Motorcar Parts of America, Inc. — Form 10-Q Summary
Business context and reporting period
MPA supplies non-discretionary automotive aftermarket replacement parts and diagnostic equipment, primarily to North American automotive retailers, warehouse distributors, and automobile manufacturers. Products include rotating electrical parts, wheel hubs, brake master cylinders, newly introduced brake calipers, and diagnostic and power-electronic products. This unaudited Form 10-Q covers the three and nine months ended December 31, 2019, within fiscal 2020. The company completed the Dixie Electric acquisition in January 2019 and continued investments in manufacturing and distribution capacity in Mexico and Malaysia.
Financial performance and key metrics
| Metric | Q3 FY2020 | Q3 FY2019 | 9M FY2020 | 9M FY2019 |
|---|---|---|---|---|
| Net sales | $125.6 million | $124.1 million | $385.1 million | $343.7 million |
| Gross profit | $27.7 million | $21.2 million | $81.8 million | $63.2 million |
| Gross margin | 22.0% | 17.0% | 21.2% | 18.4% |
| Operating income | $9.2 million | $1.6 million | $22.2 million | $10.2 million |
| Net income (loss) | $0.9 million | $(3.1) million | $0.9 million | $(5.1) million |
| Diluted EPS | $0.04 | $(0.16) | $0.05 | $(0.27) |
Q3 operating margin was approximately 7.4%, compared with 1.3% in the prior-year quarter; nine-month operating margin was approximately 5.8%, compared with 3.0%. Net margin was approximately 0.7% for Q3 and 0.2% for the nine-month period. Interest expense increased 19.3% year over year in Q3 to $6.9 million and 18.4% for the nine-month period to $19.6 million.
- Cash flow from operations for the nine months was $(4.4) million, an improvement from $(20.3) million in the prior-year period. Management reported Q3 operating cash flow of $22.3 million, compared with $(13.9) million in the prior-year quarter.
- Investing cash flow was $(9.7) million for the nine months, including $10.8 million of capital expenditures. Financing cash flow was $13.5 million, primarily reflecting net revolving borrowings.
- Cash and cash equivalents were $9.5 million at December 31, 2019, versus $9.9 million at March 31, 2019; short-term investments were $2.4 million.
- Working capital was $75.1 million, with a current ratio of 1.3 to 1.0.
- Inventory increased to $256.5 million from $233.7 million at March 31, 2019. Long-term contract assets were $224.6 million, principally remanufactured cores held at customer locations.
- Total debt included $130.0 million outstanding under the revolving facility and $25.3 million of term-loan principal. Revolving-facility availability was $73.8 million after contractual adjustments, and letters of credit outstanding were $4.0 million.
- The revolving facility and term loan carried interest rates of 4.55% and 4.45%, respectively, at December 31, 2019. The company was in compliance with its debt covenants.
Material changes versus the prior comparable period
- Q3 sales increased 1.2%, while nine-month sales increased 12.0%. Q3 sales included $6.9 million from brake calipers and $6.1 million from acquisitions; nine-month sales included $11.5 million from brake calipers and $17.3 million from acquisitions.
- Gross margin improved primarily from product mix and lower non-cash revaluation charges on core inventory held at customers. Core revaluation write-downs were $2.4 million in Q3 2019 versus $2.6 million in Q3 2018, and $9.9 million for nine months versus $11.5 million.
- Q3 general and administrative expense decreased 13.9%, partly because of a $1.6 million foreign-exchange contract gain and a $2.1 million gain from remeasurement of foreign-currency lease liabilities. For nine months, general and administrative expense increased 10.4% because of acquisition, professional-services, growth, remediation, and offshore-location costs.
- Interest expense rose because of higher average borrowings and increased use of receivable discount programs. Receivables discounted increased to $341.3 million for nine months from $287.2 million, while the weighted-average discount rate declined to 3.5% from 4.2%.
- The company adopted the new lease standard on April 1, 2019, recognizing $50.8 million of operating lease assets and $53.0 million of operating lease liabilities at adoption. At December 31, 2019, operating lease liabilities totaled $66.8 million.
Guidance, outlook, risks, contingencies, and unusual items
- Management expects continued growth from organic initiatives, acquisitions, product expansion, and diagnostics applications, including electric-vehicle and aerospace applications. Management stated that cash, investments, receivable discount programs, credit availability, and other sources should be sufficient for expected needs over the next 12 months.
- Expected fiscal 2020 capital expenditures are approximately $6.0 million for current operations and $12.0 million for continued Mexico expansion. Total capital expenditures, including finance leases, were $13.2 million for the first nine months.
- The company’s largest customers represented 38%, 22%, and 25% of Q3 sales, creating significant customer-concentration risk. Rotating electrical products represented 75% of Q3 sales.
- Management identified risks involving working-capital requirements, elevated inventory, customer payment terms, availability of used cores, pricing pressure, tariffs, foreign exchange, interest rates, competition, cybersecurity, and the continued availability of receivable discount programs.
- U.S. Customs and Border Protection asserted that the company may owe approximately $17 million of additional duties relating to products imported from Mexico during 2011 through mid-2018. MPA disputes the amount and intends to contest it; the filing does not establish a final liability or accrual.
- Disclosure controls were not effective as of December 31, 2019 because of a previously reported material weakness involving accounting-policy review, inventory-related financial reporting, and subsidiary process-level controls. Management expected remediation before the end of fiscal 2020, but stated that additional steps may be required.
- The company recognized $0.4 million of expense for changes in the fair value of contingent consideration during the nine months. Contingent consideration liabilities totaled $5.2 million at December 31, 2019.
- The company had $21.3 million remaining under its $37.0 million share-repurchase authorization, subject to credit-facility restrictions. No shares were repurchased during the quarter.
Important facts for investors to verify
- Progress in converting higher sales and gross margins into sustained positive operating cash flow, particularly as inventory and contract assets remain substantial.
- Availability under the revolving facility, compliance with leverage and fixed-charge covenants, and the effect of further borrowing on interest expense.
- Resolution, accrual treatment, and potential cash impact of the approximately $17 million customs-duty claim.
- Remediation and independent testing of the material weakness in internal controls, including inventory accounting and subsidiary controls.
- Customer concentration, customer inventory-reduction initiatives, replenishment-order trends, and the sustainability of brake-caliper and acquisition-related revenue.
- Future utilization and cost of receivable discount programs and the company’s ability to fund Mexico expansion and other capital commitments.