Description

Standard Motor Products is the last pure automotive replacement parts manufacturer trading publicly. The company now operates primarily in two business segments, engine management and temperature controls. SMP holds the greatest percentage market share in each of these businesses with a 30% and a 50% share respectively. End users are primarily automotive repair professionals. The company operates in Europe but presently generates the vast majority of its business in North America. Expansion in Europe, where auto air conditioning is still a growth business, is a major goal of the Company.

The automotive after-market parts business is huge, representing roughly $170 billion in sales and has been growing in the 6% range per year. The leasing trend has actually led to aging the average car on the road as auto manufacturers, finance companies, and dealers have made a good business of putting relatively young, well maintained cars back on the market (source: Edmunds). The average age has actually risen from the mid five year range in the late 1970s to nearly nine years.

SMP has a long history of producing only marginal returns on capital averaging in the 5-8% range over the years. The Company adopted EVA (Economic Value Added) as its mantra for future business decision making and employee compensation, which is indicative of a desire to pay far greater attention to returns on capital in making business decisions.

Sales per share for the trailing 4 quarters was roughly $47.50, which is not a historically out of line number. At the current market price of $9½, the price/sales is .2 .The stated per share book value at y/e 1999 was $ 15.57. Intangibles made up $3.12 giving a tangible book of $12.45.

The valuation methodology applied is two fold; asset reproduction value and earnings power value. Asset reproduction value is based on determining what is would cost to replace the assets of a going business as opposed to simply using book value which simply uses historical carrying numbers. An example of this would be PP&E, which is usually carried on the books at a depreciated number without regard to what it would cost to recreate for a competitor entering the business. Asset replacement value also seeks to address the value of customer relationships, franchises or licenses. On the liability side, reproduction value adjusts for the fair market value of outstanding debt versus simply the principal value outstanding. Once asset reproduction value is determined, the earnings power valuation is determined using current cash earnings numbers, adjusting as necessary for extraordinary items.

Allowing one year of SG&A for the value of SMP’s standing customer relationships, organization, and leading market share in their respective divisions, I arrive at an asset reproduction valuation of $30.84. Cutting this figure in half reduces the asset reproduction value to $25.35 per share, 170% above the current share price. Personally, I believe this figure is too low, as customer acquisition costs alone are very expensive. SMP itself had been spending nearly $30MM a year on this and expects to spend about $8MM yearly even with its leading market share position.

Moving down the reliability ladder, is the earnings power valuation. Adjusting for extraordinary charges, dd&a, etc. I come up with $ $23.10 determined with a weighted cost of capital of 10.5%. (Note: This is close to the figure SMP uses internally, however, they use a 12% number for their EVA calculations).

Even less reliable would be a private market value calculation which, based on some of the more recent acquisitions (multiples of EBITDA), would also point to a number in the low 20s.

Catalyst

Management and Directors own roughly a third of the stock so their pocket is well tied to yours as a shareholder. In addition, there have been a couple of recent insider purchases including more than 60,000 shares by the CEO. The adoption of EVA for both decision making and bonus calculation really instills an incentive to use shareholder capital wisely. Furthermore, you have a very good and vocal fellow shareholder in Mario Gabelli who recently upped his firm’s ownership stake in SMP to 20%. Gabelli focuses on undervalued companies with good business franchises, having a strong probability of achieving their private market or intrinsic value. You can be sure that he will keep pressure on management to deliver shareholder value one way or the other.