Good morning and welcome to the Lithia & Driveway third quarter 2021 conference call. All lines have been placed on mute to prevent background noise. After the speakers' remarks, there will be a question-and-answer session. I would now like to turn the call over to Jack Evert, Director of FP&A. Please begin.

Thank you and welcome to the Lithia & Driveway third quarter 2021 earnings call. Presenting today are Bryan DeBoer, President and CEO, Chris Holzshu, Executive Vice President and COO and Tina Miller, Senior Vice President and CFO. Today's discussions may include statements about future events, financial projections and expectations about the company's products, markets and growth. Such statements are forward-looking and subject to risks and uncertainties that could cause actual results to differ materially from the statements made. We disclose those risks and uncertainties we deem to be material in our filings with the Securities and Exchange Commission. We urge you to carefully consider these disclosures and not to place undue reliance on forward-looking statements. We undertake no duty to update any forward-looking statements which are made as of the date of this release. Our results discussed today include references to non-GAAP financial measures. Please refer to the text of today's press release for a reconciliation to comparable GAAP measures. We have also posted an updated investor presentation on our website, lithiainvestorrelations.com, highlighting our third quarter results. With that, I would like to turn the call over to Bryan DeBoer, President and CEO.

Thank you Jack. Good morning and welcome everyone. Earlier today, we reported the highest adjusted third quarter earnings in company history at $11.21 per share, a 63% increase over last year's strong results. Record revenues of $6.2 billion were primarily driven by successful navigation of the abnormal supply and demand environment and contributions from acquired businesses. During the quarter, total revenue grew 70% while total gross profit increased 83%. On a same-store basis, used vehicles led our revenue growth up 40%, followed by a 22% increase in F&I income, a 7% increase in service, body and parts revenues and a relatively modest 3% decrease in new vehicle revenues. Additionally, same-store gross profit increased 23%. Our operational teams executed our best-in-class used inventory procurement model to source and recondition a large volume of used vehicles in a highly cost-effective manner. Our ability to reposition vehicles within our nationwide network and our Driveway procurement technology allowed for optimal inventory levels throughout the quarter. On the new vehicle side, increased GPUs more than offset the decline in volume. Chris will be providing additional details on our same-store sales, inventory levels and operational highlights in a few moments. Through our omnichannel strategy and expanding our network by acquiring new vehicle franchises, we have rapidly increased our size and scale further growing our significant capital engine./ In the third quarter, we generated $530 million in adjusted EBITDA, the greater than any full year in our history before 2019 providing us additional capital to deploy towards network expansion in Driveway, while also accelerating our continued exploration into adjacencies. The robust customer demand we saw in the third quarter was driven by high levels of helpful savings, government subsidies, lower interest rates and increased equity in trade-ins. Elevated demand and margins are likely to be sustainable into…

Thank you Bryan. Entering the final quarter of 2021, with another record year already behind us, our store leaders continue to challenge their teams to embrace the future, evolving all business lines and achieve the 2025 plan. This includes ensuring that our 22,000 associates continue to lead the digital transformation of automotive retail in their respective markets while exceeding customer expectations, increasing market share and improving profitability. As most of you are aware, our manufacturer partners were impacted by microchip shortages and struggle to supply a sufficient volume of new vehicles to meet customer demand during the third quarter. As a result, same-store new vehicle unit sales decreased 3% in revenue and 14% in units, consistent with a nationwide SAAR decrease. We were able to offset the decreased volume with higher total variable GPUs, averaging $7,446 in the third quarter compared to $6,082 in the second quarter of 2021 and $4,754 in the prior year. As of September 30, we had a 24-day supply of new vehicles on the ground, which excludes in-transits. While the new vehicle day supply environment was challenging, our 58-day supply of used vehicle inventory exiting June 2021 positioned us well for the third quarter where we saw a 40% increase in revenue on a 13% increase in units. Our 1,000-plus procurement personnel did excellent work sourcing vehicles, enabling us to offer customers a wide spectrum of vehicles meeting all levels of affordability. We currently sit at a 48-day supply of used units and anticipate we will be able to continue to mitigate pressure on the new vehicle supply by maintaining solid used car comps and strong profitability. In the third quarter, we sourced 74% of our used vehicles direct from consumer, such as trade-ins and off lease where we as top of funnel franchise dealers…

