UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Form 10-Q
Commission file number 1-12297
United Auto Group, Inc.
Registrant’s telephone number, including area code:
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. Yes þ No o
Indicate by check mark whether the registrant is an accelerated filer (as defined Rule 12b-2 of the Exchange Act) Yes þ No o
As of November 2, 2004, there were 46,450,354 shares of voting common stock outstanding.
TABLE OF CONTENTS
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UNITED AUTO GROUP, INC.
See Notes to Consolidated Condensed Financial Statements
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The information presented as of September 30, 2004 and December 31, 2003 and for the three and nine month periods ended September 30, 2004 and 2003 is unaudited, but includes all adjustments (consisting only of normal and recurring adjustments) which the management of United Auto Group, Inc. (the “Company”) believes to be necessary for the fair presentation of results for the periods presented. The results for the interim periods are not necessarily indicative of results to be expected for the year. These consolidated condensed financial statements should be read in conjunction with the Company’s audited financial statements for the year ended December 31, 2003, which were included as part of the Company’s Annual Report on Form 10-K.
The Company’s parts and service departments provide preparation and reconditioning services for its dealerships’ new and used vehicle departments, for which the new and used vehicle departments are charged as if they were third parties. The Company has determined that revenue and cost of sales has not been reduced by the intracompany charge for such work performed by certain of the Company’s dealerships. Commencing with the third quarter of 2004, the Company is reducing revenue and cost of sales for intracompany charges at the identified dealerships and has revised amounts previously reported to eliminate these intracompany charges. Service and parts revenue and cost of sales have been reduced by $18,358 and $56,511 for the three and nine months ended September, 2004, respectively, and by $21,890 and $63,328 for the three and nine months ended September 30, 2003, respectively. The eliminations do not have a material impact on service and parts revenue, gross profit, operating income, income from continuing operations, net income, earnings per share, cash flows, or financial position for any period.
The Company periodically enters into transactions to sell or otherwise dispose of non-core or unprofitable dealerships. Such transactions typically result in treating such dealerships as discontinued operations. Combined financial information of the dealerships accounted for as discontinued operations follows:
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NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS — (Continued)
In March 2003, the Financial Accounting Standards Board’s (“FASB”) Emerging Issues Task Force (“EITF”) finalized Issue No. 02-16, “Accounting by a Customer (Including a Reseller) for Cash Consideration Received from a Vendor” (“EITF 02-16”). EITF 02-16 addresses the accounting treatment for vendor allowances and provides that cash consideration received from a vendor should be presumed to be a reduction of the price of the vendors’ product and should therefore be shown as a reduction in the purchase price of the merchandise. To the extent that the cash consideration represents a reimbursement of a specific incremental and identifiable cost, then those vendor allowances should be used to offset such costs. Historically, the company recorded non-refundable floor plan credits and certain other non-refundable credits when received. As a result of EITF 02-16, these credits are now presumed to be reductions in the cost of purchased inventory and are deferred until the related vehicle is sold. In accordance with EITF 02-16, the Company recorded a cumulative effect of accounting change as of January 1, 2003, the date of adoption, that decreased net income for the nine months ended September 30, 2003 by $3,058, net of tax, or $0.07 per diluted share.
The preparation of financial statements in conformity with accounting principles generally accepted in the United States of America requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. The accounts requiring the use of significant estimates include accounts receivable, inventories, income taxes, intangible assets and certain reserves.
The Company’s principal intangible assets relate to its franchise agreements with vehicle manufacturers, which represent the estimated value of franchises acquired in business combinations consummated subsequent to July 1, 2001, and goodwill, which represents the excess of cost over the fair value of tangible and identified intangible assets acquired in connection with business combinations.
Following is a summary of the changes in the carrying amount of goodwill and franchise value for the nine months ended September 30, 2004:
Key employees, outside directors, consultants and advisors of the Company are eligible to receive stock based compensation pursuant to the terms of the Company’s 2002 Equity Compensation Plan (the “Plan”). The Plan originally allowed for the issuance of 2,100 shares for stock options, stock appreciation rights, restricted stock, restricted stock units, performance shares and other awards. As of September 30, 2004, 1,773 shares of common stock were available for grant under the Plan.
Pursuant to Accounting Principles Board Opinion No. 25, “Accounting for Stock Issued to Employees,” the Company accounts for option grants using the intrinsic value method. All options have been granted with a
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strike price at or above fair market value on the date of grant. As a result, no compensation expense has been recorded in the consolidated condensed financial statements with respect to option grants. The Company has adopted the disclosure only provisions of SFAS 123, “Accounting for Stock Based Compensation,” as amended by SFAS 148, “Accounting for Stock Based Compensation — Transition and Disclosure, an Amendment of FASB Statement No. 123.” Had the Company elected to recognize compensation expense for option grants using the fair value method, pro forma net income and pro forma basic and diluted earnings per share would have been as follows:
During the nine months ended September 30, 2004 and 2003, the Company granted options to acquire 6 and 8 shares of common stock, respectively. The weighted average fair value of the option grants of $5.67 and $6.33, respectively were calculated on the date of grant using the Black-Scholes option pricing model with the following weighted average assumptions: 1.6% dividend yield in 2004, no dividend yield in 2003; expected volatility of 24% and 61%, respectively; risk free interest rate of 3.5% and 4%, respectively and expected lives of five years.
Inventories consisted of the following:
The Company finances the majority of its new and a portion of its used vehicle inventory under revolving floor plan financing arrangements with various lenders. In the U.S., the Company typically makes monthly interest payments on the amount financed, but is not required to make loan principal repayments prior to the sale of new and used vehicles. In the U.K., principal balances outstanding for 90 days must be repaid whether the vehicle has been sold or not. The floor plan agreements grant a security interest in substantially all of the
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assets of the Company’s dealership subsidiaries. Interest rates on the floor plan agreements are variable and increase or decrease based on movements in prime or LIBOR borrowing rates.
During the three and nine month periods ended September 30, 2004 and 2003, the Company completed a number of acquisitions. Each of these acquisitions has been accounted for using the purchase method of accounting. As a result, the Company’s financial statements include the results of operations of the acquired dealerships from the date of acquisition.
During the nine months ended September 30, 2004, the Company acquired 28 automobile dealership franchises. The aggregate consideration paid in connection with such acquisitions amounted to approximately $167,932 in cash and the assumption of approximately $5,790 of debt. The consolidated balance sheets include preliminary allocations of the purchase price relating to such acquisitions, resulting in the recognition of approximately $144,415 of goodwill and franchise value. During the nine months ended September 30, 2003, the Company acquired 19 automobile dealership franchises. The aggregate consideration paid in connection with such acquisitions amounted to approximately $99,496 in cash. The consolidated condensed balance sheets include allocations of the purchase price relating to such acquisitions, resulting in the recognition of approximately $66,500 of goodwill and franchise value.
The following unaudited consolidated pro forma results of operations of the Company for the three and nine month periods ended September 30, 2004 and 2003 give effect to acquisitions and dispositions consummated during 2004 and 2003 as if they had occurred on January 1, 2003.
On March 26, 2004, the Company sold an aggregate of 4,050 shares of common stock to Mitsui & Co., Ltd. and Mitsui & Co. (U.S.A.), Inc. for $119,435, or $29.49 per share. The proceeds of the sale were used for general corporate purposes, which included reducing outstanding indebtedness under the Company’s credit agreements.
