LKQ Corp (LKQ) 2008 Q2 法說會逐字稿

Good day, ladies and gentlemen and welcome to the Second Quarter LKQ Earnings Conference Call. My name is Ahmed and I'll be your coordinator for today. (OPERATOR INSTRUCTIONS) I would now like to turn the presentation over to your host for today's call, Mr. Mark Spears. You may proceed.

Good morning, everyone. This is Mark Spears, Chief Financial Officer. Before we get started and before I turn it over to Joel Holsten, our CEO, I need to read the following.

The statements in this press release and web cast include forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 including statements regarding our expectations, beliefs, hopes, intentions or strategies. Forward-looking statements involve risks and uncertainties, some of which are not currently known to us.

Actual events or results may differ materially from those expressed or implied in the forward-looking statements as a result of various factors. These factors include the risk factors and other risks that are described in our form 10-K filed February 29, 2008 and in other reports filed by us from time to time with the Securities and Exchange Commission.

We assume no obligation to publicly update any forward-looking statement to reflect events or circumstances arising after the date on which it was made except as required by law. I also want to remind everyone that we have declared a 2 for 1 stock split in December 2007 so all earnings per share amounts and share counts discussed today reflect this split. I'd like to turn this over to Joel Holsten, our Chief Executive Officer.

Good morning and thanks for joining LKQ's Second Quarter 2008 Earnings Call. Obviously on call today are two members of management, Mark Spears our CFO and myself, Joel Holsten, the CEO of the Company. I will begin by providing some high level overview of our performance as well as some qualitative views on the business, our industry, and the markets that we serve, and then Mark will provide a more detailed assessment of our financial results.

We reported $484.4 million in revenue for the quarter, which represents a 107.6% total revenue growth over the second quarter of 2007. Our organic revenue growth for the quarter was 13.2% and was calculated assuming that we owned Keystone for the second quarter of 2007. Because we had already merged significant aspects of LKQ's preexisting aftermarket business with Keystone's aftermarket business in the second quarter of 2008, we could not calculate organic revenue growth without making that assumption.

But we delivered an outstanding level of organic revenue growth during the second quarter. On a pro forma basis our aftermarket new and refurbished parts grew at close to 1% for the quarter and for the first six months of 2008 grew 3%.

With no improvement in the economy for the average citizen and as fuel pricing continued to escalate in Q2 2008 over not only the first quarter of '08 but as well as all of 2007 levels, we know that miles driven have continued to decline and the larger insurance carriers we support have indicated claims frequency is down from 4% to 10% from Q2 2007 depending on the carrier. We believe that the combination of higher fuel prices, reduced miles driven, and a reduction in insured claims has certainly impacted our collision repair parts growth, while demand for the mechanical parts has been impacted to a much lesser extent.

Fortunately, due to the diversity of our business operating model, we have been able to sustain our track record of double-digit organic growth by processing a higher level of vehicles to support both our late-model wholesale operations as well as our retail oriented self-service businesses.

For the first six months of 2008, we processed approximately 130,000 lower cost self-service and crush only cars compared to approximately 97,000 in the first six months of 2007. These volumes not only supported increased parts sales but also allowed us to capitalize on higher commodity prices for the ferrous and non-ferrous by products of these operations.

Our operation margin was 12.1% for the quarter, compared to 11.4% in the second quarter of 2007. We continue to make excellent progress to leverage our infrastructure as we expanded our operating margin by 65 basis points including restructuring costs and by 130 basis points before considering restructuring costs.

I would remind you that this 130 basis point expansion is in comparison to LKQ standalone in the same quarter of the prior year and that LKQ has historically enjoyed higher operating margins than Keystone. In particular, the second quarter is usually one of the weaker quarters for after market parts from the seasonality standpoint. And for comparison purposes, during the period April through June of 2007, on a standalone basis, Keystone reported operating income margins of only 6.4%.

Our net income increased just over 121% to $31 million for the quarter and diluted earnings per share increased 83% to $0.22. During the quarter, our primary focus areas included further facility consolidations, and delivery route integrations, nearly all of which we expect to be completed by the end of this fiscal year.

