The following discussion should be read in conjunction with Part I, including matters set forth in the "Risk Factors" section of this Form 10-K, and our Consolidated Financial Statements and notes thereto included in Part II, Item 8 of this Form 10-K.

Certain reclassifications of amounts previously reported have been made to the accompanying Consolidated Financial Statements in order to maintain consistency and comparability between periods presented.

Except to the extent that differences among operating segments are material to an understanding of our business taken as a whole, we present the discussion in Management's Discussion and Analysis of Financial Condition and Results of Operations on a consolidated basis.

Overview

AutoNation, Inc., through its subsidiaries, is the largest automotive retailer in the United States. As of December 31, 2008, we owned and operated 302 new vehicle franchises from 232 stores located in major metropolitan markets, predominantly in the Sunbelt region of the United States. Our stores, which we believe include some of the most recognizable and well known in our key markets, sell 37 different brands of new vehicles. The core brands of vehicles that we sell, representing approximately 96% of the new vehicles that we sold in 2008, are manufactured by Toyota, Ford, Honda, Nissan, General Motors, Daimler, BMW, and Chrysler.

We offer a diversified range of automotive products and services, including new vehicles, used vehicles, parts and automotive repair and maintenance services, and automotive finance and insurance products. We also arrange financing for vehicle purchases through third-party finance sources. We believe that the significant scale of our operations and the quality of our managerial talent allow us to achieve efficiencies in our key markets by, among other things, leveraging our market brands and advertising, improving asset management, implementing standardized processes, and increasing productivity across all of our stores.

As of December 31, 2008, we had three operating segments: Domestic, Import, and Premium Luxury. Our Domestic segment is comprised of retail automotive franchises that sell new vehicles manufactured by General Motors, Ford, and Chrysler. Our Import segment is comprised of retail automotive franchises that sell new vehicles manufactured primarily by Toyota, Honda, and Nissan. Our Premium Luxury segment is comprised of retail automotive franchises that sell new vehicles manufactured primarily by Mercedes, BMW, and Lexus. The franchises in each segment also sell used vehicles, parts and automotive repair and maintenance services, and automotive finance and insurance products. See "Segment Results" below and Note 21 of the Notes to Consolidated Financial Statements for additional information regarding our operating segments.

For the year ended December 31, 2008, new vehicle sales account for approximately 55% of our total revenue, but approximately 22% of our total gross margin. Our parts and service and finance and insurance operations, while comprising approximately 21% of total revenue, contribute approximately 65% of our gross margin.

We had a net loss from continuing operations of $1.2 billion and diluted loss per share of $6.89 in 2008, as compared to net income from continuing operations of $288.7 million and diluted earnings per share of $1.44 in 2007. The 2008 results were impacted by a non-cash goodwill impairment charge of $1.61 billion ($1.37 billion after-tax), non-cash franchise impairments of $146.5 million ($90.8 million after-tax), a favorable tax adjustment of approximately $35 million, and a gain on senior note repurchases of $51.3 million ($31.5 million after-tax). See further discussion of these items in Note 5, 7, and 11 of the Notes to Consolidated Financial Statements. The 2007 results included favorable tax adjustments of $12.0 million.

Market Challenges

Our results of operations for 2008 reflected a challenging and volatile automotive retail market impacted by the unfavorable economic conditions in the United States, including the continued turbulence in the credit and housing markets. Volatility in fuel prices impacted consumer preferences and caused dramatic swings in consumer demand for various vehicle models, which led to supply and demand imbalances. Additionally, tight credit conditions limited the ability of some of our customers to purchase vehicles as well as finance and insurance products. In the fourth quarter of 2008, the seasonally adjusted annual rate ("SAAR") of new vehicle sales in the United States was 10.3 million. In comparison, full-year U.S. industry new vehicle sales were 13.2 million in 2008 and 16.1 million in 2007. Industry analysts expect that the 2009 SAAR will be in the range of 11 million new vehicle units with weakness in the first half of the year. Based on these expectations, we believe that we will be able to manage within all financial covenants in our debt agreements. See "Liquidity and Capital Resources - Restrictions and Covenants" below.

