Commercial

Looking Over the Horizon

A Six-Year Plan for Dealer Services

Group of business people meeting at a car dealership
 

An Interview with Dennis Stough

With the steady growth in auto sales over the past seven years, dealership owners have enjoyed strong returns and increased franchise values. Continuing that success and protecting gains requires thoughtful vision and planning. Longer-term plans can build on short-term successes and give owners a roadmap for a dealership's future that combines business stability and personal wealth growth.

"At SunTrust, we have developed a Six-Year Plan framework for asking the right strategic questions that gets strong plans down on paper," says Dennis Stough, Senior Vice President in charge of Wholesale Dealer Services at SunTrust. "Great planning doesn't just project business results over the next couple of years, but encompasses owners' aspirations for the business and themselves. Since dealers are closely tied to manufacturers that project model changeovers and refreshes years in advance, dealers have a better chance than many businesses of being able to create useful long-term plans."

There are six essential components to a Six-Year Plan: Competitive Strategy, Growth Strategy, Divestiture Strategy, Capital/Leverage Restructuring Strategy, Ownership Planning, and Value Maximization. Each component of the Six-Year Plan is meant to bring business owners one step closer to making their financial vision a reality. Below, Mr. Stough outlines important industry trends for dealers to help solidify a Six-Year Plan that is both actionable and forward-thinking.

Competitive Strategy

Periodically weighing current market fluctuations against existing competitive strategy is healthy for any business and essential in the dealer marketplace. The planning process starts with taking the marketplace temperature and planning for various economic scenarios.

"The nature of the business and of manufacturer programs means that many product, marketing and service decisions are baked in already. Many strategic options are off the table for dealers," says Mr. Stough. Focusing on flexibility and reaction to changing economic conditions as a strategic element is a common theme. "Dealers regard reading and reacting to industry shifts as a vital skill. While most dealers are confident in their abilities and inherently optimistic, they are also aware that this is a very cyclical industry. They need to be ready to take quick action when the industry turns by adjusting staffing levels, marketing costs, sales teams, etc.," adds Mr. Stough. This is the ideal time for dealers to prepare scenarios for upcoming shifts in the economy and the automotive retailing industry as the current cycle is already beyond the average seven-year length of a growth cycle.

Growth Strategy

"The dealer business is going through lots of changes that open up opportunities. As car prices go up, customers don't have the purchase capital and need other financing options," notes Mr. Stough. "You see a lot of people driving cars around, and you say: 'My gosh, how many people can really afford Ferraris?' Well not very many, so they do a long-term lease." Consequently, financing and leasing have grown in importance and revenue for dealers to get more people into a new car.

A newer twist on leasing is a subscription service where a customer commits to a lease but has access to different cars as desired. Mr. Stough explains, "Customers call and say, 'Hey, it's date night. Deliver me a Corvette.' They will bring you a Corvette to date night, and then you call them and say, 'I'm going to the beach, bring a Jeep please' and they'll bring you it to your home, and they'll cover the insurance and everything."

"It's an interesting approach to deal with the evolving taste of millennials and younger generations," says Mr. Stough. "Look at how many times people currently use a ridesharing service like Uber or Lyft instead of their personal car. There is a lot of high-level thought about the millennials who some originally thought did not want to own cars. More recently, though, research shows they do want to own cars but are simply waiting longer due to the financial commitment that purchase entails."

The evolving approach to ownership means a different relationship between dealers and customers. Mr. Stough describes, "The latest dealer CRM systems — a source of investment for many dealers - are gearing up for dealers who want a closer relationship and more frequent contact from their customers. Dealers who can build those relationships with more frequent touches for regular service, accessories and parts, upgrades, or access to that special car will be in strong position with millennials and will open up new lines of revenue."

Acquisitions can be tricky due to the manufacturers' dealer ownership restrictions. Says Mr. Stough, "Opportunistic acquisitions are always important in this business. It's hard to put a timetable on your acquisition planning because you don't really know when somebody is going to be willing to sell. It takes a lot of patience since the targets you want might be limited, and you have to stick to your strategy — whether diversifying your brand portfolio, looking for scale or just hunting more opportunities."

The strategic underpinning is critical. Mr. Stough says, "We see more strategic purchases with people making decisions around their various strategies. One of our clients owns 85 percent of the market in two different cities. So instead of being scattered all over the country, they go to 13 stores in one month and 11 in the other. So that's a geographic concentration strategy which I think long-term will create value for them producing more profit for them now and a better price if or when they decide to sell."

