Q4 2022 KAR Auction Services Inc Earnings Call

Good morning, and welcome to the car auction Services, Inc. 2022 year end earnings Conference call. All participants will be in listen only mode should you need assistance. Please signal a conference specialist by pressing the star key followed by zero.

After todays presentation, there will be an opportunity to ask questions.

Ask a question you May press Star then one on your Touchtone phone to withdraw from the question queue. Please press Star then two please note. This event is being recorded I would now like to turn the conference over to Mike.

Osten Treasurer, and Vice President Investor Relations. Please go ahead.

Thanks, Kate good morning, and thank you for joining us today for the car Global's fourth quarter 2020 earnings conference call today, we will discuss the financial performance of our global for the quarter ended December 31 2022.

After concluding our commentary we will take questions from participants before pure kicked off our assumption I would like to remind you that this conference call contains forward looking statements.

Within the meaning of the safe Harbor provision of the private Securities Litigation Reform Act of 1985 investors are cautioned that such forward looking statements involve risks and uncertainties that may affect our business prospects and results of operations and such risks are fully detailed in our SEC filings.

In providing forward looking statements the company expressly disclaims any obligation to update. These statements. Let me also mentioned that throughout this conference call, we will be referencing both GAAP and non-GAAP financial measures reconciliations of the non-GAAP financial measures to the applicable GAAP financial measure can be found.

In the press release that we issued yesterday, which is also available in the Investor Relations section of our website.

Now I would like to turn this call over to our global CEO , Peter Kelly Peter Thank.

Thank you, Mike and good morning, everybody I'm delighted to be here. This morning to provide you with an update on car globally.

During today's call I will provide additional information and detail in relation to the following items.

Our fourth quarter and full year 2022 performance.

Our view of the current market factors impacting our industry.

Our outlook for 2023 and beyond and.

And a summary of our capital allocation activities.

I'm going to speak about our business in two segments, our marketplace segments, which we formerly called the ADESA segment, and our finance segments, which we formerly called the AFC segments.

To begin in Q4 was our second full quarter as a more asset light digital marketplace company.

Against the backdrop of an unusual and still very volume constrained industry environment, We increased revenue with total gross profit on reducing our overall cost structure we.

We made significant progress to position our company for improved performance in 2023 by simplifying our business and consolidating a number of our platforms and operations.

And we've positioned our company for growth in 2023 and be ops.

So let me touch on some of the specific highlights of our fourth quarter and full year performance.

For the fourth quarter, we generated $373 million in revenue, 4% increase versus the same quarter of prior year.

Purchased vehicle revenue represented 12% of total revenue in the quarter.

We generated total gross profit of $171 million, an increase of 4% from Q4 of the prior year.

Gross profit represented 52, 1% of revenue excluding purchased vehicles.

This was all resulted in adjusted EBITDA of $56 $5 million in Q4.

Okay.

For the full year 2022 car generated over $1 5 billion in revenue that was a 5% increase compared to 2021.

Vehicle revenue represented approximately 12% of total revenue for the year.

The company generated a total gross profit of $685 million.

An increase of 4% over the prior year.

This profit represented 51, 3% of revenue excluding purchased vehicles.

And that resulted in 2022, adjusted EBITDA of $231 million, which was below the lower end of our guidance range of $2 45.

Specific to our marketplace segment, we sold approximately 289000 vehicles in the quarter and $1 3 million for the full year.

We again saw solid marketplace participation from both buyers and sellers.

Used vehicle values declined throughout the quarter and conversion rates remained lower than the prior year.

As a result revenue in the marketplace segment decreased 2% compared to Q4 of 2021 and also 2% compared to the full year of 2021.

And our finance segment, we experienced another strong quarter performance as AFC closed out a successful 2022.

Q4 revenue in the finance segment was $101 million that was an increase of 27% over Q4 of the prior year driven by a 15% growth in transactions and an 11% increase in revenue per transaction.

For the full year 2022 <unk>.

<unk> segment generated $376 million in revenue that was a 30% increase versus 2021 and that was driven by a 10% growth in transactions and an 18% increase in revenue per transaction to $241.

I'd now like to highlight a number of areas, where we made important progress in the quarter progress that I believe will benefit our performance in 2023 and beyond.

The first of these is platform consolidation.

As I mentioned on prior calls one of our primary objectives tiered cars to simplify our business and the customer experience.

We have now completed the integration of backlog cars, a car way and have retired the car with platform and branch.

The new auction format within backlog cars has been successfully rolled out our core markets and we're now focused on the national rollout of this auction formats across the United States over the course of 2023.

In Canada, we also continue to make progress consolidating the trade revenue duster marketplaces.

Using feedback and input from our pilot customers were finalizing the development work to connect all of our Canadian sellers buyers and vehicles into a single digital marketplace.

By mid 2023 we expect to have one Canadian platform on one simplified customer experience.

To support this change we've also consolidated the leadership of our Canadian operations to better align our growth strategy product roadmap as well as our sales marketing and customer support functions.

And in our European business, we've successfully migrated the Standalone ADESA U K technology, and our dealer to dealer platform in Germany onto our ADESA Europe platform.

This consolidates, our technology processes and customers onto a single platform in that market and the early feedback has been very positive there also.

Now, we anticipate making additional progress on these consolidation and simplification efforts in 2023.

We will also be extending this work across our other brands products and services to better align them with our marketplace strategy.

Ultimately, we believe that simplification will improve the customer experience and generate higher levels of customer engagements internally would also help reduce our IC mentioned those costs better focus our sales and marketing efforts and accelerate new product feature development.

