March 8, 2006
March 8, 2006
TO OUR SHAREHOLDERS:
TO OUR SHAREHOLDERS:
We want to thank our valued shareholders for your continued support of our company. Lithia was
founded by a strong family of business people who have now grown to include not only the original
We want to thank our valued shareholders for your continued support of our company. Lithia was founded
family, but also a large family of over 5,000 employees and hundreds of dedicated shareholders. We
by a strong family of business people who have now grown to include not only the original family, but also
take great pride in our successes and are pleased to report another successful year – the ninth for us
a large family of over 5,000 employees and hundreds of dedicated shareholders. We take great pride in
as a public company. We had a solid year in 2005 with 10% sales growth and 24% operating income
our successes and are pleased to report another successful year – the ninth for us as a public company.
growth. Additionally, we grew both total same-store sales and total same-store gross profits. Margins
We had a solid year in 2005 with 10% sales growth and 24% operating income growth. Additionally, we
held steady in the new vehicle business and increased in the retail used vehicle and service and parts
grew both total same-store sales and total same-store gross profits. Margins held steady in the new
businesses which lead to a record level total gross profit margin for the year. We were able to control
vehicle business and increased in the retail used vehicle and service and parts businesses which lead to
and improve the company’s cost structure and as a result our Sales General and Administrative
a record level total gross profit margin for the year. We were able to control and improve the company’s
(SG&A) expense as a percentage of gross profit improved substantially year over year. From this good
cost structure and as a result our Sales General and Administrative (SG&A) expense as a percentage of
margin performance and ability to control costs, we were able to improve operating margins to 4.1%,
gross profit improved substantially year over year. From this good margin performance and ability to control
the highest annual operating margin level that the company has achieved as a public company. Our
costs, we were able to improve operating margins to 4.1%, the highest annual operating margin level that
performance in 2005 is due to an ever increasing ability to integrate new stores, and improve the
the company has achieved as a public company. Our performance in 2005 is due to an ever increasing
performance of existing stores. Our systems and workforce have grown stronger, more innovative, and
ability to integrate new stores, and improve the performance of existing stores. Our systems and workforce
more efficient; Lithia’s employees deserve a lot of credit for their hard work this year.
have grown stronger, more innovative, and more efficient; Lithia’s employees deserve a lot of credit for their
hard work this year.
Nationally, new vehicle sales continued with the month to month volatility that we have seen in the last
few years. Manufacturer incentives that can occur at any time of the year and take many different
Nationally, new vehicle sales continued with the month to month volatility that we have seen in the last
forms continue to influence and dominate the vehicle sales environment. Many customers have come
few years. Manufacturer incentives that can occur at any time of the year and take many different forms
to expect and rely on these incentives when determining their vehicle purchases. The spring and
continue to influence and dominate the vehicle sales environment. Many customers have come to expect
In the summer months of
summer months are traditionally the strongest selling seasons of the year.
and rely on these incentives when determining their vehicle purchases. The spring and summer months
2005, manufacturers implemented “employee pricing” which was very popular with consumers.
In the
are traditionally the strongest selling seasons of the year. In the summer months of 2005, manufacturers
used vehicle market there was improvement throughout the year.
In the first part of the year, most of
implemented “employee pricing” which was very popular with consumers. In the used vehicle market there
In the second half of the year improvements were
the improvement was in the form of better pricing.
was improvement throughout the year. In the first part of the year, most of the improvement was in the
achieved through a combination of higher sales volumes and better pricing. The higher used vehicle
form of better pricing. In the second half of the year improvements were achieved through a combination
sales volumes resulted from the large numbers of trade-ins that were taken in as a consequence of the
of higher sales volumes and better pricing. The higher used vehicle sales volumes resulted from the large
employee pricing programs. Lithia now operates across a well diversified range of 37 markets in 12
numbers of trade-ins that were taken in as a consequence of the employee pricing programs. Lithia now
states. This diversification allows us to weather most short-term or regional economic dislocations that
operates across a well diversified range of 37 markets in 12 states. This diversification allows us to
may occur in any market at any given time. We believe that we are in some of the best growth markets
weather most short-term or regional economic dislocations that may occur in any market at any given time.
in the country and that the long-term prospect for all of our markets is sound.
We believe that we are in some of the best growth markets in the country and that the long-term prospect
for all of our markets is sound.
The basis for Lithia’s auto-retail plan is to produce both sales and margin improvements at our stores.
Therefore, regardless of market conditions, Lithia enhances the performance of its stores. For the full-
The basis for Lithia’s auto-retail plan is to produce both sales and margin improvements at our stores.
year 2005, we were able to increase our year-over-year total gross margin by 40 basis points to 17.2%
Therefore, regardless of market conditions, Lithia enhances the performance of its stores. For the full-year
and our SG&A as a percentage of gross profit improved 220 basis points to 73.5%. As a result, full-
2005, we were able to increase our year-over-year total gross margin by 40 basis points to 17.2% and
year 2005 operating margins improved 50 basis points to 4.1%. These are record levels for the
our SG&A as a percentage of gross profit improved 220 basis points to 73.5%. As a result, full-year 2005
In
company and yet we feel there are still more efficiencies that we can achieve in the years to come.
operating margins improved 50 basis points to 4.1%. These are record levels for the company and yet we
addition, we saw year-over-year operating margin improvement in every quarter of the year. Same-
feel there are still more efficiencies that we can achieve in the years to come. In addition, we saw year-
store sales were up 1.8% and total same-store gross profits improved 3.1% for the year.
over-year operating margin improvement in every quarter of the year. Same-store sales were up 1.8% and
total same-store gross profits improved 3.1% for the year.
Lithia’s retail new vehicle same-store sales improved 0.8% in 2005, better than the 0.5% gain recorded for
the industry, which includes fleet sales. Our total used vehicle same-store sales improved 3.8% for the
year. Retail used vehicle margins also improved substantially, increasing 120 basis points as compared to
2004.
For 2006, industry observers are predicting an essentially flat new vehicle sales environment. Traditionally
the direction of the new and used vehicle market is difficult to predict accurately, especially on a month to
month or quarterly basis. Historically, on an annual basis, the new vehicle market has been relatively stable
for the last 7 years. We believe that the used vehicle market has experienced unit sales declines over the
same period, resulting in an overall industry decline. That said, Lithia has a strong business model that
has enabled the company to benefit and grow regardless of this declining environment. In 2005 we saw
increases in same store sales, gross profits and margins. Lithia’s pretax margin was 2.9% in 2005, while
industry pretax margins were 1.6%, so the benefits of Lithia’s operating model are readily apparent. We
believe we are positioned well to capitalize on opportunities in the auto-retail business next year and in the
years to come.
SIGNIFICANT EVENTS
During 2005, Lithia made some noteworthy accomplishments. We:
•
•
•
Produced growth in net income from continuing operations of 17.5% to $51.8 million;
Completed the acquisition of 8 automotive retail stores and 24 franchises with annual revenues
of approximately $356 million. We now operate 93 stores with 25 brands of new vehicles in 12
western states;
Lithia ranked number 600 on Fortunes annual list of Americas Largest Corporations in the April
2005 issue of Fortune Magazine.
FINANCIAL OVERVIEW
Total revenues for 2005 reached almost $3.0 billion, growing 10% compared with $2.7 billion in 2004. We
have a very strong balance sheet. Our long-term debt-to-total-capitalization ratio remains low at 23%, which
excludes used vehicle flooring and real estate debt. Since our IPO in December 1996, we have increased
our revenues more than twenty fold. Our book value per basic share has grown at a compounded annual
rate of 21% from $4.22 in 1996 to $23.97 as of December 31, 2005. The compounded annual growth rate
(CAGR) in sales was 40% per year; net income 39% per year; and EPS 20% per year. Total same-store
sales have grown at an average annual rate of 2.9%. These achievements are a reflection of Lithia’s strong
operating model combined with a consistent approach to acquisitions.
ACQUISITIONS
Lithia remains dedicated to a long-term growth strategy. Our plan is to combine increases in same-store
sales with growth from acquisitions. Since our IPO in late 1996 we have grown from 5 to 93 stores.
Including dispositions, we have added on average 9 stores per year. In 2005, we added approximately $356
million in annualized revenues to our base of total revenues of $2.7 billion in 2004. This represents growth
of over 13%. We anticipate continued long-term revenue growth from acquisitions. Our acquisition targets
are comprised of stores in medium sized regional markets where we can improve operating performance.
Lithia has developed proprietary systems and standardized processes that are integrated into every new
store that is acquired. These systems combined with training and support from our team of experts has
been proven to deliver measurable results in our acquired stores.
Currently all of Lithia’s stores are concentrated in markets west of the Mississippi, typically in locations with
franchises that are exclusive in their market, or that have a dominant market share position. There are
approximately 22,000 auto-retail stores in the United States, many that fit Lithia’s acquisition profile. There
are markets throughout the United States that we consider targets for future acquisitions. Our competition
for these stores mostly comes from other private operators in the industry. As a company that is dedicated
to the improvement of store operations, with strong operating systems and management, ample capital
resources and good manufacturer relationships, we believe our acquisition model is superior to that of our
competitors. Our interests our aligned with those of our manufacturer partners as we seek to expand the
market share and customer satisfaction targets for our stores.
Lithia’s operational teams are comprised of experts in all aspects of the auto-retail business. We are
capable of integrating up to 2 stores a month or 24 per year. We have a strong financial position with ample
free cash flow, a 23% long-term debt to total capitalization ratio, and an unused acquisition credit facility of
$150 million. Currently, most of our growth is internally funded from free cash flow. We plan to continue to
execute our growth plan in a consistent way in the future.
CONCLUSION
Lithia is dedicated to a process of continually improving our operations and finding performance enhancing
capabilities for our employees. We have Human Resource initiatives that are designed to enhance
opportunities for existing employees, as well as recruit top talent. There are career and growth opportunities
for employees at all levels of the company. In addition, Lithia has retained its original management team
and operating plan. This plan has enabled the company to grow in a predictable and consistent manner.
Over the last nine years, the auto-retail industry has had its ups and downs, and yet Lithia has consistently
produced reliable growth and margin improvements that are a testament to our strong operating systems
and talented employees. We have a long way to go and there is still much that we can achieve. We are very
confident that we have built a corporate culture and strategic plan that will continue to produce long-term
success for our valued shareholders, customers, and employees in the years to come.
Sincerely,
Sidney B. DeBoer
Chairman and Chief Executive Officer
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
FORM 10-K
___________________
[X]
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended: December 31, 2005
OR
[
]
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
Commission File Number: 001-14733
LITHIA MOTORS, INC.
(Exact name of registrant as specified in its charter)
(State or other jurisdiction of incorporation or organization)
Oregon
93-0572810
(I.R.S. Employer Identification No.)
360 E. Jackson Street, Medford, Oregon
(Address of principal executive offices)
97501
(Zip Code)
541-776-6899
(Registrant's telephone number including area code)
Securities registered pursuant to Section 12(b) of the Act:
Class A common stock, without par value
Securities registered pursuant to Section 12(g) of the Act: None
(Title of Class)
__________ _________
Indicate by check mark if the Registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act:
Yes [
] No [X]
Indicate by check mark if the Registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act:
[
]
Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the
Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the Registrant was required
to file such reports), and (2) has been subject to such filing requirements for the past 90 days: Yes [X] No [
]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and
will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by
reference in Part III of this Form 10-K, or any amendment to this Form 10-K.
[X]
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer or a non-accelerated filer. See
definition of “accelerated filer” and “large accelerated filer” in Rule 12b-2 of the Exchange Act. Large accelerated filer [
]
Accelerated filer [X] Non-accelerated filer [
]
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes [
No [ X ]
]
The aggregate market value of the voting and non-voting common equity held by non-affiliates of the Registrant was
$432,119,137, computed by reference to the last sales price ($28.85) as reported by the New York Stock Exchange for the
Registrant’s Class A common stock, as of the last business day of the Registrant’s most recently completed second fiscal
quarter (June 30, 2005).
The number of shares outstanding of the Registrant’s common stock as of March 1, 2006 was: Class A: 15,726,772 shares
and Class B: 3,762,231 shares.
Documents Incorporated by Reference
The Registrant has incorporated into Part III of Form 10-K, by reference, portions of its Proxy Statement for its 2006 Annual
Meeting of Shareholders.
LITHIA MOTORS, INC.
2005 FORM 10-K ANNUAL REPORT
TABLE OF CONTENTS
PART I
Item 1.
Business
Item 1A.
Risk Factors
Item 1B.
Unresolved Staff Comments
Item 2.
Properties
Item 3.
Legal Proceedings
Item 4.
Submission of Matters to a Vote of Security Holders
PART II
Item 5.
Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of
Equity Securities
Item 6.
Selected Financial Data
Item 7.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
Item 7A.
Quantitative and Qualitative Disclosures About Market Risk
Item 8.
Financial Statements and Supplementary Data
Item 9.
Changes in and Disagreements With Accountants on Accounting and Financial Disclosure
Item 9A.
Controls and Procedures
Item 9B.
Other Information
Item 10.
Directors and Executive Officers of the Registrant
Item 11.
Executive Compensation
PART III
Item 12.
Security Ownership of Certain Beneficial Owners and Management and Related Stockholder
Matters
Item 13.
Certain Relationships and Related Transactions
Item 14.
Principal Accountant Fees and Services
PART IV
Item 15.
Exhibits and Financial Statement Schedules
Signatures
1
Page
2
14
19
19
19
20
20
22
23
37
39
39
39
40
40
40
40
40
40
40
41
Item 1. Business
Forward Looking Statements
PART I
Some of the statements under the sections entitled “Risk Factors,” “Management’s Discussion and
Analysis of Financial Condition and Results of Operations” and “Business” and elsewhere in this Form 10-
K constitute forward-looking statements. In some cases, you can identify forward-looking statements by
terms such as “may,”
“believe,”
“estimate,” “predict,” “potential,” and “continue” or the negative of these terms or other comparable
terminology. The forward-looking statements contained in this Form 10-K involve known and unknown
risks, uncertainties and situations that may cause our actual results, level of activity, performance or
achievements to be materially different
levels of activity, performance or
achievements expressed or implied by these statements. Some of the important factors that could cause
actual results to differ from our expectations are discussed in Item 1A. to this Form 10-K.
from any future results,
“anticipate,”
“forecast,”
“expect,”
“should,”
“intend,”
“plan,”
“will,”
Although we believe that the expectations reflected in the forward-looking statements are reasonable, we
cannot guarantee future results, levels of activity, performance or achievements. You should not place
undue reliance on these forward-looking statements.
Where You Can Find More Information
We file annual, quarterly and special reports, proxy statements and other information with the Securities
and Exchange Commission (“SEC”) under the Securities Exchange Act of 1934 as amended (the
“Exchange Act”). You can inspect and copy our reports, proxy statements, and other information filed with
the SEC at the offices of the SEC’s Public Reference Room in Washington, D.C. Please call the SEC at
1-800-SEC-0330 for further information on the Public Reference Room. The SEC maintains an Internet
site at http://www.sec.gov/ where you can obtain most of our SEC filings. We also make available, free of
charge on our website at www.lithia.com, our annual reports on Form 10-K, quarterly reports on Form 10-
Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to Section
13(a) or 15(d) of the Exchange Act as soon as reasonably practicable after they are filed electronically
with the SEC. The information found on our website is not part of this Form 10-K. You can also obtain
copies of these reports by contacting Investor Relations at 541-776-6591.
Compliance with Section 303A of the NYSE Listed Company Manual
As required by the NYSE Corporate Governance Standards, we filed the appropriate certifications with
NYSE in 2005 confirming that the CEO is not aware of any violations of the NYSE Corporate Governance
Standards and we also filed with the SEC in 2005 the Chief Executive Officer and Chief Financial Officer
certifications required under Section 302 of the Sarbanes-Oxley Act.
Overview
We are a leading operator of automotive franchises and retailer of new and used vehicles and services.
As of March 6, 2006, we offered 25 brands of new vehicles through 187 franchises in 93 stores in the
Western United States and over the Internet. As of March 6, 2006, we operated 16 stores in Oregon, 14
in Texas, 12 in Washington, 11 in California, 7 in Idaho, 7 in Colorado, 7 in Alaska, 7 in Montana, 6 in
Nevada, 3 in Nebraska, 2 in South Dakota and 1 in New Mexico. We sell new and used cars and light
trucks; sell replacement parts; provide vehicle maintenance, warranty, paint and repair services; and
arrange related financing, service contracts, protection products and credit insurance for our automotive
customers.
2
We currently achieve gross profit margins above industry averages by selling a higher ratio of retail used
vehicles to new vehicles and by arranging finance and extended warranty contracts for a greater
percentage of our customers.
In 2005, we achieved a gross profit margin of 17.2%.
We were founded in 1946 and incorporated in 1968. Our two senior executives have managed the
company for more than 35 years. Since our initial public offering in 1996, we have grown from 5 to 93
stores, primarily through an aggressive acquisition program that has been accretive to our earnings,
increasing annual revenues from $143 million in 1996 to $2.9 billion in 2005. In addition, since our initial
public offering through December 31, 2005, we have achieved compound annual growth rates of 40% per
year for revenues, 39% per year for net income and 20% per year for earnings per share, together with a
2.9% average annual same store sales increase.
The Industry
At approximately $1.0 trillion in annual sales, automotive retailing is the largest retail trade sector in the
United States and comprises roughly 10% of the GDP. The industry is highly fragmented with the 100
largest automotive retailers generating approximately 17% of total industry revenues in 2004. The number
of franchised stores in the U.S. has declined in the last 20 years from approximately 24,725 stores in
1983 to approximately 21,650 in 2004. The average price of a new vehicle sold in the past ten years
increased 46% from $19,200 in 1994 to $28,050 in 2004. In addition to these new vehicle outlets, used
vehicles are sold by approximately 53,000 independent used vehicle dealers and through casual (person
to person) transactions. New vehicles can only be sold through automotive retail stores franchised by
auto manufacturers. These franchise stores have designated trade territories under state franchise law
protection, which limits the number of new stores that can be opened in any given area.
Consolidation is expected to continue as many smaller automotive retailers are now considering selling or
joining forces with larger retailer groups, given the large capital requirements necessary to operate in
today’s retail environment. With many owners reaching retirement age, often without clear succession
plans, larger, well-capitalized automotive retailers provide an attractive exit strategy. We believe these
factors provide an attractive environment for continuing consolidation.
Unlike many other retailing segments, automotive manufacturers provide unparalleled support to the
automotive retailer. Manufacturers often bear the burden of markdown risks on slow-moving inventory as
they provide aggressive dealer and customer incentives to clear aged inventory in order to free the
inventory pipeline for new purchases. In addition, an automotive retailer’s cash investment in inventory is
relatively small, given floorplan financing from manufacturers. Furthermore, manufacturers provide low-
cost financing for working capital and acquisitions and credit to consumers to finance vehicle purchases,
as well as pay market rate prices to their dealers for servicing vehicles under manufacturers’ warranties.
Sales in the automotive sector are affected by general economic conditions including rates of
employment, income growth, interest rates and consumer sentiment.
U.S. new vehicle sales were 16.99 million units in 2005, a 0.5% increase compared to 16.90 million units
in 2004. In 2005, new vehicle sales continued to be driven by generous incentives, such as “employee
pricing,” cash rebates, low-rate financing and attractive lease options. New vehicle sales usually decline
during a weak economy; however, the higher margin service and parts business typically benefits in the
same environment because consumers tend to keep their vehicles longer. Strong sales of new vehicles
in recent years have provided a population of vehicles for future service and parts revenues. Automotive
retailers benefit
from their designation as an exclusive warranty and recall service provider of a
manufacturer. For the typical manufacturer’s warranty, this provides an automotive retailer with a period
of at least 3 years of repeat business for service covered by warranty. Extended warranties can add two
or more years to this repeat servicing period.
3
Profitability amongst automotive retailers will vary and depends in part on local economic conditions,
competition, product mix, effective management of
inventory, marketing, quality control and
responsiveness to customers. In 2004, new vehicles accounted for an estimated 60.9% of industry
revenues. The remaining 39.1% of revenues were derived from used vehicles sales of 27.6% and service
and parts sales of 11.5%. Finance and insurance sales are included in the new and used vehicle sales
numbers. Industry gross profit margins on new vehicles were 5.2% in 2004.
Automotive retailers have much lower fixed overhead costs than automobile manufacturers and parts
suppliers. Variable and discretionary costs, such as sales commissions and personnel, advertising and
inventory finance expenses, can be adjusted to more closely match new vehicle sales. Variable and
discretionary costs account for an estimated 60-65% of the industry’s total expenses. Moreover, an
automotive retailer can enhance its profitability from sales of higher margin products and services. Gross
profit margins for the parts and service business are significantly higher at approximately 48%, given the
labor-intensive nature of the product category. Gross profit margins for finance and insurance are virtually
100% as they are fee driven income items. These supplemental, high margin products and services
provide substantial incremental revenue and net income, decreasing reliance on the highly competitive
new vehicle sales.
Store Operations
Each of our stores is its own profit center and is managed by a general manager who has primary
responsibility for pricing, personnel and advertising. In order to provide additional support for improving
performance, we make available to each store a team of specialists in new vehicle sales, used vehicle
sales, finance and insurance, service and parts, and back-office administration.
The following tables set forth information about our stores as of March 6, 2006:
State
Oregon.............................
California .........................
Texas ...............................
Washington .....................
Colorado ..........................
Alaska ..............................
Idaho................................
Montana...........................
Nevada ............................
Nebraska .........................
South Dakota...................
New Mexico.....................
Total............................
Number of
Stores
16
11
14
12
7
7
7
7
6
3
2
1
93
Number of
Franchises
35
27
26
21
14
11
12
18
10
6
3
4
187
Percent of
Total 2005
Annualized
Revenue
16%
16
16
12
8
7
7
6
5
4
2
1
100%
Location
OREGON
Eugene
Grants Pass
Klamath Falls
Medford
Store
Franchises
Lithia Chrysler Dodge of Eugene
Lithia Nissan of Eugene
Saturn of Eugene
Lithia’s Grants Pass Auto Center
Lithia Klamath Falls Auto Center
Lithia Chrysler Jeep Dodge
Lithia Honda
Lithia Nissan
Medford BMW
Lithia Toyota
Lithia Volkswagen
Saturn of Southwest Oregon
4
Dodge, Dodge Truck, Chrysler
Nissan
Saturn
Dodge, Dodge Truck, Chrysler, Jeep
Toyota, Dodge, Dodge Truck, Chrysler, Jeep
Dodge, Dodge Truck, Chrysler, Jeep
Honda
Nissan
BMW
Toyota, Scion
Volkswagen
Saturn
Year
Opened/
Acquired
1996/2005
1998
2000
Pre-IPO
1999
Pre-IPO
Pre-IPO
1998
1998
Pre-IPO
Pre-IPO
Pre-IPO
Location
Oregon City
(Portland)
Roseburg
Springfield (Eugene)
Store
Franchises
Lithia Subaru of Oregon City
Lithia Ford Lincoln Mercury of Roseburg
Lithia Chrysler Jeep Dodge of Roseburg
Lithia Toyota of Springfield
Subaru
Ford, Lincoln, Mercury
Dodge, Dodge Truck, Chrysler, Jeep
Toyota, Scion
TEXAS
San Angelo
Odessa
Midland
Grapevine
Abilene
Corpus Christi
WASHINGTON
All American Chrysler Jeep Dodge of
San Angelo
Honda of San Angelo
All American Chevrolet of San Angelo
All American Chrysler Jeep Dodge
of Odessa
All American Chevrolet of Odessa
Lithia Toyota of Odessa
All American Hyundai of Odessa
All American Chrysler Dodge Jeep of
Midland
All American Chevrolet of Midland
Lithia Honda of Midland
Lithia Dodge of Grapevine
Lithia Toyota of Abilene
Lithia Honda of Abilene
Lithia Dodge of Corpus Christi
Bellevue (Seattle)
Chevrolet Hummer of Bellevue
Issaquah (Seattle)
Kennewick
Renton
Richland
Seattle
Spokane
Wenatchee
CALIFORNIA
Concord
Fresno
Redding
Vacaville
Burlingame
Chevrolet of Issaquah
Honda of Tri-Cities
Lithia Dodge of Tri-Cities
Lithia Chrysler Jeep Dodge of Renton
Lithia Hyundai of Renton
Lithia Ford of Tri-Cities
Seattle BMW
Lithia Camp Chevrolet Cadillac
Lithia Camp Imports
Mercedes-Benz of Spokane
Lithia Chrysler Dodge of Wenatchee
Lithia Chrysler Jeep Dodge of Concord
Lithia Ford of Fresno
Lithia Nissan Hyundai of Fresno
Lithia Mazda Suzuki of Fresno
Lithia Chevrolet of Redding
Lithia Toyota of Redding
Lithia Toyota of Vacaville
Lithia Chrysler Jeep Dodge of
Burlingame
Dodge, Dodge Truck, Jeep, Chrysler
Honda
Chevrolet
Dodge, Dodge Truck, Jeep, Chrysler
Chevrolet
Toyota, Scion
Hyundai
Dodge, Dodge Truck, Jeep, Chrysler
Chevrolet
Honda
Dodge, Dodge Truck
Toyota
Honda
Dodge, Dodge Truck
Chevrolet
Hummer
Chevrolet
Honda
Dodge, Dodge Truck
Chrysler, Jeep, Dodge, Dodge Truck
Hyundai
Ford
BMW
Chevrolet, Cadillac
Subaru, BMW
Mercedes
Chrysler, Dodge, Dodge Truck
Dodge, Dodge Truck, Chrysler, Jeep
Ford
Nissan, Hyundai
Mazda, Suzuki
Chevrolet
Toyota, Scion
Toyota, Scion
Chrysler, Dodge, Dodge Truck, Jeep
Santa Rosa
Lithia Chrysler Jeep Dodge of Santa
Chrysler, Dodge, Dodge Truck, Jeep
Fairfield
Eureka
Lithia Dodge of Fairfield
Lithia Chrysler Dodge of Eureka
Dodge, Dodge Truck
Chrysler, Dodge, Dodge Truck
Rosa
5
Year
Opened/
Acquired
2002
1999
1999
1998
2002
2002
2002
2002
2002
2004
2005
2002/2005
2002
2005
2003
2005
2005
2005
2001
2002
2001
2000
1999
2000
2002
2000
2001
1998
1998
2003
2005
1997/2005
1997
1998
1997
1998
1998
1996
2002
2003/2004
2003
2005
Location
IDAHO
Boise
Caldwell
Pocatello
Store
Franchises
Lithia Ford of Boise
Chevrolet of Boise
Lithia Lincoln-Mercury of Boise
Chevrolet of Caldwell
Honda of Pocatello
Lithia Chrysler Dodge Hyundai of
Pocatello
Ford
Chevrolet
Lincoln, Mercury
Chevrolet
Honda
Chrysler, Dodge, Dodge Truck, Hyundai
Twin Falls
Chevrolet Cadillac of Twin Falls
Chevrolet, Cadillac
COLORADO
Aurora (Denver)
Colorado Springs
Englewood (Denver)
Fort Collins
Thornton (Denver)
ALASKA
Anchorage
Fairbanks
Wasilla
MONTANA
Missoula
Billings
Helena
Great Falls
Butte
NEVADA
Reno
Sparks
NEBRASKA
Omaha
SOUTH DAKOTA
Sioux Falls
NEW MEXICO
Santa Fe
Lithia Dodge of Cherry Creek
Lithia Colorado Chrysler Jeep
Lithia Colorado Springs Jeep Chrysler
Lithia Centennial Chrysler Jeep
Lithia Chrysler Jeep Dodge of Fort
Collins
Lithia Hyundai of Fort Collins
Lithia Volkswagen of Thornton
Lithia Chrysler Jeep of Anchorage
Lithia Dodge of South Anchorage
Lithia Hyundai of Anchorage
Chevrolet of South Anchorage
BMW of Anchorage
Chevrolet Cadillac of Fairbanks
Chevrolet of Wasilla
Dodge, Dodge Truck
Chrysler, Jeep
Jeep, Chrysler
Chrysler, Jeep
Dodge, Dodge Truck, Chrysler, Jeep
Hyundai
Volkswagen
Chrysler, Jeep
Dodge, Dodge Truck
Hyundai
Chevrolet, Saab
BMW
Chevrolet, Cadillac
Chevrolet
Lithia Chrysler Dodge of Missoula
Lithia Dodge of Billings
Chevrolet of Helena
Lithia Chrysler Dodge of Helena
Lithia Chrysler Jeep Dodge of Great
Falls
Chrysler, Dodge, Dodge Truck
Dodge, Dodge Truck
Chevrolet
Chrysler, Dodge, Dodge Truck
Chrysler, Dodge, Dodge Truck, Jeep
Honda of Great Falls
Lithia Chrysler Dodge Jeep of Butte
Honda
Chrysler, Dodge, Dodge Truck, Jeep
Lithia L/M/Audi Isuzu of Reno
Lithia Hyundai of Reno
Lithia Reno Subaru
Lithia Volkswagen of Reno
Lithia Chrysler Jeep of Reno
Lithia Sparks (satellite of Lithia Reno)
Audi, Lincoln, Mercury, Isuzu
Hyundai
Subaru
Volkswagen
Chrysler, Jeep
Suzuki
Lithia Ford of Omaha
Mercedes-Benz of Omaha
Lithia Chrysler Jeep Dodge of Omaha
Ford
Mercedes
Chrysler, Jeep, Dodge, Dodge Truck
Chevrolet of Sioux Falls
Lithia Dodge of Sioux Falls
Chevrolet
Dodge, Dodge Truck
Lithia Chrysler Jeep Dodge of Santa Fe
Chrysler, Jeep, Dodge, Dodge Truck
6
Year
Opened/
Acquired
2000
1999
1999
2001
2001
2001
2003
1999
1999
1999
1999
1999
1999
2002
2001
2001
2003
2004
2004
2003
2004
2003
2003
2004
2004
2004
2004
2005
1997
1997
1999
1998
2004
1997
2002
2002
2005
2000
2001
2004
New Vehicle Sales
In 2005, we sold 25 domestic and imported brands ranging from economy to luxury cars, sport utility
vehicles, minivans and light trucks.
