Lookers PLC (LON:LOOK) has issued a trading update indicating the performance of its new vehicle activities deteriorated as the important September selling month progressed. As a result, Q319 new car gross profit fell by £7m compared to the prior year. In addition, it has accelerated its site consolidation and closure plan to improve operational performance and will take a charge of £8m in H219. Despite robust performances by the higher-margin used car and aftersales segments, management cut its FY19 underlying PBT guidance by 50% to £20m. The CEO and COO are both stepping down with immediate effect. The interim executive team and full-time replacements need to focus on restoring internal and external confidence, as well as driving recovery in still-challenging markets.
September new car sales disappoint
As the second largest selling month of the year for new cars in the UK, September is crucial to second-half performance. Management had been satisfied with advance orders, but additional sales failed to appear as the month progressed. The impact seems likely to be due to continuing political uncertainty undermining confidence, especially amongst consumers. Lookers’ Q319 like-for-like retail new car unit sales fell 11.5% (H119 -5.6%), with volume brands particularly affected. The £7m drop in gross profit is likely to reflect missed sales target performance payments from manufacturers, exacerbating the continued under-recovery of operational cost inflation that was evident in H119. Used car like-for-like sales and aftersales performance appear to have been more in line with management expectations. We have cut our FY19 and FY20 PBT and EPS forecasts by 52%.
Portfolio optimisation
The chairman Phil White and non-executive director Richard Walker are assuming interim executive responsibility. The board has accelerated its portfolio consolidation programme, working with its brand partners, and has earmarked 15 additional underperforming dealerships for closure, with potential relocation or consolidation into adjacent dealerships. The board expects £3m of annual financial benefit and Lookers should then have c £28m of freehold sites available for sale.
Valuation: Awaiting recovery in earnings
The multiple contraction that was apparent for Lookers in 2019 now appears justified by the drop in earnings. Clearly, as the company transitions to a new management team and despite challenging markets, there is scope for significant recovery in profits, although we take a cautious view of FY20.
Share price performance
Business description
Lookers is vying to be the largest UK motor vehicle retailer, with its new car operations supported by the strength of used and aftersales activities. It now operates 155 franchises, representing 32 marques from 100 sites around the UK, with strong regional presences in Northern Ireland, Scotland, the South East and across northern England.
Earnings revisions
In light of the trading update, we have revised our FY19 and FY20 earnings estimates as reflected in the table below:
Management is also changing the way it presents adjusted profit numbers, no longer excluding charges for share-based payments, pension interest and debt issuance costs to adjust profit. This has no impact on reported numbers or cash flows, but does reduce adjusted PBT by c £5m when restating FY18 and by around £4m in our estimates for FY19 and FY20.
The further presentational revision is shown in the table below:
Q3 trading
While overall Lookers’ Q319 like-for-like new car unit sales fell by 3.2% compared to a market decline of just 0.6%, its retail new car sales dropped 11.5%, with volume brands particularly affected. The £7m drop in gross profit is likely to reflect missed sales target performance payments from manufacturers, exacerbating the continued under-recovery of operational cost inflation that was evident in H119. Used car like-for-like sales were up 2.6% with gross margins recovering some of the 60bp decline seen in H119. Aftersales increased its Q319 gross profit by 2.9%. Overall guidance for FY20 PBT guidance has been halved.
The board has identified 15 additional sites for closure, which may be relocated and consolidated with dealerships in adjacent regions. An additional charge of £8m will be taken in H219 against these portfolio adjustments, of which £2m will be non-cash items. The elimination of the losses at these underperforming sites together with improved operational efficiency from increased throughput at the existing enlarged dealerships should provide an annual benefit to profit of around £3m. In addition, nine of the additional sites are freehold properties, which together with four currently surplus sites should raise proceeds of around £28m, a modest profit over book value.
Both the CEO and the COO have stepped down with immediate effect. The new CFO, Mark Raban, who only joined in August, remains and brings experience from Marshall Motor Holdings to the group. While the board searches for a new executive team, the chairman Phil White and Richard Walker, a non-executive director, are to assume interim executive responsibility for the group’s operations.
Outlook
The guidance for £20m of underlying PBT in FY19 implies the group makes a loss of £9m in H219. The main issue appears to revolve around the new car segment, where performance bonuses from some manufacturers for meeting sales targets appear to have been missed, compounded by lower sales of financial products due to the lower volumes of cars sold. We assume these factors persist in Q4 given the magnitude of the forecast reduction. We note most companies have indicated that brand partners are being helpful in the challenging market backdrop, so our reasoning for the profit drop may be erroneous. We therefore believe that even with site consolidations and stronger cost control measures, the company is unlikely to see dramatically improved performance in FY20. Of course, UK car markets could pick up in the wake of the general election and whatever the Brexit outcome eventually is but, given the current lack of confidence, it seems unduly ambitious to predict that.
In light of this and the weaker trading, the board is likely to at least review the dividend level given the lack of earnings cover, even on an adjusted basis, in both FY19 and FY20.
It should also be noted the FCA has now started it investigation into the sales processes of Lookers’ regulated activities. As the potential outcome of this is unknown, including any financial penalties that may arise, this has yet to be included in our forecasts.
