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Welcome to the Appliance Recycling Centers of America, Inc. second quarter investor call. (Operator Instructions) I would now like to turn the conference over to Jack Cameron. Please go ahead, sir.

Thank you, operator. Good morning, everyone, and thanks for joining us today. Welcome to Appliance Recycling Centers of America's second quarter 2014 conference call. I am Jack Cameron, and I am President and CEO. With me today are members of our executive team, Jeff Cammerrer, our Chief Financial Officer; and Brad Bremer, our President of ApplianceSmart; and Mark Eisenschenk, Chief Operating Officer and President of ARCA Recycling. This morning we'll discuss our second quarter results, and our press release went out last night, can be found on our website under arcainc.com, in the Investor Relations section. To start out today, Jeff will read forward-looking statement and review our second quarter financial results. Then Brad will give an update on the retail business. Mark will follow-up with an overview of the utility programs. And I will discuss a few market developments and impacts on our company, and a few updates on current events. Finally, we'll open it up to questions at the end and we look forward to that. I'll start the call at this time with Jeff. So Jeff, do you want to go ahead?

Thank you, Jack. Our comments may contain certain forward-looking statements regarding possible events, including expectations that are not considered guarantees of future performance. Future results may differ materially and you should not attribute undue certainty to any of forward-looking statements. Please refer to the cautionary statements in our SEC filings to understand risks that may impact our business. We reported quarter-over-quarter revenue and EBITDA growth again this quarter. Overall, revenues of $33.2 million were up 3%, and EBITDA of $1.6 million grew by 4% compared with the second quarter last year. We generated net earnings of nearly $600,000 or $0.10 per diluted share, which is a slight decline compared to $768,000 or $0.13 per diluted share in the second quarter last year. The decline in net earnings is a result of an increase in income tax expense. During the second quarter of 2013, we reduced our effective tax rate by utilizing net operating losses with a corresponding valuation allowance, and that was not the case this quarter. Our overall results continue to be spurred by a recycling division. Recycling revenues of $11.5 million were up $1.3 million compared to the second quarter last year. The growth continues to be attributed to our appliance replacement programs. In 2014, we've generated consistent replacement volumes from month-to-month, but the volumes could slowdown in the fourth quarter, as a result of expanding the budget for a significant replacement program. Mark will talk more about our recycling division later in the call. Byproduct revenues of $4.2 million were consistent with the second quarter last year. Revenues at AAP, which are recorded as byproduct revenues, declined $100,000 on a 5% reduction in recyclable appliances. The declined in AAP revenues was entirely offset by improved byproduct revenues at ARCA. During the first quarter conference call, we recognized $1 million in carbon offset revenues and stated that we expect to generate another $500,000 during the latter part of 2014. A California Air Resources Board investigation into a third-party destruction facility has created some uncertainty and a future timing of carbon offset revenues, and Jack will provide more details on that later in the call. Our recycling division, including AAP, generated an operating profit of $1.4 million in the second quarter, up $200,000 compared with last year. ApplianceSmart, our retail division, recorded sales of $17.5 million, a 2% decline compared to the second quarter last year. The decrease in sales was split evenly between a reduction in same-store sales and the impact of the store closure in 2013. ApplianceSmart incurred an operating loss of $43,000 in the second quarter compared with an operating income of $129,000 in the same period last year. The second quarter of 2013, included a $348,000 favorable inventory reserve adjustment that was not repeated this year. Normalizing for that adjustment, ApplianceSmart improved its financial performance by $176,000 in the second quarter of this year. As noted in our earnings release from time-to-time, we are subject to sales and used tax audits that could result in additional taxes, penalties and interest owned to various taxing authorities. The California Board of Equalization is currently conducting a sales and used tax examination, covering our California operations for 2011, 2012 and 2013. A large portion of the California operations in those years consisted of appliance replacement sales under programs conducted by utility companies, which we did not assess collect during that sales tax. For several reasons, including the fact that these appliance replacement programs benefit lower income utility customers with ratepayer funds, we believe such transactions could be exempted from taxation. It is possible that the California Board of Equalization will disagree with our position and assess taxes, penalties and interest in an amount that is material to our financial position and results of operations. We intend to vigorously advance and defend our position in cooperation with local utilities and governmental regulatory entities, should taxes, penalties and interest be assessed by the California Board of Equalization. At this time, we cannot estimate a range of potential impact on our consolidated financial results, and we'll not speculate any further on this matter. I will now turn the call over to Brad, to talk more about ApplianceSmart.

