Lithia Motors Q3 2024 Earnings Call Transcript

Quartr
Provided by Quartr
October 23, 2024

There are 13 speakers on the call.

Operator

As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Jardan Jaramillo.

Operator

Thank you. You may begin.

Speaker 1

Good morning. Thank you for joining us for our Q3 earnings call. With me today are Brian DeBoer, President and CEO Adam Chamberlain, Chief Operating Officer Tina Miller, Senior Vice President and CFO and finally, Chuck Leitz, Senior Vice President of Driveway Finance. Today's discussion may include statements about future events, financial projections and expectations about the company's products, markets and growth. Such statements are forward looking and subject to risks and uncertainties that could cause actual results to materially differ from the statements made.

Speaker 1

We disclose those risks and uncertainties we deem to be material in our filings with the Securities and Exchange Commission. We urge you to carefully consider these disclosures and not to place undue reliance on forward looking statements. We undertake no duty to update any forward looking statements, which are made as of the date of this release. Our results discussed today include references to non GAAP financial measures. Please refer to the text of today's press release for reconciliation of comparable GAAP measures.

Speaker 1

We have also posted an updated investor presentation on our website, investors. Lithiadriveway.com, highlighting our Q3 results. With that, I would like to turn the call over to Brian DeBoer, President and CEO.

Speaker 2

Thank you, Jardan. Good morning and welcome to our Q3 earnings call. Our Lithium Driveway teams continue to deliver strong results as we advance the growth of our unique integrated and profitable mobility ecosystem. This quarter, our team demonstrated exceptional focus and execution, driving continued improvement as we achieved adjusted diluted earnings per share of $8.21 As the industry continues to normalize, we gained momentum and reinforced our strategy to serve customers wherever, whenever and however they desire positioning us well for future growth. Over the past several years, we have effectively leveraged robust earnings and capital to significantly scale and diversify our business.

Speaker 2

Through disciplined execution, we have nearly tripled revenue and earnings since 2019, while building our industry differentiating strategic adjacencies, DFC, driveway and green cars, world class technology and fleet management. These foundational assets provide us an unmatched capabilities to drive continued growth, industry consolidation, margin expansion and cost efficiencies. As we look ahead, our focus remains to deliver operational efficiencies that enhance customer loyalty, capture market share and maximize the value of our ecosystem. Now on to key results for the Q3. Lithium Driveway grew revenues to a record $9,200,000,000 an 11% increase from Q3 of last year.

Speaker 2

We continue to make significant progress with sequential improvements in cost efficiency, driving adjusted SG and A from 67.9 percent of gross profit in Q2 to 66% this quarter. We achieved $200,000,000 in annualized cost savings, mostly coming from personnel related reductions. The 60 day plan has now evolved into the everyday plan, embedding consistent cost discipline into our daily operations. As we move into 2025, we see even more opportunities for savings, productivity improvements and ongoing inventory reductions, all made possible by the focused execution of our team. We are pleased by the ongoing strength in new GPUs, but continue to expect combined vehicle GPUs to normalize in the coming quarters to between $4,200 $4,500 including F and I.

Speaker 2

Our aftersales business performed well this quarter, which reflects the strength of our teams and their ownership of making decisions closest to our customers. Our investments in adjacencies are progressing towards sustainable and meaningful profitability. Financing operations delivered another profitable quarter demonstrating the strong earnings trajectory of that platform. Additionally, burn rates for both driveway and green cars were down nearly 40% year over year as we continue to refine our e commerce strategies, enhance operating and advertising efficiencies and bring in new customers as part of our omnichannel strategy. This quarter also had our first strong returns on our wheels investment and we look forward to realizing the synergies presented by this new partnership.

Speaker 2

We saw the direct results of improving the operating effectiveness of our cost structure shown in SG and A as a percentage of growth, which decreased 190 basis points sequentially and we continue to focus on unlocking the profitability of our ecosystem by decisively acting to meet customer demands and operate efficiently, delivering on our core strength of execution. Turning to our unique and difficult to replicate strategy. The foundation of the LAD strategy lies in our vast physical network, supported by the industry's most talented people, high demand inventory and dense store footprint. We continue to expand this network adding new locations, developing key adjacencies and forming strategic partnerships like Pinewood Technologies and Wills, all aimed at enhancing customer experiences and diversifying our portfolio. We operate in one of the largest addressable retail markets globally and our ability to grow profitably across every aspect of our business remains stronger than ever.

Speaker 2

As a reminder, in addition to being the largest retail market, auto is also one of the least consolidated, which is why being the most competitive buyer in this space is a key competitive advantage. Our strategy of delivering customer solutions that are simple, convenient and transparent is steadfast, enabling us to capture a greater share of the customer's wallet and create infectious loyalty. These solutions are tightly integrated with our digital platforms, fostering a natural and lasting retention of our consumers within our ecosystem, while brands like Driveway and Green Cars significantly extend our reach to 50 times more consumers than our core physical businesses provide. The LAD digital ecosystem continued to show positive momentum with continued year over year growth to 12,000,000 monthly unique visitors with driveway and green cars contributing 3,000,000 MUVs. We continue to see strong MUV effectiveness translating to 25,000 digital units in the Q3.

Speaker 2

Our teams continue to deliver exceptional customer experiences with a clear focus on expanding market share on our way towards profitability. We are excited about the progress our partnership with Pinewood Technologies has made within Lithia U. K. As we now have over 90% of our stores operating effectively on their platform. These technology solutions enable us to place both consumers and our team members within a unified ecosystem, boosting productivity, significantly enhancing the customer experience and strengthening our operational resiliency.

