Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations
The following discussion should be read in conjunction
with the Company's Condensed Consolidated Financial Statements and notes thereto appearing elsewhere in this report.
Forward-Looking Information
This Quarterly Report on Form 10-Q contains
“forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking
statements address the Company’s future objectives, plans and goals, as well as the Company’s intent, beliefs and current
expectations regarding future operating performance, and can generally be identified by words such as “may”, “will”,
“should”, “could”, “believe”, “expect”, “anticipate”, “intend”,
“plan”, “foresee”, and other similar words or phrases. Specific events addressed by these forward-looking
statements include, but are not limited to:
|
•
|
new dealership openings;
|
|
•
|
performance of new dealerships;
|
|
•
|
same dealership revenue growth;
|
|
•
|
receivables growth as related to revenue growth;
|
|
•
|
gross margin percentages;
|
|
•
|
the Company’s collection results, including, but not limited to, collections during income tax refund periods;
|
|
•
|
compliance with tax regulations;
|
|
•
|
the Company’s business and growth strategies;
|
|
•
|
financing the majority of growth from profits; and
|
|
•
|
having adequate liquidity to satisfy the Company’s capital needs.
|
These forward-looking statements are based
on the Company’s current estimates and assumptions and involve various risks and uncertainties. As a result, you are cautioned
that these forward-looking statements are not guarantees of future performance, and that actual results could differ materially
from those projected in these forward-looking statements. Factors that may cause actual results to differ materially from the Company’s
projections include those risks described elsewhere in this report, as well as:
|
•
|
the availability of credit facilities to support the Company’s business;
|
|
•
|
the Company’s ability to underwrite and collect its contracts effectively;
|
|
•
|
dependence on existing management;
|
|
•
|
availability of quality vehicles at prices that will be affordable to customers;
|
|
•
|
changes in consumer finance laws or regulations, including, but not limited to, rules and regulations that have recently been
enacted or could be enacted by federal and state governments; and
|
|
•
|
general economic conditions in the markets in which the Company operates, including, but not limited to, fluctuations in gas
prices, grocery prices and employment levels.
|
The Company undertakes no obligation to update
or revise any forward-looking statements, whether as a result of new information, future events or otherwise. You are cautioned
not to place undue reliance on these forward-looking statements, which speak only as of the dates on which they are made.
Overview
America’s Car-Mart, Inc., a Texas corporation
initially formed in 1981 (the “Company”), is one of the largest publicly held automotive retailers in the United States
focused exclusively on the “Integrated Auto Sales and Finance” segment of the used car market. The Company’s
operations are principally conducted through its two operating subsidiaries, America’s Car Mart, Inc., an Arkansas corporation
(“Car-Mart of Arkansas”), and Colonial Auto Finance, Inc., an Arkansas corporation (“Colonial”). References
to the Company include the Company’s consolidated subsidiaries. The Company primarily sells older model used vehicles and
provides financing for substantially all of its customers. Many of the Company’s customers have limited financial resources
and would not qualify for conventional financing as a result of limited credit histories or past credit problems. As of October
31, 2018, the Company operated 143 dealerships located primarily in small cities throughout the South-Central United States.
The Company has grown its revenues between
3% and 13% per year over the last ten fiscal years (8% on average). Growth results from same dealership revenue growth and the
addition of new dealerships. Revenue increased 12.1% for the first six months of fiscal 2019 compared to the same period of fiscal
2018 due to a 10.4% increase in interest income and a 6.0% increase in the number of retail units sold.
The Company’s primary focus is on collections.
Each dealership is responsible for its own collections with supervisory involvement of the corporate office. Over the last five
fiscal years, the Company’s credit losses as a percentage of sales have ranged from approximately 25.5% in fiscal 2015 to
28.7% in fiscal 2017 (average of 27.6%). The increase in credit losses as a percentage of sales in recent years has been primarily
due to increased contract term lengths and lower down payments resulting from increased competitive pressures as well as higher
charge-offs caused, to an extent, by negative macro-economic factors affecting the Company’s customer base. For the first
six months of fiscal 2019, credit losses as a percentage of sales decreased to 26.2%, compared to 28.2% for the first six months
of fiscal 2018. The decrease in the provision for credit losses as a percentage of sales is primarily due to a lower frequency
of losses and a higher percentage of collections of finance receivables. Finance receivable collections have improved as a result
of a slightly lower average originating contract term, lower delinquencies and a lower level of modifications, partially offset
by the increase in our contract interest rate.
Credit losses may be impacted by a number of
factors, including the age of our dealerships, with newer and developing dealerships tending to have fewer repeat customers and
management that is less experienced at making credit decisions and collecting customer accounts, competition for used vehicle financing,
and macro-economic factors such as general inflation, unemployment levels and personal income levels. However, the Company believes
that the proper execution of its business practices is the single most important determinant of its long-term credit loss experience.
In an ongoing effort to reduce credit losses,
improve collection levels and operate more efficiently, the Company continues to look for improvements to its business practices,
including better underwriting and better collection procedures. The Company has a proprietary credit scoring system which enables
the Company to monitor the quality of contracts. Corporate office personnel monitor proprietary credit scores and work with dealerships
when the distribution of scores falls outside of prescribed thresholds. The Company has implemented credit reporting and the use
of GPS units on vehicles. Additionally, the Company places significant focus on the collection area; the Company’s training
department continues to spend significant time and effort on collections improvements. The field operations officer oversees the
collections department and provides timely oversight and additional accountability on a consistent basis. In addition, the Company
has a director of collection services who assists with managing the Company’s servicing and collections practices and provides
additional monitoring and training.