Basic earnings per common share is computed using the weighted average number of common shares outstanding. Diluted earnings per common share is computed using the weighted average number of common shares outstanding, adjusted for the dilutive effect of stock options, restricted stock and a stock price guarantee in connection with an acquisition consummated in 2000. For the three and nine month periods ended September 30, 2003, 505 and 853 shares, respectively, issuable upon the exercise of outstanding options were excluded from the calculation of diluted earnings per common share because the effect of such securities was
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antidilutive. A reconciliation of the number of shares used in the calculation of basic and diluted earnings per common share follows:
Long-term debt consisted of the following:
The Company is party to a credit agreement with DaimlerChrysler Services North America LLC and Toyota Motor Credit Corporation, as amended effective October 1, 2004 (the “U.S. Credit Agreement”), which provides for up to $600,000 in revolving loans for working capital, acquisitions, capital expenditures, investments and for other general corporate purposes, and for an additional $50,000 of availability for letters of credit, through September 30, 2007. The revolving loans bear interest between LIBOR plus 2.60% and LIBOR plus 3.75%. The U.S. Credit Agreement is fully and unconditionally guaranteed on a joint and several basis by the Company’s domestic subsidiaries and contains a number of significant covenants that, among other things, restrict the Company’s ability to dispose of assets, incur additional indebtedness, repay other indebtedness, create liens on assets, make investments or acquisitions and engage in mergers or consolidations. The Company is also required to comply with specified tests and ratios as defined in the U.S. Credit Agreement. The U.S. Credit Agreement also contains typical events of default, including change of control, non-payment of obligations and cross-defaults to the Company’s other material indebtedness. Upon the occurrence of an event of default, the Company could be required to immediately repay the amounts outstanding under the U.S. Credit Agreement. Availability under the revolving portion of the U.S. Credit Agreement is subject to a collateral-based borrowing limitation, which is determined based on allowable domestic tangible assets. Substantially all of the Company’s domestic assets not pledged as security under floor plan arrangements are subject to security interests granted to lenders under the U.S. Credit Agreement. As of September 30, 2004, outstanding borrowings and letters of credit under the U.S. Credit Agreement amounted to $324,800 and $34,520, respectively and the Company was in compliance with all financial covenants under the U.S. Credit Agreement.
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The Company’s subsidiaries in the U.K. (the “U.K. Subsidiaries”) are party to a credit agreement with the Royal Bank of Scotland dated February 28, 2003, as amended (the “U.K. Credit Agreement”), which provides for up to £65,000 in revolving and term loans to be used for acquisitions, working capital, and general corporate purposes. Loans under the U.K. Credit Agreement bear interest between LIBOR plus 0.85% and LIBOR plus 1.25%. The U.K. Credit Agreement also provides for an additional seasonally adjusted overdraft line of credit up to a maximum of £15,000. Term loan capacity under the U.K. Credit Agreement was originally £10,000, which is reduced by £2,000 every six months. As of September 30, 2004, term loan capacity under the U.K. Credit Agreement amounted to £6,000. The remaining £55,000 of revolving loans mature on March 31, 2007. The U.K. Credit Agreement is fully and unconditionally guaranteed on a joint and several basis by the U.K. Subsidiaries, and contains a number of significant covenants that, among other things, restrict the ability of the U.K. Subsidiaries to pay dividends, dispose of assets, incur additional indebtedness, repay other indebtedness, create liens on assets, make investments or acquisitions and engage in mergers or consolidations. In addition, the U.K. Subsidiaries are required to comply with specified ratios and tests as defined in the U.K. Credit Agreement. The U.K. Credit Agreement also contains typical events of default, including change of control and non-payment of obligations. Substantially all of the U.K. Subsidiaries’ assets not pledged as security under floor plan arrangements in the U.K. are subject to security interests granted to lenders under the U.K. Credit Agreement. The U.K. Credit Agreement also has cross-default provisions that trigger a default in the event of an uncured default under other material indebtedness of the U.K. Subsidiaries. As of September 30, 2004, outstanding borrowings under the U.K. Credit Agreement amounted to approximately £25,750 ($46,581) and the Company was in compliance with all financial covenants under the U.K. Credit Agreement.
The Company has outstanding $300,000 aggregate principal amount of 9.625% Senior Subordinated Notes due 2012 (the “Notes”). The Notes are unsecured senior subordinated notes and rank behind all existing and future senior debt, including debt under our credit agreements and floor plan indebtedness. The Notes are guaranteed by substantially all domestic subsidiaries on a senior subordinated basis. The Company can redeem all or some of the Notes at its option beginning in 2007 at specified redemption prices. In addition, the Company is allowed to redeem up to 35% of the Notes with the net cash proceeds from specified public equity offerings until March 2005. Upon a change of control, each holder of Notes will be able to require the Company to repurchase all or some of the Notes at a redemption price of 101% of the principal amount of the Notes. The Notes also contain customary negative covenants and events of default. As of September 30, 2004, the Company was in compliance with all negative covenants and there were no events of default.
During January 2000, the Company entered into a swap agreement of five years duration pursuant to which a notional $200,000 of its U.S. floating rate debt was exchanged for fixed rate debt. The fixed rate interest was 7.15%. In October 2002, the terms of this swap were amended, pursuant to which the interest rate was reduced to 5.86% and the term of the agreement was extended for an additional three years. Effective March 2004, the Company terminated a swap agreement pursuant to which a notional $350,000 of its U.S. floating rate debt had been exchanged for fixed rate debt. These swaps were designated as cash flow hedges of future interest payments of the LIBOR based U.S. floor plan borrowings. The fair value of the swap upon termination was not significant.
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From time to time, the Company is involved in litigation relating to claims arising in the normal course of business. Such issues may relate to litigation with customers, employment related lawsuits, class action lawsuits, purported class action lawsuits and actions brought by governmental authorities. The Company is a party to several class action lawsuits. As of September 30, 2004, the Company is not party to any legal proceeding, including the class action lawsuits, that, individually or in the aggregate, are reasonably expected to have a material adverse effect on the Company’s results of operations, financial condition or cash flows. However, the results of these matters cannot be predicted with certainty, and an unfavorable resolution of one or more of these matters could have a material adverse effect on the Company’s results of operations, financial condition or cash flows.
In connection with an acquisition of dealerships completed in October 2000, the Company agreed to make a contingent payment in cash to the extent 841,476 shares of common stock issued as consideration for the acquisition are sold subsequent to the fifth anniversary of the transaction and have a market value of less than $12.00 per share at the time of sale. The Company will be forever released from this guarantee in the event the average daily closing price of its common stock for any 90 day period subsequent to the fifth anniversary of the transaction exceeds $12.00 per share. In the event the Company is required to make a payment relating to this guarantee, such payment would result in the revaluation of the common stock issued in the transaction, resulting in a reduction of additional paid-in-capital. The Company has further granted the seller a put option pursuant to which the Company may be required to repurchase no more than 108,333 shares for $12.00 per share on each of the first five anniversary dates of the transaction. To date, no payments have been made relating to the put option. As of September 30, 2004, the maximum of future cumulative cash payments that the Company may be required to make in connection with the put option amounted to $2,600.
The Company has entered into an agreement with a third-party to jointly acquire and manage dealerships in Indiana, Illinois, Ohio, North Carolina and South Carolina. With respect to any joint venture established pursuant to this agreement, the Company is required to repurchase its partner’s interest at the end of the five-year period following the date of the formation of the joint venture agreement in accordance with the terms of the agreement. Pursuant to this arrangement, the Company has entered into a joint venture agreement with respect to the Honda of Mentor dealership. The Company is required to repurchase its partners’ interest in this joint venture in July 2008. The Company expects this payment to be approximately $2,700.
