Lithia Motors Inc Q3 FY2022 Earnings Call

Good morning, and welcome to the Lithia & Driveway Third Quarter 2022 Conference Call. I would now like to turn the call over to your host, Amit Marwaha, Director of Investor Relations.

Thank you. With me today are Bryan DeBoer, President and CEO; Chris Holzshu, Executive Vice President and COO; Tina Miller, Senior Vice President and CFO; Chuck Lietz, Vice President of Driveway Finance. Today's discussion may include statements about future events, financial projections and expectations about the company's products, markets and growth. Such statements are forward-looking and subject to risks and uncertainties that could cause actual results to materially differ from the statements made. We disclose these risks and uncertainties we deem to be material in our filings with the Securities and Exchange Commission. We urge you to carefully consider these disclosures and not place undue reliance on forward-looking statements. We undertake no duty to update any forward-looking statements, which are made as of the date of this release. Our results discussed today include references to non-GAAP financial measures. Please refer to the text of today's press release for a reconciliation to comparable GAAP measures. We have also posted an updated investor presentation to our website highlighting our third quarter results. With that, I would like to turn the call over to Bryan DeBoer, President and CEO.

Thanks, Amit. Good morning, everyone. We appreciate you joining us today. We look forward to updating you on our business growth and progress towards achieving our 2025 plan and beyond. Earlier today we reported third quarter results growing revenues by 18% to $7.3 billion from $6.2 billion in the third quarter of 2021. Same-store sales numbers were solid, with total revenue increasing 4%, new vehicles were up 1%, used were up 3.5%, while service body and parts were up 10%. This was driven by a continued focus on operational excellence at our Lithia stores, expansion of our e-commerce platform Driveway, measured growth at DFC and integration of stores acquired over the past year. We reported adjusted third quarter earnings per share of $11.08, adjusted for foreign currency EPS was $11.62 compared to $10.21 per diluted share in the same period of 2021. Foreign currency was a negative headwind reducing EPS by $0.54. Cyclical inflationary pressures tempering vehicle gross profit and SG&A along with investments at Driveway and DFC impacted results. We're building an agile platform that combines our experienced knowledgeable workforce with our own inventory and efficiency of a distributed physical network. Our footprint has doubled over the past couple of years with diversification across products, brands, geographies and channels. This is a competitive advantage that allows us to be a flexible retailer, quickly responding to consumer preferences and market conditions. Digital customer traffic across our platform was up 35% as we continue to make investments in our digital platforms. Both Driveway and GreenCars provide industry-leading customer experiences and educate drivers on various transportation options, helping them find the right fit for their needs. Gross profit per unit were mixed in the quarter. New vehicle GPUs including F&I were $8,080 per unit, compared to $8,244 last year and $7,410 a year ago. Used vehicle GPUs including F&I were $4,496, down $452 from the $4,948 in the second quarter and $5,097 a year ago. F&I per unit rose to nearly $2,200. Average price of new and used vehicles rose 10% on average from the third quarter of a year ago. Shifting to day supply. At the end of September, we reported new and used vehicles at 39 and 65 days, up from 24 and 48 days from the third quarter of '21. Driveway closed out Q3 averaging over 2 million unique monthly visitors. In the third quarter, Driveway retailed and wholesaled over 10,300 units contributing over $290 million or almost 4% of our total revenue. Year-to-date, Driveway revenues have totaled more than $650 million. This accounts for both shop transactions and subsequent retail and wholesale transactions. Year-to-date, we retailed over 30,700 vehicles across Lithia and Driveway e-commerce tools. Congratulations to the Driveway and Lithia teams on the progress we've made across our omni-channel strategies. Shifting to our captive finance arm. Driveway finance or DFC, during the third quarter we originated over 17,100 loans totaling $552 million. At the end of September, the total DFC loan portfolio was over $1.6 billion in outstanding receivables. Penetration rate was 11.4% at the end of September. Chuck will be providing some additional color around DFC's growth performance in a moment. Moving on to M&A, we had another