Saturday, 1 October 2011

Companies Focus – Pendragon plc vs Lookers plc – Battle of the UK Dealer Giants

It is generally argued that Europe has been the most competitive new vehicle sales region; a fact repeatedly engrained by the earnings results of American VM's. It results from a mix of various factors: condensed populace in urban areas, openness to free-trade / import competition, the previous flow of credit availability and a large, dynamic used vehicle market. The was historically somewhat tempered by the previous domination of numerous local dealers of national champion VMs effectively protecting national and local economies, but since EU economic integration, the Euro generated cross-border competition, making European industry and markets more dynamic, consumer orientated and efficient.

The vehicle sales environment of the UK could be said to have preceded the European transition, its longer held laissez-faire governmental policy approach 'open to competition and free trade'. That exposed the indigenous VM motor industry as inefficient in the 1960s, encouraged the influx of imports since the mid 1970s, helped establish Japanese transplant factories in the 1980s, and assisted the takeover of portions of the domestic auto-industry by Germany in the 1990s and India in the 2000s. Simultaneously as the production-base was 'sold-off' – though often effectively still UK owned at arms length by UK financial institutions – so the automotive retail environment soared. It was under-pinned for decades by an increased differential between real earnings and product pricing cheaper cars. That in turn grew the national car-parc, which generated a greater number of ever younger used vehicles which spread amongst and to the benefit of 3rd and 4th owners, and so raised the living standards for many. This trend boosted again – to arguably too far a degree - by the previous availability of credit, in its turn created the conditions for an arrival of the US style 'used-car warehouse', an arrival which set tremors through long established dealers at national and local levels.

Unsurprisingly such a dynamic market environment set changes apace far earlier than in Europe, old and decade after decade established vehicle retailing names were merged and acquired by those that recognised the need and operating power of the consolidation process; whether in the trade themselves or others creating holding companies for portfolio acquisition.

Thus old names like Charles Hurst, Dutton Foreshaw, Platts Harris and Taggart(s) were gradually 'rolled into' the Lookers Group. Whilst Reg Vardy Ltd (whose very name recounts a yesteryear age, established in 1923) was sold to Evans Halshaw, itself an old name, along with Stratstone & Chatfields, swallowed by Pendragon plc.

[NB The Vardy family, now led by the founder's son Sir Peter Vardy, chose to create Vardy Group, comprising of Vardy Venture Capital and Vardy Property Group, both seemingly supporting the evolution of Peter Vardy Ltd for vehicle sales, itself acquiring Perth Vauxhall of Inverness, and using British Car Auctions as business aid. investment-auto-motives believes that move was to simultaneously avoid cash being tied up in portions of non-moving inventory and to send older cross country so as not to undermine local pricing levels, so protecting the Vardy local market].

Hence, whilst there are still a great number of dealer groups typically on a regional format, recent years has witnessed the UK vehicle retail market dominated by a small number of major players.
These include: Inchcape plc (£5.9bn 2010 revenue), Pendragon plc (£3.6bn), Arnold Clarke Group (£2.2bn), Sytner Group (£n/a) and Lookers plc (£1.9bn). Each has had to plot a differing path given the historical natural limits of the UK market.

As seen, Inchcape is by far the biggest today and truly multinational, operating in 24 countries, Arnold Clarke has sought expansion from horizontal integration by creating dealer training centres, and Sytner Group was de-listed to become part of the US giant Penske Auto Group (listed on the NYSE).

But investment-auto-motives seeks to look at a Pendragon plc and Lookers plc in particular, relative to their public-listing status providing easy access to investors, and critically the fact that even though large per se they represent 'animals' within the auto-retail 'jungle' of different size: Pendragon with over 300 franchise dealerships and its £3.6bn turnover vs Lookers with 119 dealers and £1.9bn. So whilst notionally in the same market space of UK retail, each must view its surroundings, the challenges and opportunities in different ways.

