Group 1 Automotive Inc (GPI) 2009 Q2 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the Group 1 Automotive, Inc. second quarter financial results earnings conference. Please be advised that today's call is being recorded.

At this time, for opening remarks, I'd like to turn things over to Mr. Pete DeLongchamps, Vice President of manufacturer relations and public affairs. Please go ahead, sir.

Well, thank you, Kelly, and good morning, everyone, and welcome to the Group 1 Automotive second-quarter 2009 earnings conference call. Before we begin I'd like to make some brief remarks about forward-looking statements and the use of non-GAAP financial measures. Except for historical information mentioned during the conference call statements made by management of Group 1 are forward-looking statements that are made pursuant to the Safe Harbor provisions of the Private Securities and Litigation Reform Act of 1995. Forward-looking statements involve both known and unknown risks and uncertainties, which may cause the Company's actual results in future periods to differ materially from forecasted results. Those risks include, but are not limited to, risks associated with pricing, volume, and the conditions of the markets. These and other risks are described in the Company's filings with the Securities and Exchange Commission over the last 12 months. Copies of these filings are available from both the SEC and the Company.

In addition, certain non-GAAP financial measures, as defined under SEC rules, may be discussed on this call. As required by applicable SEC rules, the Company provides reconciliations of any such non-GAAP financial measures to the most directly comparable GAAP measures on its website.

I'd now like to turn the call over to our President and CEO, Mr. Earl Hesterberg.

Thank you, Pete, and good morning, everyone. Before I have our CFO, John Rickel, provide details on Group 1's financial results, I will summarize what we observed in the second quarter. To begin with, during the second quarter we did not see any significant change in our new vehicle showroom traffic. Industry selling rates, which include retail and fleet sales, continued to bounce around in the nine to ten million unit range, with the retail portion showing no measurable improvement from the first quarter. As a result we continued to experience weakness in new vehicle sales, with our same-store new vehicle revenues down 37% for the quarter. We also saw some market disruption from the Chrysler and GM bankruptcies, which manifested itself, primarily in selected model inventory shortages, as well as margin pressure, as dealers worked to reduce inventories at terminated stores.

Inventory levels across the industry became to come into line in the quarter and we ended up with slight improvement new vehicle margins of 30 basis points, to 5.7%, this compared with the first quarter. With inventory levels improving across the industry and a potential sales increase from the "Cash for Clunkers" program, there is a possibility we could see some improvement in new vehicle margins in the second half of the year. As we have discussed previously, the main issue holding back new vehicle sales continues to be the lack of traffic stemming from weak consumer confidence. The one positive is, while sales remained weak in the second quarter they have stabilized. We have seen at least six-months with demand at that level, so it is beginning to look like we have found a bottom to new vehicle sales. Additionally, it appears that the "Cash for Clunkers" program is likely to significantly lift industry sales in the months ahead.

Although new vehicle demand remains weak we have seen relatively better performance in retail used vehicles, where our same-store revenues were down only 15.5%. Demand for certified preowned remained strong, accounting for 34% of our total used vehicle retail sales for the quarter. Compared with second quarter last year on a same-store basis, retail margins were down 50 basis points at 10.3%, as we were forced to source more used vehicles in the open market. With fewer new vehicle trade-ins we continue to see our acquisition costs rising, as prices have climbed at the auctions. In some cases our ability to pass along the price increases is constrained by loan-to-value limitations with our banking partners, as guide books are not keeping up with wholesale price increases, limiting our ability to sell these units at full value.

Our parts and service business remained relatively stable in the second quarter, with revenues down only 3.7%. The reduction primarily reflects lower wholesale sales where we have intentionally tightened credit terms and slightly-lower customer pay business for our domestic brands. In line with the new and used retail vehicle unit sales declines finance and insurance same-store revenues fell 38%.

F&I gross profit per retail unit decreased $118 to $968 per retail unit, driven primarily by a 470-basis point decrease in finance penetration rates. This has been one of the fallouts from the lower loan-to-value ratios and is also somewhat driven by the mix of customers presently in the marketplace. The mix has shifted to customers with stronger credit quality, which means they have more options for financing sources. As a result, we're seeing a higher percentage of customers arranging their own financing, especially with credit unions.

The work we began in the second half of last year and then accelerated in the fourth quarter to right-size our cost structure to fit the present market conditions is paying off. As we announced in the first quarter we anticipate a $120 million cost reduction from 2008 at the ten million unit SAAR level. In the second quarter we made further significant progress toward that target, as we reduced expenses by more than $44 million, or 23%, as compared with the same quarter in 2008. Year to date we have now reduced expenses by over $86 million. This would not have been possible without the hard work and shared sacrifice by our employees, so I want to take a moment to thank our people for all their efforts in delivering these critical improvements.

