Welcome to the Advanced Auto Parts 4th Quarter 2010 Conference Call. Before we begin, Joshua Moore, Director of Finance and Investor Relations, will make a brief statement concerning forward looking statements that will be made on this call.
Good morning and thank you for joining us on today's call. I'd like to remind you that our comments today contain forward looking statements 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. Forward looking statements address future events, developments or results and typically use words such as believe, anticipate, expect, intend, will, plan, forecast, outlook or estimate and are subject to risks, uncertainties and assumptions that may cause our results to differ materially, including competitive pressures, demand for company's products, the economy in general, consumer debt levels, dependence on foreign suppliers, the weather, business interruptions and other factors disclosed in the company's 10 ks for fiscal year ended January 2, 2010,
on file
with the Securities and Exchange Commission. The company intends these forward looking statements to speak only as of the time of this conference call and does not undertake to update or revise them as more information becomes available. The reconciliation of any non GAAP financial measures mentioned on the call with corresponding GAAP measures are described in our earnings release and our SEC filings, which can be found in our website at advancedautoparts.com. For planning purposes, our Q1 earnings release is scheduled for Wednesday, May 18, 2011, after market close, and our quality conference call is scheduled for the morning of Thursday, May 19, 2011. To be notified of future dates of earnings reports, you can sign up through the Investor Relations section of our website.
Finally, a replay of this call will be available on our website for 1 year. Now, let me turn the call over to Darren Jackson, our Chief Executive Officer. Darren? Thanks, Joshua. Good morning, everyone.
Welcome to our Q4 conference call.
First, I'd like to thank our 51,000 team members for their hard work and congratulate them on an outstanding performance in the Q4 and for the 2010 fiscal year. Our team reached many record milestones this year, both strategically and financially. A few of the milestones I'm most proud of include our tremendous growth in our commercial programs, which have generated 3 consecutive years of double digit comparable store sales growth. Our year end customer traction and market share results set new records and our team member calibration and engagement scores also reached all time highs. Finally, our overall financial performance saw sales and margins, profits and returns exceed expectations.
Specific highlights for 2010 include our commitment to serve customers, which continue to fuel our growth and profitability driving an 8% comp store sales gain and a total sales growth of 9.5% for the year. Our operating income rate rose to 9.9% driven by our gross profit rate which reached 50% of sales. Our earnings per share jumped 31.7% with our return on invested capital climbing to 17.5%. Mike will provide more specific detail on the Q4 and full year results in a few minutes. Our organizational and strategic results were just as gratifying.
The revitalizing of our core values, which are to inspire, serve and grow, coupled with the successful execution of our four strategies stand out as our most important accomplishments that contributed to our 2010 performance. The key highlights include our ability to inspire is reflected in the quality of our team members and the number of ASC certified team members which now is nearly 7,000 and growing. Our commitment to serve our customers better than anyone else is reflected in our new highs and inventory availability and team member service factors according to NPD. Our grow results are reflected in the consistent and profitable execution of our 4 key strategies, starting with commercial acceleration, which generated double digit comp growth in commercial each and every quarter over the past 3 years, resulting in average programs growing from 414,000 to 593,000 annually for Advanced Stores. DIY transformation resulted in the development of our service with our Bestpart brand promise while supporting our industry leading sales per store.
Availability excellence expanded our gross profit rate 3 35 basis points over the past 3 years while lowering our owned inventory per store by 28%. Superior experience has driven improvements in our overall customer satisfaction, while our customer driven labor model and e commerce site have enhanced our customer shopping experience. Looking to 2011, the vital signs of our industry continue to be very favorable. The average age of vehicle on the road is over 10 years with nearly 2 thirds of those vehicles greater than 7 years old. Miles driven have continued to increase modestly and consumer preference still favors necessity as a result of the sluggish economy and job market.
Yet, we do see potential headwinds such as rising gas prices and rebounding U. S. Auto market and the associated increase in seasonally adjusted sales. In addition, the challenging weather conditions in many of our core markets have led to a very tough start to the year. Q1 will be lower than our original plans and vision and as usual we have adjusted our annual outlook to reflect our start to the year.
History still shows us that weather tends to even out through the course of the year. 2010 was definitely an exception to that rule as weather favorably impacted us all year. However, there is nothing to lead us to believe that 2011 will be another exception and we are early enough in the quarter and the year to make adjustments to deliver another successful year. Turning to a longer term view, our focus over the last several years was to catch up on mission critical capabilities including commercial sales, e commerce, merchandising and field leadership to name a few, while reigniting our focus and commitment to our customers and team members. We certainly have closed the gap from that vantage point as indicated in our record level customer and team member satisfaction.
Research concludes that the customers see very little difference between leading players in our industry. As a matter of fact, last month I received a letter addressed to the Advanced AutoZone Parts CEO. I'm still not sure if I should open it. So when the customers have nothing else to remember their experience, they simply talk about price and location. Our greatest opportunity to differentiate Advance is by providing an experience that is more meaningful and memorable than price and location.
Looking forward, we will focus on a single customer promise, service
is our best part. Service is
our best part was the theme of our 2011 Leaders Forum that was held earlier this quarter with 4 1500 of our frontline leaders. I have never experienced so much enthusiasm and galvanizing focus from the team. As we shared with the team our strategies that enable service is our best part and they will converge from 4 to 2, service leadership and superior availability will simplify our focus and allow us to strengthen our integrated service model for our DIY, commercial and AI customers around this shared commitment. Our superior availability commitment will be to get the right part to the right place at the right time every time. It compels us to maximize the storage capacity of our stores and warehouses as well as increase our delivery speed to our customers.
