Q2 2023 LKQ Corporation Earnings Call
Good morning, and thank you for joining LKQ Corporation's second quarter 2023 earnings conference call.
Operator, J O. After the Speakers' remarks, there will be a question and answer session. If you would like to ask a question. During this time simply press star one on your telephone keypad. If you would like to withdraw. Your question you can press the star one for time, we ask that you limit yourself to one question any follow up questions I will now turn the conference over to Joe Butros VP of Investor Relations.
Go ahead.
Thank you operator, good morning, everyone and welcome to Lkq's second quarter 2023 earnings conference call with US today are Nick Zarcone, Lkq's, President and Chief Executive Officer, Rick Galloway, Senior Vice President and Chief Financial Officer.
Please refer to the LKQ website at LKQ Corp, Dot com for our earnings release issued this morning as well as the accompanying slide presentation for this call now let me quickly cover the safe Harbor some of the statements that we make today may be considered forward looking.
Statements regarding our expectations beliefs hopes intentions or strategies actual events or results may differ materially from those expressed or implied in the forward looking statements. As a result of various factors, we assume no obligation to update any forward looking statements for more information. Please refer to the risk factors discussed in our Form 10-K and subsequent ripped.
<unk> filed with the SEC. During this call we will present, both GAAP and non-GAAP financial measures a reconciliation of GAAP to non-GAAP measures is included in today's earnings press release and slide presentation.
Everyone has had a chance to look at our 8-K, which we filed with the SEC earlier today and as normal we are planning to file our 10-Q in the coming days and with that I'm happy to turn the call over to our CEO Nixdorf Kony.
Thank you Joe and good morning to everybody on the call I hope, you're all having a safe and enjoyable summer.
This morning, I will provide some high level comments related to our performance in the quarter and then Rick will dive into the financial details and provide an overview of our updated guidance before I come back with a few closing remarks.
The second quarter of 2023 was a continuation of what we delivered in the first quarter, where again the resilience of our businesses shine through with an exceptional organic revenue growth and strong margins in our north American and European segments, which more than offset the impact of the headwinds experienced.
By our specialty and self service segments.
The non discretionary nature of the parts. These core segments distribute coupled with our ongoing operational excellence initiatives highlights the strength of our business model and our ability to generate robust profitability during periods of challenging macroeconomic conditions, including <unk>.
Flat declining economic growth in several of our markets decreases in commodity pricing the ongoing conflict in Ukraine and its impact on the broader European markets and the continued increases in interest rates and its subsequent impact on consumers.
The strength of our North American and European segments as evidenced by the fact that in the second quarter of 2023, North America and Europe collectively represented roughly 90% of our total segment EBITA versus 79% for the second quarter of 2022, and just 74.
<unk> in 2021, the variance in performance across our operating segments. This quarter again validates our long term diversification strategy, both with respect to geography and product and speaks to the true strength of our organization and our portfolio of businesses.
Now onto the second quarter 2023 results and year over year comparisons.
Revenue for the second quarter was $3 4 billion, an increase of three 2%.
Hearts and services organic revenue increased four 8% on a reported basis and five 4% on a per day basis.
The net impact of acquisitions and divestitures was flat year over year and foreign exchange rates increased revenue by six tenths of 1% for total parts and services revenue increases of five 4%.
Other revenue fell 23, 9% in the second quarter of 2023, primarily due to weaker precious metal prices relative to the same period in the prior year.
Net income for the second quarter of 2023 was $281 million as compared to $420 million last year diluted earnings per share was $1 five in the second quarter of 2023 compared to $1 49, a decrease of 29, 5%.
The company completed the divestiture of Pizza U P. GW auto glass in the second quarter of last year, which generated a pre tax gain of $155 million and an after tax gain of $127 million or <unk> 45, a share in the second quarter of 2022.
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Adjusted net income of $291 million in Q2 of 2023 compared to $307 million last year, a decrease of five 1% adjusted diluted earnings per share in the second quarter of 2023 was flat with last year at $1 <unk>.
Coming in flat to the prior year is a testament to the strength of our operating performance as we faced headwinds from significantly lower commodity prices and higher interest expense.
Rick will provide further financial details in his prepared remarks, now lets turn to some of the quarterly segment highlights.
As you will note from slide eight organic parts and services revenue for North America increased eight 3%.
North America also reported the highest quarterly EBITDA margin on record as a standalone segment, excluding self service.
We continue to perform well in North America, especially when you consider that collision and liability related auto claims were down three 1% year over year in the second quarter.
Similar to Q1 the growth in North America was a combination of price and volume improvements.
The pricing impact primarily reflected the year over year benefit of the increases implemented late in Q2, and Q3 up last year as opposed to further increases in 2023.
