車美仕 (KMX) 2006 Q2 法說會逐字稿

Good morning.

My name is Tony and I will be your conference facilitator.

At this time I would like to welcome everyone to CarMax's 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).

Thank you.

Mr. Dandy Barrett, Assistant Vice President of Investor Relations, you may begin your conference.

Thank you Tony, and good morning.

Thank you all for joining us this morning.

On the call today 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 about the Company's future business plans, prospects and financial performance are forward-looking statements that we make relying on the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995.

These statements are based on management's current knowledge and assumptions about future events.

They involve risks and uncertainties that could cause actual results to differ materially from our expectations.

For additional information on important factors that could affect these expectations, please see the Company's annual report on Form 10-K for the fiscal year ended February 28, 2005 and our quarterly and current reports on file with the SEC.

Now it is my pleasure to turn our call over to Austin Ligon.

Good morning and thanks for joining us.

Having just completed the second quarter, our second quarter sales, total sales and revenues increased 23% including a 21% increase in total used units and a 10% increase in comp used units.

We benefited from a strong increase in store traffic and excellent execution by our store teams.

We believe the new car employee pricing programs also had several benefits for CarMax.

The employee pricing stimulated consumer interest and generated cross shopping opportunities particularly given the large differences between our used car average selling price versus the new car average selling price.

The program also created more clarity on new car pricing which we believe is always beneficial to CarMax.

It made price comparisons between our cars and those on offer from new car dealers easier and it also reduced the dealer's ability to negotiate on the price of a new vehicle which made it harder for dealers to do large negative equity deals which we have spoken about in the past.

The programs also help drive our appraisal traffic higher particularly as dealers lost some negotiating ability on trade-ins and as we continued to make appraisal offers to all consumers despite a very dynamic wholesale environment which included continuously declining wholesale prices on gas guzzlers.

Our sub prime finance provider, DRIVE, contributed one percentage point to our used unit comps in this quarter.

The incremental contribution reflects having anniversaried the full rollout of DRIVE in early August of last year.

Wholesale sales increase 25% including a 16% increase in wholesale units reflecting the strong increase in appraisal traffic as well as new store openings.

As far as gross margins go, our overall gross profit per unit increased approximately $150.

During the quarter we so saw severe downward pressure on wholesale prices for gas guzzling SUVs and trucks and higher than normal increases in compact car pricing.

We were able to hold margins in this environment because we quickly adjusted our appraisal offers to stay in sync with the broader market trade-in offer trends and because our rapid inventory turns reduced our exposure to falling prices.

We finished the quarter with inventories on target going into the lower volume model year changeover period.

Our new car gross profit per unit increased helped by the clarity of employee pricing comparisons.

Our prices have been measurably lower than employee discount prices on our new cars and we were able to increase our new car prices while maintaining or even increasing sales by brands.

Our wholesale gross profit per unit was also up primarily due to our sharp attention to appraisal offer adjustments and the changing wholesale market.

Gross profit on other sales and revenues also improved primarily as a result of higher service margins which benefited from greater overhead absorption that higher volume brings.

As far as CarMax Auto Finance, CAF income was up 15% primarily due to our strong vehicle sales and due to higher CAF penetration.

CAF loan originations increased approximately 30% versus last year's quarter as we were able to take advantage of the larger percentage of prime customer applications in this quarter.

For the quarter, the gain on loans sold was 3.3% or the spread as we call it, consistent with our original expectations.

The gain spread last year was 3.8%.

The SG&A ratio was 10.1% this quarter down 10 basis points from last year.

Our SG&A leverage given the good sales was limited by a combination of factors including the rollout of television advertising in L.A. beginning in April; the lower than normal corporate and store bonuses in last year's tough second quarter; and the continued higher ratio of stores in our store base that are not yet at basic maturity -- 46% this quarter compared to 38% in last year's second quarter.

Many people have asked when that will flatten out.

Based on our current new store growth plans this year-over-year comparison should flatten out in the third and fourth quarter of next year.

As far as expectations go, for the third quarter we now expect used unit comp growth in the range of 2 to 8% versus 2% in last year's third quarter and we expect EPS in the range of 19 to 25% compared to $0.19 to $0.25 compared to $0.17 last year.

As we noted in our release these are fairly broad ranges because it remains a very dynamic market as it always is in the fall.

So with that, we will open it up for questions.

