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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
- --------------------------------------------------------------------------------
FORM 10-Q
(Mark One)
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
For the quarterly period ended June 30, 2002
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
Commission file number 1-13395
SONIC AUTOMOTIVE, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 56-2010790
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
5401 E. Independence Blvd., Charlotte, North Carolina 28212
(Address of principal executive offices) (Zip Code)
(704) 566-2400
(Registrant's telephone number, including area code)
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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 ___
---
As of August 12, 2002, there were 30,202,719 shares of Class A Common Stock
and 12,029,375 shares of Class B Common Stock outstanding.
1
INDEX TO FORM 10-Q
PAGE
----
PART I - FINANCIAL INFORMATION
ITEM 1. Consolidated Financial
Statements (Unaudited)
Consolidated Statements of Income - 3
Three-month periods ended
June 30, 2001 and June 30, 2002
Consolidated Statements of Income - 4
Six-month periods ended
June 30, 2001 and June 30, 2002
Consolidated Balance Sheets - 5
December 31, 2001 and June 30, 2002
Consolidated Statement of Stockholders' Equity - 6
Six-month period ended June 30, 2002
Consolidated Statements of Cash Flows - 7
Six-month periods ended June 30, 2001 and June 30, 2002
Notes to Unaudited Consolidated Financial Statements - 8
ITEM 2. Management's Discussion and Analysis of
Financial Condition and Results of Operations 18
ITEM 3. Quantitative and Qualitative Disclosures About Market Risk 32
PART II - OTHER INFORMATION
ITEM 4. Submission of Matters to a Vote of Security Holders 33
ITEM 6. Exhibits and Reports on Form 8-K 35
SIGNATURES 36
2
PART I - FINANCIAL INFORMATION
Item 1. Consolidated Financial Statements.
SONIC AUTOMOTIVE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars and shares in thousands except per share amounts)
(Unaudited)
Three Months Ended
June 30,
2001 2002
------------------ -----------------
Revenues:
New vehicles $ 924,745 $ 1,137,915
Used vehicles 283,511 336,729
Wholesale vehicles 97,807 140,443
------------------ -----------------
Total vehicles 1,306,063 1,615,087
Parts, service and collision repair 184,131 239,318
Finance & insurance and other 48,737 53,023
------------------ -----------------
Total revenues 1,538,931 1,907,428
Cost of sales 1,300,730 1,614,326
------------------ -----------------
Gross profit 238,201 293,102
Selling, general and administrative expenses 176,814 225,317
Depreciation 1,952 2,204
Goodwill amortization 4,591 -
------------------ -----------------
Operating income 54,844 65,581
Other income / (expense):
Interest expense, floor plan (9,910) (6,543)
Interest expense, other (8,418) (9,661)
Other income 16 127
------------------ -----------------
Total other expense (18,312) (16,077)
------------------ -----------------
Income from continuing operations before taxes 36,532 49,504
Provision for income taxes (14,234) (18,892)
------------------ -----------------
Net income from continuing operations 22,298 30,612
Discontinued operations:
Income from operations of discontinued dealerships 303 1,294
Income tax expense (115) (418)
------------------ -----------------
Net income from discontinued operations 188 876
------------------ -----------------
Net income $ 22,486 $ 31,488
================== =================
Basic net income per share:
Net income per share from continuing operations $ 0.56 $ 0.72
Net income per share from discontinued operations $ - $ 0.02
------------------ -----------------
Net income per share $ 0.56 $ 0.74
================== =================
Weighted average common shares outstanding 40,063 42,652
================== =================
Diluted net income per share:
Net income per share from continuing operations $ 0.54 $ 0.69
Net income per share from discontinued operations $ 0.01 $ 0.02
------------------ -----------------
Net income per share $ 0.55 $ 0.71
================== =================
Weighted average common shares outstanding 41,062 44,537
================== =================
See notes to unaudited consolidated financial statements.
3
SONIC AUTOMOTIVE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
(Dollars and shares in thousands except per share amounts)
(Unaudited)
Six Months Ended
June 30,
2001 2002
----------- -----------
Revenues:
New vehicles $ 1,757,695 $ 2,061,662
Used vehicles 560,215 608,520
Wholesale vehicles 208,726 246,132
----------- -----------
Total vehicles 2,526,636 2,916,314
Parts, service and collision repair 363,370 442,665
Finance & insurance and other 88,107 99,310
----------- -----------
Total revenues 2,978,113 3,458,289
Cost of sales 2,522,669 2,921,410
----------- -----------
Gross profit 455,444 536,879
Selling, general and administrative expenses 345,007 417,270
Depreciation 3,555 4,175
Goodwill amortization 8,934 -
----------- -----------
Operating income 97,948 115,434
Other income / (expense):
Interest expense, floor plan (21,399) (11,849)
Interest expense, other (18,261) (17,934)
Other income 75 227
----------- -----------
Total other expense (39,585) (29,556)
----------- -----------
Income from continuing operations before taxes 58,363 85,878
Provision for income taxes (22,735) (32,701)
----------- -----------
Net income from continuing operations 35,628 53,177
Discontinued operations:
Income from operations of discontinued dealerships 581 530
Income tax expense (240) (139)
----------- -----------
Net income from discontinued operations 341 391
----------- -----------
Net income $ 35,969 $ 53,568
=========== ===========
Basic net income per share:
Net income per share from continuing operations $ 0.88 $ 1.28
Net income per share from discontinued operations $ - $ 0.01
----------- -----------
Net income per share $ 0.88 $ 1.29
=========== ===========
Weighted average common shares outstanding 40,664 41,645
=========== ===========
Diluted net income per share:
Net income per share from continuing operations $ 0.86 $ 1.22
Net income per share from discontinued operations $ 0.01 $ 0.01
----------- -----------
Net income per share $ 0.87 $ 1.23
=========== ===========
Weighted average common shares outstanding 41,266 43,555
=========== ===========
See notes to unaudited consolidated financial statements.
4
SONIC AUTOMOTIVE, INC. AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(Dollars in thousands)
June 30,
December 31, 2002
2001 (Unaudited)
------------- ------------
ASSETS
Current Assets:
Cash and cash equivalents $ - $ 6,790
Receivables, net 262,911 284,759
Inventories 664,258 874,765
Other current assets 29,127 74,606
----------- -----------
Total current assets 956,296 1,240,920
Property and Equipment, net 98,972 100,720
Goodwill, net 738,103 885,019
Other Assets 12,555 14,112
----------- -----------
Total Assets $ 1,805,926 $ 2,240,771
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities:
Notes payable - floor plan $ 587,914 $ 772,568
Trade accounts payable 44,802 54,330
Accrued interest 9,676 13,445
Other accrued liabilities 92,275 138,937
Current maturities of long-term debt 2,586 2,374
----------- -----------
Total current liabilities 737,253 981,654
Long-Term Debt 511,877 595,062
Other Long-Term Liabilities 5,836 12,784
Payable to the Company's Chairman 5,500 5,500
Deferred Income Taxes 28,199 27,176
Stockholders' Equity:
Class A Common Stock, 34,850,738 shares issued at December 31, 2001
and 37,215,211 shares issued at June 30, 2002 348 372
Class B Common Stock, 12,029,375 shares issued and outstanding
at December 31, 2001 and June 30, 2002. 121 121
Paid-in capital 343,256 394,610
Retained earnings 232,893 286,461
Accumulated other comprehensive loss - (1,564)
Treasury Stock, at cost (6,330,264 shares held at December 31, 2001
and 6,415,264 shares held at June 30, 2002) (59,357) (61,405)
----------- -----------
Total stockholders' equity 517,261 618,595
----------- -----------
Total Liabilities and Stockholders' Equity $ 1,805,926 $ 2,240,771
=========== ===========
See notes to unaudited consolidated financial statements.
5
SONIC AUTOMOTIVE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
(Dollars and shares in thousands)
(Unaudited)
Class A Class B
Common Stock Common Stock Paid-In Retained Treasury
Shares Amount Shares Amount Capital Earnings Stock
--------- ---------- --------- ---------- ------------ ----------- ------------
Balance at December 31, 2001 34,851 $ 348 12,029 $ 121 $343,256 $232,893 $(59,357)
Comprehensive Income:
Net Income 53,568
Fair value of interest rate swap agreement,
net of tax of $1,000
Total comprehensive income
Shares awarded under stock
compensation plans 893 9 9,589
Issuance of Class A common stock for acquisitions 1,471 15 37,985
Income tax benefit associated with
stock compensation plans 3,780
Purchase of treasury stock (2,048)
--------- ---------- --------- ---------- ------------ ----------- ------------
Balance at June 30, 2002 37,215 $ 372 12,029 $ 121 $394,610 $286,461 $(61,405)
========= ========== ========= ========== ============ =========== ============
Accumulated
Other Total
Comprehensive Stockholders'
Loss Equity
--------------- --------------
Balance at December 31, 2001 $ - $ 517,261
Comprehensive Income:
Net Income 53,568
Fair value of interest rate swap agreement,
net of tax of $1,000 (1,564) (1,564)
--------------
Total comprehensive income 52,004
Shares awarded under stock
compensation plans 9,598
Issuance of Class A common stock for acquisitions 38,000
Income tax benefit associated with
stock compensation plans 3,780
Purchase of treasury stock (2,048)
--------------- --------------
Balance at June 30, 2002 $ (1,564) $ 618,595
=============== ==============
See notes to unaudited consolidated financial statements.
6
SONIC AUTOMOTIVE, INC. AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
(Dollars in thousands)
(Unaudited)
Six Months Ended
June 30,
2001 2002
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income $ 35,969 $ 53,568
Adjustments to reconcile net income to net cash provided by
operating activities:
Depreciation and amortization 12,905 4,292
Deferred income taxes 3,492 69
Equity interest in (earnings) losses of investees 29 (162)
Gain on disposal of assets (110) (2,917)
Income tax benefit associated with stock compensation plans - 3,780
Changes in assets and liabilities that relate to operations:
Receivables 5,829 (17,010)
Inventories 103,327 (37,810)
Other assets (1,793) (3,790)
Notes payable - floor plan (112,698) 24,339
Trade accounts payable and other liabilities 14,097 31,722
---------- ----------
Total adjustments 25,078 2,513
---------- ----------
Net cash provided by operating activities 61,047 56,081
---------- ----------
CASH FLOWS FROM INVESTING ACTIVITIES:
Purchase of businesses, net of cash acquired (36,720) (136,913)
Purchases of property and equipment (20,879) (29,805)
Proceeds from sales of property and equipment 4,260 20,381
Proceeds from sale of dealerships 9,624 10,742
---------- ----------
Net cash used in investing activities (43,715) (135,595)
---------- ----------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net borrowings/(repayments) on revolving credit facilities 8,822 (61,403)
Proceeds from long-term debt 319 145,146
Payments on long-term debt (1,199) (4,989)
Redemptions of Preferred Stock (251) -
Purchases of Class A Common Stock (17,345) (2,048)
Issuance of shares under stock compensation plans 4,281 9,598
---------- ----------
Net cash (used in)/ provided by financing activities (5,373) 86,304
---------- ----------
NET INCREASE IN CASH AND CASH EQUIVALENTS 11,959 6,790
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD 1,267 -
---------- ----------
CASH AND CASH EQUIVALENTS, END OF PERIOD $ 13,226 $ 6,790
========== ==========
SUPPLEMENTAL SCHEDULE OF NON-CASH FINANCING ACTIVITIES:
Class A Common Stock issued for acquisitions $ - $ 38,000
Change in fair value of cash flow hedging instrument
(net of tax of $1,000) $ - $ (1,564)
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
Cash paid for interest $ 39,781 $ 26,717
Cash paid for income taxes $ 5,241 $ 8,979
See notes to unaudited consolidated financial statements.
7
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
Basis of Presentation -- The accompanying unaudited financial
information for the three and six months ended June 30, 2002 and 2001 has been
prepared pursuant to the rules and regulations of the Securities and Exchange
Commission. These unaudited consolidated financial statements reflect, in the
opinion of management, all material adjustments (which include only normal
recurring adjustments) necessary to fairly state the financial position and the
results of operations for the periods presented. The results for interim periods
are not necessarily indicative of the results to be expected for the entire
fiscal year. These interim financial statements should be read in conjunction
with the audited consolidated financial statements of Sonic Automotive, Inc.
("Sonic") for the year ended December 31, 2001.
Principles of Consolidation -- All material intercompany balances and
transactions have been eliminated in the consolidated financial statements. In
addition, Sonic currently has 50% joint venture investments in North Point
Volvo, LLC, a Volvo automobile dealership in the greater Atlanta area, and Fort
Myers Collision Center, LLC, located in Florida, in which we initially invested
$0.9 million and $0.1 million, respectively. The partners in these joint
ventures are not affiliated with Sonic. These entities are not consolidated into
Sonic's financial statements because we do not have operating control of the
entities. However, Sonic has guaranteed $6.0 million in indebtedness between
North Point Volvo, LLC and Bank of America, including a $5.5 million revolving
floor plan financing agreement expiring in 2003, of which $3.0 million was
outstanding as of June 30, 2002, and a $0.5 million term loan expiring in 2007.
Sonic has guaranteed no other obligations of either company. The investments are
accounted for under the equity method whereby Sonic records its share of each
respective joint venture's pretax profit or loss. Sonic recorded approximately
$0.2 million in net income in the first half of 2002 related to these
investments and these amounts are included in other income in the accompanying
unaudited income statements.
Revenue Recognition -- Sonic records revenue when vehicles are
delivered to customers, when vehicle service work is performed and when parts
are delivered.
Sonic arranges financing for customers through various financial
institutions and receives a commission from the lender equal to the difference
between the interest rates charged to customers over the predetermined interest
rates set by the financing institution. Sonic also receives commissions from the
sale of various insurance contracts to customers. Sonic may be assessed a
chargeback fee in the event of early cancellation of a loan or insurance
contract by the customer. Finance and insurance commission revenue is recorded
net of estimated chargebacks at the time the related contract is placed with the
financial institution.
Sonic also receives commissions from the sale of non-recourse third
party extended service contracts to customers. Under these contracts the
applicable manufacturer or third party warranty company is directly liable for
all warranties provided within the contract. Commission revenue from the sale of
these third party extended service contracts is recorded net of estimated
chargebacks at the time of sale. Commission expense related to finance and
insurance commission revenue is charged to selling, general and administrative
expenses upon recognition of such revenue.
Cash and Cash Equivalents - Sonic considers all highly liquid debt
instruments with an initial maturity of three months or less to be cash
equivalents. Although not required under the terms of any credit agreement,
Sonic's practice has been to apply all of its available cash to reduce the
outstanding balance on Sonic's revolving credit facility for the purpose of
maximizing the return on these funds and minimizing interest expense.
