LKQ Corp (LKQ) 2011 Q1 法說會逐字稿

Good morning everyone and welcome to LKQ Corporation's first quarter 2011 earnings conference call. I would now like to turn the conference over to your host, Mr. John Quinn, Executive Vice President and CFO.

Thank you Christine. Good morning, everyone, and thank you for joining us today. This morning we released our first quarter 2011 financial results and provided updated guidance for 2011.

In the room with me today are Joe Holsten, LKQ's Vice Chairman and Co-Chief Executive Officer, Rob Wagman, President and Co-Chief Executive Officer and Joe Boutros, our Director of Investor Relations. Joe, Rob and I have some prepared remarks and then we'll open up the call for questions. In addition to the telephone access for today's call we're providing an audio-cast via LKQ website. Both will have replays available shortly after the conclusion of the call.

Before we begin our discussion I would like to remind everyone that the statements made in this call that are not historical in nature are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These include 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. We assume no obligation to update any forward-looking statement to reflect events or circumstances arising after the date on which it was made, except as required by law.

Please refer to our Form 10-K and other subsequent documents filed with the SEC and the press release we issued this morning for more information on potential risks.

Hopefully everyone has had a chance to look at our 8-K which we filed with the SEC earlier today, and as normal, we're planning to file our 10-Q in the next few days. And with that, I'm very happy to turn the call over to Mr. Robert Wagman.

Thank you, John. Good morning and thank you for joining us on the call today. We are very pleased with the results we reported this morning. Diluted earnings per share from continuing operations in Q1 were $0.39, an increase of 8.3% as compared to $0.36 for the first quarter of 2010. In our press release we noted that the 2011 diluted earnings per share results included a charge equal to $0.02 for the write-off of debt issuance costs in conjunction with the previously announced refinancing of our credit facility. When factoring out this amount, diluted EPS increased 13.9% compared to Q1 2010.

Revenue reached a record $787 million in the quarter, an increase of 30.3% as compared to Q1 2010. Our first quarter total organic revenue growth was 13.6%. Organic revenue growth for Parts and Services for the quarter was 10.3%, which reflects increased part sales, primarily driven by improved inventory positions.

Turning to aftermarket, aftermarket and refurbished revenue increased 22.0% for the quarter with organic growth rate of 10%. This healthy growth rate can be partially attributed to the availability of more certified parts entering the system, as well as the maintenance of generally robust inventory levels.

Despite the headlines surrounding increased fuel costs, the US Department of Transportation reported that February 2011 miles driven were up 1% from February of 2010. However, this was prior to the recent surge in fuel prices.

In our recycled parts division, demand for LKQ's wholesale parts remained strong during the quarter. Organic revenue growth of recycled parts and services was up 10.9% for the quarter. Recycled parts revenue growth from acquisitions grew 17% including the impact of our remanufactured engine business. Availability of salvage inventory has remained strong and we continue to put more recycled inventory on our shelves to sell but the prices we have to pay continue to be above historical average.

During the first quarter we purchased over 55,000 vehicles for dismantling by our wholesale operations, which is a 19% increase over Q1 2010. As anticipated on our Q4 call a healthy volume of cars at auction was realized in Q1. With on-hand product and maintenance of our existing rate of vehicle acquisition we should have sufficient inventory to grow our recycled parts operation.

In an effort to offset margin pressure resulting from higher cost of goods, we continue to place a strong focus on lifting our sales yield. We are concentrating on improving the top line via strategic price increases and on minimizing the contra sales line with tighter controls over customer discounts and price deviation.

We are developing an enhanced analytical infrastructure to support price determination and we continue to implement better disciplines from mechanical part core charges and recovery. We are beginning to see the promising results from these various yield improvement initiatives. But these are early days and I look forward to updating you on our progress on future calls.

And finally, touching on guidance. Based on current conditions and excluding restructuring expenses and any gains or losses related to future acquisition or divestitures, we anticipate full year 2011 income from continuing operations will be in the range of $197 million to $211 million, and diluted earnings per share from continuing operations will be in a range of $1.33 to $1.42. We are leaving the balance of our guidance unchanged for the year.

With that, I'd like to turn the call over to Joe to talk about other aspects of our business and our most recent acquisition.

Thanks, Rob. Turning to our self-service retail businesses, during the first quarter we purchased roughly 81,000 lower cost self-service and crush-only cars as compared to 67,000 in Q1 of 2010, which is a 21% increase. The pricing dynamics within the self-service business were generally favorable to the Company throughout the quarter, so although we saw prices rising we also saw improved ferrous scrap metal pricing allowing us to maintain gross margin dollars.

