The Business Of

Cars | AutoNation | What Do They Do?

Morning All!

Welcome back to The Business Of! I hope you all had a lovely Christmas and New Year. I’m eager to get stuck in and break down some more business models in 2024!

This week we start a new 3-week series and I’m super excited for it because there’s just so many interesting dynamics at play in this industry. It’s a sector we’ll all be familiar with and so I think it should make for interesting reading. We’re going to be diving into The Business Of Cars!

Over the next 3 weeks, we’re going to be looking at these 3 public companies;

• AutoNation - the third highest-valued car dealership company in the world.

• Tesla - the highest-valued car manufacturer in the world.

• Mister Car Wash - the highest-valued car wash company in the world!

Now, I know all of us reading this will be aware of Tesla… at least I hope so! But I doubt everyone will be quite as familiar with AutoNation. However, the car dealership industry is definitely one worth understanding. Not only because most of us will visit car dealerships over the course of our lives. But two pretty smart chaps - Warren Buffett and Bill Gates - are huge admirers of the business model!

In 2014, Warren Buffett bought one of the largest car dealership companies in the world. And his good pal, Bill Gates, is actually the largest shareholder of AutoNation - owning a whopping ~21% of the company’s shares! So without further ado, let’s set the scene today and figure out what car dealerships actually do!

Toyota Dealerships Are Like McDonald’s Restaurants!

Okay, so first off - let’s really break this down. What are car dealerships? Well, they’re basically retail stores like Tesco and Zara. But instead of buying food and clothes, individuals will go to dealerships to purchase cars! Usually we’ll see a dealership selling only one type of car brand, e.g. Ford. But occasionally we’ll see dealerships selling more than one brand.

In the image below we can see an example of a dealership (located in London) selling only Toyota vehicles.

Now, here’s a question - is that dealership in London owned by Toyota? Well, the answer is no! It’s owned by either an individual (like me and you) or a company (like AutoNation)! And that’s the first thing we need to understand about The Business Of Cars - Toyota, Ford, and pretty much all car manufacturers operate a franchise model for their dealerships!

What do I mean? Well, it’s a little bit like what we saw in The Business Of McDonald’s. ~95% of McDonald’s restaurants aren’t owned by McDonald’s. They’re owned by franchisees - individuals like me and you! And it’s the same with car brands. Manufacturers like Toyota will sell their new cars to dealerships - which aren’t owned by them. And these dealerships then sell the cars onto customers like us.

Now, why do Ford and Toyota do this? Why don’t they just own the dealerships themselves and sell directly to us? Well, firstly there’s a lot of cost involved in operating a car dealership. You need to purchase or rent the land. You need to construct the building. And then once you’ve got all that in place, you need to actually run the thing and hire people to sell cars!

And so, like McDonald’s, car manufacturers decide to use franchisees to do the selling part for them! We’ll look at how the economics works between manufacturer (e.g. Toyota) and dealership (AutoNation) over the next two days!

But the second, and more interesting reason why car manufacturers sell through car dealerships… is because they kind of have to! It’s the law in America! Car manufacturers like Ford and Toyota are simply not allowed to sell cars directly to their customers - either by setting up their own dealerships OR by selling online.

However, there’s a bit of a twist here. Because back in 2008, one company decided to break the mould, skip dealerships and started selling directly to customers. And that company is Tesla! We’ll get into this more in 2 weeks when we look at The Business Of Tesla!

We Haven’t Seen A More Fragmented Market On TBO!

Okay, so we’ve seen that car dealerships aren’t owned by the car manufacturers. But how many car dealerships actually are there in the US? Well, there’s a whopping ~16,000! Now, most of these are owned by individuals/families running their own businesses.

But there are 6 companies - you can see them in the table below - who own >100 car dealerships each! And as we can see from that table below, AutoNation’s 247 dealerships puts them in 2nd place, only behind Lithia Motors - who had 296 locations!

AutoNation actually started with just 12 franchised dealerships back in 1996. But through numerous acquisitions, grew to 247! Impressive!

However, I want to draw our attention to something interesting. Whilst it’s very impressive that these 6 companies all own >100 dealerships… they all have an unbelievably tiny market share! Lithia Motors - the largest player - owns only ~2% of the total dealerships in the country (296/16,000). And as we see in our chart below, the top 6 companies’ combined only own ~7% of the total number of US dealerships!

The reason this is important to note is because it’s incredibly different to what we’ve seen in other industries. When we looked at Nvidia, we saw that the chip-designer made up ~80% of the revenues in the global discrete GPU industry. When we looked at Uber, we saw that the ridesharing company had a ~37% market share of the global ridesharing industry. And when we looked at Tesco, we saw that the UK giant made up ~30% of the revenues in the UK supermarket industry.

So, what does this tiny market share for AutoNation and Lithia Motors all mean? Well, it means that the US car dealership industry is extremely unconsolidated (or fragmented). There’s no one company that controls a large % of the industry. Now, one key strategy that companies use to grow in these fragmented industries is through acquisition. Big car dealership groups like Lithia Motors and AutoNation can go about acquiring car dealerships around the US and grow their revenues. Just like AutoNation has done in the past to grow from 12 to 247 dealerships.

And as we’ll see this week, this trend is continuing even now! Just last year, the 3 biggest car dealership groups in the world - AutoNation, Lithia Motors and Penske Automotive - all engaged in a three-way fight to acquire the UK’s largest car dealership group - Pendragon! Unfortunately for AutoNation though, it looks like Lithia Motors is set to win this fight!

Used Cars Are A Lot More Popular Than Brand New Cars!

Okay, final thing to wrap up. So far, what we’ve been focusing on is car manufacturers like Ford and Toyota selling their new vehicles through car dealerships. But question - do car dealership groups like AutoNation only sell new vehicles?

Well, the answer is no! They also sell used vehicles! And in fact, the used vehicle market is quite a lot larger than the new vehicle market. In the chart below we can see that whilst 13.6 million new vehicles were sold in America in total in 2022, the number of used vehicles sold was nearly 3x that figure (at 38.6 million)!

Tomorrow, we’ll look at how many new cars and used cars AutoNation sold across their 247 dealerships. And what car brands they’re selling the most of!

And we’ll also look at the two other things AutoNation does. Because it’s not just all about selling cars! AutoNation also help people finance the purchases of their cars (through loans and leases). And they help people with repairs if they damage their cars!

We’ll get into all 4 of these segments over the next 2 days!

15th Jan 2024

Nigel Jacob CFA