Receivables, net - Our receivables, net consist primarily of contracts in
transit (as described below) and amounts due from the manufacturers for repair
services performed on vehicles with a remaining factory warranty and amounts due
from third parties from the sale of parts. We believe that there is minimal risk
of uncollectability on warranty receivables. We evaluate parts and other
receivables for collectability based on the age of the receivable, the credit
history of the customer and past collection experience. The allowance for
doubtful accounts we have recorded for receivables, net is not significant. As
of June 30, 2002, we also had outstanding notes receivable from finance
contracts of $15.7 million (net of an allowance for credit losses of $2.1
million). These notes have average terms of approximately 30 months and are
secured by the related vehicles. The
8
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
assessment of our allowance for credit losses considers historical loss ratios
and the performance of the current portfolio with respect to past due accounts.
Contracts in Transit -- Contracts in transit represent customer finance
contracts evidencing loan agreements or lease agreements between Sonic, as
creditor, and the customer, as borrower, to acquire or lease a vehicle whereby a
third-party finance source has given Sonic initial, non-binding approval to
assume Sonic's position as creditor. Funding and final approval from the
finance source is provided upon the finance source's review of the loan or lease
agreement and related documentation executed by the customer at the dealership.
These finance contracts are typically funded within ten days of the initial
approval of the finance transaction given by the third-party finance source. The
finance source is not contractually obligated to make the loan or lease to the
customer until it gives its final approval and funds the transaction, and until
such final approval is given, the contracts in transit represent amounts due
from the customer to Sonic. Sonic records these contracts in transit in
receivables, net. Included in receivables, net are $127.9 million and $121.2
million of such contracts in transit at December 31, 2001 and June 30, 2002,
respectively.
Inventories -- Inventories of new and used vehicles, including
demonstrators, are stated at the lower of specific cost or market. Inventories
of parts and accessories are accounted for using the "first-in, first-out"
("FIFO") method of inventory accounting and are stated at the lower of FIFO cost
or market. Other inventories, which primarily include rental and service
vehicles, are stated at the lower of specific cost or market.
Sonic assesses the valuation of all of our vehicle and parts
inventories and maintains a reserve where the cost basis exceeds the fair market
value. In making this assessment for new vehicles, Sonic primarily considers the
age of the vehicles along with the timing of annual and model changeovers. For
used vehicles, Sonic considers recent market data and trends such as loss
histories along with the current age of the inventory. Parts inventories are
primarily assessed considering excess quantity and continued usefulness of the
part. The risk with parts inventories is minimized by the fact that, generally,
excess or obsolete parts can be returned to the manufacturer. We have not
recorded any significant reserves on any of our inventory balances.
Income taxes - We provided for deferred taxes at currently enacted tax
rates for the tax effects of carry forward items and temporary differences
between the tax basis of assets and liabilities and their reported amounts in
the financial statements. A valuation allowance is established when management
determines it is more likely than not that taxable income will not be sufficient
to fully realize the benefits of deferred tax assets. We currently have not
established any valuation allowance on our deferred tax assets.
Derivative Instruments and Hedging Activities - Sonic utilizes
derivative financial instruments for the purpose of hedging the risks of certain
identifiable and anticipated transactions. In general, the types of risks being
hedged are those relating to the variability of future earnings and cash flows
caused by fluctuations in interest rates. Sonic documents its risk management
strategy and hedge effectiveness at the inception of and during the term of each
hedge. The only derivatives currently being used are interest rate swaps used
for the purpose of hedging cash flows of variable rate debt. These derivatives
are used only for that purpose, not for speculation. The derivatives, which have
been designated and qualify as cash flow hedging instruments, are reported at
fair value in the accompanying balance sheets. The gain or loss on the effective
portion of the hedge is initially reported as a component of other comprehensive
loss. (See Note 5).
Goodwill -- Goodwill represents the excess purchase price over the
estimated fair value of the tangible and separately measurable intangible net
assets acquired. As of June 30, 2002, the carrying amount of goodwill was $885.0
million and represented 39.5% of total assets and 143.1% of total stockholders'
equity. As of December 31, 2001, the carrying amount of goodwill was $738.1
million and represented 40.9% of total assets and 142.7% of total stockholders'
equity.
Pursuant to the provisions of Statement of Financial Accounting
Standards ("SFAS") No. 142, goodwill acquired in business combinations is no
longer amortized, but the carrying amount will be reviewed and reduced against
operations if it is found to be impaired. The results of operations for the
three and six months ended June 30, 2001 include goodwill amortization expense
of $3.4 million and $6.7 million, respectively, net of tax. Diluted net income
per share for the three and six months ended June 30, 2001 would have been $0.63
and $1.03, respectively, after the elimination of the tax-effected goodwill
amortization.
Long-Term Assets - Sonic reviews the carrying value of long-term assets
(other than goodwill) for impairment whenever events or changes in circumstances
indicate that the carrying value may not be recoverable. If such an indication
is present, Sonic compares the carrying amount of the asset to the estimated
undiscounted cash flows related to those assets. Sonic concludes that an asset
is impaired if the sum of such expected future cash flows is less than the
carrying amount of the related asset. If Sonic determines an asset is impaired,
the impairment loss would be the amount by which the carrying amount of the
related asset exceeds its fair value. The fair value of the asset would be
determined based on the quoted market prices, if available. If quoted market
prices are not available, Sonic determines fair value by using a discounted cash
flow model.
Floor Plan Assistance - Floor plan assistance payments received from
manufacturers are generally based on rates similar to those incurred under our
floor plan financing arrangements. This assistance is considered a subsidy of
the carrying cost of our new vehicle inventory. Sonic recognizes this assistance
as a reduction of cost of sales in the accompanying unaudited consolidated
statements of income. Amounts included in cost of sales were $10.6 million and
$18.6 million for the three and six months ended June 30, 2002, respectively,
and $16.4 million and $22.7 million for the three and six months ended June 30,
2001, respectively.
Accruals - Various accruals, such as reserves for contingencies and
reserves for incurred but not reported claims under various insurance programs,
require management to make estimates in determining the ultimate liability we
may incur. The ultimate cost of these insurance reserves are estimated by
management and by annual actuarial evaluations based on historical claims
9
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
experience, adjusted for current trends and changes in claims processing
procedures.
Recent Accounting Pronouncements -- Sonic adopted the provisions of
SFAS No. 141: Business Combinations effective January 1, 2002. SFAS No. 141
prohibits the pooling-of-interests method of accounting and requires the use of
the purchase method of accounting for all business combinations initiated after
June 30, 2001. Additionally, acquired intangible assets should be separately
recognized if the benefit of the intangible asset is obtained through
contractual or other legal rights, or if the intangible asset can be sold,
transferred, licensed, rented or exchanged, regardless of the acquirer's intent
to do so.
Sonic adopted the provisions of SFAS No. 142: Goodwill and Other
Intangible Assets effective January 1, 2002. Among other things, SFAS No. 142 no
longer permits the amortization of goodwill, but requires that the carrying
amount of goodwill be reviewed and reduced against operations if it is found to
be impaired. This review must be performed on at least an annual basis (with an
initial review within six months of adopting the new standard), but must also be
performed upon the occurrence of an event or circumstance that indicates a
possible reduction in value. SFAS No. 142 does require the amortization of
intangible assets other than goodwill over their useful economic lives, unless
the useful economic life is determined to be indefinite. These intangible assets
are required to be reviewed for impairment in accordance with SFAS No. 144:
Accounting for Impairment or Disposal of Long-Lived Assets. Intangible assets
that are determined to have an indefinite economic life may not be amortized and
must be reviewed for impairment in accordance with the terms of SFAS No. 142.
The adoption of SFAS No. 142 on January 1, 2002 resulted in the
elimination of approximately $22.1 million of annual goodwill amortization.
Sonic has completed its initial impairment test of goodwill in accordance with
the provisions of SFAS No. 142 and has concluded that no impairment of recorded
goodwill balances exists as of June 30, 2002.
Sonic adopted the provisions of SFAS No. 144: Accounting for the
Impairment or Disposal of Long-Lived Assets as of January 1, 2002. SFAS No. 144
establishes a single accounting model for assets to be disposed of by sale
whether previously held and used or newly acquired. SFAS No. 144 requires
certain long-lived assets to be reported at the lower of carrying amount or fair
value, less cost to sell, and provides guidance on asset valuation and measuring
impairment. When Sonic disposes of dealerships, the results of operations of
those dealerships, along with any gain or loss on disposition, are now required
to be reflected in discontinued operations. The adoption of this standard
resulted in net income of $0.2 million and $0.9 million being classified as
discontinued operations on the unaudited consolidated statements of income for
the three month period ended June 30, 2001 and 2002, respectively and $0.3
million and $0.4 million for the six month period ended June 30, 2001 and 2002,
respectively.
Use of Estimates -- The preparation of financial statements in
conformity with accounting principles generally accepted in the United States of
America requires management to make estimates and assumptions that affect 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. Actual results could
differ from those estimates particularly related to allowance for credit losses,
realization of inventory, intangible asset and deferred tax asset values,
reserves for future chargebacks, insurance reserves and certain accrued
expenses.
Segment Information -- Sonic sells similar products and services (new
and used vehicles, parts, service and collision repair services), uses similar
processes in selling its products and services, and sells its products and
services to similar classes of customers. As a result of this and the way we
manage our business, we have aggregated our results into a single segment for
purposes of reporting financial condition and results of operations.
Reclassifications -- In order to maintain consistency and comparability
of financial information between periods presented, certain reclassifications
have been made to Sonic's prior year financial statements to conform to the
current presentation. These reclassifications relate primarily to
contracts in transit (now classified within receivables, net rather than cash
and cash equivalents), manufacturer incentives and certain other amounts that
have been reclassed from an increase in sales revenues to a reduction in cost of
sales. Additionally, all finance and insurance sales commissions have been
reclassed from cost of sales to selling, general and administrative expenses to
conform to the industry classification of such amounts.
2. Business Acquisitions and Dispositions
Completed Acquisitions
Sonic generally seeks to acquire larger, well managed multiple
franchise dealerships or multiple dealership groups located in metropolitan or
high growth suburban markets. Sonic also looks to acquire smaller, single
franchise dealerships that will allow Sonic
10
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
to capitalize on professional management practices and provide greater breadth
of products and services in existing markets. Occasionally, Sonic acquires
dealerships that have under performed the industry average, but represent
attractive franchises or have attractive locations that would immediately
benefit from our professional management.
On March 25, 2002, Sonic acquired 15 dealerships owned directly or
indirectly by Donald E. Massey (the "Massey Acquisition") for approximately
$115.7 million in cash and 1,470,588 shares of Class A common stock valued at
approximately $38.0 million, based on the average closing price as quoted by the
New York Stock Exchange for the three days before and after the acquisition was
announced. The acquired dealerships are located in California, Colorado,
Florida, North Carolina, Michigan, Tennessee and Texas, and sell the following
brands of new vehicles: Buick, Cadillac, Chevrolet, GMC, Oldsmobile, Pontiac,
Rolls Royce/Bentley and Saab.
In addition to the Massey Acquisition, Sonic acquired the following
dealerships during the six months ended June 30, 2002 for a combined purchase
price of approximately $29.4 million in cash:
. On January 21, 2002, Sonic acquired Park Place Audi located in
Dallas, Texas;
. On March 18, 2002, Sonic acquired five dealerships owned by Don
Kott located in the metropolitan area of Los Angeles, California
and also acquired Philpott Hyundai located in the metropolitan area
of Houston, Texas, and also
. On May 20, 2002, Sonic acquired Crest Honda located in Nashville,
Tennessee.
The total purchase price for all of the above acquisitions was based on
Sonic's internally determined valuation of the dealerships and their assets. The
cash portion of the purchase price was financed by cash generated from Sonic's
existing operations and by borrowings under Sonic's revolving credit facility
with Ford Motor Credit, Chrysler Financial and Toyota Credit.
The results of operations of each of the acquisitions listed above have
been included in the accompanying unaudited consolidated financial statements
from their respective dates of acquisition. The following unaudited pro forma
financial information presents a summary of consolidated results of operations
as if the above acquisitions, as well as the acquisitions completed during 2001,
as discussed in our Annual Report on Form 10-K for the year ended December
31,2001, had occurred at the beginning of the year in which the acquisitions
were completed, and at the beginning of the immediately preceding year, after
giving effect to certain adjustments, including interest expense on acquisition
debt and income taxes. The pro forma results have been prepared for comparative
purposes only and are not necessarily indicative of the results of operations
that would have occurred had the acquisitions actually been completed at the
beginning of the periods presented. These results are also not necessarily
indicative of the results of future operations.
Three Months Ended June 30, Six Months Ended June 30,
----------------------------- ---------------------------
2001 2002 2001 2002
---------- ---------- ---------- ----------
Total revenues $2,164,441 $1,911,899 $4,197,647 $3,710,642
Gross profit $ 312,361 $ 293,700 $ 600,370 $ 570,016
Net income $ 26,195 $ 31,539 $ 38,585 $ 56,580
Diluted net income per share $ 0.64 $ 0.71 $ 0.94 $ 1.30
Subsequent to June 30, 2002, Sonic acquired four dealerships for
approximately $38.2 million in cash. In addition, Sonic has entered into
agreements to acquire three dealerships representing approximately $132 million
in additional annual revenues.
Sale of Dealership Subsidiaries
During the first half of 2002, Sonic disposed of nine franchises, resulting
in the closing of six dealerships and one collision repair center, and approved,
but had not completed the sale of, nine additional franchises, which will result
in the closing of six additional dealerships. These were generally smaller
dealerships with unprofitable operations. These dealerships disposed of and held
for sale generated combined revenues of $61.1 million and $120.2 million in the
three and six months ended June 30, 2002, respectively, and $71.6 million and
$144.3 million in the three and six months ended June 30, 2001, and generated
pre-tax income of $1.3 million and $0.5 million in the three and six months
ended June 30, 2002, respectively, and $0.3 million and $0.6 million in the
three and six months ended June 30, 2001, respectively. In accordance with the
provisions of SFAS No. 144, the results of operations of these dealerships,
including gains or losses on disposition have been included in the loss on
operations of discontinued dealerships in the accompanying unaudited
consolidated statements of income. Assets and liabilities of the
11
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
nine franchises being held for sale at June 30, 2002 totaled approximately $30.2
million and $20.6 million, respectively, as of June 30, 2002 and have been
classified as assets or liabilities held for sale included in other current
assets and other accrued liabilities, respectively, in the accompanying
unaudited consolidated balance sheet. Assets held for sale are primarily
comprised of inventory, certain property and equipment and goodwill, and
liabilities held for sale are comprised of floor plan notes payable. The
disposal of these assets held for sale may take three months or longer to
complete.