This past quarter, we continued our focus on the conversion of LKQ facilities onto Keystone's operating system, Prelude. These conversions range from simply training the LKQ sales staff on Prelude to write their orders into the new system, to full warehouse relocations and conversions. Since the Keystone acquisition was completed on October 12th, through July 30th, we have completed 55 Prelude conversions. We have physically moved out of 23 warehouses and 10 storefronts to date, subsequent to completing the software conversions.

In total, we expect to complete 63 Prelude conversions and 25 physical warehouse and ten storefront moves by the end of 2008. Furthermore, over the next five years, we now anticipate physical combinations of our recycled parts and aftermarket parts operations and at least 10 additional geographical markets providing another opportunity for longer-term synergies to be achieved.

We are also continuing our review of volumes and capacities at our remaining 60 bumper, wheel, and right -- light refurbishing locations to determine the possibility of consolidating some of those locations in the future. As part of these consolidation efforts, we are standardizing our refurbishing processes to achieve consistent quality and increased volumes. This effort however will take place later in 2008 and into 2009 and the -- other than only two wheel warehouses is not part of the 25 physical warehouse moves. We now believe that net cost savings will be at least $20 million in 2008 and will be annualizing at a minimum of $35 million by 2010.

As I noted on our last earnings call, some of our suppliers and ocean and freight -- ocean and ground freight vendors have come under cost pressure from increasing steel and oil prices, and are attempting to pass on their higher costs. While we have seen some cost increases come through in our sheet metal products and on ocean and ground freight, we still currently believe that we will be able to mitigate these increases by obtaining postponements in price increases through selected price increases to cost reductions on other part types, and by allocating our purchasing dollars to those suppliers who are not currently seeking cost increases.

We have indicated in our 2008 financial guidance that our organic revenue growth would be approximately 10%. If Keystone is included in our second quarter '07 operations then the combined organic growth of both companies together would have been approximately 13.2%. We believe that on an annual basis we will achieve low double-digit total organic revenue growth as we improve the overall inventory in our warehouses add additional SKUs and value line product, continue to make minor adjustments to our parts prices and customer discount levels, and continue to process higher volumes of both late model and lower value salvage and end of life vehicles.

As discussed on our last earnings call, we closed on two business acquisitions so far in 2008, which total approximately $10.6 million in trailing annual revenue before we acquired them. The first one was closed in February, included a retail oriented recycled parts business located in Orlando, Florida that operates on 3.5 acres of property adjoining one of our existing retail businesses. We are merging these operations together and operating them as one facility.

The second was completed in early March, and is a heavy duty truck recycler in Houston, Texas, which operates on an 18-acre facility, and operates similar to the way our other recycling yard operates except it handles large trucks such as cement and garbage trucks. We see this line of business as having good growth opportunities for us in the future and we've been pleased with the growth and profitability of this new product line.

We also opened a new retail oriented recycled parts business in Rockford, Illinois on approximately 11 acres of property. We leased the facility and opened it as a cold start in early March. In addition, we have leased the 20-acre facility in Massachusetts and plan to acquire the facility shortly. We are operating that facility as a lower cost vehicle dismantling and crushing operation.

In terms of other cold start development projects, we continue to work to open retail oriented self service operations in Northern Indiana and Southern -- and South Carolina, and we really -- recently added a location in Georgia to our development list.

At LKQ, insurance relationships and programs have always been important to us and are even more so now with our investment in Keystone. We have 30 insurance carriers, up one from the prior quarter in the Midwest that directly provide us low end cars that will supply some parts to be sold into the professional repair market with the remainder of each car being placed in the retail oriented locations. We expect these programs to provide us over 450 to 500 cars per month, and we continue to look at other geographical markets where we can introduce similar programs.

Our Right Place program with advanced auto parts generated $2.4 million in revenue this quarter, more than it has ever produced, and a couple hundred thousand dollars more than Q1. Advanced has stepped up its marketing with displays and signage this quarter and we expect a relaunch of our program later in the year.

At the end of Q2, LKQ operated approximately 240 daily transfer runs and approximately 2,300 local delivery routes. Since Q4, we have taken 28 daily transfer trucks off the road and 90 local delivery trucks have been parked.

We acquired approximately 71,700 cars in our wholesale recycled parts business during the first six months of 2008, which is 11% more than we acquired in the first half of 2007. The percentage of wholesale vehicles that we acquired from salvage auctions accounted for about 96% of our total incoming wholesale product flow.