This strategy will be a multi year journey to revolutionize availability and lower our supply chain costs resulting in increased profitability. Service leadership will leverage on superior availability. Our service leadership commitment is to lead with the right services and the right support at the right time in the right way. Jim and Kevin will provide additional insights regarding service leadership and superior availability in just a few moments. Collectively, service is our best part will seek to separate Advance over the next 5 years from an industry dominated by a property, parts and price promise.
I expect our service leadership and superior availability strategies will allow us to maintain our industry leading sales per store, while growing our operating margins to 12% and return on invested capital to 20%. While we believe our sales per store potential is nearly $2,500,000 our goal over the next several years is to achieve $2,000,000 per store driven by our growth in commercial as we move towards becoming a fully integrated service model. Ultimately, my confidence is driven by the quality, passion and track records of the advanced leaders. In January at our leadership conference, we had the opportunity to recognize a member of our team that brings our value proposition and brand to life every day that team member was recognized as our Regional Vice President of the Year. Mike started working for Advance while he was in college and worked his way up through the company over the past 20 years holding various leadership roles within our field operations.
His region is a leader in all key metrics and he truly has a passion for service leadership. Leaders like Mike who are driving our business demonstrate how we will win with the customer and differentiate ourselves in 2011 and beyond. Congratulations, Mike, and thanks for all you do. Now I'd like to turn the call over to Jim Wade, our President to discuss our service leadership strategy.
Thank you, Darren, and good morning. As always, I want to start by thanking our hardworking and committed team for another record quarter year. We appreciate our team's passion for providing great service to our DIY and commercial customers and earning their business one customer at a time and doing it through our core values. I want to spend my time this morning taking a look back at our results for the Q4 and then talking about how we bring service leadership to life in 2011. In the Q4, our team continued to do a great job executing our initiatives as well as leveraging the strong industry fundamentals to produce strong results.
Our total comp store sales grew by 8.9% in the 4th quarter compared to 2.4% during the same quarter in 2,009. Consistent with the 1st 3 quarters of 2010, we're pleased with an increase in both the number of customer transactions as well as the average transaction size. Each of our major geographic areas produced positive comps in DIY and double digit comps in commercial resulting in a very consistent performance across our company. We reached a few milestones in our commercial business that we're very proud of. The 4th quarter marked our 12th consecutive quarter or 3 full years of double digit commercial comps in our Advanced Auto Parts stores.
In those 3 years, our total commercial sales have grown by 57% and now represent 34% of our total sales compared to 27% just 3 years ago. We now have over 40% more commercial parts pros, trucks, drivers and sales force in place than 3 years ago when we committed the resources to accelerate our commercial share. Those resources were invested in the customer. We're very excited that we finished the 2010 year with the highest customer satisfaction scores from our commercial customers that we've ever achieved. We believe this is the true measure of our future potential in this business.
Our DIY business again produced strong growth and achieved our 7th quarter of positive DIY comps in the last 8 quarters with solid positive comps each quarter in 2010. Our DIY customer satisfaction scores continued to increase as well. We continue to generate the highest sales per store in our industry and we gained market share during the quarter and for the year. In our stores, we'll focus on several key areas in 2011 that will enable us to serve our customers with dependable and fast service consistently in every store, every day by our Advanced team member. We believe that to provide a great customer experience, we must achieve a new standard of operational service excellence and that has to be brought to life for the customer by our team.
In order to enable a high level of operational and service commitments, we'll focus on the following. We've increased the number of district leaders and reduced their average store count, so they'll have more time to spend in their stores coaching and developing the team. We'll increase the clarity of what's operationally critical for our district leaders and general managers to focus on to achieve consistent foundational excellence in every store and we'll continue to measure our progress. We'll continue to build on our customer driven staffing to ensure we have the right people at the right time to align with our customer traffic. We'll further accelerate our team member training and development in both parts knowledge and selling skills to better enable them to find solutions for their customers.
We'll build stronger relationships with our highest potential commercial customers through the partnership of our store teams and sales force to visit and support those customers. We'll measure and we'll improve our delivery times and order accuracy to our commercial customers, which will enable them to be more successful in taking care of their customers. We'll spread our message through our advertising and marketing programs to drive new customers to consider us and to build our brand around our team. And we'll leverage to its fullest potential the increased parts availability that Kevin will describe along with all the tools his team is providing so we can find the right part and get it to the customer fast. As Darren mentioned, we held our annual leaders forum in January where we have the opportunity to spend time with all our general managers, our field team and our sales force and to review our plans for 2011.
We're very excited about our team's commitment and we know it will be through their commitment and passion that we'll bring service as our best part to life for every customer. Lastly, we continue to reach new customers and grow our sales through successful new store openings. During the Q4, we opened 26 stores, including 3 AutoPart International stores and closed 3 stores. For the year, we opened 148 stores, including 38 AI stores and closed 5. As of the end of our Q4, our total store count was 3,563, including 194 AutoPart International stores.
In closing, thanks again to our team for another successful year and for remaining committed to leading Inspire teams and delivering on our promise that service is our best part. Now I'd like to turn the call over to Kevin Freeland, our Chief Operating Officer to discuss our superior availability strategy.
