Advance Auto Parts Inc.

Welcome to the Advanced Auto Parts first quarter 2022 conference call. Before we begin, Elizabeth Eislaven, Senior Vice President, Communications and Investor Relations, will make a brief statement concerning forward-looking statements that will be discussed on today's call.

Good morning, and thank you for joining us to discuss our Q1 results. I'm joined by Tom Greco, our President and Chief Executive Officer, and Jeff Shepherd, our Executive Vice President and Chief Financial Officer. Following their prepared remarks, we will turn our attention to answering your questions. Before we begin, please be advised that our remarks today will contain forward-looking statements. All statements other than statements of historical fact are forward-looking statements, including, but not limited to, statements regarding our initiatives, plans, projections, and future performance. Actual results could differ materially from those projected or implied by the forward-looking statements. Additional information about factors that could cause actual results to differ can be found under the captions forward-looking statements and risk factors in our most recent annual report on Form 10-K and subsequent filings made with the Commission. Now let me turn the call over to Tom Greco.

Thanks, Elizabeth, and good morning to everyone joining us today as we review our Q1 results and discuss progress against our long-term strategic initiatives. Before we begin, I'd like to thank our entire team and independent partners for their dedication throughout Q1. Let me start with three key themes surrounding the first quarter. First, we delivered our eighth consecutive quarter of growth in comparable store sales, adjusted operating income dollars, and adjusted earnings per share. In addition, we did this while lapping the height of last year's stimulus and an inflationary macro environment. Second, our strategic initiatives are gaining traction to deliver top quartile total shareholder returns over the long term. And third, our financial strength provides for continued investment in our business while returning cash to shareholders. Stepping back, we began the year as many companies did. Amid uncertainty, in our industry, it was unclear how substantial broad-based inflation was going to impact consumer demand in 2022, what rising fuel prices would do to vehicle miles driven, and what the real benefit was from economic stimulus. In particular to the 2021 stimulus, we had to estimate how much this benefited our core DIY consumers. More specifically, what role did this significant cash injection play in temporarily spiking DIY demand in Q1 2021? Through the first 10 weeks of 2022, we had a strong start. At that point, year-to-date comparable store sales were up mid-single digits. The final six weeks of our quarter were more challenging than we expected, with comparable sales declining mid-single digits. driven by DIY. While we knew this timeframe included the most substantial lap of economic stimulus from the previous year, we also had a slow start to the spring selling season, primarily in northern geographies, due to colder and wetter weather than the previous year. Now that the impact of last year's stimulus has moderated and the weather has normalized, our comparable store sales growth in the first four weeks of Q2 are once again trending within our annual sales guide. With the most difficult sales lap of 2021 behind us, we're pleased to affirm our full-year guidance. Our industry has proven to be resilient despite substantial cost inflation across commodity, fuel, and wages. In particular, the professional business in auto parts has a different economic model than traditional retail. For the most part, Our professional customers make their decisions based on availability and customer service, along with speed and reliability of delivery over price. We believe that these dynamics, combined with the new strategic pricing capabilities we've put in place at Advance, positions us well to manage inflation in the current environment. Overall, in Q1, we delivered comparable store sales growth of 0.6%. and 25.3% comp sales growth on a two-year stack. As we've said, we believe it's now important to consider comparable store sales on a three-year stack as it helps to smooth out pandemic-related volatility. We're encouraged that our three-year stack accelerated in the quarter to 16% as compared to 13% in Q4 2021. We grew adjusted gross margins 231 basis points, while adjusted SG&A deleveraged 229 basis points. In total, our adjusted operating income grew 1.6% in the quarter, with our adjusted operating margin rate of 9% in line with the previous year. Adjusted diluted earnings per share were up approximately 7%, and we returned over $400 million to shareholders. through a combination of share repurchases and quarterly cash dividends. Jeff will provide more color on our financial results shortly. In terms of category growth, motor oil, batteries, and brakes led the way. We're particularly pleased with the continued strength in batteries, which has seen robust growth over the past two years as we've transitioned to the diehard brand. Regionally, our performance was led by the West and Florida. Our goal remained. to deliver top quartile total shareholder return over the long term. I'll now provide an update on the progress we're making on our four drivers of TSR, which we've outlined previously. First, build an ownership culture. Second, grow faster than the market. Third, capitalize on our unique