Shifting to our heavy-duty truck operations, we purchased about 1,000 units for resale or parts during the quarter. Here we remain focused on expanding our network as well as rounding out our marketing and sales training in this area. In addition, I've mentioned in the past, that we're bringing all of our heavy truck operations under a single IT platform along with the development of an interchange to facilitate parts identification between our operations. I'm happy to report that this work is progressing very nicely.

Recently we've been encouraged by a pick-up in activity in this line of business, including some improvement in the export markets. I mentioned last call that during the quarter we had already acquired four businesses, the first of which was ATK. ATK is an engine remanufacturer. Their main distribution warehouse is located near Dallas, Texas. ATK remanufactures passenger auto and light-duty truck engines and cylinder heads. Its primary production facility is in Mexico.

The second transaction is Heatex RadPro, located in Michigan. Heatex is a distributor of automotive heating and cooling parts from 15 leased facilities located primarily in the Midwest, Michigan, Indiana, Minnesota, Wisconsin, Iowa and Ohio. Heatex's core customer is the cooling parts installer.

Third, Midway Systems and Any Core in Duncanville, Texas. Midway sources trucks from large fleet operators and is a nice addition to our heavy-duty truck platform. The company also develops and distributes aftermarket parts for heavy-duty truck applications.

And, finally, Auto Paradise in Milwaukee, Wisconsin. Auto Paradise operated a wholesale salvage yard which we are in the process of converting to a self-service facility. As mentioned in Q4, these acquisitions will enable us to expand our market presence by supplementing our product line offering and expanding our geographic footprint.

With respect to our own internal development efforts, we currently have three self-service recycling facilities under development in various markets, as well as one wholesale salvage yard in Central Ohio which we expect to open later this year.

We continue to be pleased with our company's ability to integrate our acquisitions and given the Company's recently announced new $1 billion credit facility, which John will cover in just a couple of minutes, coupled with a robust pipeline, acquisitions will continue to be a key driver in our growth strategy.

At this time I'd like to ask John to come back on and provide some details on the financials of the quarter.

Thanks Joe. Before I get into the numbers on the quarter I thought I'd take a minute or two to talk about the refinancing the Company and our banking partners completed in March. On March 25, we replaced our then existing $100 million revolver and approximately $600 million of outstanding term loans with a new five-year $1 billion facility consisting of a $250 million term loan and a $750 million revolving credit facility. The facility includes a $300 million multi-currency supplement and accordion features for an additional $400 million.

The new facility offers us a number of immediate and longer-term benefits. Our liquidity over the next few years is markedly improved as we have approximately $300 million of additional capacity and we've reduced the mandatory term loan repayments that would have been required under the old facility.

Interest expense will be immediately lower as we reduced our drawn borrowing costs under the facility by 50 basis points to L plus 1.75. With a pricing grid it allows us to move lower if our leverage continues to improve. A larger revolver means we're able to eliminate some of the negative carry we had from holding cash on the balance sheet and with the new five-year term in place we've pushed our only meaningful debt maturity out to 2016.

You will note in the quarter we wrote off $5.3 million of unamortized costs associated with the old facility equal to $0.02 per share. This is a noncash charge that had not been contemplated in our prior guidance.

Moving forward to the quarter results, Rob's already given you a breakdown of the year-over-year revenue changes so I'll just supplement what he said with a few other data points.

For Q1 our total organic revenue growth was 13.6% and we had an additional growth of 16.5% from acquisitions. Rob mentioned that the Q1 2011 organic growth for parts and services was 10.3%. Other revenue, which is where we record our scrap commodity sales, was up 71%. Approximately 37% of this was organic growth as commodity prices were higher on a year-over-year basis and because we had higher volumes of scrap and cores, and 34% was the result of acquisitions.

In Q1 2011 revenue for our self service business was $74.4 million, or approximately 9.5% of LKQ's total revenue. Approximately 30% of this revenue was part sales included in recycled and related products, and 70% scrap and core sales included in other revenue.

Our acquisition revenue was driven by the 19 deals we did in the final three quarters of last year and the four deals we closed in Q1 this year. The Q1 impact on revenue from acquisitions was approximately $100 million.

Gross margin for the first quarter of 2011 was 43.7%, which was down 320 basis points from 46.9% in the same period of 2010. In the last two quarters, we mentioned that this decline was primarily related to higher costs incurred acquiring salvage vehicles at auction and in the self-service line of business. We continue to see these lines of business being the principal driver of the margin decline on a year-over-year basis.

