Auto retailing has held steady in recent years, with dealerships generating cash flow above expectations, despite an uneven overall economy. That’s kept mergers and acquisitions (M&A) activity high and strategic options plentiful for dealers.
“Two factors are currently influencing the automotive M&A market,” explains James (JT) Taylor, head of Automotive at Truist Securities. “First, many dealers are ready to sell, whether they have a desire to retire or see an opportunity to monetize their equity in the business. Second, technology—from electric vehicles (EV) to online buying—is driving the future of automotive retailing, forcing dealers to consider whether it makes more sense to expand the business or exit with maximum value.”
Now’s a great time to assess your business and explore the strategic options available today.
Increasingly competitive M&A market
Investors have recently been drawn to the lucrative auto retailing business due to its resiliency in the face of a fluctuating economy. Consistent cash flow, profitability, and return on equity (ROE) are just a few of the reasons to invest in dealerships.
Only 10% of the 18,000+ dealerships are operated by the 20 largest groups, which means that auto retailing is ripe for consolidation.Disclosure 1 M&A activity rose during the second half of 2020 as increased consumer demand led dealer acquirers, private equity (PE), family offices, and public dealer groups to seek deals.
“In the midst of all this interest, owners need to understand the market valuation of their dealerships and price them accordingly,” Taylor explains. “Truist Securities can help you find the most attractive partner for your business and expertly manage the M&A process through valuation, negotiation, due diligence, and closing.”
Determining the valuation of your dealership can be one of the most difficult aspects of the M&A process. Price too low, and you could leave money on the table. Price too high, and you might extend the sales process and risk missing your ideal transition window.
Valuation relies on many variables, including current market conditions, the value of real estate holdings, franchise blue-sky value, OEM relationships, and payback period. “Truist uniquely offers a free look at your market valuation,” adds Taylor. “We have skilled analysts and auto retail-experienced leaders with a history in the business who understand valuation models exceptionally well. We can provide a market value snapshot to help you make an educated decision on whether or not to sell.”
|Truist Blue Sky Index
(brand multiple of adjusted EBITDA)
Auto dealership buyer profiles are changing
As the value of dealerships continues to rise, strategic buyers—current owners of retail auto businesses—may seek outside capital to purchase additional franchises.
“We see more and more private equity, family office, and institutional investment capital in the automotive retail business, which has been a closed vertical to outside investors for decades,” explains Taylor. “As we move forward, we're going to see more and more of this type of capital infusion. Businesses will likely stay private, but capital will be coming in from outside the auto business.”
“Private equity investors have been looking at the automotive industry for some time but didn’t get involved until a few years ago,” Taylor explains. “We’ve seen growing interest on both sides of the transaction as valuations have continued to increase. We have more dealers willing to take on equity partners now because they want to expand but need a cash infusion to make it happen. We’ve had immense interest from PE firms looking to direct their assets toward auto dealer growth opportunities.”
Family offices with access to wealth from other businesses are diversifying their portfolios through long-term dealership investments. Taylor adds, “These entrepreneurial families culturally identify with car dealers. Many have scaled their businesses in a single sector, but now they want to diversify their wealth. They're very interested in automotive retail because of its attractive return on equity and low need for reinvestment.”
A successful sale/acquisition playbook
Above all else, a successful transaction is dependent on your leadership choices and acquisition strategy.
“Talent for dealership management is at a premium right now,” explains Taylor. “PE firms need managers with dealership experience to invest confidently. Acquirers that retain dealer ownership or executive management as equity partners perform far better than those involved in straight takeovers. Partnerships with existing owners or management solve two problems. One, a partnership provides assurance that profitable operations will continue in the short-term. Two, keeping on experienced management can help secure manufacturer approval.”
Taylor continues, “You need operating agreements between majority and minority owners, with built-in protections for owners that previously held the majority and now hold the minority. Truist Securities can help you negotiate advantageous operational agreements with your new partners.”
Today’s market can offer you countless options, especially if you want to diversify your assets and continue working. With the right partner, you can liquidate some of your company’s value without exiting the business completely and may even have a chance for a “second bite of the apple” when an investor sells off shares.
2. Align strategy, secure capital
Successful acquisition strategies often build on brand strength, operations scale, and geographic concentration. Whether you’re an acquirer or a seller, be sure to keep the fundamentals of consolidation in mind.
Brand drives value. Acquirers want franchises that will contribute the most to their portfolios. If you already possess premium badges, consider expanding into higher volume mainstream franchises or adding franchises that leverage your existing strengths in systems, training, and personnel.
