The Ultimate Auto Dealership Valuation Guide
The acquisition of car dealership market is quickly growing in the last 3 years after a dealership and market regression from 2008-2010. If you are in the market to buy a new car dealership, used car dealership or selling one of the biggest factors you are focused on is valuation. The good news is dealership values continue to rise as dealership strength moves upward coupled with a lack of supply.
Dealerships Continue to Provide a Strong Return on Capital
According to Presidio, dealership acquisition provides a superior return to many other investment options. They calculate a roughly 11%-22% yearly return, not factoring in potential appreciation.
Factors Affecting Dealership Valuation
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. Next in line are Toyota and Honda.
Dealership groups that represent multiple franchises often trade at a premium because larger volume operations attract larger buyers who enjoy a lower cost of capital. In addition, a buyer can have a strong management team operate several dealerships, not just one.
Dealership size impacts the risk rate. A small store with limited potential may suffer a lower valuation. Conversely, a small store with potential could generate a premium valuation. Hypothetical buyers may pay a premium if they believe they can rapidly increase profits. The preowned market is about 2.5X the size of the new car market, so there will always be opportunities for franchised dealers to grow market share in the preowned segment.
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.
A location along a highway with a high traffic count in front of the store is more valuable, as is one in close proximity to other franchised dealers and to major retailers. Also, a location is considered more valuable, per acre, if the parcel of land is large enough to house all departments in a single building, plus a significant amount of storage space for new and used vehicle inventory.
Distance between similar franchise dealers is highly important because, as the distance between dealerships shrinks, the level of competition may increase and profitability may decline. If a dealership is within a dealer row representing many different brands, that row may become a destination location for car buyers and increase customer traffic in the dealerships.
Remember, there are a lot of car dealerships in the country, and they can be benchmarked and compared to each other. The valuation multiples appraisers use will vary depending upon how successful a car dealership is and its potential for future growth. If two car dealerships that represent the same franchise operate within 20 miles of each other, the dealership that generates twice as much profit isn’t necessarily worth twice as much. If the appraiser is valuing the business for an acquisition, the underperforming dealership may have more upside potential. People buy assets based on what they think they can earn versus what the person who currently owns it earns.
It is important to own the land the dealership is on; it provides the ultimate flexibility if a relocation, renovation, or even sale of the property or underlying business is necessary. Investing in improvements on properties the dealer does not own does not make economic sense. Over the long term, properties have proven to increase in value. Next to inventory, real estate is often an auto dealership’s largest asset, and it can have a fairly significant effect on a dealership valuation.
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.
Investments in expanding service, to make car repairs more convenient may generate the largest ROI. Manufacturers often want their franchisees to have a consistent look and can be very specific about a facility’s appearance. Upgrades to the showroom and customer waiting areas may not have a high ROI, particularly if the current facilities are clean and modern and the only changes are to make the dealership’s look more consistent with the manufacturer’s request. In contrast, expanding the space for available inventory, adding service capacity, and investing in customer improvements in the service department could provide an ROI, if the current facility’s capacity is constrained.
A dealership that meets all manufacturer requirements is more valuable because there is less un-certainty as to the purchase price and the ability to generate profits. If buyers have to commit to a capital improvement project, they have to purchase the dealership with an estimate of how much that would cost.