Annual Reports

 
Quarterly Reports

  • 10-Q (Aug 4, 2014)
  • 10-Q (Apr 29, 2014)
  • 10-Q (Oct 31, 2013)
  • 10-Q (Aug 1, 2013)
  • 10-Q (May 10, 2013)
  • 10-Q (Oct 26, 2012)

 
8-K

 
Other

Group 1 Automotive 10-Q 2008

Documents found in this filing:

  1. 10-Q
  2. Ex-31.1
  3. Ex-31.2
  4. Ex-32.1
  5. Ex-32.2
  6. Ex-32.2
e10vq
Table of Contents

 
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
 
     
þ
  QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the quarterly period ended June 30, 2008
OR
o
  TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
    For the transition period from          to          
 
Commission File Number: 1-13461
 
 
 
         
Delaware     76-0506313  
(State or other jurisdiction of
incorporation or organization)
    (I.R.S. Employer
Identification No.
)
 
800 Gessner, Suite 500
Houston, Texas 77024
(Address of principal executive offices) (Zip Code)
 
 
(713) 647-5700
(Registrant’s telephone number, including area code)
 
 
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes  þ     No o
 
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
 
             
Large accelerated filer þ
  Accelerated filer o   Non-accelerated filer o
(Do not check if a smaller reporting company)
  Smaller reporting company o
 
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o     No þ
 
As of August 4, 2008, the registrant had 23,270,471 shares of common stock, par value $0.01, outstanding.
 


 

 
 
             
  Financial Statements     3  
    Cautionary Statement about Forward-Looking Statements     30  
  Management’s Discussion and Analysis of Financial Condition and Results of Operations     32  
  Quantitative and Qualitative Disclosures about Market Risk     53  
  Controls and procedures     53  
 
  Legal Proceedings     54  
  Risk Factors     54  
  Submission of Matters to a Vote of Security Holders     55  
  Exhibits     55  
    56  
 Certification of CEO Pursuant to Section 302
 Certification of CFO Pursuant to Section 302
 Certification of CEO Pursuant to Section 906
 Certification of CFO Pursuant to Section 906


2


Table of Contents

 
 
Item 1.   Financial Statements
 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
CONSOLIDATED BALANCE SHEETS
 
                 
    June 30,
    December 31,
 
    2008     2007  
    (Unaudited)        
    (In thousands, except per share amounts)  
 
ASSETS
CURRENT ASSETS:
               
Cash and cash equivalents
  $ 39,968     $ 34,248  
Contracts-in-transit and vehicle receivables, net
    146,818       189,400  
Accounts and notes receivable, net
    84,179       82,698  
Inventories
    934,706       878,168  
Assets related to discontinued operations
          30,531  
Deferred income taxes
    18,933       18,287  
Prepaid expenses and other current assets
    22,286       29,651  
                 
Total current assets
    1,246,890       1,262,983  
                 
PROPERTY AND EQUIPMENT, net
    542,453       427,223  
GOODWILL
    500,388       486,775  
INTANGIBLE FRANCHISE RIGHTS
    307,304       300,470  
OTHER ASSETS
    25,961       28,730  
                 
Total assets
  $ 2,622,996     $ 2,506,181  
                 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
               
Floorplan notes payable — credit facility
  $ 755,009     $ 648,469  
Floorplan notes payable — manufacturer affiliates
    168,901       170,911  
Current maturities of long-term debt
    13,667       12,260  
Accounts payable
    110,321       111,458  
Liabilities related to discontinued operations
          35,180  
Accrued expenses
    101,760       100,000  
                 
Total current liabilities
    1,149,658       1,078,278  
                 
LONG-TERM DEBT, net of current maturities
    587,710       641,821  
OTHER REAL ESTATE RELATED AND LONG-TERM DEBT, net of current maturities
    37,296       6,104  
CAPITAL LEASE OBLIGATIONS RELATED TO REAL ESTATE, net of current maturities
    40,225       26,913  
DEFERRED INCOME TAXES
    29,772       6,849  
LIABILITIES FROM INTEREST RATE RISK MANAGEMENT ACTIVITIES
    15,395       16,188  
OTHER LIABILITIES
    32,089       29,016  
                 
Total liabilities before deferred revenues
    1,892,145       1,805,169  
                 
DEFERRED REVENUES
    13,693       16,531  
STOCKHOLDERS’ EQUITY:
               
Preferred stock, $0.01 par value, 1,000 shares authorized; none issued or outstanding
           
Common stock, $0.01 par value, 50,000 shares authorized; 25,554 and 25,532 issued, respectively
    256       255  
Additional paid-in capital
    292,807       293,675  
Retained earnings
    529,892       502,783  
Accumulated other comprehensive loss
    (9,097 )     (9,560 )
Treasury stock, at cost; 2,289 and 2,427 shares, respectively
    (96,700 )     (102,672 )
                 
Total stockholders’ equity
    717,158       684,481  
                 
Total liabilities and stockholders’ equity
  $ 2,622,996     $ 2,506,181  
                 
 
The accompanying notes are an integral part of these consolidated financial statements.


3


Table of Contents

GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
UNAUDITED CONSOLIDATED STATEMENTS OF OPERATIONS
 
                                 
    Three Months Ended June 30,     Six Months Ended June 30,  
    2008     2007     2008     2007  
    (In thousands, except per share amounts)  
 
REVENUES:
                               
New vehicle retail sales
  $ 971,281     $ 1,039,549     $ 1,860,062     $ 1,952,993  
Used vehicle retail sales
    298,593       296,650       602,588       576,651  
Used vehicle wholesale sales
    67,496       81,590       134,723       154,746  
Parts and service sales
    192,753       176,437       383,589       349,200  
Finance, insurance and other, net
    52,992       52,051       105,416       101,088  
                                 
Total revenues
    1,583,115       1,646,277       3,086,378       3,134,678  
COST OF SALES:
                               
New vehicle retail sales
    908,262       970,248       1,739,899       1,820,301  
Used vehicle retail sales
    266,192       261,684       536,605       506,507  
Used vehicle wholesale sales
    68,290       82,139       135,458       154,097  
Parts and service sales
    88,960       80,029       175,426       160,451  
                                 
Total cost of sales
    1,331,704       1,394,100       2,587,388       2,641,356  
                                 
GROSS PROFIT
    251,411       252,177       498,990       493,322  
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
    195,337       191,998       390,399       385,000  
DEPRECIATION AND AMORTIZATION EXPENSE
    6,497       5,103       12,315       9,838  
ASSET IMPAIRMENTS
          356             356  
                                 
INCOME FROM OPERATIONS
    49,577       54,720       96,276       98,128  
OTHER INCOME AND (EXPENSES):
                               
Floorplan interest expense
    (12,392 )     (11,477 )     (24,400 )     (23,388 )
Other interest expense, net
    (7,066 )     (6,141 )     (14,904 )     (10,661 )
Gain on redemption of senior subordinated notes
                       
Other income, net
    (36 )     95       723       191  
                                 
INCOME BEFORE INCOME TAXES
    30,083       37,197       57,695       64,270  
PROVISION FOR INCOME TAXES
    11,591       12,908       22,100       22,349  
                                 
INCOME FROM CONTINUING OPERATIONS
  $ 18,492     $ 24,289     $ 35,595     $ 41,921  
DISCONTINUED OPERATIONS
                               
Loss related to discontinued operations
    (2,367 )     (104 )     (3,481 )     (381 )
Income tax benefit related to losses on discontinued operations
    1,091       31       1,478       123  
                                 
Loss from discontinued operations
    (1,276 )     (73 )     (2,003 )     (258 )
                                 
NET INCOME
  $ 17,216     $ 24,216     $ 33,592     $ 41,663  
                                 
BASIC EARNINGS (LOSS) PER SHARE:
                               
Earnings per share from continuing operations
  $ 0.82     $ 1.02     $ 1.58     $ 1.76  
Loss per share from discontinuing operations
    (0.06 )           (0.09 )     (0.01 )
                                 
Earnings per share
  $ 0.76     $ 1.02     $ 1.49     $ 1.75  
                                 
Weighted average common shares outstanding
    22,478       23,744       22,566       23,819  
DILUTED EARNINGS (LOSS) PER SHARE:
                               
Earnings per share from continuing operations
  $ 0.82     $ 1.02     $ 1.57     $ 1.75  
Loss per share from discontinuing operations
    (0.06 )     (0.01 )     (0.09 )     (0.01 )
                                 
Earnings per share
  $ 0.76     $ 1.01     $ 1.48     $ 1.74  
                                 
Weighted average common shares outstanding
    22,661       23,888       22,728       23,984  
CASH DIVIDENDS PER COMMON SHARE
  $ 0.14     $ 0.14     $ 0.28     $ 0.28  
 
The accompanying notes are an integral part of these consolidated financial statements.


4


Table of Contents

GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
UNAUDITED CONSOLIDATED STATEMENTS OF CASH FLOWS
 
                 
    Six Months Ended June 30,  
    2008     2007  
    (In thousands)  
 
CASH FLOWS FROM OPERATING ACTIVITIES:
               
Net income
  $ 33,592     $ 41,663  
Net loss from discontinued operations
    2,003       258  
Adjustments to reconcile net income to net cash provided by operating activities:
               
Asset impairments
          356  
Depreciation and amortization
    12,315       9,838  
Deferred income taxes
    22,277       12,243  
Other
    4,283       3,395  
Changes in operating assets and liabilities, net of effects of acquisitions and dispositions:
               
Contracts-in-transit and vehicle receivables
    44,182       15,937  
Accounts and notes receivable
    (970 )     (4,677 )
Inventories
    (44,274 )     3,087  
Prepaid expenses and other assets
    15,212       10,777  
Floorplan notes payable — manufacturer affiliates
    (3,522 )     (10,365 )
Accounts payable and accrued expenses
    (428 )     19,929  
Deferred revenues
    (2,838 )     (2,380 )
                 
Net cash provided by operating activities, from continuing operations
    81,832       100,061  
                 
Net cash used in operating activities, from discontinued operations
    (13,373 )     (3,551 )
                 
CASH FLOWS FROM INVESTING ACTIVITIES:
               
Purchases of property and equipment
    (114,994 )     (55,697 )
Proceeds from sales of franchises, property and equipment
    18,445       9,667  
Cash paid in acquisitions, net of cash received
    (48,389 )     (111,116 )
Other
    1,088       2,479  
                 
Net cash used in investing activities, from continuing operations
    (143,850 )     (154,667 )
                 
Net cash provided by (used in) investing activities, from discontinued operations
    23,051       (137 )
                 
CASH FLOWS FROM FINANCING ACTIVITIES:
               
Borrowings on credit facility — Floorplan Line
    2,876,729       2,835,096  
Repayments on credit facility — Floorplan Line
    (2,771,438 )     (2,813,998 )
Repayments on credit facility — Acquisition Line
    (150,000 )      
Borrowings on credit facility — Acquisition Line
    65,000        
Borrowings on mortgage facility
    54,625        
Borrowings of long-term debt related to real estate purchases
    33,515       75,050  
Repurchase of senior subordinated notes
    (17,762 )      
Dividends paid
    (6,483 )     (6,775 )
Principal payments of long-term debt
    (5,050 )     (521 )
Principal payments on mortgage facility
    (3,236 )      
Proceeds from issuance of common stock to benefit plans
    1,990       2,894  
Borrowings on other facilities for acquisitions
    1,490        
Debt issue costs
    (365 )     (3,550 )
Excess tax benefits from stock-based compensation
    178       103  
Repayments on other facilities for divestitures
          (2,498 )
Repurchases of common stock, amounts based on settlement date
          (16,003 )
                 
Net cash provided by financing activities, from continuing operations
    79,193       69,798  
                 
Net cash provided by (used in) financing activities, from discontinued operations
    (21,103 )     1,221  
                 
EFFECT OF EXCHANGE RATE CHANGES ON CASH
    (30 )     (9 )
                 
NET INCREASE IN CASH AND CASH EQUIVALENTS
    5,720       12,716  
CASH AND CASH EQUIVALENTS, beginning of period
    34,248       39,340  
                 
CASH AND CASH EQUIVALENTS, end of period
  $ 39,968     $ 52,056  
                 
SUPPLEMENTAL DISCLOSURES OF CASH FLOW INFORMATION:
               
Cash paid for:
               
Interest
  $ 44,655     $ 34,398  
Income tax expenses, net of (refunds) received
  $ 5,210     $  
 
The accompanying notes are an integral part of these consolidated financial statements.


