Sonic Automotive Inc (SAH) 2018 Q2 法說會逐字稿

Good morning, and welcome to the Sonic Automotive Second Quarter 2018 Earnings Conference Call. This conference is being recorded today, Friday, July 27, 2018. Presentation materials, which management will be reviewing on the conference call can be accessed at the company's website at www.sonicautomotive.com, by clicking on Our Company, then Investor Relations, then Webcasts and Presentations.

At this time, I would like to refer to the safe harbor statement under the Private Securities and Litigation Reform Act of 1995. During this conference call, management may discuss financial projections, information or expectations about the company's products or market 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 filing with the Securities and Exchange Commission.

I would like to introduce Mr. Scott Smith, Co-Founder and CEO of Sonic Automotive. Mr. Smith, you begin your conference.

Thank you. Good morning, and welcome to Sonic Automotive's Second Quarter 2018 Earnings Call. I'm Scott Smith, the company's Chief Executive Officer and Co-Founder. Joining me on the call today are David Smith, our Executive Vice Chairman and Chief Strategic Officer; Heath Byrd, our CFO; and Jeff Dyke, our Executive Vice President of Operations. I'll provide some brief comments, and then we'll turn the call over for your questions.

For the second quarter 2018, we reported $0.40 per diluted share from continuing operations on a GAAP basis and $0.35 per diluted share from continuing operations on an adjusted basis. We're pleased with our performance in several areas of the business and unfortunately fell short in others.

Some highlights for the quarter. Second quarter record revenue and gross profit of $2.5 billion and $362.4 million, respectively; all-time record quarterly pre-owned retail unit sales of 35,779 units; all-time record quarterly F&I gross profit per retail unit of $1,572; all-time record quarterly F&I gross of $104.1 million; and especially happy with EchoPark stores retailed 7,459 units during the quarter, up 35.2% sequentially from the first quarter 2018.

I'm most proud of the top line revenue growth experienced in our EchoPark stores as we continue to open -- and our ramp-up period is shortening and volumes are building at a more rapid rate. During the second quarter of 2018, our EchoPark operations generated $180.2 million in revenue, retailing, as I mentioned, 7,459 vehicles. This represents revenue and unit growth over 260% from the same period the previous year. Sequentially, on a quarterly basis, EchoPark revenue grew 37% compared to Q1 2018. We will continue pushing EchoPark top line growth as we build up this brand in the markets we enter.

Same-store pre-owned revenue during Q2 2018 in our franchise stores also grew, posting an increase of 6.4%, with the related gross profit increasing 7.9% on a gross per unit basis. Despite the challenges we experienced in the vehicle side, same-store franchise F&I grew 8.8% compared to the prior year quarter and same-store franchise fixed operations gross profit grew 2%, with 1 less selling day in Q2 2018 compared to Q2 2017. On a same-store basis for our franchise stores, we grew new vehicle revenue 1.6%, but we're unable to transition that growth to the gross profit line, which declined 6.3% compared to Q2 2017. We experienced gross compression in several areas of our most popular brands during the quarter. We can address this more fully in our Q&A.

Our growth and financial strategies will continue on the same path that we've been following for some time. We will continue to grow our core franchise business organically. In addition, we'll open 1 Land Rover open-point dealership in South Atlanta later this year, open 2 EchoPark locations in the next 6 months, repurchase shares and real estate opportunistically and reduce our debt. Looking to the future, our current plans are to open 2 additional EchoPark locations by the end of next year.

As a result of our performance thus far during 2018 and the current operating environment, we expect full year 2018 GAAP diluted earnings per share from continuing operations to be between $1.65 and $1.75. On an adjusted basis, we expect full year earnings per share from continuing operations to be between $1.90 and $2. The full year adjusted earnings per share range excludes items such as impairment charges, legal and storm damage charges, long-term compensation-related charges and lease exit adjustments, offset partially by gains from disposal of franchises. Also Sonic's Board of Directors approved a quarterly dividend of $0.06 per share payable in cash to our stockholders of record on September 14, 2018. The dividend will be payable on October 15, 2018.

At this point, we would like to open the call up and welcome your questions.

(Operator Instructions) Rick Nelson from Stevens, please go ahead with your question.

If you can provide some color around this long-term compensation? Add back, it was $23 million this quarter. I know you have something similar last quarter, but it wasn't that sizable. But if this is an ongoing expense, will it be adjusted or...

