Issue Date: Car Dealer Insider June 15, 2012, Posted On: 6/18/2012
How to maximize the value of your dealership or dealer group in very uncertain times It's a good time to talk about dealership valuations, specifically getting the right value for your dealership whether you are a buyer or a seller. Business and profits for auto retailers are improving, Ford, GM, and Chrysler have shrunk their dealer networks and returned to profitability, Toyota and Honda aren't what they once were although their fortunes have recovered somewhat from last year's earthquakes and floods, and there is a lot of money available for dealership acquisitions. What does it mean for you? Buyers will always think everything is too expensive. What other elements that can affect valuations are just beneath the surface?
There is not a lot of good information out there in the public domain. As private transactions, selling prices are generally not reported in the press and confidentiality agreements may even preclude dealers from talking about the terms of a sale. And the dealers who do talk about their deals among friends tend to, shall we say, exaggerate.
A recent DealersEdge webinar workshop featured Kevin Yeanopolos and Butch Williams, two professionals who specialize in advising dealer/owners on a variety of issues surrounding the sale or purchase of dealerships and covered this very topic.
Why worry about valuations?
James C. Bonbright has said: "For the purpose of monetary valuation, property has no value unless there is a prospect that it can be exploited by human beings." In other words, value is something intrinsically desirable.
Maximizing the value of a business revolves around increasing its intrinsic value.
As Butch Williams notes, while death and taxes may be the only things that are truly certain, it is equally certain that the ownership of every dealership will eventually change hands. If we can agree that you will not own your dealership forever, then we should also be able to agree that it is important for you as a dealership owner to consider the universe of ownership transfer possibilities, because sooner or later, you will be involved, whether you like it or not. Because your dealership will change hands, it is important for you to understand the key concepts of valuation and how value is determined for your store.
Ownership transfers can be categorized as either voluntary or involuntary. Voluntary Transfers occur in a variety of ways.
Consider the following:
Gift of stock within the family
Sale of stock to key employees
Implementation of an Employee Stock Ownership Plan
Sale of the entire enterprise under favorable circumstances
Pre-sale of stock through a Buy-Sell agreement
Involuntary transfers occur just as frequently and often under the most adverse circumstances
Death is the ultimate involuntary transfer
Divorce may result in retaining the business, but other assets are transferred on the basis of the value of the business
Sale of the business when the owner is required to sell due to financial or business conditions
Forced sale pursuant to the terms of the franchise agreement
In most of these cases, these transactions are among the most important of the dealership owner's business and personal life. An understanding of the value of your business is an important component in preparing yourself for any of these eventualities.
Key concepts of value
It may come as a surprise to many car dealers to learn that there is not one single value for their business or a portion of the business.
Numerous legal and contractual factors play important roles in defining value based upon the circumstances of the transfer of ownership. While there are significant nuances, in this white paper we want to combine the economics of valuation with the legal framework of a transfer (either voluntary or involuntary). Therefore, be certain that any valuation of your dealership address each of the following:
Every valuation has an "as of date" which simply means that it is the date around which the analysis is focused. The date may be set by legal requirements, such as death or divorce, by contract, such as by a Buy-Sell or franchise agreement, or it may be implicit, such as the closing date of a transaction.
The purpose of the valuation is important. The value determined for one purpose is not necessarily transferable to another. There is no such thing as a one size fits all approach to valuation.
Standard of value
The standard of value is an extremely important legal concept because it will help determine the rules of the game. There are many standards of value just as there are many types of ownership transfers. The standard of value will influence the selection of valuation methods and the level of value. The most familiar standard is fair market value, which is often used in tax matters. Other important standards are investment value (purchase and sale transactions), statutory fair value (corporate reorganizations), and intrinsic value (public securities analysis). Matching the standard of value to the valuation is crucial to obtaining a relevant determination of value.
Level (Premise) of value
When business owners think about the value of their business, they are almost always implicitly thinking about the value of the business in its entirety. The value of a single share, for example, is the value of the whole divided by the number of shares. In the world of valuation, this just may not be true. The determination of whether the valuation should be on a controlling interest or minority interest basis can be a complex question, yet it will be of great importance. A minority interest value might include discounts for lack of control and marketability. Therefore it is quite possible that a share of stock valued as a minority interest will be worth far less than a share valued as part of a control block.
What you're worth
What is your auto retailing business worth? You could pay a valuation firm thousands of dollars for a precise answer, or you could follow some rules of thumb and get pretty darn close for free. Like this.
Approaches to Value
The global recession and credit crunch have been devastating for the U.S. auto industry. Just a few years ago, automakers moved 15 million to 16 million new vehicles a year; now that number is around 13 million units. Result: major job losses in Detroit, government intervention and a massive rationalizing of the supply chain.
Auto dealers collectively pull in more than $400 billion in revenue--making autos still the largest retail sector in the U.S.--but that pile is getting smaller.