Given market dynamics with new changes and constraints, such acumen will be sorely needed to maintain and convey investor interest in an arena that has historically poor margins and periodically tendency for value destruction.

The first signs of peer competition between the two companies was the 2006 battle over Reg Vardy, which as stated went to Pendragon. However, this spotlighted the larger firm's concerns regards the underling when in turn it sought a (failed) hostile take-over bid for Lookers.

Nigh on six years later, these two companies should be back in the spotlight for assessment by institutional stock (and corporate bond) holders, for various reasons:

- A renewed UK focus relative to the present and near-term European economic blight,
- The ability for large scale auto-retailers to demand (and receive) discounted wholesale prices from mainstream VMs
- The buoyancy of the 'affordable' used vehicle market
- The need for 'evolutional' multi-aspect business models in this sector

The following then provides a very brief, scantily researched, overview of how these 2 companies will competitively face each other in the small island that is the UK, and critically which of the two looks to offer best potential to investors.

The following (accompanied by the 'overlap' & 'divergence' graphic) provides a basic comparison of the 2 businesses, across:

- the size and shape of the business
- the vehicle brand offered
- the recent financials

Business Size & Shape -


>300 UK Dealers
New & Used Cars:
- Stratson (Luxury)
inc: BMW, Ferrari, Aston Martin, Maserati, Porsche, Mercedes Benz, Jaguar, Land Rover, Lotus, Mini, Smart, Honda
- Evans Halshaw (Volume)
inc: Vauxhall / Chevrolet, Ford, Hyundai-Kia, Nissan, PSA Citroen Peugeot, Renault.
- Chatfields (Commercials Vehicles)
inc: DAF, LDV, Renault, Nissan
- California Division (9 Luxury Dealers)
inc: Aston Martin, Jaguar, Land Rover

Support Businesses:
Leasing Division: Pendragon / Bramell / Vardy. ..Contracts
Parts Division: Quickco
Software Division: Pinewood (dealer back-office)

Recent Financials:
H1 2011 vs H1 2010

Turnover - £1,773.2m vs £1.833.4m
CoGS - £1,531m vs £1,578m
Gross Profit - £242.2m vs £255.1m
EBIT - £42.5m vs £40.1m
PbT - £18.2m vs 13.3m
Net Profit - £13.3m vs £8.4m
Op. Margin - 2.4% vs 2.2%
Basic EPS - 2.0p vs 1.3p
Dividend - none vs none
Net Debt - £294.9m vs £325.5m
Goodwill % - 24.7% vs 25.6%
(of asset base)
Market Capitilisation £135.58m

Pendragon's H1 2011 Operational Highlights:

Turnover for the period reached £1,773.2m from £1,817.4m a year earlier, showing a £-44.2m decline. YoY an underlying operating profit of £42.5m from £40.1m, much of that £2.4m addition directly added to the PbT figure, showing a growth of £2m from £15.2m to £17.2m, up 12.7%. Underlying profit margin grew to 2.4% (from 2.2% a year earlier).

Unfortunately the operating profit contribution from the luxury car division Stratstone shrank by 9% from £17.1m to £15.5m, losing £1.6m, but counter-acted by 19% growth in the volume division Evans Halshaw showing a YoY rise form £12.1m to £14.4m, and 15% growth in the additional divisions from £10.9m to £12.6m.

Cashflow from operating activities markedly increased in H1 2011 from the prior period, to £73.5m from £5.2m. This drove FCF to £35.3m from £-28.3m. Debt was reduced to £-294.9m from £-346.7m.