But I think the other thing to consider is that as our other revenue grows simply as a result of higher commodity prices we don't maintain the same gross margin percentage on that revenue. While we may make some additional gross margin dollars, we don't always make the same gross margin percentage.

I'd also like to add a comment on sequential margins. We saw sequential margins, that is Q4 2010 to Q1 2011, improve about 100 basis points from 42.7% to 43.7%. We believe there are a number of things that are driving that improvement. Scrap prices rose during the quarter, on average about $47 a ton. There's a lag between the time we buy cars and remove the parts and the time we sell the hulks for scrap. We estimate this lag added about $0.02 EPS benefit which showed up in our gross margin.

Rob mentioned the impact of our pricing programs. It's still early days but we are starting to see some of the actions show up in the numbers. I'd also like to mention that the heavy influx of acquisition revenue probably caused a bit of a drag on Q1 margins since the new revenue can run below our company average for a few quarters.

The smelter operation we bought in Q3 will always run at lower margins, but the other businesses should see some margin improvement over time as we continue to integrate them into our platforms.

We continue to see improvements in each of our facility and warehouse, distribution, and SG&A expenses. In total these three items fell from 30.5% of revenue to 28.7%. This improvement is partly a function of math because the higher commodity prices drive higher revenue without any corresponding increase in most of these costs. But it also reflects continued leverage in the business. Wholesale parts revenue was up 24.5% year over year whereas these costs were up 22% reflecting the leverage we are achieving.

Our operating income was $107.4 million in Q1 2011 compared to $89.9 million in Q4 last year, an improvement of $17.4 million or 19.4%. Net interest expense of $11.8 million was $4.5 million unfavorable to Q1 last year. I mentioned earlier that 2011 included a noncash write-off of unamortized deferred costs associated with our prior credit facility of $5.3 million. Without these costs our interest expense would have been $6.4 million or about $900,000 favorable to last year. The year-over-year improvement in this number is a result of lower average borrowing levels and improved borrowing costs. Our effective borrowing rate was 4.6% in Q1 2011 compared to 5.1% in Q1 2010.

Our tax rate for the quarter was 39.2%. In Q1 2010 the rate was 37.2%, but you may recall that last year included some favorable discrete adjustments.

On a reported basis, diluted EPS from continuing operations was $0.39 in Q1 2011 compared to $0.36 in 2010, and as we mentioned earlier there's a $0.02 expense associated with the refinancing of the credit facility in the 2011 numbers.

Cash flow from operations was $77.3 million compared to $88.1 million in 2010. The main drivers of the change was an increase in working capital, mainly accounts receivable which was a use of cash of $19 million compared to $3 million use last year, and accounts payable which was a use of cash of $10 million compared to a source of cash of $6 million last year.

Capital expenditures for the quarter were $18 million and during the quarter we spent $44 million in cash on acquisitions. We also issued 407,000 shares of stock related to the exercise of stock options. It resulted in $5.1 million in cash including tax-related benefits.

Debt at the end of the quarter was $559 million including $547 million under our secured credit facility. Cash and equivalents were $65 million at the end of the quarter. At the quarter end we had a draw of $297 million in the revolving credit facility and approximately $26 million of letters of credit that are backstopped by the facility, leaving $427 million of availability for future borrowings.

Under the terms of our new credit agreement we're required to make debt repayments on our term loan of a little over $300 million each quarter this year. On April 14 this year, our $200 million floating-to-fixed hedge rolled off, and a hedge we put in place in Q4 for $100 million floating-to-fixed became effective. With these hedges we have approximately 65% of our debt fixed at an average cash interest rate of 3.2%, and the balance is floating with a cash interest rate of about 2.2% at today's LIBOR rates in our current credit spreads.

Rob mentioned the increased guidance for the year, wherein we raised our EPS guidance to a range of $1.33 to $1.42. I want to point out that the revised guidance includes the $0.02 we incurred on the debt refinancing. So since the refinancing wasn't in our original guidance, conceptually we're raising the operating performance of the business by more than the new EPS numbers would suggest.

Rob mentioned that the guidance excludes restructuring and integration costs. Based on the acquisitions we've completed to date, we expect to incur between $1 million and $2 million of these costs beginning in Q2 of this year.

I'll just take a moment to discuss some of the things that could impact us for the rest of the year. On the external front, there is the higher fuel costs. If gas stays at elevated levels we could see miles driven decline and that could lower the number of accidents and hence our volume. We continue to hear how higher commodity prices combined with the lower dollar is causing pressure on our aftermarket suppliers and shippers.

