汽車地帶 (AZO) 2014 Q1 法說會逐字稿

Good morning, and welcome to the AutoZone conference call.

Your lines have been placed on listen-only until the question-and-answer session of the conference.

Please be advised today's call is being recorded.

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

This conference call will discuss AutoZone's first quarter financial results.

Bill Rhodes, the Company's Chairman, President, and CEO, 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. 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, position, strategy and similar expressions.

These are based on assumptions and assessments made by our management in light of experience or 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, credit market conditions, the impact of recessionary conditions, competition, product demand, 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.

Certain of these risks are discussed in more detail in the risk factors section contained in item 1A under Part 1 of our Annual Report on Form 10-K for the year ended August 31, 2013, and these risk factors should be read carefully.

Mr. Rhodes, you may now begin.

Good morning, and thank you for joining us today for AutoZone's 2014 first quarter conference call.

With me today are Bill Giles, Executive Vice President, Chief Financial Officer, IT and ALLDATA, and Brian Campbell, Vice President, Treasurer, 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 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 this morning, I want to thank all AutoZoners across the globe for another very solid quarter.

This morning, we reported our 29th consecutive quarter of double-digit earnings per share growth.

That's an amazing accomplishment, and it highlights the consistency in our industry, our impressive business model, and most importantly, the dedication and superior execution of our team of more than 70,000 passionate AutoZoners.

Regarding the quarter, we have embarked on several key initiatives and tests, and we are proceeding aggressively.

As we discussed on our last quarterly call, we are testing several new inventory initiatives.

I also mentioned we would be introducing a new version of Z-net that has now been deployed.

Over the last couple of years, we've reset our expectations in regard to technology investments in an effort to leverage technology to enhance the customer experience and leverage operating efficiencies.

The enhanced Z-net is the first of those efforts to be implemented.

Finally, I mentioned our goal is, and remains to be, growing market share in 2014 while continuing to deliver solid earnings.

Our organization understands the importance of balancing investments and returns, and we have to invest our time and capital accordingly.

Over the last several months, we have significantly increased the pace of strategic assessments, design of potential enhancements, deployment of tests, and implementation of new concepts or initiatives.

This is vitally important work.

It is intellectually stimulating, but it's also very hard work.

I want to say a special thank you to the many AutoZoners across the organization who have redoubled their efforts to complete these very important efforts.

Each of these AutoZoners has a full-time job in addition to this work.

They have worked very hard, are doing a great job, and are leaving no stone unturned.

Their pace of progress has been amazing to me.

For the quarter, we reported a total sales increase of 5.1%, while same-store sales were up 0.9%.

This overall sales performance was generally consistent with our Q4 results, but our DIY performance was a bit worse than Q4.

Part of the deterioration in DIY was due to a calendar shift resulting from our 53rd week.

Our DIY same-store sales would have been 87 basis points higher if we were comparing to the same weeks last year.

In retail, we experienced stronger trends in our failure-related categories, while we saw weaker trends in the sales floor and more discretionary categories.

These trends were pretty consistent nationally.

In commercial, our business accelerated nicely, and the trends were generally consistent throughout the quarter and regionally.

Our commercial business is predominantly a hard parts business, and consistent with our DIY results, these categories also performed well in commercial during the quarter.

Our consumer remains under pressure.

We've yet to anniversary the reinstatement of payroll taxes which occurred at the beginning of the calendar year, and the government shutdown during the quarter was not helpful.

However, there are some macro factors that have been helpful.

Gas prices have begun to abate, and we believe this can have a positive effect on our customers' ability to spend on routine maintenance.

With approximately 10 billion gallons of gasoline consumed monthly in the US, any sizable move in price can have a material stimulus on the economy.

Currently, gas prices are approximately $3.30 a gallon, or about $0.15 a gallon below last year at this time.

As we are heading into what is forecast to be a more normal winter weather pattern, we are optimistic.

We would assume the most pronounced effects would be felt in the Midwest and Northeast markets.

We mentioned during our last quarterly conference call that we lost some share in retail.

I'm pleased to report today our data is telling us we're slightly gaining share in retail.

While the data reflects only the last couple of months, we feel the initiatives we're working on are making a difference.

We've enhanced our electronic catalog to better serve our customers by further highlighting related items necessary to do the complete job.

We believe these enhancements will improve the customer experience, and will complement the knowledge of our AutoZoners.

This new system was implemented throughout our domestic store base in Q1.

While training on the new system is ongoing, the feedback we are receiving from AutoZoners is very encouraging.

Regarding DIY ticket and traffic trends, our trends didn't change materially from last quarter.

Our traffic count continued to be challenging, but improved from the trends we experienced from April 2012 to April 2013.

The more significant change from historical trends has been a much slower growth rate in average ticket than we've experienced over the last several years.

We haven't experienced the same rate of growth in commodity-based inflation that we have seen in recent years.

Currently, we don't see any indications of that trend changing materially in the short-term.

While that is very good news for our customers, it has certainly challenged our results.

If the winter weather projections come to fruition, that could certainly benefit our traffic trends.

Overall, we can't control the macro factors that impact our business, and that is why we have intensified our efforts on enhancing our offerings.

Ultimately, we control our destiny, and we are excited about the many initiatives we have underway or in tests.

We are pleased with the progress we are making in our commercial business, which showed an acceleration in growth versus last quarter.

Our sales increased 13.9% from last year's first quarter, and as you can see, we opened more programs this quarter.