We continue to increase our sales staff levels for our recycled parts business and we have done so by an average of 52 people, or 10.5% more in Q2 2008 compared to the same quarter of last year, as we continue to invest in what we see to be the key to our business model, our sales and distribution systems.

In summary, we are pleased with our results of the quarter and look forward to continued successes throughout the balance of 2008. We believe the combination of LKQ and Keystone provides an attractive value proposition to a wide array of customers and to the insurance industry that we can serve with our network of nearly 300 facilities.

We believe we are in a unique position to leverage our inventories with aftermarket collision replacement products, recycled OEM products, and refurbished OEM products such as wheels, bumper covers, and lights, by having the ability to sell out of these combined inventories in response to customer requests. Further we believe the diversity of our operating model and customer base has allowed us to sustain attractive organic growth levels, even during a period of time where demand for one of our product lines is sought.

At this point, I would like to ask Mark to run through a more detailed discussion on our financial report.

Let's take a look at the tables in our press release. Note we have also included a table that reconciles net income to earnings before interest, taxes, depreciation, and amortization, otherwise known as EBITDA. We also added a supplementary data schedule related to our income statement that shows growth and margin percentages. In addition, we have added a comparison of our major revenue categories for the numbers that we report, and also for the numbers on a pro forma basis, as if we owned Keystone for all of 2007.

Looking at our income statement and the related tables, our second quarter revenue was up 107.6% to $484.4 million from $233.3 million in Q2 2007. Our first six months of revenue for 2008 grew 108.3% to $976.3 million, compared with $468.6 million for the same period in 2007.

Our organic revenue growth was calculated on a pro forma basis, assuming we owned Keystone for the entire 2007 year and was 13.2% for the quarter and 11.2% for the six months. Our second quarter 2008 gross margin was 45.4% versus 45% in the second quarter of 2007. For the first six months of 2008, our gross margin was 45.4% versus 45.3% in the same period in 2007.

As Joe indicated earlier, we have been combining LKQ's preexisting aftermarket operations into Keystone's operations. Similar to the issue of calculating organic revenue growth, we cannot really attribute what amount of operating expense growth was organic. The majority of the operating expense growth however would be due to the Keystone acquisition.

Our facility and warehouse expenses for Q2 grew $19.2 million or 77.8% over Q2 2007. Facility and warehouse expenses as a percentage of revenue decreased to 9% from 10.6% in 2007. On a six-month basis, facility and warehouse expenses grew $38.1 million or 75.8% over 2007. For the first six months of 2008, these expenses as a percentage of revenue decreased to 9% from 10.7% for the same period in 2007.

Our distribution expenses for Q2 grew $23.1 million or 104.1% over Q2 2007. Distribution expenses as a percentage of revenue decreased to 9.4% from 9.5% in Q2 2007. On a six-month basis, distribution expenses grew $45.7 million or 103% over 2007. For the first six months of 2008, these expenses as a percentage of revenue improved to 9.2% from 9.5% for the same period in 2007.

Selling general administrative expenses grew $33.6 million or 119.5% over Q2 2007. SG&A expense as a percentage of revenue increased to 12.7% from 12.1% for the same period in 2007. On a six-month basis, selling, general and administrative expenses grew $69 million or 121.3% over 2007. For the six months of 2008, these expenses as a percentage of revenue increased to 12.9% from 12.1% for the same period in 2007.

For the second quarter of 2008, we recorded $3.1 million and for the six months ended June 30, 2008, we recorded $4.3 million of restructuring expenses, which were included in operating expenses and are all related to our Keystone acquisition that we did in October 2007. You should note that certain costs of Keystone related to their severances and certain of their facility closure costs are considered purchase price allocations of the acquisitions and are not charged to the income statement.

Our operating income for Q2 2008 grew $119.3 million -- excuse me -- 119.3% to $58.4 million from $26.6 million in Q2 2007. Operating income as a percentage of revenue was 12.1% in the quarter, compared to 11.4% in Q2 2007. On a six-month basis, operating income grew $66 million or 122.5% over 2007. For the first six months of 2008, operating income improved to 12.3% of revenue, compared to 11.5% for the same period in 2007.

We improved operating margins 65 basis points in the quarter and by 80 basis points for the six months, with Keystone in our results and including the restructuring costs. An important point to remember however is the best margin quarters for Keystone and the aftermarket business in general is usually Q4 and Q1 with lower margins in Q2 and Q3.

