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Edited Transcript of AZO.N earnings conference call or presentation 26-May-20 2:00pm GMT

Q3 2020 Autozone Inc Earnings Call

MEMPHIS Jun 28, 2020 (Thomson StreetEvents) -- Edited Transcript of Autozone Inc earnings conference call or presentation Tuesday, May 26, 2020 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* William C. Rhodes

AutoZone, Inc. - Chairman, President & CEO

* William T. Giles

AutoZone, Inc. - CFO and Executive VP of Finance, IT, ALLDATA, Store Development & Customer Satisfaction

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Conference Call Participants

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* Bret David Jordan

Jefferies LLC, Research Division - MD & Equity Analyst

* Brian William Nagel

Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst

* Christopher Michael Horvers

JP Morgan Chase & Co, Research Division - Senior Analyst

* Matthew J. McClintock

Raymond James & Associates, Inc., Research Division - Research Analyst

* Michael Lasser

UBS Investment Bank, Research Division - MD and Equity Research Analyst of Consumer Hardlines

* Michael Allen Baker

Nomura Securities Co. Ltd., Research Division - Research Analyst

* Seth Ian Sigman

Crédit Suisse AG, Research Division - United States Hardline Retail Equity Research Analyst

* Simeon Ari Gutman

Morgan Stanley, Research Division - Executive Director

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Presentation

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Operator [1]

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Good morning and welcome to the AutoZone conference call. (Operator Instructions) Please be advised today's call is being recorded. (Operator Instructions) This conference call will discuss Autozone's third quarter earnings release. Bill Rhodes, the company's Chairman, President and CEO, will be making a short presentation on the highlights of the call. The conference call will end properly at 10 a.m. Central Time, 11 a.m. Eastern Time. Before Mr. Rhodes begins, the company has requested that you listen to the following statement regarding forward-looking statements.

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Unidentified Company Representative, [2]

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Certain statements contained in this presentation constitute forward-looking statements that are subject to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Forward-looking statements typically use words such as believe, anticipate, should, intend, plan, will, expect, estimate, project, position, strategy, seek, may, could and similar expressions. These are based on assumptions of assessments made by our management in light of experience and perception of historical trends, current conditions, expected future developments and other factors that we believe to be appropriate.

These forward-looking statements are subject to a number of risks and uncertainties, including, without limitation, product demand, energy prices, weather, competition, credit market conditions, cash flows, access to available and feasible financing, future stock repurchases, the impact of recessionary conditions, consumer debt levels, changes in laws or regulations or in the prospect of war, including terrorist activity, inflation, the ability to hire, train and retain qualified employees, construction delays, the compromising confidentiality, availability or integrity of information, including cyberattacks, historic rate sustainability, downgrade of our credit ratings, damages to our reputation, challenges in international markets, failure or interruption of our information technology systems, origin and raw material costs of suppliers, disruption in our supply chain due to public health epidemics or otherwise, impact of tariffs, anticipate impact of new accounting standards and business interruptions.

Certain of these risks and uncertainties are discussed in more detail in the Risk Factors section contained in Item 1a under Part 1 of the annual report on Form 10-K for the year ended August 31, 2019, and these risk factors should be read carefully. Forward-looking statements are not guarantees of future performance, and actual results, developments and businesses, which may differ from those contemplated by such forward-looking statements, and events described above and in the risk factors could materially and adversely affect our business.

Forward-looking statements speak only as of the date made. Except as required by applicable law, we undertake no obligation to update publicly any forward-looking statements whether a result of new information, future events or otherwise. Actual results may materially differ from anticipated results.

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Operator [3]

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I'd now like to turn the call over to Mr. Bill Rhodes.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [4]

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Good morning, and thank you for joining us today for AutoZone's 2020 Third Quarter Conference Call. With me today are Bill Giles, Executive Vice President and Chief Financial Officer; and Brian Campbell, Vice President, Treasurer, Investor Relations and Tax.

Regarding the third quarter, I hope you've had an opportunity to read our press release and learn about the quarter's results. If not, the press release, along with slides complementing our comments today, are available on our website, www.autozone.com, under the Investor Relations link. Please click on Quarterly Earnings Conference Calls to see them.

Since our last earnings release, the world has changed significantly and so has our business. During our last call, on March 3, we were focused on COVID-19 but more from a supply chain disruption perspective. Quickly thereafter, the unprecedented ramifications of the pandemic and its disruption on lives across the globe became a reality. As we have navigated these remarkable times, our first priority has been and will continue to be the health, safety and well-being of our customers and AutoZoners.

This quarter was the most remarkable quarter I've ever experienced. In light of that, this will be a different, more detailed update on our business. Our business is typically pretty predictable. As I've said many times, our sales fluctuate in a very tight band. But currently, that has not been true.

We aren't sure what lies ahead. So we are going to share a lower level of granularity this quarter so you have a deeper understanding of the fluctuations and drivers or potential drivers. I know as we move into the Q&A, you will want us to help you "model" our sales performance for Q4. Frankly, we are having a very difficult time forecasting our business week-to-week, much less for the next quarter. And who knows what is in front of us this summer. Will the cases decline and subside? Will they escalate as we begin to reopen the economy? Will the government provide additional stimulus? Will enhanced unemployment benefits help our business? Will all our commercial customers survive? We have too many unknowns, and our focus is on making sure, in the short term, we provide our AutoZoners with the resources they need to provide our customers with exceptional experience.

