Sonic Automotive Inc (SAH) 2008 Q3 法說會逐字稿

Good morning, and welcome to the Sonic Automotive third quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there is will be a question-and-answer period.

(OPERATOR INSTRUCTIONS)

As a reminder, ladies and gentlemen, this call is being recorded today, Tuesday, October 28th, 2008. 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 webcast 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 Reform Act of 1995. During this conference call management may discuss financial projections, information or expectations of the Company's products or markets, or otherwise make statements about the future. Such statements are forward-looking, and 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. Scott Smith, President and Chief Strategic Officer of Sonic Automotive. Mr. Smith, you may begin your conference.

Thank you. Good morning, ladies and gentlemen and fellow shareholders. I'm Scott Smith, Co-Founder, President and Chief Strategic Officer of Sonic Automotive. Welcome to Sonic Automotive's third quarter 2008 conference call.

Joining me on the call today are the Company's Vice Chairman and Chief Financial Officer, Mr. Dave Cosper; our Executive Vice President of Retail Operations, Jeff Dyke; Rachel Richards, our Vice President of Retail Strategy; and Greg Young, our Vice President of Finance.

If you will please turn to our first slide, "Sonic Automotive Q3 2008 conference call topics". Today we will be discussing an overview of the quarter, our vision and strategy and investment principles, along with some color on the quarter, and then I will turn the call over to Jeff Dyke for an operating review and the priorities and specific strategies that he's working on. And then Dave Cosper will follow Jeff with a financial review of the quarter and dive a little deeper into the numbers, and then I will wrap up with a summary.

If you will please turn to the slide "Building for the Long-Term, the Quarter in Review." During the last three months, Sonic Automotive faced the toughest operating conditions in our ten-year history. We faced a hurricane, gas shortages in the southeast, historically low consumer confidence levels, and last but not least the credit crisis. I'm not sure if anybody paid attention to the Safe Harbor statement, but there's a lot of uncertainties that are out there, obviously, in the market these days.

The combination of these forces resulted in the lowest SAR since the early 90s. Today we are reporting an EPS loss of $0.57 for the third quarter. Included in the loss is $0.76 of noncash impairment charges. EPS from continuing operations, excluding the Hurricane Ike impact and the impairment charges, was $0.33 or $0.04 ahead of consensus. The majority of the impairment charge, which Dave Cosper will review further in a review of the financial results, consisted primarily of the writedown of the franchise asset values assigned to a handful of stores, along with the writedown of fixed assets at those dealerships. I don't view these writedowns as particularly surprising, given the profitability of certain brands in recent years and the fact that we are required under the accounting rules to review this on a regular basis.

We have also reviewed our plans for several dealership properties that we are no longer using, and have decided to sublease these properties rather than investing additional CapEx dollars to utilize them for other purposes. As a result, we have had to record some lease tails associated with these properties. I actually view this as a positive step in reducing future capital expenditures and operational risks. In addition, as we continue to challenge ourselves on the need for capital expenditures and projects in today's environment, we took some additional projects off the table and wrote off design and engineering costs we had already incurred on those projects. I view this also as positive relative to our future CapEx dollars.

Many of you have followed our company or been shareholders since our IPO in 1997. While it may not be obvious from the outside, over the last year-and-a-half that I have been back leading our company, we have truly evolved both as a strategic and operational perspective. I believe our current operational and finance team is the best that we've ever had. It doesn't mean that we're not going to make some strategic errors along the way, we have certainly made some in the past. And as the company's Co-Founder and Chief Strategic Officer for most of the company's history, I take full responsibility. I don't promise you we are not going to continue to make some mistakes in the future, because we are not perfect, but I believe that if we're not making mistakes then we are not swinging at the ball. I'm convinced that because of the clear investment principles that we've developed, the strategic discipline we now possess, and a strong cohesive management team to guide us, that these mistakes will be fewer and farther between.

Moving on to a more positive note, I am pleased to report that Mr. Jeff Dyke has been promoted to Executive Vice President of Retail Operations. Jeff has full oversight over all of the Sonic dealership operations. In a few moments, you will hear directly from Jeff on the many operating initiatives that he is pursuing. David Smith, my brother, was appointed by the Board of Directors to fill a vacancy left by Jeff Rocker. In addition, David was promoted to the position of Executive Vice President of the Company.

On the litigation front, Sonic Automotive is pleased with the North Carolina Department of Motor Vehicles' ruling on the Beck Imports versus Mercedes-Benz USA. The DMV found that Mercedes' objection to Sonic's proposed acquisition of Beck Imports in the Carolinas was ineffective, and that Sonic's acquisition of the dealership can be completed. This ruling by the DMV is consistent with what had been the Company's viewpoint all along.

If you will please turn to the next slide, "Building for the Long-Term, Vision and Strategy," this slide shows our creed card. Our vision is to achieve industry leadership in automotive retailing. It has always been and always will be. But what does it mean? To me it means a couple of things. First and foremost, it means that Sonic will become the employer of choice in the automotive dealership community. This is a people business. You've heard me say it many times that if we have the right people we will be successful, and it is our people that sell and repair cars, not buildings. I take very seriously our responsibility to provide a thriving and growing business where our people can be successful in their careers.

Secondly, this is probably most important to you, is that it is our goal to produce wealth for our shareholders, which includes me as well as the Smith family. We do this by continuing to focus on what we can control, which is the consistent execution of our strategies. Despite the current - what the current market might be saying, I remain convinced that the automotive retailing model works. Our revenue is based on more than just new vehicle sales, and as you are going to hear from Jeff Dyke we have been working on our operating initiatives that will allow us to take market share even in a down economy. Our expense structure is highly variable. It may be difficult to see that currently, given the impact of the hurricane and the impairment charges, but the variability is there. We have realigned our regional management team. We have reduced advertising expenses. We have adjusted our dealership personnel to reflect a lower vehicle demand. And there are more of these levers that we can pull as we go forward.