And our guidance contemplates scrap prices and car prices roughly where they are in the market today. Obviously scrap could go either way, up or down. We saw the Manheim Used Car Index hit a new high in Q1 and we think that impacted the prices we paid at salvage yards. We'd like to think that the index has peaked and may even start to come down over time, but obviously that's outside of our control.

We do feel pretty good about the things we can control including our pricing efforts and cost controls. And we also have a high degree of confidence in our acquisition integration abilities. To the extent we can avoid the negatives or get more out of these positives we could see ourselves on the higher side of the new guidance range.

With that, Christine, we'd like to open the phones for questions please.

Thank you. We will now be conducting a question and answer session. (Operator instructions.)

Our first question comes from the line of John Lovallo with Merrill Lynch. Please proceed with your question.

First question is in relationship to Japan. I mean, is there any chance that there will be increased demand for alternative parts? And along those lines, if the OE channels were unable to supply certain parts, I mean, is there an opportunity for you guys to supply that channel as well?

Hey John, this is Rob. To date, we can report, there have no real part shortages in the OES supply chain. We certainly would expect, just from the news stories we're hearing from Japan, there's going to be some level of disruption at some point, but there's really no clear signals as to which parts and when that might occur. One thing we can report on that's positive is that there's been on impact to our Taiwan suppliers because they did receive some of their raw materials from Japan, which has gone un-impacted.

One thing that definitely will happen, there's a strong prediction for a tighter new car availability market which would likely put pressure on the used car market, as John mentioned. But to be safe, we have increased our safety stock of parts once already, and we are contemplating another uplift of emergency stock just in case it does turn towards a shortage of parts. We will be prepared if in fact that does occur, but as I said, right now we have nothing firm on that.

Okay, thank you. In terms of the self service business, how big of a part of the businesss could this become? I mean do you think it will remain around the kind of 10% of total revenue or is there an opportunity to grow this further?

Yes, we're—as I indicated we have three development yards under construction right now. We continue to look for acquisition opportunities, so it's an important piece of the business. The insurance carriers increasingly are looking for more cost-effective ways to deal with the lower-end product that they have, and the auction fees have become, quite frankly, so expensive that they lose money on the -- the insurance carriers will lose money on some of the lowest-cost product and we believe that our self service yards can take that product directly and be of benefit to our very important partners, the insurance carriers.

But say it's probably about 10% of the business right now if you factor in the scrap. And I would guess that the business will probably outpace the self-service business and that probably each year you'll kind of see the overall mix decline, just gradually, just because we are adding other product lines continually to the products that we want our sales people to sell and distribute. So we'll be working to develop it but my guess is a few years from now it won't be 10% of the pie.

Okay, that's very helpful. And finally just a quick housekeeping, in terms of the revolver is the interest rate the same as on the term loan?

Yes.

Thank you. Our next question comes from the line of Sam Darkatsh with Raymond James Financial. Please proceed with your question.

A couple questions. There are a lot of moving parts with gross margin, with the acquisition impacts, the steel scrap prices, your pricing initiatives. How should we look at gross margins over the next couple of quarters? And then I've got a couple of follow-ups too.

Certainly--let me talk about some of the initiatives we've taken. John mentioned the Q1 to Q1 comparison. Cost of salvaged vehicles has increased as well as the cost of the self service vehicles. Seem to think that it's going to bottom out at some point and we may be near that point. Of course the addition of the smelter impacted the Q1 results as well this year, and of course we didn't have the [fee for C] this year that we had last year. And, of course, the time to absorb new acquired businesses -- we can get them on our systems pretty quick but to get them to the margins that we are consistently running can take upwards to a year.

To the other part of your question on some of the initiatives we've taken, we'll talk a little bit about those in the pricing department. Across region pricers, they are making regional decisions but much more quickly and effectively and that is starting to show as well. We have locked down our reps that we talked about last quarter about bypassing core charges on certain part types. We've now expanded that to cross all part types so we should expect to see some margin protection there as well.

We've also engaged our IT department to make some deviation controls electronically. Rather than a manual process the reps will be now tied down there as well. We mentioned about our pricing analyst in my presentation, but more intelligence-based decisions upon supply, demand and market conditions. Of course the rising steel prices certainly helped the margins a little bit here but the system sharing network we're seeing, as well, has been very positive for us. The communication between our aftermarket divisions and our salvage divisions is helping us adjust prices much more quickly.

And finally we are early in the game but the initial numbers do look promising so we do expect the margin to—with the initiatives we have in place, over time will continue to improve.

So we should expect slightly accretive gross margins on a go-forward basis from the 43.7 that you reported in the first quarter?

We are getting away from the cash-for-clunker comps which were stronger. We still had a Q2 impact last year, so probably flat as we move forward a little bit. But these initiatives will start to have an impact.

