Financial Mail - Investors Monthly
NOT FAST, NOT FLASHY
But dependable CMH keeps clocking up profits
Most companies can look like superstars in boom times but not many have what it takes to beat the odds when the going gets really tough.
Combined Motor Holdings (CMH), a company that seldom, if ever, makes bold headlines, has proved it has what it takes.
The vehicle dealership group headquartered in Umhlanga, KwaZulu-Natal, made it look easy as it lifted headline EPS from 156.7c in its financial year to February 2014 to 332.9c in 2018. It represented an increase of 112% and an average annual growth pace of 20.7%.
CMH shareholders were also rewarded through dividend payments which were upped by 106% between 2014 and 2018.
As impressive was CMH’s ability to improve profitability. One key metric, return on shareholders’ funds, improved from a solid 27.2% in 2014 to 38.9% in 2018.
CMH achieved exceptional growth against the backdrop of one of the worst slumps yet in new vehicle sales.
Between 2010 and 2013, new vehicle sales showed exceptional growth, rising in total by almost a third from 492,907 to 649,914. Then the wheels started to come off.
In 2014 new vehicle sales came in 0.7% down. The pace quickened in 2015 with sales falling 4.1%.
The big damage came in 2016, when new vehicle sales plummeted 11.4% to 547,546. It left total vehicle sales down 101,669 (15.7%) on the level of just three years earlier. Car sales were hardest hit, falling by 89,032 units (19.8%) to 361,264 in 2016.
There was some respite, though marginal, for the hardpressed motor industry in 2017. Putting on a late-year surge, new vehicle sales for the year ended 1.8% up at 557,586, an increase of about 10,000 units.
Car sales edged ahead by 6,800 units, but for the luxury end of the new car market there was no joy, with sales falling 8.1%.
“Over the past three years sales of luxury cars have fallen by more than 35%,” says Jebb McIntosh, CEO and co-founder of CMH.
CFO Stuart Jackson adds: “New car buyers have been shopping down to more affordable vehicles. In the entry-level to medium-priced segments OEMs [original equipment manufacturers] have been keeping pricing flat.”
CMH has been fortunate in having a relatively low expo-
sure to the luxury end of the new car market. “We only represent Jaguar, Land Rover and Volvo in the upper end,” says McIntosh.
CMH’s past financial year to February was another particularly successful one, with HEPS coming in 17.1% up and the dividend increasing by 15%.
The key driver of profit growth was the vehicle retail segment, where revenue was up 3.4% to R9.95bn, 93% of group revenue of R10.6bn. The big boost to the vehicle retail segment came from an increase in operating margin from 2.57% to 3.08%, which resulted in operating profit jumping by R60m (24%) to R307.47m, 70% of the group total of R438.38m.
Driving the vehicle retail segment’s operating margin higher has been an important focus for several years — it has risen from 2.2% in the year to February 2014.
“We have been closing lossmaking branches,” says Jackson. “It has limited total revenue growth, but growth from our continuing operations remains strong.”
Indeed, it does. “We achieved [volume] sales growth of 11.8% across new and used vehicles in our past year,” says McIntosh.
So far in CMH’s current financial year new vehicle sales have been moving in the right direction, increasing by 1.1% in March, 3.6% in April, 2.4% in May and 3% in June. But how sustainable is the improving sales trend?
Nico Vermeulen, director of the National Association of Automobile Manufacturers of SA (Naamsa), says there are three key trend indicators to consider: GDP growth, interest rates and vehicle prices.
At present the outlook for GDP growth is improving — off a very low base — while interest rates are likely to remain stable. The really big impon- derable, says Vermeulen, is the future movement in new vehicle prices, which are closely related to strength or weakness of the rand.
In 2017 a strong rand enabled OEMs to limit the weighted average increases in car prices to just 2.1% and in light commercial vehicles (LCV) to 4.4%. Of concern, warns Vermeulen, is that the rand has weakened by about 9% to the dollar this year.
Naamsa does not believe the growth pace in the car segment in the first half of the year will persist and for the full year predicts that sales will rise by only 1% to 375,000. LCV sales are expected to grow 4.2% to 170,000.