Thanks, Jeff. Our second quarter results were encouraging, basically stable and a continuation of recent performances and maintaining decent scale. The 2% sales declined to lower same-store sales and closed one store during the second quarter of last year. If we factor on favorable inventory reserve adjustment for the second quarter of 2013, our operating performance improved significantly year-over-year in the second quarter of 2014. We're somewhat impacted by the U.S. housing market, where there is a lot of uncertainty in current activity. Depending on which article you read, the housing market is either shifting into gear or gaining momentum or remaining exactly neutral. June home sales fell from May according to the census bureau, but existing home sales rose during the month of June according to National Association of Realtors and inventory remains tight. The Housing Market Index as a measure of homebuilder sentiment has moved up in recent months. And the National Homebuilders Association expects volatility to continue month-to-month, but with general upward trends aided by job market growth and an improving economy. With regard to multifamily housing markets in the past, it's been strong in recent years, which has helped our contract division, but even multifamily has been up and down in the past 12 to 24 month. For the nation's economy in general, retail has been a lackluster year. Overall consumer activity has been subdued. We're not seeing an increase in foot traffic in the markets that we serve. The National Retail Federation recently lowered its sales forecast for 2014, citing primarily the year's slow start. For the second half of this year, their chief economist claims optimism for a strength in the economy and improving consumer confidence. Conference Board's Consumer Confidence Index is at its highest levels since 2008. The retail appliance industry is watching to see what will happen to Sears, how long they can survive the brutal head-to-heads battle for competition with Home Depot and Lowes. The class of Sears would significantly alter the industry's landscape. We believe there will always a place for independent appliance retailers, in our case, we're considered a power regional independent. We differentiate ourselves in a mix of new and out-of-carton products along with a well-educated sales staff. This summer's Consumer Reports Magazine wrote about finding appliances, rating brands and retail stores, not surprisingly independent appliance stores ranked higher than the box stores for customer service, including attentive knowledgeable sales people that carry the same top brands, but with the expertise to help customers make their right buying decision for their needs in their budget. In the retail environment, we're also watching legislative push protecting online sales, which would help boost resale to our store traffic. I'll now turn the call over to Mark.

Thank you very much, Brad and Jeff. We're happy with the reported performance of our recycling operations. Recycling revenues increased 12% or $1.3 million over the second quarter of last year to $11.5 million. Recycling revenues consist of two components, mainly recycling-only program activity and appliance replacement program activity. Over the last couple of years or so, we've seen recycling-only programs continue their decline in revenues and unit volumes, while appliance replacement programs have posted increases in both. Factors behind this shift include a declining number of pre-1993 refrigerators, eligible for utility company recycling programs and a greater emphasis by utilities on promoted energy-efficient, ENERGY STAR appliances. Appliance replacement program require a higher level of infrastructure and support, and this is where our value-added services differentiate ARCA in the marketplace. We have wholesale access to multiple brands of appliances, we have logistics and infrastructure already in place for appliance replacement scheduling, delivery and installation and we have multiple-site appliance recycling capabilities. The improvement in operating performance within our Recycling segment was primarily due to the increase in appliance replacements that Jeff mentioned earlier. This favorable result was partially offset by price compressions to certain utility contracts, plus higher G&A expenses, needed to support the increased appliance replacement volumes. As mentioned in yesterday's press release, the duration and funding levels of utility programs can be unpredictable. In particular, we have one major appliance replacement contract that has been a significant part of our appliance replacement revenue in 2014. And funding for that utility was accelerated to meet strong demand, and thus their current budget will likely to be expanded by the end of this third quarter. This is a contract that started in 2010, and despite being suspended for a period of time has received additional funding at least annually since. However, future funding is not assured even while long-term trends appear to be favorable for these programs. We're committed to a being a good partner with our utility customers, helping both of us succeed. For example, an existing customer we've been serving out of our Illinois recycling facility recently asked us to open out location in Missouri. After completing our due diligence we went ahead opened the location, and now the facility is fully operational. It's recycling both appliances and also facilitating a low volume of appliance replacements. That concludes my remarks. Next, Jack will talk about AAP, carbon offsets and the state of our industry.

