AUTOCANADA INC.

ACQ
Delayed Toronto Stock Exchange - 04:00:00 2023-02-03 pm EST
30.17 CAD -0.26%

Transcript : AutoCanada Inc., Q3 2022 Earnings Call, Nov 10, 2022

11/10/2022 | 11:00am

Presentation Operator Message
Operator (Operator)

Good morning. My name is Annis, and I'll be your conference operator today. At this time, I'd like to welcome everyone to the AutoCanada Third Quarter Earnings Call. [Operator Instructions]

I would like to remind everyone that certain statements in this presentation and on our call are forward-looking in nature, including, among other things, future performance. These include statements involved in known and unknown risks, uncertainties and other factors outside of management's control that could cause actual results to differ materially from those expressed in the forward-looking statements.

AutoCanada does not assume any responsibility for the accuracy and completeness of the forward-looking statements, and does not undertake any obligation to publicly revise these forward-looking statements to reflect subsequent events or circumstances. For additional information about possible risks, please refer to our AIF, which is available on SEDAR and on our website within the Investor Documentation and Filings section.

I will now turn the call over to Mike Borys, Chief Financial Officer. Please go ahead, sir.

Presenter Speech
Michael Borys (Executives)

Okay. Thank you, operator. Good morning, everyone, and thank you for joining us on today's third quarter results conference call. For today's call, I'm joined by Paul Antony, our Executive Chair; Peter Hong, our Chief Strategy Officer; and Casey Charleson, our Vice President of Finance.

We released our Q3 results after the market closed yesterday. A copy of our results is available for download on our website. For today's call, we'll be discussing the current state of the business, discussing the financial results and providing an update on both our Canadian and U.S. segments.

With that, I'd like to turn it over to Paul.

Presenter Speech
Paul Antony (Executives)

Thanks, Mike. Good morning, everyone. I'm pleased to report that our positive momentum continued into Q3, where our team delivered another record-setting quarter, demonstrating the strength and sustainability of our business model. We continue to be very proud of the accomplishment of this team and believe the platform we built makes this momentum sustainable. We recorded our highest-ever Q3 revenue figure of $1.6 billion, which drove adjusted EBITDA of $76.4 million, and that's an increase of 12% over the prior year.

These results were the product of strong performance across the board and in all areas of our business on both sides of the border. Here's a few highlights. Our Canadian operations once again delivered strong performance resulting in record Q3 2022 results. Our used segment, which has remained a priority given new car supply constraints, saw continued strength as the ratio of used to new retail units increased to 1.84 from 1.48 in the quarter and 1.63 from 1.3 over the last 12 months. Our used retail units were up 26% over the prior year.

F&I gross profit increased by $19 million or 33% to $77 million. Parts, service and collision repair gross profit increased by 33% to $76 million. Canada's adjusted EBITDA of $67.6 million increased by 11% over the prior year adjusted EBITDA of $60.8 million. The U.S. has also shown continued strength and success with strong year-over-year growth in adjusted EBITDA. Total retail unit sales increased 9%, and this increase -- this included an increase of 520 used retail vehicles sold, and that's up 22% over the prior year.

This also drove an increase in used to new to 2.22 from 1.58. F&I gross profit increased by $5 million or 46% to $17 million. Parts, service and collision repair gross profit increased by 67% to $12 million. We reported third quarter U.S. adjusted EBITDA of $8.8 million, and that's an improvement of $1.4 million over the prior year. To put this in context, we've seen an incredible transformation of the U.S. business over the past year.

Trailing 12 months adjusted EBITDA is now $38.5 million, which compares to a loss in 2019 and a breakeven in 2020. I'm incredibly proud of Jim Douvas and his team. Overall, our strong performance in Q3 continues the trend of sustainable improvement and reflects our ability to continue navigating a range of industry challenges, including OEM production delays and inventory constraints. We have a platform with a proven ability to thrive in a variety of market conditions and to drive resiliency and stability.

With regards to our RightRide business, in light of the material shift upward in interest rates, we're tempering our previously communicated expectations for this division. We now expect fewer locations opening in the current year than previously communicated, as well as over the next 3 years or so, as we assess the impact of rising rates on consumer demand and affordability in the nonprime category. We have 11 locations currently open and 5 additional locations queued up that are under contract, waiting on rezoning, facility renovations or licensing. That should put us to about 16 locations between the end of this year and the first half of 2023.

