BacklotCars, Inc. (OPLN) Earnings Call Transcript & Summary

Good morning, ladies and gentlemen, and welcome to the KAR Global Investor Update Call. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the conference over to your host, Mr. Eric Loughmiller, Chief Financial Officer. You may begin.

Thanks, Jerome, and good morning, and thank you for joining us today for our call. Before Jim kicks off our discussion, I would like to remind you that this conference call contains forward-looking statements within the meaning of the safe harbor provision of the Private Securities Litigation Reform Act of 1995. Investors are cautioned that such forward-looking statements involve risks and uncertainties that may affect KAR's business, prospects and results of operations, and such risks are fully detailed in our SEC filings. In providing forward-looking statements, the company expressly disclaims any obligation to update these statements. Now I'd like to turn this call over to KAR Global's CEO, Jim Hallett.

Thank you, Eric, and good morning, ladies and gentlemen, and welcome to our call. Today, we have only one topic that we would like to talk briefly about, our announcement that we have reached agreement to acquire BacklotCars. We have agreed to pay $425 million in cash to acquire BacklotCars. We expect to close the transaction prior to year-end following required regulatory filings and approvals. A lot has happened in our industry over the past 6 months. KAR Global has accelerated the transformation of its businesses from legacy physical auctions to a leader in digital wholesale marketplaces. We have experienced unprecedented declines in our business in March and April, followed by an unexpected recovery in volumes, record-high wholesale prices and record conversion rates, and we have pivoted our business model following COVID-19 disruption to be less labor intense in all of our marketplaces. So let me talk a little bit about BacklotCars. Backlot is an app and web-based dealer-to-dealer wholesale auction platform. BacklotCars is similar to TradeRev, but it uses a slightly different auction format. As opposed to a timed-auction format, BacklotCars uses a 24/7 bid-ask marketplace. Their listings include a comprehensive vehicle inspection performed by automobile mechanics, and the company has demonstrated extraordinary growth over the past couple of years. BacklotCars currently operates in 46 states across the United States and in several markets where KAR does not have a presence today. The business is currently operating at a modest loss, but is very close to breakeven, and the path to profitability is clear. In addition to an outstanding business, we are also acquiring a talented management team with the acquisition of BacklotCars. The 4 founders have demonstrated a deep knowledge of dealers in the wholesale marketplace. Justin Davis, Josh Parsons, Ryan Davis and Fabricio Solanes will be great additions to the KAR management team. We have tied $20 million of the purchase price to retention of these key employees. Let me conclude with an explanation of why BacklotCars and why now. First, our strategy is clearly directed at being a leader in the digital transformation of the wholesale auction business. We have also recently articulated our goal of increasing our market share to become more competitive in the dealer consignment segment of our business. We have made many changes at TradeRev and have proven the business model can be profitable, and we believe we'll be even more profitable at scale. And finally, the recent disruption of the wholesale auction industry has accelerated the adoption of digital transactions by both sellers and buyers. I am confident that the combination of BacklotCars with ADESA and TradeRev will accelerate our growth in the dealer consignment space. I know you would like to hear more about our plans for putting our businesses together, but we are not allowed to take steps towards integrating BacklotCars until the deal closes. Once we receive the necessary regulatory approvals, we will develop our plans, and I look forward to sharing those details when it is appropriate. I hope you understand that we are very limited on what we can discuss about the combination of BacklotCars, TradeRev and ADESA on today's call. With that said, we will take a few questions before we sign off today. Eric is available to answer any questions about the financial aspects of the transaction. So I'll now turn it back to our operator, Jerome, for Q&A.

[Operator Instructions] Your first question comes from the line of Stephanie Benjamin with Truist Securities.

I was hoping maybe, Eric, if you could just provide a little bit more details on the size of the BacklotCars business from just a volume standpoint, number of annual units, growth rates, just anything so we can kind of gauge the scale as it compares to TradeRev and some of your competitors.

Stephanie, we'd like to share more details specifically, so what we'll tell you is very similar in size to TradeRev at this time, so it's comparable in size. As we get through HSR, hopefully, over the next 30 days or so, we'll provide more details following that clearance, but it's similar in size to TradeRev.

Got it. And then just trying to think about how this compares to TradeRev and even your own rollout strategy. If we recall, it was definitely having -- for TradeRev, a lot of shoes on the ground to expand the presence with dealers that now you're under a kind of united front under the entire ADESA sales force. How has, to the best of your knowledge, Backlot expanded across the U.S., increased their presence with the dealers? Maybe if you could walk through what you found that made it so attractive for you guys to look to bring it under your own umbrella?

Jim, do you want me to start with that one?

Yes, sure. Go ahead, Eric.

So Stephanie, the first thing we noticed is that they've had a very efficient capital model. They've incurred minimal losses. They have invested in their inspection unit using mechanics to do the inspections, which serves the need of the buyer having an expert, shall we say, available to do those inspections. And they've used a combination of inside and outside sales, which, again, has been very efficiently deployed. So as we look at it, it's very interesting to look at this bid-ask marketplace. It takes the pressure off of a buyer having to be on his phone at the right time to make sure he gets the car. Their listings will be up for anywhere from 1 to 3 days. They will execute the transaction very efficiently with a lot of information, and there's actually a lot of interaction available between the buyer and seller as part of that process within their construct. So it's a very attractive model. It's, I would call it, complementary to the offerings of KAR, and we're excited about adding them to our business. Jim, do you have anything to add?