Speaker 2

The strength of these platforms, financial discipline, regenerative free cash flows and a culture that drives growth powered by people enables us to be agile in responding to local market dynamics. Our strategic position and expansion of the My Driveway consumer portal allows us to increase touch points throughout the customer's lifecycle across our adjacency and equipped our stores with tools to improve market share, loyalty and ultimate profitability. Acquisition remains a core competency of LAD and we continue our disciplined approach to look LAD and we continue our disciplined approach to look

Speaker 3

for accretive opportunities that can improve our

Speaker 2

network focusing on the United States. We target a minimum after tax return of 15% and acquiring for 15% to 30% of revenues 3 to 6 times normalized EBITDA. We iterate our expectation that estimated future annual acquisition revenues will be in the range of $2,000,000,000 to $4,000,000,000 per year. Life to date, our acquisitions have yielded over 95% success rate and after tax returns of over 25%, demonstrating that LAD is not your typical high risk roll up strategy. This quarter, we welcomed 3 stores from Duval Motor Company in Northern Florida to Lithian Driveway.

Speaker 2

To date, in 2024, we have acquired just shy of $6,000,000,000 in annual revenues. I would like to personally welcome all our new team members to the Lithia and Driveway family. Additionally, we are pleased to report that our Southeast U. S. Stores and our teams are safe and came through the storms with minimal impact.

Speaker 2

We remain focused on growth and view industry consolidation as a driver of continued strong long term returns. With the capital engines we built, we were able to deploy our free cash flows to generate the highest returns remaining flexible to market conditions. As outlined last quarter, we have adjusted our capital allocations to balance acquisitions and share buybacks equally, especially given the attractive relative valuation of our own shares. During the quarter, we repurchased $54,000,000 or 0.7 percent of our outstanding shares. We continue to evaluate acquisitions and share repurchases and believe in the near term that 30% to 40% of our free cash flows will be deployed to share buybacks.

Speaker 2

These elements combine for a clear and compelling pathway to generating $2 of EPS for every $1,000,000,000 in revenue in a normalized environment as illustrated in Slide 14 of our investor presentation. The key factors underlying our future steady state are now totally within our control and include the following. 1st, continue to improve our operational performance by realizing the massive potential that we have built in our existing stores. This includes increasing our share of wallet through greater customer lifecycle interactions, sustained productivity gains, cost efficiencies and growing each store's new, used and after sales market share. Through these levers in our business, we see

Speaker 4

a pathway to achieve SG and A as a percentage of gross profit in the mid-fifty percent range.

Speaker 2

2nd, optimizing our network by acquiring and driving high performance in larger automotive retail stores in the stronger profitability regions of the Southeast and South Central United States. This alongside our digital channels will bring our blended U. S. Market share to 5%. Today, we have a combined new and used vehicle market share of 1.1%.

Speaker 2

3rd, financing up to 20% of units with DFC, Driveway Financial Corporation and maturing beyond the headwinds associated with CECL reserves. Our financing operations continued profitability in Q3 and is expected to have consistent profitability going forward. 4th, through scale, we are driving down vendor pricing and solutions with solutions like Pinewood, leveraging corporate efficiencies and lowering borrowing costs as we path towards an investment grade credit rating. 5th, maturing contributions from our horizontals including fleet management, DMS software, charging infrastructure and captive insurance. And finally, delivering ongoing return on capital to shareholders through increased share buybacks and dividends.

Speaker 2

We are continuing our journey to build a complete mobility ecosystem and are well positioned to leverage our unique scale and capabilities to deliver more frequent, meaningful and durable customer experiences throughout the entire ownership lifecycle. With the foundational design elements of our strategy firmly in place, we are now fully focused on execution where we are confident in our ability to drive to new levels of performance and set the standard for the industry. Now I'd like to turn the call over to Adam for an overview of store performance and key operating results.

Speaker 5

Thank you, Brian. Our team responded decisively this quarter to improve our operating excellence. And I'd like to focus today on 3 key areas: revenue and gross profit, SG and A execution and inventory trends. As Brian mentioned, we achieved record total company revenue this quarter with positive contributions from new vehicles, after sales and value autos, all supported by sustained new vehicle GPU strength. We are confident in our ability to continue delivering on our growth strategy in the months ahead.

Speaker 5

Our focused approach to cost and inventory management has provided a strong foundation to address our opportunities, particularly

Speaker 4

in

Speaker 5

the area of vehicle sales. By staying agile and focused, we're positioning ourselves to ignite our potential in the months ahead. Let's now turn to our same store sales performance, where we saw a strong performance in new vehicles and value orders as year over year GPUs continue to return to historical levels. Total revenues declined by 6% and gross profits declined 8%, which we mostly outrun through strong focus and cost reductions. Total unit sales decreased 4% in the quarter, while total vehicle gross profit of $4,631 was consistent with the prior sequential quarter and was down $5.89 compared to the same period last year.

Speaker 5

New vehicle units increased 2% year over year with particular strength in import manufacturers. Our front end GPUs remain resilient at $3,188 decreasing sequentially from $3,378 Used vehicle units were down 9.6% year over year. These declines are focused in certified units, which were down 16.4% and core units down 12.9%. While some of the decreases are due to a decrease in vehicle availability, we know there is a large opportunity in used vehicles and this will be a primary focus in our months ahead. We are really encouraged by our performance in value autos, which are up 14% year over year.

Speaker 5

Front end GPUs for used vehicles were stable at $2,136 flat sequentially year over year and appear to have stabilized. Our aftersales performance was a key driver of growth this quarter with aftersales revenues up 5.1% compared to the prior year. We've seen solid momentum in customer pay and warranty work and delivered a 56% gross profit margin. Our ability to manage technician headcount and drive operational efficiencies has positioned us well to meet ongoing demand, while also maintaining a strong focus on providing exceptional customer experiences in our after sales departments. As Brian mentioned, the execution on our cost savings plan and everyday efficiency efforts was strong in quarter 3.

Speaker 5

Our adjusted SG and A as a percentage of gross profit was 66% during the quarter and 64% on a same store basis, a 240 point basis point same store decline from quarter 2. This quarter, we eclipsed our original target of $150,000,000 annualized cost savings by reaching $200,000,000 in North America. We see continued opportunity to improve our cost structure and potential to eliminate an additional $100,000,000 throughout 2025. In our U. K.