The following tables include condensed consolidating financial information as of September 30, 2004 and December 31, 2003 and for the three and nine month periods ended September 30, 2004 and 2003 for United Auto Group, Inc. (as the issuer of the Notes), wholly-owned subsidiary guarantors, non-wholly owned subsidiary guarantors, and non-guarantor subsidiaries (primarily representing foreign entities). The condensed consolidating financial information includes certain allocations of balance sheet, income statement and cash flow items, which are not necessarily indicative of the financial position, results of operations and cash flows of these entities on a stand-alone basis.
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Condensed Consolidating Balance Sheet
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Condensed Consolidating Statement of Income
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Condensed Consolidating Statement of Cash Flows
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This Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those discussed in the forward looking statements as a result of various factors. See “Forward Looking Statements.”
Overview
We are the second largest automotive retailer in the United States as measured by total revenues. As of September 30, 2004, we owned and operated 145 franchises in the United States and 101 franchises internationally, primarily in the United Kingdom. We offer a full range of vehicle brands. In addition to selling new and used vehicles, we generate higher-margin revenue at each of our dealerships through maintenance and repair services and the sale of higher margin products, such as third party finance and insurance products, third-party extended service contracts and replacement and aftermarket automotive products.
Third quarter 2004 results include a $4.9 million ($3.1 million after tax), or $0.07 per share, gain resulting from the sale of an investment, an $8.4 million ($5.3 million after tax), or $0.11 per share, gain resulting from a refund of UK consumption taxes, and a $1.4 million, or $0.03 per share, reduction of income tax expense resulting from a revision of our estimated annual effective tax rate. These gains were offset in part by non-cash charges aggregating to $7.8 million ($4.9 million after tax), or $0.11 per share, principally in connection with the planned relocation of certain UK franchises as part of our ongoing facility enhancement program. Nine month 2004 results include an $11.5 million ($7.2 million after tax), or $0.16 per share, gain resulting from the sale of an investment. Prior year results include the effect of $5.0 million after tax, or $0.12 per share, of non-recurring charges.
New vehicle revenues include sales to retail customers and to leasing companies providing consumer automobile leasing. Used vehicle revenues include amounts received for used vehicles sold to retail customers, leasing companies providing consumer automobile leasing and other dealers. We generate finance and insurance revenues from sales of third-party extended service contracts, other third-party insurance policies, and accessories, as well as from fees for placing third-party finance and lease contracts. Service and parts revenues include fees paid for repair and maintenance service, the sale of replacement parts, the sale of aftermarket accessories and collision repairs.
Our gross profit tends to vary with the mix of revenues we derive from the sale of new vehicles, used vehicles, finance and insurance products, and service and parts services. Our gross profit generally varies across product lines, with new vehicle sales usually resulting in lower gross profit margins and our other products resulting in higher gross profit margins. Factors such as seasonality, weather, cyclicality and manufacturers’ advertising and incentives may impact the mix of our revenues, and therefore influence our gross profit margin.
Our selling expenses consist of advertising and compensation for sales personnel, including commissions and related bonuses. General and administrative expenses include compensation for administration, finance, legal and general management personnel, rent, insurance, utilities and other outside services. A significant portion of our selling expenses are variable, and a significant portion of our general and administrative expenses are subject to our control, allowing us to adjust them over time to reflect economic trends.
Floor plan interest expense relates to indebtedness incurred in connection with the acquisition of new and used vehicle inventories. Other interest expense consists of interest charges on all of our interest-bearing debt, other than interest relating to floor plan financing.
We have acquired a number of dealerships each year since our inception. Each of these acquisitions has been accounted for using the purchase method of accounting. As a result, our financial statements include the results of operations of the acquired dealerships from the date of acquisition.
The future success of our business will likely be dependent on, among other things, our ability to consummate and integrate acquisitions, our ability to increase sales of higher margin products, especially
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Critical Accounting Policies and Estimates
The preparation of financial statements in accordance with accounting principles generally accepted in the United States of America requires the application of accounting policies that often involve making estimates and employing judgment. Such judgments influence the reported amounts of the assets, liabilities, revenues and expenses in the Company’s consolidated condensed financial statements. Management, on an ongoing basis, reviews these estimates and assumptions. Management may determine that modifications in assumptions and estimates are required, which may result in a material change in our future results of operations or financial position as reported in the condensed consolidated financial statements.
Following is a summary of the accounting policies applied in the preparation of our consolidated condensed financial statements that management believes are most dependent upon the use of estimates and assumptions.
We record revenue when vehicles are delivered and title has passed to the customer, when vehicle service or repair work is performed and when parts are delivered to our customers. Sales promotions that we offer to customers are accounted for as a reduction of the sales price at the time of sale. Rebates and other incentives offered directly to us by manufacturers are recognized as earned and accordance with the manufacturer program rules.
We arrange financing for customers through various financial institutions and receive a commission from the lender equal to either the difference between the interest rates charged to customers and the interest rates set by the financing institution or a flat fee. We also receive commissions from the sale of various third-party insurance products to customers, including credit, life, and health insurance policies and extended service contracts. These commissions are recorded as revenue at the time the customer enters into the contract. We are not the obligor under any of these contracts. In the case of finance contracts, a customer may prepay or fail to pay their contract, thereby terminating the contract. Customers may also terminate extended service contracts, which are fully paid at purchase, and become eligible for refunds of unused premiums. In these circumstances, a portion of the commissions we receive may be charged back to us based on the relevant terms of the contracts. The revenue we record relating to commissions is net of an estimate of the ultimate amount of chargebacks we will be required to pay. Such estimate of chargeback exposure is based on our historical chargeback experience arising from similar contracts, including the impact of refinance and default rates on retail finance contracts and cancellation rates on extended service contracts and other insurance products.
Our principal intangible assets relate to our franchise agreements with vehicle manufacturers, which represent the estimated value of franchises acquired in business combinations consummated subsequent to July 1, 2001, and goodwill, which represents the excess of cost over the fair value of tangible and identified intangible assets acquired in connection with business combinations. We believe the franchise value of our dealerships have an indefinite life based on the following facts:
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Intangible assets with finite lives are amortized over their estimated useful lives.
Intangible assets are reviewed for impairment on at least an annual basis. Franchise value impairment is assessed through a comparison of an estimate of its fair value with its carrying value. If the carrying value of a franchise exceeds its estimated fair value, an impairment loss is recognized in an amount equal to that excess. We also evaluate the remaining useful life of our franchises in connection with the annual impairment testing to determine whether events and circumstances continue to support an indefinite useful life. Goodwill impairment is assessed at the “reporting unit” level. We have three “regions,” each of which has been determined to be a reporting unit based on the fact that discrete financial information is available for each region and each region’s operating results are regularly reviewed by our executive management team. If the carrying amount of a reporting unit is determined to exceed its estimated fair value, an impairment loss is recognized in an amount equal to that excess.
Investments include marketable securities and investments in businesses accounted for under the equity method. Marketable securities include investments in debt and equity securities. Marketable securities held by us are typically classified as available for sale and are stated at fair value in our balance sheet with unrealized gains and losses included in other comprehensive income, a separate component of stockholders’ equity. Declines in investment values that are deemed to be other than temporary would result in an impairment charge reducing the investments’ carrying value to fair value. A majority of our investments are in joint venture relationships that are more fully described in “Joint Ventures” in this Management’s Discussion and Analysis. Such joint ventures are accounted for under the equity method, pursuant to which we record our proportionate share of joint venture income each period.