As for the long term, to date, we don't see anything that substantially changes our bullish view on our industry, but we must continue to monitor consumer shifts and behavior. And if the economy enters a deep and protracted recessionary environment, we believe our customers will focus more on maintaining their current vehicles, and it will benefit our business, retail, in particular, as it has in the last 3 recessions. As a reminder, our strongest periods of outside sales growth over the last 3 decades have been the early '90s, '01, '02, '09, '10 and '11, all coming out of recessionary periods.

While we always begin these calls by thanking our AutoZoners, what our team has done as an essential retailer and remaining open throughout the crisis to serve the motoring public has been nothing short of phenomenal. I applaud our entire team, many who have had to quickly pivot to new ways of working, but I especially want to call out, recognize and show deep appreciation for our store AutoZoners and our distribution center AutoZoners. These remarkable people have done a tremendous job throughout this time and have made several large changes in how we operate and have done it quickly with tremendous passion and, of course, with excellence. I simply can't thank them enough for what they have done for our customers and our company.

Now let's move into our performance for the quarter. Our same-store sales were down 1% versus last year's third quarter. Our net income was $343 million, and our EPS was $14.39 a share, 10% below last year.

Regarding our sales performance. The quarter can best be described in 3 time periods, each basically 4 weeks long. Recall that we had a very mild winter and a disappointing sales performance in our fiscal second quarter. We shared that we were optimistic about the balance of the year, and in particular, the third quarter, as we felt there was pent-up demand, and unlike other mild winters, many of the maintenance categories had not been pulled forward, and tax refunds were beginning on time and at normal levels. The first 4 weeks, our sales, as expected, were quite strong, with same-store sales up over 6%. Both retail and commercial are performing quite well, with commercial sales growth returning comfortably to double digits.

And then for the second 4 weeks, the world changed radically, literally overnight. Our sales performance immediately declined materially, dropping to a 1-week low of comps down more than 25%. We began asking ourselves questions we never fathomed before. Do we have the liquidity necessary to weather this storm? Will we have issues with our debt covenants? Will we need to furlough AutoZoners to reduce compensation? How quickly and significantly can we stop capital expenditures and expenses? We immediately acted to shore up any liquidity concerns. We temporarily suspended our share repurchase program, then we issued $1.25 billion of bonds on Wednesday, March 30. We also closed on an additional 364-day $750 million line of credit. This additional line of credit was on top of the unutilized $2 billion line of credit already in place. We were running very pessimistic scenarios and preparing for what we thought could be the worst.

Our team did a tremendous job enhancing our financial position in a chaotic environment in very short order, a testament to the team and also to the strong financial position and long-term performance of the company.

Simultaneously, I'm extremely proud to say that we acted swiftly in support of all of our field AutoZoners. Immediately, we instituted reduced store hours of operation across the U.S. store base. This allowed our stores to enhance our cleaning protocols and allow our AutoZoners time off in the evening to decompress after a very stressful day. As an essential business, we were determined to be ready to safely service our customers, the motoring public each day. This meant taking care of our AutoZoners as well.

Very early in the crisis, we announced that all eligible

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part-time AutoZoners across the U.S. would receive emergency time-off benefits, and it would be available immediately. We didn't wait to see what others were doing or wait on any mandates by governments. We felt it was imperative to act swiftly in support of our AutoZoners on the front lines. We provided them with 2 additional weeks of time off, including, for the first time in our history, providing part-timers with paid time-off up to 40 hours. This additional time-off can be used as the AutoZoner desires. And if they don't use it between now and the calendar year-end, we will pay them for those hours in January. We did this to provide our AutoZoners with choices. Some are in the more vulnerable populations and weren't comfortable coming to work. Others had childcare issues. Others were just anxious while the vast majority we're comfortable coming to work and providing great service to our customers. This decision, which was made in a couple of days, was aligned with our values, and I was honored that our team and our Board of Directors lived up to the powerful culture we often espouse during this crisis. And you know a crisis is when real leaders lead.

This alone was an incremental expense in the third quarter of $65 million. And combined with other directly related COVID-19 expenses, our SG&A was negatively impacted by about $75 million in the quarter. In addition to this past quarter's investments in our AutoZoners, we plan to provide certain other AutoZoners that were not eligible for the first emergency time-off benefit with similar benefits during the fourth quarter. We are honored to recognize those AutoZoners, helping our customers every day on the front lines and to say thank you for their efforts.

Based on what we know today, we expect to incur approximately $25 million in additional COVID-19-related expenses in the fourth quarter, including this recognition.

Our business, retail, in particular, was beginning to rebound at the end of the second 4 weeks. Then at the beginning of the third 4-week period, federal stimulus checks began to arrive and flow through the U.S. economy. We experienced a significant change in trend, moving from negative double-digit comps to a significantly positive comp almost immediately. To put this in perspective, in 2 days, from a Monday to a Wednesday, our retail sales increased by roughly 50%, 5 0 percent in 2 days, and we continue to experience extremely robust sales performance through the end of the quarter. Throughout this crisis, our DIY business has been substantially stronger than DIFM. Retail began rebounding sooner and reacted stronger than commercial when the stimulus money arrived. At the end of the quarter, our commercial business turned positive again but had not yet returned to double-digit growth like before the crisis.

Specifically, for the quarter, our overall same-store sales for each of the 4-week periods were up over 6%, then down more than 20%, then up in the low teens, ending the quarter down 1%. Given the extreme volatility in the quarter, as I just outlined, and as I said in the opening, it is impossible to know what our future sales trends will be. Unfortunately, we are forced to manage the business literally from week-to-week, and our field organization has done an outstanding job measuring -- or managing these extremes. We expect that our sales growth will moderate as the stimulus money works its way through the economy. But at the same time, the nation is reopening.

