Neil Watanabe – Chief Financial Officer Shane Evangelist – Chief Executive Officer.

Analysts:.

Welcome to U.S. Auto Parts Fourth Quarter 2016 Conference Call. On the call from the company are Shane Evangelist, Chief Executive Officer; and Neil Watanabe, Chief Financial Officer. By now, everyone should have access to the fourth quarter 2016 earnings release, which went out today at approximately 4:00 PM Eastern Time.

If you have not received your release, it is available on the Investor Relations portion of the U.S. Auto Parts’ website, at usautoparts.net by clicking on the U.S. Auto Parts’ Investor Relations tab. This call is being webcast, and a replay will be available on the company’s website through March 20, 2017.

Before we begin, we would like to remind everyone that the prepared remarks contain certain forward-looking statements within the meaning of the federal securities laws, and management may make additional forward-looking statements in response to your questions.

The forward-looking statements include but are not limited to statements regarding future events, our future operating and financial results, financial expectations, expected growth and strategies, key operating metrics, and current business indicators, capital needs and deployment, liquidity, product offerings, customers and suppliers, and competition.

The forward-looking statements are based on current information and expectations are subject to uncertainties and changes in circumstances and do not constitute guaranties of future performance. The forward-looking statements involve a number of factors that could cause actual results to differ materially from those statements.

We refer all of you to the Risk Factors contained in U.S. Auto Parts’ Annual Report on Form 10-K and Quarterly Reports on Form 10-Q filed with the Securities and Exchange Commission for a detailed discussion on the factors that can cause actual results to differ materially from those projected in any forward-looking statement. U.S.

Auto Parts assumes no obligation to nor does it intend to update or revise any forward-looking projections that may be made in today’s release or call, or to update or revise the reasons actual results could differ materially from those anticipated in these forward-looking statements, even if new information becomes available in the future.

Please note that on today’s call, in addition to discussing GAAP financial results and the outlook for the company, the following non-GAAP financial measures will be discussed; EBITDA and adjusted EBITDA, an explanation of U.S.

Auto Parts’ use of these non-GAAP financial measures in this call, and the reconciliation between GAAP and non-GAAP measures required by the SEC Regulation G is included in the U.S. Auto Parts’ press release today, which again can be found on the Investor Relations section of the company’s website.

The non-GAAP information is not a substitute for any performance measure derived in accordance with GAAP and those with such non-GAAP measures have limitations, which are detailed in the company’s press release.

Please also note that percentage and basis points discussed are calculated using net sales with the exception of advertising, which we will be discussing and comparing to net online sales.

Unless otherwise stated, all financial data reported including but not limited to revenue, gross margin, operating expense, and net income loss, excludes our AutoMD reporting segment. We have included a chart of summarized segment information in our press release detailing the base U.S.

Auto Parts, AutoMD, and consolidated financials to provide the components of our business. Additionally, when we reference net debt, we define it as cash and cash equivalents less revolver debt excluding AutoMD. With that, I would now like to turn the call over to Neil Watanabe..

Thank you, operator. Good morning everyone, and thank you for joining us to discuss our fourth quarter and full year results. I would like to provide a summary on the financials reported in the press release today, as well as an overview of key business metrics.

I would like to remind listeners that all metrics discussed exclude AutoMD unless specifically noted. Over the last year we’ve emphasized our focus to drive profitability instead of low margin revenue growth.

And during the fourth quarter we continue to execute on this initiative with another strong quarter of private label sales growth and increase margin dollars, while leveraging our expenses to grow our net cash position.

Moving on to our fourth quarter results, net sales increased 5% to $71.1 million compared to $67.5 million in the year ago quarter, in line with our mid single-digit growth expectations. To raise sales down further, online sales were up 4%, driven by strong growth in our online marketplace sales, which increased 23%.

E-commerce sales were down slightly to $43.8 million versus $44.9 million last year, primarily driven by lower average order value, and partially offset with a 5% increase in conversation rate and a 1% increase in traffic.

The decline in average order value was expected, given our continued focus on shifting sales to higher margin private label products, which carry lower price points. Total online orders increased 14%, a clear sign of our market share growth and offline sales increased to 16% to $6.7 million compared to $5.8 million the prior year.