Historically, the Company’s gross margin
as a percentage of sales has been fairly consistent from year to year. Over the previous five fiscal years, the Company’s
gross margins as a percentage of sales ranged from approximately 40% to 42%. The Company’s gross margin is based upon the
cost of the vehicle purchased, with lower-priced vehicles typically having higher gross margin percentages, and is also affected
by the percentage of wholesale sales to retail sales, which relates for the most part to repossessed vehicles sold at or near cost.
Gross margin in recent years has been negatively affected by the increase in the average retail sales price (a function of a higher
purchase price) and higher operating costs, mostly related to increased vehicle repair costs and higher fuel costs. For the first
six months of fiscal 2019 the gross margin declined slightly to 41.6% of sales compared to 41.7% for the first six months of fiscal
2018, with the negative effects of a higher average selling price outweighing the benefits achieved from better wholesale management,
decreased repair costs and lower payment protection plan claims. The Company expects that its gross margin percentage will continue
to remain in the historical range over the near term.
Hiring, training and retaining qualified associates
is critical to the Company’s success. The extent to which the Company is able to add new dealerships and implement operating
initiatives is limited by the number of trained managers and support personnel the Company has at its disposal. Excessive turnover,
particularly at the dealership manager level, could impact the Company’s ability to add new dealerships and to meet operational
initiatives. The Company has added resources to recruit, train, and develop personnel, especially personnel targeted for dealership
manager positions. The Company expects to continue to invest in the development of its workforce.
Three months ended October 31, 2018 vs. Three months ended October 31, 2017
Consolidated Operations
(Operating Statement Dollars in Thousands)
|
|
|
|
|
|
%
Change
|
|
As
a % of Sales
|
|
|
Three Months Ended
|
|
2018
|
|
Three Months Ended
|
|
|
October 31,
|
|
vs.
|
|
October 31,
|
|
|
2018
|
|
2017
|
|
2017
|
|
2018
|
|
2017
|
Revenues:
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
146,411
|
|
|
$
|
130,427
|
|
|
|
12.3
|
%
|
|
|
100.0
|
|
|
|
100.0
|
|
Interest income
|
|
|
20,760
|
|
|
|
18,691
|
|
|
|
11.1
|
|
|
|
14.2
|
|
|
|
14.3
|
|
Total
|
|
|
167,171
|
|
|
|
149,118
|
|
|
|
12.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Costs and expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of sales, excluding depreciation shown below
|
|
|
85,366
|
|
|
|
75,623
|
|
|
|
12.9
|
|
|
|
58.3
|
|
|
|
58.0
|
|
Selling, general and administrative
|
|
|
26,198
|
|
|
|
23,727
|
|
|
|
10.4
|
|
|
|
17.9
|
|
|
|
18.2
|
|
Provision for credit losses
|
|
|
38,521
|
|
|
|
38,746
|
|
|
|
(0.6
|
)
|
|
|
26.3
|
|
|
|
29.7
|
|
Interest expense
|
|
|
1,981
|
|
|
|
1,324
|
|
|
|
49.6
|
|
|
|
1.4
|
|
|
|
1.0
|
|
Depreciation and amortization
|
|
|
979
|
|
|
|
1,108
|
|
|
|
(11.6
|
)
|
|
|
0.7
|
|
|
|
0.8
|
|
Loss on disposal of property and equipment
|
|
|
12
|
|
|
|
57
|
|
|
|
(79.5
|
)
|
|
|
-
|
|
|
|
-
|
|
Total
|
|
|
153,057
|
|
|
|
140,585
|
|
|
|
8.9
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pretax income
|
|
$
|
14,114
|
|
|
$
|
8,533
|
|
|
|
|
|
|
|
9.6
|
|
|
|
6.5
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Retail units sold
|
|
|
12,667
|
|
|
|
11,932
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average stores in operation
|
|
|
142
|
|
|
|
140
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average units sold per store per month
|
|
|
29.7
|
|
|
|
28.4
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average retail sales price
|
|
$
|
11,030
|
|
|
$
|
10,418
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Same store revenue change
|
|
|
11.0
|
%
|
|
|
0.6
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Period End Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stores open
|
|
|
143
|
|
|
|
140
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts over 30 days past due
|
|
|
3.4
|
%
|
|
|
4.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues increased by approximately $18.1 million,
or 12.1%, for the three months ended October 31, 2018 as compared to the same period in the prior fiscal year. The increase resulted
from revenue growth at dealerships that operated a full three months in both current and prior year second quarter ($16.3 million),
an 11% same store revenue increase, and revenue growth from dealerships opened after the prior year quarter ($3.5 million), partially
offset by the loss of revenues from dealerships closed after October 31, 2017 ($1.7 million). Interest income increased approximately
$2.1 million for the three months ended October 31, 2018, as compared to the same period in the prior fiscal year due to the $41.1
million increase in average finance receivables and the increase in the contract interest rate from 15.0% to 16.5% at the end of
May 2016.
