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Asbury Automotive Group Analysis Introduction In a recent interview, investor Mohnish Pabrai explained why he thinks car dealerships are good investment opportunities at the moment. He's so confident in their potential that he allocated 25% of his new fund, launched in 2023, to car dealership stocks. They are good companies with decent fundamentals and are trading at seven times earnings, a stark contrast to the S&P 500's PE ratio over 25. Given the current market environment, where compelling stock ideas are rare, car dealerships could be good candidates. What is interesting is that a lot of superinvestors seem to like this industry. Famous investors such as Greg Alexander, David Abrams, Bill Nygren, Daniel Gladiš and Leon Cooperman have recently invested in car dealerships. What's driving their interest in these businesses? The car dealership industry includes companies like Autonation, Lithia Motors and Group 1 Automotive, but Pabrai highlighted that the best one in terms of capital allocation is Asbury Automotive Group. So let’s analyze this company and see if it’s a good opportunity at the moment. Asbury Automotive Group is one of the largest automotive retail and service companies in the United States. Its revenues and profits come from new car sales, used car sales, service and parts, and financing and insurance brokerage. Founded in 1995, it has expanded significantly through both organic growth and acquisitions. Over the past three decades, it has developed a diverse portfolio of 31 automotive brands and 158 dealership locations, serving customers in various regions throughout the US, with a focus in Texas and Florida. Fundamentals ABG has strong financial fundamentals with a focus on efficiency. Since 2002, the company has managed to ‘only’ triple its revenue, while net income has been multiplied by 33 in the same period thanks to an improvement in margins. Add to that a 2% CAGR buyback program, and you get Earnings Per Share (EPS) multiplied by 52 in 22 years. To better understand the numbers, since 2002: - Revenue has grown at a CAGR of 6.1%. - Net income has grown at a CAGR of 19.3%. - EPS have grown at a CAGR of 22.1%. Balance Sheet The balance sheet is highly leveraged, with $500M in liquidity and $3.2B of debt (excluding $1.8B in floor plan finance, which is non-recourse debt linked to inventory levels). However, Asbury can manage its debt easily due to its ability to generate at least $300M in annual cash flow. Moreover, they face no significant debt repayments until 2026, which gives them a lot of flexibility. Capital Allocation Asbury is great at capital allocation, and over the past decade, they have transformed their portfolio through strategic acquisitions and divestitures. Management has sold some unprofitable stores and purchased strategic dealerships to focus on luxury cars instead of import cars, which boosted margins and profitability. Since 2004, it has reduced its share count by roughly 37% (a 2.3% CAGR) significantly boosting EPS. This trend will likely continue as the company generates free cash flow. Valuation Right now, the stock is trading at seven times earnings. There is a clear discount compared to the overall market. The negative sentiment about car dealerships is mostly due to macro factors. The market thinks these companies are overearning (and will revert to the mean after very profitable years) and may have little value in an electric vehicle (EV) future. However, as markets can be irrational, these concerns could be overblown, presenting a good risk/reward opportunity for patient investors. Here's why: EV Transition Fears Overblown: While the EV transition poses challenges, well-managed consolidators like Asbury are well-positioned to capitalize on the opportunities it brings. Franchise laws incentivize manufacturers to extend dealership agreements, favoring dealerships investing in EV infrastructure. ABG's metro focus and operational efficiency position it well to capture higher EV sales volume. Also, there's a likelihood that the transition to an EV-dominated market may progress more gradually than predicted, allowing ABG to benefit from both ICE and EV vehicles. Dealers are not overearning that much: Despite recent high gross profits due to very little car inventory in Covid years, the imbalance between new car demand and supply is likely to persist, supporting stable new vehicle gross profits for dealers like Asbury. Wall Street analysts think there will be a reversion to the mean, but ABG’s management clearly disagrees with this view. They think that even after inventory normalizes, margins will not go back to pre-pandemic levels. The company is now focused on maintaining high margins and if management is right, it could be an excellent opportunity. ABG's valuation using our DCF model suggests that the company may be trading at a 67.7% discount and could deliver a CAGR of 10.9% going forward. $AN (AutoNation) $ABG (Asbury Automotive Group Inc) $LAD (Lithia Motors Inc) $PAG (Penske Automotive Group Inc) $SPX500

5 Mentioned

AutoNation

ABG

Asbury Automotive Group Inc

LAD

Lithia Motors Inc

PAG

Penske Automotive Group Inc

SPX500