LKQ Corporation (LKQ) Q2 2019 Earnings Report, Transcript and Summary

Good morning. My name is Jack, and I will be your conference operator today. At this time, I would like to welcome everyone to the LKQ Corporation's Second Quarter 2019 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] I would now like to turn the call over to Joe Boutross, Vice President of Investor Relations. You may begin your conference.

Thank you, operator. Good morning, everyone, and welcome to LKQ's second quarter 2019 earnings conference call. With us today are Nick Zarcone, LKQ's President and Chief Executive Officer; and Varun Laroyia, Executive Vice President and Chief Financial Officer. Please refer to the LKQ website at lkqcorp.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. These include 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 reports 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. Hopefully, 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 next few days. And with that, I am happy to turn the call over to our CEO, Nick Zarcone.

Thank you, Joe, and good morning to everybody on the call. We certainly appreciate your time and attention at this early hour. This morning, I will provide some high level comments related to our performance in the second quarter, and then Varun will dive into the segments and related financial details, before I come back with a few closing remarks. When taken as a whole the second quarter of 2019 played out largely as we anticipated when we announced our first quarter results 90 days ago. There were both some clear positive movements and some disappointments, but we are encouraged by the overall result. On the plus side our North American segment experienced a significant uptick in both gross margin and EBITDA margin, which gives us confidence that our disciplined approach to the market and keen focus on controlling our cost are creating positive outcomes. Also our global focus on trade working capital management lead to significant cash generation, which was well ahead of our 2019 expectations. While there were some positive items related to the timing and we will give a bit back as we move through the remainder of the year, we are ahead of our initial plan from a free cash flow perspective for the first six months and we believe we will remain so for the balance of year. On the plus side, we knew we had very difficult year-over-year revenue growth comparisons with respect to both our North American and European segments, but the organic revenue growth came in below our tempered expectations. Additionally, there was one less working day in Europe in the second quarter of this year compared to last. So it's important to focus on the same day result, there is no doubt that the soft macroeconomic conditions across Europe are weighing on our industry and our revenue comparisons. We are performing better than many of our peers, but organic revenue in Europe was down and that softness lead through the operating margins. And finally, by quarter end scrap prices fell further 20% from the March 30th levels, which impacted Q2 results and will continue to weigh on our result for the balance of the year. Now onto the quarter. As noted on Slide 5, revenue for the second quarter of 2019 was $3.25 billion, a 7% increase over 3.0 billion recorded in the comparable period of 2018. Parts and services organic revenue growth for the second quarter of 2019 declined 2.1% on a reported basis, but when adjusting for the one less selling day in Europe the decline in organic revenue or parts and services, was 1.3%. Net income was $150 million compared to the $157 million for the same period of 2018, diluted earnings per share for the second quarter 2019 was $0.48 as compared to $0.50 for the same period last year. However, the second quarter of 2019 results included a non-cash impairment charge of $25 million net of tax. Regarding this impairment charge as we reported last quarter, we intend divest a few of our non-core business units over the next year and thus have recorded related assets and liabilities held for sale. Each period we evaluate the recoverability of the carrying value of these assets. In the second quarter, we concluded that the expected recovery would be less than carrying value, and as a result we recorded an impairment charge of about $0.08 a share, which is excluded from our calculation of adjusted diluted EPS. On an adjusted basis net income was $204 million an increase of 6% compared to the $192 million reported for the same period of 2018. Adjusted diluted earnings per share for the second quarter of 2019 were $0.65, compared to $0.61 for the same period last year, a 7% increase. With respect to capital allocation, during the quarter, we repurchased approximately 4.4 million shares of our common stock returning approximately $120 million of capital to our stockholders. Since initiating our plan in late October 2018, the Company has repurchased 9.3 million shares for a total of $251 million. Let's turn to the quarterly segment highlights. As you will note from Slide 7, organic revenue for parts and services for our North American segment declined [four tenth] (Ph) to 1% in the second quarter of 2019. As anticipated the PCW glass business and the airplane recycling operations exhibited a decline in same day growth, while the largest part of our North American segment that being in the automotives salvage and the aftermarket parts operations exhibited positive same day growth of approximately [seven tenth] (Ph) to 1%, while our focus on driving profitable revenue growth has the result of shaving off some low margin revenue it has the material positive benefit our margins. We continue to form well in North America, especially when you consider that according to CCC collision and liability related auto claims were again down 2.6% year-over-year in the second quarter. This softness was nationwide with 40 of the 50 states recording a decline in repairable claims. Additionally miles driven has slowed with the lower growth coming from increased vehicles and operation versus miles driven per vehicle and increase in the number of people working from home and the shift towards online shopping. Despite some macro industry challenges on the top-line and facing another tough comparison against the second quarter of 2018, our North America's team's focus on profitable growth drove excellent year-over-year margin improvements. Segment gross margins were 44.1% and EBITDA margins were 14.4%, reflecting improvements of 100 basis points and 130 basis points, respectively, when