Carparts.Com Inc (PRTS) 2009 Q3 法說會逐字稿

Welcome to the US Auto Parts Third Quarter 2009 Conference Call. On the call today from the Company are Shane Evangelist, Chief Executive Officer; and Ted Sanders, Chief Financial Officer. By now everyone should have access to the third quarter 2009 earnings release which when out today at approximately 4:00 PM Eastern Time. If you have not received a release it is available on the Investor Relations portion of the US Auto Parts website at USAutoParts.net by clicking on the US Auto Parts Investor Relations tab. This call is being webcast and a replay will be available at the Company's website through November 12.

Before we begin we would like to remind everyone that the prepared remarks contain certain forward-looking statement and management may make additional forward-looking statements in response to your question. These statements do not guarantee future performance and speak only as of the date hereof. We refer all of you to the risk factors contained in US Auto Parts annual report on Form 10K, and quarterly reports on the Form 10Q filed with the Securities and Exchange Commission for a more detailed discussion on the factors that can cause actual results to differ materially from those projected in these forward-looking statements. US Auto Parts assumes no obligation to revise any forward-looking projections that may be made in today's release or call.

Please note that on today's call in addition to discussing the GAAP financial results and the outlook for the Company the following non-GAAP financial measures will be discussed, EBITDA and adjusted EBITDA. An explanation of US Auto Parts' use of these non-GAAP financial measures in the call and the reconciliation between GAAP and non-GAAP measures required by SEC Regulation G is included in US Auto Parts press release today, which again can be found on the Investor Relations section of the Company's website.

The non-GAAP information is not a substitute for any performance measure derived in accordance with GAAP and the use of such non-GAAP measures have limitations which are detailed in the Company's press release.

And with that I would now like to turn the call over to Ted Sanders. Please, go ahead.

Thanks, [Chardonnay]. And good afternoon, everyone. On today's call I will provide a summary overview of the third quarter 2009 financial results and operating metrics. I will then turn the call over to Shane, who will provide his thoughts on the quarter and the progress we are making on positioning US Auto Parts for long-term growth. We will then open up the call to take your questions. Unless otherwise stated, this year refers to Q3 2009 and last year refers to Q3 2008. Comparisons our Q3 2009 compared with Q3 2008. Also, percentage and basis points discussed are calculated using total net sales with the exception of online advertising which is calculated using net online sales.

Adjusted EBITDA for this year was $3.6 million. This compares to adjusted EBITDA of $900,000 last year, a 280% increase. Adjusted EBITDA includes non-cash share based compensation expense of $900,000 this year and $800,000 last year. This year's net sales increased 29% from last year. Online sales increased 30% and offline sales increased 8%. This year's gross margin was 35.9%, a 290 basis point increase from last year. Freight savings from better negotiating contracts and our East Coast distribution center were responsible for most of the improvement.

This year's general and administrative expense decreased 50 basis points to 10.9% primarily from fixed cost leverage on higher sales partially offset by a $400,000 increase in depreciation associated with software investments and a $300,000 increase in personnel incentive costs related to improved Company performance along with $200,000 increase in legal costs to enforce our intellectual property rights.

This year's marketing expense, excluding advertising was 6.6%, a decline of 90 basis points from last year due to fixed cost leverage on higher sales. This year's online advertising was 7.5% of online sales, the same as last year. Fulfillment expense was 6.2% this year, a decrease of 20 basis points from last year, primarily due to fixed costs leveraged on higher sales. Technology expense was 2.3% this year, a decrease of 50 basis points from last year also due to fixed cost leverage on higher sales. Amortization of intangibles for this year was 12 basis points compared to 1% for last year reflecting the full amortization of certain intangible assets.

This year's monthly unique visitors increased by 17.3% from last year to 27.1 million which we attribute to great online market penetration. Our conversion rate this year was 1.43%, a 17% improvement over last year and a 6% or 8 basis point sequential increase over the second quarter of 2009. Orders placed through our e-commerce channel this year increased 33% and average order value declined by 1% from last year, both of which reflect consumer trends to in-source in tough economic times. This year's customer acquisition cost increased by $1.30 from last year as we reinvested margin expansion into growth.

Turning to the balance sheet, quarter end cash and securities were $42 million a sequential decline of $600,000 from the second quarter of 2009 but an increase of $3.1 million from Q4 2008. We generated $2.8 million of operating cash flow and invested $2.8 million in systems and equipment and an additional $700,000 in acquisitions. Our cash and securities remain primarily invested in CDs guaranteed by the federal government and federal T-bills.