Thanks Jim and good morning. I would also like to congratulate the team for a strong Q4 year. I'll take a moment to highlight a few of our accomplishments during the quarter as well as update you on our initiatives to support our superior availability strategy. During the Q4, our gross profit rate increased 147 basis points versus the Q4 of 2,009. The 4th quarter improvement was driven by increases in both front room and back room categories resulting from the rollout of our custom mix and price optimization strategies, the strengthening of our merchandising capabilities and the impact of our rapidly growing global sourcing capabilities.
We continue to be pleased with the strides that we've made in improving our gross profit rate, which has increased 3 35 basis points in the past 3 years. Through our custom mix rollout, we completed 163 upgrades during the quarter. We continue to improve our category sales and margin rate performance in hard parts as a result of our increased availability and continued strength in our commercial business. Our sales and margins in accessories also improved in the quarter and continued to benefit from our new global sourcing capability. During the Q4, we continued to improve our parts availability through the addition of 8 hub stores.
Our delivery hub network is at 176 providing multiple daily deliveries to 2,300 stores in addition to our 31 PDQs. In 2010, our DC productivity improved double digits over 2,009 due to the continued focus on labor standards and productivity initiatives. Our adjusted accounts payable to inventory ratio increased significantly from 61.2% to 71% at the end of 4th quarter. Our increase in AP ratio continues to be driven by more favorable payment terms, supply chain financing and the timing of inventory purchases. While our owned inventory decreased by $94,000,000 versus 2,009, while we continue to increase the amount of inventory throughout our system as inventory per store increased 10% over the Q4 of last year.
The customer perception of product availability continues to increase and exceeded our internal expectations for the year. Our superior availability strategy is focused on driving to industry leading parts availability. We continue to be thrilled with the progress of our DIY e commerce platform with sequential increases in all key metrics, traffic, conversion rates and sales. We're excited about the completion of the rollout of our business to business e commerce capabilities with the ability to provide our customers with increased convenience and a better experience through our new online capability. Our B2B capability gives us confidence that we continue to drive strong commercial sales growth by strengthening our competitive position and enabling us to do business with more customers and larger Bay Garage customers.
In 4th quarter, AI's revenue grew 33% driven by the net addition of 38 stores over the past 12 months and a positive comp performance. Overall, our Q4 as well as 2010 was very successful our team and I'm thrilled by the strategic and financial progress we've made as we focus on providing superior availability. Now let me turn the call over to our Chief Financial Officer, Mike Norona to review our financial
results. Thanks, Kevin, and good morning, everyone. I'd like to start by all of our talented and dedicated team members for their contributions to the financial progress we made in our Q4 and for fiscal 2010. I plan to cover the following topics with you this morning. 1, provide some financial highlights from our 20 10 Q4 2, put our 4th quarter results into context with both our full year performance and the key financial dimensions of our transformation over the past 3 years and 3, provide you with our annual financial outlook for 2011.
As a reminder, our fiscal 2,009 results included the impact of store divestitures, which decreased diluted earnings per share by $0.03 during the Q4 last year and $0.17 for fiscal 2,009. I will speak about our year over year results versus 2,009 on a comparable operating basis, excluding the impact of 2,009 store divestitures to provide a more transparent and relevant comparison. We have provided both GAAP and comparable operating results in our earnings release. Looking at our Q4, we were very pleased with our strong end to the year with earnings per diluted share of $0.57 versus $0.39 last year, a 46% increase or a 58% increase on a GAAP basis. For the full year, our earnings per diluted share increased 32% on a comparable basis to $3.95 which was on top of a 14% increase in 2,009.
On a GAAP basis, our diluted earnings per share increased 40% over 2,009. Our comparable store sales increased 8.9% during the Q4, which was on top of a 2.4% comp increase during the Q4 of 2,009, representing an 11.3 percent 2 year comp store sales increase. Our 4th quarter comps were driven by our 12th consecutive double digit comp increase in commercial, our 7th quarter out of the last 8 quarters of positive DIY comps and strong online sales. For the year, our comp store sales increased 8% with total sales increasing 9.5% to over $5,900,000,000 As Kevin mentioned, our gross profit rate increased 147 basis points versus 2,009 and continues to be driven by improved merchandising and pricing capabilities, improved parts availability and supply chain efficiencies. The 147 basis point increase was on top of a 78 basis point increase in gross profit last year in Q4 of 2009.
For the full year, our gross profit rate increased 113 basis points and now stands at a record high of 50%. This is a significant achievement given the strong growth of our commercial business, which now represents 34% of our 2010 sales versus 32% in 2,009. Our SG and A rate of 42.8 percent increased 20 basis points versus the Q4 of 2,009, primarily due to higher incentive compensation resulting from our strong 2010 performance compared to our soft Q4 of 2,009 combined with the deliberate decision to pull forward some 2011 expenses in commercial and availability into our Q4 as we highlighted during our Q3 call. However, these increases were almost entirely offset by expense leverage in our fixed cost structure as a result of our strong 4th quarter comp sales increase of 8.9%. For the full year, our SG and A rate increased to 40.1%, a 13 basis point increase versus fiscal 2,009.
