AutoCanada's Q3 Earnings Underperformance and Strategic Turnaround Potential

In the automotive retail sector, where margins are razor-thin and macroeconomic headwinds loom large, AutoCanada (TSE: ACQ) has faced a challenging Q3 2023. Despite a 2.1% year-over-year revenue increase to $1.66 billion, net income plummeted 30.6% to $22.8 million, and adjusted EBITDA fell 12.6% to $66.7 million. The decline was driven by U.S. operations, where adjusted EBITDA cratered 78.8% due to weaker used vehicle gross profits and elevated floorplan financing costs. Yet, beneath these numbers lies a strategic pivot: Project Elevate, a five-year plan aimed at restoring profitability and closing the gap to peer performance. This article evaluates whether AutoCanada's current undervaluation-reflected in a P/E ratio of 6.95 and a PEG ratio of 0.30-and analyst optimism justify a long-term buy case.

Earnings Underperformance: A Tale of Two Markets

AutoCanada's Q3 results highlight stark regional disparities. Canadian operations saw growth in new vehicle sales and PS&CR (Parts, Service, and Collision Repair) revenues, though used vehicle sales lagged. Conversely, U.S. operations, which account for a significant portion of the company's revenue, faced a perfect storm: declining used vehicle gross profits, higher operating costs, and interest rate-driven floorplan expenses. The U.S. segment's adjusted EBITDA decline of 78.8% underscores the vulnerability of its business model to macroeconomic shifts.

The company's response? A $25 million forward interest rate swap at a fixed rate of 4.53%, replacing an existing swap with a lower rate, to hedge against rising borrowing costs. While this move stabilizes short-term liabilities, the broader solution lies in Project Elevate, a strategic overhaul targeting operational efficiency and margin normalization.

Project Elevate: A Strategic Reset for Profitability

Launched in Q3 2023, Project Elevate is a five-year initiative focused on three pillars: productivity enhancements, cost efficiencies, and revenue maximization. Key actions include restructuring U.S. operations, implementing standardized playbooks for dealership performance, and modernizing corporate infrastructure in finance, HR, and IT. These measures aim to align AutoCanada's margins with industry peers and mitigate the drag from high interest rates and inventory costs.

Short-term pain, however, is inevitable. The company reported a Q4 2023 net loss of -$0.81 per share, partly due to the consolidation of its Used Digital Division and elevated financing costs. Yet, management remains optimistic: "We are confident that the foundational work of Project Elevate will yield sustainable profitability by mid-2024 and beyond," stated CFO Brian Feldman. Analysts agree that the initiative's success hinges on U.S. margin normalization, a process expected to take 12–18 months.

Valuation Metrics: Undervalued or Overlooked?

AutoCanada's valuation multiples suggest a compelling case for undervaluation. Its P/E ratio of 6.95 trails the automotive sector's average P/E of 8.74 and its PEG ratio of 0.30 is significantly below the sector's 1.62. This discrepancy implies that the market is discounting the company's long-term growth potential, particularly the margin expansion expected from Project Elevate.

Analyst sentiment, though mixed, leans cautiously bullish. While BMO Capital Markets cut its price target from C$25 to C$20, Cormark raised its target to C$35, citing the company's strategic clarity. The average 1-year price target of C$37.25 implies a 28% upside from current levels, assuming Project Elevate delivers on its promises.

The Long-Term Buy Case: Risks and Rewards

The primary risks to AutoCanada's turnaround include prolonged U.S. margin weakness, interest rate volatility, and execution risks in Project Elevate. However, the company's low valuation multiples, combined with its aggressive cost-cutting and operational restructuring, create a margin of safety for long-term investors.

For instance, the U.S. segment's restructuring-already underway-aims to reduce overhead costs by 15% and improve inventory turnover. If successful, this could restore U.S. EBITDA to breakeven by mid-2024, a critical inflection point. Meanwhile, the Canadian segment's resilience in new vehicle sales and PS&CR operations provides a stable cash flow base.

Conclusion: A Strategic Bet on Turnaround

AutoCanada's Q3 earnings underperformance is a symptom of broader industry challenges, not a reflection of its long-term potential. With Project Elevate addressing the root causes of margin compression and valuation metrics suggesting undervaluation, the stock appears poised for a rebound. While short-term volatility is likely, the combination of strategic clarity, operational discipline, and a favorable P/E/PEG profile makes AutoCanada a compelling long-term buy for investors willing to weather near-term headwinds.