Taking a look at our sales by product category, the private label business was up approximately 14%, offset by an expected single-digit decrease in our branded business. The branded business decline continues to reflect our strategy to maintain minimum margin targets.

As such, we continue to expect an increase in the revenue mix of our private label product, which accounted for 68% of net sales compared to 63% in the year ago period for the quarter. During the fourth quarter, we continued to expand gross margins with a 50 basis point improvement to 30.1% compare to the year ago period.

This improvement was primarily due to the high mix of private label sales. Our total operating expense was $21.3 million compared to $19.7 million in the year ago quarter. As a percentage of revenues, OpEx was 29.9% compared to 29.2%. The percentage increase is primarily due receiving higher than normal legal settlements last year.

Net losses for the quarter came in at $195,000, which represents minus $0.01 per share, compared to a net loss of $65,000 or $0 per share in the year ago quarter.

Adjusted EBITDA in the fourth quarter decreased slightly to $2.5 million compared to the prior year in part because we received a higher than normal legal settlements of $500,000 in the fourth quarter of 2015. Now let me provide some details on our key operating metrics for the fourth quarter.

Unique visitors to our e-commerce sites totaled $27.9 million, up 1% from last year. Orders placed increased 6% to $521,000 with an average order value of $99 from the $106 we posted in the year ago period. Our conversion rate was 1.9% for the quarter, up from 1.8% during the same period last year.

Revenue capture defined as the amount of actual dollars retained after taking returns, credit card declines, and product fulfillment into consideration, was 85.2% of gross sales compared to 85.8% in the year ago period. For the quarter, customer acquisition costs came in lower at $7.64 compared to $7.95 last year, and $7.61 in Q3 of 2016.

Turning to the balance sheet, we ended the year with no revolver debt and $2.7 million in cash, compared to $11.8 million of revolver debt and $1.5 million of cash in 2015. We also ended 2016 with inventory of $50.9 million compared to $51.2 million last year.

The overall balance sheet improvements are the result of our continued focus on inventory productivity, increasing cash from operations, and extended payment terms negotiated with our vendors. The extended payment terms are result of our improved operating performance and utilization of LCs for selected import vendors.

Our improved operating performance and cash position, as also enabled us to enact a stock buyback program. Since the announcement of our stock purchase program, we’ve purchased 1.1 million shares totaling 3.6 million, with 0.4 million shares purchased in Q4 at 1.4 million.

We also anticipate on a consolidated basis, a restructuring cost of $2.1 million for the first quarter as a result of the dissolution of the AutoMD, which Shane will discuss in more detail. With that, I’d like to turn the call over to Shane..

Thank you, Neil. I want to take a second to reflect on the growth U.S. Auto Parts team has delivered over the last four years by focusing on a fully vertically integrated e-commerce business. It became clear to us that we needed to control our supply chain and not be depended on other suppliers drop shipping product in our behalf.

It also became clear to us that we needed to control our customer traffic and not be depended on free traffic from Google organic search. And we have two objectives in mind; we put more resources behind our private label teams, develop the broader searching network in Asia and built systems to better mind demand data.

The results have generated significant improvements in profitability with net income increasing over the last four years from $13.6 million loss to $4.9 million loss to $100,000 loss and this year up $3 million, and adjusted EBITDA increases over the last four years from $4.6 million to $8.4 million to $10 million and this year at $14 million.

It has certainly taken time to implement our strategy fully as it needs to be done in a SKU-by-SKU basis. However, the TDS and time consuming nature of doing this SKU-by-SKU has resulted in what we believe is a significant competitive advantage. Our mission four years ago, to squarely focus on good quality, low cost product that saves the U.S.

consumer $100 per job as paying dividends. For consumers who simply want to get their vehicle back on the road for as little cost as possible, we believe we have a clear competitive advantage. Those advantages are the results of the hardworking and talented team in U.S. Auto Parts. I want to recognize tremendous team in U.S.

Auto Parts who believe four years ago that we could become a leading provider of private label aftermarket products. Thank you for your efforts. They continue to be recognized and appreciated. Since Neil previously spoke on the quarter, I’ll take a look at the full year results for 2016.

We ended with revenues up 4%, net income turning positive and adjusted EBITDA up 40%. For 2016, our initial net income guidance was $1.7 million to $3.7 million and our adjusted EBITDA guidance was $11.5 million to $14 million.

