UNITED STATESSECURITIES AND EXCHANGE COMMISSIONWASHINGTON, D.C. 20549
(Mark One)
For the quarterly period ended March 31, 2002OR
Commission file number: 000-21789
LITHIA MOTORS, INC.
Registrant’s telephone number, including area code: 541-776-6899
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
TABLE OF CONTENTS
LITHIA MOTORS, INC.FORM 10-QINDEX
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PART I — FINANCIAL INFORMATION
Item 1. Financial Statements
LITHIA MOTORS, INC. AND SUBSIDIARIESCONSOLIDATED BALANCE SHEETS(In thousands)
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The accompanying notes are an integral part of these consolidated financial statements.
LITHIA MOTORS, INC. AND SUBSIDIARIESCONSOLIDATED STATEMENTS OF OPERATIONS(In thousands, except per share amounts)(Unaudited)
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LITHIA MOTORS, INC.CONSOLIDATED STATEMENTS OF CASH FLOWS(In thousands)(Unaudited)
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LITHIA MOTORS, INC.NOTES TO CONSOLIDATED FINANCIAL STATEMENTS(Unaudited)
Note 1. Basis of PresentationThe financial information included herein as of March 31, 2002 and for the three-month periods ended March 31, 2002 and 2001 is unaudited; however, such information reflects all adjustments, consisting only of normal recurring adjustments, which are, in the opinion of management, necessary for a fair presentation of the financial position, results of operations and cash flows for the interim periods. The financial information as of December 31, 2001 is derived from our 2001 Annual Report on Form 10-K. The interim consolidated financial statements should be read in conjunction with the consolidated financial statements and the notes thereto included in our 2001 Annual Report on Form 10-K. The results of operations for the interim periods presented are not necessarily indicative of the results to be expected for the full year.
Note 2. InventoriesInventories are valued at cost, using the specific identification method for vehicles and the first-in first-out (FIFO) method of accounting for parts (collectively, the FIFO method). Detail of inventory is as follows (in thousands):
Note 3. Supplemental Cash Flow InformationSupplemental disclosure of cash flow information is as follows (in thousands):
Note 4. Earnings Per ShareFollowing is a reconciliation of basic earnings per share (“EPS”) and diluted EPS. Based on an April 2001 Financial Accounting Standards Board announcement, we restated basic EPS for the three-month period ended March 31, 2001 to include the Series M Preferred Stock as common stock on an as if converted basis (in thousands, except per share amounts).
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Potentially dilutive securities that are not included in the diluted EPS calculations because they would be antidilutive include 34,280 and 657,815 shares, respectively, issuable pursuant to stock options, for the three month periods ended March 31, 2002 and 2001, respectively.
Note 5. Comprehensive IncomeComprehensive income includes the fair value of cash flow hedging instruments that are reflected in shareholders’ equity instead of net income. The following table sets forth the calculation of comprehensive income for the periods indicated (in thousands):
Note 6. AcquisitionsThe following acquisitions were made in the first quarter of 2002:
The above acquisitions were accounted for under the purchase method of accounting. Pro forma results of operations are not materially different from actual results of operations.
Note 7. Conversion of Series M Preferred Stock
In January 2002, 5,177 shares of Series M Preferred Stock were converted at a price of $20.77 per common share into 249,311 shares of Class A common stock. After this conversion, 4,499 shares of Series M preferred stock remained outstanding.
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Note 8. Offering of Class A Common Stock
In March 2002, we registered and sold 4.5 million newly issued shares of Class A common stock and 1.25 million shares from existing stockholders. Proceeds to the Company, net of offering expenses, totaled approximately $77.2 million. In connection with the sale of shares by existing stockholders, 121,488 shares of Class B common stock were converted into a like number of shares of Class A common stock.