compared to the second quarter of last year and representing some of the highest level in the history of the Company. Furthermore, when we move into self-service business, the business unit that experienced the greatest downward impact on margins from the decline in scrap prices. Gross margins and EBITDA margins for the rest of our North American segment were up 160 basis points and 190 basis points, respectively. Bruin will address this some more detail, but I wanted to highlight the positive results from our margin enhancement efforts. We also continue to grow our parts operations with aftermarket collision SKU offerings and the total number of certified parts available growing 5.4% and 11.5%, respectively year-over-year in Q2, related to certified parts as some of you may be aware, in late June LKQ receive notification from NSF International that it will discontinue its automotive parts certification business and affiliated automotive certification and registration programs effective September 30th of this year. Many parts which are certified by NSF are also covered by CAPA a largest certification body and we are confident going forward that discontinuation will not have a material impact on our certified parts availability. Moving to the other side of the Atlantic, our European segment achieved total parts and services revenue growth of 18%, primarily driven by the acquisition of Stahlgruber. Organic revenue growth for parts and services in the quarter of 2019 declined 4.3% on a reported basis and was down 2.8% on a same day basis, which was below our expectations. As noted by other public companies with European exposure, the softness is an overall industry headwind not an LKQ specific issue. Indeed our performance on a relative basis appears to be fairly strong, which gives us confidence that we are not losing share. Additionally, the diversification of our geographic footprint in Europe generally reduces the volatility in our segment performance because we are not overly exposed to reliance on any one specific country, while we don't disclose country-by-country detail, I will note that Italy was the softest in terms of organic revenue growth and the Eastern block was the strongest, albeit still below its historically high levels. Europe has seen many of its economy slowing as evidenced by negative or flat GDP growth and lower new vehicle sales. Discussions with our suppliers and other industry participants have confirmed the downward pressure that poor economic growth across the continent is having on the European parts marketplace. The consensus view is the soft economic conditions have led to an initial deferral of repairs and maintenance. While a near-term headwinds, we believe that core automotive maintenance can only be deferred for so long and the demand will eventually rebound that said we anticipate the soft industry conditions will continue through the balance of 2019. We believe our team has done a reasonably good job of reacting to the new revenue paradigm, but the revenue decline have resulted in a deleveraging of our operating expenses, and lower margins when compared to the prior year. Lastly on Europe, during our investor day back in May 2018, we outlined some of the key categories of focus designed to drive the future performance of our European enterprise. There were both some near-term and longer activities identified and we are making good progress on each of these initiatives. Since them we have also spent considerable time strategizing about how to best optimize the strength of our various businesses in Europe and to that end, we have engaged with a third-party consulting firm to assist in this ongoing review. Once complete, we will likely settle on an even broader and deeper array of initiatives than those highlighted a year ago. To be clear, the primary focus of this optimization project is to create an even stronger enterprise and to enhance our already leading competitive position in the markets in which we operate, by providing a best-in-class customer experience. To do that across our European platform, we intend to transform and more fully integrate the European businesses to operate more as a single entity. The transformation will be designed to allow LKQ Europe to take advantage of its scale and be more efficient entity. We anticipate most of this analysis will be completed in the next two months and we are currently targeting a call with the investment community in the second week of September, so we can share some of the key highlights of the project including the anticipated long-term benefits of the optimization initiatives, as well as the related costs required to complete the transition. Now let's move on to our Specialty segment. During the second quarter, specialty reported flat total revenue growth with organic revenue growth for parts and services of 1/10 of 1%, being offset by negative impact from currency. Specialty witnessed particular softness in Canada, which accounts for about 10% of the segments, revenue, largely related to Canada’s weak economy. Additionally RV part sales were off slightly due to lower dealer retail sales across all regions. Our Specialty team is laser focused on spending controls, which will continue to help offset the impact of lower revenue. Despite the softness, light truck and SUV star rates still running at healthy levels and the number of RVs on the road are at an all time high, favorable dynamics for our RV business and the RV replacement part offerings. Moving on to corporate development. It was a relatively quiet quarter from a corporate development perspective, closing on just three smaller transactions, including two companies in the United States and one regional distributor in Belgium. For a total net consideration of $38 million. Our pipeline of opportunities remains quite healthy, and we will continue to acquire businesses that can add value from a customer offering or geographic perspective. Additionally, our development team continues to make solid progress with our assets held for sale efforts and during the quarter we entered into a definitive agreement to divest a small operation in Europe, which we expect to close in the third quarter. Finally, during Q2 we opened up three branches in Western Europe, and one in Eastern Europe, while closing five underperforming locations, including one in Western Europe, and four in Eastern Europe. And with that, I will now turn the discussion over to Varun, who will run through the details of the segment results and discuss our updated 2019 guidance.

