Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

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Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations

In Management’s Discussion and Analysis, we provide a historical and prospective narrative of our general financial condition, results of operations, liquidity and certain other factors that may affect our future results, including

	●	an overview of the key drivers of the automotive aftermarket industry;

	●	key events and recent developments within our Company;

	●	our results of operations for the years ended December 31, 2020 and 2019;

	●	our liquidity and capital resources;

	●	any contractual obligations, to which we are committed;

	●	any off-balance sheet arrangements we utilize;

	●	our critical accounting estimates;

	●	the inflation and seasonality of our business; and

	●	recent accounting pronouncements that may affect our Company.

The review of Management’s Discussion and Analysis should be made in conjunction with our consolidated financial statements, related notes and other financial information, forward-looking statements and other risk factors included elsewhere in this annual report.

OVERVIEW

We are a specialty retailer of automotive aftermarket parts, tools, supplies, equipment and accessories in the United States and Mexico. We are one of the largest U.S. automotive aftermarket specialty retailers, selling our products to both DIY customers and professional service providers – our “dual market strategy.” Our stores carry an extensive product line consisting of new and remanufactured automotive hard parts, maintenance items, accessories, a complete line of auto body paint and related materials, automotive tools and professional service provider service equipment.

Our extensive product line includes an assortment of products that are differentiated by quality and price for most of the product lines we offer. For many of our product offerings, this quality differentiation reflects “good,” “better,” and “best” alternatives. Our sales and total gross profit dollars are highest for the “best” quality category of products. Consumers’ willingness to select products at a higher point on the value spectrum is a driver of sales and profitability in our industry. We have ongoing initiatives focused on marketing and training to educate customers on the advantages of ongoing vehicle maintenance, as well as “purchasing up” on the value spectrum.

Our stores also offer enhanced services and programs to our customers, including used oil, oil filter and battery recycling; battery, wiper and bulb replacement; battery diagnostic testing; electrical and module testing; check engine light code extraction; loaner tool program; drum and rotor resurfacing; custom hydraulic hoses; and professional paint shop mixing and related materials. As of December 31, 2020, we operated 5,594 stores in 47 U.S. states and 22 stores in Mexico.

We are influenced by a number of general macroeconomic factors that impact both our industry and our consumers, including, but not limited to, fuel costs, unemployment trends, interest rates and other economic factors. Due to the nature of these macroeconomic factors, we are unable to determine how long current conditions will persist and the degree of impact future changes may have on our business. Macroeconomic factors, such as increases in the U.S. unemployment rate, and demand drivers specific to the automotive aftermarket, such as U.S. miles driven, have been pressured as a result of responses to the COVID-19 pandemic, such as stay at home orders, work from home arrangements and reduced travel. Gradual reopening processes across many markets positively impacted our performance beginning in the second quarter and continuing into our third and fourth quarters; however, we are unable to predict the ongoing and future impact of the pandemic on broader economic conditions or our industry.

We believe the key drivers of current and future long-term demand for the products sold within the automotive aftermarket include the number of U.S. miles driven, number of U.S. registered vehicles, new light vehicle registrations and average vehicle age.

Number of Miles Driven

The number of total miles driven in the U.S. influences the demand for repair and maintenance products sold within the automotive aftermarket. In total, vehicles in the U.S. are driven approximately three trillion miles per year, resulting in ongoing wear and tear and a corresponding continued demand for the repair and maintenance products necessary to keep these vehicles in operation. According to the Department of Transportation, the number of total miles driven in the U.S. increased 0.9% and 0.4% in 2019 and 2018, respectively, and through February of 2020, year-to-date miles driven increased 2.1%. Miles driven dramatically declined beginning in March of 2020, and through December 2020, year-to-date miles driven decreased 13.2%, as a result of the measures taken by state and local

governments in response to COVID-19 and the impact to economic activity as consumers responded to COVID-19. Further government measures or consumer and business behavior could continue to have a negative impact on miles driven, but we are unable to predict the duration and severity of the impact to our business.

Size and Age of the Vehicle Fleet

The total number of vehicles on the road and the average age of the vehicle population heavily influence the demand for products sold within the automotive aftermarket industry. As reported by The Auto Care Association, the total number of registered vehicles increased 10.4% from 2009 to 2019, bringing the number of light vehicles on the road to 278 million by the end of 2019. For the year ended December 31, 2020, the seasonally adjusted annual rate of light vehicle sales in the U.S. (“SAAR”) was approximately 16.3 million. In the past decade, vehicle scrappage rates have remained relatively stable, ranging from 4.1% to 5.7% annually. As a result, over the past decade, the average age of the U.S. vehicle population has increased, growing 18.0%, from 10.0 years in 2009 to 11.8 years in 2019.

We believe this increase in average age can be attributed to better engineered and manufactured vehicles, which can be reliably driven at higher mileages due to better quality power trains, interiors and exteriors and the consumer’s willingness to invest in maintaining these higher-mileage, better built vehicles. As the average age of vehicles on the road increases, a larger percentage of miles are being driven by vehicles that are outside of a manufacturer warranty. These out-of-warranty, older vehicles generate strong demand for automotive aftermarket products as they go through more routine maintenance cycles, have more frequent mechanical failures and generally require more maintenance than newer vehicles. We believe consumers will continue to invest in these reliable, higher-quality, higher-mileage vehicles and these investments, along with an increasing total light vehicle fleet, will support continued demand for automotive aftermarket products.

We remain confident in our ability to gain market share in our existing markets and grow our business in new markets by focusing on our dual market strategy and the core O’Reilly values of hard work and excellent customer service.

KEY EVENTS AND RECENT DEVELOPMENTS

Several key events have had or may have a significant impact on our operations and are identified below:

After the close of business on November 29, 2019, we completed the acquisition of Mayasa, a specialty retailer of automotive aftermarket parts headquartered in Guadalajara, Jalisco, Mexico pursuant to a stock purchase agreement. At the time of the acquisition, Mayasa operated six distribution centers, 21 Orma Autopartes stores and served over 2,000 independent jobber locations in 28 Mexican states. The results of Mayasa’s operations have been included in the Company’s consolidated financial statements and results of operations beginning from the date of acquisition.

The COVID-19 pandemic has caused significant disruption to the economy, placing pressure on our business beginning in mid-March 2020, as stay at home orders and/or business restrictions were put in place in most cities, counties and states. This pressure continued until mid-April when our customers began to receive Economic Impact Payments under the CARES Act. We believe these government stimulus payments and enhanced unemployment benefits, along with the easing of stay at home orders and the associated market reopenings beginning in May and June and favorable industry dynamics, such as consumers investing in existing vehicles, led to strong demand for our products beginning in April and continuing through the remainder of 2020.

We have been deemed an essential service provider in the communities we serve, and have taken many steps to promote the health and safety of our customers and Team Members, while keeping our stores open and operating to meet our customers’ critical needs during the COVID-19 crisis. In addition, when our business was pressured at the end of the first quarter, we took steps to strengthen our liquidity and mitigate the expected ongoing impact on our operations and financial performance.

These actions include, but are not limited to:

	●	Implementing social distancing standards throughout the Company, providing our Team Members with personal protective equipment and modifying store procedures, including the implementation of curbside pickup for Buy Online, Pick Up In-Store orders, enhanced cleaning protocols, health screening, contact tracing and mandatory masking for all Team Members;

	●	Putting in place programs to relax attendance policies, as well as advance sick time to assist Team Members who are place in quarantine or need time away to support family members effective by COVID-19;

	●	Temporarily deferring certain capital investments, many of which have now resumed, and prudently managing our cost structure in response to sales volatility;

	●	Successfully issuing $500 million aggregate principal amount unsecured 4.20% Senior Notes due 2030, and drawing a precautionary $250 million on our existing revolving credit facility, however during the second quarter of 2020, this additional draw was repaid;

	●	Temporarily suspending our share repurchase program on March 16, 2020, however, the program resumed on May 29, 2020, based on the improved business environment and outlook; and

	●	Utilizing relief efforts as part of the Coronavirus Aid, Relief, and Economic Security Act (CARES Act) signed into law on March 27, 2020, which included bonus depreciation on eligible property, deferral of employer portion of social security taxes and deferral of certain tax payments.

While we continue to make adjustments as we navigate the current environment, we are unable to predict how long the current crisis will last or the extent of the impact on our customers and our business.

RESULTS OF OPERATIONS

The following table includes income statement data as a percentage of sales, which is computed independently and may not compute to presented totals due to rounding differences, for the years ended December 31, 2020 and 2019:


	For the Year Ended
	December 31,
	2020		2019
Sales	100.0	%	100.0	%
Cost of goods sold, including warehouse and distribution expenses	47.6		46.9
Gross profit	52.4		53.1
Selling, general and administrative expenses	31.6		34.2
Operating income	20.8		18.9
Interest expense	(1.4)		(1.4)
Interest income	0.1		0.1
Income before income taxes	19.5		17.6
Provision for income taxes	4.4		3.9
Net income	15.1	%	13.7	%

2020 Compared to 2019

Sales:

Sales for the year ended December 31, 2020, increased $1.45 billion, or 14%, to $11.60 billion from $10.15 billion for the same period in 2019. Comparable store sales for stores open at least one year increased 10.9% and 4.0% for the years ended December 31, 2020 and 2019, respectively. Comparable store sales are calculated based on changes in sales for U.S. domestic stores open at least one year and exclude sales of specialty machinery, sales to independent parts stores and sales to Team Members, as well as sales from Leap Day in the year ended December 31, 2020. Online sales, resulting from ship-to-home orders and pickup in-store orders, for stores open at least one year, are included in the comparable store sales calculation.

The following table presents the components of the increase in sales for the year ended December 31, 2020 (in millions):


	Increase in Sales for the Year Ended
	December 31, 2020,
	Compared to the Same Period in 2019
Store sales:
Comparable store sales	$	1,082
Non-comparable store sales:
Sales for stores opened throughout 2019, excluding stores open at least one year that are included in comparable store sales, and sales from the acquired Mayasa stores		120
Sales for stores opened throughout 2020		123
Sales from Leap Day		34
Decline in sales for stores that have closed		(9)
Non-store sales:
Includes sales of machinery and sales to independent parts stores and Team Members		105
Total increase in sales	$	1,455

We believe the increased sales are the result of store growth, the acquisition of Mayasa, sales from one additional day due to Leap Day for the year ended December 31, 2020, the high levels of customer service provided by our well-trained and technically proficient Team Members, superior inventory availability, including same day and over-night access to inventory in our regional distribution centers, enhanced services and programs offered in our stores, a broader selection of product offerings in most stores with a dynamic catalog system to identify and source parts, a targeted promotional and advertising effort through a variety of media and localized promotional events, continued improvement in the merchandising and store layouts of our stores, compensation programs for all store Team Members that provide incentives for performance and our continued focus on serving both DIY and professional service provider customers. The Company incurred significant sales headwinds beginning in the middle of March and through the middle of April, as a result of COVID-19; however, the government stimulus payments, enhanced unemployment benefits, easing of stay at home orders and the associated market reopenings beginning in May and June, when combined with favorable industry dynamics, such as consumers investing in existing vehicles, led to strong demand for our products over the remainder of the second quarter and continuing through the remainder of 2020.

Our comparable store sales increase for the year ended December 31, 2020, was driven by increases in average ticket and transaction counts for both DIY and professional service provider customers. Beginning in April of 2020, average ticket values, primarily for DIY customers, benefited from consumers spending additional time and money repairing and maintaining their vehicles in response to the COVID-19 and economic environment. In addition, the improvement in average ticket values was the result of the increasing complexity and cost of replacement parts necessary to maintain the current population of better-engineered and more technically advanced vehicles. These better-engineered, more technically advanced vehicles require less frequent repairs, as the component parts are more durable and last for longer periods of time. This decrease in repair frequency creates pressure on customer transaction counts; however, when repairs are needed, the cost of replacement parts is, on average, greater, which is a benefit to average ticket values. Average ticket values also benefited from increased selling prices on a SKU-by-SKU basis, as compared to the same period in 2019, driven by increases in acquisition cost of inventory, which were passed on in market prices.

As the COVID-19 stay at home orders and business restrictions took effect in our markets in the middle of March 2020, transaction counts for both DIY and professional service provider customers turned sharply negative, with a larger impact realized on the professional side of the business, as we believe a larger segment of the demographic served by our professional service provider customers is more likely to accommodate working from home than a typical DIY customer. However, in the middle of April 2020, as the government stimulus and enhanced unemployment benefits reached consumers, we saw a reversal in transaction counts, with a more immediate impact realized on the DIY side of the business. Improved transaction counts continued through December 2020, as states implemented reopening plans and many individuals returned to work. We cannot predict what continued impact the COVID-19 pandemic will have to our business in the future given the high degree of uncertainty as to the duration and severity of the pandemic, the potential future changes to economic reopening plans and the mitigating impact of government stimulus for consumers.

We opened 155 net, new U.S. stores and one new store in Mexico during the year ended December 31, 2020, compared to opening 200 net, new U.S. stores during the year ended December 31, 2019. In addition, on January 1, 2019, we began operating 33 acquired Bennett stores, and during the year ended December 31, 2019, we merged 13 of these acquired Bennett stores into existing O’Reilly locations and rebranded the remaining 20 Bennett stores as O’Reilly stores. After the close of business on November 29, 2019, we acquired 21 stores from Mayasa. As of December 31, 2020, we operated 5,594 stores in 47 U.S. states and 22 stores in Mexico compared to 5,439 U.S. stores in 47 states and 21 stores in Mexico at December 31, 2019. We anticipate new store growth will be 165 to 175 net, new store openings in 2021.

Gross profit:

Gross profit for the year ended December 31, 2020, increased 13% to $6.09 billion (or 52.4% of sales) from $5.39 billion (or 53.1% of sales) for the same period in 2019. The increase in gross profit dollars for the year ended December 31, 2020, was primarily the result of sales from new stores, the increase in comparable store sales at existing stores, sales from the acquired Mayasa stores and one additional day due to Leap Day. The decrease in gross profit as a percentage of sales for the year ended December 31, 2020, was due to the comparable period in the prior year receiving a benefit from selling through inventory purchased prior to tariff related, industry-wide acquisition cost increases, and corresponding selling price increases, and the lower gross margin sales from the acquired Mayasa stores, due to their large independent jobber customer base, partially offset by a greater percentage of total sales generated from DIY customers, which carry a higher gross margin than professional service provider sales and acquisition cost reductions. We determine inventory cost using the last-in, first-out (“LIFO”) method, but have, over time, seen our LIFO reserve balance exhausted as a result of cumulative historical acquisition cost decreases. Our policy is to not write up inventory in excess of replacement cost, and accordingly, we are effectively valuing our inventory at replacement cost.

Selling, general and administrative expenses:

Selling, general and administrative expenses (“SG&A”) for the year ended December 31, 2020, increased 6% to $3.67 billion (or 31.6% of sales) from $3.47 billion (or 34.2% of sales) for the same period in 2019. The increase in total SG&A dollars for the year ended December 31, 2020, was the result of facilities and vehicles to support our increased sales and store count, expense from the acquired Mayasa stores and one additional day due to Leap Day. The decrease in SG&A as a percentage of sales for the year ended December 31, 2020, was principally due to leverage of store operating costs on strong comparable store sales growth combined with our cautionary approach and strict expense control measures in response to the onset of the COVID-19 environment.

Operating income:

As a result of the impacts discussed above, operating income for the year ended December 31, 2020, increased 26% to $2.42 billion (or 20.8% of sales) from $1.92 billion (or 18.9% of sales) for the same period in 2019.

Other income and expense:

Total other expense for the year ended December 31, 2020, increased 17% to $153 million (or 1.3% of sales), from $130 million (or 1.3% of sales) for the same period in 2019. The increase in total other expense for the year ended December 31, 2020, was the result of increased interest expense on higher average outstanding borrowings.