Note 9. Recent Accounting Pronouncements
In July 2001, the Financial Accounting Standards Board issued SFAS No. 142, “Goodwill and Other Intangible Assets.” SFAS No. 142 requires that goodwill and intangible assets with indefinite useful lives no longer be amortized, but instead tested for impairment at least annually in accordance with the provisions of SFAS No. 142. SFAS No. 142 also requires that intangible assets with estimable useful lives be amortized over their respective estimated useful lives to their estimated residual values, and reviewed for impairment in accordance with SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to Be Disposed Of.”
We adopted the provisions of SFAS No. 142 effective January 1, 2002. SFAS No. 141 “Business Combinations” requires, upon adoption of SFAS No. 142, that we evaluate our existing intangible assets and goodwill that were acquired in prior purchase business combinations, and make any necessary reclassifications in order to conform with the criteria in SFAS No. 141 for recognition apart from goodwill. We did not reclassify any intangibles upon adoption of SFAS No. 142. We tested our goodwill and other intangible assets with indefinite useful lives for impairment in accordance with the provisions of SFAS No. 142 during the first quarter of 2002. We determined that no impairment losses were required to be recognized. As a result of the adoption of SFAS No. 142 in the first quarter of 2002, we ceased amortization of goodwill and, therefore, did not recognize approximately $1.1 million of amortization expense that would have otherwise been recognized.
In August 2001, the FASB approved SFAS No. 143, “Accounting for Asset Retirement Obligations,” which we adopted in the first quarter of 2002. SFAS No. 143 addresses the financial accounting and reporting for obligations associated with the retirement of tangible long-lived assets and the associated asset retirement costs. In October 2001, the FASB approved SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived Assets,” which supersedes SFAS No. 121, “Accounting for the Impairment of Long-Lived Assets and for Long-Lived Assets to be Disposed Of” and the accounting and reporting provisions of APB No. 30, “Reporting the Results of Operations – Reporting the Effects of Disposal of a Segment of a Business, and Extraordinary, Unusual and Infrequently Occurring Events and Transactions” for the disposal of a segment of a business. SFAS No. 144 retains many of the fundamental provisions of SFAS No. 121, but resolves certain implementation issues associated with that Statement. SFAS No. 144 was also adopted in the first quarter of 2002. The adoption of SFAS No. 143 and SFAS No. 144 did not have any affect on our financial condition or results of operations.
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Note 10. Subsequent Event
On May 2, 2002, the Company redeemed the remaining 4,499 outstanding shares of its Series M Preferred Stock for a total of $4.4 million from its existing cash balances.
Forward Looking Statements and Risk FactorsSome of the statements in this Form 10-Q constitute forward-looking statements. In some cases, you can identify forward-looking statements by terms such as “may,” “will,” “should,” “expect,” “plan,” “intend,” “forecast,” “anticipate,” “believe,” “estimate,” “predict,” “potential,” and “continue” or the negative of these terms or other comparable terminology. The forward-looking statements contained in this Form 10-Q involve known and unknown risks, uncertainties and situations that may cause our actual results, level of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these statements. Some of the important factors that could cause actual results to differ from our expectations are discussed in Exhibit 99 to our 2001 Annual Report on Form 10-K.
Although we believe that the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. You should not place undue reliance on these forward-looking statements.
GeneralWe are a leading operator of automotive franchises and retailer of new and used vehicles and services. As of April 30, 2002, we offered 25 brands of new vehicles through 127 franchises in 66 stores in the western United States and over the Internet. As of April 30, 2002, we operate 16 stores in Oregon, 11 in California, 10 in Washington, 7 in Colorado, 7 in Idaho, 5 in Nevada, 5 in Texas, 3 in South Dakota and 2 in Alaska. We sell new and used cars and light trucks; sell replacement parts; provide vehicle maintenance, warranty, paint and repair services; and arrange related financing and insurance for our automotive customers.
