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Edited Transcript of GPC earnings conference call or presentation 20-Jul-17 3:00pm GMT

Thomson Reuters StreetEvents

Q2 2017 Genuine Parts Co Earnings Call

ATLANTA Aug 12, 2017 (Thomson StreetEvents) -- Edited Transcript of Genuine Parts Co earnings conference call or presentation Thursday, July 20, 2017 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Carol B. Yancey

Genuine Parts Company - CFO, CAO and EVP

* Paul D. Donahue

Genuine Parts Company - CEO, President and Director

* Sidney G. Jones

Genuine Parts Company - SVP of IR

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Conference Call Participants

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* Brian C. Sponheimer

G. Research, LLC - Research Analyst

* Christopher James Bottiglieri

Wolfe Research, LLC - Research Analyst

* Christopher Michael Horvers

JP Morgan Chase & Co, Research Division - Senior Analyst

* David Kelly

* Elizabeth Lane Suzuki

BofA Merrill Lynch, Research Division - VP

* Matthew Jermey Fassler

Goldman Sachs Group Inc., Research Division - MD

* Scot Ciccarelli

RBC Capital Markets, LLC, Research Division - Analyst

* Seth Mckain Basham

Wedbush Securities Inc., Research Division - SVP of Equity Research

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Presentation

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Operator [1]

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Good day, and welcome to the Genuine Parts Company Second Quarter 2017 Earnings Conference Call. Today's conference is being recorded. (Operator Instructions)

At this time, I would like to turn the conference over to Sid Jones, Senior Vice President, Investor Relations. Please go ahead, sir.

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Sidney G. Jones, Genuine Parts Company - SVP of IR [2]

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Good morning, and thank you for joining us today for the Genuine Parts Company Second Quarter 2017 Conference Call to discuss our earnings results and current outlook for the full year.

Before we begin this morning, please be advised that this call may involve forward-looking statements regarding the company and its businesses. The company's actual results could differ materially from any forward-looking statements due to several important factors described in the company's latest SEC filings. The company assumes no obligation to update any forward-looking statements made during the call.

We'll begin this morning with comments from our President and CEO, Paul Donahue. Paul?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [3]

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Thank you, Sid, and welcome to our Second Quarter 2017 Conference Call. We appreciate you taking the time to be with us this morning.

Earlier today, we released our second quarter 2017 results. I'll make a few remarks on our overall performance and then cover the highlights by business. Carol Yancey, our Executive Vice President and Chief Financial Officer, will provide an update on our financial results and our current outlook for 2017. After that, we will open up the call to your questions.

So to recap our second quarter performance, total sales were up 5% to a record setting $4.1 billion, with net income coming in at $190 million and earnings per share increasing 1% to $1.29 compared to $1.28 in the second quarter last year. These results represent the total sales and earnings across our global Automotive, Industrial, Office and Electrical operations, which we'll discuss in more detail throughout this call.

As a diversified global distributor, we continue to benefit from the balance of serving a broad range of markets. The diversity in our operations, combined with an ongoing strategy to drive both organic and acquisitive growth, produced a second consecutive quarter of 5% total sales growth. Each of our 4 distribution businesses produced improved total sales, with our strongest performances in the Industrial and Electrical segments.

Our teams are committed to generating sustainable sales growth while also streamlining our cost structure to improve profitability. Thus far in 2017, we have acquired businesses with approximately $180 million in annual revenues and made a minority investment in a market-leading industrial distributor in Australia. We anticipate that each of these new businesses will positively contribute to our future results.

Turning to organic growth. Total comp sales were up 2% in the second quarter, an improved result relative to the last several quarters, and we stand at plus 1% for the first 6 months of 2017. And while improved from the first quarter, the low single-digit comp sales growth continues to pressure our net margins.

Looking ahead, we are confident that our sales and cost initiatives will drive stronger growth and improve margins over the long term.

Turning to our Automotive operations. Automotive remains our largest business segment, representing 53% of our total revenues in the second quarter of 2017. For the quarter, global Automotive sales were up 3.6% from last year and improved from the 3.4% increase in the first quarter. Comp sales on a global basis were up approximately 1.5%, which is improved from 0.5% in the first quarter. In our U.S. operations, which continue to represent just over 70% of our Automotive revenues, total sales were up 4% in the second quarter, including a 1% increase in comps sales, which has improved from the first quarter.

Across our customer segments, sales to retail DIY customers outperformed our sales to commercial DIFM account, although both groups improved sequentially.

On the commercial side of the U.S. business, sales to our NAPA AutoCare center customers were up 1%, while sales to major account and fleet customers remained under pressure and were down low single digits.

By product group, batteries, rotating electrical, brakes, chassis, filtration and heavy-duty sales outperformed, while categories such as ride control, exhaust and heating and cooling remained soft. These sales trends correlate to the warmer-than-average winter weather and cooler summer temps in May and June.

By geography, our Northern Division outperformed our Southern Division, although both showed positive sales growth. In the Northern Division, the Mountain, which experienced the harshest winter conditions in the country, continued to outperform, while the Northeast and Midwest divisions also had solid results in the second quarter. Our Western Division, which experienced warmer-than-normal summer temps in the quarter, outperformed their solid growth as well.

On the retail side of the U.S. business, we continue to expand our NAPA Rewards Program, which has now grown to nearly 5 million members. This loyalty program is available in-store and online and is an important initiative for us in the broader scope of our continued retail growth. We continue to experience higher retail tickets and more frequent visits from our NAPA Rewards members. And we'll continue to enhance this program into 2018.

We are also making progress with our Retail Impact initiative, which includes installing all-new interior layouts and in-store graphics, extended store hours and increased training for our store associates. The 275 stores updated for this initiative through June continue to produce very high-single digit retail sales growth. This program continues to exceed our expectations, and we have plans to have more than 500 of these Retail Impact stores completed by the end of 2017. This is an increase from our previous plan for 450 stores by year-end.

The retail end customer has more choices today than ever before, so it's encouraging to see our initiatives driving growth in our retail segment.