What will that do to our business? We simply aren't sure. What we are sure about is our team has been incredibly nimble. They have reacted quickly to every single change. We are no longer, assuming there are no other significant shocks to the system, asking ourselves some of those very difficult questions. Instead, we are focused on providing our team with the resources and support they need to live up to our pledge, and our AutoZoners have definitely been and continue to put our customers first.

Regarding geographies. Our performance was much worse in some of the most affected areas, specifically the Northeast, mid-Atlantic. And also, some of our stores in Puerto Rico and Brazil were down considerably as we were forced to close and/or operate under extreme restrictions. Certain markets rebounded pretty quickly like the Pacific Northwest, while others, like New York, as you would expect, has been slower to recover. Our best-performing areas have generally been in the middle of the country.

There have been very interesting trends in some of our merchandise categories, specifically in the retail business. Certain categories have been quite challenged like wipers and lighting as people have stayed home more and have not been as active at night or during periods of inclement weather. Other categories have been strong, particularly post-stimulus. After a very mild winter, our battery sales have been strong, especially as people park their cars for extended periods, after which the batteries fail or are discharged. We've also seen some surprisingly strong categories that I'll call project categories. These are categories for hobbyists or people who want to upgrade something. People have more time on their hands, so they're working on their project car, doing that enhancement job they've been constantly putting off before.

Now before moving beyond our sales trends, there's been some significant dialogue regarding short-term impact of miles driven on our business. We have touted miles driven as a key macro factor that impacts our industry's performance for decades. However, there have been times when the correlation with miles driven in our industry sales performance do not have a strong correlation like during the Great Recession. We believe that during select generally shorter periods of time, other factors like new car sales, unemployment and the like are more important, and miles driven is less important.

Now let's turn our focus to the balance of the P&L. For the quarter, our gross margin was up 2 basis points. Along with past storylines around tariffs, supply chain and mix between DIY and DIFM sales, we've been a very steady performer in regard to gross margin. On operating expenses, our team, particularly our store operations and commercial teams, did a remarkable job of managing our expenses during the massive volatility I noted earlier.

Imagine trying to manage payroll in line with sales when you have a 50% change in sales in 2 days. Yes. On the surface, we had material deleverage, but the majority of that deleverage was associated with our decision to provide enhanced benefits for our hourly AutoZoners in the form of emergency time-off, costing us approximately $65 million in the quarter. While a very significant and expensive decision, as I have visited stores and talked to our team, this decision strengthen our already unique and powerful culture and show that this organization walks the walk. I believe there will be long-lasting benefits from this decision. Additionally, we had other directly related COVID expenses of approximately $10 million. Excluding these unique charges, our overall operating expenses were below the prior year's quarter.

Regarding our balance sheet. Our debt came down a bit, and our cash was up. Both were purposeful as we were mindful of cash conservation. We also felt we managed our inventory well as our inventory per store growth declined 0.5% versus Q3 last year. We feel we have strong liquidity heading into our summer season and can handle many of the future unknowns.

As I mentioned previously, we temporarily paused our stock buyback program. It was certainly the right decision at the time as there was too much uncertainty in the business and in the world. Our share repurchase program has been a very important part of our capital allocation strategy, and it will continue to be. We haven't restarted repurchases yet. But as we gain better visibility to our business trajectory, we intend to continue to leverage our free cash flow after robust investments in our business to reduce share count. Our current thinking is to continue to operate at reasonably similar credit metrics to the past while excluding the extraordinary unique COVID-19 expenses we discussed above.

On last quarter's conference call, we discussed impacts from the supply chain and goods we received from China, in particular. Today, we are in good shape and have no significant disruptions to report. While we created contingency plans for each merchandise category sourced from China, we ultimately did not have to implement them. Unfortunately, the COVID story shifted to become more of a U.S.-centric story and away from the supply chain disruptions. That said, that portion of this pandemic and the tariffs have made us think differently about supplier diversity. We need to also consider country diversity as well going forward.

There will be certain of our plans that are disrupted as a result of the crisis, some known today while others will emerge over time. For instance, we paused our store development activities for about a month as we try to get a better understanding on where this was headed. We did this in the United States, Mexico and Brazil. We have subsequently restarted development work in the municipalities that allow us to do so. As a result, we will not meet our new store opening goals for the year. We are pushing in an orderly fashion to get back to opening new stores as quickly as possible. But in this environment, arbitrary goals and dates are not terribly important. So look for us to open less than 200 stores globally this fiscal year.

I'll spend a quick moment on our omnichannel efforts. As COVID-19 effects on customers' ability to get out and shop group, we ramped up our strategy to enhance the customer shopping experience by meeting customers when, where and how they wanted to shop. We initiated a curbside pickup option in an amazingly short period of time. Additionally, we saw very strong growth in our online shopping channels, Buy Online Pick-Up In-Store, next-day delivery and ship to home. In particular, our Buy Online Pick-Up In-Store offering grew rapidly and over double the growth rate of our ship-to-home options.

I do want to remind listeners that omnichannel for AutoZone still represents a very small percentage of the DIY business, substantially below 5%.

Before I pass the discussion over to Bill Giles to talk about our financial results, I'd like to again thank our AutoZoners for their extraordinary efforts during these unprecedented times. I cannot thank you enough nor can the rest of the management team. And I'm confident that I can speak on behalf of our shareholders, too, and say thank you, AutoZoners. You truly are essential, and you are exceptional.

Now I'll turn the call over to Bill Giles.

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William T. Giles, AutoZone, Inc. - CFO and Executive VP of Finance, IT, ALLDATA, Store Development & Customer Satisfaction [5]

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Thanks, Bill, and good morning, everyone.

