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LITHIA MOTORS INC - Quarter Report: 2014 June (Form 10-Q)

lad20140630_10q.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549


 

FORM 10-Q

 


 

(Mark One)

 

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2014

OR

[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the transition period from       to      

 

Commission file number: 001-14733

 


 

LITHIA MOTORS, INC.

(Exact name of registrant as specified in its charter)

Oregon

 

93-0572810

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

     

150 N. Bartlett Street, Medford, Oregon

 

97501

(Address of principal executive offices)

 

(Zip Code)

 

Registrant's telephone number, including area code: 541-776-6401

 


 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ]

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes [X] No [ ]

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. Large accelerated filer [X] Accelerated filer [ ] Non-accelerated filer [ ] (Do not check if a smaller reporting company)     Smaller reporting company [ ]

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [ ] No [X]

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class A common stock without par value

 

23,545,648

Class B common stock without par value

 

2,562,231

(Class)

 

(Outstanding at August 8, 2014)

 

 

 

 



 
 

 

 

LITHIA MOTORS, INC.

FORM 10-Q

INDEX 

 

PART I - FINANCIAL INFORMATION

Page

     

Item 1.

Financial Statements

 
     
 

Consolidated Balance Sheets (Unaudited) – June 30, 2014 and December 31, 2013

2

     
 

Consolidated Statements of Operations (Unaudited) – Three and Six Months Ended June 30, 2014 and 2013

3

     
 

Consolidated Statements of Comprehensive Income (Unaudited) – Three and Six Months Ended June 30, 2014 and 2013

4

     
 

Consolidated Statements of Cash Flows (Unaudited) – Six Months Ended June 30, 2014 and 2013

5

     
 

Condensed Notes to Consolidated Financial Statements (Unaudited)

6

     

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

19

     

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

40

     

Item 4.

Controls and Procedures

40

     

PART II - OTHER INFORMATION

 
     

Item 1.

Legal Proceedings

40

     

Item 1A.

Risk Factors

41

     

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

41

     

Item 6.

Exhibits

41

     

Signatures

42

  

 
1

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES

Consolidated Balance Sheets

(In thousands)

(Unaudited)

 

 

   

June 30,

   

December 31,

 
   

2014

   

2013

 

Assets

               

Current Assets:

               

Cash and cash equivalents

  $ 28,203     $ 23,686  

Accounts receivable, net

    191,228       170,519  

Inventories, net

    981,223       859,019  

Deferred income taxes

    222       1,548  

Other current assets

    12,028       15,251  

Assets held for sale

    -       11,526  

Total Current Assets

    1,212,904       1,081,549  
                 

Property and equipment, net of accumulated depreciation of $113,594 and $106,871

    528,254       481,212  

Goodwill

    65,004       49,511  

Franchise value

    77,728       71,199  

Deferred income taxes

    14,624       10,256  

Other non-current assets

    41,613       31,394  

Total Assets

  $ 1,940,127     $ 1,725,121  
                 
                 

Liabilities and Stockholders' Equity

               

Current Liabilities:

               

Floor plan notes payable

  $ 20,598     $ 18,789  

Floor plan notes payable: non-trade

    806,684       695,066  

Current maturities of long-term debt

    7,578       7,083  

Trade payables

    56,384       51,159  

Accrued liabilities

    112,742       94,143  

Liabilities related to assets held for sale

    -       6,271  

Total Current Liabilities

    1,003,986       872,511  
                 

Long-term debt, less current maturities

    260,835       245,471  

Deferred revenue

    48,918       44,005  

Other long-term liabilities

    34,537       28,412  

Total Liabilities

    1,348,276       1,190,399  
                 

Stockholders' Equity:

               

Preferred stock - no par value; authorized 15,000 shares; none outstanding

    -       -  

Class A common stock - no par value; authorized 100,000 shares; issued and outstanding 23,544 and 23,329

    266,172       268,255  

Class B common stock - no par value; authorized 25,000 shares; issued and outstanding 2,562 and 2,562

    319       319  

Additional paid-in capital

    26,045       22,598  

Accumulated other comprehensive loss

    (1,259 )     (1,538 )

Retained earnings

    300,574       245,088  

Total Stockholders' Equity

    591,851       534,722  

Total Liabilities and Stockholders' Equity

  $ 1,940,127     $ 1,725,121  

 

See accompanying condensed notes to consolidated financial statements.

 

 
2

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES

Consolidated Statements of Operations

(In thousands, except per share amounts)

(Unaudited)

 

 

   

Three Months Ended June 30,

   

Six Months Ended June 30,

 
   

2014

   

2013

   

2014

   

2013

 

Revenues:

                               

New vehicle

  $ 694,484     $ 569,487     $ 1,274,006     $ 1,062,928  

Used vehicle retail

    310,475       258,465       612,368       497,693  

Used vehicle wholesale

    44,286       37,691       86,979       77,197  

Finance and insurance

    43,838       34,218       83,469       65,881  

Service, body and parts

    114,337       94,462       218,954       184,902  

Fleet and other

    14,382       14,182       24,132       22,984  

Total revenues

    1,221,802       1,008,505       2,299,908       1,911,585  

Cost of sales:

                               

New vehicle

    648,490       530,699       1,188,988       989,493  

Used vehicle retail

    266,408       219,572       527,505       423,827  

Used vehicle wholesale

    42,782       36,996       84,144       75,528  

Service, body and parts

    58,155       47,769       111,940       94,430  

Fleet and other

    13,667       13,636       22,970       22,036  

Total cost of sales

    1,029,502       848,672       1,935,547       1,605,314  

Gross profit

    192,300       159,833       364,361       306,271  

Selling, general and administrative

    125,463       109,283       247,292       210,414  

Depreciation and amortization

    5,825       4,899       11,332       9,620  

Operating income

    61,012       45,651       105,737       86,237  

Floor plan interest expense

    (3,215 )     (3,036 )     (6,199 )     (6,485 )

Other interest expense

    (1,869 )     (1,941 )     (3,843 )     (4,302 )

Other income, net

    1,146       584       2,083       1,385  

Income from continuing operations before income taxes

    57,074       41,258       97,778       76,835  

Income tax provision

    (21,904 )     (15,977 )     (37,914 )     (29,672 )

Income from continuing operations, net of income tax

    35,170       25,281       59,864       47,163  

Income from discontinued operations, net of income tax

    3,139       274       3,179       447  

Net income

  $ 38,309     $ 25,555     $ 63,043     $ 47,610  
                                 

Basic income per share from continuing operations

  $ 1.35     $ 0.98     $ 2.30     $ 1.83  

Basic income per share from discontinued operations

    0.12       0.01       0.12       0.02  

Basic net income per share

  $ 1.47     $ 0.99     $ 2.42     $ 1.85  
                                 

Shares used in basic per share calculations

    26,119       25,782       26,047       25,730  
                                 

Diluted income per share from continuing operations

  $ 1.34     $ 0.97     $ 2.27     $ 1.81  

Diluted income per share from discontinued operations

    0.11       0.01       0.12       0.01  

Diluted net income per share

  $ 1.45     $ 0.98     $ 2.39     $ 1.82  
                                 

Shares used in diluted per share calculations

    26,331       26,134       26,326       26,120  

 

See accompanying condensed notes to consolidated financial statements.

 

 
3

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income

(In thousands)

(Unaudited) 

 

   

Three Months Ended June 30,

   

Six Months Ended June 30,

 
   

2014

   

2013

   

2014

   

2013

 

Net income

  $ 38,309     $ 25,555     $ 63,043     $ 47,610  

Other comprehensive income, net of tax:

                               

Gain on cash flow hedges, net of tax expense of $81, $209, $174, and $524 respectively

    130       338       279       844  

Comprehensive income

  $ 38,439     $ 25,893     $ 63,322     $ 48,454  

 

See accompanying condensed notes to consolidated financial statements.

 

 
4

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES

Consolidated Statements of Cash Flows

(In thousands)

(Unaudited)

 

 

   

Six Months Ended June 30,

 
   

2014

   

2013

 

Cash flows from operating activities:

               

Net income

  $ 63,043     $ 47,610  

Adjustments to reconcile net income to net cash provided by (used in) operating activities:

               

Depreciation and amortization

    11,332       9,620  

Stock-based compensation

    3,259       2,603  

Loss on disposal of other assets

    62       33  

Gain on sale of franchise

    (5,744 )     -  

Deferred income taxes

    2,840       825  

Excess tax benefit from share-based payment arrangements

    (6,058 )     (5,408 )

(Increase) decrease (net of acquisitions and dispositions):

               

Trade receivables, net

    (20,709 )     (10,684 )

Inventories

    (77,300 )     (48,899 )

Other current assets

    1,360       5,980  

Other non-current assets

    (7,311 )     (3,394 )

Increase (decrease) (net of acquisitions and dispositions):

               

Floor plan notes payable, net

    368       3,384  

Trade payables

    1,411       2,078  

Accrued liabilities

    17,594       8,812  

Other long-term liabilities and deferred revenue

    11,659       11,889  

Net cash provided by (used in) operating activities

    (4,194 )     24,449  
                 

Cash flows from investing activities:

               

Principal payments received on notes receivable

    -       61  

Capital expenditures

    (35,230 )     (22,107 )

Proceeds from sales of assets

    103       420  

Payments for life insurance policies

    (3,454 )     (2,566 )

Cash paid for acquisitions

    (79,482 )     (31,786 )

Cash from dispositions

    10,617       -  

Net cash used in investing activities

    (107,446 )     (55,978 )
                 

Cash flows from financing activities:

               

Borrowings on floor plan notes payable: non-trade, net

    112,910       5,989  

Borrowings on lines of credit

    578,000       358,000  

Repayments on lines of credit

    (567,000 )     (327,318 )

Principal payments on long-term debt, scheduled

    (3,693 )     (3,667 )

Principal payments on long-term debt and capital leases, other

    -       (25,770 )

Proceeds from issuance of long-term debt

    5,392       4,721  

Proceeds from issuance of common stock

    2,253       2,843  

Repurchase of common stock

    (10,206 )     (7,903 )

Excess tax benefit from share-based payment arrangements

    6,058       5,408  

Dividends paid

    (7,557 )     (3,356 )

Net cash provided by financing activities

    116,157       8,947  
                 

Decrease in cash and cash equivalents

    4,517       (22,582 )
                 

Cash and cash equivalents at beginning of period

    23,686       42,839  

Cash and cash equivalents at end of period

  $ 28,203     $ 20,257  
                 
                 

Supplemental disclosure of cash flow information:

               

Cash paid during the period for interest

  $ 10,218     $ 10,989  

Cash paid during the period for income taxes, net

    23,444       16,111  
                 

Supplemental schedule of non-cash activities:

               

Debt issued in connection with acquisitions

    3,161       -  

Floorplan debt paid in connection with dealership disposals

    3,311       -  

 

See accompanying condensed notes to consolidated financial statements.

 

 
5

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

Note 1. Interim Financial Statements

 

Basis of Presentation

These condensed Consolidated Financial Statements contain unaudited information as of June 30, 2014 and for the three- and six-month periods ended June 30, 2014 and 2013. The unaudited interim financial statements have been prepared pursuant to the rules and regulations for reporting on Form 10-Q. Accordingly, certain disclosures required by accounting principles generally accepted in the United States of America for annual financial statements are not included herein. In management’s opinion, these unaudited financial statements reflect all adjustments (which include only normal recurring adjustments) necessary for a fair presentation of the information when read in conjunction with our 2013 audited Consolidated Financial Statements and the related notes thereto. The financial information as of December 31, 2013 is derived from our 2013 Annual Report on Form 10-K. The interim condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and the notes thereto included in our 2013 Annual Report on Form 10-K. The results of operations for the interim periods presented are not necessarily indicative of the results to be expected for the full year.

 

Reclassifications

Certain reclassifications of amounts previously reported have been made to the accompanying consolidated financial statements to maintain consistency and comparability between periods presented.

 

These reclassifications had no impact on previously reported net income.

 

Note 2. Accounts Receivable

Accounts receivable consisted of the following (in thousands):

 

   

June 30,
2014

   

December 31,

2013

 

Contracts in transit

  $ 99,390     $ 85,272  

Trade receivables

    24,960       23,154  

Vehicle receivables

    25,728       23,606  

Manufacturer receivables

    33,852       31,662  

Auto loan receivables

    17,828     $ 11,438  

Other receivables

    5,573       5,622  
      207,331       180,754  

Less: Allowance

    (805 )     (546 )

Less: Long-term portion of accounts receivable, net

    (15,298 )     (9,689 )

Total accounts receivable, net

  $ 191,228     $ 170,519  

 

Accounts receivable classifications include the following:

 

Contracts in transit are receivables from various lenders for the financing of vehicles that we have arranged on behalf of the customer and are typically received within five to ten days of selling a vehicle.

 

Trade receivables are comprised of amounts due from customers, lenders for the commissions earned on financing and third parties for commissions earned on service contracts and insurance products.

 

Vehicle receivables represent receivables for the portion of the vehicle sales price paid directly by the customer.

 

Manufacturer receivables represent amounts due from manufacturers including holdbacks, rebates, incentives and warranty claims.

 

Auto loan receivables include amounts due from customers related to retail sales of vehicles and certain finance and insurance products.

  

 
6

 

 

Interest income on auto loan receivables is recognized based on the contractual terms of each loan and is accrued until repayment, charge-off or repossession. Direct costs associated with loan originations are capitalized and expensed as interest income is recognized on the loans. All other receivables are recorded at invoice and do not bear interest until they are 60 days past due.