The volume pick up was particularly evident in the aftermarket product line and was the result of two factors first having largely worked through the industry supply chain issues and returning to proper levels of inventory enabled us to get back to our historical level of fulfillment rates with year to date aftermarket fell.
Rates at their highest level since June of 2020.
Second the impact of the state Farm program continues to unfold nicely and is building demand for aftermarket headlights, taillights and bumper covers.
As previously disclosed in December of last year State farm announced that it would allow the use of these aftermarket part types.
Late last month State farm announced that they are running yet another pilot this time in California, and Arizona for the use of a full range of aftermarket collision parts, including sheet metal products like fenders hoods, and trunk lids and other items like side mirrors and grills.
As part of this pilot state farm requires at these parts to be certified by Capa that certified automotive parts Association.
As many of you know we are by far the largest distributor of Kappa certified collision parts in the United States.
Importantly, we believe the potential expansion by state farm into the utilization of these additional aftermarket part types validates both the high quality standards of our platinum plus private label aftermarket parts offerings and our ability to deliver best in class service to state firms.
Direct repair network across the country.
We will be a beneficiary should stayed firm ultimately decide to roll out the use of these additional aftermarket part types on a nationwide basis. This upward trend in our aftermarket sales volumes is consistent with a general rise in alternative part usage of our Apu, which again approached prepay.
NAMIC levels in the second quarter.
I am pleased to say that the increase in the Apu also included an uptick in the recycled parts category, increasing about 140 basis points year over year combined aftermarket recycled parts have witnessed over a 400 basis point improvement in industry wide Apu year over year.
In the second quarter of 2023.
Our outperformance is another indicator that we continue to take market share.
Non comprehensive total loss rates decreased sequentially in the second quarter to 24% from 29% in Q1.
With the recent drop in used car prices, we expect total loss rates to slightly tick up for the balance of the year.
And then as always worked through their healthy inventory levels industry experts believe we will likely see a mix shift to newer vehicles on the road and would expect to see any near term increase in total losses to reverse course, given newer vehicles are less likely to be deemed a total loss.
As stated in prior calls we are generally agnostic as to the small up and down shifts and the total loss rate.
Finally last month I had the opportunity to spend some quality time with set top performing general managers and salespeople at an event for our North American business.
Must say their enthusiasm regarding the future of LKQ was simply energizing.
Now, let's move on to our European segment.
Europe's organic revenue growth for parts and services in the quarter increased eight 5% on a reported basis and nine 8% on a per day basis.
It was a quarter of records for the European segment, which reported the highest quarterly revenue ever at $164 billion.
Isd EBITDA at $188 million and the highest second quarter EBITDA margin percentage ever at 11, 5%.
During the quarter, we saw high single digit to low double digit reported organic growth in some of our key operating geographies.
In particular, our Benelux German and eastern European operations performed exceptionally well.
Revenue growth reflected a combination of positive movements in both price and volume we.
We are confident we are continuing to take share in these large and highly fragmented markets as witnessed by ECP, our UK business, which generated its highest level of per day sales on record.
In the second quarter LKQ Europe entered into a strategic partnership with <unk>.
Europe's largest independent provider of automotive maintenance and repair services operating under our 11 brands in 18 countries across Europe .
The agreement between <unk> and LKQ Europe is based on a dual mode of collaboration which includes the procurement and delivery of automotive parts to <unk> 530, <unk> service branches across Germany.
I'll take <unk> and <unk> are both leaders in our respective sectors of the European automotive aftermarket and thanks to this collaboration we will leverage our strengths to provide a differentiated solution that is unparalleled in the marketplace.
Our European team continues to face cost inflation across all operating markets and to combat. This the team has taken decisive structural multiple efficiency actions. These actions resulted in year over year improvements in SG&A for the second quarter. Despite.
This challenging macro environment.
I spent last week in Europe meeting with all the senior leaders across the segment and also with the regional teams in the U K and the Benelux region I am incredibly proud of the performance of the European team.
And what they are delivering and I am very excited about all the initiatives they have underway to grow the business and enhance our leading competitive position.
The team's focus and drive our outstanding and they are creating a uniquely special and market leading business.
Now, let's move on to our specialty segment during the second quarter, especially reported a decrease in organic revenue of 12, 9%, which was below our expectations.
There were major differences in the demand for various part types with the truck off road and marine categories being down less than 2%, while RV and towing related products were off substantially more than the overall segment decline.
<unk> portion of our specialty business was impacted by the wholesale shipments and retail sales of RBS, which were down 50% and 20% year to date through may respectively.