(OPERATOR INSTRUCTIONS).

Your first question comes from Stacey Widlitz from Fulcrum Global Partners.

Good morning.

Thanks.

Can you just comment on the sustainability of the gross margin improvement in the spread?

I guess are you able to adjust prices so quickly that the consumer doesn't notice?

For example, are you widening the spread between what you think you can get for the car and what you actually offer the consumer?

And is there any push back on that?

And then secondly, just looking at your comp guidance for Q3 it's an acceleration on a two-year basis.

I guess what are you seeing in the market right now that gives you the confidence that the business may be able to accelerate?

Thanks.

Okay.

Let me answer the second question first.

The first one was a multipart compound question and we're still diagramming it but we will try to answer it.

As far as the comp sales trend goes, we are relying on a couple of things.

One, as you know we budget by run rate not by comps and we are basing some of what we are projecting for the third quarter on the run rate trends that we see.

I will also point out a lot of people have added up the last two years comps in the first and second quarter and drawn some conclusions from that.

Remember that the first and second quarter last year were a terrible time for the auto industry for the used car industry in general.

So adding those together and using that as a comp trend, I don't think is a real accurate way to sort of guess run rate.

So we have done our best job.

We have obviously still put a pretty large range in there because it is a very dynamic market.

Let me move on to trying to answer the questions about margins.

I guess from an overview point of view, are we able to continuously adjust everything to be exactly with the market?

The answer is obviously no because we are like everybody else continuously trying to figure out where the market is and where it is moving.

Having said that, what we have found is that we have been able to adjust our appraisal offers certainly in the marketplace as we see the market moving.

And in the case of SUVs because there has been such a consistent move now for five or six months, we are staying very close to that on a week by week basis.

Is there any consumer resistance?

Of course.

But we measure that consumer resistance and we find that it is within acceptable limits.

If you have somebody who comes in and nearly has a heart attack when they find out what their one- or two-year old suburban is worth, they are going to be resistant to us or to anybody else who brings home the harsh truth.

They are certainly -- on those cars that have declined the most in value, you're going to find a lower buy rate.

But we've been able to keep the buy rate in line with historical averages for this time of year and we're quite happy with how we're conducting that program.

Anything you want to add, Keith?

I think the third quarter is especially challenging to gain spread given that we would expect that all things being normal that we would see the normal traditional dramatic fall in wholesale values.

And so we had a lot of dynamics where most inventory actually was appreciating in the first half of the year until the gas crunch hit again on SUVs and big-ticket.

And so as Austin indicates, we're constantly trying to do our best to approximate what we believe is going on in the broader market.

But your question was can we maintain or increase our spread?

I would say that's unlikely in the second half of the year just given the time of the year.

One of the points I will make and this is public information I believe from either ADESSO or Mannheim where as the overall wholesale pricing index isn't jumping around very much.

The components behind it are jumping all over the place with compact and midsized cars maintaining significantly higher prices than they would typically have at this time of year compared to where they were last January.

And SUVs falling apart completely.

So this is the case where the average doesn't really reflect the true dynamics that are going on car by car.

So it is a very dynamic marketplace.

Sharon Zackfia of William Blair.

Good morning.

A question for you.

You mentioned rapidly falling wholesale prices this time of year and I guess I'm curious.

Do you think Katrina because of all of the cars that were wiped out down there will support wholesale prices more than normal during this model year changeover time frame?

And if so, what does that mean for your business or how would you view that?

I doubt it because the rough, back of the envelope calculations I have done suggest that it is not a big enough difference to influence the entire national market.

Now certainly in Louisiana and Mississippi and Texas you may have some impact but we won't know for awhile how many cars people are actually going to get insurance money on etc.

So it could play a factor but I think the fall decline in prices is driven by much bigger forces than that and I doubt that it would dramatically change things.

Am I recalling incorrectly a couple of years ago that fall (ph) prices kind of stayed more firm than you traditionally saw them and there was some sort of hiccup there?

Or is my recollection just spotty this early in the morning?

I think that was more -- it was two years ago I think it was more in August and early September.

That was actually as a result of that we changed our entry price strategy going into the fall a little bit and even if those circumstances were repeated, we wouldn't expect that to have a big effect on us.

And then can I ask a follow-up question.

Please.

You mentioned healthcare costs in the press release and I guess I was surprised.