Our midterm target remains 35 locations. I'd like to now discuss the used vehicle market. I'm pleased to say that AutoCanada is not experiencing a softening of pent-up demand, as our used retail volumes continue to increase and our used [ eye ] leads, walk-ins and phone traffic are all trending upwards. Our decision to take a $10 million incremental charge to a Canadian used vehicle inventory in Q2 has allowed us to address mark-to-market issues on older inventory and drive retail sales. That enabled us to generate parts and service work and further utilize our best-in-class F&I department.

Q3 sustained the same sales pace as Q2 despite rightsizing our used inventory, demonstrating the improved efficiency of our used operations. Looking ahead, we're mindful of the challenges within the market, such as used price fluctuations and the impact of rising interest rates. We're confident our used vehicle strategy is sound, and our view is that the used market still presents a huge opportunity for AutoCanada. I'll also speak briefly on the impact of the federal luxury tax on vehicle sales. With a September implementation, it's premature to quantify the impact to our business.

We do expect a temporary decline in high-dollar luxury vehicles, but history indicates these potential declines are short-lived. BC implemented a similar tax a few years back, and while they did see a temporary decrease at first, the business had more than bounced back 1 year later. The tax was not enough to diminish the demand for these vehicles from its core customers, and we expect much the same from the federal tax. There may be potentially even less of an immediate impact due to the pent-up demand for these vehicles with production shortages. Ultimately, we don't see this as creating a material impact to our business in either the short or the long term.

Staying on the topic of production, for new vehicles we have approximately 3 months' supply in stock as production slowly returns, based on recent sales and pacing. As always, though, we continue to work closely with our OEM partners to source inventory for our dealerships. We're definitely also mindful of our OpEx as a percentage of gross profit.

We have come down significantly from where we were when we inherited this company over 3 years ago. We're down from 82.8% to 75.8% in this last quarter. But we also know we remain high when we compare to our U.S. peers. This is an opportunity for us. There are a couple of key reasons that I'd cite for that. One is scale: over the last 4 quarters, our gross profit has averaged just over $250 million per quarter.

The average of our U.S. peers is closer to something like $900 million. Scale will have an impact on our ability to get below that 70% mark and into the mid-60%s. Beyond scale, as we've noted in previous calls, we're investing in the growth of our business through the go-forward divisions we've established when first joining the company and through our acquisitions. Our RightRide, Used Digital and Collision Centre divisions are not yet at their full run rate, and we expect an improvement in OpEx efficiency as they scale up.

We've also added significant capacity to our acquisition integration team to ensure that we're integrating acquired stores and collision shops properly into the AutoCanada fold. This is an important step to ensure our newly acquired stores are capitalizing as quickly as possible on the synergies provided by the group. We've also added headcount to support functions to take on the growth that we were looking to build on in the quarters ahead, most notably within our information management group.

Data analytics has played a pivotal role in success of AutoCanada over these past number of years, and we expect investment in its development will lead to finding new opportunities to generate growth and reduce other costs. Having said all that, this suggests that as the market environment evolves, good or bad, we can pivot and we can remain focused and disciplined on managing to an effective OpEx level.

We also think this creates strong earnings leverage for our shareholders as we scale. When combined with our share buyback initiatives, has the potential to drive above-category earnings growth for years to come. Our employees in Canada and the U.S. have once again delivered excellent performance, and we can't thank them enough for their efforts which are driving our results.

Thank you so much to our whole team, our OEM partners and our customers. We also announced yesterday Mike's planned retirement, and we have a search process underway to appoint a successor. On behalf of all of us at AutoCanada, I want to thank Mike for his leadership and dedication to the company. I am grateful to him for all the contributions he's made to AutoCanada, particularly the outstanding work he's done to strengthen our financial position and improve the balance sheet through rough waters. We wish him well when he embarks on his next phase. We also sincerely appreciate Mike's full support of the transition to a successor. I'll come back to speak more about the outlook and strategy in my concluding remarks. But for now, I'll turn it over to Mike.

Presenter Speech
Michael Borys (Executives)

Thanks, Paul. Our operating model continues to perform. To reiterate some of what Paul just spoke to, we had yet another record quarter, and we continue to see strong results ahead of us. Our reported $76.4 million of adjusted EBITDA in the quarter represented a 12% improvement over prior year's results.

Against this backdrop of a well-performing business model with good free cash flow generation, we remain disciplined in the management of our balance sheet and debt levels as we look forward to pursuing our organic and inorganic growth strategies. In the third quarter of this year, we completed our substantial issuer bid, purchasing and canceling 1,159,707 shares for an aggregate purchase price of $32.5 million.

