Repair Your Portfolio With AutoZone Shares

AutoZone (NYSE: AZO) reported earnings Tuesday and Advance Auto Parts (NYSE: AAP) reported last month. Which auto parts retailer had the better quarter and should you invest in either?

To answer that, one of the first questions to consider is the growth rate of the auto parts industry. And the answer to that is that the auto parts industry is growing at about the same rate as the general economy -- rising at a 2.6% annual rate since 2006 to $41.9 billion in 2011 while generating a 7.2% profit margin on $3 billion in net income, according to IBISWorld.

That rate is expected to slow to 1.3% growth through 2016. Over the last couple of years, a drop in consumer disposable income due to the recession let more people to fix their own vehicles. But as the economy recovers, more people are expected to pay mechanics to fix their cars and the industry will be sustained by demand from commercial vehicle owners.

The two biggest players in the industry are AutoZone with 19.6% market share and Advance with 14.9%.

Prior to its earnings announcement Tuesday, analysts were expecting AutoZone to report rapid revenue and EPS growth. Specifically, revenues were expected to grow 5.5% to $1.89 billion and analysts expected EPS to rise 18% to $4.45 a share.

And Tuesday's report blew through those expectations. After all, AutoZone reported a 7.3% revenue increase to $1.92 billion and EPS that spiked 24% to $4.68. Underlying this performance was a 4.6% boost in same store sales and some new store openings -- 17 in the U.S. and two in Mexico.

This brought AutoZone's total store count to 4,832 -- including 4,551 stores in the U.S. and 281 stores in Mexico. Profit was also aided by lower distribution costs and a drop in so-called shrink expense -- e.g., employee stealing.

This is not the first quarter that AutoZone has been growing nicely. For example, in its fourth quarter, AutoZone net income rose 12.1%, in the third quarter it was up 12.1% again, and before that net income rose 20%, according to Narrative Science. Advance also did well but it's not growing as fast as AutoZone.

Specifically, in its third quarter report -- released November 9, Advance reported a 4% increase in sales of $1.46 billion (meeting expectations) on adjusted EPS of $1.41 a share -- a whopping 23 cents ahead of Thomson Reuters I/B/E/S forecasts. That growth was aided by "higher same-store sales and new store openings," according to Reuters.

So here's what the investment choice between AutoZone and Advance boils down to:

• AutoZone: fast growing, fat margins; slightly expensive stock. AutoZone's sales have risen 9.6% in the past 12 months to $8.1 billion while its net income rose 15% to $849 million -- yielding an industry-beating 10.5% net margin. Its PEG (where a PEG of 1.0 is considered fairly priced) of 1.18 is a bit pricey on a P/E of 17.4 and expected earnings growth of 14.7% to $25.87 in its fiscal year 2013.
• Advance: fast growing, fair margins; somewhat pricey stock. Advance's sales have increased 9.5% in the past 12 months to $6.1 billion, while net income has increased 28% to $375 million – yielding an industry-lagging 6.2% net margin. Its PEG of 1.14 is slightly over-valued on a P/E of 14.7 and expected earnings growth of 12.9% to $5.61 in 2012.

AutoZone is the winner in this auto parts faceoff. It's growing and has market-beating margins thanks to its ability to meet cost reduction targets. And given its track record of beating earnings growth targets, its stock should benefit from future upside surprises.