車美仕 (KMX) 2003 Q2 法說會逐字稿

Good morning.

My name is Amanda, and I will be your conference facilitator.

At this time, I would like to welcome everyone to the CarMax second-quarter earnings conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer period. (OPERATOR INSTRUCTIONS) I will now turn the call over to Dandy Barrett, Director of Investor Relations.

You can begin your presentation.

Good morning.

On our call this morning are Austin Ligon, our President and Chief Executive Officer, and Keith Browning, our Executive Vice President and Chief Financial Officer.

Before we begin, please let me remind you that our statements today regarding the company's future business plans, operations, opportunities, or prospects, including without limitation any statements or factors regarding expected sales, margins, or earnings, are forward-looking statements made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

Such forward-looking statements are based upon management's current knowledge and assumptions about future events and involve risks and uncertainties that could cause actual results to differ materially from anticipated results.

For more details on factors that could affect expectations, please see the company's annual report on Form 10-K for the fiscal year ended February 28, 2003, and its quarterly and current reports as filed with or furnished to the Securities and Exchange Commission.

Now I'll turn the call over to Austin.

Good morning.

Thanks for joining us this morning.

Sorry we had to delay our talk with you, but until last night we had no power here in Richmond.

So it has been an interesting weekend.

And I am sure some of you had a similarly interesting weekend, particularly those in the mid-Atlantic.

We wanted to say that we were, as far as sales go, sales were within the range of expectations, although at the low end as far as comps go.

Our expectations were originally 6-8% for the quarter; and our results came in at 6% used unit comp growth.

The sales growth was experienced broadly across our comp store base, and we saw continued store execution improvement as one of the key sources of comps.

As we noted in our sales release, we estimated cannibalization of 1-2%, slightly higher than our original expectations, but something we consider a neutral.

And we saw also in the quarter a slightly negative calendar shift, one fewer Saturday and one additional Sunday; which relative to quarter one of this year has roughly a negative 2% impact.

That is something that we knew, obviously, from the calendar shift all along.

The economics of our satellite stores, as I have pointed out previously, are based on anticipated net incremental sales in a market, and some cannibalization is expected.

And when cannibalization is higher than anticipated, as long as our stores are meeting their net incremental sales goals we are still happy with that, and in fact consider that a neutral.

A good example would be our Charlotte store, where we added a second store in the market, but the total incremental sales are in line, in fact a bit above, our expectations of roughly 200 incremental units per month.

So we consider those cannibalization changes to be neutral.

Our total used unit sales in fact were up 18%, and our newly opened stores as a group continue to exceed our store model expectations.

As far as earnings go, we had higher-than-expected earnings for the quarter despite being at the low end of the comp range.

Our earnings were up 25% to 39.6 million or 37 cents a share; and if you exclude the one-time separation costs from last year, earnings were up 20%.

The factors that affected earnings.

Gross margin dollars per used car exceeded our target, and resulted in a 130 basis point gross margin increase, up to 13.2% this quarter from 11.9 last quarter.

Our used car margins benefited from both consistent sales performance across our stores, as well as the new methodology that we have spoken of on the last call, for appraisal cost recovery, which now includes recovering some of the cost of land involved in our wholesaling operation.

Our wholesale margins also improved following completion of this new appraisal cost recovery charging system.

Our service margins were aided by efficiencies from our electronic repair order, or ERO, rollout; and also from increased service sales.

You will remember that last year we had a negative impact on our service sales from the ERO rollout, as we had to do training in the stores.

Secondly, cap income was at 1.8% of sales versus 2 previously; or 12% of total margin versus 15% in last year's second quarter.

We saw a ramp in increase in cost of funds, which we had projected from the beginning of the year, but not seen previously.

It finally came, and it compressed spreads.

So the cap gain income as a percent of loans sold was 4.8% in this year's second quarter versus 6% in last year's second quarter, and 5.5% in quarter one of this year.

So as a result, at the end of the second quarter our spreads are roughly in line with where we originally forecasted them to be, at the beginning of the year, at this point in time.

