Penske Automotive Group Inc (PAG) 2016 Q3 法說會逐字稿

Good afternoon ladies and gentlemen. Welcome to the Penske Automotive Group third-quarter 2016 earnings conference call. Today's call is being recorded and will be available for replay approximately one hour after the completion of the call through November 2, 2016 on the Company's website under the Investor Relations tab at www.penskeautomotive.com.

I will now introduce Tony Pordon, the Company's Executive Vice President of Investor Relations and Corporate Development. Sir, please go ahead.

Thank you, Justin, and good afternoon everyone. A press release detailing Penske Automotive Group's third-quarter 2016 financial results was issued this morning and is posted on our website along with the presentation designed to assist you in understanding our performance.

Joining me for today's call are Roger Penske our Chairman; JD Carlson our Chief Financial Officer, and Shelley Hulgrave, our Controller.

On this call, we will be discussing certain non-GAAP financial measures such as earnings before interest, taxes, depreciation and amortization, or EBITDA. We have reconciled these measures in this morning's press release and investor presentation which is available on our website to the most directly comparable GAAP measures.

Also, we may make forward-looking statements about our operations. Our actual results may vary because of risks and uncertainties outlined in today's press release which may cause the actual results to differ materially from expectations. I direct you to our SEC filings, including our Form 10-K, for additional discussion and factors that could cause results to differ materially.

I will now turn the call over to Roger Penske.

Thank you, Tony. Good afternoon, everyone, and thank you for joining us today. I am pleased to report a record third quarter for Penske Automotive Group, clearly demonstrating the overall strength of our transportation services model.

In the third quarter, income from continuing operations increased 1% to $87.4 million and related earnings per share increased 7.3% to $1.03. Our third-quarter results were achieved despite the year-over-year decline in currency rates mainly driven by the UK pound. Excluding foreign exchange, income from continuing operations increased 8% and earnings per share increased 15% to $1.10. During the third quarter, our Board of Directors increased the dividend to $0.29 per share, offering the PAG shareholders a current yield of approximately 2.6%, the highest in the automotive retail space.

We also took several steps to grow our business while continuing to diversify. As previously discussed, we acquired an additional 14.4% interest in Penske Truck Leasing and now on 23.4%. We expect PTL to provide $0.25 per share of accretion on an annual basis and generate a 30% to 35% cash-on-cash return from dividends and tax benefits we expect to receive.

In the third quarter, the PTL additional investment provided approximately $0.07 net benefit to EPS.

In July, we acquired 12 dealerships in the UK which are expected to generate $250 million in annualized revenue. In October, we expanded our Italy business with six dealerships, adding approximately $200 million in annualized revenues.

We are now the largest BMW, Audi and Porsche dealer in Italy. Our business in Italy is expected to generate approximately $600 million in revenue on an annual basis.

Let me now turn to the details of our third-quarter performance. Revenue increased 3.9% to $5.2 billion. Excluding foreign exchange, revenue increased 9.7%. Our same-store retail revenue declined 2%. However, excluding foreign exchange, our same-store retail revenue increased 4.1%. Approximately 93% of our total revenue is generated through our auto retail automotive dealerships. Our total revenue mix was: North America, 60%; international, 40%.

During the quarter 75% of our net income was derived from automotive retail, 6% from our North American commercial truck dealerships, and 19% from other, which included Penske Truck Leasing, Australia and our other nonautomotive joint venture investments.

SG&A and flow-through was negatively impacted by changes in foreign exchange rates in the third quarter. When excluding the foreign exchange, gross profit flow-through would have been approximately 11%.

Turning to our Q3 automotive retail business, automotive retail revenue increased 4.1% to $4.8 billion. Exchange rates negatively impacted same-store retail automotive revenue by $265 million. Excluding foreign exchange, same-store retail automotive revenue increased 4.1%.

Same-store variable gross profit per unit -- that's gross profit from new vehicles, used vehicles and F&I -- declined $123 a unit to $3,364. However, excluding the impact of foreign exchange, same-store variable gross profit increased $90 to $3,577.

Turning to new vehicles, new vehicle units retail increased 8.1%. Same-store units increased 0.4%. Gross profit per new unit retail was $2,691. Excluding foreign exchange, gross profit for new unit retail was $2,858, a decline of $58 per unit. Gross profit per unit in the US, however, increased $52. Gross margin declined 20 basis points to 7.3%. Our supply of new vehicles were 53 days at the end of September.

