AutoNation Inc (AN) 2007 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by and welcome to the Q3 2007 AutoNation earnings release.

At this time, all participants are in a listen only mode and later we will conduct a question-and-answer session with instructions being given at that time.

(OPERATOR INSTRUCTIONS) As a reminder, this conference is being recorded. I will now turn the conference over to AutoNation. Please go ahead.

Good morning and welcome to AutoNation's Q3 2007 Conference Call. My name is John Zimmerman, AutoNation's Vice President of Investor Relations.

I would like to remind you this call is being recorded and will be available for replay at 1-800-475-6701, access code 885245 after 2:30 p.m. Eastern Time today through October 31st, 2007.

Leading our call today will be Mike Jackson, Chairman and Chief Executive Officer of AutoNation.

Joining him will be Mike Maroone, President and Chief Operating Officer and Mike Short, Chief Financial Officer. At the end of their remarks we will open the call to questions. I will also be available by phone to address any follow-up issues.

Before we begin let me read our brief statement regarding forward-looking comments and the use of nonGAAP financial measures.

Certain statements and information on this call will constitute forward-looking statements within the meaning of the federal Private Securities Litigation Reform Act of 1995.

Such forward-looking statements involve risks which may cause the actual results or performance to differ materially from expectations.

Additionally, discussions of factors that cause actual results to differ materially are contained in the company's SEC filings.

Certain nonGAAP financial measures as defined under SEC rules may be discussed on this call. As required by applicable SEC rules, the company provides reconciliation of any such nonGAAP financial measures to the most directly comparably GAAP measures on the investor relations section of AutoNation's website at www.AutoNation.com.

And now, I will turn the call over to AutoNation's Chairman and Chief Executive Officer, Mike Jackson.

Good morning and thank you for joining us.

Today we have reported third quarter EPS from continuing operations of $0.39 compared to a year ago EPS of $0.40.

Results for the third quarter of 2007, we detected a decline in new retail sales especially in California and Florida, partially offset by tax adjustment and continued share repurchases.

Industry new vehicle sales in in the third quarter for California and Florida were off approximately 11% compared to last year based on CNW research data. AutoNation's decline in new vehicle sales for California and Florida was 11%. Together, California and Florida represent approximately 50% of the company's new vehicle business and 20% of the industry's retail new vehicles sold in the U.S.

The slump in the California and Florida housing markets continues to impact the consumers willingness and ability to make large ticket purchases including autos. Year to date California and Florida home sales are down approximately 25% resulting in speculative homes languishing on the market, and the cancellation of new construction projects. In September, U.S. new home construction declined to its lowest level in 14 years. We continue to have confidence in our California and Florida markets and view them as healthy over the long term especially when housing begins to recover.

I would like to turn it over to Mike Short to provide more details on the financial results.

Thanks you Mike. Good morning, ladies and gentlemen.

As Mike mentioned we reported third quarter earnings from continuing operations of $0.39 per share versus $0.40 per share a year ago. Operating profit for the third quarter was $186 million, down 8% from $203 million last year.

SG&A as a percentage of gross profit increased 50 basis points to 71.3% from 70.8% a year ago. Although our variable cost declined in line with gross profit, we did experience a deleveraging of our fixed cost structure due to the decline in vehicle sales. For Q3 2007 we had an effective income tax rate of 37.6% versus the prior year effective rate of 39.4% reflecting favorable tax adjustments of $0.02 per share. We expect our ongoing rate to be about 40%.

During the third quarter we repurchased 18.2 million shares of stock at an average price of $18.70 per share, for a total of $341 million. On a year-to-date basis we repurchased 29.3 million shares of stock at an average price of $19.86 per share for a total $581 million. We currently anticipate full year 2007 spending on share repurchases of approximately $600 to $650 million.

Our future share repurchases are subject to limitations contained in our debt agreements, as of October 1st our basket capacity for share repurchases is $64 million. Each quarter approximately 50% of our earnings are added back to the basket along with proceeds from stock option exercises.

