AutoZone: Business Breakdowns ResearchBy: Colin Dismuke

Primary Research Sources • 2020 Annual Report

 • 2020 10�K

 • Q4 2021 Earnings Presentation

Company and  • history timeline

Company History & Key PeopleJ.R. "Pitt" Hyde III �CEO and grandson of founder)� AutoZone's history starts with a wholesale food company called Malone & Hyde, Inc. J.R. initiated and developed Malone & Hyde's specialty retailing division, beginning with drug stores and expanding to include sporting goods stores and supermarkets. Pitt and some of Malone & Hyde's top leadership identified a need for a chain of automotive parts stores to help people maintain their vehicles. Remained Chairman and CEO until 1997.

July 4, 1979� The first Auto Shack opened in Forrest City, Arkansas, 40 miles west off Memphis, where they’re headquartered today.

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1986� Auto Shack spun out of Malone & Hyde.•1986� Introduced the Duralast brand, starting with starters and alternators. •1987� Auto Shack rebranded to AutoZone. •1991� AZO begins trading on the NYSE at $27.50. •1995� Duralast and Duralast Gold batteries launched. •January 1996: launches along with the Commercial program offering credit and delivery toprofessional installers.

 • Autozone.com

February 1996� Acquire Alldata for $56.8 million in stock. Alldata develops and markets software that providesautomotive diagnostic and repair information to repair shops nationwide.

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1998� Acquire ADAP, Inc, 112 stores in the northeast, TruckPro, 43 stores in 14 states, and Chief Auto PartsInc., 560 stores in 5 states.

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1998� Expand internationally to Mexico and open the first Autozone de Mexico store in Nuevo Laredo.•1999� Acquire 100 Express stores from The Pep Boys. •2003� Introduce the Duralast tool line with 120 products. •2012� Expand to Brazil and open first store in Sorocaba, west of Sao Paulo. •

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2012� Acquire AutoAnything, an online retailer of specialized auto products. •

Business Model & Secret Sauce

Value PropositionAutoZone, Inc. is the leading retailer and distributor of aftermarket automotive parts and accessories in the Americas.

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AutoZone’s core offering ��80% of sales) is DIY, or do-it-yourself, stores. They currently have 6,549 physical stores across the US, Mexico, and Brazil where they stock an extensive product line of replacement parts for car, van, and light truck owners to buy and fix their vehicles themselves.

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Just over 20% of their sales are generated by their commercial business, or DIFM (do-it-for-me), where AutoZone sells parts to auto repair shops who fix vehicles on behalf of auto owners.

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Historically, AutoZone has focused mostly on the consumer DIY space; however, their commercial programme is growing 8% annually, double the market rate, which signals that AutoZone is gaining share.

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The cornerstone of the commercial offering is the ALLDATA brand automotive diagnostic and repair software.

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AutoZone has built it’s DIY reputation and market lead by obsessing over customer service. •AutoZone employs knowledgeable staff or trains them up to help customers find the part they need. Given many DIY-ers don’t know what’s wrong with their car, or how to replace a part, employees are on hand to help them through the process. The internet has disrupted many sectors within B2C retail but this element of AutoZone’s business is difficult to replicate online.

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AutoZone has invested heavily in its IT infrastructure in the past decade.○

Z-net, their proprietary electronic catalog, enables employees to efficiently look up parts and providecomplete job solutions, advice, and other information for customers. Z-net is positioned on the servicecounters or standalone pods so that both the employee and customer can take part in the experience.

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A proprietary Point-of-Sale system has also been developed that integrates with their proprietary Store Management System and allows for enhanced visibility into sales and improves inventory control. AutoZone believes “the Point-of-Sale System also enhances customer service through faster processing of transactions, while the Store Management System provides simplified warranty and product return procedures.”

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AutoZone uses a hub and spoke model to put as much inventory as close to the consumer as possible. Distribution centers replenish mega hub stores and hub stores several times per week. Hubs, in turn, supply stores multiple times per day or at least each night.

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Distribution6,549 physical stores �5,885 stores in 50 states in the U.S., 621 stores in Mexico, and 43 stores in Brazil) •

Opened 138 net new stores and 114 net new domestic Commerical programs in 2020. ○

5,007 domestic Commercial programs •12 Distribution centers �10 in the United States and two in Mexico) •Employees: 100,000 �60% employed full-time. 91% employed in stores or direct store supervision, 6% in distribution centers, and 3% in store support.)

