車美仕 (KMX) 2013 Q3 法說會逐字稿

Good morning.

My name is Mo and I will be your conference operator today.

At this time I would like to welcome everyone to the third-quarter fiscal '13 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 session.

(Operator Instructions)

I would now like to turn the call over to today's host, Ms. Katharine Kenny, Vice President of Investor Relations.

Ma'am, you may begin your conference.

Thank you, Mo; and happy holidays to everybody.

Thank you for joining our fiscal 2013 third-quarter earnings conference call.

On the call with me are Tom Folliard, our President and Chief Executive Officer, and Tom Reedy, our Executive Vice President and CFO.

Before we begin, let me remind you, as always, that our statements today regarding the Company's future business plans, prospects, and financial performance are forward-looking statements that we make pursuant to 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 that involve risks and uncertainties that could cause actual results to differ materially from our expectations.

In providing projections and other forward-looking statements, the Company disclaims any intent or obligation to update them.

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 29, 2012, filed with the SEC.

I'll turn it over to Tom.

Thank you, Katharine.

Good morning, everyone.

Well, we were very pleased to report used unit comps for the third quarter of 12% and total growth in used units up 16%.

Almost all of our comp growth was due to improved conversion.

We believe improved conversion was due to a number of factors -- more compelling finance offers from CAF and our third-party lenders; increased inventory selection; and strong execution by our store sales teams.

In addition, we believe consumer sentiment has improved somewhat, which may be resulting in more engaged customers in our stores.

Total used vehicle gross profit grew by 15% as our used unit sales increase was slightly offset by a $25 decrease in used vehicle gross profit per unit to $2,146 per car.

Our wholesale unit sales increased 10% compared to last year due to higher appraisal traffic.

Our buy ratio of 28% remained about the same as in the third quarter of last year.

Total wholesale gross profit grew by 11% as a result of higher unit sales and a $9 increase in per-unit gross profit to $923.

CAF quarterly income grew 16% to $72.5 million.

Tom Reedy will comment more in a moment.

During the quarter, sales of five-year and older vehicles as a percentage of our total sales remained well above 25%, as we have been seeing for a while.

Year-over-year sales of SUVs and trucks fell by about 4 percentage points of our total, offset by a similar increase in the percentage of compact and midsized vehicles.

You'll also notice that our total inventory at the end of the quarter was up substantially.

This is also for a number of different reasons.

First and foremost, our sales are up 12%, and we usually move our inventory along with sales.

We had 10 new stores in the quarter compared to last year, which was about a fourth of the increase.

And lastly, historically we have built inventory levels in the fall; and in last year's third quarter we moderated this build, given the negative comp levels we were experiencing at the time.

But this year we reverted to a more aggressive level of production given the improved condition.

I will now turn the call over to Tom and he will comment on financing.

Tom?

Thanks, Tom.

Good morning, everybody.

CAF income grew $10 million or 16% compared to the third quarter of fiscal 2012, in line with our portfolio of managed receivables, which increased 15% to $5.5 billion.

For the quarter, interest margin after the provision for loan losses increased 14%.

The growth in managed receivables was largely driven by strong origination volumes over the course of fiscal 2012 and fiscal 2013.

These were lifted by CAF's expended penetration, an increase in the average amount financed, and CarMax's sales volume growth.

The allowance for loan losses grew $12.9 million or 31% to $54.3 million.

As a percent of average managed receivables, it increased a 10th of a point to 1.0%.

This increase reflects the growth in our portfolio and the shift in credit mix as we return to our pre-recession origination strategy.

The magnitude of the increase was tempered somewhat by favorable loss experience.

Net loans originated in the third quarter increased 29% year-over-year.

This was largely driven by higher CarMax sales and an increase in CAF net penetration, which was 41% compared to 38% in the third quarter of 2012.

Penetration increased due to the transition back to the prerecession origination strategy and the extension of more compelling finance offers to our customers.

As you know, we test offers and policies on an ongoing basis, and attempt to optimize sales and profitability within our risk profile.

During the quarter, we believe consumers responded favorably to our finance offers, providing both incremental sales and higher CAF originations.

We experienced continued strong access to financing for our customers.

And as we have seen throughout the year, third-party subprime remains a higher percentage of our sales, 14% versus 9% in last year's third quarter.

Now I'll turn it back to Tom.

Thank you.

Our improved sales rate also drove SG&A expense leverage during the quarter, even as we continue to ramp up our infrastructure per store growth.