In addition to the dispositions discussed above, during the year ended
December 31, 2001, Sonic sold or otherwise disposed of assets from 15 other
dealership franchises, resulting in the closing of nine dealerships. These
dealerships generated combined revenues of $28.8 million and $63.1 million and
incurred pretax losses of $0.7 million and $2.5 million in the three and six
months ended June 30, 2001, respectively. The results of operations of these
dealerships have been included in income from continuing operations in the
accompanying unaudited consolidated statements of income.
In addition, on August 7, 2002, Sonic's Board of Directors approved,
but Sonic has not yet completed, the disposition of five additional franchises,
which will result in the sale of three dealerships. Assets to be disposed of
consist primarily of inventory and, certain property and equipment and totaled
approximately $18.7 million as of June 30, 2002. Liabilities to be disposed are
comprised of floor plan notes payable totaling approximately $14.5 million at
June 30, 2002. The disposal of these assets may take three months or longer to
complete.
3. Inventories
Inventories consist of the following:
(Dollars in Thousands)
December 31, June 30,
2001 2002
------------ ------------
New vehicles $ 478,077 $ 641,156
Used vehicles 111,656 147,577
Parts and accessories 48,705 53,229
Other 25,820 32,803
------------ ------------
Total $ 664,258 $ 874,765
============ ============
4. Property and Equipment
Property and equipment is comprised of the following:
(Dollars in Thousands)
December 31, June 30,
2001 2002
------------ ------------
Land $ 10,863 $ 5,908
Building and improvements 34,387 34,661
Office equipment and fixtures 29,492 31,550
Parts and service equipment 21,917 22,527
Company vehicles 7,078 8,353
Construction in progress 16,003 19,388
------------ ------------
Total, at cost 119,740 122,387
Less accumulated depreciation (20,768) (21,667)
------------ ------------
Property and equipment, net $ 98,972 $ 100,720
============ ============
In addition to the amounts classified above as construction in
progress, approximately $30.6 million at June 30, 2002 and $18.0 million at
December 31, 2001 in construction costs on facilities that are expected to be
completed and sold within one year in sale-leaseback transaction are included in
other current assets on the accompanying consolidated balance sheets. Under the
terms of the sale-leaseback transactions, Sonic sells the properties to a third
party entity and enters into long-term operating leases on the facilities. Sonic
has no continuing obligations under these arrangements other than lease
payments.
Sonic capitalized interest costs related to its construction projects
of $0.5 million and $1.0 million for the three and six
12
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
months ended June 30, 2002, and capitalized $0.5 million and $0.8 million for
the three and six months ended June 30, 2001. These capitalized amounts are a
reduction to interest expense and included in the balance of construction in
progress.
5. Derivative Financial Instruments
In order to reduce exposure to market risks from fluctuations in
interest rates, Sonic entered into two separate interest rate swap agreements on
January 15, 2002 and June 6, 2002 to effectively convert a portion of its
LIBOR-based variable rate debt to fixed rates. The swaps each have a notional
principal amount of $100 million and mature on October 31, 2004 and June 6,
2006, respectively. Under the terms of the swap agreement entered into on
January 15, 2002, Sonic receives interest payments on the notional amount at a
rate equal to the one month LIBOR rate, adjusted monthly, and makes interest
payments at a fixed rate of 3.88%. Under the terms of the swap agreement entered
into on June 6, 2002, Sonic receives interest payments on the notional amount at
a rate equal to the one month LIBOR rate, adjusted monthly, and makes interest
payments at a fixed rate of 4.50%. Incremental interest expense incurred (the
difference between interest earned and interest incurred) as a result of this
interest rate swap was $0.5 million for the three months ended June 30, 2002,
and $0.9 million for the six months ended June 30, 2002 and has been included in
interest expense, other in the accompanying unaudited consolidated statements of
income.
The interest rate swaps have been designated and qualify as cash flow
hedges and, as a result, changes in the fair value of the interest rate swaps
have been recorded in other comprehensive loss, net of related income taxes, in
our statement of stockholders' equity. The fair value of the interest rate swaps
as of June 30, 2002, is recorded in other long-term liabilities on the
accompanying unaudited balance sheet. The change in fair value of the swap for
the six months ended June 30, 2002 was approximately $2.6 million ($1.6 million,
net of tax). Because the critical terms of the interest rate swaps and the
underlying debt obligations were the same, no ineffectiveness was recorded.
6. Impact of Change in Accounting for Intangible Assets
The following table shows the effect on net income and net income per
share for the three and six months ended June 30, 2001, compared to net income
and net income per share for the three and six months ended June 30, 2002, as if
the provisions of SFAS No. 142 eliminating goodwill amortization had been
applied as of January 1, 2001:
Three Months Ended June 30, Six Months Ended June 30,
-------------------------- -------------------------
2001 2002 2001 2002
---------- ----------- --------- -----------
Reported net income $22,486 $31,488 $35,969 $53,568
Goodwill amortization, net of tax $ 3,384 - 6,657 -
------- ------- ------- -------
Adjusted net income $25,870 $31,488 $42,626 $53,568
======= ======= ======= =======
Basic net income per share:
Reported net income $ 0.56 $ 0.74 $ 0.88 $ 1.29
Goodwill amortization, net of tax $ 0.09 $ - $ 0.17 $ -
------- ------- ------- -------
Adjusted net income $ 0.65 $ 0.74 $ 1.05 $ 1.29
======= ======= ======= =======
Diluted net income per share:
Reported net income $ 0.55 $ 0.71 $ 0.87 $ 1.23
Goodwill amortization, net of tax $ 0.08 $ - $ 0.16 $ -
------- ------- ------- -------
Adjusted net income $ 0.63 $ 0.71 $ 1.03 $ 1.23
======= ======= ======= =======
Goodwill amortization from dealerships included in discontinued
operations during the six months ended June 30, 2001 was not material.
7. Long-term Debt
Senior Subordinated Notes
At June 30, 2002, Sonic had $200.0 million in aggregate principal
outstanding of its 11% Senior Subordinated Notes. The Senior Subordinated Notes
are unsecured, mature on August 1, 2008, and are redeemable at Sonic's option
after August 1, 2003. Interest payments are due semi-annually on February 1 and
August 1.
The Senior Subordinated Notes are subordinated to all present and
future senior indebtedness of Sonic, including the revolving credit facility
discussed below. Redemption prices during the 12-month periods beginning August
1 are 105.500% in 2003, 103.667% in 2004, 101.833% in 2005 and 100% thereafter.
The discount on the Senior Subordinated Notes is being amortized over the term
of the notes using the effective interest method.
13
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
The indentures governing the senior subordinated notes contain certain
specified restrictive and required financial covenants. Sonic has agreed not to
pledge its assets to any third party except under certain limited circumstances.
Sonic also has agreed to certain other limitations or prohibitions concerning
the incurrence of other indebtedness, capital stock, guaranties, asset sales,
investments, cash dividends to shareholders, distributions and redemptions.
Sonic is in compliance with all restrictive covenants as of June 30, 2002.
Sonic's obligations under the notes are guaranteed by its operating
subsidiaries.
5 1/4% Convertible Senior Subordinated Notes
On May 7, 2002, Sonic issued $149.5 million in aggregate principal
amount of 5 1/4% Convertible Senior Subordinated Notes with net proceeds, before
expenses, of approximately $145.1 million. The net proceeds were used to repay a
portion of the amounts outstanding under Sonic's revolving credit facility. The
notes are unsecured obligations that rank equal in right of payment to all of
Sonic's existing and future senior subordinated indebtedness, mature on May 7,
2009 and are redeemable at Sonic's option after May 7, 2005. Sonic's obligations
under these notes are not guaranteed by any of its subsidiaries.
In fiscal quarters after June 30, 2002, the notes are convertible into
shares of Class A common stock, at the option of the holder, if as of the last
day of the preceding fiscal quarter, the closing sale price of our Class A
common stock for at least 20 trading days in a period of 30 consecutive trading
days ending on the last trading-day of such preceding fiscal quarter is more
than 110% of the conversion price per share of Class A common stock on the last
day of such preceding fiscal quarter. If this condition is satisfied, then the
notes will be convertible at any time, at the option of the holder, through
maturity. The initial conversion price per share is $46.87, and will be subject
to adjustment for certain distributions on, or other changes in our Class A
Common Stock, if any, prior to the conversion date. In addition, on or before
May 7, 2007, a holder also may convert notes into shares of our Class A common
stock at any time after a 10 consecutive trading-day period in which the average
of the trading day prices for the notes for that 10 trading-day period is less
than 103% of the average conversion value for the notes during that period. The
conversion value is equal to the product of the closing sale price for our Class
A common stock on a given day multiplied by the then current conversion rate,
which is the number of shares of Class A common stock into which each $1,000
principle amount of notes is then convertible.
Subsequent to June 30, 2002, Sonic repurchased $5.5 million in
aggregate principal amount of the convertible notes on the open market for
approximately $4.1 million.
The Revolving Facility
Sonic has a revolving credit facility (the "Revolving Facility") with Ford
Motor Credit Company ("Ford Motor Credit"), Chrysler Financial Company LLC
(Chrysler Financial") and Toyota Motor Credit Corporation ("Toyota Credit") with
a borrowing limit of $600 million, subject to a borrowing base calculated on the
basis of our receivables, inventory and equipment and a pledge of certain
additional collateral by an affiliate of Sonic (the borrowing base was
approximately $519.1 million at June 30, 2002). The amounts outstanding under
the Revolving Facility bear interest at 2.50% above LIBOR (LIBOR was 1.84% at
June 30, 2002) and will mature on October 31, 2004 (but may be extended for a
number of additional one year terms by Ford Motor Credit, Chrysler Financial and
Toyota Credit). The Revolving Facility includes an annual commitment fee equal
to 0.25% of the unused portion of the facility. The total outstanding balance
was approximately $239.0 million as of June 30, 2002. Balances under the
Revolving Facility are guaranteed by Sonic's operating subsidiaries.
Sonic agreed under the Revolving Facility not to pledge any of its assets
to any third party (with the exception of currently encumbered assets of our
dealership subsidiaries that are subject to previous pledges or liens). In
addition, the Revolving Facility contains certain negative covenants, including
covenants restricting or prohibiting the payment of dividends, capital
expenditures and material dispositions of assets as well as other customary
covenants and default provisions. Financial covenants as of June 30, 2002,
include specified ratios of:
Covenant Required Actual
----------------------------- ---------- --------
Current ratio **1.23 1.26
Fixed charge coverage **1.41 1.73
Interest coverage **2.00 3.88
Adjusted debt to EBITDA *2.25 1.72
In addition, the loss of voting control over Sonic by O. Bruton Smith,
Chairman and Chief Executive Office, Scott Smith, President and Chief Operating
Officer, and their spouses or immediate family members or our failure, with
certain exceptions, to own
* less than
** greater than
14
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
all the outstanding equity, membership or partnership interests in our
dealership subsidiaries will constitute an event of default under the Revolving
Facility. Sonic was in compliance with all restrictive covenants as of June 30,
2002.
The Mortgage Facility
Sonic currently has a revolving real estate acquisition and
construction line of credit (the "Construction Loan") and a related mortgage
refinancing facility (the "Permanent Loan" and collectively with the
Construction Loan, the "Mortgage Facility") with Ford Motor Credit. Under the
Construction Loan, Sonic's dealership development subsidiaries can borrow up to
$50.0 million to finance land acquisition and dealership construction costs.
Advances can be made under the Construction Loan until December 2003. All
advances will mature on September 22, 2005, bear interest at 2.25% above LIBOR
and are secured by Sonic's guarantee and a lien on all of the borrowing
subsidiaries' real estate and other assets. Borrowings, net of repayments, under
the Construction Loan in the first six months of 2002 were approximately $0.7
million and were primarily used in construction of dealership facilities. The
total outstanding balance under the Construction Loan as of June 30, 2002 was
approximately $7.8 million.
Under the Permanent Loan, Sonic can refinance up to $50.0 million in
advances under the Construction Loan once the projects are completed and can
finance real estate acquisition costs to the extent these costs were not
previously financed under the Construction Loan. Advances can be made under the
Permanent Loan until June 2005. All advances under the Permanent Loan mature on
June 22, 2010, bear interest at 2.00% above LIBOR and are secured by the same
collateral given under the Construction Loan. The total outstanding balance as
of June 30, 2002 was approximately $4.0 million.
The Mortgage Facility allows Sonic to borrow up to $100 million in the
aggregate under the Construction Loan and the Permanent Loan. The Mortgage
Facility is not cross-collateralized with the Revolving Facility; however, a
default under one will cause a default under the other. Among other customary
covenants, the borrowing subsidiaries under the Mortgage Facility agreed not to
incur any other liens on their property (except for existing encumbrances on
property acquired) and not to transfer their property or more than 20% of their
ownership interests to any third party. In addition, the loss of voting control
by O. Bruton Smith, Scott Smith and their spouses or immediate family members,
with certain exceptions, will result in an event of default under the Mortgage
Facility. Sonic was in compliance with all restrictive covenants as of June 30,
2002.
Subsidiary Guarantees
Balances outstanding under Sonic's Revolving Facility and its 11% Senior
Subordinated Notes due 2008 are guaranteed by all of Sonic's operating
subsidiaries. These guarantees are full and unconditional and joint and several.
The parent company has no independent assets or operations and subsidiaries that
are not guarantors are minor. Sonic's obligations under its 5 1/4% Convertible
Senior Subordinated Notes Due 2009 are not guaranteed by any of Sonic's
subsidiaries.
8. Related Parties
Registration Rights Agreement
Prior to its initial public offering, Sonic signed a Registration
Rights Agreement dated as of June 30, 1997 with Sonic Financial Corporation
("SFC"), O. Bruton Smith, Scott Smith and William S. Egan (collectively, the
"Class B Registration Rights Holders"). SFC currently owns 8,881,250 shares of
Class B common stock; O. Bruton Smith, 2,171,250 shares; Scott Smith, 956,250
shares; and Egan Group, LLC, an assignee of Mr. Egan (the "Egan Group"), 20,625
shares, all of which are covered by the Registration Rights Agreement. If, among
other things provided in Sonic's charter, offers and sales of shares of Class B
common stock are registered with the Securities and Exchange Commission, then
such shares will automatically convert into a like number of shares of Class A
common stock.