We invested $50 million in the business through capital expenditures during the quarter bringing our YTD capital expenditures to $129 million. We expect full-year CapEx to be approximately $140 million excluding acquisition related spending, land purchased for future sites, or leased by us.

On September 30th, our non-vehicle debt was $1.7 billion and we had unused revolving credit availability of approximately $250 million. Our non-vehicle debt to capital ratio was 33%.

Now let me turn you over to our President and Chief Operating Officer, Mike Maroone.

Thanks MIke and good morning.

Unless noted otherwise my comments regarding our third quarter operational results will be on a same-store basis.

As Mike Jackson mentioned at the top of the call the new vehicle environment remained challenging for the industry and AutoNation in the quarter. We attribute this to continue the economic pressures affecting consumers, and the housing market in particular.

The overall weakness in the California, Florida and other high growth housing markets persist, and once again impacted auto retail in the quarter. At AutoNation where these two states representing half of our unit sales, we experienced a drop in total store new unit volume of 11% compared to the period a year ago. While disappointing, this performance was in lockstep with the industry's performance in these two states according to CNW. Removing California and Florida from the mix, our new unit volume was down 8%. In this environment we continue to focus on controlling variable expenses and inventories.

In the quarter, total company compensation and advertising expenses as a percent of gross margin were favorable to the period a year ago and our new and used inventories are in good shape. At September 30th, our new vehicle inventory stood at 59,000 units for all stores. This represents a reduction of 5%, or 3,000 units and a days supply of 49 days versus 51 days compared to a year ago.

On the used side, we closed the quarter with a 43 day supply, up five days compared to September 30th, 2006. We continue to work to develop and utilize state-of-the-art technology to improve forecasting and optimize inventory mix.

Of note is a decline of $124 in used vehicle gross profits per vehicle retailed compared to a year ago. Our used vehicle business performed in line with new from a buy-in perspective, although our margins were compressed slightly more. Our used to new ratio was .61.

At $638 million, same-store revenue for parts and service was relatively flat, adjusted for selling days, customer paid parts and service revenue increased 5% compared to the period -- compared to the quarter a year ago. We are pleased with the continued upward trend. However a 7% decline in overall warranty more than offset the customer paid gain. We attribute the reduced warranty revenue to improved quality.

Turning to F and I, third quarter same-store F&I gross profit per vehicle retailed was $1,086, an increase of $38-year over year driven once again by our preferred lender network, OEM Service contract alliances, strong product offerings and improved product penetration.

Optimizing our store portfolio is an ongoing process with three focus areas, acquisitions, divestitures and consolidating domestic franchises into existing showrooms with the goal of maximizing throughput. Optimizing our store portfolio is an ongoing process with three focus areas: acquisitions, divestitures and consolidating domestic franchises into existing showrooms with the goal of maximizing throughput. Year to date, we have consolidated 8 additional franchises into 4 existing stores. We continue to pursue acquisitions that meet our market, brand, and return on investment criteria. To that end last week we announced an agreement to purchase Don Mackey BMW in Tucson, Arizona. The transaction is expected to be completed in January 2008. The store will be renamed BMW Tucson and will be our 13th BMW store.

During the quarter, we divested three stores with an annual run rate of $73 million, bringing our YTD divestitures to 11 stores representing 14 franchises at an annual run rate of $303 million. On September 30th, our store count was 246, representing 325 franchises and 38 brands in 16 states.

In closing, I would like to note that we delivered an operating margin of 4% in the quarter as we continue to navigate very a challenging environment by controlling inventories and expenses, while driving significant improvements in customer satisfaction. Looking ahead we will continue to work diligently on improving our capabilities across all areas of our business.

With that I will turn the call back to Mike Jackson.

Thanks Mike. As we look at the balance of 2007, we believe that the market will remain very competitive and challenging. AutoNation will continue to focus on our cost structure by continuing to invest in our business. We are confident in our long-term business strategy and our market. We believe that in 2007, industry sales of new vehicles will be in the low 16 million units.

