Lithia Motors Inc (LAD) 2005 Q3 法說會逐字稿

Good morning ladies and gentlemen. My name is Ian and I will be your conference facilitator today. At this time, I would like to welcome everyone to the Lithia Motors third-quarter 2005 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). It is now my pleasure to turn the floor over to your host, Mr. Dan Retzlaff, Director of Investor Relations at Lithia Motors.

Thank you, Ian, and good morning to everyone or good afternoon to those of you on the East Coast. I would like to thank you for joining us for our third-quarter 2005 earnings conference call. As many of you know, Sid DeBoer, the Chairman and CEO of Lithia, normally leads these calls. However, currently he is in Europe visiting with a number of top executives at DaimlerChrysler. So this time around, he's leaving the call in the capable hands of Dick Heimann, our President and COO; Bryan DeBoer, our Executive Vice President and Jeff DeBoer, our CFO. At the end of their remarks, we will open the call to questions.

Before we began, I would like to get the legalities out of the way. The Company wants you to know that this conference call includes forward-looking statements. These statements are necessarily subject to risk and uncertainty and actual results could differ materially due to certain risk factors. These risk factors are included in today's press release and in the Company's filings with the SEC. And now it is my pleasure to turn the call over to Lithia's Executive Vice President, Bryan DeBoer. Bryan?

Thank you, Dan. Good morning to everyone and thank you for joining us today. Lithia performed solidly in the third quarter of the year. Net income from continuing operations increased 22% to $17.7 million and our operating margin improved 40 basis points to 4.4%.

I would like to note that this is the highest level of operating margins that the Company has achieved in any period as a public company. We have been growing our margins and steadily on an annual basis since 2001 and have continued with these gains this year as well. Earnings per share increased 19% to $0.83 per fully diluted share as compared to $0.70 in the third quarter of 2004. This was $0.08 above the high end of our guidance for the quarter.

Our manufacturer partners made a difference in this quarter obviously. For the third quarter of 2005, Lithia's Board of Directors has approved a dividend of $0.12 per share. You may recall that we increased our dividend by 50% last quarter. Investors can refer to our press release for record and payment dates.

Lithia's third quarter performance resulted from total improvements in sales and gross profit growth across all major business lines, margin improvements in the retail used vehicle business and continued expense savings as a percentage of gross profit and sales. Same-store sales and gross profits also increased across all business lines. For the quarter, total same-store sales were up 7.9% and total same-store growth followed, up 6.1%.

The third quarter can also be characterized by a very strong month of July, followed by a healthy August and finishing with a weaker than normal September. New vehicle sales in September and the first part of October have been weaker than usual as we're obviously experiencing some payback from the strong three previous months of June, July and August which benefited from the domestic manufacturers' employee pricing programs. Overall, the incentive programs were a major hit to consumers and helped lead Lithia to a strong third quarter performance. Lithia's long-established promo pricing strategies blended well with the manufacturers' employee pricing programs and generated solid new vehicle sales. This pricing strategy adds legitimacy and simplicity to the automobile retailing environment. We are excited about the direction the manufacturer pricing programs may take us in the future with GM's Value Pricing leading the way.

Lithia was able to leverage this environment in the third quarter. Our same-store new vehicle unit sales for our top five brands outperformed the national numbers for those brands.

I would now like to review our gross margins by business line. Gross margins for new vehicles in the third quarter were 7.7%, a 20-point declined over the third quarter of last year. Surprisingly, however, the domestic incentive programs had very little impact on our margins for Lithia this quarter, despite the large volume increases. Year-to-date, new vehicle margins are still up 10 basis points at 7.9%.

Our retail used vehicle third quarter gross margin was 15.7%, a 150-basis point improvement over the third quarter of last year. The year-to-date margin is also up 120 points to 15.6%. We continue to manage this business very well. We now have increased our third quarter retail used margins for three straight years.

Our wholesale used vehicle business also continues the strength that began back in the third quarter of 2003. In the third quarter, Lithia had a wholesale used margin of 1.6% and gross profit per unit was $92. We have now had over two full years of wholesale gross profit gains. We continued to manage the disposal of these units by using our centralized controls, holding our own used vehicle auctions and managing the disposal of units at third-party auctions. Our service, parts and body shop gross margin for the third quarter was 47.9% as compared to 48.6% in the same period last year. This was a 70-point decline. The margin decline, however, is primarily due to the parts business which had lower margins growing at a faster rate than our high margin service business in the quarter.