The Class B Registration Rights Holders have certain limited piggyback
registration rights under the Registration Rights Agreement. These rights permit
them to have their shares of Sonic's common stock included in any Sonic
registration statement registering Class A common stock, except for
registrations on Form S-4, relating to exchange offers and certain other
transactions, and Form S-8, relating to employee stock compensation plans. The
Registration Rights Agreement expires in November 2007. SFC is controlled by O.
Bruton Smith.
Payable to Company's Chairman
Sonic has a note payable to O. Bruton Smith in the amount of $5.5
million (the "Subordinated Smith Loan"). The Subordinated Smith Loan bears
interest at Bank of America's announced prime rate plus 0.5% (prime rate was
4.75% at June 30, 2002) and has a stated maturity date of November 30, 2000.
Under the terms of certain subordination agreements currently in effect,
15
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS - (Continued)
however, all amounts owed by Sonic to Mr. Smith under the Subordinated Smith
Loan are to be paid only after all amounts owed by Sonic under its 11% Senior
Subordinated Notes due 2008 are fully paid in cash. Accordingly, the
Subordinated Smith Loan has been classified as non-current on the accompanying
consolidated balance sheets.
9. Capital Structure and Per Share Data
Preferred Stock -- Sonic has 3 million shares of "blank check"
preferred stock authorized with such designations, rights and preferences as may
be determined from time to time by the Board of Directors. The Board of
Directors has designated 300,000 shares of preferred stock as Class A
convertible preferred stock, par value $0.10 per share (the "Preferred Stock")
which is divided into 100,000 shares of Series I Preferred Stock, 100,000 shares
of Series II Preferred Stock, and 100,000 shares of Series III Preferred Stock.
There were no shares of Preferred Stock issued or outstanding at June 30, 2002.
Common Stock - Sonic has two classes of common stock. Sonic has
authorized 100 million shares of Class A common stock at a par value of 0.01 per
share. Class A common stock entitles its holder to one vote per share. Sonic had
34,850,738 and 37,215,211 shares of Class A common stock issued at December 31,
2001 and June 30, 2002, respectively. Of these issued shares, there were
28,520,474 and 30,799,947 shares outstanding at December 31, 2001 and June 30,
2002, respectively. Sonic has also authorized 30 million shares of Class B
common stock at a par value of $.01 per share. Class B common stock entitles its
holder to ten votes per share, except in certain circumstances. Each share of
Class B common stock is convertible into one share of Class A common stock
either upon voluntary conversion at the option of the holder, or automatically
upon the occurrence of certain events, as provided in Sonic's charter. At
December 31, 2001 and June 30, 2002 there were 12,029,375 shares of Class B
common stock issued and outstanding.
Treasury Stock - Sonic's Board of Directors has authorized Sonic to expend
up to $100 million to repurchase shares of its Class A common stock or redeem
securities convertible into Class A common stock. As of June 30, 2002, Sonic has
repurchased 6,415,264 shares of Class A common stock for $61.4 million and has
also redeemed 13,801.5 shares of Class A convertible preferred stock at a total
cost of approximately $13.8 million.
In addition to the $100 million authorized above, on August 7, 2002,
Sonic's Board of Directors authorized Sonic to expend an additional $25.0
million for Sonic's share repurchase program. As of August 12, 2002, Sonic has
repurchased a total of 7,031,264 shares of Class A common stock for $74.1
million.
Warrants - In connection with Sonic's prior year acquisitions, Sonic issued
warrants to purchase 242,782 shares of Class A common stock at exercise prices
ranging from $6.00 per share to $11.27 per share. The warrants expire on various
dates from January 15, 2003 to November 30, 2003. Sonic has recorded the
issuance of such warrants at their estimated fair value on the date of issuance.
As of December 31, 2001 and June 30, 2002, all but 4,000 of these warrants had
been exercised.
Per Share Data -- The calculation of diluted net income per share considers
the potential dilutive effect of options and shares under Sonic's stock
compensation plans, Class A common stock purchase warrants, and Class A
convertible preferred stock. The following table illustrates the dilutive effect
of such items on net income per share:
16
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
NOTES TO UNAUDITED CONSOLIDATED FINANCIAL STATEMENTS
For the Three Months Ended June 30, 2002
-----------------------------------------------------------------------------------
Net Income Net Income
From Continuing From Discontinued
Operations Operations Net Income
--------------------- -------------------- ----------------------
Per Share Per Share Per Share
Shares Amount Amount Amount Amount Amount Amount
-------- -------- --------- -------- --------- -------- ---------
Basic Net Income Per Share 42,652 $ 30,612 $ 0.72 $ 876 $ 0.02 $ 31,488 $ 0.74
Effect of Dilutive Securities:
Stock Compensation Plans 1,882
Warrants 3
--------
Diluted Net Income Per Share 44,537 $ 30,612 $ 0.69 $ 876 $ 0.02 $ 31,488 $ 0.71
======== ======== ========= ======== ========= ======== =========
For the Three Months Ended June 30, 2001
-----------------------------------------------------------------------------------
Net Income Net Income
From Continuing From Discontinued
Operations Operations Net Income
--------------------- -------------------- ----------------------
Per Share Per Share Per Share
Shares Amount Amount Amount Amount Amount Amount
-------- -------- --------- -------- --------- -------- ---------
Basic Net Income Per Share 40,063 $ 22,298 $ 0.56 $ 188 $ 0.00 $ 22,486 $ 0.56
Effect of Dilutive Securities:
Stock Compensation Plans 962
Warrants 37
Convertible Preferred Stock -
--------
Diluted Net Income Per Share 41,062 $ 22,298 $ 0.54 $ 188 $ 0.01 $ 22,486 $ 0.55
======== ======== ========= ======== ========= ======== =========
For the Six Months Ended June 30, 2002
-----------------------------------------------------------------------------------
Net Income Net Income
From Continuing From Discontinued
Operations Operations Net Income
--------------------- -------------------- ----------------------
Per Share Per Share Per Share
Shares Amount Amount Amount Amount Amount Amount
-------- -------- --------- -------- --------- -------- ---------
Basic Net Income Per Share 41,645 $ 53,177 $ 1.28 $ 391 $ 0.01 $ 53,568 $ 1.29
Effect of Dilutive Securities:
Stock Compensation Plans 1,908
Warrants 2
--------
Diluted Net Income Per Share 43,555 $ 53,177 $ 1.22 $ 391 $ 0.01 $ 53,568 $ 1.23
======== ======== ========= ======== ========= ======== =========
For the Six Months Ended June 30, 2001
-----------------------------------------------------------------------------------
Net Income Net Income
From Continuing From Discontinued
Operations Operations Net Income
--------------------- --------------------- ----------------------
Per Share Per Share Per Share
Shares Amount Amount Amount Amount Amount Amount
--------- -------- --------- -------- --------- -------- ---------
Basic Net Income Per Share 40,664 $ 35,628 $ 0.88 $ 341 $ 0.00 $ 35,969 $ 0.88
Effect of Dilutive Securities:
Stock Compensation Plans 563
Warrants 27
Convertible Preferred Stock 12
--------
Diluted Net Income Per Share 41,266 $ 35,628 $ 0.86 $ 341 $ 0.01 $ 35,969 $ 0.87
======== ======== ========= ======== ========= ======== =========
17
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Item 2: Management's Discussion and Analysis of Financial Condition and Results
of Operations.
The following discussion and analysis of the results of operations and
financial condition should be read in conjunction with the Sonic Automotive,
Inc. and Subsidiaries Unaudited Consolidated Financial Statements and the
related notes thereto appearing elsewhere in this report.
Overview
We are one of largest automotive retailers in the United States, as
measured by total revenue, operating 186 dealership franchises at 136 locations
and 43 collision repair centers throughout the United States as of August 12,
2002. We own and operate franchises for 36 different brands of cars and light
trucks, providing comprehensive services including sales of both new and used
cars and light trucks, replacement parts and vehicle maintenance, warranty,
paint and repair services. We also arrange extended warranty contracts and
financing and insurance for our automotive customers.
The following table depicts the breakdown of our new vehicle revenues
by brand for the three and six months ended June 30, 2002 compared to the three
and six months ended June 30, 2001:
Percentage of New Percentage of New
Vehicle Revenues for Vehicle Revenues for
the Three Months the Six Months Ended
Ended June 30, June 30,
2001 2002 2001 2002
--------- ---------- ---------- ----------
Brand (1)
Ford ....................... 20.3% 17.7% 19.4% 18.6%
General Motors (2) ......... 10.8% 22.3% 10.9% 19.1%
Honda ...................... 13.5% 12.7% 13.9% 13.2%
Toyota ..................... 11.5% 10.3% 11.2% 11.0%
BMW ........................ 11.8% 10.5% 11.5% 10.7%
Chrysler (3) ............... 8.3% 6.9% 9.0% 7.1%
Lexus ...................... 5.5% 4.5% 5.7% 4.8%
Nissan ..................... 4.7% 2.8% 4.9% 3.3%
Other (4) .................. 13.6% 12.3% 13.5% 12.2%
------- ------- ------- -------
Total ...................... 100.0% 100.0% 100.0% 100.0%
======= ======= ======= =======
(1) Amounts reflect certain reclassifications in order to make Sonic's
presentation more consistent with peer group and revised accounting
standards regarding manufacturer incentives.
(2) Includes Buick, Cadillac, Chevrolet, GMC, Oldsmobile, and Pontiac.
(3) Includes Chrysler, Dodge, Jeep, and Plymouth.
(4) Includes Acura, Audi, Bentley, Hino Trucks, Hyundai, Infiniti,
Isuzu, KIA, Land Rover, Lincoln, Mazda, Mercedes, Mercury,
Mitsubishi, Porsche, Rolls Royce, Saab, Subaru, Volkswagen, and
Volvo.
New vehicle revenues include both the sale and lease of new vehicles.
Used vehicle revenues include amounts received for used vehicles sold to retail
customers, other dealers and wholesalers. Other operating revenues include parts
and services revenues, fees and commissions for arranging financing and
insurance and sales of third party extended warranties for vehicles. In
connection with vehicle financing, warranty and insurance contracts, we receive
a commission from the provider for originating the contract. If, within 90 days
of origination, the customer cancels or defaults on the contract, the provider
will assess a charge (a "chargeback") for a portion of the original commission.
The amount of the chargeback depends on how long the related contract was
outstanding. As a result, we have established reserves based on our historical
chargeback experience.
Sales of new and used vehicles are cyclical and historically have
experienced periodic downturns, characterized by oversupply and weak demand.
Many factors affect vehicle sales including general economic conditions and
consumer confidence, the level of discretionary personal income, interest rates,
manufacturer incentives and available credit. In the first half of 2002,
industry-wide selling rates of new vehicles were modestly below 2001 levels.
However, our dealerships in Northern California and Dallas continue to
experience significant declines in revenue run rates due to the depressed
economic conditions in those markets compared to the rest of the country. While
the automotive retailing business is cyclical, we sell several products and
services that are not closely
18
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
tied to the sale of new and used vehicles. These products and services include
our parts, service and collision repair businesses, none of which are dependent
upon near-term new vehicle sales volume.
Our cost of sales and profitability are also affected by the
allocations of new vehicles that our dealerships receive from manufacturers.
When we do not receive allocations of new vehicle models adequate to meet
customer demand, we may purchase additional vehicles from other dealers at a
premium to the manufacturer's invoice, reducing the gross margin realized on the
sales of such vehicles. In addition, we follow a disciplined approach in selling
vehicles to other dealers and wholesalers when the vehicles have been in our
inventory longer than the guidelines set by us. These sales are frequently at or
below cost and, therefore, reduce our overall gross margin on vehicle sales.
Salary expense, benefits costs, facility rent and advertising expenses
comprise the majority of our selling, general and administrative expenses.
Approximately 63.3% of our selling, general and administrative expenses for the
six months ended June 30, 2002 were variable. We are able to adjust these
expenses as the operating or economic environment impacting our dealerships
changes. We manage these variable expenses, such as advertising (7.8% of
selling, general and administrative expenses) and non-salaried sales
compensation (50.8% of selling, general and administrative expenses) expenses,
so that they are generally related to vehicle sales gross profit and can be
adjusted in response to changes in vehicle sales gross profit. Salespersons,
sales managers, service managers, parts managers, service advisors, service
technicians and all other non-clerical dealership personnel are paid either a
commission or a modest salary plus commissions. Many of our compensation plans
are based on net profit at the dealership or regional level, after floor plan
interest. As a result, compensation expense as a percentage of reported gross
profit may fluctuate based on changes in floor plan interest, which is not
included in gross profit.
Interest expense fluctuates based primarily on the level of the
inventory of new vehicles held at our dealerships, substantially all of which is
financed through floor plan financing, as well as the amount of indebtedness
incurred for acquisitions. Our floor plan expenses are substantially offset by
amounts received from manufacturers, in the form of floor plan assistance. These
payments are credited against our cost of sales. During the six months ended
June 30, 2002, the amounts we received from floor plan assistance exceeded our
floor plan interest expense by approximately $6.3 million. As a result, the
effective rate incurred under our floor plan financing arrangements was reduced
to 0% after considering these incentives.
We sell similar products and services (new and used vehicles, parts,
service and collision repair services), use similar processes in selling our
products and services, and sell our products and services to similar classes of
customers. As a result of this and the way we manage our business, we have
aggregated our results into a single segment for purposes of reporting financial
condition and results of operations.
We have accounted for all of our dealership acquisitions using the
purchase method of accounting and, as a result, we do not include in our
financial statements the results of operations of these dealerships prior to the
date they were acquired. Our unaudited consolidated financial statements
discussed below reflect the results of operations, financial position and cash
flows of each of our dealerships acquired prior to June 30, 2002. As a result of
the effects of our acquisitions and of other potential factors in the future,
the historical consolidated financial information described in "Management's
Discussion and Analysis of Financial Condition and Results of Operations" is not
necessarily indicative of the results of operations, financial position and cash
flows which would have resulted had such acquisitions occurred at the beginning
of the periods presented, nor is it indicative of future results of operations,
financial position and cash flows.
Use of Estimates and Critical Accounting Policies
The preparation of financial statements in conformity with accounting
principles generally accepted in the United States of America requires
management to make estimates and assumptions that affect 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. Actual results could differ from those
estimates. Certain of our accounting policies employing the use of significant
estimates are as follows:
19
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Receivables, net - Our receivables, net consist primarily of contracts
in transit and amounts due from the manufacturers for repair services performed
on vehicles with a remaining factory warranty and amounts due from third parties
from the sale of parts. We believe that there is minimal risk of
uncollectability on warranty receivables. We evaluate parts and other
receivables for collectability based on the age of the receivable, the credit
history of the customer and past collection experience. The allowance for
doubtful accounts we have recorded for accounts receivable is not significant.
