Value Investors Club / LKQ CORP (LKQ)

Description

LKQ $31.50

SO 308

Thesis

LKQ is a secular growth story which should organically compound eps at 10% a year and generate strong

FCF which will be used to continue to build their growing European position and help generate a net mid

teens EPS CAGR. If the business develops as we currently think, eps should grow to around $2.70 to

$2.85 in 2019 from $1.90 in 2017. If it traded at 17x (which would be a discount to the comps) it would

be a $46 to $49 stock. Overall, the business is counter cyclical and likely to maintain or accelerate

organic growth into a recession as it did in 2009/2010. In addition, the businesses where it competes

are largely shielded from new competitive threats like Amazon, as explained below. One should think

about the business as being divided into basically three separate businesses each with its own drivers

and growth characteristics. The largest (roughly 50% of revenue) is the North American business. The

North American business should be thought of as largely a collision repair part distribution business

which consists of using both recycled (salvaged) parts and aftermarket parts (cheaper copies of OEM

parts). Also within this business is a smaller business (about 10% of the segment or 5% of total company

revenue) based on recycled mechanical parts. These are mostly rebuilt engines that are salvaged

(sometimes from cars bought at auction, sometimes just from auto repair shops in their auto body

network) and distributed through the same North American distribution system to many of the same

body shops that get collision parts from LKQ. Within North America, it has a dominant position (20x

larger than the nearest competitor) based on the size and scale of its distribution network that cannot

be replicated. The European business (roughly 35% of the revenue) is based on the sale of aftermarket

mechanical parts (wipers, air filters, belts, etc.) and is not collision related. This is a good business and is

similar to a Genuine Auto Parts in the US, with the difference being that Europe, as a result of a

regulatory shift, is far less penetrated with alternative mechanical parts than the US leaving room for

much faster growth. The last business is a Specialty Parts business (roughly 15% of the revenue). This is

primarily after market accessories for trucks and RV’s (special wheels, winches, trailer hitches, floor

liners, etc.).

LKQ is poised to win market share in both of its primary businesses, albeit for different reasons. In the

US because its clients are basically auto insurance companies that offer a commodity product and are

under constant pressure to lower their costs – LKQ and alternative parts offer a 50% +/- discount to

OEM parts. LKQ, being 20x larger than the next largest competitor, is best positioned to service those

customers and participate in that secular shift as it can offer industry leading fulfillment rates given its

distribution network and the quick turnaround of repairs is a key driver for insurance companies. The

largest auto insurer (State Farm), which has not fully embraced alternative parts for reasons explained in

the later in the memo, is bleeding both market share and losing billions on its auto book to the lower

cost providers like GEICO. This dynamic of auto insurers needing to be low cost providers should

continue to lead to market share gains for alternative parts providers and gives a free call on State Farm

getting back into the space which would create a big step up in demand. In Europe recent EU decisions

have removed barriers OEM’s had tried to impose to prevent the use of mechanical alternative parts

(wipers, belts, filters, etc) which have resulted in alternative parts only having a fraction of the market

share that they do in the US. (roughly 60% vs almost 90%). As a result of the removal of barriers to their

use, alternative parts should enjoy market share gains for many years to come as the consumer is able

to purchase parts at a fraction of the cost of OEM parts without restrictions or potential warranty issues.

This business most closely resembles companies like GPC in the US. With two high quality businesses

well positioned for secular growth you are paying 13x forward eps. Comps which would include GPC,

Monro, O’Reilly, Copart, Kar, even AZO trade at 20x forward on average with lower organic growth

profiles.

