CarParts.com, Inc.

Shane Evangelist - Chief Executive Officer and Director David G. Robson - Chief Financial Officer and Principal Accounting Officer

Mitchell O. Bartlett - Craig-Hallum Capital Group LLC, Research Division Jeb Terry

Thank you, Michaela, and thank you all for joining the call. As many of you know, over a year ago, we began to totally rejuvenate and reposition the company's branding and customer acquisition strategies.

This process continues today. However, we are nearing the end of this effort and, once completed, we'll be better for it long term.

In this call, I will update you both on the challenging results we're working through and the status of our repositioning of U.S. Auto Parts.

Looking at our recent results, it's clear we are still working through the challenges of needing to reposition the company by reducing websites and lowering operating cost. Our revenues for the fourth quarter were down year-over-year by 19%, and we are currently trending down 25% year-over-year for the first quarter of this year.

The majority of the reasons for the declining revenue year-over-year can be attributed to decreases in traffic across our replacement engine and closing websites. At the end of November, Auto Parts Warehouse experienced a loss in visitors as a result of a search engine algorithm change.

The loss in visitors prompted us to increase our efforts to consolidate websites both in speed and quantity. These efforts should be completed by the end of the third quarter and will reduce us down to two main websites, Auto Parts Warehouse and JC Whitney.

Adjusted EBITDA for the quarter came in negative $1.1 million. However, after adding back noncash charges for inventory write-downs and receivable charges, adjusted EBITDA would have been positive [indiscernible].

CapEx for the quarter was $2.3 million. Clearly, we need to be producing more EBITDA than spending on CapEx.

As a result, we have taken actions to reduce the operating cost of the business. We mentioned in the last call, we were taking action to reduce both operating and capital cost.

We have continued those efforts in the first quarter of this year with the elimination of 220 positions. All told, we have reduced annual operating cost by $8 million and capital cost by $3 million, totaling an $11 million reduction in expenses.

This has been a challenging period for our employees. I want to thank them for their positive attitude.

It is because of their strength that we'll be come out of this stronger and more competitive going forward. In addition to reducing expenses, we have announced a Series A convertible preferred stock financing with approximately $6 million in proceeds.

For details of this rate, please refer to the 8-K and press release documents filed today. With these actions, along with other actions available to us, we are creating the operating structure and liquidity we need to navigate through this transitional period and, once through, thrive going forward.

And I believe we will thrive going forward, and here's why. First, we will continue to have the largest unique visitor footprint in the marketplace even after the website consolidation is completed; second, we will have 2 of the strongest auto parts e-commerce brands in the market; and third, we will continue to have the largest private label offering of any seller uniquely positioned -- uniquely positioning us to provide great quality product at low cost and with healthy margins.

Going forward, we will welcome a dramatically simplified and improved consumer value proposition. We will organize around 2 main sites: Auto Parts Warehouse, which is primarily focused on replacement product and the inclusion in the engine market; and JC Whitney, which is primarily focused on the performance and accessory market.

In addition, we will meet consumer demand for our products on the major online marketplaces to ensure we're in front of consumers at all times. We anticipate our efforts to reverse the negative traffic trends in Auto Parts Warehouse will be completed by the end of the third quarter.

This will be accomplished by rolling up all of our search engine optimized-based websites into carparts.com and ensuring JC Whitney and Auto Parts Warehouse have rich, unique content to be consumed by interested DIY customers. The combination of our reach, combined with our direct sourcing capabilities, will prove invaluable once our repositioning is completed.

I'm frankly encouraged by the flexibility of the business to manage through this transitional period. In addition to thriving in the future of e-commerce, I also believe we will be well positioned to thrive in the regeneration business for the Do-It-For-Me market.

We have launched AutoMD Insta-Quotes in 3 markets: Long Island, New York; Bakersfield, California; and Spokane, Washington; and plan to roll out to 2 to 4 more markets in the coming months. At a high level, the product is the equivalent of Priceline or Travelocity for the auto repair and maintenance industry.

Basically if you know what's wrong with your vehicle or simply need an honest mechanic in the area to help you diagnose your vehicle needs, AutoMD Insta-Quotes has the technology, distribution partners and shops to provide realtime quotes for the job required. The search provides much-needed transparency in pricing, coupled with user feedback on shops to ensure consumers go to highly reputable installers, where they won't overpay.

Once we turn the corner on our core business, we will be in a position to market AutoMD Insta-Quotes. We look forward to providing the results of those marketing tests once completed.

In closing, we are well underway to totally rejuvenate and reposition our company to be more competitive. We are addressing profitability going forward by reducing websites and building an operating structure that gets -- support reduced revenue.

More importantly, the revenues going forward will be built on great brands, with a great customer experience, driven by an unmatched direct source supply chain. And with that, I'll turn the call over to David.

Thanks, Shane. Good afternoon to everybody on the call.

Unless otherwise stated, this quarter refers to consolidated Q4 2012, and last year refers to Q4 2011, and comparisons are Q4 2012 compared with Q4 2011. Also, percentage and basis points discussed are calculated using net sales.