To start this morning, let me take a few moments to talk more specifically about our domestic retail, commercial and international results. For the quarter, total auto parts sales, which includes our domestic Mexico and Brazil stores, increased 0.3%. For the trailing 4 quarters, total sales per AutoZone store were $1.856 million. Now this compares to an average of $1.814 million at Q3 ending last year.

Total DIFM sales increased 6.7 -- decreased 6.7%. In the quarter, sales to our DIFM customers represented 21% of our total sales and decreased approximately $40 million from last year's Q3. Our weekly sales per program were $9,700, and they were down 9% on a per-program basis versus $10,700 per week last year. As Bill mentioned earlier, our DIFM business was materially impacted from the COVID impact, more so than our DIY sales. While certainly, one of our most challenged sales performances in many quarters, we would ask listeners to see through this quarter and ask us if we believe we are in good shape for future market share increases. And the answer to that question is yes, we feel there may be a real opportunity for us to grow our business in the future. With so many smaller single proprietary shops still operating across America and having to be closed for an extended period of time creates unforeseen challenges for these shops. We continue to believe we can gain market share into the future.

We now have our commercial program in 4,950 stores or 85% of domestic stores. While we did not roll out as many programs this past quarter, it was due to our inability to market to customers. We felt it appropriate to maintain distancing from customer shops. While this past quarter is certainly unique, we remain encouraged by the initiatives we have in place and feel we can further grow sales and market share. Much like the impact COVID had on sales in the U.S., our stores in Mexico were also impacted. In addition to impacting sales, the weakness in the foreign currency exchange rate put additional pressure on the business. At the start of the quarter, the exchange was below MXN 20 to the dollar but weakened throughout, finishing 26% weaker at MXN 24 to the dollar.

During the quarter, we opened 2 new stores and finished with 610 stores. While the quarter was challenging, we believe the negative impacts, much like with the U.S., are short term in nature. We remain committed to our store opening schedules in Mexico for the foreseeable future.

Regarding Brazil. We finished with 38 stores. We opened no new stores in the quarter. Similar to the U.S., Brazil faced the same challenges with COVID sickness and stay-at-home mandates. Much like Mexico, we view the COVID impact short term in nature for our Brazil stores as well. Our commitment to growing our Brazilian business is not wavered.

Gross margin for the quarter was 53.6% of sales, up 2 basis points versus last year's third quarter. Our primary focus will continue to be growing absolute gross profit dollars in our total auto parts segment.

SG&A for the quarter was 35.9% of sales, deleveraging 201 basis points to last year's third quarter. Our SG&A grew 5.8% over last year's third quarter.

As we discussed in our press release this morning, we incurred approximately $65 million in charges related to offering emergency time-off to eligible full and part-timer AutoZoners and another $10 million in additional direct COVID expenses. Excluding these extraordinary charges, operating expenses were below last year. As we have demonstrated over time, our organization is very good at adapting to the environment we are operating in. SG&A will remain something we manage in accordance with sales volumes. As sales pick up, we would expect the spend rate to increase.

EBIT for the quarter was $491.7 million. Our EBIT margin was 17.7%. Interest expense for the quarter was $47.5 million, up 9.7% from Q3 a year ago and higher than our plan. The higher expenses related to the $1.25 billion bond issuance and the $750 million 364-day credit facility both completed this past quarter. We are planning interest at $68 million for the fourth quarter of fiscal 2020 versus $61.2 million last year. Our higher forecast than last year is driven again by the costs associated with the new bond issuance and the 364-day credit facility.

Debt outstanding at the end of the quarter was $5.418 billion or $266 million above last year's Q3 ending balance of $5.152 billion. Our adjusted debt level metric finished the quarter at 2.6x EBITDAR. While in any given quarter, we may increase or decrease our leverage metric based on management's opinion regarding debt and equity market conditions, we remain committed to both our investment-grade rating and our capital allocation strategy, and share repurchases are an important element of that strategy.

For the quarter, our tax rate was 22.8% versus 19.5% in last year's third quarter. This quarter's rate benefited 26 basis points from stock options exercised, while last year, it benefited 259 basis points. Stock option exercises aren't predictable. And as such, they will affect our tax rate and, ultimately, our net income and EPS. For the fourth quarter FY 2020, we suggest investors model us at approximately 23.7% before any assumptions on credits due to stock option exercises. Because we cannot effectively predict this activity, we remain committed to reporting the stock option impact on the tax rate.

Net income for the fourth quarter was $343 million, down 15.5% versus last year's third quarter. Our diluted share count of 23.8 million was lower by 6.2% from last year's third quarter. The combination of these factors drove earnings per share for the quarter to $14.39, down 10% over the prior year's third quarter.

Relating to the cash flow statement for the third quarter, we generated $651 million of operating cash flow. Net fixed assets were up 1.4% versus last year. Capital expenditures for the quarter totaled $83.3 million and reflected the additional expenditures required to open 23 net new stores this quarter. Capital expenditures on existing stores, hub and MegaHub remodels or openings, work on development of new stores for upcoming quarters and information technology investments.

With the new stores opened, we finished this past quarter with 5,836 stores in the U.S., 610 stores in Mexico and 38 in Brazil, for a total store count 6,484.

Depreciation totaled $91.7 million for the quarter versus last year's third quarter expense of $84.9 million. This is generally in line with recent quarter growth rates. We repurchased $166 million of AutoZone stock in the quarter versus $466 million last year. At quarter end, we had $796 million remaining under our share buyback authorization. And again, our leverage metric was 2.6x. Again, I want to stress, we manage to appropriate credit ratings and not any one metric. The metric we report is meant as a guide only as each rating agency has its own criteria.

