O'Reilly Automotive Inc (ORLY) 2006 Q1 法說會逐字稿

Good morning my name is Lisa and I'll be your conference operator today. At this time I'd like to welcome everyone to the O'Reilly Automotive first quarter 2006 earnings call. [OPERATOR INSTRUCTIONS] Thank you, Mr. Batten you may begin your conference.

Good morning, everyone and thank you, Lisa. This is Jim Batten. Before we start the call I'm going to read a brief disclaimer.

The Company claims protection of the Safe Harbor for forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements can be identified by forward-looking words such as; expect, believe, anticipate, should, plan, intend, estimate, project, will, or similar words.

In addition statements contained within this call that are not historical facts are forward-looking statements, such as statements discussing, among other things, expected growth, store development and expansion strategy, business strategies, future revenues and future performance.

These forward-looking statements are based on estimates, projections, beliefs and assumptions and are not guarantees of future events and results. Such statements are subject to risks, uncertainties, and assumptions, including but not limited to, competition, product demand, the market for auto parts, the economy in general, inflation, consumer debt levels, governmental approvals, our ability to hire and retain qualified employees. Risks associated with the integration of acquired businesses, weather, terrorist activities, war, and the threat of war.

Actual results may materially differ from anticipated results described or implied in these forward-looking statements. Please refer to the risk factor section of our form 10-K for the year ended December 31, 2005, for more details.

With that I'd like to introduce Greg Henslee our CEO and co-president, Greg?

Thanks, Jim.

Good morning, everyone, and welcome to our first quarter 2006 conference call. Participating on the call with me this morning in addition to Jim Batten our CFO, will be Ted Wise our Chief Operating Officer and David O'Reilly our Chairman.

I'd like to start off by, again, thanking Team O'Reilly for another very strong performance in the first quarter. Our team continues to focus on providing the very best customer service levels, in our business, to both our professional installer customers and our do it yourself customers. And considering the strong 7.1% comparable store sales, we're comparing to from first quarter '05 along with the considerably mild winter we had in most markets, decreasing demand for some of the more seasonal items we're pleased with comparable store sales growth of 3.8%.

As mentioned during our year-end '05 conference call, sales started slowing down from the higher single digit comp range late last year. And that trend pretty much persisted throughout the quarter.

April is running on a much stronger pace, and we're looking forward to more normal spring and summer selling season. And continue to project comparable store sales in the 4 to 6% range for the second quarter and for the year.

The factors driving increased demand in our business remain in tact as the average age of vehicles driven in the U.S. continues to rise. Moving more vehicles into the ideal age range for repairs and maintenance of 6 to 12 years. The forecasts show that the vehicle population in that range will increase by approximately 1.5 million vehicles per year for the next few years fueling our industry's continued growth. And these vehicles are being driven more miles annually than ever in history.

The Automotive Aftermarket Industry Association is forecasting a 1.6% increase in total miles driven in 2006, over '05, which will put the total number of miles driven in the U.S. at just over 3 trillion miles continuing a trend of annual increases in miles driven that's been going on for many years. To put this in perspective, in 1980 there was just 1.5 trillion miles driven in the U.S. So our country has doubled the number of miles driven in the past 25 years.

I know most of you have to be wondering how fuel costs factor into the equation and the projection of future miles driven? It's obviously an unknown to some degree. But history has shown us that in times of fuel price increases, people tend to make sure their cars are better maintained in order to maximize their efficiency and as energy cost eat more discretionary income seem to keep their cars longer and maintain them better to ensure reliable transportation at higher mileages.

We've not seen the inverted sales trends in relation to fuel price increases some of our competitors have mentioned and feel that is directly related to our sales mix, which we feel is made up of more non-discretionary repair items that in many cases have to be purchased in order to keep cars running reliably and safely.

Our gross margin for the quarter came in 43.5% compared to 42.1% last year a 140 basis point improvement. We attribute a portion of this to decreased demand for some of the lower gross margin seasonal items that we typically sell in the winter.

However, a portion of this increase is directly related to our ongoing efforts to maximize our margins while remaining competitively priced through vendor negotiations, price shops, related selling, and by distribution efficiency enhancements which improve gross margin since these costs are included in our costs of goods sold.

We're very focused on improving productivity and efficiency in our distribution and transportation areas. As most of you know, we replenish our store's inventory five days a week and many of our stores get multiple deliveries each day from our distribution centers and hub stores for hard to find parts. This high level of service is extremely important to the successful execution of our dual market strategy yet it is relatively expensive. And we have an all out effort under way to improve efficiency in this area without sacrificing the competitive advantage this service allows us.

One of the projects that’s under way is voice activated order picking. We've been testing this in our Oklahoma City and Dallas distribution centers for several months and through an extensive process of training and adjustments to the system have realized a significant increase in productivity on the order picking side of these operations as well as a very meaningful improvement in accuracy generating an approximate 20% annual return on investment for the implementation. And therefore have made the decision to move forward with rolling these systems out to all of our directed put away DCs.