We retain risk relating to certain of our general liability insurance, workers’ compensation insurance and employee medical benefits in the United States. As a result, we are likely to be responsible for a majority of the claims and losses incurred under these programs. The amount of risk we retain varies by program, but we typically pay per occurrence deductibles and, for certain exposures, have pre-determined maximum exposure limits for each insurance period. The majority of losses, if any, above the pre-determined exposure limits are typically paid by third-party insurance carriers. Our estimate of future losses is prepared by management using the Company’s historical loss experience and industry based development factors.
Tax regulations may require items to be included in the tax return at different times than the items are reflected in the financial statements. Some of these differences are permanent, such as expenses which are not deductible on our tax return, and some are timing differences, such as the timing of depreciation expense. Timing differences create deferred tax assets and liabilities. Deferred tax assets generally represent items that can be used as a tax deduction or credit in our tax return in future years for which we have already recorded the tax effect in our financial statements. Deferred tax liabilities generally represent expenses recognized in our financial statements for which payment has been deferred or deductions taken on our tax return which have not yet been recognized as expense in our financial statements. We establish valuation allowances for our
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Results of Operations
Three Months Ended September 30, 2004 Compared to Three Months Ended September 30, 2003
Total Retail Data
Retail data includes retail new vehicle, retail used vehicle, finance and insurance and service and parts transactions. Retail unit sales of vehicles increased by 3,346 units, or 4.7%, from 2003 to 2004. The increase is due to a 5,236 unit increase from net dealership acquisitions during the period, offset by a 1,890 unit, or 2.7%, decrease in same store retail unit sales. The same store decrease is due primarily to lower new and used unit sales at our volume foreign and domestic brand dealerships.
Retail sales revenue increased $308.6 million, or 14.3%, from 2003 to 2004. The increase is due to a $78.5 million, or 3.7%, increase in same store revenues coupled with a $230.1 million increase from net dealership acquisitions during the period. The same store revenue increase is due to (1) a $1,402, or 4.8%, increase in average new vehicle revenue per unit, which increased revenue by $65.6 million, (2) a $1,800, or 8.5%, increase in average used vehicle revenue per unit, which increased revenue by $41.1 million, (3) a $23.0 million, or 10.7%, increase in service and parts revenues, all partially offset by the 2.7% decrease in retail unit sales which decreased revenue by $51.1 million and a $2, or 0.3%, decrease in average finance and insurance revenue per unit, which decreased revenue by $0.1 million.
Retail gross profit increased $49.9 million, or 15.1%, from 2003 to 2004. The increase is due to an $11.6 million, or 3.6%, increase in same store retail gross profit coupled with a $38.3 million increase from net dealership acquisitions during the period. The same store retail gross profit increase is due to (1) a $118, or 5.0%, increase in average gross profit per new vehicle retailed, which increased retail gross profit by $5.5 million, (2) an $88, or 4.5%, increase in average gross profit per used vehicle retailed, which increased retail gross profit by $2.0 million, (3) a $9.9 million, or 8.7%, increase in service and parts gross profit, offset by (1) the 2.7% decrease in retail unit sales which decreased retail gross profit by $5.7 million and (2) a 0.3% decrease in average finance and insurance revenue per unit which decreased retail gross profit by $0.1 million.
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New Vehicle Data
Retail unit sales of new vehicles increased 2,613 units, or 5.5%, from 2003 to 2004. The increase is due to a 3,426 unit increase from net dealership acquisitions during the period, offset by an 813 unit, or 1.7%, decrease in same store retail unit sales. The same store decrease is due to a decline at our volume foreign and domestic brand dealerships, offset by growth in our luxury brands.
New vehicle retail sales revenue increased $179.6 million, or 12.9%, from 2003 to 2004. The increase is due to a $40.7 million, or 3.0%, increase in same store revenues coupled with a $138.9 million increase from net dealership acquisitions during the period. The same store revenue increase is due to a $1,402, or 4.8%, increase in comparative average selling prices per unit, which increased revenue by $65.6 million, offset by the 1.7% decrease in retail unit sales, which decreased revenue by $24.9 million.
Retail gross profit from new vehicle sales increased $18.6 million, or 16.4%, from 2003 to 2004. The increase is due to a $3.5 million, or 3.2%, increase in same store gross profit coupled with a $15.1 million increase from net dealership acquisitions during the period. The same store increase is due to a $118, or 5.0%, increase in average gross profit per new vehicle retailed, which increased gross profit by $5.5 million, offset by the 1.7% decrease in new retail unit sales, which decreased gross profit by $2.0 million.
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Used Vehicle Data
Retail unit sales of used vehicles increased 733 units, or 3.2%, from 2003 to 2004. The increase is due to a 1,810 unit increase from net dealership acquisitions during the period, offset by a 1,077 unit, or 4.7%, decrease in same store used retail unit sales. We believe that the same store decrease is due in part to a challenging used vehicle market in all brands in the U.S. during the third quarter of 2004 based in part on the relative affordability of new vehicles due to continued incentive spending by certain manufacturers.
Used vehicle retail sales revenue increased $78.4 million, or 16.1%, from 2003 to 2004. The increase is due to a $16.4 million, or 3.4%, increase in same store revenues coupled with a $62.0 million increase from net dealership acquisitions during the period. The same store revenue increase is due to a $1,800, or 8.5%, increase in comparative average selling prices per vehicle which increased revenue by $41.1 million, offset by the 4.7% decrease in retail unit sales, which decreased revenue by $24.7 million.
Retail gross profit from used vehicle sales increased $3.8 million, or 8.4%, from 2003 to 2004. The increase is due to a $4.0 million increase from net dealership acquisitions during the period, offset by a $0.2 million, or 0.4%, decrease in same store gross profit. The decrease in same store gross profit is due to the 4.7% decrease in used retail unit sales, which decreased gross profit by $2.2 million, offset by an $88, or 4.5%, increase in average gross profit per used vehicle retailed, which increased gross profit by $2.0 million.
Finance and Insurance Data
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Finance and insurance revenue increased $2.3 million, or 4.0%, from 2003 to 2004. The increase is due to a $3.9 million increase from net dealership acquisitions during the period, offset by a $1.6 million, or 2.9%, decrease in same store revenues. The same store revenue decrease is due to the 2.7% decrease in retail unit sales, which decreased revenue by $1.5 million, and a $2, or 0.3%, decrease in comparative average finance and insurance revenue per unit, which decreased revenue by $0.1 million.
Service and Parts Data
Revenues
Service and parts revenue increased $48.4 million, or 22.3%, from 2003 to 2004. The increase is due to a $23.0 million, or 10.7%, increase in same store revenues coupled with a $25.4 million increase from net dealership acquisitions during the period. We believe that our service and parts business is being positively impacted by the growth in total retail unit sales at our dealerships in recent years, enhancements of warranty programs offered by certain manufacturers and capacity increases in our service and parts operations resulting from our facility improvement and expansion programs.
Gross Profit
Service and parts gross profit increased $25.2 million, or 21.9%, from 2003 to 2004. The increase is due to a $9.9 million, or 8.7%, increase in same store gross profit and a $15.3 million increase from net dealership acquisitions during the period.
Selling, General and Administrative
Selling, general and administrative “SG&A” expenses increased $37.7 million, or 14.6%, from $258.9 million to $296.6 million. The aggregate increase is primarily due to an $8.0 million, or 3.1%, increase in same store SG&A coupled with a $29.7 million increase from net dealership acquisitions during the period. The increase in same store SG&A is due in large part to a net increase in variable selling expenses, including increases in variable compensation as a result of the 3.6% increase in retail gross profit over the prior year, coupled with increased rent and other costs, offset by a refund of U.K. consumption taxes.