From a driver/risk perspective you can also break the business down like this (a fuller explanation

follows):

About 35% is collision related(basically all in North America). Of this about 25% is driver related and

11% is non-driver related. Another 5% is around rebuilding engines (also in North America) and so is a

function of fixing up old cars. About 14% is tied to consumer discretionary purchases and the SAAR (as it

is often for new cars/trucks) – this is the Specialty business. Most of the rest – about 40% is sort of an

MRO business – basic replacement of mechanical parts (wipers, filters, belts). Almost all of this 40% is

the European business, with about 36% coming from Europe and a small 4% or so in North America. The

driver here is the general maintenance of gas power cars (automated or not). It is worth noting, while

electric cars need maintenance, they do not require the same number of parts (less filters, belts, brakes,

etc.). The remainder 6% is basically “other” which is tied to heavy truck, self service, scrap metal (0%

margin) and some other small segments.

North America (about 50% of revenue)

We can think of the North American Business as being broken down as follows:

Endmarket Business Segment

Driving Related Collision 25%

Non-Driving Related Collision 11%

Collision Related 35% North America

Rebuild/Repair 5% North America

Discretionary/SAAR 14% Specialty

MRO 40% Mostly Europe (36% Europe/4% NA)

Other 6%

North America

100%

North America

Recycled Collision 12%

Aftermarket Collision 23%

Total Collision Related 35%

Recycled Mechanincal 5%

Aftermarket Mechanical 4%

Other 6%

Total North America 50%

The collision related business is the largest driver of the North American business. This would include

both recycled parts (which are original OEM parts salvaged from total cars bought at auction) and

aftermarket parts (these are new parts made mostly in Taiwan by non-OEM’s. In terms of drivers, we

have been told that the 35% of the total business (70% of the NA business segment) broadly thought of

as collision related can be broken down further along a rough rule of them that around 70% of such

collision claims come from driver related accidents and 30% from non-driver related damage (deer, hail,

falling trees, floods, etc.). So from a risk of more advanced driver assistance systems (and one day

autonomous driving) only about 70% of that 35% or a net 25% of the overall business is exposed to

having few driver related incidents. This risk is discussed more fully later.

The recycled mechanical piece is mostly rebuilt engines that LKQ collects from salvaged vehicles and

from auto body shops along its distribution network. It then rebuilds the engines and sells them to a

used car owner with a blown engine at a fraction of the cost of a new engine and often at a time when

the car is not worth spending the money on a new engine. LKQ then collects the blown engine and looks

to rebuild it and so on and so on. Just recently, LKQ announced that it was going to do the same thing

for rebuilt transmissions. This is a new business and something worth exploring. Our sense is that this

could be a $300 +/- opportunity over a few years or maybe add 50-70 bps to overall growth for if it

should prove successful. This is not really in our numbers, but is could lead North America to run closer

to the high end of the long term guidance range (4%) or add an incremental $0.10 to eps in a couple of

years. There is also a small piece of aftermarket mechanical sales (coolant, etc), but this is pretty small

and rarely broken out within North America.

The wholesale collision part market is a $15 billion market. Ultimately the big drivers for the business

are a function of collisions (loosely correlated with miles driven but also influenced by weather), the cost

of parts, the number of parts per collision and the market penetration of alternative parts. Currently

alternative parts are about 37% of the parts used for repair while the other 63% come from OEMs. The

value proposition is that alternative parts cost a fraction of what OEM parts cost. The ultimate payor for

collision repairs is the insurance company. Given that auto insurance is largely a commodity business, an

insurance company will care about two things – 1) cost and 2) speed. This plays well for LKQ. As you

can see below, alternative parts are much cheaper and can really lower the cost of doing business for an

auto insurance company:

Driving Related Collision 25%

Non-Driving Related Collision 11%

Collision Related 35%

Interestingly, the largest auto insurer, State Farm, that insures 1 out of every 5 cars in the US does not

use aftermarket parts. This is a result of a lawsuit from several years ago. Even though they won the

suit and have changed their contract to match those of others in the industry (so as to be clear that they

can use aftermarket parts) State Farm has yet to return to using them in a meaningful way. The best

explanation for that seems to be there are lingering challenges to the ruling and perhaps they do not

want to change their stance until those have been removed. It is also worth noting that State Farm does