The total gross profit margin for the Company was 16.4%. SG&A as a percentage of gross profit improved 240 basis points to 70.5% as I mentioned earlier. This leads to an operating margin improvement of 40 basis points to 4.4%. I would now like to turn things over to our President, Mr. Dick Heimann, who will comment on sales, brand mix, inventory position and, of course, acquisitions. Dick?

Thank you, Bryan, and good day everyone. It's my pleasure to share some good numbers with you today. Let's first talk about the states in which we do business and our annualized sales mix in those states.

Currently, California still leads with 16%, Oregon with 15% of sales, Texas 13%, Washington 12%, Colorado 8%, Idaho 7%, Alaska was 7%, Montana was 7, Nebraska was 6%, Nevada was 5%, South Dakota 3% and New Mexico was 1%. Over the past 12 months, we have added a total of approximately $275 million in revenues in the states of Washington, Montana, California, Nebraska, Oregon, New Mexico and Alaska.

Lithia now has what I feel a good regional diversity. However, we are also located in more cold weather states than a few years ago and this increases the seasonality impact.

For the quarter, I would like to list the states in order of same-store sales performance. Nevada was our best, followed by Alaska, Oregon, Idaho, Texas, California, Washington, Colorado and, finally, Nebraska, Montana and South Dakota. Most notable is that the Colorado market has been demonstrated positive same-store sales for three straight quarters. In fact, I just returned from a visit to the Colorado stores. It's where I also started my car career sign, so I know the area quite well, and I was delighted to see that our stores looked great care. We've increased our marketshare there and we have never had what I consider to be a better management staff there and I really look forward with pride to seeing us talk about years of increased business there, not just quarters there.

Nearly all of our markets that benefit also find the strong incentives in this quarter. The weakest markets for Lithia in the third quarter as stated before are Nebraska, Montana and South Dakota, but these markets represent only 8% of same-store sales mix of the whole company.

Our new vehicle mix by manufacturer as a percentage of total new vehicle units was 42% Chrysler-Dodge-Jeep, 20% General Motors-Saturn, 9% Toyota-Scion, 9% Ford-Lincoln Mercury, 4% Hyundai, 4 each Nissan and Honda, 3% Subaru, 2% BMW, 1% Volkswagen, leaving approximately 1% other brands for a total of 25 different brands. We continued to see a small shift in unit sales from trucks and SUVs to smaller SUVs and sedans. 67% were truck SUV versus 68% last year. On a dollar sales basis, 72% were truck SUV versus 74% last year in the third quarter, so the numbers are very small.

Our inventory planning for the quarter with our centralized inventory control process has been successful all year. Many of you are aware that we took an aggressive stance with inventory since the beginning of the year. Our decision to have higher inventories was strategically designed to improve our same-store sales as we moved into the seasonally stronger second and third quarters of the year. Our plan was to increase new vehicle volume throughout the year and aggressive inventories were key in helping us achieve that goal.

New vehicle inventories at the end of September were down approximately eight days compared to September of last year and down 24 days from the beginning of the year. They are four days below our average levels for this time of year, so we are in a good position going into the fourth quarter of the year.

Compared to the third quarter of last year, the strong incentives in the quarter resulted in an $832 decline in average selling price. New retail gross profit, however, per unit declined by only $123 for the quarter.

Now looking at used vehicle inventories. From the end of May just before the employee pricing programs began to the end of July, our used vehicle inventories jumped by approximately five days as a result of the large number of trade-ins we took in during that period. In August and September, we were able to sell down those inventories to just four days above average levels for this time a year, and just two days above September '04 levels. Because we are able to bring these vehicles in on trade at good prices, we were also able to generate good margins during this period as demonstrated by our 150-basis point improvement in used retail margins for the quarter.

