Earnings Call Transcript - PAG Q3 2021

Operator, Operator

Good afternoon, ladies and gentlemen. Welcome to the Penske Automotive Group Third Quarter 2021 Earnings Conference Call. Today's call is being recorded and will be available for replay approximately 1 hour after completion through November 3, 2021, on the company's website under the Investors tab at www.penskeautomotive.com. I will now introduce Anthony Pordon, the company's Executive Vice President of Investor Relations and Corporate Development. Sir, please go ahead.

Anthony Pordon, Executive Vice President of Investor Relations and Corporate Development

Thank you, Jerome. Good afternoon, everyone, and thank you for joining us again today. A press release detailing Penske Automotive Group's record third quarter 2021 financial results was issued this morning and is posted on our website along with the presentation designed to assist you in understanding the company's results. As always, I'm available by e-mail or phone for any follow-up questions that you may have. Joining me for today's call are Roger Penske, our Chair and CEO; and Shelley Hulgrave, our Chief Financial Officer; and Tony Facioni, our Vice President and Corporate Controller. Our discussion today may include forward-looking statements about our operations, earnings potential, outlook, future events, growth plans, liquidity and assessment of business conditions. We may also discuss certain non-GAAP financial measures, such as earnings before interest, taxes, depreciation and amortization or EBITDA. We have prominently presented the comparable GAAP measures and have reconciled the non-GAAP measures in this morning's press release and investor presentation, which are available on our website to the most directly comparable GAAP measures. Our actual results may vary because of risks and uncertainties outlined in today's press release, which may cause the actual results to differ materially from expectations. I direct you to our SEC filings, including our Form 10-K, for additional discussion and factors that could cause results to differ materially. I will now turn the call over to Roger Penske.

Roger Penske, Chair and CEO

All right. Thank you, Tony. Good afternoon, everyone, and thank you for joining us today. I'm pleased to report all-time record third quarter results for PAG, including the best quarter in the history of the company. Our total revenue increased 9% to $6.5 billion and income from continuing operations before taxes increased 53% to $476 million, and income from continuing operations increased 44% to $355 million and related earnings per share increased 45% to $4.46. Although unit sales were impacted by supply shortages in both our retail automotive and commercial truck dealership operations, earnings growth was driven by a 39% increase in retail automotive and a 135% increase in commercial trucks, gross profit per unit retailed, also a 4% increase in retail automotive service and parts gross profit and a 230 basis point reduction in SG&A to gross profit and $15 million in lower interest costs, coupled with an increase in commercial truck dealership EBT of 106% and an 83% increase in earnings from Penske Transportation Solutions. This demonstrated the continued strength of our investment and the benefit provided by our diversified business model. Looking at our retail automotive operations on a same-store basis for Q3 '21 versus Q3 '20, units declined 8%; however, revenue increased 7%. Gross profit increased 18%, including an 180 basis point increase in our gross margin. Our variable gross profit increased 39% to $5,769 per unit compared to $4,152 last year. Looking at CarShop, we now operate 22 locations and expect to open 1 additional location by the end of the year. We recently added locations in Leighton Buzzard and Wolverhampton in the U.K., and our Scottsdale location opened this week. During the quarter, CarShop unit sales increased approximately 1% to 18,451 units. Revenue improved 24% to $438 million and gross profit per unit increased 12% to $2,668. Our current annualized run rate is approximately 70,000 to 75,000 units, representing revenue of $1.6 billion and an EBT between $45 million and $50 million. Turning to the retail commercial truck dealership businesses. Our Premier Truck Group represented 11% of our total revenue in the third quarter. Retail revenue increased approximately 26%, including a 6% on a same-store basis. On a same-store basis, retail gross profit increased 40%, including a 10% increase in service and parts. Earnings before taxes increased 106% to $48 million, and the return on sales was 6.7%. The Class 8 commercial truck market remains very strong. And during the third quarter, North American Class 8 net orders increased 28%, and the backlog increased 179% to 279,000 units, representing a 13-month supply. Based on the current industry forecast, retail sales are expected to increase over the next 2 years and provide tailwinds to our commercial truck and truck leasing businesses. Turning to Penske Transportation Solutions, which we own 28.9% of PTS, which provides us with equity income, cash distribution and cash tax savings. PTS currently operates a fleet of over 350,000 vehicles. For the 9 months ended September 30, PTS generated $8.2 billion in revenue and $949 million in income or a 12% return on sales. In Q3, PTS generated $2.9 billion in revenue and income of $409 million or a 14% return on sales. As a result, our equity earnings in Q3 increased 83% to $118 million, while full-service leasing and contract sales were up 8%, our commercial rental revenue was up 51%, and our utilization hit 88%, with an additional 14,000 units on rent. Our consumer rental was up 27%, and our logistics revenue increased 27%. Our gain on sale of used trucks is up 143% as the strong freight environment and a supply shortage of new trucks is certainly driving demand for used vehicles. I now would like to turn the call over to Shelley Hulgrave, our Chief Financial Officer. Shelley?