margin expansion opportunity. And fourth, return a substantial amount of cash to shareholders. In Q1, we continued to build our ownership culture through concrete actions. We recognize that our team members play a vitally important role in our customer value proposition. We also believe that when we put our team members first, they will in turn take care of our customers, and that will result in improved total shareholder returns. In addition to enhanced training and safety initiatives for our frontline team members, we've also been investing in compensation. including our differentiated Fuel the Frontline Stock Award program for several years now. We can see that these significant investments in frontline compensation, training, and safety are working. We've now granted more than 24,000 Fuel the Frontline grants since the program started, which helps contribute to lower turnover. In Q1, our store turnover declined relative to the previous quarter. Our intention here is to build a more differentiated team member and customer experience over time. The reduction in turnover is contributing to improvements in our Net Promoter Score, which highlights that our investments are translating to an improved customer experience. In terms of our focus on safety across ADVANCE, we continue to see year-over-year improvement in our incidents and are pleased to report that our total reportable incident rate decreased 35% year-over-year in the quarter, and it's now 1.3, the lowest we've seen since we began measuring incident rates. Some initiatives to drive shareholder value are easily replicated. Building an ownership culture is not one of them. We make this a priority, and you can read more about this topic in our 2021 Corporate Sustainability and Social Report, which is now available online. In terms of our second TSR driver, Grow Faster Than the Market, our objective here is similar. we're focused on building long-term, sustainable, competitive advantages. This includes industry-leading parts availability through our diversified asset base for all makes and models. Availability is not just about having any application or any parts to the customer. It's about having high-quality parts that enable the installer to do the job easily, parts that perform well post-installation, and parts that have low return rate. It's also about having brands that are trusted by DIYers and professional installers alike. In that spirit, we continue to improve our availability and assortment of national and OE brands. We're also expanding our lineup of differentiated billion-dollar brands, CarQuest and DieHard. With the CarQuest and DieHard brands, we're innovating to serve our customers with leading technology, breadth of assortment, and world-class training for all makes and models. As we look at the car park going forward, we fully recognize that there are years of growth ahead for parts and applications specific to internal combustion engines. That said, as the hybrid and battery electric car park grows, both DIYers and our professional customers are looking for products and parts that are optimized for these vehicles. This demand is particularly concentrated in certain areas of the country. With this in mind, we're thrilled to announce Advance's exclusive first-to-market diehard EV batteries. There are already 8.4 million hybrid or electric vehicles across the country. By 2030, this number is expected to increase to 45 million vehicles. Today, it's not widely known by consumers that every single one of these vehicles requires a 12-volt battery. In addition, Our research has shown that the power demands on these vehicles is already significant and increasing, with the existing 12-volt batteries not lasting as long as consumers expected. Our new DieHard EV is designed for improved and longer-lasting battery performance, providing superior reliability and durability for all electric and hybrid vehicles. But our plan to better serve hybrid and electric vehicle owners is not just about batteries. In addition to our exclusive offering on Diehard, we continue to expand our parts catalog for full battery electric and hybrid vehicles. We now have tens of thousands of hybrid and electric parts and products available. In addition, we've been working very closely with our professional customers in terms of hybrid and electric vehicles. they too are repositioning their business and operations to better serve these vehicle owners. In March, we held our annual Supplier and Training Expo, or STX, in Florida. STX is widely known across the industry as the largest automotive aftermarket technical and business training event in North America. Due to COVID, our training sessions with professional customers were conducted virtually over the past two years. so we were extremely excited to be able to host our supplier and training expo in person this year. More than 2,400 technicians, shop owners, service riders, and other automotive professionals attended. Importantly, this year's classes on electrification and autonomous were in high demand and extremely well received. In summary, Advance remains committed to serving all vehicle owners. including hybrid and battery electric. In addition, we plan to work collaboratively with our pro customers so that both of us are ready to meet the evolving needs of our customer base. Shifting to channel performance in Q1, once again, our professional business outperformed DLI in the quarter with mid-single-digit comparable store growth led by Whirlpact and CarQuest Canada. From a pro-channel