Speaker 5

Network, optimization continues, including streamlining operations and divesting, merging or closing targeted stores. This quarter, we saw significant improvement in our new vehicle inventory, with DSO improving from 7 days at quarter 2 to 68 days at quarter 3. Used inventory remained consistent at 68 days. We are pleased with the reduction in new vehicle inventory compared to last quarter as we make progress on achieving flooring interest expense savings. We continue pursuing a target of reducing new vehicle inventory by an additional $540,000,000 and see significant opportunity on the used side as well.

Speaker 5

I'm really proud of our team's relentless focus on delivering exceptional customer experiences and executing efficiently across our business this quarter. I'm confident in our outlook for the remainder of 2024 and beyond. I will now turn the call over to Tina to walk us through our key financial highlights.

Speaker 3

Thank you, Adam. The operating efficiencies Adam mentioned have been supported by continued momentum in financing operations and focused balance sheet and capital management where we will turn to next. Starting with our financing operations segment, primarily driven by DFC, we continue to see solid progress with profitability of $1,000,000 this quarter compared to a loss of $4,000,000 in the same quarter last year. As this element of our strategy matures, we clearly see the benefits of diversification with portfolio growth, seasoning beyond settled reserve headwinds and improved efficiency in our securitizations. 2024 has been the turning point with overall expected profitability for the full year and a continued growth trajectory in 2025.

Speaker 3

We operate to balance yields, growth and risk with an emphasis on high quality loans and disciplined underwriting. The financing operations portfolio balance has now grown to over $3,800,000,000 with DFC originating $518,000,000 during the quarter. Originations were consistent this quarter in the prime credit quality band. In October, we launched our 9th securitization, pricing $615,000,000 in collateralized debt at a weighted average interest rate of 4.76% and over collateralization of 5.4% demonstrating our track record as a programmatic issuer. This offering was significantly oversubscribed and we are pleased with the market's growing confidence in our performance and servicing operations.

Speaker 3

Overall, our financing operations business continues to perform well and deliver on financial milestones ahead of schedule. This adjacency is a key element of our $2 of EPS for every $1,000,000,000 of revenue target as each loan originated by DFC contributes up to 3 times more profitability compared to traditional indirect lending. We remain confident in the financing operations long term earnings growth with a fully scaled and seasoned portfolio. Now moving on to our cash flow performance and balance sheet. We reported adjusted EBITDA of $421,000,000 in the 3rd quarter driven by improved SG and A efficiencies, offset by lower new vehicle GPUs as supply normalized and higher interest expense year over year.

Speaker 3

During the quarter, we generated free cash flows of $273,000,000 Free cash flows were impacted by declining EBITDA due to decreasing margins and higher floorplan interest expense with increased capital expenditures compared to the prior year, mainly related to construction to meet manufacturer requirements at recently acquired locations. Our capital allocation strategy focuses on the efficient allocation of our businesses' regenerative cash flows, preserving the quality of our balance sheet while supporting our growth initiatives and allowing us to respond opportunistically to a complex environment. This quarter, we continued our focus on closely balancing acquisitions with shareholder return as we see elevated pricing on store acquisitions as margins normalize compared to our shares' current valuations. Prospectively, we look to allocate 30% to 40% of free cash flows to share repurchases. As a result of the rebalance focus in the Q3, we repurchased 0.7% of our outstanding shares at a weighted average price of $2.74 Capital allocation this quarter also included $250,000,000 for our investment in Wheels and the purchase of the Duval stores.

Speaker 3

Dollars 561,000,000 remains available under our share repurchase authorization. We ended the quarter with net leverage of 2.7 times, in line with our long term target of 3 times and well below our bank covenant requirement of 5.75 times. While we opportunistically allocated opportunistically allocate capital during Q3, we maintain our long term focused financial discipline to support our planned growth and target leverage below 3 times. These metrics adjust for the impact of floor plan debt, which is unique to our industry and relate to the financing of vehicle inventory. This financing is integral to our operations and collateralized by these assets.

Speaker 3

The industry treats the associated interest as an operating expense in EBITDA and excludes this debt from balance sheet leverage calculations. Similarly, we have ABS warehouse lines and issuances to capitalize DFC, which are also excluded from our leverage calculations. Our strategy is to achieve strong growth and best in class shareholder returns, and we have the right team and tools in place to drive both revenues and margins in our core business and adjacencies. Our diverse and talented team is committed to delivering exceptional customer experiences and we have the foundation to ignite our potential for the rest of 2024 and beyond. This concludes our prepared remarks.

Speaker 3

With that, I'll turn the call over to the operator for questions. Operator?

Operator

Thank you. At this time, we'll be conducting a question and answer Our first question comes from Ryan Sigdahl with Craig Hallum Capital Group. Please proceed with your question.

Speaker 6

Hey, good morning, Brian, Tina, Adam. I want to start with used inventory. So better progress on the new side bringing down inventory day supply, but curious any further detail on the strategy and what you guys are working on the used side given days supply actually increased sequentially and given some underperformance versus industry on the unit comp sales standpoint. So I guess question is what are you guys working on? What didn't go right in the quarter?

Speaker 6

And where is that focus going forward to reduce and refresh that inventory?

Speaker 5

Hey, Ryan, it's Adam. Yes, I think first of

Speaker 4

all, I'll start the question by saying because we're a top

Speaker 5

of funnel retailer, we still derive about 54% of our inventory through trade ins, right, which places us in a relatively strong position. Nonetheless, we weren't able to shift our used inventory down alongside in the same manner that we did with our new cars. Actually on a unit basis, it's down about 3,000. It's actually the value that's up slightly. And I think the biggest challenge has been sourcing core models.

Speaker 5

The industry SAAR is probably missing about 10,000,000 to 12,000,000 cars. If you look back at a pre COVID average about 17,000,000 we've been around about the 14s and now touching the 15s, right, for the last for 4 years. So we're missing those trading cars for sure. What I would say to you is that our value auto grew by 14.4% in the quarter and is now up to about 16% of our mix, where it was only 12% last year. Core is holding our core dropped, so that's the real focus area.

Speaker 5

Core dropped from 68% to 64%. Certified remains flat around 20%. So real focus with the team. Looking at store by store, we've got our ops leadership really focused on performance opportunities moving to quarter 4 and quarter 1.