Thanks, Mark, and Jeff, and Brad, for you to comments. Obviously, we've covered a lot of material and the press release has all the financial information in it. We feel pretty good about where the position the company is at this point in time, with all of our customers and all the different segments of our business, as they all work together as we have talked about many times. I'd like to speak a little bit toward AAP, our ARCA Advanced Processing, which is our operation in Philadelphia. We see continued improvement in the operations that are both from a labor savings point of view, and just the overall progress of a new equipment from Europe. We'll be approaching in August, the 250,000 refrigerators that we have run through the equipment from Europe on to recycling technology system. And that's extremely important, because in the design of that system, originally it was designed in Europe, and we did upgrade that system to handle American, our U.S. and North American type refrigerators. And the fact is that we're building now toward 250,000 refrigerators. We're finding that the design of that system to accommodate North American type appliances, American type appliances has been very good, and the equipment is very well and a lot better than we thought in STAR sharpening their knives with a shredder and that type of things. So we will are pleased with the operation there in Philadelphia. We continue to move along. There are some issues with the pricing in the scrap industry is up and down, and that does affect the profitability of that, but primarily it's stable and making money at this point in time, due to several things as far as volume is concerned and operational issues. One of the things that we're doing in Philadelphia at AAP is that we're on track to get our certification with RIOS. RIOS is the Recycling Industry Operating Standard and is sponsored by ISRI. And this is a program that not only takes in the consideration of the environmental issues, but also safety and the quality issues that are required in our opinion to be a partner with the major players in the industry as we move forward. So really pleased with the progress we've made there. And we are approaching 500,000 to 600,000 appliances for that system annually, and it still has additional capacity to grow. One of the major things that was mentioned by Jeff earlier was the carbon offset issue. It seems to be complex, but if I can, I'll try to bullet down is that, we burned our CFCs at a place called with Clean Harbors in El Dorado, Arkansas. And 85% of the CFCs that have been processed there that go for carbon offset credits have been done there. And recently the California Air Resource Board investing some of the offset credits are looking at validating or invalidating some of the credits. And what it boils down to is that Clean Harbors pay the fine to EPA on some issues of waste management, issues that had nothing to do with what we do. And we are expecting that to be cleared up and those credits to be back and available. Right now, the California Air Resource Board has temporarily suspended the use of the credits, waiting to the outcome of the investigation. Basically, they said they were going to investigate everything for 25 days income that was issued in 30, they've now re-extended that. And recently, I've had calls from some of the customers that we provide offset credits to one of our utility customers that has credits, and ask about this. And at the same time asked about the role that we play, and apparently what's happening is they're documenting all the relationships for the entire chain of custody in the CFCs, which we've done before and have been validated, but apparently they're looking at that again. We expect all that to clear up later this year and we expect those to go back into operation and we do have some carbon offsets that we're waiting to sell. We have contracts on them, but this was held us and so we are expecting that that will clear up sometime this year, but at this point in time we don't have an answer as to when that's going to happen. It sort of bumps in the road for those program. We're seeing that other states are looking at joining the California Cap-and-Trade systems, state of Washington is considering it, Canada is looking at it, certain province, and Mexico is also looking at coming into the Cap-and-Trade position there as well. Some of the things that are interesting in our industry is that we are very, very heavily involved with the electric utility industry and energy efficiency programs. I've spent the last two days in San Francisco at the AESP conference and that is an Association of Energy Specialist, and the guest speaker was Ralph Cavanagh, and has been with the NRDC forever, he says 1979. But the message that he had was that energy efficiency and savings of energy is going to be big part of the future in the electric utility industry. And they talk about the values that we bring to the industry in saving energy for the consumer cutting down on load. And it was a very positive conference talking about the future of energy efficiency programs. And obviously, we're in a position to take advantage of that with the infrastructure that we currently have. The need to recycle appliance has always been around and we consider it always going to be around. And the idea that we have at ARCA and our mission is to provide all the services for the different players going from government, to utilities, to retailers, to manufacturers providing those services. The three segments of our business, the outlet store business, the energy efficiency business with utilities and the operation we have in Philadelphia, fulfills all those needs. They all work together. So we are pretty positive about the future. And also, I would like to say that our 350 employees at ARCA are very positive. And I would like to thank them for all the work that they put in everyday. So with all the information that was given, if there is any question, we'd be more than happy to answer them. And so I would like to open it up for questions at this time.