Shelley Hulgrave, Chief Financial Officer

Thank you, Roger. Good afternoon, everyone. Looking at the PAG balance sheet and cash flow, the balance sheet remains in great shape. At September 30, we have $119 million in cash, and we ended the third quarter with over $1.2 billion in liquidity. When looking at our capital allocation, we maintained a disciplined approach that focuses on opportunistic investments across both our retail automotive and commercial truck businesses, capital expenditures to support growth, including our CarShop growth strategy, delivering a strong dividend to our shareholders, reducing debt whenever possible, and share repurchases. In fact, year-to-date, we have repurchased 2.5 million shares, representing approximately 3% of the total shares outstanding. Year-to-date, we generated $1.3 billion in cash flow from operations. We invested $157 million in capital expenditures, including $18 million to acquire land for future CarShop expansion. Net CapEx was $84 million. At the end of September, our long-term debt was $1.4 billion. We have repaid $922 million of long-term debt since the end of 2019. In addition, we have either repaid or refinanced our senior subordinated debt to lower rates while lengthening the terms to take advantage of current market conditions, which have contributed to a $34 million reduction in interest expense so far this year. These initiatives have lowered our debt to total capitalization to 27% compared to 33.7% at December 31, and 45.6% at the end of 2019. Our leverage ratio sits at 0.9x, an improvement from 2.9x at the end of 2019. At the end of September, our total inventory was $2.6 billion. Retail automotive inventory is $2 billion, which is down $937 million from December last year. We have a 19-day supply of new vehicles. Our days supply of premium is 22 and volume foreign is 9. We expect the current supply challenges, coupled with strong demand to keep our new vehicle supply at low but manageable levels. Used vehicle inventory is in good shape with a 40-day supply. At this time, I will turn the call back over to Roger.

Roger Penske, Chair and CEO

Thank you, Shelley. Moving on to our digital initiatives. We continue to grow, expand and enhance our digital footprint, including the introduction of new tools and technologies to offer our customers a hybrid customer-driven shopping model. Depending on their preferences, customers can purchase either fully online, in-store, or any combination of the two. We will also deliver vehicles directly to a location desired by our customers. As part of our omnichannel customer experience, we strive to be a leader in online reputation, including online customer reviews and star ratings on Google. Looking at our other digital tools, we retailed 2,550 vehicles or 4.3% of our U.S. unit sales and 14% of our customers use preferred purchase in their buying journey. Using the Sytner buy-on tool in the U.K., a customer reserves a car for GBP 99, applies for financing, receives instant credit approval, obtains a guaranteed price, and pays online. During the quarter, we sold 3,700 units using this platform. When you combine all of our digital tools, including new technology available at CarShop, a customer may perform any part of the transaction online or may use these tools to shorten their visit to the dealership. Looking at corporate development, in addition to the $220 million of year-to-date share repurchases, we completed acquisitions totaling $600 million in annualized revenue through September 30. In October, we acquired the remaining 51% of our Japanese space joint venture of premium luxury automotive brands, which will add $250 million in consolidated annual revenue. We have another $300 million in annualized revenue of deals in our pipeline that we expect to close either in the fourth quarter or early in 2022. We also opened up a new dealership in Washington, D.C. earlier this year, and we have 3 other open points under construction. We increased our CarShop locations by 5 and expect to open 1 additional location by the end of the year, bringing our total to 23 locations. We remain on track with CarShop to retail 150,000 in unit sales and generate $2.5 billion to $3 billion in total revenue and earn $100 million of EBT by the end of 2023. As we look across our diverse portfolio of businesses, we continue to target organic and acquisition growth as well as further operating efficiencies to continue to grow and expand our businesses. Before I close, I'd like to congratulate the 35 U.S. dealerships that were named by Automotive News to the 100 best dealerships that work for listing. We had more dealerships on the list than any other automotive retailer, including 6 of the top 10, 12 of the top 25 in the 2021 ranking. Our Audi of Turnersville stores ranked number one in the country. Additionally, 7 PAG dealerships rank in the top 10 nationally, including the top 3 places for their efforts to promote diversity, equity, and inclusion. We're honored by these accomplishments and are extremely proud of our team for their commitment to drive the passion and the efforts in working together to be one of the very best. I'm also pleased to announce that Penske Automotive Group was ranked first on the listing of U.S. Public Dealerships Teams in the 2021 Automotive Reputation Report published by reputation.com. In closing, our business remains strong, and our record performance demonstrates the benefit of our diversification. I'd like to thank our team for the outstanding results and producing all-time record here for Penske Automotive Group. Thank you again for joining us on the call today for your continued confidence in PAG. At this time, I'll turn it back over to the operator.

