CDK Grows Share of DMS Market as Margins Increase

CDK Grows Share of DMS Market as Margins Increase

August 12, 2016 — Perhaps the most striking data point from CDK Global’s recent earnings filing is that it is gaining share of the overall North American dealer management system market while also growing the average amount from those contracts.

CDK also announced strong results for its 2016 fiscal year along with an agreement with activist investor Elliott Partners to increase the size of its board, adding to the speculation the company will sold within the next year or two.

RECAP

It’s been an eventful year for CDK. In June 2015, it announced a reorganization plan to increase its margins while driving more value to its shareholders following its IPO spinoff from ADP nine months earlier. The board then replaced longtime CEO and President Steve Anenen with Brian MacDonald in March of this year. (TBR predicted last July that MacDonald would replace Anenen).

MacDonald’s honeymoon was short — if there was one. The management team came under intense public pressure from Elliott Partners in the form of two letters in May and June urging it to become more aggressive in implementing the reorganization plan.

Responding to the initial letter, MacDonald rolled out an eight-point detailed plan in May (Read the plan’s details here: CDK Global’s Future — Is a Sale in the Cards?).

A couple of hours after the second letter was published, MacDonald announced the company was accelerating the $1 billion share buyback and dividend plan  moving its completion date from 2017 to the end of 2016. (The company just announced a quarterly dividend of $0.14 per share to be issued on September 30). 

Numbers

The reorganization plan is yielding results as CDK reported a 9% jump in revenue to $2.1 billion in with profit of $239.3 million — good for $1.74 a share ($1.51 GAAP) on a 26.6% EBITDA margin (adjusted) for the year.

The numbers continued trending up in the fourth quarter hitting 28.4% adjusted margin on $542.2 million in revenue.  Earnings, adjusted for one-time gains and costs, were $0.49 per share, exceeding analysts projections of $.046.

If the trend continues, it will be another win for Paul Singer’s Elliott Partners and for the activist investor model overall.

Gaining Share

Despite a reorganization plan that involves hundreds of layoffs, CDK has managed to grow its share of the DMS market in North America, along with growing the average revenue per contract.

From September 30, 2014 to June 30, 2016, the number of car dealership rooftops with a CDK DMS jumped from 9,014 to 9,206 while average revenue increased from $6543 to $7,129.

Total DMS contracts — including heavy truck, power sports dealers and car dealerships in North America grew from 13,687 to 14,533 with average revenue up $264 to $5,093.

It’s important to put these numbers into context — while trying to not appear as a cheerleader for MacDonald — the increase in both share and revenue dispels the conventional wisdom that CDK is buying contracts. Management is working hard internally to focus the sales team on renewing contracts (a record in the fourth quarter according to company executives) along with adding new rooftops without sacrificing revenue. It appears the efforts are paying off.

The digital marketing side isn’t faring as well, however, as several auto makers moved away from exclusive website and digital marketing relationships with CDK as those contracts ended. (General Motors is expected to continue its exclusive relationship with CDK this year — which continues to be a big win for CDK).

The number of dealership website contracts provided by CDK in North America has dropped from 7,809 in September 2014 to 6,641 on June 30, 2016. However, average revenue has increased from $3,302 to $3,879.

Board Elections

 The other important news is that CDK reached a settlement with Elliott Partners, one of the the private equity firms that took an activist position in 2014 and 2015, to add two board members — handpicked by Elliott — increasing the board number from eight to ten.

In return, Elliott agreed to a typical standstill provision, in which it will basically sit still for a year. Under these provisions activists typically agree to not push for management or board changes, nor actively seek buyers for the company.

However, if prospective buyers approach the company with viable offers, having board members handpicked by investors increases the likelihood of the company being sold.

 Numerous private equity firms reportedly have expressed interest in the past several months — including Vista Equity, Thoma Bravo (both of whom have multi-billion dollar funds this year to target software firms), Silver Lake Partners and the Hellman and Friedman firm.

Thoma Bravo last month acquired the Trader Corp. (parent of Autotrader Canada) for $1.5 billion. In 2014, Helmman and Friedman sold Internet Brands (parent to CarsDirect) for $1.1 billion.

For more TBR analysis on automotive retail vendor M&A activity, Click Here.

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