Over the past year, we have added some risk management resources to our corporate team, whose sole in life is to reduce our cost of insurance programs, both from a claims and a premium perspective. We will continue to reduce advertising if the downturn extends longer than currently expected. And our IT team, which I'm very proud of, continues to take steps to reduce our future IT spend. Cost control is an area that we pay attention to every day, but I just want to reiterate what we said in the last call that we are 80/20, where 80% of our time is focused on revenue generation and 20% of our time we focus on cost control.

We also add value to our shareholders by sticking to our investment principles. We continue to move away from leasing our dealership properties. In the past year, we have converted over $120 million in leases to mortgages. Although mortgages increase our off - excuse me, our on balance sheet debt to capital ratio, this is a strategy that every shareholder should fully support. As I have already discussed, we continue to eliminate any questionable capital expenditure projects. For the time being, we are holding off on acquiring dealerships in order to concentrate on retiring the bonds that will be due in 2009 and 2010. Jeff and Dave will have more to add on our expense management and capital allocation plans in a few minutes.

If you will please turn to "Building for the Long-Term, Investment Principles." This slide lays out the detail of our investment principles that I mentioned a few moments ago. I would like to take a moment just to run through them. We want to invest money where we make money. We now have strict return thresholds in place to evaluate if a project will return for us. Proper approvals; we have put safeguards in place to ensure that proper due diligence and review has taken place. All senior members take place in the final decision. We are sticking to our strategies. We allocate capital carefully, as capital is limited. We want to make sure we rank projects appropriately. We want to own our land and facilities. And probably most of all, we want to use good judgment, which I think can be argued in the past, just by the fact most of our land was leased rather than owned might indicate a lack of good judgment there.

And like our creed card, we take these principles very seriously, they serve us now in our decision making - (inaudible)

Ladies and gentlemen, this is the operator. There will be a slight delay in today's conference. Please hold the line and the conference will resume.

Hello. I hope everybody is back. Sorry for the technical difficulties on your telephone system.

If you will turn to the Building for the Long Term" slide, the "2008 Strategic Focus," please. Most of you have been exposed to this slide for several quarters now, but I wanted you to understand that this is how we evaluate the strategic decisions of our Company everyday. Everything that we do gets bumped up against these principles to make sure that any actions we take are consistent with our long-term strategies.

It is important to point out again that our strategic focus is not built solely around new vehicle sales. Allow me to share a quick story with you that truly reflects what we are trying to build here at Sonic Automotive. When our associates went to damage caused by Hurricane Ike, 22 Sonic families found that they had lost their homes and all of their possessions, and everything was gone, completely washed off the face of the earth. The remainder of the 1,600 Sonic families in Texas rallied to help each other, and there was no power, no gas, to cash, the ATM machines were out, no water, no groceries, no baby supplies. You know, you can get the picture.

From Charlotte, we had a team rallying with those folks, we dispatched two tanker trucks of gasoline to Houston. Our fellow associates drove to each others homes to take gasoline to them so that they could make it to the dealerships, that they had gasoline for their generators, and not to fix cars or to sale cars, but so they could get the basic staples such as food, water and cash. We paid our associates wages equal to their vacation pay, so they wouldn't have to worry about how they were going to pay their bills. On the ground, associates rallied to take trucks and trailers full of supplies to our dealerships for our associates. They trucked in supplies from other states, as most everything was gone for hundreds of miles, and we supplied 60 generators to the families who needed them at their homes.

Why did we do this, and why did our associates rally to help each other and help the Company? It is simple, because it was the right thing to do. Our associates were so grateful that to show their gratitude they opened several of our dealership service departments for 24 hours a day on their own accord just to help our customers in need. We are all about people at Sonic Automotive.

At this point, if you will allow me to turn the call over to Jeff Dyke, who will review our operational initiatives, and then on to Dave Cosper for a review of our financial results. Jeff?

Thank, Scott.

Thanks to all of the Sonic associates that continue to lead the way in creating the best automotive company in the industry to work for. Today I'm going to provide an overview of a few operational focus areas, so our investors understand what we are doing to take advantage of today's marketplace. As Scott indicated, there's always opportunity to grow and prosper even in more challenged times, so let's take a look.

Please turn to the page titled "Operating Priorities, Used Vehicle Strategy" This is a slide that you have seen before, which summarizes our used vehicle process. Phase I focuses on changing the culture in our stores to become more retail-focused and less wholesale-focused. Phase II focuses on optimizing inventory, putting the right car at the right location for the right price. Phase III envisions a national used vehicle virtual store. This virtual lot will have it own unique branding, consumer-controlled shopping and transactional elements.

Phase I has been completed in all of our Sonic dealership; however, we need to add some focus to our West Coast stores to guarantee execution of this process. This started in September of 2008. We are in the process of finalizing Phase II in our Alabama/Tennessee/Georgia region, and the results are very encouraging. We are finding the vehicles processed through the Sonic trade desk on average turn ten days faster, and are averaging $800 more gross. At the end of the fourth quarter, we expect to have the trade desk implemented in our Texas region. And by the end of the first quarter 2009, we will begin to implement Phase II in our dealerships in North Carolina, South Carolina, Virginia, Maryland, and Florida. Phase III of our Sonic virtual store, that will be named at a later date, will be a unique offering for customers all over the US.

Overall, we are pleased with our progress in used cars. We once again outperformed the national franchise dealers in year-over-year volume performance. Additionally, the execution of our used vehicle process reduced our exposure to greater gross compression that occurred in the market this quarter, as well as helped us manage our inventories effectively. Our used day supply at the end of the quarter was 32 days, and 66% of our inventory was comprised of cars.

Next slide, please. This slide is titled "Operating Priorities, Fixed Operation Strategy." As we discussed on the previous call, we told investors we would redouble our focus on fixed operations. This slide provides you a snapshot of our areas of focus, and the timeline in which we plan to accomplish our goals.

Phase I of our process includes standardization of our selling menus, that will support our service drive process and the service sales riders as they work to exceed our customer expectations. Phase I also includes an overall of our grid pricing and flat rate hour multipliers. These adjustments will allow Sonic to maximize effective labor rates and margins, while providing competitive pricing to our customer base.

