Welcome to the O'Reilly Automotive, Inc. Second Quarter 2021 Earnings Conference Call. My name is Victor, and I'll be your operator for today's call. I will now turn the call over to Tom McFall. Mr. McFall, you may begin.

Thank you, Victor. Good morning, everyone, and thank you for joining us. During today's conference call, we'll discuss our second quarter 2021 results and our updated outlook for the full year of 2021. After our prepared comments, we'll host a question-and-answer period. Before we begin this morning, I'd like to remind everyone that our comments today contain forward-looking statements, and we intend to be covered by, and we claim the protection under the safe harbor provisions for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995. You can identify these statements by forward-looking words such as estimate, may, could, will, believe, expect, would, consider, should, anticipate, project, plan, intend, or similar words. The company's actual results could differ materially from any forward-looking statements due to several important factors described in the company's latest annual report on Form 10-K for the year ended December 31, 2020, and other recent SEC filings. The company assumes no obligation to update any forward-looking statements made during this call. At this time, I'd like to introduce Greg Johnson.

Thanks, Tom. Good morning, everyone, and welcome to the O'Reilly Auto Parts Second Quarter Conference Call. Participating on the call with me this morning are Jeff Shaw, our Chief Operating Officer and Co-President; and Tom McFall, our Chief Financial Officer. Greg Henslee, our Executive Chairman; and David O'Reilly, our Executive Vice Chairman, are also present on the call. I would also like to welcome Brad Beckham, our Executive Vice President of Store Operations and Sales, who is joining us for his first call. I'd like to begin our call today by expressing my gratitude to Team O'Reilly for the hard work you've put into delivering yet another outstanding performance this quarter. We don't take for granted the exceptional results you generated in the second quarter nor the high level of execution required every day to produce these results. So thank you, Team O'Reilly for continuing to demonstrate why you are the best in the business. Our second quarter results were headlined by a robust 9.9% increase in comparable store sales and a 17% increase in diluted earnings per share. These results are especially impressive as they were achieved on top of a 16.2% comparable store sales growth and a 57% increase in diluted earnings per share, we delivered in the second quarter of last year. Over the past five quarters, since the onset of the pandemic, we have grown earnings per share an average of 44% per quarter, and this is truly remarkable performance. This remarkable performance was achieved through our team's selfless dedication and focus on safety while at the same time providing excellent customer service. Congratulations Team O'Reilly on another exceptional quarter. Before we dive into our results, I'd like to take a moment to extend my congratulations to Jeff Shaw, our Chief Operating Officer and Co-President, on his upcoming retirement. As we noted in yesterday's press release, Jeff has decided to retire in early 2022 after more than 33 years of dedicated service to the company and his fellow team members. Jeff is an incredible leader and mentor, and his career track is a prime example of our company's promote-from-within philosophy. Having begun his O'Reilly tenure as a parts specialist on the counter, he has grown his career by being a key contributor to our company's tremendous growth. Congratulations once again to Jeff on his well-deserved retirement. Now I'd like to address the quarter's results and start by providing some color on our exceptional sales performance. Our second quarter comparable store sales growth of 9.9% and our second quarter two-year comparable store sales stack of 26.1% greatly surpassed our expectations for the quarter as we continue to maximize the benefits from the robust broad-based industry trends we've experienced over the last several quarters, coupled with a favorable weather environment and the benefit of government stimulus. As noted on our first quarter call, the last round of government stimulus payments started to be distributed in mid-March, at which point the sales volumes accelerated meaningfully. This growth continued in April before moderating at the end of April to a level of consistently strong sales volumes that carried through May and June, which was well above our expectations. These volumes translated into positive comps every month of the quarter, which was impressive in light of the extremely strong compares we faced in May and June of 2020. These better-than-expected sales volumes have continued thus far in July, and we have been pleased with the durable nature of strong sales volumes we have been able to achieve. Robust comparable store sales results we generated have been underpinned by significant contributions from both the DIY and professional business. The professional business was the larger contributor to the comparable store sales increase for the quarter. We faced tougher comparisons on the DIY side, but we're very pleased with the performance in our DIY business. While both sides of our business exceeded our expectations for the quarter, our DIY business was responsible for producing the greater outperformance as compared to expectations. Same SKU inflation increased to slightly over 2% for the quarter, up from the 1.5% we experienced last quarter. We now anticipate we'll see additional larger increases in same SKU inflation as we progress through the year. The ultimate extent of the impact will be determined by the duration of pressures to pricing levels from cost increases in wage rates, freight, and raw materials. Regardless of the uncertainties we face, we will continue to execute our proven business model and are extremely confident in our team's ability to drive further share gains moving forward. The tremendous rapid growth in our business has given us the opportunity to earn many new O'Reilly customers and the outstanding customer service they've received will be the key to earning the repeat business. Turning to gross margin. For the second quarter, our gross margin of 52.7% was a 26 basis point decrease from the second quarter 2020 gross margin. This was in line with our expectations as we anticipated headwinds from DIY versus professional total sales mix and higher distribution costs compared to the second quarter of last year. For the full year 2021, we are maintaining our gross margin guidance of 52.2% to 52.7%. While we are above the midpoint of our full year guidance through the first half, we expect to see pressure from certain transitory distribution costs in the back half of the year. We continue to view our distribution network as a key competitive advantage that supports our industry-leading parts availability, and we are steadfastly committed to protecting and enhancing this advantage. To this end, we have adjusted our near-term cost expectations to match the deliberate steps we are taking to ensure the highest possible distribution service levels and further deliver on our strategic inventory initiatives. Our dedicated supplier partners and extraordinarily hardworking distribution center team members have done an amazing job to support the surge in our sales volume and we remain committed to delivering excellent customer service as we navigate these transitory pressures. Before handing the call off to Jeff, I'd like to highlight our second quarter earnings per share of $8.33 with a year-to-date increase of 39% to $15.39. Our second quarter earnings per share results represent a 36% two-year compounded quarterly growth rate, and I'd once again like to congratulate Team O'Reilly for delivering another quarter of exceptional performance. We are raising our full-year earnings per share guidance to $26.80 to $27.00, which at the midpoint now represents an increase of over 14% compared to 2020 and a two-year compounded annual growth rate of 23%. This increase in full year guidance is driven by our strong year-to-date sales results combined with excellent operating profit flow-through. Finally, I want to express my confidence in the long-term strength of our industry as consumers continue to value investments in the care and maintenance of their vehicles and O'Reilly will be well positioned to meet those needs in the future.