Thank you Chris. For the quarter, we generated over $530 million of adjusted EBITDA, a 104% increase over 2020 and $304 million of free cash flows defined as adjusted EBITDA plus stock-based compensation less the following items paid in cash, interest, income taxes, dividends and capital expenditures. We ended the quarter with $1.7 billion in cash and available credit which if deployed to support network growth could purchase up to $6.8 billion in annualized revenues. As of September 30, we have $3.8 billion outstanding in debt of which $1 billion was floor plan and used vehicle and service loan or financing. The remaining portion of our debt primarily relates to senior notes and financed real estate as we own over 85% of our physical network. Our disciplined approach is to maintain leverage between two and three times as part of our commitment to obtaining an investment grade credit rating which could be another sizable competitive advantage once obtained. As of quarter-end, our ratio of net debt to adjusted EBITDA is 1.25 times. Our capital allocation priorities for deployment of our annual free cash flows generated remains unchanged. We target 65% investment in acquisitions, 25% internal investment including capital expenditures, modernization and diversification and 10% in shareholder returns in the form of dividends and share repurchases. Earlier this morning, we announced a $0.35 per share dividend related to our Q3 performance. With capital raises completed earlier this year and elevated free cash flows generated as a result of the current environment, we accelerated our investment in Driveway and DFC incurring over %50 million an SG&A and capital expenditures year-to-date. The personnel costs for over 500 associates who support the scaling and continued buildout the Driveway and DFC, the marketing investment for Driveway and IT development cost are current period headwinds and most importantly support the buildout of our future state and provides the foundation for a new generation of incremental profitability. We are well-positioned for accelerated disciplined growth on the path toward achieving our plan to reach $50 billion of revenue and exceed $50 of earnings per share by the year 2025. This concludes our prepared remarks. We would now like to open up the call to questions. Operator?

[Operator Instructions]. Our first question is from Rick Nelson with Stephens. Please proceed.

Thanks. Good morning. Congrats on another nice quarter.

Thanks Rick.

I want to ask you about new car inventory in 24-days supply the end of the quarter. I am curious where we go from here? Do things get tighter? Do lead stars start to build inventory levels? Your confidence, I guess, from the fourth quarter that some of the trends we saw in Q3 can continue into the fourth quarter?

Sure Rick. I do believe that those trends strength continue into the fourth quarter. I think we are looking at a few more quarters of string but I also know that a lot of this is going to be dependent upon what happens with the stimulus packages because if they renew those job credits now all of a sudden we have you know more income in that middle income and lower income pockets which could be a catalyst for continued demand for maybe throughout 2022. Chris, do you have some specifics for us?

Yes. Rick, good morning. I mean I think part of this is, the line of sight on inventories are still a bit murky and we are kind of day-by-day and manufacturer-by-manufacture on kind of what's going on. But as you said, we had a 24-day supply which was actually up one day from last quarter. However, our days supply uses a 30-day look back. So when you are looking at that trend, we have declining sales volumes which would indicate that a 24-day supply is an apples-to-apples when you compare to last quarter. So obviously more inventory in the pipeline is great. Now the flip side of that is, we do have a 48-day supply of used vehicles and I think the benefits of being a top of funnel franchise dealer when it comes to used cars is really evident when you see the massive sales comps that we had, up year-over-year, 18% in volume and 40% in revenue, are some of the benefits that we see that we can kind of out run, out pace some of the trends that we are feeling across the industry right now in new cars.

Thanks for that color. Also, I would like to follow up on the F&I. We saw that uptick there per unit, despite a mix shift away from new toward used and I guess how it will drive DFC, Driveway Finance, is impacting F&I per unit or how you expect it to impact in the future?

Yes. Rick, this is Chris again. Good morning. So as far as F&A is concerned, I mean this has been a focus that we have talked about for the last several years, obviously lagging some of our competitors as far as where those F&I trends came out and we continue to see the progress of focusing on people, process, products and obviously our comp plans around driving that performance up. We are seeing some benefits from obviously the economic indicators that Bryan mentioned in his prepared remarks as well as valuations that are coming in in used vehicles that give our customers a chance to invest in protection products that support their vehicle purchase. As far as Driveway is concerned, we are seeing probably about right now as they ramp up their business, somewhere around a $50 per unit impact on the overall finance transaction. But as they continue to see record revenue, record deals coming into the Driveway Finance portfolio, we are confident that over time the benefits of having a captive finance companies are definitely going to outweigh some of the headwinds that we are seeing right now today.

