Good day, everyone. Welcome to the Copart, Inc. second quarter fiscal 2015 earnings call. Just a reminder, today's conference is being recorded. For opening remarks and introductions, I would like to turn the call over to Mr. Jay Adair, Chief Executive Officer of Copart, Inc. Please go ahead, sir.
All right. Thank you, Noelle. Good morning, everyone. Before we start, I'm going to pass it over to William Franklin, CFO, who will give us an update on numbers. I'll give you a quick update on the company. Then we'll keep those remarks brief. Then we'll open it up for questions. With that, it's my pleasure to turn it over to Will.
Thank you, Jay. Before we begin our comments, I'd like to remind everyone on the call that our remarks will contain forward-looking statements, including statements concerning our views of trends in our business. These statements are neither promises nor guarantees and are subject to certain risks and uncertainties that could cause the final results to differ substantially from those projected or implied by our statements and comments. The company expressly disclaims any obligation to update or revise these statements or comments. For a more complete discussion of the risks that could affect our business, please review the management's discussion and analysis and the risk factors contained in our 10-K, 10-Q, and other SEC filings. With that, I'll begin by making a few brief remarks concerning the financial performance of our company in our second quarter.
Total revenue declined by $10.2 million, or 3.6%, due to a change in the mix between cars sold as an agent and cars sold on a principal basis, which we refer to as purchased cars. Purchased car revenue declined by $13 million. As a percentage of total revenue, it declined four percentage points to 13.7%. Purchased car unit volume represented 6% of the total volume in the current quarter versus 6.8% the same quarter last year. The decline in purchased car revenue was driven primarily by reduced volume as direct purchase activity in both the U.K. and North America, and cars purchased on behalf of insurance companies on a principal basis in the U.K. declined. Service revenue increased by $2.8 million, driven primarily by volume, as revenue per car remained relatively constant. On a year-over-year basis, in North America, unit sales grew by 2% and inventory grew by 10%.
On a consolidated basis, unit sales grew by 1% and inventory grew by 8%, as the U.K. saw a reduction in both unit sales and unit inventory. Our operation expenses decreased by $1.1 million. Adjusted for one-time QCSA integration cost of $2.2 million incurred in the same quarter last year, costs were up $1.1 million, or 1%. The increase was due to growth in volume as the cost to process each car remained relatively constant. General and administrative costs declined by approximately $4.9 million. Same quarter last year contained $2.3 million in severance, lease termination, and relocation costs associated with the QCSA integration and the move of our technology team from California to Texas. We have completed the QCSA integration and the IT department relocation.
We've completed the transition in IT strategy in which we have moved away from the third-party ERP system and from the third-party solution for infrastructure and support. During the quarter, we expended $16.1 million for yard expansion, technology, and equipment. This number also included one lease buyout. During the quarter, we refinanced our debt. We replaced our Term Loan A with a credit structure utilizing private placement debt in the amount of $400 million, due in four tranches ranging from 10 to 15 years, a Term Loan A of $300 million, due in 2019, and a revolver of $300 million, also due in 2019. At the end of the quarter, $681 million was outstanding, none of which was from the revolver. Currently, the blended interest rate is approximately 3.35%. Refinancing added approximately $2.5 million to our interest expense this quarter compared to the same quarter last year.
That concludes my remarks. I'll now turn the call back over to Jay Adair, our CEO, for further color on the quarter.
Thank you, Will. In an effort not to repeat some of the information that Will just discussed with you, I'm going to go ahead and give you some additional information that maybe puts some color around some of the things that we're doing. He discussed the fact that revenues were flat. We had one less business day in this quarter as compared to the same quarter a year ago. The rest of it, I would say, is timing due to a very strong Q1 this year, as was witnessed. Some of those, it just depends on when vehicles come in, when they're going to sell. We saw some heavy sales in Q1, a little slower in this quarter, and I suspect we'll see a good sell-off in Q3. Inventories, as you heard, are up 10% in North America.
