Motorcar Parts of America Inc (MPAA) 2012 Q1 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Motorcar Parts of America fiscal 2012 first quarter earnings call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions). As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Gary Maier, with Maier & Company.

Thank you. And thank you, everyone, for joining us for the call today. Before we begin and I turn the call over to Selwyn Joffe, our Chairman, President and Chief Executive Officer; and David Lee, the Company's Chief Financial Officer, let me remind everyone of the Safe Harbor Statement included in today's Press Release. The Private Securities Litigation Reform Act of 1995 provides a Safe Harbor for certain Forward-looking Statements including statements made during the course of today's call. Such Forward-looking Statements are based on the Company's current expectations and beliefs concerning future developments and their potential effects on the Company. There can be no assurance that future developments affecting the Company will be those anticipated by Motorcar Parts of America. Actual results may differ from those projected in these Forward-looking Statements. These Forward-looking Statements involve significant risks and uncertainties, some of which are beyond the control of the Company and subject to change based upon various factors. The Company undertakes no obligation to publicly update or revise any Forward-looking Statements whether as a result of the new information, future events or otherwise. For a more detailed discussion of some of the ongoing risks and uncertainties of the Company's business, I refer you to the various filings with the Securities and Exchange Commission.

With that said, I would now like to begin the call and turn it over to Selwyn.

Thanks, Gary. I appreciate everyone joining us today for our fiscal 2012 first quarter conference call. As highlighted in today's Earnings Release, we continue to post solid earnings and sales growth in our base rotating business, Electrical business. We also reported almost 2 months of sales from our May 6 acquisition of Fenco. Sales are enhanced by almost 2 full months of sales contributions from Fenco, which we describe as our under-the-car product segment. Were up almost 100%, accomplishing our guidance levels with only 2 months of the quarter. On a combined basis, we are experiencing a strong uptick in sales for this quarter. And with the current economic conditions as is, we expect to see demand further enhanced. All of our products are non-discretionary and consumers are looking for the least expensive way to repair their vehicles.

We are off to a good start in terms of integrating Fenco's operations into Motorcar Parts. Our team is working diligently with enhancements to logistical operations and the capital structure to support customer demand for Fenco's products moving ahead. We have an extremely detailed plan we intend to execute. As you know, we have a successful template to follow with our recent move to Mexico in rotating electrical. This clearly will help.

Our first step is to enhance our supply chain to meet the strong demand for Fenco's products. We are actively implementing the synergistic changes to the business. This is an exciting juncture in our Company's evolution. As I have previously indicated, we expect to realize at least $20 million of synergies within a 2-year period from the Fenco acquisition. Which represents incremental earnings of approximately $1 per share, based on the Company's current capital structure, and without taking into account any growth. We expect strong growth from all of our business segments. Under-the-car products including brakes, drive line and steering-related components, to mention a few, are all high-growth product categories. So our expectations from sales and earnings growth perspective are well justified.

In a few moments, David will walk you through some of the key financial adjustments. In particular, our cost of closing the transaction and the challenging and complex aspects of purchase accounting for the acquisition, which we have tried to discuss as clearly as possible in today's news release. As highlighted in the release, excluding Fenco's operating results since the acquisition, and certain other expenses discussed in our announcement, particularly relating to the Fenco acquisition, earnings per share would have been $0.23 per diluted share. This clearly indicates that our base business, starters and alternators, remains strong and continues to benefit from strong market dynamics such as an aging vehicle population and increased miles driven. Used car prices continue to increase which would seem to validate that people are holding onto their cars longer. Equally important, if oil prices continue to decline, we should see additional benefits to our business in both under-the-hood, and under-the-car product segments. When we talk about under-the-hood now we're referring to our rotating electrical business.

Equally exciting for us is that adjusted consolidated EBITDA this quarter is approximately $8.5 million. And that when you look at the adjusted EBITDA for Fenco it was approximately $1.63 million. On an annualized basis, this represents approximately $10 million of adjusted EBITDA for Fenco. This exceeds the $5 million guidance we have previously given. However, we are going to remain with the $5 million in EBITDA guidance so we don't get ahead of ourselves. Hypothetically, if we were to annualize this EBITDA number, and add our targeted synergies, it is quite easy to see how Fenco could accomplish over $30 million in (technical difficulties) EBITDA with their current Fenco business. Which, in turn, results in excess of $1 a share in earnings. As per our previous guidance, we are estimating that we'll be complete with our integration of Fenco within a 2-year period.