perspective, our large strategic accounts grew double digits, with TechNet also delivering a strong quarter. Our TechNet membership continues to grow, and through Q1, we added over 500 new members, finishing the quarter with nearly 15,000 members. Finally, we once again had a strong quarter with our CarQuest independents. We remain committed to our independent partners and continue to bring more independent orders for the CarQuest family. Moving on to our DIY omnichannel business, this business experienced the most volatility in the quarter, declining mid-single digits. As mentioned earlier, we had a much stronger first ten weeks of the quarter, with the final six weeks very soft as we lacked extremely difficult comps from the back half of Q1 last year. Our analysis concluded that our DIY performance in the last six weeks in the quarter was impacted both the lack of economic stimulus and weather. While the entire country was impacted by stimulus, our north regions also underperformed south regions during this timeframe, as a late start to the spring had a larger impact on these geographies. Of course, while the weather's uncontrollable, it's also a temporary factor, and we've already seen recovery in DIY and in the North during the first four weeks of our Q2. While we're watching all the variables closely, we're encouraged by the consistency of the three-year stacks in both DIY and Pro quarter to date. In terms of speed perks, after announcing our GAPS rewards program last quarter, we experienced increases in both membership and graduation rates. In addition, our percentage of speed per transaction increased by 270 basis points compared to Q1 2021. Turning to our store expansion efforts, we opened 35 new stores in the first quarter, including the conversion of our stores in California. After delays related to COVID-19, we're making progress on this expansion and welcoming new team members and customers to events. We're continuing to execute our new store opening plans and expect to open between 125 to 150 new stores and branches in 2022, also consistent with our annual guide. Our third TSR driver is to further capitalize on the margin expansion opportunity advance, which we believe is unique within broader retail. We remain confident in our long-term plans to expand margins as outlined last year. Our first quarter performance was highlighted by significant adjusted gross margin improvements. Our adjusted gross margin expansion was enabled through our approach to category management and driven by strategic pricing and increased own brand expansion efforts. While we continue to experience record levels of inflation, investments we've made in strategic pricing capabilities are paying off. This has significantly improved our ability to react quickly, and appropriately to cost increases across the business. We're now able to take targeted actions based off a variety of dynamic market factors, including regional dynamics and competitive intensity. With our new tools, we're much more surgical with our pricing strategies across and within channels. This is very different than our approach in the past. In essence, one channel strategy is no longer dependent upon the other. This allows us to evaluate price elasticities across categories and channels at a much more granular level, enabling us to pivot quickly as customer purchasing behaviors shift or adjust. We now understand better what's important to our customers, and it's not a one-size-fits-all model. Our tools have empowered us to leverage the roles categories play within our assortment differently, while reacting to variances in and across markets. Our pricing strategies continue to be substantiated through the use of robust analytics and integrated competitive intelligence. We're confident these tools will enable us not to drive just top-line sales, but also drive profitable margin-expanding growth. Separately, our own brand penetration continues to grow as we reach an all-time high of close to 48% across the enterprise in the quarter. This was led by the expansion of our CarQuest brand into engine management and undercar, along with the expansion of AutoPart International's product into WorldPak's national distribution system. Our supply chain transformation continues to evolve as we transition to our enterprise-wide infrastructure, starting with the consolidation of WorldPak and AutoPart International. By the end of Q1, we integrated all of the AI store locations into the WorldPak technology stack, As a result, we saw significant improvement in customer service from an increased fill rate. Our team members can quickly respond to our professional customers' needs and partner with them to help grow their business through improved service and expanded coverage of national and owned brands availability. Additionally, we continue to move our advanced and CarQuest supply chain to a single warehouse management system, or WMF. As of Q1, we transitioned approximately 46% of our distribution center network as measured by unit volume to the new WMS. With the implementation of the new WMS at each DC, we continue to follow with our new labor management system and expect to complete this rollout as planned by the end of 2023. In addition, late in Q1, we began to shift our first stores out of our new San Bernardino DC and are continuing to ramp this building to take on more capacity to support our West Coast expansion. This new location will be a valuable consolidation point for supplier shipments and meaningfully improve our speed of replenishment