busy quarter. Our valuation discipline is paying off and our returns on invested capital continue to perform well. Year-to-date, we have acquired $3.1 billion in revenues and a total of $13.3 billion in annualized revenue since initiating our 2025 plan in the middle of 2020. I think it's important we highlight our consistent track record of acquiring stores, adding incremental value, which is translated into consistent returns throughout the business cycle. We're well equipped and the market remains robust to continue this trend. As the leader in the auto retailer space, our optionality effectively leverages our existing network and infrastructure. During the quarter, we acquired a portfolio in Wisconsin from the Wilde Group. The stores are projected to generate $625 million in annualized revenues. In October, Lithia also acquired 6 locations in the Pacific Northwest with Airstream Adventures, the leading seller of airstreams in the United States. The outlook for M&A opportunities remains constructive. Stakes have been raised for retailers with shifts towards direct-to-consumer and omni-channel commerce, combined with liquidity constraints of sellers. We are well positioned to capitalize on the many opportunities presented to us. Stepping back for a moment, I want to provide an update on our 2025 plan. Despite some of the rebalancing taking place in the auto industry and cross currents in the macro economy, we're confident our strategy is durable, and we have the necessary levers to achieve our $50 billion revenue target, translating into $55 to $60 in EPS. Our portfolio mix and focus on profitability will set us up, so $1 billion in revenue will generate $1.20 in EPS, up from our historical level of $1 in EPS. Achievement of our 2025 plan will be driven by a few factors. Let me take a moment to outline our strategy to hit these targets. First, we plan to accelerate the drive towards operational efficiency and leverage across our platform. Margins will improve as we integrate retail stores with our online platform, reducing the friction and costs of purchasing vehicles. Heading into 2023, we're taking proactive measures to right size our cost structure at the stores and e-commerce divisions while growing our credit portfolio. We are prioritizing our profitability goals rather than volume to breakeven in our e-commerce and captive finance divisions. Combined, this will help drive SG&A as a percentage of gross profits towards 60%, enhance our liquidity and continue strong cash generation. As a reminder, it was only a little more than 2 years ago when we produced $12 billion in annual revenue, resulting in $12 in EPS. Second, we're targeting DFC to grow meaningfully out into 2025. As we increase penetration towards 15% to 20%, we plan to manage our liquidity options and risk. We've been gradually narrowing the credit risk in our portfolio and being tactful with pricing loans given the large swings in interest rates. As DFC becomes a seasoned issuer of asset-backed securities, we expect spreads and CECL reserves to normalize, resulting in better economics and visibility in interest margins. Third, we will continue to be the consolidator of choice within our sector. Our 2025 plan seeks to reach 95% of our customers within 100 miles, and we believe this results in a targeted footprint of approximately 500 locations. This will drive our market share towards 2.5% and solidify our presence as the national auto retailer. Additionally, our physical stores will continue integrating our e-commerce platforms, Driveway and GreenCars, ultimately leveraging our vast physical network creating incremental revenue growth. Fourth, our financial discipline and structure is conservative. And our capital allocation strategy is focused on the best risk reward for our shareholders. We have lowered the leverage on our balance sheet and do not require equity to fund our growth targets. We continue to weigh investments that limit friction and have material upside over time adding to our earnings. We're maintaining our discipline pre-COVID M&A hurdles and continue to balance this with buybacks to be responsive to any economic environment ahead. We appreciate the support and feedback we get from our shareholders and maintain our approach. We will continue to balance our growth objectives with financial discipline with the goal of maintaining a low cost of capital. The Lithia and Driveway strategy is creating a diversified vehicle transportation network that provides an amazing experience for our customers while utilizing the full breadth of our network. We have the right team in place to take advantage of dislocations in the market and will continue to lead the transformation in our sector. With that, I'd like to turn the call over to Chuck.

