Lithia Motors Inc (LAD) 2009 Q2 法說會逐字稿

Good afternoon. My name is Maggie and I'll be your conference operator today. At this time, I would like to welcome everyone to the Lithia Motors Second Quarter Earnings Conference Call. (Operator Instructions). At this time I would like to introduce Mr. John North, Corporate Controller. Thank you, Mr. North you may begin your conference.

Thanks, Maggie. Good afternoon and welcome to Lithia Motors Second Quarter 2009 Earnings Conference Call. 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 the company's filings with the SEC.

During this call, we may discuss certain non-GAAP items including adjusted income from continuing operations, adjusted earnings per share from continuing operations and adjusted cash flows from operations. Presenting the call today are Sid DeBoer, the Chairman and CEO of Lithia; Dick Heimann, our Vice Chairman; Bryan DeBoer, our President and Chief Operating Officer, and Jeff DeBoer, our Chief Financial Officer.

At the end of their remarks, we will open the call to questions. And now it's my pleasure to turn the call over to Lithia's Chairman and CEO, Sid DeBoer.

Thank you all for joining us. Today we reported second-quarter net income from continuing operations of $0.19 per share compared to net income of $0.10 per share a year ago after excluding certain one-time non-cash items in '08 related to asset impairment charges.

This was achieved despite a 24% decline in revenue and our net income nearly doubled. We are continuing to benefit then from the restructuring plan we initiated in the second quarter of '08. Despite a new vehicle automotive market that is at historic lows and the impact of the reorganization of both of our partners Chrysler and General Motors, Lithia remains profitable.

The automobile retail model has once again proven its resiliency to market fluctuations like we've seen. The consolidated net income was $0.19 per share compared to a consolidated net loss of $0.05 per share a year ago excluding after-tax impairment charges again and gains on extinguishment of debt. A full reconciliation of these excluded items is provided in the financial tables of today's press release. I hope you find them helpful.

Overall new vehicle inventories were at $219 million at the end of the quarter. Despite the historically low sales rate, our days supply is only two days higher than our five-year historical average days supply, so we continue to improve dramatically in that area. Our same store retail used sales were actually up 2.3% over the same quarter of '08. The improvement in sales was achieved while continuing to reduce our used vehicle inventory levels actually almost just about half of what we had a year ago. We are focused on reducing exposure to the volatile changes that the used market has in pricing and demand and increasing our ROI as we turn our used vehicles much more quickly.

We have in fact reduced our inventories to exactly or about $64 million at the end of the quarter on continuing ops from over $157 million in May of '08. Our days supply for used vehicles at the end of the quarter was six days below our five-year historical average level on used cars. We did retail approximately 1.1 used vehicle to each new vehicle, edging up on our goal to be even better in that area. So this was compared to a ratio of 0.6 to 1 in the second quarter of last year.

In the second quarter, we had penetration rates for the financing of vehicles of 70%. Service contracts held up at 42%, and our lifetime oil products continued at around 36%. Our F&I per vehicle was $1035. As discussed on our last conference call, we have retained the liability associated with providing our lifetime oil product to our customers. This allows us to keep 100% of the cash from the sale that's related to that contract but requires us to recognize the income then over the contract term. We estimate our finance and insurance profit per vehicle in the second quarter was reduced by about $80 compared to the second quarter of '08 because of this deferral.

Lithia service and parts business declined about 5% on a same-store basis in the second quarter. Domestic brand warranty work actually increased by 2.1% and import luxury warranty work decreased by about 5.8%. Sales in the customer pay service and parts business which represents 80% of the total was down about 6% for the quarter.

This has been an unprecedented quarter in the automotive industry. General Motors, Chrysler reorganized their operations to a bankruptcy filing. If someone had told me a year ago that would take place and that the government would help fund them, I wouldn't have believed it. Consumer confidence remains negative and credit availability continued to be constrained. However, despite these headwinds we continue to execute our plan.

Both the GM and Chrysler have emerged from bankruptcy as leaner companies. Customers continue to desire their products and our results at the stores that represent these brands have not been materially impacted. We continue to utilize our strong lending relationships to find solutions as well to the financing constraints.

