Exhibit 99.1
RISK FACTORS
Our significant indebtedness could materially adversely affect our
financial health and prevent us from fulfilling our financial obligations.
As of December 31, 2001, our total outstanding indebtedness was
approximately $1,102.4 million, including the following:
. $287.8 million under a revolving credit agreement (the
"Revolving Facility") with Ford Motor Credit Company ("Ford
Motor Credit"), Chrysler Financial Company, LLC ("Chrysler
Financial") and Toyota Motor Credit Corporation ("Toyota
Credit") with a borrowing limit of $600 million, subject to a
borrowing base calculated on the basis of our receivables,
inventory and equipment and a pledge of certain additional
collateral by an affiliate of Sonic;
. $377.2 million under a standardized secured inventory floor
plan facility (the "Ford Floor Plan Facility") with Ford Motor
Credit;
. $142.6 million under a standardized secured floor plan
facility (the "Chrysler Floor Plan Facility") with Chrysler
Financial;
. $16.4 million under a standardized secured floor plan facility
(the "Toyota Floor Plan Facility") with Toyota Credit;
. $51.7 million under a standardized secured floor plan facility
(the "GMAC Floor Plan Facility" and together with the Ford
Floor Plan Facility, the Toyota Floor Plan Facility and the
Chrysler Floor Plan Facility, the "Floor Plan Facilities")
with General Motors Acceptance Corporation ("GMAC");
. $195.7 million in 11% Senior Subordinated Notes due 2008
representing $200.0 million in aggregate principal amount less
unamortized discount of approximately $4.3 million; and
. $31.0 million of other secured debt, including $13.3 million
under a revolving real estate acquisition and new dealership
construction line of credit (the "Construction Loan") and a
related mortgage refinancing facility (the "Permanent Loan"
and together with the Construction Loan, the "Mortgage
Facility") with Ford Motor Credit.
As of December 31, 2001, we had approximately $168.2 million available
for additional borrowings under the Revolving Facility, based on a borrowing
base calculated on the basis of our receivables, inventory and equipment and
certain additional collateral pledged by an affiliate of Sonic. We also had
approximately $86.7 million available for additional borrowings under the
Mortgage Facility for real estate acquisitions and new dealership construction.
We also have significant additional capacity under the Floor Plan Facilities. In
addition, the indentures relating to our senior subordinated notes and other
debt instruments allow us to incur additional indebtedness, including secured
indebtedness.
The degree to which we are leveraged could have important consequences
to the holders of our securities, including the following:
. our ability to obtain additional financing for acquisitions,
capital expenditures, working capital or general corporate
purposes may be impaired in the future;
. a substantial portion of our current cash flow from operations
must be dedicated to the payment of principal and interest on
our senior subordinated notes, borrowings under the
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Revolving Facility and the Floor Plan Facilities and other
indebtedness, thereby reducing the funds available to us for
our operations and other purposes;
. some of our borrowings are and will continue to be at variable
rates of interest, which exposes us to the risk of increasing
interest rates;
. the indebtedness outstanding under our credit facilities is
secured by a pledge of substantially all the assets of our
dealerships; and
. we may be substantially more leveraged than some of our
competitors, which may place us at a relative competitive
disadvantage and make us more vulnerable to changing market
conditions and regulations.
In addition, our debt agreements contain numerous covenants that limit
our discretion with respect to business matters, including mergers or
acquisitions, paying dividends, incurring additional debt, making capital
expenditures or disposing of assets.
Our future operating results depend on our ability to integrate acquisitions
into our operations.
Our future operating results depend on our ability to integrate the
operations of our recently acquired dealerships, as well as dealerships we
acquire in the future, with our existing operations. In particular, we need to
integrate our systems, procedures and structures, which can be difficult. Our
growth strategy has focused on the pursuit of strategic acquisitions that either
expand or complement our business. We acquired 72 dealerships in 1999, 11 in
2000, and 12 in 2001.
We cannot assure you that we will effectively and profitably integrate
the operations of these dealerships without substantial costs, delays or
operational or financial problems, due to:
. the difficulties of managing operations located in geographic
areas where we have not previously operated;
. the management time and attention required to integrate and
manage newly acquired dealerships;
. the difficulties of assimilating and retaining employees; and
. the challenges of keeping customers.
These factors could have a material adverse effect on our financial
condition and results of operations.
Risks associated with acquisitions may hinder our ability to increase revenues
and earnings.
The automobile retailing industry is considered a mature industry in
which minimal growth is expected in industry unit sales. Accordingly, our future
growth depends in large part on our ability to acquire additional dealerships,
as well as on our ability to manage expansion, control costs in our operations
and consolidate both past and future dealership acquisitions into existing
operations. In pursuing a strategy of acquiring other dealerships, we face risks
commonly encountered with growth through acquisitions. These risks include, but
are not limited to:
. incurring significantly higher capital expenditures and
operating expenses;
. failing to assimilate the operations and personnel of the
acquired dealerships;
. entering new markets with which we are unfamiliar;
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. potential undiscovered liabilities at acquired dealerships;
. disrupting our ongoing business;
. diverting our limited management resources;
. failing to maintain uniform standards, controls and policies;
. impairing relationships with employees, manufacturers and
customers as a result of changes in management;
. causing increased expenses for accounting and computer
systems, as well as integration difficulties; and
. failure to obtain a manufacturer's consent to the acquisition
of one or more of its dealership franchises.