What's your outlook on steel scrap prices near-term? March they came in a little bit. What are your thoughts the next few months or six months or so?

We saw kind of a peak in February, then March came off just a little bit. April had stayed really flat with where our March performance was. We have not seen any May quotes yet. It will probably be—actually, it will probably be tomorrow when we start to get our first May quotes, but we're assuming that May probably comes off $10 to $20 a ton. Out from that—out further from that, we certainly—our forecasts assume we're staying relatively close to current levels for the balance of the year.

Last question before I'll give the floor to others. Your acquisition pipeline last couple—April and March, there weren't acquisitions, best I can tell. Give a color around what you're seeing, which areas, perhaps what you're targeting for sales for the year, for acquisitions. A little bit more meat on the bone if you could please.

Sure. I'll start by saying the pipeline is as robust as it's ever been. Walter Hanley and Bob [Deitch] lead our kind of central efforts. We're augmenting them with additional resources in the field as well as additional headcount here in Chicago. With Rob having taken on some much extra responsibility in the day-to-day operations, a lot more of my personal time is being channeled toward acquisition and development work, as well.

My broad estimate over the next 24 months would remain that we should put a minimum of $400 million of acquired revenue on the books over the next 2 years and we think there are plenty of good quality opportunities to work toward that number. Obviously the Company is well financed to take advantage of the opportunities. We're pretty much sticking to our historic multiples of what we pay for businesses. We see no reason to become more aggressive or try to take anything off the table.

In the late model area, kind of our traditional LKQ salvage business, I would say our focus area there is really on geographical expansion, just looking for good quality yards, good management with good capacity that will extend our current markets and allow us to build more capacity in our distribution systems.

The other thing that we'll look for in late model would be what I consider distress opportunities, and these are businesses whose owners are essentially looking for an expedient way to liquidate their business. And in those cases we are buying inventory at cost, paying a token amount for a phone number. We close the facility, sell the parts, pick up a few sales people and essentially have an organized liquidation of the business over a couple of year period.

In our aftermarket business, most of our focus is really on—continues to be on warehouse upgrades, and warehouse expansions. I'll look for a nod from Rob but my guess is we probably, in the last two and a half years, we've probably increased the size, re-racked keystone warehouses—probably 60% of them, just sometimes increasing the capacity of the existing warehouse, but in most cases, adding cubic feet into the warehouse.

Obviously the other focus area in aftermarkets recently has been on product line expansion. We've talked about a couple of cooling transactions. Cooling is one of our faster growing product lines right now, and another fast growing product line is coatings or paint. Those continue to be focus areas of our deal team. In aftermarket, we're also looking what I term the distress opportunities, as well.

On the self-serves, these are really all geographical expansions of new markets. I mentioned we had three greenfields under development, and we have a couple of conversions planned over the next couple of years where we know that through expanding out late model yards we're going to be able to add enough real estate that we'll be able to put a side-by-side self-service yard next to a late-model yard.

In the heavy duty truck area, you know we completed one deal in the quarter. Our focus here is strictly is on geographical expansion to build out the footprint. And then finally in our [re-man] operations between the 2010 deals on wheels and PROFormance and ATK, I would suggest that for this business line we really need to be in digestion mode for the balance of this year before we start to seriously look at adding more capacity.

That was terrific color. Thank you, Joe. Sales in the second quarter, from acquisitions, it was $100 million in the first quarter. Something similar to that in the second quarter, would you guess?

Based on what we've got on the book today, Sam, you're going to see Q2 being a little bit less because the Q2 acquisitions from last year drop off, and so it's obviously it's going to taper down. It tapers down to probably around $30 million by Q4 from the acquisition book that we have today.

Our Q2 deals are going to be late quarter [handouts.]

Got you. Terrific quarter, guys. Thank you much.

Thank you. Our next question comes from the line of Tony Cristello with BB&T Capital Markets. Please proceed with your question.

First question I had, can you talk a little bit about, sort of, how you feel about current inventories, your backlog, your fill rates, and what you're seeing today with respect to salvage auctions, in term of your ability to procure and get the cars you want?

The fill rate—I'll start with that, Tony, very strong. Obviously we came out of a strong quarter in revenue, and our fill rates are pretty much flat in both of our segments, aftermarket and salvage. But really healthy fill rates in the high range, that is historically where we've been. So we're very pleased with the fill rates.

