Aftermarket Auto Parts Maker Rebounds From a Spin-Out
Tech stocks have tanked and blue chips have hit the skids, but shares in Pomona-based Keystone Automotive Industries Inc. have nearly tripled over the last year.
It’s a notable rise for Keystone, the nation’s largest distributor of so-called aftermarket vehicle collision parts, considering its industry has taken a wallop.
Following years of strong growth, the U.S. market for cheaper, knockoff versions of auto makers’ name-brand replacement parts got hammered in late 1999. That’s when an Illinois state Circuit Court judge ordered giant auto insurer State Farm Insurance to pay $1.2 billion in damages for directing repair shops to use allegedly inferior generics to fix policyholders’ vehicles.
Bloomington, Ill.-based State Farm immediately stopped specifying the use of aftermarket crash parts.
Other insurers retreated as well, fearful of attracting similar class-action suits. Keystone and other players in the generic parts business saw sales drop almost overnight.
“There was all this negative publicity” about the quality of aftermarket parts, said Charles Hogarty, president and chief executive of Keystone. “Talk about a nightmare.”
But Keystone has proved more resilient than some of the rusty fenders it replaces.
The company expanded its profitable niche repairing so-called original equipment manufacturer or “OEM” bumpers and wheels, helping to offset the initial drop in its aftermarket parts business. It also set out to repair the reputation of aftermarket crash parts by introducing its own line of branded products with a lifetime warranty to differentiate itself from competitors. The efforts are paying off as some insurers have returned to the fold, bolstering Keystone’s sales, not to mention its stock price, which closed up 18 cents to $13.30 on Tuesday on Nasdaq.
Some industry watchers warn the generic crash parts market still faces an uncertain future, after an Illinois appellate court earlier this year upheld the State Farm decision. Keystone recently experienced another setback, announcing the derailment of a long-awaited upgrade of its computer systems that will mean a fat write-off and a net loss of $2.4 million for the second quarter ended Sept. 30. The company will report its results Thursday.
But others say generic parts will continue to chip away at the auto makers’ 80% share of the $12-billion annual collision replacement parts market. With $352 million in sales last year and 26 acquisitions since it went public in 1996, Keystone now controls an estimated 25% of the market for aftermarket collision parts and has emerged as the dominant player in a fragmented industry.
“They’ve got some competitive advantages,” said stock analyst John Lawrence of Morgan Keegan & Co. “After a couple of tough years, they’ve finally got the wind blowing at their backs.”
Company Started as a Bumper Repair Shop
Founded in 1947 as Keystone Plating Service, the company credits the wind for transforming a small Ontario job shop into a pioneer in the automotive parts industry. Inland Empire windstorms were sandblasting the shiny chrome bumpers on post-war Fords and Chevys. Consumers and insurance companies sought to repair them rather than replace them. An industry was born.
Bumper recycling remained Keystone’s core business until the 1970s, when auto makers began phasing out chrome for plastic bumpers.
“We thought the end was near,” said the 59-year-old Hogarty, a 41-year employee who began his career at Keystone as a route salesman driving a truck.
But the company adapted, learning to repair plastic as well as chrome, and in the process changed the way it viewed its business. Hogarty said Keystone saw the need to diversify beyond bumpers. The chance came in the early 1980s, when Taiwanese manufacturers began challenging the auto makers’ dominance in collision replacement parts by producing lower-priced copies of OEM products.
After a visit to one of the overseas factories, Hogarty decided to test the U.S. appetite for knock-off collision parts by stocking a single product: a front fender for a Chevy C-10 pickup. Priced at $125, the part sold for less than half of the OEM version.
“As fast as we brought them in they flew out the door,” Hogarty said. “It hit me like a ton of bricks that this was a business.”
Today, Keystone supplies collision replacement parts, auto body paints, recycled bumpers and remanufactured wheels to about half of the nation’s 52,000 collision repair shops.
The company employs 2,700 workers, about 170 of them in California at the Pomona headquarters and facilities in Ontario, San Diego, Fresno and Stockton. The company boasts a distribution network of 113 service centers that spans 35 states as well as portions of Canada and Mexico.