Paul will speak later to our acquisition pipeline. We will remain disciplined and focused on ensuring that we realize strong returns from any deals that we do complete. We will continue to be good managers of capital allocation. As announced with our results last night, we're launching an SIB with our $50 million offer to repurchase shares at a price of not less than $25 and not more than $28.

Ultimately, we continue to believe that our shares are undervalued. We see a real mismatch between our share price and where we see our value. This may sound a bit casual, but we'd go so far as to say the price at which we can buy back our shares is a gift that cannot be passed on.

Based on the strength of our balance sheet, coupled with our long-term outlook and the cash flows this business generates in the normal course, we see here an opportunity to create value for our shareholders while continuing to ensure we can execute against our M&A pipeline.

Our balance sheet can support both the SIB and our acquisition pipeline as we have it now. At the end of Q3, our net debt leverage was 1.5x. On a gross lease-adjusted basis, our debt leverage was 3.3x. Our complete business model has generated in excess of $100 million of cash over the trailing 12 months based on a TTM-adjusted EBITDA of $280 million.

This is before share repurchases and acquisitions and related impacts. We've updated our guidance on pro forma adjusted EBITDA to be $289.9 million at the end of September 30, 2022. For reference, that is $237.8 million on a pre-IFRS 16 basis. We'll continue to manage our revenue, expense and cash levers to optimize our cash flow in this changing environment. Our business model has been built for resiliency and stability, and we're confident as a team that we will do well in this coming period. We remain well below our stated target for either of the metrics that I spoke to earlier on leverage.

I'll turn it over to Casey to discuss Q3 results.

Presenter Speech
Casey Charleson (Executives)

Thanks, Mike. At the consolidated level, revenue came in at $1.6 billion, an increase of $417 million or 35%. Gross profit came in at $273.6 million, an increase of $53.4 million or 24%. Net income was $32.9 million versus $38.8 million in the prior year. Adjusted EBITDA came in at $76.4 million, which was an increase of $8.1 million, 12% ahead of adjusted EBITDA in the prior year. In our Canadian operations, total retail vehicles sold came in at 22,419, an increase of 3,155 units or 16%.

The Canadian operations generated revenue of $1.4 billion, an increase of 36% versus the prior year. Gross profit was $233.6 million, an increase of 24%. Net income was $30.3 million versus net income of $33.8 million in the prior year. Adjusted EBITDA was $67.6 million, an increase of $6.7 million or 11% ahead of adjusted EBITDA in the prior year. Other key highlights include the following: same store gross profit increased by $15.7 million or 9%, and our gross profit percentage decreased to 17.2% from 18.6%.

Same store used to new retail units ratio increased to 1.75 in the quarter from 1.29. Same store F&I gross profit per retail unit increased to $3,796, up 21% or $657 per unit. Same store F&I gross profit dollars increased $11.1 million or 20%. Same store parts, service and collision repair gross profit increased to $60.6 million, an increase of 11.3%.

In our U.S. operations, revenue was $236 million, an increase from Q3 2021 of 25%. Gross profit was $40.1 million, an increase of 23%. Net income was $2.6 million, a decrease of $2.3 million. Adjusted EBITDA was $8.8 million, an increase of $1.4 million over adjusted EBITDA in the prior year.

New vehicle gross profit increased by $2.6 million and new vehicle gross profit percentage increased by 3.1 percentage points to 15.3%. Used vehicle revenue increased by 37%, while used vehicle gross profit decreased by 111%. The increased volume of used vehicles sold drove our back-end grosses, enhancing our overall profitability. The number of used retail vehicles sold increased by 22% to 2,858 units. I'll now turn the call back over to Paul to discuss our outlook and strategy.

Presenter Speech
Paul Antony (Executives)

Thanks, Casey. Our results to date demonstrate the ongoing strength of our business model, and we remain well positioned to execute on our strategic pillars to deliver industry-leading performance and enhance shareholder returns. This strong performance combined with the continued strength in our balance sheet has allowed us to focus on M&A, as evidenced with the recent acquisitions of Kelleher Ford Dealership and Collision Centre, Velocity Autobody, Auto Gallery of Winnipeg, North Toronto Auto Auctions, Kavia Auto Body and Excellence Auto that we announced a few days ago.

These acquisitions have allowed us to further expand our dealership network, our Used Digital retail initiative and our national collision center footprint across Canada. As of Q3 2022, we have completed $334 million of acquisitions over the past 2 years and $124 million year-to-date in 2022. The current M&A pipeline we have underway remains strong, and we're well positioned to continue to execute in the coming quarters with a number of dealerships and collision centers representing in excess of $250 million in annual revenue currently being evaluated.

