Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

Sonic Automotive, Inc. (NYSE:SAH)

Q3 2010 Earnings Conference Call

October 26, 2010 11 AM ET

Executives

Scott Smith – President and Chief Strategic Officer

Dave Cosper – Vice Chairman and CFO

Jeff Dyke – EVP, Operations

Greg Young – VP, Finance

Analysts

Scott Stember – Sidoti & Company

John Murphy – Bank of America Merrill Lynch

Aditya Oberoi – Goldman Sachs

Rick Nelson – Stephens Inc.

Operator

Good morning and welcome to the Sonic Automotive Third Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. (Operator Instructions).

As a reminder, ladies and gentlemen, this call is being recorded today, October 26, 2010. Presentation materials which management will be reviewing on the conference call can be accessed on the company’s website at www.sonicautomotive.com by clicking on the “For Investors” tab and choosing “Webcast and Presentation” on the left side of the monitor.

At this time, I would like to refer to the Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. During this conference call, management may discuss financial projections, information or expectations about the company’s products or markets, or otherwise make statements about the future.

Such statements are forward looking and subject to a number of risks and uncertainties that could cause actual results to differ materially from the statements made. These risks and uncertainties are detailed in the company’s filings with the Securities and Exchange Commission. Thank you.

I would now like to introduce Mr. Scott Smith, Co-Founder and President of Sonic Automotive. Mr. Smith you may begin your conference.

Scott Smith

Thank you, Brandy. Good morning ladies and gentlemen, I’m Scott Smith Co-Founder, President and Chief Strategic Officer. Welcome to Sonic Automotive’s third quarter 2010 earnings conference call. Joining me on the call today are the company’s Vice Chairman and Chief Financial Officer, Mr. Dave Cosper; our Executive Vice President of Operations, Mr. Jeff Dyke; and Greg Young, our Vice President of Finance. Also joining us today is David Smith, the company’s Vice President.

Today, I’ll provide an update on our strategic direction, followed by an overview of the quarter. I’ll then turn the call over to Dave Cosper for a financial review. Jeff Dyke will follow Dave and give an update on our operational trends. Our prepared comments will be a little longer than our typical earnings call, but if you’ll give me a few moments, I think that it’ll be well worth your time. We’ll then open the call up for your questions.

Since going public in 1997, Sonic Automotive has gone through several strategic evolutions. Now that we’ve seen some stabilization in the economic front and we’ve completed our balance sheet restructuring, I thought that now would be a good time to review with you, our investors and analysts that follow the company where our strategic focus has been and where it’s going.

If you’ll please turn to the first slide, slide number four; in the early stages of Sonic Automotive, our strategy was one of portfolio growth. If you’ll see here on the slide, we were an acquisition company that operated dealerships. Our primary goal was to acquire automotive dealerships to gain a national footprint and scale that would allow us to capture economies of scale, support a regional infrastructure and drive standardized practices and technology throughout the organization.

If you’ll turn to slide five please. As we move through the portfolio growth stage, we realize that our fast acquisition phase was not allowing us to fully integrate the standard technology and operating practices we wanted to see in each of our dealerships. We were profitable but we knew we could do better. That led us into the portfolio in Richmond stage of our strategy.

During this stage, we focused on optimizing our portfolio mix. We began to divest of smaller underperforming stores that we had acquired as part of larger group transactions over the years. As we sold these stores, we replaced them with larger more profitable dealerships that were primarily luxury in Asian import brands.

More importantly, we began the process of standardizing our dealership technology platform and started the early stages of what would ultimately become our operational playbooks.

If you’ll turn to slide six please. Over the last three years since I returned to the position of the company’s President, we’ve transitioned into the portfolio maximization stage of our strategy. We began building a predictable, repeatable, and sustainable business model. Our primary strategic focus today is centered on several key initiatives. They are associate satisfaction, internal growth versus acquisitions, operational playbooks, balance sheet and capital structure, e-commerce and customer experience.

If you’ll allow me to briefly discuss each of these. First is associate satisfaction. We’re committed to reducing our turn over in order to gain the highest return on our dollars we’ve invested in training, technology and process. We’re absolutely convinced that to build a customer focused company that has a predictable, repeatable and sustainable customer experience while maximizing our dealership portfolio we must have low turnover.