Our operating income increased 38% versus the Q4 of 2009 and our operating income rate increased 127 basis points to 6.6%. Our full year operating income increased 22% versus fiscal 2,009. Our operating income rate increased to 9.9% of sales for fiscal 2010, which represents 100 basis point increases versus 1,009 on a comparable operating basis. Free cash flow through the year was a record $466,400,000 which represents a $56,500,000 increase over last year. This increase was primarily due to our strong growth in net income and reduced owned inventory.
Our accounts payable to inventory ratio increased to 71% from 61.2% in 2,009 as part of our continued efforts to reduce our net owned inventory, which decreased $94,000,000 versus 2,009. Our consistent and sequential improvements in our operating and financial performance over the past 3 years, along with our disciplined approach to managing our capital investments, reinforce our commitment to accelerate growth, improve profitability and drive shareholder value. We will continue to measure our financial performance based on these three dimensions. Our commitment to growing our business is reflected by our 8% increase in comp sales in 2010 and industry leading sales per store, which grew 6.4 percent to $1,700,000 Our sales per store have increased $170,000 over the past 3 years. Our ability to grow profitability is marked by consistent and continued gross profit expansion and an increased operating income rate, which grew 113 basis points and 100 basis points respectively.
Over the past 3 years, our gross profit rate and operating income rate have expanded by 3 35 basis points and 130 basis points respectively. As we look at our ability to drive shareholder value, we are pleased with our 240 basis point increase in ROIC to 17.5% over 2,009, a 44% increase in economic profit added over the past 12 months and our 2010 record free cash flow of $466,000,000 Over the past 3 years, our ROIC has grown 380 basis points and our free cash flow has doubled. Our performance was also recognized externally in 2010 with our upgrades by Moody's and S and P bringing us to full investment grade status. During the Q4, we repurchased 2,400,000 shares for $157,800,000 at an average price of $66.71 That brought our total share repurchases for 2010 to 13,000,000 shares for $633,900,000 at an average price of $48.67 Additionally, during the Q1 of 2011, we repurchased 1,900,000 shares for $121,600,000 at an average price of $62.72 These repurchases reflect our views of our low valuation and our internal confidence in our company's ability to grow profitability and to create long term shareholder value. As we stated in our press release, the company's Board of Directors authorized a new share repurchase program.
Overall, 2010 marked our 3rd year of improved financial and operational performance. While our performance in 2010 was definitely buoyed by favorable weather patterns and strong industry dynamics, the strategic choices we have made through our investments and the superior execution of our team played a significant role and have allowed us to gain market share and position our company for long term growth and success. Turning to fiscal 2011, we estimate our EPS will range from $4.60 to $4.80 per share and reflects the share repurchases up to the time of this release. Our outlook estimates an average share count of approximately 82,000,000 of outstanding diluted shares. Now I would like to provide you with the key financial assumptions implied in our annual financial outlook.
In 2011, we will continue to expand our store base and anticipate new store openings for both Advance and Auto Parts International Brands to be approximately 130 to 140 stores. Our focus on service leadership and superior availability will fuel continued growth in our industry leading sales per store. We expect comp sales to grow in the low to mid single digits driven by strong commercial growth and the resurgence of DIY. We expect our gross profit rate to continue to expand, however, at a much more moderate pace. We will continue to reap the benefits of our previous investments in merchandising capabilities, supply chain and availability including areas such as global sourcing.
However, we expect some headwinds to margin from supply chain investments to fuel superior availability as well as some potential inflationary headwinds in certain commodities that will constrain gross profit expansion. Turning to our cost structure. Differentiation will require continued investments in the areas of service leadership and superior availability. We have demonstrated over the past 3 years that investing in the right initiatives can deliver solid growth and returns as evidenced by our strong operational and financial performance and we are committed to the same discipline as we embark on differentiation. That said, we expect SG and A dollar growth per store to continue to decelerate in 2011 from 2010 driven by cost savings in areas of labor management, operational efficiencies and variability in store performance.
These savings will somewhat offset our 20 11 investment spend and will result in our SG and A leveraging at a lower level of comp store sales. We also expect capital expenditures to increase in 20.11 to a range of $275,000,000 to $300,000,000 principally driven by supply chain investments as part of our superior availability. These investments include new technology such as a new warehouse management system that will take us to the next level of enhanced availability and supply chain productivity and capacity investments, including a new distribution center in Remington, Indiana required to meet our future growth needs. With our strong Q4, where we accelerated our market share growth and customer scores, we expected our Q1 2011 to build on that momentum. While we do not provide quarterly outlooks, we have gotten off to a significantly slower start than we anticipated.
We know weather has impacted the start and we continue to monitor other drivers. We now anticipate 1st quarter comp growth could be flat to low single digits, which could constrain our Q1 earnings. It is early enough in the year where we can adjust our plans as we learn more. I would also like to remind you that our 1st and third quarters represent the most challenging comparisons on a 2 year basis and both were significantly benefited by favorable weather patterns in 2010. We continue to believe the long term industry dynamics are still in place.
We have factored all of this into our annual EPS outlook. In closing, Advanced Auto Parts has been focused on becoming more competitive within our industry and we are pleased with our progress. We are focused on becoming differentiated and a fully integrated service model. Ultimately, we will win with our customers through service leadership and superior availability. We expect to continue to build upon the momentum of the previous 3 years and we'll continue to be guided by meeting the needs of our customers and measure our financial progress through growth, profitability and value creation.
Our talented team will continue to propel us forward and ultimately help us reach our full potential. Operator, we are now ready for questions.
