Sonic Automotive, Inc.

Good morning and welcome to the Sonic Automotive Fourth Quarter 2022 Earnings Conference Call. This conference call is being recorded today, Wednesday, February 15, 2023. Presentation materials which accompany management's discussion on the conference call can be accessed at the company's website at .SonicAutomotive.com. At this time, I would like to refer to the Safe Harbor Statement of the Private Securities and Litigation Reform Act of 1995. During this conference call, management may discuss financial projections, information, or expectations about the company's products or market, or otherwise make statements about the future. Such statements are forward-looking and subject to a number of risks and uncertainties that could cause actual results to differ materially from the statements made. These risks and uncertainties are detailed in the company's filings with the Securities and Exchange Commission. In addition, management may discuss certain non-GAAP financial measures as defined by the Securities and Exchange Commission. Please refer to the non-GAAP reconciliation tables in the company's current report on Form 8K filed with the Securities and Exchange Commission earlier today. I would now like to introduce Mr. David Smith, Chief Executive Officer, Sonic Automotive. Mr. Smith, you may begin your conference.

Thanks very much. Good morning, everyone, and welcome to the Sonic Automotive Fourth Quarter 2022 earnings call. As you said, I'm David Smith, the company's Chairman and CEO. Joining me on the call today is our President, Mr. Jeff Deich, our CFO, Mr. Heath Byrd, our Echo Park Chief Operating Officer, Mr. Tim Keen, our Chief Digital Retail Officer, Mr. Steve Whitman, and our Vice President of Investor Relations, Mr. Danny Weiland. Today, Sonic reported another period of record financial results, including record fourth quarter and full year revenues. Highlights from our fourth quarter performance include all-time record quarterly revenues of $3.6 billion, up 13% -over-year, and record fourth quarter gross profit of $576 million, up 9% -over-year. Fourth quarter GAAP EPS reflects a $320 million pre-tax non-cash impairment charge. Again, that's a non-cash impairment charge, resulting in a net loss of $5.22 per share. Excluding the effects of the non-cash impairment charge and other non-repairing items, we reported adjusted earnings per share of $2.61. For the full year, we reported all-time record annual revenues of $14 billion, up 13% -over-year, and all-time record annual gross profit of $2.3 billion, up 21% -over-year. Full year GAAP EPS was $2.23, including the effects of the previously mentioned non-cash impairment charge. Excluding one-time items, adjusted EPS was $9.61, our fourth consecutive year of all-time record annual adjusted EPS. I am extremely proud of our team's performance in the fourth quarter, capping off another incredible year for Sonic Automotive. We could not have achieved these results without the continued support of our guests, teammates, manufacturers, and lending partners. Our team remains committed to delivering a world-class guest experience and executing our long-term strategic plan, and we are excited to carry this momentum into 2023. Before looking ahead to 2023, I'd like to add some color on the fourth quarter. During the quarter, we began to see improvement in new vehicle production, which supported higher new vehicles retail sales volume at our franchise dealerships. Outperforming the industry volume change, both -over-quarter and -over-year. New vehicle gross profit per unit declined -over-quarter and -over-year, but was offset by higher volumes and incremental F&I gross profit, driving growth in overall new vehicle-related gross profit despite GPU compression. Our used vehicle business similarly outperformed the change in industry volume as a result of our diversified business model, despite ongoing affordability concerns for the used vehicle consumer. Used vehicle average selling prices have begun to decline, but still remain well above levels required to return to a monthly payment that is affordable for the average buyer at current interest rates. Despite a rising interest rate environment, F&I performance continues to be a strength, benefiting from higher retail unit volume and near-record F&I per retail unit. Our parts and service, or fixed operations business, remains strong, with stable margins and volume and customer pay being complemented by improvements in warranty repair transaction volume. So far in 2023, we have seen sequential declines in new vehicle GPU and