Income taxes:

Our provision for income taxes for the year ended December 31, 2020, increased 29% to $514 million (22.7% effective tax rate) from $399 million (22.3% effective tax rate) for the same period in 2019. The increase in our provision for income taxes for the year ended December 31, 2020, was the result of higher taxable income and lower excess tax benefits from share-based compensation, partially offset by a greater benefit from tax credit equity investments in 2020, as compared to the same period in 2019. The increase in our effective tax rate for the year ended December 31, 2020, was the result of the lower excess tax benefits from share-based compensation, partially offset by a greater benefit from tax credit equity investments in 2020, as compared to the same period in 2019.

Net income:

As a result of the impacts discussed above, net income for the year ended December 31, 2020, increased 26% to $1.75 billion (or 15.1% of sales), from $1.39 billion (or 13.7% of sales) for the same period in 2019.

Earnings per share:

Our diluted earnings per common share for the year ended December 31, 2020, increased 32% to $23.53 on 74 million shares from $17.88 on 78 million shares for the same period in 2019.

2019 Compared to 2018

A discussion of the changes in our results of operations for the year ended December 31, 2019, as compared to the year ended December 31, 2018, has been omitted from this Form 10-K but may be found in Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the annual report on Form 10-K for the year ended December 31, 2019, filed with the Securities and Exchange Commission (the “SEC”) on February 28, 2020, which is available free of charge on the SEC’s website at www.sec.gov by searching with our ticker symbol “ORLY” or at our internet address, www.OReillyAuto.com, by clicking “Investor Relations” located at the bottom of the page.

LIQUIDITY AND CAPITAL RESOURCES

Our long-term business strategy requires capital to open new stores, fund strategic acquisitions, expand distribution infrastructure, operate and maintain our existing stores and may include the opportunistic repurchase of shares of our common stock through our Board-approved share repurchase program. The primary sources of our liquidity are funds generated from operations and borrowed under our unsecured revolving credit facility. Decreased demand for our products or changes in customer buying patterns could negatively impact our ability to generate funds from operations. Additionally, decreased demand or changes in buying patterns could impact our ability to meet the debt covenants of our credit agreement and, therefore, negatively impact the funds available under our unsecured revolving credit facility.

As we operated amid uncertainty and disruption caused by the COVID-19 pandemic, we have demonstrated our ability to take prudent steps to support the future stability and financial flexibility of our Company. At the onset of disruption caused by the COVID-19 pandemic, our Teams took decisive action to reduce costs and conserve cash, which included delaying capital investments, reducing operating costs and temporarily suspending our share repurchase program from March 16, 2020, through May 28, 2020. As we are unable to determine the duration or potential increase in severity of this crisis, we cannot predict its future impacts on our ability to generate funds from operations or maintain liquidity, and accordingly, we will continue to make adjustments as we navigate the current and expected environment.

Liquidity and related ratios:

The following table highlights our liquidity and related ratios as of December 31, 2020 and 2019 (dollars in millions):


	December 31,				Percentage
Liquidity and Related Ratios	2020		2019		Change
Current assets	$	4,500	$	3,834	17.4	%
Current liabilities		5,262		4,469	17.7	%
Working capital (1)		(763)		(636)	(20.0)	%
Total debt		4,123		3,891	6.0	%
Total equity	$	140	$	397	(64.7)	%
Debt to equity (2)		29.40:1		9.79:1	200.2	%

(1)	Working capital is calculated as current assets less current liabilities.

(2)	Debt to equity is calculated as total debt divided by total equity.

Current assets increased 17%, current liabilities increased 18%, total debt increased 6% and total equity decreased 65% from 2019 to 2020. The increase in current assets was primarily due to the increase in cash, resulting from our strong sales in 2020, and inventory, resulting from our distribution expansion projects and the opening of 156 net, new stores in 2020. The increase in current liabilities was primarily due to an increase in accounts payable, which was the result of higher inventory turns on strong sales, and accrued benefits and withholdings, which was the result of deferred payroll tax payments under the CARES Act and Team member incentive payments. Our accounts payable to inventory ratio was 114.5% as of December 31, 2020, as compared to 104.4% for the same period in 2019. The increase in total debt was attributable to the issuance of $500 million of 4.200% Senior Notes due 2030 and $500 million of 1.750% Senior Notes due 2031, partially offset by the redemption of $500 million aggregate principal amount of unsecured 4.875% Senior Notes due 2021 and no borrowings on our revolving credit facility at December 31, 2020. The decrease in total equity was due to an increase in retained deficit, resulting from a greater impact of share repurchase activity under our share repurchase program, partially offset by net income for the year ended December 31, 2020.

The following table identifies cash provided by/(used in) our operating, investing and financing activities for the years ended December 31, 2020 and 2019 (in thousands):


	For the Year Ended
	December 31,
Liquidity:	2020		2019
Total cash provided by/(used in):
Operating activities	$	2,836,603	$	1,708,479
Investing activities		(614,895)		(796,746)
Financing activities		(1,796,577)		(902,811)
Effect of exchange rate changes on cash		103		169
Net increase (decrease) in cash and cash equivalents	$	425,234	$	9,091

Capital expenditures	$	465,579	$	628,057
Free cash flow (1)		2,189,995		1,020,649

(1)	Calculated as net cash provided by operating activities, less capital expenditures, excess tax benefit from share-based compensation payments and investment in tax credit equity investments for the period.

Cash and cash equivalents balances held outside of the U.S. were $11.5 million and $5.7 million as of December 31, 2020 and 2019, respectively, which was generally utilized to support the liquidity needs of foreign operations in Mexico.

Operating activities:

The increase in net cash provided by operating activities in 2020 compared to 2019 was primarily due to a decrease in net inventory investment, a larger increase in net income, an increase in income taxes payable and an increase in accrued benefits and withholdings. The larger decrease in net inventory investment in 2020, as compared to 2019, was primarily attributable to the strong comparable store sales growth and the resulting benefit to inventory turns. The increase in income taxes payable in 2020, compared to the decrease in income taxes payable in 2019, was primarily the result of the realization of credits from renewable energy tax credit investments and an income taxes payable position at the end of 2020, versus a prepaid income taxes position at the end of 2019. The increase in accrued benefits and withholdings is primarily due to the deferral of payroll tax payments under the CARES Act and the timing of Team Member incentive payments.

Investing activities:

The decrease in net cash used in investing activities in 2020 compared to 2019 was primarily the result of a decrease in capital expenditures and a decrease in other investing activities, partially offset by an increase in investments in tax credit equity investments. Total capital expenditures were $466 million in 2020 versus $628 million in 2019, and the decrease was primarily related to lower new store project development spending in 2020, as compared to 2019, and the level of distribution expansion projects in 2020, as compared to 2019. The decrease in other investment activities was due to the acquisition of Mayasa in 2019. The increase in investments in tax credit equity investments was the result of entering into more renewable energy tax credit investments in 2020, as compared to 2019, primarily for the purpose of receiving renewable energy tax credits.

We opened 156 and 200 net, new stores in 2020 and 2019, respectively. In addition, on January 1, 2019, we began operating 33 acquired Bennett stores, and during the year ended December 31, 2019, we merged 13 of these acquired Bennett stores into existing O’Reilly locations and rebranded the remaining 20 Bennett stores as O’Reilly stores. After the close of business on November 29, 2019, we acquired 21 stores from Mayasa. We plan to open 165 to 175 net, new stores in 2021. The current costs associated with the opening of a new store, including the cost of land acquisition, building improvements, fixtures, vehicles, net inventory investment and computer equipment, are estimated to average approximately $1.5 million to $1.8 million; however, such costs may be significantly reduced where we lease, rather than purchase, the store site.

Financing activities:

The increase in net cash used in financing activities in 2020 compared to 2019 was primarily attributable to an increase in repurchases of our common stock during 2020, compared to 2019, the redemption of $500 million aggregate principal amount of unsecured 4.875% Senior Notes due 2021 and no borrowings on our revolving credit facility at December 31, 2020, partially offset by higher proceeds from the issuance of long-term debt in 2020, compared to 2019.

2019 Compared to 2018:

A discussion of the changes in our operating activities, liquidity activities and financing activities for the year ended December 31, 2019, as compared to the year ended December 31, 2018, has been omitted from this Form 10-K but may be found in Item 7. “Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the annual report on Form 10-K for the year ended

December 31, 2019, filed with the Securities and Exchange Commission (the “SEC”) on February 28, 2020, which is available free of charge on the SEC’s website at www.sec.gov by searching with our ticker symbol “ORLY” or at our internet address, www.OReillyAuto.com, by clicking “Investor Relations” located at the bottom of the page.

Unsecured revolving credit facility:

On April 5, 2017, the Company entered into a credit agreement (the “Credit Agreement”). The Credit Agreement provides for a five-year $1.2 billion unsecured revolving credit facility (the “Revolving Credit Facility”) arranged by JPMorgan Chase Bank, N.A., which is scheduled to mature in April 2022. The Credit Agreement includes a $200 million sub-limit for the issuance of letters of credit and a $75 million sub-limit for swing line borrowings. As described in the Credit Agreement governing the Revolving Credit Facility, the Company may, from time to time, subject to certain conditions, increase the aggregate commitments under the Revolving Credit Facility by up to $600 million, provided that the aggregate amount of the commitments does not exceed $1.8 billion at any time.

As of December 31, 2020 and 2019, we had outstanding letters of credit, primarily to support obligations related to workers’ compensation, general liability and other insurance policies, in the amounts of $66.4 million and $38.9 million, respectively, reducing the aggregate availability under the Credit Agreement by those amounts. As of December 31, 2020, we had no outstanding borrowings under the Revolving Credit Facility, versus $261.0 million as of December 31, 2019.

Senior Notes:

On March 27, 2020, we issued $500 million aggregate principal amount of unsecured 4.200% Senior Notes due 2030 (“4.200% Senior Notes due 2030”) at a price to the public of 99.959% of their face value with U.S. Bank National Association (“U.S. Bank”) as trustee. Interest on the 4.200% Senior Notes due 2030 is payable on April 1 and October 1 of each year, which began on October 1, 2020, and is computed on the basis of a 360-day year.

On September 23, 2020, we issued $500 million aggregate principal amount of unsecured 1.750% Senior Notes due 2031 (“1.750% Senior Notes due 2031”) at a price to the public of 99.544% of their face value with U.S. Bank as trustee. Interest on the 1.750% Senior Notes due 2031 is payable on March 15 and September 15 of each year, beginning on March 15, 2021, and is computed on the basis of a 360-day year.

On October 14, 2020, we redeemed our $500 million aggregate principal amount of unsecured 4.875% Senior Notes due 2021 at a redemption price of $500 million, plus accrued and unpaid interest to, but not including, the date of redemption.

As of December 31, 2020, we have issued and have outstanding a cumulative $4.2 billion aggregate principal amount of unsecured senior notes, which are due between 2021 and 2031, with UMB Bank, N.A. and U.S. Bank as trustees. Interest on the senior notes, ranging from 1.750% to 4.625%, is payable semi-annually and is computed on the basis of a 360-day year. None of our subsidiaries is a guarantor under our senior notes.

Debt covenants:

The indentures governing our senior notes contain covenants that limit our ability and the ability of certain of our subsidiaries to, among other things, create certain liens on assets to secure certain debt and enter into certain sale and leaseback transactions, and limit our ability to merge or consolidate with another company or transfer all or substantially all of our property, in each case as set forth in the indentures. These covenants are, however, subject to a number of important limitations and exceptions. As of December 31, 2020, we were in compliance with the covenants applicable to our senior notes.

The Credit Agreement contains certain covenants, including limitations on indebtedness, a minimum consolidated fixed charge coverage ratio of 2.50:1.00 and a maximum consolidated leverage ratio of 3.50:1.00. The consolidated fixed charge coverage ratio includes a calculation of earnings before interest, taxes, depreciation, amortization, rent and non-cash share-based compensation expense to fixed charges. Fixed charges include interest expense, capitalized interest and rent expense. The consolidated leverage ratio includes a calculation of adjusted debt to earnings before interest, taxes, depreciation, amortization, rent and non-cash share-based compensation expense. Adjusted debt includes outstanding debt, outstanding stand-by letters of credit and similar instruments, five-times rent expense and excludes any premium or discount recorded in conjunction with the issuance of long-term debt. In the event that we should default on any covenant contained within the Credit Agreement, certain actions may be taken, including, but not limited to, possible termination of commitments, immediate payment of outstanding principal amounts plus accrued interest and other amounts payable under the Credit Agreement and litigation from our lenders.

We had a consolidated fixed charge coverage ratio of 5.93 times and 5.21 times as of December 31, 2020 and 2019, respectively, and a consolidated leverage ratio of 1.92 times and 2.20 times as of December 31, 2020 and 2019, respectively, remaining in compliance with all covenants related to the borrowing arrangements.

The table below outlines the calculations of the consolidated fixed charge coverage ratio and consolidated leverage ratio covenants, as defined in the Credit Agreement governing the Revolving Credit Facility, for the years ended December 31, 2020 and 2019 (dollars in thousands):


		For the Year Ended
		December 31,
		2020		2019
GAAP net income		$	1,752,302	$	1,391,042
Add:	Interest expense		161,126		139,975
	Rent expense (1)		354,316		338,697
	Provision for income taxes		514,103		399,287
	Depreciation expense		305,566		270,076
	Amortization expense		9,069		799
	Non-cash share-based compensation		22,747		21,921
Non-GAAP EBITDAR		$	3,119,229	$	2,561,797

	Interest expense	$	161,126	$	139,975
	Capitalized interest		10,180		12,998
	Rent expense (1)		354,316		338,697
Total fixed charges		$	525,622	$	491,670

Consolidated fixed charge coverage ratio			5.93		5.21

GAAP debt		$	4,123,217	$	3,890,527
Add:	Stand-by letters of credit		66,427		38,870
	Discount on senior notes		5,071		3,515
	Debt issuance costs		21,712		16,958
	Five-times rent expense		1,771,580		1,693,485
Non-GAAP adjusted debt		$	5,988,007	$	5,643,355

Consolidated leverage ratio			1.92		2.20

(1)	The table below outlines the calculation of Rent expense and reconciles Rent expense to Total lease cost, per Accounting Standard Codification 842 (“ASC 842”), adopted and effective January 1, 2019, the most directly comparable GAAP financial measure, for the twelve months ended December 31, 2020 and 2019 (in thousands):


Total lease cost, per ASC 842, for the year ended December 31, 2020		$	420,365
Less:	Variable non-contract operating lease components, related to property taxes and insurance, for the year ended December 31, 2020		66,049
Rent expense for the year ended December 31, 2020		$	354,316

Total lease cost, per ASC 842, for the year ended December 31, 2019		$	398,294
Less:	Variable non-contract operating lease components, related to property taxes and insurance, for the year ended December 31, 2019		59,597
Rent expense for the year ended December 31, 2019		$	338,697

The table below outlines the calculation of Free cash flow and reconciles Free cash flow to Net cash provided by operating activities, the most directly comparable GAAP financial measure, for the years ended December 31, 2020 and 2019 (in thousands):


		For the Year Ended
		December 31,
		2020		2019
Cash provided by operating activities		$	2,836,603	$	1,708,479
Less:	Capital expenditures		465,579		628,057
	Excess tax benefit from share-based compensation payments		16,918		25,992
	Investment in tax credit equity investments		164,111		33,781
Free cash flow		$	2,189,995	$	1,020,649

Free cash flow, the consolidated fixed charge coverage ratio and the consolidated leverage ratio discussed and presented in the tables above are not derived in accordance with United States generally accepted accounting principles (“GAAP”). We do not, nor do we suggest investors should, consider such non-GAAP financial measures in isolation from, or as a substitute for, GAAP financial information. We believe that the presentation of our free cash flow, consolidated fixed charge coverage ratio and consolidated leverage ratio provides meaningful supplemental information to both management and investors and reflects the required covenants under the Credit Agreement. We include these items in judging our performance and believe this non-GAAP information is useful to investors as well. Material limitations of these non-GAAP measures are that such measures do not reflect actual GAAP amounts. We compensate for such limitations by presenting, in the tables above, a reconciliation to the most directly comparable GAAP measures.

