This Hidden Gem Is Poised to Profit

With the new year comes a review of one's positions. Over the next few weeks I'll be looking to close out some of my old CAPScalls, initiate some new ones, and single some of the old and new out as my top picks. One of my first top picks is going to have to be Dorman Products (NAS: DORM) . Read on to see why I believe this hidden gem will profit greatly from a long-term trend.

Well I'm runnin' down the road, tryin' to add to my portfolio
Between 2006 and 2010, total sales of automobiles in the United States declined 18%, but the bulk of that can be attributed to a 30% decline in new auto sales. The average age of a car or truck in the United States also reached a record 10.8 years in 2011, up from 8.4 in 1996. It's been a terrible time to try to sell a car, especially a new one, but a great time to keep an old one running.

These trends explain why an auto parts store like AutoZone (NYS: AZO) has been reporting record income, growing margins, and opening dozens of new stores despite a difficult economy. Meanwhile, a titan like Ford (NYS: F) has seen its sales slip 15% over the last decade and has only managed to grow net income by improving profit margin. Even Ford's improved profit margin has come more from shrinking sales, general, and administrative expenses than it has from increasing gross margin. A rising gross margin would indicate stronger demand, but Ford's has been on the decline for over a decade, and despite improving dramatically since 2009, it seems to be on its way down again.

Don't let the size of Dorman's catalog drive you crazy
Dorman Products in particular has capitalized on the trend toward keeping used autos around longer. Over the past five years, sales have risen 75%, while net income has more than tripled.

Dorman sells approximately 122,000 different replacement parts, about 21% of which were previously only available through the original equipment manufacturer. Dorman's massive catalog and ability to produce lower-cost, hard-to-find items gives it a strong competitive advantage, which factors into the 35% gross margin it's able to command, putting it near the top of its peer group.

RBC has three stocks on its mind
Dorman outshines its competition in more ways than just gross margin, but it doesn't get much analyst love. RBC Capital Markets, for instance, recently tagged three stocks for its top picks in the industry, none of which were Dorman.

One of them, Tenneco (NYS: TEN) , has an absurd debt-to-equity ratio of 15.7, while Dorman operates completely debt-free. Dorman is growing rapidly, but Tenneco can barely even service its debt, with an average interest coverage ratio of 1.8 over the last five years.

Another RBC top pick, Johnson Controls (NYS: JCI) , may be overshadowing Dorman due to its soaring net income gains over the last couple years, blowing even Dorman's impressive numbers out of the water. However, Johnson's total free cash flow over the same period has been roughly flat, owing to massive capital expenditures. In its latest 10-K, Johnson claims these capital expenditures are intended to increase capacity, but in the same 10-K, Johnson explains that it is just now wrapping up a 2008-2009 plan to increase efficiency by reducing capacity at many of its factories, a plan which cost the company $725 million in restructuring charges. These two plans are completely inconsistent, leading me to wonder what the heck is actually going on at the company.

We may lose and we may win
The move toward keeping cars longer has been a steady and long-term trend. Even if new car sales start to pick up, these new cars are likely to be kept for a decade or longer, ultimately requiring a great deal of maintenance and replacement parts to stay running. With a massive catalog of hard-to-find parts and a stable, more profitable business than its competitors, Dorman Products is in a great position to benefit. I think this is a $50 stock, which means there's about 25% more upside left. It's already in my CAPS portfolio, but I'm now flagging it as one of my top picks.

Add these companies to My Watchlist to follow along and see how the industry develops.

At the time thisarticle was published Fool contributorJacob Rocheholds no position in any of the companies mentioned. Check out his Motley Fool CAPSprofileor follow his articles usingTwitterorRSS. The Motley Fool owns shares of Ford Motor.Motley Fool newsletter serviceshave recommended buying shares of Ford Motor.Motley Fool newsletter serviceshave recommended creating a synthetic long position in Ford Motor. 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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