That concludes our remarks. Please open the call for questions.

Thank you. (OPERATOR INSTRUCTIONS) And our first question will come from the line of John Murphy of Merrill Lynch. Please go ahead.

Good morning guys.

Hi John, how are you?

Good. How are you?

Fine.

On the share repurchasing, it looks like you guys used, or increased your debt levels to fund some of these share repurchases, about $200 million in the quarter. Is that correct? And are there any restrictive basket payment covenants in your current debt that would restrict share buybacks going forward, or the pace of them?

Hi John, this is Mike Short. You are correct in your comment. We used some of our revolver capability to buy back some of the shares. And on a going forward, as of October 1st, we had $64 million in our basket that is available for share repurchases and other types of restricted payments. That basket increases quarterly going forward based on half of the net income generated during that period.

Okay, so you can spend half your net income, based on that covenant.

Right, starting with a basket of $64 million on October 1st.

And it is cumulative, right? Its additive?

That is right.

Got it. Secondly, on the stores that you are divesting, I mean are there a lot of other opportunities to sell maybe some of the dogs in the portfolio to richen the portfolio?

John, it's Mike Maroone. We have divested about 50 stores over the last several years. We're nearing the end of this wave of divestitures. Most of those divestitures were either out of market stores or stores that required CAPEX that we did not believe was prudent. So I am not saying we won't do a lot more, but it appears that we are nearing the end of that phase.

Thanks. Then Mike, some of the comments rolling across the tape today, and I think they were attributed to you but I am not sure they are correct quotes, you mentioned something about tighter credit standards really hurting or depressing or putting pressure on demand and then you also mentioned luxury is strong even in California and Florida. I mean, if you could just sort of expand on both those statements, if they are truly attributed to you. I apologize, I got those from headlines that are running across the tape.

Well it was certainly said by Mike, we just don't know which of the three it was. There was a discussion about what is going on in subprime and housing, and do we see the same thing in the automotive market. And I made the observation that automotive lending practices have been very disciplined over the last few years. We did not see a dramatic decline in standards that happened in the home mortgage business, particularly in subprime. And therefore, other than the normal economic stress that comes with tougher times, I don't anticipate any serious problem in automotive credit because the practices remained very disciplined.

Mike, you then talked about luxury.

I think the other piece, John, was on the luxury business, what we said was the premium luxury business was relatively flat, while other segments had a lot more pressure. I think we were down just about 1.5% from a revenue point of view on the new side in premium luxury.

And then just lastly, as you look at this quarter, and the earnings you generated, it looks like that if you sort of seasonalize this or annualize it based on what typically happens in the third quarter, your sort of run rate is $1.43 to $1.45 in earnings in your current structure. Are there other large cost opportunities or streamlining that you can really take advantage of to -- in this kind of market -- to really generate higher earnings?

This is Mike Jackson. As I look at the quarter, obviously it was a very difficult environment, and we deliver an EPS figure that was only a penny behind the prior year. And obviously that took a lot of effort on controlling the controllables in a very tough environment. That is the hallmark of AutoNation and we intend to take that discipline going forward.

And John, maybe when you think about that, to build on the point Mike Murray made a little while ago, our variable costs actually came down in line with gross profit, in fact a little bit more than gross profit. So those were managed effectively. Also our fixed costs were actually down in absolute dollar terms. And you might imagine that given year-to-year inflation, you would see those have some normal level to them, but they are actually down in dollar terms. So those are some evidence of some of the productivity initiatives that we have been putting in place and are starting to pay some dividends.

Great. Thank you very much.

Thank you. And our next question will come from the line of Rex Henderson of Raymond James. Please go ahead.

Good morning. First of all, congratulations on a pretty good results in a tough environment. I wanted to follow up on, I think it was Mike Maroone's comments about productivity, particularly on the fixed side. Can you give me some more color on exactly where you're getting the productivity, any progress on the shared Service Center initiative and what is going on there to generate that fixed cost productivity?