 

The allowance for doubtful accounts is estimated based on our historical write-off experience and is reviewed monthly. Consideration is given to recent delinquency trends and recovery rates. Account balances are charged against the allowance after all appropriate means of collection have been exhausted and the potential for recovery is considered remote. The annual activity for charges and subsequent recoveries is immaterial.

 

The long-term portion of accounts receivable was included as a component of other non-current assets in the Consolidated Balance Sheets.

 

Note 3. Inventories

The components of inventory consisted of the following (in thousands):

 

   

June 30,
2014

   

December 31,

2013

 

New vehicles

  $ 741,220     $ 657,043  

Used vehicles

    203,645       167,814  

Parts and accessories

    36,358       34,162  

Total inventories

  $ 981,223     $ 859,019  

 

Note 4. Goodwill

The changes in the carrying amounts of goodwill are as follows (in thousands):

 

   

Goodwill

 

Balance as of December, 31, 2012, gross

  $ 331,313  

Accumulated impairment loss

    (299,266 )

Balance as of December 31, 2012, net

    32,047  

Additions through acquisitions

    17,464  

Balance as of December 31, 2013, net

    49,511  

Additions through acquisition

    15,493  

Balance as of June 30, 2014, net

  $ 65,004  

 

Note 5. Commitments and Contingencies

 

Litigation

We are party to numerous legal proceedings arising in the normal course of our business. Although we do not anticipate that the resolution of legal proceedings arising in the normal course of business or the proceedings described below will have a material adverse effect on our business, results of operations, financial condition, or cash flows, we cannot predict this with certainty.

 

 
7

 

 

Alaska Consumer Protection Act Claims

In December 2006, a class action suit was filed against us (Jackie Neese, et al vs. Lithia Chrysler Jeep of Anchorage, Inc., et al, Case No. 3AN-06-13341 CI), and in April 2007, a second class action suit (Jackie Neese, et al vs. Lithia Chrysler Jeep of Anchorage, Inc, et al, Case No. 3AN-06-4815 CI) was filed against us, in the Superior Court for the State of Alaska, Third Judicial District at Anchorage. These suits were subsequently consolidated. In the consolidated suit, plaintiffs alleged that we, through our Alaska dealerships, engaged in three practices that purportedly violate Alaska consumer protection laws: (i) charging customers dealer fees and costs (including document preparation fees) not disclosed in the advertised price, (ii) failing to disclose the acquisition, mechanical and accident history of used vehicles or whether the vehicles were originally manufactured for sale in a foreign country, and (iii) engaging in deception, misrepresentation and fraud by providing to customers financing from third parties without disclosing that we receive a fee or discount for placing that loan. The suit sought statutory damages of $500 for each violation or three times plaintiff’s actual damages, whichever was greater, and attorney fees and costs.

 

In June 2013, the parties agreed to mediate the claims. The mediation resulted in a settlement agreement that received the final approval of the Court on December 11, 2013.  Under the settlement agreement, we agreed to reimburse plaintiffs’ legal fees and to pay (i) $450 in the form of cash and vouchers to valid claimants and (ii) $3,000 for each claim representative. The majority of cash and vouchers have been mailed.

 

We have recorded expenses of $6.7 million to settle all claims against us and to pay plaintiffs’ legal fees. Of this amount, $0.7 million in expense was recorded in the six months ended June 30, 2014, as a component of selling, general and administrative expense in our Consolidated Statements of Operations. As of June 30, 2014, the liability for unused vouchers, assuming an expected redemption rate, was $1.3 million and is recorded as a component of accrued liabilities on the Consolidated Balance Sheet. We believe that these estimates are reasonable; however, actual cost could differ materially.

 

Note 6. Stockholders’ Equity

 

Reclassification From Accumulated Other Comprehensive Loss

The reclassification from accumulated other comprehensive loss was as follows (in thousands):

 

   

Three Months

Ended
June 30, 2014

   

Six Months

Ended
June 30, 2014

 

Affected Line Item in the

Consolidated Statements

of Operations

Loss on cash flow hedges

  $ (118 )   $ (252 )

Floor plan interest expense

Taxes

    45       96  

Income tax provision

Loss on cash flow hedges, net

  $ (73 )   $ (156 )  

 

See Note 9 for more details regarding our derivative contracts.

 

Share Repurchases

In 2011 and 2012, our Board of Directors authorized the repurchase of up to a total of 3,000,000 shares of our Class A common stock. In the six months ended June 30, 2014, we repurchased 45,000 shares at an average price of $71.73 per share, for a total of $3.2 million. Through June 30, 2014, we have repurchased 1,318,047 shares and 1,681,953 shares remained available for repurchase. This authority to repurchase shares does not have an expiration date and we may continue to repurchase shares from time to time as conditions warrant.

 

In addition, we repurchased 106,772 shares during the first six months of 2014 at an average price of $65.36, for a total of $7.0 million, related to tax withholdings associated with the vesting of restricted stock units. 

 

 
8

 

 

Dividends

Dividends paid on our Class A and Class B common stock in the six months ended June 30, 2014 were as follows:

 

Quarter paid:

 

Dividend

amount per

share

   

Total amount of

dividend (in

thousands)

 

First quarter

  $ 0.13     $ 3,378  

Second quarter

    0.16       4,179  

 

See Note 14 for a discussion of a dividend related to our second quarter 2014 financial results.

 

Note 7. Deferred Compensation and Long-Term Incentive Plan

We offer a deferred compensation and long-term incentive plan (the “LTIP”) to provide certain employees the ability to accumulate assets for retirement on a tax deferred basis. We may make discretionary contributions to the LTIP. Discretionary contributions vest between one and seven years based on the employee’s age and position. Additionally, a participant may defer a portion of his or her compensation and receive the deferred amount upon certain events, including termination or retirement.

 

In 2014, we made discretionary contributions of $2.1 million to the LTIP. Participants will receive a guaranteed return of 5.25% in 2014. We recognized compensation expense related to the LTIP as follows (in thousands):

 

   

Three Months Ended

June 30,

   

Six Months Ended

June 30,

 
   

2014

   

2013

   

2014

   

2013

 

Compensation expense

  $ 377     $ 352     $ 1,077     $ 686  

 

As of June 30, 2014 and December 31, 2013, the balance due to participants was $9.4 million and $7.1 million, respectively, and was included as a component of other long-term liabilities in the Consolidated Balance Sheets.

 

Note 8. Fair Value Measurements

Factors used in determining the fair value of our financial assets and liabilities are summarized into three broad categories:

 

Level 1 – quoted prices in active markets for identical securities;

 

Level 2 – other significant observable inputs, including quoted prices for similar securities, interest rates, prepayment spreads and credit risk; and

 

Level 3 – significant unobservable inputs, including our own assumptions in determining fair value.

 

The inputs or methodology used for valuing financial assets and liabilities are not necessarily an indication of the risk associated with investing in them.

 

We use the income approach to determine the fair value of our interest rate swap using observable Level 2 market expectations at each measurement date and an income approach to convert estimated future cash flows to a single present value amount (discounted) assuming that participants are motivated, but not compelled, to transact. Level 2 inputs for the swap valuation are limited to quoted prices for similar assets or liabilities in active markets (specifically futures contracts on LIBOR for the first two years) and inputs other than quoted prices that are observable for the asset or liability (specifically LIBOR cash and swap rates and credit risk at commonly quoted intervals). Mid-market pricing is used as a practical expedient for fair value measurements. Key inputs, including the cash rates for very short-term borrowings, futures rates for up to two years and LIBOR swap rates beyond the derivative maturity are used to predict future reset rates to discount those future cash flows to present value at the measurement date.

 

 
9

 

 

Inputs are collected from Bloomberg on the last market day of the period and used to determine the rate used to discount the future cash flows. The valuation of the interest rate swap also takes into consideration our own, as well as the counterparty’s, risk of non-performance under the contract.

 

There were no changes to our valuation techniques during the six-month period ended June 30, 2014.

 

Assets and Liabilities Measured at Fair Value

Following are the disclosures related to our assets and (liabilities) that are measured at fair value (in thousands):

 

Fair Value at June 30, 2014

 

Level 1

   

Level 2

   

Level 3

 

Measured on a recurring basis:

                       

Derivative contract, net

  $ -     $ (2,375 )   $ -  

 

Fair Value at December 31, 2013

 

Level 1

   

Level 2

   

Level 3

 

Measured on a recurring basis:

                       

Derivative contract, net

  $ -     $ (2,900 )   $ -  

 

See Note 9 for more details regarding our derivative contracts.

 

Fair Value Disclosures for Financial Assets and Liabilities

We determined the carrying value of cash equivalents, accounts receivable, trade payables, accrued liabilities and short-term borrowings approximate their fair values because of the nature of their terms and current market rates of these instruments. We believe the carrying value of our variable rate debt approximates fair value.

 

We have fixed-rate debt and calculate the estimated fair value of our fixed-rate debt using a discounted cash flow methodology. Using estimated current interest rates based on a similar risk profile and duration (Level 2), the fixed cash flows are discounted and summed to compute the fair value of the debt. As of June 30, 2014, this debt had maturity dates between November 2016 and May 2031. A summary of the aggregate carrying values and fair values of our long-term fixed-interest rate debt is as follows (in thousands):

 

   

June 30,
2014

   

December 31,

2013

 

Carrying value

  $ 138,283     $ 132,616  

Fair value

    135,762       126,786  

 

Note 9. Derivative Financial Instrument

From time to time, we enter into interest rate swaps to fix a portion of our interest expense. We do not enter into derivative instruments for any purpose other than to manage interest rate exposure to fluctuations in the one-month LIBOR benchmark. That is, we do not engage in interest rate speculation using derivative instruments.

 

As of June 30, 2014, we had a $25 million interest rate swap outstanding with U.S. Bank Dealer Commercial Services. This interest rate swap matures on June 15, 2016 and has a fixed rate of 5.587% per annum. The variable rate on the interest rate swap is the one-month LIBOR rate. At June 30, 2014, the one-month LIBOR rate was 0.15% per annum, as reported in the Wall Street Journal.

 

Typically, we designate all interest rate swaps as cash flow hedges and, accordingly, we record the change in fair value for the effective portion of these interest rate swaps in comprehensive income rather than net income until the underlying hedged transaction affects net income. If a swap is no longer designated as a cash flow hedge and the forecasted transaction remains probable or reasonably possible of occurring, the gain or loss recorded in accumulated other comprehensive loss is recognized in income as the forecasted transaction occurs. If the forecasted transaction is probable of not occurring, the gain or loss recorded in accumulated other comprehensive loss is recognized in income immediately. The estimated amount that we expect to reclassify from accumulated other comprehensive loss to net income within the next twelve months is $1.2 million at June 30, 2014.

 

 
10

 

 

At June 30, 2014 and December 31, 2013, the fair value of our derivative instrument was included in our Consolidated Balance Sheets as follows (in thousands):

 

Balance Sheet Information   Fair Value of Liability Derivatives  

Derivatives Designated as Hedging

Instruments

 

Location in Balance

Sheet

 

June 30,

2014

 
             

Interest Rate Swap Contract

 

Accrued liabilities

  $ 1,228  
   

Other long-term liabilities

    1,147  
        $ 2,375  

 

Balance Sheet Information   Fair Value of Liability Derivatives  

Derivatives Designated as Hedging

Instruments

 

Location in Balance

Sheet

 

December 31,

2013

 
             

Interest Rate Swap Contract

 

Accrued liabilities

  $ 1,215  
   

Other long-term liabilities

    1,685  
        $ 2,900  

 

The effect of derivative instruments on our Consolidated Statements of Operations for the three- and six-month periods ended June 30, 2014 and 2013 was as follows (in thousands):

 

Derivatives in Cash

Flow Hedging

Relationships

 

Amount of

Gain

Recognized

in

Accumulated

OCI (Effective

Portion)

 

Location of

Loss

Reclassified

from

Accumulated

OCI into

Income

(Effective

Portion)

 

Amount of Loss

Reclassified

from

Accumulated

OCI into Income

(Effective

Portion)

 

Location of

Loss

Recognized in

Income on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

 

Amount of

Loss

Recognized in

Income on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

 
                             

Three Months Ended

June 30, 2014

       

 

       

 

       
Interest Rate Swap Contract    93   Floor plan
interest
expense
  (118

Floor plan
interest
expense

  (188 )
                             

Three Months Ended

June 30, 2013

       

 

       

 

       
Interest Rate Swap Contracts   $ 381  

Floor plan
interest
expense

  $ (166 ) Floor plan
 interest
expense
  $ (296 )

   

 
11

 

 

Derivatives in Cash

Flow Hedging

Relationships

 

Amount of

Gain

Recognized

in

Accumulated

OCI (Effective

Portion)

 

Location of

Loss

Reclassified

from

Accumulated

OCI into

Income

(Effective

Portion)

 

Amount of Loss

Reclassified

from

Accumulated

OCI into Income

(Effective

Portion)

 

Location of

Loss

Recognized in

Income on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

 

Amount of

Loss

Recognized in

Income on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

 
                             

Six Months Ended

June 30, 2014

       

 

       

 

       
Interest Rate Swap Contract   $ 201   Floor plan
 interest
expense
  $ (252 ) Floor plan
 interest
expense
  $ (359 )
                             

Six Months Ended

June 30, 2013

       

 

       

 

       
Interest Rate Swap Contracts   $ 896   Floor plan
 interest
expense
  $ (472 ) Floor plan
interest
expense
  $ (890 )

 

 

See also Note 8.

