Penske Automotive Group, Inc. — 2010 Q2 Form 10-Q Summary
Business context and reporting period
Filed July 30, 2010, for the quarter and six months ended June 30, 2010. Penske Automotive Group operated 171 U.S. franchises and 152 franchises outside the U.S., primarily in the U.K. Its businesses included automotive retail, smart fortwo distribution, and equity-method investments, including a 9.0% interest in Penske Truck Leasing.
The company acquired six franchises, was awarded nine franchises, and disposed of five franchises during the first six months. Results were affected by continued economic weakness, although management reported improved consumer confidence, credit availability, and vehicle sales.
Financial performance and key metrics
| Metric | Three months ended June 30, 2010 | Three months ended June 30, 2009 | Six months ended June 30, 2010 | Six months ended June 30, 2009 |
|---|---|---|---|---|
| Total revenue | $2,703.7 million | $2,318.7 million | $5,189.4 million | $4,477.0 million |
| Gross profit | $430.3 million | $393.8 million | $840.4 million | $761.8 million |
| Operating income | $63.1 million | $52.6 million | $120.3 million | $95.0 million |
| Income from continuing operations | $29.4 million | $19.9 million | $50.1 million | $36.2 million |
| Net income attributable to common stockholders | $29.4 million | $14.1 million | $49.8 million | $30.4 million |
| Diluted EPS | $0.32 | $0.15 | $0.54 | $0.33 |
| Cash flow from continuing operations | Not separately reported | Not separately reported | $69.6 million | $241.1 million |
Second-quarter gross margin was approximately 15.9%, compared with 17.0% for the prior-year quarter. Six-month gross margin was approximately 16.2%, compared with 17.0% in the prior-year period. Retail gross margin declined to 17.0% in the quarter and 17.2% year to date, primarily because lower-margin vehicle sales represented a larger share of revenue.
- New vehicle revenue increased 24.4% in the quarter and 25.6% year to date; same-store new retail unit sales rose 14.9% and 15.3%, respectively.
- Used vehicle revenue increased 13.8% in the quarter and 13.4% year to date, but used vehicle gross margin declined to 8.0% and 8.1%, respectively, from 9.0% in both prior-year periods.
- Finance and insurance revenue increased 16.3% in the quarter and 19.3% year to date.
- Service and parts revenue increased 0.3% in the quarter and 1.2% year to date. Gross margin improved to 57.4% and 56.9%, aided by Toyota recall activity.
- Distribution revenue declined 45.5% in the quarter and 68.0% year to date. The distribution segment reported losses of $3.6 million and $9.2 million, respectively, versus income of $1.0 million and $7.3 million in the comparable periods.
- SG&A increased 8.5% in the quarter and 8.7% year to date, but declined as a percentage of gross profit to 82.5% and 82.8%, respectively.
Balance sheet, debt, liquidity, and cash flow
- Cash and cash equivalents were $17.7 million at June 30, 2010, compared with $14.0 million at December 31, 2009.
- Working capital was $77.4 million. Inventory increased to $1.365 billion from $1.302 billion at year-end, while floor plan notes payable increased to $1.318 billion from $1.193 billion.
- Total long-term debt was $860.8 million, including $16.6 million current, compared with $946.4 million at December 31, 2009. Net long-term debt was $844.3 million.
- Six-month continuing operating cash flow was $69.6 million, down from $241.1 million. When all floor plan financing changes are treated as operating activity, adjusted operating cash flow was $145.7 million versus $162.5 million.
- Investing cash use was $49.9 million, including $37.6 million of capital expenditures and $12.3 million for dealership acquisitions.
- Financing cash use was $18.8 million, including $113.6 million spent to repurchase $112.7 million principal amount of convertible notes, partially offset by $76.1 million of net non-trade floor plan borrowings.
- Available borrowing capacity at June 30 was approximately $222.0 million under the U.S. credit agreement and $64.8 million under the U.K. credit agreement. The company reported compliance with all credit agreement and lease covenants.
Material changes, outlook, risks, and unusual items
- The company recorded a $1.0 million pretax gain on convertible-note repurchases in the first six months of 2010, compared with a $10.4 million gain in the prior-year period. The gain was $0.4 million in the second quarter.
- Convertible notes had a principal amount outstanding of $193.6 million at June 30. The company expected holders to require repayment in April 2011 and was evaluating refinancing, additional securities issuance, operating cash flow, working capital, and U.S. credit capacity as potential funding sources. An additional $43.0 million principal amount was repurchased in July, leaving $150.6 million outstanding.
- In July 2010, the U.S. revolving credit commitment was increased by $50.0 million to $300.0 million, with higher interest-rate spreads. The U.K. credit agreement was also amended in connection with a European reorganization.
- Management expected economic conditions to continue affecting customer traffic and sales during 2010, with volumes still below historical levels. No quantitative earnings guidance was provided.
- Key risks include economic and vehicle-demand cyclicality, manufacturer dependence and recalls, used-vehicle margin pressure, smart fortwo distribution weakness, foreign currency exposure, variable-rate debt, covenant compliance, refinancing requirements, and the availability of floor plan financing.
- A 100-basis-point interest-rate change was estimated to affect annual other interest expense by approximately $2.3 million and annual floor plan interest expense by approximately $9.2 million, after considering hedges.
- A 10% change in average foreign exchange rates versus the U.S. dollar would have changed six-month revenue by approximately $192.8 million.
- The company reported no legal proceedings reasonably expected to have a material adverse effect, while noting that litigation outcomes remain uncertain. Outstanding letters of credit were $20.9 million and surety bonds were $14.4 million.
- The quarterly dividend remained suspended. Management stated that future dividends would depend on earnings, capital needs, debt restrictions, financial condition, and the convertible-note repayment requirement.
Important facts for investors to verify
- Progress and final funding plan for the expected April 2011 convertible-note repayment, including the effect of the July repurchase.
- Actual availability and covenant headroom under the amended U.S. and U.K. credit agreements.
- Whether improved retail unit volumes can offset declining used-vehicle margins and continued weakness in smart fortwo distribution.
- Sustainability of service and parts margin gains attributed partly to Toyota recall activity.
- Inventory growth, floor plan financing needs, and the substantial decline in reported operating cash flow.
- Foreign currency effects on international operations and equity, including the $42.8 million year-to-date foreign currency translation loss.
- Potential obligations under leases, subleases, smart distribution commitments, letters of credit, surety bonds, and litigation contingencies.