Operator, Operator

Your first question comes from Rick Nelson with Stephens Inc. Your line is open.

Rick Nelson, Analyst

To start, PAG has been less active recently while we’ve seen some major deals announced across the landscape. PAG has been focusing on strengthening the balance sheet. I’m interested in your perspective on the M&A environment, the multiples involved, and the pipeline for PAG.

Roger Penske, Chair and CEO

Well, I think it's been an active marketplace, Rick, certainly, with some large deals taking place across the automotive retail space. As we know, there's 18,000 dealerships and 32,000 franchises. So it's a big sandbox, obviously. I think fragmentation provides opportunity for consolidation. With the investment required today, I think there's a number of smaller dealerships that will become available. I think the deals that we see, the bigger deals are expensive. And many of them require CapEx and also then would provide some input from the standpoint of framework agreements with the manufacturers. And basically, over the last 12 to 18 months, I think we've looked at our balance sheet. We've looked opportunistically at things that we could buy and invest in. And I think you've seen that with the roughly $850 million of revenue that we've completed as of today with another $300 under contract. We're growing CarShop organically. We will have added 6 locations. We have, as I mentioned earlier in my remarks, 3 dealerships under construction are new points. And I think what we'll do over the next 12 to 18 months is look at growing probably at about 10%. That's $2 billion a year, and that would be divided, not only on a same-store basis, but also in acquisitions. And at the moment, we see the opportunity from the commercial truck standpoint that these multiples are quite a bit less in the retail auto, and with Freightliner being our lead OEM, looking at consolidation, we're taking advantage of that as we go forward when you're looking at businesses that are returning over 6% on sales. So I think that, at the end of the day, we'll continue our CapEx from a capital allocation standpoint, I think Shelly mentioned dividends and share repurchases. But we're going to be opportunistic. We certainly are not getting out of the retail auto business, for sure. And our commitment to CarShop to grow that, I think, is key with our mission that we have to reach 150,000 units by the end of 2023. So I think the deals done are great for our peers. And to me, it just shows you the opportunity and the profitability in this business.

Rick Nelson, Analyst

Also, I'd like to ask kind of inventory supply, new, 19 days, any visibility at all into future flows. Do you think we're at a low watermark here with inventory or started to decline?