The company was re-capitalised via a £75.2m share rights issue, a tentative market taking 67.7% of the stock offered, the remainder of the 'rump' absorbed by company under-writers. And it was agreed that the present pensions deficit would be eliminated from a “property-backed transaction that reduced cash outflow by an estimated £46m p.a. By 2014”


>119 UK Dealers
New & Used Cars:
Ford, GM's Vauxhall & Chevrolet, VW's SEAT & Skoda, FIAT & Alfa Romeo, FIAT-Chrysler's Jeep & Chrysler, PSA's Citroen & Peugeot, Renault & Nissan, Hyundai, Toyota, Honda, SAAB,
Range-Rover, Jaguar, Daimler's Mercedes-Benz & Smart, Volvo, Mazda
(Charles Hurst N. Ireland includes) Bentley, Aston Martin, Maserati, Lexus
Motorcycles: BMW & Yamaha

Used Cars:
Lookers Used Car Supermarket: Lookers Trade Centre(s) in Bristol & Burton

Support Businesses:
Lookers Leasing Division
Lookers Parts Division: Ferraris Piston Services (not related to FIAT-Ferrari).
Lookers Agricultural Division

Recent Financials
H1 2011 vs H1 2010Turnover

Turnover - £1,002m vs £988.3m
CoGS - £-868.9m (86.7%) vs £-850.7m (85.25%)
Gross Profit - £133.3m (14%) vs 137.6m (14%)
EBIT - £28.5m vs 29.1m
PbT - £21.3m vs £21.4m
Net Profit - £15.5m (1.54%) vs £15.1m (1.51%)
Op. Margin - 2.85% vs 2.14%
Basic EPS - 4.04p vs 3.5p
Dividend - 0.8p vs 0.6p
Net Debt - £-49.7m vs £-60.7m
Goodwill - 8% vs 7.9%
Market Capitalisation £201.35m

Lookers H1 2011 Operational Highlights:

Turnover for the period reached £1002.2m, from £998.3m last year, showing a £3.9m improvement.
YoY an operating profit of £28.5m from £29.1m, thus a £0.6m decline. A similar difference reported in the YoY Adjusted Operating Profit showing £29.2m vs 29.8m previously. That gap was closed at the PbT level, showing £21.3m from £21.4m previously.

Commenting on the results, Lookers Chief Executive Peter Jones said:
“We are pleased to announce that we have delivered a strong trading performance in the first six months of 2011. Our motor division produced a creditable result notwithstanding the weak new car market and the parts division produced another record trading performance. Operational cashflow for the period was particularly positive resulting in a strengthened balance sheet which gives us confidence that we can continue to grow the business, deliver satisfactory results for the full year, significantly increase our dividend payments and be in a position to pursue strategic growth opportunities as and when they arise.”


Thus we see the broad similarity of core operational activity across new and used cars in all segments, with accompanying after-sales businesses for servicing, repair and maintenance. Both companies support their After-Sales businesses with Parts divisions, thus creating a natural 3-level order

The primary difference then is the focus upon Motorcycles at Pendragon, seen as complimentary in the consumer realm at showroom retail level, whilst Lookers targets the business realm of agriculture as an adjunct to its commercial vehicles and parts delivery activities. This difference no doubt a direct result of regional footholds, Pendragon in more urbanised regions such as S.England vs Lookers (esp Taggarts) in more rural areas (esp Scotland).

Pendragon Performance & Outlook:

The Stratstone luxury division's 9% loss in operating profit showed the changed conditions for business owners and wealthier individuals & families through H1 2011, a level of insecurity that has only grown into H2 as the reality of the UK's immediate economic outlook was (at long last) made clear by the Treasury. The company's confidence in the new product arrivals of facelifted Jaguar XF and new small luxury SUV the Range Rover Evoque looks justified given the 'face-fixed' Jaguar (now with contemporary headlight shape & new diesel 4 cylinder) and the expansion of the RR brand into a lower price bracket so expanding customer catchment.

However, the unfortunate near-term UK economic horizon will reduce both VM and dealer sales expectations given what would have been positively re-worked figures; possibly even through the H1 sales downturn reality. Thus the cars will prove popular and attract showroom visitors, but given their own constrained wallets, customer's will expect a continuation of the discounts seen by JLR in recent years, obviously more so on XF than Evoque. Unfortunately, what may be necessary discounting combined with absorption of part-exchanged series-1 XF's and large (increasingly unwanted) LR/RR products will take a toll on expected margins and critically the mix on used vehicle inventories will themselves need heavy discounting even in a positive used car market. Thus immediate sales should boost Stratstone's top-line and feed through to paper-based profitability, but there could well be an invisible drag on its general vehicle inventory asset value which may sit under the immediate radar for investors.