Speaker 6

Ryan, I wonder if

Speaker 2

just to add on there is we were up about 3% on total acquisitions from customers. We were at 72.2% of our vehicles that we sold came from customers. So 54% on trade in and then an additional percentage is on private party being a one-sided transaction as well as buying cars through driveway and off lease vehicles.

Speaker 6

Helpful. Switching over to DFC, good to see positive operating income for a 2nd consecutive quarter there. Despite, I believe, a higher revision, well, dollars certainly, but as a percent of match receivables, it seems like the assumptions maybe went a little higher there. But I guess, can you talk through what you're seeing from the provision and any vintages you're particularly concerned about there?

Speaker 7

Yes. Hey, Ryan, this is Chuck. I think in general that the market is definitely seeing some signs of stress, but it's primarily in the subprime segments with regards to delinquencies. And obviously that's only 5% of approximately our portfolio because we really have taken advantage of being a true captive lender and really tried to de risk our portfolio by moving up and staying consistent in the prime segment. I think with regards to the provision expense, we are seeing some signs of increase in delinquency and stress in the prime portfolio.

Speaker 7

But for the most part, it's still seasonal and we see that that hopefully should start to temper itself as we go forward in the remainder of the year. So we feel confidence that the provision, the portfolio is well provisioned and should not have an impact on profitability going forward.

Speaker 6

Thanks Chuck. Nice job guys on the operational improvements. I'll pass it on to the others.

Speaker 2

Thanks, Ryan.

Operator

Our next question is from John Murphy with Bank of America. Please proceed with your question.

Speaker 8

Good morning, everybody. Just a first question on the cost cutting and fact that you're kind of exceeding your current targets sort of run rating around $200,000,000 versus the target of $150,000,000 Then Adam, you're sort of mentioning that you're going to do another $100,000,000 next year. I'm just curious why you've exceeded your targets so quickly? How comfortable you are with that $100,000,000 next year? Maybe there could be more.

Speaker 8

And then also maybe Tina, as we model this, I mean, there's a lot of puts and takes in SG and A to gross, but let's say we finished this year around 67.5 or mid-67s for the full year. Would you sort of take that number and model that out next year and then take out the $100,000,000 or would there be other puts and takes you'd think about?

Speaker 2

John, this is Brian. Thanks for the question and joining us today. What we've found is that the organization responded quite quickly, and well from operations all the way into the home office in terms of cost reduction. And I'd say today that it's almost infectious with the team that they're looking for more, okay? And I think as Adam mentioned, we've done $200,000,000 now.

Speaker 2

We originally set out to do $150,000,000 on the minimum level with an upside of $250,000,000 We believe now it's in excess of $300,000,000 of which the remaining $100,000,000 is some about a quarter of it is coming from further cost reductions that will impact SG and A like productivity increases in personnel, like marketing, like vendor contracts, okay? The remaining 75% if you're modeling it is interest costs on flooring, okay? We've still got a long ways to go. And as Ryan mentioned, those higher day supplies do impact our ability to bring money to the bottom line. That's something that we are getting more efficient at.

Speaker 2

We're using our AI and other technologies to help guide the stores and should be able to curb that. But it's probably going to take us into late Q1 before we actually see most of the impact of that remaining approximately $75,000,000 primarily because you've still got seasonality coming, meaning Q4 and Q1 are typically a little softer quarters. We do still have a fair amount of snow belt exposure, which creates a little bit more seasonality for us and what the sector does as a whole.

Speaker 8

Okay. That's helpful. And just a second question, or Slantus is out there, with a lot of incentives and a lot of offers for the dealers and the consumers. It seems like the Ram brand or the Ram pickups are responding fairly quickly and there seems like there's almost a surge of demand there. I'm just curious what you're seeing in your sort of Jeep Ram Chrysler stores.

Speaker 8

And then also as you think about this, is there a broader impact on pricing in the industry? It doesn't seem like it's created a more promotional environment across the board, but just trying to understand how isolated this may be to Stellantis?

Speaker 2

Great, John. Maybe I answer the Stellantis question and I'll let Adam provide you some insights on the general new car environment and what's happening with incentives. For us, Stellantis has been one of the more difficult manufacturers that in terms of year over year sales. For the quarter, we were basically where we were for the 1st 9 months of the year. So it's very similar at a pretty good decline relative to the other 2 domestics that were actually up, we were actually down.

Speaker 2

The good news is, is in September, we did see half of that decline curbed, okay? So that's a good sign that we're only down mid single digits with Stellantis, so a little bit better. We think that the demand for the products is good with Stellantis. We think that they're building the right sustainability vehicles. So we think it's truly just that pricing is did outpace what the affordability of their products could command, and they've got to adjust that to be able to make a difference in their market share.

Speaker 2

Adam, do you want to add a little bit about the general market?

Speaker 5

Yes. John, just a little bit more color. I think the other challenge we've had was Lance is that the incentives have been incredibly short term. So we've seen some strong coupons to get vehicles wholesale and then into the retail environment. So that's been mixed depending on your appetite to wholesale for more cars, if that makes sense to you.

Speaker 5

Overall, John, I'd say to you that if you remember pre COVID, the industry was running about 10%, 10.5% of MSRP in the context of incentives. That dropped down to about 1.2% through COVID. The latest information that I have is it's ticked up about 1% 1 whole percentage point in quarter 3 to about 7.3% of MSRP at the end of quarter 3. It was running at 6.4% at the end of quarter 2. So we are seeing incentives return.

Speaker 5

I think it's kind of a pretty broad spectrum and a lot of them are incredibly short term tactical just to move cars. So you're seeing on the bevs, for example, some incredible offers on the particularly the import bevs. So I think that we are moving back to a more incentivized environment for sure. Does that answer your question?

Speaker 8

Absolutely. But it seems like ASPs are holding up reasonable out sort of on a net basis in light of that, right? So it's kind of a balancing of MSRP and those incentives. Is that a fair statement? I mean, it seems like pricing.

