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Lithia Motors 10-Q 2013

Documents found in this filing:

  1. 10-Q
  2. Ex-10
  3. Ex-31
  4. Ex-31
  5. Ex-32
  6. Ex-32
  7. Ex-32
lad20131016_10q.htm

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

FORM 10-Q

 

 

(Mark One)

 

[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES

EXCHANGE ACT OF 1934

For the quarterly period ended September 30, 2013

OR

[  ] 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: 001-14733

 


  

LITHIA MOTORS, INC.

(Exact name of registrant as specified in its charter)

Oregon

 

93-0572810

(State or other jurisdiction of incorporation or organization)

 

(I.R.S. Employer Identification No.)

     

150 N. Bartlett Street, Medford, Oregon

 

97501

(Address of principal executive offices)

 

(Zip Code)

 

Registrant's telephone number, including area code: 541-776-6401

 


 

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 [X]  No [ ]

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes [X]  No [ ]

 

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.   Large accelerated filer [ ]    Accelerated filer [X]

Non-accelerated filer [ ] (Do not check if a smaller reporting company)     Smaller reporting company [ ]

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes [ ]  No [X]

 

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

 

Class A common stock without par value

 

23,327,279

Class B common stock without par value

 

2,562,231

(Class)

 

(Outstanding at October 25, 2013)

 

 

 

 

 
 

 

 

LITHIA MOTORS, INC.

FORM 10-Q

INDEX 

 

PART I - FINANCIAL INFORMATION  

Page

 

 

 

Item 1.

Financial Statements

 

 

 

 

 

Consolidated Balance Sheets (Unaudited) – September 30, 2013 and December 31, 2012

2

 

 

 

 

Consolidated Statements of Operations (Unaudited) – Three and Nine Months Ended September 30, 2013 and 2012

3

 

 

 

 

Consolidated Statements of Comprehensive Income (Unaudited) – Three and Nine Months Ended September 30, 2013 and 2012

4

 

 

 

 

Consolidated Statements of Cash Flows (Unaudited) – Nine Months Ended September 30, 2013 and 2012

5

 

 

 

 

Condensed Notes to Consolidated Financial Statements (Unaudited)

6

 

 

 

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

19

 

 

 

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

37

 

 

 

Item 4.

Controls and Procedures

37

 

 

 

PART II - OTHER INFORMATION

 
     

Item 1.

Legal Proceedings

38

     

Item 1A.

Risk Factors

38

     

Item 6.

Exhibits

41

     

Signatures

 

42

  

 
1

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES
Consolidated Balance Sheets
(In thousands)
(Unaudited)

 

   

September 30,

2013

   

December 31,

2012

 

Assets

               

Current Assets:

               

Cash and cash equivalents

  $ 16,093     $ 42,839  

Accounts receivable, net of allowance for doubtful accounts of $153 and $336

    140,086       133,149  

Inventories, net

    755,698       723,326  

Deferred income taxes

    1,999       3,832  

Other current assets

    9,477       17,484  

Assets held for sale

    11,845       12,579  

Total Current Assets

    935,198       933,209  
                 

Property and equipment, net of accumulated depreciation of $104,105 and $97,883

    452,367       425,086  

Goodwill

    40,313       32,047  

Franchise value

    66,465       62,429  

Deferred income taxes

    15,826       17,123  

Other non-current assets

    29,009       22,808  

Total Assets

  $ 1,539,178     $ 1,492,702  
                 
                 

Liabilities and Stockholders' Equity

               

Current Liabilities:

               

Floor plan notes payable

  $ 19,221     $ 13,454  

Floor plan notes payable: non-trade

    569,027       568,130  

Current maturities of long-term debt

    7,066       8,182  

Trade payables

    48,645       41,589  

Accrued liabilities

    94,678       81,602  

Liabilities related to assets held for sale

    7,403       8,347  

Total Current Liabilities

    746,040       721,304  
                 

Long-term debt, less current maturities

    218,172       286,876  

Deferred revenue

    40,774       33,589  

Other long-term liabilities

    27,063       22,832  

Total Liabilities

    1,032,049       1,064,601  
                 

Stockholders' Equity:

               

Preferred stock - no par value; authorized 15,000 shares; none outstanding

    -       -  

Class A common stock - no par value; authorized 100,000 shares; issued andoutstanding 23,310 and 22,916

    267,004       268,801  

Class B common stock - no par value; authorized 25,000 shares; issued andoutstanding 2,562 and 2,762

    319       343  

Additional paid-in capital

    20,401       12,399  

Accumulated other comprehensive loss

    (1,677 )     (2,615 )

Retained earnings

    221,082       149,173  

Total Stockholders' Equity

    507,129       428,101  

Total Liabilities and Stockholders' Equity

  $ 1,539,178     $ 1,492,702  

 

See accompanying notes to consolidated financial statements.