Yes. Rick, this is Heath. That was related to the acquisition that we did in the third quarter of 2017, and it's not ongoing. And that will be paid over the next 3 years. But it's a onetime event that we called out, because it was related to that acquisition in Q3 of '17.

I got you. And Jeff or Scott, any color around the early learnings? I know you're pushing a driversselect strategy into the EchoPark stores. How that's being integrated?

Yes. Hey, Rick. It's Jeff. The integration is complete. We sort of combined the 2 cultures. We took all of the technology and everything that's going on in EchoPark and combined it with the inventory and pricing at driversselect, and look at the quarter. We actually were profitable in the month of June. We made over $1 million profit in those 7 locations. And we're tracking better than that this month. Like I said on the last call, we expect to be enterprise profitable in the fourth quarter. We're selling a bunch of cars, and it's really clicking, so we're having a lot of fun. And if you look at the top line revenue growth that Scott mentioned earlier, I think it was a 267% growth on a year-over-year basis, and I think the volume was [2 64], something like that. It's just been fantastic. So the transition's gone well. That's all complete. Now it's maximized the volume and the profit in the stores that we have. And then we get San Antonio, we get Houston and we get Charlotte open all this year, and then we'll focus on the additional markets next year. So we're excited where we are with EchoPark.

And (inaudible)

Rick. Yes, this is Scott. Just to be clear, we've got a total of 4 EchoPark stores that we expect to open by the end of next year. And Steve Hall, who is -- he came to us in the driversselect deal and has been just wonderful member of our team now. He kind of phrased it -- interestingly, he said the driversselect model saves customers thousands, not hundreds, and the EchoPark model saves the customer hours in the transaction. And so we've been very successful in combining the 2 cultures to save the customers' hours and thousands. And when we look at the slope of what we're enjoying coming out of EchoPark and driversselect and how much we've been able to increase their business as well, it's been a very good marriage, and we're actually having a lot of fun growing this business.

Got you. Can you discuss purchased products or the economics around driversselect?

No, Rick, that's not something that we're going to share.

Okay. And $1.90 to $2 guidance. What does that now assume for EchoPark losses? Like thinking it's $0.15 for the year-to-date?

Yes. That's right. That's right. And we expect the enterprise to be profitable next year. I think early forecasts are in the 20-some-million range of profitability moving forward, something like that.

No, it's in the $15 million ranges.

Sorry, $15 million.

$15 million in 2019.

In 2019, yes.

And a loss of around $15 million for...

It's a $30 million swing, I think, give or take $1 million year-over-year between now and the end of next year.

And you say those stores are now profitable?

Yes.

Okay. As a group?

Yes. At the store level, yes. They're profitable as a group. Yes. As a matter of fact, 5 out of 7 stores made money last month, and they're all tracking to make money this month. Other one is kind of right on the borderline.

You indicated store level profit was $1,400,000.

The store profit was $1,025,000 for the month of June and tracking better than that in July.

So you should...

So we can finally say the stores at EchoPark are profitable. And that's within our time line and guided range when we first opened EchoPark. And we're very excited because the volume is just -- is going crazy.

So the corporate cost then will produce a loss in Q3 and then...

That's correct.

And then at breakeven in Q4 for profit?

Yes, that's correct.

Bret Jordan from Jefferies, please go ahead with your question.

To your comment on prepared remarks, maybe we can get some more detail as to what was going on in BMW and Honda in the quarter, please?

Yes, sure. Brad, this is Jeff. Look, at Honda, it's all about the Accord and lack of incentives on the Accord there. Anywhere from $1,200 to $2,000. Then we sell 3,000 Hondas a month, and margins were off $250 to $300 a car and cost us about $1 million a month in the Honda stores. So that's a big deal when you look at EPS. And then BMW incentives, a mix of incentives on certain products that are coming in. It's not just that BMW has a lot of incentive dollars out there. It's the mix of those dollars and how they arrive at the store. And that cost us in the quarter about $575 to $600 a car. And given the size of BMW and Hondas are for -- as a percentage of our portfolio, it's 30% of our store mix and 40% of our profit. Those dollars are hard to overcome when it comes to an EPS basis. So it's not that we're selling less cars, we hit all of our projections in terms of BMW volume. We haven't a missed BMW number in 2 years. So we don't miss those numbers in terms of volume. So I'm coming on the margin side. And as a result, it made for a difficult quarter. And while the early returns in July are a little better, then -- but I still anticipate a difficult margin quarter for Honda and BMW in Q3. I think Honda's incentives will lighten up as we move towards to the end of the year. And I believe that the new products being launched for BMW, in particular, the X7. And our markets are going to -- and our big BMW stores, Texas and so forth will enjoy some heavy margin and volume from those product lines. So that's going to help. So we expect Q4 to be better for us in terms of margin. Everything else will click along and all the other brands. Those are the 2 big brands with the 2 big hits.