Not too many people are saying anything favorable is happening there so maybe Keith can tell me what's happening with healthcare costs.

Like everyone else we had actually forecast an increase in healthcare costs based on population and just the general industry dynamics.

And somewhere in there we actually underperformed what we had forecast.

And so it was a pleasant surprise because generally we were looking at a 10 to 15% increase in actual cost per claim and didn't experience that in the second quarter.

Now whether that will continue or not, we don't know.

So the way to think about it is it wasn't as bad as we expected it to be.

That's fair enough.

Which is consistent with what to hear from the rest of the world which is the only upside you can hope for is that things aren't quite as bad as they look.

Good.

And then one last question and then I will let other people ask questions.

I guess you know you talked about the new car employee pricing program stimulating some traffic over this summer and my understanding is those have all but petered out.

So clearly with your guidance you are feeling pretty comfortable.

I mean how do you think about what happens when those peter out?

Are you seeing traffic return to more normalized levels and how do you think about this uptick in Katrina versus what you saw in Florida with Frances last year?

Is it actually incremental on top of that?

Let me first address Katrina.

Because we don't have any stores in Louisiana or Mississippi or coastal Alabama, we are not in any of the places that are going to get the most direct benefit.

We think we will get a little bit of benefit in Houston but very marginal based on what we have seen so far.

So we were fortunate in not suffering any of the associate impact that this brought on other companies.

And we are not going to particularly see any little mini-boom as a result we don't think either to the degree we did.

It would be in Houston but we think that would be pretty marginal.

In terms of employee pricing going away, I think the way to think about employee pricing this summer there were a lot of things going on this summer some of which were negative for us like prices in the wholesale market being significantly higher in the spring due to I think a short-term bottleneck in the availability of off lease and program cars.

And I think one of the ways you can think about employee prices working is that helped offset some of those things for us by generating some traffic and by really increasing the attractiveness of our appraisal offer and increasing the clarity in the market.

So I think there was some negatives out there.

I think that helped in our view offset those negatives and the quarter came out pretty well.

My historical view is that the used car business is not quite but close to a cyclical and while it can be affected by the new car business, it tends to be more stable.

And so I think going into the fall our best guess is that the business will be driven by the traditional dynamics that drive the fall market.

But the spread of our expectations is a reflection of the fact that we recognize that there is a big price war going on between the big domestic companies that they are not sure what their own strategy is going to be and therefore none of us can outguess what dynamics might result from changes on their behalf or responses to the market.

So we do recognize that it is still a very dynamic market.

But our guess is based on the trend and our view that most of the things that went on this summer are sort of now past us and we are into an area -- into a part of the year that is typically more driven by seasonal factors than anything else.

Are you seeing any evidence that higher gas prices are stimulating the replacement cycle to more fuel efficient cars?

Well higher gas prices are stimulating some people who own less fuel efficient cars to want to sell their cars but since offers are much lower on those cars, I'm not sure that it is necessarily -- and you think about the flip side of that, the people who have fuel efficient cars want to hold onto them and if you're going to get them away from them, you're going to have to pay more.

So I'm not sure you are going to see net demand increase because the sellers are raising their prices and the buyers are suffering a loss on their current asset.

So I think the market has a wonderful way of balancing that out.

So I don't expect to see any particular boom there.

Mike Heifler of Deutsche Bank.

Good morning everyone.

A few questions and I guess first maybe just a follow-up on that last question.

In the past you guys have pointed out that higher fuel prices could be a drag on used vehicle demand and I am just wondering what actually have you seen since the last week of August through now?

Let me clarify.

I don't believe that higher prices per se -- I don't think we have any evidence that higher prices per se are a drag on demand.

I think what we have seen in the past is that a spike in fuel prices can have an influence in demand for a short period of time.

So in other words, when fuel prices went up from $2.00 to $2.50 in a very short period of time when people weren't anticipating that, I think that had a short-term impact.

My own opinion is and quite frankly none of us have data that is any good in the used car business that goes back to the '80s and '70s when we had big price changes to be able to understand what the dynamics of the used car market was relative to those sort of changes.

But my belief is that spikes have short-term effects but that they then level out and that the level itself unless it were to double or triple is unlikely to affect the overall level of demand for used cars at least.

Was your floor traffic affected by the spike in early September?

We haven't commented on early September but there is nothing that we would point to there that was unusual.