Manufacturer
DaimlerChrysler (Chrysler, Dodge, Jeep, Dodge Trucks)
General Motors (Chevrolet, Saturn, Cadillac, Hummer)
Toyota, Scion
Ford (Ford, Lincoln, Mercury)
BMW
Nissan
Honda
Hyundai
Subaru
Volkswagen, Audi
Mercedes
Mazda
Suzuki
Saab
Isuzu
* Less than 0.1%
Percent of
Total Revenue
23.4%
12.1
5.0
4.8
2.2
2.0
1.9
1.8
1.5
1.1
0.8
0.3
0.2
*
*
57.1%
Percent of
New Vehicle
Sales in
2005
40.6%
21.2
8.8
8.4
3.9
3.5
3.4
3.2
2.6
1.9
1.4
0.6
0.4
0.1
*
100.0%
Our unit and dollar sales of new vehicles from continuing operations were as follows:
New vehicle units……………………..
New vehicle sales (in thousands)…..
Average selling price…………………
2005
59,956
$1,676,607
$27,964
Year Ended December 31,
2003
52,605
$1,407,874
$26,763
2002
46,929
$1,218,364
$25,962
2004
54,839
$1,541,102
$28,102
2001
37,190
$926,981
$24,926
The average selling price of new vehicles decreased in 2005 compared to 2004 due to a shift in the
vehicle mix away from higher-priced trucks and SUVs.
We purchase our new car inventory directly from manufacturers, who generally allocate new vehicles to
stores based on the number of vehicles sold by the store on a monthly basis and by the store’s market
area. Accordingly, we rely on the manufacturers to provide us with vehicles that consumers’ desire and to
supply us with such vehicles at suitable locations, quantities and prices. However, high demand vehicles
often are in short supply. We attempt to exchange vehicles with other automotive retailers (and amongst
our own stores) to accommodate customer demand and to balance inventory.
We post the manufacturer’s suggested retail price (MSRP) on every vehicle, as required by law. We
negotiate the final sales price of a new vehicle individually with the customer. We sell many of our higher
volume vehicles under our “Promo Price” program. This program markets vehicles at an affordable price
that is less than MSRP.
In 2006, we will be introducing a new initiative under which all sales personnel will have interactive
personal computers, which will allow the salesperson to quickly and efficiently enter data and interact with
the customer to speed up the sales process. Vehicle and customer information will
immediately be
downloaded onto the appropriate forms necessary to complete the sales process, eliminating, over time,
the need for paperwork to be done by hand. The goal of this initiative is to create a simplified and more
efficient process for both the salesperson and the customer, speeding up the sales process and
improving the customer’s experience. This initiative will be used for new and used vehicle sales.
7
Used Vehicle Sales
At each new vehicle store, we also sell used vehicles. Used vehicle sales are an important part of our
overall profitability. In 2005, retail used vehicle sales generated a gross profit margin of 15.7% compared
with a gross profit margin of 7.9% for new vehicle sales.
Since the beginning of 2002,
the used vehicle market has been negatively impacted by strong
competition from the new vehicle market, with heavy manufacturer incentives in the form of cash rebates,
discounted pricing and low interest financing. In the first quarter of 2005, the used vehicle market showed
positive signs as a result of constrained industry supply, which led to improvements in retail pricing and
margins. In the second and third quarters of 2005, we experienced an increase in trade-ins of quality
used vehicles in connection with the domestic manufacturers “employee pricing” programs. We received
these trade-ins at good valuations and, in the fourth quarter of 2005, we had a strong used vehicle cycle
as we sold much of what we brought into inventory in the previous quarters.
We implemented new procedures in the used vehicle business, which have also demonstrated positive
results for this important business line:
• We conduct our own local used vehicle auctions in select markets and manage the disposal of
used vehicles at larger auctions. The process is centralized and controlled at the management
level.
• We utilize a “Used Vehicle Promo Pricing” strategy, which markets vehicles with a $99 down
payment and then groups vehicles by payment
level. Vehicles are marked with clear and
understandable pricing, which reduces haggling and speeds up the sale process. This strategy
clearly addresses the three biggest issues of price, down payment and monthly payment for our
customers and our sales personnel.
In addition, as a complement to our ongoing used vehicle operation at each store, we use specialists in
our support services group to increase the acquisition of used vehicles. We believe that this will help
bolster sales volumes in the 3 to 7 year old vehicle market.
Our used vehicle operations give us an opportunity to:
•
•
•
generate sales to customers financially unable or unwilling to purchase a new vehicle;
increase new and used vehicle sales by aggressively pursuing customer trade-ins; and
increase service contract sales and provide financing to used vehicle purchasers.
In 2005, we sold approximately 1.1 used vehicles (retail and wholesale combined) for every retail new
vehicle sold.
In addition to selling late model used cars, as do other new vehicle dealers, our stores emphasize sales
of used vehicles three to ten years old. These vehicles sell for lower prices, but normally generate greater
margins. We believe that selling a larger number of used vehicles makes us less susceptible to the
effects of changes in the volume of new vehicle sales that result from economic conditions.
8
We acquire most of our used vehicles through customer trade-ins, but we also buy them at “closed”
auctions, attended only by new vehicle automotive retailers with franchises for the brands offered. These
auctions offer off-lease, rental and fleet vehicles. We also buy used vehicles at “open” auctions of
repossessed vehicles and vehicles being sold by other automotive retailers.
In addition to selling used vehicles to retail customers, we wholesale to other automotive retailers and to
other wholesalers used vehicles that are in poor condition and vehicles that have not sold promptly.
Our used vehicle sales from continuing operations were as follows:
Retail used vehicle units………………………
Retail used vehicle sales (in thousands)…....
Average selling price......................................
Wholesale used vehicle units ....................….
Wholesale used vehicle sales (in
thousands)…………………………………….
Average selling price………………………….
2005
43,377
$675,043
$15,562
Year Ended December 31,
2003
40,951
$596,583
$14,568
2002
40,781
$594,616
$14,581
2004
40,836
$617,336
$15,117
2001
35,845
$481,215
$13,425
24,078
22,336
25,586
24,475
18,081
$141,920
$5,894
$119,358
$5,344
$120,891
$4,725
$121,445
$4,962
$83,137
$4,598
Total used vehicle units .............................….
Total used vehicle sales (in thousands)….….
Average selling price…………………………..
67,455
$816,963
$12,111
63,172
$736,694
$11,662
66,537
$717,474
$10,783
65,256
$716,061
$10,973
53,926
$564,352
$10,465
Vehicle Financing, Extended Warranty and Insurance
We believe that arranging financing is critical to our ability to sell vehicles and related products and
services. We provide a variety of financing and leasing alternatives to meet customer needs. Offering
customer financing on a “same day” basis gives us an advantage, particularly over smaller competitors
who do not generate enough sales to attract our breadth of finance sources.
We try to arrange financing for every vehicle we sell. Our finance and insurance managers possess
extensive knowledge of available financing alternatives and receive training in determining each
customer’s financing needs so that the customer can purchase or lease a vehicle. The finance and
insurance managers work closely with financing sources to quickly determine a customer’s credit status
and to confirm the type and amount of financing available to each customer.
In 2005, we provided financing or other insurance products for 78% of our new vehicle sales and 73% of
our retail used vehicle sales. Our average finance and insurance revenue per retail vehicle totaled $1,059
in 2005.
We earn a portion of
the financing charge by discounting each finance contract we write and
subsequently sell to a lender. We usually arrange financing for customers by selling the contracts to
outside sources on a non-recourse basis to avoid the risk of default. During 2005, we directly financed
less than 0.01% of our vehicle sales.
Our finance and insurance managers also market third-party extended warranty contracts and insurance
contracts to our new and used vehicle buyers. These products and services yield higher profit margins
than vehicle sales and contribute significantly to our profitability. Extended warranty contracts provide
additional coverage for new vehicles beyond the duration or scope of the manufacturer’s warranty. The
service contracts we sell to used vehicle buyers provide coverage for certain major repairs.
We also offer our customers third party credit life and health and accident insurance when they finance an
automobile purchase. We receive a commission on each policy sold. We also offer other products, such
as protective coatings and automobile alarms.
9
Service, Body and Parts
Our automotive service, body and parts operations are an integral part of establishing customer loyalty
and contribute significantly to our overall revenue and profits. We provide parts and service primarily for
the new vehicle brands sold by our stores, but we also service other vehicles. In 2005, our service, body
and parts operations generated $309.5 million in revenues, or 10.5% of total revenues. We set prices to
reflect the difficulty of the types of repair and the cost and availability of parts. Our focus on service
advisor training in 2005, as well as a number of pricing and cost saving initiatives across the entire
service and parts business lines, led to improvements in same-store service, body and parts sales in
2005 compared to 2004, as well as improvements in gross profit margins achieved.
The service, body and parts businesses provide important repeat revenues to the stores. We market our
parts and service products by notifying the owners of vehicles when their vehicles are due for periodic
service. This encourages preventive maintenance rather than post-breakdown repairs. We offer a lifetime
oil and filter service, which, in 2005, was purchased by 38% of our new and used vehicle buyers. This
service helps us retain customers, and provides opportunities for repeat parts and service business.
Revenues from the service, body and parts departments are particularly important during economic
downturns as owners tend to repair their existing used vehicles rather than buy new vehicles during such
periods. This limits the effects of a drop in new vehicle sales that may occur in a slow economic
environment.
We operate seventeen collision repair centers: four in Texas, three in Oregon and two each in Idaho and
Alaska and one each in Washington, Montana, Colorado, Nevada, South Dakota and Nebraska.
Marketing
We market ourselves as “America’s Car & Truck Store” and as “Driving America.” We use most types of
advertising, including television, newspaper, radio, direct mail, and an Internet web site. Advertising
expense, net of manufacturer credits, was $19.3 million during 2005, with 36% of the total amount used
for print media, 18% for television, 17% for radio, 8% for Internet and 21% for direct mail and other
sources. We advertise to develop our image as a reputable automotive retailer, offering quality service,
affordable automobiles and financing for all buyers. The automobile manufacturers pay for many of our
advertising and marketing expenditures. The manufacturers also provide us with market research, which
In addition, our stores advertise
assists us in developing our own advertising and marketing campaigns.
special discounts or other targeted promotions to attract customers. By owning a cluster of stores in a
particular market, we save money from volume discounts and other media concessions. We also
participate as a member of advertising cooperatives and associations, whose members pool
their
resources and expertise with manufacturers to develop advertising campaigns.
We maintain a web site (www.lithia.com)
that generates leads and provides information for our
customers. We use the Internet site as a marketing tool to familiarize customers with us, our stores and
the products we sell, rather than to complete purchases. Although many customers use the Internet to
research information about new vehicles, nearly all ultimately visit a store to complete the sale and take
delivery of the vehicle. Our web site enables a customer to:
•
•
•
•
•
•
locate our stores and identify the new vehicle brands sold at each store;
view new and used vehicle inventory;
schedule service appointments;
view Kelley Blue Book values;
visit our investor relations site; and
view employment opportunities.
10
We emphasize customer satisfaction and strive to develop a reputation for quality and fairness. We train
our sales personnel to identify an appropriate vehicle for each of our customers at an affordable price.
We believe that our “Driving America” customer-oriented plan differentiates us from other automotive
retail stores.
Management Information System
We consolidate, process and maintain financial information, operational and accounting data, and other
related statistical
information on centralized computers. We have a fully operational intranet with each
store directly connected to headquarters. Our systems are based on an ADP platform for the main
database, and information is processed and analyzed utilizing customized financial reporting software
from Hyperion Solutions. Senior management can access detailed information from all of our locations
regarding:
•
•
•
•
•
•
•
inventory;
cash balances;
total unit sales and mix of new and used vehicle sales;
lease and finance transactions;
sales of ancillary products and services;
key cost items and profit margins; and
the relative performance of the stores.
Each store’s general manager has access to this same information. With this information, we can quickly
analyze the results of operations,
require attention or
improvement. Our management information system also allows our general managers to respond quickly
to changes in consumer preferences and purchasing patterns, maximizing our inventory turnover.
identify trends and focus on areas that
information system is particularly important
Our management
to successfully operating new stores.
Following each acquisition, we immediately install our management information system at each location.
the
This quickly makes financial, accounting and other operational data easily available throughout
company. With this information, we can more efficiently execute our operating strategy at each new store.
Franchise Agreements
Each of our store subsidiaries signs a franchise (or dealer sales and service) agreement with each
manufacturer of the new vehicles it sells.
The typical automobile franchise agreement specifies the locations within a designated market area at
which the store may sell vehicles and related products and perform certain approved services. The
designation of such areas and the allocation of new vehicles among stores are at the discretion of the
manufacturer. Franchise agreements do not guarantee exclusivity within a specified territory, but do have
some protection under state laws.
A franchise agreement may impose requirements on the store with respect to:
•
•
the showroom;
service facilities and equipment;
inventories of vehicles and parts;
•
• minimum working capital;
training of personnel; and
•
performance standards for sales volume and customer satisfaction.
•
11
Each manufacturer closely monitors compliance with these requirements and requires each store to
submit monthly and annual financial statements. Franchise agreements also grant a store the right to use
and display manufacturers’ trademarks, service marks and designs in the manner approved by each
manufacturer.
Most franchise agreements are generally renewed after one to five years, and, in practice, have indefinite
lives. Some franchise agreements,
including those with DaimlerChrysler, have no termination date.
Historically, all of our agreements have been renewed and we expect that manufacturers will continue to
In addition, state franchise laws limit the ability of manufacturers to terminate or
renew them in the future.
fail to renew automotive franchises. Each franchise agreement authorizes at least one person to manage
the store’s operations.
The typical franchise agreement provides for early termination or non-renewal by the manufacturer upon:
•
•
•
a change of management or ownership without manufacturer consent;
insolvency or bankruptcy of the dealer;
death or incapacity of the dealer/manager;
conviction of a dealer/manager or owner of certain crimes;
•
• misrepresentation of certain information by the store, dealer/manager or owner
to the
manufacturer;
failure to adequately operate the store;
failure to maintain any license, permit or authorization required for the conduct of business; or
poor sales performance or low customer satisfaction index scores.
•
•
•
We sign master framework agreements with most manufacturers that impose additional requirements on
our stores. See Item 1A. “Risk Factors” for further details.
Competition
The retail automotive business is highly competitive, consisting of a large number of
independent
operators, many of whom are individuals, families and small retail groups. We compete primarily with
other automotive retailers, both publicly and privately-held, near our store locations. In addition, regional
and national car rental companies operate retail used car lots to dispose of their used rental cars.
Vehicle manufacturers have designated specific marketing and sales areas within which only one dealer
of a vehicle brand may operate.
In addition, our franchise agreements typically limit our ability to acquire
multiple dealerships of a given brand within a particular market area. Certain state franchise laws also
restrict us from relocating our dealerships or establishing new dealerships of a particular brand within any
area that is served by another dealer with the same brand. Accordingly, to the extent that a market has
multiple dealers of a particular brand, as many of our key markets do, we are subject to significant intra-
brand competition.
We are larger and have more financial resources than most private automotive retailers with which we
currently compete in most of our regional markets. We compete directly with retailers like ourselves in our
metropolitan markets like Denver, Colorado, Seattle, Washington and Concord, California. As we enter
other metropolitan markets, we may face competitors that are larger or have access to greater financial
resources. We do not have any cost advantage in purchasing new vehicles from manufacturers. We rely
on advertising and merchandising, sales expertise, service reputation and location of our stores to sell
new vehicles.
In addition to competition for the sale of vehicles, we expect increased competition for the acquisition of
other stores. With respect to each brand of vehicles we market, we have faced only limited competition
with respect to our acquisitions to date, primarily from privately-held automotive retailers. Other publicly-
12
owned automotive retailers with significant capital resources may enter our current and targeted market
areas in the future.
Regulation
Our business is subject to extensive regulation, supervision and licensing under federal, state and local
laws, ordinances and regulations. State and federal regulatory agencies, such as the Department of
Motor Vehicles,
the EEOC (Equal Employment
Opportunity Commission) and the U.S. Environmental Protection Agency, have jurisdiction over the
operation of our stores, service centers, collision repair shops and other operations. They regulate
matters such as consumer protection, employment practices, workers’ safety and air and water quality.
the Occupational Safety and Health Administration,
Laws also protect
manufacturers. Under those laws, a manufacturer may not:
franchised automotive retailers from the unequal bargaining power held by the
•
•
terminate or fail to renew a franchise without good cause; or
prevent any reasonable changes in the capital structure or financing of a store.
Manufacturers may object to a sale of a store or change of management based on character, financial
ability or business experience of the proposed new operator.
Automotive retailers and manufacturers are also subject to laws to protect consumers, including so-called
“Lemon Laws.” Most “Lemon Laws” require a manufacturer to replace a new vehicle or accept it for a full
refund within a set time period after initial purchase if:
•
•
the vehicle does not conform to the manufacturer’s express warranties; and
the automotive retailer or manufacturer, after a reasonable number of attempts, is unable to
correct or repair a defect.
We must provide written disclosures on new vehicles of mileage and pricing information. Financing and
insurance activities are subject to credit reporting, debt collection, truth-in-lending and insurance industry
regulation.
Our business, particularly parts, service and collision repair operations, involves hazardous or toxic
substances or wastes, such as motor oil, waste motor oil and filters, transmission fluid, antifreeze, Freon,
waste paint and lacquer thinner, batteries, solvents, lubricants, degreasing agents, gasoline and diesel
fuels. Federal, state and local authorities establishing health and environmental quality standards regulate
the handling, storage,
treatment, recycling and disposal of hazardous substances and wastes and
remediation of contaminated sites, both at our facilities and at sites to which we send hazardous or toxic
substances or wastes for treatment, recycling or disposal. We are aware of limited contamination at
certain of our current and former facilities, and we are in the process of conducting investigations and/or
remediation at some of these properties. Based on our current information, any costs or liabilities relating
to such contamination, other environmental matters or compliance with environmental regulations are not
expected to have a material adverse effect on our results of operations or financial condition. There can
be no assurances, however, that (i) additional environmental matters will not arise or that new conditions
or facts will not develop in the future at our current or formerly owned or operated facilities, or at sites that
we may acquire in the future, or that (ii) these matters, conditions or facts will not result in a material
adverse effect on our results of operations or financial condition.
Employees
As of December 31, 2005, we employed approximately 5,692 persons on a full-time equivalent basis.
We believe we have good relationships with our employees.
13
Item 1A. Risk Factors
You should carefully consider the risks described below before making an investment decision. The risks
described below are not the only ones facing our company. Additional risks not presently known to us or
that we currently deem immaterial may also impair our business operations.
Our ability to increase revenues through our acquisition growth strategy depends on our ability to
acquire and successfully integrate additional stores.
General. The U.S. automobile industry is considered a mature industry in which minimal growth is
expected in unit sales of new vehicles. Accordingly, a principal component of our growth in sales is to
make additional acquisitions in our existing markets and in new geographic markets. To complete the
acquisitions of additional stores, we need to successfully address each of the following challenges.
on
our
Limitations
acquisition
opportunities. Acquisitions of additional stores will require substantial capital investment. Limitations on
our capital resources would restrict our ability to complete new acquisitions. Further, the use of any
financing source could have the effect of reducing our earnings per share.
from capitalizing
resources may
prevent
capital
on
us
We have financed our past acquisitions from a combination of the cash flow from our operations,
borrowings under our credit arrangements and issuances of our common stock. We expect cash on hand
for our currently anticipated acquisition
together with our other financing resources to be sufficient
program through 2007. If we are unable to obtain financing on acceptable terms, we may be required to
slow the pace of our acquisition plans, which may materially and adversely affect our acquisition growth
strategy.
Generally, we use cash and available credit facilities for acquisitions. However, on occasion, we have
financed acquisitions by issuing shares of our common stock as partial consideration for acquired stores.
The viability of using common stock for acquisitions will depend on our willingness to issue shares, the
market price of our common stock and the willingness of potential acquisition candidates to accept our
common stock as part of the consideration for the sale of their businesses. Accordingly, our ability to
make acquisitions could be adversely affected if the price of our common stock declines or, alternatively,
is perceived as fully valued. If potential acquisition candidates are unwilling to accept our common stock
as partial consideration, we will be forced to rely solely on available cash from operations or debt
financing, which could limit our acquisition and expansion plans.
Manufacturers may restrict our ability to make new acquisitions. We are required to obtain consent from
the applicable manufacturer prior to the acquisition of a franchised store. In determining whether to
financial condition,
approve an acquisition, a manufacturer considers many factors,
ownership structure, the number of stores currently owned and our performance with those stores. Most
major manufacturers have now established limitations or guidelines on the:
including our
•
•
•
•
•
•
number of such manufacturers’ stores that may be acquired by a single owner;
number of stores that may be acquired in any market or region;
percentage of total sales that may be controlled by one automotive retailer group;
ownership of stores in contiguous markets;
frequency of acquisitions; and
requirement that no other manufacturers’ brands be sold from the same store location.
DaimlerChrysler has issued a policy statement to all of its dealers stating that it may disapprove any
acquisition if the buyer would own stores representing more than (i) 10% of any Business Center’s Annual
Planning Potential; (ii) 5% of the Annual Planning Potential of the United States; or (iii) 20% of a Metro
Market’s Annual Planning Potential. While we have reached these limits in certain local markets, there
are many other markets available to us. There are approximately 4,300 Chrysler stores nationwide.
14
General Motors currently evaluates our acquisitions of GM stores on a case-by-case basis. GM, however,
limits the maximum number of GM stores that we may acquire at any time to 50% of the GM stores, by
franchise line, in a GM-defined geographic market area. GM has approximately 7,300 stores nationwide.
Ford currently limits the number of stores that we may own to the greater of (i) 15 Ford and 15 Lincoln
Mercury stores and (ii) that number of Ford and Lincoln Mercury stores accounting for 5% of
the
preceding year’s total Ford, Lincoln and Mercury retail sales in the United States. In addition, Ford limits
us to one Ford store in a Ford-defined market area having two or fewer authorized Ford stores and one-
third of Ford stores in any Ford-defined market area having three or more authorized Ford stores. Ford
has approximately 4,600 franchised stores nationwide.
Toyota restricts the number of stores that we may own and the time frame over which we may acquire
them, and imposes specific performance criteria on existing stores as a condition to any future
acquisitions. In order for us to acquire more than seven stores, we must execute Toyota’s standard Level
Two Multiple Ownership Agreement. Under the Level Two Multiple Ownership Agreement, we may
acquire more than seven stores over a minimum of seven semi-annual periods, up to a maximum number
of stores equal to 5% of Toyota’s aggregate national annual retail sale volume. In addition, Toyota
restricts the number of Toyota stores that we may acquire in any Toyota-defined region and Metro
market, as well as any contiguous market. Toyota has approximately 1,200 stores nationwide.
With respect to other manufacturers, we do not believe existing numerical limitations will materially restrict
our acquisition program for many years.
A manufacturer also considers our past performance as measured by their customer satisfaction index, or
CSI, scores and sales performance at our existing stores. At any point in time, some of our stores may
have CSI scores below the manufacturers’ sales zone averages or have achieved sales performances
below the targets manufacturers have set. Our failure to maintain satisfactory CSI scores and to achieve
sales performance goals could restrict our ability to complete future acquisitions. We currently have, and
at any point in the future may have, manufacturers that restrict our ability to complete future acquisitions.
We may be unable to improve profitability of newly acquired stores. Many of the stores we acquire have
pretax margins below our historical pretax margin. Our ability to improve the profitability of newly acquired
stores depends in large part on our ability at such stores to:
•
•
•
•
•
increase new vehicle sales;
improve sales of higher margin used vehicles and finance and insurance products;
train and motivate store management;
achieve cost savings and realize revenue enhancing opportunities; and
improve inventory, accounts receivable and other controls.
If we fail to maintain or improve the profitability of newly acquired stores, we may be unable to maintain
our historical pretax margin. Further, failure to improve the performance of under-performing stores could
preclude us from receiving manufacturer approval for any new acquisitions of that brand.
