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How Lou Young Sees Value

December 19, 2017

Lou Young is a colleague at Withum and a friend. Lou performs many business and auto dealership valuations and we frequently discuss some difficult situations. In my opinion, Lou is as good as it gets. However, at the end of the day, Lou understands value as being evidenced by unique assets (such as franchise value) and profits or cash flow.

Auto dealerships have unique value drivers. Many occupy real estate owned by the dealer or with a long term lease and they have a franchise that needs to adhere to the manufacturer’s standards including regular reporting. They have multifaceted businesses – they sell new and used cars retail and wholesale, perform repairs and sell parts. They need to borrow large amounts to finance the inventory they are required to maintain. They employ over a dozen types of skilled personnel. Advertising is a very large expense and often the manufacturer places conflicting ads. And margins are low making high volume a necessity.

There are various aspects to valuing a dealership. When the industry is in its “up cycle,” dealerships often sell at numbers that make the rates of return difficult to justify in a traditional income approach. Often, buyers pay a hefty price for a good franchise even though the dealer is underperforming or losing money. It’s difficult to explain that by using profits or cash flow. How would the dealership be valued? Historic cash flow may be out of the question, so other value drives need to be considered. Some of these are franchise and real estate value, value to a synergistic buyer or value to the manufacturer to reacquire the franchise. However, except for a synergistic buyer that has motives other than cash flow, traditional methods may fail to come up with values that the owners deem reasonable. This creates a problem.

The franchise is the most important driver of value for auto dealerships, followed by real estate and facilities. Luxury imports are still the most desirable auto franchise but they are losing steam to other imports and domestics. The value of an automobile dealership is dramatically affected by the franchise that is generating those earnings. But limited positive cash flow will drive down the value of the real estate and the franchise. An illustration of how earnings drive value with real estate are empty or abandoned buildings that did not generate sufficient cash flow

The fact that an auto dealership does not show any net earnings to capitalize to obtain a value does not mean there is no franchise value. The franchise should have some minimal value even if it isn’t generating cash flow. This minimum value is based on the history of the franchisor, the location and condition of the dealership, and the expected earnings under perceived conventional business circumstances. This “expected earnings” may include a discounted cash flow of future anticipated earnings or a percentage of net sales based on industry metrics. It is important to use discretion in applying these methods.

Lou does this for a living. He has metrics for his metrics; and actual sales data for the local area, nationwide and for every type of car and size of dealership; but at the end of the day, absent some very special circumstances such as described above, it is cash flow that will drive value.

Lou knows this seems illogical to some of his clients that ask him to value their business, but that is the reality. You are welcome to contact Lou for a free informal consultation about what you might expect a valuation to show. Contact Lou at lyoung@withum.com, and tell him “Ed sent me!”

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