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KAR Auction Services, Inc (NYSE:KAR)
Q4 2019 Earnings Call
Feb 19, 2020, 8:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Ladies and gentlemen, thank you for standing by and welcome to the KAR Global Q4 and Full Year 2019 Earnings Conference Call. [Operator Instructions]

I would now like to hand the conference over to your speaker today, Mike Eliason, Treasurer and Vice President of Investor Relations. Thank you. Please go ahead, sir.

Mike Eliason -- Treasurer and Vice President of Investor Relations

Thanks, Dan. Good morning and thank you for joining us today for the KAR Global year end 2019 earnings conference call. Today we'll discuss the financial performance of KAR Global for the quarter ended December 31st, 2019. After concluding our commentary, we will take questions from participants.

Before Jim kicks off our discussion, I would like to remind you that this conference call contains forward-looking statements within the meaning of the Safe Harbor provision of 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 measure can be found in the press release that we issued last night, which is also available in the Investor Relations section of our website.

Now I would like to turn this call over to KAR Global CEO, Jim Hallett. Jim?

James P. Hallett -- Chairman and Chief Executive Officer

Thank you, Michael and good morning, ladies and gentlemen, and welcome to our call. Let me start by stating what may be the obvious. 2019 has been a challenging year. And I want our investors to know that we are accountable for these results and we're also -- have a path forward and we will be accountable for that path forward. As I will explain in my comments today, I believe that KAR is well positioned to improve our performance in 2020 and beyond. So with that, let me outline my agenda for today and then we'll get to it.

First of all, I want to review our fourth quarter and our full year financial performance, summarize the key items that impact the KAR Global in 2019, review our guidance for 2020 and provide insights on the trends we believe could influence our performance and last, I want to walk you through our top priorities for 2020. Our priorities are a combination of initiatives that directly contribute to improving our performance in 2020 and sets us up for continued growth beyond 2020. Let me start with an overview of our financial performance.

Actually, I'm pleased with our fourth quarter performance where we grew net revenue, 6% on a consolidated basis, our adjusted EBITDA increased 10% over the prior year and for the full year, we saw net revenue increased 7% and adjusted EBITDA increased 1%. Our performance for 2019 was disappointing, but when you look at the pieces that make up KAR, my disappointment is limited to two areas. First, we had an issue at High Tech Locksmiths that negatively impacted our performance by more than $10 million. We did recover just under $4 million of expenses incurred at High Tech Locksmiths in 2019. But the drain on our earnings was still significant.

And the second area is TradeRev. Our losses exceeded our expectations and the volumes fell well short of our targets. As I will cover in a few moments, we have altered our go-to-market strategy for our digital dealer-to-dealer offering. I believe our new approach will improve our success in the dealer consignment segment and lower our cost in achieving that success. As I look beyond these two negative items, I see a lot of strength in our business that are reflected in the fourth quarter results.

We had a strong performance in our physical auction business as well as through our Openlane platform. Our total volume was up 9%, commercial volumes grew 11%, and dealer consignment volumes grew 6%, and we are able to triple our volume in Europe with the addition of CarsOnTheWeb. We also saw ARPU in both physical and online marketplaces grow. Physical ARPU grew $886 from $868, ARPU only -- in the online business, ARPU grew -- grew to $155 from $122. AFC continues to be a consistent performer for KAR. Revenues increased 3% in the fourth quarter and adjusted EBITDA increased 9%.

We also made some changes in the KAR that will reduce our SG&A going forward. We have streamlined our organizational structure to be less complicated and have eliminated a number of overhead positions. Many of the positions eliminated were higher compensation levels. We had severance in the fourth quarter of nearly $10 million. And with that, the payback for this one-time cost is less than two quarters. As I look back and reflect on 2019, it is the combination of successes and challenges. The spin-off of Insurance Auto Auctions has exceeded our expectations, yet becoming a smaller company has challenged us to rightsize the remaining KAR Global enterprise.

The last half of 2019 saw the used car market, both wholesale and retail, have some choppiness, but the supply of vehicles remain strong and the outlook for our industry is clearly positive. So with that, I'm ready to turn the page on 2019 and focused on execution and delivering the results that meet or exceed our expectations going forward. Now let me provide you with an overview of our 2020 guidance. We expect adjusted EBITDA of $520 million to $540 million. This will result in operating adjusted net income per share of $1.28 to $1.38. Included in this guidance is an expectation to reduce the losses incurred at TradeRev by approximately $20 million. And with the combination of the sales teams and a more integrated approach to serving the dealer consignment market, I have increased confidence in meeting this target.

We expect North American volume in both commercial and dealer consignment segments to grow. Our commercial segment will be supported by lease returns and repossession activity that are expected to remain strong. Dealer consignment is the other segment of our market. Remember digital and physical are not segments, we are focused on two specific goals in dealer consignment, grow total dealer consignment volume and increase our profitability for the dealer consignment segment.

As I've said many times, we will not dictate to our customers, when, where, how, they should sell a vehicle, but how we will offer solutions to meet all of their needs. We are not going to pursue growth in our digital offerings at the expense of performance. We will approach the digital marketplace with a rational business model that is sustainable for the long term.

Now, let me speak to used car values in 2020. We are expecting the strong supply of used vehicles to KAR's used car prices to decline modestly. This creates an opportunity for our physical auctions to continue growing ARPU through value-enhancing services and the strength of supply from our commercial consignors will also support our businesses that operate outside of our physical locations, that being CarsArrive, AutoVIN, KAR [Phonetic] and RDN will all benefit and contribute to growing ARPU.

On the cost side, we plan to further reduce our SG&A. We have eliminated 70 sales positions in combination of the ADESA and TradeRev dealer consignment teams in early January. The corporate headcount reductions in 2019 will be seen in lower cost in 2020 and we have identified non-payroll costs that can be reduced in 2020. We believe we have opportunities to reduce software licenses and maintenance cost, travel and entertainment expenses and mobile device cost to name but a few. I continue to challenge our leadership team to reduce our SG&A as a percent of total revenue to 20% by the end of 2020.

