Good morning, and welcome to the KAR Auction Services, Inc. 2023 First Quarter Earnings Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded. I would now like to turn the conference over to Mike Eliason, Treasurer and Vice President, Investor Relations. Please go ahead.

Thanks, Andrew. Good morning, and thank you for joining us today for the KAR Global first quarter 2023 earnings conference call. Today, we will discuss the financial performance of KAR Global for the quarter ended March 31, 2023. After concluding our commentary, we will take questions from participants. Before Peter kicks off our discussion, I'd like to remind you that this conference call contains forward-looking statements within the meaning of the Safe Harbor provisions for the Private Securities Litigation Reform Act of 1995. Investors are cautioned that such forward-looking statements involve risks and uncertainties that may affect KAR's business, prospects and results of operations, and such risks are fully detailed in our SEC filings. In providing forward-looking statements, the company expressly disclaims any obligation to update these statements. Let me also mention that throughout this conference call, we will be referencing both GAAP and non-GAAP financial measures. Reconciliations of the non-GAAP financial measures to the applicable GAAP financial measures can be found in the press release that we issued yesterday, which is also available in the Investor Relations section of our website. Now, I'd like to turn this call over to KAR Global's CEO, Peter Kelly. Peter?

Thank you, Mike, and good morning, everybody. I'm delighted to be here this morning to provide you with an update on KAR Global, which, as we announced in a press release last night, will soon be known as OPENLANE, Inc. Given that announcement, we will be structuring today's call a little differently than usual. I will begin by providing additional information relating to our first quarter performance and the current market factors impacting the automotive industry. We will then turn to a more in-depth discussion of our financial performance in the quarter. And then before we move to Q&A, I'll walk through a few slides detailing our OPENLANE brand transformation and platform consolidation strategy. But before I get started, I want to welcome our new Chief Financial Officer, Brad Lakhia, to the call and to our company. As we detailed in our announcement a few weeks ago, Brad brings a lot of great experience to our management team. And I'm very much looking forward to working with him to help grow this company and deliver excellent stockholder value. So, Brad, welcome to OPENLANE. Brad is only two weeks on the job, so Scott Anderson, who served as our Interim CFO for the past quarter, will deliver the remarks for the financial portion of the call in just a few minutes. So, let me turn to our first quarter performance. And as usual, I'm going to speak about our business in two segments, a marketplace segment and a finance segment. I'm very pleased with our solid performance in the first quarter and the improvement we achieved over the prior year, including double-digit growth in revenue, gross profit, adjusted EBITDA and operating adjusted earnings per share. These results are consistent with the expectation that we discussed on last quarter's call, a 15%…

Thank you, Peter. As Peter has already commented on many of our financial metrics, I have only a couple of additional areas to review. We have made one disclosure change. Because of platform consolidation, we will no longer be providing separate digital dealer-to-dealer vehicles sold volumes for our marketplace segment. Since we are now 100% digital sales and we are moving to consolidated platforms, we believe the separate volume measure is no longer a key indicator of the success of our marketplace business. However, we will continue to provide total dealer volume and total commercial volume. In the first quarter, marketplace revenues, excluding purchased vehicle sales, increased 11% to $266 million and generated approximately 73% of our consolidated revenues, excluding purchased vehicle sales. Auction fees declined by 1% largely due to a 6% decline in total vehicle sold due to the market conditions Peter highlighted. Offsetting volume declines, auction fees per unit increased approximately 5% to $303, due to select fee increases, and a lower mix of commercial off-premise vehicles, which generally earn lower fees compared to other channels. Marketplace service revenue was up 20% due to increases in repossession, remarketing, transportation and technology services provided. Strong marketplace revenue growth resulted in 27% increase in gross profit versus the first quarter of 2022 and 520-basis-point improvement in gross margins, excluding purchased vehicle revenues. The business also benefited from improved transportation margins and the execution of cost control initiatives. Moving on to the finance segment. Revenues grew 18% over the prior year and accounted for 27% of consolidated revenues, excluding purchased vehicles. Strong revenue growth was due to loan transaction unit increases as well as fee and interest income growth. As we move through the year, we expect to manage a conservative portfolio. Our strong service offering and high-touch model helps…