Closing an acquisition involves negotiating the right purchase price and securing franchise rights transfer approval without incurring additional investment requirements from the manufacturer. Mr. Stough adds, "What has happened in the acquisition cycle is that manufacturers view a potential acquisition as an opportunity to make demands of the purchaser. To approve an acquisition, they often ask for significant improvements to the dealership facility.' As a purchaser, you need to take on the cost of construction investment over many years in addition to the purchase price of the dealership. So, we are seeing a number of acquisitions with building and construction requirements because the purchaser had to make commitments to the manufacturer to gain their approval of the sale."

Divestiture Strategy

Some multi-location dealerships have an opportunity to prune their portfolios.  Mr. Stough comments, "There is a flight to quality. If you buy Toyota, Honda or Mercedes stores, they will always be valuable. On the other hand, it is a more difficult task to make money consistently with KIA, Volkswagen (these days) and Mitsubishi, so people are buying a more predictable brand or franchise that way. Other things which enter the decision-making process are efficiency and geographic management. Dealers have been willing to sell or close some brands because they no longer fit their strategy. Even several of the publicly-traded car companies have divested dealerships in markets that they don't find to be most effective brands for their business model. Family dealerships are going through the same process deciding whether brands and locations fit their strategy and if not, deciding what to do with those franchises."

Capital/Leverage Restructuring Strategy

"We've seen numerous private equity companies looking to make investments in dealerships, but only a few deals have actually been closed," says Mr. Stough. "Except for some family offices with very long investment horizons, the private equity industry is still having trouble establishing a foothold, because you can't invest in a dealership and improve it enough to get the desired return after five or seven years, so it doesn't meet their investment and return timeline." An additional barrier to private equity group growth in dealership investment is the control that manufacturers retain over franchise ownership changes. Mr. Stough adds, "Private equity is expensive. Well-run dealerships present low risk, and with rates at historically low levels, most dealerships can often secure the capital they need at a much lower cost and without giving up an equity stake that a private equity group would require."

Manufacturers often make additional facility demands when sales are strong in the industry. In this current growth market, some dealers have been deferring renovations and property acquisitions in favor of paying off debt. Explains Mr. Stough, "Dealers are managing this by carefully considering the ramifications of putting off these building projects to a later date. Dealers are often being asked to put a lot of money into improvements which often takes the form of additional debt. SunTrust has made several construction loans lately, but most dealers are cautious about significant real estate investments in the event of a market downturn."

Adds Mr. Stough, "They are also careful about blue sky investments where they'll normally borrow a significant portion of the money required for the purchase. So, if a dealer has lots of debt from buying dealerships and the market turns down and interest rates go up, that could be a challenge to their ability to meet their debt service requirements. The better dealers are careful to avoid excess leverage and are mindful of the cyclical nature of this industry."

Ownership Plan

Regarding the timing of succession planning, Mr. Stough says "When you have a car dealer who has spent years building up his business, contributing a lot of sweat equity in the process — at some point the thought of selling may become more appealing. Many dream of enjoying retirement after selling. If you sell, will there be enough cash after taxes to live the life you want for you and your family? If not, where would you work? Where can you find a return like the one the dealership has provided you and your family? These are all questions that need to be addressed realistically."

Transitioning to family members brings its own challenges. Mr. Stough says, "This challenge becomes more difficult if not all family members are involved in the dealership, and there is not clear approach as to how they will split up the proceeds and the business. A lot of times they will leave the real estate to one party, and they will leave the ownership and the day-to-day operation of the dealership to another family member. This can become problematic when the cycle deteriorates to the point of creating cash flow issues at the dealership or they can't afford to make the payment on the real estate. So, there are a lot of things that need to be considered when you're taking off that asset. There is also the very difficult question concerning the capabilities or skill level of family members to continue to run the business. Making judgements about the skills and desires of family members is critical determinations that must be made correctly if you expect them to keep the dealership operating into the future."

Whether transferring to family or selling to a third party, early planning and expert advice is a must for the selling dealer. "Many dealerships have a very low tax basis. That sets up a situation with lots of cash needed to pay taxes for the selling owner or estate taxes for their heirs. Getting started on that question early and being ready to act on market or tax law change opportunities can really make a significant difference in the liquidity that is available after the sale."

Value Maximization

Focusing on growing business value can help a dealer at every stage of development, whether securing financing or considering a sale.  Mr. Stough notes, "There will always be 'hot cars' that can drive new car revenue for a while, but creating value really comes from creating efficiencies in dealership operations as well as focusing on driving back-end sales and profit levels." The market generally values everything based on income, and the drivers for automotive dealership are typically the back of store operations - parts, service, aftermarket products - along with used car margins. Dealers looking to increase value will focus on these functions, while keeping an eye on their day to day marketing strategies, client satisfaction, increasing upselling and improving sales team management performance.

Turn to bankers who know the automotive retailing industry. Call you SunTrust Relationship Manager today to see how SunTrust help your dealership’s long-term success

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