LKQ CORP 10-Q

Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Forward-Looking Statements Statements and information in this Quarterly Report on Form 10-Q that are not historical are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 and are made pursuant to the “safe harbor” provisions of such Act. Forward-looking statements include, but are not limited to, statements regarding our outlook, guidance, expectations, beliefs, hopes, intentions and strategies. Words such as “may,” “will,” “plan,” “should,” “expect,” “anticipate,” “believe,” “if,” “estimate,” “intend,” “project” and similar words or expressions are used to identify these forward-looking statements. These statements are subject to a number of risks, uncertainties, assumptions and other factors that may cause our actual results, performance or achievements to be materially different. All forward-looking statements are based on information available to us at the time the statements are made. We undertake no obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise, except as required by law. You should not place undue reliance on our forward-looking statements. Actual events or results may differ materially from those expressed or implied in the forward-looking statements. The risks, uncertainties, assumptions and other factors that could cause actual results to differ from the results predicted or implied by our forward-looking statements include factors discussed in our filings with the SEC, including those disclosed under the captions “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our 2021 Form 10-K and our Quarterly Reports on Form 10-Q (including this Quarterly Report). Overview We are a global distributor of vehicle products, including replacement parts, components and systems used in the repair and maintenance of vehicles, and specialty products and accessories to improve the performance, functionality and appearance of vehicles. Buyers of vehicle replacement products have the option to purchase from primarily five sources: new products produced by OEMs; new products produced by companies other than the OEMs, which are referred to as aftermarket products; recycled products obtained from salvage and total loss vehicles; recycled products that have been refurbished; and recycled products that have been remanufactured. We distribute a variety of products to collision and mechanical repair shops, including aftermarket collision and mechanical products; recycled collision and mechanical products; refurbished collision products such as wheels, bumper covers and lights; and remanufactured engines and transmissions. Collectively, we refer to the four sources that are not new OEM products as alternative parts. We are a leading provider of alternative vehicle collision replacement products and alternative vehicle mechanical replacement products, with our sales, processing, and distribution facilities reaching most major markets in the United States and Canada. We are also a leading provider of alternative vehicle replacement and maintenance products in Germany, the United Kingdom, the Benelux region (Belgium, Netherlands, and Luxembourg), Italy, Czech Republic, Austria, Slovakia, Poland, and various other European countries. In addition to our wholesale operations, we operate self service retail facilities across the U.S. that sell recycled automotive products from end-of-life-vehicles. We are also a leading distributor of specialty vehicle aftermarket equipment and accessories reaching most major markets in the U.S. and Canada. We are organized into four operating segments: Wholesale – North America; Europe; Specialty; and Self Service, each of which is presented as a reportable segment. Beginning in 2022, the Wholesale - North America and Self Service operating segment results were separated from the previous reportable segment, North America, and each of Wholesale - North America and Self Service is now a separate reportable segment. Segment results have been adjusted retrospectively to reflect this change. Our operating results have fluctuated on a quarterly and annual basis in the past and can be expected to continue to fluctuate in the future as a result of a number of factors, some of which are beyond our control. Please refer to the factors referred to in Forward-Looking Statements above. Due to these factors and others, which may be unknown to us at this time, our operating results in future periods can be expected to fluctuate. Accordingly, our historical results of operations may not be indicative of future performance. 26 Acquisitions and Investments Since our inception in 1998, we have pursued a growth strategy through both organic growth and acquisitions. Through 2018, our acquisition strategy was focused on consolidation to build scale in fragmented markets across North America and Europe. We targeted companies that were market leaders, expanded our geographic presence and enhanced our ability to provide a wide array of vehicle products through our distribution network. In the last few years, we have shifted our focus from larger transactions to tuck-in acquisitions that target high synergies and/or add critical capabilities. Additionally, we have made investments in various businesses to advance our strategic objectives. See "Investments in Unconsolidated Subsidiaries" in Note 2, "Financial Statement Information," to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for additional information related to our investments. Sources of Revenue We report our revenue in two categories: (i) parts and services and (ii) other. Our parts revenue is generated from the sale of vehicle products, including replacement parts, components and systems used in the repair and maintenance of vehicles, and specialty products and accessories used to improve the performance, functionality and appearance of vehicles. Our service revenue is generated primarily from the sale of service-type warranties, fees for admission to our self service yards, and diagnostic and repair services. Revenue from other sources includes scrap and other metals (including precious metals - platinum, palladium and rhodium - contained in recycled parts such as catalytic converters) sales, bulk sales to mechanical manufacturers (including cores) and sales of aluminum ingots and sows from our furnace operations. Other revenue will vary from period to period based on fluctuations in commodity prices and the volume of materials sold. See Note 3, "Revenue Recognition" to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for additional information related to our sources of revenue. Critical Accounting Estimates The discussion and analysis of our financial condition and results of operations are based upon our Unaudited Condensed Consolidated Financial Statements, which have been prepared in accordance with GAAP. The preparation of these financial statements requires management to make use of certain estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosure of contingent assets and liabilities. Our 2021 Form 10-K includes a summary of the critical accounting estimates we believe are the most important to aid in understanding our financial results. There have been no changes to those critical accounting estimates that have had a material impact on our reported amounts of assets, liabilities, revenues or expenses during the three months ended March 31, 2022. Financial Information by Geographic Area See Note 13, "Segment and Geographic Information" to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for information related to our revenue and long-lived assets by geographic region. 