Additionally, we have auction rate preferred securities of $4.3 million, down from $6.4 million at the end of 2008 due to $2.1 million in redemptions. Although we continue to classify these investments as long-term, they have a cash value. Our inventory this year was $15.4 million of which $2.2 million was on the water at the end of the quarter. Accounts payable and accrued expenses combined for $19 million.

With that, I would like to turn the call over to Shane.

Thank you, Ted. Thanks, everyone, for joining the call today. I'll start by thanking the team at US Auto Parts from the over 700 members we have in the Philippines and the 200 folks we have here in the States, and the exceptional job they've done this quarter. Our results this quarter are a direct reflection of their efforts. I want to thank all of you for those efforts.

On the second quarter call we highlighted a revenue trend we experienced during the second half of the quarter where we swung from negative year over year growth and stated that June 2009 sales increased 18% in July and show even more growth. That trend continued to accelerate in the third quarter producing a record $47 million in sales and a 29% year over year growth.

Probably more important than 29% year over year growth was the 7.3% quarter over quarter sequential growth. This quarter over quarter growth marks the first time in the Company's history that the third quarter which historically has been a weak quarter on a seasonal basis produced higher sales than the second quarter, traditionally our strongest quarter for sales.

In another first since I joined the Company two years ago, we experienced both year over year and quarter over quarter growth in all three of our product categories, led by the engine parts, followed by body parts, and even performance accessory parts improved which has been the hardest hit since the start of the recession.

The growth is coming from a number of initiatives we have in place as well as three main macro factors. The first macro trend is the shift to buying online. Our traffic year over year was up 17%. This is a combination of our team doing a better job driving traffic but also the market in general spending more time online within the automotive category. We see this across major automotive sites as well as we've learned through discussions and acquisitions with small players that they have also seen increases in unique visitor growth.

Second, the overall 250 million cars on the road today are simply getting older and requiring more repair and maintenance. Now, there were a lot of questions on our last call about Cash for Clunkers and the impact to our business and simply put it did not have an impact. The program generated a little over 660,000 transactions which in the grand scheme of things is nothing compared to the 250 million cars on the road.

The third macro trend is that people simply are doing more work. In a recent poll of our customers, 39% of the people said they were more likely to do the work themselves this year versus last year. Couple that with the results coming from offline retailers like AutoZone and the market is clearly demonstrating that people are looking for ways to save money and investing their own time in repair and maintenance.

Shifting from macro trends to our four internal growth initiatives, progress continues to be made and we are seeing incremental transactions as a result of that progress. Our first growth initiative, we're looking to produce a world-class customer experience. This initiative has had the most focus since I joined the Company. We continue and will always look to improve both the frontend customer experience as well as the backend delivery issues which have traditionally impacted both our conversion and repeat purchases. The good news is both measures are improving.

Conversion for the quarter was up 1.43%. This is up from 1.35% last quarter and 1.17% in the first quarter. These improvements are results of better product descriptions, images, and page layouts, along worldwide merchandising allowing customers to discover relevant products faster and with less frustration. Further, we've invested in the business to make sure that our catalogue is current and will continue to improve that over time. These investments have declined -- have seen the decline in our return rate by 15% year over year.

Our repeat customer is defined as customers who purchased with us in the quarter that have purchased with us since we began to measure repeat purchases in the first quarter of 2007 increased 23% from 22% last quarter and from 20% the previous quarter. We believe much of this can be attributed to the speed of product delivery which is measured from the time we receive an order to the time it's delivered to a customer, which includes weekends.

This has decreased from five days in the first quarter to four days in the second quarter to 3.4 days in our most recent quarter. This is a result of our East Coast distribution center which we made operational at the end of the first quarter. We are now shipping about 50% of our product out of that distribution center and that is up from 35% last quarter. In general, we're very pleased with the progress we're making on the customer service front.

Our second growth initiative is to lower prices. We continue to focus on lowering prices without impacting margins. We have focused extensively on price because there's a segment of customers who are currently shopping our sites but deciding to buy elsewhere based on price. Our primary tactic is to lower prices by introducing private label engine parts. We've extended our body part sourcing strategy to engine parts, meaning we import them directly from low cost sources over sees. We're making good progress here as we now have over 1,100 private label engine parts available on our site for sale. This is up from 400 last quarter. These SKUs are on average between 20% to 30% our normal sales prices.