Great. Thanks very much and good luck as we push forward.

Thanks Rick

Thanks Rick

Our next question is from Ryan Sigdahl with Craig-Hallum Capital Group. Please proceed.

Good morning guys. Congrats on another really strong quarter.

Hi Ryan.

Curious on M&A. You guys talked confidently about lot of opportunity still out there and it seems like your peers have followed suit rather late but a lot of increased activity, multiples going higher there. So does that change some of the negotiations you guys are having and the confidence in continuing the M&A at good valuations?

Yes. Ryan, this is Bryan. I think most importantly, we would keep our eye on the $20 billion that we set out to achieve in the 50/50 plan or what now referred to as the 2025 plan where we were really targeting to get to that 500 store locations to be able to deliver services and products to consumers within about a two hour or about 100 mile reach. That's our ultimate goal. We are very fortunate that we were able to book almost $10 billion worth of revenue over the last 15, 16 months at very attractive multiples in that middle of our three to seven times EBITDA range. And now we are looking at multiples in, especially those two larger deals that we are close to probably double on a per-COVID or a post-COVID multiple range as to what we paid for those assets. I think what you know about Lithia & Driveway is that we are very disciplined, okay. We have enough in the funnel that we can still find that the gems in the opportunities of now around $12 billion and that's assuming that the two major deals close with our two peer group and wish them the best on that.

And then on GPU, it seemed like Q2 was exceptionally strong and things can get better and then you trumped new by well over $1,000 into Q3. So you mentioned strength in margins continuing for the next several quarters. Lack of new inventory, that's obvious out there. But do you think these Q3 levels are sustainable? Or is it kind of a blend between the two? But any kind of directional help would be helpful.

Yes. I think as Chris mentioned, we believe that we have troughed in terms of inventory and probably at least 50% of the manufacturers and the remaining 50% they are troughing either now or in the next 30-days. So we really believe that once inventories start to return that we should be sitting at, I would say, more like Q2 levels and maybe at some point even Q1. And it's really hard to predict. I mean we could have never predicted another $1,600, $1,700 used margins and $7,400 new vehicle margins including F&I and now pushing what 16.5% total margins on new. That's pretty massive when pre-COVID we were flirting with just below 10%. So it is somewhat supply based but we would also say and remind you that this is a demand based dilemma that's being caused more than anything. And days supply isn't really an indicative measure of what margins are going to do long term because we have many manufacturers we have run at these 20-day supply levels for decades and the margins aren't there. So in the short term, yes, there's a disconnect. But hopefully, we can constructively have lower day supply but it doesn't translate into automatic substantial profit increases.

Nice job guys. I will turn it over to the others. Thanks.

Thanks Ryan.

Thanks Ryan.

Our next question is from John Murphy with Bank of America. Please proceed.

Hi. Good morning everyone. This is TT Fletcher, on for John Murphy. Sorry.

Hi TT.

Hi. So I guess to start, you guys have touched on this a little bit but how much of the diverging performance on new and used same-store comps do you attribute to your increasing focus on the used vehicle market and your various initiatives like value auto versus typically new vehicle consumers shifting down into used given the pervasive inventory shortage? So just trying to get a sense of whether you think it's more kind of a structural shift versus more transitory?

Sure. TT, this is Bryan again. I think it's important to remember that in the Lithia & Driveway procurement model, we specifically focus on channels of procurement that are a little different than most. We actually hit and I would say that is the major driver of our performances is those that can find the vehicles then recondition the vehicles are going to be the ones that are able to expand their same-store sales at a greater rate. So we actually hit an all-time high and procured 74% of our inventory directly from consumers and much different lead than maybe a used only retailer that we had 58% of our vehicles coming from trade-ins. We had another 6% come off lease. And another 10% come from private party. And probably the most important thing that we look at is, we also had a low ever in auction procurement which is only 13% of our mix. And Chris had mentioned that the importance of the consumer channels is that we don't have to transport cars and pay auctions fees both directions. So we make about $1,100 more in that channel on that three quarters of cars and you can relate that. Now in terms of what was Driveway's influence on the overall business, okay, whether it was a shop or sale functionality is important to keep in mind that the sale functionality or creating more inventory is another channel that we haven't really explored until nine months ago and that's quite attractive and we would attribute about 20% of our volume in same-store sale increases coming from that channel at the current time.