In addition to the expense reductions we put in place, we have also been focused on bringing our inventory levels down. As we have seen throughout the industry, we collectively ended 2008 with too much new vehicle industry. On the first quarter call we told you that we were happy with the progress we had made but that we still needed to do work on our domestic brand inventories. I'm pleased to report that we ended the second quarter with a 55-day supply of new vehicles in total and a reasonable balance across all brands. Our inventory level has been reduced by $110 million since March 31st and $318 million, or 11,000 units, since December 31st. At this point, we do not anticipate any further reductions. Our used vehicle inventory was at 29 days at the end of the second quarter. This level is lower than our normal target of 37 days, as we've been challenged to acquire enough vehicles in the open market at competitive prices.

Shifting to second-quarter brand mix on a consolidated basis, of Group 1's new vehicle sales our top sellers were: Toyota, Scion and Lexus with 34%; Honda and Acura at 14%; Nissan Infiniti, 13%; BMW with 10%. Accounting for the remainder of our unit sales was: Ford with 9%; Chrysler, 6%; Mercedes-Benz, 5%; and GM with 4% of our new vehicle unit sales. Import and luxury brands accounted for 82% of Group 1's new vehicle sales, as luxury brand sales grew to account 26% of the mix. Domestic brands contributed the remaining 18% of new vehicle unit sales. Our car sales picked up a bit in the second quarter from the first quarter, and as a result, car sales now account for 58% of unit sales with trucks at 42%.

Now let me give you an update on our corporate development activities. As previously announced we acquired a Hyundai franchise with estimated annual revenues of approximately $37 million in April to augment our Houston portfolio. We also previously announced that we sold a Ford dealership in March. Subsequently in June we terminated a Volvo franchise in New York. In total, the two dealerships had trailing 12-month revenues of $64 million.

I will now ask John is go over our financial results in more detail. John?

Thank you, Earl, and good morning, everyone. For the second quarter of 2009 our adjusted net income from continuing operations was $10.3 million, or $0.44 per diluted share. This excludes aggregate adjustments of $0.01 per share made up of the following: First, a $1.3 million after-tax charge for the impairment of a real estate holding associated with a Chrysler franchise; a $331,000 after-tax charge related to refinancing of certain mortgage debt; a $902,000 after-tax gain on the disposal of a dealership franchise during the quarter; and a $475,000 after-tax gain on redemption of $6.7 million of our convertible notes calculated on a post APB 14-1 basis. On a comparable basis adjusted net income from continuing operations decreased 42.2%, or $7.5 million, from $17.8 million in the second quarter of 2008. Our adjusted net income of $0.44 for the quarter includes $0.04 of after-tax interest expense, or $900,000, for the ongoing impact of APB 14-1.

While revenue and gross profit levels are down compared to prior-year results our cost savings initiatives are significantly offsetting these reductions, allowing us to remain profitable and produce positive operating cash flow in each of the last three quarters. For the second quarter our SG&A expenses decreased $44.2 million. Year to date our SG&A expenses are down $86.1 million. As a reminder, we begin implementing our expense reduction initiatives during the third quarter of 2008 in response of signs that the economy was slowing. As business worsened following the Lehman bankruptcy on September 15th we increased and further accelerated our cost-cutting efforts in the fourth quarter of 2008. As such, we are unlikely to realize comparable expense reductions for the remainder of 2009, but based upon our results to date we remain comfortable with our targeted 2009 SG&A savings of $120 million.

Our revenues from each business line continue to reflect the negative impact of the deterioration in consumer confidence, increasing unemployment and a tougher lending environment. Our consolidated revenues in the second quarter of 2009 declined $474.4 million, or 30%, to $1.1 billion compared to the same period a year ago, primarily driven by a decrease in our new vehicle sales of $362.7 million, or 37.3%, on 38.4% less new retail units. Our retail used vehicle revenues declined $48.8 million on 17.1% fewer retail units. And our wholesale business decreased $32.8 million on 37.6% less units. Revenues from our finance and insurance business decreased $20.4 million, reflecting primarily the impact of lower new and used retail volumes. Finally, our parts and service business declined $9.6 million, or 5%, in the second quarter of 2009 compared to 2008.

Our consolidated gross margin for the second quarter of 2009 increased 130 basis points to 17.2% as a result of improvement in used vehicle margins and the shift in revenue mix toward our higher-margin parts and service business. For the second quarter of 2009 total used vehicle margins increased 90 basis points 9.5%. Included in these results, used retail margins were down 60 basis points to 10.3% while used wholesale margins improved 440 basis points 3.2%. Offsetting the used vehicle trends, consolidated new vehicle margins declined 80 basis points in the second quarter of 2009 to 5.7%, although they were up 30 basis points from the first quarter levels. In addition, margins in our parts and services business declined 110 basis points to 52.7%.