Share repurchase program:

In January of 2011, our Board of Directors approved a share repurchase program. Under the program, we may, from time to time, repurchase shares of our common stock, solely through open market purchases effected through a broker dealer at prevailing market prices, based on a variety of factors such as price, corporate trading policy requirements and overall market conditions. Our Board of Directors may increase or otherwise modify, renew, suspend or terminate the share repurchase program at any time, without prior notice. As announced on February 5, 2020, October 28, 2020, and February 10, 2021, our Board of Directors each time approved a resolution to increase the authorization amount under our share repurchase program by an additional $1.0 billion, resulting in a cumulative authorization amount of $15.8 billion. Each additional authorization is effective for a three-year period, beginning on its respective announcement date. In order to conserve liquidity in response to COVID-19, we suspended our share repurchase program on March 16, 2020. We continued to evaluate business conditions and our liquidity and, as a result of this evaluation, resumed our share repurchase program on May 29, 2020.

The following table identifies shares of our common stock that have been repurchased as part of our publicly announced share repurchase program for the year ended December 31, 2020 and 2019 (in thousands, except per share data):


	For the Year Ended
	December 31,
	2020		2019
Shares repurchased		4,832		3,877
Average price per share	$	431.93	$	369.55
Total investment	$	2,087,146	$	1,432,752

As of December 31, 2020, we had $481.5 million remaining under our share repurchase program. Subsequent to the end of the year and through February 26, 2021, we repurchased an additional 1.1 million shares of our common stock under our share repurchase program, at an average price of $447.49, for a total investment of $478.4 million. We have repurchased a total of 82.1 million shares of our common stock under our share repurchase program since the inception of the program in January of 2011 and through February 26, 2021, at an average price of $179.65 for a total aggregate investment of $14.7 billion. As of February 26, 2021, we had approximately $1.0 billion remaining under our share repurchase program.

CONTRACTUAL OBLIGATIONS

Our contractual obligations as of December 31, 2020, included commitments for short and long-term debt arrangements, interest payments related to long-term debt, future payments under non-cancelable lease arrangements, self-insurance reserves, purchase obligations for construction contract commitments and other long-term liabilities, which are identified in the table below and are fully disclosed in Note 6 “Leases,” Note 13 “Share-Based Compensation and Benefit Plans” and Note 14 “Commitments” to the Consolidated Financial Statements. We expect to fund these commitments primarily with operating cash flows expected to be generated in the normal course of business or through borrowings under our Revolving Credit Facility.

Deferred income taxes, as well as commitments with various suppliers for the purchase of inventory, are not reflected in the table below due to the absence of scheduled maturities, the nature of the account or the commitment’s cancellation terms. Due to the absence of scheduled maturities, the timing of certain of these payments cannot be determined, except for amounts estimated to be payable in 2021, which are included in “Current liabilities” on our Consolidated Balance Sheets.

We record a reserve for potential liabilities related to uncertain tax positions, including estimated interest and penalties, which are fully disclosed in Note 16 “Income Taxes” to the Consolidated Financial Statements. These estimates are not included in the table below because the timing related to the ultimate resolution or settlement of these positions cannot be determined. As of December 31, 2020, we recorded a net liability of $35.9 million related to these uncertain tax positions on our Consolidated Balance Sheets, all of which was included in “Other liabilities.”

We record a reserve for the projected obligation related to future payments under the Company’s nonqualified deferred compensation plan, which is fully disclosed in Note 13 “Share-Based Compensation and Benefit Plans” to the Consolidated Financial Statements. This estimate is not included in the table below because the timing related to the ultimate payment cannot be determined. As of December 31, 2020, we recorded a liability of $40.4 million related to this uncertain liability on our Consolidated Balance Sheets, all of which was included in “Other liabilities.”

The following table identifies the estimated payments of the Company’s contractual obligations as of December 31, 2020 (in thousands):


	Payments Due By Period
			Before		Years		Years		Years 5
Contractual Obligations	Total		1 Year		1 and 2		3 and 4		and Over
Long-term debt principal and interest payments (1)	$	5,121,911	$	453,410	$	861,581	$	231,500	$	3,575,420
Future minimum lease payments under operating leases (2)		2,415,508		322,477		589,425		457,298		1,046,308
Self-insurance reserves (3)		213,332		109,199		65,489		25,233		13,411
Construction commitments		38,268		38,268		—		—		—
Total contractual cash obligations	$	7,789,019	$	923,354	$	1,516,495	$	714,031	$	4,635,139

(1)

Our Revolving Credit Facility, which has a maximum aggregate commitment of $1.20 billion and matures in April 2022, bears interest (other than swing line loans), at our option, at either the Alternate Base Rate or Adjusted LIBO Rate (both as defined in the Credit Agreement) plus a margin, that will vary from 0.000% to 0.250% in the case of loans bearing interest at the Alternate Base Rate and 0.680% to 1.250% in the case of loans bearing interest at the Adjusted LIBO Rate, in each case based upon the better of the ratings assigned to our debt by Moody’s Investor Service, Inc. and Standard & Poor’s Rating Services, subject to limited exceptions. Swing line loans made under the Revolving Credit Facility bear interest at the Alternate Base Rate plus the applicable margin described above. In addition, we pay a facility fee on the aggregate amount of the commitments in an amount equal to a percentage of such commitments, varying from 0.070% to 0.250% per annum based upon the better of the ratings assigned to our debt by Moody’s Investor Service, Inc. and Standard & Poor’s Rating Services, subject to limited exceptions. Based on our current credit ratings, our margin for Alternate Base Rate loans was 0.000%, our margin for Eurodollar Revolving Loans was 0.900% and our facility fee was 0.100%. As of December 31, 2020, we had no outstanding borrowings under our Revolving Credit Facility.

(2)	The minimum lease payments above do not include potential amounts for percentage rent and other variable operating lease related costs, which are also required contractual obligations under our operating leases but are generally not fixed and can fluctuate from year to year. See Note 6 “Leases” to the Consolidated Financial Statements for further information on our operating leases.

(3)

We use various self-insurance mechanisms to provide for potential liabilities from workers’ compensation, vehicle and general liability and employee health care benefits. The self-insurance reserves above are at the undiscounted obligation amount. The self-insurance reserves liabilities are recorded on our Consolidated Balance Sheets at our estimate of their net present value and do not have scheduled maturities; however, we can estimate the timing of future payments based upon historical patterns. See Note 14 “Commitments” to the Consolidated Financial Statements for further information on our self-insurance reserves.

OFF-BALANCE SHEET ARRANGEMENTS

Off-balance sheet arrangements are transactions, agreements, or other contractual arrangements with an unconsolidated entity, for which we have an obligation to the entity that is not recorded in our consolidated financial statements. We historically utilized various off-balance sheet financial instruments, including sale-leaseback and synthetic lease transactions, but we have not entered into any such transactions for over 10 years and do not plan to utilize off-balance sheet arrangements in the future to fund our working capital requirements, operations or growth plans.

We issue stand-by letters of credit provided by a $200 million sub-limit under the Revolving Credit Facility that reduce our available borrowings under the Revolving Credit Facility. Those 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. Letters of credit totaling $66.4 million and $38.9 million were outstanding at December 31, 2020 and 2019, respectively.

We do not have any off-balance sheet financing that has, or is reasonably likely to have, a material, current or future effect on our financial condition, cash flows, results of operations, liquidity, capital expenditures or capital resources.

CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The preparation of our financial statements in accordance with GAAP requires the application of certain estimates and judgments by management. Management bases its assumptions, estimates and adjustments on historical experience, current trends and other factors believed to be relevant at the time the consolidated financial statements are prepared. Management believes that the following policies are critical due to the inherent uncertainty of these matters and the complex and subjective judgments required in establishing these estimates. Management continues to review these critical accounting policies and estimates to ensure that the consolidated financial

statements are presented fairly in accordance with GAAP. However, actual results could differ from our assumptions and estimates and such differences could be material.

Supplier Concessions:

We receive concessions from our suppliers through a variety of programs and arrangements, including co-operative advertising, allowances for warranties, merchandise allowances 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 material supplier concessions are recognized as a reduction to the cost of sales. Amounts receivable from suppliers also include amounts due to us relating to supplier purchases and product returns. Management regularly reviews amounts receivable from suppliers and assesses the need for a reserve for uncollectible amounts based on our evaluation of our suppliers’ financial position and corresponding ability to meet their financial obligations. Based on our historical results and current assessment, we have not recorded a reserve for uncollectible amounts in our consolidated financial statements, and we do not believe there is a reasonable likelihood that our ability to collect these amounts will differ from our expectations. The eventual ability of our suppliers to pay us the obliged amounts could differ from our assumptions and estimates, and we may be exposed to losses or gains that could be material.

Valuation of Long-Lived Assets:

We evaluate the carrying value of finite and indefinite long-lived assets for impairment whenever events or changes in circumstances indicate the carrying value of these assets might exceed their current fair values. As a component of the finite long-lived assets evaluation, we review performance at the store level to identify any stores with current period operating losses that should be considered for impairment. A potential impairment has occurred if the projected future undiscounted cash flows realized from the best possible use of the asset are less than the carrying value of the asset. The estimate of cash flows includes management’s assumptions of cash inflows and outflows directly resulting from the use of that asset in operations. If the carrying amount of an asset exceeds its estimated future cash flows, an impairment charge is recognized for the amount by which the carrying amount of the asset exceeds the fair value of the assets. As a component of the indefinite long-lived assets evaluation, we perform a qualitative assessment to determine if events or circumstances that could affect the inputs used to determine the fair value of the intangible asset have occurred, as well as if they continue to support an indefinite useful life. Areas evaluated include changes in cost factors such as raw materials or labor, financial performance including declining revenues or cash flows, the legal, regulatory and political environment, and other industry and market considerations, including the competitive environment and changes in product demand. If events or market conditions exist that would more likely than not indicate that impairment may be necessary, a detailed quantitative assessment would be performed. Based on our qualitative assessment, we do not believe there has been a change of events or circumstances that would indicate that a calculation of fair value of indefinite long-lived assets is required as of December 31, 2020. Our impairment analyses contain estimates due to the inherently judgmental nature of forecasting long-term estimated cash flows and determining the ultimate useful lives and fair values of the assets. Actual results could differ from these estimates, which could materially impact our impairment assessment.

Self-Insurance Reserves:

We use a combination of insurance and self-insurance mechanisms to provide for potential liabilities from workers’ compensation, general liability, vehicle liability, property loss and Team Member health care benefits. With the exception of certain Team Member health care benefit liabilities, employment related claims and litigation, certain commercial litigation and certain regulatory matters, we obtain third-party insurance coverage to limit our exposure for any individual workers’ compensation, general liability, vehicle liability or property loss claim. When estimating our self-insurance liabilities, we consider a number of factors, including historical claims experience and trend-lines, projected medical and legal inflation, growth patterns and exposure forecasts. The assumptions made by management as they relate to each of these factors represent our judgment as to the most probable cumulative impact of each factor to our future obligations. Our calculation of self-insurance liabilities requires management to apply judgment to estimate the ultimate cost to settle reported claims and claims incurred but not yet reported as of the balance sheet date, and the application of alternative assumptions could result in a different estimate of these liabilities. Actual claim activity or development may vary from our assumptions and estimates, which may result in material losses or gains. As we obtain additional information that affects the assumptions and estimates we used to recognize liabilities for claims incurred in prior accounting periods, we adjust our self-insurance liabilities to reflect the revised estimates based on this additional information. These liabilities are recorded at our estimate of their net present value. These liabilities do not have scheduled maturities, but we can estimate the timing of future payments based upon historical patterns. We could apply alternative assumptions regarding the timing of payments or the applicable discount rate that could result in materially different estimates of the net present value of the liabilities. If self-insurance reserves were changed 10% from our estimated reserves at December 31, 2020, the financial impact would have been approximately $20 million or 0.9% of pretax income for the year ended December 31, 2020.

INFLATION AND SEASONALITY

We have generally been successful in reducing the effects of merchandise cost increases principally by taking advantage of supplier incentive programs, economies of scale resulting from increased volume of purchases and selective forward buying. To the extent our acquisition cost increased due to price increases industry-wide, we have typically been able to pass along these increased costs through higher retail prices for the affected products. As a result, we do not believe inflation has had a material adverse effect on our operations.

To some extent, our business is seasonal primarily as a result of the impact of weather conditions on customer buying patterns. While we have historically realized operating profits in each quarter of the year, our store sales and profits have historically been higher in the second and third quarters (April through September) than in the first and fourth quarters (October through March) of the year.

RECENT ACCOUNTING PRONOUNCEMENTS

See Note 1 “Summary of Significant Accounting Policies” to the Consolidated Financial Statements for information about recent accounting pronouncements.

Item 7A. Quantitative and Qualitative Disclosures about Market Risk

Interest rate risk:

We are subject to interest rate risk to the extent we borrow against our unsecured revolving credit facility (the “Revolving Credit Facility”) with variable interest rates based on either an Alternative Base Rate or Adjusted LIBO Rate, as defined in the credit agreement governing the Revolving Credit Facility. As of December 31, 2020, we had no outstanding borrowings under our Revolving Credit Facility.

We had outstanding fixed rate debt of $4.2 billion and $3.7 billion as of December 31, 2020 and 2019, respectively. The fair value of our fixed rate debt was estimated at $4.6 billion and $3.9 billion as of December 31, 2020 and 2019, respectively, which was determined by reference to quoted market prices.

Cash equivalents risk:

We invest certain of our excess cash balances in short-term, highly-liquid instruments with maturities of 90 days or less. We do not expect any material losses from our invested cash balances and we believe that our interest rate exposure is minimal. As of December 31, 2020, our cash and cash equivalents totaled $465.6 million.

Foreign currency risk:

Foreign currency exposures arising from transactions include firm commitments and anticipated transactions denominated in a currency other than our entities’ functional currencies. To minimize our risk, we generally enter into transactions denominated in the respective functional currencies. Our foreign currency exposure arises from Mexican peso-denominated revenues and profits and their translation into U.S. dollars.

We view our investments in Mexican subsidiaries as long-term. The net asset exposure in the Mexican subsidiaries translated into U.S. dollars using the year-end exchange rates was $149.2 million at December 31, 2020. The year ended December 31, 2020, exchange rates of the Mexican peso with respect to the U.S. dollar decreased by approximately 5% from December 31, 2019. The potential loss in value of our net assets in the Mexican subsidiaries resulting from a 10% change in quoted foreign currency exchange rates at December 31, 2020, would be approximately $13.6 million. Any changes in our net assets in the Mexican subsidiaries relating to foreign currency exchange rates would be reflected in the financial statement through the foreign currency translation component of accumulated other comprehensive income, unless the Mexican subsidiaries are sold or otherwise disposed. A 10% change in average exchange rates would not have had a material impact on our results of operations.

Item 8. Financial Statements and Supplementary Data

Index


	Page
Management’s Report on Internal Control over Financial Reporting	41
Report of Independent Registered Public Accounting Firm: Internal Control over Financial Reporting	42
Report of Independent Registered Public Accounting Firm: Financial Statements	43
Consolidated Balance Sheets	45
Consolidated Statements of Income	46
Consolidated Statements of Comprehensive Income	47
Consolidated Statements of Shareholders’ Equity	48
Consolidated Statements of Cash Flows	49
Notes to Consolidated Financial Statements	50

MANAGEMENT’S REPORT ON INTERNAL CONTROL OVER FINANCIAL REPORTING

The management of O’Reilly Automotive, Inc. and Subsidiaries (the “Company”), under the supervision and with the participation of the Company’s principal executive officer and principal financial officer and effected by the Company’s Board of Directors, is responsible for establishing and maintaining adequate internal control over financial reporting as defined in Rule 13(a)-15(f) or 15(d)-15(f) under the Securities Exchange Act of 1934, as amended. The Company’s 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 accounting principles generally accepted in the United States of America, 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.

Management recognizes that 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 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 the Company’s principal executive officer and principal financial officer, management assessed the effectiveness of the Company’s internal control over financial reporting as of December 31, 2020. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in Internal Control - Integrated Framework (2013 framework). Based on this assessment, management believes that as of December 31, 2020, the Company’s internal control over financial reporting is effective based on those criteria.