We expect to see further declines in the RV market as recent industry reports project that full year 2023, wholesale shipments will be down 40% year over year.
With that we believe the challenges for our specialty segment will continue in the back half of the year.
Now onto our self service segment organic revenue for parts and services for our self service segment increased four 7% in the second quarter self service was again challenged by extremely soft commodity pricing, particularly as it related to precious metals.
On the corporate development front during the quarter and recently in July we completed some smaller highly synergistic tuck in acquisitions, including a U S based re manufacturer and distributor of OE replacement engines Marine replacement engines and high performance <unk> engines.
<unk>.
A leading independent truck parts distributor in the U K.
A holland based automotive aftermarket parts distributor.
Belgium based business that distributes automotive parts paint tools and accessories.
And aftermarket accessories distributor with locations in Texas and Oklahoma.
Additionally, during the quarter, we divested a small non core business and our specialty segment.
The net debt annualized revenue impact of the six transactions collectively is approximately $240 million.
As most of you know on February 26, we entered into a definitive agreement to acquire all of <unk> issued and outstanding shares for 48 Canadian dollars per share in cash representing a total enterprise value of approximately $2 1 billion U S dollars.
The process is on schedule and we are pleased with our progress during the second quarter. We received the required approvals for immune select shareholders. The superior court of Quebec, the antitrust regulators in the United States and in Canada.
On slide 21, the competition markets authority in the United Kingdom issued its phase one decision on the transaction and in response, we immediately submitted our proposed to undertakings related to the divestiture of units Slacks GSS car parts business in the UK for evaluation by the CMA.
In light of those developments yesterday, we waived the closing conditions relating to regulatory approvals and I am happy to announce we plan to complete the acquisition of unit slack on or about August one.
The pending divestiture of GSS continues to progress in accordance with our desired timeline. After we complete the customary competitive bid sale process. The CMA will complete its suitability review of our proposed buyer upon receipt of approval of the buyer from the CMA, we will compete.
The sale of GSI up likely in the third quarter now.
Now turning to ESG during the quarter, we initiated or expanded various programs that centered around our people <unk> most important asset.
As part of our response to our employee engagement survey, we identified that ensuring the health safety and wellbeing of our employees is essential to our success.
With that engagement data we took action.
Very few companies can claim.
Lastly, I am pleased to announce that on July 25th 2023, the board of directors declared a quarterly cash dividend of 27, and a half cents per share of common stock payable on August 31st 2023, two stock holders of record at the close of business on August 17th 2023.
<unk> I.
I will now turn the discussion over to Rick who will run through the details of the spectrum results and discuss our outlook for 2000 twenty-three. Thank you, Nick and welcomed everyone joining us today the.
The second quarter was another solid performance from the business with highlights including record high segment EBIT margin of 26% in North America, and at 11.5% the highest quarterly margin and a decade for Europe .
Organic revenue growth in the high single digits in North America, and Europe operating improvements countering headwinds from commodity prices and interest costs <unk>.
Strong free cash flow of $414 million in the quarter and the completion of a 1.4 billion dollar bond offering to secure financing for the pending unit select acquisition.
I want to reiterate next thanks to the global LKQ team for delivering exceptional results in difficult conditions.
To provide further details on these results I will start with comments on segment performance.
Going to slide 10, North America continued its strong performance posting a segment EBITDA margin of 26% and 190 basis point improvement over last year.
We saw gross margin improvement of 150 basis points, driven by lower freight costs pricing and productivity initiatives and a favorable mixed effect with the sale of the lower margin ptw business overhead expenses were favored by 40 basis points, primarily due to lower freight vehicle and fuel expenses.
With the continued strong performance in our North American segment.
We believe the full year segment, even our margins will finish the year and the low 19% range with some moderation in the second half of 2023 with salvage margins tightening along with some normal seasonality.
Europe also delivered terrific results with a segment EBITDA.
Margin of 11.5% up 70 basis points from the prior year period as seen on site 11 gross margin improved by 20 basis points, while overhead expenses decreased by 50 basis points with the effect of improved leverage due to the nine 8% per day organic revenue growth and emphasis on.
Activity initiatives on personnel costs and reduced spray costs.
There are some headwinds anticipate in the second half of the year as personnel costs increase due to wage inflation.
We intend to mitigate these increases through productivity initiatives and we remain optimistic about our previously disclosed expectation for full year margin expansion of 20% to 30 basis points in 2023 <unk>.
Moving to slide 12 specialties EBIT margin of 9.5% declined 390 basis points compared to the prior year gross margin, which was down 370 basis points year over year is under pressure from increased price competition is inventory availability continues to improve for our competitors. In addition to unfavorable product makes it is low.