We’re attacking turnover by changing our culture. We’re improving our communication, we’re doing career planning, compensation structure in training. We’ve seen our turnover steadily decline as we pay more attention to those things that are important to our associates. Today, I’m pleased to say our turn over is the lowest that it has ever been.

Second is internal growth versus acquisitions. We don’t believe it’s necessary to go out and start making expensive acquisitions in order to grow our profits nor do we believe our future profit growth is completely dependent upon the new vehicle SAR returning to historical levels. In fact, we expect to grow profits next year even if the new car industry stays flat.

As we look at our business, we see growth opportunities in every one of our revenue streams. These opportunities combined with a steady increase in the SAR will provide a platform for growth for the foreseeable future without the investment and integration risk associated with acquisitions.

You can do the math as well as I can to see how much incremental revenue is available to us from just used cars alone as we move closer to our goal of 100 used vehicles per store per month.

Third is our operational playbooks; you’ve heard us talk a lot about these for some time now. Our operations playbooks are the engine that will drive our internal growth. These are our roadmaps to building our predictable, repeatable and sustainable customer experience.

Our used vehicle playbook is the most mature of these that you’ve seen since we’ve introduced the playbooks several years ago. We’ve consistently grown our volume and overall gross profits from used vehicles and we believe there’s future growth potential as we continue to refine our processes and technologies in this area. We now have playbooks written for every significant area of our business and we’re in various stages of rolling them out to our dealerships.

Fourth is our balance sheet and capital structure. We’ve been very clear on our balance sheet goals and we have steadily made progress on them. We want to continue to reduce our nonmortgage debt over the next several years. At the same time, we continue to replace our leased facilities with own properties funded by mortgages. We currently own 13% of our facilities and expect that to trend to over 30% over the next several years.

Fifth is e-commerce. As you’re well aware customers are shopping differently in today’s digital world. We have made strategic investments in technology, people and processes to be responsive to how customers want to shop. We’re seeing early successes in both lead generation and closed ratios in the stores where we’re piloting these programs. We have seen advertise spend go down even as traffic increases. This will continue to be a key component of our internal growth strategy.

And, finally, customer experience; we are developing a customer experience that is unique to Sonic Automotive, an experience that is again predictable, repeatable and sustainable across all the great brands that we represent. Customers deserve a pleasurable experience when shopping for a car of their dreams, not a torturous experience.

I’ll be the first to tell you that I takes too much time and paperwork to buy a car today. We’re making investments in technology and piloting programs in several key markets to begin to change this.

We believe that our secret sauce and competitive advantage lies in reducing turnover, having flawless execution of our playbooks and embracing technology.

The Sonic Automotive customer experience that we’re developing will cause customers to want to shop at our stores.

As we implement these strategies we likely won’t get everything right the first time, and of course we know we have opportunities in our existing business that we need to go after even as we roll out these strategic initiatives.

One of the biggest areas of discussion this year has been around compensation costs. We said at the beginning of the year that we would average 80% SG&A to gross and we’re track to hit that target. While that’s lower than last year, we know we have opportunities in compensation and we are addressing them in a very measured and determined manner. We’ve gained a lot of credibility with our associates in this area and we won’t give that up for tough rash action. All the gains we’ve made in process rollout and turnover reduction can be lost very quickly if compensation issues aren’t handled in an equitable and professional manner.

We’ve made adjustments since the beginning of the year and have seen the cost run down. We realized there are a further opportunities and are taking steps to address them. We expect compensation and overall SG&A costs as a percent of gross profit to continue to trend down as we go through Q4 and head into next year.

Now let’s turn to slide seven and discuss briefly the third quarter results. Our total revenues were up 8.6% in Q3 versus the same period last year. Our new vehicle revenues were up against the strong prior-year comp that was driven by Cash for Clunkers. Our used vehicle volume continues to grow every quarter even in the phase of strong prior-year comps.

We continue to make progress in our balance sheet goals. We redeemed 20 million of our senior subordinated notes in Q3 and announced plan redemption of the remaining $16 million of our 4.25 quarter notes in November. Overall the $49 million in debt reductions we made this year will save us $3.5 million in annual interest expense.

With that, I’ll turn the call over now to Dave Cosper for a more detailed look at our financial results. Dave?

Dave Cosper

Thanks Scott, and good morning, everyone.