The 125 programs we opened this quarter marks the largest number of openings we've had in a first quarter in the last decade.

While some of these openings simply reflect a pulling forward of program openings from Q2, we expect to open a similar number of programs throughout the year, as we did last year.

Our all other businesses increased approximately 75% over last year, as a bulk of this increase was driven by the yet to anniversary acquisition of AutoAnything we completed at the end of the calendar year of 2012.

To remind our listeners, this segment of business includes AutoAnything, AutoZone.com and ALLDATA.

Regarding all these businesses, we've introduced the idea of being more digitally integrated.

As the auto parts landscape continues to evolve, it's important we think more broadly.

Therefore, we have made this one of our four strategic growth priorities, along with retail, commercial and international.

We have a tremendous amount of data and content available to us across all of our segments.

We are making a priority to combine forces across the board and look at our customers, their opportunities and challenges on a more holistic basis.

This remains an early stage effort, but we believe this can be an important and significant opportunity for us to deepen customer relationships and grow sales.

I'd like to spend a few minutes updating you on some of our newest initiatives and tests that are focused on improving inventory availability.

We have several tests underway at various stages.

It is important to note that some of these tests compete against each other, as we are working to identify the most economical means of increasing our ability to fulfill our customers' needs.

Our first initiative was tested last spring and summer, and it is in the process of being implemented.

We have improved our algorithms that determine store SKU placement.

This includes adding additional inventory while simultaneously removing unproductive inventory.

Net net, it will increase our store level inventory.

In the first quarter, about 40% of our first store inventory growth is attributable to this initiative.

We are deploying these new assortments by category, and it will take about a year to complete, but the majority will be in our stores by the spring selling season.

We've also been testing additional inventory in our hub stores.

We continue to find opportunities to add productive inventory to all of our hub stores, and we expect this to continue, especially as we further penetrate the highly fragmented and hard parts focused commercial market.

Additionally, we are testing a much deeper product offering in a select few hub stores, and these locations are leveraging that inventory across a wide network of additional hubs and satellites.

This allows us to significantly broaden the depth of the product offering closer to the customer.

We're also testing both broader SKU assortment in our distribution centers, as well as more frequent deliveries to both select hub and satellite stores.

All of these efforts are designed to assess the most effective way to service our customers' needs and to reduce the amount of unproductive activity we have transferring products from store to store.

It is still very early, but we have learned, as expected, that more inventory closer to the customer increases sales.

We don't yet know if it is a wise financial decision or the most economical way to accomplish this objective.

That's why we're running these tests.

We expect to continue these tests for the majority of this fiscal year.

We will modify some, expand some, and likely implement others.

Ultimately, we believe we have opportunities to improve, but it is important that we find the optimal solution.

We will keep you abreast of developments in this area as we progress.

We continue to execute on our strategies to improve the customer shopping experience.

We expanded eight additional hub store locations during the quarter to take our total remodeled hub locations to 100 locations.

These remodels entail expanding the size and capacity of these locations, ensuring they are in the right physical location, and adding additional inventory into the market that benefits both retail and commercial.

We also opened two new hub locations, finishing with 157.

Over time, we do expect to open more hub locations, but we believe our strategy on inventory deployment at the store level allows us to keep the number of openings at a moderate level.

With the continued aging of the car population, we continue to be optimistic regarding trends for our industry in both DIY and DIFM.

While new car sales have been very strong these past two quarters, we have seen those traded in vehicles be resold to new owners, who are repairing or enhancing their quote-unquote new vehicle.

With gas prices declining a bit recently on a year-over-year basis, we believe miles driven can increase heading into 2014.

Historically, lower gas prices and an improving economic outlook have led to more miles being driven.

We expect that trend to reemerge.

We remain bullish on our industry sales growth opportunities on both the retail and commercial fronts over the long-term.

As the vehicle population remains at an all-time high and consumers continue to look for good values while maintaining their vehicles, we see AutoZone's opportunity to sell to those customers only growing.

Now let me review our operating theme priorities for 2014.

Our overarching theme this year is creating customers for life.

And the key priorities for the year are: one, great people providing great service; two, profitably growing our commercial business; three, leveraging the Internet; four, leveraging technology to improve the customer experience while optimizing efficiencies; and five, improving inventory availability.

On the retail front this past quarter, under the great people providing great service theme, we continued with our intense focus on improving execution.

With the rollout of our new Z-net software, we spent a great deal of time training AutoZoners on the system enhancements.

We have tried to make the system as intuitive as possible, but along with change, we have to spend time teaching and discussing those changes.

We also learned from our store AutoZoners how to improve the way the information is presented on the screen.

This mutual respect for operations and technology will lead, in our belief, to a superior selling tool in our stores.

We should also highlight another strong performance in return on invested capital, as we finished Q1 at 32.7%.

While slightly below last year's Q1 ROIC, excluding the acquisition of AutoAnything, we would have been slightly higher than last year.

We're very pleased with this metric, as it is one of the best, if not the best, in all of hard lines retailing.

However, our primary focus has been and continues to be that we ensure every incremental dollar of capital that we deploy in this business provides an acceptable return well in excess of our cost of capital.

It is important to reinforce we will always maintain our diligence regarding capital stewardship, as the capital we invest is our investors' capital.

Now let me turn the call over to Bill Giles.

Bill?

Thanks, Bill.

Good morning, everyone.

To start this morning, let me take a few moments to talk more specifically about our retail, commercial and international results.