1 LKQ Europe Program We have undertaken the 1 LKQ Europe program to create structural centralization and standardization of key functions to facilitate the operation of the Europe segment as a single business. Under this multi-year program, we expect to recognize the following: • Restructuring expenses — Non-recurring costs resulting directly from the implementation of the 1 LKQ Europe program from which the business will derive no ongoing benefit. See Note 4, "Restructuring and Transaction Related Expenses” to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for further details. • Transformation expenses — Period costs incurred to execute the 1 LKQ Europe program that are expected to contribute to ongoing benefits to the business (e.g. non-capitalizable implementation costs related to a common ERP system). These expenses are recorded in Selling, general and administrative expenses. • Transformation capital expenditures — Capitalizable costs for long-lived assets, such as software and facilities, that directly relate to the execution of the 1 LKQ Europe program. 27 Costs related to the 1 LKQ Europe program incurred to date are reflected in Selling, general and administrative expenses, Restructuring and transaction related expenses and Purchases of property, plant and equipment in our Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q. We completed the organizational design and implementation projects in June 2021, with the remaining projects scheduled to be completed by the end of 2024. During the three months ended March 31, 2022 we incurred $6 million in costs across all three categories noted above. We expect that costs of the program, reflecting all three categories noted above, will range between $30 million and $50 million in 2022 with an additional $50 million to $70 million in 2023 and 2024 through the projected program completion date. In the future, we may also identify additional initiatives and projects under the 1 LKQ Europe program that may result in additional expenditures, although we are currently unable to estimate the range of charges for such potential future initiatives and projects. We expect the transformation and restructuring expenses will be entirely funded by trade working capital initiatives across our Europe segment. Ukraine/Russia Conflict The Russian invasion of Ukraine and resulting global governmental response have impacted, and are expected to continue to impact, our business in 2022. Governmental sanctions imposed on Russia have restricted our ability to sell and collect from customers based in Russia, and Russian military activity in Ukrainian territory has temporarily changed the way in which we operate in Ukraine. Many of our branches have remained open, although operating at less than full capacity, during the conflict, while others have closed temporarily. We expect to continue operating in this manner unless conditions change. While we do anticipate to experience some negative impact from the consequences of this conflict, we do not expect it to have a material impact on our results of operations or cash flows. Our operations in Ukraine represent less than 1% of both our total annual revenue and total annual operating profit and comprised approximately $40 million of gross assets as of March 31, 2022. In addition, LKQ r evenue from customers in Russia represents less than 0.3% of our total revenue . As future developments in the conflict are difficult to project and outside of our control, it is possible that the estimates underlying our financials may change significantly in future periods. Key Performance Indicators We believe that organic revenue growth, Segment EBITDA and free cash flow are key performance indicators for our business. Segment EBITDA is our key measure of segment profit or loss reviewed by our chief operating decision maker. Free cash flow is a financial measure that is not prepared in accordance with U.S. generally accepted accounting principles (“non-GAAP”). • Organic revenue growth - We define organic revenue growth as total revenue growth from continuing operations excluding the effects of acquisitions and divestitures (i.e., revenue generated from the date of acquisition to the first anniversary of that acquisition, net of reduced revenue due to the disposal of businesses) and foreign currency movements (i.e., impact of translating revenue at prior period exchange rates). Organic revenue growth includes incremental sales from both existing and new (i.e., opened within the last twelve months) locations and is derived from expanding business with existing customers, securing new customers and offering additional products and services. We believe that organic revenue growth is a key performance indicator as this statistic measures our ability to serve and grow our customer base successfully. • Segment EBITDA - See Note 13, "Segment and Geographic Information" to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for a description of the calculation of Segment EBITDA. We believe that Segment EBITDA provides useful information to evaluate our segment profitability by focusing on the indicators of ongoing operational results. • Free Cash Flow - We calculate free cash flow as net cash provided by operating activities, less purchases of property, plant and equipment. Free cash flow provides insight into our liquidity and provides useful information to management and investors concerning cash flow available to meet future debt service obligations and working capital requirements, to make strategic acquisitions, to repurchase stock, and to pay dividends. These three key performance indicators are used as targets in determining incentive compensation at various levels of the organization, including senior management. By using these performance measures, we attempt to motivate a balanced approach to the business that rewards growth, profitability and cash flow generation in a manner that enhances our long-term prospects. 