ADVANCE AUTO PARTS INC (AAP) FY 2024 MD&A

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

The following discussion and analysis of financial condition and results of operations should be read in conjunction with the Company’s consolidated historical financial statements and the notes to those statements that appear elsewhere in this report. The Company’s discussion contains forward-looking statements based upon current expectations that involve risks and uncertainties, such as the Company’s plans, objectives, expectations and intentions. Actual results and the timing of events could differ materially from those anticipated in these forward-looking statements as a result of a number of factors, including those set forth under the section titled “Part 1. Item 1A. Risk Factors” elsewhere in this report. The discussion of the Company’s financial condition and changes in the Company’s results of operations, liquidity and capital resources for the fiscal year ended December 30, 2023 (“2023”) compared with the fiscal year ended December 31, 2022 (“2022”) has been omitted from this Form 10-K, but are included in “Item 7. Management’s Discussion and Analysis of Financial Condition and Results of Operations” of the Company’s Annual Report on Form 10-K for 2023, filed with the Securities and Exchange Commission (“SEC”) on March 12, 2024, and the amended Annual Report on Form 10-K/A filed with the SEC on May 30, 2024 (collectively the “2023 Form 10-K”). Amounts are presented in thousands, except per share data, unless otherwise stated.

Management Overview

On August 22, 2024, the Company entered into a definitive purchase agreement to sell Worldpac, and on November 1, 2024, the Company completed the sale. As a result, Worldpac was presented as discontinued operations beginning in the third quarter of 2024. Unless otherwise noted, the discussion below relates to the Company’s continuing operations.

A high-level summary of the Company’s financial results and other highlights from 2024 includes:

•Net sales from continuing operations during 2024 were $9.1 billion, a decrease of 1.2% compared with 2023, driven by a decrease in price and volume partially offset by a favorable product mix. Comparable store sales declined 0.7%.

•Gross profit margin from continuing operations for 2024 was 37.5% of net sales, a decrease of 444 basis points compared with 2023, primarily due to inventory-related charges attributable to the location closures and streamlining product assortment resulting from the Board-approved restructuring and asset optimization plan (“2024 Restructuring Plan”).

•Operating loss from continuing operations for 2024 was $713.3 million, a decrease of $752.2 million from 2023. As a percentage of net sales, operating loss was 7.8%, a decrease of 827 basis points compared with 2023. This decrease was primarily attributable to gross margin decline and the impairment of long-lived assets due to the 2024 Restructuring Plan.

•Cash flows provided by operating activities from continuing operations was $140.5 million during 2024, a decrease of 0.9% compared with 2023, primarily attributable to an increase in net working capital offset by lower net income and provision for deferred income taxes compared with 2023 prior year.

•Diluted earnings per share (“Diluted EPS”) from continuing operations was a loss of $9.80 during 2024 compared with a loss of $0.50 in 2023.

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Refer to “Results of Operations” and “Liquidity and Capital Resources” for further details on the Company’s results.

Business and Risk Update

The Company continues to make progress on the various elements of its business plan, which is focused on improving the customer experience, margin expansion, and driving consistent execution for both professional and DIY customers. To achieve these improvements, the Company has undertaken planned strategic actions to help build a foundation for long-term success across the organization, which include:

•The completion of the sale of Worldpac with net proceeds of approximately $1.47 billion after transaction costs and excluding the impacts of taxes;

•Completing an assessment of the productivity of all assets, including company-owned stores and Carquest Independents, to achieve merchandising excellence;

•The 2024 Restructuring Plan designed to improve the Company’s profitability and growth potential and streamline its operations;

•Reducing costs to remain competitive while reinvesting in the frontline;

•Making organizational changes to position the Company for success; and

•Consolidating the Company’s supply chain.

On November 13, 2024, the Company’s Board of Directors approved the 2024 Restructuring Plan which is designed to improve the Company’s profitability and growth potential and streamline its operations. This plan is supplemental to other ongoing initiatives to simplify the Company's business and improve profitable growth and entails, among other items, certain store and independent location closures, streamlining product assortment and headcount reductions and organizational design changes to align the Company’s workforce to the expected needs of the Company's business. The Company is also pursuing efficiencies in procurement, pricing and professional and outside services, in addition to operational efficiencies. Refer to Liquidity and Capital Resources and Note 3. Restructuring for further details.