Our ongoing acquisitions will also positively contribute to our commercial and retail segments as we move forward. Thus far in 2017, we have acquired 3 automotive store groups, adding 25 new stores to our U.S. network. On June 1, we announced the acquisition of Stone Truck Parts, a significant regional distributor with 4 locations distributing heavy-duty truck parts and accessories in North Carolina. Combined, we expect these new businesses to further strengthen our automotive and heavy-duty network and contribute approximately $100 million in annual revenues.

Moving on to the trends we are seeing across the U.S. automotive aftermarket. The long-term fundamental drivers for our business remain sound. The size of the vehicle fleet continues to grow. The average age of the fleet is up to 11.7 years. Lower fuel prices remain favorable for the consumer.

And miles driven continues to post steady gains. Total miles driven increased 1.2% in April, marking 38 consecutive months of increases in miles driven. And they're up 1.5% year-to-date, with steady fuel prices continuing to drive this key metric.

The national average price of gasoline was $2.46 in June, which was down slightly from last year. As a result, we expect to see further increases in miles driven and, ultimately, driving additional parts purchases.

Overall, our U.S. Automotive sales benefited from the combination of acquisitions and positive comps sales growth for the first time since Q1 of 2016. We believe this is an indication that our retail and commercial initiatives are gaining traction, and we plan to build on this momentum in the second half of the year.

So now let's turn to our international Automotive businesses in Australasia, Canada and Mexico. These operations account for nearly 30% of our global Automotive revenues and, as a group, delivered a 4% total sales increase, including a 3% comp sales increase in local currency.

In Australia and New Zealand, second quarter sales were up low to mid-single digits, driven by low single-digit comp sales growth and the ongoing benefit of acquisitions. The Asia Pac business operated with 29 additional stores in the second quarter of 2017 relative to the same period last year, and that now brings our total store footprint in Australia and New Zealand to 555 locations with further store expansion opportunities in the future.

In addition, the underlying fundamentals for the Australasian aftermarket remains solid, with a growing car part driven by record car sales, relatively low gas prices and upward trends in miles driven.

At NAPA Canada, both total sales and comp sales improved in the mid-single-digit range, which is consistent with the first quarter results. Our Canadian team is performing at a high level, and they've laid out an effective strategy to expand sales across Canada.

In addition, the industry is benefiting from a more favorable sales climate, driven by an improving overall economy and positive industry fundamentals. These factors bode well for the future of the Canadian automotive aftermarket, and we are optimistic for continued outsized growth at NAPA Canada over the second half of the year.

And finally, in Mexico, our sales grew by low double digits for the third consecutive quarter as we continue to expand our NAPA Mexico footprint. Today, we have 36 total stores, with plans to accelerate additional store openings in the quarters ahead.

So that wraps up our Automotive overview. We're pleased to report a 4% increase in our U.S. business despite continued industry-wide headwinds. Going forward, we'll continue to focus on accelerating our comp sales growth while continuing to search for opportunistic bolt-on acquisitions. Our international Automotive business continues to post strong results as we expand our comp sales and add new locations across all of our markets.

So now let's turn to our Industrial business. Motion Industries, representing 30% of our second quarter total revenues, and this group was up 7.3% in the quarter. This is an improved result from the 6.9% increase in the first quarter and includes a 5% comp sales increase, up from a 3% comp increase last quarter.

We are encouraged by the continued strength in our Industrial sales thus far in 2017, which reflects both improving organic growth as well as the benefit of acquisitions. In addition, the industry is benefiting from favorable market conditions as broad-based industrial indicators, such as industrial production and the Purchasing Managers' Index, as well as rig count and the level of exported goods, all continue to trend positively. These factors drive greater customer demand across the diverse markets we serve, and we expect to see this continue over the balance of the year.

A review of our Motion business by industry sector, product category and top customers supports the broad nature of our second quarter growth as well. Of our top 12 industries, 9 sectors showed solid sales gains, with the others down just slightly. Among the top performers would be sectors such as iron and steel, lumber and wood, equipment rental and leasing, big improvements in oil and gas and equipment and machinery. Along our primary product categories, each generated positive sales growth for the second consecutive quarter. And likewise, our top 20 customers outperformed with their second consecutive quarter of high single-digit growth.

So from a market, product and customer perspective, Industrial's solid second quarter and 6-month performance was very broad based.

Finally, acquisitions also remain an important element of our growth strategy. You may recall back in April we purchased 35% of the Inenco Group, one of Australasia's leading industrial distributors of bearings, power transmissions, fasteners and seals. Inenco is currently outperforming our expectations while generating annual revenues of more than AUD 450 million. Inenco was an attractive long-term investment for us as it offers us the opportunity to build on our presence in Australasia as well as the potential for synergies with our existing Industrial business in North America as well as our Australasian Automotive operations.

In the same vein as our Asia Pac acquisition a few years back, we expect to eventually acquire the remaining stake in Inenco, which we believe will add significant value to our overall Industrial operations. We remain excited about our investment in Inenco, and we congratulate the team for their record sales performance in the month of June.

On August 1, we'll further expand our Industrial automation footprint with the acquisition of Numatic Engineering. Numatic brings over 60 years of experience in pneumatic and electrical automation and will add approximately $20 million in annual revenues. This new business, in addition to the Braas acquisition announced last September, strengthens our distribution capabilities in the fast-growing robotic, motion control and industrial network segment of the industry. We are pleased to welcome the Numatic team to the GPC family of companies.

In summary, we are encouraged by the first half performance in our Industrial business and remain optimistic for continued growth in the quarters ahead.

Turning now to EIS, our Electrical distribution segment, which was 5% of the company's total second quarter revenues. Sales for this group, which were up 11% in the second quarter due primarily to the Empire Wire and Supply acquisition on April 1. Empire further expands EIS' wire and cable business and, in particular, it strengthens our overall capabilities to serve the industrial, robotic and automation markets. This new business performed well in the quarter, as did the overall wire and cable segment. EIS's core electrical business is also producing steady increases, and overall, we expect to see solid total sales growth at EIS over the balance of the year.