28 Results of Operations—Consolidated The following table sets forth statements of income data as a percentage of total revenue for the periods indicated: Three Months Ended March 31, 2022 2021 Revenue 100.0 % 100.0 % Cost of goods sold 59.5 % 59.2 % Gross margin 40.5 % 40.8 % Selling, general and administrative expenses 27.6 % 26.8 % Restructuring and transaction related expenses 0.1 % 0.2 % Depreciation and amortization 1.8 % 2.1 % Operating income 11.1 % 11.7 % Total other expense, net 0.4 % 0.6 % Income from continuing operations before provision for income taxes 10.6 % 11.1 % Provision for income taxes 2.7 % 2.9 % Equity in earnings of unconsolidated subsidiaries 0.1 % 0.2 % Income from continuing operations 8.0 % 8.4 % Net income from discontinued operations 0.1 % — % Net income 8.2 % 8.4 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. Three Months Ended March 31, 2022 Compared to Three Months Ended March 31, 2021 Revenue The following table summarizes the changes in revenue by category (in millions): Three Months Ended March 31, Percentage Change in Revenue 2022 2021 Organic Acquisition and Divestiture Foreign Exchange Total Change Parts & services revenue $ 3,104 $ 2,932 6.9 % 1.7 % (2.7) % 5.9 % Other revenue 244 239 2.1 % 0.1 % (0.2) % 2.0 % Total revenue $ 3,348 $ 3,171 6.5 % 1.6 % (2.5) % 5.6 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. The growth in parts and services revenue of 5.9% represented increases in segment revenue of 14.6% in Self Service, 14.2% in Wholesale – North America, 1.8% in Europe, and 0.4% in Specialty. Organic parts and services revenue growth was 6.9% , which included a 1.3% positive effect from one additional selling day in the first quarter, resulting in per day organic growth of 5.6% . The increase in other revenue of 2.0% was primarily driven by a $5 million organic increase, attributable to a $13 million increase in our Wholesale - North America segment, partially offset by a $7 million decrease in our Self Service segment. Refer to the discussion of our segment results of operations for factors contributing to the change in revenue by segment during the first quarter of 2022 compared to the prior year period. Cost of Goods Sold Cost of goods sold increased to 59.5% of revenue in the three months ended March 31, 2022 from 59.2% of revenue in the three months ended March 31, 2021. The cost of goods sold increase reflects impacts of (i) 0.4% in our Self Service segment and (ii) 0.3% in our Europe segment, partially offset by decreases of (iii) 0.3% attributable to mix as a greater portion of sales are coming from Wholesale - North America which has higher margins and (iv) 0.2% in our Specialty segment. Refer to the discussion of our segment results of operations for factors contributing to the changes in cost of goods sold as a percentage of revenue by segment for the three months ended March 31, 2022 compared to the three months ended March 31, 2021. 29 Selling, General and Administrative Expenses Our selling, general and administrative ("SG&A") expenses as a percentage of revenue increased to 27.6% in the three months ended March 31, 2022 from 26.8% in the three months ended March 31, 2021. The SG&A expense increase reflects impacts of 0.3% in our Specialty segment and 0.2% in each of our Wholesale - North America and Europe segments. Refer to the discussion of our segment results of operations for factors contributing to the changes in SG&A expenses as a percentage of revenue by segment for the three months ended March 31, 2022 compared to the three months ended March 31, 2021. Restructuring and Transaction Related Expenses The following table summarizes restructuring and transaction related expenses for the periods indicated (in millions): Three Months Ended March 31, 2022 2021 Change Restructuring expenses $ — $ 8 (1) $ (8) Transaction related expenses 3 (2) — 3 Restructuring and transaction related expenses $ 3 $ 8 $ (5) (1) Restructuring expenses for the three months ended March 31, 2021 primarily consisted of (i) $5 million related to our 1 LKQ Europe program and (ii) $3 million related to our global restructuring programs. (2) Transaction related expenses for the three months ended March 31, 2022 primarily related to external costs such as legal, accounting and advisory fees for completed and potential transactions. See Note 4, "Restructuring and Transaction Related Expenses" to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for further information on our restructuring and integration plans. Depreciation and Amortization The following table summarizes depreciation and amortization for the periods indicated (in millions): Three Months Ended March 31, 2022 2021 Change Depreciation $ 36 $ 39 $ (3) (1) Amortization 23 27 (4) (2) Total depreciation and amortization $ 59 $ 66 $ (7) (1) The decrease in depreciation expense included $1 million from foreign currency translation primarily related to a decrease in the euro and pound sterling exchange rates during the three months ended March 31, 2022 compared to the prior year period with the remaining decrease relating to lower expense in Wholesale - North America and Europe. (2) The decrease in amortization expense primarily reflected (i) a decrease of $2 million related to the customer relationship intangible assets recorded upon our acquisition of Stahlgruber as the accelerated amortization of the customer relationship intangible assets resulted in lower amortization expense during the three months ended March 31, 2022 compared to the prior year period and (ii) a $1 million decrease from foreign exchange translation, primarily related to a decrease in the euro exchange rate. 30 Other Expense, Net The following table summarizes the components of the change in other expense, net (in millions): Other Expense, Net Other expense, net for the three months ended March 31, 2021 $ 18 (Decrease) increase due to: Interest expense, net of interest income (9) (1) Lower Other income, net 6 (2) Net decrease (3) Other expense, net for the three months ended March 31, 2022 $ 15 (1) The lower Interest expense, net of interest income is primarily related to (i) an $8 million decrease resulting from lower interest rates during the three months ended March 31, 2022 compared to the prior year period and (ii) a $1 million decrease from foreign exchange translation, primarily related to a decrease in the euro exchange rate. (2) The unfavorable variance in Other income, net primarily related t o $5 million of fair value adjustments in the first quarter of 2021 for appreciation in our equity investments not accounted for under the equity method compared to a $1 million reduction in fair value recorded in the first quarter of 2022. Provision for Income Taxes Our effective income tax rate for the three months ended March 31, 2022 was 25.0%, compared to 26.3% for the three months ended March 31, 2021. The lower estimated annual effective tax rate for the three months ended March 31, 2022 compared to the three months ended March 31, 2021 is primarily attributable to the geographic distribution of income. For the three months ended March 31, 2022, the effective tax rate was partially decreased by net favorable discrete items including excess tax benefits from stock-based payments partially offset by the revaluation of deferred tax balances in connection with an enacted rate change. Net discrete items for the three months ended March 31, 2021 reduced the effective tax rate by 0.2%, primarily due to excess tax benefits on stock-based payments. See Note 12, "Income Taxes" to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for further information. Equity in Earnings of Unconsolidated Subsidiaries Equity in earnings of unconsolidated subsidiaries for the three months ended March 31, 2022 decreased by $4 million primarily related to a decline in year over year results reported by Mekonomen, which is our largest equity method investment, and an immaterial Self Service investment, which incurred a loss in the first quarter of 2022. Foreign Currency Impact We translate our statements of income at the average exchange rates in effect for the period. Relative to the rates used during the three months ended March 31, 2021 , the euro and pound sterling rates used to translate the 2022 statements of income decreased by 7% and 3%, respectively. The negative translation effect of the change in foreign currencies against the U.S. dollar combined with the negative impact of realized and unrealized currency gains and losses for the three months ended March 31, 2022 to generate a negative $0.02 effect on diluted earnings per share relative to the prior year period. 