Lithia Motors Inc (LAD) 2012 Q3 法說會逐字稿

Greetings and welcome to the Lithia Motors Q3 Earnings Conference Call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator Instructions). As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, John North. Thank you, Mr. North, you may begin.

Thanks and good morning. Welcome to Lithia Motor's Third Quarter 2012 Earnings Conference Call. Before we begin, the company wants you to know that this conference call includes forward-looking statements. These statements are necessarily subject to risks and uncertainties. Actual results could differ materially due to certain risk factors as are outlined in our filings with SEC. We expressly disclaim any responsibility to update forward-looking statements.

During this call, we may discuss certain non-GAAP items, including adjusted selling, general and administrative expense, adjustedoperating income, adjusted income from continuing operations, adjusted earnings per share from continuing operations and adjusted cash flows from operations. We believe this non-GAAP disclosure improves the comparability of our financial results from period to period and is useful in understanding our financial performance. These presentations are not intended to be provided in accordance with GAAP should not be considered an alternative to GAAP measures. A full reconciliation of these non-GAAP items is provided in the financial tables of today's press release.

We've also updated an investor presentation, which is posted on our website, Lithia.com, highlighting our third quarter results.

Presenting the call today are Bryan DeBoer, President and CEO and Chris Holzshu, Senior Vice President and CFO. At the end of our prepared remarks, we will open the call to questions. I'm available in my office after the call for any calls you may have. It is my pleasure to turn the call over to Bryan.

Good morning. Today we reported a record third quarter income from continuing operations of $23.3 million, this compared to $16.3 million a year ago.

We earned $0.90 per share in the third quarter compared to $0.61 per share last year, an increase of 48% or double our revenue growth of 24%.

Total same store sales were up 23% in the quarter, reflecting increases in all business lines. All comparisons from this point forward will be presented on a same-store basis unless otherwise noted.

New vehicle sales increased 30%. This increase was on top of a 28% increase in new vehicle sales in Q3 2011. On a unit basis, we sold approximately 14,500 new vehicles, an increase of 3,400 units or 31%, well above the national average of 14%.

Our domestic sales increased 19% compared to 5% nationally. Our import sales were up 51% compared to 25% nationally. And our luxury sales were up 38% compared to 3% nationally. These results show that each market is unique and the dominant brands we represent in our markets respond differently than national trends.

We have continued to challenge our store leaders to evaluate their business and tailor solutions that improve performance in their local markets. As a result, many of our stores are achieving success in ways we have not seen before.

Earlier this month, we held a meeting with our general managers in Portland, Oregon. I was both humbled and excited by the energy our store leaders brought to the event. Our team believes there is still work to be done and can continue to outperform in their markets with focused efforts, creative thinking and a lot of hard work.

As I mentioned last quarter, many of our western markets are still experiencing new vehicle registrations significantly lower than historic levels. To put this in perspective, we have compared registration data in our local markets at current levels compared to levels experienced before the recession. We calculated that in our markets, current sales volume equates to a SAR of under 13 million units compared to the 16.5 million SAR we experienced during peak historic levels. We are encouraged that as these markets continue to recover, we can capture more than our share of the volume increases.

Used retail vehicle sales increased 24% in the quarter. We sold approximately 12,900 retail used vehicles resulting in a used to new ratio of 0.9 to 1.

We sold a monthly average of 52 used vehicles per store in the third quarter of 2012, up from 40 used vehicles per store in 2011. our previous goal was to sell an average of 60 used vehicles per store. As we have improved our performance in this area, we are increasing our goal to sell an average of 75 used vehicles per store.

They key to our success in accomplishing this objective is to grow our core vehicle offerings. These three to seven-year-old cars are most difficult to source and our stores must effectively mine the five channels for procuring this inventory. These channels are; customer trade-ins, auctions, wholesalers, private parties and other dealers.

As we have more success in selling core vehicles, we will turn to generate more inventory in our value auto category through the trade-ins received on these sales. Success in core vehicle drives our performance in the rest of our used car offerings.

As new vehicle sales continue to recover, certified pre-owned vehicles continued to increase. In the quarter, this category grew 33% due to a larger number of [off fleet] vehicles compared to the low levels experienced last year.

In the quarter, value autos, or vehicles over 80,000 miles, performed well. This segment grew 56% year-over-over, with a gross margin of 21%.

In the quarter, our F&I per vehicle was $1,072 per unit.

On a GAAP basis, we arranged financing on 76% of the vehicles we sold. We sold 41% of our customers a service contact and 35% of our customers a lifetime oil product.

Our Service, Body and Parts sales increased over 6% in the third quarter. Wholesale Parts and Body Shops showed significant increases of 9% and 18%. Customer Pay work increased 6%, which is the 13th consecutive quarter of same-store sales improvement.