 

Note 10. Acquisitions

In the first six months of 2014, we completed the following acquisitions, which contributed revenues of $53.3 million for the six months ended June 30, 2014:

 

On January 31, 2014, we acquired Island Honda in Kahului, Hawaii.

 

On February 3, 2014, we acquired Stockton Volkswagen in Stockton, California.

 

On March 5, 2014, we acquired Honolulu Buick GMC Cadillac and Honolulu Volkswagen in Honolulu, Hawaii.

 

On April 1, 2014, we acquired Corpus Christi Ford in Corpus Christi, Texas.

 

On June 11, 2014, we acquired Portland GMC Buick and Portland Cadillac in Portland, Oregon.

 

All acquisitions were accounted for as business combinations under the acquisition method of accounting. The results of operations of the acquired stores are included in our Consolidated Financial Statements from the date of acquisition.

 

No portion of the purchase price was paid with our equity securities. The following table summarizes the consideration paid for the acquisitions and the amount of identified assets acquired and liabilities assumed as of the acquisition date (in thousands):

   

Consideration

 

Cash paid, net of cash acquired

  $ 79,482  

Debt issued

    3,161  
    $ 82,643  

 

   

Assets Acquired and Liabilities Assumed

 

Inventories

  $ 42,997  

Franchise value

    6,529  

Property, plant and equipment

    17,302  

Other assets

    430  

Other liabilities

    (108 )
      67,150  

Goodwill

    15,493  
    $ 82,643  

 

 
12

 

 

In the first quarter of 2014, we assumed a contract associated with an acquisition and determined the remaining term would not provide economic benefit. As a result, we recorded costs of $1.4 million associated with the contract. For the three and six month periods ended June 30, 2014, we recorded acquisition expense of $0.2 million. This amount is included as a component of selling, general and administrative expense in our Consolidated Statements of Operations. We did not have any material acquisition-related expenses in 2013.

 

We account for franchise value as an indefinite-lived intangible asset. We expect the full amount of the goodwill recognized to be deductible for tax purposes.

 

The following unaudited pro forma summary presents consolidated information as if all acquisitions in the three- and six-month periods ended June 30, 2013 and 2014 had occurred on January 1, 2013 (in thousands, except for per share amounts):

 

Three Months Ended June 30,

 

2014

   

2013

 

Revenue

  $ 1,232,950     $ 1,113,612  

Income from continuing operations, net of tax

    35,504       26,447  

Basic income per share from continuing operations, net of tax

    1.36       1.03  

Diluted income per share from continuing operations, net of tax

    1.35       1.01  

 

Six Months Ended June 30,

 

2014

   

2013

 

Revenue

  $ 2,353,299     $ 2,115,438  

Income from continuing operations, net of tax

    60,732       49,405  

Basic income per share from continuing operations, net of tax

    2.33       1.92  

Diluted income per share from continuing operations, net of tax

    2.31       1.89  

 

These amounts have been calculated by applying our accounting policies and estimates. The results of the acquired stores have been adjusted to reflect the following: depreciation on a straight-line basis over the expected lives for property, plant and equipment; accounting for inventory on a specific identification method; and recognition of interest expense for real estate financing related to stores where we purchased the facility. No nonrecurring pro forma adjustments directly attributable to the acquisitions are included in the reported pro forma revenues and earnings.

 

Note 11. Discontinued Operations

We classify a store as discontinued operations if the location has been sold, we have ceased operations at that location or the store meets the criteria required by U.S. generally accepted accounting standards:

 

our management team, possessing the necessary authority, commits to a plan to sell the store;

 

the store is available for immediate sale in its present condition;

 

an active program to locate buyers and other actions that are required to sell the store are initiated;

 

a market for the store exists and we believe its sale is likely within one year;

 

active marketing of the store commences at a price that is reasonable in relation to the estimated fair market value; and

 

our management team believes it is unlikely changes will be made to the plan or the plan to dispose of the store will be withdrawn.

 

We reclassify the store’s operations to discontinued operations in our Consolidated Statements of Operations, on a comparable basis for all periods presented, provided we do not expect to have any significant continuing involvement in the store’s operations after its disposal.

 

 
13

 

 

On May 1, 2014, we completed the sale of our one store which had been classified as held for sale since October 2012. As of June 30, 2014, we have no stores or properties classified as held for sale.

 

Actual floor plan interest expense for the store classified as discontinued operations is directly related to the store’s new vehicles. Interest expense related to our used vehicle inventory financing and revolving line of credit is allocated based on the working capital level of the store. For the six months ended June 30, 2014 and 2013, interest expense included as a component of discontinued operations was immaterial.

 

Certain financial information related to discontinued operations was as follows (in thousands):

 

   

Three Months Ended

June 30,

   

Six Months Ended

June 30,

 
   

2014

   

2013

   

2014

   

2013

 

Revenue

  $ 3,920     $ 10,078     $ 12,569     $ 18,878  
                                 

Pre-tax income (loss) from discontinued operations

  $ (532 )   $ 409     $ (467 )   $ 693  

Net gain on disposal activities

    5,744       -       5,744       -  
      5,212       409       5,277       693  

Income tax expense

    (2,073 )     (135 )     (2,098 )     (246 )

Income from discontinued operations, net of income tax expense

  $ 3,139     $ 274     $ 3,179     $ 447  

Goodwill and other intangible assets disposed of

    221       -       221       -  

Cash generated from disposal activities

    10,617       -       10,617       -  

Floor plan debt paid in connection with disposal activities

    3,311       -       3,311       -  

 

Note 12. Net Income Per Share of Class A and Class B Common Stock

We compute net income per share of Class A and Class B common stock using the two-class method. Under this method, basic net income per share is computed using the weighted average number of common shares outstanding during the period excluding unvested common shares subject to repurchase or cancellation. Diluted net income per share is computed using the weighted average number of common shares and, if dilutive, potential common shares outstanding during the period. Potential common shares consist of the incremental common shares issuable upon the exercise of stock options and unvested restricted shares subject to repurchase or cancellation. The dilutive effect of outstanding stock options and other grants is reflected in diluted earnings per share by application of the treasury stock method. The computation of the diluted net income per share of Class A common stock assumes the conversion of Class B common stock, while the diluted net income per share of Class B common stock does not assume the conversion of those shares.

 

Except with respect to voting and transfer rights, the rights of the holders of our Class A and Class B common stock are identical. Our Restated Articles of Incorporation require that the Class A and Class B common stock share equally in any dividends, liquidation proceeds or other distribution with respect to our common stock and the Articles of Incorporation can only be amended by a vote of the shareholders. Additionally, Oregon law provides that amendments to our Articles of Incorporation, which would have the effect of adversely altering the rights, powers or preferences of a given class of stock, must be approved by the class of stock adversely affected by the proposed amendment. As a result, the undistributed earnings for each year are allocated based on the participation rights of the Class A and Class B common shares as if the earnings for the year had been distributed. Because the liquidation and dividend rights are identical, the undistributed earnings are allocated on a proportionate basis.

 

 
14

 

 

Following is a reconciliation of the income from continuing operations and weighted average shares used for our basic earnings per share (“EPS”) and diluted EPS for the three-month periods ended June 30, 2014 and 2013 (in thousands, except per share amounts):

 

Three Months Ended June 30,

 

2014

   

2013

 

Basic EPS from Continuing Operations

 

Class A

   

Class B

   

Class A

   

Class B

 

Numerator:

                               

Income from continuing operations applicable to common stockholders

  $ 31,720     $ 3,450     $ 22,734     $ 2,547  

Distributed income applicable to common stockholders

    (3,769 )     (410 )     (3,018 )     (338 )

Basic undistributed income from continuing operations applicable to common stockholders

  $ 27,951     $ 3,040     $ 19,716     $ 2,209  
                                 

Denominator:

                               

Weighted average number of shares outstanding used to calculate basic income per share

    23,557       2,562       23,185       2,597  
                                 

Basic income per share from continuing operations applicable to common stockholders

  $ 1.35     $ 1.35     $ 0.98     $ 0.98  

Basic distributed income per share from continuing operations applicable to common stockholders

    (0.16 )     (0.16 )     (0.13 )     (0.13 )

Basic undistributed income per share from continuing operations applicable to common stockholders

  $ 1.19     $ 1.19     $ 0.85     $ 0.85  

  

 
15

 

 

 

Three Months Ended June 30,

 

2014

   

2013

 

Diluted EPS from Continuing Operations

 

Class A

   

Class B

   

Class A

   

Class B

 

Numerator:

                               

Distributed income applicable to common stockholders

  $ 3,769     $ 410     $ 3,018     $ 338  

Reallocation of distributed income as a result of conversion of dilutive stock options

    3       (3 )     5       (5 )

Reallocation of distributed income due to conversion of Class B to Class A common shares outstanding

    407       -       333       -  

Diluted distributed income applicable to common stockholders

  $ 4,179     $ 407     $ 3,356     $ 333  

Undistributed income from continuing operations applicable to common stockholders

  $ 27,951     $ 3,040     $ 19,716     $ 2,209  

Reallocation of undistributed income as a result of conversion of dilutive stock options

    25       (25 )     30       (30 )

Reallocation of undistributed income due to conversion of Class B to Class A

    3,015       -       2,179       -  

Diluted undistributed income from continuing operations applicable to common stockholders

  $ 30,991     $ 3,015     $ 21,925     $ 2,179  
                                 

Denominator:

                               

Weighted average number of shares outstanding used to calculate basic income per share from continuing operations

    23,557       2,562       23,185       2,597  

Weighted average number of shares from stock options

    212       -       352       -  

Conversion of Class B to Class A common shares outstanding

    2,562       -       2,597       -  

Weighted average number of shares outstanding used to calculate diluted income per share from continuing operations

    26,331       2,562       26,134       2,597  
                                 

Diluted income per share from continuing operations applicable to common stockholders

  $ 1.34     $ 1.34     $ 0.97     $ 0.97  

Diluted distributed income per share from continuing operations applicable to common stockholders

    (0.16 )     (0.16 )     (0.13 )     (0.13 )

Diluted undistributed income per share from continuing operations applicable to common stockholders

  $ 1.18     $ 1.18     $ 0.84     $ 0.84  

 

 

 
16

 

 

Three Months Ended June 30,

 

2014

   

2013

 

Diluted EPS

 

Class A

   

Class B

   

Class A

   

Class B

 

Antidilutive Securities

                             

Shares issuable pursuant to stock options not included since they were antidilutive

    12       -       18       -  

 

Six Months Ended June 30,

 

2014

   

2013

 

Basic EPS from Continuing Operations

 

Class A

   

Class B

   

Class A

   

Class B

 

Numerator:

                               

Income from continuing operations applicable to common stockholders

  $ 53,976     $ 5,888     $ 42,254     $ 4,909  

Distributed income applicable to common stockholders

    (6,814 )     (743 )     (3,007 )     (349 )

Basic undistributed income from continuing operations applicable to common stockholders

  $ 47,162     $ 5,145     $ 39,247     $ 4,560  
                                 

Denominator:

                               

Weighted average number of shares outstanding used to calculate basic income per share

    23,485       2,562       23,052       2,678  
                                 

Basic income per share from continuing operations applicable to common stockholders

  $ 2.30     $ 2.30     $ 1.83     $ 1.83  

Basic distributed income per share from continuing operations applicable to common stockholders

    (0.29 )     (0.29 )     (0.13 )     (0.13 )

Basic undistributed income per share from continuing operations applicable to common stockholders

  $ 2.01     $ 2.01     $ 1.70     $ 1.70  

  

 
17

 

 

Six Months Ended June 30,

 

2014

   

2013

 

Diluted EPS from Continuing Operations

 

Class A

   

Class B

   

Class A

   

Class B

 

Numerator:

                               

Distributed income applicable to common stockholders

  $ 6,814     $ 743     $ 3,007     $ 349  

Reallocation of distributed income as a result of conversion of dilutive stock options

    8       (8 )     5       (5 )

Reallocation of distributed income due to conversion of Class B to Class A common shares outstanding

    735       -       344       -  

Diluted distributed income applicable to common stockholders

  $ 7,557     $ 735     $ 3,356     $ 344  

Undistributed income from continuing operations applicable to common stockholders

  $ 47,162     $ 5,145     $ 39,247     $ 4,560  

Reallocation of undistributed income as a result of conversion of dilutive stock options

    55       (55 )     69       (69 )

Reallocation of undistributed income due to conversion of Class B to Class A

    5,090       -       4,491       -  

Diluted undistributed income from continuing operations applicable to common stockholders

  $ 52,307     $ 5,090     $ 43,807     $ 4,491  
                                 

Denominator:

                               

Weighted average number of shares outstanding used to calculate basic income per share from continuing operations

    23,485       2,562       23,052       2,678  

Weighted average number of shares from stock options

    279       -       390       -  

Conversion of Class B to Class A common shares outstanding

    2,562       -       2,678       -  

Weighted average number of shares outstanding used to calculate diluted income per share from continuing operations

    26,326       2,562       26,120       2,678  
                                 

Diluted income per share from continuing operations applicable to common stockholders

  $ 2.27     $ 2.27     $ 1.81     $ 1.81  

Diluted distributed income per share from continuing operations applicable to common stockholders

    (0.29 )     (0.29 )     (0.13 )     (0.13 )

Diluted undistributed income per share from continuing operations applicable to common stockholders

  $ 1.98     $ 1.98     $ 1.68     $ 1.68  

 

Six Months Ended June 30,

 

2014

   

2013

 

Diluted EPS

 

Class A

   

Class B

   

Class A

   

Class B

 

Antidilutive Securities

                               

Shares issuable pursuant to stock options not included since they were antidilutive

    14       -       19       -  

  

 
18

 

 

Note 13. Recent Accounting Pronouncements

In April 2014, the Financial Accounting Standards Board (FASB) issued an accounting standard update that amends the accounting guidance related to discontinued operations. This amendment defines discontinued operations as a component or group of components that is disposed of or is classified as held for sale and represents a strategic shift that has or will have a major effect on an entity’s operations and financial results. This amendment also introduces new disclosures for disposals. The amendments in this accounting standard update are effective for fiscal years beginning after December 15, 2014 and applies to new disposals and new classifications of disposal groups as held for sale after the effective date. The accounting standard update is expected to result in fewer disposals being presented as discontinued operations and, because the guidance relates to presentation and disclosure requirements, will not affect our consolidated financial position, results of operations, or cash flows.

