Sonic Automotive Inc (SAH) 2006 Q4 法說會逐字稿

Good morning, and welcome to the Sonic Automotive fourth quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and answer period. [OPERATOR INSTRUCTIONS] As a reminder, ladies and gentlemen, this call is being recorded today, Tuesday, February 27, 2007.

Presentation materials, which management will be reviewing on the conference call, can be accessed on the Company's website at www.sonicautomotive.com by clicking on the For Investors tab and choosing Webcasts and Presentations on the left side of the monitor.

At this time, I would like to refer to the Safe Harbor statement under the Private Securities Litigation and Reform Act of 1995. During this conference call, management may discuss financial projections, information or expectations about the Company's products or markets or otherwise make statements about the future. Such statements are forward-looking statements and are subject to a number of risks and uncertainties that could cause actual results to differ materially from the statements made. These risks and uncertainties are detailed in the Company's filings with the Securities and Exchange Commission.

Thank you. I would now like to introduce Mr. Jeff Rachor, President and Chief Operating Officer of Sonic Automotive. Mr. Rachor, you may begin your conference.

Good morning, ladies and gentlemen. Welcome to Sonic Automotive's fourth quarter 2006 conference call. Joining me on the call today are the Company's Vice Chairman and Chief Strategic Officer, Mr. Scott Smith, and our Chief Financial Officer, Mr. Dave Cosper.

The presentation material for this call is posted to our website, www.sonicautomotive.com and can be accessed by clicking on the For Investors tab and choosing Webcasts and Presentations on the left side of your screen. Our comments today will be linked to the slides on this site. Next slide, please.

This morning, I'm extremely pleased to announce that the fourth quarter of 2006 capped off a very successful year for Sonic Automotive. We have accomplished our operating objectives despite a significantly slower acquisition phase than articulated at the beginning of the year, interest rate headwinds and a very competitive new vehicle environment. Our ability to execute our strategic initiatives allowed us to expand our same-store revenue while maintaining overall margin and reducing expenses. Our inventory is in great shape. And we finished the year with a debt-to-total capital ratio of 39.5%. We'll go into more detail on these items later in the presentation. Please turn to the next slide.

Total revenues increased 6.5%. This increase was primarily driven by same-store growth across all retail business units. Our gross profit was up $19 million or 6.6%, and overall gross margin was relatively flat at 15.6%.

I'm pleased to announce that we improved our SG&A performance again this quarter by an impressive 80 basis points. Our SG&A, as a percentage of gross profit, ended the quarter at 73.9%. For the full year, excluding the charges taken in the second quarter, SG&A was 75.1%, a decline of 100 basis points from 2005.

Interest expense was up as we continued to absorb the year-over-year increase in interest rates. Increases in our floor plan interest expense were partially offset by a decline in other interest expense, as a result of our lower debt levels. We ended the quarter with an operating margin of 3.8%, a 20 basis point improvement over the fourth quarter of '05. For the full year, excluding the charges incurred in the second quarter, we delivered a top quartile performance at 3.6%. Our earnings per share from continuing operations includes $0.01 of stock option expense for the quarter and $0.06 for the full year. To further put our performance in perspective, please turn to the the next slide.

Let me give you another perspective on our 2006 results and why I am so proud of what our team has accomplished this year. We provided guidance at the beginning of the year, essentially equal to $2.37 a share. Which included targeted acquisitions of $500 to $700 million in annual revenue. Excluding the impact of the charges in the second quarter, we earned $2.49 a share despite acquired revenue of less than $300 million. Please turn to the next slide.

Our operating results continue to reflect the ongoing benefits of our portfolio enrichment strategy. Although our exposure to domestic brands has declined, I would like to note our domestic brands, for the second quarter in a row, enjoyed improved profitability. Large, well-run domestic dealerships located in certain areas will always be, in our minds, portfolio enriching. I bring up this point to illustrate that we're an operating company. Execution of core operating strategies contributed significantly to our success during the year. Our brand mix complemented this success.

Looking back at the slide, as you can see, luxury brands accounted for a record 54% of our total revenue for the quarter, up from 51% -- up to 51% for the full-year. Our top brands for the quarter in terms of total revenue were; Toyota and Lexus at 18.5%, BMW Mini at 17.3%, Honda and Acura at 14.6%, Cadillac at 10.2% and Mercedes at 10.1%. Our strongest performing markets during the fourth quarter were Northern California; Houston, Texas; and Oklahoma. Our smaller platforms in Michigan and Ohio continue to experience a difficult economic environment. Next slide, please.

Our overall same-store revenue increased 2.7% for the quarter and 3.9% for the full year. New retail revenue was up 4.3%, same-store used vehicle revenue was up 3.4%. Same store F&I revenue was up 4.4%, driven by a $28 per unit increase. The rollout of our standard electronic menu is contributing to improved performance. We plan to have all dealerships integrated into the new process and will be fully capturing the benefits by the end of 2007. This should allow us to improve F&I per unit by an incremental $50 to $100 per retail over the next 12 to 18 months.