Thank you, Bryan. We posted another strong quarter at DFC as we continue to be the number one lender for Lithia and Driveway. Our portfolio continues to grow at a healthy pace despite the shift in lending markets. In the third quarter, DFC realized a net interest margin of $17.3 million, which resulted in a pre-tax loss of $4.2 million. At quarter end, the portfolio had a weighted average contract yield of 7.8%, which continues to trend upward. Recent changes in the macro capital market rate environment have driven our year-to-date average cost of funds to 3.3%, up approximately 150 basis points from last year. DFC's penetration rates for the quarter increased to 11.2%, up from 9.7% in the prior quarter, which translates to $552 million in contracts originated. In the second quarter, we raised our 2022 full-year penetration rate target to 10%, and we remain on track to achieve that rate, which will result in portfolio assets of approximately $2 billion by the end of 2022. Over the past year, we have continued to execute our strategy of mitigating credit risk volatility, primarily by increasing the FICO scores of our originations, which in the third quarter resulted in a weighted average FICO of 721. Additionally, we have continued to reduce our loan to values on originations, which for the quarter were at 99%, down from 105% during the same period in 2021. Today, nearly half the loan portfolio is composed of FICO scores greater than 720. DFC is reacting to increases in our cost of funds and continues to monitor and raise yields to mitigate spread compression. Current and future rate increases could temper originations growth as we strive to maintain spread rates in a rising interest rate environment. As expected, loan provisions remain a headwind and continue to have a disproportionate impact on DFC earnings in the near-term, totaling approximately $25 million year-to-date. In the third quarter, provisions as a percentage of managed receivables remained stable, averaging 2.7%. Delinquency rates across the industry and for DFC increased in the quarter overall, but DFC did see a decline in September month-over-month rates. DFC continues to track below our internal benchmark rates during the quarter. We continue to expand DFC's capital structure to ensure forward-looking liquidity to support our continued growth. We have increased the size of our short-term conduit facilities and will look to increase the cadence and size of our ABS term issuances in 2023. In addition, DFC is nearing a point where bifurcating its ABS term issuances into separate prime and non-prime offerings may be feasible, which could result in a capital structure that better aligns with our forward-looking portfolio design, increasing both the balance sheet strength and earnings growth. Going into 2023, DFC will focus our efforts away from accelerating originations growth to achieving a profitable return on the portfolio and improving free cash flow. As Bryan indicated earlier, we are reaffirming our guidance that DFC can add $650 million in earnings to Lithia and Driveway, predicated on DFC's portfolio fully seasoning after maintaining a 20% penetration rate on Lithia revenues at our 2025 plan levels of $50 billion. In closing, DFC continues to monitor market rates and manage our credit risk while growing and diversifying our capital structure. We're using a disciplined data-driven approach to mitigate spread compression without moving down the credit risk curve consistent with our credit risk appetite, which should result in DFC achieving its financial return goals.

Thank you, Chuck. In the third quarter, we reported adjusted EBITDA of $510 million, down approximately 4% from the same period last year. This was primarily a result of our investments in Driveway and DFC and inflationary pressures flowing through our vehicle gross profits and SG&A line. During Q3, Driveway advertising and personnel expense was $32 million, up $22 million from last year. As a percentage of gross profit, SG&A was up 380 basis points to 59.6%. Year-to-date, we've generated nearly $930 million in free cash flows, up 25% year-over-year. Shifting to capital allocation. Thus far in 2022, Lithia has repurchased 2.25 million shares at a weighted average price of $282 per share. During the quarter, we purchased an additional 115,315 shares at an average cost of $243 per share. We currently have $77 million remaining for share repurchases, having repurchased 7.6% of our outstanding shares this year. I want to take a moment to clarify the direction of our capital allocation program. Overall, we remain comfortable with current strategy and allocations across M&A, internal investments and balancing toward shareholder return. Given the shifting macro environment, we have adjusted some of our focus towards improving our operational efficiency to offset some of the near-term headwinds facing our sector, namely higher interest rates and normalizing vehicle gross profit levels. We are proactively working to refine our cost structure in response to these trends with curbing discretionary spending and realigning compensation plans. Given the likely GPU and volume decline in the months ahead, we think it's prudent to strengthen our liquidity and maintain the quality of our balance sheet. We expect opportunities for M&A to remain strong. We regularly assess the risk-adjusted returns over time and compare this against opportunities across our portfolio. The long-term goal is to expand our market share to 2.5%. Based on downside model scenarios, we are confident our business will generate free cash flows that support the achievement of our 2025 plan. Our omni-channel presence is a foundation to our international strategy coupled with our captive finance arm. Combined, we think these levers give us plenty of optionality to reach $50 billion in revenue by mid-decade. As we work through the normalization in our market, we will apply a conservative approach toward managing our buyback program. The dynamics of higher interest rates and rising market risk premium could potentially weigh on the returns we are used to generating on equity. We have the experience and ability to expand our earnings and free cash flows over time. In Q3, we continued with a conservative level of leverage. Leverage and current ratios rose marginally to 1.8x and 1.5x, respectively. This was a result of normalization trends in GPUs. In conclusion, we're confident we have the right instruments and liquidity to work through the macroeconomic environment and shifting consumer dynamics underway. Balancing growth and returning capital to shareholders are key pillars towards achieving our 2025 plan of $50 to $60 in earnings per share. This concludes our prepared remarks. With that, I'll turn the call over to the audience for questions.