We have established five specific priorities in 2020, and I want to outline those for you. First, we want to improve our overall profitability of KAR. Secondly, we want to grow our dealer consignment business. Third, we want to grow our commercial business. And fourth, we want to transform our physical auctions into the digital auction of the future. And finally, we want to continue to grow our international businesses. These priorities focused on near-term performance and setting up KAR Global for the future. Let me expand on those priorities.

Our first priority is to improve our financial performance. I've already spoken to a number of actions we've taken to improve our performance in 2020 in addition to reducing our SG&A, we will focus on improving the gross profit contribution of our ancillary and related businesses. We have set specific targets for High Tech Locksmiths, KAR, AutoVIN and CarsArrive gross profit percentages. We are also looking to improve the operations at our North American physical auctions and reduced our direct costs. We need to expand our VirtuaLane offerings and we need to rethink our traditional auction processes and look to the use of technology to reduce the number of moves for a vehicle prior to the sale.

Next priority for 2020 was to grow our dealer consignment volume. We have now combined the sales team of ADESA and TradeRev and we have clarified our go-to-market strategy. We have set a clear goal for dealer consignment sales team and we will grow our dealer consignment volume. In January, we provided a three-day comprehensive training program for all of our sales team members across North America. At NADA last week, we introduced our Highway to Sell dealer solutions. The solution -- this solution set -- excuse me, this solution set allows the dealer to select from three distinct service offerings when selling a vehicle. We will allow the dealer to use all of our capabilities of KAR with as much or as little involvement in the sales process as the dealer desires.

We also introduced our MOVE METAL three-day delivery guarantee. Any vehicle purchases on TradeRev within 500 mile radius of the buying dealer will be delivered in three days or less or the delivery is free. We are resetting the bar on service levels, and most importantly, I want all of our dealer consignment sales teams to understand the physical auction process. We sold nearly 900,000 dealer consignment vehicles from our physical auction locations and the physical auction industry sold approximately 5 million dealer consignment vehicles in 2019. I want to reinforce that physical auctions remain a viable venue to get the maximum value for our wholesale transaction.

Thirdly, I want to talk about our commercial business. Using the Openlane technology, we provide the US and Canadian markets with best-in-class private label technology for OEMs and major banks. We want to continue growing the volumes that sell on our private label sites and continue to increase the open sales for these consignors. We are also targeting the OEMs and their captive finance groups to expand their market share at physical auction. We see this as an important driver for revenue growth, and we not only see an increase in volume, but we have the opportunity to offer ancillary services to improve the condition of these vehicles and increase the value of these vehicles at the same time.

We are also focused on expanding the reach of our other businesses that provide transportation, end-of-lease inspections, repossession services and data and analytic capabilities to our commercial customers. Fourth, our priority is to transform our physical auction operations and be the leader in providing the digital auction of the future. We are rethinking every process and every technology we use at our physical auction locations.

First and foremost, I want the physical auctions to be safer. Secondly, we see how our dealers want to do business and it is clear that we can help dealers make the best decisions when buying vehicles with the best information and while spending the least amount of time possible away from their retail operations. We will continue to invest in our physical auction facilities and the technology that we use to operate these auctions. Not only will this help our dealers obtain inventory more efficiently, but we will also benefit by reducing the labor costs required to operate at our physical auction sites. While I expect to make significant progress on the digital auction of the future in 2020, the priority has a longer roadmap and is likely to see its greatest returns beyond 2020. The good news is, this priority is more about prioritizing our capital investment in technology and not about increasing our expense structure to achieve our goals.

Finally, our fifth priority in growing our international business. We operate two separate online auction platforms in the UK and throughout Continental Europe. Each of these platforms has the opportunity to grow volumes and to grow profits. Our CarsOnTheWeb acquisition will be the primary driver of our international growth. We are pursuing new commercial consignors for the European platform, as well, we are looking to increase our share of wholesale transactions that stay within a particular country, especially in Germany and we are developing additional services that we already provide in other markets. Not only can our international operations provide growth in 2020, but I see even greater growth in the years ahead as we develop these additional services and change the wholesale auction experience in Europe.

In summary, we have set the priorities that will directly impact our results in 2020 and improve our cost structure into the future. We are approaching the segments of the wholesale business with a focus on providing solutions and just not offering different products. Our priorities will shape the operating decisions that we make throughout the year and to what initiatives that we allocate our capital.

So thank you again for joining us today. I will now turn it over to Eric for additional commentary. Eric?

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Thank you, Jim. Let me add some additional comments on our performance in 2019. First, I would like to highlight a change in our income statement presentation. Beginning in the fourth quarter and for the full year 2019, we are identifying purchased vehicle sales as a separate component of revenue. This presentation allows the readers of our financial statements to better understand our gross profit performance. Almost 90% of our total revenue is auction fees, services revenue and finance related revenue that have high gross margins. However, the revenue from sale of purchased vehicles reflects the sale price of the vehicle with a comparable cost of services that distorts the reported gross margins in our consolidated financial statements and in the financial results reported for the ADESA segment.

Revenue from purchased vehicle sales has become more significant recently as we have expanded the ADESA Assurance Program and acquired CarsOnTheWeb. I would also like to highlight a couple of items that impacted our fourth quarter results. First, we incurred $9.6 million in severance in the fourth quarter as we eliminated a number of corporate positions throughout the Company. The severance costs are defined as non-recurring expenses and are excluded from the adjusted EBITDA. However, severance costs are not excluded from the computation of operating adjusted net income from continuing operations per share. Fourth quarter severance costs, net of income taxes reduced operating adjusted net income from continuing operations per share by $0.05.

Our fourth quarter results were also negatively impacted by a higher effective income tax rate in 2019 as compared to 2018, and as compared to our expected effective income tax rate for the year. The effective income tax rate of 38% in the fourth quarter compared to 11% for the fourth quarter of 2018. The increased effective income tax rate reduced operating adjusted net income from continuing operations by $0.05. The impact of severance and increases in our effective income tax rate on the full year was $0.08 per share and $0.06 per share, respectively. The severance costs were incurred as we took action to rightsize KAR for its operations post spin of IAA.