Our SG&A is up 70 basis points to 9.8 from 9.1.

The majority of this is due to incremental stand-alone expenses, estimated at 6.5 million.

We will cycle around on most of these expenses in quarter three, although we do expect incremental expenses over last year of roughly 2.5 million in the third quarter.

We had also four new openings in the first half of this year versus one new opening in last year's first half.

And as we have explained in our investor note, new stores start with a higher SG&A percentage before they ramp up sales.

So that also had an impact on SG&A, as expected.

Third quarter expectations.

Our used unit comp expectations are 4-6%.

This is down slightly from the previously announced expectations due to a combination of the impact of Hurricane Isabel, which had an impact on seven of our stores in the mid-Atlantic area, seven of our oldest and highest-selling comp stores, as well as softer than expected sales during early September.

This reduced comp growth rate does assume some recovery of the sales that we lost to Isabel.

Our third-quarter EPS expectations are in the range of 19 to 21 cents.

Our full-year expectations.

Used unit comp growth remains in the 5-9% range; and EPS is in the range of $1.11 to $1.16, up from the previous range of $1 to $1.10.

And with that I would be glad to take some of your questions.

(OPERATOR INSTRUCTIONS) Your first question comes from (indiscernible) Dain (ph) from Janus.

Austin, could just elaborate on your comment about softer than expected sales in early September?

Whether you saw that regionally, at certain price points, or certain categories?

Yes, it was really fairly broad.

September has been a softer than expected month; and it is fairly broad across regions and across categories.

The truth is, I think their is no single reason for it.

It is a combination of all the various things going on in the market.

As you know, we always expect lower margins as we go into the fall, and certainly expect to see that.

But generally, it has just been broadly softer than we expected in September.

You presume, then, that there is going to be no reaction on your part, either in marketing or sales training or anything of that sort?

We do all the things that we normally do.

And where there is something we can tweak, we tweak it.

But there is nothing dramatic that we would do differently as a result of this.

Thank you.

Your next question comes from Sharon Zackfia from William Blair.

Good morning.

I was wondering if you could give us, perhaps, a little more detail on the gross margin side?

I know when you file the 10-Q you give out a lot more detail on gross margins per category.

Specifically, I was wondering if you would be willing to give the gross profit per used car in dollar terms?

It is not something we will give out right now.

We don't have it in a form that we can give it to you.

But we will look at giving you that at a future date, okay?

Okay.

But if I think about the gross margin by category, is it fair to think that most of it is coming on the used car gross margins?

And not seeing it in the service or wholesale?

If I just think of order of magnitude there.

Order of magnitude, certainly, used cars were the most significant factor for the quarter.

And then the appraisal cost recovery impacted wholesale secondly; and then service was next.

So we gave it to you in the order of significance.

Okay.

And should we expect, if this wholesale recovery effort goes as well as it seems to be doing, to see those processing fees eventually go away entirely?

I think the processing fees have gone away entirely.

One of the things we did, as we -- and I will reiterate what I said on the prior call when we talked about this.

We have have always attempted to recover the full cost of being in the wholsesale business on each car that we sell.

So when we buy a car that we do not want, we attempt to recover not only the cost of our buying and appraisal team, but also the cost of actually holding the auction.

One of the things that we haves seen over time is that we had not specifically identified the fact that we actually have a fair amount of land tied up in this process, in facilities.

But as we have been more and more successful in buying cars in general, and also buying wholesale cars, we find that we are actually, in some cases, actually expanding facilities to take care of those wholesale cars.

And so we decided to institute a charge specifically related to the land and the additional cost recovery.

In order to do that, what we did is we simply eliminated fees charged directly to consumers.

Now we simply calculate those charges in before we make the final offer on the car.

So from a consumer's point of view, this is all behind the scenes.

What they get is one net offer.

In fact, our stores were a lot happier with that process.

Because they said, what the consumer really wants to know is, what is the bottom-line offer.

And they don't really want to understand the arithmetic that we got to, to get there.