Cost of sales, as a percentage of sales, increased
to 58.3% for the three months ended October 31, 2018 compared to 58.0% for the same period of the prior fiscal year, resulting
in a gross margin as a percentage of sales of 41.7% for the current year period compared to 42.0% for the prior year period. The
lower gross margin percentage primarily relates to negative effects of a higher average selling price outweighing the benefits
achieved from decreased repair costs and lower payment protection plan claims.
Gross margin as a percentage of sales is significantly
impacted by the average retail sales price of the vehicles the Company sells, which is largely a function of the Company’s
purchase cost. The average retail sales price for the second quarter of fiscal 2019 was $11,030, a $612 increase over the prior
year quarter. The Company’s purchase costs remain relatively high as a result of increases in prior periods from a combination
of consumer demand for the types of vehicles the Company purchases for resale, particularly SUVs and trucks, and a strategic management
decision to purchase higher quality vehicles for our customers. When purchase costs increase, the margin between the purchase cost
and the sales price of the vehicles we sell narrows as a percentage because the Company must offer affordable prices to our customers.
Therefore, we continue to focus efforts on minimizing the average retail sales price of our vehicles in order to help keep contract
terms shorter, which helps customers maintain appropriate equity in their vehicles and reduces credit losses and resulting wholesale
volumes.
Selling,
general and administrative expenses, as a percentage of sales, were 17.9% for the three months ended October 31, 2018, a decrease
of 0.3% from the same period of the prior fiscal year. Selling, general and administrative expenses are, for the most part, more
fixed in nature. In dollar terms, overall selling, general and administrative expenses increased approximately $2.5 million in
the second quarter of fiscal 2019 compared to the same period of the prior fiscal year. The majority of this increase is in the
payroll and benefits area as we continue to invest in our associates as we train, develop and recruit to provide excellent customer
service. This includes additional bonus and commissions related to the higher net income levels as several of our associates (especially
the general managers) are compensated on net income. The Company continues to focus on controlling costs, while at the same time
ensuring a solid infrastructure to ensure a high level of support for our customers.
Provision for credit losses as a percentage
of sales was 26.3% for the three months ended October 31, 2018 compared to 29.7% for the three months ended October 31, 2017. Net
charge-offs as a percentage of average finance receivables were 6.6% and 7.5% for the three months ended October 31, 2018 and October
31, 2017, respectively. The decrease in the provision for credit losses as a percentage of sales is primarily due to a lower frequency
of losses and a higher percentage of collections of finance receivables. Finance receivable collections have improved as a result
of a slightly lower average originating contract term, lower delinquencies and a lower level of modifications, partially offset
by the increase in our contract interest rate. The Company believes that the proper execution of its business practices remains
the single most important determinant of its long-term credit loss experience.
Interest expense as a percentage of sales increased
to 1.4% for the three months ended October 31, 2018 compared to 1.0% for the same period of the prior fiscal year. The increase
is attributable to higher average borrowings during the three months ended October 31, 2018 at $163.9 million, compared to $134.2
million for the prior year quarter, along with increased interest rates.
Six months ended October 31, 2018 vs. Six months ended October 31, 2017
|
|
|
|
|
|
%
Change
|
|
As
a % of Sales
|
|
|
Six Months Ended
|
|
2018
|
|
Six Months Ended
|
|
|
October 31,
|
|
vs.
|
|
October 31,
|
|
|
2018
|
|
2017
|
|
2017
|
|
2018
|
|
2017
|
Revenues:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Sales
|
|
$
|
290,512
|
|
|
$
|
258,701
|
|
|
|
12.3
|
%
|
|
|
100.0
|
|
|
|
100.0
|
|
Interest income
|
|
|
40,674
|
|
|
|
36,835
|
|
|
|
10.4
|
|
|
|
14.0
|
|
|
|
14.2
|
|
Total
|
|
|
331,186
|
|
|
|
295,536
|
|
|
|
12.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Costs and expenses:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Cost of sales, excluding depreciation shown below
|
|
|
169,534
|
|
|
|
150,829
|
|
|
|
12.4
|
|
|
|
58.4
|
|
|
|
58.3
|
|
Selling, general and administrative
|
|
|
52,580
|
|
|
|
47,592
|
|
|
|
10.5
|
|
|
|
18.1
|
|
|
|
18.4
|
|
Provision for credit losses
|
|
|
76,064
|
|
|
|
72,906
|
|
|
|
4.3
|
|
|
|
26.2
|
|
|
|
28.2
|
|
Interest expense
|
|
|
3,785
|
|
|
|
2,496
|
|
|
|
51.6
|
|
|
|
1.3
|
|
|
|
1.0
|
|
Depreciation and amortization
|
|
|
1,964
|
|
|
|
2,187
|
|
|
|
(10.2
|
)
|
|
|
0.7
|
|
|
|
0.8
|
|
Loss on disposal of property and equipment
|
|
|
12
|
|
|
|
104
|
|
|
|
(88.5
|
)
|
|
|
-
|
|
|
|
-
|
|
Total
|
|
|
303,939
|
|
|
|
276,114
|
|
|
|
10.1
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Pretax income
|
|
$
|
27,247
|
|
|
$
|
19,422
|
|
|
|
|
|
|
|
9.4
|
%
|
|
|
7.5
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Operating Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Retail units sold
|
|
|
25,200
|
|
|
|
23,769
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average stores in operation
|
|
|
141
|
|
|
|
140
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average units sold per store per month
|
|
|
29.8
|
|
|
|
28.3
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Average retail sales price
|
|
$
|
11,022
|
|
|
$
|
10,402
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Same store revenue change
|
|
|
11.6
|
%
|
|
|
1.3
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Period End Data:
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Stores open
|
|
|
143
|
|
|
|
140
|
|
|
|
|
|
|
|
|
|
|
|
|
|
Accounts over 30 days past due
|
|
|
3.4
|
%
|
|
|
4.1
|
%
|
|
|
|
|
|
|
|
|
|
|
|
|
Revenues increased by approximately $35.7 million,
or 12.1%, for the six months ended October 31, 2018 as compared to the same period in the prior fiscal year. The increase resulted
from revenue growth at dealerships that operated a full six months in both current and prior year second quarter ($33.8 million),
an 11.6% same store revenue increase, and revenue growth from dealerships opened after the prior year quarter ($5.7 million), partially
offset by the loss of revenues from dealerships closed after October 31, 2017 ($3.8 million). Interest income increased approximately
$3.8 million for the six months ended October 31, 2018, as compared to the same period in the prior fiscal year due to the $38.9
million increase in average finance receivables and the increase in the contract interest rate from 15.0% to 16.5% at the end of
May 2016.