 

On May 28, 2014, the FASB issued an accounting standard update which amends the accounting guidance related to revenues. This amendment will replace most of the existing revenue recognition guidance when it becomes effective. The new standard is effective for fiscal years beginning after December 15, 2016. Early application is not permitted. The standard permits the use of either the retrospective or cumulative effect transition method. The Company is evaluating the effect this amendment will have on its consolidated financial statements and related disclosures. The Company has not yet selected a transition method nor has it determined the effect of the standard on its ongoing financial reporting.

 

Note 14. Subsequent Events

 

Acquisition

On July 28, 2014, we acquired the inventory, equipment and intangible assets of Bellingham Buick GMC in Bellingham, Washington. We paid $1.7 million in cash for this acquisition.

 

Common Stock Dividend

On July 21, 2014, our Board of Directors approved a dividend of $0.16 per share on our Class A and Class B common stock related to our second quarter 2014 financial results. The dividend will total approximately $4.2 million and will be paid on August 22, 2014 to shareholders of record on August 8, 2014.

 

Item 2.     Management’s Discussion and Analysis of Financial Condition and Results of Operations

 

Forward-Looking Statements and Risk Factors

Certain statements under the sections entitled “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and “Risk Factors” and elsewhere in this Form 10-Q constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Generally, you can identify forward-looking statements by terms such as “project,” “outlook,” “target,” “may,” “will,” “would,” “should,” “seek,” “expect,” “plan,” “intend,” “forecast,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” “likely,” “goal,” “strategy,” “future,” “maintain,” and “continue” or the negative of these terms or other comparable terminology. Examples of forward-looking statements in this Form 10-Q include, among others, statements we make regarding:

 

Future market conditions.

 

Expected operating results, such as maintaining SG&A as a percentage of gross profit in the mid to upper 60% range and targeting incremental throughput of 50% on a same store basis.

 

The increase in our annual revenues and earnings per share that we estimate will result from the dealerships that we acquired and from the DCH Auto Group transaction.

 

 
19

 

 

 

Our belief that the DCH Auto Group transaction will close early in the fourth quarter.

 

Anticipated availability of liquidity from our unfinanced operating real estate.

 

Anticipated levels of capital expenditures in the future.

 

Our strategies for customer retention, growth, market position, financial results and risk management.

 

The forward-looking statements contained in this Form 10-Q involve known and unknown risks, uncertainties and situations that may cause our actual results, level of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these statements. Certain important factors that could cause actual results to differ from our expectations are discussed in Part II - Other Information, Item 1A in this Form 10-Q and in the Risk Factors section of our Annual Report on Form 10-K, as supplemented and amended from time to time in Quarterly Reports on Form 10-Q and our other filings with the Securities and Exchange Commission.

 

By their nature, forward-looking statements involve risks and uncertainties because they relate to events that depend on circumstances that may or may not occur in the future. While we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements, and our actual results of operations, financial condition and liquidity and development of the industries in which we operate may differ materially from those made in or suggested by the forward-looking statements in this Form 10-Q. You should not place undue reliance on these forward-looking statements. Any forward-looking statement speaks only as of the date on which it is made. We assume no obligation to update or revise any forward-looking statement.

 

Overview

We are a leading operator of automotive franchises and a retailer of new and used vehicles and related services. As of August 8, 2014, we offer 29 brands of new vehicles and all brands of used vehicles in 101 stores in the United States and online at Lithia.com. We sell new and used cars and replacement parts; provide vehicle maintenance, warranty, paint and repair services; arrange related financing; and sell service contracts, vehicle protection products and credit insurance.

 

Our mission statement is: “Driven by our employees and preferred by our customers, Lithia is the leading automotive retailer in each of our markets.” We offer our customers convenient, flexible, personalized service combined with the large company advantages of selection, competitive pricing, broad access to financing, and warranties. We strive for diversification in our products, services, brands and geographic locations to insulate us from market risk and to maintain profitability. We have developed a centralized support structure to reduce store level administrative functions. This allows store personnel to focus on providing a positive customer experience. With our management information systems and centrally-performed administrative functions in Medford, Oregon, we seek to gain economies of scale from our dealership network.

 

Results of Continuing Operations

For the three months ended June 30, 2014 and 2013, we reported income from continuing operations, net of tax, of $35.2 million, or $1.34 per diluted share, and $25.3 million, or $0.97 per diluted share, respectively.

 

For the six months ended June 30, 2014 and 2013, we reported income from continuing operations, net of tax, of $59.9 million, or $2.27 per diluted share, and $47.2 million, or $1.81 per diluted share, respectively. 

 

 
20

 

 

Discontinued Operations

The results of operations for stores sold, closed or held for sale are presented as discontinued operations for all periods in our Consolidated Statements of Operations if they qualify for reclassification under the applicable accounting guidance. As a result, our results from continuing operations are presented on a comparable basis for all periods.

 

We realized income from discontinued operations, net of tax, for the three months ended June 30, 2014 and 2013, of $3.1 million and $274,000, respectively. Income from discontinued operations, net of tax, for the six months ended June 30, 2014 and 2013 totaled $3.2 million and $447,000, respectively. See Note 11 of the Condensed Notes to Consolidated Financial Statements for additional information.

 

Key Revenue and Gross Profit Metrics

Key performance metrics for revenue and gross profit were as follows for the three and six months ended June 30, 2014 and 2013 (dollars in thousands):

 

Three months ended
June 30, 2014

 

Revenues

   

Percent of

Total

Revenues

   

Gross

Profit

   

Gross

Profit

Margin

   

Percent of

Total

Gross Profit

 

New vehicle

  $ 694,484       56.8 %   $ 45,994       6.6 %     23.9 %

Used vehicle retail

    310,475       25.4       44,067       14.2       22.9  

Used vehicle wholesale

    44,286       3.6       1,504       3.4       0.8  

Finance and insurance(1)

    43,838       3.6       43,838       100.0       22.8  

Service, body and parts

    114,337       9.4       56,182       49.1       29.2  

Fleet and other

    14,382       1.2       715       5.0       0.4  
    $ 1,221,802       100.0 %   $ 192,300       15.7 %     100.0 %

 

Three months ended
June 30, 2013

 

Revenues

   

Percent of

Total

Revenues

   

Gross

Profit

   

Gross

Profit

Margin

   

Percent of

Total

Gross Profit

 

New vehicle

  $ 569,487       56.5 %   $ 38,788       6.8 %     24.3 %

Used vehicle retail

    258,465       25.6       38,893       15.0       24.3  

Used vehicle wholesale

    37,691       3.7       695       1.8       0.4  

Finance and insurance(1)

    34,218       3.4       34,218       100.0       21.4  

Service, body and parts

    94,462       9.4       46,693       49.4       29.2  

Fleet and other

    14,182       1.4       546       3.8       0.4  
    $ 1,008,505       100.0 %   $ 159,833       15.8 %     100.0 %

 

Six months ended
June 30, 2014

 

Revenues

   

Percent of

Total

Revenues

   

Gross

Profit

   

Gross

Profit

Margin

   

Percent of

Total

Gross Profit

 

New vehicle

  $ 1,274,006       55.4 %   $ 85,018       6.7 %     23.3 %

Used vehicle retail

    612,368       26.6       84,863       13.9       23.3  

Used vehicle wholesale

    86,979       3.8       2,835       3.3       0.8  

Finance and insurance(1)

    83,469       3.6       83,469       100.0       22.9  

Service, body and parts

    218,954       9.5       107,014       48.9       29.4  

Fleet and other

    24,132       1.1       1,162       4.8       0.3  
    $ 2,299,908       100.0 %   $ 364,361       15.8 %     100.0 %

 

Six months ended
June 30, 2013

 

Revenues

   

Percent of

Total

Revenues

   

Gross

Profit

   

Gross

Profit

Margin

   

Percent of

Total

Gross Profit

 

New vehicle

  $ 1,062,928       55.6 %   $ 73,435       6.9 %     24.0 %

Used vehicle retail

    497,693       26.0       73,866       14.8       24.1  

Used vehicle wholesale

    77,197       4.0       1,669       2.2       0.6  

Finance and insurance(1)

    65,881       3.5       65,881       100.0       21.5  

Service, body and parts

    184,902       9.7       90,472       48.9       29.5  

Fleet and other

    22,984       1.2       948       4.1       0.3  
    $ 1,911,585       100.0 %   $ 306,271       16.0 %     100.0 %

(1)Commissions reported net of anticipated cancellations.

 

 
21

 

 

Same Store Operating Data

We believe that same store comparisons are an important indicator of our financial performance. Same store measures demonstrate our ability to grow our business at existing locations. As a result, same store measures have been integrated into the discussion below.

 

Same store measures reflect results for stores that were operating in each comparison period and only include the months when operations occurred in both periods. For example, a store acquired in May 2013 would be included in same store operating data beginning in June 2014, after its first full complete comparable month of operation. The second quarter operating results for the same store comparisons would include results for that store in only the period of June for both comparable periods.

 

New Vehicle Revenue and Gross Profit

   

Three Months Ended

June 30,

   

Increase

   

% Increase

 

(Dollars in thousands, except per unit amounts)

 

2014

   

2013

   

(Decrease)

   

(Decrease)

 

Reported

                               

Revenue

  $ 694,484     $ 569,487     $ 124,997       21.9 %

Gross profit

  $ 45,994     $ 38,788     $ 7,206       18.6  

Gross margin

    6.6 %     6.8 %  

(20)bp(1)

         
                                 

Retail units sold

    20,446       17,024       3,422       20.1  

Average selling price per retail unit

  $ 33,967     $ 33,452     $ 515       1.5  

Average gross profit per retail unit

  $ 2,250     $ 2,278     $ (28 )     (1.2 )
                                 

Same store

                               

Revenue

  $ 632,785     $ 566,862     $ 65,923       11.6 %

Gross profit

  $ 41,711     $ 38,588     $ 3,123       8.1  

Gross margin

    6.6 %     6.8 %  

(20)bp

         
                                 

Retail units sold

    18,379       16,937       1,442       8.5  

Average selling price per retail unit

  $ 34,430     $ 33,469     $ 961       2.9  

Average gross profit per retail unit

  $ 2,269     $ 2,278     $ (9 )     (0.4 )

 

(1)A basis point is equal to 1/100th of one percent.

 

   

Six Months Ended

June 30,

   

Increase

   

% Increase

 

(Dollars in thousands, except per unit amounts)

 

2014

   

2013

   

(Decrease)

   

(Decrease)

 

Reported

                               

Revenue

  $ 1,274,006     $ 1,062,928     $ 211,078       19.9 %

Gross profit

  $ 85,018     $ 73,435     $ 11,583       15.8  

Gross margin

    6.7 %     6.9 %  

(20)bp(1)

         
                                 

Retail units sold

    37,720       31,744       5,976       18.8  

Average selling price per retail unit

  $ 33,775     $ 33,484     $ 291       0.9  

Average gross profit per retail unit

  $ 2,254     $ 2,313     $ (59 )     (2.6 )
                                 

Same store

                               

Revenue

  $ 1,175,760     $ 1,060,303     $ 115,457       10.9 %

Gross profit

  $ 78,404     $ 73,235     $ 5,169       7.1  

Gross margin

    6.7 %     6.9 %  

(20)bp

         
                                 

Retail units sold

    34,323       31,657       2,666       8.4  

Average selling price per retail unit

  $ 34,256     $ 33,493     $ 763       2.3  

Average gross profit per retail unit

  $ 2,284     $ 2,313     $ (29 )     (1.3 )

 

 

New vehicle sales improved primarily due to volume growth as same store unit sales increased 8.5% and 8.4%, respectively, in the three- and six-month periods ended June 30, 2014 compared to the same periods in 2013. The number of new vehicles sold in the U.S. during the first six months of 2014 grew approximately 4.2% compared to the same period of 2013.

 

 
22

 

 

During the three- and six-month periods ended June 30, 2014, same store unit sales increased in all three categories of new vehicles compared to the same periods of 2013:

 

Our domestic brand same store unit sales grew 7.2% and 8.1%, respectively, compared to national domestic unit sales growth of 5.6% and 3.4%, respectively.

 

Our import brand same store unit sales grew 9.6% and 8.7%, respectively. National import brand unit sales grew 7.4% and 4.6%, respectively.

