COPART INC - 10-Q - MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

(Edgar Glimpses Via Acquire Media NewsEdge) This Quarterly Report on Form 10-Q, including the information incorporated by reference herein, contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the Securities Act), and Section 21E of the Securities Exchange Act of 1934, as amended, (the Exchange Act). All statements other than statements of historical facts are statements that could be deemed forward-looking statements. In some cases, you can identify forward-looking statements by terms such as "may," "will," "should," "expect," "plan," "intend," "forecast," "anticipate," "believe," "estimate," "predict," "potential," "continue" or the negative of these terms or other comparable terminology. The forward-looking statements contained in this Form 10-Q involve known and unknown risks, uncertainties and situations that may cause our or our industry's actual results, level of activity, performance or achievements to be materially different from any future results, levels of activity, performance or achievements expressed or implied by these statements. These forward-looking statements are made in reliance upon the safe harbor provision of the Private Securities Litigation Reform Act of 1995. These factors include those listed in Part I, Item 1A.-"Risk Factors" of this Form 10-Q and those discussed elsewhere in this Form 10-Q. We encourage investors to review these factors carefully together with the other matters referred to herein, as well as in the other documents we file with the Securities and Exchange Commission, or SEC. We may from time to time make additional written and oral forward-looking statements, including statements contained in our filings with the SEC. We do not undertake to update any forward-looking statement that may be made from time to time by us or on our behalf.

Although we believe that, based on information currently available to us and our management, the expectations reflected in the forward-looking statements are reasonable, we cannot guarantee future results, levels of activity, performance or achievements. You should not place undue reliance on these forward-looking statements. In addition, historical information should not be considered an indicator of future performance.

Overview We are a leading provider of online auctions and vehicle remarketing services in the United States (U.S.), Canada, the United Kingdom (U.K.), the United Arab Emirates (U.A.E.), Brazil and Germany.

We provide vehicle sellers with a full range of services to process and sell vehicles over the Internet through our Virtual Bidding Second Generation Internet auction-style sales technology, which we refer to as VB2. Vehicle sellers consist primarily of insurance companies, but also include banks and financial institutions, charities, car dealerships, fleet operators and vehicle rental companies. We then sell the vehicles principally to licensed vehicle dismantlers, rebuilders, repair licensees, used vehicle dealers and exporters and, at certain locations, to the general public. The majority of the vehicles sold on behalf of insurance companies are either damaged vehicles deemed a total loss or not economically repairable by the insurance companies or are recovered stolen vehicles for which an insurance settlement with the vehicle owner has already been made. We offer vehicle sellers a full range of services that expedite each stage of the vehicle sales process, minimize administrative and processing costs and maximize the ultimate sales price.

In the U.S. and Canada (North America), the U.A.E. and Brazil we sell vehicles primarily as an agent and derive revenue primarily from fees paid by vehicle sellers and vehicle buyers as well as related fees for services such as towing and storage.

16 -------------------------------------------------------------------------------- In the U.K., we operate both on a principal basis, purchasing the salvage vehicle outright from the insurance companies and reselling the vehicle for our own account, and as an agent. In Germany, we derive revenue from sales listing fees for listing vehicles on behalf of many German insurance companies.

Our revenues consist of sales transaction fees charged to vehicle sellers and vehicle buyers, transportation revenue, purchased vehicle revenues, and other remarketing services. Revenues from sellers are generally generated either on a fixed fee contract basis where we collect a fixed amount for selling each vehicle regardless of the selling price of the vehicle or, under our Percentage Incentive Program, or PIP, where our fees are generally based on a predetermined percentage of the vehicle sales price. Under the consignment, or fixed fee program, we generally charge an additional fee for title processing and special preparation. Although sometimes included in the consignment fee, we may also charge additional fees for the cost of transporting the vehicle to our facility, storage of the vehicle, and other incidental costs. Under the consignment programs, only the fees associated with vehicle processing are recorded in revenue, not the actual sales price (gross proceeds). Sales transaction fees also include fees charged to vehicle buyers for purchasing vehicles, storage, loading and annual registration. Transportation revenue includes charges to sellers for towing vehicles under certain contracts and towing charges assessed to buyers for delivering vehicles. Purchased vehicle revenue includes the gross sales price of the vehicle which we have purchased or are otherwise considered to own and is primarily generated in the U.K.

Operating costs consist primarily of operating personnel (which includes yard management, clerical and yard employees), rent, contract vehicle towing, insurance, fuel, equipment maintenance and repair, and costs of vehicles we sold under purchase contracts. Costs associated with general and administrative expenses consist primarily of executive management, accounting, data processing, sales personnel, human resources, professional fees, research and development and marketing expenses.

We converted all of our North American and U.K. sales to VB2 during fiscal 2004 and fiscal 2008, respectively. VB2 opens our sales process to registered buyers (whom we refer to as members) anywhere in the world who have Internet access.

