February Light Vehicle Sales: It's All Relative, Or Is It?

With 90% of the industry reporting in, February results look to be shaping up similar to January, 16.6 million (seasonally adjusted annual rate) in light vehicle sales. Retail selling rate is likely comparable to last year. Incentives are likely flat to slightly up.

- Paul Ballew, GM's head of industry analysis

Happy February 2007 vehicle sales release day.

I hope you caught Ed Lapham's editorial yesterday in AutoNews. In the article he said the CPA firm Woodward & Associates estimates more than half of all U.S. new vehicle dealers lost money in January.

Now I should point out that January is a seasonally slow month. But this statistic makes me think about a comment a private dealer (whom I have come to respect over the years) made on the ARS interactive section of the website. His comment related to my remarks on Lithia (LAD). Specifically (as you can also read on the website), he said:

I thought your criticism of LAD's inventory management and results for the last quarter was a little undeserved. Given their overweighting of Chrysler stores, I thought their results were encouraging. I think they responded to market conditions prudently, but the ultimate pricing of the product rests with the manufacturer and their rebates/incentives. Chrysler's marketing efforts will continue to be hampered by gas prices until they either get better mileage or lower their transaction prices substantially. As for LAD, I hope they can dump some DCX stores and buy more GM and imports.

The dealer (above) along with Mr. Lapham's article reminds me why I rank Lithia number one. No, they don't win the prize for best brand selection. But when you consider all of the industry headwinds, particularly Chrysler's (DCX) headwinds (which is some 40% of Lithia's business), the company's 36% decline in year over year earnings in the fourth quarter don't seem so bad.

In fact, even the idea that Lithia can report a profit while continuing to make all of its investments into process improvements and new growth initiatives like "L2" (which is the "CarMax" type used vehicle store experiment that for the record I have been against), I think provides near definitive confirmation that Lithia is the leader when it comes to running the most efficient set of stores in the space. Frankly, who else could maintain this profitability with such crappy brands while also making significant investments for the long term?

Now having said that, something clearly is wrong, and Lithia is still underperforming its peers, particularly when you consider the encouraging results coming out of dealership groups like Asbury (ABG) and Sonic (SAH).

As you know, I have resisted this idea that "brands matter" as I have generally been of the opinion that everyone knows what brands are best (but then they end up paying top dollar for said brand). The real differentiator, I have claimed, is who can operate the stores best. But I have to admit this is no longer proving the case, and as Ken Gilman (Asbury's retiring CEO) put it to me last summer buying the right brands "increases your odds of success." And maybe Sonic's CFO (David Cosper) more bluntly (and appropriately) said it best (about all capital deployment) in the company's fourth quarter slides when he said: "spend money where you make money."

The bottom line is that I think how you perform relative to the environment you are placed in is important, and Lithia should be commended. Conversely, someone like myself should be criticized (who has been placed in a great environment) when you consider my stock picking performance (the elite 5 and top ten rankings). For most investors, being up 9% and 8.4% respectively in less than a year (July 7, 2006) would be satisfactory. But when you consider the entire autoretailstocks index is up 17.7% (over the same time period), it becomes less impressive. Relative performance is incredibly important in assessing how well someone is performing given the environment they are put in (and this is why I think it really shows Lithia is tops when it comes to who is the best operator).

But I am told that some of the best operators in auto retail existed with the Oldsmobile brand. And while there were several thousand of these dealers in 1990, today there are none. So EQUALLY (if not more) important as how well you perform within the environment you are in, is the environment YOU PUT YOURSELF in. In that regard, I deserve some credit for focusing on the auto retail sector (as I continue to emphasize the entire group should afford considerable opportunities).

And Lithia's management, frankly, should be criticized for putting themselves in with such poor brands. Don't get me wrong, I was a BIG advocate of their strategy (of focusing on process versus product). However, it is now becoming very clear that BOTH (product and process) matter. Nonetheless, as the company now appears focused on improving their brand mix a bit, if they can operate this well with struggling brands, I can only imagine how well they will perform as the company's portfolio improves.

Ford sales

Ford's press release did a pretty good job of providing a lot of the "housekeeping" items analysts usually update with investors on following the call. Specifically, Ford's February sales being down 13% with a year ago. Fleet sales were down 23% (overall) equating to 33% of total sales in the first two months of 2007 (down from 40% in the first two months of 2006).

Sales to retail customers were down 8%. Ford management emphasized that their retail market share of roughly 13% is right about what they need to be consistent with their "way forward" turn around plans (keep in mind their heavy Midwest exposure seasonally gives them weaker retail sales in January).

And dealer inventories were 603,000, or 18% lower than February of 2006. The company also announced 2Q production plans, which came out to be 14% lower than 2Q06. When combined with the 16% planned production decline (versus 1Q06), it nets out to roughly 15% fewer units being produced in the first half of 2007.

GM sales up 3.4%, retail up 11%

Inventories were down 60,000 from year ago at about 1.05 million units. They also announced 2Q production plans to be about 60,000 units lower than the year ago. Market share (from the best they can tell) on a light vehicle basis looks to be just below 25%, up about 1 share point from a year ago. And it has been stable and shown an increase in last six months, particularly in trucks. Transaction prices up about 4.5%. GM's fleet units were down 18% (year over year), with daily rent down 25%.

The "economic event" happening sooner?

As you know for some time now, I have said that the automakers have artificially created demand in order to keep the plants cranking. I have also said that at some point economics would dictate (either due to bankruptcy or successful union negotiations probably between 2009 - 2011) that plant capacity would eventually come more into line. And this would mean that the "demand creation" game would wane, and so vehicle sales would actually be allowed to fall. And this drop off in sales would ultimately wipe out marginal dealers, and the more efficient players would emerge as the leaders.

So let's step back and think about this for a minute. The manufacturers (like GM and Ford) have emphasized that the worker buyouts last year of some 30k+ employees allowed for better "manned capacity utilization." I have remained focused more on plant capacity utilization (something that still needs to be remedied). But I have to admit, if you look at what is happening, where the automakers are lowering their production plans, reducing unprofitable fleet sales, and actually appear to be more disciplined with pricing, and now we hear about half of all dealers being unprofitable, it almost suggests the "economic" event I have been saying would come is here. Now, don't get carried away, dealers continue to call for more incentives to move the metal, and recent history would suggest the automakers will come in more aggressively and help the dealers out this summer. This may have been a factor in GM's results improving (or dare I say it was due to simply better product in the market?)

But as I often discuss, experience (that at times allows you to neglect shifts occurring in the industry) can be almost as dangerous as inexperience. My experience suggests the automakers are going to step in this spring/summer and bail out the dealers (with more aggressive incentives). But if they don't, and things remain difficult into the summer, while it may prove not so great for the public dealer stocks, it actually would move up my timetable of when this "economic event" occurs in the auto retail industry and you see a massive consolidation wave occur.

So the bottom line? Improved results (out of the auto retailers) this summer would be consistent with the ebbs and flows (tug of war) we have observed over the last 8 years in the industry. And while that would be positive for the stocks (in the near term), to be honest, things not turning this summer (I think) would actually accelerate the consolidation wave and move for efficiency I see eventually coming for the industry.

Comments

[oldie383:]

Yours was a nice article with many obscure points that I can show my fellow investors. Would you mind slimming down the article in the future? The energy saved could help your overall investing performance. With clues like yours from good sources I scaled completely out of all my Ford holdings in the first week of Feb. Are you one of those buy and hold investors? Please keep your auto articles comming my way.

2007 Mar 01 10:20 PM