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Asbury Automotive Group Inc. (NYSE:ABG)

Q1 2010 Earnings Conference Call

April 29, 2010 10:00 AM ET

Executives

Ryan Marsh – Treasurer

Charles Oglesby – CEO

Craig Monaghan – CFO

Michael Kearney – COO

Analysts

Elizabeth Lane – Bank of America

Rick Nelson – Stephens Inc.

Derrick Wenger – Jefferies & Company

Christian Buss – Thomas Weisel

Operator

Good day and welcome to Asbury's first quarter 2010 financial results conference call. Today’s conference is being recorded.

At this time, I would like to turn the conference over to the Treasurer, Mr. Ryan Marsh. Please go ahead sir.

Ryan Marsh

Good morning to everyone. Welcome to Asbury Automotive Group’s first quarter 2010 earnings call. Today’s call is being recorded and will be available for replay later today. As you know the press release detailing Asbury’s first quarter results was issued earlier this morning is now posted on our website at www.asburyauto.com.

Participating with us today are Charles Oglesby, our CEO; Craig Monaghan, our CFO; and Michael Kearney, our COO. As always, at the conclusion of our remarks, we will open the call up for questions and I'll be available in my office afterwards to address any follow-up questions you might have.

Before we begin, I must remind you that the discussion during the call today is likely to contain forward-looking statements. Forward-looking statements are statements other than those which are historical in nature. All forward-looking statements are subject to significant uncertainties and natural results may differ materially from those suggested by these statements.

For information regarding certain of the risks that may cause actual results to differ, please see our filings with the SEC from time to time including our Form 10-K for the fiscal year ended December 31st, 2009 and any subsequently filed quarterly reports on Form 10-Q. We expressly disclaim any responsibility to update forward-looking statements.

With that, it's my pleasure to turn the call over to Charles.

Charles Oglesby

Thanks, Ryan and good morning everyone and thanks for joining us today. I am excited to report a breakout quarter that reflects the collective results of the entire Asbury team. Combined revenues from new, used and F&I jumped 22%, driven by a 15% increase in new and used light vehicle units as well as increased revenue and F&I per vehicle retail.

We have experienced improved sales across all of our major geographies particularly Florida, Georgia, and the Carolinas. The increased sales coupled with our leaner cost structure enabled us to move to more than triple our income from continuing operations delivering first quarter diluted earnings per share of $0.27 versus $0.08 a year ago.

I am thrilled to see our stores take market share and improve margins. I was especially pleased with our used vehicle performance being among the best in the industry. In the continuous challenge of balancing margins with volumes, our used vehicle strategies and execution resulted in a 14% increase in unit sales by holding gross margins above 11% and yielding a 17% increase in total gross profit over the prior year period.

With the right strategies our brands and people are making the difference. And now I'll hand the call over to Craig.

Craig Monaghan

Thanks, Charles. We are pleased to announce first quarter income from continuing operations of $0.27 per diluted share versus $0.08 in prior year period. This increase was primarily the result of a 12% increase in gross profit, a 370 basis point decrease in net SG&A as a percentage of gross profit.

EPS for the first quarter was $0.22 per diluted share compared to $0.01 per diluted share a year ago. First quarter revenues totaled $960 million, growing over 17% from $820 million in the prior year period; 17% increase in total revenues was primarily the result of a 22% increase in new vehicle revenue and a 21% increase in used vehicle revenue.

Gross profit increased across all four of our business line in the first quarter. The 12% increase in total gross profit was primarily the result of a 32% increase in new vehicle gross profit, a 27% increase in F&I gross profit and a 15% increase in used vehicle gross profit.

Our total gross profit margin declined 70 basis points to 17% principally from a shift index resulting from the double digit growth in lower margin new and used vehicle businesses.

As expected some of the variable components of our SG&A expenses have begun to increase with the recovery in sales volumes. However, our productivity initiatives are helping us flow more of the increases in gross profit to income.

Importantly, same store SG&A expense as a percent of gross profit was 79.3% for the first quarter, compared to 83% for the prior period.

Our fixed expenses were lower during the period due to our restructuring efforts and a reduction in insurance cost as a result of improvement in loss experiences and favorable policy renewals.