Roger Penske, Chair and CEO

We spent 12 days in the U.S., and when considering international figures, that contributes to our total. I had conversations as recently as yesterday regarding inventory moving out. On the premium luxury side, we expect some opportunities for additional vehicles in November and December, although the quantity will be limited. Honestly, everything we receive is either sold or selling in the pipeline, and I anticipate this will continue for the next 12 months. I don't foresee the supply chain issues being resolved soon, as OEMs are focusing on the models that yield the highest profit. For instance, in the U.K., the market recently dropped 33%, not due to a lack of demand, but because smaller cars aren't being produced since they offer lower margins. OEMs are adjusting their strategies accordingly. Meanwhile, it's likely to remain business as usual here with tight inventory. All dealer groups are exploring ways to retain customers. We are engaging with finance and leasing companies to extend leases to enhance customer loyalty and ensure we can order cars for them when available. Currently, both the premium luxury sector and others are concentrating on the supply chain and manufacturing cars without some of the usual additions and accessories. Overall, we performed better than the market, which was down 13%, while we only experienced a 3% decline. We're optimistic about our position, even though the market may be somewhat unstable for a while.

Operator, Operator

And your next question comes from John Murphy with Bank of America Merrill Lynch. Your line is open.

John Murphy, Analyst

Roger, Tony and Shelley, thank you for the comments here. Just a first question and following up on Rick's first question on cap allocation. I mean, some of the other dealer groups are being much more aggressive and actually taking on leverage. And right now, you're taking down leverage by repaying debt, but you're allocating capital towards growth. So I'm just curious, wanting if you can maybe just give us a quick summation, I mean that 12- to 18-month goal of 10% revenue growth, how much of that is same-store and how much of that is acquisition? And two, if you decided to get more aggressive with the balance sheet, curious if you consider doing that, where you think the capital would be allocated? And are you kind of loading up here for something bigger or a better opportunity? I mean, what's the thought process versus other dealers that we cover that are kind of laying it out on the balance sheet to put it lightly.

Roger Penske, Chair and CEO

We're diversified, which gives us multiple areas to allocate our capital. Currently, we're assessing acquisition costs, particularly in the commercial truck sector, where we see significant opportunities. Freightliner is optimistic about our growth trajectory, and I'm targeting around 10% growth, simplifying it to a 50-50 split. With liquidity at around $1.2 billion and an additional $100 million in cash, we are in a strong position. We have no outstanding amounts on our credit lines and approximately $1.2 billion in bonds maturing in six years at a favorable rate of 3.75%. Our mortgage obligations are also manageable. Overall, we are well-prepared, but given the current market with supply chain disruptions, I'm cautious about future valuations. Although this is one of the most profitable markets we've encountered in years, I prefer to maintain lower leverage while remaining prepared for opportunities. We could increase leverage to 2.5 to 3 for a significant deal if necessary, but there is nothing immediate prompting that decision. In the past, we've chosen to pass on certain opportunities and will continue to be selective. Should opportunities for scale and consolidation arise, we will consider them seriously, but for now, we plan to take a measured approach and understand how the market evolves over the next year.

John Murphy, Analyst

And just a follow-up to that. I mean if we think about growth via acquisitions over the next 12 months or so. I mean is that the kind of redeployment you think would be something we should think about going forward beyond that? Or because you're taking leverage down, that might be somewhat conservative in that over time as opportunities avail themselves, and you've got the balance sheet firepower to go after them, that may end up proving being a somewhat conservative way to think about acquired revenue growth going forward?

Roger Penske, Chair and CEO

Yes, I would consider it a conservative approach. We need to set a target and strive towards it, which seems realistic when we evaluate our year-to-date same-store revenue and look ahead to 2022, along with our acquisition potential. We have new locations opening and opportunities to grow same-store revenue from the CarShop perspective. Additionally, if a major acquisition opportunity arises, it aligns with how we've historically built our company, as we were primarily in a buying mode initially. We will assess what options are available to us. Currently, with CarShop, we have significant growth potential, especially with capital investment, and it's more streamlined compared to some of the challenges we face with OEMs. The CarShop brand has gained considerable momentum both domestically and internationally, and that will definitely remain a priority.

John Murphy, Analyst

And then just a second question on SG&A. You've taken a lot of heads out. I'm just curious where you think the SG&A costs will go. I mean, I don't know if you can talk about in absolute terms or a percent of gross. I know that's kind of hard because there's a lot of moving pieces. But I mean, how do you think you should think about SG&A to gross or SG&A costs in total going forward?