While we are optimistic that the economy will slowly improve, weakness in the economy motivates people to look for low-cost ways to repair their vehicles. As a result, we should continue to see tailwind's in our market. While there may be quarterly variances, we remain excited about our overall growth opportunities for fiscal 2012 and beyond. As I've stated many times, our financial strength, manufacturing excellence and value-added customer service remain the cornerstone of our success. And we expect to leverage these qualities in our organization's systems to produce solid growth and profitability in all of our product segments. In short, our base business is strong, and we'll continue to capitalize on our competitive strengths for the benefit of both electrical rotating products and under-the-car products.

For those of you new to our story, there are numerous qualities that distinguish Motorcar Parts of America, qualities that will serve us well moving forward as we integrate and grow our Fenco operations. Our low-cost production model and reputation for quality, our ability to produce and ship product efficiently with fill rates unsurpassed in the industry. Available capacity to increase production with little incremental cost in our various product lines. Our ability to leverage our overall production and overhead absorption. An international footprint that today allows us to take advantage of many international opportunities. The ability to attract new business and maintain long-term customer relationships. The support and encouragement of our leading customers, particularly with regard to the acquisition of Fenco. A strong financial position to support our growth expectations.

As I mentioned during our year-end call, both Motorcar Parts and Fenco serve many of the same customers. And there are numerous synergies on which we can capitalize, which will be beneficial to us as well as our customers. Areas such as offshore production and management systems, product delivery, streamlined ordering, product education programs, sales training, and the like are important value-added considerations. We are committed to rational pricing. And continuously evaluating the Company's cost structure and our entire operating metric. We continue to focus on annual and long-term growth and profitability. And we expect that discipline will greatly enhance the Fenco business moving forward.

David will now discuss our financials and I'll then make some additional comments.

Thank you, Selwyn. Net sales for the fiscal 2012 first quarter ended June 30, 2011 were $71.3 million, compared with $36.2 million for the same period last year, an increase of $35 million or 96.7%. The increase in net sales was primarily due to the May 6, 2011 acquisition of Fenco, which resulted in additional net sales of $32.2 million, or 89%. An important fact to note is that the rotating electrical business grew with an increase in sales of $3.6 million, or 9.8%, to existing customers and several new customers. Gross profit for fiscal '12 first quarter was $13.1 million or 18.4% gross margin, compared with $11.5 million or 31.9% gross margin for the same period a year ago. I would like to point out that the gross profit percentage in the rotating electrical segment increased to 32.1% from 31.9% during the first quarter, due primarily to lower per unit manufacturing costs.

The gross profit percentage in the under-the-car products line segment was impacted 8.4% by recording a $2.7 million or $0.22 per share of cost of goods sold related to the inventory step-up adjustment in connection with the May 6, 2011 acquisition of Fenco. Excluding the inventory step-up adjustment, the under-the-the car product line segment gross profit margin was 10.2%. We believe that with the implementation of our synergies, the gross margin percentage for the under-the-car product line will approximately double.

General and administrative expenses increased $4.5 million to $8.5 million for the first quarter, from $4 million a year ago. G&A expenses include $1.1 million or $0.06 per share of increased expenses which relate to incentives, professional fees and travel, in connection with the Fenco acquisition. G&A expenses for the under-the-car product line segment are $3.2 million for the period from May 7 to June 30, 2011, including $260,000 or $0.02 per share for fees related to restructuring Fenco's bank line of credit in connection with the acquisition. Excluding G&A expenses in connection with the Fenco acquisition of $1.1 million, and under-the-car segment G&A expenses of $3.2 million, G&A expenses increased by approximately $200,000.

Sales and marketing expenses increased $658,000 to $2.4 million for the first quarter, compared with $1.7 million for the same quarter of fiscal 2011. Under-the-car product line segment sales and marketing expenses were $564,000 for the period from May 7 to June 30, 2011. Excluding under-the-car segment, sales and marketing expenses increased approximately $100,000. Research and development expenses increased $50,000. Acquisition costs were $404,000, or $0.02 per diluted share for the first quarter, consisting of legal fees, due diligence costs and other professional fees in connection with the Fenco acquisition. Operating income for the fiscal 2012 first quarter increased 13.2% to $6.1 million, before $1.5 million of acquisition-related costs, purchase accounting adjustment of $2.7 million for inventory step-up, and Fenco bank financing fees of $260,000, compared with $5.4 million a year ago.

