Sonic Automotive, Inc. — Q2 2014 Form 10-Q
Business context and reporting period. The unaudited filing covers the quarter and six months ended June 30, 2014, compared with the corresponding 2013 periods. Sonic operated 121 franchises across 14 states and 19 collision repair centers, organized into 102 stores. It reports one operating segment.
Financial performance
Amounts below are in millions of dollars, except per-share data and percentages.
| Metric | Q2 2014 | Q2 2013 | Six months 2014 | Six months 2013 |
|---|---|---|---|---|
| Revenue | $2,353.3 | $2,202.4 | $4,489.7 | $4,285.6 |
| Gross profit | $346.9 | $323.8 | $675.9 | $636.8 |
| Operating income | $63.6 | $62.5 | $114.2 | $117.6 |
| Income from continuing operations | $27.1 | $8.7 | $47.0 | $30.4 |
| Net income | $27.0 | $8.9 | $46.4 | $30.2 |
| Diluted earnings per share | $0.51 | $0.17 | $0.87 | $0.57 |
- Revenue rose 6.9% in Q2 and 4.8% for the first half; gross profit increased 7.1% and 6.1%, respectively. Approximate gross margin was 14.7% in both Q2 periods and 15.1% versus 14.9% for the six-month periods.
- SG&A rose 8.4% in Q2 and 7.9% for the first half, faster than gross profit. SG&A as a share of gross profit increased to 77.5% from 76.6% in Q2 and to 78.8% from 77.6% for the first half. Operating income was nearly flat in Q2 and declined 2.8% for the first half.
- Q2 net income increased substantially year over year partly because Q2 2013 included a $28.2 million charge for extinguishing debt. The filing reports no comparable charge in 2014; the improvement should not be read solely as underlying operating growth.
- Revenue by major stream in Q2 was new vehicles $1,298.8 million, used vehicles $603.9 million, parts/service/collision $329.1 million, finance/insurance/other $76.7 million, and wholesale vehicles $44.8 million. Used-vehicle gross profit per unit fell 7.6% in Q2 same-store results, while F&I gross profit per retail unit rose 5.3%. Fixed Operations same-store gross margin declined 70 basis points in Q2 and 80 basis points for the first half.
Cash flow, debt, and liquidity
- Six-month operating cash flow was $53.6 million, versus $30.3 million in 2013. Investing cash outflow was $19.6 million versus $88.4 million; financing cash outflow was $34.1 million versus $57.9 million of inflow in 2013. Period-end cash was $3.0 million.
- Management notes that floor-plan financing changes are split between operating and financing cash flows based on lender type. Including both trade and non-trade floor-plan changes, floor-plan financing used $32.5 million in the first half; on that adjusted presentation, operating cash flow would have been negative $2.0 million. This makes reported operating cash flow less directly comparable.
- At June 30, total debt in the long-term-debt note was $780.9 million, including $20.4 million of current maturities; floor-plan liabilities were separately reported at $1,207.5 million. Cash was limited, while total stated liquidity resources were $275.9 million, including $117.3 million of revolver availability, $60.6 million of used-floor-plan availability, and a $95.0 million floor-plan deposit.
- After quarter-end, on July 23, Sonic amended its credit facilities: maturity extended from August 2016 to August 2019, revolving availability increased by $50 million to $225 million, and floor-plan availability increased by $195 million to $800 million.
- Sonic reported compliance with debt covenants at June 30. Actual liquidity ratio was 1.21 versus a 1.05 minimum; fixed-charge coverage was 1.82 versus a 1.20 minimum; lease-adjusted leverage was 4.14 versus a 5.50 maximum. Total debt increased from $748.4 million at year-end 2013.
Changes, outlook, and risks
- New-vehicle same-store unit sales declined 1.3% in Q2 and 2.5% for the first half, but revenue per unit and gross profit per unit improved. Sonic said it was reducing low-margin fleet sales. Used-vehicle same-store unit sales increased 5.3% in Q2, while gross profit per unit declined 7.6%.
- Management cited stronger F&I results from improved service-contract and aftermarket-product penetration. It attributed higher SG&A partly to sales-related compensation, hail damage and legal-settlement charges, and investment in the pre-owned and “One Sonic-One Experience” initiatives.
- Sonic expected its continuing-operations effective tax rate to range from 38% to 40% and stated it expected sufficient cash flow to fund debt service, working capital, and operating needs over the next 12 months and foreseeable future. No numeric earnings or revenue guidance was provided.
- The company planned to launch a stand-alone pre-owned retail operation in Denver in late 2014 and was developing its customer-experience initiative. These plans entail execution and spending risk; initiative costs increased SG&A as a share of gross profit.
- Sonic adopted new discontinued-operations accounting guidance in this filing, changing the treatment of disposals that do not represent a strategic shift. Three franchises were disposed of in the first half; two dealerships were classified as held for sale, with disposal expected within 12 months. A $7.3 million disposal gain was reported in continuing operations.
- Key risks include interest-rate exposure (a 100-basis-point rate increase was estimated to raise six-month interest expense by about $4.6 million after swaps), manufacturer and consumer-credit conditions, vehicle demand and pricing competition, seasonality and weather, covenant compliance, and legal proceedings. Sonic could not estimate a reasonably possible loss range beyond recorded reserves for pending proceedings.
Important facts for investors to verify
- Separate the 2013 debt-extinguishment charge and 2014 dealership-disposal gain from recurring operating performance.
- Track used-vehicle gross profit per unit and Fixed Operations margins alongside unit and revenue growth.
- Reconcile cash generation after both categories of floor-plan financing, and assess liquidity excluding the floor-plan deposit.
- Review the effect of the July 2014 credit-facility amendment, variable-rate exposure, and headroom under financial covenants.
- Monitor execution costs and results for the pre-owned and customer-experience initiatives, and any material developments in litigation or dealership dispositions.