We had net interest expense in Q2 2008 of $8.4 million compared to net interest expense of $2.1 million in Q2 2007. This was related to higher debt levels from the acquisition debt incurred to acquire Keystone.

Our Q2 2008 pre-tax income grew 105.3% to $50.5 million from $24.6 million in Q2 2007. For the first six months of 2008, pre-tax income increased 100.8% to $101.9 million from $50.8 million for the same period in 2007. So the first six months of 2008 our effective tax rate was 39.3% compared to 41.3% in the same period of 2007. If you exclude the effect of certain adjustments to deferred taxes related to state income taxes, our effective tax rate for 2008 would have been 39.5%. If you exclude certain non-taxable income, offset by write-offs of certain deferred tax assets in 2007, our effective tax rate would have been 40.5% for 2007. The lower tax rate in 2008 is primarily due to lower taxes on our Canadian operations.

Net income for the quarter increased 121.1% to $31 million from $14 million in Q2 2007. For the first six months of 2008, net income increased 107.5% to $61.9 million from $29.8 million in the same period of 2007. Our diluted earnings per share increased 83.3% to $0.22 in the quarter from $0.12 in Q2 2007. For the first six months of 2008, diluted earnings per share increased 63% to $0.44 from $0.27 for the same period in 2007. Our diluted earnings per share for the first six months of 2008 would have been $0.02 higher had we not had the $4.3 million of restructuring expenses.

Our diluted weighted common shares outstanding used for EPS purposes were as follows -- Q2 2008 140.3 million shares, Q2 2007 was 112.5 million shares. For the six months '08 it was 140 million shares versus the six months of 2007 112.2 million shares. The number of weighted average diluted shares of common stock in 2008 increased from 2007 due to the issuance of 23.6 million new shares in our September 2007 follow on public offering. Also the issuance of 838,073 new shares related to the acquisition of a business on March 4, 2008. Also exercise of stock options and the increase in our stock price.

Let's take a look at our cash flow table. We generated $67.4 million in cash from operations during the first six months of 2008, which included the effective investing $11 million in additional inventory. CapEx in the first half of 2008, excluding business acquisitions was $26.2 million. Cash paid for business acquisitions in the first half was $4.4 million. During the first six months of 2008, we also issued stock related to the exercise of stock options that resulted in a total of approximately 334,000 shares issued for $3.4 million in proceeds, which includes related tax benefits.

Taking a look at our 2008 balance sheet, you will note we had $647.4 million in debt that included $644.2 million under our secured credit facility. We also had $104.1 million in cash and equivalence. Note that we obtained a senior secured debt financing facility on October 12th to fund a portion of the Keystone acquisition. As of July 30, 2008, our outstanding debt under our bank facility was approximately the same as that at quarter-end, while our cash and equivalence were around $100 million.

Let's look at our 2008 financial estimates. We expect that 2008 organic revenue growth will be in the low double-digits with the balance of the growth being a full year impact of our 2007 business acquisitions and the business acquisitions that we have completed to date in 2008. Excluding the effect of any 2008 restructuring expenses related to the Keystone acquisition, we expect full year 2008 net income to be within a range of $120 million to $124 million, and diluted earnings per share to be between $0.85 and $0.88. So the EPS guidance excludes the $0.02 EPS effect of the restructuring expenses incurred in the first half of 2008.

We anticipate a net cash provided by operating activities for 2008 will be over $100 million. We estimate our full year 2008 capital expenditures related to property and equipment excluding the expenditures of LKQ to acquire businesses will be between $68 million and $78 million. This includes approximately $10 million related to capital expenditures that were originally planned for late 2007 on projects that became delayed and approximately $4.8 million related to restructuring our aftermarket business as a result of the Keystone acquisition.

We estimate the weighted average diluted shares outstanding for the full year 2008 will be approximately $141 million. These share numbers are estimates and will be affected by factors such as any future stock issuances, the number of our options exercised in subsequent periods and changes in our stock price.

I would like to open up for Q&A at this time.

(OPERATION INSTRUCTIONS) Your first question comes from the line of Michael Cox from Piper Jaffray. You may proceed.

Good morning and congratulations on a very nice quarter.

Thanks, Mike.

(Inaudible) Mike.

My first question is I was hoping you could provide a little bit more color as to what experienced such growth within the Other category and if you expect that be sustainable through the balance of the year.