For the quarter, total auto parts sales, which includes our domestic retail and commercial businesses, our Mexico stores, and our four stores in Brazil, increased 3.6% over the 12 weeks.

Regarding macro trends during the quarter, nationally, unleaded gas prices started out at $3.61 a gallon and ended the quarter at $3.29 a gallon, a $0.32 decrease.

Last year, gas prices decreased similarly at $0.35 per gallon during the first quarter, starting at $3.78 and ending at $3.43 a gallon.

We continue to believe gas prices have a real impact on our customers' abilities to maintain their vehicles, and we will continue to monitor prices closely in the future.

We also recognize that the impact of miles driven on cars over 10 years old, the current average, is much different than on newer cars in terms of wear and tear.

Miles driven data reported by the Department of Transportation are available only through September.

However, for July through September, the data shows positive trends, up between 1.3% and 1.6% each of the three months.

The other statistic we highlight is the number of 7 year old and older vehicles on the road, which continues to trend in our industry's favor.

Another key macro issue facing our customers today is the reinstitution of payroll taxes back to historic norms.

This reduction in our customers' take home pay began at the beginning of the new calendar year, and it has been difficult to objectively quantify the ramifications of this change.

However, we believe that this -- and will continue through December to be a headwind to our consumers' spending habits.

For the trailing four quarters, total sales for auto parts stores was $1.744 million.

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

For the quarter, total commercial sales increased 13.9%.

And for the first quarter, commercial represented 16.7% of our total company sales and grew $43 million over last year's Q1.

Last year's commercial sales mix percent was 15.4%.

As we have said previously, overall, we have been pleased with the progress we are making in our commercial business, both operationally and financially, and we remain on track with our plans.

We believe there are ample opportunities for us to continue to improve many facets of our operations and offerings, and therefore, we are optimistic about the future of this business.

We believe we can grow revenues in existing stores while opening additional commercial programs.

This past quarter, we opened 125 new programs versus 37 programs opened in our first quarter of last fiscal year.

We now have our commercial program in 3,546 stores, supported by 157 hub stores.

Approximately 1,070 of our programs are three years old or younger.

With only 73% of our domestic stores having a commercial program, we believe there is further opportunity for additional program growth in addition to improved productivity opportunities in current programs.

Further, we recognize that our commercial sales productivity per program is well below our peers.

However, we believe the maturation of our marketing programs, plus the inventory assortment additions we are making, will allow us to close the gap.

As we look forward, we're focused on building upon the commercial initiatives that have been in place for the last few years.

We have a very talented sales force, and we are enhancing training and introducing additional technology to optimize the productivity of this sales force.

We have increased our efforts around analyzing customer purchasing trends and in stock trends.

We have also seen, with our inventory assortment tests ongoing, an improvement in hard parts sales to commercial customers.

Historically, we've seen retail sales impacted as much or more by inventory additions to stores.

The more recent tests are showing commercial customers are disproportionately taking advantage of these inventory additions.

This is exciting to us, as we believe we're on the right track when it comes to our ability to climb the call list to become a customer's first call.

In summary, we remain committed to our long-term growth strategy.

We've accelerated the growth of our commercial programs, having opened over 1,000 programs over the past 36 months.

Effectively, 30% of the programs are three years old or younger.

We believe we are well-positioned to grow this business and capture market share.

Our Mexico stores continue to perform well.

We opened one new store during the first quarter.

We currently have 363 stores in Mexico, and our returns and profit growth continue to be in line with our expectations.

Regarding Brazil, we opened one new store in the quarter, and had four stores open at the end of the quarter.

Our plans remain to open approximately 10 stores over the next couple of years, and then reevaluate our development as we refine our offerings and prove that our concept works for our customers and is financially viable.

At that point, we will talk more on our long-term growth plans.

Recapping this past quarter's performance for the Company, in total, our sales were $2.094 billion, an increase of 5.1% from last year's first quarter.

Domestic same store sales for sales for stores open more than one year were up 0.9% for the quarter.

I will point out here, on a shifted basis, our same store sales were slightly higher, at 1.5%.

While this is a larger percentage than the un-shifted comp number, we feel over the year things even out.

And probably not worth making a large point of the difference of approximately half a point of comp came from the retail portion of the business, due mainly to losing a summer week comparison this year and picking up a late fall week in November.

Gross margin for the quarter was 51.9% of sales of 3 basis points versus last year's first quarter.

The improvement in gross margin was attributable to lower acquisition costs that were offset primarily by the inclusion of the recent acquisition of AutoAnything.

In regards to inflation, we have seen modest decreases in costs year over year.

This is different than in past years.

At this point, our assumption is we will experience subdued producer pricing heading into the calendar year, and therefore we feel costs will be predictable and manageable.

We will remain cognizant of future developments regarding inflation, and will make the appropriate adjustments should they arise.

Looking forward, we continue to believe there remains opportunity for gross margin expansion within both the retail and commercial business.

However, we do not manage to a targeted gross margin percentage.

As the growth of our commercial business has been a steady headwind on our overall gross margin rate for a few years, we have not specifically called out the headwind quarterly.

But rather, we recognize it is an integrated part of our business model.

Additionally, AutoAnything has been a drag on our gross margins, as this business model operates at a lower gross margin rate.

As we anniversary our acquisition of AutoAnything during Q2, our margin comparisons will become more consistent.

Our primary focus remains growing absolute gross profit dollars in our total auto parts segment.