This brings me to our secondary of strategic focus that I'd like to cover and that is cost management.

Last year, we committed to reducing our cost by $30 million by the end of 2022.

I am pleased that we achieved that goal, but our work in this area is not complete.

Cost management remains a key part of our agenda and cost consciousness will be a key part of our culture here at car.

The savings that we achieved in 2022 are part of an ongoing initiative that will continue through all of this year.

We have a detailed roadmap in place that we will believe that we believe will deliver impact of a similar scale, what we achieved in 2022.

One of the primary levers that will help us achieve these additional savings that the expansion of our global shared services model and leveraging it to improve the efficiency consistency and cost structure, and our technology and business operations.

This initiative is already well underway with partners and location selected in India, and the Philippines, and we will continue building this out through the remainder of 2023 and into 2024.

The nature of this work involves ramping up resources in one area of all of the resources are still in place. So while we do expect to see some in your benefits. During 2023, we will also see some overlapping costs and the full impact may not be apparent until next year.

What excites me more than our cost management activities whoever are the many opportunities the car has for growth.

First I believe that there is a secular shift towards digital underway in our industry affecting both the commercial and dealer owned inventory.

Digital channels have gained share in the past number of years, we are positioned on the right side of that shift and we will continue to benefit from that.

We are also highly focused on growing our market share within our current offerings. We have a strong differentiation as a digital leader with uniquely strong position with both commercial sellers and dealers also with the scale profitability and strong cash flows to support our investments.

We have mapped out several priority areas for innovation that will deepen our product portfolio expand our customer relationships and unlock new revenue streams for our company.

To give you a few examples of these.

First we plan to rollout the auction format on backlog cars to all U S markets within the current year.

We see this as a lever to drive further customer adoption and additional volume in that channel.

Second we plan to integrate our commercial vehicles.

The off lease vehicles and rental vehicles with our dealer owned vehicles into one digital marketplace venue before the end of this year.

This will increase the scale and breadth of our offering it will increase the selection for buyers and also improve network effects.

One marketplace for all of our open sale vehicles and for all of our sellers and buyers would be very powerful indeed.

Third AFC has gained share over the past number of years and we see further opportunity for AFC to grow its customer base and its portfolio, particularly as dealers have more inventory on their lots and more inventory finance.

And finally also in relation to AFC, we plan to increase the attach rate of AFC financings in our marketplaces through a combination of cross channel sales and marketing efforts and also a simplified customer experience at checkout.

Yeah.

We have teams working on all of these initiatives and on many others and I look forward to updating you on our progress on future calls.

I'd now like to look towards the future and provide some details around the industry outlook and macro environment.

From a macro environment perspective, we are beginning to see some positive signals of improvement.

First many of our commercial customers have indicated an expectation of increased new vehicle production in 2023.

Also we are now seeing new vehicle inventory on dealer lots is starting to increase with increased days supply.

These two factors are the necessary ingredients to balancing supply and demand and used vehicle market.

Shifting to used vehicle values, we expect the significant price declines that we witnessed in the second half of 2022 to abate in the spring market conditions that typically prevail from January through May.

However, we expect some downward pressure on used vehicle values will become evident again in the second half of this year. This.

This may cause short term pressure on conversion rates, but I believe that in the long run it will ultimately lead to greater transaction volume in the wholesale marketplace.

Yes.

And while volumes were also down in our digital channels I was encouraged that we continue to grow new dealer registrations and increase our buyer and seller participation.

It is also worth commenting that our car with migration likely cost us some volume in Q4, and some dealers have to learn a new platform, but we believe these effects were limited to Q4.

Currently adoption continues to improve and dealers have been positive about the increased choice and flexibility that our platform now provides them.

I'm excited about the opportunities ahead as we introduce this format to more dealers in new markets.

In terms of the off lease segments and recent discussions with commercial customers a number of them have signals that we should expect a meaningful increase in off lease volumes later in 2023.

Well that would undoubtedly be a positive for our business, we're being conservative for now and not modeling in any significant increase since we've had signals before the proved incorrect.

The key question will be how many of the off lease vehicles that are scheduled to mature later this year, we'll enter the remarketing channel and those leases amps.

According to our data the average amount of equity value that is the difference between the market value of maturing lease and the residual value of the lease contract has declined by approximately 50% since it peaked in April of last year.

This decline should help increase the volume of vehicles going into the wholesale market place over time.

I would point out that we are now in these first weeks of this year starting to see the first evidence of this happening in some but not in all of our customers portfolios.

And then finally door footprint is smaller than the rental and repossession categories. We're also starting to see some positive signs and this I believe is a positive signal for our business also.

Rental customers are beginning to take delivery of more new vehicles and this should generate increased sales of older vehicles in their fleets.

Repossession activity is increasing nationally, which many of you as a leading indicator for the return of a more normalized industry environment.

Looking at our finance segments, we see an opportunity to continue to expand our customer base and our book of business.

AFC has gained share over the past number of years, but has done so in a disciplined way, enabling E. F C to manage risks and limit losses, we plan to continue on the same.

We anticipate an increased risk environments in 2023 due to the combination of used vehicle price declines and also a higher interest rate environment.

AFC actively monitors that Ms through a combination of technology data and feet on the street and works directly with dealers to mitigate the impact of these business pressures.

The bottom line here is that we believe AFC will continue to make a meaningful and positive contribution to cars overall performance.

So I'd like to provide some insight on my expectations for 2020 three.