Okay. Got it. That makes lot of sense. And then just a last housekeeping questions. Is it fair to assume that the non-cash unrealized loss on investment in the quarter would shift? Was there any realized or cash-off on investment? And kind of how do you think about the nature of that investment over time, whether it be core or non-core to the Lithia & Driveway business model?

So there was a large adjustment that was based off the value of the shift of what they traded that as well as we had a possibility to get other shares of shift but the stock, the performance of the company didn't reach the level. So we basically just adjusted that that balance. Tina, anything to add on that?

No. That's correct. It's related to valuation of shifts tied to the stock price. And then as Bryan mentioned, we had some shares that were held in escrow that didn't meet the performance metrics.

Okay. I understand. Thank you. That's all for me.

Thanks TT.

Our next question is from Chris Bottiglieri with BNP Paribas. Please proceed.

Hi everyone. Thanks for taking the call.

Hi Chris.

I wanted to ask about the used business. So you are 14.5% using the growth and two-year CAGR 9% share with the market. Can you give us a sense for how that fared monthly throughout the quarter and into October? Was it relatively consistent? Was it volatile? And then just related, the inventory levels are still pretty strong but not as strong as they were in Q2. Do you feel good about it?

I feel good. We saw consistency throughout the quarter, Chris and exiting the quarter even though we are at 10-day lower supply. If you take the increase even quarter-over-quarter, our used car sales were up considerably. So that actually 30-day look back when you take that into account our actual static inventory numbers were about the same as they were exiting Q2 which we like and we are continuing to buy more. Also, October is looking pretty good. And I would remind everyone that our quarter-over-quarter look back verses 2020, that was a good quarter, okay. So it's not we stopped talking about 2019 which was really for that one quarter of Q2 when we had half a quarter where we were basically shut because of regulatory closures.

Yes. That's really impressive. So then my next question is, you seem to be scaling Driveway and making a lot of incremental investments too. Of the $50 million, can you give the sense for like what the split is SG&A and CapEx? And then separately, if I heard you correctly, it sounds like you are becoming more confident on the level of structural cost takeout. It seems like at least 300 basis point of improvement versus pre-COVID. I just want to make sure I heard that correctly. And then two, kind of maybe just speak to what making you more confident? What do you see in the business like some of the structural and if inventory ever normalizes, you retain at least the 300?

Yes. I think most importantly, Chris, this is an investment in our future in a channel that's growing. So of the $50 million, about one-third or $15 million of it was actual CapEx. The remainder is those 500 associates that we are building into our future for. And we think it's the right investments including the expansion into Phoenix Arizona and Las Vegas, Nevada which is now our 9th and 10th market because we did see two of our markets, our initial two markets Portland and Pittsburgh have, one has actually reached the point of 1.5 golden ratio which was our next level of scaling. The other one's trajectory looks imminent in the next month or two. So we felt it was an appropriate time to expand that. And we are somewhat fortunate that we are in a hyper-inflated gross profit environment which allows us the flexibility to expand that business at a probably a little more rapid rate than we initially expected 15 months ago.

That's it. Okay. Thank you for the tine. I appreciate it.

Thanks Chris.

Our next question is from Rajat Gupta with JPMorgan. Please proceed.

Hi. Great. Thanks for taking the questions. I just had a question on the M&A environment and just capital allocation in general. You raised $1.5 billion or so in May. So you still have like a lot more acquisitions to do, just to finish that capital that you raised. And given like what you are seeing in the LOI and what you have closed so far, how quickly do you think you need or how do you think you need to deploy all of that capital that you raised? Or if you are not finding the right deals at the right multiples, would there be other sources for that capital? Or would that capital go into some other uses? And I had a follow-up. Thanks.

