By Stuart McCallum and Steve Schumacher, CPA, ASA
Stuart McCallum
Car sales have been on the rise in the years since the 2008-2009 recession. However, there’s a growing consensus that 2017 will break the trend. The National Automobile Dealers Association (NADA) predicted sales of 17.1 million new cars and trucks in 2017 following a record 17.55 million vehicles sold in 2016.
Mergers and acquisitions (M&A) activity often dries up at the peak of the business cycle. Coming off a period of strong revenues, businesses are likely to be overpriced relative to projected sales. Business owners may be aware of storm clouds on the horizon, but, still enjoying the radiance of the recent boom and feeling flush with cash, they may be unwilling to sell at a discount that reflects the coming downturn. Forward-looking buyers, on the other hand, have little appetite for paying a premium based on trailing revenues when they see a period of depressed sales ahead.
Stuart Schumacher
Nonetheless, opportunities to expand still exist for those who look carefully. Turnaround deals are particularly attractive in today’s market, as underperforming stores offer upside potential even in the context of a larger market slowdown. Owners should also be on the lookout for off-market deals or deals that are not listed with brokers, and opportunities to expand territory through the purchase of neighboring stores.
Why buy now?
- Turnaround Opportunities
As the industry surged in recent years, even some underperforming dealerships managed to turn a profit, thanks to strong revenues. Slowing sales will expose the weaknesses of less competent dealers, however, and these owners may be looking for a way out before a larger industry contraction drives a precipitous drop in revenues that ultimately squeezes the bottom line.
State franchise laws award exclusive territories to dealers and protect them from competition within what is often a significant geographic area. This kind of localized monopoly makes it relatively fast and easy for a dealer who is knowledgeable about area demographics and market conditions to turn a losing dealership into a winner in short order. A turnaround can be achieved through a combination of increasing sales throughput, deepening service penetration, and maintaining or increasing margins.
Historically, the most successful dealers during a downturn are those who can react quickly to control expense management. When revenues are strong, many dealers loosen the reins on expenses, and inefficiencies creep in. By revisiting vendor contracts, staffing and organizational structure, compensation, and more, a new owner can bring expenses back in line and drive bottom-line growth, even in the face of slowing sales.
- Acquiring Adjacent Dealers
As noted above, in most states, dealers are granted legal protection to hold a monopoly over sales of a designated manufacturer’s vehicles in their primary market area (PMA). For dealers currently in business, a neighboring dealership that comes up for sale offers a valuable opportunity to tighten their grip on the area. To the extent allowed under the franchise agreement, dealers should prioritize opportunities to acquire new locations in this way, regardless of the stage of the business cycle, especially since an opportunity to buy a neighboring dealership may not arise again for decades.
- Off-Market Transactions
When they are ready to sell, dealers often go to friends and close colleagues at nearby stores to assess interest. A dealer may be willing to part with his business at a discount in exchange for the comfort of selling his life’s work – and the well-being of his employees – to a fellow dealer who is a known quantity. Committed buyers should approach owners of target dealerships who may not think of selling until approached by a dealer they believe they know and can trust. These off-market deals are often a no-brainer for the right strategic buyer.
When Not to Buy
While we believe that dealers should remain open to the types of transactions outlined above, one area in which we recommend caution is the purchase of dealerships that are commanding very high multiples. At the peak of the business cycle, buyers should be leery of pursuing deals with double-digit blue-sky multiples due to the implied payback period of those deals. It may make sense in some of these situations to deploy capital elsewhere.
Despite the downturn ahead, opportunistic owners can find ways to execute transactions that generate reasonable returns. By remaining open to expansion, dealers can put themselves in a strong position to increase profits – and potentially even revenues – despite a larger slowdown.
Stuart McCallum is with Crowe Horwath LLP and can be reached at +1 630 706 2093 or stuart.mccallum@crowehorwath.com.
Steve Schumacher is a partner with Crowe Horwath LLP and can be reached at +1 630 586 5260 or steve.schumacher@crowehorwath.com.
Crowe Horwath is a global public accounting, technology, and consulting firm.