SG&A expenses per retail unit decreased by $43 a car.

We remain pleased with our new store performance during the third quarter.

We opened three new superstores -- one in Des Moines, Iowa; one in Denver, Colorado; and our 10th store in Los Angeles.

Last week we opened our second store in the Denver market and we plan to open one more store during the fourth quarter, a second location in Jacksonville, Florida.

In today's press release we included 4 planned openings in the third quarter of our next fiscal year, one in our existing Washington, DC, market and three in new markets for CarMax -- Jackson, Tennessee, which will be our second small market store; and two in St.

Louis, Missouri.

Also during the quarter we launched our CarMax app, available now on the iPhone.

It already represents about 5% of the traffic to our website.

Overall Web visits continued to increase, averaging now approximately 9 million per month.

This represents about a 16% increase year-over-year.

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

Operator?

(Operator Instructions) Matt Nemer, Wells Fargo Securities.

Just a few questions.

First, can you talk about the improved inventory selection that you mentioned?

Is that depth within certain models, or is it more availability at certain age brackets?

Well, it is really representative of what we are selling at this time; but as I said, about two-thirds of the inventory increase is explained through just 12% comps, and as you know, we move our inventory along with sales; 10 new stores, which was about a fourth of the increase; and the remaining third was -- we always build inventory in the fall.

Last year we didn't.

We moderated it some, so it created kind of a bigger spike this year because we didn't build as aggressively as we normally do.

Okay, thanks.

Then secondly, I am wondering if any of the changes in your store of the future, your next-generation store format, have been working their way into the rest of the store base.

Is there anything in that new store that you are planning on exporting to the base?

Yes, you know, it is still pretty early, and there is a lot of the technology -- some of the changes in technology, with the display screens and how we present some of the consumer offer, that we think we will be able to push back into the existing stores pretty quickly.

We have some process stuff that really doesn't require any capital.

Just some basic things like unlocking all of our cars, allowing our consumers to test drive without a sales consultant.

Just some things we hadn't done in the past.

We have yet to roll those out into existing stores because we want to be pretty certain what is working and what is not working.

We do plan on going back in and remodeling five or so existing stores over the next 12 months to really see if we get a spike and get a read on the whole package.

But to date, we have our Chattanooga store open, Des Moines, and two stores in Denver that are our full next-generation package.

But we are still learning which components are advantageous and which ones we can roll back into the stores pretty quickly.

But there isn't any one thing that is jumping out right now.

And on the remodel, how big of a capital expense per store are you anticipating?

We are still working on that.

We tried to select some stores that had some capital coming anyway.

Like some, they were up for some refreshing to begin with.

So we think it will be pretty manageable, but we don't have a number yet.

Then lastly, on the change in finance -- on the change in the finance environment, you mentioned some changes at CAF.

Are the APRs coming down?

And is that due to higher three-day payoffs or more competitive rates from other folks in the industry?

Yes, Matt, you know, we talk about that we are constantly testing to see if changes in APR and in our offer will move the needle for customers, and we do that on an ongoing basis.

We have been testing the past two years in this low interest rate environment.

But I think what we saw in Q2, starting in Q2, is that customers have become more responsive to changes in interest rates and more receptive to it, which means we get better attach, fewer payoffs, and more sales.

So that is a good package for CarMax.

You can see in our APR for the quarter, which we started providing now in the earnings release instead of the Q so you have a couple weeks head start with it, that we are down at 7.7% for the originations during the quarter versus 8.1% in Q2 and 8.7% a year ago.

So we have dropped rates; but all in all, we think it's -- we believe it is a positive for CarMax.

It is really -- that is our barometer for testing the competitive environment is whether customers are receptive to those changes, and we found that we believe they have been recently.

That's about as low a total APR as we have had, Matt, in a long time.

Maybe ever.

It sounds like it's more offense than defense, that decision.

I think it is a proactive and responsive way of looking at the world.

And that is how -- we have just seen customers actually move this time.

So as a point of reference, our best credit customers during Q3 were offered a rate of 2.45%, which is pretty low and pretty competitive.

Okay, great.

Congrats on a great quarter and happy holidays.

Simeon Gutman, Credit Suisse.

It's Gary Balter for Simeon.

First of all, congratulations on the good quarter.

You talked about three things, and two of them were just discussed -- the CAF, the inventory selection, and strong execution at the stores as being behind the comp.

Can you go -- are there any changes in the way you are talking -- your employees are approaching customers, or anything along those lines that we should be thinking about?