First as we enter 2023 I believe the cars positioned very differently than we were at the beginning of last year.

We have a clear digital focus.

We have paid down the majority of our debt.

We have meaningfully reduced our cost structure.

We are consolidating our platforms and simplifying our business.

We're beginning to see the first signs of a commercial volume recovery.

We have a broad pipeline of innovation and growth initiatives.

And we're able to support these investments to the cash flows and profits that this business generates.

While these are all positives at the same time some of the market challenges that existed in 2022 are still present today to varying degrees.

New vehicle production remains below normal with modest increases expected this year.

Volumes in the wholesale marketplace are expected to remain below normal in 2023.

And while we believe that lower used vehicle values will help drive more volume and will be a long term positive for us in environment, where used vehicle values are declining may put short term pressure on conversion rates before those longer term benefits are realized.

And lastly, those price declines coupled with the high interest rate may create high risk environment, and our finance business as I've already mentioned.

Based on all of these factors on our internal analysis, we believe that for the full year 2023 car can deliver adjusted EBITDA in the range of $250 million to $270 million.

The management team and I are committed to delivering this result.

This level of performance will also enable us to invest in the people platforms and technology necessary to support our customers and our strategy for growth.

Our guidance is based on similar marketplace volumes last year upside scenario to a range within two to faster than expected commercial volume recovery and an acceleration in dealer to dealer volumes.

Downside scenarios include a further contraction in wholesale supply below last year's levels.

And or an increased risk beyond our expectations at AFC.

As we look beyond 2023, we recognize that the commercial volume recovery has been more delayed than we anticipated.

For example, lower lease originations during 2022, we will present, a headwind to off lease volumes in 2025.

This leads me to conclude that our previous estimate of $500 million and adjusted EBITDA in 2025 is likely on cheaper.

However, I do believe that we can grow our consolidated adjusted EBITDA by a compound annual growth rate of between 15% to 20% over the next several years.

I believe that we can achieve this through a combination of organic growth in our volume and share continued cost management and the strategic expansion of our product and services offerings.

As I stated earlier, there are a lot of new opportunities available to car and I believe that our strategy and capabilities position us well to capture those.

I'd now like to bribe provide a brief recap on our capital allocation activities.

During 2022 we made no material acquisitions and our primary focus was on integrating the platforms teams and technologies acquired in prior years.

Also in 2022, we completed a major divestiture that greatly simplified our business. This allowed us to reduce our cost structure, while utilizing the proceeds to pay off debt invest in the business and repurchase part repurchase car shares an attractive price.

Scott will provide more specifics around these activities in the <unk> portion of this call.

Looking to 2023, we expect our business will continue to deliver strong positive cash flows.

And at the guidance range that I've stated, we expect that the cash generated by our business after allowances for Capex interest payments taxes and preferred dividends could reduce our company's net debt by another approximately $80 million to $85 million over the course of this year Scott will provide more details.

Any excess cash flow would follow our stated capital allocation priorities, which include paying off debt repurchasing powershares and exploring strategic acquisitions should they arise.

So to summarize my key messages for today.

In Q4, we performed well against the backdrop of a still challenging economic and industry environment, and we experienced another solid quarter performance of our finance business.

We are consolidating our platforms and executing on our multiyear plan to simplify our business.

We achieved our 2022 cost savings targets and we have a clear road map to realize significant additional savings in 2023 and beyond.

We're highly focused on long term growth, we have a differentiated offering and diverse and expanding customer base that includes commercial and dealer with strengthened scale and bolt.

We have a large addressable market of which to innovate and invest.

And we have several exciting initiatives on our growth agenda for 2023, and I will update you on our progress in future calls.

So overall I'm energized by the progress we made in 2022 to transform our company into position car for future success.

I believe that this will translate into improved performance in 2023 and for many years to come.

So that concludes my prepared remarks as I mentioned on our last call. We are currently conducting a national search for a new Chief Financial Officer.

Joining me today is our interim Chief Financial Officer, Scott Anderson, Scott will provide further detail on our financial results Scott.

Thank you Peter.

As Peter has already commented on many of our financial metrics and we have a couple of additional areas to review.

You made one disclosure change.

We will no longer be providing on premise and off premise vehicles sold amounts for our marketplace segment.

Because we have moved to a digital business model. We believe the breakdown is no longer needed to measure the success of our business.

Looking at the fourth quarter consolidated revenues, excluding purchased vehicle sales increased 7% in the quarter to.

Two $327 $8 million.

Marketplace segment revenues, excluding purchased vehicle sales were flat with the prior year at $227.1 million and generated approximately 69% of the consolidated amount.

Marketplaces vehicles sold declined 15% to 289000 units due to the market conditions Peter highlighted.

Auction fees per unit declined approximately 5% to $280 as a result of lower vehicle values.

Service revenues increased 16% due to increases in repossession transportation and technology services provider.

Not only did attachment of these marketplace services increase but it is important to note that not all services are attached to our marketplace transactions. For example, repossession services provided through our Ardian and par platforms grew and generally do not attached to them.

Place transaction.

Increased service revenues generated in a challenging industry environment highlights our diversified revenue streams that can be generated in varied market conditions.

Service revenues generally are lower margin compared to auction fees and therefore, our consolidated gross margins excluding purchased vehicle sales declined to 52% from 54% in the fourth quarter of 2021.

Largely due to increases in the lower margin services provider.

In addition, finance segment revenues accounted for $100.7 million or 31% of consolidated revenues excluding purchased vehicles sales.

Finance segments.