EBITDA for the first quarter was approximately $8.5 million, which is comprised of $6.9 million EBITDA for the rotating electrical segment and $1.6 million EBITDA for the under-the-car segment. Adjusted for various non-cash items and acquisition related costs. These items include standard inventory revaluation write-downs of $364,000, due to lower re-manufacturing costs. FAS 123R stock compensation expense of $18,000. And a loss of $88,000 recorded due to the changes in the fair value of forward foreign currency exchange contracts, and the Fenco acquisition-related costs explained above. In addition, depreciation and amortization for the quarter was approximately $1.9 million. Net of interest income, interest expense was $1.9 million for the first quarter, compared with $1.6 million for the prior year first quarter.

For fiscal '12 first quarter, the rotating electrical product line segment recorded income tax expense of $1.8 million, or 44.7% effective rate. Which includes a 5.4% additional tax of $216,000, or $0.02 per share in the quarter, due to certain non-deductible transaction costs incurred in connection with the Company's acquisition of Fenco. The under-the-car product line segment recorded a $47,000 tax provision related to the Mexico operations. The Company reported net loss for its fiscal 2012 first quarter of $2.4 million, or $0.19 per diluted share, compared with $2.5 million or $0.21 per diluted share for the comparable period a year earlier. Excluding acquisition-related costs of $1.5 million, inventory step-up adjustment of $2.7 million, higher income taxes, and Fenco bank refinancing fees of $260,000, net income for the fiscal '12 first quarter would have been $0.15 per share. It should be noted that the results of operation for the fiscal '12 first quarter do not include any savings nor costs regarding synergies in connection with integrating the Fenco operation.

At June 30, 2011 our balance sheet had $1.3 million in cash, and $449 million in total assets. Motorcar Parts of America and Fenco have separate bank credit facilities. MPA has $7 million term loan, and $18.5 million borrowings on the revolving credit facility, leaving $26.1 million available after reflecting outstanding letters of credit. Fenco had a $10 million term loan, and $47.6 million borrowings on the $50 million revolving credit facility.

I would now like to walk you through the income statement exhibits in our press release distributed this morning, which we believe will make it far easier to understand the various expenses and adjustments for the first quarter. If you can take a moment to turn to the income statement exhibits in the press release starting with the last page, we can begin. The exhibit on the last page of the Earnings Release presents the first quarter results of operations for the rotating electrical segment. As you can see in notes 2 and 3 of the table, that when you eliminate the effect of acquisition costs and higher income tax expenses related to the Fenco acquisition, diluted earnings per share was $0.23 for the first quarter. It's calculated by taking the reported earnings per share of $0.18 and reducing net sales for the inter-segment revenue by $0.04 per diluted share. And eliminating general and administrative acquisition related costs of $0.05 per diluted share, professional fees, acquisition costs of $0.02 per diluted share, and higher income taxes due to non-deductibility of certain acquisition costs of $0.02 per diluted share.

Additionally, at the bottom of the exhibit for rotating electrical segment, there was a calculation of EBITDA, adjusted for acquisition-related items. Starting with operating income of $4,792,000, and excluding the impact of inter-segment revenue, acquisition costs as previously mentioned, and depreciation and amortization expense of $888,000, rotating electrical EBITDA is $6.4 million. In addition, adjusted further for the non-cash standard inventory revaluation write-down of $364,000, and a non-cash book loss of $88,000 recorded due to the change in the fair value of forward foreign currency exchange contracts, rotating electrical EBITDA for the first quarter was approximately $6.9 million.

Now, please turn to the preceding page of the Earnings Release showing both the rotating electrical segment and under-the-car segment results of operations. Consolidated operating results for the first quarter was impacted by acquisition-related items which are highlighted at the far right column. To recap once again, these adjustments include the effects of fair value purchase accounting on Fenco's opening balance sheet for inventory step-up adjustment of $0.22 per share. All this expense was recorded as cost of goods sold during the quarter. Additional adjustments include acquisition-related general and administrative expenses of $0.06 per share, bank refinancing fees in connection with the acquisition of $0.02 per share and other professional fees related to the Fenco acquisition of $0.02 per share. Income tax expense reflects additional 5.4% tax in the first quarter due to certain non-deductible acquisition costs of $0.02. The total of these acquisition-related items equals $0.34 per share. So excluding these adjustments, consolidated earnings per share is $0.15 for the first quarter.

Additionally, at the bottom of the exhibit for the under-the-car segment, there is a calculation for EBITDA adjusted for acquisition-related items. Starting with operating loss of $3,168,000, and excluding the impact of inter-segment costs, inventory step-up adjustment, acquisition costs as previously mentioned, and depreciation and amortization expense of approximately $1 million, under-the-car segment for Fenco EBITDA is $1.63 million for the almost 2-month period.