Plenty of dealers are looking to cash in their remaining chips. For wannabe instant entrepreneurs, now may be the time to pick up a decent dealership on the cheap. As more continue to fold, eliminating competition, that could mean a brighter future for the hardy survivors.
Indications of High Value
High sustainable cash flow
Room to grow
Anticipated industry growth
History and reputation
Low failure rate
Modern, well maintained facility
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. Also worth pondering: What other higher yielding enterprises can a dealership's real estate be used for? Finally, what is the age of the facility? Does it need it substantial sprucing up?
Government Support: Will the Feds force manufacturers to sell greener cars? Will there be subsidies? Any uncertainty translates into a drag on valuations. (On the positive side: The federally sponsored, $1 billion "cash for clunkers" program provided for a voucher, up to $4,500, for buyers who trade in their gas guzzlers--vehicles that get less than 18 miles to a gallon of gas--for a new, more full-efficient models.).
Indications of Low Value
Reliance on owner
Lack of diversity
Poor outlook for industry
Crunching the numbers
Here's a hypothetical example. After 60 years, the DYM dealership in Pasadena, Calif., has become a pillar of the community. The recession has hurt business, but not as bad as its competitors. (DYM sells Toyotas.)
The dealer also has stayed on the cutting-edge, with nifty customer-relationship management software and savvy online marketing campaigns. Better yet, DYM's nimble employees know how to cross-sell other products such as insurance, financing and accessories. Customer satisfaction ratings? Top tier.
Approaches to Value
While there are a variety of valuation techniques, typically dealership valuations involve all three approaches: the dealership's assets minus overall debt (also called "net tangible book value"), the "blue sky" value, equal to the dealer's pretax income times some multiple between one and six, depending on the health of the operation. Blue sky involves both the income of the dealership plus a factor based on the perceived market value of the franchise(s)
Here's the calculation based on figures from DMY's financials:
To find the net tangible book value of DYM Toyota, add the cash on hand ($3,604,000) to the inventory ($13,923,000). As for the fixed assets (like the building and the ground), those will probably have a lower value than stated on the balance sheet. Assume the discount comes to
Based on the principle of "substitution," i.e., that "the economic value of a thing tends to be determined by the costs of acquiring an equally desirable substitute."
Adjust all assets and liabilities to reflect value, including intangibles.
Value is assets less liabilities.
20%, implying a value of $11,466,000. All in, then, the net tangible book value is $3,793,000 (the sum of $3,604,000 in cash, $13,923,000 in inventory, $11,466,000 in fixed assets, minus debt of $25,200,000).
Based on economic principle of "efficient markets," i.e., that buyers and sellers will agree to transact at the "true value" of a thing.
Value is derived by comparing the business to similar businesses that have been sold.
Can use public companies, private companies, possibly rules of thumb.
Now for the blue sky value. The question: What multiple to use? This can get a bit subjective. DYM has shown at least some resilience in light of the recession--revenues were down only 15% last year. (Down 15% is the new "up.") Its 1.2% pretax margin is razor thin, but given the circumstances, the fact that it's positive at all is impressive. Credit that to running a tight ship: Payroll is just 8.5% of sales, very competitive within the industry. Given its relatively strong performance, DYM should fetch a strong blue sky multiple--say, five times its $556,920 pretax income, or $2,784,600.
Based on the economic principle of "expectation," i.e., that the value of a business is based on the value today of future expected economic benefits.
Value is the present value of future economic income or cash flow
The final analysis:
There you have it. Add the net tangible book value ($3,793,000) to the blue sky value ($2,784,600), and DYM is worth in the neighborhood of $6.6 million.
What could the owners do to raise the value?
As Kevin Yeanopolos noted, it's important for business owners to start planning their exit from the business at the time they enter the business. That keeps the focus on maximizing the dealership's value. But the advice comes a little late for most dealership owners so Kevin suggests that car dealers ask themselves a series of questions to get some sense of whether it is time to consider selling.
The main thing is to keep the main thing the main thing
What was the original vision?
Is the business living up to expectations?
Five years ago, what was greatest obstacle?
Five years from now, what will be the greatest obstacle?
How does your company measure success?
What business decisions keep you up at night?
Within those questions three goals are implicit:
Maximizing the store's value
Minimizing the tax impact of a sale
Optimizing the timing of the sale
Then consider this list of factors of consider when calculating the value of your dealership to a potential buyer:
Level of sales and profit margins - Is yours a dealership with smaller volume and higher margins? Or a dealership with higher volume where operations may allow for improvement and/or growth?
Financial strength - Does your dealership have undervalued assets? How much pre-acquisition leverage is acceptable?
Geographic location - Is your dealership in the only acceptable location? Can the dealership achieve economies of scale by moving?