Sure margin lines, such as auto and Marine had.
I have been less affected by revenue reductions.
Overhead expenses were up 20 basis points, primarily from the decrease in leveraged driven by organic revenue decline of $12, 9% per day.
The specialty team continues to take actions to a line the cost structure with revenue trends and.
And prior restructuring efforts have provided some benefit in the second quarter to counteract the revenue softness.
As you can see on slide 13, self service profitability declined sequentially to $4, 1% this quarter from 13.2% in the first quarter and decreased relative to the 15.3% reported in Q2 2022.
Metals prices had a net negative effect on results with lower precious metal prices, representing a $15 million reduction in EBITDA in an unfavourable lag effect from sequential scrap steel price changes driving a further $5 million decline.
Other revenue decreased by 28.3% in total contributing to a reduction in operating leverage of 620 basis points relative.
Relative to Q2 2022, the average price received for catalytic converters, and Q2 2023 declined by 39% and scrap steel fell by 20%.
Car costs typically move in tandem with changes in commodity prices. We have experienced is stickiness and car costs, which were only down 12% relative to Q2 2022. These trends created a gross margin headwind in the second quarter that could resist and the second half of the year now.
Now for further details on the consolidated results.
As mentioned adjusted diluted earnings per share of $1 nine.
Was flat to Q2 last year, our operational performance showed strong year over year improvement with a net increase of 11 per share on and adjusted basis, driven by solid gains in North America, and Europe , partially offset by the decline in the specialty business with.
We benefited by four due to the lower share count, resulting from our share repurchases in 2022.
These factors works of eight from.
From the impact of metal prices is shown on slide 27.
Five and higher interest expense, resulting from right.
Rate increases and to.
Due to hire effective tax rate.
On the tax rate, we apply manual effective right estimate of 27.0%, which is 40 basis points higher than the $26, 6% in our prior guidance.
The rate changes attributable to non-deductible, Eunice electrons action costs and other effects related to the unit select financing.
As shown on slide 18, the Eunice electrons action effected various parts of the second quarter financials. The.
The income statement effects of the <unk> acquisition, Ned financing expenses and transaction costs have been excluded from adjusted diluted EPS.
Once we complete the acquisition going forward interest expense will be reflected in adjusted diluted earnings per share.
And may we completed the offering a $1.4 billion.
A senior notes due in 2028 and 2033.
Happy with the results of the offering as a first time investment grade issuer.
Obtaining financing at $5, 75% and 625% for the five and 10 year maturities was an outstanding outcome.
We recorded interest expense on the bonds for the period between the issuance states in the quarter and and the interest expense line on the income statement. The interest earned from the bonds proceeds is reflected in interest and other income.
And Q1, we hedged the interest rate risk prior to the issuance of permanent financing in the bond market upon issuance of the bonds. We unwound. These interest rate swaps and settled by making a payment of $13 million as these swaps qualified for hedge accounting. The loss was held on the balance sheet and will be amortized to the income statement over the life of the bonds.
With the completion of the bond offering we terminated the bridge loan facility and amortize the remaining $6 million of upfront fees and Q2.
To hedge the risk related to the movements in the Canadian dollar exchange rates between signing in closing in Q1, we entered into foreign exchange forward contracts to purchase Canadian.
At a specified rate.
These contracts had a fair value of $46 million as of June 30th and as we are not eligible for hedge accounting on these contracts the mark to market gain is reflected in the income statement as a separate line item we.
We incurred M&A advisory costs of $6 million in the quarter, which are presented in restructuring and transaction related expenses <unk>.
Shifting to cash flows and the balance sheet.
With the 1.4 billion dollar bond offering and the 700 million Canadian dollars term loan we have secured the necessary financing for the Eunice electrons action.
By completing the bond offering ahead of the deal closing we are carrying more cash on the balance sheet than usual at $1.9 billion.
If you set aside the roughly $1.4 billion earmarked for the acquisition, we have $590 million in cash and $1.2 billion of available liquidity as of June 30th.
As of June 30th we.
We had total debt a 4.0 billion with a total leverage ratio of two three times EBITDA, which takes into account the additional debt for funding unit select and none of the projected EBITDA from the acquisition.
The increase in the total leverage ratio above our target range of 2.0 times.
He was expected as we disclosed in our prior Eunice, let communications, we are committed to reducing our leverage ratio below 2.0 times within 18 months of closing the transaction upon achieving our target leverage ratio, we returned to our balanced capital allocation strategy, including share repurchases.
Are effective borrowing rate rose to 5.3% for the quarter due to global market rate increases the increase in the leverage ratio above the 2.0 times will trigger a $12 five basis point increase in our credit facility margin going forward.