Our first question comes from Daniel Imbro with Stephens. Please proceed with your question.

Hi, guys. This is Joe Enderlin on for Daniel. So you noted Driveway finance penetration was 11.4% at the end of September, while the end of June penetration was 12.9%. Just wondering if these last 3 months change how you're thinking about desired penetration next year, or at least the cadence as delinquencies are increasing?

Thank you, Joe, for your question. Our current viewpoint on penetration is, in light of the current economic environment, we want to stay in that 10% to 15% range and feel comfortable with that as we continue to derisk the portfolio. However, looking forward to next year, we still believe that 15% to 20% range is still our target that we could achieve in 2023.

Got it. Thank you. That is super helpful. As a follow-up, just wondering, sourcing vehicles has gotten more challenging as wholesale prices are depreciating. I was wondering if you're still sourcing the same amount from consumers or if your activity in the auction lanes has picked up at all?

Hi, Joe. This is Bryan. We were up a little bit in the auction lanes. I think we moved from 13% to about 16% of our inventory mix being procured from auctions. Our main source of inventory procurement, as we all know, is from our consumers. And that dropped from, I believe, 75% at a peak to around 74% of our total inventory procurement.

Great. That is all for us. Thank you guys.

Thanks, Joe.

Our next question comes from John Murphy with Bank of America. Please proceed with your question.

Good morning, guys. There have been sort of anecdotal stories of demand weakness in new and used, but because supply is so tight, it's really kind of tough to gauge how true those are. What's exactly going on Bryan? As you look at your stores, both on the new and used side, from ops or showroom traffic and what you're seeing on in Driveway traffic, I mean, what is your take on the general state of the consumer and demand for new and used vehicles at the moment?

Good question, John. I think most importantly, the demand looks strong. We are up 35% in our digital traffic year-over-year, which is a significant number. Unfortunately, the inventory doesn't match that and we're really sitting at a point on new vehicles where we don't have the larger backlogs that we used to have. It's really more of a just-in-time inventory today. But we are starting to see some manufacturers, mainly the domestics, are starting to have better inventories where our domestics were up almost 10% in unit sales for the quarter year-over-year, which is a pretty good number. The Koreans that we mentioned had a good supply as well. We are up a couple of percentage points. So, all in all, in new vehicles, we're starting to see the inventory starting to loosen a little bit. We also, as I noted, our GPUs were down about $164 on used, which is the first in a few quarters. So we should see that start to subside as well. On used vehicles, I think it's important to note we're basically back to pre-COVID level, front-end margins or vehicle margins, okay? But the real win on both items is that F&I is still remaining strong. We're not seeing weakness. In fact, in the quarter, we were up almost $100 per unit, which is a nice number that helps offset some of the declines in GPUs. And obviously, the big thing is, as that inventory begins to loosen up, we think we're starting to see some correlation between those drops in GPUs with inventory loosening, and hopefully, volume increases as well.

