O’Reilly Automotive
Annual Report 2004

Plain-text annual report

O ’ R e i l l y A u t o m o t i v e 2 0 0 4 A n n u a l R e p o r t 2 0 0 4 O ’ R e i l l y A u t o m o t i v e A n n u a l R e p o r t 2 0 0 4 H O R S E P O W E R A N O T H E R Y E A R o f F I R I N G O N A L L C Y L I N D E R S 233 SOUTH PATTERSON SPRINGFIELD, MISSOURI 65802 417-862-3333 WWW.OREILLYAUTO.COM F U E L E D W I T H H O R S E P O W E R , O ’ R E I L LY I S F I R I N G O N A L L C Y L I N D E R S a n d G E A R E D U P F O R H I G H - O C TA N E G R O W T H . S U P E R C H A R G E D B Y 1 2 Y E A R S o f RECORD SALES a n d EARNINGS, WE C O N T I N U E A C C E L E R AT I N G T O WA R D $ 2 B I L L I O N I N 2 0 0 5 . T O R E A C H T H AT G O A L , W E ’ R E T U N I N G U P T H E C O M P E T I T I V E A D V A N TA G E S T H AT D R I V E O U R P E R F O R M A N C E – U N B E ATA B L E C U S T O M E R S E R V - I C E , S U P E R I O R D I S T R I B U T I O N S Y S T E M S a n d A U N I Q U E D U A L M A R K E T S T R AT E G Y. BOARD OF DIRECTORS Chub O’Reilly Chair man of the Board Emeritus Charlie O’Reilly Vice Chair man of the Board and Director David O’Reilly Chair man of the Board and Director Larry O’Reilly Vice Chair man of the Board and Director Rosalie O'Reilly-Wooten Director Jay Burchfield Director Compensation Committee - Chair man and Corporate Governance/Nominating Committee Joe Greene Director Corporate Gover nance/ Nominating Committee - Chair man Paul Lederer Director Audit Committee and Compensation Committee John Murphy Director Audit Committee - Chair man and Corporate Gover nance/Nominating Committee Ronald Rashkow Director Audit Committee and Compensation Committee M i s s i o n S t a t e m e n t “O’Reilly Automotive will be the dominant supplier of auto parts in our market areas by offering our retail customers, professional installers and jobbers the best combination of inventory, price, quality and service; providing our team members with competitive wages and benefits, and working conditions which promote high achievement and ensure fair and equitable treatment; and, providing our stockholders with an excellent return on their investment.” m o c . n o s i r r a h k l a f . w w w – i r u o s s i M , s i u o L . t S , e v i t a e r C n o s i r r a H k l a F : n g i s e D 2 0 0 4 F I N A N C I A L H I G H L I G H T S In thousands, except earnings per share data and operating data (a) Year ended December 31 Product Sales Operating Income Net Income Working Capital Total Assets Long-Term Debt Shareholders' Equity Net Income Per Common Share 2004 2003 2002 2001 2000 $1,721,241 $1,511,816 $1,312,490 $1,092,112 $890,421 190,458 117,674 479,662 165,275 100,087 441,617 138,301 81,992 483,623 1,432,357 1,157,033 1,009,419 100,322 947,817 120,977 784,285 190,470 650,524 113,831 66,352 429,527 856,859 165,618 556,291 90,029 51,708 296,272 715,995 90,463 463,731 (assuming dilution) 2.11 1.84 1.53 1.26 1.00 Weighted-Average Common Share (assuming dilution) Stores At Year-End Same-Store Sales Gain 55,711 1,249 6.8% 54,530 1,109 7.8% 53,692 52,786 51,728 981 3.7% 875 8.8% 672 5.0% In 2001, we set our 2-4-Your Future goal of reaching $2 billion in sales by December 31, 2005. In 2005, Team O’Reilly is revved up and geared toward providing outstanding customer service, driving us to reach our goal of $2 billion in sales, this year. Earnings Per Share (a) (assuming dilution) Net Income (a) (in millions) Operating Income (a) (in millions) $2.11 $1.84 $1.53 $1.26 $1.00 $117.7 $100.1 $82.0 $66.4 $51.7 $190.5 $165.3 $138.3 $113.8 $90.0 2000 2001 2002 2003 2004 2000 2001 2002 2003 2004 2000 2001 2002 2003 2004 Earnings per share, assuming dilution, increased 14.7% over 2003. Continued focus on driving sales and taking market share along with our relentless watch over expenses, gave us a 17.6% increase in net income in 2004 over 2003. As a result of our excellent customer service, which drives sales and our continued efforts in controlling expenses, our operating margin for 2004 was 11.1%. (a) 2004 figures are based on income before cumulative effect of accounting change. David O’Reilly Chairman of the Board 2 0 0 4 H O R S E P O W E R L e t t e r t o S h a r e h o l d e r s While we faced many challenges during 2004, we are very pleased at how Team O’Reilly pulled together once again for a successful year. After a very strong first quarter, sales began to soften in the second quarter as a result of unseasonably cool and wet weather. The third quarter remained challenging with below normal temperatures and four hurricanes that tore across the southeast. We were very fortunate that none of our team members suffered severe injuries. We came back strong in the fourth quarter and are very pleased with how we finished the year. Product sales increased 13.9% for the year to $1.72 billion, another milestone on the road to our 2-4-Your Future goal of $2 billion in sales. Net income was up 17.6% over 2003, to $117.7 million and we achieved an operating margin of 11.1%. Comparable store sales increased 6.8%, a tremendous feat considering the 7.8% increase of 2003, along with the difficult weather and high fuel prices we have faced in 2004. We opened 140 new stores in 2004, making us the fourth largest automotive aftermarket retailer in the United States. As part of this expansion, we moved into South Carolina, giving us a presence in 19 contiguous states. For 2005, we are targeting 160 new stores, with a majority in the southeast, to capitalize on the distribution center we will be opening in Atlanta, Georgia in the spring. This represents a continuation of our expansion philosophy to grow into new, contiguous markets while filling in existing markets, as well. We have a number of very exciting projects underway that will ensure our continued leadership in utiliz- ing technology to achieve extremely high levels of customer service and team member productivity. We’re very excited about our diverse advertising and marketing program, with great exposure to our tar- geted demographics through motor sports, college and professional athletics and a variety of cable televi- sion programming and print media. 2 O’REILLY AUTOMOTIVE We continue to emphasize that everything we do as O’Reilly team members should be to live by the values of our Company’s culture. The same values that the 11 original team members approached their jobs with everyday, the same values that have made us the successful company that we are today. We are confident in our aggressive approach to the market and feel that despite swings on a short-term basis, the fundamentals in the industry continue to be very strong. The number and average age of cars on the road and miles driven continue to increase. As the population of vehicles entering prime repair age continues to grow, these factors will continue to support the strength of the automotive aftermarket over time. Team O’Reilly continues to be intensely focused on merchandising and operational improvements to ensure exceptional customer service, which is our number one priority. As our advertising and promotional programs continue driving stronger store traffic, our professional, well trained team members will deliver strong sales. Our stores have never looked better and our commitment to provide great customer service is as strong as ever. On all fronts, our sales team has never been more focused on growing market share. We look back on 2004 pleased with our accomplishments and look forward to 2005 with excitement. We will continue to live the O’Reilly Culture and do the things that have made us one of the top companies in the automotive aftermarket. We would like to thank our shareholders and customers for your continued confidence and support and we would like to thank our team members for your hard work everyday. Together we will continue to succeed in our mission of making O’Reilly Automotive the dominant supplier of auto parts in our market areas. David O’Reilly Chairman of the Board 2004 ANNUAL REPORT 3 AT O ’ R E I L LY, W E H AV E T U R N E D D I S T R I B U T I O N F R O M C A R E F U L LY M A N A G I N G O U R G R O W I N G F O O T P R I N T S O W I T H N I G H T LY D E L I V E R I E S F R O M O U R D I S T R I B U T I O N 4 O’REILLY AUTOMOTIVE A LOGISTICAL PROCESS INTO A STRATEGIC ADVANTAGE – T H AT E V E RY O N E o f O U R 1 , 2 4 9 S TO R E S I S R E S TO C K E D C E N T E R S . 2004 ANNUAL REPORT 5 Greg Henslee Chief Executive Officer and Co-President E L A P S E D T I M E S t r a t e g i c D i s t r i b u t i o n S y s t e m s 2005 will be a very exciting year for us in the area of distribution. In early spring, we will be opening our eleventh distribution center in Atlanta, Georgia. This new distribution center will be a state-of-the-art facility, using all of the best practices and systems developed in our other distribution centers. This facility will be approximately 350,000 square feet and have the capacity to serve 250 stores. The opening of our distribution center in the Atlanta market will enable us to continue expansion efforts in the southeast market area, while being consistent in our contiguous growth philosophy with capability of same day or nightly delivery to every store. In 2004 we began to utilize slotting software that we will fully employ throughout all distribution centers in 2005. This software allows us to determine the flow of products in and out of our distribution centers, while also evaluating the various dimensions of these products. Once that information is determined, we take into account product size to ensure that we are maximizing our shelf space. We are also able to stock inventory in the distribution centers based on product demand. Products with the highest demand are placed in locations that are most accessible to team members who are picking those orders in the distribution centers. We are also in the process of implementing a “hands free/eyes free” voice directed picking system that will allow our distribution center team members to be more productive. Team members that pick orders will begin wearing headsets connected to a device on their belt that communicates with our existing distribution systems. Verbal pick instructions are given thereby eliminating the need for paper picking documents. By eliminating the picking documents, team members can work more accurately and productively. This enhancement to distribution will result in continued reductions in distribution and transportation expenses. 6 O’REILLY AUTOMOTIVE In 2005, we will continue to focus intently on ensuring that we have the right inventory for each of our individual store locations by leveraging the systems we have built over the last several years. Each store stocks an average of 23,000 SKU’s and has overnight access to more than 100,000 SKU’s from one of our ten, soon to be eleven, distribution centers. With our advanced distribution strategy and unmatched SKU availability, we will continue making O’Reilly Auto Parts the First Call our customers make. It’s the many facets of our business, working together and firing on all cylinders that make us the industry leader in customer service. I N E A R L Y S P R I N G , W E W I L L B E O P E N I N G O U R D I S T R I B U T I O N C E N T E R I N A T L A N T A , G E O R G I A . 11TH T H I S F A C I L I T Y W I L L B E H A V E T H E C A P A C I T Y T O S E R V I C E A P P R O X I M A T E L Y 350,000 S Q U A R E F E E T A N D U P T O 250 S T O R E S . 2004 ANNUAL REPORT 7 I N T O D AY ’ S T O U G H S A L E S E N V I R O N M E N T, W E M O M E N T U M W I T H O U R P R O V E N D U A L M A R K E T N E E D S o f P R O F E S S I O N A L I N S TA L L E R S a n d D O - I T- 8 O’REILLY AUTOMOTIVE C O N T I N U E T O P E N E T R AT E N E W M A R K E T S a n d B U I L D S T R AT E G Y – S U C C E S S F U L LY S E R V I N G T H E D I S T I N C T Y O U R S E L F C U S T O M E R S . 2004 ANNUAL REPORT 9 Ted Wise Chief Operating Officer and Co-President T W I N C A R B S O ’ R e i l l y D u a l M a r k e t S t r a t e g y a n d O u r E x p a n d i n g F o o t p r i n t We maintained our strong growth in 2004 by adding 140 new stores to close the year with 1,249 stores in 19 contiguous states. Each O’Reilly Auto Parts store receives nightly delivery from one of our ten distri- bution centers, allowing them daily access to over 100,000 stock keeping units (SKU’s). To achieve this high level of service, each distribution center and store location is carefully planned. Along with the opening of 140 new stores, we also relocated 26 existing stores. Repositioning existing stores into better locations to maximize sales, continues to be a priority. We are committed to finding the best possible location for each O’Reilly Auto Parts store in every community. With years of strategic planning and hard work, we have continued to be successful with our unmatched dual market strategy, with an approximate 50/50 mix of professional and do-it-yourself (DIY) customers. Our commercial sales team has continued to work very hard throughout the year, further understanding the needs of and building relationships with our professional installer customers. Our store team members have provided the knowledgeable, outstanding level of service that our DIY customers have come to rely on. With the opening of our Atlanta distribution center in early spring, we will be able to reach several new expansion markets. With our unique dual market strategy, we are able to successfully penetrate markets that many of our competitors cannot. In smaller communities where some of our competitors might struggle, we are able to succeed as we reach out to both local commercial and retail customers. Through these efforts, we believe we have continued to grow market share in a challenging sales environment. Our proven growth plan will remain the same for 2005. We will continue our expansion efforts by opening 160 new stores, with a majority of those stores in the southeast to capitalize on our new distribution center in Georgia and further utilize the distribution center we opened in Mobile, Alabama in the summer of 2003. 10 O’REILLY AUTOMOTIVE 2 0 0 4 O ’ R e i l l y A u t o P a r t s S t o r e s a n d D i s t r i b u t i o n C e n t e r s D e s M o i n e s K a n s a s C i t y S p r i n g f i e l d O k l a h o m a C i t y L i t t l e R o ck N a s h v i l l e K n o x v i l l e D a l l a s H o u s t o n M o b i l e Distribution Centers O ’ R E I L LY A U TO PA RT S S TAT E S 73 stores 74 stores 10 stores 22 stores 32 stores 8 stores 65 stores 58 stores 35 stores 56 stores mississippi missouri nebraska north carolina oklahoma south carolina tennessee texas virginia TOTA L N U M B E R O F S TO R E S : 1 , 2 4 9 47 stores 142 stores 24 stores 21 stores 100 stores 1 store 93 stores 387 stores 1 store alabama arkansas florida georgia illinois indiana iowa kansas kentucky louisiana 2004 ANNUAL REPORT 11 W E H AV E G A I N E D T H E T R U S T a n d L O YA LT Y o f B O T H D I S T I N C T I V E O ’ R E I L LY B R A N D o f O U T S TA N D I N G C U S T O M E R S E R V I C E I N T O A C L E A R C O M P E T I T I V E 12 O’REILLY AUTOMOTIVE R E TA I L a n d C O M M E R C I A L C U S T O M E R S W I T H O U R FRIENDLY, KNOWLEDGEABLE SERVICE – a n d ELEVATED E D G E I N T H E M A R K E T P L A C E . 