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Lookers PLC Represent good value say Zeus Capital

Lookers Plc (LON:LOOK) has announced a Q3 trading update this morning, essentially confirming it is trading in line with current expectations. Management have deleveraged following the recent transactions with our 2017 net debt/EBITDA forecast now 0.4x based on our revised forecasts and we estimate the company has over £100m of firepower available. We are tweaking our forecasts down in 2017 and 2018 by 4-5% at the EPS level to reflect more conservative assumptions, and expect consensus levels to fall within this range accordingly. That said, we believe the valuation of the shares based on these more cautious assumptions remains compelling with Lookers well positioned longer term. As stated in our “Post Brexit Thoughts” sector note in July this year, we do not believe the sector faces a 2008 scenario, albeit market conditions are likely to soften from here.

Trading update – The company has reported a solid performance for the nine months to 30 September with total gross profit from new cars increasing by 11%, or level on a like for like basis. Margins for fleet cars increased during the period but there was some softening in the margin for new retail cars. Gross profit from used cars increased during the period and margins also improved, resulting in an increase in gross profit of 22% compared to the prior year or 8% on a like for like basis. The aftersales business increased gross profit by 24%, or 8% on a like for like basis and gross margins were maintained at a similar level to last year. We view this as a strong performance, and are encouraged by this given the rising UK car parc going into 2017 and beyond. Cash generation remains strong and will be a key area of focus going forward.

Change to forecasts – We are trimming our forecasts based on more conservative assumptions. A flat outcome is now expected in 2017 based on a pro-forma PBT of £67m ex Parts with the acquisitions recently undertaken expected to generate £9.5 of adjusted PBT in 2017. Forecasts for FY16E are unchanged reflecting the commentary in the trading update that results are to be in line with expectations for the full year. We reduce our revenue forecasts by 1.9% in FY17E and 1.8% in FY18E. We have revised our EBITDA forecasts lower by 3.2% in FY17E and 3.1% in FY18E to £106.5m and £107.6m respectively. We reduce our FY17 PBT forecasts 4.5% from £80.5m to £77m and our FY18 PBT forecasts 4.3% from £84.5m to £81.0m.

Investment view – While these downgrades reflect a more cautious view, in the context of recent share price weakness Lookers Plc shares still represent good value in our view. The shares now trade on a 2016 and 2017 P/E of 7.0x, which is 48% below the wider FTSE general retail sector on flat profits. On an EV/EBITDA basis the shares trade at a 4.4x FY16E EBITDA and 4.5x FY17E EBITDA. We also note the FCF yield in 2016 above 15%, which normalizes at 7-8% from 2017 under our current assumptions. Our post tax ROCE based on our revised forecasts is also c15% from 2017, which we believe is noteworthy. While conditions in the new car market may get more difficult from here, we believe Lookers is well positioned to outperform and is well positioned at a time in the cycle where there may be opportunities to acquire businesses at very good value on a long term basis.

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