Lithia Motors, Inc. — Q1 2014 Form 10-Q
Reporting period: Three months ended March 31, 2014; comparisons are with Q1 2013 unless otherwise noted. Unaudited consolidated financial statements. Lithia operated 100 stores and offered 28 brands as of April 25, 2014.
Financial performance
| Metric | Q1 2014 | Q1 2013 |
|---|---|---|
| Revenue | $1.078 billion | $903.1 million |
| Gross profit / gross margin | $172.1 million / 16.0% | $146.4 million / 16.2% |
| Operating income / operating margin | $44.7 million / 4.1% | $40.6 million / 4.5% |
| Continuing-operations income, after tax | $24.7 million | $21.9 million |
| Net income | $24.7 million | $22.1 million |
| Diluted continuing-operations EPS | $0.94 | $0.84 |
| Operating cash flow | $(22.4) million | $49.8 million |
| Investing cash flow | $(47.8) million | $(8.5) million |
| Financing cash flow | $68.9 million | $(69.1) million |
Revenue rose 19.4% and net income rose 12.1%. Growth reflected higher sales volumes, acquisitions and gains in finance and insurance and service, body and parts. Reported gross margin declined 20 basis points; operating margin declined 40 basis points, partly due to unusual SG&A charges.
New-vehicle revenue increased 17.4%, while same-store unit sales increased 8.3%; same-store gross profit per new retail unit fell 2.3%. Used retail revenue rose 26.2%, with same-store units up 11.7%; same-store retail gross margin declined 100 basis points. Finance and insurance revenue increased 25.2%, and service, body and parts revenue increased 15.7%.
Liquidity, debt and capital
- Cash was $22.3 million at March 31, 2014, down from $23.7 million at year-end. Current assets were $1.168 billion and current liabilities $940.4 million; the covenant current ratio was 1.37 against a 1.20 minimum.
- Reported operating cash use reflected working-capital needs, including a $56.7 million increase in inventory. Operating cash flow adjusted by the company for net non-trade floor-plan borrowings was $29.4 million, versus $50.7 million a year earlier.
- Total debt was $1.049 billion, including $744.8 million in non-trade floor-plan notes and $95.8 million in used-vehicle inventory financing. Long-term debt, including current maturities, was approximately $277.1 million. Debt to total capital excluding floor-plan notes was 33.2%, versus 32.0% at December 31, 2013.
- Available revolving credit was $132.7 million. Management estimated a further $144.8 million could potentially be raised against unencumbered real estate, subject to valuation and financing availability. Total estimated available funds, including cash and this potential real-estate financing, were $299.8 million.
- The $1.0 billion credit facility matures in December 2018. Lithia reported compliance with its financial covenants: fixed-charge coverage 4.09, leverage 1.39, and funded debt $168.8 million against a $375 million limit. Management expected continued compliance but gave no assurance.
Material changes, outlook and management commentary
- Four dealerships were acquired during the quarter for $34.9 million in total consideration, including $31.7 million cash and $3.2 million debt; they contributed $9.6 million of quarterly revenue. An additional Corpus Christi dealership was acquired April 1 for $26.1 million cash.
- SG&A increased 20.5% to $121.8 million and reached 70.8% of gross profit, versus 69.1%. It included $3.9 million of non-core charges: a legal settlement-related reserve, a Texas hailstorm reserve and an assumed-contract charge. Adjusted SG&A was $117.9 million, or 68.5% of gross profit; adjusted diluted continuing-operations EPS was $1.03 versus reported $0.94.
- Management anticipated keeping SG&A in the upper-60% range of gross profit and targeted approximately 50% same-store throughput, compared with 40.8% achieved in Q1. It attributed pressure on throughput to lower gross margins and higher personnel costs.
- Management expected approximately $92 million of 2014 capital expenditures. The forecast full-year effective tax rate was approximately 39.5% (Q1: 39.3%). No specific earnings or revenue guidance was provided.
- Management described a strategy of pursuing new-vehicle volume and market share, expecting related trade-ins, finance and insurance sales, and future service work to offset lower new-vehicle profit per unit. It also targeted increasing average used-vehicle retail sales from approximately 55 to 75 units per store per month.
- Seasonality typically makes Q1 and Q4 weaker than Q2 and Q3. Management said about half of its markets remained below 2006 pre-recession vehicle-registration levels, based on the latest available data at year-end 2013.
Risks, contingencies and unusual items
- An Alaska consumer-protection class action settlement received court approval in December 2013. Lithia recorded $6.7 million of total settlement and legal costs, had paid $4.8 million by quarter-end and recorded a $1.9 million remaining voucher liability. It recorded an additional $0.6 million expense in Q1 based on approved claims; actual costs could differ.
- A single store remained classified as held for sale for more than one year. Prior sale attempts did not close, including because the manufacturer did not approve potential buyers. Lithia continued to believe the held-for-sale classification was appropriate.
- A $25 million interest-rate swap, maturing June 15, 2016, fixed the rate at 5.587% against one-month LIBOR. The swap liability’s fair value was $2.6 million at quarter-end.
- Management cited consumer demand, interest rates, consumer debt and confidence, manufacturer incentives, local market conditions, covenant compliance and access to capital among relevant uncertainties. The filing reported no material change in previously disclosed risk factors or market-risk policies.
- The board approved a $0.16-per-share dividend after quarter-end, totaling approximately $4.2 million, payable May 23, 2014. Q1 dividends paid were $0.13 per share, or $3.4 million.
Investor verification priorities
- Assess whether sales growth and acquisition contributions translate into sustained same-store earnings, especially given lower new- and used-vehicle retail margins.
- Track inventory, receivables and operating cash conversion; distinguish reported cash flow from management’s floor-plan-adjusted measure.
- Verify execution against the $92 million capital-spending outlook and the stated SG&A and throughput targets.
- Monitor debt, revolving-credit availability, covenant headroom and any need to finance acquisitions or real estate.
- Follow the Alaska settlement’s final redemption costs, the long-held-for-sale dealership, and the results of the April acquisition.