Penske Automotive Group, Inc. (PAG) Earnings Call Transcript & Summary

We have quite a bit to talk about with our next presenter. We have Tony Pordon here from Penske Automotive Group. I think the automotive now sells short the total just here. But Tony is the Executive Vice President of Investor Relations and Corporate Development for Penske, which is headquartered in Bloomfield Hills, Michigan and is a diversified international transportation services company that operates automotive, commercial vehicle dealerships principally in U.S., Canada and Western Europe. It is the largest retailer in luxury vehicles in the U.K. has an interesting commercial vehicle and engine business in Australasia and is also a 29% owner of Penske Transportation Services, also known -- or formerly known as Penske Truck Leasing. So a lot to get over or a lot to go over here, and we'll get right into it with Tony. So thank you very much for being here, Tony. Let me know if I've undersold any part of the Penske business here?

No, you got it. It's a lot. As we sit there and listen to it, I'm like, "Wow, we've got a lot going on". Thank you, as always, for the invitation. I think this is -- and Mario, thank you as well, too, please -- I think this is, what, 18 years in a row, Brian, something like that. I think you've been involved 15, 16 years.

This is my 15th. So every year that I have been here, and I greatly, greatly appreciate it.

So it's awesome. Can I take a couple of seconds just to -- if you don't mind?

Please. Yes.

Just kind of want to set the table for hopefully what we're going to talk about here. We reported last week, we had another really good quarter. We had record revenue and earnings per share. Revenue increased 7%. We were just under $7 billion. We -- our EPS increased 3% to 461, but those were both really impacted by exchange because we have a big presence in the U.K. We all know what happened with the pound. So when you back those out, our revenue was really up 12% and our EBT was up 1% to $481 million, and our EPS was up 7% to $7 -- or $4.75. Our performance was driven by some of the things that Brian talked about, our diversified model, which really starts with domestic and international auto retail. That's where the core or the core strength of the business is. And then when you take it and expand that, when you look at the North American commercial truck market and what that those dealerships have done for us, of which we have 39 different dealerships in our 29% ownership interest in Penske Transportation Solutions. All of those together provide and an innovative model for us and very diversified to continue to grow. I think we hit a milestone on a trailing 12-month basis at the end of September where we went over $2 billion in EBITDA, which gives us significant and strong cash flow, and that gives us the opportunity to make a lot of acquisitions, which we've done, invest for future growth and return capital to shareholders. we did so far this year, acquisitions of about $1.3 billion in annualized revenue based on 2022 annualized revenue, $195 million in CapEx for future growth. We repurchased 8% of the outstanding shares of the company at the beginning of the year. That's about 6.4 million shares. And our Board has increased the dividend 4x. So we've paid out, just so far this year, $114 million there. So when you look at what we've invested in CapEx what we have paid out in terms of the dividend. And when you look at the share buyback, you're approaching $1 billion right there. And just looking at the capital that was returned to the shareholders for the share repurchases and the dividend, it's $789 million, and that's 73% of our net income. So I think we have a lot going on. I think we have a really good mousetrap that is a little different than everybody else, including our peers. But Brian, with that, I'd be happy to turn it over to you and talk about any one in particular.

Yes. No, I want to be systematic about this because there is so much to discuss through so many different angles. So let's start with the new vehicle retail business, both here and in the U.K. it's heavily exposed to the luxury auto purchaser. But maybe talk -- and it's an area where we've seen just massive moves in price to the upside. Let's talk about just what you're experiencing on the consumer side there and then we'll get into maybe some of the dynamics about inventory.

Yes. I think I caught Roger's Cold from last week. I'm going to have to...

We can't have either of you getting a cold.

I know. Exactly.

So Roger's recovered, right?

Oh, he's completely recovered. He's fine. He's called me 5 times today already. So when you look at the luxury side of the marketplace, right, and when you take PAG in total, 70% of our revenue comes from the luxury brands on the automotive retail side. Those brands are the typical ones that you would see Mercedes, Audi, Lexus, BMW, Porsche and the like. When you go to the U.K., we're 95% premium luxury, and you add in Ferrari, Maserati, you'll get 35% of the Ferrari market share in the U.K. That's pretty unique when you sit back and you think about some of the different things that we have. We're the largest Jag-Land Rover dealer in that marketplace as well. So the demand that we see with those brands, we constantly get asked about, well, isn't the demand waning? Isn't the demand going away? And our constant answer is no. I mean we have literally very, very low inventory, right? We have 4,400 vehicles available in the U.S., prior to the pandemic, we were just under 15,000. So inventory is not going back to where it was anytime soon. And then when you look at the demand for things, think about Range Rover, the discovery, any of the other land rover products, Think about a 911, a GT3. Some of the -- all the EVs that are out there coming. The winning list for these are not just days long, they're months long. In some cases, if you want a Mercedes G-Wagen, you're talking 2 years. Some of the land rovers are 2 years. So the demand remains really strong. I think one of the most telling things is when you look at the order book that we have in place for the U.K., is that at the end of September, we were at 36,000 orders in-house. A year ago, we were at 22,000 orders in-house. So it's up, what? 65-ish percent. And then the growth that are associated with those 36,000 units is about GBP 114 million versus, I think, it was 40 million pounds a year ago for the orders that we had in stock. So everything remains very, very strong.