volume, due in part to the seasonal nature of our business as a result of our luxury brand weighting. We believe this, coupled with ongoing macroeconomic uncertainty and concern around the effect of rising interest rates and elevated inflation on the average consumer, could drive volatility and consumer demand and vehicle margins through at least the first half of 2023. However, we believe that our diversified automotive retail model positions us favorably to adapt our business to changes in market conditions as we progress through 2023. As vehicle inventory supply and demand begin to rebalance and new and used vehicle pricing begins to move toward a new normal level, we believe any headwinds we may face in the franchise business should be a tailwind to Echo Park profitability and revenue growth. Minimizing the earnings downside to the consolidated results. Coupled with our strong balance sheet and commitment to returning capital to stockholders, we believe we are well positioned to continue to generate returns well above pre-pandemic levels. Turning now to our franchise dealership segment for the fourth quarter, total franchise revenues for an all-time quarterly record of $3 billion, up 14% from the prior year period. Adjusted segment income was $160 million, down 3% year over year due to higher interest rates, and segment adjusted EBITDA was $213 million, which was up 4% from the prior year. On a same store basis, fourth quarter franchise dealership revenues were up 12% from the prior year, while gross profit was up 3%. New vehicle gross profit was flat, with a 5% increase in retail unit volume, offset by a 6% decrease in new retail GPU, to $6,301 per unit. Used vehicle gross profit was down 29%, driven by a 33% decrease, and used retail GPU to $1,405 per unit, offset partially by a 6% increase in retail unit volume. Parts and service gross profit increased by 12%, with same store customer pay gross profit up 14%, and same store warranty gross profit up 15%. Same store F&I gross profit increased 11% on higher retail unit sales volume, and fourth quarter record reported franchise dealership segment F&I gross profit per retail unit of $2,421, up 3% from the prior year. As of December 31, our franchise dealership segment had approximately 24-day supply of new vehicle inventory, up from 18-day supply at the end of the third quarter, but well below the typical pre-pandemic December level of -60-day supply. As you are aware, this day's supply figure includes in-transit inventory. Our franchise dealership segment had approximately 26-day supply of used vehicle inventory, down five days from the third quarter, and in line with our optimal target level heading into the first quarter. Given ongoing new vehicle inventory constraints, recent declines in wholesale market pricing, and our current outlook, we continue to be disciplined in managing our used vehicle inventory, volume, and pricing in order to optimize gross profit levels as we go through 2023. Now let's turn to Echo Park results. We reported record fourth quarter revenues of $589 million for Echo Park, up 2% from the prior year, and gross profit of $41 million, flat -over-year. Echo Park retail sales volume for the quarter was 17,435 units, up 14% from the third quarter, and 11% -over-year. Echo Park average used vehicle selling price decreased 12% from the third quarter, but at $29,500 per unit, still remains well above target affordability levels. We continue to focus on optimizing our inventory sourcing mix and expand our inventory affordability by including -year-old vehicles in Echo Park inventory. For the fourth quarter, -year-old vehicles represented 19% of Echo Park retail used vehicle unit sales volume, which was flat from the third quarter of 2022, and our non-auction sourcing mix was 28% of sales in the fourth quarter, compared to 32% in the third quarter. For the fourth quarter, we reported Echo Park segment loss of $33.3 million, compared to $31 million in the third quarter, and adjusted segment loss of $20.3 million in the prior year. Echo Park reported an adjusted EBITDA loss of $25.4 million in the fourth quarter, compared to a loss of $23.2 million in the third quarter, and a loss of $14.6 million in the year-ago period. This sequential increase in adjusted EBITDA losses reflects a steeper than anticipated decline in used vehicle pricing during the fourth quarter, which resulted in a $533 per unit decrease in front-end used vehicle GPU compared to the third quarter. At the end of December, our Echo Park segment had approximately 40-day supply of used vehicle inventory, which