5


Table of Contents

GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
UNAUDITED CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
 
                                                                         
                      Accumulated Other
             
                            Comprehensive Income (Loss)              
                            Unrealized
    Unrealized
    Unrealized
             
                Additional
          Gains (Losses)
    Gains (Losses)
    Gains on
             
    Common Stock     Paid-in
    Retained
    on Interest
    on Marketable
    Currency
    Treasury
       
    Shares     Amount     Capital     Earnings     Rate Swaps     Securities     Translation     Stock     Total  
    (In thousands)        
 
BALANCE, December 31, 2007
    25,532     $ 255     $ 293,675     $ 502,783     $ (10,118 )   $ (76 )   $ 634     $ (102,672 )   $ 684,481  
Comprehensive income:
                                                                       
Net income
                      33,592                               33,592  
Interest rate swap adjustment, net of tax benefit of $297
                            496                         496  
Gain on investments, net of taxes of $6
                                  10                   10  
Unrealized loss on currency translation
                                        (43 )             (43 )
                                                                         
Total comprehensive income
                                                                    34,055  
Issuance of common and treasury shares to employee benefit plans
    (143 )     (1 )     (6,041 )                             5,951       (91 )
Proceeds from sales of common stock under employee benefit plans
    108       1       1,967                               21       1,989  
Issuance of restricted stock
    83       1       (1 )                                    
Forfeiture of restricted stock
    (26 )                                                
Stock-based compensation
                3,387                                     3,387  
Tax benefit from options exercised and the vesting of restricted shares
                (180 )                                   (180 )
Cash dividends
                      (6,483 )                             (6,483 )
                                                                         
BALANCE, June 30, 2008
    25,554     $ 256     $ 292,807     $ 529,892     $ (9,622 )   $ (66 )   $ 591     $ (96,700 )   $ 717,158  
                                                                         
 
The accompanying notes are an integral part of these consolidated financial statements.


6


Table of Contents

GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
 
1.   BUSINESS AND ORGANIZATION:
 
Group 1 Automotive, Inc., a Delaware corporation, through its subsidiaries, is a leading operator in the automotive retailing industry with operations in the states of Alabama, California, Florida, Georgia, Kansas, Louisiana, Maryland, Massachusetts, Mississippi, New Hampshire, New Jersey, New York, Oklahoma, South Carolina and Texas in the United States and in the towns of Brighton, Hailsham and Worthing in the United Kingdom (U.K.). Through their dealerships, these subsidiaries sell new and used cars and light trucks; arrange related financing, and sell vehicle service and insurance contracts; provide maintenance and repair services; and sell replacement parts. Group 1 Automotive, Inc. and its subsidiaries are collectively referred to as the “Company” or “Group 1” in these notes.
 
As of June 30, 2008, the Company’s retail network consisted of the following three regions (with the number of dealerships they comprised): (i) Eastern (40 dealerships in Alabama, Florida, Georgia, Louisiana, Maryland, Massachusetts, Mississippi, New Hampshire, New Jersey, New York and South Carolina); (ii) Central (47 dealerships in Kansas, Oklahoma and Texas); and (iii) Western (11 dealerships in California). Each region is managed by a regional vice president reporting directly to the Company’s Chief Executive Officer, who are responsible for the overall performance of their regions, as well as for overseeing the market directors and dealership general managers that report to them. In addition, the Company’s international operations consist of three dealerships in the U.K. also managed locally with direct reporting responsibilities to the Company’s corporate management team.
 
2.   SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES:
 
 
All acquisitions of dealerships completed during the periods presented have been accounted for using the purchase method of accounting and their results of operations are included from the effective dates of the closings of the acquisitions. The allocations of purchase price to the assets acquired and liabilities assumed are assigned and recorded based on estimates of fair value. All intercompany balances and transactions have been eliminated in consolidation.
 
 
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments of a normal and recurring nature considered necessary for a fair presentation have been included in the financial statements. Due to seasonality and other factors, the results of operations for the interim period are not necessarily indicative of the results that will be realized for the entire fiscal year. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2007 (“2007 Form 10-K”).
 
 
During the three months ended June 30, 2008, the Company disposed of certain operations that qualified for discontinued operations accounting treatment. In order to reflect these operations as discontinued, the necessary reclassifications have been made to the Company’s Consolidated Statement of Operations for the three and six months ended June 30, 2007, as well as the Company’s Consolidated Statement of Cash Flows for the six months ended June 30, 2007. In addition, the Company has made reclassifications to the Consolidated Balance Sheet as of December 31, 2007, which was derived from the audited Consolidated Balance Sheet included in the Company’s 2007 Form 10-K.


7


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
 
 
With respect to all new vehicle floorplan borrowings, vehicle manufacturers draft the Company’s credit facilities directly with no cash flow to or from the Company. With respect to borrowings for used vehicle financing, the Company chooses which vehicles to finance and the funds flow directly to the Company from the lender. All borrowings from, and repayments to, lenders affiliated with the vehicle manufacturers (excluding the cash flows from or to affiliated lenders participating in our syndicated lending group) are presented within cash flows from operating activities on the Consolidated Statements of Cash Flows and all borrowings from, and repayments to, the syndicated lending group under the revolving credit facility (including the cash flows from or to affiliated lenders participating in the facility) are presented within cash flows from financing activities.
 
 
Currently, the Company operates in 15 states in the U.S. and three cities in the U.K. Each of these tax jurisdictions has unique tax rates and payment calculations. As the amount of income generated in each jurisdiction varies from period to period, the Company’s estimated effective tax rate can vary based on the proportion of taxable income generated in each jurisdiction.
 
The effective income tax rate of 38.5% and 38.3% of pretax income from continuing operations for the three and six months ended June 30, 2008, respectively, differed from the federal statutory rate of 35% due primarily to the taxes provided for the taxable state jurisdictions in which the Company operates. For the three and six months ended June 30, 2008, our effective tax rate related to continuing operations increased to 38.5% and 38.3% from 34.7% and 34.8%, respectively, for the same periods in 2007, due primarily to the benefit received from tax-deductible goodwill for 2007 dealership dispositions and changes in the mix of our pretax income from the taxable state jurisdictions in which we operate.
 
The Company’s option grants include options that qualify as incentive stock options for income tax purposes. The treatment of the potential tax deduction, if any, related to incentive stock options may cause variability in the Company’s effective tax rate in future periods. In the period in which compensation cost related to incentive stock options is recorded in accordance with Statement of Financial Accounting Standards (“SFAS”) No. 123(R), “Share-Based Payment” (“SFAS 123(R)”), a corresponding tax benefit is not recorded, as based on the design of these incentive stock options, the Company is not expected to receive a tax deduction related to such incentive stock options when exercised. However, if upon exercise the incentive stock options fail to continue to meet the qualifications for treatment as incentive stock options, the Company may be eligible for certain tax deductions in subsequent periods. In those cases, the Company would record a tax benefit for the lower of the actual income tax deduction or the amount of the corresponding cumulative stock compensation cost recorded in the financial statements for the particular options multiplied by the statutory tax rate.
 
Effective January 1, 2007, the Company adopted Financial Accounting Standards Board (“FASB”) Interpretation No. 48, “Accounting for Uncertainty in Income Taxes, an Interpretation of FASB Statement 109” (“FIN 48”). This statement clarifies the criteria that an individual tax position must satisfy for some or all of the benefits of that position to be recognized in a company’s financial statements. FIN 48 prescribes a recognition threshold of more-likely-than-not, and a measurement attribute for all tax positions taken or expected to be taken on a tax return, in order to be recognized in the financial statements (See Note 5 for additional information). No cumulative adjustment was required to effect the adoption of FIN 48.
 
 
The functional currency for our foreign subsidiaries is the Pound Sterling. The financial statements of all our foreign subsidiaries have been translated into U.S. dollars in accordance with SFAS No. 52, “Foreign Currency Translation.” All assets and liabilities of foreign operations are translated into U.S. Dollars using period-end exchange rates and all revenues and expenses are translated at average rates during the respective period. The U.S. Dollar results that arise from the translation of all assets and liabilities are included in the cumulative currency translation adjustments in accumulated other comprehensive income of stockholders’ equity.


8


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
 
 
Effective January 1, 2008, the Company adopted SFAS No. 157, “Fair Value Measurements,” (“SFAS 157”), which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements, for all of its financial assets and liabilities. The statement does not require new fair value measurements, but (i) emphasizes that fair value is a market-based measurement that should be determined based on the assumptions that market participants would use in pricing an asset or liability and (ii) provides guidance on how to measure fair value by providing a fair value hierarchy for classification of financial assets or liabilities based upon measurement inputs. SFAS 157 applies to other accounting pronouncements that require or permit fair value measurements. The adoption of SFAS 157 did not have a material effect on the Company’s results of operations or financial position. See Note 8 for additional information regarding the application of SFAS 157 and further details regarding fair value measurement of the Company’s financial assets and liabilities as of June 30, 2008.
 
In November 2007, the FASB deferred for one year the implementation of SFAS No. 157 for non-financial assets and liabilities. At this time, the Company does not expect that the adoption of SFAS No. 157 for non-financial assets and financial liabilities will have a material impact on its financial position or results of operations.
 
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an Amendment of FASB Statement No. 115” (“SFAS 159”). SFAS 159 expands the use of fair value accounting but does not affect existing standards, which require assets or liabilities to be carried at fair value. Under SFAS 159, a company may elect to use a fair value to measure accounts and loans receivable, available-for-sale and held-to-maturity securities, equity method investments, accounts payable, guarantees and issued debt. The Company adopted SFAS 159 effective January 1, 2008, and elected not to measure any of its currently eligible financial assets and liabilities at fair value.
 
In December 2007, the FASB issued SFAS No. 141(R), “Business Combinations” (“SFAS 141(R)”), which significantly changes the accounting for business acquisitions both during the period of the acquisition and in subsequent periods. The more significant changes in the accounting for acquisitions that could impact the Company’s financial position and results of operations are:
 
  •  certain transaction costs, which are presently treated as cost of the acquisition, will be expensed;
 
  •  restructuring costs associated with a business combination, which are presently capitalized, will be expensed subsequent to the acquisition date;
 
  •  contingencies, including contingent consideration, which are presently accounted for as an adjustment of purchase price, will be recorded at fair value with subsequent adjustments recognized in operations; and
 
  •  valuation allowances on acquired deferred tax assets, which are presently considered to be subsequent changes in consideration and are recorded as decreases in goodwill, will be recognized up front and in operations.
 
SFAS 141 (R) is effective on a prospective basis for all business combinations for which the acquisition date is on or after the beginning of the first annual period subsequent to December 31, 2008, with an exception related to the accounting for valuation allowances on deferred taxes and acquired contingencies related to acquisitions completed before the effective date.
 
In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS 161”), an amendment of SFAS No. 133, “Accounting for Derivative Instruments and Hedging Activities” (“SFAS 133”), which requires disclosures of the objectives of derivative instruments and hedging activities, the method of accounting for such instruments and activities under SFAS No. 133 and its related interpretations, and disclosure of the affects of such instruments and related hedged items on an entity’s financial position, financial performance, and cash flows. The statement encourages but does not require comparative disclosures for earlier periods at initial application. SFAS 161 is effective for financial statements issued for years and interim periods beginning after


9


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
November 15, 2008, with early application encouraged. The Company is currently evaluating the impact that the adoption of this statement will have on the disclosures contained within its consolidated financial statements.
 
In April 2008, the FASB issued FASB Staff Position (“FSP”) Financial Accounting Standard (“FAS”) 142-3, “Determination of the Useful Life of Intangible Assets,” or “FSP FAS 142-3,” which amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FASB Statement No. 142, “Goodwill and Other Intangible Assets.” FSP FAS 142-3 enhances the guidance over the consistency between the useful life of a recognized intangible asset under Statement No. 142 and the period of expected cash flows used to measure the fair value of the asset under FASB Statement No. 141, “Business Combinations”. FSP FAS 142-3 is effective for fiscal years beginning after December 15, 2008, with early adoption prohibited. The measurement provision of this standard will apply only to intangible assets acquired after the effective date. The Company is currently evaluating the impact of this pronouncement on its determination and evaluation of the useful life as related to its intangible assets.
 
In May 2008, the FASB finalized FSP APB 14-1, “Accounting for Convertible Debt Instruments that may be Settled in Cash upon Conversion” (“APB 14-1”), which specifies the accounting for certain convertible debt instruments, including the Company’s 2.25% Convertible Senior Notes, due 2036 (“2.25% Convertible Notes”). For convertible debt instruments that may be settled entirely or partially in cash upon conversion, APB 14-1 requires an entity to separately account for the liability and equity components of the instrument in a manner that reflects the issuer’s economic interest cost. The adoption of APB 14-1 for the Company’s 2.25% Convertible Notes will require the equity component of the 2.25% Convertible Notes to be initially included in the paid-in-capital section of stockholders’ equity on the Company’s Consolidated Balance Sheets and the value of the equity component to be treated as an original issue discount for purposes of accounting for the debt component of the 2.25% Convertible Notes. Higher interest expense will result by recognizing the accretion of the discounted carrying value of the 2.25% Convertible Notes to their face amount as interest expense over the expected term of the 2.25% Convertible Notes using an effective interest rate method of amortization. APB 14-1 is effective for fiscal years beginning after December 15, 2008 and interim periods within those fiscal years. APB 14-1 is not permitted to be adopted early and will be applied retrospectively to all periods presented. The Company continues to evaluate the impact that the adoption of APB 14-1 will have on its financial position and results of operations, but has preliminarily estimated that the Company’s Other Long-Term Debt will be initially reduced by approximately $110.0 million with a corresponding increase in Additional Paid In Capital, which will be amortized as an accretion to the value of the 2.25% Convertible Notes, thereby increasing the Company’s Other Interest Expense by an average of approximately $11.0 million per year, before income taxes, through the expected redemption of the 2.25% Convertible Notes.
 
