汽車地帶 (AZO) 2007 Q1 法說會逐字稿

Good morning and thank you for standing by.

As a reminder, today's conference call is being recorded.

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

And your line has been placed on a listen-only mode until the question-and-answer segment of today's conference call.

This is the conference call to discuss AutoZone's first quarter financial results.

Mr. Bill Rhodes, the Company's President and CEO, will be making a short presentation on the highlights of the quarter.

The conference call will end promptly at 10:00 a.m.

Central Time, 11:00 a.m.

Eastern Time.

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

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

Forward-looking statements typically use words such as believe, anticipate, should, intend, plan, will, expect, estimate, project, positioned, strategy, and similar expressions.

These are based on assumptions and assessments made by our management in light of experience and perception of historical trends, current conditions, expected future developments, and other factors that we believe to be appropriate.

These forward-looking statements are subject to a number of risks and uncertainties, including without limitation, competition, product demand, the economy, the ability to hire and retain qualified employees, consumer debt levels, inflation, weather, raw material costs of our suppliers, energy prices, war and the prospect of war, including terrorist activity, availability of consumer transportation, construction delays, access to available and feasible financing, and changes in laws or regulations.

Forward-looking statements are not guarantees of future performance and actual results, developments, and business decisions may differ from those contemplated by such forward-looking statements, and such events could materially and adversely affect our business.

Forward-looking statements speak only as of the date made, except as required by applicable law, we undertake no obligation to update publicly any forward-looking statements, whether as a result of new information, future events, or otherwise.

Actual results may materially differ from anticipated results.

Please refer to the risk factor section of AutoZone's Form 10-K for the fiscal year ended August 26, 2006, for more information in light of those risks.

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 on the Investor Relations section at www.AutoZoneInc.com.

Mr. Rhodes, you may now begin.

Good morning, and thank you for joining us today for AutoZone fiscal 2007 first quarter conference call.

With me today is Bill Giles, Executive Vice President and Chief Financial Officer, and Brian Campbell, Vice President of Investor Relations and Tax.

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

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

Please click on Quarterly Earnings Conference Calls to see them.

To begin, I would like to thank our entire organization for their efforts towards living the pledge in 2007.

Our first quarter marked another record sales in earnings per share quarter.

We began this quarter hosting our Annual National Sales Meeting here in Memphis for our entire senior field management team.

The theme centered around delivering on our commitment of trustworthy advice, and profitably growing our DIY and commercial businesses, all supported by our commitment to ongoing AutoZoner training.

We also reviewed our successes and opportunities from the past year, while following with a review of our initiatives for 2007.

I cannot overstate how excited we were to get going in 2007.

Our leadership took those messages to every store AutoZoner in subsequent weeks, by holding local sales meetings with every single AutoZoner.

I personally attended several of the store manager sessions, and came away inspired and enthused by the commitment of our AutoZoners to our plan.

We continue to believe that we are well positioned for continued future growth, growth in sales and earnings.

Fiscal 2007 will be about continuing to improve our customer shopping experience.

It will be about profitably growing commercial sales.

It will be about growing operating profit dollars, all while optimizing our return on invested capital.

We will continue to be exemplary stewards of capital for our stockholders.

As in past quarters, I will start with comments on our overall financial results, and then go into detail regarding our DIY sales initiatives, commercial initiatives, and Mexico.

Then Bill Giles will provide a review of our P&L for the quarter, discuss our cost management initiatives, and summarize both our balance sheet and cash flow statements.

Finally, I will provide a few closing comments before we proceed to Q&A.

Regarding the first quarter, for the 12 weeks ended, we reported sales of $1.393 billion, an increase of 4.1% from last year's fourth quarter.

Same-store sales, or sales for stores opened greater than one year, were up 0.3% for the quarter.

At this time, I would like to speak to sales trends throughout the quarter.

As many of you will remember, we spoke to you summarizing our fourth quarter sales, fourth quarter results right at the time gas prices began to decline.

In fact, the prices at the pump came down to approximately $2.20 a gallon, versus where we started at $2.85 a gallon.

Naturally, lower gas prices are beneficial to our core customers.

But as we have seen historically, we didn't experience an immediate benefit to sales.

We believe the consumer is still uncertain of the sustainability of these declines, and is continuing to recover from the impact of the increases.

Keep in mind this is only one attribute impacting sales.

There are several others.

Most of which are controllable by us, such as merchandise assortment, which I will speak to a little later.

Gross profit as a percentage of sales for the quarter was up 20 basis points, while operating expenses as a percentage of sales, decreased by 46 basis points.

This resulted in an operating margin of 16.0%, up 67 basis points from last year's quarter.

Operating profit increased 8.6% versus the prior year.

Net income for the quarter was $124 million, and diluted earnings per share increased 16.4% to $1.73, from $1.48 in the year-ago quarter.

Our continued disciplined capital management approach resulted in return on invested capital for the trailing four quarters of 22.3%.

We have and will continue to make investments that generate returns that significantly exceed our cost of capital.

We have not and will not deviate from our efforts to optimize shareholder value over the long-term.

We continue to be fiscally prudent with our investments, while optimizing our earnings per share.

Now I would like to talk about our DIY sales results.

Total domestic retail sales were up 3.9% for the quarter.

During this quarter, we continued to focus on driving sales and profits for the long-term.

Our customer research results over the past year continue to reaffirm what we have always known.

