UK car dealerships: what’s the outlook for Inchcape, Lookers and others?

The UK car market has been buoyant in recent years and London hosts plenty of companies involved in the sector, all of which are chasing an independent strategy that presents investors with three very different opportunities. 

The car dealerships primarily deal in three areas; selling new cars, selling used cars and aftersales. Selling vehicles is the primary driver of revenue for the industry but aftersales demands such a higher margin that it contributes a substantial amount of profit.

The industry is currently dealing with the aftermath of the UK’s decision to leave the EU. The fall in sterling has impacted the cost of parts imported by manufacturers operating in the UK and Brexit, as well as the UK government’s poor handling of getting its message on diesel across to the public, has weakened domestic demand.

Read more: how could Brexit impact the UK automotive industry

This has led to new car sales falling from historic highs, and the industry focusing on competing in the used car and aftersales markets, which tend to benefit in the wake of heightened demand for new cars.

Read more: how have new and used car sales in the UK fared in early 2018?

Here is a rundown of the car dealerships that are listed in London and a breakdown of their recent performance.

Lookers: a pure UK play that likes acquisitions

‘We aim to grow the existing business through a combination of organic growth, seeking profitable opportunities to increase our revenue and presence, while actively pursuing an earnings-enhancing acquisitive strategy. Our track record of successful acquisitions makes this a significant differentiator for us, and we have generated an average return on investment (ROI) of over 15% on acquisitions made in recent years,’ – Lookers 2017 annual report. 

Lookers has 150 dealerships in the UK, with another five in Ireland, selling new and used cars and vans, as well as providing aftersales care. The company has shuffled its portfolio over the past two years, offloading a string of businesses including its parts division, while purchasing new dealerships focused around brands like BMW, MINI and Mercedes-Benz. 

Lookers is now putting all its efforts into expanding its motor retail operation and snapping up more businesses. It plans to continue investing in its dealerships to refresh the portfolio over the next few years. 

New car sales represent about one-third of the company’s gross profit and despite a more challenging environment, Lookers is managing to grow its market share in the new car market. This has been partly driven by its investment into the fleet sector to tap into the ‘major profit opportunity’. Lookers expects to continue to grow its slice of the cake by outperforming the wider sector, claiming its strongest brands ‘tend to outperform the market’. 

Used car sales generate about 26% of gross profit and volumes have been on the rise over the past five years. Lookers is keen on pushing used car sales through its website, which saw lead generation jump 34% in 2017 having been revamped a couple of years ago.

Lookers makes 41% of its gross profit from aftersales and, despite retail margins coming under pressure, the aftersales margin has proved more resilient. Lookers expects this market to continue growing, but at a slower rate over the coming years, and is using technology to upgrade the business.

How did Lookers perform in its last financial year?

Lookers outshone its peer, Pendragon, in 2017 after revenue grew over three times as much over the course of 2017, up 15% to £4.7 billion. In addition, its margin performance was also better than Pendragon, after contracting to 10.7% from 11%.

Revenue grew across the board, rising for new and used car sales, as well as aftersales. That is quite a positive picture amid the industry backdrop at present. Pre-tax profit, however, suffered heavily after losing profit from the sold-off parts division, dropping 36.4% to £58.4 million. Ignoring exceptional charges and one-off sums, profit still was up 5%.

The dividend was up 7% in 2017 to 3.89p and the policy has remained progressive since being reinstated in 2010. This is set to continue so long as profit continues to grow, and is supported by relatively low debt levels when compared to earnings and cash flow.

Pendragon: software is at the heart of its plans

‘The group has a clear focus and direction to transform the business and double used revenue by 2021.  This will be enabled by our market leading software business to provide the online and technology platform, and by investment in increasing the used retail and aftersales representation points in the UK,’ – Pendragon Chief Executive Trevor Finn, 2017 annual report. 

Pendragon owns 118 Evans Halshaw franchises in the UK, focused on the highest selling brands in terms of volume, and a further 70 Stratstone outlets selling premium vehicles. There are also aftersales and leasing divisions.  

It has a fairly substantial arm operating in Southern Carolina in the US which currently accounts for nearly 9% of group revenue and almost 10% of gross profit. However, this is up for sale. Not because it isn’t profitable, but because Pendragon sees an opportunity to cash-in – the business booked a pre-tax profit of £9.2 million in 2017 (down from £11.1 million the prior year), from £414.8 million of revenue weighted to new car sales. 

Pendragon has expectations of making a pre-tax profit of over £100 million from selling-off the US arm. 

The future, Pendragon says, is in software. The company’s Pinewood unit is pushing its dealer management system in the UK but is seeing accelerating growth in international markets in the likes of Africa and Asia. Pendragon has Pinewood ‘at the heart of our strategic plan’, and for good reason – it demands a gross margin of over 85% and it expects double-digit revenue growth over the foreseeable future. In 2017, Pinewood’s revenue rose 9.7% to £15.8 million with gross profit outpacing revenue by rising 12.2% to £13.8 million. 