Thanks, Greg, and good morning, everyone. I'd like to extend my congratulations and express my sincere thanks to Team O'Reilly for their outstanding efforts and results this quarter. Our team's ability to grow comparable store sales and operating profit dollars on top of second quarter 2020's record performance demonstrates just how deeply ingrained our culture is within Team O'Reilly. I couldn't be more proud to work with a team who, regardless of the past successes or challenges we faced, will remain driven to win the business by rolling up their sleeves and outhustling and outservicing our competition every day. We've had plenty of opportunities over the last year to show new customers that we are, in fact, the friendliest parts store in town, and I believe the continued strength in our results speaks volumes to our team's ability to provide that consistent top-notch customer service. To begin my comments today, I'd like to provide some color on our SG&A expenses for the quarter and give some additional insight into the outstanding performance of our team. Our second quarter operating profit dollars increased by 8% as compared to last year. With our SG&A leverage at 29.7% of sales significantly outperforming our expectations as a result of our robust sales performance and solid expense control. As a reminder, last year's second quarter results were driven in part by cost adjustments we made to our business in response to the initial impact of the pandemic. While this unusually difficult comparison created pressure on our year-over-year operating margin rate, which declined 87 basis points, we're very pleased with the improvement in our profitability on a two-year stack. Our operating margin percent of 23% is a 372 basis point improvement over our second quarter 2019 operating margin performance as our team was able to drive compounded top-line growth at almost twice the rate of our SG&A increases. SG&A per store grew 11.5% in the second quarter, which represents annual per store growth of 5.1% on a two-year basis, well below the 13% average comparable store sales growth we achieved over the same period. Per store SG&A dollar growth was above our expectations for the second quarter as we spent additional dollars in store payroll, variable operating expenses, and incentive compensation in support of the much better-than-expected sales dollars. Expense control remains an integral part of our culture, and we will always carefully manage every dollar we spend while also ensuring our stores and store team members are well equipped to deliver the service levels our customers know and expect. Based on our results year-to-date, we're now estimating our full year increase in SG&A per store to be approximately 5%. Due to the SG&A leverage above our expectations on the strong sales performance through the date of this call, we're increasing the midpoint of our operating profit guidance by 55 basis points to a range of 20.5% to 20.9%. During the second quarter, we opened 50 new stores across 25 states bringing our year-to-date total to 116 net new stores. This pace sets us up well to achieve our plan of 165 to 175 net new stores for 2021. And we continue to be pleased with our new store performance, which is driven by a solid team of professional parts people in each of our new stores.