We expect to remain disciplined in our approach here, as we have over the past few years, in particular given the broader macro questions. That said, we also think this type of market will lead to sellers who may have been reluctant in the last few years or where we couldn't make the math work to come to the table. As stated earlier, we believe we have capacity on our balance sheet to complete both the SIB for $50 million and work through the deals we have in flight within our acquisition pipeline.

Before we close out, I also want to provide some perspective on how we view our outlook in this changing environment. That said, we will continue to perform well, as evidenced by our Q3 results. Inflation and the increased borrowing costs we are seeing for our customers will likely have an impact. Having said that, we also see that pent-up demand and vehicle supply constraints and pandemic savings levels have an offsetting impact. We're much better equipped to absorb any changing market dynamics given our complete business model and the resiliency we've built into that model. This is a far different company than we were 4 years ago when we took it over. So any comparison to previous AutoCanada is not entirely the full picture. Our business is now about new, used, F&I, parts and service, collision repair, RightRide and Used Digital.

Importantly, that means that we have a number of levers available to management to adjust capital spending, acquisition spending and OpEx management as appropriate. Lastly, I want to reinforce what I hope has become clear: this team has been battle tested over the last 4 years, and we have our learnings to ensure that we will manage the coming quarters appropriately. We've also hired seasoned operators who have spent their careers navigating complex and changing markets. While not always exciting, heads-down execution in this industry is ultimately what's going to prevail, and I remain excited about what the future holds for AutoCanada.

Our business model is durable, our balance sheet is strong, and we remain poised to take advantage of whatever the market throws at us.

I'll now turn it over to the operator for any questions. Thanks a lot.

Question and Answer Operator Message
Operator (Operator)

[Operator Instructions] The first question comes from Chris Murray with ATB Capital Markets.

Question
Chris Murray (Analysts)

The first question is maybe thinking about that the used business going forward and new -- and Paul, I appreciate what you said, I mean, you're going to have to play this kind of by ear a little bit as situations change -- but is there a point where, or an optimum kind of ratio of new to used sales that you're looking for in the business? Is there -- like is there -- like when we started the program of increasing used, it was like kind of 1:1 was the target, then it was whatever we can do. But as new comes back, is there a sweet spot that you want to be aiming at?

Answer
Paul Antony (Executives)

So I think if you go back, when we started talking about the used digital division, I think I said that our goal was 2:1 and eventually getting to 3:1. And that is something that we can only aspire to be. Used cars -- the interesting thing about being in the used car business, it's a different skill set and a different muscle than being in the new car business. And that's why many of the new car dealers in Canada are apprehensive to get into that business. But now that we've built that muscle out, we intend to continue to exploit it. It's one that we actually control our destiny on, versus having OEMs dictating what they actually want and how they see the future going with used. We're able to pull a bunch of levers with our used and offset existing cost structures. And so for us, when we think about ratios, 2:1 is the next milestone and ultimately on the highway we're going to 3:1. That's where we want to be.

Question
Chris Murray (Analysts)

Okay. Fair enough. Along those lines, just in terms of getting used vehicles, certainly lots of discussion around pricing, pricing changes and availability. Is -- are you seeing any issues with getting used vehicles? And does that play into sort of your decision to maybe scale back right at this point, just because you can use those vehicles maybe at a higher margin inside the, call it, the core-type business? And just how is the inventory -- I may have missed the number, but how is used inventory sitting right now in the main business?

Answer
Paul Antony (Executives)

So we're in great shape in our used inventory. It was the best thing that we could have ever done, taking that $10 million write-down on used. We had inventory that -- we had asked our dealerships to build up inventory over the winter and enter into a winter buying program. And we -- by taking that $10 million write-down, we mark-to-marketed all of our used cars, and we ended up selling everything, and -- or selling the volume that we sold -- we ended up not only making up the $10 million, but we made an additional $5 million of earnings. And we cycled through the majority of our old inventory.

And now what we've shown is that we can actually sell the same volume of vehicles with 25% less inventory. And so what we're doing is we're becoming far more efficient. And so for us, that's a great thing. It's a great learning, being able to do a lot more with a lot less. So you asked where our inventory is sitting at. Our inventory is in good shape.

Where we're going to get our inventory? There's no shortage of places that we can actually go. We think that because we can buy in volume, because we can buy off-lease cars before they get offered to the general population and general dealer population, we just have asymmetric advantages that other dealers don't. And because we are a player in the game, probably one of the larger ones in Canada, we think that we have opportunities that others won't be able to go against. So I don't know if that answers your question.