So we'll wrap up with a few comments on our Office Products business, which was 12% of the company's second quarter revenue. The Office Products Group reported a 5% increase in sales, driven by an 8% sales contribution from acquisitions in the facilities, breakroom and safety supplies categories. Excluding acquisitions, comp sales were down approximately 3% in the second quarter, with the continued decline in demand for traditional office supplies pressuring sales across all of our channels. Our facilities and breakroom category, however, continues to produce strong sales increases across all channels, and we expect to see further growth in the quarters ahead.

On the product side, sales in the traditional office supplies, furniture and tech products categories each posted sales declines, while the FBS category posted solid sales results. These results are consistent with recent sales trends and highlight the significance of our efforts to expand SPR's product and services offering in the large and growing facilities and breakroom market. This is a key element of our growth strategy, and today, FBS sales represent 36% of total sales for the Office segment, which is up from 25% last year.

So looking ahead, we have plans for the continued expansion of the FBS business as well as key initiatives to grow our overall share of wallet and market share across our other product categories and sales channels.

So that recaps our consolidated and business segment sales results and the initiatives under way to generate sustainable sales growth over the long term. Overall, we produced our second consecutive quarter of 5% sales growth, driven by the combination of both organic and acquisitive growth, and total sales increases in each of our 4 business segments. We will look to build on these results over the second half of the year.

So with that, I'll hand it over to Carol, who will provide a financial update and our updated outlook for the year. Carol?

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [4]

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Thank you, Paul.

We'll begin with a review of our key financial information, and then we'll provide more information on our updated outlook for 2017.

Total sales in the second quarter set a new record for us at $4.1 billion, up 5%, including a 2% increase in comparable revenues.

Our gross margin for the quarter was 30.2% compared to 29.9% in the second quarter last year. The 30 basis point improvement is a result of our ongoing initiatives to enhance gross margins across our businesses as well as higher supplier incentives. In addition, we continue to benefit from those acquisitions with higher gross margin and higher expense models as some of those have not anniversary-ed in this quarter.

We're encouraged by our progress in improving our gross margin, and we look to produce an approximate 30% gross margin over the balance of the year.

We saw somewhat of an inflationary pricing environment across our businesses in the second quarter, with each of our business segments showing at least slight inflation through the first 6 months of the year. Our cumulative supplier price changes through June stand at 0.1% for Automotive, positive; up 1.6% for Industrial; up 0.6% for Office; and up 1.6% for Electrical.

Turning to our SG&A. Our total expenses for the second quarter were $943 million, up 9% from last year and at 23% of sales.

Rising labor, freight and delivery costs, in addition to our ongoing spending for planned technology and digital investments, which are very critical to our long-term growth strategies, are driving the increase in our operating expenses.

And as mentioned before, we've yet to anniversary certain higher-gross-margin and higher-expense acquisitions.

Finally, we also continue to experience the deleveraging of expenses associated with the slow organic sales growth environment in several of our businesses.

To offset these expense headwinds, we remain focused on initiatives to streamline our cost structure while achieving a lower-cost, highly effective distribution infrastructure for our businesses. As we look ahead to the balance of the year, we expect to recognize some of these savings and improve on our year-over-year expense growth rate.

Now let's discuss the results by segment. Our Automotive revenue for the second quarter was $2.2 billion, up 4% for the prior year, and operating profit of $207 million is up 2% with an operating margin of 9.6%, which is just shy of a 9.7% margin in the second quarter last year. We attribute the slight decline in margin to the deleveraging of expenses associated with our 1.5% comparable sales growth.

Our Industrial sales of $1.3 billion in the quarter were up 7% from the prior year, and their operating profit of $96 million is up a solid 9%, and their operating margin improved to 7.7% compared to 7.6% last year as this segment continues to benefit from stronger overall sales growth, favorable product mix shifts and the positive impact of cost savings.

Our Office Products revenues were $504 million, up 5% from last year. Operating profit of $30 million is down 8%, and their operating margin held steady with the first quarter at 6.0%. The margin for Office remains under pressure due to the decrease in organic sales and the related deleveraging of expenses. Our teams are addressing these concerns with several pricing and cost initiatives to drive more sales and significant savings in this business in the quarters ahead.

The Electrical/Electronic Group sales were $205 million in the quarter, up 11% from the prior year. Operating profit of $15.5 million is down 3%, and the margin for this group is 7.6%. We're encouraged by the overall sales growth again this quarter, although organic sales remain challenged. We continue to be pressured by customer and product mix shifts, which are offsetting the positive impact of the cost saving initiatives in this business.

So our total operating profit in the second quarter increased by 3%, and our operating margin was 8.5% compared to 8.7% last year. This is slightly improved from the first quarter on a year-over-year basis, and our team enters the second half of the year focused on building on our positive momentum and improving the margins across our businesses.

We had net interest expense of $6.9 million in the quarter, which is up $2.2 million from last year due to the increase in debt levels primarily associated with acquisition and certain variable interest rates. We these factors in mind, we're updating our net interest expense to be in the range of $25 million to $26 million for the year.

Total amortization expense of $11.4 million for the second quarter was up from $9.2 million last year due to acquisition. We continue to expect our full year amortization to be approximately $45 million.

Depreciation expense was $27.8 million for the quarter, up slightly from last year. And for the full year, we expect total depreciation to be in the range of $110 million to $120 million.

On a combined basis, we would expect depreciation and amortization to be approximately $155 million to $165 million.

The Other line, which primarily reflects our corporate expense, was $33.8 million for the quarter, up from $26.5 million last year due mainly to higher overall costs in areas such as personnel, legal and professional, our digital initiatives as well as IT. For 2017, we expect corporate expense to be in the range of $105 million to $115 million.

Our tax rate for the second quarter was 36.1% compared to 36.2% last year. The slight reduction in the quarterly rate, as well as our lower year-to-date tax rate, is primarily due to the higher mix of foreign earnings, which are taxed at lower rates.