Thank you. Our first question today is from Gary Vaucher with Credit Suisse. Your line is now open.
Thank you. Just on the gross margin, you mentioned in the press release and on the call the gross margin moderation. And could you talk about the drivers that you still have because obviously you still have the supply chain opportunities, you still have some of the you still have some of this price optimization. Where are you if you
have to put yourself
on a 100 you're kind of at 100%, are you at the 50% level, 75% level on some of those?
Yes. Gary, this is Kevin. The gross margin calculation for us, there's over a dozen components that we take a look at. There's, as you mentioned, price optimization, the global sourcing, supply chain efficiency, category management, shrink, the mix front room, back room, DIY, commercial, so fairly complex interaction in any one moment over the last 3 years. Some number of them were headwinds and others were tailwinds.
As we look out into next year, we're continuing to have tailwinds in areas like price optimization that is moving to our commercial business, the global sourcing that's expanding, but we're also beginning to make investments in areas like supply chain, which are long term tailwinds, but short term opening up a new distribution center will impact the immediate numbers. So I think long term, we're bullish that we can continue to enhance margins, but we'll have a materially diminished rate in 2011.
That leads into the follow-up question. Can you talk a bit more about the investments you're making in supply chain and what you envision that will provide for you?
Sure. Two things. 1, as Mike mentioned, we're opening a distribution center that's in Remington, Indiana, which will bring the fleet of full size DCs from 9, including AI, to 10. And we're putting into that facility a new warehouse management system, which is a material impact on our IT spend for the year. And essentially, we've not opened a new distribution center in a number of years despite the increase in store count and the comp increases that we've had and that new facility will essentially allow us to keep up
with the growth of the business.
Thank you. And Darren, this isn't a question, but just one thought on your letter, you should open it and if it's a positive reply, if it's not forwarded on to still rose there.
Thanks, Gary. Thank you.
Thank you. Our next question is from Matthew Fassler with Goldman Sachs. Your line is now open.
Thanks a lot. Good morning. I want to ask a question about your cost structure. Can you give us a sense as you look at 2010 retrospectively, the amount of SG and A that you think was discretionary related to performance? You talked about incentive comp for the Q4 in general and how that influences your leverage point for 2011?
And any color on where that leverage point might be would also be helpful.
Yes. Hi, Matt, it's Mike. So turning to 2010, I think what we said is really 2010 kind of finished 3 years as we built up capabilities and we've been investing in the business in things like commercial and our availability strategies. And what we said in 2010 is that our SG and A dollar growth and our SG and A per store would start to decelerate, the growth would decelerate. We actually saw that.
So if you look at 2,009, I think our SG and A per store was roughly 8.1 and last year
it was 6.7, if you see where we
finished up the year. So pretty well exactly where we thought it would be. We were anniversarying, as I said in the Q3 call, incentive comp from 2,009. And then with our strong comp in 2010, that was about an 80 basis point difference in incentive comps. So if you back that out, our SG and A came in roughly where we thought it would be in Q4 of 2010.
Turning to 2011, we anticipate, 1st of all, we're still
going to
have to invest in the business. We're still growing in commercial. We still are building out availability in some of the areas that Kevin talked about. However, we see opportunities, savings opportunities in areas like goods not for resale, occupancy, improving the variability in our store performance, being able to leverage some of our labors from some of the initiatives that Tammy has talked about before by our customer driven labor model. And we anticipate our SG and A growth will again slow from 2010 2011.
And I anticipate that our SG and A per store will grow in a range of roughly 2% to 4% versus where it grew last year at about 6.7%.
That's very, very helpful. And some of the variability between the 2% and the 4% depend on sales as it relates to incentive comp and paying out your team members?
Yes, that's exactly it. I mean, I'd love for it to be at the high end of that range, because our sales came in better than we thought. So that picks up our variable, it picks up our discretionary and it picks up our investments. We don't break that out, but we try not to predict. And I think that gives you a good enough range, but you'll see from that, that will allow us to leverage at a much lower comp level than we did this year.
And then the last part of the follow-up, if I may. If you think about cadence of expense growth last year was unusually high, I think, in Q1 as you made some investments and obviously had a very good sales number. And then again in Q4 given the incentive comp that you just cited, should we think about the year on year growth in SG and A reflecting those compares? In other words, as you cycle very big spending, you might be able to have it up at the low end of that range and as opposed to other quarters when it might be middle or high end of that range?
Yes. This is what I would tell you, Matt. I would expect that our growth, so I gave you kind of that range of 2% to 4%. I would expect a little bit more growth in the first half of the year and a little bit less growth in the second half of the year.
More growth in
the first half of the year.
More growth higher growth in the first half of the year, because you got the annualization of what we did in the back half and less growth in the back half of
the year. Got it. Thank you so much.
Thank you. Our next question is from Scot Ciccarelli with RBC Capital Markets. Your line is now open.
Hey, guys. How are you?
Good, Scot.
Hi. Intuitively, it makes a lot
of sense that rising gas prices, the rising SAAR are going to be headwinds for the company and frankly the whole industry. But I also know you guys are incredibly analytical.
So I was just wondering
if you've been able to quantify the kind of impact you're expecting from either of those variables, if you've been able to find any kind of correlations that you think you can kind of point to as to sizing the impact?
Yes. So Scott, this is Darren. The truth is we look in many different places. If you look out to NPD, they use many of those variables. And if you're just to use what they think the world will be in 2011, they think the market will grow another and this is total market, another 6%.
