Observing O’Reilly (ORLY)

O’Reilly Automotive (ORLY) is a large chain of retail stores in the U.S. that sell auto parts and after-market accessories.  As of June 30^th, ORLY had just over 3600 stores.

O’Reilly was the subject of the monthly Online Stock Study at the BI website for November 2011 and was led by Adam Ritt, editor of the Better Investing magazine.  ORLY’s Value Line and Morningstar reports are available to BI members as are Adam’s Presentation Slides, an audio recording of the online study, and an earlier SSG and report by the Investment Advisory Service (IAS).

The Online Stock Study uses consensus decision-making to complete a SSG in about one hour.  Happily, and for the first time in almost a year, the Consensus SSG is also available as a handout.  Hooray!!

 Company Background:

– O’Reilly’s Sales & EPS growth has been impressive: 19.3% & 16.5% for the past 10 years; up to 26.8% & 17.1% over the last 5; and up again to 22.8% & 41.5% for the last 3 years. 

 – The company’s acquisition of CSK Auto in 2008 increased its store base by 70% as well as its geographical presence in the West, especially California.

 – ORLY’s sales reflected 59% Do-It-Yourself (walk-in customers) and 48% Do-It-For-Me (repair shops) as of June 2011; before the CSK acquisition, 52% were Do-It-Yourselfers.

– The company began in 1957 with one store and Wikipedia as well as IAS reported that much of ORLY’s growth has been fueled by acquisition:

** In 1998, it merged with Hi/Lo Auto Supply adding 190 stores; in 2000, it bought KarPro Auto Parts and its 14 stores; in 2001, it purchased Mid-State Auto Distributors adding 85 stores; and in 2008, it bought CSK with 1342 stores, its largest acquisition.

– ORLY’s 2010 Annual Report explained that the company opened 149 net new stores last year, counting openings and closings, and plans to open 170 in 2011.

** Same Store Sales increased from 4.6% to 8.8% in 2010.

 ** The company also opened three new distribution centers last year, relocated one, and converted another.

** ORLY anticipates “significant market share gains in the Western U.S.” in the next several years and expects to make some $50M capital investment in the acquired CSK stores.

– ORLY’s direct competitors are Auto Zone (AZO), Advance Auto Parts (AAP), and Genuine Parts (GPC) according to YahooFinance.

** Among these competitors over the last 5 years, ORLY had the highest average Sales growth, AAP had the highest EPS growth, and AZO had the highest Pre-Tax Profit Margin;

** Morningstar reported that ORLY faced stiff competition from AZO and AAP which also have been aggressively expanding;

** Because there is little product differentiation among its competitors and low barriers to entry, Mstar assigned no economic moat to ORLY (no competitive advantage).

SSG Discussion:

– The following table compares the Consensus SSG with recent SSGs by Adam (from BI’s First Cut), myself, and Take Stock. 

– After the table, I discuss key judgment issues, ORLY’s Pre-Tax Profit Margin (PTPM) and Return on Equity (ROE), and its Financial Condition.

