Asbury Automotive Group Inc (ABG) 2015 Q2 法說會逐字稿

Good day, everyone, and welcome to the Asbury Automotive Group second-quarter 2015 earnings call. Today's conference is being recorded. At this time, I would like to turn the conference over to Matt Pettoni. Please go ahead, sir.

Thanks, Operator, and good morning, everyone. Welcome to Asbury Automotive Group's second-quarter 2015 earnings call. Today's call is being recorded and will be available for replay later today. The press release detailing Asbury's second-quarter results was issued earlier this morning and is posted on our website at AsburyAuto.com.

Participating with us today are Craig Monaghan, our President and Chief Executive Officer; David Hult, our Executive Vice President and Chief Operating Officer; and Keith Style, our Senior Vice President and Chief Financial Officer. At the conclusion of our remarks, we'll open the call up for questions and I will be available later for any follow-up questions you might have.

Before we begin, I must remind you that the discussion during the call today is likely to contain forward-looking statements. Forward-looking statements are statements other than those which are historical in nature. All forward-looking statements are subject to significant uncertainties and actual results may differ materially from those suggested by the statements. For information regarding certain of the risks that may cause actual results to differ, please see our filings with the SEC from time to time, including our Form 10-K for the year ended December 2014, any subsequently filed quarterly reports on Form 10-Q, and our earnings release issued earlier today. We expressly disclaim any responsibility to update forward-looking statements.

It is my pleasure to hand the call over to our CEO, Craig Monaghan. Craig?

Good morning, everyone, and thank you for joining us today.

For the second quarter, we are once again reporting record results, diluted EPS from continuing operations of $1.52, an increase of 28%. Our stores continue to produce excellent operating results, despite new vehicle margin pressure. We responded with higher volumes, improved F&I PVRs, incremental service opportunities, and continued expense control.

In total, second-quarter revenues were up 12% and gross profit was up 9%, and we achieved a record operating margin of 4.9%.

These results and our strong balance sheet enabled us to continue our balanced capital allocation plan, repurchasing over $50 million of our stock in the second quarter and acquiring a Ford and Nissan store with approximately $160 million in combined annualized revenues. Over the last four quarters, we have deployed over $425 million of capital to share repurchases and acquisitions.

Looking forward to the remainder of 2015, we believe automotive sales will remain healthy and we continue to plan our business around a $17 million SAAR. We will continue to execute our two-part strategy, driving operational excellence and deploying capital to its highest returns.

We are extremely proud and thankful for our team's hard work to achieve these outstanding results.

Now, I'll hand the call over to Keith to discuss our financial performance. Keith?

Thanks, Craig, and good morning, everyone.

This morning, we reported record second-quarter diluted EPS from continuing operations of $1.52. This represents a 28% increase from last year and there were no adjustments to earnings for the second quarter of 2015 or 2014.

For the quarter, same-store revenue increased 6% and same-store gross profit increased 4%. Controlling our expenses enabled us to decrease SG&A as a percentage of gross profit 130 basis points from last year to a ratio of 67%.

Q Auto, our three-store standalone used vehicle initiative, continues to progress in line with our expectations and resulted in an EPS loss of $0.02 in the second quarter. Looking to near-term expectations, we estimate this initiative may reduce EPS by $0.01 to $0.03 in the third quarter of 2015. We continue to focus on our objective of achieving run rate profitability for Q.

In terms of capital deployment, we invested $12 million in our facilities during the quarter, with year-to-date CapEx totaling $20 million.

In addition, during the quarter we repurchased a piece of land for $19 million. This land purchase was the first step in a market realignment plan with one of our major manufacturing partners in Atlanta, Georgia. This project includes the construction of two new dealerships on a major traffic artery in metro Atlanta, ultimately allowing us to exit three existing operating leases and the construction of a new dealership in a high-growth Atlanta suburb for which we have been awarded an open point.

The investments made in this market realignment will position our dealerships in excellent retail locations and provide us with significant growth opportunities across all business lines. We expect to be operational in these new dealerships during 2016.

