Copart, Inc. — Fiscal 2017 Second-Quarter Form 10-Q Summary
Reporting period: Quarterly period ended January 31, 2017; comparisons are with the three and six months ended January 31, 2016, and balance-sheet comparisons are with July 31, 2016.
Business Context
Copart provides online vehicle auctions and remarketing services, primarily for insurance companies disposing of damaged or recovered-stolen vehicles. It operates in the United States and international markets, generally as an agent, while also conducting principal vehicle sales in the United Kingdom. Revenue is derived from seller and buyer fees, transportation and storage services, and vehicle sales.
Financial Results and Key Metrics
| Metric | Three Months Ended January 31, 2017 | Year-over-Year Change | Six Months Ended January 31, 2017 | Year-over-Year Change |
|---|---|---|---|---|
| Total revenue | $349.5 million | +16.6% | $695.5 million | +18.2% |
| Service revenue | $310.0 million | +19.1% | $617.1 million | +20.7% |
| Vehicle sales | $39.5 million | +0.5% | $78.4 million | +1.6% |
| Operating income | $108.9 million | +18.2% | $213.7 million | +19.8% |
| Operating margin | 31% | Comparable with prior year | 31% | Up from 30% |
| Net income | $66.1 million | +12.0% | $233.3 million | +109.1% |
| Diluted EPS | $0.56 | Up from $0.47 | $1.97 | Up from $0.89 |
Six-month net income benefited substantially from a $102.7 million excess tax benefit related to employee stock-option exercises. The six-month effective tax rate was negative 15.2%, compared with 35.7% in the prior-year period; the quarterly effective tax rate was 34.0%, compared with 35.6%.
Revenue growth was led by the United States, where six-month service revenue increased 22.6%. International service revenue increased 8.6% as reported, or approximately 23% excluding a $10.1 million foreign-currency headwind. Management attributed U.S. growth primarily to increased volume from new and expanded insurance contracts, growth from existing suppliers, higher total-loss frequency, and modestly higher revenue per vehicle.
Yard operations expense increased 19.9% in the quarter and 21.6% for six months, reflecting higher volume, increased processing costs, and depreciation from new and expanded facilities. General and administrative expense increased 16.5% in the quarter and 16.7% for six months, driven by professional services, payroll taxes associated with option exercises, tax adjustments, and depreciation of technology assets.
Cash Flow, Liquidity and Debt
- Cash provided by operating activities was $155.5 million for the six months, up from $83.3 million.
- Capital expenditures were $92.4 million, compared with $77.8 million in the prior-year period.
- Net cash used in investing activities was $93.1 million, compared with $98.5 million.
- Net cash used in financing activities was $40.3 million, compared with $291.9 million, primarily because the prior-year period included a $325.0 million tender-offer repurchase.
- Cash and cash equivalents increased to $175.0 million from $155.8 million at July 31, 2016. Approximately $133.8 million was held by foreign subsidiaries and management intends to permanently reinvest those funds outside the United States.
- Working capital increased to $313.3 million from $220.5 million.
- Revolving-facility borrowings were $310.0 million, up from $238.0 million. The facility had aggregate commitments of $850.0 million and matured July 21, 2021.
- Fixed-rate senior notes had a principal amount of $400.0 million, with maturities from 2024 through 2029. Total debt and capital lease obligations reported on the balance sheet were approximately $712.1 million, before considering cash.
- The consolidated total net leverage ratio was 1.06:1, minimum liquidity was $694.9 million, and the company was in compliance with its debt covenants.
Management stated that available cash and cash generated from operations should be sufficient for operating and working-capital requirements for at least the next 12 months, although additional borrowing or equity may be used to fund facility expansion and acquisitions.
Material Changes Versus the Prior Comparable Period
- Total revenue, service revenue and operating income increased at double-digit rates, supported mainly by U.S. volume growth.
- Operating margin improved for the six-month period to 31% from 30%, despite higher facility and processing costs.
- Net income and EPS increased sharply because of the discrete excess tax benefit from stock-option exercises; this benefit is not indicative of recurring operating performance.
- Foreign-currency movements, particularly the British pound, reduced international reported revenue and increased other expense.
- Copart opened or began operations at several new facilities, including locations in the United States, Germany, the United Kingdom, Spain and Ireland, increasing capital requirements and depreciation.
- The company did not repurchase shares under its regular repurchase program during the six months. It remitted $134.6 million for employee stock-based tax withholdings related to cashless option exercises.
Outlook, Risks, Contingencies and Unusual Items
- No formal revenue or earnings guidance was provided in the filing.
- Management expects continued facility development, expansion and potential acquisitions but noted that the timing and magnitude are not predictable. New-yard development costs can range from $1 million to $30 million per location.
- Results are affected by seasonality, weather, accident frequency, total-loss frequency, salvage and used-vehicle prices, commodity prices, seller supply, product mix, foreign exchange and facility capacity.
- The Georgia Department of Revenue issued a $96.1 million sales-tax assessment, including penalties and interest, relating to 2007–2011 operations. Copart has appealed the assessment, believes its sales were nontaxable sales for resale, and states that it has provided for its best estimate of the probable outcome. An adverse resolution could materially affect results and financial condition.
- Copart is involved in litigation with KPIT concerning a terminated enterprise-resource-planning implementation and related claims. Management believes any ultimate liability will not be material, but the outcome cannot be determined with certainty.
- The company faces risks from reliance on major vehicle sellers, international expansion and integration, foreign exchange, Brexit-related uncertainty, information-system implementation, cybersecurity, regulatory and environmental compliance, facility capacity, competition and adverse weather.
- Copart early adopted ASU 2017-01 during the quarter without a material impact. The company expects future lease accounting adoption to significantly increase reported assets and liabilities, while the potential impact of the new revenue standard remains under evaluation.
Investor Verification Checklist
- Separate recurring operating growth from the $102.7 million discrete tax benefit that drove the six-month earnings increase.
- Monitor U.S. vehicle volumes, insurance-seller contract wins, total-loss frequency and revenue per vehicle.
- Assess whether capital spending and new-yard openings generate adequate returns and maintain operating-margin performance.
- Review foreign-currency exposure, particularly the British pound, and the effect of international operations on reported growth.
- Track borrowings, interest costs, covenant headroom and the availability of the revolving facility.
- Follow the Georgia sales-tax appeal and compare the recorded provision with the $96.1 million assessment exposure.
- Evaluate the concentration and renewal terms of vehicle-seller relationships, as seller agreements may generally be cancelled on 30 to 90 days’ notice.