Revenue for the quarter grew to nearly $1.8 billion, up 8.6% from a year-ago. Growth was up 2.7%. We did see some softness in margins. Interest cost savings on our debt were over $3 million for the quarter as we’ll continue to delever the balance sheet and we’re going to see more of this as we go forward. After-tax profit on an adjusted basis was $15.2 million and EPS of $0.27, just ahead of last year and pretty much in line with our expectation.

Next slide, please. EBITDA for the quarter was $50 million and a $143 million for the first nine months of the year. For the year in total, we should be over a $190 million, and this is up from the EBITDA levels in 2008 and 2009. So we continue to improve profit and cash generation in the fairly weak industry environment.

Next slide, please. SG&A as a percent of growth was 80.3% for the quarter, up slightly from Q2 and in line with our expectation for the year. With respect to compensation that Scott mentioned, we have the make-in-progress throughout the year as shown on the bottom of the slide.

Also as Scott mentioned, we’re making some adjustments in compensation presently. This should take hold this quarter and into next year. And, Jeff, is going to talk more about in just a moment. For 2011, we expect that SG&A as a percent of a growth to be below 80%.

Next slide. Our total liquidity at quarter-end rose to $148 million, up from $79 million at yearend. We had no borrowings on our revolver. We continued to with our plan to reduce our nonmortgage public debt. And so far this year, we’ve taken out 32 million of our 8.58 notes. This leaves only 43 million of these notes remaining and these mature in 2013. And it’s our intent to take them out prior to that maturity.

In addition, we just called the remaining $16 million of our 4.25 convertible notes and we’ll take those out next month. As we’ve indicated many times, owning our land and facilities remains a priority for us. We’re presently working on several opportunities where we’ll either require stores from our landlords or build new facilities as existing leases runoff. And we expect this trend to continue for several years.

And, finally, we’ll be paying a $0.025 dividend per quarter going forward. Our business has stabilized, we’re generating cash and we feel a small dividend is appropriate. Importantly, it will not materially impact our plans to reduce our debt or own our properties going forward.

Next slide, please. This slide shows our debt covenants and we were comfortably compliant with all of them for the quarter and expect to remain so going forward as we’re generating a lot of cash and reducing our debt.

With that, I’ll turn the call over to Jeff.

Jeff Dyke

Thanks Dave, and good morning, everyone. Before commenting on my slides, I’d like to take a minute to comment on Dave’s SG&A slide with respect to compensation.

As you’re aware we’ve had several things going on with compensation in 2010. It was our strategy last year during the difficult times to standby our associates and not reduce compensation with across the board compensation cuts or across the board headcount cuts. However, we did let our headcount reduce through natural turnover. Instead, we focused on taking care of our associates during this time and supporting them when they need their company to support them the most.

I’m very proud of the fact that our leadership team did not waiver under the pressure to adjust. As a result, our turnover is among the lowest in the industry and our associate loyalty is in at all-time high as we strive to create one of America’s greatest companies to work and shop. In the coming quarters, a combination of increased gross supported by our playbooks, pay plan adjustments, and an improving economy will all benefit Sonic Automotive.

We’ve already adjusted compensation models to support our SG&A targets and know exactly what’s left to be done in Q4 from a comp perspective. These adjustments will still allow us to pay our team at or 10% above the market, which is our stated goal, while achieving our company profit and SG&A objectives. Thanks. And now let’s turn to my slides.

As mentioned on the previous calls, our attention to associate satisfaction, associate retention and our ability to execute our eSales and pre-owned playbooks continued to contribute to the success of new vehicle sales. As you can see on the new vehicle revenue, if you can see on the slide, new vehicle revenue was up nearly 4% for the quarter, and our new vehicle gross continues to gain on a sequential basis. New vehicle gross was down 5% on a year-over-year basis, which was aided by Cash for Clunker.

Our new car volume continues to show steady improvement in all markets, Texas, Alabama, Florida, the Mid-Atlantic area, Ohio, Michigan, and the Carolinas are all experiencing double-digit growth this year, while California is up marginally as Cash for Clunker for Sonic saw tremendous gains in prior year due to the Honda and Toyota mix in the market. We expect all regions to experience steady volume growth in Q4 and October is proving just that. We’re tracking up anywhere from 15% to 30% volume depending on the region for the month.

We continue to manage all new car inventory ordering on a centralized basis and are proud to report our new car days supplies an outstanding shape at 52 days. Actually we’d like to see our domestic inventory move up a bit. We’re in the 55 days’ supply range and we’d like to it be in the 60-day range and are working to add product for both Ford and Chevrolet, but manufacturer inventories are tight.