Competition with other automotive retailers for attractive acquisition targets could restrict our ability to
complete new acquisitions.
In the current economic environment, we are presented with an increasing
number of attractive acquisition opportunities. However, we compete with several other public and private
resources.
national automotive retailers, some of which have greater
Competition with existing automotive retailers and those formed in the future may result in fewer attractive
acquisition opportunities and increased acquisition costs.
If we cannot negotiate acquisitions on
acceptable terms, our future revenue growth will be significantly limited.
financial and managerial
15
The loss of key personnel or the failure to attract additional qualified management personnel
could adversely affect our operations and growth.
Our success depends to a significant degree on the efforts and abilities of our senior management,
particularly Sidney B. DeBoer, our Chairman and Chief Executive Officer, Bryan B. DeBoer, our President
and Chief Operating Officer, M. L. Dick Heimann, our President of Corporate Affairs, R. Bradford Gray,
Executive Vice President and Don Jones, Jr., our Senior Vice President, Retail Operations. Further, we
have identified Mr. Sidney B. DeBoer, Mr. Heimann and/or Mr. Bryan B. DeBoer in most of our store
franchise agreements as the individuals who control the franchises and upon whose financial resources
and management expertise the manufacturers may rely when awarding or approving the transfer of any
franchise. The loss of any of these individuals could have a material adverse effect on our on-going
relationship with the manufacturers.
We place substantial responsibility on our general managers for the profitability of their stores. We have
increased our number of stores from 5 in 1996 to 93 as of March 6, 2006. Many stores are offered for
sale to us to enable the owner/manager to retire. These potential acquisitions are viable to us only if we
are able to obtain replacement management. This has resulted in the need to hire many additional
managers. As we continue to expand, the need for additional experienced managers will become even
more critical. The market for qualified general managers is highly competitive. The loss of the services of
key management personnel or the inability to attract additional qualified general managers could have a
material adverse effect on our business and the execution of our acquisition growth strategy.
Our stores depend on vehicle sales and, therefore, our success depends in large part upon the
overall demand for the particular lines of vehicles that each of our stores sell and the ability of the
manufacturers to continue to deliver such vehicles.
Our Chrysler, GM, Ford and Toyota stores represent over three-fourths of our total new vehicle retail
sales. Chrysler alone accounts for over a third of those sales. Demand for our primary manufacturers’
vehicles as well as the financial condition, management, marketing, production and distribution
capabilities of these manufacturers can significantly affect our business. Events that adversely affect a
manufacturer’s ability to timely deliver new vehicles, such as labor disputes and other production
disruptions, including delays that sometimes occur during periods of new product introductions, may
adversely affect us by reducing our supply of popular new vehicles and leading to lower sales in our
stores during those periods than would otherwise occur. Further, any event that causes adverse publicity
involving any of our manufacturers or their vehicles could reduce sales of those vehicles and adversely
affect our sales and profits.
Certain manufacturers, including GM and Ford, have incurred substantial operating losses in recent
periods that could jeopardize their ability to develop new competitive models. Moreover, if their financial
condition does not improve, they may be forced to seek protection from creditors in bankruptcy. Any
reorganization might result in an elimination of certain makes or models, a disruption in vehicle deliveries,
a delay in the introduction of new models, the elimination of certain dealership locations or a combination
of these consequences. Without a successful reorganization, continued sustained losses could result in
the cessation of operations. The bankruptcy of one of our major manufacturing partners would likely have
a material adverse affect on our results of operations.
Cyclical downturns in the automobile industry that reduce our vehicle sales may adversely affect
our profitability.
The automobile industry is cyclical and historically has experienced downturns characterized by
oversupply and weak demand. Many factors affect the industry, including general economic conditions,
consumer confidence, personal discretionary spending levels, interest rates and credit availability. We
cannot guarantee that the industry will not experience sustained periods of decline in vehicle sales in the
future. Any such decline could have an adverse effect on our business.
16
The automobile industry also experiences seasonal variations in revenue. Demand for automobiles is
generally lower during the winter months than in other seasons, particularly in our market areas that
experience harsh winters. Accordingly, we expect revenues and operating results generally to be lower in
our first and fourth quarters than in our second and third quarters for existing stores. With respect to our
company, the timing and volume of our acquisitions has had a greater effect on our revenues than
seasonal sales variations.
Hostilities in the Middle East or other factors that significantly increase gasoline prices can be
expected to reduce vehicle sales.
Historically, in times of rapid increase in crude oil and gasoline prices, sales of vehicles have dropped,
particularly in the short term, as consumer confidence wanes and fuel costs become more prominent to
the consumer’s buying decision. In sustained periods of higher fuel costs, consumers who do purchase
vehicles tend to prefer smaller, more fuel efficient vehicles or hybrid powered vehicles currently in limited
supply.
The majority of our new vehicle sales are of domestic manufacture and are predominately SUVs and light
trucks. These vehicles generally provide us with higher gross profit margins. A significant drop in sales
volume in these vehicles would adversely affect our level of profits.
The ability of our stores to make new vehicle sales depends in large part upon the manufacturers
and, therefore, any disruption or change in our relationships with manufacturers may materially
and adversely affect our profitability.
We depend on the manufacturers to provide us with a desirable mix of new vehicles. The most popular
vehicles usually produce the highest profit margins and are frequently in short supply. If we cannot obtain
sufficient quantities of the most popular models, our profitability may be adversely affected. Sales of less
desirable models may reduce our profit margins.
We depend on the manufacturers for sales incentives and other programs that are intended to promote
sales or support our profitability. Manufacturers historically have made many changes to their incentive
programs during each year. A discontinuation or change in manufacturers’
incentive programs could
adversely affect our business. Moreover, some manufacturers use a store’s CSI scores as a factor for
participating in incentive programs. Accordingly, our failure to meet CSI standards at our stores could
have a material adverse effect on us.
Each of our stores operates pursuant to a franchise agreement with each of the respective manufacturers
for which it serves as franchisee. Manufacturers exert significant control over our stores through the terms
and conditions of their franchise agreements, including provisions for termination or non-renewal for a
variety of causes. From time-to-time, certain of our stores have failed to comply with certain provisions of
their
franchise agreements. These agreements and state law, however, generally afford us the
opportunity to cure violations and no manufacturer has terminated or failed to renew any franchise
agreement with us. If a manufacturer terminates or fails to renew one or more of our significant franchise
agreements, such action could have a material adverse effect on us.
Our franchise agreements also specify that, in certain situations, we cannot operate a franchise by
another manufacturer in the same building as the manufacturer’s franchised store. This may require us to
build new facilities at a significant cost. In addition, some manufacturers are in the process of realigning
their stores along defined channels, such as combining Chrysler and Jeep in one location. As a result,
manufacturers may require us to move or sell certain stores. Moreover, our manufacturers generally
require that the store meet defined image standards. All of these commitments could require us to make
significant capital expenditures.
17
in us above a specified level
Some of our franchise agreements prohibit transfers of ownership interests of a store or, in some cases,
its parent. The most prohibitive restriction, which has been imposed by various manufacturers, provides
that, under certain circumstances, we may lose a franchise if a person or entity acquires an ownership
interest
(ranging from 20% to 50% depending on the particular
manufacturer’s restrictions and falling as low as 5% if another vehicle manufacturer is the entity acquiring
the ownership interest) without
the applicable manufacturer. Violations by our
stockholders or prospective stockholders are generally outside of our control and may result in the
termination or non-renewal of one or more of our franchises, which may have a material adverse effect on
us.
the approval of
With the breadth of our operations and volume of transactions, compliance with the many federal
and state consumer protection and motor vehicle laws cannot be assured. Fines and
administration sanctions can be severe.
We are subject to numerous consumer protection and department of motor vehicles laws in each of the
12 states in which we have stores, as well as federal consumer protection laws. With the number of
stores we operate, the number of personnel we employ and the large volume of transactions we handle, it
is likely that technical mistakes will be made. If there are unauthorized activities of serious magnitude, the
state and federal authorities have the power to impose civil monetary penalties and sanctions, suspend or
withdraw dealer licenses or take other actions that could materially impair our activities or our ability to
acquire new stores in those states where violations occurred.
Import product restrictions and foreign trade risks may impair our ability to sell foreign vehicles
profitably.
Certain vehicles we sell, as well as certain major components of vehicles we sell, are manufactured
outside the United States. Accordingly, we are affected by import and export restrictions of various
jurisdictions and are dependent to some extent on general economic conditions in, and political relations
with, a number of foreign countries. Additionally, fluctuations in currency exchange rates may increase
the price and adversely affect our sales of vehicles produced by foreign manufacturers. Imports into the
United States may also be adversely affected by increased transportation costs and tariffs, quotas or
duties, any of which could have a material adverse effect on us.
Environmental, health or safety regulations could have a material adverse effect on our results of
operations or financial condition or cause us to incur significant expenditures.
We are subject to various federal, state and local environmental, health and safety regulations governing,
among other things, the generation, storage, handling, use, treatment, recycling, transportation, disposal
and remediation of hazardous material and the emission and discharge of hazardous material into the
environment. Under certain environmental regulations, we could be held responsible for all of the costs
relating to any contamination at our present or our predecessors’ past facilities and at third party waste
disposal sites. We are aware of contamination at certain of our facilities, and we are in the process of
conducting investigations and/or remediation at some of these properties. In certain cases, the current or
prior property owner is conducting the investigation and/or remediation or we have been indemnified by
either the current or prior property owner for such contamination. There can be no assurances that these
owners will remediate or continue to remediate these properties or pay or continue to pay pursuant to
these indemnities. We are also required to obtain permits from governmental authorities for certain
operations. If we violate or fail to fully comply with these regulations or permits, we could be fined or
otherwise sanctioned by regulators.
Environmental, health and safety regulations are becoming increasingly more stringent. There can be no
assurances that the costs of compliance with these regulations will not result in a material adverse effect
on our results of operations or financial condition or that additional environmental, health or safety matters
will not arise or new conditions or facts will not develop in the future at our currently or formerly owned or
18
operated facilities, or at sites that we may acquire in the future, which will require us to incur significant
expenditures.
The sole voting control of our company is held by Sidney B. DeBoer who may have interests
different from your interests.
Lithia Holding Company, LLC, of which Sidney B. DeBoer, our Chairman and Chief Executive Officer, is
the sole managing member, holds all of the outstanding shares of our Class B common stock. A holder of
Class B common stock is entitled to ten votes for each share held, while a holder of Class A common
stock is entitled to one vote per share held. On most matters, the Class A and Class B common stock
vote together as a single class. As of March 6, 2006, Lithia Holding controlled approximately 71% of the
aggregate number of votes eligible to be cast by stockholders for the election of directors and most other
stockholder actions. Therefore, Lithia Holding will control the election of our Board of Directors and will be
in a position to control the policies and operations of the company. In addition, because Mr. DeBoer is the
managing member of Lithia Holding, he currently controls and will continue to control, all of
the
outstanding Class B common stock, thereby allowing him to control the company. So long as at least 16
2/3% of the total number of shares outstanding are shares of Class B common stock, the holders of
Class B common stock will be able to control all matters requiring approval of 66 2/3% or less of the
aggregate number of votes. Absent a significant increase in the number of shares of Class A common
stock outstanding or conversion of Class B common stock into Class A common stock, the holders of
shares of Class B common stock will be entitled to elect all members of the Board of Directors and control
all matters subject to stockholder approval that do not require a class vote.
Item 1B. Unresolved Staff Comments
None.
Item 2. Properties
Our stores and other facilities consist primarily of automobile showrooms, display lots, service facilities,
seventeen collision repair and paint shops, supply facilities, automobile storage lots, parking lots and
offices. We believe our facilities are currently adequate for our needs and are in good repair. We own
some of our properties, but also lease many properties, providing future flexibility to relocate our retail
stores as demographics change. Most leases give us the option to renew the lease for one or more lease
extension periods. We also hold some undeveloped land for future expansion.
Item 3. Legal Proceedings
We are party to numerous legal proceedings arising in the normal course of our business. While we
cannot predict with certainty the outcomes of these matters, we do not anticipate that the resolution of
these proceedings will have a material adverse effect on our business, results of operations, financial
condition, or cash flows.
On November 25, 2003, Aimee Phillips filed a lawsuit in the U.S. District Court for the District of Oregon
(Case No. 03-3109-HO) against Lithia Motors, Inc. and two of its wholly-owned subsidiaries alleging
violations of state and federal RICO laws, the Oregon Unfair Trade Practices Act (“UTPA”) and common
law fraud. Ms. Phillips seeks damages, attorney’s fees and injunctive relief. Ms. Phillips’ complaint stems
from her purchase of a Toyota Tacoma pick-up truck on July 6, 2002. On May 14, 2004, we filed an
answer to Ms. Phillips’ Complaint. This case was consolidated with the Allen case described below and
has a similar current procedural status.
On April 28, 2004, Robert Allen and 29 other plaintiffs (“Allen Plaintiffs”) filed a lawsuit in the U.S. District
Court for the District of Oregon (Case No. 04-3032-HO) against Lithia Motors, Inc. and three of its wholly-
owned subsidiaries alleging violations of state and federal RICO laws, the Oregon UTPA and common
19
law fraud. The Allen Plaintiffs seek damages, attorney’s fees and injunctive relief. The Allen Plaintiffs’
Complaint stems from vehicle purchases made at Lithia dealerships between July 2000 and April 2001.
On August 27, 2004, we filed a Motion to Dismiss the Complaint. On May 26, 2005, the Court entered an
Order granting Defendants’ Motion to Dismiss plaintiffs’ state and federal RICO claims with prejudice.
The Court declined to exercise supplemental jurisdiction over plaintiffs’ UTPA and fraud claims. Plaintiffs
filed a Motion to Reconsider the dismissal Order. On August 23, 2005, the Court granted Plaintiffs’ Motion
for Reconsideration and permitted the filing of a Second Amended Complaint (“SAC”). On September 21,
2005, the Allen Plaintiffs, along with Ms. Phillips, filed the SAC.
In this complaint, the Allen plaintiffs seek
less than $500,000, trebled, approximately $3.0 million in mental distress
actual damages that total
claims, trebled, punitive damages of $15.0 million, attorney’s fees and injunctive relief. The SAC added as
defendants certain officers and employees of Lithia.
In addition, the SAC added a claim for relief based
on the Truth in Lending Act (“TILA”). On November 14th, 2005 we filed a second Motion to Dismiss the
Complaint and a Motion to Compel Arbitration and are now awaiting the Court’s ruling.
On September 23, 2005, Maria Anabel Aripe and 19 other plaintiffs (“Aripe Plaintiffs”) filed a lawsuit in the
U.S. District Court for the District of Oregon (Case No. 05-3083-HO) against Lithia Motors, Inc., 12 of its
wholly-owned subsidiaries and certain officers and employees of the Company, alleging violations of state
and federal RICO laws, the Oregon UTPA, common law fraud and TILA. The Aripe Plaintiffs seek actual
damages of less than $600,000, trebled, approximately $3.7 million in mental distress claims, trebled,
punitive damages of $12.6 million, attorney’s fees and injunctive relief. The Aripe Plaintiffs’ Complaint
stems from vehicle purchases made at Lithia dealerships between May 2001 and August 2005 and is
substantially similar to the allegations made in the Allen case.
We intend to vigorously defend all of the above matters and management believes that the likelihood of a
judgment for the amount of damages sought in any of the cases is remote.
Item 4. Submission of Matters to a Vote of Security Holders
No matters were submitted to a vote of our shareholders during the quarter ended December 31, 2005.
PART II
Item 5. Market
for Registrant’s Common Equity, Related Stockholder Matters and Issuer
Purchases of Equity Securities
Our Class A common stock trades on the New York Stock Exchange under the symbol LAD. The following
table presents the high and low sale prices for our Class A common stock, as reported on the New York
Stock Exchange Composite Tape for each of the quarters in 2004 and 2005:
2004
Quarter 1
Quarter 2
Quarter 3
Quarter 4
2005
Quarter 1
Quarter 2
Quarter 3
Quarter 4
$
$
High
30.79
28.86
24.93
26.95
29.95
29.25
31.43
32.04
$
$
Low
24.60
23.29
20.55
20.04
24.99
23.60
28.29
25.10
The number of shareholders of record and approximate number of beneficial holders of Class A common
stock at March 1, 2006 was 1,444 and 3,400, respectively. All shares of Lithia’s Class B common stock
are held by Lithia Holding Company LLC.
20
Dividends declared and paid during 2004 and 2005 were as follows:
Quarter related to:
2003
Fourth quarter
2004
First quarter
Second quarter
Third quarter
Fourth quarter
2005
First quarter
Second quarter
Third quarter
Dividend
amount per
share
Total amount of
dividend (in
thousands)
$0.07
$1,304
0.07
0.08
0.08
0.08
0.08
0.12
0.12
1,312
1,505
1,512
1,528
1,536
2,312
2,322
We currently intend to continue paying quarterly dividends similar to those paid in the second half of
2005. In February 2006, the Board of Directors approved a quarterly dividend of $0.12 per share with
respect to the fourth quarter of 2005. The payment of any dividends is subject to the discretion of our
Board of Directors. Pursuant to our $150 million credit agreement with DaimlerChrysler Services North
America LLC and Toyota Motor Credit Corporation, total dividends and repurchases of our common stock
cannot exceed $25.0 million over the term of the agreement. To date, over the term of the agreement, we
have paid dividends and repurchased stock totaling $18.7 million. This credit agreement expires May 1,
2008.
We repurchased the following shares of our Class A common stock during the fourth quarter of 2005:
October 1 to October 31
November 1 to November 30
December 1 to December 31
Total
Total number
of shares
purchased
-
-
14,826(1)
14,826
Average
price paid
per share
-
-
$28.89
$28.89
Total number of
shares purchased
as part of publicly
announced plan
-
-
-
60,231
Maximum number
of shares that may
yet be purchased
under the plan
939,769
-
-
939,769
(1) These shares were purchased pursuant to the terms of our stock incentive plans, which allow for the exercise price of stock
options to be paid with the fair market value of shares of our Class A common stock held by the optionee. Accordingly, these
shares were not considered to be purchased as part of the publicly announced plan.
The publicly announced plan to repurchase up to a total of 1.0 million shares of our Class A common
stock was approved by our Board of Directors in June 2000 and renewed in August 2005 and does not
have an expiration date.
Information regarding securities authorized for issuance under equity compensation plans is included in
Item 12.
21
Item 6. Selected Financial Data
You should read the Selected Financial Data in conjunction with Item 7. “Management’s Discussion and
Analysis of Financial Condition and Results of Operations,” our Consolidated Financial Statements and
Notes thereto and other financial information contained elsewhere in this Annual Report on Form 10-K.
(In thousands, except per share amounts)
Consolidated Statement of Operations Data:
2005
Year Ended December 31,
2003
2004
2002
2001
Revenues:
New vehicle
Used vehicle
Finance and insurance
Service, body and parts
Fleet and other
Total revenues
Cost of sales
Gross profit
Selling, general and administrative
Depreciation and amortization(1)
Income from operations
Floorplan interest expense
Other interest expense
Other income, net
Income from continuing operations before
income taxes
Income taxes
Income from continuing operations
Income (loss) from discontinued operations,
net of tax
Net income
Basic income per share from continuing
operations
Basic income (loss) per share from discontinued
operations
Basic net income per share
Shares used in basic per share
Diluted income per share from continuing
operations
Diluted income (loss) per share from
discontinued operations
Diluted net income per share
Shares used in diluted per share
(In thousands)
Consolidated Balance Sheet Data:
Working capital
Inventories
Total assets
Flooring notes payable
Current maturities of long-term debt
Long-term debt, less current maturities
Total stockholders’ equity
Cash dividends declared per common share
$
$
$
$
$
$
$ 1,676,607
816,963
109,408
309,494
22,947
2,935,419
2,430,977
504,442
370,991
14,234
119,217
(22,614)
(12,030)
1,178
$ 1,541,102
736,694
96,990
280,894
7,680
2,663,360
2,214,995
448,365
339,519
12,750
96,096
(16,243)
(8,873)
919
85,751
(33,958)
51,793
(1,993)
49,800
2.70
(0.10)
2.60
19,175
$
$
$
71,899
(27,825)
44,074
(1,403)
42,671
2.35
(0.08)
2.27
18,773
$
$
$
$
1,407,874
717,474
85,845
244,858
6,539
2,462,590
2,067,600
394,990
307,344
9,475
78,171
(13,715)
(6,055)
1,095
$ 1,218,364
716,061
75,163
215,600
44,247
2,269,435
1,912,370
357,065
281,476
7,192
68,397
(10,775)
(5,985)
1,204
59,496
(23,679)
35,817
(270)
35,547
1.96
(0.02)
1.94
18,289
$
$
$
52,841
(20,480)
32,361
(45)
32,316
1.88
0.00
1.88
17,233
$
$
$
$
926,981
564,352
59,302
172,626
43,003
1,766,264
1,477,492
288,772
225,389
8,690
54,693
(13,652)
(7,546)
883
34,378
(13,270)
21,108
646
21,754
1.58
0.05
1.63
13,371
2.46
$
2.19
$
1.93
$
1.84
$
1.55
$
$
(0.09)
2.37
21,807
2005
155,848
606,047
1,452,714
530,452
6,868
290,551
459,633
0.44
(0.06)
2.13
20,647
$
(0.01)
1.92
18,546
$
0.00
1.84
17,598
As of December 31,
2003
2004
$
126,177
536,510
1,256,883
450,860
6,565
267,310
405,946
0.31
$
160,066
445,145
1,102,782
435,229
14,299
178,467
358,926
0.21
2002
126,308
445,743
942,049
427,635
4,466
104,712
319,993
-
$
$
0.05
1.60
13,612
2001
104,834
275,285
662,944
280,947
10,203
95,830
203,497
-
(1) Depreciation and amortization expense in 2001 includes $3.7 million of goodwill amortization, compared to none
in the other years.
22
Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations
You should read the following discussion in conjunction with Item 1. “Business,” Item 1A. “Risk Factors” and
our Consolidated Financial Statements and Notes thereto.
Overview
Our acquisition model is focused on acquiring average performing new vehicle franchised stores and then
integrating and improving them. Our goal is to maximize the operations of all four departments of every
store we acquire. We have had success with this strategy since our initial public offering in late 1996.
While our strategy has not changed over the last nine years, our ability to integrate and improve the
stores that we acquire has increased dramatically. We have also developed a better process for
identifying acquisition targets that fit our operating model. Our cash position, substantial lines of credit,
plus an experienced and well-trained staff are all available to facilitate our continued growth as the
opportunities develop.
In keeping with this model, we acquired a total of eight stores and twenty-four additional franchises from
January 1, 2005 through March 6, 2006 with total estimated annual revenues of nearly $356 million.
Historically, new vehicle sales have accounted for over half of our total revenues but less than one-third
of total gross profit. We use a volume-based strategy for new vehicle sales called “Promo Pricing,” that
complements the goal of most auto manufacturers, which have continued to offer a high level of cash or
other incentives to automotive customers.
For 2006, we expect that manufacturers will continue to offer incentives on new vehicle sales through a
combination of repricing strategies, rebates, early lease cancellation programs and low interest rate loans
to consumers.
In 2006, we will be introducing a new initiative under which all sales personnel will have interactive
personal computers, which will allow the salesperson to quickly and efficiently enter data and interact with
the customer to speed up the sales process. Vehicle and customer information will
immediately be
downloaded onto the appropriate forms necessary to complete the sales process, eliminating, over time,
the need for paperwork to be done by hand. The goal of this initiative is to create a simplified and more
efficient process for both the salesperson and the customer, speeding up the sales process and
improving the customer’s experience. This initiative will be used for both new and used vehicle sales.
Since the beginning of 2002,
the used vehicle market has been negatively impacted by strong
competition from the new vehicle market, which has benefited from heavy manufacturer incentives in the
form of cash rebates, discounted pricing and low interest financing. In the first quarter of 2005, the used
vehicle market showed positive signs as a result of constrained industry supply, which led to
improvements in retail pricing and margins.
In the second and third quarters of 2005, we experienced an
increase in trade-ins of quality used vehicles in connection with the domestic manufacturers “employee
pricing” programs. We received these trade-ins at good valuations and, in the fourth quarter of 2005, we
had a strong used vehicle cycle as we sold much of what we brought into inventory in the previous
quarters. We have implemented new procedures in the used vehicle business, which have also
demonstrated positive results for our used vehicle business:
• We conduct our own local used vehicle auctions in select markets and manage the disposal of
used vehicles at larger auctions. The process is centralized and controlled at the management
level.
• We utilize a “Used Vehicle Promo Pricing” strategy, which markets vehicles with a $99 down
payment and then groups vehicles by payment
level. Vehicles are marked with clear and
understandable pricing, which reduces haggling and speeds up the sale process. This strategy
clearly addresses the three biggest issues of price, down payment and monthly payment for our
customers and our sales personnel.
23
In addition, as a complement to our ongoing used vehicle operation at each store, we use specialists in
our support services group to increase the acquisition of used vehicles. We believe that this will help
bolster sales volumes in the 3 to 7 year old vehicle market.
Results of Continuing Operations
Certain revenue, gross profit margin and gross profit information by product line was as follows for 2005,
2004 and 2003:
Gross
Profit
Margin
7.9%
13.4
100.0
48.7
6.4
Gross
Profit
Margin
7.9%
12.7
100.0
48.3
15.9
Gross
Profit
Margin
7.7%
11.6
100.0
47.3
34.4
Percent of Total
Gross Profit
26.4%
21.7
21.7
29.9
0.3
Percent of Total
Gross Profit
27.0%
20.9
21.6
30.2
0.3
Percent of Total
Gross Profit
27.3%
21.1
21.7
29.3
0.6
2005
New vehicle...............................................................................................
Used vehicle(1)...........................................................................................
Finance and insurance(2) ..........................................................................
Service, body and parts............................................................................
Fleet and other…………………………………………………………….
Percent of
Total Revenues
57.1%
27.9
3.7
10.5
0.8
Percent of
Total Revenues
57.9%
27.7
3.6
10.5
0.3
57.2%
29.1
3.5
9.9
0.3
Percent of
Total Revenues
2004
New vehicle...............................................................................................
Used vehicle(1)...........................................................................................
Finance and insurance(2) ..........................................................................
Service, body and parts............................................................................
Fleet and other…………………………………………………………….
2003
New vehicle...............................................................................................
Used vehicle(1)...........................................................................................
Finance and insurance(2) ..........................................................................
Service, body and parts............................................................................
Fleet and other…………………………………………………………….
Includes retail and wholesale used vehicles.
(1)
(2) Reported net of anticipated cancellations.
24
The following table sets forth selected condensed financial data expressed as a percentage of total
revenues for the periods indicated below.
Lithia Motors, Inc. (1)
Revenues:
New vehicle
Used vehicle
Finance and insurance
Service, body and parts
Fleet and other
Total revenues
Gross profit
Selling, general and administrative expenses
Depreciation and amortization
Income from continuing operations
Floorplan interest expense
Other interest expense
Other income, net
Income from continuing operations before taxes
Income tax expense
Income from continuing operations
(1) The percentages may not add due to rounding.