SG&A for the quarter was 33.5% of sales, lower by 5 basis points from last year's first quarter.

The slight improvement in operating expenses as a percentage of sales was primarily due to a shift in the timing of advertising expenditures.

I also want to take a moment to thank our entire team for their diligence on cost control, which has always been a key part of our corporate DNA.

We continue to believe we are well-positioned to manage our cost structure in response to our sales environment.

EBIT for the quarter was $384 million, up 5.6% over last year's first quarter.

Our EBIT margin improved to 18.3%, or up 8 basis points versus the previous year's first quarter.

Interest expense for the quarter was $42.4 million, compared with $41.1 million in Q1 a year ago.

Debt outstanding at the end of the quarter was $4.174 billion, or approximately $370 million more than last year's Q1 balance of $3.802 billion.

Our adjusted debt level metric finished the quarter at 2.5 times EBITDAR.

While in any given quarter, we may increase or decrease our leverage metric based on Management's opinion regarding debt and equity market conditions, we remain committed to both our investment grade rating and our capital allocation strategy.

And share repurchases are an important element of that strategy.

For the quarter, our tax rate was approximately 36.1%, lower than last year's first quarter of 36.8%.

This quarter benefited from the settlement of certain discrete tax items.

Net income for the quarter of $218 million was up 7.2% versus the prior year's first quarter.

Our diluted share count of 34.7 million was down 7.7% from last year's first quarter.

The combination of these factors drove earnings per share for the quarter to $6.29, up 16.2% over the prior year's first quarter.

Relating to the cash flow statement, for the first fiscal quarter, we generated $357 million of operating cash flow.

Net fixed assets were up 8% versus last year.

Capital expenditures for the quarter totaled $83 million and reflected the additional expenditures required to open nine new stores this quarter, capital expenditures on existing stores, hub store remodels, work on development of new stores for upcoming quarters, and information technology investments.

For all of fiscal 2013, our CapEx was approximately $415 million, and we'd expect our CapEx to be in line with that for fiscal year 2014.

With the new stores opened, we finished this past quarter with 4,843 stores in 49 states, the District of Columbia and Puerto Rico, 363 stores in Mexico, and 4 in Brazil, for a total store count of 5,210.

Depreciation totaled $55.8 million for the quarter versus last year's first quarter expense of $50.7 million.

With our excess cash flow, we repurchased $292 million of AutoZone stock in the first quarter.

At quarter end, we had $177 million remaining under our share buyback authorization.

Our leverage metric was 2.5 times this past quarter.

Again, I want to stress we manage through an appropriate credit ratings and not any one metric.

The metric we report is meant as a guide only, as each rating firm has its own criteria.

We continue to view our share repurchase program as an attractive capital deployment strategy.

Accounts payable as a percent of gross inventory finished the quarter at 116%.

Next, I'd like to update you on our inventory levels in total and on a per store basis.

We reported an inventory balance of $2.9 billion, up 9% versus the Q1 ending balance last year.

Increased inventory reflects new store growth, along with additional investments in coverage for select categories.

Inventory per store was up 5.4% at $566,000 per store, reflecting our continued investments in hard parts coverage.

Finally, as Bill previously mentioned, our continued disciplined capital management approach resulted in return on invested capital for the trailing four quarters of 32.7%.

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

Now I'll turn it back to Bill Rhodes.

Thank you, Bill.

We are pleased to report our 29th consecutive quarter of double-digit earnings per share growth.

Our Company has continued to be successful over the long run.

That success is attributable to our approach to leveraging our unique and powerful culture, and focusing on the needs of our customers.

We focus on executing at a high level consistently, which we believe can be a competitive advantage.

To execute at a high level, we have to consistently adhere to living the pledge.

We cannot and will not take our eye off of execution.

Success will be achieved with an attention to detail and exceptional execution.

Before I conclude, I want to reiterate that our initiatives around inventory assortment, hub stores, commercial growth, Mexico, ALLDATA, e-commerce and Brazil are all very exciting to us.

We feel these initiatives will lead to increasing sales for 2014.

While our industry sales, according to NPD data made available to us, have been slower, we expect the less robust growth is more from the near term macro pressures than long-term structural change.

It didn't surprise us that our retail sales results remained sluggish this past quarter, as several macro headwinds had yet to lap themselves.

Based on our read of the trajectory of the macro influences, combined with our existing and exciting new initiatives, we are optimistic about our sales for the balance of the year.

Our long-term model is to grow new store square footage at a low single-digit growth rate, and we expect to continue growing our commercial business at an accelerated rate.

As we continue to execute on our financial model, we look to routinely grow EBIT dollars in the mid-single-digit range or better in times of strength.

And we leverage our very strong and predictable cash flow to repurchase shares, enhancing our earnings per share growth into double digits.

We feel the track we are on will allow us to continue winning for the long run.

We believe our steady, consistent strategy is correct.

It is the attention to details and consistent execution that will matter.

Our belief is solid, consistent strategy, combined with superior execution, is a formula for success.

We are investing in the key initiatives that will drive our long-term performance.

In the end, delivering strong EPS growth and ROIC each and every quarter is how we measure ourselves.

We remain committed to delivering on our strategic and financial objectives.

Before we move to the question-and-answer period, I'd like to take this opportunity to recognize and say goodbye to one of our great leaders.

In early January, Harry Goldsmith, Executive Vice President, General Counsel and Secretary, will be retiring.