However, for advertising, we'll discuss comparing to net Internet sales. As Shane mentioned, adjusted EBITDA for the quarter was negative $1.1 million compared to adjusted EBITDA of positive $1.9 million last year.

Adjusted EBITDA excludes noncash share-based compensation expense of $265,000 this quarter and $660,000 last year. Adjusted EBITDA also excludes the noncash impairment charge of $26.4 million related to the write-down of goodwill, intangible assets and other property and equipment, and $67,000 related to intellectual property rights.

During the quarter, as Shane mentioned, we also took a charge related to inventory returns of $1.5 million and vendor receivables of $257,000, which are included in adjusted EBITDA. If you exclude these write-downs, adjusted EBITDA would have been $649,000.

Last year, adjusted EBITDA excludes the noncash write-down of $5.1 million related to the JC Whitney trade name, $784,000 in restructuring charges associated with the JC Whitney business and $19,000 related to intellectual property rights. From a sales perspective, this quarter's net sales were $62.8 million compared to $77.2 million last year, a decrease of 18.6%.

Total online sales decreased 22.5% this quarter, principally driven by an 18% decline in traffic. Our online marketplace sales increased 14.9% for the quarter.

As well, our offline sales continue to grow, with net sales increasing 45% in Q4 and up 30% for the full year. Turning to margins, this quarter's gross margin was 28.3% down from last year of 30.8%.

However, excluding the one-time inventory write-downs related to returns and the vendor receivable write-down, adjusted gross margin was 31.1%. Gross margin, excluding these one-time adjustments, improved over last year due to a higher penetration of sales from our private label business, as well as improved margins across our branded line.

For the back half of the year, margins were 31.2%. Online advertising expense, which includes catalog cost, was 8.5% of net online sales this quarter compared with 9.5% last year.

The decline in online advertising expense was due to a reduction in print catalogs of $500,000, as well as improved leverage of our marketing spend on lower sales volume. This quarter's marketing expense, excluding online advertising expense, was 11.7% of net sales compared to last year of 9.0%, up 270 basis points, primarily due to higher amortization cost related to software deployment.

General and administrative expense was 6.9% of net sales this quarter and 8.1% last year. The decrease is primarily due to JC Whitney restructuring costs that occurred last year of $784,000, lower depreciation and amortization expense and lower merchant fees.

Fulfillment expense was 8% of net sales this quarter, up from 6.6% last year, our leverage declined in fulfillment on lower sales volume. Technology expense was 2.3% of net sales, flat with last year.

Visitors on our site for the quarter were 33.5 million, down 17.7% over last year. Orders placed to our e-commerce channel this year were 514,000, with an average order value of $108, down from last year's 682,000 and an average order value of $115.

Our conversion rate was 1.53% this quarter, down from last year of 1.68%. Revenue capture was 82.7%, up from last year of 81.4%, primarily resulting from improvements in fill rate.

This quarter's customer acquisition cost is $8.04, down from $9.87 last year, primarily due to a reduction in online advertising spend and a reduction in catalog marketing spend. Now turning to the balance sheet.

Quarter end cash and securities were $1.1 million and debt was $16.2 million. Debt, net of cash, declined by $900,000 during the quarter, primarily due to reduction in inventory of $5.9 million, offset by accounts payable and accrued expense reduction of $3.2 million and capital expenditures of $2.3 million.

Our availability at the end of the quarter on our line was $10.9 million and net availability, nonsubject to any covenant test, was $4.9 million. And with that, I'd like to turn the call over to questions.

So what signs do you have or what can you point to that once you finish this transition and there's 2 brands standing at the end of the day, at the end of the third quarter, that there is a viable business there or a strong business there or -- what do you see that makes you look to that future and feel good about it?

So, Mitch, I think we've modeled out the business down along those 2 brands, along with our eBay and online marketplace business and then, of course, our offline business. So if you take sort of all those pillars and add them up, we believe we can put a cost structuring base around -- a cost structure in place around that revenue base to be successful going forward.

And we think once we reset that revenue base, we'll have good growth because we won't be impacted going forward by changes, now that we've got great content without any sort of the same content across multiple sites. So I think we have to just reset the baseline and move forward.

And, by the way, we've operated this business at $150 million previously, right? So it's not as if we haven't been there before, and I'm not saying we're going to $150 million.

My only point is we've been -- we've operated -- we went $150 million, we went to $180 million, we went to $230 million. And so we certainly operated at multiple revenue levels previously and we just need to match the cost structure of the business to do that.

And certainly with less sites, we'll be able to have a lower cost base.

So you're not going to give us an idea of what that baseline looks like with these 2 brands once you've reset it, but it's somewhere in the $100 million-plus range. Is that a fair assumption?

No, I don't -- I think, obviously, we don't guide, Mitch. I think we're down 25% now, and I think that's probably going to get better throughout the year.

Certainly, the first quarter of 2012 was the best quarter the company had ever had. And if you look at the year during 2012, it certainly fell off to the degree that it ran negative in the fourth quarter and was relatively flat in the third quarter.