(Operator Instructions) And our first question comes from the line of David Kanen with Aegis Capital.

First question is in regards to your appliance replacement program with this large utility. Approximately what percentage are they of your replacement business?

That's a good question. Off the top of my head, I don't have the exact answer on that. I have to take a look at the numbers. Normally, we don't disclose individual customers business either by name usually. Sorry, but privacy issue with our utility customers actually. So I don't know if I can give you that answer at this point in time.

I mean, I'm not asking for the name, I just would like to know the approximate percentage of the replacement business that they were, let's say, in the current quarter. Obviously, it's over 10%, since you're disclosing it. Is that a fair assumption?

It's 40% to 50%.

And then my other question is in regard to the increase in gross margin in recycling. Can you refresh my memory, it looks like it went from the teens to 22%. What is that a function of and is that sustainable?

Jeff, you want to answer that?

David, the biggest impact is we renegotiated a contract where we purchased recyclable appliances at AAP and that has been the biggest impact on our gross margin. And yes, that is sustainable and we'll continue in the future.

So you're getting a bigger spread between what you're paying for, let's say, a refrigerator per ton versus the scrap rate that you're getting, that spread is wide a little bit.

And we do have another question and it comes from the line of George Melas with MKH Management.

My question is regarding the, your plan to replacement program. Could you sort of educate us a little bit about the size of that market in the U.S. and how many players there are? And what share you have in? And how do you go about trying to find additional such contracts?

That's a good question. And it's actually an exciting part of our business. A little background is that in the past most of the emphasis by utilities, and this was where this business is coming from, was basically what they call demand-side management programs where they were looking at saving energy. And so we did a lot of recycling of taking, working inefficient refrigerators off the market. And then in the late-90s, they started moving towards more of the market transformation attitude. And so in that regard, they also were looking at trying to save money for the ratepayers, and they started looking at PUCs around the country, and not looking at all the underserved segment of their ratepayers, which were typically their low income people. And lot of utilities have special rates for people on low -- they call low-income assistance and also elderly programs. And they are finding out that they're subsidizing the power bill, and these people are running inefficient refrigerators that are old and not working properly. And so the idea is, is that not only can they save energy, but also it's a market transformation, because they are now getting energy star type appliances out on the marketplace and cutting that exposure. And the reception of those kind of programs is gaining, and the PUCs around the country are always looking at how to deliver services to the -- what they called underserved or hard to reach. And so this is the program that is socially beneficial. It's also saves energy. It goes to market transformation. I mentioned, I was at a conference the last two days in California on the energy efficiency, and it's gone from demand-side management programs to market transformation, and now back to a combination of the two. And so we're seeing a renewed interest. Five to eight years ago most of the interest was in refrigerators, because of the savings on the power. But what we're seeing now with the water shortage, we're seeing a shift to try to shift the market, to front-load washers that save on energy and also on water. And water is a big problem in the California and we're seeing a lot of response in other areas as well. But also not only does it save on water, it also cuts down the drying time, because it spins faster and also the amount of water that needs to be heated. So the big savings is in the water heater by replacing the washing machine. So to answer your question is that we're seeing a renewed interest in this type of stuff. And we're seeing it on larger scale. In the past they used to do what they called weatherization programs, where they would go into the home and they would look at where the leaks in the house were or they need caulking or they need storm doors or change out of motor here and there, clean the filters and that type of stuff and lighting issues. And they are now finding out that more and more people need an energy efficient appliance. And so those programs did have appliances with them, but not that many, and now we're seeing a more emphasis on the appliance part of it as opposed to the other aspects of the weatherization program. So we plan to explore that. We're talking to all of our utility customers that we do recycling programs for. And we're seeing a renewed interest in what we call, change our programs, where we're putting in new appliances and taking out the old ones. So that's the market that we're going to go after, and that's why I was at the conference the last two days. Actually talking with customers and visiting. And we have several customers that are coming online with this program over the next six months. So we feel pretty good about it. I hope that answers your question.