 

Our luxury brand same store unit sales grew 11.2% and 9.3%, respectively, compared to national luxury brand unit sales of 10.6% and 6.8%, respectively.

 

Recovery from the recession in our specific markets is different than the national average. Certain of our markets saw an increase in sales volumes that exceeded the national average, while others continued to lag behind the national average. As of the most recent data available, six of the twelve states we operate in, representing approximately 53% of our revenues for the six month period ended June 30, 2014, continue to be below the pre-recessionary vehicle registration levels experienced in 2006.

 

New vehicle gross profit dollars increased 18.6% and 15.8%, respectively, for the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013. On a same store basis, gross profit increased 8.1% and 7.1%, respectively, for the three- and six-month periods ended June 30, 2014. These increases were due to a greater number of vehicles sold, slightly offset by lower gross profit per unit and gross margins.

 

We focus on gross profit dollars earned per unit, not on gross margin percentage. On a same store basis, the average gross profit per new retail unit decreased $9 and $29, respectively, for the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013. This decrease was primarily due to the strategic decision to increase market share through lower retail pricing.

 

Increasing new unit sales creates additional used vehicle trade-in opportunities, finance and insurance sales and future service work. We believe the incremental business generated in future periods will more than offset the lower new vehicle gross profit per unit that has occurred with the pursuit of our volume-based strategy.

 

Used Vehicle Retail Revenue and Gross Profit

   

Three Months Ended

June 30,

   

Increase

   

% Increase

 

(Dollars in thousands, except per unit amounts)

 

2014

   

2013

   

(Decrease)

   

(Decrease)

 

Reported

                               

Retail revenue

  $ 310,475     $ 258,465     $ 52,010       20.1 %

Retail gross profit

  $ 44,067     $ 38,893     $ 5,174       13.3  

Retail gross margin

    14.2 %     15.0 %  

(80)bp

         
                                 

Retail units sold

    16,086       14,074       2,012       14.3  

Average selling price per retail unit

  $ 19,301     $ 18,365     $ 936       5.1  

Average gross profit per retail unit

  $ 2,739     $ 2,763     $ (24 )     (0.9 )
                                 

Same store

                               

Retail revenue

  $ 285,555     $ 257,754     $ 27,801       10.8 %

Retail gross profit

  $ 41,011     $ 38,799     $ 2,212       5.7  

Retail gross margin

    14.4 %     15.1 %  

(70)bp

         
                                 

Retail units sold

    14,709       14,033       676       4.8  

Average selling price per retail unit

  $ 19,414     $ 18,368     $ 1,046       5.7  

Average gross profit per retail unit

  $ 2,788     $ 2,765     $ 23       0.8  

  

 
23

 

 

   

Six Months Ended

June 30,

   

Increase

   

% Increase

 

(Dollars in thousands, except per unit amounts)

 

2014

   

2013

   

(Decrease)

   

(Decrease)

 

Reported

                               

Retail revenue

  $ 612,368     $ 497,693     $ 114,675       23.0 %

Retail gross profit

  $ 84,863     $ 73,866     $ 10,997       14.9  

Retail gross margin

    13.9 %     14.8 %  

(90)bp

         
                                 

Retail units sold

    32,402       27,735       4,667       16.8  

Average selling price per retail unit

  $ 18,899     $ 17,945     $ 954       5.3  

Average gross profit per retail unit

  $ 2,619     $ 2,663     $ (44 )     (1.7 )
                                 

Same store

                               

Retail revenue

  $ 570,759     $ 496,982     $ 73,777       14.8 %

Retail gross profit

  $ 79,820     $ 73,765     $ 6,055       8.2  

Retail gross margin

    14.0 %     14.8 %  

(80)bp

         
                                 

Retail units sold

    29,964       27,694       2,270       8.2  

Average selling price per retail unit

  $ 19,048     $ 17,945     $ 1,103       6.1  

Average gross profit per retail unit

  $ 2,664     $ 2,664     $ -       -  

 

Used vehicle retail sales are a strategic focus for organic growth. We offer three categories of used vehicles: manufacturer certified pre-owned vehicles; core vehicles, or three-to-seven-year-old vehicles below certain mileage limitations; and value autos, or older vehicles with higher mileage. Additionally, our volume-based strategy for new vehicle sales increases the organic opportunity to convert vehicles acquired via trade to retail used vehicle sales.

 

During the three- and six-month periods ended June 30, 2014, sales increased in all three categories of used vehicles compared to the same periods of 2013:

 

Same store unit sales for manufacturer certified pre-owned vehicles increased 11.3% and 19.0%, respectively.

 

Same store unit sales for the late model, lower-mileage vehicle category increased 2.7% and 5.2%, respectively.

 

Same store unit sales for the value auto category increased 4.1% and 6.7%, respectively.

 

Same store used vehicle retail revenue grew 10.8% and 14.8%, respectively, for the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013. An increasing supply of late model vehicles caused our certified pre-owned segment to grow more quickly than the other categories, resulting in revenue outpacing unit growth.

 

On average, each of our stores currently sells approximately 55 retail used vehicle units per month, compared to 51 in the same period of 2013. We target increasing average sales to 75 units per month.

 

Used retail vehicle gross profit dollars increased 13.3% and 14.9%, respectively, for the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013. On a same store basis, gross profit increased 5.7% and 8.2%, respectively, for the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013. These increases were related to volume growth offset by a decrease in gross margins as growth in certified pre-owned vehicles, which have a lower gross margin percentage, outpaced growth in our other used vehicle categories. Similar to new vehicle sales, we focus on gross profit dollars earned per unit, not on gross margin percentage, in evaluating our sales performance. 

 

 
24

 

 

Used Vehicle Wholesale Revenue and Gross Profit

 

   

Three Months Ended

June 30,

                 

(Dollars in thousands, except per unit amounts)

 

2014

   

2013

   

Increase

   

% Increase

 

Reported

                               

Wholesale revenue

  $ 44,286     $ 37,691     $ 6,595       17.5 %

Wholesale gross profit

  $ 1,504     $ 695     $ 809       116.4  

Wholesale gross margin

    3.4 %     1.8 %  

160bp

         
                                 

Wholesale units sold

    6,047       5,241       806       15.4  

Average selling price per wholesale unit

  $ 7,324     $ 7,192     $ 132       1.8  

Average gross profit per retail unit

  $ 249     $ 133     $ 116       87.2  
                                 

Same store

                               

Wholesale revenue

  $ 41,937     $ 37,692     $ 4,245       11.3 %

Wholesale gross profit

  $ 1,444     $ 748     $ 696       93.0  

Wholesale gross margin

    3.4 %     2.0 %  

140bp

         
                                 

Wholesale units sold

    5,649       5,241       408       7.8  

Average selling price per wholesale unit

  $ 7,424     $ 7,192     $ 232       3.2  

Average gross profit per retail unit

  $ 256     $ 143     $ 113       79.0  

 

   

Six Months Ended

June 30,

                 

(Dollars in thousands, except per unit amounts)

 

2014

   

2013

   

Increase

   

% Increase

 

Reported

                               

Wholesale revenue

  $ 86,979     $ 77,197     $ 9,782       12.7 %

Wholesale gross profit

  $ 2,835     $ 1,669     $ 1,166       69.9  

Wholesale gross margin

    3.3 %     2.2 %  

110bp

         
                                 

Wholesale units sold

    11,900       10,565       1,335       12.6  

Average selling price per wholesale unit

  $ 7,309     $ 7,307     $ 2       -  

Average gross profit per retail unit

  $ 238     $ 158     $ 80       50.6  
                                 

Same store

                               

Wholesale revenue

  $ 83,060     $ 77,172     $ 5,888       7.6 %

Wholesale gross profit

  $ 2,758     $ 1,781     $ 977       54.9  

Wholesale gross margin

    3.3 %     2.3 %  

100bp

         
                                 

Wholesale units sold

    11,200       10,564       636       6.0  

Average selling price per wholesale unit

  $ 7,416     $ 7,305     $ 111       1.5  

Average gross profit per retail unit

  $ 246     $ 169     $ 77       45.6  

 

Wholesale transactions are vehicles we have purchased from customers or vehicles we have attempted to sell via retail that we elect to dispose of due to inventory age or other factors. Wholesale vehicles are typically sold at or near inventory cost and do not comprise a meaningful component of our gross profit.

 

Finance and Insurance

   

Three Months Ended

June 30,

           

%

 

(Dollars in thousands, except per unit amounts)

 

2014

   

2013

   

Increase

   

Increase

 

Reported

                               

Revenue

  $ 43,838     $ 34,218     $ 9,620       28.1 %

Average finance and insurance per retail unit

  $ 1,200     $ 1,100     $ 100       9.1 %
                                 

Same store

                               

Revenue

  $ 39,892     $ 34,139     $ 5,753       16.9 %

Average finance and insurance per retail unit

  $ 1,206     $ 1,102     $ 104       9.4 %

  

 
25

 

 

   

Six Months Ended

June 30,

           

%

 

(Dollars in thousands, except per unit amounts)

 

2014

   

2013

   

Increase

   

Increase

 

Reported

                               

Revenue

  $ 83,469     $ 65,881     $ 17,588       26.7 %

Average finance and insurance per retail unit

  $ 1,190     $ 1,108     $ 82       7.4 %
                                 

Same store

                               

Revenue

  $ 77,322     $ 65,810     $ 11,512       17.5 %

Average finance and insurance per retail unit

  $ 1,203     $ 1,109     $ 94       8.5 %

 

The increases in finance and insurance sales were driven by increased vehicle sales volume and higher retail prices in the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013. Penetration rates on arranging financing for our customers and the sale of extended service contracts also increased. As a result, our average finance and insurance revenue per retail unit increased. We continue to see the availability of consumer credit expand in 2014 with lenders increasing the average loan-to-value amount available to most customers.

 

Penetration rates for specific categories of products were as follows:

 

   

Three Months Ended

June 30,

   

Six Months Ended
June 30,

 
   

2014

   

2013

   

2014

   

2013

 

Finance and insurance

    80 %     78 %     79 %     77 %

Service contracts

    43       42       43       42  

Lifetime lube, oil and filter contracts

    36       37       37       36  

 

 

Service, Body and Parts Revenue and Gross Profit

   

Three Months Ended

June 30,

   

Increase

         

(Dollars in thousands)

 

2014

   

2013

   

(Decrease)

   

% Increase

 

Reported

                               

Customer pay

  $ 64,331     $ 53,243     $ 11,088       20.8 %

Warranty

    19,908       15,707       4,201       26.7  

Wholesale parts

    19,950       16,916       3,034       17.9  

Body shop

    10,148       8,596       1,552       18.1  

Total service, body and parts

  $ 114,337     $ 94,462     $ 19,875       21.0 %
                                 

Service, body and parts gross profit

  $ 56,182     $ 46,693     $ 9,489       20.3 %

Service, body and parts gross margin

    49.1 %     49.4 %  

(30)bp

         
                               

Same store

                               

Customer pay

  $ 58,109     $ 52,932     $ 5,177       9.8 %

Warranty

    17,980       15,627       2,353       15.1  

Wholesale parts

    18,257       16,879       1,378       8.2  

Body shop

    9,424       8,596       828       9.6  

Total service, body and parts

  $ 103,770     $ 94,034     $ 9,736       10.4 %
                                 

Service, body and parts gross profit

  $ 50,988     $ 46,452     $ 4,536       9.8 %

Service, body and parts gross margin

    49.1 %     49.4 %  

(30)bp

         

 

 
26

 

 

   

Six Months Ended

June 30,

   

Increase

         

(Dollars in thousands)

 

2014

   

2013

   

(Decrease)

   

% Increase

 

Reported

                               

Customer pay

  $ 121,160     $ 102,561     $ 18,599       18.1 %

Warranty

    37,826       30,047       7,779       25.9  

Wholesale parts

    39,744       34,266       5,478       16.0  

Body shop

    20,224       18,028       2,196       12.2  

Total service, body and parts

  $ 218,954     $ 184,902     $ 34,052       18.4 %
                                 

Service, body and parts gross profit

  $ 107,014     $ 90,472     $ 16,542       18.3 %

Service, body and parts gross margin

    48.9 %     48.9 %     -          
                                 

Same store

                               

Customer pay

  $ 111,382     $ 102,252     $ 9,130       8.9 %

Warranty

    34,793       29,967       4,826       16.1  

Wholesale parts

    37,023       34,230       2,793       8.2  

Body shop

    19,501       18,028       1,473       8.2  

Total service, body and parts

  $ 202,699     $ 184,477     $ 18,222       9.9 %
                                 

Service, body and parts gross profit

  $ 98,906     $ 90,277     $ 8,629       9.6 %

Service, body and parts gross margin

    48.8 %     48.9 %  

(10)bp

         

 

Our service, body and parts sales grew in all areas in the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013. There are more late model vehicles in operation as new vehicle sales volumes have been increasing since 2010. We believe our sales in this area may increase in the coming years as more late model vehicles require repairs and maintenance.

 

We focus on retaining customers by offering competitively priced routine maintenance and increasing our marketing efforts. We increased our same store customer pay business 9.8% and 8.9%, respectively, in the three- and six-month periods ended June 30, 2014 compared to the same periods in 2013.

