O’Reilly Automotive, Inc. — 2018 First-Quarter Form 10-Q
Reporting period: Three months ended March 31, 2018; comparison is to the three months ended March 31, 2017. The financial statements are unaudited and presented under U.S. GAAP. O’Reilly operates automotive aftermarket stores serving do-it-yourself and professional service provider customers.
Financial Performance and Position
| Metric | Q1 2018 | Q1 2017 | Change |
|---|---|---|---|
| Sales | $2.283 billion | $2.156 billion | 6% |
| Gross profit | $1.201 billion | $1.131 billion | 6% |
| Gross margin | 52.6% | 52.5% | +10 bps |
| Operating income | $422.8 million | $403.2 million | 5% |
| Operating margin | 18.5% | 18.7% | -20 bps |
| Net income | $304.9 million | $264.9 million | 15% |
| Diluted EPS | $3.61 | $2.83 | 28% |
| Net cash from operations | $432.3 million | $376.7 million | 15% |
| Free cash flow | $311.1 million | $242.8 million | 28% |
- Comparable-store sales increased 3.4%, compared with 0.8% in the prior-year quarter. The increase reflected higher average ticket values, partly offset by slightly negative transaction counts and delayed spring weather affecting DIY demand.
- Gross profit benefited from sales growth and a smaller noncash LIFO impact. These benefits were partly offset by lower capitalized distribution costs and higher transportation and fuel costs.
- SG&A increased 7% to $778.4 million, or 34.1% of sales, from 33.8%. Higher costs reflected store growth, additional personnel and facilities, and planned reinvestment of Tax Cuts and Jobs Act savings.
- The effective tax rate declined to 22.9% from 31.2%, primarily because of the lower federal corporate tax rate. Excess tax benefits from share-based compensation were approximately $6 million versus $23 million.
- Cash and cash equivalents were $38.5 million at March 31, 2018, versus $46.3 million at December 31, 2017. Total assets were $7.667 billion and shareholders’ equity was $423.8 million.
- Inventory was $3.053 billion, while accounts payable was $3.223 billion at quarter-end.
Debt, Liquidity, and Capital Allocation
- Long-term debt increased to $3.193 billion from $2.978 billion at December 31, 2017, primarily because revolving-credit borrowings increased to $560 million from $346 million.
- The company had a $1.2 billion unsecured revolving credit facility maturing in April 2022, with approximately $37 million of outstanding letters of credit reducing availability. The facility may be expanded to $1.8 billion subject to conditions.
- Senior notes had approximately $2.7 billion of principal outstanding, with stated interest rates ranging from 3.550% to 4.875% and maturities from 2021 through 2027.
- O’Reilly remained in compliance with its debt covenants. The consolidated fixed-charge coverage ratio was 5.64x against a 2.50x minimum, and the consolidated leverage ratio was 2.05x against a 3.50x maximum.
- Capital expenditures were $114.8 million, primarily for new-store property, construction and related costs. The company opened 78 stores during the quarter, operated 5,097 stores in 47 states, and planned 200 net new stores for 2018.
- The company repurchased 2.188 million shares for $549.4 million during the quarter. Approximately $1.2 billion remained under the repurchase authorization at March 31, 2018. Through May 7, 2018, it repurchased an additional 0.5 million shares for $117.5 million.
Material Changes, Outlook, and Risks
- Sales growth was supported by new stores and comparable-store growth. Professional customer average tickets and transaction counts were positive, while DIY transaction counts were negatively affected by weather and lower repair frequency.
- Management expected to open 200 net new stores in 2018 and stated that operating cash flow and revolver availability should fund foreseeable capital and liquidity needs.
- Management estimated that reinvestment of anticipated Tax Act savings would create approximately 70 basis points of operating-profit headwind for full-year 2018.
- The business is seasonal, with historically higher sales and profits in the second and third quarters. Key industry drivers include miles driven, vehicle population and age, employment, fuel costs, consumer spending, competition and weather.
- Interest-rate risk is concentrated in variable-rate revolver borrowings. A 0.25 percentage-point increase in rates would have reduced annual pretax earnings and cash flow by approximately $1.4 million based on quarter-end borrowings.
- The company adopted revenue-recognition Topic 606 using the modified retrospective method. Management reported no material impact on financial condition, results, cash flows or opening retained earnings.
- The company expects adoption of the lease standard in the first quarter of 2019 and preliminarily expects a material increase in reported assets and liabilities, although its evaluation was not complete.
- Routine litigation was not expected to have a material adverse effect. A previously disclosed Meridian Creative Alliance dispute was resolved through mediation for an amount within the existing accrual.
- Management identified risks including economic conditions, product demand, competition, weather, integration and acquisition execution, employee retention, consumer debt, increased leverage, credit ratings and regulatory or geopolitical developments. No material changes to previously disclosed risk factors were reported.
Important Facts for Investors to Verify
- Reconcile earnings growth with the lower tax rate, share repurchases and the decline in operating margin.
- Monitor leverage, revolver utilization, interest expense and compliance with the 2.50x fixed-charge and 3.50x leverage covenant thresholds.
- Assess whether the planned 200-store expansion and Tax Act reinvestments generate sufficient incremental sales and returns.
- Evaluate comparable-store trends, particularly negative transaction counts and the effects of weather and vehicle-repair frequency.
- Quantify the eventual balance-sheet impact of lease-standard adoption beginning in the first quarter of 2019.
- Review the sustainability of large share repurchases relative to cash generation, capital expenditures and debt levels.
- Confirm the remaining repurchase authorization, as the filing describes the cumulative authorization and remaining capacity using slightly different rounded amounts.