LKQ Corporation (LKQ) Earnings Call Transcript & Summary

Hello, everyone. Thank you for joining us, and welcome to LKQ Corporation's Second Quarter 2026 Earnings Conference Call. After today's prepared remarks, we will host a question-and-answer session. [Operator Instructions] I will now hand the conference over to Joe Boutross, Vice President of Investor Relations. Joe, please go ahead.

Thank you, operator. Good morning, everyone, and welcome to LKQ's Second Quarter 2026 Earnings Conference Call. With us today are Justin Jude, LKQ's President and Chief Executive Officer; and Rick Galloway, our Senior 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 coming days. And with that, I am happy to turn the call over to our CEO, Justin Jude.

Thanks, Joe. Good morning, everyone, and thank you for joining us. The question I hear most often is why investors should have confidence in LKQ's ability to improve performance. The answer is simple, confidence comes from evidence. As I look across LKQ today, I see a company that has a unique global distribution network for auto parts and a relentless focus on serving our customers. While this quarter fell short of our expectations, this is a company that is stronger and better than the reported results may suggest. Our North American segment returned to positive organic growth for the first time in nine quarters. Preparable claims showed another quarter of sequential improvement and alternative part utilization continued to increase. Specialty also continued to deliver organic growth, demonstrating the resilience of its market position. In Europe, our reported results were affected by ERP implementation challenges in Germany and softer performance in certain European markets. We take accountability for those results. While the implementation has been more challenging and taken longer to stabilize than planned, we've identified the issues, implemented [ recovery projections ] and remain confident in the long-term strategic value of the ERP investment. It expands our common platform footprint, creates the foundation for a more integrated operating model and supports better service, productivity and margin performance over time. The investments we're making today are designed to increase LKQ's earnings power for many years and this quarter does not fully reflect the underlying earnings potential of the business. We continue to execute on our strategic initiatives designed to enhance our long-term competitive position and earnings power. This morning, I will review the progress in North American specialty, discuss our recovery actions and long-term opportunity in Europe and then address our full year outlook and strategic review before turning the call over to Rick for a more detailed financial review. Now let me address each segment in a little more detail, beginning with North America. The progress in North America was solid. North America delivered positive growth in the quarter of 0.5% compared to a decline of repairable claims of 1% to 3% for the quarter, showing once again how North America can outperform the market. While the market has not fully recovered, several external indicators continue to reinforce our belief that collision markets are improving. Not only has used car pricing continue to improve, both May and June showed negative insurance CPI on a year-over-year basis, putting pressure on carrier margins, creating a need to reduce repair costs. One of the most effective levers they have to reduce cost of repair is to utilize more alternative parts. And alternative parts usage or APU, was over 40% of the quarter, surpassing the previous record achieved in Q1 of this year, which is a positive trend for our business. While there is still room for improvement, the underlying trends are moving in the right direction. Our execution also improved. Salvage gross margin exceeded our expectations through improved procurement and operations, there was sequential improvement in fill rates and North America exceeded our free cash flow expectations. Paint volume remained a headwind, but the broader trajectory in collision and salvage improved. North America remains focused on enhancing our salvage procurement, improving fill rates, strengthening our pricing and analytics capabilities and consistently executing against our operational initiatives. Turning to our European segment. The challenges we face in Europe are ours to address. While market demand was softer in certain regions, the primary drivers of our underperformance were