 

 
2

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES
 Consolidated Statements of Operations
(In thousands, except  per share amounts)
(Unaudited)

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2013

   

2012

   

2013

   

2012

 

Revenues:

                               

New vehicle

  $ 604,135     $ 491,846     $ 1,667,063     $ 1,340,731  

Used vehicle retail

    280,734       227,157       778,427       625,117  

Used vehicle wholesale

    43,396       35,006       120,593       103,469  

Finance and insurance

    37,132       30,929       103,013       82,989  

Service, body and parts

    97,784       89,038       282,686       258,038  

Fleet and other

    6,109       4,550       29,093       28,770  

Total revenues

    1,069,290       878,526       2,980,875       2,439,114  

Cost of sales:

                               

New vehicle

    565,549       456,753       1,555,042       1,241,820  

Used vehicle retail

    239,093       193,885       662,920       532,577  

Used vehicle wholesale

    42,686       35,042       118,214       102,812  

Service, body and parts

    50,793       46,033       145,223       133,224  

Fleet and other

    5,780       4,303       27,816       27,741  

Total cost of sales

    903,901       736,016       2,509,215       2,038,174  

Gross profit

    165,389       142,510       471,660       400,940  

Asset impairments

    -       -       -       115  

Selling, general and administrative

    108,570       95,132       318,984       276,561  

Depreciation and amortization

    5,099       4,351       14,719       12,687  

Operating income

    51,720       43,027       137,957       111,577  

Floor plan interest expense

    (2,909 )     (3,370 )     (9,394 )     (9,326 )

Other interest expense

    (1,933 )     (2,125 )     (6,235 )     (7,382 )

Other income, net

    835       453       2,220       1,770  

Income from continuing operations before income taxes

    47,713       37,985       124,548       96,639  

Income tax provision

    (16,822 )     (14,893 )     (46,494 )     (36,908 )

Income from continuing operations, net of income tax

    30,891       23,092       78,054       59,731  

Income from discontinued operations, net of income tax

    127       151       574       799  

Net income

  $ 31,018     $ 23,243     $ 78,628     $ 60,530  
                                 

Basic income per share from continuing operations

  $ 1.19     $ 0.91     $ 3.03     $ 2.32  

Basic income per share from discontinued operations

    0.01       0.00       0.02       0.03  

Basic net income per share

  $ 1.20     $ 0.91     $ 3.05     $ 2.35  
                                 

Shares used in basic per share calculations

    25,866       25,469       25,776       25,730  
                                 

Diluted income per share from continuing operations

  $ 1.18     $ 0.89     $ 2.98     $ 2.28  

Diluted income per share from discontinued operations

    -       0.01       0.03       0.03  

Diluted net income per share

  $ 1.18     $ 0.90     $ 3.01     $ 2.31  
                                 

Shares used in diluted per share calculations

    26,237       25,947       26,159       26,203  

 

See accompanying notes to consolidated financial statements.

 

 
3

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES
 Consolidated Statements of Comprehensive Income
(In thousands)
(Unaudited)

 

   

Three Months Ended September 30,

   

Nine Months Ended September 30,

 
   

2013

   

2012

   

2013

   

2012

 

Net income

  $ 31,018     $ 23,243     $ 78,628     $ 60,530  

Other comprehensive income, net of tax:

                               

Gain on cash flow hedges, net of tax expense of $58, $301, $582, and $791, respectively

    94       484       938       1,274  

Comprehensive income

  $ 31,112     $ 23,727     $ 79,566     $ 61,804  

 

See accompanying notes to consolidated financial statements.

 

 
4

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES
Consolidated Statements of Cash Flows
(In thousands)
(Unaudited)

 

   

Nine Months Ended September 30,

 
   

2013

   

2012

 

Cash flows from operating activities:

               

Net income

  $ 78,628     $ 60,530  

Adjustments to reconcile net income to net cash provided by (used in) operating activities:

               

Asset impairments

    -       115  

Depreciation and amortization

    14,719       12,687  

Depreciation and amortization within discontinued operations

    -       186  

Stock-based compensation

    4,161       2,329  

Loss (gain) on disposal of other assets

    107       (378 )

Deferred income taxes

    8,504       6,851  

Excess tax benefit from share-based payment arrangements

    (5,956 )     (1,629 )

(Increase) decrease (net of acquisitions and dispositions):

               

Trade receivables, net

    (6,937 )     (29,160 )