Our customers shop with us because we provide them with trustworthy advice.

Our customers have told us to focus on the basics, which are incorporated within our AutoZone pledge to both our customers and fellow AutoZoners.

First, I would like to speak to the themes we have established for our organization to drive retail, and for that matter, commercial sales for fiscal 2007.

It starts with our customers and their interaction with our AutoZoners.

For that reason, we continue to challenge our AutoZoners to make sure they are living the pledge.

We began this effort, hosting regional town hall meetings for our store managers.

At those meetings, we spoke to our store-specific marketing surveys through direct customer feedback using internet surveys, we have been able to identify opportunities to further improve customer service.

While we have been talking over the last year about how our survey results show continual improvement, we wanted to communicate those findings to our store AutoZoners in order to improve.

One example of our learnings has been around underperforming stores.

More specifically, our survey results have and continue to help point us in the direction of those stores that have opportunities for improvement.

Improvements in appearance, service levels, and merchandise availability.

With these learnings, we are focused on raising the profits of our underperforming stores.

While this is only one example of our learnings to date, it's a combination of many ideas that we believe will continue to make us the destination for our customers' vehicle solutions.

Additionally, some of our stores needed to be refreshed.

At the beginning of last year, we began a more extensive program to refresh the appearance of our stores.

Over the last several months, we have intensified this effort.

In fact, starting in the fourth quarter of last year and continuing through the second quarter of this year, we are refreshing over 700 stores.

This not only improves the shopping experience for our customers, but it further communicates to our AutoZoners that our stores must always look great.

While maintaining an eye on the bottom line, we think we are doing the right things for the future of our business.

For all of 2007, our focus on living the pledge will be continually built around ongoing training for our AutoZoners.

From systems training to WITTDTJR training, aka, what it takes to do the job right training, to inventory management training, we will not rest on our laurels.

We understand when our customers tell us we are a high-touch, high-service business.

We understand that this training is a difference-maker for AutoZone.

We continue to challenge our AutoZoners to become ASE certified.

In fact, I am extremely proud to say this past quarter, more AutoZoners took the test than at any time in our history.

We now have over 6,800 certifications held by our AutoZoners.

The numbers keep increasing, a great accomplishment, but we aren't finished.

Let me update you on our zNET electronic parts catalog at this point.

By the end of December, all our domestic stores are expected to have this new software.

Training our AutoZoners on the appropriate use of the software is essential to its success.

The software was designed to improve the customer shopping experience through faster times to complete a transaction, literally, fewer screens and less key strokes.

Additionally, this new tool puts tremendous amounts of part, product, and repair information at the fingertips of our AutoZoners, and makes it available to our customers.

Our AutoZoners are telling us they like what they see.

While we are cautious to say our new system will lead to immediate sales improvements, we believe it is definitely a way to improve the customer shopping experience.

Continuing to focus on improving our customer satisfaction results is essential for our continued success.

Everything we are doing is to create differentiation between AutoZone and our competitors in the eyes of our customers.

To this end, I would like to address how we assess our retail sales results in light of these increasing survey results.

In fact, it would be easy to ask with these markedly improved customer responses, why haven't sales jumped more meaningfully?

The answer to that question, we believe is time.

While we are fully aware our scores are a wonderful barometer for sales, they don't directly correlate to immediate sales.

With the average customer shopping our stores three to four times a year, we believe it will take some time for this momentum to build.

While we want to be cautious on establishing any targets, as we believe this effort is simply core to our business, we are encouraged by what we are hearing so far.

Our second focus for this year will be product assortment, and more specifically, refining our hard parts assortment to reflect the relevance of our customers' demands.

While I had talked in detail last year regarding our store reset efforts, this is only one part of our plan.

The store resets were focused on resetting the sales force of over 3,000 of our stores.

And from all indications, that effort has been a success.

However, another very important part of the plan is hard parts assortment.

With the data we have collected over the last year and a half, we have further insight into what true customer demand is than ever before.

It is from those insights that we began late last year and continued this quarter, with our new merchandise assortment tool for our entire hard parts assortment.

We know the demand for hard parts is starting sooner and sooner in the life cycle of vehicles than ever before.

We are seeing today demand for parts on cars with model year 2007.

While seven years and old still represent the apex of the demand curve on most product life cycles, the tails are extending further.

This is important for both our retail and commercial businesses.

During the first quarter, we added merchandise in several key lines, but we have a majority of the lines still to complete.

The timing of these methodical changes in assortment are being driven by our new and enhanced line review process, and lead times required by our vendors, to create the products necessary to fill our demands.

We are confident we will be well-situated with our category updates for our spring and summer selling seasons, quarters three and four.

We are also committed to growing of our brands.

We continue to expand coverage of merchandise under the Duralast nameplate.

This exclusive brand of high-quality parts and products, provides us with a key point of differentiation.

Along with our efforts around our import initiative, the successes of this program have only just begun.

And I am proud to discuss the recently-launched television campaign, focused on our strong reputation for service to support those products customers can get only at AutoZone.

We are excited the campaign will not only build awareness, but demand.

Our feedback continues to show our customers view our AutoZoners as a key reason for shopping in our stores.

Regarding macro trends, as we have previously discussed, during the first quarter gas prices declined approximately 20% from last quarter's average price.

While AutoZone cannot control gas prices, we believe we have initiatives in place to help mitigate the negative affects.

We also believe there comes a point when pent-up demand for certain hard parts drives consumption.