The Evans Halshaw division dealing in mainstream vehicle will face headwinds as purse strings re-tighten into H2 2011, traction still maintained given the static UK environment but Q3 & Q4 growth dropping to an expected 8-12% from the H1's YoY 19%. Thus new car ordering systems may require re-evaluation, and greater consideration may be required as to how to gain advantage in the used vehicle sector (akin to Lookers' 'supermarkets' and Peter Vardy's use of its auction house affiliations).

The recent upbeat trend in the sales of lifestyle motorcycles (from 2008-9 collapse) which Pendragon accesses via BMW and Yamaha will falter again, so major efforts will need to be made to off-set the loss with new and renewed by corporate and government agency fleet sales & leasing as their motorcycle fleets require renewal. If not already the case, Pendragon could seek to create a new business unit from an intake of part-exchanged large capacity part-exchanged, dedicated to those ex car drivers who wish to use affordable commuter transport, and a bike replacing one car of a two car household.

Given the correctly recognised ageing of the UK car-parc, Pendragon was right to see the additional potential in service and repair. However, the re-appearance of the small independent garage as a consequence of the recession and sector recognition of the ageing car trend, means that competition for the additional business will be rife. Pendragon reacted well by introducing 'Quicks' as a servicing sub-brand to offer old(er) car owners an alternative yet credible format given their historical dissuasion from using a typically more costly main dealer covering high overhead.

Thus the 'Quicks' alternative 'service and repair' marketing format should capture an appreciable level of the used car servicing segment at a local level. But the model will require fine-tuning itself to maximise returns. This includes an obvious greater bias toward 'servicing' given the increasing likelihood that older vehicles are judged by insurance companies as beyond “economic repair”. It also necessitates far greater cost-alignment compared to the standard operating model in which costs can be passed on to the customer. That means focus on the baseline costs and operating flexibility of 'Quicks' vehicle technicians – contract periods, hourly rates, garage allocation etc – so as to compete with lower cost independent garages, and also off-set the additional costs incurred from advertising overhead etc. If not already investigated successfully, one such supporting action could be the deployment of dedicated night & early-hours shifts for technicians in geographically permissible non-residential or mixed-use areas. Thus sweating the infrastructure assets, reducing overall fixed costs whilst absorbing a proportionately small rise in variable costs, so possibly able to meet the 'Quicks' business break-even point earlier than planned – seemingly 24 months from the March 2010 set-up.

The new business obviously extends the intra-company synergies as a 3rd customer for the Quickco (parts) business, adding additional volume parts sales to the Evans Halshaw demand, aswell as additionally gaining what are typically higher margin units sales contribution for similar 'under-skin' parts from Stratstone. The outcome of Ford's previous prolific platform / systems / components sharing across Ford, Jaguar, Land Rover and Volvo vehicles, now in the aged car-parc should provide continued 3-fold boost to Quickco via its 3 sister companies.

The buoyant rebound of the UK's Van and Truck markets since Feb 2010 and Sept 2010, moving up by 34% and 27% respectively, will have been a long awaited boon to the CV division Chatfields.

As for the 2011 Outlook at mid-year, the CEO Peter Jones and fellow directors presented a generally positive picture across the areas of: Aftersales, Used Cars, New Cars & Financials.

In After-sales, the contraction of the new car market was being countered by actions toward expanding used car aftersales work – as seen with 'Quicks'. In the Used Car market Pendragon did indeed outshine the general market, and saw little change in the remainder of 2011. In New Cars, it recognises the headwinds of a flat TIV (as per SMMT forecasts) but sees new product launches as assisting. As said, investment-auto-motives suspects that a boost will be visible but will also add other pressures to the inventory mix and depreciation values, so onto the non-current element of the balance sheet. As for Financing, the over-indebted capital structure is being re-structured (at the maintained rate of LIBOR plus 3.5% but now with reduced fees and covenant of a share warrant; but that came at the cost of unpaid dividends previously, due for re-instigation – albeit at probably a low level – a some point in FY2012.

