AutoNation, Inc.

morning my name is charlie and i will be your conference operator today at this time i would like to welcome everyone to the auto nation fourth quarter 2021 earnings conference call all lines have been placed on mute to prevent any background noise after the speaker's remarks there will be a question and answer session if you would like to ask a question during this time simply press star followed by one on your telephone keypad if you would like to withdraw your question please press star followed by two thank you I would now like to turn the call over to Rob Cotaro, Vice President of Investor Relations. You may begin your conference.

Thank you. Good morning and welcome to AutoNation's fourth quarter and full year 2021 conference call and webcast. Please ensure that your lines are muted until the operator announces your turn to ask a question. Leading our call today will be Mike Manley, our Chief Executive Officer, and Joe Lauer, our Chief Financial Officer. Following their remarks, we will open up the call for questions. I will be available by phone following the call to address any additional questions that you may have. Before we begin, let me read our brief statement regarding forward-looking comments. Certain statements and information on this call, including any statements regarding our anticipated financial results and objectives, constitute forward-looking statements within the meaning of the Federal Private Securities Litigation Reform Act of 1995. Such forward-looking statements involve known and unknown risks. that may cause our actual results or performance to differ materially from such forward-looking statements. Additional discussions of factors that could cause our actual results to differ materially are contained in our press release issued earlier today and our FDC filings, including our most recent annual report on Form 10-K and subsequent quarterly reports on Form 10-Q and current reports on Form 8-K. And now I'll turn the call over to AutoNation's Chief Executive Officer, Mike Manley.

Yeah, thank you, Rob. Well, good morning, everybody, and thank you for joining us. Obviously, the main focus for today's call is naturally the presentation of Automation's fourth quarter results, which we'll also touch on the full year as well, which Joe and I are going to discuss in detail. But as this is my first call, I was also trying to think about what may be helpful for me to touch on in addition to the financial results. And I thought that, firstly, I'm going to give a brief overview of some of the things that I've been doing over the last three months. And then I'm going to go through the highlights of the group's performance and hand over to Joe, who will give you more of the fine detail. After that, I'm going to touch on a number of the key topics that have gained attention over the last few weeks. And in closing, before our Q&A, I thought I might give a nod to the future, which will be just a summary of some of my preliminary observations. So as you can imagine, when you join a new organization, particularly one that has a broad national footprint of retail locations and over 20,000 people in the field, you spend quite a lot of time traveling around the country. And today, I had the opportunity to visit a number of our franchise dealerships, including our most recent acquisitions, many of our Automation USA stores, our auction sites, and a number of our collision centers from coast to coast. Now obviously, I knew from my previous life that Automation was the largest automotive retailer in the United States. and that it also began to build additional brands, businesses, and capabilities at scale. But I have to genuinely say that reading about it on paper actually doesn't do it justice to what has been built and the talent that the organization possesses that I could actually see, feel, and get a sense of by actually visiting the locations. I think when you get the opportunity to travel to our dealerships and businesses, you really start to recognize the incredible assets that the group has been able to build, acquire, and develop. When I think about the 330 franchises in our dealerships, not only do the brands we represent account for 99% of all new vehicles sold in the US, but we're also fortunate to have a superbly balanced portfolio of the best automotive brands in the world, and they are located in some of the most exciting franchise territories. In addition to visiting our retail businesses, I've also met with a number of our OEM partners, and I have to say, unfortunately, I haven't been able to get around all of them, so for me, this is a big clear to do and finish list, and I'm looking forward to meeting with our partners that I haven't met yet. But I have to say, the ones that I have now been incredibly encouraged by our conversations, we've had what I would consider very frank exchanges of views, and very importantly, I've been able to see the brand and the product plans for the future, and for me, just makes representing fantastic brands even more exciting when you understand what's actually coming through the pipeline. Now, obviously, our franchise dealerships are an important core part of our group, and our scale gives us significant opportunities. What is also clear is that we're also developing businesses and platforms that will significantly expand our reach, and I think give us the opportunity to take advantages of things as they unveil in the future. As you know, we're building a strong focus used car brand with Automation USA, and as Joe will tell you in a minute, all of the stores we have, including those added in 2021, are up and running. They're profitable out of our expectations and adding happy customers to our growing family on a daily basis. And finally, and I think this is really important, the one thing you really do get a true feel of once you're on the inside on a day-to-day basis is the quality and the passion of the alternation team. It doesn't matter where I've been, either in our dealerships, our collision centers, in our corporate office, I think there's really a clear will to win and a customer and community-focused culture. So on this point, as a reality check, I do have to say I've never heard an incoming CEO say anything bad about the team he or she walked into. Certainly not, at least on the first phone call. And you no doubt probably expected me to compliment our people. But my comment actually goes well beyond gratitude. Because you can imagine our strong performance, how pleased I am with the team's delivery of a seventh consecutive record quarter. And I think we have to remember this is still delivered during very unusual times with significant disruption from lack of supply, winter COVID spikes and competition everywhere. And my comments actually go beyond that. They're made as much for the performance the team delivered as they are for the less visible selfless work they do in our communities in the fight against cancer. AutoNation's Drive Pink campaign was a true revelation to me. Not in the sense that an organisation was involved in social and community projects or charity works, Because actually, I think that's what organizations are supposed to do. But I was amazed to see just how many of our associates get involved on their own time to support Drive Pink and Drive Out Cancer. To date, the people of Alter Nation have raised over $30 million, which has been plowed into research, treatment, and care. Now, that is a team that I can tell you I'm already very proud of. Okay, so it just gives you a brief flavor of my first three months, and now I'm going to turn to our results. So you've seen from the numbers, We delivered another outstanding quarter and a very strong year. And today, as I already mentioned, we report our seventh consecutive record quarterly results with adjusted EPS of $5.76, which is an increase of $137, and revenue increasing by 797 million or 14% compared to the prior year. Now, this was driven by robust growth in used vehicle sales, consumer finance services, and after sales. Total units of the quarter declined by 1%, and that was driven by new vehicle sales down 20%, which was largely offset by an increase in 21% of used vehicle volume compared to the prior year. And with strong consumer demand, we continued to focus on our self-sourcing capabilities for used vehicles, which further strengthened both our franchise dealerships and our Alternation USA businesses. When I look at that, nearly 90% of all pre-owned vehicles vehicles retailed in the quarter were self-sourced via our acquisition strategy, which obviously includes all of the trade-ins. But now, increasingly, we buy your car program, which purchases directly from customers. And as a result, used vehicle revenue increased 55% for the quarter. Now, as I previously mentioned, AutoNation USA is a successful part of our plan. And in November, we opened AutoNation USA Avondale in Phoenix. and recently entered the new market with our 10th automation store, USA Store in Charlotte. Now, each new store opened in 2021 has exceeded expectations, as I said, profitable in the first full month of operation, and we remain on target to open 12 additional new stores over the next 12 months. I think our focus on margin expense control significantly contributed to our performance with strong new used financing insurance margin per unit, perhaps significantly year over year and in the quarter, and continues to our improvement in our after-sales business, which delivered an 11% increase in gross profit. I know it's been discussed before, but the ongoing expense control, something which, frankly, I consider structural in the business now, helped contribute to an overall increase in total store profits by over 150%. Now, with that, I'm going to hand you over to Joe, who's going to take you through the detail of the financials.