Year Ended December 31,
2004
2005
2003
57.1%
27.9
3.7
10.5
0.8
100.0%
17.2
12.6
0.5
4.1
0.8
0.4
0.0
2.9
1.2
1.8%
57.9%
27.7
3.6
10.5
0.3
100.0%
16.8
12.7
0.5
3.6
0.6
0.3
0.0
2.7
1.0
1.7%
57.2%
29.1
3.5
9.9
0.3
100.0%
16.0
12.5
0.4
3.2
0.6
0.2
0.0
2.4
1.0
1.5%
The following tables set forth the changes in our operating results from continuing operations in 2005
compared to 2004 and in 2004 compared to 2003:
(In Thousands)
Revenues:
New vehicle
Used vehicle
Finance and insurance
Service, body and parts
Fleet and other
Total revenues
Cost of sales:
New vehicle
Used vehicle
Service, body and parts
Fleet and other
Total cost of sales
Gross profit
Selling, general and administrative
Depreciation and amortization
Income from operations
Floorplan interest expense
Other interest expense
Other expense, net
Income from continuing operations before
income taxes
Income tax expense
Income from continuing operations
Year Ended
December 31,
2005
2004
Increase
(Decrease)
$
$
$
1,676,607
816,963
109,408
309,494
22,947
2,935,419
1,543,620
707,096
158,793
21,468
2,430,977
504,442
370,991
14,234
119,217
(22,614)
(12,030)
1,178
1,541,102
736,694
96,990
280,894
7,680
2,663,360
1,419,887
643,298
145,349
6,461
2,214,995
448,365
339,519
12,750
96,096
(16,243)
(8,873)
919
85,751
(33,958)
51,793
$
71,899
(27,825)
44,074
$
$
135,505
80,269
12,418
28,600
15,267
272,059
123,733
63,798
13,444
15,007
215,982
56,077
31,472
1,484
23,121
6,371
3,157
259
13,852
6,133
7,719
%
Increase
(Decrease)
8.8%
10.9
12.8
10.2
198.8
10.2
8.7
9.9
9.2
232.3
9.8
12.5
9.3
11.6
24.1
39.2
35.6
28.2
19.3
22.0
17.5%
25
New units sold
Average selling price per new vehicle
Used units sold
Average selling price per used vehicle
Finance and insurance sales per retail unit
(In Thousands)
Revenues:
New vehicle
Used vehicle
Finance and insurance
Service, body and parts
Fleet and other
Total revenues
Cost of sales:
New vehicle
Used vehicle
Service, body and parts
Fleet and other
Total cost of sales
Gross profit
Selling, general and administrative
Depreciation and amortization
Income from operations
Floorplan interest expense
Other interest expense
Other expense, net
Income from continuing operations before
income taxes
Income tax expense
Income from continuing operations
New units sold
Average selling price per new vehicle
Used units sold
Average selling price per used vehicle
Finance and insurance sales per retail unit
$
$
$
$
$
$
$
$
Year Ended
December 31,
2005
2004
59,956
27,964
67,455
12,111
1,059
$
$
$
54,839
28,102
63,172
11,662
1,014
Year Ended
December 31,
2004
2003
$
1,541,102
736,694
96,990
280,894
7,680
2,663,360
1,419,887
643,298
145,349
6,461
2,214,995
448,365
339,519
12,750
96,096
(16,243)
(8,873)
919
1,407,874
717,474
85,845
244,858
6,539
2,462,590
1,299,850
634,525
128,935
4,290
2,067,600
394,990
307,344
9,475
78,171
(13,715)
(6,055)
1,095
71,899
(27,825)
44,074
$
59,496
(23,679)
35,817
Year Ended
December 31,
2004
2003
54,839
28,102
63,172
11,662
1,014
$
$
$
52,605
26,763
66,537
10,783
918
$
$
$
$
$
$
$
$
Increase
(Decrease)
5,117
(138)
4,283
449
45
%
Increase
(Decrease)
9.3%
(0.5)%
6.8%
3.9%
4.4%
Increase
(Decrease)
%
Increase
(Decrease)
133,228
19,220
11,145
36,036
1,141
200,770
120,037
8,773
16,414
2,171
147,395
53,375
32,175
3,275
17,925
2,528
2,818
(176)
12,403
4,146
8,257
9.5%
2.7
13.0
14.7
17.4
8.2
9.2
1.4
12.7
50.6
7.1
13.5
10.5
34.6
22.9
18.4
46.5
(16.1)
20.8
17.5
23.1%
Increase
(Decrease)
2,234
1,339
(3,365)
879
96
%
Increase
(Decrease)
4.2%
5.0%
(5.1)%
8.2%
10.5%
26
Revenues
Total revenues increased 10.2% and 8.2%, respectively,
compared to 2003.
in 2005 compared to 2004 and in 2004
The increase in 2005 compared to 2004 was primarily a result of acquisitions and a 1.8% increase in
same-store sales, which was driven by an increase in units sold. The increase in same store sales was
driven by same-store sales increases across all business lines. The “employee pricing” programs offered
by the domestic manufacturers during the second and third quarters of 2005, as well as a mix shift away
from trucks and SUVs, resulted in a decrease in average selling prices which led to increases in new
units sold, the combination of which resulted in higher same-store new vehicle sales. The same programs
also contributed to improvements in same-store used vehicle sales due to the large number of good
quality used vehicle trade-ins associated with the high volume of new vehicle purchases.
The increase in 2004 compared to 2003 was primarily a result of acquisitions, as well as increases in the
average new and used vehicle sales prices in 2004 compared to 2003. The 2004 increase was offset in
part by a same-store sales decline of 2.4%. Our new vehicle same store sales were down in 2004
compared to 2003 because of a slower sales environment in our markets and a difficult comparison from
the prior year, which experienced a 6.2% increase. Used vehicle same store sales were negatively
affected in 2004 compared to 2003 due to continued manufacturer incentives on new vehicles which led
to continued weakness in the used vehicle market.
Same-store sales percentage increases (decreases) were as follows:
2005 compared to 2004
New vehicle retail, excluding fleet
Used vehicle, including wholesale
Total vehicle sales, excluding fleet
Finance and insurance
Service, body and parts
Total sales, excluding fleet
0.8%
3.8
1.8
1.4
2.5
1.8
2004 compared to 2003
(1.9)%
(5.8)
(3.2)
2.0
3.3
(2.4)
Same-store sales are calculated by dealership comparing only those months that contain full-month
operating data.
Penetration rates for certain products were as follows:
Finance and insurance
Service contracts
Lifetime oil change and filter
2005
76%
43
38
2004
77%
43
36
2003
75%
41
34
The decrease in the finance and insurance penetration rate in 2005 compared to 2004 was due to reduced
availability of manufacturer subsidized low-interest rate loans during the second and third quarters of 2005
when the manufacturers offered their employee pricing programs.
The improvements in same-store service, body and parts revenue in both 2005 compared to 2004 and in
2004 compared to 2003 were a result of our continued focus on service-advisor training and our Lifetime
Oil Program. In addition, pricing and cost saving initiatives across the service, body and parts business
lines contributed to the improvement in 2005 compared to 2004.
Fleet and other sales include both fleet sales and fees received for delivering vehicles on behalf of the
manufacturer, the U.S. military, rent-a-car companies or leasing companies.
Gross Profit
Gross profit increased $56.1 million in 2005 compared to 2004 and increased $53.4 million in 2004
compared to 2003 due primarily to increased total revenues, as well as increases in our overall gross
profit margin.
27
Gross profit margins achieved were as follows:
New vehicle....................................................................
Retail used vehicle.........................................................
Wholesale used vehicles ...............................................
Finance and insurance ..................................................
Service, body and parts.................................................
Overall ...........................................................................
Year Ended December 31,
2004
2005
7.9%
7.9%
Lithia
Margin Change*
0bp
15.7
2.7
100.0
48.7
17.2
14.5
3.1
100.0
48.3
16.8
120
(40)
0
40
40
Year Ended December 31,
2003
2004
Lithia
Margin Change*
New vehicle....................................................................
Retail used vehicle.........................................................
Wholesale used vehicles ...............................................
Finance and insurance ..................................................
Service, body and parts.................................................
Overall ...........................................................................
7.9%
14.5
3.1
100.0
48.3
16.8
7.7%
14.0
(0.2)
100.0
47.3
16.0
20bp
50
330
0
100
80
* “bp” stands for basis points (one hundred basis points equals one percent).
In the new vehicle business, margins remained constant in 2005 compared to 2004 and improved in 2004
compared to 2003 as a result of strategic initiatives and internal directives in 2004 and early 2005 that
increased gross profit per vehicle sold. These margin raising initiatives were partially offset in 2005 by
manufacturers’ “employee pricing” programs, which created a higher volume, lower margin environment
during the second and third quarters of 2005. This compares to a higher volume, lower margin strategy
that was in place in 2003.
Retail used vehicle margins improved in 2005 compared to 2004 as a result of a stronger pricing and
retail environment for used vehicles in combination with a large quantity of good quality used vehicle
trade-ins in recent quarters. In 2004, we were able to improve the margins on our used vehicle sales
compared to 2003 primarily because of the strategies discussed earlier regarding the auctioning of
undesired used vehicles and our “Used Vehicle Promo Pricing” for our retail sales.
Margins in our wholesale used vehicle business declined in 2005 compared to 2004, as a result of
aggressive wholesaling in the third and fourth quarters of 2005 designed to clear inventories going into
the seasonally slower winter months. Gross profits per unit remained positive. We continue to hold our
own local used vehicle auctions and manage the disposal of our units at larger auctions, which has
contributed to improvements in gross profit per vehicle, partially offsetting the declines due to the
aggressive wholesaling.
The service, body and parts business has benefited from our focus on service advisor training, which has
led to gains in the sale of higher margin service items in 2005 compared to 2004 and in 2004 compared
to 2003. In addition, we also instituted a number of pricing and cost saving initiatives across the entire
service, body and parts business. Higher penetration rates for our lifetime oil change and filter service
have also contributed to our gross profit margin increase in 2005.
The increase in the overall gross profit margin in 2004 compared to 2003 was also affected by the
increase in our high-margin service and parts revenue as a percentage of total revenue.
The increase in same store revenues in 2005 compared to 2004 and the improved gross profit margins in
2005 compared to 2004, as well as in 2004 compared to 2003, led to increases in total same-store gross
profit of 3.1% and 2.4%, respectively, in 2005 compared to 2004 and in 2004 compared to 2003.
Selling, General and Administrative Expense
Selling, general and administrative expense (“SG&A”) includes salaries and related personnel expenses,
facility lease expense, advertising (net of manufacturer cooperative advertising credits), legal, accounting,
professional services and general corporate expenses. Selling, general and administrative expense
28
increased $31.5 million in 2005 compared to 2004 and increased $32.2 million in 2004 compared to 2003.
SG&A as a percentage of revenue improved by 10 basis points in 2005 compared to 2004 and decreased
by 20 basis points in 2004 compared to 2003.
The increases in dollars spent in 2005 compared to 2004 and in 2004 compared to 2003 were due to
increased selling, or variable, expenses related to the increases in acquisition revenues and the number
of locations. In addition, the 2004 increase also related to increased costs for compliance with the
Sarbanes-Oxley Act of 2002. More importantly, however, SG&A as a percentage of gross profit is an
industry standard and a better gauge for measuring performance relative to SG&A expense. SG&A as a
percentage of gross profit improved by 220 basis points and 210 basis points, respectively, in 2005
compared to 2004 and in 2004 compared to 2003 as we continue to realize the positive results of multiple
cost saving initiatives at our corporate headquarters and in the stores.
Depreciation and Amortization
Depreciation and amortization increased $1.5 million and $3.3 million, respectively, in 2005 compared to
2004 and in 2004 compared to 2003 due to the addition of property and equipment primarily related to our
acquisitions, as well as leasehold improvements to existing facilities.
Income from Operations
Operating margins in 2005 improved by 50 basis points to 4.1% compared to 3.6% in 2004 and by 40
basis points in 2004 from 3.2% in 2003. The increases were primarily because of improved overall gross
profit margins as discussed above. In addition, in 2005, operating expenses as a percentage of revenue
improved by 10 basis points compared to 2004. In 2004 compared to 2003, however, the improvement in
gross profit margins was partially offset by a 20 basis point
increase in operating expenses as a
percentage of revenue.
Floorplan Interest Expense
Floorplan interest expense increased $6.4 million in 2005 compared to 2004. Increases in the average
interest rates on our floorplan facilities resulted in increases to floorplan interest expense of $8.3 million.
In addition, our average outstanding balance on these facilities increased $49.6 million, which contributed
increase. These increases were partially offset by a $3.3 million decrease
$1.4 million to the overall
related to our interest rate swaps.
The $2.5 million increase in floorplan interest expense in 2004 compared to 2003 resulted primarily from
a $49.2 million increase in the average outstanding balances of our floorplan facilities, mainly due to
acquisitions, and an increase of $473,000 resulting from our interest rate swaps. In addition, an increase
in the average interest rates charged on our floorplan facilities increased floorplan interest expense by
$661,000.
Other Interest Expense
Other interest expense includes interest on our convertible notes, debt incurred related to acquisitions,
real estate mortgages, our used vehicle line of credit and equipment related notes.
Other interest expense increased $3.2 million in 2005 compared to 2004. Changes in the weighted
average interest rate on our debt in 2005 compared to 2004 increased other interest expense by
approximately $1.4 million and changes in the average outstanding balances resulted in an increase of
approximately $1.8 million. Interest expense related to the $85.0 million of convertible notes that were
issued in May 2004 totals approximately $764,000 per quarter, which consists of $611,000 of contractual
interest and $153,000 of amortization of debt issuance costs.
Other interest expense increased $2.8 million in 2004 compared to 2003. Changes in the weighted
average interest rate on our debt in 2004 compared to 2003 increased other interest expense by
approximately $550,000 and changes in the average outstanding balances resulted in an increase of
approximately $2.2 million.
29
For all debt, including floorplan notes payable, our average interest rate in 2005 increased at only about
half the pace of market interest rates due to our interest rate hedging strategies.
Income Tax Expense
Our effective tax rate was 39.6% in 2005 compared to 38.7% in 2004 and 39.8% in 2003. Our effective
tax rate may be affected in the future by the mix of asset acquisitions compared to corporate acquisitions,
as well as by the mix of states where our stores are located. The increase in our effective tax rate in 2005
compared to 2004 was due primarily to an increase in revenue in some of our higher tax rate states.
Income from Continuing Operations
Income from continuing operations as a percentage of revenue increased in 2005 compared to 2004 as a
result of improvements in gross profit margins and operating expenses as discussed above.
Income from continuing operations as a percentage of revenue increased in 2004 compared to 2003 as a
result of improvements in gross profit margins that were partially offset by increased operating expenses
and interest expense as discussed above.
Discontinued Operations
We continually monitor the performance of each of our dealerships and make determinations to sell
based primarily on return on capital criteria. Once a determination to dispose of a dealership is made, the
results of operations are reclassified into discontinued operations. All dealerships included in discontinued
operations have been, or will be, eliminated from our on-going operations upon completion of the sale.
During 2005, we sold a building we had held for sale at December 31, 2004, sold one dealership and
classified two additional dealerships as discontinued operations, which are held for sale at December 31,
2005. During 2004, we disposed of the franchises included with a dealership we had held for sale at
December 31, 2003. During 2003, we sold one of our dealerships classified as discontinued operations.
We expect that the dealerships held for sale at December 31, 2005 will be sold during 2006.
Certain financial information related to discontinued operations was as follows (in thousands):
Year Ended December 31,
Revenue
Pre-tax income (loss)
Gain (loss) on disposal of discontinued operations, net of tax
Amount of goodwill and other intangible assets disposed of
$
2005
45,881
(3,328)
28
4,406
$
$
2004
116,411
(2,591)
302
1,629
2003
143,584
(1,068)
620
1,712
Interest expense is allocated to stores classified as discontinued operations for actual flooring interest
expense directly related to the new vehicles in the store. Interest expense related to the used vehicle line
of credit is allocated based on total used vehicle inventory of the store, and interest expense related to
the equipment line of credit is allocated based on the amount of fixed assets.
Assets held for sale included the following (in thousands):
December 31,
Inventories
Property, plant and equipment
Goodwill
Other intangible assets
2005
22,703
817
2,368
1,523
27,411
$
$
$
$
2004
-
135
-
-
135
Liabilities held for sale of $22.4 million at December 31, 2005 represented new vehicle flooring notes
payable related to the two dealerships held for sale.
30
Selected Consolidated Quarterly Financial Data
The following tables set forth our unaudited quarterly financial data(1).
2005
Revenues:
Three Months Ended,
March 31
June 30
September 30
December 31
(in thousands, except per share data )
New vehicle............................................................................
Used vehicle ..........................................................................
Finance and insurance………………………………….....
Service, body and parts.........................................................
Fleet and other.......................................................................
Total revenues ....................................................................
Cost of sales ............................................................................
Gross profit...............................................................................
Selling, general and administrative .........................................
Depreciation and amortization ................................................
Income from operations ...........................................................
Floorplan interest expense ......................................................
Other interest expense ............................................................
Other, net .................................................................................
Income from continuing operations before income taxes ......
Income taxes............................................................................
Income before discontinued operations ..................................
Discontinued operations, net of tax.........................................
Net income ...............................................................................
Basic income per share from continuing operations ..............
Basic loss per share from discontinued operations................
Basic net income per share.....................................................
Diluted income per share from continuing operations ............
Diluted loss per share from discontinued operations .............
Diluted net income per share ..................................................
$359,619
197,322
24,616
74,265
3,104
658,926
541,694
117,232
89,132
3,388
24,712
(5,102)
(2,805)
285
17,090
(6,614)
10,476
(486)
$ 9,990
$
$
$
$
0.55
(0.03)
0.52
0.50
(0.02)
0.48
$438,375
200,769
27,204
75,417
9,064
750,829
623,584
127,245
93,323
3,406
30,516
(6,000)
(3,036)
247
21,727
(8,622)
13,105
(430)
$ 12,675
$
$
$
$
0.68
(0.02)
0.66
0.62
(0.02)
0.60
$510,541
226,518
32,462
80,786
8,548
858,855
717,591
141,264
98,588
3,624
39,052
(5,534)
(3,037)
186
30,667
(12,551)
18,116
(484)
$ 17,632
$
$
$
$
0.94
(0.02)
0.92
0.85
(0.02)
0.83
$368,072
192,354
25,126
79,026
2,231
666,809
548,108
118,701
89,948
3,816
24,937
(5,978)
(3,152)
460
16,267
(6,171)
10,096
(593)
$ 9,503
$
$
$
$
0.52
(0.03)
0.49
0.48
(0.03)
0.45
2004
Revenues:
New vehicle............................................................................
Used vehicle ..........................................................................
Finance and insurance………………………………….....
Service, body and parts.........................................................
Fleet and other.......................................................................
Total revenues ....................................................................
Cost of sales ............................................................................
Gross profit...............................................................................
Selling, general and administrative .........................................
Depreciation and amortization ................................................
Income from operations ...........................................................
Floorplan interest expense ......................................................
Other interest expense ............................................................
Other, net .................................................................................
Income from continuing operations before income taxes ......
Income taxes............................................................................
Income before discontinued operations ..................................
Discontinued operations, net of tax.........................................
Net income ...............................................................................
Basic income per share from continuing operations ..............
Basic loss per share from discontinued operations................
Basic net income per share.....................................................
Diluted income per share from continuing operations ............
Diluted loss per share from discontinued operations .............
Diluted net income per share ..................................................
(1) Quarterly data may not add to yearly totals due to rounding.
Three Months Ended,
March 31
June 30
September 30
December 31
(in thousands, except per share data )
$387,977
179,074
23,700
69,223
1,381
661,355
548,406
112,949
85,814
2,998
24,137
(3,992)
(2,147)
276
18,274
(7,127)
11,147
(307)
$ 10,840
$
$
$
$
0.59
(0.01)
0.58
0.56
(0.02)
0.54
$436,414
193,850
26,841
72,422
3,385
732,912
611,447
121,465
88,065
3,156
30,244
(4,402)
(2,300)
201
23,743
(9,259)
14,484
(14)
$ 14,470
$
$
$
$
0.77
(0.00)
0.77
0.70
(0.00)
0.70
$373,909
178,784
24,116
72,477
1,750
651,036
540,362
110,674
83,270
3,746
23,658
(4,341)
(2,705)
265
16,877
(6,367)
10,510
(628)
$ 9,882
$
$
$
$
0.56
(0.04)
0.52
0.51
(0.03)
0.48
$342,802
184,986
22,333
66,772
1,164
618,057
514,780
103,277
82,370
2,850
18,057
(3,508)
(1,721)
177
13,005
(5,072)
7,933
(454)
$ 7,479
$
$
$
$
0.43
(0.03)
0.40
0.42
(0.03)
0.39
31
Seasonality and Quarterly Fluctuations
Historically, our sales have been lower in the first and fourth quarters of each year due to consumer
purchasing patterns during the holiday season, inclement weather in certain of our markets and the reduced
number of business days during the holiday season. As a result, financial performance is expected to be
lower during the first and fourth quarters than during the second and third quarters of each fiscal year. We
believe that interest rates, levels of consumer debt and consumer confidence, as well as general economic
conditions, also contribute to fluctuations in sales and operating results. Acquisitions have also been a
contributor to fluctuations in our operating results from quarter to quarter.
Liquidity and Capital Resources
Our principal needs for capital resources are to finance acquisitions and capital expenditures, as well as for
working capital. We have relied primarily upon internally generated cash flows from operations, borrowings
under our credit agreements and the proceeds from public equity and private debt offerings to finance
operations and expansion. We believe that our available cash, cash equivalents, available lines of credit and
cash flows from operations will be sufficient to meet our anticipated operating expenses and capital
requirements for at least the next 24 months from December 31, 2005.
Our inventories increased to $606.0 million at December 31, 2005 from $536.5 million at December 31,
2004 due primarily to acquisitions, as well as a decision to take on additional inventory in December 2005
due to attractive incentives from certain of our manufacturer partners. As a result, our new and used flooring
notes payable increased to $530.5 million at December 31, 2005 from $450.9 million at December 31, 2004.
New vehicles are financed at approximately 100% and used vehicles are financed at approximately 80% of
cost. Our days supply of new vehicles increased by approximately 19 days at December 31, 2005
compared to December 31, 2004, primarily due to the purchase of additional inventory in December 2005
mentioned above. We believe this inventory level will provide us with strong inventories at attractive prices
going into the seasonally strong spring selling season. Our new vehicle inventories are 28 days above our
average historical December 31 balances. Our days supply of used vehicles decreased by approximately 2
days at December 31, 2005 compared to December 31, 2004. Used vehicle inventories at December 31,
2005 were 3 days below average levels for December 31. We believe that our inventory of good-quality
used vehicles, which were brought purchased at favorable prices, will benefit our used vehicle business in
2006.
Assets held for sale of $27.4 million at December 31, 2005 include primarily inventories, fixed assets,
goodwill and other intangible assets related to two dealerships held for sale and are recorded on our
balance sheet at the lower of book value or estimated fair market value, less applicable selling costs.
Liabilities held for sale of $22.4 million at December 31, 2005 represented new vehicle flooring notes
payable related to two dealerships held for sale.
Goodwill and other intangibles increased $21.9 million to $311.1 million at December 31, 2005, compared to
$289.2 million at December 31, 2004. Store and franchise acquisitions increased goodwill and other
intangibles by $30.3 million. This increase was partially offset by a $4.4 million decrease in goodwill and
other intangibles related to dealership disposals and by $3.9 million being classified as assets held for sale
at December 31, 2005. Cash paid for acquisitions, net of cash received, in 2005 was $51.7 million.
Our Board of Directors declared a dividend of $0.08 per share on our Class A and Class B common stock
for the fourth quarter of 2004 and for the first quarter of 2005, which were paid in the first two quarters of
2005 and totaled approximately $1.5 million each. For the second, third and fourth quarters of 2005, our
Board of Directors declared a $0.12 per share dividend on our Class A and Class B common stock that
totaled approximately $2.3 million each. The dividend related to the second quarter of 2005 was paid during
the third quarter of 2005 and the dividend for the third quarter of 2005 was paid in the fourth quarter of 2005.
32
The dividend related to the fourth quarter of 2005 will be paid in the first quarter of 2006. We anticipate
recommending to the Board of Directors the approval of a cash dividend each quarter.
In June 2000, our Board of Directors authorized the repurchase of up to 1,000,000 shares of our Class A
common stock. Through December 31, 2005, we have purchased a total of 60,231 shares under this
program and may continue to do so from time to time in the future as conditions warrant. However, the
recent change in the tax law tends to equalize the benefits of dividends and share repurchases as a means
to return capital or earnings to shareholders. As a result, we believe it is now advantageous to shareholders
to have a dividend in place. With the dividend, we are able to offer an immediate and tangible return to our
shareholders without reducing our already limited market float, which occurs when we repurchase shares.
We have a working capital and used vehicle flooring credit facility with DaimlerChrysler Services North
America LLC and Toyota Motor Credit Corporation, totaling up to $150 million, which expires May 1, 2008.
This credit facility is cross-collateralized and secured by cash and cash equivalents, new and used vehicles
on a subordinated basis to the extent not specifically financed by other lenders, parts inventories, accounts
receivable, intangible assets and equipment. We pledged to DaimlerChrysler Services and Toyota Motor
Credit the stock of all of our dealership subsidiaries except entities operating BMW, Honda, Nissan or
Toyota stores. The commitments under this credit agreement may be withdrawn under various events of
default or certain changes in control.
The financial covenants in our agreement with DaimlerChrysler Services and Toyota Motor Credit require us
to maintain compliance with, among other things, (i) a specified current ratio; (ii) a specified fixed charge
coverage ratio; (iii) a specified interest coverage ratio; (iv) a specified adjusted leverage ratio; and (v) certain
working capital
levels. At December 31, 2005, we were in compliance with all of the covenants of this
agreement.
Ford Motor Credit, General Motors Acceptance Corporation and Volkswagen Credit have agreed to floor all
of our new vehicles for their respective brands with DaimlerChrysler Services North America LLC and
Toyota Motor Credit Corporation serving as the primary lenders for substantially all other brands. These new
vehicle lines are secured by new vehicle inventory of the relevant brands. Vehicles financed by lenders not
directly associated with the manufacturer are classified as floorplan notes payable: non-trade and is
included as a financing activity in our statements of cash flows. Vehicles financed by lenders directly
associated with the manufacturer are classified as floorplan notes payable and is included as an operating
activity.
We have a credit facility with U.S. Bank N.A., which provides for a $50.0 million revolving line of credit for
leased vehicles and equipment purchases and expires May 1, 2007. The financial covenants in our
agreement with U.S. Bank N.A. require us to maintain compliance with, among other things, (i) a specified
current ratio; (ii) a specified fixed charge coverage ratio; (iii) a minimum total net worth; and (iv) a minimum
tangible net worth. At December 31, 2005, we were in compliance with all of the covenants of this
agreement. The commitments under this credit agreement may be withdrawn under various events of
default or certain changes in control of Lithia.