Phase II focuses on training in the service drive, provided by our world-class training organization, Sonic University, and will feature merchandising of high-volume, high-margin items that are supported by our manufacturer and vendor partners.

Phase III of our effort ties our fixed process together by introducing a new technology similar to auto exchange and preowned. This technology will allow Sonic to review service rider, technician, store-to-store and brand-to-brand performances, so the Sonic National Service Team can focus its efforts where needed the most in a realtime format throughout each month.

Next slide, please. It is titled "Operating Priorities, Internet Lead Strategy." This slide provides you an overview of the steps we have taken this year to significantly enhance our internet strategy. In the beginning of the second quarter, we started to introduce our new websites. Our strategy is already showing signs of being very beneficial, as internet leads are up on a year-to-date basis, and nearly 75% of all Sonic customers have visited our sites prior to coming to the stores.

During a difficult quarter, we continued to take new car market share and outperform the industry in pre-owned. Our new sites are engaging, consumer friendly, and provide our stores with the ability to adjust inventory, pricing, merchandising and promotions in a realtime basis. This is key in today's automotive industry, as the consumer base of today requires a different level of communication, and Sonic Automotive is ahead of the curve and our investment in this area is paying off.

We have accomplished each of the first three steps in this strategy, and in the third quarter of 2008 we began in-store training to help our store structure handle the significant increase in leads without increasing personnel costs. Each brand and store provides a different set of challenges, as we widen our virtual doors and drive more traffic to Sonic. The key will be how we train and structure the stores to handle this traffic, and adjust our teams to the consumer demands of tomorrow. Our Sonic University training organization is poised to make this happen by the end of the fourth quarter of 2009.

Next slide, please. It is titled "Operating Priorities, F&I - Same Store." Roughly 18 months ago, we installed our electronic F&I menus at dealerships across the country, and this graphic displays how effectively our processes and strategies have worked. F&I is a critical part of our business, and provides our consumer base with many options to help protect their automotive investment. While it is important to maintain our current levels, we do not see much upside in our F&I profits. We are comfortable with the target of $1,000 per unit.

Next slide, please. This is "Operating Priorities, Expense Management." We continue to remain focused on controlling the control book expenses, as Scott said earlier. Here are a few areas that we have attacked recently, given the economic environment. As Scott Smith always says, people are our most important asset. On an overall basis, store-level personnel costs are not out of line. Sonic has always supported the thought of fewer associates making more money, and we continue to right-size our business as necessary to support the needs of our associates and our shareholder interests.

As you can see on the slide, we have reduced store and regional expenses by nearly $12 million on an annualized basis, and we'll start receiving these benefits in the fourth quarter. You will not be hearing about Sonic cutting pay plans; however, you will hear that our team is focused on associate satisfaction and customer satisfaction, both of which I am very proud to announce are at an all-time high. Our goal is to right-size when necessary, but more important retain and attract the very best associates and business as we continue to strive to be the company of choice both to work and shop. Our inventory controls continue to pay off, as we again will outperform the industry in both new and used vehicle day supply. We are also very comfortable with our parts day supply.

For the quarter, our advertising was down $2.8 million or 16.2%. Spend is down not only in absolute dollars but in terms of gross percentage as well. We are concentrating on the effectiveness of each and every dollar we spend at Sonic. Sonic has always been an industry leader in SG&A control, and will continue to be as we work through this difficult economic environment.

Next slide, please. It is titled "Geographic Brand Review, New Vehicle." I wanted to give you a feel for what we are seeing in the marketplace in terms of new vehicle revenue. California represents 30% of our total vehicle revenue. The market continues to be so much softer than other parts of the country. Our high line brands continue to excel even in a tough market, and while our domestic and import brands have been challenged, we recently have seen some stabilization in volume as the manufacturers provide incentives to support our industry, like Toyota's 0% program.

In Texas, we are very pleased to see that our BMW, Chevy and Ford dealerships outperformed their market. These three brands represent nearly 55% of our new vehicle revenue in the state of Texas. Our Honda and Toyota brands in Texas kept pace with the market. In fact, we were having a solid performance in September, but the hurricane slowed business down as we were closed for about ten days. We expect this business to pick up as the Houston market gets back on line.

In Florida the market remains difficult, but we have seen an improvement in our Honda and Toyota business. As we have mentioned before on calls, we have one Toyota store in the region that has had performance issues due to operational disruptions related to construction of a new facility. The construction is now complete, we have a new management team in place that is making tremendous progress, and we look forward to providing more detailed results when we present on the fourth quarter.

Our northern and southern regions that cover from Michigan to Georgia are performing well in this environment, and seem to be not as impacted as some of the other areas. However, we to experience gas outages during the final couple of weeks of the quarter, which did impact performance. Those issues now seem to be resolved.

New cars are still being sold, and as this downturn plays itself out the next few months or even the next year or so, Sonic is positioned to handle the lower SAR. Our processes in F&I, pre-owned, fixed, internet, marketing, and our expense control capabilities, give us a competitive edge.

To review the quarter in detail, I am now turning the call over to Dave Cosper. Dave?

Thank you, Jeff, and good morning, everyone.

EPS for the quarter for continuing operations was a loss of $0.24, down from a profit of $0.68 last year. Included in the results are the impact of Hurricane Ike that hit our Houston stores, and noncash impairment charges. The hurricane disrupted operations for about ten days in September, and reduced diluted EPS by $0.08. Impairment charges for the quarter totaled $0.49 for continuing operations and $0.27 for discontinued operations, and these largely reflect franchise and fixed asset impairments, and lease exit costs.

Given the dramatic changes in the business environment in general, and our business and the market value in particular, we undertook evaluation analysis of goodwill recorded on our books. We concluded there is not an impairment of goodwill. As part of this analysis, however, we also reviewed franchise assets and fixed assets at the store level, and we concluded there were some impairments concentrated heavily in our domestic stores. Excluding these charges, we earned $0.25 a share in the third quarter, and $0.33 a share excluding the hurricane impacts. I want to note that our reported EPS numbers may move slightly when we file our 10-Q, as we nail down the impact of our 2002 converts in the EPS calculation. This does not impact the $0.25 and $0.33 a share numbers I just discussed.

