The outlook for Australian car dealerships is uncertain, facing long-term risks, yet their valuations/market cap are nearly at historic highs
The Australian automotive industry will face a major change
No tariff protection, and low entry barriers. Why is Australia's new car market facing disruption? It is because the Australian government is unlikely to impose tariffs on Chinese car brands, as there are no local car manufacturers that require trade protection. In contrast, regions like Europe and the United States have domestic car brands that need to be protected through tariffs. As a result, Australia's car market is likely to follow the path of China, with Chinese brands gradually taking market share from European, American, Japanese, and Korean manufacturers. (The Australian market is not suitable for car manufacturers because its volume is too small to achieve the cost advantages brought by economies of scale. As a result, it cannot compete with global brands that benefit from such scale efficiencies.)
Just as Mitsubishi Motors Australia chief executive Shaun Westcott?said: “Our country doesn’t have an industry to protect, everyone thinks this is the place to be, we don’t have any tariffs, we don’t have any barriers.” Mitsubishi Motors Australia chief executive Shaun Westcott[1] also claimed:“We’re going to go into a period of excess supply, and not everybody will survive that, and there’s going to be a bit of a bloodbath. So we’re going to see a lot of discounting happening, seeing an excess supply of cars in the short term. change dramatically in the coming years, as Chinese brands carve out a bigger market share.” Kia Australia CEO Damien Meredith stated[2]:"Some projectionists are saying that China will be 40 per cent of the Australian market by the end of the decade. So six years. I believe (the market) will look very, very different. I think that the mix of country-of-origin is going to change dramatically.”
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Chinese automakers expected to enter the market in large numbers by 2025. By the end of 2025, most Chinese electric vehicle brands (such as Zeekr, Geely, Xpeng, Chery, Deepal, Leapmotor, and BYD’s Denza) will enter the Australian market, and the industry’s price war will not be only limited to EVs; gasoline cars may also be affected.
A price war is inevitable:
The founder of Chinese smartphone giant Xiaomi?once said in an interview: “Smart EVs may be the same as the consumer electronics and software industries, which are winner-take-all. If the company can't get into the top five positions globally, it may end up not surviving. I think we are deeply aware of the brutal competition.”
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?Price Wars and Impact on Dealer Margins
The competition for market share among automakers will trigger a price war, severely compressing dealers' GPU. Chinese car brands, due to their cost advantages, will inevitably trigger a price war as they compete for market share in Australia. For car dealerships, APE's sales volume may remain stable, but its new car GPU is likely to experience a significant decline. Therefore, as the consolidation of upstream car brands progresses, the bargaining power of car dealerships within the industry value chain is likely to diminish, resulting in compressed profit margins.
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?Chinese auto dealerships are already facing this challenge.
The gross profit margin on new car sales for dealerships in China is nearly zero.
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The three Chinese automotive dealerships have seen their market value drop by 70-90% from their peak levels in 2022 to the present
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?APE’s current valuation is fair or possibly overvalued
?The market has not fully accounted for the looming industry crisis that dealerships will face. The weaknesses inherent in the dealership business model become more evident during periods of industry instability. The automotive dealership industry depends on high turnover to compensate for thin profit margins. To boost sales volume, dealerships often take on debt, but higher leverage increases risk, especially when new car GPUs fluctuate or decline. Additionally, growth usually requires Capex investments, which can result in persistently low free cash flow.
APE’s balance sheet lacks the resilience to withstand the upcoming challenges. With APE's debt-to-equity ratio currently at 3.6, the company also maintains an excessively high dividend payout ratio and has recently made several large asset acquisitions. The possibility and timeline for interest rate cuts in Australia remain uncertain, and APE's new car GPU (gross profit per unit) could be squeezed to an all-time low. The combination of these factors may pose significant risks to APE's operations and free cash flow over the next 2-3 years.