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On Jan 10, we maintained our Neutral recommendation on AutoNation Inc. (AN - Analyst Report) based on its improved performance in the third quarter of fiscal 2013. As the market revives, the company’s optimal brand and market mix should boost new vehicle sales. AutoNation’s effort to expand its dealer network should help it outperform peers. However, we are concerned about rising interest rates.

Why the Reiteration?

On Oct 24, 2013, AutoNation posted a 13.6% rise in earnings per share to 75 cents in the third quarter of fiscal 2013 from 66 cents in the same quarter of fiscal 2012. However, earnings per share missed the Zacks Consensus Estimate by 3 cents. This was the fourth straight quarter in which the company reported record high earnings.

Revenues increased 13.7% to $4.47 billion, in line with the Zacks Consensus Estimate. The revenue growth was attributable to strong performance in all business sectors. The company’s Domestic segment was the biggest gainer in the quarter.

Following the release of third-quarter results, the Zacks Consensus Estimate for 2013 fell 1% to $2.94 per share. The Zacks Consensus Estimate for 2014 remained constant at $3.36 per share. Hence, AutoNation now carries a Zacks Rank #3 (Hold). Notably, some of its competitors in the auto retail industry include Group 1 Automotive Inc. (GPI - Snapshot Report) and Lithia Motors Inc. (LAD - Snapshot Report).

AutoNation will benefit from recovery in the auto market, backed by its optimal brand and market mix as well as a disciplined cost structure. In the first nine months of 2013, new vehicle unit sales increased 13.7%.

Rising average age of cars and trucks in the U.S., robust consumer credit environment and an increase in new product offerings from automotive manufacturers should lead to a strong selling environment. AutoNation expects that its new vehicle sales for 2013 will be in the mid-15 million units.

Moreover, AutoNation is poised to gain from its aggressive store expansion strategy. During the third quarter, AutoNation announced its decision to acquire O'Hare Honda and O'Hare Hyundai in Chicago. It is expected that these stores will generate annual revenues of $85 million with retail sales volume of 3,100 new and used vehicles.

AutoNation has acquired 12 franchises and was awarded 4 new franchises by some manufacturers during the last 5 quarters. The company expects roughly $1.1 billion in revenues from these stores once they are fully operational.

However, we are concerned about rising interest rates, as a significant amount of the company’s debt carries variable rates, which will increase interest expenses as short-term interest rates increase.

Other Stocks That Warrant a Look

A better-placed stock in the industry in which AutoNation operates is Asbury Automotive Group, Inc. (ABG - Snapshot Report), with a Zacks Rank #2 (Buy).

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