Because our consolidated gross profit declined $60.3 million, or 24%, SG&A expense as a percent of gross profit increased 140 basis points from 77.7% in the second quarter of 2008 to 79.1% in 2009, despite the cost reductions achieved. However, compared to the first quarter of 2009 our SG&A expenses as a percent of gross profit improved 480 basis points in the second quarter. Consolidated floorplan interest expense decreased 36.6%%, or $4.5 million in the second quarter of 2009, to $7.9 million as compared to the same period a year ago. This decrease as the result of a $392.2 million reduction in our weighted average borrowers, reflecting a significant reduction in new vehicle inventory, as well as 48 basis-point decline in our weighted floorplan interest rate, including the impact of our interest rate swaps.

Other interest expense, before the impact of APB 14-1, decreased $929,000, or 13.1%, to $6.1 million for the second quarter of 2009, as our weighted average borrowings of other debt declined $125.3 million and our weighted average interest rate increased 26 basis points. The decline in weighted average borrowings primarily reflects the cumulative buybacks of $99.7 million of our 2,25% convertible notes executed since the second -- since the fourth quarter of 2008, as well as a $20 million reduction in our acquisition line borrowings. Also, as a result of APB 14-1 reported interest expense associated with our 2.2% convertible notes increased to an effective rate of 7.7%. For the second quarter of 2009 our consolidated interest included $1.5 million of additional non-cash interest expense related to APB 14-1. As a reminder, our covenant calculations exclude the impact of the change in the accounting as a result of of APB 14-1.

Manufacturers interest assistance, which we record as a reduction of new vehicle cost of sales at the time the vehicles were sold, was 60.1% of total floorplan interest expense for the second quarter of 2009, down from the 63.3% level of of coverage experienced in the second quarter a year ago. The decline stems primarily from the impact of our $550 million of fixed rate swaps that we had in place at June 30, 2009 at a weighted average interest rate of 4.7%. We reflect substantially all of the monthly contract settlement of these swaps as a component of floorplan interest expense. Our second-quarter interest coverage was up from 50.6% in the first quarter of 2009, primarily as a result of reduced inventory levels and faster inventory turns.

Now turning to same-store results. In the second quarter we had revenues of $1.1 billion, which was a 29.3% decline from the prior-year period. As the economy has contracted and unemployment rates have risen, automotive sales have slowed significantly. Generally we believe that our new vehicle sales results are at least consistent with the retail performance of the brands that we represent in the markets that we serve. Our same-store new vehicle unit sales declined 37.8% in the second quarter, with a revenue decline of $351.3 million, or 36.8%. We experienced unit sales decreases in both our car and truck lines and each of the major brands we represent. However, compared to the first quarter of this year the sales rate decline seemed to have leveled off.

In our retail used vehicle business,same-store revenues slipped 15.5% to $247.3 million in the second quarter of 2009 on 15.9% fewer units. The unit decline was felt proportionately between our car and truck lines. A partial offset was the continued growth in our certified preowned business, with the mix growing from 32.7% in the second quarter of 2008 to 34.4% this quarter. Our wholesale used vehicle sales was down $32 million, or 48.3% compared to the same period a year ago, as the limited availability of used vehicles meant more units being sold as retail units and as we continued to do a better job selecting units. Our same-store parts and services revenues dipped 3.7% in the second quarter of 2009, primarily driven by a 10.2% decrease in wholesale part sales and a 6.7% decrease in collision revenues. Customer pay and warranty parts and services revenues were down about 1%, driven by declines in our domestic brand dealerships.

With respect to the wholesale parts segment of the business the decline in revenues is primarily attributable to our decision to tighten our credit standards in this area. Our collision business was negatively impacted by the closure of one body shop facility in the northeast, as well as the economic conditions in the markets that we operate. I would like to point out we had some strong parts and services results through the first three quarter of 2008 before the economy started to slow that makes for more challenging comps this quarter and next.

Our same-store F&I revenues were down $32.6 million in the second quarter of 2009 -- sorry -- were up $32.6 million the second quarter of 2009, down $19.9 million, or 37.9%, compared to the same period a year ago. As Earl mentioned, these declines reflect decreases in new and used vehicle sales volume, as well as lower penetration rates and lower amounts financed. The penetration rates were negatively impacted because a larger percentage of our new and used vehicle customers are accessing alternative financing resources, such as credit unions. The combination of a higher mix of used vehicles and lower loan-to-value levels are also reducing average amounts financed.