Industry Update

Operating within the automotive aftermarket industry, the Company is influenced by a number of general macroeconomic factors, many of which are similar to those affecting the overall retail industry. In addition to the “Business and Risk Update” section included within this Management’s Discussion and Analysis of Financial Condition and Results of Operations, these factors include, but are not limited to:

•Inflationary pressures, including logistics and labor

•Global supply chain disruptions

•Cost of fuel

•Miles driven

•Unemployment rates

•Interest rates

•Consumer confidence and purchasing power

•Competition

•Changes in new car sales

•Economic and geopolitical uncertainty

•Increased foreign currency exchange volatility

While these factors tend to fluctuate, the Company remains confident in the long-term growth prospects for the automotive parts industry.

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Results of Operations

The following table sets forth certain of the Company’s operating data from continuing operations expressed as a percentage of net sales for the periods indicated.

Note: Table amounts may not foot due to rounding.

(1) Cost of sales includes $431.5 million of inventory-related charges attributable to the location closures and streamlining product assortment resulting from the 2024 Restructuring Plan.

Net Sales

Net sales for 2024 were $9.1 billion, a decline of $114.7 million, or 1.2%, compared with 2023. Net sales was negatively impacted by strategic pricing investments coupled with volume decline, partially offset by favorable product mix. Comparable store sales declined 0.7%. Category growth was led by batteries, filters and engine management.

The Company calculates comparable store sales based on the change in store sales starting once a location has been open for approximately one year and by including e-commerce sales and excluding sales fulfilled by distribution centers to independently owned Carquest locations. Acquired stores are included in the Company’s comparable store sales one year after acquisition. The Company includes sales from relocated stores in comparable store sales from the original date of opening. Closed stores and stores in process of closing under the 2024 Restructuring Plan are not included in the comparable store sales calculation. Comparable store sales is intended only as supplemental information and is not a substitute for Net sales presented in accordance with accounting principles generally accepted in the United States of America (“GAAP”).

Gross Profit

Gross profit in 2024 was $3.41 billion, or 37.5% of net sales, compared with $3.86 billion, or 41.9% of net sales in 2023, a decrease of 444 basis points. Gross profit as a percentage of net sales declined primarily due to $431.5 million of inventory-related charges attributable to the location closures and streamlining product assortment associated with the 2024 Restructuring Plan and liquidation sales at closing stores and distribution center locations.

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Selling, General and Administrative Expenses, Exclusive of Restructuring and Related Expenses

Selling, general and administrative (“SG&A”) expenses, exclusive of restructuring expenses for 2024 was $3.81 billion, or 41.9% of net sales, compared with $3.81 billion, or 41.3% of Net sales for 2023, an increase of 61 basis points. The increase in SG&A expense as a percentage of net sales was primarily driven by higher labor-related costs attributable to wage-investments in frontline team members and occupancy costs partially offset by a decline in marketing expenses.

Restructuring and Related Expenses

Restructuring and related expenses for 2024 was $308.9 million, or 3.4% of net sales. These expenses represent costs primarily attributable to the 2024 Restructuring Plan and included $204.2 million of long-lived asset impairment and accelerated amortization and depreciation charges, $19.7 million of distribution network optimization, $24.7 million of incremental reserves of the collectibility of receivables resulting from contract terminations with independents, $15.2 million severance and other labor related expenses and third party professional fees. Refer to Note 3. Restructuring of the Notes to the Consolidated Financial Statements included for additional detail.

Interest Expense

Interest expense for 2024 was $81.0 million, a decrease of $7.0 million compared with 2023. This decrease was attributable to an increase in interest income due to higher investment balances compared with the prior year. Refer to Note 7. Long-term Debt and Fair Value of Financial Instruments of the Notes to the Consolidated Financial Statements included herein for further details.

Provision for Income Taxes

The Company’s Provision for income taxes for 2024 was a benefit of $181.1 million compared with a benefit of $17.2 million for 2023, an increase of $164.0 million primarily due to a decrease in taxable income. The Company’s effective tax rate was 23.6% for 2024 and 36.4% for 2023. In 2024. The tax rate decreased compared with prior year primarily due to a tax benefit resulting from a discrete charge related to share-based compensation, the expiration of statute of limitations for certain tax years in multiple states as well as enhanced utilization of tax credits in the current year.