Moving into the fourth quarter, we feel we are at the correct inventory with good quality used vehicles brought in at favorable prices that should benefit our used vehicle business longer-term. Pricing continued to stay relatively firm in the third quarter as demonstrated by a $159 increase in used retail prices, $320 increase in used wholesale prices and a nice $256 increase in gross profit per retail unit.

In the finance insurance, or F&I business, Lithia continues to generate consistent improvements on the profitability of our stores. Our F&I per vehicle for the third quarter was $1061 as compared to $1036 last year. We had penetration rates for the financing in new and used vehicles at 73%, service contracts of 42% and our lifetime oil products (ph) of 39%.

I would now like to introduce Jeff DeBoer for some more important comments and details on our financial results of Lithia Motors. Jeff?

Thank you, Dick, and good morning everyone. We posted record third-quarter sales of 869 million, an increase of nearly 16% over the same period last year. New vehicle sales increased 15%, total used vehicle sales also will increase 16%, finance and insurance sales increased 19% and service, body and parts were up 11% on sales basis.

I would now like to now break down the quarterly revenues a little further. New vehicle sales comprised 60% of total sales, used vehicle sales comprised 26%, parts and service were 10% and finance and insurance made up roughly 4% of sales. These numbers were essentially unchanged from last year, even with the employee pricing in the third quarter this year. So you can see the stability of the auto retailing market -- model.

The contribution to gross profit by business line this quarter was 28% from new vehicles versus 29% last year; 21% used vehicle versus 20% last year; 28% service and parts versus 29% last year and F&I increased to 23% as compared to 22% last year. In the third quarter, new vehicle same-store sales were up 7.8% and new vehicle same-store units grew 11.2% with average price declining a little bit as Dick indicated. Total used vehicle same-store sales increased 9.3% and same-store units for used cars increased 7.4%. Average retail price, therefore, increased by $159.

Retail margins improved 150 basis points and gross profit per unit increased by $256, as Dick mentioned earlier. The average wholesale price improved by $320 and gross profit per unit on wholesale used cars was $92 a car. As a result of both sales and margin improvements, same-store gross profits in the used vehicle business in total showed positive growth this quarter of 16%.

On a combined basis, new and used vehicle same-store sales for the quarter increased 8.3% and units grew 9.2% with just about a 1% decline in price. As a result of the strong vehicle sales environment, finance and insurance same-store sales grew 7% in the third quarter, F&I per unit increased $25 a car. Service and parts same-store sales for the quarter increased 4.7%. We also saw growth in service and parts' same-store gross profit. The service side of the business continues to benefit from our focus on service adviser training and increased traffic as a result of the success we have had in selling our lifetime oil program. Nearly 40% of our customers are buying this product.

Finally, and most importantly, total same-store gross profit for the Company was up 6.1% in the third quarter.

I will now turn to the debt and capital side of the business. For the quarter, the total of flooring and other interest expense as a percent of revenue was 1% as compared to 0.9% last year. We have seen an increase in interest expense which is to be expected in current rate environment. However, we have minimized the impact of higher rates by fixing a substantial amount of flooring debt with interest rate swaps. We currently have outstanding 150 million in interest rate swaps with fixed rates, representing about 48% of our total debt. For the quarter, we had an increase in flooring and other interest expense of approximately 1.9 million. All of the increase was due to higher rates as we actually had lower outstandings in the period.

Including the swaps, our average interest rate increased by 100 basis points year-over-year to 4.9%, much lower than it would be if we depended on public debt. For the quarter, or on average, market rates went up approximately 200 basis points for the same period, so we increased only half of what the market did. So you can see the positive effects of our hedging strategies.

Looking at the balance sheet, we had nearly 42 million in cash and approximately 45 million of contracts in transit for a total of 87 million at the end of the quarter. Our long-term debt, excluding used vehicle flooring, is largely comprised of debt from the convertible offering, real estate debt and equipment financing totaling 281 million versus 267 million at the end of 2004. So we have not seen our debt rise much. We have basically been purchasing stores from free cash flow for quite some time now.

The breakdown of our debt is 144 million in real estate, 50 million in equipment debt, 85 million for the convertible notes and 2 million of other debt. One thing I would mention -- the convertible notes don't actually convert until about $37, and - but yes, FASB does make us count these in our shares. But I would point that out that we're way underwater on those, but they are counted in our earnings-per-share.