So this is now a behind the scenes process, and we simply give the consumer what we think their car is worth, after our fully cost.

Okay.

On the SG&A line, I understand the new stores pressuring that some.

And of course the incremental costs from operating separately.

But I guess if I strip out the incremental costs, the pressure continues to be a little bit more than I would have thought of, from the new stores, considering the decent comps you have been posting.

Is there a point in time where we start to see that mitigate?

Or when should I think of that inflection point happening?

I would think that as long as the rate of rate of growth of new stores stabilizes, then year-over-year you'll see that impact be neutral as a percent of total.

The fact is, as we added four stores so far this year, versus one store the year before.

And that is why you see the bigger impact.

Remember not only do the new stores have lower, obviously, lower initial sales and therefore higher SG&A, but they also have all the pre-opening costs.

So you basically have four chunks of pre-opening versus one.

But quarter on quarter, we should expect this to be more evenly spread in the future, in a way that it should come close to netting out.

Last question and I will let you go.

On the comps so far in September, obviously the hurricane had to have impacted you quite a bit, I think.

By my calculations it hit nearly a third of your store base.

So when you said that the slow start to September was pretty broadly based, it seems like you would have had much more of an impact in your core mid-Atlantic region.

And I'm just wondering, order of magnitude, how that impacted your comps so far?

You are a little overestimating the impact of the mid-Atlantic.

This really affected stores from Raleigh to Baltimore.

And that is five stores in DC-Baltimore, Richmond, and Raleigh.

So it is seven total stores.

And one of those five in DC-Baltimore is Laurel Toyota, which sells some used cars, but primarily new.

The only store that we -- we lost two stores for multiple days, Richmond and Rockville.

The other stores we lost primarily for a day and a bit of the following day.

So it is probably between .5% and 1% of impact.

We expect to get some of that back.

So you are not expecting any kind of catch up in sales, like you saw after the blizzard?

No, we are.

Yes, we are.

We are assuming that we get some of that back.

Otherwise that wouldn't account for anything in September.

We are assuming we get a significant portion of that back.

But obviously you never know exactly how much you're going to get back.

Sure.

So that is built into the 4-6%.

Yes.

Okay, great.

Thanks a lot.

Your next question comes from Gerry Marks from Raymond James.

Good morning.

Just a quick question.

Austin, with regards to the new recovery methodology, it sounds to me like you are including some of the land fees now into the cost of what you purchase the vehicle at from the consumer.

Is that right?

Right.

Has that also been playing a factor then, into your same store sales, if some of the customers are not willing -- are you finding any more difficulty in sourcing it?

Because maybe a dealer down the street will offer more for the vehicle?

No.

Well, (inaudible) almost no dealer ever offers cash.

And only in cash, -- as you know, since you follow the business, as you know, an offer from a dealer doesn't mean anything unless you disaggregate it and get it in cash.

Because usually the dealer's offer is part of his total package, and part of what he is making in margin on everything else.

But more to the point, we have not found a reduction either in the number of customers bringing us cars to have appraised, or in what we call the buy rate on cars.

In other words, of those we appraise, what percent do we buy?

And that is obviously why we tested this before we rolled it out.

And so what we found is that this has basically been a neutral.

It is not that big an impact.

And one of the things that we did is to make sure that we understood where and how the impact would occur, if it did occur, and managed our costs to mitigate that.

So we haven't seen any impact there, and as far as we can see that doesn't have any relationship to sales.

With this new approach in terms of accounting, I don't want to say new accounting; but for the way that you are allocating those costs, have you noticed now much of a difference between that and -- or are you still a finding it cheaper to do your own auctions?

It is absolutely cheaper to do our own auctions.

Yes.

We compare against outside auctions all the time.

It is a lot cheaper.

Would not really change anything, because we would still have to hold the cars.

The difference, is if we used an outside auction, we would have to add in additional costs to ship them to auction and pay the auction fees.

And we would end up realizing lower net margins, because our auctions have significantly higher attendance per car sold than any of the outside auctions.

