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As a result of several factors, the values of public and private companies in the automotive aftermarket remain near record levels. Many of these factors are unique to the aftermarket but others are a result of the current conditions in the capital markets. We will discuss both, but first it is important to understand where the market is valuing public and private aftermarket businesses today.

Over the past three years, professional investors have flocked to the aftermarket. At BB&T Capital Markets, we maintain indexes of public companies in four distinct sub-sectors of the aftermarket (manufacturers, distributors, retailers/jobbers and professional installers). Each of these indexes has dramatically outperformed the S&P 500 over this period. Private companies have certainly benefited from the attention investors are giving public aftermarket companies. In the last twelve months, private automotive aftermarket companies have consistently been sold at prices in excess of six times their earnings before interest, taxes, depreciation and amortization ("EBITDA") and in certain cases, even nine to 10 times. It is important to realize that values approximating six times EBITDA for private companies are a marked improvement from conditions even 18 months ago.

Aftermarket trends attract investors

In the most basic terms, value is a factor of future earnings and the perceived risks associated with achieving those earnings. So why then are investors attracted to the aftermarket? For one, the aftermarket offers steady cash flows. Professionals from BB&T Capital Markets automotive aftermarket investment banking team have met with over 100 aftermarket companies this past year. With few exceptions, these companies are making money (despite what we deem as temporary softness the last two quarters). This means that what these companies have done over the long term is demonstrate to investors (of public and private companies) that their earnings are reliable. In other words, the aftermarket has proven itself.

However, the real value driver is the potential for earnings growth. Investors are betting on future earnings and higher expected future earnings drives higher value today. Investors have gained comfort with respect to future aftermarket earnings growth via several underlying aftermarket trends. Important examples include: (1) the spike in new car sales from 1999 to 2001, which are just now hitting their post-warranty life cycle; (2) the increasing share of SUVs and light trucks on the road, leading to more accessories and requiring higher repair and maintenance dollars; (3) increasing demand for accessories and performance products; and (4) the ongoing trend toward DIFM. It is important to note that the DIFM growth benefits all companies (including manufacturers, WDs, jobbers, traditional retailers with commercial operations and service providers) whose products are ultimately professionally installed. In addition to generating strong and stable organic growth, the DIFM market is fragmented, presenting companies with opportunities to grow earnings quickly through acquisition. Of course the flipside is that growing demand for acquisitions increases the prices investors pay.

Capital market environment drives value

In addition to the positive industry trends driving the value of aftermarket companies upward, the current capital markets environment plays a significant role in today's higher valuations, particularly for private companies. The reason for this is that private equity funds are competing mightily, and often outbidding, the obvious industry buyers of quality aftermarket companies.

What is a private equity fund? Private equity funds are professionally managed pools of capital raised from pension plans, endowments, trusts and the like. The mission of a private equity fund is to create a significant return for investors in the fund by acquiring private companies (either a control or minority position).

So what has changed in the capital markets that allowed private equity funds to outbid even industry buyers? Simply put, there is a lot of money chasing relatively few quality deals. From 1999 to 2001, private equity firms raised enormous amounts of capital from their limited partners and then the bubble burst, essentially putting a halt to investments for two years. This created tremendous pressure for private equity firms to invest in private companies rather than give money back to their limited partners at the end of the fund's life (about seven years). This pressure coupled with an increasingly favorable lending environment has reduced the rate of return that private equity investors require. Lower required rates of return are directly related to paying higher multiples of EBITDA.

What does this mean for owners/ executives?

No one should buy or sell a company merely because the market is right. However, owners and executives should view themselves as an "investor" in that company and should always be cognizant of the return on investment, just as one would with any other investment in their portfolio. If as an owner or executive, you have been giving some thought to selling your business (including facilitating a sale to the next generation), raising growth capital to expand or acquire a competitor or facilitating a management buyout, then the current market should be taken into consideration. Owners of private companies should also be aware that attractive options exist beyond an outright sale. The current market for private equity makes a partial sale more feasible than at any time in recent history. The idea in a partial sale is that the owners "take some of the chips off the table" and use someone else's capital to grow and expand the business over the next few years while retaining a chance at another "bite from the apple" when the balance of the company is ultimately sold.

Who is the aftermarket team?

Effective October 2004, the entire automotive aftermarket investment banking team (formerly with Advest Inc.) headed by Rex Green joined BB&T Capital Markets. Over the past few years, our team developed perhaps the leading investment banking practice devoted to the aftermarket. At BB&T Capital Markets, we are now able to combine the expertise we have as investment bankers to aftermarket companies with the power of a full suite of equity, debt and advisory (mergers, acquisitions and sale of company) products and services, under the flag of a nationally-ranked corporate bank.

BB&T Capital Markets is a division of Scott & Stringfellow, Inc.--a wholly-owned subsidiary of BB&T Corporation (NYSE: BBT) and is comprised of investment banking, equity research, institutional fixed income and equity sales and trading operations. BB&T Corporation is a fast growing, highly profitable, multi-bank holding company and a member of the S&P 500 and the 10th largest U.S.-based banking company based in the U.S. with over $97 billion in assets and a market capitalization of $23 billion.

At BB&T Capital Markets, our aftermarket team is committed to the entire length and breadth of the aftermarket, including manufacturers, WDs, jobbers, retailers, direct marketers and service providers. We raise equity (privately or through a public underwriting), advise on buying and selling companies and underwrite, syndicate or privately place debt. The aftermarket team can also introduce you to BB&T's broader bank resources, which include vendor trade finance, corporate lending and loan syndication, and insurance brokerage services. In addition, BB&T Capital Markets' equity research department is deep and experienced, with over 35 senior and associate analysts writing research on over 250 public companies. BB&T Capital Markets represents the best investment banking choice to aftermarket companies.

If you would like additional information on our services, would like to receive BB&T Capital Markets' automotive aftermarket research via e-mail or would simply like to discuss the capital markets as they relate to the aftermarket, please call Jonathan Carey at (800) 795-5635 or e-mail him at jcarey@bbandt.com.