Purchasers often seek new locations to supplement their existing territory. Your dealership may be the key to marketing, oversight, and operational scale for a specific market. If your dealership doesn’t quite fit that description, it could present an opportunity to move into a non-geographically contiguous market. Thirty-seven percent of acquirers are willing to pursue locations more than 200 miles outside of their current geography footprint.1
The auto dealer industry is capital intensive, which puts a premium on managing capital and structuring debt properly. “Dealers—both buyers and sellers—involved in M&A need access to a full range of lending options. That’s where we can help,” Taylor explains. “We can also finance the entire transaction. With the seller’s approval, we’ll bring in our lenders to help the buyer finance the deal.”
Due diligence grows
If an M&A opportunity emerges, you’ll want to make sure you get the highest value for your business. With more sophisticated buyers in the dealer market, you should expect a thorough examination of your financials, earnings, and market conditions before closing. Sellers often underestimate the extensive amount of legal effort and due diligence that goes into dealership transactions.
“Dealerships are bigger and more valuable now than they’ve ever been before. Buyers—and the lenders supporting them—are requiring more and more information before initiating transactions, as are the manufacturers who approve purchases,” explains Taylor. “Choosing a dedicated and experienced partner to handle all that paperwork—including data vaults, confidential information memorandums, assembly of due diligence data, financials, and operating agreements—is vital to a successful M&A process. We handle all this work on behalf of our clients.”
Look toward the next 10 years
Technology will play a major role for dealerships over the next decade. The desire for digital experiences and contactless transactions will drive customer-facing technology costs. Service demands will determine back-end costs as vehicles become more sophisticated and electrified. You’ll need to invest in new technology to stay competitive, particularly if you’re a single dealership or smaller dealer group.
“Everyone says it, but the ‘go big or go home’ philosophy will really drive future consolidation in the automotive dealership segment,” Taylor adds. “Economies of scale—along with cost sharing across multiple franchises and locations—will be the only way to operate efficiently. The cost per transaction of owning and employing technology is significantly less for a dealer group that has 15 stores than for a dealership with only 1 or 2 locations.”
Here are 3 technological advancements you should consider adopting:
1) Digital experience – Before the pandemic, 43% of auto consumers conducted some portion of the buying process online.1 Now, 2 out of every 3 shoppers say they’re likely to buy a vehicle online.2 Dealers who revamped operations and digitized their customer’s buying experience have been rewarded with strong sales results.
Don’t expect this online trend to stop any time soon. Younger, more internet-savvy consumers want access to easier digital purchasing options. Need proof? Look at how much online car retailers like Carvana, Vroom and Shift have grown recently. With the increased use of data analytics to predict customer behavior patterns, recommend inventory mix and levels, add service options, and locate parts efficiently, you’ll soon find that your auto retailer is really a technology business.
2) Fleet management – With more people working from home, demand for delivery vans, trucks, and specialty vehicles has increased significantly. Whether owned or leased, these vehicle fleets require strong management capabilities. Could fleet management present an opportunity for your dealership? Can your business help with logistics, storage, parking, or maintenance? Your parts and service departments might be able to service fleet vehicles during off-peak usage times. Don’t miss out on opportunities for an additional return on your investments in facilities and staff technical skills.
3) Electric vehicles (EV) – Edmunds predicts that EV sales will increase 30% in 2021, making up 2.5% of retail car sales in the U.S.3 Many OEMs have already announced plans to phase out internal combustion engines altogether. Electrified automobiles will require sizable investments in every dealership department—especially your parts and service division—to support highly computerized vehicles and EV technology. You’ll also need to mitigate loss of service revenue from a shift toward maintenance-free EVs, which will directly impact your absorption rates. Consider revamping your service lanes to provide the fast wheel alignments, brake repairs, and tire sales that all vehicles will need, and quick maintenance for the remaining vehicles with internal combustion engines to recoup some of the potential lost profitability.
Take advantage of a lucrative M&A market
With high M&A activity among dealerships and auto retailers shifting toward new technologies and skills, now is the time to reexamine your business plans. Do you need to expand to meet the demands of an ever-evolving auto industry? Should you sell now and get the most out of your business?
“If you’re a consolidator looking to buy additional franchises or simply wanting to buy into a business for equity, you’re going to need capital to make it happen,” Taylor explains. “If you choose to sell, you’ll need competent, experienced representation to make sure you maximize and protect assets secured after you sell. Truist Securities can provide both.”