In June 2008, the EITF reached a consensus on EITF No. 03-6-1, “Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities”. EITF No. 03-6-1 clarifies when instruments granted in share-based payment transactions are participating securities prior to vesting, the impact of the shares should be included in the earnings allocation in computing earnings per share (“EPS”) under the two-class method described in SFAS No. 128, “Earnings per Share,” and indicates that the objective of EPS is to measure the performance of an entity over the reporting period. The consensus states all outstanding unvested share-based payment awards that contain rights to non-forfeitable dividends which participate in undistributed earnings with common shareholders should be included in the calculation of basic and diluted EPS. EITF No. 03-6-1 would apply retrospectively to all prior-period EPS data presented for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Earlier application is not permitted. We are currently evaluating the impact of the adoption of EITF 03-6-1 on the Company, but, do not expect it will not have a material impact on our consolidated financial statements and related disclosures.
 
3.   STOCK-BASED COMPENSATION:
 
The Company provides compensation benefits to employees and non-employee directors pursuant to its 2007 Long Term Incentive Plan, as amended, and 1998 Employee Stock Purchase Plan, as amended.


10


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
 
In March 2007, the Company’s Board of Directors adopted an amendment and restatement of the 1996 Stock Incentive Plan to, among other things, (i) rename the plan as the “Group 1 Automotive, Inc. 2007 Long Term Incentive Plan” (the “Incentive Plan”), (ii) increase the number of shares of common stock available for issuance under the plan from 5.5 million to 6.5 million shares and (iii) extend the duration of the plan from March 9, 2014 to March 8, 2017. The Incentive Plan reserves shares of common stock for grants of options (including options qualified as incentive stock options under the Internal Revenue Code of 1986 and options that are non-qualified) at the fair value of each stock option as of the date of grant and, stock appreciation rights, restricted stock, performance awards, bonus stock and phantom stock awards at the market price at the date of grant to directors, officers and other employees of the Company and its subsidiaries. As of June 30, 2008, there were 1,776,070 shares available under the Incentive Plan for future grants of these awards.
 
 
The fair value of each stock option award is estimated as of the date of grant using the Black-Scholes option-pricing model. The Company has not issued stock option awards since November 2005. The following summary presents information regarding outstanding options as of June 30, 2008, and the changes during six months then ended:
 
                 
          Weighted Average
 
    Shares Under
    Exercise Price
 
    Option     per Share  
 
Outstanding December 31, 2007
    211,774     $ 28.33  
Grants
           
Exercised
    (500 )     15.50  
Canceled
    (15,330 )     28.05  
                 
Outstanding June 30, 2008
    195,944       28.39  
                 
Vested or expected to vest at June 30, 2008
    193,312       28.31  
                 
Exercisable at June 30, 2008
    172,964     $ 28.36  
                 
 
 
Beginning in 2005, the Company began granting directors and certain employees, at no cost to the recipient, restricted stock awards or, at their election, phantom stock awards, pursuant to the Company’s 2007 Long Term Incentive Plan, as amended. Restricted stock awards are considered outstanding at the date of grant, but are restricted from disposition for periods ranging from six months to five years. The phantom stock awards will settle in shares of common stock upon the termination of the grantees’ employment or directorship and have vesting periods also ranging from six months to five years. Performance awards are considered outstanding at the date of grant, but are restricted from disposition based on time and the achievement of certain performance criteria established by the Company. In the event the employee or director terminates his or her employment or directorship with the Company prior to the lapse of the restrictions, the shares, in most cases, will be forfeited to the Company.
 
A summary of these awards as of June 30, 2008, and the changes during the six months then ended, is as follows:
                 
          Weighted Average
 
          Grant Date
 
    Awards     Fair Value  
 
Nonvested at December 31, 2007
    720,069     $ 37.40  
Granted
    82,874       25.04  
Vested
    (35,009 )     38.84  
Forfeited
    (25,900 )     39.79  
                 
Nonvested at June 30, 2008
    742,034     $ 35.87  
                 


11


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
 
In September 1997, the Company adopted the Group 1 Automotive, Inc. 1998 Employee Stock Purchase Plan, as amended (the “Purchase Plan”). The Purchase Plan authorizes the issuance of up to 2.5 million shares of common stock and provides that no options to purchase shares may be granted under the Purchase Plan after March 6, 2016. As of June 30, 2008, there were 381,295 shares remaining available for future issuance under the Purchase Plan. During the six months ended June 30, 2008 and 2007, the Company issued 108,101 and 69,462 shares, respectively, of common stock to employees participating in the Purchase Plan.
 
 
Total stock-based compensation cost was $1.7 million and $1.3 million for the three months ended June 30, 2008 and 2007, respectively, and $3.4 million and $2.3 million for the six months ended June 30, 2008 and 2007, respectively. Total income tax benefit recognized for stock-based compensation arrangements was $0.4 million and $0.3 million for the three months ended June 30, 2008 and 2007, respectively, and $0.9 million and $0.4 million for the six months ended June 30, 2008 and 2007, respectively. Cash received from restricted stock awards vested and Purchase Plan purchases was $2.0 million and $2.9 million for the six months ended June 30, 2008 and 2007, respectively. Additional paid-in capital was reduced by $0.2 million for the six months ended June 30, 2008 for the effect of tax deductions for options exercised and vesting of restricted shares that was less than the associated book expense previously recognized. Comparatively, for the six months ended June 30, 2007, additional paid-in capital was increase by $0.2 million for the effect of tax deductions for options exercised and vesting of restricted shares that were in excess of the book expense previously recognized.
 
4.  EARNINGS PER SHARE:
 
Basic earnings per share is computed by dividing net income by the weighted average shares outstanding (excluding dilutive securities). Diluted earnings per share is computed including the impact of all potentially dilutive securities. The following table sets forth the calculation of earnings per share for the three and six months ended June 30, 2008 and 2007:
 
                                 
    Three Months Ended June 30,  
    2008     2007  
    Basic     Diluted     Basic     Diluted  
    (In thousands, except per share amounts)  
 
Net Income from:
                               
Continuing operations, net of income taxes
  $ 18,492     $ 18,492     $ 24,289     $ 24,289  
Discontinued operations, net of income taxes
    (1,276 )     (1,276 )     (75 )     (75 )
                                 
Net income
  $ 17,216     $ 17,216     $ 24,214     $ 24,214  
                                 
Weighted Average Shares Outstanding
                               
Basic shares outstanding
    22,478       22,478       23,744       23,744  
Dilutive effect of stock-based awards, net of assumed repurchase of treasury stock
          183             144  
                                 
Diluted shares outstanding
          22,661             23,888  
                                 
Earnings per share from:
                               
Continuing operations, net of income taxes
  $ 0.82     $ 0.82     $ 1.02     $ 1.02  
Discontinued operations, net of income taxes
    (0.06 )     (0.06 )           (0.01 )
                                 
Net income
  $ 0.76     $ 0.76     $ 1.02     $ 1.01  
                                 
 


12


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
                                 
    Six Months Ended June 30,  
    2008     2007  
    Basic     Diluted     Basic     Diluted  
    (In thousands, except per share amounts)  
 
Net Income from:
                               
Continuing operations, net of income taxes
  $ 35,595     $ 35,595     $ 41,921     $ 41,921  
Discontinued operations, net of income taxes
    (2,003 )     (2,003 )     (258 )     (258 )
                                 
Net income
  $ 33,592     $ 33,592     $ 41,663     $ 41,663  
                                 
Weighted Average Shares Outstanding
                               
Basic shares outstanding
    22,566       22,566       23,819       23,819  
Dilutive effect of stock-based awards, net of assumed repurchase of treasury stock
          162             165  
                                 
Diluted shares outstanding
          22,728             23,984  
                                 
Earnings per share from:
                               
Continuing operations, net of income taxes
  $ 1.58     $ 1.57     $ 1.76     $ 1.75  
Discontinued operations, net of income taxes
    (0.09 )     (0.09 )     (0.01 )     (0.01 )
                                 
Net income
  $ 1.49     $ 1.48     $ 1.75     $ 1.74  
                                 
 
Any options with an exercise price in excess of the average market price of the Company’s common stock, during the periods presented, are not considered when calculating the dilutive effect of stock options for diluted earnings per share calculations. The weighted average number of stock-based awards not included in the calculation of the dilutive effect of stock-based awards were 0.4 million and 0.2 million for the three months ended June 30, 2008 and 2007, respectively, and 0.6 million and 0.2 million for the six months ended June 30, 2008 and 2007, respectively.
 
The Company will be required to include the dilutive effect, if applicable, of the net shares issuable under its 2.25% Convertible Notes and the warrants sold in connection with the 2.25% Convertible Notes. Since the average price of the Company’s common stock for the three and six months ended June 30, 2008, was less than $59.43, no net shares were issuable under the 2.25% Convertible Notes or the warrants.
 
 
As discussed in Note 2, the Company adopted FIN 48 on January 1, 2007. No cumulative adjustment was required to effect the adoption of FIN 48. As of June 30, 2008, approximately $0.4 million of tax benefits, including $0.1 million of interest, remained unrecognized. The Company recognized $0.3 million of tax benefits during each of the three and six months ended June 30, 2008, that were unrecognized as of December 31, 2007, based on the expiration of the relevant statute of limitations. All of the tax benefits unrecognized as of June 30, 2008, could potentially be recognized in the next 12 months based upon resolution with the relevant tax authorities or statute expirations.
 
The Company is subject to U.S. federal income taxes and income taxes in numerous states. In addition, the Company is subject to income tax in the United Kingdom, as a result of its dealership acquisitions in March 2007. Taxable years 2003 and subsequent remain open for examination by the Company’s major taxing jurisdictions.
 
Consistent with prior practices, the Company recognizes interest and penalties related to uncertain tax positions in income tax expense.
 
6.  CREDIT FACILITIES:
 
Effective March 19, 2007, the Company entered into an amended and restated five-year revolving syndicated credit arrangement with 22 financial institutions, including three manufacturer-affiliated finance companies (the “Revolving Credit Facility”). The Company also has a $300.0 million floorplan financing arrangement with Ford Motor Credit Company (the “FMCC Facility”), a $235.0 million Real Estate Credit Facility (the “Mortgage Facility”) for financing of

13


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
real estate expansion, as well as, arrangements with several other automobile manufacturers for financing of a portion of its rental vehicle inventory. Floorplan notes payable — credit facility reflects amounts payable for the purchase of specific new, used and rental vehicle inventory (with the exception of new and rental vehicle purchases financed through lenders affiliated with the respective manufacturer) whereby financing is provided by the Revolving Credit Facility. Floorplan notes payable — manufacturer affiliates reflects amounts payable for the purchase of specific new vehicles whereby financing is provided by the FMCC Facility and the financing of rental vehicle inventory with several other manufacturers. Payments on the floorplan notes payable are generally due as the vehicles are sold. As a result, these obligations are reflected on the accompanying Consolidated Balance Sheets as current liabilities.
 
 
The Revolving Credit Facility provides a total borrowing capacity of $1.35 billion that matures in March 2012. The Company can expand the facility to its maximum commitment of $1.85 billion, subject to participating lender approval. This facility consists of two tranches: $1.0 billion for vehicle inventory floorplan financing (the “Floorplan Line”) and $350.0 million for working capital, including acquisitions (the “Acquisition Line”). Up to half of the Acquisition Line can be borrowed in either Euros or Pound Sterling. The capacity under these two tranches can be redesignated within the overall $1.35 billion commitment, subject to the original limits of $1.0 billion and $350.0 million. The Acquisition Line bears interest at the London Inter Bank Offered Rate (“LIBOR”) plus a margin that ranges from 150 to 225 basis points, depending on the Company’s leverage ratio. The Floorplan Line bears interest at rates equal to LIBOR plus 87.5 basis points for new vehicle inventory and LIBOR plus 97.5 basis points for used vehicle inventory. In conjunction with the amendment to the Revolving Credit Facility, the Company capitalized $2.3 million of related costs that are being amortized over the term of the facility. In addition, the Company pays a commitment fee on the unused portion of the Acquisition Line. The first $37.5 million of available funds carry a 0.20% per annum commitment fee, while the balance of the available funds carry a commitment fee ranging from 0.35% to 0.50% per annum, depending on the Company’s leverage ratio.
 
As of June 30, 2008, after considering outstanding balances, the Company had $245.0 million of available floorplan capacity under the Floorplan Line. Included in the $245.0 million available balance under the Floorplan Line is $15.8 million of immediately available funds. In addition, the weighted average interest rate on the Floorplan Line was 3.4% as of June 30, 2008. Under the Acquisition Line, the Company had $50.0 million outstanding in Acquisition Line borrowings at June 30, 2008. After considering $18.0 million of outstanding letters of credit, there was $282.0 million of available borrowing capacity as of June 30, 2008. The weighted average interest rate on the Acquisition Line was 4.6% as of June 30, 2008. The amount of available borrowings under the Acquisition Line may be limited from time to time based upon certain debt covenants.
 