Understood. Rajat, this is Bryan again. Obviously, we spent about two-thirds of our capital on the network strategy and the growth of M&A. We had $1.7 billion remaining of the approximately $4 billion that you mentioned off of the two capital raises plus internal cash flows which were way more than expected. We do have about $1.5 billion contracted, okay or under commitments which is about a quarter of the amount that we would need if we deployed 100% of the $1.7 billion, because as Tina mentioned it's about $6 billion that we could buy with the $1.7 based off what we have been paying traditionally. I would also say this, Rajat we are pretty disciplined at what we do, okay. And the network strategy and what we pay is hyper important to how we value things. And if we look at maybe those two larger deals that we were active on but maybe not as aggressive because we didn't believe that the network strategy was as good for us is maybe it was for one of our peers and we wish them all the best in that as well. So I think that our ability to deploy the remaining, let's say, about $1.2 billion probably takes us two to four more quarters and the environment may change a little bit. But also remember that transactions aren't just about how much you pay, it's about what you do post-signing and what you provide the teams that exist there and what those dealers or those sellers are really looking for, for their culture and for their succession to achieve the things. Remember Lithia & Driveway is an experienced M&A company for the last two decades. It is a core value of our company, okay. And that $12 billion that's in the pipeline, there's a good chance that there's plenty of volume there to at least achieve that $6 billion over the coming quarters and years or the remaining $10 billion that we have in the 5050 plan..

Got it. So it looks like M&A is still like the number one priority fro the use of that capital. So I had a question on the 36,600 e-commerce units. Could you just baseline us on like how do you define that transaction? Is it few parts of transactions being done online? Or like one part online? Just curious just any good comparable maybe versus off your peers?

So, Raja and I apologize to everyone. This is something that we just assumed it was part of our business and when we did the design xx six years ago, we were at about a 5% to 6% of our total volume at that time and it's since grown through our own proprietary solutions or partners like Roadster, a model that provide end to end solutions. But the way that we are looking at this is that digital funnel engagement that created a sale, okay, much like what we do in Driveway or much like any of our e-commerce retail competitors do. We just had discounted it instead. All right, it's just part of our business when it's really not. It is a digital e-commerce channel. It's just not aggregated under one umbrella like it is under Driveway. So it's all e-commerce business in the 300 local and regional brands as well as the Lithia direct brands.

Got it. But the consumer is not necessarily doing the full transaction online there. It's just more just getting booking of the car --

Yes. Rajat, let's remember this, okay. The consumers at our competitors that are e-commerce retailers are not either or they wouldn't need 13,000 employees to be able to sell those cars. So remember the funnel efficacy. We are seeing 7% of our consumers in Driveway that are happy-path, remember, that stay within the technology the whole way through and that's a 100% savvy e-commerce solution, okay. So keep that in mind. Remember this also, that because of disequity, a lot of transactions require human involvement, whether it's through chat or whether it's through email or phone calls to be able to do that. And I can surely share, if anyone would like, some of the Driveway numbers as a comparison to our traditional Lithia channels.

Got it. Just one last one. On the 15% approvability for financing, it seems a little below versus what we have heard from other peers and maybe it's not like-for-like, but what's the customer credit mix that you are seeing there? Is that something that's coming in the way also? And can Driveway Finance help reduce that friction? Or just help increase that approvability rate?

Sure. So, Rajat, there is a difference between 15% approval rate and 7% actually buy rate, okay, meaning that consumers actually carry forward with the approval that was given them, okay. So keep that in mind. I don't want to confuse anyone there. In terms of our funnel efficacy in Driveway, we are seeing that the average consumer and I will comment a little bit on Driveway financials influence in just a second, but the Driveway consumer is averaging exactly 50 points lower on their FICO scores. So there are at 671 versus a 721 in Lithia. But I would accredit that primarily to new car customers, okay. That is a difference that most consumers believe or have the financial wherewithal to be able to buy new, okay, which will have a higher credit spectrum, okay. We did finance a higher percentage of customers in Driveway at 75% and only financed 67% of Lithia customers. So there is a little bit of a difference there. Now, in terms of what we would call our golden ratio that we talk about all the time, what we do notice is there is a difference. And when we get to the ADS market in the next few months, it could allow us to portfolio lend, okay. And that basically means that you are lending at not a one-to-one lending, meaning you have standards that you lend on and that individual customer has to meet that standard or not. And if they are not above it, they don't get approved, okay. So what some of our competitors do is what's called 'portfolio lending, meaning that if they have got three customers in a row that were above the standard and this is just an example of four customers and one that was below that standard, that one other customer gets approved, okay. And that's called portfolio lending where you are a broad-based lender. We don't technically do that today at Driveway Finance. But we are building the API in the software. It's one of our two major roadmap initiatives on the technology that will require some backend funneling to specific lenders, or if we choose to keep that loan directly in the Driveway Finance, we will have the ability to do that. But it is something that does allow the funnel efficacy from finance approvability to be improved at a pretty dramatic pace. Now, remember Rajat, you have 30 lenders that are API. But remember, it's a one-to-one lending. So you still have that dilemma, okay. I will also say this, there is a different way that people seem to count, okay. And what you are getting is pretty raw numbers from us as to how we would look at it in an equitable way, from a traditional retailer standpoint like we do at the Lithia business that you are traditionally used to.