Despite having one less business day in the quarter, total same-store fixed operations revenue increased 3.1%, while gross profit increased 4%. On a daily run rate basis, leave all same-store fixed operations revenue and gross profit were up 4.7% and 5.7%, respectively. In absolute terms, customer pay revenue and gross was up 8.7% and 9.2%, respectively, more than offsetting warranty declines. And on a daily basis, customer pay labor was up double digits during the quarter. Brand mix, execution of our standard processes, increased capacity and attention to customer satisfaction is driving the continued improvement in fixed operations. Fixed absorption was a record 91.1% for the quarter. Please turn to the next slide for more details on our used vehicle performance.

Whole our overall same-store used retail volume improved 1.3% for the quarter, it's important to note that our standardized process stores improved used retail volume by 7.7%, inline with the higher performers in our sector and much better than the national franchise dealer average decline of 11.9%. Our used-to-new ratio in the process stores improved 40 basis points to 0.50 to 1. As the used vehicle segment becomes more of a driver of our overall performance, it's important to understand how brand and geographic diversity impacts our used vehicle business.

First, let's look at luxury brands. As you can see from the slide, in dollars, we grossed $2,228 per luxury vehicle, approximately 27% more than our domestic and import brands. The margins on these vehicles are lower, however, due to the fact that our average used retail sales price on a luxury used vehicle is $28,000, almost double our domestic and import line prices.

Let's look at certified pre-owned. Certified pre-owned vehicles gross about $400 more per unit than our non-certified units. Once again, the sales price on these units are much higher and, as a result, have lower margins. And finally, geography. As some of our peers have reported, there has been some market pressure in California. Also, in the markets where we have dealerships in California, displace base is at a premium. As a result, used vehicle merchandising space is not what our dealers would like. Limited space, limited selling potential. Also, our California platform has virtually no domestic brand exposure.

In addition, the California consumer has always been new vehicle oriented. Consequently, our used-to-new ratio in California is lower. Outside of California, our used-to-new ratio is actually 0.56 to 1. However, despite these market characteristics, we do see California as a significant opportunity to implement our standard processes and grow the used vehicle business. We're confident that we can post the same relative improvement there as we're seeing in our other regions.

Overall, we continue to view the used vehicle segment as a source of future opportunity for Sonic Automotive. We will continue to roll-out our used vehicle marketing process and expect it to be completely implemented in all of our dealerships by mid-2007. We expect to realize the benefits of this process improvement and new technology more fully over the remainder of 2007, with 2008 providing a full year run rate enabling us to achieve our target of sector average used-to-new ratio.

At this time, I would like to turn the call over to our Chief Financial Officer, Mr. Dave Cosper. Dave.

Thank you, Jeff. And good morning, everyone. Our SG&A is a percentage of gross profit continues to benefit from our strong focus on cost control and our improvement in same-store sales and margins. SG&A is a percent of gross profit with 73.9% for the fourth quarter, down 80 basis points from the prior-year quarter. For the full-year, excluding the charges taken in the second quarter, SG&A as a percent of gross was 75.1%, down from 76.1% in 2005. Although rent has increased as a percent of gross profit, it's been more than offset by significant improvements in our variable compensation and other variable expense categories. And as Jeff mentioned, fixed absorption hit 91.1% for the fourth quarter as we continue to benefit from our strong brand mix and our investment in fixed operations capacity. Turning to the next slide.

As we look at our inventory days supply, we believe we're in a good position going into 2007. We maintained our inventory discipline throughout the fourth quarter and ended the year with an overall new vehicle days supply of 48 days, compared to the industry average of 62. Used car inventory ended the quarter with 37 day supply, which is right in line with our internal target. Please turn to the next slide.

We ended the quarter with a debt-to-cap ratio of 39.5%, slightly better than our stated target for 2006 and in line with the peer group. Our capital allocation processes and commitment to maintaining a strong balance sheet remain among our top priorities. We continue to explore alternatives for our subprime lending operation, CornerStone Acceptance, and expect to see further progress in the first half of this year. We ended the year with approximately $28 million of net receivables. A successful sale of this portfolio or business would reduce our debt-to-cap ratio by just over one point.

We're also continuing to explore financing options for our real estate. We believe there is a 100 to 150 bases points of savings from mortgage financing versus leasing. As we build new facilities or complete some of our existing projects, we expect to begin to hold more of our real estate on our books and look forward to doing that very quickly. Please move to the next slide.

Let me turn now to a discussion on our outlook for 2007. We're targeting 2007 EPS from continuing operations of $2.48 to $2.58. We expect a fairly stable industry sales environment. But similar to the fast year, we expect the luxury and import brands to continue to take market share. Although not included in our earnings estimates, we are targeting acquisitions with full-year revenue growth of 10% to 15%. We will be patient, prudent and opportunistic on these acquisitions and we expect the majority of them to close in the second half of the year. Please turn to the next slide.