We have $1.7 billion in variable rate debt of which $700 million has been fixed with interest rate swaps at four 6% and 4.2% over the next two to three years respectively.
We produced $414 million in free cash flow during the quarter and at $567 million on a year to date basis, we remain on track for a full year estimate of approximately $975 million.
Compared to the year to date June 2022.
Free cash flow was down $71 million with higher outflows from income taxes are $39 million interest of $38 million in capital spending of $37 million.
These are the three areas, we highlighted as headwinds in our February call and the actual results are hanging out mostly as expected interest payments will be a larger headwind than originally projected because of higher interest rates and the impact of eunice like financing coming onto the books before the acquisition closes as.
As previously mentioned, we have paused or share repurchase program and directed are free cash flow to paying down debt of $131 million in the second quarter as well as tuck in acquisitions of $27 million.
Additionally, we paid a quarterly dividend of $74 million.
I will conclude with our thoughts on projected 2023 results are guidance is based on current economic conditions and recent trends and assumed scrap in precious metal prices hold near June levels, and the Ukraine, Russia conflict continues without further escalation or major additional impact on the European economy amounts driven.
On foreign exchange our guidance includes balance of the year rates for the euro of $1.09 and the pound Sterling at $1.25.
In line with June rates.
We expect reported organic parts and service revenue in the range of 6.0% to 75% organic growth was $6, 4% through June we decrease the high end of the range in recognition of the ongoing challenges specialty which is down 13% year to date.
We expect specialty to reduce the year over year decline in the second half of the year, but the lower full year expectation makes reaching 8% at the consolidated level unlikely.
Please note we have one fewer selling day in North America, Europe and specialty in Q3.
We expect adjusted diluted EPS in the range of $3.90.
To $4.10, which brings in the high end of the range from our previous estimate while there is no change to the low and the midpoint is now $4 per share down a nickel from our prior figure we anticipate in North America and Europe continued to perform ahead of prior expectations and are mitigating softness in our specialty segment, resulting in net operate.
<unk> growth of five.
However, the negative effects of declining metal metals prices of seven and.
And higher interest in tax expenses of three or more than offsetting this operational growth.
Slide five shows the primary factors contributing to the EPS guidance change.
There is no change to our free cash flow expectation of approximately $975 million, 55% annual EBITDA conversion, noting a portion of the Unix electrons action fees and pre acquisition interest costs will have a onetime impact of free cash flow and create a headwind that we expect to overcome.
To be clear the numbers I just quoted do not include operating results for unit select we expect to close on Eunice select on or about August 1st and assuming that timing. We are projecting the acquisition will be dilutive to adjusted diluted EPS by two to four per share in fiscal 2023.
While we believe the transaction will be accretive over the first 12 months in the early months. It is expected to be dilutive due to the integration costs and the time required to begin to achieve the synergies are overall expectation for the businesses have not changed and we're excited to bring them in as part of the <unk> family.
Thank you for your time today with that I'll turn the call back to Nick for his closing comments.
Thank you Rick for that financial review and.
In closing the second quarter, what was another solid performance for team L. K Q I am beyond proud of the results. We delivered for the first half of the year, particularly how the teams are diligently planning and positioning their respective businesses for the balance of 2023 as we continued to be challenged by certain on.
Controllable dynamics.
As we move into the second half of the year, Let me restate, our key strategic pillars, which remains central to our culture and our objectives first we will continue to integrate our businesses and simplify our operating model second we will continue to focus on profitable revenue growth and.
Anable margin expansion.
Third we will continue to drive high levels of cash flow, which in turn will give us the flexibility to maintain a balanced capital allocation strategy and fourth we will continue to invest in our future.
As always I want to thank the over 46000 people who work at Al K Q for all they do to advance our business each day and for driving our missions and are delivered values forward regardless of the challenges.
And with that operator, we are now ready to open the call to questions.
Thank you again, if you have a question press star one on your telephone keypad, if you wish to remove yourself from queue again press Star one one moment. Please for your first question.
Your first question comes from the line of Scots timber of Wrath MK M. Please go ahead.
Good morning, guys, congrats on the quarter and thanks for taking my questions. Thanks Scott.
In North America, just wanted to touch on state farm I think.
Previous calls you talked about.
I guess based on those three skews throughout the country about $100 million.
And benefit getting a lot of questions from investors about.
What was the potential really is with California.
In Arizona, now going fully alive with the whole program.
Sure I'll take that.
Obviously, we are delighted by the movement state farmers, making in terms of utilizing our high quality aftermarket parts, new pair of policyholders vehicles.
You are correct. We previously mentioned that the upside from headlights, Taillights and bumper covers was about $70 million to $100 million.