We certainly feel with more cars on the road than ever before, our ability to grow sales remains strong over the long run.

Regarding miles driven, we saw September show improvement, versus the downward trend seen April through August.

Unfortunately, October and November's data is not yet available.

We feel September's increase in miles driven versus the previous year was correlated to lower prices at the pump.

Let me reiterate.

The two statistics we have always felt had the closest correlation to our market growth, miles driven, and the number of seven years old and older vehicles on the road.

During the first quarter, we estimate that weather had a modestly negative impact on our sales, due to an earlier-than-normal cold spell in certain sections of the country, and then pronounced warmer, wetter weather across much of the country.

This had only a moderately negative impact.

Again, we don't like to spend considerable time focusing on the impact of gas prices or weather, because neither is controllable by us, and weather impacts will normalize over time.

We do monitor these situations to ensure we are providing our customers with the advice and products they need, to maximize their vehicle's performance.

We continually build marketing messages around our ability to help customers save money during these times.

We believe over the long-term that as we execute our initiatives, we will overcome any affects of gas prices or weather.

Regarding pricing across the industry, we have not seen any material change in the competitive landscape.

Overall, consumer price inflation in Q1 was in the low single-digit range.

Finally, we have been updating all of you over the last several quarters on our inventory levels per store.

At $503,000 per store, versus $501,000 per store last quarter, the increase has primarily come from additions to our hard parts categories.

We are determined to invest in one of the most important drivers, to both attracting and retaining our customers' superior parts coverage.

We will continue to leverage our hub stores to ensure we have the parts and products our customers need while optimizing our returns.

We will continue to focus on having the right merchandise available by individual store, to satisfy our customers.

This will continue to be a major focus for our merchandising team, and we believe we have initiatives in place to deliver improvements for the remainder of the year.

We have very exciting opportunities to improve in this area in the upcoming year.

For the trailing four quarters, sales per square foot were $243.

This statistic continues to set the pace for the rest of the industry.

Our new stores are on track to achieve at least a 15% IRR, and we continue to see an opportunity to open thousands of additional stores in the U.S.

We opened 40 new stores in the quarter for a total of 3,812 stores in 48 states, the District of Columbia, and Puerto Rico.

We are well on our way to achieve our goal of opening stores more evenly throughout our fiscal year.

Additionally, we were able to reopen one of the locations closed in the Gulf Coast markets due to hurricane damage, while three remain closed.

We also relocated five stores this past quarter, and we continue to see opportunities to expand this initiative in the future.

Lastly, as you know, we began our entry into Puerto Rico about 16 months ago.

At the end of the quarter, we had 13 open stores, and we have been pleased with their results to date.

Let me now move to commercial.

For the quarter, total commercial sales were up 0.2% from last year's quarter.

We now have a commercial program in 2,140 stores, supported by 127 hub stores.

Our focus in the commercial business continues to be on building a strong operating model for the long-term that delivers profitable growth.

AutoZone's commercial business will be built on steady improvement, improvement in sales results, as well as continued positive EBIT results.

For the last two quarters, I have mentioned our commercial test stores.

We now have over 600 commercial stores on this program.

While we continue to see strong sales and margin improvements in a majority of these categories, we are still being cautious on declaring victory and rolling this program too aggressively.

Why?

Well, what makes one of these commercial test stores successful isn't any one thing.

In fact, it's a combination of appropriate inventory levels, staffing, outside sales efforts, and variable compensation programs.

We are convinced initially it is the ability to say yes that starts the entire relationship.

This demand for availability for even the very latest model years initiates the entire relationship.

If we can't say yes on the phone to the availability question, the best-trained AutoZoners in the world won't be able to overcome that obstacle.

Once availability is established, servicing the account becomes the utmost priority.

We have to get the part to the commercial customer at the right time.

While the rollout of our programs has been tempered by our hard parts assortment updates and rollouts, early successes have been promising.

We are currently in the process of testing something subtle, but we believe very exciting for this business.

We have developed an enhanced order management system for our commercial specialist across our 2,100 plus programs.

While customers won't be able to see this enhancement, they will certainly be able to feel it.

Specifically, the upgrade is built around speeding the time it takes to receive and complete a commercial order for a customer.

Again, while subtle, we feel this tool will help our AutoZoners improve the customer's experience.

Additionally, while the commercial business is a little more than ten years old at AutoZone, we have never had our own credit department.

Specifically, we have always outsourced our credit function to third parties.

We made the commitment to build an in-house team to handle our customer's transactions.

Due to switching over to our in-house team late this quarter, we believe we can leverage the AutoZone culture through these customer service representatives, and significantly improve our relationship with these very important customers.

With that said, I believe I speak for all of our organization, when I say we are no where near hitting our sales potential in this business.

However, we are building this business to win for the long run.

We are not interested in driving short-term sales results at the expense of our customer's best interests, or our profits.

All the items we have been discussing, we believe, are building momentum.

These various pieces must work cohesively together, to build long-lasting relationships with our customers, and to fulfill our pledge to them.

We continue to expect this business to be able to generate positive same-store sales in fiscal 2007.

Mexico.

Our Mexico stores continue to perform well.

We did not open any stores in the first quarter, however, we expect to have store openings in our second quarter.

We currently have 100 stores in Mexico, compared with 3,812 stores in the United States.

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

Finally, I want you to know that I could not be more proud of what I'm hearing regarding our overall efforts from our AutoZoners and our customers.

