AutoZone: An Intriguing Growth Stock For The Watch List (NYSE:AZO)

The exterior of an AutoZone store. TennesseePhotographerIn investing, there is no one-size-fits-all approach. Some investors may prefer growth, some may prefer value/dividends, and others may take a passive approach and buy index funds. These are all strategies that have made many investors rich over the long run. Today, I am going to diverge from my usual coverage of dividend growth stocks a bit to examine a growth stock. That is one of the world’s largest aftermarket auto parts and accessories retailers, AutoZone (NYSE:AZO). Dividend ChannelThis business is the proof in the pudding that a qualitative-oriented growth investing strategy can also work. A $10,000 investment in the retailer made just 10 years ago would now be worth $54,000 now. Stacked up against the $33,000 that the same investment amount in the SPDR S&P 500 ETF Trust (SPY) would be worth with dividends reinvested, this is substantial alpha. I still believe that the company has market-beating return potential but will be initiating coverage in AutoZone with a hold rating. Without further ado, I’ll dig into the company’s fundamentals and valuation to highlight why. Dividend Kings Zen Research TerminalAutoZone’s debt-to-capital ratio of 175% is well above the 40% debt-to-capital ratio that rating agencies prefer from the auto parts retail industry. As I’ll discuss later, though, the company’s balance sheet is stronger than it looks at first glance. Along with its industry leadership, that’s why S&P awards a BBB credit rating to AutoZone on a stable outlook. This implies that the probability of the retailer remaining a going concern for the next 30 years is 92.5% per rating agencies and The Dividend Kings’ Zen Research Terminal. Dividend Kings Zen Research TerminalAutoZone’s valuation is the one gripe that I have with the stock right now. If the company’s P/E ratio in the past 10 years and 25 years are any guide, shares are worth $2,418 each. Seeing as AutoZone’s growth story appears to be intact, I would contend that these valuation metrics are appropriate. Relative to the current $2,736 share price (as of February 8, 2024), this signals AutoZone is trading at a 13% premium. If the company’s valuation reverts to the mean, and it matches the growth consensus, here are the total returns that it could deliver over the coming 10 years: 14.1% FactSet Research annual growth consensus – a 1.2% annual valuation multiple contraction = 12.9% annual total return potential or a 236% 10-year cumulative total return versus the 10% annual total return potential of the S&P 500 (SP500) or a 159% 10-year cumulative total return More Growth Ahead After A Solid First Quarter Boasting a $49 billion market capitalization, AutoZone’s size is only rivaled by O’Reilly Automotive’s (ORLY) $70 billion market cap in the auto parts retail industry. As of Nov. 18, 2023, the former had 7,165 stores throughout the United States, Mexico, and Brazil. AutoZone Q1 2024 Earnings Press ReleaseAutoZone shared respectable results in its fiscal first quarter ended Nov. 18. The company’s net sales grew by 5.1% year-over-year to $4.2 billion during the quarter. For context, that topped the analyst net sales consensus by $10 million. Underpinning these results was AutoZone’s 3.4% growth rate in same-store sales for the fiscal first quarter. Domestically, same store sales grew by 1.2%. This suggests that the company’s combination of knowledgeable customer service and wide parts selection is still drawing in customers. International sales remained at the heart of AutoZone’s growth story, however. The company’s international same-store sales growth was 25.1%. As the company’s stores gain more trust and recognition in Brazil and Mexico, this is attracting more customers with each passing quarter. The other component behind AutoZone’s growth in the fiscal first quarter was its store openings. The company’s total store count grew by 2.7% year-over-year to end the quarter at a total of 7,165. In the past four quarters, the retailer’s store count rose by 120 in the United States to end the quarter at 6,316. As domestic same-store sales growth suggests, the company isn’t just opening stores for the sake of opening them, either. This is further evidenced by the fact that the company closed just U.S. one store during the quarter. In Mexico, AutoZone’s store footprint has grown by 39 stores in the last four quarters to 745 to conclude the fiscal first quarter. Moving to Brazil, the company’s store count has increased by 28 to end the fiscal first quarter at 104. AutoZone’s diluted EPS climbed 18.6% higher over the year-ago period to $32.55 for the fiscal first quarter. Put into perspective, that was $0.94 better than the analyst diluted EPS consensus according to Seeking Alpha. Aside from the higher net sales base, disciplined cost of sales management helped the net profit margin to expand by 60 basis points to 14.2% in the quarter. Combined with a 7.2% reduction in the outstanding share count, that is how diluted EPS growth far outpaced net sales growth during the quarter. Looking ahead, AutoZone should have the flexibility to keep growing its store count. This is because, for the fiscal first quarter, the company’s Mexican and Brazilian same-store sales both grew at double-digit rates per Chairman and CEO Bill Rhodes’ opening remarks during the Q1 2024 earnings call. That implies that demand for additional AutoZone stores is far from saturated at this point. For these reasons, mid-single-digit net sales growth should persist in the quarters ahead. Margin expansion and share buybacks will also be key contributors to AutoZone’s growth story. This is why I agree with the FAST Graphs analyst consensus of 14% diluted EPS growth in FY 2024, 9% growth in FY 2025, and 11% growth in FY 2026. AutoZone’s financial health is also fine. The company’s leverage ratio was 2.5 times EBITDAR in the twelve months ended Nov. 18 per CFO Jamere Jackson. That’s consistent with AutoZone’s long-term leverage target. The company’s interest coverage ratio was also 9.3 for the fiscal first quarter of 2024, which is acceptable in my view (unless otherwise noted, all details in this subhead were sourced from AutoZone’s Q1 2024 Earnings Press Release). Risks To Consider AutoZone is a great business, but it has risks that are worth noting. As it stands now, the company’s growth potential is attractive. This remaining the case is contingent on AutoZone’s ability to maintain its reputation as a trusted and cost-competitive retailer. If the company can’t keep offering excellent customer service and parts selection (or there is the impression that it isn’t anymore), it could lose market share to competitors. That could hurt AutoZone’s investment thesis. Another risk to the company is that it directly imported about 16% of purchases in fiscal year 2023 (info per page 17 of 121 of AutoZone’s 10-K filing). A change in foreign trade policies could increase AutoZone’s costs, which it may not be able to pass on to customers. If that was the case, its profit margins could be adversely impacted. Summary: The Time To Buy Will Eventually Come FAST Graphs, FactSet AutoZone is a fundamentally sound business, but the valuation simply isn’t appealing to me right now. The stock is trading at a blended P/E ratio of 20.3, which is meaningfully above its normal P/E ratio of 15.4 per FAST Graphs. In the last decade or so, the typical valuation multiple is around 17. To build a margin of safety, I would rate shares a buy around a multiple of 16. Using the $151 EPS estimate for the fiscal year 2024, that is how I arrive at my buy-around share price of $2,400. Until fair value either increases, the share price decreases, or some combination happens, I will stand by my hold rating.

Rate this post

Leave a Comment