I will now turn the call back to Selwyn who will make a few additional comments before we open the call to questions.

Thanks, David. Appreciate that. As you can see, this proposition for Fenco is very exciting. We've increased all of our inventory levels to meet increased demand for our products and for new business which continues to gain momentum. We continue to experience steady customer growth in all of our business segments. We're committed to the highest levels of customer service in line with our MPA standards. We have made great strides with our supply chain and feel that our ability to meet demand is greatly enhanced. We also feel confident in our ability to take advantage of the various business opportunities that Fenco brings to the table. We anticipate an even stronger revenue base for the second quarter and look forward to further updates on our progress. We are very excited about the future opportunities for Motorcar Parts, both in terms of the continued strength of our base business and the tremendous opportunities we expect to realize for the Fenco acquisition, by leveraging our strong customer relationships with their solid revenue base and a great selection of non-discretionary under-car parts.

Our quality-built brand name serving the professional installer segment continues to expand and we remain focused on further leveraging key production advantages to expand this business even further. The Fenco acquisition and other potential complementary future transactions underscore management's commitment to grow and enhancing shareholder value. We expect to more than double our sales for this fiscal year and we are working hard to complete the Fenco transition plan to grow earnings and potentially double earnings within the next 2 years. In summary, the long-term market statistics for our industry remain favorable and we are excited about the opportunities. I appreciate your interest in Motorcar Parts. And I'm happy to answer any questions with David that you may have.

(Operator Instructions). Tony Cristello with BB&T Capital Markets.

I wanted to start with a few questions on the balance sheet. If you look at the period ended June 30, there's a few things that stand out, and wanted to get some clarification. One certainly is the non-core inventory that had a pretty sizable jump, certainly relative to the sales combination of the 2. And I wanted to get some color on how we should think about that. Was there just excess inventory throughout the channel there at Fenco? Are you doing something to build bridge inventory? I'm just trying to reconcile what's happening on that line item.

The non-core inventory, just I think the first thing you've got to remember is that Fenco first of all is 50/50 re-man versus new units. So the value of the new unit inventory, there's no core portion to that value. So you've got that. We are actively building inventory levels to make sure we have significant over-demand for our product in the Fenco category. So the inventory reflect that there is a cleansed inventory number. We've gone through and set up pretty significant reserves for any inventory that's not productive. So all of this inventory, we believe, is very usable and critical, really, for the tremendous revenue opportunities that we're facing.

And on a go-forward basis, how should we think about, one, inventory, and, two, working capital, to manage this process over the next 2 years as the time line for the integration?

I think during the time, during the integration, we expect to build inventory levels because what we'll be doing is restructuring the logistics model. And so in order to make sure that we have no fill rate issues, we'll have excess inventory. And of course we track inventory very carefully in terms of productivity and so the focus will be on making sure the fast-moving parts are in stock. And we'll see, once we complete the transition, that these inventory levels will be reduced pretty dramatically as that transition completes. Does that answer that question? I don't know how to give you a formula in terms of how much inventory at this point.

No, that's fine. It's going to be one of those situations where, as you go along, you make revisions accordingly. The other question on the balance sheet was the accrued liabilities line. There was also a pretty sizable jump there and perhaps it's a simple accounting or accrual or something I just missed. but I wonder if I could get a little bit of clarification on why that took such a large jump and what that pertains to.

Okay, that's an interesting one. When you see the 10-Q you'll see more detail about that. But under the fair value appraisal, and these are interim appraisals, they're still not complete, I think they settle over the first 12 months, but we have made a provision for 100% core return of all the cores that are sitting on the customer shelf. So it's an interesting -- it's an extremely conservative approach. Those cores never come back. But we have a provision there. It's worst case scenario that every core that's part of a finished good that's sitting on a customer's shelf today could come back. The detail of that is in the Q that will be filed today. And you'll see that we made a provision. I think the total provision was $75 million-plus for core returns. Exactly $73.8 million for core returns. So it's a non-cash, it's a reallocation of an asset. It's an estimate and the loss on the core, on this provision, the loss has been charged to goodwill on that core return. Does that answer your question?

But is there a contra?

That goes into long-term -- there's long-term core inventory. See where it jumped $100 million there? And so that's the contra. And then the differential in fair market value of the core versus the customer has been charged to goodwill.

I'm just curious, why now? It seems like a very ultra conservative position to take. Just the timing is year end or start of a new fiscal year, is that simply the reason?