On our first-quarter call, we discussed the CapEx budget for 2015 of $65 million, which included $45 million associated with our core annual CapEx plan, with the remaining balances related to renovations of recently acquired dealerships and construction projects that allow us to move franchises out of currently leased facilities.

With the announcement of the Atlanta market realignment, we are now increasing our CapEx budget, excluding real estate, to $75 million for the full year of 2015. In addition, we will continue to seek opportunities to purchase property in anticipation of future lease buyouts.

As Craig mentioned earlier, during the quarter we returned $54 million to our shareholders through the repurchase of 620,000 shares of our stock. And over the last 12 months, we have repurchased over 12% of our outstanding shares.

Turning to the balance sheet, from a liquidity perspective we ended the quarter with $2 million in cash, $28 million available in floor plan offset accounts, $51 million available on our used vehicle line, and $165 million available on our revolving credit line.

With respect to leverage, during the quarter we drew the remaining $83 million balance on a $100 million real estate facility and swapped it to an all-in fixed rate of 4.8%.

In summary, we made progress during the quarter in deploying our available liquidity, resulting in total leverage of 2.6 times, in line with our targeted leverage ratio of 2.5 times to 3.0 times. Going forward, we will continue to deploy capital on an opportunistic basis.

Now I'll hand the call over to David to discuss our operational performance. David?

Thank you, Keith, and good morning.

We are extremely proud of our Company's performance this quarter. In an increasingly competitive market, we increased revenue 12%, increased gross profit 9%, and controlled our expenses to deliver an operating margin of 4.9%.

For the balance of my remarks, I would like to remind you that everything I'll be covering with respect to operational highlights will pertain to same-store retail performance in the second quarter.

New vehicle revenue increased 5%, but gross profit decreased 7%, compared to the prior year. Our new vehicle retail unit sales were up 5%. More importantly, in the face of declining margins, our stores managed their overall front-end gross profit, which is a combination of new, used, and F&I gross, to be essentially flat with the prior year.

Turning to used vehicles, our used-vehicle performance is critical to the health of our dealerships. During the quarter, we drove our sales volume up 6% while maintaining healthy inventory levels. In pushing volume, we sacrificed some margin, but this was more than offset by our incremental F&I opportunity and our robust reconditioning growth. Our used vehicle days supply was at 36 days, which is slightly above our targeted range of 30 to 35 days.

Turning to F&I, our second-quarter F&I revenue grew 8% compared to the prior-year quarter. F&I per vehicle retailed for the quarter was $1,373, up $42 on a year-over-year basis. The lending environment remains favorable.

Turning to parts and service, in the second quarter our parts and service revenue grew 8% and gross profit grew 10%, compared to the second quarter of 2014. Our customer pay business, which represents approximately 54% of our parts and service gross profit, increased 5% from the prior year. In addition, reconditioning work was up 15% and warranty work was up 26%.

Finally, we would like to express our appreciation to all of our teammates in the field and in our support center who continue to produce best-in-class performance in many areas. Our Company continues to deliver record results and this is a direct reflection of your passion and dedication. Again, thank you.

We will now turn the call over to the operator and take your questions. Operator?

(Operator Instructions). Rick Nelson, Stephens Inc.

I'd like to ask you about the margin pressure for both new and used, particularly on the new side, if there's any brands that are specific to those pressures and any light at the end of the tunnel where we might see margins stabilize?

Rick, it's Craig. Maybe I'll start with that question and David or Keith may have something they want to add.

But overall, I would say we saw an increasingly competitive environment in the second quarter. It was most intense in the midline import sector and that -- midlines alone represented about two-thirds of our decrease in gross profit, and we believe that was largely attributable to the impact of very low gas prices.

It hit particularly hard in the car segments, as opposed to the SUVs, but we also saw, as you see in the (technical difficulty) we saw some pressure in luxury as well, and what we sensed there is it's a shift in consumer preference to lower-priced vehicles.

I don't know if, David, you have anything.

I would say on the used side, we're very focused on continuing to drive volume there. We see the benefits from our reconditioning growth in our incremental F&I dollars and feel like we have a pretty good balance offsetting that margin pressure to increase that volume.

Thank you for that. Also, you had closed on a couple of acquisitions, a Nissan store, a Ford store. If you could comment on acquisition multiples and what you're seeing out there.