Segment revenues increased 27% in the quarter due to strong volume fee and interest income growth.

AFC provision for credit losses increased to 1.1% of the average managed receivables for the quarter.

Long term the provision for credit losses is expected to be under 2% annually.

However, the actual losses in any particular quarter could deviate from this range.

Although we anticipate increased credit losses from the historical low amounts due to an economic slowdown and declining wholesale used car prices. We believe the floorplan business has room for additional volume and fee growth as industry supply returns.

Next let me provide some additional color on SG&A.

Fourth quarter SG&A was $93 million.

Which was $16 million lower than the third quarter due to execution of.

Of our cost saving initiatives.

And an approximate $9 million reduction in noncash compensation amounts compared to Q3.

Noncash compensation decreased as a portion of the performance awards are no longer expected to best.

As Peter mentioned, we have initiatives to continue to reduce long term SG&A spend who will provide updates as we progress.

One item that did affect fourth quarter performance was the sale of excess land in Montreal, which resulted in a pretax gain of approximately $34 million.

The game disaggregated on a separate line item in the income statement and this gain is excluded from adjusted EBITDA.

On the other hand, the gain is included in our net income from continuing operations per share and operating adjusted earnings per share amounts.

In addition, when comparing 2022 results with 2021.

Prior year adjusted EBITDA included $5 million quarter to date, and 32 million year to date, our realized gains on the sale of strategic investments.

As a reminder.

We occasionally invest in certain early stage auto related enterprises in 2021, some of those companies went public and we monetized a portion of our investment.

Going forward.

We continue to hold a small amount of these investments, but do not anticipate monetizing any amounts in the near term.

Next I will highlight our strong capital structure.

We ended the year with $180 million in available cash and $161 million of available revolving line of credit.

Which provides ample liquidity to execute our strategy.

In terms of capital allocation activities, let me summarize the significant items for the full year 2022.

Our capital expenditures aggregated to $61 million.

In 2022, we also repurchased 12 6 million shares of car stock, which accounted for approximately 10% of our common stock outstanding for $182 million.

Most importantly.

The company generated $2 $2 billion of gross proceeds from the sale of the U S physical auction business.

Under terms of our credit agreement net cash provided.

Net cash proceeds from the transaction were used to repay $926 million of our term loan b six.

The terms of the senior note indenture specify that excess proceeds must be reinvested or used to pay down debt within one year of the transaction.

Therefore, we repurchased $600 million of the senior notes in August 2022, and a tender offer.

And approximately $140 million of the remaining senior notes are classified as current debt at December 31 2022.

Because we have lowered our outstanding obligations, we expect our net leverage target to be approximately one to two times adjusted EBITDA going forward, which is more appropriate for an asset light business.

Within that framework, we will be looking for windows of opportunity in the debt markets to extend our revolver maturity date and put in place a more permanent debt structure.

Let me close with some comments on guidance.

As Peter mentioned, we expect 2023, adjusted EBITDA to be between 250 and $270 million.

We will also continue to invest in our digital strategy and as a result, we expect capital expenditures were approximately $65 million in 2023.

In addition, with leverage of one to two times net debt to adjusted EBITDA, We expect cash interest on corporate debt of approximately $35 million to $45 million.

We also expect cash taxes of approximately $25 million to $30 million.

Cash dividends on preferred stock are expected to be $11 million per quarter or $44 million for the year.

This could result in a REIT duction of net debt by approximately $80 million to $85 million, assuming no other capital allocation activity and working capital changes.

We believe these assumptions will generate operating adjusted earnings per diluted share of 37 to.

247 cents.

The midpoint of this range is similar to 43 cents earned in Q2 2022.

However, 2022 included a 16 cent per share nonrecurring benefit from the Montreal real estate gain.

No such recurring items are included in our 2023 guidance.

I have one housekeeping item, we will be filing our 10-K within the next week.

That concludes my remarks, and I'll turn it over to Kate to begin Q&A.

We will now begin the question and answer session to ask a question you May Press Star then one on your Touchtone phone. If you are using a speakerphone. Please pick up your handset before pressing the keys to withdraw from the question queue. Please press Star then two.

My first question is from Rajat Gupta J P. Morgan. Please go ahead.

Oh, great. Thanks for take the question. This is Roger on Brian .

Maybe first question you know in the fourth quarter.

The gross profit per unit took a step down sequentially more than you know more revenue per unit declined.

Would you be able to elaborate on the drivers of that.

How should we think about that trajectory into 'twenty, drawing tree and I have a follow up thanks.

Yeah, Roger I think gross profit you know I mentioned it was a declining used vehicle value environment.

So in that environment as vehicle prices came down there there was some negative on by fee revenue, so that probably flowed through into gross profit per unit. So.

So I think that was a factor I'll get also some other more technical accounting items that impacted gross profit in the fourth quarter, but I don't think will recur.

But but I think I'd say vehicle values that would be the principal one and then when you have lower conversion rate. This is another factor it puts pressure on on.

On gross profit because you know if you think about your inspecting.

You know a greater number of vehicles per every vehicles sold for example, right when it comes to nor conversion rates. So that we generally find up and conversion rates are lower.

Which they were.

Gross profit gross profit per unit to be a little bit under pressure you know the other metric I look out on gross profit, though is the greater than 50% of consolidated net revenues as a.

If anything maybe a more important metric that we use internally to manage the health of the business and I was pleased that we.

You know delivered gross profit above the 50% target for the quarter.

Got it got it great thanks for that color.

