汽車地帶 (AZO) 0 Q0 法說會逐字稿

This is the conference call to discuss AutoZone's second-quarter fiscal 2004 financial results.

Steve Odland, the Company's Chairman and Chief Executive Officer, will be making a short presentation on the highlights of the quarter.

The conference call will end promptly at 10:00 AM Central time/11:00 AM Eastern time.

Before Mr. Odland begins, the Company has requested that you listen to the following statement regarding their forward-looking statements.

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, the economy, inflation, gasoline prices, consumer debt levels, war and the prospect of war including terrorist activity, the availability of commercial transportation.

Please refer to the Risk Factor section on the Form 10-K for the fiscal year ended August 30, 2003 for more information related to these risks.

Actual results may materially differ from anticipated results.

AutoZone undertakes no obligation to publicly release any revisions to any forward-looking statements contained in this presentation 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 Principles, AutoZone has provided metrics in this presentation that are not calculated in accordance with GAAP.

For a reconciliation of these metrics, please see AutoZone's press release at the Investor Relations section at www.autozone.com.

Thank you.

Mr. Odland, you may now begin.

Thank you for joining us today for AutoZone's second quarter of fiscal 2004 conference call.

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

I hope you have had an opportunity to read our press release and learn about this quarter's results.

If not the press release, along with the slides complementing our comments today, are available at our Website at www.autozone.com.

Just click on the Investor Relations tab to see them.

We are pleased to report another record quarter.

The second quarter continued our trend of record sales, record EBIT and record earnings per share.

These records are since we became a public company in 1991.

This quarter we reported a flat comparable sales increase and 32 percent increase in earnings per share following last year's 36 percent increase.

For the twelve week quarter, we reported sales of $1.159 billion, which is an increase of 3.4 percent from the second quarter ended February 15, 2003.

Same-store sales or sales for domestic stores open at least one year were flat during the quarter, including minus 1 retail same store sales and plus 10 for commercial.

Gross profit as a percentage of sales for the quarter improved by 4.4 percentage points, while operating expenses as a percentage of sales increased by 3.0 percentage points.

This resulted in a reported operating margin of 14.5 percent, up 1.4 percentage points from last year.

Operating profit increased 14.3 percent over the prior year.

Net income for the quarter increased by 15.6 percent to $91.7 million, and diluted earnings per share increased 31.9 percent to $1.04 from 79 cents reported in the year ago quarter.

Our strong earnings growth and disciplined capital management resulted in a record return on invested capital for the trailing four quarters up 24.5 percent.

Now I would like to begin by talking about sales.

First, let us look at our retail or DIY business.

For the quarter, total retail sales were up 1.9 percent, while same-store sales were down 1.

This decline is very disappointing.

Speaking on behalf of AutoZone's CEO team, we are clearly not performing up to our aspirations.

Towards the end of last quarter, our Company began implementing some new initiatives that started to improve sales results.

The last four weeks of the first quarter we experienced comps of 3 percent over the prior year.

So we were encouraged by the beginning of this quarter.

However, we found our business momentums stalled in the month of January and the beginning of February.

We found ourselves maintaining the strength of our average ticket; however, our foot traffic deteriorated during this period of time.

During this period of time, much of our market area experienced record cold and snow, thereby suppressing store traffic.

We know that to drive foot traffic we need our marketing and merchandising efforts to be in full force, but we also know that to spend aggressively in the dead of winter just does not work in this business.

This is a seasonal low point for our sector when the cold whether tends to keep folks inside and not working on their cars.

So we begin our seasonal marketing efforts at the beginning of February with an aggressive campaign rolling out our new sponsorship with Jesse James on television.

These and many other efforts were intended to lead the season and did not make up for the January traffic losses.

Additionally, separately from the seasonal impact, our comps' results are affected by our average store age. (inaudible) stores were on average five years old.

Like some of our competitors, our comps this quarter would have been 5 percentage points higher.

Finally, we may have reduced inventory too far, taking out some significant noncore items for the off-season but not quickly adding fad-ish new items like scooters which have driven comps sales for us.

This is our core business, and we will continue to drive to reinvigorate our store traffic.

We have many growth opportunities as we continue to focus on relentless innovation.

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

Along with our ongoing radio campaign, we began to spend money this quarter on developing our brand through the use of television.

We have implemented more and varied messaging around regular car maintenance than ever before, and we have begun to be experiment with more promotionally driven marketing efforts to drive our foot traffic.

We stated in last quarter's conference call that we had tested these initiatives, and now we are beginning to implement our strategies.

The last two quarters of our fiscal year -- the next two quarters -- are our highest seasonal sales quarters, and we feel that our advertising campaign is well poised to take advantage of the season ramping up of the business.

Next I would like to talk about our innovation efforts surrounding new product.

We are testing over 100 new programs and initiatives throughout the Company.

These programs focus on the basics -- service, availability, merchandising, advertising.

These programs surround things such as breadth and depth of coverage in hard parts and extensions into other product lines.

We expect these programs to have near-term sales results.

With their critical importance on the future results of our Company, I have asked Mike Longo, who was previously in charge of retail, commercial and ALLDATA for us, to focus only on these growth initiatives.