Rick, we are seeing a lot of activity. I would say more than we have seen in years. It's almost as though a light switch was flipped within the last three, four months.

I would say, broadly speaking, luxury stores still seem to be expensive, but -- and at the other end of the spectrum, the domestics, which we are finding very attractively priced, I mean, we bought three Ford stores here in the last six months or so. The Nissan store, we're very happy with. We think, generally speaking, stores are still expensive, but we are optimistic that there's some transactions that we might be able to get done as we move forward.

Thank you for that. Finally, if I could ask you about the CFPB and the new caps at Honda. You've got quite a representation there of Honda, if -- how you see those caps affecting F&I income.

That's a great point, Rick. And you know we saw the same thing with BB&T with this flat fee that they've moved to.

I would say our average reserves are going to be in about the same range of the caps that Honda has put in place, somewhere between 100 and 125 basis points. So we are still learning more about the details of the program. There's some additional funding available from Honda, but I think from a 50,000-foot perspective, these caps and fees seem to be very much in line with the types of income that we are realizing today. We don't believe it will have a material impact on our business and we feel pretty good about being able to manage with these programs and any other programs of a similar nature that might come along.

Very good. Thanks a lot and good luck.

Bill Armstrong, CL King & Associates.

Good morning, gentlemen, just to follow up on the gross margin questions. On the new side, especially with the Japanese volume imports, as far as the competitive pressure, is there too much product out there? Are they overproducing? What is driving that really intensive pricing pressure?

I would -- for us on a year-over-year basis, our days supply is actually down slightly in the midline imports. I would say it's a supply and demand issue more on the model series. The crossover in SUVs and trucks are very popular right now. The cars have become a little bit more of a commodity and a little bit more intense pressure on pushing them and sacrificing margin to move them.

In terms of like sedans, in other words, as opposed to SUVs and pickups?

Correct.

And then, parts and service margins were very strong and we saw a nice increase from Sonic yesterday as well. What is driving that, other than maybe mix? Or is that it?

We are -- this is David. We're seeing obviously a lot of warranty work. Our internal is up significantly. So that's most of the rise in our margin comes from those two categories.

Bill, this is Keith. I'll just jump in real quick. Obviously for us with how we account for our reconditioning and preparation work, that's 100% margin business in our results. So as we grow that business at a greater rate than the remainder, we'll have margin expansion.

We did see slight margin expansion during the quarter inside the warranty and the customer pay segment as well.

Okay, and then, well, warranty gross profit, same-store was up over 25%. How much of that do you think was driven by recalls versus just traditional warranty work?

It's a mix. It's a mix. Most of our increase is in certain lines and it's a pretty fair mix between recall and warranty work.

Got it. Okay, thank you.

Bret Jordan, Jefferies.

Sort of just following up on that warranty question as it relates to the recall side of it, do you have a feeling where you are working your way through that glut of recalls in the last 12 months and what backlog might be as we try to sort of forecast that side of the business going forward?

We are keeping up with it now. I mean, with the laws changing and the way the consumers get notified, a lot of times we don't have the parts available when the notification comes out. It seems like every week there is a recall for something, and that continues. It's tough to predict the future, but it's very consistent and we are keeping up with it.

Okay, and then on lease penetration on the quarter, you're seeing higher pressure on the midline import and I guess the strategy is to move that volume. Where are we on leasing as a percentage of the volume?

It's approximately 20% of our overall business. That's up about 5% over the prior year.

Okay, great. And then one last question, on your used days sales and inventory at 36, how much of that is related to the Q Auto strategy that you are intentionally building for the used sales or is that just building up a bit for other reasons?

There's only -- we just have to keep in mind there's only three Q stores.

Right.

That inventory build would have very little to do with the Q stores. They are running at inventory levels that are pretty much in line with what we do at our core stores. So I think that is just a build in the core stores. It's just a little bit higher than what we would normally expect, so we don't see that as being unusual in any way, shape, or form.

This is David. I would add we are also in the heat of our selling season. July and August are some of the bigger months, so carrying that excess inventory is a strategic and smart move, I think, on our part.

