Tony Pordon - EVP of IR and Corporate Development Roger Penske - Chairman J.D. Carlson - CFO Shelley Hulgrave - Controller.

James Albertine - Consumer Edge Rick Nelson - Stephens John Murphy - Bank of America Merrill Lynch Brian Sponheimer - Gabelli Michael Ward - Seaport Global David Lim - Wells Fargo Brett Hoselton - KeyBanc David Whiston - Morningstar Bill Armstrong - C.L. King & Associates.

Good afternoon, ladies and gentlemen. Welcome to the Penske Automotive Group Second Quarter 2017 Earnings Conference Call. Today's call is being recorded and will be available for replay approximately one hour after completion through August 03, 2017 on the Company's website under the investor relations tab at www.penskeautomotive.com.

I'll now introduce Tony Pordon, the Company's Executive Vice President of Investor Relations and Corporate Development. Please go ahead, sir..

Thank you, John, and good afternoon, everyone. Thank you for joining us today. A press release detailing Penske Automotive Group's second quarter 2017 financial results was issued this morning, and is posted on our website along with our business update and results presentation designed to assist you in understanding our performance.

As always, I'm available by email or phone for any follow-up questions you may have. Joining me for today's call are Roger Penske, our Chairman; J.D. Carlson, Chief Financial Officer and Shelley Hulgrave, our Controller.

On this call, we will be discussing certain non-GAAP financial measures, such as earnings before interest, taxes, depreciation and amortization or EBITDA.

We have prominently presented the comparable GAAP number and have reconciled the non-GAAP measures in this morning's press release and investor presentation, which is available on our website to the most directly comparable GAAP measures. Also, we may make forward-looking statements about our operations.

Our actual results may vary because of risks and uncertainties outlined in today's press release, which may cause the actual results to differ materially from expectations. I direct you to our SEC filings, including our Form 10-K for the additional discussion and factors that could cause results to differ materially.

I'll now turn the call over to Roger Penske..

Thank you, Tony. Good afternoon, everyone and thank you for joining us today. I'm pleased to report another record quarter of performance for PAG.

The second quarter represented the highest quarterly income from continuing operations and earnings per share in the history of our company and continues to demonstrate the strength and diversification of our transportation service model.

During the second quarter, we retailed more than 130,000 new and used vehicles and our revenue increased overall 2.5% to 5.4 billion. Income from continuing operations increased 11.9% to 106 million and related earnings per share increased 10.8% to $1.23.

Our second quarter results were achieved despite the year-over-year currency headwinds, mainly driven by the British pound. The good news is that we reached the one year anniversary of the Brexit vote and the devaluation of Sterling. As a result, we expect the year-over-year foreign exchange pressure on our performance to mitigate as we go forward.

Foreign exchange reduced revenue by 216 million, income from continuing operations by 3.6 million and earnings per share by $0.04 during the second quarter. If you exclude the above, foreign exchange revenue would have increased 6.6% to 5.6 billion, a new record.

Income from continuing operations would have increased 15.7% to 109.6 million and related earnings per share would have increased 14.4% to $1.27. Our revenue was generated 94% through our retail automotive dealerships, 4% through our commercial truck operations and 2% from our operations in Australia and New Zealand.

The total revenue mix was 60% North America and 40% internationally. During the quarter, 77% of our income was derived from automotive retail, 6% from North American commercial truck dealerships and 17% from other, which includes Penske truck leasing and our Australia operations. And let's turn to the detail to our Q2 retail automotive business.

Total units retailed increased 13% to over 130,000 units and revenue increased 4.2% to 5.04 billion. On a same-store basis, retail units declined 1.9% and revenue declined 5.6. Excluding foreign exchange, same-store retail automotive rental declined 1.7%.

Same store units retailed were impacted by a 12% decline in unit sales in our Germany joint venture, primarily from the negative publicity surrounding diesel powered vehicles. Same store variable gross profit, which includes new vehicle, used vehicle and finance insurance gross profit, was $3,412, a unit representing a decline of $139.

However, excluding the foreign exchange, the variable gross profit increased $6 to $3,557. Variable gross profit for unit retail, excluding foreign exchange, increased to $49 when you exclude our German joint venture. Turning to new vehicles, new units retailed increased 2.8% but declined 3.4% on a same store basis.

Same store units declined 4.1% in the US and 2.2% internationally. Same store gross margin however increased 10 basis points to 7.9%. Same-store gross profit per unit retail increased $67 in the US, but declined 150 on a consolidated basis. However, when you exclude foreign exchange, the decline was only $27 per unit.

