汽車地帶 (AZO) 2002 Q3 法說會逐字稿

Good morning ladies and gentlemen and welcome to Auto Zone's third quarter fiscal earnings conference call.

The conference call will end promptly at 10:00 a.m. central time, at this time you are in a listen-only mode until the question-and-answer session of the conference.

Today's call is being recorded.

If you should have any questions, please disconnect at this time.

If you wish to ask a question, press star one at any time on your touch tone phone.

Before Mr. Odland begins, the company has requested that you listen to the following statement regarding forward-looking information.

Certain statements contained in this presentation are forward-looking statements.

These statements discuss, among other things, business strategies and future performance.

These forward-looking statements are subject to risks, uncertainties and assumptions, including, without limitation, competition, product demand, economy, inflation, gasoline prices, consumer debt levels, war, prospect of war including terrorist activity, availability of commercial transportation.

Please refer to the risk factor section on the form 10-K for the fiscal year ended August 31, 2002 for more information related to these risks.

Actual results may materially differ from anticipated results.

AutoZone undertakes no obligation to release any revisions to any forward-looking statements to reflect events or circumstances occurring after the date of this presentation or to reflect the occurrence of unanticipated events.

In addition to the financial statements presented in accordance with generally accepted accounting principals, AutoZone has provided metrics in this presentation that are not calculated in accordance with GAAP.

For reconciliation of these metrics, please see AutoZone's press release at the investors relations section at www.AutoZone.com.

Mr. Odland, you may now begin.

Thank you to everyone for joining us today for AutoZone's, 2003 third quarter fiscal conference call.

With me today are Mike Archbold, Senior Vice President and Chief Financial Officer and Brian Campbell, Director of Investor Relations.

I hope you've had an opportunity to read our press release and learn about our strong results.

If not, the press release along with the slides complimenting today's comments are available at our website, www.AutoZone.com, click on investor relations to see them.

We're pleased to report another record quarter today.

The third quarter continues our tend of record sales, record EBIT, record EBIT margin, record cash flow, and record earnings per share, even against another strong performing quarter in the prior year.

This quarter, we reported a 2.8% comparable sales increase on top of the 9.5% increase from last year, and a 36% increase in earnings per share on top of 71% increase last year.

For the quarter, total sales increased 5.2% from a year ago to $1.288 billion; same store sales, as I said, were up 2.8% consistent with our previously announced mid quarter results.

And during the first couple of weeks of this quarter, our fourth fiscal quarter, retail comps have strengthened and the AZ Commercial trends have continued from the third quarter.

During the third quarter, our average ticket was up more than our customer count.

Gross profit for the quarter as a percent to sales increased 2.23 percentage points to 46.48%.

Net operating expenses were 29.3% of sales down 0.1 percentage points, resulting in a quarterly operating margin of 17.2% versus the 14.9% experienced last year.

Net income was $126 million or 9.8% of sales generating earnings per share of $1.30.

Included in that $1.30 number is a 2 cent per share noncash charge for EITF 02-16.

So without that noncash charge, our earnings per share would have been $1.32.

We'll address the impact of EITF 02-16 later in the call.

Our strong earnings growth and disciplined capital management resulted in a record return on invested capital for the trailing four quarters of 22.3%.

Now, let's turn to the DIY, or the retail sales.

For the quarter, total retail or DIY sales were up 1.8% for the business.

Same store sales were flat.

Now, it's important to note here that this marks very strong performance considering that last year this quarter we enjoyed 8.6% retail same store sales with a balance between customer transactions and average ticket.

This quarter, we were able to keep the sales generated during that period last year and successful at maintaining our tremendous growth from last year into this quarter.

This was not an easy accomplishment, and it's extremely encouraging to us to see that the initiatives being executed are continuing to pay great dividends into this year's financial results.

Our sales performance has been amazing, considering we've only opened about 100 stores each in the last two fiscal years, and we haven't made acquisitions since calendar year 1998 to impact our comps.

So we haven't had the benefit of all those new stores or acquired stores in the numbers this year.

We continued to successfully build sales in this core business.

We have tremendous growth opportunities going forward as we continue to focus on innovation.

Advertising and merchandising programs continue to be the primary drivers of our volume.

We have followed up on our extremely successful "Get In The Zone" radio campaign with complimentary successfully tested television messaging.

This is the first time since early 2001 that we've been on television.

More focused ethnic opportunities also have offered growth opportunities for us.

Our introduction of higher gondolas on every other aisle in our stores enables us to keep our merchandise fresh and compelling and creates departments within departments, so people can explore and see all the different various items we have on display.

Our front end sales growth continues to be strong with the innovative "Red Zone" and continued new merchandise introductions.

More recent initiatives include the new "Truck Zone" and our line extensions into tools.

We've made a commitment to establishing a good, better, best delineation for most hard parts categories.

And we continue to build and extend our Value Craft and Duralast brand.