We may not adequately anticipate all of the demands that our growth
will impose on our systems, procedures and structures, including our financial
and reporting control systems, data processing systems and management structure.
If we cannot adequately anticipate and respond to these demands, our business
could be materially harmed.
Failure to retain qualified management personnel at any acquired
dealership may increase the risk associated with integrating the acquired
dealership.
Installing new computer systems has disrupted existing operations in
the past as management and salespersons adjust to new technologies. We cannot
assure you that we will overcome these risks or any other problems encountered
with either our past or future acquisitions.
Automobile manufacturers exercise significant control over our operations and we
are dependent on them to operate our business.
Each of our dealerships operates pursuant to a franchise agreement with
the applicable automobile manufacturer or manufacturer authorized distributor.
We are significantly dependent on our relationships with these manufacturers.
Without a franchise agreement, we cannot obtain new vehicles from a
manufacturer.
Vehicles manufactured by the following manufacturers accounted for the
indicated approximate percentage of our new vehicle revenue for the year ended
December 31, 2001:
Percentage of Historical
New Vehicle Revenues for
the Year Ended
Manufacturer December 31, 2001
------------ -----------------
Ford 18.6%
Honda 13.0%
General Motors 12.2%
Toyota 11.3%
BMW 10.7%
Chrysler 8.3%
Lexus 5.3%
Nissan 5.3%
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No other manufacturer accounted for more than 5% of our new vehicle
sales during 2001. A significant decline in the sale of Ford, Honda, Chrysler,
General Motors, BMW, Toyota, Nissan or Lexus new vehicles could have a material
adverse effect on our revenue and profitability.
Manufacturers exercise a great degree of control over the operations of
our dealerships. Each of our franchise agreements provides for termination or
non-renewal for a variety of causes, including any unapproved change of
ownership or management and other material breaches of the franchise agreements.
Manufacturers may also have a right of first refusal if we seek to sell
dealerships. We believe that we will be able to renew at expiration all of our
existing franchise agreements, other than our Oldsmobile and Plymouth franchise
agreements. DaimlerChrysler phased out the Plymouth division effective October
1, 2001 and General Motors is in the process of phasing out the Oldsmobile
division. Neither of these actions will materially affect us.
. We cannot assure you that any of our existing franchise
agreements will be renewed or that the terms and conditions of
such renewals will be favorable to us.
. If a manufacturer is allowed under state franchise laws to
terminate or decline to renew one or more of our significant
franchise agreements, this action could have a material
adverse effect on our results of operations.
. Actions taken by manufacturers to exploit their superior
bargaining position in negotiating the terms of renewals of
franchise agreements or otherwise could also have a material
adverse effect on our results of operations.
. Manufacturers allocate their vehicles among dealerships
generally based on the sales history of each dealership.
Consequently, we also depend on the manufacturers to provide
us with a desirable mix of popular new vehicles. These popular
vehicles produce the highest profit margins and tend to be the
most difficult to obtain from the manufacturers.
. Our dealerships depend on the manufacturers for certain sales
incentives, warranties and other programs that are intended to
promote and support dealership new vehicle sales.
Manufacturers have historically made many changes to their
incentive programs during each year. A reduction or
discontinuation of a manufacturer's incentive programs may
materially adversely affect our profitability. Some of these
programs include:
. customer rebates on new vehicles;
. dealer incentives on new vehicles;
. special financing or leasing terms;
. warranties on new and used vehicles; and
. sponsorship of used vehicle sales by authorized new
vehicle dealers.
Adverse conditions affecting one or more manufacturers may negatively impact our
profitability.
The success of each of our dealerships depends to a great extent on the
manufacturers':
. financial condition;
. marketing;
. vehicle design;
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. production capabilities;
. management; and
. labor relations.
Nissan, Chrysler and Volvo have had significant difficulty in the U.S.
market in the recent past. If any of our manufacturers, particularly Ford,
Honda, Chrysler, General Motors, BMW, Toyota, Nissan, or Lexus were unable to
design, manufacture, deliver and market their vehicles successfully, the
manufacturer's reputation and our ability to sell the manufacturer's vehicles
could be adversely affected.
Events such as strikes and other labor actions by unions, or negative
publicity concerning a particular manufacturer or vehicle model, may materially
and adversely affect our results of operations. Similarly, the delivery of
vehicles from manufacturers later than scheduled, which may occur particularly
during periods when new products are being introduced, can reduce our sales.
Although we have attempted to lessen our dependence on any one manufacturer by
establishing dealer relationships with a number of different domestic and
foreign automobile manufacturers, adverse conditions affecting manufacturers,
Ford, Honda, Chrysler, General Motors, BMW, Toyota, Nissan or Lexus in
particular, could have a material adverse effect on our results of operations.
In the event of a strike, we may need to purchase inventory from other
automobile dealers at prices higher than we would be required to pay to the
affected manufacturer in order to carry an adequate level and mix of inventory.
Consequently, strikes or other adverse labor actions could materially adversely
affect our profitability.
Manufacturer stock ownership/issuance restrictions limit our ability to issue
additional equity to meet our financing needs.
Standard automobile franchise agreements prohibit transfers of any
ownership interests of a dealership and its parent and, therefore, often do not
by their terms accommodate public trading of the capital stock of a dealership
or its parent. Our manufacturers have agreed to permit trading in Sonic's Class
A common stock. A number of manufacturers impose restrictions on the
transferability of the Class A common stock.