Decline on the same-store growth unit retail was also impacted by Germany. If you were to exclude Germany, the gross profit per unit retail would have increased $82 per unit when excluding foreign exchange. Our supply of new vehicles was 70 days at the end of June compared to 66 days last year.

Turning to the used vehicle part of our business, used vehicles retailed increased 25% and the used to new ratio improved to 1.04 to 1, mainly due to the acquisitions of CarSense and CarShop, which I'll discuss momentarily. Same store used units retailed were flat.

CPO, certified pre-owned, represented approximately 40% of our used unit sales in the US during the second quarter compared to 39% in the second quarter last year. Same-store gross profit for used retail declined $222 a unit or $154 if you exclude foreign exchange. Same store gross margin declined 60 basis points to 5.5%.

Our used vehicle supply was 44 days at the end of June compared to 43 at the end of last year. Same-store finance and insurance revenue increased $58 per unit. Excluding foreign exchange, same star finance and insurance increased $106 to $1198. Service and parts revenue increased 4.9% and gross margin increased 130 basis points.

Excluding foreign exchange, same0store service and parts increased 3.2%. As most of you know, we acquired standalone used vehicle supercenters in the US and the UK during the first quarter. We believe these used vehicle supercenters further diversify PAG's business and provide an opportunity to capitalize on the highly fragmented used vehicle market.

We also believe these businesses provide an unlimited white space for scalable expansion. We have plans to expand CarSense and CarShop operations into several new markets and continue to expect to double the number of locations within 24 months.

In the second quarter, our standalone supercenters retailed 11,125 vehicles, generating 193 million in revenue and 33 million in gross profit. The average transaction price was $14,344 and the variable gross profit was $2,379 per unit.

Turning to the retail commercial truck dealership business, for the three months ended June 30, 2017, our premier truck group retailed 1559 units, generating 229 million of revenue and 40 million of gross profit. In Q2, service and parts represented 75.8% of total gross profit and our fixed cost absorption ratio was 120%.

We continue to experience improved conditions in the used truck market place, including improved heavy duty truck utilization rates and the stabilization of used struck values and quicker inventory turns. In fact, the overall class 8 market is now forecasted to be much stronger this year that initially planned.

According to the July 2017 act, North American commercial vehicle outlook, Class 8 production forecasts have been raised to 250,000, which compares to a forecast of two 202,000 at the beginning of the year. We believe these improved conditions could lead to an improvement in class 8 truck sales and orders later this year.

Turning to Australia and our truck distribution and power system business, the second quarter revenue increased 9.8% to 113 million. We're generally experiencing improved condition in Australian truck market with heavy duty truck market sales up 18.8% over June of 2016 and volume for the year-to-date is up 13.8%.

In fact, June was a record month for commercial vehicle sales in Australia. Our market share of the products we distribute in Australia has increased 300 basis points compared to the same period last year. Looking at our balance sheet for a moment, we had 20.7 million of cash at the end of June.

Our floor plan debt was 3.5 billion and our non-vehicle debt was 2 billion. 28.6% of our floor plan on non-vehicle debt is at fixed rates, while the remaining 71.4 is variable. We had over 500 million in liquidity at the end of June. Our debt to capitalization ratio was 50% and our leverage ratio was 2.8 times on a trailing 12 month basis.

New and used automotive vehicle inventory was 3.2 billion, compared to 2.9 at the end of December. Approximately 35 million of our US inventory is currently on OEM stop sale, representing 1100 vehicles. New vehicles, 19 million or 300 units; used vehicle, 16 million or 800 units.

Capital expenditures in the first six months of this year were approximately 113 million, which includes 8 million of land purchases for future development. In closing, I want to thank the team for their efforts this past quarter as PAG produced another record quarter of results.

Our performance continues to demonstrate and reinforce the adaptability of our business to market conditions.

In fact as I continue to hear concerns about the flattening of the SAR and a slowdown in the new car market and about off-lease supply and used vehicle values, I want to remind everyone on this call about our strategic vision for our business. Although the SAR is important, our business is much more than just new vehicles.

We continue to build a different model that is about diversification and our model includes a $7 billion revenue international automotive business in the UK and Western Europe, a 1 billion North American heavy duty retail truck dealership group operating in North America, used car super stores in both the US and UK, our 23.4% ownership interest in Penske truck leasing, which provides substantial earnings and cash flow, the re-occurring revenue stream from service and parts to our businesses and produces nearly 45% of the total gross profit for our company and for the 25th consecutive quarter, our Board of Directors has increased the dividend we pay to our shareholders, representing a sector leading yield of 2.8%.