I understood. Great. Thanks for all the color and good luck.

You bet. Thanks, Rajat.

Our next question is from Nick Jones with Citigroup. Please proceed.

Great. Thanks for taking the questions. I guess, maybe I will take a like a bigger picture view here or a bigger picture question. You have talked about wanting to be around 100 miles from all U.S. shoppers. Once you kind of build out that footprint, how should we think about consolidation from there? I mean, how are you thinking about the strategy of consolidating the environment which you kind of touched on earlier that like top 10, maybe a 10% share? So once you have the footprint, is there capacity across your footprint to increase volume and continue to take share? And I guess more broadly, do you think this can consolidate like maybe like auto insurance or top 10, or closer to 70% or 80%? Thanks.

Sure, Nick. This is Bryan again. So I would say that the 100 miles is important to us because of the life cycle of the interactions with your consumers, let's remember that. When we think about the 500 locations in the country, that gets us to about 3.5% to 4% new car market share. But we believe that with wonderful customer offerings that are providing solutions where, when and how consumers choose, that that could be expanded. Now I would also make this comment that our ability to get much past, I would say, 10% of U.S. market share on new is a little bit restricted by our manufacturer partnerships which many have a 5% to 7% of their national footprint. And then, if you assume that you could get two times the throughput through those existing stores, then you can get somewhere a little bit north of 10%. Remember that in all, both new and used, okay, vehicles in new, they are allocated, okay. So, manufacturers do control. It's not like you are greenfielding like in insurance business where the top 10 could get to 80% of the country. Now, if each one of them got to 10% in theory, yes. But I don't believe that the marketplace is that unified, that could ever really do that, okay. Remember also on the used car side, it's all about inventory procurement. And those that are further up funnel and have lower cost reconditioning are going to be the ones that are able to capture more used car market. Those kind of go hand-in-hand to some extent. So I could see a day where the top 10 own 20% to 30%. But remember that ability to get there with the manufacturers is all dependent upon performance and relationship with those manufacturers. And it's probably fair to say that there is two or three of our peer group that actually are looking at that relationship as long term, okay and as collaborative by what they buy and yield performance levels that are in step and stride with those manufacturer partners.

Got it. And I guess maybe a follow-up. So as you kind of get toward that objective of being around 100 miles from every consumer, then kind of M&A slows and presumably, there is a lot more investment in Driveway and kind of the D2C approach. Is that the right way to think about what will happen? Or will that kind of naturally --

Yes. Nick, let me share that, obviously the adjacencies domestically can take some of the capital. But part of that strategy on Canada was to start planting seeds that you could now move internationally to be able to deploy capital as well. More importantly than that, we believe that there is opportunities to overlay our digital e-commerce strategies as well as our underlying network strategy into two-wheel mobility and the tractor-trailer mobility and the farming mobility. So as we begin to grow domestically, that's where you would have the same type of disciplines that are in automotive retail, which is the most proactive in terms of customer desirability, okay, could be overlaid into those three other industries at some point as well. And I think you will see us start to plant seeds in those areas domestically because they are based off the same four business strategy which is new vehicles, disposing of the used vehicle through your network, okay and then having the service, body and parts operations much like what we have in new vehicle sales.

Great. Thanks for taking the question.

You bet, Nick. Thanks.

Our next question is from Bret Jordan with Jefferies. Please proceed.

Hi. Good morning guys.