From an interest rate perspective, we're not forecasting any additional rate increases for 2007. As illustrated on the slide, during the first half of 2007, we'll be facing cost increases on a year-over-year basis. This will impact primarily our floor plan borrowing costs, as the outstanding balance on our revolver is very low. We estimate that for every 25 basis point increase in interest rates, we would have a $0.01 EPS impact each quarter. Please turn to the next slide.

In reaching our 2000 EPS target, we assumed an average stock price close to its present trading level. Because our stock has appreciated is the middle of last year, there is an accounting dilution from our 2005 convertible notes. Our 2005 convertible notes are convertible into shares on a parody calculation, which approximates a conversion strike price of about $24. Although we don't expect the notes to become convertible under the parody formula until close to the first call date, which is November in 2010, we're required, under current accounting rules, to include the impact in our share count once our share price exceeds $24.

We noted in our press release, we were finalizing hedge accounting treatment for the 2005 convertible notes. This is a very complex area of accounting and we're working through this with our auditor. We don't believe there will be any material impact to our reported results, but for full disclosure in today's environment, we wanted to make you aware. Turning to the next slide.

This slide shows our major facility projects for 2006. As you can see, we're focusing our investment where we make money, in service capacity and in luxury and high-line stores. As an example, our new BMW service facility in Fairfax, Virginia, which opened in November of last year. With this project, we now have 54 stalls in utilization, up from 22 previously. We have the ability to increase stall capacity to over 80. Already, our service gross is up 25%. As we have noted, our rent is increasing, reflecting our investment, but these costs are much more than offset by improved gross profit. And our fixed absorption continues to increase. Next slide.

This slide compares our 2007 outlook with earnings for 2006. As can you see, we're projecting continued strong operating improvements in our business, with a focus on increasing sales, reducing costs and improving our margins. As we discussed earlier in our call, we're investing in the high-set margin segments of our business; the service capacity and high-line luxury and import stores. We expect these investments to provide strong returns for us and our shareholders. Also as we discussed, we're expecting $0.08 of dilution from our 4.25% convertible notes issued in 2005. And as I mentioned, although these bonds technically are not convertible at this time, the share dilution must be included in our fully diluted EPS calculation.

With that, I will turn the call back over to Jeff.

Thank you, Dave. In summary, we're not only pleased with this quarter's results, but we're extremely satisfied with our full year performance for 2006. Once again, we prove that Sonic Automotive can deliver on promises and expectations. We have never had a more aligned and talented group of associates than we have today. Even though we'll experience some headwinds from the interest and rent environment, I am confident Sonic Automotive will continue to execute on our proven strategy in 2007.

Our dividend will remain unchanged at $0.12 per share, payable on April 15, 2007, for shareholders of record as of March 15, 2007.

Before we take questions, I want to thank all of our manufacturing partners who continue to introduce terrific products and strong market support. And finally, I want to express my appreciation to our 11,000-plus associates for their collective efforts throughout the fourth quarter and an impressive 2006 performance.

At this time, we're glad to entertain questions.

[OPERATOR INSTRUCTIONS ] Your first question comes from Matthew Fassler of Goldman Sachs.

Thanks a lot and good morning.

Hey, Matt.

Good morning, Matt.

I'm here with Deron Kennedy and we have a couple of questions. First of all, if you could give us a little more color, specifically on the import -- the mid-line import business in California. Some of your competitors had some pretty [inaudible] comments about that business. It looks look your inventories are in pretty good shape across the mid-line and port space. But anything on the macro front or on how that part of the country and those dealerships faired versus the rest of your Company?

Yes, well, we would definitely acknowledge that there is market pressure in California. And it's manifesting itself in the Asian imports. And we did particularly see some margin decline in what I call the Big 3 imports; Honda, Toyota and Nissan. However, on an overall basis, our business improved in California. And we believe that is a result of improved management and improved execution. So despite a very, very competitive new vehicle environment in California, overall our business there is strong. And we enjoy improved profitability in both our Northern and Southern California operations.

Got you. Second question, if I may. On the floor plan numbers that we saw for the fourth quarter and for 2007 outlook, it looks like your days inventory were actually, as I said a moment ago, in reasonably good shape. As we look at the increase in floor plan interest costs, is that an inventory issue or is it more of an interest rate issue?

It's more of an interest rate issue. And we're projecting roughly a quarter point increase, on average, year-to-year -- with a little more of an increase, year-to-year, in the first half of '07.

That based, I guess, just on kind of flatlining the current Fed funds rate and looking at the year-ago comparison?

Yes.

Okay. Third quick question; you talked about a little bit of pressure on the P&L from rent expense associated with some of these new parts and service facilities focused on your luxury brands. Can you talk about -- I guess you quantified that as well at $0.12 to $0.16. How much of these projects -- or how many of these projects impacted your '06 number -- these projects or related projects and what amount did they pressure the P&L last year?