implementation and execution challenges that are actively being addressed. As I mentioned earlier, the ERP conversion remains an important and needed step in modernizing the business. While the implementation created disruption, we moved with urgency to address the issues. The customer impact lingered longer than expected, but our recovery has gained momentum. The system performance has improved and operational processes have normalized, and we finished last week above 85% of our normal revenue run rate in Germany. This is a meaningful milestone that demonstrates the progress our teams have made. While there is still work ahead, we are encouraged by the trajectory of the business and remain confident in our ability to restore service levels, win back our share of wallet and realize long-term benefits of this transformation. This conversion was a scaling event and increases the share of our European business operating on a common platform from approximately 5% to more than 30% providing a strong foundation for a more integrated operating model. Over time, we expect this to drive productivity gains, simplify our technology landscape, enhance customer service capabilities and support margin improvement across Europe. The most difficult scaling step is now behind us. The recovery is underway and the long-term benefits of the program remain fully intact. Outside of Germany, the U.K. and the Benelux regions underperformed on the revenue side. While softer demand contributed to the results, our commercial execution in these regions did not meet our expectations. To combat the lower volumes, we delivered more than $40 million on a year-over-year improvement in the quarter through the initiatives we put in place, including cost structure optimization, procurement savings, productivity gains and the closure of underperforming locations. We also changed leadership where performance was unacceptable and sharpened our recovery plans around commercial execution, cost control and customer retention. We made additional progress in the quarter with respect to our SKU rationalization objectives. I am pleased to say that we have completed our review of our full product brand portfolio. As I have previously stated, completion of this review is required before further delisting action items can be considered to ensure a full understanding of both opportunities and risks are known. Our private label initiative continued to make progress in the quarter with volume penetration reaching 26.6% which puts us well on our way toward meeting our objectives of reaching 30% over the coming years. Our priorities in Europe are to restore service levels in Germany, recapture revenue, improve commercial execution, maintain gross margin discipline and continue to align the cost structure with the current demand. We know what needs to be done, and we will hold ourselves accountable for delivering it. Ultimately, we see our European business being more efficient, more productive, serving the best customers in the market and generating double-digit EBITDA margins. Turning to Specialty. The segment delivered resilient top line performance. Organic revenue increased 4.5% for the quarter and revenue was essentially in line with our expectations for both the quarter and for the first half of the year. Operationally, we continue to see opportunities to improve gross margin, enhance operating efficiency and better leverage our existing cost structure. Our priority is to convert Specialty's resilient revenue profile into stronger and more consistent earnings performance. Turning to our full year outlook. We are confident that North America remains firmly on track to meet its full year plan and Specialty continues to consistently demonstrate resilient revenue, although we still have work to do to improve its margins. Europe remains challenged. The result of all this combined is that we are reducing our outlook to reflect the reality of Europe's performance, but we are not changing our long-term strategic priorities. Our focus remains on disciplined execution improving returns on invested capital and creating long-term shareholder value. Let me close with an update on our previously announced strategic review. The process remains active in the company together with its advisers at Bank of America and Goldman Sachs continues to engage with multiple parties. We will share updates when appropriate. Rick will now review the consolidated and segment results and our revised outlook. With that, I will turn the call over to Rick.