I am confident we are on the right track to produce long-term shareholder value.

Now I'll turn it over to Bill Giles to take us through the remainder of the income statement, cash flows, and the balance sheet.

Bill?

Thank you, Bill.

Gross margin for the quarter was 49.2% of sales, up from 49% of sales in the previous year's quarter.

For the first quarter, margins were impacted negatively versus last year's first quarter due to a shift in sales mix.

The shift was due to an earlier-than-planned cold spell, followed by a much wetter and milder November.

While not necessarily affecting sales, this did have a slight negative effect on margins in the quarter.

We continue to be successful in partnering with our vendors to offer the right products at the right prices to our customers.

This includes supply chain initiatives, tailoring merchandise mix, the continued implementation of our good/better/best product lines, all allowing us to price our products appropriately, and give our customers great value.

Going forward, we believe there continues to be some margin expansion opportunity, albeit at lower levels than previously experienced.

We continue to work with our vendors to lower costs, and provide the best selection of merchandise for our customers at the right prices.

Our initiative to do more direct importing of merchandise from foreign suppliers will continue to be discussed in future quarters, as this effort is in its early stages.

We are extremely proud of our buying organization for their ability to improve on margins, while pressures on procurement costs continue to exist.

Again, our success in managing costs efficiently is something to be proud of, but we cannot let up.

We will keep focusing on achieving the lowest cost for high-quality products to ensure our success.

SG&A for the quarter was 33.2% of sales, down 46 basis points from last year.

The decrease was due largely to, due to a favorable cost comparison versus last year's first quarter, where a charge of $2.8 million was incurred for hurricane-related damage.

Excluding this decrement of approximately 20 basis points, the remainder of the decrease can largely be attributed to our store reset efforts initiated in last year's first quarter, and our ongoing focus on reducing expenditures throughout the organization.

It is worthwhile to point out occupancy charges continue to be a detriment versus last year, representing approximately 20 basis points of deleveraging on the quarter.

A critical part of our culture is what we call a culture of thrift.

Our organization understands that to provide the best value to our customers, we must be intensely focused on cost management.

I have witnessed firsthand in my first six months, our organization's relentless focus on cost management, I must say I am impressed.

We will continue this intense focus to ensure that we deliver good value to our customers, and good returns to our shareholders.

EBIT for the quarter was $223 million, up 8.6% over last year.

Interest expense for the quarter was $27.1 million, compared with $23.7 million a year ago.

Debt outstanding at the end of the quarter was $1.859 billion, or approximately $70 million more than last year.

The increase in interest expense reflects both the ongoing effort to term out the Company's debt on a long-term basis, as well as the year-over-year increase in short-term rates.

Additionally, interest was higher due to the accounting for our capitalized leases established this past quarter.

We expect interest to run higher by a similar run rate over the previous year for the remainder of fiscal 2007.

Our adjusted debt levels were maintained in-line with our guide of 2.1 times, our trailing 12-month EBITDAR.

We have purposely managed our capital structure relative to our cash flow, in order to maintain our credit ratings and investment grade, while optimizing our cost of capital.

For the quarter, our tax rate was 36.8%, below last year's rate of 37%.

Over the next several quarters, we expect to maintain an approximate 37% effective tax rate.

Net income for the quarter of $124 million was up 8.3% over the prior year.

Earnings per share for the quarter of $1.73, were up 16.4% on 71.8 million diluted shares.

Relating to the cash flow statement, in the first quarter we generated $112 million of operating cash flow, and we repurchased $91 million of AutoZone stock as part of our ongoing stock repurchase program.

We intend to continue to repurchase stock, after we have appropriately allocated capital to our existing stores and new store openings, as long as it is accretive to earnings, and consistent with our 2.1 times adjusted debt to EBITDAR liquidity target, which we maintained again for the quarter.

For the first quarter of this year, we reported yet another industry-leading ROIC of 22.3%.

Looking at our inventory levels, inventory per store on the balance sheet plus the included Pay-on-Scan inventory was $503,000, versus Q1 of last year of $495,000, and this was in-line with last quarter's $501,000 per store.

Accounts payable as a percent of gross inventory finished the quarter at 88%, compared to 90% last year.

We continue to be committed to our goal of achieving 100% accounts payable to inventory, and feel confident through continued inventory management efforts, we can improve upon this critical metric.

This quarter, we reported a total of $85 million of inventory on POS, for Pay-on-Scan, which in accordance with GAAP is not reflected on our balance sheet.

As we have stated previously, our goal is to achieve a 100% AP to inventory ratio.

POS is one of the tools we use to achieve this goal, but we also leverage other programs, including our supplier-confirmed receivables program, and extended terms.

All of these programs are designed to achieve our accounts payable goals, and work effectively with our suppliers.

Total working capital is at $110 million, versus last year's balance of $156 million.

We will continue to focus on minimizing working capital as this reflects our ongoing focus on increasing cash flow.

Net fixed assets were up 6.7% versus last year.

Capital expenditures for the quarter totalled $52 million, and reflects the additional expenditures required to open 45 new stores in this quarter, maintenance on existing stores, and work on development of new stores for upcoming quarters.

Depreciation totalled $36 million for the quarter, higher than last year, due primarily to new stores, and the accounting for new capital leases established during the quarter.

As of May 6, 2006, AutoZone continues to be one of the few players in our industry to have investment-grate grade debt ratings.