It is Mike Maroone. I will talk about the associate productivity and turn it over to Mike Short on the Shared Service Center. From an associate point of view, we installed common element pay plans early in the year that really focused on driving higher CSI, rewarding longevity and also rewarding productivity, and those common element pay plans are delivering the results we expected. So we are getting more efficiency and productivity out of our associates while improving our customer satisfaction. So we view that as a strong success. Mike.

On the SSC side there are couple of key foundational elements that we need to get completed that we are well on the way of getting behind us. I have been reporting out on a quarterly basis our progress in our DMS conversions. We now have almost 95% of the stores on a common DMS system that will be completed by the end of this year. Almost 70% of our stores are now in the base configuration of the SSC, we expect to be largely complete with that by the end of next year. And that really provides a foundation for us to be able to put in place some the productivity initiatives that Mike was talking about, the National Payroll Center, Purchasing initiatives, once we have all the stores in that, we have great visibility to identify best practices and leverage that across all the AutoNation portfolio.

Another question on the used car side. Can you give us some color about why gross profit per vehicle on the used car side was down? Is it a mix issue? Is it a pricing issue? Competitive issue? What is going on there?

Rex, it is Mike Maroone, I think it is really the result of a couple things. One is it is just an intensely competitive market, and I both ourselves and our competitors are fighting for every unit on the new and used side. In a soft market you really can't afford to miss a deal. I think secondly, we are seeing less trade-ins with less volume so that we are forced to go to other sources to obtain our inventory, and I think it puts some gross margin pressure. We don't see it as a serious problem, but certainly we are competing for every sale and fighting for every deal.

Okay. In the second quarter, your results -- New car result in California and Florida were somewhat worse than the industry, and this quarter you were in line with the industry. Were you more competitive on pricing in those markets this year? Or this quarter?

Again, there was certainly some margin pressure in both of those markets. I think it is just an all-out war for every deal as I said on the used thing, it is really the same answer. So, we feel we are competitive. We are in down in line with the market, we weren't down more than the market. we still like those two markets even though they are pretty tough right now.

Alright. Okay, well thanks a lot.

Thank you.

Thank you. Next we'll go to the line of Rod Lache of Deutsche Bank. Please go ahead.

Good morning everyone. A couple things. On the SSC and DMS initiatives, is there a prospective of dollar or margin savings target that you would look at from this point going forward?

You know Rod, I know in the past we have had targets out there in terms of basis points. I don't really think about it in terms of basis point reduction. Because I think in any of those cases, like right now we are in a situation where given the pressures we're seeing on the top line, we are in a deleveraging mode. So it is hard to set those types of metrics when you can have both the numerator and denominator of the ratio in operation. So we think of it more as building foundational components that will allow us to generate significant competitive advantages going forward. And we've highlighted some of those, but we haven't set out specific numerical target for them.

Okay. If we look at the SG&A going forward, could you just remind us what percentage of that is variable and what percentage at this point is fixed?

Some of it is step variable, roughly 50/50 is a number we thought of in the past, but it does change a little bit. It is not a linear 50/50.

Okay. Also maybe you can clarify this. I am just looking at the data you provided on the same-store sales, and it looks like the number 87,209 is down about 10 1/2% year over year. Does that imply -- I know that you quoted a different number in terms of your same-store sales performance nationally. But does this imply that your overall network declined in line with what Florida and California did, or am I reading this number wrong?

It is Mike Maroone. What we said was if you exclude California and Florida we are down eight. We are using CNW data on a nationwide basis, and CNW has called out that retail was off 10% in the quarter. We do think California and Florida and some of the other high-growth housing markets are certainly softer than the rest of the country, but there is definitely some malaise throughout the country.

Okay, and just one last one, maybe if Mike Jackson or Maroone would chime in with any thoughts about the markets going forward, are you thinking that in particular California and Florida, are they stabilizing at this level? Or do you have any thoughts going to 2008?

