UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
________________________________________
FORM 10-Q
____________________________
☒ | QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Quarterly Period Ended June 30, 2019
OR
☐ | TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 |
For the Transition Period from to
Commission File Number: 000-50404
____________________________
LKQ CORPORATION
(Exact name of registrant as specified in its charter)
____________________________
Delaware | 36-4215970 | |||
(State or other jurisdiction of incorporation or organization) | (I.R.S. Employer Identification No.) | |||
500 West Madison Street, | Suite 2800 | |||
Chicago | Illinois | 60661 | ||
(Address of principal executive offices) | (Zip Code) | |||
Registrant’s telephone number, including area code: (312) 621-1950
Securities registered pursuant to Section 12(b) of the Act:
Title of Each Class | Trading Symbol(s) | Name of each exchange on which registered | ||||
Common Stock, par value $.01 per share | LKQ | NASDAQ | Global Select Market | |||
________________________________________
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒ No ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files). Yes ☒ No ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company, or an emerging growth company. See the definitions of "large accelerated filer," "accelerated filer," "smaller reporting company," and "emerging growth company" in Rule 12b-2 of the Exchange Act. (Check one):
Large Accelerated Filer | ☒ | Accelerated Filer | ☐ |
Non-accelerated Filer | ☐ (Do not check if a smaller reporting company) | Smaller Reporting Company | ☐ |
Emerging Growth Company | ☐ | ||
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ☐
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ☐ No ☒
At July 26, 2019, the registrant had outstanding an aggregate of 308,205,030 shares of Common Stock.
PART I
FINANCIAL INFORMATION
Item 1. Financial Statements
LKQ CORPORATION AND SUBSIDIARIES Unaudited Condensed Consolidated Statements of Income (In thousands, except per share data) | |||||||||||||||
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
2019 | 2018 | 2019 | 2018 | ||||||||||||
Revenue | $ | 3,248,173 | $ | 3,030,751 | $ | 6,348,476 | $ | 5,751,515 | |||||||
Cost of goods sold | 2,000,986 | 1,868,872 | 3,893,025 | 3,535,665 | |||||||||||
Gross margin | 1,247,187 | 1,161,879 | 2,455,451 | 2,215,850 | |||||||||||
Selling, general and administrative expenses | 898,368 | 826,044 | 1,794,900 | 1,592,935 | |||||||||||
Restructuring and acquisition related expenses | 8,377 | 15,878 | 11,684 | 19,932 | |||||||||||
Impairment of net assets held for sale | 33,497 | — | 48,520 | — | |||||||||||
Depreciation and amortization | 70,834 | 63,163 | 141,836 | 119,621 | |||||||||||
Operating income | 236,111 | 256,794 | 458,511 | 483,362 | |||||||||||
Other expense (income): | |||||||||||||||
Interest expense, net of interest income | 35,884 | 38,272 | 71,973 | 66,787 | |||||||||||
Other (income) expense, net | (5,733 | ) | 427 | (9,584 | ) | (2,455 | ) | ||||||||
Total other expense, net | 30,151 | 38,699 | 62,389 | 64,332 | |||||||||||
Income from continuing operations before provision for income taxes | 205,960 | 218,095 | 396,122 | 419,030 | |||||||||||
Provision for income taxes | 55,825 | 60,775 | 107,375 | 110,359 | |||||||||||
Equity in earnings (losses) of unconsolidated subsidiaries | 1,572 | 546 | (37,977 | ) | 1,958 | ||||||||||
Income from continuing operations | 151,707 | 157,866 | 250,770 | 310,629 | |||||||||||
Net income from discontinued operations | 398 | — | 398 | — | |||||||||||
Net income | 152,105 | 157,866 | 251,168 | 310,629 | |||||||||||
Less: net income attributable to continuing noncontrolling interest | 1,352 | 859 | 2,367 | 662 | |||||||||||
Less: net income attributable to discontinued noncontrolling interest | 192 | — | 192 | — | |||||||||||
Net income attributable to LKQ stockholders | $ | 150,561 | $ | 157,007 | $ | 248,609 | $ | 309,967 | |||||||
Basic earnings per share: (1) | |||||||||||||||
Income from continuing operations | $ | 0.49 | $ | 0.51 | $ | 0.80 | $ | 1.00 | |||||||
Net income from discontinued operations | 0.00 | — | 0.00 | — | |||||||||||
Net income | 0.49 | 0.51 | 0.80 | 1.00 | |||||||||||
Less: net income attributable to continuing noncontrolling interest | 0.00 | 0.00 | 0.01 | 0.00 | |||||||||||
Less: net income attributable to discontinued noncontrolling interest | 0.00 | — | 0.00 | — | |||||||||||
Net income attributable to LKQ stockholders | $ | 0.48 | $ | 0.50 | $ | 0.79 | $ | 1.00 | |||||||
Diluted earnings per share: (1) | |||||||||||||||
Income from continuing operations | $ | 0.49 | $ | 0.50 | $ | 0.80 | $ | 0.99 | |||||||
Net income from discontinued operations | 0.00 | — | 0.00 | — | |||||||||||
Net income | 0.49 | 0.50 | 0.80 | 0.99 | |||||||||||
Less: net income attributable to continuing noncontrolling interest | 0.00 | 0.00 | 0.01 | 0.00 | |||||||||||
Less: net income attributable to discontinued noncontrolling interest | 0.00 | — | 0.00 | — | |||||||||||
Net income attributable to LKQ stockholders | $ | 0.48 | $ | 0.50 | $ | 0.79 | $ | 0.99 | |||||||
(1) The sum of the individual earnings per share amounts may not equal the total due to rounding.
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
2
LKQ CORPORATION AND SUBSIDIARIES Unaudited Condensed Consolidated Statements of Comprehensive Income (In thousands) | |||||||||||||||
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
2019 | 2018 | 2019 | 2018 | ||||||||||||
Net income | $ | 152,105 | $ | 157,866 | $ | 251,168 | $ | 310,629 | |||||||
Less: net income attributable to continuing noncontrolling interest | 1,352 | 859 | 2,367 | 662 | |||||||||||
Less: net income attributable to discontinued noncontrolling interest | 192 | — | 192 | — | |||||||||||
Net income attributable to LKQ stockholders | 150,561 | 157,007 | 248,609 | 309,967 | |||||||||||
Other comprehensive income (loss): | |||||||||||||||
Foreign currency translation, net of tax | 5,602 | (105,164 | ) | (4,293 | ) | (56,679 | ) | ||||||||
Net change in unrealized gains/losses on cash flow hedges, net of tax | (5,650 | ) | 2,406 | (8,387 | ) | 5,660 | |||||||||
Net change in unrealized gains/losses on pension plans, net of tax | 28 | (807 | ) | 219 | (1,428 | ) | |||||||||
Net change in other comprehensive income (loss) from unconsolidated subsidiaries | 2,321 | 2,122 | (1,142 | ) | 1,517 | ||||||||||
Other comprehensive income (loss) | 2,301 | (101,443 | ) | (13,603 | ) | (50,930 | ) | ||||||||
Comprehensive income | 154,406 | 56,423 | 237,565 | 259,699 | |||||||||||
Less: comprehensive income attributable to continuing noncontrolling interest | 1,352 | 859 | 2,367 | 662 | |||||||||||
Less: comprehensive income attributable to discontinued noncontrolling interest | 192 | — | 192 | — | |||||||||||
Comprehensive income attributable to LKQ stockholders | $ | 152,862 | $ | 55,564 | $ | 235,006 | $ | 259,037 | |||||||
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
3