Lookers' Performance & Outlook:

In the first half of the 2011 the company added 2 more franchises to existing locations, thus adding the prospect of additional turnover at minimal cost to overhead, a positive move. The acquisition of 'The Audi Centre' of South Dublin in Ireland however, may have been ideally mistimed and in the short-term value destructive, given the still fragile Eire/Irish economic outlook.

However, Lookers obviously sees the site as a long-term opportunity with the intention to develop the site as a flagship store for Lookers' multi-brand portfolio. That is creditable and the inclusion of what is expected as entry level and mid level VW and other mainstream brands will no doubt create a site that allows a brand-ladder 'walk-up', much in the manner that VAG (VW-Audi Group) dealerships did in the 1970s & 80s. However, there will be lacklustre income for a period that must be managed with constrained overhead whilst franchise development planning proceeds.

The closure of 5 under-performing stores demonstrates in the H1 period demonstrates a necessary hard-headed approach to avoiding profitability drag for the company at large. Such actions whilst unfortunate serve not only to re-direct traffic to other Lookers dealers in the region, but also should provide impetus to dealer principles elsewhere that profitability targets are to be taken seriously in this slow sales environment. Such a message though must be conveyed with recognition that dealer principles have the autonomy to re-shape as viewed fit – and within practice guidelines - their local showroom.

The acquisition of Get Motoring / VRS appears a positive strategic move given the previous pick-up in the fleet market. This then adds scale to enable grater client catchment and critically 'feed-into' other areas of the Lookers business. Moreover, beyond the tactical and into the far-horizon strategic, it appears to serve long-term trends in UK demographics, economics and vehicle use patterns. It adds scale to the present leasing business and may have been undertaken to eventually give vertical value-chain access to the private client marketplace which has grown albeit slowly through private car hire schemes such as ZipCar (of the USA) & StreetCar (of the UK). The former acquired the latter in late 2010 to obtain greater UK access and market coverage, this action itself possibly seen by Lookers as validity for seeking to offer a similar service as adjunct to in-situ operational strengths.

Less positive were the new car sales levels of H1 2011, with a general market contraction of 7.1%, the retail side (as opposed to business and fleet) reducing by 18.1%. Lookers sales however remained above trend, with 'only' a -12.7% reduction YoY. This then allowed Lookers to 'beat the market' by 5.4%, buoying its market share to 4.04% from 3.8% in 2010. Gross profit per unit on new retail cars was stated as remaining in line YoY. Through focus on higher quality fleet business.

Back in May-June, Lookers' “order take” for the important month of September was “on plan”, but recent heavy UK economic headwinds has probably dented that previous expectant forecast which set a similar level to H2 & FY2010.

Used cars sales increased by 5% YoY on a like for like basis, with gross margins decreased slightly by 3.4%, but offset by the increased volume. Rightly recognised by Lookers (indeed expectedly so) “The used car market, which has annual sales of circa 6.7 million vehicles, remains a huge area of opportunity for the group. Through improved sourcing and a broader stock mix, together with rigidly applied stock control policies, we expect to take advantage of the stable market conditions in the used car sector to improve volumes and margins”.

This then demonstrates the company's recognition of its 'bread and butter' business, theoretically able to deploy its know-how and resources in what has become over recent years the more profitable arena of vehicle sales.

This corporate attitude then builds upon then the previous initiative which created the 'Lookers Car Supermarket', presently operating out of 2 large-capacity premises.

[NB Some years ago, large UK dealers were faced with to the challenge of the emergence of a new American-esque "stack 'em high" business model for used cars. Initiated by the likes of AutoNation and CarMax, there were soon UK variants such as CarCraft, Cargiant, AutoPlanet, The Motorhouse etc. Each seeking to replicate the success of those US first-movers. That forced traditional dealers to 'morph', but they have done so in different ways.