I think the Federal Reserve rate cut of half a point was a psychological tipping point which begins the process of stabilization. Without that rate cut, the downward spiral just continues. So now, people can roll up their sleeves and the stabilization process has begun. I think further rate cuts are needed and I expect further rate cuts. It will still though take time for the stabilization process to work through. I don't think we need housing to be completely sorted out before vehicle sales will stabilize. I think that people just need to sense that the worst is over and that they see how it is going to play out and then they will be willing to make a long-term commitment again. It is too soon to call exactly when that will happen. But I would say I am confident the stabilization process has begun.

Okay, thank you.

Thank you. Next we will go to the line of Rick Nelson of Stephens. Go ahead.

Thanks you and good morning. Can you talk about Mark Tiexiera outside of California and Florida on the new car side and what areas are you showing strength and weakness?

Rick, its Mike Maroone. Our market share outside of those two states is relatively flat. We actually have taken some share in Texas and Colorado and we are fighting for share everywhere. The two States you called out, we have the most share pressure, but elsewhere we are in pretty good shape.

The gross margin on new cars, 7% this quarter, looks like it has stabilized, albeit at low levels. How do you view the trade off between market share and gross margin?

This is Mike Jackson. I would say we have basically three operating gears. When we see a market that is strong and growing, basically our processes, technology and operating systems will lead -- and customer satisfaction will let us take share without having any impact on gross, so its a big plus. In a stable environment, we think we can still take share. In a declining environment there is so much irrational behavior by competitors as far as inventory levels, pricing, advertising, we will not chase that irrational business and we will be willing to give up some shares. That is our basic operating line, then we make a call for each market.

Thanks for that.

Thank you. And next we go to line of Rich Kwas of Wachovia.

Good morning guys.Mike Maroone, can you just go a little further about the SG&A. You have done a pretty good job in a tough environment managing variable costs. How much more fat is there to cut? Do you worry about cutting into some bone here?

It is always, it is a judgment call. I wouldn't say there is a lot of fat left, but what we really try to do is incent our top performers and our high producers to get to the next level. So we skewed the pay plans to make sure our real volume performers, volume and gross performers, are very well rewarded. And put the longevity components in the CSI incentives, so our people that are in the upper quartiles can really make a lot of money, and we like that. It does put some pressure on some of the other quartiles, but again we want to reward productivity. We're not looking to cut commissions per se.

This is Mike Jackson. The fat cutting ended a long time ago. We have been a very lean organization for many years. It is really a productivity drive. And we don't think there has to be a cut or a loser in order to be more productive. As Mike Maroone articulated earlier we established a goal to improve customer satisfaction, improve productivity of our associates, and improve our underlying economic performance as three common goals. And we are well on our way to having achieved that with the common pay plan that we put in at the beginning of this year. Was it disruptive and difficult to put it in? Yes, you bet, any time we change pay plans, that happens. But we don't view it as cutting fat. We really view it as a productivity drive and a win-win. When you do it that way, and everybody can see the mutually beneficial results, you don't hit the wall, and run into what I call cost cutting fatigue, where you have taken so much out that you no longer recognize what you have, or as you say you hit the bone. That is how you avoid hitting the bone.

That is helpful. And if Mike Jackson, you made this comment just now about competitors being irrational. Are you seeing any particular trends across the major brands? And what I am getting at is imports versus domestic? Imports -- the industry has come down here. It's been tough for the imports to post sales gains. In your markets are you seeing some of the import competitors being more irrational?

Well, first let's be clear. It hasn't been more difficult for the imports to post gains. The imports are going backwards at retail. This is not a domestic phenomenon in these high-growth markets. At retail, the Japanese are down. Not as down as much as the domestics, but they are down. So it is a very difficult environment out there. So for the Japanese we've seen higher inventories, we've higher incentives, and we've seen declining sales. So it is a very tough environment out there and as far as import dealers, yes, you put those factors together, we see irrational behaviors across the board, imported and domestic.