No I think this was all just part of the fair value, purchase accounting opening balance sheet valuation. Again, this is an interim. This is not a finalized valuation yet and so that may or may not change as time goes on. It's just mostly classification, to be honest with you. I just don't see it as a reflection that all the cores are coming back. That's just not realistic at this point in time.

Maybe just turning on to the income statement and just looking at sales, it looks like the core --

Let me interrupt you one second before you go to the next question. Because one of the things that we had to do, just to clarify what I just said on the cores, is Fenco never were on net-of-core accounting. So what we did was put them onto net-of-core accounting. So we took all the revenue, reclassified the balance sheet so that they could match the MPA accounting methodology on cores. That's why you see this huge gyration in the opening balance sheet.

Just as a point of clarification, how do the core values differ at MPA versus the core values at Fenco? Is that also something we need to be paying attention to?

Again, we have now brought it all current so that they match. We value cores on a quarterly basis at the lower of cost of market. And now we're doing that for Fenco so it's the exact same thing. We always set up a provision when we ship a unit that has a core, a provision for the return. So now that's in effect the same thing. So they now mirror each other. Although the allowance for the amount of core return at Fenco far exceeds the amount at MPA. And so we have to just see how that unfolds. That number may move as we go down the road here in terms of how much. It's the most conservative approach to the cores right now that you could possibly take.

And then on the inventory, maybe one last question. The $2.7 million write-up on the inventory side, is that it? Is there something else we should be thinking about as we move forward? Have you cleaned and scrubbed the inventory to the point where you shouldn't expect anything else?

No, no, there's going to be -- the way the fair value accounting and purchase accounting works is that you're only taking the hit for what you sold in that quarter. So you write up the inventory for whatever you sold in that quarter. David can give further details.

There's additional $1.5 million remaining in the inventory step-up that will be amortized in future period.

So there's another $1.5 million to go of that.

Then one last question and I'll let someone else ask. On the core business, over at MPA, it seems like the revenue growth was pretty solid. How's the productivity today? I know you now have another business line that you're going to have to integrate. And it seems to me that you've got multiple things to focus on. And I'm just wondering how we should think about incremental margin capture throughput and those type of things. 7% sales increase on the core business is good. I was perhaps expecting a bit more maybe leverage on that from a utilization standpoint.

Yes. Well, I tell you that the -- instead of calling it the core business because we have cores, I call it the base business, the rotating electrical business. I think you've mentioned it in some of your reports that are out there. April was a fairly soft month in the industry, and so April was a soft month for us. May, June were extremely strong. We see, again, this quarter significantly strong tailwinds in that business. So while I think the revenue growth rate was good, I think you're going to see higher numbers as we move down right now.

From a productivity perspective, we're still running around 50%-plus of capacity. We can certainly add significant new business without much effort. We have an extremely seasoned rotating electrical team, operating team that are focused strictly on rotating electrical. So as far as focus and ability to grow the rotating electrical business, there's absolutely no fear of that. We have a great team of both middle management and senior management, focused on that.

In terms of Fenco, there's significant focus on -- we have a defined transition team, and there's a tremendous amount of focus, number one, on making sure the productivity of the inventory for the customer is enhanced. We believe that by meeting demand more efficiently we'll grow revenue fairly significantly just from that. And in addition to that, we have many new business requests coming in from Fenco. As of now, we have about almost $20 million of new business that we signed up just in the first 2 months on the Fenco base.

And so it's a busy time for us. We know how to move things around based on the team that we had in place to get it done on the rotating electrical. It's a very busy time. There's a lot of things that have got to be done but we're very confident. When we map out the synergies that we're talking about, they are very arithmetic and very easily definable. These are not intangible pie-in-the-sky potential synergies. These are very defined synergies.

Jimmy Baker with B. Riley & Company.

Let me start by voicing my appreciation for the thorough and clear segment breakdown and impact of the one-time items here in the quarter. My first question here, if Fenco excluding the one-time costs was dilutive by about $0.08 in this partial quarter, you have some what would appear to be some pretty heavy lifting ahead of you to get to $1 in incremental earnings. Could you maybe walk us through the timing of expected improvements and what quarter you maybe see this acquisition turning accretive?