Yeah. I mean that category is basically a combination of our core -- selling bulk cores, scrap, aluminum smelter revenue. And that's the combination of our volumes. We talked about our volumes being up along with some commodity pricing going up as well on a combined basis there. And so we -- in our estimates we've assumed we will continue to grow year-over-year of course. So yeah, we are assuming continued growth in those areas.

Is there any way to quantify the commodity inflation impact to the sales growth in the quarter?

Yeah. I don't think we can really do that. There's so many different commodities involved and we're looking at copper, steel, various non-ferrous items and I don't think we can really dig through the mix to give you too much color on that.

That's okay. I -- but I do appreciate the breakout. I think that's helpful. And then on -- in terms of the bumper facility in Mexico, you talked about evaluating what you're going to do with the various sort of satellite facilities around the United States. Could you just comment on where that is in terms of profitability or running relative to your expectations?

Yeah. Maybe a couple of comments. One, as we've been digging into the profitability and the results and contributions of Mexico's bumper refurbishing facility, we've realized kind of in the second -- late in the first quarter that you really weren't able to track the return rate on these bumper covers. When they get into the US they get into the same mix with the bumper covers that are refurbished in the US. So we think in order for us to make a really intelligent decision on the contributions of Mexico, we're going to have to introduce new parts numbers for the Mexico bumper covers and that'll help us understand the real quality of the product coming out of Mexico and the returns on the product line. So we -- we're in the process of developing a system wherein we can track the Mexico bumpers in particular and understand the performance that they generate on a better basis.

I will say that the -- over the last couple of months we've been impressed with the increase in throughput from the Mexico plant. It's running a little ahead of our financial goals we had set for the year and up a good 10% over what we saw in the first quarter. And we've also been encouraged that the supply cost has begun to come down maybe -- probably as much as a couple of dollars a bumper cover. So good signs we think, but we will need to dig a little deeper on this to fully understand contributions of the plant.

Okay. That's very helpful. And my last question is the housekeeping item on the interest expense looks like on a percentage rate basis dropped in the quarter versus the first quarter. Anything that we should incorporate going forward on -- in that front?

No. I mean our main debt of course is the secured financing. We're at LIBOR plus 225. We did do about $250 million that we locked in just before the second quarter I believe. And I -- and that was -- at the time that was pretty much fixing it right at LIBOR was at the time.

Okay. Great. Thank you.

Thanks, Michael.

Your next question comes from the line of Tony Cristello from BB&T Capital Markets. You may proceed.

Thank you. Good morning, gentlemen.

Hi, Tony.

Good morning.

Joel, your recycled side of the business was very strong this quarter and certainly looks like it was best in several quarters from what we can tell. Why do you think the demand in the recycled side of the business is so strong even with insurance claims being somewhat soft? Is it purely inventory and fill rate driven or is there something else contributing to that?

Yeah. There are -- as I think you've pointed out in your question, there are a number of factors that are facilitating overall growth in that area. And I certainly don't want to mislead you that that's all parts sales because there is a certain amount of this volume driven coming to that line.

But let's start with the buying environment. We do believe that the buying market for late model salvage is as good as we've seen. As a result of that, the fill rates that we track for our recycled side of the business -- as you probably recall we track those in terms of not in stock and the not in stocks that an average LKQ plant has been reporting in the second quarter has dropped about 2 points from what I would have been looking at in the first quarter and probably dropped even a little more than that compared to all of last year.

As a second mitigating factor, you probably recall is that in the sale of recycled products, a little less than 50% of our recycling parts sale revenue is from the sale of mechanical parts as opposed to crash parts. And it does appear enough that the mechanical part side of the business may not have been impacted quite as severely as the crash part side of the business here in the second quarter. But probably the bigger driver in that category is the volume of product that we're moving through -- not only moving more product through the wholesale yards to increase our inventory levels but we have stepped up considerably the volume that goes through our end of life or self service facilities.

A couple of -- in fact we opened a yard in Massachusetts solely to just process end of life vehicles. To crush basically, decontaminate them and crush vehicles. A couple of other facilities and markets where the volume's been heavy, we've added kind of a partial second shift in order to process more volumes.