By directed put away I'm referring to our distribution centers that use a space management system which directs put away of merchandise as received from vendors to optimize locations based on several factors including size, movement, weight, and so forth.

We use these systems in about half of our distribution centers and are in the process over the next few years of converting our remaining more traditional distribution centers which basically stock merchandise in alpha-numeric sequence by product line to these more advanced warehouse management systems and will subsequently implement Voice Picking at that time.

Additional areas of focus include process improvements, material handling equipment upgrades, truck route optimization, and a relentless focus on safety. These initiatives will allow us to continue to stabilize and hopefully decrease our distribution and transportation costs as energy expenses continue to rise.

Operating expenses for the quarter increased to 31.4% from 30.6% a year ago. An 80 basis points increase largely attributable to the decreased leverage based on comparable store sales but also affected by expensing of stock options, significant increases in utility costs, store level delivery expenses, and travel expenses as a result of the energy cost increases we've experienced.

We have several efforts under way to mitigate some of these costs including implementation of a store level energy management system which we've tested in a few stores with very positive results.

These devices allow us centralized control and monitoring of our store level HVAC systems which will allow us to defect poor performing HVAC equipment via our internal data network in order to pro-actively correct an issue rather than allowing a device to use more energy than necessary for an extended period of time. They also allow us to better control the temperature in our stores and prevent things like running the air conditioner in the backroom while the freight door is open for an extended period. As well as control our interior and exterior lighting. We project the annual return on investment for these devices to be in the 16 to 20% range.

We're very pleased with our operating margin of 12.1% for the quarter. A 60 basis point improvement over the 11.5% operating income we reported last year. And the highest first quarter operating margin in our Company's history.

This was fueled by our gross margin increase, which as I mentioned was driven in part by the lack of demand for some of the lower margin winter items. We're working very hard to maintain our gross margin at these higher levels. So we would ask that you please keep in mind our gross margin is driven in large by competitor pricing and we focus intently on making sure our prices are set to allow our customers to experience what we believe to be premium service at prices equal to our competitors.

We detected no significant changes in our competitor pricing practices in the recent past other than normal price changes related to cost increases mostly in the petroleum-based product categories. That being the case, gross margin can still be somewhat hard to forecast based on unforeseen product mix changes due to various weather extremes or lack of; however, under current pricing conditions, we're comfortable forecasting our gross margin at slightly higher levels than we forecast in the past closer to the mid 43% range.

We're also very pleased with our net income increase of 22.1%, over last year coming in at 7.6% of sales compared to 7.1% last year. Again, a first quarter record high.

During the quarter, we added 36 new stores bringing our inventory to 755 million from 649 million a year ago a 16.3% increase. And I want to add a little detail to this increase and explain why the increase exceeded our sales increase of 15.1% for the quarter.

As many of you know, we're in the process of completing the inventory changeovers and store resets for the Midwest Auto Parts acquisition we made in May of last year. These resets and changeovers result in various levels of inventory duplication depending on timing and that is a significant driver of the increase.

We're also deploying a better more market-compatible inventory mix in those stores that will position us to grow the business for years to come. So a portion of the inventory increase in that region is part of our plan to gain market share.

In order to articulate the effect these stores and the changeovers have on our overall inventory performance we looked at our Company excluding the sales contribution from Midwest as well as the inventory value from that region. Under that scenario, sales growth outpaced inventory growth by 95 basis points in line with our historic performance.

We expect to complete these changeovers in the second quarter and will benefit from the inventory deployment as we continue to grow our business in these markets.

Inventory turnover remained flat compared to last year at 1.7 times on a total asset basis, however; increased to 2.8 times net of payables from 2.6 times last year as a result of our continued efforts to negotiate extended payment terms with our vendors.

Our accounts payable as a percent of inventory increased 160 basis points to 41.4% at the end of the quarter compared to 39.8% last year. Payment terms continue to be an area of focus with each vendor negotiations and as part of every product line review and we're targeting a ratio of 45% by the end of the year.

In closing, we remain very confident in the vehicle population dynamics that fuel our industry and of our ability to execute our dual market strategy which allows us to fully capitalize on growth in both the do-it-yourself and the do it for me segments of our business.

We're on plan to reach our target of 170 to 175 new stores this year and are planning the opening of our Indianapolis distribution center by mid-summer. We're also very excited about what this year will bring as we work toward the implementation of our new point of sales systems as well as our internally developed store staff scheduling system which will help ensure the staffing necessary to provide the levels of customer service which has allowed us the success we've had as well as ensure our single highest expense category is properly managed.

Ted Wise will be discussing both of these initiatives in more detail and I'll now turn the call over to him.

Thanks, Greg.