2004 ANNUAL REPORT 13 Jim Batten Executive Vice President of Finance and Chief Financial Officer T H E P I T C R E W O ’ R e i l l y C u l t u r e a n d S u p e r i o r C u s t o m e r S e r v i c e Our approximate 50/50 mix of retail versus commercial sales, overnight delivery to every store and our unique growth model are a few of the factors that make us stand out from competition. But it’s the 17,000 team members living by the O’Reilly Culture and providing excellent customer service that make us the number one supplier of auto parts in our markets. Our team members demonstrate the O’Reilly Culture everyday, to build customer loyalty and keep them coming back into our stores. Professional installer customers know that they can count on us to have the quality parts they need, when they need them, and retail customers trust our knowledgeable and friendly service that they receive with each visit to O’Reilly Auto Parts. Our crew of professional parts people is among the best. New team members complete training programs specialized to their position, while experienced team members receive ongoing training on the latest technological developments, management and customer service skills. These factors, coupled with our parts availability, make us the First Call for our customers. We have overnight delivery to every O'Reilly Auto Parts store, which is unique in our industry. So, if our store doesn't have the hard to find part our customer needs, we will have it there the next morning. This is very important to our professional installer customers who are trying to give their customers excellent service and to our retail customers who are trying to get their cars back on the road. This level of customer service is the foundation of our culture. Eleven key values are incorporated into our O’Reilly Culture slogan. “We are enthusiastic, hard-working professionals that are dedicated to teamwork, safety and excellent customer service. We will practice expense control while setting an example of respect, honesty and a win-win attitude in everything we do!” These are the values our company was founded upon forty-eight years ago, and established by our original team members. These are the values that have made us the successful company we are today. Firing on all cylinders means living ALL of the values that make up our culture. 14 O’REILLY AUTOMOTIVE We focus on finding only the best team members who will embrace our values and commit to work together to help our customers. All new team members are given extensive training on the O’Reilly Culture and the importance of those eleven values to the success of our company. Our culture is rein- forced to veteran team members through internal posters, publications, meetings and promotions. We dedicate a great deal of time and resources to reinforce the values of the O’Reilly Culture and our sense of unity as One Team committed to One Goal. We believe that there is nothing more important than investing in our team members, as they are our biggest asset. Our team members have brought us suc- cess and will continue to drive us forward in the years ahead. Product Sales (in millions) Comparable Store Sales Numbers of Stores $1,721.2 8.8% $1,511.8 $1,312.5 $1,092.1 $890.4 7.8% 6.8% 5.0% 3.7% 1,249 1,109 981 875 672 2000 2001 2002 2003 2004 2000 2001 2002 2003 2004 2000 2001 2002 2003 2004 Product sales increased 13.9% in 2004 and we are geared up to reach our 2-4-Your Future goal of $2 billion in sales by December 31, 2005. Comparable store product sales measures increases in sales of existing stores open at least one year. In 2005, we plan to open 160 new stores, located primarily in the southeast to further capitalize on our distribution centers in Alabama and Georgia. 2004 ANNUAL REPORT 15 I N T H E H I G H LY C O M P E T I T I V E W O R L D o f A U T O R A C I N G , W I N N I N G C O M E S D O W N T O H O R S E P O W E R , T H E D E T E R M I N AT I O N o f T H E D R I V E R a n d S K I L L o f T H E C R E W, a n d T H E S U P E R I O R I T Y a n d P R E P A R AT I O N o f T H E R A C E C A R . I N T H E E Q U A L LY C O M P E T I T I V E A U T O P A R T S B U S I N E S S , W E L O O K T O T H E S E S A M E S T R E N G T H S T O F U E L O U R C O N T I N U E D G R O W T H a n d S U C C E S S . T O D AY, W E ’ R E D R I V I N G I N C R E A S E D P R O F I TA B I L I T Y a n d A C C E L E R AT I N G I N T O K E Y N E W M A R K E T S A S W E S P E E D T O W A R D $ 2 B I L L I O N I N S A L E S . . . 16 O’REILLY AUTOMOTIVE 2004 ANNUAL REPORT 17 18 O’REILLY AUTOMOTIVE 2004 ANNUAL REPORT 19 20 O’REILLY AUTOMOTIVE . . . F I R I N G O N A L L C Y L I N D E R S . 2 0 0 4 F I N A N C I A L R E S U L T S 2004 ANNUAL REPORT 21 SELECTED CONSOLIDATED FINANCIAL DATA (In thousands, except per share data) Years ended December 31, INCOME STATEMENT DATA: Product sales 2004 2003 2002 $1,721,241 $1,511,816 $1,312,490 Cost of goods sold, including warehouse and distribution expenses Gross profit Operating, selling, general and administrative expenses Operating income Other income (expense), net Income before income taxes and cumulative effect of accounting change Provision for income taxes Income before cumulative effect of accounting change Cumulative effect of accounting change, net of tax (a) 978,076 743,165 552,707 190,458 (2,721) 187,737 70,063 117,674 21,892 873,481 638,335 473,060 165,275 (5,233) 160,042 59,955 100,087 - 759,090 553,400 415,099 138,301 (7,319) 130,982 48,990 81,992 - Net income $ 139,566 $ 100,087 $ 81,992 BASIC EARNINGS PER COMMON SHARE: Income before cumulative effect of accounting change $ 2.14 $ 1.86 $ 1.54 Cumulative effect of accounting change (a) Net income per share Weighted-average common shares outstanding EARNINGS PER COMMON SHARE-ASSUMING DILUTION: Income before cumulative effect of accounting change Cumulative effect of accounting change (a) Net income per share Weighted-average common shares outstanding – adjusted PRO FORMA INCOME STATEMENT DATA: Product sales Cost of goods sold, including warehouse and distribution expenses Gross profit Operating, selling, general and administrative expenses Operating income Other income (expense), net Income before income taxes Provision for income taxes Net income Net income per share Net income per share – assuming dilution 0.40 $ 2.54 55,010 $ 2.11 0.40 $ 2.51 55,711 N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A N/A - - $ 1.86 $ 1.54 53,908 53,114 $1.84 - $ 1.53 - $ 1.84 $ 1.53 54,530 53,692 $1,511,816 $1,312,490 872,658 639,158 473,060 166,098 (5,233) 160,865 60,266 $ 100,599 $ $ 1.87 1.84 $ $ $ 754,844 557,646 415,099 142,547 (7,319) 135,228 50,595 84,633 1.59 1.58 (a) See Management’s Discussion and Analysis of Financial Condition and Results of Operations, 2004 Compared to 2003 for cumulative effect of accounting change. 22 O’REILLY AUTOMOTIVE 2001 2000 1999 1998 1997 1996 1995 $1,092,112 $ 890,421 $ 754,122 $ 616,302 $ 316,399 $ 259,243 $ 201,492 624,294 467,818 353,987 113,831 (7,104) 106,727 40,375 66,352 - 507,720 382,701 292,672 90,029 (6,870) 83,159 31,451 51,708 - 428,832 325,290 248,370 76,920 (3,896) 73,024 27,385 45,639 - 358,439 257,863 200,962 56,901 (6,958) 49,943 19,171 30,772 - 181,789 134,610 97,526 37,084 472 37,556 14,413 23,143 - 150,772 108,471 79,620 28,851 1,182 30,033 11,062 18,971 - 116,768 84,724 62,687 22,037 236 22,273 8,182 14,091 - $ 66,352 $ 51,708 $ 45,639 $ 30,772 $ 23,143 $ 18,971 $ 14,091 $ 1.27 - $ 1.27 52,121 $ $ 1.01 - 1.01 51,168 $ 1.26 $ 1.00 - - $ 1.26 $ 1.00 $ $ $ $ 0.94 - 0.94 $ 0.72 $ 0.55 - - $ 0.72 $ 0.55 48,674 42,476 42,086 0.92 - 0.92 $ 0.71 $ 0.54 - - $ 0.71 $ 0.54 $ $ $ $ 0.45 - 0.45 41,728 0.45 - 0.45 52,786 51,728 49,715 43,204 42,554 42,064 $ 0.40 - $ 0.40 35,640 $ 0.39 - $ 0.39 35,804 $1,092,112 $ 890,421 $ 754,122 $ 616,302 $ 316,399 $ 259,243 $ 201,492 618,217 473,895 353,987 119,908 (7,104) 112,804 42,672 70,132 1.35 1.33 $ $ $ 501,567 388,854 292,672 96,182 (6,870) 89,312 33,776 425,229 328,893 248,370 80,523 (3,896) 76,627 28,747 350,581 265,721 200,962 64,759 (6,958) 57,801 22,141 $ 55,536 $ 47,880 $ $ 1.09 1.07 $ $ 0.98 0.96 $ 35,660 $ 0.84 $ 0.83 180,170 136,229 97,526 38,703 472 39,175 15,025 24,150 0.57 0.57 $ $ $ 149,248 109,995 79,620 30,375 1,182 31,557 11,638 115,730 85,762 62,687 23,075 236 23,311 8,574 $ 19,919 $ 0.48 $ 0.47 $ 14,737 $ $ 0.41 0.41 2004 ANNUAL REPORT 23 SELECTED CONSOLIDATED FINANCIAL DATA (continued) (In thousands, except selected operating data) Years ended December 31, SELECTED OPERATING DATA: Number of stores at year-end (a) Total store square footage at year-end (in 000’s) (a) (b) Weighted-average product sales per store (in 000’s) (a) (b) Weighted-average product sales per square foot (b) (d) 2004 1,249 8,318 $ 1,443 $ 217 2003 1,109 7,348 2002 981 6,408 $ 1,413 $ 215 $ 1,372 $ 211 Percentage increase in same-store product sales (c) 6.8% 7.8% 3.7% BALANCE SHEET DATA: Working capital Total assets $ 479,662 $ 441,617 $ 483,623 1,432,357 1,157,033 1,009,419 Current portion of long-term debt and short-term debt 592 925 682 Long-term debt, less current portion 100,322 120,977 190,470 Shareholders’ equity 947,817 784,285 650,524 (a) Store count for 2002 does not include 27 stores acquired from Dick Smith Enterprises and Davie Automotive, Inc. in December 2002. (b) Total square footage includes normal selling, office, stockroom and receiving space. Weighted-average product sales per store and per square foot are weighted to consider the approximate dates of store openings or expansions. (c) Same-store product sales are calculated based on the change in product sales of stores open at least one year. Prior to 2000, same-store product sales data were calculated based on the change in product sales of only those stores open during both full periods being compared. Percentage increase in same-store product sales is calculated based on store sales results, which exclude sales of specialty machinery, sales by outside salesmen and sales to employees. (d) 1998 does not include stores acquired from Hi/LO. Consolidated weighted-average product sales per square foot were $207. 24 O’REILLY AUTOMOTIVE 2001 875 5,882 1,426 219 $ $ 2000 672 4,491 $ 1,412 $ 218 $ $ 1999 571 3,777 1,422 223 1998 491 3,172 1,368 238 $ $ 1997 259 1,417 1,300 $ $ 244 1996 219 1,151 1995 188 923 $ 1,240 $ 251 $ 1,101 $ 227 8.8% 5.0% 9.6% 6.8% 6.8% 14.4% 8.9% $ 429,527 $ 296,272 $ 249,351 $ 208,363 $ 93,763 $ 74,403 $ 80,471 856,859 715,995 610,442 493,288 247,617 183,623 153,604 16,843 49,121 19,358 13,691 130 3,154 165,618 90,463 90,704 170,166 22,641 237 231 358 556,291 463,731 403,044 218,394 182,039 155,782 133,870 2004 ANNUAL REPORT 25 MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion of our financial condition, results of operations and liquidity and capital resources should be read in conjunction with our consoli- dated financial statements, related notes and other financial information included elsewhere in this annual report. We are one of the largest specialty retailers of automotive aftermarket parts, tools, supplies, equipment and accessories in the United States, selling our products to both do-it-yourself (DIY) customers and professional installers. Our stores carry an extensive product line consisting of new and remanu- factured automotive hard parts, maintenance items and accessories, and a complete line of auto body paint and related materials, automotive tools and professional service equipment. We calculate same-store product sales based on the change in product sales for stores open at least one year. Prior to January 2000, we calculated same-store product sales based on the change in product sales of only those stores open during both full periods being compared. We calculate the percentage increase in same-store product sales based on store sales results, which exclude sales of specialty machinery, sales by outside salesmen and sales to team members. Cost of goods sold consists primarily of product costs and warehouse and distribution expenses. Cost of goods sold as a percentage of product sales may be affected by variations in our product mix, price changes in response to competitive factors and fluctuations in merchandise costs and vendor programs. Operating, selling, general and administrative expenses consist primarily of salaries and benefits for store and corporate team members, occupancy, advertising expenses, general and administrative expenses, data processing, professional expenses and other related expenses. CRITICAL ACCOUNTING POLICIES AND ESTIMATES The fundamental objective of financial reporting is to provide useful information that allows a reader to comprehend the business activities of our company. To aid in that understanding, management has identified our “critical accounting policies.” These policies have the potential to have a more significant impact on our financial statements, either because of the significance of the financial statement item to which they relate, or because they require judgment and estimation due to the uncertainty involved in measuring, at a specific point in time, events which are continuous in nature. ■ Cost of goods sold – Cost of goods sold includes warehouse and distribution expenses and estimates of amounts due from vendors for certain merchandise allowances and rebates. These estimates are consistent with historical experience. ■ Operating, selling, general and administrative expense (OSG&A) – Operating, selling, general and administrative expense includes estimates for medical, workers’ compensation and other general liability insurance obligations, which are partially based on estimates of certain claim costs and historical experience. ■ Accounts receivable – Allowance for doubtful accounts is estimated based on historical loss ratios and consistently has been within management’s expectations. ■ Revenue – Over-the-counter retail sales are recorded when the customer takes possession of merchandise. Sales to professional installers, also referred to as “commercial sales”, are recorded upon delivery of merchandise to the customer, generally at the customer’s place of business. Wholesale sales to other retailers, also referred to as “jobber sales” are recorded upon shipment of merchandise. All sales are recorded net of estimated allowances and discounts. ■ Vendor concessions – The Company receives concessions from its vendors through a variety of programs and arrangements, including co-operative advertising, allowances for warranties and volume purchase rebates. Co-operative advertising allowances that are incremental to our advertising program, specific to a product or event and identifiable for accounting purposes are reported as a reduction of advertising expense in the period in which the advertising occurred. All other vendor concessions are recognized as a reduction of cost of sales when recognized in the consolidated statement of income. 