Harry has provided sage advice to our Company and its leaders for the past 20 years, and his contributions have been invaluable.

He will certainly be missed, but he has built a strong team that will continue to prosper after his retirement.

As we thank him for his service, we want to wish Harry and his family all the best in their future endeavors.

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

(Operator Instructions)

Simeon Gutman, Credit Suisse.

Bill, just curious what you're thinking in terms of competitive response to some of the changes that are happening around you?

Does AutoZone need to accelerate its position in the commercial arena?

Or is it pay-as-you-go and slow and steady as far as just trying to build the business and then benefit from potential disruption?

Yes.

Sorry, I don't know what's going on with that phone.

Great question.

Simeon, would you mind going on hold?

See if it's on your line?

No problem.

Evidently what -- maybe that's it.

Terrific question.

And Simeon, I'll come back to you once I answer to see if you have any follow-ups.

There are some pretty significant changes that are going on in our industry.

Frankly, when we look at those, number one, we have terrific competitors, both on the retail side and the commercial side across the board.

And our retail and commercial competitors are going to get better over time.

It doesn't matter whether there's a major trend -- transformational acquisition, or if they're just out there doing what they do every day.

We will certainly monitor what happens on the landscape.

There's a lot yet that we don't know, how that acquisition is going to be implemented.

We'll certainly monitor it, and stay close to it.

But the bottom line is, we have what we believe is a very robust strategy.

And regardless of what others are going to do, it's more important that we focus on what we're going to do and how we get better.

As I mentioned in the prepared comments, we really have taken on a step change in looking at new initiatives and tests, and we're very excited about those.

I think we need to focus on what we're doing and let everybody do whatever they're going to do.

Simeon, do you have a follow-up?

Yes, one follow-up, but it's not to that.

It's a different question, and I'm sorry if the phone is coming in choppy.

2013 turned out pretty solid, despite some choppiness on the DIY side.

Everything is pointing to that maybe we'll see a little bit of a pick up here in the near-term.

But if we don't, playing the other side of that, if things stay choppy, could the business still see mid-teens type of earnings growth, or high single-digit EBIT growth, if the DIY business stays under pressure next year?

I think I'll go back to one of the things that I said towards the end of our comments, is that our approach going in is that we're going to grow square footage in the low single-digit range and then grow commercial an accelerated rate, which we believe is a formula to drive mid-single-digit growth rate in EBIT.

And then we're going to add our share repurchase on top of that, which will comfortably get us into double digits.

Whether or not we can grow in the teens or the mid-teens, that's always an uphill battle for us.

But I'd say when you step back and look at what we've done over the last several years, we've been able to accomplish that.

Following up on that, though, one challenge that we do have this year is the second quarter last year was particularly challenging for us, and we very aggressively managed our expenses.

As the sales environment has improved a bit, we think it's important that we get up -- get caught up on a little bit of the things that we're behind on, and we make sure that we don't slow down the momentum that's building in this.

So I think you can look for us to be a little bit less aggressive than we were last year this time on the operating expenses.

[Feist] -- I guess at the expense of reining in some of the costs, that will stay on plan?

I'm sorry.

I didn't hear the first part of that.

New store growth?

New store openings?

New store growth, we're a little bit behind as we entered the year.

That's not atypical for us.

We'll be on the 150 stores range in the United States, and roughly 40 in Mexico, and still progressing in Brazil.

Although that's a little harder to forecast.

Okay.

Thank you very much.

All right.

Thank you.

Chris Bottiglieri, Wolf Research.

It's Aram -- Chris, maybe I should have you ask the question, because I've obviously got some problems.

Can you do me a favor and just talk about the gross margin a little bit?

Your competitors have made huge amounts of inroads getting the gross margin rate closer to yours.

And I know you said earlier you don't manage the business to a gross margin rate.

But if we were to adjust the income statements for the warehouse and distribution costs that you both include, I would say that O'Reilly's gross margin is probably higher than yours, even though they've got a lot more commercial and a lot less private label.

Wondering if you can talk about whether you've got an opportunity to improve that over time?

Or if there's some other reason I should think about as to why that spread might exist?

I think the way we are looking at our gross margin is, is that we've had some improvement in this past quarter, and frankly, over probably the last three quarters on lowering some of our acquisition costs.

Clearly, we haven't seen some of the inflation aspects that we have experienced in years past, which helped drive a little bit of some of the retail increases, which can be beneficial to gross margin.

As we mentioned before, AutoAnything is probably a drag to the tune of 37 to 40 basis points per quarter for the last three quarters, so that masks some of the productivity that the merchant organization has done in terms of improving their overall gross margin.

And then keep in mind that we're obviously growing our commercial rate -- commercial business at an accelerated rate.

Which also, as we mentioned in the prepared comments, continues to be a little bit of a headwind on our gross margin rate overall, as that business gets to be a bigger piece of the pie.

But we've dealt with that for several quarters, several years.

And we've done a good job of being able to demonstrate improvement in gross margin in spite of that.

So we look at our gross margin as relatively healthy.

It continues to grow.

I think we're doing a great job from a sourcing perspective.

I think we -- our supply chain organization runs a pretty tight ship.

We clearly have some headwinds from AutoAnything, but again, we're focused on dollars and not so much the rate.

Bill, I appreciate that comment.

I guess I was just trying to make sense more of the level than the pace of change, and I just would have thought that level for level, that you guys would be with the private label on the commercial mix difference.

