We are removing VVV from our Best Ideas Long list. The stock has performed well, up about 30% since we added it on June 1st 2019. Our call then was that the company should separate the VIOC business from the rest of the company, as the growth profile and performance of that asset would mean a very high multiple in the public markets. Afterall, how many concepts can check all these boxes: growing stores and when it should be growing stores, still has significant unit growth runway, strong comp store sales growth, is sheltered from Amazon disruption, low cyclical risk, and franchising optionality. Executing that spin we thought there was upside to $26 plus. The stock is now near $23 and the problem is the activists that were circling in the high teens now appear to have moved on from the stock. No new activists would want to come in at this price with these business trends.
We have now seen improving trends for 4 quarters as the company started initiatives to fix Core NA problems in the months before its May analyst day last year. Quick Lubes accelerated at the same time. As we expected the actions and better core NA fundamentals have driven more positive sentiment about the business risk. But now compares will start getting harder, and we suspect that this quarter marks the peak in rate of change in revenue and EBITDA. Expect slowing top line and profit growth in coming quarters even if nothing ‘goes wrong’. That is generally not a multiple expander.
1Q20 saw some puts and takes.
-Quick Lubes growth slowed, though against a tougher comparison. Margin profile was weak though. The company cited labor deleverage that was apparently driven by a problem with a labor planning model that was over estimating labor hours needed (don’t like to see a management execution issue at VIOC). The company said the problem has been fixed and expects the deleverage to subside in 2Q. Though at the same time management continues to signal some margin pressure & deleverage from the rapidly growing store base.
-Core NA performance was great this Q, with 43% EBITDA growth. The growth was driven by volume increases in the retail channel, with strong margins. This is unlikely to be a longer term trend, and perhaps results were too good this Q. Management is even noting that it expects retail volumes to be down for the balance of the year.
-International also performed well, with volumes up 7%, the best growth in nearly 3 years. Though on the call management noted nearly 70% of volume growth was from its eastern European acquisition. EBITDA was up 10%.
-Lastly base oil prices were increased in January as the producers cite a tightening base oil market, despite recent large drops in crude oil prices. We suspect we’ll be hearing about base oil cuts before the fiscal year ends, but this is a margin headwind over the near term.
We think the risk/reward is no longer favoring the bull side for VVV given our outlook for slowing fundamentals. We’ll let this remain low on the long bench as we still think VIOC is one of the best growth stories in retail. VVV could find itself back on our best ideas long list if we get a price or execution catalyst that could reinvigorate the activist VIOC spin play. Or perhaps we revisit when Quick Lubes becomes ~2/3+ of company EBITDA, management starts reporting the numbers with more detail and clarity around VIOC as a standalone, and we can justify the entire entity getting an elevated multiple profile on what we think is a great tail growth business at VIOC.
For a replay of our original long call Black Book on VVV CLICK HERE