O’Reilly Auto-       motive (ORLY)	Consensus SSG	AdamR      (from BI’s  First Cut)	ArminF	Take Stock
Date	11-1-11	Same	10-28-11	10-31-11
Data	Mstar via BI	Same	Same	Mstar via SC
Price	$76.45	$78.79	$76.07	Same
52 week High &   Low Price	$77.35 & $53.33	$78.77 &   Same	Same &       Same	Not Used
Last Quarter of     Reported Data	Q3 ending    9-30-11	Same	Same	Same
Software Used	Online SSG	Same	TK 6	TS Online
Project Growth     From End of	Last Q	Same	Same	Last FY
Sales Growth	7.00%	8.00%	15.00%	11.00%
EPS Growth	8.00%	8.00%	15.00%	11.40% start 06.69% end
High PE	18.4	22.0	20.3	21.5
High EPS	$5.39	$5.14	$7.04	$4.45
High Price	$99.18	$113.00	$142.90       (10% > VL)	$95.75
VL Estimated High Price = $95-130 as of 9-5-11 and 11-14-11
Low PE	14.81	Same	12.3	12.6
Low EPS	$3.50	Same	Same	$3.20
Low Price	$51.84	Same	$43.10	$40.32
Upside/Downside Ratio	0.92	1.28	2.0	Impossible to Calculate
Total Return	3.2%	3.75	13.4%	4.7%
SSG Buy Under	Not Available	Same	$68.05	$47.87
RV/PRV	Not Available	Same	Not Used	Not                Available
RV/PRV (no outs)	Not Available	Same	117.9/102.7	Not                Available
Quality	Not Used	Same	S&P = B+     (4th of 8 grades)	TS = 3.2 unacceptable
PTPM – 5 yr ave	11.21%      Trend N/A	Same          Same	11.20%       Trend up	Same             Trend N/A
ROE – 5 yr ave      End Year Equity	11.62%      Trend N/A	Same          Same	11.60%        Trend up	Not Used
ROE – 5 yr ave     Begin Year Equity	Not Available	Same	13.6%         Trend up	14.0%          Trend N/A
Debt to Equity –   5 yr ave	Not Available	Same	16.8%        Trend down	Not Used

The Consensus SSG:

(A) Estimating Future Sales Growth for the next 5 years

– Adam gave the participants four options to estimate ORLY’s future Sales growth: 7.00%, analyst estimates (unnamed) for this year and next; 8.00%, estimate by Morningstar and Value Line, and 3Q actual; 12.00%, Investor’s Advisory Service estimate in January 2011; and 19.00%, ORLY’s long-term historic growth.

** The only website I know of that makes a Sales growth estimate for the next 5 years is Zacks.com;

** Value Line’s 7.00% estimate was for Sales per Share, not Sales, and VL makes no estimate of future Sales;

** ORLY’s historic Sales growth of 19.00% was for the last 10 years and its Sales growth for the last 5 years increased to 23.80%.

– The Consensus (60% of the votes) chose 8.00%; the next highest vote (22%) was for 7.00%.  

(B) Estimating Future EPS Growth

– The participants were given four choices to estimate the company’s future EPS growth: Same as their estimated Sales growth; 8.00%, imputed rate from VL’s dollar estimate from 2011 to 2014-2016; 13.50%, VL’s estimated rate from its Annual Rates box; 15.00%, IAS estimate in January 2011; and 16.50%, ORLY’s long-term historic EPS growth.

** ORLY’s historic EPS growth of 16.50% was for the last 10 years; its EPS growth for the last 5 years increased slightly to 17.1%.

** It’s a mistake, I believe, to impute a rate from VL dollar amounts that’s different from its Annual Rates box as VL uses a unique method to calculate its rates which is explained in a new page [click here].

– The Consensus (52%) chose 9.00%, Adam’s imputed VL rate; the next highest vote (28%) was for 13.5%, VL’s estimate for the next 3-5 years from its Annual Rates box.

Adam‘s SSG:

Estimating Future EPS Growth:

– Adam limited his EPS growth to 8.00%, the same as his Sales growth estimate.

– He then used the NAIC/BI Preferred Procedure to double check his judgment and used these four inputs: Sales growth = 8.00%; PTPM = 12.5% (average of 2006, 07 & 10); 37.5% Tax Rate (from VL); and 133M Shares Outstanding.

– His PP reslted in 7% EPS growth for the next 5 years which Adam thought was a “little low” so he used 8.00% even though he mentioned that unnamed analysts were estimating 16.5%-17.0%.

 Armin’s SSG:

Estimating Future EPS Growth:

– When I did my SSG, the seven long-term EPS estimates I ALWAYS check were averaging 16.4% with CNNMoney via FactSet CallStreet high at 18.00% and VL low at 13.50%. 