was down from 57-day supply at the end of the third quarter. We believe maintaining a tight-day supply of used inventory is critical as we proceed through 2023, with the expectation for further declines in used vehicle pricing in the coming months, benefiting overall affordability and consumer demand, but potentially pressuring GPUs during the transition period. As discussed on our third quarter call, we are continuing to take a strategic, measured approach to our Echo Park expansion plans, as we balance our commitment to long-term growth with our current priority to improve Echo Park profitability and maintain a strong overall liquidity position in light of an uncertain macroeconomic outlook. In the interim, we believe that the continued evolution of our Echo Park e-commerce platform will allow us to expand Echo Park brand reach without investing the capital to open additional store locations. For the fourth quarter, -the-channel sales through our new e-commerce platform accounted for 38% of Echo Park's retail unit sales volume compared to 31% in the third quarter. Furthermore, 9% of Echo Park volume during the quarter was sold -to-end online, up from 7% in the third quarter, as guests continue to utilize our enhanced e-commerce purchase experience, with -of-market buyers representing nearly 50% of our e-commerce sales. We continue to believe that our -the-channel e-commerce platform, combined with measured expansion of our physical footprint over the next two to three years, will allow Echo Park to reach 90% of the US population by 2025, supporting our long-term goals for this business. We continue to adapt the Echo Park strategy based on current used vehicle market conditions and remain confident in this segment's long-term growth prospects as the used vehicle market continues to normalize. We are seeing the initial benefits of expanding our inventory offering to include -year-old vehicles and shift our inventory sourcing away from wholesale auctions and expect adjusted EBITDA losses to improve throughout 2023, now targeting breakeven adjusted EBITDA in the first quarter of 2024. As we gain further visibility on our future used vehicle market conditions and the effects of strategic adjustments we've made at Echo Park, we will provide an updated Echo Park economic model and long-term guidance. As we announced earlier this morning, we are very excited about our newly created PowerSports operating segment, which further diversifies Sonic's retail portfolio. We are very optimistic about the growth opportunity in this space and we'd like to welcome the teams from Black Hills Harley-Davidson and Sturges, South Dakota, Team Mancuso PowerSports in Houston, Texas, and Horny Toad Harley-Davidson in Temple, Texas to the Sonic Automotive family. In partnership with this group of historic PowerSports brands, we believe we can realize incremental growth opportunities and expand our reach in this adjacent retail sector worth an estimated $34 billion in the U.S. with significant opportunity for consolidation. In 2023, our PowerSports segment is expected to add approximately $200 million in annual revenues and adjusted EBITDA margins between 8 and 10%. Now turning to our balance sheet and capital allocation, we ended the fourth quarter with $805 million in available liquidity, including $501 million in cash and floor plan deposits on hand. As an update on our share repurchase activity, since October 1st, 2022, we repurchased approximately 700,000 shares of the company stock for approximately $35.8 million or an average of $48.25 per share. In total, during 2022, we repurchased 5.6 million shares, representing 14% of shares outstanding as of the end of 2021 for approximately $262 million or an average of $47.8 per share. As of today, we have a total of $455 million in remaining share repurchase authorization, representing approximately 20% or so of Sonic's current market cap. Additionally, I'm pleased to report today that our Board of Directors approved a quarterly cash dividend of $0.28 per share, payable on April 14th, 2023, to all stockholders of record on March 15th, 2023. In closing, our team is prepared to continue to execute at a high level in 2023, while remaining adaptable to changes in the automotive retail environment and macroeconomic backdrop. Further, we continue to operate our business with a long-term view and remain committed to a disciplined, return-based, balanced capital allocation strategy to maximize long-term stockholder returns. This concludes our opening remarks, and we look forward to answering any questions you may have. Thank you.