We have entitled him SVP of Growth Initiatives.

Including Mike, we're putting our best people in place to focus on future growth.

Our continued focus on marketing opportunities toward younger customers, especially with regard to making our stores a cool place to shop, has shown continued results.

In this regard, as we said, we signed Jesse James on the Discovery Channel's Monster Garage television show to become a company spokesperson.

We're very excited about the younger customer base that we will be able to reach by using Jesse James.

The feedback we have received regarding the ads has all been very positive, and in testing the recall and persuasion, results equaled or exceeded any ads we have run recently.

Our ongoing focus on target marketing opportunities have proven growth opportunities.

For example, along with advertising during Tom Joyner's morning show, we have renewed our arrangement with Sabado Gigante television show, which reaches our Spanish-speaking customers.

We are also very excited about the agreement with NASCAR to be the title sponsor of the NASCAR AutoZone Elite racing series.

This series covers 51 races and includes over 250 driving teams today.

It is a great opportunity to reach a dedicated audience of DIYers and those fans that follow the sport.

As the country's second most watched sport, NASCAR offers a wonderful opportunity for us to attract new customers to our stores.

More recent initiatives also include the new TruckZone.

We now have TruckZone in roughly 300 stores and ultimately anticipate the majority of our stores can benefit from this new merchandising effort.

And we continue our strategy of establishing a good, better, best delineation for most hard parts categories.

For example, this past quarter, right at the end of the quarter, we completed the rollout of ValueCraft drums and rotors and a brand new line of ValueCraft belts.

These additions helped to fill in gap coverage we have had in our good or entry-level category in these segments.

Additionally, this upcoming quarter we are adding a new line of proprietary branded friction products to the best category line as one more example of our relentlessly creating the most exciting zone.

We will continue to extend our ValueCraft and Duralast brands were prudent.

Today AutoZone proprietary brands represent greater than 50 percent of our sales, making AutoZone the exclusive place to get some of the most recognized brands in the business.

We also recently added our new Duralast tools to the stores.

These are professional grade handtools that are currently being marketed to the DIYers.

These tools we believe represent an exciting opportunity for us.

With the success of the early launch, we will continue to add more SKUs to the offering in the future.

This quarter, for example, we just added a whole set of screw drivers.

And after only just a couple months in the stores, Duralast tools will already have increased category same-store sales.

We continued to expand sales in many new chemicals and accessories areas this quarter, including our opening price point ValueCraft motor oil, ValueCraft filters, and an ensemble display that coordinates seat covers, maps and steering wheel covers.

We have also expanded the number of vendors doing business with us on pay-on-scan.

We have signed up vendors who by year-end will represent hundreds of millions of dollars of inventory with AutoZone, and Mike Archibald will take you through more on our efforts in this area later in the discussion.

We experimented with weekend promotions to remind folks to do more of that $60 billion in annual undone maintenance that is not being done today.

Also, our store refresh program, along with our ongoing (inaudible) store opportunities, continue to make us excited about future sales prospects.

Last quarter we remodeled approximately 200 stores and expect a total of 160 more to be completed through the end of this fiscal quarter.

Once the program is complete, we expect to have touched approximately a thousand of our total stores or about a third of the chain.

We're committed to keeping our stores up to our vision of the most exciting zone for vehicle solutions.

We should begin to see the improvements from these remodels in all of our initiatives in the coming quarters.

For the trailing four quarters, sales per square foot were up 1 percent to $264 a square foot, which continues to set the pace for the rest of the industry.

New store productivity continues to improve.

We opened 40 new stores in the quarter for a total now of 3299 stores across 48 states.

Year-to-date -- for the fiscal year, we plan on opening 195 new stores.

Let me reiterate, we have not performed this quarter up to our aspirations in sales.

While our stores continue to be the most productive in this space, we remain dissatisfied with our recent growth, and we hope to improve the growth in our retail side of the business for the remaining two quarters of fiscal 2004.

Now let us turn to commercial.

For the quarter, total commercial sales were up 12 percent from last quarter.

Commercial sales in same stores increased 10 percent this year as our business posted its 14th consecutive quarter of double-digit growth.

We now have the commercial program in 2048 stores supported by 115 hub stores.

This is a higher store count with the commercial program than last year as we have expanded the program in just the past few weeks.

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

We continue to focus on the commercial program, and we continue to have success developing our salesforce, developing customers around existing stores, adding new local and chain accounts and implementing new hub stores.

This quarter's commercial results were a little adversely impacted by the completion of the Midas chain rollout.

Remember the last Midas distribution center was closed at the end of November.

So our effort to carefully take responsibility for managing the Midas supply chain continued to consume our resources this past quarter.

But now that we are through this very important transition period from Midas, we can again turn our attention to developing business with other customers.

Last month we created a separate reporting structure for the commercial business.

Steve Handschuh, previously President of NAPA Auto Parts, joined us to lead this effort.

As Steve is just getting started with the Company, he has already begun to put in place some of his key initiatives.

We are very pleased to have him as a member of our team.

Still with only about 1.5 percent of the commercial sector's business, AutoZone commercial has significant opportunity to gain market share.

