Business Context and Reporting Period
Motorcar Parts of America, Inc. manufactures, remanufactures and distributes aftermarket automotive parts, including rotating electrical products, wheel hubs, brake master cylinders, turbochargers and brake power boosters. The company reports one operating segment and sells primarily in North America. This unaudited Form 10-Q covers the three and nine months ended December 31, 2016, within fiscal 2017.
- Turbochargers were added through the July 2016 acquisition of certain ZOR Industries assets for $705,000.
- Brake power boosters began generating sales in August 2016.
Key Financial Metrics
| Metric | Three Months Ended December 31 | Nine Months Ended December 31 |
|---|---|---|
| Net sales | $112.6 million, up 19.8% | $306.8 million, up 13.0% |
| Gross profit | $32.4 million | $83.4 million |
| Gross margin | 28.7%, versus 30.7% | 27.2%, versus 28.3% |
| Operating income | $20.1 million | $50.6 million |
| Net income | $11.1 million, versus $7.7 million | $27.8 million, versus $8.3 million |
| Diluted EPS | $0.57, versus $0.41 | $1.43, versus $0.44 |
| Operating cash flow | $1.5 million, versus $(9.2) million | $(20.8) million, versus $10.0 million |
At December 31, 2016, cash and cash equivalents were $3.9 million and short-term investments were $2.0 million. Working capital was $3.9 million, with a current ratio of 1.03:1. Total assets were $443.0 million and shareholders’ equity was $239.9 million.
- Revolving facility balance: $18.0 million, compared with $7.0 million at March 31, 2016.
- Term loan carrying amount: $20.8 million, including a current portion of $3.1 million.
- Revolving facility availability: $101.1 million, subject to adjustments and borrowing-base restrictions.
- Interest rates at December 31, 2016 were 4.09% on the revolving facility and 3.12% on the term loans.
- The company was in compliance with all debt covenants; senior leverage was 0.41 versus a maximum of 2.50, and fixed-charge coverage was 1.44 versus a minimum of 1.05.
- Nine-month capital expenditures were $4.1 million; fiscal 2017 capital expenditures were expected to be approximately $5.0 million, plus additional Mexico expansion spending.
Material Changes Versus the Prior Comparable Period
- Sales growth reflected higher rotating electrical and brake master cylinder sales, new brake power booster sales and the turbocharger acquisition. The company also recorded a $9.3 million increase in sales from a change in its stock-adjustment-return estimate.
- Gross margin declined because of volume and stock-update discounts, customer allowances and initial return and stock-adjustment accruals associated with new business. Nine-month gross profit included $12.2 million of such customer allowances and accruals, partially offset by a $0.6 million cost-of-goods-sold offset.
- General and administrative expense declined 9.7% in the quarter and 44.1% year to date, primarily because of lower bad-debt and legal expense and favorable changes in the fair value of the supplier warrant.
- Interest expense increased 33.4% in the quarter due to higher receivable-discounting costs and greater revolving-facility borrowings. Year-to-date interest expense declined 31.0%, primarily because the prior-year period included a $5.1 million write-off of debt issuance costs.
- Cash generation weakened year to date. Operating cash flow was negative $20.8 million, driven principally by higher accounts receivable, inventory growth and payments associated with new business.
- Receivables discounted increased to $254.8 million for the nine months, with the average discount rate rising to 2.9% from 2.2%; related interest expense increased to $6.9 million from $5.2 million.
Guidance, Outlook, Risks and Unusual Items
- Management stated that cash, short-term investments, receivable-discounting programs, credit-facility availability and other sources should be sufficient for expected working-capital needs, debt repayments, capital leases and capital expenditures over the next 12 months.
- A new stock-repurchase authorization permits purchases of up to $10.0 million; $9.6 million remained available under the program at the reporting date.
- The $9.3 million stock-adjustment-return estimate change increased operating income by $4.1 million and net income by $2.6 million, or $0.14 basic EPS and $0.13 diluted EPS. This is a significant non-routine estimate change affecting comparability.
- The supplier warrant liability was $9.9 million at December 31, 2016. Its fair-value decrease produced a $5.7 million year-to-date gain in general and administrative expense; the warrant is exercisable through September 30, 2017.
- Foreign-currency forward contracts generated a $2.2 million year-to-date loss, and accumulated other comprehensive loss increased to $7.3 million, primarily from currency translation.
- Major risks include concentration among a small number of customers, working-capital demands, dependence on receivable-discounting programs, customer returns and allowances, availability and cost of used cores, foreign exchange, interest rates, competition, covenant compliance, cybersecurity and general economic conditions.
- Customer concentration remained high: Customer A represented 46% of nine-month sales and 45% of trade receivables at December 31, 2016; Customer B represented 19% of sales.
- The company reported no material changes to previously disclosed litigation or risk factors. Disclosure controls were deemed effective, and no material changes to internal control over financial reporting were reported.
- The company early adopted share-based compensation guidance, recording an $892,000 cumulative-effect adjustment to retained earnings and deferred tax assets. Revenue-recognition, inventory, income-tax classification, financial-instrument and lease standards had not yet been adopted; the company was evaluating their effects.
Facts an Investor Should Verify
- Whether the $9.3 million stock-adjustment estimate change is recurring or materially reverses in future periods.
- Whether gross-margin pressure from new-business allowances, discounts and returns improves as programs mature.
- Whether negative year-to-date operating cash flow and increased inventory and receivables can be reversed without continued reliance on debt or receivable discounting.
- The sustainability and cost of the receivable-discounting programs, including the higher discount rate and extended average collection period.
- Customer concentration, payment behavior and potential changes in return, allowance or stock-adjustment obligations.
- Progress and profitability of turbochargers, brake power boosters and Mexico expansion initiatives.
- Debt availability, interest-rate exposure and continued compliance with financial covenants.
- The effect of foreign-exchange movements and the valuation of the supplier warrant on reported earnings.