The aggregate our same-store gross margin improved 130 basis points to 17.2%, reflecting an 80 basis-point increase in our total used vehicle margin to 9.5% and a favorable shift in our business mix to the more profitable parts and service business segment. A partial offset was the 70 basis-point decline in our same-store new vehicle margin and a 120 basis-point dip in our parts and service margin of 52.6%.

On the new vehicle side of the business, the gross margin decline primarily reflects lower margins at our domestic brand stores, as the bankruptcy declarations of Chrysler and General Motors resulted in their terminated dealers liquidating inventory and depressing margins in the quarter. However, compared to the first quarter of this year, our same-store new vehicle margins were up 30 basis points from 5.4%, as industry inventory levels came down. And while gross profits for new retail units declined 9.7% from the second quarter a year ago to $1,753 per unit, the gross profit for new retail unit was up from $1,647 in the first quarter of this year. With the Chrysler and General Motors bankruptcies behind us and industry inventory levels continuing to come down, we believe that conditions are favorable for some new vehicle margin growth in the second half of this year.

Within the 80 basis-point improvement in total used vehicle margins, used retail margin at 10.3% was down 50 basis points from the second quarter of 2008, while used wholesale margins improved 400 basis points to 3.1% in the second quarter of 2009. Overall our gross profit per used unit improved $144 to $1,318 in the second quarter of 2009, as the retail gross profit reduction of $83 per unit was more than offset by a $224 per unit increase in our wholesale gross profit. Our same-store parts and service margin decline reflect the negative impact in declining new and used vehicle sales on our internal parts and service volume.

We continued to realize significant benefit in the second quarter of 2009 from the cost reductions we implemented over the fourth quarter of 2008 and the first quarter of 2009. As a result, our same-store SG&A expenses declined $40.1 million, or 21.1%, to $150.5 million. Our personnel-related expenses declined $25.8 million, while our advertising expenses decreased $4.5 million. Other SG&A expenses decreased $10.1 million, primarily related to reductions in vehicle delivery expenses, legal and professional fees and outside services. Year to date, same-store SG&A expenses decreased $82.1 million, reflecting the cumulative impact of our cost savings initiatives that we began in the fourth quarter of last year. Unfortunately the progress that we made in the expense reductions was not enough to fully offset the decline in same-store gross profit that we experienced in the second quarter, and as a result same-store SG&A as a percent of gross profit increased 230 basis points to 79.5%. However, compared to the first quarter of this year, our same-store SG&A as a percent of gross profit decreased 390 basis points.

Now turning to liquidity and capital structure. We had $22.5 million of cash on hand as of June 30, 2009. In addition to our cash on hand, we use our floorplan offset account to temporarily invest excess cash. These funds totaled $44.2 million, bringing immediately-available funds to a total of $66.7 million at quarter end. Further, we had an additional $106 million available on our acquisition line, bringing total liquidity to $172.7 million at June 30, 2009. As a reminder about our capital structure, we do not have any near-term liquidity pressures. Except for the Ford floorplan facility we face no significant debt refinancing decisions until March 2012 , when our revolving credit and real estate facilities expire. Our Ford floorplan facility is an evergreen arrangement that we just renewed in December for 2009. Further, our 8.25% senior subordinate notes mature in 2013 and our 2.25% convertible notes are first splittable in 2016.

We believe our present financing arrangements are valuable assets that we intend to protect. We have update the financial covenant calculations within each of our debt agreements and as of June 30, 2009 we are in compliance with all such covenants. Our top priority continues to be centered around cash generation to further strengthen our balance sheet. During the quarter we used available cash to repurchase $6.7 million of our 2.25% convertible notes. In addition, we used $30 million to pay down our acquisition line and another $4.7 million to pay down our mortgage-related death. In total for the year we have reduced our non-floorplan related debt by $75.5 million, and from the start 2008 we've decreased our non-floorplan and non-real estate-related debt by $231.9 million.

With regards to our real estate investment portfolio we owned $385 million of land and buildings at June 30, 2009. To finance these holdings we've utilized our mortgage facility and executed borrowings under real estate-specific debt agreements. As of June 30, 2009 we had borrowings outstanding of $190.9 million under our mortgage facility, with $44.1 million available for future borrowings. During the second quarter of 2009 we refinanced two dealership properties, utilizing borrowings from our mortgage facility, in order to reduce our interest expense by approximately 150 basis points and extend the maturities of the loans. We incurred a $331,000 after-tax prepayment charge to accomplish this refinance.