Our long-term debt to total cap ratio, excluding real estate, is 23%, so we still have a very unlevered balance sheet. Our goodwill as a percent of total assets is 19%. We have a $200 million credit line that's currently totally unused. Shareholders equity rose by 10.8% to 450 million from 406 million at the end of 2004. Lithia's book value for basic share is now $23.52. Our price to look at of the close of the market yesterday was only 1.1 times.

Looking at free cash flow, net income from continuing operation plus depreciation and amortization for the quarter was 21.4 million and non-financeable CapEx the quarter was 7.5 million. The dividends paid were 2.3 million, so we had free cash flow of approximately 11.6 million for the quarter. So far this year, we have generated approximately $25.5 million in free cash flow which we have used to purchase new stores.

As a final note for the full year 2005, we are increasing the high end of our guidance by $0.02 to $2.33 -- from $2.33 to $2.36 per diluted share. This guidance includes the effect of accounting for convertible notes. For the fourth quarter, we're also providing earnings-per-share guidance in the range of $0.42 to $0.45. As Bryan indicated, we are factoring some pull-forward effect in the fourth quarter.

For the full year 2006, we are providing guidance of $2.45 to $2.55 per share. As you all know, we are currently facing a very uncertain environment resulting from rising interest rates, rising gasoline prices, the sector of inflation, the potential end to the real estate cycle and lower consumer confidence. Despite these negative factors, this initial guidance which we feel is conservative reflects 5 to 9% EPS growth. We have also included 100 basis points of further interest rate hikes over the next four quarters, beginning with the fourth quarter of this year. Keep in mind that year-to-date in 2005, we have grown EPS from continuing operations by 20% on an apples-to-apples basis, so we're very much a growth company as we've demonstrated this year and in the past.

That concludes the financial summary and I would now like to turn things back to Bryan for closing comments.

Thanks again, Jeff. I would like to finish things up by first commenting on the acquisition pipeline and then run through a few operational issues. As Dick mentioned earlier, over the past 12 months, we have added revenues of approximately 245 million of disciplined acquisition growth. In addition, we still hope to have a couple of good acquisitions in the fourth quarter.

Operationally, we're still looking to improve and enhance our used vehicle operations. This focus has been apparent over the past couple of years and could be seen in our margin's improvements and overall sales gains in the used vehicle business. We believe, however, that this department still provides one of the greatest opportunities for improvement within Lithia.

Secondly, we're still focusing much of our resources towards our human development strategies. We continue to develop programs that will accelerate opportunities for existing and new employees. We believe that this has been and will be a key aspect to the sustainability of Lithia's long-term success.

We have also worked hard towards reducing costs across the entire organization. The benefits of these expense control initiatives have been demonstrated as we have significantly reduced SG&A as a percentage of gross profit and sales over the last year. We have done well by increasing operating margins over the last four years. This is a benefit of a strong operating system and a cohesive group of people that are dedicated to raising the performance of our stores. That said, we look forward to the opportunities in those stores where the improvements have not yet fully been realized. Remember, these changes are more easily executable because of Lithia's common language and the long-standing commitment by management at all levels of the organization to work from the same playbook.

The most recent industry reports for the fourth quarter have been weak and most discussions have focused on possible pullback from the strong third quarter. While we feel is prudent to be conservative going into the fourth quarter, we also believe that it is far too soon to make predictions on how the fourth quarter will end up. In the past, December has always been the pivotal month for the quarter and we don't ever want to underestimate the marketing strength of our domestic manufacturer partners.

Regardless of the environment ahead, we will continue to execute our plan with an eye towards what is best for the long-term health of our company. On a long-term basis, we are still targeting a goal of 15% growth and earnings-per-share.

That concludes the presentation portion of this conference call. We would now like to open the floor up to your questions. I think Ian, can you do that for us?

(Operator Instructions) Rick Nelson, Stephens.

(indiscernible) on the guidance, I think I understand the revision to the fourth quarter -- the pull-forward and the increased seasonality. But the '06 guidance below your targeted 15, mid 20%, well below it actually; is there something you see out there next year that is concerning to you or?