Our senior unsecured debt rating from Standard & Poor's is BBB+, and we have a commercial paper rating of A2.

Moody's Investor Service has assigned us the senior unsecured debt credit rating of BAA2, and a commercial paper rating of P2.

We continue to be comfortable with our long-term debt ratings and leverage ratios.

Now I will turn it back to Bill Rhodes.

Thank you, Bill.

In summarizing AutoZone's first quarter results, I have to point out our 16% EPS growth again.

The AutoZone model is very powerful, with modest sales growth during the quarter, we were able to drive double digit growth in earnings per share.

I am not pointing this out to say we are satisfied with the quarter, in fact, we never are.

Our culture is founded on excellence, and that means we must be relentless, constantly focused on improving our business.

We are our toughest critic.

The most exciting thing about what we are doing is staying the course, steady improvement over the long run.

Our story continues to be one of steady, profitable sales improvement.

Sustainable, subtle improvements, refining inventory assortment, continual training of our AutoZoners, expanding our commercial focus, prudent, paced growth in Mexico.

We are about keeping focused while making methodical, yet meaningful, improvements in our model to be well-positioned for the future.

In this respect, our organization is amazingly efficient.

We have wonderful, long-term AutoZoners in key positions across our business that make our success a reality every day.

From Terry [Keyhee], one of our truck drivers at our Lavonia Georgia Distribution Center, who has driven over 14 years accident-free.

He recently received an award for a million miles safe on the road.

He sets a wonderful example to his fellow AutoZoners.

Now we'll turn to Scott Poole, an AutoZone regional manager out of the national region, who just celebrated his 20th year at AutoZone.

It's this type of continuous dedication to our great Company and it's success, that makes me excited to call myself an AutoZoner.

On the quarter, our retail results continued to show improvement, while our commercial tests in new system enhancements drew excitement across our organization.

While we do not provide financial guidance, I and the entire AutoZone team continue to be enthusiastic and optimistic about our future.

We continue to feel confident in our long-range plans.

Our plan is a simple one: to provide our customers the parts they want at great prices with the best service in the industry, while providing our AutoZoners a great place to work.

If we do these things, we will continue to be incredibly successful.

Customer service will continue to be our key point of differentiation, and AutoZoners across the Company are committed to providing that service to every customer.

We will continue living the pledge in 2007.

We continue to demonstrate industry-leading financial metrics, being a disciplined company, we have proven our ability to manage cost appropriately, and invest in incremental initiatives that exceed our stated 15% after-tax ROI hurdle rate.

We are focused on operating this Company to profitably grow sales, efficiently deploy capital, and optimize long-term shareholder value, while maintaining the highest levels of ethics.

I thank you today for letting us share with you our Company's past accomplishments, and touch on our ongoing initiatives.

I look forward to keeping you abreast of our results well into the future.

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

[OPERATOR INSTRUCTIONS]

Thank you very much, it's Citigroup.

Good morning.

I have two questions.

First, Bill, could you give us a little more flavor of your new commercial business model?

Give us a flavor of what is working, what is not, and of the initiatives you are implementing, how long is it just --, is it a matter of time for the customers to realize, how much time will it take for us to see an improvement in the commercial business?

There is not any one of --, I talked about four specific things we are doing in that business in the new program test.

And it's not any one single thing.

As I also mentioned in there, it does start with product availability.

That is the most important thing.

If we get phone calls all day long, if we can't say yes, we are not going to meet that demand.

But once we have the parts in place, it is a combination of making sure we have outside sales reps, making sure we have incentive compensation, and making sure we have got the right staffing in the stores.

But it all starts with having the right parts.

As I mentioned in the prepared remarks, we are a little bit behind of our game, because we have been waiting to roll out these new product assortments.

As I mentioned on the last call, as we initially rolled out those new product assortments, we found we had made some mistakes along the way.

We slowed it down a little bit, and now we are rolling again with those new product assortments.

Excellent, appreciate it.

Next question is on payables to inventory, you saw a slight, modest decline.

How much of it was part of the renegotiation of COGS with vendors, versus foreign sourcing as you slowly take baby steps to improve foreign sourcing, is that having any drag on payables to inventory, and what should we look for in the future?

I don't think the import really had that much of an significant impact.

I think that as you go forward, we would expect AP to inventory to be in-line with last year, and hopefully have some improvement.

On a long-term basis, we are focused on moving AP towards 100%, and we have got an ability to try continue to negotiate that with the vendors, and we have got tools that we have been able to execute that.

So I think as you look out forward, we expect it to be more in-line with last year, and hopefully have some improvements as we continue to march towards 100%.

Thank you and good luck.

Tony Cristello, you may ask your question, and please state your company name.

Yes, BB&T Capital Markets.

Good morning, gentleman.

Good morning.

One thing I want to maybe talk a little bit about.

You spend a significant amount of time and resources on refreshing and organizing the front of your stores.

Can you now talk about, a little bit, at least directionally, and the initiatives now to focus on the back of the store.

You talked about the merchandise, but can we see improvement in efficiencies, and obviously returns as a result of some of the initiatives you have?

Well, I want to jump the same returns on them, we are looking at the optimum level to make sure we can say yes to our customers.

In some cases, that's adding inventory and in other cases, it's deleting inventory.

But it is making sure we have the right product assortment in each one of our individual stores.

I want to remind you that every store that we have, the back room of that store is tailored to the specific customer base that it services.