We are growing significantly faster than the market, and we have considerable untapped potential.

We have the opportunity to add more late-model parts, however, to fill in the gaps in our line while still managing our overall inventory levels.

This sector is highly fragmented, and we are already the third-largest player.

In an industry that the Automotive Aftermarket Industry Association or the AAIA states is a $48 billion sector in growing at 4.8 percent per year, we are confident that our model can continue to grow and add shareholder value over time.

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

We opened five stores during the product, which now gives us 55 stores in Mexico compared with the 3299 in the U.S..

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

Gross margins for the quarter was 48.7 percent of sales, up 4.4 percentage points as we said before.

But 2.6 percentage points of the increase was driven by the change in classification of vendor funding from SG&A to gross profit due to the implementation of EITF issue 02-16.

Excluding that, comparable gross margin was actually 46.1 percent versus 44.3 percent last year.

So the remaining 1.8 percentage point increase in gross was directly attributable to our continued category management effort.

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

This effort includes supply initiatives; tailoring merchandise mix; the implementation of our good, better and best product range segmentation; shifting responsibility for warranty, etc..

We continue to work harder today than ever before in creating the most exciting zone for vehicle solutions.

We believe that there are continued margin expansion opportunities, but albeit at a slower pace than the previous couple of years.

These efforts have been on the forefront in our industry, and we feel we continue to have opportunities in working with our vendors to provide the best selection of merchandise to our customers at the right prices.

We also continued our multiyear effort to move liability up the supply chain to our vendors where the costs are lower.

This is more efficient for the industry.

This quarter's efforts resulted in no pre-tax gains in operating profit; however, we expect to continue future opportunities in warranty.

Turning to SG&A, SG&A for the quarter was 34.1 percent of sales, which was up 3 percentage points from last year.

The adjustments for credits previously recognized in SG&A are now reported under cost of goods.

Again, EITF 02-16 represented an increase in SG&A of 2.5 percentage points.

Therefore, excluding this accounting action, SG&A would have actually been up 49 basis points from the year ago.

These additional onetime expenditures that accounted for that 49 basis points related primarily to the refreshing of approximately 200 stores along with the cost of opening new stores and 62 additional commercial programs.

These expenditures drove, as I said, the remaining unfavorable comparison.

We refreshed the stores during our off-season so that they are ready to be ramped up for the season, and we expect to see the benefits of these expenditures, which came at the end of the quarter over the coming two quarters.

Our refresh program has been tested, and the results are terrific.

They exceed our after-tax internal rate of return threshold of 15 percent.

We showed leverage of store level expenses, and at the store support center, we gained leverage from controlling staffing, salaries and IT spending.

We have also been affected by managing our retirement, medical and insurance costs on an ongoing basis.

Store payroll and full-time part-time ratios have been continually manage appropriately to reflect the seasonal demands of the business, and we believe that payroll spending is at optimal levels.

Advertising costs net of cost were once again down versus last year throughout the quarter, although our advertising reach and frequency continues to increase as we roll out our television campaign this quarter.

Our gross advertising outlays will increase in the second half to drive sales, but we expect the underfunding to cover the increase.

So EBIT for the quarter was $169 million, up 14.3 percent.

EBIT margin was up 1.4 percentage points to 14.5 percent.

This is the best second quarter EBIT performance in our history.

With the ability to grow profitably, we continue to see possibilities to improve our gross margins and SG&A as a percentage of sales in the future.

Interest expense for the quarter was 21.9 million compared with 19.6 million a year ago.

Debt outstanding at the end of the quarter was 1.787 billion versus last year, and over the quarter, our debt levels increased in line with our goal of maintaining debt levels in line with our guidance of 2.1 times our trailing 12 month EBITDAR.

At the end of last quarter, we did not manage up to that guideline, so this quarter we did.

We are very pleased with our ability to lock in rates last year at historically low levels, and we have the wonderful privilege of being a company that generates far more cash flow than our capital expenditure needs.

We are a Company that discriminately issues debt to appropriately manage our capital structure, balancing the more expensive equity component with the historically achieved debt.

We have purposely managed our capital structure relative to cash flow in order to maintain our credit rating at investment grade.

For the quarter, our tax rate was 37.5 percent, down from 38 percent last year, and we expect to be able to run this percentage for the remaining quarters of the fiscal year.

Net income for the quarter of $91.7 million was up 15.6 percent over prior year.

Earnings per share for the quarter were $1.04, up 32 percent on 88.6 million diluted shares.

Now I will 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.

This quarter we regenerated $40.3 million of operating cash flow and bought back 4 million shares for a purchase price of $337 million.

We continued to focus on ROIC.

For the first quarter this year, we reported another improvement to 24.5 percent, up from last quarter's 24.0.

Our relentless focus on ROIC (inaudible) along with EPS growth are the best indicators of creation of shareholder value over the long run.

Turning to the balance sheet.

Inventories were down slightly versus the prior year, while our overall sales grow.

Additionally we continue to maintain our inventory per store at levels lower than the first quarter of last year.

Our gross inventory per store is now down to 443,000 versus last year's 471,000.