Speaker 2

That's a fair statement, John. I think ASPs sequentially quarter over quarter were down $700,000 $800 on new, which all in all is still up a fair amount on average selling prices.

Speaker 8

Awesome. Thank you so much guys.

Operator

Our next question comes from Rajat Gupta with JPMorgan. Please proceed with your question.

Speaker 4

Great. Thanks for taking the question. Just first one on SG and A. Hey, Brian. Just first one on SG and A.

Speaker 4

You obviously saw some meaningful improvement from 2Q to 3Q, total dollars down sequentially. Given you've just recently finished the $200,000,000 of implementation, is there another step down expected here in the Q4 outside of what you would see from a normal seasonality perspective? And then the remaining $25,000,000 that you talked about, would we see more of that in the Q1 next year? Just trying to understand the cadence here and any kind of framework around SG and A to gross as well for the Q4 or 2025 at this point?

Speaker 2

Sure, Raja. This is Brian. I think I made the comment about that we do have some snow belt exposure. So I think the 200 basis point basic drop, you should still apply that assuming some seasonality occurs in Q4 and Q1. We ended the quarter at, what, 66% on a total company basis and 64% on a same store basis.

Speaker 2

I would say that most of the $200,000,000 initial was realized in Q3, okay? So you're seeing the benefits of that at the 200 basis point sequential drop that I mentioned in the call and Adam mentioned in the call. Whether we can get more or not, that's still to be determined. So on an SG and A basis, you're talking about $25,000,000 That's a small portion of, I would say, about 50 basis points in SG and A as a percentage of growth. And I think that seasonality drops because of a lower sailing volume in the Snowbelt states will probably increase our SG and A slightly, okay?

Speaker 2

Meaning that if it's 66% today, it probably 66.5% to 67.5% is probably the right number for Q4, Q1.

Speaker 4

Understood. That's helpful and that's clear. And just a follow-up on the buyback, pretty explicit comment around the 30% to 40% in the near term. Is there like still a lot of the pipeline from an M and A perspective that gives you confidence around the $2,000,000,000 to $4,000,000,000 I'm just curious how flexible is that 30% to 40%, could it go higher if you didn't find the right deal? Anything you can elaborate on that would be helpful.

Speaker 4

Thanks.

Speaker 2

Sure. Raja, I think it's important to level set here that basically brought our leverage up to be able to buy the Florida transactions, Penn Dragon and Wheels, okay? So we started at kind of a mid upper range of what our leverage was. And now our rebuilding capital, it's why we only purchased a little over $50,000,000 last quarter when we purchased $200,000,000 in the quarter before. But now every dollar of cash flow that comes out, we think it should be in the 30% to 40% of total cash flow.

Speaker 2

We produce somewhere around $90,000,000 to $100,000,000 a month, okay, which is a pretty good number to be able to be constructive. Now how do we balance that with M and A? The M and A market today, we believe is starting to loosen up. But what we're also seeing is that it may take a few more quarters, okay? A lot of things sold for exorbitant pricings.

Speaker 2

Now Lithia and Driveway didn't pay exorbitant pricings on anything that it purchased. But there are still buyers in the marketplace over the last quarter or 2 that now are starting to soften their approach on buying where you're starting to look at normalized earnings rather than the last 3 year of earnings. And hopefully, the messaging is you already realized as a seller the 3 years of inflated earnings, which is equivalent to a couple of turns of earnings. Why are you now asking for it? If you want to sell, you're going to need to ask a multiple a true multiple off of your actual earnings of what would they will be normalized.

Speaker 2

We think it's still a few quarters away, which gives us some time to be able to buy shares back. So we believe that so long as share price remains hyper depressed like it's been, okay, then we'll prefer to buy shares back. And I would say there's a greater likelihood in the short term to be able to buy a greater portion of shares back than the 30% to 40% than in the longer term when pricing of acquisitions also likely goes down. And I would think that at some point, the world figures out that Lithium Driveway has designed what we believe could be a sector killer, that our ability to buy acquisitions in this space and consolidate the most unconsolidated retail space and the largest in the world can be done by having a more efficient mousetrap, which if you look on Page 14, and I mentioned this in my prepared comments, Page 14 is the map that basically allows us to produce 30% to 50% more profitability than what our average competitor can do, okay? Meaning, in theory, that we can achieve the same ROIs on acquisitions, but we, in theory, could pay 30% to 50% more for those acquisitions, making us continue to be the preferred provider in the space and the aggregator in the space.

Speaker 4

Understood. That's very clear. Thanks for all the color.

Speaker 2

You bet, Rajat.

Operator

Our next question comes from Chris Bottiglieri with BNP. Please proceed with your question.

Speaker 9

Hey, thanks for taking the question. Just wanted

Speaker 4

to

Speaker 9

ask about wholesale. I know

Speaker 10

it could be volatile, but it looks like

Speaker 9

the revenue really jumped this quarter. The losses were only up slightly, but is that CDK fallout or is this just like kind of as you try and clean up the inventory, is that just a reflection of that? What can

Speaker 10

you tell us about wholesale?

Speaker 2

Hi, Chris. Thanks for the question, buddy. I think it's normal seasonality. It's not I don't believe it's something to do with CDK. Did you see anything there, Adam?

Operator

No.

Speaker 2

Okay.

Speaker 9

All right. And then just longer term picture question on the used GPU. Like some of your independent used only peers and seeing GPUs that have gone up a lot over the last year or 2, certainly relative pre COVID. Yours are still sitting about $300 a unit below pre COVID. Just kind of want to hear about like where do you think this goes in the next 1 to 2 years?

Speaker 9

What do you think you need what needs to happen in the industry or for Lithia specifically for you to get there?

Speaker 2

Yes. I think it's important to message Chris that everyone's accounting is different, okay? Most importantly, some GPUs are including income from finance, okay, and a finance company. So ours is just peer lead driven off of the vehicle, okay? We are still about $300 below.