And as Bill mentioned earlier, we have temporarily suspended our share repurchase program as we continue to study future cash flow generation. Over time, however, we continue to view our share repurchase program as an integral to our capital allocation strategy. It remains and will remain a core tool to our earnings per share model.

Next, I'd like to update you on our inventory levels in total. The company's inventory increased 2.7% over the same period last year driven by the new stores and increased product placement. Inventory per location was $685,000 versus $688,000 last year and $713,000 last quarter. Net inventory, defined as merchandise inventories less accounts payable on a per-location basis, was a negative $56,000 versus a negative $58,000 last year and a negative $41,000 last quarter. As a result, accounts payable as a percent of gross inventory finished the quarter at 108.2% versus last year's Q3 of 108.7%.

Finally, our continued disciplined capital management approach resulted in return on invested capital for the trailing 4 quarters of 34%. We have and will continue to make investments that we believe will generate returns that significantly exceed our cost of capital.

Now I'll turn it back to Bill Rhodes.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [6]

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Thank you, Bill.

These certainly are unique and unprecedented times, and they require a very different cadence of data gathering, evaluation and decision-making. I'm extraordinarily proud of our team across the board for their commitment to servicing our customers, the motoring public, but doing so in a very safe manner. While making so many significant decisions so quickly, we know we won't get them all right, and that's okay. But as long as we are making the best decisions with the right motivations and adjusting as we go, we will continue to persevere.

We don't know what lies ahead of us for the next few months or even the next couple of years. But what I know is we have a very resilient business that has performed exceptionally well in a wide variety of economic environments, and we have extraordinary people who are committed to servicing our customers and helping them get to work, go see their family, drive to a close vacation spot or other personal priorities.

I wish we could provide you with more clarity on our expectations on business trends for the fourth quarter. But as I stated before, there are too many unknowns. But I want to be crystal clear, our expectations do not include sales remaining as robust as we experienced in the last few weeks of the third quarter. Our expectation is that stimulus money will work its way through the economy rather quickly. Our best guide is annual tax refunds. And typically, those funds positively impact our business for about 3 weeks.

Frankly, our focus isn't on what happens this quarter. It's are we keeping our AutoZoners and customers safe today while providing our customers with their automotive needs. And more importantly, what can we do during this very difficult time to position our company for even greater future success? What really matters is how are we doing a year or 2 from now. And I continue to be quite bullish on our industry and, in particular, on our company.

Now we'd like to open up the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) First question is from Seth Sigman from Crédit Suisse.

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Seth Ian Sigman, Crédit Suisse AG, Research Division - United States Hardline Retail Equity Research Analyst [2]

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I was hoping you could elaborate a little bit more on the commercial trends that you observed over that last 4-week period. It sounds like you got back to positive. Just wondering would you categorize it as sort of a gradual improvement over that 4-week period tied in with miles driven improving. I mean, I guess, how are you thinking about that? And if you could give us a sense on maybe how positive it got over that time period, that would be helpful.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [3]

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Sure. It's very interesting on the commercial business. It took a pretty deep dive. It was down roughly 30%, and it stayed there for 3 or 4 weeks, then it began to rebound. If you look at those last 4 weeks, it was negative, the first 2, and then it turned positive the second 2, ending, call it, mid-single digits positive. It's also interesting. I can't say whether or not it was tied to miles driven. It certainly began rebounding as the retail business took off when we got the stimulus money in the economy. But also a lot of customers -- we saw a significant amount of customers that just stopped purchasing from us altogether for some period of time. Our assumption, and we try to reach many of them, is they closed at the beginning of this. And as we got towards the latter part of the quarter, we saw that those nonpurchasing customers had decreased substantially, if not completely. So it looks like some of them just closed their shops and went -- did whatever they needed to do, stayed at home and then began reopening, and our business picked up.

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Seth Ian Sigman, Crédit Suisse AG, Research Division - United States Hardline Retail Equity Research Analyst [4]

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Okay. That's helpful. And then past the external factors, if you just think about how AutoZone is managing the commercial business, with all the disruption and the volatility through the period, do you feel like the strategy has been set back in any way? Are there any limitations to sort of getting back that commercial momentum, that double-digit growth that we've seen in prior periods?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [5]

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I don't think that our strategy has impacted one bit by what's happened in retail or commercial in any significant way at this point in time. Now we're going to have to understand and watch what happens with consumer behavior. I don't think anybody really knows -- as the economies and the cities start reopening, who knows what consumer behavior is going to look like? So far, what we're seeing is it looks a whole lot like it did before the pandemic. But I'm sure consumers are going to adjust parts of their behavior, and we'll have to adapt accordingly to that.

But on the commercial side of the business, the only thing that's still holding us back is we're not doing a lot of face-to-face sales calls yet. We'll be doing that probably before long, but we're not out there being able to tell our story like we were before.

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Operator [6]

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Next question is from Michael Lasser with UBS.

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Michael Lasser, UBS Investment Bank, Research Division - MD and Equity Research Analyst of Consumer Hardlines [7]

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So I know you've been resistant to give us too much help with modeling the current quarter. But in light of your comments around the stimulus dollars potentially lasting around 3 weeks or so, should we take that to assume that your current quarter-to-date trends are meaningfully slower than what you experienced in that last 4 weeks of the third quarter?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [8]

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Man, you're baiting me, Michael.

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Michael Lasser, UBS Investment Bank, Research Division - MD and Equity Research Analyst of Consumer Hardlines [9]

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Yes, I'm trying.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [10]

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And I completely understand, okay? We have a long history of not talking about what's going on intra-quarter because we release earnings within 2.5 weeks of our quarter end. So I just don't want to be given 2.5-week information and people trying to extrapolate that. I wouldn't make the interpretation that our business has gone way down since that point in time, but that's really all I want to say.