We intend to hold inventory roughly consistent with quarter one levels over time, which is a little bit higher than where they are here.

Our net inventory per store was reduced even more.

Recall net inventory is how we refer to net inventory less Accounts Payable, and that was down even more from 140,000 per store to 81,000 per store.

Net inventory actually decreased in total by almost 40 percent this quarter versus the same time last year.

Additionally we improved our net inventory turns in the quarter based on the ending inventory levels to 11.8 times from 6.9 times last year.

Accounts Payable as a percentage of inventory increased to 82 percent from 70 percent last year, and I want to again reiterate our goal, which to achieve 100 percent Accounts Payable to inventory over time.

We achieved this level of Accounts Payable through working with our vendor community, extending programs by vendor factoring and pay-on-scan.

We are proud of our results thus far and will utilize these programs on an ongoing basis in order for us to achieve that stated goal of 100 percent.

Total working capital was down $105 million from year ago levels to just $2.5 million in working capital.

Continued focus on working capital reflects our focus on cash flow management.

The factoring program continues to be very popular for our vendor base. 7 percent of our vendors are currently on the program, and they represent approximately 23 percent of our Accounts Payable outstanding.

This program has been very very successful for AutoZone.

Additionally we continue to work with our vendors on both the vendor factoring program to reduce their cost of borrowing, as well as our new pay-on-scan initiative.

The pay-on-scan initiative was introduced last year to our vendors.

Essentially the program is designed around having ownership and inventory management of merchandise reside with the vendors until shortly before 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.

We have signed up many vendors thus far in pursuit of our goal to have all our vendors on the program in the future.

In our conference call last quarter, we mentioned we were going to get final SEC approval for our treatment of pay-on-scan or POS sales and inventory.

I am pleased to inform you that we have received that approval.

And regarding the handling of the sale, the gross amount of the sales and the cost of goods sold will both be reported, and the inventory an Accounts Payable related to all inventory on pay-on-scan will be removed from our balance sheet going forward.

Secondly, I would like to talk about the quantity of vendors that we currently have on pay-on-scan today.

We have been successful at signing up vendors representing hundreds of millions of dollars of inventory that we hold on hand at the moment.

Therefore, with the accounting treatment now SEC approved, we expect to report to you next quarter much less inventory on our balance sheet.

Net fixed assets -- turning to net fixed assets, they were actually up 4 percent versus last year.

CapEx for the quarter totaled $40 million.

Depreciation and amortization totaled $24 million for the quarter, which was down slightly driven by the continuation of assets primarily purchased during the acquisitions of Chief Auto Parts (ph) and PepExpress (ph) back in 1998 and 1999, so that is just becoming fully depreciated.

Just as an example, in 1998 we purchased Chief Auto Parts (ph) with 500 retail locations.

The fixed assets in those stores depreciated on average over five years.

Therefore, starting in fiscal '03, many of those assets became fully depreciated, which reduced our depreciation expense.

Turning to our debt.

Our debt at the end of the quarter was $1.787 billion, an increase of 447 million from the prior year level of 1.34 billion.

This was due to the additional debt capacity afforded by the increased cash flow.

We continued to manage our adjusted debt, including leases to roughly 2.1 times EBITDAR as Steve mentioned earlier.

With those trends, our EBITDAR to interest coverage is now 12.2 times for the trailing 12 months compared with 11.7 times last year.

As of February 14th, 2004, AutoZone continues to be one of the few players in our industry to have an investment grade credit rating.

Our senior unsecured debt rating from S&P is BBB+, and we have a commercial paper rating of AA.

Moody's Investors Service has assigned us a senior unsecured debt credit rating of BAA and a commercial paper rating of PP.

We continue to be very comfortable with our long-term ratings, as well as our leverage ratios.

Shareholder's equity declined reflecting the purchase of our common stock over the past four quarters.

Our return on equity for trailing four quarters was 111.4 percent versus 56.7 percent in the quarter last year.

The financial model is strong, and we've continued to increase both earnings as well as cash flow.

Lastly, I want to take a minute to talk about the EITF 02-16.

This is the ruling that many of you will recall generally requires all vendor funds to be offset into cost of goods sold, and we needed to reflect that beginning January 1, 2003.

This results in EPS being lowered temporarily versus the previous treatment as there is a delay in recognizing those vendor funds.

We have continued to implement that on an ongoing basis, and we have broken that out for you on the press release so you can see the effect of the reclass as well.

But this pronouncement in no way impacts the way we run our business or our negotiations with our vendors.

It's just the non-cash effects of the new accounting pronouncement.

This ruling stipulates timing as to when previously received vendor funds can be recognized into income.

The total income (inaudible) expected from EITF was estimated last year at $25 million with $10 million recognized last fiscal year, and we continue to be on track with recognizing the remainder of that this year.

For all of 2004, it is estimated this will result in roughly a 270 basis point shift from SG&A to gross.

As you may recall, we have previously indicated an SG&A target of 28 percent over the next couple of years.

The reclassification of 270 basis points would increase that target to 30.7.

But as we continue to see opportunities in SG&A, we have established a revised target of 30.0.