More importantly right now is the G&A has been a big focus for us on not only getting the cost down. I think that the quarter reflects a modest effort so far, but more materially is the improvements that we're making in the home office, both on a spend per person and how we're actually executing on the dollars that we spend
In G&A, as well as the fact that total dollars are down. We're getting more, as they say, more bang for the buck on the dollars that we are spending, and we're actually reducing those numbers as well. We're happy about that. Sale price was down in the quarter. We believe this is primarily due to scrap. Scrap pricing's come off substantially, not only year-over-year, but Q1 to Q2. Cycle times have remained relatively flat at this time. We try to anticipate the questions, but I'm sure there's something that we've missed. At this time, I'd like to turn it over to Noelle, and we'll go ahead and open it up for questions.
Thank you. At this time, we will open the floor for questions. If you would like to ask a question, please press the star key followed by the one key on your touchtone phone now. Again, that was star one. Questions will be taken in the order in which they are received. Please limit your questions to one at a time. Again, to ask a question, please press star one. Our first question comes from Bob Labick with CJS Securities.
Good morning. Thanks for taking my question.
Hi, Bob.
Hi. Just to start with a simple one. In terms of FX, obviously, there's been a huge currency swing over the last quarter or so. Could you tell us what, if any, the FX impact was on the top-line sales on the quarter? Just a little further, what you expect if it impacts your export sales or how you expect the stronger dollar to impact you going forward?
Well, we're seeing a negative impact in both aspects. It had a marginal impact on revenue. In the quarter, it was about $3 million, and primarily that's due to the change in the FX between the dollar and the pound. At the EBIT level, it represented slightly less than $1 million of negative impact. It's also had a detrimental impact on our export business slightly. I think we've gone from about 25 to about 23.5% of our total volume being exported.
Got it. Thank you. In terms of, obviously, you're at record volumes and proceeds are, I think, near high, certainly for your customers. You're just starting to get back to that gross margin recovery from the fact that you've increased your service levels. Is this trend of two quarters of gross margin recovery sustainable? Can you describe some of those services that you did increase to impact margins right now?
As I've said many times, we don't focus on the gross margin percentage because that's subject to the percentage of our sales that are purchased car versus agency car. We focus on EBIT per car. When you look at that level, we've been growing for the last three quarters year-over-year. The target is to reach what we were in 2012. We're not there yet. Like I said, we've had nice growth in that metric in the last three quarters on a year-over-year basis.
Got it. I suppose you won't say exactly what the target is in dollars or how close you are?
I'm sorry. We don't disclose that, Bob.
Right. No, I assumed not, but I figured I'd ask since you put it that way. Last one, obviously, you said good control on the G&A side down to the 31, 32 level. I think we've spoken about 31-33 being the sustainable run rate once you got rid of the redundant expenses from QCSA and the IT transition. We were expecting that a little later in the year. Is the current level the right base and sustainable going forward?
Well, we think it is based on our current activity. As we've talked about, there's a focus to expand internationally, and we think that that will probably come into play in 2016, far more than it is 2015. Any change in our fundamental activity level will have a change on G&A. At this activity level, this sales and volume level, this is probably an appropriate G&A level, G&A spend.
Okay, great. I will let others ask. Thanks very much.
Thanks, Bob.
Thank you. Our next question comes from John Lovallo with Bank of America.
Hey, guys. Thanks for taking the call.
Good morning.
First question, Jay, I just want to make sure that I understood your comments correctly on the timing and the service revenue department here. Service revenue was up a little over 1% in the quarter. I think inventory at the end of last quarter was up about 9%. You're talking about timing, but I guess, was the flow-through of those vehicles slower than expected? What am I missing, I guess, is the question.
We had a real big Q2, so we were able to not only build inventory, but we had some large sales. You can compare that to I meant Q1 if I said Q2. You can compare that to Q1 of fiscal 2014 and see that the growth in those two quarters as opposed to the growth in Q2 a year ago versus Q2 this year. Some of it's just timing. It's the type of vehicles you get, the mix, meaning some of our accounts move vehicles twice as fast as others on the insurance side. On the non-insurance side, we've got a mix of vehicles that are far more profitable because they're dealer cars and then as opposed to a mix of vehicles that are more charity focused.