Usually when we start looking at a year in the future, we estimate very conservatively. There's not a lot of information to go off of about next year’s auto market to tell you the truth. So all we really know is that our acquisition pace will be similar to what we've done in the past. We will be adding a good selection of new stores. We have a number of stores that we purchased during the last couple of years that we're in the process of improving so there's a little improvement from there in earnings. But beyond that with the macro environment, there is nothing we can identify and really be more exact on. And like we said, we are forecasting rising interest rates, very little increase in same-store sales and we're just trying to be conservative as much as we can. Realistically, we hope to do a lot better than that, but 5 to 9% is growth and I think we can do that.

Rick, remember also that we're coming off of a fairly strong year in 2005.

The trucks and SUVs make up a bigger proportion of your mix compared to some of your peers. Is that migration from SUVs and trucks to cars? Are you seeing that do you think to a lesser extent than your peers, given your markets? What is the expectation there and how do you manage through that?

We are seeing a migration away from trucks and HEV sales, however it is still fairly minor. Jeff's looking at the numbers, but its about (indiscernible) basis points, if I recall?

No, I gave it in the call. It went down from 74% to 72% on a sales basis, so it's 200 basis points. And really, Rick, most of the new product from the manufacturers is still trucks and SUVs, it's just smaller trucks and SUVs. So they are still categorized in that area. So the shift is being handled by the manufacturers' new product in my opinion. And in our markets, people buy trucks as a way of life and they're not buying them as a trendy fashion as they might have been in the larger markets.

Absolutely. Jeff's touching on the key components. We're primarily in rural markets where the truck is the staple of the consumer's diet. So it's probably not as a big a shift as you will see in metropolitan areas.

On a unit basis, Rick, for us, it only went down about 100 basis points -- 68% last year, 67% this year on a unit basis. So really, very little change.

How much for inventory position now in trucks and SUVs relative to cars?

Rick, we actually took a fairly aggressive stance at the end of the third quarter and we were very focused, especially on the used car side, in reducing our heavy inventories by doing multiple regional sales used car events that were really a one-price focused to tie them back to the GMS pricing and the employee type of pricing. And those events were fairly successful on the used car side in moving some of those things out.

Additionally on a new car side in terms of the heavier product lines,, we did multiple -- let's call them an incentive program for the stores were there was competitions going on to try to help our stores focus on the fact that this is a very good environment for getting rid of some of these things before seasonality hits us in the third quarter. So we were fairly proactive and it was effective in reducing those inventories.

(indiscernible) in looking at some used vehicle software? I'm wondering if you've made any decisions there and how that might affect your business going forward.

As we mentioned, Rick, we see tons of upside in the used vehicle business. And yes, we have been on a diligent track looking for a used vehicle management system and we're working with two or three vendors in making that final decision and we should have that decision made by the end of the year.

Thank you.

Scott Stember, Sidoti.

Good afternoon guys. Could you maybe quantify what you're seeing so far in October with some of your economically sensitive markets that you're in and the possibility that new car sales could fall off a little? Could you talk about how you would expect your used car business to benefit from that?

I think I mentioned that in the call, that obviously October has started off somewhat slower than we would have liked. We were hoping some of that pullback came out of the September, but it seems to continue into October. We do, however, believe that the manufacturers are going to have to take the initiative and put a foot forward in later October or possibly in November and get this thing back rolling. So we're still expecting some big help from our partners.

And we have factored that into our guidance.

But also, one of your strengths obviously is the way you dovetail your used car business within your markets. Would you expect that if there was a prolonged slowdown for a couple of quarters to positively impact your used car business, which is intuitively a higher margin business?

I would agree with you there that we are pretty proactive in terms of how we manage those used cars in relationship to the new car business to try to defer some of those losses that you will see in the new car business. We do that through seasonality programs and trying to teach our general managers on realizing the fact that the business is cyclical and trying to control your expenses in a way that you're still going to be profitable in the light of a declining market. A lot of that comes from how you manage your used car inventories and how to gain additional business to offset that.

And without talking about expenses, could you go to the SG&A front, and obviously you've been pretty successful in bringing those numbers down over the last couple of quarters. Maybe discuss again some of the key items that you're looking at, whether it's advertising or just other items in general?