With regards to our capital expenditures for the second quarter, we used $2.4 million to reconstruct new facilities, purchase equipment and improve existing facilities, bringing our total capital expenditures for the year to $9.4 million. We continue to critically evaluate all planned future capital spending, working closely with our manufacturer partners to manufacture -- to maximize the return on these investments. We now anticipate our 2009 capital spending will be less than $25 million. For additional detail regarding our financial condition, including the specifics regarding our covenant calculations, please refer to the schedules of additional information attached to the news release, as well as the investor presentation posted on our website.

With that I will now turn back over

Thanks, John. Before I go over our key modeling assumptions and guidance I should comment on several important market factors. First, as previously mentioned, the "Cash for Clunkers" program has generated significant market interest and will likely lift industry selling rates. As far as traffic in our Chrysler and GM stores, since both companies exited from bankruptcy, it hasn't changed much. We continue to support these manufacturers as they reorganize their businesses. We appreciate the trust they placed in us by reappointing all of our dealerships.

I will review the key assumptions we use for modeling purposes. Industry seasonally-adjusted annual sales rate of 10.0 million units, SG&A expenses as percent of gross profit as 80% to 83.5%, excluding any one-time items, as lower sales revenues are expected to offset cost improvements. Total year-over-year reduction in SG&A expenses of $120 million at a ten million SAAR level. Tax rate of 40%. Estimated average diluted shares outstanding of 23.2 million. Capital expenditures of $25 million or less. On a same-store basis, retail vehicle margins consistent with six-month 2009 levels. Parts and service revenues 3% to 5% lower. Finance and insurance gross profit at $950 to $975 per retail unit. Using these assumptions we are issuing 2009 full-year guidance range of $1.25 to $1.35 per diluted share. This range includes the effect of APB 14-1 and excludes any future acquisitions or dispositions with their potential exit charges. We feel that the retail market has been somewhat less volatile during the last few months and are, therefore, more comfortable for providing a forecast at this time.

That concludes our prepared remarks, in a moment we'll open the call up for Q&A. Joining me on the call today are John Rickel, our Senior Vice President and Chief Financial Officer; Pete DeLongchamps, our Vice President of manufacturer relations and public affairs; and Lance Parker, our Vice President and corporate controller. I'll now turn the call over to the operator to begin the question-and-answer session.

(Operator Instructions ) We'll go first to John Murphy with Merrill Lynch.

Good morning, guys.

Good morning, John.

Just looking at the guidance -- and I hope I'm not thinking about this too simplistically -- but if I look at your assumption of ten million SAAR this year there was 4.8 million units sold in the first half, that means that you're implying 5.2 million in the second half, so there's an uptick in volume there and I go back and I look at the seasonality of earnings and you typically have a slight back-end loading, a little bit more than 50%. It looks like you guys did $0.79 in the first half of the year in a really tough environment, I'm just wondering if there's anything else in the second half of this year that should really make me think that you should earn less than $0.79 that I'm missing simplistically in thinking about this seasonally -- or typical back-end loaded earnings profile that you have?

Yes, John, there is John Rickel. I think your $0.79 is unadjusted. I think you may have some of the gains on convertible repurchases in there. I would tell you, on a comparable basis I think the number is actually $0.64 that will be comparable to the $1.25 to the $1.35 guidance. It'd be $0.20 in the first quarter and $0.44 in this quarter, which includes the impact of APB 14-1, which might be also part of the differential. So based on that I think the math works to get into the guidance range that we've offered.

Got you, okay. I was just looking at Slide 9 and it said $0.79, okay. So the starting point was the question there, okay. And then if we look at what's going on with floorplan assistance, obviously that seems like that's coming through in pretty good shape. Is there -- has there been any change in floorplan assistance terms with any of the manufacturers, particularly GM and Chrysler?

Not that I'm aware of, John.

Okay. And then similarly, has there been any change in warranty reimbursements for work in your service base?

BMW made a change at the beginning of this year, which was fairly significant to all their dealers across the country, but beyond that I'm not aware of any.

The only other thing is -- John, this is Pete DeLongchamps -- Chrysler has frozen warranty increases for the time being and we're spending a little bit of time on that issue, but those are the only two significant changes.

Okay, but that's not really rolling anything backwards. That's just keeping things where they are and not adjusting for cost inflation or anything like that, right?

That's correct.

Okay. And then on the used vehicle side, it seems like things going pretty well there, almost too well, and the inventory constraint sounds like it's a bit of an issue. Is this a case where pricing really just needs to adjust, or is there just a real disconnect between price and demand in the market that's going to take a while to adjust, which means that margins should stay high for a while?