It depends on mix, it depends on timing, I just wanted to give you a little color that why the quarter
When you look at it may look, in terms of revenues, a little soft. As Will said, he pointed out the purchase car activity. I was really just focused on the fact that the revenue, aside from purchase cars, and the fact that we had one less business day in the quarter this year than we did a year ago. Those are the main factors I was trying to point out.
Yeah. Let me add one more element to that. Our inventory grew at the end of the quarter. We had a significant increase in assignments towards the end of the quarter, which didn't allow us to cycle that through the sales process. That'll flow through in our third quarter.
Okay. That's helpful. Then just, I guess, on the vehicle sales line, the principal business here, is this a business that you guys see winding down completely over time? I'm just asking from a modeling standpoint here, I mean-
You're talking about the purchase cars?
Yeah.
No, we'll continue to do that. We've become focused on trying to make sure that when we process volume, we make a certain margin. If we're handling cars and we're not making enough of a profit, we're exiting that type of business. No, we'll continue to handle vehicles like that, and you'll continue to see that. I suspect it'll grow, actually, in the future. What we've done right now is made some corrective changes that will bring it down, and then we'll come back, but at a higher margin. At the end of the day, we're not willing to grab market share in a particular segment, like vehicles where we're purchasing them, and do it at a low margin.
Okay, great. The final question. You guys historically have been, and I think you still are today, very big believers in the business, and I think you've demonstrated that through buying back a good amount of shares over time. I think over the past few years, we've been hit with a number of things like the reconversion noise, the acquisition integration, some of the ERP system stuff that went on. With a lot of that behind us now, you guys took on internal leverage. How are you thinking about share repurchases going forward, just broadly? Is this something that we should be thinking about could accelerate?
Well, we might want to add Sandy to that mix of all the items that you threw out as well. We've said historically that it's something that we view as an opportunity for us to deploy cash as well as acquisitions, buying companies, expanding locations, buying out leases. It's one of the many, and we've never given any guidance as to at what dollar amount we'll buy it back or when we're going to buy it back. It is still something that we consider an option. It's something we discuss at the board level.
Okay. Appreciate it, guys.
Yeah, you bet, John.
Thank you. Our next question comes from John Healy with Northcoast Research.
Hi. Thank you. Jay, I wanted to follow up on that question there. Can you help us think about the decision to add the internal leverage in the month of December? I understand the opportunities for acquisition or land assets or even buying back stock. What was the trigger to say, okay, we need to now bring this onto the balance sheet and pay money to have this flexibility? How do you think about timing of executing against that flexibility?
Sure. I'll give you an example. Back in 2008, fiscal 2008, we went out into the market and bought back stock, split adjusted off the top of my head. That's my qualifier there. I think it was in the 20s. Subsequent to the financial crisis, our stock was in the 12s. We were sitting with a very low cash position, and we reached out to the banks, and as you can appreciate, nobody was willing to loan money at that time. Having cash on our balance sheet is part of our thought process in terms of a fiscally prudent approach to the markets. We think interest rates are very low right now as a company, as a board.
We were able to borrow debt that goes out 10 to 15 years before it has to be paid off, and it's cheap, as Will gave you the rates earlier. We viewed that as a smart move to go ahead and increase the amount of debt on our balance sheet to refinance the debt that was coming due this year. We had a couple hundred million, I believe, that was coming due this year, and that debt now has been pushed out roughly 5 years. Part of the restructure was it was the right thing to do. Part of increasing the debt, we felt was just a prudent approach to hedging, if you will, the future. We're not sure what the market will do. You don't know what your stock price is going to do.
We're very bullish on the company, if for some reason we had a financial issue again in the future as a country, we want to make sure we've got cash on hand and we're not in a position where we're trying to reach out and borrow money at that time. As a company and as a board, we felt it was important to go ahead and refinance the debt and also increase the amount of debt on our balance sheet.
Makes sense. Along those same lines, I wanted to ask, I know you guys kind of made it known that Will is going to be transitioning to more an operating role, and I was curious where you guys are at with the CFO search process.
Yeah, we have a SVP of finance in the company, sitting in the room right now. His name is Bruce Bishop. We love Bruce. Bruce is a great guy.
Thank you.
Will has gone into a heavy operating role. That's great. He's doing a fantastic job. Bruce has been taking over the finance role. So I'll leave it at that. In the future, if there's a change in CFO title, we'll make that announcement.