SG&A expenses decreased as a percentage of total revenue from 11.2% to 11.0% and increased as a percentage of gross profit from 77.9% to 78.1%. Excluding the refund of U.K. consumption taxes discussed above, SG&A expenses increased as a percentage of total revenue from 11.2% to 11.3% and increased as a percentage of gross profit from 77.9% to 80.3%.
Depreciation and Amortization
Depreciation and amortization increased $6.6 million, or 81.2%, from $8.1 million to $14.7 million. The increase is due to a $6.1 million, or 75.9%, increase in same store depreciation and amortization coupled with a $0.5 million increase from net dealership acquisitions during the period. The same store increase is due in large part to our facility improvement and expansion program, including costs related to the planned relocation of certain U.K. franchises.
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Floor Plan Interest Expense
Floor plan interest expense increased $1.2 million, or 10.9%, from $11.1 million to $12.3 million. The increase is due to a $0.3 million, or 3.2%, increase in same store floor plan interest expense coupled with a $0.9 million increase from net dealership acquisitions during the period. The same store increase is primarily due to an increase in our weighted average borrowing rate during 2004 compared to 2003, offset in part by a decrease in average floor plan notes outstanding as a result of a decrease in our vehicle inventories during 2004 compared to 2003.
Other Interest Expense
Other interest expense decreased $0.6 million, or 5.8%, from $11.1 million to $10.5 million. The decrease is due primarily to the reduction of outstanding indebtedness with the proceeds of the March 26, 2004 sale of common stock, offset somewhat by an increase in our weighted average borrowing rate during 2004.
Other Income
Other income of $4.9 million during the three months ended September 30, 2004 related to the sale of an investment.
Income Taxes
Income taxes increased $0.4 million, or 2.3%, from $17.0 million to $17.4 million. The increase is due primarily to an increase in pre-tax income compared with 2003, offset by a reduction in our effective rate resulting from an increase in the relative proportion of our income from our U.K. operations, which are taxed at a lower rate.
Retail data includes retail new vehicle, retail used vehicle, finance and insurance and service and parts transactions. Retail unit sales of vehicles increased by 11,083 units, or 5.7%, from 2003 to 2004. The increase is due to a 13,778 unit increase from net dealership acquisitions during the period, offset by a 2,695 unit, or 1.4%, decrease in same store retail unit sales. The same store decrease is due primarily to lower new and used unit sales at our volume foreign and domestic brand dealerships.
Retail sales revenue increased $929.4 million, or 15.8%, from 2003 to 2004. The increase is due to a $326.1 million, or 5.8%, increase in same store revenues coupled with a $603.3 million increase from net dealership acquisitions during the period. The same store revenue increase is due to (1) a $1,548, or 5.4%,
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Retail gross profit increased $156.7 million, or 17.1%, from 2003 to 2004. The increase is due to a $63.0, or 7.2%, increase in same store retail gross profit coupled with a $93.7 million increase from net dealership acquisitions during the period. The same store retail gross profit increase is due to (1) a $135, or 5.7%, increase in average gross profit per new vehicle retailed, which increased gross profit by $16.9 million, (2) a $191, or 10.0%, increase in average gross profit per used vehicle retailed, which increased gross profit by $12.2 million, (3) an $11, or 1.2%, increase in average finance and insurance revenue per unit, which increased gross profit by $2.0 million and (4) a $39.5 million, or 12.8%, increase in service and parts gross profit, all offset by the 1.4% decrease in same store retail unit sales which decreased gross profit by $7.6 million.
Retail unit sales of new vehicles increased 8,569 units, or 6.7%, from 2003 to 2004. The increase is due to a 766 unit, or 0.6%, increase in same store retail unit sales coupled with a 7,803 unit increase from net dealership acquisitions during the period. We believe that the same store increase is due in part to our favorable brand mix, which includes a concentration of foreign and luxury nameplates, offset by lower new unit sales at our domestic brand dealerships.
New vehicle retail sales revenue increased $539.2 million, or 14.4%, from 2003 to 2004. The increase is due to a $216.1 million, or 6.0%, increase in same store revenues coupled with a $323.2 million increase from net dealership acquisitions during the period. The same store revenue increase is due to the 0.6% increase in retail unit sales, which increased revenue by $23.2 million, coupled with a $1,548, or 5.4%, increase in comparative average selling prices per unit, which increased revenue by $192.9 million.
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Retail gross profit from new vehicle sales increased $51.4 million, or 16.5%, from 2003 to 2004. The increase is due to an $18.8 million, or 6.3%, increase in same store gross profit coupled with a $32.6 million increase from net dealership acquisitions during the period. The same store retail gross profit increase is due to the 0.6% increase in new retail unit sales, which increased gross profit by $1.9 million, coupled with a $135, or 5.7%, increase in average gross profit per new vehicle retailed, which increased gross profit by $16.9 million.
Retail unit sales of used vehicles increased 2,514 units, or 3.8%, from 2003 to 2004. The increase is due to a 5,975 unit increase from net dealership acquisitions during the period, offset by a 3,461 unit, or 5.4%, decrease in same store used retail unit sales. We believe that the same store decrease is due in part to a challenging used vehicle market in the U.S. during 2004 based in part on the relative affordability of new vehicles due to continued incentive spending by certain manufacturers.
Used vehicle retail sales revenue increased $236.5 million, or 17.1%, from 2003 to 2004. The increase is due to a $37.7 million, or 2.9%, increase in same store revenues coupled with a $198.8 million increase from net dealership acquisitions during the period. The same store revenue increase is due to a $1,803, or 8.8%, increase in comparative average selling prices per vehicle, which increased revenue by $115.0 million, offset by the 5.4% decrease in retail unit sales, which decreased revenue by $77.3 million.
Retail gross profit from used vehicle sales increased $15.8 million, or 12.3%, from 2003 to 2004. The increase is due to a $4.9 million, or 4.0%, increase in same store gross profit coupled with a $10.9 million increase from net dealership acquisitions during the period. The same store gross profit increase is due to a $191, or 10.0%, increase in average gross profit per used vehicle retailed, which increased gross profit by $12.2 million, offset by the 5.4% decrease in used retail unit sales, which decreased gross profit by $7.3 million.
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Finance and insurance revenue increased $9.4 million, or 6.0%, from 2003 to 2004. The increase is due to a $9.6 million increase from net dealership acquisitions during the period, offset by a $0.2 million, or 0.1%, decrease in same store revenues. The same store revenue decrease is due to the 1.4% decrease in retail unit sales, which decreased revenue by $2.2 million, offset by an $11, or 1.2%, increase in comparative average finance and insurance revenue per unit, which increased revenue by $2.0 million.
Service and parts revenue increased $144.2 million, or 23.8%, from 2003 to 2004. The increase is due to a $72.7 million, or 12.5%, increase in same store revenues coupled with a $71.5 million increase from net dealership acquisitions during the period. We believe that our service and parts business is being positively impacted by the growth in total retail unit sales at our dealerships in recent years, enhancements of warranty programs offered by certain manufacturers and capacity increases in our service and parts operations resulting from our facility improvement and expansion programs.
Service and parts gross profit increased $80.0 million, or 24.9%, from 2003 to 2004. The increase is due to a $39.5 million, or 12.8%, increase in same store gross profit coupled with a $40.5 million increase from net dealership acquisitions during the period.
Selling, general and administrative “SG&A” expenses increased $126.3 million, or 17.5%, from $722.1 million to $848.4 million. The aggregate increase is primarily due to a $51.9 million, or 7.5%, increase in same store SG&A coupled with a $74.4 million increase from net dealership acquisitions during the period. The increase in same store SG&A expenses is due in large part to; (1) a net increase in variable selling expenses, including increases in variable compensation as a result of the 7.2% increase in retail gross profit over the prior year, (2) increased rent and other costs, and (3) increased advertising and promotion caused by the overall competitiveness of the retail vehicle market, partially offset by a refund of U.K. consumption taxes. 2003 SG&A includes the effect of approximately $8.3 million of non-recurring charges.