not advertise its lack of aftermarket part use (something the consumer might like) because it needs to

preserve its ability to return to the market – so they are not getting any benefit from not using such

parts. In the meantime, given the nature of the business they continue to lose billions of dollars on their

auto book and bleed market share to lost cost providers like GEICO and Progressive. Industry leaders

like GEICO and Progressive, perhaps unsurprisingly, have alternative parts use rates in the low 40’s% -

ahead of the industry as a whole. Management thinks the industry could get to the mid 40’s% or so in

terms of penetration up from around 36% today. Certain parts will never be replaced by alternative

parts because they are not in demand enough for an aftermarket part maker to tool up to build or there

are not enough salved parts to keep it in inventory. The back panel of a BMW 7 series is such an

example – its too rarely needed/available. Also, as explained earlier, new cars and old (10+ year) cars

usually do not get alternative parts and those represent about 40% of the car parc. One free call exists

in that it seems likely that at some point – perhaps in the near future – State Farm will reverse course

and return to aftermarket parts like its competitors. Our thinking on the State Farm opportunity is as

follows:

Collisions part industry is a $15Bn industry. State Farm has 18% market share or $2700 if 30% of

that went to recycled parts that would be $810M of which LKQ could capture its pro-rata share

of 60% at a 15% EBITDA margin = $0.17 / share at 20x = $3.37

In addition to low cost, insurance companies care about turn around time. This is because they are

usually paying for a rental car for their customer while the car is being repaired. In addition, long turn

around times upset customers and create switching costs/churn. Here LKQ provides a solution as well.

LKQ is 20x larger then the next competitor. In addition to size, LKQ has invested in and built the largest

and most sophisticated distribution system. As a result, it can get parts to auto body shops within a day

with greater frequency than any competitor as it has the largest inventory and it can move that

inventory around daily depending on need with a logistics system that that links salvage yards,

distribution centers and the customers.

It is worth noting, that management guides this business to grow 2-4% annually. Looking at the growth

drivers – miles driven (loose proxy for collisions over time), cost inflation of OEM parts (alternative parts

are priced as a % of OEM parts so as OEM part prices go up, so do alternative part prices), number of

parts damaged per incident – all of those are LSD+ type numbers. In addition, over time alternative part

penetration has gone up. Most recently this has flatten out, but management points to the negative mix

shift in the age of cars for holding back penetration rates – alternative parts are most often used in cars

3-10 years old (or 3-7 – there is some debate). Older cars get totaled when they crash, not fixed, and

younger cars often do not have alternative parts available yet and insurance companies are more likely

to use OEM parts on new cars. The number of cars within this “sweet spot” of 3-10 year has been

declining for years – since 2009. Starting really in 2018, this pool should begin to grow again which

should help overall penetration rates as you can see below:

If you add up all the drivers behind the business including the shifting age of the car pool – it seems like

you can come up with something much higher than 2-4%. (Miles driven, OEM part price increases,

number of parts damaged per incident, market penetration of alternative parts, shifting age of car parc).

Management claims that the business is of a size and complexity that it is not realistic to think of it

growing much beyond that range and our numbers do not assume it does. But it is worth continuing to

follow this as it can also be a case of being conservative by a new CEO when there is a lot of focus on the

North American organic growth number and it has been decelerating (in part because of the chart

above) – so why set expectations high? In addition to organic growth, management continues to do

tuck-in acquisitions in North America which can be done at 3x-4x EBITDA pro forma for synergies.

Collision is now only 35% of the business and driver related collisions are likely only about 25%, but

there is still a question about this segment of the business as advanced driving safety systems become

more widespread and with the eventual mass introduction of autonomous driving cars.

With regard to advanced active safety and autonomous driving the company makes the following 2

points. First it points to the most recent study by CCC information services about the estimated impact

on the number of collisions from active safety and eventually autonomous driving – the conclusion of

which is that the effect is very mild and takes decades to play out such that it will be hard to see in LKQ

numbers over any investable time frame (see below):

As you can see, CCC estimates the number of collisions will be down only 10% by 2030 – that directly

addresses only 35% of the business (I think the study is on total collisions not just driver related – so I

think it is working off a denominator that includes all collisions).