Warranty still faces a headwind, declining 2%. We continue to anticipate lower Warranty revenues for the remainder of 2012 and into 2013, due to a lower number of units and operations from lower sales over the last few years. Warrantycomprises 15% of our Service, Body and Parts business and can be more than offset by concentrating on growing the other 85% of the non-warranty activities.

Our gross profit per new vehicle retailed was $2,399 compared to $2,597 in the third quarter of 2011, a decrease of $198 per unit. Gross profit per used vehicle retailed was $2,531 compared to $2,550 in the third quarter of 2011, a decrease of $19 per unit. Both of these numbers are lower as we continue to emphasize increasing the number of units sold per store.

Additionally, our stores are increased on total gross profit dollars generated in each department while increasing market share for used and new vehicle sales. Our gross profit on a same-store basis increased 19% over the prior year. As I mentioned at the beginning of our remarks, our EPS growth was double our revenue growth. Driving incremental gross profit dollars into the organization allows us to leverage our scale and gain efficiencies in operations. Much of this is due to the efforts we have put into cost controls, which Chris will be discussing in more detail.

In the quarter, our overall gross margin was 15.2% compared to 16.8% in the same period last year. Increases in new and retail used vehicle sales outpaced other business lines and explains the majority of the decline in overall margin. Despite a lower margin percentage, overall gross profit dollars increased 20% over third quarter 2011 results.

Now to update you on corporate development activities; we seek exclusive domestic and import franchises in mid-size rural markets and exclusive luxury franchises in metropolitan markets. In August, we acquired a Chevrolet store in Killeen, Texas, with estimated annual revenues of $60 million. Our guidance has been updated to reflect the impact of this new store.

The last thing I wanted to leave you with is a discussion on brand mix. National market share is 56% import luxury and 44% domestic. Our brand mix is 53% domestic and 47% import luxury. However, when evaluating market share by manufacturer, it is important to note that three of the top four manufacturers are domestic brands.

Within the smaller markets we operate in, the larger manufacturers control a greater share of the market. We believe that controlling the dominant brands in the markets we do business in is a competitive advantage. We will continue to align our brand mix with what sells where we operate and we are comfortable on a domestic versus import luxury basis. We still remain focused on reducing our concentration to less than 20% of any single brand, but plan on doing this by acquiring other brands over time.

To summarize, we believe that our ability to increase market share through world-class store leadership, an economic recovery in the western markets that is still in the early innings, a brand mix that matches the markets where we do business, and an aging fleet of vehicles, all point to the potential for continuation of the multi-year sales recovery.

With that, I will turn the call over to Chris, our CFO.

Thank you, Bryan. As we have discussed for several quarters, an important driver of the recovery in auto sales is the expansion of consumer credit, particularly for lower-tier customers. Consistent with the past few quarters, lenders have shown their commitment to increasing their portfolio of automotive loans and are loosening their lending criteria to accomplish this objective. For example, the average loan-to-value, which represents the percentage of dollars financed to the overall vehicle value, was 91%, the highest level we have seen since 2008.

Of the vehicles we financed in the third quarter, 11% were the sub-prime customers, up from 10% in 2011. however, the absolute number of contracts originated or sub-prime customers increased 49% year-over-over. Given that the total number of customers financed is up35%, this highlights the expansion of sales to the segment. Continued expansion here represents the next leg of the recovery in vehicle sales.

As Bryan mentioned, we have challenged our store leadership to increase the absolute number of gross profit dollars earned by our stores. We also challenged them to retain as many of those dollars as possible through prudent cost control around the two largest areas of SG&A expense, personnel and advertising, which comprised 75% of this balance.

We monitor expense management through the use of consolidated information systems and a standardized reporting structure. This competitive advantage allows our stores to quickly identify areas of opportunity to work on. For example, weevaluate payroll and benefit cost by store, by position and by person, looking at both the absolute productivity and the individual performance of our team members. This in-depth evaluation insures we provide exceptional pay for exceptional performance, while identifying areas of opportunity on an individual head count basis.

In addition, we aggressively deploy marketing dollars when prudent to increase individual lines of business. As a result, our advertising spend as a percentage of gross profit increased on a year-over-over basis. Our same-store sales increased above the market rate in all business lines, validating the investment we made to increase customer traffic. We are confident that additional marketing campaigns in new and existing delivery modes are helping us grow all these lines of business.

In the quarter, SG&A as a percentage of gross profit was a record low of 67%. Through-putor the percentage of each additional gross profit dollar over the prior year we retain after selling costs adjusted to reflect same-store comps was 55%. We believe incremental through-put is the best way to measure our cost control efforts and our target of 50% incremental through-put remains unchanged.

However, we are updating our target of SG&A as a percentage to gross profit to the high 60s for 2013 and beyond. As a consolidator, we understand the need to drive leverage in our model and are confident our team will deliver on that expectation.

At the end of the quarter, we had $20 million in cash and $29 million available on our credit facilities, bringing our immediate liquidity to $49 million.