Ernst & Young LLP, Independent Registered Public Accounting Firm, has audited the Company’s consolidated financial statements and has issued an attestation report on the effectiveness of the Company’s internal control over financial reporting, as stated in their report, which is included herein.


/s/	Gregory D. Johnson	/s/	Thomas McFall
Gregory D. Johnson		Thomas McFall
Chief Executive Officer and		Executive Vice President and
Co-President		Chief Financial Officer
February 26, 2021		February 26, 2021

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Shareholders and the Board of Directors of O’Reilly Automotive, Inc. and Subsidiaries

Opinion on Internal Control Over Financial Reporting

We have audited O’Reilly Automotive, Inc. and Subsidiaries’ internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control—Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) (the COSO criteria). In our opinion, O’Reilly Automotive, Inc. and Subsidiaries (the Company) maintained, in all material respects, effective internal control over financial reporting as of December 31, 2020, based on the COSO criteria.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the consolidated balance sheets of the Company as of December 31, 2020 and 2019, the related consolidated statements of income, comprehensive income, shareholders’ equity and cash flows for each of the three years in the period ended December 31, 2020, and the related notes, and our report dated February 26, 2021 expressed an unqualified opinion thereon.

Basis for Opinion

The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting included in the accompanying Management’s Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audit in accordance with the standards of the PCAOB. 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, assessing the risk that a material weakness exists, testing and evaluating the design and operating effectiveness of internal control based on the assessed risk, and performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

Definition and Limitations of Internal Control Over Financial Reporting

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.

/s/ Ernst & Young LLP

Kansas City, Missouri

February 26, 2021

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Shareholders and the Board of Directors of O’Reilly Automotive, Inc. and Subsidiaries

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of O’Reilly Automotive, Inc. and Subsidiaries (the Company) as of December 31, 2020 and 2019, the related consolidated statements of income, comprehensive income, shareholders’ equity and cash flows for each of the three years in the period ended December 31, 2020, and the related notes (collectively referred to as the “consolidated financial statements”). In our opinion, the consolidated financial statements present fairly, in all material respects, the financial position of the Company at December 31, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2020, in conformity with U.S. generally accepted accounting principles.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company’s internal control over financial reporting as of December 31, 2020, based on criteria established in Internal Control-Integrated Framework issued by the Committee of Sponsoring Organizations of the Treadway Commission (2013 framework) and our report dated February 26, 2021 expressed an unqualified opinion thereon.

Basis for Opinion

These financial statements are the responsibility of the Company’s management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matters

The critical audit matter communicated below is a matter arising from the current period audit of the financial statements that was communicated or required to be communicated to the audit committee and that: (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective or complex judgments. The communication of the critical audit matter does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing separate opinions on the critical audit matter or on the accounts or disclosures to which it relates.


		Valuation of Self-insurance Reserves
Description of the Matter		At December 31, 2020, the Company’s self-insurance reserve was $202 million. As discussed in Note 1 of the financial statements, self-insurance liabilities are estimated based upon historical claim experience and trend-lines. Furthermore, certain of these liabilities were recorded at an estimate of their net present value. Auditing management’s self-insurance reserves was complex and judgmental and required us to use our actuarial specialists for certain reserves due to the estimation required in determining the ultimate claim value and net present value of certain liabilities. The estimate is sensitive to assumptions such as the projected cost inflation, claim growth patterns and exposure forecasts.
How We Addressed the Matter in Our Audit		We obtained an understanding, evaluated the design of controls over the Company’s self-insurance estimation process and tested the operating effectiveness of those controls including management’s controls over reviewing the appropriateness of assumptions and the completeness and accuracy of the data underlying the reserves. To test the Company’s determination of the estimated self-insurance reserves, we performed audit procedures that included, among others, involving a specialist to assist in the development of an independent actuarial

		estimate for certain of the reserve balances based upon current industry and economic trends, comparing selected assumptions used by management to our independent estimates which were developed with the assistance of our specialists, testing the underlying data used by management in the development of the reserves and testing the mathematical accuracy of the calculations.

/s/ Ernst & Young LLP

We have served as the Company’s auditor since 1992.

Kansas City, Missouri

February 26, 2021

O’REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(In thousands, except share data)


	December 31,
	2020		2019
Assets
Current assets:
Cash and cash equivalents	$	465,640	$	40,406
Accounts receivable, less allowance for doubtful accounts $12,670 in 2020 and $14,417 in 2019		229,679		214,915
Amounts receivable from suppliers		100,615		79,492
Inventory		3,653,195		3,454,092
Other current assets		50,658		44,757
Total current assets		4,499,787		3,833,662

Property and equipment, at cost		6,559,911		6,191,427
Less: accumulated depreciation and amortization		2,464,993		2,243,224
Net property and equipment		4,094,918		3,948,203

Operating lease, right-of-use assets		1,995,127		1,928,369
Goodwill		881,030		936,814
Other assets, net		125,780		70,112
Total assets	$	11,596,642	$	10,717,160

Liabilities and shareholders’ equity
Current liabilities:
Accounts payable	$	4,184,662	$	3,604,722
Self-insurance reserves		109,199		79,079
Accrued payroll		88,875		100,816
Accrued benefits and withholdings		242,724		98,539
Income taxes payable		16,786		—
Current portion of operating lease liabilities		322,778		316,061
Other current liabilities		297,393		270,210
Total current liabilities		5,262,417		4,469,427

Long-term debt		4,123,217		3,890,527
Operating lease liabilities, less current portion		1,718,691		1,655,297
Deferred income taxes		155,899		133,280
Other liabilities		196,160		171,289

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 – 245,000,000
Issued and outstanding shares –
71,123,109 as of December 31, 2020, and
75,618,659 as of December 31, 2019		711		756
Additional paid-in capital		1,280,841		1,280,760
Retained deficit		(1,139,139)		(889,066)
Accumulated other comprehensive (loss) income		(2,155)		4,890
Total shareholders’ equity		140,258		397,340

Total liabilities and shareholders’ equity	$	11,596,642	$	10,717,160

See accompanying Notes to consolidated financial statements.

O’REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF INCOME

(In thousands, except per share data)


	For the Year Ended
	December 31,
	2020		2019		2018
Sales	$	11,604,493	$	10,149,985	$	9,536,428
Cost of goods sold, including warehouse and distribution expenses		5,518,801		4,755,294		4,496,462
Gross profit		6,085,692		5,394,691		5,039,966

Selling, general and administrative expenses		3,666,356		3,473,965		3,224,782
Operating income		2,419,336		1,920,726		1,815,184

Other income (expense):
Interest expense		(161,126)		(139,975)		(122,129)
Interest income		2,491		2,545		2,521
Other, net		5,704		7,033		(1,489)
Total other expense		(152,931)		(130,397)		(121,097)

Income before income taxes		2,266,405		1,790,329		1,694,087
Provision for income taxes		514,103		399,287		369,600
Net income	$	1,752,302	$	1,391,042	$	1,324,487

Earnings per share-basic:
Earnings per share	$	23.74	$	18.07	$	16.27
Weighted-average common shares outstanding – basic		73,817		76,985		81,406

Earnings per share-assuming dilution:
Earnings per share	$	23.53	$	17.88	$	16.10
Weighted-average common shares outstanding – assuming dilution		74,462		77,788		82,280

See accompanying Notes to consolidated financial statements.

O’REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands)


	For the Year Ended
	December 31,
	2020		2019		2018
Net income	$	1,752,302	$	1,391,042	$	1,324,487
Other comprehensive income (loss):
Foreign currency translation adjustments		(7,045)		4,890		—
Total other comprehensive (loss) income		(7,045)		4,890		—

Comprehensive income	$	1,745,257	$	1,395,932	$	1,324,487

See accompanying Notes to consolidated financial statements.

O’REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF SHAREHOLDERS’ EQUITY

(In thousands)


								Accumulated
				Additional		Retained		Other
	Common Stock			Paid-In		Earnings		Comprehensive
	Shares	Par Value		Capital		(Deficit)		Income		Total
Balance at December 31, 2017	84,302	$	843	$	1,265,043	$	(612,840)	$	—	$	653,046
Net income	—		—		—		1,324,487		—		1,324,487
Issuance of common stock under employee benefit plans, net of forfeitures and shares withheld to cover taxes	58		—		14,173		—		—		14,173
Net issuance of common stock upon exercise of stock options	745		8		57,160		—		—		57,168
Share based compensation	—		—		18,806		—		—		18,806
Share repurchases, including fees	(6,061)		(61)		(93,119)		(1,620,833)		—		(1,714,013)
Balance at December 31, 2018	79,044	$	790	$	1,262,063	$	(909,186)	$	—	$	353,667
Cumulative effective adjustment from adoption of ASU 2016-02	—		—		—		(1,410)		—		(1,410)
Net income	—		—		—		1,391,042		—		1,391,042
Other comprehensive income	—		—		—		—		4,890		4,890
Issuance of common stock under employee benefit plans, net of forfeitures and shares withheld to cover taxes	46		—		15,302		—		—		15,302
Net issuance of common stock upon exercise of stock options	406		5		46,101		—		—		46,106
Share based compensation	—		—		20,534		—		—		20,534
Share repurchases, including fees	(3,877)		(39)		(63,240)		(1,369,512)		—		(1,432,791)
Balance at December 31, 2019	75,619	$	756	$	1,280,760	$	(889,066)	$	4,890	$	397,340
Net income	—		—		—		1,752,302		—		1,752,302
Other comprehensive income	—		—		—		—		(7,045)		(7,045)
Issuance of common stock under employee benefit plans, net of forfeitures and shares withheld to cover taxes	48		—		17,314		—		—		17,314
Net issuance of common stock upon exercise of stock options	288		3		46,279		—		—		46,282
Share based compensation	—		—		21,259		—		—		21,259
Share repurchases, including fees	(4,832)		(48)		(84,771)		(2,002,375)		—		(2,087,194)
Balance at December 31, 2020	71,123	$	711	$	1,280,841	$	(1,139,139)	$	(2,155)	$	140,258

See accompanying Notes to consolidated financial statements.

O’REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)


	For the Year Ended
	December 31,
	2020		2019		2018
Operating activities:
Net income	$	1,752,302	$	1,391,042	$	1,324,487
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation and amortization of property, equipment and intangibles		314,635		270,875		258,937
Amortization of debt discount and issuance costs		4,580		3,916		3,470
Deferred income taxes		12,381		21,158		20,160
Share-based compensation programs		22,747		21,921		20,176
Other		4,686		7,529		9,895
Changes in operating assets and liabilities:
Accounts receivable		(20,515)		(15,577)		18,138
Inventory		(198,864)		(239,912)		(163,367)
Accounts payable		580,608		213,423		177,676
Income taxes payable		197,739		(20,139)		22,903
Accrued payroll		(11,941)		14,296		9,373
Accrued benefits and withholdings		189,332		16,868		28,022
Other		(11,087)		23,079		(2,315)
Net cash provided by operating activities		2,836,603		1,708,479		1,727,555

Investing activities:
Purchases of property and equipment		(465,579)		(628,057)		(504,268)
Proceeds from sale of property and equipment		15,770		7,118		4,784
Investment in tax credit equity investments		(164,111)		(33,781)		—
Other, including acquisitions, net of cash acquired		(975)		(142,026)		(34,818)
Net cash used in investing activities		(614,895)		(796,746)		(534,302)

Financing activities:
Proceeds from borrowings on revolving credit facility		1,162,000		2,708,000		2,414,000
Payments on revolving credit facility		(1,423,000)		(2,734,000)		(2,473,000)
Proceeds from the issuance of long-term debt		997,515		499,955		498,660
Principal payments on long-term debt		(500,000)		—		—
Payment of debt issuance costs		(7,929)		(3,990)		(3,923)
Repurchases of common stock		(2,087,194)		(1,432,791)		(1,714,013)
Net proceeds from issuance of common stock		62,284		60,206		72,146
Other		(253)		(191)		(2,156)
Net cash used in financing activities		(1,796,577)		(902,811)		(1,208,286)

Effect of exchange rate changes on cash		103		169		—
Net increase (decrease) in cash and cash equivalents		425,234		9,091		(15,033)
Cash and cash equivalents at beginning of the period		40,406		31,315		46,348
Cash and cash equivalents at end of the period	$	465,640	$	40,406	$	31,315

Supplemental disclosures of cash flow information:
Income taxes paid	$	305,087	$	394,931	$	311,376
Interest paid, net of capitalized interest		159,717		134,634		117,938

See accompanying Notes to consolidated financial statements.

O’REILLY AUTOMOTIVE, INC. AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

December 31, 2020

NOTE 1 – SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Nature of business:

O’Reilly Automotive, Inc. and Subsidiaries, collectively, “O’Reilly” or the “Company,” is a specialty retailer and supplier of automotive aftermarket parts. The Company’s stores carry an extensive product line, including new and remanufactured automotive hard parts, maintenance items and various automotive accessories. As of December 31, 2020, the Company owned and operated 5,594 stores in 47 U.S. states and 22 stores in Mexico, servicing both do-it-yourself (“DIY”) and the professional service provider customers. The Company’s robust distribution system provides stores with same-day or overnight access to an extensive inventory of hard-to-find items not typically stocked in the stores of other auto parts retailers.

Segment reporting:

The Company is managed and operated by a single management Team reporting to the chief operating decision maker. The Company’s stores have similar characteristics, including the nature of the products and services, the type and class of customers and the methods used to distribute products and provide service to its customers and, as a whole, make up a single operating segment. The Company does not regularly prepare for review by the chief operating decision maker discrete financial information with respect to product lines, types of customers or geographic locations and as such has one reportable segment.

Principles of consolidation:

The consolidated financial statements include the accounts of the Company and its wholly-owned subsidiaries. All inter-company balances and transactions have been eliminated in consolidation.

Use of estimates:

The preparation of the consolidated financial statements, in conformity with United States (“U.S.”) generally accepted accounting principles (“GAAP”), requires management to make estimates and assumptions that affect the amounts reported in the consolidated financial statements and accompanying notes. Actual results could materially differ from those estimates.

Cash equivalents:

Cash equivalents include investments with maturities of 90 days or less on the date of purchase.

Foreign Currency:

The Company accounts for its Mexican operations using the local market currency, the Mexican peso, and converts its financial statements compiled for these operations from the Mexican peso to U.S. dollars. The cumulative gain or loss on currency translation is included as a component of “Accumulated other comprehensive income” on the accompanying Consolidated Balance Sheets. See Note 11 for further information concerning the Company’s accumulated other comprehensive income.

Accounts receivable:

The Company maintains allowances for doubtful accounts for estimated losses resulting from the inability of the Company’s customers to make required payments. The Company considers the following factors when determining if collection is reasonably assured: customer creditworthiness, past transaction history with the customer, current expectations of future economic and industry trends, changes in customer payment terms and management’s expectations. Allowances for doubtful accounts are determined based on historical experience and an evaluation of the current composition of accounts receivable.

The Company grants credit to certain professional service provider and jobber 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 small customers, spreading the credit risk across a broad base regarded as a single class of financing receivable by the Company. The Company also controls this credit risk through credit approvals, credit limits and accounts receivable and credit monitoring procedures. Generally, the Company does not require security when credit is granted to customers. Credit is granted to customers on a short-term basis, consisting primarily of daily, weekly or monthly accounts. Credit losses are provided for in the Company’s consolidated financial statements and have consistently been within management’s expectations.

Amounts due to the Company from its Team Members are included in “Accounts receivable” on the accompanying Consolidated Balance Sheets. These amounts consist primarily of purchases of merchandise on Team Member accounts. Accounts receivable due from Team Members was approximately $0.9 million as of December 31, 2020 and 2019, respectively.

Amounts receivable from suppliers:

The Company receives concessions from its suppliers through a variety of programs and arrangements, including allowances for new stores and warranties, volume purchase rebates and co-operative advertising. Co-operative advertising allowances that are incremental to the Company’s 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 supplier concessions are recognized as a reduction to the cost of sales. Amounts receivable from suppliers also include amounts due to the Company for changeover merchandise and product returns. The Company regularly reviews supplier receivables for collectability and assesses the need for a reserve for uncollectable amounts based on an evaluation of the Company’s suppliers’ financial positions and corresponding abilities to meet financial obligations. Management does not believe there is a reasonable likelihood that the Company will be unable to collect the amounts receivable from suppliers and the Company did not record a reserve for uncollectable amounts from suppliers in the consolidated financial statements as of December 31, 2020 or 2019.