And as we are rolling this new product assortment, we think we have the ability to say yes much more effectively than we did before.

Do you think the amount of resources that you spent on the front of the store is going to be an equivalent amount of what we should see, in terms of getting the back room where you would like it to be?

If you are speaking to expenses, I want to remind you that our store reset program, although it sounded very expensive, as we said last year, it cost us about 20 basis points over the first half of the year.

This reset in the back room is an ongoing part of our process.

We are always refreshing our back rooms every year, and we will continue to do that.

There is not going to be a major new expense initiative related to refreshing those back rooms.

Okay.

Another question actually related to direct sourcing efforts.

Do you currently have resources allocated overseas right now, in terms of trying to find vendors, working directly over to import here?

I know it is only a small percentage of sales now.

We don't have specific AutoZone resources overseas.

Our team of merchants from here are the ones that are responsible for building those relationships as well.

And in fact, we constantly have a lot of people over there.

We do have some relationships with some organizations over there who are looking for products for us, but our merchants are the ones that are making those decisions.

Okay.

And do you anticipate maybe an acceleration in that effort?

As you look at foreign nameplates becoming a greater percentage of that seven-year plus population, how might your buying patterns change a little bit, or do you anticipate any changes in your approach to either DIY, or the DIY femme side of the business?

On the aftermarket, I don't think the growth of foreign nameplates really makes us change suppliers that much.

It's really a function of our comfort level with the suppliers that we get over there, and making sure we have lowest net landed cost.

One of the things we have to look at is to make sure we understand the terms we're getting over there, that we understand the cost of logistics coming from overseas, and we build a total cost model that shows us the lowest cost.

I am very comfortable with the pace that we have had on our direct importing over the last 18 months or so and I think we'll continue to grow it, but we are going to grow it methodically, and make sure we do it prudently.

Is it a situation where we can go from 5% to 10 or 15, or do you have any idea where you would like to get that in terms of a balance?

It is very interesting.

We don't look at that number specifically.

A lot of our parts and products, before we ever launched this initiative, were being manufactured over there, but we may have been two or three or four people away from the ultimate manufacturer.

So what we are doing is going through and making sure that we find the most optimum situation for us.

So we don't have a specific target.

We do see significant room for additional growth in that.

Okay, great.

Thanks, guys.

Thank you.

Dan Wewer, you may ask your question, and please state your company name.

Raymond James.

Bill, you had suggested that the Do-It-Yourself customers may need more time to recognize the improvements in your stores before sales trends improve.

Could you remind us about the frequency of your do it yourself customers shopping at AutoZone?

And then second, if you've had a chance to look at the customers who are your best customers, to see if their sales trends have in fact picked up?

Yes.

As I mentioned in our remarks, our average customer shops with us on average three to four times a year.

So it takes a while for them to, #1, notice the new initiatives that we have put in place.

As far as their return due to gas prices, what we have said all along, the last three times we have seen a significant increase in gas prices, we saw a negative correlation to our sales, but we haven't seen an immediate rebound.

I wasn't so much asking about about the gasoline pricing, but rather, do you have the ability to look at your best customers, and for those to who have perhaps already been to AutoZone say four to six times since the stores were reset, are you seeing those customers increasing their spending?

Today, we don't have the specific ability to track individual customer sales.

Our biggest correlation, or biggest tracking mechanism has been our customer service surveys.

The other question I had was on the comments on the underperforming stores.

What kind of gap between the company average is needed for a store to be ranked as underperforming, and a ballpark figure on about how many locations you are referring to?

I was a little nervous about that.

I want to make sure and highlight that.

They are underperforming in the AutoZone model, they are still wonderful stores.

And I can't give you a specific number on how they are doing, because we have a very sophisticated sales forecasting model, and so we're comparing these stores versus their sales forecasting model.

They may be 10% below their sales forecasting model to be classified as underperforming stores, and the number of them on this list are in the low hundreds.

And what we are really trying to do with this is just raise the bar.

Put a heightened awareness in those stores, to make sure that we have our operations exactly right.

And we are going to refresh this list every six months or so, so that we constantly focus on getting better in specific stores.

We have been very excited about this initiative.

We launched it about six months ago, and it's really just about a significant management emphasis on those stores, and then a deep dive into what makes them successful or not successful, which we can then carry to the rest of our stores.

So those 100 odd stores are not necessarily below the Company average in sales volumes, but below their projected sales?

Exactly.

Okay, great.

Thanks, Bill.

Thank you.

John Lawrence, you may ask your question and please state your company name.

Yes, Morgan Keegan.

Good morning.

Good morning.

Bill, would you just give a quick, take a little more explanation on the gross margin.

Bill, I know you gave the factors that brought it down just a little bit.

Can you talk a little bit more about the positives that you're seeing, and I know it's Duralast as well as direct imports, but just a little bit more there, please?

I would tell you that we did have some negative factors, but obviously the gross margin was up 20 basis points, so we feel good about the fact that we have got some momentum in gross margin.

I think some of the pricing optimization certainly helped us from that perspective, and then also just from an expense standpoint, obviously we did a little better job on warehouse and delivery.

We have actually improved some of the efficiencies there.

I think there's a lot of moving parts, as you know, in gross margin, but we've got a lot of good things going on in there.

Second on Duralast, Bill, if you look out several years, how far can that go?

Can you talk about pockets where you can still look at having category improvement there?