And I guess in part on the volume side of the strength you're seeing, if the actual claims at the insurance company are down somewhat, it doesn't seem to be having as much of an impact on the recycled side as it would on the aftermarket side. So I'm assuming there's still an adequate demand of accidents, it's just that the demand for the lower cost replacement parts is right -- is higher right now and maybe a more cosmetic in nature aftermarket part. People aren't willing to spend the deductible to have that fixed. Is that -- is there any rationale behind that -- there is something that you could support that? Does that make sense?

Well, we don't have any data in hand that we can take you to a CCC or Mitchell source to give you a specific answer to that. But as I'll just say our (unintelligible) discussions with the major insurance companies and with collision repair shops, that definitely has focused us on their view that a lot of insured car owners are taking settlement checks and they're using the funds to make their mortgage payments and pay their bills as opposed to -- as you quite appropriately term it, a second modest cosmetic repairs to vehicles when they're still drivable. And that -- we do believe it's had some impact on the crash part side of the business.

And those would be the exact parts that typically would be -- the orders would be filled by the aftermarket industry, because we're talking fenders, and bumper covers, and grill pieces. Pretty modestly priced parts that generally the LKQ side of the business might be in an out of stock position, but certainly we'd have in theory pretty good availability from the aftermarket side.

Has the combination of the two companies -- are you getting any synergy yet on Keystone being able to sell a recycled part? Is that some of what we're seeing also?

No, actually. We'll be starting our first two pilots on that during the third quarter, where we're going to have the checkmate screens brought right onto the same screens that the aftermarket sales people are using. And we have two markets selected, and that -- we'll have some feedback for you by the end of the quarter on our next earnings call and the success of that.

Okay. And housekeeping, Mark, and then I'll let someone else have it. Is the inventory mix right now equal basically with the sales segment mix or is something skewed just based on the strength in some of the other categories you're seeing?

We -- well, growth and inventory that you see there was primarily recycled. And again we try to build up our inventory as good as we can on recycled parts in the first half of the year so it was a little cheaper. That's the only kind of change there where the aftermarket comes down.

Okay.

Year ending this summer.

Okay.

Probably recycle when the price is good, you buy aftermarket before you get into the busier seasons.

Okay. Perfect. Thank you, guys.

Thanks, Tony.

Your next question comes from the line of Sam Darkatsh from Raymond James. You may proceed.

Good morning, Joe. Good morning, Mark. How are you?

(Inaudible) Sam.

Hey, Sam.

A couple of housekeeping questions and then I guess more probing I suppose. Restructuring costs rest of the year, Mark? What are you budgeting for that?

We're not. I mean whether it's restructuring expenses or it goes to the balance sheet really depends on the people we lay off as we get going on that. So we really haven't given any guidance on future restructuring.

Okay. And then --

That's why our estimates assume no restructuring in the past or future when we do the EPS estimates.

Got you. Joe, you were talking about the initiative to raise selling prices where needed. Was there an impact in the quarter from pricing actions or were you talking perspectively?

That's -- we have ongoing efforts kind of reviewing pricing for both price increases and price cuts. We really have not seen much activity out of OEs on pricing. We believe a couple of the Japanese manufacturers have probably nudged their prices up and if they did, we would have moved with them. But all in all, I would have to characterize the pricing environment right now as relatively flat and pretty competitive.

Okay. And then getting back to that other segment -- and first off, Mark I do appreciate the -- hopefully speaking for other folks too -- I do appreciate the extra level of detail that's included in this release. It's much appreciated. The other segment, is that entirely the scrap or is there some refurb bumpers and wheels and other sorts of remanufactured items in there or is that --?

No. It's just scrap off the recycled -- it's really all recycled stuff. It's scrap, core, the smelter is in there as well.

So the gross margin on that other line, is that significantly less than the gross margin in the other two more -- I'll call them core segments?

Yeah. We don't really break those out.

But generally speaking, the answer to that would be because the smelter's in there and the --

Keep in mind the smelter's a lower margin we've talked about in the past.

Right. Okay.

Like -- so I mean it's lower. Scrap you're getting off your cars so that tends to be built into the margin of your scrap of the car you bought.

And my final question, I'm going to take the risk of repeating one of the prior questions, because I'm still -- at least I'm not sure about it -- the answer to it. The -- I understand, Joe, why the aftermarket demand -- it will be softer with the lower fuel prices, perhaps used car values coming down, people being more cognizant of their own budgets, but the recycle demands being up in the 20% range seems real outsized growth versus its historical trends. And I'm just still curious as to why the recycle business as a whole is growing faster than its historical trends within this sort of end market environment.