Still, Pendragon remains committed to its UK retail operations and aims to double used vehicle revenue over the five years to 2021, with plans to invest in capacity to grow its used vehicle and aftersales business, while reducing the number of premium brand franchises over the coming three years.

How did Pendragon perform in its last financial year? 

Pendragon’s financial year coincides with the calendar year, and in 2017 the company grew revenue 4.5% to £4.74 billion. This was down to a surge in used vehicle sales helping to offset declines in both new vehicle sales, as well as aftersales. Pendragon’s gross margin tightened to 11.7% from 12.3% and overall profitability of its UK operations declined heavily last year, making a pre-tax profit of £48.8 million, compared to £66.9 million in 2016.

Total pre-tax profit in 2017 fell 10.5% to £65.3 million and on an underlying basis dropped 19.9%.

Pendragon’s progressive dividend policy is set to continue after raising the pay-out 6.9% last year to 1.55p and, with debt now lower than targeted, it intends to flex its share buyback programme as and when needed.

Vertu Motors: painting a bleaker outlook for the industry

The company was set up in 2006 and has 110 locations spread over England and Scotland, with further aftersales outlets. Its main dealership brand is Bristol Street Motors, which is one of the largest individual brands in the UK. The firm expanded into Scotland in 2010 trading under the Macklin Motors brand. 

Vertu Motors generates revenue fairly evenly from its operations, with used vehicles representing 38%, new cars representing 31%, new fleet and commercial vehicles accounting for 23% and aftersales contributing the final 8%. In terms of gross profitability, over 40% comes from aftersales, 31% from used vehicles, 22% from new retail vehicles and just 6.8% from new fleet and commercial sales. 

Releasing its interim results late last year, Vertu told shareholders it was confident that ‘opportunities to expand the business will arise in the next 18 months’ to help support more attractive valuations, adding that its strong financial position means it can take advantage in the event of any sector downturn, as it has done previously.

How did Vertu Motors perform in its last financial year?

Vertu Motors has only recently reached the end of its financial year (to the end of February) and results are not due until May, when shareholders will be looking for guidance following a warning issued earlier this year.

In the first half to the end of August, Vertu reported flat revenue of £1.45 billion with a small dip in its gross margin to 11% from 11.1%. Having been boosted by a £4.2 million sale from its property portfolio, pre-tax profit soared 29.4% to £24.2 million, but was still up 7.2% on an underlying basis. Further property is to be sold off in the near future.

Its like-for-like performance was strong, with a 4.4% rise from aftersales and 1.1% from used car sales to mark its twelfth successive six-month period of growth. However, the division is facing margin pressure in some areas, particularly premium brands.

Vertu raised its pay-out to shareholders by 10% to 0.55p in the first half and continued its share buyback programme, purchasing stock for 42.8 pence each. The buyback continued in the second half and a dividend rise is on the cards, supported by its net cash position.

However, in January Vertu provided a softened blow to shareholders by announcing an extension to its share buyback while simultaneously warning market conditions were toughening and that its profit would miss expectations due to declining new car sales, which it blamed on the drop in sterling and weaker consumer demand.

In the four months to the end of December 2017, new retail vehicle sales dropped 15.7% compared to the 9.5% industry-wide fall reported by the Society of Motor Manufacturers and Traders (SMMT), while used retail vehicle sales fell 5%. Sales of new fleet and commercial vehicles, however, did grow in the period as did aftersales revenue.

Cambria Automobiles: buying premium brands and property

Cambria Automobiles has over 40 franchises in the UK and has been in operation for over a decade. It was originally set up as a turnaround specialist, buying underperforming businesses and getting them back on their feet, before adapting a new strategy in 2013 of acquiring premium and high luxury businesses, which would immediately boost earnings.

It has made a series of acquisitions over the last three years to accelerate growth which have been described by its chairman to be ‘shrewd investments’. Mergers and acquisitions (M&A) will continue after it refinanced the business and secured a £40 million revolving facility last November, which it will use to snap up businesses or property. It already has a number of new sites coming online after opening new Bentley dealerships earlier this year using freehold sites it already owned. 

In the last financial year, Cambria made 48% of its revenue from selling new vehicles, 43% from used vehicles and 11% from aftersales. In line with its larger peers, the aftersales division provides the margin for the business, at 38.9%, compared to margins for new vehicles of just 6.9%, and used cars of 8.5%. 

The company has more cash than debt despite ongoing investment, and partly thanks to its determination to self-fund M&A as much as possible, with debt more weighted to buying property than businesses.

How did Cambria Automobiles perform in its last financial year?

Cambria’s financial year runs to the end of August, the most recent coming to a close in 2017. The company was the only one that managed to maintain its margin last year.