Cost of sales, as a percentage of sales, increased
slightly to 58.4% for the six months ended October 31, 2018 compared to 58.3% for the same period of the prior fiscal year, resulting
in a gross margin as a percentage of sales of 41.6% for the current year period compared to 41.7% for the prior year period.
Gross margin as a percentage of sales is significantly
impacted by the average retail sales price of the vehicles the Company sells, which is largely a function of the Company’s
purchase cost. The average retail sales price for the six months ended October 31, 2018 was $11,022, a $620 increase over the same
period in the prior fiscal year. The Company’s purchase costs remain relatively high as a result of increases in prior periods
from a combination of consumer demand for the types of vehicles the Company purchases for resale and a strategic management decision
to purchase higher quality vehicles for our customers. When purchase costs increase, the margin between the purchase cost and the
sales price of the vehicles we sell narrows as a percentage because the Company must offer affordable prices to our customers.
Therefore, we continue to focus efforts on minimizing the average retail sales price of our vehicles in order to help keep contract
terms shorter, which helps customers to maintain appropriate equity in their vehicles and reduces credit losses and resulting wholesale
volumes.
Selling,
general and administrative expenses, as a percentage of sales, were 18.1% for the six months ended October 31, 2018, a decrease
of 0.3% from the same period of the prior fiscal year. Selling, general and administrative expenses are, for the most part, more
fixed in nature. In dollar terms, overall selling, general and administrative expenses increased approximately $5.0 million in
the first six months of fiscal 2019 compared to the same period of the prior fiscal year. The increase was primarily a result of
additional investments in general manager recruitment, training and advancement, collections support, and marketing. The Company
continues to focus on controlling costs, while at the same time ensuring a solid infrastructure to ensure a high level of support
for our customers.
Provision for credit losses as a percentage
of sales was 26.2% for the six months ended October 31, 2018 compared to 28.2% for the six months ended October 31, 2017. Net charge-offs
as a percentage of average finance receivables were 13.0% for the six months ended October 31, 2018 compared to 13.8% for the prior
year period. The decrease in the provision for credit losses as a percentage of sales is primarily due to a lower frequency of
losses and a higher percentage of collections of finance receivables. Finance receivable collections have improved as a result
of a slightly lower average originating contract term, lower delinquencies and a lower level of modifications, partially offset
by the increase in our contract interest rate. The Company believes that the proper execution of its business practices remains
the single most important determinant of its long-term credit loss experience.
Interest expense as a percentage of sales increased
to 1.3% for the six months ended October 31, 2018 compared to 1.0% for the same period of the prior fiscal year. The increase is
attributable to higher average borrowings during the six months ended October 31, 2018 at $158.3 million, compared to $126.3 million
for the same period in the prior fiscal year, along with increased interest rates.
Financial Condition
The following table sets forth the major balance
sheet accounts of the Company as of the dates specified (in thousands):
|
|
October
31, 2018
|
|
April
30, 2018
|
Assets:
|
|
|
|
|
|
|
|
|
Finance
receivables, net
|
|
$
|
409,714
|
|
|
$
|
383,617
|
|
Inventory
|
|
|
39,255
|
|
|
|
33,610
|
|
Income
taxes receivable, net
|
|
|
2,084
|
|
|
|
1,450
|
|
Property
and equipment, net
|
|
|
28,155
|
|
|
|
28,594
|
|
|
|
|
|
|
|
|
|
|
Liabilities:
|
|
|
|
|
|
|
|
|
Accounts
payable and accrued liabilities
|
|
|
32,391
|
|
|
|
29,569
|
|
Deferred
revenue
|
|
|
31,340
|
|
|
|
30,155
|
|
Deferred
tax liabilities, net
|
|
|
14,166
|
|
|
|
12,558
|
|
Debt
facilities
|
|
|
164,789
|
|
|
|
152,367
|
|
Since April 30, 2018, finance receivables
have increased 6.8%, while revenues have grown 12.1% compared to the prior year period. Historically, the growth in finance receivables
has been slightly higher than overall revenue growth on an annual basis due to overall term length increases partially offset
by improvements in underwriting and collection procedures in an effort to reduce credit losses. However, during the first six
months of fiscal 2019, revenues have grown faster than finance receivables due to the increasing retail price and increased sales
volumes, along with increased finance receivables collections.