In addition, the recently adopted change in accounting for stock-based compensation has also positively impacted our 2017 rate. For the full year, we continue to expect our income tax rate to range from 35.5% to 36.0%.

Net income for the quarter of $190 million, and EPS was $1.29, up 1%.

So now let's turn our discussion to the balance sheet, which remained strong and in excellent condition. Accounts receivable of $2.2 billion is up 7% from the prior year, and we remain pleased with the quality of our receivables.

Our inventory at quarter-end was $3.3 billion, which is consistent with last quarter's investment, and up 9% from June of last year. Before acquisitions, our inventory is up 6%, which is just slightly greater than the sales. We'll continue to maintain this key investment at the appropriate levels as we move forward.

Accounts payable was $3.3 billion at June 30 and is up 7% from the prior year due to the increased level of purchases, the ongoing benefit of improved payment terms with our suppliers, as well as acquisitions. At June 30, our AP-to-inventory ratio was 99%, which compares to 96% at December 31.

Our working capital of $1.5 billion at June 30 is down from last quarter and year-end, but it's up slightly from June of last year. So overall, we continue to maintain a relatively steady level of working capital from quarter-to-quarter.

Our total debt of $1.1 billion at June 30 compares to $1.025 billion at March 31 and $775 million in June of last year.

Our total debt-to-capitalization is approximately 25.5%, and we remain comfortable with our capital structure at this time.

Our average cost of debt is a low 2.49%, and we continue to believe that our current structure provides the company with both the flexibility and the financial capacity necessary to take advantage of future growth opportunities.

In summary, our balance sheet remains a key strength of the company. Thus far in 2017, we generated cash from operations of $345 million, and we expect to produce stronger cash flows over the balance of the year. We're forecasting cash from operations of approximately $900 million to $950 million, with free cash flow, which excludes capital expenditures and the dividend, to be in the $350 million to $400 million range.

We remain committed to several ongoing priorities for the use of our cash, which we believe serve to maximize shareholder value. These include strategic acquisitions, which Paul covered earlier, share repurchases, the reinvestment in our businesses and the dividend.

For the first 6 months of the year, we purchased 1.6 million shares of our stock, which includes 600,000 shares purchased in the second quarter. Today we have 2.6 million shares authorized and available for repurchase. While we have no set pattern for these repurchases, we expect to remain active in the program in the periods ahead as we continue to believe that our stock is an attractive investment and, combined with the dividend, provides the best return to our shareholders.

Our investment in capital expenditures was $29 million in the second quarter and $54 million for the 6 months, which is up slightly from last year. For the year, we're now planning for capital expenditures in the range of $140 million to $150 million.

And lastly, our 2017 annual dividend of $2.70 per share marks our 61st consecutive year of increased dividends paid to our shareholders. This represents approximately 57% of our prior year earnings and currently reflects an over 3% dividend yield.

So this concludes our financial update for the second quarter of 2017. And in summary, our overall top line growth is encouraging, and we see further opportunities to enhance our gross margins and to streamline the cost structure across our businesses. These areas continue to have our full attention, and we look forward to reporting to you on our progress.

Now turning to our guidance for 2017. Based on our current performance, our growth plans and the market conditions we see for the foreseeable future, we're updating our full year 2017 guidance as follows. We continue to expect total sales to be in the plus 3% to plus 4% range, which is unchanged from our initial guidance. This outlook includes the benefit of our year-to-date acquisitions, as well as the Numatic acquisition promotion that Paul discussed that is effective August 1, but assumes no other future acquisitions. We also continue to expect only a slight headwind from currency translation for the full year.

By business, we're maintaining our sales outlook of plus 3% to plus 4% growth for the Automotive segment, plus 2% to plus 3% growth for the Office segment and plus 7% to plus 8% growth for the Electrical segment. In the Industrial segment, we're raising our sales outlook to plus 4% to plus 5% from our previous guidance of plus 3% to plus 4%.

On the earnings side, we're revising our full year outlook for earnings per share to $4.70 to $4.75 from our previous guidance of $4.75 to $4.85.

We had anticipated being further along with our cost saving initiatives at this point in the year. And with EPS up 1% for the 6 months, we've updated our EPS outlook to reflect a 4% to 6% improvement in the second half earnings and a full year increase over 2016 EPS of 2.5% to 3.5%. So we continue to plan for improved profitability over the balance of the year, and this will primarily come from the cost savings we mentioned before. These savings reflect the headcount reductions, the facility rationalization and a broad range of productivity projects that are under way across our businesses.

With that said, we will close by thanking all of our GPC associates for their continued hard work day in and day out. Our people are our greatest asset, and we're excited about the future growth prospects and the long-term success of the company.

Paul, I'll turn it back over to you.

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [5]

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Thank you, Carol. We move forward with the goal of building on our 6-month performance and remain focused on further strengthening the organic sales in our businesses as well as maximizing the benefits of our recent acquisition. We are also committed to executing on our plans to enhance gross margins and remove unproductive costs from our operations.

As Carol mentioned, we have several initiatives in process to reduce expenses and improve our overall cost structure, and we expect to recognize some of these savings over the balance of the year.

Additionally, we believe our continued efforts in each of these areas, along with a strong balance sheet, solid cash flows and effective capital allocation, will positively contribute to stronger long-term growth for the company and serve to maximize shareholder value.

So with that, we'll turn the call back over to Alicia, and Carol and I will be happy to take your questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) We'll go first to Chris Horvers of JPMorgan.

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Christopher Michael Horvers, JP Morgan Chase & Co, Research Division - Senior Analyst [2]

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So I wanted to focus first on the U.S. NAPA division. On the heels of the O'Reilly pre-announcement a couple of weeks ago, I think that the plus 1% in the U.S. probably comes off feeling a bit better, and it looks like you've actually closed the gap to O'Reilly in that regard. So can you talk about -- they've talked about a stronger April and then, it sounded like, May and June being disappointing. Can you talk about the monthly cadence in the U.S. NAPA division?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [3]

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Yes, our -- we were pretty consistent across the U.S., Chris. We were essentially up for each month, April, May and June. Globally, it was a little shift. Globally, we saw a little bit of a slide in April. But across the U.S., it was consistent across each month.