Hey. This is Scott. I think it's really important to note when Jeff was talking about the mix and margin, the big miss for us was the factory-to-dealer incentives. There's tons of customer incentives that are out there, but the margin that we're getting squeezed on the most is coming from the lack of the factory-to-dealer incentives. That's why our top line was there. And we're still making decent grosses at retail but -- for similar grosses, but we don't have the factory incentives to the dealer.

Okay. Great. And then a question at EchoPark. I think a year or so ago, you were talking about thinking you had critical mass when you had 25 stores up. Now that you've got 7 stores and they're turning profitable, is that number lower now just given the fact that you're outperforming your expectations?

We changed the -- as we've learned, right, we've made some adjustments. The adjustments is lower that our stores -- we're not building as many stores. We're just building stores. We're selling a heck of a lot more cars. Our store in Dallas is doing 1,200, 1,300 cars a month. We're getting over 1,000 cars now out of the Denver market on a monthly basis so -- and the San Antonio market is catching on fire. Market is catching on fire. That's in the 500, 600 car a month range now. We've just been open a few months there. So yes, we don't need as many stores. And as a result, we're selling more volume per store, and the stores are profitable. And some of them, wildly profitable. So it's exciting for us, an exciting time. And we will systematically grow the business as it gets profitable. We're not going to go out and just throw a bunch of stores out there and eat up a bunch of profitability. We're going to do this wisely, methodically, profitably. And we crack the code, we know what we are, and we're in full control of it. So it's a lot of fun. We've worked for a long time. Some of us, the careers were to get to this point. And we're going to enjoy these next few years to be a lot of fun growing EchoPark.

How big are dispersion. You said some of them are wildly profitable? Of the 5 -- of those 7 that made money last month, is there a big -- I mean, it sounds like there's a fairly big spread between the top of the 5 and the bottom of the 5.

There could be $1 million spread. But any time you get a store that's making $0.5 million, $750,000 or $1 million a month or more, you start comparing that around the country to some of the new car dealerships. And I promise you, you're going to have -- you're going to find you'll find it hard to find them.

John Murphy from Bank of America, please go ahead with your question.

This is (inaudible) here on for John. So my first question is on F&I. It was obviously pretty strong this quarter. And I was wondering whether you can talk about what was driving that, and whether you guys think that's sustainable?

Oh, absolutely, it's sustainable. This is Jeff Dyke again. Look, the relationship between JM&A and Sonic Automotive is really paying off. Our F&I numbers at EchoPark are fantastic, and we're executing our playbook process. And we've just done a really, really good job there. Our working penetration is gaining speed in the mid-40% range now, and at EchoPark, closer to 50%. So yes, it's sustainable. And we just keep executing. We keep growing. Our FI teams doing a fantastic job.

Great. That's helpful. So in terms of FI PVR, do you think -- I think you posted [14 80] this quarter on a same-store basis. So do you think that's kind of the upper limit? Or could it be potentially higher?

We think it can go higher, for sure.

Great. That's awesome. So another question, just on the used business. Again, you had pretty strong sales growth this quarter, but gave up some margin on a GPU basis. So can you maybe talk about what was driving that weakness? And was it the function of supply-demand imbalance, or maybe increased competition, or maybe something else?

Yes. To be honest with you, we really don't look at GPU. We look at the total gross dollars that we generate between F&I and the front-end of the car and then we find a sweet spot there. And so we've done a good job of beating our inventory spread. Our days supply runs 28 to 29 days on the Sonic side. And so when we get right into that 28-, 29-day supply range, that's when we see we're generating the most gross dollars, and that could be a $1,300 or $1,400 a car, combined with a great F&I number, at $1,400 or $1,500 a car. So we're really looking at the total gross dollars that we generate. And that GPU could fluctuate up or down. I kind of like it to be in the $1,300 to $1,400 range because I think that's where we get the most gross dollars and maximize the volume. And our guys just did a super, super job this quarter, and it's starting out again that way in Q3. So we're very excited where our used car business is on the Sonic side as well. They're both really doing well, EchoPark and Sonic, from a user perspective, so I appreciate the question.