We’re comfortable with both our higher line and import inventories other than a need for a more of the higher-volume products which is normal course of business. New vehicle playbook comes to life at Sonic in Q4 as our initial stores will be installed and we’ll keep you posted on the progress that we make there.

Next slide, please. We continue to gain momentum at our pre-owned business as we posted another strong used vehicle quarter. This marks our seventh straight quarter of double-digit growth as our pre-owned team continues to execute our playbook. It’s important to note that we have been able to sustain this level of growth on top of double-digit growth last year in Q3, simply outstanding performance by our pre-owned team.

As you can see on the slide, we grew our used vehicle revenue 20% for the quarter and used vehicle volume was up nearly 15%. And the great news is that we continue to march forward in achieving our goal of selling a 100 used per store per month. October looked strong again as we’re tracking up 17% for the month as we comp against strong year-over-year performance.

It’s fun to watch this team work knowing the upside volume that there is for us to achieve as we get better and better at executing our pre-owned playbook. We now have 13 buyers as part of the Sonic Central Buying System that we updated you on last quarter and look to maximize these buyers before adding any more towards the middle to the end of the 2011, and we’ll keep you posted on the performance that we’re getting from them in the coming quarters.

Our certified pre-owned mix was 35% for the quarter and that’s right in line with our target. Inventory ended the quarter at 28.5 days as we continued to show Sonic strength in managing pre-owned inventories.

Next slide, please. As you can see on the slide as we’ve discussed in detail in previous quarters, our used vehicle gross margin percentage has stabilized as we’ve projected, our margin percent 7.8% for the quarter, and you should expect our margin percent and gross per unit to remain relatively flat throughout the remainder of this year.

We also continued to see year-over-year growth in our pre-owned gross profit dollars, up 9.4% for the quarter, again comping against strong prior year growth. While we’ve been very pleased with the progress that we’ve made in revenue, volume, and gross in pre-owned, we believe that tremendous upside exists as we perfect our skill sets. We’ve spent a lot of time and efforts studying our pre-owned model and continue to invest in our playbook.

In the coming quarters, we’ll announce the introduction of Sonic Inventory Management System or what we call SIMS for short. This proprietary system will provide Sonic with industry-leading inventory and pricing analytics technology that we believe will give Sonic the distinct competitive advantage, allowing us to price inventory in a market pricing value format, to move inventory with more detailed data than we’ve ever had before and help support growth in used vehicle margin, while maintaining our aggressive projected growth rate.

Next slide, please. We added an F&I site earlier this quarter as our F&I playbook is beginning to show progress. I have a stated company goal to sell two F&I products per call sold. This plan was developed to help our F&I team offset the decrease in profit coming from finance commissions, which has been an industry trend that we’ve all had to face over the last couple of years. This process combined with our growth in both new and used vehicles have contributed to a very successful F&I gross profit growth in 2010. For the quarter, our F&I growth is up 9.2%.

Our PR is at $972 per unit which is our best performance in a couple of years. While we expect our F&I business to continue to benefit from increasing unit volume and better product penetration, we’ve also been piloting other strategic F&I initiatives in various regions that are showing some early signs of success and we’ll have more for you on that in the coming quarters.

Next slide, please. We’re very excited about our fixed operations business. We’re in the second year of our playbook rollout with fixed operations and the results are improving with each quarter. As you’re aware, we designed our playbook to combat the reductions in warranty gross and to help deal with the lower SAR levels, and these moves continue [inaudible] for us. As you can see on the chart, overall fixed operations revenue was up 5.6% and our gross profit was up 2.8%, despite a 130-basis point decline in margin rate. For the year-to-date period, our fixed operations margin is relatively flat at 50%.

Our customer pay revenue was up 4.2% and customer pay gross dollars were up 1.4%. Same-store warranty revenue was flat as warranty continues to be in the 16% range as a percent of our fixed operations revenue. And our internal sublet gross from fixed operations was up a combined 32% or $2.1 million for the quarter. This increased as a direct result of our used car playbook and a significant increase we’re seeing in our used car volumes.

