Lithia Motors, Inc. (LAD) Earnings

Management highlights

### Overall Quarterly Performance - The company delivered record Q2 2026 results with total revenues of $9.8 billion and adjusted diluted EPS of $10.03, up 9% year-over-year. Same-store revenues declined 1.6% and total gross profit declined 2.7% against a very tough comparison to an exceptionally strong Q2 2025, which management called resilient performance. - Total vehicle GPU rose to $4,119, up nearly $200 sequentially from Q1 2026, building momentum into the second half of the year. ### Cost Structure Optimization - Consolidated adjusted SG&A as a percentage of gross profit was 68.6%, a 290 basis point sequential improvement from Q1. Same-store SG&A declined in absolute dollars year-over-year, led by a nearly 3% reduction in personnel costs, marking the first month of year-over-year SG&A reduction in June. These are structural changes, not one-time cuts. - Cost reduction initiatives include combined roles across departments, multi-store leadership, remote work functions, back-office automation, vendor consolidation, and AI-powered productivity improvements. The company remains on track to hit its long-term target of sub-60% SG&A as a percentage of gross profit. - Pinewood AI's DMS and AI solutions are fully deployed across the 150-store UK platform, with the North American rollout scheduled for late 2026. The acquisition of Pinewood AI by Ridgeview Partners does not change strategic alignment, and the company expects a meaningful valuation gain on its existing Pinewood investment. Pinewood AI is projected to deliver large-scale cost savings, with up to 10x the UK savings potential in North America. ### Capital Allocation - Share repurchases remain the top capital allocation priority when shares trade below intrinsic value. The company repurchased $242 million of stock in Q2, retiring ~4% of outstanding shares, bringing the total share count reduction to 17% year-over-year. The dividend was raised 23% to 70 cents per share, reflecting confidence in durable cash generation. - Over the first half of 2026, the company completed acquisitions adding $765 million in revenue and divested $120 million in underperforming revenue to free up capital for higher-return uses. Acquisitions follow a disciplined framework targeting purchase prices of 15-30% of revenue or 3-6x normalized EBITDA, which has delivered >25% returns for over a decade above the 15% after-tax hurdle rate. ### Strategic Ecosystem Development - The company's diversified ecosystem model creates cross-segment reinforcement: customers financed through DFC become repeat after-sales customers and eventually provide trade-in inventory for used vehicles. - Electrified vehicles represented over 50% of new vehicle sales in Q2, the first time this milestone has been hit, with hybrids accounting for 46.5% of total new sales. This positions the company for long-term after-sales growth from new propulsion technology.

Guidance

- Management expects used vehicle GPU growth and SG&A efficiency improvements to continue into the second half of 2026, with the most difficult year-over-year comparisons now complete, positioning the company to deliver earnings leverage as volumes build. - DFC is expected to remain on a strong long-term growth trajectory toward its 20%+ penetration target; while Q2 2026 profitability around $35-$40 million is a new high, management expects normal seasonal headwinds in the second half but remains confident in hitting long-term goals. - The long-term target of sub-60% SG&A as a percentage of gross profit remains on track, with roughly half of the required cost savings expected to come from Pinewood AI implementation, which will roll out to North America by the end of 2026. - Used vehicle unit growth is forecast to be flat to mid-single digits in the second half of 2026, with 3-5% growth expected at existing stores, driven by untapped opportunity in the value vehicle segment. - Management reaffirmed the long-term target of $2 of earnings per share for every $1 billion of revenue. - Capital allocation will maintain a balanced approach: approximately one-third to share buybacks, one-third to M&A, and the remainder to dividends and internal organic investment, consistent with prior guidance.