On an annual basis, once everything gets up and running.
We are tracking toward that number so quite frankly, probably towards the midpoint.
Here's to be a little bit of cannibalization on the salvage side. In addition to the significant cannibalization on the OEM parts side.
These three part types.
Presents the highest volume of aftermarket parts as well.
Almost every coalition requires to replacement applied some bumper covers.
If you think about three equal sized baskets Scott of lighting.
Bumpers and everything else.
And everything else to the bucket would add another 50% or so to our original estimate which would push you towards somewhere in the $125 million to $150 million on an annual basis overtime.
Wow, that's probably a little bit higher than some preliminary estimates that some of you have had likely due to the fact that state farm will only use kappa certified parts and.
And capital parts only represented about $1 billion of our overall aftermarket sales.
When you add on top of that.
That's the $1 billion includes chrome bumpers, basically bumpers for pickup trucks that state farm has been using for the last several years.
So if you apply roughly they're 16 to 17 per cent market share on the lower base you get back to the $125 million to $150 million on an annual basis of incremental revenue over time. So that's the number that we're comfortable with right now.
Also say that.
That's a very nice revenue pickup and because there's a limited amount of required SG&A to deliver all those incremental parts. We think there will be really good margins on that incremental state farm business.
So that 125% to 150.
That and all and number that's an additional amount just for California.
That's all that's all in again everything else is.
A third of the bucket lights are about a third of bumper covers our bodies urge the pilot Scott won't mean much for us the pilots.
The numbers.
Just quoted are assuming they go live at some point in time.
Okay.
Sorry for delivering the point here, but does that assume that the whole country goes alive, yeah with with all parts yes.
Yes.
Okay.
Got it.
Maybe just walking over to Europe for a second.
Obviously tremendous growth there sounded like a volume is picked up nicely you maybe just talk about [noise].
Some of the things that are really.
Pushing growth there I know that you guys are taking share doing a better job, but are you seeing signs at the counter cyclical nature of the business of kick in.
I wouldn't say counter cyclical Scott I mean, the reality is the economy is in Europe .
In much worse shape than the U S economy.
If you just look at some of the published statistics, Germany is.
In a recession, they've had two quarters now negative GDP growth <unk>.
K is probably the worst off of any of the economies.
The impact of the war the impact of of energy.
Energy prices inflation, while inflation has come down a bit in the U S inflation is hanging pretty high over in Europe , and quite frankly, that's having an impact on the consumer.
Fact that we are continuing to.
Our business both from a volume.
In fact demand and price perspective.
Tells us that while may not be counterstrike Coke, we are holding more than holding our own as it relates to the overall economic backdrop in Europe again, good growth. We are highly confident what this means is over time the car park is going to age.
And as to if you talked to anybody in our business an older car is our friend so we think that longer term.
The soft economic conditions in Europe will actually bowed to our favor.
Thank you. Your next question comes from the line of Craig Kennison of Bird. Please go ahead.
Hey, good morning, Thanks for taking my question, Rick I had a question for you.
North American fulfillment rates.
Is there any way to quantify the year over year increase you saw this quarter and then how long do you expect tailwinds from that improving fulfillment right to impact North American organic growth.
Yeah. That's a good question thanks for calling Craig Thanks for the question.
Fulfillment rates are back to the mid nineties, which is kind of our target as we've kind of talked in the past we were low nineties, when we think about.
Where we were just.
Just just a year ago in Q2 actually were in high eighties as I'm looking at the numbers.
And so we've got about five points of improvement as far as quantification. The difficulty in doing that is that it's a bit of a mixed bag. So I'd hate to quote what the overall benefit was as far as dollars go as there is a little bit of a movement and we've talked about this before between the salvage side in the aftermarket so there's been.
A little bit of a flip so when some of the volume went away from aftermarket when the availability wasn't there. It went over to salvage it's kind of gone back the other way. So we're happy with where we're at we don't think we need to go much more of where we're at as we're continuing to balance the free cash flow impacts of holding the additional inventories.
And thanks, and as you look at like Q3, and Q4, and then 2024 do you still expect tailwinds or.
Do you think that has abated from a year over year perspective.
Yeah, I think we're we're minor improvements, but nothing that's going to be be meaningful for us at this time I mean, we're we're back to not not quite to where we were pre pandemic, but I mean, it's really really close.
Thank you. Your next question comes from the line of bread Jordan of Jeffrey. Please go ahead.
Hi, Good morning, guys. Good morning breath good morning.
With a bit more visibility now I guess I'll be yes like business gives you talk about how you see the synergies, having a north American mechanical business in Canada.
