Motorcar Parts of America Inc (MPAA) 2014 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Motorcar Parts of America's fiscal 2014 third quarter results. (Operator Instructions) As a reminder, this conference may be recorded. I would now like to turn the conference over to our host of today's call, Mr. Gary Maier. Please begin.

Thank you, Tanya. Thanks, everyone, for joining us. Before we begin and I turn the call over to Selwyn Joffe, Chairman, President and Chief Executive Officer, and David Lee, the Company's Chief Financial Officer, I would like to 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 are subject to change based on various factors. The Company undertakes no obligation to publicly update or revise any forward-looking statements whether as a result of 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 Company's various filings with the Securities and Exchange Commission. We would now like to begin the call and I will turn it over to Selwyn Joffe.

Thank you, Gary. I appreciate everyone joining us today for our fiscal third quarter call. We are approaching the end of fiscal 2014 on a high note with rotating electrical products remaining strong and our wheel hub assembly sales continuing to ramp up nicely. We believe the macroeconomic conditions of our economy along with the aging of the car fleet provide strong demand for our products.

As I highlighted last quarter, the latest data from Polk shows the average age of vehicles has increased 11.4 years. In addition, as the number of cars in the 12-plus-year-old category continue to grow, the replacement rates for these vehicles go up significantly. In a presentation I referenced last quarter, Anthony Pratt, VP of forecasting for Polk, stated that on average, vehicles have an extended life of two additional years. In the future, consumers on average will buy four fewer vehicles over their lifetime. This means that the average age of life vehicles will continue to increase and this should be a long-term trend.

Our sector of the automotive industry benefits from an aging vehicle population and as such we believe the outlook is strong and stable. For those of you new to our story, let me just mention that the size of the aftermarket parts business is estimated to be more than $122 billion at the manufacturing price level, with the rotating electrical segment estimated at $1.7 million, and the wheel hub and bearing business estimated to be $1.2 billion.

Our market share in rotating electrical is approximately 25%, and we are well positioned to grow the share in both the do-it-yourself and the do-it-for-me markets by leveraging our available manufacturing capacity and distribution strengths, our reputation for top-notch products, and our award-winning customer service. We supply more than 20,000 stores and all of our customers are gaining share in the professional installer market for their brands, which bodes well for us.

We see pricing pressure in the marketplace, and as a result we intend to continue to adjust our operating model to compensate for this margin pressure. We believe that despite pricing pressures today, in the future some inflation in pricing is necessary to sustain supply and quality levels. In the meantime, we are making appropriate moves to keep updating our operating model to be able to maintain our operating margins and have a structure to continue enhancing market share.

With respect to wheel hubs, we just completed the second full quarter of our wheel hub and bearing product line, which we launched at the end of June 2013. As I just mentioned, this category represents a $1.2 billion market in North America. It is a fast growing and evolving category for a number of significant reasons. First, the wheel hub assembly contains the antilock braking mechanisms. This technology has become more mainstream on vehicles during the last decade, and these vehicles are reaching prime replacement stage.

Secondly, more recently, antilock braking technology is being applied to the rear wheels, which would further enhance the category growth rate. This category has similar failure rate characteristics as rotating electrical. As cars age, failure rates grow significantly. Industry research indicates that this category will grow at a 7% annual compound growth rate as the car population with antilock brakes grows and ages. We expect this proportionally better growth rates closer to the mid-teens as we see the [mono-e] brands like MPA's growing share significantly. We are encouraged by the strong interest in our growing wheel hub program.

Our product fill rates and our quality are excellent, and our unique capability to offer expedited turnaround on orders is an important competitive strength. As we announced this morning, sales for the quarter increased 29.4% to $65.6 million for the same period a year ago, and net sales for the nine-month period increased 17.3% to $182 million on a year-over-year basis. It is worth noting that despite a strong inventory build by one of our major customers in the prior nine-month period, sales growth continued to be strong in our rotating electrical product line in this nine-month period.

On an adjusted basis, net income for the three months is $5.9 million, or $0.39 per diluted share, and for the nine months was also up nicely, reaching $14.5 million, or $0.98 per diluted share. We anticipate the fourth quarter will continue to be strong. These numbers are even better when you take into account standard inventory re-valuation write-downs, which David will discuss in more detail. David will now discuss our financials and I will be back to answer questions.