Also our store refresh program, along with our hub store opportunities continue to make us excited about the possibilities for the future.

So for the trailing 12 months, sales per square foot were up 4% to $263 per square foot and continue to set the pace for the rest of the industry.

New store productivity also continues to improve.

We opened 31 new stores in the quarter and closed one for a total of 3,152 stores.

Year to date we've opened 92 stores and I'm pleased to announce that we expect to open about 160 new stores in the total fiscal year and close nine for F '03 for a net of 151 new domestic stores this year.

We really have wonderful opportunities ahead of us and we're excited about our future and we're going to focus to put all of these opportunities in motion.

Now, turning to the AZ Commercial business.

AZ Commercial sales in same stores increased 29.7% this quarter while total commercial sales increased 31.3%, as we continue to execute our game plan.

On a trailing four quarters basis, the AZ Commercial sales were $636 million.

We now have the commercial program in 1,942 stores supported by 110 hub stores.

I'm pleased to announce that we expect to grow our base of hub stores to approximately 150 over the coming year.

Our hub stores continue to provide us with fast replenishment of critical merchandise to support both our commercial and DIY businesses.

And we have committed much focus on AZ Commercial program over the past year, continued to have success developing our sales force, developing customers around existing stores, adding new local and chain accounts and implementing our new hub stores.

We have focused our efforts on local customers around each store as well as chain accounts with equal vigor and have been successful in cultivating relationships by utilizing our national reach and our message.

Being the only chain to have national store coverage of company owned and operated sites, we are able to have the right parts in stock to supply in chain customer and exceed their customer service expectations.

These facts prove themselves out over the past quarter as we agreed to team with Midas to take over logistics infrastructure.

With just under 1,700 locations nationally for Midas, we will service their stores with weekly replenishment orders as well as have an opportunity to expand on our "Just In Time" or "Hot Shot" business.

The replenishment orders will begin in this coming fourth quarter, the quarter we've just started, and the transition will continue throughout the balance of this calendar year.

With only 1% of the commercial sectors business, AutoZone has tremendous opportunity to gain market share.

In an industry that the Automotive After Market Industry Association, or the AAIA, states is a $47 billion industry and is growing at 5% a year, we're really confident in our model.

We're excited about the opportunity to grow and add shareholder value over time.

In Mexico, our Mexico stores continue to do very well in the quarter, even with the continued peso fluctuations and the economic uncertainties there.

We open two stores during the quarter, which gives us now 43 stores in Mexico.

Again, that's small compared to the 3,152 in the U.S.

Our ongoing commitment in Mexico remains to prudently and profitably grow that business.

Now, turning to the gross profit line.

Gross profit for the quarter was 46.5% of sales, up 2.23 percentage points from the prior year.

Roughly 122 basis points of the improvement in gross profit are directly attributable to our continued category management effort.

We've been very successful in partnering with our vendor community to offer the right products at the right prices to our customers.

This effort includes supply chain initiatives, tailoring the merchandise mix, price negotiations, adjusting prices where appropriate, et cetera.

We're working harder today than ever before in creating an absolutely exciting Zone.

The most exciting Zone for consumers to shop.

The remainder of the gross profit improvement, or about 101 basis points is driven by the reclassification of vendor funding from SG&A to gross profits.

As we said previously, we have made these reclassifications in accordance with the new accounting pronouncements regarding classification of vendor funds.

We'll go into more detail later.

Our focus on expense control has shown great results as well.

SG&A for the quarter was 29.3% of sales down 0.1 percentage points from last year.

We are pleased with our continuing progress in controlling expenses, even though we seek room for continued improvement in the future.

First, the adjustment for credits previously recognized in SG&A and now reported under cost of goods, represented an increase to SG&A expenses of 121 basis points.

So without that shift from gross, SG&A would have improved to 28.04% instead of the reported 29.26%.

We continue to show leverage of store level expenses.

At the store support center, we gained leverage from controlling staffing, salaries and IT spending.

We have also been effectively managing our medical and insurance costs on an ongoing basis.

Advertising costs net of vendor co-op were down versus last year, even though our advertising region frequency continues to increase.

And, as I mentioned, we returned to television in the quarter for the first time in a couple of years.

Our business does show some seasonality, therefore it's really important to note that the sequential quarter performance will vary.

This fourth quarter that's upcoming, it is important to note, I really want to reiterate that this year the quarter is 16 weeks long versus last year's 17-week quarter.

The financial comparisons need to reflect the difference of that 53rd week.

Additionally, we recognized 3 cent EPS gain due to the early repayment of an outstanding note due to us from TruckPro.

EBIT for the quarter was $222 million, up 22% from last year.

EBIT margin was up 2.33 percentage points to 17.2%.

This is the best quarter EBIT margin performance for any quarter in our history.

And this marks the best year to date EBIT performance in our company's history with continued improvement in our sights.