Used units retailed increased 2.9% to 52,500. Same store used units declined 1.1%. CPO sales represented approximately 40% of our used unit sales in the US during the third quarter. Used vehicle revenue increased 3.3% to $1.44 billion. Gross profit per unit used retail was $1,592. Excluding foreign exchange, gross profit per used unit retail was $1,692 plus $40 per unit. Gross profit in the used unit in the US increased $179. Gross margin was 5.8%, down 20 basis points. Our supply of used vehicles was 41 days at September 30.

Finance and Insurance revenue per unit was $1,088. Excluding foreign exchange, F&I revenue per unit was $1,156, up $58 per unit. Service and parts revenue increased 6.2% including, 1.8% on a same-store basis. Excluding foreign exchange, same-store service and parts increased 6.2%.

Customer pay was up 7.2%, our warranty was up 4.6%, our body shop was up 3.1%, and our pre-delivery inspection up 4.2%, again, for a total of 6.2%.

Turning to the retail commercial truck business, in the third quarter, our dealerships generated $266 million in revenue and $38 million in gross profits. Heavy-duty truck sales are being impacted by a decline in the North American Class 8 heavy-duty truck market caused by softer freight demand, excess capacity, which is causing some level of deflating to occur.

The good news is that our service and parts business represents approximately 31% of our revenue and 78.5% of our gross profit. Gross margin from service and parts improved 60 basis points to 36.8%. The fixed cost absorption ratio was 122% in the third quarter and our return on sales was 3.2%.

Turning to the balance sheet, we had $89 million of cash on our balance sheet at the end of September and our non-vehicle debt was approximately $1.9 billion. Debt to total capitalization was 51% as of September 30. Our leverage ratio was 2.8 times, and we had over $700 million in liquidity. New and used automotive inventory was $2.8 billion at the end of September, down $143 million from the end of December. On a same-store basis, new and used inventory was down $223 million from the end of December, new inventory down $232 million, and our used up slightly at $9 million. Approximately $41 million of our US inventory is currently on OEM stop-sale, representing approximately 1,600 vehicles -- 488 new vehicles at $21 million, 1,104 vehicles for $19 million on the used side. Only minimal amounts of inventory are on stop-sale in our international markets.

Turning to capital expenditures, they were approximately $171 million year-to-date, which include $32 million of land purchases and a lease buyout we replaced with a mortgage.

Before opening up the call for questions, I wanted to provide a quick update regarding Brexit. Obviously, there continues to be a lot of questions regarding the effect of this vote on our business. While this is an unprecedented event, we remain positive and encouraged about our business in the UK and really throughout Europe. We have a very strong and experienced management team on the ground in the UK.

New and used same-store units retail increased 7% in the third quarter and, on a same-store retail revenue basis at local currency, increased 12%. And the UK posted record profitability in the third quarter. Our business is 95% premium luxury in the UK, and that segment continues to take market share. Order intake remains strong in October.

UK like vehicle sales are over 50% company cars. These vehicles are typically on a three-year personal contract purchase, which is very similar to a lease, and provide for continuous replacement demand in the market. We buy and sell in British pounds with revenue and expenses dominated in British pounds.

We have a natural hedge. Our exposures are essentially limited to a translation of UK results into US dollars. Based on our full-year results in 2015, if we translated the UK results into US dollars using the current rate of the pound at $1.22, we would anticipate the effect on revenue to be approximately $1.2 billion to $1.3 billion. The estimate of the effect on EPS would be approximately $0.25 to $0.30.

In closing, we're very pleased with the performance of our business and continue to believe that our diversification strategy, the strength of our business model, and its ability to adapt to market conditions is certainly important. We are very positive about the acquisition completed over the last 90 days, further diversifying our business. In particular, the accretion from the PTL investment should more than offset the EPS effect from the translation adjustment we expect from Brexit, while the expected cash tax benefits will provide further opportunities, and expect a 30% to 35% cash-on-cash return.

Continued sales across UK, US and UK auto markets, coupled with our diversification, should continue to help differentiate our business from others.

Thanks for joining us on the call today. Let's open it up for questions. Thank you.

(Operator Instructions). James Albertine, Consumer Edge.

Just to follow on to your last comment on the UK, it sounds like, from the ground, you're not seeing any major changes since the Brexit vote. But given your relationships with the manufacturers, I was just wondering what you're hearing from that side of the aisle as to how they are planning for potential ramifications from Brexit. Thanks.