While the domestic manufacturers have underperformed relative to their import and premium luxury competitors over the past several years, the performance gap widened in 2008, due in part to the unfavorable economic conditions in the United States, which disproportionately impacted the domestic manufacturers. Recent government assistance has been provided to certain domestic manufacturers, but the future viability of some or all of the domestic manufacturers may be dependent on additional government assistance. The bankruptcy of one or more of the domestic manufacturers could have a material adverse effect on us. For example, the manufacturers could attempt to terminate our floorplan financing and all or certain of our domestic franchises, we may be unable to collect accounts receivable from the manufacturers, and we may be required to incur impairment charges with respect to the inventory, fixed assets, and intangible assets related to our domestic franchises. At December 31, 2008, we had approximately $49.3 million in accounts receivable, $768.1 million of inventory, $721.8 million of fixed assets, and $178.3 million of goodwill and other intangible assets related to our domestic franchises. Additionally, there are uncertainties surrounding the potential impact of a domestic manufacturer bankruptcy, such as the impact on warranties provided to vehicle purchasers and the availability of parts and services needed to maintain and repair vehicles. As a result, the impact of such a bankruptcy on our financial condition and results of operations is not determinable at this time. See the risk factor "We are dependent upon the success and continued financial viability of the vehicle manufacturers and distributors with which we hold franchises" in Part I, Item 1A of this Form 10-K.

As part of our continuing response to the ongoing market challenges, in July 2008, we announced a cost reduction plan with a targeted annualized run-rate savings of approximately $100 million. In the fourth quarter of 2008, in response to the turmoil in the credit markets and the related impact on the automotive retail market, we expanded our cost reduction plan and implemented additional actions that enabled us to reduce our annualized costs by an additional $100 million. Accordingly, at December 31, 2008, we had reduced our costs by approximately $200 million on an annualized run-rate basis.

Inventory Management

Our new and used vehicle inventories are stated at the lower of cost or market in our consolidated balance sheets.

We have generally not experienced losses on the sale of new vehicle inventory, in part due to incentives provided by manufacturers to promote sales of new vehicles and our inventory management practices. We reduced our new vehicle inventory to 54,074 units at December 31, 2008, from 60,832 units at December 31, 2007. Although we focus on managing our inventory levels in accordance with consumer demand, we believe we must maintain a minimum level of inventory at our lower volume stores that is representative of the full line of vehicles offered by manufacturers. This may result in a higher days supply of inventory than would otherwise result if we were in a better economic environment. However, given our inventory management practices (such as managing our inventory purchases based on our sales forecasts and sharing inventory among stores within a local market), we do not believe the current business climate is likely to result in material impairment charges related to new vehicle inventory (subject to the risks noted in "Market Challenges"

above). We continue to monitor our new vehicle inventory levels closely based on current economic conditions and will adjust them as appropriate.

In general, used vehicles that are not sold on a retail basis are liquidated at wholesale auctions. We record estimated losses on used vehicle inventory expected to be liquidated at wholesale auctions at a loss. Our used vehicle inventory balance was net of cumulative write-downs of $1.7 million at December 31, 2008, and $2.0 million at December 31, 2007.

Parts, accessories, and other inventory are carried at the lower of acquisition cost (first-in, first-out method) or market. We estimate the amount of potential obsolete inventory based upon past experience and market trends. Our parts, accessories, and other inventory balance was net of cumulative write-downs of $6.3 million at December 31, 2008, and $5.8 million at December 31, 2007.

Critical Accounting Policies and Estimates

We prepare our Consolidated Financial Statements in conformity with accounting principles generally accepted in the United States, which require us to make estimates and assumptions that affect the reported amounts of assets and liabilities, the disclosure of contingent assets and liabilities at the date of the financial statements, and the reported amounts of revenue and expenses during the reporting period. We evaluate our estimates on an ongoing basis and we base our estimates on historical experience and various other assumptions we believe to be reasonable. Actual outcomes could differ materially from those estimates in a manner that could have a material effect on our Consolidated Financial Statements. Set forth below are the policies and estimates that we have identified as critical to our business operations and an understanding of our results of operations, based on the high degree of judgment or complexity in their application.