Again, we've got a detailed per quarter plan. And we intend to track it publicly on a quarterly basis so people can see where we are. I think it's a little early for us to give you quarterly guidance in terms of how these are going to affect. As we make some gains, there will be some losses. As we make gains and moving certain things to a more efficient model, there will be some losses while we start on the next thing. So it's going to fluctuate through the quarters. But we're very confident, again, that within the 2-year period we'll be at a run rate of close to $30 million or above in EBITDA, assuming no major changes to the revenue base. So I wish I could give you more on a quarterly basis, Jimmy, but we're really not ready to do that and we have not done that publicly yet.

Another balance sheet question here. At the end of June, it looks like you had roughly $82 million in net debt, up from around $5 million in net debt in March. I realize that there are separate credit lines at work here but is there a reason why you or why we shouldn't think about that $77 million assumption of debt as part of the Fenco purchase price?

Yes, we assumed, I think, $46 million of debt. It's non-recourse to MPA but it is a credit facility that exists on Fenco's books as of the closing. We intend to inject additional working capital into Fenco. Right now we're lending them money as separate credit facilities. And so we intend to enhance their working capital base to accomplish getting the results that we think we can get.

Have you set a target for when you think you'll be able to repay this debt in entirety? Or do you think it maybe suits your business model, given the resiliency of revenues, to have some financial leverage on an ongoing basis?

Our target -- we don't want to over-leverage the Company. But we think we've been under-leveraged as we have come through the last move. So we think we can deploy capital at nice returns. We think that we'll be well under industry norms in terms of leverage as we complete this project. And then once we complete it, the free cash flow is very significant so it pays down very quickly. We may build debt as we go through the transition. But again, we think that the EBITDA, the debt/ EBITDA number is going to be, while it will peak at a reasonably high number, it will come down very quickly. And that certainly will enhance shareholder value. But we'll be looking at all alternatives to finance the business, depending on how much new business comes in, all the time. The base business model is very solid.

It sounds like in both the response to one of Tony's questions and then just the commentary that you've made in the past, it sounds like there may be additional opportunities for investments in working capital. Even though there is this substantial inventory build already, you feel like you maybe need to get some additional inventory in place there? Is that a fair statement?

That is. Yes, that is a fair statement. Again, we're experiencing quite significant growth and not only are we catching up inventory but we need to build inventory for growth.

So if you look across the various product lines, in Fenco's product lineup, I'm sure there are varying margin profiles there. Are there some product lines that you feel like you really can't get them to be profitable or earn their cost of capital? In other words, as you work towards the $20 million in cost savings, could we see any termination of meaningful revenue streams in that process?

We may exit some businesses. We're evaluating it on an ongoing basis. We think that any meaningful reduction will be supplemented by meaningful increase right away. And that's why the outlook we're posting is a stable revenue outlook. Our goal is to focus on growing categories. And so we will be very brutal in terms of how we assess all these categories as we go forward. We want to make sure we support our customers. We're not going to leave any customer hanging, to use a common term. We have a strong allegiance with our main customer base and we want to make sure that we supply whatever their needs are and that anything that we change will be well planned out and communicated.

Just one more from me and I'll hop back in the queue. Could you maybe talk about the trends you've observed in July and thus far in August? Miles driven decreased somewhat in the spring and yet you were able to have a very productive June quarter from a revenue perspective. Have you seen any acceleration in demand with recent retracement in gas prices?

I don't know if I can equate them directly to gas prices. We had tremendous heat, as well, across the country, so there are a lot of factors in our favor right now. There's no question that the second quarter is stronger than the first quarter at this point. It looks stronger than the first quarter at this point in time. The industry looks to me very viable at this point and looks like tailwinds are picking up to where they were a few months back. And we're seeing great demand across the board for all of our product.

Rick Hoss with Roth Capital Partners.

Gross margin on the rotating, we've had the inventory write-downs for the last couple of years and we had a nice improvement sequentially. Are we starting to see the tapering down of these unit cost write-downs decreasing and at this point the historical write-downs are now captured in higher growth? Is that what we're seeing?

You're seeing that we still have, as productivity goes up in that factory, the manufacturing costs come down. I think in the last quarter we saw about $330,000, David?

$364,000.

$364,000 of write-downs in rotating electrical related just to higher productivity in that plant, as more production goes. If the revenues remain stable, with the small percentage of growth, we should see a diminishing of any write-downs. If we have big revenue growth we expect to see significant productivity gains out of that factory. So at this point, under the status quo, the way we're going along now, I think you'll see inventory write-downs slowing down.

And then I think it was David that mentioned something about doubling, did you say doubling gross margin on Fenco in 2 years? Was that right?

Yes. We think we should at least double our gross margins on Fenco within 2 years. And again, a lot of these synergies, we'll be taking advantage of that $20 million that we've identified, a lot of that will come through COGS.