Thank you, Justin, and good morning, everyone. I'll be discussing our consolidated and segment results, cash flow and balance sheet and revised full year outlook. Beginning with our consolidated results. Second quarter revenue was approximately $3.4 billion compared with $3.5 billion in the prior year period. Diluted earnings per share were $0.52 and adjusted diluted earnings per share were $0.67 compared with adjusted diluted EPS of $0.84 in the prior year period. The year-over-year decline largely reflects lower revenue and profitability in Europe due to the factors Justin mentioned earlier. Turning to segment results. North America parts and services organic revenue increased 0.5%, the segment's first quarter of growth since 2023. Aftermarket collision revenue increased approximately 2%, and our Canadian hard parts business grew in the mid-single digits, while Paint remained a headwind to the overall growth rate. As Justin noted, repairable claims are showing signs of improvement, and while we are encouraged by the progression, we are not assuming a significant market recovery in our revised outlook. North America segment EBITDA was $207 million, representing a segment EBITDA margin of 14.1%. The quarter included a $10 million expense related to a legal reserve resulting in a drag on segment EBITDA margin of approximately 70 basis points, meaning the underlying performance was in the high 14% range. This reserve relates to an isolated onetime event and it helps explain the difference between the reported margin and the operational progress we saw in the quarter. Europe parts and services organic revenue declined 12.6%. The primary driver was the disruption related to the ERP implementation in Germany. We estimate the quarterly revenue impact was approximately $140 million. Europe segment EBITDA was $109 million, a year-over-year decline of $42 million, representing a margin of 7.5%. The decline primarily reflects the ERP implementation challenges in Germany as well as softer demand in the U.K. and Benelux. We estimate the ERP disruption reduced EBITDA by approximately $50 million during the quarter, while the volume pressures predominantly in the U.K. and Benelux reduced EBITDA by roughly $30 million. Despite these headwinds, the business delivered meaningful productivity gains and cost reductions through the restructuring and efficiency initiatives we have discussed in prior quarters. Absent the ERP disruption, Europe was on track to generate double-digit EBITDA margins for the quarter, even while absorbing the volume pressures in the U.K. and Benelux. This demonstrates that the team is controlling the factors within its influence, prioritizing profitable revenue and steadily improving the underlying earnings power of the region. Specialty organic revenue increased 4.5% and segment EBITDA was $33 million with an EBITDA margin of 6.7%. Revenue performance remained resilient, while gross margin and mix remain areas for improvement, and freight and fuel costs were headwinds for the quarter. Moving on to our cash flow and balance sheet. Second quarter operating cash flow was $111 million, and free cash flow was $60 million. For the first 6 months of the year, operating cash flow was $55 million and free cash flow was negative $36 million, which was slightly below our expectations due primarily to softer Europe performance. We ended the quarter with total liquidity of $1.9 billion and net leverage of 2.8x EBITDA. During the quarter, we returned $129 million to shareholders through share repurchases and dividends. In July, we prepaid the outstanding $500 million U.S. term loan originally due in Q1 2027 with proceeds from our revolving credit facility. We expect to use free cash flow generated over the balance of the year to reduce the outstanding balance of our revolving credit facility following the prepayment of the term loan. Our capital allocation priorities remain unchanged. We will continue to deploy capital in a disciplined manner, balancing investment that support growth in the business, containing a strong balance sheet and returning capital to shareholders. Finally, with respect to our guidance, our revised 2026 outlook and assumptions are included on Slide 11. Operationally, North America remains on track against its full year plan. The outlook assumes repairable claims remain near current levels with modest improvements during the second half. We are encouraged by the improvement seen during the quarter, particularly in June, but are not assuming a significant market recovery. Europe remains the primary area of operational focus and is driving the majority of the reduction in guidance. Our revised outlook assumes continued improvement in service levels and revenue in the affected German operations during the second half but at a more measured pace than we previously expected. It also assumes that conditions in the U.K. and Benelux remain soft and that benefits of our leadership, cost and productivity actions build progressively over the remainder of the year. Specialty continues to grow organically, although our outlook reflects there is work to be done to improve margin and mix. Based on these assumptions, we expect organic parts and services revenue in the range of negative 1% to negative 3%. We expect adjusted diluted earnings per share of $2.60 to $2.90 compared with our previous range of $2.90 to $3.20. We believe the revised range reflects the current pace of recovery and the operating risks we see in the second half. Additionally, we now expect full year free cash flow of $625 million to $775 million compared to our previous outlook of $700 million to $850 million. In summary, North America is showing encouraging sequential improvement, Specialty continues to grow. Our focus is on getting Europe back on track. Our priorities are restoring service levels in Germany, improving execution in the U.K. and Benelux and continuing to manage cash flow and the balance sheet with discipline. With that, I will turn the call back over to Justin.