You mentioned, 15% to 20% EBITDA CAGR.

You know going forward.

Can you help us with.

The competence of that now or should we think about you've got a volume recovery and youre expecting that flow through that.

And also how that volume recoveries going to gross profit and the SG&A leverage on that.

And maybe just on SG&A, you know based on the cost savings actions and just the overall cost actions you've taken.

How much of that should now be treated as fixed horses are variable in nature.

Okay.

We're not good a lot a lot packed into that question. There. So first if I look at the sort of go forward growth.

Yes, I believe of 15% to 20% of consolidated.

Adjusted growth and adjusted EBITDA over multiple consecutive years as well we believe this business can deliver and we're focused on delivering that organically I think the company has opportunities for growth cross across the entire business.

If I look at our commercial volumes and we've got a strong presence with commercial as you know and those volumes have been under pressure we see.

<unk> see volume growth in that category, but also I think strong conversion.

Rates in that category over the long term as well.

So opportunities there I think in digital dealer to dealer.

My fundamental belief is that there is a secular shift underway from physical towards digital offsite off premise channels were strong in that category are we intend to grow in that category and frankly intend to great gain share in that category. So I think we're going to grow in that segment I think our services businesses inspections logistics.

Et cetera have been under a lot of pressure the last couple of years some of them, losing money because of very low volumes. We have been addressing that I think there's a chance for those businesses to get back.

Towards and frankly, ultimately above historical levels of profitability as well over time.

And even AFC, which has been a strong performer as you know for the last number of years.

I think there are opportunities for growth there I think it's going to be more modest growth in that in that part of the business AFC will be a smaller percentage of our total.

Earnings over time, because the marketplace business, we expect to grow much faster, but we think AFC will also grow modestly and will continue to be a strong performer. So all of those things give me confidence in the growth opportunity for this company.

Switching to the SG&A question.

So I guess you know I am pleased with the progress we made.

The progress we made in 2020 through 22 was part of a much larger program that we've been executing across the business since the divestiture.

That is roadmap to continue into the early part of next year. So we have numerous initiatives in the works this year to continue on that vein.

I expect to make more progress.

As I mentioned some of the some of the benefits won't be fully apparent until next year, because we have an overlapping costs and stuff in the context of 2023 are worked through that.

And I think ultimately SG&A as a percentage of our total revenue or potential for net revenue, we view that declining over time.

In terms of what percentage of SG&A is fixed versus variable I think one of my <unk>.

What are the one of the characteristics of a more digital business and my view is that.

They do tend to operate more of the fixed costs kind of business. There is less variable tied to each incremental transactions. So.

That's why the scale so well that's why when you add in more volume on top you get sort of outsized performance you know further down the P&L. So.

I guess, that's a fair assessment that over time, our SG&A structure will start to look a little bit more fixed in nature I would less variable cost.

But I also know that in the long run all costs are variable right. So.

That's also true and we will create the right cost structure of the business that we have.

But.

Yes.

Thanks Richard.

Thanks for all that color.

The next question is from John Murphy of Bank of America. Please go ahead.

Good morning, guys.

Peter.

And thinking about this.

You know what I mean, I think they're there.

There's a lot.

Going on in the industry and and the the pooled vehicles is hotly debated and what may happen with the.

The recovery.

I mean folks are looking for 'twenty, three 'twenty four to be sort of flattish years and remarketing.

It might be better than that but as you think about this transformation.

What are the kpis that.

You look at sort of gauge that.

Progress because I think a lot of investors may be frustrated because they you know the volumes might not recover any debatable debatable point and progress made in property in that kind of environment is it simply the EBITDA CAGR of 15% to 20% that people can be looking at or are there. Other kpis that you think youre going to be able to come to show up over the next year or two.

What might be a tough industry backdrop could cause for people can really understand the progress that you're making.

Yes, Thank you John .

Yeah, a couple of things I would say.

All of our modeling is based on the industry volumes remaining below normal for.

The next number of years the growth I'm talking about is is in the context of an industry that remain below normal.

I would say wholesale industry volumes adopt still down 30, plus percent, maybe as much as 40% from pre pandemic levels and our assumptions on volume inherent in our guidance are essentially flat volumes.

Relative to last year, I think if we see faster recovery or an acceleration of our digital dealer to dealer that would represent upside versus our guidance as I said, so I think we're being conservative in our modeling.

Our realistic or however, you want to call. It you know.

My personal belief is we're at the bottom.

In terms of industry volumes, and we're going to see a gradual but sustained recovery over time over multiple years.

But that'll be a positive for us.

In terms of Kpis.

You know in the marketplace business.

You know our results correlate.

More than most.

Most of you know the volumes sold per quarter is a key driver. So volume sold obviously the critical Kpis our business volume sold at <unk>.

Offered times conversion rate right.

Right.

So we obviously look at both of those metrics and then you know volume offered as a function of participation participating sellers and conversion rate participating buyers. So we look at you know a seller and buyer participation in our digital marketplaces.

And we also then look at you know what sort of results our customers achieving beyond conversion rates of price.

Price attained in our marketplaces indexed against some benchmark. So we look at all of these.

Metric and many others as functions of the health of our business.

You know I mentioned sort of simplification earlier and trying to have a simpler business.

Let me go into sort of one of the.

Toss behind that I think one of the challenges. This company has had is that our market places have been fragmented right. We have volumes you know last total volumes last year to $1 3 million, but fragmented across multiple different digital venues and I think that creates two challenges to the business. One is a cost challenge supporting multiple platforms are the.