Okay, that's helpful. And then just a second question, Bryan. As you think about stress testing your model going forward. I’m not using a specific year, but I mean just thinking about sort of the downside risks in the model, there's not a lot of room on new vehicle unit volume as you just kind of alluded, the inventories are tight and we're already at recession-level vibes. But how do you think about stress testing your model, and if you would venture a guess on what sort of downside EPS could be, or if there is that much downside?

Sure, John. I think we, at Lithia and Driveway, tend to play the long game and take a longer view at things. We are seeing that over the next few quarters, there's a normalization of GPUs, and it's just a short-term part of the game. We do know that our original design was built on the fact that we are a lower margin business with slightly higher SG&A costs and a lot of businesses. Our 2025 plan is there to redesign things. As we go into a more volatile environment, we have more factors to consider, but ultimately, the outcome of what we've designed with Driveway financial, with Driveway.com aligns with our goal of achieving $55 to $60 in EPS by 2025.

Okay, great. And then just lastly, I mean, you're generating a lot of capital reallocating to growing the network. Historically, OEMs have been sort of roadblocks, but now it seems like they're receptive to you building out this network and even almost encouraging you to in some ways. I'm just curious if you can characterize sort of that relationship with the automakers and how receptive or encouraging they are to you to build out this network and how that's changed over time?

Sure, John. I think it's important to remember that we really haven't taken our foot off the accelerator in terms of growth. It's primarily because our relationships with our manufacturers form the key foundation of how we build things, grow market share, and earn customer loyalty for the long-term. This creates an environment where the manufacturers are supportive. Most retailers have times where they are approved and not, but most of the time we're approvable with nearly every manufacturer. As we noted in the prepared remarks, we have done $3.1 billion thus far this year. That's coming off the back of a $6.7 billion year in M&A. We have further initiatives based on our design theory, focusing on driving our digital strategies to the forefront along with our financial divisions.

Okay, great. Thank you very much.

Thanks, John.

Our next question comes from Ryan Sigdahl with Craig-Hallum Capital. Please proceed with your question.

Good morning. Thanks for taking our questions.

Hi, Ryan.

I want to start on used inventory. So current composition of kind of the core value versus CPO that you have and where you're seeing the biggest pricing or margin risk kind of as you look out currently and then over the next several months.

Yes. I don't think we've seen any major changes right now. I would say that one of the big benefits that we have, having this omni-channel environment, especially with Driveway is about 10% of the used vehicles that we have in stock right now came from a channel that we didn't have previously. We continue to work the multiple channels that we have, whether obviously, trade-ins are huge being top of funnel as a new car dealer and having the opportunity to be first in line for any trades in a more difficult environment. After using traditional secondary sources, the third source now Driveway is about 10% of our inventory stock.

Yes, more or less, I guess, what are you seeing on the structural advantages kind of you guys have been procuring? I'm curious in the inventory you have where you skew more to value and core versus others that skew more to CPO and kind of those newer light model or mileage vehicles. Where are you seeing more of the pricing pressure and more of the margin pressure given the current dynamics with the consumer today?

Yes, not a major shift in overall what value auto is. It's about 10% to 20% of our used inventory today. Generally speaking, just because of ASPs and where pricing has been, all of those sets are up at a higher ASP and inventory carrying costs than they've been historically. But us carrying a 60-day supply of inventory means that we've already turned through 25% of what we were carrying at quarter end. The dynamics in the sources haven't changed, and the dynamics in what we have in carrying costs and inventory pricing is expected to continue to fall as the market adjusts.

Thanks, Chris, for giving me a little breather. One other thing just to add to what Chris said, on a positive note, our value inventory, which is probably the least exposure to market swings because they're lower priced and they're typically the highest scarcity, okay, is up about 16% in day supply or in our total mix of inventory which is a real positive sign. On the opposite side, you have your CPO, which is probably the most volatile as new car inventories return to some level of normality. Manufacturers may begin incentivizing oversupply in the coming quarters.