The actions taken in 2019 will reduce our cost structure in 2020. We continue to provide support to the IAA organization in 2020 and are working closely with the IAA team on transition plans as they stand up mini corporate functions for their separate company. We receive a transition services fee from IAA that offsets our actual cost incurred during the transition period. As Jim mentioned in his remarks, we received approximately $4 million in December 2019 that offset expenses incurred at High Tech Locksmiths. Our litigation against former employees is ongoing and any recovery of losses or additional expenses incurred will be recorded when realized. Beyond the losses incurred in 2019, the High Tech Locksmiths business has been performing at lower levels due to high employee turnover. We believe we have stabilized the management of this business although that continues to operate at lower revenue and profitability levels than in the first half of 2019.

Throughout 2019, we have reported lower gross profit as a percent of net revenue in the industrial segment. While the mix of ancillary and related services revenue is the primary driver of the lower gross margin, the ADESA team has been focused on how to improve gross profit in our ancillary and related services businesses. Fourth quarter gross profit was 42.1% of auction fees and services revenue compared to 41.8% in the prior year. Within the ADESA segment, auction fees and services revenue is all revenue accept purchase vehicle sales revenue. Improving our gross margin on the ancillary and related services is a key initiative in our effort to improve our profitability. As we did in the fourth quarter, we will continue to focus on these businesses, and focus on improving our gross margin for ancillary and related businesses which will impact the entire ADESA segment.

Our AFC business continues to perform well during a period of slower growth. AFC has been able to increase adjusted EBITDA at a greater rate than revenue growth. AFC has done this by reducing its SG&A in absolute dollars, therefore driving greater profitability. Holding company has also reduced total expenses in 2019 as compared to 2018 for the full year and in the fourth quarter. SG&A as reported in our segment financial reporting includes severance of $5.8 million for the full year and $4.4 million in the fourth quarter. We expect to reduce holding company SG&A by over $10 million in 2020 as a result of actions taken in 2019. We also have targeted additional SG&A savings of up to $10 million that we are pursuing in 2020 that relate to non-payroll costs.

Now, let me review elements of our guidance not covered by Jim. We expect capital expenditures of $135 million in 2020 down from $162 million in 2019. Approximately $85 million of capital expenditures is related to technology and approximately $50 million is related to physical assets. We are expecting cash taxes in 2020 of approximately $65 million. This represents an increase from cash taxes of approximately $38 million in 2019. The increase reflects the higher effective income tax rate we anticipate for 2020 of 30% combined with less proceeds from exercise of stock options that create income tax deductions with no corresponding expense in our financial statements.

We are expecting cash interest on corporate debt of approximately $90 million. Earlier this month, we entered into an interest rate swap that fixes the interest rate on our term loan B at approximately 3.7% for five years on $500 million of the $948 million outstanding at December 31, 2019. At the time we entered the interest rate swap, the interest rate on our floating rate debt was approximately 4.1%. This represents a reduction from cash interest on corporate debt that was $110 million in 2019. We expect a significant increase in cash generated from operations in 2020. Not only we increased cash, but based upon the high and low end of the range of our adjusted EBITDA guidance, we expect to increase 2020 net income from continuing operations per share by 39% to 53% over 2019, and increase our 2020 operating adjusted net income from continuing operations per share by 23% to 33% over 2019.

Now, let me close with a couple of comments on our planned uses of capital. As Jim provided insights on our top five priorities for 2020, we are planning to allocate capital to support these priorities. This starts with our capital expenditures of $135 million for the year. It also applies to our acquisition pipeline, while we continue to focus on improving our profitability immediately, we are prepared to deploy capital to support our priorities and provide the platform for long-term growth as opportunities arise. We continue to evaluate all alternatives with strategic growth being our primary focus after providing a return to our shareholders through our quarterly dividend. We have a share repurchase authorization in place, should we determine that repurchasing KAR shares is the best use of capital.

We have no specific actions to discuss today, but have a pipeline of potential uses, we continue to monitor. In conclusion, we continue to believe we can meet our long-term growth objectives. We are committed to growing revenue improving gross profit dollars generated in our businesses, reducing SG&A as a percentage of revenue and growing our profitability as measured by adjusted EBITDA and operating adjusted net income from continuing operations consistent with long-term targets we have previously discussed. And finally, we are committed to reducing the losses incurred at TradeRev as we pursue leadership in the dealer-to-dealer segment of our business. With our combination of the sales teams at ADESA and TradeRev and further integrations of operations that are likely in the near future, it will be difficult to isolate TradeRev losses consistent with how we reported when TradeRev operated with complete autonomy. However, we will measure the revenue and cost from this digital channel in order to report our progress on reducing the losses as long as that is feasible. Over time, the real measure of success will be the improved profitability of the total ADESA segment.

Thanks for your time today and we'll now turn it back to Daniel to take your questions.

Questions and Answers:

Operator

[Operator Instructions] Our first question comes from John Murphy with Bank of America. Your line is now open.

John Murphy -- Bank of America Merrill Lynch -- Analyst

Good morning, guys. Just a first question which is a little sort of more strategic. When you think about sort of the growth efforts on TradeRev, CarsOnTheWeb, and what's happened High Tech Locksmiths to draw the second question on, it seems like there has been sort of a diversion in some of the stuff that's not going according to plan. But it also seems like you're now indicating in the core of the business based on the restructuring or set, headcount reduction that you're going after in SG&A reductions that there might be something going on in the core business where costs are a bit inflated. Is that something that is changed in the core business? Or is this something where there has been a lot of management effort in time focused on these growth initiatives and maybe take your eye off the ball there, and you just need to go back in rightsizing them. I'm just trying to understand what's going on in the core business, because it seems like there's a little bit of underperformance on the cost side there, or performance.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

John, this is Eric. Let me start and then I think Jim will add some things to this. Relative to the cost structure, let's break it into pieces you've brought. When you talk about TradeRev, it was clearly too high of a cost model with all of the incentives and things that we have cut back. And so -- so there specifically, we have slowed down in order to get the business model rightsize, so that we can have long-term profitable growth in the dealer-to-dealer segment. CarsOnTheWeb specifically has outperformed our expectations. In fact they're doing very well. We've only owned it 11 months now, were 10.5 months at the end of the year, but it's done very well, is exceeding our expectations. And in fact is part of -- is expected to grow a little bit more, and I think we're fine there.