26 O’REILLY AUTOMOTIVE MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) Stock-based compensation – We have elected to use the intrinsic value method of accounting for stock options issued under our stock option plans and accordingly do not record an expense for such stock options. For purposes of pro forma disclosures under the fair value method, the estimated fair value of the options is amortized to expense over the options' vesting period. During the fourth quarter of 2004, the Company changed its method of applying its LIFO accounting policy for inventory costs (see Note 2 - Accounting Changes). Our stock compensation pro forma information for the years ended December 31, is as follows, both excluding and including the effects of the inventory accounting change: (In thousands, except per share data) Excluding inventory accounting change Net income, as reported Stock-based compensation expense, net of tax, as reported Stock-based compensation expense, net of tax, under fair value method Pro forma net income Pro forma basic net income per share Pro forma net income per share-assuming dilution Net income per share, as reported Basic Assuming dilution Including inventory accounting change Net income Stock based compensation expense, net of tax, as reported Stock based compensation expense, net of tax, under fair value method Pro forma net income Pro forma basic net income per share Pro forma net income per share-assuming dilution RESULTS OF OPERATIONS 2004 2003 $139,566 - 7,468 $132,098 $ $ $ $ 2.40 2.37 2.54 2.51 N/A N/A N/A N/A N/A N/A $100,087 - 9,204 $ 90,883 $ $ $ $ 1.69 1.67 1.86 1.84 $100,599 - 9,204 $ 91,395 $ $ 1.70 1.68 The following table sets forth, certain income statement data as a percentage of product sales for the years indicated: Years ended December 31, Product sales Cost of goods sold, including warehouse and distribution expenses Gross profit Operating, selling, general and administrative expenses Operating income Other expense, net Income before income taxes and cumulative effect of accounting change Provision for income taxes Income before cumulative effect of accounting change Cumulative effect of accounting change, net of tax Net income 2004 100.0% 56.8 43.2 32.1 11.1 (0.2) 10.9 4.1 6.8 1.3 2003 100.0% 57.8 42.2 31.3 10.9 (0.3) 10.6 4.0 6.6 - 2002 $81,992 - 7,217 $74,775 $ 1.41 $ 1.39 $ 1.54 $ 1.53 $84,633 - 7,217 $77,416 $ 1.46 $ 1.44 2002 100.0% 57.8 42.2 31.6 10.6 (0.6) 10.0 3.7 6.3 - 8.1% 6.6% 6.3% See Management’s Discussion and Analysis of Financial Condition and Results of Operations, 2004 Compared to 2003, for detailed information on cumulative effect of accounting change. 2004 ANNUAL REPORT 27 ■ MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) 2004 COMPARED TO 2003 Product sales increased $209.4 million, or 13.9% from $1.51 billion in 2003 to $1.72 billion in 2004, primarily due to 140 net additional stores opened during 2004, and a 6.8% increase in same-store product sales for stores open at least one year. We believe that the increased product sales achieved by the existing stores are the result of our offering of a broader selection of products in most stores, an increased promotional and advertising effort through a variety of media and localized promotional events, and continued improvement in the merchandising and store layouts of most stores. Also, our continued focus on serving professional installers contributed to increased product sales. Gross profit increased 16.4% from $638.3 million (42.2% of product sales) in 2003 to $743.2 million (43.2% of product sales) in 2004. Gross profit dollars rose $100.4 million due to the increase in product sales and $4.4 million due to a change in accounting method. The increase in gross profit as a percent of product sales is related to improvements in our distribution cost and improved product margin related to product acquisition cost. OSG&A increased $79.6 million from $473.1 million (31.3% of product sales) in 2003 to $552.7 million (32.1% of product sales) in 2004. 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. Corrections of errors related to lease accounting represented $10.4 million ($3.5 million related to 2004) of the increase. Rent expense increased $4.4 million ($0.9 million related to 2004), as a result of corrections in the Company’s method of calculating straight-line rent expense. Depreciation increased $6.0 million ($2.6 million related to 2004), as a result of corrections in the Company’s method of calculating amortization of leasehold improvements. The Company’s policy is to amortize leasehold improvements over the lesser of the lease term or the estimated economic life of those assets. Generally, for stores the lease term is the base lease term and for distribution centers the lease term includes the base lease term plus certain renewal option periods for which renewal is reasonably assured and failure to exercise the renewal option would result in an economic penalty. The calculation for straight-line rent expense is based on the same lease term. Previously, leasehold improvements were amortized over a period of time which included both the base lease term and the first renewal option period of the lease and rent expense was recorded as paid. Other expense, net, decreased by $2.5 million from $5.2 million in 2003 to $2.7 million in 2004. The decrease was primarily due to a reduction in interest expense as a result of lower average borrowings under our credit facility. Provision for income taxes increased from $60.0 million in 2003 (37.5% effective tax rate) to $70.1 million in 2004 (37.3% effective tax rate). The increase in the dollar amount was primarily due to the increase of income before income taxes. The cumulative change in accounting method, effective January 1, 2004, changed the method of applying our LIFO accounting policy for certain inventory costs. Under the new method, we inventoried certain procurement, warehousing and distribution center costs. The previous method was to recognize those costs as incurred, reported as a component of costs of goods sold. We believe the new method is preferable, since it better matches revenues and expenses and is the prevalent method used by other entities within the automotive aftermarket industry. Net income in 2004 was $139.6 million (8.1% of product sales), an increase of $39.5 million or 39.4%, from net income in 2003 of $100.1 million (6.6% of product sales). 2003 COMPARED TO 2002 Product sales increased $199.3 million, or 15.2% from $1.31 billion in 2002 to $1.51 billion in 2003, primarily due to 128 net additional stores opened during 2003, and a 7.8% increase in same-store product sales for stores open at least one year. We believe that the increased product sales achieved by the existing stores are the result of our offering of a broader selection of products in most stores, an increased promotional and advertising effort through a variety of media and localized promotional events, and continued improvement in the merchandising and store layouts of most stores. Also, our continued focus on serving professional installers contributed to increased product sales. Gross profit increased 15.4% from $553.4 million (42.2% of product sales) in 2002 to $638.3 million (42.2% of product sales) in 2003. The increase in gross profit dollars is due to the increase in product sales. OSG&A increased $58.0 million from $415.1 million (31.6% of product sales) in 2002 to $473.1 million (31.3% of product sales) in 2003. 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 decrease in OSG&A expenses as a percent of product sales was primarily due to achieving greater economies of scale resulting from increased product sales and through management’s expense control initiatives. 28 O’REILLY AUTOMOTIVE MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) Other expense, net, decreased by $2.1 million from $7.3 million in 2002 to $5.2 million in 2003. The decrease was primarily due to a reduction in interest expense as a result of lower average borrowings under our credit facility and to a lesser extent lower average interest rates. Provision for income taxes increased from $49.0 million in 2002 (37.4% effective tax rate) to $60.0 million in 2003 (37.5% effective tax rate). The increase in the dollar amount was primarily due to the increase of income before income taxes. Net income in 2003 was $100.1 million (6.6% of product sales), an increase of $18.1 million or 22.1%, from net income in 2002 of $82.0 million (6.3% of product sales). LIQUIDITY AND CAPITAL RESOURCES Net cash provided by operating activities was $226.5 million in 2004, $168.8 million in 2003 and $104.5 million in 2002. The increase in cash provided by operating activities in 2004 compared to 2003 was primarily due to increases in net income and accounts payable, partially offset by increases in receivables and inventory. The increase in accounts payable was primarily due to management’s efforts with vendors to extend the terms of payment. The increases in accounts receivable and inventory primarily relate to the increased level of our operations. The increase in cash provided by operating activities in 2003 compared to 2002 was primarily due to increases in net income and accounts payable and a smaller increase in inventory than the prior year. The increase in accounts payable was primarily due to management’s efforts with vendors to extend the terms of payment. Inventory growth was reduced by transition of certain product lines to vendor consignment programs. Net cash used in investing activities was $172.0 million in 2004, $130.6 million in 2003 and $105.4 million in 2002. The increase in cash used in investing activities in 2004 and 2003 was primarily due to increased purchases of property and equipment. Capital expenditures were $173.5 million in 2004, $136.5 million in 2003 and $102.3 million in 2002. These expenditures were primarily related to the opening of new stores, as well as the relocation or remodeling of existing stores. We either opened or acquired 140, 128 and 106 net stores in 2004, 2003 and 2002, respectively. We remodeled or relocated 30 stores and remodeled one distribution center in 2004, remodeled or relocated 46 stores and two distribution centers in 2003 and 27 stores in 2002. One new distribution center was acquired in 2003, located near Mobile, Alabama. Our continuing store expansion program requires significant capital expenditures and working capital principally for inventory requirements. Our 2005 growth plans call for approximately 160 new stores and capital expenditures of $175 million to $185 million. The costs associated with the opening of a new store (including the cost of land acquisition, improvements, fixtures, inventory and computer equipment) are estimated to average approximately $900,000 to $1.1 million; however, such costs may be significantly reduced where we lease, rather than purchase, the store site. Although the cost to acquire the business of an independently owned parts store varies, depending primarily upon the amount of inventory and the amount, if any, of real estate being acquired, we estimate that the average cost to acquire such a business and convert it to one of our stores is approximately $400,000. We plan to finance our expansion program through cash expected to be provided from operating activities and available borrowings under our existing credit facilities. On July 29, 2002, we completed an unsecured, three-year syndicated credit facility (Credit Facility) in the amount of $150 million led by Wells Fargo Bank as the Administrative Agent, replacing a five-year syndicated credit facility. The Credit Facility is guaranteed by all of our subsidiaries and may be increased to a total of $200 million, subject to the availability of such additional credit from either existing banks within the Credit Facility or other banks. At December 31, 2004 we had no outstanding balance with the Credit Facility. The Credit Facility bears interest at LIBOR plus a spread ranging from 0.875% to 1.375% (2.06% at December 31, 2003) and expires in July 2005. At December 31, 2003, $20.0 million of the Credit Facility was outstanding. Additionally, letters of credit totaling $21.3 million and $11.0 million were outstanding at December 31, 2004 and 2003, respectively. Accordingly, our aggregate availability for additional borrowings under the Credit Facility was $128.7 million and $119.0 million at December 31, 2004 and 2003, respectively. OFF BALANCE SHEET ARRANGEMENTS We have utilized various financial instruments from time to time as sources of cash when such instruments provided a cost effective alternative to our existing sources of cash. We do not believe, however, that we are dependent on the availability of these instruments to fund our working capital requirements or our growth plans. On December 29, 2000, we completed a sale-leaseback transaction. Under the terms of the transaction, we sold 90 properties, including land, buildings and improvements, which generated $52.3 million of additional cash. The lease, which is being accounted for as an operating lease, provides for an initial lease term of 21 years and may be extended for one initial ten-year period and two additional successive periods of five years 2004 ANNUAL REPORT 29 MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) each. The resulting gain of $4.5 million has been deferred and is being amortized over the initial lease term. Net rent expense during the initial term will be approximately $5.5 million annually and is included in the table of contractual obligations under non-cancelable operating leases. In August 2001, we completed a sale-leaseback with O’Reilly-Wooten 2000 LLC (an entity owned by certain shareholders of the Company). The transaction involved the sale and leaseback of nine O’Reilly Auto Parts stores and resulted in approximately $5.6 million of additional cash to the Company. The transaction did not result in a material gain or loss. The lease, which has been accounted for as an operating lease, calls for an initial term of 15 years with three five-year renewal