I always wondered why manufacturers have car dealers. Why can’t they open up multiple stores all over the country and sell cars on their own? Or now with the advent of the Internet why can’t customers do online shopping and deliver cars at home like Amazon?
Then I came across this old African proverb – If you want to go quickly, go alone. If you want to go far, go together. Car manufacturers are smart.
They are pacing themselves. They planned for the next 100 years. They included smart, rich, and influential local businessmen to do their dirty work for them – taking care of their customers.
Let’s see what an auto dealership is worth…
There are over 18,000 new auto dealerships in America, with revenue over $400 billion, and one million employees. Despite popular belief, the auto dealership is what I call a ‘business card’ business. It looks sexy on your business card that you own a car dealership. Most auto showrooms are very cool with their fancy layout, free snack and coffee, and other glamorous activities to attract customers. But that is just on the surface.
In reality, it is a high volume low margin grind, with too many moving parts –
- manufacturer watching every move like a back seat driver and pushing to pick up more and more inventory;
- big fixed overhead and low margins per sale;
- change in consumer behavior, and ever-increasing demand for transparency shrinking already razor-thin margins;
- competitive pressures from not just other car dealerships but substitutes like car rentals and car-sharing companies;
- high exposure to the economic cycle, interest rates, and oil prices
There are THREE TRENDS RESHAPING this industry as we speak –
- Battle of the Generations – the majority of auto dealers are over 70 years in age, and their biggest customers are millennials. Owners are looking to exit or transition their businesses; while millennials are asking for cars with low cost of ownership.
- Demand for Transparency – with the openly available invoice information; online reviews; ever-changing consumer preference; customer satisfaction indices etc. It has become very difficult to attract and retain customers to one brand or type of vehicle.
- The Next Big Thing – Tesla; fuel cells; autonomous vehicles; ride sharing; solar cars etc. Consumers are seeking new and unconventional ways to show their support for technology that lowers their carbon footprint.
Rule of Thumb
An auto dealer is a combination of tangible assets and Blue Sky Value. Tangible assets include the cash in hand; inventory; equipment; facilities, improvements, and real estate. Blue Sky Value includes the goodwill of the business or the value of the overall going concern itself including the value of the franchise. The combination of these two asset classes comprises the value of the overall business.
- Tangible Asset Value = Cash + Inventory + Equipment + Facilities + Real Estate
- Blue Sky Value = Blue Sky Multiple x EBITDA
EBITDA is Earnings before Interest, Taxes, Depreciation, and Amortization. It is prudent to use an average of three years past.
Blue Sky Multiple is the standard multiple used in this business, varies between 2-9x.
The spread depends on four factors –
- Franchise – Luxury and European manufacturers like BMW, Lexus, and Mercedes are towards the high end of the scale, and Kia, Hyundai, Mitsubishi, and Volkswagen are towards the low end. Spread depends on quality, stability, product development, and long-term outlook of the manufacturer.
- Future Growth of Earnings – is the franchise and location in a neighborhood with high-income earners? Is it rural or urban? How many competitors are nearby? Are the dealership’s earnings projected to grow year over year?
- Location and Quality of Facilities – how big are the facilities? How old? Are they up to date with the new image/brand of the franchise? Is the rent at market? Is it in an upcoming or established neighborhood that demands cars parallel to their socio-economic status?
- The Economy – what are oil prices; are the interest rates low enough; are their tax incentives for new cars?
The new car auto dealership business breaks even in new car sales. That is not where the money is. Profits are in the dirty work. Parts, service, repair, used cars, financing. If the dealer has an established name locally, buyers will come in for the new cars and their wallets will stay for their after-sales needs.
The trick to this business is to create a customer who creates a customer.