-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, Tqc5EKQPeuTsw8ix52f3IEYaqkXsxUbFzeEy2PvXfP4N9xShI9jet2D5iKKU917f q45N99WFmSqx2d9bYMWmIg== 0000950129-04-002616.txt : 20040430 0000950129-04-002616.hdr.sgml : 20040430 20040430105251 ACCESSION NUMBER: 0000950129-04-002616 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 5 CONFORMED PERIOD OF REPORT: 20040331 FILED AS OF DATE: 20040430 FILER: COMPANY DATA: COMPANY CONFORMED NAME: GROUP 1 AUTOMOTIVE INC CENTRAL INDEX KEY: 0001031203 STANDARD INDUSTRIAL CLASSIFICATION: RETAIL-AUTO DEALERS & GASOLINE STATIONS [5500] IRS NUMBER: 760506313 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 001-13461 FILM NUMBER: 04767917 BUSINESS ADDRESS: STREET 1: 950 ECHO LANE STREET 2: STE 100 CITY: HOUSTON STATE: TX ZIP: 77024 BUSINESS PHONE: 7134676268 MAIL ADDRESS: STREET 1: 950 ECHO LANE STREET 2: STE 100 CITY: HOUSTON STATE: TX ZIP: 77024 10-Q 1 h14804e10vq.txt GROUP 1 AUTOMOTIVE, INC. - MARCH 31, 2004 FORM 10-Q SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended March 31, 2004 OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____ to _____ Commission file number: 1-13461 GROUP 1 AUTOMOTIVE, INC. (Exact Name of Registrant as Specified in Its Charter) Delaware 76-0506313 (State or Other Jurisdiction of (I.R.S. Employer Incorporation or Organization) Identification No.) 950 Echo Lane, Suite 100 Houston, Texas 77024 (Address of Principal Executive Offices) (Zip Code) (713) 647-5700 (Registrant's Telephone Number, Including Area Code) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes [X] No [ ] Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date. Title Outstanding ----- ----------- Common stock, par value $.01 22,479,697 PART I. FINANCIAL INFORMATION ITEM 1. FINANCIAL STATEMENTS GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (dollars in thousands)
MARCH 31, DECEMBER 31, 2004 2003 ----------- ------------ (unaudited) ASSETS CURRENT ASSETS: Cash .......................................................... $ 32,315 $ 25,441 Contracts-in-transit and vehicle receivables, net ............. 140,406 143,260 Accounts and notes receivable, net ............................ 68,995 63,604 Inventories, net .............................................. 766,937 671,279 Deferred income taxes ......................................... 11,786 11,163 Prepaid expenses and other assets ............................. 8,509 16,176 ----------- ----------- Total current assets ................................... 1,028,948 930,923 ----------- ----------- PROPERTY AND EQUIPMENT, net ..................................... 144,163 131,647 GOODWILL ........................................................ 337,823 314,211 INTANGIBLE ASSETS ............................................... 95,698 76,656 INVESTMENTS RELATED TO INSURANCE POLICY SALES ................... 16,121 16,025 DEFERRED COSTS RELATED TO INSURANCE POLICY AND VEHICLE SERVICE CONTRACT SALES ............................ 11,093 12,238 OTHER ASSETS .................................................... 6,142 6,465 ----------- ----------- Total assets ........................................... $ 1,639,988 $ 1,488,165 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY CURRENT LIABILITIES: Floorplan notes payable ....................................... $ 709,977 $ 493,568 Current maturities of long-term debt .......................... 895 910 Accounts payable .............................................. 96,169 87,675 Accrued expenses .............................................. 66,100 72,240 ----------- ----------- Total current liabilities .............................. 873,141 654,393 ----------- ----------- DEBT, net of current maturities ................................. 12,507 12,703 SENIOR SUBORDINATED NOTES ....................................... 144,444 217,475 DEFERRED INCOME TAXES ........................................... 21,520 19,506 OTHER LIABILITIES ............................................... 23,922 25,224 ----------- ----------- Total liabilities before deferred revenues ............. 1,075,534 929,301 ----------- ----------- DEFERRED REVENUES FROM INSURANCE POLICY SALES ................... 23,744 24,984 DEFERRED REVENUES FROM VEHICLE SERVICE CONTRACT SALES ............................................... 11,537 12,952 DEFERRED REVENUES FROM VEHICLE MAINTENANCE AGREEMENT SALES ............................................. 2,571 2,819 COMMITMENTS AND CONTINGENCIES STOCKHOLDERS' EQUITY: Preferred stock, 1,000,000 shares authorized, none issued or outstanding ....................................... -- -- Common stock, $.01 par value, 50,000,000 shares authorized, 23,558,862 and 23,454,046 issued ................ 236 235 Additional paid-in capital .................................... 257,878 255,356 Retained earnings ............................................. 301,637 291,150 Accumulated other comprehensive loss .......................... (965) (1,285) Treasury stock, at cost, 1,117,578 and 1,002,506 shares ....... (32,184) (27,347) ----------- ----------- Total stockholders' equity ............................. 526,602 518,109 ----------- ----------- Total liabilities and stockholders' equity ............. $ 1,639,988 $ 1,488,165 =========== ===========
The accompanying notes are an integral part of these consolidated financial statements. 2 GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS (dollars in thousands, except per share amounts)
THREE MONTHS ENDED ------------------ MARCH 31, --------- 2004 2003 ------------ ------------ REVENUES: New vehicle retail sales .......................................................... $ 675,977 $ 593,754 Used vehicle retail sales ......................................................... 230,655 225,198 Used vehicle wholesale sales ...................................................... 76,191 61,004 Parts and service sales ........................................................... 124,020 111,113 Retail finance fees ............................................................... 15,562 15,179 Vehicle service contract fees ..................................................... 15,546 15,198 Other finance and insurance revenues, net ......................................... 9,076 8,345 ------------ ------------ Total revenues .............................................................. 1,147,027 1,029,791 COST OF SALES: New vehicle retail sales .......................................................... 628,084 551,029 Used vehicle retail sales ......................................................... 202,085 197,058 Used vehicle wholesale sales ...................................................... 77,171 62,799 Parts and service sales ........................................................... 56,259 49,457 ------------ ------------ Total cost of sales ......................................................... 963,599 860,343 ------------ ------------ GROSS PROFIT ........................................................................ 183,428 169,448 SELLING, GENERAL AND ADMINISTRATIVE EXPENSES ........................................ 146,664 134,838 DEPRECIATION AND AMORTIZATION EXPENSE ............................................... 4,088 3,250 ------------ ------------ Income from operations .............................................................. 32,676 31,360 OTHER INCOME AND (EXPENSE): Floorplan interest expense, excludes manufacturer interest assistance ............. (4,639) (5,447) Other interest expense, net ....................................................... (4,840) (2,369) Loss on redemption of senior subordinated notes ................................... (6,381) -- Other expense, net ................................................................ (24) (26) ------------ ------------ INCOME BEFORE INCOME TAXES .......................................................... 16,792 23,518 PROVISION FOR INCOME TAXES .......................................................... 6,305 8,702 ------------ ------------ NET INCOME .......................................................................... $ 10,487 $ 14,816 ============ ============ EARNINGS PER SHARE: Basic ............................................................................. $ 0.47 $ 0.66 Diluted ........................................................................... $ 0.45 $ 0.64 WEIGHTED AVERAGE SHARES OUTSTANDING: Basic ............................................................................ 22,523,499 22,363,602 Diluted .......................................................................... 23,389,805 23,010,648
The accompanying notes are an integral part of these consolidated financial statements. 3 GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS (dollars in thousands)
