Standard Motor Products: Forgotten Steady Performer For A Dividend Investor (NYSE:SMP)
Standard Motor Products (NYSE:SMP) is a manufacturer of aftermarket parts for vehicles, primarily passenger cars but also heavy duty and industrial equipment vehicles. Although SMP has been in the business for over 100 years, it’s one of those forgotten small caps that grind year after year. While it’s likely to remain unloved, the volatility of its stock can represent an opportunity to buy the stock below its fair value and with a good safety margin.
Standard Motor Products is a remarkably stable business with steady margins, it has a very low leverage and enhances or keeps up its growth with small bolt-on acquisitions. With a market cap less than one billion these acquisitions can slowly move the needle. In addition the company pays a decent dividend combined with stock buybacks.
Steady business slowly branching out
Standard Motor Products has a revenue of approximately $1.3 billion and it employs 5000 people. 70% of its sales is generated from the so called engine management product segment and 30% from the temperature control segment. 80% of the sales is aftermarket and 20% to original equipment manufacturers.
The company sells its products under approximately twenty different brands or trademarks and nearly 90% of the sales is from the United States. Its customers are some of the well-known retailers, distributors and manufacturers such as AutoZone, O’Reilly Automotive, Genuine Parts and General Motors for example.
The drivers behind SMP’s business are developing favorably. The U.S. vehicle parc is growing, the average age of vehicles is increasing and the miles driven is rebounding from the COVID-19, as demonstrated above by Dorman, the competitor of SMP. The bottlenecks in the supply of new passenger cars should help to keep up the demand in the short term. Whatever happens, perhaps the best part of the business of Standard Motor Products is the stability of its margins.
Latest sales and earnings development of the company has been extremely strong, which will be addressed in more detail below. The revenue growth has been partly a result of acquisitions. In October 2022 the company acquired a small German distributor with annual sales of $6 million. In 2021 SMP made several acquisitions: Trombetta with sales of $60 million (P/S 1.8), German Stabil Group with sales of $25 million and a part of the sensor business of Stoneridge with revenue of $13 million. In total the latest acquisitions have contributed sales of $100 million. The European acquisitions have enabled the company to better sell its entire offering to larger customers.
Similarly to its main competitor, Standard Motor Products is expanding to adjacent categories for specialized vehicles. This strategic move probably not only provides growth opportunities but also protects the company from the eventual decline of internal combustion engines. SMP has been fairly successful growing this segment representing today over 20% of total revenues. Currently, 50% of company’s products are not dependent on ICE and aftermarket parts business will take years to change meaningfully.
The share price might pay a visit to buy zone
The share price of Standard Motor Products appears very volatile. Currently SMP is not trading too far from its fair value if calculated with conservative assumptions. In the calculation below, we take the average analyst estimate of the EPS for 2023 and use 2 %-points lower earnings growth rate than the five year average.
The calculation below simply assumes that the dividend grows in line with the earnings, resulting in a lower growth rate than the latest dividend increases the company has implemented. Again, as for the multiple, let’s not expect too much of an expansion and we’ll use the current multiple of 12 which is significantly lower than the five year average of 16. At around $35 dollars there’s quite a bit of safety margin built in and presents good value for a dividend investor. Using historical growth rates the stock would be a buy at the time of writing at around $40 per share.
Historically SMP has delivered EPS between $1.6 to $2.6. In 2021 the company recorded an EPS of $4.00 and for 2022 the average analyst estimate is $3.46 and for 2023 it’s $3.88. The new level of earnings is explained by 20- 30% higher revenue in 2021 and 2021 than the previous 9 years. The company has communicated that it experienced a post COVID-19 sales momentum from the second half of 2020 to 2021. For this reason the normalized level might be lower. In fact, in 2022 the earnings seem to be returning to its historical trajectory. For 2022 the company expects the gross margin to be 27%, a little lower than historically, as the company is running behind the inflation.
The closest and listed peer for SMP is Dorman Products (DORM), which is three times bigger by market capitalization and has 20% higher revenue. Dorman trades with a P/E multiple of over 20. This can be explained by higher revenue and earnings growth, significantly higher returns on capital, slightly higher margins and less debt. Nevertheless, it is relatively safe to say that Dorman has room for multiple compression whereas SMP could enjoy multiple expansion if growth accelerates. Most of its multiples are trading significantly below five year averages.
There are three analysts following Standard Motor Products with an average target price of $49. As usual, the target prices have been fluctuating between $50 to $60 for the past five years and the stock has been trading between $35 to $50. Basically the stock hasn’t gone anywhere since 2016 and therefore it’s most likely crucial to purchase right to achieve good enough returns when investing in SMP.
Balanced capital allocation
Over the course of time the leadership of Standard Motor Products has been a mediocre capital allocator achieving an average ROIC of 10.7% over the last ten years according to QuickFS. Over the past ten years it has spent 39% of available cash on M&A, 23% on capital expenditure, 19% on dividends and 19% on buybacks.
Except for the year 2020, SMP has been paying an increasing dividend since 2010. The company raised its dividend 7% in 2022 and 8% in 2021. According to Seeking Alpha, the five year dividend growth rate is over 7%. The dividend payout ratio is currently very safe, approximately 30%. The current forward yield of 2.8% is slightly above the 5 year average of 2.2%.
In addition to the dividend, SMP is buying back its own shares. Over the years it has been doing buybacks to the same extent as paying dividends. Over the past five years the company has reduced shares outstanding by approximately 4 per cent. So a patient investor could add another percentage point of yield on top of the dividend.
Standard Motor Products has increased its debt position however remaining on a modest level. The debt seems to have gone to finance increased inventories, daily operations, capex and returns to investors. In the end of Q3 2022 the company had total debt to EBITDA ratio of 1.7x. Maturities of the debt are well spread to the coming years, most of them due in 2027. Therefore, the increasing debt level doesn’t raise a concern yet.
Concentrated but successful customer base
The three largest customers, O’Reilly, NAPA and AutoZone, account for nearly 60% of SMP’s revenues. Most of the largest customers are doing great. For example, the supercompounder O’Reilly has achieved spectacular revenue, earnings and margin growth for many years. This probably wouldn’t happen without significant power over its suppliers.
In December 2020 the risk of customer concentration was realized when one of the SMP’s customers decided to go private label with the engine management product line. Although SMP has recovered from the loss, at the time the company said it will lose revenues of $140 million. This is an example of the nature of the industry and products. The brands of SMP are not something a retailer can’t live without. For retailers SMP is in the business of selling contribution margin, inventory turnover and ease of doing business. If the retailer emphasizes margins, they can very well shift to private label.
If one believes that electric vehicles won’t take over the world overnight, Standard Motor Products is the classic boring and hidden small cap. It has been delivering stable margins and decent growth over many years, carries only a little debt and pays a good well covered dividend. Branching out to adjacent product categories and growing internationally will provide much needed growth. Based on the stock price chart SMP could be an excellent vehicle to hold a core position and trade around the position while the price bounces sideways.