VTU.L - Vertu Motors

[whistlerbumps]

VTU is a UK car dealership that is undervalued because current margins have been depressed by the company's strategy of acquiring and turning around loss-making dealerships.  There is no structural reason why VTU's margins should not approach the 2.0%+ achieved by peers LOOK and PDG's volume division.  At 2%, EPS would be ~GBp 10 which could generate a 100% return with a 12x P/E.  Even with current depressed margins, VTU earning ~5p so downside seems protected near current share price.  Strong balance sheet and good management team in my opinion. 

 

 

[Guest notorious546]

https://gallery.mailchimp.com/6baeceda9bb7d6e6ebecd0933/files/3bb56367-8cdf-4c1b-82d5-2df038189c83/C4KMMI1_IBV_Capital_on_Vertu_Motors.pdf?utm_source=Capitalize+for+Kids+Investors+Conference+2016&utm_campaign=560d832f8c-EMAIL_CAMPAIGN_2017_03_14&utm_medium=email&utm_term=0_058eb76957-560d832f8c-517270177

[whistlerbumps]

Thanks. I still think Vertu is massively mispriced at current levels unless the UK enters into a severe recession. 

[muscleman]

https://gallery.mailchimp.com/6baeceda9bb7d6e6ebecd0933/files/3bb56367-8cdf-4c1b-82d5-2df038189c83/C4KMMI1_IBV_Capital_on_Vertu_Motors.pdf?utm_source=Capitalize+for+Kids+Investors+Conference+2016&utm_campaign=560d832f8c-EMAIL_CAMPAIGN_2017_03_14&utm_medium=email&utm_term=0_058eb76957-560d832f8c-517270177

 

"This is in part due to legislation, which forbids manufacturers from owning their own dealerships (in most states), as well as strong dealership contracts that make agreement terminations by manufacturers very difficult. "

 

They said this for the US dealerships. Do you know if the UK dealerships have this kind of advantage?

[whistlerbumps]

UK dealer/manufacturer relations are governed by Europe block exemption rules. They are not quite as dealer friendly as the US system but its still very rare to see a dealer terminated.  More often, the manufacturer will work to push the sale of an underperforming dealership.

[kab60]

Took a position today. Trades at 50 pct of BV or 35c vs 45c tangible book. Net cash of 20m, 3,2xev/ebitda FYE. New car sales is already in a recession in the UK, but the jewel is service which grew 8 pct. in most recent period.

 

Not gonna happen, but if they took leverage to x1ebitda they could almost retire half the shares for a proforma PE of 4.

 

They have spent 85m on capex in the last 3 years (and returns are not impressive but possibly deflated from buying struggling dealerships) vs a market cap of 125m currently.

 

After massive upgrades capex is projected to come down, so they'll harvest free cash. Their historic returns are mixed if not bad, but they seem to have smartened up and buyback shares (some 7-10 pct returned through divy and buybacks anually).

 

Cambria, another UK dealership, is a better business, but they're looking at massive upgrades and it is more expensive - though very cheap. Might take a stake there as well (also bought Motorpoint, a sort of UK Carmax).

 

 

 

[maude]

I used to own Vertu as well, but I think Cambria will create more per-share value over time. Plus, Cambria has a significant near-to-medium term tailwind from the new luxury dealerships, which have yet to contribute much to profits. My biggest complaint about Vertu is they issued equity a few times when the stock was trading at low multiples. Cambria will almost certainly never do that. I wonder if Robert Forrester has truly changed his philosophy about this. My guess is not, and they have told me in recent months they would issue equity if at some point they have an opportunity to make a very large, transformative acquisition (buying another large dealership group). They didn't have any expectation this would happen any time soon.

[kab60]

I used to own Vertu as well, but I think Cambria will create more per-share value over time. Plus, Cambria has a significant near-to-medium term tailwind from the new luxury dealerships, which have yet to contribute much to profits. My biggest complaint about Vertu is they issued equity a few times when the stock was trading at low multiples. Cambria will almost certainly never do that. I wonder if Robert Forrester has truly changed his philosophy about this. My guess is not, and they have told me in recent months they would issue equity if at some point they have an opportunity to make a very large, transformative acquisition (buying another large dealership group). They didn't have any expectation this would happen any time soon.