It speaks to the ability for -- not only Penske, but the dealers at large to generate record amounts of gross per unit. It's simple supply-demand economics. And with the idea that inventory isn't going to change materially anytime soon with you, as you all are planning ahead, what do you -- when do you think this inventory situation gets better? And do the OEMs move to more of a model where, particularly on the luxury side, it's order to purchase as opposed to the inventory on lot?

Well, I think where it's at today, and while it might be a little frustrating from a consumer standpoint, being that they don't have immediate gratification, where we used to have hundreds of vehicles sitting on the lot and somebody could just walk up, pick a color that they wanted and walk out with it same day next day. Now they're waiting. And they're coming in, they're putting down a deposit. They're waiting for the vehicle to show up. We're selling into the future allocation. As I look at the overall marketplace, I find it very interesting and why I think that inventory is not going back to where it was anytime soon. Number one, why would the OEMs do that? That's the biggest thing that I asked, everybody keeps saying that, well, it's going to go back to where it was pre-pandemic where we had 3.5 million vehicles in inventory in the U.S. and Europe, about 1.3 million units today, dramatically down. OEMs are more profitable than they have ever been. Dealers are more profitable than they have ever been. There's more people in the U.S. today than there was -- back if you go at 1990, there was 258 million people, there's 330 million today. You look at licensed drivers, there's more licensed drivers on the road today than there was back then. And these inventory constraints and you look at our day supply in the U.S., we're at 15 in the U.K., we're at 30, we used to be in the 50s. So I don't see any reason why an OEM would increase the amount of inventory that's out there today. And I know if you think about the number of units that were lost through production. And automotive news has something this morning that says they're talking about another 3 million units coming out of production for next year right now based on supply shortages. We're probably 18 million units or so that have been displaced. How can -- if you just think about it realistically, how can the OEMs make up all that production and get inventory back to where it was pre-pandemic like that? It just doesn't comprehend to me.

Yes. No. I agree. It also -- it begs the question of what happens used vehicles as an alternative to that, and I want to get to that in a minute. Just staying on the new side, we've seen interest rates rise, and I guess this gets into used vehicle price declines as well. But clearly, a big component of your customer base enjoys leasing, which has its benefits, a new car every 3 years, lower monthly payments typically. Do you see any material changes coming in the next couple of years from a lease penetration perspective?

So as everybody understand what happened with leasing prior to the pandemic and where it is now. So if you look at the marketplace in the U.S., it's probably 35-ish percent, call it, 30% to 35% leasing in the marketplace. It's now 20-ish percent. The premium luxury side of the market was a good 55% leasing, if not as high as 60%. The advantage of leasing was the lower payment. And sometimes it was incentivized by the OEM, there might have been a subvented rate and that like -- that's gone now. So leasing has gone down dramatically during the overall pandemic. And I don't see it coming back anytime soon, at all. And as a result, what's happened is more consumers are either holding onto their cars longer. They're buying out their existing leases because they come back in to maybe lease a BMW 5 Series or an X5, and their payment goes from $600 a month to $1,100 a month, and you get sticker shock on them. So what they're doing is they're extending their leases, they're buying out their leases that's impacting used vehicle prices, it's also impacting lease returns. So I don't see that changing any time soon and part of that is the interest rates that you talked about, too, with interest rates going up, it just adds an additional amount of payment under the consumer. So that being said, the demand hasn't waned. They're still out there placing those orders to buy vehicles in the future.

Go ahead, do you have microphones out there, Matt?

Just yell it out.

We need it for the Zoom.

So I just had a quick question because you kind of said why would it always kind of race to get to that $40 million or whatever inventory. I guess just from -- anecdotally, which is all is not the best way to make investment, but it's been hard to find the car that you necessarily want when you go, means you can't drive it, can't test it. And that kind of leads into a conversation about e-commerce. And would you just maybe -- would -- does that lead towards people maybe making the experience of going to buy online directly. Have you -- do you have any thoughts about that or kind of just overall the idea of people starting to look online to buy a new vehicle.

So I think that's a really good question. Thank you for that. People are starting their process online. They're probably doing 80% to 90% of the investigation, the comparisons, contacting the dealer, interacting with the dealer either through text or chat or even e-mail back and forth, they might even be putting down a deposit online. But what they're doing is they're still coming into the dealership to test drive the vehicle or to inspect it at the end to buy that overall vehicle, but the Internet and working online is really, really key to the overall process. I mean you think about all the vehicles are online today, you can make your appointments online, you can use -- we're using AI to set service appointments now. So we're even taking it to the next step. So digital transactions are here to stay, but that consumer just doing everything online, 100% is -- we still don't see a lot of that taking place at the very end. We still see them coming in at the end to finalize the transaction and really inspect that vehicle.