Management strengths and weaknesses - Can the dealership survive without the current owner? Does the dealership have management depth?
Discretionary expenses - Does the dealership pay for non-essential business expenses? Are there potent hidden tax liabilities? Are there any underutilized employees? Are related party transactions at market rates? This is Kevin's polite way of asking whether the dealership is being charged for the dealer's â€toysâ€ or vacation expenses and whether there are family members on the payroll who actually do any work, or even come to the dealership for that matter.
Important Factors to Consider
Level of sales and profit margin
Management strengths and weaknesses
History and reputation
Maximizing high profit lines
Market strategy - Does the dealer know what your dealership's competitive advantage is? Can you develop a marketing benefit based on its competitive advantage?
History and reputation - Is the dealership heavily dependent on family members or a few key employees? Will it be difficult to persuade key employees to remain after the store is sold?
Liability issues - Are there identifiable contingent liabilities such as loan guarantees, leases, or recourse financing? Is the dealership facing regulatory changes in the near future?
Maximizing high profit lines - Finance and insurance and warranties.
Franchises, factories, and facilities
More questions to be answered:
What is the impact on your dealerships value for your various franchises?
Domestics v. Imports
The Newcomers - China, India
Same-franchise competitors in your marketplace
Is "more" better?
How is/are your relationship(s) with your OEM(s)?
OEM franchise strategy for your marketplace
OEM location strategy for your marketplace
Understand OEM expectations
Location and market demographics
"Blue Sky" components
Sell or Rent?
It goes without saying that the best time to sell a dealership conceptually is when your gross profits and sales are still growing and the most difficult time to sell a dealership is when you have a decline in revenue, gross profits and profits, and that trend is still happening. If a store has gone through a decline and stabilized and picked back up, that could be a good time to sell.
Butch and Kevin agreed that times are still tough for a large number of dealers, making this more of a buyers' market than a sellers' market, and many dealers just don't have the stomach to weather this kind of an automotive recession.
But there's still plenty to think about before deciding to sell. Kevin suggests that you take a close look at your dealership before you make up your mind. Keep in mind that blue sky values have changed, and consider whether you can make a deal on your own or if you need a broker (along with a lineup of specialists to back you up). And keep in mind the ever-changing variables that go into valuing your business.
If you think you can take a few top- and bottom-line numbers and use a calculator to come up with a simple estimate of what your dealership is worth, think again. There's as much art as science in making the right assessment of value.
"With a valuation, there are so many variables," said Kevin. "It's not as easy as pulling out a financial statement and applying a multiple. You really need to take a look at the operations. A financial statement can help sort out the status of expenses, used car trends, parts and services, sales, and so on. After that, you can build a better picture of the true value of a dealership."
So there's no perfect answer. But looking at profitability and potential is a start. Any potential buyer wants to see what that business is making and how quickly they can recover their investment. And there are so many other things that go into it: a good location, facilities, great employees that have been there for a long time, a good economy, and the dealer network.
As Butch pointed out, if you take any franchise over a five-year cycle, the value goes up and down. When you're evaluating it, you have to understand where they are in the cycle, and you also have to understand what their future is. Hidden assets can indicate where to make a return. Many of Butch's clients would rather buy a store that was doing average and build it up."
Blue skies or gray?
Blue sky these days may not be what it was five years ago, when dealerships were hot commodities. But the rumors of its demise have been greatly exaggerated.
But there's no single approach to determining blue sky values. There are different degrees based on different brands and different regions of the country. A Toyota store in Dallas is going to be worth more than a Chevy store in a mining town in Pennsylvania.
Ultimately blue sky depends on the size of the market and what kind of franchise it is. Sellers will want to maximize it, but today, location is playing a bigger role.
Create a team
What's the right time for bringing an attorney, an accountant and any necessary consultants in on a deal? "A good automobile attorney should be employed at the very beginning," says Butch Williams. Bring a CPA in for the due diligence process. A consultant will help make sure that working capital guides are set correctly. Manufacturers like to throw a lot at you. And the longer you sit on it, the less likely it is that the deal will close.
There's planning that really has to happen well in advance of selling the store. If you're looking at selling in the next couple of years, start a conversation with an attorney and an accountant. There are a lot of things that can be done to structure a deal, to make sure you're going to maximize value. Have your tax returns reviewed and make sure you're not taking out as many discretionary expenses. Make sure those profits stay in the dealerships. That can equate to hundreds of thousands of dollars in goodwill. Have the proper corporate structure. Make sure there are no environmental concerns. Know what your hard assets are worth. Appraise fixed assets.
And don't wait too long. The automobile retailing business requires a great deal of focus and attention. "When a dealer starts thinking of retiring or selling, he should follow through with that thought until he comes to a conclusion. As long as the thought is in the back recesses of his mind, his business will go down, down, down.
That's something that both Butch and Kevin could agree on.