Thanks, Nick, and good morning to everyone joining us on the call. Overall, we feel that the second quarter was a qualified success, providing some positive developments in our North America segment and also free cash flow generation, while also offering a few areas for improvement. Before diving into the results. Let's start with the key financial highlights. Operating cash flows in the second quarter were $461 million, the highest quarterly amount in the Company's history by a factor of more than two times. Free cash flow from the quarter totaled $413 million dollars, or $282 million higher than the same period in 2018. We have talked about the past few calls about our emphasis on cash flow generation. And I want to thank our teams across all three segments for their efforts to deliver substantial year-over-year growth. We are raising a full-year guidance for free cash flow, more details a little later. The strong cash flows enabled us to buy 4.4 million units of LKQ stock for approximately $120 million in the quarter. Additionally, we also paid down debt by $220 million in the quarter and in the six months through June 30th, have paid down $281 million. Returning cash to our shareholders, while reducing our net leverage ratio speaks to the strength of our business to generate strong consistent cash flows. Our North America segment was able to withstand some revenue softness to process highest segment EBITDA margin percentage since the second quarter of 2017. I want to commend the North American management team for taking a proactive approach to protecting margins to offset inflationary pressures, and proactively working to optimize its cost structure. Our European specialty segments also face soft revenue and we are taking actions in both segments to advance our stated strategic objectives and address current market conditions. Last quarter, we disclosed our plans to divest certain low margin business that fall outside of our core operations in geographies. This quarter, we are announcing a restructuring program that we expect to enhance our competitiveness in the current macroeconomic environment. The restructuring program covers all three of our reportable segments and advances our efforts to eliminate underperforming assets and cost inefficiencies. With underperforming assets we intend to close branches and warehouse locations that are not supporting a sufficient return on investment. Our current plan includes approximately 40 locations across the business, both in North America and Europe. We intend to migrate as much of the revenue as possible from these locations to other facilities in the LKQ network, but there will likely be some low margin revenue loss as a result of the closures. The restructuring charges will include facility closure costs, such as lease termination fees and moving expenses to relocate inventory and equipment. Additionally, through this process we have identified selective personal reduction that will benefits future periods, but will require upfront severance that will be charged to restructuring. We estimate that the restructuring program will cost approximately $25 million to $30 million over the next year to implement and will generate savings of a similar amount on a run rate basis. While this program represents a significant move forward in our plans to improve our competitiveness we will continue to evaluate our businesses and cost structure to identify further opportunities for simplification and cost efficiency. Regarding Europe the restructuring program was aid our efforts to deliver sustainable double-digit segment EBITDA margin. These efforts are part of, but do not reflect the entirety of the optimization project that Nick referenced earlier. In conjunction with European margins I want to highlight that we expect various integration costs such as ERP implementation to have a negative impact on that segment EBITDA margin over the implementation timeline. We have incurred some of these cost in the past, including in the second quarter, but expect some acceleration as the integration projects ramp-up. We think it will be important for investors to understand the nature and amount of these enablement costs and therefore we will provide disclosure of the expenses incurred as part of our quarterly reporting cadence. Now I will cover our consolidated and segment results, to save myself on words when I refer to net income and diluted EPS. Please note that I will be referring to the amounts from continuing operations attributable to LKQ stockholders. In addition Nick covered the details on net income and earnings per share. So I will not repeat. Please turn to Slide 12 and 13 of the presentation for a few points on the consolidated second quarter results. The consolidated gross margin percentage increased 10 basis points quarter-over-quarter to 38.4%, driven by 100 basis points improvement in North America. While Europe was flat compared to 2018 as we discussed previously, there is a negative mix impact at the consolidated level as the lower gross margin European segment makes up a larger percentage of the overall results and hence has a dilutive effect on the consolidated margin. The mix impact will be less impactful going forward now that we have annualized the Stahlgruber acquisition. Our operating expenses increased by 40 basis points quarter-over-quarter with a rise in our European segment. Restructuring and acquisition related costs were $8 million as a result of ongoing expenses related to acquisition integration activities previously disclosed, as well as some initial charges of approximately $5 million from the restructuring initiatives. Interest expense was favorable by $2 million or 6%, compared to the second quarter of 2018. going to both lower interest rates and lower average debt balances. Moving to income taxes, our effective tax rate was 27.1%, which is roughly in-line with our full-year estimate. Please turn to Slide 16 for highlights on segment performance, starting with North America. Gross margin was 44.1% or 100% basis points higher than last year as I previously mentioned. For the most part, the margin expansion reflects the continued benefits of pricing initiatives in both our aftermarket and salvage operations, as well as effort in our glass business to get recognized for the quality of service and the breadth and depth of inventory that we provide and renegotiate underperforming contracts. We had an additional non-recurring benefit of 25 basis points related to an insurance settlement that was realized in the quarter. The self-service operation was a drag segment gross margins, with a quarter-over-quarter decrease due to scrap pricing. Sequential changes in scrap prices had an unfavorable impact of $2 million for the quarter, compared to a positive impact of $4 million in the second quarter of 2018, creating a $6 million year-over-year negative swing. Operating expenses were unchanged at 30.1% relative to the prior year, given the pressure on both parts and services and other revenues, and the resulting net leverage effect, holding the percentage flat and actually reducing the absolute dollars by $4 million is a very respectable outcome. This quarter is the first quarter without a quarter-over-quarter increase in expense as a percentage of revenue since the third quarter of 2017. Wage inflation and higher medical costs continue to negatively impact our operating leverage. Though the North America team had effectively managed expenses to counteract a portion of the impact. We generated further savings through improved safety performance have seen through a reduction in workers compensation themes and a favorable variance in bad debt expense from ongoing collection efforts. In total segment EBITDA for North America was $190 million up $15 million compared to last year. And as a percentage of revenue was up 130 basis points from the prior quarter. We have been talking