Okay, great. Thank you.

Brett Hoselton, KeyBanc.

I guess, just to begin with, on the gross profit per unit on the new and the used side, what is your outlook for both of those? Do you at this point in time anticipate that these levels are sustainable? Do you think they might improve for some reason? Do you think they might deteriorate for some reason? And again, both new and used.

I'll start with new and maybe David can talk a little bit more about used.

But I think it's actually quite difficult for us to forecast these margins. It is -- like David said earlier, I think it's very much a function of supply and demand. It's a function of how much inventory we see in our stores.

And to a certain extent right now on, I think, the new margin, we are somewhat reacting to what we're seeing happening in the marketplace. It does make it difficult for us to forecast from here.

David, I think the used situation is a little different. Maybe David can talk about that.

I would say on the used at least for now, because it's tough to predict the future, we're focused on our reconditioning work and we feel that's a value add. So when we increase the costs into the vehicle, it's certainly going to depress some of the margin. But we feel it's a more than fair trade-off and we've been happy with our results so far.

And then, switching gears, just on the leverage. Keith, do you happen to know -- and you may have done the math. If you were to go to the upper end of your range, that three times from the current 2.6 times, how much -- what is that amount? What's available?

Big broad strokes, we produce about $300 million in EBITDA, let's just take that as a round. And you're talking about a half a turn. So that quick math is about $150 million.

Okay, and then how do we think about capital deployment going forward, that $150 million plus your free cash flow? Should we think of you as just kind of treading water in the 2.6 times range, maybe go up and down a little bit based on acquisitions and so forth? Or are you thinking, you know what, let's kind of push this to the upper end, up to that three times range?

Brett, I think we want to be opportunistic. If we see transactions or opportunities that we find extremely attractive, we would be very comfortable going to the three times range. If there's nothing in the marketplace that makes sense, we are very comfortable at the low end of the range.

I think that over time opportunities will come our way. Philosophically, the way we think about the business is we work hard every day to make this a better and better company. Making a better company positions us take advantage of opportunities as they come down the road. But we can be patient if that's the smart thing to do. We are not going to let that capacity burn a hole in our pocket.

And then, kind of switching gears again, Q Auto. Can you just give us a brief update on Q Auto, the impact in the quarter and then where are you at in terms of developing Q Auto and your kind of assessment of where it's that?

Yes, that's -- I would just recap we think Q Auto has the potential to be a huge business for us, but we've got to solve the riddle. I think we're very much in the mode today of solving that riddle.

We think the three-store format is an ideal way to go about it. We've got a medium, a small, and a large format that are in three different markets. It allows us to experiment with a lot of different things, including technologies. We've got a major piece of technology that we are actually rolling out in the stores as we speak. We think it will significantly improve our customer experience and make our employees in the stores more efficient.

I would also point out that we take about 35,000 cars a year to the auction and we see this as a way to retail some of those units. But it's not easy. If it were easy, there would be many others out there selling used vehicles in a standalone format in a big way, and we know that's not the case.

So it takes some time and it takes some commitment. We feel like we're making very good progress. We lost $0.02 this quarter. Our objective is to drive this thing to profitability before we take the next step and we feel like we're on that path.

Craig, Keith, David, thank you very much, gentlemen.

John Murphy, Bank of America Merrill Lynch.

First question on just overall operating margin of 4.9%. As far as I look back, I see an all-time high for you guys and probably better than anything AutoNation has put up. So you're really scraping against the ceiling, at least it appears. I mean, in an environment that we're in right now, it sounds like it might be a little bit tougher, or maybe not.

Do you think there's room to eke out more upside on operating margin, whether it be through gross profit balancing out or optimization or SG&A leverage?

Hey, John, this is Keith. Yes, it is in fact a record for us. 4.9% is a record for the Company.

We've done -- over the last five years, really, we've done a lot of work on our infrastructure. We've done a lot of work on shared services, and it goes without saying our operators are incredibly disciplined inside the stores as far as managing their expenses. So it's been a lot of work in a lot of different areas.

