In the wake of record-breaking auto sales of recent years, dealers are looking at the effect of boom times on dealership valuations and the implications for ownership strategy. While sales volumes remain strong, there has been a decline in new vehicle sales through July 2017, prompting many to question whether the industry has peaked or has room for more upside. Favorable economic conditions, such as low interest rates and gas prices, strong consumer confidence and rising employment, continue to drive sales. However, The Haig Report indicates that elevated inventory levels, increasing expenses and declining profit levels at some dealers are troubling indicators for the future.1
Effects on the buy-sell market
According to The Blue-Sky Report, A Kerrigan Quarterly Q2, 2017, average dealership blue sky value has dropped while real estate value has increased during the first half of 2017. While this trend keeps dealership values steady, it may indicate that blue sky values have peaked. Blue sky multiples, on the other hand, have remained very strong in the first half of the year.2 While the demand for luxury brands has cooled dramatically, driving down multiples for luxury franchises, the average domestic franchise multiples have increased with the shift in in the U.S. auto market towards trucks and Cross-Over Utility Vehicles (CUVs) . 3 As public companies have refocused on their core domestic automotive business, their dealership acquisition spending has increased by 91 percent in the first half of 2017 alone4, and as more and more sellers come to market (due to an aging dealer ownership base and a desire to cash-in before a perceived downturn), both The Haig Report and Kerrigan Advisors forecast an active buy/sell market through at least the 2nd half of the year.
Dennis Stough, Senior Vice President and Manager of Wholesale Dealer Services at SunTrust Bank, acknowledges that the market may have reached a plateau, but says, "Opportunities for sales transactions continue to exist, mostly because buyers can expect a Return on Investment (ROI) that is much higher than other investments available, particularly if the purchaser has 'patient capital, expecting to hold the investment for 10 years or longer." Mr. Stough continues, "We are working with family-owned groups on both sides of acquisition transactions helping to finance the deals because it gives the buyer more stability and more ability to stay long-term while helping the seller manage and invest their profits from the sale."
Time for transition
With the market riding high and a good number of dealerships awash in cash, it may be time to take stock of the future that you envision for yourself and your dealership. Questions to consider:
- Do you want to continue working as much as you are today?
- Are there other projects you prefer to be accomplishing right now?
- How much will the continuing combination of an ageing auto dealer base and falling values boost the potential for an increased supply of "for sale" dealerships and hurt your future sales opportunities?
- Should you continue to run the business, possibly in the hands of the next generation, acquiring additional franchises/locations that can further add to the dealership's bottom line?
Transition decisions are never easy. Considering opportunities and long-term needs and desires now will help you and your business be nimble as the market’s character develops over the coming years.
The decision to sell is hard, but the selection of a successor can be harder still. Senior generations may see the business as their legacy for children and grandchildren. They want their heirs to work in the business, just as they have. However, many families face the challenge of finding a path forward for the business when the adult children are not interested in working in the business, need more experience or do not appear to have the skill set to be successful owner/operators.
Choosing the best succession plan determines the health of the dealership going forward. Knowing your business will be run successfully removes a large weight from your shoulders while potentially securing a source of income for you, your family and your employees. Consider which of the following options are right for your dealership's future.
In an industry where privately-owned dealerships are largely comprised of family-owned and run businesses, family transitions may be common, but they are still hard for owners to initiate. Dealers may have a host of reasons for avoiding succession planning: fear of giving up control, evasion of discussions about their own mortality, perhaps even concerns about the cost of planning itself. Early and comprehensive planning all but guarantees your family will be able to keep the business and can save your business from costly litigation, unexpected taxes, contentious relationships or even a failed business. Families who are most successful in integrating the next generation into the business start early by communicating expectations while providing needed support, education and experience. Additionally, manufacturers like to understand who will be taking over the business and are more likely to approve a family transition with advance-planning.
Tax planning is a major consideration in a family transition. While any sale is complicated and has tax implications, new tax regulations recently proposed might reduce or eliminate certain market-based discounts, which could increase the transfer value of a family-owned business, such as a dealership.5 In any transaction, but particularly for family transitions, you should consult with your tax advisors before finalizing your plans.
When heirs say no
When there is no direct inheritance line or a dealer's heirs don't have any interest in taking over the business, selling to private or public groups becomes the answer to retirement planning.
Many privately-owned dealership groups are in the market to add additional franchises that can complement their own businesses. They have the experience, staff and organization in place to take over a business with relatively little disruption to existing operations, particularly when organizations with similar values and business practices are aligned. According to Kerrigan Advisors, private buyer purchases dominate the buy/sell market, accounting for 93 percent of all franchises purchased year-to-date.6 Additionally, private dealers, with their own strong track records, often find it easier to secure manufacturer approval for the sale, making the deal much easier to close.
As public groups turn their focus back towards U.S. core business purchases, they may become more active in the acquisition market than they have been in the past 12 to 18 months. While public companies will maintain high levels of spending on international dealerships, real estate and other alternative investments, there will be increased opportunities for dealer group acquisitions, as well as tuck-in acquisitions. From a seller’s perspective, you will need to decide if a tuck-in purchase that often subsumes your brand, culture and management team within those of the acquirer serves your needs and those of your employees.
With the robust ROI that automobile dealerships provide, financial buyers, such as Private Equity (PE) investors, are slowly moving into the dealer market. Even though PE investment firms typically like to make their money back quickly (under five years from investment to return), the lure of high returns - 17 to 24 percent ROI7 - has generated investor interest in creating dealership groups run by experienced automotive retail executives. The biggest challenges to these types of purchases lies in securing manufacturer’s approval of a purchase that increases the number of franchises owned by a single dealer group and finding the appropriate person to manage the day-to-day operations of these businesses.
The trend likely began to turn when Berkshire Hathaway purchased the Van Tuyl group, the largest privately-owned U.S. auto dealership group. Warren Buffett, Berkshire Hathaway's Chairman and Chief Executive Officer, is "drawn to businesses that have opportunities to expand through acquisitions," and said in an Automotive News article that he fully expects to buy "a lot more dealerships" in the future. More capital-investment groups and international investors have also begun to purchase stakes in U.S. dealerships, a growing trend identified by Kerrigan Advisors. Forty-seven dealerships have sold a minority or majority stake in their businesses in the first half of 2017. These numbers put 2017 on track to be a record year for this type of investment structure, with no end in sight.8 This scale of PE investment opens the possibility for new opportunities for tuck-in acquisitions and/or for other large PE firms to jump into the automotive business.
Become your own succession plan
Matching your longer-term plans with market conditions helps decide whether you will be a seller, a buyer or a holder in today’s market. If you see yourself working into the future, then the current environment may present a prime opportunity for you to become the acquirer, not the seller. Prices for average dealerships seem to be declining slightly, which could help you to make strategic purchases of dealer locations that will compliment your strong brand and prove a strong fit for your long-term plans. As the industry consolidates, fewer people will own more locations, and if you can find deals that align with your business goals and culture, investing your cash in the business could be a prudent decision.
Making the decision
The decision to sell or continue ownership of a business is complex. At this juncture in the automotive business, the stay or go decision is particularly enigmatic. Many factors such as dealership valuation, franchise multiples, manufacturer approval, not to mention legacy and succession considerations, come into play. Regardless of the final decision, preparing for eventual transition by putting personal finances in order, identifying what you will take from - and leave behind for - the business will help ensure the integrity of your dealership and your retirement funding.