It does in some way. But how big -- I mean if you take a place like California, where you guys are very strong, are you the dominant player there or is the market quite fragmented?

Well, it turns out we are kind of the dominant player in that market. And we have over the last eight to 10 years, we have delivered over a 100,000 different appliances to that marketplace. One customer alone, not the one that we were speaking of earlier, back in the past, up to 80,000 refrigerators for their ratepayer base and they have a million ratepayers. And so we've delivered over 80,000 refrigerators to their low-income assistance and elderly people. And also did all the change out for the public housing authority. So there is a big business out there and it's going to continue to grow, because there is tremendous emphasis on putting an energy star type appliances around the country. Matter of fact, AHAM, is in the process of promoting through the retailers, what they call their replacement program, where they're trying to sell higher efficiency refrigerators and taking the old ones off the market. And we're seeing a lot of emphasis on that And we're particularly in a good spot to do that because we not only provide the recycling services, we also because of our outlet scores have access to multiple factory products, and so we can really supply all that they need. And we have one customer who uses GE refrigerator, but refrigerator and washing machine. We have another customer that likes the Whirlpool, so we do that. So we have access to all the different products from the different manufactures, and we're seeing a lot of interest in that. So we're kind of the dominant player in that mainly because of the turnkey program that we offer. We have customer service, we have a call center, we have delivery recycling capabilities, we're local, and we have access to products. So we're in a great position to take advantage of this emerging market.

And is most of your business on the appliance replacement in California? And is California is sort of the most active state in this kind of program?

The California has always been ahead of the curve on these type of things. But we do a lot of business in the state of Washington. We have contracts in Texas. We're doing some change of business. We're doing some in the Missouri. We're negotiating on new contract coming up in other market. So we're expecting this to continue expand in the year, where we have businesses.

And then maybe if I could one more question. On the Philly plant, it seems like you've managed to really innovate there and make it work, both from sort of an operations point of view and from a financial point of view. So how do you see the future of the AAP joint venture? Do you think you might be able to either grow the Philadelphia plant or expand to another plant in the next couple of years?

It's kind of an interesting concept. It takes supply to make that program work. And we're continuing to work with the industry to develop supply, because I think the industry, once the appliances, when they reach the end of life to be properly managed and also at the same time to do it in the most economical fashion and also provide some incentives, profit incentives to the people that are handling these products. And so what we are doing there is the state-of-the-art. And one of the problems in competing for supply is competing against the used appliance industry. The used appliance industry has been subsidizing the disposal of old appliances forever, is today and will continue for some time. So what we're seeing is a need to get those old inefficient appliances off the market and put out new efficient appliances. That the idea is to compete, and so what we're doing in Philadelphia is we're competing with that industry by providing a state-of-the-art and revenue to people that supply the appliances to us. One of the biggest opportunities that we have in Philadelphia, which nobody has had before is that, the way that we shred the appliances, we have a very good material stream coming out in the area of steel, copper, aluminum, plastics and foam that we use as a fuel after it's been processed. The big upside for us in Philadelphia in addition to additional volume, and of course, if scrap prices would go up that'd be very helpful, is that we need to develop a bigger revenue stream out of those plastics. And it hasn't been able to be done before, because nobody had any kind of a stream of plastics that was recycled out of appliances until we put up the system in Philadelphia. We now sell about a $1 million of the plastics to China at $0.18 a pound. We feel if we can invest in other $0.5 million to a $1 million in the complete plastics recycling facility, which we now have the supply to do that, we can increase that revenue 4x to 5x. We think that we can go to $0.80 to a $1 a pound. And I recently had conversions with the industry about supporting some kind of research and development to be able to take the plastics out of appliances and recycle and back into new appliances. And I think we're one step closer to getting that done. So what we have done in Philadelphia is really a ground breaking, and couldn't have been done before without the help of General Electric and Home Depot. So my hats off to those guys for looking into the future and helping us develop the systems that we think that are going to be needed long-term in the industry, and ought to be done, and done right then. And so we feel really good about what we've done in Philadelphia and we'd like to see a Philadelphia-type center in every major market, which has been our goal for 25 years, but supply is the issue. And right now we're enjoying a good supply in Philadelphia with our partners with GE and Home Depot.