Thank you, Mike, and good morning, everyone. Today we reported fourth quarter total revenue of $6.6 billion, an increase of 14% year over year, driven by impressive growth in used vehicles of 55%, as well as double digit growth in both customer financial services and after sales. This was partially offset by a 7% decline in new vehicle revenue due to the continuing supply chain disruption to new vehicle production. Strong consumer demand and tight new vehicle inventories continue to support new vehicle margins in the fourth quarter. We expect demand to continue to exceed supply well into 2022. In addition, many consumers have shifted to used vehicles due to limited availability of new, which has been very beneficial as we continue to demonstrate exceptional growth supported by our self-sourcing capabilities an ongoing expansion of our AutoNation USA footprint. For the quarter, total variable gross profit increased 49% year-over-year, driven primarily by an increased total variable PBR of $2,026, or a 50% increase, with a slight decline in total units of 1%. As Mike mentioned, 21% growth in used units year-over-year largely offset a 20% decline in new units over the same period. We also demonstrated strong growth in after-sales gross profit, which increased 11% year-over-year. Taken together, our total gross profit increased 34% compared to the fourth quarter of 2020. Moving to costs, fourth quarter adjusted SG&A as percentage of gross profit was 56.7%, a 710 basis point improvement compared to the year-ago period. As measured against gross profit on an adjusted basis, our metrics improved across all key categories, with overhead decreasing 370 basis points, compensation decreasing 230 basis points, and advertising decreasing 110 basis points year over year. Longer term, we expect normalized SG&A to gross profit to be in the mid-60% range, well below our pre-pandemic levels that were consistently above 70%. This improvement is the result of structural changes that we have made to our business model. Floor plan interest expense decreased to $5 million in the fourth quarter of 2021 due primarily to lower average floor plan balances. Combined with a lower effective tax rate and fewer shares outstanding, we reported adjusted net income of $380 million or $5.76 per share, a 130% increase year over year. This results our seventh consecutive all-time high quarterly earnings per share result. Our strong operating performance and cash flow generation continue to provide us a significant capacity to deploy capital. During the fourth quarter, we closed on the previously announced acquisition of Priority One Automotive Group, adding $420 million in annual revenue. we remain focused on identifying additional acquisitions that allow us to expand our current portfolio and offer attractive long-term financial returns. As Mike discussed, we continue to see a tremendous opportunity to capture a larger share of the used vehicle market by leveraging our sourcing capabilities, rich data analytics, and AutoNation USA growth strategy. We recently opened our 10th AutoNation USA store in Charlotte, North Carolina, and expect to open 12 more stores over the next 12 months. Longer term, we continue to target over 130 stores by the end of 2026. We also continue to repurchase our own shares. During the fourth quarter, we repurchased 3.1 million shares for an aggregate purchase price of $382 million. This represents a 5% in shares outstanding from the end of the third quarter. The company has approximately $776 million available for additional share repurchase at this time. As of February 15th, there were approximately 62 million shares outstanding. We ended the fourth quarter with total liquidity of approximately 1.5 billion, and our covered leverage ratio of debt to EBITDA of 1.5 times remains well below our historical range of two to three times. Looking ahead, we will continue our disciplined capital allocation strategy, leveraging our strong balance sheet and cash flows, to invest in our business and drive long-term shareholder value. With that, I will turn the call back over to Mike.