I kind of view the quarter in three parts. First, in July and August, we were profitable with an operating margin of 3%, essentially a continuation of what we saw in the second quarter. Second, in September it was a tough month, given the hurricanes and frankly a further drop in sales volumes, but operationally we made a small profit. And third, the impairment charges taken in the quarter, which essentially are noncash valuation adjustments reflecting the awful business environment. Business in October has improved, and looks a lot like July and August. I will talk more on actions we're taking on some later slides.

Next slide, please. Our discontinued operations loss was roughly $14 million. As you can see on the slide, about $12 million of this relates to noncash impairments, including lease exit accruals at two dealerships, one in California and the other in Georgia. Operationally, there was a loss of $2 million; while still a loss, it is an improvement from the prior year. In total, we have 12 operations remaining in discontinued operations, and hope to sell them over the next year for roughly $20 million to $30 million.

Next slide, please. This slide shows same-store sales performance for the quarter. Total same-store revenue declined 16.4% compared with last year, and within that wholesale revenue declined nearly 29%, as we continue to keep more of our trades. New retailer revenue was down $224 million or nearly 19%, and accounted for 2/3 of the overall revenue decline. New retail volume was down 19.2% compared to the industry decline of just over 23%. Used retailer revenue was off approximately $28 million, which principally was volume-related, and while our overall used retail volume was down, our CPO performance continues to be a bright spot, up 15.5% for the quarter. CPO was 41% of our total used retail volume.

Our F&I story continues to be a good one. On a per unit basis, F&I was up $16 or 1.7%. Our [standard] venue and our focus on customer satisfaction and reduced turnover have really paid off for us. But due to retail volume declines, total F&I revenue was down 13.6% for the quarter. Fixed operations revenue was also down, and lower warranty continues to be the largest factor in this decline. The customer pay revenue was also down as well, and I will expand on this in a moment.

Next slide, please. SG&A as an expense as a percent of growth was 93.8% for the quarter, obviously this includes the impairment charge and also includes the impact of the hurricane in Houston. Excluding both of these factors, SG&A was 79.8% of gross, up from 77.9% in the second quarter. In July and August SG&A averaged 78%, which essentially was the same rate that we ran in the second quarter. With all of the cost improvement actions we're taking, I would expect to run below this level even with the depressed volume, and we will be poised for sharp profit improvement as volume comes back.

Please turn to the next slide. As you can see on the slide, customer pay revenue was down 2.8% for the quarter. Within this, our Quick Lube business was up 33%, while our traditional customer pay levels were off. The decline was most pronounced in our domestic stores, which accounted for 80% of the customer pay decline. Our domestic customers are putting off major repairs and resisting upselling.

In contrast we experienced increases in customer pay revenue with Toyota, Mercedes, Lexus, BMW and Honda. Same-store warranty revenue was off 7.3%, while many brands experienced declines and Mercedes stores accounted for nearly half of the overall decline in warranty. For the quarter, same-store fixed operations gross profit was down 5.2%, reflecting lower volume and margin. Although margins were down 70 points - 70 basis points from last year, they have held steady for the last three quarters, and we expect them to remain flat in the near term.

Next slide, please. We talked to - we ended the quarter with a 60-day supply of new vehicles, almost ten days better than the industry as a whole. As you can see, our domestic brands are in good shape and our import stores are in very good shape. Luxury inventory is a bit high for us, although we improved from June and we're better than the industry. The majority of the issue is slow sales for Cadillac, Land Rover and Lexus, and we are working through this.

In terms of car and truck mix, 52% of our new vehicle inventory is car, and 48% is light truck. In June, truck was 51% of our mix. We have lowered both truck and SUV inventory. We are very pleased with the way the team is managing used inventory, and we ended September with a 32-day supply. Additionally, only 28% of the inventory was, which we feel great about considering how many we took in on trade. We bought them smart and sold them quick.

Next slide, please. On this and the next several slides I will talk about cash, liquidity and debt status, obviously important issues for all businesses these days. The most important point on this slide is the increase in mortgage funding. During the quarter, we closed on $39 million of cost-effective long-term financing with BMW Financial and Toyota Motor Credit. We also reduced our total debt during the quarter by $8 million. The increase in our debt to cap ratio reflects the impact of a noncash impairment charge taken in the quarter.

Next slide, please. This slide shows our revolver balance and revolver availability for June and September. As you can see, our borrowing on the revolver declined by $46 million, from $115 million in June to $69 million in September. As I mentioned, we closed on $39 million of mortgages in the quarter and we generated additional cash as well, despite the weak sales environment. We used these funds to pay down our revolver. In lock-step with this, our availability on the revolver increased $43 million to $153 million.

As I have indicated several times now, we have two principal alternatives to refinance our 130 million of convertible notes due next May. One, using the public markets should an attractive window open; or two, using our revolver if the credit markets are difficult. During the third quarter, we purchased $5 million of the $130 million in notes in the market, and we bought them at a discount. Earlier this month, we purchased an additional $20 million of the notes. So as of today, we have $105 million of the notes outstanding. The debt markets remain essentially closed, so I am very pleased with the way our team has managed its cash and liquidity, ensuring sufficient availability on the revolver to retire the debt.

Next slide, please. As noted on the slide, we are in full compliance with all of our debt covenants. Note that our current ratio improved in the quarter to 1.23, a reflection of us paying down the revolver. We expect to remain in full compliance with all our debt covenants through 2008 and 2009, as we retire the remaining $105 million of debt due next May. In fact, we have stress-tested our ratios for various economic scenarios, and we have plenty of room.

Next slide, please. I added this slide because we have received several questions about our capital spending, and the impact of owning versus leasing our properties. As you can see, in the first nine months of the year we had $122 million of capital spending, of which $70 million was on land and building to be financed with mortgages. In other words, we will own these properties, and we will not do sale and lease back financing. Note that we closed $57 million of mortgages in the first nine months, providing low-cost financing for these assets.