It is an influence out there in the market but it is no longer something that people aren't expecting.

There was a very brief spike right around the hurricane where for a day or two gas prices went to $5.00 in Atlanta and we were a little worried -- actually we were more worried about whether we were going to be able to get gas to our stores because there was a brief period of time when there was sort of a little panic.

But that went away pretty quickly and I think that four- or five-day panic sort of sorted itself out.

And on inventories I know you guys are pleased with the inventory levels but if I could go back over the past three years and I look at sequentially 1Q to 2Q, inventory levels have fallen.

And that didn't happen this year.

Can you talk a little bit about that?

Do have a comment, Keith?

Well, I mean part of inventory levels is really where we end versus the absolute timing of the calendar.

But all we can do is tell you that we clearly have a plan based on every location and we actually were very satisfied with our level of inventory.

Where a year ago I think we had admittedly said that we started reducing our inventory levels a little bit late and so in fact, we were a little higher than where we wanted to be a year ago.

If you're looking at dollar inventories, the other thing I will point out is our new car dollar inventories have a disproportional impact on overall inventories and largely that is irrelevant to the business.

But we often -- it is much harder to manage new car inventories as any of the new car focus guys will tell you because you often get -- you often are at the whim of the manufacturer policy.

And if you look at total dollar inventories, that can swing things around.

But when we look at -- we really focus on unit used car inventories forgetting what the average price is because that is not really relevant.

So when you factor in the new stores we have opened, we think that they are right in line with where you would expect them to be.

And one last one, option expensing.

Have you guys updated your thoughts on that for next year?

We intend on complying when the day of reckoning comes but in the interim we haven't clarified which option we plan on pursuing as far as the alternatives.

Do you have any type of guidance of what the impact would be on earnings per share?

We haven't given any guidance yet.

When do you guys expect to do that?

When we have made the determination of which path to take whether we take the Black-Scholes or the binomial model.

Scot Ciccarelli from RBC Capital.

A couple of questions.

First I guess Austin, how much would you say your improved performance over the last couple of quarters at this point because we've seen a decent trendline?

Is it attributed to improvement in the overall used vehicle market?

And how much of it is CarMax specific?

I know it's going to be hard to break it out but if you can give us a way to think about that?

Gee, it is hard to break it out and I would say there is some of both.

We have I think we've definitely done some things over the last four or five months that have clearly contributed to both our sales and our earnings performance.

That as we have talked about before -- we don't -- one of the ways I used to describe the business was try to make mistakes as fast as you can particularly in the early days.

We don't always get things right the first time but we try to learn from what we do.

And I think we did learn a significant amount that we're able to use this year that helped us.

By the same token, there is no question that given a fairly challenging wholesale market environment and the higher gas price spike in the spring than people expected, I think the employee pricing promotion was one that worked well for us.

You know we appreciate it.

It worked well for us and it did drive traffic and it drove comparisons that worked well for us.

And I think we have to give credit to the marketplace for that one, that we were able -- I mean give credit to our sales we were able to take advantage of it.

But give credit to the marketplace for putting it out there.

So it's a combination of the two.

Do you have anything to add to that, Keith?

I would just say at this point we believe we gained market share in the first quarter and it is too early to really get a sense of what we did in the second quarter relative to the overall used car market.

But as you know, everything we look at indicates that we gained market share last year when we had negative comps.

So consistent market share gain is something that we have pretty well seen in almost any environment.

And I guess at least a little related to this you guys have obviously seen a lot of volatility both up and down in your business.

I guess the question is how would you characterize your ability to forecast your business?

I mean we have had a number of revisions again up and down -- you provided a preannouncement just weeks ago and you still came in above that.

Where are you in the process of really being able to get your arms around it or is this something that it's just not -- that's the business model it is going to be more volatile than maybe what anybody anticipated?

Well I think the business model looks like it will be more volatile in the kind of environment that we're dealing with now.

Because one of the things that I think its always worth going back and pointing out is when we look back at history from 1985 up until at least '97 and probably even 2000, new car prices increased every year in real terms and it provided a more stable pricing environment for used cars to operate in.

We are in the middle of a competitive shakeout in the auto industry.

In the stage not unlike what has gone on in the airline industry is my belief.

Ford and General Motors are facing problems that are absolutely as challenging as the ones that USAir and United and Delta are facing.

Maybe more challenging.