Thank you, Selwyn. I am excited to review our record results for the quarter. Net sales for the third quarter were $65.6 million, a $14.9 million, or 29.4% increase, compared with the prior year third quarter, and adjusted EBITDA was approximately $14.1 million for the third quarter. The third quarter results benefited from continued contributions on the Company's new wheel hub product line started at the end of June 2013. Results were also impacted by various factors including the following three items -- $2.6 million noncash mark-to-market net loss related to warrant evaluation; $463,000 of expenses related to discontinued subsidiaries; and $2.8 million related to write-off of deferred loan fees for the prior loan charged to interest expense. We will now review the financial results for the third quarter.

Net sales increased by $14.9 million, or 29.4%, to $65.6 million for the fiscal third quarter, compared with net sales of $50.7 million for the prior period a year earlier. The increase in net sales was due to increase in net sales of the rotating electrical business by $6.1 million, or 12%, during the three months ended December 31, 2013, compared with the same period of the prior year, and sales of wheel hub assemblies and wheel hub bearings of $8.8 million for the third quarter.

The gross profit percentage increased to 33.4% from 33.2% during the three months ended December 31, 2013, primarily due to enhanced utilization of our facilities due in part to higher production and purchasing volumes resulting in lower per-unit costs.

General and administrative expenses increased $537,000 after adjusting for noncash mark-to-market net losses, expenses related to discontinued subsidiaries, and FAS 123R noncash stock compensation expense. The increase is due to additional general and administrative expenses related for the new wheel hub product line and additional professional fees.

Sales and marketing expenses decreased $78,000 compared with the prior year third quarter. Operating income for the fiscal 2014 third quarter was $13.4 million compared with $8.3 million a year ago, adjusted to exclude discontinued subsidiary expenses and other costs previously explained. EBITDA for the third quarter was $14.1 million, adjusted for various items as previously explained, and depreciation and amortization expense was $675,000 for the third quarter.

Interest expense was $3.7 million for the third quarter, excluding the $2.8 million write-off of deferred loan fees related to the prior loan, compared with $3.9 million for the prior year third quarter adjusted for $1.5 million [fixed] interest income.

I will discuss the November 6 new credit facility in more detail later on this call, but in summary, the interest rate on a new bank debt decreased approximately 4%, from 10.5% on the prior term loan to a new blended rate of approximately 6.4% at closing. Income tax expenses was approximately 67% for the three months ended December 31, 2013, primarily impacted by the nondeductible expenses in connection with the fair value adjustments on the warrants previously discussed.

Net income for the third quarter adjusted for the items explained above was $5.9 million, or $0.39 per diluted share, which also reflects increased number of shares outstanding, compared with $2.7 million, or $0.18 per diluted share for the comparable period a year earlier.

On December 31, 2013, we had a $95 million term loan, $10 million revolver, and approximately $33.3 million cash, resulting in net bank debt of approximately $72 million. There was availability of approximately $17.5 million on the $30 million revolver credit facility, reflecting approximately $2.5 million of outstanding letters of credit.

During the third quarter, on November 6, we entered into an amended and restated $125 million credit facility comprised of a $95 million term loan and a $30 million revolving credit facility. The amended and restated credit facility replaces a previous $125 million credit facility comprised of $105 million term loan, the $20 million revolver facility.

Based on the current LIBOR, interest rate for the new term loan is 6.75%, consisting of a LIBOR floor of 1.5% plus a margin of 5.25%, which is down from 10.5%. The revolving credit facility interest rate equals approximately 3% based on LIBOR plus a margin of 2.5%, which is down from 3.5%. As a result, the interest on our bank debt decreased approximately 4% from 10.5% on the prior term loan to a new blended rate of approximately 6.4%.

At December 31, 2013, MPA had approximately $297 million in total assets. Current assets were $103 million and current liabilities were $90 million. Cash flows provided by operations during the three months ended December 31, 2013 was approximately $12.2 million, which included $9.5 million in income tax refund, and also included working capital use of cash to build inventory levels in anticipation of future sales.

Additionally impacting cash flow for the third quarter includes $3.6 million in proceeds from stock option exercises, $4.6 million paid in loan fees in connection with the refinancing of the credit facility, and $2.2 million payment to purchase our lender's warrants during the third quarter. MPA expects to realize a total tax benefit of cash and credits of approximately $38 million as a result of the losses incurred for the investment in previous subsidiaries, which has already contributed to liquidity and should further enhance liquidity. Through December 31, 2013, approximately $30 million of the $38 million tax benefits have been realized and the remaining tax benefits will be recognized through a portion of the next fiscal year 2015.

I will now 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 third quarter ended December 31, 2013. If you can take a moment to turn to the income statement exhibits in the press release starting with Exhibit 1, we can begin.

