Sonic Automotive, Inc. — Q2 2011 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2011. Financial statements are unaudited. Dollar amounts below are in millions unless stated otherwise.
Business context and reporting period
Sonic operated 136 dealership franchises across 15 states, representing 30 brands at 119 locations, plus 24 collision repair centers. Its business includes new and used vehicle sales, parts and service, collision repair, and finance and insurance products.
Financial performance
| Metric | Q2 2011 | Q2 2010 | Six months 2011 | Six months 2010 |
|---|---|---|---|---|
| Revenue | $1,968.3 | $1,722.0 | $3,807.6 | $3,265.7 |
| Gross profit | $309.7 | $282.5 | $600.9 | $548.4 |
| Operating income | $59.5 | $48.3 | $108.1 | $85.1 |
| Income from continuing operations | $22.2 | $9.6 | $37.9 | $16.2 |
| Net income | $21.4 | $8.4 | $36.3 | $12.6 |
| Basic EPS | $0.40 | $0.16 | $0.68 | $0.24 |
| Diluted EPS | $0.35 | $0.16 | $0.61 | $0.24 |
Revenue increased 14.3% in Q2 and 16.6% for the first half. Gross margin was approximately 15.7% in Q2 versus 16.4%, and 15.8% for the first half versus 16.8%. Operating margin improved to approximately 3.0% in Q2 from 2.8%, and to 2.8% for the first half from 2.6%. The continuing-operations effective tax rate was 40.0% in both 2011 periods; management said it expects a 38%–41% rate in future periods.
- Vehicle and service performance: Q2 new-vehicle revenue rose 15.5%, with unit sales up 13.4%; new-vehicle gross profit per unit was $2,245 versus $2,203. First-half new-vehicle gross profit per unit fell 4.0% to $2,146. Used-vehicle revenue rose 14.9% in Q2, but gross profit per unit fell 5.4% to $1,458. Fixed-operations revenue increased 5.5% in Q2, while its gross margin declined 70 basis points to 49.3%. Finance, insurance and other revenue rose 22.3% in Q2, and gross profit per retail unit increased 8.1% to $1,005.
- Cash flow: First-half operating cash flow was $131.4, versus $204.7 in 2010; investing cash outflow was $111.7, versus $9.6; financing cash outflow was $30.5, versus $205.0. Cash declined $10.8 to $11.0. Operating cash flow benefited from lower receivables and inventories and higher payables, partly offset by reduced trade floor-plan borrowings. The filing notes that classifying all floor-plan changes as operating activities would produce operating cash flow of $56.7 in 2011 and $5.1 in 2010.
- Capital spending: First-half property and equipment purchases were $112.7, including $75.2 to buy five previously leased dealership properties; $54.0 of mortgage financing was subsequently obtained. Net capital expenditures after that mortgage funding were $58.7. Construction commitments were approximately $13.0.
- Liquidity and debt: At June 30, cash was $11.0, current assets $1,100.9 and current liabilities $1,028.5. Long-term debt, including current maturities, totaled $607.8; floor-plan liabilities totaled $746.7. The filing reports total indebtedness of approximately $1.4 billion. The existing revolver had $99.4 of availability after $40.8 of letters of credit. Sonic reported compliance with its credit covenants; actual covenant ratios were above stated minimums or below the maximum, as applicable.
Material changes versus prior comparable periods
- Net income more than doubled in both the quarter and first half, supported by higher sales volume and improved operating income. Other expense also improved by about $7.3 in each comparison because 2010 included a loss on debt extinguishment.
- SG&A rose in dollars but improved as a share of gross profit: 77.6% in Q2 versus 79.9%, and 78.7% for the first half versus 81.4%.
- Japanese-brand vehicle supply constraints following the March 2011 earthquake and tsunami reduced allocations and affected sales, margins, customer brand choices and used-vehicle sourcing. New-vehicle supply issues and increased used-vehicle acquisition costs contributed to lower used gross profit per unit.
- At June 30, 2011, no dealership franchises were held for sale. Prior-period results were reclassified for discontinued franchises.
Outlook, risks, contingencies and unusual items
- Management expected Japanese-brand inventory to remain disrupted into the third quarter, with improvement anticipated in late Q3 and Q4. It cautioned that possible manufacturer incentives could affect second-half new-vehicle revenue and gross margins.
- On July 8, 2011, after quarter-end, Sonic replaced its credit facilities, extending scheduled maturity to August 15, 2016 and increasing facility capacity by $234.0. Pro forma revolver availability at June 30 was $105.5 after letters of credit. Availability depends on eligible assets and pledged Speedway Motorsports shares; the agreement includes covenants and potential springing-maturity provisions.
- On July 15, Sonic gave notice to redeem the remaining $42.9 principal of its 8.625% notes at par plus accrued interest on August 16, using cash and available borrowings.
- Interest-rate exposure remains material: a 100-basis-point rate change was estimated to change first-half interest expense by about $2.5. Interest-rate swaps had a $34.7 fair-value liability; approximately $10.8 of net swap expense was expected to be reclassified into earnings over the next 12 months.
- Lease-exit accruals were $43.6 at June 30, including $4.4 of first-half exit expense. The Florida Galura class-action settlement was court-approved and was not expected to materially affect results. A separate Etch-product class arbitration could result in significant costs or damages; Sonic could not estimate a reasonably possible loss range. Other proceedings also remain, with $5.8 of reserves recorded.
- The board declared a $0.025-per-share dividend for Q2 and approved another $0.025-per-share dividend for Q3, subject to applicable debt restrictions and covenant compliance. Sonic repurchased approximately 292,000 shares for $3.9 in the first half.
Most important facts for investors to verify
- Whether Japanese vehicle supply recovers as anticipated, and how incentives affect new-vehicle gross profit and sales mix.
- Used-vehicle sourcing costs and per-unit margins, alongside the volume growth in new and used sales.
- Operating cash generation, capital spending, and liquidity after the new credit facilities and note redemption.
- Debt covenant headroom, revolver borrowing-base availability, interest-rate exposure and swap-related costs.
- Developments and potential exposure in the Etch arbitration and other legal proceedings.
- Whether future dividends and repurchases remain permitted and sustainable under cash-flow needs and debt restrictions.