about North America's margin enhancements over the last year, and the numbers show the progress that is being made. A year ago we disclose a 130 points decrease in segment EBITDA margin in a period with 7.4% organic parts and services revenue growth. This year, North America recovered the full 130 basis points in margin, despite the 40 basis points organic parts and services revenue decline. We are also encouraged by the fact that the North America team still feels that there are additional cost efficiency opportunities available and is working on plans to achieve these savings. Moving on to the European segment on Slide 19. Gross margin in Europe was 36% flat to the comparable period of 2018, centralized procurement yielded a 50 basis points improvement from supplier rebate programs as we continue to benefit from the Stahlgruber synergies. With respect to operating expenses we experienced a 100 basis point increase on a consolidated European basis versus the comparable quarter from a year ago. The quarter-over-quarter sales decline, partially attributable to one fewer selling day in the quarter had a negative impact of operating leverage. Given the segments relatively high cost base primarily with personnel costs. Additionally, there was a 30 basis points headwind associated with the ongoing transformation efforts, primarily the ERP and the broader project that Nick referenced. Partially offsetting we had a 30 basis point decrease going to reduce bad debt expenses as the team's focus on collection efforts. European segment EBITDA totaled $116 million a 5% over last year. As shown on Slide 21 relative to the second quarter of 218 both the Sterling and the Euro each week by approximately 6% against the U.S. dollar causing a negative effect from consolation. This was offset by favorability in transaction gains and losses netting to an immaterial impact on adjusted EPS for the quarter. Segment EBITDA as a percentage of revenue was 7.7% for the quarter down 90 basis points compared to the same period a year ago. As noted earlier, have taken action through restructuring programs throughout our European operations and we continue to believe that we have the best assets in Europe and are poisoned to achieve significant integration synergies. As Nick mentioned earlier, we will provide an update to the investment community in September on the European transformation project. Turning to the specialty segment on Slide 22, gross margin declined 130 basis points in the second quarter, relative to the comparable period a year ago. Office amount 60 basis points related to higher net product cost as of supplier discounts were lower than those realized in the prior year. The balance related primarily to unfavorable product mix. Operating expenses improved 40 basis points with reductions in personnel and freight costs more than offsetting higher facility expenses related to warehouse expansion projects that went live after the second quarter of 2018. Segment because for specialty was $52 million, approximately four million down from the second quarter of 2018, and as a percentage of revenue down 90 basis points to 12.7%. The specialty team is taking cost actions to protect its margins, aimed at producing benefits in the second half of 2019. Let's move on to liquidity and the balance sheet. As presented on Slide 24 and as previously mentioned, you will note that our operating cash for the second quarter was $461 million or 152% higher than the second quarter of 2018. On previous calls we have talked about driving working capital improvements and the team did a phenomenal job this quarter. It was a total team effort as all three of our segment's contributed with North America and Europe posting significant gains. Our key working capital accounts that is trade receivable, inventory and payables generated a cash inflow of $189 million this quarter compared to an outflow of $49 million in the second quarter of 2018. I wanted to especially mention to the North America team for working with our vendor partners to ensure LKQ receive market conventions payment terms, no different than other large customers and to the European team for its disciplined purchasing approach in light of soft creating conditions. As you would expect, I do want to offer a few words of caution on the strong year-to-date cash flows. There will be ups and downs in working capital and cash flows as we move throughout the year, based on seasonality and the timing of certain transactions. We will also actively use our liquidity to pursue opportunities that support our business objectives, for example, in funding the restructuring costs and those of our key vendor partners by making selective inventory purchases. CapEx for the quarter was $48 million, resulting in free cash flow for the quarter for $413 million and $537 million on a year-to-date basis. And finally moving to Slide 25, as of the June 30th, we had $376 million of cash resulting in net debt of about $3.7 billion or 2.8 times last 12 months EBITDA. Now, I would like to spend a few minutes and provide an update on our annual guidance. Please note that the guidance assumes that scrap prices and foreign exchange rates hold at current levels. Additionally, the guidance continues to assume no material disruptions associated with the United Kingdom's potential exit from the European Union, currently scheduled to occur on the 31st of October. As Nick noted earlier, the second quarter came in-line with our expectations. North America performed well and we expect Specialty to bounce back in the second half of the year. We see challenges with European economic conditions holding for the remainder of the year. And despite the underlying businesses being resilient, the management team will adapt to the software market conditions by accelerating the integration and cost efficiency programs. In addition to simplifying by carefully evaluating various programs that may not deliver benefits in the near-term. As mentioned earlier, scrap metal prices have continued to trend down and British pound is trending lower, based on the ambiguity that continues to reign in the United Kingdom with a new prime minister and his very definitive views on Brexit. Given these scenarios, we are trimming our 2019 full-year guidance by 2.5%, or $0.06 at the midpoint for adjusted EPS, while increasing expected free cash flow for the year by $50 million. Let me run through the updated guidance figures. Organic parts and services revenue growth revised to 50 basis points to 2% for the full-year. Diluted EPS on a GAAP basis is updated to a range of $1.73 to $1.81 accounting for the first half activity primarily related to the non-cash impairment charge I referenced earlier. Adjusted diluted EPS in a range of $2.30 to $2.38. You will note that at the midpoint of the range, we are down $0.06 per share from a prior guidance. Of this, $0.035 relates to low scrap prices and FX rates relative to our prior guidance and the remaining $0.2.5 largely reflects the net anticipated ongoing softness in Europe in the second half. Cash flows from operations has been increased to a range of 800 million to 875 million and capital spending is reduced to a range of 225 million to 275 million resulting in a net increase at the midpoint to free cash flow for the full-year by $50 million, despite the trim in earnings. In summary, the second quarter have separate highlights shrink where our actions of bearing fruits such as North America margins and generating strong free cash flow that is funded the ongoing share repurchase program and debt pay down. However, the softer macro conditions in Europe and the volatility in scrap and FX give us full support and hence we have trigged a cost reduction and efficiency programs to adjust to the market conditions. Overall, we remain optimistic about our prospects for the future. Now I will turn the call back to Nick for closing remarks.