Question
Chris Murray (Analysts)

Yes, it helps. The last question I have for you is just on capital allocation. You've made the comment that you've got, I believe it's roughly $150 million in transactions, waiting in some different stage, whether it's [indiscernible] approval or final due diligence. Is it fair to think that you're going to move back into what I would call the classic dealership store acquisition in the next little while? And does that imply that multiples have maybe come back to more reasonable levels, that the numbers are making a lot more sense?

Answer
Paul Antony (Executives)

So I'd say this: I don't know if I'm going to answer your question the way you'd like it answered, but why don't I answer it the way I'm thinking about it. We think that dealerships are overpriced right now. We think that earnings have been high for the last 3 years and that everybody has been over-earning. That said, we also think that when things come down, we think that we have less to fall because, again, we have levers to pull within our SG&A, we have levers to pull within our used vehicle business.

We have levers to pull within our collision repair, and we think that we operate at a different level. And so with that said, there's a lot of dealers that have expectations that probably don't match our arithmetic right now. And so with increasing interest rates, that's going to be a hit to many dealers' P&Ls. And we think that there are going to be a lot of banks that will tighten up on how they're financing other dealers, and therefore dealers acquisitions, we think, therefore, compressing multiples going forward. And not to mention the fact that if earnings start dropping, the multiples then on a go-forward basis are going to come down.

And so I think what we're going to do is we're going to continue with the pipeline that we have and the deals that we have in flight that we're signed up to, but probably take a bit of a breather as we watch the market. And frankly -- you mentioned the SIB -- the reason we're doing the share buyback is, our shares are so cheap relative to the cost of other dealerships right now, it's -- this is a perfect storm of being able to buy our own dealer group at what we feel are prices that we think are incomparable to be able to go and acquire in the market.

And so while our stock is performing at the level it's performing at, we tend to -- we have an interest in taking advantage of that. And so we feel that we can sit on the sidelines and watch. And if we're wrong, we're wrong for a couple of quarters, while dealers have their expectations start to come down to reality.

Question and Answer Operator Message
Operator (Operator)

Your next question comes from Tamy Chen with BMO Capital Markets.

Question
Tamy Chen (Analysts)

Paul, just to circle back on that last comment about the SIB, I wanted to take it back to overall capital allocation. It really sounds like -- and I just wanted to revisit this and make it clear -- the way you think about deploying capital, between your organic initiatives, M&A and things like an SIB, returns to shareholders, would you say that essentially the latter, the return to shareholders, has now moved up in your pecking order given where your stock is at?

Answer
Paul Antony (Executives)

I would say, given where our stock is at, I think it was -- it's kind of hit me -- and so a friend of mine shared with me, if we were given the opportunity to go buy a dealer group of 80-some-odd dealerships that were present in Canada and the U.S. that had earnings identical to AutoCanada and locations and brands identical to AutoCanada that was trading where AutoCanada was at, would we get approval from our Board?

And the answer is for sure, because we're trading so low relative to our peers. And so -- when you think of it in those terms, like I don't know how long our share price is going to stay where it is, but certainly, it creates a huge opportunity, one that I think it's made me realize the mismatch in public markets for value versus valuation. And so again, I don't know if that answers your question. I just think that this is -- we're being opportunistic right now.

Question
Tamy Chen (Analysts)

Got it. Okay. No, it does. And my follow-up is, I'm just curious, why do you think it is that in some of your publicly traded peers in the U.S. in the third quarter are sounding more and more cautious about the demand environment, whereas in Canada it really seems like you're not seeing signs of this?

Answer
Paul Antony (Executives)

So I can tell you, my previous life to this, I was one of the founders and Chairman and CEO of Vehicle History Report -- or CarProof Vehicle History Reports, which is now CARFAX in Canada. And we were in virtually all dealerships in Canada. And I had a front-row seat to watching the '08/'09 crisis with volumes, so on and so forth. And I will tell you that the Canadian market behaves differently than the U.S. And so it's very interesting. I've seen analyst reports and I've seen a lot of people using analogues from Canada to the U.S. that actually don't necessarily translate.

The Canadian market is a different market than the U.S. market. And so it's interesting, we are not seeing that same level for whatever reason, and I can't give you the answer, but we are not seeing that same level of drop in Canada versus the U.S. But that said, our U.S. stores are also not seeing that same level of drop. And so -- what I think you're reading about and hearing about is like the Manheim Index that a lot of people speak about. And the Manheim Index -- like Manheim is a force to be reckoned with in the United States, but it's not actually a big -- a very good representation of what occurs in Canada necessarily.