During an economic downturn, customers tend to shift towards the purchase of more reasonably priced new vehicle models or used vehicles. Many customers decide to delay purchasing a new vehicle and instead repair existing vehicles. In addition, manufacturers typically offer increased dealer and customer incentives during an economic downturn in order to support new vehicle sales volume. These factors lead to less volatility in earnings for automobile retailers than for automobile manufacturers.
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Historically, new vehicle sales have accounted for approximately 50% of our total revenues but less than 30% of total gross profit. We emphasize sales of higher margin products, which generate over 70% of our gross profits. Our revenues and gross profit by product line were as follows:
The following table sets forth selected condensed financial data, expressed as a percentage of total revenues for the periods indicated.
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Results of Operations
Revenues. Total revenues increased 24.8% in the first quarter of 2002 compared to the first quarter of 2001 as a result of acquisitions and 1.4% same store sales growth. We achieved same store new vehicle sales growth of 3.3% in the first quarter of 2002 compared to the first quarter of 2001. This compares favorably to an industry decline in new vehicle sales of 4.5% for the first quarter of 2002 compared to the first quarter of 2001.
During the first quarter of 2002, manufacturers offered, and are continuing to offer, incentives, including low interest rates and rebates, in order to attract new vehicle buyers. The availability of cash rebates and zero percent and low interest rate financing have also enhanced our ability to sell finance, warranty and insurance products and services. Our finance and insurance sales per retail unit increased 10.0% to $954 per vehicle in the first quarter of 2002 compared to the first quarter of 2001.
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Gross Profit. Gross profit increased due to increased total revenues, offset in part by a slightly lower overall gross profit percentage. Incentives and rebates received from manufacturers, including floorplan interest credits, are recorded as a reduction to cost of goods sold. Gross profit margins achieved were as follows:
The decrease in the overall gross profit margin in the first quarter of 2002 compared to the first quarter of 2001 is primarily a result of three factors:
Selling, General and Administrative Expense. Selling, general and administrative expense includes salaries and related personnel expenses, facility lease expense, advertising, legal, accounting, professional services and general corporate expenses. Selling, general and administrative expense increased due to increased selling, or variable, expenses related to the increase in revenues and the number of locations. As a percentage of revenue, selling, general and administrative expense decreased 20 basis points in the first quarter of 2002 compared to the first quarter of 2001 due to expense leverage on higher sales, which was partially offset by increases in health insurance and other operating costs.
Depreciation and Amortization. Depreciation and amortization expense decreased primarily as a result of the adoption of SFAS No. 142 “Goodwill and Other Intangible Assets” in the first quarter of 2002. SFAS No. 142 requires that goodwill and other intangibles with indefinite useful lives no longer be amortized.
Income from Operations. Operating margins decreased 10 basis points, or one-tenth of one percent, in the first quarter of 2002 compared to the first quarter of 2001 due to the decrease in the overall gross margin percentage, mostly offset by lower operating expenses as a percentage of revenue.
Floorplan Interest Expense. The decrease in floorplan interest expense in the first quarter of 2002 compared to the first quarter of 2001 is primarily due to approximately $2.3 million in savings as a result of decreases in the effective interest rates on the floating rate credit lines. In addition to the interest expense on our flooring lines of credit, floorplan interest expense includes the interest expense related to our interest rate swaps.
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Other Interest Expense. Other interest expense includes interest on debt incurred related to acquisitions, real estate mortgages, our used vehicle line of credit and equipment related notes. Approximately $1.1 million of the decrease in other interest expense is due to lower interest rates in the first quarter of 2002 compared to the first quarter of 2001, offset in part by higher average outstanding balances and less capitalized interest in the first quarter of 2002 compared to the first quarter of 2001.
Income Tax Expense. Our effective tax rate was 38.6% in the first quarter of 2002 compared to 38.5% in the first quarter of 2001. Our effective tax rate may be affected in the future by the mix of asset acquisitions compared to corporate acquisitions, as well as by the mix of states where our stores are located.
