Indeed, June marked the 40th consecutive month of growth in the UK car market with over 250,000 vehicles sold, representing a 12.9 per cent increase year-on-year. Fleet registrations which account for half the overall market continue to drive growth with new registrations up almost 19 per cent in June alone and by 13 per cent over the course of the first six months of 2015. It's worth noting that registrations to private customers remain strong too, having risen by 6.6 per cent in June.
Although the SMMT says it now expects 'a flatter' period as the 'market finds its natural running rate', it's worth pointing out that the trade body has consistently underestimated demand over the past 18 months. It's likely to have done so yet again for a number of reasons.
Firstly, the near 8 per cent appreciation of sterling against the euro this year is providing a healthy currency tailwind for motor manufacturers to target UK motor dealers with attractive incentives and demand is being further underpinned by a number of new model launches.
Secondly, with the UK economy continuing to grow strongly, I feel that fleet sales are not yet ready to plateau given the benign economic backdrop - The Bank of England forecasts economic growth of 2.5 per cent or so for this year and next. It's only reasonable for UK companies to position themselves to take advantage of the ongoing uptick in business activity as it filters down through the economy.
Thirdly, used car prices have proved far more resilient than many had expected, increasing by 4 per cent year-on-year and close to CAP prices, the industry bible, which is supportive of part exchanges on new car sales and also underpins demand for second hand cars too.
Fourthly, interest rates remain at record low levels which means that car buyers are able to secure very attractive finance deals on both new cars (personal contract plans) and on used car purchases funded by low interest personal or car loans. That's worth noting because customers acquiring cars on three years PCPs are more likely to return to the same dealership and replace them with a newer model when the contract ends by using the cash difference between the residual value on the old car and the higher part exchange value as the deposit on a new car.
This benign environment is proving a boon for car dealers which have been profiting from the surge in new car sales. This segment of the market is generally seasonal and lower margin than second-hand car sales and aftersales business such as servicing, parts and accident repairs. However, even if new cars sales start to plateau, and I am unconvinced they will for the reasons given above, UK car dealers look ideally placed to profit from the churn of some of the 6.7m new cars registrations over the last three years as they filter back into the second hand market. There is also upside from aftersales on these cars too.
Picking a bargain off the listed forecourt
In the circumstances, it makes sense to gain some exposure to the listed UK car dealers to try and play the next stage of the re-rating. That's because with the sector priced on a 35 per cent discount to the general retail sector, investors are being overly cautious at the moment, a stance that I believe will prove misguided in hindsight over the coming months. The investment risk here definitely looks to the upside in my view. And having assessed all the listed players the one that stands out most is Cambria Automobiles (CAMB:57.5p).
Cambria was established in 2006 with a strategy to build a balanced motor retail group, through close co-operation with its manufacturer partners and the acquisition and turnaround of underperforming businesses. The company now comprises 29 dealerships, representing 46 franchises and 18 car brands, in a portfolio spanning the high luxury, premium and volume segments. Alfa Romeo, Aston Martin, Chrysler Jeep, Jaguar, and Land Rover are just some of the manufacturers the company represents, selling these cars under local dealerships including County Motor Works, Dees, Doves, Grange and Invicta. Cambria's dealerships are located across England with a geographical spread from the North West through the Midlands, down to Kent in the South East and across as far as Exeter in the South West.
And business is clearly good. Revenues are forecast to be well over £500m in the 12 months to end August 2015, up from £393m in fiscal 2010 when the shares listed on the Alternative Investment Market. Pre-tax profits this year are predicted to rise from £5.4m to £6.8m according to analyst Matthew McEachran at broking house N+1 Singer, or 50 per cent higher than in 2010. On this basis expect EPS to increase by 29 per cent to 5.4p, or 50 per cent higher than five years ago. The board have a progressive payout policy, having doubled the dividend per share to 0.6p in the last three financial years and analysts expect it to be increased to 0.7p in the forthcoming full-year results.
