領先汽車配件 (AAP) 2014 Q3 法說會逐字稿

Welcome to the Advance Auto Parts third-quarter 2014 conference call.

(Operator Instructions)

This conference is being recorded.

If you have any objections, you may disconnect at this time.

Before we begin, Zaheed Mawani, Vice President of Investor Relations, will make a brief statement concerning forward-looking statements that will be made on this call.

Good morning, and thank you for joining us on today's call.

I would like to remind you that our comments today contain forward-looking statements we intend to be covered by and we claim the protection under the Safe Harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.

Forward-looking statements address future events developments, or results and typically use words such as believe, anticipate, expect, intend, will, plan, forecast, outlook, or estimate and are subject to risks, uncertainties, and assumptions that may cause our results to differ materially.

Our comments today will also include certain non-GAAP measures including certain financial measures reported on a comparable basis to exclude impacts of costs that were incurred in FY 2014 in connection with the integration of General Parts International and BWP Distributors.

Please refer to our earnings press release and accompanying financial statements issued today for important information and additional detail regarding these forward-looking statements and the reconciliation of the non-GAAP measures referenced in today's call.

The Company intends these forward-looking statements to speak only as of the time of this conference call and does not undertake to update or revise them as more information becomes available.

For planning purposes, our fourth-quarter 2014 earnings release is scheduled for February 12, 2015, before market open, and our quarterly conference call is scheduled for the morning of Thursday, February 12, 2015.

To be notified of the dates of future earnings reports, you can sign up through the Investor Relations sections of our website.

Finally, a replay of this call will be available on our website for one year.

Now, let me turn the call over to Darren Jackson, our Chief Executive Officer.

Darren?

Good morning, everyone.

Thank you for joining us and welcome to our third-quarter conference call.

I'd like to start off by thanking all of our team members for their hard work and commitment to better serve our customers and grow our business.

Joining me on the call today is our President, George Sherman, who will update you on our business operations, and Mike Norona, our Chief Financial Officer, who will update you on our financial performance.

Our third-quarter objectives remained unchanged as we continued to focus on the consistency of our base business and successfully integrating General Parts.

Overall, we are satisfied with our progress in the quarter and continue to be on track in terms of the base business objectives, the integration milestones, and our financial performance.

Our team members remained focused on our three outcomes -- sales, service, and profit and continue to drive improvements into the business.

Our total sales grew 50.6% in the quarter compared to the third quarter of 2013, primarily as a result of the acquisition of General Parts, new store openings, and our comparable store sales increase of 1.5% in the quarter.

Our third-quarter comparable cash earnings per share of $1.89 increased 27.7% versus our third quarter last year driven principally, again, by the acquisition of General Parts as well as our base business performance.

Despite an overall cooler summer season, we were very pleased to have delivered solid comparable-store gains in commercial with our DIY business experiencing some unevenness in sales trends driven by lower volume of seasonal categories.

The consistent strength of our commercial business was seen throughout our North American operations including Advance Auto Parts, Carquest, and the WorldPac locations.

This is encouraging considering our teams have come together in less than a year to collectively drive these solid outcomes and continue to fuel our growth through our commercial business.

Further, we continued our momentum with our national account growth as our teams once again delivered double-digit growth within the quarter.

Looking at our comp trends, our commercial business showed consistent and steady strength throughout the quarter with notable increases in both traffic and ticket led by our strong sales increases in ride control with particular strength in the brake category as well.

Our DIY business experienced some mid-summer softness as we referenced in our second-quarter conference call and remained choppy, but it did improve throughout the quarter.

From a macro perspective, our industry continues to show stability as average age of vehicles continues to hold along with increases in miles driven supported by favorable fuel prices.

The uptick in new car sales is also a positive overall.

Given steady scrappage rates, it should eventually put more cars into the system and result in a net gain for our industry.

Consumer confidence continues to move in the right direction, albeit not benefiting all customer demographics equally.

Macro indicators suggest an improving consumer confidence carrying into next year, but I would remind you the fourth quarter tends to be our most volatile as weather and spending trade-offs do typically influence our business.

During the quarter, both our gross profit rate and our comparable SG&A rate declined.

Gross profit rate declined 501 basis points to 45.2%, and SG&A improved on a comparable basis 367 basis points to 34.8%.

This was primarily due to the acquisition of General Parts and our strong commercial comp sales growth.

Overall, both were in line with our expectation.

Mike will be discussing the financials in more detail in a moment.

Turning to our integration.

As I mentioned in the past, we look at the integration story as having three distinct phases.

Early in the year, we stabilized the business by first focusing on our customers and our team members by getting the teams aligned.

We moved to the next phase where we began negotiation with our vendor partners while concurrently delivering quick wins to satisfy our customers by opening up availability through cross-sourcing initiatives.

We are pleased with the cross-sourcing capability and have taken further steps within the quarter by expanding WorldPac access into roughly 3,000 Advance stores and progressing the launch of our TechNet and our CTI programs into Advance.

Additionally, our initial Carquest store consolidations are on track.

The fourth quarter starts an exciting but intense phase of the integration work.

Having now completed the vendor negotiations, we are very pleased with our product lineup.

Our goal is to provide our customers with the parts that offer premium quality, proven reliability, and world-class coverage.

Beginning in early November and throughout 2015, we will undertake the work of initiating the product changeovers in our stores which will include the introduction of new products and new brands for our go-forward lineup across the organization.

Alongside the product conversions, we have made changes to our field structure, creating an integrated field organization which will bring our Advance and Carquest US operations together under one combined team.

This integration of the organization will be hard work but critical to our long-term success.

George will touch on this momentarily.

Looking ahead, the work on multi-year integration activities related to our supply chain infrastructure and the work of harmonizing our IT systems between CarQuest and Advance is progressing as planned and will continue throughout 2015.

We still have a long way to go with our integration work.

We are undertaking one of the largest acquisition integration programs in our industry.

We remain pleased with our steady progress and maintain high expectations from our teams but recognize that the progress at times may not be linear as we get deeper into some of the really complex work streams.

I would like to take a moment to convey just how proud we are of our team members for their progress that they have driven thus far.

They have worked tirelessly through the acquisition close and have come together seamlessly this year as one team to drive the successful integration outcomes thus far.

Finally, as a result of all the great work by our integration teams in the quarter, I'm pleased to say we remain on track to achieve our 2014 synergy targets.

Overall, we are satisfied with our outcomes in the third quarter.

We continue to stay on course based on the goals we set out at the beginning of the year.

Our base business continues to be on track, and the teams continue to take steps against our goals consistent with the execution, superior availability, and service leadership goals that we had.

The integration work is in its early stages but progressing as planned.

Financially, we continue to be on track in our financial objectives as the team delivered a 27.7% comparable EPS growth in the quarter.

As we close out the fiscal year, we expect to continue our progress and deliver against our stated full-year objectives.

We remain confident in the strength of our commercial business and our ability to manage the consumer unevenness related to the DIY business.

Historically, our fourth quarter is our most volatile quarter as consumers do make those choices with their discretionary spending, but this year could also have a disproportionate impact as we anniversary the benefits of last year's winter weather.

That being said, we still expect to see a good selling season ahead of us as our teams continue to focus on consistent delivery against our key outcomes of sales, service, and profits.

I would like to close by once again thanking all of our team members for their tremendous hard work to deliver on our objectives and for always putting our customer first.

I will now turn the call over to George Sherman.

George?

Good morning, everyone.

First, I would like to thank all of our team members for their contributions to customer service in the quarter and doing all the right things to show our customers that we put them first.

At the heart of executional excellence is customer service, and our team members drove our success this quarter through their commitment to the customer.

With my prepared remarks this morning, I will provide a view on our third-quarter business performance followed by a business update including key priorities within the quarter.

Looking at sales, we are satisfied with our performance in the third quarter as the team delivered a comp store sales outcome of 1.5%.

Our positive sales performance was led by solid performance in our commercial business and good execution by our field, merchant, and supply chain teams.

Our solid comp sales performance in our commercial business was driven by our Northeast market leading the way, followed by our Great Lakes and Mid-South markets and benefiting overall from both transactional and ticket growth in the quarter.

Our B2B business continues to perform very well and continues to grow.

We continue to make good progress with integration of our Advance and Carquest commercial service programs by adding Carquest Technical Institute and Technik customers to the Advance value proposition while adding motor shop customers to the Carquest tool belt.

The key with these programs is migrating an evolving relationship with our commercial customer from one that is strictly transactional to one that is helping them grow their business and helping them be more successful.

A greater sense of partnership and long-term loyalty that is a two-way street.

This is another aspect of the integration that is immediately enhancing our base business.

Turning to our DIY business, as referenced earlier, our DIY performance was a little more uneven in the quarter.

We continued to see softer demand this quarter in seasonal categories, partially offset by improvement in our average ticket.

Our DIY business is very important to us, and we're making investments to further develop the depth of our value proposition.

We are keenly focused on the heavy DIY customer as our core customer opportunity.

We're aggressively accelerating our B2C capability which continues to grow at consistent double-digit rates and doubling down on the automotive systems training to deliver a greater experience to our core DIY customer.

Turning to our integration, I'll share a few additional insights from an operational perspective.

This integration is still in the early innings, and it is going to be a lot of hard work over an estimated three-year period.

That said, we expect to see visible proof points of progress along the way that positively impact our base business.

Our cross-sourcing initiative continues to grow, and this expansion of inventory availability positions us to say, yes, we have the part.

And, in this business, if you don't have the part, you don't get to play.

We're pleased with the continued progress on that front.

Leveraging the combined capability set and resources of both Companies is at the heart of the integration, but make no mistake, it is not an aspirational or distant goal.

It's real, and it came to life in Dallas as we opened our first set of Advance stores last quarter.

These stores are performing very well and were launched with combined resources of both Companies; the Carquest DC, the CarQuest POS system, and mixed fuel leadership team.

We've leveraged Advance's super hub strategy to drive great availability in these stores, and we will continue to leverage the combined resources and assets to drive more outcomes, such as Dallas, as we push forward with this integration.

As we look out over the hood towards next year, we will be hard at work deploying the product and brand integration that Darren spoke of earlier.

As we set our sights on being the best, our commercial customers are going to expect us to have the best parts and the best brands.

Throughout much of next year, our teams will be focused on driving these product changeovers and bringing our customers and team members the strongest product portfolio we've ever had.

Also as referenced, we have solidified our combined organizational structure for next year, both in the field and at the corporate level, positioning us to operate as one unified Company.

While the mobilization of the teams under the combined structure cannot be measured like our cost synergies, it carries equally significant benefits of furthering the cultural and leadership synergies between the teams.

Lastly, I would like to echo Darren's comments about how proud we are of our team members, the other reason why our integration has progressed to date as expected, without any major surprises.

Our team is putting its energy into making sure we lock -- making sure that we look after our customers and continue to run a strong base business.

Moving on, I would like to update you on our supply chain initiatives.

We've been methodically progressing against our supply chain objectives.

The integration activities in our logistics optimization work continues to progress as expected.

The work here is largely long-term in nature, but as I mentioned earlier, we have quickly leveraged the Carquest distribution centers to open new Advance stores in new markets.

And we will continue to balance the long-term supply chain foundational work with the opportunities to immediately add value to our base business and grow our base business.

Heading into our fourth quarter, our operational focus will be squarely set on our furthering our in-market capability and driving daily delivery capability and concentrating on the launch of deliveries from our Hartford DC early next year to keep moving the Advance network along to the next level of benefits.

Second, we continue to drive improvements of in-market availability through our hub store strategy.

During the quarter, we added five hub stores through a combination of new stores and upgrade of existing stores.

At the end of the quarter, our hub store count was 415, an overall increase of 45 from third quarter last year.

Third, as we look at inventory, our inventory growth was up roughly 60% year-over-year in the third quarter, primarily due to the General Parts acquisition, increased inventory assortment, our increase in new stores and hub stores, and additional inventory to support the upcoming Hartford DC opening.

We continue to be focused on our goal of having superior availability, the deepest assortment, and investment in our strategy to get the parts closest to the customer.

Looking at our new store growth.

During the quarter, we opened 47 new Advance, Autopart International, and Carquest stores.

We consolidated 30 Carquest and BWP stores and closed one store, bringing the total Company-operated store count to 5,305.

We also added three WorldPac branches in the quarter bringing our total branch count to 109.

We are progressing as expected and continue to pace our new store openings to be in line with our guidance of between 120 and 140 new stores this fiscal year.

As I close out my remarks today, I would like to again share how proud I am of the entire team.

The integration work is difficult, and the teams have come together to keep our integration on track, and more importantly, continue to deliver against our base business outcomes.

Overall, we are satisfied with our business performance in the third quarter and remain on track against our expectations.

We are, however, by no means content.

We have far bigger ambitions for the business as we continue to take those necessary steps in the journey to becoming a continuous improvement Company, underpinned by a continuous improvement culture.

We head into our fourth quarter with a positive outlook and the team's focus on delivering on our outcomes we set at the start of the year and continuing to stay rooted in our principles of ownership, customer focus, and delivering results as rules of the road.

Now, I'd like to turn the call over to Mike Norona, our Chief Financial Officer

Thanks, George, and good morning, everyone.

I'd like to start by thanking all of our talented and dedicated team members for their commitment to serving our customers in the quarter and helping our Company again deliver strong financial performance in our third quarter.

I plan to cover the following topics with you this morning.

One, provide some financial highlights from our third quarter of 2014.

Two, put our third-quarter results into context with our expectations and key financial priorities that we use to measure our performance.

And, three, provide some insights on the remainder of 2014 and how we are thinking about 2015.

Before I begin my remarks about the quarter, I would like to remind everyone that unless otherwise specified, Advance will present its financials and supporting commentary on a consolidated enterprise basis, and [we will also] discuss results on a comparable basis, which excludes the impacts of one-time integration expenses related to the acquisition of both General Parts and BWP, along with any amounts related to the amortization of intangible assets resulting from the acquisition of General Parts.

Also, to serve as a reminder and as mentioned on our previous earnings calls this year, we referred to a conformity reclassification of supply chain costs from SG&A to gross profit and would like to reiterate this re-class continues to apply to these third-quarter results and will also apply to the remaining fourth quarter of 2014.

For the third quarter, specifically, this reclassification was approximately 95 basis points, and year-to-date, this reclassification impact has been 85 basis points.

Moving on now to our third-quarter operating results, we are pleased to report a third-quarter comparable cash EPS of $1.89, a 27.7% increase from our third quarter in 2013.

Included in our comparable cash EPS results in the quarter was $0.15 in acquisition synergy realization.

On a GAAP basis, our third-quarter EPS was $1.66, which included $0.08 of intangible assets amortization associated with the acquisition of General Parts, $0.14 of one-time integration expenses and costs to achieve synergies related to the integration of General Parts, and $0.01 in one-time costs associated with the integration of BWP.

Turning to sales.

Our third-quarter net sales increased 50.6% to $2.29 billion compared to our third quarter of 2013.

The sales growth was principally driven by the acquisition of General Parts, the addition of new stores, and our comparable same store sales increase of 1.5%.

For comparison purposes only, net sales for general parts in our third quarter, after adjusting for selling days and holidays this year versus last year, increased approximately 2% overall to $728.9 million based on 83 days this year versus 90 days last year.

For the same period, our Company-operated general parts locations grew at a rate slightly greater than 3%.

Our positive same store sales were driven by our strong performance in our commercial business and execution from our field and supply chain teams partially offset by the unevenness we experienced in our DIY business driven by lower seasonal category sales.

Year to date, our total sales increased 49.6% to $7.61 billion.

Turning to gross profit.

Our gross profit dollars in the third quarter increased 35.6% to $1.03 billion from $763 million in our third quarter of 2013.

Our gross profit rate of 45.2% was down 501 basis points compared to third quarter of 2013.

This year-over-year rate decline was primarily due to the acquisition of General Parts resulting in a higher mix of commercial sales that has a lower gross profit rate.

Included in our gross profit results this quarter is the approximate 95 basis points conformity impact that I mentioned earlier, which was partially offset by 58 basis points of synergy savings in the quarter.

Year-to-date, our gross profit rate decreased 480 basis points to 45.4% versus 50.2% over the same period last year as a result of the General Parts acquisition.

Turning to SG&A.

Our comparable SG&A rate was 34.8% in the quarter which was down 367 basis points compared to our third quarter of 2013.

This year-over-year rate decline was the result of the acquired General Parts business having lower SG&A costs.

SG&A also reflects the approximate 95 basis points of supply chain conformity impact mentioned earlier, partially offset by higher incentive compensation due to our sales performance versus last year.

Year-to-date, our comparable SG&A rate decreased 371 basis points to 35% versus 38.8% over the same period last year.

Again, principally due to the general parts acquisition.

All in, our third-quarter operating income dollars on a comparable basis increase 33.3% to $236.8 million, and our operating income rate decreased 134 basis points over the same period last year to 10.3%, primarily as a result of the acquisition of General Parts.

Year-to-date, the Company's comparable operating income rate was 10.3% versus 11.4% during the same period last year.

Our operating cash flow through the third quarter was $540.3 million versus $398.5 million in the prior year.

Free cash flows through the third quarter improved to $378.8 million versus $250.8 million in the prior year.

Our AP ratio for the quarter was 78.4% versus 83.5% last year.

This decline was expected due to the acquisition of General Parts, and as previously shared, we see continued opportunities to improve our AP ratio as a combined Company.

At the end of the third quarter, we had roughly $1.73 billion of debt on our balance sheet, and our adjusted debt-to-EBITDAR was 2.8 times and was in line with our expectations.

During the quarter, we paid down approximately $133 million of debt and remain focused on our commitment to quickly pay down debt with our free cash flow to get back below the 2.5 times leverage ratio and maintain our investment-grade ratings.

We continue to measure the performance of our business and prioritize our investments to achieve growth, profit, and value creation.

Our growth engine continues to be our commercial business, which again delivered solid growth in the third quarter, helping us deliver our fourth consecutive quarter of positive comps.

We continue investing in new store growth and new market development and continue laying the tracks for growth from our investments in inventory availability.

We also see growth from our service initiatives by relentlessly focusing on people investments through ongoing team member training.

Turning to profit.

We are pleased with our 33.3% comparable operating income dollar growth versus the previous year and the 10.3% comparable operating income rate that we achieved in our third quarter.

We see continued opportunities to improve our profitability as measured by our operating income dollar growth through consistent sales growth, leveraging our size and scale, and improving our cost efficiency.

We also remain on track to achieve our one-year cost synergies of $45 million to $55 million on our way to achieving the total expected cost synergies of $160 million over the next three years.

With respect to value creation, the acquisition of General Parts provides us a compelling opportunity to drive shareholder returns through incremental earnings and strong cash flows.

We saw this in our third quarter with a 27.7% increase in our comparable cash EPS.

We continue to be focused on improving our free cash flow through our disciplined capital deployment, consistent operating results, and working capital management primarily in the areas of inventory management and AP ratio.

We are pleased with the progress we've made in these areas in the quarter.

Our focus on free cash flow is enabling us to pay down our debt to get back to our previously stated lever ceiling of 2.5 times by the end of 2015.

We continue to be on pace to achieve this outcome.

Once our debt is paid down, we will continue to optimize our capital structure to maximize shareholder value.

Turning to the balance of the year.

We are pleased with our outcomes through the third quarter and are on track towards achieving our full-year objectives as we enter our fourth quarter.

As a reminder, Q4 is our lowest volume and most volatile quarter as we compete with the holiday shopping season and seasonally lower demand for parts.

Additionally, and as Darren referenced earlier, Q4 will see the anniversary of the unseasonably cold winter weather benefit the industry experienced last year.

That being said, we expect our commercial business strength to continue.

As a result, we are maintaining our sales comp guidance of low single digits for the full year and are maintaining our annual 2014 comparable cash EPS full-year outlook of $7.50 to $7.60.

As we look to 2015, our priorities will largely remain unchanged.

At the highest level, we will continue to focus on running a solid base business and successfully integrating General Parts.

Financially, our objectives will be similar to 2014 with our focus on driving top-line growth and growing bottom-line profit as we enter our second full year as a combined Company.

We expect our top-line growth to be fueled by continued strong commercial comps, improved execution, new stores, and continued improvements in our inventory availability.

We look toward 2015 with industry fundamentals that continue to hold steady, and while there are some macro indicators that could lead to improved consumer confidence, we believe consumers will still be faced with choices for their discretionary spend.

We expect to improve our profitability of the combined Company through our work to improve our gross profit rate and cost structure and remain committed to our three-year goal of achieving $160 million in cost synergies.

We will provide a more detailed annual outlook on our fourth-quarter earnings call.

In closing, we are satisfied with our performance in the quarter and continue to be on track toward delivering our full-year outlook.

Our focus continues to be on our two key priorities of delivering on our base business outcomes and successfully integrating General Parts.

We continue to be pleased with the improvements our teams continue to make each quarter with our execution in the spirit of driving consistent sales, service, and profit outcomes.

The integration is progressing as expected with the team delivering on the planned synergy benefits.

I want to once again thank our 75,000 talented team members for what they do each day to serve our customers, inspire our team, and grow our great Company.

Operator, we are now ready for questions.

(Operator Instructions)

The first question today is from Michael Lasser with UBS.

Good morning.

Thanks a lot for taking my question.

On the comp result within the AP business, if we look at a multi-year stack basis, it did decelerate a bit this quarter despite having more inventory across the Company and more inventory availability through some of the cross-sourcing.

Recognizing that DIY was a little choppier, maybe you can give us some more detail on what drove the deceleration this quarter?

Michael, you said it.

When I look at the quarter and I look across North America, our West Coast locations, principally WorldPac were closer to double digits.

Our Canadian locations were closer to double-digit.

Carquest, we talked about the core Carquest-owned locations.

We talked about in our conference call script, AAP maintained its trends in its commercial comp business.

DIY was the one -- we started slow, and we signaled that at the beginning of the second quarter.

It was uneven and strengthened throughout the quarter.

It was principally seasonal categories.

I think when you put it all into context, and again, you could -- if you parse out our AI business was -- AI-owned locations.

Those were closer to flat so that tends to drag on the core AAP comp overall.

So, when I look at it, we continue -- and George, you may have a couple comments on this.

Just the DIY plagued us this quarter a little bit in its unevenness.

And, for us, that is actually not a new story.

What was encouraging is it did strengthen over the course of the quarter.

Would you add anything, George?

Not much to add, Darren.

I think you said the key themes.

It started early on at the very beginning of Q3, and we sequentially improved our comps throughout the quarter.

And our business got stronger, including in DIY.

The commercial results were good throughout the quarter, and we remain very, very confident in our ability to execute our new commercial value prop and get stronger there.

Okay, that's very helpful.

And then, my follow-up is, it looks like you've got about $13 million of gross margin synergies for the quarter.

As you look forward, is that a realistic number that we can think about as a run rate?

Or are you going to see a disproportionate benefit from the gross margin from some of the purchasing stuff at the beginning?

And then, that's going to tail off over time?

Yes.

So, it's Mike.

You're right.

We were just a tad over $13.3 million in terms of our gross margin benefits.

It was about 58 basis points in the quarter.

And I think what we said at the end of our second quarter is we expected quarter four to have a little bit more purchasing coming in.

So, we would expect that number to continue to be strong in the fourth quarter.

We haven't broke out SG&A.

We've talked about our synergy number, and I think what I would tell you on synergies is we expect to be at the high end of or synergy range that we've given you for the year and a bigger portion of that will be our purchasing benefits.

Okay.

That's very helpful.

Thank you so much

Yes.

Thanks, Michael

The next question is from Greg Melich with Evercore ISI.

Thanks.

I wanted to see how we're doing on the closing stores.

So, the incremental 30 stores, what sort of sales transfer rate we were able to achieve in the quarter?

And then, the follow-up would be, I know you talked about supply chain -- some of the big changes there.

Do we have the plan yet as to how many DCs will ultimately be consolidated or shifted?

Or when should we expect that plan?

Thanks a lot.

Greg, this is George.

I think in the consolidation stores, they are very much in line with our expectations.

So, as we begin the consolidated stores, the sales are transferring over at the rate that we expected.

There is a bit of impact to other stores where when you're moving commercial customers and commercial accounts, they sometimes go to [strong] Carquest stores initially and will ultimately make their way to the Advance store.

But, very much where we expected to be.

On the distribution center side, I am just going to repeat where we've gone in the past on that one.

Our logistics network optimization work is winding down.

We are beginning to execute on that plan, but in terms of DC consolidations or closures, we'll communicate those internally first.

And we'll go from there.

Just to remind you, Greg.

These first 100, both in terms of principally sales productivity, they were at the low end of the band.

And if we don't transfer any sales we will still make a little bit of money.

These were stores that, by and large, were borderline stores that we had to make a decision whether to close or not.

And, again, part of it is these are going be done at scale over the next couple years, and it was the team's learning their way through -- how do you successfully transfer team members, transfer customers?

And so, what we're looking to achieve, as George said, we're right on track.

And, matter of fact, we've learned a few things in terms of this first group of stores, in terms of the transition of customers, that will help as we go through the balance of the store transitions in the next few years.

Could you remind us of the expectation -- was it 70%?

Well, I think I got in trouble last time, to be honest, because I said some of them are over 100.

And, that's a true statement.

When we create capacity and service levels so some of them were seeing over 100.

What we said in BWP is that if we get 60% to 70% we feel really good about where we are.

And, as George said, we're on track with those numbers.

I just don't want people to run away and assume that these first 100 are actually at the same productivity as the average of the chain.

Got it.

Thanks a lot.

Yes.

The next question is from Scot Ciccarelli with RBC Capital Markets.

How are you?

Can you talk about both the opportunities as well as the potential risks here related to some of the merchandising and product changes that you're making in the stores?

Sure, Scot.

I think just starting off with the opportunity side.

We think we have a great opportunity to put together a fantastic house of brands.

So, when you look at the go-forward position of the combined Carquest-Advance entity, we've done some of that work already.

We've introduced Monroe to the Canadian market, and we've seen some very nice results from that and are very, very pleased with the way that that went.

I think the risk side is that this integration is hard work.

And, for the first year or so, we've done a very good job of separating integration rhythms and run-the-business rhythms.

But, ultimately, the manifestation of most of the work that we do in the integration shows up on the phone, in the shop, or in the store.

And that's happening now.

So, we are in the physical portion of the product hierarchy work.

Actually re-labeling in stores, and we're happy with the early results on that one.

And we think that we've mitigated risk in terms of any kind of distraction to the team.

Yes, Scot.

The only thing I'd add is that our team members, they get excited about selling premium products and commercial-grade products.

And when they have the focus on these changeovers, as George said, in our Canadian business, when they have a level of excitement about it, they get their customers excited.

And we've seen good results albeit we're into the very first inning on some of these product changeovers

And so I think the opportunity for us when it's all done is across not just the 5,200 owned stores but including the independents who are going to have a consistency of product offering that really will be commercially led in terms of our Advance organization, they're very excited about the Carquest-branded products coming.

They're very excited about some of the new brands that are coming.

I'd say in terms of the Carquest organization, they are glad to see some of those brands come back.

Some of them they've had before, and I was with some independents in Las Vegas.

And we're having great success in terms of the initial transition of some of those products.

I'll tell you what the risk is, is that you're going to be re-boxing, re-labeling, and repositioning, which is all activity, and those are activity in our stores.

And what we have to balance, and in 2015, we will be a broken record on this -- we have got to get the product right.

We've got to get the people right.

When we get product and people right, our business tends to work, and so that intensity of making sure that the excitement of new products balanced by the reality of the work to get them in doesn't end up disrupting our relationships with customers and take our eye off the ball in terms of the base business.

Got it.

That's very helpful.

And then, just a quick clarification.

When you talk about strength in commercial.

I know you don't break out specific comps, but can we assume that's a mid-single digit number?

That's how you would think of quote-unquote strength?

Well, we would think at least a mid-single-digit number constitutes strength.

Got it.

Thank you very much.

The next question is from Matthew Fassler with Goldman Sachs.

Thanks a lot.

Good morning.

Two quick ones.

First of all, from your commentary on DIY, it sounds like your DIY comp probably on the whole for the third quarter was below the second-quarter level.

Can you tell us how the third-quarter commercial comp compared to the second-quarter commercial comp?

Yes, so you're right, Matt.

Our DIY comp was the principal driver of taking down the overall comp, and it was below the second quarter.

And the third quarter was in line with the second quarter, overall.

So, then, commercial then, you're saying was in line?

Okay, and then the second question, if you could just give us an update as to what you're seeing with your work on daily delivery?

And how those stores are faring?

And the impact that you're seeing on the sales momentum, inventory utilization, et cetera?

Yes, Matt.

It's George.

We continue to be pleased with our daily delivery stores in terms of the overall sales results.

I think if you look at the domino effect of that, what it will ultimately do is allow us to pull back on our maxis at store level and increase our SKU coverage inside the store.

So that's the work in progress and the work ahead of us.

Most of our attention on daily delivery has turned to our Hartford DC.

That began receiving in Q3, ships in Q4, and is going to have a pretty significant ramp-up.

That is our next big footprint in the Northeast in terms of daily delivery is opening up Hartford.

And, George, now that you're deeper into Indianapolis and the work that you've done, any quantification of the benefit to a market when you make this change?

Yes.

Matt, this is Darren.

I think if you go back, what we've said publicly is that if we see -- initially, if we set a 3% lift in terms of the market relative to the control stores, then we're in good shape.

We've been exceeding that.

Great.

So, we're very pleased with it.

As George said, Hartford, I think opens up next week in terms of the business, and we think that will be real helpful for that Northeast part of our business.

And that benefit -- just final follow-up -- that benefit comes primarily on the commercial side?

It actually comes on both.

It's more pronounced on the commercial side, but we're seeing it on both sides of the business.

Good.

Thank you so much.

The next question comes from Michael Baker with Deutsche Bank.

Hi, thanks.

I wanted to ask you about the program where you're putting the WorldPac products in 3,000 Advance auto stores.

Can you discuss any early results there?

What kind of comp lift you see in those stores?

I guess a follow-up to that, is that part of the broader re-merchandising that you're talking about for 2015?

Yes.

Do you want to do it, George?

It's not part of the re-merchandising for 2015, it is simply an inherent benefit of our new enterprise.

When we say 3,000 stores, please understand, that's a rolling number.

So, some have been on it for a week or two, and some have been on it for a couple of months.

Where we see the benefit, again, as we said in the script, is just saying yes to customers.

And, obviously it gives us a level of import authority that we love having in our stores.

So, it's great from a cost standpoint in that we're looking within inside the Company versus outside the second source.

And another good reason to say yes, but it's not part of the overall assortment.

Yes, and I guess in the ones that have had -- the stores that have had that program, is there a measurable lift to the transfer of sales in those stores?

Here's what I would say, Michael.

The lift that we're seeing in there -- I wouldn't run out and put an extra point of comp in your model.

And, the reason I say that is, it takes time.

So, in order to get access to the product, what you are doing is putting the system in the store called speed dial.

That speed dial product gives you visibility into the WorldPac warehouses that are around our locations.

And what has to happen over time is that it's not an on-off switch.

The customers -- just the general repair customers -- they're generally working on a lot of domestic vehicles, a lot of import Asian vehicles, some European vehicles.

WorldPac's strength tends to be across all of import, principally European.

And so, those general repair shops first have to understand you have it, and then, second, they have to get comfortable in terms of ordering it from you.

And you build that business over time.

It's not a light-switch business.

What it does for the Advance stores principally, and we saw this with the Carquest stores.

It builds commercial credibility.

Is that part of our value proposition at Advance over time has really been this evolution from the perception of retail to the reality of being a commercial provider.

So it's one more thing that gives us commercial consistency and credibility.

More than anything else helps us sell the balance of the products in the portfolio in those stores.

That makes sense.

Thanks.

If I could just jump on one more short-term issue.

Just on the comps.

You said business got better throughout the quarter.

Do you look at that on a stacked basis?

Was it better even on a stacked basis?

You've given us some good granularity on the comps.

I'm wondering if you could tell us the fourth-quarter expectation?

Do you expect comps to be positive against a tougher comparison?

I would say -- this is Mike -- is that -- and this is a line George uses internally is that we're pleased with our positive comp performance, but we're not satisfied.

We'd be disappointed with comps that weren't positive.

And so, as we look at the fourth quarter, yes, it gets a little more difficult.

Principally, right at the end of the quarter is when the cold weather really came into the business, and predicting that -- we're just not in that business as to how the weather is going to be at the very end of the quarter.

Our expectations with our teams and our goals for teams are absolutely positive comps.

Okay, thanks.

I appreciate all the time.

Thank you.

The next question is from Seth Basham with Wedbush Securities.

Good morning.

First question is looking at gross margins in core business.

If you try to exclude the synergies that you achieved this quarter, how are gross margins for that core business?

Seth, it's Mike.

So, if you remember at the beginning of the year, we gave you a range of last year if you put these businesses together, in the range of 45.5% to 46%.

And we said that we expected the gross margins to be up modestly on the year.

If you look on a year-to-date basis, and again, if you take that 45.4% number that we are year-to-date, and you back out the supply chain, re-class about 85 basis points, and the year-to-date synergy is about [48%].

We are modestly above that number.

And, the big drivers of that, obviously, are we've mixed in more commercial, and there's some good stories to that.

Obviously, our national accounts are growing, so we're mixing in more of that.

Some of the categories like tools and equipment are growing a little bit lower gross margins so we expected some of that mix.

So, year-to-date, we feel good about the gross margin, and then, obviously over time as our merchandising capabilities kick in, our global sourcing capabilities kick in, we expect that we will see some upside there.

In the quarter, the average for the quarter was slightly below what our year-to-date was so I think we came in at a 45.2%.

There's a little bit of noise in there from some inventory growth at AAP last year.

In Q3 last year, I think our inventory grew about 12.3%.

This year, it grew about 8.3%.

That's a little bit of a headwind.

We got a little bit more supply chain costs this year caused by some of the daily replenishment.

Hartford, we're starting to receive there.

And then, the last little bit of headwind we faced is whenever the DIY would experience a little bit of softness in DIY, obviously, that impacts our gross profit rate.

But, in general, we're pretty well right on plan to where we expected to be from a gross margin perspective.

Got it, thanks.

My follow-up is just around AI.

Can you give us some sense of what your plans are for that business in the future?

Are you planning on closing the stores?

Consolidating them?

How do we think about that?

Our AI business -- what are we?

200 stores [now team] in terms of that business.

We have a lot to say grace over right now.

What we've been doing with AI at this point is we have slowed their growth, and like last year, I think we edited a few stores in the Panhandle last year.

We did.