As far as the backlog, our backlog is very good in our salvage facilities. The buying is very strong as we mentioned in our Q1 with an increase of 17%. And the auctions, as we also predicted coming out of Q4, our Q4 call, with the heavy weather that we sustained in Q1, the auctions are very full with product. And as you know it takes 60 days before those hit the auction. So the auctions are remaining at higher levels of vehicles for purchase.

And has that indirectly helped a little bit on the pricing side as well?

Pricing is still strong, again, because of the pressure, we believe, on the used car markets, and I think the Japan crisis will continue to put pressure there. But we are buying, again, at historical high levels, but consistent with previous quarters.

Okay. Well, this is the first quarter, I would say, since 2007 where you saw a double-digit same-store sales growth in, sort of, both the recycled and the aftermarkets. And obviously weather is playing a role, but you've got to be executing and you've got to be getting traction from your insurance carriers. Are there any of these programs and initiatives, keyless, any of these things that you believe are adding incrementally right now to what you're seeing from these strong results?

Certainly insurance companies demand have been as strong as ever. We did see a 2% increase in A/P usage from '09 to 10 as we reported last year so insurance companies are definitely driving more and more demand. Some of the other reasons for the organic growth, certainly in Q1 we did see miles driven increase. I've got to believe our inventories, both strong on both sides of our business, are contributing to that.

The certified product on our aftermarket division continues to grow. NSF, as we've mentioned in previous calls, is really taking [CAPA] on and adding many, many more parts into the system. We certainly did have a great Q1 weather event for the insurance companies. They did report increased claim frequency. One last thing, we did have one extra business day this Q1 as compared to Q1 of last year, so we did have a little bit of a push there as well.

But finally I do suspect, as Joe mentioned during the acquisition talk, we are seeing some distressed business out there so I think we're also taking market share as well, Tony.

Okay, and maybe one last question. When you look at, sort of, the pilot that State Farm has in place for electronic ordering the one difference between now, and what I think was in 2007 or 2008, is they're inclusive of salvage parts, recycled parts, where they weren't before. It was only OE. Is that a signal, at least to the extent that they're giving a little bit more latitude to the collision shops to sort of find ways to repair at lower price points or if they prefer alternative parts to the extent they can use them?

Yes, absolutely, Tony. I believe it's a clear signal that State Farm needs to, obviously, be more competitive in the alternative parts arena. We're thrilled to have the recycled parts as part of that process. So we are actively engaged with State Farm talking about programs and they continue to show interest. And that's not just really the State Farm. Many carriers are still approaching us. We have a whole team dedicated to insurance marketing and they continue to report great conversations with the carriers.

Great. Thank you.

Thank you. Our next question comes from the line of Nate Brochmann with William Blair and Company. Please proceed with your question.

Great quarter. I wanted to talk just a little bit—extrapolated on the last question. I mean, obviously, a great organic growth quarter for parts and services in the first, and I know that you kept the guidance the same at 6 to 8% for the year. But is there anything, I mean other than, obviously, the number of accidents that occurred in the first quarter, that would -- any of these positive things that would necessarily dissipate throughout the year in terms of the higher APU and NSF and certified products, market share et cetera? It seems like there's a lot of momentum behind those various drivers.

Well certainly we do expect more certified parts [to enter] the program during the year but the risks that we see, the major risks, are oil prices and a return to '08 driving habits, of miles driven dropping. We did get a report on fuel purchases by gallons. It actually did show a decline in April, so that's the first sign of a—what we believe will likely be a drop in miles driven for April. It's not reported yet but certainly gallons purchased is down.

We don't see, obviously, the comps of the cash-for-clunkers going forward past Q2 where we would reap the benefits of a strong same-store sales growth. And I did mention, of course, the extra day that we do---not only do we not get in future quarters, but actually lose in Q4.

And just one final anecdotal story, I did talk to one carrier just yesterday, top five carrier, that did say their frequency has dropped in April a bit. They didn't know if it was because of miles driven or if because we're seeing a return to '08 of people increasing the deductibles or dropping insurance coverage but they did notice a small dip in frequency already.

So there are some headwinds here certainly but the tailwinds you mentioned though, Nate, I think are important, the price initiatives that we're doing, the alternative parts increasing. We don't give guidance on that until the end of the year when we get that from the estimating companies, but we think we're well prepared to—certainly any of those headwinds, we have enough tailwinds behind us with the insurance company demand and the robust inventories.

Fair enough. Thank you. Then, Joe, you eluded earlier, when you were talking about the acquisition pipeline and building out some areas, building out, you know, the amount of square footage, particularly for the aftermarket space, et cetera. I also know, obviously, you guys have been in a little bit of a consolidation mode with trying to co-locate some of the facilities. Just kind of wondering where you stand in terms of—obviously, as you build out you need more space—kind of where you feel with that from a capital expenditure plan?