This technology and model employs a two-step bidding process. The first step is an open preliminary bidding feature that allows a member to enter bids either at a bidding station at the storage facility or over the Internet during the preview. To improve the effectiveness of bidding, the VB2 system lets members see the current high bids on the vehicles they want to purchase. The preliminary bidding step is an open bid format similar to eBay®. Members enter the maximum price they are willing to pay for a vehicle and VB2's BID4U feature will incrementally bid on the vehicle on their behalf during all phases of the auction. Preliminary bidding ends one hour prior to the start of a second bidding step, an Internet-only virtual auction. This second step allows bidders the opportunity to bid against each other and the high preliminary bidder. The bidders enter bids via the Internet in real time while BID4U submits bids for the high preliminary bidder, up to their maximum bid. When bidding stops, a countdown is initiated. If no bids are received during the countdown, the vehicle sells to the highest bidder.

We believe the implementation of VB2 has increased the pool of available buyers for each sale, which has resulted in added competition and an increase in the amount buyers are willing to pay for vehicles. We also believe that it has improved the efficiency of our operations by eliminating the expense and capital requirements associated with live auctions.

Acquisitions and New Operations We have acquired eight facilities and established two new facilities since August 1, 2011 through January 31, 2013. All of these acquisitions have been accounted for using the purchase method of accounting.

As part of our overall expansion strategy of offering integrated services to vehicle sellers, we anticipate acquiring and developing facilities in new regions, as well as the regions currently served by our facilities. We believe that these acquisitions and openings strengthen our coverage as we have 162 facilities located in North America, the U.K., the U.A.E., and Brazil as of January 31, 2013 and are able to provide national coverage for our sellers.

The following table sets forth facilities that we have acquired or opened from August 1, 2011 through January 31, 2013: Acquisition Geographic Service Locations or Greenfield Date Area Atlanta, Georgia Greenfield August 2011 United States Edmonton, Canada Acquisition May 2012 Canada Calgary, Canada Acquisition May 2012 Canada Dubai, U.A.E. Acquisition August 2012 United Arab Emirates Webster, New Greenfield September 2012 United States Hampshire Embu, Brazil Acquisition November 2012 Brazil Pirapora, Brazil Acquisition November 2012 Brazil Osasco, Brazil Acquisition November 2012 Brazil Mapfre, Brazil Acquisition November 2012 Brazil Porto Seguro, Acquisition November 2012 Brazil Brazil The period-to-period comparability of our consolidated operating results and financial position is affected by business acquisitions, new openings, weather and product introductions during such periods. In particular, we have certain contracts 17 -------------------------------------------------------------------------------- inherited through our U.K. acquisitions that require us to act as a principal, purchasing vehicles from the insurance companies and reselling them for our own account. It is our intention, where possible, to migrate these contracts to the agency model in future periods. Changes in the amount of revenue derived in a period from principal transactions relative to total revenue will impact revenue growth and margin percentages.

In addition to growth through business acquisitions, we seek to increase revenues and profitability by, among other things, (i) acquiring and developing additional vehicle storage facilities in key markets; (ii) pursuing national and regional vehicle seller agreements; (iii) expanding our service offerings to sellers and members; and (iv) expanding the application of VB2 into new markets.

In addition, we implement our pricing structure and auction procedures and attempt to introduce cost efficiencies at each of our acquired facilities by implementing our operational procedures, integrating our management information systems and redeploying personnel, when necessary.

In November 2012, we acquired a salvage vehicle auction business in Brazil and an auction platform in Germany for total purchase price of $34.9 million.

Critical Accounting Policies and Estimates The preparation of condensed consolidated financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and the related disclosure of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to vehicle pooling costs, self-insured reserves, allowance for doubtful accounts, income taxes, revenue recognition, stock-based compensation, long-lived asset impairment calculations and contingencies. We base our estimates on historical experience and on various other assumptions that we believe are reasonable under the circumstances, the results of which form the basis for making judgments about the carrying value of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

Management has discussed the selection of critical accounting policies and estimates with the Audit Committee of the Board of Directors and the Audit Committee has reviewed our disclosure relating to critical accounting policies and estimates in this Quarterly Report on Form 10-Q. Our significant accounting policies are described in the Notes to Condensed Consolidated Financial Statements - Note 1. Description of Business and Summary of Significant Accounting Policies. The following is a summary of the more significant judgments and estimates included in our critical accounting policies used in the preparation of our condensed consolidated financial statements. We discuss, where appropriate, sensitivity to change based on other outcomes reasonably likely to occur.

Revenue Recognition We provide a portfolio of services to our sellers and buyers that facilitate the sale and delivery of a vehicle from seller to buyer. These services include the ability to use our Internet sales technology and vehicle delivery, loading, title processing, preparation and storage. We evaluate multiple-element arrangements relative to our member and seller agreements.

The services we provide to the seller of a vehicle involve disposing of a vehicle on the seller's behalf and, under most of our current North American contracts, collecting the proceeds from the member. Pre-sale services, including towing, title processing, preparation and storage, as well as sale fees and other enhancement service fees meet the criteria for separate units of accounting. The revenue associated with each service is recognized upon completion of the respective service, net of applicable rebates or allowances.

For certain sellers who are charged a proportionate fee based on high bid of the vehicle, the revenue associated with the pre-sale services are recognized upon completion of the sale when the total arrangement is fixed and determinable. The selling price of each service is determined based on management's best estimate and allotted based on the relative selling price method.

Vehicle sales, where vehicles are purchased and remarketed on our own behalf, are recognized on the sale date, which is typically the point of high bid acceptance. Upon high bid acceptance, a legal binding contract is formed with the member, and we record the gross sales price as revenue.

