O'Reilly Automotive finances CSK acquisition through asset-backed loan

The deeds pledge O’Reilly Automotive Inc. real estate holdings to Bank of America, the Charlotte, N.C.-based bank that provided the asset-backed financing for the acquisition. The transaction officially closed July 11.

The deal – the biggest acquisition in O’Reilly’s 51-year history in terms of dollars – gives O’Reilly about 3,200 stores and positions the company within 50 stores of Advance Auto Parts Inc., the nation’s second-largest auto parts retailer. CSK was the fourth-largest chain, with about 1,350 stores located primarily in the Western U.S. O’Reilly operates around 1,830 stores mainly in the Midwest and Southeast. O’Reilly now oversees 40,000 employees in 38 states.

O’Reilly purchased roughly 38 million outstanding CSK shares, each exchanged for 0.4285 of an O’Reilly share plus $1 in cash.

Bank of America acted as the chief lender in the O’Reilly-CSK transaction, and Lehman Brothers served as investment advisers. Lehman Brothers also owns part of the $600 million outstanding debt, said Mark Merz, O’Reilly’s manager of external reporting and investor relations.

Market forces

Merz said the company’s financing strategy was partly a result of lenders tightening their underwriting standards amid the subprime mortgage meltdown and related economic fallout.

“The credit market just completely dried up at that time,” Merz said. “And to be honest, if it hadn’t been for the credit market at the time … there probably wouldn’t have been any equity involved in transaction. We probably wouldn’t have offered stock. It probably would have been an all-cash deal.”

O’Reilly negotiated the asset-based lending plan with Bank of America by pledging various forms of collateral, including real estate. Merz said O’Reilly owns about 40 percent to 45 percent of its stores nationwide.

“We … factor the accounts receivable balance, we take our inventory balance, and then we take our real estate that we have on the balance sheet that we own, and we’re allowed to borrow – according to a formula – a certain percent of the value of those,” Merz said, noting that Bank of America essentially becomes the lien holder on the O’Reilly properties pledged in the deeds of trust.

Store switchover

O’Reilly’s debt has been divided and sold to multiple banks and financial institutions, and Merz said the retailer hasn’t disclosed the specifics of its repayment plan. First, the company must complete its phased integration of the CSK stores, starting with those that fall within O’Reilly’s existing distribution infrastructure.

“Once the integration is absorbed and those stores are online, we’ll be a different company,” he said. “We’ll be a $5 billion company at that point, and that opens a lot of doors from the debt-market standpoint.”

Merz said the first 300 CSK stores to undergo inventory enhancements and co-branding should emerge from the transition as O’Reilly stores by spring of 2009.

“I think we’re really good at doing these types of conversions, these whole-store conversions,” O’Reilly CEO Greg Henslee said in a July 28 conference call on the company’s second-quarter earnings. “… The teams that we have do this know what they’re doing; they can do it very quickly, and those are the teams that we’re going to have go out and convert these stores.”

Company officials are currently devising a plan to extend the company’s distribution network to another 1,000 CSK stores in the Southwest and on the West Coast.

Tom McFall, O’Reilly’s chief financial officer, said the average estimated cost of converting each CSK store is about $100,000, according to a transcript of the conference call available at www.seekingalpha.com.

Merz also noted that O’Reilly recently entered into a interest-rate swap agreement with a third party to mitigate risk associated with the variable interest rate loan from Bank of America. Through the agreement, he said, O’Reilly has essentially locked in a fixed rate.

“It’s a risk-hedging technique,” Merz said. “We’re betting those interest rates are going to go up. They’re betting they’re going to go down.”

O’Reilly shares are traded on the Nasdaq under ticker symbol ORLY. They closed Aug. 13 at $28.42, compared to a 52-week range of $21.92 to $36.60.[[In-content Ad]]