Inventories

    (18,187 )     (158,186 )

Other current assets

    5,464       3,169  

Other non-current assets

    (3,804 )     (4,346 )

Increase (decrease) (net of acquisitions and dispositions):

               

Floor plan notes payable, net

    5,721       (93,975 )

Trade payables

    4,848       5,381  

Accrued liabilities

    13,099       10,164  

Other long-term liabilities and deferred revenue

    12,307       9,927  

Net cash provided by (used in) operating activities

    112,674       (176,335 )
                 

Cash flows from investing activities:

               

Principal payments received on notes receivable

    88       79  

Capital expenditures

    (33,803 )     (34,966 )

Proceeds from sales of assets

    474       6,025  

Payments for life insurance policies

    (2,508 )     (1,908 )

Cash paid for acquisitions

    (31,786 )     (31,376 )

Proceeds from sales of stores

    -       2,901  

Net cash used in investing activities

    (67,535 )     (59,245 )
                 

Cash flows from financing activities:

               

Borrowings on floor plan notes payable: non-trade, net

    2,685       272,760  

Borrowings on lines of credit

    499,000       365,623  

Repayments on lines of credit

    (542,446 )     (356,791 )

Principal payments on long-term debt, scheduled

    (5,375 )     (5,889 )

Principal payments on long-term debt and capital leases, other

    (25,770 )     (37,366 )

Proceeds from issuance of long-term debt

    4,720       14,169  

Proceeds from issuance of common stock

    3,967       4,600  

Repurchase of common stock

    (7,903 )     (20,606 )

Excess tax benefit from share-based payment arrangements

    5,956       1,629  

Dividends paid

    (6,719 )     (6,943 )

Change in restricted cash

    -       3,300  

Net cash (used in) provided by financing activities

    (71,885 )     234,486  
                 

Decrease in cash and cash equivalents

    (26,746 )     (1,094 )
                 

Cash and cash equivalents at beginning of period

    42,839       20,851  

Cash and cash equivalents at end of period

  $ 16,093     $ 19,757  
                 
                 

Supplemental disclosure of cash flow information:

               

Cash paid during the period for interest

  $ 15,988     $ 17,316  

Cash paid during the period for income taxes, net

    25,880       25,814  
                 

Supplemental schedule of non-cash activities:

               

Floor plan debt paid in connection with store disposals

    -       6,712  

Acquisition of assets with capital leases

    -       2,609  

 

See accompanying notes to consolidated financial statements.

 

 
5

 

 

LITHIA MOTORS, INC. AND SUBSIDIARIES

CONDENSED NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

(Unaudited)

 

Note 1. Interim Financial Statements

 

Basis of Presentation

These condensed Consolidated Financial Statements contain unaudited information as of September 30, 2013 and for the three- and nine-month periods ended September 30, 2013 and 2012. The unaudited interim financial statements have been prepared pursuant to the rules and regulations for reporting on Form 10-Q. Accordingly, certain disclosures required by accounting principles generally accepted in the United States of America for annual financial statements are not included herein. In management’s opinion, these unaudited financial statements reflect all adjustments (which include only normal recurring adjustments) necessary for a fair presentation of the information when read in conjunction with our 2012 audited Consolidated Financial Statements and the related notes thereto. The financial information as of December 31, 2012 is derived from our 2012 Annual Report on Form 10-K. The interim condensed Consolidated Financial Statements should be read in conjunction with the Consolidated Financial Statements and the notes thereto included in our 2012 Annual Report on Form 10-K. The results of operations for the interim periods presented are not necessarily indicative of the results to be expected for the full year.

 

Reclassifications

Certain reclassifications of amounts previously reported have been made to the accompanying consolidated financial statements to maintain consistency and comparability between periods presented.

 

These reclassifications had no impact on previously reported net income.

 

Note 2. Accounts Receivable

Accounts receivable consisted of the following (in thousands):

 

   

September 30,
2013

   

December 31,

2012

 

Contracts in transit

  $ 66,516     $ 65,597  

Trade receivables

    33,252       25,885  

Vehicle receivables

    22,308       21,298  

Manufacturer receivables

    25,098       25,658  
      147,174       138,438  

Less: Allowance

    (153 )     (336 )

Less: Long-term portion of accounts receivable, net

    (6,935 )     (4,953 )

Total accounts receivable, net

  $ 140,086     $ 133,149  

 

The long-term portion of accounts receivable was included as a component of other non-current assets in the Consolidated Balance Sheets.