 

In the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013, same store warranty sales increased 15.1% and 16.1%, respectively. In 2014, several franchises, including General Motors, Chrysler and Toyota, have announced significant vehicle recalls. These recalls have increased warranty sales. Additionally, we continue to see increases due to the growing numbers of vehicles in operation. Routine maintenance, such as oil changes, offered by certain franchises including BMW, Toyota and General Motors for two to four years after a vehicle is sold, provides for future work. Domestic brand warranty work increased 37.6% and 33.1%, respectively, and import warranty work increased 6.7% and 7.0%, respectively, in the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013. Luxury warranty work decreased 4.2% for the three-month period ended June 30, 2014 compared to the same period of 2013, and increased 2.4% for the six-month period ended June 30, 2014 compared to the same period of 2013.

 

Wholesale parts represented 17.6% and 18.3% of our same store service, body and parts revenue mix in the first three and six months of 2014 and 17.9% and 18.6% in the first three and six months of 2013. Wholesale parts grew 8.2% in the first three and six months of 2014 compared to the same periods of 2013. We believe this increase is a function of targeting fleet and mechanical wholesale accounts.

 

Body shop represented 9.1% and 9.6% of our same store service, body and parts revenue mix in the first three and six months of 2014, and 9.1% and 9.8% in the first three and six months of 2013. Body shop grew 9.6% and 8.2% in the first three and six months of 2014 compared to the same periods of 2013. This increase is a result of obtaining additional direct repair relationships with insurance companies and certain personnel changes we made in 2014 that increased productivity and volume.

 

 
27

 

 

Service, body and parts gross profit increased 20.3% and 18.3% for the three- and six-month periods ended June 30, 2014 compared to the same periods of 2013, which is in line with our revenue growth. Our gross margins were consistent in the first three and six months of 2014 compared to the same periods of 2013.

 

Selling, General and Administrative Expense (“SG&A”)

SG&A includes salaries and related personnel expenses, advertising (net of manufacturer cooperative advertising credits), rent, facility costs, and other general corporate expenses.

 

   

Three Months Ended

June 30,

   

Increase

   

% Increase

 

(Dollars in thousands)

 

2014

   

2013

   

(Decrease)

   

(Decrease)

 

Personnel

  $ 85,332     $ 70,692     $ 14,640       20.7 %

Advertising

    10,374       9,700       674       6.9  

Rent

    3,757       3,324       433       13.0  

Facility costs

    7,301       6,658       643       9.7  

Other

    18,699       18,909       (210 )     (1.1 )

Total SG&A

  $ 125,463     $ 109,283     $ 16,180       14.8 %

 

   

Three Months Ended

June 30,

   

Increase

 

As a % of gross profit

 

2014

   

2013

   

(Decrease)

 

Personnel

    44.4 %     44.2 %  

20 bp

 

Advertising

    5.4       6.1       (70 )

Rent

    2.0       2.1       (10 )

Facility costs

    3.8       4.2       (40 )

Other

    9.6       11.8       (220 )

Total SG&A

    65.2 %     68.4 %  

(320) bp

 

 

   

Six Months Ended

June 30,

                 

(Dollars in thousands)

 

2014

   

2013

   

Increase

   

% Increase

 

Personnel

  $ 166,008     $ 137,824     $ 28,184       20.4 %

Advertising

    20,059       18,602       1,457       7.8  

Rent

    7,318       7,053       265       3.8  

Facility costs

    14,885       13,327       1,558       11.7  

Other

    39,022       33,608       5,414       16.1  

Total SG&A

  $ 247,292     $ 210,414     $ 36,878       17.5 %

 

   

Six Months Ended

June 30,

   

Increase

 

As a % of gross profit

 

2014

   

2013

   

(Decrease)

 

Personnel

    45.6 %     45.0 %  

60 bp

 

Advertising

    5.5       6.1       (60 )

Rent

    2.0       2.3       (30 )

Facility costs

    4.1       4.3       (20 )

Other

    10.7       11.0       (30 )

Total SG&A

    67.9 %     68.7 %  

(80) bp

 

 

SG&A expense increased $16.2 and $36.9 million in the three- and six-month periods ended June 30, 2014 compared to the same periods in 2013. SG&A as a percentage of gross profit was 65.2% and 68.4%, respectively, for the three months ended June 30, 2014 and 2013, and 67.9% and 68.7%, respectively, for the six months ended June 30, 2014 and 2013.

 

The increase in SG&A expense was primarily driven by increased variable costs associated with improved sales and an increase in store count. Additionally, during the first quarter of 2014, we recorded non-core charges of $3.9 million related to a reserve associated with a lawsuit filed in 2006 and settled in 2013, a charge for a hailstorm and a reserve for a contract assumed in an acquisition. In the second quarter of 2014, we recorded non-core charges of $0.2 million related to acquisition expenses for the pending combination with DCH Auto Group.

 

 
28

 

 

SG&A expense adjusted for non-core charges was as follows (in thousands):

 

   

Three Months Ended

June 30,

                 

(Dollars in thousands)

 

2014

   

2013

   

Increase

   

% Increase

 

Personnel

  $ 85,332     $ 70,692     $ 14,640       20.7 %

Advertising

    10,374       9,700       674       6.9  

Rent

    3,757       3,324       433       13.0  

Facility costs

    7,301       6,658       643       9.7  

Adjusted other

    18,536       15,096       3,440       22.8  

Adjusted total SG&A

  $ 125,300     $ 105,470     $ 19,830       18.8 %

 

   

Three Months Ended

June 30,

   

Increase

 

As a % of gross profit

 

2014

   

2013

   

(Decrease)

 

Personnel

    44.4 %     44.2 %  

20 bp

 

Advertising

    5.4       6.1       (70 )

Rent

    2.0       2.1       (10 )

Facility costs

    3.8       4.2       (40 )

Adjusted other

    9.6       9.4       20  

Adjusted total SG&A

    65.2 %     66.0 %  

(80) bp

 

 

   

Six Months Ended

June 30,

                 

(Dollars in thousands)

 

2014

   

2013

   

Increase

   

% Increase

 

Personnel

  $ 166,008     $ 137,824     $ 28,184       20.4 %

Advertising

    20,059       18,602       1,457       7.8  

Rent

    7,318       7,053       265       3.8  

Facility costs

    14,885       13,326       1,559       11.7  

Adjusted other

    34,928       29,796       5,132       17.2  

Adjusted total SG&A

  $ 243,198     $ 206,601     $ 36,597       17.7 %

 

   

Six Months Ended

June 30,

   

Increase

 

As a % of gross profit

 

2014

   

2013

   

(Decrease)

 

Personnel

    45.6 %     45.0 %  

60 bp

 

Advertising

    5.5       6.1       (60 )

Rent

    2.0       2.3       (30 )

Facility costs

    4.1       4.4       (30 )

Adjusted other

    9.5       9.7       (20 )

Adjusted total SG&A

    66.7 %     67.5 %  

(80) bp

 

 

Excluding the non-core charges of $0.2 million and $4.1 million, adjusted SG&A as a percentage of gross profit was 65.2% and 66.7%, respectively, for the three and six months ended June 30, 2014. See “Non-GAAP Reconciliations” for more details. As sales volume increases and we further leverage our cost structure, we anticipate maintaining SG&A as a percentage of gross profit in the mid to upper 60% range.

 

 
29

 

 

We also measure the leverage of our cost structure by evaluating throughput, which is the incremental percentage of gross profit retained after deducting SG&A expense.

 

   

Three Months Ended

June 30,

           

% of

Change in

 

(Dollars in thousands)

 

2014

   

2013

   

Change

   

Gross Profit

 

Gross profit

  $ 192,300     $ 159,833     $ 32,467       100.0 %

SG&A expense

    (125,463 )     (109,283 )     (16,180 )     (49.8 )

Throughput contribution

                  $ 16,287       50.2 %

 

   

Six Months Ended

June 30,

           

% of

Change in

 

(Dollars in thousands)

 

2014

   

2013

   

Change

   

Gross Profit

 

Gross profit

  $ 364,361     $ 306,271     $ 58,090       100.0 %

SG&A expense

    (247,292 )     (210,414 )     (36,878 )     (63.5 )

Throughput contribution

                  $ 21,212       36.5 %

 

Throughput, excluding non-core charges, was 38.9% and 37.0% for the three- and six-month periods ended June 30, 2014. These non-core charges were $0.2 million and $4.1 million, respectively, for the three- and six-month periods ended June 30, 2014 and $3.8 million for the three- and six-month periods ended June 30, 2013. See “Non-GAAP Reconciliations” for more details.

 

Throughput contributions for newly opened or acquired stores reduce overall throughput as in the first year of operation, a store’s throughput is equal to the inverse of its SG&A as a percentage of gross profit. For example, a store which achieves SG&A as a percentage of gross profit of 70% will have throughput of 30% in the first year of operation.

 

We acquired thirteen stores and opened two new stores since the first quarter of 2013. Adjusting for these locations and the adjustments discussed above, our throughput contribution on a same store basis was 50.5% and 45.7% for the three- and six-month periods ended June 30, 2014. We continue to target a same store throughput contribution of approximately 50%.

 

Depreciation and Amortization 

Depreciation and amortization is comprised of depreciation expense related to buildings, significant remodels or improvements, furniture, tools, equipment and signage and amortization of certain intangible assets, including customer lists and non-compete agreements.

 

   

Three Months Ended

June 30,

           

%

 

(Dollars in thousands)

 

2014

   

2013

   

Increase

   

Increase

 

Depreciation and amortization

  $ 5,825     $ 4,899     $ 926       18.9 %

 

   

Six Months Ended

June 30,

           

%

 

(Dollars in thousands)

 

2014

   

2013

   

Increase

   

Increase

 

Depreciation and amortization

  $ 11,332     $ 9,620     $ 1,712       17.8 %

 

Depreciation and amortization for the three and six months ended June 30, 2014, increased compared to the same periods of 2013 as we purchased previously leased facilities, built new facilities subsequent to the acquisition of stores and invested in improvements at our facilities and replacement of equipment. These investments increase the amount of depreciable assets and amortizable expenses. In the full year of 2013 and the first six months of 2014, we had capital expenditures of $50.0 million and $35.2 million, respectively.  

 

 
30

 

 

Operating Income

Operating income was 5.0% and 4.5% of revenue for the three-month periods ended June 30, 2014 and 2013, respectively. Operating income as a percentage of revenue was 4.6% and 4.5% for the six-month periods ended June 30, 2014 and 2013. Operating margin adjusted for non-core charges was 5.0% and 4.8% for the three- and six-month periods ended June 30, 2014. See “Non-GAAP Reconciliations” for more details. We continue to focus on cost control, which allows us to leverage our cost structure in an environment of improving sales.

 

Floor Plan Interest Expense and Floor Plan Assistance

Floor plan interest expense increased $0.2 million in the three months ended June 30, 2014 compared to the same period of 2013. Changes in the average outstanding balances on our floor plan facilities increased the expense $0.9 million, changes in the interest rates on our floor plan facilities decreased the expense $0.6 million and interest rate swap activity decreased the expense $0.1 million during the three months ended June 30, 2014 compared to the same period of 2013.

 

Floor plan interest expense decreased $0.3 million in the six months ended June 30, 2014 compared to the same period of 2013. Changes in the average outstanding balances on our floor plan facilities increased the expense $1.5 million, changes in the interest rates on our floor plan facilities decreased the expense $1.1 million and the maturity of three interest rate swaps decreased the expense $0.7 million during the six months ended June 30, 2014 compared to the same period of 2013.

 

Floor plan assistance is provided by manufacturers to support store financing of new vehicle inventory. Under accounting standards, floor plan assistance is recorded as a component of new vehicle gross profit when the specific vehicle is sold. However, because manufacturers provide this assistance to offset inventory carrying costs, we believe a comparison of floor plan interest expense to floor plan assistance is a useful measure of the efficiency of our new vehicle sales relative to stocking levels.

 

The following tables detail the carrying costs for new vehicles and include new vehicle floor plan interest net of floor plan assistance earned.

 

   

Three Months Ended

June 30,

           

%

 

(Dollars in thousands)

 

2014

   

2013

   

Change

   

Change

 

Floor plan interest expense (new vehicles)

  $ 3,215     $ 3,036     $ 179       5.9 %

Floor plan assistance (included as an offset to cost of sales)

    (6,806 )     (5,354 )     1,452       27.1  

Net new vehicle carrying costs

  $ (3,591 )   $ (2,318 )   $ 1,273       (54.9 )%

 

   

Six Months Ended

June 30,

           

%

 

(Dollars in thousands)

 

2014

   

2013

   

Change

   

Change

 

Floor plan interest expense (new vehicles)

  $ 6,199     $ 6,485     $ (286 )     (4.4 )%

Floor plan assistance (included as an offset to cost of sales)

    (12,424 )     (9,765 )     2,659       27.2  

Net new vehicle carrying costs

  $ (6,225 )   $ (3,280 )   $ 2,945       (89.8 )%

 

 

 
31

 

 

 

Other Interest Expense

Other interest expense includes interest on debt incurred related to acquisitions, real estate mortgages, our used vehicle inventory financing facility and our revolving line of credit.