Thank you. We will now be conducting a question and answer session. If you would like to ask a question, please press star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press star 2 to remove yourself from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please, while we poll for your questions. Our first questions come from the line of John Murphy with Bank of America. Please proceed with your question.

Good morning, guys. Maybe if I could start with a sort of a quick broad question here. What are the planning assumptions generally for the SAR for 2023, where you think GPUs will go, and what kind of SG&A leverage that you may have in 2023, roughly?

So, John, it's Jeff Dyke. You know, probably a 10% increase over this year, somewhere between 14.5 and 15.1, 2, 3 is what we're projecting in our numbers. Margins is going to be the big question. Certainly, they're not going to stay where we saw them, you know, north of $6,300 in the fourth quarter. In the first quarter, we're seeing that number in the high fives. We expect that to probably continue in the first quarter. But as we go through the year, that number could dip down into the high fours, 4,800, somewhere in that ballpark. But at the same time, new car volume will increase. So we're projecting that we'll have higher new car volume, lower front-end margin, good sustained F&I profitability. And actually, I think our F&I targets for the year are about $30, $25 to $50, somewhere in that ballpark off of where we ran last year. But it should be a really healthy new car year from our perspective. The mix is just going to change, more volume, less front-end gross, and we expect that to sustain through the rest of the year. You want to comment on SG

&A? So we're in the between 65 and 70, still in the upper 60s as an overall company. So that's where we've got a couple of additional investments this year. We'll be talking about branding of Echo Park going forward in certain markets, which we discussed previously, and some investments that we're doing and some technology innovation for the future. So that's driving it up a little bit, but those are our forecasts for now.

That's incredibly helpful. Thank you. Just a second question on the Power Sports business. It seems like you're walking into this, not running into it. It's an interesting sort of adjacency. Just curious where you think that ultimately goes in size and scale inside the company, because it sounds interesting, sounds pretty profitable, and relatively fragmented.

It's really fragmented. This is Jeff again. Look, we're buying two to five times, which is kind of in and around where we're valued. You buy a franchise dealership six to ten times. We've gone in our first purchase at Arnitote Harley-Davidson. We put in some technologies and pay plans, did a few changes, and they're now setting all time record volumes and profits, which is great for us. We think we can do that in the rest of the stores that we have, but we're going to spend the next 12 to 18 months, as you said, walking here. We're going to develop playbooks, processes, technologies. Their technology is far behind what we see in automotive retail, so we think we can help there. Just super, super people, very talented, very bright, we found in all the acquisitions that we've made. There could be a tuck in here or there over the next 12 to 18 months, but overall, just the diversity of our portfolio, I think this is a great fit for us. It's adjacent to what we do, and I think we think it's just a really smart move, but again, we'll walk into that. If you look at the diversification and what's going to happen with Echo Park this year, Echo Park is going to get better and better from an EBITDA perspective throughout the year as the franchise business becomes a little more challenged. As we walk into or run into 24 here with Echo Park, we should be EBITDA profitable by the first quarter. If everything continues to happen the way it's happening, what we're projecting to happen from an appreciation perspective on pre-owned cars. We like the idea. We think it's a really good fit, great valuations, but we'll play it by ear and see how things go over the next 12 to 18 months.

Last one on used vehicle sourcing. I'm just curious, as you see this year progress, what is your expectation for used vehicle sourcing at the franchise side as well as the Echo Park side, how reliant would be on options versus self-sourcing?

Hey, John, this is David Smith. I just wanted to finish up on the power sports. Our team has been very involved, including a big group of us going to Sturgis and seeing what a phenomenal experience that is. It's important to remember that the acquisitions we've made are very, very high quality. We believe that the Sturgis one being a historic acquisition for the power sports industry. The opportunity, they've got half a million or so people go to Sturgis. It's a phenomenon. Very amazing profitability, but with huge upside as well that we all saw when we looked at that and with Mancuso and with Horny Toad Harley-Davidson. The ones that we've seen, each and every day we've had them, we look at the numbers and the opportunity. When you talk about what is it, we see new opportunities coming along every week. There's

no shortage of opportunities to buy stores, but again, this is new for us. We want to take our time, do this the right way. It's nice revenue, but great profitability. We'll see how it goes. We're excited about it. We're

going to be disciplined about where we go from here with it. Then on to your other question about...

