**UNITED STATESSECURITIES AND EXCHANGE COMMISSION**

**Washington,D.C. 20549**

 

**FORM 10-Q**

 

**QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THESECURITIES EXCHANGE ACT OF 1934**

 

**For thequarterly period ended September 30, 2004**

 

**CommissionFile Number****001-32198**

 

----

 

**ADESA, Inc.**

(Exact name ofRegistrant as specified in its charter)

 

| **Delaware**                                                                 | ** ** | **35-1842546**                        |
|------------------------------------------------------------------------------|------------|---------------------------------------|
| (State or other  jurisdiction of  incorporation or organization)             |       | (I.R.S. Employer  Identification No.) |
|                                                                         |       |                                  |
| **13085  Hamilton Crossing Boulevard  Carmel, Indiana 46032**                |
| (Address of  principal executive offices)                                    |
|                                                                         |
| Registrant’s  telephone number, including area code: **(800) 923-3725** |

 

----

 

Indicate by check markwhether the Registrant (1) has filed all reports required to be filed bySection 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding12 months (or for such shorter period that the Registrant was required to filesuch reports), and (2) has been subject to such filing requirements for thepast 90 days.

 

Yes ýNo o

 

Indicate by check markwhether the registrant is an accelerated filer (as defined in Rule 12b-2 of theExchange Act).

 

Yes oNo ý

 

The number of shares ofcommon stock outstanding as of November 3, 2004:

 

| **Class** | ** ** | **Number of Shares Outstanding** | ** ** |
|-----------|------------|----------------------------------|------------|
| Common    |       | 91,668,311                       |       |

 

 

----

 

**Index**

 
| PART I- -FINANCIAL INFORMATION                                                                 |         |
|-----------------------------------------------------------------------------------------------------|--------------|
| **Item 1. Financial  Statements**                                                                   | ** **   |
| ***Consolidated  Statements of Income***                                                            | *** *** |
| Consolidated Balance Sheets                                                                         |         |
| Consolidated  Statements of Stockholders’ Equity                                               |         |
| Consolidated  Statements of Cash Flows                                                              |         |
| Notes to  Consolidated Financial Statements                                                         |         |
|                                                                                                |         |
| Item 2. Management’s Discussion  and Analysis of Financial Condition and Results of Operations |         |
|                                                                                                |         |
| Item  3. Quantitative and Qualitative Disclosures About Market Risk                                 |         |
|                                                                                                |         |
| Item 4. Controls and  Procedures                                                                    |         |
|                                                                                                |         |
| PART II- -OTHER INFORMATION                                                                    |         |
| **Item 1. Legal Proceedings**                                                                       | ** **   |
| ** **                                                                                          | ** **   |
| Item  2. Unregistered Sales of Equity Securities and Use of Proceeds                                |         |
|                                                                                                |         |
| Item 6. Exhibits                                                                                    |         |
|                                                                                                |         |
| Signatures                                                                                          |         |
|                                                                                                |         |
| Exhibits                                                                                            |         |

 

2

----

 

**PART I**

**FINANCIAL INFORMATION**

 

**Item 1.  FinancialStatements**

 

**ADESA, Inc.**

***Consolidated Statements of Income***

*(Inmillions, except per share data)*

*(unaudited)*

 
| ** **                                                       | ** ** | **Three Months Ended  September 30,** |       | **Nine Months Ended  September 30,** | ** ** |
|------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                       | ** ** | **2004**                                   | ** ** | **2003**                                  |       | **2004** | ** ** | **2003** | ** ** |
| Operating  revenues                                              | ** ** | ** **                                 | ** ** | ** **                                |       | ** ** | ** ** | ** ** | ** ** |
| Auction and  related services                                    | ** ** | **$**                                      | **200.2**  | ** **                                | $          | 199.1 |   | **$** | **621.2** | ** ** | $ | 616.0 |   |
| Dealer financing                                                 | ** ** | **28.3**                                   | ** ** | 25.4                                      |       | **85.6** | ** ** | 78.1 |   |
| Total operating  revenues                                        | ** ** | **228.5**                                  | ** ** | 224.5                                     |       | **706.8** | ** ** | 694.1 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Operating  expenses                                              |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Cost of services                                                 | ** ** | **113.0**                                  | ** ** | 113.9                                     |       | **348.1** | ** ** | 356.9 |   |
| Selling, general  and administrative                             | ** ** | **50.4**                                   | ** ** | 49.6                                      |       | **159.7** | ** ** | 152.2 |   |
| Depreciation and  amortization                                   | ** ** | **8.6**                                    | ** ** | 8.6                                       |       | **26.7** | ** ** | 25.6 |   |
| Total operating  expenses                                        | ** ** | **172.0**                                  | ** ** | 172.1                                     |       | **534.5** | ** ** | 534.7 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Operating profit                                                 | ** ** | **56.5**                                   | ** ** | 52.4                                      |       | **172.3** | ** ** | 159.4 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Interest expense                                                 | ** ** | **8.7**                                    | ** ** | 4.0                                       |       | **17.4** | ** ** | 12.1 |   |
| Other income                                                     | ** ** | **(1.8**                                   | **)**      | (0.6                                      | )          | **(3.2** | **)** | (2.7 | ) |
| Loss on  extinguishment of debt                                  | ** ** | **14.0**                                   | ** ** | —                                    |       | **14.0** | ** ** | — |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Income from  continuing operations before income taxes           | ** ** | **35.6**                                   | ** ** | 49.0                                      |       | **144.1** | ** ** | 150.0 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Income taxes                                                     | ** ** | **14.0**                                   | ** ** | 19.8                                      |       | **56.6** | ** ** | 60.1 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Income from  continuing operations                               | ** ** | **21.6**                                   | ** ** | 29.2                                      |       | **87.5** | ** ** | 89.9 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| (Loss) income  from discontinued operations, net of income taxes | ** ** | **(0.1**                                   | **)**      | (0.2                                      | )          | **(4.1** | **)** | 0.3 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Net income                                                       | ** ** | **$**                                      | **21.5**   | ** **                                | $          | 29.0 |   | **$** | **83.4** | ** ** | $ | 90.2 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Earnings per  share—basic                                   |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Income from  continuing operations                               | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.96** | ** ** | $ | 1.02 |   |
| (Loss) income  from discontinued operations, net of income taxes | ** ** | **—**                                 | ** ** | —                                    |       | **(0.04** | **)** | — |   |
| Net income                                                       | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.92** | ** ** | $ | 1.02 |   |
|                                                             |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Earnings per  share—diluted                                 |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Income from  continuing operations                               | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.96** | ** ** | $ | 1.02 |   |
| (Loss) income  from discontinued operations, net of income taxes | ** ** | **—**                                 | ** ** | —                                    |       | **(0.04** | **)** | — |   |
| Net income                                                       | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.92** | ** ** | $ | 1.02 |   |

 

See notes toconsolidated financial statements

 

3

----

 

**ADESA, Inc.**

**ConsolidatedBalance Sheets**

*(In millions,except share data)*

 
| ** **                                                                                       | ** ** | **September 30,  2004** | ** **  | **December 31,  2003** | ** ** |
|--------------------------------------------------------------------------------------------------|------------|------------------------------|-------------|------------------------|------------|
| ** **                                                                                       | ** ** | **(unaudited)**              | ** **  | ** **             | ** ** |
| ***Assets***                                                                                     |       |                         |        |                   |       |
| ***Current assets***                                                                             |       |                         |        |                   |       |
| Cash and cash equivalents                                                                        | ** ** | **$**                        | **405.5**   |                   | $          | 112.7 |   |
| Restricted cash                                                                                  | ** ** | **14.3**                     |        | 3.4                    |       |
| Trade receivables, net of allowances of $8.7 (2004) and  $7.0 (2003)                        | ** ** | **276.0**                    |        | 151.5                  |       |
| Finance receivables, net of allowances of $5.6 (2004) and  $5.0 (2003)                      | ** ** | **245.9**                    |        | 194.3                  |       |
| Deferred income taxes                                                                            | ** ** | **19.8**                     |        | 15.9                   |       |
| Other current assets                                                                             | ** ** | **15.3**                     |        | 13.0                   |       |
| Current assets of discontinued operations                                                        | ** ** | **—**                   |        | 0.1                    |       |
| Total current assets                                                                             | ** ** | **976.8**                    |        | 490.9                  |       |
|                                                                                             |       |                         |        |                   |       |
| ***Other assets***                                                                               |       |                         |        |                   |       |
| Goodwill                                                                                         | ** ** | **512.2**                    |        | 511.0                  |       |
| Intangible assets, net of allowances of $34.0 (2004) and  $30.1 (2003)                      | ** ** | **31.3**                     |        | 33.3                   |       |
| Other assets                                                                                     | ** ** | **59.5**                     |        | 50.2                   |       |
| Total other assets                                                                               | ** ** | **603.0**                    |        | 594.5                  |       |
|                                                                                             |       |                         |        |                   |       |
| Property and equipment, net of accumulated depreciation of  $122.6 (2004) and $102.9 (2003) | ** ** | **564.8**                    |        | 569.9                  |       |
|                                                                                             |       |                         |        |                   |       |
| Total assets                                                                                     | ** ** | **$**                        | **2,144.6** |                   | $          | 1,655.3 |   |

 

See notes toconsolidated financial statements

 

4

----

 

**ADESA, Inc.**

**Consolidated Balance Sheets**

*(Inmillions, except share data)*

 
| ** **                                          | ** **        | **September 30,  2004** | ** **  | **December 31,  2003** | ** ** |
|-----------------------------------------------------|-------------------|------------------------------|-------------|------------------------|------------|
| ** **                                          | ** **        | **(unaudited)**              | ** **  | ** **             | ** ** |
| **Liabilities and Stockholders’ Equity**       |              |                         |        |                   |       |
| ***Current liabilities***                           |              |                         | ** **  |                   |       |
| Accounts payable                                    | ** **        | **$**                        | **394.6**   | ** **             | $          | 216.3 |   |
| Accrued expenses                                    | ** **        | **97.4**                     | ** **  | 82.1                   |       |
| Current maturities of debt with affiliates          | ** **        | **—**                   | ** **  | 133.8                  |       |
| Current maturities of long-term debt                | ** **        | **37.1**                     | ** **  | 1.9                    |       |
| Current liabilities of discontinued operations      | ** **        | **6.3**                      | ** **  | —                 |       |
| Total current liabilities                           | ** **        | **535.4**                    | ** **  | 434.1                  |       |
|                                                |              |                         | ** **  |                   |       |
| ***Non-current liabilities***                       |              |                         | ** **  |                   |       |
| Long-term debt                                      | ** **        | **488.3**                    | ** **  | 232.9                  |       |
| Long-term debt with affiliates                      | ** **        | **—**                   | ** **  | 2.3                    |       |
| Deferred tax liabilities                            | ** **        | **40.3**                     | ** **  | 29.7                   |       |
| Other liabilities                                   | ** **        | **10.9**                     | ** **  | 6.1                    |       |
| Total non-current liabilities                       | ** **        | **539.5**                    | ** **  | 271.0                  |       |
|                                                |              |                         | ** **  |                   |       |
| Commitments and contingencies (Note 13)             | ** **        | **—**                   | ** **  | —                 |       |
|                                                |              |                         | ** **  |                   |       |
| ***Stockholders’ equity***                     |              |                         | ** **  |                   |       |
| Preferred stock, $0.01 par value:                   | ** **        | ** **                   | ** **  |                   |       |
| Authorized  shares: 50,000,000  Issued shares: none | ** **        | **—**                   | ** **  | —                 |       |
| Common stock, $0.01 par value:                      | ** **        | ** **                   | ** **  |                   |       |
| Authorized shares: 500,000,000                      | ** **        | ** **                   | ** **  |                   |       |
| Issued shares:                                      | 94,863,853 (2004) | ** **                   | ** **  | ** **             |       |   |
|                                                | 88,600,000 (2003) | ** **                   | **1.0**     | ** **             | 0.9        |   |
| Additional paid-in capital                          | ** **        | **676.0**                    | ** **  | 524.5                  |       |
| Retained earnings                                   | ** **        | **367.2**                    | ** **  | 401.3                  |       |
| Unearned compensation                               | ** **        | **(4.0**                     | **)**       | —                 |       |
| Accumulated other comprehensive income              | ** **        | **29.5**                     | ** **  | 23.5                   |       |
| Total stockholders’ equity                     | ** **        | **1,069.7**                  | ** **  | 950.2                  |       |
|                                                |              |                         | ** **  |                   |       |
| Total liabilities and stockholders’ equity     | ** **        | **$**                        | **2,144.6** | ** **             | $          | 1,655.3 |   |

 

See notes toconsolidated financial statements

 

5

----

 

**ADESA, Inc.**

**Consolidated Statements of Stockholders’ Equity**

*(In millions)*

 
| ** **                                       | ** ** | **Common  Stock  Shares** | ** ** | **Common  Stock  Amount** | ** ** | **Additional  Paid-In  Capital** | ** ** | **Retained  Earnings** | ** ** | **Unearned  Compensation** | ** ** | **Accumulated  Other  Comprehensive  Income (Loss)** | ** ** | **Total** | ** ** |
|--------------------------------------------------|------------|---------------------------|------------|---------------------------|------------|----------------------------------|------------|------------------------|------------|----------------------------|------------|------------------------------------------------------|------------|-----------|------------|
|                                             |       |                      |       |                      |       |                             |       |                   |       |                       |       |                                                 |       |      |       |
| Balance at  December 31, 2003                    |       | 88.6                      |       | $                         | 0.9        |                             | $          | 524.5                  |       | $                          | 401.3      |                                                 | $          | —    |       | $ | 23.5 |   | $ | 950.2 |   |
|                                             |       |                      |       |                      |       |                             |       |                   |       |                       |       |                                                 |       |      |       |
| Comprehensive  income:                           |       |                      |       |                      |       |                             |       |                   |       |                       |       |                                                 |       |      |       |
| Net income                                       |       |                      |       |                      |       |                             |       | 83.4                   |       |                       |       |                                                 |       | 83.4      |       |
| Other  comprehensive income, net of tax:         |       |                      |       |                      |       |                             |       |                   |       |                       |       |                                                 |       |      |       |
| Foreign currency  translation                    |       |                      |       |                      |       |                             |       |                   |       |                       |       | 6.9                                                  |       |      |       |
| Unrealized loss  on interest rate swaps          |       |                      |       |                      |       |                             |       |                   |       |                       |       | (0.9                                                 | )          |      |       |
| Other  comprehensive income                      |       |                      |       |                      |       |                             |       |                   |       |                       |       |                                                 |       | 6.0       |       |
| Comprehensive  income                            |       |                      |       |                      |       |                             |       |                   |       |                       |       |                                                 |       | 89.4      |       |
| Issuance of  common stock                        |       | 6.3                       |       | 0.1                       |       | 135.9                            |       |                   |       |                       |       |                                                 |       | 136.0     |       |
| Capital  contributions                           |       |                      |       |                      |       | 6.8                              |       |                   |       |                       |       |                                                 |       | 6.8       |       |
| Tax benefits  from employee stock plans          |       |                      |       |                      |       | 1.3                              |       |                   |       |                       |       |                                                 |       | 1.3       |       |
| Dividends paid  to ALLETE                        |       |                      |       |                      |       |                             |       | (117.5                 | )          |                       |       |                                                 |       | (117.5    | )          |
| Unearned  compensation                           |       |                      |       |                      |       | 7.5                              |       |                   |       | (4.0                       | )          |                                                 |       | 3.5       |       |
|                                             |       |                      |       |                      |       |                             |       |                   |       |                       |       |                                                 |       |      |       |
| Balance at September 30,  2004*(unaudited)* |       | 94.9                      |       | $                         | 1.0        |                             | $          | 676.0                  |       | $                          | 367.2      |                                                 | $          | (4.0      | )          | $ | 29.5 |   | $ | 1,069.7 |   |

 

See notes toconsolidated financial statements

 

6

----

 

**ADESA, Inc.**

**Consolidated Statements of Cash Flows**

*(Inmillions)*

*(unaudited)*

 
| ** **                                                                             | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                             | ** ** | **2004**                                  | ** ** | **2003** | ** ** |
| **Operating  activities**                                                              |       |                                      | ** ** |   |   |
| Net income                                                                             | ** ** | **$**                                     | **83.4**   | ** ** | $ | 90.2 |   |
| **Adjustments  to reconcile net income to net cash provided by operating activities:** |       |                                      | ** ** |   |   |
| Depreciation and  amortization                                                         | ** ** | **26.7**                                  | ** ** | 25.6 |   |
| Bad debt expense                                                                       | ** ** | **4.0**                                   | ** ** | 3.7 |   |
| Deferred income  taxes                                                                 | ** ** | **7.4**                                   | ** ** | 9.0 |   |
| Gain on disposal  of assets                                                            | ** ** | **(0.8**                                  | **)**      | (0.1 | ) |
| Compensation  earned under restricted stock                                            | ** ** | **0.6**                                   | ** ** | — |   |
| Other non-cash                                                                         | ** ** | **0.6**                                   | ** ** | — |   |
| ** **                                                                             |       | **121.9**                                 | ** ** | 128.4 |   |
| **Changes  in operating assets and liabilities, net of acquisitions:**                 |       |                                      | ** ** |   |   |
| Finance  receivables                                                                   | ** ** | **(51.6**                                 | **)**      | 1.2 |   |
| Trade  receivables and other assets                                                    | ** ** | **(137.4**                                | **)**      | (124.9 | ) |
| Accounts payable  and accrued expenses                                                 | ** ** | **162.7**                                 | ** ** | 99.7 |   |
| **Net  cash provided by operating activities**                                         | ** ** | **95.6**                                  | ** ** | 104.4 |   |
|                                                                                   |       |                                      | ** ** |   |   |
| **Investing  activities**                                                              |       |                                      | ** ** |   |   |
| Acquisition of  business, net of cash acquired                                         | ** ** | **—**                                | ** ** | (1.5 | ) |
| Purchases of  property and equipment                                                   | ** ** | **(8.8**                                  | **)**      | (15.8 | ) |
| Purchase of  intangibles                                                               | ** ** | **(4.3**                                  | **)**      | (3.4 | ) |
| Proceeds from  the sale of property and equipment                                      | ** ** | **10.1**                                  | ** ** | 0.1 |   |
| Proceeds from  the sale of intangibles                                                 | ** ** | **0.3**                                   | ** ** | — |   |
| Purchase of  bonds                                                                     | ** ** | **—**                                | ** ** | (10.1 | ) |
| **Net  cash used for investing activities**                                            | ** ** | **(2.7**                                  | **)**      | (30.7 | ) |
|                                                                                   |       |                                      | ** ** |   |   |
| **Financing  activities**                                                              |       |                                      | ** ** |   |   |
| Net increase in  book overdrafts                                                       | ** ** | **47.2**                                  | ** ** | 67.5 |   |
| Net decrease in  lines of credit                                                       | ** ** | **(45.8**                                 | **)**      | (107.7 | ) |
| Payments on  long-term debt                                                            | ** ** | **(299.8**                                | **)**      | (22.5 | ) |
| Proceeds from  long-term debt                                                          | ** ** | **500.0**                                 | ** ** | — |   |
| Payments for  debt issuance costs                                                      | ** ** | **(9.9**                                  | **)**      | — |   |
| Net proceeds  from issuance of common stock                                            | ** ** | **136.0**                                 | ** ** | — |   |
| Dividends to  ALLETE                                                                   | ** ** | **(117.5**                                | **)**      | — |   |
| Capital  contributions from ALLETE                                                     | ** ** | **—**                                | ** ** | 4.0 |   |
| Transfer to  restricted cash                                                           | ** ** | **(10.9**                                 | **)**      | — |   |
| **Net  cash provided by (used for) financing activities**                              | ** ** | **199.3**                                 | ** ** | (58.7 | ) |
|                                                                                   |       |                                      | ** ** |   |   |
| Effect of  exchange rate changes on cash                                               | ** ** | **0.6**                                   | ** ** | 4.9 |   |
|                                                                                   |       |                                      | ** ** |   |   |
| **Net  increase in cash and cash equivalents**                                         | ** ** | **292.8**                                 | ** ** | 19.9 |   |
| Cash and cash  equivalents at beginning of period                                      | ** ** | **112.7**                                 | ** ** | 128.8 |   |
| Cash and cash  equivalents at end of period                                            | ** ** | **$**                                     | **405.5**  | ** ** | $ | 148.7 |   |
|                                                                                   |       |                                      | ** ** |   |   |
| **Non-cash  activities**                                                               |       |                                      | ** ** |   |   |
| Capital  contributions from ALLETE                                                     | ** ** | **$**                                     | **6.8**    | ** ** | $ | 1.6 |   |
| Tracy facility  debt arrangement                                                       | ** ** | **—**                                | ** ** | 45.0 |   |
| Boston,  Charlotte, Knoxville facility debt arrangement                                | ** ** | **—**                                | ** ** | 28.4 |   |

 

See notes toconsolidated financial statements

 

7

----

 

**ADESA, Inc.**

**Notes to Consolidated FinancialStatements**

 

**Note 1 – Basis of Presentation**

 

The accompanyingunaudited consolidated financial statements have been prepared in accordancewith generally accepted accounting principles for interim financial informationand with the instructions to Form 10-Q and Article 10 of Regulation S-X.  Accordingly, they do not include all of theinformation and footnotes required by generally accepted accounting principlesfor complete financial statements. Operating results from interim periods are not necessarily indicative ofresults that may be expected for the fiscal year as a whole.  In the opinion of management, theconsolidated financial statements reflect all adjustments (consisting only ofnormal recurring accruals) considered necessary for a fair statement of theCompany’s financial results for the periods presented.  The preparation of financial statements inconformity with generally accepted accounting principles requires management tomake estimates and assumptions that affect the reported amounts of assets,liabilities, revenues, expenses and related disclosures at the date of thefinancial statements and during the reporting period.  Actual results could differ from theseestimates.  A listing of the Company’ssignificant accounting policies is described in the “Critical Accounting Policiesand Use of Estimates” section of “Management’s Discussion and Analysis ofFinancial Condition and Results of Operations.”

 

These condensedconsolidated financial statements are unaudited and should be read inconjunction with the audited consolidated financial statements and notesthereto for the year ended December 31, 2003 included in the final prospectusrelating to our initial public offering, which forms part of the RegistrationStatement on Form S-1 (Commission file number 333-113499) filed with theSecurities and Exchange Commission (“SEC”). As used herein, the terms “the Company” and “ADESA” shall mean ADESA,Inc. and its consolidated subsidiaries. The term “ALLETE” shall mean ADESA’s former parent, ALLETE, Inc.

 

The Company maintains aused vehicle auction network in North America and also provides services, suchas logistics, reconditioning, vehicle inspection and certification, titling,evaluations, and salvage recovery services. Through its wholly-ownedsubsidiary, Automotive Finance Corporation (“AFC”), the Company providesshort-term inventory-secured financing (“floorplan financing”) to used vehicledealers.

 

Certain reclassificationshave been made to prior year amounts to conform to current year presentation.

 

**Note 2 – Initial Public Offering,Capital Stock and Separation from ALLETE**

 

ADESA was incorporated inthe state of Delaware on January 23, 2004. On May 24, 2004, ADESA Corporation, then a wholly-owned subsidiary ofALLETE, was merged into ADESA.  BecauseADESA Corporation and the Company were entities under common control and theCompany is the successor entity, the number of shares of common stock disclosedin these financial statements and the earnings per share information have beenadjusted retroactively to reflect the merger and the Company’s capitalstructure.  The authorized capital stockof the Company consists of 500,000,000 shares of common stock, par value $0.01per share, and 50,000,000 shares of preferred stock, par value $0.01 pershare.   ADESA Corporation had14,086,000 shares of common stock outstanding prior to its merger with ADESA.  ADESA had 88,600,000 common sharesoutstanding as of the date of the merger.

 

On June 15, 2004, ADESAconsummated the initial public offering of 6,250,000 shares of common stockresulting in proceeds of $136.0 million, net of transaction costs of $14.0million.  The Company used the net proceeds from this offering, togetherwith the net proceeds from its $125.0 million senior subordinated notesoffering and $275.0 million borrowed under the Company’s new credit facility,to repay $75.1 million of outstanding debt to unaffiliated third parties, topay accrued interest and principal on the $100.0 million intercompany noterepresenting a dividend paid to ALLETE, and to repay all of the Company’s otheroutstanding intercompany debt owed to ALLETE and its subsidiaries, totaling$105.0 million.  In addition, the Company’stwo existing senior notes were redeemed on August 18, 2004, for $139.0 million,including $14.0 million of non-recurring prepayment expenses.  The remaining net proceeds from the initialpublic offering, notes offering and new credit facility will be used forgeneral corporate purposes, including the repurchase of up to $130 million of theCompany’s common stock pursuant to a share repurchase program approved by theCompany’s board of directors on August 30, 2004.  The Company anticipates that its sharerepurchase program may include open market transactions executed from time totime at prevailing market prices, as well as privately negotiated transactions,and will be structured to comply with, and be conducted under, Rule 10b-18 ofthe Securities and Exchange Commission and all other applicable regulations.  The Company’s initial transaction under theshare repurchase program was completed on October 28, 2004 with the purchase ofa total of 3.2 million shares of ADESA common stock at an average price of$19.68 per share from theU.S. Bank National Association and

 

8

----

 

AmericanExpress Trust, trustees for the Minnesota Power and Affiliated Companies MasterPension Trust and the Minnesota Power and Affiliated Companies RetirementSavings and Stock Ownership Plan, which are employee benefit plans ofALLETE.

 

On September 20,2004, ALLETE completed the distribution of a stock dividend to all ALLETEstockholders.  One share of ADESA commonstock was distributed to ALLETE stockholders of record as of September 13,2004, for each share of ALLETE common stock outstanding, resulting in a totaldistribution of 88.6 million common shares of ADESA.  The distribution was structured to qualify asa tax-free stock dividend to ALLETE shareholders.

 

**Note 3 – Senior Notes Offeringand Long-term Debt**

 

**Senior Subordinated Notes**

 

Concurrently with the initialpublic offering, the Company offered 7 5/8% seniorunsecured subordinated notes with a principal amount of $125.0 million due June15, 2012.  Interest on the notes ispayable semi-annually in arrears commencing on December 15, 2004.

 

At any time prior toJune 15, 2008, the notes may be redeemed in whole or in part at an earlyredemption price.  The Company may redeemthe notes at any time on or after June 15, 2008 at specified redemptionprices.  Prior to June 15, 2007, theCompany may redeem up to 35% of the aggregate principal amount of the notesissued under the indenture with the net cash proceeds of one or more qualifiedequity offerings at a redemption price equal to 107 5/8%of the principal amount, plus accrued and unpaid interest, provided that:(a) at least 65% of the aggregate principal amount of the notes issuedunder the indenture remains outstanding immediately after the occurrence of theredemption and (b)  redemption occurs within 90 days of the date ofany such equity offering.

 

The notes are unsecuredand subordinated in right of payment to all of the Company’s existing andfuture senior debt, including borrowings under the credit facility.  The incurrence of future senior debt isgoverned by certain limitations, including an interest coverage ratio exceptionas defined in the Description of the Notes in the Company’s RegistrationStatement on Form S-1.  The notes containcertain financial and operational restrictions on paying dividends and otherdistributions, making certain acquisitions or investments and incurringindebtedness, and selling assets.  At September 30,2004, the Company is in compliance with the covenants contained in the seniorsubordinated notes.

 

**Credit Facility**

 

Concurrent with theinitial public offering and notes offering, the Company entered into a$525 million senior secured credit facility with a syndicate of lenders,consisting of a $150 million revolving credit facility and two term loanfacilities aggregating $375 million. The final $100 million of the termloan facilities was drawn in August 2004. The revolving credit facility and the term loan A facility bear interestat a rate equal to LIBOR plus 225 basis points and the term loan B facilitybears interest at a rate equal to LIBOR plus 250 basis points.  In each case, the rate may decline by as muchas 75 basis points depending on the Company’s total leverage ratio.  Except for AFC’s special purpose subsidiary,the credit facility is guaranteed by substantially all of the Company’s directand indirect domestic subsidiaries and is secured by a pledge of all of theequity interests in the guarantors and a pledge of 65% of the equity interestsin certain of the Company’s Canadian and Mexican subsidiaries.  The credit facility contains customaryaffirmative and negative covenants, including restrictions on the ability toincur indebtedness, grant liens, pay dividends or make distributions tostockholders and make any prepayment or redemption with respect to the seniorsubordinated notes. The credit facility also contains financial covenantsincluding a maximum total leverage ratio, a minimum interest coverage ratio anda minimum fixed charge coverage ratio. At September 30, 2004, the Company is in compliance with thecovenants contained in the credit facility.

 

9

----

 

Long-term debt consistsof the following *(in millions)*:

 

| ** **                                    | ** ** | **Interest Rate** | ** ** | **Maturity** | ** ** | **September 30,  2004** | ** ** | **December 31,  2003** | ** ** |
|-----------------------------------------------|------------|-------------------|------------|--------------|------------|------------------------------|------------|------------------------|------------|
|                                          |       |              |       |         |       |                         |       |                   |       |
| ALLETE Auto  intercompany debt                |       | 2.1%              |       | On demand    | ** ** | **$**                        | **—** |                   | $          | 86.5 |   |
| ALLETE Auto debt  arrangement                 |       | Prime + 1%        |       | 06/01/2006   | ** ** | **—**                   |       | 3.8                    |       |
| ADESA $175.0  line of credit with ALLETE Auto |       | CP Rate + 0.6%    |       | 12/31/2004   | ** ** | **—**                   |       | 31.8                   |       |
| AFC $125.0 line  of credit with ALLETE Auto   |       | CP Rate + 0.6%    |       | 12/31/2004   | ** ** | **—**                   |       | 14.0                   |       |
| Total  intercompany debt                      | ** ** | ** **        |       |         |       | **—**                   |       | 136.1                  |       |
|                                          |       |              |       |         |       |                         |       |                   |       |
| Senior notes,  Series A                       |       | 7.7%              |       | 06/01/2006   | ** ** | **—**                   |       | 90.0                   |       |
| Senior notes,  Series B                       |       | 8.1%              |       | 03/30/2010   | ** ** | **—**                   |       | 35.0                   |       |
| Term Loan A                                   |       | LIBOR + 2.25%     |       | 06/21/2009   | ** ** | **166.2**                    |       | —                 |       |
| Term Loan B                                   |       | LIBOR + 2.50%     |       | 06/21/2010   | ** ** | **199.5**                    |       | —                 |       |
| Tracy, CA note  payable                       |       | Variable          |       | 07/30/2006   | ** ** | **—**                   |       | 45.0                   |       |
| Cornerstone  Funding note payable             |       | CP Rate + 1.02%   |       | 04/01/2005   | ** ** | **—**                   |       | 28.4                   |       |
| Atlanta capital  lease obligation             |       | 5.0%              |       | 12/01/2013   | ** ** | **34.5**                     |       | 34.5                   |       |
| Other, secured  by property                   |       | Various           |       | Various      | ** ** | **0.2**                      |       | 1.9                    |       |
| Senior  subordinated notes                    |       | 7 5/8%            |       | 06/15/2012   | ** ** | **125.0**                    |       | —                 |       |
| Total third  party debt                       | ** ** | ** **        |       |         |       | **525.4**                    |       | 234.8                  |       |
|                                          |       |              |       |         |       |                         |       |                   |       |
| Total debt                                    | ** ** | ** **        |       |         |       | **525.4**                    |       | 370.9                  |       |
| Less current  portion of long-term debt       | ** ** | ** **        |       |         |       | **37.1**                     |       | 135.7                  |       |
|                                          |       |              |       |         |       |                         |       |                   |       |
| Long-term debt                                | ** ** | ** **        |       |         |       | **$**                        | **488.3**  |                   | $          | 235.2 |   |

 

Subsequent to the closingof the initial public offering, notes offering and credit facility, the Companyannounced the redemption of its $90 million 7.7% Series A Senior Notes due 2006and its $35 million 8.1% Series B Senior Notes due 2010.  The redemption of the $125 million in SeniorNotes was completed on August 18, 2004. As previously announced by the Company, the redemption resulted in thirdquarter non-recurring expenses of $14 million before income taxes.  The non-recurring expenses include an earlyredemption penalty and the write-off of unamortized debt issuance costs and areclassified as “Loss on extinguishment of debt” in the Company’s consolidatedstatements of income.

 

**Note 4 – Stock-Based Compensation**

 

TheCompany has adopted the disclosure-only provisions of Statement ofFinancial Accounting Standards (“SFAS”) 123, *Accounting for Stock-Based Compensation*,as amended by SFAS 148, *Accounting forStock-Based Compensation—Transition and Disclosure*.  The Company accounts for stock-basedcompensation under Accounting Principles Board Opinion No. 25, *Accounting for Stock Issued to Employees,*and relatedinterpretations, using the intrinsic value method.  Accordingly, the Company has notrecognized compensation expense for employee stock options that have beengranted.

 

Concurrent with thepricing of the initial public offering, the Company granted options to purchaseapproximately 2.9 million shares of ADESA common stock, with an exercise priceof $24 per share, to officers and employees under the ADESA, Inc. 2004 Equityand Incentive Plan.  A majority of theoptions vest in equal increments at June 15, 2005, 2006, and 2007.  The remaining options vest in equalincrements at December 31, 2004, 2005, and 2006.  The options have a six year life.

 

Thefollowing table illustrates the effect on net income and earnings per share ifthe Company had applied the fair value recognition provisions of SFAS 123 toall stock-based employee compensation, including options to purchase ALLETEcommon stock held by employees of ADESA, which were converted into options topurchase approximately 1.5 million shares of ADESA common stock, with exerciseprices ranging from $8.40 to $18.71, on September 20, 2004 in conjunctionwith the separation from ALLETE.  Approximately1.4 million of the converted ALLETE options currently have exercise prices from$12.58 to $16.00.  The fair value ofstock options was estimated as of the grant date using the Black-Scholesoption-pricing model and the attribution method.  The Black-Scholes option-pricing model doesnot consider the non-traded nature of employee stock options, the lack oftransferability or a vesting period.  Ifthe model took these items into consideration, the

 

10

----

 

resultingestimate for fair value of the stock options could be different.  These pro forma amounts may not berepresentative of the effects on reported net income for future years due tothe uncertainty of stock option grant volume and potential changes inassumptions driven by market factors.

 
| ** **                                                            | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| **(in millions except per share  amounts)**                           | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                                            | ** ** | ** **                                 | ** ** | ** **                                |       | ** ** | ** ** | ** ** | ** ** |
| Reported net  income (1)                                              | ** ** | **$**                                      | **21.5**   | ** **                                | $          | 29.0 |   | **$** | **83.4** | ** ** | $ | 90.2 |   |
| Deduct: total  stock option employee compensation expense, net of tax | ** ** | **(2.1**                                   | **)**      | (0.2                                      | )          | **(2.6** | **)** | (0.6 | ) |
| Pro forma net  income                                                 | ** ** | **$**                                      | **19.4**   | ** **                                | $          | 28.8 |   | **$** | **80.8** | ** ** | $ | 89.6 |   |
|                                                                  |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Earnings per  share:                                                  |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Basic—as  reported                                               | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.92** | ** ** | $ | 1.02 |   |
| Basic—pro forma                                                  | ** ** | **$**                                      | **0.20**   | ** **                                | $          | 0.33 |   | **$** | **0.89** | ** ** | $ | 1.01 |   |
|                                                                  |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Diluted—as  reported                                             | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.92** | ** ** | $ | 1.02 |   |
| Diluted—pro  forma                                               | ** ** | **$**                                      | **0.20**   | ** **                                | $          | 0.33 |   | **$** | **0.89** | ** ** | $ | 1.01 |   |

 

----

(1)*                                 *Reportedamounts include expense associated with restricted stock and performance shareawards.

 

Concurrent with thepricing of the initial public offering, the Company also granted approximately 154,000restricted stock units which vest after three years at the initial offeringprice of $24 per unit, representing approximately $3.7 million of unearnedcompensation at grant date.  Approximately167,000 ALLETE restricted stock units and performance shares held by ADESAemployees were converted to ADESA restricted stock units and performance sharesconcurrent with the separation from ALLETE on September 20, 2004.  Compensation expense related to restrictedstock and performance share awards is recognized ratably over the vestingperiod.  Compensation expense for allrestricted stock units and performance shares totaled $0.4 million and $0.5million for the three and nine-month periods ended September 30, 2004.

 

In the previous table,the expense for employee stock options granted is comprised of ALLETE optionsheld by ADESA employees that were converted in the third quarter of 2004 intooptions to purchase ADESA common stock and ADESA options granted effective withthe initial public offering of ADESA’s common stock.  The expense noted above for employee stockoptions granted, determined under SFAS 123, was calculated using theBlack-Scholes option pricing model and the following assumptions for the ADESAoptions granted in 2004 and converted ALLETE options granted in 2003:

 
| **Assumptions**           | ** ** | **2004** | ** ** | **2003** | ** ** |
|---------------------------|------------|----------|------------|----------|------------|
| Risk-free  interest rate  | ** ** | **3.60** | **%**      | 3.10     | %          |
| Expected  life—years | ** ** | **4**    | ** ** | 5        |       |
| Expected  volatility      | ** ** | **39.0** | **%**      | 25.2     | %          |
| Dividend growth  rate     | ** ** | **1.25** | **%**      | 2.0      | %          |

 

11

----

 

**Note 5 – Derivatives**

 

In June 2004, the Companyentered into two interest rate swap agreements with notional amounts of $105million and $60 million to manage its exposure to interest rate movements onits variable rate debt.  Both interestrate swap agreements contain amortizing provisions and mature in December 2006.  The Company has designated its interest rateswap agreements as cash flow hedges.  Thefair value of the interest rate swap agreements is estimated using pricingmodels used widely in financial markets and represents the estimated amount theCompany would receive or pay to terminate the agreement at the reporting date.  At September 30, 2004, the fair value ofthe interest rate swap agreements is $1.4 million which is recorded in “Otherliabilities” on the consolidated balance sheet. In accordance with the provisions of SFAS 133, *Accountingfor Derivative Instruments and Hedging Activities,* changes in thefair value of the interest rate swap agreements designated as cash flow hedgesare recorded in “Other comprehensive income”. Unrealized losses on interest rate swap agreements totaling $0.9million, net of taxes of $0.5 million, are included as a component of “Accumulatedother comprehensive income”.  The Companyis exposed to credit loss in the event of non-performance by thecounterparties; however, non-performance is not anticipated.

 

**Note 6 – Finance Receivables**

 

AFC sells the majority of its US dollardenominated finance receivables on a revolving basis to a wholly-owned,bankruptcy remote, special purpose subsidiary that is consolidated foraccounting purposes.  AFC and the specialpurpose subsidiary amended their securitization agreement on June 15,2004 concurrent with ADESA’s initial public offering.  In addition, the agreement was further amendedon October 14, 2004, to extend the expiration date to January 2006.  This agreement is subject to annualrenewal and allows for the revolving sale to a bank conduit facility of up to amaximum of $500 million in undivided interests in certain eligible financereceivables subject to committed liquidity. The special purpose subsidiary had $425 million of committed liquidityat September 30, 2004.  Receivablessold are not reported on the Company’s consolidated balance sheets.

 

At September 30, 2004, AFC managedtotal finance receivables of $616.3 million, of which $539.4 million had beensold to the special purpose subsidiary. The special purpose subsidiary then in turn sold loans, with recourse tothe special purpose subsidiary, of $364.8 million to the bank conduit facilityat September 30, 2004, leaving $251.5 million of gross finance receivablesrecorded on the Company’s consolidated balance sheet at September 30,2004.

 

Receivables under management, sold, andretained were as follows *(in millions)*:

 
| **Finance Receivables**     | ** ** | **September 30,  2004** | ** ** | **December 31,  2003** | ** ** |
|-----------------------------|------------|------------------------------|------------|------------------------|------------|
|                        |       |                         | ** ** |                   |       |
| Total  receivables managed  | ** ** | **$**                        | **616.3**  | ** **             | $          | 533.1 |   |
| Less: amounts  sold         | ** ** | **(364.8**                   | **)**      | (333.8                 | )          |
| Receivables  retained       | ** ** | **251.5**                    | ** ** | 199.3                  |       |
| Less: allowance  for losses | ** ** | **(5.6**                     | **)**      | (5.0                   | )          |
| Net finance  receivables    | ** ** | **$**                        | **245.9**  | ** **             | $          | 194.3 |   |

 

Proceeds from the revolving sale ofreceivables to the bank conduit facility were used to fund new loans tocustomers.  AFC and the special purposesubsidiary must maintain certain financial covenants including, amongothers, limits on the amount of debt AFC can incur, minimum levels of tangiblenet worth, and termination events tied to the performance of the financereceivables portfolio.  Thesecuritization agreement also incorporates the financial covenants of ADESA’scredit facility.  At September 30, 2004, the Company isin compliance with the covenants contained in the securitization agreement.

 

12

----

 

**Note 7 – Earnings Per Share**

 

The following table setsforth the computation of earnings per share *(in millions except shareand per share amounts)*:

 

| ** **                                                          | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|---------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                          | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                                          | ** ** | ** **                                 | ** ** | ** **                                |       | ** ** | ** ** | ** ** | ** ** |
| Income from  continuing operations                                  | ** ** | **$**                                      | **21.6**   | ** **                                | $          | 29.2 |   | **$** | **87.5** | ** ** | $ | 89.9 |   |
| (Loss) income  from discontinued operations, net of income taxes    | ** ** | **(0.1**                                   | **)**      | (0.2                                      | )          | **(4.1** | **)** | 0.3 |   |
| Net income                                                          | ** ** | **$**                                      | **21.5**   | ** **                                | $          | 29.0 |   | **$** | **83.4** | ** ** | $ | 90.2 |   |
|                                                                |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Weighted average  common shares outstanding                         | ** ** | **94.86**                                  | ** ** | 88.60                                     |       | **91.03** | ** ** | 88.60 |   |
| Effect of  dilutive stock options and restricted stock awards       | ** ** | **0.25**                                   | ** ** | —                                    |       | **0.10** | ** ** | — |   |
| Weighted average  common shares outstanding and assumed conversions | ** ** | **95.11**                                  | ** ** | 88.60                                     |       | **91.13** | ** ** | 88.60 |   |
|                                                                |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| **Earnings  per share—basic**                                  |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Income from  continuing operations                                  | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.96** | ** ** | $ | 1.02 |   |
| Loss from  discontinued operations, net of income taxes             | ** ** | **—**                                 | ** ** | —                                    |       | **(0.04** | **)** | — |   |
| Net income                                                          | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.92** | ** ** | $ | 1.02 |   |
|                                                                |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| **Earnings  per share—diluted**                                |       |                                       | ** ** |                                      |       |   | ** ** |   |   |
| Income from  continuing operations                                  | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.96** | ** ** | $ | 1.02 |   |
| Loss from  discontinued operations, net of income taxes             | ** ** | **—**                                 | ** ** | —                                    |       | **(0.04** | **)** | — |   |
| Net income                                                          | ** ** | **$**                                      | **0.23**   | ** **                                | $          | 0.33 |   | **$** | **0.92** | ** ** | $ | 1.02 |   |
|                                                                     |            |                                            |            |                                           |            |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

Basic earnings per sharewere calculated based upon the weighted-average number of outstanding commonshares for the period.  Diluted earningsper share were calculated consistent with basic earnings per share includingthe effect of dilutive unissued common shares related to the Company’sstock-based employee compensation programs.  Totaloptions outstanding at September 30, 2004, were 4.5 million.  There were no options outstanding at September 30,2003.  Stock options with an exerciseprice per share greater than the average market price per share wereexcluded in the calculation of diluted earnings per share for all periods presentedas including these options would have an anti-dilutive impact.  Approximately 3.0 million options were excludedfrom diluted earnings per share for the three and nine months ended September 30,2004.

 

On June 15, 2004, ADESAconsummated the initial public offering of 6,250,000 shares of its common stock.  Assuming the issuance of the 6,250,000 shareshad occurred at the beginning of the fiscal year, weighted average common shares outstanding and assumedconversions for the nine months ended September 30, 2004, wouldhave totaled approximately 94.6 million shares resulting in diluted earningsper share of $0.88 for the nine months ended September 30, 2004.

 

13

----

 

**Note 8 – Comprehensive Income**

 

Comprehensive income iscomprised of net income adjusted for changes in foreign currency translationand unrealized gains or losses on interest rate swap contracts designated andqualifying as cash flow hedges.  For the thirdquarter 2004 and 2003, comprehensive income was $34.0 million and $28.6million.  Comprehensive income for the ninemonths ended September 30, 2004 and 2003 was $89.4 million and $120.7million.  The changes in comprehensiveincome are primarily due to the volatility of the Canadian currency and changesin net income.

 

**Note 9 – Segment Information**

 

The Company operates intwo business segments: auction and related services and dealer financing. Thesereportable segments offer different services and are managed separately basedon the fundamental differences in their operations.  The holding company is maintained separatelyfrom the two reportable segments and includes expenses associated with being apublic company, such as salaries, benefits, and travel costs for the corporate managementteam, board of directors’ fees, investor relations costs, and incrementalinsurance, treasury, legal, accounting, and risk management costs.  Holding company interest includes theincremental interest incurred on the new debt structure.  The majority of costs incurred at the holdingcompany are not allocated to the two business segments.

 

14

----

 

Financial informationregarding the Company’s reportable segments is set forth below *(in millions)*:

 
| **Three Months Ended September 30,  2004**               | ** ** | **Auction and  Related  Services** | ** ** | **Dealer  Financing** | ** ** | **Holding  Company** | ** ** | **Consolidated** | ** ** |
|---------------------------------------------------------------|------------|------------------------------------|------------|-----------------------|------------|----------------------|------------|------------------|------------|
| ** **                                                    | ** ** | ** **                         | ** ** | ** **            | ** ** | ** **           | ** ** | ** **       | ** ** |
| Operating  revenues                                           |       | $                                  | 200.2      |                  | $          | 28.3                 |       | $                | —     |   | $ | 228.5 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Operating  expenses                                           |       |                               |       |                  |       |                 |       |             |       |
| Cost of services                                              |       | 105.8                              |       | 7.2                   |       | —               |       | 113.0            |       |
| Selling, general  and administrative                          |       | 43.1                               |       | 3.1                   |       | 4.2                  |       | 50.4             |       |
| Depreciation and  amortization                                |       | 7.4                                |       | 1.1                   |       | 0.1                  |       | 8.6              |       |
| Total operating  expenses                                     |       | 156.3                              |       | 11.4                  |       | 4.3                  |       | 172.0            |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Operating profit  (loss)                                      |       | 43.9                               |       | 16.9                  |       | (4.3                 | )          | 56.5             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Interest expense                                              |       | 2.9                                |       | —                |       | 5.8                  |       | 8.7              |       |
| Other income                                                  |       | (1.1                               | )          | (0.1                  | )          | (0.6                 | )          | (1.8             | )          |
| Loss on  extinguishment of debt                               |       | —                             |       | —                |       | 14.0                 |       | 14.0             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income (loss)  from continuing operations before income taxes |       | 42.1                               |       | 17.0                  |       | (23.5                | )          | 35.6             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income taxes                                                  |       | 16.5                               |       | 6.8                   |       | (9.3                 | )          | 14.0             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income (loss)  from continuing operations                     |       | $                                  | 25.6       |                  | $          | 10.2                 |       | $                | (14.2      | ) | $ | 21.6 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Assets                                                        |       | $                                  | 1,533.2    |                  | $          | 339.2                |       | $                | 272.2      |   | $ | 2,144.6 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| **Three  Months Ended September 30, 2003**               | ** ** | ** **                         | ** ** | ** **            | ** ** | ** **           | ** ** | ** **       | ** ** |
| ** **                                                    | ** ** | ** **                         | ** ** | ** **            | ** ** | ** **           | ** ** | ** **       | ** ** |
| Operating  revenues                                           |       | $                                  | 199.1      |                  | $          | 25.4                 |       | $                | —     |   | $ | 224.5 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Operating  expenses                                           |       |                               |       |                  |       |                 |       |             |       |
| Cost of services                                              |       | 107.8                              |       | 6.1                   |       | —               |       | 113.9            |       |
| Selling, general  and administrative                          |       | 46.2                               |       | 3.4                   |       | —               |       | 49.6             |       |
| Depreciation and  amortization                                |       | 7.4                                |       | 1.2                   |       | —               |       | 8.6              |       |
| Total operating  expenses                                     |       | 161.4                              |       | 10.7                  |       | —               |       | 172.1            |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Operating profit                                              |       | 37.7                               |       | 14.7                  |       | —               |       | 52.4             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Interest expense                                              |       | 4.0                                |       | —                |       | —               |       | 4.0              |       |
| Other income                                                  |       | (0.6                               | )          | —                |       | —               |       | (0.6             | )          |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income from  continuing operations before income taxes        |       | 34.3                               |       | 14.7                  |       | —               |       | 49.0             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income taxes                                                  |       | 14.1                               |       | 5.7                   |       | —               |       | 19.8             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income from  continuing operations                            |       | $                                  | 20.2       |                  | $          | 9.0                  |       | $                | —     |   | $ | 29.2 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Assets                                                        |       | $                                  | 1,452.7    |                  | $          | 288.6                |       | $                | —     |   | $ | 1,741.3 |   |

 

15

----

 
| **Nine Months Ended September 30,  2004**                | ** ** | **Auction and  Related  Services** | ** ** | **Dealer  Financing** | ** ** | **Holding  Company** | ** ** | **Consolidated** | ** ** |
|---------------------------------------------------------------|------------|------------------------------------|------------|-----------------------|------------|----------------------|------------|------------------|------------|
| ** **                                                    | ** ** | ** **                         | ** ** | ** **            | ** ** | ** **           | ** ** | ** **       | ** ** |
| Operating  revenues                                           |       | $                                  | 621.2      |                  | $          | 85.6                 |       | $                | —     |   | $ | 706.8 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Operating  expenses                                           |       |                               |       |                  |       |                 |       |             |       |
| Cost of services                                              |       | 327.3                              |       | 20.8                  |       | —               |       | 348.1            |       |
| Selling, general  and administrative                          |       | 135.7                              |       | 11.9                  |       | 12.1                 |       | 159.7            |       |
| Depreciation and  amortization                                |       | 23.2                               |       | 3.4                   |       | 0.1                  |       | 26.7             |       |
| Total operating  expenses                                     |       | 486.2                              |       | 36.1                  |       | 12.2                 |       | 534.5            |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Operating profit  (loss)                                      |       | 135.0                              |       | 49.5                  |       | (12.2                | )          | 172.3            |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Interest expense                                              |       | 10.7                               |       | —                |       | 6.7                  |       | 17.4             |       |
| Other (income)  expense                                       |       | (2.7                               | )          | 0.1                   |       | (0.6                 | )          | (3.2             | )          |
| Loss on  extinguishment of debt                               |       | —                             |       | —                |       | 14.0                 |       | 14.0             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income (loss)  from continuing operations before income taxes |       | 127.0                              |       | 49.4                  |       | (32.3                | )          | 144.1            |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income taxes                                                  |       | 49.5                               |       | 19.8                  |       | (12.7                | )          | 56.6             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income (loss)  from continuing operations                     |       | $                                  | 77.5       |                  | $          | 29.6                 |       | $                | (19.6      | ) | $ | 87.5 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Assets                                                        |       | $                                  | 1,533.2    |                  | $          | 339.2                |       | $                | 272.2      |   | $ | 2,144.6 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| **Nine  Months Ended September 30, 2003**                | ** ** | ** **                         | ** ** | ** **            | ** ** | ** **           | ** ** | ** **       | ** ** |
| ** **                                                    | ** ** | ** **                         | ** ** | ** **            | ** ** | ** **           | ** ** | ** **       | ** ** |
| Operating  revenues                                           |       | $                                  | 616.0      |                  | $          | 78.1                 |       | $                | —     |   | $ | 694.1 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Operating  expenses                                           |       |                               |       |                  |       |                 |       |             |       |
| Cost of services                                              |       | 337.6                              |       | 19.3                  |       | —               |       | 356.9            |       |
| Selling, general  and administrative                          |       | 141.0                              |       | 11.2                  |       | —               |       | 152.2            |       |
| Depreciation and  amortization                                |       | 22.1                               |       | 3.5                   |       | —               |       | 25.6             |       |
| Total operating  expenses                                     |       | 500.7                              |       | 34.0                  |       | —               |       | 534.7            |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Operating profit                                              |       | 115.3                              |       | 44.1                  |       | —               |       | 159.4            |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Interest expense                                              |       | 11.8                               |       | 0.3                   |       | —               |       | 12.1             |       |
| Other income                                                  |       | (2.7                               | )          | —                |       | —               |       | (2.7             | )          |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income from  continuing operations before income taxes        |       | 106.2                              |       | 43.8                  |       | —               |       | 150.0            |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income taxes                                                  |       | 43.0                               |       | 17.1                  |       | —               |       | 60.1             |       |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Income from  continuing operations                            |       | $                                  | 63.2       |                  | $          | 26.7                 |       | $                | —     |   | $ | 89.9 |   |
|                                                          |       |                               |       |                  |       |                 |       |             |       |
| Assets                                                        |       | $                                  | 1,452.7    |                  | $          | 288.6                |       | $                | —     |   | $ | 1,741.3 |   |

 

16

----

 

**Geographic Information**

 

Most of the Company’soperations outside the United States are in Canada.  Information regarding the geographic areas ofthe Company’s operations is set forth below *(in millions)*:

 
| ** **           | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **           | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
| Operating  revenues: | ** ** | ** **                                 | ** ** | ** **                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| U.S                  | ** ** | **$**                                      | **190.2**  |                                      | $          | 180.4 | ** ** | **$** | **579.2** |   | $ | 564.0 |   |
| Foreign              | ** ** | **38.3**                                   |       | 44.1                                      | ** ** | **127.6** |   | 130.1 |   |
| ** **           |       | **$**                                      | **228.5**  |                                      | $          | 224.5 | ** ** | **$** | **706.8** |   | $ | 694.1 |   |

 
| ** **          | ** ** | **September 30,  2004** | ** **  | **December 31,  2003** | ** ** |
|---------------------|------------|------------------------------|-------------|------------------------|------------|
| Long-lived  assets: |       |                         |        |                   |       |
| U.S                 | ** ** | **$**                        | **988.6**   |                   | $          | 985.6 |   |
| Foreign             | ** ** | **143.4**                    |        | 144.0                  |       |
| ** **          |       | **$**                        | **1,132.0** |                   | $          | 1,129.6 |   |

 

**Note 10 –Discontinued Operations**

 

In February 2003, ADESAapproved a plan to discontinue the operations of its vehicle importationbusiness.  The financial results of thevehicle importation business have been accounted for as discontinuedoperations.  Net loss from discontinuedoperations in 2004 includes a $6.7 million pre-tax charge related to a juryaward in a suit filed by a former employee of the Company’s vehicle importationbusiness including the related interest and legal costs.   Net income from discontinued operations forthe first nine months of 2003 was $0.3 million as a result of a litigationsettlement in the discontinued vehicle transport business offset by exitcharges incurred related to the Company’s vehicle importation business.

 

At September 30,2004 and December 31, 2003, there were $0 million and $0.1 million in assetsand $6.3 million and $0 million in liabilities related to discontinuedoperations.  Liabilities at September 30,2004 represent the accrual of the jury award and related interest.

 

The following summarizesfinancial information for discontinued operations *(inmillions, except per share amounts)*:

 
| ** **                                                                | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|---------------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                                | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
| ** **                                                                | ** ** | ** **                                 | ** ** | ** **                                | ** ** | ** ** | ** ** | ** ** | ** ** |
| Operating revenues                                                        | ** ** | **$**                                      | **—** |                                      | $          | **—** | ** ** | **$** | **—** |   | $ | 2.0 |   |
| (Loss) income  from discontinued operations before income taxes           | ** ** | **$**                                      | **(0.1**   | **)**                                     | $          | (0.3 | ) | **$** | **(6.7** | **)** | $ | 0.4 |   |
| Net (loss)  income from discontinued operations                           | ** ** | **$**                                      | **(0.1**   | **)**                                     | $          | (0.2 | ) | **$** | **(4.1** | **)** | $ | 0.3 |   |
| Net loss per  share from discontinued operations – basic and diluted | ** ** | **$**                                      | **—** |                                      | $          | **—** | ** ** | **$** | **(0.04** | **)** | $ | **—** |   |

 

17

----

 

**Note 11 – Dividend**

 

On October 20, 2004, theCompany’s Board of Directors declared a fourth quarter dividend of $0.075 percommon share payable December 15, 2004, to shareholders of record on November15, 2004.

 

##### **Note 12 – Related PartyTransactions**

 

Wholesale vehiclebusinesses owned by Sean Hallet, the son of James Hallet, an Executive VicePresident of ADESA, had three separate lines of credit with AFC and anoutstanding loan through a related entity. As of September 30, 2004, the total amount owed to AFC was $1.7million.  The lines of credit are securedwith a perfected blanket security interest in the assets of the wholesalevehicle businesses.  The loan iscross-collateralized with one of the credit lines and is secured by certain unencumberedpersonal property valued at approximately $0.7 million.  As of September 30, 2004, Sean Halletand his related businesses were in default on these obligations.  During the third quarter of 2004, the Companyaccrued a provision for credit loss of  $0.9million related to the $1.7 million outstanding based on an assessment ofrecoverability.  All three credit lineshave been closed and the Company is pursuing legal action related to collectionof these amounts.

 

##### **Note 13 – Commitmentsand Contingencies**

 

The Company is subject tothe possibility of various loss contingencies arising in the ordinary course ofbusiness resulting from litigation, claims, and other commitments and a varietyof environmental laws and regulations.  Management considers the likelihood of loss or the incurrence of aliability, as well as the ability to reasonably estimate the amount of loss, indetermining loss contingencies.  The Companyaccrues an estimated loss contingency when it is probable that a liability hasbeen incurred and the amount of loss can be reasonably estimated.  Management regularly evaluates currentinformation available to determine whether accrual amounts should beadjusted.  Accruals for environmentalliabilities are included in “Other liabilities” at undiscounted amounts andexclude claims for recoveries from insurance or other third parties.  These accruals are adjusted periodically asassessment and remediation efforts progress, or as additional technical orlegal information become available.  Ifthe amount of an actual loss is greater than the amount accrued, this couldhave an adverse impact on the Company’s operating results in that period.

 

The Company stores asignificant number of vehicles owned by various customers and consigned to theCompany to be auctioned.  The Company iscontingently liable for each consigned vehicle until the eventual sale or otherdisposition, except for damage related to severe weather conditions, naturaldisasters or other factors outside of the Company’s control.  Loss is possible; however, at this timemanagement cannot estimate a range of loss that could occur.  Individual stop loss and aggregate insurancecoverage is maintained on the consigned vehicles.  These vehicles are consigned to the Companyand are not included in the consolidated balance sheets.

 

In the normal course ofbusiness, the Company also enters into various other guarantees and indemnitiesin its relationships with suppliers, service providers, customers and others.These guarantees and indemnifications do not materially impact the Company’sfinancial condition or results of operations, but indemnifications associatedwith the Company’s actions generally have no dollar limitations and currently cannotbe quantified.

 

The Company has accrued,as appropriate, for environmental remediation costs anticipated to be incurredat certain of its auction facilities. Liabilities for environmental matters included in “Other liabilities”were $3.7 million and $2.9 million at September 30, 2004, andDecember 31, 2003.  No amounts havebeen accrued as receivables for potential reimbursement or recoveries to offsetthis liability.

 

The Company is involvedin lawsuits and other legal or governmental matters arising in the ordinarycourse of business.  Management does notexpect any potential loss to be material to the Company’s consolidatedfinancial position, results of operations, or cash flows except as discussed inthe description of legal proceedings in Part II, Item 1 (“Legal Proceedings”)of this report.

 

18

----

 

**Item 2****.  Management’s Discussion and Analysis ofFinancial Condition and Results of Operations**

* (unaudited)*

 

**Forward-Looking Statements**

 

Thefollowing discussion may contain forward-looking statements within the meaningof the Private Securities Litigation Reform Act of 1995.  Such statements are subject to certain risks,trends, and uncertainties.  Inparticular, statements made in this report on Form 10-Q that are not historicalfacts (including but not limited to expectations, estimates, assumptions andprojections regarding the industry, business, future operating results, andanticipated cash requirements) may be forward-looking statements.   Actual results could differ materially fromthe results projected, expressed or implied by these forward-looking statements.  The forward-lookingstatements are based on assumptions about important factors, includinggeneral business conditions; market trends; competition; weather; vehicleproduction; trends in new and used vehicle sales; business developmentactivities, including acquisitions; economic conditions; litigationdevelopments and the other risk factors described in the Company’s RegistrationStatement on Form S-1 as declared effective on June 15, 2004 and other risksdescribed from time to time in the Company’s filings with the Securities andExchange Commission.  Many of these riskfactors are outside of the Company’s control, and as such, they involve riskswhich are not currently known to the Company that could cause actual results todiffer materially from forecasted results. The forward-looking statements in this document are made as of the datehereof and the Company does not undertake to update its forward-lookingstatements.

 

The Company’s futuregrowth depends on a variety of factors, including its ability to increasevolumes relative to its competition, acquire additional auctions, manageexpansion, control costs in its operations, introduce modest fee increases andnew services, consolidate future auction acquisitions into existing operationsand retain its executive officers and key employees.   In addition, the Company’s substantialindebtedness will require it to use a portion of its operating cash flow to payinterest and principal on debt instead of for other corporate purposes,including funding future expansion and ongoing capital expenditures.  Accordingly, the Company cannot predictwhether its growth strategy will be successful. The Company cannot predict what portion of overall sales will beconducted through on-line auctions or other redistribution methods in thefuture and what impact this may have on its auction facilities.

 

Theinterim financial statements included in this Form 10-Q and the followingdiscussion and analysis should be read in conjunction with the historicalfinancial statements, related notes thereto, and other financial informationincluded in the prospectus relating to the initial public offering, as filedwith the Securities and Exchange Commission, which includes auditedfinancial statements for the three fiscal years ended December 31, 2003.

 

#### **Overview**

 

ADESA is a leading,national provider of wholesale vehicle auction and related vehicleredistribution services for the automotive industry in North America.Redistribution services include a variety of activities designed to transferused and salvage vehicles between sellers and buyers throughout the vehiclelife cycle. The Company facilitates the exchange of these vehicles through anauction marketplace, which aligns sellers and buyers. As an agent forcustomers, ADESA generally does not take title to or ownership of the vehiclessold at the Company’s auctions. The Company generally earns fees from both theseller and buyer on each successful auction transaction in addition to feesearned for ancillary services.

 

ADESA is the secondlargest used vehicle auction network in North America, based upon the number ofused vehicles passing through auctions annually, and also provides servicessuch as inbound and outbound logistics, reconditioning, vehicle inspection andcertification, titling, administrative and salvage recovery services. Throughits wholly-owned subsidiary, AFC, the Company also provides short-terminventory-secured financing, known as floorplan financing, to used vehicledealers. ADESA is able to serve the diverse and multi-faceted needs of itscustomers through the wide range of services offered at its facilities. The Companyoperates a network of 53 used vehicle auctions, 28 salvage auctions and 81 AFCloan production offices.  For the three andnine months ended September 30, 2004, revenues were $228.5 millionand $706.8 million and net income was $21.5 million and $83.4 million.

 

#### **Critical AccountingPolicies and Use of Estimates**

 

It is important tounderstand ADESA’s accounting policies in order to understand its financialstatements.  In preparing the financialstatements in accordance with generally accepted accounting principles,management must often make estimates and assumptions that affect the reportedamounts of assets, liabilities, revenues, expenses and related disclosures atthe date of the financial statements and during the reporting period.  Some of those judgments can be subjective andcomplex.  Consequently, actual resultscould differ from those estimates. Accounting measurements that management believes are most critical to the

 

19

----

 

reported results of operationsand financial condition of the Company include: uncollectible receivables andallowance for credit losses and doubtful accounts, impairment of goodwill andlong-lived assets, self-insurance programs and contingencies.

 

ADESA continuallyevaluates the accounting policies and estimates it uses to prepare theconsolidated financial statements.  Incases where management estimates are used, they are based on historicalexperience, information from third-party professionals, and various otherassumptions believed to be reasonable. ADESA’s most significant accounting polices are discussed in Note 2 and elsewhere in the Notes to the ConsolidatedFinancial Statements included in the prospectus relating to the Company’sinitial public offering, as filed with the Securities and Exchange Commission,which includes audited financial statements for the three fiscal years endedDecember 31, 2003.

 

#### **Seasonality**

 

Generally, the volume ofvehicles sold at the Company’s auctions is highest in the first and second calendarquarters of each year and slightly lower in the third quarter.  Fourth quarter volume of vehicles sold isgenerally lower than all other quarters. This seasonality is affected byseveral factors including weather, the timing of used vehicles available forsale from selling customers, holidays, and the seasonality of the retail marketfor used vehicles, which affect the demand side of the auction industry.  As a result, revenues and operating expensesrelated to volume will fluctuate accordingly on a quarterly basis.  The Company’s earnings are generally highestin the second calendar quarter followed by the third calendar quarter.  Although volume is typically higher in thefirst calendar quarter than the third calendar quarter, earnings are generallylower due to additional costs associated with winter weather.  The fourth calendar quarter typically has thelowest earnings as a result of the lower volume and additional costs associatedwith the holidays and winter weather.

 

#### **Results of Operations**

 

The following table setsforth operations data as a percentage of total revenue for the periodsindicated:

 
| ** **                            | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|---------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| ** **                            | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
| **Operations  Data:**                 | ** ** | ** **                                 |       | ** **                                |       | ** ** | ** ** | ** ** | ** ** |
| Auction and  related services revenue | ** ** | **87.6**                                   | **%**      | 88.7                                      | %          | **87.9** | **%** | 88.7 | % |
| Dealer financing  revenue             | ** ** | **12.4**                                   | **%**      | 11.3                                      | %          | **12.1** | **%** | 11.3 | % |
| Total revenue                         | ** ** | **100.0**                                  | **%**      | 100.0                                     | %          | **100.0** | **%** | 100.0 | % |
| Cost of services                      | ** ** | **49.5**                                   | **%**      | 50.7                                      | %          | **49.3** | **%** | 51.4 | % |
| Selling, general  and administrative  | ** ** | **22.0**                                   | **%**      | 22.1                                      | %          | **22.6** | **%** | 21.9 | % |
| Depreciation and  amortization        | ** ** | **3.8**                                    | **%**      | 3.9                                       | %          | **3.7** | **%** | 3.7 | % |
| Operating profit                      | ** ** | **24.7**                                   | **%**      | 23.3                                      | %          | **24.4** | **%** | 23.0 | % |

 

The majority of theCompany’s revenue is derived from auction fees and related services at itsauction facilities and dealer financing services at AFC.  AFC’s net revenue consists of interest and feeincome and the gain on sale of finance receivables less provisions for creditlosses.  This net presentation of AFC’srevenues is customary for finance companies.  Operating expenses for the Company consist ofcost of services, selling, general and administrative expenses and depreciationand amortization.  Cost of services is composedof payroll and related costs, subcontract services, supplies, insurance,property taxes, utilities and maintenance. Selling, general and administrative expenses are composed of indirectpayroll and related costs, sales and marketing, information technology services,and professional fees.

 

20

----

 

**Three Months Ended September 30, 2004**

 

*Summary*

 

Operating revenue increased$4.0 million, or 2%, to $228.5 million for the quarter ended September 30,2004, compared with $224.5 million for the quarter ended September 30,2003.  Operating revenue for auction andrelated services increased 1% to $200.2 million for the quarter ended September 30,2004, while dealer financing revenue experienced an 11% increase to $28.3million as compared with $25.4 million for the same period in 2003.

 

Operating profit for thethird quarter of 2004 was 24.7% of revenue, an increase from 23.3% in the thirdquarter of 2003, despite incremental corporate expenses of $3.0 million andnon-recurring transaction costs of $0.4 million, both incurred in the thirdquarter of 2004.

 

Income from continuingoperations was $21.6 million in the third quarter of 2004 compared with $29.2million for the same period in 2003, representing a 26% decrease primarily as aresult of the non-recurring $14.0 million loss on extinguishment of debt ($8.5million after tax) as well as incremental interest expense of $4.3 million ($2.6million after tax) and the incremental corporate expenses of $3.0 million ($1.8million after tax) resulting from the recapitalization and transition to anindependent public company.

 

*OperatingRevenue*

 

Auction and RelatedServices

 
| ** **                                                | ** ** | **Quarter Ended  September 30,** | ** ** | ** ** | ** ** |
|-----------------------------------------------------------|------------|---------------------------------------|------------|------------|------------|
| **(In millions except volumes and  per vehicle amounts)** | ** ** | **2004**                              | ** ** | **2003**   | ** ** | **Growth** | ** ** |
|                                                      |       |                                  | ** ** |       |       |   |   |
| Auction and  related services revenue                     | ** ** | **$**                                 | **200.2**  | ** ** | $          | 199.1 |   | 1 | % |
| Vehicles sold                                             |       |                                  | ** ** |       |       |   |   |
| Used                                                      | ** ** | **431,449**                           | ** ** | 457,722    |       | (6 | )% |
| Salvage                                                   | ** ** | **46,934**                            | ** ** | 44,788     |       | 5 | % |
| Total vehicles  sold                                      | ** ** | **478,383**                           | ** ** | 502,510    |       | (5 | )% |
|                                                      |       |                                  | ** ** |       |       |   |   |
| Used vehicle  conversion percentage                       | ** ** | **59.8**                              | **%**      | 61.1       | %          |   |   |
| Revenue per  vehicle sold                                 | ** ** | **$**                                 | **418**    | ** ** | $          | 396 |   | 6 | % |

 

Revenue for auction andrelated services increased $1.1 million, or 1%, to $200.2 million for thequarter ended September 30, 2004, compared with $199.1 million for thesame period in 2003.  A 6% increase inrevenue per vehicle sold resulted in increased auction and related servicesrevenue of approximately $10.6 million including fluctuations in the Canadianexchange rate which positively impacted revenue by approximately $2.0 millionfor the quarter ended September 30, 2004 compared with the same period in2003.  Total auction vehicles solddecreased 5% for the three months ended September 30, 2004 resulting in anoffsetting decrease in auction and related services revenue of approximately$9.5 million compared with the nine months ended September 30, 2003.

 

Revenue per vehicle soldincreased $22 or 6% for the quarter ended September 30, 2004 compared tothe same period in 2003.  The increase inrevenue per vehicle sold is attributable to selected pricing actions earlier inthe year, the effect of changes in the Canadian currency as well as the Company’sincreased penetration rate for vehicle inspections and e-business services suchas AutoVin and Liveblock.

 

The total number of vehiclessold decreased 5% in the third quarter of 2004 compared with the third quarterof 2003.  The anticipated industry-wide declinein off-lease vehicles and declines in repossessed vehicle volumes available forsale at auctions continued during the third quarter.  Despite this decline in institutionalvehicles available for sale, selective increases in fees and increasedpenetration of vehicle inspection services and e-business services offset thedecrease in demand for other ancillary services from institutional sellers inthe quarter, thereby increasing revenue per vehicle sold.  The Company is continuing its initiatives togrow revenues and increase revenue per vehicle sold through volume growth andincreased penetration of new and existing services.  The used vehicle conversion percentage,calculated as the number of vehicles sold as

 

21

----

 

a percentage of thenumber of vehicles entered for sale at the Company’s used vehicle auctions, decreasedto 59.8% in the third quarter of 2004 from 61.1% in same period in 2003reflecting the change in mix towards dealer vehicles which inherently sell at alower conversion rate.

 

Dealer Financing

 
| *** ***                                           | ** ** | **Quarter Ended  September 30,** | ** ** | ** ** | ** ** |
|--------------------------------------------------------|------------|---------------------------------------|------------|------------|------------|
| **(In millions except volumes and  per loan amounts)** | ** ** | **2004**                              | ** ** | **2003**   | ** ** | **Growth** | ** ** |
| Dealer financing  revenue                              | ** ** | ** **                            | ** ** | ** ** | ** ** | ** ** | ** ** |
| Gain on sale of  finance receivables                   | ** ** | **$**                                 | **15.3**   | ** ** | $          | 12.8 | ** ** | ** ** | ** ** |
| Interest and fee  income                               | ** ** | **13.4**                              | ** ** | 11.6       | ** ** | ** ** | ** ** |
| Other revenue                                          | ** ** | **0.3**                               | ** ** | 0.7        | ** ** | ** ** | ** ** |
| Provision for  credit losses                           | ** ** | **(0.7**                              | **)**      | 0.3        | ** ** | ** ** | ** ** |
| Total dealer  financing revenue                        | ** ** | **$**                                 | **28.3**   | ** ** | $          | 25.4 |   | 11 | % |
| ** **                                             | ** ** | ** **                            | ** ** | ** ** | ** ** | ** ** | ** ** |
| Loan  transactions                                     | ** ** | **267,863**                           | ** ** | 237,772    |       | 13 | % |
| Revenue per loan  transaction                          | ** ** | **$**                                 | **106**    | ** ** | $          | 107 |   | (1 | )% |

 

Dealer financing revenueincreased $2.9 million, or 11%, in the quarter ended September 30,2004 compared with the quarter ended September 30, 2003.  The increase in dealer financing revenue wasdriven by a 13% increase in the number of loan transactions for the thirdquarter of 2004 compared with the same period in 2003.  Increases in loan transactions were a resultof an increase in the number of active dealers combined with an increase infloorplan utilization by the existing dealer base.

 

Revenue per loantransaction decreased $1 primarily due to an increase in provision for creditlosses of $1.0 million offset by lower fair value adjustments of $0.3 millioninherent in the calculation of the gain on sale of finance receivables.

 

*Cost of Services*

 

Cost of services(excluding depreciation and amortization) decreased $0.9 million, or 1%for the three months ended September 30, 2004, compared with the sameperiod in 2003.  The decrease in vehiclessold during the third quarter of 2004 reduced cost of services of approximately$5.2 million, or 5%, compared with the third quarter of 2003.  The effect of the reduction in vehiclevolumes was partially offset by a stronger Canadian dollar ($0.9 million) andincreased costs of approximately $3.4 million attributable to the combinedeffect of the decrease in the used vehicle conversion percentage and increasesin loan transactions and vehicle inspections.

 

*Selling, General andAdministrative Expenses*

 

Selling, general andadministrative expenses increased $0.8 million, or 2%, for the quarterended September 30, 2004, compared with the same period in 2003, primarilydue to incremental expenses associated with the Company’s separation fromALLETE.  Selling, general andadministrative expenses for the third quarter of 2004 include approximately $3.0million of incremental corporate expenses to support ADESA as an independentpublic company and $0.4 million of non-recurring transaction costs.  Incremental corporate expenses consisted ofsalaries, benefits and other expenses due to the addition of corporate levelpersonnel, professional fees, incremental insurance and other costs necessaryto support an independent public company. Transaction costs consist primarily of legal and professional fees associatedwith the Company’s separation from ALLETE. This was partially offset by a $3.0 million decrease in other salariesand benefits-related costs, compared to the same period in 2003.

 

*Depreciation and Amortization*

 

Depreciation andamortization totaled $8.6 million for the three months ended September 30,2004, and was consistent with $8.6 million reported for the three months ended September 30,2003.

 

22

----

 

*Operating Profit*

 

Operating profit increased$4.1 million, or 8%, for the three months ended September 30, 2004,compared with the same period in 2003 primarily as a result of increasedrevenues and lower non-corporate salaries and benefits offset by incrementalcorporate expenses incurred to support ADESA as an independent public companyand non-recurring transaction costs incurred in the third quarter of 2004.  As a percentage of revenue, operating profitincreased to 24.7% in the third quarter of 2004 compared with 23.3% in the thirdquarter of 2003.  The mix shift frominstitutional to dealer vehicles combined with management cost controls contributedto the improvement in operating profit margin. Management was successful in reducing direct costs at the auction sitesto match volumes while also increasing revenue.

 

*Interest Expense*

 

Interest expenseincreased $4.7 million, or 118%, for the quarter ended September 30,2004, compared with the quarter ended September 30, 2003.  This increase is primarily due to additional debtincurred by the Company related to its recapitalization associated with the notesoffering and new credit facility.  Theproceeds from the initial public offering, notes offering and $375 million ofborrowings on the Company’s new credit facility were used to repay all previousrelated and third party debt in the second and third quarters of 2004, with theexception of a $34.5 million capital lease.

 

*Loss on Extinguishment of Debt*

 

ADESA redeemed its $90million 7.7% Series A Senior Notes due 2006 and its $35 million 8.1% Series BSenior Notes due 2010 on August 18, 2004. The redemption resulted in third quarter non-recurring expenses of $14.0million before taxes, including an early redemption penalty and the write-offof unamortized debt issuance costs.

 

*Provision for Income Taxes*

 

The effective income taxrate on income from continuing operations was 39.3% for the quarter ended September 30,2004, a slight decrease from the effective rate of 40.4% for the quarter ended September 30,2003.

 

23

----

 

**Nine Months Ended September 30, 2004**

 

*Summary*

 

Operating revenueincreased $12.7 million, or 2%, to $706.8 million for the nine monthsended September 30, 2004, compared with $694.1 million for the nine monthsended September 30, 2003.  Operatingrevenue for auction and related services and dealer financing increased 1% and10%, respectively, to $621.2 million and $85.6 million for the nine monthsended September 30, 2004, compared with $616.0 million and $78.1 million forthe same period in 2003.

 

Operating profit for thefirst nine months of 2004 was 24.4% of revenue, an increase from 23.0% in thefirst nine months of 2003, despite $7.3 million of incremental corporate coststo support ADESA as an independent public company and non-recurring transactioncosts of $3.0 million, both incurred in the first nine months of 2004.

 

ADESA reported income fromcontinuing operations of $87.5 million for the nine months ended September 30,2004, compared with income from continuing operations of $89.9 million for thenine months ended September 30, 2003. In addition to the incremental corporate costs and non-recurring transactioncosts, the Company recognized a $14.0 million loss on the extinguishment ofdebt ($8.5 million after tax) as well as incremental interest expense of $5.2million ($3.2 million after tax) and the incremental corporate expenses of $7.3million ($4.4 million after tax) resulting from the recapitalization andtransition to an independent public company.

 

*OperatingRevenue*

 

Auction and RelatedServices

 
| ** **                                                | ** ** | **Nine Months Ended  September 30,** | ** ** | ** ** | ** ** |
|-----------------------------------------------------------|------------|-------------------------------------------|------------|------------|------------|
| **(In millions except volumes and  per vehicle amounts)** | ** ** | **2004**                                  | ** ** | **2003**   | ** ** | **Growth** | ** ** |
|                                                      |       |                                      | ** ** |       |       |   |   |
| Auction and  related services revenue                     | ** ** | **$**                                     | **621.2**  | ** ** | $          | 616.0 |   | 1 | % |
| Vehicles sold                                             |       |                                      | ** ** |       |       |   |   |
| Used                                                      | ** ** | **1,357,355**                             | ** ** | 1,390,749  |       | (2 | )% |
| Salvage                                                   | ** ** | **154,441**                               | ** ** | 143,237    |       | 8 | % |
| Total vehicles  sold                                      | ** ** | **1,511,796**                             | ** ** | 1,533,986  |       | (1 | )% |
|                                                      |       |                                      | ** ** |       |       |   |   |
| Used vehicle  conversion percentage                       | ** ** | **63.2**                                  | **%**      | 61.5       | %          |   |   |
| Revenue per  vehicle sold                                 | ** ** | **$**                                     | **411**    | ** ** | $          | 402 |   | 2 | % |

 

Revenue for auction andrelated services increased $5.2 million, or 1%, to $621.2 million for thenine months ended September 30, 2004, compared with $616.0 million for thesame period in 2003.  A 2% increase inrevenue per vehicle sold resulted in increased auction and related servicesrevenue of approximately $14.1 million including fluctuations in the Canadianexchange rate which increased revenue by approximately $8.3 million for thenine months ended September 30, 2004 compared with the same period in 2003.  Total auction vehicles sold decreased 1% forthe nine months ended September 30, 2004 resulting in an offsettingdecrease in auction and related services revenue of approximately $8.9 millioncompared with the nine months ended September 30, 2003.

 

Revenue per vehicle soldgrew 2% for the nine months ended September 30, 2004 compared with thenine months ended September 30, 2003 as a result of selected pricingactions earlier in the year and changes in the Canadian exchange rate.  In addition, the Company’s increasedpenetration rate for vehicle inspections and e-business services such asAutoVin and Liveblock contributed to the increase in revenue per vehicle soldfor the nine months ended September 30, 2004.  The change in mix from institutional vehiclesto dealer vehicles resulted in a decrease in ancillary services for logisticsand reconditioning for the nine months ended September 30, 2004 comparedwith the same period in 2003, which offset some of the increases due to pricingand the increased penetration of other services.

 

The total number ofvehicles sold decreased 1% in the nine months ended September 30, 2004compared with the same period in 2003. The decrease in used vehicles sold in 2004 compared with 2003 is mainlyattributable to the anticipated industry decline in off-lease vehicles and the declinein vehicles repossessed by the Company’s customers available forredistribution, and was partially offset by an increase in dealer vehiclessold.  The used vehicle conversionpercentage increased to 63.2% for

 

24

----

 

the first nine months of2004 from 61.5% in the same period in 2003, driven by an unusually high firstquarter 2004 conversion percentage of 68.4% compared to 62.4% in 2003.

 

Dealer Financing

 
| ** **                                             | ** ** | **Nine Months Ended  September 30,** | ** ** | ** ** | ** ** |
|--------------------------------------------------------|------------|-------------------------------------------|------------|------------|------------|
| **(In millions except volumes and  per loan amounts)** | ** ** | **2004**                                  | ** ** | **2003**   | ** ** | **Growth** | ** ** |
| Dealer financing  revenue                              |       |                                      | ** ** |       |       |   |   |
| Gain on sale of  finance receivables                   | ** ** | **$**                                     | **46.2**   | ** ** | $          | 42.8 |   |   |   |
| Interest and fee  income                               | ** ** | **39.8**                                  | ** ** | 34.6       |       |   |   |
| Other revenue                                          | ** ** | **1.4**                                   | ** ** | 1.7        |       |   |   |
| Provision for  credit losses                           | ** ** | **(1.8**                                  | **)**      | (1.0       | )          |   |   |
| Total dealer  financing revenue                        | ** ** | **$**                                     | **85.6**   | ** ** | $          | 78.1 |   | 10 | % |
|                                                   |       |                                      | ** ** |       |       |   |   |
| Loan  transactions                                     | ** ** | **803,442**                               | ** ** | 712,142    |       | 13 | % |
| Revenue per loan  transaction                          | ** ** | **$**                                     | **107**    | ** ** | $          | 110 |   | (3 | )% |

 

Dealer financing revenueincreased $7.5 million, or 10%, for the nine months ended September 30,2004, compared with the nine months ended September 30, 2003.  The increase in dealer financing revenue wasdriven by a 13% increase in loan transactions for the nine months ended September 30,2004 compared with the same period in 2003. Increases in loan transactions were a result of an increase in thenumber of active dealers combined with an increase in floorplan utilization bythe existing dealer base.

 

Revenue per loantransaction decreased $3 primarily due to higher fair value adjustments of $2.4million inherent in the calculation of the gain on sale of finance receivables resultingfrom the growth in managed receivables sold and the receivables that come backon the balance sheet of the special purpose subsidiary from the bank conduitfacility (for further discussion of AFC’s securitization arrangements, see “Off-balanceSheet Arrangements” in the “Liquidity” section).  In addition, an increase in the provision forcredit losses of approximately $0.8 million contributed to the decrease inrevenue per loan transaction for the nine months ended September 30, 2004.

 

*Cost of Services*

 

Cost of services(excluding depreciation and amortization) decreased $8.8 million, or 3%,for the nine months ended September 30, 2004 compared with the same periodin 2003.  The impact of the used vehiclemarket mix shift towards more dealer vehicles (fewer ancillary services areutilized by dealer sellers), higher average used vehicle conversion rates andmanagement cost controls favorably impacted cost of services by approximately$9.4 million, or 3%, for the first nine months of 2004 compared with the first ninemonths of 2003.  In addition, lower vehiclevolumes also accounted for a decrease in cost of services of approximately $4.9million for the nine months ended September 30, 2004 compared to the sameperiod in 2003.

 

These favorable impactson cost of services were partially offset by the impact of fluctuations in theCanadian exchange rate, which increased cost of services approximately $4.0million for the nine months ended September 30, 2004 compared to the sameperiod in 2003, and the growth in loan transactions which resulted in a $1.5million increase in costs of services compared with the nine months ended September 30,2003.

 

*Selling, General andAdministrative Expenses*

 

Selling, general andadministrative expenses increased $7.5 million, or 5%, for the nine monthsended September 30, 2004, compared with the same period in 2003, primarilydue to incremental expenses associated with the June 2004 transactions (initialpublic offering, notes offering and new credit facility) and the Company’sseparation from ALLETE.  Selling, generaland administrative expenses for the nine months ended September 30, 2004included approximately $3.0 million of non-recurring transaction costs and $7.3million of incremental corporate expenses to support ADESA as an independentpublic company.  Transaction costsconsist primarily of legal and professional fees associated with the initialpublic offering and the Company’s separation from ALLETE.  Incremental corporate expenses consist ofsalaries, benefits and other expenses due to the addition of corporate levelpersonnel, professional fees, incremental insurance and other costs necessaryto support an

 

25

----

 

independent publiccompany.  This was partially offset by a$3.6 million decrease in other salaries and benefits-related costs, compared tothe same period in 2003.

 

*Depreciation and Amortization*

 

Depreciation andamortization expense increased $1.1 million, or 4%, for the nine monthsended September 30, 2004, compared with the same period in 2003, primarilydue to increased depreciation expense associated with owning certain auctionfacilities previously leased and the addition of new facilities.

 

*Operating Profit*

 

Operating profitincreased $12.9 million, or 8%, for the nine months ended September 30,2004, compared with the same period in 2003. As a percentage of revenue, operating profit increased to 24.4% in thefirst nine months of 2004 compared with 23.0% in the first nine months of 2003,primarily as a result of increased revenues and lower cost of services offsetby increased selling, general and administrative expenses from incremental corporatecosts to support ADESA as an independent public company and non-recurring transactioncosts incurred in the first nine months of 2004.  The mix shift from institutional to dealervehicles combined with higher average used vehicle conversion rates andmanagement cost controls contributed to the improvement in operating profitmargin in the first nine months of 2004. Over the course of the year, management was successful in reducingdirect costs at the auction sites to match volumes while also increasingrevenue.

 

*Interest Expense*

 

Interest expenseincreased $5.3 million, or 44%, in the nine months ended September 30,2004, compared with the same period in 2003, as the Company is carryingadditional debt related to its recapitalization associated with the notesoffering and new credit facility.  In thefourth quarter of 2004, the Company expects to incur approximately $3.9 millionof additional interest expense, incremental to the expense incurred in 2003, asa result of the additional debt related to its recapitalization.

 

*Loss on Extinguishment of Debt*

 

ADESA redeemed its $90million 7.7% Senior Notes, Series A, due 2006 and its $35 million 8.1% SeniorNotes, Series B, due 2010 on August 18, 2004. As previously announced by the Company, the redemption resulted innon-recurring expenses of $14.0 million before income taxes.  The non-recurring expenses included an earlyredemption penalty and the write-off of unamortized debt issue costs.

 

*Provision for Income Taxes*

 

The effective income taxrate was 39.3% for the nine months ended September 30, 2004, a slightdecrease from the effective rate of 40.1% for the nine months ended September 30,2003.

 

*Discontinued Operations*

 

In February 2003, ADESAapproved a plan to discontinue the operations of its vehicle importationbusiness.  The financial results of thevehicle importation business have been accounted for as discontinuedoperations.   Net loss from discontinuedoperations for the first nine months of 2004 includes a $6.7 million pre-taxcharge, $4.1 million net of tax, related to a jury award and the relatedinterest and legal costs in a suit filed by a former employee of the Company’svehicle importation business.  Net incomefrom discontinued operations for the first nine months of 2003 was $0.3 millionas a result of a litigation settlement in the Company’s discontinued vehicletransport business offset by exit charges incurred related to the Company’s vehicleimportation business.

 

26

----

 

The following summarizesfinancial information for the discontinued operations *(inmillions)*:

 
| ** **                                                      | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-----------------------------------------------------------------|------------|-------------------------------------------|------------|
| ** **                                                      | ** ** | **2004**                                  | ** ** | **2003** | ** ** |
| ** **                                                      | ** ** | ** **                                | ** ** | ** ** | ** ** |
| Operating  revenues                                             | ** ** | **$**                                     | **—** | ** ** | $ | 2.0 |   |
| (Loss) income  from discontinued operations before income taxes | ** ** | **$**                                     | **(6.7**   | **)** | $ | 0.4 |   |
| Net (loss)  income from discontinued operations                 | ** ** | **$**                                     | **(4.1**   | **)** | $ | 0.3 |   |

 

27

----

 

**LIQUIDITY AND CAPITAL RESOURCES**

 

On June 15, 2004, theCompany consummated the initial public offering of 6,250,000 shares of commonstock, resulting in proceeds of $136.0 million, net of transaction costs of$14.0 million.  The Company used the net proceeds from this offering,together with the net proceeds from the notes offering and $275.0 millionborrowed under the Company’s new credit facility, to repay $75.1 million ofoutstanding debt to unaffiliated third parties, to pay accrued interest andprincipal on the $100.0 million intercompany note representing a dividend paidto ALLETE, and to repay all of the Company’s other outstanding intercompanydebt owed to ALLETE and its subsidiaries totaling $105.0 million.  In addition, the Company’s two existingsenior notes were redeemed on August 18, 2004 for $139.0 million, including$14.0 million of non-recurring expenses. The remaining net proceeds from the initial public offering, notesoffering and new credit facility will be used for general corporate purposes, includingthe repurchase of up to $130 million of the Company’s common stock pursuant toa share repurchase program approved by the Company’s board of directors onAugust 30, 2004.  The Company anticipatesthat its share repurchase program may include open market transactions executedfrom time to time at prevailing market prices, as well as privately negotiatedtransactions, and will be structured to comply with, and be conducted under,Rule 10b-18 of the Securities and Exchange Act of 1934 and other applicableregulations.  The Company’s initial transaction under the share repurchaseprogram was completed on October 28, 2004 with the purchase of a total of 3.2million shares of ADESA common stock at an average price of $19.68 per sharefrom the U.S. BankNational Association and American Express Trust, trustees for the MinnesotaPower and Affiliated Companies Master Pension Trust and the Minnesota Power andAffiliated Companies Retirement Savings and Stock Ownership Plan, whichare employee benefit plans of ALLETE.

 

The Company believes thatthe strongest indicators of liquidity for its business are cash on hand, cashflow from operations, working capital and amounts available under its creditfacility.

 
| **(Dollars in millions)**                    | ** ** | **September 30,  2004** | ** ** | **December 31,  2003** | ** ** |
|----------------------------------------------|------------|------------------------------|------------|------------------------|------------|
|                                         |       |                         |       |                   |       |
| Cash and cash  equivalents                   | ** ** | **$**                        | **405.5**  |                   | $          | 112.7 |   |
| Restricted cash                              | ** ** | **$**                        | **14.3**   |                   | $          | 3.4 |   |
| Working capital                              | ** ** | **$**                        | **441.4**  |                   | $          | 56.8 |   |
| Amounts  available under new credit facility | ** ** | **$**                        | **139.0**  |                   | NA         |   |
| Current ratio                                | ** ** | **1.8:1**                    |       | 1.1:1                  |       |

 

**Working Capital**

 

A substantial amount of theCompany’s working capital is generated internally from payments for servicesprovided.  ADESA had historically fundedshort-term working capital needs through lines of credit from ALLETE.  On June 21, 2004, ADESA secured a$150 million revolving line of credit from which no amounts were drawn asof September 30, 2004.  There wereoutstanding letters of credit totaling approximately $11 million at September 30,2004, which reduce the available borrowings under the credit facility.  In addition, the remaining $100 million ofthe Company’s term loan B facility was drawn in August 2004.  The Company expects the credit facility tomeet its current working capital needs and the needs of its subsidiaries.

 

The majority of theCompany’s working capital needs are short-term in nature, usually less than aweek in duration.  Due to thedecentralized nature of the business, payments for services are received inperson at each auction and loan production office and deposited.  Most of the financial institutions place atemporary hold on the availability of the funds deposited that can rangeanywhere from one to five business days, resulting in cash in the Company’saccounts and on its balance sheet that is unavailable for use until it is madeavailable by the various financial institutions.  Over the years, the Company has increased theamount of funds that are available for immediate use and is actively working oninitiatives that will continue to decrease the time between the deposit of andthe availability of the collection receipts from customers.  There are outstanding checks (book overdrafts)to sellers and vendors included in current liabilities.  Since the majority of these outstandingchecks for operations in the US are drawn upon bank accounts at financialinstitutions other than the financial institutions that hold the unavailable cash,the Company does not have the right to offset the cash and the outstandingchecks on its balance sheet.

 

On August 18, 2004, theCompany completed the redemption of its $90 million 7.7% Series A Senior Notesdue 2006 and its $35 million 8.1% Series B Senior Notes due 2010.  As previously announced by the Company, theredemption resulted in third quarter non-recurring prepayment expenses of $14.0million before taxes.  The non-recurringexpenses included an early redemption penalty and the write-off of unamortizeddebt issuance costs and are classified as “Loss on extinguishment of debt” inthe Company’s consolidated statements of income.

 

28

----

 

AFC offers short-terminventory-secured financing, also known as floorplan financing, to used vehicledealers.  Financing is provided for anaverage term of 30 to 45 days.   AFCprincipally generates its funding through the sale of its US dollar denominatedreceivables.  For further discussion ofAFC’s securitization arrangements, see “Off-balance Sheet Arrangements”.