. Honda may force the sale of our Honda or Acura franchises if
(1) an automobile manufacturer or distributor acquires
securities having 5% or more of the voting power of Sonic's
securities, (2) an individual or entity that has either a
felony criminal record or a criminal record relating solely to
dealings with an automobile manufacturer, distributor or
dealership acquires securities having 5% or more of the voting
power of Sonic's securities or (3) any individual or entity
acquires securities having 20% or more of the voting power of
Sonic's securities and Honda reasonably deems such acquisition
to be detrimental to Honda's interests in any material
respect.
. Ford may cause us to sell or resign from one or more of our
Ford, Lincoln or Mercury franchises if any person or entity
(other than O. Bruton Smith and any entity controlled by him)
acquires or has a binding agreement to acquire securities
having 50% or more of the voting power of Sonic's securities.
. General Motors and Infiniti may force the sale of their
respective franchises if 20% of more of Sonic's voting
securities are similarly acquired.
. Toyota may force the sale of one or more of Sonic's Toyota or
Lexus dealerships if (1) an automobile manufacturer or
distributor acquires securities, or the right to vote
securities by proxy or voting agreement, having more than 5%
of the voting power of Sonic's securities, (2) any individual
or entity acquires securities, or the right to vote securities
by proxy or voting agreement, having more than 20% of the
voting power of Sonic's
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securities, (3) there is a material change in the composition
of Sonic's Board of Directors that Toyota reasonably concludes
will be materially incompatible with Toyota's interests or
will have an adverse effect on Toyota's reputation or brands
in the marketplace or the performance of Sonic or its Toyota
and Lexus dealerships, (4) there occurs an extraordinary
transaction whereby Sonic's stockholders immediately prior to
such transaction own in the aggregate securities having less
than a majority of the voting power of Sonic or the successor
entity, or (5) any individual or entity acquires control of
Sonic, Sonic Financial Corporation or any Toyota or Lexus
dealership owned by Sonic.
. Chrysler requires prior approval of any future sales that
would result in a change in voting or managerial control of
Sonic.
. Mercedes requires 60 days advance notice to approve any
acquisition of 20% or more of Sonic's voting securities.
. Volkswagen has approved the sale of no more than 25% of the
voting control of Sonic, and any future changes in ownership
or transfers among Sonic's current stockholders that could
affect the voting or managerial control of Sonic's Volkswagen
franchise subsidiaries requires the prior approval of
Volkswagen.
Other manufacturers may impose similar or more limiting restrictions.
Our lending arrangements also require that holders of Sonic's Class B
common stock maintain voting control over Sonic. We are unable to prevent our
stockholders from transferring shares of our common stock, including transfers
by holders of the Class B common stock. If such transfer results in a change in
control of Sonic, it could result in the termination or non-renewal of one or
more of our franchise agreements and a default under our credit arrangements.
Moreover, these issuance limitations may impede our ability to raise capital
through additional equity offerings or to issue our stock as consideration for
future acquisitions.
Manufacturers' restrictions on acquisitions could limit our future growth.
We are required to obtain the consent of the applicable manufacturer
before the acquisition of any additional dealership franchises. We cannot assure
you that manufacturers will grant such approvals, although the denial of such
approval may be subject to certain state franchise laws.
Obtaining manufacturer consent for acquisitions could also take a
significant amount of time. Obtaining manufacturer approval for our completed
acquisitions has taken approximately three to five months. We believe that
manufacturer approvals of subsequent acquisitions from manufacturers with which
we have previously completed applications and agreements may take less time,
although we cannot provide you with assurances to that effect. In addition,
under an applicable franchise agreement or under state law, a manufacturer may
have a right of first refusal to acquire a dealership in the event we seek to
acquire that dealership franchise.
If we experience delays in obtaining, or fail to obtain, manufacturer
approvals for dealership acquisitions, our growth strategy could be materially
adversely affected. In determining whether to approve an acquisition, the
manufacturers may consider many factors, including:
. our management's moral character;
. the business experience of the post-acquisition dealership
management;
. our financial condition;
. our ownership structure; and
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. manufacturer-determined consumer satisfaction index scores.
In addition, a manufacturer may seek to limit the number of its
dealerships that we may own, our national market share of that manufacturer's
products or the number of dealerships we may own in a particular geographic
area. These restrictions may not be enforceable under state franchise laws.
. Our framework agreement with Ford places the following
restrictions on our ability to acquire Ford or Lincoln Mercury
dealerships:
. We may not acquire additional Ford or Lincoln Mercury
dealerships unless we continue to satisfy Ford's
requirement that 80% of our Ford dealerships meet
Ford's performance criteria. Beyond that, we may not
make an acquisition that would result in our owning
Ford or Lincoln Mercury dealerships with sales
exceeding 5% of the total Ford or total Lincoln
Mercury retail sales of new vehicles in the United
States for the preceding calendar year.
. We may not acquire additional Ford or Lincoln Mercury
dealerships in a particular state if such an
acquisition would result in our owning Ford or
Lincoln Mercury dealerships with sales exceeding 5%
of the total Ford or total Lincoln Mercury retail
sales of new vehicles in that state for the preceding
calendar year.
. We may not acquire additional Ford dealerships in a
Ford-defined market area if such an acquisition would
result in our owning more than one Ford dealership in
a market having a total of three or less Ford
dealerships or owning more than 25% of the Ford
dealerships in a market having a total of four or
more Ford dealerships. An identical market area
restriction applies for Lincoln Mercury dealerships.