So, when you eliminate the effect of all expenses related to the discontinued subsidiaries and other one-time expenses as reflected in the earnings press release, diluted earnings per share was $0.39 for the three months ended December 31, 2013. It is calculated by taking the recorded net income of $1,148,000 and adjusting for discontinued subsidiaries' legal, severance and other costs of $478,000, FAS 123R share-based compensation expense of $309,000, noncash mark-to-market losses of $2.6 million related to the change in the fair value of warrants and foreign currency exchange contracts, and write-off of deferred loan fees related to prior loans of $2.8 million. This write-off was charged to interest expense in connection with the November 6, 2013 refinancing of the credit facility.

All the adjustments were tax affected at a 39% tax rate. So, by adjusting the above-mentioned items from the reported net income of $1,148,000, adjusted net income was $5,912,000, or $0.39 per diluted share for the three months ended December 31, 2013.

Additionally, at the bottom of the exhibit there is a calculation for EBITDA for three months ended December 31, 2013. Starting with reported operating income of $9,989,000, and adjusting for the items previously explained, and depreciation and amortization expense of $675,000, adjusted EBITDA was $14,081,000. The adjusted EBITDA of $14,081,000 is also calculated by starting with adjusted net income of $5,912,000 and adding income tax expenses of $3,779,000, and interest expense of $3,715,000, and depreciation and amortization of $675,000.

Adjusted further was standard inventory revaluation write-downs due to lower costs in manufacturing of $952,000. Adjusted EBITDA was $15 million for the third quarter.

Exhibit 3 represents the adjusting calculations for the nine months ended December 31, 2013 showing adjusted earnings per share of $0.98, and adjusted EBITDA of $37.5 million. Adjusted further for standard inventory revaluation write-downs of $1.2 million, adjusted EBITDA was $38.7 million for the nine-month period. Exhibits 2 and 4 represent the adjusting calculations for the prior year three and nine months ended December 31, 2012. I will now turn the call back to Selwyn.

Thank you, David. Going forward, we will continue to focus on growing our business and working with our customers to grow their businesses through superior product quality and customer service. In addition to growing our existing business, we continue to look for new products that can complement the product needs of our customers and our operating model. We are optimistic about our existing business and excited about the new business opportunities for the new year.

In summary, there are more than 240 million vehicles on the road, and these vehicles are staying on the road longer. This translates into exciting opportunities for Motorcar Parts of America and the customers we serve. At this point in time we will open up the call for questions.

Thank you. (Operator Instructions) And our first question comes from Phil Shen. Phil, you may begin.

Hi. Thanks for taking my questions. I would like to confirm that wheel hub revenues were $8.8 million in the quarter; is that correct?

Correct.

Great. And what is your latest view on how wheel hub revenues will grow going forward? Do you have an update or a sense for when a new customer might be added or secured?

Okay. So, let me answer it first organically. The weather, this extreme weather conditions we are having is very positive for the wheel hub business. I think it negatively impacts on the short-term because customers are snowed in. But as soon as we see a thaw-out there, we expect the wheel hub business seasonality start kicking in. And so we are very optimistic about the base business in our wheel hubs and the growth rates in it. We have had success, yes, in picking up additional customers, so we are excited about that as well. And so we continue to optimistic and feel like we should experience double-digit growth in our wheel hub business.

Great. Now that wheel hubs -- you know, you have established a nice business of business there and you are getting some momentum, how are you guys thinking now about your next product line and what could it be and when could that come to fruition?

Again, we expect to announce a new product line in the next fiscal year and we are optimistic and comfortable that that will happen. As far as what it will be, we won't release that until we actually get into the business.

Okay, good. I know you guys don't provide official guidance, but, guys, when you think about the strength of your core business as well as the potential of wheel hubs, can you talk to us about what kind of revenue growth we could see in fiscal 2015?

David, do you want to address that? I mean, again, we have had a policy of not trying to guide that. I mean, we think that both our businesses that we are in today -- I mean, we are in the parts business -- is fundamentally strong and we expect to see nice growth rates out of our businesses. We offer a great product. There has been some pricing pressure in the marketplace. We believe at the end of the day that we will be winners from that. We are committed to rational pricing, but we have seen some moves of desperation. But operating model is very, very strong and getting more and more efficient, and so we are in a great position to absorb, to grow and to enhance.

Okay, that's helpful. As we -- oh, you guys had a nice quarter as well for margins. Should we expect these levels to sustain, especially as you ramp up wheel hub, or should we expect there to be some degree of erosion as a result of the lower wheel hub margins?

I don't think it relates to wheel hub margins. I think in general, again, we report consolidated margins. In general, we see margin pressure, but our cost-cutting and our efficiencies have been very effective. And by being more efficient and not compromising any quality or service levels, we think we are optimistic as we move forward.