So, no; our auction method is still much more efficient than going outside.

This is really more just a recognition that there is a cost we should have been recovering all along, conceptually, that we were not recovering.

And we adjusted to make that recovery.

Okay, thanks.

Hardy Bowen from Arnhold and Bashford.

I wondered if the extended warranty revenues were up about in line with retail sales?

And if the service department revenues are up by somewhere around that level?

And why the gross margin in the service department went up.

Is that because of ERO?

Exactly what is happening there?

As far as extended service policies, yes; extended service policies have been consistent with sales.

We have been quite happy with that business, both in the newly opened stores and the existing stores.

It has been an area where we have executed quite well.

And as far as service goes, we did see some increase in service sales, roughly proportional with sales.

Part of what was going on was, if you remember last year, when we rolled out ERO, it took a full week out of each service department as we rolled it out, where essentially all the service personnel were in training.

And then probably the better part of another week while the group adjusted to using the new system.

So part of what we are seen is really improvement versus last year, when last year we had a rolling negative impact throughout the business.

So part of it is just overall improvement in sales and efficiency; and part of it is catch up versus last year.

Would it also be an improvement versus two years ago, before you had ERO?

Does that actually create a higher gross margin in the service department?

I a not sure.

I haven't looked at it that way.

It probably, a bit; but I haven't looked at it exactly that way.

The other question I had was Kansas City and maybe Las Vegas; you've got one store in both, until you get the second one in Las Vegas.

The advertising costs there are higher.

And I guess in Kansas City maybe considerably higher.

Do you plan a second store in Kansas City?

Is that a factor in the cost situation?

Well, you make good point.

Anytime we go into any of the larger markets, Sacramento, Kansas City, Las Vegas, they all have significantly higher advertising costs.

And one of the tradeoffs, if you will, is you go into a satellite store, you may have low sales but you have significantly lower SG&A, because you don't have any incremental advertising costs.

When we go into one of the large markets we have typically significantly higher sales per store in all of those cases.

But because you are advertising in a completely new market, you have to carry that burden.

And so typically those stores will start out with a higher SG&A load.

We in fact are in the process of adding a second store in Las Vegas; and, in all probability, will come back and add a second store on the Missouri side of Kansas City.

How that mix comes out definitely has some impact on SG&A.

Obviously the strongest SG&A performances would be if we just opened satellite stores; but that wouldn't make any sense as an opening strategy.

Right.

Are we planning another one in Sacramento as well?

Certainly we're looking at additional stores in Sacramento, in the Oak Grove area and in the Fulsom area.

But we don't have a specific plan there yet.

Okay, sounds good.

Your next question comes from Rick Feydin (ph) from CMS Capital.

Good morning.

You inventory turns continued to improve pretty materially, in a period when I would have thought you might see that level, or maybe even deteriorate a bit, because of all the new stores versus a year ago.

Can you talk a little bit about what is going on there?

And what you see in terms of inventory turns going forward?

Is there room for further improvement?

It is a good observation, because it was in fact -- I think Keith pointed out this morning to me that it is our best inventory turn performance ever.

And I think it was reflective of the fact that we are just doing a better and better job, particularly behind the scenes.

Not just in salable inventory, but also in work in process inventory.

In being more and more efficient with our cycle times, and having less dead in the water inventory.

And that is something that you don't really see, because it doesn't change how many cars are out on the front of the lot, or how many cars are on offer to customers, but just what is back in the back, in processing.

Obviously, the better you do at that, the harder it gets to make incremental improvements.

And we certainly will continue to try in that area, but our goal is not above all other things to maximize inventory turn.

It is to sell the most possible cars.

So we were very happy with the inventory turns this time.

And obviously our new car inventory was much more in line with where we wanted it to be than it was a year ago.

So we were also happy with that.

We will continue to work on those things.

I think most it is really driven by just the overall efficiency with which we are running the business.

But I wouldn't look for dramatic improvements there.

We were pleased, pleasantly surprised, probably, with how well we did this quarter.

