Over the past six months, LKQ has been a great trade. While the S&P 500 was flat, the stock price has climbed by 10.3% to $41.49 per share. This performance may have investors wondering how to approach the situation.
Is there a buying opportunity in LKQ, or does it present a risk to your portfolio? Check out our in-depth research report to see what our analysts have to say, it’s free.
Why Do We Think LKQ Will Underperform?
We’re glad investors have benefited from the price increase, but we don't have much confidence in LKQ. Here are three reasons why you should be careful with LKQ and a stock we'd rather own.
1. Core Business Falling Behind as Demand Plateaus
Investors interested in Specialized Consumer Services companies should track organic revenue in addition to reported revenue. This metric gives visibility into LKQ’s core business because it excludes one-time events such as mergers, acquisitions, and divestitures along with foreign currency fluctuations - non-fundamental factors that can manipulate the income statement.
Over the last two years, LKQ failed to grow its organic revenue. This performance was underwhelming and implies it may need to improve its products, pricing, or go-to-market strategy. It also suggests LKQ might have to lean into acquisitions to accelerate growth, which isn’t ideal because M&A can be expensive and risky (integrations often disrupt focus).
2. Projected Revenue Growth Is Slim
Forecasted revenues by Wall Street analysts signal a company’s potential. Predictions may not always be accurate, but accelerating growth typically boosts valuation multiples and stock prices while slowing growth does the opposite.
Over the next 12 months, sell-side analysts expect LKQ’s revenue to rise by 2%, a deceleration versus its 5% annualized growth for the past two years. This projection doesn't excite us and suggests its products and services will face some demand challenges.
3. New Investments Fail to Bear Fruit as ROIC Declines
A company’s ROIC, or return on invested capital, shows how much operating profit it makes compared to the money it has raised (debt and equity).
We like to invest in businesses with high returns, but the trend in a company’s ROIC is what often surprises the market and moves the stock price. On average, LKQ’s ROIC decreased by 3.4 percentage points annually over the last few years. Paired with its already low returns, these declines suggest its profitable growth opportunities are few and far between.
Final Judgment
We cheer for all companies serving everyday consumers, but in the case of LKQ, we’ll be cheering from the sidelines. With its shares outperforming the market lately, the stock trades at 11.6× forward P/E (or $41.49 per share). While this valuation is fair, the upside isn’t great compared to the potential downside. There are superior stocks to buy right now. Let us point you toward the most dominant software business in the world.