The second point the company makes is with an illustration of the speed with which new technology

makes it through the car parc – which is a multi decade process historically. Here they show the

penetration of electronic stability control almost 20 years after introduction (introduced in 1995 – by

mercedes, bmw and toyota) with its projected continued penetration rate as an example. ESC was

introduced in 1995 and was one of the first computerized/software accident prevention systems.

Electronic stability control (ESC), also referred to as electronic stability program (ESP) or dynamic

stability control (DSC), is a computerized technology that improves a vehicle's stability by detecting and

reducing loss of traction (skidding). When ESC detects loss of steering control, it automatically applies

the brakes to help "steer" the vehicle where the driver intends to go. Braking is automatically applied to

wheels individually, such as the outer front wheel to counter oversteer or the inner rear wheel to

counter understeer. Some ESC systems also reduce engine power until control is regained. ESC does not

improve a vehicle's cornering performance; instead, it helps to minimize the loss of control. According

to Insurance Institute for Highway Safety and the U.S. National Highway Traffic Safety Administration

one-third of fatal accidents could be prevented by the use of the technology.

Using ESC as a guide, you can see the forward collision prevention’s (one of the early features of ADAS

now being offered) projected penetration of the fleet and see it takes 40-50+ years to make it largely

through the parc. This is a good example of how active safety/semi-autonomous driving options

penetrate the fleet over time and it provides a model for predicting how future iterations of semi-

autonomous driving and one day full autonomous driving options will penetrate the market. The

conclusion being it takes many decades for a new safety technology to make it through the car parc.

This provides some comfort for how long it will take autonomous driving to become widespread not in

just new car sales, but in the entire car parc which is what drives LKQ’s collision business. This also

seems consistent with CCC’s predictions of the reduction in collisions over time mentioned above.

In an effort to test out the thesis – we built a rough model of the US car parc. We assumed the SAAR

starts at 16 and grows 2% over time (although there will be recessions in there that drag it down in

reality) and set scrapage to 12 million and grow that with the parc. We assume that 1 million

autonomous cars are sold starting in 2020 and grow that 50% a year until it represents 100% of the

SAAR only 8 years later in 2028. I think this is much more aggressive than any prediction I have seen or

read by a decent factor. Given the cost of the autonomous technology, even assuming significant price

declines – I am not sure it makes sense to have much more than ½ of new car buys able to afford in by

2028 – but I assume 100% to be conservative. IHS puts 2050 as the tipping point for when there are

more autonomous cars on the road then conventional ones – my more aggressive/conservative

assumptions put that tipping point at 2038. Even in this case, what I think is interesting is that the driver

driven parc continues to grow and is still about the same size in 2029 as it is today despite the aggressive

assumptions of autonomous cars. It’s not until 2038 that the driver based parc is ½ of today. The

conclusion to me is that it takes a long time to change the characteristics of the car parc given its size

and the longevity of the modern car. Sorry this is small – a lot of years have to get covered – I can send

in a separate spread sheet if you want to see it better or play with it – just let me know. I actually cut

the model off early below just to make it easier to read – as I think you get the point…Even being very

aggressive the car parc in 2030 still has almost as many driver based cars as it does today.