Thanks, much appreciated. Sounds terrible and fits a nagging feeling I have (their new chairman is a car guy- Cambrias has a corporate finance background and knows about ROIC above WACC...) Did you get a feel for what drives Vertus ambition and whether they weigh all capital allocation decisions through the same lens (by buying shares they "buy" dealerships and half of what they paid) or they just wanna grow for growths sake? What do they mean by transformational? Forrester owns 2%, but he might be driven by ego?

[cmlber]

I used to own Vertu as well, but I think Cambria will create more per-share value over time. Plus, Cambria has a significant near-to-medium term tailwind from the new luxury dealerships, which have yet to contribute much to profits. My biggest complaint about Vertu is they issued equity a few times when the stock was trading at low multiples. Cambria will almost certainly never do that. I wonder if Robert Forrester has truly changed his philosophy about this. My guess is not, and they have told me in recent months they would issue equity if at some point they have an opportunity to make a very large, transformative acquisition (buying another large dealership group). They didn't have any expectation this would happen any time soon.

Thanks, much appreciated. Sounds terrible and fits a nagging feeling I have (their new chairman is a car guy- Cambrias has a corporate finance background and knows about ROIC above WACC...) Did you get a feel for what drives Vertus ambition and whether they weigh all capital allocation decisions through the same lens (by buying shares they "buy" dealerships and half of what they paid) or they just wanna grow for growths sake? What do they mean by transformational? Forrester owns 2%, but he might be driven by ego?

 

Lavery (CAMB) and Forrester (VTU) both started these businesses in 2006.  Lavery turned an initial base of £10.8MM in capital into £57MM in market value today but over the same period with the same opportunity set Forrester turned £0.60/share into £0.33/share.  Imo, that's all you need to know...

 

Arguably Vertu is under earning today, but even if you give them credit for doubling margins to peer levels and assume a constant multiple, he still created no value for shareholders over 13 years.  The only way those returns are possible when they've been retaining earnings is if they have been issuing equity at lower valuations than their acquisitions...

 

I asked Forrester if there's anything he would change about their strategy or execution in hindsight, expecting to hear that he wouldn't have issued cheap equity, and he said no there's nothing he would change.  He also mentioned their M&A target is a yr3 multiple of 5x EBITDA and I asked why he would do that when they can buy their own business with no execution risk at 3x EBITDA and he basically said if you don't have scale then when there is a mass consolidation in dealers in the near future VTU could be screwed by OEMs.  There is some logic to that assuming M&A is only marginally more expensive than buying your own stock, but given the disparity in values we were talking about, it makes no sense. 

[maude]

By "transformational" deal, they just meant "very large" deal. My impression from a couple of conversations with Robert Forrester (Vertu CEO) is that he wants to turn Vertu into a big dealership group (basically empire building).

I think Robert Forrester started talking about the logic in stock buybacks, he read The Outsiders, etc. I think this happened shortly after the last equity offering, which was not well-received by investors. My feeling is he may be trying to placate investors.

In my many conversations with Mark Lavery (Cambria CEO), he has always seemed to be very focused on per-share value (and his long-term track record supports this).

[kab60]

Thanks, very valuable. I've stayed away from Vertu for a long time but sensed a change of tone (talking about per share value, hurdle rate etc) as well as a very undemanding valuation (ripe for an activist) and nice aftersales growth (higher than Cambria), but what you've described is just terrible from a capital allocation standpoint. Much appreciated.

[compounding]

My general sense from reading the reports and following the communication and actions from management is that capital allocation has improved quite significantly since the last equity raise. They have done one or two real estate deals to unlock capital, they have refrained from acquisitions due to valuation reasons and returned capital to shareholders via dividends, and increasingly lately, via buybacks. At current prices they have been heavy buyers, buying around 150k shares per day, which is really quite something since the average volume traded in the stock is around 550k. So they have shifted their communication, making capital allocation the prime topic in reports/presentations, and actually followed it up with good decision making.