Thank you, Rick. North America is showing meaningful progress and specialty continues to demonstrate resilient revenue. We are focused on sustaining the strength of North American specialty and executing the recovery of Europe with urgency and discipline. We have clear operating visibility and measurable service targets. We will continue to communicate candidly about our progress and hold ourselves accountable for the results. While we are reducing our outlook to reflect the reality of Europe's performance, our long-term strategy hasn't changed. Lastly, I want to thank our more than 42,000 employees around the world for their work through a demanding quarter and thank you to our customers and shareholders for their continued engagement. With that, we are happy to open the call to questions.

[Operator Instructions] Your first question comes from the line of Jeff Lick with Stephens Inc.

I want to focus maybe on wholesale North America and just the evolution of the progress that's being made there. First, if you could add a little bit more on your view on the repairable claims where you thought you saw those for 2Q? And then, Justin, on the last call, you talked about how in a depressed environment the business kind of first goes to the MSO and then it's hard to see sort of improving conditions that will go to the India operators and that should help margin. Where do you see that on that progress, where we're at in terms of the evolution there? And then just a quick one for Rick. Is the legal settlement, Rick in the $420 million of SG&A for WNA?

Thanks, Jeff. On the North American side, we saw the repairable claims being down negative 1% to 3% range, which is an improvement in Q1. Some of the macro trends that we're seeing out there with used car prices, insurance premiums -- insurance premiums coming negative in May and June, these are all benefiting us and showing that market recovery. So we feel pretty good that the market is heading in the right direction. With the volume still being down, though, kind of to your point, the insurance companies are looking to cut costs and the easiest way they do that is use more alternative parts and improve cycle time. and MSOs typically lead in that world. So a lot more business is being driven to the MSOs right now. Now MSOs are the bigger customers. They get the best prices. But at the end of the day, they do use more alternative parts than a non-MSO rooftop, so we see a bigger share of opportunity of wallet to grow with those guys. They're much larger scale, so we have less SG&A to deliver. So from a margin standpoint, we actually do better on the MSO side. But yes, MSOs continue to get share right now in that depressed market. But once again, we do see that the market is recovering in the right direction.

And Jeff, on the SG&A, yes, that's the biggest driver of the $18 million increase is this onetime legal settlement.

Okay. Just as a quick follow-up, can you get us going on Europe because I'm quite sure some of my peers are going to do that a little bit more. But you made the comment that ex the disruptions from the ERP implementation, things were largely on track and even kind of alluded to the double-digit EBITDA margin. Could you just set the table there? I'm sure there can be more questions, kind of can you just get us going on -- is that really the case? And how do you see this playing out?

Yes. So you look at our conversion that occurred in Germany. And then so if you take the Germany market out of our overall European performance, you can see EBITDA dollars increase on a year-over-year basis, and we did see EBITDA percentage. So a lot of the operating initiatives that we have in place and working on in Europe are starting to take hold.

Yes. I think just to add on to that a little bit is we saw the volume tightening up in Benelux and the U.K., as I talked about, we were more than able to offset that with over $40 million of overall productivity initiatives heavily driven by the head count reduction, taking the model that we had in North America through productivity, driving performance and transplanting that over to Europe. Those are taking hold and we're seeing the benefits of those that we've been talking about the last few quarters.

And a quick follow-up there. Where are you at on the private label pricing kind of evolution? You talked about migrating a decent chunk of the business to private label on that, you kind of had to have some kind of gateway pricing to entice people. Does the ERP implementation kind of slow that progress down? And any update on kind of the ramp and being able to kind of walk that price up now?

Yes. The ERP doesn't have much impact on it. We have seen a slight margin improvement, a slight price increase on our private label. We will continue to drive that price over time as the adoption rate continues to grow and it has. I mean we're nearly 27% on adoption rate of private label. But yes, we did, to your point, we had introductory pricing. And look, there's still economic concerns over there, consumers paying more at the pump. A lot of cost sensitivity going on, and that allows us to introduce that private label at that introductory pricing. But once again, in Q2, we did see a slight price increase and a slight margin increase in private label.

Your next question comes from the line of Craig Kennison with Baird.

Justin, what are the plans to roll out this ERP system across Europe? I know you started in Germany, but wondering if investors should be prepared for rolling disruptions as you move to other countries?

Yes. Great question, Craig. Let me maybe start off with the why again on -- I know I covered this in Q1, why are we doing the system conversion. I mean we've added acquisitions plus in Europe. We have 30-plus ERP systems. It's a patchwork of aging systems that were quite honestly built for much smaller operations. They're becoming increasingly difficult to support and many of those lack capabilities that our customers are asking for. As customers get bigger, they want integration. And in many cases, we're not able to do that. And so transforming to a single ERP brings efficiencies, it brings common data model, standardize processes, gives us better control, resulting in higher visibility, higher efficiencies. And so at the end of the day, we need to continue to drive over -- drive our ERP over there. Now with the conversion in Germany, a lot of lessons learned, a lot of things that we realized that we could do better, but it was a scaling event for us. We had roughly $300 million of revenue on a legacy system supporting three steps. So three-step business is much more simple stockholders. And then now we have a $2 billion revenue on the platform servicing two-step businesses where there's a lot more transactions, a lot more customers, a lot more people, a lot more employees on that. Once again, we've learned a lot on it, but it was a scaling event. In all future conversions, we don't have any slated for this year, but all future conversions that are going to go into next year. become easier, right? Because now it's not a large scaling event. It's much smaller businesses, much small ERP systems, migrating into a $2 billion platform. So much more confidence that they'll be quicker, they'll be less disruptive and bring better cost savings in the future as well.