We closed [or] consolidated some in the Panhandle just as we will again this year in North Florida.

We will look for ways to optimize the profitability of AI and their overall business results.

We understand it's a long distribution channel that comes from Massachusetts to Florida for the brand.

And the product mix change is pretty drastic when you move down to the Southeastern part of the country where AI really built a business around some great undercarriage categories in areas like exhaust where they are very, very strong.

So, the mix tends to change.

And I would say -- you asked how we are thinking about as we look out.

I tell you, one of the things that we see is that we have our WorldPac team working with our AI team.

WorldPac's coverage in North America allows us to take some of that AI product, and we're doing this without giving away competitive markets right now.

We see the opportunity to leverage some of their private-label premium product categories into markets where we're not overlapped.

And so, we've asked that team to build up the blueprint in terms of how do you get more leverage on the AI product brand through WorldPac in select markets.

Got it.

Thank you.

Thank you.

Our final question today is from Chris Horvers with JPMorgan.

Thanks, good morning.

There's a lot of questions on what's going on in Florida broadly right now with one of your big competitors pushing into that market.

Can you talk about your delivery capabilities as they are now?

What they will be, and what they were prior?

And from a daily delivery perspective?

Any comments on the performance of that market overall will be helpful.

Yes, Chris, when you helicopter up, overall, I think what we would say in our conference call, we highlighted the markets that were real standouts.

But we were pleased generally across all of our footprint.

Particularly with our commercial business.

When you get into Florida, you could pick Florida.

You could pick other parts of the country.

We have competition showing up everywhere.

And where we've positioned Florida in terms of daily replenishment is that principally in that Orlando market, Tampa market, parts of the northern Panhandle, we've, using a manual type of process, increased to daily replenishment in those stores.

It's not the most cost-effective way to do it, so over time we will double back and improve the system and processes to get that done.

We see an opportunity to extend that all the way to markets like Miami, too.

So, we're working through that as we go forward.

At this point, overall, we recognize -- it's like us going into Dallas.

We see markets where we're understored.

We expect our competition to see markets where they're understored and just keep growing.

We know from history that tends to actually put pressure principally on the DIY business because you're taking a business that is essentially a very low grower and just splitting it amongst locations and customers tend to go to stores that are closest to them in that business.

If your question -- are we feeling some of that pain when competition comes in?

Yes.

Is that new?

No.

We see that generally, and similarly in markets where we go in, I imagine you could ask our competitors if they see the same thing.

And they would likely say, yes, we do.

We've prepared for it.

We knew it was coming, and now we just have to manage our way through it.

We've done this in Atlanta, Chicago and many other markets.

We've seen it before.

It's roughly a two-year-type of cycle, and then, we work our way through it.

Anything else, George?

The daily delivery in Tampa and Orlando is new this year.

It's something that we did in preparation for more of a competitive environment in Florida, and we'd naturally like to get that throughout the state.

But, as you look at Miami, it's one of our absolute best hub and super hub network buildout, and we're very, very pleased with our parts availability in that market.

Will we get there with daily delivery?

Yes, we will eventually, as a matter of natural pacing, but we like our parts availability in Florida.

And then, in the core AAP stores, what percentage of the stores or number of stores have daily delivery currently?

We're probably -- what?

Almost 600 stores, George?

Right in that ballpark.

And then, Hartford will add how many more?

Hartford over time, up to 400.

Okay.

And then, just an accounting question for Mike.

As you think about the incentive comp pressure that you saw in the third quarter, any quantification there would be great.

With the 53rd week, how does that impact your margin structure?

Where does more of the leverage come through in that $0.15, $0.16, $0.17?

So, I'll do your 53rd week.

That's an estimate for us, and quite frankly, it's a challenging one because that 53rd week comes right at the beginning of the year.

And you just never know what the weather is going to be.

I almost wish it was in the middle of the year because there is less volatility in the middle of the year than there is at the end of year.

But it is projecting some sales.

It's projecting gross margin rate, and it's projecting SG&A -- variable SG&A in a fixed portion -- fixed allocation.

So it's nothing more than that.

That's our best estimate.

The good news is it's a nice comparable week so I don't think it will have any impact, plus or minus, to how we think about the quarter or the outlook we've given.

Obviously, our outlook does not include the 53rd week.

And then, in terms of your second question with incentive comps.

The comment in the script was really designed about the year-over-year.

Last year, I think we did a minus-2% comp.

This year, we did a 1.5% comp.

We pay our team members from whether you're the general manager or whether you're the CEO to grow our sales and to grow our profits.

And we did a better job this quarter versus last quarter -- versus last year Q3, and that's why we saw a little bit more incentive comp.

That's what the comment relates to.

Principally at the store level.

At store level, yes.

Understood.

Thanks very much.

That does conclude the question-and-answer session.

I would like to turn the call back over to Zaheed Mawani for any final comments.

Thanks, Wendy, and thanks to our audience for participating in our third-quarter earnings conference call.

If you have any additional questions, please call me at 952-715-5097.

Reporters, please call Shelley Whitaker at 540-561-8452.

And that concludes our call

Thank you.

That concludes our call today.

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