So while that plays itself out in what is now a completely open market and remember prior to the mid '90s we did not have a completely open market in the U.S., I think it injects some volatility factors into our business that we can't control and we can't necessarily project.

What I can say is I think we can deal with that volatility better than anybody else and I think our ability to continue gaining market share in every kind of market is indicative of that.

But it would be nice if the market would level out a little bit.

I will point out that back in 2001 and 2002 we benefited enormously from the volatility.

So it goes both ways.

I would love to be able to say that there is some clever we are going to be able to come up with that will let us forecast this better but this is not primarily a forecasting or analytical problem.

You know us pretty well and you know that we're fairly analytical people.

So if there was a way to squeeze a better forecast out of the numbers, we would have done it.

I think it has more to do with it is just a pretty dynamic market and one that we have to respond to.

And it doesn't always come out consistent with our best guess.

Scott Nesson of Lehman Brothers.

Most of my questions have been answered.

Probably if you could just update us on your new market entries?

How your stores in L.A. are performing?

Whether or not the higher fuel costs in that particular region have had any impact on your ability to leverage sales at those new stores?

Overall what we've said about Los Angeles is that Los Angeles is in line with what we expected and we intend to continue building stores there and continue our marketing program.

So we're pleased overall with L.A.

We don't see gas prices having any different impact there than they are anyplace else.

I mean if you have lived in L.A., you know it really doesn't matter what the price of gas is, you have no choice anyway.

You've got to get in your car.

Earlier I guess you commented on the spike in fuel prices having a much more profound impact on your business rather than the level.

It seems clear that this winter heating oil prices will be significantly higher than last year and that could possibly have an impact on the overall consumer.

Is that something you are expecting relative to your outlook for the second half given that you face a pretty tough comparison in the fourth quarter?

I guess that wouldn't be -- that's an overall factor in the economy obviously.

In general, because we are more heavily spread in the Sunbelt really our only strongly northern market right now is the greater Chicago area.

We're probably a little less sensitive to heating oil prices than the nation as a whole because we really cover most of the Sunbelt's mile.

But Keith is certainly concerned that last winter was a somewhat milder than normal winter in our markets and if we go back to average or if we're unlucky and have a colder than average winter, that could have a marginal impact on the fourth quarter.

I would say that our experience is snow in the mid Atlantic and the Southeast has a much bigger impact on us than heating oil prices or anything else because since all our stuff sits outside, snow can literally shut down our store for a day or two although we eventually get much of that back.

The randomness of winter weather is probably a bigger impact than heating oil prices.

Matt Nemer of Thomas Weisel Partners.

First question is just back to gas prices.

I am wondering if you have rethought -- what you're thinking in terms of your vehicle mix going forward?

If you might adjust the mix of the types of vehicles that you're selling and how you are able to do that?

Vehicle mix is something -- it's continuously a short-term decision.

So we wouldn't think about vehicle mix six months or twelve months down the road because prices in the wholesale market will change enough that usually whatever we thought today, there is a good chance it would be wrong six or twelve months from now.

So vehicle mix is something that we literally look at every week.

I can absolutely tell you this summer we have been moving away from SUVs and towards compacts and midsized cars.

I can also predict with some degree of certainty that at some point SUV prices will have been beaten down to the point that we will actually see a strong resurgence in the used car market for SUVs.

We saw it with the Explorer when it went through its crisis, the rollover crisis.

We saw it last winter when we saw a strong resurgence in SUV demand because SUV prices were beaten down so far.

So there is some price at which gas guzzlers become attractive relative to other cars and what we try to do is continuously adjust our inventory to sort of stay with where the market is.

And then the next question on gas prices is I guess more related to your operating cost.

Is there an increase in the transportation assistance that you get from auctions and consigners when you buy at auction or how should we think about the cost of shipping cars to your stores from auction?

Well, it's a good question.

We have not seen it as a material impact and we as independent shippers -- and I'm not aware that we have gotten any increase in assistance from auctions.

If it were material, we would probably go ask for it.

But we haven't seen that as a material factor at this point.

Okay.

And then next on the new vehicle margin, that was sort of surprising that it was that strong given sort of the high-volume employee discount environment.

Is there something going on there?

Well if you want to look 10 or 15 or 20 years in the future and ask what will the world be like when CarMax is operating in every market and if it some point we decide want to expand in the new car business?

What it tells you is how powerful our offer is in an environment where prices are clear because our prices are lower every day on new cars.

But one of the difficulties is most consumers either are unwilling or find it difficult to cut through all the clutter that traditional dealers put up there to try to hide what true total price is.

And the employee pricing environment as far as our new car business went allowed us to both raise prices and improve sales because it clarified what our real offer was compared to the rest of the market and our offer didn't have to be as sharp.

So I think it gives you a little glimpse into how fundamentally strong the CarMax offer is if you believe that the market is going to evolve toward a more transparent price environment.

Now I am an agnostic on whether that is actually going to happen.

Because I believe if you read Automotive News, dealers were largely unhappy with the employee pricing scheme because it took a lot of control away from them.

And I think they will fight every effort to go in that direction.

It sort of implies -- is it fair to say that your new car stores although it is not a big piece of your business are very high-volume metro type stores and that you are already selling at or potentially below the employee price and then maybe getting a little bit of margin back through like a holdback from the manufacturer?

Yes, let me repeat.

In every case we pretty much have the best new car price in the marketplace every day.

And for the brands where employee price came out, we were already at or well below employee price.

I mean, we sell at $800 to $1000 net margin including -- whatever the manufacturer calls it, whether they call it transportation assistance, inventory assistance, advertising assistance, holdback or anything else, we call it margin.

It is all just a different form of margin.

And we are very sharply priced every day there.

And that is what we have to be given the type of offer we have.

And that is one of the reasons that we are not terribly enthusiastic about the new car business right now because although we make an acceptable return, it is not near the (technical difficulty) return as we make in the used car business because it is very hard to get across our offer as effectively as we think it should be gotten across.

Despite the fact that in virtually every market in the brands we sell we are the leader in the market.

In many of the brands we are among the top dealers in the nation for our brand.

So it is very successful from a sales point of view.

It's just tough to make a good return when you charge prices that competitively.

Got it.

And then my last question is one of your -- there is another used car dealer that is out trying to raise $150 million in capital.

I was just wondering if you are familiar with their business model and it looks like it is much more on the subprime side, but I was just wondering.

Who is it?

It's called DriveTime.

DriveTime used to be known as Ugly Duckling.

They went through a Chapter 11.

They are a buy-here/pay-here lot.

And I don't say that dismissively.

They are an effective buy-here/pay-here lot and they are a competitor at the low ends.

Absolutely for instance DRIVE customers are people who previously would have to have gone to DriveTime.

So they are not a core competitor but they are a competitor at that low end of the market and I would say a fair number of customers who come into our stores and can't get financed in markets where DriveTime is a player, they will end up at DriveTime.

Unfortunately a fair number of customers who could have bought a car from us at a substantially better deal if they end up at DriveTime first will buy there.

And they won't believe that comment but it is pretty consistently true.

So we do consider them a competitor at the low end but they are in a very different business than we are because they are an integrated low-end or buy-here/pay-here finance company.

Bill Armstrong of C.L.

King and Associates.

I have a couple of questions.

Given your comments that you have been able to adjust prices on SUVs and pickups rapidly and you have rapid inventory turnover -- in your press release you indicated that you do expect margin pressure on SUVs and pickups because of the decline of the wholesale prices.

I was just wondering if you could reconcile that for me?

Yes.

Our reconcile is if we could turn inventory every day we wouldn't have any pressure.

But while we turn it quickly, it is still on average turns about every 45 days, about every 30 days once it is in salable.

So it is not instantaneous and we have seen some pretty breathtaking falls in SUV pricing and demand.

So we are out there continuously making adjustments.

I think you are familiar with the fact that we have a pricing model that adjusts the price on a car if a car doesn't sell based on demand factors, consumer interest, what type of car it is, etc.

In addition to that from time to time we will make supplemental markdowns that go beyond the markdown the model would have made if we believe there are movements in the market that require that.

We have certainly seen some of those in SUVs.

So what we are saying is that our inventory turn puts us in a better position than anybody else and lets us adjust pretty well but it doesn't exempt us from market movements given that it still takes us on average 45 days to sell the average car.

And a lot can happen during that period of time.

Would you see an offset or a partial offset to that based on stronger prices for compact and fuel efficient cars?

Maybe.

We hope so.

You would like to believe that.

