We believe Group 1 Automotive (GPI) represents a very attractive risk/reward at current levels. Auto
dealerships are high quality businesses that have enjoyed both the resurgence in new auto sales and
industry consolidation post the financial crisis. However, multiple fears (i.e. peak in auto sales, growth
of Uber/ride-sharing, Tesla, driverless cars, etc.) have led to an investor exodus of the group. GPI, in
particular, has been hit due to these fears but also due to its geographic exposure. However, we think
GPI has been over-penalized and see the risk/reward at current valuation as extremely compelling.
PGTenny provided a great write-up in July 2013 on the auto dealers with an in-depth overview of
industry dynamics. We would point you to that and the follow-up discussion for background. It was
written up at an earlier part of the cycle but most of it is still very relevant to today’s opportunity. Since
that write-up, sentiment on the stock/industry vastly improved until the space became very crowded
(GPI stock almost hit $100 a year ago). In the past year, sentiment has completely turned to the hatred
observed today. There are clearly risks but we think this is more than reflected in valuation.
Company Overview:
GPI is the 3rd largest car dealership in the US with smaller divisions in the UK (less than 10% of GP) and
Brazil (less than 5% of GP). The company is well run by a management team with a history of good
execution and capital allocation. The notable exception to this was when they purchased a large group
of Brazilian auto dealerships in 2013. The purchase occurred near the peak of the Brazilian auto market
and, so far, the acquisition has massively disappointed.
The geographic exposure of GPI has been a source of concern for investors. Clearly Brazil has been a
disaster and the company’s UK exposure has not been looked upon favorably due to recent events.
However, we see the Brazilian exposure as somewhat of a very low-priced option and think UK macro
fears are overblown. ~60% of the company’s US new vehicle sales are in the energy-producing states of
Texas and Oklahoma. Oil prices are well off the lows but obviously another move down would be a
headwind. Once again, this fear is well-know and, we think, more than priced in.
Once again, please review PGTenny’s write-up for more detail on the business model but the most
important takeaways are the smaller than expected profits attributable to new auto sales and the
tailwind for growth in Parts & Services. New vehicle sales represent ~56% of revenue (and the majority
of investor’s fears), yet it only represents ~20% of gross profit. We think this is still underestimated by
investors. Parts & Services only represent ~11% of revenue but provide ~42% of the company’s gross
profit. The Parts & Services tailwind discussed is also still in effect and should provide growth of mid-to-
high single digits for the foreseeable future with very high incremental margins. Earnings would clearly
be hit from a pullback in auto sales but not as much as most investors would assume.
Valuation