 

**Summary of Cash Flows**

 

The Company strives toimprove cash flow from operations. ADESA’s strategy includes growing itsvehicle auction and dealer financing businesses both internally by expandingfacilities, services and operations, and externally through acquisitions.

 
| ** **                                 | ** ** | **Nine Months Ended  September 30,** | ** ** | ** ** | ** ** |
|--------------------------------------------|------------|-------------------------------------------|------------|------------|------------|
| **(In millions)**                          | ** ** | **2004**                                  | ** ** | **2003**   | ** ** | **Change** | ** ** |
| Net cash  provided by (used for):          |       |                                      | ** ** |       |       |   |   |
| Operating  activities                      | ** ** | **$**                                     | **95.6**   | ** ** | $          | 104.4 |   | $ | (8.8 | ) |
| Investing  activities                      | ** ** | **(2.7**                                  | **)**      | (30.7      | )          | 28.0 |   |
| Financing activities                       | ** ** | **199.3**                                 | ** ** | (58.7      | )          | 258.0 |   |
| Effect of  exchange rate on cash           | ** ** | **0.6**                                   | ** ** | 4.9        |       | (4.3 | ) |
| Net increase in  cash and cash equivalents | ** ** | **$**                                     | **292.8**  | ** ** | $          | 19.9 |   | $ | 272.9 |   |

 

Through the first ninemonths of 2004, cash flow from operating activities was $95.6 million comparedwith $104.4 million for the same period in 2003.  A $6.8 million decrease in net income was theprimary reason for the decrease in operating cash flow.  Operating cash flowwas favorably impacted by a $63.0 million increase in accounts payable and accruedexpenses offset by increases in finance and trade receivables totaling $65.3million.  The increase in accounts payable and receivables reflects anincrease in vehicles sold at the Company’s auctions in the last few days of September 2004compared with the last few days of September 2003.  The greatervolume of vehicles sold over the last few days of the period provides a shortertime frame to collect receivables and settle payables to sellers, therebyincreasing the corresponding amounts carried on the balance sheet.  Thesettlement process with the sellers of dealer vehicles is longer than withinstitutional sellers primarily due to the titling process.

 

Net cash used byinvesting activities was $2.7 million for the first nine months of 2004,compared with net cash used by investing activities of $30.7 million for thesame period in 2003.  This change was principally due to the timing ofcapital activities including an increase in sales of excess land and assets of $10.0million for the nine months ended September 30, 2004, compared with thesame period in 2003 and a $7.0 million decline in purchases of property andequipment for the first nine months of 2004 as compared with the first ninemonths of 2003.  For a discussion of the Company’s capital expenditures,see “Capital Expenditures” below.  Inaddition, the Company purchased $10.1 million in development revenue bonds inconnection with a capital lease during the nine month period ended September 30,2003.

 

Cash provided byfinancing activities was $199.3 million for the first nine months of 2004,compared with cash used by financing activities of $58.7 million for thesame period in 2003.  This change wasprincipally due to $136 million of proceeds received from the initial publicoffering as well as $500 million of proceeds received from the issuance ofdebt, offset by the repayment of debt of $345.6 million and $117.5 million ofdividend payments to ALLETE.

 

#### **Other Financial Data**

 

EBITDA is defined asearnings before interest expense, income taxes, depreciation andamortization.  Given thelack of comparable per share information for 2003 and 2004, the Company believesthat EBITDA is a useful supplement and meaningful indicator of earningsperformance to be used by its investors, financial analysts and others to analyzethe Company’s financial performance and results of operations over time.  In addition, EBITDA is a usefulsupplement to net cash provided by operating activities to help investorsunderstand the Company’s ability to generate cash flows from operations thatare available for taxes, debt service and capital expenditures.  EBITDA isalso used by the Company’s creditors in assessing debt covenant compliance.

 

While the Company believes that EBITDA isan important financial measure, it is not presented as an alternative to cashflow, income from continuing operations or net income as indicators of liquidityor operating performance, and should not be

 

29

----

 

considered in isolation or as a substitutefor measures of performance prepared in accordance with generally acceptedaccounting principles (GAAP).  This measuremay not be comparable to similarly titled measures reported by other companies.

 
| ** **                             | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|----------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| **EBITDA (In millions)**               | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
| **Income  from continuing operations** | ** ** | **$**                                      | **21.6**   |                                      | $          | 29.2 | ** ** | **$** | **87.5** |   | $ | 89.9 |   |
| Add back:                              |       |                                       |       |                                      |       |   |   |   |   |
| Income tax  expense                    | ** ** | **14.0**                                   |       | 19.8                                      | ** ** | **56.6** |   | 60.1 |   |
| Interest expense                       | ** ** | **8.7**                                    |       | 4.0                                       | ** ** | **17.4** |   | 12.1 |   |
| Depreciation and  amortization         | ** ** | **8.6**                                    |       | 8.6                                       | ** ** | **26.7** |   | 25.6 |   |
| **EBITDA**                             | ** ** | **$**                                      | **52.9**   |                                      | $          | 61.6 | ** ** | **$** | **188.2** |   | $ | 187.7 |   |

 

EBITDA for the threemonths ended September 30, 2004, includes incremental corporate expenses of$3.0 million and non-recurring transaction costs of $14.4 million.  EBITDA for the nine months ended September 30,2004, includes incremental corporate expenses of $7.3 million and non-recurringtransaction costs of $17.0 million.  TheCompany does not expect to incur any additional non-recurring transaction ordebt prepayment expenses in the fourth quarter of 2004.  Additional incremental corporate expenses tosupport ADESA as an independent public company of approximately $3.7 millionare expected to be incurred in the fourth quarter of 2004.

 

A reconciliation of net cash provided byoperating activities, another comparable GAAP measure, to EBITDA for each ofthe fiscal periods indicated is presented below.

 
| ** **                                                        | ** ** | **Three Months Ended  September 30,** | ** ** | **Nine Months Ended  September 30,** | ** ** |
|-------------------------------------------------------------------|------------|--------------------------------------------|------------|-------------------------------------------|------------|
| **EBITDA (In millions)**                                          | ** ** | **2004**                                   | ** ** | **2003**                                  | ** ** | **2004** | ** ** | **2003** | ** ** |
| **Net  cash provided by operating activities**                    | ** ** | **$**                                      | **12.6**   | ** **                                | $          | 74.1 |   | **$** | **95.6** | ** ** | $ | 104.4 |   |
| Changes in  operating assets and liabilities, net of acquisitions | ** ** | **23.8**                                   | ** ** | (33.9                                     | )          | **26.3** | ** ** | 24.0 |   |
| Bad debt expense                                                  | ** ** | **(2.5**                                   | **)**      | —                                    |       | **(4.0** | **)** | (3.7 | ) |
| Gain on disposal  of assets                                       | ** ** | **0.7**                                    | ** ** | 0.3                                       |       | **0.8** | ** ** | 0.1 |   |
| Interest expense                                                  | ** ** | **8.7**                                    | ** ** | 4.0                                       |       | **17.4** | ** ** | 12.1 |   |
| Income tax  expense                                               | ** ** | **14.0**                                   | ** ** | 19.8                                      |       | **56.6** | ** ** | 60.1 |   |
| Deferred income  tax                                              | ** ** | **(3.4**                                   | **)**      | (2.9                                      | )          | **(7.4** | **)** | (9.0 | ) |
| Discontinued  operations (net of taxes)                           | ** ** | **0.1**                                    | ** ** | 0.2                                       |       | **4.1** | ** ** | (0.3 | ) |
| Compensation earned  under restricted stock                       | ** ** | **(0.5**                                   | **)**      | —                                    |       | **(0.6** | **)** | — |   |
| Other non-cash                                                    | ** ** | **(0.6**                                   | **)**      | —                                    |       | **(0.6** | **)** | — |   |
| EBITDA                                                            | ** ** | **$**                                      | **52.9**   | ** **                                | $          | 61.6 |   | **$** | **188.2** | ** ** | $ | 187.7 |   |

 

#### **Capital Expenditures**

 

Capital expenditures forthe nine months ended September 30, 2004, and the year ended December 31,2003, were $13.1 million and $26.9 million, and were funded primarilyfrom internally generated funds.  Plannedcapital expenditures for the remainder of 2004 are expected to total between $20million and $25 million.  Capitalexpenditures are expected to total approximately $200 million for 2005through 2009.   Anticipated expendituresare primarily attributable to expansions and ongoing improvements at existingvehicle auction facilities and improvements in information technologysystems.  Future capital expenditurescould vary substantially if the Company is required to undertake correctiveaction or incur environmental costs in connection with any outstanding orfuture liabilities. ADESA may also pursue expansion opportunities, includingthe acquisition of other companies.

 

In June 2003, theCompany restructured its financial arrangements with respect to its facilitieslocated in Tracy, California; Boston, Massachusetts; Charlotte, North Carolina,and Knoxville, Tennessee.  These leasedfacilities were previously accounted for as operating leases.  Non-cash capital expenditures for the first ninemonths of 2003 included a total of $73.4 million for

 

30

----

 

entering into a debtarrangement for the Tracy facility and the assumption of debt for the Boston,Charlotte and Knoxville facilities.  Thedebt arrangements for these facilities were repaid in June 2004 with proceedsfrom the June 2004 transactions.  In the thirdquarter of 2003, the Company entered into a $34.5 million capital lease for itsnew Atlanta facility which will remain outstanding through 2013.

 

**Contractual Obligations**

 

The following summarizesthe Company’s contractual cash obligations as of September 30, 2004 *(in millions)*:

 
| ** **                              | ** ** | **Payments Due by Period** | ** ** |
|-----------------------------------------|------------|----------------------------|------------|
| **Contractual Obligations**             | ** ** | **Total**                  | ** ** | **Less than 1 year** | ** ** | **1 – 3 Years** | ** ** | **4 – 5 Years** | ** ** | **After 5 Years** | ** ** |
| Debt                                    |       |                       |       |   |   |   |   |   |   |   |   |
| Long-term debt                          |       | $                          | 0.2        |   | $ | 0.1 |   | $ | 0.1 |   | $ | — |   | $ | — |   |
| Senior  subordinated notes              |       | 125.0                      |       | — |   | — |   | — |   | 125.0 |   |
| Term loan  facilities                   |       | 365.7                      |       | 37.0 |   | 74.0 |   | 74.0 |   | 180.7 |   |
| Capital lease  obligation               |       | 34.5                       |       | — |   | — |   | — |   | 34.5 |   |
| Operating leases                        |       | 107.0                      |       | 18.8 |   | 27.9 |   | 11.5 |   | 48.8 |   |
| **Total  contractual cash obligations** |       | $                          | 632.4      |   | $ | 55.9 |   | $ | 102.0 |   | $ | 85.5 |   | $ | 389.0 |   |
|                                         |            |                            |            |  |  |  |  |  |  |  |  |  |  |  |  |  |  |

 

The Company believes its sourcesof liquidity from its cash and cash equivalents on hand, cash provided byoperating activities, and availability under its credit facility are sufficientto meet its short and long-term operating needs.  In addition, the Company believes the previouslymentioned sources of liquidity will be sufficient to fund the Company’s capitalrequirements, debt service, working capital, and dividend payment commitmentsfor the next five years.  On October 20,2004, the Company’s board of directors declared a fourth quarter dividend of$0.075 per common share payable December 15, 2004, to shareholders of record onNovember 15, 2004.   The Company alsobelieves its liquidity position will provide adequate funding to repurchase upto $130.0 million of common shares beginning in the fourth quarter of 2004,subject to market conditions.

 

**Off-Balance Sheet Arrangements**

 

AFC sells the majority of US dollardenominated finance receivables on a revolving basis to a wholly-owned,bankruptcy remote, special purpose subsidiary that is consolidated foraccounting purposes.  AFC and the specialpurpose subsidiary amended their securitization agreement on June 15,2004.  In addition, the agreement wasamended further on October 14, 2004 to extend the expiration date.  The agreement expires in January 2006,subject to annual renewal and allows for the revolving sale, to a bank conduitfacility, of up to a maximum of $500 million in undivided interests in certaineligible finance receivables subject to committed liquidity.  The special purpose subsidiary had $425million of committed liquidity at September 30, 2004.  Receivables sold are not reported on theCompany’s consolidated balance sheet.

 

At September 30, 2004, AFC managedtotal finance receivables of $616.3 million, of which $539.4 million had beensold to the special purpose subsidiary. The special purpose subsidiary then in turn sold loans, with recourse tothe special purpose subsidiary, of $364.8 million to the bank conduit facilityat September 30, 2004 leaving $251.5 million of gross finance receivablesrecorded on the Company’s consolidated balance sheet at September 30,2004.

 

31

----

 

Receivables under management, sold, andretained were as follows *(in millions)*:

 
| **Finance Receivables**     | ** ** | **September 30, 2004** | ** ** | **December 31, 2003** | ** ** |
|-----------------------------|------------|-----------------------------|------------|-----------------------|------------|
|                        |       |                        |       |                  |       |
| Total  receivables managed  | ** ** | **$**                       | **616.3**  | ** **            | $          | 533.1 |   |
| Less: amounts  sold         | ** ** | **(364.8**                  | **)**      | (333.8                | )          |
| Receivables  retained       | ** ** | **251.5**                   | ** ** | 199.3                 |       |
| Less: allowance  for losses | ** ** | **(5.6**                    | **)**      | (5.0                  | )          |
| Net finance  receivables    | ** ** | **$**                       | **245.9**  | ** **            | $          | 194.3 |   |

 

Proceeds from the revolving sale ofreceivables to the bank conduit facility were used to fund new loans tocustomers.  AFC and the special purposesubsidiary must maintain certain financial covenants including, amongothers, limits on the amount of debt AFC can incur, minimum levels of tangiblenet worth, and termination events tied to the performance of the financereceivables portfolio.  Thesecuritization agreement also incorporates the financial covenants of ADESA’ssenior secured credit facility.  AFC hashistorically performed better than the covenant thresholds set forth in thesecuritization agreement, and the Company is not aware of any changingcircumstances that would put AFC or the Company in non-compliance with thecovenants contained therein.

 

**Stock-Based Compensation**

 

Concurrently with theinitial public offering, non-qualified stock options covering a total of 2.9million ADESA shares and restricted stock units covering a total ofapproximately 154,000 ADESA shares were issued.  The restricted stock units vest after threeyears and are accounted for in conformity with SFAS No. 123, “Accountingfor Stock Based Compensation.”  Effectivewith the initial public offering, the restricted stock units were valued at theinitial public offering price of $24 per share. The fair market value of the granted units ($3.7 million) wasrecorded in “Additional paid-in capital” with the unearned compensation expenserecorded as a reduction of stockholders’ equity.  Concurrently with the separation from ALLETEon September 20, 2004, approximately 167,000 ALLETE restricted stock unitsand performance shares held by ADESA employees were converted to ADESArestricted stock units and performance shares. The majority of these converted share awards vest in the first quarterof 2005.  Compensation expense related torestricted and performance share stock awards is recognized ratably over thevesting period.

 

The stock options have asix-year term and were granted at $24.00, the initial public offering price ofthe Company’s common stock.  A majorityof the options vest in equal increments at June 15, 2005, 2006, and 2007.  The remaining options vest in equalincrements at December 31, 2004, 2005, and 2006.  The stock option grants are accounted for inaccordance with Accounting Principles Board Opinion No. 25, *Accounting for Stock Issued to Employees*, and relatedinterpretations, using the intrinsic value method.  Accordingly, the Company does not recognizeexpense for employee stock options that were granted.  Using the Black-Scholes option pricing modeland the assumptions of a risk-free interest rate of 3.60%, an expected life offour years, expected volatility of 39%, and a dividend growth rate of 1.25% resultsin pro forma stock compensation expense, net of tax, of $2.1 million and$2.6 million for the three and nine-month periods ended September 30,2004.