31 Results of Operations—Segment Reporting We have four reportable segments: Wholesale – North America, Europe, Specialty and Self Service. We have presented the growth of our revenue and profitability in our operations on both an as reported and a constant currency basis. The constant currency presentation, which is a non-GAAP measure, excludes the impact of fluctuations in foreign currency exchange rates. We believe providing constant currency information provides valuable supplemental information regarding our growth and profitability, consistent with how we evaluate our performance, as this statistic removes the translation impact of exchange rate fluctuations, which are outside of our control and do not reflect our operational performance. Constant currency revenue and Segment EBITDA results are calculated by translating prior year revenue and Segment EBITDA in local currency using the current year's currency conversion rate. This non-GAAP financial measure has important limitations as an analytical tool and should not be considered in isolation or as a substitute for an analysis of our results as reported under US GAAP. Our use of this term may vary from the use of similarly-titled measures by other issuers due to potential inconsistencies in the method of calculation and differences due to items subject to interpretation. In addition, not all companies that report revenue or profitability on a constant currency basis calculate such measures in the same manner as we do, and accordingly, our calculations are not necessarily comparable to similarly-named measures of other companies and may not be appropriate measures for performance relative to other companies. The following table presents our financial performance, including third party revenue, total revenue and Segment EBITDA, by reportable segment for the periods indicated (in millions): Three Months Ended March 31, 2022 % of Total Segment Revenue 2021 % of Total Segment Revenue Third Party Revenue Wholesale – North America $ 1,201 $ 1,051 Europe 1,488 1,463 Specialty 460 458 Self Service 199 199 Total third party revenue $ 3,348 $ 3,171 Total Revenue Wholesale – North America $ 1,201 $ 1,051 Europe 1,488 1,463 Specialty 461 459 Self Service 199 199 Eliminations (1) (1) Total revenue $ 3,348 $ 3,171 Segment EBITDA Wholesale – North America $ 218 18.1 % $ 194 18.4 % Europe 131 8.8 % 141 9.6 % Specialty 58 12.6 % 61 13.4 % Self Service 40 20.0 % 56 27.9 % Note: In the table above, the percentages of total segment revenue may not recalculate due to rounding. The key measure of segment profit or loss reviewed by our chief operating decision maker, our Chief Executive Officer, is Segment EBITDA. Segment EBITDA includes revenue and expenses that are controllable by the segment. Corporate general and administrative expenses are allocated to the segments based on usage, with shared expenses apportioned based on the segment's percentage of consolidated revenue. We calculate Segment EBITDA as EBITDA excluding restructuring and transaction related expenses (which includes restructuring expenses recorded in Cost of goods sold); change in fair value of contingent consideration liabilities; other gains and losses related to acquisitions, equity method investments, or divestitures; equity in losses and earnings of unconsolidated subsidiaries; equity investment fair value adjustments; impairment charges; and direct impacts of the Ukraine/Russia conflict and related sanctions (including provisions for reserves for asset recoverability and expenditures to support our employees and their families). EBITDA, which is the basis for Segment EBITDA, is calculated 32 as net income excluding discontinued operations, depreciation, amortization, interest (which includes gains and losses on debt extinguishment) and income tax expense. See Note 13, "Segment and Geographic Information" to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q for a reconciliation of total Segment EBITDA to net income. Three Months Ended March 31, 2022 Compared to Three Months Ended March 31, 2021 Wholesale – North America Third Party Revenue The following table summarizes the changes in third party revenue by category in our Wholesale – North America segment (in millions): Three Months Ended March 31, Percentage Change in Revenue Wholesale – North America 2022 2021 Organic Acquisition and Divestiture Foreign Exchange Total Change Parts & services revenue $ 1,106 $ 969 13.6 % (1) 0.6 % — % 14.2 % Other revenue 95 82 15.8 % (2) 0.4 % — % 16.2 % Total third party revenue $ 1,201 $ 1,051 13.7 % 0.6 % — % 14.3 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. (1) Parts and services organic revenue increased 13.6% (11.8% on a per day basis) for the three months ended March 31, 2022 compared to the prior year period, primarily driven by pricing for both collision and mechanical parts. Aftermarket collision parts volumes decreased year over year due to ongoing ocean freight delays and supply chain challenges, and were largely offset by increased volumes of aftermarket automotive glass products and collision parts from our salvage business. (2) The 15.8%, or $13 million, year over year organic increase in other revenue is primarily related to (i) an $11 million increase in reven ue from other scrap (e.g., aluminum) and cores due to higher prices as well as higher volumes, and (ii) a $2 million increase in revenue from scrap steel due to higher prices. Revenue from precious metals (platinum, palladium, and rhodium) was flat year over year due to higher volumes offset by lower prices. Segment EBITDA Segment EBITDA increased $24 million, or 12.4%, in the first quarter of 2022 compared to the prior year period. This increase is attributable to higher prices on parts and productivity initiatives helping to offset inflationary pressures related to ocean freight, labor, supplies and fuel. Decreases in precious metals prices contributed a $4 million decline in Segment EBITDA relative to the first quarter of 2021. Additionally, net sequential increases in scrap steel prices in our salvage operations had an immaterial favorable impact on Segment EBITDA during the three months ended March 31, 2022 , compared to a $6 million favorable impact du ring the three months ended March 31, 2021. We estimate that precious metals and scrap steel pricing had an unfavorable effect of 0.9% on Segment EBITDA margin relative to the comparable prior year period. The following table summarizes the changes in Segment EBITDA as a percentage of revenue in our Wholesale - North America segment: Wholesale – North America Percentage of Total Segment Revenue Segment EBITDA for the three months ended March 31, 2021 18.4 % Increase (decrease) due to: Change in gross margin 0.1 % (1) Change in segment operating expenses (0.4) % (2) Segment EBITDA for the three months ended March 31, 2022 18.1 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. (1) Gross margin was favorable due to pricing initiatives to offset inflationary increases in material and freight costs. In some cases, we experienced a margin benefit in the first quarter of 2022 as higher prices were enacted ahead of turning the higher cost inventory. The favorable impact was partially offset by a 0.7% unfavorable impact from precious metals and scrap steel pricing. 