No, not really, Gary.

That's pretty much -- we believe it is those factors that we referenced.

But there is no substantial change in the way we are talking to customers at all.

So it is just more --

We are always training and trying to get better and better at how we greet, handle customers, take them through objections.

But that is more of a marathon than it is a sprint; so if we are making some progress there, it is steady slow progress over time.

I think where there was a surprise in the quarter or in the trend has been the fact that the common perception has been that inventory is going to stay tight until we start seeing more stuff coming off leases.

Yet you are showing really strong inventory and really strong sales.

What are your thoughts on the availability of cars as we go into next year and the following year?

We have never felt like the lease issue had anything to do with our inventory levels.

Our inventory levels were always a function of where we expected sales to come out and how we felt about the next several weeks.

As I mentioned, part of the unique comparison this year (technical difficulty) last year.

When we normally build inventory in the fall -- and there is a few reasons we build inventory in the fall.

We have a really -- we usually have a pretty good sales week between Christmas and New Year's.

We head into tax season in January and February, which you can see in our seasonality; there is always a pickup in sales there.

There is also -- less of the auctions are open on a more consistent basis.

So if you want to build your inventory you have to do it in a bit of a spike during the fall season.

If you think of the next couple of weeks, with Christmas and New Year's falling on a Tuesday, that is when, for example, Florida Auto Auction runs.

That is one of the biggest auctions in the country, so they will be closed for two weeks.

And that is just something that we normally do.

Last year we had a negative comp quarter in the second quarter and we weren't as optimistic, so we just did not build inventory like we normally would.

And this year we are back to where we were before, in addition to moving inventory along with sales and having 10 new stores in the pipeline.

So it is not something really -- it looks really big because it is 30% up year-over-year.

But two-thirds of it is explained by improved sales and new stores in the pipeline.

Right.

Then last, when are you coming to New Jersey?

We will probably get to New Jersey as part of our Philadelphia market first.

We are looking at Philadelphia now; but we are still probably still a couple of years away.

We do have a site in King of Prussia in New Jersey; the advertising market for Philadelphia I think would include parts of New Jersey like Cherry Hill as well as Newark, Delaware.

So Philly is a big market for us.

It is complicated.

It will be multiple stores.

But it is a place that we are excited to go to -- and then you can buy a car from us.

Thank you.

Well, I go to Connecticut now, but it is still a long drive.

Okay, thank you.

Brian Nagel, Oppenheimer.

Hi, good morning.

Congratulations on a nice quarter.

Thank you.

So I wanted to follow up.

I know the two previous questions touched on finance too; but as you talk about the lower rates and maybe more aggressive financing, is this something that you are beginning to advertise more aggressively to your customers?

Or is it just something that comes up in the finance discussions to essentially aid conversion?

It is the latter, Brian.

We historically have not promoted finance in our marketing.

We want to provide the customer the competitive and best offer that we can get at the point-of-sale, and that's where they are seeing it.

We have, on occasion, done some stuff on the website advertising a particularly attractive rate.

But remember, Tom referenced the 2.45% rate; remember that is only available to the very top-tier of customers.

So oftentimes if you advertise too much of a low rate most customers don't qualify for that rate.

Although we have done that some in the past, that has nothing to do with what we have seen this quarter.

Got it.

Then just regarding the sales trends, and you mentioned the uptick in comps is largely a function of better conversion.

But how would you characterize -- clearly we had a shift here in Q3 from what we had seen in the prior two quarters or even further back than that -- the overall activity of your customers?

Something we watch a lot is -- are you starting to see that, I guess you call maybe that aspirational customer come back to the store, where there is maybe not as much of a need purchase but they are buying that car they want and maybe kind of a fun car.

Are you seeing the beginnings of a shift like that?

Or is it basically just the same customer coming to your store now converting more?

You know, that part is really hard to judge, Brian, whether or not people are going back to buying, I guess, an extra car or a fun car.

Our history with that is that usually doesn't happen in the fall anyway.

We had a negative 3 comp last year's third quarter, so this was our easiest comparison of the year.

I think consumer sentiment has come back some.

But -- and the customers that are coming to the store now seem a little bit more engaged maybe than they had been before as has shown up in our conversion.

Like I said, I think it is from a number of different reasons.

Credit availability and attractiveness of rates is no small part of that picture.

I think it's -- people get involved, they get involved in considering to buy a car, and then they find out how cheap their payment is going to be, and they are probably a little bit more likely to buy a car.