Okay. That is helpful. And finally, Mike Maroone, any thoughts here in terms of wildfires in Southern California? Any impact on, potential impact on facilities? And then what have you seen in the last week? I can't imagine traffic has been too strong. What are you seeing so far?

Well I just spoke to our California team again. We obviously speak daily. At this point in time we have only had one store close and it has been been about two days. That store was not touched by the fire. It was a couple miles away from the fires. That was a store had in San Diego. Our other stores are all open for business. Certainly, there is smoke and threat of fire on some of the roadways. So they have tried to restrict the use on some of the roadways. So our traffic has been impacted over the last couple days. The latest report I had were the winds had calmed down some and they were beginning to contain some of the fires. But I believe there are 17 different fires out there. The good news is to the best of our knowledge they haven't touched our facilities and they haven't impacted our associates, which are our prime concern. Certainly there is a bit of a slowdown, but it is only a couple days. And if the winds continue to die down we should be in decent shape.

Super. Thanks so much.

Thanks you. Next we go to the line of Matt Nemer of Thomas Weisel Partners.

Good morning everyone. My first question is on SG&A. I'm just wondering if there is still an opportunity on the advertising side, I realize that the movement was favorable relative to gross profit. But as you look at ad spending per unit and maybe mix-shift that away from traditional media into new media, how big of an opportunity is there there over the next few years?

Matt, it is Mike Maroone. Our gross spend is down about $10 million-year over year. And it is really attributed to the things you mentioned. Its a shift in media. Certainly not a total shift away from print but a reweighting. We made strong eCommerce investments that we believe are paying off. Were doing a good job with direct. So we are definitely shifting. The thing that is important to us is we want to measure every dollar we can. When we measure it, we can the reweight or reapply our spending elsewhere. There may be some more opportunities, but we are really trying to be prudent and trying to react to what is working.

My next question was on AutoNation direct. I read somewhere that the plan was to roll that out in November. I was just wondering if you could give us an update on that and if we should expect any disruption or potentially upset from that.

I think at this point in time it is a relatively small numbers. We are selling direct online in a couple markets. And you know, we like what we have seen but it is too early to say that it is going to go across the whole country and what kind of impact it would have. I can tell you the customers that are buying online really like the experience.

The last question is just a housekeeping item. It looks like there is a line in here for acquisitions in the quarter of $3.4 million, I don't remember there being a specific deal. So I was just wondering is that expansion or franchise addition or something like that?

I believe that that information revolves around the King acquisition we made where we bought the Pontiac, Buick, GMC and Saturn stores. We also bought a Chrysler Jeep store up in Bellevue, Washington, and we got a Lincoln-Mercury at point in Alpharetta Georgia. So the relatively small deals fits in with our strategy of trying to consolidate franchises onto existing locations to gain higher throughput.

Those first ones Mike mentioned were franchises we bought, not stores.

Got it. That is helpful. Thank you.

Thank you. Next we go to the line of Edward Yruma of JPMorgan.

Hi this is (inaudible) for Edward Yruma of JPMorgan. I had one quick question related to your recent acquisition. Can you comment on the acquisition environment, and have you seen any change in the market pulls in the import and luxury brands?

This is Mike Maroone. I would say the environment is similar to what it has been in the past. We look at an awful lot of deals, and we're really being quite picky about the thresholds. I would say the environment is similar. I don't think the environment has changed a lot.

And how about, have you seen customers trading down vehicles in the class of vehicles because of the -- and you know the environment? Do you see them purchasing lower priced vehicles or used vehicles instead of new?

I don't see a major shift in consumer spending patterns. Certainly probably the only one that is notable over the last year is there has been a good number of big SUVs traded for more fuel-efficient cars, but that is probably the single trend I would call out.

Thank you so much.

Thank you. And next we go to the line of Mike Geoghegan of Bear Stearns.

Thank you. Can you hear me?