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Christopher Michael Horvers, JP Morgan Chase & Co, Research Division - Senior Analyst [4]

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And then if you look at the -- it was a lot easier comparison. And as you mentioned, it's been a cool summer so far, at least up until very recently. So we've been waiting to get further away from winter. Does the cooler summer sort of push out the rebound off the 2 consecutive warm winters? And then related to that, as you look forward, the compares do step up again in the fourth quarter. So are we sort of running out at 2 year? Or do you expect the business to continue to rebound into the end of the year?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [5]

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Well...

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Christopher Michael Horvers, JP Morgan Chase & Co, Research Division - Senior Analyst [6]

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In U.S. NAPA.

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [7]

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Yes, yes, let me take the first part of the question. I may ask you to repeat the second part of that, Chris. But look, if you look across our business, where -- what's encouraging for us is that our Northern divisions, so we're talking about the Northeast, the Midwest, the Mountain divisions, are all performing well. And I think I called out Mountain last quarter as our top performer. They just happen to have the most normalized winter in that part of the country. Where we're a little bit softer than we are in the Northern divisions is in the Southern divisions. And so Southeast, Southwest, Atlantic are a little bit softer, and there's a gap between the top performers and the others of about 300 basis points. We think that will close as the year progresses. The South has been, I think, impacted a bit by the cooler temps. And certainly, we have had a ton of precipitation down here in the South. So we think that, that gap will close a bit as we move through the course of the year.

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Christopher Michael Horvers, JP Morgan Chase & Co, Research Division - Senior Analyst [8]

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And some have mentioned some pressure around the Hispanic customer. In fact, the Target CEO was quoted just this week talking about that. Are you seeing areas, Texas and along the border of Mexico, softer trends in those areas? And is that contributing to the softness in the South?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [9]

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Well, I'd answer that a couple of ways, Chris. Our -- as you heard me say, our DIY business was good in the quarter. And if you think about the consumer that you're referencing, I think that would probably show up a bit in our DIY retail numbers. So we're quite pleased with our retail business. As a matter of fact, we had a very good June in our retail business. That said, I would tell you that our Southwest is down a bit or softer than our Northern Division. Whether I can attribute that to one specific demographic, it's hard to say. There's a lot of different factors at work.

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Christopher Michael Horvers, JP Morgan Chase & Co, Research Division - Senior Analyst [10]

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Okay. And just last question, I promise. So as it relates to the cooler summer, are you concerned that, that pushes out the recovery in the U.S. NAPA business?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [11]

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No, we -- you saw our guidance for Automotive, Chris, and we've taken all those factors into account. And we're expecting 3% to 4% overall. And look, I think the good news for all of us, especially in the Midwest, is it's getting hot, and it's getting hot down here in the South. And we'll see business start to turn almost immediate as the temps go up. So we're -- no, we're feeling pretty good about the second half of the year, as I think was illustrated in our guidance.

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Operator [12]

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We'll go next to Chris Bottiglieri of Wolfe Research.

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Christopher James Bottiglieri, Wolfe Research, LLC - Research Analyst [13]

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A couple. One, I guess I just need to clarify I mean, so the comp gap did decelerate a little bit, I mean, sorry, the tier comp stack. And then you're getting a lot of self-help initiatives and a little bit of inflation. So maybe I'd ask the question a little bit differently. What do you think the overall market has been doing? Do you think you're just -- are you [narrowing] it to peers? Or do you think the market itself has been a little bit weaker?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [14]

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Well, I think, Chris, I have to admit, it's a good question. I think that our business -- and I can't speak for our public company peers. We'll hear their numbers here shortly. But I think it's an accurate assessment that the market -- the automotive aftermarket has slowed somewhat over the past number of quarters, and there's -- look, there's a lot of reasons that we all talk about. And certainly, back-to-back mild winters has been a big factor. You know that. I think one of you guys have referenced it as an air pocket that stepped down in that 7- to 9-year age group of vehicles. So that sweet spot has been a little bit of a headwind, I think, for us and in the demand for repairs. And then if you look at some of the tailwinds that we've had in the past, and whether that be miles driven, cheaper gasoline, those tailwinds are still there, but they're lessening than what I think we saw perhaps at 1 year or 2 ago. So those would be the reasons we'd point to for just a bit of slower growth. But again, we're cautiously optimistic about the second half of the year and as we distance ourselves from these mild winters.

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Christopher James Bottiglieri, Wolfe Research, LLC - Research Analyst [15]

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Got you. And then so you're seeing really strong performance in the DIY stores that you're doing a lot of self-help out and you're kind of closing the gap to peers. But can you maybe talk about the stores that are just you're chugging along with your kind of normal procedure? And how are those stores performing on the DIY side?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [16]

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Well, I'd love to tell you they're performing as well as the stores that we have gone in and gone through our total refurb. But what we've done, Chris, is our level of refurbs, if you will, in our stores varies. So it varies from a total overhaul of resetting fixtures to painting the stores to increasing hours to bringing in additional people. That would be on a major overhaul. And to a lesser degree, we're trying to impact all of our stores by increasing our store hours and adding more retail-focused personnel. I mentioned our strong performance in June in our retail business. And in June, we saw both transaction and basket size go up for the first time in a couple of quarters. We're investing in business development managers in our retail stores, which I think are having a very positive impact on our business. So overall, we're positive about our retail business. And we're positive despite, I think, the -- a bit of a hysteria out there around what the online players are going to do to DIY.

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Christopher James Bottiglieri, Wolfe Research, LLC - Research Analyst [17]

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Got you. No, that's helpful. And then just one final question on Industrial. Yes, extremely strong organic revenue growth. I wonder if you can give us a sense for why you think the incremental margins came a little bit lighter than maybe what I would have expected. Is it your investments, [maybe] that's bifurcated between gross margin, SG&A, deleverage, like kind of what you're seeing in that segment and kind of your outlook for margins in that segment?