Bristol Street Motors with its nationwide network simply appears to have used a veneer re-brand primarily over the internet, directing interested customers to its standard (if graphically altered) showrooms. Though of course cost-effective, it does not reflect the true 'CarSupermarket' spirit, or indeed client expectation. Lookers chose to mimic the trend, thus combining brand power with inventory throughput leverage]

From general observation this appears the right path for developing the business, reflecting the old adage of turning a challenge into an opportunity. So, the 2 current sites will need to be added to depending upon the market dynamics and competitor fortunes.

[NB the obvious 'down the road outcome' is that a consolidation of the Supermarket genre is necessary].

Nonetheless, over the next decade or so, this initiative appears a primary strategic imperative.

This plan to roll out more Looker CarSupermarket sites is implied by the former mention of used car market opportunity. Such a distinct move to apparently increasingly split the business between 'new' and 'used' has consequences for the present all encompassing dealer network, especially so its property base. Thus, reading between the lines and forecasting the effects of such a structural change, means that a 'split-markets initiative' would determine that:

a) less inventory space would be required at the typical high-street dealership, now dealing only in new vehicles; so allowing alternative lease or sale of the redundant land.
b) the removal of used cars allows dealers to improve their new vehicle offering, the additional scale gained giving greater wholesale buying power from VMs and so re-buoying unit margins.
c) the probability that Lookers decides a 'mixed bag' of these 2 options depending upon site.

The After-Sales portion of the Motor Division expectantly continued to grow through H1, although the management pointed-out a decline in the 1-3 year old car-parc. That was seemingly off-set by servicing needs of the expanding older car market, with higher average ages than seen for some decades. Similar YoY margins were maintained. Importantly Lookers has broadly mentioned its Customer Relationship approach and implementation, recognising that during economic lulls that maintaining customer loyalty, so increasing per visit spend must be done via cost-effective CR routes. This achieved with focus upon longer term 'care contracts' and diagnostic equipment which identifies the general trend for increasing 'vehicle problems'; thus creating a kind of virtuous income circle.

[NB this will be the same at Pendragon and other major dealer-networks and dedicated service, tyre & MOT companies].

The Lookers Parts Division primarily feeds independent motor factors which in turn supply independent repairers; with 2010 as a record year in 2010. Turnover for the division increased by 7%, operating profit increased by 3%. This stable upward trajectory should be set to increase as the independent repair sector sees a greater volume of cars needing repair. As such, Lookers says it views its Parts division as the major differentiator compared to its competitors – and hopes investors will see similar - since it “provides a high quality earnings stream that is subject to fewer fluctuations in the demand for new and used cars”.

As would be expected, primary operational focus has been on working capital management and cashflow, assisted by sale of surplus assets, which realised £12 million in the first half of the year. Net debt continues to be well managed and is at a lower level than both budget and the start of the year. The “significant headroom” in bank facilities, should allow Lookers to take advantage of strategic acquisition opportunities across both Motor and Parts divisions

A recent Strategic Review was undertaken to assess strategic options for the business and critically deliver shareholder value. The BoD looked at what value could be obtained by splitting and divesting either of the divisions, but concluded that the optimum path forward maintained current organisational structure of Motor & Parts, seeking organic growth and selective acquisition,

Conclusion -

The automotive retail trade is a portion of the automotive-sector value chain which, because of its innately heavily-weighted labour force has a 'per unit' effect, has for decades has been viewed by VMs as a 'necessary drag' on their own profitability, whether dealerships held 'in-house' or on a franchised basis.

Those franchised dealer network groups that survived the bouts of value destruction in economic downturns did so with growth obtained via sector consolidation, necessary route since the near saturation of the UK market by the mid 1980s. Thus the only model by which a company could survive with attractive profitability margins was the classic tale of scale efficiencies: increased volumes to improve turnover whilst simultaneously undertaking a centralisation of administration and back-office activities, so reducing group-level overhead.