. Our framework agreement with Toyota limits the number of
Toyota and Lexus dealerships that we may own on a national
level, in each Toyota-defined geographic region or distributor
area, and in each Toyota or Lexus-defined metropolitan market.
Nationally, the limitations on Toyota dealerships owned by us
are for specified time periods and are based on specified
percentages of total Toyota unit sales in the United States.
In Toyota-defined geographic regions or distributor areas, the
limitations on Toyota dealerships owned by us are specified by
the applicable Toyota regional limitations policy or
distributor's policy in effect at such time. In Toyota-defined
metropolitan markets, the limitations on Toyota dealerships
owned by us are based on Toyota's metro markets limitation
policy then in effect, which currently provides a limitation
based on the total number of Toyota dealerships in the
particular market. For Lexus, we may own no more than one
Lexus dealership in any one Lexus-defined metropolitan market
and no more than three Lexus dealerships nationally.
. Our framework agreement with Honda limits the number of Honda
and Acura dealerships that we may own on a national level, in
each Honda and Acura-defined geographic zone, and in each
Honda-defined metropolitan market. Nationally, the limitations
on Honda dealerships owned by us are based on specified
percentages of total Honda unit sales in the United States. In
Honda-defined geographic zones, the limitations on Honda
dealerships owned by us are based on specified percentages of
total Honda unit sales in each of 10 Honda-defined geographic
zones. In Honda-defined metropolitan markets, the limitations
on Honda dealerships owned by us are specified numbers of
dealerships in each market, which numerical limits vary based
mainly on the total number of Honda dealerships in a
particular market. For Acura, we may own no more than (A) two
Acura dealerships in a Honda-defined metropolitan market, (B)
three Acura dealerships in any
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one of six Honda-defined geographic zones and (C) five Acura
dealerships nationally. Honda also prohibits ownership of
contiguous dealerships.
. Mercedes restricts any company from owning Mercedes
dealerships with sales of more than 3% of total sales of
Mercedes vehicles in the U.S. during the previous calendar
year.
. General Motors currently limits the maximum number of General
Motors dealerships that we may acquire to 50% of the General
Motors dealerships, by brand line, in a General Motors-defined
geographic market area having multiple General Motors dealers.
. Subaru limits us to no more than two Subaru dealerships within
certain designated market areas, four Subaru dealerships
within its Mid-America region and 12 dealerships within
Subaru's entire area of distribution.
. BMW currently prohibits publicly held companies from owning
BMW dealerships representing more than 10% of all BMW sales in
the U.S. or more than 50% of BMW dealerships in a given
metropolitan market.
. Toyota, Honda and Mercedes also prohibit the coupling of a
franchise with any other brand without their consent.
As a condition to granting their consent to our acquisitions, a number
of manufacturers required additional restrictions. These agreements principally
restrict:
. material changes in our company or extraordinary corporate
transactions such as a merger, sale of a material amount of
assets or change in our board of directors or management that
could have a material adverse effect on the manufacturer's
image or reputation or could be materially incompatible with
the manufacturer's interests;
. the removal of a dealership general manager without the
consent of the manufacturer; and
. the use of dealership facilities to sell or service new
vehicles of other manufacturers.
In addition, manufacturer consent to our acquisitions may impose
conditions, such as requiring facilities improvements by us at the acquired
dealership.
If we are unable to comply with these restrictions, we generally:
. must sell the assets of the dealerships to the manufacturer or
to a third party acceptable to the manufacturer; or
. terminate the dealership agreements with the manufacturer.
Other manufacturers may impose other and more stringent restrictions in
connection with future acquisitions.
As of March 15, 2002, we owned the following number of franchises for the
following manufacturers:
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Number of Number of
Manufacturer Franchises Manufacturer Franchises
- ------------ ---------- ------------ ----------
Honda 14 Lincoln 4
Chevrolet 13 Mercedes 4
Ford 13 Hyundai 3
BMW 10 Oldsmobile 3
Cadillac 10 Mitsubishi 3
Toyota 10 Kia 3
Nissan 9 Audi 3
Chrysler 8 Porsche 2
Dodge 8 Pontiac 2
Volvo 8 Infiniti 1
Jeep 7 GMC 1
Mercury 5 Acura 1
Isuzu 4 Land Rover 1
Volkswagen 4 Subaru 1
Lexus 4 Mazda 1
Our failure to meet a manufacturer's consumer satisfaction requirements may
adversely affect our ability to acquire new dealerships and our profitability.
Many manufacturers attempt to measure customers' satisfaction with
their sales and warranty service experiences through systems which vary from
manufacturer to manufacturer, but which are generally known as customer
satisfaction index, or scores. These manufacturers may use a dealership's CSI
scores as a factor in evaluating applications for additional dealership
acquisitions. The components of CSI have been modified by various manufacturers
from time to time in the past, and we cannot assure you that these components
will not be further modified or replaced by different systems in the future. To
date, we have not been materially adversely affected by these standards and have
not been denied approval of any acquisition based on low CSI scores, except for
Jaguar's refusal to approve our acquisition of a Chattanooga Jaguar franchise in
1997. However, we cannot assure you that we will be able to comply with these
standards in the future. A manufacturer may refuse to consent to an acquisition
of one of its franchises if it determines our dealerships do not comply with the
manufacturer's CSI standards. This could materially adversely affect our
acquisition strategy. In addition, we receive payments from the manufacturers
based, in part, on CSI scores, which could be materially adversely affected if
our CSI scores decline.