With that, I would like to turn it back to Steve.

Thank you, Mike.

As we have said before, our business model performs well in both strong and weak economies.

However, our sales results over the past quarter have been disappointing.

We were not able to drive incremental store traffic in the quarter, but as we have discussed, we have implemented many new programs right at the end of the quarter to tick off our new season which is beginning now.

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

Our opportunity to continue to expand our commercial business is vast.

It leverages our infrastructure and drives incremental EBIT dollars with little incremental investment and will be accretive to our historic high ROIC of 24.5 percent.

We continue to have opportunities to expand gross margin driven by supply chain efficiencies and mix of business.

Additionally the new programs like pay-on-scan will help to create stronger vendor focus on sales.

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

Repurchasing stock is a key tool in managing our capital structure, and we can continue to repurchase stock as long as it is accretive.

Our industry-leading results continue to show that AutoZone is a tremendous cash generator, which has enabled us to add shareholder value over time.

We don't give specific earnings guidance because we are not managing the business to a specific target as that could actually inhibit performance.

So, therefore, we are going to work as hard as we can to deliver our best results everyday.

In summary, while not satisfied with our sales results this past fiscal quarter, we are proud that we continue to demonstrate industry-leading financial results.

Being an extremely disciplined financial planning company, we have proven our abilities to manage cost appropriately.

We are confident in our ability to profitably grow AutoZone well into the future, and we are focused on operating this company to profitably grow those sales, efficiently deploy capital, maxim shareholder value while maintaining the highest level of ethics.

Now I would like to open up the call for questions.

(OPERATOR INSTRUCTIONS).

David Schick.

Good morning.

Legg Mason.

A few questions.

First, the remodeled stores or the retouched stores.

Could you talk about in a little more detail about the sales improvement that you have seen in that return on capital calculation?

Yes.

We have talked about the refresh program that we tested several months back.

This is a program whereby it takes our thousand stores that are 10 years old and older, and we go in and it is paint, new counters, floors and so forth.

It would look like general maintenance to other companies, but we are really going through and sprucing them back up.

Our test results show terrific same-store sales reaction to that.

So we then stepped-up the program and did a large number of stores really right at the end of this past quarter in the dead of winter, and that is why you see some expense right now during this period of time.

We are happy to get that out of the way and have our stores spruced up and ready to go now for the start of the season.

Okay.

Secondly, you mentioned the tools category showed an improved comp because of some of the additions.

What are the worst category comps?

If you could break down just even trendline, in particular the ones that are most affected by the traffic slowdown?

Yes.

Remember, we had a pretty good quarter coming into January and February here when anybody in the Northeast knows that it was record cold and snow.

Our customers fix their care outside, but they don't like to go lie in the snow at 0 degrees to do that.

So the kinds of categories that suffered from that were the kind of categories that you would do when it is warm out, so the maintenance kinds of categories, which we think have been deferred.

Now unfortunately as we have said before in this industry when maintenance is deferred, it does not all come back.

But we do hope that when the snow melts and the flowers come up that people go back and do some of that deferred maintenance.

To quick final comments.

If that happened, did that affect mixed shift which positively affected core gross margins?

So if we see that come back even not at catch-up but just come back, would that affect gross going forward?

And then lastly, could you talk about with real actual inventory -- not worrying about the AP ratio -- with inventory down this much, can you see comps improve in the third quarter?

Thanks.

Yes.

The gross margin increases have come largely from mix changes and the addition of our good, better and best lines.

I think that has been a little bit misunderstood.

It is not pricing that is driving our growth.

We believe that we have got our products appropriately priced.

But when we do add the entry-level lines, which are important for price perception as well as in expanding the better and the best lines, you do see some ability to add to the growth.

The gross margin is pretty consistent across the store except for commodities.

So any seasonal changes don't seem to have that impact on the gross margin.

Our inventories are down.

We probably have taken them down too far here, so we're in the process of ramping them back up for the season.

So, as we do that, we expect for that to help our same-store sales in the next couple of quarters.

It may have actually -- we may have gone down a little bit too far in this last quarter, and that may have negatively affected sales a little bit.

Thanks.

Frank Brown.

SunTrust Robinson-Humphrey.

Could you all talk some about the commercial comp?

We saw a 24 percent increase in the fourth quarter and then 17 percent in the first quarter and then 10 percent in the second quarter.

Are you seeing increased competition there, and also could you just talk on the increase in the number of stores and how the commercial program -- where that might go to?

The commercial program grew for us double-digit rates now for the 14th consecutive quarter.

Last year, in the second half of the calendar year, we had really been consumed by taking over the Midas supply chain.

That was a huge undertaking.

I don't think people realize what a great job AutoZone has done on this thing.

We have added over about 1700 stores, which means that we have added 1700 deliveries per week or a 50 percent increase in the number of weekly deliveries that we are making from our distribution centers without at all affecting our own in-stock condition and certainly doing so in a way that has really pleased Midas.

So we were very cautious as they shut down those eight distribution centers and we ramped up all their stores that we do that right and service that customer very well.

And I think I think that that really has consumed us up to this point, so the sales growth is off just slightly as a result of that.