And so I think to get a better bird's eye view, when we look at our stores, we have a pretty significant footprint across the country. We have a pretty good idea of what the market is doing. And I would say that's completely divergent -- not completely, it's quite divergent from the U.S. But if you're asking me why, I can't tell you why, other than I do have a thesis, which is I think Canada gets its inventory after the U.S. gets full. And so while Canada will always get inventory, the first choice is always deliver to the U.S. And therefore, more cars have likely hit the ground in the U.S. versus Canada. And so Canada still has a ways to go to meet that pent-up demand.

Question and Answer Operator Message
Operator (Operator)

Your next question comes from Michael Doumet with Scotiabank.

Question
Michael Doumet (Analysts)

I'll start off with a shout out to Mike. Mike, obviously your work here has been impressive, and -- I think I say this for many -- you'll be missed.

Answer
Michael Borys (Executives)

Thank you very much.

Question
Michael Doumet (Analysts)

My question, I guess, first question on the lowered inventory levels on the used. I mean it sounds to me, Paul, like the step-down here was intentional. I understand that there is -- you typically stock up counter-seasonally. I'm just wondering, as we go into 2023, what your comfort level is in terms of building that back up, or is there here maybe an element and a learning that you can do more with less?

Answer
Paul Antony (Executives)

So we can. So the learning is that we can absolutely do more with less. The sell-down was intentional. And so what happens -- and this is interesting, and we learned this when Jeff Thorpe, Brian and Lee joined us, that we had a bunch of inventory just for the sake of having a bunch of inventory, but it wasn't necessarily the right mix. We needed to put the right cars in the right stores at the right price. And so when you have inventory that's been sitting for 90 days or greater and that inventory starts sitting on the lot and not getting the same number of leads on it and so on, then chances are it's either in the right -- it's in the wrong place or at the wrong price.

And so actually putting those vehicles at the right price allowed us to flow those through the system. For sure, it compressed some margins because we made less profit on those vehicles as we advanced them. But as I said, we were able to make an extra $5 million.

That said, we also learned that the mix is changing. And so what people are trying to buy right now is not what they were trying to buy a year ago. Given the increased interest rate environment, there's a huge sensitivity towards payments, so that means that we need to change the mixture of the vehicles that we're buying. And so for us, actually, repositioning our inventory made a ton of sense. That said, are we going to stock up again? We absolutely are in the mode of restocking, but reconfiguring the type of vehicles that we need to have, so we're not necessarily taking any more -- I don't want to say that we'll never take a write-down again, but we don't want to do that. We don't want to make a habit of it. We want to buy the right cars at the right price, advance them quickly, sell F&I and service a bunch of cars.

Question
Michael Doumet (Analysts)

That's really great color. And then just moving to F&I, that's a number we've all watched continue to go up. So I wonder here, is it a function of higher loan value? Is it product penetration? And just as we go into 2023, how does this evolve, especially consumers having to tackle budget pressures?

Answer
Paul Antony (Executives)

How does it evolve? Well, listen, I mean, go back to the script or our calls 3 years ago and everybody was asking us, can we do more? Like, is F&I going to stop? It's like, holy smokes, this thing keeps on going up and you guys are incredible. I would say that hats off to Mikel Pestrak and his team. These guys are unbelievable at their training, at the way they actually approach the entire business. And so can it continue to go up? I don't know how much more it has to go. Are we proud of what we've done, and do we think that it's sustainable? We do think it's sustainable. And our goal right now is to continue selling more high-quality products into the market and continuing to execute on increased penetration on sales?

Question
Michael Doumet (Analysts)

Got it. And if I could sneak one more in. On SG&A here, it sounds like you have some levers and you're pursuing some efficiencies. I wonder if you can discuss an OpEx to gross margin range -- if we do go into a downturn, what the upper limit could be? And then kind of vice versa, I think you talked about the 60% as being a longer-term goal, but just, I guess, in a downturn of what you can do, and if, I guess, at this point now, if you're already considering cost actions?

Answer
Paul Antony (Executives)

Well, so here's the interesting thing. So what we've done is we've completely -- when we got here, as you know, this was a bit of a dumpster fire, which we didn't realize until already taking the roles. And there was a lot of work to be done. And so previous management, Michael did a great job setting up the used car strategy, collision, F&I and all those wonderful things.