As promised, we said we’d update you on our aggressive tire campaign that we’ve been rolling out across the country, and so far on a year-to-date basis, we’re up 25% revenue and 19% in gross from our Good, Better, Best campaign, and we’re just getting and we’ll continue to update you on those as we move through each quarter.

Before I hand the call back to Scott, I’d like to thank all of the Sonic Automotive associates for their hard work and dedication to the execution of our objective and making associate satisfaction our number one priority. Our turnover is tracking to be in the 25% range for the year, which will mark the third straight year of significant improvement in associate satisfaction and supports our mission to create one of America’s greatest companies to work and shop. Thank you very much, team. Scott?

Scott Smith

Thank you, JD. We appreciate the time that you’ve given to us today to review both our strategic vision and our operational highlights from the quarter. I hope that this has given you a better insight into our company and our future plans. This team has built a solid foundation and positions Sonic Automotive for a prosperous future. A future where the next-generation Sonic leaders can build upon the predictable, repeatable and sustainable business model that this generation started.

As we continue to focus our energies on our investment principles and spending priorities, our balance sheet will continue to strengthen and ensure that prosperous features. Before we take questions, I want to take just a minute to thank all of our associates and vendor partners who joined together every day to help us build one of America’s greatest companies to work and shop. Thank you, team, it’s an honor and a privilege to lead our great company.

At this time, we’ll open the call and take your questions.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Scott Stember with Sidoti & Company.

Scott Stember – Sidoti & Company

Good morning.

Scott Smith

Hi good morning.

Dave Cosper

Hi Good morning.

Jeff Dyke

Hi Scott.

Scott Stember – Sidoti & Company

Could you talk about how some of the brands performed during the quarter, some of your higher profile brands?

Jeff Dyke

Sure. From a – this is Jeff – from a luxury perspective, BMW was up 5.1%, Cadillac was up 40%, Audi was up 24.5%, Jaguar we’ve got a big mix, that was up 36%. From an import perspective, obviously Hondo and Toyota were down just because of the Cash for Clunker comparison. Ford was up 7%, GM up 11.6%.

Scott Stember – Sidoti & Company

Got you. And Jeff did you make some qualitative comments or quantitative comments about how new car sales are trending in October so far? Reports are that they’ve been pretty good.

Jeff Dyke

Yes, they are. They’re very good for us. Our unit volume is trending up anywhere from 15% to 30%, just given the – given the market and that’s just across the board, the volume is very good. It’s nice to see.

Scott Stember – Sidoti & Company

Okay. And can you talk about the balance sheet a little bit, Dave, just as far as what is your targeted debt reduction going forward into next year as you continue to generate nice cash flow?

Dave Cosper

Yes, for sure, we want to go after those 8.58s. There is 43 million of those left. And then, we don’t have a firm target, but it’s over another 100 million beyond that that we just want to take out.

And we think it makes sense, because as Scott and Jeff talked about, what we’re doing is focusing on building our base business, not going out and acquiring. So we’re going to take a lot of the capital that we generate and just further improve our balance sheet. And you skip forward – fast forward two, three years, you got very clean balance sheet and a great operating company, and then you can do a lot of interesting things.

Scott Stember – Sidoti & Company

And would you guys – at this point not making acquisitions, you announced that you’re going to make a small dividend, can you talk about how share repurchases could eventually fall into this?

Dave Cosper

Yes, it’s possible. I don’t see it as an eminent kind of thing. I think our priority. You know we want to take care of all our stakeholders and we’ve done fair with our debt holders and we’re going to be providing a small return here, a little less than 1% to our equity holders in terms of dividend. I think share repurchases may have a start in the future, but it’s not eminent.

Scott Stember – Sidoti & Company

Got you. Well, that’s all I have right now. Thank you.

Dave Cosper

Okay, thank you.

Operator

Your next question comes from the line of John Murphy with Bank of America Merrill Lynch.

John Murphy – Bank of America Merrill Lynch

Good morning, guys.

Scott Smith

Hi John.

Dave Cosper

Good morning.

John Murphy – Bank of America Merrill Lynch

Just wondering as we think about SG&A leverage going forward and SG&A as a percent of gross, how we should think about that? And also as you run these playbooks and really try to tie your employees to improve performance I think overtime, really what kind of metrics you use and at what level as you use those metrics to get this SG&A leverage to gross to come through? I mean is this kind of the thing that really at the senior executive level or do you have SG&A to gross target for general managers at stores? I’m just trying to understand how you’ll control this SG&A hopefully as gross come back.