Our CapEx is running higher this year than it has historically. I can't say that a huge amount of that is related to warehouse expansions and new facilities. They're oriented toward combining operations. I'd say more of the CapEx is—this year is really, quite frankly, has just outgrown some of our LKQ salvage operations where we've really not put a lot of money into them in over the last 10 to 12 years. In several yards in Florida we've invested no capital in them in a decade, so we are incurring pretty significant capital outlays in those markets. But there's no tsunami of capital on its way because of putting facilities together. There are probably three to four a year where we'll be looking for opportunities to merge our operations, and that's certainly well within the capital costs that you're seeing this year and last.

Great, thank you very much.

Thank you. Our next question comes from the line of Craig Kennison with Robert W. Baird. Please proceed with your question.

Thanks for taking my questions as well. Most of them have been asked but I wanted to ask about APU and the impact of CAPA and NSF as they compete. Is there any way to quantify the number of SKUs that are now available versus, let's say, a year ago?

NSF is really all new (inaudible) year. They've got about 350 parts, I guess, certified.

They have 350 parts certified, correct, John, with about 500 in the pipeline, Craig. ,

CAPA's been relatively stable I think, because don't forget some parts drop off as model years age and it's just not worth pursuing that certification. So it's been, more or less, constant. Although they have indicated that they're going to expand to include some additional [rebars] and some other parts that they previously have not included in their agreement.

We certainly believe, Craig, that the spirit of competition is starting to kick in between those two organizations. One other thing I do want to add is that our part count in AQRP is up as well, our quality assurance program, rapidly approaching 9,000 separate SKUs. So combined when you look at all three together, as John mentioned, NSF is 100% new, AQRP is up 10%, in the range of 10%, and CAPA will start to see some increasing as well.

Just to follow up on that, what really matters, right, is the incremental growth in the whole pie. I mean if NSF is only certifying parts that other organizations have already certified that wouldn't necessarily provide an incremental benefit. Isn't that fair to say?

That's very fair to say, and we work closely with NSF guiding them, giving them suggested parts to certify, so there isn't duplicative efforts.

All of those NSF parts are new, insomuch as CAPA has not previously done any of those.

A 100% brand new SKUs in the system.

And finally what's the basis, what's the CAPA number? How many parts are they roughly certifying today?

About 3,800.

Yes, 3,800, and as John mentioned, some drop off and they add some, and in the last couple years it's gone up. It was in the 3,200 range a couple of years ago so they are increasing.

Thanks, and the second question has to do with the cyclicality, if there is any in the business. If you look back to 1991 there was a recession then and looking at data we've seen the number of repair hours dropped at that time, maybe as consumers got a little concerned about any discretionary spending on repairs. Do you see any cyclicality this time around and if we see an economic recovery, might you benefit?

I think what you're seeing, to some extent, is the—if miles driven continue to expand then you're going to see the number of accidents, absolute number increase or accident frequency increase. I think in terms of the age—we're still seeing the age of the fleet in the country increasing slightly, which helps us in one respect insomuch as that it drives people to use alternative products more to repair those vehicles and it improves the mechanical sales. It does mean, though, more cars total when they do get in an accident.

And then last question just regarding margin and maybe the long-term opportunity there. Joe, you guys have made a number of significant acquisitions recently and I'm wondering whether that changes your longer-term outlook for margin, given, maybe, a different profile on some of those businesses. Where do you think margin can be, you know, in three or four years' time?

I think we have to answer that in the context as just the existing business. I don't think we have enough clarity of exactly what deals we'll be adding into the business. And we've said for a number of years that we feel somewhere around 50, 60 basis point expansion, that the operating income margin line's achievable. I think we've averaged that over the last five years, which even included absorbing $800 million of Keystone work that was several hundred basis points under the traditional LKQ work. Craig, I'd stick with that number. I think there's enough room in our operations. We continue to add more product into the warehouses, put more products on the trucks. There was a very significant improvement in our, what we called our [S Dog,] where, if you look at our operating expenses and how much margin we picked up between the gross margin and operating income margin line in the quarter, it was powerful. And I don't see any change in that.

Great, thanks and congratulations.

Thank you. Our next question comes from the line of Scott Ciccarelli with RBC Capital Markets. Please proceed with your question.

Just a point of clarification. John, you'd referenced on your EPS guidance the $1.33 to $1.42. That's assuming $0.39 for the first quarter?

Yes.

Okay, got it. And, obviously, organic growth was very strong in both recycled and the aftermarket segments. It also sounds like pricing is up. Can you guys give us an idea how much of the organic growth was units versus what was the pricing impact, even if it's in just, kind of, general terms?