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Michael Lasser, UBS Investment Bank, Research Division - MD and Equity Research Analyst of Consumer Hardlines [11]

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Okay. And on your comment around the business development piece of the commercial growth, should -- and that may be coming back more slowly than just the underlying growth. Should we assume that more than half of the, call it, double digit, call it, 10% growth that the commercial business has been growing over the last several quarters has been coming from new customer additions? As a result, we can factor that piece to be lower to come back, and that's how we should frame the outlook for the commercial segment from here.

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William T. Giles, AutoZone, Inc. - CFO and Executive VP of Finance, IT, ALLDATA, Store Development & Customer Satisfaction [12]

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I don't think it would be coming all from new customers. You have to believe that we're building our business with our existing customers, too. And as Seth mentioned in the previous one about our initiatives on commercial, we feel really good about the initiatives that we have in place. And a lot of it has to do with being easier to do business with our commercial customers, getting more inventory closer to our commercial customers, improving the time in which we can deliver that product. And that will continue on, and that's going to benefit both new customers and existing customers. So our ability to be able to grow with our existing customers remains very strong.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [13]

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Yes. Let me just add on to that, too. I mean one of the bigger changes that we saw as our business started growing significantly, almost 2 years ago now, one of the biggest KPIs that improved for us was mature customer growth in mature programs, which says to us that we're becoming more and more important to our most important customers.

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Operator [14]

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Next question is from Simeon Gutman with Morgan Stanley.

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Simeon Ari Gutman, Morgan Stanley, Research Division - Executive Director [15]

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First, just a two-parter on what we were seeing in the prior quarter. Any -- in states or geographies that were less impacted by COVID or more rural, did you experience a similar roller coaster? And then if you look at the product mix that you were selling, and Bill Rhodes, you gave some color on this, are there any products that where you would either -- if I'm washing or waxing my car, I'm pulling forward margin or sales that we may not see that as strong in future periods?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [16]

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Yes. Terrific question. So as I mentioned in the prepared remarks, the middle part of the country, Simeon, whether it was urban, suburban or rural, all had the same roller coaster. Maybe not -- didn't go down quite as far but certainly went down significantly. They just rebounded faster, and they've increased more during this period of time.

As far as the product categories, yes, there's been a lot of changes, some really interesting trends in the product categories. For instance, right now, we're seeing more work in paint and body than we've seen in a long time. And it's across the board. It's Bondo. It's sandpaper. It's paint. People just have time on their hands, and they're doing some of those projects that they haven't done before. Excellent question about does that mean we're pulling some businesses forward or that we're going to have a headwind or a tailwind because of gross margin. I don't think any of that is true. I think we're probably pulling some work that was never going to happen before, and it's happening now.

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Simeon Ari Gutman, Morgan Stanley, Research Division - Executive Director [17]

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Okay. And then my follow-up, I know you mentioned it's really hard to predict the environment. I don't know if there is a working hypothesis at AutoZone regarding miles driven, unless it's just taking week-to-week and month-to-month. But if there is, if you can share it. And then any different posture from the business as far as looking to acquire share vis-à-vis smaller businesses, which I know you haven't done a lot of that in the past, but I wonder if that -- if this is some change that we can expect.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [18]

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Yes. You want to take the latter part of that?

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William T. Giles, AutoZone, Inc. - CFO and Executive VP of Finance, IT, ALLDATA, Store Development & Customer Satisfaction [19]

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Yes. I think that from a share perspective, we're going to continue to do what we've been doing in terms of organically growing and taking market share. We believe that there's significant opportunity. Now given the current environment, I suspect that some players in the industry will continue to be a challenge. And so that may create opportunities or not. But we're going to continue to stick with our strategy, and a lot of that is organic growth.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [20]

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On the first part of your question, Simeon, on miles driven, we were very intentional in our prepared remarks to talk about miles driven. I think AutoZone was actually the one that came out with that notion 25 years ago or so that there was an important factor underlying the trajectory of the industry. And we've held to that and believe that. However, and we learned during the Great Recession, that during certain periods of time, it is not correlated very well at all with the industry's same-store sales. We saw that in '09, '10 and '11, that there are just other factors. And our thought is when people are -- have a high degree of unemployment, people aren't buying new cars and the like, that miles driven aren't as important as they were.

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Operator [21]

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Next question is from Mike Baker from Nomura.

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Michael Allen Baker, Nomura Securities Co. Ltd., Research Division - Research Analyst [22]

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So a couple of longer-term questions. I know you said you're not really, at this point, changing your strategy, which makes sense. But longer term, do you think there's going to be any change to consumer behavior with respect to DIY versus DIFM? With some -- a lot of jobs now, people getting used to working from home and is not going to the office, maybe not every day, but certainly working from home a couple of days a week. Does that dictate longer term that the whole industry might move more towards the DIY and away from commercial, which I think would be a reverse of trends that we saw pre-COVID?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [23]

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Yes. Terrific questions. Many of which we're thinking through and we certainly don't have definitive conclusions at this point in time. I think on the shift between DIY and DIFM, there's been a long pattern of both sectors of the industry growing pretty well. DIY has been -- or DIFM has been growing slightly faster than DIY, but DIY has continued to grow almost every single year. A lot of people are starting to talk about work from home. I think that they're also not thinking about who our customer is, for the most -- in particular, on the DIY side of the business. Our customer is generally a financially fragile customer. They're not going to have the opportunity to work from home. They're working blue-collar jobs in a lot of cases. And so their shift in work, even during the crisis, wasn't to go work at home. They had to be out doing their jobs.

