Formatted Report

27-Jul-2023

LKQ Corp. (LKQ) Q2 2023 Earnings Call

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

CORPORATE PARTICIPANTS

Joseph P. Boutross Vice President-Investor Relations

Rick Galloway Chief Financial Officer & Senior Vice President

Dominick Paul Zarcone President, Chief Executive Officer & Director ......................................................................................................................................................................................................................................................

OTHER PARTICIPANTS

Scott L. Stember ROTH MKM

Brian Joseph Butler Stifel, Nicolaus & Co., Inc. Gary Frank Prestopino Barrington Research Associates, Inc.

Craig R. Kennison Robert W. Baird & Co., Inc.

Daniel Imbro Stephens Inc.

Bret Jordan Daniel Imbro Jefferies LLC Stephens Inc. ......................................................................................................................................................................................................................................................

MANAGEMENT DISCUSSION SECTION

Joseph P. Boutross

Vice President-Investor Relations

GAAP AND NON-GAAP FINANCIAL MEASURES ...........................................................................................................................

During this call, we will present both GAAP and non-GAAP financial measures
A reconciliation of GAAP to non-GAAP measures is included in today’s earnings press release and slide presentation

......................................................................................................................................................................................................................................................

Dominick Paul Zarcone

President, Chief Executive Officer & Director

BUSINESS HIGHLIGHTS ..............................................................................................................................................................................................

Opening Remarks

I hope you’re all having a safe and enjoyable summer
This morning, I will provide some high-level comments related to our performance in the quarter, and then Rick will dive into the financial details and provide an overview of our updated guidance before I come back with a few closing remarks
Q2 2023 was a continuation of what we delivered in Q1, where, again, the resilience of our businesses shined through with an exceptional organic revenue growth and strong margins in our North American

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

and European segments, which more than offset the impact of the headwinds experienced by our Specialty and Self Service segments

The non-discretionary nature of the parts these core segments distribute, coupled with our ongoing operational excellence initiatives highlights the strength of our business model and our ability to generate robust profitability during periods of challenging macroeconomic conditions, including flat declining economic growth in several of our markets, decreases in commodity pricing, the ongoing conflict in Ukraine and its impact on the broader European markets and the continued increases in interest rates and its subsequent impact on consumers

North American and European Segment

The strength of our North American and European segments is evidenced by the fact that in Q2 2023, North America and Europe collectively represented roughly 90% of our total segment EBITDA vs. 79% for Q2 2022 and just 74% in 2021
The variance in performance across our operating segments this quarter again validates our long-term diversification strategy, both with respect to geography and product and speaks to the true strength of our organization and our portfolio of businesses

Parts and Services Organic Revenue

Now on to Q2 2023 results and y-over-y comparisons
Revenue for Q2 was $3.4B, an increase of 3.2%
Parts and services organic revenue increased 4.8% on a reported basis and 5.4% on a per day basis
The net impact of acquisitions and divestitures was flat y-over-y and foreign exchange rates increased revenue by 0.006%
For total parts and services revenue increases of 5.4%

Diluted EPS

Other revenue fell 23.9% in Q2 2023, primarily due to weaker precious metal prices relative to the same period in the prior year
Net income for Q2 2023 was $281mm as compared to $420mm last year
Diluted EPS was $1.05 in Q2 2023 compared to $1.49, a decrease of 29.5%
The company completed the divestiture of PGW Auto Glass in Q2 last year, which generated a pre-tax gain of $155mm and an after-tax gain of $127mm or $0.45 per share in Q2 2022

Adjusted Net Income and EPS

Adjusted net income of $291mm in Q2 of 2023 compared to $307mm last year, a decrease of 5.1%
Adjusted diluted EPS in Q2 2023 was flat with last year at $1.09
Coming in flat to the prior year is a testament to the strength of our operating performance as we faced headwinds from significantly lower commodity prices and higher interest expense
Rick will provide further financial details in his prepared remarks

North America

Now, let’s turn to some of the quarterly segment highlights
As you will note from slide 8, organic parts and services revenue for North America increased 8.3%

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

North America also reported the highest quarterly EBITDA margin on record as a standalone segment, excluding Self Service
We continue to perform well in North America, especially when you consider that collision and liabilityrelated auto claims were down 3.1% y-over-y in Q2
Similar to Q1, the growth in North America was a combination of price and volume improvements

PRICING IMPACT

The pricing impact primarily reflected the y-over-y benefit of increases implemented late in Q2 and Q3 of last year as opposed to further increases in 2023
The volume pickup was particularly evident in the aftermarket product line and was the result of two factors
First, having largely worked through the industry supply chain issues and returning to proper levels of inventory enabled us to get back to our historical level of fulfillment rates with YTD aftermarket fill rates at their highest level since June of 2020
Second, the impact of the State Farm program continues to unfold nicely and is building demand for aftermarket headlights, tail lights and bumper covers

State Farm

As previously disclosed, in December of last year, State Farm announced that it would allow the use of these aftermarket part types
Late last month, State Farm announced that they are running yet another pilot, this time in California and Arizona, for the use of a full range of aftermarket collision parts, including sheet metal products like fenders, hoods and trunk lids and other items like side mirrors and grills
As part of this pilot, State Farm requires that these parts to be certified by CAPA, the Certified Automotive Parts Association