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SG&A expenses remained consistent as a percentage of total revenue at 11.4% and increased as a percentage of gross profit from 78.5% to 78.8%. Excluding the refund of U.K. consumption taxes discussed above, SG&A expenses increased as a percentage of total revenue from 11.4% to 11.5% and increased as a percentage of gross profit from 78.5% to 79.6%.
Depreciation and amortization increased $10.0 million, or 44.0%, from $22.6 million to $32.6 million. The increase is due to an $8.6 million, or 38.9%, increase in same store depreciation and amortization coupled with a $1.4 million increase from net dealership acquisitions during the period. The same store increase is due in large part to our facility improvement and expansion program, including costs related to the planned relocation of certain U.K. franchises.
Floor plan interest expense increased $5.6 million, or 17.8%, from $31.2 million to $36.8 million. The increase is due to a $3.4 million, or 11.0%, increase in same store floor plan interest expense and a $2.2 million increase from net dealership acquisitions during the period. The same store increase is primarily due to an increase in our weighted average borrowing rate during 2004 compared to 2003, offset in part by a decrease in average floor plan notes outstanding as a result of a decrease in our vehicle inventories during 2004 compared to 2003.
Other interest expense decreased $0.9 million, or 2.9%, from $32.2 million to $31.3 million. The decrease is due primarily to the reduction of outstanding indebtedness with the proceeds of the March 26, 2004 sale of common stock, offset somewhat by an increase in our weighted average borrowing rate during 2004.
Other income of $11.5 million during the nine months ended September 30, 2004 related to the sale of an investment.
Income taxes increased $7.5 million, or 16.8%, from $44.2 million to $51.7 million. The increase is due primarily to an increase in pre-tax income compared with 2003, offset by a reduction in our effective rate resulting from an increase in the relative proportion of our income from our U.K. operations, which are taxed at a lower rate.
Liquidity and Capital Resources
Our cash requirements are primarily for working capital, the acquisition of new dealerships, the improvement and expansion of existing facilities, the construction of new facilities and dividends. Historically, these cash requirements have been met through cash flow from operations, borrowings under our credit agreements (including floor plan arrangements), the issuance of debt securities, sale-leaseback transactions and the issuance of equity securities. As of September 30, 2004, we had working capital of $124.4 million.
As of September 30, 2004, we had approximately $17.7 million of cash available to fund operations and future acquisitions. In addition, as of September 30, 2004, $365.7 million and £43.3 million ($78.2 million) was available for borrowing under our U.S. Credit Agreement and our U.K. Credit Agreement, respectively. As a result of the amendment to our U.S. Credit Agreement, the availability under such agreement was reduced to $271.0 million as of October 1, 2004. Availability under the U.S. Credit Agreement may be limited by a borrowing base collateral requirement and other conditions discussed below. Borrowings under the U.S. Credit Agreement used to finance the cost of acquisitions and capital construction projects will typically
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We paid a cash dividend on our common stock on September 1, 2004 in the amount of ten cents per share. On October 26, 2004, we declared a cash dividend on our common stock in the amount of eleven cents per share payable on December 1, 2004 to shareholders of record on November 10, 2004. Future quarterly or other cash dividends will depend upon our earnings, capital requirements, financial condition, restrictions on any then existing indebtedness and other factors considered relevant by our Board of Directors.
Our principal source of growth has come from acquisitions of automotive dealerships. We believe that our cash flow provided by operating activities and our existing capital resources, including the liquidity provided by our credit agreements and floor plan financing arrangements, will be sufficient to fund our operations and commitments for the next twelve months. To the extent we pursue additional significant acquisitions, we may need to raise additional capital either through the public or private issuance of equity or debt securities or through additional bank borrowings. We may not have sufficient availability under our credit agreements to finance significant additional acquisitions. In certain circumstances, a public equity offering could require the prior approval of certain automobile manufacturers. There is no assurance that we would be able to access the capital markets or increase our borrowing capabilities on terms acceptable to us, if at all.
We finance the majority of our new and a portion of our used vehicle inventory under revolving floor plan financing arrangements between our subsidiaries and various lenders. In the U.S., we make monthly interest payments on the amount financed, but are generally not required to make loan principal repayments prior to the sale of the new and used vehicles we have financed. In the U.K., we pay interest only for 90 to 180 days, after which we repay the floor plan indebtedness with cash flow from operations or borrowings under the U.K. Credit Agreement. The floor plan agreements grant a security interest in substantially all of the assets of our automotive dealership subsidiaries. Interest rates under the floor plan arrangements are variable and increase or decrease based on movements in the prime rate or LIBOR. Outstanding borrowings under floor plan arrangements amounted to $1,090.5 million as of September 30, 2004, of which $284.7 million related to inventory held by our U.K. subsidiaries.
We are party to a credit agreement with DaimlerChrysler Services North America LLC and Toyota Motor Credit Corporation, as amended effective October 1, 2004 (the “U.S. Credit Agreement”), which provides for up to $600.0 million in revolving loans for working capital, acquisitions, capital expenditures, investments and for other general corporate purposes, and for an additional $50.0 million of availability for letters of credit, through September 30, 2007. The revolving loans bear interest between LIBOR plus 2.60% and LIBOR plus 3.75%. The U.S. Credit Agreement is fully and unconditionally guaranteed on a joint and several basis by our domestic subsidiaries and contains a number of significant covenants that, among other things, restrict our ability to dispose of assets, incur additional indebtedness, repay other indebtedness, create liens on assets, make investments or acquisitions and engage in mergers or consolidations. We are also required to comply with specified tests and ratios as defined in the U.S. Credit Agreement. The U.S. Credit Agreement also contains typical events of default, including change of control, non-payment of obligations and cross-defaults to our other material indebtedness. Upon the occurrence of an event of default, we could be required to immediately repay the amounts outstanding under the Credit Agreement. Availability under the revolving portion of the U.S. Credit Agreement is subject to a collateral-based borrowing limitation, which is determined based on allowable domestic tangible assets. Substantially all of our domestic assets not pledged as security under floor plan arrangements are subject to security interests granted to lenders under the U.S. Credit Agreement. As of September 30, 2004, outstanding borrowings and letters of credit under the U.S. Credit Agreement amounted to $324.8 million and $34.5 million, respectively and we were in compliance with all financial covenants under the U.S. Credit Agreement.
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Our subsidiaries in the U.K. (the “U.K. Subsidiaries”) are party to a credit agreement with the Royal Bank of Scotland dated February 28, 2003, as amended (the “U.K. Credit Agreement”), which provides for up to £65.0 million in revolving and term loans to be used for acquisitions, working capital, and general corporate purposes. Loans under the U.K. Credit Agreement bear interest between LIBOR plus 0.85% and LIBOR plus 1.25%. The U.K. Credit Agreement also provides for an additional seasonally adjusted overdraft line of credit up to a maximum of £15.0 million. Term loan capacity under the U.K. Credit Agreement was originally £10.0 million, which is reduced by £2.0 million every six months. As of September 30, 2004, term loan capacity under the U.K. Credit Agreement amounted to £6.0 million. The remaining £55.0 million of revolving loans mature on March 31, 2007. The U.K. Credit Agreement is fully and unconditionally guaranteed on a joint and several basis by the U.K. Subsidiaries, and contains a number of significant covenants that, among other things, restrict the ability of the U.K. Subsidiaries to pay dividends, dispose of assets, incur additional indebtedness, repay other indebtedness, create liens on assets, make investments or acquisitions and engage in mergers or consolidations. In addition, the U.K. Subsidiaries are required to comply with specified ratios and tests as defined in the U.K. Credit Agreement. The U.K. Credit Agreement also contains typical events of default, including change of control and non-payment of obligations. Substantially all of the U.K. Subsidiaries’ assets not pledged as security under floor plan arrangements in the U.K. are subject to security interests granted to lenders under the U.K. Credit Agreement. The U.K. Credit Agreement also has cross-default provisions that trigger a default in the event of an uncured default under other material indebtedness of the U.K. Subsidiaries. As of September 30, 2004, outstanding borrowings under the U.K. Credit Agreement amounted to approximately £25.8 million ($46.6 million) and we were in compliance with all financial covenants under the U.K. Credit Agreement.
