Sonic Automotive, Inc. — Q3 2015 Form 10-Q
Reporting period: Three and nine months ended September 30, 2015; filed October 30, 2015. Amounts below are in U.S. dollars; financial statement amounts are in millions unless stated otherwise. Sonic operated 117 franchises in 13 states, 18 collision repair centers, and three EchoPark locations.
Financial performance
| Metric | Q3 2015 | Q3 2014 | Nine months 2015 | Nine months 2014 |
|---|---|---|---|---|
| Revenue | $2,494.4 | $2,355.6 | $7,153.7 | $6,845.3 |
| Gross profit | $360.3 | $341.5 | $1,050.8 | $1,017.4 |
| Operating income | $62.9 | $56.9 | $147.5 | $171.1 |
| Continuing-operations income | $27.1 | $24.6 | $56.6 | $71.6 |
| Net income | $26.5 | $24.7 | $55.3 | $71.1 |
| Diluted EPS | $0.52 | $0.47 | $1.08 | $1.34 |
| Operating cash flow | Not presented quarterly | Not presented quarterly | $131.4 | $155.5 |
- Q3 revenue grew 5.9%; gross profit rose 5.5%, and net income rose 7.3%. Approximate gross and operating margins were 14.4% and 2.5%, respectively, versus 14.5% and 2.4% a year earlier.
- For the first nine months, revenue increased 4.5%, but operating income fell 13.8% and net income fell 22.3%. Approximate gross margin was 14.7% versus 14.9%; operating margin was 2.1% versus 2.5%.
- Q3 diluted EPS improved despite weighted-average diluted shares declining to 50.8 million from 52.6 million. Nine-month diluted EPS declined year over year.
- Parts, service and collision repair revenue increased 7.6% in Q3 and 4.7% year to date; gross profit increased 9.3% and 6.2%, respectively. Finance, insurance and other revenue rose 11.4% in Q3 and 8.7% year to date.
- New vehicle gross profit per unit declined 7.0% in Q3 and 8.5% year to date. Used vehicle gross profit per unit declined 8.5% and 2.8%, respectively. Wholesale vehicle losses widened to $2.5 million in Q3 and $5.4 million year to date.
- EchoPark generated $22.1 million of Q3 revenue and $58.7 million year to date, but recorded a segment loss of $3.5 million in Q3 and $13.8 million year to date.
Balance sheet, debt and liquidity
- At September 30, 2015, cash was $2.5 million; total assets were $3.29 billion and stockholders’ equity was $693.2 million.
- Long-term debt, including current maturities, totaled $827.6 million, up from $773.4 million at December 31, 2014. This excludes floor-plan debt: trade and non-trade floor-plan balances totaled approximately $1.284 billion.
- Reported available liquidity resources were $287.2 million, including $152.6 million available under the revolving facility, $58.2 million under used floor-plan facilities, and a $74.0 million floor-plan deposit balance. Cash itself was low.
- Sonic reported compliance with credit-facility covenants. Actual versus required ratios: consolidated liquidity 1.20 versus minimum 1.05; fixed-charge coverage 1.78 versus minimum 1.20; lease-adjusted leverage 4.13 versus maximum 5.50.
- Operating cash flow was $131.4 million for the nine months, down from $155.5 million. Investing used $124.4 million, primarily for property and equipment; financing used $8.8 million. Capital expenditures were $127.1 million, and construction commitments were $63.3 million.
Changes, outlook and risks
- Growth was led by higher retail vehicle volumes, fixed operations and F&I. Management attributed lower new-vehicle margins in part to transparent pricing and a strategy to gain market share and support used-vehicle sourcing and fixed operations. Rising used-vehicle volumes were accompanied by lower per-unit gross profit.
- Nine-month impairment charges were $16.7 million, versus $0.2 million in 2014, related to a franchise disposal, website and software costs, and abandoned construction projects. Q3 impairment was immaterial.
- Management expects a continuing-operations effective tax rate of 38%–40%, before unusual discrete tax adjustments or valuation-allowance changes. It expects sufficient cash flow to fund debt service and operating needs for the next 12 months and foreseeable future; no specific earnings guidance is provided.
- Interest-rate exposure is material: Sonic estimated that a 100-basis-point rate increase would have changed nine-month interest expense by approximately $7.7 million, including $6.8 million from floor-plan facilities. Interest-rate swaps had a fair-value liability of approximately $15.0 million.
- Sonic identified the Volkswagen/Audi diesel-emissions issue as a business risk. Five Volkswagen and five Audi dealerships generated $471.2 million, or 6.6% of total revenue, in the first nine months. Sonic stated it believed the dealerships were entitled to indemnification from Volkswagen for related claims, but the outcome and impact were uncertain.
- The company is involved in multiple legal and administrative proceedings; it could not estimate a reasonably possible loss range beyond recorded reserves. It also remains exposed to certain lease and sale indemnities. Seasonality, consumer demand and credit availability, manufacturer performance, competition, and legal or regulatory changes are additional risks.
- The board approved a subsequent dividend of $0.0375 per share for payment in January 2016, subject to stated record-date terms and debt restrictions. Sonic repurchased $32.0 million of shares during the nine months; approximately $47.4 million remained authorized.
Important facts for investors to verify
- Whether Q3 improvement can persist while new- and used-vehicle per-unit margins and wholesale results remain pressured.
- How much of the nine-month earnings decline reflects the $16.7 million impairment charge and other unusual disposal or storm-related items.
- EchoPark’s path to profitability and the continuing investment required to expand it.
- Liquidity and covenant headroom, given low cash, substantial floor-plan borrowings, construction commitments and planned capital spending.
- The potential financial and reputational impact of the Volkswagen/Audi emissions matter and any related claims or indemnification.
- Future interest expense and swap-related cash costs if benchmark rates change; management estimated $3.5 million of net hedge expense would be reclassified into earnings over the next 12 months.