THREE MONTHS ENDED ------------------ MARCH 31, --------- 2004 2003 --------- --------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income ........................................................................ $ 10,487 $ 14,816 Adjustments to reconcile net income to net cash provided by operating activities: Depreciation and amortization ................................................... 4,088 3,250 Deferred income taxes ........................................................... 1,047 1,114 Provision for doubtful accounts and uncollectible notes ......................... (63) 240 Loss on sale of assets .......................................................... 23 -- Loss on redemption of senior subordinated notes ................................. 6,381 -- Changes in operating assets and liabilities, net of effects of acquisitions and dispositions: Contracts-in-transit and vehicle receivables ................................. 3,094 49,102 Accounts receivable .......................................................... (3,936) 2,980 Inventories .................................................................. (60,497) (57,295) Prepaid expenses and other assets ............................................ 1,144 2,772 Floorplan notes payable ...................................................... 53,511 10,014 Accounts payable, accrued expenses and deferred revenues ..................... 2,469 (11,519) --------- --------- Total adjustments ......................................................... 7,261 658 --------- --------- Net cash provided by operating activities ......................... 17,748 15,474 --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Increase in notes receivable ..................................................... (675) (1,162) Collections on notes receivable .................................................. 420 354 Purchases of property and equipment .............................................. (14,992) (12,234) Proceeds from sales of property and equipment .................................... 88 4,713 Proceeds from sales of franchises ................................................ -- 7,414 Cash paid in acquisitions, net of cash received .................................. (43,690) (12,687) --------- --------- Net cash used by investing activities ............................. (58,849) (13,602) --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Net borrowings (payments) on revolving credit facility ........................... 132,023 (4,775) Principal payments of long-term debt ............................................. (255) (385) Redemption of senior subordinated notes .......................................... (79,479) -- Proceeds from issuance of common stock to benefit plans, including tax benefit ..................................................................... 2,705 1,677 Repurchase of common stock, amounts based on settlement date ..................... (7,019) (2,498) --------- --------- Net cash provided (used) by financing activities .................. 47,975 (5,981) --------- --------- NET INCREASE (DECREASE) IN CASH ..................................................... 6,874 (4,109) CASH, beginning of period ........................................................... 25,441 24,333 --------- --------- CASH, end of period ................................................................. $ 32,315 $ 20,224 ========= ========= SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION: Cash paid for - Interest ........................................................................ $ 19,372 $ 10,038 Taxes, net of refunds received .................................................. $ (229) $ 373
The accompanying notes are an integral part of these consolidated financial statements. 4 GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS 1. BUSINESS AND ORGANIZATION: Group 1 Automotive, Inc., a Delaware corporation, is a leading operator in the automotive retailing industry. Group 1 Automotive, Inc. is a holding company with no independent assets or operations other than its investments in its subsidiaries, which are located in California, Colorado, Florida, Georgia, Louisiana, Massachusetts, New Jersey, New Mexico, Oklahoma and Texas. These subsidiaries sell new and used cars and light trucks through their dealerships and Internet sites; arrange related financing, vehicle service and insurance contracts; provide maintenance and repair services; and sell replacement parts. Group 1 Automotive, Inc. and its subsidiaries are herein collectively referred to as the "Company" or "Group 1." 2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES: Basis of Presentation All acquisitions of dealerships completed during the periods presented have been accounted for using the purchase method of accounting and their results of operations are included from the effective dates of the closings of the acquisitions. The allocations of purchase price to the assets acquired and liabilities assumed are initially assigned and recorded based on estimates of fair value. All significant intercompany balances and transactions have been eliminated in consolidation. Interim Financial Information The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments of a normal and recurring nature considered necessary for a fair presentation have been included. Due to seasonality and other factors, the results of operations for the interim periods are not necessarily indicative of the results that will be realized for the entire fiscal year. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2003. Stock Compensation In October 1995, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-Based Compensation," which, if fully adopted, requires the Company to record stock-based compensation at fair value. The Company has adopted the disclosure requirements of SFAS No. 123 and has elected to record employee compensation expense in accordance with APB No. 25, "Accounting for Stock Issued to Employees." Accordingly, compensation expense is recorded for stock options based on the excess of the fair market value of the common stock on the date the options were granted over the aggregate exercise price of the options. As the exercise price of options granted under the stock incentive plan has been equal to or greater than the market price of the Company's stock on the date of grant, no compensation expense related to the stock incentive plan has been recorded. Additionally, no compensation expense is recorded for shares issued pursuant to the employee stock purchase plan as it is a qualified plan. 5 Had compensation expense for the stock incentive and employee stock purchase plans been determined based on the provisions of SFAS No. 123, the impact on the Company's net income would have been as follows:
FOR THE THREE MONTHS -------------------- ENDED MARCH 31, --------------- 2004 2003 ---- ---- (in thousands, except per share amounts) Net income, as reported ............................................................. $ 10,487 $ 14,816 Deduct: Total stock-based employee compensation expense determined under fair value based method for all awards, net of related tax effects .......... (1,024) (1,259) ---------- ---------- Pro forma net income ................................................................ $ 9,463 $ 13,557 ========== ========== Earnings per share: Basic - as reported ............................................................... $ 0.47 $ 0.66 Basic - pro forma ................................................................. $ 0.42 $ 0.61 Diluted - as reported ............................................................. $ 0.45 $ 0.64 Diluted - pro forma ............................................................... $ 0.40 $ 0.59
Vehicle Service Contract Obligations In November 2002, FASB Interpretation ("FIN") No. 45, "Guarantor's Accounting and Disclosure Requirements for Guarantees, Including Indirect Guarantees of Indebtedness of Others" was issued. FIN No. 45 enhances the disclosures to be made by a guarantor about its obligations under certain guarantees that it has issued. It also requires, on a prospective basis, beginning January 1, 2003, that guarantors recognize, at the inception of a guarantee, a liability for the fair value of the obligation undertaken in issuing the guarantee. While the Company is not an obligor under the vehicle service contracts it currently sells, it is an obligor under vehicle service contracts previously sold in two states. The contracts were sold to our retail vehicle customers with terms, typically, ranging from two to seven years. The purchase price paid by the customer, net of the fee the Company received, was remitted to an administrator. The administrator set the pricing at a level adequate to fund expected future claims and their profit. Additionally, the administrator purchased insurance to further secure its ability to pay the claims under the contracts. The Company can become liable if the administrator and the insurance company are unable to fund future claims. Though the Company has never had to fund any claims related to these contracts, and reviews the credit worthiness of the administrator and the insurance company, it is unable to estimate the maximum potential claim exposure, but believes there will not be any future obligation to fund claims on the contracts. The Company's revenues related to these contracts were deferred at the time of sale and are being recognized over the life of the contracts. The amounts deferred are presented on the face of the balance sheets as deferred revenues from vehicle service contract sales. Income Taxes The Company operates in ten different states, each of which has unique tax rates and payment calculations. As the amount of income generated in each state varies from period to period, the Company's effective tax rate will vary based on the proportion of taxable income generated in each state. Recent Accounting Pronouncements In January 2003, FIN No. 46, "Consolidation of Variable Interest Entities" was issued. FIN No. 46 clarifies the application of Accounting Research Bulletin No. 51, "Consolidated Financial Statements," to variable interest entities, which are certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity at risk for the entity to finance its activities without additional subordinated support from other parties. The interpretation is intended to achieve more consistent application of consolidation policies to variable interest entities and thus, to improve 6 comparability between enterprises engaged in similar activities even if some of those activities are conducted through variable interest entities. In December 2003, the FASB issued a revision to FIN No. 46, ("FIN No. 46R"), to clarify some of the provisions of FIN No. 46 and to exempt certain entities from its requirements. The provisions of the interpretation were adopted as of March 31, 2004, for the Company's interests in all variable interest entities ("VIEs"). The implementation of the interpretation did not require the Company to change its historical presentation for the entities determined to be VIEs. Certain wholly-owned subsidiaries were determined to be VIEs due to their capital structures. As the Company was determined to be the primary beneficiary, the Company continues to consolidate the operations of these subsidiaries. Additionally, the Company determined that certain arrangements that allow the Company to participate in the residual profits on certain products sold are also VIEs. However, for these arrangements, the Company determined that it was not the primary beneficiary and it believes the Company has no exposure to loss as a result of these arrangements. Reclassifications Certain reclassifications have been made in the 2003 financial statements to conform to the current period presentation. 3. EARNINGS PER SHARE: SFAS No. 128, "Earnings per Share" requires the presentation of basic earnings per share and diluted earnings per share in financial statements of public enterprises. Under the provisions of this statement, basic earnings per share is computed based on weighted average shares outstanding and excludes dilutive securities. Diluted earnings per share is computed including the impacts of all potentially dilutive securities. The following table sets forth the shares outstanding for the earnings per share calculations:
THREE MONTHS ENDED ------------------ MARCH 31, --------- 2004 2003 ---- ---- Common stock issued, beginning of period ........................ 23,454,046 23,183,226 Weighted average common stock issued - Acquisitions ............................................... 30,472 -- Employee Stock Purchase Plan ............................... 26,964 44,913 Stock options exercised .................................... 38,210 109,302 Less: Weighted average treasury shares held and weighted average shares repurchased and cancelled ........... (1,026,193) (973,839) ---------- ---------- Shares used in computing basic earnings per share ............... 22,523,499 22,363,602 Dilutive effect of stock options, net of assumed repurchase of treasury stock ............................... 866,306 647,046 ---------- ---------- Shares used in computing diluted earnings per share ............. 23,389,805 23,010,648 ========== ==========
The weighted average common stock issued amounts above, for the three month period ended March 31, 2004, were derived from total shares issued during the period of: Acquisitions.................................... 54,372 Employee Stock Purchase Plan.................... 26,964 Stock options exercised......................... 103,469
4. BUSINESS COMBINATIONS AND DISPOSITIONS: During the first three months of 2004, the Company purchased five automobile dealership franchises in New Jersey, Central Texas and Boston. The acquisitions were accounted for as purchases. The aggregate consideration paid in completing the acquisitions included approximately $43.7 million in cash, net of cash received, the assumption of an estimated $30.9 million of inventory financing and the 7 issuance of 54,372 shares of common stock. The consolidated balance sheet includes preliminary allocations of the purchase price for all of the acquisitions, and the allocations are subject to final adjustment. These allocations resulted in recording approximately $19.0 million of franchise value intangible assets and $23.8 million of goodwill. 5. SENIOR SUBORDINATED NOTES: During August 2003, the Company issued 8 1/4% Senior Subordinated Notes due 2013 (the "8 1/4% Notes") with a face amount of $150.0 million. The 8 1/4% Notes pay interest semi-annually on February 15 and August 15, each year beginning February 15, 2004. The 8 1/4% Notes have the following redemption provisions: - The Company, before August 15, 2006, may redeem up to $52.5 million of the 8 1/4% Notes with the proceeds of certain public offerings of common stock at a redemption price of 108.250% of the principal amount plus accrued interest. - The Company may redeem all or a portion of the 8 1/4% Notes prior to August 15, 2008, at a redemption price equal to the principal amount plus a make-whole premium to be determined, plus accrued interest. - The Company may redeem all or a portion of the 8 1/4% Notes at redemption prices of 104.125%, 102.750%, 101.375% and 100.000% of the principal amount plus accrued interest during the twelve-month periods beginning August 15, 2008, 2009, 2010 and 2011 and thereafter, respectively. The 8 1/4% Notes are jointly and severally and fully and unconditionally guaranteed, on an unsecured senior subordinated basis, by all subsidiaries of the Company, other than certain minor subsidiaries (the "Subsidiary Guarantors"). All of the Subsidiary Guarantors are wholly-owned subsidiaries of the Company. Additionally, the 8 1/4% Notes are subject to various covenants, including financial ratios, and other requirements that must be maintained by the Company. On March 1, 2004, the Company completed the redemption of all of its 10 7/8% senior subordinated notes at a redemption price of 105.438% of the principal amount of the notes. The Company incurred a $6.4 million pretax charge in completing the redemption, consisting of a $4.1 million redemption premium and a $2.3 million non-cash write-off of unamortized bond discount and deferred cost. Total cash used in completing the redemption, excluding accrued interest of $4.1 million, totaled $79.5 million. 6. COMPREHENSIVE INCOME:
THREE MONTHS ENDED ------------------ MARCH 31, --------- 2004 2003 ---- ---- (dollars in thousands) Net income ...................................................... $10,487 $14,816 Other comprehensive income: Change in fair value of interest rate swaps, net of tax .... 320 425 ------- ------- Comprehensive income ............................................ $10,807 $15,241 ======= =======
7. COMMITMENTS AND CONTINGENCIES: From time to time, the Company's dealerships are named in claims involving the manufacturer of automobiles, contractual disputes and other matters arising in the ordinary course of business. The Texas Automobile Dealers Association ("TADA") and certain new vehicle dealerships in Texas that are members of the TADA, including a number of the Company's Texas dealership subsidiaries, have been named in two state court class action lawsuits and one federal court class action lawsuit. The three actions allege that since January 1994, Texas dealers have deceived customers with respect to a vehicle 8 inventory tax and violated federal antitrust and other laws. In April 2002, the state court in which two of the actions are pending certified classes of consumers on whose behalf the action would proceed. On October 25, 2002, the Texas Court of Appeals affirmed the trial court's order of class certification in the state court actions. The defendant parties petitioned the Texas Supreme Court for review of that certification decision on appeal, and on March 26, 2004, the court denied those petitions. The defendant parties intend to seek a rehearing of the petitions for review, which is due May 10, 2004. In the other action, on March 26, 2003, the federal court also certified a class of consumers, but denied a request to certify a defendants' class consisting of all TADA members. On May 19, 2003, the Fifth Circuit Court of Appeals granted a request for permission to appeal the class certification ruling of the lower federal court. Briefing on the merits of defendants' appeal was completed on February 13, 2004. The parties participated in mediation in 2003. That mediation resulted in a settlement proposal from the plaintiff class representatives to the defendant dealers, including the Company's Texas dealership subsidiaries. The proposal was contingent on achieving a certain minimum level of participation among the defendant dealers based on the number of transactions in which each dealer engaged. Because the participation threshold was not satisfied, the proposal failed. While the Company does not believe this litigation will have a material adverse effect on its financial condition or results of operations, no assurance can be given as to its ultimate outcome. A settlement or an adverse resolution of this matter could result in the payment of significant costs and damages. In addition to the foregoing cases, there are currently no legal proceedings pending against or involving the Company that, in management's opinion, based on current known facts and circumstances, are expected to have a material adverse effect on the Company's financial position. 9 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following should be read in conjunction with the response to Part I, Item 1 of this Report and our other filings with the Securities and Exchange Commission ("SEC"). OVERVIEW We are a leading operator in the $1 trillion automotive retailing industry. Through a series of acquisitions, we operate 123 dealership franchises in California, Colorado, Florida, Georgia, Louisiana, Massachusetts, New Jersey, New Mexico, Oklahoma and Texas. Through our dealerships and Internet sites, we sell new and used cars and light trucks; arrange related financing, vehicle service and insurance contracts; provide maintenance and repair services; and sell replacement parts. We also operate 30 collision service centers. The following table sets forth our brand diversity, based on new vehicle retail unit sales, and the number of franchises we own:
THREE MONTHS ENDED MARCH 31, 2004 --------------------------------- ACTUAL NUMBER PERCENTAGE OF NUMBER OF OF NEW TOTAL NEW FRANCHISES OWNED BRAND VEHICLES SOLD VEHICLES SOLD AS OF APRIL 26, 2004 ----- ------------- ------------- -------------------- Toyota/Scion......... 5,343 21.8% 10 Ford................. 4,801 19.6 14 Nissan............... 2,411 9.9 10 Honda................ 2,093 8.6 6 Chevrolet............ 1,828 7.5 7 Dodge................ 1,754 7.2 9 Lexus................ 1,229 5.0 2 Jeep................. 692 2.8 7 Chrysler............. 558 2.3 7 GMC.................. 432 1.8 4 Infiniti............. 428 1.7 1 Acura................ 428 1.7 2 Mitsubishi........... 408 1.7 6 Lincoln.............. 288 1.2 6 Mazda................ 248 1.0 2 Mercedes-Benz........ 228 0.9 2 Mercury.............. 212 0.9 7 Subaru............... 162 0.7 1 Audi................. 146 0.6 1 Pontiac.............. 146 0.6 4 Volkswagen........... 145 0.6 2 Buick................ 101 0.4 4 BMW.................. 99 0.4 2 Hyundai.............. 75 0.3 1 Cadillac............. 74 0.3 2 Kia.................. 38 0.2 1 Porsche.............. 31 0.1 1 Isuzu................ 20 0.1 1 Hummer............... 14 0.1 1 ------ ----- --- TOTAL........... 24,432 100.0% 123 ====== ===== ===