Interest expense for the quarter was $19.4 million compared with last year's level of $17.4 million.

The increase is a result of our issuance of long term debt during the quarter along with an increase of total debt outstanding by $160 million.

The total debt balances are unchanged in proportion to our cash flow.

For the quarter, our tax rate was 37.8%, down slightly from the 38% level of last year.

Net income in the quarter was $126 million, up 23% over the prior year and earnings per share for the quarter were $1.30, up 36% on 96.8 million shares diluted.

Now, I'll turn it over to Mike Archbold to take us through cash flow, share repurchases and the balance sheet.

Mike?

Thanks, Steve and good morning everyone.

In this quarter we generated $205 million in cash flow reflecting seasonal working capital needs before we repurchased 4.2 million shares of our stock for an aggregate $285 million.

Of that $285 million, $166 million was actually purchased directly on the balance sheet during the quarter.

The remaining $119 million was purchased under forward agreements that were settled during the quarter.

For the trailing 12 months, we generated $562 million of cash flow from $981 million of EBITDA, which was used to purchase $731 million of our common stock.

Since the inception of our share repurchase program, we have bought back 70.2 million shares at an average price of $38 per share.

We continue to focus on improving return on invested capital.

For Q3 of F '02, we achieved on a trailing fourth quarter basis 17.2% ROIC, or return on invested capital.

For the third quarter of this year we report yet another improvement to 22.3%.

Our relentless focus on ROIC underscores our belief that it is the best indicator of the creation of shareholder value over the long-term.

Turning to the balance sheet highlights, gross inventories are up 16% versus the prior year.

However, as previously discussed, we maintained our inventory per store at levels lower than the first and second quarters while also reducing net inventory per store versus the previous quarter.

Regarding our inventory position, we purposefully increased first quarter inventory levels to improve our parts coverage and we told everyone this in advance.

We followed up by committing to hold inventory levels per store sequentially flat.

For both the second and third quarter of this year, we were true to that commitment.

In fact, inventory levels were actually down slightly.

Lastly, our inventory additions have been largely financed by vendors with little risk to AutoZone.

Finally, I just want to reiterate our goal is to ultimately achieve 100% accounts payable to inventory ratio over time.

Additionally, we're committed to our mandate of achieving a 15% after tax IRR on all projects.

Therefore, all the inventory supporting our stores, no matter how quickly or slowly they sell, will not be added unless they can achieve that hurdle.

Total working capital was up only $10 million from year ago levels to $34 million and was less than 1% of trailing year sales, equal with the prior year.

Our continued focus on working capital reflects our focus on cash flow management.

Additionally, we introduced our vendors to both a vendor AR factoring program to reduce their cost of borrowing as well as our new pay on scan opportunity.

The pay on scan program was introduced to our vendor community back in January.

Essentially the program is designed around having ownership and inventory management of the merchandise reside with the vendors until it is purchased by the ultimate consumer.

This initiative encourages AutoZone and its vendors to focus on taking costs out of the entire supply chain and ultimately growing customer sales.

The program continues to gain momentum with our vendor community and we have already begun to sign up vendors.

Continuing down through the balance sheet, net fixed assets were down 1.2% versus last year.

Capital expenditures -- pardon me.

Capital expenditures for the quarter totaled $37 million and year to date are $99 million.

Depreciation and amortization totaled $25 million for the quarter.

We opened up 31 new domestic stores during the third quarter after opening 30 stores in the second quarter.

During the third quarter of last year we opened up 19 new stores.

Our debt at the end of the quarter -- at the end of quarter three was 1.42 billion, an increase of $169 million or 13% from the prior year level of 1.251 billion, due to our increased cash flow, which provides the additional debt capacity.

We will continue to manage the adjusted debt, which includes the leases, to roughly two times our EBITDA.

Debt continues to be an important and strategic part of our capital structure.

It significantly lowers our blended after tax cost of capital as equity costs are in the mid teens while debt is in the mid single digits.

Shareholders equity actually declined slightly reflecting the repurchase of $731 million of our common stock over the past four quarters.

With these trends, our EBITDA to interest coverage is now 11.8 times for the trailing 12 months compared with 9.6 times last year and adjusted debt to EBITDA is at 1.9 times down from 2.0 times last year, excluding the restructuring and impairment charges.

As of May 10, 2003, AutoZone continues to be one of the only players in our industry to have investment grade debt ratings.

Our senior unsecured debt rating from Standard & Poor's is triple B plus and we have a commercial paper rating of A 2.

Moody's has assigned us a senior unsecured debt rating of BAA 2 and a commercial paper rating of P2.

At the end of last week, S&P changed their outlook to stable from positive.

We are extremely comfortable with this outlook and feel that the triple B plus position is exactly where we want to be regarding our long term debt ratings.

Our return on equity on a trailing four quarters basis is 70.9% versus 44.4% in the prior year.