Pursuant to our $150 million credit agreement with DaimlerChrysler Services North America LLC and
Toyota Motor Credit Corporation, total dividends and repurchases of our common stock cannot exceed
$25.0 million over the term of the agreement. To date, over the term of the agreement, we have paid
dividends and repurchased stock totaling $18.7 million.
We expect to be in compliance with the covenants for all of our debt agreements in the foreseeable future.
In the event that we are unable to meet such requirements, and any available cure period has passed, the
lender may require an acceleration of payment, increase the interest rate or limit our ability to borrow.
33
Interest rates on all of the above facilities ranged from 5.9% to 7.1% at December 31, 2005. Amounts
outstanding on the lines at December 31, 2005, together with amounts remaining available under such lines
were as follows (in thousands):
New and program vehicle lines
Working capital and used vehicle line
Equipment/leased vehicle line
Outstanding at
December 31, 2005
$530,452
-
50,000
$580,452
Remaining Availability
as of
December 31, 2005
$
*
150,000
-
$150,000
_________
* There are no formal limits on the new and program vehicle lines with certain lenders.
We also have outstanding $85.0 million of 2.875% senior subordinated convertible notes due 2014. We will
also pay contingent interest on the notes during any six-month interest period beginning May 1, 2009, in
which the trading price of the notes for a specified period of time equals or exceeds 120% of the principal
amount of the notes. The notes are convertible into shares of our Class A common stock at a price of
$37.69 per share upon the satisfaction of certain conditions and upon the occurrence of certain events as
follows:
•
if, prior to May 1, 2009, and during any calendar quarter, the closing sale price of our common stock
exceeds 120% of the conversion price for at least 20 trading days in the 30 consecutive trading
days ending on the last trading day of the preceding calendar quarter;
if, after May 1, 2009, the closing sale price of our common stock exceeds 120% of the conversion
price;
if, during the five business day period after any five consecutive trading day period in which the
trading price per $1,000 principal amount of notes for each day of such period was less than 98% of
the product of the closing sale price of our common stock and the number of shares issuable upon
conversion of $1,000 principal amount of the notes;
if the notes have been called for redemption; or
upon certain specified corporate events.
•
•
•
•
A declaration and payment of a dividend in excess of $0.08 per share per quarter will result in an adjustment
in the conversion rate for the notes if such cumulative adjustment exceeds 1% of the current conversion
rate. We declared a dividend of $0.12 per share in July 2005, October 2005 and February 2006. The affect
of such dividends does not yet reach the 1% threshold amount and no adjustment in the conversion rate is
currently required.
The notes are redeemable at our option beginning May 6, 2009 at the redemption price of 100% of the
principal amount plus any accrued interest. The holders of the notes can require us to repurchase all or
some of the notes on May 1, 2009 and upon certain events constituting a fundamental change or a
termination of trading. A fundamental change is any transaction or event in which all or substantially all of
our common stock is exchanged for, converted into, acquired for, or constitutes solely the right to receive,
consideration that is not all, or substantially all, common stock that is listed on, or immediately after the
transaction or event, will be listed on, a United States national securities exchange. A termination of trading
will have occurred if our common stock is not listed for trading on a national securities exchange or the
NASDAQ stock market.
Our earnings to fixed charge coverage ratio, as defined in the senior subordinated convertible notes, was
3.03 for the year ended December 31, 2005.
34
Contractual Payment Obligations
A summary of our contractual commitments and obligations as of December 31, 2005 was as follows (in
thousands):
Contractual
Obligation
Floorplan Notes
Lines of Credit and
Long-Term Debt
Interest on Scheduled
Debt Payments
Capital Commitments
Operating Leases
Total
530,452
297,419
58,280
21,828
126,709
1,034,688
$
$
$
$
2006
530,452
6,868
9,685
21,828
20,931
589,764
Payments Due By Period
2007 and
2008
2009 and
2010
$
$
-
$
-
$
101,388
17,478
-
37,541
156,407
$
32,944
11,128
-
27,566
71,638
$
2011 and
beyond
-
156,219
19,989
-
40,671
216,879
Our capital commitments of $21.8 million at December 31, 2005 were for the construction of five new
facilities, additions to two existing facilities and the remodel of two facilities. Three of the new facilities will be
for our Toyota dealerships in Springfield, Oregon, Klamath Falls, Oregon and Odessa, Texas. The other two
new facilities are for our Dodge dealership in Sioux Falls, South Dakota and for our Mercedes dealership in
Spokane, Washington. We have already incurred $5.4 million for these projects and anticipate incurring the
remaining $21.8 million in 2006. We expect to pay for the construction out of existing cash balances until
completion of the projects, at which time we anticipate securing long-term financing and general borrowings
from third party lenders for 70% to 90% of the amounts expended.
In addition, we have recorded a reserve for our estimated contractual obligations related to potential charge-
backs for vehicle service contracts, lifetime oil change contracts and other various insurance contracts that
are terminated early by the customer. At December 31, 2005, this reserve totaled $13.1 million. Based on
past experience, we estimate that the $13.1 million will be paid out as follows: $7.9 million in 2006; $3.5
million in 2007; $1.3 million in 2008; $0.3 million in 2009; and $0.1 million thereafter.
Critical Accounting Policies and Use of Estimates
The preparation of financial statements in conformity with accounting principles generally accepted in the
United States of America requires us to make certain estimates, judgments and assumptions that affect
the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities and
reported amounts of revenues and expenses at the date of the financial statements. Some of our
accounting policies require us to make difficult and subjective judgments on matters that are inherently
uncertain. The following accounting policies involve critical accounting estimates because they are
particularly dependent on assumptions made by management. While we have made our best estimates
based on facts and circumstances available to us at the time, different estimates could have been used in
the current period. Changes in the accounting estimates we used are reasonably likely to occur from
period to period, which may have a material impact on the presentation of our financial condition and
results of operations.
income
Our most critical accounting estimates include service contract and lifetime oil contract
recognition,
finance fee income recognition, workers’ compensation insurance premium accrual,
discretionary bonus accrual, assessment of recoverability of goodwill and other intangible assets, and
used vehicle inventory valuations. We also have other key accounting policies, such as our policies for
valuation of accounts receivable, expense accruals and other revenue recognition. However,
these
policies either do not meet the definition of critical accounting estimates described above or are not
currently material items in our financial statements. We review our estimates, judgments and assumptions
periodically and reflect the effects of revisions in the period that they are deemed to be necessary. We
believe that these estimates are reasonable. However, actual results could differ from these estimates.
35
Service Contract and Lifetime Oil Change Contract Income Recognition
We receive fees from the sale of vehicle service contracts and lifetime oil contracts to customers. The
contracts are sold through an unrelated third party, but we may be charged back for a portion of the fees
in the event of early termination of the contracts by customers. We have established a reserve for
estimated future charge-backs based on an analysis of historical charge-backs in conjunction with
termination provisions of the applicable contracts. At December 31, 2005 and 2004, this reserve totaled
$12.2 million and $11.2 million, respectively, and is included in accrued liabilities and other long-term
liabilities on our consolidated balance sheets. We may also participate in future underwriting profit
pursuant to retrospective commission arrangements, which would be recognized as income upon receipt.
Finance Fee Income Recognition
We receive finance fees from various financial institutions when we arrange financing for our customers
on a non-recourse basis. We may be charged back for a portion of the financing fee income when the
customer pays off their loan prior to the guidelines agreed to by the various financial institutions. We have
established a reserve for potential net charge-backs and cancellations based on historical experience,
which typically result if the customer pays off their loan during the 90 to 180 days after receiving
financing. At December 31, 2005 and 2004, this reserve totaled $343,000 and $258,000, respectively,
and is included in accrued liabilities on our consolidated balance sheets.
Workers’ Compensation Insurance Premium Accrual
Insurance premiums are paid for under a three-year retrospective cost policy, whereby premium cost
depends on experience. We accrue premiums based on our historical experience rating, although the
actual experience can be something greater or less than the anticipated claims experience and, as of
December 31, 2005 and 2004, the accrual was $2.3 million and $2.6 million, respectively, and is included
in accrued liabilities and other long-term liabilities on our consolidated balance sheets. We expect that the
retrospective cost policy, as opposed to a guaranteed cost with a flat premium, will be the most cost
efficient over time.
Discretionary Bonus Accrual
We make certain estimates, judgments and assumptions regarding the likelihood of our attainment, and
the level thereof, of the annual bonus criteria under our Discretionary Bonus Program in order to record
bonus expense on a quarterly basis. We accrue the estimated year-end expense on a pro-rata basis
throughout the year based on bonus attainment expectations. We use this same methodology for our
401(k) matching contribution and our years-of-service bonus programs. These estimates, judgments and
assumptions are made quarterly based on available information and take into consideration the historical
seasonality of our business and current
trends. If actual year-end results differ materially from our
estimates, the amount of bonus expense recorded in a particular quarter could be significantly over or
under estimated. The bonus accrual at the end of any given year is accurate and reflective of actual
results attained and amounts to be paid.
Intangible Assets
We review our goodwill and other identifiable non-amortizable intangible assets for impairment at least
annually by applying a fair-value based test using discounted estimated cash flows. Discounted future
cash flows are prepared by applying a growth rate to historical revenues. Growth rates are calculated
individually for each region with data derived from the U.S. Census Bureau on population growth and the
U.S. Department of Labor, Bureau of Labor Statistics for historical consumer price index data. The
discount rate applied to the future cash flows is derived from a Capital Asset Pricing Model which factors
in an equity risk premium and a risk free rate. The review is conducted more frequently than annually if
events or circumstances occur that warrant a review. Our other identifiable intangible assets primarily
include the franchise value of the business unit, which is considered to have an indefinite life and not
subject to amortization, but rather is included in the fair-value based testing. Impairment could occur if the
operating business unit does not meet the determined fair-value testing. At such point, an impairment loss
would be recognized to the extent that the carrying amount exceeds the assets’ fair value. We have
determined that we operate as one business unit. During 2005 and 2004, we concluded that there was
36
no impairment. At December 31, 2005 and 2004, goodwill and other
intangible assets totaled $311.1 million and $289.2 million, respectively.
identifiable non-amortizable
Used Vehicle Inventory
Used vehicle inventories are stated at cost plus the cost of any equipment added, reconditioning and
transportation. We select a sampling of dealerships throughout the year to perform quarterly testing of
book values against market valuations utilizing the Kelly Blue Book and NADA guidelines. Used vehicle
inventory values are cyclical and could experience impairment when market valuations are significantly
below inventory costs. Historically, we have not experienced significant write-downs on our used vehicle
inventory.
Recent Accounting Pronouncements
See Note 19 of Notes to Consolidated Financial Statements.
Off-Balance Sheet Arrangements
We do not have any off-balance sheet arrangements that have or are reasonably likely to have a material
current or future effect on our financial condition, changes in financial condition, revenues or expenses,
results of operations, liquidity, capital expenditures or capital resources.
Item 7A. Quantitative and Qualitative Disclosures About Market Risk
Variable Rate Debt
We use variable-rate debt to finance our new and program vehicle inventory and certain real estate
holdings. The interest rates on our variable rate debt are tied to either the one or three-month LIBOR or
the prime rate. These debt obligations therefore expose us to variability in interest payments due to
changes in these rates. The flooring debt is based on open-ended lines of credit tied to each individual
store from the various manufacturer finance companies. If interest rates increase, interest expense
increases. Conversely, if interest rates decrease, interest expense decreases.
Our variable-rate flooring notes payable, variable rate mortgage notes payable and other credit line
borrowings subject us to market risk exposure. At December 31, 2005, we had $627.4 million outstanding
under such agreements at interest rates ranging from 5.89% to 8.43% per annum. A 10% increase in
interest rates would increase annual interest expense by approximately $1.8 million, net of tax, based on
amounts outstanding at December 31, 2005.
Fixed Rate Debt
The fair market value of our long-term fixed interest rate debt is subject to interest rate risk. Generally, the
fair market value of fixed interest rate debt will increase as interest rates fall because we could refinance
for a lower rate. Conversely, the fair value of fixed interest rate debt will decrease as interest rates rise.
The interest rate changes affect the fair market value but do not impact earnings or cash flows.
Based on open market trades, we determined that our $85.0 million of long-term convertible fixed interest
rate debt had a fair market value of approximately $82.6 million at December 31, 2005.
In addition, at
December 31, 2005, we had $115.4 million of other long-term fixed interest rate debt outstanding with
maturity dates of between December 2006 and May 2022. Based on discounted cash flows, we have
determined that the fair market value of this long-term fixed interest rate debt was approximately $113.1
million at December 31, 2005.
Hedging Strategies
We believe it is prudent to limit the variability of a portion of our interest payments. Accordingly, we have
entered into interest rate swaps to manage the variability of our interest rate exposure, thus leveling a
portion of our interest expense in a rising or falling rate environment.
37
We have effectively changed the variable-rate cash flow exposure on a portion of our flooring debt to
fixed-rate cash flows by entering into receive-variable, pay-fixed interest rate swaps. Under the interest
rate swaps, we receive variable interest rate payments and make fixed interest rate payments, thereby
creating fixed rate flooring debt.
We do not enter into derivative instruments for any purpose other than to manage interest rate exposure.
That is, we do not engage in interest rate speculation using derivative instruments.
As of December 31, 2005, we had outstanding the following interest rate swaps with U.S. Bank Dealer
Commercial Services:
•
•
•
•
•
•
effective January 26, 2003 – a five year, $25 million interest rate swap at a fixed rate of 3.265%
per annum, variable rate adjusted on the 26th of each month
effective February 18, 2003 – a five year, $25 million interest rate swap at a fixed rate of 3.30%
per annum, variable rate adjusted on the 1st and 16th of each month
effective November 18, 2003 – a five year, $25 million interest rate swap at a fixed rate of 3.65%
per annum, variable rate adjusted on the 1st and 16th of each month
effective November 26, 2003 – a five year, $25 million interest rate swap at a fixed rate of 3.63%
per annum, variable rate adjusted on the 26th of each month
effective March 9, 2004 – a five year, $25 million interest rate swap at a fixed rate of 3.25% per
annum, variable rate adjusted on the 1st and 16th of each month;
effective March 18, 2004 – a five year, $25 million interest rate swap at a fixed rate of 3.10% per
annum, variable rate adjusted on the 1st and 16th of each month.
We earn interest on all of the interest rate swaps at the one-month LIBOR rate. The one-month LIBOR
rate at December 31, 2005 was 4.39% per annum.
The fair value of our interest rate swap agreements represents the estimated receipts or payments that
would be made to terminate the agreements. These amounts are recorded as deferred gains or losses in
our consolidated balance sheet with the offset recorded in accumulated other comprehensive income, net
of tax. The amount of deferred gains and losses at December 31, 2005 were $5.4 million and $0,
respectively. The difference between interest earned and the interest obligation results in a monthly
settlement which is reclassified from accumulated other comprehensive income to the statement of
operations as a component of flooring interest expense. The resulting cash settlement reduces the
amount of deferred gains and losses. Because the critical terms of the interest rate swaps and the
underlying debt obligations are the same, there was no ineffectiveness recorded in interest expense.
If, in the future, the interest rate swap agreements were determined to be ineffective or were terminated
before the contractual termination date, or if it became probable that the hedged variable cash flows
associated with the variable rate borrowings would stop, we would be required to reclassify into earnings
all or a portion of the deferred gains or losses on cash flow hedges included in accumulated other
comprehensive income.
Incremental flooring interest expense recognized, net of tax, related to the reclassification of amounts in
accumulated other comprehensive income was $0.5 million, $2.5 million and $2.2 million, respectively, in
2005, 2004 and 2003. Interest savings (additional expense), net of tax, on un-hedged debt as a result of
changing interest rates, based on interest rates effective as of January 1, 2003 was approximately $(4.3)
million, $(86,000) and $351,000, respectively, in 2005, 2004 and 2003. Interest expense savings, net of
tax, on un-hedged debt as a result of decreasing interest rates during 2003, based on interest rates
effective as of January 1, 2003 was $351,000.
Interest expense, net of tax, on un-hedged debt increased
during 2005 and 2004 by approximately $2.1 million and $645,000, respectively, as a result of increasing
interest rates during those periods. As of December 31, 2005, approximately 45% of our total debt
outstanding was subject to un-hedged variable rates of interest.
38
At current interest rates, we estimate that we will recognize interest savings, net of tax, of approximately
$0.9 million related to our interest rate swaps during 2006.
For all debt, including floorplan notes payable, our average interest rate in 2005 increased at only about
half the pace of market interest rates due to our interest rate hedging strategies.
Risk Management Policies
We assess interest rate cash flow risk by continually identifying and monitoring changes in interest rate
exposures that may adversely impact expected future cash flows and by evaluating hedging
opportunities.
We maintain risk management control systems to monitor interest rate cash flow attributable to both our
outstanding and forecasted debt obligations as well as our offsetting hedge positions. The risk
management control systems involve the use of analytical techniques, including cash flow sensitivity
analysis, to estimate the expected impact of changes in interest rates on our future cash flows.
Item 8. Financial Statements and Supplementary Financial Data
The financial statements and notes thereto required by this item begin on page F-1 as listed in Item 15 of
Part IV of this document. Quarterly financial data for each of the eight quarters in the two-year period
ended December 31, 2005 is included in Item 7.
Item 9. Changes in and Disagreements with Accountants on Accounting and Financial Disclosure
None.
Item 9A. Controls and Procedures
Management’s Report on Internal Control Over Financial Reporting
Our management is responsible for establishing and maintaining adequate internal control over financial
reporting, as such term is defined in Exchange Act Rules 13a –15(f). Under the supervision and with the
participation of our management, including our principal executive officer and principal financial officer,
we conducted an evaluation of the effectiveness of our internal control over financial reporting based on
the framework in Internal Control – Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission. Based on our evaluation under the framework in Internal
Control – Integrated Framework, our management concluded that our internal control over financial
reporting was effective as of December 31, 2005.
Management’s assessment of the effectiveness of our internal control over financial reporting as of
December 31, 2005, as well as our consolidated financial statements, have been audited by KPMG LLP,
an independent registered public accounting firm, as stated in their reports, which are included herein.
Internal Control Over Financial Reporting
There has been no change in our internal control over financial reporting that occurred during our last
fiscal quarter that has materially affected, or is reasonably likely to materially affect, our internal control
over financial reporting.
Disclosure Controls and Procedures
Our management has evaluated, under the supervision and with the participation of our Chief Executive
Officer, our Chief Financial Officer and our Chief Accounting Officer, the effectiveness of our disclosure
controls and procedures as of the end of the period covered by this report pursuant to Rule 13a-15(b)
under the Securities Exchange Act of 1934 (the “Exchange Act”). Based on that evaluation, our Chief
Executive Officer and Chief Financial Officer have concluded that, as of the end of the period covered by
this report, our disclosure controls and procedures are effective in ensuring that information required to be
39
disclosed in our Exchange Act reports is (1) recorded, processed, summarized and reported in a timely
manner, and (2) accumulated and communicated to our management, including our Chief Executive
Officer, our Chief Financial Officer and our Chief Accounting Officer, as appropriate to allow timely
decisions regarding required disclosure.
Item 9B. Other Information
None.
Item 10. Directors and Executive Officers of the Registrant
PART III
Information required by this item will be included under the captions Election of Directors, Meetings and
Committees of the Board of Directors, Audit Committee Financial Expert, Code of Ethics, Executive
Officers and Section 16(a) Beneficial Ownership Reporting Compliance in our Proxy Statement for our
2006 Annual Meeting of Shareholders and, upon filing, is incorporated herein by reference.
Item 11. Executive Compensation
The information required by this item will be included under the captions Director Compensation,
Executive Compensation and Compensation Committee Interlocks and Insider Participation in our Proxy
Statement for our 2006 Annual Meeting of Shareholders and, upon filing, is incorporated herein by
reference.
Item 12. Security Ownership of Certain Beneficial Owners and Management
The information required by this item will be included under the captions Security Ownership of Certain
Beneficial Owners and Management and Equity Compensation Plan Information in our Proxy Statement
for our 2006 Annual Meeting of Shareholders and, upon filing, is incorporated herein by reference.
Item 13. Certain Relationships and Related Transactions
The information required by this item will be included under the caption Certain Relationships and Related
Transactions in our Proxy Statement for our 2006 Annual Meeting of Shareholders and, upon filing is
incorporated herein by reference.
Item 14. Principal Accountant Fees and Services
Information required by this item will be included under the caption Independent Auditors in the Proxy
Statement for our 2006 Annual Meeting of Shareholders and, upon filing, is incorporated herein by
reference.
Item 15. Exhibits and Financial Statement Schedules
PART IV
Except for exhibits 31.1, 31.2, 32.1 and 32.2, this section has been intentionally omitted.
40
SIGNATURES
to the requirements of Section 13 or 15(d) of
Pursuant
the
Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
the Securities Exchange Act of 1934,
Date: March 6, 2006
LITHIA MOTORS, INC.
By /s/ SIDNEY B. DEBOER
Sidney B. DeBoer
Chairman of the Board and
Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below
by the following persons on behalf of the Registrant and in the capacities indicated on March 6, 2006:
Signature
Title
/s/ SIDNEY B. DEBOER
Sidney B. DeBoer
/s/ JEFFREY B. DEBOER
Jeffrey B. DeBoer
/s/ LINDA A. GANIM
Linda A. Ganim
Chairman of the Board and
Chief Executive Officer
(Principal Executive Officer)
Senior Vice President and Chief Financial Officer
(Principal Financial Officer)
Vice President and Chief Accounting Officer
(Principal Accounting Officer)
/s/ M. L. DICK HEIMANN
M. L. Dick Heimann
Director, President of
Corporate Affairs
/s/ THOMAS BECKER
Thomas Becker
/s/ MARYANN KELLER
Maryann Keller
/s/ GERALD F. TAYLOR
Gerald F. Taylor
/s/ WILLIAM J. YOUNG
William J. Young
Director
Director
Director
Director
41
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
PURSUANT TO RULE 13a-14(a) OR RULE 15d-14(a)
OF THE SECURITIES EXCHANGE ACT OF 1934
EXHIBIT 31.1
I, Sidney B. DeBoer, certify that:
1.
I have reviewed this annual report on Form 10-K of Lithia Motors, Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit
to state a material fact necessary to make the statements made, in light of the circumstances under
which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this
report, fairly present in all material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this report;
4.
The registrant's other certifying officer and I are responsible for establishing and maintaining
disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and
internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for
the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material information relating to
the registrant, including its consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over
to provide reasonable assurance
financial statements for
financial reporting to be designed under our supervision,
regarding the reliability of
external purposes in accordance with generally accepted accounting principles;
financial reporting and the preparation of
(c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented
in this report our conclusions about the effectiveness of the disclosure controls and procedures,
as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal control over financial reporting that
occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of
internal control over financial reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control
over financial reporting which are reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a
significant role in the registrant's internal control over financial reporting.
Date: March 6, 2006
/s/Sidney B. DeBoer
Sidney B. DeBoer
Chairman of the Board,
Chief Executive Officer and Secretary
Lithia Motors, Inc.
EXHIBIT 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
PURSUANT TO RULE 13a-14(a) OR RULE 15d-14(a)
OF THE SECURITIES EXCHANGE ACT OF 1934
I, Jeffrey B. DeBoer, certify that:
1.
I have reviewed this annual report on Form 10-K of Lithia Motors, Inc.;
2. Based on my knowledge, this report does not contain any untrue statement of a material fact or omit
to state a material fact necessary to make the statements made, in light of the circumstances under
which such statements were made, not misleading with respect to the period covered by this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this
report, fairly present in all material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this report;
4.
The registrant's other certifying officer and I are responsible for establishing and maintaining
disclosure controls and procedures (as defined in Exchange Act Rules 13a-15(e) and 15d-15(e)) and
internal control over financial reporting (as defined in Exchange Act Rules 13a-15(f) and 15d-15(f)) for
the registrant and have:
(a) Designed such disclosure controls and procedures, or caused such disclosure controls and
procedures to be designed under our supervision, to ensure that material information relating to
the registrant, including its consolidated subsidiaries, is made known to us by others within those
entities, particularly during the period in which this report is being prepared;
(b) Designed such internal control over financial reporting, or caused such internal control over
to provide reasonable assurance
financial statements for
financial reporting to be designed under our supervision,
regarding the reliability of
external purposes in accordance with generally accepted accounting principles;
financial reporting and the preparation of
(c) Evaluated the effectiveness of the registrant's disclosure controls and procedures and presented
in this report our conclusions about the effectiveness of the disclosure controls and procedures,
as of the end of the period covered by this report based on such evaluation; and
(d) Disclosed in this report any change in the registrant's internal control over financial reporting that
occurred during the registrant's most recent fiscal quarter (the registrant's fourth fiscal quarter in
the case of an annual report) that has materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial reporting; and
5. The registrant's other certifying officer and I have disclosed, based on our most recent evaluation of
internal control over financial reporting, to the registrant's auditors and the audit committee of the
registrant's board of directors (or persons performing the equivalent functions):
(a) All significant deficiencies and material weaknesses in the design or operation of internal control
over financial reporting which are reasonably likely to adversely affect the registrant's ability to
record, process, summarize and report financial information; and
(b) Any fraud, whether or not material, that involves management or other employees who have a
significant role in the registrant's internal control over financial reporting.
Date: March 6, 2006
/s/Jeffrey B. DeBoer
Jeffrey B. DeBoer
Senior Vice President
and Chief Financial Officer
Lithia Motors, Inc.
EXHIBIT 32.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
PURSUANT TO RULE 13a-14(b) OR RULE 15d-14(b)
OF THE SECURITIES EXCHANGE ACT OF 1934 AND 18 U.S.C. SECTION 1350
In connection with the Annual Report of Lithia Motors, Inc. (the “Company”) on Form 10-K for the year
ended December 31, 2005 as filed with the Securities and Exchange Commission on the date hereof (the
“Report”), I, Sidney B. DeBoer, Chairman of the Board, Chief Executive Officer and Secretary of the
Company, certify, pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act
of 2002, that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities
Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial
condition and result of operations of the Company.
/s/ Sidney B. DeBoer
Sidney B. DeBoer
Chairman of the Board,
Chief Executive Officer and Secretary
Lithia Motors, Inc.
March 6, 2006
EXHIBIT 32.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
PURSUANT TO RULE 13a-14(b) OR RULE 15d-14(b)
OF THE SECURITIES EXCHANGE ACT OF 1934 AND 18 U.S.C. SECTION 1350
In connection with the Annual Report of Lithia Motors, Inc. (the “Company”) on Form 10-K for the year
ended December 31, 2005 as filed with the Securities and Exchange Commission on the date hereof (the
“Report”), I, Jeffrey B. DeBoer, Senior Vice President and Chief Financial Officer of the Company, certify,
pursuant to 18 U.S.C. § 1350, as adopted pursuant to § 906 of the Sarbanes-Oxley Act of 2002, that:
(1) The Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities
Exchange Act of 1934; and
(2) The information contained in the Report fairly presents, in all material respects, the financial
condition and result of operations of the Company.
