Good morning. My name is Alex and I'll be your conference operator today. At this time, I would like to welcome everyone to the AutoNation First Quarter 2022 Earnings Conference Call. After the speakers’ remarks, there will be a question-and-answer session. Thank you.

Good morning, and welcome to AutoNation's first quarter 2022 conference call and webcast. Please ensure that your lines are muted until the operator announces your turn to ask a question. Leading our call today will be Mike Manley, our Chief Executive Officer; and Joe Lower, our Chief Financial Officer. Following their remarks, we will open up the call for questions. I will be available by phone following the call to address any additional questions that you may have. Before we begin, let me read our brief statement regarding forward-looking comments. 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 earlier today and in our SEC filings.

Yes. Thanks, Ankur. Well, good morning, everybody, and thank you for joining us. Firstly, I am pleased to report that the momentum with which AutoNation ended 2021 continued into the first quarter of this year. From our view, consumer demand for personal vehicle ownership remained strong across both our new and used channels, and our service and parts business is clearly showing the benefits of both increased miles traveled and our focus on increasing our penetration into the after-sales market. Today, AutoNation reports record first quarter performance with earnings per share of $5.78, which is an increase of 103%, and revenue of $6.8 billion, which increased $849 million or 14%, compared to the prior year. From a new sales perspective, our performance reflects the effect of continued tight supply, with volumes down and new margins stable from the end of last year. Year-to-date, compared to the prior year, we have not seen any reduction in demand for new vehicles or any perceivable shift in segments as a result of current economic conditions. Our used car performance reflected good volume growth on a same-store basis and the continued expansion of our AutoNation USA business, which helped maintain our revenue and total gross profit. We sharpened our analytic capabilities, which are increasingly informing our buying, placement, and pricing decisions in the used market. During the quarter, we recognized the need to rebalance some of our used vehicle inventory to help improve turn and margin. In the quarter, we saw a temporary reduction in used margin per unit sold. However, as we enter the second quarter, margin returns have already improved. Success in the used car market is dictated by your ability to manufacture great quality, well-priced desirable used cars, which covers key elements of the business, including efficient reconditioning but starts fundamentally with competitively acquiring used inventory. Strong consumer demand continues to foster a focus on our self-sourcing capabilities for used vehicles. Nearly all of our pre-owned vehicles are retail self-sourced, including our growing We'll Buy Your Car channel, which purchases directly from consumers. In the first quarter, we self-sourced 94% of our pre-owned vehicles. The company entered two new markets this quarter with AutoNation USA Charlotte in North Carolina and AutoNation USA in Charleston in South Carolina, both of which were profitable during the first four months of operation. We remain on plan to open 12 additional stores this year, targeting over 130 of these stores in operation by the end of 2026. These stores will leverage the AutoNation brand and our customer-centric processes to capture a larger share of the used vehicle market. Our after-sales team delivered a tremendous quarter with a 19% increase in after-sales gross profit. We continue to build our compelling customer value proposition through digital tools and physical assets, and we will leverage our existing business as well as the AutoNation USA growth plan. The structural improvements made to our performance should not be discounted as they translate into long-term sustainable value and provide us with more control over our future growth. I want to congratulate all AutoNation employees for their results this quarter, and with that, I will hand over to Joe.

Thank you, Mike, and good morning, everyone. We reported first quarter total revenue of $6.8 billion, an increase of 14% year-over-year. This increase was driven largely by used vehicle revenue, which rose 47% over the same period. Supply chain disruption continues to govern new vehicle availability as we saw a 6% decline in new vehicle revenue, effectively selling every new vehicle received with inventory falling below year-end levels. Demand exceeded supply during the first quarter. We remain focused on optimizing new vehicle margins and sourcing used vehicle inventory to support sales in our AutoNation USA expansion. Total variable gross profit increased 31% year-over-year, driven by an increase in total variable PVR of $1,671 or an increase of 38%. The decline in new units of 19% was partially offset by growth in new units of 11%. Our after-sales business gained momentum with after-sales gross profit increasing 19% year-over-year, leading to a 27% increase in total gross profit, compared to the prior year. Our SG&A leverage improved significantly due to strong cost discipline and robust vehicle margins. First quarter SG&A as a percentage of gross profit was 56.6%, a 610 basis point improvement compared to the year-ago period. The combination of strong gross profit growth, strict cost discipline, and opportunistic share repurchase generated net income for the quarter of $362 million or $5.78 per share, marking an impressive 107% increase compared to the prior year adjusted EPS of $2.79. This reflects our eighth consecutive quarter of all-time high adjusted EPS. At the end of Q1, our cash balance was $608 million, primarily from our recent notes offering. Combined with our additional borrowing capacity, total quarter-end liquidity was $2.4 billion. We continue to deploy capital to grow our business and drive long-term shareholder returns. During the first quarter, we repurchased 3.5 million shares for an aggregate purchase price of $381 million. We've repurchased an additional 1.4 million shares thus far in Q2, totaling approximately $518 million or almost 8% of our shares outstanding at the beginning of this year. We have $376 million available for additional share repurchase under our current authorization. As of April 19th, there were approximately 58 million shares outstanding. Our net leverage ratio was 1.3 times net debt to EBITDA, slightly lower than at the end of the fourth quarter, and well below our historical range of approximately 2 to 3 times leverage. We continue demonstrating strong operational execution and disciplined capital allocation. Going forward, we remain focused on leveraging our balance sheet and strong cash flows to drive long-term shareholder value. Mike, I'll turn the call back over to you.