Roger Penske, Chair and CEO

I looked at SG&A for the quarter, and it's noteworthy that we've reduced our workforce by about 8% or nearly 2,000 people since before the pandemic. Our compensation was up around $100 million during the quarter, primarily driven by variable compensation and the margins we have. When we assess SG&A, we expect it to be in the low 70s. We're performing better than that now, having decreased from 77. However, I don't want to give the wrong impression. The gross figure presents a more favorable outlook than what may actually occur moving forward. So, I would estimate it to be in the low 70s.

John Murphy, Analyst

That's helpful. Lastly, I appreciate the information on digital initiatives. I'm curious about your current collaboration with Cox, as it's a newer initiative. Additionally, as you consider this and your other efforts, how do you foresee them aligning with the activities of automakers who are trying to establish a digital connection with consumers, which is somewhat similar to what many dealers are investing in? I'm interested in your near-term plans with Cox and, from a long-term perspective, how you see these systems ultimately interacting or possibly competing with the automakers' significant investments in digital efforts.

Roger Penske, Chair and CEO

I believe we have a hybrid approach when you consider all aspects involved. We utilize third-party sites, OEM digital sites, and social media. Over the past year, we have worked considerably with Cox, and anyone using the product now finds it excellent. Currently, we have 2,000 units on the platform since we are still in the early stages, and we've achieved about 300 units in sales, whether customers are moving from the site to the dealership or completing the process online, which we view as a strong beginning with minimal issues. From a customer satisfaction perspective, we've received numerous compliments on that platform. Cox is monitoring its progress closely and is invested in its success. At the same time, I have advised our team that while we see many opportunities, I prioritize forming partnerships with the OEMs, who are launching their own e-commerce platforms. This aspect will be crucial in our relationship, akin to your floor plan or financing arrangements. It's important not to overlook their platforms. Currently, Toyota has SmartPath, Lexus offers Monogram, and many others have their systems in place, which we need to consider carefully as we move forward. In my view, that will be essential. I believe internet sales are critical, yet customers will still want to physically check out premium luxury brands. The omnichannel approach isn't limited to vehicle sales; it extends to service appointments and online payments, which are vital. In this quarter alone, our Business Development Centers and online service appointments generated over $500,000. Online payments are also on the rise, with nearly $50 million collected during the quarter. This indicates that we are leveraging the online channel for more than just selling new and used vehicles.

Operator, Operator

Your next question comes from Stephanie Moore with Truist.

Stephanie Moore, Analyst

I wanted to talk a little bit. You did speak on just what we're seeing from these underlying trends on the auto retail side, there's supply chain disruption. But maybe you could touch a little bit on what we're seeing on the commercial truck side and the freight environment, obviously, having a nice benefit to both your JV as well as the commercial shop retail business right now. But maybe you talk about the longevity you expect some of these trends as well as maybe some of the positive attributes that might come out as a result of the freight environment, whether it's on pricing or the used truck market or anything like that?

Roger Penske, Chair and CEO

We've seen some significant changes in the trucking industry recently. The implementation of electronic logs for drivers has made it impossible for them to operate with two log books and run long hours like they used to without breaks. This change has led to a higher demand for drivers, but currently, we are facing a driver shortage which limits our ability to move goods. In the U.S., 85% of goods are transported by trucks, and we consider the truck business essential. There is nearly a 13-month backlog in demand with original equipment manufacturers, especially for heavy-duty trucks, which currently stands at 279,000 units. This backlog will likely sustain our business over the next 12 to 24 months and is pushing used truck prices up, as many fleets are holding onto their older trucks for an additional 5 to 6 months due to the inability to acquire new ones. The main concern is the number of trucks at manufacturers awaiting parts. Freightliner is focusing on completing those trucks, which should help reduce the backlog. However, we anticipate that we will deliver many trucks in the first quarter that were originally scheduled for the fourth quarter, pushing the entire supply chain back by at least 90 to 120 days. This situation is beneficial for our truck leasing business, as demand for extra equipment continues to rise in the commercial rental sector.

Stephanie Moore, Analyst

Absolutely. That's really helpful. Over the last year, we have seen strength in capital allocation through share purchases, raising the dividend, and debt pay down. Looking ahead, opportunistic mergers and acquisitions have been mentioned, but where do you stand on continued debt paydown and share repurchases for the next 12 months?