33 (2) The increase in segment operating expense as a percentage of revenue reflects (i) a 0.2% unfavorable impact from personnel expenses related to inflation and increased stock-based compensation, (ii) a 0.3% unfavorable impact from increased freight and fuel costs, and (iii) several individually immaterial factors that had a 0.3% unfavorable impact in the aggregate, partially offset by (iv) a favorable 0.4% impact from facility related expenses which are relatively fixed in nature. Europe Third Party Revenue The following table summarizes the changes in third party revenue by category in our Europe segment (in millions): Three Months Ended March 31, Percentage Change in Revenue Europe 2022 2021 Organic Acquisition and Divestiture Foreign Exchange (2) Total Change Parts & services revenue $ 1,481 $ 1,455 6.9 % (1) 0.3 % (5.5) % 1.8 % Other revenue 7 8 (7.3) % — % (6.3) % (13.6) % Total third party revenue $ 1,488 $ 1,463 6.8 % 0.3 % (5.5) % 1.7 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. (1) Parts and services organic revenue for the three months ended March 31, 2022 increased by 6.9% (6.0% on a per day basis), driven by roughly equal effects from increased volumes and net price increases compared to the prior year. Revenue growth from net price increases reflects actions taken to offset increased costs resulting from inflationary pressures. The U.K., Germany, Central and Eastern Europe, and Benelux reported the largest incremental increases for the period. (2) Compared to the prior year, exchange rates decreased our revenue growth by $80 million, or 5.5%, primarily due to the stronger U.S. dollar against the euro and pound sterling during the first quarter of 2022 relative to the prior year period. Segment EBITDA Segment EBITDA decreased $10 million, or 6.8%, in the first quarter of 2022 compared to the prior year period. Our Europe Segment EBITDA included a negative year over year impact of $7 million rel ated to the translation of local currency results into U.S. dollars at lower exchange rates than those experienced during the first quarter of 2021. On a constant currency basis (i.e., excluding the translation impact), Segment EBITDA decreased by $2 million, or 1.5%, co mpared to the prior year. Refer to the Foreign Currency Impact discussion within the Results of Operations–Consolidated section above for further detail regarding foreign currency impact on our results for the three months ended March 31, 2022. The following table summarizes the changes in Segment EBITDA as a percentage of revenue in our Europe segment: Europe Percentage of Total Segment Revenue Segment EBITDA for the three months ended March 31, 2021 9.6 % Increase (decrease) due to: Change in gross margin (0.5) % (1) Change in segment operating expenses (0.3) % (2) Segment EBITDA for the three months ended March 31, 2022 8.8 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. (1) The decrease in gross margin was primarily attributable to (i) an unfavorable impact of 0.2% from increased excess and obsolete inventory reserves as an indirect result of the Ukraine/Russia conflict, primarily related to a portion of our inventory that fits Russian-made vehicles and may have limited use outside of Russian vehicle applications and (ii) several individually immaterial factors that had an unfavorable impact of 0.3% in the aggregate, including inflationary pressures that are impacting product and freight costs. Net price increases and other margin improvement initiatives continue to be enacted in order to offset these inflationary pressures. (2) The increase in segment operating expenses as a percentage of revenue reflects (i) an unfavorable impact of 0.3% related to a higher provision for credit losses, including impacts related to a customer bankruptcy, and (ii) an unfavorable impact of 0.2% from inflationary pressures around vehicle and fuel expense, partially offset by (iii) several individually immaterial factors that had a favorable impact of 0.2% in the aggregate. 34 Specialty Third Party Revenue The following table summarizes the changes in third party revenue by category in our Specialty segment (in millions): Three Months Ended March 31, Percentage Change in Revenue Specialty 2022 2021 Organic (1) Acquisition and Divestiture (2) Foreign Exchange Total Change Parts & services revenue $ 460 $ 458 (8.3) % 8.8 % — % 0.4 % Other revenue — — — % — % — % — % Total third party revenue $ 460 $ 458 (8.3) % 8.8 % — % 0.4 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. (1) Parts and services organic revenue for the three months ended March 31, 2022 decreased by 8.3% (9.8% on a per day basis) due to the strong growth we experienced in the first quarter of 2021, when parts and services organic revenue growth was 30.9%, and demand softness from lower new vehicle sales caused by supply chain challenges. (2) Acquisition related growth for the three months ended March 31, 2022 reflected revenue from our acquisitions of three Specialty businesses from the beginning of 2021 through the one-year anniversary of the acquisition dates. Segment EBITDA Segment EBITDA decreased $3 million, or 5.5%, in the first quarter of 2022 compared to the prior year first quarter primarily due to the effect of inflation on overhead expenses. The following table summarizes the changes in Segment EBITDA as a percentage of revenue in our Specialty segment: Specialty Percentage of Total Segment Revenue Segment EBITDA for the three months ended March 31, 2021 13.4 % Increase (decrease) due to: Change in gross margin 1.1 % (1) Change in segment operating expenses (1.9) % (2) Segment EBITDA for the three months ended March 31, 2022 12.6 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. (1) The increase in gross margin primarily reflects lower discounting to recover higher input costs and, to an extent, favorable product and channel mix, partially offset by a 0.9% unfavorable impact from acquisitions. (2) The increase in segment operating expenses as a percentage of revenue primarily reflects unfavorable impacts of (i) 1.5% in personnel costs as a result of wage inflation and lower operating leverage due to the organic parts and services revenue decline, (ii) 0.4% in freight, vehicle and fuel expenses primarily due to higher fuel costs, (iii) 0.3% due to distribution center expansion, and (iv) several individual immaterial factors that had an unfavorable impact of 0.3% in the aggregate, partially offset by (v) a favorable impact of 0.6% from operating expense synergies and leverage generated from the 2021 acquisitions. 