So -- but it is really hard to tell if behavior is shifting back to what we saw prerecession.

I would say, not yet.

Got it.

Then the final question, just -- you have been opening a number of news stories.

Any comments on the performance of those units as you are opening them?

Just as a group, we are very pleased with the performance of all of our new stores.

And it's a pretty diverse set.

There are some in brand-new markets; we have a couple of what we have called our next-generation format; we have some satellites going back into existing markets.

But we have only been back to growth there for whatever it is, about two years.

And we have really -- since the recession we opened those three stores that were already built; we opened five during the year last year and 10 this year.

So there is not a lot of time really to read them.

But as a group, we are very pleased.

Well, thanks a lot and again congrats.

Thank you.

Matthew Fassler, Goldman Sachs.

Thanks a lot and good morning.

My first question relates to traffic.

Just want to make sure I understand the relationship, if any, between appraisal traffic, which sounds like it was quite strong and drove the wholesale number, and traffic for used car sales, which sounds like it wasn't a big part of the comp generation.

So has there ever been a consistency, any tight relationship between those two factors to the extent where this divergence would be unusual?

I am not sure how unusual it is.

But in general, we would think that as traffic grows, appraisal traffic grows.

It is probably a bit unusual in this quarter that our traffic was relatively flat in aggregate.

But of those customers who came to the store, about 10% more decided to get their car appraised.

And since we bought at the same rate, that delivers the wholesale increase.

So yes, it might be a little bit unusual.

But I would still think that over time we would see those numbers move directionally pretty similar.

Got it.

Any relationship do you think perhaps between that development and conversion?

To the extent that maybe the linkage didn't show up in used car traffic, but more the people who were there, were already transacting with you in one way or another.

Yes, probably.

Some of the people who -- obviously some people who sell their car also buy a car from us.

So I mentioned the factors that we thought were improved conversion, and clearly some of those customers had to get out of whatever it was that they were driving.

So that probably had something to do with it as well.

Got it.

A second question relates to subprime.

Obviously over the past four quarters including this quarter, albeit to a somewhat lesser degree in this quarter, subprime has been ramping as a percent of the business.

And there is obviously some cost to you for that.

So you are about to cycle the first quarter where subprime began to pop.

That was the Feb 2012 quarter.

What do you anticipate happening to the subprime mix of the business based on your positioning within CAF, based on your thought process on the cost of doing this business as we cycle that development?

Yes, Matt, I don't think we can predict exactly what's going to happen as we cycle.

In fact, the subprime actually starting elevating last fall, and then we saw another pickup in the wintertime, Q4/Q1 period.

But because we did see an increase in subprime over the course of Q4 last year, we expect that the subprime mix will likely be a bit higher this year than last year, because we are rolling over a period of transition.

But I wouldn't expect the same proportional increase you have seen in other quarters this year.

Thanks.

One or two more very quick ones.

So, obviously, the supply of late-model used vehicles has been a pretty big theme surrounding your stock and most likely surrounding your outlook, legitimately.

It sounds, Tom, from what you said, like the mix of business didn't change a whole lot from recent quarters; and whatever changes we saw in supply, and I know those come slow, probably really didn't move the needle here.

Any updated thinking on this starting to have an impact for you going forward?

Matt, let's make this your last question, okay, and get back in line.

That's fine.

Okay.

So, we've been talking about the supply issue.

We have been talking about the SAAR coming back, which would help us from a supply standpoint.

But really, our ability to predict when that will happen -- there are so many other factors there with consumer behavior and lots of other; you know, how quickly people turn out of their car, cars per households.

We think it is coming.

It is hard to really say whether or not it happened this quarter.

We did see a mix shift within our mix, within the one- to four-year-old cars, where this quarter we had a bigger percentage of our sales were one- to two-year-old cars, so you could see it coming back a little bit.

That was offset by a decrease in three- to four-year-old cars.

But if you look at the mix of breaking it into two groups, one to four and five to 10, it was pretty similar to what it has been.

So embedded in there is some movement towards one- and two-year-old cars, but in aggregate we haven't seen it very much.

Thank you so much.

John Murphy, Bank of America Merrill Lynch.

Good morning, guys, and happy holidays.

First question, is there anything that you are seeing in the market or with this new store opening experience, which sounds like it is going very well, which would lead you to accelerate your new store openings?

I know you are targeting this 10 to 15.

But it sounds like the market is coming back.

You are doing really well.

Could this ever go up to a 15 or 20 rate?