Thank you, Scott. Before we go to Q&A, I'd like to provide some additional context and detail around yesterday evening's announcement and a rebrand from KAR Global to OPENLANE. And during this section, I will be referencing slides that we will show as part of today's webcast. At the conclusion of this call, we will also post these slides to the Investors section of our website. First, we're very excited to advance the next year of our company and our industry under the OPENLANE brand. I believe that this change is much more than just a new name and logo. It is a change in how we think about our business, how we operate, how we interact with our customers and how we invest for the future. In many ways, it represents the culmination of the transformation that has already taken place at our company. Shifting from a legacy physical auction business to a more asset-light, digital marketplace that we believe will offer our customers the fastest, easiest, most advanced and most trusted channel available to sell and source used vehicles. But before I talk about what's changing, let me cover a few things that will not change. First, this rebrand will not apply to our floorplan business, AFC. And as mentioned in our press release, we will continue to trade under the ticker symbol, KAR, so there will be no confusion to our investor base. There is also no change to our purpose, which is to make wholesale easy so that our customers can be more successful. Our customers will be at the center of everything we do at OPENLANE. We want to make working with us and transacting on our marketplace as easy as possible. And at OPENLANE, we'll also continue pursuing our vision, which is to build…

We will now begin the question-and-answer session. [Operator Instructions] The first question comes from Ryan Brinkman with J.P. Morgan. Please go ahead.

Great. This is Rajat on for Ryan. And thanks for taking the questions. I had a first question just on the rebranding exercise. Why do you go through this transition through the course of the year? Should we be accounting for any maybe one-time impacts or any transitory impact on the volumes? And are you able to lay out or give us any sense of any other like one-time cash cost related to the transition that we should be keeping in mind? And I have a follow-up. Thanks.

Thanks, Rajat. The brand change does not impact our guidance and does not impact our projections. We -- there's two elements to it: there's platform consolidation work, which is part of the ongoing work we've been doing, I've spoken about that on prior calls; and the additional branding costs, candidly, are relatively modest and do not impact our guidance that Scott reiterated on the call here this morning. And I don't expect material impacts to volume either from this transition.

Got it. And maybe just on the guidance itself meaning excluding the one-time charge, EBITDA was close to $70 million. We're still at a depressed level of volume from an industrial perspective, admittedly higher prices. Going from $70 million in 1Q to more like $260 million at the midpoint, I mean that seems like -- that seems much lower than the quarterly run rate that you started with at a depressed level of volumes. So curious if you could give us any sense of the EBITDA trajectory through the course of the year? What's driving that conservatism? Is it given where prices are? Or is it more normal seasonality that you think might come into play again in the second half? If you could just help us bridge that? And also, if you could throw in like anything with AFC within the guide as well that might be impacting it? Thanks.

Rajat, good questions. Again, listen, Q1 was a strong quarter. I think $70 million adjusted EBITDA excluding the one-time charge, I feel very good about it. I also feel good about the fact that we're starting to see the marketplace segments make a contribution once again. I mean, it is our core business. It has been under pressure. But I think in Q1, that positive impact of changes we've been working on is starting to show up. So, I feel really good about that. We're still taking a fairly conservative view on the year. While some customers have signaled there may be increased off-lease vehicles in the second half of the year, it's been so difficult to predict over the last two years. We're just taking a cautious view on that. We're not projecting that. And if that does show up, that will be positive to our projections. I'd also say, we're continuing to be cautious about AFC. I could comment more on that. I think we actually expect losses to -- credit risk losses to decline slightly here as we move into the year, but we did see higher losses certainly than last year. So, I think it's reasonable to expect AFC's total performance for this year might be a little bit below what we saw for the full year last year. And that plays into our thinking as well as we think about the guidance.

Understood. That's helpful. Maybe just like one clarification. So, I think last quarter you mentioned that you expect marketplace volumes to be flattish for the full year. Assuming like that's still the expectation at the midpoint of the guide, right?

Yes, that's still the expectation. Marketplace volume is flattish. And I guess implied in that, Rajat, is we do expect to start seeing some year-on-year increases in volume before the end of this year to get us to a flat for the year overall. So I think that's a reasonable expectation. But listen, there's been a lot of flux in our industry. It's been couple of years where predictions have been difficult. So again, I think we have taken, what I would characterize, a more cautious outlook around projections.

Got it. Great. Thanks for all the color, and I'll jump back in queue.

Thank you, Rajat.

The next question comes from Craig Kennison with Baird. Please go ahead.

Hey, good morning. Thanks for taking my question. And for what it's worth, I think my brain appreciates the simplicity of one platform under OPENLANE. So that's my two cents. So there's a lot you don't control about the market in terms of volume and whatnot, but you can still impact the number of dealers selling on your platform and the share of that volume. I'm just wondering what you can tell us about any success you've had with dealer recruitment efforts? And to what extent it's in any way geographically based given the history of BacklotCars or the history of OPENLANE on the West Coast?