We also provide a number of services to the buyer of the vehicle, charging a separate fee for each service. Each of these services has been assessed to determine whether we have met the requirements to separate them into units of accounting within a multiple-element arrangement. We have concluded that the sale and the post-sale services are separate units of accounting.

The fees for sale services are recognized upon completion of the sale, and the fees for the post-sale services are recognized upon successful completion of those services using the relative selling price method.

We also charge members an annual registration fee for the right to participate in our vehicle sales program, which is recognized ratably over the term of the arrangement, and relist and late-payment fees, which are recognized upon receipt of payment by the member. No provision for returns has been established, as all sales are final with no right of return, although we provide for bad debt expense in the case of non-performance by our members or sellers.

18 -------------------------------------------------------------------------------- We allocate arrangement consideration based on the relative estimated selling prices of the separate units of accounting containing multiple deliverables.

Estimated selling prices are determined using management's best estimate.

Significant inputs in our estimates of the selling price of separate units of accounting include market and pricing trends, pricing customization and practices, and profit objectives for the services.

Fair Value of Financial Instruments We record our financial assets and liabilities at fair value in accordance with the framework for measuring fair value in generally accepted accounting principles. In accordance with ASC 820, Fair Value Measurements and Disclosures, as amended by Accounting Standards Update 2011-04, we consider fair value as an exit price, representing the amount that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants under current market conditions. This framework establishes a fair value hierarchy that prioritizes the inputs used to measure fair value: Level I Observable inputs that reflect unadjusted quoted prices for identical assets or liabilities traded in active markets.

Level II Inputs other than quoted prices included within Level I that are observable for the asset or liability, either directly or indirectly. Interest rate hedges are valued at exit prices obtained from the counter-party.

Level III Inputs that are generally unobservable. These inputs may be used with internally developed methodologies that result in management's best estimate.

The amounts recorded for financial instruments in our condensed consolidated financial statements, which included cash and cash equivalents, accounts receivable, accounts payable and accrued liabilities approximate their fair values as of January 31, 2013 and July 31, 2012, due to the short-term nature of those instruments, and are classified within Level II of the fair value hierarchy. Cash equivalents are classified within Level I of the fair value hierarchy because they are valued using quoted market prices. See Note 3.

Long-Term Debt for fair value disclosures related to our long-term debt.

Vehicle Pooling Costs We defer in vehicle pooling costs certain yard operation expenses associated with vehicles consigned to and received by us, but not sold as of the balance sheet date. We quantify the deferred costs using a calculation that includes the number of vehicles at our facilities at the beginning and end of the period, the number of vehicles sold during the period and an allocation of certain yard operation expenses of the period. The primary expenses allocated and deferred are certain facility costs, labor, and vehicle processing. If our allocation factors change, then yard operation expenses could increase or decrease correspondingly in the future. These costs are expensed as vehicles are sold in subsequent periods on an average cost basis. Given the fixed cost nature of our business there is not a direct correlation in an increase in expenses or units processed on vehicle pooling costs.

We apply the provisions of accounting guidance for subsequent measurement of inventory to our vehicle pooling costs. The provision requires that items such as idle facility expense, excessive spoilage, double freight and re-handling costs be recognized as current period charges regardless of whether they meet the criteria of "so abnormal" as provided in the guidance. In addition, the guidance requires that the allocation of fixed production overhead to the costs of conversion be based on the normal capacity of production facilities.

In early November 2012, Hurricane Sandy hit the Northeastern coast of the United States. As a result of the extensive flooding that it caused, we expended additional costs for i) temporary storage facilities, ii) premiums for subhaulers as they were reassigned from other regions, iii) labor costs incurred for overtime, travel and lodging due to the reassignment of employees to the affected region, and iv) equipment costs as additional loaders were leased to handle the increased volume. These costs, which are characterized as "abnormal" under ASC 330, Inventory, were expensed as incurred and not included in inventory. These costs, net of the associated revenues, generated a loss of $11.9 million during the quarter and had a negative after tax impact on diluted earnings per share in the quarter of $0.06. At the end of the quarter, over half of the incremental salvage vehicles received as a result of Hurricane Sandy remained unsold and in inventory. The Company expects the majority of these vehicles to be sold in the next quarter.

Derivatives and Hedging We have entered into two interest rate swaps to eliminate interest rate risk on our variable rate Term Loan, and the swaps are designated as effective cash flow hedges under ASC 815, Derivatives and Hedging, (see Note 4. Derivatives and Hedging). Each quarter, we measure hedge effectiveness using the "hypothetical derivative method" and record in earnings any hedge ineffectiveness with the effective portion of the hedges' change in fair value recorded in other comprehensive income or loss.

Capitalized Software Costs We capitalize system development costs and website development costs related to our enterprise computing services during the application development stage.

Costs related to preliminary project activities and post implementation activities are expensed as incurred. Internal-use software is amortized on a straight line basis over its estimated useful life, generally three years.

Management evaluates the useful lives of these assets on an annual basis and tests for impairment whenever events or changes 19 -------------------------------------------------------------------------------- in circumstances occur that could impact the recoverability of these assets.