Yeah. There's a couple of things in there. One off the low-end cars, and we do sell parts related revenue too, not just scrap. So the parts related to those lower end cars are up in the recycle. Okay? And then as Joel mentioned, quarter-to-quarter, we had like 41% increased in the low-end car volumes and so that's not all scrap. That has parts up above as well.

Two, in the wholesale side of the business, don't forget on the wholesale recycle business as an industry, 65% of the time when a shop asks for that recycled part and that's what the insurance companies are pushing, it's not available. So the extent we have better fill rates and we get more cars, that helps drive the wholesale recycle parts business as well. So it's a little different animal there. As you buy the cars at the auction and your inventory is good, having the right parts will help that growth a little better than you would on the aftermarket where you just buy the products.

Okay. So what you're saying is that because your purchased volumes were up, perhaps because you're having more -- you're seeing more totaled vehicles and some more available at the auctions, your fill rates on the recycled side is up so you're sales growth is going to be up.

Yeah. And Joel had mentioned we were up by 2 basis -- not 2 basis -- 2 percentage points, 200 basis points in our fill rates on the wholesale in Q2.

Any sense on what the industry is doing?

The recycled industry?

Yeah. The recycled industry. I mean I know you represent a large percentage of it, but outside of you, any way to tell?

No. Yeah. There's -- so some -- all of them are privately owned. It's very hard to get any crisp data on what they're doing.

Okay. All right. Thank you, gentlemen.

Your next question comes from the line of Craig Kennison from Robert W. Baird. You may proceed.

Thanks and congratulations from me as well. Just to follow on the prior questions related to recycled revenue, is there any scrap value in that line? In other words if you sell this steel hulk, does any of that revenue get captured in the recycled line?

And that's in Other.

That's in Other. So there's really no commodity inflation impact in that particular number?

Correct.

Thank you. And last quarter, [Kolpart] and others appear to have raised fees, and you indicated that your plan was to offset that with lower bids. Has that been successful for you?

Yeah. I think we've significantly accomplished what we normally do there. The overall costs of our salvage is up a little bit this year, but quite frankly I'd say the increase in what we're paying for salvage probably tracks pretty closely the increase in ferrous metal. Basically I think the auction cost has probably gone up by about the increase in value of scrap metal.

Thank you. And then over the last quarter, there's been some conversation about a decay in revenue as you combine Keystone with LKQ and that some of your customers may want to keep other vendors alive. Are you seeing that impact you at all? And how are you dealing with it?

Yeah. I think it's fair to say that there's been some customer dislocation with the amount of change that we've thrown at the -- not only our own people, but our customer base, it's probably to be expected. I'd probably ask you to keep in mind we walked into this kind of looking at a 2.5 year period of time to integrate and merge these businesses and we're going to be pretty much done with that in 12 months or less.

And probably the aspect of the integration that may have been a little rougher than we thought has been the systems training. Here we go back and we looked at when Keystone converted under Prelude their same sort of sales dipped by about 50% as I recall. As we discussed on prior calls, we've moved customer discounts, customers' parts are being delivered on different routes, and maybe hitting different schedules and delivery times of the day. There are a lot of moving -- small moving pieces out there and with a lot of the integration work and the warehouse moves behind us, now management and now our sales organization I think is in a position to go back and tackle those small issues kind of one by one.

So here we're making tons of outbound calls, we have our driver reps, they have requirements of how many kind of cold calls and sales calls they need to make per week, making a lot of customer contacts and you address these small issues one by one and this is a good management team. I'm highly confident that given time we'll kind of cut back through a lot of small issues here and regain some customers who may have made us second on their call list.

Thank you. And then final question is a macro question. But there are some big trends affecting vehicle -- vehicles in operation today. One being a shift towards smaller cars and hybrids. The other being a shift away from leasing towards more ownership. How will those two trends, if at all, impact your business?

Yeah. I think they're probably another -- a number of them to talk about and of course you could even add kind of gas prices onto that list as well. But in terms of leasing, we believe that reduced leasing from the manufacturers probably is good for the alternative part business and it's probably good for aftermarket product sales in particular. It would be our view that most -- if vehicles are on lease from the manufacturer, probably all the repairs are going to be made with new OEM parts. And if those leases are held by someone else, we would assume that there may be more interest in the consumer in seeking out the lower cost repairs on those vehicles, especially when they come out from underneath warranty but are still on lease.