Body shop owners are the customers. But insurers, who pay for an estimated 85% of all collision repairs, hold the purse strings. They have been among the biggest champions of aftermarket collision parts, which typically are 20% to 40% cheaper than auto maker brands. Some consumer groups have likewise advocated the growth of aftermarket parts to bring more competition to an industry where auto manufacturers still hold a near-monopoly.
However, issues of quality have dogged the industry. A 1999 Consumer Reports study found customers complained about knock-off parts twice as often as OEM parts. Repair shop owners for years have grumbled about lousy fit and reliability. Yet many acknowledge overall quality has improved markedly since the early days.
“Are they getting better? No question,” says Lou DiLisio, chairman of the Collision Industry Conference, which has conducted numerous tests comparing the quality of aftermarket parts with OEM parts. “Some of the technology I’ve seen [in overseas factories] surpasses anything I’ve seen in the U.S.”
Class-Action Insurance Suit Cuts Into Results
Still, the issue of whether aftermarket parts are the equal of OEM parts took center stage in the State Farm decision. In that class-action suit filed in 1997, plaintiffs claimed that State Farm breached its contract to restore their vehicles to “pre-loss condition” by directing repair shops to use cheaper generic parts instead of auto maker brands.
State Farm countered that the aftermarket parts it directed repair shops to use were just as good as their OEM counterparts, and it has asked the Illinois Supreme Court to review its case.
Still, experts say the decision of the nation’s largest auto insurer to stop specifying aftermarket parts back in late 1999 had a chilling effect on the entire industry.
“The case cast a long shadow,” said Larry Kibbee, director of claims for the Alliance of American Insurers, an insurance industry trade group. “A lot of insurers reevaluated their policy of specifying aftermarket parts” out of fear of potential liability.
Though Keystone wasn’t a major supplier to State Farm’s repair network, that domino effect depressed sales, which dropped 6% in fiscal 2001 from a high of $372 million in fiscal 2000. Net income plunged from $9.8 million to a loss of $477,000. The stock took a beating as well, sinking below $5 a share last year after beginning 1999 around $20.
But John Palumbo, Keystone chief financial officer, said the company chose to look at the State Farm decision as an opportunity rather than as the end of their industry. Company officials reasoned that insurers would gravitate back to aftermarket collision parts after taking steps to protect themselves from litigation.
Part of that effort has focused on ensuring the quality and consistency of aftermarket parts. Nationwide Insurance, for example, helped sponsor a new industry program called the Manufacturers’ Qualification and Validation Program (MQVP). Administered by Troy, Mich.-based Global Validators Inc., an independent, third-party monitoring firm, MQVP is an attempt to ensure that aftermarket crash parts are the equal of OEM parts.
Nationwide Insurance is now looking to deal only with aftermarket collision parts, manufacturers and distributors that meet the program’s standards, which are based on internationally recognized quality benchmarks known as ISO 9000 and QS 9000.
Other insurers are expected to follow Nationwide’s lead, putting pressure on manufacturers and distributors to raise their games.
Palumbo says that’s fine by Keystone, which is one of only eight U.S. distributors that has qualified for the program to date.
“The State Farm decision could be the best thing that ever happened to this industry,” Palumbo said. “There is a new focus on quality and that’s going to give us an advantage over competitors.”
To that end, Keystone last year rolled out its own private-label brand of aftermarket parts known as Platinum Plus. Palumbo says the company chose top-tier manufacturers to make the crash replacement parts, all of which carry a lifetime warranty and certification by either MQVP or the Certified Automotive Parts Assn., the industry’s first standard-setting body.
Keystone launched the line with a $200,000 advertising campaign in trade publications. The idea, Palumbo said, is to build Platinum Plus into a brand as recognized as FRAM oil filters, Monroe shocks or DieHard batteries--also aftermarket products, but ones which consumers have come to associate with high quality.
Keystone’s same-location sales are up about 7% so far this year. Hogarty attributes about half of that increase to demand for the new line.
Whether Platinum Plus becomes a household name remains to be seen. But some market watchers say Keystone’s efforts to emphasize quality and consistency signal the future of the aftermarket collision parts industry.
The insurance companies that drive the market “have found out that a low price isn’t necessarily the best price,” said Ron Ritchie, president of Global Validators. “There has been an awakening about the value of quality ... and finding suppliers who can deliver it.”
