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Morningstar | Lithia Has Record 1Q Revenue and EPS Despite New-Vehicle Slowdown

Lithia Motors' continued drive to improve operations at all the stores it's acquired over the years showed good momentum in first-quarter 2019, with adjusted diluted EPS rising 17.9% year over year to $2.44, easily beating consensus of $2.16. Revenue rose 7.1% to be about in line with consensus, and same-store revenue grew 3.2%. Strong growth in used vehicles, parts, and finance and insurance offset roughly flat new-vehicle revenue and a 3.3% decline in same-store new-vehicle revenue. Management, to its credit, appears to be not overly discounting new vehicles to drive volume, evidenced by a 1.5% increase in same-store new-vehicle gross profit per unit to $2,136 despite a 6.8% fall in same-store new-vehicle volume. More F&I penetration, which is a 100% gross profit business, along with good used and service performance helped the company reduce its adjusted selling, general, and administrative expenses as a percentage of gross profit by 150 basis points to 71.4%, and we calculate adjusted operating margin including floorplan interest improved by 20 basis points to 3.2%. Also impressive is Lithia’s used/new sales ratio of 1.0, which has not happened since first-quarter 2011.

The new-vehicle business faced pressure from a 10% decline in manufacturer incentives to dealers, which we expect will continue throughout 2019 as automakers have shown reasonable pricing discipline even late in the cycle. Consumers have more supply of used light trucks coming off lease this year, and we think management is rightly being more aggressive in trying to procure more used inventory from consumers who just want to sell a vehicle to Lithia as opposed to buying a vehicle from Lithia. This "off the street" inventory was 6% of used-vehicle sales for the quarter, and management thinks it can grow the ratio via more digital advertising. We expect Lithia's investment in online used-vehicle retailer Shift to eventually help in this regard, too.

Management has taken an acquisition break to integrate several dealer groups purchased recently, but their tone on the call suggests they are ready to start buying again. Venture capital money is leaving the sector, which CEO Bryan DeBoer says is bringing asking prices down to realistic levels. We've never seen Lithia hesitate to make a deal when it thinks it can meaningfully turn around an underperforming group that offers a cultural fit to Lithia's entrepreneurial style; so with Lithia identifying 2,600 possible store targets nationwide and $235 million available on its credit line, we expect more deals this year.