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EconomicsRevenue • ○

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In FY’20, domestic same store sales grew by 7.4% and reached $12.6 billion in sales. They also recorded record average net sales per store, record Commercial sales per program, record earnings per share, and record cash flow from operations.

During fiscal 2020, failure and maintenance related categories represented 84% of total sales. ○

Source: New Constructs, LLC

Since 2015, revenue has compounded 4% annually and net operating profit after tax has compounded 9% annually.

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Source: New Constructs, LLC

Gross margins •Cost of goods sold in FY20 came to 46% of revenues, giving the business a 54% gross margin profile. ○

Gross margins have risen steadily from 49.7% in 2007 to 53.6% in 2020. The gross margin growth, especially from 2010 onwards, has been driven by improved supply chain management.

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Source: and AutoZone’s Seeking Alpha 10�K filings

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AutoZone’s gross margins lead the automotive sector along with O’Reilly Automotive. ○

Source: 10�K filings

Operating margins •In FY20, operating margins stood at 19%. ○

AutoZone’s operating margin has slowly increased over the past 15 years. The following chart shows theadjusted operating margin (adjusted for a pension termination charge in 2018 and operating leases onproperty).

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Source: and AutoZone’s Seeking Alpha 10�K filings

Return on Investments ○

Similar to it’s gross margins, AutoZone leads the sector in ROIC with O’Reilly following closely behind. □

Source: and AutoZone’s Seeking Alpha 10�K filings

Overall debt has increased steadily but fallen as a percentage of AutoZone’s market value. □

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Source: and AutoZone’s Seeking Alpha 10�K filings

AutoZone has also generated $5.9 billion �22% of market cap) in free cash flow over the past five years. The firm’s $833 million in FCF in fiscal 2020 gives AutoZone a 2% FCF yield.

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AutoZone has never paid a dividend, instead, it returns cash to shareholders through aggressive share buybacks totalling $13.6B since 2011.

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Competitive AdvantageCustomer Service •

AutoZone’s ability to provide specialized customer service that its big box retailer �Wal-Mart) and e-commerce competitors �Amazon) cannot match gives it a major competitive advantage.

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In addition, AutoZone specifically mentions customer service as being the most important element of their marketing and merchandising strategy.

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Free services such as AutoZone’s tool loaning program, diagnostic services, check engine light readings, battery testing, battery charging, and collection of oil for recycling are important to building customer loyalty and make switching costs high.

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Capital allocation •AutoZone’s management are exemplary capital allocators. Their policy is simple: prioritize reinvestment in the business and spend whatever is left on share buybacks while always maintaining an investment grade rating. Shares outstanding are down around 75% over the last 15 years.

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Over the last ten years, AutoZone reinvested some 16% of its cash flow at a �30% incremental return. The remaining 84% went to buybacks.

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Supply Chain •AutoZone has invested heavily in streamlining its supply chain through both it’s commercial relationships with vendors and technology.

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Proprietary PoS and store management systems allow them to track inventory accurately and forecast demand.

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All merchandise is selected and purchased through their store support centers in Memphis, Monterrey, Mexico, and Sao Paulo, Brazil. In addition, there is an office in Shanghai to support sourcing Chinese merchandise.

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Online Presence •AutoZone has developed a competitive e-commerce platform for those who prefer to find their auto parts online. The firm has two websites, one for retail and one for commercial customers, that offer in-store pickup or delivery, which is next-day for 80% of the U.S.

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Vendor and Commercial Relationships •From the : “Historically, we have negotiated extended payment terms from suppliers, reducing the working capital required and resulting in a high accounts payable to inventory ratio...Accounts payable, as a percentage of gross inventory, was 114.1% at November 21, 2020, compared to 110.3% at November 23, 2019.”

○ Q1 2021 earnings call

AutoZone typically carries a large Accounts Payable balance (they wait longer to pay their vendors) while carrying a small Account Receivable balance (they try to receive payment from customers quickly). This is a result of longstanding relationships with vendors and suppliers.

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Private Labels • estimate that 50% of total sales are from AutoZone’s private labels, however, this can’t be

verified and Duralast and other private label revenue is not broken out from total revenue in financial disclosures.

○ Industry insiders

Competitive Position

IndustryDrivers of growth for this industry can be boiled down to miles driven and average age of vehicles on the road.

Favourable industry tailwinds: •The average age of light vehicles on the road in the U.S. has climbed from 8.5 years in 1996 to 11.9 years in 2020. AutoZone calls vehicles seven years and older “our kind of vehicles” because these vehicles are typically out of warranty and require more maintenance and repair than newer ones.