Yeah, so as outlined back in.
Late February when we announced transaction breath, we are highly confident that there is $55 million a cost synergies that we will be able to get our hands on over the first to kind of three years post transaction.
Most of that will come in.
The second year with only a few of those dollars needing a full three years too.
To access we're.
We're going to start the process just as soon as we can and trying to deliver the synergies very quickly and again.
There is facilities savings.
There are some procurement benefits.
And.
Kind of all the corporate overhead and the like that we don't need.
And so nothing has changed from the presentation that we gave everybody back on February 2728th when we announced the transaction again, we are highly confident in our ability to do that obviously.
Much of the synergies are going to come in the U S.
Where the finish master operations in our paint operation to overlap that's a lot of the synergies come from.
We have no plans on and.
Eliminating changing are shutting down facilities up in Canada, because we don't do what they do in Canada that today right. There are distributing small mechanical parts.
That's the business that we have over in Europe , We do think that there will be benefits a revenue benefits that we can glean by broadening out their product line, giving them some incremental inventory to cover all car.
<unk> types that are used up in Canada.
By giving them some capital to grow their business, but none of that is included in the $55 million of benefits that we outlined when we announced that transaction.
And then you didn't mention <unk> in your prepared remarks could you give us an update on the third party diagnostics development.
<unk> yeah, Yeah, So we love our services business.
The reality is it's growing about 25% a year, which is obviously significantly higher than any of our other businesses and it has really strong margins.
And so we are very very happy about that I mean, if you look at some industry data.
About 75%.
All repairs.
At the Msos.
R. R scanning the car for some of that technology and about 18% of the repairs actually have some sort of calibration work being done on the vehicles now the 18% may sound low, but you gotta remember that there's only a today there is only a small portion of it.
The car park that has all the technology on it.
Average price of a scans running about $140 average price of a calibration is running close to $400 and so it is a really attractive business and the.
The market is going to continue to grow because every year. There are simply more cars out on the roads with some of that more advanced technology on the car. That's why we got into the business. Several years ago. We've created what we believe is a market leading offering providing a high level of service to our existing customers by providing.
Some of those services actually in their shops.
And we're optimistic about the future.
Thank you. Your next question comes from the line of Brian Butler Stifel. Please go ahead.
Hi, guys. Thanks for taking my question good morning, Brian Murray.
Just when you think about specialty it doesn't sound like there's a bounce from the bottom, but do you feel like we've kind of reached the bottom and and how to think about where the margins ultimately saddle out maybe kind of back half of.
Of 23, and I'm thinking about 24.
Yeah. So it's.
We're not predicting that we're at the bottom yet.
The reality, it's been a rough couple of quarters for our specialty business.
We have not seen a catalyst that that's going to turn quickly obviously as we start to get into 2024. We've got you know better easier comps that will be working again and so the the numbers.
Growth perspective may not look as soft but.
Absolute dollar perspective, we're not anticipating a significant uptick.
The good news is they did some restructuring earlier in the year, there Goin' aggressively at our cost structure and so the month of June they were actually back to double.
Double digit margins, even though they weren't there for the quarter.
And so I would.
Suggest that margins in and around the 10% range.
Is something that we're driving striving to achieve even though there was the revenues may be challenged now for several more quarters.
Alright, that's helpful. Thank you very much and second question how.
How how do you bridge the free cash flow outlook staying the same with the higher interest expense lets off 39.
Yeah, So [noise].
If you look at the overall pieces that we've got the trade working capital for US has been a nice nice improvement we continue to see a nice improvement we saw a really good improvement within Q2 as well.
And then the earnings side is the other side of it so.
We're real happy with where we ended up in Q2 overall trade working capital improve roughly little little less than $180 million and we expect to continue to drive that throughout the rest of the year.
[noise]. Thank you.
[noise] operated we have another question.
[laughter].
Mmm.
[laughter].
Operator.
Phone line had cut off here.
I don't know if that's on your end or or and.
It appears the operator has a provider has a little bit of a technical issue. So if you could please sit tight.
Thank you.
Okay.
Yeah.
Gary asked a question.
[noise].
[noise], if the analysts want to send us an email maybe send the email over to.
Joe Boutrous and will will answer them through email until we get the technical aspect fixed force.
Pardon the interruption.
Sorry about that.
Okay. We now have the next question from the line is Gary <unk>.
Go ahead.
Good morning, everyone.
A couple of questions here with with your some of the Hudson takes on your adjusted EPS guidance, the changes here, which is rather minimal, but and looking at it.
It looks like this does not really impact the consolidated segment EBIT or the consolidated EBITDA that you generate for the year is that kind of a correct assumption it looks like there'll be very little impact from these some of these changes.