There is maybe even more.

More impactful, it's a network effect challenge, where youre fragmenting your demand and your scale across multiple marketplaces. So a real driver of simplification is to consolidate that consolidate our volumes all of our participating sellers all of our participating buyers into one marketplace and that creates benefits for our marketplace participants right. If you can put your.

Car into a location for all the buyers are likely to get a better outcome. So that's really behind a lot of our simplification work.

You know I mentioned the car we have backlog migration that we completed last quarter. It was a challenging migration in the moment, but now that it's done I can see the benefits and the benefit of having those vehicles in a in a.

Bigger marketplace with considerably more buyers in that marketplace.

So listen these are the types of things, we're looking at bringing our commercial vehicles and our dealer owned vehicles into one marketplace will improve the health the performance and the outcomes that we deliver for customers and that will help us to scale and grow our business increase.

Increased customer adoption et cetera. So this company has a tremendous amount of opportunity I think we're very focused on executing that and.

Yeah, I believe that the opportunity for growth that I talked about is very is very attainable.

Okay, and just two quick housekeeping or can you just remind us what the services agreement and the expectation from what you're offering or what youre getting to Carvana are on the tech side, and what kind of feeds you're getting here in sort of your guidance for 2023, and then also you mentioned AFC losses.

We'll stay under 2%, but 2% it sounds like it's a reasonable normal level.

When do you think we re creep up there and should you be taking more risk and AFC.

If those losses stay lower it took to grow the business significantly more than greater than where it is right now.

Thanks, John Yeah, I don't want to comment too much on the Carvana arrangement, but its the same arrangement as we had last year.

We provide some services there are some fees attached it's it's a small percentage of our total revenues.

But obviously.

Obviously, we're very focused as well on the separation activities that continue and thats generally going going well.

On AFC.

The 2% would be above our historical.

I mean.

I mean or median for for that for that losses number. So 2% is is is higher than historical.

Our budget it doesn't reflect 2% this year, but I think Scott said in any given you know we may have in a quarter seen a 2% but for the year, we expect it to be less.

Thank you.

When it comes to our a F. When AFC business, we've always been cautious and conservative in our approach to growth and that's that's where I'd like to continue.

Simply put I just you know we we just want to be cautious in terms of yeah, there's that theres, a bigger opportunity to grow but we like to run this business conservatively.

Keeping the losses below that level I think is important for us in terms of our structure for the business.

Great. Thank you very much.

The next question is from Gary Pressor P&L Barrington Research. Please go ahead.

Good morning, Peter.

Just a couple of questions here could you maybe comment on.

The.

Year over year change in conversion ratios I mean, how much were they down versus last year at this time and if they had stayed at the level where they were.

May you have hit the low end of your guidance I'm, just trying to get an idea of what the impact on conversion ratios are having on your volume.

Yeah, Gary. Thank you you know the conversion rates. They are very important I would say you could argue.

Argue that in a digital business, they're more important even than in our physical because.

If you think of the way that physical auction works oftentimes when a car goes in the gate is ultimately doesn't come out the gate until its sold the conversion rate may be low one week, but the seller is going to run the car next week a run a formal weeks ultimately sell it in a digital marketplace.

If you don't sell the car then maybe it's going to move on to the physical channels. So we're kind of taking a slice of chunk of the cars out before they move through that process.

Conversion rates were down across.

Across the entire industry in fact, I was looking at convert I think conversion rates at physical auctions in Q4 work.

The lowest the worst since Q2 of 'twenty 'twenty. So the depths of the pandemic. So it was a it was a very weak quarter from current version rates in our industry.

And I'd say generally conversion rates were down.

Five to 10 points across our markets I'm being a bit of a wide range Gary I don't have the specific numbers in front of me here, but five to 10 points.

From say, a 55 ish level too.

On some of the market places I'm thinking about and you can you can do the math yourself on that impact on sales if you've got a market converting it at <unk>.

50% and that drops to 40% that's that's effectively an 80, 20% drop in sales right.

So conversion rates were weak.

Think of conversion rates had been the same as the prior year, Yeah, we would probably would have hit the lower end of the range.

The one thing I will say, though is we it's been it's been interesting, but as soon as we turned into 2020 three.

It's almost like.

Our page turned in the book and conversion rates demand has really picked up and conversion rates are back again, a strong historical levels.

Some of that is the spring market.

We have a spring market effect in this industry. Most years. So I think we're seeing a strong spring market this year.

With strong demand from buyers and increase conversion rates across the board how long that will continue remains to be seen.

But certainly in the current moment in the spring market were seeing strong conversion rates.

When you say, it's back to historic levels is that somewhere close to 60% or is that too high.

I'm just.

Because we have these different venues that saying somewhere marketplaces. It is 60% and in a couple of it's probably a little below that but I'd say that in that 50 to 65 range or something like that.

Okay, and then lastly.

Could you just comment on.

With your digital Mueller deal with platforms.

With both companies and now with the consolidation that's going on how far are you penetrated.

Into the franchise dealer market overall with this product.

Well I'd say.

I think our industry is past the early adopter phase.

We're into the broad market, where many dealers are using these types of platforms channels.

But at the same time, when we look at the total volume of dealer consigned vehicles there still.

Physical auctions would still be.

Proximately three times the total volume of the combined digital channels I would say in the dealer to dealer segment. So.

Our strong penetration in terms of number of dealers using the platform and continuing to increase.

But still.

A minority of all the vehicles being sold in the marketplace, but that said Gary.

