Summary of Significant Accounting Policies (Policy)

12 Months Ended

Dec. 31, 2011

Summary of Significant Accounting Policies

Nature of business:

O'Reilly Automotive, Inc. ("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. The Company owns and operates 3,740 stores in 39 states, covering all regions of the United States except the Northeast, and caters to both the do-it-yourself ("DIY") customer and the professional service provider. 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.  O'Reilly 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 prepare discrete financial information with respect to product lines or geographic locations and as such has one reportable segment.

Reclassification:

Certain prior period amounts have been reclassified to conform to current period presentation.  These reclassifications had no effect on reported totals for assets, liabilities, shareholders' equity, cash flows or net income.

Principles of consolidation:

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

Use of estimates:

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

Cash equivalents:

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

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 economic and industry trends and changes in customer payment terms. Amounts due to the Company from its Team Members are included as a component of accounts receivable. These amounts consist primarily of purchases of merchandise on Team Member accounts. Accounts receivable due from Team Members was approximately $2.2 million at December 31, 2011 and 2010.

The Company grants credit to certain customers who meet the Company's pre-established credit requirements. Concentrations of credit risk with respect to these receivables are limited because the Company's customer base consists of a large number of smaller customers, spreading the credit risk across a broad base. 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 losses are provided for in the Company's consolidated financial statements and have consistently been within management's expectations.

Amounts receivable from vendors:

The Company receives concessions from its vendors 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 vendor concessions are recognized as a reduction to the cost of inventory. Amounts receivable from vendors also includes amounts due to the Company for changeover merchandise and product returns. The Company regularly reviews vendor receivables for collectability and assesses the need for a reserve for uncollectable amounts based on an evaluation of the Company's vendors' 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 vendors and the Company did not record a reserve for uncollectable amounts from vendors in the consolidated financial statements at December 31, 2011 or 2010.

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"). Cost has been determined using the last-in, first-out ("LIFO") method, which more accurately matches costs with related revenues. The replacement cost of inventory was $2.04 billion and $2.05 billion as of December 31, 2011 and 2010, respectively.

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 renew options would result in a substantial economic penalty to the Company. Maintenance and repairs are charged to expense as incurred. Upon retirement or sale, the cost and accumulated depreciation are eliminated and the gain or loss, if any, is included as a component of "Other income (expense)" 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.

Notes receivable:

The Company had notes receivable from vendors and other third parties amounting to $15.0 million and $22.2 million at December 31, 2011 and 2010, respectively. The notes receivable, which bear interest at rates ranging from 0% to 10%, are due in varying amounts through March of 2019. Interest income on notes receivable is recorded in accordance with the note terms to the extent that such amounts are expected to be collected. The Company regularly reviews its notes receivable for collectability and assesses the need for a reserve for uncollectable amounts based on an evaluation of the Company's borrowers' 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 notes receivable and the Company did not record a reserve for uncollectable notes receivable in the consolidated financial statements at December 31, 2011 or 2010.

Goodwill and other intangible assets:

The accompanying Consolidated Balance Sheets at December 31, 2011 and 2010, include goodwill and other intangible assets recorded as the result of acquisitions. The Company reviews goodwill for impairment annually on November 30, or when events or changes in circumstances indicate the carrying value of these assets might exceed their current fair values, rather than systematically amortizing goodwill against earnings. During 2011 and 2010, the goodwill impairment test included a quantitative assessment, which compared the fair value of a reporting unit to its carrying amount, including goodwill. The Company operates as a single reporting unit, and the Company determined that its fair value exceeded its carrying value, including goodwill, at December 31, 2011 and 2010; as such, no goodwill impairment adjustment was required at December 31, 2011 and 2010.

Self-insurance reserves:

The Company uses a combination of insurance and self-insurance mechanisms to provide for the 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, 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. 

Warranties:

The Company offers warranties on the 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 vendors.  Certain vendors 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 vendor 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.

Litigation reserves:

O'Reilly is currently involved in litigation incidental to the ordinary conduct of the Company's business.  The Company records reserves 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 reserves for an estimate of material legal costs to be incurred on pending litigation matters.  Although the Company cannot ascertain the total amount of liability that it may incur from any of these matters, the Company does not currently believe that in the aggregate, taking into account applicable insurance coverage, these matters will have a material adverse effect on its consolidated financial position, results of operations or cash flows.  In addition, O'Reilly is involved in resolving legacy governmental investigations and litigation that were being conducted against certain former CSK Automotive Corporation ("CSK") employees arising out of alleged conduct relating to periods prior to the Company's acquisition of CSK.