 

Note 3. Inventories

The components of inventory consisted of the following (in thousands):

 

   

September 30,
2013

   

December 31,

2012

 

New vehicles

  $ 565,017     $ 563,275  

Used vehicles

    158,156       130,529  

Parts and accessories

    32,525       29,522  

Total inventories

  $ 755,698     $ 723,326  

  

 
6

 

 

Note 4. Goodwill

The changes in the carrying amounts of goodwill are as follows (in thousands):

 

   

Goodwill

 

Balance as of December, 31, 2011, gross

  $ 318,224  

Accumulated impairment loss

    (299,266 )

Balance as of December 31, 2011, net

    18,958  

Additions through acquisitions

    13,710  

Goodwill allocated to dispositions

    (621 )

Balance as of December 31, 2012, net

    32,047  

Additions through acquisitions

    8,266  

Balance as of September 30, 2013, net

  $ 40,313  

 

Note 5. Commitments and Contingencies

 

Litigation

We are party to numerous legal proceedings arising in the normal course of our business. Although we do not anticipate that the resolution of legal proceedings arising in the normal course of business or the proceedings described below will have a material adverse effect on our business, results of operations, financial condition, or cash flows, we cannot predict this with certainty.

 

Alaska Consumer Protection Act Claims

In December 2006, a suit was filed against us (Jackie Neese, et al vs. Lithia Chrysler Jeep of Anchorage, Inc, et al, Case No. 3AN-06-13341 CI), and in April, 2007, a second case (Jackie Neese, et al vs. Lithia Chrysler Jeep of Anchorage, Inc, et al, Case No. 3AN-06-4815 CI) was filed against us, in the Superior Court for the State of Alaska, Third Judicial District at Anchorage. These suits were subsequently consolidated. In the suits, plaintiffs alleged that we, through our Alaska dealerships, engaged in three practices that purportedly violate Alaska consumer protection laws: (i) charging customers dealer fees and costs (including document preparation fees) not disclosed in the advertised price, (ii) failing to disclose the acquisition, mechanical and accident history of used vehicles or whether the vehicles were originally manufactured for sale in a foreign country, and (iii) engaging in deception, misrepresentation and fraud by providing to customers financing from third parties without disclosing that we receive a fee or discount for placing that loan. The suit sought statutory damages of $500 for each violation or three times plaintiff’s actual damages, whichever was greater, and attorney fees and costs.

 

In June 2013 the parties agreed to mediate the claims. The mediation resulted in a settlement agreement with the plaintiffs under which we estimate we will pay $3.8 million to settle all claims against us and to pay plaintiffs’ legal fees. The estimated payment assumes a participation rate by eligible class members based on historically experienced claim rates. An increased claim rate would result in additional payments. The estimated settlement amount was recorded as a component of selling, general and administrative expense in our Consolidated Statements of Operations and, as of September 30, 2013, was included as a component of accrued liabilities in our Consolidated Balance Sheets. The settlement is subject to court approval and we cannot assure that the court will approve the settlement.

  

 
7

 

 

Note 6. Stockholders’ Equity

 

Reclassification From Accumulated Other Comprehensive Loss

The reclassification from accumulated other comprehensive loss was as follows (in thousands):

 

   

Three Months

Ended
September

30, 2013

   

Nine Months

Ended
September

30, 2013

 

Affected Line Item in the

Consolidated Statements

of Operations

Loss on cash flow hedges

  $ (134 )   $ (606 )

Floor plan interest expense

Income Taxes

    51       232  

Income tax provision

Loss on cash flow hedges, net

  $ (83 )   $ (374 )  

 

See Note 9 for more details regarding our derivative contracts.

 

Share Repurchases

In August 2011, our Board of Directors authorized the repurchase of up to 2,000,000 shares of our Class A common stock. On July 20, 2012, our Board of Directors authorized the repurchase of 1,000,000 additional shares of our Class A common stock. We did not repurchase any shares of our Class A common stock during the third quarter of 2013. In the nine months ended September 30, 2013, we repurchased 127,900 shares at an average price of $40.76 per share, for a total of $5.2 million. Through September 30, 2013, we have repurchased 1,273,047 shares and 1,726,953 shares remained available for repurchase. This authority to repurchase shares does not have an expiration date and we may continue to repurchase shares from time to time as conditions warrant.

 

In addition, we repurchased 59,721 shares during the first quarter of 2013 at an average price of $45.04, for a total of $2.7 million, related to tax withholdings associated with the vesting of restricted stock units.