LKQ CORPORATION AND SUBSIDIARIES Unaudited Condensed Consolidated Balance Sheets (In thousands, except share and per share data) | |||||||
June 30, | December 31, | ||||||
2019 | 2018 | ||||||
Assets | |||||||
Current assets: | |||||||
Cash and cash equivalents | $ | 375,967 | $ | 331,761 | |||
Receivables, net | 1,285,802 | 1,154,083 | |||||
Inventories | 2,650,138 | 2,836,075 | |||||
Prepaid expenses and other current assets | 319,942 | 199,030 | |||||
Total current assets | 4,631,849 | 4,520,949 | |||||
Property, plant and equipment, net | 1,206,690 | 1,220,162 | |||||
Operating lease assets, net | 1,294,541 | — | |||||
Intangible assets: | |||||||
Goodwill | 4,409,925 | 4,381,458 | |||||
Other intangibles, net | 880,123 | 928,752 | |||||
Equity method investments | 133,154 | 179,169 | |||||
Other noncurrent assets | 147,954 | 162,912 | |||||
Total assets | $ | 12,704,236 | $ | 11,393,402 | |||
Liabilities and Stockholders' Equity | |||||||
Current liabilities: | |||||||
Accounts payable | $ | 1,031,952 | $ | 942,398 | |||
Accrued expenses: | |||||||
Accrued payroll-related liabilities | 171,650 | 172,005 | |||||
Refund liability | 106,612 | 104,585 | |||||
Other accrued expenses | 309,734 | 288,425 | |||||
Other current liabilities | 134,855 | 61,109 | |||||
Current portion of operating lease liabilities | 219,502 | — | |||||
Current portion of long-term obligations | 132,641 | 121,826 | |||||
Total current liabilities | 2,106,946 | 1,690,348 | |||||
Long-term operating lease liabilities, excluding current portion | 1,122,276 | — | |||||
Long-term obligations, excluding current portion | 3,919,902 | 4,188,674 | |||||
Deferred income taxes | 303,179 | 311,434 | |||||
Other noncurrent liabilities | 342,185 | 364,194 | |||||
Commitments and contingencies | |||||||
Stockholders' equity: | |||||||
Common stock, $0.01 par value, 1,000,000,000 shares authorized, 319,010,278 shares issued and 309,695,052 shares outstanding at June 30, 2019; 318,417,821 shares issued and 316,146,114 shares outstanding at December 31, 2018 | 3,190 | 3,184 | |||||
Additional paid-in capital | 1,429,129 | 1,415,188 | |||||
Retained earnings | 3,847,485 | 3,598,876 | |||||
Accumulated other comprehensive loss | (188,553 | ) | (174,950 | ) | |||
Treasury stock, at cost; 9,315,226 shares at June 30, 2019 and 2,271,707 shares at December 31, 2018 | (250,762 | ) | (60,000 | ) | |||
Total Company stockholders' equity | 4,840,489 | 4,782,298 | |||||
Noncontrolling interest | 69,259 | 56,454 | |||||
Total stockholders' equity | 4,909,748 | 4,838,752 | |||||
Total liabilities and stockholders' equity | $ | 12,704,236 | $ | 11,393,402 | |||
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
4
LKQ CORPORATION AND SUBSIDIARIES Unaudited Condensed Consolidated Statements of Cash Flows (In thousands) | |||||||
Six Months Ended | |||||||
June 30, | |||||||
2019 | 2018 | ||||||
CASH FLOWS FROM OPERATING ACTIVITIES: | |||||||
Net income | $ | 251,168 | $ | 310,629 | |||
Adjustments to reconcile net income to net cash provided by operating activities: | |||||||
Depreciation and amortization | 152,361 | 129,504 | |||||
Impairment of Mekonomen equity method investment | 39,551 | — | |||||
Impairment of net assets held for sale | 48,520 | — | |||||
Stock-based compensation expense | 13,659 | 11,844 | |||||
Other | (3,516 | ) | 4,356 | ||||
Changes in operating assets and liabilities, net of effects from acquisitions and dispositions: | |||||||
Receivables, net | (149,052 | ) | (112,178 | ) | |||
Inventories | 131,229 | (12,777 | ) | ||||
Prepaid income taxes/income taxes payable | 25,967 | 6,090 | |||||
Accounts payable | 96,888 | (25,380 | ) | ||||
Other operating assets and liabilities | 31,629 | 16,581 | |||||
Net cash provided by operating activities | 638,404 | 328,669 | |||||
CASH FLOWS FROM INVESTING ACTIVITIES: | |||||||
Purchases of property, plant and equipment | (101,268 | ) | (115,421 | ) | |||
Acquisitions, net of cash acquired | (14,767 | ) | (1,135,970 | ) | |||
Other investing activities, net | (735 | ) | 2,174 | ||||
Net cash used in investing activities | (116,770 | ) | (1,249,217 | ) | |||
CASH FLOWS FROM FINANCING ACTIVITIES: | |||||||
Debt issuance costs | (35 | ) | (16,759 | ) | |||
Proceeds from issuance of Euro Notes (2026/28) | — | 1,232,100 | |||||
Purchase of treasury stock | (190,762 | ) | — | ||||
Borrowings under revolving credit facilities | 312,880 | 613,658 | |||||
Repayments under revolving credit facilities | (471,439 | ) | (766,597 | ) | |||
Repayments under term loans | (4,375 | ) | (8,810 | ) | |||
Borrowings under receivables securitization facility | 36,600 | — | |||||
Repayments under receivables securitization facility | (146,600 | ) | — | ||||
Repayments of other debt, net | (8,367 | ) | (2,444 | ) | |||
Other financing activities, net | 110 | 3,195 | |||||
Net cash (used in) provided by financing activities | (471,988 | ) | 1,054,343 | ||||
Effect of exchange rate changes on cash, cash equivalents and restricted cash | (102 | ) | (68,359 | ) | |||
Net increase in cash, cash equivalents and restricted cash | 49,544 | 65,436 | |||||
Cash, cash equivalents and restricted cash of continuing operations, beginning of period | 337,250 | 279,766 | |||||
Cash, cash equivalents and restricted cash of continuing and discontinued operations, end of period | 386,794 | 345,202 | |||||
Less: Cash and cash equivalents of discontinued operations, end of period | 5,372 | — | |||||
Cash, cash equivalents and restricted cash, end of period | $ | 381,422 | $ | 345,202 | |||
Reconciliation of cash, cash equivalents and restricted cash | |||||||
Cash and cash equivalents | $ | 375,967 | $ | 345,202 | |||
Restricted cash included in Other noncurrent assets | 5,455 | — | |||||
Cash, cash equivalents and restricted cash, end of period | $ | 381,422 | $ | 345,202 | |||
Supplemental disclosure of cash paid for: | |||||||
Income taxes, net of refunds | $ | 88,001 | $ | 110,745 | |||
Interest | 75,259 | 55,768 | |||||
Supplemental disclosure of noncash investing and financing activities: | |||||||
Stock issued in acquisitions | $ | — | $ | 251,334 | |||
Noncash property, plant and equipment additions | 14,227 | 7,004 | |||||
Notes payable and other financing obligations, including notes issued, debt assumed and settlement of pre-existing balances in connection with business acquisitions | 45,420 | 65,460 | |||||
Contingent consideration liabilities | 5,377 | 34 | |||||
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
5
LKQ CORPORATION AND SUBSIDIARIES Unaudited Condensed Consolidated Statements of Stockholders' Equity (In thousands) | |||||||||||||||||||||||||||||||||
LKQ Stockholders | |||||||||||||||||||||||||||||||||
Common Stock | Treasury Stock | Additional Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive (Loss) Income | Noncontrolling Interest | Total Stockholders' Equity | |||||||||||||||||||||||||||
Shares | Amount | Shares | Amount | ||||||||||||||||||||||||||||||
BALANCE, April 1, 2019 | 318,889 | $ | 3,189 | (4,915 | ) | $ | (130,462 | ) | $ | 1,420,685 | $ | 3,696,924 | $ | (190,854 | ) | $ | 57,292 | $ | 4,856,774 | ||||||||||||||
