Good morning, my name is Carol, and I will be your conference operator today. At this time, I would like to welcome everyone to the LKQ Corporation's Second Quarter 2020 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 Boutros, Vice President of Investor Relations. You may begin your conference.

Thank you, Operator. Good morning, everyone, and welcome to LKQ's second quarter 2020 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-Q 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. As normal, we are planning to file our 10-K in the next few days. And with that, I'm happy to turn the call over to our CEO, Nick Zarcone.

Thank you, Joe, and good morning to everyone on the call. This morning, I will provide some high-level comments related to our performance in the second quarter, before discussing some of the key industry metrics that are impacting the revenue trends in each of our segments. Varun will then dive into the financials with the key focus on the impact of the measures we initiated in late March across the entire organization to right size the cost structure and maximize cash flow. He'll also discuss our liquidity and the strength of our balance sheet, before I come back with a few closing remarks. So much has happened since the pandemic began sweeping across the globe. And while some of you may sense the worst is over, others likely feel we're still in the center of the storm. It all depends on where you live. But one thing is universal. We all owe an incredible debt of gratitude to those on the frontlines. The doctors, nurses, first responders, and all those bring themselves at risk to serve their communities and the communities where LKQ operates across the globe. To them, I send a great big thank you and offer sincere appreciation from the LKQ family for their heroic services. In light of the environment, our second quarter results were very strong, and materially ahead of our expectations when we chatted 90 days ago on our first quarter call. Our ability to quickly and successfully navigate through incredible decreases in demand to report strong margins and earnings and even better cash flow is a testament to the courage of our global leadership team to make the hard decisions to protect our company. As you all know by now, the efforts by governments around the world to flatten the infection curve had a…

Thanks, Nick, and good morning to everyone joining us on the call. When we reported our first quarter results in April, we were facing a great deal of uncertainty about how the pandemic would play out across the globe. We spent the last few months operating in a very volatile environment, making plans and adapting those plans for the rapidly changing conditions. While the detailed actions shifted over time, we did not waver in our key objective to protect our employees, the communities in which we operate and the business. In my remarks, I'll discuss the actions we took to manage the business during the second quarter, and to position the company for ongoing success to eventually emerge even stronger. So before I get into this topic, I will cover the financial highlights from our second quarter. As Nick described, the negative impact of COVID-19 on revenue was not as severe as our internal forecasts suggested as we entered the quarter. The favorable revenue outcome combined with the benefits of aggressive cost reductions produced a solid profitability and cash flow result for the quarter. It takes a special set of circumstances for me to describe roughly 20% decreases in segment EBITDA dollars and adjusted diluted EPS as a solid result. We know that quarter-over-quarter comparisons are difficult as a result of the COVID-19 impact on 2020. When revenue declined by $622 million, a decrease in profitability in dollar terms is inevitable. Since growth didn't make sense as a benchmark, we had to think differently about what defines success in this environment. We challenged our field teams to drive margin improvement and be as efficient as possible in operating their businesses. And when we look to the segment EBITDA percentage as an indication of their abilities to scale the business model…

Thank you, Varun. In closing it is clear that our focus on profitable growth, enhanced margins, and better free cash flow generation positioned us well as we entered this unexpected turn of events. Our teams have been agile and have done a fantastic job of tackling the cost structure and delivered with tenacious focus this quarter generating solid margin and free cash flow in the midst of a negative growth environment. What we can focus on is to hear and now and address the dynamics that we can effectively control. And that focus was validated by our second quarter results. In my continued communication with our broader employee base, I have indicated we will get through this together and come out a stronger, wiser, and better positioned organization that continues to be LKQ proud. Clearly, our teams across the globe have embraced this message, and for that, I am thankful and proud of each and everyone's efforts to carry our mission forward, regardless of the hurdles presented. The global teams have done a terrific job of responding to the conditions created by the pandemic, and I'm highly confident in their ability to continue to create successful outcomes. Lastly, I want to announce that we will be hosting our third Investor Day, the morning of September 10, and we look forward to your participation. Given the pandemic, this will be a virtual event, and we will issue a press release in the coming weeks with details for this session with our broader global leadership team. Operator, we're now ready to open the call to questions.