Summing up, we've reduced our invested capital by $4.5 million.

Our financial model is stronger than ever as we've continued to increase earnings and cash flow.

Lastly, as Steve mentioned, I want to talk about the emerging issues task force.

As required during the quarter, we reflected the new accounting standard emerging issues task force issue 02-16, which is accounting by a customer including a reseller for cash consideration received from a vendor.

Under these rules, there's a presumption that amounts received from vendors should be considered a reduction of product costs.

Previously, some vendor funding was sometimes considered a reduction of selling general and administrative expenses.

Now, all vendor funds will be considered as a reduction of costs of goods, as new agreements are entered into or are modified.

Therefore, a portion will be deferred in inventory and will reduce the cost of goods sold upon sales similar to our existing conservative practice for volume rebates.

Let me reiterate, this pronouncement in no way impacts the way we run our business or our negotiations with our vendors.

It simply reflects a noncash affect for a new accounting pronouncement.

Based on the timing of the issuance of the pronouncement and the guidelines, AutoZone was precluded from adopting issue 02-16 as a cumulative affect change in accounting principal.

Had AutoZone been permitted to do so, the cumulative affect adjustment -- permitted to adopt the cumulative affect, as of September 1, ' 03, which would be the beginning of our fiscal year, the annualized impact would have been approximately $25 million pre- tax or 16 cents per share based on the third quarter share count.

Of that $25 million, or 16 cents per share, $2.6 million or 2 cents per share was reflected in the third quarter.

While the timing of the recognition for the remaining amount will depend on the timing of the modification of vendor arrangements, it's anticipated that a significant portion will be recognized in the fourth quarter of fiscal ' 03.

Without the impact of the new accounting, in Q3, EPS would have risen by 38% to $1.32 per share.

For all of 2003, it is estimated that this would have resulted in roughly a 270 basis point shift from SG&A to gross.

That's what Steve mentioned before it which was it reclassified vendor financing from SG&A to gross.

As you may recall, we have previously indicated an SG&A target of 20% of sales over the next couple of years.

Even with this reclassification of 270 basis points, we are revising the target to 30% of sales as we continue to see opportunities to leverage our SG&A.

Now I'd like to turn it back to Steve.

Thank you, Mike.

Now, I'd like to make some comments on the outlook for the rest of fiscal 2003.

While we generally decline to give specific guidance on future sales and earnings, we continue to believe that our business model has strengths in both strong and weak economies.

We're very pleased with the results thus far in F '03 and we've done well even against our peak comparisons from last year.

The sales we've experienced to date continue to be driven primarily by our advertising and merchandising efforts as well as our expansion in the AZ Commercial business.

We believe that we have many initiatives that will help us continue to grow same store sales over time, but we budget conservatively to make sure we maintain our expense discipline and deliver solid returns.

One thing to point out, as I said before, in the first couple of weeks of this quarter, our retail sales have strengthened and AZ Commercial trends have continued.

I just want to clarify one point that I think people might be confused on as well.

We've put out some interim guidance at eight weeks into the third quarter, and I just want to point out that the results in our sales in the last four weeks of the quarter were just right on, precisely consistent with the results that we were experiencing to that quarter -- to that point in the quarter.

So there's been no change in the back part of the quarter in our sales results.

Our opportunities continue to expand our commercial business is vast.

It leverages our infrastructure and drives incremental EBIT dollars with very little incremental investment and should be accretive to our historic high ROIC of 23% that we've experienced in the last four quarters.

We continue to have opportunities to expand gross margin in coming quarters driven by supply chain leverage, mix of business and improved pricing.

Additionally, new programs like our pay on scan initiative will help to create stronger vendor focus on sales.

At the same time, we are dedicated to reducing our expense ratios in the future even as we continue to increase advertising and marketing spending.

Our objective over time is to get back to the more favorable SG&A levels experienced in past years.

As noted previously, the new accounting for vendor funding is estimated to cause a shift of roughly 270 basis points, but even so our SG&A long term goal is 30%.

Repurchasing stock is a key tool in managing our capital structure, as Mike said, and we will continue to repurchase stock as long as we believe it's accretive.

Lastly, I want to point out that this company is never satisfied with the current results.

We've identified many future opportunities for both sales growth and expense management across all of our primary businesses, but we will execute to generate continued shareholder value.

We will be relentless.

Again, we don't give specific earnings guidance because we're not managing the business to any specific target as that could actually inhibit our performance.

So in lieu of that, we will work to deliver our best results every single day and do our best every single quarter for our shareholders.

Also yesterday, I just want to comment that we made an announcement that the Board of Directors has elected Jim Postl as a new Outside Director of AutoZone.

Jim is the former President and CEO of Pennzoil Quaker State company.

Prior to that he served in various senior management positions as Nabisco, PepsiCo and Procter & Gamble.

We're excited to add him to our board.