All of the Company’s domestic dealership-owning subsidiaries are co-borrowers under the Revolving Credit Facility. The Revolving Credit Facility contains a number of significant covenants that, among other things, restrict the Company’s ability to make disbursements outside of the ordinary course of business, dispose of assets, incur additional indebtedness, create liens on assets, make investments and engage in mergers or consolidations. The Company is also required to comply with specified financial tests and ratios defined in the Revolving Credit Facility, such as fixed-charge coverage, current ratio, leverage, and a minimum net worth requirement, among others. Additionally, under the terms of the Revolving Credit Facility, the Company is limited in its ability to make cash dividend payments to its stockholders and to repurchase shares of its outstanding stock, based primarily on the quarterly net income of the Company. As of June 30, 2008, the Company was in compliance with these covenants. The Company’s obligations under the Revolving Credit Facility are secured by essentially all of the Company’s domestic personal property (other than equity interests in dealership-owning subsidiaries) including all motor vehicle inventory and proceeds from the disposition of dealership-owning subsidiaries.
 
Effective January 17, 2008, the Company amended the Revolving Credit Facility to, among other things, increase the limit on both the senior secured leverage and total leverage ratios, as well as to add a borrowing base calculation that governs the amount of borrowings available under the Acquisition Line.


14


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
 
 
The FMCC Facility provides for the financing of, and is collateralized by, the Company’s entire Ford, Lincoln and Mercury new vehicle inventory. This arrangement provides for $300.0 million of floorplan financing and matures on December 16, 2008. The Company expects to renew the FMCC Facility upon its maturity. As of June 30, 2008, the Company had an outstanding balance of $123.5 million with an available floorplan capacity of $176.5 million. This facility bears interest at a rate of Prime plus 100 basis points minus certain incentives. As of June 30, 2008, the interest rate on the FMCC Facility was 6.0%, before considering the applicable incentives. After considering all incentives received during 2008, the total cost to the Company of borrowings under the FMCC Facility approximates what the cost would be under the Floorplan Line. The Company is required to maintain a $1.5 million balance in a restricted money market account as additional collateral under the FMCC Facility. This amount is reflected in prepaid expenses and other current assets on the accompanying 2008 and 2007 consolidated balance sheets.
 
 
The Mortgage Facility is a five-year term real estate credit facility with Bank of America, N.A., that matures in March 2012. The Mortgage Facility provides a maximum commitment of $235.0 million of financing for real estate expansion and is syndicated with nine financial institutions. The proceeds of the Mortgage Facility are used primarily for acquisitions of real property associated with the Company’s dealerships and other operations. At the Company’s option, any loan under the Mortgage Facility will bear interest at a rate equal to (i) one month LIBOR plus 1.05% or (ii) the Base Rate plus 0.50%. Prior to the maturity of the Mortgage Facility, quarterly principal payments are required of each loan outstanding under the facility at an amount equal to one-eightieth of the original principal amount, with any remaining unpaid principal amount due at the end of the term. As of June 30, 2008, borrowings under the facility totaled $182.7 million, with $9.4 million recorded as a current maturity. The Company capitalized $1.3 million of related debt financing costs that are being amortized over the term of the facility.
 
The Mortgage Facility is guaranteed by the Company and essentially all of the existing and future direct and indirect domestic subsidiaries of the Company that guarantee or are required to guarantee the Company’s Revolving Credit Facility. So long as no default exists, the Company is entitled to (i) sell any property subject to the facility on fair and reasonable terms in an arm’s length transaction, (ii) remove it from the facility, (iii) repay in full the entire outstanding balance of the loan relating to such sold property, and then (iv) increase the available borrowings under the Mortgage Facility by the amount of such loan repayment. Each loan is secured by real property (and improvements related thereto) specified by the Company and located at or near a vehicle dealership operated by a subsidiary of the Company or otherwise used or to be used by a vehicle dealership operated by a subsidiary of the Company. As of June 30, 2008, available borrowings from the Mortgage Facility totaled $52.3 million.
 
The Mortgage Facility contains certain covenants, including financial ratios that must be complied with: fixed charge coverage ratio; senior secured leverage ratio; dispositions of financed properties; ownership of equity interests in a lessor subsidiary; and occupancy or sublease of any financed property. As of June 30, 2008, the Company was in compliance with all of these covenants. Effective as of January 16, 2008, the Company entered into an amendment to the Mortgage Facility to increase the senior secured leverage ratio.
 
 
Financing for rental vehicles is typically obtained directly from the automobile manufacturers, excluding rental vehicles financed through the Revolving Credit Facility. These financing arrangements generally require small monthly payments and mature in varying amounts throughout 2008. The weighted average interest rate charged as of June 30, 2008 was 5.8%. Rental vehicles are typically moved to used vehicle inventory when they are removed from rental service and repayment of the borrowing is required at that time.


15


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
 
The periodic interest rates of the Revolving Credit Facility and the Mortgage Facility are indexed to LIBOR rates plus an associated company credit risk rate. In order to stabilize earnings exposure related to fluctuations in these rates, the Company employs an interest rate hedging strategy, whereby it enters into arrangements with various financial institutional counterparties with investment grade credit ratings, swapping its variable interest rate exposure for a fixed interest rate over the same terms as the Revolving Credit Facility and the Mortgage Facility.
 
The Company accounts for these derivatives under SFAS 133, which establishes accounting and reporting standards for derivative instruments. The Company reflects the current fair value of all derivatives on its Consolidated Balance Sheet. The related gains or losses on these transactions are deferred in stockholders’ equity as a component of accumulated other comprehensive income or loss. These deferred gains and losses are recognized in income in the period in which the related items being hedged are recognized in expense. However, to the extent that the change in value of a derivative contract does not perfectly offset the change in the value of the items being hedged, that ineffective portion is immediately recognized in income. All of the Company’s interest rate hedges are designated as cash flow hedges.
 
During the six months ended June 30, 2008, the Company entered into an interest rate swap that expires in March 2012, with a $25.0 million notional value, effectively locking in a rate of 3.1%. As of June 30, 2008, the Company held interest rate swaps of $500.0 million in notional value with an overall weighted average fixed interest rate of 4.8%. At June 30, 2008, all of the Company’s derivative contracts were determined to be highly effective, and no ineffective portion was recognized in income. Included in Accumulated Other Comprehensive Income at June 30, 2008 and 2007 are unrealized losses, net of income taxes, totaling $9.6 million and unrealized gains, net of income taxes, totaling $2.2 million, respectively, related to these hedges. The income statement impact from interest rate hedges was a $2.9 million and $4.2 million increase in interest expense for the three and six months ended June 30, 2008, respectively, and a $0.3 million and $0.6 million reduction in interest expense for the three and six months ended June 30, 2007, respectively. Total floorplan interest expense was $12.4 million and $11.5 million for the three months ended June 30, 2008 and 2007, respectively, and $24.4 million and $23.4 million for the six months ended June 30, 2008 and 2007, respectively.
 
7.   PROPERTY AND EQUIPMENT:
 
The Company’s property and equipment consists of the following:
 
                         
    Estimated
             
    Useful Lives
    June 30,
    December 31,
 
    in Years     2008     2007  
          (In thousands)  
 
Land
        $ 198,575     $ 137,344  
Buildings
    30 to 40       215,149       168,763  
Leasehold improvements
    7 to 15       63,335       58,663  
Machinery and equipment
    7 to 20       61,553       57,079  
Furniture and fixtures
    3 to 10       64,963       60,978  
Company vehicles
    3 to 5       11,414       11,338  
Construction in progress
          37,249       30,558  
                         
Total
            652,238       524,723  
Less accumulated depreciation and amortization
            109,785       97,500  
                         
Property and equipment, net
          $ 542,453     $ 427,223  
                         
 
During the six months ended June 30, 2008, the Company incurred $115.0 million of capital expenditures, including $52.3 million for land, $34.6 million for existing buildings and $27.5 million for the construction of new or expanded facilities and the purchase of equipment and other fixed assets in the maintenance of the Company’s dealerships and facilities. In addition, during the six months ended June 30, 2008, the Company acquired fixed assets of $16.7 million in connection with its dealership acquisitions. The Company financed the purchase of real


16


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
estate during the first half of 2008 by drawing $54.6 million against the Mortgage Facility, based upon the applicable loan to value ratio, and through the execution of additional long-term notes payable of $33.6 million.
 
8.   FAIR VALUE MEASUREMENTS:
 
SFAS 157, which the Company prospectively adopted effective January 1, 2008, defines fair value as the price that would be received in the sale of an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. SFAS 157 requires disclosure of the extent to which fair value is used to measure financial assets and liabilities, the inputs utilized in calculating valuation measurements, and the effect of the measurement of significant unobservable inputs on earnings, or changes in net assets, as of the measurement date. SFAS 157 establishes a three-level valuation hierarchy based upon the transparency of inputs utilized in the measurement and valuation of financial assets or liabilities as of the measurement date:
 
  •  Level 1 — unadjusted quoted prices for identical assets or liabilities in active markets;
 
  •  Level 2 — quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, and inputs other than quoted market prices that are observable or that can be corroborated by observable market data by correlation; and
 
  •  Level 3 — unobservable inputs based upon the reporting entity’s internally developed assumptions that market participants would use in pricing the asset or liability.
 
The Company evaluated its financial assets and liabilities for those financial assets and liabilities that met the criteria of the disclosure requirements and fair value framework of SFAS 157. The Company identified investments in marketable securities and debt instruments and interest rate financial derivative instruments as having met such criteria.
 
 
The Company accounts for its investments in marketable securities and debt instruments under SFAS No. 115, “Accounting for Certain Investments in Debt and Equity Instruments (as amended),” which established standards of financial accounting and reporting for investments in equity instruments that have readily determinable fair values and for all investments in debt securities. Accordingly, the Company designates these investments as available-for-sale, measures them at fair value and classifies them as either cash and cash equivalents or other assets in the accompanying Consolidated Balance Sheets based upon maturity terms and certain contractual restrictions.
 
The Company maintains multiple trust accounts comprised of money market funds with short-term investments in marketable securities, such as U.S. government securities, commercial paper and bankers acceptances, that have maturities of less than three months. The Company determined that the valuation measurement inputs of these marketable securities represent unadjusted quoted prices in active markets and, accordingly, has classified such investments within Level 1 of the SFAS 157 hierarchy framework.
 
Also within its trust accounts, the Company holds investments in debt instruments, such as government obligations and other fixed income securities. The debt securities are measured based upon quoted market prices utilizing public information, independent external valuations from pricing services or third-party advisors. Accordingly, the Company has concluded the valuation measurement inputs of these debt securities to represent, at their lowest level, quoted market prices for identical or similar assets in markets where there are few transactions for the assets and has categorized such investments within Level 2 of the SFAS 157 hierarchy framework.
 
 
As described in Note 6 to the Consolidated Financial Statements, the Company utilizes an interest rate hedging strategy in order to stabilize earnings exposure related to fluctuations in interest rates. The Company measures its interest rate derivative instruments utilizing an income approach valuation technique, converting future amounts of cash flows to a single present value in order to obtain a transfer exit price within the bid and ask spread that is most representative of the fair value of its derivative instruments. In measuring fair value, the Company utilizes the option-pricing Black-Scholes present value technique for all of its derivative instruments. This option-pricing


17


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
technique utilizes a LIBOR forward yield curve, obtained from an independent external service provider, matched to the identical maturity term of the instrument being measured. Observable inputs utilized in the income approach valuation technique incorporate identical contractual notional amounts, fixed coupon rates, periodic terms for interest payments and contract maturity. The Company has determined the valuation measurement inputs of these derivative instruments to maximize the use of observable inputs that market participants would use in pricing similar or identical instruments and market data obtained from independent sources, which is readily observable or can be corroborated by observable market data for substantially the full term of the derivative instrument. Further, the valuation measurement inputs minimize the use of unobservable inputs. Accordingly, the Company has classified the derivatives within Level 2 of the SFAS 157 hierarchy framework.
 
The fair value of our short-term investments, debt securities and interest rate derivative instruments as of June 30, 2008 were as follows:
 
                                 
    Level 1     Level 2     Level 3     Total  
    (In thousands)  
 
Assets
                               
Short-term investments
  $ 2,454     $     $     $ 2,454  
Debt securities
          8,760             8,760  
                                 
Total
  $ 2,454     $ 8,760     $     $ 11,214  
                                 
Liabilities
                               
Interest rate derivative financial instruments
  $     $ (15,395 )   $     $ (15,395 )
                                 
 
9.   COMMITMENTS AND CONTINGENCIES:
 
 
From time to time, the Company’s dealerships are named in various types of litigation involving customer claims, employment matters, class action claims, purported class action claims, as well as claims involving the manufacture of automobiles, contractual disputes and other matters arising in the ordinary course of business. Due to the nature of the automotive retailing business, the Company may be involved in legal proceedings or suffer losses that could have a material adverse effect on the Company’s business. In the normal course of business, the Company is required to respond to customer, employee and other third-party complaints. In addition, the manufacturers of the vehicles the Company sells and services have audit rights allowing them to review the validity of amounts claimed for incentive, rebate or warranty-related items and charge the Company back for amounts determined to be invalid rewards under the manufacturers’ programs, subject to the Company’s right to appeal any such decision. Amounts that have been accrued or paid related to the settlement of litigation are included in Selling, General and Administrative Expenses in the Company’s Consolidated Statements of Operations.
 