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [18]

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Yes, look, what we -- we did have a little bit lighter margin improvement in the quarter, but I would look to what we've done for the 6 months. And you've got a 20 basis point improvement in margin for the 6 months, sales being up 7%, profits up 10%. That is indicative of their gross margin initiatives, which they have been working on for 2-plus years. Their core gross profit has been up for a number of quarters. We also had higher supplier incentives, which again is tied to the improved growth and the increase in purchases. The cost reductions that they made are -- actually, we're seeing improvement in their SG&A. But for us to move the needle, it takes some time. And again, showing through 6 months 20 basis point improvement is a nice job by that team. So we're going to expect that to continue as we move forward. But having said that, the guidance is really more of a factor in the lower comparable sales and the leverage issues that are in the other segments, not Industrial.

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Christopher James Bottiglieri, Wolfe Research, LLC - Research Analyst [19]

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Got you. Absolutely, so it sounds like the margins have held up pretty well in that segment? Is that the takeaway there?

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [20]

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Yes they have.

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Operator [21]

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We'll go next to Elizabeth Suzuki of Bank of America Merrill Lynch.

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Elizabeth Lane Suzuki, BofA Merrill Lynch, Research Division - VP [22]

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Can you just remind us what percentage of the Auto business is DIY versus to do-it-for-me? And I know you mentioned that DIY outperformed the commercial business, but just curious how much of the Auto business is currently being sold to DIY customers.

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [23]

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Yes, so it -- it's a good question, Elizabeth. And it varies by country. But our U.S. NAPA business, our DIFM commercial business, which is our dominant part of our business, is 75-plus-percent, which leaves our DIY business at 25% approximately of the overall. It's different in Australasia, where we have a more stronger -- a stronger retail presence. And Canada is very similar. Mexico is very similar as well.

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Elizabeth Lane Suzuki, BofA Merrill Lynch, Research Division - VP [24]

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Great. That's really helpful. And within the Auto segment, you mentioned that pricing was up about a 0.10%. And which product categories within that are showing the most strength? And which are under some pressure? And how would you expect pricing overall to trend going forward for the rest of the year?

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [25]

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Well, look, we're coming off of 5 years of either deflation or no inflation in Automotive. So the fact that we ticked positive even though it was 10 basis points, we're encouraged to see that. As far as what we're estimating for the full year, it could be 0.5 point. I'm not sure it'll be a full point. But the categories we're probably seeing it in would be commodities. But again, we're not modeling for a significant uptick in that inflation between now and the end of the year. It's pretty modest, but it was encouraging to see a bit of improvement this quarter.

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Elizabeth Lane Suzuki, BofA Merrill Lynch, Research Division - VP [26]

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Yes, definitely. And just one more quick one on Auto, is that if used vehicle pricing really starts to come under some significant pressure as supply goes up, do you think that, that would impact the auto aftermarket at all? I mean, does it make the consumer any more likely to scrap their older vehicle than fix it up? Or is the average consumer just not even really looking at that?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [27]

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Well, Elizabeth, I don't think that's going to be a significant factor for us going forward. I think the -- everything I read, some of your peers that follow the dealer segment, it appears the used vehicle market is pretty strong right now. That's always a good thing for us. So we don't expect to see any significant shift going forward.

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Operator [28]

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We'll go next to Seth Basham of Wedbush Securities.

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Seth Mckain Basham, Wedbush Securities Inc., Research Division - SVP of Equity Research [29]

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My questions would fit in the Auto business. If you could maybe sort out for us a little bit the difference in growth trajectory for the wholesale business versus the company-owned stores on the do-it-for-me inside.

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [30]

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Well, the -- I'm sorry, Seth, can you repeat that?

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Seth Mckain Basham, Wedbush Securities Inc., Research Division - SVP of Equity Research [31]

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Yes. The wholesale business independents relative to the strength to growth at the company-owned stores, specifically on the do-it-for-me inside of the equation, if you can get to that level of granularity.

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [32]

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The total sales are -- that we're reporting, we're talking about for the quarter only. Our comps were up 1% overall, and that's all of our business. So that's independents, that's company stores, that's inclusive of all of our stores. And as we saw -- as I think I mentioned earlier, our trend throughout the quarter was very steady, and we were basically plus 4% across the way. DIY, I mentioned, was a bit stronger. And -- but both -- I think the other important takeaway, Seth, is that both DIFM and DIY improved sequentially quarter-over-quarter. I'm not sure I understand your questions, Seth, but...

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Seth Mckain Basham, Wedbush Securities Inc., Research Division - SVP of Equity Research [33]

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Yes, that's helpful. But I was just wondering if the wholesale business grew any more or less than the company-owned stores business.

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [34]

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We would say that we had similar results in both the company-owned stores and the independent stores. And again, pointing to the sequential improvement from Q1 to Q2. So it would be similar.

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Seth Mckain Basham, Wedbush Securities Inc., Research Division - SVP of Equity Research [35]

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Got it, helpful. And then secondly, just in terms of what's happening with fleet and major accounts. Any more color on what you think the drivers are of that persistent weakness?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [36]

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Yes, I think -- look, I think our major account business, Seth, which is a significant part of our overall DIFM business, I think our business continues to track with our customers' business. I don't believe we're losing market share. Matter of fact, I would contend that perhaps we've gained a bit of market share overall. But I believe our numbers overall reflect their business. The fleet business, again, sequentially improved. And I would tell you also, our major account business, we saw sequential improvement quarter-over-quarter. We also saw sequential improvement in our fleet business quarter-over-quarter. The fleet business, Seth, I think that we're going to continue to see that improve. If I look across -- I mean, you follow the Motion business and how strong our Industrial business is as a whole. Ultimately, and we've always said this, is that fleet tends to lag a bit behind the market. So we're still confident that we'll continue to see sequential improvement in the fleet business going forward.

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Operator [37]

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We'll go next to Brian Sponheimer of Gabelli.

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Brian C. Sponheimer, G. Research, LLC - Research Analyst [38]

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I want to talk about Motion [divi]. You've handled the NAPA business very well. I was a little surprised, given the comp store increase, to see margins expand just to 10 bps. So can you talk a little bit about if there are any friction costs there that would lead to maybe a little bit less leverage than you would normally expect?

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [39]

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I can't say it's any one thing, Brian. I think what -- look, with that group, they are being very cautious on when they're adding back expenses and the payroll that we took out, and we think about the facilities that we rationalized. And as businesses come back, they've had to weigh that in, in bringing back in some of those costs. Some of the gross margin improvements, and you know 50% of that business is with major accounts, national accounts, there continues to be a significant amount of competitive pricing pressures. In some of those contracts, you're under pricing agreements, and so you may not be able to pass through. There may be some kind of lag there. So I can't say it's anything in particular. I mean, sometimes, you get subtle changes between the quarters. But still, we like what we're seeing with the 20 basis points through 6 months. I mean, one thing to remember, too, is their core growth -- I mean, the core growth is a function -- it's lower than what the total number is. So you got some acquisition costs that are still weighing in there. So -- and we've -- the other thing I'll just mention, we've kept their inventory down through the 6 months. And with that, we're not ramping up the level of incentives as quickly as you might expect. So we're trying to work hard on focusing on the balance sheet as well.

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [40]

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Brian, I would just add to Carol's comments. First off, thank you for the question on our Industrial business. It gives us an opportunity to brag a bit on our Motion team. We've been, in past quarters, a little bit cautious to go out and say we think that, that business is now coming back full speed. But what we're seeing and continue to see is very encouraging. When we look at products like industrial hose and pneumatics that were up double digits in the quarter, industrial supplies, hydraulic hose, seals, accessories up high single digit in the quarter, is very, very encouraging for us. And then you look across the various metrics, whether it be the PMI number in June, which was 57.8, or capacity utilization, industrial production, all with arrows going up. Rigs count -- our rigs count was up 500 over a year ago, and it's our highest in 2 years. So a lot of things to be bullish on and optimistic when you look at our Industrial business.

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Brian C. Sponheimer, G. Research, LLC - Research Analyst [41]

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Okay. Great. And just, Carol, one on AP-to-inventory. Slight slowdown in the 3 months versus a year ago. If you're looking apples-to-apples kind of on a comp store basis, I guess how much of the deceleration would have been from the acquisitions as opposed to just maybe a little bit larger inventory growth than you're expecting?

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [42]

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Yes, the issues on the inventory, the comments on the inventory, I would say -- and we mentioned that inventory was up 6% without acquisitions versus the 9%, and what you're speaking to is a little bit of change there. I would say certainly, a portion of it is acquisitions and a fair portion of it. And then the other increases are probably more coming from -- on the Automotive side. And again, looking at -- a lot of it is looking at our inventory analytics and some of our predictive modeling and all that. And so we're working hard to get that inventory down in Automotive, but some of that is coming from just the depth and breadth of inventory that you've got to have in really getting into your supply chain and all the data analytics. But acquisitions, probably half of it, and the other part is just probably coming from the Automotive side.

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Operator [43]

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We'll go next to Matthew Fassler of Goldman Sachs.

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Matthew Jermey Fassler, Goldman Sachs Group Inc., Research Division - MD [44]

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So a couple questions. The first is on Automotive, and I guess it's sort of a big-picture backdrop question. As you think about the aging of the fleet and where the surge is and air pockets are, et cetera, what are the ages that you think, critical ages that -- age ranges that are most important for the different pieces of your business, most notably thinking about commercial and then thinking about DIY?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [45]

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Yes, so that number, Matt, kind of has shifted through the years, right. The -- we have historically looked at that 6- to 12-year age group as the sweet spot for our DIFM business. And I don't think that has really moved at all. I think that's still -- I still think that's the key age group for our DIFM business. As we look at our DIY business, I think that number continues to move out, so anywhere from 12 to 17 and 18. When you look at the average vehicle on the road today at 11.7 years and how well built and constructed cars are today, that number continues to move out, and we're seeing more and more older vehicles, 15-plus-year vehicles, at our stores and shopping in our DIY counter. So I think it's -- I don't think it's changed dramatically but probably a bit more on the DIY side.

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Matthew Jermey Fassler, Goldman Sachs Group Inc., Research Division - MD [46]

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And just thinking about your perspective on when the VIO trends may have started to weigh on this space because within that 6- to 12-year range, we obviously had this massive dip. And I would imagine that there's maybe a little more volatility, and the impact, maybe more of a bit of a cliff impact, if you will. Do you feel like this has been a headwind for a while or are we just seeing it now? Was there a headwind that was perhaps masked by cold weather a couple of years ago? What's your best sense as to when this may have turned and when do you think it might start to rebound in your favor again?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [47]

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Yes, it's a great question, Matt, and I think it was masked. I think that when you go back a couple of years ago and we were collectively, as an industry, pounding out strong mid to even high single-digit comps kind of quarter after quarter, I think it got masked. We had a couple of really harsh winters that probably drove a higher level of increase than what we attributed to weather. So I don't want to say they snuck up on us, but certainly, I think last year and this year is having an impact. When we see that trailing off, we'll be really -- as we get into back half of '18 and '19, we think it will be less of a factor than what it perhaps has been in the last couple of years.

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Matthew Jermey Fassler, Goldman Sachs Group Inc., Research Division - MD [48]

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Appreciate it. And then I have very quick follow-ups on the financial front. I'll just ask them together. The first, just directional color on the gross margin assumption embedded in your guidance. It's still roughly flattish year-on-year. And then the second one, I believe that the operating cash flow and free cash flow guidance came down a little bit more than the implied net income guidance. And that's with, I think, a CapEx number that's slightly lower. So did you round it down to the nearest $50 million? Or is there some nuance related to working capital or something else that may have changed for the business?