Closed property liabilities:

The Company maintains reserves for closed stores and other properties that are no longer being utilized in current operations.  The Company provides for these liabilities using a credit-adjusted discount rate to calculate the present value of the remaining non-cancelable lease payments, occupancy costs and lease termination fees after the close date, net of estimated sublease income.  In conjunction with the acquisition of CSK, the Company's reserves include purchase accounting liabilities related to acquired properties that were no longer being utilized in the acquired business as well as the Company's planned exit activities. 

Derivative instruments and hedging activities:

The Company's accounting policies for derivative financial instruments are based on whether the instruments meet the criteria for designation as cash flow or fair value hedges. The criteria for designating a derivative as a hedge include the assessment of the instrument's effectiveness in risk reduction, matching of the derivative instrument to its underlying transaction and the probability that the underlying transaction will occur. A designated hedge of the exposure to variability in the future cash flows of an asset or a liability qualifies as a cash flow hedge. A designated hedge of the exposure to changes in fair value of an asset or a liability qualifies as a fair value hedge. For derivatives with cash flow hedge accounting designation, the Company would recognize the after-tax gain or loss from the effective portion of the hedge as a component of "Accumulated other comprehensive loss" and would reclassify it into earnings in the same period or periods in which the hedged transaction affects earnings, and within the same income statement line item as the impact of the hedged transaction. For derivatives with fair value hedge accounting designation, the Company would recognize gains or losses from the change in fair value of these derivatives, as well as the offsetting change in the fair value of the underlying hedged item, in earnings. At December 31, 2011, the Company did not hold any instruments that qualified as cash flow or fair value hedge derivatives.

At December 31, 2010, the Company held derivative financial instruments to manage interest rate risk. The Company designated these derivative financial instruments as cash flow hedges. The derivative financial instruments were recorded at fair value and were included within "Other current liabilities". On a quarterly basis, the Company measured the effectiveness of the derivative financial instruments by comparing the present value of the cumulative change in the expected future interest to be paid or received on the variable leg of the instruments against the expected future interest payments on the corresponding variable rate debt. In addition, the Company compared the critical terms, including notional amounts, underlying indices and reset dates of the derivative financial instruments with the respective variable rate debt to ensure all terms agreed. Any ineffectiveness was reclassified from "Accumulated other comprehensive loss" on the accompanying Consolidated Balance Sheets to "Interest expense" on the accompanying Consolidated Statements of Income. See Note 7 for further information concerning these derivative instruments accounted for as hedges.

Share repurchases:

On January 11, 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. All shares repurchased under the share repurchase program are retired and recorded under the par value method on the accompanying Consolidated Balance Sheets.

Revenue recognition:

Over-the-counter retail sales are recorded when the customer takes possession of the merchandise. Sales to professional service providers, 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. Wholesale sales to other retailers, also referred to as "jobber sales," are recorded upon shipment of the merchandise from a regional distribution center ("DC") with same-day delivery to the jobber customer's location. Internet retail sales are recorded when the merchandise is shipped or when the merchandise is picked up in a store. All sales are recorded net of estimated allowances, discounts and taxes.

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

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 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
Vendor 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 vendors	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

Operating leases:

The Company recognizes rent expense on a straight-line basis over the lease terms of its stores and DCs.  Generally, the lease term for stores is the base lease term and the lease term for DCs includes the base lease term plus certain renewal option periods for which renewal is reasonably assured and failure to exercise the renewal option would result in a significant economic penalty.  The Company's policy is to amortize leasehold improvements associated with the Company's operating leases over the lesser of the lease term or the estimated economic life of those assets.

Advertising expenses:

Advertising expense consists primarily of expenses related to the Company's integrated marketing program, which includes television, radio, direct mail and newspaper distribution, in-store and online promotions, and sports and event sponsorships. The Company expenses advertising costs as incurred. The Company also participates in cooperative advertising arrangements with certain of its vendors. Advertising expense included as a component of "Selling, general and administrative expenses" ("SG&A") on the accompanying Consolidated Statements of Income amounted to $73.8 million, $70.0 million and $72.9 million for the years ended December 31, 2011, 2010 and 2009, respectively.

Share-based compensation and benefit plans:

The Company sponsors employee share-based benefit plans and employee and director share-based compensation plans.  The Company recognizes compensation expense for its share-based plans based on the fair value of the awards on the date of the grant, award or issuance.  Share-based plans include stock option awards issued under the Company's employee incentive plans, director stock plan, stock issued through the Company's employee stock purchase plan and stock awarded to employees and directors through other compensation plans. 