There's been a pretty significant month-by-month value or price increase on used vehicles this year and at some point they'll reach a point where the relative value of buying a new vehicle is a little better and you'll see a little demand shift from used to new, but the biggest issue for us is when we can't get enough trade-ins, if we go to the auction and we're there with many other dealers who need to buy vehicles, if we pay too much at the auction -- and there is a lot of competition at the auction -- and we bring the vehicle back and the bank won't lend enough money on that particular vehicle, we can't sell it and it ages and we end up with wholesale losses. So we've been conservative in what we pay at the auction and quite frankly, we're missing a little bit of the used car market because we really are a little bit little short on vehicles.

But as you'll see from our wholesale profit we've -- we manage our inventory level pretty well. We're not buying a lot of vehicles that come back and then sit and age and then we have to liquidate for losses. But at some point I would think these price increases month after month on used vehicles will temper a bit and our hope is that lending practices will at some point also get a little bit closer to where they were a year, year and a half ago.

So it's fair to say that this is one of the few points in your business -- or in the value chain of your business where the financing constraints are actually negatively impacting the business?

Yes, although it's still true and new. We still struggle a little bit in new. I don't want to overstate it, because it's not as big an issue as traffic, but the lending conditions are still a bit challenging, particularly at the subprime and the lower scores. And then banks just are requiring bigger down payments and so forth and GMAC has not really kicked in yet as a viable captive for Chrysler.

Okay. And then just one question on the "Cash for Clunkers," have you guys seeing any pickup in the showroom traffic in the last couple of days as that was being advertised, and then also what do you think of this program in general? It's been downsized a bit, so it seems like it 's a little bit more balanced, if you will. It's not going to be quite the big bang but it also seems like it is not going to hurt the market as far as pull-forward demand. What are your general thoughts on that, just on floor -- on traffic and just in general in the program?

There was a significant lift in traffic last week and last weekend, probably a bigger impact than I would have expected. And I expect we'll go through the 250,000 cars more quickly than many of us would have forecast. It does appear to be lifting the market already. Now, maybe the first weekend was a little overstated because customers were aware of this program for a month or maybe longer and I think that there were probably some deals lined up and waiting at the gate when the program began last Friday, but it was very noticeable over the weekend.

And then just lastly a quick one on your alma mater. What are you guys thinking about the Taurus launch, have you seen the new car and have you gotten any initial purchase orders in for that car. What's the status of that launch and what you're seeing --?

I only know what I've read. Obviously it's important for Ford because it should be a profitable segment if they can pull it off. It looks like a great car, but I haven't really driven it. Those type of cars don't draw a lot of advance orders in this kind of market. But we -- Ford's doing a lot of good things. We're very optimistic in our Ford business and our Ford business is holding up pretty well. There was some research came out today by Rasmussen Reports that shows the imagery of Ford with consumers for not taking government money is dramatically enhanced. So I think Ford has some pretty good prospects. given that overall tough economy and market Ford's doing quite well.

Great, thank you very much.

We will hear next from Rick Nelson with Stephens.

Thank you, and congratulations, as well. I have a question about the SG&A target, the $120 million target. You're tracking well ahead of that, $86 million through the first half and down $44 million in the quarter. I guess why do you (inaudible) that uptick, that target, are you expecting gross margins to improve in the second half and expenses to follow or exactly what's behind that?

Rick, there is John Rickel. Bear in mind that the $120 million target is a year-over-year absolute cost reduction target and as I've tried to indicate in my piece of the script, the reductions were really somewhat on a year-over-year basis are much heavier in the first half. We really started taking the cost out in the second half of 2008, so the levels that you're comparing against start to come down pretty dramatically. Especially by the fourth quarter we had really started to take a lot of cost out so on a year-over-year basis the comps get much, much tougher as you get into the second half. That's why we're still comfortable that the $120 million is the right number.

Okay, got that. Earlier you had talked about some the rising prices on used cars and the LTV limitations by the banks, do you think that the used vehicle margins that you put up the last couple of quarter, do you think those are sustainable in this current environment?

Yes, I think they're sustainable. I think we were down 500 basis points or so -- or excuse me, 50 basis points -- sorry, 50 basis points -- half points and I think some of that is just this tightness in the lending practices, but I think we're steady as she goes now. We can hold this level.

And if you look, Rick -- this is John. If you look historically we've run in the 10.5% to 11% range do with 50 basis point decrease that Earl indicated I think that's the loan-to-value impact but I don't think these are somehow unsustainable, very rich margins. This is traditionally where we would have been. Last year, if you remember, we got really hammered in the summer and early fall from the spikes in gas prices and the collapse in gas prices, so I'd say 2008 really isn't a good set of numbers to really look at for normal margins in the used vehicle business.

All right, good to hear. We are hearing about inventory shortages on the new car side, can you comment there?

Yes, Rick, it's Earl. We have some holes in our inventory on certain models. Not too bad but like anything we generally overreact both ways, so I'm aware that we've had to reorder certain models here in the last month or two. We're about as low as we need to go so I don't think there's anything extreme but I'm aware of some holes in our inventory at the moment.