Net income | — | — | — | — | — | 150,561 | — | 1,544 | 152,105 | ||||||||||||||||||||||||
Other comprehensive income | — | — | — | — | — | — | 2,301 | — | 2,301 | ||||||||||||||||||||||||
Purchase of treasury stock | — | — | (4,400 | ) | (120,300 | ) | — | — | — | — | (120,300 | ) | |||||||||||||||||||||
Vesting of restricted stock units, net of shares withheld for employee tax | 68 | 1 | — | — | (78 | ) | — | — | — | (77 | ) | ||||||||||||||||||||||
Stock-based compensation expense | — | — | — | — | 7,986 | — | — | — | 7,986 | ||||||||||||||||||||||||
Exercise of stock options | 53 | 0 | — | — | 536 | — | — | — | 536 | ||||||||||||||||||||||||
Capital contributions from, net of dividends declared to, noncontrolling interest shareholder | — | — | — | — | — | — | — | 162 | 162 | ||||||||||||||||||||||||
Acquired noncontrolling interest (1) | — | — | — | — | — | — | — | 10,261 | 10,261 | ||||||||||||||||||||||||
BALANCE, June 30, 2019 | 319,010 | $ | 3,190 | (9,315 | ) | $ | (250,762 | ) | $ | 1,429,129 | $ | 3,847,485 | $ | (188,553 | ) | $ | 69,259 | $ | 4,909,748 | ||||||||||||||
LKQ CORPORATION AND SUBSIDIARIES Unaudited Condensed Consolidated Statements of Stockholders' Equity (In thousands) | ||||||||||||||||||||||||||||||||||
LKQ Stockholders | ||||||||||||||||||||||||||||||||||
Common Stock | Treasury Stock | Additional Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive (Loss) Income | Noncontrolling Interest | Total Stockholders' Equity | ||||||||||||||||||||||||||||
Shares | Amount | Shares | Amount | |||||||||||||||||||||||||||||||
BALANCE, January 1, 2019 | 318,418 | $ | 3,184 | (2,272 | ) | $ | (60,000 | ) | $ | 1,415,188 | $ | 3,598,876 | $ | (174,950 | ) | $ | 56,454 | $ | 4,838,752 | |||||||||||||||
Net income | — | — | — | — | — | 248,609 | — | 2,559 | 251,168 | |||||||||||||||||||||||||
Other comprehensive loss | — | — | — | — | — | (13,603 | ) | (13,603 | ) | |||||||||||||||||||||||||
Purchase of treasury stock | — | — | (7,043 | ) | (190,762 | ) | — | — | — | — | (190,762 | ) | ||||||||||||||||||||||
Vesting of restricted stock units, net of shares withheld for employee tax | 371 | 4 | — | — | (1,158 | ) | — | — | — | (1,154 | ) | |||||||||||||||||||||||
Stock-based compensation expense | — | — | — | — | 13,659 | — | — | — | 13,659 | |||||||||||||||||||||||||
Exercise of stock options | 236 | 2 | — | — | 1,868 | — | — | — | 1,870 | |||||||||||||||||||||||||
Tax withholdings related to net share settlements of stock-based compensation awards | (15 | ) | — | — | — | — | (428 | ) | — | — | — | (428 | ) | |||||||||||||||||||||
Capital contributions from, net of dividends declared to, noncontrolling interest shareholder | — | — | — | — | — | — | — | (15 | ) | (15 | ) | |||||||||||||||||||||||
Acquired noncontrolling interest (1) | — | — | — | — | — | — | — | 10,261 | 10,261 | |||||||||||||||||||||||||
BALANCE, June 30, 2019 | 319,010 | $ | 3,190 | (9,315 | ) | $ | (250,762 | ) | $ | 1,429,129 | $ | 3,847,485 | $ | (188,553 | ) | $ | 69,259 | $ | 4,909,748 | |||||||||||||||
(1) The amount acquired during 2019 relates to discontinued operations. See Note 3, "Discontinued Operations," for further details.
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
6
LKQ CORPORATION AND SUBSIDIARIES Unaudited Condensed Consolidated Statements of Stockholders' Equity (In thousands) | ||||||||||||||||||||||||||
LKQ Stockholders | ||||||||||||||||||||||||||
Common Stock | Additional Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive (Loss) Income | Noncontrolling Interest | Total Stockholders' Equity | |||||||||||||||||||||
Shares Issued | Amount | |||||||||||||||||||||||||
BALANCE, April 1, 2018 | 309,631 | $ | 3,096 | $ | 1,146,391 | $ | 3,271,718 | $ | (14,618 | ) | $ | 12,394 | $ | 4,418,981 | ||||||||||||
Net income | — | — | — | 157,007 | — | 859 | 157,866 | |||||||||||||||||||
Other comprehensive loss | — | — | — | — | (101,443 | ) | — | (101,443 | ) | |||||||||||||||||
Stock issued in acquisitions | 8,056 | 81 | 251,253 | — | — | — | 251,334 | |||||||||||||||||||
Vesting of restricted stock units, net of shares withheld for employee tax | 44 | — | (381 | ) | — | — | — | (381 | ) | |||||||||||||||||
Stock-based compensation expense | — | — | 5,862 | — | — | — | 5,862 | |||||||||||||||||||
Exercise of stock options | 95 | 1 | 666 | — | — | — | 667 | |||||||||||||||||||
Shares withheld for net share settlement of stock option awards | (5 | ) | — | (161 | ) | — | — | — | (161 | ) | ||||||||||||||||
Acquired noncontrolling interest | — | — | — | — | — | 44,250 | 44,250 | |||||||||||||||||||
BALANCE, June 30, 2018 | 317,821 | $ | 3,178 | $ | 1,403,630 | $ | 3,428,725 | $ | (116,061 | ) | $ | 57,503 | $ | 4,776,975 | ||||||||||||
LKQ CORPORATION AND SUBSIDIARIES Unaudited Condensed Consolidated Statements of Stockholders' Equity (In thousands) | ||||||||||||||||||||||||||
LKQ Stockholders | ||||||||||||||||||||||||||
Common Stock | Additional Paid-In Capital | Retained Earnings | Accumulated Other Comprehensive (Loss) Income | Noncontrolling Interest | Total Stockholders' Equity | |||||||||||||||||||||
Shares Issued | Amount | |||||||||||||||||||||||||
BALANCE, January 1, 2018 | 309,127 | $ | 3,091 | $ | 1,141,451 | $ | 3,124,103 | $ | (70,476 | ) | $ | 8,484 | $ | 4,206,653 | ||||||||||||
Net income | — | — | — | 309,967 | — | 662 | 310,629 | |||||||||||||||||||
Other comprehensive loss | — | — | — | — | (50,930 | ) | — | (50,930 | ) | |||||||||||||||||
Stock issued in acquisitions | 8,056 | 81 | 251,253 | — | — | — | 251,334 | |||||||||||||||||||
Vesting of restricted stock units, net of shares withheld for employee tax | 344 | 3 | (2,780 | ) | — | — | — | (2,777 | ) | |||||||||||||||||
Stock-based compensation expense | — | — | 11,844 | — | — | — | 11,844 | |||||||||||||||||||
Exercise of stock options | 321 | 3 | 2,919 | — | — | — | 2,922 | |||||||||||||||||||
Shares withheld for net share settlement of stock option awards | (27 | ) | — | (1,057 | ) | — | — | — | (1,057 | ) | ||||||||||||||||
Adoption of ASU 2018-02 (see Note 9) | — | — | — | (5,345 | ) | 5,345 | — | — | ||||||||||||||||||
Capital contributions from noncontrolling interest shareholder | — | — | — | — | — | 4,107 | 4,107 | |||||||||||||||||||
Acquired noncontrolling interest | — | — | — | — | — | 44,250 | 44,250 | |||||||||||||||||||
BALANCE, June 30, 2018 | 317,821 | $ | 3,178 | $ | 1,403,630 | $ | 3,428,725 | $ | (116,061 | ) | $ | 57,503 | $ | 4,776,975 | ||||||||||||
The accompanying notes are an integral part of the unaudited condensed consolidated financial statements.
7
LKQ CORPORATION AND SUBSIDIARIES
Notes to Unaudited Condensed Consolidated Financial Statements
Note 1. | Interim Financial Statements |
The accompanying unaudited condensed consolidated financial statements represent the consolidation of LKQ Corporation, a Delaware corporation, and its subsidiaries. LKQ Corporation is a holding company and all operations are conducted by subsidiaries. When the terms "LKQ," "the Company," "we," "us," or "our" are used in this document, those terms refer to LKQ Corporation and its consolidated subsidiaries.