You bet, Scott. I did not mention it this time in the conference call, but we have been working diligently on what we call LSMS, which is Lithia Store Management Systems, which is really a focus on your training, your advertising and your inventories in the dealership and really trying to drive the expenses from those three main areas downward.

We also do that through our Expense Control Department, which really deals with the more non-variable expenses and type of contracted expenses. That department obviously has taken a good foothold in the organization to make a difference. In addition to that, we have been able to centralize much functionality from the dealerships into support services here in Medford, and that's obviously the support organization for the store which has allowed us to gain at some economies of scales on that front of expense control as well.

What about some other issues? Many companies just in general last year around this time were feeling higher medical costs and Sarbanes-Oxley. Are you seeing some positive comps this year versus last year?

Medical costs are still rising. I think that's an industry-wide trend. The Sarbanes-Oxley costs, however, will be substantially lower this year. The first year was really where most of the expense was, so that will be a very positive comp.

There's about a $300,000 difference in actual expectations of audit fees from this year to last year as well as -- on the medical side, we are really trying to focus on the deductibles for the employees and we have obviously had to absorb more expense. But we're all also trying to put the onus back in the employees' hands and try to help them help us control our costs and we have a couple of new initiatives that we're working on to really try to look at that for the future to stabilize those costs. It's a huge problem.

Jerry Marks, Raymond James.

Good afternoon. Just to follow up on Scott's question, directionally, can you segment out a little bit where some of the greatest SG&A improvement came from? Was it personnel or advertising or facilities or other? Those are kind of the big four baskets in SG&A, right?

That is for sure. I think it's pretty definitive that our LSMS programs, probably a majority of it is coming from reducing advertising costs, but we're trying to use them a more effective way. So when you to advertise it, you get more bang for your buck. In terms of personnel costs, we have been able to make huge strides with our human development initiatives in really reducing turnover levels in our stores which is where your training expense obviously really kicks in, and that's probably the biggest other component in terms of driving down our SG&A.

Bryan, what's the position that you're filling now from outside hires versus inside hires? Has that changed quite a bit over the last several quarters?

It's an evolution. So really, when we are getting outside hires, we're not really hiring them for -- let me just take a couple of examples, okay? For a finance manager, our finance managers pretty much are all promoted from the sales floor. So the finance manager position obviously grows from within. Now the finance manager then moves onto the sales managers, which we do hire some sales managers from outside the organization because that is our feeder for the key position, which is your general manager. So we are still hiring some general managers from outside the organization, but we typically try to put them into a GSM role or a general sales manager role, and let them grow and become accustomized to our organization. Does that make sense?

That actually does.

We hope that at some point that all of those management positions start at a lower level and they're all grown within Lithia. And we've really turned the corner on that because of multiple initiatives regarding leadership or skill sets or in performance enhancement, et cetera, okay?

Roger was saying on his call that about 50% of the people that they hire are actually from outside the auto industry. Is that similar to you guys where most of your outside hires are coming from non-auto retail type establishments?

Remember that our hiring is -- we're hiring at lower-level positions, so they may have never had jobs before or possibly could have been in other positions, in possibly electronic sales or some other sales type of position. That's our typical feeder for our sales operations hiring, okay? So I wouldn't say that ours is anywhere near 50% at the manager levels. Obviously at the lower levels when there's new people, it would be. Dick, do you have another comment on that?

No, I think that's the direction generally. If you just hire sales people, they will come from all directions, whether it's appliance sales or maybe they've sold cars before. But in general, most of the people you hire into the sales business haven't really sold cars before, and actually we prefer that because we really want to run our company in a different manner for the future and not the way the old car business. And some of those people that come in from other sales organizations, especially at the lower end of sales, bring some habits with them that are really tough for us to break. And for us to spend time breaking habits doesn't really make good sense. We'd rather train someone and that individual really is thirsty for the training they get. They move ahead better, they become Lithiazed (ph) better, then we can move that person forward into management a lot faster.

Absolutely. I'm sure Roger was stating the same basic thing. The father a car person is down the road in the organization, so the higher level that it reaches, and then you bring them into your organization, the more habits that they have and the harder they are to break. And that's difficult for our model.