Thank you for that. And finally if I could ask you about regional areas of strength and weakness?

Fairly consistent with the first quarter. Texas is down in new vehicles pretty significantly over last year, but beyond that it's still a better market than most of the US. And our northeast, particularly New England, Boston area, New Hampshire, is holding up well. Unbelievably enough, California got even worse in the quarter, just when you didn't think it could get any worse. I don't know if it's related to the state budget crisis, but the California market is still very, very difficult and on the new vehicle side got even worse.

Thank you and good luck.

Thanks, Rick.

We will hear next Matthew Fassler with Goldman Sachs.

Thanks a lot and good morning to you. A couple of questions. First of all, on the used car side, I guess I'm curious, your used car margins were down a bit sequentially, as the Mannheim number suggested ongoing inventory profits, so obviously it's a good performance and that market's doing very well, but how should we think about that trend in the used car crisis?

I think we just discussed the issue of a little pressure from the lending side, not having enough advances, not being able to get the customers financed for quite as much as we could have a year ago. And the other item I didn't mention is that the more you have to buy out in the open market meaning the more you have to supplement your trade-ins, you have to pay more for those vehicles and traditionally we make less margin on vehicles we buy in the open market compared to vehicles that we source via trade ins. So I think it's those two factors which put a little pressure on our margins.

Got it.

But some of that's offset by our ability to generate wholesale profits this year as opposed to wholesale losses that hit us in several quarters last year when the market was swinging back and forth dramatically due to the gasoline price changes.

And just to clarify, it sounds like you think you can hold the used car margin rates even if you stop getting that appreciation in vehicles presumably because the financing side coming back into equilibrium?

Yes, Matt, this is John Rickel. Bear in mind we don't have big stocks of used vehicle inventory. We're running a 27-day supply so we're turning them better than 12 times a year so there's not big inventory gains that are coming through. We certainly think the used retail side can hold up. The piece that might have some pressure on us in the second half is, if auction prices start to stabilize is our ability to continue to generate the wholesale profits that we've been generating.

Got it. Okay, second question relates to your parts and services business. It looks your customer pay business down only 1%, got substantially better -- or less bad I guess I'd say than it was in the first quarter . it was down mid to high single digits. If you could lend some color as to what transpired there, what you think was behind

Good question, Matt. Simple answer, we pushed it harder. The areas that we have that we can get a little more business in in this market is used vehicles and parts and service, so we promoted it more aggressively. We put more money into marketing and we put a lot more attention on it, so that tempered the decline in the customer pay service business.

Got it. And then finally, you're, presumably as compares get dramatically easier, moving -- even without "Cash for Clunkers" but helped it -- toward a flattish year-over-year revenue scenario and we've got to start thinking about what happens if revenue actually grows again, which it should over time. How do we then think about the flow-through of incremental costs -- variable costs against the model? I guess there's a point past which sales (inaudible) are probably met by some recommitment of resources or at least variable compensation to the organization. So where -- at what level of sales do we need to start to think about moving the expense needle along with the revenue needle.

Yes, Matt, let me answer -- this is John Rickel, let me answer that a little bit differently. The $120 million of SG&A that we've targeted to take out we bucketed it in three pieces. There's 25% of that $120 million that we think are permanent reductions that are gone out of the cost base. There's another 45% that is -- think of as kind of semi variable and the question there is how long can we hold it off. I don't think at the first uptick that that all comes back in, but certainly if you get back at some point hopefully to a 15 million or 16 million SAAR, a good chunk of that comes back in. The challenge for us as the management team is to try to hold it off as much as we can. And then the remaining piece, the 30%, is basically variable. So as soon as you start to see an uptick in revenue some of that starts to come back in. It's things like your variable compensation for the salespeople.

And by the way, of the (inaudible) it seems like you are a little bit ahead of schedule against that $120 million, which of those three buckets would you would you say can?

Probably in the semivariable piece.

Got it. Thank you so much.

Moving next to Scott Stember with Sidoti & Company.

Morning.

Morning, Scott.

Did you guys talk about luxury versus non-luxury? I'm not sure if you talked about how the two segments performed.

Actually luxury might be a little bit better. There's not a lot of difference these days, but I think you saw Toyota sales were down for the first six months, 38% Nationally. They're heavy in California, bare in mind, same with Honda. I would -- my impression is luxury brands are doing a little bit better than that, but not much. Everything's -- all of the ships are are caught up in this storm.

And as far as your business with Ford in the quarter, does it pretty much mirror what the industry did?

I believe so.

Yes.