I will tell you that the wholesale prices for fuel efficient cars have stayed strong and obviously a consumer who comes in our store who wants to sell us a fuel efficient car is going to expect to get a really good price from that.

But there could be a little bit of an offset.

Recognize though that one of the challenges is that this decline in SUV prices is in the environment where we see sequentially falling demand in terms of volume demands.

So that every fall just because of literally seasonality or weather factors, demand in November, December is lower than demand in September, October;

September, October lower than August, July.

So faster falling prices just makes it a more challenging environment.

Now historically we have been able to manage through that much better than anybody else.

I think one of the continuing strengths in our business is we are willing to stay out there buying cars every day.

We're still willing to make an offer on any car and there is nobody else who is willing to do that.

And I think that is a countervailing part that tends to help our sales in an environment like this.

Do you see a disconnect in pricing trends at auctions versus trade-in values?

In general we don't but we certainly did last spring.

We certainly saw that there was a supply/demand squeeze at auction where there was simply more demand particularly for late-model cars than there was supply.

And we certainly saw a spike in prices.

And that was I think driven by a combination of strong demand, fewer off lease vehicles which everybody expected, and a lag in the availability of program cars being returned to auctions because rental car companies were doing so well that they kept the cars until the absolute last day they could turn them in.

So we did see some disconnect there.

I think normally we expect those markets to come back in line with each other.

And my final question is you indicated some definite uncertainty going into Q3 and you have a wide range of guidance.

But with greater pricing clarity in the market whether it is employee discount or an everyday low price strategy or whatever -- the domestics end up doing but they have indicated they are going in that direction.

I would think that you might see more stability rather than less in the impact on late-model used cars.

If you go back and look at the quarter by quarter statements for the last five years from the new car guys, the domestic new car guys, indicating which direction they are going in, I would assert that -- I wouldn't put a lot of confidence in any indication they put out and its likely impact on the market.

I think it is highly unlikely that they will be successful in going toward a more transparent pricing system because their dealers don't want them to and they are dependent on their dealers.

So I think that will be a real struggle.

If it happens, that could maybe it would lead to a more stable environment but I just think it would be way too strong a thing to bet on anything that they say in terms of it actually being the environment that we have to deal with.

Greg Reagan (ph) of Avenue Capital (ph).

I just wanted to ask about your -- (indiscernible) on same-store sales but just thinking about it and with Rita coming in looking like it's going to hit Texas now, how that -- if you could walk us through the thinking on your guidance range with that forecasted in or not forecasted in?

And really how it compares to 2Q of last year when you saw a hurricane activity in Atlanta and that led to some slowdown in sales at the end of the quarter.

Yes.

It was more in Florida.

But look, if we have the bad luck and Texas has the bad luck that Rita hits Houston and Galveston square on, typically what that does and Houston has the benefit of being further inland than most of the Florida cities except Orlando.

It has the downside of being very low-lying and therefore somewhat subject to flood.

But our general experience is that we end up closing down for a few days.

We are pretty good -- we're actually very good at protecting our inventory -- knock on wood -- but our associates have homes and families that they have to take care of.

And all our customers are worried about other things so they are not coming in the stores.

So typically we will see a hurricane shut down a market anywhere from a day to five days and our typical experience is within the next three to five months, we get back whatever we lost.

I think hurricanes -- our experience is that we're much more likely to get all of that back than maybe a snowfall or something like that.

I don't know why that is but maybe it is just more measurable.

If the hurricane goes a little further south that would be -- we would be happier with that.

Don't want to wish it on any of the other South Texas cities.

But we experienced shutdowns in South Florida last year and I would expect something hitting Houston to have a similar impact.

But probably not an overall negative impact on the second half.

We would probably get back whatever we lost.

Jeff Marsh (ph) of Matador Capital (ph).

I didn't catch the used vehicle margin.

Did you disclose that?

I didn't say it but it is actually in the release, isn't it, Dandy.

Yes it is.

Used vehicle margin --

It's on page 3 of the release.

The gross margin was $1856 versus $1846 last year.

Sorry about that.

I know you've been asked a lot of questions on inventory and I appreciate the feedback there but maybe you can help us understand the inventory that remains today.

What the sort of gas guzzling element of that looks like relative to last year at this stage?

Well, gee, relative to last year, it is probably lower.

Relative to what you would ideally like it to be, it's probably a little bit higher but within an acceptable range.

