AutoNation (AN) is starting to crank up the stock buyback machine, following the successfully playbook of Eddie Lampert and AutoZone (AZO). We have a $46 price target, which is 15x our 2013 EPS estimate. We foresee earnings growing close to 30% in 2012 and 2013 as the share count rapidly declined at AutoNation, leveraging a healthy new car replacement cycle that should keep sales running about 10% higher on an annual basis during this time period.
This chart makes the case for robust EPS growth aided by an aggressive stock buyback campaign:
We also think that AutoNation is a Best-of-Breed in the auto dealer industry. We have meet with the management team frequently in the past and are big fans of Mike Jackson (CEO) and Mike Maroone (COO) since they take a long-term view and pride themselves on driving shareholder value. Only Roger Penske at Penkse Automotive (PAG) can match up against this duo.
A few things jump out at us:
1) AN is the most expensive stock in the group at 15x 2013 EPS. We are fine with this as the company is also the highest-quality.
2) AN has a very high percentage of shares outstanding short at 22%. We are surprised so many investors are trying to short such a high-quality name, especially as the new car cycle is showing incredible resilience.
Risks to the Thesis:
There are risks to our bullish thesis. The first is a major slowdown in the U.S. economy due to panic from the euro crisis or sharp slowdown in China. Consumer confidence is a delicate thing, and big purchases like automobiles are dependent on consumers feeling good about their economic situation. Secondly, consumer credit could dry up, causing potential buyers to defer a purchase because they can't get credit from a bank. Presently, lending conditions are very favorable in the U.S., but this can change quickly. Lastly, AutoNation could use their cash for a large acquisition which would likely upset the current investor community and cause the stock to fall.
Bottom Line: We think new car demand will be solid over the next two years as replacement demand supports a SAAR of 14 - 15 million, AutoNation is Best-of-Breed, and they'll be aggressively buying back stock over the next two years which should drive EPS above Wall Street Expectations.