Naamsa expects the pace in the car segment to pick up in the following two years and predicts 2.1% growth in 2019 and 3.4% in 2020. LCV sales are predicted to grow at around 4% in both years.
While Naamsa’s outlook indicates reasonable trading conditions, it is a far cry from the boom times when in the four years to 2006 new car sales doubled from 241,000 to a record 481,000.
To sustain its strong profit growth trend, CMH will be looking to continue shifting vehicles off its showroom floors at a pace well above the industry average. Making this even more imperative, Jackson says increasing the retail sales operating margin much further will be a big ask.
McIntosh is confident that CMH can continue to outperform the market. In its favour, he believes, is the group’s adoption of digital marketing channels, which is providing it with a solid competitive advantage.
“We have established a dedicated digital marketing unit which I believe has put us a step ahead of the opposition. Between 80% and 90% of our marketing effort is now through digital channels.”
But McIntosh is quick to emphasise: “The basics remain the same. It is only the way we go about doing them that has changed.”
The basics, which McIntosh says revolve around a “handson management” style, have been in place since he and Maldwyn Zimmerman joined forces in 1976 to establish CMH.
It was a very small start. “We began with three dealerships selling Datsun, Chrysler and Chevrolet vehicles,” says McIntosh.
Expansion was measured. “We steadily added vehicle franchises, but we never undertook any major acquisitions,” says McIntosh. “You could say we built the business brick by brick.”
Though McIntosh is now 72 and has served as CMH’s CEO for an exceptional 42 years, he has no intention of retiring any time soon. “I am in good health and still passionate about the business. But when the time does come for me to retire there are a number of executives who will be very capable of taking my place.”
Importantly, McIntosh’s interests have always been closely aligned with those of other shareholders. With a 34.8% stake in CMH worth R740m he ranks as its largest shareholder. Jackson, who has been with CMH since 1979, ranks second with a 7.9% stake.
Through its strategy of gradual expansion, CMH today operates 59 retail outlets in KwaZulu-Natal, Gauteng and the Western Cape and represents 16 OEM brands. Based on its past experience, the biggest drivers of sales growth are Toyota, Nissan, Honda and Mazda.
CMH is continuing with its gradual expansion and will in its current year add seven to eight new outlets, says McIntosh.
But expansion does not come cheaply. “The days of the big showroom are gone, but OEMs continue to insist on us having showrooms purposebuilt to their demanding spec levels,” says McIntosh. “In reality customers no longer care a darn.”
Over the years, CMH has also diversified into other areas of the motor industry, one of the most notable being into car rental. It is a market segment CMH entered in 1999 when it acquired the SA franchises for US car rental groups National and Alamo.
CMH went on its own in 2008 with the establishment of its own brand, First Car Rental. “We have built a great track record in vehicle rental,” says Jackson.
Today CMH’s rental division operates through 51 branches with a fleet of 7,000 vehicles with a value at cost of more than R950m. In CMH’s past year First Car Rental generated revenue of R497m and a 10% rise in pretax profit to R64m, 19% of the group total. Measured over five years, the division’s pretax profit was up by more than 170%.
Another division that has provided a useful boost to group results is financial services. In the past year it delivered only a 3% rise in pretax profit to R34m, but over five years its contribution had trebled.
The main driver of financial services profits is vehicle-related insurance, which CMH underwrites for three to five years. The division also has alliances with Absa and WesBank which, says Jackson, represent an important source of commission income.
CMH also comes with a strong balance sheet on which the only debt — R563m at the end of February — is related to its rental fleet. Cash on the balance sheet at the end of February stood at R373m, while net cash flow for the year amounted to R134m after tax.
Overall, CMH is an impressive company managed by arguably the most experienced and capable team in its industry. And while its profit performance has also been in a class of its own, CMH, on a 10.3 p:e and offering a dividend yield of 6.3%, remains a share that shouts value.
For the serious long-term investor CMH demands close consideration.
We have established a dedicated digital marketing unit which I believe has put us a step ahead of the opposition