We anticipate being able to refocus now on developing new customers going forward.

Just as a follow-up on that, the Midas business, wouldn't that be a positive in terms of the comps versus the prior year, and where would you expect a steady-state comp target for the commercial business to fall out?

I think it was positive certainly for the Midas business.

I don't know what a steady-state comp is.

We don't give guidance on sales and earnings going forward.

But after 14 consecutive quarters of growth and we know is a strategically advantaged program and now with the leadership of Steve Handschuh coming from NAPA, we anticipate being able to strongly grow this business going forward.

About two-thirds of the chain has the commercial program now.

Is there any change in thinking of what percentage ultimately has that program?

No change in thinking.

But it is a good point that we did add a lot of stores right here at the end of the quarter, again to prepare ourselves for the season, which starts now.

So that was part of that incremental expense that we put through in the last quarter right at the end here.

Evan McCormick.

Gerry Marks.

Just two quick questions.

First of all, could you give us an idea into how much of the inventory that came out came from (inaudible), shifting the inventory off their balance sheet from pay-on-scan?

The pay-on-scan effect on inventory this quarter was very small, Gerry.

Not only that, FTC's agreement on the accounting treatment, you will see the impact in the coming quarters.

Okay.

And then the second question I had is I was under the impression for the next couple of quarters that we are going to be getting an impact from Midas by about 2 cents a share, and that seemed to go to zero.

I am just wondering what is going to happen there.

Impact from what again, Gerry?

From Midas.

EITF.

I am sorry.

You are saying Midas and then you are saying EITF.

The EITF impact we said would be about $15 million for the entire year on a pre-tax basis.

That is pretty much spread out throughout the year.

Right.

But we did not seem to see an impact at all in this quarter.

How come we did not see that?

No.

What we are doing is we are not showing that separately.

We are really just focusing on the reclass, and basically we are eating the impact of the implementation of EITF in our recurring numbers.

So it is just not that significant a number.

We are just trying to make sure that we can show the classification impact on gross margin.

It is fair to say, though, you take that $15 million and spread it over the four quarters, and that is a onetime hit for -- its percentage in this quarter is a onetime hit.

So you are not thinking about it appropriately.

Gerry.

Okay.

So basically what you are saying is you are not breaking it out anymore.

It is in there, and that difference we won't be able to come up with an impact number?

It is in there.

We said it was $15 million for the year, so you can straight line that.

John Melano (ph).

Putnam Investments.

You just had a question for you.

With the Midas situation behind you guys, could you talk to how you have seen the commercial trend for you throughout the quarter as you got that behind you?

Also, have you started to see any impact at all this quarter?

It sounds like things will still take a little while to get going this quarter from the DIY programs that you put in place.

Thanks.

Thanks, John.

We just wrapped up implementation of Midas towards the end of last calendar year.

So we are just completing it and now turning our attention.

Steve Handschuh has been onboard for a few weeks.

So we really did not see great variation in the commercial sales, but we are confident that the commercial sales can grow strongly into the future.

We don't give guidance on the DIY side, but I will tell you that best stores are ready for the season.

We have put a lot of effort as we covered in the presentation, a lot of effort in preparing the stores and some extra costs frankly and some investment right here in the last six weeks or so to making sure that those stores are ready.

So our issues have been since the beginning of the year in the dead of the winter here, and we are confident that going forward here that we are going to be able to recoop some of those sales, and we are hopeful that these programs that have all been tested, and that our very strong programs that have begun to be implemented will demonstrate their effect.

Does that conclude your questions, sir?

Bill Sims.

Smith Barney.

Good morning.

Thank you.

I have three questions for you.

The first one I just want to applaud you for expanding your store refresh effort.

In that regard, I was wondering what is the bottleneck?

How did you choose 200 stores for the quarter?

Is that is that from a human capital perspective all you are able to do, or is there some greater metric you look at to see the magnitude of stores?

And then is there an issue of whether can you expand your refresh effort beyond the thousand stores, and in that regard, what is the cost per store to refresh these stores?

That is question number one.

I think there were five questions.

Yes, I know.

Yes.

There are good questions.

The refresh, we are very pleased with this refresh program.

The number of stores we are simply trying to get a good chunk in in the off-season and during the winter when we did not have a lot of customers in the wake of that, that affects the ability to sell negatively, so we want to get them out of the way.

What we're trying to do is go through these stores that are 10 years old and some of them are as old as 20, 22 years old, and spruce them up and make them look like our current AutoZone prototype, which is very important.

We are getting good lift when we do that because we know that we have a very strong prototype that when fresh performs extremely well.

So that is the effort.

The thousand stores are the stores there are 10 years old and older, and I think that what you will see is that when we finish those that we will then begin to get after the stores that are still the oldest.

Our objective here is to always have all of our stores in tip-top condition, and we are just spreading it out over time as we can manage it.

The cost is really pretty modest here.

I don't think we have given a specific number, but we said that over time it will just contribute a couple of percentage points to our total capital budget.

Question number two, if I understood you correctly, you were said you were testing a more promotional advertising campaign.

In the past, I did not think that pricing or promoting a product based on price was a major driver of auto part demand.