There are limitations on our financial resources available for acquisitions.
We intend to finance our acquisitions with cash generated from
operations, through issuances of our stock or debt securities and through
borrowings under credit arrangements.
. We cannot assure you that we will be able to obtain additional
financing by issuing stock or debt securities.
. Using cash to complete acquisitions could substantially limit
our operating or financial flexibility.
If we are unable to obtain financing on acceptable terms, we may be
required to reduce the scope of our presently anticipated expansion, which could
materially adversely affect our growth strategy.
We estimate that as of December 31, 2001, we had approximately $268.1
million available for additional borrowings under the Revolving Facility, based
on a borrowing base calculated on the basis of
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our receivables, inventory and equipment and a pledge of certain additional
collateral by an affiliate of Sonic (which borrowing base was $456.0 million of
the $600.0 million facility at December 31, 2001).
In addition, we are dependent to a significant extent on our ability to
finance our inventory with "floor plan financing." Floor plan financing is how a
dealership finances its purchase of new vehicles from a manufacturer. The
dealership borrows money to buy a particular vehicle from the manufacturer and
pays off the loan when it sells that particular vehicle, paying interest during
this period. We must obtain new floor plan financing or obtain consents to
assume existing floor plan financing in connection with our acquisition of
dealerships.
Substantially all the assets of our dealerships are pledged to secure
our floor plan indebtedness and the indebtedness under the Revolving Facility.
In addition, substantially all the real property and assets of our subsidiaries
that are constructing new dealerships are pledged under our Mortgage Facility
with Ford Motor Credit. These pledges may impede our ability to borrow from
other sources.
Finally, because Ford Motor Credit is associated with Ford, any
deterioration of our relationship with one could adversely affect our
relationship with the other. The same is true of our relationships with Chrysler
and Chrysler Financial, GM and GMAC, and Toyota and Toyota Credit.
Although O. Bruton Smith, our Chairman and Chief Executive Officer, has
previously facilitated our acquisition financing, we cannot assure you that he
will be willing or able to assist in our financing needs in the future.
Mr. Smith initially guaranteed obligations under the Revolving
Facility. Such obligations were further secured with a pledge of shares of
common stock of Speedway Motorsports, Inc. ("SMI") owned by Sonic Financial
Corporation ("SFC"), a corporation controlled by Mr. Smith having an estimated
value at the time of the pledge of approximately $50.0 million (the "Revolving
Pledge"). When the Revolving Facility's borrowing limit was increased to $75.0
million in 1997, Mr. Smith's personal guarantee of Sonic's obligations under the
Revolving Facility was released, although the Revolving Pledge remained in
place. Mr. Smith was also required by Ford Motor Credit to lend $5.5 million
(the "Subordinated Smith Loan") to Sonic to increase our capitalization because
the net proceeds from our November 1997 initial public offering were
significantly less than expected. In August 1998, Ford Motor Credit released the
Revolving Pledge. In November 1999, Ford Motor Credit further increased the
borrowing limit under the Revolving Facility to $350.0 million subject to a
borrowing base calculated on the basis of our receivables, inventory and
equipment and a continuing pledge by SFC of five million shares of SMI common
stock. Presently, the borrowing limit of the Revolving Facility is $600.0
million, subject to a similar borrowing base, including SFC's continuing pledge
of SMI stock.
Before our acquisition of FirstAmerica Automotive, Inc.
("FirstAmerica") Mr. Smith guaranteed the obligations of FirstAmerica under
FirstAmerica's new acquisition line of credit with Ford Motor Credit.
FirstAmerica obtained this new financing to enable it to complete its then
pending acquisitions. The borrowing limit on this credit facility was
approximately $138 million. Mr. Smith had guaranteed approximately $107 million
of this amount, which guarantee was secured by a pledge of five million shares
of SMI common stock owned by SFC. We assumed FirstAmerica's obligations to Ford
Motor Credit under our Revolving Facility when we acquired FirstAmerica. Mr.
Smith's secured guarantee in favor of Ford Motor Credit guaranteed a portion of
our obligations under the Revolving Facility until August 2000. After August
2000, Mr. Smith did not provide a guarantee in favor of the Revolving Facility
lenders, but SFC continues to pledge SMI stock as collateral. We cannot assure
you that Mr. Smith will be willing or able to provide similar guarantees or
credit support in the future to facilitate Sonic's future acquisitions.
Automobile retailing is a mature industry with limited growth potential in new
vehicle sales, and our acquisition strategy will affect our revenues and
earnings.
The United States automobile dealership industry is considered a mature
industry in which minimal growth is expected in unit sales of new vehicles. As a
consequence, growth in our revenues and
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earnings is likely to be significantly affected by our success in acquiring and
integrating dealerships and the pace and size of such acquisitions.
High competition in automobile retailing reduces our profit margins on vehicle
sales. Further, the use of the Internet in the car purchasing process could
materially adversely affect us.
Automobile retailing is a highly competitive business. Our competition
includes:
. Franchised automobile dealerships selling the same or similar
makes of new and used vehicles that we offer in our markets and
sometimes at lower prices than we offer. Some of these dealer
competitors may be larger and have greater financial and
marketing resources than we do;
. Other franchised dealers;
. Private market buyers and sellers of used vehicles;
. Used vehicle dealers;
. Internet-based vehicle brokers that sell vehicles obtained from
franchised dealers directly to consumers;
. Service center chain stores; and
. Independent service and repair shops.