 

All options to purchaseALLETE common stock held by the employees and directors of ADESA were convertedinto options to purchase ADESA common stock effective as of the consummation ofthe separation from ALLETE.  The numberof shares of ADESA common stock subject to the converted option was equal tothe number of shares of ALLETE common stock subject to the original optionmultiplied by an ADESA option ratio (discussed below) and the per shareexercise price of the converted option was equal to the per share exerciseprice of the original option divided by the ADESA option ratio.  The vesting and expiration of the adjustedoption will be conditioned upon continuing employment with ADESA, or in thecase of our directors, continued service on the Company’s board of directors.  This method of adjustment was intended topreserve both the aggregate intrinsic value of each option and the ratio of theexercise price to the market price of the shares.  The ADESA option ratio of approximately 1.63 ADESAoptions for each ALLETE option converted was based upon the ratio of the fairmarket value of ALLETE stock prior to the separation to the fair market valueof ADESA stock following the separation from ALLETE.

 

The conversion of ALLETEoptions held by ADESA employees and directors on September 20, 2004resulted in approximately 1.5 million additional ADESA optionsoutstanding.   The converted options consistof approximately 111,000 options with an exercise price of $8.40 to $10.50, 1,378,000options with an exercise price of $12.58 to $16.00, and 34,000 options withan

 

32

----

 

exercise price of $17.14to $18.71.  At September 30, 2004,all of the options with exercise prices of $8.40 to $10.50 and $17.14 to $18.71were exercisable at average prices of $9.94 and $17.65.  Of the options with an exercise price of $12.58to $16.00, 1,044,000 options were exercisable on September 30, 2004at an average price of $14.45.

 

33

----

 

**Item 3****.  Quantitative and Qualitative DisclosuresAbout Market Risk**

 

**Foreign Currency**

 

The Company’s foreigncurrency exposure is limited to the conversion of operating results of itsCanadian and, to a much lesser extent, Mexican subsidiaries. The Company hasnot entered into any foreign exchange contracts to hedge the conversion of itsCanadian or Mexican operating results. As a result, the currency translation positively affected net income forthe Canadian operations by approximately $0.3 million and $1.1 million for the three and nine months ended September 30,2004.  Currency exposure of itsMexican operations, which began in 2002, is not material to the results ofoperations.

 

**Interest Rates**

 

The Company is exposed tointerest rate risk on borrowings. Accordingly, interest rate fluctuations affect the amount of interestexpense the Company is obligated to pay. In June 2004, the Company entered into two interest rate swap agreementswith notional amounts of $105 million and $60 million to manage its exposure tointerest rate movements on its variable rate debt.  Both interest rate swap agreements containamortizing provisions and mature in December 2006.  The Company has designated its interest rateswap agreements as cash flow hedges.  Thefair value of the interest rate swap agreements is estimated using pricingmodels used widely in financial markets and represents the estimated amount theCompany would receive or pay to terminate the agreements at the reportingdate.  At September 30, 2004, thefair value of the interest rate swap agreements is $1.4 million which isrecorded in “Other liabilities” on the consolidated balance sheet.  In accordance with the provisions of SFAS133, *Accounting for Derivative Instruments and HedgingActivities,* changes in the fair value of the interest rate swapagreements designated as cash flow hedges are recorded in “Other comprehensiveincome”.  Unrealized losses on interestrate swap agreements totaling $0.9 million, net of taxes of $0.5 million, areincluded as a component of “Accumulated other comprehensive income”.  The Company is exposed to credit loss in theevent of non-performance by the counterparties; however, non-performance is notanticipated.  The Company has onlypartially hedged its exposure to interest rate fluctuations on its variablerate debt.  A sensitivity analysis of theimpact on the Company’s variable rate debt instruments to a hypothetical100 basis point increase in short-term interest rates for the three and ninemonths ended September 30, 2004 would have resulted in an increase ininterest expense of approximately $0.4 million and $1.5 million.

 

**Item 4****.  Controls and Procedures**

 

An evaluation was carried out, under thesupervision of and with the participation of the Company’s management,including the Company’s chief executive officer (CEO) and chief financialofficer (CFO), of the effectiveness of the Company’s disclosure controls andprocedures (as defined by the Exchange Act rules 13(a)-15 and 15(d)-15) as ofthe end of the period covered by this report. Based on the evaluation, the CEO and CFO have concluded that the Company’sdisclosure controls and procedures are effective.

 

There was no change in the Company’s internalcontrol over financial reporting during the Company’s most recently completedfiscal quarter that has materially affected, or is reasonably likely tomaterially affect the Company’s internal control over financial reporting.

 

34

----

 

**PART II**

**OTHER INFORMATION**

 

#### **Item 1.  Legal Proceedings**

 

The Company is involvedin litigation and damage claims arising in the ordinary course of business,such as actions related to personal injuries and property damage arising fromthe transportation and parking of vehicles, environmental laws and regulations,and other litigation incidental to the business such as employment and dealerclaims and disputes.  Such litigation isgenerally not, in the opinion of management, likely to have a material adverseeffect on the Company’s financial condition, results of operations or cashflows.  Legal and regulatory proceedings whichcould be material are discussed below. Other contingencies are discussed in Note 13— Commitments and Contingenciesin the Notes to Consolidated Financial Statements.

 

In December 2003, the staffof the Securities and Exchange Commission initiated an informal inquiryrelating to ALLETE’s internal audit function and the internal financial reportingof ALLETE  (ADESA’s former parent),ADESA, AFC, a wholly-owned subsidiary of ADESA, and the loan loss methodologyat AFC.  ALLETE and the Company fully andvoluntarily cooperated with the informal inquiry and sent a response to the SECin February 2004.  Management believesthat the Company has acted appropriately and that this inquiry will not resultin action that has a material adverse impact on the Company or its reportedresults of operations.   The Company hashad no further communication with the SEC on this matter.

 

*ADESA Impact Taunton facility*

 

In December 2003, theMassachusetts Department of Environmental Protection (MDEP) identified theCompany as a potentially responsible party regarding contamination of severalprivate drinking water wells in a residential development that abuts theTaunton, Massachusetts salvage auction facility.  The wells had elevated levels of methyltertiary butyl ether (MTBE). MTBE is an oxygenating additive in gasoline toreduce harmful emissions.  The EPA hasidentified MTBE as a possible carcinogen.

 

The Company engagedGeoInsight, Inc. an environmental services firm, to conduct tests of the soiland groundwater at the salvage auction site. In December 2003, GeoInsight, Inc. collected soil samples, conductedgroundwater tests and provided oversight for the installation of monitoringwells in various locations on and adjacent to the property adjoining theresidential community.  The results ofthe soil and water tests indicated levels of MTBE exceeding MDEPstandards.  In January 2004, GeoInsight,Inc. collected air samples from two residences that the Company identified ashaving elevated drinking water concentrations of MTBE.  The Company has been advised that inhalationof, or contact exposure to MTBE in the ambient air poses minimal risk to humanhealth.  In response to its empiricalfindings, the Company proposed to MDEP that the Company install granularactivated carbon filtration systems in the approximately 33 affected residences.  The Company has installed filtration units inthe residences that may be impacted by the water contamination.

 

GeoInsight, Inc. preparedan immediate response action (IRA) plan to determine the extent of theenvironmental impact and define activities to prevent further environmentalcontamination.  The IRA Plan, which theCompany filed on January 24, 2004, describes the initial activities theCompany performed, and proposes additional measures that the Company will useto further assess the existence of any imminent hazard to human health. Inaddition, as required by the MDEP, the Company has conducted an analysis toidentify sensitive receptors that may have been affected, including areaschools and municipal wells.  GeoInsight,Inc. does not believe that an imminent hazard condition exists at the salvageauction site; however, the investigation and assessment of site conditions areongoing.

 

The Company submitted anIRA status report to MDEP on March 30, 2004.  Additionally, the Company is submittingbi-weekly status updates to MDEP.  Acomprehensive ground water sampling event and monthly residential samplingevent were conducted during the week of April 26, 2004.  The Company’s representatives recently metwith the Taunton City Council and agreed in principal that the Company would extendmunicipal water services to the residences that are impacted by the watercontamination.

 

The Company has anaccrual of $1.5 million at September 30, 2004 with respect to the Tauntonmatter, including the estimated costs (as of September 30, 2004)associated with its proposal to extend the municipal water service.  This amount is included in the $3.7 millionliability accrued for environmental matters at September 30, 2004.

 

In addition, the Companyhas received correspondence from an attorney representing residents of theadjoining residential community suggesting that the Company enter intodiscussions concerning property damage claims for diminution in value due

 

35

----

 

to the MTBE release.  Accordingly, there is a possibility thatproperty damage litigation may be filed against the Company.  At this time, the Company does not believe itis liable for any diminution in value claims and has not recorded any accrualsfor such claims.  The Company has put itsenvironmental insurance carrier on notice of the claims with respect to theTaunton environmental matter.  Theinsurance carrier has retained an environmental consultant and is in theprocess of analyzing the underlying facts and circumstances to determine if andto what extent insurance coverage may exist.

 

*ADESA Importation Services, Inc. litigation*

 

On January 29, 2002,a former employee of ADESA Importation Services, Inc. (“AIS”), the Company’swholly-owned subsidiary, filed suit against ADESA and AIS in the Circuit Courtof the State of Michigan, County of Genesee, Case No. 02-72517-CK, allegingbreach of contract and breach of other oral agreements related to AIS’spurchase of International Vehicle Importers, Inc. inDecember 2000.  The former employeewas the controlling shareholder who sold the business to AIS in 2000.  AIS filed a counterclaim against the formeremployee including allegations of a number of improper acts by the employeeincluding breach of contract, breach of fiduciary duty and fraud. Pursuant toMichigan law, the case was originally evaluated by a three attorney panel.  During the mandatory case evaluation process,the three attorney panel awarded the former employee damages of $153,000.  At the same time, the panel awarded ADESA andAIS damages of $225,000 for its counterclaims. The former employee rejected the panel’s decision resulting in a jurytrial.  On June 1, 2004, the juryawarded damages of $5.8 million to the former employee related to theallegation that ADESA breached oral agreements to provide funding to AIS.  The jury found in favor of ADESA and AIS onthree of its counterclaims including breach of contract, breach of fiduciaryduty and fraud and awarded ADESA and AIS $69,000.  On July 8, 2004, the Genesee County CircuitCourt entered judgment for the plaintiffs in the amount of $6,373,812, nettingthe amount of the two judgments and awarding the plaintiff prejudgmentinterest.  On October 11, the GeneseeCounty Circuit Court denied post-judgment motions made by ADESA and AIS for anew trial and/or reduction in the damages. The Company and AIS intend to file a Claim of Appeal with the MichiganCourt of Appeals and to vigorously pursue such appeal.

 

The Company discontinuedthe operations of AIS, its vehicle importation business, inFebruary 2003.  The Company accrued $6.3million  ($5.8 million award plus accruedinterest of $0.5 million) as a result of the jury trial verdict and $0.4million of related legal expenses in 2004 as a loss from discontinued operations.

 

#### **Item 2.  Unregistered Sales of Equity Securities and Use of Proceeds**

 

On June 21, 2004, the Company completedthe initial public offering of its common stock and a registered publicoffering of its unsecured 7 5/8% seniorsubordinated notes due 2012 pursuant to a registration statement on Form S-1 (FileNo. 333-113499) that was declared effective by the Securities and ExchangeCommission on June 15, 2004.  A total of6,250,000 shares of common stock at a price of $24.00 per share and $125million in aggregate principal amount of senior subordinated notes were offered,each under a separate prospectus.  The managing underwriters of theoffering were UBS Securities LLC and Merrill Lynch, Pierce, Fenner, & SmithIncorporated.  The aggregate gross proceeds of the shares offered and soldwere $150.0 million.  In connection with the initial public offering andnotes offering, the Company provided $10.5 million and $2.8 million,respectively, in underwriting discounts and commissions to the underwriters. In addition, the following table sets forth the other material expensesincurred in connection with the initial public offering and the notes offering *(in millions):*

 
| Legal fees and  expenses      |   | $   | 2.5    |   |
|-------------------------------|--------|-----|--------|--------|
| Printing  expenses            |   | 0.6 |   |
| Accounting fees  and expenses |   | 0.3 |   |
| NYSE initial  listing fees    |   | 0.3 |   |
| Other  miscellaneous expenses |   | 0.3 |   |
| Total                         |   | $   | 4.0    |   |

 

After deducting theunderwriting discounts and commissions and the offering expenses describedabove, the Company received net proceeds of approximately $136.0 million and$121.7 million from its initial public offering and notes offering,respectively.  The Company used the net proceeds from the initial publicoffering and the notes offering, together with the $275.0 million borrowedunder the Company’s new credit facility, to repay $75.1 million of outstandingdebt to unaffiliated third parties, to pay accrued interest and principal onthe $100.0 million intercompany note representing a dividend paid to ALLETE andto repay all of the Company’s other outstanding intercompany debt owed toALLETE and its subsidiaries, totaling $105.0 million.  In addition, the Company’s two existingsenior notes were redeemed on August 18, 2004, for $139.0 million.  The remaining net proceeds from the initialpublic offering and notes offering will be used for general corporate

 

36

----

 

purposes, including therepurchase of up to $130 million of the Company’s common stock pursuant to ashare repurchase program approved by the Company’s board of directors on August30, 2004.  The Company anticipates thatits share repurchase program may include open market transactions executed fromtime to time at prevailing market prices, as well as privately negotiatedtransactions, and will be structured to comply with, and be conducted under,Rule 10b-18 of the Securities and Exchange Commission and all other applicableregulations.  The Company’s initialtransaction under the share repurchase program was completed on October 28,2004 with the purchase of a total of 3.2 million shares of ADESA common stockat an average price of $19.68 per share from the U.S. Bank National Association andAmerican Express Trust, trustees for the Minnesota Power and AffiliatedCompanies Master Pension Trust and the Minnesota Power and Affiliated CompaniesRetirement Savings and Stock Ownership Plan, which are employee benefitplans of ALLETE.

 

#### **Item 6.**           Exhibits

 

**(a)****                                 **Exhibits. The Exhibit Index is incorporated herein by reference.

 

37

----

 

**SIGNATURES**

 

Pursuant to therequirements of the Securities Exchange Act of 1934, the Registrant has dulycaused this report to be signed on its behalf by the undersigned thereunto dulyauthorized.

 

 
|                                           | ADESA, Inc.                                            |   |
|------------------------------------------------|--------------------------------------------------------|--------|
|                                           | (Registrant)                                           |
|                                           |                                                   |
|                                           |                                                   |
| Date:    November  5, 2004 | /s/ Cameron C. Hitchcock                               |   |
|                                           | Cameron C. Hitchcock                                   |
|                                           | Executive Vice  President and  Chief Financial Officer |
|                                           |                                                   |
|                                           |                                                   |
| Date:    November  5, 2004 | /s/ Scott A. Anderson                                  |   |
|                                           | Scott A. Anderson                                      |
|                                           | Controller                                             |
|                                                |                                                        |        |  |

 

38

----

 

**EXHIBITS**

 
| **Exhibit No.** | ** ** | **Description**                                                                          |
|-----------------|------------|------------------------------------------------------------------------------------------|
| 31.1            |       | Certification Pursuant  to Section 302 of the Sarbanes-Oxley Act of David G. Gartzke     |
| 31.2            |       | Certification Pursuant  to Section 302 of the Sarbanes-Oxley Act of Cameron C. Hitchcock |
| 32.1            |       | Certification Pursuant  to Section 906 of the Sarbanes-Oxley Act of David G. Gartzke     |
| 32.2            |       | Certification Pursuant  to Section 906 of the Sarbanes-Oxley Act of Cameron C. Hitchcock |

 

39

----