As of June 30, 2002, we also had outstanding notes receivable from finance
contracts of $15.7 million (net of an allowance for credit losses of $2.1
million). These notes have average terms of approximately 30 months and are
secured by the related vehicles. The assessment of our allowance for credit
losses considers historical loss ratios and the performance of the current
portfolio with respect to past due accounts.
Inventories - Inventories of new and used vehicles, including
demonstrators, are stated at the lower of specific cost or market. Inventories
of parts and accessories are accounted for using the "first-in, first-out"
("FIFO") method of inventory accounting and are stated at the lower of FIFO cost
or market. Other inventories, which primarily include rental and service
vehicles, are stated at the lower of specific cost or market.
We assess the valuation of all of our vehicle and parts inventories and
maintain a reserve where the cost basis exceeds the fair market value. In making
this assessment for new vehicles, we primarily consider the age of the vehicles
along with the timing of annual and model changeovers. For used vehicles we
consider recent market data and trends such as loss histories along with the
current age of the inventory. Parts inventories are primarily assessed
considering excess quantity and continued usefulness of the part. The risk with
parts inventories is minimized by the fact that, generally, excess or obsolete
parts can be returned to the manufacturer. We have not recorded any significant
reserves on any of our inventory balances.
Income taxes - We provide for deferred taxes at currently enacted tax
rates for the tax effects of carry forward items and temporary differences
between the tax basis of assets and liabilities and their reported amounts in
the financial statements. A valuation allowance is established when management
determines it is more likely than not that taxable income will not be sufficient
to fully realize the benefits of deferred tax assets. We currently have not
established any valuation allowance on our deferred tax assets.
Long-Term Assets - We review the carrying value of long-term assets
(other than goodwill) for impairment whenever events or changes in circumstances
indicate that the carrying value may not be recoverable. If such an indication
is present, we compare the carrying amount of the asset to the estimated
undiscounted cash flows related to that asset. We conclude that an asset is
impaired if the sum of such expected future cash flows is less than the carrying
amount of the related asset. If we determine an asset is impaired, the
impairment loss would be the amount by which the carrying amount of the related
asset exceeds its fair value. The fair value of the asset would be determined
based on the quoted market prices, if available. If quoted market prices are not
available, we determine fair value by using a discounted cash flow model.
Goodwill -- Goodwill represents the excess purchase price over the
estimated fair value of the tangible and separately measurable intangible net
assets acquired. As of June 30, 2002, the carrying amount of goodwill was $885.0
million and represented 39.5% of total assets and 143.1% of total stockholders'
equity. As of December 31, 2001, the carrying amount of goodwill was $738.1
million and represented 40.9% of total assets and 142.7% of total stockholders'
equity.
Pursuant to the provisions of Statement of Financial Accounting
Standards ("SFAS") No. 142, goodwill acquired in business combinations is no
longer amortized, but the carrying amount will be reviewed and reduced against
operations if it is found to be impaired. The results of operations for the
three and six months ended June 30, 2001 include goodwill amortization expense
of $3.4 million and $6.7 million, respectively, net of tax. Diluted net income
per share for the three and six months ended June 30, 2002 would have been $0.63
and $1.03, respectively, after the elimination of the tax-effected goodwill
amortization.
Accruals - Various accruals, such as reserves for contingencies and
reserves for incurred but not reported claims under various insurance programs,
require management to make estimates in determining the ultimate liability we
may incur. The ultimate cost of these insurance reserves are estimated by
management and by actuarial evaluations based on historical claims experience,
adjusted for current trends and changes in claims processing procedures.
In June 2001, the Financial Accounting Standards Board ("FASB") issued
SFAS No. 141: Business Combinations. SFAS No. 141 prohibits the
pooling-of-interests method of accounting and requires the use of the purchase
method of accounting for all business combinations initiated after June 30,
2001. Additionally, acquired intangible assets should be separately recognized
if the
20
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
benefit of the intangible asset is obtained through contractual or other legal
rights, or if the intangible asset can be sold, transferred, licensed, rented or
exchanged, regardless of the acquirer's intent to do so.
We also adopted SFAS No. 142: Goodwill and Other Intangible Assets.
Among other things, SFAS No. 142 no longer permits the amortization of goodwill,
but requires that the carrying amount of goodwill be reviewed and reduced
against operations if it is found to be impaired. This review must be performed
on at least an annual basis (with an initial review within six months of
adopting the new standard), but must also be performed upon the occurrence of an
event or circumstance that indicates a possible reduction in value. SFAS No. 142
does require the amortization of intangible assets other than goodwill over
their useful economic lives, unless the useful economic life is determined to be
indefinite. Intangible assets determined to have a finite life are required to
be reviewed for impairment in accordance with SFAS No. 144: Accounting for
Impairment or Disposal of Long-Lived Assets. Intangible assets that are
determined to have an indefinite economic life are not amortized and must be
reviewed for impairment in accordance with the terms of SFAS No. 142. The
adoption of SFAS No. 142 on January 1, 2002 resulted in the elimination of
approximately $22.1 million of annual goodwill amortization. We have completed
our initial impairment test of goodwill in accordance with the provisions of
SFAS No. 142 and have concluded that no impairment of recorded goodwill balances
exist as of June 30, 2002.
We adopted the provisions of SFAS No. 144: Accounting for the
Impairment or Disposal of Long-Lived Assets as of January 1, 2002. SFAS No. 144
establishes a single accounting model for assets to be disposed of by sale
whether previously held and used or newly acquired. SFAS No. 144 requires
certain long-lived assets to be reported at the lower of carrying amount or fair
value, less cost to sell, and provides guidance in asset valuation and measuring
impairment. When Sonic disposes of dealerships, the results of operations of
those dealerships are now required to be reflected in discontinued operations.
The adoption of this standard resulted in net income of $0.2 million and $0.9
million being classified as discontinued operations on the unaudited
consolidated statements of income for the three months ended June 30, 2001 and
2002, respectively and $0.3 million and $0.4 million for the six months ended
June 30, 2001 and 2002, respectively.
Results of Operations
The following table summarizes, for the periods presented, the
percentages of total revenues represented by certain items reflected in our
unaudited consolidated statements of income:
Percentage of Total Percentage of Total
Revenues for the Three Revenues for the Six
Months Ended June 30, Months Ended June 30,
2001 2002 2001 2002
---- ---- ---- ----
Revenues:
New vehicle revenues 60.09% 59.66% 59.02% 59.62%
Used vehicle revenues (retail) 18.42% 17.65% 18.81% 17.60%
Wholesale vehicle revenues 6.36% 7.36% 7.01% 7.12%
Parts, service and collision repair 11.96% 12.55% 12.20% 12.80%
Finance, insurance and other 3.17% 2.78% 2.96% 2.86%
-------- -------- -------- --------
Total revenues 100.00% 100.00% 100.00% 100.00%
Cost of sales 84.52% 84.63% 84.71% 84.48%
-------- -------- -------- --------
Gross profit 15.48% 15.37% 15.29% 15.52%
Selling, general and administrative expenses 11.49% 11.81% 11.58% 12.07%
Depreciation 0.13% 0.12% 0.12% 0.11%
Goodwill amortization 0.30% 0.00% 0.30% 0.00%
-------- -------- -------- --------
Operating income 3.56% 3.44% 3.29% 3.34%
Interest expense, floorplan (0.64%) (0.34%) (0.72%) (0.34%)
Interest expense, other (0.55%) (0.51%) (0.61%) (0.52%)
Other income 0.00% 0.01% 0.00% 0.00%
-------- -------- -------- --------
Income from continuing operations before income taxes 2.37% 2.60% 1.96% 2.48%
Provision for income taxes (0.92%) (1.00%) (0.76%) (0.94%)
-------- -------- -------- --------
Net income from continuing operations 1.45% 1.60% 1.20% 1.54%
Income from operations of discontinued dealerships 0.02% 0.07% 0.02% 0.02%
Income tax expense (0.01%) (0.02%) (0.01%) (0.01%)
-------- -------- -------- --------
Net income from discontinued operations 0.01% 0.05% 0.01% 0.01%
Net income 1.46% 1.65% 1.21% 1.55%
======== ======== ======== ========
21
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
During the first half of 2002, Sonic disposed of nine franchises, resulting
in the closing of six dealerships, and approved, but had not completed the sale
of, nine additional franchises, which will result in the closing of six
dealerships. These were generally smaller dealerships with unprofitable
operations. These dealerships disposed of and held for sale generated combined
revenues of $61.1 million and $120.2 million in the three and six months ended
June 30, 2002, respectively, and $71.6 million and $144.3 million in the three
and six months ended June 30, 2001, respectively, and generated pre-tax income
of $1.3 million and $0.5 million in the three and six months ended June 30,
2002, respectively, and $0.3 million and $0.6 million in the three and six
months ended June 30, 2001, respectively. In accordance with the provisions of
SFAS No. 144, the results of operations of these dealerships, including gains or
losses on disposition, have been included in the net income from discontinued
operations in the accompanying unaudited consolidated statements of income.
In addition to the dispositions discussed above, during the year ended
December 31, 2001, we sold or otherwise disposed of assets from 15 other
dealership franchises, resulting in the closing of nine dealerships. These
dealerships generated combined revenues of $28.8 million and $63.1 million for
the three and six months ended June 30, 2001, respectively, and incurred pretax
losses of $0.7 million and $2.5 million in the three and six months ended June
30, 2001, respectively. Since these were disposed of prior to the adoption of
SFAS No. 144 on January 1, 2002, the results of operations of these dealerships
have been included in income from continuing operations in the accompanying
unaudited consolidated statements of income.
In order to make the comparison of our results of ongoing operations for
the three and six months ended June 30, 2002 to the three and six months ended
June 30, 2001 more meaningful, we have disregarded the effect on operations of
all dealerships disposed, including those sold during the year ended December
31, 2001, which have been included in income from continuing operations, and
those sold or designated for sale during the six months ended June 30, 2002,
which have been included in income from discontinued operations. The tables
below provide information regarding the operations of these dealerships which we
disposed of during 2001 and those dealerships still being operated as of June
30, 2002.
Revenues
For the Quarter Ended $ % For the Six Months Ended $ %
------------------------- --------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
------------ ----------- -------- -------- ----------- ----------- -------- --------
Total Revenues (in thousands)
Same Store $ 1,459,473 $ 1,497,613 (38,140) (2.5%) $ 2,807,866 $ 2,885,056 (77,190) (2.7%)
Acquisitions 447,955 12,478 435,477 3490.0% 650,423 29,944 620,479 2072.1%
----------- ----------- ----------- -----------
Total Ongoing Dealerships 1,907,428 1,510,091 397,337 26.3% 3,458,289 2,915,000 543,289 18.6%
Disposed in 2001 - 28,840 - 63,113
----------- ----------- ----------- -----------
Total As Reported $ 1,907,428 $ 1,538,931 368,497 23.9% $ 3,458,289 $ 2,978,113 480,176 16.1%
=========== =========== =========== ===========
Dealerships acquired resulted in an increase in revenues from ongoing
dealerships in all of our primary revenue areas both in the second quarter and
first half of 2002 but was offset by a decrease in "same store" revenues
(dealerships included in "same store" represent those dealerships which have
been owned since April 1, 2001). The decrease in same store revenues was
primarily due to our Northern California region and Dallas market, which
accounted for $33.0 and $22.8 million, respectively, of the same store revenue
decrease for the three months ended June 30, 2002 and $77.1 and $36.1 million,
respectively, of the same store revenue decrease for the six months ended June
30, 2002. These two markets have experienced depressed economic conditions
compared to the rest of the country. These declines were partially offset by an
increase in revenues in our Southern California market of $18.8 million and
$37.0 million for the three and six months ended June 30, 2002, respectively.
22
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
New Vehicles
For the Quarter Ended Units or $ % For the Six Months Ended Units or $ %
------------------------ --------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
------------ ----------- ---------- -------- ------------- ----------- -------- ---------
Total New Vehicle Units
Same Store 32,847 34,272 (1,425) (4.2%) 62,385 65,195 (2,810) (4.3%)
Acquisitions 8,374 274 8,100 2956.2% 12,837 413 12,424 3008.2%
----------- --------- ----------- -----------
Total Ongoing Dealerships 41,221 34,546 6,675 19.3% 75,222 65,608 9,614 14.7%
Disposed in 2001 - 322 - 1,421
----------- --------- ----------- -----------
Total As Reported 41,221 34,868 6,353 18.2% 75,222 67,029 8,193 12.2%
=========== ========= =========== ===========
Total New Vehicle Revenues (in thousands)
Same Store $ 886,076 $ 902,125 (16,049) (1.8%) $ 1,690,010 $ 1,715,478 (25,468) (1.5%)
Acquisitions 251,839 6,306 245,533 3893.6% 371,652 9,511 362,141 3807.6%
----------- --------- ----------- -----------
Total Ongoing Dealerships 1,137,915 908,431 229,484 25.3% 2,061,662 1,724,989 336,673 19.5%
Disposed in 2001 - 16,314 - 32,706
----------- --------- ----------- -----------
Total As Reported $ 1,137,915 $ 924,745 213,170 23.1% $ 2,061,662 $ 1,757,695 303,967 17.3%
=========== ========= =========== ===========
Total New Vehicle Unit Price
Same Store $ 26,976 $ 26,323 653 2.5% $ 27,090 $ 26,313 777 3.0%
Total Ongoing Dealerships $ 27,605 $ 26,296 1,309 5.0% $ 27,408 $ 26,292 1,116 4.2%
Same store unit sales were negatively affected from weaker economic
conditions in our Northern California region, evidenced by significantly higher
unemployment rates compared to the rest of the country, where same store unit
sales declined by 926 units, or 12.5%, in the second quarter of 2002 and by
2,274 units, or 15.4% for the first half of 2002. In addition, similar economic
conditions in the Dallas market resulted in same store unit sales declines of
782 units or 19.5% in the second quarter 2002 and by 1,258 units, or 16.8% in
the first half of 2002. These decreases were partially offset by significant
increases in unit sales in our Southern California region of 231 units or 7.4%
for the three months ended June 30, 2002 and 525 units or 8.9% for the six
months ended June 30, 2002.