Our financing and insurance ("F&I") business and other related
businesses, which provide higher contributions to our earnings than sales of new
and used vehicles, are subject to strong competition from various financial
institutions and other third parties. This competition is increasing as these
products are now being marketed and sold over the Internet.
Gross profit margins on sales of new vehicles have been generally
declining since 1986. We do not have any cost advantage in purchasing new
vehicles from manufacturers, due to economies of scale or otherwise. We
typically rely on advertising, merchandising, sales expertise, service
reputation and dealership location to sell new vehicles. The following factors
could have a significant impact on our business:
. The Internet has become a significant part of the sales process
in our industry. Customers are using the Internet to compare
pricing for cars and related F&I services, which may further
reduce margins for new and used cars and profits for related F&I
services. If Internet new vehicle sales are allowed to be
conducted without the involvement of franchised dealers, our
business could be materially adversely affected. In addition,
other franchise groups have aligned themselves with Internet car
sellers or are spending significant sums on developing their own
Internet capabilities, which could materially adversely affect
our business.
. Our revenues and profitability could be materially adversely
affected should manufacturers decide to enter the retail market
directly .
. The increased popularity of short-term vehicle leasing also has
resulted, as these leases expire, in a large increase in the
number of late model vehicles available in the market, which
puts added pressure on new and used vehicle margins.
. Some of our competitors may be capable of operating on smaller
gross margins than we are, and the on-line auto brokers have
been operating at a loss.
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. As we seek to acquire dealerships in new markets, we may face
increasingly significant competition as we strive to gain market
share through acquisitions or otherwise. This competition
includes other large dealer groups and dealer groups that have
publicly traded equity.
Our franchise agreements do not grant us the exclusive right to sell a
manufacturer's product within a given geographic area. Our revenues or
profitability could be materially adversely affected if any of our manufacturers
award franchises to others in the same markets where we operate, although
certain state franchise laws may limit such activities by the manufacturers. A
similar adverse effect could occur if existing competing franchised dealers
increase their market share in our markets. Our gross margins may decline over
time as we expand into markets where we do not have a leading position. These
and other competitive pressures could materially adversely affect our results of
operations.
The cyclical and local nature of automobile sales may adversely affect our
profitability.
The automobile industry is cyclical and historically has experienced
periodic downturns characterized by oversupply and weak demand. Many factors
affect the industry, including general economic conditions and consumer
confidence, fuel prices, the level of discretionary personal income,
unemployment rates, interest rates and credit availability. We are in the midst
of an industry and general economic slowdown that could materially adversely
effect our business.
Local economic, competitive and other conditions also affect the
performance of dealerships. We intend to pursue acquisitions outside of these
markets, but our operational focus is on our current markets. As a result, our
current results of operations depend substantially on general economic
conditions and consumer spending habits in the Southeast and Northern California
and, to a lesser extent, the Houston and Columbus markets. Sales in our Northern
California market represented 20% of our sales for the year ended December 31,
2001. Our results of operations also depend on other factors, such as tax rates
and state and local regulations specific to the states in which we currently
operate. Sonic may not be able to expand geographically and any such expansion
may not adequately insulate it from the adverse effects of local or regional
economic conditions.
We can offer you no assurances that we will be able to continue executing our
acquisition strategy without the costs of future acquisitions escalating.
Although there are many potential acquisition candidates that fit our
acquisition criteria, we cannot assure you that we will be able to consummate
any such transactions in the future or identify those candidates that would
result in the most successful combinations, or that future acquisitions will be
able to be consummated at acceptable prices and terms. In addition, increased
competition for acquisition candidates could result in fewer acquisition
opportunities for us and higher acquisition prices. The magnitude, timing,
pricing and nature of future acquisitions will depend upon various factors,
including:
. the availability of suitable acquisition candidates;
. competition with other dealer groups for suitable acquisitions;
. the negotiation of acceptable terms;
. our financial capabilities;
. our stock price;
. the availability of skilled employees to manage the acquired
companies; and
. general economic and business conditions.
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We may be required to file applications and obtain clearances under
applicable federal antitrust laws before completing an acquisition. These
regulatory requirements may restrict or delay our acquisitions, and may increase
the cost of completing acquisitions.
The operating condition of acquired businesses cannot be determined accurately
until we assume control.
Although we conduct what we believe to be a prudent level of
investigation regarding the operating condition of the businesses we purchase,
in light of the circumstances of each transaction, an unavoidable level of risk
remains regarding the actual operating condition of these businesses. Until we
actually assume operating control of such business assets, we may not be able to
ascertain the actual value of the acquired entity.
Potential conflicts of interest between Sonic and its officers could adversely
affect our future performance.
O. Bruton Smith serves as the chairman and chief executive officer of
Speedway Motorsports, Inc. ("SMI"). Accordingly, Sonic competes with SMI for the
management time of Mr. Smith.
Sonic has in the past and will likely in the future enter into
transactions with Mr. Smith, entities controlled by Mr. Smith or other
affiliates of Sonic. We believe that all of our existing arrangements with
affiliates are as favorable to us as if the arrangements were negotiated between
unaffiliated parties, although the majority of such transactions have neither
been independently verified in that regard nor are likely to be so verified in
the future. Potential conflicts of interest could arise in the future between
Sonic and its officers or directors in the enforcement, amendment or termination
of arrangements existing between them.