Okay.

Let me ask you secondly, sort of a clarification.

On the issue of cannibalization of these new stores versus the absolute performance of those sort of (multiple speakers) areas.

Do I understand you correctly to say that, while comps came in at the low end of your range of guidance, in part because of cannibalization, it wounds like total sales did not?

They did a bit better than that?

Total sales are, I think, roughly in line with where we expected them to be.

Okay.

Thank you.

(OPERATOR INSTRUCTIONS) Your next question comes from Michael Millman from Millman Research.

Could you talk a little bit about what effect, if any, the CPO programs that are being rolled out and increased by dealers are having on your business?

The CPO programs?

Certified preowned.

Certification programs?

Certification programs have been out there for a while.

And certainly it is not clear to us that it has any impact on our business.

What it does for a dealer, if they choose to participate, is it potentially equalizes them on one of the dimensions of our offer, which is some element of the quality assurance.

And in fact, the best of those programs in many cases have been modeled on the CarMax program.

So they generally cover the same thing.

What you find, if you look broadly in the industry, is that the degree to which those programs have been successful and have been adopted by dealers is almost a direct function of the strength of the brand-name.

So that the most popular programs are Mercedes, BMW, Honda, and Toyota.

They are relatively mature, and in general not growing as fast as the domestic programs, which are growing fast, but a tiny portion of all of the used cars out there.

And our best guess is that the domestic programs would never reach the level that Honda and Toyota or BMW and Mercedes have, simply because the added brand value isn't worth enough to the consumer or the manufacturer for most dealers to choose to do that.

Because when you certify a car through a manufacturer, what that potentially means is the dealer pays the manufacturer several hundred dollars; and then the dealer does all the work.

What the dealer is essentially doing is paying the manufacturer for the manufacturer's imprimatur and for a vary low value drivetrain warranty, is typically what's there.

The dealers may in fact upgrade that warranty, and frequently try to do that.

But the decision the dealer has to make is, is the manufacturer's stamp of approval on the work I've done worth this money?

And in general what you see is the more the dealer thinks of the brand, and the more the consumer thinks of the brand, the more likely that certification will play a little more of a role.

So it certainly is something out there that some of the stronger brands have taken advantage of.

Everyone has tried a bit of it, but you don't see very much of it, frankly, with the domestic or the second tier import brands.

As far as we can tell, we haven't seen any direct impact on our business, because at best it might bring you in line with one of our offers, at a higher cost than we would charge you to do the same thing.

So in general we haven't seen anything we could say is identifiable.

Your next question comes from Scot Ciccarelli from Harris Nesbitt Gerard.

It's actually Rick Weinhart (ph) for Scot Ciccarelli.

A couple of questions.

First in terms of the guidance, I believe you are guiding a little bit lower than what most folks were looking for in the Street, and the reasons you outline for third quarter.

Although the year appears to be roughly in line with what at least we were looking for.

I'm wondering what is going into the fourth-quarter assumptions in terms of comp guidance?

Meaning not necessarily a specific number, but are you assuming that the weakness that you saw in early September, unrelated to the hurricane, is that something you expect to continue?

Or what is your thoughts on that?

The guidance we gave on the fourth quarter in the sales release would stay in place; which is that we expect the fourth quarter to be somewhat higher than the third, higher than the original 5-7 that we gave for the third quarter.

So we would expect the fourth quarter to be better than the original guidance on the third and the current guidance on the third.

Don't see any reason why that wouldn't be true.

Thanks.

One other question in terms of wholesale pricing.

I know you said in the past that your business really doesn't see a dramatic impact from fluctuations, in that you are able to adjust.

I'm wondering, though, now that we are seeing some stabilization in that pricing, does it give you a little bit more of a buffer in terms of safety?

Less risk if there were an issue in terms of your model?

Or how should we look at that?

You mean the fact that used car prices are not failing as far as the Manheim index goes?

My own view is that it doesn't really work that way.

My own view is that the market is relatively responsive, and that flatness or increase there does not probably give us anywhere benefit than a falling market does.