Total capitalized software as of January 31, 2013 and July 31, 2012 was $61.3 million and $55.0 million, respectively. Accumulated amortization expense related to software for January 31, 2013 and July 31, 2012 totaled $23.7 million and $19.1 million, respectively.

Allowance for Doubtful Accounts We maintain an allowance for doubtful accounts in order to provide for estimated losses resulting from disputed amounts billed to sellers or members and the inability of our sellers or members to make required payments. If billing disputes exceed expectations and/or if the financial condition of our sellers or members were to deteriorate, additional allowances may be required. The allowance is calculated by taking both seller and buyer accounts receivables written off during the previous 12 month period as a percentage of the total accounts receivable balance, i.e. total write-offs/total accounts receivable (write-off percentage). We note that a one percentage point deviation in the write-off percentage would have resulted in an increase or decrease to the allowance for doubtful accounts balance of $1.8 million.

Valuation of Goodwill We evaluate the impairment of goodwill of our North America and U.K. operating segments annually (or on an interim basis if certain indicators are present) by comparing the fair value of the operating segment to its carrying value. Future adverse changes in market conditions or poor operating results of the operating segments could result in an inability to recover the carrying value of the investment, thereby requiring impairment charges in the future.

Income Taxes and Deferred Tax Assets We account for income tax exposures as required under ASC 740, Income Taxes. We are subject to income taxes in the U.S., Canada, the U.K., Brazil and Germany.

In arriving at a provision of income taxes, we first calculate taxes payable in accordance with the prevailing tax laws in the jurisdictions in which we operate; we then analyze the timing differences between the financial reporting and tax basis of our assets and liabilities, such as various accruals, depreciation and amortization. The tax effects of the timing difference are presented as deferred tax assets and liabilities in the condensed consolidated balance sheet. We assess the probability that the deferred tax assets will be realized based on our ability to generate future taxable income. In the event that it is more likely than not the full benefit would not be realized from the deferred tax assets we carry on our condensed consolidated balance sheet, we record a valuation allowance to reduce the carrying value of the deferred tax assets to the amount expected to be realized. As of January 31, 2013, we had approximately $1.2 million of valuation allowance arising from the state operating losses where we had discontinued certain operations in prior years and from capital losses in the U.S. and the U.K. To the extent we establish a valuation allowance or change the amount of valuation allowance in a period, we reflect the change with a corresponding increase or decrease in our income tax provision in the condensed consolidated statements of income.

Historically, our income taxes have been sufficiently provided to cover our actual income tax liabilities among the jurisdictions in which we operate.

Nonetheless, our future effective tax rate could still be adversely affected by several factors, including (i) the geographical allocation of our future earnings; (ii) the change in tax laws or our interpretation of tax laws; (iii) the changes in governing regulations and accounting principles; (iv) the changes in the valuation of our deferred tax assets and liabilities; and (v) the outcome of the income tax examinations. As a result, we routinely assess the possibilities of material changes resulting from the aforementioned factors to determine the adequacy of our income tax provision.

Based on our results for the six months ended January 31, 2013, a one percentage point change in our provision for income taxes as a percentage of income before taxes would have resulted in an increase or decrease in the provision of $1.3 million.

We apply the provision of ASC 740, which contains a two-step approach to recognizing and measuring uncertain tax positions. The first step is to evaluate the tax position for recognition by determining if the weight of available evidence indicates that it is more likely than not that the position will be sustained on audit, including resolution of related appeals or litigation processes, if any. The second step is to measure the tax benefit as the largest amount that is more than 50% likely of being realized upon settlement.

Although we believe we have adequately reserved for our uncertain tax positions, no assurance can be given that the final tax outcome of these matters will not be different. We adjust these reserves in light of changing facts and circumstances, such as the closing of a tax audit or the refinement of an estimate. To the extent that the final tax outcome of these matters is different than the amounts recorded, such differences will impact the provision for income taxes in the period in which such determination is made. The provision for income taxes includes the impact of reserve provisions and changes to reserves that are considered appropriate, as well as the related net interest settlement of any particular position, could require the use of cash. In addition, we are subject to the continuous examination of our income tax returns by various taxing authorities, including the Internal Revenue Service and U.S. states. We regularly assess the likelihood of adverse outcomes resulting from these examinations to determine the adequacy of our provision for income taxes.

20-------------------------------------------------------------------------------- Long-lived Asset Valuation, Including Intangible Assets We evaluate long-lived assets, including property and equipment and certain identifiable intangibles for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. Recoverability of assets is measured by comparing the carrying amount of an asset to the estimated undiscounted future cash flows expected to be generated by the use of the asset. If the estimated undiscounted cash flows change in the future, we may be required to reduce the carrying amount of an asset.

Stock-based Compensation We account for our stock-based awards to employees and non-employees using the fair value method. Compensation cost related to stock-based payment transactions are recognized based on the fair value of the equity or liability instruments issued. Determining the fair value of options using the Black-Scholes Merton option pricing model, or other currently accepted option valuation models, requires highly subjective assumptions, including future stock price volatility and expected time until exercise, which greatly affect the calculated fair value on the measurement date. If actual results are not consistent with our assumptions and judgments used in estimating the key assumptions, we may be required to record additional compensation or income tax expense, which could have a material impact on our consolidated results of operations and financial position.

