We See Sonic With a Long Growth Runway in Franchise Autos, Used Vehicle Stores, and Powersports

Strategist

David Whiston

Sonic Automotive is expanding beyond franchise auto dealerships. Its omnichannel Digital One Stop process and the CarCash app let consumers shop digitally or in-store and helps Sonic procure more used-vehicle inventory. Management has also worked to make the car-buying process nearly paperless, place the customer with only one person for the entire transaction, and enable the customer to take delivery of a vehicle in an hour or less after deciding which one to buy. It's building out a powersports segment which for now will likely focus on motorcycle stores such as Harley-Davidson.

In October 2013, Sonic announced its intention to compete with CarMax with EchoPark used-vehicle stores. The US used-vehicle market is highly fragmented at about 40 million units a year, with late-model used vehicles as old as six years often making up at least 15 million units. Openings started in late 2014 in the Denver area and at year-end 2022, the EchoPark segment had about 50 stores and delivery centers in 21 states and targeted reaching 90% of the U.S. population by 2025. After temporarily closing all 14 delivery centers and 11 stores in June 2023 due to low late-model inventory supply, the EchoPark segment finished 2023 with 25 stores. It will take time for EchoPark to reach scale. The stores will not have a big-box retail format and are not capital-intensive due to most eventually being delivery and buy centers that only cost $1 million-$2 million each. These centers will be served by larger hub stores in a region that each cost between $7 million and $25 million. EchoPark will not do home delivery. Sonic does not plan a captive finance arm like CarMax enjoys. Good growth is not impossible in our view because EchoPark intentionally undercuts competitors on price, then recovers a small loss on the vehicle by arranging loans with third-party lenders and selling extended warranties, targeting over $2,000 gross profit per unit.

Sonic has scale relative to a small dealer and can get better terms from vendors for supplies, computer systems, and health insurance compared with a small dealer. It also captures lucrative service work over repair shops through its warranty business.

Business Strategy & Outlook

We are maintaining our narrow moat rating, as Sonic's size continues to generate economies of scale and working capital efficiencies while the service segment's warranty work gives the company an intangible advantage over garages. We think the dealer sector is the best business in the automotive supply chain. The public dealers can centralize back-office operations and generate far more volume than small dealers, which brings scale. Dealers have no burdensome retiree expenses, and the large public dealers don't depend on the health of one brand. The dealers enjoy mid- to high-single-digit gross margins on new vehicles and 100% gross margins on financing and insurance. We think the best source of competitive advantage is the parts and service operations. Many customers bring their vehicle to the dealer for servicing because either the vehicle is under warranty or the dealer is close to home and has the factory parts and expertise to service the vehicle. Once vehicle owners know a dealer, we think they are likely to keep going back to the dealer for service. The dealer knows the vehicle, and comparison-shopping for repair work is very time-consuming since the customer has to take the vehicle to each shop to get a quote. These cost advantages and intangible advantages from service give dealers a moat.

These logistics create inelasticity of demand, which creates pricing power for the dealer and is a source of excellent profit in good times and bad. In fact, during a downturn in new-vehicle sales, dealers generally report higher gross margins due to a favorable mix shift, but then report lower operating margins because of SG&A deleveraging. Excluding large impairment and restructuring charges, dealers can still report positive EBIT even in a severe recession. Although most dealerships are good businesses, we think the large publicly traded dealers are best positioned for growth since they can be the most flexible in changing brand mix. Many small business owners are choosing to exit or sell because they cannot get the scale on a variety of expenses compared with large dealer groups. Sonic is one of the largest dealers in the US, yet has under 1% new vehicle market share. About 92% of dealer owners own between one and five stores per the National Automobile Dealers Association, so we see a long growth runway for consolidators such as Sonic.

Narrow

Economic Moat

Sonic Automotive

Sonic Automotive, Inc. operates as a automotive retailer. Its services include sales of both new and used cars and light trucks, sales of replacement parts and performance of vehicle maintenance, warranty, paint and repair services and arrangement of extended service contracts, financing, insurance, vehicle protection products and other aftermarket products for automotive customers. The firm operates through the following segments: Franchised Dealerships and EchoPark. The Franchised Dealerships segment provides comprehensive services, which include sales of both new and used cars and light trucks, sales of replacement parts and performance of vehicle maintenance, manufacturer warranty repairs, and paint and collision repair services. The EchoPark segment sales used cars and light trucks. The company was founded by Ollen Bruton Smith and Bryan Scott Smith in January 1997 and is headquartered in Charlotte, NC.

Earnings data Q1 2024

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Sonic Automotive's Q1 performance reflects robust revenue growth and strong F&I performance, offset by challenges in EchoPark segment's EBITDA and used vehicle retail prices. The company demonstrates confidence in future prospects through share repurchases and increased dividend payout, signaling opportunities for continued growth.

Sonic Automotive reports record revenues but faces challenges in EchoPark

Sonic Automotive reported record revenues and strong performance in F&I gross profit and parts and service business. However, challenges exist in the EchoPark segment's adjusted EBITDA loss and ongoing expenses from suspended operations. The company aims to achieve breakeven EBITDA for EchoPark by 2024 and sees opportunities in cost savings and electric vehicle market strategies.

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Sonic Automotive's Q3 performance reflects revenue growth and strong financial position, despite challenges in new vehicle gross profit and wholesale auction prices. The company's focus on stable F&I penetration rates and dividend increase demonstrates resilience. Opportunities lie in the market for hybrid vehicles and future growth prospects in the Powersports segment.

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CHARLOTTE, N.C.--(BUSINESS WIRE)--Sonic Automotive, Inc. (“Sonic” or the “Company”) (NYSE:SAH), a Fortune 500 Company and one of the nation's largest automotive retailers, today announced the addition of two industry leaders to its growing eCommerce team. Steve Wittman has joined as the Company's first Chief Digital Retail Officer and Stephen Conrad has joined as the new Vice President of eCommerce. Additionally, Sonic has appointed Marti Eulberg as Chief Creative Officer, previously the Compan

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New York, New York--(Newsfile Corp. - October 16, 2020) - Levi & Korsinsky announces it has commenced an investigation of Sonic Automotive, Inc. (NYSE: SAH) concerning possible breaches of fiduciary duty. To obtain additional information, go to:https://www.zlk.com/compensation2/sonic-automotive-inc-information-request-formor contact Joseph E. Levi, Esq. either via email at jlevi@levikorsinsky.com or by telephone at (212) 363-7500. There is no cost or obligation to you.

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