options. On June 26, 2003, we completed an amended and restated master agreement to our $50 million Synthetic Operating Lease Facility (the Facility or the Synthetic Lease) with a group of financial institutions. The terms of the Facility provide for an initial lease period of five years, a residual value guarantee of approximately $43.2 million at December 31, 2004, and purchase options on the properties. The Facility also contains a provision for an event of default whereby the lessor, among other things, may require us to purchase any or all of the properties. One additional renewal period of five years may be requested from the lessor, although the lessor is not obligated to grant such renewal. The Facility has been accounted for as an operating lease under the provisions of Financial Accounting Standards Board (FASB) Statement of Financial Accounting Standards (SFAS) No. 13 and related interpretations, including FASB Interpretation No. 46. Future minimum rental commitments under the Facility have been included in the table of contractual obligations below. We issue stand-by letters of credit provided by a $30 million sublimit under the Credit Facility that reduce our available borrowings. These letters of credit are issued primarily to satisfy the requirements of workers compensation, general liability and other insurance policies. Substantially all of the outstanding letters of credit have a one-year term from the date of issuance and have been issued to replace surety bonds that were previously issued. Letters of credit totaling $21.3 million and $11.0 million were outstanding at December 31, 2004 and 2003, respectively. CONTRACTUAL OBLIGATIONS We have other liabilities reflected in our balance sheet, including deferred income taxes and self-insurance accruals. The payment obligations associated with these liabilities are not reflected in the financial commitments table due to the absence of scheduled maturities. Therefore, the timing of these payments cannot be determined, except for amounts estimated to be payable in 2005 that are included in current liabilities. Our contractual obligations, including commitments for future payments under non-cancelable lease arrangements and short and long-term debt arrangements, are summarized below and are fully disclosed in Notes 4 and 5 to the consolidated financial statements. Payments Due By Period (In thousands) CONTRACTUAL OBLIGATIONS: Long-term debt Operating leases Total contractual cash obligations Total $100,914 315,043 $415,957 Before 1 Year $ 592 36,341 $36,933 1-3 Years $ 75,317 66,108 $141,425 4-5 Years $ 25,005 52,576 $ 77,581 Over 5 Years $ - 160,018 $160,018 We believe that our existing cash and cash equivalents, cash expected to be provided by operating activities, available bank credit facilities and trade credit will be sufficient to fund both our short-term and long-term capital needs for the foreseeable future. INFLATION AND SEASONALITY We attempt to mitigate the effects of merchandise cost increases principally by taking advantage of vendor incentive programs, economies of scale resulting from increased volume of purchases and selective forward buying. As a result, we do not believe that our operations have been materially affected by inflation. Our business is somewhat seasonal, primarily as a result of the impact of weather conditions on store sales. Store sales and profits have historically been higher in the second and third quarters (April through September) of each year than in the first and fourth quarters. RESTATEMENT OF QUARTERLY RESULTS The following table sets forth certain quarterly unaudited operating data for fiscal 2004 and 2003. The unaudited quarterly information includes all adjustments which management considers necessary for a fair presentation of the information shown. We have restated our quarterly financial informa- tion for each of the first three quarters of 2004. Effective January 1, 2004, the Company changed its method of applying its LIFO accounting policy for inventory costs. Under the new method, the Company has inventoried certain warehousing and distribution center costs. The Company’s previous method recorded these expenses directly into cost of goods sold. The Company believes the change in application of accounting method is preferable as 30 O’REILLY AUTOMOTIVE MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) it more accurately matches revenues and expenses and is the prevelant method used by other entities within the Company’s industry. The cumulative effect of this change in application of accounting method is $21,892,000 as of January 1, 2004, net of the related deferred tax effect of $13,303,000. The unaudited operating data presented below should be read in conjunction with our consolidated financial statements and related notes included elsewhere in this annual report, and the other financial information included therein. (In thousands, except per share data) Product sales Gross profit Operating income Income before cumulative effect First Quarter Second Quarter Third Quarter Previously Reported $403,294 169,338 43,772 Restated $403,294 169,593 44,027 Previously Reported $435,167 187,758 52,565 Restated $435,167 189,435 54,242 Previously Reported $455,162 195,848 53,809 Restated $455,162 198,169 56,130 Fiscal 2004 Fourth Quarter(a) $427,618 185,968 36,059 of accounting change 27,126 27,285 32,652 33,695 33,243 34,687 22,007 Cumulative effect of accounting change, net of tax Net income Basic net income per common share before cumulative effect of accounting change Cumulative effect of accounting change, net of tax Basic net income per common share Diluted net income per common share before cumulative effect of accounting change Cumulative effect of accounting change, net of tax Net income per common share-assuming dilution - 27,126 21,892 49,177 - 32,652 - 33,695 - 33,243 - 34,687 - 22,007 0.50 - 0.50 0.49 - 0.49 0.50 0.40 0.90 0.49 0.39 0.88 0.59 0.61 0.60 0.63 0.40 - - - - - 0.59 0.61 0.60 0.63 0.40 0.59 0.61 0.60 0.62 0.39 - - - - - 0.59 0.61 0.60 0.62 0.39 (a) During the fourth quarter 2004, the Company recorded a correction of an error of $10.4 million ($3.5 million related to 2004) $6.5 million, net of tax. See Note 1 to our consolidated financial statements. (In thousands, except per share data) Product sales Gross profit Operating income Net income Basic net income per common share Net income per common share-assuming dilution First Quarter $339,475 140,946 33,341 19,728 0.37 0.37 Second Quarter $393,112 165,713 44,726 26,924 0.50 0.50 Third Quarter $412,182 175,653 48,362 29,533 0.55 0.54 Fiscal 2003 Fourth Quarter $367,047 156,023 38,846 23,902 0.44 0.43 2004 ANNUAL REPORT 31 MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS (continued) NEW ACCOUNTING STANDARDS In November 2004, the FASB issued SFAS 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4. The standard requires that abnormal amounts of idle capacity and spoilage costs should be excluded from the cost of inventory and expensed when incurred. The provision is effective for fiscal periods beginning after June 15, 2005. We do not expect the adoption of this standard to have a material effect on our financial position, results of operations or cash flows. In December 2004, the FASB issued SFAS 153, Exchanges of Nonmonetary Assets, an amendment of APB No. 29, Accounting for Nonmonetary Transactions. SFAS 153 requires exchanges of productive assets to be accounted for at fair value, rather than at carryover basis, unless (1) neither the asset received nor the asset surrendered has a fair value that is determinable within reasonable limits or (2) the transactions lack commercial substance. SFAS 153 is effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. We do not expect the adoption of this standard to have a material effect on our financial position, results of operations or cash flows. In December 2004, the FASB issued SFAS No. 123R, Share-Based Payment. SFAS No. 123R is a revision of SFAS No. 123, Accounting for Stock Based Compensation, and supersedes APB 25. Among other items, SFAS 123R eliminates the use of APB 25 and the intrinsic value method of accounting, and requires companies to recognize the cost of employee services received in exchange for awards of equity instruments, based on the grant date fair value of those awards, in the financial statements. The effective date of SFAS 123R is the first reporting period beginning after June 15, 2005, which is third quarter 2005 for calendar year companies, such as ourselves, although early adoption is allowed. SFAS 123R permits companies to adopt its requirements using either a “modified prospective” method, or a “modified retrospective” method. Under the “modified prospective” method, compensation cost is recognized in the financial statements beginning with the effective date, based on the requirements of SFAS 123R for all share-based payments granted after that date, and based on the requirements of SFAS 123 for all unvested awards granted prior to the effective date of SFAS 123R. Under the “modi- fied retrospective” method, the requirements are the same as under the “modified prospective” method, but also permits entities to restate financial statements of previous periods based on pro forma disclosures made in accordance with SFAS 123. We currently utilize a standard option pricing model (i.e., Black-Scholes) to measure the fair value of stock options granted to employees. While SFAS 123R permits entities to continue to use such a model, the standard also permits the use of a “lattice” model. We have not yet determined which model we will use to measure the fair value of employee stock options upon the adoption of SFAS 123R. SFAS 123R also requires that the benefits associated with the tax deductions in excess of recognized compensation cost be reported as a financing cash flow, rather than as an operating cash flow as required under current literature. This requirement will reduce net operating cash flows and increase net financing cash flows in periods after the effective date. These future amounts cannot be estimated, because they depend on, among other things, when employees exercise stock options. However, the amount of operating cash flows recognized in prior periods for such excess tax deductions, as shown in our Consolidated Statement of Cash Flows, were $4.5 million, $5.5 million, and $1.5 million, for the years ended December 31, 2004, 2003, and 2002, respectively. We currently expect to adopt SFAS 123R effective July 1, 2005; however, we have not yet determined which of the aforementioned adoption methods we will use and are still evaluating the standard. See Note 8 for further information on our stock-based compensation plans. FORWARD-LOOKING STATEMENTS We claim the protection of the safe-harbor for forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. You can identify these statements by forward-looking words such as “expect,” “believe,” “anticipate,” “good,” “plan,” “intend,” “estimate,” “project,” “will” or similar words. In addition, statements contained within this annual report that are not historical facts are forward-looking statements, such as statements discussing among other things, expected growth, store development and expansion strategy, business strategies, future revenues and future performance. These forward-looking statements are based on estimates, projections, beliefs and assumptions and are not guarantees of future events and results. Such statements are subject to risks, uncertainties and assumptions, including, but not limited to, competition, product demand, the market for auto parts, the economy in general, inflation, consumer debt levels, governmental approvals, our ability to hire and retain qualified employees, risks associated with the integration of acquired businesses, weather, terrorist activities, war and the threat of war. Actual results may materially differ from anticipated results described or implied in these forward-looking statements. Please refer to the Risk Factors sections of the annual report on Form 10-K for the year ended December 31, 2004, for additional factors that could materially affect our financial performance. 32 O’REILLY AUTOMOTIVE MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING The management of O’Reilly Automotive, Inc. and Subsidiaries (the Company) is responsible for establishing and maintaining adequate internal control over financial reporting. Our internal control system is designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with accounting principles generally accepted in the United States. Internal control over financial reporting includes all policies and procedures that: pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the Company; provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with GAAP, and that receipts and expenditures of the Company are being made only in accordance with authorizations of management and directors of the Company; and provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use or disposition of the Company’s assets that could have a material effect on the financial statements. All internal control systems, no matter how well designed, have inherent limitations. Therefore, even those systems determined to be effective can provide only reasonable assurance with respect to financial statement preparation and presentation. Also, projections of any evaluation of effectiveness to future periods are subject to the risk. Over time, controls may become inadequate because of changes in conditions or deterioration in the degree of compliance with policies or procedures. Under the supervision and with the participation of our management, including our principal Executive Officer and our principal Financial Officer, we assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2004. In making this assessment, we used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (COSO) in Internal Control – Integrated Framework. Based on our assessment, we believe that as of December 31, 2004, the Company’s internal control over financial reporting is effective based on those criteria. Ernst & Young LLP, Independent Registered Public Accounting Firm, that audited the Company’s consolidated financial statements has issued an attes- tation report on management’s assessment of the Company’s internal control over financial reporting, as stated in their report which is included herein. Greg Henslee Chief Executive Officer & Co-President Jim Batten Executive Vice President of Finance & Chief Financial Officer 2004 ANNUAL REPORT 33 ■ ■ ■ REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM THE BOARD OF DIRECTORS AND SHAREHOLDERS OF O’REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES We have audited management’s assessment, included in the accompanying Management’s Report on Internal Control Over Financial Reporting, that O’Reilly Automotive, Inc. and Subsidiaries maintained effective internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (the COSO criteria). O’Reilly Automotive, Inc. and Subsidiaries’ management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting. Our responsibility is to express an opinion on management’s assessment and an opinion on the effectiveness of the company’s internal control over financial reporting based on our audit. We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit included obtaining an understanding of internal control over financial reporting, evaluating management’s assessment, testing and evaluating the design and operating effectiveness of internal control, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion. A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements. Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate. In our opinion, management’s assessment that O’Reilly Automotive, Inc. and Subsidiaries maintained effective internal control over financial reporting as of December 31, 2004, is fairly stated, in all material respects, based on the COSO criteria. Also, in our opinion, O’Reilly Automotive, Inc. and Subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2004, based on the COSO criteria. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of O’Reilly Automotive, Inc. and Subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of income, share- holders’ equity, and cash flows for each of the three years in the period ended December 31, 2004 of O’Reilly Automotive, Inc. and Subsidiaries and our report dated March 7, 2005 expressed an unqualified opinion thereon. Kansas City, Missouri March 7, 2005 34 O’REILLY AUTOMOTIVE CONSOLIDATED BALANCE SHEETS (In thousands, except per share data) December 31, ASSETS Current assets: Cash and cash equivalents Accounts receivable, less allowance for doubtful accounts of $3,417 in 2004 and $986 in 2003 Amounts receivable from vendors, net Inventory Deferred income taxes Other current assets Total current assets Property and equipment, at cost: Land Buildings Leasehold improvements Furniture, fixtures and equipment Vehicles Accumulated depreciation and amortization Net property and equipment Notes receivable, less current portion Other assets, net Total assets LIABILITIES AND SHAREHOLDERS' EQUITY Current liabilities: Income taxes payable Accounts payable Self insurance reserve Accrued payroll Accrued benefits and withholdings Deferred income taxes Other current liabilities Current portion of long-term debt Total current liabilities Long-term debt, less current portion Deferred income taxes Other liabilities Commitments and contingencies Shareholders' equity: Preferred stock, $0.01 par value: Authorized shares – 5,000,000 Issued and outstanding shares – none Common stock, $0.01 par value: Authorized shares—90,000,000 Issued and outstanding shares—55,377,130 in 2004 and 54,664,976 in 2003 554 Additional paid-in capital Retained earnings Total shareholders' equity Total liabilities and shareholders' equity See accompanying notes. 2004 2003 $ 69,028 $ 21,094 60,928 52,976 625,320 - 5,225 813,477 82,781 278,752 108,144 257,890 64,227 791,794 224,301 567,493 21,690 29,697 52,235 50,695 523,750 4,753 4,399 656,926 58,571 212,937 79,994 220,123 54,517 626,142 177,084 449,058 24,313 26,736 $1,432,357 $1,157,033 $ 9,736 240,548 25,174 15,130 10,620 7,198 24,817 592 333,815 100,322 38,440 11,963 - $ 6,872 145,954 18,847 17,307 8,521 - 16,883 925 215,309 120,977 29,448 7,014 - - - 554 326,650 620,613 947,817 547 302,691 481,047 784,285 $1,432,357 $1,157,033 2004 ANNUAL REPORT 35 CONSOLIDATED STATEMENTS OF INCOME (In thousands, except per share data) Years ended December 31, Product sales Cost of goods sold, including warehouse and distribution expenses Gross profit Operating, selling, general and administrative expenses Operating income Other income (expense): Interest expense Interest income Other, net Income before income taxes and cumulative effect of accounting change Provision for income taxes Income before cumulative effect of accounting change Cumulative effect of accounting change, net of tax $13,303 2004 $1,721,241 2003 2002 $1,511,816 $1,312,490 978,076 743,165 552,707 190,458 (4,700) 901 1,078 (2,721) 187,737 70,063 117,674 21,892 873,481 638,335 473,060 165,275 (6,864) 298 1,333 (5,233) 160,042 59,955 100,087 - 759,090 553,400 415,099 138,301 (9,248) 989 940 (7,319) 130,982 48,990 81,992 - Net income $ 139,566 $ 100,087 $ 81,992 Basic income per common share: Income before cumulative effect of accounting change Cumulative effect of accounting change Net income per common share Weighted-average common shares outstanding Income per common share—assuming dilution: Income before cumulative effect of accounting change Cumulative effect of accounting change Net income per common share—assuming dilution Adjusted weighted-average common shares outstanding See accompanying notes. $ 2.14 0.40 $ 2.54 55,010 $ 2.11 0.40 $ 2.51 55,711 $ $ $ $ 1.86 - 1.86 53,908 1.84 - 1.84 54,530 $ $ $ $ 1.54 - 1.54 53,114 1.53 - 1.53 53,692 36 O’REILLY AUTOMOTIVE CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY common stock par value additional paid-in capital (In thousands) BALANCE AT DECEMBER 31, 2001 Issuance of common stock under employee benefit plans Issuance of common stock under stock option plans Tax benefit of stock options exercised Net income shares 52,851 223 297 - - $528 $256,795 3 3 - - 6,094 4,677 1,464 - BALANCE AT DECEMBER 31, 2002 53,371 534 269,030 Issuance of common stock under employee benefit plans Issuance of common stock under stock option plans Tax benefit of stock options exercised Net income BALANCE AT DECEMBER 31, 2003 Issuance of common stock under employee benefit plans Issuance of common stock under stock option plans Tax benefit of stock options exercised Net income BALANCE AT DECEMBER 31, 2004 See accompanying notes. 242 1,052 - - 54,665 221 491 - - 55,377 2 11 - - 6,746 21,429 5,486 - 547 302,691 2 5 - - $554 8,358 11,075 4,526 - $326,650 retained earnings $298,968 - - - 81,992 380,960 - - - 100,087 481,047 - - - 139,566 $620,613 total $556,291 6,097 4,680 1,464 81,992 650,524 6,748 21,440 5,486 100,087 784,285 8,360 11,080 4,526 139,566 $947,817 2004 ANNUAL REPORT 37 CONSOLIDATED STATEMENTS OF CASH FLOWS 2004 2003 2002 $139,566 $100,087 $ 81,992 (In thousands) Years ended December 31, OPERATING ACTIVITIES Net income Adjustments to reconcile net income to net cash provided by operating activities: Cumulative effect of accounting change Depreciation Amortization Provision for doubtful accounts and notes Loss (gain) on sale of property and equipment Deferred income taxes Common stock contributed to employee benefit plans Tax benefit of stock options exercised Changes in operating assets and liabilities: Accounts receivable Amounts receivable from vendors Inventory Refundable income taxes Other current assets Other assets Accounts payable Income taxes payable Accrued payroll Accrued benefits and withholdings Other current liabilities Other liabilities Net cash provided by operating activities INVESTING ACTIVITIES Purchases of property and equipment Proceeds from sale of property and equipment Payments received on notes receivable (Investment in) reduction of other assets Net cash used in investing activities FINANCING ACTIVITIES Payments on notes payable to bank Proceeds from issuance of long-term debt Principal payments on long-term debt Net proceeds from issuance of common stock Net cash (used in) provided by financing activities Net increase (decrease) in cash and cash equivalents Cash and cash equivalents at beginning of year (21,892) 53,126 1,199 2,942 46 7,640 5,067 4,526 (11,636) (3,606) (66,375) - (835) (50) 94,594 2,865 (2,177) 8,427 7,934 5,175 226,536 (173,486) 1,653 2,634 (2,787) (171,986) - - (20,989) 14,373 (6,616) 47,934 21,094 - 41,216 1,158 2,461 (264) 13,796 4,026 5,486 (9,108) (4,824) (19,652) - (540) (4,005) 29,760 (2,926) 2,050 8,203 (267) 2,179 168,836 (136,497) 1,273 871 3,793 (130,560) - 27,900 (98,577) 24,162 (46,515) (8,239) 29,333 - 35,923 984 1,873 (58) 5,666 3,512 1,464 (5,701) (4,478) (56,305) 168 (788) - 23,495 9,798 2,391 5,127 (1,148) 618 104,533 (102,257) 2,278 862 (6,268) (105,385) (5,000) 179,640 (166,761) 7,265 15,144 14,292 15,041 $ 29,333 Cash and cash equivalents at end of year $ 69,028 $ 21,094 See accompanying notes. 38 O’REILLY AUTOMOTIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1—SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Nature of Business O'Reilly Automotive, Inc. (the Company) is a specialty retailer and supplier of automotive aftermarket parts, tools, supplies and accessories to both the do-it-yourself (DIY) customer and the professional installer throughout Alabama, Arkansas, Florida, Georgia, Illinois, Indiana, Iowa, Kansas, Kentucky, Louisiana, Mississippi, Missouri, Nebraska, North Carolina, Oklahoma, South Carolina, Tennessee, Texas and Virginia. Principles of Consolidation The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation. Revenue Recognition Over-the-counter retail sales are recorded when the customer takes possession of merchandise. Sales to professional installers, also referred to as “com- mercial sales”, are recorded upon delivery of merchandise to the customer, generally at the customer’s place of business. Wholesale sales to other retailers, also referred to as “jobber sales,” are recorded upon shipment of merchandise. All sales are recorded net of estimated allowances and discounts. Use of Estimates The preparation of the consolidated financial statements, in conformity with accounting principles generally accepted in the United States (GAAP), requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could differ from those estimates. Inventory Inventory, which consists of automotive hard parts, maintenance items, accessories and tools, is stated at the lower of cost or market. Inventory also includes related procurement, warehousing and distribution center costs. Cost has been determined using the last-in, first-out (LIFO) method. If the first-in, first-out (FIFO) method of costing inventory had been used by the Company, inventory would have been $628,309,000 and $513,365,000 as of December 31, 2004 and 2003, respectively. Please refer to Note 2 for cumulative effect of accounting change. Amounts Receivable from Vendors The Company receives concessions from its vendors through a variety of programs and arrangements, including co-operative advertising, devaluation pro- grams, allowances for warranties and volume purchase rebates. Co-operative advertising allowances that are incremental to our advertising program, specific to a product or event and identifiable for accounting purposes are reported as a reduction of advertising expense in the period in which the advertising occurred. All other vendor concessions are recognized as a reduction of cost of sales when recognized in the consolidated income statement. Amounts receiv- able from vendors also includes amounts due to the Company for changeover merchandise and product returns. Reserves for uncollectable amounts receivable from vendors are provided for in the Company’s consolidated financial statements and consistently have been within management’s expectations. Property and Equipment Property and equipment are carried at cost. Depreciation is provided on a straight-line method over the estimated useful lives of the assets. Service lives for property and equipment generally range from three to forty years. Leasehold improvements are amortized over the lesser of the lease term or the esti- mated economic life of the assets. The lease term includes renewal options determined by management at lease inception for which failure to renew options would result in a substantial economic penalty to the Company. Maintenance and repairs are charged to expense as incurred. Upon retirement or sale, the cost and accumulated depreciation are eliminated and the gain or loss, if any, is included in the determination of net income as a component of other income (expense). The Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate that the carry- ing amount of an asset may not be fully recoverable. The Company capitalizes interest costs as a component of construction in progress, based on the weighted-average rates paid for long-term borrowings. Total interest costs capitalized for the years ended December 31, 2004, 2003 and 2002, were $2,579,000, $1,808,000 and $369,000, respectively. Income Taxes The Company accounts for income taxes using the liability method in accordance with Statement of Financial Accounting Standards (SFAS) No. 109. The liability method provides that deferred tax assets and liabilities are determined based on differences between the financial reporting and tax bases of assets and liabilities and are measured using the enacted tax rates and laws that will be in effect when the differences are expected to reverse. Advertising Costs The Company expenses advertising costs as incurred. Advertising expense charged to operations amounted to $22,999,000, $19,533,000 and $14,442,000 for the years ended December 31, 2004, 2003 and 2002, respectively. Pre-opening Costs Costs associated with the opening of new stores, which consist primarily of payroll and occupancy costs, are charged to operations as incurred. 