to stores and e-commerce capabilities. Our new Toronto beach here remains on track to be fully operational in Q4 2022. We're very excited about the increased capacity and capability we'll have to support our Canadian expansion plans with this investment. Finally, as we continue to optimize our overall DC network to improve efficiency, we recently announced to our teams that we will be closing additional DC located in Anchorage this year. Shifting to SG&A, we're continuing to execute our cost reduction initiatives. In Q1, savings on corporate SG&A and rent were more than offset by increases in store labor cost per hour as well as new store startup costs. These costs were largely anticipated, and Jeff will review these and other factors in more detail shortly. In summary, we believe that industry drivers of demand, including increasing car parts, improving miles driven, and over 5 million new vehicles in the sweet spot remain positive for the industry over the long term. At the same time, we're cognizant of external headwinds such as broad-based inflation and rising fuel prices. Despite this challenging macro environment, we delivered another quarter of growth and remain confident in our ability to deliver our 2022 guidance while executing our long-term strategic plan. I'll now turn the call over to Jeff to review our financials for Q1 and our final TSR driver, returning cash to shareholders. Thanks, Tom, and good morning. I would also like to thank all our team members for their dedication and resilience to quickly adapt to the current environment, which has remained volatile. In Q1, our net sales of $3.4 billion increased 1.3% compared with Q1 of 2021. This was primarily driven by growth in our professional business, including CarQuest's independently owned locations. Adjusted gross profit margin expanded 231 basis points. to 47.1%, driven primarily by improvements in strategic pricing actions, as well as expansion of our own brand portfolio. These were partially offset by ongoing inflationary costs in both category and channel mix. Same skew inflation in Q1 increased 7.1%, which is higher than we expected when we began the year. In addition, inflationary headwinds from higher wages and fuel costs within supply chain in the quarter more than offset our productivity gains from ongoing initiatives. The unfavorable channel mix in the quarter resulted from the professional business outpacing DIY growth. Our Q1 adjusted SG&A was $1.3 billion, or 38.1% of net sales. This compares to 35.8% of net sales in Q1 of 2021. Like previous quarters, this was primarily driven by inflationary headwinds led by store payroll, as well as continued increases in fuel costs. We also incurred approximately $20 million of startup costs related to our California expansion. In Q2, we expect further investment and anticipate this will normalize in the back half of the year. As expected, Pro outperformed DIY, contributing incremental delivery costs. These headwinds were partially offset by a year-over-year decrease in COVID-19-related expenses, savings from actions we took over the past couple of years to lower SG&A expenses, including corporate restructuring and rent reductions, as well as lower incentive compensation due to the record results in the prior year. Our Q1 adjusted operating income was $303.6 million, an increase of 1.6% compared to Q1 2021. Our Q1 adjusted OI margin rate of 9% was in line with Q1 of the prior year. Our adjusted diluted earnings per share of $3.57 increased 6.9% compared to Q1 2021. Capital expenditures for the quarter were $115 million as we continued to invest in our business and open new stores. Our free cash flow in the quarter was an outflow of $170 million, compared with an inflow of $259 million in Q1 2021. Working capital in the quarter was pressured by higher inventory, not only from our usual build ahead of the spring selling season, but our team also bought ahead to navigate the dynamic situation in China. This, combined with an unexpected slow start to the spring selling season, reduced our AP ratio by 100 basis points. Additionally, we experienced higher accounts receivable from increased professional sales as compared with last year. However, we expect balances to decline throughout the year. Finally, as Tom mentioned, Our fourth PSR driver includes returning excess cash to shareholders through a combination of share repurchases and our quarterly cash dividend. In Q1, we returned $248 million to shareholders through the repurchase of approximately 1.1 million shares for an average price of $231.41. In addition, we returned approximately $154.8 million to our shareholders for our quarterly cash dividend payments. As mentioned in our earnings release, our Board of Directors has approved a cash dividend of $1.50 as we remain confident in our ability to generate meaningful cash for our shareholders. We are continuing to execute against our long-term strategic objectives and are confident in our ability to deliver further progress throughout the year. As a result, we're affirming our full-year 2022 guidance ranges including comparable store sales growth, margin expansion, and double-digit adjusted earnings per share growth. In addition, we're slightly increasing our adjusted diluted EPS range to $13.30 to $13.85, reflecting year-to-date share repurchases. While we recognize considerable volatility remains in the macro environment, we will continue to execute our plans and work to maximize performance. With that, let's open the phone lines to questions. Operator?