I would like to also start off by saying our store operations and sales team did an outstanding job going up against a challenging 7%, plus, comp of last year in the first quarter. We also kept a good grasp of our controllable expenses at the store level.

Our team left Dallas and our managers’ conference in early February realizing that we had a mild winter, and this could be an issue and we set goals of what we knew had to be accomplished to get '06 off to a great start.

Our challenge to them was to return to their stores and make sure every do-it-yourselfer customer received outstanding service and that we improved sales through related and selling up. Stores also worked on improving their overall retail image and took advantage of any spare time and additional team member training preparing for a busy summer ahead.

At the professional customer level, our territory sales managers and our in-store sales specialists teamed together to make a higher quality of call and more calls with existing customers as well as prospecting for new accounts that we know will set the stage for the balance of the year. Of course, the stores supported this sales work with outstanding great service to these customers last quarter.

Regard to the area that Greg mentioned on our new programs this year in stores, and as we briefly covered in our last conference call, we have a couple of major initiatives this year in our store labor management, and our new point of sales system. Along with a new and enhanced electronic catalogue look-up program.

As we all know, in the retail business, having a right amount of help in the store for peak rush hour is the key and the basis for good service level.

With our dual focused on both the DIY and the professional customer scheduling can be a challenge for a growing store. This is especially the case for evenings and weekends, plus we always have to factor in the effect of seasons and weather on our store traffic.

With our managers focus and dedication to customer service, we've done a good job in the past but obviously know that there is an opportunity to improve in this area in managing both the service level and the store productivity.

Our new scheduling system provides the managers a recommended model schedule each week by using hourly ticket transaction account and sales dollar history over an 18-weeks of previous sales history. This 18-weeks includes the previous six weeks for the current year, combined with the six-weeks before, and the six-weeks following the same period from the previous year to develop a sales trend.

Again, going back to the complexity of staffing for a 50/50 mix of retail and installer business, this will be a great guide and tool for the manager to use but will still require their realtime knowledge and interpretation of what staffing is required to reach our market in timeliness.

We currently had this implemented in test phase in several stores with plans to roll it out to all stores by the middle of the year. During the same timeframe we're also rolling out a new graphical point of sales system that modernizes our POS programs and provides an easier and more user friendly interface for new team members to use. This system has a much improved stream design and better access to the data and will give us a foundation to more easily add new functionality to our system in the future.

At the same time we'll be integrating a new version of electronic catalogue provided by ACTIVENT, our third party provider, for parts lookup data. Enhancements in this program will include technical service bulletins, product images, VIN look-up data and expanded vehicle age coverage back to 1962.

Combined these new store enhancements in labor scheduling and our sales processes at the sales counter, will further improve our service level and increase store sales and team member productivity. Needless to say we're very optimistic on the positive effect this will have on our stores, by providing our managers and team members better tools to take care of customers.

Now to quickly recap our store installation schedule for the first quarter we added a total of 36 new stores, with 30 of them being brand new stores and six of them coming from acquisitions. This is slightly behind where we wanted to be due to some permitting issues with various construction projects. However, at this time, we are projecting a strong second quarter with a goal of ending up at, approximately, 90 stores at the middle of the year. This will put us back on schedule to reach our target goal of 170 to 175 stores this year.

Now in addition to the new store count, we relocated one store and did fairly major renovations in eight stores. We also finished the last of the 68 store outfront staffs in our new Midwest stores and we're on schedule to finish all of the line changes in the second quarter.

We are looking forward to having the challenging and labor-intensive part of these line changeovers behind us that will allow our team members in the Midwest stores to focus 100% of their time on growing sales. Of course, the remodels and relocations in the Midwest stores will be going on for some time. We have developed a good plan for which stores need to be relocated and which ones we’ll be staying in and that will need to be renovated or remodeled. We're also had to put a number of new sites under contract and in the development process for future growth in the new northern markets.

I'd like to finish by saying that the entire O'Reilly sales team is very focused on growing our business from every angle, and we look forward to having a great second quarter.

I'll turn it over to Jim Batten now.

Thanks, Ted. Just to go over some of the numbers, again, give a little more information then we'll take questions.

First of all, again, our sales were up 15.1%, to $536.5 million for the quarter with comps of 3.8% for stores opened greater than 12 months. Our independent jobber sales were $10.9 million for the quarter.

Gross profit again 43.5% compared to 42.1 in the prior year, again the trend continues strong from 2005 due to improvements in distribution labor costs, product acquisition and also sales mix resulting from the mild winter weather and less sales of lower gross margin winter goods.

Our SG&A 31.4% compared to 30.6% in the prior year. Increases in utilities, fuel costs, travel, property taxes, and also stock compensation expense. If our comps had been 6% in the quarter our SG&A would have been 30.8%. That's just given as a reference point to compare the prior year.

Again, our operating income was 12.1% compared to 11.5%, a 60 basis points increase and a 21.2% increase in dollars in operating income.

