Although the broader automotive market may not be all that appealing to many investors, one space that should be considered appealing is the automotive retail market. There are a number of companies in this space that are sizable in nature and that have demonstrated attractive growth over an extended period of time. Some of these companies are also trading at levels that should be considered fundamentally attractive. One such example is Sonic Automotive (SAH). Given the company’s track record and how cheap shares look today, it should be considered a great prospect for long-term, value-oriented investors to consider adding to their portfolios.
A growing play on automotive retail
Sonic Automotive has, over the past several years, positioned itself to be one of the largest automotive retailers in the US. Operationally, the company has two key segments for investors to be aware of. The first of these is the Franchised Dealerships segment. According to management, this particular unit of the company provides services, including the sale of both new and used cars and light trucks, the sale of replacement parts and performance of vehicle maintenance, the offering of warranties for repairs, as well as paint and collision repair services, plus other financing activities and distribution of aftermarket parts, to its guests. As of the end of the company’s 2021 fiscal year, this particular segment included 140 new vehicle franchises and 17 collision repair centers split between 17 states. The company also operated 110 stores within this segment. During the company’s 2021 fiscal year, this particular segment also accounted for 81.1% of the firm’s overall sales and over 100% of its segment profits.
The other segment that Sonic Automotive has is called EchoPark. Through this segment, the company sells used cars and light trucks. It also arranges financing and insurance products for those who buy vehicles from them. In all, Sonic Automotive operates 46 stores in this particular segment. Last year, the company generated just 18.9% of its revenue from this segment and generated a segment loss of about $72 million. Though in prior years, the company did make a few million dollars annually in profits off of this set of operations.
Over the past few years, financial performance for Sonic Automotive was quite robust. Revenue expanded from $9.87 billion in 2017 to $10.45 billion by 2019. Then, in 2020, sales dropped to $9.77 billion before surging to $12.40 billion in 2021. Gradual organic growth is certainly a contributor to this expansion. But this is not the only way the company grows. It also has engaged in various acquisitions over the years. In fact, in early December of 2021, the company completed its most recent acquisition. This was of RFJ Auto, a company that brought with it 33 automotive retail locations spread across seven states, as well as a portfolio of 16 different automotive brands. 22 of these locations were allocated to the Franchised Dealerships segment, with the remaining 11 being allocated to the EchoPark segment under the name Northwest Motorsport.
In order to acquire this company, Sonic Automotive spent $950.2 million, $222.4 million of which came from borrowings under its new and used vehicle floor plan credit facilities. It’s important to note that the timing of this particular transaction makes valuing Sonic Automotive a bit of a challenge. I say this because the deal was large enough that it will have a permanent impact on operations moving forward and because of the timing makes it difficult to understand what the financial picture for the business might look like moving forward. Fortunately, management did provide some guidance on this. Had this acquisition been completed at the very start of the 2020 fiscal year, sales for Sonic Automotive would have been $12.53 billion, with sales climbing in 2021 to $15.41 billion. The impact on profits for 2021 would have been favorable to the tune of $44.5 million.
Speaking of profits, it is worth noting that the picture for the business has been rather mixed over the years. However, cash flows have been generally more consistent. After seeing operating cash flow drop from $162.9 million in 2017 to $143.7 million in 2018, it began a steady climb, eventually hitting $306.3 million in 2021. Another metric that performed similarly was EBITDA, eventually climbing to $645.5 million by the end of last year. Since we don’t know the cash flow impact that the recent acquisition had on the enterprise, the best thing to do might be to assume that the difference in profits on a pro forma basis would be similar to the difference we would experience for operating cash flow and EBITDA. Doing so would give us operating cash flow in 2021 of $345.4 million and EBITDA of $727.8 million.
Taking this information, we can effectively price the business. On the price to operating cash flow basis, the company would be trading at a multiple of 6.2. This compares to the multiple of 7 we get if we rely on just the 2021 results as they stand without a full year for the acquisition. Meanwhile, the EV to EBITDA multiple of the company would be 6.7, down from the 7.5 we get if we rely on the official 2021 results. Even if we assume that business were to suffer and revert back to what we saw during the difficult year of 2020, shares of the firm still look cheap, with a price to operating cash flow multiple of 7.6 and an EV to EBITDA multiple of 13.1.
To put the pricing of the company into perspective, I did decide to compare it to five similar firms. On a price to operating cash flow basis, the multiples ranged from a low of 2.6 to a high of 14.2. Using our 2021 results, four of the five companies were cheaper than Sonic Automotive. Meanwhile, using the EV to EBITDA approach, the range was 5.4 to 14.5. In this case, three of the five companies were cheaper than our prospect.
|Company||Price / Operating Cash Flow||EV / EBITDA|
|Group 1 Automotive (GPI)||2.6||5.9|
|Asbury Automotive Group (ABG)||3.4||6.7|
|Lithia Motors (LAD)||5.3||7.9|
|O’Reilly Automotive (ORLY)||14.2||14.5|
Moving forward, it will be interesting to see how things go for Sonic Automotive. No doubt, the recent surge in inflation caused by supply chain issues and strong demand will eventually ease. And, given that shares look probably fairly valued relative to the competition, it is possible that other players in the space will perform better. Having said that, shares look cheap even if we revert back to weaker results from prior years. So for that reason alone, I can’t help but to be bullish on the company at this point in time.