Yes. Ryan, we did the change -- sorry. Craig, sorry. Craig, we did the change with you in mind. We're very -- trying to simplify our business for our investors as well, as well as our customers and as well as for us. I appreciate the comments. You're right, there's a lot we don't control. I think it's important to focus on what are those things we can control. And I think that we are doing that and again I think that's showing up in our performance. Obviously, customer, I spoke in broad terms about the number of active customers in our marketplace, 50,000 active participants on an annual basis, that's a number we're proud of. That number has been, I'd say, stable over time. And certainly as volumes come back, we expect it to increase as well. I'd say what we saw in the first quarter. We saw strong buyer activity. We saw buyer growth in absolute terms. And I think that was also consistent with just limited supply, strong demand, improved conversion rates. Conversion rates improved materially versus Q4 into Q1. So, it was a strong spring market and that was reflected by a lot of buyer activity. It was a quarter, I'd say, where sellers were holding on to get the best possible price for their vehicles. They recognized the market was strong and they wanted to take advantage of that. But we saw a good seller activity as well. I'd say as we look into Q2, we're seeing those things kind of normalize a little bit. I'd say some of the demand is weakening a little bit. Prices are plateauing, and buyer and seller growth, I'd say, are more equally balanced at this point. I guess in terms of buyer recruitment, obviously, we have sales and marketing efforts that go with that. One of the things we have been focused on, as I mentioned on prior calls, is the rollout of our auction format now on the BacklotCars platform. This was the former sort of CARWAVE model, an auction format operating in a limited number of markets. So in Q1, we started rolling that out. I believe we've rolled it out now to 10 or 12 states, all I think west of the Mississippi still at this point. But that rollout now is well underway and we're signing up more and more dealers to participate in that, more and more buyers to participate in that, with, I'd say, generally good results there too.

Got it. Thank you.

Thanks, Craig.

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

Hey, good morning, Peter. Hey, I know you just mentioned that conversion rates improved materially, but could you put some numbers on that for us please? What the conversion rates were in this quarter versus maybe Q1 last year and Q4 of last year?

We don't provide the precise conversion rates and they do vary by different channels when we've had these, sort of, different marketplaces. So that's something that's going to evolve over time. I guess what I'd say sort of qualitatively or descriptively, Gary, would be we saw a material improvement versus Q4 and conversion rates, I would say, consistent with Q1 of last year, maybe in a couple of areas, they're a little higher depending on the marketplace. Yes, probably if anything a little higher than Q1 of last year and materially higher than Q4 of last year. And then, I'd say over the course of the quarter, we saw that sort of level of intensively peak early March and we've seen it kind of plateau since then and that scenario has kind of continued. Still a strong market, but no longer a market where pricing is increasing.

Would you say that -- for the spring selling season, conversion rates usually improve pretty dramatically. But as a function of cars actually entering the auction, was it -- did it improve, or were there -- actually the conversion ratios were up just because there's a lower amount of cars coming through the pipe?

I'd say it's a little bit of both. As you know Gary, there's typically a spring market. Perhaps one of the reasons it was more evident this year is the latter part of last year was particularly weak. So, maybe the comparison from November-December to January-February was just more -- it was more separation there than we might typically see. I think some of that was a function of supply. Off-lease volumes continue to remain very, very scarce. So we didn't see a material uptick in off-lease volume in the first quarter. So scarcity probably contributes to that. And then we do look at market share. Some of the data doesn't get report until after hours. But based on the data that we have of the industry and various data sources that we looked at, we think it was a positive quarter us in terms of market share, one where our market share increased overall.

Okay. Thank you very much.

You're welcome, Gary.

The next question comes from Bob Labick with CJS Securities. Please go ahead.

Hi, good morning. It's Pete Lucas for Bob. Just going back to OPENLANE, part of the home run potential for the one platform, one brand strategy in our mind is the opportunity to sell off-lease cars in "open online auctions," meaning not just that franchise's brand. Wondering if you could tell us what percentage of sales pre-COVID were "open for OPENLANE?" Where is it now? And where do you see it going in the next three to five years?