During the first six months of fiscal 2019,
inventory increased by $5.6 million compared to inventory at April 30, 2018. This increase in inventory was attributable to an
increase in purchasing levels to meet demand and provide an adequate supply of affordable vehicles. The Company strives to improve
the quality of the inventory and improve turns while maintaining inventory levels to ensure adequate supply of vehicles, in volume
and mix, and to meet sales demand.
Income taxes receivable, net, was $2.1 million
at October 31, 2018 as compared to income taxes receivable, net of $1.5 million at April 30, 2018, primarily due to the timing
of quarterly tax payments, refunds due related to tax reform and the tax benefit of stock option exercises.
Property and equipment, net, decreased by $439,000
at October 31, 2018 as compared to property and equipment, net, at April 30, 2018. The Company incurred $2.0 million of depreciation
expense, partially offset by $1.5 million in expenditures to refurbish and expand existing locations.
Accounts payable and accrued liabilities increased
by $2.8 million during the first six months of fiscal 2019 as compared to accounts payable and accrued liabilities at April 30,
2018, related primarily to increases in inventory and cash overdrafts.
Deferred revenue increased $1.2 million at October
31, 2018 as compared to April 30, 2018, primarily resulting from increased sales of the payment protection plan product and service
contracts.
Deferred income tax liabilities, net, increased
approximately $1.6 million at October 31, 2018 as compared to April 30, 2018, due primarily to the increase in finance receivables.
Borrowings on the Company’s revolving
credit facilities fluctuate primarily based upon a number of factors including (i) net income, (ii) finance receivables changes,
(iii) income taxes, (iv) capital expenditures, and (v) common stock repurchases. Historically, income from operations,
as well as borrowings on the revolving credit facilities, have funded the Company’s finance receivables growth, capital asset
purchases and common stock repurchases. In the first six months of fiscal 2019, the Company funded finance receivables growth of
$34.4 million, inventory growth of $5.6 million, capital expenditures of $1.5 million, and common stock repurchases of $13.9 million
with income from operations and a $12.4 million increase in total debt.
Liquidity and Capital Resources
The following table sets forth certain summarized
historical information with respect to the Company’s Condensed Consolidated Statements of Cash Flows (in thousands):
|
|
Six Months Ended
October 31,
|
|
|
2018
|
|
2017
|
Operating activities:
|
|
|
|
|
|
|
|
|
Net income
|
|
$
|
22,164
|
|
|
$
|
12,961
|
|
Provision for credit losses
|
|
|
76,064
|
|
|
|
72,906
|
|
Losses on claims for payment protection plan
|
|
|
7,903
|
|
|
|
7,980
|
|
Depreciation and amortization
|
|
|
1,964
|
|
|
|
2,187
|
|
Stock based compensation
|
|
|
1,688
|
|
|
|
988
|
|
Finance receivable originations
|
|
|
(269,883
|
)
|
|
|
(239,007
|
)
|
Finance receivable collections
|
|
|
135,471
|
|
|
|
118,609
|
|
Inventory
|
|
|
18,703
|
|
|
|
18,910
|
|
Accounts payable and accrued liabilities
|
|
|
1,290
|
|
|
|
2,540
|
|
Deferred payment protection plan revenue
|
|
|
967
|
|
|
|
484
|
|
Deferred service contract revenue
|
|
|
218
|
|
|
|
257
|
|
Income taxes, net
|
|
|
(2,120
|
)
|
|
|
(1,373
|
)
|
Deferred income taxes
|
|
|
1,608
|
|
|
|
970
|
|
Accrued interest on finance receivables
|
|
|
(246
|
)
|
|
|
(236
|
)
|
Other
|
|
|
1,664
|
|
|
|
670
|
|
Total
|
|
|
(2,545
|
)
|
|
|
(1,154
|
)
|
Investing activities:
|
|
|
|
|
|
|
|
|
Purchase of property and equipment
|
|
|
(1,537
|
)
|
|
|
(958
|
)
|
Proceeds from sale of property and equipment
|
|
|
-
|
|
|
|
23
|
|
Total
|
|
|
(1,537
|
)
|
|
|
(935
|
)
|
Financing activities:
|
|
|
|
|
|
|
|
|
Revolving credit facilities, net
|
|
|
12,477
|
|
|
|
20,088
|
|
Debt issuance costs
|
|
|
(5
|
)
|
|
|
(153
|
)
|
Payments on note payable
|
|
|
(188
|
)
|
|
|
(54
|
)
|
Change in cash overdrafts
|
|
|
1,532
|
|
|
|
2,179
|
|
Purchase of common stock
|
|
|
(13,872
|
)
|
|
|
(20,088
|
)
|
Dividend payments
|
|
|
(20
|
)
|
|
|
(20
|
)
|
Exercise of stock options and issuance of common stock
|
|
|
3,815
|
|
|
|
61
|
|
Total
|
|
|
3,739
|
|
|
|
2,013
|
|
Decrease in cash
|
|
$
|
(343
|
)
|
|
$
|
(76
|
)
|
The primary drivers of operating profits and
cash flows include (i) top line sales (ii) interest income on finance receivables, (iii) gross margin percentages on vehicle sales,
and (iv) credit losses, a significant portion of which relates to the collection of principal on finance receivables. The Company
generates cash flow from operations. Historically, most or all of this cash is used to fund finance receivables growth,
capital expenditures, and common stock repurchases. To the extent finance receivables growth, capital expenditures and
common stock repurchases exceed income from operations, generally the Company increases its borrowings under its revolving credit
facilities. The majority of the Company’s growth has been self-funded.