Yeah, thanks, Joe. So strong results, as you can see. And again, congratulations to all of the automation team and their delivery. Just fantastic. So I do just want to add a couple of points that I think are important. You know, when I step back and think about the business and our results, I look to understand which of the key profit drivers are Let's say circumstantial to varying degrees, and which of the drivers are now structurally embedded in the grid? I think this is important because it's clear to me that some are mistakenly discounting all of the improvements in performance as totally temporary, and they're preferring to rely on 2019 as a more reliable baseline. And I think this is wrong, because now you can see they're clearly structural improvements that should translate into long-term value. So the business drivers that I consider in that category are improvements in F&I performance, which is more driven by a focus on product penetration rather than rate. I used volume, which is more related to sales effectiveness, operational focus, as well as additional USA stores. And finally, the SG&A control that Joe just mentioned again. And you can clearly see the benefits of that coming through in our net income margin. And in my view, we should continue to translate into value and not be so quickly discounted situational at this time. So obviously that leaves one of the biggest variables which is clearly new vehicle margin and naturally there's a lot of debate where this may go in the future. So in my opinion even though we will see some mitigation in per unit margin as supplies return to normal I have to believe that given all the learning through the pandemic and supply and demand dynamics that we've recently seen and the clear messages coming from the manufacturers we will not return to excessively high inventory levels that depress new vehicle margin for both the dealers and the OEMs. You know, I remember in my previous life, on quarterly discussions on calls like this, we spent a lot of time talking about break-even points and what level of SAR can you still make a profit, what level of SAR can't you make a profit. And if you look at the fourth quarter, it delivered a SAR under $13 million from my estimate, well below anyone would have been able to forecast And the levels of profitability for both OEMs and dealers clearly show the benefits of selling vehicles at MSRP. And what a concept, right? Selling at MSRP. So it has to be a learning. I think it's got to be that. By the way, while we're on the subject of retail price, we've seen a number of comments about vehicles being sold above MSRP, quoting the potential adverse impacts on brands and customers, which I understand. And by the way, last year, less than 2% of all the new vehicles sold by AutoNation were above MSRP. But this discussion on MSRP branded customers actually also adds to my optimism regarding new vehicle margins going forward. Because I think it's equally clear that significant discounting and high incentives can also damage a brand, which is another reason for our industry to balance appropriately supply and demand, and another reason why we may expect higher new vehicle margins than we have historically seen pre-COVID. So finally, let me briefly turn to the future. I think everybody recognizes the industry will go through a significant transformation. And that's not just in terms of product and powertrain, but in many other ways as well. When COVID is behind us, we'll see the emergence of additional mobility models and choices. We'll see changes in the way customers approach vehicle ownership and usage. And we will progressively see changes in how dealers and OEMs are traditionally competed. And for me, this is an exciting time. It offers many more opportunities and downsides. And now, I'm more convinced than ever, having seen under the hood of AutoNation, that the group can be well-placed and positioned to continue to grow and thrive. And AutoNation in the past has been known for its innovation and progressive approach, and you can be certain we're going to be taking this approach to the next level. As we see here today, we have over 11 million customers in our family already, and every year, an additional 3 million interactions. So we have the opportunity not only to leverage our brand, our scale, our strong bricks and mortar footprint, but also to build on our growing digital capabilities and expand our business model to ensure we have greater autonomy and control in our future. So obviously a lot more to come in the coming months, but I'd like to make one announcement that will help indicate some of what the future may hold for AlterNation. And that is I'm now creating a new executive role, and I'm delighted to announce Gianluca Campolone will be joining the group from March the 1st and assuming the position of EVP, Head of Mobility, Business Development and Strategy, and COO of Precision Parts. This role will report directly to me. Gianluca will also sit on Executive Committee. And I'm sure several of you will already know Gianluca. But for those of you who do not know him, he joined Alternation from McKinsey, where he was most recently serving a senior partner and leader of the advanced industry global practice and private equity industrial practice in North America. Jan Luther orchestrated a company-wide $1 billion digital business building program, and he spearheaded a global team on multiple billion-dollar mergers in the automotive sector. He's led a major dealer performance transformation at a leading North American commercial vehicle manufacturer, And in addition, very relevantly, he redesigned the multi-billion dollar used car business and multi-channel environment for a global auto manufacturer. So as you can tell, I'm incredibly excited about the future. I'm absolutely delighted that J.M. Luke has agreed to join our executive team. And I think, as you can tell, it bodes well for some of the things that I'm certain AutoNation and we can do that not only will give us a great future, but as I said, give us a lot more autonomy and control. over where we're going. So let me close. I think demand for vehicles continues to be strong. Used vehicle growth is robust, and we are going to continue, as Joe said, automation USA store expansion, and obviously we're going to look aggressively at opportunities to expand our customer-centric personal transportation solutions. So with that, I'll end my prepared remarks, and I think we can open it up for questions.

At this time, I would like to remind everyone in order to ask a question, please press start then the number one on your telephone keypad. We'll pause for just a moment to compile the Q&A roster. Our first question comes from Rick Nelson of Stevens. Your line is open. Please go ahead.

Thanks very much, Craig Corder. Nice to hear some of the purely learnings. I'd like to follow up on capital allocation priorities. Historically, it's favored stock buybacks versus acquisitions. I'd like to get your feel for that.

Yeah, thank you. I think that's a great question. And it's interesting, you know, as you look back, you say that it's favored Sherry Purchase. I think I would put it that Sherry Purchase has been the largest deployment of capital. It's not necessarily that it's been favored because as the group has developed, there's no doubt that they've continued to invest in maintenance capital on their existing businesses because they've looked to grow those businesses and continue to build the brand. And I think they've added some significant value some significant businesses to the portfolio but it is certain that when you've done that what automation has a great track record of is returning capital to our shareholders so when I think about 2021 for me it was a bit of an exceptional year and I talked to Joe about it obviously when I came into the organization and Joe's been very clear I think on calls and in discussions that while the company went through a transition obviously we're going to make sure we make those maintenance investments in the group we would make growth capital acquisitions, but really on very specific, very high-quality targets and continue with the program of share repurchase. So that's why I think you see the tremendous result in terms of the deployment last year. For me, and I think at our existing base, number one will always be make sure that we're spending the right level of capital, not excesses, the right level of capital on the maintenance of our business. And that, frankly, includes the transformation of our dealerships with full electrification facilities, making sure that our formats are where they are, supporting our OEM partners so that we as a network and us as a group are ready for the transformation of our business that will happen. Very focused on growth. So I think you will see to a large extent some rebalancing of our capital deployment towards growth. both organic with Automation USA, but also in organic growth, not necessarily 100% within our traditional sectors, but we're certainly looking for that. And as you know, we've been very clear, and I think our shareholders have appreciated it. We've also allocated capital going forward after those two things to maintain our strategy of repurchase. So to some extent, you will see a rebalance in terms of percentage capital allocation, but as Joe said, I think the discipline that's been there in the past will remain. We have significant headroom to be able to do things, and we are determined to make sure that we set the group up for the future.