10 The following table sets forth our geographic diversity, based on new vehicle retail unit sales, and the number of dealerships and franchises we own:
PERCENTAGE OF OUR NEW VEHICLE RETAIL UNITS AS OF APRIL 26, 2004 SOLD DURING THE THREE --------------------------------------- MONTHS ENDED NUMBER OF NUMBER OF MARKET AREA MARCH 31, 2004 DEALERSHIPS FRANCHISES ----------- -------------- ----------- ---------- Oklahoma.............. 12.7% 13 22 Houston............... 12.5 7 6 New England........... 12.5 11 14 California............ 12.1 7 7 Central Texas......... 7.7 7 9 New Orleans........... 7.2 7 10 West Texas............ 7.2 8 15 Florida............... 6.7 4 4 Dallas................ 6.1 4 7 Atlanta............... 5.7 6 8 Beaumont.............. 3.0 2 10 New Mexico............ 3.0 3 7 New Jersey............ 2.4 3 3 Denver................ 1.2 1 1 ----- ---- --- TOTAL.............. 100.0% 83 123 ===== ==== ===
We have diverse sources of automotive retailing revenues, including: new car sales, new truck sales, used car sales, used truck sales, manufacturer remarketed vehicle sales, parts sales, service sales, collision repair service sales, financing fees, vehicle service contract fees, insurance fees and after-market product sales. Sales revenues from new and used vehicle sales and parts and service sales include sales to retail customers, other dealerships and wholesalers. Finance and insurance revenues include fees from arranging financing, vehicle service and insurance contracts, net of a provision for anticipated chargebacks. Our total gross margin varies as our merchandise mix (the mix between new vehicle sales, used vehicle sales (retail and wholesale), parts and service sales, collision repair service sales and finance and insurance revenues) changes. Our gross margin on the sale of products and services varies significantly, with new vehicle sales generally resulting in the lowest gross margin and finance and insurance revenues generally resulting in the highest gross margin. When our new vehicle sales increase or decrease at a rate greater than our other revenue sources, our gross margin responds inversely. Factors such as seasonality, weather, cyclicality and manufacturers' advertising and incentives may impact our merchandise mix, and therefore influence our gross margin. Selling, general and administrative expenses consist primarily of incentive-based compensation for sales, finance and general management personnel, salaries for administrative personnel and expenses for rent, marketing, insurance and utilities. We believe that a majority of our selling, general and administrative expenses are variable, allowing us to adjust our cost structure based on business trends. However, it takes several months to adjust our cost structure when business volume changes significantly. Interest expense consists of interest charges on interest-bearing debt, which is generally based on variable rates. We receive interest assistance from several of our manufacturers. This assistance, which is reflected as a reduction of cost of sales, has ranged between 90% and 160% of floorplan interest expense over the past three years, mitigating the impact of interest rate changes on our financial results. We have grown our business through acquisitions. Since January 1, 1999, we have purchased 84 dealership franchises with annual revenues, estimated at the time of acquisition, of approximately $2.9 billion, disposed of 22 dealership franchises with annual revenues of approximately $277.2 million and been granted 12 new dealership franchises by the manufacturers. Our acquisition target for 2004 is to complete platform and tuck-in acquisitions of dealerships that have approximately $1 billion in annual revenues. 11 SELECTED OPERATIONAL AND FINANCIAL DATA FOR THE THREE MONTH PERIODS ENDED MARCH 31, 2004 AND MARCH 31, 2003 NEW VEHICLE DATA
(dollars in thousands, INCREASE/ PERCENT except per unit amounts) 2004 2003 (DECREASE) CHANGE ---- ---- ---------- ------ Retail unit sales ..................................... 24,432 22,177 2,255 10.2% Retail sales revenues ................................. $675,977 $593,754 $ 82,223 13.8% Gross profit (1) ...................................... $ 47,893 $ 42,725 $ 5,168 12.1% Average gross profit per retail unit sold ............. $ 1,960 $ 1,927 $ 33 1.7% Gross margin (1) ...................................... 7.1% 7.2% (0.1)%
- ------------------ (1) Interest assistance is recorded as a reduction of cost of sales, as the vehicles are sold to third parties. Interest assistance varies with changes in interest rates and will impact gross margin. USED VEHICLE DATA
(dollars in thousands, INCREASE/ PERCENT except per unit amounts) 2004 2003 (DECREASE) CHANGE ---- ---- ---------- ------- Retail unit sales ........................... 16,186 16,312 (126) (0.8)% Wholesale unit sales ........................ 10,790 10,097 693 6.9 % Retail sales revenues ....................... $ 230,655 $ 225,198 $ 5,457 2.4% Wholesale sales revenues .................... 76,191 61,004 15,187 24.9% --------- --------- --------- Total revenues ........................... $ 306,846 $ 286,202 $ 20,644 7.2% Total gross profit .......................... $ 27,590 $ 26,345 $ 1,245 4.7% Total gross margin (1) ...................... 9.0% 9.2% (0.2)% Average gross profit per retail unit sold (2) ............................ $ 1,705 $ 1,615 $ 90 5.6% Retail gross margin (1) ..................... 12.0% 11.7% 0.3% Net wholesale loss .......................... $ (980) $ (1,795) $ 815 (45.4)% Average wholesale loss per wholesale unit sold ...................... $ (91) $ (178) $ 87 (48.9)% Wholesale gross margin ...................... (1.3)% (2.9)% 1.6%
- ------------------ (1) Total gross margin equals total gross profit divided by total revenues. Retail gross margin equals total gross profit, which includes net wholesale loss, divided by retail sales revenues. The profit or loss on wholesale sales is included in this number, as these transactions facilitate retail vehicle sales and are not expected to generate profit. (2) Average gross profit per retail unit sold equals total gross profit, which includes net wholesale loss, divided by retail unit sales. The profit or loss on wholesale sales is included in this number, as these transactions facilitate retail vehicle sales and are not expected to generate profit. PARTS AND SERVICE DATA
INCREASE/ PERCENT (dollars in thousands) 2004 2003 (DECREASE) CHANGE - ---------------------- ---- ---- ---------- ------- Sales revenues ................. $124,020 $111,113 $ 12,907 11.6 % Gross profit ................... $ 67,761 $ 61,656 $ 6,105 9.9 % Gross margin ................... 54.6% 55.5% (0.9)%
12 FINANCE AND INSURANCE DATA
(dollars in thousands, INCREASE/ PERCENT except per unit amounts) 2004 2003 (DECREASE) CHANGE ---- ---- ---------- ------ Retail new and used unit sales .............. 40,618 38,489 2,129 5.5% Retail finance fees ......................... $15,562 $15,179 $ 383 2.5% Vehicle service contract fees ............... 15,546 15,198 348 2.3% Other finance and insurance revenues ........ 9,076 8,345 731 8.8% ------- ------- ------- Total finance and insurance revenues ..... $40,184 $38,722 $ 1,462 3.8% Finance and insurance, net per retail unit sold .......................... $ 989 $ 1,006 $ (17) (1.7)%
SAME STORE REVENUES COMPARISON (1)
INCREASE/ PERCENT (dollars in thousands) 2004 2003 (DECREASE) CHANGE ---- ---- ---------- ------- New vehicle retail sales .......... $ 613,167 $ 571,520 $ 41,647 7.3% Used vehicle retail sales ......... 213,249 217,510 (4,261) (2.0)% Used vehicle wholesale sales ...... 70,937 59,159 11,778 19.9% Parts and service sales ........... 115,431 107,974 7,457 6.9% Retail finance fees ............... 14,410 14,409 1 -- Vehicle service contract fees ..... 12,909 13,056 (147) (1.1)% Other finance and insurance revenues, net ................... 7,370 7,787 (417) (5.4)% ---------- ---------- ---------- Total same store revenues ...... $1,047,473 $ 991,415 $ 56,058 5.7%
- --------------- (1) Includes only those dealerships owned during all of the months of both periods in the comparison. THREE MONTHS ENDED MARCH 31, 2004 COMPARED WITH THREE MONTHS ENDED MARCH 31, 2003 OVERVIEW. Net income decreased $4.3 million, or 29.1%, to $10.5 million for the three months ended March 31, 2004, from $14.8 million for the three months ended March 31, 2003. Diluted earnings per share decreased $0.19, or 29.7%, to $0.45 from $0.64. The decrease in net income and diluted earnings per share was primarily the result of the $6.4 million pretax charge related to the redemption of all of our outstanding 10 7/8% senior subordinated notes. We benefited from growth in same store sales and the accretive impact of acquisitions and were negatively impacted by increased interest expense from our issuance of $150.0 million principal amount of 8 1/4% senior subordinated notes in August 2003, and continued unfavorable results from our Atlanta operations. REVENUES. Revenues increased $117.2 million, or 11.4%, to $1,147.0 million for the three months ended March 31, 2004, from $1,029.8 million for the three months ended March 31, 2003. The growth in total revenues came from a same store revenues increase of $56.1 million and acquisitions. New vehicle revenues increased $82.2 million, due to a same store revenues increase of $41.6 million and revenues from acquired operations. The same store revenues increase reflected the growth in the new vehicle market in the United States for the three months ended March 31, 2004. In particular, our Toyota, Nissan and Dodge franchises showed the greatest increases in unit sales, while