The available credit on our syndicated facility is $47 million lower than at June 30 of this year. There are three reasons for this change. First, we completed the acquisition of a Chevrolet store in Killeen, Texas. Second, we completed the construction of several new facilities that remain unmortgaged. And third, we increased our new truck inventory to prepare for the production change-over related to the Chevrolet K2XX pick-up and Chrysler heavy duty pick-ups.

Currently, $115 million of our operating real estate is unfinanced. These assets could provide an additional $86 million of available liquidity in 60 to 90 days. This brings our total liquidity to $135 million and we remain comfortable with our overall level of available capital.

At September 30th, excluding [floor plan], we had $269 million in total debt, of which $168 million is mortgage financing. In the quarter, we refinanced $16 million of mortgages, extending the maturities and fixing the interest rates. We also retired $5 million in higher rate mortgage debt. As of today, 60% of our mortgages are fixed and we have no mortgages maturing until 2016.

Finally, we were in compliance with all debt covenants at the end of the quarter.

Our free cash flow is outlined in our investor presentation, was $44 million for the first nine months of 2012. We estimate this number to be $34 million for the full year 2012, due to increased earnings, offset by a planned CapEx, as we continue to invest in projects that grow our business.

Our capital expenditure estimate is $67 million for the full year 2012. And this budget is based on new facilities, facility improvements and remodels, the consolidation of our headquarters facilities into a single location, strategically exercising purchase options on leased facilities, and other business opportunities that are currently in progress.

On a roof-top basis, we own 60% of our facilities, and owning real estate has been a strategic decision we have been committed to since we went public. This is akey differentiator for Lithia and something we will continue to pursue in the future. As such, we seek opportunistic lease buy-outs when accretive. We estimate $26 million will be spent on strategic lease buy-outs this year.

Without these transactions, our CapEx for the full year would be approximately $41 million or 7% under the benchmark we established in February. We estimate our 2013 CapEx will be approximately $25 million.

We are focused on the prudent allocation of capital and believe a balanced strategy of acquisitions, internal investment, dividends and share repurchase is appropriate. Our first choice for capital deployment remains to grow through acquisitions and internal investment. Regardless of category, all investment decisions are measured against strict ROE metrics and will be solid long-term investments in Lithia's future.

As of September 30th, new vehicle inventories were at $504 million or a day supply of 75 days, an increase of nine days from a year ago. This increase is partly related to the build-out of certain truck models prior to manufacturer planned platform changes, when production is halted and additional vehicles are not available, as well as the anniversary of production shortages related to the J3 inventories as a result of the tsunami.

Used vehicle inventories are at $126 million or a day supply of 50 days. This is three days lower than our day supply level a year ago.

Import inventory levels are back to normalized levels at the current time. Although acquiring late model used vehicles still remains a challenge.

We increased our guidance for 2012. OurEPS estimate for the fourth quarter is in the range of $0.64 to $0.66, with full year expectation of $2.88 to $2.90.

We have introduced EPS guidance for the first quarter of 2013 of $0.65to $0.67,and full year 2013 guidance of $3.11 to $3.21. For additional assumptions related to our earnings guidance, I would refer you to today's press release at Lithia.com.

This concludes our prepared remarks. Now I will open the call to questions..

Thank you. (Operator Instructions). Our first question comes from the line of Simeon Gutman with Credit Suisse. Please proceed with your question.

Good morning and thanks. I'm going to ask two questions -- I'm going to ask them up front in case my connection drops. Can you talk about acquisition pipeline, what you are seeing today and what you see going forward?

And the second question regarding some of the markets that have yet to recover, some that you mentioned earlier, what's the trajectory of improvement that you are seeing there today? Is it getting faster? Is it tying in with housing improvements that we are starting to see? Any comments on that. Thanks.

Good morning, Simeon. This is Bryan. Let me talk first about acquisition pipeline. We hadtalked previously about tax rate possible changes going away at the end of the year that was driving some activity. There has been a lot of price increases and it's been very competitive with some privates.

However, we do have some good news. Later this morning we'll be closing on an acquisition in Missoula, Montana, a new Toyota store, which adds to our base in Montana where we have wonderful strength. That's exciting. And we have other things in the hopper that may not happen until the end of the year, but there is still a lot of activity. For some reason, it seems like there's a glut of cash out there that's driving prices up and we'll maintain discipline.

Any other questions on that, Simeon?

No, that's helpful.

Perfect. And in terms of market recovery, in the west -- let me quickly provide you with state by state information. In terms of new vehicle same-store sales; Nevada was our number one stateat 34.2%. Our number two state was Oregon at 34%. Let's see here -- Iowa was 30.2%. North Dakota was 28.9%. And lastly, Washington was 29% as well. So a lot of the west is recovering like we were expecting.

I think you touched on it nicely. There's no question that inventory in housing is starting to dry up which is help driving truck sales, because there's people working again and building homes. Additionally, despite these increases, we still believe that the west has substantially higher gain opportunities than what nationally reflects.