Through relationships with insurance companies, the Company’s dealerships sold credit insurance policies to its vehicle customers and received payments for these services. Recently, allegations have been made against insurance companies with which the Company does business that they did not have adequate monitoring processes in place and, as a result, failed to remit to policyholders the appropriate amount of unearned premiums when the policy was cancelled in conjunction with early payoffs of the associated loan balance. Some of the Company’s dealerships have received notice from insurance companies advising that they have entered into settlement agreements and indicating that the insurance companies expect the dealerships to return commissions on the dealerships’ portion of the premiums that are required to be refunded to customers. The commissions received on sale of credit insurance products are deferred and recognized as revenue over the life of the policies, in accordance with SFAS No. 60, “Accounting and Reporting by Insurance Enterprises.” As such, a portion of any payout would be offset against deferred revenue, while the remainder would be recognized as a finance and insurance chargeback expense. The Company anticipates paying some amount of claims in the future, though the exact amounts cannot be estimated with any certainty at this time.
 
Notwithstanding the foregoing, the Company is not party to any legal proceedings, including class action lawsuits to which the Company is a party that, individually or in the aggregate, are reasonably expected to have a


18


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
material adverse effect on the results of operations, financial condition or cash flows. However, the results of these matters cannot be predicted with certainty, and an unfavorable resolution of one or more of these matters could have a material adverse effect on the Company’s results of operations, financial condition or cash flows.
 
 
The Company, acting through its subsidiaries, is the lessee under a number of real estate leases that provide for the use by the Company’s subsidiaries of their respective dealership premises. Pursuant to these leases, the Company’s subsidiaries generally agree to indemnify the lessor and other parties from certain liabilities arising as a result of the use of the leased premises, including environmental liabilities, or a breach of the lease by the lessee. Additionally, from time to time, the Company enters into agreements in connection with the sale of assets or businesses in which it agrees to indemnify the purchaser, or other parties, from certain liabilities or costs arising in connection with the assets or business. Also, in the ordinary course of business in connection with purchases or sales of goods and services, the Company enters into agreements that may contain indemnification provisions. In the event that an indemnification claim is asserted, liability would be limited by the terms of the applicable agreement.
 
From time to time, primarily in connection with dealership dispositions, the Company’s subsidiaries assign or sublease to the dealership purchaser the subsidiaries’ interests in any real property leases associated with the dealerships. In general, the Company’s subsidiaries retain responsibility for the performance of certain obligations under the assignments or subleases to the extent that the assignee or sublessee does not perform, whether such performance is required prior to or following the assignment or subletting of the lease. Additionally, the Company and its subsidiaries generally remain subject to the terms of any guarantees made by the Company and its subsidiaries in connection with the assignments and subleases. Although the Company generally has indemnification rights against the assignee or sublessee in the event of non-performance under the assignments and subleases, and in some cases personal guarantees of the purchaser principal, as well as certain defenses, and the Company presently has no reason to believe that it or its subsidiaries will be called on to perform under any such assigned leases or subleases, the Company estimates that lessee rental payment obligations during the remaining terms of the assignments and subleases were $33.8 million at June 30, 2008. The Company and its subsidiaries also may be called on to perform other obligations under the assignment and subleases, such as environmental remediation of the leased premises or repair of the leased premises upon termination of the lease. However, the Company presently has no reason to believe that it or its subsidiaries will be called on to so perform and such obligations cannot be quantified at this time. The Company’s exposure under the assignments and subleases is difficult to estimate and there can be no assurance that any performance of the Company or its subsidiaries required under the assignments and subleases would not have a material adverse effect on the Company’s business, financial condition and cash flows.


19


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
10.   LONG-TERM DEBT:
 
Long-term debt consists of the following:
 
                 
    June 30,
    December 31,
 
    2008     2007  
    (In thousands)  
 
2.25% Convertible Senior Notes due 2036
  $ 282,214     $ 281,915  
8.25% Senior Subordinated Notes due 2013
    82,205       100,273  
Acquisition Line (see Note 6)
    50,000       135,000  
Mortgage Facility (see Note 6)
    182,706       131,317  
Real estate notes and various notes payable, maturing in varying amounts through August 2018
    39,946       11,014  
Capital lease obligations related to real estate
    41,827       27,579  
                 
    $ 678,898     $ 687,098  
Less current maturities
    13,667       12,260  
                 
    $ 665,231     $ 674,838  
                 
 
 
During the six months ended June 30, 2008, the Company repurchased $18.6 million par value of the 8.25% Senior Subordinated Notes and realized a net gain of approximately $0.4 million.
 
 
During the six months ended June 30, 2008, the Company repaid a net $85.0 million of the amounts borrowed under its Acquisition Line as of December 31, 2007.
 
 
During the six months ended June 30, 2008, the Company borrowed $54.8 million under its Mortgage Facility to fund the acquisition of real estate related to several dealership facilities.
 
 
During March 2008, the Company executed a series of four note agreements with a third-party financial institution for an aggregate principal of $18.6 million (the “March 2008 Real Estate Notes”), of which one matures in May 2010, and the remaining three mature in June 2010. The Real Estate Notes pay interest monthly at various rates ranging from approximately 5.2 to 7.0%. The proceeds from the March 2008 Real Estate Notes were utilized to facilitate the acquisition of a dealership-related building and the associated land. The cumulative balance of these notes total $18.4 million as of June 30, 2008.
 
During June 2008, the Company executed a bridge loan agreement with a third-party financial institution for an aggregate principal of approximately $15.0 million (the “June 2008 Real Estate Note”) that was scheduled to mature in September 2008. The June 2008 Real Estate Note paid interest monthly at an annual rate equal to LIBOR plus 1.5%. The proceeds from the June 2008 Real Estate Note were utilized to facilitate the acquisition of a dealership-related building and the associated land. In July 2008, the Company renegotiated the June 2008 Real Estate Note to extend the maturity date to July 2010 and amend the annual interest rate to LIBOR plus 1.65%.
 
 
During the six months ended June 30, 2008, the Company sold and leased back the property and building related to one of its dealership facilities under a long-term lease arrangement with a third-party. In addition, the Company also sold and leased back property and buildings related to one of its dealership facilities under a long-term lease to a party that was formerly related to the Company, based upon contractual commitments entered into


20


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
when the parties were related. The Company accounted for both of these leases as capital leases, resulting in the recognition of $14.7 million of capital lease assets and obligations, which are included in property and equipment and notes payable, respectively, in the Company’s Consolidated Balance Sheets.
 
11.   ACQUISITIONS AND DISPOSITIONS:
 
During the six months ended June 30, 2008, the Company acquired two automobile dealership franchises located in Austin, Texas, one automobile dealership franchise in Beverly Hills, California and two dealership franchises located in Annapolis, Maryland. Total consideration paid of $46.7 million consisted of $36.9 million to the sellers and $9.8 million to the sellers’ financing sources to pay off outstanding floorplan borrowings, which the Company replaced with borrowings from its Revolving Credit Facility. Of the $36.9 million paid to the sellers, $16.5 million was for land and buildings. The accompanying Consolidated Balance Sheet as of June 30, 2008, includes preliminary allocations of the purchase price for all of the acquired assets and liabilities assumed based on their estimated fair market values at the dates of acquisition and, are subject to final adjustment.
 
Also, during the six months ended June 30, 2008, the Company disposed of nine automobile dealership franchises for total consideration of $1.9 million. See Note 12 for additional information regarding discontinued operations.
 
12.   DISCONTINUED OPERATIONS:
 
On June 30, 2008, the Company sold three dealerships, with a total of seven franchises, in Albuquerque, New Mexico (the “Disposed Dealerships”), constituting the Company’s entire dealership holdings in that market. The disposal transaction resulted in a pre-tax loss of $0.7 million. The Disposed Dealerships are presented in the Company’s financial statements as discontinued operations. Revenues, cost of sales, operating expenses and income taxes attributable to the Disposed Dealerships have been aggregated to a single line in the Company’s Consolidated Statement of Operations for all periods presented, as follows:
 
                                 
    Three Months Ended June 30,     Six Months Ended June 30,  
    2008     2007     2008     2007  
    (In thousands)     (In thousands)  
 
Revenues
  $ 23,009     $ 33,313     $ 49,192     $ 67,649  
Loss on the sale of discontinued operations before income taxes
    (2,367 )     (106 )     (3,481 )     (381 )
Income tax benefit
    1,091       31       1,478       123  
                                 
Net loss from discontinued operations
  $ (1,276 )   $ (75 )   $ (2,003 )   $ (258 )
                                 
 
Assets and liabilities of the Disposed Dealerships have been segregated from continuing operations and presented as assets and liabilities of discontinued operations in the Company’s Consolidated Balance Sheet for all periods presented, as follows:
 
                 
    June 30,
    December 31,
 
    2008     2007  
    (In thousands)  
 
Current assets
  $     $ 28,515  
Property, plant, and equipment, net
          2,015  
Other long term assets
          1  
Current liabilities
          (27,317 )
Other long term liabilities
          (7,863 )
                 
Net liabilities of discontinued operations
  $     $ (4,649 )
                 
 
The Company allocates corporate level interest expense to discontinued operations based on the net assets of the discontinued operations.


21


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
13.   CONDENSED CONSOLIDATING FINANCIAL INFORMATION:
 
The following tables include condensed consolidating financial information as of June 30, 2008, and December 31, 2007, and for the three and six months ended June 30, 2008 and 2007, for Group 1 Automotive, Inc.’s (as issuer of the 8.25% Senior Subordinated Notes), guarantor subsidiaries and non-guarantor subsidiaries (representing foreign entities). The condensed consolidating financial information includes certain allocations of balance sheet, income statement and cash flow items that are not necessarily indicative of the financial position, results of operations or cash flows of these entities on a stand-alone basis.
 
CONDENSED CONSOLIDATING BALANCE SHEET
June 30, 2008
 
                                         
    Total
          Group 1
    Guarantor
    Non-Guarantor
 
    Company     Elimination     Automotive, Inc.     Subsidiaries     Subsidiaries  
                (In thousands)              
 
ASSETS
CURRENT ASSETS:
                                       
Cash and cash equivalents
  $ 39,968     $     $     $ 39,410     $ 558  
Accounts and other receivables, net
    230,997                   225,093       5,904  
Inventories
    934,706                   911,299       23,407  
Deferred and other current assets
    41,219                   28,887       12,332  
                                         
Total current assets
    1,246,890                   1,204,689       42,201  
PROPERTY AND EQUIPMENT, net
    542,453                   514,534       27,919  
GOODWILL AND OTHER INTANGIBLES
    807,692                   799,204       8,488  
INVESTMENT IN SUBSIDIARIES
          (968,732 )     968,732              
OTHER ASSETS
    25,961             2,891       4,518       18,552  
                                         
Total assets
  $ 2,622,996     $ (968,732 )   $ 971,623     $ 2,522,945     $ 97,160  
                                         
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
                                       
Floorplan notes payable — credit facility
  $ 755,009     $     $     $ 751,906     $ 3,103  
Floorplan notes payable — manufacturer affiliates
    168,901                   160,209       8,692  
Current maturities of long-term debt
    13,667                   13,429       238  
Accounts payable
    110,321                   94,711       15,610  
Intercompany accounts payable
                245,368       (245,381 )     13  
Accrued expenses
    101,760                   100,031       1,729  
                                         
Total current liabilities
    1,149,658             245,368       874,905       29,385  
LONG TERM DEBT, net of current maturities
    665,231                   665,022       209  
LIABILITIES FROM INTEREST RISK MANAGEMENT ACTIVITIES
    15,395                   15,395        
DEFERRED AND OTHER LIABILITIES
    61,861                   59,846       2,015  
DEFERRED REVENUES
    13,693                   1,916       11,777  
                                         
Total liabilities
    1,905,838             245,368       1,617,084       43,386  
                                         
STOCKHOLDERS’ EQUITY:
                                       
TOTAL STOCKHOLDERS’ EQUITY
    717,158       (968,732 )     726,255       905,861       53,774  
                                         
Total liabilities and stockholders’ equity
  $ 2,622,996     $ (968,732 )   $ 971,623     $ 2,522,945     $ 97,160  
                                         


22


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
CONDENSED CONSOLIDATING BALANCE SHEET
December 31, 2007
 
                                         
                Group 1
    Guarantor
    Non-Guarantor
 
    Total Company     Elimination     Automotive, Inc     Subsidiaries     Subsidiaries  
                (In thousands)              
 
ASSETS
CURRENT ASSETS:
                                       
Cash and cash equivalents
  $ 34,248     $     $     $ 33,666     $ 582  
Accounts and other receivables, net
    272,098                   266,844       5,254  
Inventories
    878,168                   859,396       18,772  
Assets related to discontinue operations
    30,531                   30,531        
Deferred and other current assets
    47,938                   34,984       12,954  
                                         
Total current assets
    1,262,983                   1,225,421       37,562  
PROPERTY AND EQUIPMENT, net
    427,223                   399,148       28,075  
GOODWILL AND OTHER INTANGIBLES
    787,245                   778,793       8,452  
INVESTMENT IN SUBSIDIARIES
          (781,792 )     781,792              
OTHER ASSETS
    28,730             2,884       4,854       20,992  
                                         
Total assets
  $ 2,506,181     $ (781,792 )   $ 784,676     $ 2,408,216     $ 95,081  
                                         
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
CURRENT LIABILITIES:
                                       