Thank you, Varun for that excellent financial overview. In closing I would like to review a few of the key initiatives discussed on previous calls that will continue to be points of focus during the balance of 2019. First, we will integrate and simplify our operating model. Second we will continue to focus on profitable revenue growth to create sustainable margin expansion. Third, we will drive better 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 you can see from the second quarter results these programs and targets are gaining momentum throughout the organization and the teams are actively working towards achieving the respective goal. I am proud of the momentum we have created with our second quarter performance and how our team of over 51,000 employees performed a various market challenges in both North America and Europe. Importantly, I want to recognize our leaders across each of our segments have embraced our productivity initiatives and the performance and compensation metrics, we have implemented as we progress through 2019 and beyond. I am confident these factors will create long-term value for our stockholders. I look forward to having you joining our European discussion in September and we will announce final details as we get closer to that call. And with that operator, we are now ready to open the call for questions.

Certainly. [Operator instructions] Daniel Imbro with Stephens Inc. Your line is now open.

Yes, thanks. Good morning guys, thanks for taking my questions.

Good morning Daniel.

Good morning.

Wanted to think about the European margin actually Varun starting with the gross margin-line. I think you said gross margin were flat year-over-year despite a 50 bip tailwind from procurement and we left some of the issues from Q2 last year, but if you could just kind walk through some of the puts and takes of what is going on in that line and then as comparison get more difficult in the back half, how you guys are expecting that gross margin on the trend in Europe. Thanks.

Yes. Absolutely Daniel and good morning and thank you for calling at the hour. Yes. If you think about our European gross margin it was flat and deep, so you actually read that correct. You really think about it in terms of while we did get the centralized procurement benefits with the organic decline coming through there is pressure on margins, right. And so, as you think about other competitors also out there, the one area where they go through to be able to kind of sustain the revenue side is on the margin peace of it. So margin did come under some pressure as a result of that. Nothing more, nothing less, we have always had those competitors are there. But clearly with a falling market as such, that is really where folks end up in trying to give value to their customers. So there were some pressure from that perspective. I think if you step back and think about it, while the headline number would suggest that the European segment EBITDA margins declined by call it 90 basis points a year-over-year. Put this entire piece into context, as you think about the fact that a year ago, Europe delivered at 8.3%, organic growth number. This year, the reported number is negative 4.3. That is 12.5 percentage points swing. And as you think about the fixed cost structure, largely you know a more so in the European Space. That is the kind of deleverage that ends up coming through. And even if we were to be able to hold flat, for example, rather than negative 4.3, if it were flat, and you were to run the math, the SG&A or the OpEx expenses would actually declined by 100 basis points with all other things being similar. So think about the deleverage that takes place in a market that is shrinking. And it doesn't just show up in the gross margin-line, it actually shows up in multiple lines, in terms of not being able to get the operating leverage.