Hi, Bret.

Have you seen any manufacturer push back at all on the consolidation? Obviously, you have done a lot. Some of your peers are ramping it up. Is there any conversation as far as or any more complicated conversations involved in the transfer of franchises?

No. There really hasn't been a change. I think that because most of our relationships with our manufacturers are contractual in what's called a framework agreement that as long as you achieve their performance standards, you have the ability to grow to a certain level. So I don't really see that as an impediment. And to us or to others, if they are able to get their performance to a level that’s broad enough to be able to buy multiple brands, okay, which is usually the hang-up when you are buying large groups.

Okay. And then, I guess a question on the structural profitability change and you talked about historic new GPUs little under 10. I guess, from a labor model, is there anything that sort of when you think about going forward in the normal sort of post-2021 environment, is the new GPU, that couple of hundred, few hundred points higher forever? Or do we in a cyclical slowdown go back to the old profit levels?

So I want to define that in the 2025 plan, it's very clearly that it goes back to old profit levels. But we will be updating that in the coming quarter, okay, in February to April, okay. And I can give you a little color in some of the areas. There may be margin expansion. We probably won't predict margin expansion even though today, the negotiation-free or fixed-price models are generating approximately $600 higher sale prices than post-negotiated prices of negotiated dealers, which makes up 98% of the transactions, okay. So there is a case that could be made, but I believe and I think our team believes that as the world becomes more transparent and more business is transacted through e-commerce, okay, that pricing becomes more transparent with that, which ultimately that gap will most likely go away. Now, if we are able to compete and buy cars at a lower price and recondition those logistically closer to our customers, then there are ways to be able to expand margins and we will be able to give you more color on that. But hopefully, that gives you a tidbit of information. Chris, did you have something to add to that?

Yes. Just, I mean, as a call out to maybe our own team is that, historically, prior to these margin levels, our top 25% of our dealers were running at SG&A levels at where we are seeing things today on average. So I think that our expectation is that as we continue to see margins return to normalized levels, our focus on personnel and marketing and leveraging our facilities to maintain this level of profitability is something that we have called out 65% as kind of our mid-term goal. But obviously, we would like to see it better than that longer term.

Great. And just a data point. I think, in past calls, we have talked about the geographic reach of Driveway, how far customers are buying. Do you have that number for the third quarter?

I do. In fact, it's one mile further than it was last quarter. It's 931 miles was the average distance. The average shipping fee was actually a little bit higher, it was $576 versus $561 last year. And I would say that that continues to grow so long as there is shortages in new and used inventory, okay. And it's something that we are really thinking about as inventories start to build back, does that read start to shrink a little bit again. One other piece of information that we do provide is that, incrementally, new customers to Lithia & Driveway, it did drop one percentage point down to 96% from the 97.8% last quarter. And the quarter before that was actually 95%. So it's back to where Q1 was, which we are really pleased and I think that's an important notation between our Lithia e-commerce business that has a good portion of repeat business. Our Driveway was specifically designed to get incrementally new customers and that's holding strong even as we spread our wings and start to overlap with consumers that we have already touched once before. So it truly is a new customer that is either needing financial assistance, okay, in getting the correct vehicle for them or a consumer that's looking for more of a tech type of experience that are empowered, it's transparent and the convenience of the in-home delivery.

Great. Thank you.

You bet, Bret. Thanks for the questions.

Our next question is from Ali Faghri with Guggenheim. Please proceed.

Good morning. It's Ali Faghri from Guggenheim. Thanks for squeezing me in.

Hi Ali.

So I just want to confirm I got all the M&A numbers correct. So you have $1.5 billion in M&A under contract that will likely close imminently. It sounds like $6 billion you think you can acquire sometime maybe over the next two quarters to four quarters. And then a total pipeline about of $12 billion. Do I have all those numbers correct?

You do, other than the $6 billion. We said that we have $1.7 billion in capital that could acquire $6 billion. So we are not giving the forward-looking as much anymore, other than we believe that we need to add $20 billion to $22 billion in aggregate since the start of July, last year, okay, to be able to achieve that network coverage of 100. Now I would give you confidence that the $6 billion is probably fairly reticent, like in the $12 billion there is enough deals. And if you add the two large deals from our peers to the $12 billion, it's more than the $15 billion. So we added almost $3 billion in the quarter to that pipeline to get to the $12 billion, which means the market is hyperactive. There is good deals that are priced out there that either have opportunities or their earnings are similar to COVID levels in many of the parts of the country, if they have had personnel problems, so those type of things. And I think, we are always kind of looking for that diamond in the rough to be able to maintain that 15% after-tax return that we have so eloquently accomplished over the last couple of decades.