Retained Insurance Liabilities We are partially self-insured for certain losses related to medical, general liability, workers' compensation and auto liability. Our insurance policies are subject to a $250,000 deductible per claim, with the exception of our medical policy which is $225,000 per claim. In addition, each of our policies contains an aggregate stop loss which limits our ultimate exposure. Our liability represents an estimate of the ultimate cost of claims incurred as of the balance sheet date. The estimated liability is not discounted and is established based upon analysis of historical data and actuarial estimates. The primary estimates used in the actuarial analysis include total payroll and revenue. Our estimates have not materially fluctuated from actual results. While we believe these estimates are reasonable based on the information currently available, if actual trends, including the severity of claims and medical cost inflation, differ from our estimates, our consolidated results of operations, financial position or cash flows could be impacted. The process of determining our insurance reserves requires estimates with various assumptions, each of which can positively or negatively impact those balances. The total amount reserved for all policies is $5.7 million as of January 31, 2013. If the total number of participants in the medical plan changed by 10% we estimate that our medical expense would change by $0.8 million and our medical accrual would change by $0.4 million. If our total payroll changed by 10% we estimate that our workers' compensation expense and our accrual for workers' compensation expenses would change by $0.1 million. A 10% change in revenue would change our insurance premium for the general liability and umbrella policy by less than $25,000.

Segment Reporting Our North American and U.K. regions are considered two separate operating segments, which have been aggregated into one reportable segment because they share similar economic characteristics. Our new operations in Brazil, Germany and U.A.E. are included within the U.K. operating segment as they are immaterial to our consolidated results of operations and financial position.

Recently Issued Accounting Standards For a description of the new accounting standards that affect us, refer to the Notes to Condensed Consolidated Financial Statements - Note 10. Recent Accounting Pronouncements.

Results of Operations Three Months Ended January 31, 2013 Compared to Three Months Ended January 31, 2012 Revenues. The following sets forth revenue by class of revenue (in thousands, except percentages): Percentage of Percentage of 2013 Revenue 2012 Revenue Service revenues $ 216,920 81 % $ 186,852 82 % Vehicle sales 49,265 19 % 41,052 18 % $ 266,185 100 % $ 227,904 100 % Service Revenues. Service revenues were $216.9 million during the three months ended January 31, 2013 compared to $186.9 million for the same period last year, an increase of $30.0 million, or 16.1%. Growth in unit volume generated $14.0 million in additional service revenue relative to last year and was driven primarily by incremental volumes received as a result of Hurricane Sandy as well as growth in the number of units sold on behalf of charities, franchise and independent car dealerships and from international acquisitions. Growth in the average revenue per car sold generated $15.6 million in additional revenue over last year. The higher revenue per car was driven primarily by the increase in the average selling price per vehicle in North 21 -------------------------------------------------------------------------------- America. In North America over 50% of our service revenue is tied in some manner to the ultimate selling price of the vehicle. We believe the increase in the average selling price was driven primarily by: (i) the year over year change in commodity pricing as we believe that commodity pricing, particularly the per ton price for crushed car bodies, has an impact on the ultimate selling price of vehicles sold for scrap and vehicles sold for dismantling and (ii) the general increase in used car pricing, which we believe has an impact on the average selling price of vehicles which are repaired and retailed or purchased by the end user. We cannot determine the impact of the movement of these influences as we cannot determine which vehicles are sold to the end user or for scrap, dismantling, retailing or export. Nor can we predict their future movement.

Accordingly, we cannot quantify the specific impact that commodity pricing and used car pricing had on the selling price of vehicles and ultimately on service revenue. The average GBP to USD exchange rate was 1.60 and 1.56 dollars to the pound for the three months ended January 31, 2013 and 2012, respectively, and led to an increase of $0.4 million.

Vehicle Sales. We have certain contracts, primarily in the U.K., that require us to act as a principal, purchasing vehicles from the insurance companies and reselling them for our own account. In North America, we purchase vehicles from individuals in open market transactions and resell them for our own account.

Vehicle sales revenues were $49.3 million during the three months ended January 31, 2013 compared to $41.1 million for the same period last year, an increase of $8.2 million, or 20.0%. The increase was due primarily to growth in unit volume driven primarily by increased purchase car activity in the U.K. The beneficial impact on recorded vehicle sales revenue due to the change in the GBP to USD exchange rate was less than $0.8 million.

Yard Operation Expenses. Yard operation expenses, excluding depreciation and amortization, were $116.5 million during the three months ended January 31, 2013 compared to $86.4 million for the same period last year. Compared to the same period last year, yard operation expense grew by $30.1 million, or 34.8%, and included $20.1 million of abnormal costs for temporary storage facilities, premiums for subhaulers, labor costs incurred from overtime, travel and lodging, and equipment costs associated with Hurricane Sandy. These costs do not include normal expenses associated with the increased unit volume created by the hurricane, which are deferred until the sale of the units and are recognized as vehicle pooling costs on the balance sheet. The balance of the increase was due to normal cost associated with the increase in the units processed in the quarter. There was a detrimental impact of $0.3 million on yard operating expenses due to the change in the GBP to USD exchange rate. At the end of the quarter, over half of the incremental salvage vehicles received as a result of Hurricane Sandy remained unsold and in inventory. We expect the majority of these vehicles to be sold in the next quarter.