We have outstanding $300.0 million aggregate principal amount of 9.625% Senior Subordinated Notes due 2012 (the “Notes”). The Notes are unsecured senior subordinated notes and rank behind all existing and future senior debt, including debt under our credit agreements and floor plan indebtedness. The Notes are guaranteed by substantially all of our domestic subsidiaries on a senior subordinated basis. We can redeem all or some of the Notes at our option beginning in 2007 at specified redemption prices. In addition, we are allowed to redeem up to 35% of the Notes with the net cash proceeds from specified public equity offerings until March 2005. Upon a change of control, each holder of Notes will be able to require us to repurchase all or some of the Notes at a redemption price of 101% of the principal amount of the Notes. The Notes also contain customary negative covenants and events of default. As of September 30, 2004 we were in compliance with all negative covenants and there were no events of default.
During January 2000, we entered into a swap agreement of five years duration pursuant to which a notional $200.0 million of our U.S. floating rate debt was exchanged for fixed rate debt. The fixed rate interest was 7.15%. In October 2002, the terms of this swap were amended, pursuant to which the interest rate was reduced to 5.86% and the term of the agreement was extended for an additional three years. Effective March 2004, we terminated a swap agreement pursuant to which a notional $350.0 million of our U.S. floating rate debt had been exchanged for fixed rate debt. These swaps were designated as cash flow hedges of future interest payments of our LIBOR based U.S. floor plan borrowings. The fair value of the swap upon termination was not significant.
In the past, we have entered into sale-leaseback transactions to finance certain property acquisitions and capital expenditures, pursuant to which we sell property and leasehold improvements to a third-party and agree to lease those assets back for a certain period of time. We believe we will continue to finance certain of these types of transactions in this fashion in the future. Commitments under such leases are included in the table of contractual payment obligations below.
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On March 26, 2004, we sold an aggregate of 4,050,000 shares of our common stock to Mitsui & Co., Ltd. and Mitsui & Co. (U.S.A.), Inc. for $119.4 million, or $29.49 per share. The proceeds of the sale were used for general corporate purposes, which included reducing outstanding indebtedness under our credit agreements.
Cash Flows
Cash and cash equivalents increased by $4.2 million and $0.5 million during the nine months ended September 30, 2004 and 2003, respectively. The major components of these changes are discussed below.
Cash provided by operating activities was $119.4 million and $82.4 million during the nine months ended September 30, 2004 and 2003, respectively. Cash flows from operating activities include net income adjusted for non-cash items, non-operating items and the effects of changes in working capital.
Cash used in investing activities was $260.4 million and $224.5 million during the nine months ended September 30, 2004 and 2003, respectively. Cash flows from investing activities consist primarily of cash used for capital expenditures, proceeds from sale-leaseback transactions and net expenditures for dealership acquisitions. Capital expenditures were $150.0 million and $137.4 million during the nine months ended September 30, 2004 and 2003, respectively. Capital investments relate primarily to improvements to our existing dealership facilities and the construction of new facilities. Proceeds from sale-leaseback transactions were $43.9 million and $12.4 million during the nine months ended September 30, 2004 and 2003, respectively. Cash used in business acquisitions, net of cash acquired, was $167.9 million and $99.5 million for the nine months ended September 30, 2004 and 2003, respectively. Cash flows from investing activities include $13.6 million of proceeds received from the sale of an investment during the nine months ended September 30, 2004.
Cash provided by financing activities was $137.4 million and $117.7 million for the nine months ended September 30, 2004 and 2003, respectively. Cash flows from financing activities include net borrowings or repayments of long-term debt, proceeds from issuance of common stock, including proceeds from the exercise of stock options, repurchases of common stock and dividends. During the nine months ended September 30, 2004 and 2003, we received proceeds of $128.0 million and $6.2 million, respectively from the issuance of common stock. We had net borrowings of long-term debt of $22.8 million and $111.5 million during the nine months ended September 30, 2004 and 2003, respectively. During the nine months ended September 30, 2004, we paid $13.3 million of cash dividends to our shareholders.
The table below sets forth our best estimates as to the amounts and timing of future payments for our most significant contractual obligations as of December 31, 2003. The information in the table reflects future unconditional payments and is based upon, among other things, the terms of any relevant agreements. Future events, including, acquisitions, divestitures, entering into new operating lease agreements, the amount of borrowings under our credit agreements and floor plan arrangements and purchases or refinancing of our
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We expect that the amounts above will be funded through cash flow from operations. In the case of balloon payments at the end of the term of our debt instruments, we expect to be able to refinance such instruments in the normal course of business.
In connection with an acquisition of dealerships completed in October 2000, we agreed to make a contingent payment in cash to the extent 841,476 shares of common stock issued as consideration for the acquisition are sold subsequent to the fifth anniversary of the transaction and have a market value of less than $12.00 per share at the time of sale. We will be forever released from this guarantee in the event the average daily closing price of our common stock for any 90 day period subsequent to the fifth anniversary of the transaction exceeds $12.00 per share. In the event we are required to make a payment relating to this guarantee, such payment would result in the revaluation of the common stock issued in the transaction, resulting in a reduction of additional paid-in-capital. We have further granted the seller a put option pursuant to which we may be required to repurchase no more than 108,333 shares for $12.00 per share on each of the first five anniversary dates of the transaction. To date, no payments have been made by us relating to the put option. As of September 30, 2004, the maximum of future cumulative cash payments we may be required to make in connection with the put option amounted to $2.6 million.
We have entered into an agreement with a third-party to jointly acquire and manage dealerships in Indiana, Illinois, Ohio, North Carolina and South Carolina. With respect to any joint venture established pursuant to this agreement, we are required to repurchase our partner’s interest at the end of the five-year period following the date of the formation of the joint venture agreement in accordance with the terms of the agreement. Pursuant to this arrangement, we have entered into a joint venture agreement with respect to the Honda of Mentor dealership. We are required to repurchase our partners’ interest in this joint venture in July 2008. We expect this payment to be approximately $2.7 million.
Related Party Transactions
Roger S. Penske, our Chairman of the Board and Chief Executive Officer, is also Chairman of the Board and Chief Executive Officer of Penske Corporation, and through entities affiliated with Penske Corporation, our largest stockholder owning about 41% of our outstanding stock. Mitsui & Co., Ltd. and Mitsui & Co. (USA), Inc. (collectively, “Mitsui”) own approximately 15% of our outstanding common stock. Mitsui,
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James A. Hislop, one of our directors, is the President, Chief Executive Officer and a managing member of Penske Capital Partners, a director of Penske Corporation and a managing director of Transportation Resource Partners, an organization affiliated with Roger S. Penske which undertakes investments in transportation related industries. Mr. Penske also is a managing member of Penske Capital Partners. Richard J. Peters, one of our directors, is a director of Penske Corporation and a managing director of Transportation Resource Partners. Robert H. Kurnick, Jr., our Executive Vice President and General Counsel, is also the President and a director of Penske Corporation and Paul F. Walters, our Executive Vice President — Human Resources serves in a similar human resources capacity for Penske Corporation.
