Lithia Motors(LAD) - 2018 Q4 - Annual Report

Part I Business Lithia Motors, Inc. is a major U.S. automotive retailer operating 181 stores across 18 states, diversified across vehicle sales, F&I, and service - As of December 31, 2018, Lithia operated 181 stores representing 28 brands in 18 states, ranking 294 on the Fortune 500[12] - In 2018, the company invested $253.8 million in acquisitions, which are expected to add over $1.2 billion in annual revenues[22] - A strategic partnership with Shift Technologies, Inc. was formed through a $54 million investment, making Lithia its largest shareholder to enhance digital retail capabilities[23] Store Distribution and Revenue by State (2018) | State | Number of Stores | Percent of 2018 Revenue (%) | | :--- | :--- | :--- | | California | 41 | 25.4% | | New Jersey | 15 | 14.7% | | Oregon | 26 | 13.1% | | Texas | 15 | 10.2% | | Other | 84 | 36.6% | | Total | 181 | 100.0% | Advertising Expense Breakdown (2016-2018) | Year | Total Ad Expense (Net) ($ millions) | Manufacturer Credits ($ millions) | Digital/Social/Listings (%) | Traditional Media (%) | | :--- | :--- | :--- | :--- | :--- | | 2018 | $108.7 million | $25.5 million | 78% | 22% | | 2017 | $93.3 million | $22.8 million | N/A | N/A | | 2016 | $81.4 million | $20.3 million | N/A | N/A | Risk Factors The company faces significant risks related to economic conditions, intense competition, manufacturer dependency, regulatory compliance, and acquisition strategy execution - The business is highly sensitive to economic conditions, consumer spending, and credit availability, with 53% of revenue in 2018 concentrated in just three states[51][53] - The company faces increasing competition from other automotive retailers and the use of the internet for price comparison, which could reduce profit margins[58][60][64] - Dependence on manufacturers is a major risk, as they control vehicle supply, incentive programs, and franchise agreements[67][73][76] - The company's acquisition strategy faces risks including obtaining manufacturer consent, integrating new stores successfully, and potential overpayment[96][97][100] - Significant indebtedness of $3.4 billion and lease obligations could affect financial health, with covenants in debt agreements limiting operational flexibility[112][247] - A $54 million investment in start-up company Shift carries risks, including its lack of operating history and potential unprofitability[124] Unresolved Staff Comments The company reports no unresolved staff comments from the SEC - None[127] Properties The company's properties primarily consist of showrooms, service facilities, and offices, with significant owned assets and ongoing sustainability efforts - As of December 31, 2018, the company had outstanding mortgage debt of $592.3 million on its owned properties[128] - The company is engaged in sustainability efforts, with a LEED-certified corporate headquarters, two LEED-certified stores, and solar projects at four other locations[129] Legal Proceedings The company is involved in various legal proceedings that arise in the normal course of business, not expected to have a material adverse effect - The company is party to numerous legal proceedings from the normal course of business but does not expect them to have a material adverse effect[130] Mine Safety Disclosure This item is not applicable to the company's business - Not applicable[131] Part II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Lithia's Class A common stock trades on the NYSE; the company repurchased 913,113 shares for $67.3 million in Q4 2018, with an additional $250 million repurchase authorization - A Class B Conversion Agreement requires all 1,000,000 Class B shares to be converted to Class A shares by December 31, 2025, in scheduled tranches[136] - In October 2018, the Board of Directors authorized an additional $250 million for the repurchase of Class A common stock[139] Share Repurchases (Q4 2018) | Period | Total Shares Purchased | Average Price Paid ($) | Shares Purchased Under Plan | Remaining Authorization ($ thousands) | | :--- | :--- | :--- | :--- | :--- | | October | 423,863 | $76.85 | 423,863 | $268,318 | | November | 165 | $90.06 | — | $268,318 | | December | 489,329 | $70.96 | 489,250 | $233,603 | | Total Q4 | 913,357 | $73.70 | 913,113 | $233,603 | Selected Financial Data In 2018, total revenues reached $11.82 billion, net income was $265.7 million, and diluted EPS was $10.86, reflecting significant growth in assets and equity Selected Financial Data (2016-2018) | (In millions, except per share amounts) | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | | Total revenues | $11,821.4 | $10,086.5 | $8,678.2 | | Total gross profit | $1,777.0 | $1,516.1 | $1,301.3 | | Operating income | $447.0 | $409.0 | $338.4 | | Net income | $265.7 | $245.2 | $197.1 | | Diluted net income per share | $10.86 | $9.75 | $7.72 | | Total assets | $5,384.0 | $4,683.1 | $3,844.2 | | Total stockholders' equity | $1,197.2 | $1,083.2 | $910.8 | Management's Discussion and Analysis of Financial Condition and Results of Operations In 2018, net income rose to $265.7 million on $11.8 billion total revenue, driven by acquisitions and same-store growth in used vehicles, F&I, and service, while maintaining strong liquidity Results of Operations For 2018, total revenues increased 17.2% to $11.8 billion, and total gross profit grew 17.2%, driven by acquisitions and same-store growth in used vehicles, F&I, and service - Same-store new vehicle revenue decreased 1.9% due to a 4.4% drop in unit volume, partially offset by a 2.7% increase in average selling price[157] - Same-store used vehicle revenue grew 6.8%, driven by a 4.1% increase in unit volume and a 2.6% increase in average selling price[161] - Same-store F&I revenue per retail unit increased by $69 to $1,373 in 2018, driven by higher penetration rates for financing and service contracts[166] Consolidated Performance Summary (2018 vs. 2017) | Metric | 2018 | 2017 | Change | % Change | | :--- | :--- | :--- | :--- | :--- | | Total Revenues | $11,821.4M | $10,086.5M | $1,734.9M | 17.2% | | Total Gross Profit | $1,777.0M | $1,516.1M | $260.9M | 17.2% | | New Vehicle Units | 184,601 | 167,146 | 17,455 | 10.4% | | Used Vehicle Units | 151,234 | 129,913 | 21,321 | 16.4% | Same Store Performance Summary (2018 vs. 2017) | Metric | 2018 | 2017 | Change | % Change | | :--- | :--- | :--- | :--- | :--- | | Total Revenues | $9,888.7M | $9,768.2M | $120.5M | 1.2% | | New Vehicle Revenue | $5,463.5M | $5,569.4M | ($105.9M) | (1.9)% | | Used Vehicle Revenue | $2,639.0M | $2,470.7M | $168.3M | 6.8% | | F&I Revenue | $390.7M | $373.6M | $17.1M | 4.6% | | Service, Body & Parts Revenue | $1,021.1M | $985.6M | $35.5M | 3.6% | Segments In 2018, all three operating segments—Domestic, Import, and Luxury—posted revenue growth, largely due to acquisitions, though Domestic and Import segment income decreased Segment Revenue and Income (2018 vs. 2017) | Segment (in millions) | Revenue 2018 | Revenue 2017 | % Change | Segment Income* 2018 | Segment Income* 2017 | % Change | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | Domestic | $4,215.0 | $3,845.8 | 9.6% | $97.6 | $105.2 | (7.2)% | | Import | $5,038.1 | $4,432.8 | 13.7% | $116.2 | $117.8 | (1.4)% | | Luxury | $2,560.3 | $1,810.1 | 41.4% | $43.9 | $37.0 | 18.6% | Selling, General and Administrative Expense ("SG&A") SG&A expenses increased 19.4% to $1.25 billion in 2018, rising to 70.5% of gross profit primarily due to acquisitions and higher personnel costs - Total SG&A increased by $203.9 million (19.4%) in 2018 compared to 2017, mainly due to acquisitions[197][198] SG&A as a Percentage of Gross Profit | Expense Category | 2018 (%) | 2017 (%) | Change (bps) | | :--- | :--- | :--- | :--- | | Personnel | 46.4% | 45.9% | 50 bps | | Advertising | 6.1% | 6.2% | (10) bps | | Rent | 2.4% | 2.2% | 20 bps | | Other | 12.3% | 11.2% | 110 bps | | Total SG&A | 70.5% | 69.2% | 130 bps | Liquidity and Capital Resources The company's primary liquidity sources are cash from operations and credit facilities, with $211.2 