Craig Kennison with Baird. Your line is open.

Hey , I'm sure there will be more questions on Europe. But I wanted to shift to North America and the collision business. How do you explain that soft collision trend? And to what extent is the total loss rate which appears to be climbing, resulting in fewer repairs and really just fewer opportunities for LKQ?

Good morning, Craig. This is Nick. Thanks for your question. We have a very deep and ongoing relationship with CCC. We get a lot of data from them on a on a quarterly basis. And when we sat with them a couple weeks ago, we asked them point blank, their perspective as to the decline in repairable cranes in particular, because that is really what drives our business. In general, they indicated that the winter of 2019 was a bit milder than 2018 and that has an impact of reducing collision volume, if you will. And there is no doubt that on April 1 beginning of the second quarter, right, the collision repair shops have less backlog, if you will, in 2019 than they did on April 1st of 2018. You are absolutely right. Total loss rates have continued to nudge their way upward just a bit. And on the margin that takes a few cars out of the repair shops and put some into the salvage auctions, which is not a bad thing for us, because we have more cars to purchase. Total loss rates for the June 2018 to May 2019 time period was 19.3% that compares to 18.7% for the June 2017 to May 2018 time period so up just about a half a percentage point or so. Miles driven, has really started to flatten out from May 2018 April 2019 up only [six tenths] (Ph) of 1% compared to the May 17 to April 18 time period and most of those miles there increase is in fleets as opposed to personal miles. What I would call the accident-prone portion of the population think about our teenagers out there and then maybe some of the very elderly, they are not in the fleet segment and so that they believe and we believe it’s having perhaps a slight impact as well. So the good news on a longer-term basis is that the number of cars in the sweet spot is up and APU continues to shift upward very slowly, but it does shift up a bit and we believe quite frankly that account for the positive spread between our organic growth and actually the negative repairable claims growth. And lastly obviously we were measuring against a 7% comp of Q2 last year and those comps will get a little bit easier in Q3 in a much easier in Q4.

Michael Hoffman with Stifel. Your line is now open.

Hi, I’m going to change gear completely and talk about cash. Looking at the revised guidance, my thinking about the second half correctly, if I take the midpoint of the net income in the free cash flow. It would suggest you do about 300 million in net income helps about 180 million of DNA and then setting that some of the other things in the cash flow statements unchanged other than working capital. That is the comment you made Varun, is there is about 140 million or 150 million walked back of working capital in the second half and that puts you at the midpoint of the cash flow from ops.

Yes Michael. So yes, good morning this is Varun actually. And yes I think the mechanic to fuel utilizing in your model from free cash flow or an OCF prospective are appropriate and I think if you also kind of look back into it, you just take 2017 and 2018 two prior years. We typically do have an outflow on create working capital in the second half verses the first half. So in terms of different ways to look at it, clearly with the slide frame of 20 million, 25 million at the midpoint for adjusted net income, don’t also forget that with the restructuring program that we called that also takes us back. So I would not say the usage on a working perspectives is about 140, 150 I think just take into account the lower earning plus also the restructuring that we called out that will be utilizing cash and then just in terms of the first half, second quarter use of free working capital. Overall the mechanics that you are thinking of are appropriate and hence both Nick and I referenced that there will be certain timing associated with payments. But we do expect there to be certain opportunities for us to be able to invest more on the inventory side, just given the state of the market on a broader basis. If not us, that is seen some on a softer revenues, it’s happening to competitors and we are certainly seeing it from some of the suppliers specifically over in Europe in terms of what they have been calling out. But thank you for the question, we are very pleased with the way cash is been coming through the business and really happy with the momentum that we picked up from the second half of last year and that is carried into 2019. We believe there is more to come.

Stephanie Benjamin with SunTrust. Your line is open.

Hi, good morning.

Good morning.

I was hoping if you could talk a little bit about just the headwinds we are seeing from the aviation, and glass businesses. And when you would - start wrapping those. I understand it's just kind of a comp because they are small businesses where small base, but you can see some nice swings quarter-to-quarter. So just first, just when we should expect to comp some of that going forward. And then additionally, if you could just walk through in a little bit more detail, just what is driving the kind of significant margin improvement in North America, whether it's pricing, just cost control, just as any - a little bit more color on how we can think about that going forward would be helpful. Thank you so much.