Well most of these projects were -- we were spending throughout the full year. As I mentioned on the BMW Fairfax, in particular, we launched it in November. So we're starting to reap the benefit from that investment now. Typically, the expense for interest expense is held on the balance sheet until we actually launched the facility. So we're investing in yet and then we capitalize it and start depreciating it.

Got you. And then finally, just to get clarity on the contingency convertible, and it's probably a pretty basic question; but is this $0.8 incremental dilution above beyond what you would experienced in 2006 from the convert -- ?

That's correct.

Okay, thanks so much.

Your next question comes from Rich Kwas of Wachovia.

Hi, good morning, guys.

Good morning, Rich.

Jeff, could you comment on the used vehicle roll-out? I think you mentioned previously that it's going to be finished by middle of this year. And I think in past discussions, at least, Dave, I think you talked about maybe having it done by the end of the first quarter of this year. So I wanted to find out if there is anything going on there, in terms of the roll-out. Any delays?

No, there is no delays, Rich. And I have always articulated a mid--'07 completion of the initial roll-out. And then we would look for our stores to really, fully integrate and adopt by the end of '07. And that would position us to look forward to a full year run rate in '08, enabling us to capture that very meaningful incremental opportunity in used volume. Just bringing our used-to-new ratio to sector average. So there is no delays, if anything, we're just a little bit ahead of schedule. And we're right on track with what our plan has always contemplated.

Okay. And then when we look at what is going on with the overall business here on the acquisitions, what -- Dave, what is your plan on funding these acquisitions? I know you would like to keep the capital structure kind of where it is. 10% to 15% is a pretty nice increase and I know that is a target. But what is your intent for funding these acquisitions?

Well, you're right, Rich. I have stated that our balance sheet is a priority in terms of keeping its strength. And I would like to see us, over time, with the debt-to-total cap of 35% to 40%. That is going to be a little lumpy. We have got $250 million of open capacity on our revolver, which is the good position for us to be. Similarly, we're generating cash from our operations and our stock price has increased over the past five, six months. So, I mean there is a number of different currencies there. As I mentioned, we're going to be prudent and look for good opportunities, things that make sense in our sweet spot. And we'll have a balanced financing approach as we grow the business.

So -- but we shouldn't expect -- if you're getting more aggressive in the acquisition market, we shouldn't expect to see debt-to-cap go back up to the mid-40s, necessarily. Maybe higher than where it is today?

It may rise a little bit because initially I think we would draw on the revolver. Overtime, it's going to come down. I don't want to go back to where we were.

Okay. And finally on the DMS conversion, where are you with that?

We're targeting to have it completed by the middle of this year. It's going well. We just launched it in our platform in the north. And we'll -- once it's fully rolled out, it will probably take us five, six months to figure out how to get the best benefit out of that. And then I'm looking forward to a lot cost-savings opportunities and a lot of margin opportunities as well, as we add visibility to our business -- better visibility and can manage it better.

Okay, and then SG&A here, you have done a great job of leveraging SG&A. Where are the future benefits going to come from? How much more cost do you have to reduce versus how much more productivity on the gross profit side do you have? Do you see it balancing or weighing more toward the gross profit expansion?

I think it's both. This is a funny ratio and it moves because there is a numerator and denominator. But I am a firmly cost-focused kind of guy, so I like to focus on the cost. And the margin is going to be where the margin is. We're always going to be trying to grow the business and that's great if the ratio goes down. We have to watch every dollar we spend. And it's hard slogging, but we have made great progress. I have seen some cost categories actually come down on an absolute basis as we have grown the business. And that is really what you want to see. That's a win-win. We'll keep at it. We have our teams focused on it. And we still see improvement there to come.

Okay, thanks.

The next question comes from Rick Nelson of Stephens.

Thank you. Good morning. Congratulations on a great quarter and great year.

Thank you, Rick.

Jeff, can you comment on the first-quarter trends to date? And what you're expecting for the spring selling season? And are you seeing any signs of weakness at all in the luxury side of the business?

Well, Rick, obviously, I want to just comment on what is visible in the marketplace. And I think if you look at the overall SAR the first couple of months, there is no big surprise there; kind of flat to slightly down, exactly as predicted. And yet -- I will point to January because that data is already in the books; with a SAR that was slightly soft -- Mercedes-Benz up 28% at retail, Lexus up 12%, Toyota up 10%, Honda up 4%. So, the brands that we're overweighted in continue to take share.

And I can't stress that it's important to look beyond the overall industry SAR and consider brand mix. In January in our own portfolio, the only obstacle we saw was some serious weather condition in Oklahoma and that has bounced back nicely in February with some pent-up demand. And so as we turn the page into March, we're about exactly where we planned to be. And obviously, the first quarter is very dependent on a very robust March. And inventories are in good shape. In fact, we have got just a little more inventory than normal in some of the import brands and we view that as an opportunity to grow our business. So, we're very excited about executing on the month of March. And feel like -- that the first quarter will be as expected.

Okay. Thank you for that. Question about acquisitions. You have a stepped-up plan here for '07. Any comments on the pipeline and pricing would be helpful.