35 Self Service Third Party Revenue The following table summarizes the changes in third party revenue by category in our Self Service segment (in millions): Three Months Ended March 31, Percentage Change in Revenue Self Service 2022 2021 Organic Acquisition and Divestiture Foreign Exchange Total Change Parts & services revenue $ 57 $ 50 14.6 % (1) — % — % 14.6 % Other revenue 142 149 (5.0) % (2) — % — % (5.0) % Total third party revenue $ 199 $ 199 (0.1) % — % — % (0.1) % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. (1) Parts and services organic revenue increased 14.6% for the three months ended March 31, 2022 compared to the prior year period, primarily driven by pricing initiatives to mitigate significant increases in input costs resulting from greater competition for vehicles. (2) The 5.0%, or $7 million, year over year organic decrease in other revenue is related to (i) a $15 million decrease in revenue from precious metals (platinum, palladium, and rhodium) due to both lower prices and volumes, partially offset by (ii) a $4 million increase in revenue from other scrap (including aluminum) and cores and (iii) a $4 million increase in revenue from scrap steel primarily related to higher prices, partially offset by lower volumes. Segment EBITDA Segment EBITDA decreased $16 million, or 28.5%, in the first quarter of 2022 compared to the prior year period. This decrease is primarily attributable to unfavorable movements in commodity prices compared to the prior year. Decreases in precious metals prices contributed an estimated $9 million decline in Segment EBITDA relative to the first quarter of 2021. Additionally, net sequential increases in scrap steel prices in our self service operations had a $2 million favorable impact on Segment EBITDA during the three months ended March 31, 2022, compared to a $15 million favorable impact during the three months ended March 31, 2021. This favorable impact for both periods resulted from the increase in scrap steel prices between the date we purchased a vehicle, which influences the price we pay for a vehicle, and the date we scrapped a vehicle, which influences the price we receive for scrapping a vehicle. We estimate that precious metals and scrap steel pricing had an unfavorable effect of 11.1% on Segment EBITDA margin relative to the comparable prior year period. The following table summarizes the changes in Segment EBITDA as a percentage of revenue in our Self Service segment: Self Service Percentage of Total Segment Revenue Segment EBITDA for the three months ended March 31, 2021 27.9 % Increase (decrease) due to: Change in gross margin (7.0) % (1) Change in segment operating expenses (0.9) % (2) Segment EBITDA for the three months ended March 31, 2022 20.0 % Note: In the table above, the sum of the individual percentages may not equal the total due to rounding. (1) The decrease in gross margin reflects (i) an unfavorable impact of 11.1% resulting from movements in metals prices compounded by car cost increases, partially offset by (ii) a favorable impact of 4.1% due to increased prices for parts and services. (2) The increase in segment operating expense as a percentage of revenue reflects (i) a 0.5% unfavorable impact from increased freight and fuel costs and (ii) several individually immaterial factors that had a 0.4% unfavorable impact in the aggregate. 36 Liquidity and Capital Resources The following table summarizes liquidity data as of the dates indicated (in millions): March 31, 2022 December 31, 2021 Cash and cash equivalents $ 327 $ 274 Total debt (1) 2,721 2,824 Current maturities (2) 31 35 Capacity under credit facilities (3) 3,150 3,150 Availability under credit facilities (3) 1,268 1,194 Total liquidity (cash and cash equivalents plus availability under credit facilities) 1,595 1,468 (1) Debt amounts reflect the gross values to be repaid (excluding debt issuance costs of $10 million and $12 million as of March 31, 2022 and December 31, 2021, respectively). (2) Debt amounts reflect the gross values to be repaid in the next 12 months (excluding debt issuance costs of immaterial amounts as of March 31, 2022 and December 31, 2021). (3) Capacity under credit facilities includes our revolving credit facilities and availability under credit facilities is reduced by our outstanding letters of credit. We assess our liquidity in terms of our ability to fund our operations and provide for expansion through both internal development and acquisitions. Our primary sources of liquidity are cash flows from operations and our credit facilities. We utilize our cash flows from operations to fund working capital and capital expenditures, with the excess amounts going towards funding acquisitions, paying down outstanding debt, paying dividends or repurchasing our common stock. As we have pursued acquisitions as part of our historical growth strategy, our cash flows from operations have not always been sufficient to cover our investing activities. To fund our acq uisitions, we have accessed various forms of debt financing, including revolving credit facilities and senior notes. As of March 31, 2022, we had debt outstanding and additional available sources of financing as follows: • Senior secured credit facilities maturing in January 2024, composed of $3,150 million in revolving credit ($1,813 million outstanding at March 31, 2022), bearing interest at variable rates, with availability reduced by $69 million of amounts outstanding under letters of credit • Euro Notes (2024) totaling $553 million (€500 million), maturing in April 2024 and bearing interest at a 3.875% fixed rate • Euro Notes (2028) totaling $277 million (€250 million) maturing in April 2028 and bearing interest at a 4.125% fixed rate As of March 31, 2022, we had approximately $1,268 million available under our credit facilities. Combined with $327 million of cash and cash equivalents at March 31, 2022, we had approximately $1,595 million i n available liquidity, an increase of $127 million from our available liquidity as of December 31, 2021. We believe that our current liquidity and cash expected to be generated by operating activities in future periods will be sufficient to meet our current operating and capital requirements. Our 2022 plan includes further spending to rebuild inventory levels, support growth driven capital projects, and complete strategic acquisitions. Beginning in the fourth quarter of 2021, we expanded our capital allocation strategy to include the payment of dividends as an additional mechanism to return value to our stockholders. A summary of the dividend activity for our common stock for the three months ended March 31, 2022 is as follows: Dividend Amount Declaration Date Record Date Payment Date $0.25 February 15, 2022 March 3, 2022 March 24, 2022 On April 26, 2022, our Board of Directors declared a quarterly cash dividend of $0.25 per share of common stock, payable on June 2, 2022, to stockholders of record at the close of business on May 19, 2022. We believe that our future cash flow generation will permit us to continue paying dividends in future periods; however, the timing, amount and frequency of such future dividends will be subject to approval by our Board of Directors, and based on considerations of capital availability, compliance with covenants in our credit facilities and senior note indentures, and various other factors, many of which are outside of our control. 