And so they factor in everything from where unemployment is to revolving credit to SARS projected SARS growth to miles driven, and they all factor in there. But at the end of the day, what you recognize is theirs too is just a guess in terms of where it can be. I think if you actually looked across our industry, we all guessed wrong in 2010 and was actually much stronger. And weather did play a part in that. As we look to 2011, the way we're looking at it is the structural pieces of the industry just they have not changed.
I mean, the cars are getting older. You know what, we may see SARs go to $12,500,000 this year. That is a small increase in terms of the overall cars out on the road. Today, we don't think scrappage rates are going to change a ton in terms of the marketplace. In gas, we do know it's probably from a DIY point of view, I think, what, we're up $0.50 a gallon as we sit here today.
We know from history that that will cut into pieces of our business today. But I think those are all different types of crosswinds that we have in any one year. The weather that we're experiencing right now is that on the one hand it is cutting into our business. On the other hand, it is actually building the wear and tear on those cars that should show up in the shops and our shops later in the year.
Fair enough. Thanks. And I guess just
a quick
follow-up. If you kind of look at the comp performance between yourselves and your major competitors, they've been virtual mirrors of one another over the last 8 quarters. And when I kind of look at that and then I look at all the investments you guys have made into your own business, how do you evaluate the changes that you've made? I mean outside of comp because obviously everyone is doing pretty well right now or have been doing pretty well over the last 2 years.
So, Scott, let me just say, I appreciate that question. It's an excellent one. The things that I pay attention to and I'll use one example, so we can get other questions is, when you look at our focus on the commercial business, naturally the headlines get 12 quarters in a row of double digit comp store growth, which is fantastic. Things we don't publish is that that I pay attention to is that our customer satisfaction scores and if you imagine a net promoter score over the last 2 years has risen a full 10 points. And to rise a full 10 points in commercial customer satisfaction says to me that in a business that quite frankly that we were a little late to the party to in terms of having some of the national brands, a little late to the party to in terms of B2B capabilities, online capabilities, a party that we were a little late to in terms of a commercial sales force investment to move commercial customer satisfaction in full a full 10 points.
I don't think you can find other examples in the industry of moving the customer perception that fast in that short a period of time. And it's not lost on us that in our SG and A line, if you said what's making up that difference, by and large, it's our investment in people, because our hypothesis is over the long term, if we win the customer relationship part of the business and we see those metrics moving in the right place, that will continue to grow when the market finds its way back
to where it used to be
in terms of growth trajectory.
Yes. And Scott, I would just build on Darren's point, 2 things. When you pin in on just an SG and A line, that's correct. But when you look at SG and A, it's what you're spending today and the investments you'll get out over the long term. So in some cases, we've invested ahead, I.
E, building a dotcom site. That's the gift that we'll be giving for a long time. And then the other one is, others of our competitors have spent dollars, but they've spent it in different buckets. So I would just ask you to go back and look at where others spent capital dollars or acquisitions as well.
Thanks, guys.
Thank you. Our next question is from Tony Cristobal with BB and T Capital. Your line is now open.
Thank you. Good morning, gentlemen.
Hi, Tony.
I guess the question I want to focus on is, Darren you talked and referred to getting to the 12% EBIT margins in several years or a few years down the road. Can you maybe bridge the gap between where we are today? And is that totally a function of productivity in getting that $2,000,000 level? Or at some point, do you then get to see that SG and A as it decelerates become more of a leverageable or more of a contributor to sort of ultimately getting to that EBIT number?
Yes. Yes, Tony, terrific question. Again, it's both, Tony. The way that we see the story unfolding as we move towards $2,000,000 a store is that there's so much fixed cost in this business that if you can ride that top line as you begin to, I don't know that I love the word optimize, but it is a optimize the operating model. So I think we just finished last quarter rolling out B2B in terms of the commercial space to all of our stores.
So less than 1% of our sales today in the B2B online space, naturally, because we're just finishing rolling out, is very low. I think if you look across some of the competitors that have been out there in the industry for many years with that online capability, it's probably closer to 20%. So there is a benefit that's ahead of us, both in terms of how we can grow the business and how that will help us leverage and optimize the business going forward. There are other examples in terms of we're now past the halfway point in terms of rolling out our commercial wave program. And we're going back in, now that we have 2 years of understanding in terms of those commercial models to say, was there a better way both to increase the service levels to our commercial customers and optimize the profit formula.
And those things will take on the form of as we look at the different transportation models store to store that are still ahead of us too. So it's not as if the whole story is about it's just about growing the top line, though we're very passionate about it, or it's not a story of just how do we go in and remediate an SG and A line. But if you think about it, what we're trying to balance is that achievement of a service level above anybody else's in terms of who we are and delivering growth through that and translating it into
the operating margin growth that's
ahead of us. Okay. That's very the operating margin growth that's ahead of us.
Okay. That's very helpful. And then maybe as a follow-up, I noticed that the number of new AI units that are going to be opened up this year is down from where you opened last year. Has AI reached sort of a breathing point and is that less of a contributor to sort of where you see directionally the productivity going?
Yes, Tony, this is Kevin. Well, they had a significant expansion last year and expanded into the Florida market. We're going to have that team concentrate this year on integration of a number of back office functions with Advance. We see material profit enhancement from that. So they're basically going to go through much of what Advance went through over the last 3 years, highly concentrated into this year.