There's no question in my mind, but the digital channels have gained share over the last if you just look over the last number of years digital has gained share I expect that to continue.

It seems to me that this you know art, if you think of our digital offering we will inspect the car Acura dealership it will be on our marketplace immediately.

Likely sold within.

Certainly within 24 hours.

<unk> pretty much immediately after that funds flow title flow, it's a very efficient process and with that you have this national buyer base, you've it's immediately offered to our national buyer base, who are online ready to bid right now.

As opposed to waiting for some scheduled sale and for the buyers that just happened to be showing up at that location. So I think the digital offering is very strong I think its going to gain share I think we're going to gain share with that.

And then just one last quick question ill jump off I mean on the digital dealer to dealer.

Auctions that are out there are you guys, what kind of price differential you're seeing on realization.

On digital to digital versus what's out there in the physical market.

Well you know we benchmark every car we offer and sell in that channel versus market. We believe are our digital offerings perform extremely well.

And obviously, we're continuing to.

Execute the strategies to further improve that because thats mission critical for our sellers they have to get the best price.

So I would say.

Yeah, I think digital channels performed very very well on that metric as good or better than the alternatives. So.

Taking that apparent to our customers is a key part of our sales and marketing process.

Okay. Thank you.

Thank you Gary.

The next question is from Bob Raybuck F. C. J S Securities. Please go ahead.

Hi, Good morning, it's Pete Lucas for Bob.

Guys covered a lot just wanted to touch on you talked about platform consolidation in terms of the dealer to dealer strategy have you settled on a single type of auction and in terms of what types of cars are better for timed auctions first that bid ask market.

Is that something that.

Segregated by price of vehicle or how do you think about that.

Deep. Thank you that is a very interesting question.

And you know that.

There are absolutely some.

Some things are become apparent now that we have these both of these offerings in the market. So if I look at backlog cars today that essentially there are two offerings that the 24 seven marketplace.

So vehicles, it's kind of a bid ask marketplace with buyer and seller interact and that comes with hearing pricing. The vehicle. So that's what backlog cars has been historically that performs really really well.

Tends to have very strong conversion rates.

And strong price attainment.

And I would say its particularly strong on lower value vehicles, and I would say sub 15000, certainly sub 10000 dollar vehicles that that model seems to work really really well.

It's weakness frankly has been was higher value vehicles.

You know $15000 and greater performed quite well, but just not quite as strong.

Now that we've got the auction format lives currently we're running that auction two days a week.

Purely digital auction cars are inspected there are available in a pre auction process and then visible.

Bidding takes place over two hour window on currently Mondays and Thursdays.

I imagine that will over time will increase the frequency of that.

We may have different days in different markets different days for different sellers. So we've got a lot of flexibility in how we go to market with that but currently its two days a week.

What we're seeing there is very strong conversion, but a.

A little tiny bit below what we're seeing in the marketplace, what we're seeing.

Very very strong price attainment, so if anything even better price attainment in the marketplace and we're also seeing it perform.

Really really well on the higher value vehicles.

Okay.

So I think we've got an offering here that's very compelling.

Addresses all different types of vehicles and I think the other big differentiation that we have here at car is we have a deep deep footprint with commercial sellers.

Currently those vehicles.

First of all there hasnt been as many of them over the last year or so of the mis selling in private label sites etcetera, but as more and more cars those vehicles flow into open sale channels, which I believe they will we're going to integrate that volume into one combined marketplace. So our buyers will go to one venue, where theyre going to see a tremendous number of dealer owned vehicles and also a.

This number of commercially owned vehicles.

With very easy to use digital tools digital checkouts et cetera, I think that's going to create a unique differentiation for us in the marketplace. I think that's gonna be very very compelling to all of our customers. So I'm excited about that and that's really where our strategy says.

Very helpful. Thanks, and just one more for me in terms of the open lane outlook what.

What do you think you have talked a lot about the market volumes and what you've seen there, but what are you seeing in terms of mix change at auction, meaning are the dealers auctioning lower priced.

Cars and hanging on to the higher priced ones and how is that helping or hurting you.

I guess, what I'd say is on the on open Lane.

Okay.

You know the cars, we're selling and openly enrolled commercially on vehicles and by far the majority are off lease.

So what we're seeing is currently volumes similar in levels of last year.

Bus, we're actually seeing a slightly better mix.

By that I mean, we're seeing.

A little lower percentage of them selling to the grounding dealer last year was in hindsight. So we're seeing that percentage is dropping the grounding dealer is buying a lower percentage and consequently more vehicles are flowing a little deeper into their marketing funnel, where we generate greater revenue per vehicle.

So we're seeing that it's nothing close to normal, but it started to move away from it.

Unusually distorted position that it's been in for the last 12 months okay.

So we're seeing that.

The other thing is as I mentioned in my remarks, a number of our commercial sellers have indicated we should we should expect significantly more volume later this year.

We haven't reflected that in our models.

I am being very cautious around that because I really want to see it out of there have been false false dawns before in this in this journey, we've been on so I'm going to be cautious, but I do believe over time that absolutely should happen and when it happens we will benefit from that for sure.

Very helpful. Thank you.

Welcome question.

The next question is from Bret Jordan of Jefferies. Please go ahead.

Hey, guys. This is Patrick Buckley on for Bret Jordan, Thanks for taking our questions.

Could you talk a little bit more about the cadence of how you see the marketplace progressing in twenty-three I'm just trying to model out auction versus finance contribution throughout the year and if we should expect finance to continue being the main driver of the bottom line there.