Segment performance

1. New Vehicle: Same-store revenue declined 1.5% on 2.2% lower units, with GPU stable at $2,718 (flat sequentially QoQ), marking the third consecutive quarter of stable margins. Brand mix: Imports grew 5%, domestic declined 7%, luxury declined 4%. 2. Used Vehicle: Total gross profit grew 1.2% year-over-year. GPU rose $339 sequentially QoQ to $2,019, driven by successful AI-powered dynamic pricing. Used vehicles remain one of the company's highest return business segments. 3. F&I: GPU was consistent at $1,811, with total financing penetration rising 140 basis points. A portion of finance profit has shifted to DFC's captive platform, converting to higher-margin recurring income; adjusted for this shift, F&I continues to grow. 4. After Sales: It is the company's largest gross profit contributor, representing 42.2% of total gross profit with substantially lower SG&A than retail vehicle segments. Gross profit grew 3.1% year-over-year on 1% revenue growth, with margins expanding 120 basis points to 59.2%. Customer pay gross profit grew 2.6%, and warranty gross profit grew 5.4%. 5. Driveway Finance Corporation (DFC): Financing operations income reached $37 million for the quarter, more than doubling year-over-year profitability. Record originations hit $884 million, net interest margin expanded 20 basis points to 4.8%, and managed receivables crossed $5 billion. North American penetration reached 18%, up from prior levels and approaching the 20% long-term target. 6. UK Operations: Gross profit grew 12% year-over-year, adjusted pre-tax income rose 78%, and SG&A as a percentage of gross profit improved 200 basis points. Used vehicle gross profit grew nearly 33%, and new vehicle units grew 16% driven by expanded Chinese OEM partnerships.

Risks & headwinds

- Forward-looking results are subject to general macroeconomic conditions, which can impact new vehicle GPU stability and consumer demand for vehicle purchases and service. - DMS system transition and Pinewood AI rollout could potentially cause operational disruption, though management has taken steps to minimize this risk based on prior successful transitions and full deployment in the UK. - Higher than expected cost inflation or slower than expected productivity gains from AI and cost restructuring could delay achievement of the sub-60% SG&A target. - Expansion of Chinese OEM brands in North America carries high upfront capital costs with no near-term after-sales revenue to offset fixed costs, making early adoption risky for the company. - Intensifying competition in the used vehicle and after-sales markets could pressure margins and market share.

Analyst Q&A

• Q: How much of the UK's 200 basis point SG&A improvement came from Pinewood AI, and can we expect similar benefits from the upcoming US rollout? /

  A: Half of the UK's SG&A improvement is driven by Pinewood AI. The full 150-store UK deployment was completed smoothly, with only ~10 remaining adjustments to fully activate all AI capabilities after ~150 fixes were completed in prior quarters. The UK is on track to capture 223,500 hours of annualized labor savings by end of 2023. Since the US has 10x the UK's cost base, the read-through for US cost savings is large, and Pinewood will be a key catalyst to hit the sub-60% SG&A target.

• Q: Is DFC's Q2 profitability around $37 million a new sustainable benchmark, and what drove the lower-than-expected credit provision this quarter? /

  A: DFC's Q2 results validate the strength of its scale, cost of funding improvements, and disciplined top-of-funnel underwriting. While there is normal seasonality that will impact second half results, the strong profitability trajectory is expected to continue. The lower provision reflects better-than-expected credit performance: 30+ day delinquency improved 12-20% year-over-year across all credit buckets, while industry delinquency was flat. There was only a small immaterial reserve adjustment, and the strong credit profile is structural from consistent underwriting.

• Q: Much of the Q2 SG&A improvement was sequential. How much came from volume leverage versus permanent cost cuts, and is this improvement sustainable? /

  A: Same-store volumes were actually down slightly sequentially, so almost all of the sequential improvement comes from permanent structural cost cuts rather than volume leverage. Key cost reductions come from combined department leadership roles, growing adoption of remote F&I that cuts labor costs and improves customer convenience, and large procurement savings from contract renegotiations at the company's current scale. North American SG&A hit 66.2% in Q2, returning Lithia to the lowest SG&A position among North American auto retailers for the first time in a decade, with strong sequential improvement in year-over-year SG&A trends over the last three quarters.

• Q: What should we expect for disruption during the North American Pinewood AI rollout, compared to the disruptions seen at peer group rollouts? /

  A: Disruption is expected to be minimal, because Pinewood is already fully deployed and operating across 150 UK stores, so all transition kinks have already been worked out. The company has decades of experience transitioning DMS systems, with typical transitions taking just 3 days of downtime and a 3-week tail to full operation. Pinewood was built by auto retail industry veterans to meet retailer needs, and the company owns a large stake in the business, leading to a smooth transition. The rollout is expected to deliver 20-50% lower overall technology stack costs after transition is complete.