AutoNation, Inc. (NYSE:AN) Q1 2023 Earnings Call Transcript April 20, 2023
Operator Good morning. My name is Brika and I will be your conference operator for today. At this time, I would like to welcome everyone to the AutoNation First Quarter 2023 Earnings Conference Call. [Operator Instructions] Thank you. I would now like to turn the call over to Derek Fiebig, Vice President of Investor Relations. So Derek, you may begin your conference.Derek Fiebig Thanks, Brika and good morning everyone. Welcome to AutoNation’s first quarter 2023 conference call. Later on our call today will be Mike Manley, our Chief Executive Officer and Joe Lower, our CFO. Following their remarks, we’ll open up the call for questions.Before beginning, I’d like to remind you that certain statements and information on this call, including any statements regarding our anticipated financial results and objectives, constitute forward-looking statements within the meaning of the Federal Private Securities Litigation Reform Act of 1995.
Such forward-looking statements involve known and unknown risks that may cause our actual results or performance to differ materially from such forward-looking statements. Additional discussions of factors that could cause our actual results to differ materially are contained in our press release issued today and in our filings with the SEC. Certain non-GAAP financial measures as defined under SEC rules will be discussed on this call. Reconciliations are provided in our materials and our website located at investor.autonation.com.With that, I will turn the call over to Mike.Mike Manley Yes. Thanks, Derek and good morning, everybody and thank you for joining us today. We reported first quarter EPS of $6.07 and that really is a result of our resilience of our business in this environment, but coupled with our disciplined capital allocation and as a result of those two things, that $6.07 was a record result for us.
Now, Joe will take you through the numbers in detail, but before that, I wanted to discuss how we have been successfully navigating in the current environment and where we will be taking the business in the future.Obviously, there is a lot of mixed economic signals in the market and within auto retail, which do warrant, I think a more cautionary approach than the past few years. Although I think it’s also evident that the current economic environment is having an impact, some of the concerns of late last year have not yet manifested themselves to the extent some thought they would and a consumer, in our opinion, is in no way tapped out and the industry is benefiting from lower unit sales over the past few years and an aging vehicle part, which has historically supported demand within the industry.Now for new vehicles, industry inventory remains well below historical levels and we have seen some recovery, but there is a wide variation amongst brands and models.
First quarter new sales increased from a year ago, driven by a large increase in fleet vehicles, with retail units up slightly. Even with the recent increase in sales, the industry still remains at or near recessionary levels. AutoNation unit mix for the quarter were in line with the industry after accounting for our brand mix. So if you look at our portfolio and the way the industry shakes out, our new vehicle sales were, as I just said, in line with the industry for that period. Our new vehicle profitability was solid, as you have seen PVRs continue to moderate as expected as the inventory increased, yet remained very robust at more than $5,200.Moving to used vehicles, as we discussed on our last call, availability of used vehicle inventory will be a key theme this year and the lower new unit sales over the past years have led to scarcity of supply of late model new vehicles.
As of the end of last year, the population of vehicles 5 years and less of age was down about 10% from 2019 and vehicles 3 years and less were down more than 15% from 2019. In addition, the turnover of younger used vehicles, which are more of our sweet spot, has also declined as consumers are holding on to their vehicles for longer. But I do have to say that none of this was unexpected.Now to help offset the resulting reduction in used volumes, we focused on enhancing economics through effective staff- sourcing, reconditioning, speed to market, and of course, pricing. Our focus is squarely on internal sourcing, which is a strength of ours, asset turnover and avoiding purchasing vehicles at auction, which either require substantial reconditioning to get them up to the origination standard or come at a premium price, which would have significantly impacted our margin.New vehicle gross profit was a first quarter record and up both year-over-year and on a sequential basis from the fourth quarter.
Last year, in the first quarter, we made the tactical decision to realign, reposition and reduce our used car inventory. And I think that proved to be a proven move as the year went on. It did however set us up for a tough comp per unit volume in Q1. We will remain nimble in our approach to used vehicles and the expansion of our AutoNation USA footprint remains a core tenet of our expansion and densification efforts.Turning to CFS, we continue to lead the industry in customer financial services to increase product on – focus on product penetration. We have structurally changed our CFS PVR and we continue to average two products per vehicle. Product attachment for new vehicles has remained steady or not surprisingly, there has been some reduction in product attachment for used vehicles.