The core business, ancillary service, I don't think our costs were inflated, what I think is happened is, we have the opportunity to use technology to have a more efficient delivery of our direct costs into that business, and shortening the amount of time of a car is on the property, how many moves you make, how can you deliver the services more efficiently and improve our profitability that way. And then lastly, I'll let Jim speak to this. Can we come up with an auction model that has less reliance on labor? All of this comes down to reducing the labor component of the direct cost structure across all of our platforms. And VirtuaLane is an initiative that Jim is very passionate about for many reasons. So Jim, maybe talk about how we're going to use the technology to reduce the cost structure in the core business.

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. John, I think I mentioned in some of comments, but as you think about our legacy physical auction business, I think we have to, as I would like to say we have to rethink our processes and kind of reengineer that business. And there is no question, my first priority is making these auction safer. We have been the industry leader in safety. And I want to continue to drive safety and be the spokesperson for safety in this industry. But second of that we really, and along with safety, we really want to limit the amount of times we touch a car and move a car and how the car moves through the process.

And as we talk about virtual auction, we talked about not moving the car. The car can sit on its designated spot. It can -- dealers can walk around it. If they want to come to the physical auction, they can see the car, touch the car, but when they actually bid on the car, they'll be sitting in a theater like atmosphere and they'll be bidding on the car without the car moving through the auction, it will be seen on the screen. And as you do that obviously you know you're reducing your sale day labor, you're reducing your drivers, you're reducing the people in the yard, the people in the lanes, actually right down to reducing the people that are needed and required in the office to handle the dealers that will be coming to the auction. So there is -- those reductions in labor and cost savings there.

I told you last year that we were going to have 30 of our auctions equipped with VirtuaLane. And we continue to have 30 auctions and now we're pushing for the rest of the actions to be equipped with VirtuaLanes to the point where hopefully as we approach year end, we'll have maybe not all 75, but we'll have closer to all of our auctions equipped with VirtuaLane with that theater like atmosphere. And as we do that, I would -- without getting into the numbers I would report -- I would report to you that we had -- we have roughly 14, what I would call commercial customers that were supporting VirtuaLane in 2019. We expect that maybe we can grow that. We were very pleased with the number of cars we sold on VirtuaLane last year, in a VirtuaLane concept. And this year, our expectation is we will add a minimum double number of cars that we're going to sell in VirtuaLane. So with that, I'll take a pause.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Yeah. And John, one last comment. Our fourth quarter gross profit in the core ADESA business was up 40 bps year-over-year and that's early in our process. We think we can continue that trend by improving gross margin in the core business going forward. Again, excluding purchase vehicle sale -- which there is no margin in that.

John Murphy -- Bank of America Merrill Lynch -- Analyst

Okay. And then maybe just a second question. So it seems like the core business is in transition. You are going after these growth initiatives, which all makes sense. I mean the business is shifting and you're shifting with it. So it's the right thing to do. But if you look at what's going on with TradeRev and CarsOnTheWeb, it sounds like CarsOnTheWeb is going fairly well relative to your expectations. TradeRev, it's underperforming. Is there anything else that may or may not happen with TradeRev meaning, when do you kind of, it seems that you declare success or decided to cut bait on it.

And also maybe very specifically on TradeRev, is the sort of the channel different than what you traditionally see in your options? Because it seems like dealer-to-dealer, the way you're discussing it is much more what the wholesalers are going after, as opposed to what was going on in your auction. So I mean, as we think about TradeRev, whether you fill or kill, I'd like to hear your answer on that. But also I mean really what is the addressable market? It seems like it's outside the 10 million unit auction traditional auction industry and it's more in the sort of a fortified wholesaler industry. I'm trying to understand what the channel is as well.

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. So John let me speak to that. And I want to speak to TradeRev. But first I want to start with -- I want you, I want our investors and I want the industry, our employees want them to start thinking about total dealer consignment as a segment. And as you think about total dealer consignment, we are going to grow total dealer consignment. And as we think about dealer consignment, we really have two products there. We have physical auctions, where we can sell the other consignment. And we have TradeRev where we can sell dealer consignment.

When you add the two of those together, we're looking to grow that segment. And quite frankly I'm not concerned where those cars sell, as long as we get the car and sell the car in one of those channels. And as we reported, we sold approximately 900,000 vehicles at physical auction last year. And we sold 158,000 vehicles on TradeRev last year. You can do the math. We are projecting that we will grow total dealer consignment. We are in dealer consignment and we're in it to win the category. And I can tell you that we slowed down. I told you at last quarter, we were going to slow down to speed up. And certainly volumes fell short, and we took our expenses that we needed to take in TradeRev and we knew that we are possibly going to give up some volume to our competition. But what we did, we were able to -- we were able to reset our go-to-market strategy. We have combined these two sales teams from ADESA and TradeRev. They are integrated into total dealer consignment at ADESA.

Our go-to-market strategy has changed. We brought 450 sales representatives from across North America into Indianapolis in January. I was very pleased to sit through those three days of meetings with those sales teams. And I believe that we are very well positioned to go to the market with one point of contact with the dealer that can speak to all of our service offerings not only digital and physical, but all of the other ancillary services that we put with it. I'm very convinced that we cannot continue to chase this market with incentives. We cut the incentives, are no longer providing transportation incentives. And we have consciously decided that we may have used incentives to local markets, but for the most part, it's been cut.