Traditional capital spending was $52 million for the first nine months, and only $12 million in the third quarter. Our team has been working very hard to prioritize, recalendarize and reduce our spending. We expect spending to remain low this quarter as well, and well into 2009. Cash is king in this market.

Next slide, please. We don't foresee things improving materially in the fourth quarter, and we do not expect the typical sales surge in December. Factoring this together with the great economic uncertainty we are facing, we are providing EPS guidance of $0.10 to $0.20 for the fourth quarter. We feel that margins will continue to be tough for both new and used vehicles. We believe that new margins will remain soft but begin to stabilize this quarter. Industry-wide inventory levels are still on the high side, but stock is coming more in line with consumer demand, and this should help.

For used, typically we source the majority of our vehicles through trades. But with low new vehicle volume, we are relying more on auction purchases, which typically result in lower margins. Also we will continue to grow our CPO business. As you know, gross is good on these vehicles but margins are lower. We expect F&I to be flat for the quarter, and fixed operations volume and margin to be essentially flat as well. Basically, more of the same. On the bright side, we are making money and generating cash, and the actions we are taking to improve the business provide some good opportunity for us.

With that, I will turn the call back to Scott.

Thank you, Dave. Many of you have been trying to understand what our industry and more specifically what Sonic Automotive looks like if the SAR stays around $12 million to $13 million for several years. We have been dealing with these same questions internally, as we model out our company for the long term. Although we think the operating environment will begin to rebound as we head into 2010, we are prepared to operate as if it won't.

If this downturn continues for an extended period of time, we believe that several things will happen. First, the number of dealerships in the industry will shrink, as smaller dealerships begin to close. So the sales per dealership will remain steady or go down slightly, maintaining throughput. The brand mix will continue to migrate toward the import and luxury segments of the business as domestic manufacturers continue to reduce capacity, and we believe that this benefits Sonic Automotive, given our mix of dealerships. The parts and service business will begin to stabilize, as customers can run but they can't hide from repairs and needed maintenance in the short term, but eventually these vehicles will need the maintenance. We have already learned in the current environment that our parts and service business is not nearly as volatile as the new vehicle sales. And our expense structure will continue to decline, as we discussed in the beginning of the call.

We have run several scenarios assuming the SAR stays around $12 million, and have come to the conclusion that at these levels we will be able to sustain a net profit of $25 million to $50 million per year. As Dave discussed, we have plenty of room on our EBITDA-based debt covenants, and I am confident that we are making much better decisions for the long term and have adopted sound investment principles. We have emerged from the quarter a stronger and - with a stronger and more secure future.

And before we take your questions as always, I want to give my sincerest thanks to our Sonic associates. Their continued hard work and dedication are carrying through this challenging time. Thank you team. It is an honor and a privilege to lead our Company.

Lastly, the directors of the company review the dividend quarterly and will act accordingly in the best interests of the Company and shareholders. The dividend will remain unchanged for the quarter at $0.12 per share, payable on January 15th, 2009 for shareholders of record as of December 15th, 2008.

At this time, if you promise not to ask questions about our telephones, we will open the call.

(OPERATOR INSTRUCTIONS)

Your first question come from Rick Nelson with Stephens.

Good morning.

Hi, Rick.

You referred to improvement in October looking more like July and August. What is contributing to that? Is that Houston bouncing back or is it other factors?

Well, it is certainly improving a little bit versus September, Rick, and I think that was the nature of my comments. It is close, but maybe a little soft from what we saw in July, but more like a July/August run rate.

Okay.

Houston is picking up. Our service is very strong there. Jeff, you may want to comment on new sales there.

Yes, Rick. The Houston market is certainly making a difference both from a new perspective and used cars. We have [pent-up] demand in the Texas market, and that's starting to play out a little bit. We expect that to continue to play out as we go across the fourth quarter.

Dave, In terms of market covenants, are they going to prevent you from doing much more in terms of buying out some of the leases?

Not the covenants per se. There is an overall basket capped at $200 million in the credit facility that we negotiated with the syndicate. We are at 115, 120 something like that. So there's a fair bit of headway to go. So I don't see that being an issue.

Got you. And cost cuts, out of $12 million, that's an annualized run rate I take it, how much of that would show up here in the fourth quarter?

About 25 or 30% of that.

Actually, the regional -

The regional structure is done and that's, that would be probably - it is still 25 or 30% because we did it in the middle of the year. So we will pick up half of the regional structure redo for the last six months of the year.

But all for the fourth quarter?

Yes.

Okay. And the asset impairments, can you identify the dealers of those? Who they're associated with? Are they primarily domestic stores?

They are, in fact, yes. Across the board.

And in terms of service and parts, are you seeing any evidence that the consumer is trading down to shopping less expensive alternatives to the dealer?

Rick, this is Jeff. We are - what we are seeing is that they are spending less and less money on big-ticket items and more and more money on Quick Lube items, oil changes and things like that. Our ability in the processes that we are putting together to upsell off of that, and as we expand on our fixed operations processes over the next few months, hopefully we can take advantage of those customers coming into our shops.

Okay. Then finally in terms of finance, we are reading about [subprime] among the big institutions, is that beginning to show up in terms of auto loans and your credit providers?

It is somewhat. I think it is more consumer confidence than it is anything else, and and as consumer confidence comes back I think we will see that we are able to get financing. It is more in the subprime markets on preowned where we are experiencing that effect. That business has dried up for us, and we've had stores especially in the Oklahoma area that have focused a lot on subprime financing. We are going in and changing process there, to get them to focus in other areas of our business. We are experiencing some of that but it is more subprime than it is anything else.

I would add to that that for our luxury brands and import brands, the captives have done a yeoman's job in supporting us and their share is up sharply as some of the banks have cut back.

Thank you very much. Good luck.

Thank you.

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

Good morning.

Hi, Scott.