Cash flows from operations for the six months
ended October 31, 2018 compared to the same period in the prior fiscal year decreased primarily as a result of larger finance receivables
originations, partially offset by (i) higher net income, (ii) higher finance receivable collections, and (iii) a higher non-cash
charge for credit losses. Finance receivables, net, increased by $26.1 million from April 30, 2018 to October 31, 2018.
The purchase price the Company pays for a vehicle
has a significant effect on liquidity and capital resources. Because the Company bases its selling price on the purchase cost for
the vehicle, increases in purchase costs result in increased selling prices. As the selling price increases, it becomes more difficult
to keep the gross margin percentage and contract term in line with historical results because the Company’s customers have
limited incomes and their car payments must remain affordable within their individual budgets. Several external factors can negatively
affect the purchase cost of vehicles. Decreases in the overall volume of new car sales, particularly domestic brands, lead to decreased
supply in the used car market. Also, constrictions in consumer credit, as well as general economic conditions, can increase overall
demand for the types of vehicles the Company purchases for resale as used vehicles become more attractive than new vehicles in
times of economic instability. A negative shift in used vehicle supply, combined with strong demand, results in increased used
vehicle prices and thus higher purchase costs for the Company. These factors have caused purchase costs to increase generally over
the last five years. The higher vehicle purchase costs coupled with more sales of SUVs and trucks resulted in an increase in the
average sales price of $620, or 6.0%, during the first six months of fiscal 2019 compared to the same period in the prior fiscal
year. Management expects the supply of vehicles to remain tight during the near term and to result in further modest increases
in vehicle purchase costs, with strong new car sales levels in recent years helping to provide additional supply and mitigate expected
cost increases.
The Company believes that the amount of credit
available for the sub-prime auto industry has increased in recent years, and management expects the availability of consumer credit
within the automotive industry to be higher over the near term when compared to historical levels. This is expected to contribute
to continued strong overall demand for most, if not all, of the vehicles the Company purchases for resale. Increased
competition resulting from availability of funding to the sub-prime auto industry can result in lower down payments and longer
terms, which can have a negative effect on collection percentages, liquidity and credit losses. However, in the most recent quarter
competitive pressures appear to have eased modestly, which the Company believes contributed to increased traffic at our dealerships.
Macro-economic factors such as inflation within
groceries and other staple items, as well as overall unemployment levels, can also affect the Company’s collection results,
credit losses and resulting liquidity. The Company anticipates that, despite generally positive overall economic trends, the challenges
facing the Company’s customer base, coupled with the extended terms and decreased recovery rates, will contribute to credit
losses remaining elevated in the near term compared to historical ranges. Management continues to focus on improved execution at
the dealership level, specifically as related to working individually with customers to address collection issues.
The Company has generally leased the majority
of the properties where its dealerships are located. As of October 31, 2018, the Company leased approximately 85% of its dealership
properties. The Company expects to continue to lease the majority of the properties where its dealerships are located.
The Company’s revolving credit facilities
generally restrict distributions by the Company to its shareholders. The distribution limitations under the credit facilities allow
the Company to repurchase shares of its common stock up to certain limits. Under the current limits, the aggregate amount of repurchases
after October 25, 2017 cannot exceed the greater of: (a) $50 million, net of proceeds received from the exercise of stock options
(plus any repurchases made during the first six months after October 25, 2017, in an aggregate amount up to the remaining availability
under the $40 million repurchase limit in effect immediately prior to October 25, 2017, net of proceeds received from the exercise
of stock options), provided that the sum of the borrowing bases combined minus the principal balances of all revolver loans after
giving effect to such repurchases is equal to or greater than 20% of the sum of the borrowing bases; or (b) 75% of the consolidated
net income of the Company measured on a trailing twelve month basis. In addition, immediately before and after giving effect to
the Company’s stock repurchases, at least 12.5% of the aggregate funds committed under the credit facilities must remain
available. Thus, although the Company currently does routinely repurchase stock, the Company is limited in its ability to pay dividends
or make other distributions to its shareholders without the consent of the Company’s lenders.
At October 31, 2018, the Company had approximately
$679,000 of cash on hand and approximately an additional $35 million of availability under its revolving credit facilities (see
Note F to the Condensed Consolidated Financial Statements). On a short-term basis, the Company’s principal sources
of liquidity include income from operations and borrowings under its revolving credit facilities. On a longer-term basis, the Company
expects its principal sources of liquidity to consist of income from operations and borrowings under revolving credit facilities
or fixed interest term loans. The Company’s revolving credit facilities mature in December 2019. Furthermore, while the Company
has no specific plans to issue debt or equity securities, the Company believes, if necessary, it could raise additional capital
through the issuance of such securities.