And then, Sel, when you said something about $20 million in new business signed up for Fenco, is this annualized?

Annualized, yes. And that will kick in over the next 12 months, so far. I can tell you that the demand for Fenco products, and requests for additional new business, is very significant right now. And we are trying to manage it as best as we can without overextending ourselves.

Why is the demand kicking up so much for their products in particular?

I think they're in certain categories of very high-growth categories, and they've done a good job in certain of their categories, building capability. And so I think the customers want them to succeed, in general. And I think also, the other side of it is, I think the market, just the demand for certain of their products under the existing market conditions, are growing. They're double the amount of brakes, calipers on a car than there used to be. Cars used to have 2 front discs and 2 rear drums. 10-plus years ago, I think you had cars starting to have 4 discs which means 4 calipers on a vehicle. So the amount of that product is doubled, that's on the road. And now those cars are starting to age so you have rear wheel calipers starting to fail. That's just an example of one of the categories. But there is fundamental aging in the fleet. And they're in categories that maybe were less mature in prior years that are coming into mature years that are growing pretty dramatically because of failures.

Does Fenco, are their receivables currently factored? And is there a chance to increase this percentage as you fold them into yourselves

Yes, I think we did that a little bit prior to closing. I think Fenco were able to take advantage of most of the factoring that they could. We pushed them -- not pushed them but worked with them, really, to take advantage of some factoring programs that they weren't taking advantage of. So their working capital ratios are positive right now. The days outstanding on receivables are far less than the days outstanding on payables. So their working capital ratios look very good right now, quite frankly.

And NOL associated with Fenco?

I don't know the exact number because I think we're still trying to get to the bottom of what's usable but we're estimating that there should be around a $20 million NOL, I think, available. But that's only for utilization against Canadian profits. So the Fenco Corporation will remain in Canada at a minimum until NOLs are used up. And so that profitability, whatever we can do to leverage that tax advantage, we will. That will help them certainly in paying down the debt as we get through the transition. The free cash flow becomes much stronger for the first $20 million-plus in losses that we can utilize. The MPA income cannot be used to offset the Fenco losses. So they have to operate on a separate basis to utilize that NOL.

Graham Tanaka with Tanaka Capital Management.

I just was trying to get a feel, maybe would like to get a feel for how the asset is, the Fenco acquisition, relative to what you thought it was going to be before the deal. It's looking and sounding like maybe you're getting more organic growth at Fenco and having to add more inventory. So I'm just wondering what your organic growth rate might be there and at rotating.

I think that's a good question. I think the anticipation -- the Fenco growth is certainly, and inventory requirement, is certainly -- we expected it to be strong but it's even stronger than we anticipated on closing. So that's good news, bad news. Mostly good news because we feel like the new business opportunities are very strong. Their growth rates, depending on what we accept, the growth rates are, in some of the major categories, in the 20% and 30% rates. And please don't view that as guidance as to what we would be growing at. But we intend to make sure that we can only take growth that we can manage and that we can control on a profitable basis.

So that's a different type of a challenge than we've probably historically had. The growth rates, we've said low double digits, high single digit growth rates in our base business on the rotating electrical. We continue to pick up nice new business in our traditional warehouse business in rotating electrical with our Quality-Built brand. We've seen very nice gains there on an ongoing basis, mostly smaller customers. And our retail business is solid. Our retail customers are doing better in general so we're experiencing good organic growth with them. And so that's the growth profile. I think the Fenco, getting back to Fenco, is going to be mostly how much we rein it in versus what we can possibly do. And that's certainly, for the first 2 years, that's something we intend to make sure we don't compromise our pricing. And certainly hope that the market pricing scenario stays stable. And to grow in a coherent, managed way. With 100% revenue growth, our focus is on profitability at this point in time.

What is the outlook then for depreciation now that you have their numbers and have a better feel? Depreciation this year -- really this year, next year and the CapEx.

So, for under-the-car product line we disclosed depreciation and amortization amount in the Earnings Release. So that's approximately 2 months' worth of depreciation and amortization. So going forward, and a lot of this number does include amortization of the intangibles that were established in connection with the purchase accounting. So we would expect this type of run rate going forward, for the under-the-car product line. And then once we begin the integration and the transition, additional capital expenditures that we would be incurring would add to that depreciation and amortization.

And those capital expenditures we don't anticipate in full to be more than $10 million. I think that's a huge number. But that's the guidance that we have out there. We don't believe the CapEx is going to be anywhere -- certainly will not be more than that. We will not exceed that on the transition.