Used Vehicles
For the Quarter Ended Units or $ % For the Six Months Ended Units or $ %
------------------------ --------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
---------- --------- -------- -------- ---------- ---------- -------- --------
Total Used Vehicle Units
Same Store 16,739 18,905 (2,166) (11.5%) 33,057 37,102 (4,045) (10.9%)
Acquisitions 4,850 90 4,760 5288.9% 7,070 399 6,671 1671.9%
--------- --------- --------- ---------
Total Ongoing Dealerships 21,589 18,995 2,594 13.7% 40,127 37,501 2,626 7.0%
Disposed in 2001 - 94 - 858
--------- --------- --------- ---------
Total As Reported 21,589 19,089 2,500 13.1% 40,127 38,359 1,768 4.6%
========= ========= ========= =========
Total Used Vehicle Revenues (in thousands)
Same Store $ 251,692 $ 276,300 (24,608) (8.9%) $ 490,881 $ 543,821 (52,940) (9.7%)
Acquisitions 85,037 1,373 83,664 6093.5% 117,639 3,303 114,336 3461.6%
--------- --------- --------- ---------
Total Ongoing Dealerships 336,729 277,673 59,056 21.3% 608,520 547,124 61,396 11.2%
Disposed in 2001 - 5,838 - 13,091
--------- --------- --------- ---------
Total As Reported $ 336,729 $ 283,511 53,218 18.8% $ 608,520 $ 560,215 48,305 8.6%
========= ========= ========= =========
Total Used Vehicle Unit Price
Same Store $ 15,036 $ 14,615 421 2.9% $ 14,850 $ 14,657 193 1.3%
Total Ongoing Dealerships $ 15,597 $ 14,618 979 6.7% $ 15,165 $ 14,590 575 3.9%
A significant factor negatively impacting same store unit sales has been a
narrowing focus by many of the manufacturers' captive finance companies on
underwriting used vehicle sales at only those dealerships selling their brands,
as well as a tightening of credit standards by other finance companies which
have affected consumers' ability to finance used vehicle purchases and have thus
reduced retail activity. Also contributing to the decline in used vehicle sales
are competitive pressures from strong manufacturer incentives and rate subsidies
on new vehicles.
23
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Wholesale Vehicles
For the Quarter Ended Units or $ % For the Six Months Ended Units or $ %
------------------------ -------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
---------- ---------- -------- -------- ------------ ----------- --------- --------
Total Wholesale Vehicle Units
Same Store 13,975 14,314 (339) (2.4%) 27,887 28,729 (842) (2.9%)
Acquisitions 5,032 252 4,780 1896.8% 8,014 633 7,381 1166.0%
--------- -------- --------- ---------
Total Ongoing Dealerships 19,007 14,566 4,441 30.5% 35,901 29,362 6,539 22.3%
Disposed in 2001 - 267 - 1,123
--------- -------- --------- ---------
Total As Reported 19,007 14,833 4,174 28.1% 35,901 30,485 5,416 17.8%
========= ======== ========= =========
Total Wholesale Vehicle Revenues (in thousands)
Same Store $ 98,576 $ 92,548 6,028 6.5% $ 185,933 $ 188,342 (2,409) (1.3%)
Acquisitions 41,867 2,333 39,534 1694.6% 60,199 13,098 47,101 359.6%
--------- -------- --------- ---------
Total Ongoing Dealerships 140,443 94,881 45,562 48.0% 246,132 201,440 44,692 22.2%
Disposed in 2001 - 2,926 - 7,286
--------- -------- --------- ---------
Total As Reported $ 140,443 $ 97,807 42,636 43.6% $ 246,132 $ 208,726 37,406 17.9%
========= ======== ========= =========
Total Wholesale Unit Price
Same Store $ 7,054 $ 6,466 588 9.1% $ 6,667 $ 6,556 111 1.7%
Total Ongoing Dealerships $ 7,389 $ 6,514 875 13.4% $ 6,856 $ 6,861 (5) (0.1%)
The increase in same store wholesale vehicle revenues is due primarily to
an increase in average price per unit compared to the prior year period. The
decline in same store wholesale vehicle revenues during the first half of 2002
compared to the same period last year was due to a decline in units sold,
particularly in our Northern California region.
Fixed Operations
For the Quarter Ended $ % For the Six Months Ended $ %
----------------------- ------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
--------- --------- -------- -------- --------- --------- -------- --------
Total Fixed Operations (in thousands)
Same Store $ 181,410 $ 179,402 2,008 1.1% $ 359,862 $ 352,180 7,682 2.2%
Acquisitions 57,908 1,490 56,418 3786.4% 82,803 2,450 80,353 3279.7%
--------- --------- --------- ---------
Total Ongoing Dealerships 239,318 180,892 58,426 32.3% 442,665 354,630 88,035 24.8%
Disposed in 2001 - 3,239 - 8,740
--------- --------- --------- ---------
Total As Reported $ 239,318 $ 184,131 55,187 30.0% $ 442,665 $ 363,370 79,295 21.8%
========= ========= ========= =========
Same store parts, service and collision repair revenues (fixed operations)
increased for the second quarter 2002 and in the first half of 2002 over the
same periods last year, resulting in part from investments in real estate and
construction projects on collision facilities, which allowed us to increase our
overall service and parts capacity; partially offset by declines in wholesale
parts revenues at one dealership of $1.0 million or 17.5%, and $2.6 million or
21.0% for the three and six months end June 30, 2002, respectively, compared to
the same periods in last year.
Finance and Insurance
For the Quarter Ended $ % For the Six Months Ended $ %
----------------------- --------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
--------- --------- ---------- ---------
Total Finance & Insurance Revenue (in thousands)
Same Store $ 41,719 $ 47,237 (5,518) (11.7%) $ 81,181 $ 85,235 (4,054) (4.8%)
Acquisitions 11,304 977 10,327 1057.0% 18,129 1,582 16,547 1046.0%
-------- -------- -------- --------
Total Ongoing Dealerships 53,023 48,214 4,809 10.0% 99,310 86,817 12,493 14.4%
Disposed in 2001 - 523 - 1,290
-------- -------- -------- --------
Total As Reported $ 53,023 $ 48,737 4,286 8.8% $ 99,310 $ 88,107 11,203 12.7%
======== ======== ======== ========
Total F&I per Unit
Same Store $ 841 $ 888 (47) (5.3%) $ 851 $ 833 18 2.2%
Total Ongoing Dealerships $ 844 $ 901 (57) (6.3%) $ 861 $ 842 19 2.3%
Same store finance and insurance revenues were negatively impacted by the
decline in retail vehicle unit sales in our Northern California, Dallas and
Houston regions, due primarily to weak economic conditions. Finance and
insurance revenues in these markets
24
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
declined $3.9 million or 18.6% and $4.2 million or 11.1%, for the second quarter
2002 and the first half 2002, respectively, compared to the same
periods last year.
Gross profit and gross margin
For the Quarter Ended $ % For the Six Months Ended $ %
------------------------- --------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
----------- ----------- -------- -------- ----------- ----------- -------- --------
Total Gross Profit (in thousands)
Same Store $ 219,727 $ 223,787 (4,060) (1.8%) $ 428,455 $ 429,815 (1,360) (0.3%)
Acquisitions 73,375 11,505 61,870 537.8% 108,424 17,971 90,453 503.3%
----------- ----------- ----------- -----------
Total Ongoing Dealerships 293,102 235,292 57,810 24.6% 536,879 447,786 89,093 19.9%
Disposed in 2001 - 2,909 - 7,658
----------- ----------- ----------- -----------
Total As Reported $ 293,102 $ 238,201 54,901 23.0% $ 536,879 $ 455,444 81,435 17.9%
=========== =========== =========== ===========
Ongoing dealership gross profit as a percentage of related revenues
("gross margin") for the three months ended June 30, 2002 decreased to 15.4%
from 15.6% primarily due to a decrease in the percentage of revenues contributed
by finance and insurance products, which earn higher margins than vehicle sales.
Finance and insurance revenues as a percentage of total revenues decreased to
2.8% in the second quarter of 2002 from 3.2% in the second quarter of 2001. This
was partially offset by an increase in parts, service and collision repair
revenues as a percentage of total revenues to 12.5% in the second quarter of
2002 from 12.0% in the second quarter of 2001.
Ongoing dealership gross margin for the six months ended June 30, 2002
increased to 15.5% from 15.4% for the first half of 2002, due primarily to an
increase in the percentage of revenues contributed by parts, service, and
collision repair services and products. Parts, service, and collision repair
revenues as a percentage of total revenues increased to 12.8% in the first half
of 2002 from 12.2% in the first half of 2001. Finance and insurance revenues as
a percentage of total revenues remained relatively flat for the first half of
2002 compared to the same period last year. In addition, our parts, service, and
collision repair and finance and insurance products from ongoing dealerships
contributed 57.6% of the total gross profit in the first half of 2002 from 55.8%
in the first half of 2001.
Selling, general and administrative expenses
For the Quarter Ended $ % For the Six Months Ended $ %
------------------------- --------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
----------- ----------- -------- -------- ----------- ----------- -------- --------
Total SG&A (in thousands)
Same Store $ 167,955 $ 162,961 4,994 3.1% $ 328,776 $ 318,133 10,643 3.3%
Acquisitions 57,362 10,057 47,305 470.4% 88,494 17,145 71,349 416.2%
----------- ----------- ----------- -----------
Total Ongoing Dealerships 225,317 173,018 52,299 30.2% 417,270 335,278 81,992 24.5%
Disposed in 2001 - 3,796 - 9,729
----------- ----------- ----------- -----------
Total As Reported $ 225,317 $ 176,814 48,503 27.4% $ 417,270 $ 345,007 72,263 20.9%
=========== =========== =========== ===========
Total selling, general, and administrative expenses from ongoing
dealerships as a percentage of gross profit increased to 76.9% in the second
quarter of 2002 from 73.5% in the second quarter of 2001, and to 77.7% in the
first half of 2002 from 74.9% in the first half of 2001. Of our selling, general
and administrative expenses from ongoing dealerships, approximately 64.0% in the
second quarter of 2002 and 63.3% in the first half of 2002 were variable,
comprised primarily of non-salaried sales compensation and advertising, and
approximately 36.0% in the second quarter of 2002 and 36.7% in the first half of
2002 were fixed, comprised primarily of fixed compensation and rent expense.
Variable selling, general and administrative expenses are generally
tied to vehicle gross profits and can be adjusted in response to changes in
sales volume or gross profits. As a percentage of gross profits from ongoing
dealerships, related variable expenses increased to 49.2% in the second quarter
of 2002 from 46.6% in the second quarter of 2001, and to 49.2% in the first half
of 2002 from 47.5% in the first half of 2001. This is primarily due to increases
in compensation expense as a percentage of gross profits to 39.0% in the second
quarter of 2002 from 37.4% in the second quarter of 2001 and to 39.5% in the
first half of 2002, from 38.2% in the first half of 2001. However, as discussed
in our "Overview", many of our compensation plans are based on net profit at the
dealership or regional level, after floor plan interest, and, as a result,
compensation expense as a percentage of reported gross profits is subject to
significant fluctuations based on changes in floor plan interest expense.
Therefore, due to the decrease in floor plan interest expense, if we classify
floor plan interest expense as a component of cost of sales, selling, general
and administrative expenses from
25
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
ongoing operations as a percentage of related gross profit would have actually
only increased moderately to 78.6% in the second quarter of 2002 from 76.7% in
second quarter of 2001, and slightly increased to 79.5% in the first half of
2002 from 79.4% for the first half of 2001.
Variable expenses from ongoing dealerships also increased due to an
increase in advertising expense. As a percentage of gross profits, advertising
expense increased to 6.4% in the second quarter of 2002 from 5.2% in the second
quarter of 2001, and to 6.1% in the first half of 2002 from 5.3% in the first
half of 2001. This resulted from a concious and determined effort to increase
advertising spending in an effort to increase traffic into our dealerships.
Fixed expenses from ongoing dealerships increased as a percentage of
gross profits to 27.7% in the second quarter of 2002 from 26.9% in the first
quarter of 2001, and 28.5% in the first half of 2002 from 27.3% in the first
half of 2001. This was primarily the result of significant investments in human
resources and infrastructure in advance of our recent acquisitions, including
the Massey acquisition, in order to support our acquisition growth and
integration plans. These expenses as a percentage of gross profits are expected
to stabilize in future quarters as increased gross profits are realized as a
result of these investments. In addition, increases in healthcare costs and
worker's compensation insurance also negatively impacted the second quarter of
2002 and the first half of 2002 as compared to the same periods last year.
Depreciation and amortization
For the Quarter Ended $ % For the Six Months Ended $ %
------------------------- ----------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
----------- ----------- --------- -------- ----------- ----------- -------- --------
Total Depreciation (in thousands)
Same Store $ 1,479 $ 1,698 (219) (12.9%) $ 3,054 $ 3,062 (8) (0.3%)
Acquisitions 725 148 577 389.9% 1,121 295 826 280.0%
----------- ----------- ----------- -----------
Total Ongoing Dealerships 2,204 1,846 358 19.4% 4,175 3,357 818 24.4%
Disposed in 2001 - 106 - 198
----------- ----------- ----------- -----------
Total As Reported $ 2,204 $ 1,952 252 12.9% $ 4,175 $ 3,555 620 17.4%
=========== =========== =========== ===========
During the last 12 months ending June 30, 2002, the balance of gross
property and equipment, excluding land and construction in process, increased
approximately $18.6 million, or 22.7%, of which approximately $12.6 million
resulted from additional capital expenditures and approximately $10.0 million
from dealership acquisitions; partially offset by $4.0 million of disposals and
other adjustments. As a percentage of total revenues, depreciation expense was
0.1% in both the second quarter and first half of 2002 and 2001.
In accordance with SFAS No. 142, there is no amortization expense of
goodwill in 2002. Goodwill amortization expense as a percentage of total
revenues was 0.3% in both the second quarter of 2001 and the first half of 2001.
Floor plan interest expense
For the Quarter Ended $ % For the Six Months Ended $ %
------------------------- ----------------------------
6/30/2002 6/30/2001 Change Change 6/30/2002 6/30/2001 Change Change
----------- ----------- --------- -------- ----------- ----------- -------- --------
Interest Expense, floor plan (in thousands)
Total Ongoing Dealerships $ (6,543) $ (9,694) 3,151 (32.5%) $ (11,849) $ (20,791) 8,942 (43.0%)
Disposed in 2001 - (216) - (608)
----------- ----------- ----------- -----------
Total As Reported $ (6,543) $ (9,910) 3,367 (34.0%) $ (11,849) $ (21,399) 9,550 (44.6%)
=========== =========== =========== ============
As a percentage of total revenues, floor plan interest
expense from ongoing dealerships decreased to 0.3% in the second quarter of 2002
from 0.6% in the second quarter of 2001, and 0.3% in the first half of 2002 from
0.7% in the first half of 2001. The change reflects a same store decrease of
$4.7 million and $11.5 million, offset by increases due to acquisitions of $1.5
million and $2.6 million for the three and six months ended June 30, 2002,
respectively. Of the same store decrease, $3.5 million and $8.3 million for the
three and six months ended June 30, 2002, respectively, was due to a decrease in
the average floor plan interest rate to 3.7% in the second quarter of 2002 from
6.5% in the second quarter of 2001, and 3.7% in the first half of 2002 from 7.1%
in the first half of 2001. The remainder of the same store decrease was due to a
decrease in the average floor plan liability to $516.7 million in the second
quarter of
26
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
2002 from $588.8 million in the second quarter of 2001 and $500.2 million in the
first half of 2002 from $592.8 million in the first half of 2001.