Pete, that's a great question. And I think you've hit on, I think, a very important strategic lever we have over the longer term here at this business. As I mentioned in my remarks, we've got deep strength in commercial and particularly in the off-lease segments. I kind of characterize that as that's a musical instrument that just isn't playing right now in this industry because there're just so few off-lease cars as a function of this market. It's to do with the pricing and the market value versus residual. I'm confident that over time all that gets worked out, all of that normalizes. I'm confident that leasing is going to remain a big part of the way cars are retailed, particularly in the United States and Canada, North America. If anything, as the industry transitions EVs, maybe we'll see even more leasing. Certainly some of our commercial customers tell us that. So I think leasing is going to be a big part of this industry. And I think ultimately this vehicle value versus residual value equation is all going to normalize, but it's going to take some time. So to get to the specifics of your question, pre-COVID, typically, what would happen is we'd sell about 50% of the off-lease cars in the private label environment. And then, we'd maybe sell another 10% or so in the open. And that means that the overall conversion rate was about 60% and 40% of the vehicles will go to physical auction. And those are sort of rough numbers, but directionally indicative of what that channel looked like. Today is quite different, because there's so few off-lease vehicles, 80%-plus of them are selling in the private label to the grounding dealers, the first dealer that gets the chance to buy that car,…

Very helpful. Thank you.

Thanks, Peter.

The next question comes from Bret Jordan with Jefferies. Please go ahead.

Hey, good morning, guys.

Good morning, Bret.

[You told that] (ph) service and I think repo within service as a contributor in the quarter. Could you kind of bucket the contributors to service and maybe the cadence of what you're seeing in repo in the current environment?

Yes, thanks, Brett. Under services, the way I think about services, we've got certain services that are attached to the types of the vehicles that we sell. Examples of that -- the easiest example of that would be logistics. We sell a vehicle. We give the dealer the opportunity to have us deliver the vehicle for them. And if they choose us, as we often -- we generally hope they will, that's an opportunity for service revenue and profit. So that's what we call like an attached service, certain reconditioning activities will be attached services as well. And then there are sort of services that are sort of separate from vehicles that we sell. We have an inspection business that inspect vehicles. We have a key business. And obviously, we have repossession servicing businesses, just to give a few examples. So those businesses, I'm happy to say, are all performing better than a year ago. Some of them were under volume pressure and the profitability was challenged. We've addressed a lot of that, and that's showing up in our results. If we look at specific to the repo segment, we have two businesses that serve the repo segment. We've got a digital platform RDN, and we've got a repossession servicing provider called PAR. Both of those have seen significant volume growth, because there is more repossession activity in the industry today. So those businesses are driving some growth in revenue and growth in profit for our business. But I will say that today, pretty much all -- I've said this on prior calls, pretty much all of those repossessed vehicles sell at physical auction. It's really the one segment of our industry that has not yet been disrupted by a digital-only model. So, although repo volumes are up, those volumes continue to flow to physical. We've got some initiatives to start to sell some of those vehicles in a more digital format in our marketplaces. We're working on that currently. It's too really early to talk about that. It's certainly not meaningful in any way to our business at this point. But it is an area of opportunity that we're focused on for the future.

I guess that leads to my second question. Your comment that pre-COVID 40% of off-lease volumes went to physical, and we have not I think had a normal off-lease environment since you divested your physical assets. But is there -- I guess is there some requirement from some commercial sellers that you have availability of physical or will they just put it all to digital, because digital's all that is available?

I don't think there's any requirement from sellers, no. I think our sellers see us as a digital marketplace business, a leader in the space, a leader with off-lease vehicles. And I think our sellers are very -- we've had a chance to speak in detail about our strategy. I think they're very aligned with it. I've had a chance to preview our marketplace consolidation strategy with, I would say at this point, most of our large sellers, and very, very supportive of the strategy. Frankly, I think in most cases, can't wait to see it happen and become a reality. So I think it will be very, very positive for them, for the outcome we can deliver on their vehicles and very positive for our business.

Okay, great. Thank you.

Thank you.

The next question comes from Daniel Imbro with Stephens Inc. Please go ahead.

Hey, good morning, guys. Thanks for taking our questions.

Good morning, Dan.

I want to start -- actually it's a follow-up on earlier comment around commercial market share. I guess I'm curious, there's been headlines around the industry last couple of years. You guys noted commercial volume was still, I think down 4%. Manheim, in their slide deck, kind of noted off-lease was up something like 80%, 81% year-to-date. I'm just curious, can you talk about within the three main commercial segments of rental and off-lease and repo, kind of where your market share stands today versus pre-COVID? And how your conversations with those sellers have progressed as you've made these strategic changes to the business?