Yes we can, Mike.

Back to the used vehicle gross profit numbers. I can certainly appreciate having to fight for every deal on both the new and used side, but can you tell me are you having to fight harder for the used buyer? In other words, is the used buyer being hit disproportionately by these macroeconomic headwinds? I think this is probably similar to the last question, but can you put some color around that?

I don't think there's a lot more pressure on that buyer. Certainly there is pressure on all consumers with consumer debt going up and fuel prices going up. So I there is pressure but I don't think that is the driver.

I do think that we are fighting hard for our deals. I think there are times when people are being very aggressive with trade in values and I think it reflects in some margin pressure.

But most importantly we are seeing less trade-ins from less new vehicle volume, so we have got to source those vehicles somewhere. And when you go outside, it is a little bit more expensive. Our used to new ratio is .61, it is about in line. So from a macro point of view the used business is moving similarly to the new.

Okay. Thank you.

Thank you. Next we go to the line of Peter Nesvold of Bear Stearns. I'm sorry, Mr. Nesvold accidentally took himself out of queue. Next we'll go to a line of Deron Kennedy of Goldman Sachs.

Hi, It's Deron Kennedy with Matt Fassler here. I have a couple of questions here, but most have been answered. One of them is about Texas, which is about 20% of your dealerships, a little under as well. And we speak a lot about Florida and California but I was wondering if there is any color you could give me on that market as well as any nuances you have between trucks and cars there.

It's Mike Maroone. The Texas market for us continues to perform at a very high level. I would say South Texas is stronger than North Texas. I would assume that is influenced by the price of oil.

In terms of the car to truck mix, I think there is pressure everywhere on the pickup truck business mainly because it is intensely competitive, but all in all the market is healthy and we are performing at a very high level, increasing our market share, increasing our customer satisfaction and increasing our profitability.

Okay, and on the credit side, you had said there has obviously been more conservative policies in place for vehicles versus others, like housing in particular. But we have starting to see pressure, delinquencies in vehicle's overall in September in terms of delinquencies for most banks, and not just isolated subprime. Have you been seeing any of that come through yet? It seems like the first month where we have started to see it creep in.

Well I think the right word. I think there may be some creep because of just a higher level of economic distress out there. I think that that ought to be expected. And I think it is indeed a creep and not a tidal wave..

Okay. So you are not expecting that to be an arbiter of things to come? Things are going to get much worse?

I don't see a tidal wave. I don't see anything at this point comparable to what happened in home mortgages.

Understood. Finally, inventories look like they are in good shape. They have been across the industry and have been throughout the year. Is there any particular markets or brands where it is an exceptional or exceptionally bad?

I think it has been quite understandable with the domestics going into the labor negotiations, to have-- not to wind down their inventories too aggressively. I think now hopefully -- let's say a month from now, when we are past all those labor negotiations, clearly you have seen steps by the domestics to proactively try to keep their inventories more in line with demand. That is a higher level of discipline than we have seen in the past. But I think we need to give it some time, after labor negotiations to really see what we have.

And I also think initiatives -- or incentives rather, haven't really built up year to year or sequentially throughout this year. Are you seeing any resorting to incentives coming online right now?

I think the incentives market remains relatively high. But I see no sign of a super mega program on the horizon similar to what happened in the summer of 2005. I think they have taken out the capacity, they'll see where the market goes and if adjustments need to be made, they will be made on the inventory side rather than a super mega program. That's not to say that Incentives won't remain at the levels they are, they will be constantly thinking of ways to repackage those, and refocus those, and try to get them more effective. But I don't see a mega program on the horizon.

Understood. That is all I have. Thank you.

Thank you. Next we go to the line of Jonathan Steinmetz of Morgan Stanley.

Thanks. Good morning everyone. A few questions here. First, on the new and I guess also the used grosses on a revenue per vehicle or gross per vehicle retail basis, you talked about some irrational competitors and that sort of thing. Are you seeing big differences year over year by geography? In other words, is this a lot more acute in places like California and South Florida where sales are tougher? Or has this been more pervasive nationally?