 

   

Three Months Ended

June 30,

   

Increase

   

% Increase

 

(Dollars in thousands)

 

2014

   

2013

   

(Decrease)

   

(Decrease)

 

Mortgage interest

  $ 1,446     $ 1,505     $ (59 )     (3.9 )%

Other interest

    523       451       72       16.0  

Capitalized interest

    (100 )     (15 )     85       566.7  

Total other interest expense

  $ 1,869     $ 1,941     $ (72 )     (3.7 )%

 

   

Six Months Ended

June 30,

   

Increase

   

% Increase

 

(Dollars in thousands)

 

2014

   

2013

   

(Decrease)

   

(Decrease)

 

Mortgage interest

  $ 3,004     $ 3,491     $ (487 )     (14.0 )%

Other interest

    969       846       123       14.5  

Capitalized interest

    (130 )     (35 )     95       271.4  

Total other interest expense

  $ 3,843     $ 4,302     $ (459 )     (10.7 )%

 

Other interest expense decreased $0.1 and $0.5 million, respectively, in the first three and six months of 2014 compared to the same periods of 2013. In 2013, we used excess cash to pay off $25.8 million in mortgages, which contributed to the decrease. Other interest expense increased due to higher volumes of borrowing on our credit facility, offset by an increase in capitalized interest.

 

Other Income, Net

Other income, net primarily includes interest income and the gains related to an equity investment. Other income, net was $1.1 million and $0.6 million for the three-month periods ended June 30, 2014 and 2013, and $2.1 million and $1.4 million for the six-month periods ended June 30, 2014 and 2013, respectively.

 

Income Tax Expense 

Our effective income tax rate was 38.4% and 38.8% for the three- and six-month periods ended June 30, 2014 compared to 38.7% and 38.6%, respectively, in the comparable periods of 2013. For the full year of 2014, we forecast our income tax rate to be approximately 39.0%.

 

Non-GAAP Reconciliations

We believe each of the non-GAAP financial measures below improves the transparency of our disclosures, provides a meaningful presentation of our results from core business operations because they exclude adjustments for items not related to our ongoing core business operations and other non-cash adjustments, and improves the period-to-period comparability of our results from the core business operations. Our management uses these measures in conjunction with GAAP financial measures to assess our business, including our compliance with covenants in our credit facility and in communications with our Board of Directors concerning financial performance. These measures should not be considered an alternative to GAAP measures. 

 

 
32

 

 

The following tables reconcile certain reported non-GAAP measures to the most comparable GAAP measure from our Consolidated Statements of Operations (dollars in thousands, except per share amounts) for the three and six months ended June 30, 2014 and June 30, 2013:

 

   

Three Months Ended June 30, 2014

 
   

As reported

   

Acquisition

expenses

   

Tax

attributes

   

Adjusted

 

Selling, general and administrative

  $ 125,463     $ (163 )   $ -     $ 125,300  
                                 

Income from operations

    61,012       163       -       61,175  
                                 

Income from continuing operations before income taxes

  $ 57,074     $ 163     $ -     $ 57,237  

Income tax expense

    (21,904 )     (63 )     (73 )     (22,040 )

Net income from continuing operations

  $ 35,170     $ 100     $ (73 )   $ 35,197  
                                 

Diluted earnings per share from continuing operations

  $ 1.34     $ -     $ -     $ 1.34  

Diluted share count

    26,331                          

 

 

   

Three Months Ended June 30, 2013

 
   

As reported

   

Legal

accrual

adjustment

   

Tax

attribute

   

Adjusted

 

Selling, general and administrative

  $ 109,283     $ (3,813 )   $ -     $ 105,470  
                                 

Income from operations

  $ 45,651     $ 3,813     $ -     $ 49,464  
                                 

Income from continuing operations before income taxes

  $ 41,258     $ 3,813     $ -     $ 45,071  

Income tax expense

    (15,977 )     (1,484 )     (228 )     (17,689 )

Net income from continuing operations

  $ 25,281     $ 2,329     $ (228 )   $ 27,382  
                                 

Diluted earnings per share from continuing operations

  $ 0.97     $ 0.09     $ (0.01 )   $ 1.05  

Diluted share count

    26,134                          

  

 
33

 

 

   

Six Months Ended June 30, 2014

 
   

As reported

   

Reserve

adjustments

   

Acquisition

expenses

   

Tax attribute

   

Adjusted

 

Selling, general and administrative

  $ 247,292     $ (3,931 )   $ (163 )   $ -     $ 243,198  
                                         

Income from operations

    105,737       3,931       163       -       109,831  
                                         

Income from continuing operations before income taxes

  $ 97,778     $ 3,931     $ 163     $ -     $ 101,872  

Income tax expense

    (37,914 )     (1,545 )     (63 )     (73 )     (39,595 )

Net income from continuing operations

  $ 59,864     $ 2,386     $ 100     $ (73 )   $ 62,277  
                                         

Diluted earnings per share from continuing operations

  $ 2.27     $ 0.09     $ -     $ -     $ 2.36  

Diluted share count

    26,326                                  

 

 

   

Six months ended June 30, 2013

 
   

As reported

   

Legal accrual adjustment

   

Tax attribute

   

Adjusted

 

Selling, general and administrative

  $ 210,414     $ (3,813 )   $ -     $ 206,601  
                                 

Income from operations

  $ 86,237     $ 3,813     $ -     $ 90,050  
                                 

Income from continuing operations before income taxes

  $ 76,835     $ 3,813     $ -     $ 80,648  

Income tax expense

    (29,672 )     (1,484 )     (228 )     (31,384 )

Net income from continuing operations

  $ 47,163     $ 2,329     $ (228 )   $ 49,264  
                                 

Diluted earnings per share from continuing operations

  $ 1.81     $ 0.09     $ (0.01 )   $ 1.89  

Diluted share count

    26,120                          

 

Liquidity and Capital Resources

We manage our liquidity and capital resources to fund our operating, investing and financing activities. We rely primarily on cash flows from operations and borrowings under our credit agreements as the main sources for liquidity. We use those funds to invest in capital expenditures, increase working capital and fulfill contractual obligations. Funds remaining after these uses are used for acquisitions, debt retirement, cash dividends and share repurchases.

 

Available Sources

Below is a summary of our available funds (in thousands):

 

   

As of June 30,

   

Increase

   

%

Increase

 
   

2014

   

2013

   

(Decrease)

   

(Decrease)

 

Cash and cash equivalents

  $ 28,203     $ 20,257     $ 7,946       39.2 %

Available credit on the Credit Facility

    83,980       90,983       (7,003 )     (7.7 )

Total current available funds

  $ 112,183     $ 111,240     $ 943       0.8 %

Estimated funds from unfinanced real estate

    161,842       122,808       39,034       31.8  

Total estimated available funds

  $ 274,025     $ 234,048     $ 39,977       17.1 %

  

 
34

 

 

Our cash flows generated by operating activities and our credit facility are our most significant sources of liquidity. We have a $1.0 billion revolving syndicated credit facility that matures in December 2018. This facility provides new vehicle inventory floor plan financing, used vehicle inventory financing and a revolving line of credit for general corporate purposes.

 

We also have the ability to raise funds through mortgaging real estate. As of June 30, 2014, our unencumbered owned operating real estate had a book value of $215.8 million. Assuming we can obtain financing on 75% of this value, we estimate we could have obtained additional funds of approximately $161.8 million at June 30, 2014; however, no assurances can be provided that the appraised value of this property will match or exceed its book value or that this capital source will be available on terms acceptable to us.

 

In addition to the above sources of liquidity, potential sources include the placement of subordinated debentures or loans, the sale of equity securities and the sale of stores or other assets. We evaluate all of these options and may select one or more of them depending on overall capital needs and the availability and cost of capital, although no assurances can be provided that these capital sources will be available in sufficient amounts or with terms acceptable to us.

 

Information about our cash flows, by category, is presented in our Consolidated Statement of Cash Flows. The following table summarizes our cash flows for the six months ended June 30, 2014 and 2013:

 

   

Six Months Ended

June 30,

   

Increase

 
   

2014

   

2013

   

(Decrease)

 

Net cash provided by (used in) operating activities

  $ (4,194 )   $ 24,449     $ (28,643 )

Net cash used in investing activities

    (107,446 )     (55,978 )     (51,468 )

Net cash provided by financing activities

    116,157       8,947       107,210  

 

Operating Activities

Compared to the same period of 2013, cash provided by operating activities for the six months ended June 30, 2014 decreased $28.6 million.

 

Borrowings from and repayments to our syndicated lending group related to our new vehicle inventory floor plan financing are presented as financing activities. To better understand the impact of changes in inventory and the associated financing, we also consider our net cash provided by operating activities adjusted to include cash activity associated with our new vehicle credit facility.

 

   

Six Months Ended

June 30,

   

Increase

 

(Dollars in thousands)

 

2014

   

2013

   

(Decrease)

 

Net cash provided by (used in) operating activities – as reported

  $ (4,194 )   $ 24,449     $ (28,643 )

Add: Net borrowings on floor plan notes payable, non-trade

    112,910       5,989       106,921  

Net cash provided by operating activities – adjusted

  $ 108,716     $ 30,438     $ 78,278  

 

Adjusted net cash provided by operating activities increased $78.3 million in the first six months of 2014 compared to the same periods of 2013, primarily driven by increased net borrowings on floor plan notes payable.

 

Investing Activities

Net cash used in investing activities totaled $107.4 million and $56.0 million for the six-month periods ended June 30, 2014 and 2013. Cash flows from investing activities relate primarily to capital expenditures, acquisition and divestiture activity and sales of property and equipment.

 

 
35

 

 

Below are highlights of significant activity related to our cash flows from investing activities:

 

   

Six Months Ended

June 30,

         

(Dollars in thousands)

 

2014

   

2013

   

Increase

 

Capital expenditures

  $ (35,230 )   $ (22,107 )   $ 13,123  

Cash paid for acquisitions, net of cash acquired

    (79,482 )     (31,786 )     47,696  

 

Capital expenditures

Below is a summary of our capital expenditure activities:

 

   

Six Months Ended

June 30,

 

(Dollars in thousands)

 

 

2014

   

 

2013

 

Post-acquisition capital improvements

  $ 4,201     $ 2,695  

Facilities for open points

    3,031       2,949  

Purchases of previously leased facilities

    17,124       6,774  

Existing facility improvements

    6,134       4,322  

Maintenance

    4,740       5,367  

Total capital expenditures

  $ 35,230     $ 22,107  

 

We expect to make capital expenditures in 2014 of approximately $110 million for a combined Lithia/DCH organization related to capital improvements at recently acquired stores, purchases of land for expansion of existing stores, facility image improvements, purchases of store facilities, purchases of previously leased facilities and replacement of equipment.

 

Many manufacturers provide assistance in the form of additional vehicle incentives if facilities meet image standards and requirements. Certain facility upgrades and remodels will generate additional manufacturer incentive payments.

 

We expect to make a portion of our future capital expenditures to upgrade facilities that we recently acquired. This additional capital investment is contemplated in our initial evaluation of the investment return metrics applied to each acquisition and is usually associated with manufacturer image standards and requirements.

 

Acquisitions

We focus on acquiring stores at opportunistic purchase prices that meet our return thresholds and strategic objectives. Additionally, we have a pending combination with a partner to expand our footprint and future growth opportunities.

 

We acquired seven stores in the first six months of 2014. These acquisitions diversify our brand and geographic mix as we continue to evaluate our portfolio to minimize exposure to any one manufacturer and achieve financial returns. We acquired three stores in the first six months of 2013.

 

In June 2014, we also entered into a definitive agreement with DCH Auto Group Limited to acquire 100 percent of the outstanding shares of DCH Auto Group Inc., one of the 10 largest dealer groups in the country. The purchase price is equal to a fixed payment for goodwill and the tangible net work of DCH as of the closing date, which we estimate will be approximately $362.5 million, to be paid with approximately $340 million in cash and $22.5 million payable in shares of our Class A Common Stock. In 2013, DCH sold approximately 50,000 new vehicle units and 23,400 used vehicle retail units. We estimate the DCH stores will generate approximately $2.3 billion in annualized revenue with a projected full year earnings impact of $0.65 to $0.75 per share.

 

 
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The transaction is expected to be funded through the expansion of Lithia's existing credit facility by $600 million, mortgage financing of $200 million, and available cash flows from operations. After financing the DCH combination, we expect our year-end leverage ratio to be approximately 1.8 times net debt to EBITDA, excluding floorplan debt. The acquisition of DCH is targeted to close in the fourth quarter of 2014, and is subject to customary closing conditions, including our receipt of adequate financing to complete the purchase, regulatory approvals and required auto manufacturer approvals. See our Form 8-K dated June 15, 2014 and filed with the Securities and Exchange Commission on June 16, 2014 for more information.

 

We follow disciplined capital investment metrics in evaluating all potential transactions.

 

Financing Activities

Net cash provided by financing activities totaled $116.2 million and $8.9 million for six-month periods ended June 30, 2014 and 2013, respectively. Cash flows from financing activities relate to debt issuances, repayments and recurring monthly payments as well as equity transactions.

 

Below are highlights of significant activity related to our cash flows from financing activities, excluding net borrowings on floor plan notes payable, non-trade, which are discussed above:

 

   

Six Months Ended

June 30,

   

Increase

 

(Dollars in thousands)

 

2014

   

2013

   

(Decrease)

 

Net borrowings (repayments) on lines of credit

  $ 11,000     $ 30,682     $ (19,682 )

Principal payments on long-term debt, unscheduled

    -       (25,770 )     (25,770 )

Repurchases of common stock

    (10,206 )     (7,903 )     2,303  

Dividends paid

    (7,557 )     (3,356 )     4,201  

 

Borrowing and Repayment Activity

During the six-months ended June 30, 2014, we had net borrowings of $11.0 million associated with our used vehicle financing facility and our revolving line of credit. These borrowings primarily related to the funding of our acquisition activity. In the first six months of 2013, we strategically paid off $25.8 million in outstanding mortgages.