Other interest expense
Other interest expense increased $1.2 million, or 14.8%, during the second
quarter of 2002 compared to the same period last year, but slightly decreased
$0.3 million, or 1.8%, during the first half of 2002 compared to the same period
last year.
During the three months ended June 30, 2002, this increase in interest
expense, other was primarily due to $3.5 million in interest incurred on an
additional $75.0 million of 11% Senior Subordinated Notes due 2008 issued in
November 2001 and on $149.5 million of 5 1/4% Convertible Senior Subordinated
Notes issued in May 2002. This increase was offset partially by lower interest
expense on our Revolving Credit Facility (the "Revolving Facility") with Ford
Motor Credit Company, Chrysler Financial Company, LLC and Toyota Motor Credit
Corporation, of approximately $2.9 million. Of the decrease in interest incurred
under our Revolving Facility, approximately $2.1 million was due to a decrease
in the average interest rate from 7.1% to 4.7%, and approximately $0.8 million
was due to a decrease in the average outstanding balance resulting from the
refinancing of a portion of our Revolving Facility using proceeds from the
issuance of an additional $75.0 million in 11% Senior Subordinated Notes and
$149.5 million of 5 1/4% Convertible Senior Subordinated Notes, offset partially
by cash used in acquisition activities. This decrease, however, was offset by
the effective conversion of $200.0 million of our variable rate debt to a fixed
rate through two separate $100.0 million interest rate swap agreements entered
into on January 15, 2002 and June 6, 2002, whereby we receive interest payments
based on a variable rate of LIBOR and make interest payments at a fixed rates of
3.88% and 4.50%, respectively, resulting in an additional $0.5 million in
interest expense in the three months ended June 30, 2002.
During the six months ended June 30, 2002, this slight decrease in interest
expense, other was due to lower interest expense on our Revolving Facility of
approximately $7.4 million. Of the decrease in interest incurred under our
Revolving Facility, approximately $5.7 million was due to a decrease in the
average interest rate to 4.6% from 7.8%, and approximately $1.6 million was due
to a decrease in the average outstanding balance resulting from the refinancing
of a portion of our Revolving Facility using proceeds from the issuance of an
additional $75.0 million in 11% Senior Subordinated Notes and $149.5 million of
5 1/4% Convertible Senior Subordinated Notes, offset partially by cash used in
acquisition activities. This decrease, however, was offset by an additional $0.9
million in interest expense related to the interest rate swaps discussed above.
This decrease was also offset by $5.7 million in interest incurred on the 11%
Senior Subordinated Notes and 5 1/4% Convertible Senior Subordinated Notes
discussed above.
Provision for income taxes
Our effective income tax rate decreased to 38.2% in the second quarter of
2002 from 39.0% in the second quarter of 2001, and to 38.1% in the first half of
2002 from 39.0% in the first half of 2001, primarily as a result of the
elimination of goodwill amortization. The effect of the lower effective tax rate
was offset by higher pre-tax income in the 2002 periods.
27
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Liquidity and Capital Resources
We require cash to finance acquisitions and fund debt service and working
capital requirements. We rely on cash flows from operations, borrowings under
our various credit facilities and offerings of debt and equity securities to
meet these requirements. Although not required under the terms of any credit
agreement, our practice has been to apply all of our available cash to reduce
the outstanding balance on our revolving credit facility for the purpose of
maximizing the return on these funds and minimizing interest expense.
Contracts in Transit:
Contracts in transit represent customer finance contracts evidencing loan
agreements or lease agreements between Sonic, as creditor, and the customer, as
borrower, to acquire or lease a vehicle whereby a third-party finance source has
given Sonic initial, non-binding approval to assume Sonic's position as
creditor. Funding and final approval from the finance source is provided upon
the finance source's review of the loan or lease agreement and related
documentation executed by the customer at the dealership. These finance
contracts are typically funded within ten days of the initial approval of the
finance transaction given by the third-party finance source. The finance source
is not contractually obligated to make the loan or lease to the customer until
it gives its final approval and funds the transaction, and until such final
approval is given, the contracts in transit represent amounts due from the
customer to Sonic. Based on our experience, there is minimal risk of these
contracts in transit not being approved and funded by the initial finance
source. In rare instances where the pre-approving initial finance source does
not give final approval of the loan or lease agreement, we are typically able to
arrange for financing through another third-party finance source. In addition,
as discussed previously, contracts in transit are typically funded within ten
days after the initial approval given by the finance source. As a result, we do
not believe that contracts in transit have any meaningful impact on our
company's liquidity.
Floor Plan Facilities:
We finance our new vehicle inventory through standardized floor plan credit
facilities with the following:
2002 Outstanding Balance
--------------------------------------------
Lender Availability June 30, 2002 December 31, 2001
- ------------------------------------------------------------- --------------- ----------------- ------------------------
Chrysler Financial Company, LLC ("Chrysler Financial") $750 million $181.0 million $142.6 million
General Motors Acceptance Corporation ("GMAC") $290 million $160.0 million $51.7 million
Ford Motor Credit Company ("Ford Motor Credit") $650 million $419.3 million $377.2 million
Toyota Motor Credit Corporation ("Toyota Credit") $100 million $32.9 million $16.4 million
Amounts outstanding under the Chrysler Financial and Toyota Credit floor
plan facilities bear interest at 1.25 percentage points above LIBOR (LIBOR was
1.84% at June 30, 2002). Amounts outstanding under the GMAC floor plan facility
bear interest of 1.75 percentage points above LIBOR, subject to certain
incentives and other adjustments, and amounts outstanding under the Ford Motor
Credit floor plan facility bear interest at the prime rate (prime rate was 4.75%
at June 30, 2002), also subject to certain incentives and other adjustments. The
weighted average interest rate for our floor plan facilities was 6.53% and 3.45%
for the three months ended June 30, 2001 and 2002, respectively, and 7.09% and
3.60% for the six months ended June 30, 2001 and 2002, respectively. Our floor
plan interest expense is substantially offset by amounts received from
manufacturers, in the form of floor plan assistance, which is recorded as a
reduction of cost of sales. In the first half of 2002 we received approximately
$18.6 million in manufacturer assistance, which resulted in an effective
borrowing rate under our floor plan facilities of 0%. Interest payments under
each of our floor plan facilities are due monthly, but we are generally not
required to make principal repayments prior to the sale of the vehicles.
The underlying notes are due when the related vehicles are sold and are
collateralized by vehicle inventories and other assets, excluding franchise
agreements, of the relevant dealership subsidiary. The floor plan facilities
contain a number of covenants, including among others, covenants restricting us
with respect to the creation of liens and changes in ownership, officers and key
management personnel. We were in compliance with all restrictive covenants as of
June 30, 2002.
Credit Facilities:
The Convertible Senior Subordinated Notes Due 2009: On May 7, 2002, we
issued $149.5 million in aggregate principal amount of 5 1/4% convertible senior
subordinated notes with net proceeds, before expenses, of approximately $145.0
million. The net proceeds were used to repay a portion of the amounts
outstanding under our Revolving Facility. The notes are unsecured obligations
that rank equal in right of payment to all of Sonic's existing and future senior
subordinated indebtedness, mature on May 7, 2009, and are redeemable at Sonic's
option after May 7, 2005. Sonic's obligations under these notes are not
guaranteed by any of its subsidiaries.
In fiscal quarters after June 30, 2002, the notes are convertible into
shares of Class A common stock, at the option of the holder, if as of the last
day of the preceding fiscal quarter, the closing sale price of our Class A
common stock for at least 20 trading days in a period of 30 consecutive trading
days ending on the last trading day of such preceding fiscal quarter is more
than 110% of the conversion price per share of Class A common stock on the last
day of such preceding fiscal quarter. If this condition is satisfied, then the
notes will be convertible at any time, at the option of the holder, through
maturity. The initial conversion price per share is $46.87, which is subject to
adjustment for certain distributions on, or changes in our Class A common stock,
if any, prior to the conversion date. In addition, on or before May 7, 2007, a
holder also may convert his notes into shares of our Class A common stock at any
time after a 10 consecutive trading day period in which the average of the
trading day prices for the notes for that 10 trading day period is less than
103% of the average conversion value for the notes during that period. The
conversion value is equal to the product of the closing sale price for our Class
A common stock on a given day multiplied by the then current conversion rate,
which is the number of shares of Class A common stock into which each $1,000
principle amount of notes is then convertible.
28
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Subsequent to June 30, 2002, we repurchased $5.5 million in aggregate
principal amount of the convertible notes on the open market for approximately
$4.1 million.
The Revolving Facility: Sonic's Revolving Facility has a borrowing limit of
$600 million, subject to a borrowing base calculated on the basis of our
receivables, inventory and equipment and a pledge of certain additional
collateral by an affiliate of Sonic (the borrowing base was approximately $519.1
million at June 30, 2002). The amounts outstanding under the Revolving Facility
bear interest at 2.50% above LIBOR (LIBOR was 1.84% at June 30, 2002) and will
mature on October 31, 2004 (but may be extended for a number of additional one
year terms by Ford Motor Credit, Chrysler Financial and Toyota Credit). The
Revolving Facility includes an annual commitment fee equal to .25% of the unused
portion of the facility. The total outstanding balance was approximately $239.0
million as of June 30, 2002. Balances under our Revolving Facility are
guaranteed by Sonic's operating subsidiaries.
We agreed under the Revolving Facility not to pledge any of our assets to
any third party (with the exception of currently encumbered assets of our
dealership subsidiaries that are subject to previous pledges or liens). In
addition, the Revolving Facility contains certain negative covenants, including
covenants restricting or prohibiting the payment of dividends, capital
expenditures and material dispositions of assets as well as other customary
covenants and default provisions. Financial covenants as of June 30, 2002 on the
Revolving Facility are as follows:
Covenant Required Actual
--------------------------- ----------- ----------
Current ratio **1.23 1.26
Fixed charge coverage **1.41 1.73
Interest coverage **2.00 3.88
Adjusted debt to EBITDA *2.25 1.72
In addition, the loss of voting control over Sonic by O. Bruton Smith,
Chairman and Chief Executive Officer, Scott Smith, President and Chief Operating
Officer, and their spouses or immediate family members, or our failure, with
certain exceptions, to own all the outstanding equity, membership or partnership
interests in our dealership subsidiaries, will constitute an event of default
under the Revolving Facility. We were in compliance with all restrictive
covenants as of June 30, 2002.
The Mortgage Facility: We currently have a revolving real estate
acquisition and construction line of credit (the "Construction Loan") and a
related mortgage refinancing facility (the "Permanent Loan" and collectively
with the Construction Loan, the "Mortgage Facility") with Ford Motor Credit.
Under the Construction Loan, our dealership development subsidiaries can borrow
up to $50.0 million to finance land acquisition and dealership construction
costs. Advances can be made under the Construction Loan until December 2003. All
advances will mature on September 22, 2005, bear interest at 2.25% above LIBOR
and are secured by Sonic's guarantee and a lien on all of the borrowing
subsidiaries' real estate and other assets. Borrowings, net of repayments, under
the Construction Loan in the first six months of 2002 were approximately $0.7
million and were primarily used in construction of dealership facilities. The
total outstanding balance under the Construction Loan as of June 30, 2002 was
approximately $7.8 million.
Under the Permanent Loan, we can refinance up to $50.0 million in advances
under the Construction Loan once the projects are completed and can finance real
estate acquisition costs to the extent these costs were not previously financed
under the Construction Loan. Advances can be made under the Permanent Loan until
June 2005. All advances under the Permanent Loan mature on June 22, 2010, bear
interest at 2.00% above LIBOR and are secured by the same collateral given under
the Construction Loan. The total outstanding balance as of June 30, 2002 was
approximately $4.0 million.
The Mortgage Facility allows us to borrow up to $100 million in the
aggregate under the Construction Loan and the Permanent Loan. The Mortgage
Facility is not cross-collateralized with the Revolving Facility; however, a
default under one will cause a default under the other. Among other customary
covenants, the borrowing subsidiaries under the Mortgage Facility agreed not to
incur any other liens on their property (except for existing encumbrances on
property acquired) and not to transfer their property or more than 20% of their
ownership interests to any third party. In addition, the loss of voting control
by O. Bruton Smith, Scott Smith and their spouses or immediate family members,
with certain exceptions, will result in an event of default under the Mortgage
Facility. We were in compliance with all restrictive covenants as of June 30,
2002.
The Senior Subordinated Notes Due 2008: We currently have an aggregate
principal balance of $200 million in senior subordinated notes outstanding which
mature on August 1, 2008 and bear interest at a stated rate of 11.0%. The notes
are unsecured and are redeemable at our option after August 1, 2003. Sonic's
obligations under these notes are guaranteed by its operating
* less than
** greater than
29
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
subsidiaries. Interest payments are due semi-annually on February 1 and August
1. The notes are subordinated to all of our present and future senior
indebtedness, including the Revolving Facility. Redemption prices during the
12-month periods beginning August 1 are 105.500% in 2003, 103.667% in 2004,
101.833% in 2005 and 100% thereafter.
The indentures governing the senior subordinated notes contain certain
specified restrictive and required financial covenants. We have agreed not to
pledge our assets to any third party except under certain limited circumstances
(for example, floor plan indebtedness). We have also agreed to certain other
limitations or prohibitions concerning the incurrence of other indebtedness,
capital stock, guaranties, asset sales, investments, cash dividends to
shareholders, distributions and redemptions. We were in compliance with all
restrictive covenants as of June 30, 2002.
Dealership acquisitions:
During the first half of 2002, we acquired 23 dealerships for a combined
purchase price of $145.0 million in cash and 1,470,588 shares of Class A common
stock valued at approximately $38.0 million, based on the average closing price
as quoted by the New York Stock Exchange for the three days before and after the
acquisition was announced. The total purchase price for all of the above
acquisitions was based on our internally determined valuation of the dealerships
and their assets. The cash portion of the purchase price was financed by cash
generated from our existing operations and by borrowings under our Revolving
Facility.
Subsequent to June 30, 2002, we acquired four dealerships for approximately
$38.2 million in cash.