I guess I would have thought that you guys would be head and shoulders above, but -- so that was one thing.

And then the second question I had is around the average ticket moderating.

Can you talk to us about the age of the vehicles that your parts are servicing?

And maybe the size of job, if that's been the issue?

Or if it's really more like for like price deflation or disinflation?

I don't think it has anything to do with the mix of products that we're selling based upon the age of vehicles.

It's really in the last several years we had fairly significant inflation in commodity-based products.

Oil-based products, steel-based products, lead-based products.

And really at an accelerated rate over what we'd seen in the past.

And so we had some fairly significant average ticket growth.

That has not only waned; it's basically ceased.

And in some cases, as Bill just mentioned, it's gone backwards.

And so it's put a short-term -- or mid- to short-term headwind on the average ticket.

We don't think it's something that's structural over the long-term, once we anniversary another couple of quarters.

We think it will probably go back to a more normalized rate.

Thanks.

And sorry for hacking on your call, but best of luck on the current quarter.

Don't worry.

We do it ourselves from time to time.

(laughter)

Michael Lasser, UBS.

I'm curious about how you are communicating some of the changes you're making to your business to your customers.

So with the inventory investments, are you messaging that to the commercial customers?

And if not now, do you plan to do that over time, especially as there should be, or potentially could be, some business up for grabs in the dislocation following some of the M&A activity?

I think it's a terrific question.

Number one, a lot of the changes that we are making are tests.

So they're discrete tests in discrete markets.

And while we don't want to go out on a macro basis and talk about it, because we don't know if those tests are going to be successful, and we don't know what the ultimate outcome will be.

The people on the ground in the local market are certainly going out and sharing with their customers what the changes are.

Once we finish, and I talked about the inventory availability tests that we have going on, it's going to take us about the balance of this fiscal year, I think, and we believe, until we have that figured out where we're going.

Once we have that solved, then we will have a more robust communication plan and marketing plan, either leveraging our very talented sales force or other mechanisms.

But it's too early yet to do that.

Okay.

My follow-up question was on the inflation topic.

Given that it has been such an important theme this year, is there a way you can potentially quantify what the impact has been over the past few quarters to your comp?

And do you -- how do you expect that to unfold as we enter calendar 2014?

Thank you very much.

It's between 1% and 2% off of its historical norms.

Sometimes in the last couple years, it was even higher than that.

But over what the long-term trajectory of average ticket growth has been, it's between 100 and 200 basis points off of that.

As far as when it abates, we have been dealing with it now in a big way for the last couple of quarters.

Once we anniversary that, hopefully it will subside some and start increasing back into more normalized rates.

Okay.

Thank you very much.

Best of luck with the rest of the calendar year.

Matt Fassler, Goldman Sachs.

My first question relates to your comment on advertising spending.

And I know you spoke about SG&A more theoretically as you thought about the year.

You did talk to a shift in ad expenses out of Q1.

Can you talk about perhaps when and how you intend to redeploy those dollars?

And any rough sizing would also be very helpful.

Yes, I think we probably called out, if I recall in the press release, that it was somewhere around 10 basis points or so.

And it's really just to shift map from Q1 to Q2.

So I expect some of those dollars would be spent more in Q2, and it's really just more of a timing shift than anything else.

Great.

And in terms of your inventory investment to date, the incremental inventory has been basically completely funded by your payables ratio.

And I guess you have yet to find the ceiling as to how long that can continue?

As you continue to build the inventory, and it sounds like it's working for you, would you expect to continue to have neutral working capital implications from that decision?

I think we'll have to see exactly how these tests work out and how much inventory we will continue to add.

And we will continue to add inventory over the next several quarters.

So our -- we would love to have it be a neutral working capital impact, but we'll have to see how that shakes out.

It may have a little bit of pressure on working capital, but I would suspect if it does, it will probably be a year or two from now.

Got it.

And then third and finally, you spoke explicitly about your retail or DIY market share, and I realize that there might be third-party data sources that make that a bit more accessible to you.

The real pickup, to your point, in rate of change seemed to be commercial, where you saw some nice acceleration in the underlying commercial same store sales.

Do you have a sense as to whether that is a market share dynamic for you?

Or would that, in your view, relate to some pickup in the market overall?

I'd say couple of things, Matt.

Number one, we've been gaining commercial share very consistently over a long period of time.

Over the last 12 months before this quarter, our rate of growth had slowed in commercial.

That re-accelerated in this quarter.

However, on the retail side, where we had grown market share for three years, over the last 12 months, we were not growing market share and we were losing some market share.

We began to reemerge with growing market share over the last couple of months.

That doesn't make a trend yet, but we're encouraged by it.

So I would say, it was really a pickup in share in both is what we saw.

Got it.

Thank you so much, guys.

Bret Jordan, BB&T Capital Markets.

Couple of questions on the inventory, Bill, that I think you commented that some of the less productive inventory in the store was being replaced with some of the new inventory.

And I guess we look at maybe expectations on inventory turn as you're building this.

Can you offset what in theory, I guess, would be slower turn inventory, because it's the incremental product that -- it was not the high velocities that you would normally stock.

Will you be able to offset some of that slowing inventory turn off the build by taking out some of this unproductive inventory you're finding in the stores?

I would say in fairness, probably not completely.

I think if we can make a trade-off in order to be able to have more inventory locally in the marketplace to be able to say yes on a more frequent basis, that's ultimately what we're trying to do.