2004 ANNUAL REPORT 39 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) Stock Option Plans The Company has elected to follow Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to Employees (APB 25), and related interpreta- tions in accounting for its employee stock options because, as discussed in Note 8, the alternative fair value accounting provided for under SFAS No. 123, Accounting for Stock-Based Compensation, requires the use of option valuation models that were not developed for use in valuing employee stock options. SFAS No. 148, Accounting for Stock-Based Compensation – Transition and Disclosure, further established accounting and disclosure requirements using a fair- value-based method of accounting for stock-based employee compensation plans. Under the intrinsic value method in accordance with APB 25, because the exercise price of the Company's stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the options’ vesting period. During the fourth quarter of 2004, the Company changed its method of applying its LIFO accounting policy for inventory costs (see Note 2 - Accounting Changes). Our stock compensation pro forma information for the years ended December 31, is as follows, both excluding and including the effects of the inventory accounting change: (In thousands, except per share data) Excluding inventory accounting change Net income, as reported Stock-based compensation expense, net of tax, as reported Stock-based compensation expense, net of tax, under fair value method Pro forma net income Pro forma basic net income per share Pro forma net income per share-assuming dilution Net income per share, as reported Basic Assuming dilution Including inventory accounting change Net income Stock based compensation expense, net of tax, as reported Stock based compensation expense, net of tax, under fair value method Pro forma net income Pro forma basic net income per share Pro forma net income per share-assuming dilution 2004 2003 $139,566 - 7,468 $132,098 $ $ $ $ 2.40 2.37 2.54 2.51 N/A N/A N/A N/A N/A N/A $100,087 - 9,204 $ 90,883 $ $ $ $ 1.69 1.67 1.86 1.84 $100,599 - 9,204 $ 91,395 $ $ 1.70 1.68 2002 $81,992 - 7,217 $74,775 $ 1.41 $ 1.39 $ 1.54 $ 1.53 $84,633 - 7,217 $77,416 $ 1.46 $ 1.44 Earnings per Share Basic earnings per share is based on the weighted-average outstanding common shares. Diluted earnings per share is based on the weighted-average outstanding shares adjusted for the effect of common stock equivalents. Common stock equivalents that could potentially dilute basic earnings per share in the future that were not included in the fully diluted computation because they would have been antidilutive were 272,000, 66,750 and 816,250 for the years ended December 31, 2004, 2003 and 2002, respectively. Cash Equivalents Cash equivalents consist of investments with maturities of 90 days or less at the day of purchase. Concentration of Credit Risk Financial instruments that potentially subject the Company to concentrations of credit risk consist primarily of cash, cash equivalents, accounts receivable and notes receivable. The Company grants credit to certain customers who meet the Company's pre-established credit requirements. Concentrations of credit risk with respect to these receivables are limited because the Company’s customer base consists of a large number of smaller customers, thus spreading the credit risk. The Company controls credit risk through credit approvals, credit limits and monitoring procedures. Generally, the Company does not require security when credit is granted to customers. Credit losses are provided for in the Company's consolidated financial statements and consistently have been within management's expectations. 40 O’REILLY AUTOMOTIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) The carrying value of the Company's financial instruments, including cash and cash equivalents, accounts receivable, accounts payable and long-term debt, as reported in the accompanying consolidated balance sheets, approximates fair value. Notes Receivable The Company had notes receivable from vendors and other third parties amounting to $25,108,000 and $27,742,000 at December 31, 2004 and 2003, respectively. The notes receivable, which bear interest at rates ranging from 0% to 10%, are due in varying amounts through August 2017. New Accounting Pronouncements In November 2004, the FASB issued SFAS 151, Inventory Costs, an amendment of ARB No. 43, Chapter 4. The standard requires that abnormal amounts of idle capacity and spoilage costs should be excluded from the cost of inventory and expensed when incurred. The provision is effective for fiscal periods beginning after June 15, 2005. The Company does not expect the adoption of this standard to have a material effect on its financial position, results of operations or cash flows. In December 2004, the FASB issued SFAS 153, Exchanges of Nonmonetary Assets, an amendment of APB No. 29, Accounting for Nonmonetary Transactions. SFAS 153 requires exchanges of productive assets to be accounted for at fair value, rather than at carryover basis, unless (1) neither the asset received nor the asset surrendered has a fair value that is determinable within reasonable limits or (2) the transactions lack commercial substance. SFAS 153 is effective for nonmonetary asset exchanges occurring in fiscal periods beginning after June 15, 2005. The Company does not expect the adoption of this standard to have a material effect on its financial position, results of operations or cash flows. In December 2004, the FASB issued SFAS No. 123R, Share-Based Payment. SFAS No. 123R is a revision of SFAS No. 123, Accounting for Stock Based Compensation, and supersedes APB 25. Among other items, SFAS 123R eliminates the use of APB 25 and the intrinsic value method of accounting, and requires companies to recognize the cost of employee services received in exchange for awards of equity instruments, based on the grant date fair value of those awards, in the financial statements. The effective date of SFAS 123R is the first reporting period beginning after June 15, 2005, which is third quarter 2005 for calendar year companies, although early adoption is allowed. SFAS 123R permits companies to adopt its requirements using either a “modified prospective” method, or a “modified retrospective” method. Under the “modified prospective” method, compensation cost is recognized in the financial statements beginning with the effective date, based on the requirements of SFAS 123R for all share-based payments granted after that date, and based on the requirements of SFAS 123 for all unvested awards granted prior to the effective date of SFAS 123R. Under the “modified retrospective” method, the requirements are the same as under the “modified prospective” method, but also permits entities to restate financial statements of previous periods based on pro forma disclosures made in accordance with SFAS 123. The Company currently utilizes a standard option pricing model (i.e., Black-Scholes) to measure the fair value of stock options granted to employees. While SFAS 123R permits entities to continue to use such a model, the standard also permits the use of a “lattice” model. The Company has not yet determined which model it will use to measure the fair value of employee stock options upon the adoption of SFAS 123R. See Note 8 for further information. SFAS 123R also requires that the benefits associated with the tax deductions in excess of recognized compensation cost be reported as a financing cash flow, rather than as an operating cash flow as required under current literature. This requirement will reduce net operating cash flows and increase net financing cash flows in periods after the effective date. These future amounts cannot be estimated, because they depend on, among other things, when employees exercise stock options. However, the amount of operating cash flows recognized in prior periods for such excess tax deductions, as shown in the Company’s Consolidated Statement of Cash Flows, were $4.5 million, $5.5 million, and $1.5 million, for the years ended December 31, 2004, 2003, and 2002, respectively. The Company currently expects to adopt SFAS 123R effective July 1, 2005; however, the Company has not yet determined which of the aforementioned adoption methods it will use and is still evaluating the standard. Reclassifications The Company made certain reclassifications to prior periods to conform to current year presentation. Leases The Company’s policy is to amortize leasehold improvements over the lesser of the lease term or the estimated economic life of those assets. Generally, for stores the lease term is the base lease term and for distribution centers the lease term includes the base lease term plus certain renewal option periods for which renewal is reasonably assured and failure to exercise the renewal option would result in an economic penalty. The calculation for straight-line rent expense is based on the same lease term. Previously, leasehold improvements were amortized over a period of time which included both the base lease term and the first renewal option period of the lease and rent expense was recorded as paid. As a result, the Company’s 2004 statement of income includes an adjustment to correct its lease accounting of $10.4 million ($3.5 million related to 2004), $6.5 million, net of tax. Prior years’ financial statements will not be restated due to the immateriality of the issue to the results of operations and statement of financial position for the current year or any individual year. As the correction relates solely to accounting treatment, it does not affect the Company’s historical or future cash flows. The effect from these corrections, which is reflected in the financial statements, is an increase in depreciation expense of $6.0 million ($2.6 million related to 2004), an increase in rent expense of $4.4 million ($0.9 million related to 2004), and a decrease in income tax expense of $3.9 million. 2004 ANNUAL REPORT 41 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) NOTE 2 – ACCOUNTING CHANGES The Company’s inventory consists of automotive hard parts, maintenance items, accessories and tools. During the fourth quarter of 2004, the Company changed its method of applying its LIFO accounting policy for inventory costs. Under the new method, the Company has inventoried certain procure- ment, warehousing and distribution center costs. The Company’s previous method was to recognize those costs as incurred, reported as a component of costs of goods sold. The Company believes the change in application of the LIFO accounting method is preferable as it better matches revenues and expenses and is the prevalent method used by other entities within the Company’s industry. The cumulative effect of this change in application of accounting method is $21,892,000 as of January 1, 2004, net of the related deferred tax effect of $13,303,000. The change increased 2004 net income before cumulative effect of accounting change by $2,722,000 or $0.05 per share. Prior 2004 quarterly financial statements have been restated to reflect this change, effective January 1, 2004, (see Restatement of Quarterly Results in Management’s Discussion and Analysis of Financial Condition and Results of Operations). Pro forma changes to results of operations as if the new method had been applied for the years ended December 31, 2003 and 2002 are presented below. Years Ended December 31, (in thousands) Product sales Cost of goods sold, including warehouse and distribution expense Operating, selling, general and administrative expenses Operating income Other expense, net Income before income taxes Provision for income taxes Net income Basic income per share Net income per share – assuming dilution Weighted-average common shares outstanding Weighted-average common shares outstanding–assuming dilution As originally reported 2003 Adjustment Pro forma 2003 As originally reported 2002 Adjustment Pro forma 2002 $1,511,816 $ - $1,511,816 $1,312,490 $ - $1,312,490 873,481 (823) 872,658 759,090 (4,246) 754,844 473,060 165,275 (5,233) 160,042 59,955 $ 100,087 1.86 $ 1.84 $ - 823 - 823 311 $ 512 $ 0.01 $ 0.00 473,060 166,098 (5,233) 160,865 60,266 $ 100,599 $ 1.87 $ 1.84 415,099 138,301 (7,319) - 4,246 - 130,982 48,990 $ 81,992 $ 1.54 $ 1.53 4,246 1,605 $ 2,641 $ 0.05 $ 0.05 415,099 142,547 (7,319) 135,228 50,595 84,633 1.59 1.58 $ $ $ 53,908 53,908 53,908 53,114 53,114 53,114 54,530 54,530 54,530 53,692 53,692 53,692 NOTE 3—RELATED PARTIES The Company leases certain land and buildings related to fifty of its O'Reilly Auto Parts stores under six-year operating lease agreements with O'Reilly Investment Company and O'Reilly Real Estate Company, partnerships in which certain shareholders and directors of the Company are partners. Generally, these lease agreements provide for renewal options for an additional six years at the option of the Company. Additionally, the Company leases certain land and buildings related to twenty-one of its O’Reilly Auto Parts stores under 15-year operating lease agreements with O’Reilly-Wooten 2000 LLC, which is owned by certain shareholders of the Company. Generally, these lease agreements provide for renewal options for two additional five-year terms at the option of the Company (see Note 5). Rent payments under these operating leases totaled $3,374,000, $3,238,000 and $3,222,000 in 2004, 2003 and 2002, respectively. NOTE 4—LONG-TERM DEBT On July 29, 2002, the Company amended the unsecured, three-year syndicated credit facility (Credit Facility) in the amount of $150 million led by Wells Fargo Bank as the Administrative Agent, replacing a five-year syndicated credit facility. The Credit Facility is guaranteed by all of the Company’s subsidiaries and may be increased to a total of $200 million, subject to the availability of such additional credit from either existing banks within the Credit Facility or other banks. At December 31, 2004 the Company had no outstanding balance with the Credit Facility. The Credit Facility bears interest at LIBOR plus a spread ranging from 0.875% to 1.375% (2.06% at December 31, 2003) and expires in July 2005. At December 31, 2003, $20.0 million of the Credit Facility was outstanding. Accordingly, the Company’s aggregate availability for additional borrowings under the Credit Facility was $128.7 million and $119.0 million at December 31, 2004 and 2003, respectively. 