Europe (about 35% of Revenue)

The European business is mostly an alternative mechanical part based business that LKQ has built

through acquisition and investment. Management sees this as a upper single digit organic growth

business (6%-8%). This is not a collision based business. Rather this is a business similar to the

professional segment of a Genuine Auto Part of an O’Reilly. It distributes aftermarket parts sourced

mostly from Asia to DIFM shops in Europe. These include filters, belts, wipers and the like. It addresses

a 78 billion Euro market for mechanical parts. The industry is highly fragmented, usually with local

champions but very few larger regional or pan European players. LKQ is the largest company in the

space – about 30% bigger than the next largest competitor. But while in the US the top 4 companies

have $35 billion in revenue, in Europe (which has a 10% larger car parc) the top 10 companies only have

$13 billion in revenue – leaving a lot of runway for consolidation. One reason for the difference was up

2017

2018 2019

2020

2021

2022

2023 2024

2025 2026

2027 2028

2029 2030

Car Parc 270 274 278 283 288 293 299 306 313 323 334 343 350 356

Driver 270 274 278 282 286 289 291 293 293 290 285 274 261 247

Driverless 0 0 0 1 3 5 8 13 21 32 49 69 89 109

SARR 16 16 17 17 17 18 18 18 19 19 20 20 20 21

Driver 16 16 17 16 16 15 15 13 11 8 2 0 0 0

Driverless 0 0 0 1 2 2 3 5 8 11 17 20 20 21

Scrap 12 12 12 13 13 13 13 13 13 13 13 14 14 14

Driver 12 12 12 13 13 13 13 13 13 13 13 14 14 14

Driverless 0 0 0 0 0 0 0 0 0 0 0 0 0 0

Car Parc % Driver 100% 100% 100% 100% 99% 98% 97% 96% 93% 90% 85% 80% 75% 69%

% Driverless 0% 0% 0% 0% 1% 2% 3% 4% 7% 10% 15% 20% 25% 31%

Driver cars as a % of 2017 100% 101% 103% 105% 106% 107% 108% 108% 108% 108% 106% 102% 97% 91%

until a European ruling in 2010, many OEM’s tried to block alternative parts from being used by voiding

warranties for use of non OEM parts. The EU ended this practice as being non-competitive. Therefore,

whereas alternative parts in the US have around 87% penetration rates for mechanical parts, those rates

are only around 60%-65% in the EU – leaving a lot of growth potential. These parts are paid for by the

end user out of packet, so being able to offer a high quality and lower price alternative continues to gain

traction within the professional segment.

There is a small collision/salvage piece of the business in the UK. The collision wholesale parts business

is much smaller than the mechanical one in Europe at about Euro 14 billion (similar to the US in size). To

build this business, LKQ needs not only to establish a network and salvage presence but must win over

the insurance companies. This could be a long term opportunity, but it will likely never be like the US.

For instance, in Italy, the insurance company does not take possession of the totaled car so there is no

auction/salvage/recycled business. Right now there is only a collision business in the UK and while it is

growing fast, it is only $90 million. There is no near term plan to make this a meaningful business but

over the long term it could grow into something meaningful. Overall alternative collision parts in Europe

only account for 7% of the market. Given the different legal/insurance structure its unclear where that

can go. The TAM is close to the size of the US, but penetration will never be the same. Its worth

exploring overtime, but we would not look for collision to be a meaningful contributor in our investable

time frame. The current $90 million business can grow at double digit rates for a while, but without

more investment or platform acquisitions it is not significant. Management is more focused on building

the first pan-European alternative mechanical business.

One threat to think about with regards to the European/Mechanical business would be electric cars.

Electric cars have few moving parts and require less replacement parts. They do not have belts, oil

filters and even the brakes last longer as the car uses braking to recharge. This is a concern. But there

are three points worth making. Mechanical businesses in the US trade at 20x, so the market continues

to value them richly and therefore LKQ seems underpriced. Second, looking at the autonomous driving

model above – it takes a long time to shift the characteristics of a car parc. Lastly, unlike autonomous

driving cars which do seem like one day will replace driver based cars, the shift to electric seems less

clear and probably is more a function of energy prices. As an example, with regards to the electric car,

according to the U.S. EIA Energy Outlook in 2014 Report – they project light duty vehicle sales as follows

for the year 2040.