Couple the diversification of our business with a strong balance sheet that provides flexibility to be opportunistic within the marketplace to make acquisitions and share repurchases as we have demonstrated over the last 18 months. I believe PAG is a compelling investment opportunity.

Finally, I'd like to mention that 20 of our PAG dealerships in the United States were named this week, the Automotive News 100 best dealerships to work for in North America. PAG dealerships comprise 20% of the list and I like to offer my congratulations to every member of our team that made this achievement possible.

Again thanks for joining us for the call today and we'll turn it over to the operator. Thank you..

[Operator Instructions] First, we'll go to the line of James Albertine with Consumer Edge..

I wanted to ask on the used standalone initiative if I may. Thank you Tony for providing, there's some good data here in the slides.

Solid the variable gross per unit of almost 2400, wanted to ask you a little bit about where you're sourcing most vehicles from and how we should think about the trajectory of this business overall, whether it's going to be new locations or sort of growing around existing markets, just kind of how you can frame this maybe over the short to medium term? Thanks..

Well, I guess the first area would be approximately about 80% of these vehicles come from auctions here in the US. Then of course, we have trade and then we buy cars as CarMax does at the curb.

In the UK, we have contracts with certain leasing companies to perform sales on their off lease vehicles, which gives us a steady stream of vehicles on a consistent basis.

So we think that that will continue and with this big wave of used cars coming, as we look at 2018, 19 and 20, we think that there will be many off-lease vehicles that we can enter into maybe some other arrangements here in the US, also provide us an additional supply.

And our days' supply today is about 45 days in the US and it's under 40 days at CarShop in the UK..

Roger, if I may just a follow-up.

And is it fair to say that when you source a vehicle from auction, relative to buying it through either an appraisal liner or sourcing it internally otherwise, is it fair to say that auctioned vehicle will have a lower variable gross per unit and I guess my question is given the 80% mix, do you see his gross profit potentially moving higher over time as that mix shifts more toward internally generated vehicles?.

Well I think we have to say that auction prices on a daily basis demonstrate the real value of the vehicles. So, we have a number of buyers and they're out there looking at the marketplace. They have metrics that they're looking at certain models, certain colors and markets that have been selling. So they have a past history.

So they're prepared to pay a particular price for these vehicles and I think that we only buy the car if we want to fill in certain types of cars. In fact, I looked at some metrics during the week and it showed certain models that they were long on and certain models they were short.

So, they actually just don't buy cars, they buy specific models and obviously we have a mix of SUVs and trucks along with cars, but our customer is looking for a vehicle that's probably one to four years old, the average selling price in the US is 20,000.

So we have a pretty good mix of vehicles and to me, we're in a position to purchase many of these off lease vehicles that come in and the auctions today are ones that they offer this opportunity. There are some close auctions for dealerships and then obviously after that we have the open auction opportunity to buy those vehicles.

And then this helps us as we go forward, we manage our variable costs associated with these purchases..

And then last one if I can sneak one in, preferred purchase, your digital strategies in general, just hoping for a quick update or some highlights that you can provide on those initiatives?.

Well, everybody's talking about being able to purchase cars online and we have a technology tool, which our team has put together here over the last 12 months, called preferred purchase.

We've rolled it out to all of our dealerships at this point and we think that this is an opportunity to reduce the cycle time for customers to buy a vehicle and I think that the closing rate as we look at this probably is three times higher than a normal purchase.

And you, as a customer, can pick the vehicle, you can also supply your trade information, we'll give you a purchase price on your trade, you can look at a lease, you can look at a finance transaction and then you can call us obviously to complete it.

But it at this particular time, we see cycle time down and there's no question that from a CSI perspective that the people are very happy with this type of transaction. And to think about, our closing rate in June in fact was 24%.

So when we look at it overall, this is the same thing that people are talking about and we have it in place for every one of our dealership and I think that this will give us the ability to do this across all of our businesses and there's no question that we continue to enhance this to make it quicker and more transparent to the customer..

And next, we'll go to Rick Nelson of Stephens. Please go ahead..

I'd like to follow-up on the freestanding used car stores.

When you initially acquired CarSense and CarShop, you provided guidance of $0.07 to $0.09 accretion from each of those from carriers, how that is tracking relative to that expectation?.

I think we're right in line quite honestly and I think there's some upside to be honest with you. I've looked at this business now for the first three months, I was cautiously optimistic and I would say, I'm optimistic now as I look at it after six months, both in the US and the UK.