You know, we've announced the next three years.

We are very comfortable with that number.

We have said all along that we think we need a balance between opening up new stores and continuing to improve our existing business model.

I think I am very proud of the way our teams have reacted and the progress that we have made in both of those areas.

I think the build that we have announced for stores -- three, 2 years ago; five last year; 10 this year; 10 to 15 the next three years -- we think that 10 to 15 gives us a range of acceleration to push it up if need be.

Really the next year for us is largely baked because those stores are already under construction.

It takes about a year to build one of these.

So we are pretty happy with what we our plans are over the next few years.

We don't want to get too overly excited over any short-term trends, nor do we want to move in the other direction if something were to go south a little bit.

Okay, got you.

Then if we think about used vehicle pricing over time as supply comes back, there will probably be a little bit of natural pressure on pricing.

I am just curious; as we see that, your sales will pick up.

But would your gross profit come under any pressure there?

Do you think you can still hold this $2,100 to $2,200 gross profit?

Is there any reason to think that might fade?

Well, we have operated in depreciating environments before and been able to manage our margins pretty good, but it is really hard to say.

There's just too many other factors.

I mean I would take lower margins for much higher sales, so it really just depends what's going on in the overall marketplace, including wholesale, including finance, and including demand and supply.

There's just too many factors there to really say I am 100% sure we can keep our margins within such a tight window.

Okay.

Then just lastly on the wholesale gross profit per unit at $923, that has been pretty strong for the last few years.

As we think about that going forward, and as the same phenomenon in supply comes back in, should we think about that at least having a base floor of $400 to $500, the buy-sell fee at an auction?

That would be sort of the worst-case scenario you get on wholesale gross profit per unit?

It just seems like that should be at least a bare minimum floor and everything above that is your execution.

Is that a fair way to think about that?

Yes, I mean -- you have seen how tightly we have managed it.

So without giving any guidance, I don't expect our wholesale margins to go down to $400.

So I think we are able to manage it pretty well.

Okay, great.

Thank you very much.

Scot Ciccarelli, RBC Capital Markets.

Good morning, guys.

How are you?

Tom, you outlined a couple of items that helped the conversion rates in the quarter.

And I know it may not be a scientific exercise, but any way to tell the size of the impact of those different factors, or least put them in some sort of ranking or order?

Yes, not really.

I wish there was.

But even with the financing piece, which we know we are giving better offers, we know what's going on in the subprime world as it relates to our customers, every time somebody gets an approval we still have to execute in the store.

We still have to overcome objections.

Oftentimes we have to convince customers to put more money down.

Oftentimes we are making them an offer on their car that is less than what they owe at the bank.

So I just couldn't be more proud of our store teams and our execution and our ability to manage customers effectively.

So it is really hard to say.

If you just changed a rate it is not necessarily going to sell you more cars if you don't actually execute that in the stores and provide great customer service.

So it is just really hard to say, almost impossible for us, really.

It's a combination of all of those factors.

They worked well in the quarter and we are really pleased with the result.

You had mentioned the better store execution.

Was there any extra training or change in terms of how you approach the customers?

I know you guys have a checklist in terms of trying to knock down consumer objections, etc.

Was there any change on that front?

Nope.

As I said earlier, I think this is a -- I said it is more of a marathon than it is a sprint.

I think we are providing lots of great training in the stores; but it's a very long, slow, continuous improvement type environment, not we are going to come up with some new thing that is going to change our fortunes overnight.

We don't expect that at all.

Okay, that's helpful.

Then you guys have stores entering your comp base now.

And given that level of new store productivity that you are seeing, any feel for the level of comps that you are seeing from the first stores entering the comp base, the younger stores entering the comp base?

It probably wasn't much in the quarter, just from straight math.

We have 10 stores we opened this year; none of those are in the comp base.

We only opened the three two years ago and then the five last year.

So when you are looking at 116 or 117 store total, and then the fact that the stores open up in terms of volume, compared to one of our bigger stores, pretty low, I would say it had very little impact.

Although I haven't actually gone and done it; I just -- it couldn't have had much of an impact on comps.

Got it.

All right.

Thanks a lot, guys.

Clint Fendley, Davenport.

Thank you.

Good morning, guys.

I'm curious if you have any thoughts on customer recognition of the brand and how that might be changing.

I know when I look at the new markets or cities that you plan to enter within the next year, most of them are in states such as Virginia, Georgia, Tennessee, where you have been for a long time.

