‘Riding High’: Evercore Suggests 2 Top Franchise Auto Dealer Stocks to Buy Now

Americans have a long-lasting love affair with cars, and it shows in the economy. The automotive industry accounts for approximately 3% of the nation’s GDP, and car sales are a huge business. In its mid-2023 report, the National Auto Dealers Association reported that 16,839 franchised dealers had sold 7.66 million light-duty vehicles (cars and light trucks) in 1H23. Total dealer sales in light-duty vehicles for the half-year came to $614 billion and that was supplemented by $73 billion worth of service and parts orders.

In addition to its footprint, the franchise auto dealer sector benefits from structural defenses against economic downturns. While auto dealers are generally synonymous with new car sales, their business is highly diversified. They engage in used car sales, finance, credit, insurance services, parts, and repairs. Typically, new car sales account for only 25% to 30% of a franchise dealer’s gross profits.

Keeping this background in mind, in a recent sector report, Evercore analyst and automotive expert Doug Dutton lays out reasons to be optimistic about the segment. “We are constructive on the entire Franchise Auto Dealer sector, and both securities, for different reasons,” said the analyst. “Our multi-year normalization thesis centers around Auto sales volumes (New/Used), upcoming ‘rate of change trough’ on Gross Profit per Unit, and capital allocation priorities while these growing businesses continue to expand their footprints and build scale across the US.”

Specifically, Dutton has tagged two auto dealer stocks for investors to buy now, and both have Buy ratings from the rest of the Street as well, according to the TipRanks data. Let’s take a closer look.

Lithia Motors (LAD)

First on the list is Lithia Motors, one of the largest automotive dealer groups in the US. The Oregon-based company has 290 dealerships in the US, plus another 14 in Canada and 40 more in the UK. The company’s US business boasts 58,425 new cars on the lots, along with 32,131 pre-owned vehicles and another 5,470 certified pre-owned cars; in Canada, the company has some 1,000 cars on the lots, and in the UK, approximately 3,000.

The company’s heavy exposure to used cars has been an advantage in recent years, despite volatility in the used car markets. Prices for pre-owned vehicles, while down from one-year ago, remain elevated compared to pre-pandemic levels; according to industry experts, prices for used cars are up by an average of 50% when compared to 2019.

For customers, Lithia offers a wide range of vehicle brands and nameplates. Buys can find venerable names from the Motor City – Ford, Dodge, Chevy – along with imports from Japan and Korea – Nissan and Kia – and even high-end luxury names like Maserati and Rolls Royce.

Lithia will announce its results for 4Q23, and the full year 2023, this coming February 14, but a look at the last results, from 3Q23, will give an idea where the firm currently stands. Revenue in the quarter came to $8.3 billion, an increase of 13% from the $7.3 billion reported in 3Q22 – and it beat the forecast by $130 million. The company’s adj. EPS was reported as $9.25, a figure that missed the forecast by 82 cents per share. Looking forward, the expectations for the upcoming 4Q report include revenue at $7.95 billion and earnings at $8.27 per share.

For Evercore’s Dutton, the story here revolves around Lithia’s solid position in the car sales niche, and its ability to continue its expansion. He writes of the company, “Lithia, like most dealers, is levered to US SAAR (seasonally adjusted annual rate), but also has an idiosyncratic ‘kicker’ in the form of its online platform leadership and aggressive mid-decade expansion goals… The level of belief in US consumer/SAAR strength and Lithia’s ability to execute and keep the M&A pipeline flowing will shape investor sentiment on the equity… LAD’s strong dealmaking ability where dealer testimonials point to a smooth & efficient changeover process allows it to engineer strong EPS growth, helping to reach goal of $50/share in ’25 and $2 of EPS per $1Bn in revenue by late-decade.”

These comments support Dutton’s Outperform (Buy) rating, and his $400 price target points toward a one-year upside potential of 35.5%. (To watch Dutton’s track record, click here)

Wall Street gives Lithia’s stock a Moderate Buy consensus rating, based on 7 recent analyst reviews that include 4 Buys to 3 Holds. The shares are priced at $294.85 and their $351.14 average price target implies an upside of 19% in the next 12 months. (See Lithia’s stock forecast)

AutoNation (AN)

The second Evercore pick we’ll look at is AutoNation, a company that – like Lithia above – is a perennial member of the ‘top 5’ in US automotive dealer networks. The company has a market cap just over $6 billion and boasts a network of some 300 dealer locations spread across 20 states. AutoNation was founded in 1996 and in 2011 became the first US dealer network to sell a total of 8 million vehicles. AutoNation has sold over 14 million vehicles since its founding.

AutoNation’s business is split into four main segments: new vehicles, used vehicles, after-sales, and customer financial services. The largest of these is new vehicles, which makes up approximately 46% of the company’s total business. Used vehicles make up just under 32% of AutoNation’s work, while the remainder is split between after-sales and financial services.

The company’s most recent financial statement, from 3Q23, showed beats on both the top-and bottom-line. Revenues hit $6.9 billion. This was up 3% from the prior-year period, and was $190 million over the estimates. The company reported a non-GAAP EPS of $5.54, down from the $6.31 in 3Q22, although it beat the forecast by 4 cents per share. AutoNation’s new vehicle revenue was up 11% in the quarter, and used vehicle revenue was up 10%.

AutoNation is expected to release its 4Q23 figures in the middle of the month, and the forecast calls for revenues of $6.69 billion supporting an EPS of $4.94. For comparison, the 4Q22 numbers came to $6.7 billion in revenue and $6.37 in adjusted EPS.

Analyst Dutton likes AutoNation for its combination of various factors. He writes of the stock, “AutoNation is operating as a more mature business with less inorganic growth and higher ROE/ROA, while continuing to return significant capital to shareholders (AN could buyback >75% of current stock with FCF through end of decade). The stock trades at a 1pt multiple discount to LAD for this reason (~6.5x vs ~7.5x P/E), and while solid earnings should continue with 5%+ organic EPS growth, we are constructive on AN for different reasons given the divergent growth profile (Rev only growing from $26Bn ’22 to $28Bn ’25 with EBIT down).”

Getting down to the brass tacks, Dutton gives these shares an Outperform rating, and a $185 price target that implies a 12-month share appreciation of nearly 32.5%.

Looking at the Street’s view of AutoNation, we find that the analysts have given the stock 6 recent reviews – with a 4 to 2 breakdown favoring Buy over Hold, for a Moderate Buy consensus rating. These shares are trading for $139.66, and their $181.50 average price target suggests an upside of 30% on the one-year horizon. (See AutoNation stock forecast)

To find good ideas for stocks trading at attractive valuations, visit TipRanks’ Best Stocks to Buy, a tool that unites all of TipRanks’ equity insights.

Disclaimer: The opinions expressed in this article are solely those of the featured analysts. The content is intended to be used for informational purposes only. It is very important to do your own analysis before making any investment.