The most difficult time is this time of year anyway, because this is when the market is going to fall naturally, because of the annual changeover cycle.

And that will have a much bigger influence on what really happens with prices of cars than the overall trend of the marketplace that you always see at model year changeovers.

Some fall.

And we don't consider that flattening of prices is really likely to have any benefit for us at all.

One last question if I could, if you could give an update on the new car franchises?

Where you stand in terms of -- I know you are looking at selling a few of those; and what kind of impact.

You tied that into the question earlier about inventory turns.

You mentioned that you didn't expect a dramatic increase.

I am wondering if, as you get out of the new car business somewhat, and your used car business increases, shouldn't that help your turns?

That will certainly help.

That will help overall turns.

It won't have any impact on used car turns.

Our intention is, as previously stated, to complete the disposition of our Mitsubishi stores.

And roughly at the end of the day, we expect to be between seven and nine franchises, down from an original of 22, and currently 15.

So we expect to complete the disposition of those Mitsubishi franchises; and we may dispose of a franchise or two other, or swap one out.

But end up in that seven to nine franchise range.

Obviously the smaller new cars are, as a percentage of our mix, the better our overall inventory turn will be.

But it won't have that big an impact on the used car turn.

Matthew Fassler from Goldman Sachs.

Good morning.

Two questions.

Austin, you just made reference to the first one I was going to ask, but it relates to the model changeover that we're seeing this year.

Obviously that is seasonal, and we see it every year.

Is there any difference in the way that that is beginning to take shape, that could be impacting in terms of pricing, promotions, what have you; that might be impacting your sales in September?

It is a little early to say, because we are just early enough in that season that it is hard to say how the season is going to fold out.

And as you have heard me comment before, no two years evolve exactly the same way, but in general what you see is about half of the decline in used car prices each year comes during the period from Labor Day to Thanksgiving.

But the exact way that occurs is a little different every year.

We did see certainly some flurries of unusual promotion from several of the manufacturers at the end of August, and we saw Chrysler run several 72-hour sales.

It looks like they were trying to hit an internal goal to make things a little less ugly than they turned out.

And I think most of that has calmed down, but it is too early to know exactly how this fall season is going to sort out, other than the one thing we always know which is that is where there's always the most pressure on margin, that is where it is always the most volatile, and it's always a little different every year.

And second question relates to CAF, obviously you saw markets back up a bit in the second quarter, and that kind of back-end loaded the contraction of spread you expected to see.

I realize that we're still pretty early in the third quarter, but I guess a two-part question.

Number one, given that the bond market has rallied, what does this do to your outlook?

And secondly as you think about the backdrop that is built into your second-half CAF expectations, how does it compare to the one that we see today?

I will let Keith answer that.

At this point, you're right.

We have seen a very recent rebound and our cost of funds actually did go down in the last few weeks, even though we saw the rapid compression throughout the second quarter.

So if it stabilizes, we would expect CAF to contribute at a similar level as a percent of total margin for the third quarter as the second quarter, but right now it is premature to try to forecast what is going to happen there.

And I think the same thing is true for the fourth quarter, that as long as it remains stable, we would expect a similar contribution from CAF as a percent of total margins.

So are you assuming, just to make sure I understand, are you assuming that rates stay relatively similar to where they are today, to where they were in the third quarter as you think about the -- or rather in the second quarter as you think about the assumptions that go into your guidance?

No, relative to where they are today.

Your next question comes from John Zolidis from Buckingham Research.

First, on the other sales and revenue line, it looks like that actually declined year-over-year.

And I understand the ERO implementation was hurting the service component of it in the prior year.

I guess, just give us a little more color on why that declined and why it doesn't track used unit comps?

Because we changed from charging the consumer a specific fee on the appraisal purchase.

So previously when a consumer came in and they sold us a car, we would charge them a fee.

And that would be recorded in other revenue.

Now, with the appraisal cost recovery system, what we essentially do is decide what our costs are on that car, take it off the offer, and show the consumer a single offer.