Thanks. Yes, that was what I was getting at. One more for me. Just as you think about capital allocation, M&A opportunity, how do you think about dealership expansion, which I know is a priority? But is there also an opportunity to acquire technology and health more in that regard?

Great question, Ryan. I mean, we obviously are focused on network growth, both domestically and internationally. As we begin to think about the different verticals and horizontals that are built into our design thesis. The idea of sharing data across the different adjacencies is quite important to us. When we think about our growth and our ability, whether we buy or whether we build, I think there's an argument to be made that we could look at CRM systems or possibly DMS systems to glue things together to maximize experiences throughout the lifecycle of the consumer. We have 140 engineers or so on staff, and their abilities are quite high. Referring back to M&A, there may be a chance that we could find parts of that at some point or maybe a holistic approach that could help accelerate our growth and maximize the design value we are creating.

Great. Thanks, Bryan and Chris.

Thanks, Ryan.

Our next question is from Rajat Gupta with JPMorgan. Please proceed with your question.

Hi. Good morning. Thanks for taking the question.

Rajat.

Maybe just wanted to follow-up on John's question earlier. If the economy does slide into a recession and used car demand has already slowed down considerably, maybe new car demand does not improve from current levels, and in a scenario where new vehicle SAAR is closer to, say, $13 million, $13.5 million and GPUs are normalized, would there be any boundaries you would draw on this power? Is there a trough level of EPS investors should keep in mind, or any boundaries or any other metrics that you could help us think about, maybe SG&A to grow or for parts and services or F&I?

Sure, Raj. The way we look at 2023, we believe that because of the pent-up inventory, the most likely scenario is about a 3% to 5% increase in both new and used SAAR levels. This is going to put you into a little over $14 million and a little over $42 million unused, basing our expectations on that. We know that the demand and other macro drivers in mobility are there. People's average cars are aging more than they were pre-COVID by about 18 months. We know that car affordability has gone up dramatically. The decontenting of cars will come into play. There are many moving parts, but we focus on the things we can control. We've said we are confident trending toward positive SAAR increase over negative. We believe GPUs will stabilize by mid-year. That may be bumpy getting there. F&I, we expect it to stay strong, and we'll do our best in managing SG&A.

Maybe just as a follow-up on SG&A. You have a new Chief People Officer. How are you thinking about the composition and compensation at a store level going forward? How do you expect that to change? I think Tina mentioned that you're already starting to proactively make some changes just in light of the macro. Just if you could elaborate a little bit more on what's going on. How should a store level look like going forward?

Sure, Raj. We're glad to have Gary Glandon join our team. Our mission is growth powered by people. When we think back about the SG&A of the stores, we were in the high 60 percentile range going into the recession. We've had constructive cuts in personnel. Our personnel accounts for about two-thirds of our SG&A costs. Ultimately, the 300 basis points was cut out of that. Once GPU levels normalize, we're looking at 61% to 64% SG&A as a percentage of gross at a normalized level. We have stores that can have lower SG&A costs while still allowing for high levels of sales at normalized margins.

Got it. That’s helpful color. Thanks and good luck.

Sure. Thanks, Rajat.

Our next question comes from Ali Faghri with Guggenheim Partners. Please proceed with your question.

Good morning and thanks for taking my questions. My first question is on the SG&A to gross profit. It's great to hear you can keep it in the low 60% range even in a normal GPU environment. What gives you confidence that these cost cuts are structural and won't be competed away? It seems like a lot of its driven by headcount reductions over the last few years, but we are also in a very constrained supply environment with strong demand. What gives you confidence those headcounts and those costs don't need to come back, and what would be a more normal supply-demand backdrop?

I think that's fair insight, Ali. We're facing some inflationary pressures that affect salaries as well. But we designed our backend e-commerce solutions to maintain a simpler model, aiming for higher productivity in each person. We are confident these adjustments and our more efficient network will keep SG&A at competitive levels. Historical models and growth have optimized our network better, driving numbers closer to our bigger store averages.

