KAR Auction Services, Inc. — Q3 2020 Form 10-Q
Issuer clarification: The filing is for KAR Auction Services, Inc. (NYSE: KAR), the parent company. Openlane, Inc. is identified as a KAR subsidiary, not the registrant. Period ended September 30, 2020; unaudited.
Business context and reporting period
KAR operates ADESA Auctions, a wholesale vehicle auction and remarketing business, and AFC, which provides floorplan financing to independent used-vehicle dealers. The filing reports both the three and nine months ended September 30, 2020. IAA, KAR’s former salvage-auction business, was spun off in June 2019 and is reported as discontinued operations in comparative results.
Financial results and liquidity
| Metric | Q3 2020 | Q3 2019 | Nine months 2020 | Nine months 2019 |
|---|---|---|---|---|
| Operating revenue | $593.6 million | $701.9 million | $1,658.1 million | $2,110.6 million |
| Operating profit | $86.4 million | $85.7 million | $122.5 million | $252.5 million |
| Income from continuing operations | $47.1 million | $34.4 million | $17.6 million | $77.1 million |
| Net income | $47.1 million | $35.3 million | $17.6 million | $168.7 million |
| Diluted continuing-operations EPS | $0.23 | $0.26 | $0.04 | $0.58 |
- Q3 revenue declined 15%, while operating profit was broadly flat and continuing-operations income increased year over year. For the first nine months, revenue fell 21% and operating profit fell 51%. 2019 net income included $91.6 million from discontinued IAA operations, making total net income comparisons less representative of continuing business.
- Q3 ADESA revenue was $526.7 million, down 14%; vehicles sold fell to 871,000 from 957,000. All sales were conducted through digital marketplaces; online sales were 100% of total units versus 59% a year earlier. ADESA operating profit rose to $81.4 million from $68.5 million, supported by cost reductions and a higher online mix.
- Q3 AFC revenue was $66.9 million, down 24%, and operating profit was $38.2 million versus $55.1 million. Loan transactions declined 27% to 324,000. The provision for credit losses was zero in Q3 versus a benefit in the prior-year quarter; for the nine-month period, credit-loss provision rose to $35.9 million from $25.5 million.
- Cash and cash equivalents were $1,276.7 million at September 30, 2020, versus $507.6 million at December 31, 2019; restricted cash was $54.7 million. Cash included approximately $528.2 million of net preferred-stock proceeds. Working capital was $1,320.1 million.
- Nine-month continuing-operations cash from operating activities was $431.9 million, compared with $291.1 million. Investing activities provided $263.6 million, primarily reflecting a decrease in finance receivables; capital expenditures were $74.3 million, down from $127.6 million. Financing activities provided $88.9 million, including preferred proceeds.
- Debt at quarter-end included $950 million of 5.125% senior notes, $940.5 million on Term Loan B-6 and $16.9 million of European lines of credit; reported total debt was $1,907.4 million before issuance costs and current maturities. No revolving-credit borrowings were outstanding; the $325 million facility was available, subject to letters of credit. The company reported compliance with applicable debt covenants.
- Q3 operating margin was approximately 14.6% versus 12.2% in 2019, calculated from reported operating profit and revenue. The filing cites improved cost control and digital-auction efficiencies; these calculated margins are not separately presented as reported measures.
Material changes, outlook, risks, and unusual items
- COVID-19 led KAR to suspend physical sales in March and transition to digital auctions. Management reported operating improvement as activity recovered, but said pandemic effects and future market conditions remained uncertain. Management expected 2020 auction and AFC loan-transaction volumes to be below 2019 levels; the filing provides no specific earnings or revenue guidance.
- Cost measures included workforce furloughs and reductions, lower compensation, reduced travel and marketing, and delayed or canceled capital projects. About 11,000 employees were furloughed in early April; approximately 6,000 were recalled and about 5,000 positions were eliminated. Government wage-support credits totaled approximately $22.6 million for the second and third quarters.
- The company suspended its quarterly common-stock dividend. It issued $550 million of Series A convertible preferred stock in June, receiving net proceeds of approximately $528.2 million. The preferred stock carries a cumulative 7% annual dividend, initially paid in additional shares, and ranks senior to common stock.
- COVID-related outlook reductions for ADESA Remarketing Limited resulted in second-quarter non-cash impairment charges of $25.5 million for goodwill and approximately $4.3 million for customer relationships. Further impairments remain possible if market conditions or forecasts worsen.
- In September, ADESA agreed to acquire BacklotCars for $425 million cash, with closing expected in Q4 2020 subject to customary conditions. In October, a subsidiary agreed to sell PWI for approximately $24.5 million, subject to adjustments and closing conditions.
- AFC’s U.S. securitization capacity was reduced from $1.70 billion to $1.60 billion, and U.S. and Canadian facilities were extended to January 2024. The agreements include portfolio-performance and credit-enhancement provisions. AFC’s managed receivables were $1,744.8 million, with a $22.0 million allowance at quarter-end.
- Key risks include continued pandemic disruption, used-car supply and pricing volatility, lower auction or dealer-loan volumes, borrower defaults and credit losses, substantial debt and covenant restrictions, competition, technology and cybersecurity risks, and potential future asset impairments. Management stated that ordinary-course litigation was not expected to have a material adverse effect; no significant change to previously disclosed proceedings was reported.
Important facts for investors to verify
- Confirm the filing entity: this is KAR Auction Services, Inc.; Openlane is a subsidiary referenced in the filing.
- Assess the durability of digital-auction economics and cost savings against lower vehicle volumes, and distinguish online-only sales from all sales classified as online.
- Review cash availability and operating working-capital timing, including cash held by foreign subsidiaries and funds temporarily unavailable through bank processing.
- Track AFC delinquencies, credit-loss provisions, allowance adequacy, securitization covenants, and the effect of reduced committed financing capacity.
- Evaluate debt service and preferred-stock costs, including the 7% cumulative preferred dividend, potential conversion dilution, and the suspended common dividend.
- Confirm completion, funding, and subsequent financial effects of the BacklotCars acquisition and PWI sale; neither transaction was completed at the reporting date.
- Monitor future impairment testing and whether management’s liquidity assumptions remain appropriate if market recovery stalls.