In fact the UK team is over here right now just trying to look at some of the best practices that we have here in the US. So our days supplier is low.

The ability to get vehicles and the one thing that you have to realize which we didn't know on this business was the compensation levels versus the normal dealership and our comp to gross is probably 10% in the standalone used car operation. We have no variable compensation.

It's unit based and salary and I think that's made a big difference from the standpoint of lower turnover and also from the standpoint of units per salesperson. The average salesperson per day at CarSense here in the US is selling about 23 cars. And if you look at the traditional automotive business, it's approximately 10.

So we also have 50% repeat referral we think on this business here in the US. I don't have those metrics for the UK, but we think it's scalable and we would expect to hope to double those businesses over the next 24 months..

Is there any thought given to integrating a captive finance business [indiscernible] that's what the model is, their used car models need?.

Well, I think if you look at CarMax, it is, bottom line, they have a big impact with their financing. They've done a terrific job. Right now, we're using third party financing and third party for the products that we sell.

I don't know that at the moment that we have the capital available to start a finance company, it's something we can look at once we have a history and maybe we get a partner to do something like that.

But the good news is it's an opportunity because we've seen the success that CarMax has, we just have to assess the risk on that if we go into that area, but I wouldn't say that's top of the list right now..

Finally, if I can ask you about the UK, the new car market, how you see that shaping up.

We had a big first, second quarter was some of the tax changes, how do you see the back end of the year and pushing forward?.

Well, I think what you have to do is look at the quarter. We, on a same store basis, announced we were down 2.4% on new, we were up 4.7% on used. So the total, we're up 1.1. And as you look at the market, it was down 10%, but if you look at it sequentially, April was down 19% following the pull ahead, May was down 9% and June was down 5%.

So March was up 8%. So there was definitely a pull ahead. I think that had some impact for us, but when you look at on a same-store revenue base, we were up 3% and from a gross perspective and I'm taking gross for new cars, used cars and parts and services, we were up 4.5%.

So looking at July, the first few days of July, as I look at the reports coming in, we are up both on new and used. So I think that we're back on track.

And remember the premium luxury, if you look at that business, it was 30% of the market down and if you go back 6 or 7 years, it 16 or 17 and we don't have a proliferation of dealerships when you look at premium luxury. So I think the bigger change in the market obviously would be on the volume floor in some of the local brands..

And we'll go to John Murphy with Bank of America Merrill Lynch. Please go ahead..

Just a first question here. I mean, it looks like you were able to hold grosses when we guess for currency on new vehicle sales much better than anybody else and obviously there is a lot of concern in the market.

I'm just curious what you're seeing as far as incentive activity and your ability to work with the automakers, the whole grosses and still put up decent volumes, because it seems to be a bit different than what we hear from other dealers..

Well, I think that when you - you have to look at our mix and we have 72% of our business, you know, is premium luxury, so we don't have the competitive situation that you have for the big three, in many cases in the volume front, and quite honestly, with leasing on the front end being 55% of our business, we are able to get a fairly strong gross margin and then if we hit our targets and you look at brands like Land Rover that you're getting almost 10,000, you're looking at Porsche up in that area.

We've got some brands where we have a number of dealerships really help us from that level and that to me is something we have to continue to manage.

On the flip side of that is the used side and the pressure that we've had on used, I would say has been driven because we're premium luxury and we have about 6000, what we call loaner cars are demonstrators for our customers here in the US and those cars have to come out between 4000 and 5000 miles because we want to be able to utilize the financing and lease products that are available for new cars.

We bring them out within 4000 or 5000 miles and so that has created a lower gross margin on the selling price because we have not depreciated them that much in that period of time. And to give an example and probably this is one thing that hurt us from a standpoint of margin on used, just in BMW alone, in the quarter, we were 1.5 to 1 used to new.

So that meant we sold 150 used BMWs versus 100. So - and that was because we would continue to turn this nearly new fleet.

So it's a little bit of a phenomenon, but it has had some impact on gross, but I think that overall, we're going to have to be better on buying our used cars, which I think we're going to learn through the CarShop, CarMax process and that's going to be, it is certainly a focus.

We've also done a better job when you look at our total gross, because our F&I is up both here in the US and overseas, which is a concentration on selling less products, but in a better value..

Okay. And then just maybe to follow-up on that Roger, I mean it looks like buyer estimates that more than 30 thirty new crossovers being launched in the next three years, a big chunk of those or actually a majority of those are coming on the premium luxury side.

