SONIC AUTOMOTIVE INC annual report, FY2013

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Sonic Automotive, Inc. — FY 2013 Form 10-K

Reporting period: Fiscal year ended December 31, 2013. The filing also reports fourth-quarter results; this is an annual filing, not a standalone Q4 report.

Business context and reporting period

Sonic operated 123 franchises across 14 states, representing 25 brands, along with 21 collision repair centers and 102 stores. Its business includes new and used vehicle sales, parts and service, collision repair, and finance, insurance and aftermarket products. The company reports one operating segment.

Financial performance, cash flow and liquidity

  • Revenue: $8.84 billion, up 5.7% from $8.37 billion in 2012. New vehicle revenue was $4.99 billion; used vehicle revenue $2.18 billion; fixed operations $1.23 billion; and F&I revenue $272.4 million.
  • Profit and margins: Gross profit was $1.30 billion, up 5.4%, while gross margin declined to 14.7% from 14.8%. Operating income was $234.6 million, down from $240.4 million; operating margin was 2.7% versus 2.9%. Continuing-operations income was $84.7 million versus $91.3 million, and diluted continuing-operations EPS was $1.59 versus $1.56. Net income was $81.6 million versus $89.1 million.
  • Fourth quarter: Continuing-operations revenue was $2.315 billion and gross profit $338.7 million. Net income, including discontinued operations, was $28.1 million; diluted EPS was $0.53.
  • Cash flow: Operating cash flow was $126.4 million, compared with cash used of $67.4 million in 2012. The filing notes that floor-plan financing classification materially affects reported operating versus financing cash flows; including both trade and non-trade floor-plan changes, operating cash flow would have been $173.1 million in 2013 versus $57.3 million in 2012. Investing cash outflow was $244.5 million, including $88.2 million for acquisitions and $157.6 million in property and equipment purchases. Financing cash inflow was $117.7 million.
  • Debt and liquidity: Total indebtedness was approximately $2.0 billion, including $1.252 billion of floor-plan notes and $748.4 million of total debt. Cash and cash equivalents were $3.0 million. Revolving-credit availability was $126.0 million at year-end; combined syndicated floor-plan facilities had up to $605.0 million of stated capacity. The company reported covenant ratios of 1.16 liquidity (minimum 1.05), 1.83 fixed-charge coverage (minimum 1.20), and 3.96 lease-adjusted leverage (maximum 5.50), and stated it was in compliance.
  • Capital returns: Dividends totaled $0.10 per share in 2013. Sonic repurchased approximately 0.8 million Class A shares for about $17.1 million during the year; $132.5 million remained under repurchase authorizations at year-end.

Material changes versus the prior comparable period

  • Revenue and gross profit grew, supported by higher new and used retail volumes, fixed-operations revenue and F&I per-unit results. Same-store new vehicle revenue increased 5.1%; same-store used vehicle revenue increased 5.1%; and same-store fixed-operations revenue increased 4.6%.
  • Reported new vehicle unit sales rose 2.8%, below the industry’s 7.6% increase. Used vehicle unit sales rose 4.4%; F&I revenue increased 8.8% and gross profit per retail unit rose 5.1%.
  • Wholesale vehicle gross loss widened to $7.9 million from $6.0 million, with loss per unit increasing 37.0%. Fixed-operations gross margin declined 40 basis points to 48.5%, and total SG&A as a share of gross profit rose 30 basis points to 77.1%.
  • Continuing-operations income fell despite higher revenue. Results included a $28.2 million loss on extinguishment of the 9.0% notes and $9.9 million of impairment charges. Sonic issued $300 million of 5.0% notes due 2023 and used proceeds to retire its 9.0% notes due 2018.
  • Sonic acquired two luxury franchises, including real estate, for $88.2 million. Capital expenditures rose to $157.6 million from $95.4 million in 2012.

Outlook, management commentary, risks and unusual items

  • Management estimated 2014 industry new-vehicle SAAR of 15.75 million to 16.25 million units; broader public estimates cited in the filing were 15.5 million to 16.5 million. Sonic said its capital structure and expected operating results should support 2014 liquidity needs.
  • The company planned to launch a stand-alone pre-owned retail operation in Denver in late 2014 and was rolling out its “One Sonic-One Experience” customer initiative. Management said implementation costs for these initiatives and internal-control remediation increased 2013 SG&A.
  • Key risks include substantial debt and covenant/cross-default exposure, refinancing and mortgage balloon-payment needs, sensitivity to interest rates and vehicle demand, manufacturer and franchise dependence, competitive pricing pressure, and potential constraints on acquisitions. A 100-basis-point interest-rate increase was estimated to raise 2013 interest expense by approximately $8.0 million.
  • Other exposures include litigation (approximately $1.2 million accrued, with additional possible losses not estimable), environmental conditions at certain properties, lease and sublease obligations, and a red-status multi-employer pension plan that could create withdrawal liability. Management reported no known material environmental liabilities but cautioned that future or acquired-property liabilities could arise.
  • Goodwill was $476.3 million; the annual impairment test found no goodwill impairment. The company recorded $9.3 million of property and equipment impairment and $0.6 million of franchise-asset impairment. Internal-control deficiencies identified in 2012 were reported as remediated; management and the auditor concluded controls were effective at year-end 2013.

Important facts for investors to verify

  • Reconcile continuing-operations earnings with total net income and assess the effects of the $28.2 million debt-extinguishment loss and $9.9 million impairment charge.
  • Review debt maturities, floor-plan financing availability, covenant headroom and balloon-payment exposure, as well as the sensitivity of earnings and liquidity to interest-rate changes.
  • Assess whether 2013 growth in same-store sales, F&I performance and fixed operations can persist, particularly given lower wholesale results and compressed margins.
  • Monitor the execution and costs of the Denver pre-owned launch and customer-experience initiative, and compare actual performance with the stated 2014 SAAR outlook.
  • Review the full notes on litigation, environmental matters, lease guarantees and the underfunded multi-employer pension plan; the filing does not quantify all potential losses.