Okay, great. Well I will start. Clearly, we indicated in past calls, as it relates to our glass business, that when we bought the business, we inherited some less than profitable contracts. And so we have moved away from some of that revenue intentionally. That is all part of the idea of focusing on really profitable revenue growth. That comes with a decline in revenue on an organic basis, if you will. And sometimes you need to be willing to walk away from business. And that is what we have done there, if you will. That project and some of those contracts really started at the beginning of this year. So by the time we get into the late Q4, and first quarter, next year we will have fully anniversary that project. The aviation business, again, you need to keep in mind, which is also by the way, a negative drag on organic growth in both the first and second quarter. That is a business that is very, very lumpy. The average ticket sale there is not necessarily a few hundred dollars for our part, but we are talking tens of thousands, if not hundreds of thousand dollars for parts. So timing on a quarter-to-quarter basis can have big impacts. Again, our expectation would be - it's going to be tough sliding there for the rest of the year.

Stephanie this is kind of at the result. I think on your second part, the question about North America margin improvement, it’s actually is very, very tightly linked with what Nick started off by saying our focus on profitable revenue. Listen, we have talked about this in the past. Also, there are a number of businesses, there is a lot of revenue that is potentially available. And in the past, the company has taken advantage of it. But has been kind of looked into the market pressures, and really in terms of what is the contribution margin for that additional dollar of revenue, whether it be certain customers, whether it be certain product lines. We have consciously walked away from some of that. How should we say, lower margin or EBITDA free revenue. And yes, we did anticipate the organic growth numbers coming in as a result. And I think the way we would suggest is, Nick mentioned this in his overall comments. If we look at our core automotive parts and services business, which essentially is full service - and also aftermarket business, that business still grew about 70 basis points year-over-year, despite some tough comps from a year ago. So from that perspective, we are very happy in terms of where the focus by the team has been. So think about that specific piece, is this being conscious about the revenue that we go chase because there is cost associated with picking up the parts in the warehouse, delivering them in certain cases having to pay for the returns and so just being very conscious in terms of the revenue that we chose.

Bret Jordan with Jefferies. Your line is open.

Hey, good morning guys.

Good morning Bret.

Good Morning.

I will go back to Europe. Your peer in the space was commenting about some sequential - improvement around whether driven demand, I guess could if you talk about what you are seeing their sort of - if you are handicapping how much is economic and how much is weather and on the prior question just to add in, are we talking about the Fiat Chrysler battery distribution business as profit with sales.

So as it relates to Europe as a whole, your question I think really relates to what are we seeing here early in the third quarter and you know we have got basically three weeks worth of data which is not enough to former trend. Some of our operations are seeing a slight uptick on the revenue side, but again it's three weeks and we are headed into the big holiday season that being the vacation season over in Europe and so we are not going to - we are not working under the assumption if there is going to be significant uptakes in revenue growth in the back half of the year. We think its though slating, the reality is we talk to our competitors, we talk to our customers, the garages and obviously our suppliers and everyone is I think working under the assumption that these industry conditions are going to with us for a while. If they turn we think we will be a huge beneficiary of that, but we think it prudent to work on the - assumption that it’s going to be - these business conditions are going to be with us for the balance of year. On the your question as to the battery business. Again, we started that in 2018 as a new programs, so we fully anniversaried that we are continuing to distribute batteries on behalf of the FCA organization that being in the Mopar batteries to their dealers across the United States that is a good relationship and a good contract for us.

Chris Bottiglieri with Wolfe Research. Your line is open.

Hi, thanks for taking the question.

Good morning.

Hey, good morning. Really so we call in September, but I am a patient as our most investors, so want to cut it by layer what you have already told us and trying to think through what we do know already today. So as I understand it, there will be non-GAAP restructuring costs that you have laid out and then there is currently already a 30 basis point headwind from integration systems and that will not be non GAAP. You would expect 30 basis points to accelerate moving forward as you get further on those projects. And top of that as you go to the planning process there will be more potential cost to recognize these savings. So I guess the question is will those additional cost be non GAAP or those be just the headwind or earnings and how should we begin to think about 2020? I would think this would cause a decrease to European margins and free cash flow, but wanted to kind get anything you do know today would be helpful?

Chris, It's Varun out here. So yes, you are right and just for the broader attendees on the call also Nick did mention that in the second week of September we will provide an update on the various European initiatives that we talked about at the Investor Day last May. So there will be a full, deep dive associated with the various initiatives and really as to how we see the overall three plus year program that we talked about a little over a year. Your specific question with regards to restructuring, yes. But again, I do want to clarify the $25 million to $30 million of restructuring that we have triggered already. And you would have seen that in the second quarter numbers also. We have actually started that activity so it’s not as if you are starting it now. It actually impacts each of our three reportable segments, not only Europe. The other piece that I would like to call out is, with regards to the broader European optimization and integration program, the restructuring that we have currently talked about is not the entirety of that piece. So yes, if you play the tape forward, there will be a costs associated with integration. And really, the point is to kind of give the market some foreshadowing language with regards to transformation costs, right. There will be a cost associated with being able to integrate those businesses. And we will provide an update of that also in the September timeframe. And again, I think it just is helpful for the investment community to understand, business as usual versus costs associated with taking the business to the next level, and essentially digging the mood that much deeper around what we expect to be best-in-class businesses in any case. So there will be some costs associated with being able to make those investments, but also to get some of the cost structure that is currently embedded out there. But again, more on that when we get to the September review.