Tax provision 37.1% of pre-tax income compared to 37.2% in the prior year.

Net income of $40.6 million or 7.6% of sales and this is a 22.1% increase in dollars for the quarter.

Diluted earnings per share $0.35 compared to $0.30 in the prior year, a 16.7% increase on 114.6 million shares in line with the consensus estimate of $0.35.

The balance sheet again Greg mentioned inventory at $755 million, this is a $28.6 million increase from December 31 of '05 due to our 36 new stores, the Midwest changeovers, and upcoming Indianapolis distribution center.

Total assets of $1.803 billion, an $83 million increase from December 31 '05 due to new store growth and seasonality.

Our AP was 312.5 million and again as Greg mentioned, AP to inventory of 41.4% due to our efforts to increase AP terms with our vendors.

Our total debt is $100.6 million, debt-to-total capital is now 7.7% and we are in the process of issuing new private placement notes to pay off the $75 million private placement notes due in May of this year.

Our EBITDA was 15.1% of sales for the first quarter, compared to 14.4% last year for the first quarter. Our last 12 months EBITDA is 15.6% of sales.

Some of our return metrics our return on equity is at 15.2%. Our return on assets at 10.1%. And our return on invested capital 14.4%. These are improvements in all these measures.

Now for the miscellaneous information. Our LIFO for the quarter we had a $5.4 million LIFO charge in the quarter. Our depreciation and amortization expense was $15.1 million. Our capital expenditures were $47.5 million. Interest expense $1.4 million.

Our cash flow from operating activities was $56.9 million. We had $9.5 million of free cash flow taking operating cash flow net of capital expenditures due to the implementation of FASB 123R the tax benefit of stock options exercised is now in financing cash flows and no longer in operating cash flows. This was $5 million in the first quarter of '06. And in '05 that number is still in the operating cash flows.

Now for our guidance. Our CapEx guidance for '06 is $215 to $225 million. For revenue we're maintaining our existing guidance of $2.31 billion to $2.375 billion, with as Greg mentioned, a mid single digit comp which we define as 4 to 6%.

Interest expense of 4 to 5 million; depreciation and amortization of $60 to $63 million for the year. A tax rate at 37.1% pre-tax income.

We're also maintaining our existing earnings per share guidance which to reiterate was $1.59 to $1.65 excluding stock option expense and $1.57 to $1.63 including stock option expense. And for the second quarter of '06, our guidance is $0.43 to $0.45. And our free cash flow guidance for the year is $25 to $35 million.

And before we do questions, I'd just like to mention that we have completed all of our year-end 2005 work with the auditors and received another clean bill of health with regards to Sarbanes-Oxley section 404.

At this time, Lisa, would you come back and take us through Q&A, thanks.

[ OPERATOR INSTRUCTIONS] Your first question comes from Tony Cristello with BB&T Capital Markets.

Good morning, gentlemen.

Good morning, Tony.

Good morning, Tony.

I guess I was just wondering you said April was off to a good start, I'm wondering if that's got to do with better commercial business or better DIY business or combination of the two?

It is both. You know, both sides of the business are up. You know, April, started off strong and has remained strong. And both sides of the business are growing. As they did during the first quarter. You know, during the first quarter, do it for me was slightly higher than do-it-yourself but they were pretty well balanced and that continues into April.

If you look back with the spike in gas prices after Katrina and sort of the spike of gas prices you're seeing now, I'm assuming that, maybe, that impacts mix a little bit, but have you noticed any drop-off or is that already reflected in what you see as a strong April?

It is already reflected in what we see as a strong April and we didn't see a change in mix following the, you know, gas spike as a result of Katrina or the gas spike we experienced this quarter.

Okay. And one last question. Update on Midwest and maybe did you say the re-merchandising is now complete and you should start to at least get some benefits of that going forward? And, then, second, when do you expect any traction on sort of the top line? I know they have a been contributing on EBIT side of things.

Yes. Our -- you know, our number one priority was to go through all of the Midwest stores and upgrade their front display floors and get the outfront merchandise planagrammed and that's completed. And at the same time, you know, we've been adjusting out and lifting and you know working on the backroom lines, along with the warehouse inventories.

And the outfronts are done, the backrooms are almost finished. And as you might imagine there was a tremendous amount of merchandise flow in and out of the stores and a a lot of busy work. So as I mentioned before, now we're excited and relieved that all of that is behind us. The physical work part.

And we're challenging the team now not that they didn't become unfocused, but now they have the time to become more focused on just going out and growing the business. Obviously, they're more comfortable now with our systems, our point of sale system, the product lines that are different, so we're ready to go out and really, you know, hit the service level. And grow the business. And hope that will be - will be getting traction as you said here in the next -- you know this spring. We should see some nice growth there.