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 capitalized costs related to procurement, warehousing and distribution centers (“DC”s). Cost has been determined using the last-in, first-out (“LIFO”) method, which more accurately matches costs with related revenues. Over time, as the Company’s merchandise inventory purchases have increased, the Company negotiated improved acquisition costs from its suppliers and the corresponding price deflation exhausted the Company’s LIFO reserve balance. The Company’s policy is to not write up the value of its inventory in excess of its replacement cost, and accordingly, the Company’s merchandise inventory has been effectively recorded at replacement cost since December 31, 2013. The replacement cost of inventory was $3.67 billion and $3.47 billion as of December 31, 2020 and 2019, respectively. LIFO costs exceeded replacement costs by $55.8 million and $31.0 million at December 31, 2020 and 2019, respectively.

Fair value of financial instruments:

The Company uses the fair value hierarchy, which prioritizes the inputs used to measure the fair value of certain of its financial instruments. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets or liabilities (Level 1 measurement) and the lowest priority to unobservable inputs (Level 3 measurement). The Company uses the income and market approaches to determine the fair value of its assets and liabilities. The three levels of the fair value hierarchy are set forth below:

	●	Level 1 – Quoted prices (unadjusted) in active markets for identical assets or liabilities that the reporting entity can access at the measurement date.

	●	Level 2 – Inputs other than quoted prices in active markets included within Level 1 that are observable for the asset or liability, either directly or indirectly.

	●	Level 3 – Unobservable inputs for the asset or liability.

See Note 3 for further information concerning the Company’s financial and non-financial assets and liabilities measured at fair value on a recurring and non-recurring basis.

Property and equipment:

Property and equipment are carried at cost. Depreciation is calculated using the straight-line method, generally over the estimated useful lives of the assets. Leasehold improvements are amortized over the lesser of the lease term or the estimated economic life of the assets. The lease term includes renewal options determined by management at lease inception, for which failure to execute renewal 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 recognized in the Company’s Consolidated Statements of Income. The Company reviews long-lived assets for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. See Note 5 for further information concerning the Company’s property and equipment.

Goodwill and other intangibles:

The accompanying Consolidated Balance Sheets at December 31, 2020 and 2019, include goodwill and other intangible assets recorded as the result of acquisitions. The Company operates a single reporting unit and evaluates goodwill and indefinite-lived intangibles for impairment annually during the fourth quarter, or when events or changes in circumstances indicate the carrying value of these assets

might exceed their current fair values. Beginning in 2019, the goodwill impairment test includes a qualitative assessment. The Company’s qualitative assessment found no evidence to suggest it is more likely than not that its fair value is less than its carrying amount, including goodwill, as of December 31, 2020 and 2019. As such, no goodwill impairment adjustment was required as of December 31, 2020 and 2019. Finite-lived intangibles are carried at amortized cost and amortization is calculated using the straight-line method, generally over the estimated useful lives of the intangibles. See Note 7 for further information concerning the Company’s goodwill and other intangibles.

Leases:

The Company leases certain office space, retail stores, distribution centers and equipment under long-term, non-cancelable operating leases. Lease components are not accounted for separately from nonlease components. Leases generally include renewal options and some include options to purchase, provisions for percentage rent based on sales and/or incremental step increase provisions. The exercise of renewal options is typically at the Company’s sole discretion and all operating lease expense is recognized on a straight-line basis over the lease term. The Company’s lease agreements do not contain any material residual value guarantees or material restrictive covenants. The Company rents or subleases certain surplus real estate to third parties. Right-of-use assets and corresponding operating lease liabilities are recognized for all leases with an initial term greater than 12 months. See Note 6 for further information concerning the Company’s operating leases.

Impairment of long-lived assets:

The Company reviews its long-lived assets, including its right-of-use assets, for impairment whenever events or changes in circumstances indicate that the carrying value of an asset may not be recoverable. When such an event occurs, the Company compares the sum of the undiscounted expected future cash flows of the asset (asset group) with the carrying amounts of the asset. If the undiscounted expected future cash flows are less than the carrying value of the assets, the Company measures the amount of impairment loss as the amount by which the carrying amount of the assets exceeds the fair value of the assets. The Company has not historically recorded any material impairment charges to its long-lived assets. During the year ended December 31, 2020, the Company recorded a charge of $3.4 million, related to the write-down on surplus land and buildings that exceeded market value, and $1.9 million and $11.4 million, during the years ended December 31, 2019 and 2018, respectively, related to its long-lived assets, primarily due to the disposal of certain software projects that were no longer expected to provide a long-term benefit.

Valuation of investments:

The Company has an unsecured obligation to pay, in the future, the value of deferred compensation and a Company match relating to employee participation in the Company’s nonqualified deferred compensation plan (the “Deferred Compensation Plan”). The future obligation is adjusted to reflect the performance, whether positive or negative, of selected investment measurement options, chosen by each participant. The Company invests in various marketable securities with the intention of selling these securities to fulfill its future obligations under the Deferred Compensation Plan. The investments in this plan were stated at fair value based on quoted market prices, were accounted for as trading securities and were included in “Other assets, net” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019. See Note 3 for further information concerning the fair value measurements of the Company’s marketable securities. See Note 13 for further information concerning the Company’s benefit plans.

Variable Interest Entities:

The Company invests in certain tax credit funds that promote renewable energy. These investments generate a return primarily through the realization of federal tax credits and other tax benefits. The Company accounts for the tax attributes of its renewable energy investments using the deferral method. Under this method, realized investment tax credits and other tax benefits are recognized as a reduction of the renewable energy investments.

The Company determined its investment in these tax credit funds was an investment in a variable interest entity (“VIE”). The Company analyzes any investments in VIEs at inception and again if certain triggering events are identified to determine if it is the primary beneficiary. The Company considers a variety of factors in identifying the entity that holds the power to direct matters that most significantly impact the VIE’s economic performance including, but not limited to, the ability to direct financing, leasing, construction and other operating decisions and activities. As of December 31, 2020, the Company had invested in three unconsolidated tax credit fund entities that were considered to be VIEs and concluded it was not the primary beneficiary of any of the entities, as it did not have the power to control the activities that most significantly impact the entities, and has accounted for these investments using the equity method. The Company’s maximum exposure to losses associated with these VIEs is limited to its net investment, which was $19.5 million as of December 31, 2020, and was included in “Other assets, net” on the accompanying Consolidated Balance Sheets. During the years ended December 31, 2020, 2019 and 2018, the Company recognized investment tax credits in the amounts of $170.5 million, $8.5 million and $19.4 million, respectively, all of which were realized through reductions in cash income taxes paid and were reflected as a component of the change in Income taxes payable on the accompanying Consolidated Statements of Cash Flows for the respective years. See Note 16 for further information concerning the Company’s investment in renewable energy tax credits.

Self-insurance reserves:

The Company uses a combination of insurance and self-insurance mechanisms to provide for potential liabilities for Team Member health care benefits, workers’ compensation, vehicle liability, general liability and property loss. With the exception of certain Team Member health care benefit liabilities, employment related claims and litigation, certain commercial litigation and certain regulatory matters, the Company obtains third-party insurance coverage to limit its exposure. The Company estimates its self-insurance liabilities by considering a number of factors, including historical claims experience and trend-lines, projected medical and legal inflation, growth patterns and exposure forecasts. Certain of these liabilities were recorded at an estimate of their net present value, using a credit-adjusted discount rate.

The following table identifies the components of the Company’s self-insurance reserves as of December 31, 2020 and 2019 (in thousands):


	December 31,
	2020		2019
Self-insurance reserves (undiscounted)	$	213,332	$	168,397
Self-insurance reserves (discounted)		202,454		156,585

The current portion of the Company’s discounted self-insurance reserves totaled $109.2 million and $79.1 million as of December 31, 2020 and 2019, respectively, which was included in “Self-insurance reserves” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019. The remainder was included in “Other liabilities” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019.

Warranties:

The Company offers warranties on certain merchandise it sells with warranty periods ranging from 30 days to limited lifetime warranties. The risk of loss arising from warranty claims is typically the obligation of the Company’s suppliers. Certain suppliers provide upfront allowances to the Company in lieu of accepting the obligation for warranty claims. For this merchandise, when sold, the Company bears the risk of loss associated with the cost of warranty claims. Differences between supplier allowances received by the Company, in lieu of warranty obligations and estimated warranty expense, are recorded as an adjustment to cost of sales. Estimated warranty costs, which are recorded as obligations at the time of sale, are based on the historical failure rate of each individual product line. The Company’s historical experience has been that failure rates are relatively consistent over time and that the ultimate cost of warranty claims to the Company has been driven by volume of units sold as opposed to fluctuations in failure rates or the variation of the cost of individual claims. See Note 9 for further information concerning the Company’s aggregate product warranty liabilities.

Litigation accruals:

O’Reilly is currently involved in litigation incidental to the ordinary conduct of the Company’s business. The Company accrues for litigation losses in instances where a material adverse outcome is probable and the Company is able to reasonably estimate the probable loss. The Company accrues for an estimate of material legal costs to be incurred in pending litigation matters. 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, these matters, taking into account applicable insurance and accruals, will have a material adverse effect on its consolidated financial position, results of operations or cash flows in a particular quarter or annual period.

Share repurchases:

Revenue recognition:

The Company’s primary source of revenue is derived from the sale of automotive aftermarket parts and merchandise to its customers. Revenue is recognized when performance obligations under the terms of a contract with a customer are satisfied, in an amount representing the consideration the Company expects to receive in exchange for transferring goods to the customer. Generally, the Company’s performance obligations are satisfied when the customer takes possession of the merchandise, which normally occurs immediately at the point of sale or through same day delivery of the merchandise. All sales are recorded net of estimated returns allowances, discounts and taxes. The Company does not recognize revenue related to product warranties, as these are considered assurance warranty obligations.

Over-the-counter retail sales to DIY customers are recorded when the customer takes possession of the merchandise. Internet retail sales, included in sales to DIY customers, are recorded when the merchandise is shipped or when the customer picks up the merchandise at a store. Sales to professional service provider customers, also referred to as “commercial sales,” are recorded upon same-day delivery of the merchandise to the customer, generally at the customer’s place of business. Other sales and sales adjustments primarily includes sales to Team Members, wholesale sales to other retailers (“jobber sales”), equipment sales, discounts, rebates, deferred revenue adjustments relating to the Company’s retail loyalty program and adjustments to estimated sales returns allowances. Sales to Team Members are recorded when the Team Member takes possession of the merchandise. Jobber sales are recorded upon shipment of the merchandise from a regional distribution center with same-day delivery to the jobber customer’s location.

The Company maintains a retail loyalty program named O’Reilly O’Rewards, which represents a performance obligation. The Company records a deferred revenue liability, based on a breakage adjusted, estimated redemption rate and a corresponding reduction in revenue in periods when loyalty points are earned by members. The Company recognizes revenue and a corresponding reduction to the deferred revenue liability in periods when loyalty program issued coupons are redeemed by members, generally within a period of three months from issuance, or when unredeemed points expire, generally within 12 months after the date they were earned, which satisfies the Company’s performance obligation. See Note 12 for further information concerning the Company’s revenue.

Cost of goods sold and selling, general and administrative expenses:

The following table illustrates the primary costs classified in each major expense category:


Cost of goods sold, including warehouse and distribution expenses		Selling, general and administrative expenses
Total cost of merchandise sold, including:		Payroll and benefit costs for store and corporate Team Members
Freight expenses associated with acquiring merchandise and with moving merchandise inventories from the Company’s distribution centers to the stores		Occupancy costs of store and corporate facilities
Defective merchandise and warranty costs		Depreciation and amortization related to store and corporate assets
Supplier allowances and incentives, including:		Vehicle expenses for store delivery services
Allowances that are not reimbursements for specific, incremental and identifiable costs		Self-insurance costs
Cash discounts on payments to suppliers		Closed store expenses
Costs associated with the Company’s supply chain, including:		Other administrative costs, including:
Payroll and benefit costs		Accounting, legal and other professional services
Warehouse occupancy costs		Bad debt, banking and credit card fees
Transportation costs		Supplies
Depreciation		Travel
Inventory shrinkage		Advertising costs

Advertising expenses:

Advertising expense consists primarily of expenses related to the Company’s integrated marketing program, which includes radio, in-store, digital and social media promotions, as well as sports and event sponsorships and direct mail and newspaper promotional distribution. The Company expenses advertising costs as incurred. The Company also participates in cooperative advertising arrangements with certain of its suppliers. Advertising expense, net of cooperative advertising allowances from suppliers that were incremental to the advertising program, specific to the product or event and identifiable for accounting purposes, total $73.8 million, $79.3 million and $81.4 million for the years ended December 31, 2020, 2019 and 2018, respectively, which were included in “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income.

Share-based compensation and benefit plans:

The Company sponsors share-based compensation plans and benefit plans. The Company recognizes compensation expense over the requisite service period for its share-based plans based on the fair value of the awards on the date of the grant, award or issuance and accounts for forfeitures as they occur. Share-based plans include stock option awards, restricted stock awards and stock appreciation rights issued under the Company’s incentive plans and stock issued through the Company’s employee stock purchase plan. See Note 13 for further information concerning the Company’s share-based compensation and benefit plans.

Pre-opening expenses:

Costs associated with the opening of new stores, which consist primarily of payroll and occupancy costs, are charged to “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income as incurred. Costs associated with the opening of new distribution centers, which consist primarily of payroll and occupancy costs, are included in “Cost of goods sold, including warehouse and distribution expenses” on the accompanying Consolidated Statements of Income as incurred.

Interest expense:

The Company capitalizes interest costs as a component of construction in progress, based on the weighted-average interest rates incurred on its long-term borrowings. Total interest costs capitalized for the years ended December 31, 2020, 2019 and 2018, were $10.2 million, $13.0 million and $9.1 million, respectively, which were included in “Interest expense” on the accompanying Consolidated Statements of Income.

In conjunction with the issuance or amendment of long-term debt instruments, the Company incurs various costs, including debt registration fees, accounting and legal fees and underwriter and book runner fees. Debt issuance costs related to the Company’s long-term unsecured senior notes are recorded as a reduction of the principal amount of the corresponding unsecured senior notes. Debt issuance costs related to the Company’s unsecured revolving credit facility are recorded as an asset. These debt issuance costs have been deferred and are being amortized over the term of the corresponding debt instrument and the amortization expense is included in “Interest expense” on the accompanying Consolidated Statements of Income. Deferred debt issuance costs totaled $22.3 million and $18.0 million, net of accumulated amortization, as of December 31, 2020 and 2019, respectively, of which $0.6 million and $1.1 million were included in “Other assets, net” as of December 31, 2020 and 2019, respectively, with the remainder included in “Long-term debt” on the accompanying Consolidated Balance Sheets.

The Company issued its long-term unsecured senior notes at a discount. The original issuance discounts on the senior notes are recorded as a reduction of the principal amount of the corresponding senior notes and are accreted over the term of the applicable senior note, with the accretion expense included in “Interest expense” on the accompanying Consolidated Statements of Income. Original issuance discounts, net of accretion, totaled $5.1 million and $3.5 million as of December 31, 2020 and 2019, respectively.

See Note 8 for further information concerning debt issuance costs and original issuance discounts associated with the Company’s issuances of long-term debt instruments.

Income taxes:

The Company accounts for income taxes using the liability method, which requires the recognition of deferred tax assets and liabilities for the expected future tax consequences of events that have been included in the financial statements. Under this method, deferred tax assets and liabilities are determined based on differences between the U.S. GAAP basis and tax basis of assets and liabilities using enacted tax rules and rates currently scheduled to be in effect for the year in which the differences are expected to reverse. Tax carry forwards are also recognized in deferred tax assets and liabilities under this method. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period of the enactment date. The Company would record a valuation allowance against deferred tax assets to the extent it is more likely than not the amount will not be realized, based upon evidence available at the time of the determination and any change in the valuation allowance is recorded in the period of a change in such determination. The Company did not establish a valuation allowance for deferred tax assets as of December 31, 2020 and 2019, as it was considered more likely than not that deferred tax assets were realizable through a combination of future taxable income, the realization of deferred tax liabilities and tax planning strategies.

