Is AutoNation (AN) A Great Company to Invest In?

Black Bear Value Partners, an investment management firm, published its second quarter 2021 investor letter – a copy of which can be downloaded here. A quarterly portfolio net return of -1.5% was recorded by the fund for the second quarter of 2021, trailing the S&P 500 Index, and the HFRI Index that delivered a +8.3% and +6.2% return respectively for the same period. You can view the fund’s top 5 holdings to have an idea about their top bets for 2021.

In the Q2 2021 investor letter of Black Bear Value Partners, the fund mentioned AutoNation, Inc. (NYSE: AN), and discussed its stance on the firm. AutoNation, Inc. is a Fort Lauderdale, Florida-based automotive retailer, that currently has an $8.5 billion market capitalization. AN delivered a 50.62% return since the beginning of the year, extending its 12-month revenues to 141.38%. The stock closed at $105.86 per share on July 12, 2021.

Here is what Black Bear Value Partners has to say about AutoNation, Inc. in its Q2 2021 investor letter:

AutoNation has been a long-term holding for us dating back to the first year of the Fund. Management continues to make prudent decisions both investing in growth and shrinking the share count at cheap prices.

Most would not expect a global pandemic to benefit AutoNation, but the industry experienced a record year. Dealers have been able to increase profit margins due to a variable cost operating model and lower inventories. AutoNation has been able to materially reduce their operating expenses over the last year which will continue to benefit the business going forward.

Management will invest an incremental $200MM in used car supercenters (AutoNation USA) over the coming 3 years. Their ability to self-fund growth without a need for dilutive equity raises and/or debt raises is an enormous competitive advantage that is still not recognized appropriately by the market.

My estimates for FCF have increased as I have more confidence in their ability to permanently cut operating expenses out of the business. AutoNation can generate a range of $6-$8 in free cash flow per year. This implies a 7-9% yield to us presuming limited growth. Additionally, if AutoNation achieves modest levels of success with AutoNation USA it could add another $5-$10 of per share value to the business. Note that at current prices, very little in the way of AutoNation USA success is priced in.”

Based on our calculations, AutoNation, Inc. (NYSE: AN) was not able to clinch a spot in our list of the 30 Most Popular Stocks Among Hedge Funds. AutoNation, Inc. was in 24 hedge fund portfolios at the end of the first quarter of 2021, compared to 23 funds in the fourth quarter of 2020. AN delivered a 14.03% return in the past 3 months.

Hedge funds’ reputation as shrewd investors has been tarnished in the last decade as their hedged returns couldn’t keep up with the unhedged returns of the market indices. Our research has shown that hedge funds’ small-cap stock picks managed to beat the market by double digits annually between 1999 and 2016, but the margin of outperformance has been declining in recent years. Nevertheless, we were still able to identify in advance a select group of hedge fund holdings that outperformed the S&P 500 ETFs by 115 percentage points since March 2017 (see the details here). We were also able to identify in advance a select group of hedge fund holdings that underperformed the market by 10 percentage points annually between 2006 and 2017. Interestingly the margin of underperformance of these stocks has been increasing in recent years. Investors who are long the market and short these stocks would have returned more than 27% annually between 2015 and 2017. We have been tracking and sharing the list of these stocks since February 2017 in our quarterly newsletter.

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Disclosure: None. This article is originally published at Insider Monkey.