Thanks very much.

Our next question comes from the line of Ravi Shanker with Morgan Stanley. Please proceed with your question.

Thanks, good morning. Bryan, just to follow-up on that last response, are you saying you expect these markets to outperform the overall SAR in the coming years? Or do you think it will catch up due to the overall national level, once you have that housing recovery?

Ravi, this is Bryan again. By the way, thank you for picking up coverage. Glad to have you on the team.

I would say this -- recoveries are slower than obviously declines, so even though we are seeing increases in the western markets, we believe it could take a number of years to achieve that. Because if you remember, even those numbers that I just talked about in each state -- we averaged 23% as a company. So those numbers aren't dramatically better, we're talking about 4%, 5%, 6% better than what our company is doing. So there is not big anomalies and we really believe it will take a couple years for the economy to get going again.

For some reason because, because -- our smaller economies don't have quite the industry diversification or economic diversification, they respond a little bit differently than metropolitan areas. And I think because of that, that industry then has to get going, whatever that primary is within that market, which can slow it down as well. We think it's a pretty controlled sustainable recovery that may take a couple years to recover.

Ravi, this is Chris. One thing you'll notice in our guidance that we do is we look at each individual market when we project and forecast what we anticipate earnings will be for next year. What you'll see is you might have a market like Des Moines, Iowa that might have a 3% built-in recovery next year, but then we'll take another market like Boise, Idaho and that might have a 10% to 12% improvement next year. The compilation of each individual markets rolls up to how we set our guidance and our projections next year. New vehicles for full year 2013, we are guiding up about 11%.

That's very helpful. If I can switch to new vehicle margins. You said in your slide that there may have been a hit to new vehicle grosses from aggressive share gains. Can you expand on that? Are you putting in an effort to try and gain share and maybe undercut pricing? Or is this something that's more symptomatic of what's going on in the industry?

Ravi, this is Bryan again. In terms of our new vehicle margin, forthe last couple years, we've clearly stated that we wanted to increase our market share as well as the increase that nationals recovering in individual market. We've always pinpointed a 5% target in those arenas. And what we are seeing now is we are still capturing that additional 5%. And the reason we do it is we believe that it's best for our organization in the short and long-term. Yes, you give up a little bit of margin and I think we're down 200 basis points year-over-over. What was it?

$200.

$200 year-over-over, excuse me. Which most of that is driven by the imports. Our comp last year was so high because of a shortage of J3 inventories, so that started the reflection. We look at total gross that's coming into the new vehicle and used vehicle departments and we are okay sacrificing some of that.

We know those sales drive two very important things for our business. One is it drives used car trade-ins, which you are seeing what's happening in our used car trade-ins, which is now another cycle that's two stages down that drives value auto vehicles. Additionally, we are starting to see we were up 6% in Service, Parts and Body Shop work and we believe a lot of that is driven from units and operations.

So it's almost an annuity that if we can gain that initial sale in new vehicles, it's the top of the food chain that drives the rest of our business. We believe there's great balance there and we'll continue to maintain that. And at times, may have to sacrifice a little margin to be able to capture that additional business in the future.

Okay. And just lastly, can you talk about the new 2013 Ram 1500? Has that hit the lots? And what's the reception to that been? Because I think it has a new fairly -- pretty fuel-efficient power train?

Ravi, we haven't seen a big influx of inventory on the 2013 models. But what we have done is we have stocked up on the heavy duty models of 2012. And if you notice, our day supply in new vehicle inventory is up to 75 days at the end of the quarter. A big reason for that is our Chrysler stores ordering the heavy duty Rams so we don't have a shortage of inventory going into the fourth quarter or even the first quarter.

We haven't seen a lot in the 2013. The price point is going to be a lot higher than the current version. It has a lot of new technology added to it. And we'll see what sales look like later on.

Understood. Thank you.

Thanks, Ravi.

Our next question comes from the line of Steve Dyer with Craig-Hallum. Please proceed with your question.

Congratulations on another nice quarter, guys.

Thanks, Steve.

Touching on that last question, overall 2013s versus 2012s in the inventory mix; what's -- I don't know if you know that split off the top of your head. You feel like you are well-positioned with 2012s still on the lot -- not having too many of them, et cetera?

This is Bryan. I'm confident the 2012s -- we have enough to get us into -- heavily into the fourth quarter. Our 2013s, we don't have the exact split but I would guess at this time of the year -- I'd probably say 60/40 to 2012. Is that about right, Chris?

We can get that, too.

We can get that offline. We still believe there's obviously those Chryslers as well as Chevrolet has a big model change-over in their 1500 as well, in the Silverado, and there's going to be a shortage of those. So we ordered up heavy there.

What's the incentive environment? And how do you see that playing through the end of the year?