Under Delaware law generally, a corporate insider is precluded from
acting on a business opportunity in his individual capacity if that opportunity
is
(1) one which the corporation is financially able to undertake,
(2) is in the line of the corporation's business,
(3) is of practical advantage to the corporation, and
(4) is one in which the corporation has an interest or reasonable
expectancy.
Accordingly, our corporate insiders are generally prohibited from
engaging in new dealership-related business opportunities outside of Sonic
unless a majority of Sonic's disinterested directors decide that such
opportunities are not in our best interest.
Sonic's charter contains provisions providing that transactions between
Sonic and its affiliates must be no less favorable to Sonic than would be
available in similar transactions with an unrelated third party. Moreover, any
such transactions involving aggregate payments in excess of $500,000 must be
approved by a majority of Sonic's directors and a majority of Sonic's
independent directors. If not so approved, Sonic must obtain an opinion as to
the financial fairness of the transaction to be issued by an investment banking
or appraisal firm of national standing. In addition, the terms of the Revolving
Facility and Sonic's existing senior subordinated notes restrict transactions
with affiliates in a manner similar to Sonic's charter restrictions.
The loss of key personnel and limited management and personnel resources could
adversely affect our operations and growth.
Our success depends to a significant degree upon the continued
contributions of Sonic's management team, particularly its senior management,
and service and sales personnel. Additionally,
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manufacturer franchise agreements may require the prior approval of the
applicable manufacturer before any change is made in franchise general managers.
We do not have employment agreements with most of our dealership managers and
other key dealership personnel. Consequently, the loss of the services of one or
more of these key employees could have a material adverse effect on our results
of operations.
In addition, as we expand we may need to hire additional managers. The
market for qualified employees in the industry and in the regions in which we
operate, particularly for general managers and sales and service personnel, is
highly competitive and may subject us to increased labor costs during periods of
low unemployment. The loss of the services of key employees or the inability to
attract additional qualified managers could have a material adverse effect on
our results of operations. In addition, the lack of qualified management or
employees employed by potential acquisition candidates may limit our ability to
consummate future acquisitions.
Seasonality of the automotive retail business adversely affects first quarter
revenues.
Our business is seasonal, with a disproportionate amount of revenues
received generally in the second, third and fourth fiscal quarters.
Import product restrictions and foreign trade risks may impair our ability to
sell foreign vehicles profitably.
Some of the vehicles and major components of vehicles we sell are
manufactured in foreign countries. Accordingly, we are subject to the import and
export restrictions of various jurisdictions and are dependent to some extent
upon general economic conditions in, and political relations with, a number of
foreign countries, particularly Germany, Japan and Sweden. Fluctuations in
currency exchange rates may also adversely affect our sales of vehicles produced
by foreign manufacturers. Imports into the United States may also be adversely
affected by increased transportation costs and tariffs, quotas or duties.
We are subject to numerous legal and administrative proceedings.
We are involved, and will continue to be involved, in numerous legal
proceedings arising out of the conduct of our business, including litigation
with customers, employment related lawsuits and actions brought by governmental
authorities. A significant judgment against us or the imposition of a
significant fine could have material adverse effect on our business, financial
condition, results of operations, cash flows and prospects. We cannot assure you
with respect to the outcome of these administrative and legal proceedings and
the effect such outcomes may have on us.
Governmental regulation and environmental regulation compliance costs may
adversely affect our profitability.
We are subject to a wide range of federal, state and local laws and
regulations, such as local licensing requirements, retail financing and consumer
protection laws and regulations, and federal and state environmental, health and
safety, wage-hour, anti-discrimination, and other employment practices laws and
regulations. The violation of these laws and regulations can result in
administrative, civil or criminal penalties against us or in a cease and desist
order against our operations if we are not in compliance. Our future
acquisitions may also be subject to regulation, including antitrust reviews. We
believe that we comply in all material respects with all laws and regulations
applicable to our business, but future regulations may be more stringent and
require us to incur significant additional costs.
Our facilities and operations are also subject to federal, state and
local laws and regulations relating to environmental protection and human health
and safety, including those governing wastewater discharges, air emissions, the
operation and removal of underground and aboveground storage tanks, the use,
storage, treatment, transportation, release, recycling and disposal of solid and
hazardous materials and wastes and the cleanup of contaminated property or
water. We may be required by these laws to pay the full amount of the costs of
investigation and/or remediation of contaminated properties, even if we are not
at fault for disposal of the materials or if such disposal was legal at the
time. People who may be found
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liable under these laws and regulations include the present or former owner or
operator of a contaminated property and companies that generated, transported,
disposed of or arranged for the transportation or disposal of hazardous
substances found at the property.
Our past and present business operations are subject to environmental
laws and regulations governing the use, storage, handling, recycling and
disposal of hazardous or toxic substances such as new and waste motor oil, oil
filters, transmission fluid, antifreeze, freon, new and waste paint and lacquer
thinner, batteries, solvents, lubricants, degreasing agents, gasoline and diesel
fuels. We are also subject to laws and regulations relating to underground
storage tanks that exist or used to exist at many of our properties. Like many
of our competitors, we have incurred, and will continue to incur, capital and
operating expenditures and other costs in complying with such laws and
regulations. In addition, soil and groundwater contamination exists at certain
of our properties. We cannot assure you that our other properties have not been
or will not become similarly contaminated. In addition, we could become subject
to potentially material new or unforeseen environmental costs or liabilities
because of our acquisitions.