Reconciliation of Non-GAAP Financial Measures

“Management’s Discussion and Analysis of Financial Condition and Results of Operations” includes certain financial measures not derived in accordance with GAAP. Non-GAAP financial measures, including Adjusted Net income, Adjusted EPS, Adjusted SG&A Margin, and Adjusted Operating Income, should not be used as a substitute for GAAP financial measures, or considered in isolation, for the purpose of analyzing operating performance, financial position or cash flows.

The Company has presented these non-GAAP financial measures as the Company believes that the presentation of the financial results that exclude (1) transformation expenses under the Company’s turnaround plans, inclusive of the Worldpac divestiture (2) other significant expenses and (3) nonrecurring tax expense are useful and indicative of the Company's base operations because the expenses vary from period to period in terms of size, nature and significance. These measures assist in comparing the Company’s current operating results with past periods and with the operational performance of other companies in the industry. The disclosure of these measures allows investors to evaluate the Company’s performance using the same measures management uses in developing internal budgets and forecasts and in evaluating management’s compensation. Included below is a description of the expenses the Company has determined are not normal, recurring cash operating expenses necessary to operate the Company’s business and the rationale for why providing these measures is useful to investors as a supplement to the GAAP measures.

Transformation Expenses — Expenses incurred in connection with the Company's turnaround plans and specific transformative activities related to asset optimization that the Company does not view to be normal cash operating expenses. These expenses primarily include:

•Restructuring and other related expenses — Expenses relating to strategic initiatives, including severance expense, retention bonuses offered to store-level employees to help facilitate the closing of stores, incremental reserves related to the collectibility of receivables resulting from contract terminations with certain independents associated with the 2024 Restructuring Plan and third-party professionals assisting in the development and execution of the strategic initiatives.

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•Inventory write-down — Expenses relating to the incremental write-down of inventory to net realizable value due to liquidation sales and streamlining inventory assortment due to store and distribution center closures associated with the 2024 Restructuring Plan.

•Impairment and write-down of long-lived assets - Expenses relating to the impairment of operating lease ROU assets and property and equipment, incremental depreciation as a result of accelerating long-lived assets over a shorter useful life, and incremental lease abandonment expenses as a result of accelerating ROU asset amortization for leases the Company expects to exit before the end of the contractual term, net of gains on lease terminations, in connection with the 2024 Restructuring Plan and Other Restructuring Plan.

•Distribution network optimization — Expenses primarily relating to the conversion of the stores and distribution centers to market hubs, including temporary labor, incremental depreciation as a result of accelerating long-lived assets over a shorter useful life, nonrecurring professional service fees and team member severance.

Other Expenses — Expenses incurred by the Company that are not viewed as normal cash operating expenses and vary from period to period in terms of size, nature, and significance. These expenses primarily include:

•Other professional service fees — Expenses relating to nonrecurring services rendered by third-party vendors engaged to perform a strategic business review, including the Company’s transformation initiatives.

•Worldpac post transaction-related expenses — Expenses primarily relating to non-recurring separation activities provided by third-party professionals subsequent to the sale of Worldpac.

•Executive turnover — Expenses associated with the hiring search for leadership positions and compensation.

•Material weakness remediation — Incremental expenses associated with the remediation of the Company’s previously-disclosed material weaknesses in internal control over financial reporting.

•Cybersecurity incident— Expenses related to the response and remediation of a cybersecurity incident.

Nonrecurring Tax Expense — Income tax incurred by the Company from the book to tax basis difference in the Worldpac Canada stock directly resulting from the sale of Worldpac.

The following table includes a reconciliation of this information to the most comparable GAAP measures:

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(1) Restructuring and other related expenses included transactional expenses due to incremental receivable reserves resulting from contract terminations with certain independents as part of the 2024 Restructuring Plan of $24.7 million, severance and other labor related costs of $15.2 million as part of the 2024 Restructuring Plan, and nonrecurring services rendered by third-party vendors assisting with the 2024 Restructuring Plan of $20.8 million.

(2) During the fifty-two weeks ended December 28, 2024, the Company recorded impairment charges for ROU assets and property and equipment of $171.4 million and incremental accelerated depreciation and amortization for property and equipment and ROU assets of $32.7 million.