Yes, John.

We are always looking at additional categories for the Duralast nameplate, but most importantly, we are looking at how do we build the Duralast name in the eyes of the customer.

Other than the Duralast battery, we have really never marketed the Duralast nameplate until about 12 months ago.

We are very encouraged by the receptiveness of both our DIY and commercial customers to the Duralast nameplate, and think it will grow significantly over time.

There will be additional categories expansions, but we have it in a tremendous amount of our categories today.

Alright.

Last question.

If you take a look at the commercial inventory, give us a sense of how difficult, I know in the past, you talk about different, even different parts of town, that inventory on the DIY side can be specifically given to part numbers, et cetera.

How difficult is it to say in different parts of the country to get that assortment right on the commercial side?

It's a little more difficult than it is on the DIY, just because we don't have the history that we have on the DIY side.

But we have tremendous data, true demand points of data from both our DIY and commercial customers.

What we are finding in most cases is it's the same car demographics, it's just a little earlier in the life cycle.

In some cases, it is really early in the life cycle.

If you don't have oil filters and air filters for a 2007 car in the commercial business, you are out of luck, because they are going to get those repairs.

Great.

Thanks.

Thank you.

Jason West, you may ask your question, and please state your company name.

It's Deutsche Bank.

Thanks a lot.

I was wondering if you could talk a little bit more about the hard parts investment, I think you said you expect to have that well on the way by the third quarter.

Does that mean you will be completed with the reassessment there, and the reassortment and then at that point you would expect to ramp commercial as well.

If you can just talk a little bit about the timing and the plan there.

We are a little bit behind on the deployment of our new product assortments, because, as I said, we rolled out a new system, and we weren't satisfied with the initial results so we stopped and reevaluated it.

By the beginning of the third quarter, we feel like we will be in very good shape.

It is an ongoing process, it's a never-ending process.

We have to review every category every year, to make sure we have got the right parts in every single store.

Is it fair to say that would be a bit of an inflection point in the commercial business in that quarter as well, or would it be a little bit more delayed in how you rolled that out to the commercial, how that begins to accelerate?

I think we will certainly be in a better position from the commercial perspective, but it takes time to build those relationships.

And to build the trust from those customers.

Okay.

And then on the inventory, I believe you said the hard parts investment is sort of what's driving that up.

Should we expect to continue to see the similar inventory growth on a per square foot basis, or per store basis over the next several quarters, or is there a point where that goes back the other way?

Is there anything else driving that up, that maybe can help you with sales pick up?

Over the last few years ago, we have had continual low single digit growth in inventory on a per store basis.

We see that likely continuing as we make sure that we have got the right product assortments.

But there is not a huge inflection point one way or the other.

Okay.

Just the last one on the hard parts, are you guys adding new brands there as well, or is it more filling out the coverage on different model years?

Yes, it is not brand oriented.

We always look at different brands, but this is primarily about coverage, making sure we have the ability to say yes.

Okay.

Thanks a lot.

Thank you.

Matthew Fassler, you may ask your question, and please state your company name.

Goldman Sachs.

Thanks a lot and good morning to you.

Good morning.

I have got three questions.

First of all, I'm interested in how you are addressing staffing requirements, and other SG&A investments in your commercial test stores, and how you are thinking about ramping that investment up through the organization.

I know the inventory is there, but is the investment in this instance is going to lead the sales or [inaudible] on the top?

Matt, you've got to speak up, we can barely hear you.

Can you hear me better now?

Yes, much better.

Okay, sorry about that.

We got the first question, but we were losing you.

Okay.

The question is, on the commercial stores, do you expect or have you been ramping up SG&A in front of the sales coming in, or are you waiting in essence for the top line to kick in before committing that SG&A capital investment to the extent that you need to ramp up those stores?

Do you want to ask all your questions, or go one at a time?

Let me just jump in on the first one.

I would say that the answer is really, no, I don't think we are making a significant investment.

We have worked hard on trying to determine what the appropriate model is on the commercial side of the business, and obviously it all starts with having the right parts, and then we have to have a model from a service perspective.

At the moment, we don't really see us having a significant increase from an SG&A perspective, in order to support the commercial.

It's all about execution and getting right parts at the right place at the right time.

Great.

My second question relates to the tone of business over the course of the quarter.

Can you give us any sense of whether there were signs in the quarter from reps and the consumer was responding to the changing in energy price scenario?

Not really.

We try not to give too much color during the quarters overall from a sales perspective, as you know historically.

So I can't really give you a specific answer on that.

But I would say that we haven't seen anything meaningful.

Great.

And my final question, related to Pay-on-Scan inventory.

We've seen that come down very substantially beginning I guess last quarter and that continued.

If you can just give us an update as to where you stand with that program, and what conclusions would you draw from that.

Yes.

As we mentioned in the script, that's one of the reasons we highlighted it in our prepared remarks, Pay-on-Scan is one of the tools.

It's great, it's a great tool if we were getting into something very fashion-oriented, because we don't take the inventory risk.

But when you look at something like brake parts, brake pads, for instance, there is not a tremendous amount of inventory risk in that.

If we can work more effectively with our supplier, who may be an asset-based borrower , and together we would have better financing from going away from Pay-on-Scan, in to something else, then we would do that.

Thank you so much.

Thank you.

Matt Nemer, you may ask your question, and please state your company name.

Thomas Weisel Partners.

Good morning.