Yes, thanks, Daniel. I don't want to comment on that data point, because I'm not familiar with it. But I guess what I'd say is we operate off-lease remarking programs for the vast majority of captive finance companies in North America. So we see all their volumes going through us. It's not up 80%. I can be very clear about that. It's broadly in line, slightly down with Q1 of last year. The volume of off-lease vehicle flowing to physical auction is in the same vein, 80%-plus of these vehicles are selling upstream before they go to physical. So, now, I think it's absolutely possible that commercial volume at physical auction was up because repossession volume has been up. As I just mentioned on the last question, all of that repo volume today sell to physical auction. So it's also possible that that number from Manheim is a conquest number. I know a number of captive finance companies moved volume from ADESA to Manheim after the divesture. So it's possible some of it was that, but the off-lease volume selling at physical auction is well below the historical norm, let's just say that.

Great. And...

In terms of our...

Sorry, I was just going to ask about just a follow-up on market share by -- maybe by a segment if you had any data there, that would be helpful.

Yes. In terms of commercials relationships, I think strong positive. I mentioned we have the majority of OEMs on our platforms. Their customer names are the same they were pre-COVID. So I think those relationships are in good place and we continue to stay very close with those customers. So, sorry, Dan, I don't -- if I've not addressed your question now, please go ahead.

That's fine. And then maybe a follow-up. I was going to ask just a broader risk appetite. We've seen some regional banks and others talk about pulling back on floorplan to dealers. I'm just curious how does that impact your strategy at AFC? Are you stepping in and doing that as an opportunity for growth to provide more floorplan lending to your dealer customers? Would you also look to step back to control losses? Just maybe it seems like a pretty high ROI given the profitability at AFC. So kind of curious how you're viewing that as a growth use of capital almost in this environment if other floorplan providers pull back?

Yes. Thanks, Daniel. I think, first of all, as I mentioned, we're seeing a little bit of a different risk environment than we saw last year. Again, I'd characterize it as normal, consistent to what we experienced pre-COVID. We're watching it carefully. We're managing our risk, I'd say, conservatively compared to our competition. You're right though, a number of banks sort of looked at the space a number of years ago and said, hey, this is an interesting opportunity. Got into the space. I think they probably learned. Listen, this requires a lot of, sort of, deeper -- deep expertise specific to this space. That may not be a core competency of a bank. So we've seen one or two pull out. That does create some opportunity for us because in a number of cases, those entities conquested some customers away from us and some of those were our largest and probably best credit quality customers because they were -- the bank felt they could offer them a better deal more akin to a banking line. So I'd say it does create opportunity for us. We're looking at it. But we also look at it through, I'd say, a cautious and conservative lens. We're focused on having an AFC business that will continue to be a strong contributor to the business. We do expect it to grow, but it will be a modest growth, a sort of single-digit level of growth from the AFC business. The larger growth that's going to drive the 15% to 20% CAGR that I've talked about has to come from a marketplace business.

Great. Appreciate all the color, and best of luck going forward.

Can we take one more question or we're done? Okay. Well, thanks, Daniel. I appreciate that. And thank you everybody for your time today and your questions. Before we close, I'd just like to summarize my key messages for today. First of all, in Q1, we performed well against a backdrop of what is still a challenging industry environment. We delivered double digit growth in revenue, gross profit, adjusted EBITDA and operating EPS. Importantly, our marketplace business demonstrated a strong improvement versus last year, and we also delivered another solid quarter performance in our finance segment. Our cost management work is showing up in our performance and our cost initiatives remain on track. We are consolidating our platforms and executing on our plan to simplify our business. Going forward, we will have one marketplace brand, which is OPENLANE. And as I think about the future of OPENLANE, I believe that our strong differentiation will help drive our future growth. We are a digital marketplace pure play leader. We're strong in technology, strong in industry knowledge and strong in data. We have scaled with 1.3 million cars sold last year, and this is a number that we intend to grow over time. We have deep strength with both commercial sellers and with dealers, and our volume is divided roughly 50-50 between both categories. We believe we will grow our volume in both categories as the industry continues to shift to digital. We also believe that volumes will grow as the commercial seller volumes recover from their current historical lows. We are profitable with strong cash flow characteristics, again evident in Q1. We have a strong balance sheet, low debt and ample liquidity. We generate sufficient cap to support our investments, further reduce our debt and return capital to our stockholders. And finally, we have a large addressable market in which to innovate and invest. In summary, we are very excited about the future of OPENLANE. So, thank you for joining us today's call. I look forward to updating you on our continued progress on our next call in early August. Thank you.

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.