As we've seen, we rolled out curbside pickup, which was really great. Our team did it in a remarkably short period of time. And we've seen all of our digital sales grow through both Buy Online Pick-Up In-Store, which includes curbside. We've seen our next-day delivery grow, and we've seen our short -- ship to home growth. The biggest growth that we've seen is in our Buy Online Pick-Up In-Store. And as I've been out in stores, I've yet to see a customer do a curbside order. And as I talked to AutoZoners, I asked them, are you getting a lot of curbside orders? And they say no. Once the customers realize that we're open, in fact, they'll come to the door and say, "Can we come inside?" They want to come in and interact with our most important asset, which is our AutoZoners. So as people start returning to this new normal, it seems like their behaviors are pretty consistent with the way they were in the past. Now our Buy Online Pick-Up In-Store is basically double what it was pre-crisis right now, but that's still a very, very small percentage of our business.

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Michael Allen Baker, Nomura Securities Co. Ltd., Research Division - Research Analyst [24]

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Understood. And if I could follow up on that, again, in terms of long term. You mentioned a couple of times potential for commercial customers that were either closed or that might end up needing to close permanently. I guess the question is have you seen any of that yet? Or is that just what you think could happen or potentially might happen? Or again, are you starting to see just commercial customers, smaller ones, just go out of business? And is that an opportunity for share gains?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [25]

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Yes. We absolutely saw commercial customers close on a temporary basis, probably as indicated by we had 0 purchases from them for weeks, call it, 5% to 10% of our commercial customers. It's very interesting as the stimulus money came in, as the commercial business began to pick up. One of the interesting things we've seen is we were worried about our commercial receivables. What we're seeing that our commercial customers are, in fact, catching up on the receivables that they got behind on in the crisis. So I don't see any big wave of commercial customers that are closing. I'm sure that there are, on the margin, certain commercial customers that were nearing retirement or were teetering on the edge of not being solvent and they're going to go away. But I don't think that, that business is going to go away. The customer might -- that particular shop might go away. But then the work is just going to move to another shop. So I don't see any significant shifts yet at this point in time.

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Operator [26]

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Next question is from Matthew McClintock from Raymond James.

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Matthew J. McClintock, Raymond James & Associates, Inc., Research Division - Research Analyst [27]

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The one question I have is just -- you talked about supplier diversity. You talked about country diversity. And I just wanted you to dig a little bit more into those comments and maybe just discuss the overall fragility of your supplier base and how your way of thinking towards the supply chain -- it's not supply chain, but your suppliers is changing.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [28]

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Sure. For a long time, we've been working on making sure that we have diversity in particular categories, vendor diversity. And as -- I actually began thinking about this long before the crisis hit, but the crisis made it even more acute at this point in time. But as you think about what's happened with China, with the tariffs over the last year or so, it significantly increased our cost structure at a moment's notice. And we're having all of certain categories. Even if we had 2 or 3 or 4 vendors, all of those vendors were in China, take rotors and steel products, for example. All of those are coming out of China. When that happens and you get slapped with a 10% or 25% tariff, your cost went up 10% or 25% overnight. So we need to be thinking, as we always have, about vendor diversity. We also need to think about country diversity. And this situation, COVID-19, only made that much more important.

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Operator [29]

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Next question is from Chris Horvers with JPMorgan.

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Christopher Michael Horvers, JP Morgan Chase & Co, Research Division - Senior Analyst [30]

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So I wanted to ask about the early part of the quarter, actually, up more than 6%. Now granted, you probably got some of the worst part of the winter behind you given the timing of your quarter, but it does seem like you've outperformed peers in that first 4 weeks. So you talked about the strength of the commercial business. Based on the data that you see where you're outperforming, did you gain share in DIY? And does it have anything to do with perhaps weather or delayed tax refunds a year ago?

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William T. Giles, AutoZone, Inc. - CFO and Executive VP of Finance, IT, ALLDATA, Store Development & Customer Satisfaction [31]

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Yes. I think overall, I mean, look, we gained market share during that time period and overall for sure. And so we feel pretty good about that. I think, also, we were in the heart of the tax season. And so we were able to execute very well on that. There was also -- to be fair, there was probably a little bit of a 53rd-week shift in that time period as well that benefited us, but it was a strong period for us.

We had mentioned at the end of Q2 that we felt pretty good about starting Q3 and all the things that we thought we had in place, et cetera, from a supply chain perspective, from inventory initiatives. And so we were strong on both fronts. And so we were pretty well-positioned as we headed into Q3, and it showed up in our first 4 weeks of our numbers.

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Christopher Michael Horvers, JP Morgan Chase & Co, Research Division - Senior Analyst [32]

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And then what was the shift the past couple of quarters that's hurt you? So was the shift benefit this quarter?

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William T. Giles, AutoZone, Inc. - CFO and Executive VP of Finance, IT, ALLDATA, Store Development & Customer Satisfaction [33]

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It was probably less than 100 basis points, for sure, probably closer to 40 to 50 during that time period.

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Christopher Michael Horvers, JP Morgan Chase & Co, Research Division - Senior Analyst [34]

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Got it. And then my follow-up on gross margin. So you did a negative comp, but you didn't deleverage. It seems like the supply chain -- was there some benefits that came in, in terms of the DIY mix that was an offset? And just typically, you do give some commentary about how you think about gross margin on a go-forward basis. Do you still see the sourcing benefits coming through? And should we expect some modest positive there?