Yes. That's really helpful. And then a last question for me on the P&S business. And one of your peers have previously cited the shortage of technician as the key limiting factor in that segment. And I was wondering whether you guys see a similar kind of constraint? And if so, what kind of actions are you taking to address that?

In terms of parts and service, we have a strong customer pay in the quarter. We're up 7%. Warranty is what's really hurting us, and that's coming from Lexus, Toyota and Honda in comparison to prior year. Our focus is on customer pay and not allowing warranty to take up shop hours from our technicians. And so we're doing a better job of controlling that, and that's what's driving the customer pay results that we're getting. And of course, as we add facilities and do things, we're adding bays, and that's making a difference. And as we grow our used car business, the internal dollars are growing as well. So we're excited about where we are there. We're making some technology changes there that we could discuss in future quarters that we think will help our service drive perform better and make it more convenient for the consumer. But -- and as we get those kind of things rolled up, we'll talk more about that in future calls.

(Operator Instructions) Colin Langan from UBS, go ahead with your question.

Just a follow-up on parts and services. What is your outlook there? Do you think does it actually start to pick up again in the second half of the year? Or does it kind of breakeven year-over-year on a same-store...

Yes. Hey, Colin. This is Jeff Dyke. I do, in particular, on customer pay. That's where we're driving -- internal's going to grow anyway just because the pre-owned business is really rolling again. Warranty is going to come down, with huge -- all the airbag, all the stuff that went on, unless there something happens more with one of the manufacturers, God forbid, hopefully, warranty comes down. And we just did so much warranty work last year, in particular, in our Honda stores, our Toyota stores that we're having a little bit of a tough time comping over that. But we got great growth in customer pay. It's growing 7%, 8%. So if we can just maintain that and then take the hours that we're dedicating to warranty, and plow that back into customer pay and internal, you should see nice continued growth in the next couple of quarters plus moving into '19.

Got it. And you mentioned this a bit, but on Page 16, you showed used car days as supply coming down quite a bit. So what is the logic of the strategy there? It's just the -- you're -- are you at your target number for days of supply on used?

Absolutely. So when you run that used day supply up in the 35 and 40-days range, it just creates complexity. There was just too many cars, you're not moving the cars through the system fast enough and you can't maximize margin dollars. And so we found that as we get below 30 days supply, we maximize our margin dollars, reduce wholesale loss, maximize our profitability in the department. So you should expect us to be in that 28-, 29-, 30-day supply range moving forward. That's a big push that we made in the first quarter. And you saw some wholesale loss in margin erosion in the first quarter as to -- help get us to that 29-day supply. But then, we had huge growth in Q2, and you're going to see that again in Q3 and Q4 as we move forward. Our used car business is really back on track and rolling, and we're very excited about it.

Got it. And just a sort of follow-up on the questions on BMW and Honda. I think what you said, there's the lack of factory dealer incentives was the big issue at Honda. If the volumes are still there, I mean, do you think that actually sort of come back? I mean, what were the motivation of Honda be to kind of if dealer their still selling their cars then why would (inaudible)

Well, they're not. I mean, that's not really accurate. I mean, our volumes are still there. But overall, if you look at the Accord, I think in Q2, it was down 12% or 15% versus the exact opposite for the Camry. So there's no way that they can continue to produce the Accord and then not bring the incentives. And they just took the incentives away in February-March time frame. And it's eating away at the volume. The Camry is just a cheaper -- it's a cheaper version and we're selling more of those. So it's up 12% or so. So Honda's got some soul-searching to do in order to get to their margins in line if they want to grow that product line. And that sort of hurt us. And you can expect us to move our prices up, which may hurt the volume a little bit. But we're not going to sit back and lose that kind of margin for very long. We'll watch our share real closely, but we need them to make -- they're asking us to make investments in facilities and to spend a ton of money on this brand, we need them to continue to support the heck out of the product that they are building and not make those kind of moves. And so we're certainly having conversations with them, and we'll see how things go. But I think in the very, very near future, we're still going to experience some margin pressures.

And there are no further questions at this time. Mr. Smith, your closing comments, please?

Great. Well, thank you, everyone, for joining us on the call today, and we'll talk to you next quarter.

Thank you. This does conclude today's conference call. You may now disconnect.