Tony, if I might add something this is Greg. Those northern markets, again, they are relatively new to us, because as far north as we went prior to this was Iowa. And winter is a significant factor relative to demand up there. And with them having as mild a winter as they had all we understand from the team members that we carry over is that would have a significant impact on the business and we still grew business up there, but we didn't grow it to the point we would like. And we're looking forward to this summer with the changeovers being completed as Ted said to really gain traction.

That sounds like things are going very well then, okay, appreciate it, thanks, guys.

Thanks, Tony.

Your next question comes from Alan Rifkin with Lehman Brothers.

Morning, Alan.

Hi, everyone, good morning, this is actually Vincent Sinisi calling in for Alan, how are you all doing?

Good. How are you?

All right, pretty good thanks. Just a couple of quick questions, if I may. I know you said April started off strong and has been continuing on a solid pace, just wondering, though, if you could give any color in terms of intra-quarter trends during the first quarter, when did you start seeing some improvement in there?

During the first quarter, the January started off -- it was really pretty even throughout the quarter and relatively, you know, slow January. February ramped up a little bit. March a little bit more. You know there wasn't anything -- any major spikes in the quarter and then April has of course, picked up quite a bit from where we were in the first quarter.

One other quick question if I may? Any changes from a promotional or a marketing standpoint that you either have done or are planning to do that you could share?

Well, the, probably, the most of the change would be tied to our new store openings. We’re taking a much more aggressive stand on getting more flyers out, direct mail, more radio, you know, doing more to get the store off to a better start.

Of course, obviously, the installer business we're doing more field work. We've got a, you know, really concentrated effort to go into a new market. And work it much harder than maybe what we had in the past. I mean, we’ve put together a task force now that is really focused on new market penetration.

Okay. All right. Great, thank you very much.

Thank you.

Thank you.

You next question comes from Gary Balter with Credit Suisse.

Hi, it's Gary and Seth.

Hi, Gary.

How are you? I’m going to ask a question and then I'll turn over to Seth for some numbers. But you know, I've been out marketing the last few days and one of the questions we get is with the mild winter, you know, warmer weather that you faced, does that -- there's probably been less damage to cars. Does that imply anything for spring and summer sales? That we should be thinking about?

In the repair business it doesn't so much; it does in the body shop business, of course, icy roads result in collisions that in many cases aren't repaired until summer time. So it does in the collision business; not so much in the repair business.

Having a mild winter has -- does not have as much effect on the following season as having a mild summer, since in hot weather a lot of electrical components and batteries and things like that. They initiate failure but they actually don't fail until they’re taxed in the cold weather. So, we wouldn't expect as much of an effect in the summer from, you know, a mild winter as we would in the winter from a mild summer.

Okay. That shouldn't be good. Seth.

And, Jim, just on the gross margin, expectations going forward, I think you are guiding to, 43.5 range on your last call as well as today. Does that imply year-over-year, the remains 3/4 of the year we should see a decline?

No, it does not. I think what it implies is that the trend should be a little more linear this year. Last year we had a lower first quarter, kind of a higher second and third and than a really high fourth. But I think we should be in the 43.5 range more consistently.

Obviously, you know, you can have a 30 to 50 basis points swing in a given quarter either way on that. But you know with the continued good management of distribution costs and the, you know, pricing environment being stable, and our product acquisition, we think it will be more consistently in that range.

Great. And one last housekeeping question, can you remind us what the FIFO charge was -- I mean the LIFO charge for Q1 '05?

Q1 '05 LIFO was -- got it right here. Was $1.3 million.

Great. Thank you.

Thank you.

Thanks.

Your next question comes from Sharon Zackfia with William Blair.

Good morning.

Good morning, Sharon.

Question on new unit productivity. My model is only as good as I am but it looks like new unit productivity might have been down a little bit year-over-year and I was just wondering if you could talk about your new markets and whether we're seeing some impact from Midwest there or what's happening to those numbers?

Sharon, this is Jim and I'll let Ted finish. But one thing, remember we bought Midwest June '05 so we had one month of them in the second quarter of '05, nothing in the first quarter of '05 and they’re in there all this quarter. So I think, you know, their smaller stores, smaller average volumes that drives all of our sales numbers down. And I'll let Ted talk to the new unit.

Sharon, actually, outside of Midwest we feel like our new expansion markets particularly in the southeast around Atlanta, and now going into Indianapolis, they appear to be coming out off the ground stronger. Again, a lot of it is due to the work that we're putting in upfront when a new store goes in.

You know, from recruiting the right people and, then, you know, really focusing on that first 90 days that the store is opening.

Once we lap the acquisition of Midwest should we kind of see those numbers sort of firm?

We would anticipate that. You know, once we get -- really it'll be the third quarter of this year before we have a full quarter that's truly comparable.

Yes.

Thank you.

Thanks, Sharon.

Your next question comes from Scott Ciccarelli with RBC Capital Markets.

Hey, guys, how are you?