We're maintaining capital spending discipline with our 2010 CapEx target remaining at $25 million roughly in line with depreciation expense. We expect our effective tax rate to be 38% to 40%. With respect to discontinuing operations, a majority of the $1.5 million loss was linked to operating losses of a store we sold in California during the first quarter. Going forward we anticipate incurring a $0.01 to $0.02 loss per diluted share per quarter for the foreseeable future. These charges stem primarily from carrying cost of vacated properties.

Our financial condition remained strong with total available liquidity of approximately $203 million as of March 31st, including cash and cash equivalents of $29 million and borrowing availability of $104 million under various credit facilities.

Our available liquidity decreased by approximately $40 million between December 31st and March 31st, primarily as a result of using excess cash to prepay floor plan debt.

We currently have nothing drawn under our revolving credit facility and are in compliance with all of our financial covenants.

Additionally I would like to highlight we have no material debt maturities until September 2012. We plan on operating within our cash flows by pursing a balance capital allocation strategy of reinvesting in our business, seeking store acquisitions to the extent the risk adjusted returns are compelling and strengthening our balance sheet.

The board authorization to repurchase up to $30 million of debt is still in effect.

We have launched a comprehensive IT strategy review with the help of an outside IT consulting firm. This ongoing effort includes the evaluation of our DMS strategy. We anticipate sharing the results in the second quarter of 2010.

Now I'd like to hand the call over to Michael to provide some operational highlights for the quarter. Michael?

Michael Kearney

Thanks, Craig. Everything I will be covering with respect to operational highlights will pertain only to our light vehicle retail business. While the first quarter started out slowly, we had an exceptional March, thanks in part to aggressive incentives by some of the manufacturers and pent up demand following difficult weather conditions in January and February for most of our geographies.

Our attractive brand mix of luxury and imports contributed to the 15% increase in same store vehicle unit sales. Luxury new unit sales were up 21% and midline import sales were up 18%. The strong rebound in our southeastern and new vehicle market contributed to the 22% increase in new vehicle revenue.

Our new vehicle revenue was up 28% in Florida, up 28% in Georgia and up 15% in the Carolinas. Same store new vehicle unit sales were up 16% in the first quarter versus last year while new vehicle revenues were up 21%. Unit volumes increased across each of our brand segments, which was consistent with overall U.S. vehicle sales.

Increased unit sales were primarily the result of increased consumer confidence, less stringent consumer lending standards, enhanced financing incentive programs by certain manufacturers and a favorable comparison with a weak economic environment in the first quarter of 2009.

Toyota new vehicle revenue was up 9% for the quarter compared to other midline imports of 23%. In March, however, Toyota new vehicle sales were up 40% compared to 36% for the other midline imports.

In addition to the strong recovery in unit sales, the new vehicle retail margin of 7.1% was up 60 basis points contributing to the 33% increase in new vehicle gross profit.

New vehicle pricing appears more rational now that inventory levels are much better aligned with consumer preferences and manufacturer production schedules. Looking ahead we're very comfortable with our new vehicle inventory levels of 55 days supply.

I'm extremely pleased with our 14% growth in same store used retail vehicle unit sales compared to the prior period. While maintaining gross margin excess of 11% we were successful in capturing volume growth while also growing our retail gross profit 16%. I attribute this in part to entrepreneurial nimble store level management as well as evidence that our used car strategies that we began implementing last year are working.

Our aggressive inventory management increased our turns and we ended the quarter at approximately 32 days supply.

Financial insurance revenue started to rebound increasing 27% during the first quarter of 2010 from the prior year. This improvement is due to a 15% increase in same store unit sales coupled with a 10% increase in F&I per vehicle retailed to $990. The increase in F&I per vehicle sold was primarily a result of improved consumer credit, improving advance rates from lenders and our focus on continued training of our F&I personnel on best practices.

Although revenues in our parts and service business were down, gross profit increased 1% over the prior year period doing a large part to the increased volumes from the reconditioning of used vehicles. I would like to note that our customer pay gross was flat on a year-over-year basis for the first time in five quarter.

Toyota parts and service revenue increased 16% in contrast to our total same store light vehicle parts and service revenue, which was down 5%.