This means that Cambria's shares are currently priced on only 10.5 times likely earnings estimates for the financial year that ends next month, a rating that is at odds with the track record of the company and one that would also suggest that earnings are set to ground to a halt. But clearly that's not going to happen because having successfully acquired and turned around a number of underperforming dealerships, the board led by chief executive and 40 per cent shareholder Mark Lavery are not only looking at acquiring more underperforming dealerships, but with the benefit of a lowly geared balance sheet they are now in a position to consider acquisitions which are earnings enhancing from the outset. These bolt-on purchases will further strengthen Cambria's brand portfolio and progress the company towards its ambition to create a business with annual revenues of over £1bn.
Currently, around a quarter of Cambria's gross profits come from new car sales, a third from used car sales and the balance of 42 per cent from aftersales. Though only accounting for 12 per cent of total revenue, aftersales generate gross margins of 42 per cent, highlighting the fact that the company is actually less exposed to new car registrations than some rivals. Moreover, as new businesses are acquired then this brings even more stable and high margin aftersales business too.
Earnings enhancing acquisitions
A good example was the acquisition a couple of months ago of the Land Rover franchise in Royal Wotton Basset, Swindon from TH White, for a total cash consideration of £7.56m, of which £3m represented goodwill with the balance split evenly between inventories and freehold property. The acquired dealership reported revenue of £32m and profit before tax of £700,000 in 2014, so the purchase will be immediately earnings accretive given that the deal is being funded by a draw down of Cambria's low-cost borrowing facilities and a new £1.57m term loan secured on the freehold property worth £2.25m. It also gives Cambria additional exposure to Land Rover's exciting pipeline of new launches.
It's a tried a tested model as Cambria replicated this deal when it acquired its first Land Rover franchise and a further Jaguar franchise in Barnet, North London, from Hadley Green Garages, which was owned by Lookers (LOOK), for £10.5m a year ago. Goodwill accounted for £5m of the total consideration and Cambria raised a term-loan against acquired freehold property worth £3.75m. These dealerships are very profitable too, having made pre-tax profits of £700,000 in the year prior to acquisition.
The point being that Cambria is not only buying in profitable revenue stream in affluent areas of the country, but there is solid asset backing too. Indeed, I reckon that it currently has property worth £40.3m on its balance sheet on which it has £15.6m of mortgages secured. The term of these mortgages are between five and thirteen years and bear interest at between Bank of England base rate plus 1.25 per cent and LIBOR plus 3 per cent.
The company can certainly afford to continue to seek out additional debt funded bolt-on acquisitions as I estimate that net debt will be around £5.8m at next month's financial year-end, representing only 18 per cent of pro-forma net assets of £33m, or 33p a share. Property backing alone is 41p a share, or 70 per cent of the current share price.
The other point worth noting is that Cambria will benefit from a full contribution from the TH White acquisition in the financial year to end August 2016, so the £40m uplift in sales forecast by N+1 Singer in the 12-month period is largely covered by the acquisition alone. It also means that about three quarters of the £1.2m predicted increase in pre-tax profits to £8m in fiscal 2016 will come from the TH White acquisition alone after factoring in the ability of Cambria's management team to run the previously family owned business more efficiently. It looks a sound forecast to me especially as there is additional mileage to come from the turnaround of other businesses acquired by Cambria in recent years. In fact, a fifth of the estate has been acquired in the past four years.
So having run through the rational for Cambria's earnings growth in the coming year, I am comfortable with analysts' predictions that EPS will rise from 5.4p to 6.3p in the 12 months to end August 2016 and for the dividend to be hiked again to 0.8p a share. This means that the shares are being rated on a miserly 9 times fiscal 2016 earnings estimates and offer a decent enough 1.4 per cent prospective dividend yield. They are also priced well below my 75p a share estimate of fair value.
Risks
Of course no investment is without risks, the most obvious one facing Cambria is weak used car values. The company had stocks worth almost £84m on its books at the end of February, so every one per cent move in prices equates to £840,000. That said, although used car valuations edged down by 0.5 per cent in June, this still represented year-on-year growth of 4 per cent, so the trend is still positive and given the key drivers I have outlined above I don't feel that a hard landing in used car prices is on the cards.