On the finance side, which represents about 30% of our total CFS business, penetration is lower than a year ago, but increased marginally from late last year.Our After-Sales, we have been consistently growing in this high margin business. Gross profit was a record $511 million, up 11% from the first quarter last year. This was fueled by customer pay warranty and collision as we have been able to overcome the decrease in late-model vehicle park and we remain focused on expanding our technician workforce and serving more customers.And finally, for cash flow and capital allocation, for the quarter, we generated significant cash flow with cash from operations of more than $500 million. This strong cash flow generation, combined with the strength of our balance sheet, allows us to continue to invest to change our business for the long-term, make investments in our core operations and return capital to shareholders through share repurchase.During the first quarter, we invested more than $300 million to repurchase a total of 2.4 million shares.
I think when you look at the shape and the performance of our business in this quarter, and in fact, recent prior periods, it’s increasingly evident that the structural changes that we have made to AutoNation during a time when the supply and demand economics have been a tailwind for our operation will have a lasting and meaningful impact on a go-forward basis on how to drive shareholder value and returns regardless of what cyclicality we may face.And just before turning the call over to Joe, I would like to provide some color on where AutoNation is heading in our channels for growth. I think we have been intentional looking at areas we can expand and grow to meet the transportation need of our 11 million customers in their households as we seek a deeper, more frequent relationship for a longer period of time, which builds on AutoNation’s very strong core business, utilizing our brand and our significant footprint.In many ways, this represents a change of mindset within the company.
The approach is centered on the broadening of our customers and the nearly 10 million households we serve. During the first quarter, we brought on nearly 100,000 new households and we are focused on enhancing our relationships with active customers and reactivating lapsed customers. We have taken a number of actions to extend the value creation of our core business by increasing the depth and breadth of our product and service offerings while providing a convenient, trusted and transparent customer experience. These include our digital efforts and the investment in TrueCar, the acquisition of CIG and creation of AN Finance and the acquisition of RepairSmith which extends the reach and brand of our After-Sales business.As we have said, these acquisitions will not have a material impact on our near-term results, but have put in place critical pieces for our future.
We are pleased with the effectiveness of AN Finance and its ability to compete with other financial institutions and meeting our customer needs. We have great relationships with existing lenders and we will continue to work with them. As we have said, it will be a slow expansion for AN Finance as it earns its business with its customers.For RepairSmith, we are in the very early days, having acquired them earlier in the first quarter. It will take time for the business to obtain meaningful scale and scope, but we expect it will thrive in the AutoNation ecosystem. Both of these acquired businesses are additive and are not substitutional for our business and we will take a measured approach as we work for sustainable profitable growth. The expansion of offerings built on some of the step changes we have made to the business, which include our continued expansion into used vehicles through AN USA which is now at 15 stores, our continued growth in After-Sales and our continued growth and focus in CFS to industry-leading PVRs. Over time, we expect our actions will garner a larger share of wallet from consumers, thereby reducing our relative exposure to the more cyclical parts of the business, namely new auto sales.Now I’ll turn the call over to Joe, who is going to take you through the financials in greater detail.
Joe?Joe Lower Thank you, Mike and good morning everybody. I am also going to start with the bottom line and then work back through the pieces of our performance for the quarter. I am also pleased to report that we generated record first quarter EPS of $6.07 per share, an increase of 5% versus the prior year. As Mike said, this was driven by robust margins, strong After-Sales growth, disciplined expense management and our balanced capital deployment strategies overcame lower unit sales of both new and used vehicles.Starting at the top of the P&L, we reported first quarter total revenue of $6.4 billion, a decrease of 5% year-over-year driven by lower units sold more than offsetting continued growth of After-Sales. Our new unit sales decreased by 2% in the quarter, which was in line with the industry when adjusted for brand mix, as Mike mentioned earlier.
