Value-focused investors are always on the hunt for stocks that are priced below their intrinsic value. One such stock that merits attention is Lithia Motors Inc (LAD, Financial). The stock, which is currently priced at 292.54, recorded a loss of 2.98% in a day and a 3-month increase of 6.55%. The stock's fair valuation is $435.37, as indicated by its GF Value.
Understanding the GF Value
The GF Value represents the current intrinsic value of a stock derived from our exclusive method. The GF Value Line on our summary page gives an overview of the fair value that the stock should be traded at. It is calculated based on historical multiples (PE Ratio, PS Ratio, PB Ratio and Price-to-Free-Cash-Flow) that the stock has traded at, GuruFocus adjustment factor based on the company's past returns and growth, and future estimates of the business performance.
Unpacking the Risks
However, investors need to consider a more in-depth analysis before making an investment decision. Despite its seemingly attractive valuation, certain risk factors associated with Lithia Motors should not be ignored. These risks are primarily reflected through its low Piotroski F-score of 2. These indicators suggest that Lithia Motors, despite its apparent undervaluation, might be a potential value trap. This complexity underlines the importance of thorough due diligence in investment decision-making.
Decoding the Piotroski F-Score
The Piotroski F-score, created by accounting professor Joseph Piotroski, is a tool used to assess the strength of a company's financial health. The score is based on nine criteria that fall into three categories: profitability, leverage/liquidity/ source of funds, and operating efficiency. The overall score ranges from 0 to 9, with higher scores indicating healthier financials. Lithia Motors's current Piotroski F-Score, however, falls in the lower end of this spectrum, indicating potential red flags for investors.
A Snapshot of Lithia Motors
Lithia Motors is a retailer of new and used vehicles and related services. The company offers over 45 brands of vehicles at about 350 stores globally including 28 U.S. states at year-end 2022 and entered Canada in mid-2021 with the purchase of Pfaff Automotive and bought Jardine and soon Pendragon in the U.K. in 2023. The company has expanded largely through the acquisition of dealerships in smaller regional markets but now seeks to grow in any part of the U.S. and we expect more deals over time in the U.S. and abroad. Annual revenue in 2022 was $28.2 billion and we see over $50 billion possible in 2025. In 2022, new-car sales were about 46% of total revenue. Lithia was founded in 1946, went public in 1996, and is now the largest U.S. auto dealer. It is based in Medford, Oregon.
Analysis of Lithia Motors's' Profitability
Observing the financials of Lithia Motors, it's important to note that the cash flow from operations over the trailing twelve months (TTM) stands at $-645.7 million, whereas the net income in the same period is significantly higher at $1103.1 million. The Piotroski F-score considers this discrepancy as a potential red flag. The rationale behind this is that a company's operating cash flow is a more direct and less manipulated measure of its cash-generating ability than net income. Net income, while important, is susceptible to accounting treatments and non-cash items which can distort the true cash profitability of the company. If a company consistently shows lower cash flows from operations relative to its net income, it could indicate that the earnings quality is poor and the company might have difficulties sustaining its operations or financing its obligations, a fact which could negatively impact its financial stability and investor confidence.
Leverage, Liquidity and Source of Funds: A Worrying Trend
Assessing the aspect of leverage, liquidity, and sources of funds, Lithia Motors demonstrates an alarming rise in its debt-to-total assets ratio over the past three years. The provided data shows 2021: 0.45; 2022: 0.51; 2023: 0.56, expressed as percentages. A higher debt ratio suggests that Lithia Motors is increasingly financing its assets through debt, thereby escalating its financial risk. The Piotroski F-Score views this as a negative indicator, further cautioning investors about Lithia Motors.
Operating Efficiency: A Darker Picture
Examining the data provided: 2021: 28.40; 2022: 28.60; 2023: 27.60, it becomes evident that Lithia Motors has seen an increase in its Diluted Average Shares Outstanding over the past three years. This trend signals that the company has issued more shares. While issuing additional shares can provide immediate capital for the business, it can also lead to the dilution of existing shares' value. This dilution occurs because the earnings of the company now have to be divided among a larger pool of shares, which could decrease Earnings Per Share (EPS). Consequently, if the company's earnings don't grow at a pace that matches or exceeds this share increase, it could lead to a reduction in the value perceived by existing shareholders, potentially impacting their investment returns. Hence, while additional share issuance may provide necessary capital, it is important to monitor its impact on shareholder value carefully.
In terms of operational efficiency, another key indicator, Lithia Motors has unfortunately reported a declining trend in asset turnover over the past three years, as evidenced by the data: 2021: 2.35; 2022: 2.34; 2023: 1.92 (expressed in percentages). Asset turnover measures how effectively a company uses its assets to generate sales, and a decrease in this ratio can indicate a drop in efficiency. This could be due to various factors, such as underutilization of assets or a decline in the market demand for the company's products or services. Consequently, this downward trend in asset turnover implies that Lithia Motors may need to revisit its operational strategies to improve the utilization of its assets and boost its sales volume.
Conclusion: A Potential Value Trap
While the Piotroski F-score is not the only lens through which to view a potential investment, it is a robust and comprehensive tool for evaluating a company's financial health. Unfortunately for Lithia Motors, its current score suggests potential troubles. These include a decline in operational efficiency, an alarming rise in its debt-to-total assets ratio, and an increase in its diluted average shares outstanding. These concerning signals suggest that despite its seemingly attractive valuation, Lithia Motors might be a potential value trap.
GuruFocus Premium members can find stocks with high Piotroski F-score using the following Screener: Piotroski F-score screener .