We have prepared the accompanying unaudited condensed consolidated financial statements pursuant to the rules and regulations of the Securities and Exchange Commission ("SEC") applicable to interim financial statements. Accordingly, certain information related to our significant accounting policies and footnote disclosures normally included in financial statements prepared in accordance with accounting principles generally accepted in the United States of America ("GAAP") have been condensed or omitted. These unaudited condensed consolidated financial statements reflect, in the opinion of management, all material adjustments (which include only normally recurring adjustments) necessary to fairly state, in all material respects, our financial position, results of operations and cash flows for the periods presented.
Operating results for interim periods are not necessarily indicative of the results that can be expected for any subsequent interim period or for a full year. These interim financial statements should be read in conjunction with our audited consolidated financial statements and notes thereto included in our Annual Report on Form 10-K for the year ended December 31, 2018 filed with the SEC on March 1, 2019 ("2018 Form 10-K").
Note 2. Business Combinations
During the six months ended June 30, 2019, we completed five acquisitions, including one wholesale business and one self service business in North America, and three wholesale businesses in Europe. These acquisitions were not material to our results of operations or financial position as of and for the three and six months ended June 30, 2019. Total acquisition date fair value of the consideration for our acquisitions for the six months ended June 30, 2019 was $48 million, composed of $17 million of cash paid (net of cash acquired), $5 million for the estimated value of contingent payments to former owners (with maximum payments totaling $7 million), $1 million of other purchase price obligations (non-interest bearing), $21 million of notes payable, and $4 million of pre-existing balances considered to be effectively settled as a result of the acquisitions. In addition, we assumed $8 million of existing debt as of the acquisition dates.
On May 30, 2018, we acquired Stahlgruber GmbH ("Stahlgruber"), a leading European wholesale distributor of aftermarket spare parts for passenger cars, tools, capital equipment and accessories with operations in Germany, Austria, Italy, Slovenia, and Croatia, with further sales to Switzerland. Total acquisition date fair value of the consideration for our Stahlgruber acquisition was €1.2 billion ($1.4 billion), composed of €1.0 billion ($1.1 billion) of cash paid (net of cash acquired), and €215 million ($251 million) of newly issued shares of LKQ common stock. We financed the acquisition with the proceeds from €1.0 billion ($1.2 billion) of senior notes, the direct issuance to Stahlgruber's owner of 8,055,569 newly issued shares of LKQ common stock, and borrowings under our existing revolving credit facility. We recorded $915 million ($908 million in 2018 and $7 million of adjustments in the six months ended June 30, 2019) of goodwill related to our acquisition of Stahlgruber.
On May 3, 2018, the European Commission cleared the acquisition of Stahlgruber for the entire European Union, except with respect to the wholesale automotive parts business in the Czech Republic. The acquisition of Stahlgruber’s Czech Republic wholesale business was referred to the Czech Republic competition authority for review. On May 10, 2019, the Czech Republic competition authority approved our acquisition of Stahlgruber’s Czech Republic wholesale business subject to the requirement that we divest certain of the acquired locations. We acquired Stahlgruber’s Czech Republic wholesale business on May 29, 2019 and decided to divest all of the acquired locations. We immediately classified the business as discontinued operations because the business was never integrated into our Europe segment; see Note 3, "Discontinued Operations" for further information. The Czech Republic wholesale business represents an immaterial portion of Stahlgruber's revenue and profitability. There was no additional consideration beyond the previously remitted amounts for the Stahlgruber transaction required to complete the acquisition of the Czech Republic wholesale business.
In addition to our acquisition of Stahlgruber, during the year ended December 31, 2018, we completed acquisitions of four wholesale businesses in North America and nine wholesale businesses in Europe. Total acquisition date fair value of the consideration for these acquisitions was $99 million, composed of $85 million of cash paid (net of cash and restricted cash acquired), $11 million of notes payable, and $3 million for the estimated value of contingent payments to former owners (with maximum potential payments totaling $5 million). During the year ended December 31, 2018, we recorded $68 million of goodwill related to these acquisitions.
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Our acquisitions are accounted for under the purchase method of accounting and are included in our consolidated financial statements from the dates of acquisition. The purchase prices were allocated to the net assets acquired based upon estimated fair values at the dates of acquisition. The purchase price allocations for the acquisitions made during the six months ended June 30, 2019 and the last six months of the year ended December 31, 2018 are preliminary as we are in the process of determining the following: 1) valuation amounts for certain receivables, inventories and fixed assets acquired; 2) valuation amounts for certain intangible assets acquired; 3) the acquisition date fair value of certain liabilities assumed; and 4) the tax basis of the entities acquired. We have recorded preliminary estimates for certain of the items noted above and will record adjustments, if any, to the preliminary amounts upon finalization of the valuations.
During the second quarter of 2019, the measurement period adjustments recorded for acquisitions completed in prior periods were not material. The income statement effect of these measurement period adjustments that would have been recorded in previous reporting periods if the adjustments had been recognized as of the acquisition dates was immaterial.
The purchase price allocations for the acquisitions completed during the year ended December 31, 2018 are as follows (in thousands):
Year Ended | |||||||||||
December 31, 2018 | |||||||||||
Stahlgruber | Other Acquisitions (1) | Total | |||||||||
Receivables | $ | 144,826 | $ | 19,171 | $ | 163,997 | |||||
Receivable reserves | (2,818 | ) | (918 | ) | (3,736 | ) | |||||
Inventories | 380,238 | 14,021 | 394,259 | ||||||||
Prepaid expenses and other current assets | 10,970 | 1,851 | 12,821 | ||||||||
Property, plant and equipment | 271,292 | 5,711 | 277,003 | ||||||||
Goodwill | 908,253 | 64,637 | 972,890 | ||||||||
Other intangibles | 285,255 | 35,159 | 320,414 | ||||||||
Other noncurrent assets | 16,625 | 37 | 16,662 | ||||||||
Deferred income taxes | (78,130 | ) | (5,285 | ) | (83,415 | ) | |||||
Current liabilities assumed | (346,788 | ) | (20,116 | ) | (366,904 | ) | |||||
Debt assumed | (79,925 | ) | (4,875 | ) | (84,800 | ) | |||||
Other noncurrent liabilities assumed (2) | (80,824 | ) | (10,306 | ) | (91,130 | ) | |||||
Noncontrolling interest | (44,110 | ) | — | (44,110 | ) | ||||||
Contingent consideration liabilities | — | (3,107 | ) | (3,107 | ) | ||||||
Other purchase price obligations | (6,084 | ) | 3,623 | (2,461 | ) | ||||||
Stock issued | (251,334 | ) | — | (251,334 | ) | ||||||
Notes issued | — | (11,347 | ) | (11,347 | ) | ||||||
Gains on bargain purchases (3) | — | (2,418 | ) | (2,418 | ) | ||||||
Settlement of other purchase price obligations (non-interest bearing) | — | 1,711 | 1,711 | ||||||||
Cash used in acquisitions, net of cash and restricted cash acquired | $ | 1,127,446 | $ | 87,549 | $ | 1,214,995 | |||||
(1) | The amounts recorded during the year ended December 31, 2018 include a $5 million adjustment to increase other intangibles related to our acquisition of Warn Industries, Inc. in 2017 and $4 million of adjustments to reduce other purchase price obligations related to other 2017 acquisitions. |
(2) | The amount recorded for our acquisition of Stahlgruber includes a $79 million liability for certain pension obligations. |
(3) | The amounts recorded during the year ended December 31, 2018 are due to the gains on bargain purchases related to (i) an acquisition in Europe completed in the second quarter of 2017 as a result of changes in the acquisition date fair value of the consideration, and (ii) three acquisitions in Europe completed during 2018 as a result of changes to our estimates of the fair values of the net assets acquired. |
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The fair value of our intangible assets is based on a number of inputs, including projections of future cash flows, discount rates, assumed royalty rates and customer attrition rates, all of which are Level 3 inputs. We used the relief-from-royalty method to value trade names, trademarks, software and other technology assets, and we used the multi-period excess earnings method to value customer relationships. The relief-from-royalty method assumes that the intangible asset has value to the extent that its owner is relieved of the obligation to pay royalties for the benefits received from the intangible asset. The multi-period excess earnings method is based on the present value of the incremental after-tax cash flows attributable only to the customer relationship after deducting contributory asset charges. The fair value of our property, plant and equipment is determined using inputs such as market comparables and current replacement or reproduction costs of the asset, adjusted for physical, functional and economic factors; these adjustments to arrive at fair value use unobservable inputs in which little or no market data exists, and therefore, these inputs are considered to be Level 3 inputs. See Note 12, "Fair Value Measurements" for further information regarding the tiers in the fair value hierarchy.