And so we're running up against the toughest comps we run up against.

Got it. Okay.

And you eliminated 220 positions, out of how many was that? What's the percentage?

And where were they geographically based? Or what did they do?

Yes, well, they were across the business. They were -- obviously, some of them geographically based in the Philippines, some of them here in the U.S.

And I think that's out of, call it, 1,450 was reduced down from there. So we would have pulled another 220 out of that number.

But, Mitch, the preponderance was in the Philippines.

Most of those were in the Philippines.

Okay. So maybe marketing positions to a good extent?

There were some marketing, some catalogs, some technology, some finance. I mean, it was across departments.

The last question and then I'll...

Certainly, but certainly, Mitch, to that point, though, I'll stress this that, as we made the decision to reduce websites, it certainly also reduced a lot of work required. And so a lot of the jobs follow that.

Got it. Okay.

I will ask this question, then I'll get back in queue, and maybe I'll -- questions later. But the convertible preferred $6 million.

The reason for that, you went through the balance sheet, you have availability, but you also liquidated some inventory in the quarter. Maybe you could just walk through kind of the rationale and where the balance sheet stood through the quarter?

So, Mitch, due to security regulations, I'm not able to provide additional detail. All I can do is refer you to the 8-K filings specific to the rates.

Is the rate done?

Again, due to security regulations, I got to refer you to the 8-K.

I guess, it's me today. What did you say the gross margin was after you did the inventory adjustment?

The write-down?

31.1%.

Got it, okay. And is that a sustainable -- does that feel like something you can replicate going forward?

That seems like the range of 30% to 32%, so that's the range we see it coming in at.

And what was the inventory write-down? That went by fast, but what was that about?

We historically had deals with JC Whitney, where we had pretty good ability to return essentially anything that came back from our customers to our vendors. And over time, that's changed as a byproduct for volume declining and as we negotiated different deals with our vendors.

So we -- instead of returning to the vendors, we adjusted that down to a net realizable value.

Okay, okay. And the inventory liquidation on the balance sheet, the $5.7 million that it sequentially came down, was that due to the adjustment of the -- that's a lower revenue base and plus there's not as many websites that you're dealing with or what's that about?

Well, the $5.7 million is associated with the goodwill write-down, so as we look at our fourth quarter revenues declining at the 18% that we talked about, the accounting rules require that we relook at goodwill impairment annually, and then intangible assets associated. So those were intangible assets, not inventory that we adjusted down.

And you believe all this work will be done by the end of the third quarter on the base business?

Yes, we believe the websites will be consolidated by then.

If I read the 8-K right, it looks like your preferreds are being taken down by insiders? Is that right?

Or at least insiders are participating, your Chairman and...

Yes, Jeb, I apologize, but I can't get into detail on the 8-K. For security regulations, I got to refer you to it.

And then on R&D, I'm assuming that your recorded revenue from AutoMD in the 3 markets you're now in and I think you said -- did I hear you right, you're going to roll out 2 to 4 more markets in some coming number of months?

That's right. Our plans would be to expand AutoMD into more markets as fast as we can with distribution partners in those markets.

And so -- okay. So as I recall then, so with these multiple distribution partners as opposed to one national or, I guess, some combination of all of the above, is that how that works?

Yes, I mean, the reality is there isn't one -- there isn't any one distribution partner that can reach every market and service every vehicle, so it'll be a combination.

Okay. And will you begin to start reporting some metrics on that as we move through the year?

Yes, I think that's right. I mean, it's very early days here for AutoMD, but we fundamentally think the consumer proposition of transparency is dead on.

The fact that we are delivering value to the shops is great. The fact that we've driven value to the distribution partners is fantastic, as well as to the brand.

So there's clearly multiple winners in this supply chain, and as well as us. And so we're excited about the product.

It's, again, very early days, and we'll look for additional distribution.

Okay. And your -- now your offline sales were up pretty impressively year-over-year, and can you talk a bit about is that a derivative of your private labeling, sourcing efforts and having competitive pricing or -- and what's -- I mean, obviously, as a separate business, offline looks terrific.

Yes, I think you've hit the nail on the head. I think it shows you how well we can buy, which is why we're so competitive online with these -- with this source product that we source directly offshore.

And as it relates to our offline business, we've been expanding into additional accounts and making more of our product available to existing accounts, and so you've seen the growth there.

And so that -- I want to hear right. I think you said there were 1,450 employees prior to the headcount reduction.

That's correct.

Well, first, thanks again for joining us. I think I'd leave you with 3 things.

Once we get the revenue reset and our cost structure reset going forward, we'll be doing that here in the next couple of quarters, we feel good about the fact we're going to leave and be leading with great brands with Auto Parts Warehouse and JC Whitney, that we're going to have still probably the largest footprint of unique visitors in the marketplace, and that we got a great supply chain to support these businesses. So we look forward to resetting them -- the margin -- the revenues and moving forward.

Thank you all for joining the call.