And I believe that we've got -- we've got to win this business on service. And we can't win it, it's not a sustainable model by throwing incentives at it. So that deal has gone. And long term, I think, if you think, how do we win it on service, win it by doing what the dealer wants us to do. In the channel that he wants us to do it in, in providing that choice. We also support that choice with our ancillary services, things like our finance company, our transportation company, our inspection business. That's how we're going to win this business long term. And quite frankly, I know that 2019 doesn't reflect success, but I can tell you I don't believe. I'm very confident that there is nobody else in this industry that has the platforms, the channels, the ancillary services and the total collection of assets to be able to deliver what we can deliver to the dealer. And again we've reset, it's early in 2020, we've got a great plan, and I can tell you, at month end, I'm not discouraged with what I'm seeing.

John Murphy -- Bank of America Merrill Lynch -- Analyst

That's very helpful. Maybe if I could just one quick mundane question. It seems like, that conversion rate was roughly flat in the mid 58% year-over-year. Your expectation, I think the general consensus is that, used vehicle pricing will come down. So it seems like your institutional sellers are being a little more stubborn than maybe they should be. And I kind of thought they were going to get a little bit more realistic as we were in the fourth quarter. Is there a backlog of institutional vehicles that needs to be cleared here, and the conversion rate may tick up early in 2020 to clear this? Because I mean, it just seems like they're being awfully stubborn and they're going to pay the price in, maybe the next few quarters, if they don't clear this inventory now.

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. John, I'll speak to that and then let Eric add some comments as well. First of all, we told you on our last call that the supply of off-lease vehicles was going to be very strong coming back in the fourth quarter, because there was a record amount of leases written in the fourth quarter of 2016. And we said, we weren't sure if that volume was going to sell in the fourth quarter or would some of that volume carry over to the first quarter of 2020. In fact, I would tell you and I think, Eric will speak to it here, that volume kind of got split out of the fourth quarter and some of that has carried over to the first quarter. Eric?

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Yeah. On that, John, I wanted to add to that. We did very well on the online model and that is because you only get one shot at it. The cars that went to physical auction, the conversion rate was lower, because the [Technical Issues] for what they believe is a higher price after year end. So it's kind of the best. We had very strong online performance, and I think the physical cars probably were held off going into the first quarter. And that was actually good for our business and helped the ARPU. So John, we probably got to move on to others to take their questions.

John Murphy -- Bank of America Merrill Lynch -- Analyst

Thank you.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

You're welcome.

Operator

Thank you. Our next question comes from Bob Labick with CJS Securities. Your line is now open.

Bob Labick -- CJS Securities -- Analyst

Good morning. Thank you.

James P. Hallett -- Chairman and Chief Executive Officer

Good morning, Bob.

Bob Labick -- CJS Securities -- Analyst

I just wanted to step back on TradeRev. So I think on the third quarter call you implied you were going to pull back on incentives and then reduce the loss. Obviously, it was a little higher. Have incentives been pulled back, or were they I guess in Q4, or is that something that's happening prospectively Q1 and going forward?

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. So, basically, Bob, we pulled back on the incentives as we're getting through the fourth quarter, but they've been pulled back as we go into 2020, and then the other thing that we did is, as we were resetting our plan and resetting our approach, our go-to-market strategy for 2020, we did take additional losses, and we got our losses behind us as we went into the New Year. Eric?

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Yeah. Bob, we clearly took action that probably reduced -- but definitely reduced the volume from what we expected, which reduced the revenue and increased the losses, but it was most important, really, as Jim mentioned, to have that activity in the fourth quarter and not carry expenses and programs into the first quarter, that would be a burden on earnings as we look to 2020.

Bob Labick -- CJS Securities -- Analyst

Got it. And then just -- it's probably too early, given the change in incentives has been very recent, but can you tell what's happening in like on the same market, same-store basis when you pull back incentives, has there been much of a difference in conversion rates or how is it impacting the model so far?

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Well, we're measuring one thing, although we measure it in two pieces. We are very pleased with our dealer consignment volumes, beginning in 2020. We are meeting our objective of growing dealer consignment in total, and we are also pleased with the mix between online and physical within that. So that, we report the first quarter, when we get the full quarter end, but we're very pleased with the start of the year, and I think our combined sales team is doing an excellent job of attracting more dealer consignment vehicles into our many offerings and letting them sell wherever they get the most money. Right, Jim?

James P. Hallett -- Chairman and Chief Executive Officer

Absolutely. We've had invested, and it's early Bob, and we don't want to get excited about the first part of the year here, but I'd just say, I'm not disappointed with the reaction of our sales team. I think our sales team has really come together culturally, where we are very much aligned, where we weren't aligned before, and I think we really understand that we have an opportunity to win this space, and I think that teams are motivated by that, and now we've not only done the sales training, we've aligned compensation programs, we've aligned markets. I think we have a very good go-to-market plan, and that's just not optimistic Jim speaking. I'm very confident with the training I've seen and with the feedback I've had directly from dealers that we are on the right path here.

Bob Labick -- CJS Securities -- Analyst

Okay, great. And then, just last one real quick, and I'll jump back in queue, and thank you. Can you just highlight the changes in the differences in the new Highway to Sell? We love the name, by the way, but in a new go-to-market strategy Highway to Sell, what are the primary differences versus what you were doing before?

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Well, think of this as we're making the dealer aware of all of our capabilities across all of our platforms for dealer transact -- dealer transactions. And they select where to step in, do they want to manage the process? Or do they want to turn it over to us and say, you take it through your process like a waterfall, you take it through, put it on TradeRev, see what the bids are. If it's not high enough, you take into physical auction, you get liquidity there, and then, you can even take it back onto the digital channel, if you want. The concept there is, the end result is, we want to get the maximum value for your vehicle, and we want to do that in the more sensible way, and then, we'll add to that a guarantee that if a buyer buys that vehicle, and they are within 500 miles of the grounding location, wherever it's sitting, we will guarantee delivery within three days, which is the most important thing to the buyer. It's going to get the vehicle to retail. Jim?