On March 26, 2004, we sold an aggregate of 4,050,000 shares of common stock to Mitsui & Co., Ltd. and Mitsui & Co. (U.S.A.), Inc. for $119,435, or $29.49 per share. The proceeds of the sale were used for general corporate purposes which included reducing outstanding indebtedness under the Company’s credit agreements.
We are currently a tenant under a number of non-cancelable lease agreements with Automotive Group Realty, LLC and Automotive Group Realty II, LLC (together “AGR”), wholly-owned subsidiaries of Penske Corporation. From time to time we may sell AGR real property and improvements which are subsequently leased by AGR to us. The sale of each parcel of property is valued at a price which is either independently confirmed by a third party appraiser or at the price for which we purchased the property from an independent third party.
We sometimes pay and/or receive fees to/from Penske Corporation and its affiliates for services rendered in the normal course of business, or to reimburse payments made to third parties on each others behalf. Payments made relating to services rendered reflect the provider’s cost or an amount mutually agreed upon by both parties, which we believe represent terms at least as favorable as those that could be obtained from an unaffiliated third party negotiated on an arm’s length basis.
We are currently a tenant under a number of non-cancelable lease agreements with Samuel X. DiFeo and members of his family. Mr. DiFeo is our President and Chief Operating Officer. We believe that the terms of these transactions are at least as favorable as those that could be obtained from an unaffiliated third party negotiated on an arm’s length basis.
We have entered in to joint ventures with certain related parties as more fully discussed below.
Joint Ventures
From time to time we enter into joint venture arrangements in the ordinary course of business, pursuant to which we acquire dealerships together with other investors. We may also provide these subsidiaries with
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Cyclicality
Unit sales of motor vehicles, particularly new vehicles, historically have been cyclical, fluctuating with general economic cycles. During economic downturns, the automotive retailing industry tends to experience similar periods of decline and recession as the general economy. We believe that the industry is influenced by general economic conditions and particularly by consumer confidence, the level of personal discretionary spending, fuel prices, interest rates and credit availability.
Seasonality
Our business is modestly seasonal overall. Our U.S. operations generally experience higher volumes of vehicle sales in the second and third quarters of each year due in part to consumer buying trends and the introduction of new vehicle models. Also, demand for cars and light trucks is generally lower during the winter months than in other seasons, particularly in regions of the United States where dealerships may be subject to severe winters. The greatest U.S. seasonalities exist with the dealerships we operate in northeastern and upper mid-western states, for which the second and third quarters are the strongest with respect to vehicle-related sales. Our U.K. operations generally experience higher volumes of vehicle sales in the first and third quarters of each year, due primarily to vehicle registration practices in the U.K. The service and parts business at all dealerships experiences relatively modest seasonal fluctuations.
Effects of Inflation
We believe that inflation rates over the last few years have not had a significant impact on revenues or profitability. We do not expect inflation to have any near-term material effects on the sale of our products and services. However, there can be no assurance that there will be no such effect in the future.
We finance substantially all of our inventory through various revolving floor plan arrangements with interest rates that vary based on the prime rate or LIBOR. Such rates have historically increased during periods of increasing inflation. We do not believe that we would be placed at a competitive disadvantage should interest rates increase due to increased inflation since most other automotive dealerships have similar floating rate borrowing arrangements.
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Forward Looking Statements
This quarterly report on Form 10-Q contains “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. Forward-looking statements generally can be identified by the use of terms such as “may,” “will,” “should,” “expect,” “anticipate,” “believe,” “intend,” “plan,” “estimate,” “predict,” “potential,” “forecast,” “continue” or variations of such terms, or the use of these terms in the negative. Forward-looking statements may include statements regarding our current plans, forecasts, estimates, beliefs or expectations, including, without limitation, statements with respect to:
Forward-looking statements involve known and unknown risks and uncertainties and are not assurances of future performance. Actual results may differ materially from anticipated results due to a variety of factors, including the factors identified in our filings with the SEC. Important factors that could cause actual results to differ materially from our expectations include the following:
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Furthermore,
We urge you to carefully consider these risk factors in evaluating all forward-looking statements regarding our business. Readers of this report are cautioned not to place undue reliance on the forward-looking statements contained in this report. All forward-looking statements attributable to us are qualified in their entirety by this cautionary statement. Except to the extent required by the federal securities laws and Securities and Exchange Commission rules and regulations, we have no intention or obligation to update publicly any forward-looking statements whether as a result of new information, future events or otherwise.
Interest Rates. We are exposed to market risk from changes in the interest rates on a significant portion of our outstanding indebtedness. Outstanding balances under our U.S. and U.K. credit agreements bear interest at a variable rate based on a margin over LIBOR, as defined. Based on the amount outstanding as of
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Interest rate fluctuations affect the fair market value of our fixed rate debt, including the Notes and certain seller financed promissory notes, but, with respect to such fixed rate instruments, do not impact our earnings or cash flows.
Foreign Currency Exchange Rates. As of September 30, 2004, the Company has invested in franchised dealership operations in the U.K., Germany, Brazil and Mexico. In each of these markets, the local currency is the functional currency. Due to the Company’s intent to remain permanently invested in these foreign markets, we do not hedge against foreign currency fluctuations. Other than the U.K., the Company’s foreign operations are not significant. In the event we change our intent with respect to the investment in any of our international operations, the Company would expect to implement strategies designed to manage those risks in an effort to mitigate the effect of foreign currency fluctuations on the Company’s earnings and cash flows.
In common with other automotive retailers, we purchase certain of our new vehicle and parts inventories from foreign manufacturers. Although we purchase the majority of our inventories in the local functional currency, our business is subject to certain risks, including, but not limited to, differing economic conditions, changes in political climate, differing tax structures, other regulations and restrictions and foreign exchange rate volatility which may influence such manufacturers’ ability to provide their products at competitive prices in the local jurisdictions. Our future results could be materially and adversely impacted by changes in these or other factors.
We maintain disclosure controls and procedures designed to ensure that both non-financial and financial information required to be disclosed in our periodic reports is recorded, processed, summarized and reported in a timely fashion. Based on the third quarter evaluation, the principal executive officer and principal financial officer concluded that our disclosure controls and procedures are effective. In addition, we maintain internal controls designed to provide the Company with the information it requires for accounting and financial reporting purposes. There were no changes in our internal controls over financial reporting that occurred during our third quarter of 2004 that materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II
From time to time, we are involved in litigation relating to claims arising in the normal course of business. Such issues may relate to litigation with customers, employment related lawsuits, class action lawsuits, purported class action lawsuits and actions brought by governmental authorities. We are a party to several class action lawsuits. As of September 30, 2004, we are not a party to any legal proceedings, including the class action lawsuits, that, individually or in the aggregate, are reasonably expected to have a material adverse effect on our results of operations, financial condition or cash flows. However, the results of these matters cannot be predicted with certainty, and an unfavorable resolution of one or more of these matters could have a material adverse effect on our results of operations, financial condition or cash flows.
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(a) Exhibits
(b) Reports on Form 8-K.
The Company filed the following Current Reports on Form 8-K during the quarter ended September 30, 2004:
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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.
Date: November 9, 2004
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EXHIBIT INDEX
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