The Company regularly reviews its potential tax liabilities for tax years subject to audit. The amount of such liabilities is based on various factors, such as differing interpretations of tax regulations by the responsible tax authority, experience with previous tax audits and applicable tax law rulings. In management’s opinion, adequate provisions for income taxes have been made for all years presented. The estimates of the Company’s potential tax liabilities contain uncertainties because management must use judgment to estimate the exposures associated with the Company’s various tax positions and actual results could differ from estimates. See Note 16 for further information concerning the Company’s income taxes.

Earnings per share:

Basic earnings per share is calculated by dividing net income by the weighted-average number of common shares outstanding during the fiscal period. Diluted earnings per share is calculated by dividing the weighted-average number of common shares outstanding plus the common stock equivalents associated with the potential impact of dilutive stock options. Certain common stock equivalents that could potentially dilute basic earnings per share in the future were not included in the fully diluted computation because they would have been antidilutive. Generally, stock options are antidilutive and excluded from the earnings per share calculation when the exercise

price exceeds the market price of the common shares. See Note 17 for further information concerning the Company’s common stock equivalents.

New accounting pronouncements:

In June of 2016, the Financial Accounting Standards Board (the “FASB”) issued Accounting Standard Update (“ASU”) No. 2016-13, “Financial Instruments - Credit Losses (Topic 326): Measurement of Credit Losses on Financial Instruments” (“ASU 2016-13”). Under ASU 2016-13, businesses and other organizations are required to present financial assets, measured at amortized costs basis, at the net amount expected to be collected. The allowance for credit losses is a valuation account that is deducted from the amortized cost basis, such as trade receivables. The measurement of expected credit loss will be based on historical experience, current conditions and reasonable and supportable forecasts that affect the collectibility of the reported amount. For public companies, ASU 2016-13 is effective for annual reporting periods beginning after December 15, 2019, including interim periods within that reporting period, and requires a modified retrospective adoption, with early adoption permitted. The Company adopted this guidance using the modified retrospective adoption method beginning with its first quarter ending March 31, 2020, and applied it to all applicable accounts. The application of this new guidance did not have a material impact on the Company’s consolidated financial condition, results of operations or cash flows. See Note 4 for further information concerning the Company’s allowance for accounts receivable.

NOTE 2 – BUSINESS COMBINATION

After the close of business on November 29, 2019, the Company completed the acquisition of Mayoreo de Autopartes y Aceites, S.A. de C.V. (“Mayasa”), a specialty retailer of automotive aftermarket parts headquartered in Guadalajara, Jalisco, Mexico pursuant to a stock purchase agreement. The results of Mayasa’s operations have been included in the Company’s consolidated financial statements beginning from the date of acquisition. Pro forma results of operations related to the acquisition of Mayasa are not presented as Mayasa’s results are not material to the Company’s results of operations.

The Company’s preliminary assessment resulted in the initial recognition of $128.1 million of goodwill and intangible assets included in “Goodwill” on the accompanying Consolidated Balance Sheets as of December 31, 2019.

The purchase price allocation process, consisting of collecting data and information to enable the Company to value the identified assets acquired and liabilities assumed as a result of the business combination, was finalized during the third quarter of 2020. Separately identifiable intangible assets, arising as a result of the business combination, include $36.0 million of indefinite lived trade names and trademarks and $25.5 million of finite lived intangible assets, primarily consisting of other trade names and trademarks, non-compete agreements, customer relationships and internal use software. Residual goodwill of $73.4 million was recorded as of the acquisition date, as a result of the final purchase price allocation. Goodwill generated from this acquisition is not amortizable for tax purposes.

See Note 7 for further information concerning the Company’s goodwill and other intangible assets.

NOTE 3 – FAIR VALUE MEASUREMENTS

Financial assets and liabilities measured at fair value on a recurring basis:

The Company’s marketable securities were accounted for as trading securities and the carrying amount of its marketable securities were included in “Other assets, net” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019. The Company recorded increases in fair value related to its marketable securities in the amounts of $5.4 million and $5.8 million for the years ended December 31, 2020 and 2019, respectively, which were included in “Other income (expense)” on the accompanying Consolidated Statements of Income.

The tables below identify the estimated fair value of the Company’s marketable securities, determined by reference to quoted market prices (Level 1), as of December 31, 2020 and 2019 (in thousands):


	December 31, 2020
	Quoted Priced in Active Markets		Significant Other		Significant
	for Identical Instruments		Observable Inputs		Unobservable Inputs
	(Level 1)		(Level 2)		(Level 3)		Total
Marketable securities	$	40,411	$	—	$	—	$	40,411


	December 31, 2019
	Quoted Prices in Active Markets		Significant Other		Significant
	for Identical Instruments		Observable Inputs		Unobservable Inputs
	(Level 1)		(Level 2)		(Level 3)		Total
Marketable securities	$	32,201	$	—	$	—	$	32,201

Non-financial assets and liabilities measured at fair value on a nonrecurring basis:

Certain long-lived non-financial assets and liabilities may be required to be measured at fair value on a nonrecurring basis in certain circumstances, including when there is evidence of impairment. These non-financial assets and liabilities may include assets acquired in a business combination or property and equipment that are determined to be impaired. As of December 31, 2020 and 2019, the Company did not have any material non-financial assets or liabilities that had been measured at fair value subsequent to initial recognition.

Fair value of financial instruments:

The carrying amounts of the Company’s senior notes and unsecured revolving credit facility borrowings are included in “Long-term debt” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019.

The table below identifies the estimated fair value of the Company’s senior notes, using the market approach. The fair values as of December 31, 2020 and 2019, were determined by reference to quoted market prices of the same or similar instruments (Level 2) (in thousands):


	December 31, 2020				December 31, 2019
	Carrying Amount		Estimated Fair Value		Carrying Amount		Estimated Fair Value
Senior Notes	$	4,123,217	$	4,647,595	$	3,629,527	$	3,881,925

The carrying amount of the Company’s unsecured revolving credit facility approximates fair value, as borrowings under the facility bear variable interest at current market rates. See Note 8 for further information concerning the Company’s senior notes and unsecured revolving credit facility.

The accompanying Consolidated Balance Sheets include other financial instruments, including cash and cash equivalents, accounts receivable, amounts receivable from suppliers and accounts payable. Due to the short-term nature of these financial instruments, the Company believes that the carrying values of these instruments approximate their fair values.

NOTE 4 – ALLOWANCE FOR DOUBTFUL ACCOUNTS

The following table identifies the changes in the Company’s allowance for doubtful accounts included in “Accounts receivable” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019 (in thousands):


	2020		2019
Allowance for doubtful accounts, balance at January 1,	$	14,417	$	13,238
Reserve accruals		5,030		8,738
Uncollectable accounts written-off		(6,743)		(8,282)
Foreign currency translation		(34)		723
Allowance for doubtful accounts, balance at December 31,	$	12,670	$	14,417

NOTE 5 – PROPERTY AND EQUIPMENT

The following table identifies the types and balances of property and equipment included in “Property and equipment, at cost” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019, and includes the estimated useful lives for its types of property and equipment (in thousands, except original useful lives):


	Original Useful
	Lives	December 31, 2020		December 31, 2019
Land		$	860,797	$	805,556
Buildings and building improvements	15 – 39 years		2,574,969		2,378,074
Leasehold improvements	3 – 25 years		799,013		751,155
Furniture, fixtures and equipment	3 – 20 years		1,562,664		1,450,444
Vehicles	5 – 10 years		456,957		447,939
Construction in progress			305,511		358,259
Total property and equipment			6,559,911		6,191,427
Less: accumulated depreciation and amortization			2,464,993		2,243,224
Net property and equipment		$	4,094,918	$	3,948,203

The Company recorded depreciation and amortization expense related to property and equipment in the amounts of $303.0 million, $267.3 million and $246.0 million for the years ended December 31, 2020, 2019 and 2018, respectively, which were primarily included in “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income.

The Company recorded a charge of $3.4 million related to property and equipment for the year ended December 31, 2020, primarily due to the write-down on surplus land and buildings that exceeded market value, and $1.9 million and $11.4 million related to property and equipment for the years ended December 31, 2019 and 2018, respectively, primarily due to the disposal of certain software projects that were no longer expected to provide a long-term benefit, which were included in “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income.

NOTE 6 – LEASES

Operating lease commitments:

The following table summarizes Total lease cost for the years ended December 31, 2020 and 2019, which was primarily included in “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income (in thousands):


	For the Year Ended
	December 31,
	2020		2019
Operating lease cost	$	336,156	$	320,480
Short-term operating lease cost		6,131		5,899
Variable operating lease cost		82,868		76,027
Sublease income		(4,790)		(4,112)
Total lease cost	$	420,365	$	398,294

The following table summarizes the Net rent expense amounts, prior to the adoption of Accounting Standard Codification 842 – Leases, for the year ended December 31, 2018, which were included in “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income (in thousands):


	For the Year Ended
	December 31, 2018
Minimum operating lease expense	$	305,613
Contingent rents		806
Other lease related occupancy costs		14,449
Total rent expense		320,868
Less: sublease income		3,585
Net rent expense	$	317,283

The following table summarizes other lease related information for the years ended December 31, 2020 and 2019 (in thousands):


		For the Year Ended
		December 31,
		2020		2019
Cash paid for amounts included in the measurement of operating lease liabilities:
	Operating cash flows from operating leases	$	334,994	$	318,048
Right-of-use assets obtained in exchange for new operating lease liabilities			322,712		233,584

The following table identifies the future minimum lease payments under all of the Company’s operating leases for each of the next five years, and in the aggregate thereafter, and reconciles to the present value of the “Operating lease liabilities, less current portion” included in the accompanying Consolidated Balance Sheet as of December 31, 2020 (in thousands):


	December 31, 2020
	Related Parties		Non-Related Parties		Total
2021	$	4,589	$	317,888	$	322,477
2022		3,848		306,134		309,982
2023		3,477		275,966		279,443
2024		1,730		246,547		248,277
2025		957		208,064		209,021
Thereafter		2,064		1,044,244		1,046,308
Total operating lease payments		16,665		2,398,843		2,415,508
Less: present value discount		1,478		372,561		374,039
Total operating lease liabilities		15,187		2,026,282		2,041,469
Less: current portion of operating lease liabilities		4,589		318,189		322,778
Operating lease liabilities, less current portion	$	10,598	$	1,708,093	$	1,718,691

See Note 15 for further information concerning the Company’s related party operating leases.

The future minimum lease payments under the Company’s operating leases, in the table above, do not include potential amounts for percentage rent and other variable operating lease related costs and have not been reduced by expected future minimum sublease income under non-cancelable subleases, which was approximately $17.2 million as of December 31, 2020. The weighted-average remaining lease term and weighted-average discount rate for the Company’s operating leases was 10.0 years and 4.0%, respectively, as of December 31, 2020.

The present value discount component of the future minimum lease payments under the Company’s operating leases, in the table above, was primarily calculated using the Company’s incremental borrowing rate based on information available at the lease commencement or modification date. Inputs for the calculation of the Company’s incremental borrowing rate include valuations and yields of U.S. domestic investment grade corporate bonds and the applicable credit spread over comparable U.S. Treasury rates, adjusted to a collateralized basis by estimating the credit spread improvement that would result from an upgrade of one ratings classification. For leases that commenced prior to January 1, 2019, the incremental borrowing rate used was as of January 1, 2019. When the implicit rate of a lease is available, the implicit rate is used in the calculation and not the Company’s incremental borrowing rate.

NOTE 7 – GOODWILL AND OTHER INTANGIBLES

Goodwill:

Goodwill is reviewed for impairment annually during the fourth quarter, or more frequently if events or changes in circumstances indicate that impairment may exist. Goodwill is not amortizable for financial statement purposes. The Company did not record any goodwill impairment during the years ended December 31, 2020 or 2019.

The following table identifies the changes in goodwill and certain acquisition intangibles, which were included in “Goodwill” on the accompanying Consolidated Balance Sheets for the years ended December 31, 2020 and 2019 (in thousands):


	2020		2019
Goodwill, balance at January 1,	$	936,814	$	807,260
Change in goodwill related to small acquisitions		109		1,464
Foreign currency translation		(5,465)		4,130
Provisional goodwill and intangibles related to Mayasa acquisition		—		123,960
Final purchase price allocation of intangibles related to Mayasa acquisition		(50,428)		—
Goodwill, balance at December 31,	$	881,030	$	936,814

For the year ended December 31, 2019, goodwill included $128.1 million of goodwill and intangible assets, as well as foreign currency translation, from the preliminary purchase price allocation related to the acquisition of Mayasa. This amount was provisional, and during the year ended December 31, 2020, as result of the final purchase price allocation of the Mayasa acquisition, $61.5 million of intangible assets and $73.4 million of residual goodwill was recorded as of the acquisition date. See Note 2 for further information concerning the Company’s business combination.

Intangibles other than goodwill:

The following table identifies the components of the Company’s intangible assets, inclusive of foreign currency translation adjustments, which were included in “Other assets, net” on the accompanying Consolidated Balance Sheets for the years ended December 31, 2020 and 2019 (in thousands):


	December 31, 2020						December 31, 2019
	Cost of		Accumulated		Net		Cost of		Accumulated		Net
	Intangibles		Amortization		Intangibles		Intangibles		Amortization		Intangibles
Finite-lived intangible assets:
Trade names (1)	$	8,363	$	(1,905)	$	6,458	$	—	$	—	$	—
Non-compete agreements (2)		7,183		(2,713)		4,470		2,717		(928)		1,789
Other intangible assets (3)		12,200		(2,242)		9,958		—		—		—
Total finite-lived intangible assets		27,746		(6,860)		20,886		2,717		(928)		1,789

Indefinite-lived intangible assets:
Trade names		35,420		—		35,420		—		—		—

Total intangible assets	$	63,166	$	(6,860)	$	56,306	$	2,717	$	(928)	$	1,789

(1)	Weighted-average remaining useful life of approximately 4.3 years as of December 31, 2020.

(2)	Weighted-average remaining useful life of approximately 3.6 years as of December 31, 2020.

(3)	Includes internally-developed software and customer relationships and has an estimated weighted-average remaining useful life of approximately 7.3 years as of December 31, 2020.

During the year ended December 31, 2020, the Company recorded finite-lived and indefinite-lived intangible assets, related to trade names from the Mayasa acquisition, in the amounts of $8.5 million and $36.0 million, respectively. During the years ended December 31, 2020 and 2019, the Company recorded non-compete agreement assets in conjunction with small acquisitions, including the acquisition of Mayasa, in the amounts of $4.7 million and less than $0.1 million, respectively. During the year ended December 31, 2020, the Company recorded other finite-lived intangible assets, related to internally-developed software and customer relationships from the Mayasa acquisition, in the amount of $12.4 million.

In prior years, the Company recorded favorable lease assets and unfavorable lease liabilities. These favorable lease assets represented the values of operating leases acquired with favorable terms and these unfavorable lease liabilities represented the values of operating leases acquired with unfavorable terms. With the adoption of Accounting Standard Codification 842 – Leases during the year ended December 31, 2019, the Company’s favorable lease assets and unfavorable lease liabilities, from a previous acquisition, were incorporated into the value of the right-of-use asset. For the years ended December 31, 2020, 2019 and 2018, the Company recorded aggregate amortization expense related to its intangible assets in the amounts of $5.3 million, $0.3 million and $1.4 million, respectively. For the year ended December 31, 2018, the Company recognized an amortized benefit of $0.9 million related to these unfavorable operating leases.