Really, the domestics obviously have their stair step programs that they typically plan, that's helpful. I would overall say it's pretty static. I don't think incentives are what really drive volume. We always believe that we take what we can control, which is our people can drive volume. So we work on growing our teams and making sure that we have the best talent there ready to listen to our customers and respond to their needs. And we find when we do that, whether or not these other things are occurring, it takes a lot of the guesswork out of it.

Okay. Two more questions. One, were you inventory constrained on any particular brands during the quarter?

Yes. I would say that our Subaru brands -- our stores were fairly short. Our Subarus sales were up 58% in the quarter. We were definitely running at -- probably a 15 to 20 day supply. One of our stores, I've got to say, probably doesn't have more than one of each model on the ground over in Reno. So that's tough.

Our Hyundai stores were definitely short of product. Our Toyota and Honda stores were pretty good. We probably had a couple of pockets in Honda that were shy on product, and then obviously the domestics. Really there wasn't shortages other than Chrysler within certain jeep models.

That's helpful. And lastly, you mentioned the Missoula acquisition you'll announce later today. Is that in forward guidance?

It is not.

Okay. Thanks, congratulations again.

Thanks, Steve.

Our next question from the line of Brett Hoselton with KeyBanc Capital Markets. Please proceed with your question.

Good morning, gentlemen.

Brett.

I wanted to ask you about the used car business. Clearly, you've come in and you are placing pretty good focus on the used car operation. My question is, you are outperforming the market by a fairly significant amount here. Would you anticipate that outperformance to continue at this significant level for another quarter, two quarters, year, three years? Or do you see, look, we've got some lowhanging fruit in the near term. And then we hope to continue to outperform a year from now, but the pace of outperformance is probablygoing to slow down.

Brett, this is Bryan. This is obviously our focus as an entire organization. It will remain such. I would say this, we don't believe that we do outperform the market, even though we are 0.9-to-1 used to new ratio. I don't know that that's a great indication of what our potentials are.

What we look at is -- each of our individual markets, we are the dominant manufacturer within those markets. And in most cases, our frontage, which is one of the primary drivers of used cars, along with the internet, there's no question in pricing -- however, that used car drive-by, we have the prime locations in most of our markets. And to set a goal of 60 a couple years ago and now reaching that pretty closely and raising our goal to 75, we believe because of our exposure in those markets and our ability. We have probably -- what, three acres per site that we can put used cars on? At some level, you can put 250 cars on those lots and we have stores that sell over 150 units in small to medium-sized markets.

We believe it's just a matter of procurement. And that's why we focus so soundly on that middle three to eight-year-old core product and really what we call mining those vehicles. And I would say this, we are probably getting a C at that. We have plentyof stores that are A producers, there is no question. But we have plenty that are Ds as well and don't understand what it means to open up each of those channels and find that two or three cars a month that can increase your sales5%, 10% in each of those five categories. So we believe there is still plenty of opportunity in the used car arena.

And I think it's fair to say, our initial stores here in Medford -- before we grew as an organization, our stores averaged 80 to 90 used vehicles a month and mine was a 3-to-1 used to new store. So there is a lot of potential in these small and mid-sized markets. We are expanding into value auto core and certified. A we believe that there is still lots of opportunity.

And then, Chris, you commented on the financing environment earlier in the call. My question is, how would you characterize the improvement in the sub-prime financing environment? If I look at one source of data, it seems like its a creeping improvement. Yet at the same time, talking to some dealers and also some other finance sources, it seems like we may be seeing an inflection point, where we may see some acceleration in the sub-prime market. And what I'm wondering is, howwould you characterize the changes that are taking place?

Yes, Brett. I think what we -- wellright now, as a percentage of overall finance business, we have 11% of our deals going actually to the sub-prime segment. When we see normalized levels near 20%, that's when I'll feel like -- of our overall portfolio finance business -- that's when I'll feel like we are back to normalized levels. We have a long way to go in that arena still. While people are excited about what's happening, as we are, we are getting more deals financed to sub-prime customers, there is still a long way to go to where we'll see normalized levels. When you extrapolate that out on a normalized year, that can lead to 1500 additional units in a quarter, which is meaningful to a recovery.

Thank you very much, gentlemen.

Thanks.

Our next question comes from the line of Scott Stember with Sidoti & Company. Please proceed with your question.

Good morning.

Good morning, Scott.

Can you give us a sneak peek how October has looked on the new side so far?

This is Bryan, Scott. It looks on track. We are not seeing irregularities other than -- obviously there's some weather conditions in certain pockets, but it's not as challenging as -- weatherwise as we were expecting.

That's great. And maybe talk about some of the passenger care -- some of the new things that have come out. Can youtalk about whether you've seen any benefit from the Dart?

Scott, this is Bryan again. The Dart is moving. There's no question. It's starting to make a presence for Chrysler products in the low-end segment that they haven't really played in as well before. There's definitely a move in many of our areas into cars and fuel efficient vehicles. I believe Prius had their single biggest selling month last year or -- of their history, was last month. There is definitely sustainability in green initiatives and increased fuel prices that are affecting things.

