Lithia Motors, Inc. — Q3 2014 Form 10-Q
Business context and period. The unaudited filing covers the quarter and nine months ended September 30, 2014, compared with the same 2013 periods. Lithia operated 129 U.S. stores offering 30 new-vehicle brands as of October 31, 2014. The company sells new and used vehicles and provides financing, service, parts, and related products.
Financial performance
| Metric | Q3 2014 | Q3 2013 | Nine months 2014 | Nine months 2013 |
|---|---|---|---|---|
| Revenue | $1,297.1m | $1,069.3m | $3,597.0m | $2,980.9m |
| Gross profit | $197.8m | $165.4m | $562.2m | $471.7m |
| Operating income | $60.1m | $51.7m | $165.9m | $138.0m |
| Income from continuing operations, net | $34.5m | $30.9m | $94.4m | $78.1m |
| Net income | $34.5m | $31.0m | $97.6m | $78.6m |
| Diluted continuing-operations EPS | $1.31 | $1.18 | $3.58 | $2.98 |
| Gross margin | 15.3% | 15.5% | 15.6% | 15.8% |
| Operating margin | 4.6% | 4.8% | 4.6% | 4.6% |
- Revenue rose 21.3% in Q3 and 20.7% for the nine months. Growth reflected higher same-store sales and acquisitions; stores acquired in 2014 contributed $114.6m of nine-month revenue.
- New-vehicle same-store unit sales increased 6.8% in Q3 and 7.8% year to date. Service, body and parts same-store revenue increased 13.0% and 11.0%, respectively.
- Used-vehicle retail same-store revenue grew 13.0% in Q3, but same-store gross profit grew only 0.2%; same-store gross profit per retail unit fell 5.6%. Management attributed margin pressure to greater certified-pre-owned supply and discounting to manage inventory.
- Q3 SG&A was $131.6m, or 66.5% of gross profit, versus 65.6% a year earlier. For nine months, SG&A was $378.9m, or 67.4% of gross profit, versus 67.6%.
Cash flow, debt and liquidity
- Nine-month operating cash flow was $87.7m, down from $112.7m. Management’s adjusted operating cash flow measure, including net non-trade floor-plan borrowings, was $118.1m versus $115.4m.
- Investing cash outflow was $122.4m, including $81.6m for acquisitions and $54.1m in capital expenditures. Financing cash inflow was $32.6m. Cash ended the period at $21.7m, compared with $23.7m at year-end 2013.
- Total debt, including floor-plan and held-for-sale obligations, was $1,016.8m at September 30. Long-term debt, excluding current maturities, was $263.1m. Debt to total capital excluding floor-plan notes was 30.4%.
- At September 30, the company reported $167.3m of available credit and estimated $99.8m of potential funds from unfinanced real estate; total estimated available funds were $288.8m. Real-estate proceeds were estimates and not assured.
- Reported covenant measures were current ratio 1.41x (minimum 1.20x), fixed-charge coverage 4.00x (minimum 1.20x), leverage 1.53x (maximum 5.00x), and funded debt of $242.4m against a $375m limit. Management expected covenant compliance.
Material developments, outlook and risks
- On October 1, 2014, after quarter-end, Lithia acquired DCH Auto Group’s 27 stores for $669.5m: $364m cash, $22.5m in Lithia shares, $230m of vehicle floor-plan debt, and assumption of $53m of other debt. Lithia amended its syndicated facility to $1.7bn, including up to $300m revolving financing; it expected to increase mortgage debt by $100m. Integration, leverage, capital needs and acquired-store performance are material risks.
- Management forecast a 2014 tax rate of approximately 38.8%, expected full-year capital expenditures of about $90m, and targeted SG&A at a mid-to-upper-60% range of gross profit. It targeted approximately 50% same-store throughput; actual same-store throughput was 38.4% in Q3 and 43.2% for nine months.
- Management believed used-vehicle margin compression from excess inventory would be limited to Q3 and Q4 2014. This is an expectation, not a guarantee. The company also noted that six of its 12 states, representing about 46% of nine-month revenue, remained below 2006 vehicle-registration levels.
- Seasonality typically makes Q1 and Q4 weaker than Q2 and Q3. Results are also exposed to consumer confidence, interest rates, consumer debt, manufacturer incentives, credit availability, inventory values and regional market conditions.
- The company early adopted revised discontinued-operations guidance in Q3. It reported $3.2m of nine-month after-tax discontinued-operations income, including a $5.7m disposal gain. Two stores were classified as held for sale; their continuing-operations pre-tax income was immaterial.
- A previously disclosed Alaska consumer-protection class action settlement totaled $6.7m, including legal fees; $1.1m remained accrued for unused vouchers at September 30. Management said ordinary-course litigation was not expected to have a material adverse effect, while noting outcomes cannot be predicted with certainty.
- The filing reported a $25m interest-rate swap fixing a portion of exposure at 5.587% through June 2016. The swap liability’s fair value was $2.0m at September 30.
Investor verification priorities
- Assess DCH’s post-close operating contribution, integration progress, purchase accounting, capital spending and effect on leverage, liquidity and covenants.
- Track used-vehicle inventory aging, supply, gross profit per unit and whether margins recover as management expects.
- Reconcile reported and adjusted operating cash flow, particularly working-capital changes, inventory investment and floor-plan financing classification.
- Monitor SG&A leverage, throughput and whether same-store performance approaches management’s targets.
- Verify the terms and availability of post-quarter financing and expected mortgage borrowing, rather than relying on estimated real-estate capacity.
- Review subsequent results for acquisition-related expenses, held-for-sale outcomes, settlement payments and other non-core items.