Thanks for that color. I'm curious also how you see the dealership model evolving over the next five to ten years. a view out there that the OEMs are going to start going direct to consumer, this agency model, if you will. I'm curious your thoughts on that as well.

It's interesting. Every time I've been asked that question, it's always been pitched in the sense of what's the structure between OEMs and dealers and what do you think the structure is going to be? I'm going to re-pitch that question to you because Well, the way that I think things are going to evolve, they're going to evolve because customers' buying patterns and the way they want to buy a vehicle, the way they want to experience servicing is changing. So we as dealers and our OEMs obviously have to make sure that we adapt to that. And that's going to change relatively quickly, but it's still a large portion of the population that will very much enjoy bricks and mortar experience. So I don't tend to think of it necessarily as the OEMs are going to go direct to the market, because clearly there's an infrastructure in the United States with the franchise regulations that means we work in conjunction hand in glove. And I think the model will change, but I think as has been proven in the past, OEMs working with their dealers to create a seamless purchase experience that also gives great transparency on pricing, that is delivered with superb service, whether that is service to someone's house, their office, in the dealership, frankly, wherever they want that service to be. That's what OEMs and their dealers need to design. I think the franchise model is alive and well. I think, as always, it needs to develop into the future to make sure that the brands, the great brands we represent, get the great representation that customers also want. And that just is a reflection of changing environment patterns. That would kind of be the way I would reframe that question, and I'm excited working with the OEMs to make sure that we do have that seamless journey because they win, we win. They win, we win. Our customers win.

That all makes sense. Thanks a lot, and good luck.

Our next question comes from Rajat Gupta of J.P. Morgan. Your line is open. Please go ahead.

Oh, great. Thanks for taking the question. And congrats on the role, the quality of working with you. You know, maybe, you know, just to directly jump into F&I, you know, at $2,700 today, clearly pricing is playing a role on the finance piece of it. But, you know, once prices do get back closer to normalized levels, particularly on the used vehicle side, you know, what's a good normalized level we should think about for F&I, and maybe relatedly, given the scale of the business today, you know, along with the expansion of Audination USA, does moving into a captive lending business start to make sense? Thanks, and I have a follow-up.

So let's just talk about used car pricing, because we're always talking about, you know, these windfall effects from where we are at this moment in time. So I just want to break that number down a little bit and give you kind of my perspective on it. If you go all the way back to 2018 and you actually look at used car margin as a percentage of revenue rather than an absolute dollar amount, it hasn't moved more than 1%, really, between that period. So it's fluctuated up and down 1%, 1%, 1%. And obviously, we have seen an increase in used car retail prices. But the reality is, if I look at wholesale prices as well, and you take the gap between the increase in retail prices in used car and the increase in wholesale, i.e. in purchase prices of the cars to sell, and you use that as a proxy of a balance to fund, that hasn't really changed either over the period. So balance to fund, and I know this is kind of a blunt instrument, but balance to fund really hasn't changed. Margin really hasn't changed. I do expect the per units to come down because there's no perfect math to be able to do it. But I don't think it's going to be a devastating drop as we go into the future. So I think what's really driven our business is some improvement in the actual income from the increasing in prices. But as I mentioned, I think where we've really focused, and appropriately so, is how do we drive more penetration of ancillary products, like gap insurance, for example. interior protection, for example, exterior protection, for example, because these things, I think, are value added to our customers. I think these things that we can focus on really are immaterial to what's been happening with prices, and that's what has driven our improvement, I think, in our F&I income. So for sure, I'm not being naive in this position, but we're going to see some drop, I think, in rate, spread particularly as we see in increases in interest rates which are absolutely going to happen we all know that but i think for us i talk about these structural things that have changed in the business and those product sales so long as we continue to train our people so long as we consider continue to be able to explain what they are to our customers in a way where they can truly see the value shouldn't necessarily be hit in an adverse way just because we see price movement and i don't know if you want to add any color to that

Yeah, I mean, Mike, I think you nailed it. I think it reminds folks that when you look at our F&I, 70% of it is coming from product, not from financing per se. And versus some of our peers that have, frankly, the exact opposite mix, it's probably a bigger question. And that, I'll turn it back to Mike on the question on the captive capability.

Yeah, thanks, Joe. So, you know, I'm very interested in captive. Actually, beyond interest in a captive, I'm going to say pursuing a captive. I think it's important for the largest automotive retailer in the country to be able to offer finance through a captive where we can tailor-make services, where we can make sure that the relationships that we build with our customers are deep, where we can be flexible to make sure that we account for different cycles, different changes in buying habits. So I'm strongly in favour of that and I think given the volume that we're writing and our aspirations, particularly about building our standalone used car sites, particularly around building our standalone used car sites between now and 2026, it's absolutely appropriate for our executive committee to not just be looking at these opportunities but as I said in my opening comments, we're a group that has been used to not just innovation but also used to pushing our businesses, and I think this is an area where, let me say, aggressively looking, it's probably as close as I would put it right now, because it's something that I think really could add value in multiple ways, not just from a profit contribution perspective. So hopefully that answers your question.

Great. That's a really helpful color. Maybe just as a follow-up on, you know, you mentioned like some of the structural aspects that have changed, you know, maybe, you know, around sales force productivity and just personnel productivity. You know, in the slide deck, you mentioned, you know, mid-60s normalized as GMA2 grows as kind of a long-term level. But why is that the right number? And, you know, what kind of GPU levels does that assume? And maybe if you could share some metrics around like, you know, for Salesforce productivity today when it's tracking versus pre-COVID and how much opportunity there might be to improve that even further, even when inventory does start to come back.