We are in a pretty good place. We finalized our shared service buildout in the second quarter. There is some enhancements to come from that, but in large part not a ton. I would also say that you see some of our capital dedicated to continue to buy out leases, which produces a run expense over time, and we'll continue to deploy capital in that fashion.

But largely speaking, the infrastructure is in place. It is sound. And we'll continue to add assets and grow the business, and that will allow us to increase the operating margin from here. But it will be at a more stated pace.

Okay, that's great. Well, congrats for getting that because that's pretty impressive.

A second question, I mean, obviously, the gross profit question has been sort of beaten death here on the new vehicle side. But if we take another angle to it, if you kept your gross profit flat on new vehicles on a year-over-year basis, do you think you would have lost tremendously in the market on the volume side?

This is David, John. I'll take a shot at that. That's difficult to answer. There's a balance, in our eyes. We want to be good partners with our OEMs, keep up with our market share, keep the throughput through our fixed operations. It would be tough to quantify what that would be.

Okay, but when you're making that decision or when you're allowing gross profit to go down, because you can always manage this, you really are looking at the three other legs of the stool to offset this, right? This is not just something that is being forced upon you. I mean, it is a calculated decision that it will help drive used vehicle trade-ins, F&I, and then ultimately parts and service down the line. I mean, that is part of the equation as you're accepting this $200 decline?

Absolutely, and that plays into our 4.9% margin. We have really good operators that are really -- when they're structuring that deal, they are looking at all the different avenues and how to maximize their opportunities, and I think the results show they've balanced it well.

Okay, and then just lastly as we think about the Atlanta realignment. Atlanta is a huge market for you guys, so this is a big change, which sounds like it's pretty good. It sounds like you're going to be a $10 million CapEx bump from that. What's the payback period as you do programs like this? And what's your expected payback period on that incremental $10 million?

John, this is Keith. First of all, you know, there's opportunity just getting these stores in the right locations. We talked about a major artery and it really is a premier location that is being fully renovated. It's the old GM site here in Atlanta. It's going to be a fantastic location right on 285. The second one is a high-growth market up a little bit further north of Atlanta proper.

We look at -- when Craig mentions deploying our capital to the highest levels of returns, we don't outwardly disclose what our rates are and what our targets are, but we are always looking at what we can do internally. We think that we understand our business first, and then secondly look at acquisitions. And suffice it to say that we expect an excellent return on this investment over the next two years. It will be done -- second quarter or third quarter of next year, we'll be completed with the project.

Okay, great. Thank you very much.

Jamie Albertine, Stifel.

I wanted to dig in on the F&I side. It seems you continue to get -- eke out steady growth there every quarter. Some of your peers now over $1,500 a unit suggests perhaps there's some more runway there. But really wanted to get a better sense of where you're seeing the growth. Is it more on the attachment side, the insurance or the product side? Is it more on consumers looking for financing and so forth? So if you could dig into that, that would be helpful.

Jamie, this is David. I'll take a shot at it. Our focus is on product sales and we feel like that's what's driving our growth, and it's tough, again, to predict the future, but we see opportunity to grow more. Rate is not nearly what it used to be as far as the percent per car and it's down dramatically. So it's really all on the product side.

As far as finance penetration year over year, it's pretty flat.

And I apologize if I missed it in your prepared remarks, have you talked publicly about an internal cap on the dealer markup that you are sort of pushing throughout your portfolio at all?

Jamie, it's Craig. I'll take that one. We do have an internal cap. We also fix the prices of the product we sell in the F&I office. We've got a very aggressive internal audit program that's in these stores constantly, and we augment that with an external audit program.

So we feel pretty good about the program we have in place. The ultimate objective is to make sure we treat all of our customers fairly.

I mentioned earlier that with Honda and BB&T moving to these flat rates, flat fees or rate caps, essentially if you were to convert that into a dollar basis, that would allow us to generate F&I finance PVRs that are pretty much in line with what we already see today. So we think that is something that we can manage through and really don't expect any bump in the business as we continue to move forward.

Okay, and just since you brought up the Honda and BB&T, if I heard you correctly, announcements, any other OEMs that you are hearing that are pursuing a settlement or similar kind of -- whether it's a rate cap or discretionary cap or whatnot out there? We sort of heard Toyota and maybe Nissan, but wanted to get some insights from you on that, if we could.