We believe that on a long-term basis, that will improve market share.

So I wouldn't say that -- we are going to do exactly what you just said, but I would not necessarily think it's going to increase our inventory turn.

I would add one thing too, Bret.

As these new algorithms that we've created, we have a high degree of confidence in them.

But we're being more aggressive on the inventory adds than we are on the deletes.

If we add inventory too early in the lifecycle of the vehicle, it's no big deal.

It will be in the life lifecycle two years from now.

We want to -- we're doing about half of the deletes now, and we'll come back and do the other half next year.

So that will also be a little bit of a pinch point over for us over the next 12 to 18 months.

Okay.

And have you said what you think logistically you can get per store inventory up to?

It sounds like we're going to build for a few quarters now.

Inventory up 9% year over year, is that a growth rate we might see for the next -- for the balance of the year?

Or give us an idea where we might shake out at the end of the day?

I wish I could give you more clarity.

The inventory growth that we had this quarter, we said about 40% of it was due to the new rollout of algorithms.

We anticipate that will continue.

That portion of it will continue for the next three quarters.

The big unknown is, we have these big tests that we're out there trying to understand, increasing inventory in hub stores, trying other hub -- increasing the assortment in hub stores even further, and they will service other hub stores.

And these daily -- or more frequent deliveries out of our distribution centers, and we just don't know where that's going to go right now.

As we get toward the end of the test, we will be as clear as we can be with you where that's headed, but it's just too early to make that call right now.

All right, great.

Thanks a lot.

Appreciate it.

Chris Horvers, JPMorgan.

On that -- a follow-up to that inventory per store question.

Is there a way to track how much of that inventory investment, let's say, attributed to commercial comps or DIY comps or overall comps this past quarter?

Internally, yes.

Externally, we wouldn't disclose that necessarily.

So we're going to be able to track what we believe the lift in sales is for that incremental inventory by channel.

But we're seeing, as we always have when we've added inventory, improvement in both sides of the business.

So it's not an effort to improve inventories strictly for one particular side of the business.

Both retail and commercial both benefit from the increase in inventory.

Okay.

But you did mention that the commercial side seems to be responding more to the hard parts, so it sounds like there's a little bit more left on the commercial side?

Well, they are concentrated on the hard part side of business, so yes.

Okay.

And on the DIY share side, is there a way to -- can you look at that data regionally, to see where you're losing share in certain regions?

And is that -- is it coming back and stemming and then coming back in those similar regions?

We -- the market share information that we have has changed over the last couple of years.

We used to have very detailed information of a very broad set of our direct competitors that allowed us to see very granular information at the category level and at the regional level.

That went away, I guess almost two years ago now.

So in that data set, we can only see national information based upon hard parts and non-application-specific parts.

There is another data set that is a broader group of retailers, includes some mass and other sectors outside of us, that's sales floor only.

And we can see on the sales floor only things, on a very large regional basis.

But because the data's not that big, it's not that helpful for us to be digging in on a regional basis.

Understood.

And then on the -- that 10 basis point advertising shift out of 1Q to 2Q, just so we understand, is there more expenses on top of that shift that you're referring to?

Or is it -- or the pressure on expenses, I guess, versus what you saw this quarter?

Year over year, is it strictly related to advertising?

Or is there also more payroll and other expenses coming in?

I think the way we articulated it -- think about the advertising as a stand alone, and there's a little bit of a shift from Q1 to Q2.

I don't anticipate our overall advertising expenditures to be dramatically different this year versus last year in totality.

But there may be a shift between the quarters.

I think one of the things that Bill was highlighting earlier was that we were aggressive on some of our expense control in Q2 last year that, as we look back on it, and know some of the things that we're doing now, with the initiatives, with the more normalized winter, with a little bit of sales momentum, that we want to be able to keep that on track.

And so we're going to manage our expenses mindfully.

But at the same time, we're going to want to be able to deliver great customer service and continue to focus on capturing market share.

Understood.

And then the last one, just in terms of AP to inventory, how high is high?

Did you ever think that you would get to 115?

Obviously the inventory per store additions is actually diluting that down a bit, so the underlying trend seems to be higher there.

Is there an upper boundary of where you think that number can go?

Thanks.

Yes, no problem.

I don't know if there's an upper boundary per se.

Although we're mindful of the fact that again, we want to be able to say yes on a more frequent basis.

So winning, for us, is going to be driving commercial sales and driving retail sales, and not necessarily getting to a specific AP to inventory ratio per se.

I think as we look over time, and we determine what the appropriate inventory levels are, it's really going to be a function of whether inventory turn slows a bit.

And if inventory turn slows a little bit, then the AP to inventory ratio will begin to cap out at some point in time and moderate.

So we feel great about what we've accomplished, the merchandising organization has done an outstanding job of helping to manage to those kind of industry-leading numbers.

And we'll continue to push it, but I don't expect to see a significant amount of upside to that just yet.

Thank you.

Seth Basham, Wedbush.

You guys mentioned the moderation in average ticket on the DIY side, but help me understand better what's going on in commercial side, as you are adding inventory.

Are you seeing average ticket increasing?

And is that being driven by number of leads in the basket, or price, or something else?

Number one, we don't focus nearly as much on average ticket and customer count in commercial.

We're trying to bundle as much as we can in every single delivery.

And so that can have some fluctuations that aren't necessarily demand-based like they are on the retail side.