Great. One last one and I will jump back in queue. Can you talk about your priorities for free cash flow, you know, thoughts on either buying back stock or reinvesting in the business, acquisitions, paying down debt? You know, given those options out there, what is your latest thinking on that score?

I think we are excited about the new business opportunities that we have, and so as we get a better handle on that, I mean, certainly we will be deploying working capital towards new business opportunities, and then we will evaluate. You know, there is the surplus from there. We expect to have very nice, positive cash flows, but we are committed to investing in working capital and continuing the growth rates in our businesses.

Great. Thank you, Selwyn and David, and congrats on a nice quarter.

And our next question comes from Steve Dyer. Please begin.

Several have been asked and answered. I think you had mentioned, Selwyn, a new wheel hub customer. Is that just one additional one or are there multiple? Any color you can give around there, maybe in size relative to the first customer, etc.?

Generally, we don't comment on customers, but I would give you -- you know, the flavor is very positive. I mean, we are not talking about one new wheel customer; we have many that are interested. We have multiples that we have signed up. So, we are optimistic about our wheel hub business. We should see revenues start to ramp in this current quarter that we are in as it reaches towards the end of the quarter, and for the next new year we expect to see some nice growth. I mean, we certainly hope that we will see some significant double-digit growth in our business.

And would you say the new ones combined will amount to something similar to the first one? I am just trying to gauge sort of the size.

It is hard to tell, because it depends how many we pick up. It is certainly -- we expect to more than double our business as time goes on. I can't give you a time frame on that, but certainly we expect to more than double the existing business that we have.

Sure, okay, makes sense. You had mentioned a new product line in the next fiscal year. I am assuming that would be on the peer distribution side as well?

At this point, Steve, we are not going to comment about that. It could be either.

Okay, gotcha. Jumping back to the core rotating electrical business. Historically, and certainly our checks would conclude that you guys have been taking share over the last couple quarters. Anything you have been able to say there in terms of whether it's a new customer or any customers that you re gaining a lot of share in particular?

I think we have a great customer base. I think the customers that we are servicing are doing a great job organically of growing their business, and so we are certainly experiencing the success of our customers. We feel like we are a major add to those customers and we certainly -- our motto is to make sure that our customers do better than our competitors' customers. So, as far as that is concerned, we are gaining share just because of that organically. We are well positioned in both the do-it-for-me and the do-it-yourself market. We have significant share in the DIY market, which is growing its share in the DIFM market. So, we are -- again, we continue to be optimistic about growth in our rotating electrical business as well. We have experienced some double-digit growth. It is certainly much more difficult. It's a very competitive environment, but we feel that we are a value-added supplier and we are committed to being a value-added supplier, and so we think we will continue to grow our business.

Perfect. I'll take another crack at margins. It would seem with the growth in wheel hub, which I think generally carries lower gross margins, although operating margin is very impressive there. Are we thinking about it in terms of this most recent quarter or lower 30s, high 20s? How do you think about that as wheel hub becomes a more prominent part of the business?

So, we have given guidance at the 27.5% to 30% range. We think we will beat it, but we are not going to sort of upgrade the guidance right now, but be conservative. I mean, we are very optimistic about our model and operating models, but we don't want to get ahead of ourselves. Our efficiencies and our quality systems and new testing systems that we have in place all leading to better efficiencies and better quality product as we continue down the road. So, we may see these levels, but I would like to really be conservative and stick to our existing guidance that is out there.

Understood. That's it for me. Thanks, guys.

And our next question comes from Jimmy Baker of B. Riley & Company. Your line is open.

Just had a couple of follow-ups. Most of mine have been addressed already. Just to follow-up on the wheel hub assembly side. It looks like sales were roughly flattish, quarter-over-quarter adjusted for the startup costs, but now you have talked about not only new customers but some organic growth there. So, the double-digit growth that you mentioned on wheel hub, should we take that to mean sequentially here into the March quarter, or once you start lapping the business in the September quarter, that is when you will see that growth on a year-over-year basis?

It's [essentially] we are in the business, so it's a little hard to predict. But the things that are happening, the dynamics -- and I think this is just in [car] parts in general, is because of the extreme weather, you have some acceleration of business that happens contemporaneously with the cold weather, and then you have some delays in business. And generally a wheel hub replacement could actually be delayed until the weather clears, so we think that the extreme weather is going to help enormously, but it will delay slightly the start of the season. But I think it is nominal timing. We think that the up is going to be stronger, so I think we are going to have very strong double-digit organic growth, and I think we are going to have very strong organic growth -- very strong incremental growth from new customers, and that should also be in double digits. So, I would, you know, conservatively I estimate 20% growth for the next year in the wheel hub business, and I think we could beat that significantly.