Ryan Merkel with William Blair. Your line is open.

Hey, thanks for filling in.

Good morning.

Good morning, Ryan.

Good morning. So I have two questions on Europe. So first what percent Europe segment sales, which you defined is more discretionary in nature. And the reason I asked them is trying to get a better understanding of the cyclicality that we might see if the Europe macro stay soft. And then secondly, on the Europe optimization plan, what is the main scope of work for the consultants that you hired? And the reason I ask that is because you are already restructuring and I presume you have already looked at divesting assets. Maybe just a little more clarity there would be helpful.

Yes, so I will start with the second half of that question, Ryan. It's important to keep in mind that the restructuring activities and what I call the optimization project, they are linked, but they are separate. Restructuring initiatives are all about kind of right sizing our business for the current market conditions. And that involves a consolidation of facilities and the elimination of lower margin activities at a local level as Varun described. The optimization project in Europe is really a longer term focus. And really, the intent is to gain efficiencies by morphing the European Organization and operating structure from what today is a fairly independent country based model to a slightly more integrated model that leverages a higher level of centralized resources. To be clear, in Europe we sell into local markets and our focus on customer service needs to remain to be a very activity, so nothing is going to change their, but there are many activities where we can create a better customer experience across the European platform and become more efficient by utilizing a more centralized structure, particularly when you think about things like procurement, category management, logistics IT and alike. Getting from here to there is no easy task and it’s not going to happen overnight, it’s going to happen over several years, but we believe and some of the initial work with our outside consultants have clearly documented that there could be significant benefits of doing this and that is why we are headed down the path. There are costs to get there, things like a new ERP program which is going to get kicked off - which was kicked off back in October is going to roll out over the next four to five years. We need to create a central European office as opposed to the virtual structure that we have today. We need to establish some off shore or near shore back office infrastructure activities and alike, we are in the middle of the process, we are midflight, if you will in identifying and quantifying about the opportunities and expenses to get us there. And that is really we are going to chat about coming September. So the focus of the program largely is harder shift - kind of the org structure, both from is truly a structure perspective and operating perspective from being a last integrated independent country model to a more integrated central model and that is going to require a lot of heavy lifting to do that, but the benefits we believe are quite significant and at the end of the day it will create a better customer experience, which will help drive revenues and alike. As it relates to discretionary versus nondiscretionary the reality is most of the parts that we sell in Europe are parts for day-to-day service on your car and in some cases take if your battery is out and you can’t crank your car over right, that is a nondiscretionary item you need to go get a new battery, so your car will work. but what we find on the margin is when economy gets soft European consumers are no different than American consumers. The first thing you do when things start to get high is you take a hard focus on your household cash flow and you tend to buy down. And so we are still selling a battery to the shop or maybe instead of the harder battery with the seven year warranty that goes out at a pretty high price point the consumer gets the more value line battery that is cheaper for them. We still sell a battery, but it’s a lower revenue battery and it’s a lower margin dollars batteries. And so it’s hard to a put number Brian as to what is absolutely discretionary versus nondiscretionary. You know when your oil light comes on to say it’s time to change oil, you don't have to go do that tomorrow and if you are trying to save some money. You may differ that for few months. You know earlier in the spring I was at a [CAPA] (Ph) conference, CAPA is a big trade organization for the parts manufacturers in Europe, and had an opportunity to meet with the heads of almost all of our major suppliers, a lot of our other peers in the distribution side of the industry and alike. And our suppliers indicated that they saw their aftermarket activity start to trend down late in 2018. And so we are not even a year into it. So I think we have got - and that is why we are a little bit cautious in the expectations for the back half of the year. I think it's going to be another six months before we begin to kind of lap the impact of the of the soft environment.

This ends the time allotted for the Q&A session. I would now like to turn the call back over to Dominick Zarcone for final remarks.

Well we certainly appreciate your time and attention this morning. As I indicated earlier, we are encouraged about the progress that we have made in many regards, particularly the margin structure in North America, the cash flow numbers, which were terrific. We have a lot of work to do in Europe to understand that and we look forward to sharing with you in mid-September, kind of the update on those activities. So again, I appreciate your time and attention and we will talk to you in September. Thank you.

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