Sonic Automotive, Inc. — 2018 Form 10-K
Reporting period: Fiscal year ended December 31, 2018. The filing also reports fourth-quarter results; figures are in U.S. dollars unless noted. Full-year comparisons are against 2017.
Business context
Sonic operates franchised dealerships and used-vehicle specialty retailer EchoPark. At year-end it had 96 franchised-dealership stores, 108 franchises across 23 brands, 15 collision centers, and eight EchoPark stores in 13 states. EchoPark generated about 7% of 2018 revenue.
Key financial results
| Metric | 2018 | 2017 | Change |
|---|---|---|---|
| Total revenue | $9.952 billion | $9.867 billion | +0.9% |
| Gross profit | $1.446 billion | $1.458 billion | -0.8% |
| Operating income | $177.7 million | $211.6 million | -16.0% |
| Income from continuing operations | $52.4 million | $94.2 million | -44.3% |
| Net income | $51.7 million | $93.0 million | -44.5% |
| Diluted EPS | $1.20 | $2.09 | Lower |
| Gross margin | 14.5% | 14.8% | -0.3 percentage points |
| Operating margin | 1.8% | 2.1% | -0.3 percentage points |
Fourth quarter: Revenue was $2.574 billion, gross profit $370.7 million, net income $21.8 million, and diluted EPS $0.51. Q4 included $15.6 million of pre-tax impairment charges, partly offset by a $0.8 million pre-tax lease-exit benefit.
- Revenue mix shifted: new-vehicle revenue was $4.974 billion (-6.1% reported; -1.9% same-store), while used-vehicle revenue was $2.973 billion (+13.4% reported; +6.9% same-store). Same-store new-vehicle sales volume fell 4.5%; gross profit per unit declined 2.3% to $1,982.
- Same-store used-vehicle gross profit fell 1.8%, despite unit sales growth of 6.9%; gross profit per unit decreased 8.1% to $1,132. Management attributed EchoPark’s lower front-end margin to pricing vehicles more aggressively to drive volume and F&I sales.
- Same-store fixed-operations revenue rose 0.7% and gross profit rose 1.2%; gross margin improved 30 basis points to 48.4%. Same-store F&I revenue rose 7.6%, and gross profit per retail unit increased 6.8% to $1,493.
- Franchised Dealerships segment income was $181.7 million (-7.8%). EchoPark reported a $52.5 million segment loss, including $32.5 million of long-term compensation-related charges; EchoPark revenue increased to $700.2 million from $254.3 million.
Cash flow, debt and liquidity
- Cash from operating activities was $143.7 million, down from $162.9 million. The filing notes floor-plan financing classification affects reported operating cash flow; including trade and non-trade floor-plan changes, operating cash flow would have been $147.5 million.
- Investing activities used $15.3 million, including $163.6 million of capital expenditures, partly offset by $128.7 million of dealership-sale proceeds. Financing activities used $128.8 million. Year-end cash was $5.9 million.
- Year-end total indebtedness was approximately $2.5 billion, including floor-plan notes. Floor-plan balances were $1.534 billion; reported long-term debt, including current maturities, was $945.1 million. The company had $223.9 million of availability under its revolving facility and total available liquidity resources of $231.8 million.
- Mortgage principal was approximately $396.2 million. The company reported compliance with debt and lease covenants at year-end, but covenant ratios were not far above/below all limits: lease-adjusted leverage was 5.25 versus a maximum 5.75; fixed-charge coverage was 1.43 versus a 1.20 minimum.
- Floor-plan interest rates rose: the weighted average rate for new and used vehicle facilities was 3.09% in 2018 versus 2.40% in 2017. A 100-basis-point rate increase was estimated to increase annual interest expense by about $11.5 million.
- Dividends declared were $0.24 per share in 2018. The board later approved a $0.10 per-share dividend payable in April 2019. Sonic repurchased about 1.2 million shares for $24.1 million during 2018.
Material changes, outlook and risks
- Sonic disposed of seven franchised dealerships in 2018, terminated one luxury franchise, and ceased operations at four EchoPark stores; it opened one franchise and three EchoPark stores. Two additional franchised dealerships were sold after year-end for about $108.6 million. Management expected to open one more EchoPark store in Texas during 2019.
- Management estimated 2019 U.S. new-vehicle SAAR of 16.5–17.0 million units; cited analyst expectations were 16.8–17.0 million. Management said actual demand could vary with consumer confidence, financing availability and manufacturer conditions, and stated it believed new-vehicle gross profit per unit had stabilized.
- EchoPark expansion may weigh on near-term results as it consumes capital and management resources. The segment’s reported 2018 loss included substantial compensation-related charges; verify the underlying store-level economics and costs of expansion.
- Impairment charges were $29.5 million, versus $9.4 million in 2017. They included $27.4 million of property and equipment charges—principally abandoned construction and software projects—and $2.1 million of franchise-asset impairment. Goodwill was $509.6 million; no goodwill impairment was recorded in 2018.
- ASC 606 revenue adoption increased reported 2018 operating income by $8.7 million and opening retained earnings by $3.9 million; prior-year comparisons were not restated. The company estimated that lease-accounting adoption in 2019 would add $350–$400 million of operating lease assets and liabilities, without a material effect on future earnings or cash flow.
- Key exposures include substantial debt and lease obligations, variable interest rates, vehicle-demand and pricing cycles, manufacturer supply and incentive decisions, competition and consumer credit availability. Legal proceedings were ongoing; $2.4 million was reserved, and the company could not estimate a reasonably possible loss range beyond accrued amounts. Five California dealerships participate in a multiemployer pension plan in critical status, creating potential withdrawal-liability exposure.
Important facts for investors to verify
- Whether operating cash generation and covenant headroom can support debt service, capital spending, dividends and planned EchoPark expansion.
- EchoPark’s sustainable per-unit gross profit and operating costs, separating recurring performance from the $32.5 million compensation-related charge.
- How 2018 dealership sales, impairment charges and ASC 606 adoption affect comparisons and ongoing earnings.
- The impact of the 2019 lease-accounting transition on reported leverage and balance-sheet measures, and the maturity/refinancing needs for debt and mortgages.
- Potential exposure from legal matters, dealership lease guarantees and the underfunded multiemployer pension plan.