Goodwill and Other Intangible Assets

Goodwill and franchise rights assets are tested for impairment annually or more frequently when events or circumstances indicate that impairment may have occurred. As discussed in Note 5 of the Notes to Consolidated Financial Statements, during 2008, we recorded $1.61 billion ($1.37 billion after-tax) of non-cash goodwill impairment charges and $146.5 million ($90.8 million after-tax) of non-cash impairment charges related to franchise rights intangible assets. Despite these impairment charges, as of December 31, 2008, we were in compliance with the requirements of all applicable financial covenants under our debt agreements, as further discussed below in "Liquidity and Capital Resources - Restrictions and Covenants."

As a result of the change in our operating segment structure described in Note 21 of the Notes to Consolidated Financial Statements, we were required to reassess the reporting units to which goodwill is assigned for goodwill impairment testing purposes. This reassessment resulted in a conclusion that our reporting units were comprised of three operating segments: Domestic, Import, and Premium Luxury.

We are required to complete interim tests for impairment of goodwill and other intangible assets when events occur or circumstances change between annual tests that indicate that the assets might be impaired. We continue to face a challenging automotive retail environment and an uncertain economic environment in general. As a result of these conditions, there can be no assurance that an additional material impairment charge will not occur in a future period. We will continue to monitor events in future periods to determine if additional asset impairment testing should be performed. If we are required to apply the second step of the goodwill impairment test to the goodwill in any of our three reporting units in future periods, we believe that we could incur another significant non-cash impairment charge related to goodwill, which could have a material adverse impact on our consolidated financial statements and on our ability to satisfy the financial ratios or other covenants under our debt and other agreements.

The goodwill impairment analysis is dependent on many variables used to determine fair value of the Company overall and the fair value of the Company's assets and liabilities. Please see Note 5 of the Notes to Consolidated Financial Statements for a description of the valuation methods and related estimates and assumptions used in our impairment testing. The complexity of the analysis does not permit a simplistic determination of the impact of changes in assumptions. We believe that the most significant impact of a

change in the assumptions used in determining our goodwill impairment as of September 30, 2008, would have related to the amount of impairment associated with our domestic reporting unit, and that a relatively small change in assumptions could have resulted in two potentially different outcomes: 1) if the assumptions used (primarily regarding expected future cash flows) were slightly more favorable, we would possibly not have impaired the goodwill associated with our domestic reporting unit, or 2) if the assumptions used had been slightly less favorable, it is possible we would have concluded that most, if not all, of the goodwill associated with the domestic reporting unit would have been impaired. This discussion is not intended to address all potential outcomes that could have resulted if different assumptions had been used in determining our goodwill impairment given the number of assumptions used in determining the impairment and the degree of sensitivity in the determination of the fair value of the Company and its assets and liabilities to changes in such assumptions. We would have been in compliance with the financial covenants in our debt agreements even if we had impaired all of the goodwill associated with our domestic reporting unit.

We estimate the fair value of franchise rights primarily using a discounted cash flow ("DCF") model. The forecasted cash flows used in the DCF model contain inherent uncertainties, including significant estimates and assumptions related to growth rates, margins, working capital requirements, capital expenditures, and cost of capital, for which we utilize certain market participant-based assumptions, using third-party industry projections, economic projections, and other marketplace data we believe to be reasonable.

We are subject to financial statement risk to the extent that our franchise rights become impaired due to decreases in the fair value of the related underlying business. The risk of a franchise rights impairment loss may increase to the extent that a store's earnings or projected growth rates decline.

Our franchise rights, which related to 19 franchises and totaled $173.9 million at December 31, 2008, are evaluated on a franchise-by-franchise basis. We recorded impairment charges of $146.5 million during 2008 related to rights under certain franchise agreements. If the fair value of each of our franchise rights had been determined to be a hypothetical 10% lower as of the valuation date of September 30, 2008, the resulting incremental charge would have been less than $17.4 million.

Long-Lived Assets

We estimate the depreciable lives of our property and equipment, including leasehold improvements, and review them for impairment when events or circumstances indicate that their carrying amounts may be impaired. We periodically evaluate the carrying value of assets held for sale to determine if, based on market conditions, the values of these assets should be adjusted. Although we believe our property and equipment and assets held for sale are appropriately valued, the assumptions and estimates used may change and we may be required to record impairment charges to reduce the value of these assets.