New vehicle PVR margins remained above $5,200 but have moderated from prior peaks. Inventory for new vehicles increased to 25 days on average with a wide dispersion by brand and model. The overall new vehicle market remained healthy during the quarter, as approximately 45% of our vehicles were sold at MSRP. This continues to be far higher percentage than pre-pandemic levels.Our total used vehicle gross profit increased by 13% from a year ago to a first quarter record of $154 million as strong margins with PVRs exceeding $2,100 more than offset lower unit sales. As Mike mentioned, in the first quarter of last year, we realigned our inventory, resulting in unit sales of nearly 80,000 units and PVRs in the mid $1,500 range for context. We continue to enhance our used vehicle economics through effective sole-sourcing, which remains around 90% as well as efficient reconditioning and pricing.After-Sales gross profit grew 11% year-over-year as we continue to drive strong performance in this area of our business.
Customer pay, warranty and collision all grew year-over-year in the mid-teens. The recurring revenue stream from our After-Sales continues to grow with 2022 full year annual gross profit up more than $275 million since 2019. CFS performance also remained robust and we continue to lead the sector with PVRs consistently above $2,700.Moving to costs. SG&A as a percentage of gross was 60.8% for the quarter, remaining significantly below pre-pandemic levels, reflecting permanent structural changes to our cost basis. As expected, SG&A as a percentage of gross profit was slightly higher than recent periods, reflecting investments in technology and new business initiatives to better position us for the future, as Mike highlighted earlier in his remarks.First quarter floor plan interest expense of $27 million was impacted by both higher rates and increased inventory levels.
The quarterly expense increased from $20 million in the fourth quarter and $5 million a year ago. This all culminated into net income for the first quarter of $289 million or a record $6.07 per share.Our operating performance and cash flow generation remained very strong with cash from operations totaling more than $0.5 billion for the quarter. This consistent cash flow generation, combined with the strength of our balance sheet, provides us with significant capacity to deploy capital into our business and return capital to our shareholders.During the quarter, we invested approximately $285 million in our business operations, including the acquisition of RepairSmith and $95 million of capital expenditures. We also continue to expand our AutoNation USA footprint, adding locations in Austin and Albuquerque during the quarter bringing the current store count to 15.
As Mike mentioned, the AutoNation USA stores play an integral part of both our long-term growth plans and the achievement of scale, scope and density in our markets to better serve and meet the needs of our customers. Returning capital to shareholders via share repurchase, remain significant. During the quarter, we invested $305 million, reducing our share count by 2.4 million shares or 5% in the quarter. We have approximately $875 million of remaining authority for share repurchase.Finally, we ended the first quarter with total liquidity of approximately $1.6 billion. Our covenant leverage ratio of debt-to-EBITDA of 1.8x remains well below our historical 2x to 3x range. Looking ahead, we will continue to focus on operational excellence and disciplined capital allocation to fuel growth and drive long-term shareholder value.With that, I will turn the call back over to Mike.Mike Manley Yes.
Thanks, Joe. Before taking your questions, I really would like to take the opportunity to thank our more than 24,000 associates who help deliver, I think, a wonderful customer experience every day. In my mind, it’s very clear since I was fortunate enough to join this organization that this is really a company of values. And one of those important values is the Drive Pink initiative. I think it’s absolutely fundamental and really sits firmly at the center of our corporate culture. And Marc Cannon and his team and all of the associates that get involved on their own time, on their own volition, I think, has done an amazing job and have now raised more than $37 million to help drive out cancer. And if you want to know anything about AutoNation, then that’s an important thing to know.
So thank you, Marc. Thank you, all of the colleagues again involved in that, and thanks to everybody for helping us navigate in Q1.And with that, we will open up for questions, Derek. Thank you.Derek Fiebig Yes, Brika, you can open up the line for questions, that would be great.
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Question-and-Answer Session Operator Thank you. [Operator Instructions]
We have the first question on the phone lines from John Murphy of Bank of America. Your line is open.John Murphy Hi, good morning, guys. Just a first quick one on SG&A. I mean, obviously, gross may move around and there are some market dynamics that are outside of your control, but you definitely control SG&A. So just curious if we saw – we try to kind of come with a rule of thumb, if we saw gross drop by 100, what would be sort of the natural flow-through on SG&A without any actions taking, meaning how much of sales comp or variable comp.