Thanks, Bryan. That's very helpful color. I guess my next question is on used GPU. It's almost back to 2019 levels, which makes sense since we are no longer in an appreciating used car pricing environment. What are the risks as used car pricing begins to decline more meaningfully in the coming quarters that used GPU could overshoot to the downside and potentially go below 2019 levels?

Again, that’s obviously a likelihood. I don't think anyone's ever seen a graph that has a spike, and when it comes back, it stops at the average level. We are contemplating that on both the new and used car side. Many used car retailers struggle without the ability to absorb equity. A portion of consumers now sitting around a quarter have transacted over the last three years; that disequity pushes people into new car dealerships, which is an advantage for us.

That's helpful, Bryan. And lastly, I guess my last question here, if you don't mind, is on the 2025 target of $55 to $60 of EPS. It's great to see that you're reiterating that target, but have the building blocks changed? I'm asking because I think roughly about $10 of that EPS was supposed to come from Driveway. Do you still have confidence that that's the appropriate target? Or is the expectation that the building blocks have changed from your prior view?

Yes. I think that when we gave those goals, we were obviously looking out 5 years, and that can be a cloudy crystal ball. We reiterate the overall numbers. There could be adjustments in terms of where the EPS comes from and where the revenues come from. Given the capital positions of some e-commerce retailers, we may be one of the only people standing at the end. We'll emphasize improving profitability in a quick manner, reaching profitability by the end of 2024 and have a profitable year in 2025. Most metrics support our ongoing efforts.

Thanks, Bryan. I appreciate all that color.

Thanks, Ali. Good insight.

Our next question is from Colin Langan with Wells Fargo. Please proceed with your question.

Great. Thanks for taking my questions. Just wanted to follow-up, you mentioned that you thought SAAR would rise in a recessionary environment. Investors are struggling with inventory ticked up. I think you reported about 15 days, and your volumes look fairly flat quarter-over-quarter. So why haven't we seen a volume increase with this inventory uptick in the near-term?

Colin, hi. This is Bryan again. I think we’ve seen that because last quarter, the whole sector was down in same-store unit sales of between 25% and 27%. This quarter, we are looking at new vehicles being down approximately 10%. That’s a significant sequential improvement and indicates we should see recovery in inventory. Remember that a 13.5 SAAR level is depressed by around 20%, which represents a recessionary level. A relaxation in pricing may create tailwinds for us.

Okay. You also mentioned the 10.5% same-store unit decline. That is worse than the market. Why the large delta of underperformance this quarter? Is it brand mix, is it geographic mix, any drivers there?

Colin, it's partially mix, but the market is down more than 10.5%. We are up 10% in domestic but off 18% in import. We were up 2%-3% in the Korean imports. The Japanese imports are off the most. Overall, retail market trends have been more depressed than we anticipated.

Okay, understood. And I guess lastly, you mentioned in a recession, F&I holds up, but customers may start scrutinizing payments. How should we think about that in a recession? Do you anticipate F&I might soften?

Yes. It’s important to treat consumers fairly. Volatility and uncertainty generally create gaps in expectations, and we are, through such transitions, able to capitalize. While we're holding about $2,200 in F&I, I believe a more prolonged recession could see a normalized level at around $1,800. Whatever the nuances for F&I results amidst the CECL reserves fluctuate, we know that controlling contracts through DFC typically yields multi-fold rewards.

Okay. Alright, thanks for taking my questions.

You bet, Colin. Thanks.

Our next question comes from Bret Jordan with Jefferies. Please proceed with your question.

Hey, good morning, guys.

Hi, Bret.

You bought a half a dozen RV dealerships recently. Is that a change in strategy at all? How are the valuations on RV dealerships versus automotive?

Yes, that's good. I think it’s really a beta test. We’ve obviously talked about all different mobility channels. It's been a low-cost investment with a strong leader. The RV industry has been cyclical but has lower volatility than normally predicted given increased domestic travel.