Thanks, Jeff. I'd also like to thank all of Team O'Reilly for their continued hard work and commitment to excellent customer service, which drove our tremendous second quarter and year-to-date performance. In addition, I'd also like to take this opportunity to congratulate Jeff on his upcoming retirement and thank him for his many years of top-notch leadership. Now we'll take a closer look at our second quarter results and add some additional color to our updated 2021 guidance. For the quarter, sales increased $374 million comprised of $298 million increase in comp store sales, a $57 million increase in non-comp store sales and a $19 million increase in non-comp, non-store sales. For the full year of 2021, we now expect our total revenue to be between $12.3 billion and $12.6 billion, up from our previous guidance of $11.8 billion to $12.1 billion based on our strong year-to-date top line performance and our continued confidence in our team. Greg covered our gross margin performance earlier, but I do want to provide details on our positive LIFO impact, which was $19 million in the second quarter and above our previous expectations. As a reminder, in the second quarter of 2020, we recorded a headwind in LIFO with a charge of $4 million. While some components driving our overall gross margin outlook have changed, we still expect to finish the full year within our original stated gross margin range of 52.2% to 52.7%. Our second quarter effective tax rate was 23.1% of pretax income. For the full year of 2021, we continue to expect an effective tax rate of approximately 23%. These expectations assume no significant changes to the existing tax code. Free cash flow for the first six months of 2021 was $1.5 billion, up from $1.2 billion for the first six months of 2020, with the improvement driven by an increase in net income. For the full year of 2021, we now expect free cash flow to be in the range of $1.5 billion to $1.8 billion, up $400 million at the midpoint from our previous guidance based on our strong year-to-date operating profit and cash flow performance. Our updated expectation is to finish 2021 at an accounts payable to inventory ratio of approximately 115%. Capital expenditures for the first six months of 2021 were $223 million. We continue to forecast CapEx to come in between $550 million and $650 million for the full year. We finished the first quarter with an adjusted debt-to-EBITDAR ratio of 1.76x as compared to our year-end 2020 ratio of 2.03x. During the second quarter, we used available cash on hand to redeem $300 million of our senior notes, which were scheduled to mature in 2021. We continue to execute our share repurchase program. And during the second quarter, we repurchased 0.7 million shares for a total investment of $400 million. Year-to-date, we repurchased 2.4 million shares for a total investment of $1.2 billion. We remain very confident that the average repurchase price is supported by the expected future discounted cash flows of our business, and we continue to view our buyback program as an effective means of returning excess capital to shareholders.

Our first question on the call comes from the line of Simeon Gutman from Morgan Stanley.

Jeff, congratulations, Brad, congratulations to you. My first question is on, I guess, short-term question on the commentary around July. Is there any way we could assume that your comments around demand holding up means that the two-year or three-year stacks are holding? And if that's fair, obviously, we're looking at the second half guidance, implying negative. Is there anything else that we should be aware of besides just tough compares, but you've already gotten through your worst of it in July? Is it just prudence in your second half guidance?