In our markets, the housing starts and truck sales are back rising again and we are very pleased with what we are seeing there.

And moving back to that pick-up truck with the fuel efficient platform. I know a little too soon, but maybe you can just talk about how you have traditionally done with the V-6 platforms in trucks versus V-8s? And how much of an opportunity this could be for you guys?

If you look back four or five years ago, V-6 was a non-event. We used V-6 as an -- basically asleader pricing to attract customers at a lower price. Whereas today the V-6 is the fastest moving vehicle within Jeep products and within truck products as well as SUVs. We can't keep them on the lot. Our manufacturers have figured out how to balance horsepower and fuel efficiency. And the consumers are demanding it. And that trend is going to continue.

Scott, this is Chris. To add on to that, the average age of vehicles in the US is 10 to 11 years right now. And the truck segment, specifically, is over 13 years. Technology is in our favor right now. I think just the age in population of trucks is going to move new vehicle sales into the future, especially as we see agricultural markets recover, housing markets recover. Construction in general recover.

Okay. And just last question, last year or so your Body Shop business is really accelerating. Can you talk about the initiatives going on there? And how sustainable that is?

Absolutely, Scott. This is Bryan again. We have specific initiatives to be able to work with our DRPs, which are our insurance companies. We spend considerable amounts of time with them attracting those into our markets.

A lot of that comes from pricing, as well as service ability and getting the cars to the shop quicker. I would say this, our single biggest driver is we have 11 or 12 body shops of which about half of those we made personnel changes in 12 to 18 months ago that is now yielding the results that we needed. Additionally,a few of our body shops were taken back over by physical stores rather than run through Medford as independent businesses. And that has allowed synergies within the store and the service and parts department, which has increased business and has allowed for customers to flow easier into those departments.

Great, that's all I have. Thank you.

Thanks, Scott.

Our next question comes from the line of John Murphy of Bank of America-Merrill Lynch. Please proceed with your question.

Good morning, guys. A question in your guidance. I know you guys are building this up region by region and store by store. Just curious what your underlying SAR forecast is for the fourth quarter of this year and for next year, just on a total US basis?

John, this is Chris. If we had to extrapolate that to a SAR basis nationally, I would say 14 to 14.5 in the fourth quarter and 15 to15.5 in 2013.

Great. That's helpful. Second question, there's been a lot of noise around the stair step programs. [Natives] coming out and blasting some of the stair step programs or aggressive stair step programs that have been newer in the market. I'm curious, as you look at these stair step programs, do you view them as a negative, as a positive, or what's your approach? Obviously, Chrysler has been a big new guy in the last two years in these programs. Just trying to understand what your take is on then.

John, this is Bryan. From the ground level as a sales manager or general manager that's operating a store -- it's not a negative. What it does is it motivates you on a specific number you have to hit. And you figure out ways to hit that. And you align your staffing and marketing and inventories to make sure you hit that. It's not a negative. It's a focal point to be able to achieve manufacturer expectations, which ultimately drives to the bottom line.

Now there's also a financial decision that's made, because many times they may not be lucrative enough to be able to push the volume you need to be able to capture that. Now I think it's always fair to say, most of our stores are always going for those stair step levels and the highest levels. We know that it drives trade-ins and service and parts business.

Got you. On SG&A, obviously you are performing incredibly well there. As you look at the 75% that you mentioned to advertising and personnel costs, if you can give us examples of cost savings that you think will stick going forward? Because we are hearing from skeptics out there and you are putting up the numbers, so hard to be skeptical any more. But some skeptics think that as thesales recover on the new vehicle side, that some of this focus and cost discipline may be lost. Trying to understand what you are doing that you think will stick going forward, so we can expect this really strong 60% flow-through that you are talking about.

John, this is Chris again. No, I don't think we'll see any loss in the momentum that we have on our cost control efforts. When you dive into each individual store that we have and look at the different departments, we have opportunity across the company. And I think what we're going to see is, as we continue to push retail sales and as we continue to push gross, we will continue to leverage the model that we have.

What I mean by that is -- if you take an average store of ours that is selling 85 to 90 units a month and you grow their business 20%, that's 20 additional vehicles per month that you are adding to their production line. So that's less than one per day. I think with the management staff that we have, the office staff that we have, even with the F&I managers, across the board, they have ability to continue to increase productivity, which is going to continue to drive our leverage.

One other quick thing to add to that, we have plenty of stores within our organization, and we believe it's possible in most of our stores to do less than 60% SG&A. It's not absurd to think that there's more upside. We don't have a lot of fixed costs that are changing. Our facilities are fairly well updated. We spent some capital over the last number of years to get those upgraded. Now a matter, like Chris said, of driving productivity and driving the top end revenues, which makes it easier to be able to bring the money to the bottom line.

And John, because you're dealing with people's livelihood and dealing with people's pay plans, it's not an easy thing to fix. The first step is identify the opportunity. And we have clear metrics and clear tools that allow us to see when there's an opportunity in the store and in a position.