Okay. Thank you.
Thank you.
Thank you. Our next question comes from Ryan Brinkman with JPMorgan.
Hey, thanks for taking my call. I guess I'll tackle the stock buyback, cap allocation, capital structure question in maybe a different way. This is the first time that you've ever had long-term debt on your balance sheet, 10-15 years, you mentioned. You've levered once before, in the recent past, really only to buy back stock, but that was with a medium term, medium duration Term Loan A and revolver, which the contractual terms have you then immediately begin paying down. Is there anything philosophically that you're thinking differently when it comes to capital structure with having that long-term debt on the balance sheet?
Well, this is the first time that we've seen interest rates for long-term debt at this level. We picked up the $400 million of debt over 10 years before we have to pay it back and at a rate just over 4%. That really is the first time that we saw an opportunity like that, A. B, we historically, that many of you in the analyst community, I believe, know this. Our founder, Willis J. Johnson, has historically built the company before we went public on debt, and historically has been debt-averse in the past when interest rates obviously were much higher than they are today. When interest rates got lower back in 2010, 2011, and the opportunity to put some debt on, we all agreed, including our chairman, that it was something we should do.
Now that we've seen interest rates get low for long-term debt, we believe that that was, again, something that made sense long term. The last piece I'd throw is because of the relationship that we have between our international entities and our U.S. entity, there's some tax advantage that we get by having debt. If we didn't have the debt, we'd actually lose that tax advantage, basically. There's a benefit to having some debt, especially at these levels and especially at these rates, for the foreseeable future, and that was really the reason for locking up some long-term debt.
Okay, thanks. That's helpful. Maybe just on the quarter, it looks like general administrative expense fell nicely sequentially down, I think, like $7 million. Is this the savings that was previously communicated regarding the non-implementation of that earlier planned ERP system? Is this quarter's run rate now more or less clean, or is there still some noise running through the data centers, headquarters move, et cetera? Thanks.
Well, the change in IT strategy is certainly part of that. We did incur a significant amount of cost that reflected in the prior, actually three quarters, ever since we took the impairment Q3 of last year to make that change. The other elements which I spoke to were the cost associated with moving our IT department out from California and just the cost of integrating QCSA, which was a significant operations. At this point, we think those costs are primarily behind us. There'll always be one-time cost, and frankly, if they're not significant, we won't point them out. In general, at this activity level, we think this is appropriate run rate for our G&A spend.
Okay, great. Sticking with the quarter, one of your competitors recently mentioned the lower scrap prices weighing on pricing at salvage car auctions. Are you seeing that? Can you kind of just directionally, proportionally size up how important scrap metal prices versus the lower U.S. dollar are for pricing versus used car prices, which seem to be holding up the best of all the factors?
In North America, the scrap metal pricing had a significant impact on our lower-end cars. On an overall basis, it was a marginal decline. On a consolidated basis, because we had growth in revenue per car in other areas of our operations internationally, it was relatively flat. In terms of importance, scrap metal pricing is a significant factor. We look at two primary drivers when we correlate our pricing, and that's used car pricing and commodity pricing. In terms of significance, I would weigh used car pricing as slightly more significant.
Okay, that's good to hear. Just the last question from me, if I can, on the weather. I'm in Miami today, but we've had a lot of snow in New York, a lot of snow in Boston. This seems like the sort of weather that is good for you, that it's not significant storms that leads to extra expense in your parts. Can you kind of confirm that? Of course, you have very difficult compares with favorable weather for you a year ago. How is weather going to play on your results over the next couple of quarters, maybe on a year-over-year basis? Thanks.
Sure. I would just say this. It's hard to isolate on a call how weather compares in the Northeast compared to the Midwest compared to the West Coast, et cetera. We look at when we peak, and we peaked in inventories at the end of January, and we've been selling off those inventories now in February. We continue to see strong volumes coming in, but we have seen the peak come in. Sometimes that peak is the first week of February, sometimes it's the second week of February. Right now, it peaked at the end of January. Once you peak and you come off, which we have, it won't go back to those levels. We are now selling off substantial amounts of units in February.