Roger Penske, Chair and CEO

From a debt paydown standpoint, we have variable mortgage debt that we plan to reduce. We are focused on growing our dividend base. Currently, we have $70 million authorized for share repurchases, which we increased to $250 million back in July. We will discuss this allocation with our Board in December. Our plans include share buybacks as well as potential M&A opportunities, especially in the commercial truck sector, and we will continue to invest in the CarShop aspect of our business. There are many ways to utilize our capital, but we intend to maintain our current leverage. If a significant deal arises, we have the capacity to pursue it without needing additional market capital. We currently have access to $1.2 billion to $1.3 billion from our credit lines, without considering leverage from other assets. At this time, only about 24% of our real estate book value is being leveraged.

Operator, Operator

Your next question comes from Mike Ward with Benchmark Company.

Mike Ward, Analyst

Is there a way to rank the capital requirements when you look at these growth investments, whether they're open points, truck distribution, CarShop, M&A, is there a way to rank which ones are from either high to low or low to high as far as capital requirements when you do those?

Roger Penske, Chair and CEO

From a CarShop perspective, we have much lower investment required at a CarShop location. We just opened one in Phoenix this week, costing about $12 million, which is similar to the investment in New Brunswick. The returns from these locations are significantly better than if we had built a premium luxury store in the same areas, reflecting a lower investment overall. In terms of return on sales, we're seeing around 2% to 4% on the retail side, while the commercial truck segment shows returns between 5% and 7%. This makes it a priority for us. Additionally, we haven't discussed much about our opportunities in Australia, where we aim to expand our business in defense, power generation, as well as our on-highway and mining sectors. We're continuing to invest in equipment and facilities there, with existing single-source contracts with the government for defense that look promising. We plan to invest in enhancing our capabilities with the government to secure long-term contracts, which are quite profitable.

Mike Ward, Analyst

So, with your joint ventures bringing them in from Japan, does that open up additional opportunities in Japan with your partners?

Roger Penske, Chair and CEO

There's no question. We really wanted to partner with Mitsui. We're a significant player with Toyota and Honda, so we aimed to establish a presence in that market. We formed a joint venture there several years ago to get acquainted with the market and understand the requirements from an accounting, controls, and risk perspective. We have been in that business for approximately 5 or 6 years and serve as the Alpina distributor for all of Japan. We are also a major BMW dealer there and have brands like Rolls-Royce and Ferrari among others. The OEMs have approached us multiple times expressing interest in expanding our platform, and we plan to pursue that with our current management team. Our previous partner has transitioned to a nonexecutive Chairman role, leaving us with some oversight from him. We now have a gentleman who has been with us for 4 years, who initially worked on the OEM side. He is an American who has learned Japanese and is married to a Japanese woman, and he has done an excellent job. We believe we are now equipped with the necessary controls to move forward, and this will be a growth area for us.

Mike Ward, Analyst

A couple of questions for Shelley. Shelley, maybe starting off first. When you look at your debt ratings and you're right on the cusp of investment grade. Is there any plan? Or does it benefit you to get moved up to investment grade? Or is that just irrelevant?

Shelley Hulgrave, Chief Financial Officer

No. Given the strength of our balance sheet, we can certainly have those discussions with the rating agencies. Like you said, S&P upgraded us to BB+ in May, and we're BA1 with Moody's, so just below investment grade right now. It's not a priority for us, but it never hurts for us to have those discussions. Yes. Our lease adjusted leverage ratio is now at 2x when the requirement is 3. So we do have some cushion, as Roger had mentioned earlier. Clearly, there's upside from an interest rate perspective, probably about 100 basis points on future bond offerings. We're just evaluating the potential policy restrictions. So as we look at our capital allocation strategy, we wouldn't want to risk a potential downgrade, but we wouldn't want to pass up a significant opportunity either.

Mike Ward, Analyst

What is the impact on cash flow as inventories replenished over the next year or 2?