Sure, well, we're got -- obviously, we have remained active in the market in terms of our prospecting activities, really over the last six months in preparation for what we had always envisioned on accelerating some disciplined growth. The pipeline is strong. Obviously, we are clearly targeting the premium asset;, luxury stores and markets where we already have scale, generally higher through-put per outlet stores. Those stores are going to bring a premium because it's no secret that that's really the segment of the market that, not only Sonic Automotive, but many of our peers, both public and private, are focused on.

But we're going to maintain discipline. We're prepared to pay a premium for those assets because those are brands that are taking share and have predictable growth that we believe can be modeled. And we think that if you look out a couple of years, that valuations will come into line with our historical valuation range based on the momentum of those brands and our ability to bring our proven best practices and operating processes and introduce them into those stores. So, we are confident that we're going to be able to find opportunities that we're going to be able to find opportunities that meet both the profile criteria that we have outlined, but also a valuation range that meets the return targets that Mr. Cosper is going to hold us accountable to.

The only comment that I would just echo, we do not anticipate any material closings in the first quarter. These transactions now -- they larger transactions take a little longer to facilitate and ultimately close. And so a lot of the targeted growth will fall into the second half of this year.

The final comment I will make, Rick, is that if you look at the last five or six acquisitions that Sonic has made, they average over $100 million in revenue. I want to give everybody some comfort, that to grow at 10% or 15%, it really isn't a huge number of transactions. When you're buying large premium assets with $100 to $150 million in revenue, it really mitigates the acquisition risk and the strain on our infrastructure. And we believe that, from an infrastructure standpoint, we can grow 40 to 50% over the next three years without adding any material infrastructure, which is going to be another SG&A leverage point for us. And, Dave, I know, wants to add's few things.

That was a pretty complete answer. I'm going to squeeze in my two cents here. One, we're going to be patient and prudent, and I think those are the watch words for us. It's coming up on a year for us without any acquisition of size. And I was very pleased to see us hit our numbers last year with just improvements in the base business. I think that is outstanding. And we will be watching very closely the returns and the prices we're paying. And so far, things are looking very positive for us. So with that -- .

Thanks for that. Just one final question on the double-digit customer pay, same-store growth that you referred to in fixed operations; what is the key drivers behind that?

As I noted, it's really a number of things. Part of it is certainly brand mix, because luxury and import really lead the way with that customer pay growth. Part of it is certainly our standardized best practices and the refinement of how we're leveraging customer relationship management technology, e-commerce, et cetera, to do a better job of marketing and customer retention. And also the best practices in our service lane, in terms of making sure that we're taking advantage of those opportunities to do business to increase sales per visit from those customer pay customers. And finally, obviously, when you're in the luxury business, customer satisfaction is a price of admission and we have tremendous focus on exceeding customers' expectations.

And those gains are on an absolute basis -- in our luxury stores, Rick, this is a compelling number -- the gains are actually 24% year-over-year, our import stores are about 19%. So again, domestics are flat year-over-year. So you can see that it's our strong brand mix that we can look forward to continuing to drive the strong these customer pay trends.

And, of course, that is where we're investing our capital and expanding our capacity. And that certainly is helping.

Thanks a lot. Congrats and good luck.

Hello. Excuse me, moderator, are there any more questions?

Yes, your next question comes from Edward Yruma of JPMorgan.

Hi, this is [Neha Manpuria] on behalf of Edward Yruma. I just had two quick questions. Firstly, what are your current utilization rates for your service base? And have you given us any numbers for a bay count for 2007?

Yes, our utilization is just over 60% overall. Once again, brand mix is critical. We're in the low 70s in our luxury portfolio, about 65% in our import portfolio and, of course, we're shrinking in terms of our utilization in the domestic portfolio, where stall utilization is about 42%.

And I apologize, ma'em. I didn't get the add-on question.

The expanding -- how much are you planning to expand your bay counts by -- service bay counts in 2007?

Sure. In '06, we actually completed construction on 300 service bays, about half of which are incremental. And we have got another 273 incremental service stalls planned for '07 and some of that will row into '08. And as Mr. Cosper pointed out earlier in the call, obviously that investment is being made in those luxury and import dealerships, where we're enjoying that 20%-plus customer pay demand.

Okay. And secondly, could you talk a little bit about your new-to-used ratio in your champion stores? I don't know if you gave the number in your presentation -- versus your other stores.

Yes, I did. Overall, our used-to-new ratio is 0.46 to 1.

Okay.

However, in our champion or standardized process stores, we improved by 40 beeps -- excuse me, four beeps, up to 0.5 to 1. So we are driving that number with our champion store process. And, again, outside of California on an overall basis, we're at 0.56 used-to-new.

Thank you so much.

Your next question comes from Scott Stember of Sidoti & Company.

Good morning.

Good morning, Scott.

The guidance that you gave -- or the projections for 2007; the acquisition that you guys made of $90 million in late January, is that included in your forecast?

Yes, it is.