Again, I think it's going to be a good quarter based on the inventory build, based on the volume we're seeing come in. It's definitely not a bad winter, but we have peaked already.
I'll add one more comment on that. I talked about the decline in volume in the U.K., and we can trace that back to significant influence of weather. This time last year, they were incurring floods in a number of areas in the U.K., which made the comp for volume more difficult for us this quarter.
Okay. Helpful. Thank you.
Thank you. Our next question comes from Craig Kennison with Baird.
Hey, Craig.
Good morning.
Hi, Craig.
Good morning. Thanks a lot for taking my question as well. On market share, your largest competitor reported 11% revenue growth in a similar period versus your 1% service revenue growth. I recognize very much that it's apples and oranges when you're looking at those two metrics. To what extent, if any, does it suggest you're not gaining share as quickly as your largest competitor?
I think both of us have been relatively mature in the last year. There's quite a few RFPs that went out over the last two years, and the mix has been very steady over the last year. Again, they're not completely comparable quarters. Theirs ends December, ours ends January, and January is the biggest month in terms of cost and building inventories and that process.
I think, the easy answer to give you is just that the mix hasn't really changed between either of us in the last year.
Craig, let me point out one other thing, because we're in a number of different markets. They tend to focus on just the insurance market, but we're in the charity market, and we're in the repo market. We're on the market, folks that just buy and sell cars on our platform as part of their business. You have to look at each of those individually to conclude about where our market share resides. For example, in charities, we may be up or not, and that enters into our total volume mix.
Did you see relative weakness in those non-insurance categories?
In certain categories, we did.
Okay. Shifting gears to gas prices. Will, give us a sense for how lower gas prices will impact your revenue and cost structure.
Typically, there's an impact on our subhaul cost, and that's one element to those costs. I can tell you that there's so many other factors that enter into our average cost to pick up a car, and probably the main one is the volume. When you have more volume, you have a reduced opportunity to select a low-cost provider. We've talked about that. There's other elements. I mean, we're picking up a far higher percentage of cars on the same day than we did previously. Our pickup time is well below one day and is declining. When you're trying to provide better service to your insurance customers by picking up the cars faster, you have less opportunity to aggregate hauls. You have more single hauls in a total mix.
Despite the fact that we have declining diesel fuel pricing, we're challenged to reduce our subhaul costs on a per-car basis.
Good. That helps. Then maybe finally, Jay, on the dealer-to-dealer market, on that whole car side, we've seen a number of business models pop up in this dealer-to-dealer space where technology essentially disintermediates the physical auction to some extent. I'm just curious. You tend to like these disruptive models and have done well with technology. How do you see that market as a potential addressable market for Copart?
For the industry, I think it's been slow to adopt. I expected, 12 years ago, that we'd see much further progress in the adoption on that, especially on the whole car side. With respect to our dealer processing of vehicles, and this may be partially true for the whole cars as well.
We provide a service by getting the vehicle off their lot, and I don't see that technology disrupting our business because the dealers got limited space on the lot. They want those vehicles that they're not going to sell off the lot, and they've basically got two quick options. They can wholesale it, or they can take it to auction. In both scenarios, it gets off the lot immediately. If you're talking about using a technology to do a B2B process and get rid of the vehicle, it's sitting on the lot while they go through that. I suspect that those vehicles will continue to be vehicles we'll get, and we'll continue to grow in that segment because it's not just returns. It's not just the ease of selling the vehicle. It's the fact that it's being physically moved.
We don't sell vehicles typically at the lot, where the vast majority of our vehicles are being moved to our sites, and so it's out of there, off their facility, and that's a big improvement for them. Got it. Thank you.
Thank you.
Thanks, Craig.
Thank you. Our next question comes from Bret Jordan with BB&T Capital Markets.
Hey, good morning.
Hi, Bret.