If you assume the SAAR is around 25 million by 2040 (grows at about 2% a year with population as a

rough guess) then 78% or 19.5 million conventional gas cars will be sold – or still more gas cars then we

currently sell or have ever sold. Another way to frame the risk would be to look at the 17-ish million cars

we sell now – of which only about 159,000 are electric. In 2011 Obama announced the goal of having 1

million electric cars on the road by 2015 (out of roughly 270 million)…we missed by 60%. Later, his

energy secretary in Jan of 2016 said the new goal was 1 million on the road by 2020 (this will be on a

total car parc of about 280 million cars or 0.3% (30 bps)). With that said – it seems hard to see electric

cars changing the industry dynamics in an meaningful way for a while…even with $6.00 gas it seems like

it would take some time.

The conclusion seems to be that this threat is rather benign especially when you consider that within the

22% of electric cars predicted to be sold in 2040, there are some hybrids which have similar MRO needs

as conventional gas. So the real percentage of cars that would require less MRO is even less than the

22%. To really have a strong view on this penetration rate, however, one would need to make a

prediction on the price of oil/gas. At $6.00/gallon gas I would imagine the electric & hybrid sales vs

conventional gas might look different than at $2.00. One problem electric cars have (other than Tesla) is

not only are they much more expensive to buy – but the total cost of ownership is really high as they

depreciate fast. There is very little market/demand for used electric cars and people worry about having

to replace the battery…again I assume $6.00 gas might increase the demand for used electric cars but its

something to think about.

Specialty (15% of Revenue).

This is a pretty simple business that management thinks can grow MSD (around 5%) although it has

been growing much better than that. Management belies that a combination of market share wins from

superior offerings and service, some added SKU’s and the backdrop of a growing category (especially as

trucks/suvs win relative share) should combine to produce MSD results even with a flat SAAR. This

business is largely selling aftermarket accessories. These are often tied to truck related accessories and

usually purchased for new vehicles. So the business is tied to consumer discretionary spending and the

SAAR, although with a flat SAAR recently it has continued to grow over 6% even in the first q of 2017.

The competitive advantage is with size, scale and distribution. The best-in-class logistics and distribution

network can serve over 97% of the dealers/jobber customer’s next-day. The TAM is about $11 billion in

categories where LKQ competes.

Margins

Management looks for 20 bps or so of margin expansion over time from best practices, better logistics

and some SG&A leverage. The only unique opportunity that stands out is in Europe where two units

have been weighing down overall profitability. First is a new facility in the UK which has been being built

but not generating revenue yet. The second is from a pending acquisition of a money losing business

that they are accounting for owning, but waiting for legal clearance to close and restructure. The net

swing from turning these negative contributors to positive ones should be about $0.10 to eps mostly

recognized in 2018 or about 70 bps. Management has called out best in class margin in Europe as

around 12%-12.5%. They are unlikely to get up to US margins because Europe is more of a pure

aftermarket distribution business whereas North America is more focused on alternative parts for

collision which comes with better margins from more unique inventory.

Balance Sheet

Management is comfortable at 2.0x but has stretched up to 3.0x to do deals. All of the capital

generated as well as the balance sheet capacity (which from a liquidity standpoint is about $1.4 bn) will

likely go to acquisitions. Mostly in Europe but also with tuck-in deals in North America.

Pre Mortem

From a stock standpoint (as opposed to operationally) there is a risk that new technology

(autonomous/electric) depress the multiple. For reasons explained above, the operational risk seems

remote, but this is something to monitor. Shorter term, issues like mild winters and currency can have

an effect. From a currency perspective – they do not really break it out, but we know: a 15% drop in

GBP = 5 cents of EPS / annum and recently company mentioned a 7% drop in GBP and 3% in the Euro at

the start of 4Q was a $0.01 headwind to Q4 so 4 cents annualized. Overall, Europe (includes GB) is 26%

of EBITDA.