Okay. And as far as -- could you talk about the customer pay? What the -- I didn't hear what the total increase was, molding all the different areas into play; luxury, import and domestic?

The total increase for the Company, adjusted for selling days, was about 11% for the quarter. And you look at revenue for the luxury stores, it was 23.7%, and for our import stores, it was 19.5%.

You said flat for domestics?

That's correct. That includes our Quick Lube revenue, which is obviously customer pay labor.

Can you talk about how warranty work is playing in all of this?

Yes, there is a continued deteriorating trend in warranty work. I think that's a macro industry phenomena being driven by improved quality and more manufacturer scrutiny. And the biggest declines are in our Toyota and MercedesBenz dealerships, but they had a number of recalls in the '05 comps so that's where we're seeing the most pressure. Overall, warranty was down 5%.

As far as the guidance for 2007, with the consolidation of the DMS systems, do you have any heightened costs related to this? And can you quantify that? And also, basically, say whether it's in the guidance or not?

There is minimal impact related to the DMS conversion that is going to impact '07. Yes, it's included and, yes, it's very small. We don't even track it. There are savings associated with going with one vendor and we're rolling that in. There is a little bit of launch costs. Together, they're very small. The real savings is going to come from how we manage the business better once we have it in place.

Okay. And lastly, did you guys -- I don't know if you gave capital expenditures for '06 and what is your guidance is for '07.

Capital expenditures for '06 were around $100 million and we had $40 million of sale and leaseback. These are our peak spending years with a number of large projects, as I mentioned in the call. I would see capital spending about the same range. And also as I indicated, we're trimming back our sale leaseback a little bit, so I would expect that to be $40 to $50 million next year as well.

Okay, thank you.

Your next question comes from the line of [Ashush Sheddi] of Resurgent.

Good morning.

Morning.

I was wondering if you could comment on your projections for Big 3 business in your stores for the remainder of the year? And from what you have seen so far, any signs that production volumes will be better or worse than those levels previously announced.

We remain optimistic about our own domestic store performance. If you study how our revenue looks within those brands, most of our exposure is to General Motors and Cadillac. And as I stated earlier, we actually enjoyed both a sales and profit increase in our domestic stores in the fourth quarter. And we expect to be able to build on that trend, despite the challenging overall market environment. And if you take a look at total net profitability, we enjoyed double-digit increases in the net profitability in our Detroit 3 portfolio, despite a difficult industry backdrop.

So General Motors has terrific new products out. We're going get -- they introduced a number of great products in '06 that will have the benefit of a full year run rate on. And we're just, obviously, very focused on managing our inventories in those stores, and really maximizing the opportunity there in expense-control, et cetera. And, again, we're seeing strong truck sales in the Chevy stores with the new Silverado. Strong, large SUV sales, led by both Suburban and Escalade. And we think we're going to be able to continue to enjoy the momentum in that part of our portfolio. As you noted, production is being cut in some of those brands, we think that is a positive.

Again, to highlight the brand this we have the most exposure to; General Motors has actually been able to lower incentives by about $800 per unit. And yet, the dealerships have been able to maintain relative stability and margins. And I think that, obviously, their adjustments to production and pulling their horns in on the fleet business has enabled them to sell and enjoy stable sales despite lower incentives.

Great. Thank you.

Your next question comes from Jerry Marks of AutoRetailStocks.com.

Good morning.

Morning, Jerry.

Dave, I like your slides; spend money where you make money. And kind of along those lines; Jeff, you have laid out a bunch of initiatives, the DMS roll-out, the used vehicles and now maybe accelerated acquisition pace. What is kind of your top priorities, if can you rank them in the top two or three priorities for this year?

Well, I think that we have always articulated that there is two critical elements to the revised strategy that we articulated some 2 1/2 years ago. First and foremost, we're committed to operational excellence. And that's where the further development and implementation of standardized best practices, balanced with the maintenance of talented associates and the entrepreneurial spirit are highest priority. The second prong of that two-prong approach has been, what we call, portfolio enrichment. And that is a more targeted and disciplined growth strategy through acquiring brands that complement our portfolio and operating strategy and the strategic divestiture of certain brands and profile stores that don't really contribute to our strategy.

Organically, in terms of the operational excellence piece, our number one priority will remain the used car strategy, because we see that is going to be where we have the highest return. In addition to that, on an ongoing basis, we'll be focusing on other important initiatives like the electronic F&I menu roll-out, e-commerce and digital marketing, and a number of other associate development activities in the HR arena to help us better select, orient, integrate, train and development our talent pool and reduce turnover. Which we believe is ultimately going to be one of the key drivers of our continued success.

The DMS conversion is now really becoming an embedded process as we roll it out. And I want to take a minute to highlight how proud I am of our DMS conversion team because we're not just converting the hardware and software in our dealerships, we took the time to put together a steering committee, if you will, of a number of key internal stakeholders to develop over 100 standardized processes that interface with that technology. And as we roll-out the new computer system and software, we're also training our associates on over 100 processes that will now be standardized across our organization. To my knowledge, nobody has taken that comprehensive of approach as we are with the DMS. And as Dave said -- and Jerry, I think you and I have discussed this before; everyone's focused on the costs saved and certainly, there is going to be meaningful costs saved over the longer-term, but the real opportunity is improved productivity and efficiency to drive topline growth and optimize margin with that DMS program.