 ** Relying on VL without checking other estimates is unwise, as demonstrated by the Online Stock Study, since it may be atypically low;

** Morningstar.com and Zacks via BI were both 17.00%; Yahoo Finance via Thomson/FirstCall was 16.50%; Reuters.com was 16.49%; and Zacks.com was 16.05%;

** For how I estimate EPS growth for all my SSGs, see: Estimating EPS [click here].

– I decided to estimate 15.00% EPS growth which, together with my Estimated High PE, gave me a Forecast High Price that was 10% greater than VL’s estimate as I try to never exceed VL by a substantial amount.

Final Results:

– None of the four analyses resulted in a SSG Buy, maybe because ORLY’s price was close to its 52 week high.

FINAL RESULTS	Consensus SSG	AdamR	ArminF	Take Stock
SSG Date	11-1-11	11-10-11	10-28-11	10-31-11
Price when SSG was done	$76.45	$78.79	$76.07	Same
52 week High &            Low Price	$77.35 & $53.33	$78.99 & Same	Same & Same	Not Used
EPS Growth	9.00%	8.00%	15.00%	6.49%
Forecast High PE	18.4	22.0	20.3	21.5
Forecast High Price	$99.18	$113.08	$142.90 (10% >VL)	$95.75
Upside-Downside Ratio (need 3.0 min to Buy)	0.92	1.28	2.0	Impossible to Calculate
Expected Total Return (need 15% min to Buy)	3.2%	3.75%	13.4%	4.7%
FINAL RESULTS	DON’T BUY	DON’T BUY	DON’T BUY	DON’T BUY

– The Consensus SSG began with a low EPS estimate as well as a low Forecast High PE and resulted in the lowest Total Return;

– My SSG began with a substantially higher EPS estimate but still failed to satisfy the BUY criteria (3.0 U/D and 15% TR).

 Pre-Tax Profit Margin (PTPM) and Return on Equity (ROE):

– PTPM and ROE 5 year averages are both trending up which are good signs and what we want to see from all our SSGs.

– Morningstar places ORLY in the Specialty Retail Industry which is a hodge-podge of companies that sell different things.

– ORLY’s PTPM is substantially better than its Industry Average (11.2% vs 5.79%) and its ROE is also better (11.6% vs 9.87%);

** I no longer pay for a subscription to Stock Central because the only thing I used was its Industry Data (which is the best on the web).

** Now, I use the meagre Industry data at the BI webite which does not provide a company-by-company breakdown so I can no longer identify and eliminate atypical amounts, and recalulate the adjusted average.

Financial Condition:

– Value Line gave ORLY an “A” for Financial Strength, its third highest of nine ratings:

** VL also reported that the company’s cash had increased from $29.7 M in 2010 to $268.8 M eighteen months later.

– Morningstar found that ORLY was in “good financial health”:

** Moreover, the company can “easily service its debt” using internally generated cash flows; and

** Earnings before Interest and Taxes were a comfortable 10 times Interest expenses over the past 5 years and Mstar expects that rate to improve in the future.

– The Annual Report Spreadsheet by Bob Adams gave ORLY’s 2010 A.R. a 73 out of 100 with 9 Bullish results (good things) and 9 Bearish (not-so-goods):

** The Bullish results included: sales are increasing and increasing faster than related costs; debt is decreasing and interest coverage is reasonable; debt to equity at 11.1% is reasonable.

** The Bearish results included: ROE at 13.1% is inadequate and gets a yellow caution flag; Accounts Receivable, Inventories, and Shares outstanding are all increasing and all get a yellow caution flag.

– My SSG shows that ORLY’s Long-Term Debt went from a low of $75.1 M in 2007 to a high of $724.6 M in 2008 and then down to $357.3 M in 2010, the last full year of available data.

** Currently, ORLY’s Total Debt is $797.8 M, its Debt to Total Capital is 20.7%, and its Cash Flow per Share is $2.38 (after being negative three of the last 5 years).

 

Armin

**** ORLY is my 85th post to this SSG Blog which I expect to end soon after 5 years.  It’s a lot of work with very little reward (feedback).