Do you think that this is something -- let's go to the used market. And then I want to come back on -- circle back on a couple of things. With used prices declining, while at the same time, you've got this push and pull with availability of quality used cars, which has become a major issue from a sourcing perspective. Do you see anything from a business model perspective changing as far as how you sell used vehicles, we've seen Carvana really struggle with the last year. Let's talk about that for a little bit and take it from there.

So if you go back to my previous comments, we talked about the availability. And really, I'll add to that, the affordability of used cars. The prices have really gone up dramatically because you can't get a new car. You can't pay necessarily what you want for that new car vis-a-vis the previous car that you own. So customers then turn to the used car market, that demand was very high, drove the used prices up. And then that just kind of -- if you look at it as a full circle approach to that as it drove the used prices up and more, then it created more demand in that marketplace and drove the prices up even further. The problem that we're facing is that auction prices were really high. We can't find the 1- to 4-year-old vehicle because leasing is down, right? And we can't necessarily take that vehicle that we wanted to buy at auction and do some reconditioning to it and then put it on the lot and make what I would call an acceptable return on it. So what we've done is we've tried to change the sourcing aspect of things. So we're buying less and less from auction. We're going more to buying directly from the consumer, focusing on trade-ins and lease returns are still there, but they're just not what they used to be. So we've dramatically changed the sourcing mechanism. And I think we will continue to do that. But I still think the 1- to 4-year-old vehicle space is going to be very difficult for a few years and prices will remain somewhat challenging there. I mean we had -- and this happened in the commercial truck market, too. We had, in many cases, used vehicles selling at higher prices on a comparable new vehicle that was 3 years younger, right? So it's something that we're very acutely aware of and working through, but I don't think it changes anytime soon.

Yes. It speaks to when you say availability of 1 to 4, now we talk about availability on the older end of the curve, which gets into your car shop business, which is -- well, you can speak to that. But as we worry about availability of product for near prime and sub-prime customers, which are more likely to shop at that lower price point. Can you just talk about that business a little bit?

So we took the opportunity to sort of test out pulling in an older vehicle for a little while and trying to sell that car that might be 6, 7, 8 years old, well we ran into some problems with it. Not only did it take more reconditioning to make it what we call viable, right? Then with the warranties and the guarantees that put behind it -- and look, we focus on customer satisfaction. Customer service is our #1 goal of every transaction. We saw a lot of comebacks. So a lot of people bringing those cars back. We either had to fix them. We had to honor them under warranty type situations or we had consumers that were just very unhappy. So we don't think that, that's the answer. We don't think going to a much older vehicle with problems and issues will be the answer for us longer term.

Going back to the new retail side. This is the first time I think I've -- maybe last year, heard you excited about what's coming down the pipe from an electric vehicle standpoint. Let's talk about that vis-a-vis the luxury auto manufacturers that cover your dealerships versus, say, some of the OEM direct products that are going to be available.

If I look at our main brands BMW, Mercedes, Audi, Porsche, Mini and even Toyota and Honda, when you take it to a smaller scale, the number of EV products that they're introducing in the market are amazing, right? They're going to give Tesla a run for its money in my opinion, right? Tesla has been sort of operating in an environment where they haven't had much competition. Now they're going to have some competition and they're going to have this dealership network behind them. These, what I would call, big pockets of all of these different OEMs that will be really producing some very strong products that are fun to drive, just like a Tesla is. So we're excited about it, actually. We think it gives us an opportunity. We've installed 1,500 chargers across our network. So we're helping out with the infrastructure side of things. We've made investments into our service departments to put in stronger lifts because the cars are so heavy that they need to be fixed. And we actually think that this is going to be very beneficial to a dealership because you're still going to see a lot of internal combustion engine sales. And now you're going to see people coming maybe back to the dealership that wouldn't have bought a car before. Maybe they just want to buy a used car to buy a new car itself. So I think it's going to be a really good time for us actually.

Apart from the physical capital aspect on the EV side, there's the human capital. How do your techs get trained for the EV world? And with the idea that there aren't enough EVs out there for you to have maybe an EV-only tech at a particular location yet. How do you think about that?

It's OEM training. All of our techs go through OEM training to be trained on the specific aspects of each of those brands, EVs and electrical systems and the things that they have. So we're dominating that with the OEMs right now. Maybe dominating is not the right word, but spending a lot of time testing and getting these folks going. The challenge is the amount of technicians that are available. You still don't have enough technicians in the industry at all, and we have to continue to add technicians to meet all the demand that's in place.

Go ahead.

Yes, just because you mentioned the investment in the lift required to carry such heavy vehicles. I was just curious if you had any thoughts on just aftermarket in general in terms of -- and parts and service in terms of electric vehicles and what you've seen the future any required CapEx? Or also, there's just a question about the replacement rates kind of extending, maybe fewer services required. So just any thoughts on that, if you've seen it, how that would impact the business?