Despite somewhat soft domestic sales growth, the narrow-moat auto-parts retailer continued to boost profitability, and should be able to increase margins through operating leverage as it scales.
By Zain Akbari, CFA | 09-22-16 | 12:42 PM | Email Article

We do not foresee a large change to our $800 fair value estimate for narrow-moat  AutoZone  after the firm reported fourth-quarter results. Although full-year domestic same-store sales lagged due to weather effects, rising 2.4% versus our 4% full-year expectation, gross and operating margins met our 52.7% and 19.4% forecasts, respectively. The results lead us to believe the firm is on track to meet our long-term targets (5% top-line growth and 21% operating margin on average through 2025).

Zain Akbari, CFA, is an equity analyst for Morningstar.

Despite somewhat soft domestic same-store sales growth, AutoZone continued to boost profitability, with gross and operating margins rising 44 and 20 basis points on the year, respectively. While we believe the tempo will ease, we anticipate the firm should be able to boost margins through operating leverage as it scales. This should allow AutoZone to reverse growth in SG&A expenses as a percentage of sales, particularly as it reaps the benefits of part availability investments, contributing to our estimates for a 22% operating margin by fiscal 2025.

AutoZone has taken a deliberate approach to expanding its megahub network and higher-frequency store inventory replenishment. We believe the strategy is prudent, especially the use of different approaches based on store-level dynamics. Many AutoZone locations skew toward do-it-yourself customers whose needs often do not justify the expense of implementing both initiatives (serving commercial clients at competitive standards often requires both programs). AutoZone differs from O’Reilly’s greater reliance on distribution centers, which we believe befits its more balanced mix of do-it-yourself and professional sales. While the commercial sector’s rising share of AutoZone’s sales may necessitate future store-level strategy shifts, we believe the mix will change slowly and leave ample time to evolve with the market, with 70% of forecast 2025 sales still generated from do-it-yourself clients (versus about 80% now).

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Zain Akbari, CFA does not own shares in any of the securities mentioned above. Find out about Morningstar's editorial policies.
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