Thanks. Yeah, I've got to tell you, that was Joe who said, you know, mid-60s. Frankly, I think we can push that down significantly. I think what he was trying to do was position his budget for this year, and it's not going to work on the land and the school, quite frankly. I couldn't give you the exact increase in percentage of productivity. What I can do is tell you that the deployment of some of the digital tools that have been discussed on previous calls, and obviously coming in as CEO, I look back at it and I talk to Mark Cannon. There is no doubt they have helped with our productivity because the provision of, let me say, more detailed access to customer information, for example, at the fingertips of our dealers and make them more productive. The fact that we use single pricing for our used vehicles removes quite a long period of potential haggling with our customers. So we have seen productivity improve, but I expect as we continue and as customers get more used to digital channels, e-commerce channels, that that productivity will move forward. So I don't think there's a perfect number. I think when people talk about this, they do it in the context of historical hurdle rate. And really, I think we need to be pushing these things further, but it has to be accompanied by tangible things in the business rather than just try and get our people to do even more. Because if you think about it, and we go through a transition to electrification, there will be quite a prolonged period of time when our sales executives will need to sit with our customers and talk to them about what does electrification mean? What does it mean to move from a gas engine to a battery power plant? What are the issues with charging? What are the issues with range? So the productivity gain that we're putting in place are not just to control our G&A, it's also to free us up and our people up so that we can start having more detailed, definitive conversations with our customers to support our OEM partners through to this transition in electrification because it is coming. We haven't reached an inflection point, but we will as prices of electrified vehicles and plug-in hybrids begin to drop. So I fully understand the question. I'm not in agreement with Joe's 65% plus. That doesn't mean to say that's not where we're going to add, but I think our aspirations obviously is to drive it further. Joe, you wanted to correct me.

No, no, I didn't want to correct you. The negotiation will go on. But what I did want to do just to add a little more detail to what structural means from our perspective. So as we always try to say, if you take SG&A down to three buckets, let's start with compensation. If you look at compensation, The deployment of digital tools and training has allowed us to operate on a same-store basis with 3,000 fewer associates than we had prior to the pandemic. And obviously, you can see as volumes have returned that we believe that is very sustainable. If you look at advertising, you can see that really no increase in advertising spend, yet obviously significant increases in overall volume, again, reflective of the digital tools that are allowing us to deploy those dollars much more effectively. And then if you look at overhead, again, with $120 million increase in gross profit, actual dollars of SG&A only or overhead only went up at $9 million, which was solely attributable to the acquisitions and the expansion of AutoNation USA. So I think we've demonstrated our ability to control costs as the business has continued to grow quite significantly. And that's clearly our model going forward, which we believe is quite sustainable.

Understood. Thanks for all the color and good luck.

The next question comes from John Murphy of Bank of America. Your line is open. Please go ahead.

Good morning, guys. And Mike, it's great to hear you in this new venue. Lots of opportunity here, maybe even more so than in your old job. I guess, Mike, just on Gianluca's role, I mean, as you embark on this, I mean, it's sort of an early indication, as you said, as to what you might do here. Is it fair to characterize that new role and what you're going after as greater optimization and incremental opportunity as opposed to any kind of real tear up of the business?

I think that's a really good characterization. I think that I'm a strong believer even though as we entered the pandemic we saw a pause in terms of the pursuit of different mobility models from the emerging customers in our business. I think when the pandemic is behind us I think with different capability in the group we are going to see opportunities in that area both on the retail side and also on the commercial side and I think that needs proper resource to be able to adequately flesh that out and make sure that's part of the business model going forward. The role will naturally have a big overlap on some of our core business but you know from a core business perspective from what I have looked at and what I've seen and worked for the team here they have already made huge strides in terms of the optimization of that business. And I think there will be overlap because some of the things that are developed in terms of new businesses will be deployed through the infrastructure that we have, whether that is our digital and call center infrastructure or, frankly, whether it's our bricks and mortar and our footprints. So there's going to be an overlap that will benefit what I call a core business. The great thing about alternation and the thing that really excites me is we have a very strong core business that has an incredible record of being profitable in good times and in bad times. And what we now need to make sure is we build our business out so that it's very competitive in five, ten years' time and that we take advantages of opportunities as they come on the table and we continue to maintain and grow our core business as we do that. So that's kind of the initial response I'll give to your question, John.

Okay. And then just a second question. You know, obviously very good used vehicle performance. It's tough to get these vehicles right now, as we all know, but you did a great job in sourcing there. Do you think, though, that as used vehicle, as new vehicle production ramps up and sales ramp up and there become more vehicles available, that the growth in volume will accelerate well beyond what you guys have been able to do in a very tough environment, and that will dwarf any maybe small pressure on GPUs. So, I mean, if you think about the Lagrangian, your marginal profit might go down a little bit, but your marginal volume is going to go up tremendously, and I wouldn't call it marginal. It might go up a lot. How do you think about that balance and that opportunity just as the market shifts back towards normal, Mike?