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [49]

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Yes, so on the cash flow question, we would say that was more of a working capital change. And we gave you a range, so that was kind of our best thinking at this time, and it would be working capital. And then as far as gross margin, I mean, look, we had a nice improvement through the 6 months. The quarter looked good. We were just under 30% last year, so we would hope to be right around 30%, which may give us a couple basis point improvement. So we should see it be a little bit better than the prior year.

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Operator [50]

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We'll go next to Bret Jordan of Jefferies.

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David Kelly, [51]

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It's David Kelly on for Bret. Just a quick follow-up on your DIY e-tail comments earlier and thinking about your outperformance in the category. Are you seeing any change in the DIY pricing environment, either a strategy shift from any of the traditional peers out there or anything notable from e-tailers trying to enter the market?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [52]

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No, it's been relatively the same, David. I -- again, we're bullish on our retail business only because I think of the initiatives that we've put into play. And the initiatives -- so the bar was settled fairly low for us. And when you look at what we focused on, our -- the retail basics. It's store hours. It's having retail-focused personnel on the floor. It's having the right products on the counters. So, I mean, really just an attention to the retail basics. And as that store count that we've gone through, what we call our Retail Impact initiative, we'll have 500 stores now at the end of the year. We started that a couple of years back. It's been a slow ramp up, but it's now beginning to be a fairly significant chunk of our overall stores. So it's -- those stores are impacting our business. And as I've said, we had a good month of June now with both basket and ticket size going up in -- for the first time in a few quarters. So it's good. But I think largely, it's the initiatives that we've put into play.

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David Kelly, [53]

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Okay, great. Appreciate the color. And last one, a quick follow-up for me. We've long discussed and weighed in on some price inflation in autos as well. Do you think that's skewed -- just thinking out over the next 2 to 3 years, would that be skewed more towards commercial? Or could we also see some price inflation in DIY as well?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [54]

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Well, I think if we see inflation, David, which we're not opposed to as a distributor, I think you'll see it play out on the DIFM side, but I think you'll also perhaps see a bit on DIY. DIY it would most likely be more in the chemicals and oil, which we've seen some increases in. So I honestly think you will -- if, and that's a big if because we have not seen inflation, as Carol pointed out, in a number of years. But if we get a bit more, I think, primarily on the DIFM side, but I think some of that will leak over into the DIY as well.

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Operator [55]

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We'll go next to Scot Ciccarelli of RBC Capital Markets.

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Scot Ciccarelli, RBC Capital Markets, LLC, Research Division - Analyst [56]

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Paul, I wanted to clarify some of your prior comments about the DIY outperforming commercial. Did that apply to the U.S.? Or was that on -- just on a global basis?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [57]

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That's U.S., Scot. When we get into specific segments of the business, DIY, DIFM, we are really pulling those numbers from our U.S. business. The comments I was making earlier about our global business is the mix, like the mix in Australia, DIFM to DIY, is significantly different than it is in the U.S. But when we talk specific DIY increase or DIFM increase, we're referencing U.S.

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Scot Ciccarelli, RBC Capital Markets, LLC, Research Division - Analyst [58]

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Okay. Yes, I just want to clarify because I think those 2 statements had blended into one another. So with that being said, obviously DIY performs better than commercial in the U.S. I know you talked about softer growth in fleet and major accounts. Obviously, that would act as a drag on the commercial business. But what is it that would impact, in your opinion, the commercial segment more than retail? Like if the drag is things like weather, the car park, et cetera, why wouldn't both segments be impacted about the same?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [59]

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Yes. So I want to just repeat something I just said a few minutes ago to David. When we see an increase on our DIY business, as we did in the quarter, and saw a nice increase in June, I think that is more indicative of the initiatives that we've put into play, Scot, versus the overall DIY segment of the automotive aftermarket. I made the comment in a bit tongue in cheek. The bar was set fairly low on the retail side. So when we embark on improving the retail basics in our store, we're bound to get a bit of a lift, and that's what we're now seeing. And part of it is also due to our Retail Impact initiative that we embarked on a couple of years ago to upgrade a number of our stores.

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Scot Ciccarelli, RBC Capital Markets, LLC, Research Division - Analyst [60]

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I got it. So -- and yes, I've heard that commentary before. So you really think it's -- the reason DIY outperformed for you is the things you have done, not necessarily a change in the marketplace? Do you have any feel for a change in the marketplace? Do you think both segments performed about the same? Do you have any feel for that?

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Paul D. Donahue, Genuine Parts Company - CEO, President and Director [61]

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Hard to say. I'll be anxious to hear the other public companies when they report, Scot. But I -- but look, I think that on the DIFM side, again, if I go back to some of the comments I made earlier with consecutive mild winters, the step-down in that -- or as referenced, that air pocket in our sweet spot of vehicles, that's impacting -- that certainly is impacting the DIFM side. But again, I think it's transitory, and I think we'll begin to move away from that as we move into '18 and beyond.

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Scot Ciccarelli, RBC Capital Markets, LLC, Research Division - Analyst [62]

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Got you. And just a housekeeping item. Was there anything else to note on the corporate expense? Was there a pension adjustment? I didn't hear that mentioned. Or is it just the labor and IT investments that were already highlighted?

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [63]

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Yes. No, there was no pension or nonrecurring adjustments. What we would really point to is the investments that we're making, be it in our digital initiatives, which are global across all of our businesses, IT investments, which could be in warehouse management, productivity, inventory modeling to IT security, and then payroll and then legal and professional, which is somewhat related to acquisitions. So -- and look, when you look at it, that's the majority of it. We gave you a little bit higher guidance in that area, but that's -- we gave you a range. We hope to do better in there, but you certainly sometimes get nonrecurring, onetime items in there. But hopefully, we've covered that in our range.

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Operator [64]

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At this time, we have no further questions in the queue. I would like to turn the call back over to management for closing or additional remarks.

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Carol B. Yancey, Genuine Parts Company - CFO, CAO and EVP [65]

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We'd like to thank you for your participation in today's conference call. We appreciate your interest and support of Genuine Parts Company, and we look forward to talking to you after our third quarter results. Thank you.

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Operator [66]

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That does conclude our conference for today. We thank you for your participation.