 

The balance sheet is great, so there is really no need to issue equity, even if they want to acquire something (with the possible exception of something really big). Their most recent acquisitions have been paid with cash on hand. The margin expansion thesis in combination with further consolidation of the industry, the cheap price and the current capital allocation makes this interesting for me, and I have had a small position since 2016.

 

My question would be, despite all of the above, do you still not trust Forrester will allocate well going forward? I agree that the investment thesis is broken if they start issuing equity at stupid prices again. I guess the real question here is if the last few years are more indicative of capital allocation going forward than the previous ten.

[maude]

I guess I'm not sure I trust Robert Forrester completely, but I do think further equity issuances in the next few years is pretty unlikely. That being said, Cambria is trading at a slightly lower P/E multiple than Vertu (based on the companies' guidance to the brokers for the current fiscal year). I have more confidence that Cambria will grow earnings than I do about Vertu, because Cambria has shown tangible progress in this regard recently due to the new luxury dealerships ramping up profitability (and their long-term track record just gives them a lot of credibility in general). Vertu's earnings growth is more predicated on improving the margins of dealerships that are not generating good margins, but this was also the thesis a few years ago and they haven't really shown progress in this regard. However, Vertu's balance sheet is more conservative than Cambria's and Vertu trades at a lower multiple of tangible book value (though I would tend to view the lower P/TBV as a negative because it implies Vertu's ROIC is lower than Cambria's). Having owned and followed both of these companies for a few years now, I can say I feel more comfortable with Cambria, all things considered. That being said, I think Vertu is also undervalued, but less than Cambria.

[compounding]

Sounds very reasonable, thanks for elaborating.

[whistlerbumps]

I will say that VTU has become much more aggressive with the buyback in the last couple of years.  RF definitely wants to make acquisitions but he has also changed his tune re repurchases which should be pretty accretive at these levels.

[Saj]

The buybacks stopped on a dime last week. (https://www.londonstockexchange.com/exchange/news/market-news/market-news-home.html?nameCodeText=vtu&searchType=searchForNameCode&nameCode=vtu&text=&rnsSubmitButton=Search&activatedFilters=true&newsSource=ALL&mostRead=&headlineCode=NONE&headlineId=&ftseIndex=&sectorCode=&rbDate=released&preDate=LastMonth&newsPerPage=500)

 

Is there a regulatory reason behind it? (Results coming out in early Oct.)

 

Or does this mean they expect the stock to fall after results come out?

 

Or something else?

[kab60]

No idea as for why the buybacks stopped, but Forrester is quiet active on Twitter, and he has been travelling coach to save on opex:

 

Did someone confirm he read Outsiders? Not a major point, but considering the value destruction that has gone on historically - and where shares trade - it would hopefully have been an eye-opener (not convinced though:

/status/1179995602458988544 :D)

[whistlerbumps]

I think the buybacks may have stopped because they are in the quiet period before the results announcement.

[compounding]

Results out. Not much out of the ordinary as far as I can tell. Best part was probably the cash flow generation which was strong, coupled with the reduced capex led to FCF of £21m (pretty significant compared to the current market cap of £122m).

 

Happy to see the continued focus on capital allocation in the written communication.

[kab60]

Results look pretty good, and as you said they're harvesting cash (which they telegraphed after some years with major capex). Definately cheap if they don't blow their money on expensive acquisitions, so I suppose nothing has really changed. Their net cash balance sheet should provide them with interesting options, but it's hard to envision something more accretitive than buybacks.

 

I'm still not convinced (small positon), but Robert does talk the talk now (now walk the walk and get aggressive):

 

"The group has firepower with which to not only grow the business by partnering with their major OEMs but also to invest in a raft of initiatives on omnichannel retailing, which I'll go through in some detail. We're very, very focused of generating cash, which means controlling costs, controlling capital and I think that comes through, and that then frees up resources to put through our capital allocation process, and the board's very focus on capital allocation. We have a very strong balance sheet. We continue to generate cash flow disposal of surplus properties, and we have been engaging in the share buyback program because clearly, the share prices below where we believe the intrinsic value of the business to be."