Well, I'm going to turn to our full score of results. I think our revenue was down 1%. And that was off a 20% drop in volume of new vehicles. And it wasn't just pricing. It was a 21% increase in used vehicles. And that's coming from two areas. It isn't just coming from the addition of the AutoNation USA stores that we've got. There's been an intense focus in our franchise stores to get ourselves to what I would call a basic level of new-to-use ratio. I think when I compare us against some other people, they've enjoyed a better new-to-use ratio, and I think we're accelerating and catching up quickly. So we'll come back to the availability question, but I do believe that the volume of used vehicles that we could sell is clearly one of the levers that we see to be able to offset and mitigate any drop in used vehicle margins. Because the reality is, if you get to the end of the pandemic and you haven't thought about what you need to look like at the end of the pandemic, then you're going to be a year behind where you need to be. So that's why we think about structural changes, and we try and be very honest with ourselves about win-full profit. Because if you imagine that you're going to maintain all of your new vehicle margin as a win-full profit in the next two years, if it happens, fantastic. But if you're planning for that, there may be some downside. So when I talk about us stepping back, it isn't just me. I think our management team stepped back and try and see it. Let me talk about sourcing, though. It is a true saying. It was true when I was selling cars 30 years ago. All of the good people that sell used cars are brilliant at buying them. And I'm going to add one thing to that. They're either brilliant at buying them or they're brilliant at making them. Because it is possible to put in place strategies where you effectively start making your used car inventory. And I don't say that in a flippant way. We sourced today 90% in Q4 of our used car inventory. And it came from our tradings both on our used sales, our tradings on our new sales, but also the work that's been put into the We Buy Your Car program. So I was very pleased with that profile because typically vehicles sourced from there carry a better margin, not huge, but a better margin than you would if you're in a competitive auction environment, particularly on that fourth quarter. So what I think would happen is if we start to grow vehicles, there will be a shift Some of the We Buy Your Cars will come in through the trade channel and won't just come through that channel, but it's got to be a big focus for us because just saying we're going to drive our used vehicle volume up is meaningless if we can't get the inventory to sell. So that's why those programs are important.

And then just lastly, one very short-term question, which you may or may not be willing to answer. It sounds like there was a little bit of disruption in January in the used vehicle market around Omicron. um to kind of jam things up a little bit on top of everything else that's going on um i'm just curious if you could comment on what you saw there and if that's something that was maybe more specific to some companies or was sort of more industry-wide it just it just seemed like there's and that seems like it's a short-term blip but just trying to understand your perspective on that no it's absolutely right there was a short-term blip interestingly enough the short-term blip was the speed for us to get used vehicles refurbished and on the lot because

Obviously, when we had that surge in Omnicron, we also got an increase in terms of unplanned absenteeism. So naturally for us, what we did was we put our technical support on our customer needs and customer requirements. And as much as we didn't like it, what it meant was we had to shift that resource to some extent off our own internal refurbishment. So for us, I would say quite transparently, it was a blip. It was driven by Omnicron, in my opinion. Big focus now, particularly as we're thankfully coming away from that wave, but I think it's a good observation. One of the most precious resources we have is our technical labor and its ability to cope with the work, not just customer pay, but also our internal work. And we obviously saw an impact there. We track it daily. It's improving. But it is a reality. And of course, we penalize our internal work, prioritize our customer work, which I think is the right thing to do.

Is it fair to say that that's normalized at this point or close to normalizing in mid-Feb or is there still a little bit of after effect there?

I have some. Jim Bender and I have some work to do.

Okay. All right. Thank you very much.

The next question comes from Adam Jonas of Morgan Stanley. Your line is open. Please go ahead.

Hey, Mike. Yeah, I echo what Murph said. When I heard you were coming to AutoNation, I said to myself, holy shit, I've got to upgrade this company right now. We've still got to meet down in Florida sometime, but welcome aboard, Mike. Let me dive into the MSRP thing, and thanks for the 2% comment that you think only 2% of the sales are sold above MSRP. Some of the OEMs have made some very strong comments saying that the practice of selling over MSRP is unethical. Now, while it is within your legal rights, I'm curious if you agree with that sentiment, and does it hint to some other tensions between OEM and AutoNation that you could help them work with and use to your advantage? It's my first question. I just have one follow-up, I promise.

There's no problem. It's good to talk to you again. By the way, it wasn't an approximate number. I can tell you exactly what the percentage was. And it was below 2% of sales because it's something that we religiously track here. So I'm going to answer this question. Actually, there's two categories I think that we should be aware of. There's a category of highly specialized vehicles where demand has historically outstripped any supply. And that, frankly, has been engineered and planned by OEMs because it's created halo vehicles for special brands right and these vehicles have historically and always been sold at one point another above their MSRP and they've been bought by very very shrewd buyers because also if you buy used one it's actually sold usually above new vehicle MSRP and I think in this area there is no issue customers are protected these are very special vehicles they fall in key categories I think where the issue is where you have got a short-term temporary disruption and and your supply and demand curve in what I would call general market, mass market vehicles, where there is no history in these mass market vehicles of used prices going significantly above for a long period of time against new vehicles. I think that is where you have to be incredibly careful because in the first category, there is a degree of protection because of the pricing dynamics and the rarity of the vehicle. In the second category, there isn't that protection. For me, I would say that's something you should not be doing. In terms of, and I've listened to the OEMs, and as you know, I know them, it is a frustration of OEMs, but I think what they're really talking about is that mass market short-term imbalance in supply and demand. But one of the great things about the infrastructure and the agreements that are in place is there are plenty of mechanisms for OEMs to address this problem in one form or another. And for sure, I understand the public position, and I think it's important to. But, you know, the best way to fix this is those existing mechanisms that are in place, which they have also said that they're going to turn to. Some will do it more aggressively than others. But, you know, the reality is the framework agreements enables manufacturers and dealers to work through these things, and I think that's what's going to happen.

Thanks, Mike. Just a follow-up question. What's your view on M&A? particularly M&A amongst the publics. I get frequently asked, is Mike there to sell AutoNation? Obviously, you're not going to address that on this call, but would be still curious your views on M&A within the six publicly traded franchise guys. Thanks.