And we never really got into cost-cutting mode. It was all about selling more cars and standing up divisions like RightRide and setting up all these value creation divisions. And then as our share price kept going up and our earnings kept going up, we started saying to ourselves, well, holy smokes, now it's time to turn on the M&A jets, and we should start M&A. And so as a result of that, we're going to need to add costs. We need to have an integration team. We need to have all these wonderful things. And so we added more costs to the system in an expectation that we're going to continue growing through acquisitions and continue different levers of the business.

We do have some expense in the business also. I will tell you, our BI team is unbelievable. And the amount of data that we're getting out of that is, I would think it's next level. And so if you think of all these things, we've never really rationalized costs within the business. Not to say that we're going to get rid of any of those costs that we've just added, but there were a lot of costs that we had within the business that we're never tended to because we were busy building the business. And so all we're saying is that now that we've done the job of standing up the used, standing up the collision, standing up RightRide, building out F&I, fixing the U.S., the next leg of the journey for us is actually looking at some of our expenses and realizing that we're paying twice on Microsoft accounts or overpaying on different things that we've never had the opportunity to look at within the business, which will have the effect of bringing down our SG&A relative to our gross profit.

Question and Answer Operator Message
Operator (Operator)

Your next question comes from Luke Hannan with Canaccord Genuity.

Question
Luke Hannan (Analysts)

Paul, I just wanted to go back to what you said about RightRide, pushing that out until next year, talking about medium-term targets for that business as well. Can you just share what you're seeing today, specifically with, we'll say, both -- or 3 different categories, I guess, prime customers, subprime customers and that nonprime category?

Answer
Paul Antony (Executives)

So yes, so you're talking about prime, near prime, subprime?

Question
Luke Hannan (Analysts)

Yes, correct.

Answer
Paul Antony (Executives)

Yes. So what we're seeing is we're seeing compression in the subprime business market. And that is where -- that's where the traditional RightRide that we set up originally exists. It was the subprime business. And so what we're seeing is where the banks need to collateralize the vehicle and the consumer, and banks are getting a little bit skittish on valuations, that valuations of used cars might fall, what we're seeing is certain banks getting out of the subprime business. And so where before, our subprime -- I'm making it up, but was in the 20s, it's now dropping down to 20% of that entire business. And so for us, being more methodical about how we're building it.

And by the way, I think if there is a recession, we're going to see people that are in the prime business go into -- or near-prime -- people that are in near-prime will start moving to subprime. And then people that were in subprime will eventually just not get financed. And so we're just being abundantly cautious that we're setting the right tone and expectations, because you'll remember, Luke, when you were with us at our analyst event in Florida, we started talking about RightRide and that we're going to throw up stores like Starbucks stores, and like that was very aspirational, like we'd love to get to 75 stores.

But if we put reality in front of us, the reality is that we feel that we can get to 35 stores meaningfully profitable and do a really good job with that, that will help the business just all the way around. And so that's kind of the way we're thinking about it, just being measured.

Question
Luke Hannan (Analysts)

Understood. And then second question here, you had talked about before that the Manheim Index isn't exactly the perfect proxy to use to be able to use for used vehicle pricing at the dealership level. I'm curious to know what are the, I guess, key differences in the dynamics between the wholesale, the auction market for used vehicles and then also the retail market. Is there a difference in the efficiencies there? Is there a lag time that we should expect between wholesale and retail? What are the key differences there?

Answer
Paul Antony (Executives)

So I actually -- I want to tell you this, but this is part of our secret sauce that we've developed at AutoCanada, because we track and buy such a large quantity of used vehicles as well as sell them, I would say that we're seeing leading indicators telling us what pricing will do over the course of the next month to 6 months. And so that gives us an indication of how we want to buy the types of cars we want to buy and how much we want to spend. And it's shown after the last several years that we've been actually far more accurate in Canada predicting where vehicle values will go than Manheim, not that they're smarter than us, but that we have different barometers than them. And our data is probably a little bit more accurate in Canada than theirs.

Question
Luke Hannan (Analysts)

Okay. Got it. And then last one for me, a quick one. I did see in the MD&A that the used vehicle gross margin in the U.S. was slightly negative there. Can you just go into a little bit more detail about what exactly drove that?