Jonathan, this is Mike Maroone. It is clearly in the markets that are most affected by housing, California, Florida, Phoenix, Vegas, those markets clearly have more margin pressure than others.

You know, it goes back to what I discussed earlier about the three environment, how we operate in the three environments. What we observed is that when a market is in distress, and the total market is declining, by and large, we react much sooner to the new environment and begin adjusting than our competitors do. Our competitors continue to buy, dramatically over stock relative to us in a downward environment, and then they have to take extreme measures to deal with the situation that they find themselves in.

Okay, and I don't know if you commented on this. I missed a little bit at the beginning of the call. Do you think in Florida and California, you are going up against relatively weak comps in 2006 and maybe you were arguably above trend in 2004 and 2005, do you think you are now substantially below trend and do you have any data that would support that idea if you do think that?

Substantially below trend?

In those two markets. In other words, 2004/2005 may have been way above trends. Do you think you have you gone substantially below what the sort of replacement rate with normal growth would be in those markets?

I don't know. I don't have an answer.

I am not sure.

Not sure.

Okay. Thank you very much guys.

Thank you. Next we go to the line of Eric Selle of JPMorgan.

Hey guys. Focusing on the balance sheet real quickly, you guys said you had availability of $250 million. What was outstanding on your revolver and mortgage facilities at quarter end?

At the end of the quarter, we had, on the revolver, we had $361 million outstanding on the revolver compared to $195 million the same quarter prior year.

And the mortgage facility, is that still in the $120 million range?

Yes, right around there.

Looking at working capital towards year end, you know your inventory seems pretty tight right now. We have seen in other years, in albeit in better markets, a pretty substantial growth in inventory. What type of working capital trend should we see going into the fourth quarter?

We expect working capital, we did improve -- we had a spike in working capital at the end of last year, we are anticipating that while that is a normal annual kind of event, just because of as you mentioned, the end of year affect, we don't expect to see it as dramatically this year. So we expect working capital to kind of remain about where it is.

Okay, and then you guys, Mike Jackson, you spoke about incentives, you know we really haven't seen -- we've seen some discipline on the cash incentives. Have you guys seen any difference in the last couple months on the interest rate incentives?

I don't think it is-- Its Mike Maroone. I don't see it being much different than it has been. Certainly as rates drop there may be more coming ahead. But right now, it has been relatively normalized, I would say.

Okay. And then can you give us any color on October sales, how it is tracking?

We never comment on the current month.

Okay. And finally, you guys are at your RP basket. I have called you guys a free cash flow machine in the past and you continue to be that, very favorable from the debt side. Looking out having share repurchases somewhat capped next year, what is going to be the use for the free cash flow? Is it acquisitions? Is there any CAPEX that needs to be spent?

We try to have a balanced portfolio, and I think that we will continue to look at each of those opportunistically, certainly on the acquisition front depending on what comes along. You're correct in saying that we have a limit now on our share repurchase basket, but we'll make that call in 2008 as the market evolves. I think we have a good discipline both on the acquisition front as well as the capital expenditure front. I think you will continue to see us tap into all three of those areas of capital allocation.

We have time for one more question.

Thank you, and that will come from the line of James Leda of Merrill Lynch.

Good morning. So, it was pretty clear the size of the RP basket is restricted at this point. But the question might be, given prior statements, I think someone said that you guys can't repurchase enough shares. Is it possible you guys would approach bond holders and request consent to grow the size of the basket?

That would probably be a fairly expensive transaction to do. So I don't anticipate us moving forward in that direction right now. We will evaluate it obviously as time goes on.

Okay. Alright. all my other questions were answered, thank you.

Thank you for your time, we very much appreciate it.

Thank you ladies and gentlemen. That does conclude your conference for today. Thank you for your participation and for using AT&T executive teleconference service. You may now disconnect.