During 2008, we recorded $7.2 million of non-cash impairment charges related to our property and equipment, including property held for sale, to reduce the value of these assets to fair market value. These charges are recorded as a component of Other Expenses (Income), Net in the Consolidated Income Statements.

Chargeback Reserve

Revenue on finance and insurance products represents commissions earned by us for: (i) loans and leases placed with financial institutions in connection with customer vehicle purchases financed and (ii) vehicle protection products sold. We primarily sell these products on a straight commission basis; however we also participate in future underwriting profit on certain extended service contracts pursuant to retrospective commission arrangements, which are recognized as earned.

We may be charged back for commissions related to financing, insurance, or vehicle protection products in the event of early termination of the contracts by customers ("chargebacks"). These commissions are recorded at the time of the sale of the vehicles, net of an estimated liability for chargebacks.

We estimate our liability for chargebacks on an individual product basis using our historical chargeback experience, based primarily on cancellation data we receive from third parties that sell and administer these

products. Our estimated liability for chargebacks totaled $61.0 million at December 31, 2008, and $62.5 million at December 31, 2007.

Chargebacks are influenced by increases or decreases in early termination rates resulting from cancellation of vehicle protection products, defaults, refinancings, payoffs before maturity, and other factors. While we consider these factors in the estimation of our chargeback liability, actual events may differ from our estimates, which could result in a change in our estimated liability for chargebacks. A 10% change in our estimated chargebacks would have changed our estimated liability for chargebacks at December 31, 2008, by approximately $6.1 million.

See "Finance and Insurance" below and Note 20 of the Notes to Consolidated Finance Statements for further information regarding chargeback liabilities.

Revenue Recognition

Revenue consists of the sales of new and used vehicles, commissions from related finance and insurance products, sales of parts and services, and sales of other products. We recognize revenue in the period in which products are sold or services are provided. We recognize vehicle and finance and insurance revenue when a sales contract has been executed, the vehicle has been delivered, and payment has been received or financing has been arranged. Rebates, holdbacks, floorplan assistance, and certain other dealer credits received from manufacturers are recorded as a reduction of the cost of the vehicle and recognized into income upon the sale of the vehicle or when earned under a specific manufacturer program, whichever is later.

Income Taxes

Accounting for our income taxes requires significant judgment in the evaluation of our uncertain tax positions and in the calculation of our provision for income taxes. Effective January 1, 2007, we adopted Financial Accounting Standards Board ("FASB") Financial Interpretation No. 48, Accounting for Uncertainty in Income Taxes - an interpretation of FASB Statement No. 109 ("FIN 48"). FIN 48 contains a two-step approach to recognizing and measuring uncertain tax positions. The first step is to evaluate available evidence to determine if it appears more likely than not that an uncertain tax position will be sustained on an audit by a taxing authority, based solely on the technical merits of the tax position. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon settling the uncertain tax position.

Although we believe we have adequately reserved for our uncertain tax positions, the ultimate outcome of these tax matters may differ from our expectations. We adjust our reserves in light of changing facts and circumstances, such as the completion of a tax audit, expiration of a statute of limitations, the refinement of an estimate, and interest accruals associated with uncertain tax positions until they are resolved. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will impact the provision for income taxes in the period in which such determination is made. Our unrecognized tax benefits were reduced by approximately $35 million (net of tax effect) as a result of the expiration of a statute of limitations in October 2008.

Our future effective tax rates could be affected by changes in our deferred tax assets or liabilities, the valuation of our uncertain tax positions, or by changes in tax laws, regulations, accounting principles, or interpretations thereof.

Other

Additionally, significant estimates have been made by us in the accompanying Consolidated Financial Statements including allowances for doubtful accounts, accruals related to self-insurance programs, certain legal proceedings, estimated losses from disposals of discontinued operations, and certain assumptions related to determining stock-based compensation.