Yeah. Thanks, Patrick I appreciate that question.

If we think about our guidance for this year.

We expect AFC to continue to be a strong contributor, but slightly lower than its contribution in 2022, Okay. We expect AFC to grow its volumes.

But vehicle values may be lower than last year, <unk>, maybe in line or slightly lower than last year, but we're expecting some level of higher risks. So AFC is contribution while remaining strong slightly lower than last year. So the growth is all on the marketplace side of the business.

And again, it's driven by an uncommercial I think volumes similar to last year.

Maybe I think we've modeled a very slight decline, but a stronger mix.

On <unk>, we've modeled a slightly.

A small level of growth, let's say I hope, we can do better, but we've modeled a small level of growth and then a cup coupled without reasonably strong margins in line with what you've come to experience with the business and lower SG&A overall.

Got it that's helpful. Thank you and then I guess, a little bit more on the AFC side of things. There are what have been the primary drivers of growth beyond breaking loan count and I guess, a little bit more how do you see those progressing in 'twenty three.

Yeah. Good question, Patrick you know AFC is the number two in its industry and has been you know depositions occupied over many many years. So it's been a consistent strong number two in the industry, but we do believe that over the last three or four years AFC has gained share so the gap between AFC in the number one.

Has.

Reduced somewhat over the last number of years okay.

I would say AFC has done that.

Well, it's been by increasing its dealer base. It's it's it's.

The number of dealers using AFC.

<unk> has been the principal driver of that and I'd say AFC.

Differentiates itself I'd say on strong service, a strong culture of service to the dealer.

We try not to compete on price, although obviously price matters, but service and also expansion of its product portfolio to take on certain activities.

That benefit the independent dealer, which is AFC its core customer and turn those into revenue and profit generating opportunities for AFC.

Got it that's very helpful. Thanks, guys.

Thank you Kate I think we've time for one last question.

Okay that question will be from Daniel <unk> of Stephens, Inc. Please go ahead.

Hey, guys. This is reed on for Daniel I. Appreciate you squeezing me in.

With the return of off lease in the coming year, how do you foresee your ability to handle those units as the market normalizes and its been more reconditioning work.

Yeah, sorry.

Sorry, Reed Reed.

Okay. So I'd say one of the.

Good things about a digital business as it scales so as volume returns.

I think scaling the business is not really a challenge for US you know we have to process more titles more funds, but from a technology platform standpoint, you know we don't have to build a second technology platform. So I think the business will scale really really well I'm not worried about that.

There are some parts of our business like our audit and inspection business, where we may have to hire some inspectors if volumes increase there.

We'll deal with that as and when it comes.

To your question on reconditioning.

I guess the way I view it read is that it.

In a typical off lease portfolio. Yeah. There are some vehicles that probably benefit from reconditioning before they're sold but it's a very small percentage in my view, it's probably 20% of the vehicles that mature.

Now that's not a very scientific number but just to put some facts on that like before.

Before the pandemic started the off lease conversion rate on our marketplaces was about 55%.

So that was 55% none of them are reconditioned.

Okay.

Those.

Conversion rates in the pandemic and over the last number who has increased up into the low 80% levels.

And again, none of those 80% vehicles are getting weak condition.

So my thesis is that as off lease volumes return I think conversion rates will drop back from the 80% level.

But I don't think they'll ever go back to where they were pre pandemic I don't think our sellers want to start sending that volume of vehicles back into physical channels I think they want to find ways to increase upstream conversion and reduced their marketing costs.

You know some of the more damaged grades now that's my personal view other people may have different ones, but I guess, we'll see over time, but I'm expecting a.

Our strong conversion rates going forward in the office channel.

Stronger than we saw pre pandemic.

Okay very helpful. Thank you for the color.

You're welcome so.

Again, I think that's all the questions. We have time for so thanks, everybody for your time. This morning for those questions I just want to close out my remarks by reinforcing some of the key messages from earlier today.

First of all on 2022 while the challenging year across our entire industry I'm pleased with what the team heard car accomplished and how we positioned ourselves for success in the future.

We are a digital marketplace leader, we have differentiated offerings and a strength that is unique with both commercial sellers and dealers.

We have simplified our business consolidated platforms and improved our customer experience.

We have meaningfully reduced our cost structure and we've set ourselves up to operate more efficiently in the future.

And we paid down over 1.5 billion of debt and repurchased approximately 10% of our outstanding common stock.

The progress made in 2022 should help us deliver improved performance in 2023, even if industry volumes remain weak.

Our guidance is to deliver adjusted EBITDA of $250 million to $270 million in 2023, and the management team and I are fully committed to achieving that goal.

As we look to the future I believe that the secular shift to digital will continue and the digital platforms will continue to gain share.

That will be to our benefit.

However, we're not waiting around for this to happen we are chartering our own course, and we have many initiatives in play that we believe will enable us to grow our customer base increase our market share and expand our product and service offerings for our customers.

I look forward to updating you on our progress in future calls.

So if you look past 2023, I believe car has a compelling opportunity to deliver topline growth and improved bottom line performance I believe we can grow our consolidated adjusted EBITDA by a compound annual growth rate of 15% to 20% over the next several years.

I'm excited and energized by the opportunities that lie ahead for this company, we have a differentiated offering a diverse and expanding customer base and a large addressable market in which to innovate and invest.

With that we'll end today's call and look forward to reconnecting in less than 90 days to update you on our first quarter performance.

Thank you all very much.

The conference has now concluded. Thank you for attending today's presentation you may now disconnect.