The acquisition of Stahlgruber expanded LKQ's geographic presence in continental Europe and serves as an additional strategic hub for our European operations. In addition, the acquisition of Stahlgruber allows for continued improvement in procurement, logistics and infrastructure optimization. The primary objectives of our other acquisitions made during the six months ended June 30, 2019 and the year ended December 31, 2018 were to create economic value for our stockholders by enhancing our position as a leading source for alternative collision and mechanical repair products and to expand into other product lines and businesses that may benefit from our operating strengths.
When we identify potential acquisitions, we attempt to target companies with a leading market presence, an experienced management team and workforce that provides a fit with our existing operations, and strong cash flows. For certain of our acquisitions, we have identified cost savings and synergies as a result of integrating the company with our existing business that provide additional value to the combined entity. In many cases, acquiring companies with these characteristics will result in purchase prices that include a significant amount of goodwill.
The following pro forma summary presents the effect of the businesses acquired during the six months ended June 30, 2019 as though the businesses had been acquired as of January 1, 2018, and the businesses acquired during the year ended December 31, 2018 as though they had been acquired as of January 1, 2017. We have excluded the May 29, 2019 acquisition of the Czech Republic wholesale business as the business was never integrated into our Europe segment. The pro forma adjustments are based upon unaudited financial information of the acquired entities (in thousands, except per share data):
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
2019 | 2018 | 2019 | 2018 | ||||||||||||
Revenue, as reported | $ | 3,248,173 | $ | 3,030,751 | $ | 6,348,476 | $ | 5,751,515 | |||||||
Revenue of purchased businesses for the period prior to acquisition: | |||||||||||||||
Stahlgruber | — | 325,871 | — | 815,405 | |||||||||||
Other acquisitions | 1,417 | 47,680 | 16,481 | 99,837 | |||||||||||
Pro forma revenue | $ | 3,249,590 | $ | 3,404,302 | $ | 6,364,957 | $ | 6,666,757 | |||||||
Income from continuing operations, as reported (1) | $ | 151,707 | $ | 157,866 | $ | 250,770 | $ | 310,629 | |||||||
Income from continuing operations of purchased businesses for the period prior to acquisition, and pro forma purchase accounting adjustments: | |||||||||||||||
Stahlgruber | 3,042 | 7,217 | 6,116 | 8,490 | |||||||||||
Other acquisitions | 353 | 1,502 | 1,990 | 3,106 | |||||||||||
Acquisition related expenses, net of tax (2) | 100 | 11,779 | 324 | 13,305 | |||||||||||
Pro forma income from continuing operations | 155,202 | 178,364 | 259,200 | 335,530 | |||||||||||
Less: Net income attributable to continuing noncontrolling interest, as reported | 1,352 | 859 | 2,367 | 662 | |||||||||||
Less: Pro forma net income attributable to continuing noncontrolling interest | — | 2,271 | — | 2,799 | |||||||||||
Pro forma net income from continuing operations attributable to LKQ stockholders (3) | $ | 153,850 | $ | 175,234 | $ | 256,833 | $ | 332,069 | |||||||
(1) | 2018 amounts include interest expense for the period from April 9, 2018 through June 30, 2018 recorded on the senior notes issued in connection with our acquisition of Stahlgruber. |
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(2) | Includes expenses related to acquisitions closed in the period and excludes expenses for acquisitions not yet completed. |
(3) | Excludes our acquisition of the Czech Republic wholesale business which is classified as discontinued operations. |
Unaudited pro forma supplemental information is based upon accounting estimates and judgments that we believe are reasonable. The unaudited pro forma supplemental information includes the effect of purchase accounting adjustments, such as the adjustment of inventory acquired to fair value, adjustments to depreciation on acquired property, plant and equipment, adjustments to rent expense for above or below market leases, adjustments to amortization on acquired intangible assets, adjustments to interest expense, and the related tax effects. The pro forma impact of our acquisitions also reflects the elimination of acquisition related expenses, net of tax. Refer to Note 6, "Restructuring and Acquisition Related Expenses," for further information regarding our acquisition related expenses. These pro forma results are not necessarily indicative of what would have occurred if the acquisitions had been in effect for the periods presented or of future results.
Note 3. Discontinued Operations
As described in Note 2, "Business Combinations," we classified the acquired Stahlgruber Czech Republic wholesale business as discontinued operations. We intend to divest the business within the next year, and thus, the net assets are reflected on the Unaudited Condensed Consolidated Balance Sheet at the lower of fair value less cost to sell or carrying value. As of June 30, 2019, the assets held for sale, liabilities held for sale, and noncontrolling interest are recorded within Prepaid expenses and other current assets, Other current liabilities, and Noncontrolling interest, respectively, on the Unaudited Condensed Consolidated Balance Sheet. As of the acquisition date, we acquired $5 million of cash and assumed $6 million of existing debt.
Fair value was based on the estimated selling price, with factors including projected market multiples and any reasonable offers. Due to the uncertainties in the estimation process, it is possible that actual results could differ from the estimates used in the Company's analysis. The inputs utilized in the fair value estimate are classified as Level 3 within the fair value hierarchy. The fair value of the net assets was measured on a non-recurring basis as of June 30, 2019.
Note 4. Financial Statement Information
Allowance for Doubtful Accounts
We have a reserve for uncollectible accounts, which was approximately $52 million and $57 million at June 30, 2019 and December 31, 2018, respectively.
Inventories
Inventories consist of the following (in thousands):
June 30, | December 31, | ||||||
2019 | 2018 | ||||||
Aftermarket and refurbished products | $ | 2,181,873 | $ | 2,309,458 | |||
Salvage and remanufactured products | 441,579 | 503,199 | |||||
Manufactured products | 26,686 | 23,418 | |||||
Total inventories (1) | $ | 2,650,138 | $ | 2,836,075 | |||
(1) | As of June 30, 2019, $61 million of inventory was included in assets held for sale. Refer to the "Net Assets Held for Sale" section for further information. |
Aftermarket and refurbished products and salvage and remanufactured products are primarily composed of finished goods. As of June 30, 2019, manufactured products inventory was composed of $18 million of raw materials, $3 million of work in process, and $6 million of finished goods. As of December 31, 2018, manufactured products inventory was composed of $17 million of raw materials, $2 million of work in process, and $4 million of finished goods.
Net Assets Held for Sale
During the first half of 2019, we committed to plans to sell certain businesses in our North America and Europe segments. As a result, these businesses were classified as net assets held for sale and were required to be adjusted to the lower of fair value less cost to sell or carrying value, resulting in total impairment charges of $33 million and $49 million during the three and six months ended June 30, 2019, respectively, which were recorded within Impairment of net assets held for sale in the Unaudited Condensed Consolidated Statement of Income.
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Excluding the Stahlgruber Czech Republic wholesale business discussed in Note 3, "Discontinued Operations," as of June 30, 2019, there were $56 million of assets held for sale, including $5 million of goodwill that was reclassified as held for sale related to our Europe segment, and $17 million of liabilities held for sale, which are recorded within Prepaid expenses and other current assets and Other current liabilities, respectively, on the Unaudited Condensed Consolidated Balance Sheet. We expect these businesses to be disposed of during the next twelve months. The businesses do not meet the requirements to be considered discontinued operations. These businesses generated annualized revenue of approximately $165 million during the twelve-month period ended June 30, 2019.