Yard operation depreciation and amortization expenses were $10.7 million and $8.2 million for the three months ended January 31, 2013 and 2012, respectively.

The increase in yard operation depreciation and amortization expense is due primarily to accelerated depreciation from the shorter useful lives of our data center assets.

Cost of Vehicle Sales. The cost of vehicle sales were $42.2 million during the three months ended January 31, 2013 compared to $33.6 million for the same period last year, an increase of $8.6 million, or 25.6%. The growth was due to an increase in the cost of units sold and an increase in the total units sold, which resulted in increases of $2.4 million and $5.6 million, respectively. The detrimental impact on the cost of sales due to the change in the GBP to USD exchange rate was $0.6 million.

General and Administrative Expenses. General and administrative expenses, excluding impairment, depreciation and amortization, were $30.1 million for the three months ended January 31, 2013 compared to $23.4 million for the same period last year, an increase of $6.7 million or 28.6%. The growth was due primarily to i) the administrative infrastructure required by international operations as we expanded into Brazil, Germany and the U.A.E.; ii) the increase in technology and development costs as we develop new products, like our new mobile app; and iii) the incremental costs associated with the rollout of our new ERP system, which will allow us to operate worldwide on a common platform and provide scalability and functionality we currently do not have. The detrimental impact on general and administrative expenses due to the change in the GBP to USD exchange rate was less than $0.1 million. General and administrative depreciation and amortization expenses were $4.0 million for the three months ended January 31, 2013 and 2012, respectively.

Impairment. During the three months ended January 31, 2012, we recorded an impairment of $8.8 million associated with the write down to fair market value of certain assets, primarily real estate, computer hardware and its fleet of private aircraft which have been removed from operations and, if not disposed of, are reflected in assets held for sale on the balance sheet.

Other Income (Expense). Interest expense decreased by $0.5 million reflecting the principal payments on the outstanding term loan. Other income primarily includes the income from the rent of certain real property, foreign exchange rate gains and losses and gains and losses from the disposal of assets, and will fluctuate based on the nature of those activities during the period. Other income was $0.7 million and $1.6 million during the three months ended January 31, 2013 and 2012, respectively.

Income Taxes. Our effective income tax rates for the three months ended January 31, 2013 and 2012 were 35.1% and 34.7%, respectively. The change in tax rates was primarily driven by the geographical allocation of income and fluctuations in the U.S. state taxes.

Six Months Ended January 31, 2013 Compared to Six Months Ended January 31, 2012 Revenues. The following sets forth revenue by class of revenue (in thousands, except percentages): 22 -------------------------------------------------------------------------------- Percentage of Percentage of 2013 Revenue 2012 Revenue Service revenues $ 412,099 82 % $ 369,668 82 % Vehicle sales 92,952 18 % 83,862 18 % $ 505,051 100 % $ 453,530 100 % Service Revenues. Service revenues were $412.1 million during the six months ended January 31, 2013 compared to $369.7 million for the same period last year, an increase of $42.4 million, or 11.5%. Growth in unit volume generated $24.1 million in additional service revenue relative to last year and was driven primarily by incremental volumes received as a result of Hurricane Sandy as well as growth in the number of units sold on behalf of charities, franchise and independent car dealerships and from international acquisitions. Growth in the average revenue per car sold generated $17.9 million in additional revenue over last year. The higher revenue per car was driven primarily by the increase in the average selling price per vehicle in North America. In North America over 50% of our service revenue is tied in some manner to the ultimate selling price of the vehicle. We believe the increase in the average selling price was driven primarily by: (i) the year over year change in commodity pricing as we believe that commodity pricing, particularly the per ton price for crushed car bodies, has an impact on the ultimate selling price of vehicles sold for scrap and vehicles sold for dismantling and (ii) the general increase in used car pricing, which we believe has an impact on the average selling price of vehicles which are repaired and retailed or purchased by the end user. We cannot determine the impact of the movement of these influences as we cannot determine which vehicles are sold to the end user or for scrap, dismantling, retailing or export. Nor can we predict their future movement. Accordingly, we cannot quantify the specific impact that commodity pricing and used car pricing had on the selling price of vehicles and ultimately on service revenue. The average GBP to USD exchange rate was 1.60 and 1.58 dollars to the pound for the six months ended January 31, 2013 and 2012, respectively, and led to an increase of $0.4 million.

Vehicle Sales. We have certain contracts, primarily in the U.K., that require us to act as a principal, purchasing vehicles from the insurance companies and reselling them for our own account. In North America we purchase vehicles from individuals in open market transactions and resell them for our own account.

Vehicle sales revenues were $93.0 million during the six months ended January 31, 2013 compared to $83.9 million for the same period last year, an increase of $9.1 million, or 10.9%. The increase was due primarily to growth in unit volume driven primarily by increased purchase car activity in the U.K. The beneficial impact on recorded vehicle sales revenue due to the change in the GBP to USD exchange rate was $0.7 million.