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William T. Giles, AutoZone, Inc. - CFO and Executive VP of Finance, IT, ALLDATA, Store Development & Customer Satisfaction [35]

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Yes. I think that we'll continue to see some modest positive. It's a very good way to say, Chris, in terms of our ability to be able to continue to expand our supply -- our sourcing capabilities. When you think about the gross margin overall for this quarter, a couple of interesting parts is that, one, is the commercial business was actually had a decrease. So although that typically is a headwind for us, it was not so much of a headwind this quarter. Now at the same time, from a retail perspective, although we were very strong in the retail side of the business, a couple of categories, as Bill mentioned before, lighting, wipers that typically have higher margin were less so as people were certainly driving less at night. So those 2 categories probably were a little bit of a headwind. So that kind of mixed out, and we wound up having kind of a flattish gross margin. So frankly, we feel really good about the health of our gross margin rate and would continue to expect it to be strong and slightly positive as we move forward.

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Operator [36]

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Next question is from Brian Nagel with Oppenheimer.

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Brian William Nagel, Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst [37]

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Congrats on managing a tough environment really well.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [38]

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Thank you.

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Brian William Nagel, Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst [39]

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So the question I had, look, a number of retailers now have called out the benefits of the stimulus payments and their sales trajectory as you did. Is there -- as you look at the data, is there a way to separate out what benefit you may have gotten from consumers actually putting to work those stimulus checks versus just an overall underlying improvement in consumer confidence as that was taking place in the economy?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [40]

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Yes. That's a fantastic question. I can't do it with data. I can tell you when your business changes 50% in 2 days that there's a pretty strong correlation that consumer behavior changes take more time than that.

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Brian William Nagel, Oppenheimer & Co. Inc., Research Division - MD & Senior Analyst [41]

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Okay. No, that's helpful. Then look, the second question I had also -- I apologize for getting too much in the weeds here. We've watched your commercial business grow so nicely over the past now few years. We talked a lot about AutoZone really moving up that call list with your individual mechanic customers. Clearly, there's disruptions here with all that's going on. And you called that out -- I guess Bill Giles called it out in his prepared comments. But have you seen any indications that -- one reason or another that AutoZone has fallen down those lists in individual mechanics?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [42]

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Absolutely not. I think, if anything, we're moving up that list. There are certain players in the commercial side of the industry that don't have the financial strength that we have. We've been there throughout the entire crisis, taking care of our customers and getting better and better every day. So I think, if anything, we moved up that list in the crisis. And I don't hear a lot of people talking about their commercial business being positive, like we said, ours was for the last 2 weeks of the quarter.

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Operator [43]

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Next question is from Bret Jordan with Jefferies.

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Bret David Jordan, Jefferies LLC, Research Division - MD & Equity Analyst [44]

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When you think about the -- diversifying your supply chain geographically, I guess, how long a process is that? And I guess is there capacity or adequate capacity in other manufacturing markets that could really sort of fill the hole that China would leave? And would that still be on the back of private label? Or do you have to start buying branded parts to get into other manufacturing markets?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [45]

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I think it would definitely be on private label side more so than branded parts, for sure, which is what we've been doing with the China products anyway. Certainly, Bret, it would take a considerable amount of time, but it's one of those things if you don't ever start it, then you'll never get there. We've already begun some of that work. In fact, right before the crisis, I can remember having a conversation about some of our folks going to Turkey, and we're like, are we comfortable with them going to Turkey? But those kind of markets, Vietnam, South Korea, we've been working those markets for some time. India -- Mexico is bigger than anybody outside of China. So we're going to continue to cultivate those relationships and learn those new suppliers over time.

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Bret David Jordan, Jefferies LLC, Research Division - MD & Equity Analyst [46]

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Okay. And then a question on market share consolidation. I mean it does sound as if some of these smaller distributors have been pretty stressed in this recent environment. If you think about potential door closures, how much contraction do you think we could actually get? If there's 36,000 auto parts stores out there, how many do you think would come out of this, Will?

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [47]

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Ain't that the age-old question? I mean I think it's been 34,000 to 36,000 auto parts outlets for 20 years or so. I just -- I don't have a good insight into that, Bret. I wish I did. But obviously, hard times are going to put more pressure on folks than good times are. So I would expect a higher percentage than we've seen over the last 5 years. But does it go up 10% or does it go up 25%? I don't know.

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Bret David Jordan, Jefferies LLC, Research Division - MD & Equity Analyst [48]

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Okay. And if I could whip in a housekeeping question for Bill Giles. I guess on the leverage ratio, do you need to be down to 2.5 to start the buyback? Or can you start the buyback at 2.6 as you ended the quarter?

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William T. Giles, AutoZone, Inc. - CFO and Executive VP of Finance, IT, ALLDATA, Store Development & Customer Satisfaction [49]

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Yes. No. I mean, we certainly -- we ended the last quarter at 2 6. So I think that anywhere in that neighborhood, we would be comfortable. So those are the credit metrics that we've always said.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [50]

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Yes. I think the other part of that, too, is when we think about our business, we're going to pull out those COVID-related expenses. So if you pull them out, that also changes the leverage metric a little bit.

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Operator [51]

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And now I'd like to turn the call back over to Mr. Bill Rhodes.

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William C. Rhodes, AutoZone, Inc. - Chairman, President & CEO [52]

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Okay. Before we conclude the call, I want to pivot and encourage us all to take all the precautions we can take to keep everyone safe and healthy. Yes, we're taking precautions that inconvenience us. But during these times, our personal actions matter. And as we celebrated Memorial Day yesterday, we should remember all the heroes of yesteryear. But also remember today's heroes, they all matter. May God Bless America during this challenging time. Thank you for being with us today.

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Operator [53]

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This concludes today's call. Thank you for your participation. You may disconnect at this time.