Thanks. but just to follow up. I think investors are going to want to try to model this. It's been a big disappointment this quarter. And it feels like it's going to happen next year, we're just trying to figure out how to think through the revenue and EBITDA implications of this. I totally get the long-term benefit of this and the absolute need to get on one platform, but we want to get the estimates right...

Yes. Look, it's a great point, Craig. And as we give guidance into the next year, I mean nothing is going to be converted in the coming quarters. We obviously got a continued hyper care in the German market, continue to refine and recover on the revenue side. But once again, we've learned a lot of lessons. We built a scale -- not just a scaled system, but a scaled team that supports it. And so we have much higher confidence that when we do the next conversion, which once again will be next year, and we'll come out with that in the future when those will occur in our guidance, but we have much more higher confidence that that it will be less disruptive. Obviously, a lot of lessons learned on this, really needed initiative that we have.

And not to Rick, you hop on the calls for Justin on that. I totally appreciate the need to do this. But you've also changed management quite a bit in Europe to try to get the right talent in place. They haven't been in the chair that long in some cases. Is it just a lot to ask relatively new leaders to take on a project like this?

Yes. I mean some of the leaders that we brought on have experience on transformation. They've got experience on integration. If you look at the backside operations, whether it's in our IT leadership or our transformation leaders as well as some of our operational leaders. So their background was in distribution. They have backgrounds of large complexes, backgrounds of transformation and conversions and immigration. So I mean they have that experience in the past, and so that's one of the reasons we brought those folks on because they have that right mindset and skill set to help us get through these conversions in the future.

Your next question comes from the line of Josh Patwa with JPMorgan.

Curious if you could split the $200 million annualized tariff exposure across automotive and nonautomotive segments and how the recent gapping of Section 232 automotive parts tariffs on import from Taiwan should reduce that tariff exposure? And then how should we expect any benefit to be split between gross profit benefit or pass-through to customer savings? And I have a follow-up.

Thanks, Josh. I can go ahead and take that. As far as the tariffs goes, as most people realize the IEEPA tariffs that came through those were items that we have processed, and we are starting to get some refunds on some of those that were deemed illegal. Those are pretty small. And those were very, very small portion of what we've got. And we got a few million dollars in our specialty business. That's where most of that comes through. On the 232, the big change for us happened on May 1 when 232 for Taiwan, the Taiwan trade deal is moving from 25% down to 15%, so that's a good news story for us. What we're cautiously optimistic is in the back half of the year as we get a turn of inventory through this, how much of that will we be able to hold on to as far as pricing goes. Look, the assumption that I've got in my guide is we weren't able to get any margin enhancement on the way up. I'm assuming we're not going to get much on the way down as we're staying competitive in the pricing. But there is a 40% reduction on those overall tariffs. And that was the lion's share of what we have as far as the overall tariff amounts. The new tariffs have very minimal impact on us as far as that [ 301 ] tariffs, those are pretty, pretty tiny for us because we're actually under that 232 tariff, so we're monitoring it closely. We're seeing what it is. I don't have a further benefit or hit as far as the rest of the year goes on the Taiwanese deal. It is better news than -- well, it's definitely better news than it going in the opposite direction. And so we're looking to make sure we maintain our overall margins and make sure we have an ability to maintain whatever we can on the pricing side.

That's very helpful. I appreciate all the color. And just as a quick follow-up, I was wondering if you could break out the price versus volume split in North America for Q2.

