We are a leading operator of automotive franchises and a retailer of new and used vehicles and services. As of March 3, 2010, we offered 26 brands of new vehicles and all brands of used vehicles in 85 stores in the United States and online at Lithia.com. We sell new and used cars and light trucks, replacement parts; provide vehicle maintenance, warranty, paint and repair services and arrange related financing, service contracts, protection products and credit insurance.
Our dealerships are primarily located in small and mid-size regional markets throughout the Western and Midwestern regions of the United States. The majority of our franchises are in “single-point” locations, meaning that these locations do not have directly competing dealerships offering the same brand in the same market.
At December 31, 2009, we had two stores classified as held for sale and included as part of discontinued operations.
Business Strategy and Operations
Our mission is to be the preferred provider of cars and trucks and related services in North America. Through an integrated, centralized operating structure, we promote entrepreneurial store management focused on achieving a positive customer experience. With our management information systems, our emphasis on standardized operating practices and our centralized administrative functions, we seek to gain economies of scale from our dealership network.
Operations are structured to promote an entrepreneurial environment at the dealership level. Each store’s general manager, with assistance from regional and corporate management, is ultimately responsible for dealership operations, personnel, store culture and financial performance.
During 2009, we focused on the following key areas to achieve our mission:
a fully-integrated and centralized operating structure;
operating profitably through improved margins and reduced costs;
prudent cash management in the current economic environment; and
right-sizing our operations to match current demand and to improve per employee productivity.
Centralized administrative functions promote entrepreneurial store management. Accounts payable, accounts receivable, credit and collections, accounting and taxes, information technology, legal, human resources, human development, treasury, cash management, advertising and marketing are all centralized at our corporate headquarters. These efficiencies have allowed us to reduce overall administrative staff, including personnel in our corporate offices, from 6.4 people per store as of December 31, 2007 to 3.1 people per store as of December 31, 2009. The reduction of administrative functions at our stores allows our local managers to focus on customer-facing opportunities to generate increased revenues and gross profit. Our operations are supported by our dedicated training and personnel development program, which shares best practices across our dealership network and seeks to develop our store management talent.
To reduce our dependence on any one manufacturer and our susceptibility to changing consumer preferences, we offer a wide variety of both import and domestic new vehicle brands and models. Encompassing economy and luxury cars, sports utility vehicles, crossovers, minivans and light trucks, we believe our brand mix is well-suited to what people want in the markets we serve. In these rural, agricultural markets, as opposed to metropolitan markets, we believe more consumers need trucks, and a larger percentage of customers choose domestic vehicles. We continuously evaluate our portfolio of franchises, divesting stores that are not expected to meet our financial return requirements while selectively acquiring attractive stores in our target markets.
We have restructured our operations to align our costs with current industry vehicle sales levels. Through various cost cuts and personnel reductions initiated in the second quarter of 2008, we have achieved $65 million of annualized permanent cost reductions. Since the second quarter of 2008 through December 31, 2009, we also generated $71.8 million in cash by divesting stores that were non-essential or that did not meet our financial return expectations. We believe that we are well positioned to benefit from an increase in new vehicle sales above current levels.
New Vehicle Sales
In 2009, we sold 29,109 new vehicles generating 22.4% of our gross profit for the year. New vehicle sales also have the potential to create incremental profit opportunities through manufacturer incentives, resale of trade-in vehicles, sale of third-party financing, vehicle service and insurance contracts, and future service and repair work.
We purchase our new car inventory directly from manufacturers, who generally allocate new vehicles to stores based on availability, monthly sales and market area. Accordingly, we rely on the manufacturers to provide us with vehicles that meet consumer demand at suitable locations, with appropriate quantities and prices. However, high demand vehicles are often in short supply. We attempt to exchange vehicles with other automotive retailers (and amongst our own stores) to accommodate customer demand and to balance inventory.