Shelley Hulgrave, Chief Financial Officer

Well, we floor the majority of our inventory purchases. So the impact is really eliminated and we're not expecting, as Roger mentioned, a quick return to inventory if at all, to prior levels. So we continue to see a buildup of pent-up demand, particularly with the lease returns starting to come off those stronger tariff years. And as we've seen, the production returns will be gradual. So very minimal impact.

Mike Ward, Analyst

And just one last one. Some of your peers are starting to get into the finance business. Given you're generating so much cash, and it looks like it's going to be at similar levels, at least through the end of '22, are you considering that at all? Or have you looked into it the plus and minuses of starting a finance arm?

Shelley Hulgrave, Chief Financial Officer

We have, from time to time, evaluated those pros and cons, Mike. The decision typically comes down to the return of capital. And as we've talked about, we're experiencing some pretty great returns on PTL or PTG acquisitions. And even our recent Mercedes store that we acquired here in April. So plus the majority of our transactions on the premium luxury side are on the leasing side, and we have an 80% penetration rate with our new vehicle sales. So when you look at that and our small subprime business, I'm not sure starting a finance company really makes a lot of sense right now.

Roger Penske, Chair and CEO

Yes, Mike, we've looked at it. In fact, it was a discussion item at our latest strategy meeting. We can't borrow money like the banks can. So in order for us to get the kind of return we want, we're going to have to go down in credit rating in order to be able to attract the kind of returns we want. And it starts to burden your balance sheet. Certainly, we can securitize over time. And then the lease account or the accounting requirements there that we have to take the income over 30 months, 40 months or 60 months depending on the term of the contract. So I would say, right now, when you look at our subprime business, only 6%. So I think we're in a good position. It's something we continue to look at. We've seen other people take that on. And look, we're different, and I think that we'll probably not be getting into that business at this particular time.

Mike Ward, Analyst

Just a follow-up earlier. When you talk about these open points, and I think you have 3 open points. Is that something we can expect to see more of? And that's not just U.S., right, it's Europe as well?

Roger Penske, Chair and CEO

We have open points in CarShop that we can designate ourselves. We've been securing the OEMs and currently have two open points in Austin, as well as open points for Porsche and in the U.K. I wouldn't expect to see three or four open points every year, but in areas where we have established a strong presence and demonstrated effective operations, we've had opportunities that we've successfully pursued. We view these as a solid avenue for growth. We're expanding in a manner that suits our strategy, allowing us to construct purpose-built facilities that comply with corporate identity standards without needing to take on multiple existing stores that aren't brand new. We see this as a positive development.

Operator, Operator

Your next question comes from Rajat Gupta with JPMorgan.

Rajat Gupta, Analyst

Sorry to ask you once again on capital allocation, just balance sheet leverage. I mean, you're going to be generating a significant amount of free cash flow here over the next year or so given this elevated margin profile. It doesn't look like the M&A multiples on the automotive retail side seem attractive. You already have some capital committed for CarShop, which is kind of well understood. Given like we are in this longer, would you consider a big buyback, you don't even have to add a ton of leverage to do like maybe even close to $1 billion, given you're generating more than $800 million or so of free cash flow. Just curious what's your take on that? And would you consider doing a big buyback in the interim, given this excess level of free cash flow? And then I have a couple of follow-ups.

Roger Penske, Chair and CEO

Well, I think share buyback is something that we discussed with the Board. And as I said earlier, that we'll have that discussion in our December meeting. And that's always an option for us on a going-forward basis. We've been pretty much consistent, increasing our dividend $0.01 of shares we've gone forward over many quarters. And we had $250 million of buyback authority. We thought that when you start looking at options for our capital that share buyback was certainly prudent during the last quarter. Now those same conditions could take place in the future, and that would be reviewed by the Board, and we'd make those decisions at that time.

Rajat Gupta, Analyst

Got it. Just shifting to GPUs, I'm assuming that the absolute GPU performance continues to improve throughout the quarter, suggesting you might finish the third quarter at a higher run rate than average. Given your insights from OEMs and supply situation, can we maintain this high figure of 5,000 for a few more quarters, or do you expect it to return to a more typical level? Do you believe the third quarter marks the peak for you?