 

We continue to deleverage our balance sheet, which provides us with liquidity that can be deployed in future periods if accretive opportunities arise. As of June 30, 2014 our debt to total capital ratio, excluding floor plan notes payable, was 31.2% compared to 38.7% as of June 30, 2013.

 

Equity Transactions

Under the share repurchase program authorized by our Board of Directors and repurchases associated with stock compensation activity, we repurchased 151,772 shares of our Class A common stock at an average price of $67.24 per share in the first six months of 2014.

 

In the first six months of 2014, we declared and paid dividends on our Class A and Class B common stock as follows:

 

Dividend paid:

 

Dividend

amount per

share

   

Total amount of

dividend (in

thousands)

 

March 2014

  $ 0.13     $ 3,378  

May 2014

    0.16       4,179  

 

Management evaluates performance and makes a recommendation to the Board of Directors on dividend payments on a quarterly basis.

 

 
37

 

 

Inventories

As of June 30, 2014, our new vehicle days supply was 71, or five days lower than our days supply as of June 30, 2013. Our days supply of used vehicles was 60 days as of June 30, 2014, or nine days higher than our days supply as of June 30, 2013. We calculate days supply of inventory based on current inventory levels, excluding in-transit vehicles, and a 30-day historical cost of sales level. We have continued to focus on managing our unit mix and maintaining an appropriate level of new and used vehicle inventory.

 

Summary of Outstanding Balances on Credit Facilities and Long-Term Debt

Below is a summary of our outstanding balances on credit facilities and long-term debt (in thousands):

 

   

Outstanding as of June 30, 2014

   

Remaining

Available as of

June 30, 2014

 

New vehicle floor plan commitment

  $ 806,684     $ 8,316 (1)

Floor plan notes payable

    20,598       -  

Used vehicle inventory financing facility

    96,000       4,000 (3)

Revolving line of credit

    -       79,980 (2),(3)

Real estate mortgages

    166,718       -  

Other debt

    5,695       -  

Total debt

  $ 1,095,695     $ 92,890  

 

(1)

As of June 30, 2014, we had a $815 million new vehicle floor plan commitment as part of our credit facility.

(2)

Available credit is based on the borrowing base amount effective as of June 30, 2014. This amount is reduced by $5.0 million for outstanding letters of credit.

(3)

The amount available on the credit facility is limited based on a borrowing base calculation and fluctuates monthly.

 

Credit Facility

We have a $1.0 billion revolving credit facility, maturing December 2018, with a syndicate of 13 financial institutions, including seven manufacturer-affiliated finance companies. Our credit facility provides a new vehicle inventory floor plan commitment, a used vehicle inventory financing facility and a revolving line of credit for general corporate purposes, including acquisitions and working capital. This credit facility may be expanded to $1.25 billion total availability, subject to lender approval.

 

We may request a reallocation of up to $250 million of any unused portion of our credit facility as long as no event of default has occurred. A reallocation may be requested monthly and cannot result in a change in either our used vehicle inventory financing facility or the revolving line of credit exceeding the lesser of 20% of the aggregate commitment or $200 million. All borrowings from, and repayments to, our lending group are presented in the Consolidated Statements of Cash Flows as financing activities.

 

The new vehicle floor plan commitment is collateralized by our new vehicle inventory. Our used vehicle inventory financing facility is collateralized by our used vehicle inventory that has been in stock for less than 180 days. Our revolving line of credit is secured by our outstanding receivables related to vehicle sales, unencumbered vehicle inventory, other eligible receivables, parts and accessories and equipment.

 

We have the ability to deposit up to $50 million in cash in Principal Reduction “PR” accounts associated with our new vehicle inventory floor plan commitment. The PR accounts are recognized as offsetting credits against outstanding amounts on our new vehicle floor plan commitment and would reduce interest expense associated with the outstanding principal balance. As of June 30, 2014, we had no amounts deposited in our PR accounts.

 

 
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If the outstanding principal balance on our new vehicle inventory floor plan commitment, plus requests on any day, exceeds 95% of the loan commitment, a portion of the revolving line of credit must be reserved. The reserve amount is equal to the lesser of $15.0 million or the maximum revolving line of credit commitment less the outstanding balance on the line less outstanding letters of credit. The reserve amount will decrease the revolving line of credit availability and may be used to repay the new vehicle floor plan commitment balance.

 

The interest rate on the credit facility varies based on the type of debt and the calculated leverage ratio, with the rate ranging from the one-month LIBOR plus 1.25% to the one-month LIBOR plus 2.5%. The annual interest rate associated with our new vehicle floor plan commitment, excluding the effects of our interest rate swaps, was 1.4% at June 30, 2014. The annual interest rate associated with our used vehicle inventory financing facility and our revolving line of credit was 1.7% and 1.4%, respectively, at June 30, 2014.

 

Under the terms of our credit facility we are subject to financial covenants and restrictive covenants that limit or restrict our incurring additional indebtedness, making investments, selling or acquiring assets and granting security interests in our assets.

 

Under our credit facility, we are required to maintain the ratios detailed in the following table:

 

Debt Covenant Ratio

 

Requirement

 

As of June 30, 2014

Current ratio

 

Not less than 1.20 to 1

 

1.29 to 1

Fixed charge coverage ratio

 

Not less than 1.20 to 1

 

4.22 to 1

Leverage ratio

 

Not more than 5.00 to 1

 

1.29 to 1

Funded debt restriction (in millions)

 

Not to exceed $375

 

$172.4

 

We expect to remain in compliance with the financial and restrictive covenants in our credit facility and other debt agreements. However, no assurances can be provided that we will continue to remain in compliance with the financial and restrictive covenants.

 

If we do not meet the financial and restrictive covenants and are unable to remediate or cure the condition or obtain a waiver from our lenders, a breach would give rise to remedies under the agreement, the most severe of which is the termination of the agreement and acceleration of the amounts owed. A breach would also trigger cross-defaults under other debt agreements.

 

Floor Plan Notes Payable

We have floor plan agreements with manufacturer-affiliated finance companies for vehicles that are designated for use as service loaners. The variable interest rates on these floor plan notes payable commitments vary by manufacturer. At June 30, 2014, $20.6 million was outstanding on these arrangements. Borrowings from, and repayments to, manufacturer-affiliated finance companies are classified as operating activities on the Consolidated Statements of Cash Flows.

 

Real Estate Mortgages and Other Debt

We have mortgages associated with our owned real estate. Interest rates related to this debt ranged from 1.7% to 4.4% at June 30, 2014. The mortgages are payable in various installments through May 2031. As of June 30, 2014, we had fixed interest rates on 80% of our outstanding mortgage debt.

 

Our other debt includes capital leases and had interest rates that ranged from 2.0% to 9.4% at June 30, 2014. This debt, which totaled $5.7 million at June 30, 2014, is due in various installments through January 2024.

 

Recent Accounting Pronouncements

See Note 13 of the Condensed Notes to Consolidated Financial Statements in this Quarterly Report on Form 10-Q.

 

 
39

 

 

Critical Accounting Policies and Use of Estimates

There have been no material changes in the critical accounting policies and use of estimates described in our 2013 Annual Report on Form 10-K filed with the Securities and Exchange Commission on February 21, 2014. 

 

Seasonality and Quarterly Fluctuations

Historically, our sales have been lower in the first and fourth quarters of each year due to consumer purchasing patterns during the holiday season, inclement weather in certain of our markets and the reduced number of business days during the holiday season. As a result, financial performance is expected to be lower during the first and fourth quarters than during the second and third quarters of each fiscal year. However, more recently, our franchise diversification and cost control efforts have moderated the significance of our seasonality. We believe that interest rates, levels of consumer debt, consumer confidence and manufacturer sales incentives, as well as general economic conditions, also contribute to fluctuations in sales and operating results.

 

Off-Balance Sheet Arrangements

We do not have any off-balance sheet arrangements that have or are reasonably likely to have a material current or future effect on our financial condition, changes in financial condition, revenues or expenses, results of operations, liquidity, capital expenditures or capital resources.

 

Item 3. Quantitative and Qualitative Disclosures About Market Risk

 

There have been no material changes in our market risks or risk management policies since the end of our preceding fiscal year, as discussed in our 2013 Annual Report on Form 10-K, which was filed with the Securities and Exchange Commission on February 21, 2014.

 

Item 4. Controls and Procedures

 

Evaluation of Disclosure Controls and Procedures

Our management evaluated, with the participation and under the supervision of our Chief Executive Officer and our Chief Financial Officer, the effectiveness of our disclosure controls and procedures as of the end of the period covered by this Quarterly Report on Form 10-Q. Based on this evaluation, our Chief Executive Officer and our Chief Financial Officer concluded that our disclosure controls and procedures are effective to ensure that information we are required to disclose in reports that we file or submit under the Securities Exchange Act of 1934 is accumulated and communicated to our management, including our Chief Executive Officer and our Chief Financial Officer, as appropriate to allow timely decisions regarding required disclosure and that such information is recorded, processed, summarized and reported within the time periods specified in Securities and Exchange Commission rules and forms.

 

Changes in Internal Control Over Financial Reporting

There was no change in our internal control over financial reporting that occurred during our last fiscal quarter that has materially affected or is reasonably likely to materially affect our internal control over financial reporting.

 

PART II - OTHER INFORMATION

 

Item 1. Legal Proceedings

 

Except as disclosed in Note 5 of the Condensed Notes to Consolidated Financial Statements in this Quarterly Report on Form 10-Q, there have been no new proceedings or material changes to proceedings previously disclosed in our 2013 Annual Report on Form 10-K. The information in this Form 10-Q should be read in conjunction with the legal proceedings disclosed in that report, which was filed with the Securities and Exchange Commission on February 21, 2014.

 

 
40

 

 

Item 1A. Risk Factors

 

There have been no material changes from the risk factors previously disclosed in our 2013 Annual Report on Form 10-K. The information in this Form 10-Q should be read in conjunction with the risk factors and information disclosed in that report, which was filed with the Securities and Exchange Commission on February 21, 2014.

 

Item 2. Unregistered Sales of Equity Securities and Use of Proceeds

 

We repurchased the following shares of our Class A common stock during the second quarter of 2014:

 

   

Total number

of shares

purchased

   

Average

price paid

per share

   

Total number of shares purchased as part of publicly announced plan(1)

   

Maximum number of shares that may yet be purchased under the plans

 

April 1 to April 30

    11,000     $ 68.55       11,000       1,700,953  

May 1 to May 31

    10,500       75.12       10,500       1,690,453  

June 1 to June 30

    8,553       84.45       8,500       1,681,953  

Total

    30,053       75.37       30,000       1,681,953  

 

(1)

In 2011 and 2012, our Board of Directors authorized the repurchase of up to a total of 3,000,000 shares of our Class A common stock. Through June 30, 2014, we have repurchased 1,318,047 shares at an average price of $25.81 per share. This authority to repurchase shares does not have an expiration date nor a maximum aggregate dollar amount for repurchases.

 

Item 6. Exhibits

 

2.1*

 

Stock Purchase Agreement, dated June 14, 2014, between Lithia Motors, Inc. and DCH Auto Group (USA) Limited.

2.2

 

First Amendment to Stock Purchase Agreement, effective July 15, 2014, between Lithia Motors, Inc. and DCH Auto Group (USA) Limited.

3.1

 

Restated Articles of Incorporation of Lithia Motors, Inc., as amended May 13, 1999 (incorporated by reference to exhibit 3.1 to our Form 10-K for the year ended December 31, 1999).

3.2

 

2013 Amended and Restated Bylaws of Lithia Motors, Inc. (incorporated by reference to exhibit 3.1 to Form 8-K dated August 20, 2013 and filed with the Securities and Exchange Commission on August 26, 2013).

31.1

 

Certification of Chief Executive Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934.

31.2

 

Certification of Chief Financial Officer pursuant to Rule 13a-14(a) or Rule 15d-14(a) of the Securities Exchange Act of 1934.

32.1

 

Certification of Chief Executive Officer pursuant to Rule 13a-14(b) or Rule 15d-14(b) of the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350.

32.2

 

Certification of Chief Financial Officer pursuant to Rule 13a-14(b) or Rule 15d-14(b) of the Securities Exchange Act of 1934 and 18 U.S.C. Section 1350.

101.INS

 

XBRL Instance Document.

101.SCH

 

XBRL Taxonomy Extension Schema Document.

101.CAL

 

XBRL Taxonomy Extension Calculation Linkbase Document.

101.DEF

 

XBRL Taxonomy Extension Definition Linkbase Document.

101.LAB

 

XBRL Taxonomy Extension Label Linkbase Document.

101.PRE

 

XBRL Taxonomy Extension Presentation Linkbase Document.

     

* Portion of this exhibit were omitted pursuant to a request for confidential treatment that has been filed separately with the Securities and Exchange Commission.

 

 
41

 

 

SIGNATURES

 

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.

 

Date: August 8, 2014                     

LITHIA MOTORS, INC. 

 

 

 

 

 

By: /s/ Christopher S. Holzshu

 

Christopher S. Holzshu 

 

Senior Vice President, 

 

Chief Financial Officer and Secretary 

 

(Principal Financial Officer) 

 

 

 

 

 

 

 

 

 

By: /s/ John F. North III 

 

John F. North III 

 

Vice President and 

 

Corporate Controller 

 

(Principal Accounting Officer)