Jamie, we've read the same things in the press that you have about those two captives. We don't know, to be honest, but I think what we would say is if they all go the same direction that Honda and BB&T went, that's something that we could be comfortable with.

Understood. Thank you so much and good luck in the next quarter.

Paresh Jain, Morgan Stanley.

A couple of questions, first on acquisitions. There certainly is an uptick in your acquisition activity, but when you look at your acquisition pipeline, is it motivated towards groups with one or two stores or are you open to bigger platform deals as well?

No, we are definitely open to bigger platform deals. We prefer larger stores over smaller stores. We think they are actually easier to operate. We'd prefer stores that are in our footprint. We think proximity matters.

We run an organization structure where we allow our general managers to run the stores, but we do have support teams that are there to help them. And if it's easier for those support teams to get to a store, we think there's real incremental value that comes from that.

And price matters to us. The basic threshold for us on any acquisition is we're not going to pay more for it than where our Company trades. So, typically, we look to pay less and then hope to bring synergies so that we can bring real incremental value out of an acquisition.

With respect to brand, though, we are pretty much wide open. We're just looking for things that make economic sense.

Understood. And sorry to follow up on GPUs again, I know it's been discussed a lot. But midline imports have obviously hurt here, but the overall demand is still pretty strong. Is it now a case of just low-quality demand versus the high-quality recovery we saw in the last few years?

I think that's difficult for us to say, to talk about the quality of the demand.

There's clearly been a shift in consumer preference. Trucks are now 55% of the market. If we went back five years ago, cars would have been 55% of the market. So we see that shift.

I think fuel prices, as I mentioned earlier, have definitely enabled the consumer to think about something that's not quite as fuel efficient. We believe that has put some pressure on the very high mileage midline imports. But to quantify the quality of that demand for us is very difficult.

The only thing I would add to that is the midline imports, when you look at their core cars or their volume products, they are all in the sedan series. So that is -- even though they are not necessarily popular, it's being treated as a commodity and that's really what we're seeing as the largest pressure point.

Got it. Thank you, guys.

Sure thing.

David Whiston, Morningstar.

I wanted to continue with that pricing discussion on midline imports. You mentioned a couple of times that sedans are being used as a commodity and I certainly agree with you there. But do you think this pricing is entirely all about cheap gas or do you think the Japanese are also being more aggressive because of the weaker yen?

We don't have that kind of insight, David. At the end of the day, we are a retailer. We don't have that insight into what is happening within the manufacturers.

Obviously, the weak yen plays some part, but I'd point out that many of these Japanese imports have as much content as most of the domestic brands. So I think it's -- it's somewhat difficult to hang it on the yen. I'd come back to I do think the market has become more competitive. Everybody has got great product, there's good consumer demand, everyone wants to take share. And we're just -- we're seeing it conform to that in the marketplace.

Okay, and do you have any interest in more exposure to Lincoln or even starting with Cadillac in light of both brands reinventing their product lines over the next few years?

I would start with Lincoln. We have a number of Lincoln stores that do quite well for us. We would be more than happy to expand our presence there with that brand. We don't have any Cadillac stores, though that's something that would be new to us, but certainly something that we would consider.

Okay, and my last question is, as you know, there's been a lot of press lately about AutoNation and True Car. Can you comment on Asbury's relationship both with True Car and other vendors like that? Do you have a good relationship with firms like that?

Yes, I would just -- big picture, True Car is one of our partners. They represent very little of our sales at the end of the day, somewhere in the mid-single digit range.

Unlike AutoNation -- and again, we only know what we read, but our arrangement with True Car is we do not provide them with any data, so we don't have the data sensitivity that we've read about in the press.

The other thing I would call to your attention is that we allow the general managers to make decisions about whether or not they use True Car or even many of the other third-party lead providers. And our general managers will make those decisions based on the returns they see on those investments. And that seems to be working well for us and we'll continue that type of an arrangement.

Okay, thank you very much.

That wraps up our questions for today. We appreciate you joining us and look forward to talking to you again next quarter.

That does conclude today's conference. Thank you for your participation.