Answer
Paul Antony (Executives)

Yes. So we're -- again, we're very, very disciplined on how we -- on our inventory levels in Canada and the U.S. The U.S., we mark-to-market our stuff on a 90-day window. And so when our vehicles are aged, we put them -- we basically put them on the money using, in the States, a methodology like Manheim or Kelley Blue Book, we put them at market value. And then we then advance them to one of our dealerships. So our next dealership gets a chance to take advantage of the write-down on that car. The dealership that we move the car to actually takes the loss on that vehicle. So we mark-to-market it in real time and we move on. And so what I think you've seen is, in the States, we did see prices come down, and we've actually absorbed that within our dealerships.

Question and Answer Operator Message
Operator (Operator)

Your next question comes from Adam Mcbain with Cormark Securities.

Question
Adam Mcbain (Analysts)

First question for you. On RightRide, you sort of reiterated your midterm location target goal of 35. Curious on the time frame for that and maybe thinking longer term, is the right number still 75?

Answer
Paul Antony (Executives)

So I guess I was trying to telegraph this. The 75 -- and I don't know, were you at the conference with us?

Question
Adam Mcbain (Analysts)

No, I was not. I'm subbing in for [ David ].

Answer
Paul Antony (Executives)

Right. So I would tell you, the 75 was very aspirational. It was a very aspirational target. We kind of talked about being able to put these -- stand these stores up and stand them up like Starbucks, one a week, and open them in great quantity across the country. There was really no math or rigor put behind it. What we feel comfortable telling the market is that everybody started hanging on the 75 and we want to make sure that we're actually telling the right story and being very transparent.

We feel very comfortable with 35 stores. We think that 35 stores doesn't oversaturate the market. It's likely enough for us to get the job done. And frankly, it will be a lot of work to get there. 75, over time, it could happen. It definitely could happen. It's a heavy lift. And in a market like this where financing is going to get challenging and so on, if we're going to have to stand up for something, we're going to stand up to the 35 stores. And we thought that now is probably the best time to explain that to you and any of our investors. While nobody -- it seemed like nobody is really giving credit to RightRide, now is the time for everybody to really understand what the RightRide business is. And so we think very confidently we can deliver on 35 stores over the next 3, 4 years, selling kind of the volumes that we had discussed.

Question
Adam Mcbain (Analysts)

Okay. Perfect. That's helpful. And can you please remind us how do used vehicle margins at RightRide compared to used margins at franchise dealerships?

Answer
Paul Antony (Executives)

So Mike, I'll let you take that, if you don't mind.

Answer
Michael Borys (Executives)

Yes. We actually don't break out the margins for RightRide, so I'd rather actually not comment on that breakout. It's included in when we show new and used and the different components, it's all put into those line items, but we don't break out RightRide, just given materiality at this point in time.

Question
Adam Mcbain (Analysts)

Okay. Understood. Historically, looking at the track record for F&I, is this the first item to fall off in a recessionary environment? I think you noted in the past that you can sort of change products that you offer in different environments. If you can elaborate on that a little bit further, that would be very helpful.

Answer
Paul Antony (Executives)

All I would say to that is we're not showing any signs currently of it coming down, and we believe that we're delivering good products to consumers. And so there should really be no reason for it to.

Question
Adam Mcbain (Analysts)

Okay. Perfect. And then last one for me, used vehicles is a spread business. How long before you work through some of the higher-priced inventory and margins start to normalize?

Answer
Paul Antony (Executives)

I'm sorry, could you repeat that?

Question
Adam Mcbain (Analysts)

Yes. So used vehicles, as we understand it's a spread business, how long is it going to take before you work through some of the higher-priced inventory and margins for the segment begin to normalize?

Answer
Paul Antony (Executives)

You're talking about the used vehicles?

Question
Adam Mcbain (Analysts)

Yes.

Answer
Paul Antony (Executives)

We think we did that. Like we think that was a big part of that write-down. So we took a $10 million write-down, and the purpose of that was so we could work through any vehicles that were sitting that were either overpriced or in the wrong dealership.

Question and Answer Operator Message
Operator (Operator)

There are no further questions at this time. Mr. Antony, you may proceed.

Answer
Paul Antony (Executives)

Well, listen, we really appreciate everybody's time today. And sorry about the last call. We had a bunch of people wanting to ask questions, but for whatever reason we were all shut out. So we look forward to meeting with everybody on the next call and again hopefully delivering results similar to what you've seen today. So we're thrilled with the business and thrilled with your support. So thank you very much. And Mike, again, publicly, we appreciate everything you've done. So thank you.

Answer
Michael Borys (Executives)

Thank you very much.

Question and Answer Operator Message
Operator (Operator)

Ladies and gentlemen, this concludes your conference.

Answer
Paul Antony (Executives)

Thank you very much. Yes. Bye-bye.

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