So the next step on that is to work on the transition of either changing a pay plan to make it more performance-based, or in some cases, move positions around in order to bring somebody new in a position that you can reset the pay expectations. That's a lot of work and a big job. Our general managers in the store are committed to get that done.

But at this point, it's fair to say you've done a lot of the heavy lifting. There is still someopportunity but a lot of the benefit is going to be just leveraging this increase in sales as we go forward?

Yes.

Okay. Next question. On leasing -- you haven't talked about that much. I know that's been relatively depressed. It's coming back a bit. Where are you on leasing in your dealerships? And where do you think that can go to support the increase in sales?

John, this Bryan. Obviously, not all manufacturers are back into leasing but many are coming back into it. We are leasing less than 15% of our new vehicles. And we believe it's another large opportunity within our markets.

I would say this, our stores are not as adept at leasing as they are with purchasing. And there's a lack of sophistication, to some extent, in the consumer-buying public as well as a lack of disposable incomes in smaller to mid-sized markets that has prevented leasing. We believe it's an opportunity and we've been working with many manufacturer captive partners to retrain our stores and expand the advantages of leasing within our stores.

But that's the kind of number that you think maybe could mix up into the low 20% range? That's where it was more normally before. Curious if you think it could get to that again?

We believe it could definitely reach the low 20s and we believe that it's a good quartile of our future growth is to expand our leasing opportunities.

And lastly, you made some mention of the GMtruck inventory and preparing for the ultimate launch in May, April of next spring. I'm just curious where you stand on your GM truck inventory, the Silverado, Sierra and the SUVs? And if there any programs that you see coming to help deal with floor plan assistance or incentives, if the inventories are too heavy as you go through the change-over you see coming from GM?

We could be proud to say that we're nine days higher day supply. Most of it comes from our General Motors trucks, okay. We believe we have the right amount to carry us through this next six months until the new product gets here. Obviously, within Texas and Alaska, where we are most centric in our Chevrolet truck sales, we had to plan ahead. And we have a lot of vehicles on the ground. Fortunately, there is a lot of land in those two states, so we can make sure that we have room to store those.

That's good. Thank you very much.

Thanks, John.

Our next question comes from the line of James Albertine with Stifel Nicolaus. Please proceed with your question.

Good morning and thanks for taking my question. I wanted to focus on the used business here, reconcile some comments that, I think if I heard them correctly -- you mentioned that the CPO business up about 33% on the year-over-over basis. Granted, it's probablyoff a low base because you did also mention that it's still a challenge. I wanted to understand how mix shifts in your mind as you start to target 75 units from your prior target of 60?

And as a follow-up to that, just in general, used pricing remains relatively high, given historical averages. And I want to understand how you are viewing pricing and margins going forward and how that plays through into your guidance? Thanks so much.

Hi, this is Bryan. In terms of our certified product, there's no question that we are coming off a low base. We look at certified as an adjunct to our new car business. It can compete to some extent with your new car business, so you have to be very careful there. We actually focus most of our attention on our core product and we look at that core product as 60% to 70% of what we do. And it's a fairly simple formula.

Certified -- it's easy to buy those cars. There are nocondition issues. You know how many miles they have, they are all typically less than 3,000 miles. Easy to buy the vehicles. Not a lot of work, just a matter of work to work with the manufacturers and make sure you are visible to your customers.

Core is the heavy lifting -- the three to eight-year-old vehicles, is very heavy lifting. It is sodifficult to find good cars and it always has been. But our best stores always seem to figure it out.

And I'll say this, the used car market has stabilized. If anything, there's a supply of vehicles in this arena more than there's been over the last two or three years, which is great for us. So that stabilizing of pricing is saying that there's more supply out there.

Core vehicle, because that's our bread and butter, that's where we'll get most of our business from to get to that -- from that 60 to 75 units. We look at it this way, when we sell a core vehicle, that we take in typically, about -- out of every three we sell, we take in one value auto car. So that core vehicle is not only a driver of a used vehicle sale, it's a driver of a value auto car, as well. So for every one we sell, we sell 1.3, which can quickly drive the numbers up to where we need to be. It seems pretty simplistic but the ability to find those cars is -- it takes very good skill and a heck of a lot of contacts to get that done.

Jamie, this is Chris and to follow-up on your question related to guidance. When you look at the gross profit margin by segment, our core gross profit margin is about 15%, certified is about 10%, and our value auto is our highest gross profit, which is just over 20%. When we look forward into the fourth quarter and into 2013, we don't anticipate a big fluctuation in the margins. And we're actually guiding at 14.3% to 14.5%. We don't see a big change, at least right now, in what we expect margins to look like next year in used.

Thanks for the detail, everyone. Congratulations and good luck.

Thanks, Jamie.

Our next question comes from the line of Joseph Edelstein with Stephens. Please proceed with your question.