The Company expects to use cash from operations
and borrowings to (i) grow its finance receivables portfolio, (ii) purchase property and equipment of approximately $3.4 million
in the next 12 months in connection with refurbishing existing dealerships and adding new dealerships, (iii) repurchase shares
of common stock when favorable conditions exist, and (iv) reduce debt to the extent excess cash is available.
The Company believes it will have adequate liquidity
to continue to grow its revenues and to satisfy its capital needs for the foreseeable future.
Contractual Payment Obligations
There have been no material changes outside of
the ordinary course of business in the Company’s contractual payment obligations from those reported at April 30, 2018 in
the Company’s Annual Report on Form 10-K.
Off-Balance Sheet Arrangements
The Company has entered into operating leases for approximately
86% of its dealerships and office facilities. Generally, these leases are for periods of three to five years and usually contain
multiple renewal options. The Company uses leasing arrangements to maintain flexibility in its dealership locations and to preserve
capital. The Company expects to continue to lease the majority of its dealerships and office facilities under arrangements substantially
consistent with the past.
The Company has a standby letter of
credit relating to an insurance policy totaling $1 million at October 31, 2018.
Other than its operating leases and the
letter of credit, the Company is not a party to any off-balance sheet arrangement that management believes is reasonably
likely to have a current or future effect on the Company’s financial condition, revenues or expenses, results of
operations, liquidity, capital expenditures or capital resources that are material to investors.
Related Finance Company
Car-Mart of Arkansas and Colonial do not meet
the affiliation standard for filing consolidated income tax returns, and as such they file separate federal and state income tax
returns. Car-Mart of Arkansas routinely sells its finance receivables to Colonial at what the Company believes to be fair market
value and is able to take a tax deduction at the time of sale for the difference between the tax basis of the receivables sold
and the sales price. These types of transactions, based upon facts and circumstances, have been permissible under the provisions
of the Internal Revenue Code as described in the Treasury Regulations. For financial accounting purposes, these transactions are
eliminated in consolidation and a deferred income tax liability has been recorded for this timing difference. The sale of finance
receivables from Car-Mart of Arkansas to Colonial provides certain legal protection for the Company’s finance receivables
and, principally because of certain state apportionment characteristics of Colonial, also has the effect of reducing the Company’s
overall effective state income tax rate by approximately 234 basis points. The actual interpretation of the Regulations is in part
a facts and circumstances matter. The Company believes it satisfies the material provisions of the Regulations. Failure to satisfy
those provisions could result in the loss of a tax deduction at the time the receivables are sold and have the effect of increasing
the Company’s overall effective income tax rate as well as the timing of required tax payments.
The Company’s policy is to recognize
accrued interest related to unrecognized tax benefits in interest expense and penalties in operating expenses. The Company had
no accrued penalties or interest as of October 31, 2018.
Critical Accounting Policies
The preparation of financial statements in conformity
with generally accepted accounting principles in the United States of America requires the Company to make estimates and assumptions
in determining the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ
from the Company’s estimates. The Company believes the most significant estimate made in the preparation of the accompanying
Condensed Consolidated Financial Statements relates to the determination of its allowance for credit losses, which is discussed
below. The Company’s accounting policies are discussed in Note B to the Condensed Consolidated Financial Statements.
The Company maintains an allowance for credit
losses on an aggregate basis at a level it considers sufficient to cover estimated losses inherent in the portfolio at the balance
sheet date in the collection of its finance receivables currently outstanding. At October 31, 2018, the weighted average
total contract term was 32.1 months with 23.1 months remaining. The reserve amount in the allowance for credit losses at October
31, 2018, $126.1 million, was 25% of the principal balance in finance receivables of $535.8 million, less unearned payment protection
plan revenue of $20.8 million and unearned service contract revenue of $10.6 million.
The estimated reserve amount is the Company’s
anticipated future net charge-offs for losses incurred through the balance sheet date. The allowance takes into account historical
credit loss experience (both timing and severity of losses), with consideration given to recent credit loss trends and changes
in contract characteristics (i.e., average amount financed, months outstanding at loss date, term and age of portfolio), delinquency
levels, collateral values, economic conditions and underwriting and collection practices. The allowance for credit losses is reviewed
at least quarterly by management with any changes reflected in current operations. The calculation of the allowance for credit
losses uses the following primary factors:
|
•
|
The number of units repossessed or charged-off as a percentage of total units financed over specific
historical periods of time from one year to five years.
|
|
•
|
The average net repossession and charge-off loss per unit during the last eighteen months segregated
by the number of months since the contract origination date and adjusted for the expected future average net charge-off loss per
unit. About 50% of the charge-offs that will ultimately occur in the portfolio are expected to occur within 10-11 months
following the balance sheet date. The average age of an account at charge-off date for the eighteen-month period ended
October 31, 2018 was 12 months.
|
|
•
|
The timing of repossession and charge-off losses relative to the date of sale (i.e., how long it
takes for a repossession or charge-off to occur) for repossessions and charge-offs occurring during the last eighteen months.
|
A point estimate is produced by this analysis
which is then supplemented by any positive or negative subjective factors to arrive at an overall reserve amount that management
considers to be a reasonable estimate of losses inherent in the portfolio at the balance sheet date that will be realized via actual
charge-offs in the future. Although it is at least reasonably possible that events or circumstances could occur in the future that
are not presently foreseen which could cause actual credit losses to be materially different from the recorded allowance for credit
losses, the Company believes that it has given appropriate consideration to all relevant factors and has made reasonable assumptions
in determining the allowance for credit losses. While challenging economic conditions can negatively impact credit losses, the
effectiveness of the execution of internal policies and procedures within the collections area and the competitive environment
on the funding side have historically had a more significant effect on collection results than macro-economic issues. A 1% change,
as a percentage of finance receivables, in the allowance for credit losses would equate to an approximate pre-tax adjustment of
$4.1 million.