(3) Distribution network optimization includes incremental depreciation as a result of accelerating long-lived assets over a shorter useful life of $5.0 million.

(4) The income tax impact of non-GAAP adjustments is calculated using the estimated tax rate in effect for the respective non-GAAP adjustments.

(5) Income tax incurred by the Company from the book to tax basis difference in the Worldpac Canada stock directly resulting from the sale of Worldpac.

Liquidity and Capital Resources

Overview

The Company’s primary cash requirements necessary to maintain the Company’s current operations include payroll and benefits, inventory purchases, contractual obligations, capital expenditures, payment of income taxes, funding of initiatives and other operational priorities, including payment of interest on the Company’s long-term debt. Historically, the Company has also used available funds to repay borrowings under the Company’s credit facility, to periodically repurchase shares of the Company’s common stock under the share repurchase program, to pay the Company’s quarterly cash dividend and for acquisitions. The Company also anticipates using cash in connection with its restructuring and asset optimization plan. The Company’s future uses of cash may differ, including with respect to the weight the Company places on the preservation of cash and liquidity, degree of investment in the Company’s business and other capital allocation priorities.

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Typically, the Company has funded its cash requirements primarily through cash generated from operations, supplemented by borrowings under the Company’s credit facilities and note offerings as needed. Funds generated from the Company’s expected results of operations, available cash and cash equivalents and available borrowings under its credit facility will be sufficient to fund its obligations for the next year. The Company also believes such funds, cash and available borrowings, together with our ability to generate cash through credit facilities and notes offerings as needed, will be sufficient to fund our obligations long-term. Cash requirements for obligations next year and beyond are discussed in the “Contractual and Off Balance Sheet Obligations” section below.

On August 22, 2024, the Company entered into a definitive purchase agreement to sell its Worldpac business for $1.5 billion, with customary adjustments for working capital and other items, as well as provision of letters of credit in an aggregate amount of up to $200 million for up to 12 months following the closing of the transaction, which letter of credit exposure will reduce to zero no later than 24 months after the closing, to support supply chain financing for the buyer. The transaction closed on November 1, 2024. Net proceeds from the transaction after paying expenses and excluding the impact of taxes were approximately $1.47 billion. The Company intends to use net proceeds from the transaction for general corporate purposes, which may include the provision of additional working capital, funding internal operational improvement initiatives and repayment or refinancing of outstanding indebtedness. The Company believes funds generated from its expected results of operations, available cash and cash equivalents, net proceeds from the Worldpac sale and available borrowings under credit facilities and note offerings as needed will be sufficient to fund its obligations for the next twelve months and beyond.

On November 13, 2024, the Company’s Board of Directors approved the 2024 Restructuring Plan which is designed to improve the Company’s profitability and growth potential and streamline its operations. This plan anticipates closure of approximately 500 stores, approximately 200 independent locations and four distribution centers by mid-2025, as well as headcount reductions. As a result of the 2024 Restructuring Plan, the Company incurred $680.8 million of restructuring expenses in 2024. The Company estimates that it will incur additional expenses of approximately $225.0 million to $275.0 million including $200.0 million to $250.0 million of cash expenses primarily composed of lease termination and other exit expenses and professional services, by the end of fiscal year 2025.

As further described in Note 18. Supplier Finance Programs, the Company maintains certain supplier finance programs. Bank participation and company utilization of those programs may vary based on a number of factors. If bank participation is insufficient to cover planned utilization, the Company may experience shorter payable terms for inventory than anticipated, which could impact its capital resources and capital allocation decisions.

Share Repurchase Program

In August 2019, the Company’s Board of Directors approved a share repurchase program. Under the program, the Company was able to periodically repurchase shares of common stock at market prices through open market purchases effected through a broker dealer and in privately negotiated transactions. The Board of Directors was able to increase or otherwise modify, renew, suspend or terminate the share repurchase program without prior notice. On February 8, 2022, the Company’s Board of Directors authorized an additional $1.0 billion toward the Company’s share repurchase program, an increase to the $1.7 billion that had previously been authorized under the program. However, on November 13, 2024, the Company entered into Amendment No. 5 to the 2021 Credit Agreement (as defined below), which generally prohibits open market share repurchases.