What I would tell you is that the commodity piece is certainly a much smaller part of the business than the commercial piece, so the loss of that commodity-based inflation would not be seen at the same -- to the same degree in commercial.

Understood.

I guess the reason I ask is because, if you're getting more units in that basket, your profitability on each delivery is probably going to move up.

From what I understand, as you make these inventory investments and get additional sales, how does the profitability coincide with that incremental capital you're committing?

And what's going to happen to returns on capital over the next two quarters?

We can barely hear you.

Sorry.

Let me repeat that.

What I'm trying to understand is, as you making these investments in inventory, at the same time, you're trying to grow your commercial sales.

You're going to make more profitable sales if you have more units in that basket per transaction.

And I want to understand that balance.

Are you going to see returns on capital moderate over time?

Or you're going to be able to offset that with improved profitability on your commercial sales?

Obviously, any growth that we get in the commercial business is in and of itself very additive to return on invested capital.

The real question is going to be, what comes out of these inventory investments that we make over time?

And as I said earlier, some of that is yet to be known.

The bigger piece, to me, on the broadening the inventory assortment, is not necessarily that it's additive to the basket.

What we're trying to do is be able to answer our commercial customers' call and say yes every time.

And in some cases, it's not about a basket play as it is about getting that next phone call when they have an odd part.

And so I don't necessarily think it would be as much about basket as it will be about just moving up the call list with that commercial customer.

Great.

Lastly, a follow-up on SG&A.

You guys mentioned incremental expenses in the next quarter.

Does -- do any of those expenses have to do with plans for the Affordable Care Act?

Are you making any changes to the way your labor mix is between part-time and full-time?

Or doing anything else that might impact your health care costs going forward?

That's a good question.

No, we're not really doing anything structurally in response to the Affordable Healthcare Act.

I would say that overall though, in the short term, we expect to have some increase in cost as a result of the Act.

I don't think it's going to be material.

We're more interested to see how the legislation plays itself out over the next couple of years.

I think it will be -- have a bigger impact two to three years from now than it will for the next 12 months.

So we don't expect it to be a big storyline in fiscal year 2014 for us.

Great.

Thanks, gentlemen.

Nice quarter.

Greg Melich, ISI Group.

I want to start with a housekeeping one, Bill.

The week shift that impacted DIY, which quarter does that come back in?

This -- I assume the second or third quarter?

Just given the seasons?

Yes, it will kind of mute itself out over the year, but probably pick up a little bit of it in the second quarter.

It's just that the bigger impact is that fourth quarter, which is the summer months, swapping that out for a November week is the biggest -- or the most dramatic switch.

But it will mute itself out throughout the year.

Great.

And then another comment you made about the leverage ratio, the 2.5 times debt to EBITDAR?

You mentioned that you manage to a credit rating, not a leverage number.

And I just wondered if your discussions with the rating agencies have shifted at all, especially given Advance and the sort of leverage they are taking on, and the rating they've kept while doing that?

No.

No changes.

I just wanted to be clear that we want to be at around this BBB stable credit metric.

That's what we focus on predominately.

Each of the credit agencies have their own individual metrics as to determine how they're going to rate us.

And so we just use 2.5 as a rounded number for you guys in order to do your models.

Okay.

And then on the inventory increase, it sounds like you're -- I can see why it wouldn't hurt AP to inventory ratio today.

But if it's slower-turning inventory and you're now buying it, the reason you mentioned one to two years, is it is on the backend.

If the stuff hasn't sold in a year or two, just because it's slower turning.

Is that how we should think about it when we model it out?

Yes.

And keep in mind that we're talking in test mode at the moment.

So we'll determine exactly how much we wind up adding, and where it is, and what the impact is going to be, and have more knowledge about it as we begin to roll it out.

And as Bill said, we'll probably spend the next several quarters working through the test, determining what works well.

But the quick answer is yes.

That would be one way to think about it, if it plays out that way.

That if it does slow turn, it would probably happen a year or two from now, just given the nature of our overall turn.

But again, we're all about putting inventory into the local market in order to say yes on a more frequent basis.

We want to drive sales.

Great.

And then lastly on commercial, to tie that together.

If I take the program growth and the total dollar growth, I get that they're pretty much the same, and I know new programs are less productivity.

But assuming that they accomplish low- to mid-single-digit in commercial, if that's the metric to watch, when would you expect this inventory, if the test is working, to actually start to inflect that upwards?

I think it is going to take us a while to number one, get this inventory into the marketplaces.

I mentioned it's going to take about a year even to get it out there.

Once we get it out there, then we can have a more comprehensive campaign -- marketing campaign to talk to our customers about.

So I think we need to be careful not to be looking for it in the next quarter or two.

I think it will build over time, but it may not be as material as being able to highlight it at the macro level.

That's great.

Thanks, guys.

Have a great holiday.

You too.

Thanks.

Thank you.

I would now like to turn the conference over to Bill Rhodes for closing comments.

Before we conclude the call, I'd just like to take a moment to reiterate that we have a long and strong heritage of consistent, impressive performance.

We are currently working on a variety of exciting new initiatives and tests that we believe will enhance our performance over time.

Ultimately, our AutoZoners have delivered, year in and year out, and I'm highly confident they will continue to do so.

Thank you for participating in today's call.

And we'd like to wish everyone a very happy and healthy holiday season and a prosperous new year.

Thanks for participating today.

Thank you.

This concludes today's conference.

Thank you very much for joining.

You may disconnect at this time.