And then finally, the reinvigoration of some disciplined growth with portfolio enrichment. With the profile of stores that we're focused on and the operating performance and stability that we've demonstrated, we're confident that our infrastructure can absorb the number of dealerships that it will take to achieve the growth targets that we have articulated today without putting any strain or distraction on those important strategic initiatives, which will continue to move forward.

Got you. Yes, I have a couple of follow-up questions for Dave on the [S&E] line, but I will do that offline. I just wanted to -- since you laid out such an articulate strategy that you have going forward with this; you emphasize the employees, directionally, has your employee turnover been going down and employee gross been going up? Have they been moving in a positive direction?

Well, we made significant progress in associate stability in '05. Frankly, we're disappointed that turnover overall was relatively flat in '06. We're not satisfied with that. We did show material improvement in our General Manager turnover, which we ultimately believe will cascade into lower overall turnover. However, I am pleased to report that productivity, or gross profit per associate, is up nicely, particularly in our luxury and import stores that are really the drivers of our operational and growth strategy. But we continue to view associate turnover as public enemy number one. We have a number of HR-related pilot programs to help us better select associates that are going to be a great fit for our organization for this industry and, ultimately, be significant contributors to the success of our strategy going forward.

Thanks, Jeff. Thanks, Dave.

Thanks, Jerry.

Your next question comes from Peter Siris of Guerrilla Capital.

Hi, guys. I guess I don't have anything to scream at you about today.

We're disappointed.

I mean, you keep coming up with good numbers, Jeff, so I sort of run out of ideas. Actually, there is one thing that I am curious about. The -- Dave, earlier you said that your stated goal was to not get the debt level up into the mid-40s. And I am curious to hear what your philosophy on the capital structure is? If this was a private company, you would lever it up. What do you see as -- what are the risks and the opportunities, from different debt alternatives?

Yea, what I saw last year -- actually as we started reducing our debt level, I saw two things. I saw the equity price start to increase, and I think what -- I think investors were looking at us and saying geez, it's a great company, a lot of great performance but it's debt level was pretty high. And I actually heard from some investors that have certain criteria that would exclude companies that have greater than 40% debt-to-cap; wouldn't even consider then. One thing I saw was the stock price go up.

The other thing I saw was the -- our debt price started to go up. In other words, the yield demanded in the market came down. Interestingly, as we were reducing our debt, others in the peer group were increasing there's and we kind of met in the middle. It's -- it's a bit of a judgement call and it's a level I'm comfortable with. You're right. If it were purely a private cap, and you were maximizing your personal equity, you might run a higher debt level. The capital markets -- I mean, there is a lot of alternatives out there for investors. And I don't think you want to find yourself too far astray from where the rest of the group is.

And the other question I have is, the earnings guidance was for a certain range, excluding acquisitions that haven't been announced; is that correct?

That's correct.

And there's an acquisition goal -- so I guess we have to rely on the crack analysts to figure out what the accretion from those acquisitions are going to be. Because otherwise, if I don't factor on the acquisition, then the debt level goes down to 35% or 36%, right?

Yes.

What our thinking there was -- it's very difficult to estimate when the things are going to close.

Right.

And the timing is up in the ai. And then I worried about, if we put a hard target out there, is it going to put pressure on the team to do something that may not make sense? And you don't want to do that, you don't want to mislead the market. I think it's good that we have an overall goal. We'll keep the market very well-apprised of how it's developing and progressing over time. I think it's the right way to lay out the guidance. And profitability, of course, is going to depend on the timing of when we bring it on the books and how quickly we integrate.

Generally speaking, you would expect the acquisitions to be accretive this year. So if you make any that would help the -- ?

It will help the bottom line. Yes.

Great. Thanks a lot, guys, congratulations.

Thank you, Peter.

The next question comes from Kelly Dougherty of Calyon Securities.

Hi, thanks. I'm just wondering if you can talk a bit about your car/truck mix for the year and the quarter? And maybe if you could give us some information on your pick-ups and SUVs as a percent of your overall sales?

Sure. Well, actually -- we actually saw trucks bounce back relative to the truck/car ratio for the quarter. And continuing ops car was 56% of total volume and truck was up from 42% to 44%. And SUV was 10% of that total. It's important to point out that large SUVs, this would include Escalades, Suburbans, and the large, luxury SUVs, were actually up 43%. And the American consumer is so fickle, there is an indisputable correlation between when gas prices decline and how quickly demand switches from car to truck. And how demand for both large SUVs and trucks overall, large trucks, increases.