 

Dividends

Dividends paid on our Class A and Class B common stock in the nine months ended September 30, 2013 were as follows:

 

Quarter paid:

 

Dividend

amount per

share

   

Total amount of

dividend (in

thousands)

 

First quarter

  $ *     $ *  

Second quarter

    0.13       3,356  

Third quarter

    0.13       3,363  

 

* A dividend of $0.10 per share was paid in December 2012 related to our fourth quarter 2012 financial results in lieu of the dividend typically declared and paid in March of the following year. Accordingly, we did not pay dividends on our Class A and Class B common stock during the first quarter of 2013.

 

See Note 13 for a discussion of a dividend related to our third quarter 2013 financial results.

 

Note 7. Deferred Compensation and Long-Term Incentive Plan

We offer a deferred compensation and long-term incentive plan (the “LTIP”) to provide certain employees the ability to accumulate assets for retirement on a tax-deferred basis. We may make discretionary contributions to the LTIP. Discretionary contributions vest between one and seven years based on the employee’s age and position. Additionally, a participant may defer a portion of his or her compensation and receive the deferred amount upon certain events, including termination or retirement.

  

 
8

 

 

In the first nine months of 2013, we made discretionary contributions of $2.1 million to the LTIP. Participants will receive a guaranteed return of 5.25% in 2013. We recognized compensation expense related to the LTIP as follows (in thousands):

 

   

Three Months Ended

September 30,

   

Nine Months Ended

September 30,

 
   

2013

   

2012

   

2013

   

2012

 

Compensation expense

  $ 357     $ 299     $ 1,042     $ 876  

 

As of September 30, 2013 and December 31, 2012, the balance due to participants was $6.3 million and $3.6 million, respectively, and was included as a component of other long-term liabilities in the Consolidated Balance Sheets.

 

Note 8. Fair Value Measurements

Factors used in determining the fair value of our financial assets and liabilities are summarized into three broad categories:

 

Level 1 – quoted prices in active markets for identical securities;

 

Level 2 – other significant observable inputs, including quoted prices for similar securities, interest rates, prepayment spreads and credit risk; and

 

Level 3 – significant unobservable inputs, including our own assumptions in determining fair value.

 

The inputs or methodology used for valuing financial assets and liabilities are not necessarily an indication of the risk associated with investing in them.

 

We use the income approach to determine the fair value of our interest rate swap using observable Level 2 market expectations at each measurement date and an income approach to convert estimated future cash flows to a single present value amount (discounted) assuming that participants are motivated, but not compelled, to transact. Level 2 inputs for the swap valuation are limited to quoted prices for similar assets or liabilities in active markets (specifically futures contracts on LIBOR for the first two years) and inputs other than quoted prices that are observable for the asset or liability (specifically LIBOR cash and swap rates and credit risk at commonly quoted intervals). Mid-market pricing is used as a practical expedient for fair value measurements. Key inputs, including the cash rates for very short-term borrowings, futures rates for up to two years and LIBOR swap rates beyond the derivative maturity are used to predict future reset rates to discount those future cash flows to present value at the measurement date.

 

Inputs are collected from Bloomberg on the last market day of the period. The same method is used to determine the rate used to discount the future cash flows. The valuation of the interest rate swap also takes into consideration our own, as well as the counterparty’s, risk of non-performance under the contract.

 

There were no changes to our valuation techniques during the nine-month period ended September 30, 2013.

  

 
9

 

 

Assets and Liabilities Measured at Fair Value

Following are the disclosures related to our assets and (liabilities) that are measured at fair value (in thousands):

 

Fair Value at September 30, 2013

 

Level 1

   

Level 2

   

Level 3

 

Measured on a recurring basis:

                       

Derivative contracts, net

  $ -     $ (3,166 )   $ -  

 

Fair Value at December 31, 2012

 

Level 1

   

Level 2

   

Level 3

 

Measured on a recurring basis:

                       

Derivative contracts, net

  $ -     $ (4,679 )   $ -  

 

See Note 9 for more details regarding our derivative contracts.

 

Fair Value Disclosures for Financial Assets and Liabilities

We determined the carrying value of cash equivalents, accounts receivable, trade payables, accrued liabilities and short-term borrowings approximate their fair values because of the short-term nature and current market rates of these instruments. We believe the carrying value of our variable rate debt approximates fair value.

 

We have fixed-rate debt and calculate the estimated fair value of our fixed-rate debt using a discounted cash flow method. Using estimated current interest rates based on a similar risk profile and duration (Level 2), the fixed cash flows are discounted and summed to compute the fair value of the debt. As of September 30, 2013, this debt had maturity dates between November 2016 and May 2031. A summary of the aggregate carrying values and fair values of our long-term fixed-interest rate debt is as follows (in thousands):

 

   

September 30,
2013

   

December 31,

2012

 

Carrying value

  $ 133,994     $ 130,469  

Fair value

    135,010       134,688  

 

Note 9. Derivative Financial Instruments

We enter into interest rate swaps to fix a portion of our interest expense. We do not enter into derivative instruments for any purpose other than to manage interest rate exposure to fluctuations in the one-month LIBOR benchmark. That is, we do not engage in interest rate speculation using derivative instruments.