But the additional revenue you could generate from separating the different plastics things, that's under your control, right?

That's correct.

So this is something that you think in the next 12 months you will do or are you still not sure?

It's something we want to do and we are going to do it. I can't tell you that I'm going to get it done in the next 12 months, because number one, we need to make the investment in the right equipment. As a matter of fact, Brian Conners, who runs our operation in Philadelphia and myself are heading to a trade show in October in Europe. That is specifically on recycling in these types of plastics and we're hoping to find the right equipment to take this to the next level. So I would say that we should be moving this program along within the next year or two. The sooner the better. It's revenue that we're losing now and so we need to move forward on it. But we had other issues to do, as you know Philadelphia is only three years old, and we had a lot of start up issues, we had a lot of development issues and standardization issues. As I mentioned earlier, we're going for RIOS certification. And so we're really moving the ball forward pretty fast, when you consider everything. So the next step is the concentration on the plastics. So that's our next big opportunity not only for us, but the entire industry. Plastics is a big problem in the world. They say that half the fish in the ocean have plastic in their belly. There is so much plastics sit in the oceans and in the streams, so something has to be done with plastics. And so we're moving in that direction. Now, one of the things that -- and I think everybody that works for ARCA feels good about is we're really doing a good job for the environment, as well as making money for people that need our services.

Our next question is a follow-up question from the line of David Cannon with Aegis Capital.

Actually two questions. First one is approximately how many pounds of plastics are you currently processing, so I can get a sense of what the incremental opportunity is when you do you get that separating equipment?

That's a good question. And I don't have the answer in front of me. I'd have to get to Brian in Philadelphia to get that answer. If you want to call me back later, I can find that out. But I don't have it off the top of my head and I don't want to misquote the amount of plastics that we get out of it. But it's substantial. As a matter of fact, you're seeing more and more plastics in appliances. And also cars, that's getting to be a real issue, but I don't have it off the top of my head. And I don't want to misquote it, because there is other statistics in there too, the amount of steel, copper, aluminum, polyurethane foam issues and then the plastics issues. We have that information, but I don't have it at my fingertips right now. So if you want to call me later, I can get that information for you.

And then the second question is in regard to the tax dispute, so I can understand that a little bit better. My understanding is, this is not income tax for business that's driving California, this would be sales tax that the state is asserting, you should have collected when you fostered that transaction or that rebate program with the utility, is that correct, you should have collected the sales tax and then remitted it to the state?

Well, that's the question and that's the issue, yes.

So ultimately, I mean I don't know if this is a good argument, but really the consumer would have paid the sales tax and then you would have been an intermediary, and distributed it or forwarded it to the state, is that correct, assuming their assertion is correct.

Well, for a several reasons, the fact that the replacement programs benefit low income customers, which is ratepayer funds, which is a tax of a tax. The company believes that that could be tax exempted. So we have to wait and see. We don't really have an answer at this point in time. And as Jeff pointed out in his opening, and as in the press release, that's what we know at this point in time.

Now, let's assume their assertion is correct, so I can understand it a little bit better. Would the sales tax supposedly be collected on the new full value of the new appliance or just on the rebate? What amount would it have been collected on assuming they're correct? What dollar amount approximately?

Well, that's the issue at this point in time is that anything that we would say or do would be speculated. And we find that difficult to speculate at this point in time and that's why the press release read that we are not doing anything this time until we know more information. And what we know at this time is what we have stated. And I really don't have another answer for you, because we don't know.

Well, they are saying that you should have collected the sales tax. And then you guys are saying, well, our understanding was this was taxed to them. All I am trying to get out is, is it on the full value of the new appliance or just on the value of the rebate, I mean what is their assertion, which amount?

Well, we don't know yet. We don't know yet. And that's the confusion as we don't know. And there's different takes on it. And we haven't been assessed and we just don't know at this point in time. That's really where we are.

Is there any precedent that one could look at, for a sample like a competitors program, what they were collecting or not collecting? Is there any other point of reference I could look at?

Well, we are investigating all those issues. And we are working with them. And right now, we just don't know and we haven't had much communication at this point in time. The statement that we've put in their press release and will go in our Q is really what we know at this point in time.

And there are no further questions over the phone lines at this time.