By James Mitchell, Cushman & Wakefield
Manufacturers, especially those with luxury brands, have mandated that dealer facilities must be in strict compliance with their brand image standards. The penalties for non-compliance are onerous. For instance, if a store facility does not meet the factory’s image maintenance criteria the dealer loses the subsidy manufacturers provide for this purpose.
The cost of bringing a facility into compliance can be large. Consequently, it is increasingly difficult to get a deal done if the seller’s store is not in compliance with a manufacturer’s image program, or the costs and time to complete the image improvements are not well understood.
A seller can always choose to do nothing and let the buyer deal with the problem. This option should be avoided if possible. Because of the uncertainty as to how much an image upgrade will cost and how long it will take, a buyer will not agree on a price without a haircut to blue that provides a cushion more than sufficient to cover possible cost over-runs and delays. The result is that the price offered by a potential buyer is unlikely to be anywhere close to acceptable, unless the selling dealer is in distress.
Failure to be compliant with factory image requirements makes your dealership difficult to market. For example, we worked with a client that wanted to sell his Honda and Chevrolet dealerships. Despite the strength of the brands, no one wanted to buy them at a reasonable price because they were not image compliant and the cost to achieve compliance was not well supported.
To control this risk, dealers have two choices: (1) go through the process of figuring out precisely what the project is going to cost, get the necessary regulatory approvals, and have the proposed image plan “blessed” by the manufacturer so that a buyer has high confidence in the estimates of compliance cost and time or (2) make the necessary investments on their own.
Under Option #1, the seller does not make the investment, but does prepare and present to the buyer:
- Detailed architectural design, blueprints, construction documents
- Cost estimates
- Regulatory approvals, e.g., use permits
- Manufacturer design approval
The more uncertainty the seller removes, the more blue you preserve.
How does the cost of an image project affect blue? It is not a dollar for dollar reduction. Suppose, for example, a project is estimated to cost $10 million and the property – pre-upgrade – is valued at $40 million. Assume the capitalization rate for purposes of setting rent is 7% (see “How much rent do I charge my store to obtain the best valuation,” Automotive Buy Sell Report, July 10, 2019). Using the same cap rate for the cost of the project as for the whole property results in an additional annual rental expense of $700,000 ($10 million x 7%). This extra “rental expense” is the amount that should be deducted from the income used to calculate blue.
While Option #1 enables the seller to avoid the hassle and delay of an image investment, selling dealers will get the most for their money if they implement an image upgrade themselves prior to putting a store on the market (Option #2). Since there is no uncertainty as to project cost and time, the seller will be able to get full market value.
If you are thinking of selling your dealership, but need to bring your facility into compliance with factory brand image requirements, you should assume that it will take at least three years to go from deciding to make an image investment to project completion. Arranging financing, project design and planning, obtaining regulatory and factory approvals, construction, inspection, obtaining a certificate of occupancy, etc. always takes longer than expected. Also, to show the results of an image compliance upgrade, you should have at least twelve months of post-project operating experience. In sum, under Option #2 the seller maximizes control and value received.
Cushman & Wakefield Dealership Capital Services (DCS) specializes in buy/sell transactions, partner buyouts, equity solutions, debt restructuring and sale-leasebacks. James Mitchell has over 20 years of automotive industry experience. He can be reached at james.s.mitchell@cushwake.com or (202) 407-8120.