Thus today’s UK giants – here represented by Pendragon & Lookers - are the evolutionary outcome.

However, BoDs recognised that even this answer to market saturation could not be ever re-played within a free-market policy climate which discourages cartels, duopolies and monopolies, so necessitating previous efforts to diversify into complimentary adjoining sectors; both through vertical and horizontal integration. Thus both Pendragon's and Looker's capture of Parts & Leasing on the vertical plain, and respectively Motorcycles and Agricultural on the horizontal plain.

This then assisted UK-centric earnings streams, but a continuation of the 'scaled efficiencies' argument is a hard one to resist given its foundational basis for most if not all advanced market auto-retail models; and one so adroitly accomplished by the biggest player Inchcape plc. This perhaps especially so in an ever more widely inter-connected IT driven world. Thus, ongoing expansion into international markets looks compelling, the eventually rebounding US and new growth EM regions prime targets. Yet past experience of internationalisation can leave bitter after-taste, as has been found by the likes of Marks & Spencers in general retailing with its Brookes Brothers acquisition. A similar comment is made on wikipedia stating that Pendragon overpaid for its Californian assets and undermined local performance by 'parachuting in' UK managers.

However, those dealers now appear to offer a slightly better contribution to the bottom line than the UK dealer-base, but exactly when that cost centre broke-even – if it indeed has – is unclear given the limited research herein. Nonetheless, internationalisation is a medium and long-term ambition which will always sit on the executive radar, more so today under the economic 'new world order', and that classic orthodoxy for driving scaled and synergistic efficiencies will be a hard one to resist for Pendragon given that arguably 'oversized' in the UK market it may well follow in the footsteps of Inchcape, possibly forced to do so given Penske's possible backing of Sytner multi-national expansion relative to fluid US capital markets.

Pendragon's international expansion may be seen as the viable option given the state of play in the UK. Maintaining its UK presence with good-performing outlets to await the upturn, yet disposing of poor performers to eliminate financial drag.

Moreover it has well recognised the manner in which the new and used vehicle markets have structurally changed, and reacted in a meaningful structural manner with the introduction of the lower priced 'Quicks' after-market servicing brand (vs Halfords-Nationwide Autocentre, Kwik-Fit et al). The value of the after-sales sector is perhaps best demonstrated by Pendragon's YoY average gross profit margins, growing from 57.3% in H1 2010 to 59.9% in H1 2011 on a like for like basis.

Pendragon could well have instigated its own 'CarSupermarket' business model but chose not to, probably seeking an alternative route away from what it saw as an increasingly over-crowded space. But beyond deploying 'Quicks' – a natural strategic reaction – investors may view the company as either possibly accidentally dithering or possibly intentionally stalling, if indeed it has additional bigger and better strategic plans.

As of today though even tell-tale signs of any re-orientation, re-structuring plans have not been made public, and so such 'dithering' when matched with the lower margin performance compared to Lookers (and probably others), plus the fact that dividends were stopped in H1 2011 unfortunately leaves Pendragon looking like the 'clueless poor cousin' amongst its foes.

This may not be the actual case, and the BoD may be playing a cunning game of value reconstruction yet to arrives, but here and now that looks remote, and the UK market challenges look not to have as yet been fully combated or conquered.

Conversely the far smaller Lookers, since its daring 2006 attempt for Reg Vardy, has played a comparatively thoughtful long-game of constant cost-reduction focus and ploughing time, finances and effort into revitalising its dealer-base aswell as underpinning its 'CarSupermarket' new venture, which combines brand and operational leverage, so as to meet the UK used car challenge head-on.

This is implicitly described by the CEO “The total vehicle car parc in the UK market is over 30 million vehicles, with just over 6.5 million of these being in the conventionally, dealership dominated 1 to 3 year vehicle parc. In contrast to the younger vehicle parc, the 4 year plus vehicle parc in the UK has benefited from growth in recent years” .