The pace of the various Toyota recall campaigns has slowed considerably as has the mix of the type of repair. We are performing much more of the 90L recall, the gas pedal format repair than the AOA or sticky pedal repair. The 90L pays more than AOA but the 90L is now being done on a more timed basis.

We believe the decrease in customer pay revenue is a result of customers continuing to delay maintenance visits and bigger ticket repair work as they continue to limit nonessential spending as well as a decrease in the population of vehicles in the market due to the decreased unit sales in the last two years.

We believe the decrease in our warranty business reflects improvement in the quality of vehicles produced in recent years increased service intervals as well as the lower number of vehicles under warranty due to our reduced overall sales in recent periods.

As a result of the significant decline in U.S. vehicle sales over the past two years, our warranty business may continue to experience some erosion. However, warranty is a small piece of our overall parts and service business representing approximately 17% of fixed operation sales.

We are continuing to invest in service technology and capacity enhancements; upgrading equipment and proving customer retention and satisfaction and capitalizing on our dealer training programs.

We have several initiatives, I feel which I discussed during our previous earnings call, underway to proactively address the anticipated decline in units and operation.

Overall, I'm very pleased with our operating performance and would like to extend my gratitude to everyone in the field. Thanks again for your hard work and dedication to our customers.

With that I'll hand the call back to Charles to conclude our prepared remarks. Charles?

Charles Oglesby

Thanks, Michael. While, we are excited about this quarter our challenge is to focus on the incremental sales opportunities we are seeing in the strengthening marketplace while remaining disciplined with our cost structure.

I would also like to highlight that we're seeing more activity in the acquisition market and we are engaging in more discussions.

We are encouraged by the recovery we are seeing in the marketplace and however, until we see evidence that the recent improvement is sustainable we will continue to operate conservatively.

I'd now like to turn the call back to the operator and we'll be happy to take your questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions) We will take our first question from John Murphy with Bank of America. Your line is open.

Elizabeth Lane – Bank of America

Hi guys, this is actually Elizabeth Lane on for John. Congrats on the good quarter.

I just want to ask a couple of quick questions. Do you attribute the increase in same stores sales more to improving showroom traffic or a higher conquest rate due to the increased availability of financing and appealing incentives in March?

Michael Kearney

Elizabeth, this is Michael. I think the answer is yes and yes to those. We, of course, experienced a decrease in showroom traffic in January and February from December we think in a large part due to some seasonality but, of course, to the rolling winter storms that came across our geographies. So the seasonality that being March and the better weather, we saw a substantial uptick in traffic. And we do see an improvement in the consumer lending environment. We see better advanced rates and we see a broader spectrum of customers being bought. So I hope that answers both of those.

Elizabeth Lane – Bank of America

Yes, great. And just one question about SG&A, which is that you guys have cut a lot of cost over the last year to year and a half and it's obviously coming through in the bottom line, which we saw this quarter. What kind of SG&A percentage growth do you think is an achievable level or target rate given your SAR assumptions for 2010 and 2011?

Craig Monaghan

Elizabeth, it’s Craig. We think that over the course of the next couple of years, we could get another 200 basis points on SG&A. Obviously, it's somewhat dependent on where the SAR goes, but we feel like we've made a lot of progress but we still have a lot of work to do.

Elizabeth Lane – Bank of America

Okay, great. And just one other quick one, which is that another dealer announced this morning that they're reinstating their dividend and is that something that Asbury is considering at all or what are the company's priorities for capital at the current time?

Charles Oglesby

Right now, Elizabeth, that's not a consideration for us and currently we couldn't reinstate our dividend anyway. So right now we're focused on the continuing operational side of the business, and that's where we are right now and balancing the – working on our balance sheet.

Operator

We'll take our next question from Rick Nelson with Stephens Inc. Your line is open.

Rick Nelson – Stephens Inc.

What drove the IT strategy review and were there some issues with the DMS system?

