Auto dealership

Auto dealership

Do you need to determine the value of an auto dealership?

In U.S. autos, still the largest retail sector but that pile is getting smaller. According to IBIS World, the number of auto dealerships is expected to contract by 19%, to 17,582, this year vs. 2008.

New and used car dealerships are a significant part of the automotive retail and services industry in around the world.

Valuations are by their definition a moving marker, they are fluid in nature and depend on a whole host of factors like location, franchise or used, facility, market, etc. In general, a European franchise like Mercedes-Benz or Audi is more highly valued than earnings from a big three domestic dealership Ford, GM or Chrysler. Why is this? European brands tend to earn a more stable revenue stream.

Franchise. The value of a dollar of earnings is dramatically affected by the franchise that is generating those earnings. For example, $1 of earnings generated by either Mercedes-Benz or BMW is more highly valued than $1 of earnings generated from a Big-Three domestic dealership. The dealerships that represent these two German luxury brands generate a higher return on tangible assets and enjoy a more stable earnings stream than their American competitors.

The strongest franchises tend to be the luxury imports, provided the market is large enough and wealthy enough to support a decent level of volume. Such as Toyota and Honda.

Employees. A strong management team can be the difference between profit and loss. generates pretax profit, as a percentage of sales, equal to 2% or less. According to NADA he average dealership generates net profit of 2.2% before taxes as a percentage of total sales. If a dealership does $20 million in sales, you can estimate that the profit is roughly $440,000.

Costs don’t have to veer off course too badly before losses start. Competition among dealerships is intense.

Location. The attractiveness of a specific location and the costs associated with that location are an important part of the equation. Areas with expanding populations and strong demographics support higher valuations, as do dealerships with highway locations.

People buy assets based on what they think they can earn versus what the person who currently owns it earns.

Quality of the facility. Acquisitions and sales of dealerships are subject to factory approval. Buyers look at their total investment. If somebody is selling a car dealership and the facility is in disrepair when they sell it, the factory can require the dealer or buyer to invest, upgrade, and/or expand the facility. The more the dealer is required to invest in the real estate, the less overall value the car dealership has from the seller’s point of view.

The barriers to entry are low, resulting in a competitive, fragmented, and saturated market. Any one can open a used car dealership. One of the biggest barriers is related to zoning requirements, if they exist. New car dealerships, on the other hand, are subject to franchise agreements that limit the number of dealers in a given area.

Valuation Methods

Firstly: The main valuation drivers:

  • Inventory:

It’s not cheap carrying hundreds of cars on a lot. In normal times, cars will sit in inventory for an average of 30 to 45 days; in the latest recession, many are lounging for 90 days or more.

  • Multiple Revenue Streams:

Margins on new car sales are slim. That’s why dealers need more services to sell per customer–such as repair work, financing, parts and so on.

  • Brand:

Who wants to buy from a bankrupt producer? With doubts about GM and Chrysler, other brands have an edge, especially high-quality manufacturers like Mercedes, Toyota and so on.

  • Real Estate:

How is the local economy faring? Such trends are reflected, sooner or later, in real estate values.

  • Government Support:

Will the Feds force manufacturers to sell greener cars? Will there be subsidies? Any uncertainty translates into a drag on valuations.

The valuation multiples commonly used for valuation of auto dealerships are these:

  • Enterprise value (EV) divided by revenues (net sales)
  • • EV to EBITDA

The product inventory may be factored out of the multiplication and added on top to come up with the enterprise value of the business.

Example: Valuation of an auto dealership business

To demonstrate the concept, let’s pick a typical new and pre-owned car dealer with the following financials:

  • Revenue: $13,000,000
  • EBITDA: $1,000,000
  • Inventory: $2,250,000

Next, we choose a set of reasonable valuation multiples to calculate the business value estimates:

Multiple Multiple value Business value
EV to net sales 0.13 $3,940,000
EV to EBITDA 2.45  
Average Business Value $4,700,000 $4,320,000

Another way to report these results is as a range of values, from low to high, i.e. $3,940,000 – $4,700,000. The expected business value then should fall somewhere in between.

Rules of Thumb When Valuing a Dealership

  • 0% to 10% of annual sales plus inventory.
  • 0 to six times SDE plus inventory.
  • 0 to five times EBIT.
  • 0 to four times EBITDA.
  • Depending on the franchise, makes three to six times EBITDA plus real estate and hard assets.
  • Total transaction value in the industry currently ranges from two to four times pretax earnings.
  • Hard assets at cost—new parts, FF&E—Book + 50% depreciation.
  • Goodwill = one to three times pretax earnings (recast). Parts = current returnable parts.
  • FF&E = book value + one-half depreciation.
  • New vehicles = net dealer cost.
  • Used cars = as agreed.

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