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. I think Eric has said, at NADA, we rolled out our Highway to Sell, and there're really three offerings there. And those three offerings come at different price points. And there's the manual service and there's what we call the automatic service, and then there's the cruise control service and obviously manual, you're doing most of the work yourself and cruise control, we're taking care of all that for you. And I think that is really coming back to what I've always preached. We're given dealer's choices, and I can tell you being a former dealer, I didn't want somebody coming in and telling me, how I was going to do business. I wanted them to tell me what the options were and what products were available. And then at the end of the day, I'm going to choose how I want to do business, and it's not one-size-fits-all, I've come down to say, I would maybe want different cars going to different channels, based on the car and the price point and the condition of that car. So this is really about providing dealers with choice, but having that one point of contact that can represent all those choices, and all those services to our customers.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

And know the cost to the seller to get whatever service they're asking for, there's a fixed cost for them for the selection they make.

Bob Labick -- CJS Securities -- Analyst

Terrific. All right. Thank you very much.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

You're welcome.

Operator

Thank you. Our next question comes from Ryan Brinkman with J.P. Morgan. Your line is now open.

Ryan Brinkman -- J.P. Morgan -- Analyst

Hi. Thanks. A couple questions on TradeRev. Maybe first could you just speak to the competitive environment for the TradeRev business, is it just ACV that you're bumping up against there? Or do you see other established or maybe upstart competitors in this space also?

James P. Hallett -- Chairman and Chief Executive Officer

Yeah, so Ryan, there are the competitors in this space. I got to tell you that, obviously, we recognize there's another competition beyond ACV, and listen, there will continue to be other competitors in this space, but at the end of the day, I think this organization has really gotten focused on what we need to do at TradeRev. We need to be aware of our competition, but at the end of the day, I'm talking about increasing dealer consignment and total dealer consignment, and our TradeRev offering is just a product that helps us increase total dealer consignment.

Ryan Brinkman -- J.P. Morgan -- Analyst

Okay. Thanks. And then how should we think about the path to profitability at TradeRev? Do you still expect to begin to at least breakeven on that business at some point during 2021 given that would now seem like a pretty material improvement versus the implied guidance of $50 million or so of loss in 2020? And to get the profitability, should we be looking for faster growth in order to better amortize fixed technology and other overhead costs, or is the path forward more about the disciplines growth with less transportation, subsidies, marketing costs, etc.?

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. So Ryan, to start with, yes, we still believe that we can reach breakeven in 2021, and we believe that with our new go-to-market strategy and our discipline around incentives, we believe that's going to enable us to get there. We still believe that our breakeven is going to be somewhere between 300,000 and 400,000 cars, and we're looking to accelerate that pace.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

And let me add Ryan, our integrated approach by looking at dealer consignment on a consolidated basis, we will actually reduce the cost model for this business. So it's not just the $20 million in TradeRev, it's also taking advantage of the ADESA resources and not having incremental cost to add additional transactions as we put the combined sales teams and then ultimately combine even some operating processes together over time. So it's a little both. So don't just focus on the separate TradeRev component. We've isolated that for you. There's also efficiency we're gaining out of the rest of the enterprise that'll help improve the profitability. I think the moves we've made in 2019 at the end of the year, improve the likelihood and accelerate our opportunities to have a lower cost delivery model, especially when you take those incentives away.

Ryan Brinkman -- J.P. Morgan -- Analyst

Great. Very helpful. Thank you.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

You're welcome.

Operator

Thank you. Our next question comes from Daniel Imbro with Stephens Inc. Your line is now open.

Daniel Imbro -- Stephens Inc. -- Analyst

Hey, good morning, guys. Thanks for taking my questions. First one on ADESA's kind of underlying gross margin, Eric, you talked about ancillary services weighing on gross profit. If I think back a few years ago, you guys used to see near-term headwinds, but we normally call out a gross margin benefit in subsequent quarters as you sold through those vehicles. Can you talk about what's changed to where ancillary services now continue to be a headwind on gross margin? And we're not kind of seeing that catch-up of the gross margin as you sell to as higher dollar vehicles, and then I do have a follow-up.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Yeah, Dan, thanks for the question. What's interesting is our success is influencing the change. If you go back three, four years, ancillary services, predominantly onsite services, improving the condition of the vehicle, where now we're doing a lot of offsite, we're doing a lot more transportation of vehicles that aren't at the auction. So when I talk about that, I think the same phenomena occurs relative to the auction business, but we have a much broader offering that goes beyond that auction business around our ancillary and what we call related services, like inspections, transportation, repossession activity. When those grow, again gross profit dollars are going up, and I'm very pleased with our progress on improving gross profit dollars for cars sold, and that's what I'm focused on. So we've gotten there, but the change is growing that business focusing on it growing, contributes dollars, but puts a little pressure on the percentages.

Daniel Imbro -- Stephens Inc. -- Analyst

Okay. That's helpful and then a clarifier on the guidance. Jim, you guys have made a number of cost cuts and you described the business improvements you're making at the core auction, but the midpoint of the EBITDA guide assumes $20 million of growth year-over-year. And I think you said your guidance assumes $20 million in improvement of TradeRev's operating losses, so it seems like you're implying underlying EBITDA ex-TradeRev is flat year-over-year. Where -- I mean, how can you kind of reconcile those points or kind of how should we think about those as we look at the guide?

James P. Hallett -- Chairman and Chief Executive Officer

Yeah, so let me say that after 2019 where we saw a very disappointing result, I never want to be in a position again, where I over-promise and under-deliver, and quite frankly, we're focused on our priorities. We are very confident that we can deliver on what we've told you, and at the end of the year, I'm going to let the results speak for themselves rather than over-promising.

Daniel Imbro -- Stephens Inc. -- Analyst

Okay. Got it. Thanks.

James P. Hallett -- Chairman and Chief Executive Officer

You're welcome.

