Copart, Inc. Form 10-Q Summary
Business context and reporting period
Copart provides online vehicle auctions and remarketing services through its VB3 platform. Its customers are primarily insurance companies, while buyers include dismantlers, rebuilders, dealers, exporters and, at certain locations, the general public. Operations span North America, the U.K., Brazil, the Middle East, India, Germany and Spain. The unaudited filing covers the three and six months ended January 31, 2016, Copart’s fiscal second quarter and first six months of fiscal 2016.
Key financial metrics
| Metric | Three months ended Jan. 31, 2016 | Year-over-year change | Six months ended Jan. 31, 2016 | Year-over-year change |
|---|---|---|---|---|
| Total revenue | $299.7 million | 8.5% | $588.5 million | 3.9% |
| Service revenue | $260.4 million | 9.2% | $511.4 million | 5.4% |
| Vehicle sales | $39.3 million | 4.1% | $77.2 million | (5.3%) |
| Operating income | $92.1 million | 14.4% | $178.3 million | 9.5% |
| Operating margin | 30.7% | Approximately 160 bps higher | 30.3% | Approximately 100 bps higher |
| Net income | $59.0 million | 13.0% | $111.4 million | 6.3% |
| Net margin | 19.7% | Approximately 80 bps higher | 18.9% | Approximately 40 bps higher |
| Diluted EPS | $0.48 | 20.0% | $0.90 | 12.5% |
Revenue growth was driven primarily by higher vehicle volume, particularly from existing North American suppliers and increased U.K. market share. Lower average auction selling prices, lower commodity prices, foreign exchange and vehicle mix partially offset volume growth. More than 50% of service revenue is associated in some manner with the ultimate vehicle selling price.
- Operating expenses increased 6.0% in the quarter and 1.6% year to date. Yard operations increased with volume, while general and administrative expense declined due primarily to lower technology-development spending.
- Interest expense increased to $5.6 million in the quarter and $11.3 million for the six months, primarily because of additional debt issued in December 2014.
- Effective tax rates were 35.6% for the quarter and 35.7% year to date, compared with 34.8% and 35.4%, respectively, in the prior-year periods.
- Operating cash flow was $83.1 million for the six months, compared with $88.9 million in the prior year. Capital expenditures were $77.8 million, approximately double the prior-year amount.
- Cash used in investing activities was $98.5 million, including capital expenditures and $21.1 million of marketable-security purchases. Financing cash outflow was $291.7 million, including the $325.0 million tender offer and $37.5 million of debt principal payments.
Financial position, debt and liquidity
| Balance-sheet item | Jan. 31, 2016 | July 31, 2015 |
|---|---|---|
| Cash and cash equivalents | $141.4 million | $456.0 million |
| Marketable securities | $17.5 million | None reported |
| Working capital | $241.7 million | $521.5 million |
| Total assets | $1.604 billion | $1.800 billion |
| Total liabilities | $873.0 million | $835.5 million |
| Stockholders’ equity | $731.4 million | $964.5 million |
Debt carrying amounts totaled approximately $675.7 million, consisting of $206.3 million under the term loan, $68.0 million under the revolving facility and approximately $411.8 million of fixed-rate senior notes. The senior notes total $400.0 million of principal and mature from 2024 through 2029. The term loan and revolver mature December 3, 2019. The variable-rate debt bore one-month LIBOR plus a 1.25% margin at January 31, 2016. The company was in compliance with its debt covenants.
Cash and marketable securities totaled approximately $158.9 million, implying approximately $516.8 million of net debt based on carrying amounts. Management stated that available cash and operating cash flow should satisfy operating and working-capital requirements for at least the next 12 months. However, $100.4 million of cash was held by foreign subsidiaries and management intends to permanently reinvest those funds outside the United States.
Material changes versus the prior comparable period
- Six-month revenue increased 3.9%, with service revenue up 5.4% but vehicle sales down 5.3%.
- Six-month operating income increased 9.5%, supported by operating leverage and lower general and administrative costs.
- Six-month net income increased 6.3%, despite higher interest expense and a modestly higher effective tax rate.
- Cash declined by $314.6 million from July 31, 2015, primarily because of the tender offer, capital expenditures and debt repayments.
- Copart completed a modified Dutch auction tender offer on December 30, 2015, purchasing 8,333,333 shares at $39.00 per share for $325.0 million. The filing states that the offer was initially for up to 7,317,073 shares.
- Copart opened a greenfield facility in Sonepat, India, in October 2015. No acquisitions occurred during the six months ended January 31, 2016.
- The company’s two interest-rate swaps expired in December 2015.
- Foreign currency translation produced a $30.9 million loss in other comprehensive income for the six months, and available-for-sale securities had a $3.6 million net unrealized loss at January 31, 2016.
Outlook, commentary, risks and unusual items
The filing does not provide formal revenue or earnings guidance. Management expects to continue acquiring and developing facilities, expanding capacity and pursuing seller agreements, but stated that additional debt or equity financing may be required to fund future expansion. Winter seasonality typically increases vehicle processing volumes by 10% to 30%, while weather, salvage frequency, commodity prices, used-car values, foreign exchange and vehicle mix can materially affect results.
- Georgia sales-tax assessment: The Georgia Department of Revenue issued a $96.1 million assessment for alleged sales taxes, penalties and interest relating to 2007–2011 operations. Copart appealed to the Georgia Tax Tribunal, believes it has strong defenses and states that it has adequately provided for the probable outcome. An adverse resolution could materially affect results and financial condition.
- Legal proceedings: Copart is pursuing and defending claims involving the terminated KPIT enterprise-resource-planning implementation contract. Management believes any ultimate liability will not be material, but the amount and outcome cannot be determined with certainty.
- Technology and cybersecurity: The company is transitioning from a third-party enterprise system to internally developed technology. System implementation failures, service interruptions, cybersecurity incidents or data breaches could affect operations, reputation and financial performance.
- International expansion: International operations expose Copart to foreign-exchange, regulatory, political, anti-bribery, integration, tax and principal-model inventory risks.
- Business concentration and supply: No customer represented more than 10% of six-month revenue, but a limited number of sellers collectively provide a substantial portion of vehicle supply, and seller agreements are generally cancellable on 30 to 90 days’ notice.
- Other exposures: Risks include yard-capacity constraints, adverse weather, commodity and used-vehicle price volatility, environmental liabilities, self-insured claims, competition, goodwill impairment and changes in import or salvage-vehicle regulations.
Management concluded that disclosure controls were effective as of January 31, 2016, and reported no material changes to internal control over financial reporting during the quarter.
Important facts for investors to verify
- Reconcile the $325.0 million tender offer, the 8.33 million shares accepted and the stated original 7.32 million-share limit.
- Review the provision recorded for the $96.1 million Georgia tax assessment and monitor the Georgia Tax Tribunal appeal.
- Assess liquidity after the tender offer, higher capital expenditures and debt obligations, including the concentration of cash in foreign subsidiaries.
- Track vehicle volume, revenue per vehicle, commodity prices, salvage frequency and foreign-exchange effects, particularly in North America and the U.K.
- Evaluate execution and spending associated with the internally developed enterprise system and the company’s cybersecurity controls.
- Confirm covenant compliance, required term-loan amortization and the availability of the $300.0 million revolving facility.