There is no longer a fee recorded.

And so there's nothing; that shifts out of other revenue into either used car margin or wholesale margin.

Great.

So we should expect that to continue to decline until we anniversary that change?

Yes.

Exactly.

But to benefit margins?

Yes.

And on the stores opening up in the existing market, the satellite stores, do those stores typically ramp faster in terms of their sales?

Typically.

And it really depends on the age of the market and the location of the store.

You can think of it this way.

The older and more mature and higher the awareness in the market, then generally the higher the starting point we would expect from store.

And the more embedded the store is in the market, the higher the starting point.

The more that it is a relatively new market, we would expect a store to start pretty much where the market is, rather than at a higher level.

And to the degree it is a peripheral store, it may actually not benefit from some of the awareness of being close in.

So it will vary some, but in general satellites opened in the older markets and in the more densely stored part of the market will tend to ramp up more quickly.

And so, commensurate with that, the first-year ROI on those stores is higher than stores you open out in totally new markets?

The key is the net incremental sales.

And if you mean higher than in the stand-alone markets, is that what you mean?

Well, in the Las Vegas market, for example, you are opening a satellite store on its own, correct?

So the first-year ROI, just looking at that one store, would be lower than a satellite store opened up in an existing market.

It is that correct?

Probably.

And Las Vegas is a little hard to evaluate that way.

A better way to look at Las Vegas is as the two-store market where the second store is coming a little later than the first.

But in general, satellite stores have a higher first-year ROI than newly opened markets do, because they generally don't have to carry incremental advertising cost.

And that is the main difference?

That is the main difference.

Yes.

David Campbell from Davenport.

Thank you.

Good morning, Austin.

Can you estimate what cannibalization might be, going forward from here?

Do you expect it to remain in the 1-2% range?

And secondly, how are you new stores doing overall?

Are they still, like, on or above plan?

Yes, as I think I have said in the comments and we said in the release, that our new stores as a group are still exceeding what our store model was.

As far as cannibalization -- and you're not coming across very strongly, so I will repeat your question.

You were asking, what would our expectations for cannibalization be going forward?

And our best guess would be the 1-2% range that we're seeing now would be where things are most likely to come out.

But as we pointed out previously, it is not something -- we mentioned it because we thought it would be helpful to the marketplace to understand.

Because we consider it a neutral.

But I wouldn't spend a lot of time trying to forecast what it would be.

If it is different than the 1-2%, we will tell you.

And if there was any reason to consider it something other than neutral, we will tell you that as well.

What revenue growth do you anticipate going forward?

And do you expect the gross margins sustainable at around the 13% range as well?

We don't really project revenue growth per se.

What we have told you is that we expect used unit comps in the 5-9% range.

We expect to open 15-20% new stores on our base.

We don't project inflation.

You will have to do that for yourself.

But we have sort of given you the tools to make the range of estimates and take a high-end and a low-end there.

So beyond that, we don't do any specific revenue projections.

As far as gross margins, we generally expect the gross margins that we achieve to be fairly consistent.

You have a follow-up question from Michael Millman from Millman Research.

Thank you.

Now that the manufacturers have settled with their unions, I guess it is possible that they will have more flexibility and therefore not need to push out as many cars.

If indeed you see it this way, do you think that this should benefit the used car market?

Not having as tough a competition against the new car market?

That is a good and interesting question.

And if I could answer it, I would probably be in a different job.

When I say if I could answer it, if I could give you the right answer and forecast the future.

You make a good observation, which is that the unions have been much more flexible in their contract negotiations, and it looks they are going to give significant leeway to close plants.

If that happens and if plants get closed, so that the domestic manufacturers can make a profit at a lower production rate, that should remove some of the current necessity to do the very heavy discounting that you see in the marketplace.

What you would presume that that would mean is, in fact, a lower total sales level than we have been running for the last few years at full employment.

But then the flip side of that will have to be what happens to the overall economy.

So it could take some of the pressure of incentives away.