Finally, we have continued to adjust cost in our organization to match our current sales volumes and the opportunity that is out there based on the low SAAR rate. And we are seeing the fruits of those efforts.

General Motors and Chrysler represent about 48% of our new vehicle unit sales. The reorganization plans they developed are critical to our future still. We closely monitored both companies' progress throughout these proceedings and we believe we understand the impact to ourselves and we do believe in their future.

We are pleased to report that sales are stable at our GM and Chrysler locations. Consumers remain motivated based on the strong incentives and the products they offer. Many of you have followed the news reports regarding the franchise terminations. While we were impacted, the effects of these terminations on our operations are not material. We lost two Chrysler stores, one a CJD store in Nebraska and a Chrysler Jeep store in Colorado. We also received notification that three of our GM stores will not be continued as franchise dealers by October 2010 and we also got notice that the one remaining Saturn store which is very small will still be under termination if Roger doesn't buy it.

This cloud however has a silver lining. We picked up seven Chrysler Jeep franchises that were added to our existing -- five of our existing Dodge store locations. Also the GM stores that are impacted by these closures lose money in the aggregate. So excluding any onetime charges for possible facility issues, the elimination of these stores is accretive actually to our earnings. In addition, many of our locations are seeing an incremental increase in business due to surrounding dealers closing. Less competition in the marketplace will benefit all of us who survive.

We also are pleased to report that we have collected the majority of the receivables due to our stores from both Chrysler and General Motors. The manufacturers have main business as usual approach in that area and recognized that supporting their dealer network is vital to their long-term strategy and their ability to come out of bankruptcy.

Chrysler and GM both idled their factories for extended periods this spring. We did have sufficient inventories to our organizations to weather that shutdown without an impact to sales volumes. We are pleased to report that production has largely resumed now. We do anticipate a very disciplined approach though to vehicle inventories as we head into the fall and winter.

With that Bryan, I'll turn it over to you, our President and Chief Operating Officer, to provide you with more operational details.

Thank you, Sid. Good afternoon, everyone. In the second quarter we continued to execute the strategy we implemented last year. First of all, we improved profitability on each transaction. Secondly, a continued focus to further reduce both fixed and variable costs was completed in our organization. We are pleased to see our gross margin at over 19% compared to approximately 17% in the same period of last year. We saw margin improvements in all business lines in the second quarter including new vehicle margins at 8.2%, a 40 basis point improvement and used vehicle margins at 14.7%, a 270 basis point improvement. Our focus on maximizing the profit on each transaction and enhanced manufacturer incentives contributed to this increase.

Our gross profit per new vehicle retailed was $2439 compared to $2179 a year ago. Gross profit per used vehicle also improved to $2413 compared to $2057 a year ago. Our average wholesale gross margin improved to a profit of $13 per vehicle compared to a loss of $158 per vehicle a year ago.

As Sid mentioned earlier, retail used vehicles same-store sales were up 2.3% year over year. The changes we have made in our used vehicle operations have improved our inventory mix, reduced the number of aged units in stock and allowed our store level personnel to get on the offensive and focus on driving retail sales.

We have also expanded our product offering in value line used vehicles. This allows us to sell more inexpensive used cars to retail customers rather than disposing of them through the wholesale channels. This strategy allows us to reach deeper into the pool of potential Lithia customers, as we prepare our customers with more affordable cars to match the current demand.

We are pleased to provide an update on our progress in cost reductions as well. We continue to attack costs in the organization with vigilance and have increased the expected cost reductions several times over the past year. We currently expect our annualized fixed cost reductions to be $65 million. As we have previously discussed, these cost reductions are all fixed cost on a continuing operations basis only. I want to emphasize that the reductions do not take into account the variable portion of commission management positions, the sale of stores, inventory interest expense reductions or debt interest savings, nor do the savings reflect reductions in technicians and sales person production positions.

Total cost reductions including variable costs and discontinued operations are higher at approximately $85 million.