Recent Accounting Pronouncements
Occasionally, new accounting pronouncements
are issued by the Financial Accounting Standards Board (“FASB”) or other standard setting bodies, which the Company
will adopt as of the specified effective date. Unless otherwise discussed, the Company believes the implementation of recently
issued standards which are not yet effective will not have a material impact on its consolidated financial statements upon adoption.
Revenue Recognition
. In May 2014, the
FASB issued ASU 2014-09,
Revenue from Contracts with Customers
(Topic 606), which supersedes existing revenue recognition
guidance. The new guidance in ASU 2014-09 is based on the principle that revenue is recognized to depict the transfer of goods
or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for
those goods or services. ASU 2014-09 also requires additional disclosure about the nature, amount, timing and uncertainty of revenue
and cash flows arising from customer contracts, including significant judgments and changes in judgments and assets recognized
from costs incurred to obtain or fulfill a contract. In August 2015, the FASB issued ASU 2015-14,
Revenue from Contracts with
Customers (Topic 606): Deferral of the Effective Date
, to provide entities with an additional year to implement ASU 2014-09.
As a result, the guidance in ASU 2014-09 is effective for annual reporting periods beginning after December 15, 2017, and interim
reporting periods within those years, using one of two retrospective application methods. The Company adopted this standard for
its fiscal year beginning May 1, 2018 and applied the modified retrospective transition method. Adoption of this standard did not
result in an adjustment. The Company’s evaluation process included, but was not limited to, identifying contracts within
the scope of the guidance and reviewing and documenting its accounting for these contracts. The Company primarily sells products
and recognizes revenue at the point of sale or delivery to customers, at which point the earnings process is deemed to be complete.
The Company’s performance obligations are clearly identifiable, and management’s evaluation of the standard did not
result in significant changes to the assessment of such performance obligations or the timing of the Company’s revenue recognition
upon adoption of the new standard. The Company’s primary business processes are consistent with the principles contained
in the ASU, and the Company’s evaluation of the standard did not result in significant changes to those processes or its
internal controls or systems.
Statement of Cash Flows.
In August 2016,
the FASB issued ASU 2016-15 —
Statement of Cash Flows
(Topic 230). ASU 2016-15
aims to
eliminate diversity in the practice of how certain cash receipts and cash payments are presented and classified in the statement
of cash flows.
The guidance is effective for annual reporting periods beginning after December 15, 2017 and interim periods
within those years
.
The Company adopted this standard for its fiscal year beginning May 1,
2018, and it did not have a material effect on our consolidated financial statements.
Income Taxes.
In October 2016, the FASB
issued ASU 2016-16,
Income Taxes
(Topic 740). ASU 2016-16 requires companies to recognize the income tax effects of intercompany
sales and transfers of assets, other than inventory, in the period in which the transfer occurs. The guidance is effective for
annual reporting periods beginning after December 15, 2017 and interim periods within those years. The Company adopted this standard
for its fiscal year beginning May 1, 2018, and it did not have a material effect on our consolidated financial statements.
Leases
. In February 2016, the FASB issued
ASU 2016-02,
Leases
. The new guidance requires that lessees recognize all leases, including operating leases, with a term
greater than 12 months on-balance sheet and also requires disclosure of key information about leasing transactions. The guidance
in ASU 2016-02 is effective for annual reporting periods beginning after December 15, 2018, and interim reporting periods within
those years. The Company is currently evaluating the potential effects of the adoption of this guidance on the consolidated financial
statements.
Credit Losses
. In June 2016, the FASB
issued ASU 2016-13,
Financial Instruments
—
Credit Losses
(Topic 326). ASU 2016-13 requires financial assets
such as loans to be presented net of an allowance for credit losses that reduces the cost basis to the amount expected to be collected
over the estimated life. Expected credit losses will be measured based on historical experience and current conditions, as well
as forecasts of future conditions that affect the collectability of the reported amount. ASU 2016-13 is effective for annual reporting
periods beginning after December 15, 2019, and interim reporting periods within those years using a modified retrospective approach.
The Company is currently evaluating the potential effects of the adoption of this guidance on the consolidated financial statements,
but does not expect such impact to be material.
Seasonality
Historically, the Company’s third fiscal
quarter (November through January) has been the slowest period for vehicle sales. Conversely, the Company’s first and fourth
fiscal quarters (May through July and February through April) have historically been the busiest times for vehicle sales. Therefore,
the Company generally realizes a higher proportion of its revenue and operating profit during the first and fourth fiscal quarters.
Tax refund anticipation sales efforts during the Company’s third fiscal quarter have increased sales levels during the third
fiscal quarter in some past years; however, due to the timing of actual tax refund dollars in the Company’s markets, these
sales and collections have primarily occurred in the fourth quarter in each of the last four fiscal years.
If conditions arise that impair vehicle sales
during the first, third or fourth fiscal quarters, the adverse effect on the Company’s revenues and operating results for
the year could be disproportionately large.