our Ford, Mitsubishi and Honda franchises showed the largest declines, as was the case in the United States' new vehicle market in general. Our used vehicle retail revenues increased $5.5 million as revenues from acquired operations were partially offset by a $4.3 million decline in our same store sales. Used vehicle retail sales volumes are significantly impacted by the volume and prices of new vehicle sales, and thus are strongly influenced by the level of, and changes in, manufacturer incentives on new vehicle sales. Incentives on new vehicle sales during the first three months of 2004, though higher than during the first three months of 2003, were consistent with the incentive levels during the last three months of 2003. As such, the used vehicle market 13 began stabilizing during the first three months of 2004 and our used vehicle same store retail sales declined only 2.0%, as compared to a decline of 11.6% for all of 2003. Used vehicle wholesale sales increased $15.2 million as the increase in trade-ins received on higher new vehicle sales, without a corresponding increase in used vehicle retail sales, required us to wholesale more used vehicles to keep inventory turns on target and inventory levels in line with expected retail sales volumes. The increase in parts and service revenues of $12.9 million included a same store revenues increase of $7.5 million. The same store revenues increase was driven by increased customer-pay and warranty parts and service sales and wholesale parts sales. The increase in wholesale parts sales is due primarily to growth in our Oklahoma City and Dallas wholesale parts operations. Retail finance fee revenues increased $0.4 million from acquisitions as same store sales were flat, on consistent retail unit sales. Vehicle service contract fee revenues increased $0.3 million, net of a $0.4 million decline in the revenues recognized related to contracts requiring revenue deferral over the life of the contracts. During 2004 we have not sold any contracts requiring revenue and cost deferral. We expect the deferred revenues balance at March 31, 2004, and the associated deferred costs, to be recognized over the next four years. The increases were partially offset by a slight same store sales decrease of $0.1 million. Other finance and insurance revenues increased $0.7 million, of which $0.4 million was from an increase in the revenues recognized related to contracts requiring revenue deferral over the life of the contracts. The deferred revenues consist primarily of amounts related to sales of credit life and accident and health insurance contracts, which are reinsured by companies we own. The remainder is related to certain products sold in two platforms in prior years. The platforms have not sold a significant number of contracts requiring revenue and cost deferral during 2004, thus, we expect the majority of the remaining deferred revenues, and associated deferred costs, to be recognized over the next four years. The increases were partially offset by a slight same store sales decline of $0.4 million. GROSS PROFIT. Gross profit increased $14.0 million, or 8.3%, to $183.4 million for the three months ended March 31, 2004, from $169.4 million for the three months ended March 31, 2003. The increase was attributable to increased revenues and was partially offset by a decline in gross margin to 16.0% for the three months ended March 31, 2004, from 16.5% for the three months ended March 31, 2003. The gross margin decreased as lower margin new vehicle revenues increased as a percentage of total revenues, and we had slightly lower gross margins in new and used vehicle sales and parts and service sales and slightly reduced finance and insurance revenues per retail unit sold. Our new vehicle gross profit per retail unit sold increased slightly to $1,960 for the three months ended March 31, 2004, from $1,927 for the three months ended March 31, 2003. The gross margin on new retail vehicle sales decreased slightly to 7.1% from 7.2%, due to an increase in the average selling price of vehicles sold. Our used vehicle gross profit per retail unit sold increased to $1,705 for the three months ended March 31, 2004, from $1,615 for the three months ended March 31, 2003 and our wholesale loss per wholesale unit sold decreased to $91 from $178, resulting in reduced wholesale losses in total. Our retail and wholesale gross profit per unit improvements resulted from improved used vehicle market conditions as the level of incentives on new vehicle sales stabilized, resulting in reduced pricing pressure on used vehicles. Our parts and service gross margin declined from 55.5% for the three months ended March 31, 2003, to 54.6% for the three months ended March 31, 2004. The decline was due to parts wholesale sales revenues, which have a lower gross margin, growing faster than our other higher gross margin parts and service revenues. The slight decrease in finance and insurance revenues per retail unit sold from $1,006 per retail unit sold for the three months ended March 31, 2003, to $989 per retail unit sold for the three months ended March 31, 2004, was due primarily to the newly acquired New Jersey operations contributing less revenue per retail unit than the existing group average. 14 SELLING, GENERAL AND ADMINISTRATIVE EXPENSES. Selling, general and administrative expenses increased $11.9 million, or 8.8%, to $146.7 million for the three months ended March 31, 2004, from $134.8 million for the three months ended March 31, 2003. The increase was primarily attributable to the additional operations acquired. Selling, general and administrative expenses increased slightly as a percentage of gross profit to 80.0% from 79.6% due primarily to below expected operating performance in our Atlanta operations. Excluding the gross profit and selling, general and administrative expenses of our Atlanta operations from the three month periods ended March 31, 2003 and 2004, our selling, general and administrative expenses as a percentage of gross profit would have been consistent when comparing the two periods. INTEREST EXPENSE. Floorplan and other interest expense, net, increased $1.7 million, or 21.8%, to $9.5 million for the three months ended March 31, 2004, from $7.8 million for the three months ended March 31, 2003. The increase was due to an increase in the average balance of debt outstanding, partially offset by lower interest rates. During the first three months of 2004, our average debt outstanding increased due to the issuance, in August 2003, of $150.0 million of 8 1/4% senior subordinated notes, partially offset by reduced average floorplan borrowings outstanding and the redemption of our outstanding 10 7/8% senior subordinated notes on March 1, 2004. Average floorplan borrowings decreased because we used the proceeds from our 8 1/4% senior subordinated notes offering, completed in August 2003, to temporarily pay down our floorplan notes payable. During the first three months of 2004 we reborrowed a portion of the amounts used to pay down our floorplan borrowings for acquisitions and the redemption of all of our 10 7/8% senior subordinated notes. Interest expense on our floorplan notes payable and acquisition borrowings under the bank credit facility is based on LIBOR plus a spread. During the first three months of 2004, there was an approximately 24 basis point reduction in the average LIBOR rate as compared to the first three months of 2003. LIQUIDITY AND CAPITAL RESOURCES Our principal sources of liquidity are cash on hand; cash from operations; our credit facilities, which provide floorplan, working capital and acquisition financing; and future equity and debt offerings. CASH FLOWS Total cash at March 31, 2004, was $32.3 million. OPERATING ACTIVITIES. Net income plus depreciation and amortization is generally a good indicator of our operating cash flow as revenues are converted into cash in a very short time frame, typically less than two weeks, and there are very few deferred expenses. Additionally, while our inventory balances can change dramatically from period to period, there is typically little impact on cash flow from operations as changes in contracts-in-transit, vehicle receivables and floorplan notes payable generally combine to offset the impact of the inventory change. For the three months ended March 31, 2004, we generated $17.7 million in net cash from operating activities, primarily driven by net income plus depreciation and amortization. Also impacting cash flows from operations for the three months ended March 31, 2004, was the $6.4 million pretax loss on the redemption of our 10 7/8% senior subordinated notes. For the three months ended March 31, 2003, we generated $15.5 million of net cash from operating activities, primarily driven by net income plus depreciation and amortization. INVESTING ACTIVITIES. During the first three months of 2004, the $58.8 million of cash used for investing activities was primarily attributable to the use of $43.7 million of cash in acquisitions, net of cash balances obtained in the acquisitions, and $15.0 million for purchases of property and equipment. Approximately $11.7 million of the property and equipment purchases were for the purchase of land and construction of new or expanded facilities. During the three months ended March 31, 2003, we used approximately $13.6 million in investing activities. We paid $12.2 million for purchases of property and equipment, of which $9.8 million was used 15 for the purchase of land and construction of facilities for new or expanded operations. We received $4.7 million in proceeds from the sales of property and equipment. We used $12.7 million in the acquisitions of three franchises and received $7.4 million from the sale of one franchise, for which no gain was recognized. FINANCING ACTIVITIES. We obtained approximately $48.0 million in financing activities during the first three months of 2004, primarily from borrowings. Partially offsetting the funds obtained through borrowings was the use of $79.5 