Well, I think we've got to go back, Jamie. Tony and I took a look at pricing over the last four to five years. And typically the European EU imports that have come into the marketplace have been increased approximately 1% per year. So there has been some escalation of pricing, which has been into the model. And when you think the premium luxury now is at 29% of the market, up 8% to 9% over the last six or seven years, it has had no impact. And in fact, Jag Land Rover in the UK has been increasing prices anywhere from 2% to 2.5%. So I think that there's going to be some sense of a quality when we look at what's going to happen because you've got approximately 900,000 vehicles that were exported out of the UK into the EU and you had about 800,000 vehicles that were exported from Germany into the UK. So, I'm assuming that both of them want to maintain that business.

Now, interestingly enough, last night, Trevor Finn from Pendragon put out a press release that said despite significant commentary on the potential net impact of the EU referendum, we have not experienced any noticeable change in our customers' behavior. Our like-for-like group sales grew 5.7% in Q3 and, from my perspective, with ours up 6.9%.

Then they went on to say that also they had talked to car manufacturers and they don't feel there will be any material effect as far as price increases to the consumer. So, that's from a third party, not from us. But generally, the business seems to be in pretty good shape. And when you look at our business for the first or 20 or 25 days in October, we are up, on an average, double-digit, both new and used. So we don't see anything at the moment. It's hard for me to project out six, eight, 10 or 12 months, but I think this balance of export-import will play a big role, especially on the premium luxury side. I think the loyalty in premium luxury probably is stronger and it will be less impact up at the higher level than it would be in the volume in foreign and some of the higher volume brands, that would be my position.

That's very helpful. Thank you for that color. And if I may just ask a follow-up as it relates to the US businesses. Just getting your opinion on where we are in the off-lease cycle and maybe some updates as it relates to you're seeing sort of retention rates among your luxury dealerships relative to your customer retention rates in some of the volume in foreign dealerships. Just kind of help us understand the cushion or the resiliency, if you will, at luxury relative to volume in foreign. Thanks.

Well, I think one thing that we should look at, we had, in the luxury brands, probably about 55% was leased. Overall, I think we were around 40%, Tony, if I am correct.

That's right.

We are seeing a lot of cars coming off lease. We had almost 10,000 coming out of BMW. That's going to grow slightly next year. We think that's good because the manufacturers have to mark these to market. There will be some hits that they'll take because, as you've seen the shift from cars to SUVs, the cars have taken probably a bigger hit on residual guidance. So when they wrote these leases 27 or 36 months previously, they probably have to take some impact. But they are going to provide us with very good used cars. They give us the ability to certify those. They give us special rates. And to me, that's given our ability to keep growing our used to new ratio. So, to me, I think the benefit we have is that we have already started to receive those vehicles during the last I'd say 12 months, and our teams have committed to grow the used-car business.

And when I look at some of the brands, the used-car profitability is really strong. You can see that, in the US, our used-car gross profit was up $179 in the quarter and that's across all, brands. So we see this as a way to get vehicles that will be really cars that we have sold, at least in the past. They are offered to us first before they could auction. Typically, we know these cars. We have the service records in-house on those. It will give us a chance to be able to take those and certify them and put them into the used market.

So, overall, I think that it's important to know that the leasing is done, most of it, through the captives, which makes a big difference. So we get them to give us those vehicles back and now they have some leasing programs even on the cars that they've leased and will release to our used-car customers.

Great. Thanks again for taking the questions and best of luck in the next quarter.

John Murphy, Bank of America Merrill Lynch.

A couple of questions. First, on the gross profit per unit in the US up $52, I'm just curious what you think is driving that, because we're hearing from a lot of other dealers that we are sort of revisiting this pressure on gross profit per unit on a dollar basis, but you had very good performance there.

Well, I have to say I hope it's you know -- the guys are managing the business. I mean we have tools in place and manage gross profit on a car-by-car basis so we don't wait until the end of the month and then report to you or the end of the quarter where our GP was.

I think that, you know, there have been some stairstep programs. We've been able to meet the requirements from the standpoint of the OEMs to meet these stairsteps in some of the BPOs, or business plan objectives. But also, we are focusing in on gross. I think the guys have done a great job.

And we track -- you know our compensation is based on gross profits. So as the salespeople remove the gross and it goes down, they're going to see less comp in their paycheck, which certainly is a driving factor.

But overall, the premium side, we see some mixes. We'll see it maybe up -- Porsche up at Land Rover and we might be down at Audi right now. But across the board, it's been pretty steady.

And I really was happy with the increase on the used side. And there's no question that we've got a better mix of SUVs now than we had in the first part of the year because BMW is really behind on the mix, so those we're getting obviously a better gross profit.