His industry expertise at Pennzoil Quaker State is clearly a supplier to AutoZone, industry expertise and experience will serve us very well into the future.

In summary, we continue to be excited by the progress we've made in the past quarter and year to date.

We're confident in our ability to grow AutoZone well into the future.

AutoZone is the clear leader in this industry and we have a great plan and a wonderful team to execute it.

We're focused on operating this company to profitably grow sales, efficiently deploy capital and maximize long term shareholder value.

Now I'd like to open up the call for questions.

Thank you.

At this time if you would like to ask a question, please press star followed by one on your touch tone phone.

You'll be announced by name prior to asking your question.

To withdraw your question, please press star followed by two.

Once again to ask a question, please press star followed by one.

Your first question comes from David Schick and please state your company name.

Hi, good morning.

Legg Mason.

I have two questions.

First, you went over it very briefly could you talk more about the details of the retirement of that TruckPro note and the impact, whether you were talk being this quarter or next quarter?

Secondly, could you break down category of sales a little bit for us?

You've talked in the past that the added inventory at the DIY level has come in the good and good, better, best spread.

Could you talk to us about where the comps are above flat right now or maybe where they have accelerated even beyond that now in the last few weeks?

Thanks.

Okay I'll take the first part.

In terms of the TruckPro note.

When we sold TruckPro, as part of the proceeds we received a long term note which we had previously disclosed in all of our filings.

We had actually deferred recognition of that note.

And what's happened now is they have done very well and they have actually come back and repaid that note.

So, we had not previously recorded that note, so it creates a gain for us which was about 3 cents per share that was reflected in the third quarter results.

Turning to the inventory piece?

Yeah, in terms of the break down in category of sales, we don't give specific comps by category, but it's safe to say that the sales that we've experienced in the third quarter have been balanced around the store, both in the hard parts area as well as in the front of the store.

We have experienced a general strengthening of the retail trends in the first part of this quarter as you noted.

Again, that's been pretty balanced across the entire store.

The commercial trends have continued as well.

Thanks a lot.

Thanks, David.

Thank you.

Your next question comes from Reed Anderson and please state your company name.

Piper Jaffray.

Can you hear me okay?

Gotcha, Reed.

New store openings, could you just expand a little bit?

Looking at the fourth quarter, give us a sense of the timing.

Will most of those be back end loaded, spread through the quarter?

Also, preliminary thoughts on next year's square footage growth, please?

I'll take that.

In terms of the store opens openings, they are fairly spread.

As you can imagine, our peak time is the end of the summer.

They will be somewhat skewed towards the end.

Spread throughout but skewed slightly towards the end of the quarter.

And then in terms of the future what we're at now is roughly a 5% square footage growth.

We have said we can continue to grow at 5 or 6% into the future.

We think that that is an appropriate amount for the industry leader in a growing healthy sector such as this.

Let me ask one follow-up.

Steve, you commented favorably about advertising and the impact of television and so forth, and yet comps still are a little sluggish.

Are you comfortable kind of with the mix of advertising or are you still tweaking that a little bit or have you seen some recent data that suggest you're getting some good traction with consumers?

We're seeing great traction on the advertising.

Advertising is something you have to keep going.

It can never become static.

The best advertising is always something you're changing and freshening all the time.

But what we do is we test things constantly and we're testing new media, testing different weights and so forth.

We have a pretty good idea before we do something in the marketplace exactly what the results will be.

That's the way with television.

We've been pleased with radio and use radio as our primary medium. 2/3 of the people listen to the radio in their car so it's an effect I have medium of getting the word out there during drive time.

In terms of television, we're starting to talk about the cool things we're doing in the store the new products we've got.

That allows us to reach an even broader audience, some of the younger audience, sort of the fast and furious crowd.

That's the sort of advertising we supplemented with.

We just began that, Reed, in the back end of the quarter here.

The advertising takes a little time to build.

Listen, we're real pleased with this media and its future ability to grow our business.

That's great.

Thank you.

Thank you.

Thank you, your next question comes from Brett Jordan.

Please state your company name.

Advest.

Good morning, a couple of quick questions.

I got on pretty late.

You probably went over this already.

Could you give us an average price paid for the shares repurchased in the quarter and a little more call on the pay on scan, how that has been adopted, what the visibility looks like as far as getting vendors on the program?

Let me take the pay on scan initially.

Pay on scan is a new notion that we've introduced to the industry.

The primary reason for pay on scan is essentially having vendors retain title to the inventory that's in our network until it's sold and obviously scanned out of our stores.

One of the things we want to make sure our vendors are really focused on is the end sale to the customer.

You know, it's not a sale if they got a purchase order from AutoZone and they pack it into our warehouse.

I think the focus has been in getting it to our warehouse rather than getting it through to our customers.

Through our category management efforts, we're really focused on trying to build sales to the consumer and encouraging our vendors to advertise, market their brands and help pull consumption through.

That's really what happens in most other sectors of retail.