Well, firstly, I am here to sell AutoNation to a whole host of investors. Of course. This is an incredible value company, much undervalued. So, yeah, I'm here for that. You know, you see spikes in M&A in the industry. Obviously, some of our competitors have been more active. Some of our competitors said recently they're going to become more active. And there's always opportunity. There's probably more opportunity out there today because obviously people are thinking, you know, I own this business. I'm just coming off two years of world record profits. And so, you know, when we're valuing this company, these profits are going to continue. So there are certainly good assets on the marketplace, assets that we're looking at We won't be the only people that look at those assets. There's a track record here of making sure that they fit from a geography perspective, that we want them in our portfolio from a brand point of view. So I think that we're competitive with the right assets, even at what may be considered temporary inflated prices, because I think when you actually get down and discuss with the principal the reality that certain things will change in their business, particularly if we don't think they're structural, that there's still room for us to get to a deal. So I think that there is, from a geographic perspective, areas that we should be exploring, and we already are exploring. I think there are still some areas where our portfolio, albeit the mix that I think the organization has built in terms of premium, in terms of mainstream, in terms of import, I think is really enviable. I still think there's opportunity there as well, which is why when I was talking about the beginning, There's a whole category of business that we need to explore, explore quickly that could be added here that is not in our core business today. But what's important is we keep that core business going because, as you know, it generates a lot of cash, which will help fund and give us the liquidity we need to make sure we have those other businesses. So a bit of a long answer, Adam. Apologies.

Thanks, Mike.

The next question comes from Brett Jordan of Jefferies. Your line is open. Please go ahead.

Hey, good morning. I guess following up on that question, you'd said some rebalancing of capital to growth, and maybe you could give us some color as to how you weight investment in the used versus franchise new dealerships. And then I guess other businesses, if you could give us some more color as to what peripheral businesses you might be looking at that are synergistic with the current portfolio.

Yeah, so let me talk about balance. These numbers, Joe, if I get these numbers wrong, you just correct me after it. But when I look back at 2021, because of the unusual circumstances of the business going through a change in CEO, by the way, you'll recognize that what Mike and the team did in terms of setting the company up for the fourth quarter really does deserve the credit. But if you look at where capital was deployed last year, I'm going to guess about 5% in what I would call maintenance side, probably 20% in growth and acquisition, and then the balance was returned to our shareholders. As we go forward, I think there will be some rebalancing of that. Returning capital to our shareholders and sharing purchase will still be important. But when I sit and talk with Joe and the team about what's our thought processes, obviously there are things that we need to do in terms of our existing business. For example, 75% of our stores will have full electrified charging capabilities before the end of this year. The balance, we're in discussions with OEMs because, frankly, we need their formats and their standards so we can get that done because that's an important step for me. We will be fully ready and capable to be ahead of that curve, frankly, because we're going to provide an environment for our customers where if they want to come and charge, there's lots of things they can do with us. So those sort of investments are really important. But outside of that, we run numerous ways of looking at the returns we think we are going to get from the investments we make. A lot easier, frankly, for people if it's a business that they've been used to for 20 years. harder to do when you're thinking about a change in the industry and what that may look like. So what we have to be is flexible in terms of our approach when we think about what is the real additive value of a particular business that you may go into. What does that look like and how will it make sure the group is moving forward? So frankly, it's a really good debate that we're having internally in terms of how do we view the returns on our investment. And Jordan, if you want to add anything to that.

I think, Mike, you characterized it very accurately. As we've talked to you in the past, the AutoNation USA expansion provided us and provides us a very attractive return. As we've talked to you, it's actually exceeded our own expectations. That will continue to be a primary focus, but we have capital well beyond that to deploy. We're going to use a balanced approach, and we've always focused on the financial and strategic return. And clearly with Mike's arrival, It provides us an opportunity to accelerate growth, and with the arrival of Yanuka, provides opportunity to do that in a more diversified way. So I think what Mike is saying and what we've done in the past actually all falls into a disciplined capital allocation process focused on creating long-term shareholder value.

Okay. And then a quick follow-up question, and this is obviously trying to get to what is the new normal GPU. But I guess as you look at SG&A to gross returning to maybe mid-60s or possibly less, is that how we should think? If SG&A is relatively static, should we think about the shift in SG&A to gross being that that's the proportionate decline in gross to expect?

Now you're going to open up a heated debate between Joe and I, which means we'll probably need to cancel the next two meetings we've got. I've been fascinated by the used car margin only because the percentage of used car margin has been relatively static. And it is purely at its lift, as I mentioned earlier, because of the increase in pricing. And even if at that top end we were able to maintain that pricing, there's a chunk of customers that frankly have not been able to find what they're looking for which is a much lower price, good quality used car that suits their needs. So as you begin to bring those things in, that will dilute your gross, but it will come with the volume, and that's the equation that we talked before. So now when I think about our expenses, I actually think about them not just as a percentage of gross, but I also like to pull out those more fixed expenses and take them as a percentage of revenue so that we can understand how our more variable expenses are going to move in line with that growth. And apologies for the kind of long answer, but how our fixed expenses against our revenue should be controlled as well. So that's why I talk about trying to get, even if you see some mitigation in margin, trying to make sure that our growth doesn't go up to 65%. But as usual on these calls, people like to give themselves headroom, so I fully understand Joe's point. Okay, thank you.

The next question comes from Stephanie Moore of Truist. Your line is open. Please go ahead.

Hi. Good morning. I wanted to continue on actually the last question because I think it brings up an interesting point. I'm curious what your thoughts are in terms of near-term, just the overall strength of the consumer, particularly given the elevated price points on both new and used vehicles. But also, as we kind of look ahead here, is there a risk or how are you thinking about with either new EVs and new powertrains, this could mean for just the overall affordability of vehicles and particularly new vehicles that have this technology and what this could also then mean for the used vehicle market, which might end up being a substitute if new is effectively priced higher than the average consumer is willing to spend. So really just trying to get a gauge on your thought of the consumer and you know, future price points of vehicles given new technology. Thank you.