 

As of September 30, 2013, we had a $25 million interest rate swap outstanding with U.S. Bank Dealer Commercial Services. This interest rate swap matures on June 15, 2016 and has a fixed rate of 5.587% per annum. The variable rate on the interest rate swap is the one-month LIBOR rate. At September 30, 2013, the one-month LIBOR rate was 0.18% per annum, as reported in the Wall Street Journal.

 

Typically, we designate all interest rate swaps as cash flow hedges and, accordingly, we record the change in fair value for the effective portion of these interest rate swaps in comprehensive income rather than net income until the underlying hedged transaction affects net income. If a swap is no longer designated as a cash flow hedge and the forecasted transaction remains probable or reasonably possible of occurring, the gain or loss recorded in accumulated other comprehensive loss is recognized in income as the forecasted transaction occurs. If the forecasted transaction is probable of not occurring, the gain or loss recorded in accumulated other comprehensive loss is recognized in income immediately. The estimated amount that we expect to reclassify from accumulated other comprehensive loss to net income within the next twelve months is $1.2 million at September 30, 2013.

  

 
10

 

 

At September 30, 2013 and December 31, 2012, the fair value of our derivative instruments was included in our Consolidated Balance Sheets as follows (in thousands):

 

Balance Sheet Information

 

Fair Value of Liability Derivatives

 

Derivatives Designated as Hedging

Instruments

 

Location in Balance

Sheet

 

September 30,

2013

 
             

Interest Rate Swap Contracts

 

Accrued liabilities

  $ 1,217  
   

Other long-term liabilities

    1,949  
        $ 3,166  

 

Balance Sheet Information

 

Fair Value of Liability Derivatives

 

Derivatives Designated as Hedging

Instruments

 

Location in Balance

Sheet

 

December 31,

2012

 
             

Interest Rate Swap Contracts

 

Accrued liabilities

  $ 1,839  
   

Other long-term liabilities

    2,840  
        $ 4,679  

 

The effect of derivative instruments on our Consolidated Statements of Operations for the three-and nine-month periods ended September 30, 2013 and 2012 was as follows (in thousands):

 

Derivatives in Cash

Flow Hedging

Relationships

 

Amount of

 Gain

Recognized

in

Accumulated

OCI (Effective

Portion)

 

Location of

Loss

Reclassified

from

Accumulated

OCI into Income

(Effective

Portion)

 

Amount of Loss

Reclassified

from

Accumulated

OCI into Income

(Effective

Portion)

 

Location of

Loss

Recognized in

Income on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

 

Amount of

Loss

Recognized in

Income on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

 
                             

Three Months Ended

September 30, 2013

       

       

       

Interest Rate Swap Contracts

  $ 18  

Floor plan

interest expense

  $ (134 )

Floor plan

interest expense

  $ (173 )
                             

Three Months Ended

September 30, 2012

       

 

       

       

Interest Rate Swap Contracts

  $ 476  

Floor plan

interest expense

  $ (309 )

Floor plan

interest expense

  $ (788 )

  

 
11

 

  

Derivatives in Cash

Flow Hedging

Relationships

 

Amount of

Gain

Recognized

in

Accumulated

OCI (Effective

Portion)

 

Location of

Loss

Reclassified

from

Accumulated

OCI into Income

(Effective

Portion)

 

Amount of Loss

Reclassified

from

Accumulated

OCI into Income

(Effective

Portion)

 

Location of

Loss

Recognized in

Income on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

 

Amount of

Loss

Recognized in

Income on

Derivative

(Ineffective

Portion and

Amount

Excluded from

Effectiveness

Testing)

 
                             

Nine Months Ended

September 30, 2013

       

       

       

Interest Rate Swap Contracts

  $ 914  

Floor plan

interest expense

  $ (606 )

Floor plan

interest expense

  $ (1,064 )
                             

Nine Months Ended

September 30, 2012

       

       

       

Interest Rate Swap Contracts

  $ 998  

Floor plan

interest expense

  $ (1,067 )

Floor plan

interest expense

  $ (2,172 )

 

See also Note 8.

 

Note 10. Acquisitions

On June 10, 2013, we acquired the inventory, property, equipment and intangible assets and assumed certain liabilities of OB Salem Auto Group, Inc. in Salem, Oregon from Michael O’Brien including BMW, Honda and Volkswagen franchises.

