The dealership seller’s market remains incredibly robust. Despite our industry’s slowing growth rate (1% increase in sales year over year in June 2014), dealership profits remain high and buyers are willing to pay big blue sky multiples on high profits. This is mostly due to the fact that buyers are anxious to deploy their capital and have remarkable access to financing (by way of example, most of Lithia’s DCH acquisition will be financed with debt).
Deal flow is often a buyer’s only limitation. Simply put, there are more buyers with capital then there are sellers looking for capital. This is a recipe for a once in a lifetime seller’s market, particularly for older dealers. Except for the period in the late 90s when the publics first launched, our industry has never seen such a strong seller’s market.
Historically, the dealership buy/sell market favored buyers, not sellers. Our industry’s structural barriers to entry (manufacturer approval combined with large capital requirements) limited the size of our buyer pool. You had to be a dealer to buy a dealership. Recently, a new set of buyers, private equity firms and family offices, have tried to enter the market, but have yet to make a significant impact and have not demonstrably augmented the number of buyers in the market.
The reality is that our dealer buyer pool is not growing, it’s ageing. Bryan DeBoer, CEO of Lithia, noted on the company’s recent analyst conference call discussing the DCH acquisition: “We believe the theme of an ageing dealer body with the need to extract capital from their life’s work is accelerating and is represented in this transaction [DCH] and the other seven acquisitions we have completed this year.” He goes on to say, “It is estimated that 3/4s of the dealerships in the United States are single stores owned by one family with the dealer principal between 65 and 75 years old. In short, the consolidation will likely continue.” Mr. DeBoer is not mincing words here – Lithia’s growth strategy is to capitalize on dealer demographics and the eventual buyer’s market it will create.
Like Mr. DeBoer, I’m starting to see an acceleration of sellers coming to market due to age. Some of our older clients want to make sure they capitalize on the benefits of today’s seller’s market while it lasts. Many of them realize that a seller’s market provides distinct benefits that are not available in a more “normal’” buy/sell market.
In my view, the most important benefit of a seller’s market is competition. When there are more buyers than sellers, it’s a competitive deal market and sellers can and should control the buy/sell process.
Below are the four key benefits to sellers of a competitive dealership sale process:
- Higher Prices: In a seller’s market, competition tends to drive up price. Like a competitive used car auction, transaction competition increases the market clearing price. In fact, in a seller’s market like today, buyers will reach even higher to win a deal when they know there is competition. Also, sellers can be assured that the price they received for their business was in fact the market clearing price because they know there was competition for the sale. Without competition, sellers are never quite sure if they maximized their business’ value when they sold.
- Time Efficient: In a competitive process, buyers know they must perform or they will lose the deal. As such, bidders tend to move more quickly, writing their letter intent within a few weeks and expediting the signing of the asset purchase agreement, shortly after signing the LOI. Buyers who are part of a competitive process know that if they do not perform, another buyer will step into their shoes, perhaps with a higher offer. This pressure keeps buyers on their toes and ensures that the sale process is efficient. I’m a big believer in the theory that “time kills deals”. Competition reduces the time it takes to sell a dealership and increases the odds of a successful sale. In my experience, without competition, buyers take their time and often drag out the process to their benefit.
- Greater Seller Control: This may be the most important benefit and the single biggest reason a seller should not simply engage in a one-on-one dialogue with a single buyer (in effect transferring all of their seller control to the buyer, even though it’s a seller’s market!). Transaction competition allows a seller to exert a great deal more control over the sale process. When the inevitable deal issues arise, the seller can continue to drive their key deal points because the buyer is aware there are other interested parties. Alternatively, when a seller works with only one buyer, as the deal progresses the buyer can exert more control and in some cases force the seller to agree to reduced deal terms. There is no prudent reason in today’s seller’s market to transfer a seller’s control position to a buyer. When a seller negotiates with just one party, the buyer knows he/she has a favorable position and tends to exert greater control of the sale process.
- Contingency: If a buyer is not performing, a seller can usually terminate a letter of intent or asset purchase agreement and revert to a back-up offer. If a competitive process was not run, no such back up offer exists. The seller would need to restart the sale process and likely expose the dealership to business disruption and value destruction. Also, when the chosen buyer knows the seller has a contingency buyer, he/she is much less likely to re-trade on price at closing. Competition is a good insurance policy to ensure your sale gets done at the agreed upon price.
In closing, dealership sellers are in a unique position to drive the sale process today. Sellers’ pricing power is driven by today’s competitive deal market. This market will not last forever. Until it ends, I recommend that sellers take advantage of it. Competition creates good buyer behavior and high prices.