Floorplan notes payable — credit facility
  $ 648,469     $     $     $ 648,469     $  
Floorplan notes payable — manufacturer affiliates
    170,911                   162,219       8,692  
Current maturities of long-term debt
    12,260                   8,000       4,260  
Accounts payable
    111,458                   99,259       12,199  
Intercompany accounts payable
                100,195       (100,195 )      
Liabilities related to discontinued operations
    35,180                   35,180        
Accrued expenses
    100,000                   98,746       1,254  
                                         
Total current liabilities
    1,078,278             100,195       951,678       26,405  
LONG TERM DEBT, net of current maturities
    674,838                   674,567       271  
LIABILITIES FROM INTEREST RISK MANAGEMENT ACTIVITIES
    16,188                   16,188        
DEFERRED AND OTHER LIABILITIES
    35,865                   33,966       1,899  
DEFERRED REVENUES
    16,531                   2,098       14,433  
                                         
Total liabilities before deferred revenues
    1,821,700             100,195       1,678,497       43,008  
                                         
STOCKHOLDERS’ EQUITY:
                                       
TOTAL STOCKHOLDERS’ EQUITY
    684,481       (781,792 )     684,481       729,719       52,073  
                                         
Total liabilities and stockholders’ equity
  $ 2,506,181     $ (781,792 )   $ 784,676     $ 2,408,216     $ 95,081  
                                         


23


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
Three Months Ended June 30,
2008
 
                                         
    Total
          Group 1
    Guarantor
    Non-Guarantor
 
    Company     Elimination     Automotive, Inc.     Subsidiaries     Subsidiaries  
    (Unaudited)  
    (In thousands)  
 
Revenue
  $ 1,583,115     $     $     $ 1,534,759     $ 48,356  
Cost of sales
    1,331,704                   1,289,734       41,970  
                                         
Gross profit
    251,411                   245,025       6,386  
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
    195,337             462       189,979       4,896  
DEPRECIATION AND AMORTIZATION EXPENSE
    6,497                   6,150       347  
                                         
INCOME (LOSS) FROM OPERATIONS
    49,577             (462 )     48,896       1,143  
OTHER INCOME (EXPENSE) Floorplan interest expense
    (12,392 )                 (12,092 )     (300 )
Other interest expense, net
    (7,066 )                 (7,012 )     (54 )
Other income, net
    (36 )                 (26 )     (10 )
Equity in earnings of subsidiaries
          (17,678 )     17,678              
                                         
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES
    30,083       (17,678 )     17,216       29,766       779  
PROVISION FOR INCOME TAXES
    11,591                     11,315       276  
                                         
NET INCOME FROM CONTINUING OPERATIONS
    18,492       (17,678 )     17,216       18,451       503  
LOSS RELATED TO DISCONTINUED OPERATIONS
    (1,276 )                 (1,276 )      
                                         
NET INCOME
  $ 17,216     $ (17,678 )   $ 17,216     $ 17,175     $ 503  
                                         


24


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
Three Months Ended June 30, 2007
 
                                         
                            Non-
 
    Total
          Group 1
    Guarantor
    Guarantor
 
    Company     Elimination     Automotive, Inc.     Subsidiaries     Subsidiaries  
    (Unaudited)  
    (In thousands)  
 
Revenue
  $ 1,646,277     $     $     $ 1,598,160     $ 48,117  
Cost of sales
    1,394,100                   1,352,166       41,934  
                                         
Gross profit
    252,177                   245,994       6,183  
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
    191,998               357       186,081       5,560  
DEPRECIATION AND AMORTIZATION EXPENSE
    5,103                   4,713       390  
                                         
ASSET IMPAIRMENTS
    356                     356        
                                         
INCOME (LOSS) FROM OPERATIONS
    54,720             (357 )     54,844       233  
OTHER INCOME (EXPENSE)
                                       
Floorplan interest expense
    (11,477 )                 (11,268 )     (209 )
Other interest expense, net
    (6,141 )                 (6,002 )     (139 )
Loss on redemption of senior subordinated notes
                             
Other income, net
    95                   95        
Equity in earnings of subsidiaries
          (24,573 )     24,573              
                                         
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES
    37,197       (24,573 )     24,216       37,669       (115 )
PROVISION FOR INCOME TAXES
    12,908                   12,937       (29 )
                                         
INCOME FROM CONTINUING OPERATIONS
    24,289       (24,573 )     24,216       24,732       (86 )
LOSS RELATED TO DISCONTINUED OPERATIONS
    (73 )                 (73 )      
                                         
NET INCOME
  $ 24,216     $ (24,573 )   $ 24,216     $ 24,659     $ (86 )
                                         


25


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
Six Months Ended June 30, 2008
 
                                         
    Total
          Group 1
    Guarantor
    Non-Guarantor
 
    Company     Elimination     Automotive, Inc.     Subsidiaries     Subsidiaries  
    (Unaudited)  
    (In thousands)  
 
Revenue
  $ 3,086,378     $     $     $ 2,991,543     $ 94,835  
Cost of sales
    2,587,388                 $ 2,505,202       82,186  
                                         
Gross profit
    498,990                   486,341       12,649  
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
    390,399             886       379,747       9,766  
DEPRECIATION AND AMORTIZATION EXPENSE
    12,315                   11,577       738  
                                         
INCOME (LOSS) FROM OPERATIONS
    96,276             (886 )     95,017       2,145  
OTHER INCOME (EXPENSE)
                                       
Floorplan interest expense
    (24,400 )                 (23,823 )     (577 )
Other interest expense, net
    (14,904 )                 (14,729 )     (175 )
Gain on redemption of senior subordinated notes
    409                   409        
Other income, net
    314                   314        
Equity in earnings of subsidiaries
          (34,478 )     34,478              
                                         
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES
    57,695       (34,478 )     33,592       57,188       1,393  
PROVISION FOR INCOME TAXES
    22,100                   21,603       497  
                                         
NET INCOME FROM CONTINUING OPERATIONS
    35,595       (34,478 )     33,592       35,585       896  
LOSS RELATED TO DISCONTINUED OPERATIONS
    (2,003 )                 (2,003 )      
                                         
NET INCOME
  $ 33,592     $ (34,478 )   $ 33,592     $ 33,582     $ 896  
                                         


26


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS
Six Months Ended June 30, 2007
 
                                         
    Total
          Group 1
    Guarantor
    Non-Guarantor
 
    Company     Elimination     Automotive, Inc.     Subsidiaries     Subsidiaries  
    (Unaudited)  
    (In thousands)  
 
Revenue
  $ 3,134,678     $     $     $ 3,062,140     $ 72,538  
Cost of sales
    2,641,356                   2,578,468       62,888  
                                         
Gross profit
    493,322                   483,672       9,650  
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
    385,000               758       376,880       7,362  
DEPRECIATION AND AMORTIZATION EXPENSE
    9,838                   9,325       513  
                                         
ASSET IMPAIRMENTS
    356                     356        
                                         
INCOME (LOSS) FROM OPERATIONS
    98,128             (758 )     97,111       1,775  
OTHER INCOME (EXPENSE)
                                       
Floorplan interest expense
    (23,388 )                 (23,105 )     (283 )
Other interest expense, net
    (10,661 )                 (10,480 )     (181 )
Loss on redemption of senior subordinated notes
                             
Other income, net
    191                   191        
Equity in earnings of subsidiaries
          (42,421 )     42,421              
                                         
INCOME FROM CONTINUING OPERATIONS BEFORE INCOME TAXES
    64,270       (42,421 )     41,663       63,717       1,311  
PROVISION FOR INCOME TAXES
    22,349                   21,922       427  
                                         
INCOME FROM CONTINUING OPERATIONS
    41,921       (42,421 )     41,663       41,795       884  
LOSS RELATED TO DISCONTINUED OPERATIONS
    (258 )                 (258 )      
                                         
NET INCOME
  $ 41,663     $ (42,421 )   $ 41,663     $ 41,537     $ 884  
                                         


27


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
Six Months Ended June 30, 2008

 
                                 
    Total
    Group 1
    Guarantor
    Non-Guarantor
 
    Company     Automotive, Inc.     Subsidiaries     Subsidiaries  
    (Unaudited)  
    (In thousands)  
 
CASH FLOWS FROM OPERATING ACTIVITIES
                               
Net cash provided by (used in) operating activities
  $ 81,832     $ (886 )   $ 79,475     $ 3,243  
                                 
Net cash provided by operating activities, from discontinued operations
    (13,373 )           (13,373 )      
                                 
CASH FLOWS FROM INVESTING ACTIVITIES
                               
Purchases of property and equipment
    (114,994 )           (114,384 )     (610 )
Cash paid in acquisitions, net of cash received
    (48,389 )           (48,389 )      
Proceeds from sales of franchises, property and equipment
    18,445             18,445        
Other
    1,088             416       672  
                                 
Net cash used in investing activities
    (143,850 )           (143,912 )     62  
                                 
Net cash provided by investing activities, from discontinued operations
    23,051             23,051        
                                 
CASH FLOWS FROM FINANCING ACTIVITIES
                               
Borrowings on credit facility — Floorplan Line
    2,876,729             2,876,729        
Repayments on credit facility — Floorplan Line
    (2,771,438 )           (2,771,438 )      
Borrowings on credit facility — Acquisition Line
    65,000             65,000        
Repayments on credit facility — Acquisition Line
    (150,000 )           (150,000 )      
Borrowings on mortgage facility
    54,625             54,625        
Principal payments on mortgage facilities
    (3,236 )           (3,236 )      
Borrowings of long-term debt
    33,515             33,515        
Repurchase of senior subordinated notes
    (17,762 )           (17,762 )      
Dividends paid
    (6,483 )     (6,483 )            
Proceeds from issuance of common stock to benefit plans
    1,990       1,990              
Borrowings on other facilities for acquisitions
    1,490             1,490        
Debt issue costs
    (365 )           (365 )      
Principal payments of long-term debt
    (5,050 )           (968 )     (4,082 )
Excess tax benefits from stock-based compensation
    178             178        
Borrowings (repayments) with subsidiaries
          33,785       (33,760 )     (25 )
Investment in subsidiaries
          (40,037 )     39,228       809  
Distributions to parent
          11,631       (11,631 )      
                                 
Net cash provided by financing activities
    79,193       886       81,605       (3,298 )
                                 
Net cash used in financing activities from discontinued operations
    (21,103 )           (21,103 )      
                                 
EFFECT OF EXCHANGE RATE CHANGES ON CASH
    (30 )           (32 )     2  
                                 
NET INCREASE IN CASH AND CASH EQUIVALENTS
    5,720             5,711       9  
CASH AND CASH EQUIVALENTS, beginning of period
    34,248             33,666       582  
                                 
CASH AND CASH EQUIVALENTS, end of period
  $ 39,968     $     $ 39,377     $ 591  
                                 


28


Table of Contents

 
GROUP 1 AUTOMOTIVE, INC. AND SUBSIDIARIES
 
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (Continued)
 
CONDENSED CONSOLIDATING STATEMENTS OF CASH FLOWS
Six Months Ended June 30, 2007
 
                                 
    Total
    Group 1
    Guarantor
    Non-Guarantor
 
    Company     Automotive, Inc.     Subsidiaries     Subsidiaries  
    (Unaudited)  
    (In thousands)  
 
CASH FLOWS FROM OPERATING ACTIVITIES
                               
Net cash provided by (used in) operating activities
  $ 100,061     $ (758 )   $ 88,523     $ 12,296  
                                 
Net cash provided by operating activities, from discontinued operations
  $ (3,551 )           $ (3,551 )        
                                 
CASH FLOWS FROM INVESTING ACTIVITIES
                               
Purchases of property and equipment
    (55,697 )           (55,213 )     (484 )
Cash paid in acquisitions, net of cash received
    (111,116 )           (62,345 )     (48,771 )
Proceeds from sales of franchises
    8,828             8,828        
Proceeds from sales of property and equipment
    839             839        
Other
    2,479             (27 )     2,506  
                                 
Net cash used in investing activities
    (154,667 )           (107,918 )     (46,749 )
                                 
Net cash provided by (use in) investing activities, from discontinued operations
    (137 )           (137 )      
                                 
CASH FLOWS FROM FINANCING ACTIVITIES
                               
Borrowings on credit facility — Floorplan Line
    2,835,096             2,835,096        
Repayments on credit facility — Floorplan Line
    (2,813,998 )           (2,813,998 )      
Borrowings of long-term debt related to real estate purchases
    75,050               75,050        
Repurchases of common stock, amounts based on settlement date
    (16,003 )     (16,003 )            
Dividends paid
    (6,775 )     (6,775 )            
Debt issue costs
    (3,550 )           (3,550 )      
Repayments on other facilities for divestitures
    (2,498 )           (2,498 )      
Proceeds from issuance of common stock to benefit plans
    2,894       2,894              
Principal payments of long-term debt
    (521 )           (509 )     (12 )
Excess tax benefits from stock-based compensation
    103             103        
Borrowings (repayments) with subsidiaries
          51,154       (51,154 )      
Investment in subsidiaries
          (85,007 )     47,698       37,309  
Distributions to parent
          54,495       (51,695 )     (2,800 )
                                 
Net cash provided by financing activities
    69,798       758       34,543       34,497  
                                 
Net cash provided by (used in) financing activities, from discontinued operations
    1,221             1,221        
                                 
EFFECT OF EXCHANGE RATE CHANGES ON CASH
    (9 )           (27 )     18  
                                 
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS
    12,716             12,654       62  
CASH AND CASH EQUIVALENTS, beginning of period
    39,340             38,985       355  
                                 
CASH AND CASH EQUIVALENTS, end of period
  $ 52,056     $     $ 51,639     $ 417  
                                 


29


Table of Contents

 
 
This quarterly report includes certain “forward-looking statements” within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. This information includes statements regarding our plans, goals, or current expectations with respect to, among other things:
 
  •  our future operating performance;
 
  •  our ability to improve our margins;
 
  •  operating cash flows and availability of capital;
 
  •  the completion of future acquisitions;
 
  •  the future revenues of acquired dealerships;
 
  •  future stock repurchases and dividends;
 
  •  capital expenditures;
 
  •  changes in sales volumes in the new and used vehicle and parts and service markets;
 
  •  business trends in the retail automotive industry, including the level of manufacturer incentives, new and used vehicle retail sales volume, customer demand, interest rates and changes in industrywide inventory levels; and
 
  •  availability of financing for inventory and working capital.
 
