New vehicle sales and vehicle scrappage rates have both been well below normalized levels for the past several years.  As a result, the population of older cars in operation has experienced a temporary bulge relative to the overall number of vehicles in operation.

Auto maintenance expenses increase substantially around the fourth year of operation, so aftermarket auto parts and service retailers have benefitted to varying degrees from this shift in the makeup of the U.S. auto population.  The benefit that Monro Muffler derived from this shift is plainly evident from even a cursory glance at its comparable store sales history.

 

  Comps
   
2000 -1.6%
2001 -1.4%
2002 0.3%
2003 2.9%
2004 4.7%
2005 2.0%
2006 1.7%
2007 3.2%
2008 1.2%
2009 6.7%
2010 7.2%
2011 4.2%
2012
2.0%
 

But this distortion in the auto market is temporary, and the auto market is already well on its way to normalizing.  Assuming continued modest progress towards a normalized auto market, the population of cars in Monro’s “sweet spot” should decline over the next several years.

 

      Total Vehicles
in Use
New Vehicle Registrations Scrappage   Estimated > 4 Years Old % of Total Growth  
                     
  ACTUAL 1993 186,315,464 13,209,549 8,413,235    
  1994 188,713,997 14,767,042 12,368,509    
  1995 193,440,393 15,058,699 10,332,303    
  1996 198,293,459 15,663,707 10,810,641   139,594,462 70.4%  
  1997 201,070,397 15,285,529 12,508,591   140,295,420 69.8% 0.5%  
  1998 205,042,639 15,637,540 11,665,298   143,397,164 69.9% 2.2%  
  1999 209,509,161 16,130,124 11,663,602   146,792,261 70.1% 2.4%  
  2000 213,299,313 18,088,911 14,298,759   148,157,209 69.5% 0.9%  
  2001 216,682,936 17,505,343 14,121,720   149,321,018 68.9% 0.8%  
  2002 221,027,121 17,639,934 13,295,749   151,662,809 68.6% 1.6%  
  2003 225,882,103 16,939,662 12,084,680   155,708,253 68.9% 2.7%  
  2004 232,167,136 17,419,471 11,134,438   162,662,726 70.1% 4.5%  
  2005 239,384,168 17,287,680 10,070,648   170,097,421 71.1% 4.6%  
  2006 244,642,610 17,332,357 12,073,915   175,663,440 71.8% 3.3%  
  2007 248,700,997 16,765,603 12,707,216   179,895,886 72.3% 2.4%  
  2008 249,812,723 15,127,946 14,016,220   183,299,137 73.4% 1.9%  
  2009 248,972,046 9,589,747 10,430,424   190,156,393 76.4% 3.7%  
  2010 248,231,351 10,570,877 10,628,811   196,177,178 79.0% 3.2%  
  2011 248,931,633 12,698,406 11,998,124   200,944,657 80.7% 2.4%  
                     
  FORECAST 2012 250,231,633 14,300,000 13,000,000   203,072,603 81.2% 1.1%  
  2013 252,231,633 15,000,000 13,000,000   199,662,350 79.2% -1.7%  
  2014 254,731,633 15,500,000 13,000,000   197,233,227 77.4% -1.2%  
  2015 257,731,633 16,000,000 13,000,000   196,931,633 76.4% -0.2%  
                     
                     
Source: National Automobile Dealers Association (Actuals)          

 

In addition, consumers are driving their cars less than they were prior to the Lesser Depression, primarily due to the high cost of gas.  Less driving translates directly into less demand for maintenance and repairs.

 

  Vehicle Miles Traveled Year-over-Year Per Average Vehicle Year-over-Year
2000 2,747 12,994 2.5%
2001 2,796 1.8% 13,005 1.8%
2002 2,856 2.1% 13,050 2.1%
2003 2,890 1.2% 12,933 1.2%
2004 2,965 2.6% 12,946 2.6%
2005 2,989 0.8% 12,677 0.8%
2006 3,014 0.8% 12,454 0.8%
2007 3,031 0.6% 12,288 0.6%
2008 2,977 -1.8% 11,944 -1.8%
2009 2,957 -0.7% 11,857 -0.7%
2010 2,966 0.3% 11,931 0.3%
2011 2,931 -1.2% 11,791 -1.2%
         

 

In combination, these two trends – a declining population of older vehicles in operation (as the distortion from the Lesser Depression normalizes) and declining usage per vehicle – should create a material headwind for Monro’s business.  Indeed, for the quarter ended in June, Monro reported a 7.2% decline in comparable store sales and 24% decline in operating income.  The company attributed the weak performance in part to the impact of a mild winter.  While the company’s explanation likely has some truth to it, I believe Monro’s poor recent performance is also evidence of the increasing headwinds the company will face over the next few years.

At $33.46, MNRO is trading at 21.5x LTM earnings per share and over 3x book value.  I think MNRO will struggle to maintain its current level of earnings against the headwinds it faces and will also experience multiple compression as investors increasingly appreciate that the company’s strong performance over the past few years is not sustainable.  I see downside to below $20 per share from a combination of lower earnings and a lower valuation multiple.  As a point of reference, 15.0x LTM earnings of $1.56 would result in a $23 stock.  I think there is downside risk to both variables.

Four other points are worth noting:

i) Insiders have been consistent and aggressive sellers of stock. 

ii) The CEO recently stepped down and assumed the title of Executive Chairman.  While he had been CEO for 13 years, he is also only 54 years old.  The skeptic in me interprets the move as recognition of the challenging environment that the company faces over the next few years.  The move also may allow him to unload his more than $20 million (at current prices) worth of stock more quickly than he could as CEO.

iii) The company’s practice of exchanging aged inventory for barter credits strikes me as a red flag, particularly because Monro carries several years worth of barter credits as a long-term asset buried in other non-current assets.  I question whether these barter credits are really worth carrying value if they take so long to monetize.  If they are not worth carrying value, than Monro has arguably overstated income in the past.  These aren’t huge dollar amounts, but where there is smoke there is fire...

iv) Monro's sales and margins have been hurt by tire cost inflation. A 25% tariff on tires imported from China recently expired. The expiration of this tariff may provide Monro some relief from the negative impact of tire cost inflation, though I think any benefit Monro derives from this will be more than offset by the unfavorable demand dynamics Monro is facing.

 

I do not hold a position of employment, directorship, or consultancy with the issuer.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

Weak performance over the next few years
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