Now an update on our restructuring and rightsizing plan announced back in June of 2008. As Sid discussed, we classified four additional stores, two Chrysler and two General Motors stores in discontinued operations in the quarter as they received franchise terminations from the manufacturers. We continued to reduce our domestic exposure particularly to the Chrysler brands. At the peak of 2007, if you recall, we had over 40% of our new vehicle revenues from the Chrysler products. Today we have 29% on a continued operation basis.

We will continue to emphasize brand diversity to achieve balance and revenue mix in the future. The bankruptcy filings of Chrysler and General Motors disrupted the market for the sale of stores. We did not make significant progress on the sale of stores in the second quarter due to the uncertainty around the impact of these unprecedented events.

As GM and Chrysler have emerged from their reorganizations, and more clarity for their future is realized, we believe the interest in these stores should return. However, it is important to note that while these 11 locations have been targeted for disposal for the last three quarters, we have not ignored their results and the cumulative impact on us as an organization. We have worked diligently to improve operations over the past two quarters. Based on this progress, the operational results for these discontinued operation stores were breakeven in the second quarter. We continue to make a difference at all of our stores as we respond to these unprecedented times.

We have spent considerable time and energy in establishing the new base for profitability given the extreme decline in vehicle sales. The results we have delivered over the last two quarters have demonstrated that our business remains stable due to the manufacturer support and our protected market strategy.

One question on everyone's mind is the normalized earnings power of Lithia particularly as the vehicle sales levels begin to recover. While we are not providing guidance, nor are we forecasting vehicle sales levels this year or in the future, we are confident that our organization is structured and staffed to be profitable at even lower levels than currently we are seeing.

Likewise, our earnings potential will increase as SAAR recovers and we achieve better leverage on our cost structure. Based on our current projections, we estimate full-year annualized future earnings to be as follows. At an 11.5 million SAAR, our projections show earnings of $0.93 per share. At a 13.5 million SAAR, our projected earnings will be $1.51 per share. Finally, at a 15.5 million SAAR, projected earnings will be over $2 per share. We hope that this guidance will demonstrate the earnings power within our organization and help you to understand the future of Lithia as we see it.

With that I would like to turn the call over to Jeff, our CFO, to provide you with some financial data. Jeff?

Thank you, Bryan and good afternoon, everyone. We have continued to strengthen the balance sheet in the second quarter of 2009 as you can tell from the financial statements. We previously communicated our objective has been all along to eliminate all debt except for mortgages and floor plan. And we are pleased with the progress we have made in these areas over the past year and a half.

We have retired 100% of our outstanding convertible notes. The proceeds to accomplish this were generated internally primarily through asset sales and mortgage financing. We were able to accomplish this retirement and realize a small gain as well while avoiding punitive terms or dilution to our shareholders.

The balance on our credit facility has continued to decline. At the peak, 18 months ago, at the end of 2007, the balance was $184 million. At June 30, the balance was only $68 million, and it is approximately $45 million as of today. The facility matures in April of next year, 2010, and it is our intention to pay off the balance before then.

The main source of collateral for the credit facility is our used vehicle inventory as many of you know. As Sid mentioned, our current used inventory, excluding discontinued operations, is approximately $64 million. This collateral is more than sufficient to support the balance outstanding on the credit facility, and we are currently working with several financing partners to arrange for used vehicle flooring loans on this collateral.

We have had the support of several key partners. Our hats go off to all of them, in particular, our banks and captive finance companies for the depth of support we have received. From retail and wholesale finance to new mortgage financings and used vehicle credit, they all continue to be integral to our success. We want to publicly acknowledge each of our financial partners especially given the negative situation surrounding our industry and the domestic manufacturers.

Cash flow from operations was $74.3 million so far in 2009. It is important to consider the effect of floor plan activities classified as financing in the statement of cash flow to get a true operational picture. When including this, our adjusted cash flows from operations were $48.8 million for the full year or the first half of 2009.