During 2024 and 2023, the Company did not purchase any shares of its common stock under the share repurchase program. The Company had $947.3 million remaining under the share repurchase program as of December 28, 2024. Refer to “Item 5. Market for Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities” for further details on the Company’s share repurchase program.

Capital Expenditures

The Company’s primary capital requirements have been the funding of the Company’s investments in information technology and supply chain, e-commerce and maintenance of existing stores. The Company leases approximately 83% of the Company’s stores.

The Company’s capital expenditures were $180.8 million in 2024, a decrease of $44.9 million from 2023, related to the decrease of spend in information technology, fewer store openings and fewer marketing-related projects from 2023 to 2024.

The Company’s future capital requirements will depend in large part on the timing or number of the investments the Company makes in information technology and supply chain network initiatives and existing stores and new store development (leased and owned locations) within a given year. In 2025, the Company anticipates that the Company’s capital expenditures related to such investments will be approximately $300 million but may vary with business conditions.

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Analysis of Cash Flows

The following table summarizes the Company’s cash flows from operating, investing and financing activities:

Operating Activities

In 2024, cash flows provided by operating activities decreased $1.3 million to $140.5 million. The net decrease in cash flows provided by operating activities was primarily attributable to lower net income and provision for deferred income taxes offset by an increase in net working capital compared with 2023 prior year. Refer to “Results of Operations” for further details on the Company’s results.

Investing Activities

In 2024, cash flows used in investing activities decreased $51.3 million to $167.4 million compared with 2023. This decrease was attributable to fewer store openings, lower capital spend in information technology and marketing-related development projects.

Financing Activities

In 2024, cash flows used in financing activities increased by $264.3 million to $75.0 million compared with 2023. The net increase in cash used in financing activities was attributable to the issuances of senior unsecured notes in the prior year partially offset by a decrease in dividends paid in the current year compared with 2023.

The Company’s Board of Directors has declared a quarterly cash dividend since 2006. Any payments of dividends in the future will be at the discretion of the Company’s Board of Directors and will depend upon the Company’s results of operations, cash flows, capital requirements and other factors deemed relevant by the Company’s Board of Directors. In addition, Amendment No. 5 to the 2021 Credit Agreement prevents the Company from increasing its cash dividends.

Long-Term Debt

On March 9, 2023, the Company issued the 5.90% senior unsecured notes due 2026 (the “2026 Notes”) at 99.94% of the principal amount of $300.0 million and the 5.95% senior unsecured notes due 2028 (the “2028 Notes”) at 99.92% of the principal amount of $300.0 million. The 2026 Notes and 2028 Notes bear interest at a rate of 5.90% and 5.95%, respectively, and are payable semi-annually in arrears in March and September. Proceeds from the Company’s 2026 and 2028 Notes were utilized to make repayments on the Company’s revolving facility and supplement operational and capital expenditures.

For additional information on transactions entered into relating to long-term debt during the fifty-two weeks ended December 28, 2024, refer to Note 7. Long-term Debt and Fair Value of Financial Instruments of the Notes to the Consolidated Financial Statements included herein.

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As of February 26, 2025, the Company had a credit rating from S&P of BB+ and from Moody’s Investor Service of Ba1. The current outlooks by S&P and Moody’s were negative and stable, respectively. The current pricing grid used to determine the Company’s borrowing rate under the Company’s revolving credit facility is based on the Company’s credit ratings. If the Company’s credit ratings decline, it would negatively impact the Company’s interest rate, and the Company’s access to additional financing on favorable terms may be limited. In addition, the Company’s current revolving credit facility would require securitization in the event of further decline in the Company’s credit rating from S&P. As previously disclosed, a decline in credit ratings or perceived creditworthiness, among other factors, may impact participation in supplier finance programs, which in turn could shorten payable terms, result in an increase in working capital requirements or otherwise negatively impact capital resources.

With respect to all senior unsecured notes for which Advance Auto Parts, Inc. (“Issuer”) is an issuer or provides a full and unconditional guarantee, Advance Stores, a wholly-owned subsidiary of the Issuer, serves as the guarantor (“Guarantor Subsidiary”). The subsidiary guarantees related to the Company’s senior unsecured notes are full and unconditional and joint and several, and there are no restrictions on the ability of the Issuer to obtain funds from its Guarantor Subsidiary. The Company’s captive insurance subsidiary, an insignificant wholly-owned subsidiary of the Issuer, does not serve as guarantor of the Company’s senior unsecured notes.