Operator

Thank you. Our next question comes from Derek Glynn with Consumer Edge. Your line is now open.

Derek Glynn -- Consumer Edge -- Analyst

Yeah, good morning. Thanks for taking the questions. Just had one just to follow-up on TradeRev, what kind of response did you see from others as you increase fees and reduced incentives? Did you see anything to suggest competitors followed sue or make any other changes to their offering?

James P. Hallett -- Chairman and Chief Executive Officer

I can say that, I only hear anecdotal information, I don't know anything that's factual, excuse me. I don't know anything that's factual, in terms of how the competition is behaving. We hear things, but I don't put a lot of weight in these anecdotal comments. And again, not to -- not do by commenting on it. I really am focused on our model and winning, I am going to win, and this is not a short-term game. This is a long-term game, it's a space that we have to be in, and not to use the cliches, but I've used in the past. We absolutely have the right to win here. We have the collection of assets that give us that unfair advantage. And I'm focused on this team and I'm focused on driving results, and I noticed competition out there, but I got to be aware of it, but I don't want to believe everything I hear.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

And Derek, let me add, we surveyed our customers, we surveyed the people using our platform and asked what was important to them. It's obtaining inventory at the right price, and getting it to the retail location as quickly as possible. Incentives and the support we were providing was way down the list as to what they were looking for to transact for us.

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. A good point, Eric, and I want to follow-up on that. Listen, and I speak as a former dealer and I can tell you, I talked to dealers every single week of my life. Dealers are focused on results and where you can provide results and service levels, the fees become a very, very small percentage of the transaction. And quite frankly, that's where we're focused. We're focused on delivering the service. Now to Eric's point, in that survey, Eric, if I can add a couple of points, in that survey that we did along with what Eric said, there were also a couple other things that were mentioned to us that we took action on.

They mentioned a couple of things in terms of how our process worked, that they'd like to see change. I don't need to get into what those two changes were. But there were a couple of changes that we've now made in terms of the technology delivery and the use of the technology and the use of the platform that we've taken action on and we've listened to our dealers. So the feedback that we got from the dealers was real, and we reacted to it.

Yeah. So to sum it all up, we're not looking at our competition. We're looking at our customer to give us guidance on what's important and how our business model is put together.

Derek Glynn -- Consumer Edge -- Analyst

Okay. Got it. That's helpful. And then just two more items for clarification, first, are any share repurchases contemplated in your guidance? And then secondly, for High Tech Locksmiths, I think you mentioned a $10 million drag to results, but recovery of only $4 million, is there a possibility for further recovery from that issue in 2020?

James P. Hallett -- Chairman and Chief Executive Officer

So let me start with capital allocation and the buybacks that you mentioned. First, I want to state that, our capital allocation priorities have not changed. We did not do any buyback in the fourth quarter, and quite frankly, our leverage was at 3 times in the fourth quarter and we did not want to exceed, and the 3 times is our target leverage and we did not want to exceed that leverage in buying back shares. And going forward, we continue to evaluate all of the alternatives to deploy capital. We have our dividend, we continue to look at a pipeline of acquisitions and prioritize those, and then, we do have a share authorization, share buyback authorization in place that we can act on based on how we prioritize things going forward. So, again, we didn't buy any shares back in the fourth quarter and the first quarter, but at any point in time, we can pull the trigger on those, Eric?

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Yeah, and relative to High Tech Locksmiths, let me point out two things. First, the litigation is ongoing, any potential recovery, I think would come through litigation. That's a long process. I don't know when we would see any outcome from that, but second, if there is recovery in litigation, it would not be included in adjusted EBITDA. That would be considered a non-operating game and so in adjusted EBITDA, it will not be a positive for adjusted EBITDA, it would be included though in net income from continuing operations, so it's a little different than that, because it would be earnings to the organization but it would not be additive to adjusted EBITDA nor, and accordingly, so don't count on that is being part of our guidance.

Derek Glynn -- Consumer Edge -- Analyst

Got it. Okay, thank you.

Operator

Thank you. Our next question comes from Bret Jordan with Jefferies. Your line is now open.

Bret Jordan -- Jefferies -- Analyst

Hey, good morning, guys.

James P. Hallett -- Chairman and Chief Executive Officer

Good morning.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Good morning, Bret.

Bret Jordan -- Jefferies -- Analyst

The comment on the -- the target on 20% SG&A rate by the end of '20, just from a modeling standpoint, is that a target for the full fourth quarter or to achieve that within the fourth quarter?

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. So let me talk a little bit about that target Bret is, I recognize that we have to reduce our SG&A in this Company, and at some point in time, you've got to put a stake in the ground, and you've got to put a target out there. And 20% is a target or as I would say, a goal that we've got to achieve. If we don't have any target, then we don't know where we're going, and we have to have something that we focus on. And I'll tell you at the very outset here, this is a very aggressive target, and it's going to be, I would call it a monumental task to get to 20%, and I'm not sure if we can get there in 2020, but I want to continue to work toward that in each quarter, as you see our results, I want to see our SG&A coming down. And there's a lot of things that we talk about, there's a lot of initiatives that we have in place, but I can tell you, there's no stone that won't be turned to look for opportunity.

And I'll give you some examples, but just let me give you a few of those things that, maybe we don't think about in the course of day-to-day business. First of all, there is no finish line on headcount, and we've got to continue to look at innovating through the use of technology and eliminating headcount wherever we can, getting more people to do less work and do more through innovation, travel entertainment in this Company has to have to get reduced. You know, you talk about mobile devices that we have within this Company, and then, we look at the plans that we have on those mobile devices and the licenses and the software maintenance. These are huge charges to the organization, which we're taking a look at. We've talked to you about what we've done on TradeRev and how we reduce those losses.

We continue to look at every aspect of every one of our businesses, and there's a focus on taking that SG&A and by putting that target of 20% out there, whether I get there in 2020. I know I will be better at the end of 2020. And the metric, Bret that we're using is SG&A as a percent of total revenue, improving each quarter year-over-year. That's a metric that we're measuring and being building our team accountable for. So it's not dollars, it's percent, OK.