million to complete the redemption of all of our 10 7/8% senior subordinated notes. Additionally, we spent $7.0 million for repurchases of common stock. During the three months ended March 31, 2003, we used approximately $6.0 million in financing activities, primarily for payments on our revolving credit facility and repurchases of common stock, net of proceeds from the issuances of stock to our benefit plans. WORKING CAPITAL. At March 31, 2004, we had working capital of $155.8 million, which is approximately $30 million higher than we believe we need to operate our existing business. We expect to use the excess working capital to fund acquisitions and anticipated capital expenditures. Historically, we have funded our operations with internally generated cash flow and borrowings. While we cannot guarantee it, based on current facts and circumstances, we believe we have adequate cash flow coupled with borrowing capacity under our credit facility to fund our current operations, capital expenditures and acquisitions budgeted for 2004. If our capital expenditure or acquisition plans for 2004 change, we may need to access the private or public capital markets to obtain additional funding. Changes in our working capital are driven primarily by changes in floorplan notes payable outstanding. Borrowings on our new vehicle floorplan notes payable, subject to agreed upon pay off terms, are equal to 100% of the factory invoice of the vehicles. Borrowings on our used vehicle floorplan notes payable, subject to agreed upon pay off terms, are limited to 55% of the aggregate book value of our used vehicle inventory. At times, we have made payments on our floorplan notes payable using excess cash flow from operations and the proceeds of debt and equity offerings. As needed, we reborrow the amounts later, up to the limits on the floorplan notes payable discussed above, for working capital, acquisitions, capital expenditures or general corporate purposes. During the three month period ended March 31, 2004, we reborrowed amounts previously used to pay down our floorplan borrowings in order to complete the redemption of our 10 7/8% senior subordinated notes and acquisitions, among other uses. The uses of funds resulted in an approximately $132.0 million increase in floorplan notes payable, before considering the impact of increased inventories, which also resulted in additional floorplan borrowings. SENIOR SUBORDINATED NOTES REDEMPTION On March 1, 2004, we completed the redemption of all of our 10 7/8% senior subordinated notes. We incurred a $6.4 million pretax charge in completing the redemption, consisting of a $4.1 million redemption premium and a $2.3 million non-cash write-off of unamortized bond discount and deferred cost. Total cash used in completing the redemption, excluding accrued interest of $4.1 million, totaled $79.5 million. CAPITAL EXPENDITURES Our capital expenditures include expenditures to extend the useful life of current facilities and expenditures to start or expand operations. Historically, our annual capital expenditures, exclusive of new or expanded operations, have approximately equaled our annual depreciation charge. Expenditures relating to the construction or expansion of dealership facilities, generally, are driven by new franchises being awarded to us by a manufacturer, significant growth in sales at an existing facility or manufacturer imaging programs. ACQUISITIONS AND ACQUISITION FINANCING Our acquisition target for 2004 is to complete platform and tuck-in acquisitions that have approximately $1 billion in annual revenues. We expect the cash needed to complete our acquisitions will come from excess working capital, operating cash flows of our dealerships and borrowings under our credit facility. Depending on the market value of our common stock, we may issue common stock to fund a portion of the purchase price of acquisitions. We purchase businesses based on expected return on 16 investment. Generally, the purchase price is approximately 15% to 20% of the annual revenue. Thus our targeted acquisition budget of $1 billion is expected to cost us between $150 and $200 million, which is expected to be funded with a blend of cash and the issuance of common stock. Since December 31, 2003, we have completed acquisitions of five franchises with expected annual revenues of approximately $315 million. One of the acquisitions, with three franchises, is a new platform in New Jersey. The other franchises were acquired in tuck-in acquisitions and complement platform operations in Central Texas and Boston. The aggregate consideration paid in completing these acquisitions was approximately $43.7 million in cash, net of cash received, 54,372 shares of common stock and the assumption of $30.9 million of inventory financing. STOCK REPURCHASE In March 2004, the board of directors authorized us to repurchase up to $25.0 million of our stock, subject to management's judgment and the restrictions of our various debt agreements. Our agreements, subject to other covenants, allow us to use a percentage of our cumulative net income to repurchase stock and pay dividends. During the first three months of 2004, we repurchased approximately 195,000 shares for approximately $7.0 million, a portion of which were purchased under the board authorization established in February 2003, with the remainder purchased under the March 2004 authorization. As of March 31, 2004, $18.9 million remained under the board of directors' March 2004 authorization. However, as of March 31, 2004, our most restrictive agreement with respect to stock repurchases, our 8 1/4% senior subordinated notes, limits our capacity to repurchase stock to $17.6 million. This amount adjusts based on future net income and issuances of common stock. See additional stock repurchase information set forth under the heading "Other Information - Changes in Securities." CHANGES IN CONTRACTUAL OBLIGATIONS The following information about our contractual obligations updates the information provided as of December 31, 2003, in our Annual Report on Form 10-K. Since December 31, 2003, we have redeemed all $75.4 million principal amount of our 10 7/8% senior subordinated notes due 2009. Also, our floorplan notes payable have increased from $493.6 million at December 31, 2003, to $710.0 million at March 31, 2004, due to increased inventory levels and increased leverage on our inventory, as we borrowed the funds to complete acquisitions and redeem the 10 7/8% senior subordinated notes. DISCUSSION OF CRITICAL ACCOUNTING POLICIES The preparation of financial statements in conformity with accounting principles generally accepted in the United States requires us to make estimates and assumptions in determining the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. The significant estimates made by us in the accompanying consolidated financial statements relate to reserves for inventory valuations and future chargebacks on finance and vehicle service contract fees, and valuation of intangible assets. Actual results could differ from those estimates. Critical accounting policies are those that are both most important to the portrayal of a company's financial position and results of operations, and require management's most difficult, subjective or complex judgments. Below is a discussion of what we believe are our critical accounting policies. See Note 2 to our consolidated financial statements included in our Annual Report on Form 10-K for the year ended December 31, 2003. INVENTORIES New, used and demonstrator vehicles are stated at the lower of cost or market. Vehicle inventory cost consists of the amount paid to acquire the inventory, plus reconditioning cost, cost of equipment added and transportation cost. Additionally, we receive interest assistance from some of our manufacturers. The assistance is accounted for as a vehicle purchase price discount and is reflected as a reduction to the inventory cost on the balance sheet and as a reduction to cost of sales in the income statement as the vehicles are sold. Parts and accessories are stated at the lower of cost (determined on a first-in, first-out basis) or market. As the market value of our inventories typically declines with the passage 17 of time, valuation reserves are provided against the inventory balances based on the historical loss experience and market trends. Additionally, used vehicles present added complexity to the inventory valuation process. There is no standardized source for determining exact values, as each vehicle and each market we operate in, is unique. As such, these factors are also considered in determining the appropriate level of valuation reserves. RETAIL FINANCE AND VEHICLE SERVICE CONTRACT REVENUES RECOGNITION We arrange financing for customers through various institutions and receive financing fees based on the difference between the loan rates charged to customers over predetermined financing rates set by the financing institution. In addition, we receive fees from the sale of vehicle service contracts to customers. We may be charged back ("chargebacks") for unearned financing fees or vehicle service contract fees in the event of early termination of the contracts by customers. The revenues from financing fees and vehicle service contract fees in administrator-obligor states are recorded at the time of the sale of the vehicles and a reserve for future chargebacks is established based on historical operating results and the termination provisions of the applicable contracts. In dealer-obligor states, revenues from vehicle service contract fees and related direct costs are deferred and recognized over the life of the contracts. Due to changes in state law during 2002, none of the states we currently operate in are dealer-obligor states. INTANGIBLE ASSETS In June 2001, SFAS No. 142, "Goodwill and Other Intangible Assets" was issued. SFAS No. 142 changes the treatment of goodwill by no longer amortizing goodwill; however, other identifiable intangible assets are to be separately recognized