As we approach the second quarter of 2016, I have highlighted that auto dealers, including CarMax (KMX), would face earnings pressure from squeezed finance and insurance (F&I) margins, used-car pricing declines and high inventories of new cars.
This morning, CarMax gave us the first look at what the auto dealers will print in the coming quarter. It still isn't pretty. While CarMax outsources most of the lower-quality lending, the Virginia-based company still saw margin compression year over year in the May quarter. These trends are not going to reverse themselves in one quarter, and I expect Street forecasts to continue to be ratcheted down from last year's highs.
Valuation multiples can continue to compress as well. There was a time where the dealer group traded at only 10x-12x mid-cycle earnings, which earnings appear to be reflecting at the moment.
Capital deployment continues, however, with many companies in the group, including CarMax, pursuing buybacks and bolt-on acquisitions. Others, such as Asbury Automotive (ABG), Penske Automotive (PAG), and Group 1 Automotive (GPI) are following suit, which could put a (potentially temporary) floor on the current slide in the group.
It was only 12 months ago that the market was expecting the entire group to get gobbled up by the likes of Buffett and Soros. That was when cyclical earnings expectations were being improperly forecasted upward in permanence.
Where are they now with these properties priced at half off?