O'Reilly Auto Parts 2007 Annual Report Download - page 23

21
Management’s Discussion and Analysis
of Financial Condition and Results of Operations (continued)
2006 COMPARED TO 2005
Sales increased $238 million, or 11.6%, from $2.05 billion in 2005 to $2.28 billion in 2006, primarily due to 170 net additional stores opened
during 2006 which contributed $67.4 million to the sales increase, a full year of sales for stores opened throughout 2005 adding $76.1 million
and a 3.3% increase in same-store sales for stores open at least one year providing $93.5 million of the sales increase. We believe that the
increased sales achieved by our existing stores are the result of our offering of a broader selection of products in most stores, an increased promo-
tional and advertising effort through a variety of media and localized promotional events, continued improvement in the merchandising and
store layouts of most stores and compensation programs for all store team members that provide incentives for performance. Also, our continued
focus on serving professional installers contributed to increased sales. The same store sales increase in 2006 of 3.3% was below the prior year
increase of 7.5% and our historical results. The decrease from the prior year is the result of extremely strong same store sales in 2005 (higher
than historical rates) and external macroeconomic factors in 2006. The external macroeconomic factors which we believe negatively impacted our
sales were constraints on our customer's discretionary income as a result of increased interest rates and higher energy costs combined with a
reduction in the miles driven due to higher gas prices during the key summer selling season.
Gross profit increased $114.2 million, or 12.8%, from $892.5 million (43.6% of sales) in 2005 to $1.01 billion (44.1% of sales) in 2006, due to
the increase in sales. The increase in gross profit as a percent of sales is the result of improvements in product mix and product acquisition cost.
Improvements in product mix were the result of strategies which differentiated our merchandise selections at each store based on customer
demand and vehicle demographics in the store’s market and through ongoing Team Member training initiatives focused on selling products with
greater gross margin contribution. Product acquisition cost improved due to increased imports from lower cost providers in foreign countries as
well as improved negotiating leverage with our vendors resulting from our increased purchasing power.
SG&A increased $84.4 million, or 13.2%, from $640.0 million (31.3% of sales) in 2005 to $724.4 million (31.7% of sales) in 2006. The increase
in these expenses was primarily attributable to increased salaries and benefits, rent and other costs associated with the addition of employees and
facilities to support the increased level of our operations. The increase in SG&A as a percentage of sales was the result of increased advertising
and energy costs.
Other expense, net, decreased by $1.4 million from $1.5 million in 2005 to $0.1 million in 2006. The decrease was primarily due to decreased
interest expense on long-term debt resulting from a reduction in the interest rate on long-term debt.
Provision for income taxes increased from $86.8 million in 2005 (34.6% effective tax rate) to $104.2 million in 2006 (36.9% effective tax rate).
The increase in the dollar amount was primarily due to the increase of income before income taxes. The increase in the effective tax rate in 2006
is primarily attributable to a non-cash adjustment of $6.1 million in the third quarter of 2005 resulting from the favorable resolution of prior year
tax uncertainties. This tax benefit was nonrecurring and reflected the reversal of previously recorded income tax reserves related to a prior acquisition.
As a result of the impacts discussed above, net income increased $13.8 million from $164.3 million in 2005 (8.0% of sales) to $178.1 million in
2006 (7.8% of sales).
LIQUIDITY AND CAPITAL RESOURCES
Net cash provided by operating activities was $299.4 million in 2007, $185.9 million in 2006 and $206.7 million in 2005. The increase in net
cash provided by operating activities in 2007 was principally due to increased net income and a reduction in net inventory investment. Net
inventory investment reflects our investment in inventory net of the amount of accounts payable to vendors. The reduction in net inventory
investment is the result of reductions in our per store inventory levels and our ongoing effort to extend terms with our vendors. Reductions in
our per store inventory levels are driven by our continued optimization of inventory selection at our stores and our ability to efficiently deploy
inventory throughout our distribution network.
The decrease in net cash provided by operating activities in 2006 compared to 2005 was primarily due to increases in inventory related to new
store growth and a decrease in the percentage of inventory funded by accounts payable, partially offset by the effect of increased net income in
2006. The decrease in net cash provided by operating activities in 2006 was also due to the reclassification of the tax benefit derived from the
exercise of stock options. In accordance with our prior year adoption of SFAS No. 123R, the excess tax benefit from the exercise of stock options
of $8.5 million is reflected as cash provided by financing activities in our consolidated statement of cash flows for the year ended December 31,
2006. For the year ended December 31, 2005, the excess tax benefit totaled $7.1 million and was included with net cash provided by operating
activities in our 2005 consolidated statement of cash flows.
Net cash used in investing activities was $300.3 million in 2007, $225.2 million in 2006 and $262.4 million in 2005. The increase in cash used
in investing activities in 2007 was due to increases in capital expenditures resulting from our ongoing store expansion program, store relocations,
enhancements in existing store technology and the purchase of $21.7 million in short-term investments. The changes in cash used in investing
activities during 2006 were the result of changes in capital expenditures and the $63 million acquisition in 2005 of Midwest Auto Parts
Distributors, Inc. (“Midwest”), which included 72 stores and distribution centers in St. Paul, Minnesota and Billings, Montana. Capital
expenditures were $282.7 million in 2007, $228.9 million in 2006 and $205.2 million in 2005. These expenditures were primarily related to