Hey, Scott.

Couple of questions first, I know the question has kind of been asked a couple different ways. But is there any way to kind of figure out, you know, the difference in gross margin improvement? How much we should attribute to structural improvements and how much was really from mix? Because of fewer seasonal items?

That's very difficult, Scott. You know, I'll let Greg comment in a minute. But we kind of look at those factors all kind of contributing pretty evenly and you know mix, we can ascertain some things from that but we try not to get too cute with exactly what is what. But our core margin we know continues to be strong.

Yes. Yes. It is hard to measure as Jim said because the product mix changes and within any particular product line there are a few changes throughout in any given year. You know we're very SKU-based. And we work with 110,000 SKU-bases in what we stock.

So we're constantly moving items in and out and that changes the gross margin of any particular product line. Most of which can be affected by seasonality. So it's hard to measure from a product mix standpoint. It's easier for us to to measure the productivity enhancements and their effect.

I would say they're pretty evenly balanced, you know, the gross margin improvements have been, probably a little more leaning toward the just the cost of goods and the, you know, difference in selling price and the profit we make there, as compared to the decrease in operating expenses for distribution. We continue to work on both and they're pretty well balanced.

And the terms of the SG&A, you know, you mentioned like the centralized HVAC.. Are there other things that we should see potentially flowing through through the course of the year to help constrain SG&A growth at this stage?

Well, we just got an all out effort to control SG&A. You know we've always been a company that operates very economically and very careful from an expense standpoint and our management team is just on full alert relative to managing expenses when it comes to travel or anything else we do relative to expenses. Yes, for instance, here corporately, we're actually not adding corporate positions unless we absolutely have to. We're just being extremely careful on anything we don't have to do from an expense standpoint we're not doing it unless it generates a meaningful ROI, you know, in the 16 to 20% range at least.

Does that entail cutting back store labor at all?

No. That's the one thing we're very careful about doing. We realize that cutting store labor obviously is going to have a direct effect on sales and we just don't see the need to do that. We're very much a growth company and very clearly understand the effect that cutting store staffing has on future business and we are just not doing that.

Great, thanks a lot, guys.

Your next question comes from David Cumberland with Robert Baird.

Thanks, good morning. On the Midwest changeovers, have those caused some sales disruption during the changeover process? And, also, were these conversions a factor in the higher SG&A ratio?

Well, you know, you -- obviously, you -- any time you go through that type of transition in a store, it is going to cause a little disruption. Although it was temporary and, again, not 90 days after the systems change people are comfortable using our POS and using our store procedures.

So, you know, we're back to normal now and things have definitely kind of stabilized. You know, in that regard.

As far as the changeover from SG&A, there's no question the first quarter and actually part of the last quarter, we traveled a lot of people up to those stage from, you know, that's how we staffed the changeovers. We had teams going up -- actually what we did is we asked each region to come up with store install teams and we'd send five or six team members out of each district, they put together a changeover team that would go up there for a week. So you had the air travel and the motel and meals and things like that. So you know that was an additional expense from a travel standpoint.

But it also helped us, you know, kind of get some leverage off of the payroll we had, you know, maybe in a little bit different slow wintertime by taking those team members up there and getting the job done.

So, again, that's all behind us now. We'll, obviously, continue to do major renovations in remodels, but it will be on a more planned basis and staffed by primarily by team members from the area up there.

Thanks. And separately on the roll-out of voice activated picking, to more DCs what's the planned timing for that roll-out? And will costs related to the roll-out impact the near-term cost ratios by much?

We already got Oklahoma City and Dallas. Our next one, most likely, will be Houston. The cost vary by DC depending on what type of RF network they have and some cases there is an an RF network required, it depends on the size of the facility. I would say that you know on a per DC bases the cost is somewhere between $200,000 and $400,000 depending on the distribution center.

And that's all capitalized.

Yes.

So it won't hit SG&A in that magnitude.

Thanks and my last question for Jim. What was the level of stock options expense pre-tax or on basis points?

It was, approximately, 10 bips.

Thank you.

Your next question from Scott Stember Sidoti & Company.

Good morning, guys. Most of my questions have been answered already. But could you just comment on – there’s been some talk about one of the larger home remodeling centers getting into selling some automotive parts. Could you give general comments on what you expect, if any, effect on the industry? And your company?

Well, our business is in large a matter of -- or success in our business is a matter of good service and convenience and availability of parts. You know the kinds of things that the Home Depot are testing are things, of course, that are consumer items that they'll sell some. But there not the kind of thing that is our core business. They’re the type of things a Wal-Mart would carry.

I would suspect, at least some of our thoughts internally here as we discussed it is the type of customer that would buy those things at Home Depot might even be more the Target-type customer as opposed to even the Wal-Mart-type customer. We would suspect that the effect if they were to roll that out companywide would be more impacting on the big box mass retailers more so than the parts stores.

