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Business Context and Reporting Period

Company: AutoNation, Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: March 31, 2010
Business Overview: AutoNation is the largest automotive retailer in the United States, operating 204 stores with 249 new vehicle franchises as of March 31, 2010. The company is organized into three reportable segments: Domestic, Import, and Premium Luxury. Operations are concentrated in major metropolitan markets, predominantly in the Sunbelt region.

Key Financial Metrics

Liquidity: Cash provided by operating activities was $69.6 million. The company maintained a leverage ratio of 2.37:1 and a capitalization ratio of 52.8% as of March 31, 2010, under its prior credit agreement.

Material Changes vs. Prior Period

• Revenue Growth: Total revenue increased 18.6% year-over-year, driven by an 18.7% increase in new vehicle unit sales and a 11.5% increase in used vehicle unit sales.
• Profitability: Net income from continuing operations rose to $58.4 million ($0.34 diluted EPS) from $52.6 million ($0.30 diluted EPS) in Q1 2009. This excludes a $11.9 million gain on senior note repurchases recorded in Q1 2009.
• Segment Performance:
  • Import Segment: Revenue increased 20.7% and segment income surged 70.5%, benefiting from margin recovery and increased sales volume despite Toyota recalls.
  • Domestic Segment: Revenue increased 17.7% and segment income increased 45.2%.
  • Premium Luxury Segment: Revenue increased 16.9% and segment income increased 14.4%.
• Inventory: New vehicle inventory days supply decreased to 50 days from 65 days in the prior year. Used vehicle inventory days supply increased slightly to 39 days from 36 days.

Guidance, Outlook, and Material Events

Debt Refinancing (Post-Period Event): On April 14, 2010, AutoNation completed a significant debt refinancing transaction:

• Issued $400.0 million of 6.75% Senior Notes due 2018.
• Repurchased approximately $263.3 million of "old notes" (Floating Rate Notes due 2013 and 7% Senior Notes due 2014).
• Amended its credit agreement to extend maturities, increase the maximum leverage ratio to 3.25x, and decrease the maximum capitalization ratio to 60%.
• Expected to expense approximately $20 million pre-tax in Q2 2010 related to these transactions.

Capital Allocation: The company repurchased 2.1 million shares of common stock for $37.2 million during Q1 2010. Approximately $219.7 million remained available for share repurchases under the Board-approved program. The company does not anticipate paying cash dividends in the foreseeable future.

Risks and Contingencies:

• Market Conditions: While new vehicle sales rates improved to 11.0 million SAAR, unemployment remains high and housing markets depressed. The company notes a potential adverse impact on parts and service due to a smaller vehicle fleet in operation.
• Toyota Recalls: The recalls caused a temporary sales suspension but ultimately drove a 6% increase in Toyota unit sales and benefited the parts and service business in Q1 2010.
• Legal Proceedings: The company is involved in various legal proceedings but does not believe the ultimate resolution will have a material adverse effect.

Investor Verification Checklist

• Debt Covenant Compliance: Verify the impact of the April 2010 credit agreement amendment on future leverage and capitalization ratios, specifically the new 3.25x leverage limit.
• Refinancing Costs: Monitor Q2 2010 earnings for the expected $20 million pre-tax expense related to the debt refinancing and write-off of unamortized costs.
• Inventory Levels: Track days supply of new and used vehicles to ensure they remain within efficient ranges (50 days new, 39 days used) amidst fluctuating market demand.
• Toyota Exposure: Assess the long-term impact of the Toyota recall resolution on sales volume and service revenue stability.
• Share Repurchases: Confirm the utilization of the remaining $219.7 million repurchase authorization and its impact on diluted share count.