Speaker 2

The good news is, is that it's stabilized at that level. I believe that when supply begins to return over the next couple of years and as that, what, 11,000,000 to 12,000,000 units that are now not in the used car inventory environment starts to push into the core product, then what we should see is a return to normalized GPUs. We believe that Lithia and Driveway's normalized GPU on used is a couple of $100 higher than it is normally. Again, coming from the strength and the change of our mix from the West Coast stores and snow belt stores into the Southeast and South Central, it produces higher vehicle grosses and produces higher F and I grosses. We also, if you remember, moved from we almost doubled our luxury presence in our mix.

Speaker 2

And again, those generate higher GPUs as well, even though the carrying costs of those cars can be a little bit higher than what they typically are. Thanks, Chris.

Speaker 9

Yes. Thank you.

Operator

Our next question comes from Jeff Licht with Stephens. Please proceed with your question.

Speaker 11

Good morning, everyone. Thanks for taking the question.

Speaker 2

Hi, Jeff.

Speaker 10

So

Speaker 11

3Q was maybe a little more volatile than a typical quarter, the CDK in the beginning, BMW stopped sales, Stellantis issues in the end. I mean Stellantis was kind of all the way through. I'm just curious if you could maybe talk about the exit conditions in 3Q and then going into 4Q in terms of whether it's GPU, sales cadence and if there'd be any variable you're looking at OEM circumstance that's going to have a more disproportionate effect as we get into Q4 and maybe into early 2025?

Speaker 2

Great question, Jeff. This is Brian again. I think it's easy to get into the sound bites of stop sales and inventory problems or recalls and these type of things. Ultimately, in Q3, towards the end of the quarter, we did have a fair amount of stop sales. But I would urge everyone to think of this as a very positive event.

Speaker 2

And the reason is, is because even though the vehicle gross profits are deferred or revenues are deferred quarter over quarter, they're still there. You're going to get them. They're pent up. They're sold orders, those type of things. But more importantly than that, the after sales profitability that is generated from stop sales and recalls are massive, okay?

Speaker 2

We just were notified in mid Q3 that one of the Koreans has an entire engine platform of the last 3 years of product that every single engine needs to be replaced, entirely replaced. So we've got engines sitting out in different parts of the country that are backlogged for months quarters ahead, it could be a year before we could replace all those engines of 3 years of product mix. 1 of the Japanese imports also had one of their main three products that they sell have the same recall, full engine recalls on those products, which again is probably going to backlog us for a few quarters, if not a few years, just like the airbags did many years ago when we had that issue. So this idea of stop sales or recall, it's a positive thing for new car dealers, primarily because it's the catalyst to after sales growth. And as you know, we were a little over 5%, and I think our gross profit was almost 7% up in a same store basis on aftersales.

Speaker 2

So we really see a good number of years, especially as products begin to evolve and change to different propulsion systems, that we're sitting nicely as dealers being able to reap the rewards of after sales business, even though the sound bite of new car sales and stop sales can sound a little bit negative.

Speaker 11

And then just a quick follow-up, and I'm surprised that we got this far into the call and no one's asked, right? But your thoughts on new GPUs sequentially down 241 from Q2 is actually pretty good. Most people were, I think, signaling it was going to be more than $100 a month again. I'm just kind of curious where you think things might level and why? And historically, go back a couple of quarters, you had once said, you thought there could be an overshoot.

Speaker 11

My guess is you don't think that anymore. So just any kind of pontification would be great given your experience in the industry.

Speaker 2

Jeff, I think that that's a fair statement that the more that they stabilize at above normal levels of which today we still sit at $600 to $700 above as an industry, we only sit as a company we believe because of that change in mix from the Southeast to South Central and Luxury. We think we only sit at a few $100 somewhere between $400 $500 above a normalized state. I'm really pleased to see that it's stabilized because I think there is a possibility of a nice soft landing over the next few quarters, which is positive. I mean, at one time, we thought that the margins would rescind at almost $200 a unit per month, okay? Then we rescind we reduced that to $100 per unit per month and we're sitting at around $60 a unit over the last year.

Speaker 2

So we're real pleased that our manufacturer partners, as Adam said, have increased incentives back to at least 7%. Now hopefully, we can get back to 10%, 11% because ultimately that helps make the soft landing for retailers even a little bit better.

Speaker 11

Awesome. Thanks. Congrats on a nice quarter.

Speaker 2

Thanks, Jeff.

Operator

Our next question comes from Douglas Dutton with Evercore. Please proceed with your question.

Speaker 7

Hey, Jean. Congrats on the nice quarter here. Thank you. Just curious on the new vehicle GPUs to follow-up the last question. With the reason for the step down, the $2.41 sequentially, was there some element of trading profitability for sales velocity early in the quarter while CDK was still experiencing the downtime?

Speaker 2

Doug, this is Brian. I think if you think about the scale of the organization, we try to drive results in an individual store by an individual brand in an individual marketplace. So I would say there's no consorted effort to give up some or gain volume for some level of GPU degradation. That's a decision that the store and the marketplace and competition really determines. So I think the answer is no on that.

Speaker 2

But I think it will begin to normalize and we'll have a better indication of that later this week and next week when some of the peers also report.

Speaker 7

Okay. Sure thing. And then not to beat a dead horse here, but just a little more on the repo math. If that 30% to 40% target is sort of comprehended for the full year of 2024, Conservatively, that's somewhere around $350,000,000 or $400,000,000 this year, probably a little greater. Is there is that should that be taken as a signal that we see, maybe a little bit elevated repo in Q4 to hit the low end of that target?

Speaker 3

I think you're talking about repurchases. I just want to clarify

Speaker 7

the CPA by the way.

Speaker 10

Yes, correct.

Speaker 3

Yes. So from a repurchase perspective, I mean we have spent a significant amount in the year when you look at both what we did in Q2 as well as in Q3. So we've invested $273,000,000 year to date repurchasing 3.6 percent of our outstanding shares, which was a big swag. And so we can look at it more on an annualized basis. And as Brian spoke to earlier, we'll continue to balance what our cash generation is, our leverage as well as what our leverage as well as what the pipeline is for other avenues that will deploy capital, but we'll try to be very focused on returns for our shareholders.