The hybrids, we're already getting hybrids into our yards. We believe in the long run that the hybrids are probably a plus for the business as well. They appear to have more parts and some of those parts especially in the electrical system and the battery, it's kind of an added value to create for the Company.

The SUVs, it appears as though there's probably going to be less buying of the SUVs. That's probably a modest take away because they are fairly expensive parts, but at the same time the SUVs have typically been pretty tough for us to buy. Those are probably among the more typical vehicles that are going to rebuilders and that's always our toughest competitor at an auction is someone who rebuilds vehicles.

I think in terms of the discussion about reduced buying on pickup trucks, I think all that has to still shake out in that area. It would be our view that the pickup truck is actually -- kind of it's a work vehicle for a lot of people and a lot of consumers so we're not all that convinced that the pickup truck buying is going to die on the vine here.

I guess the final comment I would make would probably be if there -- if there is a shift towards smaller vehicles, it depends on how small small goes. The bread and butter of our Company quite frankly over the years has been the Camrys, the Hyundais, the Kias. I can guarantee you call any of our managers and you ask them what would be their favorite car to get out of the salvage auction and they'll tell you it's a Honda Accord. I bet you that's 100% the times that's the answer. And Honda Civics. So if it's kind of where the vehicle population shifts, I think that's a good thing for us.

If there's a more drastic shift toward the smart cars and vehicles that almost appear to be disposable vehicles, that's probably neutral to small minus for us. The repairs for those vehicles -- probably a good change they'll be affected with aftermarket parts because they're not distinctive. The very low cost solution to repair those vehicles or they're going to total out.

Great. Thank you.

Thanks, Craig. I think we have time for one more question.

Your last question comes from the line of Scot Ciccarelli from RBC Capital Markets. You may proceed.

Hey, guys. Scot Ciccarelli.

Scot.

I guess I had two kind of follow-up questions here. The first is people are trying to figure out the impact of commodity prices, so maybe a different way to tackle that would be is it fair to assume that the volume growth in the other category is comparable to the volume growth in the recycle category?

Well, no. We mentioned in the lower end cars, Joel read out some volume numbers there and it was like 41% for the quarter on the car volume in the low-end cars and 34%. And so that's the volume. And they have more scrap and those type of things in there. So there was a lot of volume going -- that's probably affecting that more than the ones above.

One thing I would add to that, Scot, just for everybody to keep -- maybe an additional factor in here is that we have been investing additional capital into our self service yards that are helping with better extraction of both ferrous, but in particular non-ferrous, items in the vehicles. And that is helping our yield per car.

Just as an example, in 2007 probably the power trains, where we didn't sell those, they were remaining in those end of life vehicles. And now quite a few of our retail yards are pulling those because we've bought equipment that allows us to do that pretty economically. And we get paid more per ton on that metal when we've pulled it out of the vehicles. Similarly, our operations are getting better at segregating aluminum in particular, but we're far better at that today than we were a year ago. So there's some -- there are some operating benefits that are being driven by more capital investment and just being a little smarter about how we run the business. It's helping that number out too.

Okay. And that's helpful. And then the other question is, obviously the aftermarket's being impacted by it sounds like two factors. Number one, just the fewer insurance claims, number two let's call it the customer dislocation. Is there any way to kind of gauge how much of an impact each one has been on the business?

Yeah. I thought about that quite a bit because I assumed one of you would ask. It's tough to say. Probably a guess would be that -- I'm going to say maybe 60% is coming out of the softness of the market and 40% -- 30% to 40% may be coming out of customer losses. And we should be up front. Some of the customer losses are probably permanent. For example, I think I've mentioned on former calls that some of the losses are jobbers or wholesalers. These are our competitors. They're probably not coming back and we probably don't want them back. They're low margin work and it certainly would be questionable why we should allow our competitors to leverage our buying prowess to compete with us. So some of that work is gone and it isn't coming back.

Okay. Great. Thanks a lot, guys.

All right, Scot. Thank you. We appreciate everyone for calling in and look forward to updating you in about 90 days on our third quarter. Thanks again.

Thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a great day.