So on the pricing, I did talk about it briefly in my overall communication. The pricing is positive -- the overall revenue is positive primarily because of pricing. So the tariff pass-through that we got brought us to 0.5% overall revenue growth. So that's great. The overall net volumes are still negative, slightly negative. But the positive thing that we should look at is aftermarket collision was actually up about 2%. So we actually had about 2% improvement in aftermarket collision. We also saw bumper to bumper in the mid-single digits. Our hard parts business in Canada is growing above market. We think it's taken some pretty good share. Where we've been negative is primarily on the paint business, which is the most discretionary thing that you can do within the repair, so when there's a discretionary component to not do on their overall repair, it tends to be the paint, and so paint has been down and paint's the drag as far as the overall volume goes.

Your next question comes from the line of Jon Babcock with Barclays.

Just wanted to dig back into Europe a little bit here. I guess with regards to the U.K. and Benelux. In the U.K., you've discussed some competitive factors in the past. Just kind of curious if that's what's been driving the weakness there or if there's anything else going on? And then if you could just talk a little bit more about what you're seeing in Benelux. That would be useful.

It is just heightened competition with a new -- I mean, an entry that's kind of expanded in a number of locations. So several years ago, they had 80, now they're up to 230. There's not a lot more markets necessarily that makes sense to expand into, but any time they expand and open, it creates some margin pressure and pricing pressure and volume pressure, and we've seen that continue on. We've obviously got action items going. We changed some leadership there to get a little bit more aggressive on that, the erosion of revenue that we're seeing and ensure that we're getting our cost out and we did. So we talked about, even though we had revenue declines in the U.K. and Benelux, we still over-delivered on an EBITDA standpoint. On the Benelux standpoint, it's really what I would call a three-step business. There are some three -- large three-step customers that we decided to walk away from. It was a low-margin business. We're still pushing on our two-step over there, trying to get more two-step business, but we walked away from that three-step business, but then we offset some of that lost revenue with SG&A reductions and productivity. So overall, still EBITDA was up in those markets.

And then in Germany, the ERP disruption there, can you just maybe talk a little bit more about what exactly happened, like why did things go a little sideways there? .

Yes. Look, good question. It's a short question, but it's going to be probably a little bit more longer answer and I'll be a little bit more transparent and candid with you guys. When we first went live over there in the first couple of weeks, a lot of stability issues with the system, slowness, systems were crushing. And then towards the end of April, we stabilized the system, it was up and running, customers placing orders, and we saw revenue ramp up pretty quick. And so towards the end of April, we were really positive on that. But then as you get that revenue flowing through that new system, you start uncovering basic things that normally happen with conversions. Obviously, we had a little bit more than we expected. But things like bad data, maybe the system processes weren't operating as they should have, so call them bugs. A lot of those things have been resolved through May and June. And so when that happened, our service levels weren't great, and customers are used to strong service levels from our Stahlgruber business in Germany. Stahlgruber is over a 100-year company, so customers are -- have known us and use us for many, many -- for a generation. And so when we were failing on our service levels, on our fill rates, customers had no choice but to find alternatives, and so we fixed a lot of the bugs. We've corrected data. We've continued to refine processes to make sure they're more -- they're efficient. We are on a much more stronger system, much more robust system, but it is a new system. And so the other piece that we're continuing to work through is just training those folks that were on that legacy system, that were used to that legacy system, just getting them more and more familiar with the new system. And I would say the majority of our branches are performing well on service levels. They're performing well on revenue. We have a couple of dozen locations that are -- we've got to go in and get them retrained up, and we've sent tiger teams there to help out. I would say when we were kind of battling through some of the system issues, we took all of our outside sales folks and helped put out fires, take care of transaction issues, customer service issues. Now that we've got the system stabilized and it's really just getting our teams continue to train and improve on our service levels, we've taken those sales teams in the last couple of weeks and put them back in the field and then calling on those customers letting them know that things have returned to normal. And so it's just a lot of different situations, mainly, I would say, escalated because of the scale of that system. I mean the first couple of weeks is what really set us off and got us off on a bad start, and we've been climbing out of that. But I would say today, the system is stable. It is up and running. No issues with that, and we're just now once again, getting our teams retrained to make sure they can operate as efficient as they did prior to the conversion.

Okay. That's very helpful. And then just last question before I turn it over. I was just wondering if there are any updates on the considered sale of the specialty business and also whether or not the performance there is maybe leading you to consider potentially reevaluating what to sell that business?