Investments in Unconsolidated Affiliates:
We currently have 50% joint venture investments in North Point Volvo, LLC,
a Volvo automobile dealership in the greater Atlanta area, and Fort Myers
Collision Center, LLC, located in Florida, in which we initially invested
$900,000 and $100,000, respectively. The partners in these joint ventures are
not affiliated with Sonic. These entities are not consolidated into Sonic's
financial statements because we do not have operating control of the entities.
However, we have guaranteed $6.0 million in indebtedness between North Point
Volvo, LLC and Bank of America, including a $5.5 million revolving floor plan
financing agreement expiring in 2003, of which $3.0 million was outstanding as
of June 30, 2002, and a $0.5 million term loan expiring in 2007. We have
guaranteed no other obligations of either company. The investments are accounted
for under the equity method whereby we record our share of each respective joint
venture's pretax profit or loss. We recorded approximately $0.2 million in net
income in the first half of 2002 related to these investments. We may elect to
make future investments in these entities.
Sale-Leaseback Transactions:
In an effort to generate additional capital, we typically seek to structure
our operations to minimize the ownership of real property. As a result,
facilities either constructed by us or obtained in acquisitions are typically
sold to third parties in sale-leaseback transactions. The resulting leases
generally have initial terms of 10-15 years and include a series of five-year
renewal options. We have no continuing obligations under these arrangements
other than lease payments. The majority of our sale-leaseback transactions are
done with Capital Automotive REIT ("Capital Automotive"). Under our agreement
with Capital Automotive, we have the ability to substitute properties in the
lease portfolio should we decide to dispose of a dealership currently being
leased from Capital Automotive. During the first half of 2002 we sold $12.6
million in dealership properties in sale-leaseback transactions.
Capital Expenditures:
Other than construction of new dealerships and collision repair centers,
our capital expenditures generally include building improvements and equipment
for use in our dealerships. Capital expenditures in the first half of 2002 were
approximately $29.8 million, of which approximately $23.5 million related to the
construction of new dealerships and collision repair centers. Once completed,
these new dealerships and collision repair centers are generally sold in
sale-leaseback transactions. As of June 30, 2002, total construction in progress
was approximately $19.4 million. In addition, approximately $37.3 million
related to construction costs on facilities and associated land, which are
expected to be completed and sold within one year in sale-leaseback transactions
have been classified in other current assets on the accompanying unaudited
consolidated balance sheet as of June 30, 2002. We do not expect any significant
gains or losses from these sales. Through August 10, 2002, there have been no
additional sale/leaseback transactions.
30
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Stock Repurchase Program:
Sonic's Board of Directors has authorized Sonic to expend up to $100
million to repurchase shares of its Class A common stock or redeem securities
convertible into Class A common stock. As of June 30, 2002, Sonic has
repurchased 6,415,264 shares of Class A common stock totaling approximately
$61.4 million and has also redeemed 13,801.5 shares of Class A convertible
preferred stock at a total cost of approximately $13.8 million.
In addition to the $100 million authorized above, on August 7, 2002,
Sonic's Board of Directors authorized Sonic to expend an additional $25.0
million for Sonic's share repurchase program. As of August 12, 2002, Sonic has
repurchased a total of 7,031,264 shares of Class A common stock for
approximately $74.1 million.
Cash Flows:
For the six months ended June 30, 2002, net cash provided by operating
activities was approximately $56.1 million, which was generated primarily by net
income plus non-cash items such as depreciation, amortization and deferred
income taxes. Increases in inventory and accounts receivable balances of $54.8
million in total were offset by increases in notes payable-floor plan and other
liabilities of $56.1 million in total.
Cash used for investing activities in the six months ended June 30, 2002
was approximately $135.6 million, the majority of which was related to
dealership acquisitions. Our other principal investing activities include
capital expenditures and dealership dispositions.
In the six months ended June 30, 2002, net cash provided by financing
activities was approximately $86.3 million and primarily related to $145.0
million of proceeds received from the issuance of 5 1/4% Convertible Senior
Subordinated Notes. Proceeds received were used to repay a portion of the
amounts outstanding under our senior revolving credit facility.
Future Liquidity Outlook:
We believe our best source of liquidity for future growth remains our cash
flows generated from operations. Combined with our availability of borrowings
under our floor plan financing (or any replacements thereof) and other credit
arrangements, we expect to generate more than sufficient cash flow to fund our
debt service and working capital requirements and any seasonal operating
requirements, including our currently anticipated internal growth for our
existing businesses, for the foreseeable future. Once these needs are met, we
may use remaining cash flow to support our acquisition strategy or repurchase
publicly traded debt securities, as market conditions warrant.
Seasonality:
Our operations are subject to seasonal variations. The first and fourth
quarters generally contribute less revenue and operating profits than the second
and third quarters. Weather conditions, the timing of manufacturer incentive
programs and model changeovers cause seasonality in new vehicle demand. Parts
and service demand remains more stable throughout the year.
31
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Item 3: Quantitative and Qualitative Disclosures About Market Risk
Interest Rate Risk. Our variable rate floor plan notes payable, revolving
credit facility borrowings and other variable rate notes expose us to risks
caused by fluctuations in the underlying interest rates. The total outstanding
balance of such variable instruments after considering the effect of our
interest rate swaps (see below) was approximately $854.2 million at June 30,
2002 and approximately $1.0 billion at June 30, 2001. A change of 100 basis
points in the underlying interest rate would have caused a change in interest
expense of approximately $3.9 million in the first half of 2002 and
approximately $5.2 million in the first half of 2001. Of the total change in
interest expense, approximately $3.3 million in both the first half of 2002 and
2001 would have resulted from floor plan notes payable.
Our exposure with respect to floor plan notes payable is mitigated by floor
plan assistance payments received from manufacturers that are generally based on
rates similar to those incurred under our floor plan financing arrangements.
These payments are credited against our cost of sales. During the three months
ended June 30, 2002, the amounts we received from manufacturer floor plan
assistance exceeded our floor plan interest expense by approximately $3.9
million. As a result, the effective rate incurred under our floor plan financing
arrangements was reduced to 0% after considering these incentives. A change in
interest rates of 100 basis points would have had an estimated impact on floor
plan assistance of approximately $3.0 million in the first half of 2002.
In addition to our variable rate debt, we also have lease agreements on a
portion of our dealership facilities where the monthly lease payment fluctuated
based on LIBOR interest rates. A change of 100 basis points in the underlying
rates would have caused a change in rent expense of approximately $1.3 million
in the first half of 2002 and $1.1 million in the first half of 2001.
In order to reduce our exposure to market risks from fluctuations in
interest rates, we entered into two separate interest rate swap agreements on
January 15, 2002 and June 6, 2000 to effectively convert a portion of our
LIBOR-based variable rate debt to a fixed rate. The swaps each have a notional
principal amount of $100 million and mature on October 31, 2004 and June 6,
2006, respectively. Under the terms of the swap agreement entered into on
January 15, 2002, we receive interest payments on the notional amount at a rate
equal to the one month LIBOR rate, adjusted monthly, and make interest payments
at a fixed rate of 3.88%. Under the terms of the swap agreement entered into on
June 6, 2002, we receive interest payments on the notional amount at a rate
equal to the one month LIBOR rate, adjusted monthly, and make interest payments
at a fixed rate of 4.50%. Incremental interest expense incurred (the difference
between interest received and interest paid) as a result of these interest rate
swaps was $0.5 million and $0.9 million for the three and six months ended June
30, 2002, respectively, and has been included in interest expense, other in the
accompanying unaudited consolidated statements of income.
The interest rate swaps have been designated and qualify as cash flow
hedges and, as a result, changes in the fair value of the interest rate swaps
have been recorded in other comprehensive loss, net of related income taxes, in
our statement of stockholders' equity. The fair value of the interest rate swaps
as of June 30, 2002, recorded in other long-term liabilities on the accompanying
unaudited balance sheet, and the amount of the related hedging loss deferred and
recorded in accumulated other comprehensive loss for the six months ended June
30, 2002 was approximately $2.6 million ($1.6 million net of tax). Because the
critical terms of the interest rate swaps and the underlying debt obligation
were the same, no ineffectiveness was recorded.
While we may enter into additional interest rate swaps in order to hedge
our interest rate cash flow risk and limit volatility created by changing rates,
we believe variable rates will give us the lowest cost of capital long term and
believe some variable rate exposure is a natural hedge in our business to
economic cycles.
32
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
Item 4. Submission of Matters to a Vote of Security Holders
At the annual meeting of stockholders held on May 8, 2002, Thomas A. Price,
Theodore M. Wright, H. Robert Heller and Robert L. Rewey were elected directors
by Sonic's stockholders. Directors whose terms of office continued after the
meeting were O. Bruton Smith, B. Scott Smith, Jeffrey C. Rachor, William R.
Brooks, William P. Benton, William I. Belk, Maryann N. Keller and Thomas P.
Capo. In addition to the election of four directors, the stockholders approved
the following:
. An amendment to the Sonic Automotive, Inc. 1997 Stock Option Plan (the
"Stock Option Plan") to increase the number of shares of Class A Common
Stock that may be issued pursuant to the Stock Option Plan from 6,000,000
to 8,000,000.
. An amendment to the Sonic Automotive, Inc. Employee Stock Purchase Plan
(the "Employee Plan") to increase the number of shares of Class A Common
Stock that may be issued pursuant to the Employee Plan from 1,800,000 to
3,000,000.
. The adoption of the Sonic Automotive, Inc. Incentive Compensation Plan (the
"Incentive Plan").
. Ratification of the appointment of Deloitte & Touche LLP as Sonic's
independent public auditors for the fiscal year ending December 31, 2002.
Votes For Votes Withheld Broker Non-Votes
----------- -------------- ----------------
Election of Thomas A. Price 143,794,602 938,349 0
Election of Theodore M. Wright 142,017,489 2,715,462 0
Election of H. Robert Heller 143,921,475 811,476 0
Election of Robert L. Rewey 143,918,362 814,589 0
Votes Broker
Votes For Votes Against Abstained Non-Votes
--------- ------------- --------- ---------
Approval of Amendment to
Stock Option Plan 129,842,045 10,620,501 602,234 3,668,171
Approval of Amendment to
Employee Plan 139,194,077 1,271,362 599,341 3,668,171
Approval of Incentive Plan 140,153,427 311,489 599,864 3,668,171
Ratification of Deloitte & Touche
as independent public auditors 144,297,901 413,964 21,086 0
33
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
Forward Looking Statements
Certain statements and information set forth in this Quarterly Report on
Form 10-Q constitute "forward-looking statements" within the meaning of the
Private Litigation Securities Reform Act of 1995. These forward looking
statements address our future objectives, plans and goals, as well as our
intent, beliefs and current expectations regarding future operating performance,
and can generally be identified by words such as "may," "will," "should,"
"believe," "expect," "anticipate," "intend," "plan," "foresee," and other
similar words or phrases. Specific events addressed by these forward looking
statements include, but are not limited to:
. future acquisitions;
. industry trends;
. general economic trends, including employment rates and consumer
confidence levels;
. vehicle sales rates and same store sales growth;
. our financing plans;
. our business and growth strategies.
These forward-looking statements are based on our current estimates and
assumptions and involve various risks and uncertainties. As a result, you are
cautioned that these forward looking statements are not guarantees of future
performance, and that actual results could differ materially from those
projected in these forward looking statements. Factors which may cause actual
results to differ materially from our projections include those risks described
in Exhibit 99.1 to this Quarterly Report on Form 10-Q and elsewhere in this
report, as well as:
. our ability to generate sufficient cash flows or obtain additional
financing to support acquisitions, capital expenditures, our share
repurchase program, and general operating activities;
. the reputation and financial condition of vehicle manufacturers whose
brands we represent, and their ability to design, manufacture, deliver
and market their vehicles successfully;
. our relationships with manufacturers, which may affect our ability to
complete additional acquisitions;
. changes in laws and regulations governing the operation of automobile
franchises, accounting standards, taxation requirements, and
environmental laws;
. general economic conditions in the markets in which we operate,
including fluctuations in interest rates, employment levels, and the
level of consumer spending;
. high competition in the automotive retailing industry which not only
creates pricing pressures on the products and services we offer, but on
businesses we seek to acquire;
. our ability to successfully integrate recent and potential future
acquisitions.
34
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
OTHER INFORMATION
PART II - OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits:
4.1 Supplemental Indenture by and among Sonic and U.S. Bank National
Association (incorporated by reference to Exhibit 4.1 to Sonic's
Amendment to Current Report on Form 8-K filed on May 6, 2002)
4.2 Form of 5-1/4% Convertible Senior Subordinated Note due 2009
(incorporated by reference to Exhibit 4.2 to Sonic's Amendment to
Current Report on Form 8-K filed on May 6, 2002)
4.3 Subordination Agreement dated as of May 7, 2002 between O. Bruton Smith
and U.S. Bank National Association (incorporated by reference to Exhibit
4.3 to Sonic's Amendment to Current Report on Form 8-K filed on May 6,
2002)
99.1 Risk Factors
99.2 Certification of Mr. Theodore M. Wright pursuant to 18 U.S.C. Section
1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of
2002
99.3 Certification of Mr. O. Bruton Smith pursuant to 18 U.S.C. Section 1350,
as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K
On April 15, 2002, we filed a Current Report on Form 8-K announcing that
we had acquired substantially all of the Don Massey Dealerships.
On May 3, 2002, we filed a Current Report on Form 8-K announcing our
intent to sell up to $149.5 million of 5 1/4% Convertible Senior
Subordinated Notes due 2009.
On May 6, 2002, we filed an amendment to our Current Report on Form 8-K,
which was originally filed on May 3, 2002, to include the purchase
agreement, form of supplemental indenture, form of 5 1/4% Convertible
Senior Subordinated Note due 2009 and form of subordination agreement
related to our offer to sell up to $149.5 million on 5 1/4% Convertible
Senior Subordinated Notes due 2009.
On June 13, 2002, we filed an amendment to our Current Report on Form
8-K, which was originally filed on April 15, 2002, announcing that we
had determined that the acquisition of substantially all of the Don
Massey Dealerships did not meet the conditions specified by Regulation
S-X that would require the filing of pro forma financial information
regarding the businesses acquired.
35
SONIC AUTOMOTIVE, INC AND SUBSIDIARIES
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.
SONIC AUTOMOTIVE, INC.
Date: August 14, 2002 By: /s/ O. Bruton Smith
---------------------------------------
O. Bruton Smith
Chairman and Chief Executive Officer
Date: August 14, 2002 By: /s/ Theodore M. Wright
--------------------------------------
Theodore M. Wright
Executive Vice President and Chief
Financial Officer
(Principal Financial and Accounting
Officer)
36