I'm just curious, how much relief and help that will create in the market and how short you think some of these brands maybe still be on CUV nameplates as well as actual just pure volume relative to the market demands and what that might mean for your business in the next few years?.

Well, I can tell you in the Northeast, we've been whacked at Mercedes, because the Lexus dealers are sitting with NXs and RXs and we're just in short supply at trucks or SUVs and I think that that's going to give us some opportunity to get back some market share.

Obviously, is there going to be pressure on gross once all these manufacturers have these 30 new crossovers, is that going to change the dynamics of the market, I can't really tell you.

But again, with only 300 dealers typically with Mercedes, Lexus, Audi and BMW, the inter-brand competition is certainly a lot less and you have if you look at the thousands of dealers at the other makes have, so. And I think there's some discipline at least within those ranks.

Now we'll see as we go forward because when I look at gross profit, I'm looking at the complete gross profit between that front end and the finance and any other special bonus you get. When you look at volume foreign versus premium luxury, premium luxury is almost two times higher per until.

So that gives us a real opportunity to sustain our almost 8% margin on new vehicles..

And then just lastly, I mean it sounds like the used car business might be one great area for capital and diversification of the business but PTL is also doing fairly well.

And I'm just curious if you kind of update us where you are in many discussions on potentially buying the GE stake and how much of that is relative to what you own right now in PTL within inside PAG..

We have 23.4% right now and we want to grow that. We're going to assess the market here over the few months and see how we are from a business perspective. But our goal would be to take more ownership of that. We haven't decided how much at this point in the balance we're in discussion with GE now.

And that is reoccurring revenue stream, would get tax benefits that come with that and the cash on cash return on that probably is almost 20%. So it's a very strong as we look at this. So we see this as another piece of diversification of our model..

Next, we'll go to Brian Sponheimer with Gabelli. Please go ahead..

I wanted to kind of dig into the commercial vehicle business. The profit was better there's about $10,000 change in used truck values from revenue perspective and $8,000 on the growth side. But the units were down pretty considerably year-over-year that's a little different then we saw a rush today.

Can you speak to that Roger?.

On the unit side we showed units down but remember you talked about [indiscernible] a little different marketplace, we have the big fleets. And if you go back I don't if I mentioned it earlier or not, the truck estimates were 200,000 than the heavies at the beginning of the year, it's now just moving to 250,000.

So we're seeing a lot of the fleets that maybe were sitting on the sideline earlier in year and now have given us orders. So we see us meeting or beating our new truck volume of last year during 2017. And I think that they just held back purchases and that will be certainly a benefit to us.

We're holding margin, which is good on these trucks and the used truck has just turned 180 degrees because there was an oversupply of tractors probably 150,000, we know that's gone down because we've seen our rental business in Penske Truck Leasing go up because guys need more equipment, they go to rental.

So we see that as a good news from a used truck perspective. And on top of that, we've been able to go out and buy trucks now which we were getting ourselves out of trucks that maybe we're overvalued for the last twelve months which was impacting our gross profit. So we've turned a corner completely.

And when we look at our parts and service gross profit in that business, the gross profit was almost 76%. So overall I have a very good feeling on the commercial business. And the good news there is, there's a great opportunity for us to continue to purchase and expand in those businesses through acquisition.

We did the business up in Toronto, which is starting now to take hold and Damon themselves are pushing to have less owners and give larger scale opportunities to existing partners. So we would continue to make acquisitions in those markets and technically those are half the goodwill number as you'd see on the automotive side..

Just going back to the auto business, the real margin improvement in parts and service this quarter it's a second really, really third consecutive quarter where we've seen that. There anything structurally that makes the business more profitable than it's ever been in the past..

I handed it out to our guys, the West Coast team. Probably six, eight months ago we started looking at effective labor rate, we called ELR, you have a posted rate of a $120 and your actual effective rate might be 95.

So we're looking at reducing discounts and we've effectively done that during the first six months this year which has driven that higher gross margin on our retail business. And of course we get good margins on our warranty business and to me that's obviously good. We have of course used car reconditioning, the internal gives that margin.

So the model works with the new car dealer having the benefit of the parts and service them already and certainly the reconditioning. And I think that our warranty was up overall about 11%. So this is recalls which are helping us and we get you know we're getting the maximum margin on our parts business also during these recalls on warranty.

So that's a positive for us..

Next question is from Michael Ward with Seaport Global. Please go ahead..

Roger, I'm wondering if you can share your thoughts on the couple of topics. The first one relates to electrified vehicles and not just all electric vehicles but hybrids as well.