It's also worth flagging up that car sales are cyclical, so when the economy turns down both consumers and businesses sensibly rein in investment. This helps explain why the UK car market has enjoyed such a strong rebound driven by pent up demand from buyers after the 2008/9 recession ended. To put this into perspective, the rolling 12-month new registration figure bottomed at 1.8m cars in the summer of 2009, so there has been a 40 per cent plus surge in demand from those lows. The previous longest run in growth in new car sales was only 26 months in the late 1980s, so the current run is unprecedented. Then again, the global financial crisis which set off the recession was too.
There is also execution risk for a company making acquisitions that are debt funded, and targeting businesses that have been underperforming. There is no guarantee that Cambria's board will succeed. However, the board's record to date is impressive and the fact that pro-forma net assets per share have doubled to around 33p by my reckoning since the company came to Aim five years ago is clear evidence that the strategy has been working. This metric is one I favour when assessing the ability of companies to create shareholder value over the long-run. Importantly, Cambria has not issued any new shares at all, so has not been increasing net asset value per share through share issues at a premium to book value in order to fund acquisitions.
Target price
Having assessed the risks, and assessed the chart set-up and likely newsflow, I feel that Cambria's shares are worth buying ahead of a pre-close trading statement in early September and ahead of the full-year results in November. A close above the June high of 61.5p would take the shares into blue sky territory and signal that the next leg up in the share price has started. A rally towards my target price of 75p, equating to a fiscal 2016 earnings multiple of 12, would then be on the cards.
Offering 30 per cent share price upside, I rate Cambria shares a buy on a bid-offer spread of 56p to 57.5p on a six month basis. Please note that Cambria's top six shareholders own 64.6 per cent of the issued share capital of 100m shares, but the shares are still readily tradable and within the spread in bargains above the electronic market size of 3,000 shares.
MORE FROM SIMON THOMPSON...
At the end of April, I published an article with all of the share recommendations I have made this year. Since then I have published articles on the following companies:
■ Marwyn Value Investors: Buy at 220p, target price 260p ('Exploiting a value play', 5 May 2015)
■ Pure Wafer: Buy at 113p, target 140p to 150p; Paragon: Run profits at 440p, but buy on a confirmed breakout above the 445p and new target of 500p; 600 Group: Buy at 16.5p, target 24p; Fairpoint: Buy at 127p, target 190p; AB Dynamics: Buy at 207p, target 230p ('Repeat buy signals', 11 May 2015)
■ Globo: Buy at 56p, target 69.5p; Greenko: Hold at 70p; Pittards: Buy at 128p ('Breakout looms for mobile wonder', 12 May 2015)
■ Macau Property Opportunities: Buy at 214p; Dragon-Ukrainian Properties & Development: Hold at 28p; Raven Russia: Hold at 53p ('Overseas property plays', 13 May 2015)
■ Trakm8: Run profits at 135p; Redde: Buy at 120.75p, target 140p; STM: Run profits at 45p, but conditional buy on close of 48p and new target of 60p ('Smashing target prices', 14 May 2015)
■ Bilby: Buy at 75p, target 100p ('Buy to build' growth play, 18 May 2015)
■ Bioquell: Buy at 148p, target 170p to 185p; Somero Enterprises: Buy at 140p, target 185p; KBC Advanced Technologies: Buy at 109.5p, target 165p; Inspired Capital: Hold at 14.25p ('Three value plays', 19 May 2015)