Okay. Thank you.
Thank you. Our next question is from Alan Rifkin with Bank of America. Your line is now open.
Thank you very much. Darren, with incentive comp having such a profound effect in the Q4, could you maybe tell us what the process will be for accruing incentive comp in 2011? And will it differ at all from 2010 so that there is a more possibly timely booking of this expense? Thanks a lot.
And then
I have
a follow-up.
Yes. Hey, Alan, it's Mike Dorone. I'll take that question. So first of all, our practices in 2011 will be very consistent with 2010. We pay on growth.
That's what we use. So if you remember, we changed our comp programs in 2,009 and we started paying on growth. So when you're growing and we love to pay out more dollars to our team members and share that when they're growing our business. What happened in Q4 is that we did an 8, 9 comp. So we paid for growth and we were anniversarying Q4 of 2009 where we didn't grow as much.
Remember, we did a 2.4 comp. So we had that impact. So you're anniversarying large comp with smaller comp, bigger bonus dollars. And the other impact that happened in Q4 of 2009 is we have annual programs. So what happens is you accrue those annual programs and if you remember we had a significant fall off in volume in the 2,009 Q4.
So that was another part that impacted us. So I would say that was more a one time thing than thinking about how we're accruing going forward.
Okay. If I could just follow-up there, if you don't mind. But while the comp of 8, 9 was certainly above your annual number of 8, the comp dollars in Q4, and please correct me if I'm wrong, are the lowest of any quarter. If that indeed is true, why is there such a disproportionate amount of the compensation booked in Q4?
Yes, these are annual programs as well. So we have annual programs and we have store programs that pay out monthly.
Okay. And if I could just hopefully that doesn't count as my follow-up?
No, go ahead, Alan.
Thanks a lot. So SG and A dollar growth per store, you said is certainly going to accelerate in 2011 versus 2010. But certainly the comp difference that you're forecasting of low to mid singles compared to the 8% is a pretty significant difference. If you hit the midpoint of your comp guidance for 2011, could you maybe just shed a little bit more color on what you think the SG and A dollar growth per store may in fact come out to be?
Yes. Hey, Alan, can I correct you? What I said in my remarks and what I said earlier to one of the questions is last year, our SG and A per store grew at 6.7%. Okay. And this year, we expect that to decelerate, the growth to decelerate in the 2% to 4% range.
So actually, our dollar growth will actually decelerate in 2011, it won't increase.
Okay.
Well, it will still increase, but at a lower rate?
Yes, that's right. It will increase, but at a lower rate. So 2% to 4% versus the 6.7% that we saw this year or 20 10%.
Okay. Well, thank you very much.
Thanks, Alan.
Thank you. Our next question is from Dan Weaver with Raymond James. Your line is now open.
Thanks. Darren, I just wanted to talk a bit more about AI and how it fits in with the long term commercial strategy. As I recall, AI generates about $25,000 in sales per week per location, so a little bit more than twice your commercial average in your advanced stores. But as I recall, the operating margins are pretty skinny and perhaps that's what's leading to the consolidation in the back office. But can you talk about long term, do you view AI as just remaining essentially a separate brand?
Or do you envision at some point beginning to integrate it into the capabilities of the Advanced branded commercial program?
Yes. Dan, here maybe a little bit of context. So in 2010, we opened 40 AI stores, Kevin. 48. Yes.
Part of what we were testing in 2010, we actually went much further away than the home market, Dan. And what we were testing is, does the value proposition work? And some of the hardest work you'll do in business to figure out does the consumer will the consumer actually buy. We know that business has been very successful in its home markets. And to be candid, we were very pleased in terms of how that business performed outside of its home market.
So a lot of the work that we've done over the last couple of years is do we test how do we test it in other type of markets. We tested a store within a store. I'm not confident that that's a winner, because it just creates another level of complexity that's hard to run within a box. And as we look at the future, a way to think about it is, we still see a world where AI is standing separate in terms of the customer facing activities. But there are many back office activities that candidly, if we're going to grow it faster, it can grow faster on the rails.
So think about supply chain, think about some of the merchandising synergies. Today, we even have separate finance. And by and large, we have been operating it really at arm's length. And now we see the opportunity to say, if we were to integrate this, and some of it's about cost savings for sure, but I would say the majority of it is it allows us to position that business to grow more rapidly
in different markets in the future.
Do you have anything to add, Kevin?
The only thing I would say is you made the comment, do we envision this as a separate brand or becoming rebranded as Advance. There's numerous differences in the models and we're running a model that we hope would be fifty-fifty DIY commercial on Advance and it's 100% commercial on the AI side. We have a business that is largely branded for Advance and it's almost entirely private label for AI. And the differences continue. As we look at AI as they went into the Florida market and other markets they've expanded into in the last several years, they're complementary to our business.
It's not something that is cannibalistic. So, I would concur with Darren, we have had a pronounced margin expansion for Advance and a pronounced margin expansion for AI would have a comparable positive impact. Expansion for AI would have a comparable positive impact. We've been able to significantly reduce owned inventory, a significant reduction in their own inventory would be positive as well. So I think it's taking a good brand with a truly differentiated model and allowing it to benefit from some of the tailwinds that we've been able to create for ourselves on the Avance side.