State Farm

As many of you know, we are by far the largest distributor of CAPA-certified collision parts in the United States
Importantly, we believe the potential expansion by State Farm into the utilization of these additional aftermarket part types validates both the high-quality standards of our Platinum Plus private label aftermarket parts offerings and our ability to deliver best-in-class service to State Farm’s direct repair network across the country
We will be a beneficiary should State Farm ultimately decide to roll out the use of these additional aftermarket part types on a nationwide basis
This upward trend in our aftermarket sales volumes is consistent with a general rise in alternative part usage or APU, which again approached pre-pandemic levels in Q2
I am pleased to say that the increase in APU also included an uptick in the recycled parts category, increasing about 140BPS y-over-y
Combined, aftermarket recycled parts have witnessed over a 400-basis point improvement in industrywide APU y-over-y in Q2 2023

Market Share

Our outperformance is another indicator that we continue to take market share

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

Non-comprehensive total loss rates decreased sequentially in Q2 to 20.4% from 20.9% in Q1
With the recent drop in used car prices, we expect total loss rates to slightly tick up for the balance of the year
And then as OEs work through their healthy inventory levels, industry experts believe we will likely see a mix shift to newer vehicles on the road and would expect to see any near-term increase in total losses to reverse course given newer vehicles are less likely to be deemed a total loss

European Segment

As stated in prior calls, we are generally agnostic as to the small up and down shifts in the total loss rate
Finally, last month, I had the opportunity to spend some quality time with the top-performing general managers and salespeople at an event for our North American business
I must say their enthusiasm regarding the future of LKQ was simply energizing
Now, let’s move on to our European segment
Europe’s organic revenue growth for parts and services in the quarter increased 8.5% on a reported basis and 9.8% on a per day basis
It was a quarter of records for the European segment, which reported the highest quarterly revenue ever at $1.64B, the highest EBITDA at $188mm and the highest second quarter EBITDA margin percentage ever at 11.5%

Benelux, Germany and Eastern European Operations

During the quarter, we saw high single-digit to low double-digit reported organic growth in some of our key operating geographies
In particular, our Benelux, Germany and Eastern European operations performed exceptionally well
The revenue growth reflected a combination of positive movements in both price and volume
We are confident we are continuing to take share in these large and highly fragmented markets as witnessed by ECP, our UK business, which generated its highest level of per day sales on record

LKQ Europe

In Q2, LKQ Europe entered into a strategic partnership with Mobivia, Europe’s largest independent provider of automotive maintenance and repair services operating under 11 brands in 18 countries across Europe
The agreement between Mobivia and LKQ Europe is based on a dual mode of collaboration, which includes the procurement and delivery of automotive parts to Mobivia’s 530 ATU service branches across Germany
LKQ and Mobivia are both leaders in their respective sectors of the European automotive aftermarket
And thanks to this collaboration, we will leverage our strengths to provide a differentiated solution that is unparalleled in the marketplace

OPERATING MARKETS

Our European team continues to face cost inflation across all operating markets
And to combat this, the team has taken decisive structural and multiple efficiency actions
These actions resulted in y-over-y improvements in SG&A for Q2 despite this challenging macro environment

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

I spent last week in Europe meeting with all the senior leaders across the segment and also with the regional teams in the UK and the Benelux region
I am incredibly proud of the performance of the European team in what they are delivering
And I am very excited about all the initiatives they have underway to grow the business and enhance our leading competitive position
The team’s focus and drive are outstanding and they are creating a uniquely special and market-leading business

Specialty Segment

Now, let’s move on to our Specialty segment
During Q2, Specialty reported a decrease in organic revenue of 12.9%, which was below our expectations
There were major differences in the demand for various part types with the truck, off-road and marine categories being down less than 2%, while RV and towing-related products were off substantially more than the overall segment decline
The RV portion of our specialty business was impacted by the wholesale shipment and retail sales of RVs, which were down 50% and 20% YTD through May, respectively
We expect to see further declines in the RV market as recent industry reports project that full year 2023 wholesale shipments will be down 40% y-over-y
With that, we believe the challenges for our Specialty segment will continue in the back half of the year

Self Service Segment

Now on to our Self Service segment
Organic revenue for parts and services for our Self Service segment increased 4.7% in Q2
Self Service was again challenged by extremely soft commodity pricing, particularly as it related to precious metals
On the corporate development front, during the quarter and recently in July, we completed some smaller, highly synergistic tuck-in acquisitions including a US-based remanufacturer and distributor of OE replacement engines, marine replacement engines and high-performance crate engines, a leading independent truck parts distributor in the UK, a Holland-based automotive aftermarket parts distributor, a Belgium-based business that distributes automotive parts, paint, tools and accessories, and aftermarket accessories distributor with locations in Texas and Oklahoma
Additionally, during the quarter, we divested a small non-core business in our Specialty segment

Net Annualized Revenue

The net annualized revenue impact of these six transactions collectively is approximately $240mm
As most of you know, on February 26, we entered into a definitive agreement to acquire all of Uni-Select’s issued and outstanding shares for CAD 48 per share in cash, representing a total enterprise value of approximately $2.1B
The process is on schedule, and we are pleased with our progress

Uni-Select Shareholders

During Q2, we received the required approvals from Uni-Select shareholders, the Superior Court of Quebec, the antitrust regulators in the United States and in Canada

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

On July 21, the Competition and Markets Authority in the United Kingdom issued its Phase 1 decision on the transaction
And in response, we immediately submitted our proposed undertakings related to the divestiture of UniSelect’s GSF car parts business in the UK for evaluation by the CMA.