Craig Monaghan

Rick, it's Craig. We’ve been very aggressively rolling a strategy that was driving us to common charts of accounts, common DMS. As we were working our way through that we began to realize that if we really want to have a state of the art IT platform, it's bigger than just charts and DMS'. There's so much movement today towards the web and all the technologies around the web, how we interact with the customers, we know it's – today a customer can go on their iPhone and look at inventory, new and used; and we think the day comes when they're going to get their financing on the iPhone. And we want to make sure we've got a technology platform in place that enables us to exploit those technologies. And so we hired a third party firm that has tremendous expertise in this area to work with us across the entire spectrum of technology, and you can't do that without talking about DMS. So that's part of it.

I'd say we're about halfway through that effort. We will wrap that up during the current quarter and we'll get back to you with more information when we have our next earnings call.

Charles Oglesby

This is perfect timing for us to do that from an organizational and a growth standpoint. So we're very pleased with the data that we're getting and as Craig said, we will be excited to report that next quarter.

Rick Nelson – Stephens Inc.

Okay, great, thank you for that. Also I was wondering about the strength in sales in March if you have seen carryover into April?

Michael Kearney

Rick, this is Michael. April has always, since I've been in the business, always been less than March. I would say that April is consistent with being April. But there are some seasonality effects in our business and April is one of those months that's generally not the same as March. But I'm encouraged with floor traffic and pleased with the inventory levels that we've got going into the month.

Rick Nelson – Stephens Inc.

Also if we could get a breakdown of the service and parts revenue, I think I missed some of the numbers customer pay, warranty internal, any other components that comp there?

Craig Monaghan

Rick, I've got the gross; customer paid gross was flat quarter-over-quarter; wholesale parts was down 3%; warranty down 8%; and internal up 25%.

Rick Nelson – Stephens Inc.

And ex-Toyota what would the warranty number look like?

Craig Monaghan

About negative 15%.

Rick Nelson – Stephens Inc.

And customer paid, do you think you think you got benefits from the Toyota recall, is there a way to look at that ex-Toyota?

Craig Monaghan

Rick, I don't think so. We don't have a giant footprint with Toyota. So I would say no. I think it's more a function of consumers coming out and spending a little bit more money particularly as the weather freed up. I would also tell you that the recalls were just part of our business. So we always have them from quarter to quarter, manufacturer to manufacturer. So I don't think that had any great driving effect on the customer pay at all.

Rick Nelson – Stephens Inc.

And given the units in operation, the declines that you have discussed, what is the outlook for same store sales?

Craig Monaghan

When you say sales, in the service area?

Rick Nelson – Stephens Inc.

In the service area, correct, yes.

Craig Monaghan

We're optimistic that customer part will stay in the same ballpark that it has quarter over quarter. As I noted in our remarks, I think you're going to see a continual erosion of the warranty business as the cars got better and we have less units in operation.

Charles Oglesby

That's one of the issues that we are continuously addressing because we are aware there's a hole now that has been created in the last two years of new vehicle sales. So the future that will impact customer pay. There is a lot of initiatives that we have and all retailers really are looking at to balance that out. We have been able to sell more service contracts as an example, which will tie the customer closer to us for a longer period of time.

We're offering a broader array of services that in the past dealerships did not need to offer. We're much more competitive in the marketplace with the independent dealers that are out there. So our strategy will be to gain market share from independent dealers with these owners that traditionally have not come back to the dealership after their warranty period. So there are a lot of things that will happen within the retail organization to work towards maintaining a longer relationship with these customers.

Rick Nelson – Stephens Inc.

One of your peers was talking about pickup in the domestic dealers in the customer pay side, but maybe some of the referral of maintenance was turning to show up this year. Is that something you're seeing as well?

Charles Oglesby

Rick, we're seeing a little bit of it. But as you know our exposure to the domestics is substantially less than some of our peers. So we're seeing a little bit of that pickup but it's not enough that it would drive our overall number.

Operator

(Operator Instructions) We'll take our next question from Derrick Wenger with Jefferies & Company. You may proceed.

Derrick Wenger – Jefferies & Company

Thank you, a couple of parts here. The balance sheet, the cash flow statement is not out yet. Do you have the capital expenditures for the quarter and what the outlook for the year is? That's the first question on CapEx. I assume letter of credits are out, are about $26 million on that $200 million facility to give you the availability. And you had mentioned that you had a maturity in 2012, I thought you said December. Isn't that September and can you delineate the components of the long-term debt? And then lastly, that $30 million debt that you can buy back, is that any debt?