Thus, whether through gentlemen's agreement or not, and very probably from their investment bankers advice, Pendragon and Lookers have taken alternative UK strategic paths within the used car realm, the former targeting Used Car After-Sales, the latter targeting Used Car Sales.

However, beyond the recent forays into synergistic new business streams which will underpin long-term earnings, both companies will need to seriously look at both continued organic growth and open their minds to incorporating alternative business models.

The prime difference, investment-auto-motives suspects, being that:

A. Pendragon seeks international expansion enabled by the present low cost wholesale capital markets which can also be exploited to provide EM customer credit lines


B. Lookers seeks UK expansion (possibly buying specific Pendragon sites) and seeking to dominate the 'CarSupermarket' business arena by acquiring the sites of its private company competitors.

Apart from such rationale-based forecasting in the normal operational realm, efforts must be made to observe and prompt alternative business models which potentially pre-empt far-horizaon trends in both declining western markets and rising EM markets.

To this end, Lookers may be philosophically ahead. Its recent drive to expanding its leasing business with the acquisition of Get Motoring / VRS look to be signs seeking a path by which to ultimately transfer the present (typically) B2B mentality of leased vehicle agreements into the B2C sphere. This is something seen with PSA's own adventurous 'mu' rental model. And indeed the Lookers-VRS business could even possibly be an acquisition target for PSA in years to come.

Exactly how successful this may be is hard to judge, since much depends upon the strength of the UK's eventual economic rebound.

But a permanently weak 'New Norm' (as investment-auto-motives & PIMCO's El-Erian have both mentioned and re-mentioned) would point to a trend of longer lived used car re-use, and an long-term 'thinning trend' of car ownership (especially in cities) so diminishing the need for either a sizeable dedicated car sales network, or more likely, the metamorphosis of that network becoming a mixed-bag of car sales, leasing and rental.

The very basic insights unearthed then point to a classic tale of a bigger, more lumbering beast, versus the smaller, hungrier and more agile smaller animal.

Pendragon which whilst certainly not resting on its laurels, may be viewed by the investment community as needing to be seen as more dynamic. Lookers in contrast investigating and jumping upon short-term, medium-term and long-term initiatives.

Yet by virtue of historic precedence and its innate grasp, the traditional UK retail trade - even in this watershed period - is not about to see drastic business model disruptions, nor to be eclipsed by alternative sales methods and channels. Instead new developments physical and virtual will continue to be deployed so as to broaden customer catchment, and used to access additional sales avenues from partnering with independent 'on-line on-sellers' that crawl dealer inventories for its own clients, through to greater potential for co-opetition with cross-brand/cross-group vehicle sourcing and sales.

But even with e-commerce as an entry place, the car-buying customer still wants to see the potential in the flesh first, hence the physical need for the old fashioned car dealer will stay, indeed develop as it incorporates 'experiential' aspects which converge commerce and leisure; akin then to the shopping mall experience.

Thus Pendragon and Lookers will need to combine the 'olde worlde' with the 'new world', yet do so without the over-blown 'dotcom' type rhetoric so often used in trying to attract investors toward what appear as over-ripe, capital market under-performing sectors and businesses.

[NB one 'fundamentals' measurement that investment-auto-motives views as critical is the ratio of 'goodwill & intangibles' relative to the overall reported asset-base. Pendragon appears to hold a mighty 25% of such goodwill, whilst Lookers holds 8%. The former figure may be tenable for a company's bankers happy with their own rolling credit facilities, but for the value or growth seeking investor such a comparatively high goodwill figure in such a mature business sector appears concerning].

As of today the facts and figures show Lookers to hold that investor interest, just as its name was devised to attract showroom footfall. The seemingly mighty but staid Pendragon – whose name intimates 'head dragon' from Arthurian legend – may need to either drip-feed information on future strategy, or possibly step outside its Den, and once again closely survey the national and international terrain.