About your sourcing mix. We're buying more and more cars off the street. I do think as retail prices drop from a pre-owned perspective, there's going to be more availability of vehicles at the auction that gets us back into our Echo Park rhythm a bit. It wouldn't surprise me to see some of the percentages are a little higher now drop into the 15 to 20% range in terms of sourcing cars outside of the auctions. We'll see how that goes through the year, but certainly as prices drop, more cars are going to be available in the one to -year-old category. That's going to play right into our hands. This is what we've been predicting or predicted on the third quarter call. The slope of the drop in depreciation was faster than we thought would happen. That's flattened out now, and we think that will flatten out for a couple of months. But as we roll into April and May, that depreciation trend is going to start again. We think we'll see -25,000 prices as we get towards the fourth quarter. When that happens, it's opened the door for Echo Park. It's our diversification model. It's just going to open the door for us to get back to where we were from pre-pandemic levels in terms of profitability. We'll see the volumes coming. We had a nice fourth quarter with Echo Park and growth. January was up 30% in volume. February is tracking the same. February's margins are getting a little bit better, which we would expect with flattening out of the market. But the prices are still too high. The gap is not big enough between new and used car pricing yet, but it's getting there. And if that happens, all those things play right into our hands. And as we've been projecting, Echo Park will come roaring back from an EBIT perspective.

Jeff, I'm sorry. And the self-sourcing, also thank you for that. In the franchise business, I mean as far as the used business and franchise dealers.

We are. We're buying a lot more cars off the street than we ever have right now. But we are starting to buy some more cars at auction. Let's just say in the third and fourth quarter, that number was running 500 cars a month. It's probably running in the 12 to 1500 cars a month now. And that'll probably hold steady for the rest of the year. We are sourcing a lot more cars off the street, and that's helping our margins. And where we are from franchise. And we're in such a low day supply that if any tweaks in the marketplace, we can outrun real quickly. I think we've got a 26 day supply. There are Echo Park day supplies, actually a 30 day supply. When you add Northwest Motorsport from the RFJ acquisition, that puts us up to 40. So both our day supplies at both Echo Park and the franchise stores are in techable shape. And we'll keep it that way as we move through 2023. And one month's

return of all these returns will actually help that as well. We don't expect that to be very large in the beginning of the year. But as that increases, that's going to help us sourcing at the franchise as well.

Okay.

Thank you very much,

guys. Yes, sir. Thank you. Our next questions come from the line of Daniel Unbrough with Stevens. Please proceed with your question.

Hey, yes. Good morning, guys. Thanks for your questions. I just want to start following up on that prior answer. I think you said January demand, if I heard you right, was up 30% at Echo Park. I'm curious to what you think. Is it just that prices have fallen enough to spur demand? Is it early tax refund season? What's driving that notable pickup? And do you think this is a head fake? Or have you seen enough data to say maybe we've seen a bottoming from a use card demand standpoint at Echo Park?

And Jeff answered this a minute ago, so I'll jump in on this one. Because I think it's really fantastic. If you were in some of our internal meetings, it's played out exactly how we thought, other than some of what became a historic price drop in used vehicles. Other than the speed at which that happened, it's played out exactly how our Echo Park team thought it would, as far as the values of used vehicles.

Yeah, I 100% don't think it's a head fake. It's flattened out now in the first quarter. 100% it's the average retail selling price dropping. That's the difference. It's all about the payment. We've gone from $31,500 down Echo Park, non-Northwest Motorsports, somewhere in the $27,000 range. And that'll continue to drop. It's going to flatten out until the end of March, maybe the end of April, but no more than that. And it'll start dropping again. As that continues, you're going to see this kind of growth rate. It's what we expect. We sold 5,600 cars in January. We'll do a little better than that in February. But we're projecting 9,000 and 10,000 cars per month by the end of the year. And that puts us in the positive range from an EBIT perspective, or at least breaking even there and getting positive in the first quarter of 2024. We're well on our way. As long as this trend continues, and I don't think it's a head fake. Look, new car inventory is coming back. The supplies are increasing. Domestic supplies are increasing. We're going to see that across the board. And if that happens, you just can't help but have a drop in used vehicle valuations. It's going to happen. We've been saying it's going to happen. But that's also why you run a really tight day supply. If you're caught up with a 40, 50, 60-day supply right now, you've got problems coming your way. And we just don't have that. We've been very disciplined as we have in the past, probably as disciplined today as we've ever been. And we're ready for this. And it's exciting times for Echo Park.

And that's a great update. Thank you. And as you've learned more about that demand, it's picking up. What do you think the long-term mix of these older vehicles? Last few years, the 5 to 8 was kind of a plug to meet that affordability headwind, I guess. As you see your core coming back, what have you learned about where that 5 to 8 mix could fit and what it means ultimately for long-term economics given the higher profitability on those units?