I think, Eric, you've got it covered.

Your next question comes from the line of Ryan Brinkman with JPMorgan.

Great. And I apologize if I missed this earlier, but can you share with us again what the gross margin profile of the business is? And then how should we think about the profitability of the business going forward? Is it the case that like TradeRev, it's a business that requires people in the field calling on dealers in order to grow such that growth near-term might limit profitability? Or will you be able to better sort of cycle past costs as revenue rises?

So Ryan, we are not at this point talking about the financial profile of BacklotCars because we have to clear HSR. And again, that information is confidential. We'll share more after we get that clearance and prior to closing. But I will tell you that the business operates very efficiently, as I mentioned to Stephanie, and we're very pleased with how they've performed. They've maintained modest losses throughout their history. They are growing very fast and have a very efficient business model. We look forward -- there will be, we think, an opportunity for some synergies on the operations side, combining BacklotCars with the various offerings of KAR, and -- but on the operations side, and we're looking forward to getting those -- that planning started as soon as we can, but not until we receive clearance and are able to work more closely with the Backlot team on how the businesses will look like together.

Okay. Great. And I imagine this is -- apologies if I missed again, sorry, I just hopped from another call, being funded out of the plentiful cash on hand you have after the recent capital raise?

Yes. We -- Ryan, thanks for that. As I mentioned on our earnings call, we have about $1 billion in cash available, and that number is growing, and we will be using cash on our balance sheet to complete this acquisition. There will not be any draws on the revolver or any debt incurred.

Your next question comes from the line of John Murphy with Bank of America.

Just a first question. Given there's kind of some overlap sort of dovetailing with TradeRev, should we assume that TradeRev spending slows down or potentially stops? And this $425 million that's being spent on this is -- it takes the place of that and these things get woven together? Or would there be continued investment spending in TradeRev?

So John, let me start. Again, we can't say much, and we actually can't finalize our plans. At this point, both businesses will continue operating until we receive clearance on antitrust and close the transaction. However, when that's completed, I think what you would expect is we will continue investing in the dealer-to-dealer space, the capital needed to be competitive in that marketplace. So I think you'll see some synergies from the combined operations, and you'll see the investment continue. The good news is, as I've mentioned -- as Jim mentioned in his comments, they're very close to breakeven. In fact, the path to profitability is very clear and apparent to us for all of these businesses, and we think this strengthens the financial power of the organization, but by having, again, reaching scale at a much quicker pace by combining the 2 businesses if we receive clearance -- when we receive clearance.

Okay, Eric. And then just a second question on net debt-to-EBITDA at the end of the second quarter, I think you were at 2.5x. Just without having the benefit of all the information here, it looks like this may add as much as a turn, plus or minus, so you're about 3.5 turns net debt-to-EBITDA. But obviously, profitability here sounds like it improves. I'm just curious, as you think about leverage, where are you comfortable? I mean, I guess, maybe you can't give us a pro forma for this deal, but where are you comfortable on net debt-to-EBITDA sort of through cycle? And what's the current target?

Again, John, you know our history. We've occasionally gone above 3x and then quickly bring it back. We're generating a lot of cash in our business in the core KAR business. So going to 3.5x, as you've described in your analysis, getting back to 3x or below is our goal. And as you know, about half of our debt is bonds, which don't mature until 2025, and the net -- the senior debt is significantly less than what our target is. So we're very comfortable with the capital structure and the ability for our cash from operations to delever the company back to its target of 3x or less.

And just one last quick one. I just ran through the slides on your website. And Jim, it looks like you have 4 auction service brands and 15 ancillary service brands. This would -- I take that ancillary service brands up to 16. A lot of moving parts, a lot of offerings for your customers. Sometimes in the financial community, we get lost in that bevy of offerings. I'm just curious at any point, would there be sort of a move to kind of consolidate brands over time to streamline the offering and really kind of -- you're adding -- you're building a one-stop shop and have one, but just to maybe eliminate a little bit of confusion, just say, listen, we do everything here, a car, we don't need the sub-brands to support them. We can do whatever you need, full stop, and let's consolidate this and maybe save some cost on all these branding efforts and some of the confusion.

Yes. At this point in time, John, I would say there's nothing definitive. But certainly, we do hear about our brands from time to time. We think about our brands from time to time to think about how we best present ourselves as a one-stop shop that you talk about. And I think we will stand by, and we'll see how this all shakes out at the end of the day. But at this point in time, nothing that I would speak to.

Your next question comes from the line of Gary Prestopino with Barrington Research.

Yes. Tell me about where are they in markets that you're not in right now? You said it added markets.

Gary, again, for HSR, we try to -- we don't want to talk too much about it, but their focus has been in the middle of the country, the Midwest. And so those types of markets where we may not have an auction operation would be what we're referring to.

Okay. Can you tell me is there a lot of dealer overlap? And because one's a timed auction, one's 24/7, is it possible for a dealer to have both apps now, both TradeRev and BacklotCars?

Yes. They could be operating on multiple apps right now, and they will continue to operate on individual apps until we get the closing.

Okay.