and amortized, as applicable. The statement requires, at least annually, an assessment for impairment of goodwill and other indefinite life intangible assets by applying a fair-value based test. We complete the required assessment at the end of each calendar year, and at such other times as required by events or circumstances at a reporting unit indicating a potential reduction of fair value below book value. In performing the assessment, we estimate the fair value of our intangibles using a calculation based on the historical and expected cash flows of the dealerships, market trends and conditions, review of completed transactions and current market valuations. A portion of our intangible assets relates to franchise value, which is considered to have an indefinite life, with goodwill accounting for the remainder. As of December 31, 2003, no impairment of any intangible assets or goodwill resulted from the required assessment; however, changes in facts and circumstances surrounding this estimate could result in an impairment in the future. LEGAL PROCEEDINGS From time to time our dealerships are named in claims involving the manufacture of automobiles, contractual disputes and other matters arising in the ordinary course of business. Currently, no legal proceedings are pending against or involve us that, in our opinion, could be expected to have a material adverse effect on our business, financial condition or results of operations. However, the results of these proceedings cannot be predicted with certainty, and changes in facts and circumstances could impact our estimate for reserves for legal proceedings. See further discussion set forth under the heading "Other Information - Legal Proceedings." SELF-INSURANCE RESERVES We are self-insured for a portion of the claims related to our employee medical benefits and property/casualty insurance programs, requiring us to make estimates regarding expected claims to be incurred. These estimates, for the portion of claims not covered by stop-loss insurance, are based on certain actuarial assumptions, and our historical claims experience. Changes in the frequency or severity of claims could impact our reserve for claims. 18 CAUTIONARY STATEMENT ABOUT FORWARD LOOKING STATEMENTS This quarterly report includes certain "forward-looking statements" within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These statements include statements regarding our plans, goals, beliefs or current expectations, including those plans, goals, beliefs and expectations of our officers and directors with respect to, among other things: - the completion of future acquisitions - operating cash flows and availability of capital - future stock repurchases - capital expenditures - changes in sales volumes in the new and used vehicle and parts and service markets - business trends, including incentives, product cycles and interest rates - availability of financing for inventory and working capital - inventory levels Any such forward-looking statements are not assurances of future performance and involve risks and uncertainties. Actual results may differ materially from anticipated results in the forward-looking statements for a number of reasons, including: - the future economic environment, including consumer confidence, interest rates, the price of gasoline, the level of manufacturer incentives and the availability of consumer credit may affect the demand for new and used vehicles and parts and service sales - the effect of adverse international developments such as war, terrorism, political conflicts or other hostilities - regulatory environment, adverse legislation, or unexpected litigation - our principal automobile manufacturers, especially Toyota/Lexus, Ford, DaimlerChrysler, GM and Nissan/Infiniti, may not continue to produce or make available to us vehicles that are in high demand by our customers - requirements imposed on us by our manufacturers may limit our acquisitions and affect capital expenditures related to our dealership facilities - our dealership operations may not perform at expected levels or achieve expected improvements - we may not achieve expected future cost savings and our future costs could be higher than we expected - available capital resources and various debt agreements may limit our ability to complete acquisitions, complete construction of new or expanded facilities and repurchase shares - our cost of financing could increase significantly - new accounting standards could materially impact our reported earnings per share - we may not complete additional acquisitions or the pace of acquisitions may change - we may not be able to adjust our cost structure - we may lose key personnel - competition in our industry may impact our operations or our ability to complete acquisitions - insurance costs could increase significantly - we may not achieve expected sales volumes from the new franchises granted to us - we may not obtain inventory of new and used vehicles and parts, including imported inventory, at the cost, or in the volume, we expect This information and additional factors that could affect our operating results and performance are described in our filings with the SEC. We urge you to carefully consider those factors. All forward-looking statements attributable to us are qualified in their entirety by this cautionary statement. 19 ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The following information about our market sensitive financial instruments updates the information provided as of December 31, 2003, in our Annual Report on Form 10-K and constitutes a "forward-looking statement." Our major market risk exposure is changing interest rates. Our policy is to manage interest rate exposure through the use of a combination of fixed and floating rate debt. Additionally, interest rate swaps may be used to adjust our exposure to interest rate movements. These swaps are entered into with financial institutions with investment grade credit ratings, thereby minimizing the risk of credit loss. All interest rate swaps are non-trading and qualify for hedge accounting. Since December 31, 2003, our variable rate floorplan notes payable have increased due to increases in inventory levels and increased leverage on our inventory. A 100 basis point increase in interest rates would have increased floorplan interest expense approximately $1.4 million for the three-month period ended March 31, 2004, before the impact of our interest rate swaps. We have had no other significant balances outstanding under variable rate borrowing agreements. At times, we have used interest rate swaps to reduce our exposure to interest rate fluctuations. Currently, we have one interest rate swap outstanding, with a notional amount of $100.0 million, that converts 30-day LIBOR to a fixed rate. As the swap hedges our floorplan interest rate exposure, the impact on interest expense is included in floorplan interest expense in our statements of operations. A 100 basis point increase in interest rates would have reduced the cost of our swaps and, thus, would have reduced our floorplan interest expense by $0.3 million for the three-month period ended March 31, 2004. The net result on floorplan interest expense of a 100 basis point increase in interest rates would have been an increase of $1.1 million for the three months ended March 31, 2004, after combining the increase in expense on our borrowings and the decrease in expense from our swaps. Additionally, we receive floorplan interest assistance from the majority of our manufacturers. This assistance, which has ranged from approximately 90% to 160% of our floorplan interest expense over the past three years, totaled $6.7 million during the first three months of 2004 and $5.9 million during the first three months of 2003. We treat this interest assistance as a purchase discount, and reflect it as a reduction of new vehicle cost of sales as new vehicles are sold. Approximately half of the assistance we receive varies with changes in interest rates. ITEM 4. CONTROLS AND PROCEDURES Our principal executive officer and principal financial officer performed an evaluation of our disclosure controls and procedures, which have been designed to permit us to effectively identify and timely disclose important information. They concluded that the controls and procedures were effective as of March 31, 2004, to ensure that material information was accumulated and communicated to our management, including our principal executive officer and principal financial officer, as appropriate to allow timely decisions regarding required disclosure. During the three months ended March 31, 2004, we have made no change in our internal controls over financial reporting that has materially affected, or is reasonably likely to materially affect, our internal controls over financial reporting. PART II. OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS From time to time, our dealerships are named in claims involving the manufacture of automobiles, contractual disputes and other matters arising in the ordinary course of business. The Texas Automobile Dealers Association ("TADA") and certain new vehicle dealerships in Texas that are members of the TADA, including a number of our Texas dealership subsidiaries, have been named in two state court class action lawsuits and one federal court class action lawsuit. The three actions allege that since January 1994, Texas dealers have deceived customers with respect to a vehicle inventory tax and violated federal antitrust and other laws. In April 2002, the state court in which two of the actions are 20 pending certified classes of consumers on whose behalf the action would proceed. On October 25, 2002, the Texas Court of Appeals affirmed the trial court's order of class certification in the state court actions. The defendant parties petitioned the Texas Supreme Court for review of that certification decision on appeal, and on March 26, 2004, the court denied those petitions. The defendant parties intend to seek a