million in available funds and $373.8 million used for acquisitions in 2018 - In 2018, the company used $373.8 million for acquisitions, $158.0 million for capital expenditures, and $148.9 million to repurchase 2.1 million shares[232][234][244] - The syndicated credit facility was amended in June 2018, increasing the total commitment to $2.6 billion and extending the maturity to July 2023[249] Available Liquidity (as of Dec 31) | Source (in millions) | 2018 | 2017 | | :--- | :--- | :--- | | Cash and cash equivalents | $31.6 | $57.3 | | Available on credit facilities | $179.6 | $222.5 | | Total current available funds | $211.2 | $279.8 | | Estimated from unfinanced real estate | $247.7 | $236.1 | | Total estimated available funds | $458.9 | $515.9 | Summary of Cash Flows (in millions) | Activity | 2018 | 2017 | 2016 | | :--- | :--- | :--- | :--- | | Net cash from operating activities | $519.7 | $148.9 | $90.9 | | Net cash used in investing activities | ($557.1) | ($538.2) | ($351.7) | | Net cash from financing activities | $11.7 | $396.3 | $266.1 | Critical Accounting Policies and Estimates Management identifies its most critical accounting estimates as those related to goodwill and franchise value, income taxes, and acquisitions, requiring significant judgment - The most critical accounting estimates are related to goodwill and franchise value, income taxes, and acquisitions[267] - Goodwill of $434.9 million and franchise value of $288.7 million are tested for impairment annually using a qualitative assessment, with no impairments recorded in 2018, 2017, or 2016[270][272] - Accounting for acquisitions requires estimating the fair value of assets acquired and liabilities assumed, with significant judgments applied to property, equipment, and intangible franchise rights[280][281] Quantitative and Qualitative Disclosures About Market Risk The company is exposed to interest rate risk, with $2.7 billion in variable-rate debt; a 10% rate increase would raise annual interest expense by $7.7 million - As of December 31, 2018, the company had $2.7 billion in outstanding variable-rate debt[284] - A 10% increase in interest rates (38 basis points) would result in an estimated $7.7 million increase in annual interest expense, net of tax[284] - The fair value of the company's $745.8 million in long-term fixed-rate debt was estimated at $727.3 million as of December 31, 2018[286] Financial Statements and Supplementary Data This section refers to the full consolidated financial statements, notes, and supplementary quarterly financial data, which begin on page F-1 of the report - The full financial statements and supplementary data required by this item are included from page F-1 onwards[289] Changes in and Disagreements With Accountants on Accounting and Financial Disclosure The company reports no changes in or disagreements with its accountants on accounting and financial disclosure - None[290] Controls and Procedures Management concluded that disclosure controls and internal control over financial reporting were effective as of December 31, 2018, excluding newly acquired stores - The CEO and CFO concluded that disclosure controls and procedures are effective[291] - Management concluded that internal control over financial reporting was effective as of December 31, 2018[296] - The evaluation of internal controls excluded the 17 stores acquired in 2018, as permitted by SEC guidance[295] Other Information There is no other information to report for this period - None[298] Part III Directors, Executive Officers and Corporate Governance Information required for this item is incorporated by reference from the company's 2019 Proxy Statement - Information is incorporated by reference from the 2019 Proxy Statement[300] Executive Compensation Information required for this item concerning executive compensation is incorporated by reference from the company's 2019 Proxy Statement - Information is incorporated by reference from the 2019 Proxy Statement[301] Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters This section provides information on equity compensation plans as of December 31, 2018, with other details incorporated by reference from the 2019 Proxy Statement - Additional information is incorporated by reference from the 2019 Proxy Statement[304] Equity Compensation Plan Information (as of Dec 31, 2018) | Plan Category | Securities to be issued upon exercise (a) | Weighted average exercise price (b) | Securities available for future issuance (c) | | :--- | :--- | :--- | :--- | | Approved by shareholders | 409,865 | $— | 1,403,645 | | Not approved by shareholders | — | — | — | | Total | 409,865 | $— | 1,403,645 | Certain Relationships and Related Transactions, and Director Independence Information required for this item is incorporated by reference from the company's 2019 Proxy Statement - Information is incorporated by reference from the 2019 Proxy Statement[305] Principal Accountant Fees and Services Information required for this item concerning principal accountant fees and services is incorporated by reference from the company's 2019 Proxy Statement - Information is incorporated by reference from the 2019 Proxy Statement[306] Part IV Exhibits and Financial Statement Schedules This section lists the financial statements, schedules, and exhibits filed as part of the Form 10-K, including the independent auditor's report - The Consolidated Financial Statements and the report from KPMG LLP, Independent Registered Public Accounting Firm, are included starting on page F-1[308] - The Exhibit Index lists all filed exhibits, including material contracts, incentive plans, and certifications[310][311][312] Form 10-K Summary No Form 10-K summary is provided - None[309] Financial Statements and Supplementary Data Report of Independent Registered Public Accounting Firm KPMG LLP issued an unqualified opinion on Lithia Motors' consolidated financial statements and internal control over financial reporting for 2018 - KPMG LLP issued an unqualified opinion on the consolidated financial statements[317] - KPMG LLP issued an unqualified opinion on the effectiveness of internal control over financial reporting as of December 31, 2018[318][323] - The audit of internal controls excluded 17 stores acquired in 2018, which represented approximately 9% of consolidated total assets[325] Consolidated Financial Statements As of December 31, 2018, total assets were $5.38 billion, total liabilities $4.19 billion, with $11.82 billion in revenue and $265.7 million in net income for the year Consolidated Balance Sheet Highlights (As of Dec 31) | (In millions) | 2018 | 2017 | | :--- | :--- | :--- | | Total Current Assets | $2,991.4 | $2,782.8 | | Total Assets | $5,384.0 | $4,683.1 | | Total Current Liabilities | $2,493.5 | $2,301.0 | | Total Liabilities | $4,186.8 | $3,599.9 | | Total Stockholders' Equity | $1,197.2 | $1,083.2 | Consolidated Statement of Operations Highlights (Year Ended Dec 31) | (In millions) | 2018 | 2017 | | :--- | :--- | :--- | | Total revenues | $11,821.4 | $10,086.5 | | Gross profit | $1,777.0 | $1,516.1 | | Operating income | $447.0 | $409.0 | | Net income | $265.7 | $245.2 | Notes to Consolidated Financial Statements Notes detail significant accounting policies, $3.44 billion in total debt, 17 acquisitions in 2018 for $498.9 million, and the impact of the 2017 Tax Act on the 21.3% effective tax rate - The company adopted the new revenue recognition standard (ASC 606) on January 1, 2018, using the cumulative effect transition method, which had an immaterial effect on operations[499][500] - In 2018, the company completed 17 acquisitions for total consideration of $498.9 million, adding $73.2 million in goodwill and $29.8 million in franchise value[475][476] - The effective income tax rate for 2018 was 21.3%, down from 29.3% in 2017, primarily due to the reduction in the U.S. federal corporate tax rate[217][467] - In September 2018, the company invested $54 million in Shift Technologies, Inc. for Series D convertible preferred stock, accounted for as a cost method investment[496]