Interestingly, we have seen limited cannibalization of our branded SKUs as customers buying these SKUs simply are a different customer segment and we believe we're reaching new customers who are looking for price, not brand. These transactions are clearly incremental and we're pleased with that incrementally. We have a 3,500 by order. This is up from 1,600 last quarter and we hope to end the year with over 2,000 private label engine parts in stock.

Our third growth initiative is to add selection to our product. We added over 60,000 SKUs during the quarter and we're very pleased with incremental transactions that these are generating. And finally, our fourth growth initiative is become a consumer advocate for vehicle repairs and maintenance by creating a better behind the counter experience online. Our strategy here is to help customers determine the best way to fix their vehicle, whether it be doing it themselves or taking it to a shop.

We're attempting to provide transparency to vehicle repair and maintenance, similar to what Edmunds.com and Kelly Blue Book did for new car sales. Customers no longer overpaid for new car sales in large part because they do research before they go to the dealer. We also believe customers should no longer be overpaying for repair and maintenance.

In order to achieve this goal we have recently launched our beta version of Auto MD. It can be test driven at beta.AutoMD.com. No www required, just beta.AutoMD.com. Customers on the site are able to put in their vehicle and the jobs required to repair their vehicle and they're able to look at detailed cost estimates broken down by labor hours, cost for the parts, tools required, and the respective cost for those tools and parts. Once this is completed, the customer can look up shops in their area that service their jobs as well as their vehicles.

Our team has spent the last nine months calling over 80,000 shops and confirming over 32,000 shops and captured what types of vehicles they work on, the jobs they perform, their hourly rate, what forms of payment they accept, if they provide rental services or shuttle services and a number of other data elements. There is also a feedback option for customers to rate shops and help others in the community. In addition, while you're on the site, you'll notice a section that also helps people repair the vehicle themselves through content for automotive repair jobs that provides the parts and tools required as well as step by step installation instruction. It also helps the person determine difficulty of the job and estimates how long it will take to get the job completed.

These vehicle specific repair guides have over 3,500 today and we believe over the coming months that will grow to over 20,000. While we're well aware these vehicle specific guides won't be perfect or complete, they're rather a start which we've also enabled Auto MD to be a place where community can go in and update those guides, which we believe a large network exists.

We believe over time, as these guides get updated, clearly it will help conversion for us as we push this content back into our e-commerce sites as a way to build people's confidence when they're actually shopping our sites and trying to determine whether they should do the work themselves. We simply are trying to create a better behind the counter experience online than you get in the store. We believe this content which will be seated by us but built by community over time will help drive conversion on our e-commerce sites. We are removing the site from beta and launching it fully be the end of the quarter or by the beginning of 2010.

In addition to our four growth initiatives just mentioned, we will also be looking at acquiring small players in the marketplace. I will reiterate -- small. We now feel comfortable that after two years of addressing business process and technology issues, we can acquire smaller players and roll them into our platform with a pickup in EBITDA flow through. We will do this by reducing a significant portion of our operating expenses by leveraging our proprietary e-commerce platform. We believe we are uniquely positioned to execute on this growth opportunity. We feel confident we can accomplish this because we just recently acquired a Company called Auto Parts Giant. This acquisition was identified, negotiated, and integrated into our platform within 90 days. It is currently on track to do around two times EBITDA to the acquisition costs and we hope to improve that over time.

Turning to profitability, this is the third consecutive quarter of adjusted EBITDA above $3 million and the first in seven quarters at $3.6 million. Included in the $3.6 million was what should be one time expenses associated with legal expenses to protect our intellectual property and incremental bonus expenses totaling around $500,000. Cash from operations came in at $2.8 million. CapEx increased to $3.5 million which included $700,000 of acquisition. We had higher than expected normal CapEx on Auto MD and our back office initiatives. We do expect normalized CapEx run rates to decline to historic levels of approximately less than $2 million per quarter.

We do anticipate some additional use of the cash over the next year in three areas. The first is to build inventory as we get more aggressive in bringing in private label engine parts and going direct to some of our branded manufacturers. Second, we'll be doing more acquisitions as we feel confident that we can use our size and e-commerce platform to gain operating leverage and increase EBITDA flow through. And finally, we will be consolidating our operations as well as our Philippines operations.

Now, while we believe there will be returns on all of this over time, there will be some short-term uses of cash and we will provide more detail of these uses of cash as we get more visibility into each. And while we won't be providing guidance, but in the spirit of transparency we will tell you that our year over year growth has continued on a similar path this quarter as it did last quarter. We anticipate gross margin percentage will remain around the same level, possibly slightly up or slightly down a few basis points depending on the growth of our private label business and mix shift during the quarter. We will see an increase in operating expenses during the quarter to support some legal expenses associated with intellectual property and this incrementally may equal around $300,000.