Yard Operation Expenses. Yard operation expenses, excluding depreciation and amortization, were $204.5 million during the six months ended January 31, 2013 compared to $174.4 million for the same period last year. Compared to the same period last year, yard operation expense grew by $30.1 million, or 17.3%, and included $20.1 million of abnormal costs for temporary storage facilities, premiums for subhaulers, labor costs incurred from overtime, travel and lodging, and equipment costs associated with Hurricane Sandy. These costs do not include normal expenses associated with the increased unit volume created by the hurricane, which are deferred until the sale of the units and are recognized as vehicle pooling costs on the balance sheet. The balance of the increase was due to the normal cost associated with the increase in the units processed in the quarter. There was a detrimental impact on yard operating expenses due to the change in the GBP to USD exchange rate of $0.3 million. At the end of the quarter, over half of the incremental salvage vehicles received as a result of Hurricane Sandy remained unsold and in inventory. We expect the majority of these vehicles to be sold in the next quarter.

Included in yard operation costs were depreciation and amortization expenses which were $19.8 million and $16.4 million for the six months ended January 31, 2013 and 2012, respectively. The increase in yard operation depreciation and amortization expense is due primarily to accelerated depreciation from the shorter useful lives of our data center assets.

Cost of Vehicle Sales. The cost of vehicles sales were $78.5 million during the six months ended January 31, 2013 compared to $67.8 million for the same period last year, an increase of $10.7 million, or 15.8%. The growth was due to an increase in the total units sold and an increase in the cost of units sold, which resulted in increases of $9.5 million and $0.6 million, respectively. The detrimental impact on the cost of sales due to the change in the GBP to USD exchange rate was $0.6 million.

General and Administrative Expenses. General and administrative expenses, excluding impairment, depreciation and amortization, were $57.4 million for the six months ended January 31, 2013 compared to $49.4 million for the same period last year, an increase of $8.0 million, or 16.2%. The growth was due primarily to i) the administrative infrastructure required by international operations as we expanded into Brazil, Germany and the U.A.E.; ii) the increase in technology and development costs as we develop new products, like our new mobile app; and iii) the incremental costs associated with the rollout of our new ERP system, which will allow us to operate worldwide on a common platform and provide scalability and functionality we currently do not have. The detrimental impact on general and administrative expenses due to the change in the GBP to USD exchange rate was less than $0.1 million. General and administrative depreciation and amortization expenses were $7.7 million and $7.9 million for the six months ended January 31, 2013 and 2012, respectively.

Impairment. During the six months ended January 31, 2012, we recorded an impairment of $8.8 million associated with the write down to fair market value of certain assets, primarily real estate, computer hardware and its fleet of private aircraft which have been removed from operations and, if not disposed of, are reflected in assets held for sale on the balance sheet.

23 -------------------------------------------------------------------------------- Other (Expense) Income. Other (expense) income primarily includes the income from the rent of certain real property, foreign exchange rate gains and losses and gains and losses from the disposal of assets, and will fluctuate based on the nature of those activities during the period. Other income was $0.5 million and $2.2 million during the six months ended January 31, 2013 and 2012, respectively.

Income Taxes. Our effective income tax rates for the six months ended January 31, 2013 and 2012 were 35.6% and 35.1%, respectively. The change in the overall tax rate was driven by fluctuations in the U.S. state taxes and the geographical allocation of our taxable income.

Liquidity and Capital Resources Our primary source of working capital is net income. Accordingly, factors affecting net income are the principal factors affecting the generation of working capital. Those primary factors: (i) seasonality; (ii) market wins and losses; (iii) supplier mix; (iv) accident frequency; (v) salvage frequency; (vi) change in market share of our existing suppliers; (vii) commodity pricing; (viii) used car pricing; (ix) foreign currency exchange rates; (x) product mix; and (xi) contract mix to the extent appropriate, are discussed in the Results of Operations and Risk Factors sections of this Quarterly Report on Form 10-Q.

Potential internal sources of additional working capital are the sale of assets or the issuance of equity through option exercises and shares issued under our Employee Stock Purchase Plan. A potential external source of additional working capital is the issuance of debt and equity. However, with respect to the issuance of equity or debt, we cannot predict if these sources will be available in the future and, if available, if they can be issued under terms commercially acceptable to us.

Historically, we have financed our growth through cash generated from operations, public offerings of common stock, the equity issued in conjunction with certain acquisitions and debt financing. Our primary source of cash generated by operations is from the collection of sellers' fees, members' fees and reimbursable advances from the proceeds of vehicle sales. Our business is seasonal as inclement weather during the winter months increases the frequency of accidents and, consequently, the number of cars deemed as totaled by the insurance companies. During the winter months, most of our facilities process 10% to 30% more vehicles than at other times of the year. This increased volume requires the increased use of our cash to pay out advances and handling costs of the additional business.

As of January 31, 2013, we had working capital of $99.1 million, including cash and cash equivalents of $49.5 million. Cash equivalents consisted of bank deposits and funds invested in money market accounts, which bear interest at a variable rate. Cash and cash equivalents decreased by $90.6 million from July 31, 2012 to January 31, 2013 due primarily to cash used for acquisitions and a $59.8 million increase in accounts receivable related primarily to Hurricane Sandy.

We believe that our currently available cash and cash equivalents and cash generated from operations will be sufficient to satisfy our operating and working capital requirements for at least the next 12 months. However, if we experience significant growth in the future, we may be required to raise additional cash through the issuance of new debt or additional equity.