We achieved net income of $3 million and for 2016 we were able to hit the high end of our adjusted EBITDA guidance with a $4 million increase in 2015. Our private label business grew 12%. This private label growth also drove growth margin expansion of 170 basis points, a 30.3% with adjusted EBITDA margin expansion of 120 basis points to 4.6%.

This continued gross margin and EBITDA margin expansion demonstrates the leverage of our business as we shift to becoming a predominately vertically integrated e-commerce operator focused on developing outside growth for our private label business.

More impressive than our 40% adjusted EBITDA growth was our free cash flow generation during the year, which resulted in a complete pay down of $11.8 million of revolver debt and a build of cash. This free cash generation was a combination of cash flow from operations and improved payable through better vendor payment terms and use of other fees.

Also net debt swan $13 million during the year. Our private label growth which now has an eight-year CAGR of 14% is driven by our ability to be a low cost provider in the marketplace, which is a particularly strong value proposition to cost conscious customers.

And keep in mind that the average age of the vehicle on the road is 11.5 years and is expected to continue to age. The average miles driven on each vehicle is over 110,000 miles and is expected to increase.

These vehicles will continue to lose value to repairing them with good quality parts at the lowest possible cost will ultimately be a driver of consumers purchase behavior. Our product offering not only appeal to these customers it was specifically built for them.

For further perspective in a recent report by Jefferies automotive analyst, Bret Jordan offline retailers were compared to online competitors for the same branded product pricing.

On 150 SKU’s and over 1,000 price checks, the average online price were more than 20% below the physical retailers taking that step further when you compared to 10% of products that we private label in the branded set of the SKUs in the Jeffrey [ph] report our private label products average 20% below the online guys and 40% below the in-store pricing.

Again these parts are for the same vehicle this is one of the most significant reasons online growth is accelerated so much over the last five years and is expected to continue to grow going forward.

For the year, we added over 7,500 new private label SKUs and we anticipate adding an additional 7,000 to 8,000 SKUs in 2017, which we believe will allow our private label business to continue with double digit growth trajectory in 2017 and they around 70% of our revenue mix and over 75% of our units sold.

We are also accelerating investment in our data engine to increase the number of private label SKUs that we can source annually and while this won’t benefit us in 2017 as the pipeline is already full we expect additional sourcing capabilities in 2018 and beyond.

We are maintaining our previous guidance of low to mid-single-digit revenue growth and $4.8 million to $7.8 million of net income with $15 million to $18 million in adjusted EBITDA. We also anticipate generating strong free cash flow. Quarter to date, we’ve experienced what many other retailers have experienced.

We had a very healthy comp in January and experienced very soft February which we attribute to unfavorable weather trends but more significantly to the delay in tax returns for lower income customers.

Fortunately the tax returns can be get into the customers hands and we have seen comps jump back to the double digit growth rates for our private label products and we hope to make up the shortfall from February and March.

Turning to AutoMD, after agreeing to redeem out the minority shareholders the AutoMD board decided to dissolve AutoMD and distribute the asset to U.S. Auto Parts. As a result, AutoMD’s website and assets are now fully owned by U.S. Auto Parts.

We anticipate positive net income from AutoMD as revenues generated from media sales will be greater than the ongoing operating expenses in the second quarter and beyond. While AutoMD didn’t produce the results we had hoped I want to thank the hardworking team at AutoMD for their efforts they were certainly greatly appreciated.

In closing, we are once again in a leadership position online focused on gaining share from less price point competitive physical retailers. We produced $3 million in net income versus the net loss of $100,000 last year. We grew adjusted EBITDA by 40% year-over-year ending the year with $14 million. Our private label business grew 12% year-over-year.

Gross margins expanded to 30.3% for the full year, up a 170 basis points over 2015. Revolver debt was completely eliminated in 2016 and net debt swung $13 million. Net income guidance for the full year remains at $4.8 million to $7.8 million and adjusted EBITDA guidance for the full year remains at $15 million to $18 million.

And with that, we’ll now open the call for questions..

Operator:.

Thank you all for joining the call today. Please note we’ll be presenting at the ROTH Conference on March 13 and hope to see some of you there. If not, we look forward to speaking with you next when we report our first quarter results in May..

This concludes today’s teleconference. Thank you for your participation. You may disconnect your lines at this time..