Agency model yet to disrupt dealer financials, says Zeus Capital

Zeus Capital, the financial services group, has said the switch to an agency model has yet to materially impact dealer group revenues yet.

Writing in Cox Automotive’s latest AutoFocus, its latest quarterly automotive insight update, Zeus’ head of research Mike Allen says PLC dealer groups all made a solid start to 2023 and that trading continues to look robust.

Insisting that the agency model arguably started life as a theoretical strategy for OEMs to reduce network costs, Allen thinks it remains the most pertinent theme in automotive retail.

Allen said: “Likely spawned by management consultants during the dark days of Covid-19, the agency model has now been implemented in the real world by major OEMs.

“Mercedes launched the agency in January this year, and the system seems to have bedded in quite well; whether that will be the case from a trading perspective remains to be seen.”

The latest figures from the Society of Motor Manufacturers and Traders (SMMT) shows Mercedes has seen new car registrations drop by 12% year-to-date as of the end of May, to 34,617 units so far. This drop in volume will depend on a variety of factors, but agency could perhaps be playing a part.

Allen said the agency model is “here to stay”, with other brands like Volvo, VW Group, Stellantis and Ford all planning to make the switch soon.

He added: “Has the agency model had a material impact on trading? In short, we believe the answer is not yet.”

Philip Nothard, Cox Automotive’s insight and strategy director, said the are various different approaches to agency and the way in which cars are sold is currently undergoing “the biggest change for half a century”.

Dealers should gain from cost savings

Allen argues that the most successful businesses (whether a PLC, private group, or start-up) thrive when the customer journey is entirely flexible and built around individual needs.

He said: “There are advantages to the agency model for the dealer, particularly from a quality of earnings perspective.

“In theory, the dealer does not have to invest in stock.

“Suppose the unit economics are pitched fairly, with dealers gaining from cost savings.

“In that case, the theoretical margins and ROCE (Return on Capital Employed) should be enhanced vs the traditional model.

“If this plays out and impacts group financials, it should eventually lead to higher valuations. 

“However, this is some way off as it will take time to develop.”

Allen said the UK economy’s performance in 2023 has pleasantly surprised his company.

He added: “From a trading perspective, the PLC dealer groups have all made a solid start to the year, with trading in March looking robust as demand has remained resilient.

“Following a bruising 2022, we suspect many companies had cautious budgets for 2023, and as analysts, we made conservative assumptions around this, causing a “double discount” effect.

“While we are all mindful that the UK economy is ‘not out of the woods’, as ever, the dealer model and performance are more resilient than they are given credit for.”

A resilient sector

Zeus Capital’s look at the latest valuation multiples, show that UK PLC dealer groups remain close to trough levels despite delivering a resilient earnings performance.

Allen said: “It’s clear that most of the disrupters have been disrupted and outperformed by omnichannel, with public online car retailers’ share prices falling >90% over the last 12 months in some cases.

"Independent used car group Motorpoint has also struggled relative to the franchised dealers, albeit they are investing for growth. US retailers also remain at trough levels, with CarMax still in recovery mode as it has suffered from rising interest rates via its lending business.”

Allen concludes that the franchised dealer model has retained resilience that investors sometimes overlook.

“The perceived cyclicality of the sector no doubt contributes to the low valuations seen across the sector”, he said.

“However, looking at the last 23 years, there has been clear aggregate growth in revenues, profit, and earnings. Looking at the next decade, would we bet against the existing companies to continue to these long-term trend lines (albeit with the odd bump)? Absolutely not.”