As of January 31, 2013, $21.7 million of the $49.5 million of cash and cash equivalents was held by our foreign subsidiaries. If these funds are needed for our operations in the U.S., we would be required to accrue and pay U.S. taxes to repatriate these funds. However, our intent is to permanently reinvest these funds outside of the U.S. and our current plans do not demonstrate a need to repatriate them to fund our U.S. operations.

Operating Activities Net cash provided by operating activities decreased by $37.3 million to $53.1 million during the six months ended January 31, 2013, when compared to the six months ended January 31, 2012, due to changes in operating assets and liabilities and a $3.7 million increase in net income. In particular, we experienced significant increases in its accounts receivables, vehicle pooling costs and inventories as a result of Hurricane Sandy related transactions and volumes.

Investing Activities Net cash used in investing activities increased by $100.8 million to $115.1 million during the six months ended January 31, 2013, when compared to the six months ended January 31, 2012. The $70.8 million increase in capital expenditures was due primarily to land acquisitions during the quarter. The $31.1 million increase in purchase of assets and liabilities in connection with acquisitions relates primarily to our acquisitions in Brazil and Germany.

Financing Activities Net cash used in financing activities increased by $8.4 million to $29.4 million during the six months ended January 31, 2013, when compared to the same period in the prior year principally due to higher debt principle repayments totaling $18.8 million (See Note 3. Long-Term Debt). In 2012, we received $125.0 million of cash from long-term debt during the six months ended January 31, 2012, which was used to repurchase $135.4 million of outstanding common stock which did not recur in the current period (See Note 8. Common Stock Repurchases).

Credit Facility 24 -------------------------------------------------------------------------------- On December 14, 2010, we entered into an Amended and Restated Credit Facility Agreement (Credit Facility), which supersedes our previously disclosed credit agreement with Bank of America, N.A. (Bank of America). The Credit Facility is an unsecured credit agreement providing for (i) a $100.0 million revolving credit facility, including a $100.0 million alternative currency borrowing sublimit and a $50.0 million letter of credit sublimit (Revolving Credit) and (ii) a term loan facility of $400.0 million (Term Loan). On January 14, 2011, the full $400.0 million provided under the Term Loan was borrowed. On September 29, 2011, we amended the credit agreement increasing the amount of the Term Loan facility from $400.0 million to $500.0 million. In March 2013, we amended the credit agreement to increase the net leverage ratio at which restrictive spending covenants are introduced from 1:1 to 1.5:1.

The Term Loan, which at January 31, 2013 had $406.3 million outstanding, amortizes $18.8 million each quarter beginning December 31, 2011, with all outstanding borrowings due on December 14, 2015. All amounts borrowed under the Term Loan may be prepaid without premium or penalty.

Amounts borrowed under the Credit Facility bear interest, subject to certain restrictions, at a fluctuating rate based on (i) the Eurocurrency Rate; (ii) the Federal Funds Rate; or (iii) the Prime Rate as described in the Credit Facility.

We have entered into two interest rate swaps (see Note 4. Derivatives and Hedging) to exchange our variable interest rate payments commitment for fixed interest rate payments on the Term Loan balance, which at January 31, 2013 totaled $406.3 million. A default interest rate applies on all obligations during an event of default under the credit facility, at a rate per annum equal to 2.0% above the otherwise applicable interest rate. Our interest rate at January 31, 2013 is the 0.21% Eurocurrency Rate plus the 1.5% Applicable Rate.

The Applicable Rate can fluctuate between 1.5% and 2.0% depending on our consolidated net leverage ratio (as defined in the Credit Facility). The Credit Facility is guaranteed by our material domestic subsidiaries. The carrying amount of the Credit Facility is comprised of borrowing under which interest accrues under a fluctuating interest rate structure. Accordingly, the carrying value approximates fair value at January 31, 2013 and is classified within Level II of the fair value hierarchy.

Amounts borrowed under the Revolving Credit may be repaid and reborrowed until the maturity date, which is December 14, 2015. The Credit Facility requires us to pay a commitment fee on the unused portion of the Revolving Credit. The commitment fee ranges from 0.075% to 0.125% per annum depending on our leverage ratio. We had no outstanding borrowings under the Revolving Credit at the end of the period.

The Credit Facility contains customary representations and warranties and may place certain business operating restrictions on us relating to, among other things, indebtedness, liens and other encumbrances, investments, mergers and acquisitions, asset sales, dividends and distributions and redemptions of capital stock. In addition, the Credit Facility provides for the following financial covenants: (i) earnings before income tax, depreciation and amortization (EBITDA); (ii) leverage ratio; (iii) interest coverage ratio; and (iv) limitations on capital expenditures. The Credit Facility contains events of default that include, among others, non-payment of principal, interest or fees, violation of covenants, inaccuracy of representations and warranties, cross-defaults to certain other indebtedness, bankruptcy and insolvency defaults, material judgments, invalidity of the loan documents and events constituting a change of control. We are in compliance with all covenants as of January 31, 2013.

Off-Balance Sheet Arrangements As of January 31, 2013, we did not have any off-balance sheet arrangements as defined in Item 303(a)(4) of Regulation S-K promulgated under the Exchange Act.

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