Mitchell Sacks with Grand Slam Asset.

The one question I had, in terms of synergies, are there any synergies going back towards your original business from the relationship with Fenco? Does it open up new accounts? Does it allow you to do anything more with the existing accounts that you have?

Yes, I think that's a synergy that we've never talked about. That is certainly added. We believe that certainly of all the customers that we have, if you line up all the customers we have, there's not one customer who buys more than 50% of our offerings. The idea is hopefully to utilize the relationships across the board from both companies, best practices, and to try and get incremental revenue that way. I think the revenue synergies will be significant. Again, we've identified that there's additional, I think, $20 million-plus in annualized revenue that we've accepted as new business. And, yes, I think that that's going to be another opportunity. Again, I don't want the Company to get ahead of itself in terms of revenue growth because, again, we've got 100% just that we're digesting right now. And we want to make sure that we don't -- our number one priority, bar anything, is to make sure that we don't disappoint our customers. That's absolutely the number 1 priority in our plan.

And then in terms of achieving the gross margin dollars at Fenco, would you imagine that it's going to be almost a straight line crawl up there? Or is it more back end weighted or front end weighted, or you're not sure at this point?

You'll see margin increases but then there will be offsetting negative costs. So what we're going to try is each quarter show you the incremental progress that we've made and then show you what we're spending on in the interim. So as you go down, you can't tackle everything at one time. So as we make a move, we'll see enhancements from that move. And then during that process you'll also see additional expenses for the next move. And so each quarter we'll keep you abreast in terms of how this integration goes as it goes down quarter to quarter. And so you'll see a reported number and then you'll see an adjusted number which breaks out what we're spending on the integration.

(Operator Instructions). Jimmy Baker with B. Riley & Company.

First, a follow-up on the CapEx guidance there. The $10 million in max CapEx, is that for this fiscal year or spread over the 2-year integration period?

2 years. The 2-year integration period.

Just looking at the interest expense line on the legacy business, I was trying to understand what's going on there. Interest expense in that business was less than half of what it was a year ago. And I understand there's probably a slight benefit in the rate but with such sales growth I'm surprised by the magnitude of the decline. Can you maybe walk me through the pieces there?

Interest expense, a big portion of that is factoring interest. And as someone pointed out, during the first part of the quarter when sales were lighter we had less factoring. When we had higher sales in June, those sales are factored in the following quarter. So we had less factoring interest expense and we also did recognize a little bit of interest income, as well. So when all those things come together it did result in a lower net interest expense for the quarter.

So then am I thinking about that correctly that you probably comp positive on that line in September quarter here?

We should have, going forward, higher interest expense, yes.

And one other line item question. The intersegment revenue, was that just the sales to the consignment agreement you had prior to the deal closing or will that be ongoing?

That is correct, that's the consignment agreement. We may have a little bit of that still ongoing but that is the consignment program.

George Berman with JP Turner & Company.

Congratulations very nice report and very well put. The Canadian dollar, US dollar relationship, is that going to influence your results significantly?

I would tell you that the significant majority of all of our revenue is in US dollars. The Canadian revenue portion, and I don't know the exact percentage off the top of my head, but it's a very small portion of our revenue. So it shouldn't going forward.

And you do manufacture in Canada, right?

No, there's absolutely no manufacturing in Canada at this point. Any of the legacy costs that Fenco has, are all in the US.

I'm showing no further questions in the queue.

Great. Thank you, everybody. We appreciate your time. We look forward to updating you on our progress as we go down what I think is a very exciting path and really opens up tremendous opportunities for Motorcar Parts. The total after-market parts business in North America is in excess of $86 billion. And what this does is puts us in other categories where we can have add-on -- I don't want to get ahead of ourselves but we can have add-ons in each one of these categories which are vibrant categories. And makes us a full supplier to the major customers in the industry. So we're excited about it. There's a little bit of noise in the numbers. We apologize for that. But it took us 40 years to get to be about $160 million in revenue. It's going to take us another year or 2 to be more than double that. And we think that it will take the same year or 2 to double our earnings that it took us 40 years to build.

So we're excited about it. We think that long-term the outlook is exceptional. We think the near-term industry trends are good. And in the medium term we've got our challenges to integrate this opportunity. So thanks again. Appreciate everybody's interest and we look forward to further updates.

Ladies and gentlemen, thank you for participating in today's conference. This concludes the program. You may all disconnect. Everyone have a great day.