O’Reilly Automotive, Inc. — Form 10-Q Summary
Business Context and Reporting Period
O’Reilly Automotive is a specialty retailer of automotive aftermarket parts, tools, supplies, equipment and accessories serving do-it-yourself and professional service provider customers. This Form 10-Q covers the three and nine months ended September 30, 2019, compared with the corresponding 2018 periods. The company operated 5,420 stores in 47 states at quarter-end.
Key Financial Metrics
| Metric | Q3 2019 | Q3 2018 | 9M 2019 | 9M 2018 |
|---|---|---|---|---|
| Sales | $2.667 billion | $2.483 billion | $7.667 billion | $7.221 billion |
| Gross profit | $1.423 billion | $1.316 billion | $4.070 billion | $3.806 billion |
| Gross margin | 53.3% | 53.0% | 53.1% | 52.7% |
| Operating income | $536.4 million | $485.1 million | $1.479 billion | $1.387 billion |
| Operating margin | 20.1% | 19.5% | 19.3% | 19.2% |
| Net income | $391.3 million | $366.2 million | $1.066 billion | $1.024 billion |
| Diluted EPS | $5.08 | $4.50 | $13.63 | $12.36 |
| Net cash from operations | Not separately reported | Not separately reported | $1.490 billion | $1.342 billion |
| Free cash flow | Not separately reported | Not separately reported | $995.4 million | $958.6 million |
Q3 sales increased 7%, operating income increased 11%, net income increased 7%, and diluted EPS increased 13%. Nine-month sales increased 6%, operating income increased 7%, net income increased 4%, and diluted EPS increased 10%. The nine-month effective tax rate increased to 22.8% from 21.3%.
Balance Sheet, Debt and Liquidity
- Cash and cash equivalents were $42.8 million at September 30, 2019, compared with $31.3 million at December 31, 2018.
- Inventory was $3.349 billion, up from $3.193 billion at year-end 2018.
- Long-term debt was $3.704 billion, compared with $3.417 billion at December 31, 2018. The company issued $500 million of 3.900% senior notes due 2029 in May 2019.
- Revolving credit facility borrowings were $75 million, with $39.1 million of outstanding letters of credit. The $1.2 billion facility matures in April 2022 and may be expanded to $1.8 billion subject to conditions.
- The company reported a consolidated fixed-charge coverage ratio of 5.25 times and a consolidated leverage ratio of 2.15 times, versus covenant limits of at least 2.50 times and no more than 3.50 times, respectively. The company was in compliance with its debt covenants.
- Capital expenditures were $481.2 million, compared with $350.5 million in the prior-year period, reflecting distribution expansion, property acquisitions, new stores and technology investments.
- The company repurchased 3.585 million shares for $1.308 billion during the first nine months, with $693.5 million remaining under the authorization at September 30, 2019.
Material Changes Versus the Prior Comparable Period
- Comparable-store sales increased 5.0% in Q3 and 3.9% for the nine-month period. Growth reflected higher average ticket values and positive professional-customer transaction trends, partly offset by weaker DIY transaction counts.
- The company opened 76 stores in Q3 and 181 net new stores during the first nine months. It also acquired 33 Bennett stores on January 1, 2019, later merging 13 into existing locations and rebranding 20.
- Gross margin improved because the company sold inventory purchased before recent acquisition-cost increases and passed higher supplier costs, including tariff-related costs, through to customers.
- SG&A increased 7% in both Q3 and the first nine months. Q3 SG&A margin improved to 33.2% from 33.5%, while the nine-month margin increased to 33.8% from 33.5%. Wage pressures, inflationary variable costs, and omnichannel and technology spending affected expenses.
- Interest expense increased to $35.9 million in Q3 and $104.7 million for the first nine months, primarily because of higher average borrowings.
- Adoption of ASC 842 increased reported right-of-use assets by $1.9 billion and operating lease liabilities by approximately $2.0 billion, with a $1.4 million opening retained-deficit adjustment. Management stated that the adoption did not materially affect earnings, cash flow, liquidity or covenant compliance.
Outlook, Commentary, Risks and Unusual Items
- Management planned approximately 200 net new store openings in 2019, plus 20 net stores from the Bennett acquisition, and approximately 180 net new stores in 2020.
- The company expected the acquisition of Mayasa, a Mexico-based automotive parts distributor with five distribution centers, 20 company-owned stores and more than 2,000 independent jobber locations, to close in the fourth quarter of 2019, subject to customary conditions and regulatory approvals.
- Management expected operating cash flow and available revolver capacity to fund foreseeable capital and liquidity needs, but noted that weaker demand or changing customer buying patterns could reduce cash generation and affect covenant compliance.
- Key disclosed risks include economic conditions, inflation, tariffs, product demand, competition, weather, labor availability and wage pressure, consumer debt, increased debt levels and credit ratings, cybersecurity, regulation, acquired-business performance and completion of the Mayasa transaction.
- DIY transaction counts were affected by inflation-related deferral of vehicle maintenance and, during the first half of 2019, wetter and cooler-than-normal weather in several markets. The business is seasonally stronger in the second and third quarters.
- Ordinary-course litigation was disclosed, but management did not expect existing matters, after insurance and accruals, to have a material adverse effect. No material changes to previously disclosed risk factors or contractual obligations were reported.
Important Facts for Investors to Verify
- Whether comparable-store sales and average ticket growth remain resilient as higher prices and vehicle durability pressure DIY transaction counts.
- The sustainability of gross-margin benefit from pre-tariff inventory and the extent to which future supplier-cost increases can be passed through.
- Execution of the 2019 and 2020 store-opening plans, integration of Bennett, and the closing and integration risks associated with Mayasa.
- Debt growth, interest expense, credit ratings, revolver availability and continued compliance with fixed-charge and leverage covenants.
- Capital expenditure requirements and the balance between store expansion, distribution investment, share repurchases and liquidity.
- The effect of ASC 842 lease liabilities and approximately $2.4 billion of undiscounted future operating lease payments on leverage and fixed obligations.
- Subsequent share repurchases: an additional approximately 0.1 million shares for $34.8 million through November 6, 2019.