This Auto Retailer Is Pepping Up

Pep Boys (NYS: PBY) , the automotive aftermarket service and retail chain, reported a 30% surge in its second-quarter net income, sending its shares up 6%. However, revenue failed to beat Street expectations.

Big 10 yields big profits
The company reported earnings of $13.9 million or $0.26 per share. Top-line numbers failed to beat the Street, with the company reporting revenue of $523 million against the consensus estimate of $529 million.

Pep Boys' profits have continued to improve, particularly on the back of its strategic acquisition of Big 10 Tires -- one of the Southeast's largest independent tire retailers, with centers in Georgia, Florida, and Alabama. Most of the revenue -- almost 80% -- came from merchandise sales.

The remainder came from its service segment. Pep Boys generated more revenue from repair services, while tire sales mostly came from Big 10 stores.

Gross margins for the quarter declined slightly to 25.9% from the previous quarter, while the net income jumped 32% from the quarter before to $13.9 million. Here's why.

On a shopping spree
The company has been in an expansion mode lately. Besides the acquisition of Big 10, Pep also bought seven service and tire centers in the Houston area, previously operated by My Mechanic. This acquisition should help the company provide a fuller range of automotive maintenance and repair services in the region under the brand name "Tire." With these acquisitions, the company has added a total of 92 operating centers in the U.S. in 2011 with annual gross incremental revenue of $93 million.

A look at the competition
The automotive aftermarket has been doing reasonably well despite the economic headwinds and rising gasoline prices. The reason for this inverse relationship between the industry and the economy is quite intriguing.

The recession, it seems, has forced Americans to hold on to older vehicles a little longer than they would have liked. And this has made them spend more dollars on repairs than on purchasing a new one. Revenue for the automotive aftermarket reached $36 billion in 2010, up 10.5% from 2007.

The industry is intensely competitive. The sector has seen some strong performances in the recent quarter with companies such as AutoZone (NYS: AZO) and Advance Auto Parts (NYS: AAP) posting strong numbers. AutoZone, in its latest quarterly release, recorded a 19% jump in sequential quarter revenue. AAP reported a 12.6% rise in revenue and a 26% increase in its EPS on a year-on-year basis.

Other players such as O'Reilly Automotive (NAS: ORLY) are doing some brisk business, as they are suppliers to both individuals and professional repair personnel and cover major supply channels.

The Foolish bottom line
The automotive service sector is hot with companies performing well despite the rise in gas prices and a limping economy. Pep Boys, with its aggressive expansion strategy, will be a stock to follow in the coming months. With more than 725 locations covering 35 states, and good brands under its belt, the company appears set to outperform in the near future. The stock is trading at a trailing P/E of 13.1 which is quite cheap when compared to the industry average of 18.3. It can unlock value in the future.

Navneet Bajaj does not own shares of any of the companies mentioned in this article. Try any of our Foolish newsletter servicesfree for 30 days. We Fools may not all hold the same opinions, but we all believe thatconsidering a diverse range of insightsmakes us better investors. The Motley Fool has adisclosure policy.

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