/s/ Jeffrey B. DeBoer
Jeffrey B. DeBoer
Senior Vice President
and Chief Financial Officer
Lithia Motors, Inc.
March 6, 2006
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders
Lithia Motors, Inc. and subsidiaries:
We have audited the accompanying consolidated balance sheets of Lithia Motors, Inc. and subsidiaries
as of December 31, 2005 and 2004, and the related consolidated statements of operations, changes in
stockholders’ equity and comprehensive income and cash flows for each of the years in the three-year
period ended December 31, 2005. These consolidated financial statements are the responsibility of the
Company’s management. Our responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with the standards of the Public Company Accounting Oversight
Board (United States). Those standards require that we plan and perform the audit to obtain reasonable
assurance about whether the consolidated financial statements are free of material misstatement. An
audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the
consolidated financial statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall consolidated financial
statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present fairly, in all material
respects, the financial position of Lithia Motors, Inc. and subsidiaries as of December 31, 2005 and 2004,
and the results of their operations and their cash flows for each of the years in the three-year period
ended December 31, 2005, in conformity with U.S. generally accepted accounting principles.
We also have audited, in accordance with the standards of the Public Company Accounting Oversight
Board (United States), the effectiveness of Lithia Motors, Inc.’s internal control over financial reporting as
of December 31, 2005, based on criteria established in Internal Control—Integrated Framework issued by
the Committee of Sponsoring Organizations of the Treadway Commission (COSO), and our report dated
March 3, 2006 expressed an unqualified opinion on management’s assessment of, and the effective
operation of, internal control over financial reporting.
/s/ KPMG LLP
Portland, Oregon
March 3, 2006
F-1
Report of Independent Registered Public Accounting Firm
The Board of Directors and Shareholders
Lithia Motors, Inc. and Subsidiaries:
included in the accompanying Management’s Report on Internal
We have audited management's assessment,
Control Over Financial Reporting, that Lithia Motors, Inc. and subsidiaries maintained effective internal control over
financial reporting as of December 31, 2005, based on criteria established in Internal Control—Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO). Lithia Motors, Inc.’s
management is responsible for maintaining effective internal control over financial reporting and for its assessment of
responsibility is to express an opinion on
the effectiveness of
management's assessment and an opinion on the effectiveness of the Company’s internal control over financial
reporting based on our audit.
internal control over
reporting. Our
financial
We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board
(United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about
whether effective internal control over financial reporting was maintained in all material respects. Our audit included
obtaining an understanding of internal control over financial reporting, evaluating management's assessment, testing
and evaluating the design and operating effectiveness of internal control, and performing such other procedures as
we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.
A company's internal control over financial reporting is a process designed to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of financial statements for external purposes in
accordance with generally accepted accounting principles. A company's internal control over financial reporting
includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail,
accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable
assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance
with generally accepted accounting principles, and that receipts and expenditures of the company are being made
only in accordance with authorizations of management and directors of the company; and (3) provide reasonable
assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s
assets that could have a material effect on the financial statements.
Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements.
Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may
deteriorate.
In our opinion, management’s assessment that Lithia Motors, Inc. maintained effective internal control over financial
reporting as of December 31, 2005, is fairly stated, in all material respects, based on criteria established in Internal
Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission
(COSO). Also, in our opinion, Lithia Motors, Inc. maintained, in all material respects, effective internal control over
financial reporting as of December 31, 2005, based on criteria established in Internal Control—Integrated Framework
issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).
We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United
States), the consolidated balance sheets of Lithia Motors, Inc. and subsidiaries as of December 31, 2005 and 2004,
and the related consolidated statements of operations, changes in shareholders’ equity and comprehensive income
and cash flows for each of the years in the three-year period ended December 31, 2005, and our report dated March
3, 2006 expressed an unqualified opinion on those consolidated financial statements.
/s/ KPMG LLP
Portland, Oregon
March 3, 2006
F-2
LITHIA MOTORS, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(In thousands)
December 31,
2005
2004
$
48,566
52,453
$
Assets
Current Assets:
Cash and cash equivalents
Contracts in transit
Trade receivables, net of allowance for doubtful
accounts of $406 and $436
Inventories, net
Vehicles leased to others, current portion
Prepaid expenses and other
Deferred income taxes
Assets held for sale
Total Current Assets
Land and buildings, net of accumulated
depreciation of $11,358 and $8,110
Equipment and other, net of accumulated
depreciation of $31,622 and $25,922
Goodwill
Other intangible assets, net of accumulated
amortization of $89 and $63
Other non-current assets
Total Assets
Liabilities and Stockholders' Equity
Current Liabilities:
Floorplan notes payable
Floorplan notes payable: non-trade
Current maturities of long-term debt
Trade payables
Accrued liabilities
Liabilities held for sale
Deferred income taxes
Total Current Liabilities
Real estate debt, less current maturities
Other long-term debt, less current maturities
Other long-term liabilities
Deferred income taxes
Total Liabilities
Stockholders' Equity:
Preferred stock - no par value; authorized
15,000 shares; none outstanding
Class A common stock - no par value;
authorized 100,000 shares; issued and
outstanding 15,629 and 15,142
Class B common stock - no par value
authorized 25,000 shares; issued and
outstanding 3,762 and 3,762
Additional paid-in capital
Unearned compensation
Accumulated other comprehensive income
Retained earnings
Total Stockholders' Equity
Total Liabilities and Stockholders' Equity
28,869
42,913
42,045
536,510
5,494
6,888
-
135
662,854
226,356
73,275
244,532
44,649
5,217
1,256,883
400,084
50,776
6,565
26,800
52,042
-
410
536,677
139,702
127,608
10,611
36,339
850,937
53,990
606,047
6,296
8,800
685
27,411
804,248
255,372
77,805
260,899
50,247
4,143
1,452,714
476,322
54,130
6,868
30,917
57,775
22,388
-
648,400
154,046
136,505
10,440
43,690
993,081
$
$
-
-
224,775
215,333
468
2,559
(1,132)
3,316
229,647
459,633
1,452,714
$
468
1,811
-
789
187,545
405,946
1,256,883
$
$
$
See accompanying notes to consolidated financial statements.
F-3
LITHIA MOTORS, INC. AND SUBSIDIARIES
Consolidated Statements of Operations
(In thousands, except per share amounts)
Revenues:
New vehicle sales
Used vehicle sales
Finance and insurance
Service, body and parts
Fleet and other
Total revenues
Cost of sales
Gross profit
Selling, general and administrative
Depreciation - buildings
Depreciation and amortization - other
Operating income from continuing operations
Other income (expense):
Floorplan interest expense
Other interest expense
Other income, net
Income from continuing operations before
income taxes
Income taxes
Income before discontinued operations
Loss from discontinued operations, net of income
tax benefit of $1,307, $886 and $178
Net income
Basic income per share from continuing operations
Basic loss per share from discontinued operations
Basic net income per share
Shares used in basic per share calculations
Diluted income per share from continuing operations
Diluted loss per share from discontinued operations
Diluted net income per share
2005
Year Ended December 31,
2004
2003
1,676,607
816,963
109,408
309,494
22,947
2,935,419
2,430,977
504,442
370,991
3,690
10,544
119,217
(22,614)
(12,030)
1,178
(33,466)
85,751
(33,958)
51,793
(1,993)
49,800
2.70
(0.10)
2.60
19,175
2.46
(0.09)
2.37
$
$
$
$
$
$
1,541,102
736,694
96,990
280,894
7,680
2,663,360
2,214,995
448,365
339,519
2,716
10,034
96,096
(16,243)
(8,873)
919
(24,197)
71,899
(27,825)
44,074
(1,403)
42,671
2.35
(0.08)
2.27
18,773
2.19
(0.06)
2.13
$
$
$
$
$
$
1,407,874
717,474
85,845
244,858
6,539
2,462,590
2,067,600
394,990
307,344
2,057
7,418
78,171
(13,715)
(6,055)
1,095
(18,675)
59,496
(23,679)
35,817
(270)
35,547
1.96
(0.02)
1.94
18,289
1.93
(0.01)
1.92
$
$
$
$
$
$
Shares used in diluted per share calculations
21,807
20,647
18,546
See accompanying notes to consolidated financial statements.
F-4
Balance at December 31, 2002
Comprehensive income:
Net income
Unrealized gain on investments, net
Cash flow hedges:
Net derivative losses, net of tax effect
of $833
Reversal of net derivative losses previously
recorded due to their recognition in our
statement of operations as incremental
interest expense, net of tax effect of $(1,442)
Total comprehensive income
Issuance of stock in connection with
employee stock plans
Compensation for stock option issuances
and tax benefits from option exercises
Dividends paid
Repurchase of Class A common stock
Balance at December 31, 2003
Comprehensive income:
Net income
Cash flow hedges:
Net derivative losses, net of tax effect
of $116
Reversal of net derivative losses previously
recorded due to their recognition in our
statement of operations as incremental
interest expense, net of tax effect of $(1,585)
Total comprehensive income
Issuance of stock in connection with
employee stock plans
Repurchase of Class A common stock
Compensation for stock option issuances
and tax benefits from option exercises
Dividends paid
Balance at December 31, 2004
Comprehensive income:
Net income
Cash flow hedges:
Net derivative gains, net of tax effect
of $1,255
Reversal of net derivative losses previously
recorded due to their recognition in our
statement of operations as incremental
interest expense, net of tax effect of $300
Total comprehensive income
Issuance of stock in connection with employee
stock plans
Issuance of restricted stock to employees
Amortization of unearned compensation
Shares forfeited by employees
Repurchase of Class A common stock
Compensation for stock and stock option issuances
and tax benefits from option exercises
Dividends paid
Balance at December 31, 2005
LITHIA MOTORS, INC. AND SUBSIDIARIES
Consolidated Statements of Changes in Stockholders' Equity and Comprehensive Income
For the years ended December 31, 2003, 2004 and 2005
(In thousands, except share data)
Accumulated
Other
Compre-
hensive
Income
(Loss)
Retained
Earnings
$
(2,517) $
117,536 $
Total
Stockholders'
Equity
319,993
-
8
35,547
-
(1,140)
2,181
-
-
-
-
(1,468)
-
-
-
-
(2,575)
-
150,508
-
35,547
8
(1,140)
2,181
36,596
4,825
302
(2,575)
(215)
358,926
-
42,671
42,671
(254)
2,511
-
-
-
-
789
-
2,070
457
-
-
-
-
-
-
-
-
-
(5,634)
187,545
(254)
2,511
44,928
7,159
(13)
580
(5,634)
405,946
49,800
49,800
-
-
-
-
2,070
457
52,327
7,994
-
241
-
(10)
-
(7,698)
229,647 $
833
(7,698)
459,633
Unearned
Compensation
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
-
(1,645)
241
272
-
-
-
$
(1,132) $
3,316 $
Common Stock
Class A
Class B
Shares
14,298,742 $
Amount
203,577
Shares
3,762,231 $
Amount
468 $
Additional
Paid In
Capital
929
$
-
-
-
-
-
-
-
-
413,485
4,825
-
-
(19,400)
14,692,827
-
-
(215)
208,187
-
-
-
-
-
-
449,847
(600)
-
-
7,159
(13)
-
-
-
-
-
-
-
-
-
-
3,762,231
-
-
-
-
-
-
-
15,142,074
215,333
3,762,231
-
-
-
-
-
-
434,534
59,640
-
(9,873)
(231)
7,994
1,645
-
(272)
(10)
-
-
-
-
-
-
-
-
-
-
-
-
-
-
468
-
-
-
-
-
-
-
468
-
-
-
-
-
-
-
-
-
-
-
302
-
-
1,231
-
-
-
-
-
580
-
1,811
-
-
-
-
-
-
3,200
-
15,629,344 $
85
-
224,775
-
-
3,762,231 $
-
-
468 $
748
-
2,559
See accompanying notes to consolidated financial statements.
F-5
LITHIA MOTORS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
Cash flows from operating activities:
Net income
Adjustments to reconcile net income to net cash
provided by operating activities:
Depreciation and amortization
Depreciation and amortization from discontinued operations
Compensation expense related to stock option issuances
(Gain) loss on sale of assets
Gain on sale of franchise
Deferred income taxes
Equity in loss of affiliate
(Increase) decrease, net of effect of acquisitions:
Trade and installment contract receivables, net
Contracts in transit
Inventories
Vehicles leased to others
Prepaid expenses and other
Other non-current assets
Increase (decrease), net of effect of acquisitions:
Floorplan notes payable
Trade payables
Accrued liabilities
Other long-term liabilities and deferred revenue
Net cash provided by operating activities
Cash flows from investing activities:
Principal payments received on notes receivable
Capital expenditures:
Non-financeable
Financeable
Proceeds from sale of assets
Cash paid for acquisitions, net of cash acquired
Proceeds from sale of dealerships
Distribution from affiliate
Net cash used in investing activities
Cash flows from financing activities:
Flooring notes payable: non-trade
Net borrowings (repayments) on lines of credit
Principal payments on long-term debt and capital leases
Proceeds from issuance of long-term debt
Debt issuance costs
Repurchase of common stock
Proceeds from issuance of common stock
Dividends paid
Net cash provided by financing activities
Increase (decrease) in cash and cash equivalents
Cash and cash equivalents at beginning of period
Cash and cash equivalents at end of period
Supplemental disclosures of cash flow information:
Cash paid during the period for interest
Cash paid during the period for income taxes
Supplemental schedule of non-cash investing and financing
activities:
Debt issued in connection with acquisitions
Flooring debt assumed in connection with acquisitions
Acquisition of capital lease
Assets acquired with debt
Assets acquired through real estate exchange
Debt extinguished through refinancing
Debt paid by purchaser in connection with dealership disposals
Flooring debt paid in connection with dealership disposals
Common stock received for the exercise price of stock options
2005
Year Ended December 31,
2004
2003
$
49,800
$
42,671
$
35,547
14,234
264
490
525
(28)
5,286
-
(11,864)
(9,540)
(59,311)
(1,633)
1,755
909
71,772
4,117
6,253
(411)
72,618
-
(21,093)
(32,196)
11,652
(51,713)
6,696
-
(86,654)
3,354
9,314
(7,454)
28,233
-
(10)
7,994
(7,698)
33,733
19,697
28,869
48,566
35,318
23,463
-
39,542
-
-
-
-
6,550
25,554
428
$
$
$
12,750
393
240
889
(883)
12,139
-
1,175
1,796
(28,804)
(846)
(1,493)
(509)
25,663
2,245
7,299
2,393
77,118
585
(13,156)
(40,931)
2,124
(79,395)
8,756
-
(122,017)
(7,782)
(120,332)
(13,326)
142,279
(2,550)
(13)
7,083
(5,634)
(275)
(45,174)
$
$
$
74,043
28,869
$
$
$
25,499
18,775
12,000
51,884
540
3,680
-
-
-
8,975
-
9,475
820
185
(586)
(919)
10,235
13
(777)
(3,080)
34,269
(1,436)
2,788
552
(13,360)
4,785
6,586
(3,397)
81,700
-
(10,678)
(32,448)
441
(63,799)
3,542
33
(102,909)
970
58,317
(4,631)
22,845
-
(215)
4,802
(2,575)
79,513
58,304
15,739
74,043
20,733
9,596
324
45,884
-
-
1,987
12,350
-
6,123
-
See accompanying notes to consolidated financial statements.
F-6
LITHIA MOTORS, INC.
AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
DECEMBER 31, 2005, 2004 and 2003
(1)
Summary of Significant Accounting Policies
Organization and Business
We are a leading operator of automotive franchises and retailer of new and used vehicles and
services. As of December 31, 2005, we offered 25 brands of new vehicles through 188 franchises in 94
stores in the Western United States and over the Internet. As of December 31, 2005, we operated 16
stores in Oregon, 14 in Texas, 12 in Washington, 12 in California, 7 in Idaho, 7 in Colorado, 7 in Alaska, 7
in Montana, 6 in Nevada, 3 in Nebraska, 2 in South Dakota and 1 in New Mexico. We sell new and used
cars and light trucks; sell replacement parts; provide vehicle maintenance, warranty, paint and repair
services; and arrange related financing, service contracts, protection products and credit insurance for
our automotive customers.
Principles of Consolidation
The accompanying financial statements reflect the results of operations, the financial position and
the cash flows for Lithia Motors,
Inc. and its directly and indirectly wholly-owned subsidiaries. All
significant intercompany accounts and transactions, consisting principally of intercompany sales, have
been eliminated upon consolidation.
Cash and Cash Equivalents
Cash and cash equivalents are defined as cash on hand and cash in bank accounts.
Contracts in Transit
Contracts in transit relate to amounts due from various lenders for the financing of vehicles sold
and are typically received within five days of selling a vehicle.
Trade Receivables
Trade receivables include amounts due from the following:
•
•
•
from customers for vehicles and service and parts business;
from manufacturers for factory rebates, dealer incentives and warranty reimbursement; and
from insurance companies, finance companies and other miscellaneous receivables.
Receivables are recorded at invoice cost and do not bear interest until such time as they are 60
days past due. Reserves for uncollectible accounts are estimated based on our historical write-off
experience and are reviewed on a monthly basis. Account balances are charged off against the reserve
after all means of collection have been exhausted and the potential for recovery is considered remote.
We do not have any off-balance sheet credit exposure related to our customers. A rollforward of our
allowance for doubtful accounts was as follows (in thousands):
Year Ended December 31,
Balance, beginning of period
Bad debt expense
Write-offs
Recoveries
Balance, end of period
2005
436
750
(1,796)
1,016
406
$
$
2004
462
613
(1,356)
717
436
$
$
2003
702
459
(1,422)
723
462
$
$
Inventories
Inventories are valued at the lower of market value or cost, using the specific identification
method for vehicles and parts. The cost of new and used vehicle inventories includes the cost of any
equipment added, reconditioning and transportation.
F-7
Vehicles Leased to Others and Related Leases Receivable
Vehicles leased to others are stated at cost and depreciated over their estimated useful
lives
(5 years) on a straight-line basis. Lease receivables result from customer, employee and fleet leases of
vehicles under agreements that qualify as operating leases. Leases are cancelable at the option of the
lessee after providing 30 days written notice. Vehicles leased to others are classified as current or non-
current based on the remaining lease term.
Assets Held for Sale
At December 31, 2005, assets held for sale of $27.4 million related to two dealerships held for
sale and were recorded on our balance sheet at the lower of book value or estimated fair market value,
less applicable selling costs. Assets held for sale of $135,000 at December 31, 2004 related to a building
held for sale, which was sold during 2005. See also Note 18.
Property, Plant and Equipment
Property, plant and equipment are stated at cost and are being depreciated over their estimated
useful lives, principally on the straight-line basis. The range of estimated useful lives is as follows:
Buildings and improvements
Service equipment
Furniture, signs and fixtures
40 years
5 to 10 years
5 to 10 years
The cost for maintenance, repairs and minor renewals is expensed as incurred, while significant
renewals and betterments are capitalized. In addition, interest on borrowings for major capital projects,
significant renewals and betterments is capitalized. Capitalized interest becomes a part of the cost of the
depreciable asset and is depreciated according to the estimated useful
lives as previously stated.
Capitalized interest totaled $946,000, $480,000 and $260,000, respectively, in 2005, 2004 and 2003.
When an asset is retired or otherwise disposed of, the related cost and accumulated depreciation
are removed from the accounts, and any gain or loss is credited or charged to income.
Leased property meeting certain criteria is capitalized and the present value of the related lease
payments is recorded as a liability. Amortization of capitalized leased assets is computed on a straight-
line basis over the term of the lease, unless the lease transfers title or it contains a bargain purchase
option, at which time, it is amortized over the useful
life, and is included in depreciation expense.
Leasehold improvements made at the inception of the lease or during the term of the lease are amortized
over the shorter of the life of the improvement or the remaining term of the lease. The payments on the
lease liability are amortized over the term of the lease.
Long-Lived Asset Impairment
Long-lived assets held and used by us and intangible assets with determinable lives are reviewed
for impairment whenever events or circumstances indicate that the carrying amount of assets may not be
recoverable in accordance with SFAS No. 144 “Accounting for the Impairment or Disposal of Long-Lived
Assets.” We evaluate recoverability of assets to be held and used by comparing the carrying amount of
an asset
If such assets are
considered to be impaired, the impairment to be recognized is measured as the amount by which the
carrying amount of the assets exceeds the fair value of the assets. Such reviews assess the fair value of
the assets based upon estimates of future cash flows that the assets are expected to generate. Long-
lived assets to be disposed of by sale are valued at the lower of book value or fair value less cost to sell.
to future net undiscounted cash flows to be generated by the asset.
Goodwill and Other Identifiable Intangible Assets
Goodwill represents the excess purchase price over fair value of net assets acquired, which is not
allocable to separately identifiable intangible assets. Other identifiable intangible assets represent the
franchise value of stores acquired since July 1, 2001, non-compete agreements and customer lists.
Except for our non-compete agreements and customer lists, all of our other identifiable intangible assets
have indefinite useful lives.
F-8
We determined that our franchise agreements have indefinite useful lives based on the following:
• Certain of our franchise agreements continue indefinitely by their terms;
• Certain of our franchise agreements have limited terms, but are routinely renewed without
•
substantial cost to us;
In the established retail automotive franchise industry, we are not aware of manufacturers
terminating franchise agreements against the wishes of the franchise owners, except under
extraordinary circumstances, and we have never had a franchise agreement
terminated
against our wishes. A manufacturer may pressure a franchise owner to sell a franchise when
they are in breach of the franchise agreement over an extended period of time. The franchise
owner is typically able to sell the franchise for market value.
State dealership franchise laws typically limit the rights of the manufacturer to terminate or
not renew a franchise unless there has been illegal activity on the part of the franchise owner;
• We are not aware of any legislation or other factors that would materially change the retail
•
•
automotive franchise system; and
As evidenced by our acquisition history, there is an active market for automotive dealership
franchises within the United States. We attribute value to the franchise agreements acquired
with the dealerships we purchase based on the understanding and industry practice that the
franchise agreements will be renewed indefinitely by the manufacturer.
Accordingly, we have determined that our franchise agreements will continue to contribute to our
cash flows indefinitely and, therefore, have indefinite lives.
Pursuant to SFAS No. 142, “Goodwill and Other Intangible Assets,” goodwill and other identifiable
intangible assets with indefinite useful lives are not amortized, but tested for impairment, at least annually,
in accordance with the provisions of SFAS No. 142. The impairment test is a two step process. The first
identifies potential
impairments by comparing the fair value of a reporting unit with its book value,
including goodwill and other identifiable intangible assets. We have determined that we operate as one
reporting unit. If the fair value of the reporting unit exceeds the carrying amount, goodwill and other
identifiable intangible assets are not impaired and the second step is not necessary. If the carrying value
exceeds the fair value, the second step includes determining the implied fair value through further market
research. The implied fair value of goodwill and other identifiable intangible assets is then compared with
the carrying amount to determine if an impairment loss is recorded.
We tested our goodwill and other identifiable intangible assets for impairment utilizing the
discounted cash flows method in accordance with the provisions of SFAS No. 142 as of December 31,
2005 and determined that no impairment losses were required to be recognized. Growth rates utilized in
the calculation were derived from the U.S. Census Bureau on population growth and the U.S. Department
of Labor, Bureau of Labor Statistics for historical consumer price index data. The discount rate applied to
the future cash flows was derived from a Capital Asset Pricing Model, which factors in an equity risk
premium and a risk free rate.
Unearned Compensation
Unearned compensation includes the value of restricted stock issued to employees for which
vesting provisions have not yet been met. The unearned compensation will be recognized over the
vesting periods of up to five years. We expect to expense approximately $0.3 million per year related to
our unearned compensation recorded as of December 31, 2005.
Incentives, Credits and Floor Plan Assistance
Manufacturers reimburse us for holdbacks, floor plan interest and advertising credits, which are
earned when each vehicle is purchased by us. The manufacturers reimburse us weekly, monthly or
quarterly depending on the manufacturer and the type of program. The manufacturers determine the
amount of the reimbursements based on many factors including the value and make of the vehicles
purchased. Pursuant
to EITF 02-16 “Accounting by a Customer (Including a Reseller) for Certain
Consideration Received from a Vendor,” we recognize advertising credits, floorplan interest credits,
F-9
holdbacks, cash incentives and other rebates received from manufacturers that are tied to specific
vehicles as a reduction to cost of goods sold as the related vehicles are sold. When amounts are
received prior to the sale of the vehicle, such amounts are netted against inventory until the vehicle is
sold.
We earn certain other cash incentives and rebates from the manufacturer when the vehicles are
sold to the customer. The amount of cash incentives and other rebates can vary based on the type and
number of models sold.
Advertising credits that are not tied to specific vehicles are earned from the manufacturer when
we submit reimbursement for qualifying advertising expenditures and are recognized as a reduction of
advertising expense upon manufacturer confirmation that our submitted expenditures qualify for such
credits.
Parts purchase discounts that we receive from the manufacturer are earned when certain parts or
volume of parts are purchased from the manufacturer and are recognized as a reduction to cost of good
sold as the related inventory is sold.
Advertising
We expense production and other costs of advertising as incurred as a component of selling,
general and administrative expense. Advertising expense, net of manufacturer cooperative advertising
credits of $5.2 million, $6.3 million and $5.9 million, was $19.3 million, $17.4 million and $19.4 million for
the years ended December 31, 2005, 2004 and 2003, respectively.
Environmental Liabilities and Expenditures
Accruals for environmental matters,
is
probable that a liability has been incurred and the amount of the liability can be reasonably estimated.
Accrued liabilities are exclusive of claims against third parties and are not discounted.
if any, are recorded in operating expenses when it
In general, costs related to environmental remediation are charged to expense. Environmental
the property and/or mitigate or prevent
costs are capitalized if such costs increase the value of
contamination from future operations.
We are aware of limited contamination at certain of our current and former facilities, and are in
the process of conducting investigations and/or remediation at some of these properties. Based on our
current information, we do not believe that any costs or liabilities relating to such contamination, other
environmental matters or compliance with environmental regulations will have a material adverse effect
on our cash flows, results of operations or financial condition. There can be no assurances, however, that
additional environmental matters will not arise or that new conditions or facts will not develop in the future
at our current or formerly owned or operated facilities, or at sites that we may acquire in the future, that
will result in a material adverse effect on our cash flows, results of operations or financial condition.
Income Taxes
Income taxes are accounted for under the asset and liability method as prescribed by SFAS No.
109 “Accounting for Income Taxes.” Deferred tax assets and liabilities are recognized for the future tax
consequences attributable to differences between the financial statement carrying amounts of existing
assets and liabilities and their respective tax bases and operating loss and tax credit carryforwards.
Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable
income in the years in which those temporary differences are expected to be recovered or settled. The
effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period
that includes the enactment date.
F-10
Computation of Per Share Amounts
Following is a reconciliation of the income from continuing operations and weighted average
shares used for our basic earnings per share (“EPS”) and diluted EPS (in thousands, except per share
amounts).