In closing, we're very pleased with the third quarter. We set a record quarterly revenue. We experienced 29% year over year growth and for the first time in Company history, we grew the third quarter over the second quarter. We produced adjusted EBITDA of $3.6 million and have now produced three consecutive quarters of adjusted EBITDA over $3 million. We made great progress towards improving our customer experience.

We continue to bring in private label engine parts sourced from the Pacific Rim to get us more competitively priced. We have over 60,000 SKUs and we launched our beta site for Auto MD to provide us a platform to become a consumer advocate for repair and maintenance. We realize we have a long way to go, but we're excited about the progress we've made in recent quarters and about the performance we believe the Company will do over the next five years.

With that, I will now open the call for questions.

(Operator Instructions) Our first question comes from the line of Stephen Ju with RBC Capital Markets. Please, go ahead.

Good afternoon, Shane and Ted. How are you? So, just a quick question on the inventory levels. Just noting increased inventory levels and number of inventory days. I guess that impacted free cash flow generation a little bit this quarter. How should we be thinking about that on a go forward basis? Is this kind of the continued level we should be thinking about? And also on the Auto MD, it seems like to me that over the longer-term this could be a mechanism for I guess mechanics to generate leads for basically people who want to repair their calls. Is there a mechanism for you guys to provide that lead for them since you're out there contacting all these mechanics in the first place?

Sure, Stephen. This is Shane. Inventory levels are up. About $2 million of that is currently on the water. So, we have not seen the benefit of that in margin yet. As I said earlier, we probably will continue to grow inventories as we see margin expansion from our private label business. We like the results of that business. We think we're reaching a new customer at a lower price point. A lot of that product is 20% to 30% below what we currently offer in the market. So, I suspect you'll see inventories grow. You'll also see inventories grow because we'll bring some of this branded product in stock but in many cases we have good terms on those. So, it doesn't have a direct impact on cash. So, expect them to be up.

And second, Auto MD, yes, the service shop finder, we've contacted and got full information on over 35,000 shops which includes their hourly rate, the types of payment they take, the hours they're open, if they have shuttle services, and, yes, the way we'll monetize that is through lead generation. We'll probably start with simply selling advertisement on the site and based on the minimum commitment of advertisement, we'll put them in position one, two, or three. Over time you'll see us model that into more of a lead generation click model. But just for clarification on Auto MD, we built this out so that we could capture information on how-to guides and push that back into our e-commerce platform to drive conversion. Sort of a byproduct of that is in fact the media property that's in place right now. So, you will see that monetized over time.

Thanks.

Thank you. Our next question comes from the line of Christian Buss with Thomas Weisel Partners Group. Please, go ahead.

Hi. Congratulations on a nice quarter, first off.

Thanks, Christian.

Can I ask if you could give a little more color on private label and the progress you've made there? Maybe what percentage of sales is private label product at this point?

So, we've now got -- we're selling close to 1,100 SKUs that are private label. We've got another 3,000 on order. We're in a good position to start to build that business. As it relates to revenue, it's probably flowing through close to 50%. So, sales flow through very well for us in that business right now. As a percent of sales it's low today. In the quarter it probably would've been close to $600,000 or $700,000.

Okay. Then can you talk a little bit about the seasonality of the business, what the expectations are for demand just from a demand side perspective by quarter?

Typically you're going to be -- the second quarter is going to be our largest quarter from historical seasonality which is why we're very pleased with the third quarter sequentially up over 7%. It's kind of the first time it's happened. And we're pleased with the growth we're seeing right now in the fourth quarter. As I indicated on the call, similar year over year growth to what we saw in the third quarter. So, I wish I could answer the question to you right now which is what do you think the seasonality is going to be. At this point, we're actually kind of growing through what we would typically see in seasonality.

Do you see potential for 4Q to be stronger than 3Q even?

Well, here's what I'll tell you. If you just take last year's 4Q numbers and apply this year's growth rate, it would indicate that it wouldn't be higher. Typically the fourth quarter is seasonally our worst quarter of the year. We would be very pleased with a fourth quarter over second quarter though. That would be the seasonally highest quarter of the year. When the second quarter is seasonally the lowest quarter in the year in the fourth quarter, I think we'd be very pleased with that.

That's very helpful. Thank you. Can I ask one last question? On SG&A, can you talk about some of the incremental expense you've got coming in the next couple of quarters?