Used Vehicle Sales
At each new vehicle store, we also sell used vehicles. We have certain stores that sell only used vehicles. In 2009, retail used vehicle sales generated 20.0% of our gross profit.
Our used vehicle operations give us an opportunity to:
generate sales to customers financially unable or unwilling to purchase a new vehicle;
increase new and used vehicle sales by aggressively pursuing customer trade-ins; and
increase finance and insurance revenues and service and parts sales.
Our used vehicles are segregated into three categories: manufacturer certified used vehicles; late model, lower mileage vehicles; and value autos. We offer manufacturer certified used vehicles at most of our franchised dealerships. These vehicles undergo additional reconditioning and receive an extended factory-provided warranty. Late model, lower mileage vehicles are reconditioned to like-new condition and offer a Lithia certified warranty. Value autos are older, higher mileage vehicles that undergo a safety check and some reconditioning. Value autos are offered to customers who require a less expensive vehicle with lower monthly payments. In addition, as a complement to our ongoing used vehicle operation at each store, and in response to customer demand, we use personnel in our support services group to identify and acquire a better mix of used vehicles attractive to our markets. We conduct our own internal used vehicle auctions, and centrally manage the sale of used vehicles at public auctions at the corporate level.
In 2009, we focused on increasing retail used vehicle sales. This resulted in the sale of 1.0 retail used vehicles for every retail new vehicle sold. This is compared to approximately 0.7 retail used vehicles for every new vehicle sold in 2008. We believe this improvement was directly related to both our expanded vehicle offerings and an increased focus by our store sales personnel. Furthermore, a declining new vehicle sales environment also contributed to a higher demand for used vehicles. Our longer-term strategy is to maintain a ratio of one retail used vehicle sale to one retail new vehicle sale.
We acquire our used vehicles through customer trade-ins and at closed auctions. We also purchase vehicles directly from customers visiting our stores and from private parties advertising through local newspapers and online.
Additionally, we wholesale used vehicles that are in poor condition, are aged in our inventory, or are not suitable for our brand mix.
We believe that arranging financing is an important part of our ability to sell vehicles and related products and services. Our sales personnel and finance and insurance managers receive training in securing customer financing and possess extensive knowledge of available financing alternatives. We try to arrange financing for every vehicle we sell and we offer customers financing on a “same day” basis, giving us an advantage, particularly over smaller competitors who do not generate enough sales to attract our breadth of finance sources.
Credit markets continued to remain tight in 2009, reducing the number of loans originated, limiting loans to less credit-worthy customers, reducing vehicle leasing programs and increasing overall financing costs. These constraints in financing resulted in fewer consumers in the market and less floor traffic at our stores. The financial crisis has increased the cost of funds and reduced the access to capital for finance companies (including manufacturers’ captive finance companies). This has prevented finance companies from offering certain incentives designed to increase sales and required customers to increase the down payment as a percentage of the sales price of vehicles and ancillary products.
Despite these negative factors, we were able to arrange financing on 69% of the vehicles we sold during 2009, but on a significantly lower volume of sales. In 2008, we arranged financing on 75% of the vehicles we sold. Changes in technology surrounding the credit application process have allowed us to utilize a larger network of lenders across a broader geographic area. Additionally, some smaller, local banks and credit unions have entered the market while larger financial institutions have reduced their lending.
In the third quarter of 2009, the U.S. Government offered the Car Allowance Rebate System (the “CARS Program”) to consumers who traded in older cars for newer, more fuel-efficient models. This program was popular with customers who required less vehicle financing and made more outright cash purchases than is typical in our business. As a result, we believe the penetration rate on vehicle financing was impacted for both the third quarter and full year 2009.
We earn a portion of the financing charge by discounting each finance contract we write and subsequently sell to a lender. We normally arrange financing for customers by selling the contracts to outside sources on a non-recourse basis to avoid the risk of default. During 2009, we did not directly finance any of our vehicle sales.