John's looking at some data, I believe. So now bear in mind, whatever uplift comes from "Cash for Clunkers" -- and there will be some lift -- it's not going to impact these luxury brands much, so there may be some divergence in this next quarter.

Got you.

The other way. The other way, toward the volume brands and away from the luxury brands in terms of lift.

And Earl, you mentioned earlier that you're not seeing any noticeable improvement at the GM or Chrysler stores, with regards to "Cash for Clunkers" this past weekend, did that -- is that still the same statement for those stores?

Yes, that's still the same statement for those stores.

Okay. And as far as acquisition pricing, any movement on that given what has happened in the market? Any -- it seems like your cash position is improving and that you're -- you feel more comfortable to put guidance out, so any new things on the acquisition front?

No, there's probably more stores on the market for sale, but I really haven't seen much change in the pricing yet. We will continue to look to take advantage of anything that we thought would strengthen our Company. It would be unlikely we'd make a very big acquisition because we still see a lot of challenges in the economy and this -- there may be some false positives from this three-month "Cash for Clunker" activity, but we need to see where the economy is in the fourth quarter after that goes away or maybe it'll get refunded, I don't know. But we're still going to be more conservative than aggressive on acquisitions.

Okay, and two quick last questions. Parts and service gross margin was down. It looks like the customer paying warranty was down less than the actual pieces. Could you talk about why the outside loss in -- or it's decline in the whole segment?

Scott, you're asking about -- this is John. You're asking for decline in margins for --?

Yes, for parts specifically.

Basically the margin decline in parts and service is more than explained by lower internal work.

Oh, okay.

Lower reconditioning on lower volumes on used vehicles in particular.

Okay. Lastly, John, convertible expense, I think you had $0.04 to $0.05 in the first quarter and $0.09 in the second, what's the number that you're using for the range that you gave for the full year?

Well, we're including the impact of APB 14-1, but on an ongoing basis it's about $0.04 per quarter.

Okay, thanks a lot. That's all I have.

Okay, thank you.

Himanshu Patel with JPMorgan has our next question.

Hi, this is Ryan Brinkman for Himanshu. I'm wondering if, at 55-days supply on new vehicles now, if you still have any additional opportunity to reduce inventories and floorplan debt and floorplan interest expense, or given that 60 days is the often mentioned industry ideal should we just extrapolate 2Q levels going forward?

Yes, there's not really much chance to reduce it from the overall 55-day level. We're going to do our best not to let it grow too much, but we do have some holes in our inventory and are ordering some vehicles again. Hopefully we'll order them commensurate with sales rates and not overreact to any uptick from this "Cash from Clunkers" program. But, yes, would not forecast any lower level from here forward.

Okay, thanks for that. And then just real quickly with regards to "Cash for Clunkers," over the past several days have you been able to sense how many of these potential buyers that have been inquiring for "Cash for Clunkers," how many of them have otherwise been looking to purchase a used car?

No, I don't have an indication of that. That's a really interesting question. My official impression is not so many. My initial impression is this is pulling people into the market. Now maybe it's pulling them in a year or two early, which is normally what these programs too. These programs normally pull ahead, but I couldn't really give you a good number on that.

Okay. Well, thanks very much.

Thank you.

Next we'll hear from Adam Wright with Kynikos.

Hello, gentlemen.

Hi, Adam.

Actually the previous caller heavily overlapped with the question I was going to ask, which was in terms of impact of "Cash for Clunkers" on used markets. So far -- granted it's only been a few days -- have you seen any impact on your used sales and if whether or not, whatever the answer is there, do you expect any impact going forward, either positive or negative from a lower new car prices or higher traffic or anything else that's going on there, of course?

Well, conceptually, Adam, it would have -- we all believe it'll have some impact on the used vehicle market, but this past weekend, we did not see any decrease in the sales activity from our used vehicles departments at the dealerships that also enjoyed an uplift in their new vehicle traffic and sales. So it's early to say. I think we're all going to look for that because we all believe that directionally there should be some impact but we'll just -- we're just going to have to wait and see what the data says.

Okay.

I don't think we're seeing anything useful.

All right, great. And this will be a very strange question but some people are arguing both ways,it'll hurt, some say it will help. So you're saying there will be some impact meaning negative impact?

swell, that's what you would normally expect.

Yes, okay, because some are saying otherwise. I hear what you are saying. And also, this weekend you mentioned you saw no impact, you're saying it wasn't positive or negative, it was just business as usual for the used side of the business?

That's correct.

Perfect. All right, thank you very much.

(Operator Instructions).

Okay. Well, thanks to everyone for joining us today and we'll look forward to updating you on our third quarter earnings result in October.

That will conclude this conference call. Thank you all for your participation.