If they would get to the hard parts business that's a whole different thing. But again, location is such a big factor in the hard parts business. And to go into a Home Depot to pick up something you need to work on your car or whatever the case may be, is just unlikely. Although as a matter of means they are there anyway they might pick up oil or a chemical or something like that.

So we don't see it as a big factor and frankly think there was kind of an overreaction to be honest.

Okay. And last question on the commercial side of the business, couple years ago you’ve seen a couple of your competitors get much more aggressive into the commercial side. Have you seen any of that? And you know, just maybe talk about that side of the business a little bit?

Well, there, they've -- they both are still in the commercial business to some degree. In various markets you might have one kind of withdraw and than another one come in. You know, they -- I think they do better in markets where there's not a real savvy wholesale competitor like our company or maybe a NAPA a company-owned NAPA or a CARQUEST but they had some success and I sure don't want to take any away from what they've done. I'm sure they're happy with what they've done.

We're certainly comfortable competing at that level. We competed for wholesale business for our whole existence. We came from the wholesale side of the business and made the conversion to retail back years ago. So we're comfortable there.

But, yes, they're both dabbling in that and I suspect they'll have reasonable success.

That's all I have, thank you.

Thank you.

Your next question comes from Bill Sims with CitiGroup.

Good morning. Thank you.

Hi, Bill.

I have two questions. One is following up on the commercial and retail comp. Historically last couple of quarters you said that there's been very little divergence between the comp performance of both segments of your business. When comps slowed you again suggested that they slowed at a similar rate.

But do we see a greater slow down so we see the spread between the two widen during the first quarter? And then as comps accelerated, do we see them accelerate faster in one segment versus the other?

They did widen a little bit. Again they're pretty well balanced and we don't give specific numbers for each one. Wholesale or do it for me comps increased slightly greater than DIY comps. That was just a slight change from the previous quarter again nothing meaningful and the acceleration we've had in April has been more balanced with what historical trends would be. Again a pretty even balance.

And the second question is just for Jim. When we look at your gross margin guidance, I just want to be clear on that. You suggest [inaudible] your gross margin to be somewhere in the 43.5% range, would that imply a risk of year-over-year decline in gross margins in any given quarter for the remainder of the year? Given you've had three out of -- or two out of three quarters above that range last year?

Well, that's hard to predict. You know the fourth quarter would probably be the most likely one because it was, you know, above the normal range. I mean the fourth quarter always is little more variable. But, but, we, you know, feel like year-over-year we'll be in that same range as we were last year.

Okay. Very good, thank you.

Thanks.

Your next question comes from Matthew Fassler with Goldman Sachs.

Thanks a lot, good morning.

Good morning.

I'd like to start out just by kind of circling back to your presentation. You talked about a number of company initiatives, operating initiatives, POS labor systems, the work you've done on the DCs, probably more than we've heard, you know in any one prior call and seems like you're quite busy with a lot of interesting initiatives.

As you look at the magnitude of the work you're doing, do you feel like it sets you up for any kind of step function move in profitability when all is said and done? Just as you compare, once again, the changes that you're making to the business and you're infrastructure to the kinds of changes you made at any one time in prior years?

This is David. I'll just throw in a comment here.

I think the reason that we went into a little more detail isn't representative of the fact we're doing more, we just decided to share a little more information to let you guys know, you know, that we did have a lot going on ongoing. It's really not an activity level that exceeds what's been, in most cases, you know, throughout the last several years. We've always got different projects going on. We try to meter those and space them in time so that there's no impact to operations or SG&A in any given period.

Of course, they're prioritized to give the highest return on the invested time and effort. And, as everyone knows, it is expensive to grow a company, especially at the 20% or whatever compound rate we continue to drive the Company. Earnings-wise. And the high teens or mid teens, whatever, sales-wise.

So, you know, we select that activity level very carefully and we look at it, in a lot of different respects before we do that.

We just wanted to share the activity level that we have going on and, you know, most of them are very, very meaningful.

Got you. And, the second question I would ask. If you think about the drivers of your sales trends, you know, it sounds like they got better, you know, through the quarter and January was the worst month from a weather perspective.

But as you tracked sales against weather and other factors, was weather kind of the single factor that you saw kind of moving the needle as you saw the changes in the weather versus changes in your sales trend?

I think in this past quarter it was. Simply because, and I don't know how the weather was where you live, but we had a very unusually warm winter. And some of the items we sell, the demand for them is driven by the winter time weather and the spike in extreme temperatures and we didn't have that in many of our markets. As a matter of fact, I heard different speculation but it was either the second or third warmest winter on record in many of our markets. And that, of course, affected demand and we feels like that's probably the primary contributor to the slight slowing in comparable store sales.

Understood. Thanks so much.

Your next question comes from Michael Cox of Piper Jaffray.

Good morning, guys.

Hi, Mike.