Could you maybe talk about your floor plan syndicate, and maybe just give us a quick overview of where you stand? It sounds like you guys are in pretty good shape, particularly with the captives?

Yes. We've got a syndicate in place with 11 or 12 banks. Bank of America is the lead on that, it's a $750 million facility and also has $150 million of used capacity in it. It is operating fine. There's no issues. We -- the maturity date for it is 2010, February, I think. We will probably start talking with the bank in the middle of next year on that. But we have not experienced any issues with that whatsoever.

Do you have any open lines right now with any of the Big 3 captives?

Yes. Scott, this is Greg. We have a few silos with Ford Credit and GMAC. We also have some silos with BMW Finance and Mercedes Finance. And again, as Dave said, those seem to be moving a long. We've seen a little bit of rate increase from some of the domestics, but nothing overly substantial. And I think as we get further out and start to talk to our syndicated facility, we will plan for the long term as to what we want to do with those silos.

All right. And I think I missed part of the call, but did you say that you paid down $30 million worth of the convert that's coming due in May?

$25 million to date, Scott.

$25 million. Okay.

$5 million in the third quarter and $20 million earlier this month. The balance now is $105 million.

And the plan would be to pay down as much as you can you have to make a decision on how to finance that?

Yes, we've had some restrictions on how much we can pay, but yes, the plan would be to retire more of that as can, as we're able. Because we are doing it at a discount, a slight discount.

All right. The way things stand right now, you have enough capacity to take that on in your revolver if you have to?

That's correct. That was the one slide I had in there showing how we've bumped up our availability with the actions we've taken.

Great. And the last question, Scott, I think at the end of your prepared remarks you made a comment about if we have - it the $12 million SAR for a long period of time, did you $25 million to $50 million of net income?

Yes.

That's all I have, thanks. Thank you.

Your next question comes from Matthew Fassler of Goldman Sachs.

Thanks a lot. Good morning to you. A couple of questions here. First of all, can you just talk about what kind of exposure think you have on fixed margins? To the extent that you see on going declines in the parts and service business, do you feel like you bore the brunt of it in Q3 or could there be some more exposure, just given the fixed-cost nature of that business?

Well, from what I see, Matt, our margins are down versus last year, but they have been flat for three quarters in a row, and I see it stabilizing. If I go in and look at the numbers, customer pay was actually down 0.2 of a point, 20 basis points, and that's a big driver of our business. I don't see huge risks in our fixed ops margin.

Thank you. What about F&I, PVR, one of the things we are obviously seeing and hearing about is tougher LTV requirements from financing sources, and consequently perhaps some of the dollars that might have been around to fund some of the more marginal F&I expenditures might not be there these days. Are you seeing any impact from that?

Not really. I mean year-over-year we are up. We have seen some sequential decline, and some of our interest rate profit is - as the captives have picked up shares, it has hurt a little bit sequentially. But I see that kind of leveling off.

Matt, it is Jeff Dyke. We also are focusing on our products that we are able to sell in F&I, and those products are increasing, our products per car penetration is rising up. So we expect our PUR to stay somewhere in that $1,000 area at we talked in our slides.

Got you. And then just looking at the covenants on the credit facility, I believe you have got a fixed charge coverage ratio and the senior secured leverage ratio. Can you tell us where you stood on each of those again in the third quarter, please?

Yes. That's actually in the slide deck. We had some issues with the call, so you may have missed that part. The fixed charge coverage was 1.65.

Yes.

It needs to be greater than 1.2.

Yes.

The debt to EBITDA was .82, and it needs to be less than 2.25.

Got you. Sorry we missed that. Thank you.

There was a lot of room in there.

Okay.

Your next question comes from John Murphy of Merrill Lynch.

Morning, guys. Just first on - Dave, you mentioned something that there was - this loan coming due, or the convert that's coming due in May of '09, but there's also another piece coming due in 2010. Was that just the floor plan facility that you are talking about?

Well, there's a convertible due at the back end of 2010, November, the four and-a-quarter converts, $160 million.

Okay. Then just on this floor plan facility, what we have seen in the past is that the captives have often liked to have the floor plan facility in-house and given favorable allocations based on that, in particular GMAC and Ford Motor Credit. Are you seeing a day and age where this is changing, and that this outside conduit floor plan facility of these other banks is the way you are going to go, and you are not going to be floor planning with any of the - at least the domestic captives?

No, I don't see that. I think we will always have a great relationship with the captives. In fact some are, depending on the captive, moving more of the floor plan back to the captives. It varies by manufacturer, of course, domestic versus import, but there is always going to be a strong relationship there.

Do you see that being more selective than it has been in the past? We have seen some large Chevy dealers lose their lines. Is that something that they are being more selective on these days?

Yes, I don't know what was driving - I assume you are talking about the GMAC pulling the line with the Heard Group.

Yes, Bill Heard.

I don't know what drove that, but it is a highly unusual event.

Okay. Then just on the cost-cutting that you have in place right now, I'm just wondering if that was it or if there might be any more coming in the future? And as you are thinking about setting up that program or potentially future programs, what kind of market are you thinking that we will be in next year? What's sort of SAR run rate, maybe not even next year but even in the fourth quarter? What is your SAR run rate operating base case that you are using?

We are planning on more of the same, basically flat, a $12 million kind of run rate. Jeff may want to talk about this, but as we are going through the budgets for next year, we are looking at structural opportunities that we see in the nonvariable arena. I mean our business is highly variable, the way we have it cost structured. So a lot of it comes out naturally without, you know, tremendous work, but we are going after structural savings as well. Jeff?

Yes. John, one of the great things about our company is from a SG&A perspective it is an ongoing focus item. So while there's certainly opportunities there, we have built all of our budgets kind of using a baseline SAR of $12 million for next year, and we are structuring our cost initiatives around that. Maybe there's a little more there, but quite honestly I think we have been doing a pretty good job from a cost perspective. We got a little out in the third quarter, and maybe there's a little more in the fourth quarter, but as we see it we are pretty steady as we move into next year.