Contractual and Off Balance Sheet Obligations

The Company entered into operating leases for certain store locations, distribution centers, office spaces, equipment and vehicles. The Company’s property leases generally contain renewal and escalation clauses and other concessions. These provisions are considered in the Company’s calculation of the Company’s minimum lease payments that are recognized as expense on a straight-line basis over the applicable lease term. Any lease payments that are based upon an existing index or rate are included in the Company’s minimum lease payment calculations. As of December 28, 2024, the Company’s operating lease obligations were $2.4 billion. As of December 28, 2024, the Company’s long-term debt, consisting of senior unsecured notes with varying maturities through 2032, was $1.8 billion. Future interest payable related to long-term debt was $380.0 million as of December 28, 2024. As part of the Company’s normal operations, the Company enters into purchase commitments primarily for the purchase of goods or services that are enforceable, legally binding and specify all significant terms, including fixed or minimum quantities to be purchased; fixed, minimum or variable price provisions; and the approximate timing of the transaction. As of December 28, 2024, the Company’s purchase commitments were $147.5 million.

On February 27, 2023, the Company entered into Amendment No. 1 (“Amendment No. 1”) to the Credit Agreement, dated November 9, 2021, with Advance Auto Parts, Inc., as Borrower, Advance Stores Company, Incorporated, as a Guarantor, the lenders party thereto, and Bank of America, N.A., as administrative agent (“2021 Credit Agreement”). Amendment No. 1 extended the maturity date of the 2021 Credit Agreement by one year from November 9, 2026, to November 9, 2027. Amendment No. 1 also replaced an adjusted LIBOR benchmark rate with a Term Secured Overnight Financing Rate benchmark rate, as adjusted by an increase of ten basis points, plus the applicable margin under the 2021 Credit Agreement. Amendment No. 1 made no other material changes to the terms of the 2021 Credit Agreement. On August 21, 2023, the Company entered into Amendment No. 2 (“Amendment No. 2”) to the 2021 Credit Agreement in order to amend certain financial covenants related to the Consolidated Coverage Ratio (as defined therein), and on November 20, 2023, the Company entered into Amendment No. 3 (“Amendment No. 3”) to the 2021 Credit Agreement in order to further amend financial covenants related to the Consolidated Coverage Ratio. Pursuant to Amendment No. 2 and Amendment No. 3, the Company may not permit the Consolidated Coverage Ratio to be less than (a) 1.75 to 1.00 for each period of four fiscal quarters ending on October 7, 2023 through and including the period of four fiscal quarters ending on October 5, 2024, (b) 2.00 to 1.00 for each period of four fiscal quarters ending on December 28, 2024 through and including the period of four fiscal quarters ending on October 4, 2025 and (c) 2.25 to 1.00 for each period of four fiscal quarters ending after October 4, 2025. Amendment No. 2. and Amendment No. 3 made no other material changes to the terms of the 2021 Credit Agreement.

On February 26, 2024, the Company entered into Amendment No. 4 (“Amendment No. 4”) to the 2021 Credit Agreement to enable certain addbacks to the definition of Consolidated EBITDA contained therein for specific write-downs of inventory and vendor receivables. Amendment No. 4 also updated certain limitations on future incurrences of other indebtedness and liens, replacing the cap thereon of 10% of consolidated net tangible assets with $400 million, and eliminated the $250 million basket for accounts receivable securitization transactions. Amendment No. 4 made no other material changes to the terms of the 2021 Credit Agreement. In addition to the Company’s Consolidated Coverage Ratio requirement, the Company was required to maintain a maximum leverage ratio of 3.75 to 1.00. On November 13, 2024, the Company entered into Amendment No. 5 to the 2021 Credit Agreement. Amendment No. 5 (i) permits up to $575 million of certain restructuring charges to be added back to Consolidated EBITDAR (as defined therein), (ii) permits up to $800 million of unrestricted cash to be netted out of debt in the calculation of the Leverage Ratio (as defined therein), and (iii) reduced the minimum Consolidated Coverage Ratio (as defined therein) to 1.50 to 1.00 through July 12, 2025 and 1.75 to 1.00 thereafter. Amendment No. 5 also reduced the unsecured revolving credit facility under the 2021 Credit Agreement from $1.2 billion to $1.0 billion and amended the pricing on the loans thereunder in connection with changes in the Company’s credit ratings.