Longer term, market share losses by alternative parts distributors as OEMs push back is another reason

the investment might not work out. No one really knows what OEMs make on cars but an Accenture

study, for instance, reveals that GM earned relatively more profits from $9 billion in after-sales revenues

in 2001 than it did from $150 billion of income from car sales. The math seems to protect alternative

parts though – as people guess OEM parts carry 30%-40% gross margins based on comments from CEO’s

in the past. Alternative parts are roughly 50% cheaper. The amount OEM’s would need to cut prices to

be competitive from a price perspective would seriously impair their gross margins and if that is half the

profitability of the overall company – you would not impair it to try and shift a few points of market

share. But you may try and find ways to keep consumers at the dealer where they are more likely to

push the insurance company for reimbursement on OEM parts. Just something to watch.

In addition, there are likely to be big deals done, especially in Europe. That brings execution risk.

Furthermore, it will be worth monitoring how used car prices make their way through the chain. As

used car prices fall, older cars become more likely to get scrapped than repaired. On the one hand this

means less repairs and therefore less replacement parts, on the other hand this increases the number of

cars LKQ can buy at auction and at better prices increasing its profitability on parts it sells which are set

to a % of OEM parts. Management claims that this would be a net positive historically, but it bears

watching.

Lastly, there still seems to be a small question on IP. One way LKQ could get hurt would be if OEMs try

to increase the IP on parts and design patents and use those to prevent alternative parts from being

used as they would violate their IP. It seems that some OEMs have tried this and found it better to just

settle with LKQ to pay a small fee and become the exclusive alternative parts supplier rather than

keeping slugging it out in court – which ironically is a good outcome for LKQ as they get a monopoly on

aftermarket parts from those OEMs. But this could change.

Development for 2017

What is worth watching is the North American organic growth rate. The fleet age begins to shift in their

favor for the first time in 2017, but its really more a 2018 opportunity. It is worth seeing, however, if you

can see hints of acceleration in the back half of 2017.

Why does this opportunity exist?

There seem to be 3 main drivers of the stock price being down 20+% since last summer and trading at a

big discount to its historical average. First, there has been a focus on autonomous driving in the

headlines raising questions of reduced collisions. First of all, collisions only account for 25% of the

business. But see attachment for how unlikely it is for the car parc, even under the most aggressive

assumptions, to be effected by autonomous driving cars. For instance, IHS projects that autonomous

cars will not overtake conventional ones in the car parc until 2050. Second, there seems to be too much

focus on the NA growth rate which has decelerated. The NA piece is no longer the majority of the

business, and the fact that it slowed from double digit rates is in part a function of the law of large

numbers. But as explained in the attachments – what really drives demand is the car parc that is

between 3-10 years old. That part of the car parc had been shrinking for the last few years as they super

low SAAR from the financial crisis worked its way through the car parc. Now we are about to inflect up

in the number of 3-10 year old cars for the first time in years – which should be a catalyst for the stock

and is certainly not something currently priced in. It is worth noting, even at these lower organic growth

levels, it still is among the best in the group at a discount. Lastly, management has had a good history of

meeting/beating numbers. The divested a piece of business (OEM glass) late last year as they had

always said they would (they took ownership of it because they wanted to buy the replacement piece

but always said they would sell the OEM piece once they closed), which turned out to be more dilutive

that the street had modeled. So optically it looks like 2017 estimates have come down and the stock has

followed. In addition to the divestiture, currency, in particular the pound has dragged earnings down a

few pennies to $0.10 which has helped keep a lid on the stock price. But the underlying earnings power

of the business is the same. They are now, in a sense, under earning and I would expect them to use the

proceeds from the divestiture to make acquisitions in their European business and replace much of the

divested earnings. Again this should be a catalyst and makes it an opportunistic time to buy, before

numbers start coming up from new deals.

I hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

M&A - accelerating organic growth

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			2017	2018
Price:	31.00	EPS	0	0
Shares Out. (in M):	308	P/E	0	0
Market Cap (in $M):	9,500	P/FCF	0	0
Net Debt (in $M):	0	EBIT	0	0
TEV (in $M):	0	TEV/EBIT	0	0