And I know it might depend through the segments. And then Mike, also, what kind of actions would you take on top of sort of that natural flow through to reduce SG&A if grosses did come down?Joe Lower Good question, John. I’ll take that one given my focus on SG&A, all our focus on SG&A. So the quick answer is the flow through round numbers is about a 70% flow-through. That’s been kind of a historic rule of thumb. But I would tell you, as we look at the business and the way it has transformed pre-pandemic to now, I think there is some more fundamental things. If you go back as an example, compensation used to be 45%, 46% of gross. That’s coming down at 40%. And I think that is the type of benchmark that we will continue to monitor as we look at how we can be consistently more efficient both in the stores and in the operations.
Advertising has been time historically 6%, and we’ve driven that down to 3% to 4%. And then overhead, historically, it was kind of about 20%, and we’re now operating at kind of 15% to 16%. And I think we are going to continue to aggressively manage the business, aggressively manage the cost while we’re also making investments in the business, which we’ve talked about. So that’s kind of the numbers on give you kind of – Mike will give you kind of a broader perspective.Mike Manley Yes. I think that’s a pretty good job, actually, but just to add on that, I mean one of the things that we’ve talked about in the past, if you look at the ratio between what is fixed structurally in our business and what is actually variable as a result of growth, we’re very high on a variable level.
So to some extent, in the initial part of the downturn, we get natural protection from that. And the balance that we look at, obviously, is productivity within the business. But it would be naive to think that there is not a floor where we need to maintain a level of customer service, a level of responsiveness to our customers and indeed make sure our people have the right level of resources. And at the end of the day, when you reach that, I think you have to very much recognize it’s a cyclical business and recovers pretty quickly after a downturn. So from my point of view, very fortunate to have John and the team look at it on a daily basis, and it’s self moderating down to a point. We understand where that floor may well be but we’re not prepared to sacrifice in the very short-term, our ability not just to recover if markets recover, but also to provide our service with customer at the customer levels of handling they expect to continue to drive our loyalty up.
So hopefully, with Joe’s more thoughtful answer on my battling, you’ve got what you want, John.John Murphy That’s incredibly helpful. And then just on After-Sales, obviously, a real good guy in the quarter, outperforming. I’m just curious if you were limited by tech availability or if you were able to attract a lot more techs to drive that? I mean what’s the status of your capacity utilization in your base and then also your manned capacity? And how should we think about potential upside over there? Is this really just constrained by tech availability?Mike Manley Yes. I think I’ve been very pleased with the work that everyone has been doing in this area. So if you look at the total opportunity, whether it’s accessible or not, John, there is no doubt that you’re constrained by tech availability.
But the reality is most retail dealerships operate at about 40% to 50% penetration in the vehicle parks they are responsible for. And I think most people have staffed up to that with the release of being lead times. We’re very much focused on driving those lead times down in conjunction with our OEM partners. And we’re very much focused on improving our penetration in the vehicle parks that we’re responsible for.So on that basis, I would say, yes, we’re constrained. No more constrained than our competitors, but I think maybe our aspirations may be different, I don’t know. But we are continuing to recruit. We’re also working very hard on retention because, as you know, that’s a very sought after labor force. And there has always been, in my experience, a lot of attrition in that area.
So we’re working hard on not just recruiting more people, but providing a great career path and development for them and work on the retention side. So I think the growth that we have got is a reflection of all of that.John Murphy Mike, I’m sorry, just one follow-up on that. You said something very interesting that you’re only getting to 45% to 50% penetration of really your installed base or what you think you can get at. I mean, do you think you could ultimately get to 100% or does that going to be really difficult and we should be thinking about something lower than that. I mean we’re on the spectrum of that 40% to 50% to 100%. Do you think you may ultimately be able to get to?Mike Manley Yes, this might as well…John Murphy In a perfect world where techs are available.Mike Manley Yes, yes.
It may well fall into opening Pandora’s box, John.John Murphy But you opened it.Mike Manley Well, the answer to – I accept that. Thank you. The answer is you’re never going to get to 100% because when – first, you got to understand what age of vehicle park are you looking at and typically look between a 7 and 10-year vehicle park. Post that, people are looking for different solutions than franchise businesses, as you know. And they also – the other big impact on retention is drive time to the dealership. Once you get beyond the 15 miles, we use miles rather than time – drive time to the dealership, you see a significant penetration, which is one of the reasons why replacement for us is very, very interesting because, of course, they remove that reason for people to find a different solution.