Speaker 2

Thanks, Doug.

Speaker 12

Okay. Thanks, team.

Operator

Our next question comes from Michael Ward with Freedom Capital. Please proceed with your question.

Speaker 10

Thank you. Good morning, everyone. I wonder if you could talk about the implications of lower interest rates across the organization, the consumer floor plan, DFC.

Speaker 2

Sure. This is Brian again, Mike. Thanks for your question. We've now rethought about our interest rate sensitivities. And for every 100 basis points of rate improvements, which we have a good portion of our debt that is interest rate sensitive that is unfixed, is somewhere around $0.70 on a that's a quarterly basis on a quarterly basis.

Speaker 2

So it's a pretty big impact to us as an organization. Obviously, as we continue to grow and produce capital, it's less so. So I think the headwinds of interest rate increases are going to quickly turn into tailwinds for us and can make quite a difference.

Speaker 5

The second one on

Speaker 10

can you talk a little bit about the integration of Pendragon? You've had great success in the past with gaining operating efficiencies. And Pendragon is such a big acquisition. Do you have a similar opportunity?

Speaker 2

Mike, this is Brian. Yes, we do believe that there's similar opportunities. We now have full scale of what we were looking for in the United Kingdom as the tensions in that M and A all turn to the United States. The team there is doing a good job. They exited the quarter with a really solid month.

Speaker 2

Even though September March are typically the biggest month, they actually performed better than what they expected, which was great to see. Maybe more importantly, I think the big synergies are they're starting to get the idea of personnel make a difference, okay? How do you motivate teams to reach their potential? You do it through changing their mindsets and changing something that they believe they can't do into something they believe they can do. That sits right next to network optimization.

Speaker 2

If you recall, we were going to divest, combine or sell approximately 40 assets of the 160 that we purchased. We're now up to between 40 50 assets that we're selling or combining or closing. Most of that has now been completed. We have 6 stores that are still on the market and available for sale. Everything else should be completed and either closed or sold by the end of November.

Speaker 2

So we look quite good. Some other little key highlights in the quarter. We saw a nice F and I improvement. I think that speaks to helping teams do things that they don't believe that they can. They moved their F and I year to date from an 8.24% to 9.03% in the quarter.

Speaker 2

That's a nice 75 point move. That's a great start and it's more indicative of what our 2 peers that also have exposure in Great Britain.

Speaker 10

Okay. So it sounds like there's an opportunity to get Pendragon closer to the performance of what you see in the U. S?

Speaker 2

I think that Mike, I think that it's always going to be slightly lower margins. And if you look at some of the segment reporting from our peers, it's hard to say that I really believe that we could get operating margins to a 5 handle, which is where we're really looking at the U. S. But the idea of getting them to half that or 2.5% to 3%, I believe is achievable. It will take us quarters and maybe even years to be able to achieve that.

Speaker 2

Remember also that F and I there is the biggest differential that drops directly to the bottom line. It's highly regulated in the United Kingdom, and you can see that again in the other peers that that's the big differentiation. And again, I'd reiterate that even as we look at the U. S. And the Southeast and South Central, the biggest differentiation of profitability when I talk about that opportunity is the fact of regulation that we have massive dock fees in the Southeast and Southwest that create automatic throughput on high profitability items, okay.

Speaker 2

Same thing occurs in the negative sense in the United Kingdom.

Speaker 10

Thank you. Thank you very much, Brian.

Speaker 2

Thanks, Mike.

Operator

Our next question comes from Bret Jordan with Jefferies. Please proceed with your question.

Speaker 7

Hey, good morning, guys.

Speaker 2

Hi, Bret.

Speaker 7

I guess looking at regional and brand dispersion in front end GPUs, I mean, you've talked about Southeast and South Central being more profitable, but a bit more on the F and I side. Could you talk about sort of what the underperforming or outperforming markets or brands are? It sounds like Stellantis is underperforming and maybe the Northwest is, but some magnitude?

Speaker 5

Hey, Brett, it's Adam. I'll start with that. And when we see as we've reported, I think, probably fairly consistent this year, we see a real strong performance in the Southwest, the Southeast and the Northeast with maybe the kind of Northwest and South

Speaker 2

Central. South Central.

Speaker 5

I was getting confused with the English accent, apologies, Brett. But with those regions struggling a little bit more, We've seen and as it relates to manufacturers, we've seen as Brian said, we've seen Stellantis mid double digits down for us, but we've seen the other 2 domestics fairly resilient. But most of all, we've seen a real resilience from the imports. So our imports are about 8% up quarter on quarter and about 7% up year on year. So we've seen real strength there and the luxury is kind of at the same level.

Speaker 2

That was great, Adam. I'd embellish one point. The differentiation across our 6 regions domestically have changed, okay? If you remember a year, year and a half ago, the Western regions were performing at negative double digit declines in same store sales. Their profitability, their GPU, all of those things were behaving much differently.

Speaker 2

The differentiation between the Northwest and the North and the South Central is not as bad anymore, okay? We're talking about single digit percentage differences in same store sales and other things where the country has now flattened, including the idea that the South Central now has become one of the worst performing regions, okay? But again, it's only a few points, not massive differentiation between the different regions.

Speaker 7

Okay. And then a quick question on the service side of the business. In customer pay, could you talk about the breakout between car counts and price in that comp?

Speaker 2

Do you have after sales stuff?

Speaker 5

Yes, for sure. So as you saw, our customer pay our total revenues were up at 5.1%. Pleasingly, our customer pay because warranty was up 15% and Brian talked a little bit about the stop sale and the significant impact that has on the revenue. But importantly, it's always important to maintain a focus on the customer pay because that's the business that keeps on coming back concurrently and recurring, right? And I'm pleased to report that on quarter to quarter customer pay up 3.6 and it's up about the same on a year to date level.

Speaker 5

So we've grown both the customer pay and the warranty business.

Speaker 7

In customer pay, what's price versus traffic? Our car counts up as well? Or is there more price in that comp?