I have also heard concerns that there may be a little bit more price deflation creeping into this industry at the retail level.

Can you comment on pricing?

Are you seeing less inflation like you have seen in the past, and is that deflation creeping in on any product category?

No, we are not seeing any price deflation going on.

What we have experimented with -- and I think you're absolutely right.

There is price promotion and price declines just simply don't work in this industry, particularly in the hard parts area.

The kinds of things that we tried and tested to various degrees are on the oil side and some on the commodity side where we will run oil change specials out there for a weekend for a very short term period of time.

Again, more towards trying to drive that $60 billion in undone maintenance and drive all the store traffic.

So that is the reason for some of this testing.

But, you know, frankly, what we have learned in our testing is that price reductions don't work.

You don't drive incremental traffic.

You don't drive incremental ticket.

And so despite all of the industry's attempts to try these things, we have tried them and measured them again and will continue to try different things, it does not work.

So we've got to focus on growing this business and growing it through tapping into that $60 billion in undone maintenance.

My final question is a question I believe has been over-asked, so I apologize for asking it again.

There has been a lot of discussion about the industry growth rate, and a number of your competitors are out-sourced in the AAIA for the growth rate.

And two of your competitors suggest that the industry is growing by 1 to 2 percent a year, and another one of your competitors suggested it has grown at 4 percent year.

Can you help us clarify what is the industry growing out in relation to what you are doing in terms of sales performance?

No, I think it's a real good question.

We don't have great data in this industry compared to a lot of other industries, and I think that is frustrating for all of us.

We don't have quarterly data or weekly data either, so we get it in the annual number.

And over time, the number in parts, in DIY, and in retail has been about 4 percent over time, and I think that there are variations week to week in that.

Certainly in the dead of winter, depending on what goes on, you are going to see variations on that, too.

Remember all of us are on slightly different reporting timetables, too.

We are not on the quarterly calendar, so our second quarter here laps over into the beginning of February.

But I think that the key thing here is that AutoZone will grow market share.

We have grown marketshare every year since we have been a company period, and that is our intent going forward.

Any week-to-week, we don't have visibility to that.

But over the course of this year and over the course of next year and going forward, our intent is to grow marketshare.

If I can just slip in one last question, and then I will hang up.

One of you competitors suggested that national branding goods have a materially lower product failure rate than private-label goods.

The suggestion is that as you shipped your mix from national branded to private-label, you are going to get a higher return, and there is going to be a higher expense associated with it.

Is there any reality to this statement, or in fact, are returns and failure rates fairly steady across the national brand and private-label?

Remember that everybody sources their private-label from different specs and different manufacturers.

AutoZone's private-labels are as good or better than any branded products out there.

That is our spec, and that is our intent.

So our failure rates are actually lower on our private-label than some of the branded products.

Obviously that varies over time and so forth, but we are real pleased with our Duralast and ValueCraft brands.

Those brands are lab-tested and dyno-tested on a dynonomitor (ph) in order to prove the quality.

We make sure that all of our manufacturers are the highest quality manufacturers.

In many cases, most manufacturers are producing the same product, and they go on in OE -- go into the OEs and gone a brand-new car, and then at the end of the line, they go into RBOC (ph).

So I think there is a lot less difference particularly in the U.S. today among the quality of the manufacturers.

But it is really dependent on where everybody sources their parts.

AutoZone, Duralast and ValueCraft brands are exceptionally high-quality brands.

John Lawrence.

Morgan Keegan.

Steve, would you comment on the flow of same-store sales at DIY through the quarter?

Yes.

As we have said, our quarter here lasts over into this calendar year and ended on February 14th.

In the last quarterly conference call, at the end of our first quarter, we talked about some strength that we saw as the quarters were bridged.

That is true.

We saw that following the end of the calendar year in the January and early February period when particularly the Midwest and the Northeast experienced their record snow and cold we saw our store traffic fall off.

Now our average ticket stayed great, so those people who came into the stores were buying just as strongly and were terrific customers.

But our traffic fell off, and that is not atypical in dead of the winter in those markets where people just simply cannot get there.

We have lots of school closings and all that.

We usually don't talk about the weather because we are national,and it tends to leverage and average out over time and across the United States.

But I think in this one particular period, we just do need to call it out and point it out.

Any comment as to what you think that cost you in comp?

It would really be hard to say.

I would hate to hazard a guess on that, but it did not help.

How is that?

Secondly, can you just remind us talking about the advertising program on a scale basis, how much on a gross dollars, how much more of an investment in the advertising are we seeing with this new television?

Well, television is obviously a big investment.

So as we have just begun this television campaign to kick off the season, we are going to be putting gross advertising dollars in the places higher than we have seen before historically.

Now we have tested that in markets over time.

We have told all about the testing that we have had and how we have measured it.

So we know it pays out when we put it into place.

So we pay out the gross dollars, and this increase is significant.

We do pay it out.

But the great thing about this business and our vendor community is that they want to be a part of that and our vendor funding pays for all that increase.

So it does not show as an increase to our SG&A in order to drive the effectiveness and the levels of our advertising.

Thanks.