Thank you. [Operator Instructions]. Our first question this morning comes from Michael Hoffman from Stifel. Please go ahead.

Hi, thank you. So I just want to make sure I understood, Nick, your comment about this June ended at down about an 8% but July is seeing some leveling a little pullback. So the way we should think about this is 3Q is probably not as good as June, but it's clearly better than 2Q?

Good morning, Michael, and thanks for the question. Absolutely as I mentioned in June, the organic revenue trends were down 14% for North America, 8% for Europe, and up 14% for Specialty. And indeed based on what we've seen thus far, July has given up a bit in both North America and Europe, and even more so in Specialty. So if the current trends persist, you'd be looking at an environment where North America is probably off 15% or so, Europe off 10%, and Specialty being flat with last year. We would hope, obviously, that the world will make continued progress, both in terms of controlling the virus and opening the economies. But right now, there's little hard evidence that that's going to happen.

Our next question comes from Stephanie Benjamin from SunTrust. Please go ahead.

Varun, you gave obviously very tremendous cost cutting initiatives that came into place in the second quarter. And you walked through a lot of those are going to kind of reverse some as we get to the 3Q, can you kind of walk us through what we would expect to be sustainable at these new revenue levels as we look to 3Q from the cost cutting initiatives?

Yes, absolutely, Stephanie, good morning. And thank you for the question. I think that is a very, very relevant question to ask. And as you kind of go back in terms of 90 days ago, when we were talking about how we were seeing Q2 play out and really what actions we had initiated, it was the key parameter there was what level of demand we would be seeing. So long story short, it really depends on the level of demand recovery though, we are clearly focused on retaining savings through operational efficiencies. And frankly as we all learn to do more with less. So for example, in the second quarter while we had roadmapped a significantly higher cost management set of actions, it was predicated by revenue levels being done 40% to 45%. And that's what the $80 million to $90 million was related to on a monthly basis. We ended up 19% down, so about 50% to 60% better than what we had initially anticipated. Though I think from a cost takeout perspective in the second quarter, we certainly pushed hard and not just on the income statement from a cost management perspective, but also obviously on the balance sheet that you've noted. So as you kind of think through on -- for the remainder of the year, it all depends on the level of demand recovery that we see. And then clearly, as you know, we have a restructuring program that's currently underway. And that really will be permanent cost savings in any case. So later 2019, and then also at the end of Q1, we had called out restructuring charges. Those are proceeding as expected really the full run rate comes towards the back end of the year.

Our next question comes from Gary Prestopino from Barrington Research. Please go ahead.

Gary, good morning. I don't think we can hear you. You may be on mute.

And --

Can you hear me now, right?

Yes.

Yes, we can hear you now, Gary, yes.

I'm sorry about that. You said you had, I want to just get back to these expense reductions. You said you had about $80 million permanently in North America that you think you're going to keep, I think I jotted that down as you were talking; is that correct?

That is correct, Gary. Again, that's a combination of people of France closing some facilities, getting rid of some excess distribution assets, and like.

And then just very quickly --

And that's an annual number, Gary.

Okay. So that has 80 out of the 162, so far, that's quantifiable because just picking up on the prior question, Varun, you kind of danced around that a little bit. And I think, in this kind of environment, we just -- we're trying to get a handle on what exactly is going to be permanent and what isn't? And then just real secondly, could you just maybe give us an idea of what the situation is in Europe in terms of economy still being locked down or are they at a better stage than we are in the U.S. or still behind us?