The following table identifies the estimated amortization expense of the Company’s intangibles for each of the next five years as of December 31, 2020 (in thousands):


	December 31, 2020
	Amortization Expense
2021	$	5,602
2022		5,347
2023		2,714
2024		1,397
2025		1,391
Total	$	16,451

NOTE 8 – FINANCING

The following table identifies the amounts of the Company’s financing facilities, which were included in “Long-term debt” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019 (in thousands):


	December 31,
		2020		2019
Revolving Credit Facility	$	—	$	261,000
4.875% Senior Notes due 2021		—		500,000
4.625% Senior Notes due 2021, effective interest rate of 4.643%		300,000		300,000
3.800% Senior Notes due 2022, effective interest rate of 3.845%		300,000		300,000
3.850% Senior Notes due 2023, effective interest rate of 3.851%		300,000		300,000
3.550% Senior Notes due 2026, effective interest rate of 3.570%		500,000		500,000
3.600% Senior Notes due 2027, effective interest rate of 3.619%		750,000		750,000
4.350% Senior Notes due 2028, effective interest rate of 4.383%		500,000		500,000
3.900% Senior Notes due 2029, effective interest rate of 3.901%		500,000		500,000
4.200% Senior Notes due 2030, effective interest rate of 4.205%		500,000		—
1.750% Senior Notes due 2031, effective interest rate of 1.798%		500,000		—
Total principal amount of debt		4,150,000		3,911,000
Less: Unamortized discount and debt issuance costs		26,783		20,473
Total long-term debt	$	4,123,217	$	3,890,527

The following table identifies the principal maturities of the Company’s financing facilities as of December 31, 2020 (in thousands):


	Scheduled Maturities
2021	$	300,000
2022		300,000
2023		300,000
2024		—
2025		—
Thereafter		3,250,000
Total	$	4,150,000

Unsecured revolving credit facility:

On April 5, 2017, the Company entered into a credit agreement (the “Credit Agreement”). The Credit Agreement provides for a $1.2 billion unsecured revolving credit facility (the “Revolving Credit Facility”) arranged by JPMorgan Chase Bank, N.A., which is scheduled to mature in April 2022. The Credit Agreement includes a $200 million sub-limit for the issuance of letters of credit and a $75 million sub-limit for swing line borrowings under the Revolving Credit Facility. As described in the Credit Agreement governing the Revolving Credit Facility, the Company may, from time to time, subject to certain conditions, increase the aggregate commitments under the Revolving Credit Facility by up to $600 million, provided that the aggregate amount of the commitments does not exceed $1.8 billion at any time.

As of December 31, 2020 and 2019, the Company had outstanding letters of credit, primarily to support obligations related to workers’ compensation, general liability and other insurance policies, in the amounts of $66.4 million and $38.9 million, respectively, reducing the aggregate availability under the Revolving Credit Facility by those amounts.

Borrowings under the Revolving Credit Facility (other than swing line loans) bear interest, at the Company’s option, at either an Alternate Base Rate or an Adjusted LIBO Rate (both as defined in the Credit Agreement) plus an applicable margin. Swing line loans made under the Revolving Credit Facility bear interest at an Alternate Base Rate plus the applicable margin for Alternate Base Rate loans. In addition, the Company pays a facility fee on the aggregate amount of the commitments under the Credit Agreement in an amount equal to a percentage of such commitments. The interest rate margins and facility fee are based upon the better of the ratings assigned to the Company’s debt by Moody’s Investor Service, Inc. and Standard & Poor’s Ratings Services, subject to limited exceptions. As of December 31, 2020, based upon the Company’s current credit ratings, its margin for Alternate Base Rate loans was 0.000%, its margin for Eurodollar Revolving Loans was 0.900% and its facility fee was 0.100%.

The Credit Agreement contains certain covenants, including limitations on subsidiary indebtedness, a minimum consolidated fixed charge coverage ratio of 2.50:1.00 and a maximum consolidated leverage ratio of 3.50:1.00. The consolidated fixed charge coverage ratio includes a calculation of earnings before interest, taxes, depreciation, amortization, rent and non-cash share-based compensation expense to fixed charges. Fixed charges include interest expense, capitalized interest and rent expense. The consolidated leverage ratio includes a calculation of adjusted debt to earnings before interest, taxes, depreciation, amortization, rent and non-cash share-based compensation expense. Adjusted debt includes outstanding debt, outstanding stand-by letters of credit and similar instruments, five-times rent expense and excludes any premium or discount recorded in conjunction with the issuance of long-term debt. In the event that the Company should default on any covenant (subject to customary grace periods, cure rights and materiality thresholds) contained in the Credit Agreement, certain actions may be taken, including, but not limited to, possible termination of commitments, immediate payment of outstanding principal amounts plus accrued interest and other amounts payable under the Credit Agreement and litigation from lenders. As of December 31, 2020, the Company remained in compliance with all covenants under the Credit Agreement.

Senior notes:

On March 27, 2020, the Company issued $500 million aggregate principal amount of unsecured 4.200% Senior Notes due 2030 (“4.200% Senior Notes due 2030”) at a price to the public of 99.959% of their face value with U.S. Bank National Association (“U.S. Bank”) as trustee. Interest on the 4.200% Senior Notes due 2030 is payable on April 1 and October 1 of each year, which began on October 1, 2020, and is computed on the basis of a 360-day year.

On September 23, 2020, the Company issued $500 million aggregate principal amount of unsecured 1.750% Senior Notes due 2031 (“1.750% Senior Notes due 2031”) at a price to the public of 99.544% of their face value with U.S. Bank as trustee. Interest on the 1.750% Senior Notes due 2031 is payable on March 15 and September 15 of each year, beginning on March 15, 2021, and is computed on the basis of a 360-day year.

On October 14, 2020, the Company redeemed its $500 million aggregate principal amount of unsecured 4.875% Senior Notes due 2021 at a redemption price of $500 million, plus accrued and unpaid interest to, but not including, the date of redemption, and the Company recorded a $0.2 million loss on debt extinguishment at that time.

As of December 31, 2020, the Company has issued and has outstanding a cumulative $4.2 billion aggregate principal amount of unsecured senior notes, which are due between 2021 and 2031, with UMB Bank, N.A. and U.S. Bank as trustees. Interest on the senior notes, ranging from 1.750% to 4.625%, is payable semi-annually and is computed on the basis of a 360-day year. The 4.625% Senior Notes due 2021 were included in “Long-term debt” on the accompanying Consolidated Balance Sheet as of December 31, 2020, as the Company has the ability and intent to refinance these notes on a long-term basis. None of the Company’s subsidiaries is a guarantor under the senior notes. Each of the senior notes is subject to certain customary covenants, with which the Company complied as of December 31, 2020.

NOTE 9 – WARRANTIES

The Company’s product warranty liabilities are included in “Other current liabilities” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019. The following table identifies the changes in the Company’s aggregate product warranty liabilities for the years ended December 31, 2020 and 2019 (in thousands):


	2020		2019
Warranty liabilities, balance at January 1,	$	61,069	$	52,220
Warranty claims		(109,684)		(99,267)
Warranty accruals		114,526		108,099
Foreign currency translation		(25)		17
Warranty liabilities, balance at December 31,	$	65,886	$	61,069

NOTE 10 – SHARE REPURCHASE PROGRAM

In January of 2011, the Company’s Board of Directors approved a share repurchase program. Under the program, the Company may, from time to time, repurchase shares of its common stock, solely through open market purchases effected through a broker dealer at prevailing market prices, based on a variety of factors such as price, corporate trading policy requirements and overall market conditions. The Company’s Board of Directors may increase or otherwise modify, renew, suspend or terminate the share repurchase program at any time, without prior notice. As announced on February 5, 2020, October 28, 2020, and February 10, 2021, the Company’s Board of Directors each time approved a resolution to increase the authorization amount under the share repurchase program by an additional $1.0 billion, resulting in a cumulative authorization amount of $15.8 billion. Each additional authorization is effective for a three-year period, beginning on its respective announcement date. In order to conserve liquidity in response to the COVID-19 pandemic, the Company suspended its share repurchase program on March 16, 2020. The Company continued to evaluate business conditions and its liquidity and, as a result of this evaluation, resumed its share repurchase program on May 29, 2020.

The following table identifies shares of the Company’s common stock that have been repurchased as part of the Company’s publicly announced share repurchase program for the years ended December 31, 2020 and 2019 (in thousands, except per share data):


	For the Year Ended
	December 31,
	2020		2019
Shares repurchased		4,832		3,877
Average price per share	$	431.93	$	369.55
Total investment	$	2,087,146	$	1,432,752

As of December 31, 2020, the Company had $481.5 million remaining under its share repurchase program. Subsequent to the end of the year and through February 26, 2021, the Company repurchased an additional 1.1 million shares of its common stock under its share repurchase program, at an average price of $447.49, for a total investment of $478.4 million. The Company has repurchased a total of 82.1 million shares of its common stock under its share repurchase program since the inception of the program in January of 2011 and through February 26, 2021, at an average price of $179.65, for a total aggregate investment of $14.7 billion.

NOTE 11 – ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

Accumulated other comprehensive income includes adjustments for foreign currency translations. The table below summarizes activity for changes in accumulated other comprehensive income included in “Accumulated other comprehensive (loss) income” on the accompanying Consolidated Balance Sheets as of December 31, 2019 and 2018 (in thousands):


	Foreign		Total Accumulated Other
	Currency (1)		Comprehensive Income (Loss)
Accumulated other comprehensive income, balance at December 31, 2018	$	—	$	—
Change in accumulated other comprehensive income		4,890		4,890
Accumulated other comprehensive income, balance at December 31, 2019	$	4,890	$	4,890
Change in accumulated other comprehensive loss		(7,045)		(7,045)
Accumulated other comprehensive loss, balance at December 31, 2020	$	(2,155)	$	(2,155)

(1)	Foreign currency is not shown net of additional U.S. tax, as other basis differences of non-U.S. subsidiaries are intended to be permanently reinvested.

NOTE 12 – REVENUE

The table below identifies the Company’s revenues disaggregated by major customer type for the years ended December 31, 2020, 2019 and 2018 (in thousands):


	For the Year Ended
	December 31,
	2020		2019		2018
Sales to do-it-yourself customers	$	6,684,183	$	5,612,390	$	5,351,035
Sales to professional service provider customers		4,647,189		4,369,541		4,035,898
Other sales and sales adjustments		273,121		168,054		149,495
Total sales	$	11,604,493	$	10,149,985	$	9,536,428

As of December 31, 2020 and 2019, the Company had recorded a deferred revenue liability of $4.5 million and $4.1 million, respectively, related to its loyalty program, which were included in “Other liabilities” on the accompanying Consolidated Balance Sheets. During the years ended December 31, 2020, 2019 and 2018, the Company recognized $14.4 million, $15.6 million and $15.9 million, respectively, of revenue related to its loyalty program, which were included in “Sales” on the accompanying Consolidated Statements of Income.

NOTE 13 – SHARE-BASED COMPENSATION AND BENEFIT PLANS

The Company recognizes share-based compensation expense based on the fair value of the grants, awards or shares at the time of the grant, award or issuance. Share-based compensation includes stock option awards, restricted stock awards and stock appreciation rights issued under the Company’s incentive plans and stock issued through the Company’s employee stock purchase plan.

The table below identifies the shares that have been authorized for issuance and the shares available for future issuance under the Company plans, as of December 31, 2020 (in thousands):


	December 31, 2020
	Total Shares Authorized for	Shares Available for Future
Plans	Issuance under the Plans	Issuance under the Plans
Incentive Plans	34,650	5,592
Employee Stock Purchase Plan	4,250	506
Profit Sharing and Savings Plan	4,200	349

Stock options:

The Company’s incentive plans provide for the granting of stock options for the purchase of common stock of the Company to certain key employees of the Company. Employee stock options are granted at an exercise price that is equal to the closing market price of the Company’s common stock on the date of the grant. Employee stock options granted under the plans expire after 10 years and typically vest 25% per year, over four years. The Company records compensation expense for the grant date fair value of the option awards evenly over the vesting period or minimum required service period.

The table below identifies the employee stock option activity under these plans during the year ended December 31, 2020:


				Average		Aggregate
	Shares	Weighted- Average		Remaining		Intrinsic Value
	(in thousands)	Exercise Price		Contractual Terms		(in thousands)
Outstanding at December 31, 2019	1,635	$	218.10
Granted	175		394.79
Exercised	(288)		160.67
Forfeited or expired	(22)		302.55
Outstanding at December 31, 2020	1,500	$	248.52	5.7	Years	$	306,095
Vested or expected to vest at December 31, 2020	1,470	$	246.44	5.7	Years	$	302,927
Exercisable at December 31, 2020	988	$	202.19	4.5	Years	$	247,419

The fair value of each stock option award is estimated on the date of the grant using the Black-Scholes option pricing model. The Black-Scholes model requires the use of assumptions, including the risk free rate, expected life, expected volatility and expected dividend yield.

	●	Risk-free interest rate – The United States Treasury rates in effect at the time the options are granted for the options’ expected life.

	●	Expected life – Represents the period of time that options granted are expected to be outstanding. The Company uses historical experience to estimate the expected life of options granted.

	●	Expected volatility – Measure of the amount, by which the Company’s stock price is expected to fluctuate, based on a historical trend.

	●	Expected dividend yield – The Company has not paid, nor does it have plans in the foreseeable future to pay, any dividends.

The table below identifies the weighted-average assumptions used for stock options awarded by the Company during the years ended December 31, 2020, 2019 and 2018:


	December 31,
	2020		2019		2018
Risk free interest rate	0.86	%	2.26	%	2.63	%
Expected life	5.9	Years	5.7	Years	5.9	Years
Expected volatility	26.4	%	25.1	%	24.0	%
Expected dividend yield	—	%	—	%	—	%

The following table summarizes activity related to stock options awarded by the Company for the years ended December 31, 2020, 2019 and 2018:


	For the Year Ended
	December 31,
	2020		2019		2018
Compensation expense for stock options awarded (in thousands)	$	18,435	$	18,044	$	16,521
Income tax benefit from compensation expense related to stock options (in thousands)		4,620		4,436		4,093
Total intrinsic value of stock options exercised (in thousands)		79,451		117,489		156,327
Cash received from exercise of stock options (in thousands)		46,282		46,106		61,403
Weighted-average grant-date fair value of options awarded	$	106.76	$	105.37	$	76.57
Weighted-average remaining contractual life of exercisable options (in years)		4.5		4.6		4.4

At December 31, 2020, the remaining unrecognized compensation expense related to unvested stock option awards was $32.6 million, and the weighted-average period of time, over which this cost will be recognized, is 2.4 years.

Restricted stock:

The Company’s incentive plans provide for the awarding of shares of restricted stock to certain key employees that vest evenly over a three-year period and are held in escrow until such vesting has occurred. Generally, unvested shares are forfeited when an employee ceases employment. The fair value of shares awarded under these plans is based on the closing market price of the Company’s common stock on the date of award and compensation expense is recorded over the vesting period or minimum required service period.

The table below identifies employee restricted stock activity under these plans during the year ended December 31, 2020 (in thousands, except per share data):


		Weighted-Average Grant-Date
	Shares	Fair Value
Non-vested at December 31, 2019	4	$	301.40
Granted during the period	2		419.88
Vested during the period (1)	(2)		289.03
Forfeited during the period	—		—
Non-vested at December 31, 2020	4	$	358.58

(1)	Includes less than one thousand shares withheld to cover employees’ taxes upon vesting.

The Company’s incentive plans provide for the awarding of shares of restricted stock to the non-employee directors of the Company that vest over a one-year period, except for awards issued prior to May 2020, which vests evenly over a three-year period, and are held in escrow until such vesting has occurred. Unvested shares are forfeited when a director ceases their service on the Company’s Board of Directors for reasons other than death or retirement. The fair value of shares awarded under these plans is based on the closing market price of the Company’s common stock on the date of award, and compensation expense is recorded evenly over the minimum required service period.