Year Ended December 31,
Basic EPS
Income from continuing
operations available to
common stockholders
Effect of Dilutive Securities
2 7/8% convertible senior
subordinated notes
Stock options and unvested
restricted stock
Diluted EPS
Income from continuing
operations available to
common stockholders
Antidilutive Securities
Shares issuable pursuant to
stock options not included
since they were antidilutive
2005
Income
from
Continuing
Operations
Per
Share
Amount
Shares
2004
Income
from
Continuing
Operations
Per
Share
Amount
Shares
2003
Income
from
Continuing
Operations
Per
Share
Amount
Shares
$51,793
19,175
$2.70
$44,074
18,773
$2.35
$35,817
18,289
$1.96
1,845
2,255
(0.19)
1,231
1,485
(0.11)
-
377
(0.05)
-
389
(0.05)
-
-
-
-
257
(0.03)
$53,638
21,807
$2.46
$45,305
20,647
$2.19
$35,817
18,546
$1.93
272
324
342
Concentrations of Credit Risk
Concentrations of credit risk with respect to trade receivables are limited due to the large number
of customers comprising our customer base. Receivables from all manufacturers accounted for 22.1%
and 22.0%, respectively, of total accounts receivable at December 31, 2005 and 2004. Included in the
22.1% is one manufacturer who accounted for 11.9% of
the total accounts receivable balance at
December 31, 2005. Included in the 22.0% is one manufacturer who accounted for 10.1% of the total
accounts receivable balance at December 31, 2004.
In addition, in 2005, 2004 and 2003, 35.5%, 36.8% and 35.6%, respectively, of our total revenue
was derived from the sale of new vehicles from two manufacturers.
Financial
instruments, which potentially subject us to concentrations of credit risk, consist
principally of cash deposits. We generally are exposed to credit risk from balances on deposit in financial
institutions in excess of the FDIC-insured limit.
Financial Instruments and Market Risks
The carrying amount of cash equivalents, contracts in transit, trade receivables, trade payables,
accrued liabilities and short-term borrowings approximates fair value because of the short-term nature of
these instruments.
Fair value estimates are made at a specific point in time, based on relevant market information
about the financial instrument. These estimates are subjective in nature and involve uncertainties and
matters of significant
judgment and therefore cannot be determined with precision. Changes in
assumptions could significantly affect the estimates.
We have variable rate floor plan notes payable and other credit line borrowings that subject us to
market risk exposure. At December 31, 2005 we had $580.5 million outstanding under such facilities at
interest rates ranging from 5.9% to 7.1% per annum, $530.5 million of which was outstanding under our
floorplan facilities. An increase or decrease in the interest rates would affect interest expense for the
period accordingly.
F-11
The fair market value of
to interest rate risk.
long-term fixed interest rate debt
Generally, the fair market value of fixed interest rate debt will increase as interest rates fall and decrease
as interest rates rise. If we refinanced at market rates in effect at December 31, 2005, we would pay an
additional $4.8 million in interest expense over the remaining lives, which is represented in the table
below as the difference between book value and fair value at December 31, 2005. The interest rate
changes affect the fair market value but do not impact earnings or cash flows. We monitor our fixed rate
debt regularly, refinancing debt that is materially above market rates. The book value of our fixed rate
debt and the fair value, based upon open market trades or on discounted cash flows, was as follows at
December 31, 2005 and 2004 (in thousands):
is subject
December 31,
Book value of fixed rate debt
Fair value of fixed rate debt
2005
200,446
195,645
$
$
2004
178,282
173,997
$
$
We also subject our self to credit risk and market risk by entering into interest rate swaps. See
below and also Note 7. We minimize the credit or repayment risk on our derivative instruments by
entering into transactions with high quality institutions, whose credit rating is higher than Aa.
Derivative Financial Instruments
We enter into interest rate swap agreements to reduce our exposure to market risks from
changing interest rates on our new vehicle floorplan lines of credit. The difference between interest paid
and interest received, which may change as market interest rates change, is accrued and recognized as
either additional floorplan interest expense, or a reduction thereof. If a swap is terminated prior to its
maturity, the gain or loss is recognized over the remaining original life of the swap if the item hedged
remains outstanding, or immediately if the item hedged does not remain outstanding.
If the swap is not
terminated prior to maturity, but the underlying hedged debt item is no longer outstanding, the interest
rate swap is marked to market, and any unrealized gain or loss is recognized immediately.
We account
for our derivative financial
instruments in accordance with SFAS No. 133,
“Accounting for Derivative Instruments and Hedging Activities,” as amended by SFAS No. 138,
“Accounting for Certain Derivative Instruments and Certain Hedging Activities-an amendment of FASB
Statement No. 133” and SFAS No. 137, “Accounting for Derivative Instruments and Hedging Activities”
(collectively, “the Standards”). The Standards require that all derivative instruments (including certain
derivative instruments embedded in other contracts) be recorded on the balance sheet as either an asset
or liability measured at its fair value, and that changes in the derivatives fair value be recognized currently
in earnings unless specific hedge accounting criteria are met. See also Note 7.
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
the amounts reported in the consolidated financial statements and related notes to financial
affect
statements. Changes in such estimates may affect amounts reported in future periods.
Estimates are used in the calculation of certain reserves maintained for charge backs on
estimated cancellations of service contracts, life, accident and disability insurance policies, and finance
fees from financial institutions. We also use estimates in the calculation of various accruals and reserves
including anticipated workers compensation premium expenses related to a retrospective cost policy,
estimated uncollectible accounts and notes receivable, discretionary bonus, environmental matters and
warranty.
F-12
Revenue Recognition
Revenue from the sale of vehicles is recognized upon delivery, when the sales contract is signed,
down payment has been received and funding has been approved from the lending agent. Fleet sales of
vehicles whereby we do not take possession of the vehicles are shown on a net basis in fleet and other
revenue.
Revenue from parts and service is recognized upon delivery of the parts or service to the
customer.
Finance fees earned for notes placed with financial
institutions in connection with customer
vehicle financing are recognized, net of estimated charge-backs, as finance and insurance revenue upon
acceptance of the credit by the financial institution.
Insurance income from third party insurance companies for commissions earned on credit life,
accident and disability insurance policies sold in connection with the sale of a vehicle are recognized, net
of anticipated cancellations, as finance and insurance revenue upon execution of the insurance contract.
Commissions from third party service contracts are recognized, net of anticipated cancellations,
as finance and insurance revenue upon sale of the contracts.
We may also participate in future underwriting profit, pursuant
to retrospective commission
arrangements, that would be recognized as income upon receipt.
Sales Returns
As is typical in the automotive retailing industry, we do not allow for sales returns for our new or
used vehicle sales, and have therefore not provided for an allowance for new or used vehicle sales
returns. Historically, we have not experienced sales returns. We allow for customer returns on sales of
our parts inventory up to 30 days after the sale. Most parts returns generally occur within one to two
weeks from the time of sale, and are not significant. We, therefore, have not provided for an allowance for
parts sales returns.
Debt Issuance Costs and Loan Origination Fees
Debt
issuance costs and loan origination fees paid,
including incremental direct costs of
completed loan agreements, are deferred and amortized over the life of the debt to which it relates and
are shown as an increase to the related interest expense.
Warranty
We offer a 60-day limited warranty on the sale of retail used vehicles. We estimate our warranty
liability based on the number of vehicles sold and an estimated claim cost per vehicle based on past
experience. Each year, we analyze the warranty charges related to our used vehicle sales and update
our per used vehicle warranty estimate. The estimated warranty is added to cost of sales upon sale of the
related vehicle. At December 31, 2005 and 2004, accrued warranty totaled $176,000 and $198,000,
respectively, and is included in other current liabilities on the consolidated balance sheets. A roll-forward
of our warranty liability for the years ended December 31, 2005, 2004 and 2003 was as follows (in
thousands):
Year Ended December 31,
Balance, beginning of period
Warranties issued
Reductions for warranty payments made
Adjustments and changes in estimates
Balance, end of period
2005
198
2,429
(2,434)
(17)
176
$
$
2004
220
2,574
(2,562)
(34)
198
$
$
$
$
2003
525
2,935
(2,918)
(322)
220
Comprehensive Income
Comprehensive income includes the unrealized gain or loss on investments and the fair value of
cash flow hedging instruments that are reflected in stockholders’ equity, net of tax, instead of net income.
F-13
Major Supplier and Franchise Agreements
We purchase substantially all of our new vehicles and inventory from various manufacturers at
the prevailing prices charged by auto makers to all franchised dealers. Our overall sales could be
impacted by the auto makers’ inability or unwillingness to supply the dealership with an adequate supply
of popular models.
We enter into agreements (the “Franchise Agreements”) with the manufacturers. The Franchise
Agreements generally limit the location of the dealership and provide the auto maker approval rights over
changes in dealership management and ownership. The automakers are also entitled to terminate the
the terms. Our ability to expand
Franchise Agreements if
operations depends, in part, on obtaining consents of the manufacturers for the acquisition of additional
dealerships. See also “Goodwill and Other Identifiable Intangible Assets” above.
the dealership is in material breach of
Stock-Based Compensation
Through December 31, 2005, we account for stock options using the intrinsic value method as
prescribed by Accounting Principles Board (APB) Opinion No. 25, “Accounting for Stock Issued to
Employees.” Pursuant to SFAS No. 148 “Accounting for Stock-Based Compensation - Transition and
Disclosure,” we have computed, for pro forma disclosure purposes, the impact on net income and net
income per share as if we had accounted for our stock-based compensation plans in accordance with the
fair value method prescribed by SFAS No. 123 “Accounting for Stock-Based Compensation” as follows (in
thousands, except per share amounts):
Year Ended December 31,
Net income, as reported
Add - Stock-based employee compensation expense included in reported
net income, net of related tax effects
-
total
Deduct
stock-based
expense
determined under the fair value based method for all awards, net of
related tax effects
Net income, pro forma
Basic net income per share:
employee compensation
As reported
Pro forma
Diluted net income per share:
As reported
Pro forma
2005
49,800
303
(2,480)
47,623
2.60
2.48
2.37
2.27
$
$
$
$
$
$
2004
42,671
148
(3,313)
39,506
2.27
2.10
2.13
1.99
$
$
$
$
$
$
2003
35,547
111
(3,140)
32,518
1.94
1.78
1.92
1.77
$
$
$
$
$
$
See Note 19 for a discussion of the adoption, effective January 1, 2006, of SFAS No. 123R,
“Share-Based Payment: an amendment of FASB Statements No. 123 and 95,” which requires companies
to recognize in their income statement the grant-date fair value of stock options and other equity-based
compensation issued to employees.
We used the Black-Scholes option pricing model and the following weighted average
assumptions in calculating the value of all options granted during the periods presented:
Year Ended December 31,
Employee Stock Purchase Plan
Risk-free interest rates
Dividend yield
Expected lives
Volatility
2005
2004
2003
2.32%
1.23%
3 months
28.18%
0.93% - 1.71%
0.99% - 1.45%
3 months
28.11% - 47.31%
0.89% - 1.22%
0.00% - 1.27%
3 months
42.59% - 50.14%%
Option Plans
Risk-free interest rates
Dividend yield
Expected lives
Volatility
3.58% - 3.71%
1.16% - 1.20%
5.4 years
41.92% - 42.04%
2.80%
1.04%
5.4 years
43.32%
2.50% - 3.00%
n/a
7.7 - 8.0 years
46.24% - 46.79%
F-14
The weighted average fair value of options granted during 2005, 2004 and 2003, before
estimated forfeitures, was $6.35, $8.55 and $3.84 per share, respectively. The fair value would be
amortized on a pro forma basis over the vesting period of the options, typically four to five years for
options granted from the 2001 Plan and three months for options granted from the Purchase Plan.
Segment Reporting
Based upon definitions contained within SFAS No. 131 “Disclosures about Segments of an
Enterprise and Related Information,” we have determined that we operate in one segment, automotive
retailing.
Reclassifications
In accordance with SFAS No. 144, “Accounting for the Impairment or Disposal of Long-Lived
Assets,” individual dealerships sold, terminated or classified as held for sale are required to be reported
as discontinued operations. During 2005, we completed the disposal of one dealership and, as of
December 31, 2005, had approved, but not yet completed, the disposition of two additional dealerships.
In accordance with the provisions of SFAS No. 144, the results of operations of these dealerships were
reported as discontinued operations for all periods presented. If, in future periods, we determine that a
dealership should be either reclassified from continuing operations to discontinued operations, or from
discontinued operations to continuing operations, previously reported consolidated statements of income
will be reclassified in order to reflect the current classification.
During the first quarter of 2005, we reclassified bank fees and bank card charges, net of cash
discounts earned, from other income (expense) to selling, general and administrative expense. The effect
on 2004 and 2003 was to decrease other expense by $2.6 million and $2.1 million, respectively, and
increase selling, general and administrative by like amounts.
In addition, in order to maintain consistency and comparability between periods, certain other
amounts in our consolidated financial statements have been reclassified from previously reported
balances to conform to the current year presentation.
(2)
Trade Receivables
Trade receivables consisted of the following (in thousands):
December 31,
Trade receivables
Vehicle receivables
Manufacturer receivables
Other
Less: Allowances
Total receivables, net
2005
14,822
14,906
23,569
1,099
54,396
(406)
53,990
$
$
2004
12,666
9,971
18,694
1,150
42,481
(436)
42,045
$
$
Vehicle receivables represent receivables from financial institutions for the portion of the vehicle
sales price financed by the customer.
(3)
Inventories and Related Notes Payable
The new and used vehicle inventory, collateralizing related notes payable, and other inventory
were as follows (in thousands):
December 31,
New and program vehicles
Used vehicles
Parts and accessories
Total inventories
2005
Inventory
Cost
491,486
87,853
26,708
606,047
$
$
Notes
Payable
530,452
-
-
530,452
$
$
2004
Inventory
Cost
427,134
84,739
24,637
536,510
$
$
Notes
Payable
450,860
-
-
450,860
$
$
F-15
The inventory balance is generally reduced by manufacturer holdbacks and incentives, while the
related floorplan liability is reflective of the gross cost of the vehicle. The floorplan liability, as shown in
Notes Payable in the above table, will generally also be higher than the inventory cost due to the timing of
the sale of a vehicle and payment of the related liability.
All new vehicles are pledged to collateralize floor plan notes payable to floorplan providers. The
floorplan notes payable bear interest, payable monthly on the outstanding balance, at a rate of interest
that varies by provider. The new vehicle floorplan notes are payable on demand and are typically paid
upon the sale of the related vehicle. As such, these floorplan notes payable are shown as current
liabilities in the accompanying consolidated balance sheets.
Ford Motor Credit, General Motors Acceptance Corporation and Volkswagen Credit have agreed
to floor all of our new vehicles for their respective brands with DaimlerChrysler Services North America
LLC and Toyota Motor Credit Corporation serving as the primary lenders for substantially all other brands.
These new vehicle lines are secured by new vehicle inventory of the relevant brands. Vehicles financed
by lenders not directly associated with the manufacturer are classified as floorplan notes payable: non-
trade and is included as a financing activity in our statements of cash flows. Vehicles financed by lenders
directly associated with the manufacturer are classified as floorplan notes payable and is included as an
operating activity.
At December 31, 2005 and 2004, used vehicles and parts and accessories inventory were
pledged to collateralize our used vehicle and working capital credit facility.
(4)
Property, Plant and Equipment
Property, plant and equipment consisted of the following (in thousands):
December 31,
Buildings and improvements
Service equipment
Furniture, signs and fixtures
Less accumulated depreciation – buildings
Less accumulated depreciation – equipment and other
Land
Construction in progress, buildings
Construction in progress, other
(5)
Goodwill and Other Intangible Assets
The roll forward of goodwill was as follows (in thousands):
Year Ended December 31,
Balance, beginning of year
Goodwill acquired and post acquisition adjustments
Goodwill included in assets held for sale
Goodwill included in gain or loss on disposal of franchises
and discontinued operations
Balance, end of year
2005
150,916
29,152
79,453
259,521
(11,358)
(31,622)
216,541
109,464
6,350
822
333,177
2005
244,532
21,865
(2,368)
$
$
$
2004
129,687
25,373
70,804
225,864
(8,110)
(25,922)
191,832
95,583
9,196
3,020
299,631
2004
207,027
37,505
-
(3,130)
260,899
-
244,532
$
$
$
$
$
The amount of goodwill assigned to a discontinued operation is generally determined based on
the subject dealership’s discounted cash flows as it relates to the discounted cash flows of the reporting
unit.
At December 31, 2005 and 2004, other intangible assets included the value of
franchise
agreements and non-compete agreements. At December 31, 2005, it also included customer lists. The
value attributed to franchise agreements has an indefinite useful life and non-compete agreements and
customer lists are amortized on a straight-line basis over the life of the agreements, typically 3 to 5 years.
F-16
The gross amount of other intangible assets and the related accumulated amortization for non-
compete agreements and customer lists were as follows (in thousands):
December 31,
Franchise value
2005
50,161
2004
44,602
$
$
Non-compete agreements and
customer lists
Accumulated amortization
Net non-compete agreements and
customer lists
175
(89)
86
110
(63)
47
Total other intangible assets, net
$
50,247
$
44,649
Amortization expense related to the non-compete agreements and customer lists totaled $26,000,
the years ended December 31, 2005, 2004 and 2003.
$24,000 and $21,000,
Amortization of non-compete agreements and customer lists is as follows over the next five years (in
thousands):
respectively,
for
2006
2007
2008
2009
2010
$
35
15
13
13
10
(6)
Trade Payables
Trade payables consisted of the following (in thousands):
December 31,
Trade payables
Lien payables
Manufacturer payables
Other
Total trade payables
2005
10,450
10,832
4,744
4,891
30,917
$
$
2004
9,275
8,192
4,630
4,703
26,800
$
$
Lien payables represent amounts owed to financial institutions for customer vehicle trade-ins.
(7)
Derivative Financial Instruments
We have entered into interest rate swaps to manage the variability of our interest rate exposure,
thus leveling a portion of our interest expense in a rising or falling rate environment.
We have effectively changed the variable-rate cash flow exposure on a portion of our flooring
debt to fixed-rate cash flows by entering into receive-variable, pay-fixed interest rate swaps. Under the
interest rate swaps, we receive variable interest rate payments and make fixed interest rate payments,
thereby creating fixed rate flooring debt.
We do not enter into derivative instruments for any purpose other than to manage interest rate
exposure. That is, we do not engage in interest rate speculation using derivative instruments.
As of December 31, 2005, we have outstanding the following interest rate swaps with U.S. Bank
Dealer Commercial Services:
•
•
•
effective January 26, 2003 – a five year, $25 million interest rate swap at a fixed rate of
3.265% per annum, variable rate adjusted on the 26th of each month;
effective February 18, 2003 – a five year, $25 million interest rate swap at a fixed rate of
3.30% per annum, variable rate adjusted on the 1st and 16th of each month;
effective November 18, 2003 – a five year, $25 million interest rate swap at a fixed rate of
3.65% per annum, variable rate adjusted on the 1st and 16th of each month;
F-17
•
•
•
effective November 26, 2003 – a five year, $25 million interest rate swap at a fixed rate of
3.63% per annum, variable rate adjusted on the 26th of each month;
effective March 9, 2004 – a five year, $25 million interest rate swap at a fixed rate of 3.25%
per annum, variable rate adjusted on the 1st and 16th of each month; and
effective March 18, 2004 – a five year, $25 million interest rate swap at a fixed rate of 3.10%
per annum, variable rate adjusted on the 1st and 16th of each month.
We earn interest on all of the interest rate swaps at the one-month LIBOR rate. The one-month
LIBOR rate at December 31, 2005 was 4.39% per annum.
The fair value of our interest rate swap agreements represents the estimated receipts or
payments that would be made to terminate the agreements. These amounts are recorded as deferred
gains or losses in our consolidated balance sheet with the offset recorded in accumulated other
comprehensive income, net of tax. The amount of deferred gains and losses at December 31, 2005 were
$5.4 million and $0, respectively. The difference between interest earned and the interest obligation
results in a monthly settlement, which is reclassified from accumulated other comprehensive income to
the statement of operations as a component of flooring interest expense. The resulting cash settlement
reduces the amount of deferred gains and losses. Because the critical terms of the interest rate swaps
and the underlying debt obligations are the same, there was no ineffectiveness recorded in interest
expense.
If, in the future, the interest rate swap agreements were determined to be ineffective or were
terminated before the contractual termination date, or if it became probable that the hedged variable cash
flows associated with the variable rate borrowings would stop, we would be required to reclassify into
earnings all or a portion of the deferred gains or losses on cash flow hedges included in accumulated
other comprehensive income.
At current interest rates, we estimate that we will recognize interest savings, net of tax, of
approximately $0.9 million related to our interest rate swaps during 2006.
A roll-forward of our accumulated derivative gains and (losses) was as follows (in thousands):
Year Ended December 31,
Balance, beginning of period
Net derivative gains (losses)
Net amount reclassified into earnings
Balance, end of period
2005
789
2,070
457
3,316
$
$
2004
(1,468)
(254)
2,511
789
2003
(2,509)
(1,140)
2,181
(1,468)
$
$
$
$
(8)
Lines of Credit and Long-Term Debt
Lines of Credit
We have a working capital and used vehicle flooring credit facility with DaimlerChrysler Services
North America LLC and Toyota Motor Credit Corporation, totaling up to $150 million, which expires May
1, 2008. This credit facility is cross-collateralized and secured by cash and cash equivalents, new and
used vehicles on a subordinated basis to the extent not specifically financed by other lenders, parts
inventories, accounts receivable,
intangible assets and equipment. We pledged to DaimlerChrysler
Services and Toyota Motor Credit the stock of all of our dealership subsidiaries except entities operating
BMW, Honda, Nissan or Toyota stores. The commitments under this credit agreement may be withdrawn
under various events of default or certain changes in control of Lithia.
The financial covenants in our agreement with DaimlerChrysler Services and Toyota Motor Credit
require us to maintain compliance with, among other things, (i) a specified current ratio; (ii) a specified
fixed charge coverage ratio; (iii) a specified interest coverage ratio; (iv) a specified adjusted leverage
ratio; and (v) certain working capital levels. At December 31, 2005, we were in compliance with all of the
covenants of this agreement.
F-18
We have a credit facility with U.S. Bank N.A., which provides for a $50.0 million revolving line of
credit for leased vehicles and equipment purchases and expires May 1, 2007. The financial covenants in
our agreement with U.S. Bank N.A. require us to maintain compliance with, among other things, (i) a
specified current ratio; (ii) a specified fixed charge coverage ratio; (iii) a minimum total net worth; and (iv)
a minimum tangible net worth. At December 31, 2005, we were in compliance with all of the covenants of
this agreement. The commitments under this credit agreement may be withdrawn under various events of
default or certain changes in control of Lithia.
Pursuant to our $150 million credit agreement with DaimlerChrysler Services North America LLC
and Toyota Motor Credit Corporation, total dividends and repurchases of our common stock cannot
exceed $18.0 million over the term of the agreement. Through December 31, 2005, over the term of the
agreement, we have paid dividends and repurchased stock totaling $16.6 million. This credit agreement
was amended in February 2006 to increase the total allowable dividends and stock repurchases to $25.0
million.
Interest rates on all of the above facilities ranged from 5.9% to 7.1% at December 31, 2005.
Amounts outstanding on the lines at December 31, 2005, together with amounts remaining available
under such lines were as follows (in thousands):
New and program vehicle lines
Working capital and used vehicle line
Equipment/leased vehicle line
Outstanding at
December 31, 2005
$530,452
-
50,000
$580,452
Remaining Availability
as of
December 31, 2005
$
*
150,000
-
$150,000
_________
* There are no formal limits on the new and program vehicle lines with certain lenders.
Senior Subordinated Convertible Notes
In May 2004, we sold $85.0 million of 2.875% senior subordinated convertible notes (the “Notes”) due
2014 through a Rule 144A offering to qualified institutional buyers. We will also pay contingent interest on
the notes during any six-month interest period beginning May 1, 2009, in which the trading price of the
Notes for a specified period of time equals or exceeds 120% of the principal amount of the Notes. We
subsequently filed a registration statement with the SEC to register the resale of the notes and shares of
the Class A common stock in to which the notes are convertible. Net proceeds from this offering were
approximately $82.5 million. The Notes are convertible into shares of our Class A common stock at a
price of $37.69 per share (or 26.53 shares per $1,000 of Notes) upon the satisfaction of certain conditions
and upon the occurrence of certain events as follows:
•
•
•
if, prior to May 1, 2009, and during any calendar quarter, the closing sale price of our
common stock exceeds 120% of the conversion price for at least 20 trading days in the 30
consecutive trading days ending on the last trading day of the preceding calendar quarter;
if, after May 1, 2009, the closing sale price of our common stock exceeds 120% of the
conversion price;
if, during the five business day period after any five consecutive trading day period in which
the trading price per $1,000 principal amount of Notes for each day of such period was less
than 98% of the product of the closing sale price of our common stock and the number of
shares issuable upon conversion of $1,000 principal amount of the Notes;
if the Notes have been called for redemption; or
upon certain specified corporate events.
•
•
A declaration and payment of a dividend in excess of $0.08 per share per quarter will result in an
adjustment in the conversion rate for the Notes if such adjustment exceeds 1% of the current conversion
rate. We declared a dividend of $0.12 per share in July 2005 and again in October 2005. The affect of
F-19
such dividends does not yet reach the 1% threshold amount and no adjustment in the conversion rate is
currently required.
The Notes are redeemable at our option beginning May 6, 2009 at the redemption price of 100%
of the principal amount plus any accrued interest. The holders of the Notes can require us to repurchase
all or some of the Notes on May 1, 2009 and upon certain events constituting a fundamental change or a
termination of trading. A fundamental change is any transaction or event in which all or substantially all of
our common stock is exchanged for, converted into, acquired for, or constitutes solely the right to receive,
consideration that is not all, or substantially all, common stock that is listed on, or immediately after the
transaction or event, will be listed on, a United States national securities exchange. A termination of
trading will have occurred if our common stock is not listed for trading on a national securities exchange
or the NASDAQ stock market.
Our earnings to fixed charge coverage ratio, as defined in the Notes, was 3.03 for 2005.