We are required to record net assets of our held for sale businesses at the lower of fair value less cost to sell or carrying value. Fair values were based on projected discounted cash flows and/or estimated selling prices. Management's assumptions for our discounted cash flow analysis of the businesses were based on projecting revenues and profits, tax rates, capital expenditures, working capital requirements and discount rates. For businesses for which we utilized estimated selling prices to calculate the fair value, factors included projected market multiples and any reasonable offers. Due to the uncertainties in the estimation process, it is possible that actual results could differ from the estimates used in the Company's analysis. The inputs utilized in the fair value estimates are classified as Level 3 within the fair value hierarchy. The fair values of the net assets were measured on a non-recurring basis as of June 30, 2019.
Investments in Unconsolidated Subsidiaries
Our investment in unconsolidated subsidiaries was $133 million and $179 million as of June 30, 2019 and December 31, 2018, respectively. On December 1, 2016, we acquired a 26.5% equity interest in Mekonomen AB ("Mekonomen") for an aggregate purchase price of $181 million. In October 2018, we acquired an additional $48 million of equity in Mekonomen at a discounted share price as part of its rights issue, increasing our equity interest to 26.6%. We are accounting for our interest in Mekonomen using the equity method of accounting, as our investment gives us the ability to exercise significant influence, but not control, over the investee. As of June 30, 2019, our share of the book value of Mekonomen's net assets exceeded the book value of our investment in Mekonomen by $5 million; this difference is primarily related to Mekonomen's Accumulated Other Comprehensive Income balance as of our acquisition date in 2016. We are recording our equity in the net earnings of Mekonomen on a one quarter lag. We recorded equity in earnings of $3 million and an equity loss of $37 million during the three and six months ended June 30, 2019, respectively, and equity in earnings of $1 million and $2 million during the three and six months ended June 30, 2018, respectively, related to our investment in Mekonomen, including adjustments to convert the results to GAAP and to recognize the impact of our purchase accounting adjustments and the other-than-temporary impairment (three months ended March 31, 2019 only) described below. In May 2018, we received a cash dividend of $8 million (SEK 67 million) related to our investment in Mekonomen. Mekonomen announced in February 2019 that the Mekonomen Board of Directors has proposed no dividend payment in 2019. The Level 1 fair value of our equity investment in the publicly traded Mekonomen common stock at June 30, 2019 was $125 million (using the Mekonomen share price of SEK 77 as of June 30, 2019) compared to a carrying value of $110 million.
During the three months ended March 31, 2019, we recognized an other-than-temporary impairment of $40 million, which represented the difference in the carrying value and the fair value of our investment in Mekonomen. The fair value of our investment in Mekonomen was determined using the Mekonomen share price of SEK 65 as of March 31, 2019. The impairment charge is recorded in Equity in earnings (losses) of unconsolidated subsidiaries on our Unaudited Condensed Consolidated Statements of Income. Equity in losses and earnings from our investment in Mekonomen are reported in the Europe segment.
Warranty Reserve
Some of our salvage mechanical products are sold with a standard six month warranty against defects. Additionally, some of our remanufactured engines are sold with a standard three year warranty against defects. We also provide a limited lifetime warranty for certain of our aftermarket products. These assurance-type warranties are not considered a separate performance obligation, and thus no transaction price is allocated to them. We record the warranty costs in Cost of goods sold on our Unaudited Condensed Consolidated Statements of Income. Our warranty reserve is calculated using historical claim information to project future warranty claims activity and is recorded within Other accrued expenses and Other noncurrent liabilities on our Unaudited Condensed Consolidated Balance Sheets based on the expected timing of the related payments.
The changes in the warranty reserve are as follows (in thousands):
Balance as of December 31, 2018 | $ | 23,262 | |
Warranty expense | 29,529 | ||
Warranty claims | (22,770 | ) | |
Balance as of June 30, 2019 | $ | 30,021 | |
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Litigation and Related Contingencies
We have certain contingencies resulting from litigation, claims and other commitments and are subject to a variety of environmental and pollution control laws and regulations incident to the ordinary course of business. We currently expect that the resolution of such contingencies will not materially affect our financial position, results of operations or cash flows.
Treasury Stock
On October 25, 2018, our Board of Directors authorized a stock repurchase program under which we may purchase up to $500 million of our common stock from time to time through October 25, 2021. Repurchases under the program may be made in the open market or in privately negotiated transactions, with the amount and timing of repurchases depending on market conditions and corporate needs. The repurchase program does not obligate us to acquire any specific number of shares and may be suspended or discontinued at any time. Delaware law imposes restrictions on stock repurchases. During the six months ended June 30, 2019, we repurchased 7.0 million shares of common stock for an aggregate price of $191 million. During 2018, we repurchased 2.3 million shares of common stock for an aggregate price of $60 million. As of June 30, 2019, there is $249 million of remaining capacity under our repurchase program. Repurchased shares are accounted for as treasury stock using the cost method.
Recent Accounting Pronouncements
Adoption of New Lease Standard
In February 2016, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update 2016-02, "Leases" ("ASU 2016-02"), which represents the FASB Accounting Standard Codification Topic 842 ("ASC 842"), to increase transparency and comparability by recognizing lease assets and lease liabilities on the Unaudited Condensed Consolidated Balance Sheets and disclosing key information about leasing arrangements. The main difference between the prior standard and ASU 2016-02 is the recognition of lease assets and lease liabilities by lessees for those leases classified as operating leases under the prior standard.
We adopted the standard in the first quarter of 2019 using the modified retrospective approach and took advantage of the transition package of practical expedients permitted within the new standard, which, among other things, allows us to carryforward the historical lease classification. For leases with a term of 12 months or less, we elected the short-term lease exemption, which allowed us to not recognize right-of-use assets or lease liabilities for qualifying leases existing at transition and new leases we may enter into in the future. Additionally, we adopted the practical expedient to combine lease and non-lease components.
As of January 1, 2019, we recorded both an operating lease asset and operating lease liability of $1.3 billion. The preexisting deferred rent liability balances from the historical straight-line treatment of operating leases was reclassified as a reduction of the lease asset upon adoption. The adoption of the standard did not materially affect our Unaudited Condensed Consolidated Statements of Income or Statements of Cash Flows as operating lease payments will still be an operating cash outflow and capital lease payments will still be a financing cash outflow. The new standard did not have a material impact on our liquidity. The standard will have no impact on our debt covenant compliance under our current agreements as the covenant calculations are based on the prior lease accounting rules.
Other Recently Adopted Accounting Pronouncements
During the first quarter of 2019, we adopted ASU No. 2017-12, "Targeted Improvements to Accounting for Hedging Activities" ("ASU 2017-12"), which amends the hedge accounting recognition and presentation requirements in ASC 815 ("Derivatives and Hedging"). ASU 2017-12 significantly alters the hedge accounting model by making it easier for an entity to achieve and maintain hedge accounting and provides for accounting that better reflects an entity's risk management activities. We adopted the provisions of ASU 2017-12 by applying a modified retrospective approach to existing hedging relationships as of the adoption date. The adoption of ASU 2017-12 did not have a material impact on our unaudited condensed consolidated financial statements.
Recently Issued Accounting Pronouncements
In August 2018, the FASB issued ASU No. 2018-13, "Disclosure Framework- Changes to the Disclosure Requirements for Fair Value Measurement" ("ASU 2018-13"), which removes, modifies, and adds certain disclosure requirements in ASC 820. ASU 2018-13 is effective for fiscal years and interim periods beginning after December 15, 2019; early adoption is permitted. We are in the process of evaluating the impact of this standard on our disclosures but do not currently believe that it will have a material impact.
In June 2016, the FASB issued ASU 2016-13, "Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments" ("ASU 2016-13"), and in November 2018 issued a subsequent
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amendment, ASU 2018-19, "Codification Improvements to Topic 326, Financial Instruments - Credit Losses" ("ASU 2018-19"). ASU 2016-13 significantly changes how entities will measure credit losses for most financial assets and certain other instruments that are not measured at fair value through net income. ASU 2016-13 will replace today’s “incurred loss” approach with an “expected loss” model for instruments measured at amortized cost. ASU 2018-19 will affect loans, debt securities, trade receivables, net investments in leases, off balance sheet credit exposures, reinsurance receivables, and any other financial assets not excluded from the scope of this amendment that represent the contractual right to receive cash. ASU 2016-13 and ASU 2018-19 should be applied on either a prospective transition or modified-retrospective approach depending on the subtopic. ASU 2016-13 is effective for annual periods beginning after December 15, 2019, and interim periods therein. Early adoption is permitted for annual periods beginning after December 15, 2018, and interim periods therein. We are currently evaluating the impact of the adoption of this standard on our consolidated financial statements.