Bret Jordan -- Jefferies -- Analyst

Yeah, got that. And then one question, I might have missed this.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

And there is a correction, Jim. We want fewer people doing more work. I want to be clear in the transcript.

James P. Hallett -- Chairman and Chief Executive Officer

Yeah, I figured that. Yeah. How did I guess...

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

You said more people doing less work? And I thought that was an error.

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. My apologies, thank you for the correction.

Bret Jordan -- Jefferies -- Analyst

Yeah, one question on TradeRev. I think you threw out a target for the smaller loss. Did you put a volume target out there for TradeRev in '20?

James P. Hallett -- Chairman and Chief Executive Officer

We have a volume target on dealer consignment, and we don't have specific numbers applied to TradeRev. With that said, I do expect that the TradeRev volume will increase, but I'm not putting the volume number out there. It's total dealer consignment.

Bret Jordan -- Jefferies -- Analyst

All right. Thank you.

James P. Hallett -- Chairman and Chief Executive Officer

Welcome.

Operator

Thank you. Our final question comes from Stephanie Benjamin with SunTrust. Your line is now open.

Stephanie Benjamin -- SunTrust Robinson Humphrey -- Analyst

Hi, thank you. Thanks for squeezing me in. I'll keep it just kind of brief, if you could bucket, I know there is a lot on the call how you're going to grow dealer consignment in 2020. If you could maybe just consolidate that into, call it, maybe the two initiatives you think are going to be the key drivers of that growth just to kind of summarize, there is obviously a lot going on. So may be if you could just kind of put a bow around it, that would be helpful, just as we kind of sum everything up. Thank you.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Well, thanks for a shot of that, Stephanie. We've got two products in dealer consignment. We've got physical auctions and we've got TradeRev, and we've got a go-to-market strategy for both of those products with one point of contact, and bottom line is one dealer at a time with 450 sales reps out there. That's how we're going to grow that business. So, in summary, Stephanie, we have simplified our offering, but have the broadest offering in the industry for dealer-to-dealer consignment, but it's easy to understand, the pricing is easy to understand, simplified the offering, in total instead of segmenting the market into very confusing alternatives that you had to pick from. Right, Jim?

James P. Hallett -- Chairman and Chief Executive Officer

Yes.

Stephanie Benjamin -- SunTrust Robinson Humphrey -- Analyst

Got it. So within that, is it market share gains expected, I guess what's your view on the growth of the overall market as kind of also to fit that into the growth outlook?

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. So, as we look at the entire company, I think we look at both the commercial segments, and we'd look at the dealer consignment segments, and we believe there's market share gains in both of those segments. We believe that we can grow our commercial business through our online platforms, and through our use of data and analytics, and get more of those cars online, and get -- and especially sell more of those cars in the open sale for these commercial sellers, where the economics get much, much better as you know. And then getting more of those cars to physical auctions. So we believe we can gain share there.

We also believe that with our Better Together program, and that one point of contact that we talked about and our go-to-market strategy, we believe that we can increase our overall dealer consignment. And whether that comes to a physical auction or whether that comes through a TradeRev, sorry to repeat it, to reinforce it, whatever the dealer wants, we're going to provide that service, and we're going to grow that share of the dealer business as well as a commercial business.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

And Stephanie, these offerings, especially -- we offer, as one of our offerings a mobile opportunity or digital opportunity. We do believe we can expand the TAM of the dealer consignment marketplace for the wholesale industry. That 5 million units that have historically transacted outside the auction industry remains an important part of our target.

James P. Hallett -- Chairman and Chief Executive Officer

Yeah. And if I could add one thing to that, that might be noteworthy, Stephanie is, if you think about the dealer consignment market at physical auction today, our share of that market is 20%. And to me, that's a lot of go-get, there's a lot of opportunity to go get more than 20% of that market being one of the largest two players in the industry.

Stephanie Benjamin -- SunTrust Robinson Humphrey -- Analyst

Thank you. All really helpful, and I'll leave it at that.

James P. Hallett -- Chairman and Chief Executive Officer

Okay. Thank you, Stephanie.

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

Thank you, Stephanie.

Operator

Thank you. Ladies and gentlemen, this concludes our question-and-answer session. I would now like to turn the call back over to KAR's CEO, Jim Hallett for any closing remarks.

James P. Hallett -- Chairman and Chief Executive Officer

Thank you, Daniel, and I just want to say thank you to our investors for being on the call today. I appreciate your continued support and your continued interest in our company. I think that I've been very, very transparent that 2019 certainly had its difficulties and its challenges. I think we accept accountability for that. I think we have a very good path forward. We've defined what's really important to this company. We've defined the areas that we're going to focus on, and we're going to stay focused on those. We're not going to be chasing everything that comes at us. We're going to be focused on these five priorities. We're going to allocate money that support these five areas, and we are confident that we are going to deliver on the guidance that we have given you, and we're going to take it forward, and it's just not sheer optimism, but I think it's on good sound business planning. And I believe that we have got ourselves on the right track, and we look forward to reporting on our first quarter coming up here shortly.

So thank you for you being on the call, and we'll look forward to talking to you on our quarterly conference call. Have a great day.

Operator

[Operator Closing Remarks]

Duration: 66 minutes

Call participants:

Mike Eliason -- Treasurer and Vice President of Investor Relations

James P. Hallett -- Chairman and Chief Executive Officer

Eric Loughmiller -- Executive Vice President and Chief Financial Officer

John Murphy -- Bank of America Merrill Lynch -- Analyst

Bob Labick -- CJS Securities -- Analyst

Ryan Brinkman -- J.P. Morgan -- Analyst

Daniel Imbro -- Stephens Inc. -- Analyst

Derek Glynn -- Consumer Edge -- Analyst

Bret Jordan -- Jefferies -- Analyst

Stephanie Benjamin -- SunTrust Robinson Humphrey -- Analyst

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