I think that is the biggest unsolved. It's not unsolved. I think all of the OEMs have a view of when you will truly see a mainstream full battery electric vehicle that covers the full spectrum that we have seen with traditional gas engines. And I think that's why adoption really has not reached that inflection point because those vehicles are not available. And for me, it's going to be a combination of the two things that OEMs have talked about. One of those is how they get to the next generation of battery chemistry that will give a reasonable range and a fast charging time linked to the infrastructure. That means you're going to get people to move into those at a price that can be afforded. So I can't answer your question specifically for a whole host of reasons, but it is one of the key issues. And until then, you clearly will continue to see lower cost gas engines in the marketplace. So that means that the penetration of these vehicles, if the OEMs in conjunction with their dealers are going to meet the emission standards is going to be very, very heavy at the mid to high-priced areas, which is why I think you're seeing so many premium brands talking about significant expansion of their fleet into EVs because clearly they have a customer base that can afford it and a customer base that has a high percentage of early adopters. So I'm not sure that needs a complete answer to your question, but hopefully it helps a bit.

No, that's very helpful. I really appreciate it, and thanks so much.

The next question comes from Colin Lagan of Wells Fargo. Your line is open. Please go ahead.

Oh, great. Thanks for taking my questions. You know, I believe you mentioned you're going to expand into a used digital platform. So how does that align with the AutoNation USA expansion? I mean, do you really need a physical footprint as we're moving into more of a digital world? And is that plan of the 130 still on track or is that something that might get revised down the line?

I'm an incredibly strong believer that you need to combine a seamless and smooth digital platform with Brick-to-Mortar fulfillment centers because they also provide some necessary infrastructure and refurbishment work on your vehicle. just purely from a logistics perspective and where those vehicles can be bought and where those vehicles may need to be sent to get to consumers. I think the combination of both, in my view, is the most powerful because I still know people that go into a store to look at a coffee maker before they buy it. And there's nothing wrong with doing that. And that will still continue with buying used cars for some people. Notwithstanding the fact that I think the guarantees that are there in terms of exchange periods and everything else and everything else haven't tremendously helped the adoption of pure online and fulfillment at your house but i believe the combination is good particularly when i think about electrification strangely not in a in in such a connected way but one of the other things that we will clearly be doing is putting electrification charging stations in our A and USA stores, even though they use vehicle businesses.

And just secondly, I mean, you've been there three months. I mean, what is your current assessment of the online strategy? I mean, where is sort of the biggest opportunities for improvement? Does there a lot of rework needs to get done, or is this just more of an enhancement of what's already available online?

I'm going to just talk in general, if I may, because I think that some of the hurdles that have to be corrected is there are still too many clicks and touch points, and we still need to get to full acceptance of digital signatures for certain documents, which obviously include finance and includes the titling and everything else, because What we're having to combine, and I think what people do sometimes struggle with, is that you're still combining both the digital intent to get everything done and sorted in a virtual world, but the reality, depending on which state you're in, of the need for physical documentation to be signed, to be submitted. And I think what we need to do is work very closely with the various authorities to just try and reduce all of those different friction points and points of frustration along the way. And that's not a specific comment of alternations, functionality per se, but it is just an observation of what I think we need to continue to push for, both frankly on the new side, but also on the new side.

Okay. All right. Sounds interesting. Thanks for taking my question.

As a reminder, if you would like to ask a question, please press star followed by one on your telephone keypad now. We have a question from David Winston of Morningstar. Your line is open. Please go ahead.

Thanks. Good morning. Mike, I'd love to hear your opinion on this. In my opinion, there's been a lot of consumers the past couple of years since the pandemic who have had to buy a vehicle they didn't really want whether they wanted maybe they wanted new and they could only get used they didn't get the right trim or color and so i'm just wondering if you think there will be a lot more people um want to get rid of a vehicle sooner than normal perhaps in 2023 and 2024 to get the vehicle they want once inventory is better but could negative equity keep them out of the market for a really long time instead yeah i think it's a good question i'm not going to give you a perfect answer but i'm going to repeat something that um that i that i said before

If I look over the last two years at the difference between the wholesale purchase price of a used vehicle and the retail sales price of a used vehicle based upon the data that I have access to with relative accuracy, if that's a theoretical balance to fund, that really hasn't changed that really hasn't changed over that period. So if you see the same dynamics working their way out on the downside, I think there are going to be ways to mitigate potential negative equity in vehicles. Where I think your question is very relevant is those people that have entered the market either as a first-time buyer or adding to their fleet where they haven't benefited from the rise in their trade price. And for me, I think it's going to be wrapped up into a couple of things. Firstly, really what is going to be the interest rate environment that we go into? I think everybody is forecasting a whole host of different rate rises, number of rate rises. I tend to be a bit more optimistic because I think there are other dynamics at play. that will reach the end result without having to push that too far. But I think that it certainly will be a consideration that people may want to go into the market earlier than they would have normally done because they did make a decision to stay mobile in a vehicle rather than their ideal one. Incredibly difficult to call that number. One of the things I talked about earlier was The SAR used to represent the demand in the industry, right? Newcastle SAR was the demand in the industry. And now Newcastle SAR, all that represents is production ability now. So, you know, there's been a lot of paradigms that have been broken in this period and how they unwind, difficult to call. But as I said, you've got to be looking at your business and saying, okay, what are the benefits we're seeing? We're going to make sure we lock in on the outside of this industry. And what are those that are at risk, and what can we do about it? So I think it's a real interesting question. When I can't give you a better answer than that, I apologize.

Okay, that makes sense. And just one question for Joe to wrap up. The slide 10 talks about F&I PBR up due to higher margins on service contracts. Is there a mix shift going on on service contracts, or is it higher pricing?

It's primarily higher penetration in content. You have a slight mix shift, but it's primarily penetration.

Okay, thank you.

There are no further questions at this time. Mr. Manley, I turn the call back over to you.

Thank you. Thank you all for being on the call, and thank you for your questions. It's good to hear some voices from the past, and as I said, thanks for being on the call. We really appreciate it, and enjoy the rest of your day. Thank you all.

This concludes today's call. Thank you for joining. You may now disconnect your lines.