Okay, that's helpful. And in the prepared remarks you talked about posting growth on top of the inventory build at one of your major customers. It seems, at least from what we are hearing the retailers seem to be very focused on enhancing availability of product that will help them on the commercial distribution side while at the same time kind of pruning back some of the unproductive SKUs. Is it fair to say that you are not seeing many of your SKUs being pruned and on the other hand you are seeing sell-through improve as coverage and availability has improved in some of your lines?

Absolutely. I think you are right on the money. The product is moving off the shelf. I think that availability is becoming a bigger and bigger concern for our healthy customers, and we see a lot of vibrancy coming down the road, we really do. We have a lot of good orders in-house and things look optimistic.

It just seems like your customer base, particularly the DIY retailers, are continuing to consolidate this industry. Can you just talk about consolidation opportunities on the end of the supply base? It seems like we are seeing more suppliers kind of broadening their product categories, whether organically or inorganically, so how do you expect that trend to evolve and how do you see MPA participating?

Certainly, the customer consolidation is significant. I mean, the latest announcement from Advance Auto and their acquisition of Carquest, we see other customers acquiring strategic, you know, making strategic acquisitions. And we've got really just a handful or less than a handful of supply out there for those customers. So, it's very competitive. I would imagine at some point there will be a consolidation on the supply side as well, just because I think that makes sense. But I don't see anything imminent. I don't know of anything imminent going on, but I hope the market remains rational. I think that is an important part for the consumer, to continue receiving good quality product. I believe that the customer base is responsible and that they will make sure that supply is critical and that quality levels and fill rates will be sustained by their key suppliers. So, I think it's an interesting time in the marketplace. I think it's a vibrant time for the after-market, also an interesting time.

Thanks. And last one for me, just a housekeeping item. I believe you repurchased the balance of the outstanding warrants, so just wanted to understand what drove the sequential increase in the share count, and is 15.3 million the appropriate go-forward share count here?

Yes, I think we did buy back the lender warrants. We had a number of options, 10-year-old options expiring in the money, so you had a tremendous amount of the employee base exercising options because they were expiring. And so with the accretion in the share price and the number of options expiring, that is what drove it. I would tell you, we are very focused on watching the share count, so we have bought back some stock, including the warrants that we repurchased and some employee stock options. And certainly, depending on the amount of excess cash flow, that would be something we would look at very carefully.

Got it. Thanks very much for the time.

Your next question comes from Travis Hogan of Riva Ridge. Your line is open.

Yes, congratulations on a great quarter. My question has been answered, thank you.

Our next question comes from Jacob Muller of AYM Capital. Your line is open.

I wanted to just follow-up on a couple of the questions that have been asked. As far as the market share gains, in the past you pointed at potential gains in 2014 in certain suppliers and opportunities for the Company. Now that we are into the calendar year, how have those played out and what kind of impact should it have on rotating electrical?

I think overall rotating electrical, we have had some good gains. We have some gains that are pending, that we are waiting for confirmation. So, I think you will see some incremental revenue on new customer gains for this fiscal year. Of course, I must say that I have to knock on wood, which I don't have in front of me right here, but fake wood, and hopefully we are not jinxing ourselves. But the fundamentals look very strong on new business in all of our categories.

And as far as the seasonality and historically the fourth quarter has been much stronger seasonally than the third quarter, do you expect that to hold up this year as well or is there some kind of pull-forward here that is in play that is going to kind of make it look pretty similar?

No, I think the fourth quarter is going to be strong. It is seasonally strong, it is playing out like it will be strong. I think we will miss a few days from extreme weather, but I think that is very good news, because that will reverse itself out very quickly. But the fourth quarter looks very strong for now.

That's all I have. Thank you very much. Congratulations again.

(Operator Instructions) Our next question comes from Steve Dyer, Craig-Hallum. Your line is open.

Yes, just one follow-up, guys. There has been a lot of chatter about the maquiladoras, tax treatment of them, particularly ones operating in border towns or producing in border towns. Is that anything you anticipate any type of an impact from in the foreseeable future?

No. We think there will be a nominal impact on cash flow just because of some deposits of taxes that have to be paid early. We are exempt from most of it, and it's nominal. It is not something that we expect to even come up as a big issue.

All right, appreciate it. Thanks, guys.

And I am showing no further questions at this time.

All right. Thank you, everybody. We appreciate everyone's interest and we look forward to further updates as we go through the next year, and appreciate everybody's interest. Thank you for calling in.

Ladies and gentlemen, this concludes today's conference. Thank you for your participation and have a wonderful day.