Good morning, everyone. Thanks for taking my question. You've talked a lot about the potential to get the sub-prime mix back to the 20% range. I'm curious, which finance provider group do you think would lead the charge to bring you back to that level? Is it coming from the captives, from the banks, how do you see that playing out?

This is Chris. The answer to that is, yes. It's all of the above. The idea is in each market you have different lenders that represent different lines of the finance segment. And you need to have relationships with all of those. We have a broad relationship with 30, 40 lenders, but they're not in every store. It's our job to make sure that we have the right lenders in each location, particularly in that subprime segment. You see regions that have new lenders entering in the space that don't do business in other states we do business. So we need to keep our ear to the ground and keep our relationships open and find the best lenders for each of our stores.

Chris, one more thing to add on here. Joseph, the ability to grow your sub-prime is primarily dependent on your ability to find value auto cars. That is the driver. As you see our core products generate more value auto trade-ins, you'll see our sub-prime increase. And that's been a big driver as well as being able to match it with the individual dealerships.

Sure. And clearly there's opportunity, as you drive the vehicle sales, you alsoget the opportunity then in the fixed service and parts business. Do you think there's any need for any significant investment into the fixed operations, whether that may be hand-helds or other technologies to help retain customers in the service and parts lane?

This is Bryan. We have a number of stores that are experimenting and many that have stabilized on hand-helds. It's a face-to-face interaction with our customers -- that probably won't change a lot in the future. It's about that relationship and that ability to grow things. What the hand-helds can do is make it more convenient. It allows you to not break that link with your customer and have to go do other things and stay front and center in front of their car to be able to show them the benefits of the offerings that we are providing.

Great. And maybe just one last question then. The Missoula, Montana acquisition that you plan to announce later this afternoon, can you at least share what the projected revenues -- annualized revenues from that business will be?

Yes, it's somewhere in the mid $40 million range.

Great. That's very helpful. Thank you.

Our next question comes from the line of David Whiston with Morningstar. Please proceed with your question.

Good morning, guys.

Good morning, David.

First a question on brand mix. You talk about wanting to get -- to have no brand be more than 20%, but you want to reduce exposure to acquiring more brands. In terms of getting Chrysler down to 20%, it's fair to assume it would take many, many years to do, right?

That is accurate.

Okay. And for Chris or John, I'm sure you're happy with your mortgage exposure now. No maturities until 2016. In the next six to 12 months at least, are you going to take your foot off the pedal, in terms of looking to do more refis? Or do you want to keep pushing that 2016 maturity into 2017, 2018, et cetera?

This is Chris, David. We'll continue to keep our foot on the pedal and continue to work on refinancing mortgages. As we talked about, we have $86 million right now in unfinanced real estate at a 75% loan to value. A big part of our liquidity and it is something we'll manage and work through on an ongoing basis. This isn't something John will ever stop working on. And we're going to continue to move forward with extending our mortgages on a fixed rate basis forever.

Okay. And for the 2013 guidance, does that assume any kind of hiccups, especially early in the year, from say a fiscal cliff issue?

It does not.

And down the road, if you want to take on more capital to be more aggressive in the M&A space, would your preference be to raise capital equity or debt? In light of how much the stock has risen?

Good question. We have $135 million in liquidity as it stands right now. If you look at our free cash flow next year, it will be north of $50 million. Those two numbers combined give us plenty of liquidity to consummate the acquisitions that we see in the foreseeable future. If we had a major acquisition come up, at that time, we'd make a decision on whether to do a sub-debt or an equity offering. But that's not something that we'll plan this far ahead.

And is that decision made with you and Bryan? Or at the board level?

We have a capital group that meets on a biweekly basis, which contains John, Bryan, Sid and I.

That's all I have. Thanks.

Our next question comes from the line of Efraim Levy with S&P Capital IQ. Please proceed with your question.

Good morning. Can you discuss how much of your -- how much contributions to your EPS guidance you have from your financial actions, including the retirement of the mortgage debt, as well as including the acquisition in Texas?

The acquisition -- this is Chris. The acquisition in Texas or the financing decisions that we make, we don't guide that granular. So we won't give guidance on that specific level.

And I happened to notice -- it's a small thing. In your guidance you had gross margins and used vehicle gross margins that were totally unchanged, and Service, Body and Parts gross margin changed by 10 basis points. Any reason why that one moved the barrier and the others ones didn't move?

Just mix shift for us. As we talked about on used vehicles, we don't see a big change on gross profit margins. On the fixed operation side, when we continue to push our wholesale parts business and our body shop business, which are lower gross profit -- we forecast those on an individual basis and the margin falls out in the guidance that we give. So we don't guide overall as one number. We look at each individual line of business and then aggregate those to come up with what the margin will look like next year.

Thanks very much.

Mr. DeBoer, it appears we have no further questions at this time. I will turn the floor over to you for closing comments.

Thanks for joining us today and I look forward to updating you on our results in February again. Good bye.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.