The the the metals will be an impact, but you are right on the interest side, you know and the taxes site Tho those will be avoided but the the metals in fact, you should feather that in [noise].
Right, but you're also getting a site from operating results right Yep, Yeah, exactly and it's.
Roughly the same Gary I mean, it's it's minimal as far as the difference go on the Ebit's site.
Okay, and then <unk>.
Could you it seems like Britain's got things.
Humming over in Europe could you maybe talk about some of the.
Actions that you know.
And over there that have led to.
The margin improvement in the segment EBITDA generation.
In the quarter that world record levels.
You know as quick indicated you know a lot of the focus came on SG&A.
We.
Of the 70 basis point improvement I think were split 20 basis points in gross margin and 50 basis points in SG&A. So taken a really hard look across all of our platforms to make sure that we're doing the best job possible to control our our overhead expenses now when you have 9.8%.
De organic revenue growth that helps.
But make no mistake carry the inflationary environment as I indicated over in Europe is much more intense than it is here in the U S.
And so they've needed productivity gains.
To offset a lot of that increase and allow us to actually get to a lower SG&A percent is there is.
As it relates to compared to revenues.
Did indicate that we've got some wage inflation coming out as in Europe in the second half of the year, we know that already.
You know certain other countries, particularly the Netherlands.
Has a another way to increase coming at them, we experienced already a couple of days strike in Germany as the unions over there in the work councils have.
Several members to use you know short term strikes too trying a petition for better wages and so those are all things were going to have to deal with in the second half of the year.
Okay. Thank you [noise].
[noise]. Thank you. Your next question comes from the line of Daniel Embroil of Stevens. Please go ahead.
Yep Hi, good morning, everybody thinks I have a question more good morning Daniel.
Rick I Wanna start on North American EBITDA margin, you know, obviously I think you'd guy that earlier this year they would sit down at a smaller competitors got inventory and maybe use price ticket share back, but they've held in much stronger. So I guess, what's playing out differently than you thought or smaller peers being more rational or is there something else driving north American wholesale Mart and up to offset some of that.
Competition.
Yeah. Thanks for the question Daniel It's a combination of several different things. One one is productivity initiatives have been something that we focused on for awhile that are helping to offset any of the the risk we're seeing on the pricing side. The other thing is is that competition. We believe has a decent amount of inventory and it had been.
Pretty pretty good about holding holding pricing. So we haven't been looking at a drop in the pricing pieces as as we were kind of expecting earlier and it appeared in the prepared remarks.
As we think about the back half of the year, there's a little bit more seasonality than than anything else and kind of pulling away from the idea of you know how how bad cause you know how how low could the margins go relative to where they're at right now and we're just not seen it. So I think productivity is one of the biggest things that is offsetting that and.
You know, we're we're continuing to drive it. So we we think will end up in the low nineties.
For the for the.
For the full year number as we're coming in to the back half of the year.
Thank you for that for that color enemy related follow up on North America. You know I think Nikki you mentioned 400 basis point of a b U impairment that should have been a a gas just a nice tailwind volume, but could you break out of the 8.5% comp how.
How much was ticket versus like more ticket growth.
Growth and then are you seeing any change in OEM pricing I think that's an investor concern out there, though in production picks up so so how does that side of the pricing backdrop in and related to driving per ticket discussion, yeah, North America more more than half of the.
Year over year growth volume, which is really good to see <unk>.
A lot of that has to do with the aftermarket volume as we talked about having the inventory and start getting the full promo rates up the state farm program, all that leads to higher volumes and Oh, yeah. The always you know they've kept generally kept their prices steady.
They certainly haven't dropped prices.
And we don't think that they will they've never shown a propensity to lower prices. If you will I mean, there was a period of time, where they did it increase prices for.
Four by the bed.
And then they started you know like everyone else with inflation and everything else were taken some prices up and so we did we followed their tracks. So yeah. Our expectation is that they're gonna keep pricing pretty moderate Ah here going forward and we'll just continue to solid at a disk.
Count to the list as we have done forever.
Drop people shouldn't anticipate any significant movement on behalf of <unk> or that have any impact on our pricing.
Thank you is there are no further questions at this time.
Turn it back over to Nick's Zarcone for closing remarks. Please go ahead Sir.
Well I'd certainly like to thank everyone for your time and your attention. This morning again, we are very proud of the Q2 results that we were able to Ah report earlier today and we're looking forward to obviously to the back half of the year. We certainly look forward to chatting with you again in late October .
Renounce our third quarter results and until then I Hope you all have a a one fondue summer.
Thank you everyone.
And that concludes today's conference call you may now disconnect.
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