And just actually a follow-up on that crossover comment. What is the mix that you're roughly selling at? And I would imagine these crossovers, these luxury brands, could easily get to 50% to 60% if they could supply it. I'm just curious where they are right now and where you see that opportunity going.

Well, let me just -- let me take a snapshot I looked at yesterday on the West Coast. I looked at Audi, I looked at Lexus, Mercedes and BMW. And if you exclude BMW, the SUVs go anywhere from 41% to 47%, and BMW is down in the 30%s. So, there's a big mix there, a shift that has to take place. And we have told BMW that they have got to get this mix shift. So we are almost at 50% today.

And then if you look at on the domestic side and you look at trucks obviously, it's over -- it's 55% I think overall.

Okay, that's helpful. And then just on the Penske Truck Leasing, or PTL, equity income, it was very strong in the quarter. This is I guess sort of direct evidence the diversification is definitively helping your bottom line and cash flow. Are there other opportunities there, either through PTL or other equity income investments, that you think might bolster that would help diversify the business further over time, or sort of the landscape as we see it right now, the footprint you are going to keep going after?

Well, I would think, from another investment, we would look first at increasing our ownership in PTL. I mean, today I think you see it in the slides that Tony prepared. We have, at Penske Corp., I think 41%, PAG now at 25%, and I think that Mitsui has about 20%. So GE still has 15%, and I would think that the focus would be to balance automotive truck retail acquisitions with taking more of Penske Truck Leasing because we know the management, we don't have to build any buildings, no CapEx, no people, and we know the profitability of the company. And I think that GE, as they want to continue to delever their non-core assets, it gives us a real opportunity to buy the balance. And we've indicated to them that we want to do that but we want to be smart on capital available and just what the market is doing. But to me, that's certainly a potential opportunity.

Okay, that's great. And then just lastly, real quick, there's been some share purchases by Penske Corp. I think there are some real questions that we get from investors as to what the motivations are. Would you ever take PAG private or is this kind of slow-motion privatization. I just sort of want to understand the rationale there and really what's going on.

Well, let me say this. I was, I read some -- when I was buying the stock, it was absolutely -- it was Penske Corp., you know, the parent of PAG. Certainly, I am the largest shareholder at Penske Corp., so I've got a definite interest.

You know, we had a liquidity event which generated several hundred million dollars worth of capital for us. And when we looked to see where we wanted to redeploy that, obviously PAG was a stock we wanted to buy. So, it was certainly an opportunity for us, and we'll continue to look at it opportunistically, if we can, and have the capital available. But I don't think, right now, I'd be making a statement we are taking it private.

Okay, great. Thank you very much.

Rick Nelson, Stephens.

(multiple speakers) A question here, Roger, of the market plateaus in the US and the UK. Your business model is quite a bit different than the others. What do you see as the major growth levers to drive growth in a flat environment?

Well, I think you've got a look at the total mix of our business. Certainly, used cars, you know, when we go back to the financial crisis, what happened? The used car business grew. And I think, from our perspective, we've learned to be pretty good used car retailers, not only our sales but some of the other -- our peers are in that business. We see that as a continued opportunity. We've talked about the off-lease vehicles coming back. You know that's key.

One of the things that's really important is we have the ability to continue to make acquisitions in the international markets on the auto side. Certainly, the parts and service, which continue to grow, we think that's going to be probably mid- to single-digit growth over the next two or three years because the car park has continued to grow not only domestically but internationally.

And then we have the benefit -- I said earlier in my prepared comments that the fixed coverage in our truck business was 112%. That meant we covered our fixed expenses by 112% of the parts and service gross profit. And we see that continuing to grow.

And then we have our business in Australia. Again, I said the truck market was fairly flat. We are probably a little better than a breakeven there. But on the power systems side, we see some defense business which is going to grow in our favor and also some power generation. And we just got a big order from Rio Tinto, the big iron and coal people out in Australia, for repowering big mine haul trucks. We got an order for 77, and they run anywhere between $600,000 and $700,000 a piece, each one of those repowers. So, that's all in front of us.

And there was a tender for submarines in Australia between the French, the Germans and the Japanese, and the French were able to secure that business. Now, that won't come in until 2020 or 2021, but the engines in those submarines will be built by us through our joint venture with Rolls-Royce MTU. So, that will give us the chance to assemble those engines from CKDs, install them in the vessels, and then have the parts and service opportunity in the future. So, these are things that I think really differentiate us on a longer-term basis. The international piece, the power systems obviously, and the commercial vehicles, so I would take all of those together. We expect to grow the business in 2017.

Thanks for that color, Roger. You mentioned earlier PTL and the potential to take down more chunks of that business. What did PTL contribute to EPS this past quarter?

