MOTORCAR PARTS OF AMERICA INC quarterly report, Q3 FY2023

Business Context and Reporting Period

Motorcar Parts of America, Inc. supplies automotive aftermarket replacement parts, including rotating electrical, wheel hub, brake-related and other products, as well as automotive test solutions and diagnostic equipment. The company sells primarily in North America and serves automotive retailers, warehouse distributors and original-equipment-service customers. This unaudited Form 10-Q covers the three and nine months ended December 31, 2022, within fiscal 2023.

Financial Performance and Position

Metric	Three Months Ended Dec. 31, 2022	Prior Period	Nine Months Ended Dec. 31, 2022	Prior Period
Net sales	$151.8 million	$161.8 million	$488.3 million	$486.4 million
Gross profit	$21.0 million	$32.6 million	$77.8 million	$92.1 million
Gross margin	13.8%	20.1%	15.9%	18.9%
Operating income	$3.5 million	$8.7 million	$12.7 million	$24.0 million
Net income (loss)	$1.0 million	$3.1 million	$(5.7) million	$7.7 million
Diluted EPS	$0.05	$0.16	$(0.29)	$0.39

Quarterly sales declined 6.2%, primarily due to a major customer’s inventory reduction initiatives, changes in customer purchasing and return patterns, supply-chain and logistics disruptions, and adverse weather and economic conditions. Nine-month sales increased 0.4%; excluding $13.3 million of prior-year core revenue from a customer distribution-center realignment, management stated that sales increased 3.2%.
Gross margin contracted materially due to inflation, freight and logistics costs, higher wages, lower overhead absorption, product mix and prior-period core-related items. Nine-month 2022 gross profit included $5.3 million of supply-chain disruption costs, $9.2 million of amortization of customer premiums and a $2.7 million noncash write-down of cores held at customer locations.
Quarterly operating expenses decreased to $17.5 million from $23.9 million, helped by a $4.3 million noncash foreign-exchange gain. Nine-month operating expenses were $65.1 million versus $68.1 million.
Net interest expense rose to $11.5 million for the quarter and $27.7 million for the nine months, versus $3.9 million and $11.5 million, respectively. Higher rates, increased average borrowings and greater use of receivable discount programs were the principal drivers. Receivable discounting generated $19.1 million of interest expense in the first nine months, versus $6.8 million in the prior period.
Cash flow from operations was negative $4.5 million in the quarter and negative $21.4 million for the nine months, compared with positive $2.2 million and negative $22.2 million, respectively, in the comparable periods. Investing cash use was $3.9 million for the nine months, including $3.6 million of capital expenditures.
Cash and cash equivalents were $12.6 million at December 31, 2022, compared with $23.0 million at March 31, 2022. Working capital was $122.9 million, with a current ratio of 1.3 to 1.0.
Inventory was $390.6 million, including $15.1 million of excess and obsolete inventory reserves. Long-term contract assets, primarily remanufactured cores held at customers, were $314.0 million.

Debt, Liquidity and Material Changes

The senior secured Credit Facility has total commitments of $268.6 million and matures May 28, 2026. It includes a $238.6 million revolving facility and a $30.0 million term loan facility, secured by substantially all company assets.
Revolving borrowings increased to $175.0 million from $155.0 million at March 31, 2022. Letters of credit totaled $6.4 million, and contractual availability under the revolving facility was $57.3 million at December 31, 2022.
Term-loan principal was $14.1 million, with quarterly principal payments of approximately $937,500. December 31, 2022 interest rates were 7.16% on the revolving facility and 6.98% on the term loans, compared with 3.13% and 2.99%, respectively, at March 31, 2022.
The company was in default of certain Credit Facility financial covenants as of December 31, 2022. A February 3, 2023 Fifth Amendment waived specified defaults, modified leverage and fixed-charge coverage requirements, changed certain EBITDA and margin definitions, and added a minimum undrawn-availability covenant.
Management stated that cash, short-term investments, receivable discount programs, available borrowing capacity and other sources were expected to satisfy working-capital, debt repayment, lease and capital-expenditure needs over the next 12 months. This assessment depends materially on continued financing and receivable-discounting access.
The company expects approximately $1.5 million of additional capital expenditures during the remainder of fiscal 2023. No shares were repurchased during the quarter; $18.3 million remained available under the repurchase authorization, subject to Credit Facility restrictions.

Outlook, Commentary, Risks and Unusual Items

Management is pursuing growth through expanded brake-related products, remanufacturing capacity and electric-vehicle powertrain testing and diagnostic equipment. Brake pads and rotors were introduced in the first quarter of fiscal 2023.
COVID-19, supply-chain and logistics disruption, inflation, rising interest rates and uncertain customer demand continue to affect operations. The filing does not provide formal revenue or earnings guidance.
Customer concentration is significant: four customers represented 88% of quarterly sales and 88% of nine-month sales. The largest customer represented 36% of quarterly sales and 38% of nine-month sales.
Receivable discounting accelerated collection of $428.9 million of receivables during the nine months at a 5.0% annualized weighted-average discount rate, versus 1.7% in the prior period. These programs may not continue and their cost may rise with interest rates, utilization or extended payment terms.
The company faces a potential customs-duty claim of approximately $17 million relating to imports from Mexico from 2011 through mid-2018. Management disputes the claim and has not indicated that an additional accrual is required, but cannot assure the outcome.
The effective tax benefit was unusually high at 112.9% for the quarter and 62.1% for the nine months, reflecting jurisdictional losses, differing foreign tax rates and nondeductible executive compensation. Future effective tax rates may differ materially.
Foreign-currency lease remeasurement and forward contracts produced a $4.3 million noncash operating gain in the quarter and a $2.6 million gain for the nine months.
A related-party operating lease for a 35,000-square-foot Canadian facility begins January 1, 2023, with base rent of approximately $27,000 per month and renewal options.

Most Important Facts to Verify

Whether the February 2023 covenant amendment is sufficient to maintain compliance, including the new minimum undrawn-availability requirement.
Revolving borrowing levels, availability, interest rates and the continuing availability and cost of receivable discounting.
Whether negative operating cash flow, high inventory and substantial contract assets improve as anticipated.
Customer inventory-reduction actions, return patterns and concentration exposure, particularly involving the largest customers.
Progress toward restoring gross margins amid inflation, freight costs, supply-chain disruption and new-product ramp-up costs.
Status and potential financial exposure of the approximately $17 million customs-duty dispute.
Future tax-rate effects and the sustainability of quarterly earnings, given the unusually large tax benefit and noncash foreign-exchange gain.