And regarding F&I, with DFC's proposals on restricting some product sales, do you see that as something we should worry about? Were those products that you weren't typically including in F&I transactions in the first place?

While specific products may be eliminated, we know that transparency in our F&I products is essential. We’ll be nimble and adjust according to the regulatory environment and remain fair while providing value through transparency.

Okay, great. Thank you.

Thanks, Bret.

Our next question comes from Adam Jonas with Morgan Stanley. Please proceed with your question.

Hey, everybody.

Hey, Adam.

So my question on the CFPB was taken. So I will just have a couple of quick ones for you. Have you had a chance or have you made any changes to your loss reserves either on new deals or have you made any true-ups to existing deals?

Yes, Adam. Thanks for your question. We are looking at our provisions, but they stayed constant at 2.7% this quarter in relation to total assets under management. We are monitoring closely and feel comfortable that, that's the correct amount presently.

Chuck has done a nice job. Remember, Adam, we are up almost 30 basis points in FICO scores or 30 FICO score points. Our average LTV has decreased significantly as well.

Agreed. Regarding your earlier question about the preorder ratio, last quarter you mentioned it was around 30%, down from the previous 50%. What is the current status and trend?

We're at a just-in-time inventory state while still having high-demand vehicles with substantial backlogs like Bronco, Wrangler, and Tacoma. Overall, the supply remains fluid, and we’re in a good position to respond to demand.

Okay. We will follow-up after. Thank you so much.

Thanks, Adam.

Our next question comes from David Whiston with Morningstar. Please proceed with your question.

Thanks. Good morning. Just curious on the M&A environment, if you were to go into Europe, in particular, the U.K., we've got a very strong dollar, but a lot of macro turmoil over there. I know you're probably more thinking on the long-term, so perhaps it's a good time to be a value investor in the U.K., but at the same time, you said more wanting to wait for more stability there?

Yes, David, when we think about Western Europe, there are some good read-throughs. The transactions there have typically traded at lower multiples than our dealerships in the United States. If we can find the right partners, it may be a good time to make the investment, especially with the strong dollar. We're investigating potential opportunities that encompass dealership assets and possibly fleet or leasing possibilities that streamline our costs.

Thanks for that. Just shifting gears over to omni-channel and pure digital transactions. Over the past 18 months or so, have you seen consumers are perhaps more willing to skip the test drive than in the past?

That's a good question. Yes, we find that a growing number of consumers are comfortable with the idea of a vehicle being delivered to them at home and even skipping the test drive. We’ve seen sales through Driveway and our other digital experiences bolster our position. Customers appreciate the 7-day return policy where if they’re unsatisfied at the end of that period, they can simply return the car.

You mentioned some areas where people don't necessarily want to go online. Is there a particular demographic or market?

In early noticing, we observed that areas like Arizona and Georgia have shown a greater consumer comfort level in transacting online. However, parts of the Southeast and Southwest experience less resistance where e-commerce hasn’t taken a strong foothold as you've seen in more densely populated regions.

Okay. Thank you very much.

Thanks, David.

Our final question comes from Lee Cooperman with Omega Family Office. Please proceed with your question.

In any cyclical business, which you are obviously in, is the concept of peak earnings, trough earnings and normalized earnings. What do you view as your trough earnings?

We'll take that offline.

And secondly, you obviously got to be very disappointed in what's going on. You bought back a ton of stock 30% plus higher than it is now and you're buying less now. I assume the environment is turning out to be a little bit different than you anticipated? Can we take that offline as well?

No, not at all. I think the environment is what we've discussed for the last year. No one expected GPUs to sustain these elevated levels and it was a matter of when they began to normalize. We are pleased with our performance and overall strategy execution. We're inclined to focus on long-term vision while managing business operations daily.

We have reached the end of the question-and-answer session. I'd now like to turn the call back over to Amit Marwaha for closing comments.

Thanks for joining us today. We look forward to meeting with many of you in the next weeks. With that, I wish everyone a good day. Thanks.

This concludes today's conference. You may disconnect your lines at this time, and we thank you for your participation.