I am wondering, should that help you gain share there in an accelerated way?

I think in general our brand has gotten stronger since we started, so I think that has some truth in any new market we go to.

Particularly since we have been doing -- a portion of our TV ads have been national advertising over the last couple of years; it's about 40% of our TV spend is now national.

So even a place like Denver where we didn't have a presence has been seeing some CarMax ads over the last couple of years.

But clearly in a market that we have a more established base of stores and established base of customers that we have been selling to, we would have stronger brand awareness for sure.

But that is not a factor in us selecting where we are going next.

We're basically trying to go everywhere that we're not.

Okay, thank you.

I wondered if you could discuss your strategy with the small-market stores.

Why now, given the large growth opportunity that is still in front of you in some of the larger markets?

We think that is part of our growth opportunity.

It represents somewhere between 80 and 100 markets in the US that currently they would not be in the growth plan if not for figuring out how to do a small-format store.

I think we can do both.

I think we can go after the markets that are more traditional or even bigger metro markets, and at the same time on a limited basis go after some of these small markets, figure it out, see if it works.

And if it does, we can build them into the pipeline going forward.

So when you look at what it represents of our total growth, it is a very small percentage of it.

Next year we will open up Harrisonburg, Virginia, and Jackson, Tennessee, as two small-format stores.

But we've got to get a couple of them open and read the results for a while before we determine how aggressively we want to go after that opportunity.

Okay, great.

Thank you, guys, and happy holidays.

You too, thanks.

Rod Lache, Deutsche Bank.

Hey, good morning.

It's Dan Galves for Rod.

Just a couple follow-ups on CAF.

The latest ABS issuance that you did, loans through September, was done at an 8.6% customer rate.

Is the 7.7% origination rate on loans during this quarter is that -- are those two numbers comparable?

Yes, it's the same calculation.

But if you look back sequentially in Q2 you saw that that number was 8.1%.

Okay, got you.

If you look at a deal it is a combination of loans we have originated probably over the last six months plus things that have rolled off of other deals.

So each deal can vary pretty -- not significantly, but there can be some variance in APR on deals depending what is in there.

Okay, got you.

Yes, I just wanted to clarify that.

Then, on the loan loss provision, the provisioning in the quarter looks like it was maybe 1.3% and the allowance is 1.0%.

Realize that the allowance is a reflection of all the loans in the pool and your expectations.

But as the loans that were originated during the crisis with higher average FICOs, as those become a smaller piece of the overall pool, do you think that the loan loss allowance migrates higher than the 1.0% you are at right now?

Yes, I think if you think about how --the lifecycle of our portfolio, as we are adding -- if we change the mix of the portfolio it takes a couple of years for the portfolio to normalize to equate to that steady-state mix.

And we are still seeing that happen here with regard to taking back the lower end of the credit spectrum that we have been doing over the last 18 or so months.

So I think as the portfolio continues to normalize to what we are originating today, we would expect to see that number move up.

But it also depends on what is going on with loss experience, which has been positive in the last several quarters.

It is hard to predict exactly where it will go, but I would -- we would expect that it is going to trend upward.

Now at the same time, you have got to remember we are charging up more for those loans because they are higher risk, and it is a good business proposition for CarMax at the end of the day.

It is a profitable endeavor for us, and that is why we are doing it.

So you have got to remember we are getting paid more too on this.

absolutely.

Just one additional question.

In terms of your competition from the used car lots, from new car dealers, if you could just talk about -- a lot of new car dealers have been talking about getting more aggressive on what they will retail versus what they will wholesale.

In addition, you are probably selling more one- to two-year-old vehicles now.

Has there been any change in the competitive dynamic that you are seeing from the new car stores?

There has been a lot of talk about that for the last couple of years.

So the shifting that we have seen, I think we have already seen.

So it is not like there was something unique in the quarter with the way everybody else behaved.

And as it relates to us, we are selling an older mix of cars than we did prerecession, but we never lowered our quality standards.

So we have seen pretty significant growth in our wholesale business, and that is the type of stuff that people are saying that they are retailing.

We have chosen not to do that; but we have seen growth in that area of our business pretty substantially over the last couple of years, as you have seen.

Okay, okay.

Thank you very much.

James Albertine, Stifel Nicolaus.

Great, good morning and thank you for taking my question.

And let me add my congratulations on obviously what was a great quarter, amounted to be a great quarter.

On the one- to two-year-old vehicle comment, I just wanted to clarify how you typically source those vehicles or have been sourcing them during the third quarter.