Whether that actually changes the terms of trade with used cars is not clear to me.

Because as I have said many times, the terms of trade in used cars adjust very quickly, because the wholesale market must adjust, as most people can't buy a new car without selling a used car.

So the used car wholesale market has adjusted consistently to these incentives, and there has never been any indication that used cars are fundamentally disadvantaged just because new car prices are coming down.

In fact, most of the negative impact feeds back to new cars, because the residual values come down.

And it creates challenges down the road for the manufacturers, when they try to sell a car, and the consumer comes back and finds out they have less residuals than they thought.

So it's a complex dynamic.

I certainly don't think it would be a bad thing for the economy if the manufacturers had the opportunity to pull back a little bit on their production, and focus a little bit more rationally on producing the things that make them the most money.

But the other factors that are outside of the control of U.S. manufacturers are what are the Koreans' needs, what are the Japanese's needs, what are the Europeans' needs?

How are their markets?

And how much pressure are they willing to put on the market?

Because they right now are generally more profitable, and some of them have started to engage in some of the incentives in a way that they previously hadn't.

So it will be interesting to watch.

It is probably a good sign overall, I think.

But I wouldn't forecast that it is going to have any specific impact for us one way or the other.

It sounded as though you were talking more about margins.

And I was wondering what you thought it might do in terms of volume there.

I am talking about volume.

I know you have been to a few of our presentations.

If you recall, used car volume is almost acyclical.

It is largely -- it grows at about the rate of population.

The history is that when there is a new car boom, you may get a little bit of a boomlet in used cars, not a big one, and it tends to lag new cars.

Generally you don't have significant downturns in the used car business.

And I think used car volume is largely independent of new car volume.

So what happens with the manufacturers on their pricing really won't have a lot of impact, I don't think, on the used car business.

I appreciate your thoughts.

Thank you.

Bill Armstrong, from C. L. King and Associates.

Another question on the purchase offer.

It sounds like this basically has the effect of your lowering the price that you are going to be paying, when you net everything out to the consumer for a given age, condition, quality of a given model of cars.

Is that correct?

Generally, yes.

Not in every case, but generally yes.

What sort of margin should we expect on gross margins as a result of that?

Pretty much the impact that you have seen.

Because it was in place for most of the quarter, virtually all the quarter.

Second question on the hurricane.

In the past, we have seen consumers get their insurance checks.

Sometimes they use all of that check to make repairs to the damaged homes or whatever.

Sometimes they don't use all that money, and then that money goes to other uses, either savings or spending on other items.

Have you, in your experience, and being in the mid-Atlantic where you might have had other hurricanes in the past, have you ever seen any kind of phenomenon that way?

Where you might see a brief burst in activity in the months following a hurricane, with insurance proceeds?

Much, much less so in the auto business.

In our prior lives in the consumer electronics business, for those of us who worked at Circuit City, that was definitely true.

When we saw the big hurricane, I guess it was Andrew down in Florida, there was a feeding frenzy in consumer electronics.

But we have not seen anything similar in the auto business, in the various hurricanes that we have experienced in the mid-Atlantic or Florida.

We would expect this to be a bit more like snowfall in general, that you will get back some but not all of the sales that you lost.

Just exactly how much will help determine where we come out for the quarter.

But we certainly don't have any experiences that says there is suddenly this flood of extra money and people rush out and buy cars with it.

I hope they do, but that has not been our experience.

And just one final follow-up.

When you had been charging an explicit fee to consumers for the appraisal, how much was that on a per-vehicle basis?

Or how did you structure that?

We charged consumers $149 if they sold us a car and did not buy a car from us; $159, I am sorry.

And $99 if they sold us a car and bought a car from us.

So it was two different fees.

And both those of those are now just subsumed in the overall price.

At this time there are no further questions.

Mr. Ligon, are there any closing remarks?

Thanks very much for joining us.

And I hope all of you have electricity.

I will talk to you later.

Bye.

This concludes CarMax's second-quarter earnings conference call.

You may now disconnect.