Speaker 5

Flat rate adds are about flat. So price is up a little bit in that count absolutely.

Speaker 7

Okay, great. Thank you.

Speaker 2

Thanks, Brett.

Operator

Our next question comes from Colin Langan with Wells Fargo. Please proceed with your question.

Speaker 12

Great. Thanks for taking my questions. After sale margins are 56%, they've been quite high. I think the long term targets on, I think, Slide 21 is 51% to 54%. So what is driving the strong margins?

Speaker 12

And how should we think about it? Is it sustainable near term? And we're just thinking mid term they kind of fade back? Or maybe any color there?

Speaker 2

Good question, Colin, and thanks for joining us today. The reason that we believe that margins will come down is truly just the mix between parts, which has a 30% approximate margin because it's an inventory based business, okay? And we believe as sustainable vehicles become more prevalent, there's more parts or repair and replaces, we call it, where there's a higher portion of your business that becomes parts, whereas labor is a 65% margin business, okay? And that becomes lessened. As such, we believe that the margins would drop to 51% to 54%.

Speaker 2

Now on a positive note, Collin, those new propulsion systems, when the cars break, the average cost of the repair is substantially higher than what it is on a nice engine. So even though your margins may drop a couple of points, okay, the overall same store sales should grow and your overall gross profit should grow as well, okay? And we'll be sharing more information on that. And I think everyone's running their numbers of the implications on bevs and plug ins and all these different propulsion systems on the after sales business. But the days of us believing that they're headwinds is no longer.

Speaker 2

We think we've got at least a decade of tailwinds, and they could be much larger than what we think that will carry us through until the point when bevs need battery replacements or hybrids or plug in hybrids, need battery replacements. And then all the numbers blow up for new car dealers, making it quite attractive to be a new car dealer.

Speaker 12

Got it. That's helpful color.

Speaker 4

And then just

Speaker 12

one clarification. If I go to that same Slide 21, I think you're targeting normalized new GPUs of $2,500 to $2,700 That's about $600 below where your GPU is right now. I think you just said earlier about $400 to $500 further decline. Is there is that just rounding or is there a class or you're kind of talking about slightly different things?

Speaker 2

No. The $42,000 to $4,500 is aggregated new and used. So the used will come back $200 to $300 at least that will offset the difference of the $150 to $200 in your math.

Speaker 12

Okay. So it's fair to think you're thinking another maybe $600 ish on the new side? Yes. Okay. All right.

Speaker 12

Thanks for the clarification. Thanks for taking my question.

Speaker 2

Thanks, Collyn. Appreciate it.

Operator

Our next question comes from Ron Josey with Citi. Please proceed with your question.

Speaker 4

Hi, this is James Michael on for Ron. First of all, with Online Monthly Unique Flat quarter over quarter, how are you evolving the broader omni channel strategy? And any platform changes or reinvestment plans to accelerate the online sales channel, particularly in context of advertising efficiency you're seeing with burn rates down 40%. And then I have a quick follow-up, then I'll ask and then one of it.

Speaker 2

Great, James. If you remember the prepared remarks, we've seen nice growth in our overall e commerce business. Most importantly, our driveway and green cars have really turned the corner that we're at a point that we've got our expenses skinny down to the appropriate levels to be able to now constructively scale at some point again. Our effectiveness within the funnel is still has lots of opportunity for growth. We're actually at a 0.08 what we call golden ratio, which means 0.08 of every customer actually buys a car, which is what one out of about every 400 something like that, okay, buys a car.

Speaker 2

The good news is that almost 9 out of every 10 customers is giving us a 5 star rating, which is hyper positive. So we think that our ability to now capture more market share, that 50 times more customers than what our stores touch is readily available. We also have great support from the infrastructure and the stores now that they're starting to get it that let driveway and green cars sell the car. I can replace it by going and find it either through trade ins, through buying cars from customers or through going to the auctions or buying them from wholesalers or other dealers. So we're quite pleased with what we're seeing in our e commerce platform, knowing that that pedal of gas is still there to step on.

Speaker 2

We've just got to decide the right time. We were down about 40% in burn rate. I will also say this, that burn rate has no attributed sales, meaning anything that's sold by driveway or anything that is bought by driveway and then sold by the stores or anything that the stores sell in green cars is not attributed to that burn rate, okay? We actually think that if you attribute the gross profit on all of those sales, it's quite large. It's almost 3,000 units a month, okay?

Speaker 2

And you can do your math on $3,800 a unit, okay? But you quickly get to some real nice numbers that driveway and green cars may not really have a burn rate. It's just what do you want to attribute directly to that.

Speaker 4

Got it. Thanks. Lastly, it's higher level question. Are you seeing any changes in the competitive landscape across driving and green cars from either offline or online used retail competitors? Thank you.

Speaker 2

Good follow-up, James. I think most importantly, we don't see impacts from the online retailers directly with driveway. Where we see impact is what our new car dealers and used cars dealers doing. Because if you remember, most of the people that we're selling to today, it's a finance equation of finding the right car that fits their current equity or disequity situation and their down payment to match that, okay? So when we think about how do we find customers, it's really matching customers' financeability with picking the right car out of our inventory.

Speaker 2

So our algorithms are really trying to steer customers into those areas, and that's what we've been able to really perfect over the last few years, okay? But really the competition, it really comes from a person shopping physically at multiple locations and finally getting tired of that and being told no because they happen to pick a car that may be too high demand for their disequity situation, okay, that they happen to be able to shop 10, 15 vehicles on our website and finally happen to match a car that meets their credit needs.

Speaker 4

Understood. Thank you.

Speaker 2

Thanks, James.

Operator

We have reached the end of the question and answer session. I'd now like to turn the call back over to Brian DeBoer for closing comments.

Speaker 2

Thank you for joining us today, and we look forward to seeing you on another lithium driveway call in the Q4, which I believe is February. See you all soon. Bye bye.

Operator

This concludes today's conference. You may disconnect your lines at this time,

Remove Ads
Powered by Quartr
Earnings Conference Call
Lithia Motors Q3 2024
00:00 / 00:00
Remove Ads