Just a follow-up question on sort of the capital allocation. I think there was a comment about M&A and international expansion potential. Now that you've got liquidity, how are your thoughts about international growth via M&A, given the fact that you wrote off the ERP system last year? Are you thinking smaller size or relative lower-risk transactions because the lack of an IT system, or does that not really change the model? Well, the ERP was I'd put that separately. Our reasons for doing the ERP and our reasons for exiting the ERP are
Really separate from international markets. We can grow internationally without the ERP, and we're doing that. We're building systems to do that. Our desire to have an international footprint is the same as it was 10 years ago when we first expanded into Canada. It's been a strong desire, that eventually brought us to the U.K. and Brazil and Dubai and everywhere else that we do business. We'll continue to develop tools necessary to expand in those markets. When the opportunities arise for us to make an acquisition in those markets, we're going to do that.
Okay, thanks. That was not a critical backbone for M&A integration. That was just another piece of the puzzle.
Correct.
All right. Thank you.
Thank you again. Our next question comes from Bill Armstrong. Again, if you would like to ask a question. For final questions, please press star one.
Good morning, guys. You already answered my question on market share, but I did have a question on the other income line. You had a spike there to $4.1 million. I just wanted to dig into that a little bit. What's in there?
It includes a number of different elements. It includes some rent. We rent out properties, and we don't include that in our operating income. It includes gain on sale of fixed assets, also includes an FX impact. Our hedging strategy is pretty simple. When we accumulate cash offshore, we convert it to USD. The accounting rules, which I can't explain, but we hold this cash in USD to eliminate economic risk to the business. Nevertheless, accounting rules make us recognize a gain and loss on that cash relative to the home currency of the country that owns the cash. In this situation, we had USD owned by our U.K. entity, and that generated a gain on FX in the U.K., and that was the primary driver in the spike.
How much was that out of that $4.1 million, that Forex gain?
Hold one second. It was about $3 million.
Okay. Going forward, are we looking at maybe a run rate of roughly $1 million a quarter on that other income line?
Well, it's impossible to predict. It all hinges on the movement of the relative values of the different currencies.
Right. Understood. Okay, thanks.
Thank you.
Thank you. Our last and final question comes from John Lawrence with Stephens.
Good morning, guys.
Morning, John.
Hey, John.
Would you comment just a little bit, Will, I don't know if you'll give us this number, but what's the delta from when you talk about 2012 at the peak of EBITDA or EBIT per car? How far are we away from that peak at this point?
No, I'm sorry. I can't give you that. I can talk about it directionally.
Yep.
Directionally, like I said, we've seen a consistent growth in the EBIT per car. We can't look at it on a sequential quarterly basis because of the seasonality in our business. We've got to reach back two years and look at what we did in the second quarter-
Yep
of 2013 or 2014, we've had a nice growth.
Yeah. Is it unfair to compare that to that operating margin, 32%, 32.5% back in June of 2012?
You really can't look at it on a percentage basis.
Yeah. Okay.
Because of the impact of purchased car activity, you have to look at it on an EBIT per car basis.
Got it.
Secondly, to follow on Bret's question, Jay, can you comment just the environment, what you're seeing over there, expand it internationally, the environment? What are you seeing over there as far as progress in the industry that may or may not want to expand, and at what point?
I guess I would just comment by saying that we have people on the ground. We've got operating businesses. The first step would be to expand the operating businesses that are already there. Then we've got people on the ground in new markets where we don't do any volume yet, and we've got relationships with opportune acquisition targets. When the time arises and when we feel it's the right time to do that, we'll step into those markets as new markets.
Right now, we're really focused on improving the markets we're already in before we expand into new.
There's nothing that's changing that's causing you to think about pulling back or anything like that?
No. Each market you look at, they're going to have their own tax laws. They're going to have their own process. Sometimes we've got to build systems around the new tax law before we can get into that market. Sometimes we've got a completely different process than we're familiar with in the U.S., U.K., Brazil, as an example, or Dubai. We have to go into a market and convert that existing process that they've got to a new model and show them that the model is better. It just depends market by market, and some markets you can move quicker than others. We're committed to that strategy of expanding our global footprint.
Great. Thanks for your help.
Thank you.
Thanks, John.
Thank you. There are no further questions at this time. I would now like to turn the call back over to Jay Adair.
Thank you, Noelle. Thank you everyone for coming on the second quarter call. We look forward to reporting Q3 in 90 days. Bye-bye.
Ladies and gentlemen, thank you for your participation. This does conclude today's conference. Have a great rest of your day.