Net Income. Net income increased as a result of increased revenues and lower operating expenses and interest expense as a percentage of revenue, offset in part by a lower gross margin percentage.
Liquidity and Capital Resources
Our principal needs for capital resources are to finance acquisitions and capital expenditures, as well as for working capital. We have relied primarily upon internally generated cash flows from operations, borrowings under our credit agreements and the proceeds from public equity offerings to finance operations and expansion.
On May 2, 2002, we redeemed the remaining 4,499 outstanding shares of our Series M Preferred Stock for a total of $4.4 million from our existing cash balances.
In March 2002, we registered and sold 4.5 million newly issued shares of our Class A common stock for total proceeds, net of offering expenses, of approximately $77.2 million. We utilized the proceeds to pay down our lines of credit until such funds are required for acquisitions.
In June 2000, our Board of Directors authorized the repurchase of up to 1,000,000 shares of our Class A common stock. We have purchased 40,000 shares under this program and may continue to do so from time to time in the future as conditions warrant.
We have credit facilities with Ford Motor Credit Company totaling $530 million, which expire December 1, 2003, with interest due monthly. The facilities include $250 million for new and program vehicle flooring, $150 million for used vehicle flooring and $130 million for store acquisitions. We also have the option to convert the acquisition line into a five-year term loan.
The credit lines with Ford Motor Credit are cross-collateralized and are secured by inventory, accounts receivable, intangible assets and equipment. We pledged to Ford Motor Credit the stock of all of our subsidiaries except entities operating BMW, Honda, Nissan or Toyota stores.
The financial covenants in our agreement with Ford Motor Credit require us to maintain compliance with, among other things, (1) specified ratios of total debt to tangible base capital; (2) specified ratios of total adjusted debt to tangible base capital; (3) specific current ratio; (4) specific fixed charge coverage ratio; and (5) positive net cash. The Ford Motor
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Credit agreements also preclude the payment of cash dividends without prior consent. We were in compliance with all such covenants at March 31, 2002.
Toyota Financial Services, DaimlerChrysler Financial Corporation and General Motors Acceptance Corporation have agreed to floor all of our new vehicles for their respective brands with Ford Motor Credit serving as the primary lender for all other brands. These new vehicle lines are secured by new vehicle inventory of the relevant brands.
We also have a real estate line of credit with Toyota Financial Services totaling $40 million, which expires July 2, 2006. This line of credit is secured by the real estate financed under this line of credit.
In addition, U.S. Bank N.A. has extended a $27.5 million revolving line of credit for leased vehicles and equipment purchases, which expires January 31, 2004.
Interest rates on all of the above facilities ranged from 3.4% to 4.8% at March 31, 2002. Amounts outstanding on the lines at March 31, 2002 together with amounts remaining available under such lines were as follows (in thousands):
At March 31, 2002, we had capital commitments of approximately $13.9 million for the construction of three new store facilities, additions to three existing facilities and the remodel of one facility. The three new facilities will be a Ford store in Boise, Idaho, a Chrysler/Dodge/Jeep store in Colorado Springs, Colorado and a body shop in Reno, Nevada. We have already incurred $1.8 million for these commitments and anticipate incurring $12.6 million of the remaining $13.9 million during 2002. We expect to pay for the construction out of existing cash balances until completion of the projects, at which time we anticipate securing long-term financing and general borrowings from third party lenders for 85% to 100% of the amounts expended.
Seasonality and Quarterly Fluctuations
Historically, our sales have been lower in the first and fourth quarters of each year due to consumer purchasing patterns during the holiday season, inclement weather and the reduced number of business days during the holiday season. As a result, financial performance may be lower during the first and fourth quarters than during the other quarters of each fiscal year. We believe that interest rates, levels of consumer debt, consumer confidence and buying patterns, as well as general economic conditions, also contribute to fluctuations in sales and operating results. Historically, the timing and frequency of acquisitions has been the largest contributor to fluctuations in our operating results from quarter to quarter.
