Business Context and Reporting Period
Motorcar Parts of America, Inc. manufactures, remanufactures, and distributes aftermarket automotive parts, including alternators, starters, wheel hubs and bearings, and brake master cylinders. The company serves North American retail chains, warehouse distributors, and automobile manufacturers. This Form 10-Q covers the quarter and six months ended September 30, 2015, within fiscal 2016. The financial statements are unaudited.
Financial Performance and Position
| Metric | Three Months Ended September 30, 2015 | Three Months Ended September 30, 2014 | Six Months Ended September 30, 2015 | Six Months Ended September 30, 2014 |
|---|---|---|---|---|
| Net sales | $91.7 million | $70.8 million | $177.5 million | $133.8 million |
| Gross profit | $21.8 million | $18.4 million | $47.8 million | $36.2 million |
| Gross margin | 23.8% | 26.0% | 26.9% | 27.1% |
| Operating income | $0.3 million | $6.2 million | $11.9 million | $16.3 million |
| Net income | $(1.4) million | $1.5 million | $0.5 million | $5.4 million |
| Diluted EPS | $(0.08) | $0.09 | $0.03 | $0.33 |
| Cash flow from operations | $15.8 million | $10.0 million | $19.2 million | $12.6 million |
- Six-month operating expenses increased to $35.9 million from $19.9 million, led by general and administrative expenses of $29.6 million versus $15.2 million.
- At September 30, 2015, cash and cash equivalents were $31.7 million, short-term investments were $1.3 million, and total assets were $396.4 million.
- Current assets of $133.0 million were below current liabilities of $136.5 million, producing negative working capital of approximately $3.5 million and a current ratio of 0.97:1.
- Long-term core inventory increased to $231.4 million from $189.0 million at March 31, 2015, reflecting inventory requirements associated with higher sales.
- Capital expenditures were $2.7 million for the six months, compared with $1.2 million in the prior-year period.
Debt and Liquidity
- On June 3, 2015, the company replaced its prior financing with a $125.0 million senior secured credit facility consisting of a $100.0 million revolving facility and a $25.0 million term loan. The facility matures June 3, 2020 and is secured by substantially all company assets.
- At September 30, 2015, $15.0 million was outstanding under the revolving facility, $25.0 million was the principal amount of the term loan, and approximately $82.6 million was available under the revolving facility, subject to adjustments.
- The reported interest rate under the new facility was 2.95% using the LIBOR option. The company was in compliance with its financial covenants, reporting a senior leverage ratio of 0.59 versus a maximum of 2.50 and fixed-charge coverage of 1.78 versus a minimum of 1.05.
- Receivables discounted under customer programs increased to $167.9 million from $136.3 million. Related discount expense increased to $3.5 million from $2.5 million.
Material Changes Versus the Prior Comparable Period
- Sales increased 29.4% in the quarter and 32.6% for the six-month period, primarily from new rotating electrical product business that began shipping in January 2015 and the launch of remanufactured brake master cylinder products in July 2015.
- Profitability deteriorated despite higher sales. Quarterly gross margin declined 220 basis points, operating income fell 95%, and the company reported a quarterly net loss.
- New-business returns and allowances materially reduced gross profit, including $3.4 million of remanufactured brake master cylinder returns, $3.4 million of related core inventory allowances, and $2.4 million of rotating electrical product returns and allowances.
- General and administrative expense included a $9.25 million accrual for a litigation settlement, net of expected insurance recoveries, and increased losses from the fair-value adjustment of the supplier warrant.
- Interest expense for the six months increased to $11.1 million from $6.8 million, principally because the company wrote off $5.1 million of deferred debt issuance costs when refinancing its prior debt.
- Operating cash flow improved, but total cash declined by $29.5 million because of debt repayments, inventory investment, capital expenditures, and the OE Plus acquisition.
- The company acquired specified assets and liabilities of OE Plus for an initial cash payment of $3.2 million and recorded estimated contingent consideration of $1.3 million. Additional payments of up to $2.0 million may be required over four years.
Outlook, Commentary, Risks, and Unusual Items
- Management stated that cash, short-term investments, receivable discount programs, credit-facility availability, and other sources were expected to cover working capital, debt repayments, capital leases, and capital expenditures over the following twelve months.
- Fiscal 2016 capital expenditures were expected to be approximately $4.0 million, primarily for equipment, information technology, and leasehold improvements.
- The October 26, 2015 settlement with M&T Bank and the bankruptcy trustee requires an $18.5 million payment, with $9.25 million expected from insurers. The settlement remained subject to court approval and customary conditions; the company accrued its $9.25 million net obligation at September 30, 2015.
- Major customer concentration remained significant: three customers represented approximately 88% of quarterly sales and 87% of six-month sales. Customer A alone represented 46% of quarterly sales and 48% of six-month sales.
- Key risks include dependence on major customers, customer pricing and payment-term pressure, high working-capital requirements, the need to obtain used cores, product returns and warranty exposure, foreign-currency fluctuations, competition, covenant compliance, and the possible discontinuation of receivable discount programs.
- The supplier warrant was valued at $12.2 million at September 30, 2015, generating a $1.7 million six-month fair-value loss. Foreign-currency contracts had a $19.5 million notional value and generated a $0.3 million six-month loss.
- Management reported effective disclosure controls as of September 30, 2015 and no material changes in internal control over financial reporting during the quarter.
Most Important Facts to Verify
- Whether the M&T Bank litigation settlement receives required court approval and whether insurance proceeds fully cover the expected $9.25 million recovery.
- Whether product returns, core allowances, and warranty claims continue to pressure gross margins, particularly for remanufactured brake master cylinders and rotating electrical products.
- The sustainability of sales growth from the significant customer program and the company’s exposure to its three largest customers.
- Availability and continued operation of receivable discount programs, including their effect on liquidity and interest expense.
- Compliance with the new credit facility’s leverage and fixed-charge coverage covenants as inventory and working-capital needs increase.
- Final purchase accounting for OE Plus, including working-capital adjustments, escrow settlement, goodwill, and contingent consideration.