The table below identifies non-employee director restricted stock activity under these plans during the year ended December 31, 2020 (in thousands, except per share data):


		Weighted-Average Grant-Date
	Shares	Fair Value
Non-vested at December 31, 2019	4	$	312.96
Granted during the period	2		407.12
Vested during the period	(2)		293.72
Forfeited during the period	—		—
Non-vested at December 31, 2020	4	$	371.46

The following table summarizes activity related to restricted stock awarded by the Company for the years ended December 31, 2020, 2019 and 2018 (in thousands, except per share data):


	For the Year Ended
	December 31,
	2020		2019		2018
Compensation expense for restricted shares awarded	$	1,488	$	1,387	$	1,370
Income tax benefit from compensation expense related to restricted shares	$	373	$	341	$	340
Total fair value of restricted shares at vest date	$	1,591	$	1,633	$	1,230
Shares awarded under the plans		4		4		5
Weighted-average grant-date fair value of shares awarded under the plans	$	412.67	$	355.91	$	263.89

At December 31, 2020, the remaining unrecognized compensation expense related to unvested restricted share awards was $0.4 million, and the weighted-average period of time, over which this cost will be recognized, is 0.5 years_._

Employee stock purchase plan:

The Company’s employee stock purchase plan (the “ESPP”) permits eligible employees to purchase shares of the Company’s common stock at 85% of the fair market value. Employees may authorize the Company to withhold up to 5% of their annual salary to participate in the plan. The fair value of shares issued under the ESPP is based on the average of the high and low market prices of the Company’s common stock during the offering periods. Compensation expense is recognized based on the discount between the grant-date fair value and the employee purchase price for the shares sold to employees.

The table below summarizes activity related to the Company’s ESPP for the years ended December 31, 2020, 2019 and 2018 (in thousands, except per share data):


	For the Year Ended
	December 31,
	2020		2019		2018
Compensation expense for shares issued under the ESPP	$	2,824	$	2,490	$	2,285
Income tax benefit from compensation expense related to shares issued under the ESPP	$	708	$	612	$	566
Shares issued under the ESPP		45		43		53
Weighted-average price of shares issued under the ESPP	$	353.04	$	329.69	$	245.26

Profit sharing and savings plan:

The Company sponsors a contributory profit sharing and savings plan (the “401(k) Plan”) that covers substantially all employees who are at least 21 years of age and have completed one year of service. The Company makes matching contributions equal to 100% of the first 2% of each employee’s wages that are contributed and 25% of the next 4% of each employee’s wages that are contributed. An employee generally must be employed on December 31 to receive that year’s Company matching contribution, with the matching contribution funded annually at the beginning of the subsequent year following the year in which the matching contribution was earned. The Company may also make additional discretionary profit sharing contributions to the plan on an annual basis as determined by the Board of Directors. The Company did not make any discretionary contributions to the 401(k) Plan during the years ended December 31, 2020, 2019 or 2018. The Company expensed matching contributions under the 401(k) Plan in the amounts of $31.0 million, $27.5 million and $24.8 million for the years ended December 31, 2020, 2019 and 2018, respectively, which were primarily included in “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income.

Nonqualified deferred compensation plan:

The Company sponsors a nonqualified deferred compensation plan (the “Deferred Compensation Plan”) for highly compensated employees whose contributions to the 401(k) Plan are limited due to the application of the annual limitations under the Internal Revenue Code. The Deferred Compensation Plan provides these employees with the opportunity to defer the full 6% of matched compensation, including salary and incentive based compensation, that was precluded under the Company’s 401(k) Plan, which is then matched by the Company using the same formula as the 401(k) Plan. An employee generally must be employed on December 31 to receive that year’s Company matching contribution, with the matching contribution funded annually at the beginning of the subsequent year following the year in which the matching contribution was earned. In the event of bankruptcy, the assets of this plan are available to satisfy the claims of general creditors. The Company has an unsecured obligation to pay, in the future, the value of the deferred compensation and Company match, adjusted to reflect the performance, whether positive or negative, of selected investment measurement options chosen by each participant during the deferral period. The liability for compensation deferred under the Deferred Compensation Plan was $40.4 million and $32.2 million as of December 31, 2020 and 2019, respectively, which were included in “Other liabilities” on the Consolidated Balance Sheets. The Company expensed matching contributions under the Deferred Compensation Plan in the amounts of $0.2 million, $0.2 million and $0.1 million for the years ended December 31, 2020, 2019 and 2018, respectively, which were primarily included in “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income.

Stock appreciation rights:

The Company’s incentive plans provide for the granting of stock appreciation rights, which expire after 10 years and vest 25% per year, over four years, and are settled in cash. There were 8,149 and 8,009 stock appreciation rights outstanding as of December 31, 2020 and 2019, respectively. During the year ended December 31, 2020, there were 1,011 stock appreciation rights granted. The liability for compensation to be paid for the future redemption of stock appreciation rights was $0.3 million and less than $0.1 million as of December 31, 2020 and 2019, respectively, which were included in “Other liabilities” on the Consolidated Balance Sheets. The Company expensed compensation expense for stock appreciation rights in the amounts of $0.3 million and less than $1.0 million for the years ended December 31, 2020 and 2019, respectively, which were included in “Selling, general and administrative expenses” on the accompanying Consolidated Statements of Income.

NOTE 14 – COMMITMENTS

Construction commitments:

As of December 31, 2020, the Company had construction commitments in the amount of $38.3 million.

Letters of credit commitments:

As of December 31, 2020, the Company had outstanding letters of credit, primarily to satisfy workers’ compensation, general liability and other insurance policies, in the amount of $66.4 million. See Note 8 for further information concerning the Company’s letters of credit commitments.

Debt financing commitments:

Each series of senior notes is redeemable in whole, at any time, or in part, from time to time, at the Company’s option upon not less than 30 nor more than 60 days notice at a redemption price, plus any accrued and unpaid interest to, but not including, the redemption date, equal to the greater of (i) 100% of the principal amount thereof or (ii) the sum of the present values of the remaining scheduled payments of principal and interest thereon discounted to the redemption date on a semiannual basis at the applicable Treasury Yield plus basis points identified in the indenture governing such series of senior notes; provided, that on or after the date that is three months prior to the maturity date of the series of senior notes, such series of senior notes is redeemable at a redemption price equal to par plus accrued and unpaid interest to, but not including, the redemption date. In addition, if at any time the Company undergoes a Change of Control Triggering Event, as defined in the indenture governing such series of senior notes, the holders may require the Company to repurchase all or a portion of their senior notes at a price equal to 101% of the principal amount of the notes being repurchased, plus accrued and unpaid interest, if any, but not including the repurchase date. See Note 8 for further information concerning the Company’s debt financing commitments.

Self-insurance reserves:

NOTE 15 – RELATED PARTIES

The Company leases certain land and buildings related to 71 of its O’Reilly Auto Parts stores and one surplus property under fifteen- or twenty-year operating lease agreements with entities that include one or more of the Company’s affiliated directors or members of an affiliated director’s immediate family. Generally, these lease agreements provide for renewal options for an additional five years at the option of the Company and the lease agreements are periodically modified to further extend the lease term for specific stores under the agreements. Lease payments under these operating leases totaled $4.7 million, $4.7 million and $4.6 million for the years ended December 31, 2020, 2019 and 2018, respectively. The Company believes that the lease agreements with the affiliated entities are on terms comparable to those obtainable from third parties. See Note 6 for further information concerning the Company’s operating leases.

NOTE 16 – INCOME TAXES

The following table identifies components of income from continuing operations before income taxes included in “Income before income taxes” on the accompanying Consolidated Statements of Income for the years ended December 31, 2020, 2019 and 2018 (in thousands):


	For the Year Ended
	December 31,
	2020		2019		2018
Domestic	$	2,260,385	$	1,790,207	$	1,694,087
International		6,020		122		—
Income before income taxes	$	2,266,405	$	1,790,329	$	1,694,087

Provision for income taxes:

The following tables reconcile the amounts included in “Provision for income taxes” on the accompanying Consolidated Statements of Income for the years ended December 31, 2020, 2019 and 2018 (in thousands):


	For the Year Ended
	December 31,
	2020		2019		2018
Current:
Federal income tax expense	$	401,331	$	315,061	$	289,953
State income tax expense		97,085		62,795		59,487
International income tax expense		3,306		273		—
Total current		501,722		378,129		349,440

Deferred:
Federal income tax expense		16,749		19,367		16,309
State income tax (benefit) expense		(2,865)		2,027		3,851
International income tax benefit		(1,503)		(236)		—
Total deferred		12,381		21,158		20,160

Net income tax expense	$	514,103	$	399,287	$	369,600

The following table outlines the reconciliation of the “Provision for income taxes” amounts included on the accompanying Consolidated Statements of Income to the amounts computed at the federal statutory rate for the years ended December 31, 2020, 2019 and 2018 (in thousands):


	For the Year Ended
	December 31,
	2020		2019		2018
Federal income taxes at statutory rate	$	474,681	$	375,942	$	355,758
State income taxes, net of federal tax benefit		76,810		54,739		56,345
Excess tax benefit from share-based compensation		(16,918)		(25,992)		(34,703)
Revaluation of deferred tax liability		—		—		(1,262)
Benefit from investment in renewable energy tax credits		(17,904)		(875)		(2,037)
Other items, net		(2,566)		(4,527)		(4,501)
Total provision for income taxes	$	514,103	$	399,287	$	369,600

The U.S. Tax Cuts and Jobs Act, enacted in December 2017 (the “Tax Act”), significantly reduced the federal corporate income tax rate for tax years beginning in 2018 and required the Company to revalue its deferred income tax liabilities. During the year ended December 31, 2018, the Company completed its evaluation of the impact of the Tax Act and recorded a one-time benefit of $1.3 million, finalizing the revaluation of its deferred income tax liabilities due to the Tax Act, which was recorded in “Provision for income taxes” on the accompanying Consolidated Statements of Income for the year ended December 31, 2018.

The Company has invested in tax credit equity investments for the purposes of receiving renewable energy tax credits. During the years ended December 31, 2020, 2019 and 2018, the Company recognized investment tax credits in the amount of $170.5 million, $8.5 million and $19.4 million, respectively, all of which were realized through reductions in cash income taxes paid and were reflected as a component of the change in Income taxes payable on the accompanying Consolidated Statements of Cash Flows for the respective years. See Note 1 for further information concerning the Company’s investment in tax credit funds.

Deferred income tax assets and liabilities:

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, and also include the tax effect of carryforwards.

The following table identifies significant components of the Company’s net deferred tax liabilities included in “Deferred income taxes” on the accompanying Consolidated Balance Sheets as of December 31, 2020 and 2019 (in thousands):


	December 31,
	2020		2019
Deferred tax assets:
Allowance for doubtful accounts	$	1,574	$	2,008
Tax credits		1,444		3,417
Other accruals		143,387		97,189
Operating lease liability		513,134		494,093
Other		16,594		15,732
Total deferred tax assets		676,133		612,439

Deferred tax liabilities:
Inventories		79,326		65,346
Property and equipment		194,000		162,613
Operating lease asset		498,042		479,821
Other		60,664		37,939
Total deferred tax liabilities		832,032		745,719

Net deferred tax liabilities	$	(155,899)	$	(133,280)

As of December 31, 2020, the Company had tax credit carryforwards available for state tax purposes, net of federal impact, in the amount of $1.4 million, which generally expire in 2024.

Unrecognized tax benefits:

The following table summarizes the changes in the gross amount of unrecognized tax benefits, excluding interest and penalties, for the years ended December 31, 2020, 2019 and 2018 (in thousands):


	2020		2019		2018
Unrealized tax benefit, balance at January 1,	$	31,475	$	33,766	$	35,388
Additions based on tax positions related to the current year		4,795		4,627		3,550
Additions based on tax positions related to prior years		—		—		4,255
Payments related to items settled with taxing authorities		—		(443)		(2,792)
Reductions due to the lapse of statute of limitations and settlements		(5,303)		(6,475)		(6,635)
Unrealized tax benefit, balance at December 31,	$	30,967	$	31,475	$	33,766

For the years ended December 31, 2020, 2019 and 2018, the Company recorded a reserve for unrecognized tax benefits, including interest and penalties, in the amounts of $35.9 million, $36.6 million and $38.9 million, respectively. All of the unrecognized tax benefits recorded as of December 31, 2020, 2019 and 2018, respectively, would affect the Company’s effective tax rate if recognized, generally net of the federal tax effect of approximately $7.5 million. The Company recognizes interest and penalties related to uncertain

tax positions in income tax expense. As of December 31, 2020, 2019 and 2018, the Company had accrued approximately $5.0 million, $5.1 million and $5.1 million, respectively, of interest and penalties related to uncertain tax positions before the benefit of the deduction for interest on state and federal returns. During the years ended December 31, 2020, 2019 and 2018, the Company recorded tax expense related to an increase in its liability for interest and penalties in the amounts of $2.2 million, $2.7 million and $2.3 million, respectively. Although unrecognized tax benefits for individual tax positions may increase or decrease during 2021, the Company expects a reduction of $6.0 million of unrecognized tax benefits during the one-year period subsequent to December 31, 2020, resulting from settlement or expiration of the statute of limitations.

The Company’s United States federal income tax returns for tax years 2017 and beyond remain subject to examination by the Internal Revenue Service (“IRS”). The IRS concluded an examination of the O’Reilly consolidated 2014, 2015 and 2016 federal income tax returns in the third quarter of 2018. The Company’s state income tax returns remain subject to examination by various state authorities for tax years ranging from 2009 through 2019.

NOTE 17 – EARNINGS PER SHARE

The following table illustrates the computation of basic and diluted earnings per share for the years ended December 31, 2020, 2019 and 2018 (in thousands, except per share data):


	For the Year Ended
	December 31,
	2020		2019		2018
Numerator (basic and diluted):
Net income	$	1,752,302	$	1,391,042	$	1,324,487

Denominator:
Weighted-average common shares outstanding – basic		73,817		76,985		81,406
Effect of stock options (1)		645		803		874
Weighted-average common shares outstanding – assuming dilution		74,462		77,788		82,280

Earnings per share:
Earnings per share-basic	$	23.74	$	18.07	$	16.27
Earnings per share-assuming dilution	$	23.53	$	17.88	$	16.10

Antidilutive potential common shares not included in the calculation of diluted earnings per share:
Stock options (1)		291		229		567
Weighted-average exercise price per share of antidilutive stock options (1)	$	393.42	$	368.11	$	268.55

(1)	See Note 13 for further information concerning the terms of the Company’s share-based compensation plans.

Subsequent to the end of the year and through February 26, 2021, the Company repurchased 1.1 million shares of its common stock, at an average price of $447.49, for a total investment of $478.4 million.

NOTE 18 – QUARTERLY RESULTS (Unaudited)

The following tables set forth certain quarterly unaudited operating data for the fiscal years ended December 31, 2020 and 2019. The unaudited quarterly information includes all adjustments, which the Company considers necessary for a fair presentation of the information shown (in thousands, except per share data):


	Fiscal 2020
	First		Second		Third		Fourth
	Quarter		Quarter		Quarter		Quarter
Sales	$	2,476,487	$	3,091,595	$	3,207,638	$	2,828,773
Gross profit		1,295,906		1,637,180		1,680,468		1,472,138
Operating income		423,561		736,490		725,013		534,272
Net income		300,438		531,667		527,252		392,945
Earnings per share – basic (1)	$	4.00	$	7.16	$	7.13	$	5.45
Earnings per share – assuming dilution (1)	$	3.97	$	7.10	$	7.07	$	5.40

	Fiscal 2019
	First		Second		Third		Fourth
	Quarter		Quarter		Quarter		Quarter
Sales	$	2,410,608	$	2,589,874	$	2,666,528	$	2,482,975
Gross profit		1,279,290		1,368,287		1,422,530		1,324,584
Operating income		444,786		498,074		536,363		441,503
Net income		321,152		353,681		391,293		324,916
Earnings per share – basic (1)	$	4.09	$	4.56	$	5.14	$	4.29
Earnings per share – assuming dilution (1)	$	4.05	$	4.51	$	5.08	$	4.25

(1)	Earnings per share amounts are computed independently for each quarter and annual period. The quarterly earnings per share amounts may not sum to equal the full-year earnings per share amount.

The unaudited operating data presented above should be read in conjunction with the Company’s consolidated financial statements and related notes and the other financial information included therein.

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