AutoNation Inc. (AN, Financial) is the largest automotive dealer in the United States, with new vehicle sales accounting for close to 60% of its $21 billion in revenue. It operates more than 250 dealerships in 16 states, primarily in metropolitan areas throughout the Sun Belt region of the U.S.
CEO depature
The current CEO, Mike Jackson, will step down next year but stay on as executive chairman. Investors have made good money with AutoNation under Jackson. Since the 2008 real estate crisis, the company has more than doubled its sales and net income. It has also reduced the total number of shares from 177 million to 98.2 million. The stock has followed suit, rising from $6 to more than $60 a share earlier this year. Now with the stock off 27% from that yearly high in January, investors have another opportunity to buy at a discounted price.
Parts and service drive profit
New cars may be a big revenue driver, but parts and service at 16% of revenue constituted 44% of gross profit in 2017. This significant contribution to profitability is less volatile than new and used vehicle sales and will continue to reduce the typically cyclical risk in the industry. Large dealers like AutoNation seem to be enjoying a competitive advantage for repair work because most auto manufacturers require warranty service work to be done at a dealership. The company has launched its own line of private-label parts and accessories, from batteries to wipers, and it has opened a host of new service and collision centers nationwide.
Startup pressure
While many investors have foolishly hopped onto the Carvana (CVNA, Financial) bandwagon because the company figured out how to sell cars online, it still struggles to turn those sales into profit. Additionally, traditional dealers like AutoNation can, at any moment, copy Carvana's model of ship-to-your-door, seven-day returns or stacked showrooms and get even leaner. Over time, that will likely happen anyway as it only seems natural to make reductions to the salesforce with better processes and technology to pass on those reductions, giving customers better prices.
Better terms
Payment terms are also being extended, with some as long as 84 months. As interest rates rise, more buyers may opt for this term to be able to continue buying the cars they want. We're at the top of a bull market, so I don't expect car sales to move much higher in the short term; in the long run, however, people will still drive automobiles, many will still want to own one and AutoNation will still sell them.
Bottom line
The company is priced at just 20% of sales, 9.5 times earnings and could earn over $7 per share by 2021. That is a 15% yield on its current price. It's already on track to hit $5 next year, and the new CEO will certainly have something to prove. This may not be a growth story, but at 15 times earnings on $7, investors could see a $90 price in less than five years.
Disclosure: I am not long or short any stocks mentioned in this article.