■ Renew Holdings: Buy at 315p, target range 350p to 375p; Manx Telecom: Buy at 198p, target 210p ('Renewing old acquaintances', 20 May 2015)
■ Marwyn Value Investors: Buy at 228p, target 260p; Charlemagne Capital: Hold at 13.5p; Bloomsbury Publishing: Hold at 178p ('Lights, camera, action', 21 May 2015)
■ Anite: Buy at 91.5p, target 110p ('Testing a breakout', 26 May 2015)
■ Character Group: Buy at 415p, target 525p ('Playtime', 1 Jun 2015)
■ Tristel: Run profits at 96p; Pure Wafer: Buy at 123p, target range 140p to 150p; Crystal Amber: Buy at 153p ('Hitting target prices', 2 Jun 2015)
■ B.P. Marsh &Partners: Buy at 150p, target range 170p to 180p; Moss Bros: Buy at 110p, target range 120p to 130p; SeaEnergy: Sell at 15p ('Exploiting a valuation anomaly', 3 Jun 2015)
■ Globo: Buy at 59p, target 69.5p; London & Associated Properties: Buy at 38.5p; Greenko: Hold at 44p ('Catalysts for share price moves', 4 Jun 2015)
■ Burford Capital: Buy at 148p, target 190p ('Legal eagles', 8 Jun 2015)
■ Market strategy ('Financial Market Watch', 9 June 2015)
■ Software Radio Technology: Buy at 29.5p, target 40p to 43p; Tristel: Run profits at 92p; Creston: Buy at 136p, target 150p; Sanderson: Buy at 69p, target range 80p to 85p ('Blue sky potential', 10 June 2015)
■ 1pm: Buy at 67p, target 80p; Vislink: Buy at 58p, target 70p ('Small-cap growth stocks', 11 June 2015)
■ Elegant Hotels: Buy at 105p, target 135p to 140p ('Checking into an elegant investment', 15 June 2015)
■ First Property: Run profits at 45p; AB Dynamics: Run profits at 225p and target 250p; Inspired Capital: Sit tight at 20p (Bargain shares updates', 16 June 2015)
■ Trakm8: Run profits at 159p, new target 180p; Anite: Sit tight at 126.75p; Trifast: Run profits at 129p, target 140p; Record: Buy at 37p ('Small cap wonders', 17 June 2015)
■ Inland: Run profits at 71p, target 80p; KBC Advanced Technologies: Buy at 110p, target 165p; Caretech: Buy at 237p, target 300p ('Riding an earnings upgrade cycle', 18 June 2015)
■ Ensor: Buy at 97p, minimum target 125p ('Building up for a takeover', 22 June 2015)
■ GLI Finance: Buy at 54p, target 80p; Pittards: Buy at 128p; Netplay TV: Buy at 9.5p ('A tripple play of small cap picks', 23 June 2015)
■ Bilby: Run profits at 97p; Safestyle: Run profits at 220p; Epwin: Run profits at 134p ('Soaring small caps', 24 June 2015)
■ Faroe Petroleum: Buy at 86p, target 100p; Greenko: Hold at 65p; Communisis: Buy at 48p ('A slick investment', 25 June 2015)
■ Mountview Estates: Buy at 12,250p; Inland: Run profits at 71p, conservative price target ('Running bumper profits', 29 June 2015)
■ Redde: Run profits at 138p, target range 150p to 155p; Trakm8: Buy at 175p, target 200p; Cohort: Buy at 312p, target 365p; Burford Capital: Buy at 175p, target 190p; Flowtech Fluidpower: Buy at 135p, target 155p ('Riding earnings upgrade cycles', 7 July 2015)
■ Crystal Amber: Buy at 161p; Stanley Gibbons: Buy at 258p; Somero Enterprises: Buy at 150p, target 185p; Globo: Buy at 49p, target 69.5p ('A quartet of small-cap buys', 8 July 2015)
■ H&T: Buy at 200p; STM: Buy at 47p, target 60p; Stadium: Buy at 113p, target 140p ('Exploiting upgrades', 9 July 2015)
■ Simon Thompson's book Stock Picking for Profit can be purchased online at www.ypdbooks.com, or by telephoning YPDBooks on 01904 431 213 and is being sold through no other source. It is priced at £14.99, plus £2.95 postage and packaging. Simon has published an article outlining the content: 'Secrets to successful stockpicking'