Reported Operating Data


                                                                                               Years Ended December 31,
                                                                                          2008 vs. 2007                                        2007 vs. 2006
                                                                                    Variance                                             Variance
                                                                                   Favorable/             %                             Favorable/             %
                                                    2008            2007          (Unfavorable)        Variance          2006          (Unfavorable)        Variance
($ in millions, except per vehicle data)

Revenue:
New vehicle                                      $  7,756.2      $ 10,014.3      $      (2,258.1 )         (22.5 )    $ 10,756.0      $        (741.7 )          (6.9 )
Used vehicle                                        3,364.5         4,139.9               (775.4 )         (18.7 )       4,302.5               (162.6 )          (3.8 )
Parts and service                                   2,465.2         2,539.9                (74.7 )          (2.9 )       2,476.9                 63.0             2.5
Finance and insurance, net                            482.6           584.3               (101.7 )         (17.4 )         611.0                (26.7 )          (4.4 )
Other                                                  63.4            68.1                 (4.7 )          (6.9 )          72.1                 (4.0 )          (5.5 )

Total revenue                                    $ 14,131.9      $ 17,346.5      $      (3,214.6 )         (18.5 )    $ 18,218.5      $        (872.0 )          (4.8 )

Gross profit:
New vehicle                                      $    510.9      $    709.1      $        (198.2 )         (28.0 )    $    790.1      $         (81.0 )         (10.3 )
Used vehicle                                          278.4           352.0                (73.6 )         (20.9 )         390.7                (38.7 )          (9.9 )
Parts and service                                   1,071.8         1,108.8                (37.0 )          (3.3 )       1,088.2                 20.6             1.9
Finance and insurance                                 482.6           584.3               (101.7 )         (17.4 )         611.0                (26.7 )          (4.4 )
Other                                                  35.8            39.1                 (3.3 )          (8.4 )          40.6                 (1.5 )          (3.7 )

Total gross profit                                  2,379.5         2,793.3               (413.8 )         (14.8 )       2,920.6               (127.3 )          (4.4 )
Selling, general, and administrative expenses       1,813.8         1,999.8                186.0             9.3         2,057.9                 58.1             2.8
Depreciation and amortization                          90.8            90.3                 (0.5 )                          80.0                (10.3 )
Goodwill impairment                                 1,610.0               -             (1,610.0 )                             -                    -
Franchise rights impairment                           146.5             2.2               (144.3 )                             -                 (2.2 )
Other expenses (income), net                           13.2            (0.4 )              (13.6 )                          (0.2 )                0.2

Operating income (loss)                            (1,294.8 )         701.4             (1,996.2 )            NM           782.9                (81.5 )         (10.4 )
Floorplan interest expense                            (87.4 )        (129.0 )               41.6                          (132.5 )                3.5
Other interest expense                                (89.4 )        (114.1 )               24.7                           (90.8 )              (23.3 )
Other interest expense - senior note
repurchases                                               -               -                    -                           (34.5 )               34.5
Gain on senior note repurchases                        51.3               -                 51.3                               -                    -
Interest income                                         2.2             3.4                 (1.2 )                           8.3                 (4.9 )
Other gains (losses), net                              (4.6 )          (1.3 )               (3.3 )                           4.7                 (6.0 )

Income (loss) from continuing operations
before income taxes                              $ (1,422.7 )    $    460.4      $      (1,883.1 )            NM      $    538.1      $         (77.7 )         (14.4 )

Retail vehicle unit sales:
New vehicle                                         255,843         322,849              (67,006 )         (20.8 )       354,938              (32,089 )          (9.0 )
Used vehicle                                        181,281         201,175              (19,894 )          (9.9 )       213,199              (12,024 )          (5.6 )

                                                    437,124         524,024              (86,900 )         (16.6 )       568,137              (44,113 )          (7.8 )

Revenue per vehicle retailed:
New vehicle                                      $   30,316      $   31,019      $          (703 )          (2.3 )    $   30,304      $           715             2.4
Used vehicle                                     $   15,665      $   16,432      $          (767 )          (4.7 )    $   16,129      $           303             1.9
Gross profit per vehicle retailed:
New vehicle                                      $    1,997      $    2,196      $          (199 )          (9.1 )    $    2,226      $           (30 )          (1.3 )
Used vehicle                                     $    1,583      $    1,745      $          (162 )          (9.3 )    $    1,829      $           (84 )          (4.6 )
Finance and insurance                            $    1,104      $    1,115      $           (11 )          (1.0 )    $    1,075      $            40             3.7
. . .