Okay. And then just as a follow-up, other retailers that have a similar customer profile as yours have been highlighting the elimination of the tax refund anticipation loans as a headwind in January sales. But as the IRS begins to cut those checks in February, those sales dollars should come back into consumer spending. Do you think that the elimination of those RALs has had an impact on your business thus far in the quarter? And as a result, this quarter might turn out to be backloaded?
Yes. Here's what I would say, Dan. Jim and myself, we were traveling last couple of weeks to stores. I was visiting with commercial customers. And when you listen to the teams out in the field, I mean, they're actually so much closer to what's going on.
And they would say in January, one of the challenges that they're facing is just that. They're just not seeing the level of tax money, both in the commercial accounts and showing up in stores. So weather is a big piece of it. If you said to me, tell me what the change is year over year, I can't tell you what the change is. Anecdotally, that is something we're hearing in the marketplace.
But like weather, it will come back. And so we tend to view it as a timing issue at this point versus something that's structurally different.
Great. Thanks and good luck.
Thank you. Our next question is from Kate McShane with Citi Investment Research. Your line is now open. Thank you. Good morning.
Hi. Hi, Kate.
Hi. I was wondering if
you could talk a little bit about the inflationary headwinds that you had mentioned in your prepared comments and what your view will be on raising prices and what prohibits you maybe from passing it all through?
Yes, Kate, this is Kevin. Essentially, if you just look across all industries, the oil prices are rising and well documented. The price of steel is rising and well documented. And obviously, we have a number of products that are based on those two commodities. The key question for us is to what extent will we be able to have those cost increases reflected in the marketplace and that's unknown.
Quite frankly, we're pretty early in the cycle. Some of the products that we have have relatively long lead times and we today see that as part of that deceleration of margin growth, but it's very actually enhance sales. And you only have to look back a few years ago that that was the situation we were in as an industry that a certain amount of our comp growth was actually being driven by inflation of the products.
Okay. Thank you. And if I
could go back to a previous question that was asked about some of the external factors that are impacting your business. Do you have a figure for what USR has to be in order to start dragging down the average age of cars? And how do used car sales come into play with this in the calculation of the average age of cars?
I think the arithmetic is I'll get this close, but perfect, but I think we're scrapping about 14,000,000 cars a year. So I think if we build 14,000,001, we're starting to change some of that age dynamic in the industry, Kate. So and you just to go back, what, 4 years ago and look at the new cars, I guess, 2,002 to 2,006 were traveling at about a 17,000,000 dollars car rate. We're traveling at a rate still, depending on whose estimates you believe this year, anywhere from $12,500,000 to $13,500,000 So there's still a pretty precipitous decline in terms of the new cars coming online.
Okay. Thank you. Thank you. And our final question today comes from Arun Rubinson with Nomura. Your line is now open.
Hello. Thanks very
much. Hi, Aaron. How are you doing? Good. Two questions.
1, I guess, on the sales and then 2 on the margins. At least kind of back of the envelope calculations would suggest that the spread between the DIY and the commercial comp kind of widened out during the Q4. Wondering if you can kind of verify that or put a little bit of a range around the commercial or the DIY and then curious into Q1 whether that spread is in fact also moving more towards commercial?
Yes, maybe I'll start that. It's Mike and then I'll turn it over to Jim to give you some insights. But we don't break out our commercial and DIY. What I will tell you is that we enjoyed our 12 consecutive commercial comp and we enjoyed strong DIY comps building on, I think, it's positive 7 out of the last 8 quarters. But we don't break out because as we've shared before, we're looking to build an integrated model.
And while we have specific initiatives for each of the different customer groups, we think about it as more integrated. Jim, do you want to give some color?
Yes. The only thing I would add is that in the Q4 and in the Q1, we really haven't seen any change in the trend between the two businesses in either case. So I don't think what you're seeing there is really showing up in the numbers.
Thanks. And then just a follow-up on the gross margin. There are elements of the gross margin, which are of course benefits of programs that you're instituting. And then on the other hand, there's always some
investing that's inside that line.
I think that's instituting. And then on the other hand, there's always some investing that's inside that line item. As you move your accounts payable up, I'm wondering if that yields any pressure on the gross margins over time as your mix, of course, moves up. We've not seen any of those things affect pressure on the margins over time. But I guess I'm just trying to get a sense of the balance of the those things affect pressure on the margins over time.
But I guess I'm just trying to get a sense of the balance of gross. How much is kind of new incremental programs that are benefiting and then whether you're kind of reinvesting that gross in some things that may be either in price or in getting the payables in terms, the 2 where you want. Just trying to understand the balance between the investment and the, call it, the harvesting.
Yes. Again, we had a sizable increase in the AP ratio last year, the largest we've ever had and quite frankly, the largest of anyone in our industry and margins went up over 100 basis points. So, we've not seen a correlation between improvement in payment terms and margin and that's essentially not the way the program works. So, I don't believe I do believe that the that AP ratio will continue to grow over time and that's a goal of the company and I don't believe that that's while we do in fact have margin headwinds, that doesn't appear to be one of them.
Okay. Well, I thank you for taking my question. I appreciate the response.
Okay. Thanks, Aaron.
Thank you. And that's all the time we have for questions. I would now like to turn the call back to management for any final comments.
Thank you, Wendy, and thanks to our audience for participating in our Q4 earnings conference call. If you have any additional questions, please call me, Joshua Moore, at 952-715-5076. Reporters, please contact Shelly Whitaker at 540-561-845.