Because gas guzzlers have been really hit.

So we have been moving away from them throughout the summer.

And as I said, we are within a range that we think is manageable.

But if I could wave the magic wand, I would probably have a few fewer SUVs and a few more Civics.

But my guess is we are probably in a little better shape than most folks.

And I expect by the time we get through the winter that will turn around.

(OPERATOR INSTRUCTIONS).

Mark Razzari (ph) with Goldman Sachs.

It's Mark Razzari with (indiscernible) Goldman Sachs.

That's a valiant attempt at my last name.

I was going to say -- has anybody ever gotten that right?

My first question actually is on the guidance Austin that you laid out the 2 to 8.

Can you just help us understand the comparisons that you're up against now?

Maybe you can help us understand where you are in reference to that range?

You know how the comparisons kind of play out the next couple of months here and then I have a couple of follow-ups.

When you say the next couple of months, you mean this quarter.

I guess what we would say is this range, the midpoint of the range is fairly close maybe just slightly below where we would have expected at the very beginning of the year.

So it is not inconsistent with the run rate that we have expected or we would have expected at the beginning of the year.

We have obviously given a wider range just because we think there is a lot of stuff going on out there.

And we think a wide range helps indicate that there is a lot of dynamism in the market and it could either be somewhat better or somewhat worse than our current expectations.

Relative to where you are now in that range?

Relative to where we are now -- what do you mean by that?

Are you kind of in the middle of that range or towards the higher end or --?

Are you talking about in September?

Right where you are (multiple speakers)

The answer is we're not giving you any guidance on that.

We are not telling where you we are today in September.

But what you can judge from what we have always said is we wouldn't be giving that range out if what we were doing in September weren't consistent with that as a range. (multiple speakers)

If you look toward the fourth quarter, how do the comparisons -- obviously you are up against a much more difficult comp in the fourth quarter -- so can you just help us understand how the back half -- how we should think about the progression of the comps?

The way I think about it is it will be our toughest comparison.

We are coming up against an extraordinarily strong performance from DRIVE last year and we are coming up against a very strong SUV and general sales performance.

So it will be our toughest comparison.

And one of the reasons we're not giving any specific guidance on it yet is we like to see the third quarter because we think we'll understand the fourth quarter a lot better at the end of the third quarter.

So there is not a whole lot of guidance we would want to give you other than we agree it is a tough comparison in terms of comps.

And then just one quick follow-up if I may.

On the SG&A leverage and gross margin kind of trade-off on the back half of the year, if you are kind of at the midpoint of the 2 to 8 and if you look at the SG&A leverage versus where you expect gross margins to be given some of the pressures out there, how should we think about that?

Do you have any thoughts on that, Keith?

It will be I think just generally flat or depending on at least for the third quarter, we haven't given any guidance on the fourth quarter.

So I can't help you but we would expect it to be flat or maybe slightly favorable.

And is there anything on the SG&A side, Keith, that we should be aware of for the fourth quarter that is kind of -- that would imply that --?

Other than we had a really great fourth quarter last year.

And as Keith points out, really good weather.

And obviously because the third and fourth quarters are your lowest volume quarters you get great benefit from some additional sales.

So if we had some bad snow or anything like that in the fourth quarter, it will come through as an SG&A challenge.

The reality is it is mostly volume.

And you don't have any specifics?

As far as unusual items, no.

Justin Hughes of Philadelphia Financial.

What was the number of wholesale units you sold in the quarter?

Number of wholesale units?

Yes.

That is in the release on page --.

I don't think the unit numbers are in there.

Oh yes they are.

No, we don't give the units (inaudible).

So we give the mix number but not units?

Correct.

You can calculate that I think but it sounds like it is not in there.

If you want Dandy to help you calculate it, give her call after this call.

Okay?

Okay.

How do you see trends on the wholesale margin being?

You said you expected them to go back towards a $100.

Is that still true?

Trends on wholesale margins -- when did we say we expected them to go back toward $100?

I'll have to look at that.

How do you see the trends in the margin looking?

Will generally wholesale margins are tighter in the fall and we would expect that to be true.

That is when prices are falling and we would expect that to be true again.

Paul Maggison (ph) of Castine Capital Management.

My question has been answered.

Thank you.

At this time, there are no further questions.

Thanks very much.

Thanks for joining us and we'll talk to you again soon.

Thank you.

Bye.

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