And with the $60 billion worth of undone maintenance that's out there annually every single year, it's clear that we can leverage consumption.

So, the pay on scan is an initiative that we've launched to do that.

It's going to be a very slow, multi-year kind of effort in the transition, and we're going to do so in a way that doesn't hurt, of course, our vendors.

But I think what it's done is it has galvanized the industry to focus on end sales through the register rather than packing a supply chain.

The other question was average price paid on shares?

Right.

During the quarter we purchased 4.2 million shares at an average price of roughly $68 per share.

One last question and I'll pass it along.

As far as following up on the last question as far as advertising affect on this.

In the DIY comp number did you give some color as far as a break out of hard parts versus DIY accessories, the focus on undone maintenance would seem to drive hard part sales?

Yeah.

Our advertising has really driven good balance of comps across the store and that's continued into this quarter.

I think it's really important to point out that, you know, we probably have six or eight different ads on the air talking about things that are in the front part of the store, things that are in the back part of the store.

Because undone maintenance is all about things that are around the entire store.

It's not just about hard parts.

And so we think that our marketing and merchandising are really contributing to a good balance of growth around the entire store.

Thank you.

Thank you.

Your next question comes from Alan Rifkin.

Please state your company name.

It's Alan Rifkin with Lehman Brothers.

I have one question and a follow up, if I may.

With your steadily increasing accounts payable to inventory ratios, what kind of push back at all are you seeing from the vendor community?

That's a good question.

We have talked for the last couple of years about a long term goal of achieving 100% AP to inventory ratio, again, that's consistent with what we're also trying to accomplish with pay on scan, Alan.

That is, that we want people to focus not on inventory but focus on sales.

AP to inventory is just one of the tools we've used and we've improved that over time.

We're helping our vendors get there.

It's through our category management process that we're working on this.

We do it through making sure we've got the right inventory for store, for the mix of vehicles that are in the neighborhood, and we're constantly tweaking every single store.

With our state-of-the-art computer systems, we know when parts are looked up in the stores that we do have, as well as the ones we don't have.

So we can add and delete parts and move it around and so forth from an AP standpoint, Mike mentioned that we worked very closely with them to factor our payables.

It's very innovative concept I'm not sure is done very widely, if at all, elsewhere.

We've developed this facility where we will go and work with them with their banks to effect lower borrowing rates so they can achieve the kind of credit terms that they give us to drive the AP to inventory ratio.

In our way of helping to drive our ratios, we're helping them lower their borrowing costs.

So it's a great part of category management.

This is something we're going to continue to work on over time.

Okay.

And then one follow-up, if I may.

It's kind of a follow-up to Reed's question.

With 92 stores year to date and a commitment to close to 150 for the full fiscal year, that implies almost another 60 stores in the next nine or ten weeks or so.

Have any of those stores slipped?

Because I would have thought maybe from a seasonal perspective -- well from a seasonal perspective, I would have thought maybe more stores would have already been open for the "all important" spring selling season.

Just one last question, if I may.

I see the commercial stores on a sequential basis declined by a number of 12, which is still a pretty small number on your base.

Can you maybe provide some color as to what's going on there?

The new store openings are right on our plan.

These things -- in fact, I think we've opened a little earlier this year than we have the last couple of years.

They are opened as we can open them and construct them and in some parts of the country winter prevents from building stores and getting them ideally ready for the February-March kind of opening.

You've got to be able to get blacktop in and those plants are closed up in the colder areas.

A lot of it is somewhat seasonally driven as to when you can do it.

No, there's been no change and it's right on our plan.

We're going to open about 160 stores, Alan, this year, and close about nine for a net of 151.

I want to make sure that we're clear on that.

As it relates to the commercial stores, we continue -- I think I've talked about this in past calls, and it's important to note that we're never satisfied with the business.

We're constantly tweaking it.

Where we can, a commercial program doesn't take any investment.

You can open it up in the store.

If we've got a store a few miles down the road, sometimes we're able to move commercial customers to service them out of another -- one store and then not have a duplicated program in a store.

So those are the kinds of things that we continue to work over time.

So, this is basically no change in the number of commercial programs but, you know, clearly our focus is making sure we've got coverage for all the up and down the street customers as well as for the chain customers that we're adding.

So, it's a refinement.

We've got a pretty good idea of exactly how many bays or garages need to be in a certain area to make sure we've got optimal delivery times in order to generate and optimize profitability and so forth.

It's a pretty scientific approach to how we open and construct our commercial program.

Okay.

Thanks, Steve.

Thanks, Alan.

Thank you.

Your next question comes from Sid Wilson.

And please state your company name.

Mr. Wilson, your line is now open.

Why don't we move onto the next question.

Mr. Wilson, your line is now open.

Hello?

We've got you now, Sid.

You've got me now?

My question is can you give us some more color on how you're doing with the Midas stores in terms of bringing them on on a Hot Shot basis?