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Amendment No. 5 also updated certain covenants and other limitations on the Company, including (i) expanding the scope of the covenant restricting the ability to create, incur or assume additional debt to cover Advance Auto Parts, Inc., (ii) restricting the Company’s rights to complete share repurchases and increase cash dividend amounts, (iii) requiring the Company to grant liens on deposit accounts, inventory and accounts receivables if credit ratings are downgraded below a minimum threshold, (iv) imposing an additional monthly minimum daily liquidity financial covenant of $750 million, (v) providing for the maturity date under the 2021 Credit Agreement to automatically spring forward to the extent necessary for the 2021 Credit Agreement to mature at least 91 days prior to any scheduled maturity date under any of the Company’s senior unsecured notes, (vi) prohibiting further extensions of the maturity date under the 2021 Credit Agreement beyond the existing maturity date, and (vii) eliminating certain baskets for additional indebtedness, liens, and asset sales.

On February 25, 2025, the Company entered into Amendment No. 6 (“Amendment No. 6”) to the 2021 Credit Agreement to, among other things, (i) expand the scope of domestic subsidiaries that would be required to grant security interests and guarantee the Company’s obligations under the 2021 Credit Agreement upon the occurrence of a Springing Lien Trigger Event (as defined therein) to include all of the Company’s subsidiaries other than the Company’s Insignificant Subsidiaries (as defined in Amendment No. 6), (ii) revise the definition of Consolidated Coverage Ratio to exclude up to $175 million of accelerated rent charges related to lease buyouts and to permit the minimum Consolidated Coverage Ratio to remain at 1.50 to 1.00 for one additional quarter before increasing to 1.75 to 1.00 on and after the fiscal quarter ending on January 3, 2026, (iii) revise the definition of Consolidated EBITDA to increase the threshold for Identified Restructuring Charges (as defined therein) from $575 million to $625 million, and (iv) expand the scope of the guaranteed obligations to include bank product obligations and cash management obligations.

The Company’s compliance with these covenants will depend upon achieving the Company’s financial targets including improvements in operating income. As of December 28, 2024, giving consideration to the amendments to the Company’s 2021 Credit Agreement through that date, the Company was in compliance with the financial covenants required thereby. The Company currently expects to be in compliance with these financial covenants for the next 12 months. However, risk of noncompliance increases if the Company’s financial performance worsens or the Company is required to increase borrowings to fund operations. If the Company is not in compliance with the financial covenants required by the 2021 Credit Agreement, and cannot timely secure an amendment or waiver thereof, the Company would be in default of the 2021 Credit Agreement and the Company’s outstanding senior unsecured notes, which would have a material adverse impact on the Company’s financial condition.

Critical Accounting Policies

The Company’s financial statements have been prepared in accordance with GAAP. The Company’s discussion and analysis of the financial condition and results of operations are based on these financial statements. The preparation of these financial statements requires the application of accounting policies in addition to certain estimates and judgments by the Company’s management. The Company’s estimates and judgments are based on currently available information, historical results and other assumptions the Company believes are reasonable. Actual results could differ materially from these estimates.

The preparation of the Company’s financial statements included the following significant estimates and exercise of judgment.

Vendor Incentives

The Company receives incentives in the form of reductions to amounts owed and/or payments from vendors related to volume rebates and other promotional considerations. Many of these incentives are under agreements with terms in excess of one year, while others are negotiated on an annual basis or less. Advertising allowances received as a reimbursement of specific, incremental and identifiable costs incurred to promote a vendor’s products are included as an offset to SG&A when the cost is incurred. Volume rebates and vendor promotional allowances that do not meet the requirements for offsetting in SG&A and that are earned based on inventory purchases are initially recorded as a reduction to inventory. These deferred amounts are recorded as a reduction to Cost of sales as the inventory is sold.