We are pleased to be generating significant operational cash flow, which is our preferred source of funds to retire debt and improve liquidity. We will continue to endeavor to improve our operational cash flow as it is a strong indication of the health of Lithia. For the year, we have closed on six mortgage loans and currently have several other mortgages in the pipeline. We hold certain development properties and store locations with more for sale, and we expect more sales to come in the future.

Finally, we were in compliance with all debt covenants as of June 30, 2009 and expect to remain in compliance with them in the future. In conclusion, liquidity at Lithia is strong, including cash and availability on our credit facilities at approximately $33 million as of today. I will now turn the floor over to Sid for some closing comments.

Hey, everyone. Thanks again for listening. I did want to add a few points on the "Cash for Clunkers" program and the results so far in the third quarter. A lot of fun to have a government sponsored program like that, complicated but effective. I want them to put $10 billion in that program. It would do more to stimulate the economy of the U.S. than the hundreds of billions they are spending in the current stimulus. And let's all push, contact your congress people, contact your senators, we need more money; that's going to be gone maybe by the first half of August.

We're getting tremendous response. It has caused a noticeable improvement in both store traffic and sales and it's not just people with poor credit; it is people that are qualified to buy cars and probably would not have bought a car for the next five years because it was that extra car they really didn't want to get rid off, but they had a chance to really get some money out of it and they're trading. It's also creating traffic that were converting when people don't qualify and still selling a lot of extra cars.

We have tailored specific marketing messages to capitalize on the buzz surrounding this program. You could go to lithia.com and see those if you would like. We have also focused our sales personnel on generating vehicle sales even for customers who don't qualify. The generous rebates offered by the manufacturers, some of the double down things are really working. They complement the program and offer consumers an attractive value proposition that we are maximizing. We really are off to a strong start then in the third quarter.

As I said earlier and as we repeated in each of these calls for the last year, this company is rightsizing itself through cost reductions and store sales. We're reducing our debt and strengthening the balance sheet. We are improving sales and profits in all areas of our business. I personally want to thank all the team members and employees at our company.

That concludes the presentation portion of the conference call. Thanks for joining us; we would like to open the floor for your questions. Maggie?

(Operator Instructions). And our first question comes from the line of Rick Nelson with Stephens.

Good afternoon and great quarter.

Hey, Rick. It has been a long time since you said that, Rick. Thank you.

What drove the margin expansion in used cars and do you think that is sustainable as we look forward?

Rick, we had a bubble of over-aged vehicles as well as having too many vehicles over the last couple of quarters. We worked through those over the first half of the year and those are behind us now, and we are starting to realize it now on our margins.

The other thing that is helping us a little bit is that -- our Value Auto Program, which allows us to dip a little lower into the used vehicle market which is a lower cost car which allows us to again improve our margins, because typically our guys have a tendency to sell a vehicle for a certain per deal average and that's been able to help those things.

Looking forward, we are out of those problems. Our inventory is the cleanest it has been in three years as a company in our used vehicle line. And as Sid and Jeff both spoke to, we are at about $64 million in continuing ops and about $78 million in consolidated operations with less than 10% of that as overage units.

The margins are back in the normal 14% to 16% range and that's where we expect them to stay.

Yeah, Rick. We've heard, I've listened to the other people that you know have their conference calls on this issue and we are not experiencing the margin erosion in used. In fact June pushed past the 16%.

That's encouraging. I have a question on the new car side, given the inventory reductions at Lithia and across the industry, do you see some potential sequential improvement there in the new car margin side?

Our new car margins, Rick, generally we run our business for total gross dollars so it is a balance between volume and margin. Right now we are higher than normal I would say because the volumes are low and as volumes continue we will do our best to maintain the margins we have, but we would normally expect the margins to decline a little bit with the increasing volume. So I wouldn't expect too much higher margins where we are at today.

That's fair to say.

That's a good answer, Rick; that's pretty much the philosophy. And we have inventory shortages and improved margins too right now.

And we are hearing that actually. The cash from the operations, I just want to understand the $48 million that you'd talked about. If I look at net income and depreciation, combine them calculating $12 million for the six months, where is the other cash being derived?