Yeah, that's a good question, Sid.

We completed the contract with Midas in the quarter and they announced the arrangement whereby they will be shutting down their supply chain.

To date, I want to point out there's been no transition made yet.

A lot of work has gone into how we will transition one distribution center at a time between -- they will start here in the fourth quarter and then proceed through the balance of this calendar year.

And so it will be a little bit at a time that we take over the stocking portion of the order which is a weekly delivery.

Then from a Hot Shot standpoint, or the daily replenishment of parts as they need them, we have the opportunity to get that business and compete for that business every single day.

Most of their stores are franchise operations and they are not obligated to buy from us.

We've got to be on our game and call on those stores.

We've experienced really good reaction from both the Midas corporate stores and the Midas franchise stores.

It's a great partnership and we're very pleased with some of the progress that we've got going on here.

But, you know, it's going to be a slow build over time as we begin to start stocking them.

Thank you very much.

Thank you, Sid.

Thank you.

Your next question comes from John Lawrence.

Please state your company name.

Yes, Morgan Keegan.

Hi, John.

Good morning.

Steve, would you comment a little bit about, if you look at the assortments and you look at the supply chain and initiatives you have there, how much of it is getting just the assortments exactly like you want them versus things like pay on scan, then I have a follow-up?

We continue to work on our assortment both to make sure that we've got the right mix of products for the right parts coverage for the DIY business as well as the commercial business.

And you know, that's an every day kind of a thing, John.

We're adding these chain accounts, they might have a little bit different mix.

If we add a chain customer who is really heavy on doing brakes, we need to make sure we've got better brake coverage in a store to service their stores and so forth.

This is something, we never rest on making sure that we've got the best assortment.

And we've got terrifically sophisticated systems that allow us realtime over the satellite to look at where the requests are and to customize the mix in the stores.

We move it around.

Through the hub and spoke system, if we have inventory we don't need in a certain store we can move it to another store.

It's a great dynamic system we have going on.

Would you comment on -- when you look at commercial accounts, some of the oldest commercial accounts that have been in place since the beginning, what type of I would say increases are you still seeing in some of those accounts?

That's a great question.

It's amazing to us how we can continue to build our business, even in some of the -- what you would consider to be mature commercial accounts.

That's because there's almost no such thing as an exclusive supplier to commercial customers.

They have a call list, first call, second call, third call, fourth call to suppliers, which they need to have in order to get the parts they need for the variety of cars that the technicians work on.

So, when we land a customer, begin selling to a customer, we start out further down on the call list.

So over time, over many years with a customer, we have found that we can continue to work our way up the call list and continue to gain share of parts with that customer.

So, it tends to be the type of thing where, you know, even as we're gaining customers today, we will continue to see a build over, you know, I don't even know how long but certainly a four or five-year period which is our experience with the AZ Commercial program so far.

I'm sorry, last question, give us a little progress on the remodel activity and what has that done for sales?

Yeah.

We announced last quarter that we're going to begin to refresh some of our older 10 to 20 year-old stores.

This is really a great retail model.

It doesn't require the huge amounts of capital investment in stores that some of the other retail concepts require.

In other retail concepts you have to put millions of dollars in a store every six or seven-years.

In our case what we're doing with the older stores is going back and refreshing them, giving it a fresh look on the outside with new paint which is just simply necessary for maintenance, replacing the counters and that type of thing.

But we have seen a lift in the stores that we've tested this in where we have refreshed them, as you would expect to get, as the stores age and tire, it's more refreshing to look in a store that's fresher.

We're going to do that.

It's going to be a three to five year program that we'll go through the older stores and paint them and freshen them up.

Not a large ramp up in capital.

For a modest amount we can have a nice impact.

All right.

Thanks.

Thank you.

And once again, as a reminder if you do wish to ask a question, please press star followed by one on your touch tone phone.

Your next question comes from Jonathan Steinmetz and please state your company name.

Morgan Stanley.

Good morning everybody.

Good morning.

You mentioned on the retail side I believe average ticket was up more than customer count.

I was wondering if you could give a little bit more color on sort of the flattish comp, what the magnitude of these was?

That's a good question.

They were really pretty close and we're talking about a matter of a couple of degrees.

On a flattish comp they are both relatively flat.

The important point here is that, you know, whenever you drive a great number of new customers into the stores as we did last year, during really all the quarters but certainly during the third quarter last year, one of the concerns will be will those customers come back.

In other sectors in retail you see the spikes and the spikes go back down into troughs.

That didn't happen here.

So, we're actually very pleased by the results and by our ability to hold our customers which means our people in our stores, the AutoZoners are doing a great job in filling the needs and bringing them back sequentially into this year.

So, would it be fair to say that the customer count was down less than like 2% kind of thing?

Yeah.

We haven't ever given specific numbers on the two.

They were both pretty balanced here.