Vendor promotional allowances provided as a reimbursement of specific, incremental and identifiable costs incurred to promote a vendor’s products are included as an offset to SG&A when the cost is incurred if the fair value of that benefit can be reasonably estimated. Certain of the Company’s vendor agreements contain purchase volume incentives that provide for increased funding when graduated purchase volumes are met. Amounts accrued throughout the year could be impacted if actual purchase volumes differ from projected annual purchase volumes. Periodic assessments of the accruals are performed to determine the appropriateness of the estimate and are adjusted accordingly.

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Amounts received or receivable from vendors that are not yet earned are reflected initially as a reduction to inventory, which subsequently is recorded to Cost of sales. The Company’s estimate of the portion of deferred revenue that will be realized within one year of the balance sheet date is included in Other current liabilities. Earned amounts that are receivable from vendors are included in Receivables, net, except for that portion expected to be received after one year, which is included in Other assets, net. The Company regularly reviews the receivables from vendors to ensure they are able to meet their obligations. Historically, the change in the Company’s reserve for receivables related to vendor funding has not been significant.

Self-Insurance Reserves

The Company’s self-insurance reserves consist of the estimated exposure for claims filed, claims incurred but not yet reported and projected future claims, and are established using actuarial methods followed in the insurance industry and the Company’s historical claims experience. Specific factors include, but are not limited to, assumptions about health care costs, the severity of accidents, the incidence of illness and the average size of claims. Generally, claims for automobile and general liability and workers’ compensation take several years to settle. The Company classifies the portion of the Company’s self-insurance reserves that is not expected to be settled within one year in Other long-term liabilities.

While the Company does not expect the amounts ultimately paid to differ significantly from the Company’s estimates, the Company’s self-insurance reserves and corresponding Cost of sales and SG&A could be affected if future claim experience differs significantly from historical trends and actuarial assumptions. A 10% change in the Company’s self-insurance liabilities at December 28, 2024 would result in a change in expense of approximately $14.1 million for 2024.

Excess and Obsolete Inventory Reserves

The Company’s excess and obsolete inventory reserve assessment includes analyzing the Company’s inventory at the SKU level by assessing each SKU quantity based on years on hand, the stage within the product lifecycle the SKU is assigned and sales history. From this data analysis, the Company’s excess and obsolete inventory is identified, analyzed and compared against the Company’s reserve. Additionally, from time to time, specific SKUs may be identified as excess and/or obsolete for which a reserve will be recognized.

The Company classifies each product into a product lifecycle category: introduction, expansion, saturation, reduction and disposition. This assessment is routinely performed and includes, but is not limited to, the analysis of anticipated, historical and actual demand; and changes in customer preferences. SKU-level classifications are updated as warranted.

Restructuring and Related Expenses

The Company records restructuring and transformation activities when management commits to and approves a restructuring plan. The components of a restructuring plan require significant management judgments and estimates that would materially impact reported performance if different assumptions were used and have a significant uncertainty in measurements. Impairment of inventory is recognized when the cost of inventory exceeds its net realizable value. There are significant assumptions required by management to estimate the net realizable value associated with inventory located at the stores and distribution centers to be closed, including the anticipated sell through rate and estimated sales proceeds less costs to sell. Asset impairment charges associated with operating lease right-of-use (“ROU”) assets are recognized when the ROU carrying value exceeds its fair value. There are significant assumptions required by management to estimate the fair value of ROU assets, including the market rental rates and discount rates utilized in the discounted cash flow model. Severance and retention costs associated with workforce reductions are recognized at the time of communication to employees, unless future service is required, in which case the costs are recognized ratably over the future service period. Employee termination benefits are recognized as a liability when it is probable that a liability exists, and the amount is reasonably estimable. Other exit-related costs, including nonrecurring professional fees, are recognized as incurred. Restructuring expenses are recognized as an operating expense in cost of sales or selling, general and administrative expenses within the consolidated statements of operations and related liabilities are recorded within accounts payable and accrued expenses on the consolidated balance sheets. The Company periodically evaluates and, if necessary, adjusts its estimates based on currently available information.

New Accounting Pronouncements

For a description of recently adopted and issued accounting standards, including the expected dates of adoption and estimated effects, if any, on the consolidated financial statements, see “Recently Issued Accounting Pronouncements” in Note 2. Significant Accounting Policies, of the Notes to the Consolidated Financial Statements included herein.

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