Yeah. Look, it's going to be 15%, maybe 20%. Our Echo Park model is one to -year-old cars. And it works. And we've proven that. The 5 to -year-old brings a lot more complexity, and they're a lot harder to get. Great margin. We agree with you. And we sell them every day on our franchise business. And we're selling a lot of them now at the Echo Park stores. And it's a whole lot easier to sell one to -year-old cars in our model. And as that inventory comes back, I think you'll see a drop in the overall mix. It won't go away. It'll be higher than it's ever been. And historically, because we like the margin, it's there. But it's just not going to be as big a percent of the mix as it is today. So I'd call it 15% to 20% somewhere in that ballpark.

Got it. And then last one for me. Just maybe on the franchise side of our Echo Park, trying to understand the long-term impacts to your business from the big decline in lease penetration in the last few years. Given the high luxury mix, I'm guessing your lease penetration was higher. We've seen that fall, which means fewer lease returns in the coming years. Does that hamper your parks and service business as that customer comes back to you fewer times? Does it hamper sourcing at Echo Park? Just trying to think through what are the year two, three, and four impacts from this big decline in leases underwritten in the last couple years?

Yeah, it hurts. You can't say it any other way. I think we'll see 12 to 18% increases in leases this year, something of that nature. I think it'll be primarily in the big lease markets that are driving that. But it's certainly hurt the business. That's a big chunk of our overall use car inventory for franchises. Usually represents around 30 to 35% of our overall volume. And the high line stores could be higher than that. And they're auction laying cars too for Echo Park. So it's certainly hurt us. But with the decline in pricing and inventory coming back, we can find that inventory elsewhere. And we're showing that. We're buying more cars today than we bought in a long time at Echo Park. And we'll continue to be able to do that as the prices come down. So most important thing is the gap between the payment that you make on a used vehicle and the payments being made on a new vehicle. That gap is widening. New vehicle payments are going up. Prices have increased. MSRP's are going up. Used vehicle prices are coming down. That gap needs to be between 55% and 58% that of a new vehicle payment. And when that happens, it's game on for us.

Got it. And so to be clear, you're not thinking the lack of lease returns will be a hindrance to the core franchise use volume going forward? You can overcome that headwind?

Not any more than it has been in the last 12 months. I mean, it's already been a hindrance. And we expect that to continue. But we're doing a good job in going and sourcing that inventory from the customer that's buying that lease out. The car's not gone. It's there with a customer. They still have the car. And we're sourcing that inventory and buying it from them. So it's just moving from off lease to buy off the street. And as leasing comes back, then that's just a big help to the industry, not a hindrance.

Yeah. You said this is David, you said before the call, Jeff, about how our team is, our business and our team, they adapt to the changing market. And I think they've become better than ever about following up. It's our traffic management, our emphasis on that that's been unprecedented and how we reach our customer base to acquire those cars.

Great. Well, thanks for all the color and best of luck.

Thank you.

Thank you. Our next questions come from the line of Rajat Kukta with AP Morgan. Please proceed with your questions.

Great. Thanks for tackling the question. Just as following up on Echo Park, the last time you were profitable in that business was at a much lower level of volume, like six to seven thousand cars per month. You're not suggesting it should be closer to nine to ten thousand. Is the difference there primarily because of higher fixed expenses in the base or more stores? Just trying to understand the bridge there. And I have a couple of follow ups.

Yeah, it's all of the above. I mean, we built Echo Park for growth. And so our corporate expenses are significantly higher than they were when we were breaking even or making money in the six to seven thousand range. It's more like nine thousand. It gets us to the break even number, which we expect to be at before the year's over with. And then the front end margin plays a big role in that. As the prices get down below twenty five thousand towards the twenty four thousand mark and then the depreciation flattens out to a more normalized depreciation schedule, that's going to make a huge difference for us. We're just built to do real heavy volume. Doesn't mean that if something changes or goes awry, we can't pull triggers to reduce that overhead. But we didn't think it was the right thing to do. The model works and we're very excited about that. We've got a very strong franchise business that can pull us along here with great security. So hopefully that answers your question.