Jeff Dyke

John, Jeff Dyke, I’ll take a stab and answer in the first part of your question here. First of all, we’ve made adjustments this year – we know exactly where our SG&A increase is and it’s sitting at 80%. We know exactly what moves we need to make to bring down below that.

For me to target a 77% or 78% number right now is probably not fair, I’m not quite sure kind of what the number is going to end up being. But we’re making adjustments in pay plans, we already have this year, we’ve got a few more adjustments that we’re making in the fourth quarter. We’ll start seeing some fairly significant reduction there in Q4 of this year.

And we’ve also tied our compensation plans for our management teams to our budgets, which is the first for us, and we’ve been through this entire year sort of making that work. And so we look forward to rolling out our 2011 budgets with all of our stores and holding them accountable to hitting the goals that we put out there ourselves, and that’s going to help also reduce the SG&A numbers. So it’s not that we don’t know where it is, we know exactly where our SG&A issues are, the column issues.

We’ve just had a plan and we’ve been sticking to that plan all year long, and we called that at the begin of the year that we’d be at 80%, that’s exactly where we are. And you’re going to see that actually trend down in Q4 and it will continue to trend down into 2011.

Dave Cosper

And, John, this is Dave, and I’ve been thinking about it as an investment. And as Jeff said, we consciously have kept our compensation cost up and we’re investing in a number of technologies that are very interesting. And SG&A as a percent of growth is the balance. And we’re investing on the cost side right now, the gross is coming. And as these playbooks mature, there is going to more gross. And you’ll see it shrink overtime.

Jeff Dyke

And we’ve always been a – and this is Jeff again – we’ve always been a leader in SG&A as the gross of a percent. And so it’s just something that we made a conscious decision to do this year and we’ll continue to adjust the pay plans and adjust our plan moving forward. But I think everybody will be relatively pleased with the SG&A as a percent as we move forward.

John Murphy – Bank of America Merrill Lynch

Okay. And as we think about going forward though, it’s more sort of efficiency of SG&A going forward as supposed to really cutting it and getting the gross up, so the ratio goes down, is that really how you think about it as opposed to actually making absolute cuts.

Scott Smith

No John, actually it’s a combination of both. We’re making adjustments in our pay plans and we’re going to drive incremental gross, and we’ve been doing that. So we are – it’s a combination of both to answer your question.

John Murphy – Bank of America Merrill Lynch

Okay.

Scott Smith

And it still going to allow us to pay at or above the market and that’s one of our stated goals with our associates. We’re not going to try to get away with what we can on pay. We’re going to pay what we should pay and we’ve been very, very focused on that.

John Murphy – Bank of America Merrill Lynch

Got you. Second question just on new vehicle margins, it sounds like inventory across the industry is pretty tight, yet, and we’re seeing this in every place else, the new vehicle margins are pretty light, and there seems to be a lot of competition amongst dealers and some price cutting that’s going on there. I’m just trying to understand why we’re seeing your new vehicle margins so light given your commentary that inventories light and apparently it’s kind of light across the industry. I’m just trying to get into the details there and understand what’s going on.

Greg Young

Hi John, this is Greg. I’ll let Jeff follow-up with some comments here. But I would just caution everyone not to pay too much attention to the overall margin rate, because as you know, there is various components that go into that.

If you really look at the underlying detail, I think of the drivers of the decrease in the margin rate was a fairly significant increase in the average selling price of our vehicles, year-over-year they were up about $2600 a vehicle.

If you look at our average gross profit dollars per new vehicle, we were pretty much steady right at little over $2100 a vehicle year-over-year. So I think from a gross profit generation perspective, we’re still very strong on the new vehicle side. Some of the average selling price increases are moving the rate around a little bit.

Scott Smith

That’s a result of Cash for Clunkers. Last year, there were a lot of import sold, and luxury mix is higher this quarter.

Jeff Dyke

And last year, we saw an import mix at full pop. I mean we were selling everything at sticker. I mean that just that aided last year’s margin percentage number.

Scott Smith

Our PUR is among the best in the industry and I don’t see that being an issue at all.

John Murphy – Bank of America Merrill Lynch

So $2100 is sort of how we should be thinking at as opposed to a percentage going forward.

Scott Smith

Yes, that’s the way I would do it.

