LKQ Corporation — Q3 2010 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2010. LKQ supplies recycled, aftermarket, and refurbished vehicle replacement parts, along with related products and services. The interim financial statements are unaudited.
Financial performance
| Metric | Q3 2010 | Q3 2009 | Nine months 2010 | Nine months 2009 |
|---|---|---|---|---|
| Revenue | $607.6 million | $494.8 million | $1,795.8 million | $1,492.0 million |
| Gross margin | $261.4 million (43.0%) | $225.1 million (45.5%) | $806.0 million (44.9%) | $674.9 million (45.2%) |
| Operating income | $65.2 million (10.7%) | $56.0 million (11.3%) | $224.7 million (12.5%) | $171.7 million (11.5%) |
| Income from continuing operations | $35.9 million | $30.1 million | $125.8 million | $90.6 million |
| Net income | $35.9 million | $29.2 million | $127.7 million | $90.3 million |
| Diluted EPS from continuing operations | $0.25 | $0.21 | $0.86 | $0.63 |
Nine-month operating cash flow was $144.6 million, versus $135.5 million in 2009. Investing activities used $94.3 million, including $70.3 million of cash for acquisitions and $37.0 million of property and equipment purchases. Financing activities provided $9.3 million. Cash increased to $168.7 million from $108.9 million at year-end 2009.
At September 30, total current assets were $821.5 million and current liabilities were $225.3 million. Long-term obligations were $597.5 million, including $589.0 million of term loans and $8.5 million of other notes; $39.9 million was classified as current. The $100 million revolving facility had no borrowings; $79.9 million was available after letters of credit. The company reported compliance with its credit covenants.
Changes and drivers
- Q3 revenue rose 22.8%; nine-month revenue rose 20.4%. Management attributed growth to higher sales volumes, acquisitions, and higher scrap and other metal revenue. Organic parts-and-services growth was 8.3% in Q3 and 6.5% year to date.
- Gross margin percentage declined in both comparisons, principally due to higher salvage vehicle acquisition prices and lower margins on scrap aluminum; Q3 also reflected higher freight costs for overseas aftermarket products. Nine-month operating margin nevertheless improved, aided by higher metal revenue and operating expense leverage.
- Inventory increased to $444.6 million from $385.7 million at year-end, including salvage inventory of $197.4 million. Management cited higher salvage purchase volumes and prices to support demand.
- Interest expense fell year over year as average bank borrowings declined. Shares outstanding increased to 143.8 million from 142.0 million at year-end, partly reflecting option exercises.
Outlook, risks, and unusual items
- Management estimated full-year 2010 income from continuing operations of $162–$168 million and diluted continuing-operations EPS of $1.11–$1.15, excluding restructuring expenses. It expected 2010 operating cash flow to exceed $165 million and remaining 2010 capital expenditures, excluding acquisitions, of $28–$38 million.
- The company made 12 acquisitions during the first nine months for total consideration of $78.9 million; preliminary purchase accounting included $50.8 million of goodwill. Four further acquisitions closed in October 2010. Goodwill totaled $990.6 million at quarter-end.
- Greenleaf integration was expected to continue through 2011, with approximately $0.8 million of additional restructuring charges anticipated. The filing reported $0.6 million of Greenleaf-related restructuring expense for the first nine months.
- LKQ sold two self-service facilities in January for $12.0 million and recorded a $1.7 million after-tax gain. Approximately $2.9 million of discontinued-operation liabilities remained, mainly lease and closure costs, with excess lease payments extending through 2018.
- Interest rate swaps had a $5.6 million fair-value liability. Management reported $139 million of unhedged variable-rate debt and estimated a 100-basis-point rate move would change interest expense by $1.8 million over the next 12 months, after giving effect to hedge expirations.
- Key exposures include salvage vehicle prices and availability, scrap-metal prices and timing effects on margins, foreign exchange related to Canadian operations and Taiwan-sourced parts, seasonality, acquisition integration and purchase accounting, and potential litigation or environmental claims. Management said litigation and other contingencies were not expected to materially affect results. No legal proceedings were reported in Part II.
Important facts for investors to verify
- Whether salvage acquisition costs, inventory levels, and parts-and-services organic growth support the outlook without further gross-margin erosion.
- How much revenue and earnings growth is organic versus acquisition-driven, and the performance and final purchase accounting of recent acquisitions.
- Whether forecast cash flow covers working-capital needs, acquisitions, and planned capital spending; inventory was a significant use of operating cash.
- Debt repayment and refinancing capacity ahead of the credit facility’s October 2013 maturity, covenant headroom, and the effect of variable interest rates and swaps.
- Progress on Greenleaf integration, remaining restructuring and lease obligations, and any developments in goodwill impairment or other contingencies.