And when you stress - I'm sorry. When you stress-test those levels, what do you think on the down side, and it is more out of curiosity than anything else, it is a very tough thing to call these days, but when you think about stress-testing it to the down side and what you may have to do, what are the levels you guys are looking at?

In term of the SAR?

Yes.

We are just grabbing at straws there, John. Your guess is as good as mine, maybe it is a 10 or 11 SAR, but nothing - we don't see anything below that.

Which is kind of -

You are going will you the mechanics of that as you are going through these cost-cutting programs though, correct?

Absolutely.

Okay. Then just lastly on your CapEx next year, if we do go into sort of this draconian scenario of a really rough SAR below $12 million, what is your ability to pull back on CapEx? And if we had to go to pure maintenance CapEx and no expansion CapEx at all, what level would we be at?

Yes, we are close to that level now, operationally. I think we have worked extremely hard at seeing projects we can push. The nice thing about this business is as you can stop and - if you have to. And I think maybe $12 million, $15 million would be a normal kind of expense level. It may even be a little less than that, but for the full year if you had to really pull in your horns.

That's blacktop and signage basically; right?

Yes. And maintenance items, safety items, things like that.

Okay.

What we are looking at, we have got a couple of major projects that we would like to proceed with. We are looking to having basically construction loans put in place, so you are not out the cash, you sort of draw as you go, versus waiting until the end, you know, and the facilities up and complete and putting a mortgage on that. So we are looking at everything that we can do to ensure we have liquidity.

And we are holding our manufacturers equality accountable on these facility projects. If they're applying significant pressure to us to increase capacity or what have you, we are applying the same pressure for them to finance it at a very reasonable rate. I mean if they won't invest in their own facilities, why would we?

Okay. And you are finding those kind of discussions are a little more free forum and open than they have been in the past, I mean they have been more receptive to that type of pressure on the push back?

Significantly more receptive.

Okay. Great. Thank you very much, guys.

You bet.

Your next question comes from Rich Kwas of Wachovia.

Good morning.

Morning, Rich.

Just on the - when we are looking at the $0.10 to $0.20 for the fourth quarter, you talked about - Scott, you talked about $25 million to 50 million in net for the year in a $12 million environment. $0.10 to $0.20 gets you to $0.40 to $0.80 on a run rate basis. Is the major difference between the $25 million to $50 million net and your run rate in the fourth quarter is that you haven't achieved all of the expense savings in the $12 million pool that you have identified?

No, there's some of that and there's probably a little dose of conservatism in those numbers, frankly, given the environment we are facing and the uncertainty.

Okay. For the quarter?

Yes. I mean having moved guidance a couple of times, it is a little tough to set guidance again.

Rich, it is Jeff. Consumer confidence is so low, it is just very difficult to predict.

Yes. Sure.

Rich, if you go back to Q3, it is like $0.32, $0.33 if you make adjustments, pull out impairments, pull out the hurricane. So the $0.10 to $0.20 looks a little light, doesn't it, versus that?

Right. Okay. Fair enough. And then when you look at the franchise impairments, how much - what's the risk there's further here on the - further impairments on the domestic dealerships, and what would cause you to have to take an impairment charge to any of your import of luxury dealerships?

We took a pretty good look at all of our stores, and we did it store by store for franchise and the fixed assets. Greg, I don't know do you want to --

Rich, I would just add you have to remember the way the accounting rules have changed, not all of our domestic dealerships have franchise values associated with them. It is basically every acquisition we may post-July 2001. So most of those acquisitions have been more luxury and import-oriented. So we did a pretty good job of some - this quarter, looking at our domestic stores that have been losing some money in recent years and writing those assets off, but the vast majority of our domestic stores don't have franchise value associated with them.

So there's fairly limited risk going forward?

I would tend to think so, because the luxury stores are still profitable, they are still cash-flowing. We will look at a few of our Cadillac stores over the longer term, but the ones that still have franchise values associated with them have been profitable, even in the current environment. So ...

Okay. And then Dave, remind me, I think after the year end you can pay down another $25 million of the convert once we get in 2009, is that correct?

That is correct.

Okay. So you could reduce that to approximately $80 million when you get into May of next year?

Yes. I think it is very prudent to prefund at a discount. It makes a lot of sense.

Okay. And then finally on the current ratio, if you indeed do use the credit facility, how does that affect the current ratio from the second quarter of next year? I mean you are going to have reduced availability on the line of credit, that's not going to be an add back. So how do we think about that?

That is true. We are looking at a number of ways to approach that, and raise funds. But we are confident that we can navigate through that.

Okay. So potentially you could have asset sales, divestitures to kind of offset and mitigate the use of the credit facility to fund this maturity?

Yes.

We do have some - as Dave said, we do have some stores in [disc ops] , Rich, and we are sitting on some pieces of nondealership land and things like that that we can sell

Okay. So the expectation is that you wouldn't necessarily have to use all of that facility to fund this maturity?

Correct.

Okay. All right. Thank you.

Your next question comes from Colin Langan of UBS.

Thanks. Looking at your liquidity right now, it looks like you have like $160 million when you combine with the [balance] on the revolver and your cash. And if you have $105 million due, how much cash - that sort of leaves you with about $55 million in sort of available cash. How much cash do actually need to operate your business?

About 30 to 40, Colin. And that is probably high, but I like some flexibility. I think - I don't want to get too tight. So --

And how much cash did you - did you generate positive operating cash this quarter?

We did. We paid down debt. I think $8 million, something like that, on top of everything else.

Okay. Any sense of how much - I guess is there a number, do you have a cash - operating cash flow number?

Not in front of me, no.

And do expect, with lower SAR expectation, that in the fourth quarter cash would be positive as well?

Yes, we took a look at what '09 might be if we stayed flat, and what our free cash flow could be, and after CapEx of $25 million, we think we can generate free cash flow of $40 million to $45 million.

And that's next year, with a low SAR?

Yes.

Okay. Have you seen any issues with manufacturers' assistance with your financing? Have they been, you know, trying to cut it back or -

On floor plan financing?