Roger Penske, Chair and CEO

I believe I've encountered that question before. As I review our performance entering and exiting the quarter, it's clear that new vehicle gross profits increased month-to-month throughout July, August, and September. Additionally, our used vehicle sales also showed improvement. Ultimately, when considering the manufacturer's suggested retail price, I think selling above that level is risky for customers in the long run, and its effects are uncertain. On the used car front, we might be nearing our peak, and given that we have limited inventory and are selling from our pipeline, we are likely to maintain strong margins. However, whether this remains within $100 of our current figures will depend on supply conditions.

Operator, Operator

Your next question comes from David Whiston with Morningstar.

David Whiston, Analyst

First, regarding the truck space. Roger, you mentioned earlier that new truck orders are taking too long. Is this solely due to the chip shortage, or are there additional supply chain issues that are causing more significant problems?

Roger Penske, Chair and CEO

People aren't aware that tires are now being air freighted, along with many other items besides just chips for heavy-duty trucks. The crucial point is that manufacturing plants are facing significant labor shortages as they attempt to ramp up production. There's a notable human capital challenge that needs to be addressed, including training new employees. I recently spoke with an OEM that mentioned they could be down 25% of their workforce on any given day. This raises concerns about how to operate a plant if a substantial number of workers are absent on a Monday morning. While I'm not referencing a specific truck OEM, this is a widespread issue in the market. Currently, there is strong demand for heavy and medium-duty trucks, but supply is lacking. This has notably affected our Penske Transportation Solutions business, as we have an 88% utilization rate on our tractor fleet, which has increased by 14,000 units overall, and we don’t expect this trend to slow down. Consumer rentals, particularly the one-way rentals, are projected to increase by around 15% to 20% in the fourth quarter. However, it appears that heavy truck deliveries will be delayed until the first and second quarters due to the availability of various components. With tens of thousands of unfinished units at OEM lots, they need to concentrate on completing those before producing more new trucks, as space is limited.

David Whiston, Analyst

That's helpful. And then in the U.K., consumers are dealing with a lot of shortages, particularly even fuel. Is that causing a lot of havoc at your stores in terms of people not wanting to buy a vehicle?

Roger Penske, Chair and CEO

I don't see that. I think electrified vehicles have increased. I don't have the exact number in front of me, but there's no doubt that demand remains strong, and there has been a significant shift towards electrification. Some of this may be related to the fuel shortage. A major issue is the lack of drivers for these large trucks, as many returned to Eastern and Western Europe when COVID struck and have yet to come back. In fact, I believe permits were issued for 5,000 people to enter as drivers to operate this equipment, which has certainly created a challenge. Hybrids appear to be the most popular segment in the U.K. right now, as they allow access to cities like Los Angeles and London. Most people incur a tax when purchasing an internal combustion engine vehicle, whereas electric vehicles are tax-exempt. This tax advantage is a significant consideration for company cars and is also driving the shift towards electrification.

David Whiston, Analyst

Okay. And PTS, the press release cited operating expense reductions, where are those primarily coming from?

Roger Penske, Chair and CEO

Say that again, PTS?

Anthony Pordon, Executive Vice President of Investor Relations and Corporate Development

We've seen a reduction in headcount across our business, approximately 2,000 people or about 8% to 9%. This change is not limited to PTS; it impacts our overall business.

David Whiston, Analyst

Okay. And last question, I'm asking everybody this. Are you seeing any change compared to a few months ago, whether it's a CarShop or on the traditional side, are consumers just getting fed up with the shortages and just saying, I'm not going to get a use, I'm going to wait until you have more new inventory, or conversely, are people more desperate?

Roger Penske, Chair and CEO

I think one of the things on the used side is the prices are getting so high. It's almost like sticker shock that can almost buy a new car, but of course, they're not available. So some people might be sitting on the side in order to get pricing right and then availability of new vehicles, too, they have another option. That's what I see right now.

Operator, Operator

There are no further questions at this time. I'll hand the call back to Roger Penske.

Roger Penske, Chair and CEO

Thank you, Jerome, and thanks, everyone, for joining us today. We'll see you next quarter.

Operator, Operator

Thank you. And that concludes today's conference. Thank you all for joining. You may now disconnect.