Summary
Long-term debt consisted of the following (in thousands):
December 31,
Variable Rate Debt:
Equipment and leased vehicle line of credit, expiring May 2007
Mortgages payable in monthly installments of $386,
including interest between
2005
2004
$
50,000
$
40,686
6.19% and 8.43%, maturing through April 2024; secured by land and buildings
44,090
52,382
Notes payable in monthly installments of $23, including interest between 0.0% and
7.1%, maturing at various dates through 2006; secured by vehicles leased to others
Notes payable related to acquisitions, with interest rate of 7.25%, maturing February
2008
Total Variable Rate Debt
Fixed Rate Debt:
2,704
2,194
179
96,973
331
95,593
2.875% senior subordinated convertible notes, due May 2014 with interest due semi-
annually in May and November of each year
85,000
85,000
Mortgages payable in monthly installments of $797,
including interest between
4.00% and 7.29%, maturing fully May 2022; secured by land and buildings
113,702
91,298
Notes payable related to acquisitions, with interest rates between 4.00% and 7.25%,
maturing at various dates through May 2009
Capital lease obligations, net of interest of $138, with monthly lease payments of $5
Total Fixed Rate Debt
Total Long-Term Debt
Less current maturities
1,235
509
200,446
297,419
(6,868)
290,551
$
1,454
530
178,282
273,875
(6,565)
267,310
$
The schedule of future principal payments on long-term debt as of December 31, 2005 was as
follows (in thousands):
Year Ending December 31,
2006
2007
2008
2009
2010
Thereafter
Total principal payments
$
$
6,868
63,112
38,276
23,435
9,509
156,219
297,419
(9)
Stockholders’ Equity
Class A and Class B Common Stock
The shares of Class A common stock are not convertible into any other series or class of our
securities. Each share of Class B common stock, however, is freely convertible into one share of Class A
common stock at the option of the holder of the Class B common stock. All shares of Class B common
stock shall automatically convert to shares of Class A common stock (on a share-for-share basis, subject
to the adjustments) on the earliest record date for an annual meeting of our stockholders on which the
number of shares of Class B common stock outstanding is less than 1% of the total number of shares of
F-20
common stock outstanding. Shares of Class B common stock may not be transferred to third parties,
except for transfers to certain family members and in other limited circumstances.
Holders of Class A common stock are entitled to one vote for each share held of record and
holders of Class B common stock are entitled to ten votes for each share held of record. The Class A
common stock and Class B common stock vote together as a single class on all matters submitted to a
vote of stockholders.
(10)
Cost of Sales
Cost of sales categorized by revenue category from continuing operations was as follows (in
thousands):
Year Ended December 31,
New vehicle sales
Used vehicle sales
Service, body and parts
Fleet and other
2005
1,543,620
707,096
158,793
21,468
2,430,977
$
$
2004
1,419,887
643,298
145,349
6,461
2,214,995
$
$
2003
1,299,850
634,525
128,935
4,290
2,067,600
$
$
(11)
Income Taxes
Income tax expense from continuing operations was as follows (in thousands):
Year Ended December 31,
Current:
Federal
State
Deferred:
Federal
State
Total
2005
25,593
3,664
29,257
4,086
615
4,701
33,958
$
$
2004
13,986
2,114
16,100
10,423
1,302
11,725
27,825
2003
11,516
1,707
13,223
9,406
1,050
10,456
23,679
$
$
$
$
At December 31, 2005, we had income taxes payable totaling $1.7 million and at December 31,
2004, we had prepaid income taxes totaling $2.2 million.
Individually significant components of the deferred tax assets and liabilities are presented below
(in thousands):
December 31,
Deferred tax assets:
Deferred revenue and cancellation reserves
Allowance and accruals
Total deferred tax assets
Deferred tax liabilities:
Inventories
Interest expense
Goodwill
Property and equipment, principally due to
differences in depreciation
Prepaids and property taxes
Total deferred tax liabilities
Total
2005
5,366
5,031
10,397
(4,677)
(3,045)
(29,185)
(15,632)
(863)
(53,402)
(43,005)
$
$
2004
4,801
4,163
8,964
(5,766)
(1,856)
(22,896)
(14,670)
(525)
(45,713)
(36,749)
$
$
In 2005, 2004 and 2003, income tax benefits attributable to employee stock option transactions of
$584,000, $415,000 and $138,000, respectively, were allocated to stockholders’ equity.
F-21
The reconciliation between amounts computed using the federal income tax rate of 35% and our
income tax expense from continuing operations for 2005, 2004 and 2003 is shown in the following
tabulation (in thousands):
Year Ended December 31,
Computed “expected” tax expense
State taxes, net of federal income tax benefit
Other
Income tax expense
2005
30,013
2,754
1,191
33,958
$
$
2004
25,165
2,208
452
27,825
$
$
2003
20,824
1,778
1,077
23,679
$
$
(12)
401(k) Profit Sharing Plan
full-time
We have a defined contribution 401(k) plan and trust covering substantially all
employees. The annual contribution to the plan is at the discretion of our Board of Directors. Contributions
of $1.8 million, $1.3 million and $0.6 million were recognized for the years ended December 31, 2005,
2004 and 2003, respectively. Employees may contribute to the plan as they meet certain eligibility
requirements.
(13)
Stock Incentive Plans
At our annual shareholders meeting in May 2005, our shareholders approved an amendment to,
and restatement of, our 2003 Stock Option Plan in the form of the 2003 Stock Incentive Plan (the “2003
Plan”). As amended in May 2005, the 2003 Plan allows for the granting of up to a total of 2.2 million
nonqualified stock options and shares of restricted stock to our officers, key employees and consultants.
We also have options outstanding and exercisable pursuant to their original terms pursuant to prior plans.
Options canceled under prior plans do not return to the pool of options to be granted again in the future.
All of the option plans are administered by the Compensation Committee of the Board and permit
accelerated vesting of outstanding options upon the occurrence of certain changes in control. Options
become exercisable over a period of up to ten years from the date of grant and at exercise prices as
determined by the Board. Beginning in 2004, the term of options granted has been reduced to six years.
At December 31, 2005, 2,548,906 shares of Class A common stock were reserved for issuance under the
plans, of which 1,321,222 were available for future grant.
Activity under the above plans was as follows (in thousands):
Balances, December 31, 2002
Options granted
Options canceled
Options exercised
Balances, December 31, 2003
Additional shares reserved
Options granted
Options canceled
Options exercised
Balances, December 31, 2004
Options granted
Options canceled
Options exercised
Non-vested stock issued
Non-vested stock forfeited
Balances, December 31, 2005
Shares
Available for
Grant
544
(16)
133
-
661
1,000
(337)
55
-
1,379
(105)
100
-
(62)
9
1,321
Shares Subject to
Options
1,498
16
(151)
(38)
1,325
-
337
(64)
(168)
1,430
105
(114)
(193)
-
-
1,228
Weighted Average
Exercise Price
$14.25
14.09
16.54
10.09
14.10
-
29.14
18.41
9.14
18.04
27.46
22.30
14.21
-
-
$19.06
The weighted average grant date fair value of non-vested stock issued in 2005 was $27.54. The
weighted average fair value of options granted pursuant to the 2003 Plan was $10.69, $11.52 and $8.20,
respectively, in 2005, 2004 and 2003.
F-22
The following table summarizes stock options outstanding at December 31, 2005:
Options Outstanding
Options Exercisable
Range of
Exercise Prices
$1.00
11.25 - 12.69
14.31 - 16.18
16.50 - 17.85
19.24 - 20.52
26.60 - 27.58
29.42
$1.00 - $29.42
Number of
Shares
Outstanding
71,000
137,976
221,438
249,559
172,400
103,004
272,307
1,227,684
Weighted
Average
Remaining
Contractual Life
(years)
5.1
5.0
6.6
3.8
6.0
5.2
4.2
5.0
Weighted
Average
Exercise
Price
$ 1.00
11.82
15.16
16.71
19.28
27.48
29.42
$19.06
Number of
Shares
Exercisable
69,000
136,776
45,658
225,323
40,200
11,000
6,000
533,957
Weighted
Average
Exercise
Price
$ 1.00
11.82
15.18
16.70
19.24
26.60
29.42
$13.83
At December 31, 2004 and 2003, 513,049 and 527,250 shares were exercisable at weighted
average exercise prices of $15.14 and $12.99, respectively.
In 1998,
the Board of Directors and the stockholders approved the implementation of an
Employee Stock Purchase Plan (the “Purchase Plan”), and, as amended, have reserved a total of 1.75
million shares of Class A common stock for issuance thereunder. The Purchase Plan is intended to
qualify as an “Employee Stock Purchase Plan” under Section 423 of the Internal Revenue Code of 1986,
as amended, and is administered by the Compensation Committee of the Board. Eligible employees are
entitled to invest up to 10% of their base pay for the purchase of stock up to $25,000 of fair market value
of our Class A common stock annually. Prior to April 1, 2005, the purchase price for shares purchased
under the Purchase Plan was 85% of the lesser of the fair market value at the beginning or end of the
purchase period. Beginning April 1, 2005, the purchase price is equal to 85% of the fair market value at
the end of the purchase period. A total of 256,036, 281,357 and 375,988 shares of our Class A common
stock were issued under the Purchase Plan during 2005, 2004 and 2003, respectively, and 284,460
remained available for issuance at December 31, 2005.
(14)
Dividend Payments
For the period January 1, 2003 through December 31, 2005, we declared and paid dividends as
follows (total amount of dividend in thousands):
Quarter related to:
2003
Second quarter
Third quarter
Fourth quarter
2004
First quarter
Second quarter
Third quarter
Fourth quarter
2005
First quarter
Second quarter
Third quarter
Dividend
amount per
share
Total
amount of
dividend (in
thousands)
$0.07
0.07
0.07
0.07
0.08
0.08
0.08
0.08
0.12
0.12
$1,283
1,291
1,304
1,312
1,506
1,512
1,528
1,536
2,312
2,322
See also Note 20 for information regarding the declaration of a dividend related to the fourth
quarter of 2005.
F-23
(15)
Commitments and Contingencies
Leases
We lease certain of our facilities under non-cancelable operating leases. These leases expire at
various dates through 2030. Certain lease commitments contain fixed payment
increases at
predetermined intervals over the life of the lease, while other lease commitments are subject to escalation
clauses of an amount equal to the increase in the cost of living based on the “Consumer Price Index -
U.S. Cities Average - All Items for all Urban Consumers” published by the U.S. Department of Labor.
Lease expense is recognized on a straight-line basis over the life of the lease.
Leasehold improvements made at the inception of the lease or during the term of the lease are
amortized over the shorter of the life of the improvement or the remaining term of the lease. The
payments on the lease liability are amortized over the term of the lease.
The minimum lease payments under the operating leases after December 31, 2005 were as
follows (in thousands):
Year Ending December 31,
2006
2007
2008
2009
2010
Thereafter
Total minimum lease payments
Less: sublease rentals
$
20,931
19,502
18,039
15,001
12,565
40,671
126,709
(3,322)
$ 123,387
Rental expense for all operating leases was $18.7 million, $18.8 million and $18.2 million for the
years ended December 31, 2005, 2004 and 2003, respectively.
Primarily in connection with dispositions of dealerships, we occasionally assign or sublet our
interests in any real property leases associated with such dealerships to the purchaser. We often retain
responsibility for the performance of certain obligations under such leases to the extent that the assignee
or sublessee does not perform, whether such performance is required prior to or following the assignment
of subletting of the lease. Additionally, we generally remain subject to the terms of any guarantees made
by us in connection with such leases. However, we generally have indemnification rights against the
assignee or sublessee in the event of non-performance, as well as certain other defenses. We may also
be called upon to perform other obligations under these leases, such as environmental remediation of the
premises or repairs upon termination of the lease. Although we currently have no reason to believe that
we will be called upon to perform any such services,
there can be no assurance that any future
performance required by us under these leases will not have a material adverse effect on our financial
condition or results of operations. Lease rental payments under assigned or sublet leases for their
remaining terms totaled approximately $3.3 million at December 31, 2005.
Capital Commitments
We had capital commitments of $21.8 million at December 31, 2005 for the construction of five
new facilities, additions to two existing facilities and the remodel of two facilities. Three of the new
facilities will be for our Toyota dealerships in Springfield, Oregon, Klamath Falls, Oregon and Odessa,
Texas. The other two new facilities are for our Dodge dealership in Sioux Falls, South Dakota and for our
Mercedes dealership in Spokane, Washington. We have already incurred $5.4 million for these projects
and anticipate incurring the remaining $21.8 million in 2006. We expect to pay for the construction out of
existing cash balances until completion of the projects, at which time we anticipate securing long-term
financing and general borrowings from third party lenders for 70% to 90% of the amounts expended.
F-24
Charge-Backs for Various Contracts
We have recorded a reserve for our estimated contractual obligations related to potential charge-
backs for vehicle service contracts, lifetime oil change contracts and other various insurance contracts
that are terminated early by the customer. At December 31, 2005, this reserve totaled $13.1 million.
Based on past experience, we estimate that the $13.1 million will be paid out as follows: $7.9 million in
2006; $3.5 million in 2007; $1.3 million in 2008; $0.3 million in 2009; and $0.1 million thereafter.
Litigation
We are party to numerous legal proceedings arising in the normal course of our business. While
we cannot predict with certainty the outcomes of these matters, we do not anticipate that the resolution of
these proceedings will have a material adverse effect on our business, results of operations, financial
condition, or cash flows.
On November 25, 2003, Aimee Phillips filed a lawsuit in the U.S. District Court for the District of
Oregon (Case No. 03-3109-HO) against Lithia Motors, Inc. and two of its wholly-owned subsidiaries
alleging violations of state and federal RICO laws, the Oregon Unfair Trade Practices Act (“UTPA”) and
common law fraud. Ms. Phillips seeks damages, attorney’s fees and injunctive relief. Ms. Phillips’
complaint stems from her purchase of a Toyota Tacoma pick-up truck on July 6, 2002. On May 14, 2004,
we filed an answer to Ms. Phillips’ Complaint. This case was consolidated with the Allen case described
below and has a similar current procedural status.
On April 28, 2004, Robert Allen and 29 other plaintiffs (“Allen Plaintiffs”) filed a lawsuit in the U.S.
District Court for the District of Oregon (Case No. 04-3032-HO) against Lithia Motors, Inc. and three of its
wholly-owned subsidiaries alleging violations of state and federal RICO laws, the Oregon UTPA and
common law fraud. The Allen Plaintiffs seek damages, attorney’s fees and injunctive relief. The Allen
Plaintiffs’ Complaint stems from vehicle purchases made at Lithia dealerships between July 2000 and
April 2001. On August 27, 2004, we filed a Motion to Dismiss the Complaint. On May 26, 2005, the
Court entered an Order granting Defendants’ Motion to Dismiss plaintiffs’ state and federal RICO claims
with prejudice. The Court declined to exercise supplemental jurisdiction over plaintiffs’ UTPA and fraud
claims. Plaintiffs filed a Motion to Reconsider the dismissal Order. On August 23, 2005, the Court
granted Plaintiffs’ Motion for Reconsideration and permitted the filing of a Second Amended Complaint
(“SAC”). On September 21, 2005, the Allen Plaintiffs, along with Ms. Phillips, filed the SAC.
In this
complaint, the Allen plaintiffs seek actual damages that total less than $500,000, trebled, approximately
$3.0 million in mental distress claims, trebled, punitive damages of $15.0 million, attorney’s fees and
injunctive relief. The SAC added as defendants certain officers and employees of Lithia.
In addition, the
SAC added a claim for relief based on the Truth in Lending Act (“TILA”). On November 14th, 2005 we
filed a second Motion to Dismiss the Complaint and a Motion to Compel Arbitration and are now awaiting
the Court’s ruling.
On September 23, 2005, Maria Anabel Aripe and 19 other plaintiffs (“Aripe Plaintiffs”) filed a
lawsuit in the U.S. District Court for the District of Oregon (Case No. 05-3083-HO) against Lithia Motors,
Inc., 12 of its wholly-owned subsidiaries and certain officers and employees of the Company, alleging
violations of state and federal RICO laws, the Oregon UTPA, common law fraud and TILA. The Aripe
Plaintiffs seek actual damages of less than $600,000, trebled, approximately $3.7 million in mental
distress claims, trebled, punitive damages of $12.6 million, attorney’s fees and injunctive relief. The Aripe
Plaintiffs’ Complaint stems from vehicle purchases made at Lithia dealerships between May 2001 and
August 2005 and is substantially similar to the allegations made in the Allen case.
We intend to vigorously defend all matters and management believes that the likelihood of a
judgment for the amount of damages sought in any of the cases is remote.
F-25
(16)
Related Party Transactions
Mark DeBoer Construction
During 2005, 2004 and 2003, Lithia Real Estate, Inc. paid Mark DeBoer Construction, Inc. $0.8
million, $1.6 million, and $1.6 million, respectively, for remodeling certain of our facilities. Mark DeBoer is
the son of Sidney B. DeBoer, our Chairman and Chief Executive Officer. These amounts included
$162,000, $0.7 million and $0.9 million, respectively, paid for subcontractors and materials, $102,000,
$42,000 and $102,000, respectively for permits, licenses, travel and various miscellaneous fees, and
$521,000, $880,000 and $638,000, respectively, for contractor fees. We believe the amounts paid are fair
in comparison with fees negotiated with independent third parties and all significant transactions are
reviewed and approved by our independent audit committee.
(17)
Acquisitions
The following acquisitions were made in 2005:
•
In January 2005, we acquired a Chrysler and Jeep franchise in Concord, California. The
franchises were added to our Dodge store in that market. The store is now named Lithia
Chrysler Jeep Dodge of Concord.
In January 2005, we acquired a Chrysler franchise in Eugene, Oregon. The franchise was
added to our Dodge store in that market. The stores name is now Lithia Chrysler Dodge of
Eugene.
In February 2005, we acquired a Chrysler, Jeep, Dodge, Dodge Truck store in Omaha,
Nebraska. The store has anticipated annualized revenues of $110 million. The store was
renamed Lithia Chrysler Jeep Dodge of Omaha.
In April 2005, we acquired a Chrysler, Dodge, Dodge Truck store in Eureka, California. The
store has anticipated annualized revenues of $28 million. The store was renamed Lithia
Chrysler Dodge of Eureka.
In May 2005, we acquired a Chrysler, Jeep, Dodge, Dodge Truck store in Butte, Montana.
The store has anticipated annualized revenues of $26 million. The store was renamed Lithia
Chrysler Dodge Jeep of Butte.
In August 2005, we acquired a Chrysler, Dodge, Dodge Truck store in Wenatchee,
Washington. The store had annualized revenues of approximately $8 million. The store was
renamed Lithia Chrysler Dodge of Wenatchee.
In October 2005, we acquired a Honda store and Chrysler and Jeep franchises that were
added to our existing Dodge store in Midland, Texas. The combined stores and franchises
have anticipated annualized revenues of $24 million. The Honda store was renamed Honda
of Midland.
In November 2005, we acquired a Toyota and a Honda store in Abilene, Texas. The stores
have anticipated annualized revenues of $60 million. The stores were renamed Lithia Toyota
of Abilene and Honda of Abilene.
In December 2005, we acquired a Dodge store in Corpus Christi, Texas. The store has
anticipated annualized revenues of $60 million. The store was renamed Lithia Dodge of
Corpus Christi.
The following acquisitions were made in 2004:
•
In January 2004, we acquired one Chrysler and Jeep store in Reno, Nevada, which had
anticipated annual revenues of approximately $55.0 million. The store has been renamed
Lithia Chrysler Jeep of Reno.
In March 2004, we acquired one Chevrolet store in Helena, Montana, which had anticipated
annual revenues of approximately $40.0 million. The store has been renamed Chevrolet of
Helena.
In April 2004, we acquired Tony Chevrolet of Anchorage and Tony Chevrolet of Wasilla,
Alaska, which had anticipated combined annual revenues of approximately $125 million. The
stores have been renamed Chevrolet of South Anchorage and Chevrolet of Wasilla,
respectively.
•
•
•
•
•
•
•
•
•
•
F-26
•
•
•
•
•
•
•
In June 2004, we acquired the Saab dealership assets of Pacific Motors Group, Inc. The
Saab franchise purchased with this acquisition was combined with Chevrolet of South
Anchorage.
In July 2004, we acquired one Toyota store in Odessa, Texas, which had anticipated annual
revenues of approximately $20.0 million. The store has been renamed Lithia Toyota of
Odessa.
In September 2004, we acquired a Chrysler Dodge Jeep and a Honda store in Great Falls,
Montana, which had anticipated combined annual revenue of approximately $40 million. The
stores have been renamed Lithia Chrysler Dodge Jeep of Great Falls and Honda of Great
Falls, respectively.
In October 2004, we acquired a Chrysler and a Jeep franchise in Santa Rosa, California,
which had anticipated annual revenue of approximately $10 million. These franchises have
been combined with our existing Dodge store in Santa Rosa. The store is now named Lithia
Chrysler Dodge Jeep of Santa Rosa.
In October 2004, we acquired a BMW store in Anchorage, Alaska, which had anticipated
annual revenue of approximately $15 million. The store is now named BMW of Anchorage.
In November 2004, we acquired a Chrysler Jeep Dodge franchise in Santa Fe, New Mexico,
which had anticipated annual revenue of approximately $20 million. The store is now named
Lithia Chrysler Jeep Dodge of Santa Fe.
In November 2004, we acquired a Dodge store in Helena, Montana, which had anticipated
annual revenue of approximately $18 million. The store is now named Lithia Dodge of
Helena.
The above acquisitions were all accounted for under the purchase method of accounting. Pro
forma results of operations assuming all of the above acquisitions occurred as of January 1, 2004 were
as follows (in thousands, except per share amounts).
Year Ended December 31,
Total revenues
Net income
Basic earnings per share
Diluted earnings per share
$
$
2005
3,059,425
50,566
2.64
2.40
2004
3,112,860
47,515
2.53
2.36
There are no future contingent payouts related to any of the 2004 or 2005 acquisitions and no
portion of the purchase price was paid with our equity securities. During 2005 we acquired the eight
stores and twenty-four additional franchises discussed above for $51.7 million, which included $21.9
million of goodwill and $8.4 million of other intangible assets. During 2004, we acquired 12 stores for
$91.6 million, which included $38.0 million of goodwill and $15.6 million of other intangible assets. The
$51.7 million and $91.6 million for 2005 and 2004, respectively, are net of floorplan notes payable which
were assumed at the time of acquisition.
Within one year from the purchase date, we may update the value allocated to purchased assets
and the resulting goodwill balances based on pending information received regarding the valuation of
such assets. All of the goodwill from the above acquisitions is expected to be deductible for tax purposes.
(18)
Discontinued Operations
During 2005, we sold a building we had held for sale at December 31, 2004, sold one dealership
and classified two additional dealerships as discontinued operations, which are held for sale at December
31, 2005. During 2004, we disposed of the franchises included with a dealership we had held for sale at
December 31, 2003. During 2003, we sold one of our dealerships classified as discontinued operations.
We expect that the dealerships held for sale at December 31, 2005 will be sold during 2006.
F-27
Certain financial information related to discontinued operations was as follows (in thousands):
Year Ended December 31,
Revenue
Pre-tax income (loss)
Gain (loss) on disposal of discontinued operations, net of tax
Amount of goodwill and other intangible assets disposed of
$
2005
45,881
(3,328)
28
4,406
$
2004
116,411
(2,591)
302
1,629
2003
143,584
(1,068)
620
1,712
Interest expense is allocated to stores classified as discontinued operations for actual flooring
interest expense directly related to the new vehicles in the store. Interest expense related to the used
vehicle line of credit is allocated based on total used vehicle inventory of the store, and interest expense
related to the equipment line of credit is allocated based on the amount of fixed assets.
Assets held for sale included the following (in thousands):
December 31,
Inventories
Property, plant and equipment
Goodwill
Other intangible assets
2005
22,703
817
2,368
1,523
27,411
$
$
$
$
2004
-
135
-
-
135
Liabilities held for sale of $22.4 million at December 31, 2005 represented new vehicle flooring
notes payable related to the two dealerships held for sale.
(19)
Recent Accounting Pronouncements
In December 2004, the Financial Accounting Standards Board (“FASB”) issued SFAS No. 123R,
“Share-Based Payment: an amendment of FASB Statements No. 123 and 95,” which requires companies
to recognize in their income statement the grant-date fair value of stock options and other equity-based
compensation issued to employees. We adopted SFAS No. 123R on January 1, 2006. See Note 1
Summary of Significant Accounting Policies – Stock-Based Compensation above for the pro forma effects
of how SFAS No. 123 would have affected results of operations in 2005, 2004 and 2003. We do not
expect the results of SFAS No. 123R to be significantly different than those of applying SFAS No. 123.
In December 2004, the FASB issued SFAS No. 153, “Exchanges of Nonmonetary Assets.” SFAS
No. 153 amends APB Opinion No. 29, “Accounting for Nonmonetary Transactions,” by replacing the
exception for exchanges of similar productive assets with an exception for exchanges that do not have
commercial substance. A transaction has commercial substance if the future cash flows of the entity are
expected to change significantly as a result of the exchange. SFAS No. 153 is effective for fiscal periods
beginning after June 15, 2005. The adoption of SFAS No. 153 on July 1, 2005 did not have any effect on
our financial position, results of operations or cash flow.
In May 2005, the FASB issued SFAS No. 154, “Accounting Changes and Error Corrections: a
replacement of APB Opinion No. 20 and FASB Statement No. 3,” which requires companies to apply
most voluntary accounting changes retrospectively to prior financial statements. SFAS No. 154 is
effective for accounting changes and corrections of errors made in fiscal years beginning after December
15, 2005. Any future voluntary accounting changes made by us will be accounted for under SFAS No.
154 and will be applied retrospectively.
(20)
Subsequent Events
Dividend
In February 2006, our Board of Directors approved a dividend on our Class A and Class B
total
common stock of $0.12 per share for
approximately $2.3 million, will be paid on March 6, 2006 to shareholders of record on February 20, 2006.
the fourth quarter of 2005. The dividend, which will
Disposition
In February 2006, we disposed of one of our dealerships that was held for sale at December 31,
2005.
F-28
CORPORATE INFORMATION
Annual Meeting
The Company’s Annual Meeting of Shareholders will be held at 4:00 P.M., Thursday, May 11,
Ashland Springs Hotel, 212 East Main Street, Ashland, Oregon 97520. Notice of the meeting and
proxy statement materials are being sent to all shareholders. The Company’s Annual Report on Form
10-K for the year ended December 31, 2005, includes all information as filed with the Securities and
Exchange Commission, except exhibits.
Shareholder Communications
The Company welcomes your comments about its operations or any aspect of its business. Please
contact our Investor Relations Group at 1-541-776-6591.
Description of Business:
Automobile sales and service
Corporate Headquarters:
360 East Jackson Street, Medford, Oregon 97501
Trading Information
(As of March 1, 2006):
(NYSE - LAD)
19,489,003 shares issued and outstanding
Class A
Class B
15,726,772
3,762,231
Auditors:
KPMG LLP, Portland, Oregon
Legal Counsel:
Foster, Pepper and Tooze, Portland, Oregon
Transfer Agent:
Executive Officers:
Computershare Trust Company
350 Indian St., Suite 800
Golden, Colorado 80401
Sidney B. DeBoer, Chairman and Chief Executive Officer
M.L. Dick Heimann, President of Corporate Affairs
Bryan DeBoer, President and Chief Operating Officer
R. Bradford Gray, Executive Vice President
Don Jones, Jr., Senior Vice President, Retail Operations
Jeffrey B. DeBoer, Senior Vice President and Chief
Financial Officer
Lithia Board of Directors:
Sidney B. DeBoer
M.L. Dick Heimann
Thomas R. Becker
William J. Young
Gerald F. Taylor
Maryann Keller