Yes. You're going to see some litigation expense. That's probably the biggest number in there. In the fourth quarter or the first quarter. Also, the team did a great job this year and probably going to have a bonus accrual higher than what you would expect in a normal run rate. Those are the two big expenses that we're seeing higher in G&A along with some additional depreciation as we've launched a number of financial systems to help us make sure that we're financially sound going forward. Those are the big things that are driving G&A right now.

Could you quantify that by any chance, just to help us out there?

Quarter over quarter I suspect, Q3 to Q4, I suspect close to $300,000 in incremental litigation expense over what we've got in the third quarter. Bonuses are probably up $200,000 over what you would expect them to run on an annualized basis.

Okay. And that depreciation should be similar incremental to 3Q?

Do we have anything else being deployed?

No.

It should be similar.

Thank you very much.

Thank you. (Operator Instructions) Our next question comes from the line of Gary Prestopino with Barrington Research. Please, go ahead.

Good afternoon, guys.

Hi, Gary.

Auto MD, now with the 32,000 shops, I would assume that that is geared up to be a national program, Shane. You don't have any gaps in any metropolitan areas, do you, with that number of shops in there?

Gary, the way we approached this is we took population base by zip code and then jobs and cars on the road. So, what we've finished out is the highest cars, the most cars on the road in the highest populations with the most jobs being done. So, there may be some metropolitan areas that don't have some of it filled out. But typically we did it to make sure we built out the areas of the country that would be most looking for those shops.

We also do have 200,000 shops in the system. Some of them just haven't been contacted by us. So, it doesn't matter where you're at in the country. You're going to get some shops served. But some of them just aren't certified by us yet. We'll work down that list and certify those shops. Again, credit card information, hourly rate, what jobs they work on, what kind of cars they work on, what kind of jobs they do, whether they provide shuttle services. All that stuff comes over the next six to ten months.

Okay. And then did I hear you say that you were going to try getting private label body parts in the mix as well?

That's what we have. All of our body parts are private labeled. We're extending that --

It's the engine parts that --

Yes. That's right. We're extending that discipline to engine.

Thank you.

Thanks, Gary.

Thank you. Our next question comes from the line of Richard Fetyko with Merriman. Please, go ahead.

Hey, guys. With regard to your M&A strategy, the small acquisitions you're looking to do, could you characterize them as sources of traffic that you think you can monetize better than the sites on the standalone basis do today? Is that sort of the idea? Why? That would make sense I guess.

Richard, essentially these are sites that have done a very, very good job with organic traffic and they're generating decent revenue and they've done, over the last five to ten years they've built a very good base business for organic business. Those are sites we would go after. We certainly wouldn't approach anybody that drives their entire business through search engine marketing or paid search. These are businesses that are doing anywhere between $1 million to $4 million, $5 million worth of revenue that haven't got enough scale to truly overcome the operating expense of the business and hence we can get some decent leverage on the acquisitions.

But is it also a case where you think you can take that $2 million revenue hypothetically and increase it 50% because of the ways you can monetize it that you can't? Or is it - ?

We clearly, for instance with the Auto Parts Giant acquisition, we added performance parts, we added body parts. We have a pretty good presence in those categories already though, so typically a consumer was finding that product anyway if they were looking for it. But certainly there's product additions to that catalogue of Auto Parts Giant. Their SKU increased from about 100,000 to over a million SKUs. Clearly we added product. But we're not betting on that. There's no bet on the upside of revenue in these acquisitions models we do. In fact, it's really more about some times even a decrease in their revenues but an increase in the margins.

Okay. Thanks.

Thank you. We have a follow-up question from the line of Stephen Ju with RBC Capital Markets. Please, go ahead.

Hi, guys. Can you talk about the linearity of the quarter with the year over year growth rates for July better than June, August better than July, so on and so forth.

You're looking for the monthly numbers?

Yes. Just general directional linearity of the quarter, whether --

Yes. July was -- July and August -- July was up, August down a little bit, and then September was up. Essentially that was it, year over year perspective.

Okay.

They were all very strong.

What about as you headed into October?

Similar growth rates in the quarter we had.

Thanks.

Thank you. (Operator Instructions) At this time I am showing no further questions in my queue. Please continue.

If there are no more questions, I want to thank everyone for participating in the call. I look forward to reporting back to you guys next quarter and filling you in on our progress. With that, have a good Halloween.

Ladies and gentlemen, that does conclude our conference for today. If you would like to listen to a replay of today's conference, please dial 303-590-3030 or 1-800-406-7325 with the access code of 40177434#. We thank you for your participation. At this time, you may now disconnect.