What do you think the implications are for the service out of the business for dealers if those vehicles do ultimately expand share of the market?.

Let's assume they do expand share. The model obviously, the downstream partner which is the dealer will be the one that has to handle the warranty. So that will continue to drive the customers back into the market or back into the dealerships. And today the electric market is about 2.9%. So it's going to be a long time before we see it 100%.

So to me Porsche is asking us now to change the outline of our bays and our shoppers are coming with a fully electric vehicle.

They're going to come to, we'll have the expertise and the mechanics and on top of that we'll have the parts, which obviously a third party someone maybe that we talk about that might be out there you know wanting to get into our business because of the franchise agreement, we'd have the captive parts and the train technician.

So I see obviously there is some ability to fly ashore change software through the year, but I think at some point we'll have to sit down with the OEMs and see if there is not a change in the franchise agreement if they're starting to do that, not with us but through direct buy by the OEMs.

So those will be things that we'll have to manage over the next several years..

Is the content for service bill higher for a hybrid than it would be say for internal combustion?.

I guess initially the complexity will be very interesting because we've seen you know battery technology on hybrids you know we run a lot of taxis in New York out of Hudson, Toyota, the Prius and those vehicles come in for batteries, there's big parts and service business there when you're replacing those batteries we see that.

There's an opportunity and there's no complex - question the complexity, but we will have an internal combustion engine might have more parts obviously than electric motor.

So there will be some less content there when you look at it, but overall when you're working on electric vehicle with battery, with a capability to have safe conditions and that will have to be able to reassess your service departments to do that sort of make an investment you'd expect to have that service be directed by the OEM..

Maybe tied into that, one of the pushback you here on the auto retailers is that Amazon like they're going to take over everything, but one of these people claim is that they're going to take over especially the service of auto retailing. I'm just wondering what your thoughts are on something like that..

Well, look I see Amazon as an operator that can buy things and very successfully through super logistics get items to the customers now. When you start to have to assess service requirements, you have to have service shops, you have to have trained technicians and you have to have franchise agreements to do warranty.

I think it's a long day before they're going to get into the service business time vehicles. Now you've got people like Icahn that have all the pep boys and other things like that that have service, but again they can't access some of the software and some of the things that we do, we get as franchise dealers.

And I think there is a long time before they'll see those people penetrating our business. I take my head off to Amazon probably to do what yourself suppliers are probably more a threat because of that Amazon can buy off brand parts that are not genuine and supply those in some of these older vehicles.

But to do it for me, I would have to say will be done by a franchised operator..

Sounds like both those trends will push more business into services side to the traditional dealers..

I certainly think so..

And next we'll go to David Lim with Wells Fargo. Please go ahead..

Just quickly, a lot of talk about the SAR and those different counts of whether it's going to be flattish, whether it's going to go down. Roger, what's your take on it.

I mean you've been in the industry quite a while, you've seen the ebbs and flows and credit impacts the SAR maybe next year and the year after I mean what your thoughts on the SAR going forward..

I guess I have to break the SAR into types of vehicles meaning manufacturers, luxury, buying and the big three. And I think that if you look at the market today and you look at inventories, it probably shows you as the big three have higher inventories than maybe the lion four in the luxury.

From a SAR perspective there's no question that the markets if you look at cycles, there will be cycles in any business. And I look at our business and said, what's the impact if the SAR went down 7% or 8% percent.

What kind of impact would it have on us and when you look at 150,000 new vehicles and if you took, you said 8% of those you would lose because the SAR went down. That's probably is 12,000 you take that times 4,000 per vehicle it's about 48 million. And then you take variable complex would be a third, so you're now down to 32 or 33.

And you look at that from an EPS perspective, it could hit us probably about $0.20 a share. So it's not - it's certainly meaningful, but it doesn't put us out of business, we can lower our people, cost probably take some managers out of it, goes down.

Remember on variable compensation, so we have the levers and I think the whole industry if you go even back to eight, nine, there was only one quarter we lost money because we were able to shift gears pretty quickly. So I think the industry not just Penske but the industry is very flexible.

And we operate with a variable compensation which will make a difference and we have the parts and service which obviously give us the opportunity to cover our fixed costs and there's no question that with the incentives that are out there, the manufacturers still have room to grow some incentives in order to mitigate maybe some consumer concerns on costs and there's a delta there today because there is some sort softness in used pricing.