First question is regarding your product assortment, can you give us more detail on exactly which account categories within hard parts you are expanding, and which ones you are paring back?

It sounds like there is an increase in mix in late model, but I would hoping we could get some more detail there.

It's not a specific, these categories were increasing and these categories were decreasing.

We constantly take products out the stores, as either the car population moves, or the failure rates change.

But we are a little bit behind because of our new program.

And therefore we are updating those, and then we also have significantly increased amounts of data, to more accurately predict where that demand is going to be.

It's not a big shift one way or the other in inventory, it's just a big shift in the parts that are in that particular store.

Okay.

And can you give us an update, I seem to recall that you rolled out a category with crash parts, and I was just wondering how that was going.

We rolled out something almost a couple years ago now on salvage parts, and also OE products.

And it's a nice addition to our business.

It's not a big part of our business, but it gives us the ability to deepen that relationship with our customer, and fulfill their needs.

Okay.

Lastly, you mentioned that you were building an in-house credit operation on the commercial side of the business.

How much of a commitment should we expect to see with regards to the balance sheet for that?

Really no commitment.

We had the receivable balance on our books anyways.

It was more of a service agreement that we were outsourcing the service aspects of it, and that we brought back in in-house.

I think that is actually going to allow us to provide better service to our commercial customers, and that we are going to be dealing with them directly.

I think what our intention really is to improve the process and actually improve the service level to our commercial customers.

We think that will really resonate.

As you exit third-party contracts, does that benefit cost of goods or SG&A?

It probably benefits a little bit on cost of goods.

Great.

Thanks so much.

Thank you.

David Cumberland, you may ask your question, and please state your company name.

Robert Baird, thanks.

Can you elaborate on the increased emphasis on refreshing stores?

For perspective, how many stores did you refresh in fiscal '05 and '06, and also since it's been a while since you have talked much about this topic, what are the key elements of a store refresh and what are your costs?

The store refresh that we are talking about, these are not remodels.

These are painting the exterior of them, painting the interior of them, replacing the parts counter, replacing the tiles.

When we talked about the 700 stores, that is primarily an exterior paint job, and just making sure our stores look nice and crisp.

As I mentioned in the call, this effort really began at the beginning of fiscal 2006, but we have intensified it even more as we have rolled into late fourth quarter of 2006, and first quarter of 2007.

It's not a major initiative, but it is an important initiative to make sure we communicate to our customers and our AutoZoners, that you know what, we are living up to that line of our pledge that says our stores look great.

My other question on the loyalty program, can you give an update on how that's performing, and any plans to extend that?

Yes, we actually, the loyalty program has been good for us.

We actually are launching an electronic loyalty program as we speak, and so we think that that will allow us to even have better insights relative to how our customers are spending and their shopping habits overall.

It's early on, but it's a great program for us.

It goes back to that question that was answered a few moments back, about what are we seeing from our heaviest users?

Obviously the loyalty card is designed for the heaviest users, and it will give us the ability to see what the purchasing patterns are for our heaviest users.

So we are excited about it from that perspective.

Great.

Thank you.

Thank you.

Jerry Marks, you may ask your question, and please state your company name.

AutoRetailStocks.com.

I just wanted to follow-up on Matt's question.

Bill, I was always under the impression that your receivables were coming from the commercial side of the business.

Are you basically then just shifting non-interest bearing assets to an interest-bearing asset, is that what's going on here?

No, I wouldn't say it that way necessarily.

I think that what we are focused on is that, you are looking at it from the wrong way.

What we're really looking at, we take in-house credit operations is really what we are doing.

We are bringing the operations in-house.

We third-partied that previously, and the intent is to really to bring it in so we have AutoZoners really handling those calls, and dealing with the commercial customers directly.

It's not so much, you are looking at it from a financial perspective per se, and there are some financial benefits for it, but what we are really focused on is improving the service levels to our commercial accounts.

Okay, I guess I misunderstood.

So the only thing that you guys were outsourcing in the past was the servicing on that debt, is that right?

That's the way to look at it.

The other thing I wanted to ask about was, Bill, with the four initiatives that you outlined on your commercial side of the business, you mentioned that you are trying something subtle, almost like a customer order center.

Is this an online application, and could you expand a little bit on that as well?

Yes, it's our order management system that our commercial specialists use to take orders from our customers. and in the past, it's been a good system, but it was a little bit too cumbersome.

And it made it a little bit difficult and a little bit time consuming to take orders from the customers.

We are in the process of testing that new system now and it will streamline the transaction with our customers.

But it is not an online system.

We do have an online system called AZ Parts Connect , but this is where the customer would do the ordering themselves, but this system is for the phone-based orders.

Okay.

Last question, you mentioned in SG&A occupancy costs that there might be some deleverage.

Are you guys renting more of the stores versus owning is that what happened there?

Basically, a little bit.

We do actually wind up with a little bit higher percentage of leased versus owned, and again our preference is always to own, but our ultimate preference is to make sure we get the right store at the right location.

So we just so happen to have a little bit more leasing activity than owning, which is historical.

Okay, that's all I had.

Thanks.

Thank you.

Okay.

Before we conclude the call, I would like to take a moment to reiterate that we know we still have much to accomplish.

We are committed to building a platform for profitable future growth, and we believe we have a plan in place to accomplish that goal.

I thank you very much for participating in today's call.

Thank you.

This does conclude today's AutoZone conference call.

Have a nice day!