Just a quick question on the competitive environment. I was wondering if you could give us a bit of an update as you're pushing further into the southeast and one of your competitors is pushing further west into some of your core markets. I was wondering if you're seeing any impact from a competitive standpoint?

Well, I assume you're referring to Advance, and, yes, for -- we definitely, are going into more Advance markets in the Southeast. That's definitely their home base as well as AutoZone. So it's more competitive and that's one of the reasons we're, you know, looking at all of the options going into these new markets to do a better job.

As far as expansion into, you know, into the Texas market, it has had, you know, minimal effect on our business. Fortunately, you know, there's a lot of retail business down there and it looks like you know they are targeting good locations, but, again, there's a lot of distance between stores and we continue to put additional locations in Texas at the same time and they've all been very productive. So it is not really had a major measurable impact on our sales.

Michael, last week, Ted and I spent time in Houston which is our largest market down there, and every time we go down there we're amazed at the number of people and number of miles driven. There's just a lot of room down there.

And we talked to a lot of the store managers where they've had new competitors come in and we continue to grow business. There's just a continued influx of population into both Houston and Dallas. So there's just room for growth down there.

Great. I was wondering if you could comment on any expenses associated with the bringing the new DC online? Is that going to be meaningful in -- as we move through the summer here?

Well, we got better putting DCs in if you remember back five or six years ago as we rolled out new DCs we would take a less SG&A hit as we rolled them out. And we're very careful with how we do that. We put DCs in continuous – contiguous markets so that we, you know, maybe overtax a distribution center, having them reaching further than they should and operating over capacity so that we open a distribution center we have found some critical mass to leverage the expense.

So we don't expect any meaningful impact at all with the opening of this distribution center on the second quarter.

My last question refers to getting leverage on a certain level of comp. Sounds like you mentioned a 6% comp? You had deleverage by about 20 basis points, half of which sounds like would be from stock option. As you look out through the balance of the year, is that 6% number a run rate for leveraging SG&A? Or is there a different way we should be looking at that?

That one is a little hard to predict. You know, in a normal year, without some of the kind of above normal energy components that we're experiencing, you know, take a lower comp would get us more leverage, or less deleverage. So with fuel and those type of things it's a little bit hard to predict that.

Great. Thanks a lot, guys.

Thanks.

Your next question comes from Rick Weinhart with Harris Nesbitt.

Good morning, guys.

Good morning.

Couple of questions. On the energy cost, Jim, could you quantify at all what the impact was on utilities if you did I'm sorry I missed it?

We did not give that specific guidance, but, kind of the factors I mentioned, other than like the options were all pretty similar. You know, utilities, fuel cost of vehicles and travel those things were all similar magnitudes.

Am I correct that you don't hedge your fuel costs at this point?

We do not at this time. We've investigated that several different ways. We do have some programs that get us, you know, good pricing on fuel nationally at below pump prices and things like that. But we don't have a formal hedge in place at this point.

Okay. And, in terms of the -- your buying power with the vendors and your volumes, am I correct, and this is probably the first quarter that we are seeing full impact now from Midwest, in your buying? In your gross margins in the buying structure?

You know I think we're already at a level we were buying, you know, on a pretty even keel with most of the larger players prior to buying Midwest. Every deal is negotiated annually as part of the line review and we're always looking for enhancements.

Our suppliers are dealing with the same cost structure increases that we're all dealing with relative to energy increases. So I don't think it made a meaningful difference. Although as we continue to grow, we continue to work on decreasing our cost of goods, as part of every vendor negotiations.

I guess I'm referring to the volumes, assuming as you increase your volumes you’re getting additional discount, bringing in Midwest clearly would have -when you're switching over the stores to the same vendors, you would have seen impact there; correct?

Yeah.

Yeah. There are incentives, of course, to changeover the stores as they're always are. And you know those are not real meaningful. As compared to the whole, but, yes, they do have an effect. As we continue to grow and you know 175 stores this year, we'll continue to try and negotiate based on our increased volume better acquisition costs.

Okay. And, my last question: Just on the acquisition front any change in the competitive environment or the pricing environment for some of the acquisitions you're doing?

No. You know, we continue -- most of the acquisitions we've done this year are just small single or maybe two-store jobbers. And we continue to pretty much buy those for asset value.

Basically year-to-date they've all been single store.

All right. Okay, thanks very much.

Thanks.

Your last question comes from Jeff Carter with Wausau Advisors.

Hi, guys. I think most of my questions have been answered. Congratulations. I do have one clarifying question. You said the stock option expenses three beeps, was that pre-tax or after-tax?

It was a 10 pre-tax, Jeff.

Okay. I think that's it. I think all of the questions.

Okay, all right.

Thanks. Thanks, Jeff.

Good luck, guys.

Thanks, thanks. Well, thank you very much for your time and attention and we'll look forward to talking to you again at the end of the second quarter, thanks.

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