And then -- well, I guess I will let you answer that question.

I had a follow-up to that.

Yes, those cars are going to be bought the same way we buy everything, either a combination of buying cars directly from the consumer and buying cars in the open marketplace, whether it is at auction or elsewhere.

So it is a combination of those two.

Okay.

Have you ever detailed the gross margin implications, the difference between when you buy at auction versus when you buy directly from a consumer?

We have not, other than to say that what we buy from consumers is more profitable than what we buy off-site.

Remember there are some costs involved with buying off-site, shipping and things of that nature; so it's always been a more profitable source to buy internally.

But we have been able to manage the mix pretty effectively to a margin target.

Understood.

Then lastly, just on your comp leverage point, I think I probably share with some of my peer view that the leverage was impressive considering not only the 12% comp but that you are investing in your new store growth strategy.

So I guess if there is a way to peel back the investments that you are making, has there been a shift perhaps to a slightly lower comp leverage point, as you see it?

No.

I mean, again, it's one of those things that's not really -- I don't think that it should be measured on a what happened this quarter and therefore that means this forever.

Because there is a lot of timing stuff in there as well.

But we have always said mid to high single digits plus; that even in a growth environment we thought we could leverage SG&A.

We had a 12% comp.

We leveraged SG&A.

We are building infrastructure for growth at a higher rate than we were the year before.

So we are pretty pleased with the results ourselves, but I am not sure that you should read into it any more than that.

Okay, well really appreciate you taking my question.

Congratulations and happy holidays.

You too.

Thank you.

Joseph Edelstein, Stephens Inc.

Thanks for taking my question.

Just wanted to follow up on the leverage question that was just asked.

Given that you will be up against a more difficult subprime mix starting really fourth quarter here, do you think that you will be able to leverage in the fourth quarter?

Again, like I said, it's hard to tell.

If I knew what comps were going to be, I would have a better idea.

And there is no doubt -- I think if you are asking that an increase in Tier 3 or subprime percentage is less beneficial, you are right.

So it is a little tougher to leverage when you have a higher percent mix; but we did it this quarter.

So we will have to see how the quarter comes out.

Sure.

Just tied into -- we are all trying to get a handle on where the comps will go.

But earlier you mentioned that there was improved consumer sentiment and part of that helped you this quarter.

But I am just trying to get a sense for how you think consumers will react under any sort of fiscal cliff.

Those headlines have been getting louder.

Yes.

If you knew, it would be really helpful for us if you could tell us.

But it is really hard to say.

When you look at all the things that are in the fiscal cliff, and you have to jump to a conclusion that therefore consumers are going to behave in a certain way, what I feel really good about is our ability to react, move our business, move our inventory accordingly, and operate in lots of different economic environments.

So I feel super confident in our team's ability to respond to whatever happens with the consumer.

It feels a little better this quarter.

I think that is part of why conversion was up.

It is not this is just what I believe; it's not -- I can't go give you a statistic that says consumer sentiment added X amount to our sales.

But it is just impossible to tell what will happen at the end of the year.

Okay.

As you try to then manage the inventory levels, etc., can you just tell us what your expectations are for used vehicle margins as we look out really through the rest of this year?

Just because there has been increased supply as a result of Hurricane Sandy, but then just also looking out a little further into next year, where you think margins could go.

Yes.

We don't give any guidance on margin or sales.

Okay.

Well, thanks for taking my questions today.

Bill Armstrong, C.L. King and Associates.

Good morning.

Can you talk about what you are seeing in terms of pricing trends for used cars and your wholesale sources, or from consumers?

I think -- I don't have the Manheim trends in front of me, but there has been some depreciation during the last few months in the fall, which is pretty normal for -- actually I am not sure what normal is anymore.

But it used to be normal several years ago.

You know, we went through a couple years of unusual appreciation for a long time.

But I think we have seen some movement, some depreciation in the last few months.

That is just a little more normal in the fall, so nothing shocking.

So, we haven't gotten to a point yet where you are starting to see that spread between retail prices of a new car and a comparable one- or two-year-old car starting to widen again, is what it sounds like.

I think what is lost in that whole conversation of new-car appreciation over the last couple of years -- I mean, I'm sorry, of used car appreciation over the last couple years, is that new car prices have gone up equal or more.

The average price of a new car is over $30,000.

So the spread -- if you just look at (technical difficulty) average sale price and the average of a new car, the spread really never tightened up very much.