When you look to get some of these SG&A cost saving ideas, do you talk to other big corporations for some of these ideas or?

Absolutely, absolutely. We have multiple groups with the other public auto retailers as well as outside our sector.

Last two questions. You're hearing a lot of concerns now about GM and Ford. What are you guys doing to prepare yourselves in terms of any potential vendor instability, particularly if Delphi were to go on strike or something?

Jerry, we don't worry about things like that. There's no need to. The manufacturers are very stable, they support retailers no matter what is going on, they always have. It's not really something that we worry about.

We've had pretty good discussions about those kind of things in our Board of Directors meetings. Mary Ann Keller has a good understanding of how those parts flow into the manufacturers and what the impacts would be if those things occurred, and we are not very concerned that those things would stop production of those vehicles.

I guess it's not really the concerns that we have in terms of the automakers themselves, but where the unions are making noises about their concerns of some of their suppliers and that they just don't have the parts (indiscernible) stock. So -- and Dick, you know Jeff mentioned on the call a period of potential instability. What did Lithia do during the '70s if we are potentially going into a period where you have maybe have some inflationary pressure at the same time as a sluggish economy. What were some of the things you guys did back then to position yourselves against a very volatile backdrop?

I wish I could say I wasn't around then. But okay, we'll talk about it seriously in that at that time I ran a store, and at that time, I think -- number one, you have to just be more careful the way you do business. And if you ran business properly before those problems happened, you had a better chance of getting through it. And in that period of time, I must admit we didn't make much money, but we didn't have a losing month even in those times. I think one of the key things you have to watch in those times are used car inventories. The new cars if they slow down, you just can't totally depend on their sales. If the used cars happen, which people have to buy used cars, they need them, and if they have used cars, then they have to get those used cars repaired. So if you have a good reputation in your service and parts departments and they trust you, they will come back and get those cars fixed.

And still, most of our -- many of our costs, I should say, are variable costs that we have. So if we see the thing really slowing down, then you can slow some of your advertising down, some of your stocking down and some of your expenses down. But I think what we have done is our standards that we have in our company, our model that we built in our company, really fits. If something happens, we have control over that. If times are good, then we can take advantage of them. So no one wants to have any slowdown. I don't want to go back to the early '70s, I don't want to go back even to if we have a 5% decrease. (indiscernible) go in one direction, that's up. So if it happens, we are going to be in a better position I think than most people are in our industry to survive it and we will do it positively and always be ready for the future.

I think Dick taught us all early on in the organization that we needed to build our common language very stable. So we had controls that if these things happened again and we heard about the stories in the early '70s, that there was detective measures in the organization that would quickly react to those problems and change the areas that needed to be changed, which is obviously like Dick said, those areas of control, though areas of inventory, those areas of staffing levels. And that's really where it comes from. And like Dick said, I think Jeff and Dan have provided everyone with the charts (ph) on profitability in our sector. And the sector really hasn't had huge cyclicality, including in the early '70s when our lowest profitabilities, net profit to sales, was really never below 1%.

So yes, it went down half, but it never went to negative levels. And that's an important thing to remember that our manufacturer partners are there to help stabilize some of those effects. Does that answer your question Jerry?

It did, thank you.

Jonathan Steinmetz, Morgan Stanley.

A couple, a few questions here. First, just to try to clarify something that came up earlier on the used vehicles, sometimes we see used counteract weakness in new, but it's my experience a lot of times, we see them correlated. What's happening in October with the weakness in new? Is used counteracting it here, or is it also weak along with it?

I would have to say that the trend is not as substantially down in used vehicles as new vehicles. The used vehicle drop-off was fairly excessive it appears in October where the used is really just seasonality.

Okay. So I'm confused. So you're saying it is this bad, or it's not as bad?

The used vehicles drop-off is not as bad. It's typical seasonality.

Okay. Another question I had for you. You talked a little bit about the truck, large SUV and pickup mix shift relative to small cars and that rural areas were not as major metro. You do have a few major metro type stores. Is that what you're seeing, that the major metros are a lot worse in this mix shift?