I think I said earlier it was approximately $0.07 net after interest and costs associated with that purchase.

Okay, so that offset the FX change.

Tony just said that $0.07 was additional to what we normally would get because we owned 9% of that before.

Got you. Okay. Thanks very much and good luck.

Brian Sponheimer, Gabelli & Co.

Just to stay with the acquisition idea, with PTL, you obviously understand asset management. Would there ever be an idea to potentially get into something a little bit different like equipment rental or something along those lines?

We looked at equipment rental, I had a real good chance to look at it when I bought the Hertz truck division back in the 1980s I guess it was. And I set at meetings because they had Hertz equipment rental. And we looked at that. I don't see that. That's kind of an up-and-down business. Some people have made it probably quite profitable, but I think we want to have contractual obligations on our equipment.

And when you look at PTL, 75% to 80% of all of our income stream comes from contracts either three to five to six years either in logistics and/or in truck leasing, and the only variable piece is rental. And I wouldn't want to have any greater percentage of that on the rental side. So, I would say that our goal would be to get more of what we already have because we know the business so well.

Okay, all right. Thank you very much. And then just going to the commercial truck dealership side of the house, obviously, used truck prices were soft for you in the quarter. That's going to affect some of your fleet buyers' decisions. What are the conversations that your dealers are having now with those fleet owners regarding vehicle dispositions?

Well, let me say this. Let's just go back. We go back to 300,000 plus new trucks being sold, maybe averaging 300,000 over the last couple of years. So the fleets were all needing equipment. And they've topped off and maybe there's 150,000 tractors excess right now we kind of think with the information we have. So that's put a downward pressure on new trucks sales. And when that happens, they are also trying to defleet to a certain extent, so we're having downward pressure on used trucks.

And what I'm seeing, in fact I talked to Rusty Rush from Rush Truck Centers here over the weekend, and he said he thinks it's going to take about 18 months to have the book values meet market values. And in the past three or four or five years, the big fleets have sold their units privately, not trading them, not giving them to the dealers.

Well, of course, we can see the pressure already in our Premier Truck Group where people want to trade trucks now. And obviously, they want higher values than they are worth. So there's a little bit of an adjustment going to take place. We've lost money on most of the trucks that we've had to sell. We made some money on our financing through commitments that we've had. But we have about 400,000 trucks in stock. We sold 200,000 in the quarter used. So we're in pretty good shape.

The other thing is if they have to run the trucks longer, that is going to give us more parts and service opportunity, which obviously is high margin. But the bottom line is there is downward pressure on margins on used trucks, and I think that people will extend the life -- the trucks are so good now that we run our trucks five to six years in Penske Truck Leasing and Logistics where most of the carriers run maybe three to four years because they are running more mileage. So, I think they'll push it out probably another 12 to 18 months, which will help their market value and their book value. But I think we'll have to see that, but definite pressure downward because of the over-fleeting.

Okay. Thank you very much.

Paresh Jain, Morgan Stanley.

I just had one broad question on the strategy front actually. So, you always called yourself a transportation services company but, in the last 24 months, we are kind of seeing this acceleration in diversification, if you will. With the remaining PTL stake and the ramping commercial vehicle business, I don't think it's unreasonable to think that, five years down the line, light vehicles could be as low as 60% or maybe even 50% of your pretax. So I'm trying to better understand the motivation of having so many businesses. Is it to ensure a more stable dividend, hoping that these different businesses don't trough at the same time? Or perhaps you want to hedge any potential disruption to light vehicle business from shared mobility. Or maybe it's a combination of a couple of these things. It would be great to get your thoughts on why we've seen this diversification activity in the last two years.

Well, diversification is certainly -- it would be the foundation of our mission plan here. I mean our core business today, I think we mentioned earlier on, the biggest part of our revenue today is coming from retail automotive. And I think you've got to think about some of that diversification has been domestic to international, which today is 60/40.

There's no question that our move into the Premier Truck Freightliner retail business was driven because of some of the multiples and goodwill requirements we had on the auto side. And as we grew to the size we are, it's tougher and tougher to find good acquisitions at reasonable prices. And we felt, because of our truck knowledge, a good place to go would be to Freightliner. And they wanted to reduce the number of owners and really asked us to come in and take a look at this business and applauded us as we got in and wanted to move forward.

So, I think that our capital allocation will continue to be -- to build that business, and also the fact that we are probably the largest -- I don't think practically -- we are the largest commercial truck fleet in the country, that it gives us probably a breadth of knowledge of how to run these and how to manage them and sell them that we then continue to invest in Truck Leasing. I think it's the two businesses.