Revenue was up 4.9% to £644.3 million with a stable margin of 11.3%. The performance was even more impressive as Cambria managed to grow its margin on a like-for-like basis, proving its M&A strategy is proving effective.

Pre-tax profit fell 4.2% to £11.3 million. However, it was down because it sold Jaguar dealerships in Exeter and Croydon the year before, making just shy of £2 million, which did not reoccur. On an underlying basis, ignoring those types of sums, Cambria delivered 6.6% annual growth in pre-tax profit to £11.3 million.

The dividend was lifted over 11% to 1p and the progressive policy kept in place, but not at the cost of maintaining growth.

In March, the firm provided an update stating its performance in the first five months of the financial year was behind the year before on a reported and like-for-like basis, but in line with expectations. Echoing Vertu, the business said new car sales dropped 16.5%, while used car sales dropped 6.8%, although the latter remained broadly flat on a like-for-like basis.

Caffyns: the smallest player with a lot to offer 

Caffyns is over 150 years old but is still the smallest player with just 12 locations spread across Sussex and Kent - but the firm is still delivering growth, profit and a dividend. In fact, both revenue and underlying profit have risen annually over the past five years.

Moving forward, Caffyns plans to leverage its low gearing levels to hone in on the thriving used car division by expanding the unit and buying additional freehold premises, while seeking opportunities for organic growth.

How did Caffyns perform in the last financial year?

Caffyns has a financial year running to the end of March. Annual results to March 2018 have not yet been released but the company’s first-half performance to the end of September was solid after both used and new car sales outperformed the wider market. Growth in like-for-like volumes of used cars being sold has now grown 30% in the past three years.

Interim revenue was up 1.3% to £106.5 million with new car revenue remaining flat while reporting higher income from used cars and aftersales. Its gross margin of 11.6% was an improvement from the prior year of 11.5%. Pre-tax profit, however, plunged 21.5% to £682,000 following higher operating costs.

The interim dividend was left unchanged at 7.5p and the pay-out is weighted to the second half. In the last year to March 2017, the dividend was lifted 3.4% to 22.5p.

Inchcape: an international operation focused on distribution, not retail

Inchcape offers investors an alternative to the other dealerships that are focused on the UK. 

The company operates in 29 global markets around the world. The business model differs to the others in that it is much more focused on the distribution market rather than the retail business selling cars to the public. This involves working with the manufacturers and selling their models to dealers like Lookers and Pendragon, and then overseeing the logistics of importing them and other things, such as parts. 

While the retail division generates the majority of sales for Inchcape, the distribution division makes over three times as much profit for the business. Global distribution sales rose 16.5% last year to £4.2 billion, while trading profit growth accelerated 17.5% to £346.3 million. Meanwhile, the global retail arm saw profit plunge 14.2% to £83.2 million, despite managing a 3.8% lift in sales to £4.75 billion.  

Profit is sourced fairly evenly across four different regions, with Asia accounting for 36%, Australasia 23%, emerging markets 21%, and the UK and Europe at 20%. In terms of sales, the UK still accounts for a good chunk of the business by generating about one-third of total revenue. Inchcape’s UK arm generates more than double the amount of sales than the rest of Europe combined. 

However, profit-wise – Inchcape now generates 805 of its profits from fast-growing emerging markets and the Asia-Pacific region. This is expected to grow organically and bolstered through strategic M&A. 

Distribution is providing the margins, profit and growth that Inchcape needs. Profit from dealing in retail vehicles dropped 6.5% last year, while growing over 27% in distribution. Aftersales is growing at almost twice the pace in distribution as it is in retail. Aftersales is the fastest growing segment for the company in terms of profit and is a material part of the business. Inchcape makes over 37% of gross profit from the division.

For the UK, Inchcape is looking to expand its used vehicle operations and make them more profitable while growing the aftersales arm. For Inchcape as whole, the company is aiming to leverage its scale to improve markets it is struggling in, while introducing efficiencies to help profitability, having made significant acquisitions in South America and Asia in 2016.

Inchcape shareholders have enjoyed consistent growth in returns in the past five years. Dividends have increased annually over the past seven years and will rise again in 2018, and share buybacks have been launched and increased every year since 2013, with at least £100 million due to be returned this year. This is because it is in a net cash position, despite more debt being heaped on the pile following acquisitions over the past two years.

How did Inchcape perform in its last financial year?

Inchcape’s financial year runs to the end of December and in 2017 the firm delivered 14.2% growth in revenue to £8.9 billion and a gross margin of 14%, up from 13.8% the year before. Pre-tax profit soared over 38% to £369.9 million, following overall better profitability and fewer exceptional charges.

The distribution division reported a 17.5% jump in trading profit to help offset the 11.5% drop in retail profits. Overall gross profit from vehicles rose 15.7%, while aftersales profit climbed 16.6% to £466.9 million.

The dividend for the year was lifted 12.6% to 26.8p and the firm announced a new share buyback programme.