Note 5. Revenue Recognition
The majority of our revenue is derived from the sale of vehicle parts. We recognize revenue when the products are shipped to, delivered to or picked up by customers, which is the point when title has transferred and risk of ownership has passed.
Sources of Revenue
We report our revenue in two categories: (i) parts and services and (ii) other. The following table sets forth our revenue by category, with our parts and services revenue further disaggregated by reportable segment (in thousands):
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
2019 | 2018 | 2019 | 2018 | ||||||||||||
North America | $ | 1,165,482 | $ | 1,165,422 | $ | 2,321,180 | $ | 2,338,007 | |||||||
Europe | 1,510,952 | 1,279,996 | 2,951,793 | 2,317,042 | |||||||||||
Specialty | 410,263 | 411,633 | 762,819 | 762,307 | |||||||||||
Parts and services | 3,086,697 | 2,857,051 | 6,035,792 | 5,417,356 | |||||||||||
Other | 161,476 | 173,700 | 312,684 | 334,159 | |||||||||||
Total revenue | $ | 3,248,173 | $ | 3,030,751 | $ | 6,348,476 | $ | 5,751,515 | |||||||
Parts and Services
Our parts revenue is generated from the sale of vehicle products including replacement parts, components and systems used in the repair and maintenance of vehicles and specialty products and accessories to improve the performance, functionality and appearance of vehicles. Services revenue includes (i) additional services that are generally billed concurrently with the related product sales, such as the sale of service-type warranties, (ii) fees for admission to our self service yards, and (iii) diagnostic and repair services.
In North America, our vehicle replacement products include sheet metal collision parts such as doors, hoods, and fenders; bumper covers; head and tail lamps; automotive glass products such as windshields; mirrors and grilles; wheels; and large mechanical items such as engines and transmissions. In Europe, our products include a wide variety of small mechanical products such as brake pads, discs and sensors; clutches; electrical products such as spark plugs and batteries; steering and suspension products; filters; and oil and automotive fluids. In our Specialty operations, we serve six product segments: truck and off-road; speed and performance; RV; towing; wheels, tires and performance handling; and miscellaneous accessories.
Our service-type warranties typically have service periods ranging from 6 months to 36 months. Under FASB Accounting Standards Codification Topic 606 ("ASC 606"), proceeds from these service-type warranties are deferred at contract inception and amortized on a straight-line basis to revenue over the contract period. The changes in deferred service-type warranty revenue are as follows (in thousands):
Balance as of January 1, 2019 | $ | 24,006 | |
Additional warranty revenue deferred | 21,241 | ||
Warranty revenue recognized | (19,171 | ) | |
Balance as of June 30, 2019 | $ | 26,076 | |
Other Revenue
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Revenue from other sources includes scrap sales, bulk sales to mechanical manufacturers (including cores) and sales of aluminum ingots and sows from our furnace operations. We derive scrap metal from several sources, including vehicles that have been used in both our wholesale and self service recycling operations and from original equipment manufacturers ("OEMs") and other entities that contract with us for secure disposal of "crush only" vehicles. The sale of hulks in our wholesale and self service recycling operations represents one performance obligation, and revenue is recognized based on a price per weight when the customer (processor) collects the scrap. Some adjustments may occur when the customer weighs the scrap at their location, and revenue is adjusted accordingly.
Revenue by Geographic Area
See Note 16, "Segment and Geographic Information" for information related to our revenue by geographic region.
Variable Consideration
The amount of revenue ultimately received from the customer can vary due to variable consideration which includes returns, discounts, rebates, refunds, credits, price concessions, incentives, performance bonuses, or other similar items. Under ASC 606 we are required to select the “expected value method” or the “most likely amount” method in order to estimate variable consideration. We utilize both methods in practice depending on the type of variable consideration, with contemplation of any expected reversals in revenue. We recorded a refund liability and return asset for expected returns of $107 million and $57 million as of June 30, 2019, respectively and $105 million and $56 million as of December 31, 2018. The refund liability is presented separately on the balance sheet within current liabilities while the return asset is presented within prepaid expenses and other current assets. Other types of variable consideration consist primarily of discounts, volume rebates, and other customer sales incentives which are recorded in Receivables, net on the Unaudited Condensed Consolidated Balance Sheets. We recorded a reserve for our variable consideration of $86 million and $103 million as of June 30, 2019 and December 31, 2018, respectively. While other customer incentive programs exist, we characterize them as material rights in the context of our sales transactions. We consider these programs to be immaterial to our unaudited condensed consolidated financial statements.
Note 6. Restructuring and Acquisition Related Expenses
Acquisition Related Expenses
Acquisition related expenses, which include external costs such as legal, accounting and advisory fees, were immaterial for the three and six months ended June 30, 2019.
Acquisition related expenses for the three and six months ended June 30, 2018 were $14 million and $16 million, respectively, which included external costs primarily related to our May 2018 acquisition of Stahlgruber.
Acquisition Integration Plans and Restructuring
During the three and six months ended June 30, 2019, we incurred $3 million and $6 million of restructuring expenses, respectively, related to our acquisition integration efforts. These expenses included approximately $1 million and $3 million for the three and six months ended June 30, 2019, respectively, related to the integration of our acquisition of Andrew Page Limited ("Andrew Page").
During the three and six months ended June 30, 2018, we incurred $2 million and $4 million of restructuring expenses, respectively. Restructuring expenses incurred during the three and six months ended June 30, 2018 were primarily related to the integration of our acquisition of Andrew Page. This integration included the closure of duplicate facilities and termination of employees.
We expect to incur additional expenses related to the integration of certain of our acquisitions into our existing operations. These integration activities are expected to include the closure of duplicate facilities, rationalization of personnel in connection with the consolidation of overlapping facilities with our existing business, and moving expenses. Future expenses to complete these integration plans are currently expected to be approximately $15 million.
2019 Restructuring Program
In the second quarter, we began implementing a cost reduction initiative, covering all three of our reportable segments, designed to eliminate underperforming assets and cost ineffectiveness. We have incurred and expect to incur costs for employee severance and related employee termination benefits; lease exit costs, such as lease termination fees and accelerated amortization of operating lease assets; and other costs related to facility closures, such as moving expenses to relocate inventory and equipment.
During the three months ended June 30, 2019, we incurred $5 million of restructuring expense primarily related to employee severance and related termination benefits. We currently expect to incur additional expenses of between $20 million and $25 million through the end of 2020 to complete the program.
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Note 7. Stock-Based Compensation
In order to attract and retain employees, non-employee directors, consultants, and other persons associated with us, we grant equity-based awards under the LKQ Corporation 1998 Equity Incentive Plan (the “Equity Incentive Plan”). We have granted restricted stock units ("RSUs"), stock options, and restricted stock under the Equity Incentive Plan. We expect to issue new or treasury shares of common stock to cover past and future equity grants.
RSUs
The RSUs we have issued vest over periods of up to five years, subject to a continued service condition. Currently outstanding RSUs (other than PSUs, which are described below) contain either a time-based vesting condition or a combination of a performance-based vesting condition and a time-based vesting condition, in which case both conditions must be met before any RSUs vest. For most of the RSUs containing a performance-based vesting condition, the Company must report positive diluted earnings per share, subject to certain adjustments, during any fiscal year period within five years following the grant date; we have an immaterial amount of RSUs containing other performance-based vesting conditions. Each RSU converts into one share of LKQ common stock on the applicable vesting date. The grant date fair value of RSUs is based on the market price of LKQ stock on the grant date. Our 2019 annual grant of RSUs occurred on March 1, 2019; in previous years, the annual grant occurred in mid-January.