But today you're looking at SUV at 63%, which has made a big difference and I think there's still some more room for that to grow. So I think when you look at the business year-to-date, we're about 8.5 million units, so we're still looking at close to 17.

So I'm thinking we'll see something probably in the high 16s next year, but I've never been one to be able to forecast properly. But I know what I have to do if it starts to deteriorate and I think that we were able to do that successfully..

Given the difficulties in leasing because of residual values and your luxury mix, are you seeing any kind of shift in incentive strategy from the luxury OEMs. And then a follow up question is and you may have already touched on this, your same store sales in the UK on used retail were really, really good.

Can you provide us with some additional color behind what drove that? Thanks..

Them let me take that question first that again is remember we have three registrations which turned into used cars and those are nearly new similar to your demonstrators and loners over here. And there was - it was an off registration quarter, so we saw a lot of those vehicles being sold as we reduced our inventory there.

So that's really - these are nearly new vehicles that were put into use to sell the same thing as we done over here. But the classification in the US they have to be sold as used cars.

So I think that there's no question when you look at premium luxury in the UK that they gain 280 basis points, so we have more used cars coming out there for in the industry. The first question was you asked about incentives by manufacturers on leasing.

The big question here is most of the manufacturers have been whacked because of the residuals they've put on [indiscernible].

So you've seen probably some pullback from the standpoint of where they set their residuals on the next vehicle there 2017 or 2018 and that is providing a little bit of sticker shock for someone that might had this just they had a vehicle that they had for $300 a month and now the same vehicle is 380 or 390.

So if they can move these incentives around where they put it onto a by zero financing or they can support leasing. So I think they've got a pretty good ability with the lever they are moving around. I think at the moment on the premium side. The northeast for some reason we feel has been a little softer for us in the premium side.

I don't know if that's the finance market or what it is, but I think we'll have to wait and see..

Our next question is from Brett Hoselton with KeyBanc. Please go ahead..

I just want to touch upon M&A and where you've seeing the best opportunities right now whether it be light vehicle, commercial vehicle, US, international and are you pretty aggressively continuing to pursue M&A at this time or valuations a little on the high side and you're kind of holding of it, what your thoughts there?.

I think we're looking at all the areas you talked about we're quite excited about this used car business. So we're going to be looking to see other smaller used car superstores that we could consolidate into under our brand in the future. Any part where we'd do business, certainly the heavy truck area is one that we're looking at.

We probably got two or three people that have contacted us that are interested and we continue on the automotive side. We have a number of these advisors out there, investment bankers that are covering the auto side that are calling us every day.

I would say that doesn't go by a week we do have four or five opportunities obviously some don't meet our requirements. So I'd say heavy truck. I'd say certainly there's no question when you look at the used cars.

And probably at the top of the list right now would be looking at there are Penske Truck Leasing to take a little more share of that because of the great returns we get from that.

We know that people, we know the business and that could be a great opportunity because it gives us some real fine tax benefits from the standpoint of that accelerated depreciation..

And then switching gears, thinking about the standalone used car operations, you're talking about expanding those.

How do we think about the expansion, are you basically going to replicate the stores, existing size and so forth in regions close by where they're currently located or is this something where you might jump into another states or even across the United States?.

Well, let's just look at one thing. Right now the used vehicle sales is 2.5 times new car, so let's say that's an opportunity. The cost of entry is significantly less than it is in a new car franchise, where you have to build a building with a certain CI. If you look at our stores here in the US, only one store has a showroom.

So you don't have any of those additional costs and we do have what the benefits are here that if you set it up properly, you get the parts and service business which is something that probably people don't remember, but I think that we're doing in the US about a million a month.

And parts and service gross profit already just in the stores that we have here. So I would say we would look to put in more stores in a market where we are already had some scale, they wouldn't cannibalize each other, but they'd be - we'd be able to get the benefit of the promotion and the advertising.

So to me there's a huge opportunity, 40 million units in the US as we go forward. So we would add new stores, we have some land available in markets and it will be a test for us. Can we take the people, the metric, the process and move it into a green field and that's something that we're going to attempt to do here over the next 12 months.

And then we'll also be looking I think internationally, are there any other smaller businesses that we could consolidate into ours because the car shop brand is very strong, they did 7,000 of our 11,000 units in the quarter. So they're going to almost 30,000, so they have a real good process. And we think that that brand is very strong also in the UK.

So I think we have to wait and see, but there is no question that the cash flow and the profitability out of these businesses is almost double what we get out of the US retail from return on sales..

And we'll go to David Whiston with Morningstar. Please go ahead..

