Description

Sonic Automotive (SAH) $15.60

So of you may be paranoid about the economy. So of you may be afraid autos ales my start to decline, but Sonic Automotive Holdings is a great company, with a strong growth rate trading at a significant discount to an industry comps AN, and a decent discount to UAG and GPI, and a discount to private dealerships.

What sonic does (from yahoo):

“Sonic Automotive, Inc., incorporated in February 1997, is an automotive retailer in the United States. The Company operates 160 dealership franchises at 118 dealership locations, representing 30 different brands of cars and light trucks, and 29 collision repair centers in 13 states. Sonic has grown from 10 stores, six collision centers and eight brands in four states since its inception. The Company's dealership operations are overseen by regional, senior regional or divisional vice presidents for a particular geographic area. Sonic's divisional and regional management teams use its computer-based information systems to monitor each dealership's sales, profitability, inventory and other financial and operating data.
New Vehicle Sales
As of December 31, 2001, the Company sold 30 brands of new cars and light trucks. The products have a broad range of prices from lower priced or economy vehicles to luxury vehicles. The Company's new vehicle brands include General Motors, which includes Buick, Cadillac, Chevrolet, GMC, Oldsmobile and Pontiac; Toyota; Nissan; Lexus; Other, which includes Acura, Audi, Hyundai, Infiniti, Isuzu, KIA, Land Rover, Lincoln, Mercedes, Mercury, Mitsubishi, Porsche, Subaru, Volkswagen and Volvo; Honda; Ford; Chrysler, which Includes Chrysler, Dodge, Jeep and Plymouth, and BMW.

Used Vehicle Sales
The Company sells a broad variety of makes and models of used cars and light trucks. Sonic obtains used vehicles through customer trade-ins at closed auctions that may be attended only by new vehicle dealers and that offer off-lease, rental and fleet vehicles, and at open auctions that offer repossessed vehicles and vehicles sold by other dealers. The Company sells its used vehicles to retail customers, and, in the case of vehicles in poor condition or vehicles that remain unsold for a specified period of time, to other dealers or wholesalers.

Service and Parts Sales
Sonic sells parts and provides maintenance and both warranty and non-warranty repair services at each of its franchised dealerships. Service and parts sales provide higher gross margins than vehicle sales, and, generally, are not as sensitive to economic cycles and seasonality factors as vehicle sales.

Collision Repair Operations
As of December 31, 2001, the Company operated 29 collision repair centers. Sonic's collision repair business provides favorable margins, and, similar to service and parts, is not significantly affected by business cycles or consumer preferences. In addition, because of the higher cost of used vehicles, insurance adjusters are more hesitant to declare a vehicle a total loss, resulting in more significant and higher cost repair jobs.
Finance and Insurance Operations

Sonic offers its customers a wide range of financing and leasing alternatives for the purchase of vehicles, as well as third-party warranty or extended service contracts. The Company assigns its vehicle financing contracts and leases to other parties, instead of directly financing sales, which reduces its exposure to loss from financing activities. Sonic receives a commission from the provider of the finance, lease or extended warranty contract but is assessed a chargeback fee by that provider if a contract is canceled, in most cases, within 90 days of originating the contract. Early cancellation can result from early repayment because of refinancing of the loan, the sale or trade-in of the vehicle or default on the contract. The Company establishes an allowance to absorb estimated chargebacks and refunds. Finance and insurance commission revenue is recorded net of such chargebacks. Commission expense related to finance and insurance commission revenue is charged to selling, general and administrative expenses upon recognition of such revenue.”

So why sonic???

Sonic as a conglomerate is greater than the sum of its parts: A lot of people don’t believe in the conglomerate model. Some would argue that GE is worth more cut up, than together. That has to do with corporate socialism: If one part of a conglomerate isn’t doing well management feels the need to improperly allocate that unit or division more cash to help pull it through, as opposed to allocating capital to the best business lines and let nature run its course on the poor product or division. SAH has aggressively sold under-performing dealerships, and effectively allocated capital to new acquisitions.

Moreover, Sonic’s size lets them create certain economy’s of scale and organizational efficiencies that most private dealerships can only dream of. For example, they have a “Sonic School” to train all their sales force, and a computerized information system to monitor performance, manage inventory, discover regional trends, and adjust the sales mix appropriately. Sonic is also able to use its conglomerate model to cross sell Finance and Insurance on cars. That’s the product that has the greatest margins. My thesis is that SAH should trade at a PREMIUM to the average private dealership, not a discount. Currently Private dealerships sell for 8x earnings.

Sonic has 600M Revolving Credit line that allows them to borrow at LIBOR +2.5%. 100M has been fixed at 3.88% based on a swap arrangement. 519M was outstanding under this credit line as of 6/30/02. The financiers of the credit line is Ford Motor Credit Company, Chrysler Financial Company LLC and Toyota Motor Credit Corporation. Sonic claims to get a 20% ROIC from their new acquisitions. And is currently repurchasing stock, in fact the program was recently expanded by 25 Million. And with an earnings yield of 14%, the stock buyback is very accretive to eps (ttm pe of 7), ’03 pe of about 5.4 assuming $2.90/share in 03.

One worry is that they are close to one of the covenants on the revolver (from the 6/30 10-Q):

Covenant Required Actual
----------------------------- ---------- --------
Current ratio 1.23 1.26
Fixed charge coverage 1.41 1.73
Interest coverage 2.00 3.88
Adjusted debt to EBITDA 2.25 1.72

If they keep generating operating cash flows, we have no problem here…


In any case lets talk valuations:

TTM PE: 7
’03 PE: 5.4
Book: $14.44
Last 6 Month GAAP EPS (annualized): $2.58
Last 6 Month FCFE (annualized): $2.32/share
FCFE Yield: 15%
(FCFE does not take into account working capital changes)
Last 6 Month FCFF (Annualized):$3.75/share
FCF/Market Cap: 24.2%
EV: 2040mm
FCFF/EV: 7.65%
EBITDA: 241mm (6 months annualized)
EV/EBITDA: 8.5

Catalyst

Cheap stock trading below comp values: See uag, gpi.
If LIBOR drops. Stock buyback. The market realizing that the sky is not falling for this one...