 

The acquisition was accounted for using the acquisition method of accounting. No portion of the purchase price was paid with our equity securities. The following table summarizes the consideration paid for the acquisition and the amount of identified assets acquired and liabilities assumed as of the acquisition date (in thousands):

 

   

Consideration

 

Cash paid, net of cash acquired

  $ 31,786  

 

   

Assets

Acquired and

Liabilities

Assumed

 

Inventories

  $ 15,198  

Franchise value

    4,036  

Property, plant and equipment

    4,697  

Other assets

    122  

Other liabilities

    (533 )
      23,520  

Goodwill

    8,266  
    $ 31,786  

 

We account for franchise value as an indefinite-lived intangible asset. We expect the full amount of the goodwill recognized to be deductible for tax purposes.

 

This acquired company contributed revenues and earnings of $26.8 million and $286,000, respectively, for the period from acquisition to September 30, 2013.

  

 
12

 

 

The following unaudited pro forma summary presents consolidated information as if all acquisitions in the three- and nine-month periods ended September 30, 2012 and 2013 had occurred on January 1, 2012 (in thousands, except for per share amounts):

 

Three Months Ended September 30,

 

2013

   

2012

 

Revenue

  $ 1,069,290     $ 909,029  

Income from continuing operations, net of tax

    30,891       23,409  

Basic income per share from continuing operations, net of tax

    1.19       0.92  

Diluted income per share from continuing operations, net of tax

    1.18       0.90  

 

Nine Months Ended September 30,

 

2013

   

2012

 

Revenue

  $ 3,019,726     $ 2,548,136  

Income from continuing operations, net of tax

    78,500       60,777  

Basic income per share from continuing operations, net of tax

    3.05       2.36  

Diluted income per share from continuing operations, net of tax

    3.00       2.32  

 

These amounts have been calculated by applying our accounting policies and estimates. The results of the acquired stores have been adjusted to reflect the following: depreciation on a straight-line basis over the expected lives for property, plant and equipment; accounting for inventory on a specific identification method; and recognition of interest expense for real estate financing related to stores where we purchased the facility. No nonrecurring pro forma adjustments directly attributable to the acquisitions are included in the reported pro forma revenues and earnings.

 

Note 11. Discontinued Operations

We classify a store as discontinued operations if the location has been sold, we have ceased operations at that location or the store meets the criteria required by U.S. generally accepted accounting standards:

 

our management team, possessing the necessary authority, commits to a plan to sell the store;

 

the store is available for immediate sale in its present condition;

 

an active program to locate buyers and other actions that are required to sell the store are initiated;

 

a market for the store exists and we believe its sale is likely within one year;

 

active marketing of the store commences at a price that is reasonable in relation to the estimated fair market value; and

 

our management team believes it is unlikely changes will be made to the plan or the plan to dispose of the store will be withdrawn.

 

We reclassify the store’s operations to discontinued operations in our Consolidated Statements of Operations, on a comparable basis for all periods presented, provided we do not expect to have any significant continuing involvement in the store’s operations after its disposal.

 

One of our stores, classified as held for sale in the fourth quarter of 2012, continues to meet the criteria for classification of its assets and related liabilities as held for sale and its associated operating results are classified as discontinued operations as of September 30, 2013.

 

Actual floor plan interest expense for the store classified as discontinued operations is directly related to the store’s new vehicles. Interest expense related to our used vehicle inventory financing and revolving line of credit is allocated based on the working capital level of the store.

  

 
13

 

 

Certain financial information related to discontinued operations was as follows (in thousands):

 

   

Three Months Ended

September 30,

   

Nine Months Ended

September 30,

 
   

2013

   

2012

   

2013

   

2012

 

Revenue

  $ 8,712     $ 24,409     $ 27,590     $ 69,838  
                                 

Pre-tax gain from discontinued operations

  $ 236     $ 657     $ 929     $ 1,685  

Loss on disposal activities

    -       (397 )     -       (397 )
      236       260       929       1,288  

Income tax expense

    (109 )     (109 )     (355 )     (489 )

Income from discontinued operations, net of income tax expense

  $ 127     $ 151     $ 574     $ 799  

Cash generated from disposal activities

  $ -     $ -     $ -     $ 2,901  

Floor plan debt paid in connection with disposal activities

  $ -     $ -     $ -     $ 6,712  

 

Assets held for sale included the following (in thousands):

 

   

September 30, 2013

   

December 31, 2012

 

Inventories

  $ 8,597     $ 9,412  

Property, plant and equipment

    1,177       1,102  

Intangible assets

    2,071       2,065  
    $ 11,845     $ 12,579  

 