Our major metro stores are in Denver and Seattle and the Bay Area, but not really the Bay Area even. It's more Denver and Seattle. And those markets are still mountainous northwest areas where people are out towing boats and hauling things around. And it doesn't really change in those metro markets. I think you have to look at commuter markets, like L.A. and Atlanta, and to really see what may be going on there. We're not in markets like that.

And even our metro stores are a lot of times on the outskirts. Did you know that about 15% of our stores are major markets?

Okay. And the last one is -- you've talked a little bit about variable expenses and we've had some quarters in the past for all the dealers, you guys as well, where things were a little slower than people thought and it takes a little while to adjust some variable expenses. You guys seem to have a lot of warnings that this quarter could be relatively weak. Can you talk about some of the things you're doing ahead of time on advertising, personnel, et cetera, to sort of be prepared for it?

Actually, we began our seasonality plan in late August, Jonathan, and that was a focus on our personnel to reduce the staffing levels so we can continue to pay our good people the amounts that they need to stay through the harder times of typical seasonality, which is your November, December, January, February month.

In terms of the advertising, we -- let me quickly review. Our advertising is controlled centrally. We have a (indiscernible) advertising company which is Lithia's advertising company that controls all advertising that is placed in the organization at all 92 stores. So those budgets that are completed obviously look at seasonality and are controlled through Medford, so it's very quick and easy to change the flow of those advertising dollars. And that was, again, done in late August and prepared for a September and October falloff.

And just to follow-up on that, on the advertising side, you talked about I think a reduction there. How much of that was Lithia decision-making versus -- I was under the impression with the employee pricing that the OEMs were doing a little more national and there was less sort of regional on the dealers' part?

Really on that, even though the manufacturer comes up with strong advertising programs, there's still competition out there in this world. And we have to keep our advertising budget at the levels that drives traffic into our stores. And then if the manufacturer drives the extras in there, that's great. But I don't think we can ever really back off from doing our apart.

So the decision was primarily made by Lithia, not by the manufacturers, to reduce those levels.

Okay, thank you very much.

Mark Irizarry, Goldman, Sachs & Co.

Just a question on your F&I. Per car, that continues to kind of pick up here. How far do you think is up, and maybe can you just help me understand some of the characteristics of that business as we head into the fourth quarter and into next year?

In that sense, we really don't see any major changes. It really has not changed, it has just gradually done better and better with more training and more staffing in the stores. And so we don't expect any real major changes there.

And then Jeff, where do you think -- is there kind of a ceiling that you think will hit at some point in time on F&I per car?

Not necessarily, no, it just has been slow, steady growth.

Mark, let me embellished just a touch on that, okay Jeff? Our F&I procedures have really, like Jeff said, evolved over the last I would say seven, eight years. And we've found that as we have grown this business that as we make things clearer and easier for the customer early in the process in terms of pricing things to the consumers as they're working with their payments as they're purchasing the car and offering them these type of items in F&I early in the process, it's making it easier to sell the product and making it more consumer-friendly and less of a sales process after they have purchased the car. And we would really dedicate that to the reasons why our F&I production has continued to increase, that it's a more forthright and open discussion with the consumer at an earlier point in time.

Great. And then just on acquisitions, can you talk maybe just about some of the multiples that you're seeing out there in your markets for some of the stuff that's either, A, in the pipeline or, B, kind of what you're looking at at this point?

We're very fortunate again being in the rural areas that we typically do not have a lot of competition in our size markets. So the pressures of increased pricing or any of those things aren't typically there. And they're in those 2 to 4, 4.5 times, depending on whether it's an import, domestic or a luxury or a non-luxury line on a typical pre-tax multiple, okay?

So basically no better or no worse?

No. They're typically what we've been paying for the last really six years.

Okay, great. Thanks a lot guys.

I will add, we're seeing opportunities in some of the luxury brands where some of our public competitors have reached limits and so forth. And with fewer competition for those type of stores, we will see more opportunities for Lithia to finally add more of those type of brands.

That's very good point, Jeff.

(Operator Instructions). It appears we have no further questions.

Okay, we'd like to thank everyone for participating on the call and we will talk to you again next quarter. Thank you, everyone.

Thank you. This does conclude today's Lithia Motors conference call. You may now disconnect your lines and have a great day.