Jeff DeBoer That's directly off the cash flow statement Rick, so it's that first section on the cash flow statement and there are a number of areas including receivable collections, inventories, some tax assets that changed for the positive, just managing the line items on the balance sheet better across the board. Was there anything else big that I missed, John?

(Inaudible). It's receivables down, inventories down, I mean those things.

What's our cash flow from operations? That's probably what he would like to know?

The net income plus depreciation, amortization minus maintenance CapEx and other items is around $10 million.

For the first half?

For the first half, yes.

Got you. Okay and then how about that the regional areas? What seems to be working best and where are you more challenged?

We looked at that this morning, John and I did, and really the states that are showing single-digit declines only which means they are getting close to showing positive comps, and we had a couple of positive comps in some of these states in June, were all in the Northwest. So if you look Oregon, Washington, Idaho and Montana and Alaska. All five of those states are the ones that are showing just single-digit declines or even some positive comps in June. So that's where the recovery in our business seems to be occurring at the current time.

If I could circle back on the used cars, prices are rising at auction and your sourcing prices are higher; are you seeing any resistance yet to passing those on to the customer?

So far we have not seen resistance to that. I think a lot of it still relatively speaking the used vehicle values are still probably below average, even though everyone still remembers those days last year where they were just ridiculously low. So no resistance as of yet.

Okay, great. Thanks and good luck.

Thanks, Rick.

Thanks, Rick.

(Operator Instructions). Your next question comes from the line of John Murphy with Bank of America Merrill Lynch.

Good afternoon.

Hi, John; how are you doing?

Good. How are you?

Good, John, thanks.

Looking at the model here, it's actually bearing out remarkably well for your peers and even better for you here. When we look at the used business obviously something that you can go to in tougher times and is a real ballast here in a way, but it was particularly big in the quarter. Is there anything philosophically say that you are doing in the company that would drive this sort of on a more continuous basis going forward? L2 was off the table at this point. But, could we see this used vehicle business being sort of 50% of the units going forward on a consistent basis or is this really just a response to the tough new vehicle environment?

John, if you look back historically, I mean we went public, we were almost 2 to 1 and that's kind of the philosophy I always preach. I want everyone around here to get their store to 2 to 1; two used cars for every new. And there are a few exceptions, you just can't do it in some markets; there is not enough display space and whatnot, but our best stores are doing that. And that opportunity is huge to develop your new car business. It has such an effect if you can be good at used cars, you can take trades stronger, you are able to do a better deal all the way around, you have more reconditioning, you build more service business. I mean, it's a core and it's just one of those philosophies that I think we are reaching people.

We had some obstacles to that in the past trying to hit manufacturer goals so we could buy stores and get approval and I think the longer term you get good at used cars, you will meet your manufacturer goals on new just because it helps make you a better retailer.

John, let me add one thing, this is Bryan. There's really a couple of things that we've been doing differently. Obviously, once we get out of the ageing problems that we had and now we are sitting able to focus on retail, we implemented a strict turn policy in every single store which has really helped margins a lot. That's been a real positive component.

We focus very closely on our stocking plans and making sure that the vehicles that we have on the lot in certain models that they are the right priced vehicles. So it's different to have a $13,000 SUV or a $13,000 Sedan. You want the $13,000 SUV, you want the $10,000 Sedan; so we are very attuned to key prices within each segment of the marketplace as well as those late model used vehicles we've backed away from a little bit obviously because of the volatility of incentives with the new vehicles.

Okay, that's great. And then if we think about the opportunity for market share gains in your local markets I mean it sounds like used is certainly an opportunity and you're focused on that. But the new vehicle market given the shifts in, or should I say the cuts in franchises at GM and Chrysler are presenting an opportunity; you obviously picked up seven Chrysler franchises in the midst of this, this sort of mayhem at Chrysler. What you are seeing in your local markets? Are you actually picking up market share where there actually hasn't been that franchise that's been picked up, but you are actually just able to absorb sales as a stronger retailer and as those dealers are closing you are actually picking up a lot of that business.