42 O’REILLY AUTOMOTIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) The Company issues stand-by letters of credit provided by a $30 million sublimit under the Credit Facility that reduce available borrowings. These letters of credit are issued primarily to satisfy the requirements of workers compensation, general liability and other insurance policies. Substantially all of the outstanding letters of credit have a one-year term from the date of issuance and have been issued to replace surety bonds that were previously issued. Letters of credit totaling $21.3 million and $11.0 million were outstanding at December 31, 2004 and 2003, respectively. On May 16, 2001, the Company completed a $100 million private placement of two series of unsecured senior notes (Senior Notes). The Series 2001- A Senior Notes were issued for $75 million, are due May 16, 2006, and bear interest at 7.72% per year. The Series 2001-B Senior Notes were issued for $25 million, are due May 16, 2008, and bear interest at 7.92% per year. The private placement agreement allows for a total of $200 million of Senior Notes issuable in series. Proceeds from the transaction were used to reduce outstanding borrowings under the Company’s former revolving credit facility. The Company leases certain computer equipment under a capitalized lease. The lease agreement has a term of 30 months, expiring in 2006. At December 31, 2004, the monthly installment under this agreement was approximately $48,500. The present value of the future minimum lease payments under these agreements totaled $858,000 and $1,426,300 at December 31, 2004, and 2003, respectively, which has been classified as long-term debt in the accompanying consolidated financial statements. During 2004, the Company did not purchase any assets under a capitalized lease. During 2003, the Company purchased $1,426,300 of assets under a capitalized lease. Principal maturities of long-term debt for each of the next five years ending December 31, are as follows (amounts in thousands): 2005 2006 2007 2008 2009 Thereafter $ 592 75,300 17 25,005 - - $100,914 Cash paid by the Company for interest during the years ended December 31, 2004, 2003, and 2002, amounted to $4,960,000, $6,864,000, and $9,248,000, respectively. NOTE 5—COMMITMENTS Lease Commitments On June 26, 2003, we completed an amended and restated master agreement to our $50 million Synthetic Operating Lease Facility (the Facility or the Synthetic Lease) with a group of financial institutions. The terms of the Facility provide for an initial lease period of five years, a residual value guarantee of approximately $43.2 million at December 31, 2004, and purchase options on the properties. The Facility also contains a provision for an event of default whereby the lessor, among other things, may require us to purchase any or all of the properties. One additional renewal period of five years may be requested from the lessor, although the lessor is not obligated to grant such renewal. The amended and restated Facility has been accounted for as an operating lease under SFAS No. 13 and related interpretations, including FASB Interpretation No. 46. Future minimum rental commitments under the Facility have been included in the table of future minimum annual rental commitments below. The Company also leases certain office space, retail stores, property and equipment under long-term, non-cancelable operating leases. Most of these leases include renewal options and some include options to purchase and provisions for percentage rent based on sales. At December 31, 2004, future minimum rental payments under all of the Company’s operating leases for each of the next five years and in the aggregate are as follows (amounts in thousands): 2005 2006 2007 2008 2009 Thereafter Related Parties $ 3,334 3,349 3,351 3,277 2,462 7,479 $23,252 Non-related Parties $ 33,041 30,910 29,386 26,587 23,882 182,629 $326,435 Total $ 36,375 34,259 32,737 29,864 26,344 190,108 $349,687 2004 ANNUAL REPORT 43 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) Rental expense amounted to $39,145,000, $31,865,000 and $29,652,000 for the years ended December 31, 2004, 2003, and 2002, respectively. 2004 rental expense includes an adjustment to correct lease accounting in the amount of $4,367,000 ($900,000 related to 2004). See Note 1 – Leases for further details. Other Commitments The Company had construction commitments, which totaled approximately $32.3 million, at December 31, 2004. NOTE 6—LEGAL PROCEEDINGS The Company is involved in various legal proceedings incidental to the conduct of its business. Although the Company cannot ascertain the amount of liability that it may incur from any of these matters, it does not currently believe that, in the aggregate, they will have a material adverse effect on the consolidated financial position, results of operations or cash flows of the Company. NOTE 7—EMPLOYEE BENEFIT PLANS The Company sponsors a contributory profit sharing and savings plan that covers substantially all employees who are 21 years of age with at least six months of service. A total of 1,600,000 shares of common stock were reserved for issuance under the plan. Employees may contribute up to 100% of their annual compensation subject to Internal Revenue Code maximum limitations. The Company has agreed to make matching contributions equal to 50% of the first 2% of each employee's contribution and 25% of the next 4% of each employee's contribution. Additional contributions to the plan may be made as determined annually by the Board of Directors. After two years of service, Company contributions and earnings thereon vest at the rate of 20% per year. Company contributions charged to operations amounted to $5,278,000 in 2004, $4,353,000 in 2003 and $3,438,000 in 2002. Company contributions, in the form of common stock, to the profit sharing and savings plan to match employee contributions during the years ended December 31 were as follows: Year Contributed 2004 2003 2002 Shares 40,684 42,183 38,354 Market Value $1,766,000 1,478,000 1,136,000 Profit sharing contributions accrued at December 31, and funded in the next year through the issuance of shares of the Company's common stock were as follows: Year Funded 2004 2003 2002 Shares 78,730 85,184 77,876 Market Value $3,000,000 2,300,000 2,200,000 Additionally, the Company has adopted a stock purchase plan under which 1,300,000 shares of common stock were reserved for issuance. Under the plan, substantially all employees and non-employee directors have the right to purchase shares of the Company's common stock monthly at a price equal to 85% of the fair market value of the stock, not to exceed 5% of the participants annual salary. Purchases of common stock under the plan during the years ended December 31 were as follows: Shares 93,877 103,457 102,662 Weighted Average Fair Value $41.70 32.38 29.62 Market Value $3,915,000 3,350,000 3,041,000 Year 2004 2003 2002 44 O’REILLY AUTOMOTIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) The Company has in effect a performance incentive plan for the Company's senior management under which 400,000 shares of stock were reserved for issuance. Shares awarded under the plan vest equally over a three-year period and are held in escrow until such vesting has occurred. Shares are for- feited when an employee ceases employment. Shares, net of forfeitures, issued under the plan during the years ended December 31 were as follows: Year Funded 2004 2003 2002 Shares 7,917 10,530 4,779 Market Value $302,000 248,000 175,000 NOTE 8—SHAREHOLDERS’ EQUITY Shareholder Rights Plan On May 17, 2002, the Board of Directors adopted a Shareholder Rights Plan. One Right was distributed for each share of common stock, par value $.01 per share, of the Company held by stockholders of record as of the close of business on May 31, 2002. The Rights initially entitle stockholders to buy a unit representing one one-hundredth of a share of a new series of preferred stock of the Company for $160 and expire on May 30, 2012. The Rights generally will be exercisable only if a person or group acquires beneficial ownership of 15% or more of the Company's common stock or commences a tender or exchange offer upon consummation of which such person or group would beneficially own 15% or more of the Company's common stock. If a person or group acquires beneficial ownership of 15% or more of the Company's common stock, each Right (other than Rights held by the acquiror) will, unless the Rights are redeemed by the Company, become exercisable upon payment of the exercise price of $160 for common stock of the Company having a market value of twice the exercise price of the Right. A copy of the Stockholder Rights Plan was filed on May 28, 2002, with the Securities and Exchange Commission, as Exhibit 99.1 to our report on Form 8-K. Stock Option Plans The Company has a stock option plan under which incentive stock options or non-qualified stock options may be granted to officers and key employees. An aggregate of 12,000,000 shares of common stock were reserved for issuance under this plan. The exercise price of options granted shall not be less than the fair market value of the stock on the date of grant and the options will expire no later than ten years from the date of grant. Options granted pursuant to the plan become exercisable no sooner than six months from the date of grant. All grants under the plan since its inception have been non-qualified stock option grants. A summary of outstanding stock options under this plan is as follows: Outstanding at December 31, 2001 Granted Exercised Canceled Outstanding at December 31, 2002 Granted Exercised Canceled Outstanding at December 31, 2003 Granted Exercised Canceled Outstanding at December 31, 2004 Price per Share $ 8.69 - 37.62 24.96 - 35.48 8.69 - 30.23 8.75 - 38.00 $ 8.94 - 37.62 23.01 - 44.81 8.94 - 37.62 8.94 - 38.98 $10.56 - 44.81 37.06 - 46.75 10.56 - 40.39 10.94 - 46.29 $10.94 - 46.75 Number of Shares 3,277,135 712,500 (296,858) (202,075) 3,490,702 1,035,750 (1,051,940) (222,413) 3,252,099 858,125 (470,977) (239,114) 3,400,133 Options to purchase 1,612,600, 1,223,409 and 1,566,104 shares of common stock were exercisable at December 31, 2004, 2003, and 2002, respectively. The Company also maintains a stock option plan for non-employee directors of the Company under which 500,000 shares of common stock were reserved for issuance. All director stock options are granted at fair market value on the date of grant and expire on the earlier of termination of service 2004 ANNUAL REPORT 45 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) to the Company as a director or seven years. Options granted under this plan become exercisable six months from the date of grant. A summary of outstanding stock options under this plan is as follows: Outstanding at December 31, 2001 Granted Outstanding at December 31, 2002 Granted Outstanding at December 31, 2003 Granted Exercised Outstanding at December 31, 2004 Price per Share $12.44 - 23.91 29.02 $12.44 - 29.02 29.20 $12.44 - 29.20 41.67 12.44 - 20.65 $20.65 - 41.67 Number of Shares 50,000 30,000 80,000 30,000 110,000 12,500 (20,000) 102,500 All options under this plan were exercisable at December 31, 2004, 2003, and 2002. Pro forma information regarding net income and earnings per share is required by SFAS No. 123, and has been determined as if the Company had accounted for its employee and non-employee director stock options under the fair value method. The fair values for these options were estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for 2004, 2003, and 2002, respectively: risk-free interest rates of 3.01%, 3.61% and 4.01%; volatility factors of the expected market price of the Company's common stock of .404, .458, and .481; and expected life of the options of 4.0, 9.4 and 9.0 years. The Company assumed a 0% dividend yield over the expected life of the options. The weighted-average fair values of options granted during the years ended December 31, 2004, 2003, and 2002 were $14.47, $20.56 and $17.75, respectively. The weighted-average remaining contractual life at December 31, 2004, for all outstanding options under the Company's stock option plans is 7.2 years. The weighted-average exercise price for all outstanding options under the Company's stock option plans was $29.88, $26.11 and $22.78 at December 31, 2004, 2003 and 2002, respectively. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options, which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions, including the expected stock price volatility. Because the Company's stock options have characteristics significantly different from those of traded options and because changes in the subjective input assumptions can materially affect the fair value estimate, in management's opinion, the existing model does not necessarily provide a reliable single measure of the fair value of its employee stock options. NOTE 9—INCOME PER COMMON SHARE The following table sets forth the computation of basic and diluted income per common share: (In thousands, except per share data) Years ended December 31, Numerator (basic and diluted): Net income Denominator: 2004 2003 2002 $139,566 $100,087 $ 81,992 Denominator for basic income per common share- weighted-average shares Effect of stock options (Note 8) Denominator for diluted income per common share- adjusted weighted-average shares and assumed conversion Basic net income per common share Net income per common share-assuming dilution 55,010 701 55,711 $ 2.54 $ 2.51 53,908 622 54,530 $ $ 1.86 1.84 53,114 578 53,692 $ $ 1.54 1.53 46 O’REILLY AUTOMOTIVE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) NOTE 10—INCOME TAXES Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. Significant components of the Company's deferred tax assets and liabilities are as follows at December 31: (In thousands) Deferred tax assets: Current: Allowance for doubtful accounts Other accruals Noncurrent: Other accruals Total deferred tax assets Deferred tax liabilities: Current: Inventory carrying value Noncurrent: Property and equipment Other Total deferred tax liabilities Net deferred tax liabilities 2004 2003 $ 1,292 10,038 1,980 13,310 18,528 39,203 1,217 58,948 $ 373 6,973 - 7,346 2,593 29,171 277 32,041 $(45,638) $(24,695) The provision for income taxes consists of the following: (In thousands) Current Deferred 2004: Federal State 2003: Federal State 2002: Federal State $56,385 6,038 $62,423 $41,465 4,694 $46,159 $39,038 4,286 $43,324 $6,942 698 $7,640 $12,362 1,434 $13,796 $ 5,113 553 $ 5,666 A reconciliation of the provision for income taxes to the amounts computed at the federal statutory rate is as follows: (In thousands) Federal income taxes at statutory rate State income taxes, net of federal tax benefit Other items, net 2004 $65,708 4,355 - $70,063 2003 $56,015 3,935 5 $59,955 Total $63,327 6,736 $70,063 $53,827 6,128 $59,955 $44,151 4,839 $48,990 2002 $45,844 3,140 6 $48,990 The tax benefit associated with the exercise of non-qualified stock options has been reflected as additional paid-in capital in the accompanying consol- idated financial statements. During the years ended December 31, 2004, 2003, and 2002, cash paid by the Company for income taxes amounted to $55,140,000, $43,007,000 and $31,119,000, respectively. 2004 ANNUAL REPORT 47 REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM THE BOARD OF DIRECTORS AND SHAREHOLDERS OF O'REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES We have audited the accompanying consolidated balance sheets of O’Reilly Automotive, Inc. and Subsidiaries as of December 31, 2004 and 2003, and the related consolidated statements of income, shareholders' equity, and cash flows for each of the three years in the period ended December 31, 2004. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of O’Reilly Automotive, Inc. and Subsidiaries at December 31, 2004 and 2003, and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 2004, in conformity with U.S. generally accepted accounting principles. As discussed in Note 2 to the consolidated financial statements, in 2004 the Company changed its method of accounting for inventory. We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the effectiveness of O’Reilly Automotive, Inc. and Subsidiaries' internal control over financial reporting as of December 31, 2004, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission, and our report dated March 7, 2005 expressed an unqualified opinion thereon. Kansas City, Missouri March 7, 2005 48 O’REILLY AUTOMOTIVE DIRECTORS AND EXECUTIVE COMMITTEE Chub O’Reilly Chairman of the Board Emeritus Charlie O’Reilly Vice Chairman of the Board and Director David O’Reilly Chairman of the Board and Director Larry O’Reilly Vice Chairman of the Board and Director Rosalie O'Reilly-Wooten Director Jay Burchfield Director Compensation Committee - Chairman and Corporate Governance/Nominating Committee Joe Greene Director Corporate Governance/ Nominating Committee - Chairman Paul Lederer Director Audit Committee and Compensation Committee John Murphy Director Audit Committee - Chairman and Corporate Governance/ Nominating Committee Ronald Rashkow Director Audit Committee and Compensation Committee Greg Henslee Chief Executive Officer and Co-President Ted Wise Chief Operating Officer and Co-President Jim Batten Executive Vice President of Finance and Chief Financial Officer Jeff Shaw Senior Vice President of Store Operations and Sales Jaime Hinojosa Vice President of Southern Division Mike Swearengin Senior Vice President of Merchandise Tricia Headley Vice President of Corporate Services and Corporate Secretary Tony Bartholomew Vice President of Sales Ron Byerly Vice President of Marketing, Advertising and Training Ken Cope Vice President of Eastern Division Charlie Downs Vice President of Real Estate Alan Fears Vice President of Store Expansion and Acquisitions Steve Jasinski Vice President of Information Systems Randy Johnson Vice President of Store Inventories David McCready Vice President of Distribution Steve Pope Vice President of Human Resources Wayne Price Vice President of Risk Management Barry Sabor Vice President of Loss Prevention Mike Williams Vice President of Advanced Technology OPERATIONS MANAGEMENT SENIOR MANAGEMENT Allen Alexander Director of Iowa/Nebraska Region Buddy Ball Director of Kansas City Region Mike Ballard Director of Internet Development and Networking Greg Beck Director of Purchasing Bert Bentley Director of Houston Region Rob Bodenhamer Director of Technology Development Larry Boevers Regional Distribution Center Director Doug Bragg Director of Oklahoma Region Mike Chapman Director of West Texas Region Keith Childers Director of Little Rock Region Tom Connor Regional Distribution Center Director Joe Edwards Director of Store Installations Brett Heintz Director of Retail Systems Phyllis Evans Director of Store Administration John Grassham Director of St Louis Region Julie Gray Director of Corporate Services Jeff Groves Director of Legal and Claims Services Joe Hankins Director of Store Design Jack House Director of Customer Services Greg Johnson Director of Distribution Michelle Kimrey Director of Internal Audit Brad Knight Director of Pricing Richard Mann Jr. Regional Distribution Center Director 2004 ANNUAL REPORT 49 OPERATIONS MANAGEMENT (continued) Kenny Martin Director of Gulf States Region Jim Maynard Director of Employment and Team Member Relations Brad Oplotnik Director of Systems Management Kevin Overmon Director of Nashville Region Shari Reaves Director of Compensation and Benefits Steve Rice Director of Credit and Collections Art Rodriguez Director of Southern Division Sales Tom Seboldt Director of Merchandise Denny Smith Director of Springfield Region Dick Smith Director of Construction and Maintenance Mark Smith Director of Dallas Region Charlie Stallcup Director of Training David Strom Sr. Director of Houston Region Bert Tamez Director of Valley Region Mark Van Hoecke Director of Knoxville Region Jeffrey Watts Director of Eastern Division Sales Wes Wise Director of Marketing CORPORATE MANAGEMENT Ray Aguirre Regional Field Sales Manager Tom Allen Operations Computer Manager Dan Altis Distribution Center Manager Mark Alwardt Division Loss Prevention Manager Keith Asby Sales Manager of Special Markets Jeanene Asher Telecommunications Manager Gary Baker Technical Assistance Manager Carl Barina Regional Field Sales Manager Doug Bennett O’Reilly Sales Department Manager Ron Biegay Southern Division Training and Recruiting Manager Larry Blundell Regional Field Sales Manager Tom Bollinger Regional Field Sales Manager Marcus Boyer Distribution Center Manager Kent Brewer Distribution Center Transportation Manager Yvonne Cannon Payroll Manager-Technical Support Mark Chambers Regional Field Sales Manager Bruce Creason Distribution Center Safety Manager Garry Curbow Replenishment Manager Sean Dando Regional Field Sales Manager Doy Hensley Help Support Manager Cecil Davis Inbound Operations Manager Mark Decker Distribution Center Manager Randy Decoito Regional Field Sales Manager Jay Enloe Risk and Insurance Manager Paula Eyman Accounting Special Projects Manager Carl Falke Regional Field Sales Manager Becky Fincher Advertising Manager Kevin Ford Distribution Center Projects and Procedures Manager Randy Freund Regional Field Sales Manager David Furr Service Equipment Sales Manager Lori Fuzzell Customer Service Manager Bob Gillespie Corporate Safety Manager Art Glidewell Distribution Center Manager David Glore Ozark Sales Manager Garry Glossip Payroll Manager-Operations Ron Greenway Tax Manager Kevin Greven Motorsports Manager Bridget Harmon PC Support Manager Mike Hauk Division Training Manager Rubin Herrera Regional Field Sales Manager Diana Hicks Internal Communications Manager Joe Hook Regional Field Sales Manager Doug Hopkins Distribution Systems Manager Doug Hutchison Inventory Project Manager Karen James Marketing Production Manager Curtis Johnson Jobber Regional Field Sales Manager Dave Jordan Distribution Center Manager Les Keeth Supplier Credit Manager Jennifer Kent Store Design Manager Dave Leonhart Distribution Center Manager Steve Lines Sales Training Manager Jim Litchford Jobber Regional Field Sales Manager Jeff Main Jobber Systems Sales Manager Ed Martinez Distribution Center Manager Jeff McKinney Customer Satisfaction Manager Bryan Mescher Regional Field Sales Manager Chapman Norman Inventory Maintenance Manager 50 O’REILLY AUTOMOTIVE OPERATIONS MANAGEMENT (continued) James Owens Regional Field Sales Manager Lyn Robertson Accounts Receivable Manager Garry Shelby Regional Field Sales Manager Steve Peterie Construction Design Manager Chuck Rogers Installer Systems Manager Tony Phelps Distribution Center Manager Jana Phillips Real Estate Contract Manager Mary Sabor Distribution Center Administrative Services Manager Rick Samsel Inventory Control Manager Tim Scholl Distribution Center Field Projects Manager Joyce Schultz Houston Office Manager Steve Phillips Southern Division Loss Prevention Manager Paul Pike Regional Field Sales Manager Roman Ramos Regional Field Sales Manager Ed Randall Real Estate Site Acquisition Manager Tim Smith Credit Manager Tom Smith Training Manager Dwayne Snow Regional Field Sales Manager Paul Stinson Regional Field Sales Manager Mary Stratton Human Resources Records Manager Rob Verch Product Manager Patton Walden Jr. MidState Division Training Manager Matt Weldon PBE Sales Manager Larry Wiles Audio/Visual Communications Manager Saundra Wilkinson Store Support Manager Joe Winterberg Product Manager Mike Yates Installer Marketing Manager Terry Yates Regional Field Sales Manager Bill Seiber Distribution Center Manager Bryan Wade Distribution Center Manager Darren Shaw Product Manager Tamra Waitman Assistant Controller DISTRICT CORP. MGMT. Abel Abila Gary Addison Eddie Allen Henry Armington Emmitt Barina Brince Beasley Brad Beckham Steve Beil Aaron Biggs Kirk Bilski Patrick Brown David Byers Mark Cannon Fred Carrington Jimmy Carter David Chavis Dirk Chester Jim Dickens Robert Doss Bruce Dowell Dan Dowell Tommy Dunn Mike Eckelkamp Paul Engaldo Ron England Tony Fagan Bill Fellows Kirk Frazier Mark Frazier Jason Frizzell Butch Galloway Samuel Garza Dennis Gonzales Kyle Gorzik Chris Harrelson Billy Harris James Harris Jon Haught Rick Hedges Gerry Hendrix Perry Hess Mike Hollis Jeff Howard Craig Hudgens Johnny Jarvis Jeff Jennings James Jones Jr. Chad Keel Butch Kelton Todd Kemper Scott Kraus John Krebs Mark Langrehr Scott Leonhart Chris Lewis Kirk Locklin Oliverio Lopez Mark Mach Cliff Martin John Martinez Rodger McClary Marc McGehee Travis McPherson Chris Meade Curt Miles Andy Moore Don Morgan Randy Morris Ciro Moya Ramon Odems Ken Omland Ron Papay Jude Patterson Mike Payne Gilbert Perez Pernell Peters David Pilat Randy Pilcher Mike Platt Troy Polston Robert Poynor Greg Pryer Will Reger Tommy Rhoads Alan Riddle Edward Robles Larry Roof Juan Salinas Jim Scott Brad Seaborn Cliff Sedtal Steven Severe Kevin Shockey Eric Sims Bob Snodgrass Robert Spencer Robin Stivers Scott Strayhorn Jeff Stutzman Marvin Swaim Randy Swaim Alan Sweeton Jeff Tagert Randy Tanner Rick Tearney Dallas Thompson Justin Tracy Bo Waldrop Terry Walker Brett Warstler John Weatherly Rob Weiskirch John Wells Allen Wise Dexter Woods Jason York Cody Zimmerman 2004 ANNUAL REPORT 51 SHAREHOLDER INFORMATION CORPORATE ADDRESS 233 South Patterson Springfield, Missouri 65802 417/862-3333 Web site – www.oreillyauto.com REGISTRAR AND TRANSFER AGENT UMB Bank 928 Grand Boulevard Kansas City, Missouri 64141-0064 Inquiries regarding stock transfers, lost certificates or address changes should be directed to UMB Bank at the above address. INDEPENDENT AUDITORS Ernst & Young LLP One Kansas City Place Kansas City, Missouri 64105-2143 LEGAL COUNSEL Gallop Johnson & Neuman, L.C. 101 South Hanley Road, Suite 1600 St. Louis, Missouri 63105 Skadden, Arps, Slate, Meagher & Flom 333 West Wacker Drive, Suite 2100 Chicago, Illinois 60606 ANNUAL MEETING The annual meeting of shareholders of O’Reilly Automotive, Inc. will be held at 10:00 a.m. local time on May 3, 2005, at the Clarion Hotel, Ballrooms 1 and 2, 3333 South Glenstone Ave in Springfield, Missouri. Shareholders of record as of February 25, 2005, will be entitled to vote at this meeting. FORM 10-K REPORT The Form 10-K Report of O’Reilly Automotive, Inc. filed with the Securities and Exchange Commission and our quarterly press releases are available without charge to shareholders upon written request. These requests and other investor contacts should be directed to James R. Batten, Executive Vice President of Finance/Chief Financial Officer, at the corporate address. TRADING SYMBOL The Company’s common stock is traded on The Nasdaq Stock Market (National Market) under the symbol ORLY. NUMBER OF SHAREHOLDERS As of February 25, 2005, O’Reilly Automotive, Inc. had approx- imately 29,282 shareholders based on the number of holders of record and an estimate of the number of individual participants represented by security position listings. ANALYST COVERAGE The following analysts provide research coverage of O’Reilly Automotive, Inc.: AG Edwards & Sons – Brian Postol Friedman, Billings, Ramsey & Co, Inc. – Reed Anderson Lehman Brothers Equities Research – Alan Rifkin Monarch Research LLC – Cid Wilson Piper Jaffray – Michael Cox Prudential Equity Group, LLC – John Tomlinson Raymond James & Associates – Gerald Marks RBC Capital Markets – Scot Ciccarelli Robert W. Baird & Co – David Cumberland SG Cowen Securities – Joseph Feldman Smith Barney – Bill Sims SunTrust Robinson Humphrey Capital Markets – Frank Brown UBS Equities – Gary Balter William Blair & Company – Sharon Zackfia MARKET PRICES AND DIVIDEND INFORMATION The prices in the table below represent the high and low sales price for O’Reilly Automotive, Inc. common stock as reported by the Nasdaq Stock Market. The common stock began trading on April 22, 1993. No cash dividends have been declared since 1992, and the Company does not anticipate paying any cash dividends in the foreseeable future. 2004 2003 High $41.69 47.07 45.35 45.64 47.07 Low $36.46 39.18 36.06 37.00 36.06 High Low $27.86 $22.91 35.39 39.96 44.90 44.90 26.76 33.23 36.54 22.91 First Quarter Second Quarter Third Quarter Fourth Quarter For the Year O'REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES EXHIBIT 21.1 - SUBSIDIARIES OF THE COMPANY Subsidiary State of Incorporation Ozark Automotive Distributors, Inc. Greene County Realty Co. O’Reilly II Aviation, Inc. Ozark Services, Inc. Hi-LO Investment Company Hi-LO Management Company Missouri Missouri Missouri Missouri Delaware Delaware One hundred percent of the capital stock of each of the above listed subsidiaries is directly owned by O’Reilly Automotive, Inc. 52 O’REILLY AUTOMOTIVE F U E L E D W I T H H O R S E P O W E R , O ’ R E I L LY I S F I R I N G O N A L L C Y L I N D E R S a n d G E A R E D U P F O R H I G H - O C TA N E G R O W T H . S U P E R C H A R G E D B Y 1 2 Y E A R S o f RECORD SALES a n d EARNINGS, WE C O N T I N U E A C C E L E R AT I N G T O WA R D $ 2 B I L L I O N I N 2 0 0 5 . T O R E A C H T H AT G O A L , W E ’ R E T U N I N G U P T H E C O M P E T I T I V E A D V A N TA G E S T H AT D R I V E O U R P E R F O R M A N C E – U N B E ATA B L E C U S T O M E R S E R V - I C E , S U P E R I O R D I S T R I B U T I O N S Y S T E M S a n d A U N I Q U E D U A L M A R K E T S T R AT E G Y. BOARD OF DIRECTORS Chub O’Reilly Chair man of the Board Emeritus Charlie O’Reilly Vice Chair man of the Board and Director David O’Reilly Chair man of the Board and Director Larry O’Reilly Vice Chair man of the Board and Director Rosalie O'Reilly-Wooten Director Jay Burchfield Director Compensation Committee - Chair man and Corporate Governance/Nominating Committee Joe Greene Director Corporate Gover nance/ Nominating Committee - Chair man Paul Lederer Director Audit Committee and Compensation Committee John Murphy Director Audit Committee - Chair man and Corporate Gover nance/Nominating Committee Ronald Rashkow Director Audit Committee and Compensation Committee M i s s i o n S t a t e m e n t “O’Reilly Automotive will be the dominant supplier of auto parts in our market areas by offering our retail customers, professional installers and jobbers the best combination of inventory, price, quality and service; providing our team members with competitive wages and benefits, and working conditions which promote high achievement and ensure fair and equitable treatment; and, providing our stockholders with an excellent return on their investment.” m o c . n o s i r r a h k l a f . w w w – i r u o s s i M , s i u o L . t S , e v i t a e r C n o s i r r a H k l a F : n g i s e D O ’ R e i l l y A u t o m o t i v e 2 0 0 4 A n n u a l R e p o r t 2 0 0 4 O ’ R e i l l y A u t o m o t i v e A n n u a l R e p o r t 2 0 0 4 H O R S E P O W E R A N O T H E R Y E A R o f F I R I N G O N A L L C Y L I N D E R S 233 SOUTH PATTERSON SPRINGFIELD, MISSOURI 65802 417-862-3333 WWW.OREILLYAUTO.COM 

Continue reading text version or see original annual report in PDF format above