Who Really Sold You That New Car?
Jonathan is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
Cars have caught the American imagination for almost one hundred years, and the auto industry has come a long way from the time Henry Ford quipped that his customers could have the Model T in any color, as long as it was black. Yet in the eye of the buying public, the network of dealerships remains a patchwork quilt of mom-and-pop retailers, even though in many metropolitan areas this is far from the case anymore. Far below the radar of the typical consumer (but not able to evade the figurative radar detector of sharp-eyed Fools), billion-dollar publicly traded companies control hundreds of dealerships nationwide, representing domestic and foreign nameplates while often operating under folksy names that evoke images of small-town wheeler-dealers. Major owners of new car dealerships include AutoNation (NYSE: AN) and Penske Auto Group (NYSE: PAG), which are about five times larger in market capitalization than smaller players Asbury Automotive Group (NYSE: ABG), Sonic Automotive (NYSE: SAH), and Lithia Motors (NYSE: LAD).
These companies are very much alike, differing mainly in the geographic distribution of their franchises and the breakdown of their sales by manufacturer. AutoNation, as its name suggests, is all over the country, as is Sonic Automotive to a lesser extent. Georgia-based Asbury has no dealerships north of New Jersey or west of Texas, whereas Oregon-based Lithia has none east of Texas. Of this cohort, Penske is the only international dealer, with coast-to-coast exposure and operations in Germany, Spain, Italy, and the United Kingdom. Geographic differences aside, these five companies each represent about 25-30 makes, both domestic and imported, although Asbury does boast that 85% of its sales are imports.
Try as they may to compete in terms of the buying experience and post-purchase servicing, dealers representing the same manufacturer sell the same cars and perform the same repairs. Much like electronics retailers, they are defined by their commodity products – and they don’t even benefit from consistent showroom branding, having kept the localized trade names of the dealers they acquired over the years. Worse, rather than disrupting the market as Apple did with its brilliant design and stylish stores, dealers have been slow to change and have little opportunity to stimulate demand and differentiate themselves.
In essence, dealers are similar to deregulated utilities or conventional supermarkets; their market is open to competition, but consumers increasingly view them as interchangeable and base shopping decisions on convenience and promotions. The few markets in which dealers have pricing power are states like Hawaii, Montana, and Alaska, where crossing state lines to obtain a better price is inconvenient and the supply of factory-trained technicians is limited. Of the publicly traded car dealers, Lithia has the most exposure in these markets, with seven of its 84 dealerships in Alaska (including one in Sarah Palin’s home of Wasilla) and eight in Montana. Even with its presence here, though, it is no Google or Apple; its stock price has gyrated for most of the 2000s.
Lithia is not the only publicly traded dealer that has enjoyed tremendous stock price appreciation this year. The other four have too, and, with the exception of AutoNation, are held in high esteem by Wall Street, treated as growth stocks and bright spots in retail. Year-on-year auto demand has picked up, increasing the five companies’ same-store sales by outsized percentages, such as last quarter’s 24.5% gain for Lithia, and it does appear that we are in the upward portion of the automotive demand cycle. But strength in their underlying business may not be the only factor sustaining the high valuation of car dealer stocks. Above-average short interest, which accounts for roughly 15% of the float (freely trading shares) for Lithia and 22% for Sonic Automotive, has the potential to create short squeezes, in which limited supply and high demand for shares compels short sellers to exit their positions amid price increases, driving prices higher.
The U.S. auto market has little room for organic growth. New entrants, such as Fiat, have replaced others, such as Pontiac and Mercury. Established manufacturers have awarded all the franchises they would like, and in the cases of domestic brands, more than they would like. Moreover, today’s cars last longer than their predecessors did, increasing the pressure on manufacturers to stimulate demand through technological innovation and design prowess (or, to use microeconomics parlance, increasing the elasticity of auto demand). In recent memory, dealers selling import makes have held the upper hand, but with a resurgent Ford, a re-energized Chrysler, and a lean, mean GM, the battle for automotive market share is far from won. To sell cars in the major metropolitan areas is to swim with the sharks. Keep this in mind when evaluating the car dealer stocks. And don’t count on even the best car dealerships in Montana to be Old Faithful for your portfolio.
whywalkrandomly has no positions in the stocks mentioned above. The Motley Fool owns shares of Asbury Automotive Group. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.