Although we believe that the expectations reflected in these forward-looking statements are reasonable when and as made, we can not assure you that these expectations will prove to be correct. When used in this quarterly report, the words “anticipate,” “believe,” “estimate,” “expect,” “may” and similar expressions, as they relate to our company and management, are intended to identify forward-looking statements. Forward-looking statements are not assurances of future performance and involve risks and uncertainties. Actual results may differ materially from anticipated results in the forward-looking statements for a number of reasons, including:
 
  •  the future economic environment, including consumer confidence, interest rates, the price of gasoline, the level of manufacturer incentives and the availability of consumer credit may affect the demand for new and used vehicles, replacement parts, maintenance and repair services and finance and insurance products;
 
  •  adverse international developments such as war, terrorism, political conflicts or other hostilities may adversely affect the demand for our products and services;
 
  •  the future regulatory environment, unexpected litigation or adverse legislation, including changes in state franchise laws, may impose additional costs on us or otherwise adversely affect us;
 
  •  our principal automobile manufacturers, especially Toyota/Lexus, Ford, Daimler, Chrysler, Nissan/Infiniti, Honda/Acura, General Motors and BMW, because of financial distress or other reasons, may not continue to produce or make available to us vehicles that are in high demand by our customers or provide financing, advertising or other assistance to us;
 
  •  requirements imposed on us by our manufacturers may limit our acquisitions and require us to increase the level of capital expenditures related to our dealership facilities;
 
  •  our dealership operations may not perform at expected levels or achieve expected improvements;
 
  •  our failure to achieve expected future cost savings or future costs being higher than we expect;
 
  •  available capital resources and various debt agreements may limit our ability to complete acquisitions, complete construction of new or expanded facilities, repurchase shares or pay dividends;
 
  •  our cost of financing could increase significantly;
 
  •  foreign exchange controls and currency fluctuations;
 
  •  new accounting standards could materially impact our reported earnings per share;
 
  •  our inability to complete additional acquisitions or changes in the pace of acquisitions;
 
  •  the inability to adjust our cost structure to offset any reduction in the demand for our products and services;


30


Table of Contents

 
  •  our loss of key personnel;
 
  •  competition in our industry may impact our operations or our ability to complete acquisitions;
 
  •  the failure to achieve expected sales volumes from our new franchises;
 
  •  insurance costs could increase significantly and all of our losses may not be covered by insurance; and
 
  •  our inability to obtain inventory of new and used vehicles and parts, including imported inventory, at the cost, or in the volume, we expect.
 
These factors, as well as additional factors that could affect our operating results and performance are described in our 2007 Form 10-K, under the headings “Item 1A. Risk Factors” and “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” and elsewhere within this quarterly report.
 
Readers are cautioned not to place undue reliance on forward-looking statements, which speak only as of the date hereof. We undertake no responsibility to publicly release the result of any revision of our forward-looking statements after the date they are made.


31


Table of Contents

Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations
 
This Management’s Discussion and Analysis of Financial Condition and Results of Operations contains forward-looking statements that involve risks and uncertainties. Our actual results may differ materially from those discussed in the forward-looking statements because of various factors. See “Cautionary Statement about Forward Looking Statements.”
 
 
We are a leading operator in the $1.0 trillion automotive retailing industry. As of June 30, 2008, we owned and operated 98 automotive dealerships, 132 franchises and 24 collision service centers in the United States and three dealerships, six franchises and two collision centers in the United Kingdom. We market and sell an extensive range of automotive products and services, including new and used vehicles and related financing, vehicle maintenance and repair services, replacement parts, and warranty, insurance and extended service contracts. Our operations are primarily located in major metropolitan areas in the states of Alabama, California, Florida, Georgia, Kansas, Louisiana, Maryland, Massachusetts, Mississippi, New Hampshire, New Jersey, New York, Oklahoma, South Carolina and Texas in the United States of America and in the towns of Brighton, Hailsham and Worthing in the United Kingdom.
 
As of June 30, 2008, our retail network consisted of the following three regions (with the number of dealerships they comprised): (i) Eastern (40 dealerships in Alabama, Florida, Georgia, Louisiana, Maryland, Massachusetts, Mississippi, New Hampshire, New Jersey, New York and South Carolina); (ii) Central (47 dealerships in Kansas, Oklahoma and Texas); and (iii) Western (11 dealerships in California). Each region is managed by a regional vice president reporting directly to our Chief Executive Officer and a regional chief financial officer reporting directly to our Chief Financial Officer. In addition, our international operations consist of three dealerships in the United Kingdom also managed locally with direct reporting responsibilities to our corporate management team.
 
Our operating results reflect the combined performance of each of our interrelated business activities, which include the sale of new vehicles, used vehicles, finance and insurance products, and parts, service and collision repair services. Historically, each of these activities has been directly or indirectly impacted by a variety of supply/demand factors, including consumer confidence, discretionary spending, vehicle inventories, availability and affordability of consumer credit, manufacturer incentives, weather patterns, fuel prices and interest rates. For example, during periods of sustained economic downturn or significant supply/demand imbalances, new vehicle sales may be negatively impacted as consumers tend to shift their purchases to used vehicles. Some consumers may even delay their purchasing decisions altogether, electing instead to repair their existing vehicles. In such cases, however, we believe the impact on our overall business is mitigated by our ability to offer other products and services, such as used vehicles and parts, service and collision repair services.
 
Our operations are also subject to seasonal variations as demand for automobiles is generally lower during the winter months than in other seasons. A greater amount of vehicle sales generally occurs in the second and third quarters of each year due in part to weather-related factors, consumer buying patterns, the historical timing of major manufacturer incentive programs, and the introduction of new vehicle models. Accordingly, we expect our operating results to be higher in the second and third quarters as compared to the first and fourth quarters.
 
During the three months ended June 30, 2008, we disposed of certain operations that qualified for discontinued operations accounting treatment. The necessary reclassifications have been made to our 2007 Consolidated Statement of Operations for the three and six months ended June 30, 2007, as well as our 2007 Consolidated Statement of Cash Flows for the six months ended June 30, 2007, to reflect these operations as discontinued. In addition, we have made reclassifications to the Consolidated Balance Sheet as of December 31, 2007, which was derived from the audited Consolidated Balance Sheet included in our Annual Report on Form 10-K for the fiscal year ended December 31, 2007 (“2007 Form 10-K”), to properly reflect the discontinued operations. For the three months ended June 30, 2008 and 2007, we reported net income from continuing operations of $18.5 million and $24.3 million, respectively, and diluted earnings per share of $0.82 and $1.02, respectively. For the six months ended June 30, 2008 and 2007, we reported net income from continuing operations of $35.6 million and $41.9 million, respectively, and diluted earnings per share of $1.57 and $1.75, respectively. Our results for the six months ended June 30, 2008 were negatively impacted by a $0.5 million after-tax charge related to the termination of a dealership facility lease in conjunction with the relocation of several of our dealership franchises from one to multiple facilities. Our results for the six months ended June 30, 2007 were negatively impacted by a


32


Table of Contents

$2.8 million after-tax charge for payments made during the first and second quarters of 2007 in conjunction with the sale and lease termination of two of our domestic brand stores and a $0.2 million after-tax charge for the impairment of assets associated with one of the two stores.
 
 
The following table highlights certain of the key performance indicators we use to manage our business:
 
 
                                   
    For the
      For the
 
    Three Months Ended
      Six Months Ended
 
    June 30,       June 30,  
    2008     2007       2008     2007  
Unit Sales
                                 
Retail Sales
                                 
New Vehicle
    32,368       34,706         60,887       65,270  
Used Vehicle
    16,783       17,115         33,888       33,860  
                                   
Total Retail Sales
    49,151       51,821         94,775       99,130  
Wholesale Sales
    10,304       11,842         20,252       22,303  
                                   
Total Vehicle Sales
    59,455       63,663         115,027       121,433  
Gross Margin
                                 
New Vehicle Retail
    6.5 %     6.7 %       6.5 %     6.8 %
Used Vehicle
    8.6 %     9.1 %       8.8 %     9.7 %
Parts and Service
    53.8 %     54.6 %       54.3 %     54.1 %
Total Gross Margin
    15.9 %     15.3 %       16.2 %     15.7 %
SG&A(1) as a % of Gross Profit
    77.7 %     76.1 %       78.2 %     78.0 %
Operating Margin
    3.1 %     3.3 %       3.1 %     3.1 %
Pretax Margin
    1.9 %     2.3 %       1.9 %     2.1 %
Finance and Insurance
                                 
Revenues per Retail Unit Sold
  $ 1,078     $ 1,004       $ 1,112     $ 1,020  
                                   
 
 
(1) Selling, general and administrative expenses.
 
Our consolidated new vehicle retail unit sales and operating results for the three and six months ended June 30, 2008 were negatively impacted by the sustained market weakness in several of the areas in which we operate, particularly in California and Florida. Further, we experienced a shift in consumer preference towards fuel-efficient vehicles, which has adversely impacted our truck-heavy brands (i.e., Ford, Dodge and Chevrolet) and our truck-dependent markets, especially in Texas and Oklahoma. These negative factors were partially offset by the continued strong performance in our Texas stores, where the economy is presently more robust, and in many of our stores in the Northeastern part of the country. We believe our performance is generally consistent with the national retail results of the brands we represent and the overall markets in which we operate. For the three and six months ended June 30, 2008, new vehicle unit sales were down 6.7% in both periods. New vehicle gross margin declined 20 and 30 basis points from the three and six months ended June 30, 2007 levels, respectively, to 6.5% for both comparable periods of 2008. Consolidated gross profit per new vehicle unit sold decreased from $1,997 and $2,033 per unit in the three and six months ended June 30, 2007, respectively, to $1,947 and $1,974 per unit in the comparable periods of 2008.
 
The rapid shift in customer preferences towards more fuel-efficient vehicles and a tougher financing environment with reduced loan-to-value ratios negatively affected our used vehicle results in the second quarter of 2008. Our consolidated used retail gross margin declined 90 basis points to 10.9% for the three months ended June 30, 2008, and our gross profit decreased 7.3% on 1.9% less retail unit sales. For the six months ended June 30, 2008, our used retail gross margin and gross profit declined 130 basis points and 5.9%, respectively, on about the same number of units. Recent revisions to our used vehicle selling practices, coupled with the expanded use of


33


Table of Contents

technology and software tools, have served to shift many traditional wholesale deals to retail sales. As a result, our used retail revenues increased 0.7% and 4.5% for the three and six months ended June 30, 2008, respectively, while our used wholesale revenues declined 17.3% and 12.9%, respectively, as we continue to aggressively pursue our strategy of selling more used units as retail sales and minimizing our less-profitable wholesale business. Our profitability per wholesale unit decreased for the three months ended June 30, 2008, from a $46 loss per wholesale unit to a $77 loss per unit. For the six months ended June 30, 2008, our profitability per wholesale unit declined from a profit of $29 per wholesale unit to a loss of $36 per unit.
 
Our consolidated parts and service gross profit improved 7.7% and 10.3% for the three and six months ended June 30, 2008, respectively, on a 9.2% and 9.8% increase in revenues for the comparable periods, bolstered by our recent initiatives designed to enhance our customers’ service experience and improve the profitability of this business. Our gross margin declined 80 basis points in the second quarter of 2008, as we grew the relatively less profitable portions of our parts and service business at a faster rate than we grew the more profitable segments. Gross margin was relatively unchanged for the first half of 2008.
 
Our consolidated finance and insurance (F&I) revenues per retail unit improved 7.4% in the second quarter of 2008 from $1,004 per retail unit sold in the second quarter of 2007 to $1,078, reflecting higher product penetration rates and an improved cost structure for our vehicle service contracts and other F&I products. These improvements were partially offset by the 5.2% decline in retail vehicle unit volume. Similarly, for the first half of 2008, we realized a 9.0% increase in F&I revenues per retail unit compared to 2007 to $1,112 per retail unit.
 
Our consolidated selling, general and administrative expenses (SG&A) increased 1.7% for the three months ended June 30, 2008, to $195.3 million, and increased 1.4% for the six months ended June 30, 2008, to $390.4 million with the increase in absolute expense more than explained by acquisitions. As a percentage of gross profit, SG&A increased 160 basis points from 76.1% during the second quarter of 2007, to 77.7% in 2008. For the first half of 2008, SG&A as a percent of gross profit increased 20 basis points to 78.2%. The increases in SG&A as a percent of gross profit for both the three and six month ended June 30, 2008, are primarily attributable to the decline in gross profit for both periods.
 