Plus, when you think about the fact that it's a partnership on the PTL side, we get the benefit of the accelerated depreciation and the tax savings which is -- these are normal tax savings that can go forward I think 10 years and back to, if I am correct, somewhere in that particular area. We get the benefit of the taxes.

So, when you put it together, you've got one company that is very profitable and is a taxpayer, and the other company is generating these taxes. You put them together, plus they are in similar markets, meaning truck and service, I think it gives us a mission that's pretty clear to me now.

The question, how much do we do internationally and how much to me do we do domestically?

And then when you think about mobility, we might be talking five years from now that we have 500,000 vehicles in our Penske automotive fleet that we are managing because we have all of these service locations across the country. You know we have almost 3,000 in Penske Truck Leasing between our agents and our own captive shops, so that will give us an additional opportunity to take advantage of our scale and also our expertise because today, you know, in our businesses, we are managing the corporate fleet for Chrysler, the corporate fleet for General Motors, so we have some of this capability already in place, so putting that all together will give us I think a competitive advantage.

That's interesting color, especially on the fleet management side. Just a quick follow-up on the UK business. It is obviously too early to determine any impact from Brexit and volumes and gross profit per unit. But if and when volumes do fall, do you expect to continue outpacing the market like you have in the last two or three years? And how quickly can you just your cost base there?

Well, I think you've got to go back. I think it was 2003 when we bought that business. We were $900 million in revenue US, and today we'll be over $6 billion. So, we've been able to grow market share substantially. When you look at where we are -- and the nice thing in the UK is you have market areas. So, we don't have a bunch of contiguous competitors. We have particular markets by brand where they actually applaud us to have them contiguously, which helps us maintain gross profit.

But look, if there's -- certainly, if there's pressure, I think that, you go back to 2008, it took us about six months to adjust, and I think we had one quarter that we had a loss. So with the reoccurring revenue stream and the size of our parts and service growth, the only thing in the UK which is -- I don't want to say it's troubling but we don't get the margin on parts and service there because they don't let us mark the parts up over there like they do over here. So that's a little bit of a negative, but still it's a great recurring revenue stream. And we have the ability, in these cases, if we've got to downsize our people, we would have to do that. But I think that we want to be on a growth pattern.

And many times -- think about when you look at Western Europe today. Our advantage today is we have capital going into those markets of Germany, Italy and Spain where people just don't want to invest in the auto business. We have the capital. We're able to buy these businesses at very low multiples. I would hope that we're in the same position to go in and maybe buy things that are underperforming and undervalued if we did have a downturn. So I see that maybe as an opportunity to go fishing really.

Got it. Thank you.

Bill Armstrong, CL King & Associates.

Just to follow-up on a comment that you just made, Roger, on the parts and service margins in the UK, overall, the parts and service margins were down year-over-year. Is that because of growth in the UK, or were there other factors involved as well?

Well, we have less parts and service markup. I think, when you looked at Germany, Jacobs has come in now into our numbers and they have a much lower markup on their parts. And certainly, we had an issue, not an issue, we had a large warranty pickup in the third quarter last year with Lexus and BMW. And those of course have moved on and the warranty things we have today are much smaller numbers, which have made a difference. So, the shift has been more from warranty into customer labor.

In the US.

In the US, yes.

Margin was flat in the UK.

Yes.

Okay, I see. And on used, used GP in the US up $179, that was a pretty strong performance, especially compared to the other public dealers that have reported so far. What do you see going on there and is this driving that kind of performance?

Well, I think I said earlier I think it's focus on gross. And one of the things that we've done in the premium luxury side, we really have -- I say we've invented. We have a second channel, which is young used cars.

We've decided that, because of CSI requirements, we probably have at one of our premium brands maybe almost 3,000 loaner cars. But we've decided to turn those quicker and we get benefits for putting them in either demonstrated loan or we get a discount and then we depreciate those for two or three months. If we've got a vehicle that we can lease to a customer $60 or $70 less than a new one, they get all of the warranties and everything else with it. So we found that to be quite good for us from an offense perspective, and we've seen that be very successful in the premium side. And our CPO business is up also.

Okay, got it. And my last question on the equity income obviously was up a lot and I recognized the PTL investment. Were there any other items in there that increased that number so much, or was that really just the PTL investment?

I would say we also had a benefit in Japan and we have a 49% ownership in the BMW business there. That was strong for the month. We also, our Penske Vehicle Services, which is the company that does the work, I mentioned earlier does the fleets for Chrysler and GM, that business had a very good quarter.