John Murphy – Bank of America Merrill Lynch

And then just lastly on the new used car system that you’re putting in place. So just wondering sort of how you can juxtapose that versus what you’re doing right now, is your current inventory sort of very decentralized at the store level and we’re going to go to a real centralized system, and just how that’s all going to work going forward, and what the timeline is for implementation?

Scott Smith

I mean our inventory is centralized as anybody else is in the industry right now other than CarMax. And we just see so upside in the used car volume and all this is, is if we have system in place today, it’s our system going on steroids or putting a turbo on it, we’re going to know more real-time on pricing analytics and you will see us gradually over the next 18 months to 24 months move to more of a centralized pricing format than having a de-centralized pricing format.

So stores play a bigger role in pricing today and it’s a huge opportunity, pricing the car right the first time is the biggest opportunity that we have in this company, and we’ve done a good job with it. I mean our revenue growth and volume growth has been double digit now for seven quarters in a row, but we just see much more upside here.

It’s a huge market, there are 40 million cars being sold out there, and we see a lot of upside and we’re going to get it, we’re no way near our full potential from a used car perspective, and these adjustments that we’re making are just improving the systems that we have today.

John Murphy – Bank of America Merrill Lynch

And that pricing system will help you out on the buy side of the equation as well as the sell side of the equation for the vehicle?

Scott Smith

I think but I’ll tell you inventories and that’s why we’ve introduced our Sonic Buying System and we’ve added the buyers to our system. Inventories are going to get tighter, we’re going to be fighting in a more difficult situation over the next 18 months as off leased cars and certified pre-owned type vehicles are harder to get.

So there should be a little margin compression there in that arena, but overall I think our systems are going to allow us. It has allowed us so far to stay ahead. I mean we’ve managed a really tight day supply, 28.5 days which is really solid. And I think we can continue to do that and sell a lot more cars moving forward.

John Murphy – Bank of America Merrill Lynch

Great, thank you very much.

Scott Smith

Thanks John.

Operator

Your next question comes from the line of Aditya Oberoi with Goldman Sachs.

Aditya Oberoi – Goldman Sachs

Hi guys.

Scott Smith

Hi.

Jeff Dyke

Hi.

Aditya Oberoi – Goldman Sachs

Continuing on the used side of the business, your used to new ratio is kind of trending pretty high versus what you guys have done historically. So assuming that the playbook strategy continuous to payoff, do you think this ratio to continue to trend higher from here or will it – are you comfortable in this 0.8, 0.9 kind of range?

Jeff Dyke

Yes, actually, I think – it is Jeff Dyke again – I think if you go back and look at last quarter, I think we were right at 1-to-1, and I think for the second quarter too, and we’re there – we’re at 0.9-to-1 I think for this quarter.

And our expectations are that if we sell a new car, we sell a used car, and there is more used cars sold in America than there are new cars, so there was a bigger pool to play in. And we think we can continue to grow our used car business even to a point where we’re selling more used than new.

Aditya Oberoi – Goldman Sachs

Got it, great. And the second question was more of a strategic question. I know like associate satisfaction is one of the key focuses of the management team right now. So is there a quantitative way you measure it like two quarters down the line when you say, “Okay, our associate satisfaction is higher than what it is today,” how do you kind of measure it, is it just the attrition levels or there are some other parameters that you kind of look at?

Jeff Dyke

Well, the first one is, is that our turnover is down significantly three years in a row. So – but we also do an associate satisfaction survey from – that a third-party outside company does for us on annual basis.

It’s done individually for every associate in the company. And those internal measures are also improving each year. So a combination of those two things is how we measure our employee loyalty and satisfaction.

Aditya Oberoi – Goldman Sachs

Okay, great. Thanks a lot, guys.

Operator

Your next question comes from the line of Rick Nelson with Stephens Inc.

Rick Nelson – Stephens Inc.

Thank you, good morning.

Scott Smith

Hi, good morning, Rick.

Rick Nelson – Stephens Inc.

I can ask about the EPS target here for the fourth quarter, $0.25 to $0.27, historically fourth quarter sales have been smaller, Q4 versus Q3 you made $0.27. In Q3, I guess what line items are changing there? Is that margin or expenses or is that other factors that are driving this target?

