Challenges in the Buy/Sell Market Today – Kerrigan Advisors Market Update

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Ryan Kerrigan, Managing Director of Kerrigan Advisors joins CBT News to share insights on tBlue Sky Reporthe automotive dealership buy and sell market, the health of the overall industry, some good news on incentives, and the challenges buyers are facing today.

VIDEO TRANSCRIPTION

Joe Gumm: Ryan Kerrigan is the director of Kerrigan Advisors, and joins us now to update our viewers on the buy/sell report, the Kerrigan Advisers Market Update. Ryan, thanks for joining us today.

Ryan Kerrigan: Thanks, Joe, good to be here.

Joe Gumm: All right. So Ryan, let’s talk about the Kerrigan Index. How did it perform in February?

Ryan Kerrigan: The Kerrigan Index was down significantly in January, down 13.6 percent. This is underperforming the S&P, which was down just 3.9 percent. Each of the seven component stocks was down, led by Lithia, which was down 16.9 percent for the month. So this gives back all the gains that we had in January, when the index was up 12 percent.

Joe Gumm: What was the key driver of the index’s negative performance?

Ryan Kerrigan: The key driver we think was a soft sales month, with February star coming in. The estimates ranged from 16.7 to 17.1 million units. So that rate is significantly lower than the January and December run rate.

Joe Gumm: Any good news to report on?

Ryan Kerrigan: Yeah, there absolutely was some good news. For over four years now, we’ve seen incentives climb month after month after month, and for the first time since 2013, we actually saw average incentives were down 14 dollars per vehicle in February, according to JD Power. Now that’s not a big amount, and it was primarily tied to incentives for domestic trucks, but at least we finally broke that trend of incentives getting larger each and every month.

Ryan Kerrigan: We also had fourth quarter for the publics come out as well.

Joe Gumm: And how did those come out?

Ryan Kerrigan: Quite well. Revenue for each of the publics, with the exception of Asbury, was up year over year, and earnings for each of the publics, with the exception of Asbury, was also up. In fact, in the fourth quarter, Group One’s earnings increased 250 percent, and Penske was up almost 300 percent over the prior year.

Joe Gumm: Ryan, what is driving this great performance by the publics?

Ryan Kerrigan: It’s a great question. There are a couple things, but much of this great fourth quarter performance was driven by one-time gains associated with the new federal tax code for businesses.

Joe Gumm: So what was the direct impact of the new tax code to the publics?

Ryan Kerrigan: The aggregate one time gain for the group from tax reform was over 400 million dollars. So this is very significant additional cash that can be invested by these publics and used for additional acquisitions.

Joe Gumm: So how did the publics’ operations perform?

Ryan Kerrigan: Operations were very strong for the fourth quarter. Each of the public companies recorded very strong same-store sales, even against an industry that was off 1.8 percent in the fourth quarter. Same-store sales at Auto Nation were up 4.2 percent, Group One was up 4 percent, Sonic was up 4 percent. So overall the fourth quarter was a very good quarter for auto sales for the publics.

Joe Gumm: Okay, so what about F&I? We know the publics focus a lot of their attention to this, right?

Ryan Kerrigan: The F&I strategies are working really well for the publics right now. For some time, they as a group, in particular Auto Nation, have really focused on growing F&I penetration and F&I margin, and that’s really starting to show in the numbers for them now.

Joe Gumm: So the public auto retailers are performing well?

Ryan Kerrigan: Yeah, they certainly are. For the most part they had a very solid 2017. It’s worth noting that Lithia, which has been the most acquisitive in the last two years, grew their top line by 16 percent in 2017,

Joe Gumm: And what is the outlook for buy/sells in 2018?

Ryan Kerrigan: Well, we’ve never been busier. The trends that have been generating buy/sell activity in recent years are only accelerating from our vantage point. In a big fragmented market such as auto retail, there’s always gonna be transactions getting done. Even if the whole period is a generation or more, there are just so many auto dealerships, 17,000 in fact, that there’s always gonna be transactions. That said, we are seeing more and more dealers and their families seeing that our industry is in for big change, causing them to evaluate their strategic options.

Joe Gumm: What is attracting buyers, then, to this changing retail space?

Ryan Kerrigan: Well, buyers today are attracted to the efficiencies of operating ever larger dealership groups. They also have access to deep capital to invest in new technology, and bringing new approaches to the business of selling and servicing cars. Some buyers are attracted to the fact that there’s so much change occurring in this big industry. Interestingly, the reason that it’s triggering some to sell, that is big change, is the exact same reason that it’s attracting others to our industry.

Joe Gumm: All right. In past segments, you’ve mentioned international buyers coming into the U.S. market. Can you tell us any more specifics on that?

Ryan Kerrigan: No, no quite yet. We’re getting very close to announcing two transactions with new international entrants to U.S. auto retail, but these deals take some time, so I can’t announce them quite yet, but I promise I can say more the next time that we talk. But this is an important trend. Just this week we met with another very large non-U.S. automotive firm that is very seriously evaluating transactions in the United States. So as dealerships are considering a sale in the U.S., it’s great that we’ve been able to really expand the buyer pool to even include international buyers now.

Joe Gumm: So deals are getting done. Can anyone sell?

Ryan Kerrigan: Great question. Unfortunately, it’s not quite that easy. While the transaction market remains very healthy, there are some key issues that prevent deals from closing. And I’ll mention just two. First, many dealers posted record performance in 2014 and 2015. Now those margins are just gone. Today’s deals are being benchmarked off today’s performance, not 2015. Secondly, falling earnings can really complicate getting a deal done. When a buyer stepped up to an aggressive valuation, earnings that are down, even just a little bit, can really undermine getting a deal pushed past the finish line. So these are just two examples of current challenges that I mentioned in the marketplace today, but overall the picture remains really solid.

Joe Gumm: All right. Ryan Kerrigan, thank you so much for your insight. It’s always great to hear what’s happening in the buy/sell market.

Ryan Kerrigan: Of course, Joe.

Joe Gumm: Hey, when will the 2017 year-end Blue Sky Report be released?

Ryan Kerrigan: We’re releasing the Blue Sky Report in the coming weeks. It will cover transaction activity for the full year of 2017, dealership profitability, acquisition activity, real estate and tax reform. So please go to our website, kerriganadvisors.com, request the report, we’re more than happy to share it with you.

Joe Gumm: Great. I’m sure our dealers will take advantage of that. Will Kerrigan Advisors be at NADA this month?

Ryan Kerrigan: Yeah, we will be at NADA. We’re conducting a workshop entitled “The Future of the Dealership Business Model,” so again, please visit our website, and we’re more than happy to get you the details.

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