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Recent Accounting Pronouncements
See Note 9.
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Variable Rate Debt
We use variable-rate debt to finance our new and program vehicle inventory. The interest rate on the flooring debt is tied to either the one-month LIBOR, the three-month LIBOR or the prime rate. Therefore, these debt obligations expose us to variability in interest payments due to changes in these rates. The flooring debt is based on open-ended lines of credit tied to each individual store from the various manufacturer finance companies. If interest rates increase, interest expense increases. Conversely, if interest rates decrease, interest expense decreases.
Our variable-rate flooring notes payable and other credit line borrowings subject us to market risk exposure. At March 31, 2002, we had $336.0 million outstanding under such agreements at interest rates ranging from 3.4% to 4.8% per annum. A 10% increase in interest rates would increase interest expense by approximately $480,000, net of tax, in the remaining three quarters of 2002 based on amounts outstanding on the lines of credit at March 31, 2002.
Hedging Strategies
We believe it is prudent to limit the variability of a portion of our interest payments. Accordingly, we have entered into interest rate swaps to manage the variability of our interest rate exposure, thus leveling a portion of our interest expense in a rising or falling rate environment. We currently have hedged approximately 17.2% of our flooring debt.
The interest rate swaps change the variable-rate cash flow exposure on a portion of the flooring debt to fixed rate cash flows by entering into receive-variable, pay-fixed interest rate swaps. Under the interest rate swaps, we receive variable interest rate payments and make fixed interest rate payments, thereby creating fixed rate flooring debt.
We have entered into the following interest rate swaps with U.S. Bank Dealer Commercial Services:
We earn interest on both of the $25 million interest rate swaps at the one-month LIBOR rate adjusted on the first and sixteenth of every month and we are obligated to pay interest at the fixed rate set for each swap (6.88% or 6.47% per annum) on the same amount. The difference between interest earned and the interest obligation accrued is received or paid each month and is recorded in the statement of operations as flooring interest expense. The one-month LIBOR rate at March 31, 2002 was 1.88% per annum.
We do not enter into derivative instruments for any purpose other than to manage interest rate exposure. That is, we do not speculate using derivative instruments.
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The fair value of interest rate swap agreements and the amount of hedging losses deferred on interest rate swaps was $2.7 million at March 31, 2002. Changes in the fair value of the interest rate swaps are reported, net of related income taxes, in accumulated other comprehensive income. These amounts are subsequently reclassified into interest expense as a yield adjustment in the same period in which the related interest on the flooring debt affects earnings. Because the critical terms of the interest rate swap and the underlying debt obligation are the same, there was no ineffectiveness recorded in interest expense.
Incremental interest expense incurred as a result of the interest rate swaps was $604,000 in the first quarter of 2002. Interest expense savings on un-hedged debt during the first quarter of 2002 compared to the first quarter of 2001 is $3.8 million as a result of decreased interest rates.
At current interest rates, we estimate that we will incur additional interest expense, net of tax, of approximately $1.1 million related to our interest rate swaps during the remaining three quarters of 2002.
Risk Management PoliciesWe assess interest rate cash flow risk by continually identifying and monitoring changes in interest rate exposures that may adversely impact expected future cash flows and by evaluating hedging opportunities.
We maintain risk management control systems to monitor interest rate cash flow attributable to our outstanding and to our forecasted debt obligations as well as to our offsetting hedge positions. The risk management control systems involve the use of analytical techniques, including cash flow sensitivity analysis, to estimate the expected impact of changes in interest rates on our future cash flows.
As of March 31, 2002, approximately 80.2% of our total debt outstanding was subject to un-hedged variable rates of interest. We intend to continue to gradually hedge our interest rate exposure.
PART II — OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
(a) ExhibitsThere are no exhibits to be filed with this Form 10-Q.
(b) Reports on Form 8-KThe following reports of Form 8-K were filed during the quarter ended March 31, 2002:
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SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
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