[compounding]

They can't really get much more aggressive with open market purchases; they've been buying 25% of the daily volume some days recently. 2% of the shares outstanding in H1 isn't bad, I'll be pretty happy if they keep that pace. They would probably have to do a tender if they want to get more aggressive with the buyback, or raise the hurdle for buybacks (think it's tangible book at the moment).

 

The acquisitions have been pretty reasonable historically as far as I can judge, I don't expect that to change going forward. If anything, they have acquired less companies than I thought when in started my position. It's a small position for me too, but I think they are doing a pretty solid job lately. The big scare is a new equity raise, as has been discussed earlier in the thread.

 

 

[Packer16]

How are the results positive?  The only metric that is up is sales which is good given new car registrations are down 6.5% over the past 11 months.  The margins are down from 1.24% to 1.19% & inventory turns are down to 5.4x to 5.6x & this is the high selling season (volume margins & inv turns are typically down in 2H).  His discussion talks about how he had cost control how did this show up in the financials?  He was aggressive & he said it paid off but his profits are down.  He said it was fun but IMO he had very little cost control.  Is there a lot of cognitive dissonance here or am I missing something?

 

In all of their incentive & other material, they never mention inventory turns (a key KPI IMO).  How can you run an auto dealer and not focus in inventory turns?

 

IMO the acquisitions historically have destroyed value.  The RoE is subpar 7% for an auto dealer, margins in the low 1%s & the firm trades a substantial discount to book value (which again shows the market thinks these guys overpaid).  If you look at Cambria the number are much better (RoE in the mid teens, higher inventory turns & margins above 2%). 

 

Packer

[kab60]

Good in the context of earnings not dropping off a cliff (take a look at Pendragon) and trading at less than 2,5xev/ebitda now while returning some 10 pct to shareholders.

 

I think everyone agrees Cambria is much better run (I have a position), but it's also more expensive, and while Vertu is lowering capex, Cambria has significant investments ahead.

 

If Cambria can keep up the returns, obviously that's a plus and not a negative.

[Packer16]

I guess it depends upon your focus.  IMO Vertu & Pendragon are in a commodity business.  Pendragon compounded its difficulty by running a subscale used car business.  Just look at how much fruit VTUs marketing spend got them (less loss).  IMO the known franchises in UK auto retail are Motorpoint and Cambria.  Being an auto retailer & not focusing on inventory turns IMO tells you the story here.  Until they focus on the right things, I think they will continue to struggle & sell at a discount to those who do focus on margins & turns.  I do think buying back stock is the right thing to do versus acquisitions but IMO there is more wrong here than paying too much for dealerships.

 

Packer

[kab60]

I guess it depends upon your focus.  IMO Vertu & Pendragon are in a commodity business.  Just look at how much fruit VTUs marketing spend got them (less loss).  IMO the known franchises in UK auto retail are Motorpoint and Cambria.  Being an auto retailer & not focusing on inventory turns IMO tells you the story here.  Until they focus on the right things, I think they will continue to struggle & sell at a discount to those who do focus on margins & turns.  I do think buying back stock is the right thing to do versus acquisitions but IMO there is more wrong here than paying too much for dealerships.

 

Packer

I don't disagree. Over the long term I prefer Cambria and Motorpoint, but I still think Vertu is worthy of an investment at these levels. They're on par to do 5P EPS on tangible net assets per share of 46,1P.

 

Considering the net cash position it's not exactly a disaster - nor great. It is a disaster when one takes their goodwill and intangibles into account, which shows they've clearly overpaid/aren't executing well enough, but I'm not paying for their failed M&A today. I'm getting it at a pretty fat discount to tangible equity (close to 30 pct. around open).

 

Analysts have them pegged at 42m ebitda fiscal year 21 (6 pct. growth y/o/y) while EV today is 94m (123mcap less 29m net cash.

 

My bet is that it'll do okay if they keep returning cash to shareholders and stay away from big deals. The last point being my biggest concern.