Great. That makes a lot of sense. And then just as a follow-up here on Driveway. You talked about 40,000 shop and sell units next year. Is the right way to think about that as the majority of that is incremental to your used car business? Because I think it implies roughly a 10% to your used car volumes next year. So just trying to make sure kind of how you think about those 40,000 transactions?

Sure. I think you can assume that the sell to shop ratio is about 2.2 to one that we are assuming, okay. And of the shop portion, those units will be about, I would assume, 90% to 95% new incremental customers, okay. Chris, did you have something to add on that? Okay. Thanks, Ali.

Our next question is from David Whiston with Morningstar. Please proceed.

Thanks. Good morning. Looking at the GPU between new and used, new was up about a give 18% on a same-store basis and 7% for used. Obviously, it’s a time of great imbalance. But was there also maybe a conscious decision on your part on used pricing? Or is used is just far more competitive? Just trying to understand the gap there.

Yes. Good morning, David. This is Chris. I mean, going back to our operating model where we engage and expect each of our stores to make independent market decisions, it's kind of hard to generically just answer that we did something specifically from corporate on pricing. I mean each of our stores is reacting to the local market conditions that they are seeing. And I think across the country, we are seeing obviously good margins in new and used. And obviously, a scarcity of new-car volume kind of driven more by domestics and luxury, but overall those decisions are made at the local level and we expect that to continue.

Okay. And I guess, a two-part question on inventory procurement. You talked about 74% of your inventory coming from consumers. Is there some extra advertising push that you are doing to get that high of a ratio? And on Driveway specifically, how do you ensure that Driveway, sensing you are left with the mostly undesirable inventory that the stores don't want.

So, two things. Let's remember that Driveway inventory is the stores' inventory that they leverage each other. So they would never get left with inventory that they do not want. In terms of our ability to procure cars through the three customer channels, that primarily comes from our ability to buy cars and the valuations that we provide. So, we don't specifically market in our traditional channel. We do specifically market in our Driveway channel. In fact, mid-quarter, we had actually curtailed the valuations that we were giving on trades and it affected our sell to shop ratio lightly, okay. And we have now, I think, caught up with everyone else, assuming that the last quarter of the year and early into the first quarter, there is price drops that typically happen this time seasonally. And we are obviously being sensitive to the supply as well to be able to do that. So we did adjust those pricing algorithms or valuation algorithms on our sale in Driveway, which does give some guidance into the field as well.

Okay. And finally, compared to, say, a few months ago or earlier this year, when consumers are coming in now, especially, if they want a new vehicle, are they more willing to go used than they were a few months ago? Or are they more perhaps the other way more stubborn saying, I am just going to wait for the chip shortage to end and they walk out?

So we are very fortunate that we do have visibility into our pipeline, especially with the domestic manufacturers, where those cars are spoken for up to 90 days to 120 days in advance. So that pipeline is full. In terms of the transition from a new vehicle to a used vehicle, or used vehicle to a new vehicle, again, as Chris said, that's an individual decision by individual consumer. When we look at it in Driveway, we do have those discussions with consumers, because obviously, a new vehicle has more margin in it, typically, which you can see from our GPUs. That does help you deal with financeability on a consumer. And ultimately, as Driveway reaches national scale by end of next year and that type of framework, we will be converting consumers from used to new. But at the current time, our technology isn't able to do that but should be able to by end of year or as early next year, as we have disclosed in the past.

Okay. Thank you.

Thanks, David.

We have reached the end of our question-and-answer session. I would like to turn the conference back over to management for closing comments.

Thank you Cherie. I would make this comment, hold on, we are just getting started. And again, thank you for joining us today and we look forward to updating you on Lithia and Driveway's fourth-quarter results in February and also, a little update on the 50-50 plan. Thanks all.

Thank you. This does conclude today's conference. You may disconnect your lines at this time and thank you for your participation.