We continue to be very happy with our daily performance in July, and it's carried through from those volumes in May and June. We've rolled that into our comp guidance for the full year. There remains a lot of uncertainty in relation to the recovery in the pandemic and the variants that are out there. We still have tough compares in August and September and put up a great comp in the third quarter of last year. So we feel like it's prudent to give the guidance that we gave for the full year.

Okay. Fair enough. Can I ask Greg or Tom, thinking about how much of the demand this year in '21, if there's any framework you're thinking about what's pent-up versus pull forward? Does the current year become a base from which we grow or does the industry or your business have to digest some of this? I know it's early to guide in the out year, but anything that you're - that you can share of sort of the puts and takes to think about future growth?

Yes, Simeon, we're obviously not guiding into 2022 or beyond at this point. But as we said in our prepared comments, we're pleased with the performance during the second quarter. We're pleased with virtually every category, both the DIY and the DIFM side of the business. Quite frankly, the business outperformed our expectations. And as Tom said, there's a lot of unknowns as we move into the back half of the year and into 2022 and beyond as it relates to pandemic, supply chains, things like that. So we're hopeful that sales trends continue, but we're not guiding anything beyond this year.

What I'd add to that is last year and on the call today, both Greg and Jeff have discussed that we've seen dramatic increases in customer traffic, and we see new customers and the onus was on us to earn those customers repeat business by providing them great customer service. So having sitting where we are at the comp level that we're sitting at this year, speaks to our ability to earn more customers repeat business.

On the sales exceeding expectations, I guess, could you sort of parse out what might be underlying sort of broad strength in demand versus share gains trends? It seems like you guys have been outperforming the underlying market. But are your share gains exceeding expectations or just the general trend in the market?

It's really hard to differentiate the difference between what is share gains and what may be pent-up demand or what have you coming off of a very strong year in 2021 and having a stronger year as we've had thus far this quarter, we're confident that we're taking market share. We're confident we're taking market share on both sides of the business.

Okay. Great. And then a quick question on supply chain. Could you talk maybe as to - is the trend improving? Or are we bumping along the bottom as far as access and cost of a product?

We had a handful of domestic suppliers that were facing challenges in fill rate. Overall, even with all those challenges, we continue to be pleased with our business and our performance of our stores. We've always talked to some of the strengths of our supply chain being the fact that we have multiple suppliers in those categories. While we may not have the exact product every consumer wants on the shelf, we've got a product that fits their application.

I'm sorry. Okay. So inflation was slightly over 2%, as Greg talked about. We've got visibility of what our pricing is doing right now and expect that we're going to continue to see more inflation in the short term. To the extent that these pressures continue through the full quarter, we'd expect to see a higher inflation in the third quarter and the fourth quarter.

Can you maybe just resummarize what the changes are relative to your original expectations for gross margin?

We're expecting to see more benefit from LIFO in the third and fourth quarter. We expect that to be offset by transitory distribution costs.

We have not seen that affect our business thus far.

I'm curious maybe what the strategic outlook would be for O'Reilly along that?

We continue to evaluate where it makes sense to bring product in from a direct import perspective versus through the suppliers' facilities here domestically. We have a combination.

If we look at the team member count, it remains below pre-pandemic levels. How do you view this now? Do you think that you can operate your stores with less labor? Or is there an expectation to continue to ramp back up?

We continue to focus on our full-time initiative as well and replace maybe part-time with more full-time headcount.

We've been working this last year a lot on full time. We see some productivity increases from that.

Are you seeing any slowdown on daily sales for areas that have recently ramped up COVID-related restrictions?

We have not seen that affect our business thus far.

When we talk about performance improvements, we're having a better AC year. We're having a better undercar year as the roads got tore up more this winter.

We'd like to conclude our call today by thanking the entire O'Reilly team for your continued hard work in delivering a record-setting quarter. Thank you for joining our call today, and we look forward to reporting our third quarter results in October.

Thank you. Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect.