‘Explosive profitability' ignites buy-sells

Dealership buy-sell activity, building off a brisk pace that began in late 2020, ramped up in the second quarter and appears primed to reach new heights for the remainder of 2021 thanks to rising dealership profitability, improved access to capital and increased activity from the publicly traded auto retailers.

Haig Partners, a buy-sell firm in Fort Lauderdale, Fla., estimated in its second-quarter Haig Report that 120 dealerships sold during the quarter, nearly triple the 42 stores that changed hands during the comparable period in 2020 when deals slowed during the early months of the coronavirus pandemic. Other dealership advisers also report robust deal-making with many expecting the strength of the market to persist for the balance of 2021 — though headwinds exist further out.

"The number of dealerships being acquired right now has exploded since this time last year, kind of going back to 2019," said Alan Haig, president of Haig Partners. "The stores are more valuable, but there's more demand for them than ever. The value of the stores has gone up significantly."

Because dealerships are making a lot of money, buyers acquiring stores are getting a good return on their investment, Haig added.

"It's kind of a win-win," he said.

Kerrigan Advisors, a sell-side firm in Irvine, Calif., estimated in its second-quarter Blue Sky Report that dealership transactions soared 34 percent to 78. Transactions, as counted by Kerrigan Advisors, can be single- or multiple-store deals.

Erin Kerrigan, managing director at Kerrigan Advisors, said the third and fourth quarters could average 100 transactions each while 2021's total could be around 350 transactions, compared with a record 289 in 2020.

"What the explosive profitability has done is, it's widely expanded the buyer pool for dealerships because most dealers now have the capital to be quite acquisitive," Kerrigan told Automotive News. "In prior periods, the buyer pool for large transactions and sizable deals with multiple dealerships was relatively small. However, today, the buyer pool for most dealerships is quite large because every dealer out there has more capital than they've ever had at their fingertips, both from cash flow from operations as well as access to financing. That's a really important dynamic."

Michael Speigl, a longtime dealership executive who bought Dunning Subaru and Dunning Toyota in Ann Arbor, Mich., on Sept. 1 from Julie Dunning, said conditions are ripe for both buyers and sellers.

"There's no question it's a great market for sellers," Speigl said. "And I think that buyers are optimistic about the market. I'm 41 years old, and so I've got a lot of runway in front of me. There's no doubt at some point we'll hit a recession or will hit some sort of slowdown. For me, I'm going to live to see it on the other end."

Sellers are generally collecting more for their dealerships than ever, experts said.

According to the Kerrigan report, average blue sky value — the intangible value of a dealership, including goodwill — reached a record $9.1 million in the second quarter, passing the previous record of $8.5 million set in the first quarter and up 18 percent from the end of 2020 when it was $7.7 million.

Haig Partners estimated that the average blue sky value was $10.3 million in the second quarter, up from around $9 million in the first quarter and a jump of 61 percent from the second quarter of 2020.

"Dealers are enjoying the ride, and it's taking a premium to simply get them out of the driver's seat," said Jesse Stopnitzky, a partner at Performance Brokerage Services, an Irvine, Calif., buy-sell advisory firm.

Performance Brokerage Services is on pace to complete 75 dealership transactions this year, which would be a record year for the company, Stopnitzky said.

Increased buying activity by publicly traded dealership groups is helping to drive the market.

The public groups spent around $1.7 billion on U.S. dealership acquisitions in the second quarter, according to the Kerrigan report. The biggest such deal during the period came in April when Lithia Motors Inc. bought Michigan's Suburban Collection, a group of 34 stores and 56 franchises.

Lithia has remained on an acquisition tear since the Suburban deal. At the same time, Asbury Automotive Group Inc., Penske Automotive Group Inc., Group 1 Automotive Inc. and Sonic Automotive Inc. have all closed on their own deals. AutoNation Inc. struck a deal to acquire 11 stores in Georgia and South Carolina, but it has yet to close. And last week, Group 1 said it has agreed to acquire Prime Automotive Group in an $880 million purchase for 30 stores.

"Lithia's high level of acquisition activity has pushed the other publicly traded companies to try to grow as well," Haig said. "Part of what's driving higher blue sky values is just the demand from them."

As busy as the second quarter was, buy-sell experts expect an even busier end to the year.

"The desire to buy dealerships is extremely strong, and the competition to buy any dealership or dealership group is what really is creating the strong market," said Sheldon Sandler, CEO of Bel Air Partners, a buy-sell advisory firm in Hopewell, N.J.

Haig noted that while his firm represented owners selling 10 dealerships in the second quarter, he expects to represent owners selling 22 additional stores by year end, which would give his firm a total of 41 dealerships for all of 2021, an increase of 32 percent over 2020's total.

Nancy Phillips Associates, a dealership advisory firm in Exeter, N.H., that focuses on stores in New York and New England, usually has a dozen closings a year, said President Nancy Phillips. This year's count will at least be double, she said.

"It is very hectic in my office," Phillips said. "We've been, like many people, expecting things to pop and go downward, but they just don't seem to."

Some potential roadblocks could start to slow buy-sell activity beyond 2021. President Joe Biden's proposal to double the capital gains tax rate to nearly 40 percent would likely cool deal pace if it came to fruition, experts have said. House Democrats have proposed a more modest increase to a 25 percent rate.

And dealers face other disruptive forces: the acceleration of digital retailing and electrification. Those and other headwinds could cause deal risk in the future, according to a report released last week by The Presidio Group, a Denver- and Atlanta-based investment banking and advisory firm.

Presidio's Annual Market Profile report said the firm expects the "transaction environment to remain favorable for the remainder of 2021 and likely into 2022."

Right now a "perfect storm" exists, as low inventory levels combine with high margins to drive record earnings for dealerships, said George Karolis, president of The Presidio Group. And with lower carrying costs and vehicle inventory being turned so quickly, dealerships have lower selling expenses, he said.

"This is just driving these profits that have never really been seen before on a per-car basis," Karolis said. "This won't last. No one has a crystal ball exactly to pinpoint when it'll get back into balance. But manufacturers are in the business of making a lot of vehicles and selling a lot of vehicles to feed their machine. As the chip shortage and production issues get resolved, over time, margins will come back to more normal levels, used-vehicle pricing will come back to more normal levels and that won't have a positive impact on dealerships."

And today's low interest rates are more likely to increase than decrease, he added.

"That cost-of-capital profile impacts buying power," Karolis said. "That will put pressure on valuations in general, both from an earnings perspective and just kind of the ability to acquire."