Two questions, first is on electric and on the recent announcement by the UK, so they want to restrict by 2040. Just curious on your thoughts there in terms of, I'm not asking about 2040, I'm asking more about in the next few years.

Do you the UK consumer being willing to embrace hybrid and electric more than they are today even if gas stays, if oil prices stay low. And I guess I'm asking in both premium for the premium customer and for the volumes customer..

First, your question on 2040, I'll leave that probably to my successor, but I'm just kidding you. On a real basis look, the technology is certainly there, it's a vehicle, the zero emission is very important.

The cost today are certainly higher and you're getting the subsidy today from the standpoint of the government You look at Tesla when they get to 200,000 obviously it's a sea change for them from a gross profit perspective. I see the market continuing to grow because it's being mandated by the government.

And when you think about London and now you're talking about diesel is not being able to go into Frankfurt or Hamburg or Munich and places like that. Some of this is the emotion and some will ultimately come into fact from the standpoint of local regulation.

So there's no question that the manufacturers, all of them are spending money to be able to be in this business. And you look at the Chevy Volt, it's interesting vehicle. And as we go forward, I know Porsche is coming out with a very strong vehicle, e-Tron coming out here in the next several months.

And these vehicles will obviously in the premium end I think will be quite acceptable as you see Tesla with their Model S. Now my question is residual value. We've now taken a couple of test flows in, someone asked me the question, so I did a little homework on it.

We take test flows in on trade and we're looking at a significant impact on residual, $120,000 test flow that's less than three years old. And we are selling it for 50. So you start to look at depreciation on that somebody has to bear that that's the consumer.

So the total cost of ownership of these things is going to drive ultimately I think the volume and the penetration of these other than where you're mandated by the government..

And just a question on the quarter, on the new vehicle revenue per unit was down 5%, despite a mix shift in the US light trucks. I was just curious with that delta.

I imagine maybe some of that is driven by exchange but if not can you just talk about what's going on there with new vehicle pricing?.

I think, we were up 2% of revenue when you look at the US. So with this exchange, it's hard to get all the numbers, right. I wondered about that too, but the mix really is we look at SUVs probably long term will give us more revenue per unit due to the content in those as we go forward..

But you said the US was up 2% and company was down 5%?.

Correct..

And we'll go to Bill Armstrong with C.L. King & Associates. Please go ahead..

I want to if you can maybe talk a little bit about how trends are going in Texas. We're hearing some other dealers are still having some very weak results there.

What are seeing there?.

Well, I think if I look at Houston, Houston has been a tougher market for us. All we have in Houston are two Honda stores and on those stores at least one of them has had. It's been negative from our year-over-year. Our businesses in Austin are very good obviously the state capital and to me that's always been a very good market and also in Round Rock.

And we go out to West Texas. On [indiscernible] Midland Odessa for our truck business and quite honestly it's up significantly because a lot of the oil guys are bringing stuff back off the fence and looking for new equipment. So I think trucks had the same thing and what I understand today is that it's been good for them. So it's a mixed bag.

I can only say the Houston area from and automotive standpoint has been challenging..

And on the truck side, new truck sales are down and I think I heard you say, I just want clarify.

Even with the first half being down for your business, you still expect by the end of year that full-year class a truck sales should be higher than the year before then 2016?.

Yes, you heard it correctly. The fleets have been sitting on our hands and all of the sudden the truck demand, the loads have picked up and utilization is up. Even our rental business is almost touching 90%. That means if there is a requirement for equipment. So from our team, they feel good there is this timing on some of those orders.

And they think that they will now be, both of those in the back half of the year and should be able to meet or beat what we had last year. And of course the used truck business has turned around dramatically..

With the used truck here, gross profit for the unit was like $6,500.

Do you think that's sustainable, what should we be kind of looking at as a normalized GPU for used truck?.

I think - what we really had a couple good buys here, this ironically, we're in the market to buy trucks and we've able to buy trucks at have some fairly good prices and we aren't able to sell them because we were really for the last 12 months we were digging out of some commitments we had made on trade from some of the fleets.

And as the used truck prices went down, we had to sell those at a loss, which drove our margin down. But I think that the use truck pricing should be somewhere between $3,500 and $4,500 on a going forward basis would be a realistic number. Now I'm not looking at statistics to give you there but that's pretty much my gut feel..

And Mr. Penske, there are no further questions in queue..

All right thank you John, talk to you next quarter, thank you, bye, bye..

Thank you. And ladies and gentlemen, this does conclude your conference for today. Thank you for your participation, you may now disconnect..