I'll take the back half of that question. And indeed, the European economies are more open than the United States. And I think you've seen that in some of the miles driven differences, fuel consumption, and the like. That said, I mean, we have seen some spikes in Europe in particular cities or particular countries. So the virus is not gone from the European landscape. Obviously, you're probably well aware of what's happening in this country with incredible spikes, both in positive cases and fatalities in many, many states in the U.S., so there's pretty big regional differences here in the U.S., but taken as a whole Europe is doing better than we are.

Our next question comes from Bret Jordan from Jefferies. Please go ahead.

On the U.S. collision business where you seem to be really outperforming the repairable claims number, could you give us any color as to what might be driving that? Is that a share gain against alternative, other alternative parts or increased alternative parts within the repair mix?

Yes, there's not one magic bullet there, Bret. The reality is CCC repairable claims down 44% our volumes in North America is down 22%, so obviously good outperformance. We think there are a bunch of different contributing factors. First, the OEs were shut down for several weeks. Both their manufacturing facilities and many of their dealers were also closed for a few weeks as well. So if you can't get an OE parked to the shops, they tended to then go to alternative part usage. So just like the GM strike helped us in the fourth quarter of 2019, we believe, there was some, not a huge but some benefit from the OE disruptions caused by the pandemic here in the second quarter. Obviously, we remained open, and we had high levels of inventory and we're eager to serve all of the customers who are looking for parts. Keep in mind that half of the salvage business is really mechanical parts as opposed to collision parts. And there's no doubt that the mechanical parts performed better during the quarter. And our remanufacturing business which really sells remand engines and transmissions was particularly strong in the second quarter. And then self-service which normally doesn't get a lot of fanfare, actually performed quite well. They had year-over-year increases with admissions, the number of people actually paying to come into our yards, and in the revenue from selling parts, well both those metrics being up on a year-over-year basis. So just want to re-emphasize that negative growth in 2020, if the sector returns to 2019 levels, probably sometime in 2021, we're going to show really solid year-over-year growth but off of a low base in 2020. And probably not going to be sometime until 2022 until we have a true apples-to-apples comparison. While you then ask it longer-term we do not see the pandemic it's causing a fundamental shift in the organic growth in our industry. Again while there will be couple of years of not having good apples-to-apples comparison, we think that the core attractiveness of alternative parts stays firmly in place.

Our next question comes from Craig Kennison from Baird. Please go ahead.

Hey Nick, good to hear from you. Obviously the pandemic is the big story on the quarter. But I'd love to hear about your progress on 1 LKQ Europe, whether it comes down to procurement or skew reduction or route optimization, just love to hear what you're doing on that front?

Yes, absolutely correct. We believe that the core operational efficiencies identified and communicated to the market last September are still valid and achievable. We obviously did not anticipate the pandemic that was going to have such a profound impact on our demand. So while the longer-term benefits will be achieved, the exact timing and sequencing of all those various initiatives that we set forth back in September will likely shift around a bit. Some of the items are getting pulled forward while other items are getting pushed back. As we talked about, in September right, a number of the items that we had on the drawing boards, and we're working towards really involved the point groups of our existing employees, work-in project teams to come together in a really collaborative fashion and to work on projects in addition to their day jobs. Given the travel restrictions and the need to have 120% of everyone's focus on dealing with the issues caused by the pandemic, some of those project teams quite frankly were put on the sidelines during the second quarter because it was more important to focus on here and now as opposed to margin improvements over the next two to three years. I'm happy to say, effective July 1, all those project teams are back up and running. They're a little bit behind original schedule, but they're back up and running. Some of the items like procurement, which you highlighted we've seen the starting point shift because of the pandemic. When your volume of parts purchased fall by 15% to 20%, because of the pandemic, we have some pretty serious discussions to be had with our suppliers. We think ultimately, it's all going to come back in line, but the timing may be off a little bit. But rest assured we believe there's still 300 basis points of margin improvement in Europe. And that was based on a starting point of around 8% EBITDA margins right. The pandemic has not only compressed the revenue, but obviously there was negative leverage, as a result of the fact that some of our costs are fixed in nature. So we're really driving forward on two fronts. One is to get the starting point back to that 8% level, and then, second, to get the benefits of all the discrete initiatives that we identified as part of the 1 LKQ program. So we're going to be working hard on both fronts. On France, our CEO of Europe is going to be joining us on Investor Day, this coming September 10. And part of his presentation will cover a very detailed update on the 1 LKQ program but hopefully that gives you a little bit of sense as to where we are.