37 With $1,595 million of total liquidity as of March 31, 2022 and $31 million of current maturities, we have access to funds to meet our near term commitments. We have a surplus of current assets over current liabilities, which further reduces the risk of short-term cash shortfalls. Furthermore, in April 2022, we received $362 million in gross proceeds related to the PGW sale, which increased our cash liquidity. Our total liquidity inclu des availability under our senior secured credit facility, which includes the two financial maintenance covenants presented below (our required debt covenants and our actual ratios with respect to those covenants as calculated per the credit agreement as of March 31, 2022): Covenant Level Ratio Achieved as of March 31, 2022 Maximum net leverage ratio 4.00 : 1.00 1.3 Minimum interest coverage ratio 3.00 : 1.00 32.6 The terms net leverage ratio and minimum interest coverage ratio used in the credit agreement are specifically calculated per the credit agreement and differ in specified ways from comparable US GAAP or common usage terms. Our credit agreement contains customary covenants that impose limitations and conditions on our ability to enter into certain transactions. The credit agreement also contains financial and affirmative covenants, including limitations on our net leverage ratio and a minimum interest coverage ratio. We were in compliance with all restrictive covenants under our credit agreement as of March 31, 2022. The indentures relating to our Euro Notes d o not include financial maintenance covenants, and the indentures will not restrict our ability to draw funds on the credit facility. The indentures do not prohibit amendments to the financial covenants under the credit facility as needed. In the long term, while we believe that we have adequate capacity under our existing credit facilities, from time to time we may need to raise additional funds through public or private financing, strategic relationships or other arrangements, such as (i) our November 2018 amendment to our senior secured credit facility and (ii) the issuance of the "Euro Notes (2026)" and the "Euro Notes (2028)" in April 2018 related to the Stahlgruber acquisition. There can be no assurance that additional funding, or refinancing of our credit facilities, if needed, will be available on terms attractive to us, or at all. Furthermore, any additional equity financing may be dilutive to stockholders, and debt financing, if available, may involve restrictive covenants or higher interest costs. Our failure to raise capital if and when needed could have a material adverse impact on our business, operating results, and financial condition. Beginning in 2019, a number of our European suppliers began participating in a supply chain financing initiative in select countries under which they may sell their accounts receivable to the participating financial institutions, allowing us to extend payment terms which in turn improves our operating cash flows. The initiative allows our suppliers to monetize their receivables prior to their payment date, subject to payment of a discount. We expect more suppliers will begin participating in our European supply chain financing initiative in 2022. Financial institutions participate in the supply chain financing initiative on an uncommitted basis and can cease purchasing receivables from our suppliers at any time. The initiative is at the sole discretion of both the supplier and the financial institution on terms that are negotiated between them. In the future, if the financial institutions do not continue to purchase receivables from our suppliers under the initiative, the participating vendors may need to renegotiate their payment terms with us, which in turn could cause our borrowings under our revolving credit facility to increase. All outstanding payments owed under the initiative to the participating financial institutions are recorded within Accounts payable in our Unaudited Condensed Consolidated Balance Sheets. Borrowings under the credit agreement accrue interest at variable rates which are tied to various indices, depending on the currency and the duration of the borrowing, plus an applicable margin rate that is subject to change quarterly based on our reported leverage ratio. Our borrowings in U.S. dollars continue to accrue interest at LIBOR until a replacement rate is specified, which is expected to occur prior to June 2023. We do not expect the change in benchmark rates will have a material impact on our results of operations, financial position or liquidity. We have held interest rate swaps to hedge the variable rates on a portion of our credit agreement borrowings, with the effect of fixing the interest rates on the respective notional amounts. In addition, from time to time, we hold currency swaps that contain an interest rate swap component and a foreign currency forward contract component that, when combined with related intercompany financing arrangements, effectively convert variable rate U.S. dollar-denominated borrowings into fixed rate euro-denominated borrowings. These derivative transactions are described in Note 9, "Derivative Instruments and Hedging Activities," to the Unaudited Condensed Consolidated Financial Statements in Part I, Item 1 of this Quarterly Report on Form 10-Q. As of March 31, 2022, we did not have any of these contracts outstanding. The weighted average interest rate on 38 borrowings outstanding under our credit agreement was 1.2% at March 31, 2022. Including our senior notes, our overall weighted average interest rate on borrowings was 2.1% at March 31, 2022. We had outstanding credit agreement borrowin gs of $1,813 million and $1,887 million at March 31, 2022 and December 31, 2021, respectively. Of these amounts, t here were no current maturities at March 31, 2022 or December 31, 2021. The scheduled maturities of long-term obligations outstanding at March 31, 2022 are as follows (in millions): Amount Nine months ending December 31, 2022 (1) $ 24 Years ending December 31: 2023 18 2024 2,375 2025 10 2026 3 Thereafter 291 Total debt (2) $ 2,721 (1) Long-term obligations maturing by December 31, 2022 include $14 million of short-term debt that may be extended beyond the current year ending December 31, 2022. (2) The total debt amounts presented above reflect the gross values to be repaid (excluding debt issuance costs of $10 million as of March 31, 2022). As of March 31, 2022, the Company had cash and cash equivalents of $327 million, of which $237 million was held by foreign subsidiaries. In general, it is our practice and intention to permanently reinvest the undistributed earnings of our foreign subsidiaries. We believe that we have sufficient cash flow and liquidity to meet our financial obligations in the U.S. without repatriating our foreign earnings. We may, from time to time, choose to selectively repatriate foreign earnings if doing so supports our financing or liquidity