Craig Monaghan

Hey, Derrick, it’s Craig. I think we've got all the questions. Let us take a shot, Ryan and I are going to do this together. I'll start off with CapEx. We spent about $3 million in the quarter. We will file the Q by the way, if not later this afternoon, tomorrow. So you'll be getting all the details here shortly. With respect to the debt, I'm going to let Ryan take over, he's the expert.

Ryan Marsh

On LCs, we are at about $12 million, it’s like $11.9 million, let’s say crept up a little bit to $12 million. And then in terms of debt repurchases, it could be sub debt mortgages, it's open to any debt and actually it would include buyout of leased properties to the extent that we have any opportunities there. And could you clarify your question on the maturity that you had?

Derrick Wenger – Jefferies & Company

Yes, how much is outstanding on the 8 to 7 5/8 in the converts because you said, I think you had said the maturity was in December but I thought it was in September.

Ryan Marsh

Yes, on the converts there is 55 days, 54.7 days and those are September of 2012. And on the 7 5/8, those are actually 2017 maturity, so those are out there but – we have some mortgages that are going to come due in 2011 and by the time we amortize down to their maturity, they'll be about $21 million of mortgages that will mature in June of 2011 and August of 2011. And that again is mortgage debt.

Operator

(Operator Instructions) And we have no further questions. Sorry, we have a question from Christian Buss with Thomas Weisel.

Christian Buss – Thomas Weisel

Hi, this is Christian, not Christina.

I was wondering if you could provide a little bit more perspective on how you were thinking about the parts and services business going forward.

Michael Kearney

Chris, this is Michael. We are all faced with, as Charles noted, this kind of hole where we got a lack of vehicle sales for two year. So we've initiated some programs where we are expanding hours and days. Going to seven day service, we're expanding the hours of operation and have been for a number of years in the tire and wheel business are expanding the tire and wheel business. We are expanding into the windshield repair business.

We also had a pilot program that started two years ago and is now being run throughout the entire company where we are actively promoting and selling prepaid maintenance and extended warranty programs in the service lane to customers that show up that need that. So that is a program that will hire and bring those customers back to us.

We are in the middle of evaluating a number of loyalty and retention program as part of our overall IT strategy work. So we're addressing the fact that there's a substantial base of customers out there and that again as Charles noted, we've allowed them to be our direct competitors and we will now go after that business to grow our customer business, which we think will more than offset the decline in the warranty business over the foreseeable future.

Christian Buss – Thomas Weisel

Can you talk to me a little bit about sort of the operating margin contributions from the part and service, the flow through to SG&A and the operating profit for parts and service? How does it shake out in that to the new vehicles and used vehicles?

Craig Monaghan

Yes, this Craig. I'm not sure I completely understand the question. What I will say is in the new and used side of the business you get gross profit, but then as you come down to the P&L, we've got to take out our compensation expense; in that part of the business like compensation expense falls into SG&A. In the parts and service business, much of the people cost is actually taken out before you get to gross. So parts and service gross just broadly speaking, I would say flows through in a much bigger way than you do you see on what we call the variable side of business.

Christian Buss – Thomas Weisel

Okay that's very helpful, thanks for clearing up that for me.

Craig Monaghan

Christian, if you'd like to get together after the call or get with Ryan, we'd be happy to spend more time on how the P&L is constructed here at Asbury.

Operator

We have no further question at this time.

Charles Oglesby

Alright, great. We appreciate everyone for joining us today. We are personally within our organization, we are not surprised at this type of breakout quarter for us because it really is the result of all the work and strategies that has been initiated in the past and I think when the market strengthened as it did we got the results that we were working for.

So with that, we're looking forward to our next quarter call, and thanks everyone for joining.

Operator

Thank you for your participation in today's conference. As a reminder, there will be a replay available for this conference beginning later this afternoon through May 6, 2010. You may access the replay by dialing 888-203-1112 or 719-457-0820 and entering the replay pass code 5343645 followed by the pound key. You may now disconnect and enjoy the rest of your day.

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