Environmental laws and regulations, including those governing air
emissions and underground storage tanks, could require compliance with new or
more stringent standards that are imposed in the future. We cannot predict what
other environmental legislation or regulations will be enacted in the future,
how existing or future laws or regulations will be administered or interpreted
or what environmental conditions may be found to exist in the future.
Consequently, we may be required to make substantial expenditures in the future.
Concentration of voting power and antitakeover provisions of our charter,
Delaware law and our dealer agreements may reduce the likelihood of any
potential change of control of Sonic.
Sonic's common stock is divided into two classes with different voting
rights. This dual class stock ownership allows the present holders of the Class
B common stock to control Sonic. Holders of Class A common stock have one vote
per share on all matters. Holders of Class B common stock have 10 votes per
share on all matters, except that they have only one vote per share on any
transaction proposed by the Board of Directors or a Class B common stockholder
or otherwise benefiting the Class B common stockholders constituting a:
(1) "going private" transaction;
(2) disposition of substantially all of our assets;
(3) transfer resulting in a change in the nature of our business; or
(4) merger or consolidation in which current holders of common stock
would own less than 50% of the common stock following such
transaction.
The holders of Class B common stock currently hold less than a majority
of Sonic's outstanding common stock, but a majority of Sonic's voting power.
This may prevent or discourage a change of control of Sonic even if such action
were favored by holders of Class A common stock.
Sonic's charter and bylaws make it more difficult for its stockholders
to take corporate actions at stockholders' meetings. In addition, options under
our 1997 Stock Option Plan become immediately exercisable on a change in
control. Also, Delaware law makes it difficult for stockholders who have
recently acquired a large interest in a company to consummate a business
transaction with the company against its directors' wishes. Finally,
restrictions imposed by our dealer agreements may impede or prevent any
potential takeover bid. Generally, our franchise agreements allow the
manufacturers the right to terminate the agreements upon a change of control of
our company and impose restrictions upon the transferability of any significant
percentage of our stock to any one person or entity who may be unqualified, as
defined by the manufacturer, to own one of its dealerships. The inability of a
person or entity to qualify with one or more of our manufacturers may prevent or
seriously impede a potential takeover bid. These agreements, corporate documents
and laws, as well as provisions of our lending
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arrangements creating an event of default on a change in control, may have the
effect of delaying or preventing a change in control or preventing stockholders
from realizing a premium on the sale of their shares upon an acquisition of
Sonic.
New accounting pronouncements on business combinations and goodwill could affect
future earnings.
Recent Accounting Pronouncements: In June 2001, the Financial
Accounting Standards Board ("FASB") issued Statement of Financial Accounting
Standards ("SFAS") 141: Business Combinations. SFAS 141 prohibits the
pooling-of-interests method of accounting and requires the use of the purchase
method of accounting for all business combinations initiated after June 30,
2001. In addition, SFAS 141 provides additional guidance regarding the
measurement and recognition of goodwill and other acquired intangible assets.
The provisions of this standard became effective beginning July 1, 2001. For
acquisitions after this date, we are required to classify certain intangible
assets, such as franchise rights granted from automobile manufacturers, as
intangible assets apart from goodwill. We are still in the process of obtaining
data necessary to complete the allocation of the purchase price of our recent
acquisitions, including the calculation of any franchise rights, if any, we may
need to recognize.
In June 2001, the FASB also issued SFAS 142: Goodwill and Other
Intangible Assets. Among other things, SFAS 142 no longer permits the
amortization of goodwill, but requires that the carrying amount of goodwill be
reviewed (with an initial review within six months of adopting the new standard)
and reduced against operations if it is found to be impaired. This review must
be performed on at least an annual basis, but must also be performed upon the
occurrence of an event or circumstance that indicates a possible reduction in
value. SFAS 142 does require the amortization of intangible assets other than
goodwill over their useful economic lives, unless the useful economic life is
determined to be indefinite. Intangible assets determined to have a finite life
are required to be reviewed for impairment in accordance with SFAS 144:
Accounting for Impairment or Disposal of Long-Lived Assets. Intangible assets
that are determined to have an indefinite economic life are not amortized and
must be reviewed for impairment in accordance with the terms of SFAS 142. The
provisions of SFAS 142 become effective for us beginning January 1, 2002;
however, goodwill and other intangible assets determined to have an indefinite
useful life acquired in business combinations completed after June 30, 2001 have
not been amortized. We are currently evaluating the provisions of SFAS 142; and
have not yet determined its full impact on our consolidated financial
statements.
The cumulative gross goodwill balance was approximately $785.2 million
at December 31, 2001 and approximately $697.8 million at December 31, 2000.
Goodwill, net of accumulated amortization, represented 40.9% of total assets at
December 31, 2001 and 37.4% at December 31, 2000. Net goodwill represented
142.7% of stockholders' equity at December 31, 2001 and 148.3% at December 31,
2000.
In August 2001, the FASB issued SFAS No. 144: Accounting for the
Impairment or Disposal of Long-Lived Assets. SFAS No. 144 establishes a single
accounting model for assets to be disposed of by sale whether previously held
and used or newly acquired. SFAS No. 144 is effective for fiscal years beginning
after December 15, 2001. We are currently evaluating the provisions of SFAS No.
144 and have not yet determined the impact on our consolidated financial
statements.
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