Brian Knoef (ph).

FTN Midwest Research.

Most of my questions have been asked so far.

I have a couple of follow-ups, though.

Would you guys say that the back half of February comp sort of did pick up from what you saw in January or pickup from the end of the quarter, or is it still too early in the season in terms of why they are to see that pickup that you are sort of expecting in the third quarter here?

And also, as a follow-up to that, did you see strength in products you would expect to do well during very cold weather -- like battery, antifreeze and even winter wiper blades?

Those are my only questions.

Our quarter ended February 14th.

So during the last six weeks of our quarter, again January and the beginning of February, it was when we experienced the dead of winter here.

So we did not see any difference during that time period, but it is important to note that that is the dead of winter.

We did invest in the beginning of the advertising program the store refreshes, the new commercial programs, and getting ready for the season, which is what we needed to do.

So we are ready.

The season is beginning now, and we are going to be there, and our intent is to grow this business going forward.

Again, in terms of mix, there is not a gross impact across most of these categories.

Other than commodities, our gross tends to be fairly constant around the store.

Thank you.

Matt Fassler.

Goldman Sachs.

It is actually Jacob Gross on behalf of Matt.

I just have a few questions.

One on TV.

If you could just comment on the timing of TV ads, when they hit and what sort of impact you are seeing?

Yes.

The ads were tested in the fall.

We have a whole new ad campaign, and this is not atypical.

At the beginning of each season, we kick off new radio, new television, but we do I think a terrific job at AutoZone of developing those ads in advance, testing them in the marketplace so that we know what their results can be.

So we completed all that, and we just launched those campaigns in the beginning of February here in order to lead our season here by a couple of weeks.

So brand-new, on the air, if you turn on virtually any radio station and any TV station, we are there.

We are, again, trying to get people when they are ready to come into our stores and to take care of that $60 billion in undone maintenance.

So they are terrific, and they are funny ads, too.

Yes.

We have actually heard and seen them.

Thanks.

Good.

Thanks.

Secondly on warranty, I was wondering if you could comment a bit more?

You had indicated that there was no impact in the quarter, which is different from the previous quarter and at the end of last year.

Does it imply any pushback from vendors or any philosophical change on your part?

Jacob, it implies no change in philosophy, and it implies no pushback from the vendors.

We have continued to execute here as we have talked about, as we get vendors to give us full right of return.

What can happen with the warranty is it will fall off in "lumps" as I have described them.

When those occur, we do break them out so that you will be able to see them and back them out.

We do continue to get to benefit of having previously shifted warranty to our vendors, which in essence benefits our gross because we no longer have to fund our warranty reserve for shortfalls in that reserve, and we also continue to get the tail off of vendors who have taken the warranty benefit going forward.

So no change in philosophy, no pushback from vendors.

We continue to have our goal of getting all of the warranty pushed back and ultimately be on the vendors who were the ones manufacturing the defective product in the first place.

Thank you and finally my last question.

At the end of your prepared remarks, you mentioned that you were lowering your SG&A target I think from 30.7 to 30 percent on an adjusted basis.

At the same time, we heard what I would characterize as a reinvestment into capturing costs -- to capturing comps rather.

I was just wondering if you could reconcile the two concepts?

We are hearing a lot about new initiatives, but then you are actually lowering your expense target.

Actually that was not a new announcement.

We have been saying that over the past year since we implemented EITF 02-16.

So that was just a repeat of what we have said, which is that on a restated basis our SG&A would actually be at 30.7 percent in target, but we actually lowered it 30 percent for our ongoing target.

Most of the reinvestments that we have seen here -- we talked about this in the context of the second quarter during our off-season, during the dead of winter, and we are trying to explain the SG&A for this quarter and why we did it in the off-season rather than doing it when customers are trying to get in the stores.

So that is a timing flow in the quarter, and the advertising and so forth is going to be covered.

The gross advertising increase, which there will be, will be covered by vendor funding increases, and so net net there is not an impact on SG&A.

So hopefully that gives you a little color on that.

It does.

If I could just follow-up.

Are you guys prepared to sacrifice some of your industry-leading margins to reinvest back into the topline growth, or are you trying to balance the two?

You know we are doing everything that we want to do in our business.

Every topline initiative that we have is tested and proven, and we will do every topline initiative.

We will go after every sales dollar that we think that we profitably can.

But as we talked earlier in the call, just simply cutting price does not work in this sector.

We are a really unique retailer in that regard.

In virtually every other retailer, that would work.

Here it doesn't work.

Therefore, to just cut prices indiscriminately and give away growth and destroy shareholder value would be reckless.

So we want do that.

We intend to make every investment that we know of and drive this topline appropriately, and that is going to work better in some times of the year than other times of the year.

It certainly did not work in the last six weeks, but that is the way we are going to go.

We are aggressive marketers and merchants in this business.

We have been the industry leader in innovation since we have been a public company, and that is what we are going to do well into the future.

So great question and we appreciate it.

Thank you very much.

I appreciate it.

Since there are no more questions, we would like to ramp things up.

Thanks very much for participating in today's call.

Thank you for participating in today's conference.

You may disconnect your line at this time.