I don't know that we can give specific comments with respect to the pricing. I think on the aftermarket side we're looking at somewhere between 1.5 to 2% OE increases in pricing, and, you know, we generally follow their lead, their pricing. They've become the benchmark for us, so to speak.

But it's much more difficult to measure price per se on the recycled side. I don't think we can really give you an accurate number there. What we can say is that we do see things like the prices that we're chargine for cores, and that sort of thing, we're starting to see some of those numbers coming through the income statement, which is why we're feeling a little bit more confident in terms of talking about some of those initiatives.

Okay, but the bulk of the organic growth then was unit-related rather than pricing then?"

I think that's fair.

Okay, and then I guess my last question is, and this is just a what-if scenario. You guys—we've mentioned 2008 a couple of times on this call, and we went from an environment where we had very high commodity prices, you know rising scrap, steel, as well as the price of the vehicles. Then we had demand destruction, obviously, towards the late '08, everything kind of collapsed on itself. If we were to go through a similar scenario, whether it's this year or next year, et cetera, as what we saw in '08, would your playbook be any different? Or are there significant differences between your business today and '08 or is it, look, we're just kind of subject to the whims of the market if we were to have a similar scenario?

I guess I would offer up, the 2008 event really was sort of a tsunami sort of event. But then I was looking at it for a while. I think it was within a 75-day period we saw a century-high level in scrap, and probably a century-low level in scrap. [So then] around Thanksgiving, a clever manager in Texas called and we were having a discussion about scrap prices, and he said "Joe, you don't understand. They won't take it for free. They just don't want it." I mean the markets were frozen, I mean, they were just locked up. No one was buying scrap at any price.

Now, I think to be honest with you, if we had an event where the scrap markets froze up and there was zero demand for crushed car bodies, yes, we'd be in exactly the same position we were in 2008. We have no hedge in place for any event like that. None of our competitors do. So if we saw a repeat of that event, yes, we'd have a rotten quarter, no doubt about it. But would it be limited to our you-pull-it business which, compared to 2008, the you-pull-it business was probably, I don't know, 15 to 20% of our business. And it's arguably 10 or less. We have significantly diversified our business base since 2008 with additional product lines in our aftermarket business, the addition of the re-man building up our real business. So I think that would probably be the protection that I would offer out to our shareholders, is that it would be a kind of a 60-day event and impact a pretty modest portion of the business at this point.

I think the other thing that I'll just add is that even through the entire recession, we few and recorded pretty increasing -- every year increasing numbers in top line growth right through the recession. At the end of—when some of the other people in the midst of it were shirking, we doubled downed on our inventory a little bit and said this is an opportunity for us. So I don't know that we would change our playbook, particularly. As Joe says we've got some steel that we are sitting on the ground that we turn every 60 to 90 days. So if prices rise like they did in this quarter then we get a little bit of benefit. And if they fall, they fall. We take it for a quarter. But it doesn't really change the fundamentals of the business from my perspective.

Yes, good point. When we came out of that, you're right, we did invest heavily in our inventory. We moved to build out our infrastructure more, and quite frankly, took advantage of the strong balance sheet that the Company had. And we would do that again, absolutely.

All right, that's helpful. Thanks, guys.

Christine, I think we're just about out of time. We may have time for one quick question.

Okay. Our final question comes from the line of Scott Stember with Sidoti and Company. Please proceed with your question.

Could you guys touch on your recently announced government sales program and how you envision that evolving in 2011 and beyond?

Scott, we've formed a team that is now going after municipalities at the local, state and federal level. It's in its infancy stage for sure but we've made some nice progress already landing some deals. They are obviously under extreme pressure to cut costs out of their budgets and we really expect to really expand this program in the coming quarters. And so far we're off to seeing some very initial positive meetings, very receptive to speaking to us. And we're pushing all of our lines through at, not only just salvage and aftermarket, but also our re-man because they do use a lot of engines in their repair process. So it's a great opportunity for us and we will drive that hard in the upcoming quarters.

And as far as impact, we shouldn't expect much of anything -- ?

No, I certainly wouldn't model anything for the upcoming quarters. As this gets momentum we'll certainly report on it, but for now it's still in its infancy stages.

Great. Thank you so much.

Well, thank you for joining us. In fairness to other companies, I know that a lot of you have a busy calendar today, so we're going to call it a call. Thanks for your continued interest in LKQ and we'll look forward to reporting to you on our second quarter operations, most likely the last Thursday in July. Thanks, everybody.

This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.