Yes, thanks, Joe. Just a couple of comments before we get into the Q&A session regarding our structure and our people. You may have seen some announcements as we entered April regarding the realignment of our existing businesses. It's essential to highlight the two new Chief Operating Officer roles we've established with Dave Koehler overseeing our non-franchise businesses, ensuring appropriate focus on significant growth opportunities, some already identified and some still in progress. Steve Kwak will look after our franchise businesses. We aim to strengthen our relationships with manufacturers and focus on our partnerships across our automotive segments of domestic, import, and premium luxury. These changes will bring significant focus on individual brands within the overall AutoNation Group and tease out areas of the business that will offer significant growth with the right level of dedication. With that, we can open up for questions, please.

Our first question comes from Rajat Gupta from J.P. Morgan. Rajat, your line is now open.

Great. Thanks for taking the question. Just had a first question on the used car business. The GPUs have normalized faster than maybe what we saw at your peers. Just curious as to what drove that normalization. Was it prioritizing growth versus margins? Or was there something else to highlight?

Yes. Sure, Rajat. This is Mike. It's completely temporary, as I mentioned in my comments. Towards the end of last year and progressively through Q1, we've been strengthening our data analytics regarding used vehicles, not just in being precise about what vehicles, segments, and geographies are performing, but also how this applies to our inventory levels. I wanted to ensure that we realigned our approach while enjoying a strong quarter. I'm pleased to say that was completed in the quarter. Our return rates have improved and our margins are rebounding as I hoped. It was appropriate action based on our continued focus on data and analytics.

Understood. So do we expect margins to move back higher going forward? I know there are other factors like used car pricing that are out of your control. But where do we expect those used car GPUs to settle relative to pre-pandemic levels?

They've already moved up as a result of the actions we completed in the quarter. When I consider GPUs, even though we have seen some movement from pre-pandemic levels, the actual margin based on sales prices has remained relatively flat. I expect that as we improve efficiencies in the business, in terms of the conversion of a raw purchase of a used vehicle into a pressed-ready sale and the speed of bringing it to market, there are opportunities to improve margins beyond what was seen pre-pandemic. This is a focus for us internally, and it ties into some of the structural changes we're making. The margins we reflected in the quarter were driven by the inventory realignment we executed, and the team has delivered better margins going in the right direction. I still see further upside.

Got it. Great. Thanks for the color. And maybe you mentioned last quarter that you have a captive financial company in mind for future development. Could you update us on that planning process, and how the auto lending environment looks today?

No, my thoughts on the need for a captive financial company have solidified. I view it as an important piece for AutoNation USA stores going forward. We have a business in a growth phase that requires the flexibility of a timed financial company. It will not be responsible for picking up the whole book, but will remain in partnerships with supportive lenders as we grow. You'll hear more on this as the year progresses. Currently, our conversion rate on used remains strong, with no drop-off in conversion. We see a strong performance from our Customer Financial Services. We're not seeing any dramatic shifts in inquiries or conversion rates except in the sub-$22,000 market, where there's a drop-off—not in raw inquiries but in conversion, due to tight inventory. However, we see an increase in inquiries for vehicles above $40,000.

Yes, absolutely. Thanks for all the color and good luck. I'll get back in queue.

Thank you.

Thank you. Our next question comes from Adam Jonas of Morgan Stanley. Adam, your line is now open.

Hey, Mike. Is there a precedent for OEMs to raise MSRPs during the model year?

I have seen OEMs make inflationary price adjustments during model years on multiple occasions. They typically respond to inflationary pressures in the marketplace, although some adjustments may involve incentives and not just pure MSRPs. This is not unprecedented in my experience.

Thanks, Mike. Another question on Ford and Jim Farley, I believe you have 42 Ford stores. Ford mentioned certain dealers charging significant mark-ups on the Lightning won't receive future allocations. Is this legal or can Ford actually unallocate someone that charges over MSRP under the current franchise agreement?

I believe Jim's sentiment will be echoed by most OEM CEOs. OEMs need to adhere to franchise agreements while ensuring their dealers are treated similarly regardless of size. There are mechanisms OEMs employ to ensure perceived value of vehicles is passed to customers. Jim's reacting to high demand for the Lightning, trying to ensure the vehicle hits the market at a price point supportive of the brand. There are various ways OEMs can influence this, many of which align with franchise regulations.

Okay, Mike. If I can squeeze in another question, the agency model seems favorable for AutoNation, allowing you to focus where you excel on service and efficiency. Would that be a good approach if we transitioned to a fixed commission or percentage system?