Starting with our 2019 grants, participants who are eligible for retirement (defined as a voluntary separation of service from the Company after the participant has attained at least 60 years of age and completed at least five years of service) will continue to vest in their awards; if retirement occurs during the first year of the vesting period (for RSUs subject to a time-based vesting condition) or the first year of the performance period (for RSUs with a performance-based vesting condition), the participant vests in a prorated amount of the RSU grant based on the portion of the year employed. For our RSU grants prior to 2019, participants forfeit their unvested shares upon retirement.
The fair value of RSUs that vested during the six months ended June 30, 2019 was $11 million; the fair value of RSUs vested is based on the market price of LKQ stock on the date vested.
The following table summarizes activity related to our RSUs under the Equity Incentive Plan for the six months ended June 30, 2019:
Number Outstanding | Weighted Average Grant Date Fair Value | Weighted Average Remaining Contractual Term (in years) | Aggregate Intrinsic Value (in thousands) (1) | |||||||||
Unvested as of January 1, 2019 | 1,475,682 | $ | 34.94 | |||||||||
Granted | 981,906 | $ | 27.86 | |||||||||
Vested | (416,262 | ) | $ | 32.72 | ||||||||
Forfeited / Canceled | (48,674 | ) | $ | 34.25 | ||||||||
Unvested as of June 30, 2019 | 1,992,652 | $ | 31.93 | |||||||||
Expected to vest after June 30, 2019 | 1,813,605 | $ | 31.97 | 2.9 | $ | 48,260 | ||||||
(1) | The aggregate intrinsic value of expected to vest RSUs represents the total pretax intrinsic value (the fair value of the Company's stock on the last day of each period multiplied by the number of units) that would have been received by the holders had all RSUs vested. This amount changes based on the market price of the Company’s common stock. |
In 2019, we granted performance-based three-year RSUs ("PSUs") to certain employees, including our executive officers, under our Equity Incentive Plan. As these awards are performance-based, the exact number of shares to be paid out may be up to twice the grant amount, depending on the Company's performance and the achievement of certain performance metrics (adjusted earnings per share, average organic parts and services revenue growth, and average return on invested capital) over the three year period ending December 31, 2021. In 2019, we also granted an immaterial amount of performance-based RSUs to employees that have different performance metrics than those described above.
The following table summarizes activity related to our PSUs under the Equity Incentive Plan for the six months ended June 30, 2019:
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Number Outstanding | Weighted Average Grant Date Fair Value | Weighted Average Remaining Contractual Term (in years) | Aggregate Intrinsic Value (in thousands) (1) | |||||||||
Unvested as of January 1, 2019 | — | $ | — | |||||||||
Granted (2) | 136,170 | $ | 27.69 | |||||||||
Unvested as of June 30, 2019 | 136,170 | $ | 27.69 | |||||||||
Expected to vest after June 30, 2019 | 136,170 | $ | 27.69 | 2.8 | $ | 3,623 | ||||||
(1) | The aggregate intrinsic value of expected to vest PSUs represents the total pretax intrinsic value (the fair value of the Company's stock on the last day of each period multiplied by the number of units at target) that would have been received by the holders had all PSUs vested. This amount changes based on the market price of the Company’s common stock and the achievement of the performance metrics relative to the established targets. |
(2) | Represents the number of PSUs at target payout. |
Stock Options
Stock options vest over periods of up to five years, subject to a continued service condition. Stock options expire either six years or ten years from the date they are granted. No options were granted during the six months ended June 30, 2019. No options vested during the six months ended June 30, 2019; all of our outstanding options are fully vested.
The following table summarizes activity related to our stock options under the Equity Incentive Plan for the six months ended June 30, 2019:
Number Outstanding | Weighted Average Exercise Price | Weighted Average Remaining Contractual Term (in years) | Aggregate Intrinsic Value (in thousands) (1) | |||||||||
Balance as of January 1, 2019 | 1,051,494 | $ | 10.15 | |||||||||
Exercised | (236,241 | ) | $ | 7.92 | $ | 4,324 | ||||||
Canceled | (7,037 | ) | $ | 16.45 | ||||||||
Balance as of June 30, 2019 | 808,216 | $ | 10.75 | 0.5 | $ | 13,000 | ||||||
Exercisable as of June 30, 2019 | 808,216 | $ | 10.75 | 0.5 | $ | 13,000 | ||||||
(1) | The aggregate intrinsic value of outstanding and exercisable options represents the total pretax intrinsic value (the difference between the fair value of the Company's stock on the last day of each period and the exercise price, multiplied by the number of options where the fair value exceeds the exercise price) that would have been received by the option holders had all option holders exercised their options as of the last day of the period indicated. This amount changes based on the market price of the Company’s common stock. |
Stock-Based Compensation Expense
Pre-tax stock-based compensation expense for RSUs and PSUs totaled $8 million and $14 million for the three and six months ended June 30, 2019, respectively, and $6 million and $12 million for the three and six months ended June 30, 2018, respectively. As of June 30, 2019, unrecognized compensation expense related to unvested RSUs and PSUs was $51 million. Stock-based compensation expense related to these awards will be different to the extent that forfeitures are realized and performance under the PSUs differs from target.
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Note 8. Earnings Per Share
The following chart sets forth the computation of earnings per share (in thousands, except per share amounts):
Three Months Ended | Six Months Ended | ||||||||||||||
June 30, | June 30, | ||||||||||||||
2019 | 2018 | 2019 | 2018 | ||||||||||||
Income from continuing operations | $ | 151,707 | $ | 157,866 | $ | 250,770 | $ | 310,629 | |||||||
Denominator for basic earnings per share—Weighted-average shares outstanding | 311,891 | 312,556 | 313,460 | 311,045 | |||||||||||
Effect of dilutive securities: | |||||||||||||||
RSUs | 315 | 406 | 364 | 512 | |||||||||||
PSUs | — | — | — | — | |||||||||||
Stock options | 513 | 1,050 | 536 | 1,131 | |||||||||||
Denominator for diluted earnings per share—Adjusted weighted-average shares outstanding | 312,719 | 314,012 | 314,360 | 312,688 | |||||||||||
Basic earnings per share from continuing operations | $ | 0.49 | $ | 0.51 | $ | 0.80 | $ | 1.00 | |||||||
Diluted earnings per share from continuing operations | $ | 0.49 | $ | 0.50 | $ | 0.80 | $ | 0.99 | |||||||
The following table sets forth the number of employee stock-based compensation awards outstanding but not included in the computation of diluted earnings per share because their effect would have been antidilutive for the three and six months ended June 30, 2019 and 2018 (in thousands):
Three Months Ended | Six Months Ended | ||||||||||
June 30, | June 30, | ||||||||||
2019 | 2018 | 2019 | 2018 | ||||||||
Antidilutive securities: | |||||||||||
RSUs | 559 | 575 | 579 | 288 | |||||||
Stock options | 32 | — | 32 | — | |||||||
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Note 9. Accumulated Other Comprehensive Income (Loss)
The components of Accumulated Other Comprehensive Income (Loss) are as follows (in thousands):
Three Months Ended | ||||||||||||||||||||
June 30, 2019 | ||||||||||||||||||||
Foreign Currency Translation | Unrealized Gain (Loss) on Cash Flow Hedges | Unrealized (Loss) Gain on Pension Plans | Other Comprehensive (Loss) Income from Unconsolidated Subsidiaries | Accumulated Other Comprehensive (Loss) Income | ||||||||||||||||
Beginning balance | $ | (187,492 | ) | $ | 11,637 | $ | (7,884 | ) | $ | (7,115 | ) | $ | (190,854 | ) | ||||||
Pretax (loss) income | 5,602 | (9,418 | ) | — | — | (3,816 | ) | |||||||||||||
Income tax effect | — | 2,230 | — | — | 2,230 | |||||||||||||||
Reclassification of unrealized (gain) loss | — | 2,013 | 37 | — | 2,050 | |||||||||||||||
Reclassification of deferred income taxes | — | (475 | ) | (9 | ) | — | (484 | ) | ||||||||||||
Other comprehensive income from unconsolidated subsidiaries | — | — | — | 2,321 | 2,321 | |||||||||||||||
Ending balance | $ | (181,890 | ) | $ | 5,987 | $ | (7,856 | ) | $ | (4,794 | ) | $ | ||||||||