rehearing of the petitions for review, which is due May 10, 2004. In the other action, on March 26, 2003, the federal court also certified a class of consumers, but denied a request to certify a defendants' class consisting of all TADA members. On May 19, 2003, the Fifth Circuit Court of Appeals granted a request for permission to appeal the class certification ruling of the lower federal court. Briefing on the merits of defendants' appeal was completed on February 13, 2004. The parties participated in mediation in 2003. That mediation resulted in a settlement proposal from the plaintiff class representatives to the defendant dealers, including our Texas dealership subsidiaries. The proposal was contingent on achieving a certain minimum level of participation among the defendant dealers based on the number of transactions in which each dealer engaged. Because the participation threshold was not satisfied, the proposal failed. While we do not believe this litigation will have a material adverse effect on our financial condition or results of operations, no assurance can be given as to its ultimate outcome. A settlement or an adverse resolution of this matter could result in the payment of significant costs and damages. In addition to the foregoing cases, there are currently no legal proceedings pending against or involving us that, in our opinion, based on current known facts and circumstances, are expected to have a material adverse effect on our financial position. ITEM 2. CHANGES IN SECURITIES From time to time the board of directors authorizes management to repurchase shares of its common stock, subject to the restrictions of various debt agreements and management's judgment. The first such authorization occurred in October 2000, and was disclosed in our Quarterly Report on Form 10-Q for the quarterly period ended September 30, 2000. We have reported subsequent changes to the authorization in our SEC filings since that date. At its February 2003 meeting, the board of directors authorized management to repurchase up to $25.0 million of its common stock. At the time of the March 2004 meeting, $9.7 million remained under the February 2003 authorization and, at management's request, the board of directors increased its authorization for management to repurchase shares of common stock up to $25.0 million. The following table summarizes the share repurchase activity during the period covered by the report:
Maximum Dollar Total Number Value of Shares of Shares that May Yet be Purchased Under Purchased Under Total Number of Average Price Board of Directors' Board of Directors' Period Shares Purchased Paid per Share Authorizations Authorization - ----------------------------- -------------------- ----------------- ------------------------ ------------------- January 1, 2004 - January 31, 2004 - - - $10.6 million February 1, 2004 - February 29, 2004 - - - $10.6 million March 1, 2004 - March 31, 2004 195,000 $35.99 195,000 $18.9 million ------- ------ ------- ------------- Total 195,000 $35.99 195,000 $18.9 million ======= ====== ======= =============
ITEM 3. DEFAULTS UPON SENIOR SECURITIES None. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. 21 ITEM 5. OTHER INFORMATION None. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K A. EXHIBITS: 11.1 Statement re: computation of earnings per share is included under Note 3 to the financial statements. 31.1 Certification of Principal Executive Officer under Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Principal Financial Officer under Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Principal Executive Officer under Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Principal Financial Officer under Section 906 of the Sarbanes-Oxley Act of 2002. B. REPORTS ON FORM 8-K: On April 29, 2004, the Company filed a Current Report on Form 8-K reporting under Items 7 and 12. On April 28, 2004, the Company filed a Current Report on Form 8-K reporting under Items 5 and 7. On April 8, 2004, the Company filed a Current Report on Form 8-K reporting under items 5 and 7. On April 7, 2004, the Company filed a Current Report on Form 8-K reporting under item 9. 22 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Group 1 Automotive, Inc. April 30, 2004 By:/s/ Michael J. Poppe Date -------------------------------------------- Michael J. Poppe Vice President and Corporate Controller (principal financial and accounting officer) 23 INDEX TO EXHIBITS
EXHIBITS: NO: DESCRIPTION - --------- ----------- 11.1 Statement re: computation of earnings per share is included under Note 3 to the financial statements. 31.1 Certification of Principal Executive Officer under Section 302 of the Sarbanes-Oxley Act of 2002. 31.2 Certification of Principal Financial Officer under Section 302 of the Sarbanes-Oxley Act of 2002. 32.1 Certification of Principal Executive Officer under Section 906 of the Sarbanes-Oxley Act of 2002. 32.2 Certification of Principal Financial Officer under Section 906 of the Sarbanes-Oxley Act of 2002.
EX-31.1 2 h14804exv31w1.txt CERTIFICATION OF PRINCIPAL EO UNDER SECTION 302 Exhibit 31.1 CERTIFICATION I, B.B. Hollingsworth Jr., Chief Executive Officer, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Group 1 Automotive, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15 and 15d-15) for the registrant and I have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) Disclosed in this report any change in the registrant's internal controls over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected or is reasonably likely to materially affect, the registrant's internal controls over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal controls over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal controls over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls over financial reporting. Date: April 30, 2004 /s/ B.B. Hollingsworth Jr. ---------------------------- B.B. Hollingsworth Jr. Chief Executive Officer EX-31.2 3 h14804exv31w2.txt CERTIFICATION OF PRINCIPAL FO UNDER SECTION 302 Exhibit 31.2 CERTIFICATION I, Michael J. Poppe, Vice President and Corporate Controller, certify that: 1. I have reviewed this quarterly report on Form 10-Q of Group 1 Automotive, Inc.; 2. Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report; 3. Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report; 4. The registrant's other certifying officer and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-15 and 15d-15) for the registrant and I have: a) Designed such disclosure controls and procedures, or caused such disclosure controls and procedures to be designed under our supervision, to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; b) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented in this report our conclusions about the effectiveness of the disclosure controls and procedures, as of the end of the period covered by this report based on such evaluation; and c) Disclosed in this report any change in the registrant's internal controls over financial reporting that occurred during the registrant's most recent fiscal quarter that has materially affected or is reasonably likely to materially affect, the registrant's internal controls over financial reporting; and 5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of internal controls over financial reporting, to the registrant's auditors and the audit committee of the registrant's board of directors (or persons performing the equivalent functions): a) All significant deficiencies and material weaknesses in the design or operation of internal controls over financial reporting which are reasonably likely to adversely affect the registrant's ability to record, process, summarize and report financial information; and b) Any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant's internal controls over financial reporting. Date: April 30, 2004 /s/ Michael J. Poppe ------------------------------ Michael J. Poppe Vice President and Corporate Controller EX-32.1 4 h14804exv32w1.txt CERTIFICATION OF PRINCIPAL EO UNDER SECTION 906 Exhibit 32.1 CERTIFICATION OF PRINCIPAL EXECUTIVE OFFICER OF GROUP 1 AUTOMOTIVE, INC. PURSUANT TO 18 U.S.C. Section 1350 In connection with the accompanying report on Form 10-Q for the three month period ended March 31, 2004, and filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, B.B. Hollingsworth, Jr., Chief Executive Officer of Group 1 Automotive, Inc. (the "Company"), hereby certify, to the best of my knowledge, that: 1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: April 30, 2004 /s/ B.B. Hollingsworth Jr. -------------------------- B.B. Hollingsworth Jr. Chief Executive Officer A signed original of this written statement required by Section 906 has been provided to Group 1 Automotive, Inc. and will be retained by Group 1 Automotive, Inc. and furnished to the Securities and Exchange Commission or its staff upon request. EX-32.2 5 h14804exv32w2.txt CERTIFICATION OF PRINCIPAL FO UNDER SECTION 906 Exhibit 32.2 CERTIFICATION OF PRINCIPAL FINANCIAL OFFICER OF GROUP 1 AUTOMOTIVE, INC. PURSUANT TO 18 U.S.C. Section 1350 In connection with the accompanying report on Form 10-Q for the three month period ended March 31, 2004, and filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Michael J. Poppe, Vice President and Corporate Controller of Group 1 Automotive, Inc. (the "Company"), hereby certify, to the best of my knowledge, that: 1. The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and 2. The information contained in the Report fairly presents, in all material respects, the financial condition and results of operations of the Company. Date: April 30, 2004 /s/ Michael J. Poppe --------------------------------------- Michael J. Poppe Vice President and Corporate Controller A signed original of this written statement required by Section 906 has been provided to Group 1 Automotive, Inc. and will be retained by Group 1 Automotive, Inc. and furnished to the Securities and Exchange Commission or its staff upon request. -----END PRIVACY-ENHANCED MESSAGE-----