Yes. Yes, sir.

Floor plan, no. Some minor rate adjustments, a few little tweaks here and there but nothing substantial.

Is that a risk going forward? How does that work? Does that have renegotiated or is that an ongoing negotiation?

With the manufacturers, it is just sort of the program they offer. We don't really negotiate with them, they offer the same plan to everyone.

Okay. And then in terms of your - you mentioned the your fixed operating strategy. How much cash costs will that - there be next year, and where should we see the benefit? Is that more of a revenue benefit, or will be there actually be some margin improvements as a result?

We will have - there's no cash costs, and it is both revenue and margin improvement.

And we will start seeing those the first quarter of next year?

Actually we will start - you should start feeling some of the benefit of a few of the things that we have done in terms of expense and margin-related items in the fourth quarter of this year.

Are there any covenant restrictions that would prevent you from selling dealerships to raise cash, or - are there any rules around that? I know you have some discontinued?

No.

And what is the status of the ones you have in discontinued ops? You have sold how many and how many are left to go?

There's 12 stores there. We are selling, hopefully, one today as we speak, or tomorrow, this week. It will generate $8 million or $9 million of cash. There's another one closing later, probably in November. I see four fingers coming up. We have leads on a couple others beyond the ones I just mentioned.

So you have 12 available now, and you started the year with how many that you are trying to sell?

We have probably sold three or four.

When is your target to sort of sell the rest? Is that going to be delayed by the weak market, or is that going to be -

It's a little more but it's within 12 months.

All within 12 months. Okay. That was my last question. Thank you very much.

All right, Colin.

(OPERATOR INSTRUCTIONS)

Your next question come from Sasha [Bernier] of Stone Gate Capital.

I retracted the question. My question has been answered.

Thank you.

Thank you.

Your next question comes from Chris [Gaffin] of Faircourt Valuation.

Good afternoon, guys. I am just going mention two words and maybe you could just tell me whatever pops in your head. Share buyback.

I immediately reached for my wallet.

Is there anything that you guys could spend money on in terms of capital expenditures, buying dealerships, whatever, that would give us a better return than buying back our own stock at $2 and such?

No .

Are we going to maybe do something? (Laughter) I'm hearing about all of these things, you know, you know.

The company doesn't have -

By the land under our dealerships, and all of that stuff. I'm wondering why we want to buy the land under a dealership instead of just buying back some of our own stock?

Buying back the land is really a noncash event, because we come in and put mortgages on top of it. We are looking at the balance sheet. As we said, it is very tempting to want to buy back the stock right now, and that obviously would be the best return to shareholders at this point in time in our view. But we have a broad number of people that we have to satisfy, one of which is we want to maintain our liquidity to take off these notes in 2009. So, those -

That's really it.

That's really the main thing.

And the ability to take those out. I mean, if I the personally had the dry powder, I would go and I would load the boat.

Okay. Thanks very much, guys. Good luck.

Thank you.

Your next question comes from Marshall [Pitcher] of Edge Asset.

Good afternoon, guys.

Hi.

Hi.

I apologize, I came on the call a little late, if this has already been addressed but Dave, looking at your debt covenants, I believe if memory serves you got a waiver back I think in May, the definition of fixed charges I think included that convertible maturity, and if you hadn't gotten the waiver you would have been in violation, is that correct?

No, there wasn't a waiver, Marshall. That was just an amendment to our facility, I believe is what you are referring to, and it just clarified for calculation purposes when those notes go into the calculation.

Okay. So, it has been amended. There's no need for November - for that issue to be addressed?

That was done earlier in the year, just as kind of a clean up to the documentation.

Okay. Okay. So then the timing then for the retirement would be in May of '09?

That's correct.

Okay. All right. Thank you very much.

Your next question comes from Paul Kerry of Fountain Capital.

I was wondering, Scott, maybe if you expand a little bit on comments you made earlier discussing the status of the industry as we look at the potential for some of the manufacturers to be merging potentially? I realize that the - and that's primarily a domestic brand issue, but could you talk about how Sonic, and more specifically maybe the publicly-traded dealers, would fare in that environment, if we were to see a merger of the brands?

Are you speaking about Chrysler and GM?

Yes.

Well, I think it is a possibility that - from what I hear, that it may happen. We have very low exposure to Chrysler. I think the world of the GM management. I think they've had a lot of legacy issues that they've had to try to overcome, and I believe that the only reason why they would do a merger is because they believe that it is in the best interests of the company. Jeff?

Paul, Jeff Dyke here. One other thing is that if something like that were to occur, there would be fewer stores in the marketplace, which would bolster our ability to perform better. So that would be a positive coming out of that.

And maybe coming from exactly the opposite direction, if say for example one of your brand manufacturers were to go bankrupt, given franchise laws, what is your expectation as to how that process might proceed?

Boy, that would be highly speculative, but if one of them were to go into bankruptcy, I would imagine that it would be an operational - the company would remain operational, and obviously they would still need dealers to sell and service their vehicles, as whatever transpired in that restructuring worked its way out.

Okay. One last question, and that is with some of the impairment charges that you are taking, there's been some discussion, and I am not sure if it is correct or not, that if impairment charges were to continue, and I realize you have said that they're probably more - you know, if there are any, they're slight if anything, but they could have an impact on your covenant calculations. Is that true?

They don't actually hit our covenant calculations.

They're all add backs for EBITDA as its defined in our debt calculation.

Okay. That's all I have. Thanks very much.

You have a follow-up question from Rich Kwas of Wachovia.

Hi. Just quickly, what is your restricted payments basket, Dave, at the end of the quarter?

Under our indenture, Rich? Is that the one you are talking about?

Yes, whatever you could do. If you wanted to repurchase shares, what -

Yes, I think under the indenture, I think we are still well over $100 million the last time we looked, Rich.

That's exactly right. We have $40 million-odd to authorize.

Okay. Great. Thanks so much.

There are no further questions at this time.

Great. Well, thank you, ladies and gentlemen.

Thank you.

This concludes today's conference call. You may now disconnect.