The combination of these factors contributed to a 20 basis point decline in our operating margin for the three months ended June 30, 2008 from 3.3% in 2007 to 3.1%. Our operating margin remained constant at 3.1% for the first six months of 2008 compared to 2007. Our floorplan interest expense increased 8.0% and 4.3% for the three and six months ended June 30, 2008, respectively. For the second quarter of 2008, our weighted average borrowings increased $242.4 million, while our weighted average floorplan interest rate, including the impact of our interest rate swaps, declined 129 basis points. Year to date, our weighted average borrowings increased $192.7 million, partially offset by a decline in our swap-adjusted weighted average floorplan interest rate of 120 basis points. Other interest expenses increased 15.1% in the second quarter of 2008 and 39.8% for the first half of 2008, primarily attributable to increased borrowings under the Acquisition Line of our Revolving Credit Facility and our Mortgage Facility. As a result, our pretax margin declined 40 basis points in the second quarter of 2008 from 2.3% in 2007 to 1.9% and decreased 20 basis points through the first six months of 2008 from 2.1% in 2007 to 1.9%.
 
We further address these items, and other variances between the periods presented, in the results of operations section below.
 
 
Effective January 1, 2008, we adopted Statement of Financial Accounting Standards (“SFAS”) No. 157, “Fair Value Measurements” (“SFAS 157”), which defines fair value, establishes a framework for measuring fair value in generally accepted accounting principles, and expands disclosures about fair value measurements, for all of our financial assets and liabilities. The statement does not require new fair value measurements, but emphasizes that fair value is a market-based measurement that should be determined based on the assumptions that market participants would use in pricing an asset or liability and provides guidance on how to measure fair value by providing a fair value hierarchy for classification of financial assets or liabilities based upon measurement inputs. SFAS 157 applies to other accounting pronouncements that require or permit fair value measurements. The adoption of SFAS 157 did not have a material effect on our results of operations or financial position. See Note 8 of the Consolidated Financial Statements for the application of SFAS 157 and further details regarding fair value measurement of our financial assets and liabilities as of June 30, 2008.


34


Table of Contents

In November 2007, the FASB deferred for one year the implementation of SFAS 157 for non-financial assets and liabilities. At this time, we do not expect that the adoption of SFAS 157 for non-financial assets and financial liabilities will have a material impact on our financial position or results of operations.
 
In February 2007, the FASB issued SFAS No. 159, “The Fair Value Option for Financial Assets and Financial Liabilities — Including an Amendment of FASB Statement No. 115” (“SFAS 159”). SFAS 159 expands the use of fair value accounting but does not affect existing standards, which require assets or liabilities to be carried at fair value. Under SFAS 159, a company may elect to use a fair value to measure accounts and loans receivable, available-for-sale and held-to-maturity securities, equity method investments, accounts payable, guarantees and issued debt. We adopted SFAS 159 effective January 1, 2008, and elected not to measure any of our currently eligible financial assets and liabilities at fair value.
 
In December 2007, the FASB issued SFAS No. 141(R), “Business Combinations” (“SFAS 141(R)”), which significantly changes the accounting for business acquisitions both during the period of the acquisition and in subsequent periods. The more significant changes in the accounting for acquisitions that could impact us are:
 
  •  certain transaction costs, which are presently treated as cost of the acquisition, will be expensed;
 
  •  restructuring costs associated with a business combination, which are presently capitalized, will be expensed subsequent to the acquisition date;
 
  •  contingencies, including contingent consideration, which is presently accounted for as an adjustment of purchase price, will be recorded at fair value with subsequent adjustments recognized in operations; and
 
  •  valuation allowances on acquired deferred tax assets, which are presently considered to be subsequent changes in consideration and are recorded as decreases in goodwill, will be recognized up front and in operations.
 
SFAS 141 (R) is effective on a prospective basis for all business combinations for which the acquisition date is on or after the beginning of the first annual period subsequent to December 31, 2008, with an exception related to the accounting for valuation allowances on deferred taxes and acquired contingencies related to acquisitions completed before the effective date.
 
In March 2008, the FASB issued SFAS No. 161, “Disclosures about Derivative Instruments and Hedging Activities” (“SFAS 161”), an amendment of SFAS No. 133 “Accounting for Derivative Instruments and Hedging Activities,” which requires disclosures of the objectives of derivative instruments and hedging activities, the method of accounting for such instruments and activities under SFAS No. 133 and its related interpretations, and disclosure of the affects of such instruments and related hedged items on an entity’s financial position, financial performance, and cash flows. The statement encourages but does not require comparative disclosures for earlier periods at initial application. SFAS 161 is effective for financial statements issued for years and interim periods beginning after November 15, 2008, with early application encouraged. We are currently evaluating the impact that the adoption of this statement will have on the disclosures contained within our consolidated financial statements.
 
In April 2008, the FASB issued FASB Staff Position (“FSP”) Financial Accounting Standard (“FAS”) 142-3, “Determination of the Useful Life of Intangible Assets,” or “FSP FAS 142-3,” which amends the factors that should be considered in developing renewal or extension assumptions used to determine the useful life of a recognized intangible asset under FASB Statement No. 142, “Goodwill and Other Intangible Assets.” FSP FAS 142-3 enhances the guidance over the consistency between the useful life of a recognized intangible asset under Statement No. 142 and the period of expected cash flows used to measure the fair value of the asset under FASB Statement No. 141, “Business Combinations”. FSP FAS 142-3 is effective for fiscal years beginning after December 15, 2008, with early adoption prohibited. The measurement provision of this standard will apply only to intangible assets acquired after the effective date. The Company is currently evaluating the impact of this pronouncement on its determination and evaluation of the useful life as related to its intangible assets.
 
In May 2008, the FASB finalized FSP APB 14-1, “Accounting for Convertible Debt Instruments that may be Settled in Cash upon Conversion” (“APB 14-1”), which specifies the accounting for certain convertible debt instruments, including our 2.25% Convertible Senior Notes, due 2036 (“2.25% Convertible Notes”). For convertible debt instruments that may be settled entirely or partially in cash upon conversion, APB 14-1 requires an entity to separately account for the liability and equity components of the instrument in a manner that reflects the issuer’s economic interest cost. The adoption of APB 14-1 for our 2.25% Convertible Notes will require the equity


35


Table of Contents

component of the 2.25% Convertible Notes to be initially included in the paid-in-capital section of stockholders’ equity on the Company’s Consolidated Balance Sheets and the value of the equity component to be treated as an original issue discount for purposes of accounting for the debt component of the 2.25% Convertible Notes. Higher interest expense will result by recognizing the accretion of the discounted carrying value of the 2.25% Convertible Notes to their face amount as interest expense over the expected term of the 2.25% Convertible Notes using an effective interest rate method of amortization. APB 14-1 is effective for fiscal years beginning after December 15, 2008 and interim periods within those fiscal years. APB 14-1 is not permitted to be adopted early and will be applied retrospectively to all periods presented. We continue to evaluate the impact that the adoption of APB 14-1 will have on its financial position and results of operations, but have preliminarily estimated that our Other Long-Term Debt will be initially reduced by approximately $110.0 million with a corresponding increase in Additional Paid In Capital, which will be amortized as an accretion to the value of the 2.25% Convertible Notes, thereby increasing our Other Interest Expense by an average of approximately $11.0 million per year, before income taxes, through the expected redemption of the 2.25% Convertible Notes.
 
In June 2008, the EITF reached a consensus on EITF No. 03-6-1, “Determining Whether Instruments Granted in Share-Based Payment Transactions Are Participating Securities”. EITF No. 03-6-1 clarifies when instruments granted in share-based payment transactions are participating securities prior to vesting, the impact of the shares should be included in the earnings allocation in computing earnings per share (“EPS”) under the two-class method described in SFAS No. 128, “Earnings per Share,” and indicates that the objective of EPS is to measure the performance of an entity over the reporting period. The consensus states all outstanding unvested share-based payment awards that contain rights to non-forfeitable dividends which participate in undistributed earnings with common shareholders should be included in the calculation of basic and diluted EPS. EITF No. 03-6-1 would apply retrospectively to all prior-period EPS data presented for fiscal years beginning after December 15, 2008, and interim periods within those fiscal years. Earlier application is not permitted. We are currently evaluating the impact of the adoption of EITF 03-6-1 on the Company, but, do not expect it will not have a material impact on our consolidated financial statements and related disclosures.
 
 
Our consolidated financial statements are impacted by the accounting policies we use and the estimates and assumptions we make during their preparation. During the three months ended June 30, 2008, we sold certain operations that qualified for discontinuing operations accounting and reporting treatment. We have made certain reclassifications to our 2007 Consolidated Statements of Operations and Cash Flows to reflect these operations as discontinued. In addition, we have made reclassifications to the Consolidated Balance Sheets as of December 31, 2007, which was derived from the audited Consolidated Balance Sheet included in our 2007 Form 10-K, to properly reflect the discontinued operations.
 
We disclosed our critical accounting policies and estimates in our 2007 Annual Report on Form 10-K. Other than these changes for discontinued operations, no significant changes have occurred since that time.


36


Table of Contents

Results of Operations
 
The following tables present comparative financial and non-financial data for the three and six months ended June 30, 2008 and 2007, of (i) our “Same Store” locations, (ii) those locations acquired or disposed of (“Transactions”) during the periods and (iii) the total company. Same Store amounts include the results of dealerships for the identical months in each period presented in the comparison, commencing with the first full month in which we owned the dealership and, in the case of dispositions, ending with the last full month in which the dealership was owned. Same Store results also include the activities of our corporate office.
 
The following table summarizes our combined Same Store results for the three and six months ended June 30, 2008 as compared to 2007.
 
Total Same Store Data
 
                                                   
    Three Months Ended June 30,       Six Months Ended June 30,  
    2008     % Change     2007       2008     % Change     2007  
    (Dollars in thousands, except per unit amounts)  
Revenues
                                                 
New Vehicle Retail
  $ 925,082       (9.9 )%   $ 1,027,177       $ 1,764,524       (8.3 )%   $ 1,925,178  
Used Vehicle Retail
    284,975       (2.0 )%     290,730         566,337       0.5 %     563,376  
Used Vehicle Wholesale
    64,403       (19.7 )%     80,162         125,534       (16.8 )%     150,945  
Parts and Service
    181,550       4.8 %     173,294         357,557       4.8 %     341,153  
Finance, Insurance and Other
    51,802       0.6 %     51,518         102,902       2.9 %     100,004  
                                                   
Total Revenues
    1,507,812       (7.1 )%     1,622,881         2,916,854       (5.3 )%     3,080,656  
Cost of Sales
                                                 
New Vehicle Retail
    866,013       (9.7 )%     958,960         1,651,630       (8.0 )%     1,794,762  
Used Vehicle Retail
    253,782       (1.1 )%     256,583         503,248       1.6 %     495,189  
Used Vehicle Wholesale
    65,160       (19.1 )%     80,581         126,290       (15.8 )%     150,046  
Parts and Service
    83,756       6.6 %     78,597         163,548       4.3 %     156,769  
                                                   
Total Cost of Sales
    1,268,711       (7.7 )%     1,374,721         2,444,716       (5.9 )%     2,596,766  
                                                   
Gross Profit
  $ 239,101       (3.7 )%   $ 248,160       $ 472,138       (2.4 )%   $ 483,890  
                                                   
Selling, General and Administrative Expenses
  $ 186,513       (0.4 )%   $ 187,309       $ 369,546       (0.3 )%   $ 370,842  
Depreciation and Amortization Expenses
  $ 6,126       26.2 %   $ 4,854       $ 11,342       21.1 %   $ 9,363  
Floorplan Interest Expense
  $ 11,872       6.6 %   $ 11,134       $ 23,079       2.0 %   $ 22,630  
Gross Margin
                                                 
New Vehicle Retail
    6.4 %             6.6 %       6.4 %             6.8 %
Used Vehicle
    8.7 %             9.1 %       9.0 %             9.7 %
Parts and Service
    53.9 %             54.6 %       54.3 %             54.0 %
Total Gross Margin
    15.9 %             15.3 %       16.2 %             15.7 %
SG&A as a % of Gross Profit
    78.0 %             75.5 %       78.3 %             76.6 %
Operating Margin
    3.1 %             3.5 %       3.1 %             3.4 %
Finance and Insurance Revenues per Retail Unit Sold
  $ 1,083       7.3 %   $ 1,009       $ 1,121       9.2 %   $ 1,027  
 
The discussion that follows provides explanation for the significant variances noted above. Each table presents, by primary income statement line item, comparative financial and non-financial data for our Same Store locations, Transactions and the consolidated company for the three and six months ended June 30, 2008 and 2007.


37


Table of Contents

New Vehicle Retail Data
 
                                                   
    Three Months Ended June 30,       Six Months Ended June 30,  
    2008     % Change     2007       2008     % Change     2007  
    (Dollars in thousands, except per unit amounts)  
Retail Unit Sales
                                                 
Same Stores
    31,466       (8.2 )%     34,292         59,048       (8.3 )%     64,372  
Transactions
    902               414         1,839               898