And we're seeing very strong year-over-year improvement in the Silverado truck sales from our Chevy stores, which is where we have the most exposure. Tundra, obviously, is up, and with the launch of the new product, we're looking for large gains there as well. And it's only the Ford F-150 where we saw a deterioration, we were down slightly over 10% with our Ford F-150. And obviously, it's a terrific product, a great franchise that is up against some new product in that segment that is giving it tough competition over the short-term cycle.

You have the number for what percentage of your truck sales -- overall pickups were? Similar to the 10% SUV number?

Pickups alone were up -- large were up about 17% and small pickups up a little over 7%.

Actually, I'm looking -- I'm sorry. If you have, as a percentage of your total truck sales, what pickups were? You said SUVs were 10% of total truck sales, if you have that number for pickups?

I apologize, Kelly, are you looking for the percentage within our truck sales -- ?

Yes, I'm sorry.

-- within trucks.

Yes.

And how much is large?

Or just your pickup percentage.

Well, of our total sales, small pickups are a little over 7% and large pickups are almost 17%.

Okay.

Large pickups are a little more than twice the size of our small pickup sales in the portfolio.

Okay. Thank you very much.

Your next question comes from Jordan Hymowitz of Philadelphia Financial, excuse me.

Hey, guys, congratulations on a good quarter. And, Dave, congratulations on all the success you have had there. Can you talk about what you have seen in Honda and Toyota, specifically in terms of -- you're saying the industry sales are still out, but I'm hearing a lot of dealers talk about their inventory levels in those models starting to rise fairly noticeably in the quarter. A couple of others of the public dealers are talking about that as well. Can you discuss what you saw in those brands in the most recent two or three months, in terms of inventories?

Sure, I certainly want to acknowledge that inventories in those two outstanding import lines, Toyota and Honda, are up year-over-year materially. But they're in the 40 to 50 day range, if you look at the industry data. And we're roughly consistent with that. We really view it as a short-term phenomena. And we see it as a growth opportunity because -- I can take you back six months when is we could not get enough product from either of those manufacturers. Some of it is seasonal, as we ramp up here and prepare for the spring market. Some of it is that there are certain models within those two brands that are in the final leg of their cycle, like the Honda Accord, that is being heavily incentive and there is a big volume push, obviously, as they approach build-out and the changeover to the launch of the new Accord later this fall.

So all of those things and an aggressive incentive environment have created some inventory build-up and margin pressure in those two brands. But we really view it as a short-term phenomena. We think, over the next quarter or two, that inventories and margins will likely return to historical levels.

And if inventories up to close to the 50 days now from the 20 a year ago, what is margins doing on those vehicles? Have they come down?

Yes, I think I just acknowledged margins are down. Industry right now, I think Honda is showing 46 days supply of cars, Toyota's a little lower at 40. And we have seen margin pressure, particularly in California, with those Tier 1 Asian imports. And if you take a look -- with our Honda stores, for instance, margins are down about 180 beeps, looking backwards here. We have always enjoyed strong margins historically. And really, now, Honda margins are at parody with Toyota, where there has always been tremendous focus on volume and fairly slim margins.

Thank you very much.

Your last question comes from Mike Geoghegan with Bear Stearns.

Good morning.

Morning.

You gave us some pretty good color on as the acquisition outlook for the coming year. I'm wondering if can you do the same for any potential divestitures? I'm trying to get a sense for how much revenue might come out. Because given your comments and the pleasant results of domestic stores, it sort of sounds like your portfolio enrichment strategy is coming to a close on the divestiture front.

I will take that, and then perhaps Dave may want to chime in. We do still have a group of dealerships that are held for divestiture. And again, these are lower throughput per outlet stores and a variety of brands that we don't view as complementary to our portfolio enrichment strategy. We are still operating those stores, and in fact, improved the operating performance of our discontinued operations portfolio. Our field organization is not even fully aware of the divestiture target. So they're held fully accountable for the operating performance of those stores. And we did see improvement, as I noted, in our divestiture target portfolio.

Those stores, in today's environment, because of some of the overall brand trends, are very difficult to sell at a reasonable valuation. And so, some of the divestiture activity has taken longer than what we anticipated. But the important thing I want to stress is, we don't anticipate any material incremental additions to our discontinued operations. There may be onesies, twosies as we go forward, but we don't see any material incremental additions to that targeted divestiture portfolio. In my view, here would be no material amounts of revenue that might be pulled out of our current run rate -- it's onesies, twosies.

That's right, Jeff. And I just want to point out for everyone that the stores we have presently identified for sale, their revenue not included in the revenue that we show on our financial statements. It's continuing operations only. So you won't see an adjustment to that number.

I think we have a little over a half billion in revenue in that holding tank, if you will. We're continuing to focus on improving the operations. Because if we can't get what we view as a fair valuation and an acceptable contingent liability outcome, then we may consider bringing those stores back into continuing operations.

Does that help?

Yes, that is helpful. Thank you.

Okay.

Thank you all very much for joining us this morning.

Thank you, this concludes the Sonic Automotive fourth quarter earnings conference call. You may now disconnect.