GSF

In light of those developments, yesterday, we waived the closing conditions relating to regulatory approvals, and I’m happy to announce we plan to complete the acquisition of Uni-Select on or about August 1
The pending divestiture of GSF continues to progress in accordance with our desired timeline
After we complete the customary competitive bid sale process, the CMA will complete its suitability review of our proposed buyer
Upon receipt of approval of the buyer from the CMA, we will complete the sale of GSF likely in Q3

ESG

Now turning to ESG
During the quarter, we initiated or expanded various programs that centered around our people, LKQ’s most important asset
As part of our response to our employee engagement survey, we identified that ensuring the health, safety and well-being of our employees is essential to our success
With that engagement data, we took action
We expanded our Inspire to Thrive wellness program globally, which focuses on the physical, mental and financial well-being of our employees
We expanded the installation of dash cams across our North America and specialty fleets, a program that enhances the safety of our drivers

ECP

And at ECP, our team implemented two exciting programs, 25 by 25 and PAVE, which stands for People Adding Value Everywhere
Both these programs are centered around our diversity, equity and inclusion initiatives
Again, we implemented these programs as they are in the best interest of our employees
I could not be prouder of the continued progress on our ESG efforts, which was again validated in June by MSCI maintaining our AAA ESG rating, a rating that very few companies can claim
Lastly, I am pleased to announce that on July 25, 2023, the board of directors declared a quarterly cash dividend of $0.275 per share of common stock payable on August 31, 2023, to stockholders of record at the close of business on August 17, 2023

Rick Galloway

Chief Financial Officer & Senior Vice President

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

FINANCIAL HIGHLIGHTS .........................................................................................................................................................................................

Organic Revenue Growth

Q2 was another solid performance from the business with highlights including record high segment EBITDA margin of 20.6% in North America and at 11.5%, the highest quarterly margin in a decade for Europe
Organic revenue growth in the high-single digits in North America and Europe, operating improvements countering headwinds from commodity prices and interest costs, strong FCF of $414mm in the quarter, and the completion of $1.4B bond offering to secure financing for the pending Uni-Select acquisition

Global LKQ Team

I want to reiterate Nick’s thanks to the global LKQ team for delivering exceptional results in difficult conditions
To provide further details on these results, I will start with comments on segment performance
Going to slide 10, North America continued its strong performance, posting a segment EBITDA margin of 20.6%, a 190-basis point improvement over last year
We saw gross margin improvement of 150BPS driven by lower freight costs, pricing and productivity initiatives, and a favorable mix effect with the sale of the lower margin PGW business

Overhead Expenses

Overhead expenses were favorable by 40BPS, primarily due to lower freight, vehicle and fuel expenses
With the continued strong performance in our North American segment, we believe the full-year segment EBITDA margin will finish the year in the low 19% range, with some moderation in H2 2023 with salvage margins tightening along with some normal seasonality
Europe also delivered terrific results with a segment EBITDA margin of 11.5%, up 70BPS from the prioryear period

Gross Margin

As seen on slide 11, gross margin improved by 20BPS, while overhead expenses decreased by 50BPS, with the effect of improved leverage due to the 9.8% per day organic revenue growth and emphasis on productivity initiatives on personnel costs and reduced freight costs
There are some headwinds anticipated in H2 as personnel costs increased due to wage inflation
We intend to mitigate these increases through productivity initiatives, and we remain optimistic about our previously disclosed expectation for full-year margin expansion of 20 to 30BPS in 2023

Specialty’s EBITDA Margin

Moving to slide 12
Specialty’s EBITDA margin of 9.5% declined 390BPS compared to the prior year
Gross margin, which was down 370BPS y-over-y, is under pressure from increased price competition as inventory availability continues to improve for our competitors in addition to unfavorable product mix as lower margin lines such as auto and marine, have been less affected by revenue reductions
Overhead expenses were up 20BPS, primarily from the decrease in leverage driven by organic revenue decline of 12.9% per day

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

Cost Structure

The Specialty team continues to take actions to align the cost structure with revenue trends
And prior restructuring efforts have provided some benefit in Q2 to counteract the revenue softness
As you can see on slide 13, Self Service profitability declined sequentially to 4.1% this quarter from 13.2% in Q1 and decreased relative to the 15.3% reported in Q2 2022
Metals prices had a net negative effect on results with lower precious metal prices representing $15mm reduction in EBITDA and an unfavorable lag effect from sequential scrap steel price changes, driving a further $5mm decline

OTHER REVENUE

Other revenue decreased by 28.3% in total, contributing to a reduction in operating leverage of 620BPS
Relative to Q2 2022, the average price received for catalytic converters in Q2 2023 declined by 39%, and scrap steel fell by 20%
While car costs typically move in tandem with changes in commodity prices, we have experienced a stickiness in car costs, which were only down 12% relative to Q2 2022
These trends created a gross margin headwind in Q2 that could persist in H2

Adjusted Diluted EPS and Share Count

Now, for further details on the consolidated results
As mentioned, adjusted diluted EPS of $1.09 was flat to Q2 last year
Our operational performance showed strong y-over-y improvement with a net increase of $0.11 per share on an adjusted basis driven by solid gains in North America and Europe, partially offset by the decline in the Specialty business
We benefited by $0.04 due to the lower share count resulting from our share repurchases in 2022
These factors were ex of $0.08 from the impact of metal prices, as shown on slide 27, $0.05 in higher interest expense resulting from rate increases, and $0.02 due to higher effective tax rate

Tax Rate

On the tax rate, we applied an annual effective rate estimate of 27.0%, which is 40BPS higher than the 26.6% in our prior guidance
The rate change is attributable to non-deductible Uni-Select transaction costs and other effects related to the Uni-Select financing

Uni-Select Transaction

As shown on slide 18, the Uni-Select transaction affected various parts of Q2 financials
The income statement effects of the pre-acquisition net financing expenses and transaction costs have been excluded from adjusted diluted EPS.
Once we complete the acquisition, going forward interest expense will be reflected in adjusted diluted EPS.
In May, we completed the offering of $1.4B of senior notes due in 2028 and 2033
We’re happy with the results of the offering as a first-time investment-grade issuer
Obtaining financing at 5.75% and 6.25% for the 5 and 10-year maturities was an outstanding outcome

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

We recorded interest expense on the bonds for the period between the issuance date and the quarterend in the interest expense line on the income statement

BONDS PROCEEDS

The interest earned from the bonds proceeds is reflected in interest and other income
In Q1, we hedged the interest rate risk prior to the issuance of permanent financing in the bond market
Upon issuance of the bonds, we unwound these interest rate swaps and settled by making a payment of $13mm
As these swaps qualified for hedge accounting, the loss was held on the balance sheet and will be amortized to the income statement over the life of the bonds

Bond Offering

With the completion of the bond offering, we terminated the bridge loan facility and amortized the remaining $6mm of up-front fees in Q2
To hedge the risk related to the movements in Canadian dollar exchange rates between signing and closing, in Q1, we entered into foreign exchange forward contracts to purchase Canadian dollars at a specified rate
These contracts had a fair value of $46mm as of June 30
And as we are not eligible for hedge accounting on these contracts, the mark-to-market gain is reflected in the income statement as a separate line item
We incurred M&A advisory costs of $6mm in the quarter, which are presented in restructuring and transaction-related expenses

CASH FLOW AND BALANCE SHEET ITEMS .......................................................................................................................................

Bond Offering

Shifting to cash flows and the balance sheet
With the $1.4B bond offering and the CAD $700mm term loan, we have secured the necessary financing for the Uni-Select transaction
By completing the bond offering ahead of the deal closing, we are carrying more cash on the balance sheet than usual at $1.9B
If you set aside the roughly $1.4B earmarked for the acquisition, we have $519mm in cash and $1.2B of available liquidity as of June 30

Debt and EBITDA

As of June 30, we had total debt of $4.0B with a total leverage ratio of 2.3 times EBITDA, which takes into account the additional debt for funding Uni-Select and none of the projected EBITDA from the acquisition
The increase in the total leverage ratio above our target range of 2.0 times was expected as we disclosed in our prior Uni-Select communications
We are committed to reducing our leverage ratio below 2.0 times within 18 months of closing the transaction
Upon achieving our target leverage ratio, we will return to our balanced capital allocation strategy, including share repurchases

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

Leverage Ratio

Our effective borrowing rate rose to 5.3% for the quarter due to global market rate increases
The increase in the leverage ratio above the 2.0 times will trigger a 12.5-basis point increase in our credit facility margin going forward
We have $1.7B in variable rate debt, of which $700mm has been fixed with interest rate swaps at 4.6% and 4.2% over the next two to three years, respectively
We produced $414mm in FCF during the quarter, and at $567mm on a YTD basis, we remain on track for our full-year estimate of approximately $975mm

YTD

Compared to the YTD June 2022, FCF was down $71mm, with higher outflows from income taxes of $39mm, interest of $38mm, and capital spending of $37mm
These are the three areas we highlighted as headwinds in our February call and the actual results are playing out mostly as expected
Interest payments will be a larger headwind than originally projected because of higher interest rates and the impact of Uni-Select financing coming onto the books before the acquisition closes
As previously mentioned, we have paused our share repurchase program and directed our FCF to paying down debt of $131mm in Q2, as well as tuck-in acquisitions of $27mm
Additionally, we paid a quarterly dividend of $74mm

Ukraine-Russia Conflict

I will conclude with our thoughts on projected 2023 results
Our guidance is based on current economic conditions and recent trends and assumes scrap and precious metal prices hold near June levels and the Ukraine-Russia conflict continues without further escalation or major additional impact on the European economy and miles driven

Organic Parts and Service Revenue

On foreign exchange, our guidance includes balance of the year rates for the euro of $1.09 and the pound sterling at $1.25 in line with June rates
We expect reported organic parts and service revenue in the range of 6.0% to 7.5%
Organic growth was 6.4% through June
We decreased the high end of the range in recognition of the ongoing challenges in Specialty, which is down 13% YTD.
We expect Specialty to reduce the y-over-y decline in H2, but the lower full-year expectation makes reaching 8% at the consolidated level unlikely

North America

Please note we have one fewer selling day in North America, Europe and Specialty in Q3
We expect adjusted diluted EPS in the range of $3.90 to $4.10, which brings in the high end of the range from our previous estimate while there is no change to the low end
The midpoint is now $4 per share, down a nickel from our prior figure
We anticipate North America and Europe continue to perform ahead of prior expectations and are mitigating softness in our Specialty segment, resulting in net operational growth of $0.05

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

However, the negative effects of declining metals prices of $0.07 and higher interest and tax expenses of $0.03 are more than offsetting this operational growth

EPS

Slide 5 shows the primary factors contributing to the EPS guidance change
There is no change to our FCF expectation of approximately $975mm and 55% annual EBITDA conversion, noting a portion of the Uni-Select transaction fees and Pre-acquisition interest costs will have a one-time impact to FCF and create a headwind that we expect to overcome

Uni-Select

To be clear, the numbers I just quoted do not include operating results for Uni-Select
We expect to close on Uni-Select on or about August 1
And assuming that timing, we are projecting the acquisition will be dilutive to adjusted diluted EPS by $0.02 to $0.04 per share in FY2023
While we believe the transaction will be accretive over the first 12 months, in the early months, it is expected to be dilutive due to the integration costs and the time required to begin to achieve the synergies
Our overall expectation for the businesses have not changed, and we are excited to bring them in as part of the LKQ family

Dominick Paul Zarcone

President, Chief Executive Officer & Director

Key Strategic Pillars

In closing, Q2 was another solid performance for team LKQ.
I am beyond proud of the results we delivered for H1, particularly how the teams are diligently planning and positioning their respective businesses for the balance of 2023 as we continue to be challenged by certain uncontrollable dynamics
As we move into H2, let me restate our key strategic pillars, which remains central to our culture and our objectives
First, we will continue to integrate our businesses and simplify our operating model
Second, we will continue to focus on profitable revenue growth and sustainable margin expansion
o Third, we will continue to drive high levels of cash flow, which in turn will give us the flexibility to maintain a balanced capital allocation strategy
And fourth, we will continue to invest in our future
As always, I want to thank the over 46,000 people who work at LKQ for all they do to advance our business each day and for driving our missions and our delivers values forward regardless of the challenges

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

QUESTION AND ANSWER SECTION

Scott L. Stember

ROTH MKM

Q

In North America, I just wanted to touch on State Farm. I think in previous calls, you had talked about, I guess, based on those three SKUs throughout the country, about $100mm in benefit. Getting a lot of questions from investors about what the potential is with California and Arizona now going fully live with the whole program? ......................................................................................................................................................................................................................................................

Dominick Paul Zarcone

President, Chief Executive Officer & Director

Sure. I’ll take that. Obviously, we are delighted by the movement State Farm is making in terms of utilizing our high-quality aftermarket parts and repair of policyholder’s vehicles. You’re correct. We previously mentioned that the upside from headlights, tail lights, and bumper covers was about $70mm to $100mm on an annual basis once everything gets up and running. We are tracking toward that number. So, quite frankly, probably towards the midpoint as there appears to be a little bit of cannibalization on the salvage side in addition to the significant cannibalization on the OEM parts side.

These three-part types represent the highest volume of aftermarket parts as almost every collision requires replacement of lights and bumper covers. If you think about three equal-sized baskets, Scott, of lighting, bumpers and everything else, adding everything else to the bucket would add another 50% or so to our original estimate, which would push you towards somewhere in the $125mm to $150mm on an annual basis over time.

Now, that’s probably a little bit higher than some preliminary guesstimates that some of you have had likely due to the fact that State Farm will only use CAPA-certified parts. And CAPA parts only represent about $1B of our overall aftermarket sales. When you add on top of that, that $1B includes chrome bumpers, basically bumpers for pickup trucks that State Farm has been using for the last several years. So, if you apply, roughly, their 16% to 17% market share on that lower base, you get back to that $125mm to $150mm on an annual basis of incremental revenue over time.

So, that’s the number that we’re comfortable with right now. I would also say that that’s a very nice revenue pickup. And because there’s a limited amount of required SG&A to deliver all those incremental parts, we think there will be really good margins on that incremental State Farm business.

Scott L. Stember

ROTH MKM

So, that $125mm to $150mm, is that an all in or that’s an additional amount just for California and Arizona?

Dominick Paul Zarcone

President, Chief Executive Officer & Director

That’s all in. Again, everything else is about a-third of the bucket. Lights are about a-third, bumper covers are about a-third.

Rick Galloway

Chief Financial Officer & Senior Vice President

The pilot, Scott, won’t mean much for us...

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

Dominick Paul Zarcone

President, Chief Executive Officer & Director

Yeah.

......................................................................................................................................................................................................................................................
Rick Galloway A

Chief Financial Officer & Senior Vice President

... with respect to the pilot. So, we’re – the numbers that Nick just quoted are assuming they go live at some point in time. ...................................................................................................................................................................................................................................................... Scott L. Stember

ROTH MKM

Okay. And I’m sorry for belaboring the point here, but does that assume that the whole country goes live...

Yes.

ROTH MKM ...with all parts, 100%? ...................................................................................................................................................................................................................................................... Rick Galloway Chief Financial Officer & Senior Vice President

Chief Financial Officer & Senior Vice President Yes. Yes. ......................................................................................................................................................................................................................................................

Scott L. Stember

ROTH MKM

Okay. Got it. And maybe just walking over to Europe for a second. Obviously, tremendous growth there. It sounds like the volume has picked up nicely. Maybe just talk about some of the things that are really pushing growth there. I know that you guys are taking share and doing a better job, but are you seeing signs of the countercyclical nature of the business to kick in?

Dominick Paul Zarcone

President, Chief Executive Officer & Director

I wouldn’t say countercyclical, Scott. I mean, the reality is the economies in Europe are in much worse shape than the US economy. If you just look at some of the published statistics, Germany is in a recession. They’ve had two quarters now of negative GDP growth. The UK is probably the worst off of any of the economies. The impact of the war, the impact of energy prices, inflation, while inflation has come down a bit in the US, inflation is hanging pretty high over in Europe. And quite frankly, that’s having an impact on the consumer.

The fact that we are continuing to grow our business, both from a volume perspective and a price perspective, tells us that, while it may not be countercyclical, we are more than holding our own as it relates to the overall economic backdrop in Europe. Again, good growth. We are highly confident, though, what this means is over time the car park is going to age. And if you talk to anybody in our business, an older car is our friend. So, we think that longer term, the soft economic conditions in Europe will actually bode to our favor.

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

Craig R. Kennison

Robert W. Baird & Co., Inc.

Rick, I had a question for you on the North American fulfillment rate. Is there any way to quantify the y-over-y increase you saw this quarter? And then how long do you expect tailwinds from that improving fulfillment rate to impact North American organic growth?

Rick Galloway

Chief Financial Officer & Senior Vice President

Yeah. It’s a good question. Thanks for calling, Craig. Thanks for the question. Fulfillment rates are back to the mid-90s, which is kind of our target as we’ve kind of talked in the past. We were low 90s when we think about where we were just a year ago. In Q2, actually, we’re in high 80s as I’m looking at the numbers. And so, we’ve got about, 5 points of improvement.

As far as quantification, the difficulty in doing that is that it’s a bit of a mixed bag. So, I’d hate to quote what the overall benefit was as far as dollars go, as there is a little bit of a movement. And we’ve talked about this before between the salvage side and the aftermarket. So, there’s been a little bit of a flip. So, when some of the volume went away from aftermarket when the availability wasn’t there, it went over to salvage. It’s kind of gone back the other way.

So, we’re happy with where we’re at. We don’t think we need to go much more of where we’re at as we’re continuing to balance the FCF impacts of holding the additional inventories. ......................................................................................................................................................................................................................................................

Craig R. Kennison

Robert W. Baird & Co., Inc.

Thanks. And as you look at, like, Q3 and Q4 and then 2024, do you still expect tailwinds, or do you think that has abated from a y-over-y perspective?

Rick Galloway

Chief Financial Officer & Senior Vice President

Yeah. I think were minor improvements, but nothing that’s going to be meaningful for us at this time. I mean, we’re back to not quite where we were pre-pandemic, but I mean, it’s really, really close.

Bret Jordan

Jefferies LLC

With a bit more visibility now, I guess, of the Uni-Select business, could you talk about how you see the synergies of having a North American mechanical business in Canada? ......................................................................................................................................................................................................................................................

Dominick Paul Zarcone

President, Chief Executive Officer & Director

Yeah. So, as we outlined back in late February when we announced the transaction, Bret, we are highly confident that there is $55mm of cost synergies that we will be able to get our hands on over the first kind of three years post-transaction. Most of that will come in the second year with only a few of those dollars needing a full three years to access.

We’re going to start the process just as soon as we can and trying to deliver the synergies very quickly. And again, there’s facility savings. There are some procurement benefits and kind of all the corporate overhead and

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

the like that we don’t need. And so, nothing has changed from the presentation that we gave everybody back on February 27, 28 when we announced the transaction. Again, we are highly confident in our ability to do that.

Obviously, much of the synergies are going to come in the US. That’s where the FinishMaster operations and our paint operations overlap. That’s where a lot of the synergies come from. We have no plans on eliminating, changing or shutting down facilities up in Canada because we don’t do what they do in Canada today, right? They’re distributing small mechanical parts. That’s the business that we have over in Europe. We do think that there will be benefits, revenue benefits that we can glean by broadening out their product line, giving them some incremental inventory to cover all car types that are used up in Canada by giving them some capital to grow their business. But none of that is included in the $55mm of benefits that we outlined when we announced the transaction.

Bret Jordan

Jefferies LLC

Okay. And then you didn’t mention Elitek in your prepared remarks. Could you give us an update on the thirdparty diagnostics development? ......................................................................................................................................................................................................................................................

Dominick Paul Zarcone

President, Chief Executive Officer & Director

Oh, Elitek. Yeah. So, we love our services business. The reality is it’s growing about 25% a year, which is obviously significantly higher than any of our other businesses, and it has really strong margins. And so, we are very, very happy about that. I mean, if you look at some industry data, about 75% of all repairs at the MSOs are scanning the car for some of that technology, and about 18% of the repairs actually have some sort of calibration work being done on the vehicles. Now, the 18% may sound low, but you got to remember that there’s only – today, there’s only a small portion of the car park that has all the technology on it.

Average price of a scan run at about $140. Average price of a calibration is running close to $400. And so, it is a really attractive business. And the market is going to continue to grow because every year, there are simply more cars out on the roads with some of that more advanced technology on the car. That’s why we got into the business several years ago. We’ve created what we believe is a market-leading offering, providing a high level of service to our existing customers, by providing some of those services actually in their shops. And we’re optimistic about the future.

Brian Joseph Butler

Stifel, Nicolaus & Co., Inc.

Just when you think about Specialty, it doesn’t sound like there’s a bounce from the bottom, but do you feel like we’ve kind of reached the bottom and how to think about where the margins ultimately settle out, maybe kind of back half of 2023 and then thinking about 2024?

Dominick Paul Zarcone

President, Chief Executive Officer & Director

Yeah. So, it’s – we’re not predicting that we’re at the bottom yet. The reality it’s been a rough couple of quarters for our Specialty business. We have not seen a catalyst that’s going to turn quickly. Obviously, as we start to get into 2024, we’ve got better, easier comps that we’ll be working against. And so, the numbers from a growth perspective may not look as soft, but from an absolute dollar perspective, we’re not anticipating a significant uptick.

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

The good news is, is they did some restructuring earlier in the year. They’re going aggressively at their cost structure. And so, the month of June, they were actually back to double-digit margins, even though they weren’t there for the quarter. And so, I would suggest that margins in and around the 10% range is something we’re striving to achieve, even though the revenues may be challenged now for several more quarters.

Brian Joseph Butler

Stifel, Nicolaus & Co., Inc.

All right. That’s helpful. Thank you very much. And second question, how do you bridge the FCF outlook staying the same with the higher interest expense? What’s offsetting that? ......................................................................................................................................................................................................................................................

Rick Galloway

Chief Financial Officer & Senior Vice President

Yeah. So, if you look at the overall pieces that we’ve got, the trade working capital for us has been a nice improvement. We continue to see a nice improvement. We saw a really good improvement within Q2 as well. And then, the earnings side is the other side of it. So, we’re real happy with where we ended up in Q2. Overall trade working capital improved roughly a little less than $180mm, and we expect to continue to drive that throughout the rest of the year.

[Technical Difficulty] (00:49:47 – 00:50:30)

If the analysts want to send us in an e-mail, maybe send the e-mail over to Joe Boutross, and we’ll answer them through e-mail until we get the technical aspect fixed for us.

Gary Frank Prestopino

Barrington Research Associates, Inc.

A couple of questions here. With your – some of the puts and takes on your adjusted EPS guidance, the changes here, which is rather minimal. But in looking at it, it looks like this does not really impact the consolidated segment EBITDA or the consolidated EBITDA that you generate for the year. Is that kind of a correct assumption? It looks like there’ll be very little impact from these -- some of these changes.

Rick Galloway

Chief Financial Officer & Senior Vice President

The metals will be an impact. But you’re right on the interest side, on the taxes side, those will be avoided. But the metals impact, you should feather that in.

Gary Frank Prestopino

Barrington Research Associates, Inc.

Right. But you’re also getting $0.05 from operating results, right?

Rick Galloway

Chief Financial Officer & Senior Vice President

Yes. Yeah, exactly. And it’s roughly the same, Gary. I mean, it’s minimal as far as the difference go on the EBITDA side. ......................................................................................................................................................................................................................................................

Gary Frank Prestopino

Barrington Research Associates, Inc.

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

Okay. And then, Nick, could you – it seems like Varun has got things really humming over in Europe. Could you maybe talk about some of the actions that, he’s – they’ve taken over there that have led to the margin improvement and the segment EBITDA generation in the quarter that were at record levels?

Dominick Paul Zarcone

President, Chief Executive Officer & Director

As Rick indicated, a lot of the focus came on SG&A. We – of the 70-basis point improvement, I think we split 20BPS in gross margin and then 50BPS in SG&A. So, taking a really hard look across all of our platforms to make sure that we’re doing the best job possible to control our overhead expenses. Now, when you have 9.8% per day organic revenue growth, that helps. But make no mistake, Gary, the inflationary environment, as I indicated over in Europe is much more intense than it is here in the US. And so, they’ve needed productivity gains to offset a lot of that increase and allow us to actually get to a lower SG&A percent as our – as it relates – compared to revenues.

Rick did indicate that we’ve got some wage inflation coming at us in Europe in H2. We know that already. Certain other countries, particularly the Netherlands, has another wage increase coming at them. We experienced already a couple of days strike in Germany as the unions over there and the work councils have approached their members to use short-term strikes to try and petition for better wages. And so, those are all things we’re going to have to deal with in H2.

Daniel Imbro

Stephens Inc.

Rick, I want to start on North American EBITDA margins. Obviously, I think you’d guided earlier this year there was a step down as smaller competitors got inventory and maybe used price to get share back, but they’ve held in much stronger. So, I guess what’s playing out differently than you thought, or smaller peers being more rational? Or is there something else driving North American wholesale margin up to offset some of that price competition?

Rick Galloway

Chief Financial Officer & Senior Vice President

Yeah. Thanks for the question, Daniel. It’s a combination of several different things. One is productivity initiatives have been something that we focused on for a while that are helping to offset any of the risk we’re seeing on the pricing side. The other thing is, is that competition, we believe, has a decent amount of inventory and has been pretty good about holding pricing. So, we haven’t been looking at a drop in the pricing pieces as we were kind of expecting earlier. And as you heard in the prepared remarks, as we think about the back half of the year, there’s a little bit more seasonality than anything else and kind of pulling away from the idea of, how bad – how low could the margins go relative to where they’re at right now. And we’re just not seeing it.

So, I think, productivity is one of the biggest things that is offsetting that. And we’re continuing to drive it. So, we think we’ll end up in the low 90s for the full-year number as we’re coming in to the back half of the year.

Daniel Imbro

Stephens Inc.

Thank you for that color. And then maybe my related follow-up on North America. I think, Nick, you mentioned 400 basis point of APU improvement. That should have been, I would guess, just a nice tailwind to volume. But could you break out of the 8.5% comp? How much was ticket vs. like more ticket growth vs. more traffic growth? And then are you seeing any change in OEM pricing? I think that’s an investor concern out there as the OEM

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LKQ Corp. ( LKQ) Q2 2023 Earnings Call

Formatted Report 27-Jul-2023

production picks up. So, how is that side of the pricing backdrop been in related to that traffic vs. ticket discussion? ......................................................................................................................................................................................................................................................

Dominick Paul Zarcone

President, Chief Executive Officer & Director

Yeah. North America, more than half of the y-over-y growth was volume, which is really good to see. Obviously, a lot of that has to do with the aftermarket volume as we talked about having the inventory in stock, getting the fulfillment rates up, the State Farm program, all that leads to higher volumes.

And the OEs, they’ve kept – generally kept their prices steady. They certainly haven’t dropped prices, and we don’t think that they will. They’ve never shown a propensity to lower prices, if you will. I mean, there was a period of time where they didn’t increase prices for quite a bit. And then they started, like everyone else, with inflation and everything else were taken some prices up. And so, we did – we follow their tracks. So, our expectation is that they’re going to keep pricing pretty moderate here going forward. And we’ll just continue to sell it at a discount to the OE list, as we have done forever.

So, people shouldn’t anticipate any significant movement on behalf of the OEs or that have an impact on our pricing.

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LKQ CORP — Call Transcript 2025

30750_rns_2025-01-21_992fe206-dc39-472d-a741-f4124ee2fec4.pdf

27-Jul-2023

CORPORATE PARTICIPANTS

OTHER PARTICIPANTS

MANAGEMENT DISCUSSION SECTION

Joseph P. Boutross

Dominick Paul Zarcone

Opening Remarks

North American and European Segment

Parts and Services Organic Revenue

Diluted EPS

Adjusted Net Income and EPS

North America

PRICING IMPACT

State Farm

State Farm

Market Share

European Segment

Benelux, Germany and Eastern European Operations

LKQ Europe

OPERATING MARKETS

Specialty Segment

Self Service Segment

Net Annualized Revenue

Uni-Select Shareholders

GSF

ESG

ECP

Rick Galloway

Organic Revenue Growth

Global LKQ Team

Overhead Expenses

Gross Margin

Specialty’s EBITDA Margin

OTHER REVENUE

Adjusted Diluted EPS and Share Count

Tax Rate

Uni-Select Transaction

BONDS PROCEEDS

Bond Offering

Bond Offering

Debt and EBITDA

YTD

Ukraine-Russia Conflict

Organic Parts and Service Revenue

North America

EPS

Uni-Select

Dominick Paul Zarcone

Key Strategic Pillars

QUESTION AND ANSWER SECTION

Scott L. Stember

Q

Dominick Paul Zarcone

Scott L. Stember

Dominick Paul Zarcone

Rick Galloway

Dominick Paul Zarcone

Scott L. Stember

Dominick Paul Zarcone

Craig R. Kennison

Robert W. Baird & Co., Inc.

Rick Galloway

Chief Financial Officer & Senior Vice President

Craig R. Kennison

Rick Galloway

Bret Jordan

Dominick Paul Zarcone

Bret Jordan

Jefferies LLC

Dominick Paul Zarcone

Brian Joseph Butler

Stifel, Nicolaus & Co., Inc.

Dominick Paul Zarcone

President, Chief Executive Officer & Director

Brian Joseph Butler

Rick Galloway

Gary Frank Prestopino

LKQ CORP Call Transcript 2025