This is David. In addition to that, we look at Echo Park as a long term investment. We're making that investment in our Echo Park team. Training, hiring, and we're seeing it in the numbers. We're seeing it and we've got a world class guest experience. You can see it in the feedback. We're building our e-commerce and continue to build out our e-commerce platform. It's a long term investment. It's not quarter to quarter.

And Rajat, this is Danny. One more point to add there. We've got probably 10 to 15 million of floor plan interest headwind at Echo Park this year. With the higher volumes, anticipated higher volumes on top of the higher rates that we've experienced and seen come about over the last three to five months. That's another piece of what has helped us or caused us to raise that overall break even volume target.

And the branding.

Yeah, we'll launch

the

Echo Park brand in Houston, Texas starting in this month in March. And so there'll be some incremental expense that goes along with launching that brand. It's something that we did in Denver at our important location, which is a store that's really almost returned back to pre-COVID levels from a profit perspective and a volume perspective. And we just expect to start seeing that across the entire enterprise as we move through this year.

Got it. And on the franchise side, you know, it's just 60% and 22. It's at mid-60s for 23. Is that just primarily, you know, the GPU moderating or is there anything else, you know, driving that increase or any other buckets that you would point out in terms of investment?

It's really a couple of things. The only April mill investment is going to be in the IT innovation that we're doing that we spread across Echo Park and the franchise. The biggest driver is your denominator, you know, decreasing gross.

Got it.

Got

it. Just asking about the services, any color you can give in terms of puts and takes for 2023. You know, we've got across different segments, you know, obviously very strong trends here exiting the year. But obviously, 2023 is playing out there.

Thanks. This is Jeff. Mid to high single digit growth, if not a little better. We saw 12% growth, I think, in January. And we couldn't be more excited about where we are from a fixed perspective. We've got a lot of internal projects going on there, including sourcing technicians, which is really an important piece of this overall mix. And so it should be a fantastic year from a fixed perspective.

And to be honest, those internal projects, you know, is really the first time that we're putting a focus on traffic management as it relates to service. Marketing, even at the office level, you know, some innovative things that the manufacturers helping us with. So there's a lot more focus on bringing customers in and retaining them than we really have done in the past. So I think we'll see that pay off as well.

Great. Thanks for all the color.

Thank you. Thank you. Thank you. Our next questions come from the line of Brett Jordan with Jeffries. Please proceed with your question.

Hey, good morning, guys. Morning. Morning. Did you give a little more color on the PowerSports segment, you know, sort of ASP and GPU ranges for new and used and maybe what does the service business look like in that space?

Yeah, you know, amazingly, the margins in that PowerSports business are fantastic. I mean, we're averaging front end margin. It's a little different from Black Hills to Mancusa, but front end margins are in the $3,000 to $3,500 range. Back end margins around $1,000, somewhere in that ballpark. And we think we can help there in a big way with warranties and other things of that nature that we're working on. In the volumes, it depends. I mean, if you're talking about Harley or we're talking about Metric, which is everything else. But in Mancusa, we sell C-Dos, we sell Polaris, we sell all kinds of different items. And the volume is solid and it's been solid since the day to purchase. So we expect that to continue. I don't know that I would call it pent up demand, but there's certainly a lot of desire for that product. And the same kind of idea that you see on the new car sales last year where we just didn't have the product to sell because the manufacturers hadn't been able to get it to us, that's loosening up a little bit, just like we see on new cars. But great margins, great volume, great profitability, and great multiples. So just so we think it's an opportunity. Again, we're walking into this, as we said earlier, but we've got 13 locations now. And we'll spend, again, the next 12 to 18 months developing our playbooks, our processes, our technology, get those all installed, and then we'll see what the future holds for us.

I would just add to that, that this is David, that we did our research. I mentioned earlier, we also met with Harley Davidson. We love the team there, their leadership, and we love where they're headed. And the brand loyalty and the customer loyalty, it's absolutely incredible. So there's, we try to, again, we try to get into it with buying really the top notch, the best of the best. And we think we did that with the stores that we bought so far.