So, to me, Japan started in the first quarter of 2016. We think that's going to be a real benefit to us. We have BMW, Mini, Ferrari and Rolls-Royce and Yokahama.

Got it. Okay. Thank you.

David Lim, Wells Fargo.

Can you, Roger, talk about the inventory levels in the industry? Is it where you had ideally wanted to be? And if not, are you hearing anything from the OEMs? Obviously, some OEMs are doing a better job managing that than others. But how is it from a retail standpoint?

Well, when you look at inventory, I think there's a mix shift going on from cars to SUVs, point number one. And when we look at our business, remember, we were loaded up with premium luxuries. At the end of the year, we had a 68-day supply, and that's come down now to 53 days at the end of September, and our premium luxury is down almost $250 million.

So, I think we've done a good job. I told our guys, look, if we see an interest rate go up, we've got to be sure we've got our inventory down, and I think there's been some very good discipline there.

Buying in foreign is up slightly. We had been short of Toyota and Honda. That seems to have picked up.

There's I think some discipline even talking to Audi. Scott Keogh at Audi, he said we will start to feel that that's going to tighten up. So I think it's taken time because, with China slowing down, there was a big push to the US, and I think everybody was pushing cars into our market. And as we got filled up in our inventories and of course wanting more incentives and the incentive has gone up, I think they find out that they are better off to reduce them.

Now, I don't know where we're going to end up as we end up here in the third quarter. But mix is still an issue. I think that's the biggest thing I would say. I talked to some people at Lexus and they said we just need more SUVs. And it's the same thing I know at BMW, but they expect to have that corrected as we go into Q1.

And then on the acquisition front, are you still looking -- is the UK still looking a target-rich environment where you can make some acquisitions and get really outstanding returns? Or is it really, as you mentioned earlier, is it truly the focus that, at least in the near term, on increasing your PTL investment?

Look, PTL is -- I guess would be -- it's at the top of the list along with anything on the international piece and also on the truck side. It's really a balance. We'd like to do PTL sooner, but it's a bigger amount. And as someone asked the question before, what are we going to look like you know three or four years from now, we're still going to be an automotive retail company that has these other businesses.

But, from my perspective, look, we have to look at it opportunistically. And it seems to me that pricing internationally still is a lot better than it is in the upside because of the consolidation on our side from a financing standpoint from certainly the F&I products we sell, our ability to glue on some of these brands really -- with really no back-office increases make a huge difference.

And I think, overall, the business is still strong from acquisitions here in the US. They are just more expensive. And we have a pipeline today not only in the US but also internationally.

And then we also have to look is there any used car opportunities for us as we start to see the used car business going to be continuing to grow because of all these off-lease cars coming in? Do we have any opportunities there?

Got you, got you. Great. Thank you so much.

David Whiston, Morningstar.

Not being a truck expert, could you just go into a little more detail on what's causing the big swings, unfavorable swings, in used truck profitability?

Let's -- remember, if you look at a chart that shows heavy-duty Class 8 truck sales, they've I think peaked at over 300,000 and they're going to be roughly 220,000 this year, so a significant drop. Typically, these ups and downs are done because of emission changes in the architecture of the truck. We don't have it at this point.

But for the last three or four years, all the fleets were short of trucks. And inventory now has kind of leveled out. So, the demand has slowed down. And as these fleets have been able to buy the trucks they need, they've found that maybe there's now some excess. We've seen that because our rental business today, 50% is to our lease customers and 50% is to outside customers, and a lot of those are carriers that need extra trucks. Most of those trucks have come back and we have reduced our fleet.

So what is happening is, as these carriers now find that maybe they're not getting the operating ratio they want because of excess equipment, they want to put it on the market, well, they are finding that the market is lower than their book value and it's going to take probably another, say, 12 to 18 months for them to be able to continue to run the trucks to reduce the book value to meet the market or take a loss depending on where they are in their cycle.

So to me, there's downward pressure on used trucks.

And then I think I mentioned earlier Rusty Rush from Rush Truck Centers thought it would take probably about 18 months to see the book value is equal to the market. The good news for us on the PTL side is that we run our trucks from five to six years, so we've got much less depreciation in balance when we get to the end of our leases.

Now, on the Premier Truck side, we definitely are feeling the used truck price deterioration because we make commitments on certain trades and the market has dropped on those. So if you look at our numbers, we're taking a loss on some of those trucks. The good news is, in that business, we've got 112% of our fixed costs covered by our parts and service gross, and so we have other leverage there which still gave us in the quarter a 3% return on sales, which -- 3.2%, -- which is better than the auto side.