Now, on an individual car basis there's always examples -- there's been examples the whole time we've been in business -- where on a specific make or model, depending on how hot it is and depending how much pressure the manufacturer has put on pricing, that that window could get kind of tight and consumers might decide a new car over a used car on a specific make/model basis.

But in general we think the spread is attractive enough that we are providing great value to our customers.

Okay.

Moving on to CAF, your penetration rate is over 40%.

Where is that compared with historical levels, if you could remind us?

And do you see it going higher?

Historical levels, it's going to depend on the quarter, but I think in low 40%s is not an abnormal number for CAF.

We have said high 30%s to low 40%s.

It all depends on what is going on with the customer flow through the door, and how they are receptive to our offers.

It's very, very hard to comment on where it is going to go.

Understood.

It is not a number we are uncomfortable with.

Right.

Okay.

Maybe just looking at the last cyclical peak, I would assume prior to the credit crisis, where -- I don't know if you have those numbers handy or not.

We can get (multiple speakers) after the call.

But you've got to remember we also had other partners lending in the same space as us back at that time period.

So it is not really an apples-to-apples comparison.

Right, right.

I remember that.

Then just one technical point of clarification.

We're in December of '12; when we are talking about your sales of cars that are five years or older, are we talking about '08 model years and earlier at this point?

What are we in, '12?

We are in December of '12, but we --

Yes, '08 would be five years and older.

'08?

Okay.

All right, great.

Thanks.

David Whiston, Morningstar.

Good morning.

Wanted to go back first to the accelerating, the store opening question -- up or down, I should say.

Specifically is on the macro side, is there any kind of factors such as SAAR or unemployment, consumer confidence, that would make you change those plans?

No, only if those things impacted our sales.

Okay.

On the buyback, was the rationale for doing a buyback over a dividend just that a buyback can be done at the Board's discretion rather than a fixed cash outlay of a dividend?

I think the way we looked at it is we are still a growth company; a dividend is more of a longer-term commitment.

We are committed to looking at returning value to our shareholders in any method that is appropriate and makes sense.

The repurchase just seemed, given our current situation, was a more appropriate vehicle.

I really can't comment much beyond that.

Okay.

Would you say then a dividend is something you wouldn't do until your store expansion is completed across the US?

I think we will cross those kind of bridges when the time is appropriate.

We look at our capital structure; we look at how the business is doing and what we are returning on an ongoing basis.

And I think what we can say is, like I said, we will use the tools that are available and we will do what we think is most appropriate for our shareholders at that time.

At this point, we don't have anything new to report.

We are buying back programmatically right now.

Okay, thank you.

Matthew Fassler, Goldman Sachs.

Thank you for having me back.

You only get one question this time, Matt.

I was patient.

They are two and they're quick.

First of all, we were delighted to see you launch the mobile app, and I am curious.

You talked about it being 5% of traffic.

Are you seeing higher levels of conversion?

Can you tell if people are using it in the stores as a supplement to your systems and to your people?

It is way too early to tell on that.

The other part is, we had it available with Android as well, and we had a few issues with it so we had to take it down this week.

We expect it to be back up quickly.

But until we have both the iPhone and the Android app up and running and get some more time to read it, it is almost -- what we can tell is what percentage of hits it represents, so that is the number we gave you.

The second and final question, I know you are in the process of making a change in terms of EVP of Marketing.

I am interested in whether you are taking a fresh look at all at the Company's marketing strategy and what direction we might anticipate for you going forward.

You know, Matt, we are really proud of everything we have done here.

I think we have done some phenomenal things in marketing.

We have built a terrific brand over time.

I think our marketing team has done an outstanding job in pretty much every area.

We are looking forward and looking at staying ahead of the consumer and some of the things that are going on in mobile and digital.

We had a terrific guy who you know, Joe, who had multiple responsibilities here; and we really want to have a Chief Marketing Officer specifically dedicated to that one area alone.

But I am really proud of the stuff that we have accomplished so far.

And as we look at growth over the next five to 10 years and we look at adding between 30 and 45 stores and continuing to have our existing stores growth, I am just really excited about the opportunities we have to continue to build our brand.

You still there?

Thank you so much.

At this time there are no further questions.

I would like to pass the call back to the speakers for closing remarks.

All right.

Thank you very much.

Thanks, everyone, for joining us.

Happy holidays.

Thank you, everyone, for your support and especially I want to thank all of our associates for all you do every day.

And we will see you after the first of the year.

Thanks a lot.

This concludes today's presentation.

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