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Source: New Constructs, LLC

Source: New Constructs, LLC

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Source: New Constructs, LLC

Competitors •Autozone’s major direct competitors are O’Reilly Automotive and Advance Auto Parts’ while its indirect competitors are the dominant large retailers, Amazon and Wal-Mart. Smaller competitors (by market cap) are Genuine Parts Company and Inc. Additionally, any number of small wholesale distributors, repair shops, car dealers, hardware stores, etc. can be considered a competitor.

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CarParts.com

AutoZone has more stores than any other auto parts retailer and has grown its total number of stores from 4,627 in fiscal 2010 to 6,549 in fiscal 2020, or 4% compounded annually. This provides them with a broader reach than their competition.

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Source: Autozone 2020 10�K

AutoZone generates more revenue per square foot of store space than O’Reilly Automotive and Advance Auto Parts.

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AutoZone ended 2020 with 44 domestic mega hub stores. A mega hub carries inventory of �70�100,000 SKUs, about double a normal hub store �224 hub stores at the end of 2020�. Mega hub stores provide coverage to 5,700 domestic stores ��88%� which allows for same day delivery in most cases.

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Position within the industryMarket share •

14% market share in the DIY segment, according to a on aftermarket auto parts and repair markets from 2020. �5% market share in the DIFM (do-it-for-me) segment (in line with the other after market auto part companies). New car dealers have 35% market share in DIFM segment.

○ Bank of America report

AutoZone and it’s major competitors account for 32% of the market. ○

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Source: Genuine Parts Company, Investor Day Presentation 2019

DIY Market ○

Estimated to be �$65B and dominated by retailers who sell to individuals. There is a significant and growing online component, however, it’s somewhat capped due to the customer service requirements of most customers.

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DIFM Market ○

Estimated to be �$85B and comprises commercial repair shops, auto dealers, etc. The commercial DIFM market has been the main battleground between AutoZone and its competitors recently. AutoZone has �4% commercial market share.

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Biggest risks to competitive position •Electric vehicles ○

EVs generally require less maintenance than internal combustion engines combined with a reduction in the amount of moving parts. AutoZone currently sells numerous parts for Tesla’s, however, as the total market share of EVs increases this could directly affect AutoZone’s business.

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Fewer DIY’ers ○

A combination of less people going into the trades, convenience culture (i.e. Amazon), and complexity of modern cars make it less likely that car owners will want to or be able to repair their own vehicles.

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Reduction in car ownership + increase in ridesharing ○

Change in vendor relationships ○

AutoZone’s vendor relationships significantly affect their business and capital structure, currently in a net positive direction. From their , “We plan to continue leveraging our inventory purchases; however, our ability to do so may be limited by our vendors’ capacity to factor their receivables from us. Certain vendors participate in arrangements with financial institutions whereby they factor their AutoZone receivables, allowing them to receive early payment from the financial institution on our invoices at a discounted rate. The terms of these agreements are between the vendor and the financial institution. Upon request from the vendor, we confirm to the vendor’s financial institution the balances owed to the vendor, the due date and agree to waive any right of offset to the confirmed balances. A downgrade in our credit or changes in the financial markets may limit the financial institutions’ willingness to participate in these arrangements, which may result in the vendor wanting to renegotiate payment terms. A reduction in payment terms would increase the working capital required to fund future inventory investments.”

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Q1 2021 earnings call

Intrinsic Value Assessment of AutoZone, Inc. �AZO�

Article Fundamental analysis of whether AZO is undervalued or not.

https://www.theinvestorspodcast.com/intrinsic-value/autozone-inc/

A Long Road of Growth for Article A look at the long term tailwinds that could

Title Type What You Will Learn �140 Characters) URL �Must be https://)

Useful Resources

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AutoZone potentially lead to further growth for AutoZone. https://www.forbes.com/sites/greatspeculations/2020/11/17/a-long-road-of-growth-for-autozone/

Article Investment thesis for AutoZone.AutoZone � Leading The Auto Parts Pack

https://seekingalpha.com/article/4437815-autozone-leading-the-auto-parts-pack

AutoZone Article Investment thesis for AutoZone. https://www.eaglepointcap.com/blog/autozone

AutoZone �AZO� Article Investment thesis for AutoZone. https://weitzinvestments.com/perspectives/investment-insights/a-131/autozone-azo.fs

Auto-Part Sellers Should Rebound as Pandemic Eases

Article A look at the industry AZO operates in and how COVID has impacted its trajectory.

https://www.morningstar.com/articles/998562/auto-part-sellers-should-rebound-as-pandemic-eases

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