So, I think it's going to be -- take some time to level out, but as you run these trucks longer, there's going to be more parts and service business. So we as the service providers are going to get some benefit out of that.

Well, thank you for all that detail. I appreciate it. Can you also talk on your capital allocation how much buyback spending you did in Q3 and your expectations for any buybacks in fourth quarter?

We didn't do any buyback in Q3.

Okay. Do you want to comment on expectations for the rest of the year or just (multiple speakers)

We would typically buy -- we have some stock compensation which comes up each year, and we take a look at that and would typically probably make some purchases. I think we have about $30 million left available on our ability given by the Board to buy back stock.

Okay. My last question is on the brand-new unveiling of the Mercedes X Class midsize pickup. It was just curious given your expertise in the premium segment, if you think, one, is there a market for that type of customer in Continental Europe? And then also Daimler said they are not bringing it into the US for now. Do you think there are Americans that would want the truck?

I guess it might be a good truck for Beverly Hills, right? I don't know. That's going to be an interesting one. I think they're getting that benefit -- that's going to be part of a Nissan joint venture that they have that they are doing on smart car and some of the other cars. I really can't comment. We'll have it in the UK obviously at some point but, no, it's a further extension -- there's a market out there. Now, how many, it's hard to say.

Okay. Thank you so much.

Michael Montani, Evercore.

I just wanted to ask if I could, Roger, you've mentioned in the past 10% as being kind of a topline goal, and actually it's proved pretty present this year. It was kind of 5% acquisitions and 5% organic. So, I guess the question I wanted to ask is how you're thinking about that into next year given kind of plateau-ing US and then obviously the potential impact from Brexit?

Well, I think we said that Brexit will be probably $1.1 billion to $1.2 billion, so that would be a 5% impact on $20 billion roughly. And I think the acquisition target certainly will still be there. And you might see more on acquisition than you would growth because of the impact of Brexit.

Okay, understood. And I guess, if I could, is there a certain leverage level that you would say is the ideal level where you would look to buy the remainder of PTL? Do you need to be 2.2 or lower or could you kind of do that deal at 2.5? How would you think about that?

That is something we're looking at. Again, I said earlier, we'd like to rush and buy the rest of it but we have to look at that just -- you know, what are the markets. And to me, we want to keep our debt to capital in line. We're sitting now at 51%, and I think our leverage is, what, 2.8 times right now. We could go higher.

We have to concern ourselves with our credit rating. So we need to be talking to the agencies, which we would do, to be sure that we have plenty of room. And there's no question today that, on our covenants, we have from room and we have liquidity of about $700 million when you look at our bank sources.

Okay, great. And then just the last thing I had, one was a quick housekeeping thing, which was how to think about CapEx needs for the next couple of years. And then on the UK side, I was backing into some level of gross profit pressure per unit like possibly high single-digit type levels. I was wondering, Roger, if you could just talk about how that compares to recent trend and what might be driving that, if there is something that is sort of temporal that would course correct in the next quarter?

Someone asked me today about grosses in the UK. We were under some pressure on gross profit in BMW and Audi particularly, so we were down. But the JLR, Porsche, our specialist area was up. So you are going to see those things back and forth. We do know that, with the brands that have a higher volume, luxury brands in the UK, we've got pretty much a six-month target and will have some benefit to claw some of that back we hope at the end of the year.

But when you look at the margin, just the front-end margin, without the finance and insurance, we showed a negative number but, in some cases, we picked up some of that back up through our finance product, which we think will help us as we go into the fourth quarter.

It's a management, and to me, we maintained our market share there and we have these targets. That's a little different than you have here. We have targets that we have to hit. Over here, they'll put a target in one month and it will be something different the next month. Over at international, you pretty much have an annual target and they chop it up quarter by quarter that you have to meet. And then of course there are some benefits when you hit them, and sometimes there's a carryover.

From a CapEx perspective, we've been spending somewhere between $125 million and $200 million on CapEx. Now, some of that we are buying land. Some of it, we're buying out some leases where we want to own the property. But I would say that we are probably going to be 150% to 160% of our depreciation and amortization pretty consistently if you look at your CapEx. And that would include our maintenance CapEx.

Got it. Thank you very much.

And there are no further questions here in queue for us.

All right. Thank you very much, Derek. We'll talk everybody next month -- next quarter. Thank you.

Ladies and gentlemen, that does conclude the conference for this afternoon. We thank you very much for your participation and for using our Executive Teleconference service. You may now go ahead and disconnect.