Dave Cosper

Rick, I think as we got into Q3, we probably did a couple of pennies better than what we thought, so we think there is some just underlying strength in the business. I think some of the compensation items that Jeff mentioned are going to be there and we’re seeing – the used business continue to be very strong, so that’s not a seasonal thing. And then, early indications are that the new car SAR is up a little bit.

For October, we’re seeing some strength there. So we’ve moved up a little bit from where we were initially I think when we – couple of quarters back, said, we’d be at $0.90, and we’re going to beat that.

Greg Young

Hi Rick, this is Greg. I think just some of the earnings seasonality may still be a little bit skewed coming out of the downturn in the Cash for Clunkers. If you remember, September of last year fell way off, October fell way off, post Cash for Clunkers. We’re obviously not seeing that phenomenon this year. So that’s what makes us think that Q4 is going to look a whole lot like Q2 and Q3 did, which – and I agree with you normally you don’t see that.

Dave Cosper

Yes, I mean, our October, Rick, so far is trending in the same sort of atmosphere as our August and our July which is unusual. And so I mean we always have a little bit slowdown in September. So that combined with the moves that we’re making from an SG&A perspective that we talked about already are going to really help the quarter.

Greg Young

Plus our interest costs, they’re going to be a little bit lower.

Rick Nelson – Stephens Inc.

Got you, thanks. What sort of time line do you have in terms of debt reduction? If we see no improvement in the up running environment, when do you think we can look at potential acquisitions or we’re at couple of years away from?

Scott Smith

Yes, for acquisitions, it’s probably closer to three if I have my way.

Jeff Dyke

I think I would agree with that.

Greg Young

I’m getting something like four years now.

Rick Nelson – Stephens Inc.

Is there a target debt ratio you’re looking for before we start to look to acquisitions?

Scott Smith

We’re still firming that up. At the moment, it just lowers better. As long as we’re not growing, we’re going to be taking down our debt and paying that dividend. And I think we’ve got some issues with our credit facility that we’ll need to talk to our banks next year about ability to take more debt out. There are some restriction. But early indications and discussions with them are that we can work something out, because we’re sitting on a lot of liquidity and it behooves everybody to have us take some of that debt out.

Greg Young

And we saw it long and hard Rick on this acquisition versus internal growth strategy. And the more and more we’ve looked at it, the more and more we talked to some of our larger investors, the more we just keep leaning towards the significant opportunity we have from an internal operations perspective. We still look at some of the hurdle rates that are out there from an after-tax perspective.

We don’t see them being significantly higher than cost of capital and that kind of makes us scratch our head and say, “Why would we want to take on that incremental risk?” We still think that there is a fairly wide delta out there between buyers and sellers when going on the acquisition trail. So with everything that Jeff and Scott have talked about, we just think that the growth for us is really going to be focused internally, and we think it’s there.

Scott Smith

Yes, really it’s a risk return tradeoff. If you look at our investment priorities, it’s invested in the base business and it’s not huge dollar investment, it’s an [inaudible] effort and there’s great payout and low risk; buying back our debt, good payout, low risk, owning our property, great payout, very low risk. So we kind of like that. I think we can get very good returns without impacting the risk greatly of our business, in fact improving it.

Rick Nelson – Stephens Inc.

Thanks for that. Also, like to ask you about the tax rate that came in a little lower, the year-to-date results.

Scott Smith

Yes, let me talk for a minute about that. Year-to-date, it’s a 39.8%. In Q3, it was 37.7%. The year-to-date number of 39.8% is very close to where we were, and back in 2007 it was 39.1%. And so we’re trending down to where we were historically. And what’s happening, some of the states we operate in have state tax system that has you pay even though you may not be so profitable, it’s more of fixed charge. And as our earnings start to improve which they are, that fixed charge becomes a smaller impact. So our rate is actually declining. And somewhere around 40%, 39%, 40% going forward is what we would anticipate, and it’s down from where we’ve been when the earnings were lower.

Rick Nelson – Stephens Inc.

Got you. Okay, thanks a lot. Good luck.

Scott Smith

Thanks Rick.

Operator

(Operator Instructions). At this time there are no further questions. Are there any closing remarks?

Scott Smith

Great. Just thank you everyone for joining us today. Bye.

Operator

This concludes today’s Sonic Automotive third quarter earnings conference call. You may now disconnect.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY’S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY’S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY’S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: Sonic Automotive Management Discusses Q3 2010 Results - Earnings Call Transcript
This Transcript
All Transcripts