Whatever terms used, the sales process needs less friction and more price transparency moving forward, especially with the shift to new powertrains. There's an opportunity to remove cost from the distribution channel and encourage preorders from customers for added efficiency. Higher prices on electric powertrains should be passed on to customers seamlessly. AutoNation will play a role in this, ensuring reasonable margins and continuing to compete as a customer-focused business. I agree with your view on the potential benefits; it simply emphasizes good business practice.

Appreciate it, Mike. Thanks.

Thank you. Our next question comes from John Murphy of Bank of America. John, your line is now open.

Hi, good morning, Mike. Are you seeing OEMs increase invoice pricing in response to dealer grosses?

When OEMs make interim model year changes due to inflationary pressures, it typically results in an increase for us or they do not receive any benefit. Currently, we’re selling vehicles at MSRP, obtaining good margins. This aligns with our business model and was difficult to achieve in the past due to necessary heavy discounting. Stability in new car pricing has improved, and year-over-year comparisons are significant, but we expect stabilization as we move into the second half of the year.

Understood, Mike. Just to be clear, is the gap between MSRP and invoice pricing changing? Are OEMs narrowing that gap?

I appreciate your question, John. Many OEMs have been able to attain margin improvements lately. While I can't get into specifics, I can confirm our new car pricing and the related dynamics remain stable.

The buybacks seemed to improve your EPS by 5.4% in the quarter. Buying back stock sounds more favorable than acquisitions while keeping your stock price down, correct?

Over the last 24 months, the way companies are evaluated is transforming. While your math is mostly correct, some acquisitions will yield a higher multiple than our historical business. AutoNation's strategy aims to maximize shareholder benefits, focusing on stock buybacks responsibly while also considering attractive acquisition opportunities as the year unfolds.

On AutoNation USA stores, why is 130 the target number? Could it be higher?

The 130 target accounts for the most attractive markets and a reasonable capital allocation plan. As we continue to refine our operations, this number may grow and become more aggressive due to efficiencies. Future stores will also have varied roles that can broaden beyond just used car sales.

Thank you. Our next question comes from Bret Jordan of Jefferies. Bret, your line is now open.

Good morning. Thanks for taking our questions. Can you provide color on the cadence of supply? Are things improving, or are we bouncing along the bottom?

I think we're really bouncing along the bottom. While we aim to improve our turn rate, our focus remains on selling aggressively and ensuring we turn inventory quickly when it arrives. We're not expecting significant changes until the third or fourth quarter.

Did floor plan subsidies exceed expenses for the quarter?

Yes, they did slightly.

In the service category, a 15.5% comp was solid. Was that driven by inflationary pricing or increased traffic?

We're seeing two dynamics: improvement in customer traffic and internal work, offset by a decrease in warranty due to fewer new vehicles. The consumer volume has increased along with a slight increase in average ticket, driven by higher usage.

Thank you. Our next question comes from Stephanie Moore of Truist. Stephanie, your line is now open.

What changes are you observing in the consumer profile of new vehicle buyers in terms of credit quality or median average income? How is your new vehicle business positioned in a potential recessionary or rising interest rate environment?

We're not seeing any change in the profile of customers buying new vehicles. In fact, traffic into our stores has increased year-over-year. Even if economic conditions affect demand, the current SAAR suggests levels typically associated with recession are being maintained. So while there could be a reduction, I expect we will stay at these levels.

Given the rise in new vehicle MSRPs, do you see affordability issues with average consumers? Are they trading up, or is there a shift to the used market?

The gap between used and new vehicle wholesale prices has narrowed. This theoretical cost to change must be considered as customers trade in vehicles. However, first-time buyers face a different cost landscape, and high turn rates complicate predictions about affordability shifts.

Thank you. Our next question comes from Colin Langan from Wells Fargo. Colin, your line is now open.

Could you clarify plans regarding the financial company? Are you leaning towards acquiring one or starting one organically?

An acquisition is my preferred route if the right target emerges in the marketplace.

SG&A was quite low in the quarter. Are there actions we should note that drive structural changes in your cost structure potentially out of the crisis?

Our initiatives focus on leveraging digital capabilities within our sales and operations. We're down 13% on headcount on a same-store basis since 2020. Digital tools enhance efficiency in advertising, and we expect continued improvement in SG&A as a percentage of gross profit from these structural changes.

Great. Thanks for taking my question.

Thank you. Our next question comes from David Whiston of Morningstar. David, your line is now open.

How do you market new USA stores to consumers? Is it through internet, radio, or TV?

We utilize a combination of channels. Our team optimizes plans based on demographic data to effectively communicate our messages and marketing goals tailored to each market.

If a potential recession occurs, is your SG&A structure already lean, or could you enact further cuts beyond reducing advertising?

We're continually evaluating our cost structure to optimize store operations. We focus on efficiencies and view this as an ongoing journey. We're not merely looking at cuts, but rather optimizing our organization for future benefits.

Again, thank you for being on the call today. The momentum we had finishing last year has continued into Q1. A number of structural changes have been made, and our focus on costs will also continue going forward. I look forward to our Q2 results and seeing you in a few months. Thanks for your time this morning.

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