Our next question comes from Daniel Imbro from Stephens. Please go ahead.

Yes, thanks guys. I appreciate all the color this morning.

Good morning.

Wanted to follow-up on something I think you mentioned last quarter, Varun, just the competitive backdrop. Obviously, we've seen some smaller bankruptcies across Europe. I'm sure some of your competitors in North America are struggling and you're gaining share there. But how is the competitive landscape shifting, are prices going higher? Are you seeing it easier to push those through? Any kind of update there you can provide?

Yes, I think it's a great question. And again -- it again --is -- given the pandemic that's sweeping through; there are a bunch of puts and takes that are coming through. So for example, in North America, when this kind of started off, call it end of March, beginning of April, for example, there were a number of businesses that kind of closed their doors, simply put, because they were kind of stay-in-shelter items or measures, same thing over in Europe also. Then we did see in North America, for example, when the CARES Act, the PPP came out, we saw a number of our competitors reopen their doors, and they were out there open for business and so again that that kind of competitive landscape picked up. But if you think about, where our North America business ended up coming through with revenue declines versus say what the CCC data would state, we've significantly outperformed what the metrics that they should be measured against are. And again, there are a number of different elements. But the one key element that I'll share with you is, as we know that OEMs were closed for a certain period of time in the second quarter, a number of the dealerships were closed also in the second quarter for a certain period of time and hence the parts departments. LKQ have being an essential business was open, and when customers needed parts, guess who they called. And this is really where the resiliency of the LKQ model comes through in terms of having a phenomenal geographic footprint, the service reliability, and an unmatched breadth and depth of inventory. So that kind of played out in the second quarter. And as I said, when we had the GM strike, call it in the…

Our next question comes from Michael Hoffman from Stifel. Please go ahead.

Thanks for coming back to me. So in the EU, there's this mandatory requirement to do safety inspections and they kind of have programmatic timing and when that happens, what's your thoughts about how much -- what happened in 2Q with some of that as opposed to we just were driving more?

It depends on the timing of the quarter. Clearly, Michael in April, the mandatory inspections were not unilaterally, but many, many countries were put on a temporary hold as each of the governments was trying to figure out how to deal with the pandemic, right. And getting your car inspected wasn't the highest priority at the time. By time you got to the back end of the quarter, many of those temporary delays in the inspection process were removed. And so folks were absolutely having to get their cars and to get inspected to get their registrations renewed and the like. So that was a little bit of it. But there's no doubt that miles driven has come back very significantly in Europe. I mean whether Italy from being down 74% at one point in time to today probably being down 10% to 15%, 20%. That's a huge recovery. Germany going from down 40% at its low to maybe being down 10% today. So, there's no doubt that the recovery miles driven probably the largest factor in driving the revenue, particularly in the back half of the quarter.

This concludes our Q&A session for today. And I will now turn the call back to Nick Zarcone for concluding remarks.

Well, as always, we greatly appreciate the time and attention that you've given us here this morning. Hopefully, the information provided gives you a good sense of what's going on here at LKQ. And importantly, we look to continue the discussion, the morning of September 10, when we have our Analyst Day. Again that will be a virtual format. It will run probably the better part of five hours or so. And we'll have all of the operating heads of our businesses from across the globe as part of the lineup for the presentation. So we can go in-depth on each of the three businesses, as well as hit the high points from a corporate perspective, a strategy perspective, and a financial perspective. So we look forward to sharing that with you in September. And again, we thank you for your time and attention here this morning.

Ladies and gentlemen, this does conclude today's conference call. Thank you for participating. You may now disconnect.