LKQ Corporation — Q3 2017 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2017. Unaudited results; comparisons are with the corresponding 2016 periods. LKQ distributes aftermarket, recycled, refurbished and remanufactured vehicle parts, and specialty vehicle products across North America and Europe.
Key financial results
| Metric | Q3 2017 | Q3 2016 | Nine months 2017 | Nine months 2016 |
|---|---|---|---|---|
| Revenue | $2,465.8m | $2,207.3m | $7,267.1m | $6,433.6m |
| Gross margin | $956.9m (38.8%) | $855.4m (38.8%) | $2,852.0m (39.2%) | $2,521.7m (39.2%) |
| Operating income | $199.1m (8.1%) | $183.4m (8.3%) | $679.4m (9.3%) | $601.5m (9.3%) |
| Continuing-operations income | $122.4m | $109.8m | $414.1m | $359.8m |
| Diluted EPS, continuing operations | $0.39 | $0.35 | $1.33 | $1.16 |
| Net income | $122.4m | $122.7m | $409.6m | $377.6m |
| Segment EBITDA | $267.0m | $246.4m | $863.2m | $782.7m |
Growth and margins: Q3 revenue rose 11.7%; management attributed 4.0 percentage points to organic growth, 6.5 points to acquisitions and 1.2 points to foreign exchange. Nine-month revenue increased 13.0%, including 4.5% organic growth and 9.6% acquisition contribution, partly offset by foreign exchange. Q3 gross margin was unchanged, while operating margin declined 0.2 percentage points. Nine-month operating margin was unchanged.
Cash flow and liquidity: Nine-month operating cash flow was $449.2m, down from $524.2m. Capital expenditures were $135.5m, implying operating cash flow less capex of approximately $313.7m, compared with $371.4m a year earlier. Cash was $275.1m at September 30. Total liquidity, including available credit, was $1.613bn; credit-facility availability was $1.338bn.
Debt: Gross debt was $3.170bn, down from $3.366bn at December 31, 2016. The company reported a 2.9% overall weighted-average borrowing rate and compliance with its credit-agreement covenants. Approximately 54% of variable-rate credit-agreement debt was fixed through hedges; a 100-basis-point rate change was estimated to affect interest expense by $8m over the next 12 months.
Material changes and operating trends
- Continuing-operations income increased 11.4% in Q3 and 15.1% for the first nine months. Q3 total net income was slightly lower year over year because the prior-year quarter included income from the glass-manufacturing business, now sold.
- North America Q3 revenue increased 5.7%; segment EBITDA rose 9.2%, with EBITDA margin improving to 12.9% from 12.5%. Higher salvage-parts volumes and scrap-metal prices helped; aftermarket margins faced supplier-cost and customer-discount pressure.
- Europe Q3 revenue increased 23.9%, including acquisitions and currency benefit, while segment EBITDA increased 9.2%. Its EBITDA margin fell to 8.3% from 9.4%, reflecting higher operating costs, including Andrew Page, and distribution and integration costs.
- Specialty Q3 revenue increased 3.4% and segment EBITDA increased 2.9%; its EBITDA margin was 10.6% versus 10.7%.
- For the first nine months, the company completed 21 acquisitions for total acquisition-date consideration of approximately $280m. Acquired businesses contributed $106m of revenue and a $2m operating loss from acquisition dates through September 30.
Outlook, risks and unusual items
- The filing provides no specific earnings or revenue guidance. Management said current liquidity and expected operating cash flows should cover current operating and capital requirements, but may not fund future acquisitions depending on their size.
- LKQ sold PGW’s glass-manufacturing business on March 1, 2017. The transaction generated $301m of investing cash proceeds; the company recorded a $9m pretax loss on sale ($4m net of tax). The continuing aftermarket glass business remains in operations.
- The UK Competition and Markets Authority’s provisional findings on the Andrew Page acquisition allowed approval subject to possible divestiture of up to 10 locations. Its review was ongoing; the company cited a final-decision deadline on or about November 6, 2017.
- Management expected less than $5m of additional integration and restructuring expenses to complete identified plans. It also expected the annual effective tax rate to remain near 35%, absent significant changes in geographic earnings mix or tax laws.
- Risks include foreign-exchange exposure, variable interest rates, volatile scrap-metal prices, acquisition integration and working-capital needs. The filing estimates a 10% currency move would change nine-month consolidated revenue by 4.1% and operating income by 3.0%. Scrap-metal price movements may affect margins because selling-price and vehicle-cost changes can lag.
- Operating-lease commitments totaled $1.339bn. The company anticipated that adoption of the new lease standard would materially affect its balance sheet and disclosures. Litigation contingencies were not expected to materially affect financial position, results or cash flows; a Texas environmental matter was resolved and dismissed in 2017.
Important facts for investors to verify
- How much reported revenue and EBITDA growth reflects acquisitions and currency translation versus sustainable organic growth.
- Whether Europe can improve margins as Andrew Page is integrated and distribution costs are addressed, including the outcome of the CMA review.
- Whether operating cash flow recovers from the year-over-year decline, particularly given inventory and receivables outflows.
- How debt reduction, interest-rate exposure and acquisition spending affect leverage and liquidity.
- The final accounting and balance-sheet effects of the new revenue and lease accounting standards.