Okay.

I believe you also said you wanted to increase the number of hub stores.

I'm wondering what, if anything, this would imply to the gross inventory levels?

We're at about 110 hub stores.

We said over the coming year we're probably going to increase it to about 150, which really rounds out our system.

You know, we have committed to holding our inventory per store levels flat from that one-time increase we had back at the beginning of the year.

We have done so.

In fact, both our gross inventory as well as net inventory per store levels have actually come down in the second and third quarters.

So, I think there might have been some confusion out there.

Someone said we had actually increased inventory when in fact inventory levels per store have come down in the last two quarters.

But you know, this is all financed by our vendors, so it's been another part of our category management process to try to make sure we've got the right parts in the right place.

We don't anticipate a significant change in our inventory driven by our hub store additions over the coming year.

Great.

Thank you very much.

Thank you and your next question comes from Jack Vallas, please state your company name.

Midwest Research.

I have a couple of questions regarding sales.

One is regionally speaking, geographically speaking, in some areas, for example the western region, were sales stronger in some parts of the country?

Yeah.

Thanks, Jack for that question.

We don't give exact numbers regionally, but we're pretty balanced around the country.

I think I said in the last quarter conference call that the sun will come out again and it will stop raining and I'm hopeful that will happen here in the next quarter.

Where we've had terrific weather, trends are slightly better than where people have been able to find their cars in snow banks in the quarter.

Other than that, the trends have been pretty normalized across the country.

Okay.

Looking ahead to fiscal 2004 in the commercial delivery business, as occurred with retail sales recently, when you're comparing in fiscal 2004 to about a 30% comp per sales gain in 2003, what then would be your expectations for sales in fiscal 2004 in commercial delivery?

Yeah, we don't give specific guidance but we've been very pleased by our ability since we began to focus on our AZ Commercial business over the past 18 months.

We've been pleased by our ability to grow that business at really accelerating pace.

We have a lot of activity in the queue to try to bring in new customers as well.

Sort of the question that John Lawrence asked, how do they mature over time.

We think that we can continue to grow with the customers, commercial customers over the long run.

So, you know, we're very hopeful and pleased by our ability to continue the growth rates in the AZ Commercial business.

Thank you.

Your next question comes from Matthew Fasler and please state your company name.

It's Saxon.

Good morning.

Good morning, Matt.

A couple of questions, if I could.

First of all, Steve, you mentioned your vendor factoring program.

Could you give us some insights as to how that works and ultimately how it helps and benefits you on the margin front?

I'll take take that one.

What we've done is worked with our vendors and to the extent that some of them are, you know, borrowing at high rates of interest and basically they will be asset,-based borrowers.

They may be going and setting up facilities with they are factoring their accounts receivable, if they are prime plus three or prime plus four for argument's sake.

What we're doing is saying you're factor receivables from AutoZone who is a significant customer to these folks at the same kind of rate.

If you work with the banks to actually establish a separate facility where you can discount your, or factor your accounts receivable from AutoZone, recognizing that AutoZone is an investment grade credit, that you can actually get a better factoring or discount rate on that financing vehicle.

So, that will turn from being a discount rate of prime plus three or four to something like LIBOR plus 175 when the banks look to see the credit of the underlying accounts payable.

So, we work with the vendors to say how do we improve your overall cost of capital and help them manage their balance sheet better, help them manage their cash flow better.

As part of that process as we go into the category and management process, we then say okay, now that we have executed that and provided you this additional flexibility and this improvement in your cost of capital, how do we work so that AutoZone is entitled to a portion of that whether that be in terms of the dating we would get on accounts payable or otherwise.

Gotcha.

Is that process dig out traction with your vendor base?

It has gained tremendous traction with our vendor base.

It's a dedicated line of credit set up with the bank focusing on the funds that will support your inventories?

That's correct.

Fair enough.

Second question.

Not to get into the realm of guidance, but let me take a shot at one question.

Over the past two years, certainly, your gross margin has increased quite nicely on a sequential basis from the third quarter or the May quarter to the fourth quarter which is the August quarter.

Any insights as to whether that's a seasonal trend that we should think about on a go forward basis or would you consider those not to really constitute a pattern?

There is a slight seasonal trend, as you know, to the business in general and certainly in our growth.

So we tend to see the fourth quarter uptick sequentially from the third quarter.

That's before the EITF adjustment.

Sure.

We'll see that EITF shift from SG&A to gross enhance that.

Gotcha.

One final cleanup question.

You made reference to 3 cents from the earlier extinguishment of the note related to TruckPro, which line would we find that in?

That's in SG&A.

Thank you so much.

I think we're out of time.

So we'd like to wrap things up here.

We do want to mention that we will be presenting during the coming quarter at the Credit Suisse First Boston conference and we look forward to seeing many of you there.

Thanks very much for participating in today's call.

Thank you this concludes today's conference call.

We thank you for your participation