Pre-opening expenses:

Costs associated with the opening of new stores, which consist primarily of payroll and occupancy costs, are charged to SG&A as incurred. Costs associated with the opening of new distribution centers, which consist primarily of payroll and occupancy costs, are included as a component of "Cost of goods sold, including warehouse and distribution expenses" on the accompanying Consolidated Statements of Income as incurred.

Debt issuance costs:

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. These debt issuance costs have been deferred and are being amortized over the term of the corresponding debt issue and the amortization expense is included as a component of "Interest expense" in the Company's Consolidated Statements of Income. Deferred debt issuance costs totaled $9.0 million and $21.6 million, net of amortization, at December 31, 2011 and 2010, respectively, of which $1.3 million and $8.6 million were included within "Other current assets" on the accompanying Consolidated Balance Sheets at December 31, 2011 and 2010, with the remainder included within "Other assets" on the accompanying Consolidated Balance Sheets at December 31, 2011 and 2010. All unamortized debt issuance costs related to the Company's asset-based revolving credit facility ("ABL Credit Facility") were expensed on January 14, 2011, in conjunction with the issuance of the Company's $500 million of unsecured 4.875% Senior Notes due 2021 (the "4.875% Senior Notes due 2021") and subsequent repayment and retirement of the ABL Credit Facility.

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 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 at December 31, 2011 and 2010, 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.

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, where applicable, the common stock equivalents associated with the potential impact of dilutive stock options or conversion of convertible debt.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.

New accounting pronouncements:

In May of 2011, the Financial Accounting Standards Board ("FASB") issued Accounting Standards Update ("ASU") No. 2011-04, Amendments to Achieve Common Fair Value Measurement and Disclosure Requirements in U.S. GAAP and International Financial Reporting Standards ("2011-04"). ASU 2011-04 was issued to bring the definition of fair value, the guidance for fair value measurement and the disclosure requirements under U.S. GAAP and International Financial Reporting Standards ("IFRS") in line with one another. ASU 2011-04 also enhances the disclosure requirements for changes and transfers within the valuation hierarchy levels, particularly valuations in Level 3 fair value measurements, and is effective for periods beginning after December 15, 2011. The application of this guidance affects disclosures only and therefore, will not have an impact on the Company's consolidated financial condition, results of operations or cash flows.

In June of 2011, the FASB issued ASU No. 2011-05, Presentation of Comprehensive Income ("2011-05").ASU 2011-05 was issued to improve the comparability of financial reporting between U.S. GAAP and IFRS, and eliminates previous U.S. GAAP guidance that allowed an entity to present components of other comprehensive income ("OCI") as part of its statement of changes in shareholders' equity.With the issuance of ASU 2011-05, companies are now required to report all components of OCI either in a single continuous statement of total comprehensive income, which includes components of both OCI and net income, or in a separate statement appearing consecutively with the statement of income.ASU 2011-05 does not affect current guidance for the accounting of the components of OCI, or which items are included within total comprehensive income.In December of 2011, the FASB issued ASU No. 2011-12 Deferral of the Effective Date for Amendments to the Presentation of Reclassifications of Items Out of Accumulated Other Comprehensive Income in Accounting Standards Update No. 2011-05 ("2011-12").ASU 2011-12 defers changes in ASU 2011-05 that relate to the presentation of reclassification adjustments shown on the face of the financial statements.No other requirements of ASU 2011-05 were affected by the issuance of ASU 2011-12, including the requirement to report income either in a single continuous financial statement or in a separate statement of total comprehensive income, which is effective for periods beginning after December 15, 2011, with early adoption permitted.The Company adopted this guidance with its 2011 financial statements; the application of this guidance affects presentation only and therefore, did not have an impact on the Company's consolidated financial condition, results of operations or cash flows.

In September of 2011, the FASB issued ASU No. 2011-08, Testing Goodwill for Impairment ("2011-08"). ASU 2011-08 was issued to simplify the impairment test of goodwill, by allowing entities to use a qualitative approach to determine whether goodwill impairment might exist, before completing the entire impairment test. Under ASU 2011-08, an entity has the option to first assess any qualitative factors that would lead to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. The changes under ASU 2011-08 are effective for public companies for annual and interim testing performed for periods beginning after December 15, 2011, with early adoption permitted.  The application of this guidance is not expected to have a material impact on the Company's consolidated financial condition, results of operations or cash flows.