Business context and reporting period
The supplied filing is KAR Auction Services, Inc.’s audited Form 10-K for the fiscal year ended December 31, 2018, filed February 21, 2019. It is not a standalone OPENLANE, Inc. filing: the filing identifies Openlane as a wholly owned subsidiary within ADESA and does not provide separate Openlane financial statements. KAR operates ADESA whole-car auctions, IAA salvage auctions and AFC dealer floorplan financing; it facilitated approximately 6.0 million vehicle sales in 2018.
Financial performance and liquidity
Amounts below are U.S. dollars; annual comparisons are 2018 versus 2017 unless stated otherwise.
| Metric | 2018 | 2017 |
|---|---|---|
| Revenue | $3,769.6 million | $3,458.0 million |
| Operating profit | $624.2 million | $566.0 million |
| Net income | $328.0 million | $362.0 million |
| Diluted EPS | $2.42 | $2.62 |
| Cash from operations | $749.8 million | $588.8 million |
| Capital expenditures | $198.0 million | $152.2 million |
| Cash and cash equivalents at year-end | $337.1 million | $317.2 million |
| Working capital | $689.4 million | $748.2 million |
| Corporate debt, net of issuance costs | $2,667.4 million | $2,680.1 million |
Revenue increased 9%; operating profit rose 10%. Gross profit was $1,626.9 million, approximately 43.2% of revenue, compared with $1,470.8 million, approximately 42.5%, in 2017. Net income declined about 9% despite higher operating profit, in part because 2017 included a $102.7 million tax benefit from U.S. tax reform and a $21.6 million gain on the previously held TradeRev interest. The 2017 comparison also included a $27.5 million debt-extinguishment charge. Interest expense increased 17% to $192.0 million, reflecting higher average corporate debt and interest rates, as well as higher AFC financing costs.
Operating cash flow increased 27%, but management attributed much of the increase to the timing of collections and payments around period-end and non-cash adjustments, partly offset by lower profitability. Investing cash use was $381.2 million and financing cash use was $320.1 million. Cash dividends paid were $188.3 million and share repurchases were $150.0 million.
Fourth-quarter performance
For the three months ended December 31, 2018, revenue was $929.0 million, up 4%; operating profit was $142.1 million, up from $123.4 million; net income was $67.3 million versus $172.8 million; and diluted EPS was $0.50 versus $1.27. The prior-year quarter included the TradeRev remeasurement gain and a substantial tax benefit from tax reform, so the net-income comparison is not like-for-like.
Segments
ADESA revenue rose 8% to $2,101.9 million, while operating profit fell to $307.8 million from $340.5 million. Total vehicles sold increased 9% to 3.472 million, with online-only sales rising to 1.304 million; higher acquisition-related costs, selling expenses and lower-margin service mix pressured profit. IAA revenue increased 9% to $1,326.8 million and operating profit rose to $293.9 million from $240.9 million; vehicles sold grew 5% to 2.480 million and gross margin improved. AFC revenue increased 13% to $340.9 million and operating profit rose to $203.5 million from $153.9 million; loan transactions grew 4% to 1.760 million and the annual credit-loss provision was 1.7% of average managed receivables.
Material changes, outlook and management commentary
- Digital activity expanded: online sales represented approximately 54% of ADESA vehicle sales, compared with 46% in 2017. TradeRev incurred operating losses of $53.0 million for 2018.
- Management expected 2019 capital expenditures of approximately $200 million, about half for technology investments, and estimated a future effective tax rate of 26%–28%.
- Management expected North American whole-car auction volumes to exceed 11 million units annually in 2019–2021 and estimated salvage-auction industry growth of 5%–7% annually. These are management estimates, not guarantees.
- Management stated it expected to continue a quarterly dividend of $0.35 per share, subject to board approval and other conditions.
- KAR was pursuing a spin-off of IAA, targeted for 2019 but subject to approvals, tax considerations and other conditions. The filing estimated IAA Spinco would have net debt of approximately 3.5 times Adjusted EBITDA; final terms and completion were uncertain.
- After year-end, KAR completed the CarsOnTheWeb acquisition on January 31, 2019, for approximately €91 million in cash plus potential contingent payments of up to €65 million. It also acquired Dent-ology in January 2019.
Debt, risks and contingencies
Corporate debt included $950 million of 5.125% senior notes due 2025 and variable-rate term loans. No borrowings were outstanding on the $350 million revolving facility, though $32.9 million of letters of credit reduced availability. The reported secured leverage ratio was 1.86x against a 3.5x covenant limit when applicable; KAR reported compliance with debt covenants. AFC’s separate securitization obligations were $1,445.3 million at year-end, supported by finance receivables; its U.S. and Canadian facilities were extended to January 2022. The filing reported total contractual cash obligations of $4,774.7 million, including $1,400.9 million in operating lease commitments.
Key risks include competition and digital disruption, vehicle supply and pricing cycles, reliance on major insurance suppliers within IAA, dealer credit losses at AFC, cybersecurity and technology execution, variable-rate debt and refinancing, severe weather, and acquisition and spin-off execution. IAA’s potential responsibility for contamination at the Lower Duwamish Waterway Superfund Site remained unestimable; the EPA had not demanded payment or remediation from IAA. The filing reported no accrued environmental liability at year-end. KAR reported effective disclosure controls and internal control over financial reporting; KPMG issued unqualified audit opinions.
Important facts for investors to verify
- Confirm the legal issuer and entity scope: this is KAR Auction Services’ consolidated 10-K, not standalone OPENLANE financial reporting.
- Track ADESA operating profit and TradeRev losses as online-only volume grows, and assess whether digital growth improves profitability.
- Review normalized earnings excluding the 2017 tax benefit and TradeRev gain, and monitor the 2018 effective tax rate and future tax assumptions.
- Monitor AFC delinquency, charge-offs and credit-loss provisions, particularly given the fourth-quarter provision rate of 2.2% of average managed receivables.
- Confirm final IAA spin-off timing, tax treatment, debt allocation and separation costs; verify completion and terms of post-year-end acquisitions.
- Assess cash conversion alongside the timing-driven working-capital benefit, planned capital spending, dividends, repurchases and debt-service requirements.