objectives. Distributions of dividends from our foreign subsidiaries, if any, would be generally exempt from further U.S. taxation, either as a result of the 100% participation exemption under the Tax Cuts and Jobs Act, or due to the previous taxation of foreign earnings under the transition tax and the Global Intangible Low-Taxed Income regime. The procurement of inventory is the largest operating use of our funds. We normally pay for aftermarket product purchases on standard payment terms or at the time of shipment, depending on the manufacturer and the negotiated payment terms. We normally pay for salvage vehicles acquired at salvage auctions and under direct procurement arrangements at the time that we take possession of the vehicles. The following table sets forth a summary of our aftermarket and manufactured inventory procurement for the three months ended March 31, 2022 and 2021 (in millions): Three Months Ended March 31, 2022 2021 Change Wholesale - North America $ 317 $ 260 $ 57 (1) Europe 955 894 61 (2) Specialty 403 391 12 (3) Total $ 1,675 $ 1,545 $ 130 (1) Inventory purchases across the Wholesale - North America segment increased in the three months ended March 31, 2022 compared to the prior year period primarily due to required restocking to keep up with the high demand for our products. Our inventory purchases did not reach our desired levels in the first three months of 2022 due to ocean freight driven delays in shipping. (2) The increase in inventory purchases in our Europe segment included a decrease of $53 million attributable to the decrease in the value of the euro, and to a lesser extent, the pound sterling in the three months ended March 31, 2022 compared to the prior year period. On a constant currency basis, inventory purchases increased compared to the prior year period, due to required restocking to keep up with the high demand for our products as well as purchases to improve availability for customers in certain regions. (3) The increase in inventory purchases in the Specialty segment compared to the prior year period was primarily due to inventory purchases made by acquired companies. These companies were not acquired until the second half of 2021. 39 The following table sets forth a summary of our global wholesale salvage and self service procurement for the three months ended March 31, 2022 and 2021 (in thousands): Three Months Ended March 31, 2022 2021 % Change Wholesale - North America salvage vehicles 60 50 20 % Europe wholesale salvage vehicles 8 7 14 % Self Service salvage vehicles 135 137 (1) % Wholesale - North America salvage purchases in 2022 increased relative to the prior year due to limitations in the prior year on vehicles at auctions . Self service vehicle purchases in 2022 were roughly flat year over year. We expect to increase inventory purchases in 2022 to support the service and fill rate requirements of our businesses based on the revenue trend and expectations for full year 2022, including normal seasonality as supply chain challenges in 2021 deferred a portion of the inventory build to 2022 (although if supply chain challenges continue our ability to increase inventory purchases to the desired level could be affected). The following table summarizes the components of the year over year changes in cash provided by operating activities (in millions): Operating Cash Net cash provided by operating activities for the three months ended March 31, 2021 $ 523 Increase (decrease) due to: Cash paid for taxes 88 (1) Working capital accounts: (2) Receivables, net (32) Inventories (85) Accounts payable (22) Other operating activities (63) (3) Net cash provided by operating activities for the three months ended March 31, 2022 $ 409 (1) Cash payments related to income taxes were lower for U.S. federal and state income taxes due to the timing of estimated tax payments. (2) Cash flows related to our primary working capital accounts can be volatile as the purchases, payments and collect ions can be timed differently from period to period. • Receivables, net was a $32 million greater outflow in 2022 primarily due to an increase in the revenue for the three months ended March 31, 2022 compared to the three months ended March 31, 2021, which translated to higher receivables balances and larger net outflows in the Wholesale - North America segment of $43 million and in the Europe segment of $32 million. We had a smaller cash outflow in the Specialty segment of $42 million compared to prior period due to lower revenue. • Inventories represented $85 million in incremental cash outflows in the first three months of 2022 compared to the same period of 2021. The change is primarily attributable to increased inventory purchases in the current year as a result of strong demand and strategic inventory purchases to curb the impacts of supply chain constraints. • Accounts payable produced $22 million in lower cash inflows primarily due to timing of payments with lower accounts payable balances in our Europe segment of $78 million and Specialty segment of $31 million, partially offset by higher accounts payable balances in our Wholesale - North America segment of $86 million. (3) Reflects a number of individually insignificant fluctuations in cash paid for other operating activities. Net cash used in investing activities tota led $63 million a nd $33 million during the three months ended March 31, 2022 and 2021, respectively. Property, plant and equipment purchases were $59 million in the three months ended March 31, 2022 compared to $42 million in the prior year period, primarily driven by capital projects in our Wholesale - North America segment. 40 The following table reconciles Net Cash Provided by Operating Activities to Free Cash Flow (in millions): Three Months Ended March 31, 2022 2021 Net cash provided by operating activities $ 409 $ 523 Less: purchases of property, plant and equipment 59 42 Free cash flow $ 350 $ 481 Net cash used in financing activities totaled $278 million and $208 million for the three months ended March 31, 2022 and 2021, respectively. During the three months ended March 31, 2022, net repayments of our borrowings totaled $53 million compared to $83 million during the three months ended March 31, 2021. We repurcha sed $144 million o f our common stock in the three months ended March 31, 2022, compared to $57 million in the three months ended March 31, 2021. In January 2021, we settled our cross currency swap and other foreign exchange forward contracts with the counterparties for $57 million due primarily to strengthening in the Euro exchange rate relative to the contract rate. We also pai d $71 million in dividends to our stockholders in the three months ended March 31, 2022 (no dividends were paid in the three months ended March 31, 2021). We intend to continue to evaluate markets for potential growth through the internal development of distribution centers, processing and sales facilities, and warehouses, through further integration of our facilities, and through selected business acquisitions. Our future liquidity and capital requirements will depend upon numerous factors, including the costs and timing of our internal development efforts and the success of those efforts.