Liabilities related to assets held for sale included the following (in thousands):

 

   

September 30, 2013

   

December 31, 2012

 

Floor plan notes payable

  $ 7,403     $ 8,347  

 

Note 12. Net Income Per Share of Class A and Class B Common Stock

We compute net income per share of Class A and Class B common stock using the two-class method. Under this method, basic net income per share is computed using the weighted average number of common shares outstanding during the period excluding unvested common shares subject to repurchase or cancellation. Diluted net income per share is computed using the weighted average number of common shares and, if dilutive, potential common shares outstanding during the period. Potential common shares consist of the incremental common shares issuable upon the exercise of stock options and unvested restricted shares subject to repurchase or cancellation. The dilutive effect of outstanding stock options and other grants is reflected in diluted earnings per share by application of the treasury stock method. The computation of the diluted net income per share of Class A common stock assumes the conversion of Class B common stock, while the diluted net income per share of Class B common stock does not assume the conversion of those shares.

 

Except with respect to voting and transfer rights, the rights of the holders of our Class A and Class B common stock are identical. Our Articles of Incorporation require that the Class A and Class B common stock share equally in any dividends, liquidation proceeds or other distribution with respect to our common stock and the Articles of Incorporation can only be amended by a vote of the shareholders. Additionally, Oregon law provides that amendments to our Articles of Incorporation, which would have the effect of adversely altering the rights, powers or preferences of a given class of stock, must be approved by the class of stock adversely affected by the proposed amendment. As a result, the undistributed earnings for each year are allocated based on the participation rights of the Class A and Class B common shares as if the earnings for the year had been distributed. Because the liquidation and dividend rights are identical, the undistributed earnings are allocated on a proportionate basis.

  

 
14

 

 

Following is a reconciliation of the income from continuing operations and weighted average shares used for our basic earnings per share (“EPS”) and diluted EPS for the three- and nine-month periods ended September 30, 2013 and 2012 (in thousands, except per share amounts):

 

Three Months Ended September 30,

 

2013

   

2012

 

Basic EPS from Continuing

Operations

 

Class A

   

Class B

   

Class A

   

Class B

 

Numerator:

                               

Income from continuing operations applicable to common stockholders

  $ 27,831     $ 3,060     $ 20,073     $ 3,019  

Distributed income applicable to common stockholders

    (3,030 )     (333 )     (2,212 )     (333 )

Basic undistributed income from continuing operations applicable to common stockholders

  $ 24,801     $ 2,727     $ 17,861     $ 2,686  
                                 

Denominator:

                               

Weighted average number of shares outstanding used to calculate basic income per share

    23,304       2,562       22,139       3,330  
                                 

Basic income per share from continuing operations applicable to common stockholders

  $ 1.19     $ 1.19     $ 0.91     $ 0.91  

Basic distributed income per share from continuing operations applicable to common stockholders

    (0.13 )     (0.13 )     (0.10 )     (0.10 )

Basic undistributed income per share from continuing operations applicable to common stockholders

  $ 1.06     $ 1.06     $ 0.81     $ 0.81  

 

 

 
15

 

 

 

Three Months Ended September 30,

 

2013

   

2012

 

Diluted EPS from Continuing

Operations

 

Class A

   

Class B

   

Class A

   

Class B

 

Numerator:

                               

Distributed income applicable to common stockholders

  $ 3,030     $ 333     $ 2,212     $ 333  

Reallocation of distributed income as a result of conversion of dilutive stock options

    5       (5 )     6       (6 )

Reallocation of distributed income due to conversion of Class B to Class A common shares outstanding

    328       -       327       -  

Diluted distributed income applicable to common stockholders

  $ 3,363     $ 328     $ 2,545     $ 327  

Undistributed income from continuing operations applicable to common stockholders

  $ 24,801     $ 2,727     $ 17,861     $ 2,686  

Reallocation of undistributed income as a result of conversion of dilutive stock options

    39       (39 )     49       (49 )

Reallocation of undistributed income due to conversion of Class B to Class A

    2,688       -       2,637       -  

Diluted undistributed income from continuing operations applicable to common stockholders

  $ 27,528     $ 2,688     $ 20,547     $ 2,637  
                                 

Denominator:

                               

Weighted average number of shares outstanding used to calculate basic income per share from continuing operations

    23,304       2,562       22,139       3,330  

Weighted average number of shares from stock options

    371       -       478       -  

Conversion of Class B to Class A common shares outstanding

    2,562       -       3,330       -  

Weighted average number of shares outstanding used to calculate diluted income per share from continuing operations

    26,237       2,562