So John, the big determinant on picking up market share is really market size; the bigger markets consolidated more than the smaller to mid-sized markets. So the bigger our markets get the more rewards we are seeing from people going out of business or terminations or those type of things; there are more things that can happen. And that's really, I mean our biggest improvements are the Concord, Californias, which is really the Bay Area, the Renton, Washington which is Seattle, some of the Anchorage stores are doing a nice job there. And there are a few medium sized markets where we've had dealer attrition and that we're seeing improvement.

John, I don't know if you remember my story in this area, but just because a manufacturer has a 10% market share doesn't mean that an individual dealer in a given market as a great retailer can't have 20%, because it is every market is local and there is some driven certainly by product availability and whatnot but I mean I'm a believer in that. And I think that long term, we can gain market share in every market we are in. In fact that's a requirement of us keeping a store and a requirement of a general manager working for us.

Is that opportunity more apparent and more abundant on the new vehicle side of the business or as the dealers are being shuttered do you, I mean is there a real opportunity on parts and service, because it seems like a lot these guys are trying to stay open as used and parts and service lots or retailers and trying to make a go of it that way. Is there really still a big opportunity, I mean besides just new on the parts and service side where you really have -- where you are making a lot of money?

Let me take this in a couple of tranches. Obviously the big improvements we made in new vehicles is the terminations from the manufacturers -- that was immediate. And I think we will see additional attrition of new vehicle dealers that are non-forced by the manufacturer that will be beneficial.

In terms of the used vehicle side of things, used vehicle lots, if you get deep enough into the product line, so into the $5,000 to $8,000 vehicles maybe even upwards of $10,000 to $12,000 vehicles, that type of dealer is struggling more. Their credit lines are becoming more and more difficult to get and obtain; they don't have the assets or capital to be able to find other ways and we are losing some of that competition in a lot of areas. It was some of our driving force behind moving to these value auto type of segment.

On the parts and service side, I don't have a great answer for that other than it appears that we are losing a little bit of independent competition and I believe that we will obviously pick up some with the terminations even though many of those people are still trying to stay in business for some period of time.

John, when you look at their opportunity for parts and service without warranty, without the brand sign I mean I don't think any of those people will succeed at any of those adventures. I mean, we are not attempting it. We're doing it in the one store in Omaha but actually the real estate there, it's one of those things we probably won't continue. But some people are doing it temporarily to help get something in on the stores, but it's probably cheaper to close them and pay the rent.

Okay. And then lastly, if I look at your EPS sensitivity which I really appreciate, you are saying $0.93 and 11.5 million units SAAR, above $0.51 at 13.5 million and a little bit better than $2.00 in 15.5 million. I'm not sure how much better than $2.00 you are saying there. But, if I were to sort of ballpark it, it's to about $0.29 for each incremental million units from 11.5 million to 13.5 million. And then somewhere in the $0.25 to $0.30 for the million units from 13.5 million to 15.5 million; that seems like a linear increase there from 11.5 million to 15.5 million. Am I just reading that wrong in that $2.00 plus in the 15.5 million market is really a lot more than $2.00?

Well, looking at the peak in 2005, we made about $2.35 or so and you know we've reduced our cost quite a lot. We've also reduced the store base, and there is a point where the incremental volume goes direct to the bottom line. So, it's well above that level. So we don't want to be too specific but that's the way we model it.

It's pretty normalized the model that we use and we are adding costs as we go. In reality if those things happened suddenly, if we went to 15.5 million next year, good God, yes we would be way past $2.00.

Yeah. Let's hope that happens.

If it creeps there, you know, if it creeps there. And we don't think 15.5 million is reality for next year, but we wanted to give you people some framework of where our earning potential is. And we just, if it goes off the charts you get up on a quick recovery.

Great. Thank you very much.

Good questions, John. Thanks.

And we have no further audio questions at this time.

Thank you all for listening. Sorry I choked up there when I was talking about my employees and thank you all for working at Lithia. We think the world of you.

Thank you for joining today's conference call. You may now disconnect.