Okay, great. And then a question on incentives. Obviously, you're not big in Ford and Stellantis, but one of your peers was talking about increasing promotional activity. Are you seeing that more broadly across other brands now as supply comes back, or is it really pretty localized?

It's localized. We're certainly not seeing that on the Highline brands. Maybe just a little bit to incentivize leasing. We do have one very large Chrysler store in Dave Smith Motors, which is the largest Chrysler store in the world. So that service is really just the stop sales on 2,500 and 3,500 trucks. You know, incentives are going to come back as inventory comes back. And if that starts rising and they've got to turn out inventory, that's going to happen and margins are going to fall. You know, we're working with our manufacturer partners to make sure that they understand keeping that day's supply at a reasonable level. Call that 25 to 35 days instead of pre-pandemic 60 to 80 days is the right way to run this business. And I think they all agree with that. I hadn't heard one of them say that they don't because profits are at all time high. And the only way to screw that up is ourselves. And so I think the manufacturers recognize that and they'll do a good job of trying to keep incentives down, which will keep pricing somewhere in the MSRP range as we move forward.

Okay. And then one last question. I know historically you were not moving inventory from franchise dealerships to help feed Echo Park. Is that still the case or is there an opportunity to, you know, internally source some of the Echo Park inventory as you're getting to older cars that maybe you don't want to sell at a franchise dealership?

No, that's still the case. We sell everything at the franchise dealerships unless we have to push it to an auction. So that's still the case. We typically don't move inventory around between the two. We did that, Tim Keen and I did that in a different life and that really didn't work. And so we've tried to stay away from that. It's a great idea, but what you end up doing is, you know, the franchise stores lose out on volume and you mess up their rhythm. And so we prefer not to do that unless it's just absolutely necessary.

Yeah, we wanted the Echo Park stores to be able to stand and survive on their own, eat what they kill.

Great. Thank you.

Thank you. As a reminder, if you would like to ask a question, please press star one on your telephone keypad. Our next questions come from the line of Diego Ortega with Morgan Stanley. Please proceed with your question.

Hi, good morning. I'm here on behalf of Adam Jonas. So I have a quick question. ABS data showing that the auto borrowers are starting to feel some pressure. I'm curious on your view on the consumer and demand going into 2023. You mentioned that, you know, volumes would be higher and especially with increasing affordability of the monthly payment. But I was just curious on your consumer views going into the year.

Thanks. I mean, we haven't seen anything yet that would tell us that consumer demand is just dropping way off. I think it has a lot more to do with the average retail selling price of the vehicle than it does at this point, the interest rates, depending on what happens with rates as we move forward. It certainly can cause some volatility. It certainly can cause floor plan issues because our floor plan numbers are going to be a hell of a lot higher this year than it has been in recent years. But overall, we've just not seen that. The demand for pre-owned cars is there. And as that average retail price starts dropping, there's pent up demand there. And we'll see that both on our franchise and Echo Park business. Certainly it can play a role if you're financing an $80,000 Highline car or luxury vehicle. That certainly can play a role. We just haven't seen it yet.

And if you look at your general industry media, definitely credit is tightening. And this is Heath, by the way. If I look, and my one concern going into 2023 is affordability. It's the economy. And as rates go up, I do think that it has the potential of impacting finance penetration. People shop around a little bit more. And so affordability is absolutely concerned. We haven't seen it materially impact us at this point. But it is one of our concerns going into the year.

And you've got to imagine that people who have been waiting for that used car price to come down, right, as we've been saying. And as soon as it does, they're going to jump in the market and buy the car that they've been waiting to buy. And we're

seeing that now. I mean, you look at our Echo Park volume itself, like I said, in January, 30 percent trading the same in February, if not even a little better. And the franchise business is really strong as well. The used business is really strong. That will continue to get stronger as the prices drop because there's definitely been up demand there. Great. Thank you.

Thank you. Thank you. We have reached the end of our question and answer session. I would now like to hand the call back over to David Smith for any closing comments.

Great. Thank you, everyone. We appreciate you being on the call. Have a great day.

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