Fastenal Company: Q1 2011 Form 10-Q Summary
Business context and reporting period
Fastenal distributes industrial and construction supplies through more than 2,500 company-owned stores, serving primarily manufacturing and non-residential construction customers in North America. The filing covers the unaudited three months ended March 31, 2011, compared with the three months ended March 31, 2010. Dollar amounts are in thousands except per-share data.
Key financial metrics
| Metric | Q1 2011 | Q1 2010 | Change |
|---|---|---|---|
| Net sales | $640,583 | $520,772 | 23.0% |
| Gross profit | $333,380 | $265,913 | 25.4% |
| Gross margin | 52.0% | 51.1% | +0.9 percentage points |
| Operating income | $128,663 | $90,436 | 42.3% |
| Operating margin | 20.1% | 17.4% | +2.7 percentage points |
| Net earnings | $79,547 | $56,034 | 41.9% |
| Net margin | 12.4% | 10.8% | +1.6 percentage points |
| Diluted EPS | $0.54 | $0.38 | 42.1% |
| Operating cash flow | $74,284 | $79,028 | (6.0%) |
| Capital expenditures | $21,206 | $8,138 | 161.6% |
| Dividends paid | $73,715 | $58,972 | 25.0% |
Cash and cash equivalents were $124,848 at March 31, 2011, compared with $143,693 at December 31, 2010. Including marketable securities, liquid investments totaled approximately $155.6 million. The company reported no borrowings under its $8 million line of credit; the filing does not identify material funded debt.
Material changes versus the prior comparable period
- Sales growth was driven primarily by higher unit volumes, improving older-store performance, new stores, and a stronger Canadian dollar, which added approximately 0.7 percentage points to growth.
- Daily sales increased 18.0% for stores open more than two years, while manufacturing and non-residential construction customer sales increased 15.5% and 17.7%, respectively.
- Gross margin improved as transactional, organizational, and vendor-incentive gross profit recovered from prior deflationary pressures. Strong industrial-production growth partially reduced the margin because that business carries a lower gross margin.
- Operating and administrative expenses increased in dollars but declined to 32.0% of sales from 33.7%. Payroll rose 29.2%, while health-care costs declined 5.6% from an unusually high prior-year level.
- Accounts receivable increased 24.1% year over year to $325,685, and inventories increased 13.6% to $576,451, reflecting sales growth, large-account and international business, new-store expansion, and emerging inflation.
- Operating cash flow declined despite higher earnings because receivables and inventories consumed cash. Net cash decreased $18,845 during the quarter.
- The company opened 37 stores in Q1 2011 and had 2,522 stores at quarter-end, compared with 2,392 one year earlier. Average store full-time-equivalent headcount increased 11.9% year over year.
Guidance, outlook, commentary, risks, and unusual items
- Management intended to open 150 to 200 stores during 2011, representing an annualized growth rate of approximately 6.0% to 8.0%.
- Management stated that its revised “pathway to profit” objective is to reach approximately 23% pretax earnings as a percentage of sales with average store sales of approximately $100,000 to $110,000 per month by 2013. This is a management objective, not formal earnings guidance.
- Management described sales trends as strong but cautioned that sustainability depends on economic conditions, manufacturing activity, and commercial construction demand.
- Steel and energy inflation was emerging in the supply chain. Q1 average diesel and gasoline prices increased 24.6% and 20.1%, respectively, from Q1 2010, creating potential cost and margin pressure.
- Other principal risks include recruiting and retaining sales personnel, execution of the store and sales strategy, working-capital requirements, fuel and steel prices, foreign-currency movements, and the ability to generate sufficient free cash flow to fund expansion.
- A California fastener supplier filed an Arkansas federal lawsuit alleging breach of an exclusive distribution arrangement and reportedly alleged $180 million of damages. Management believes material liability is remote, although the case remained unresolved and its progress was uncertain.
- Unrecognized tax benefits were $3,800 at March 31, 2011; management did not expect a significant change during the following 12 months.
- Subsequent events included a $0.26 per-share dividend, an announced two-for-one stock split effective May 20, 2011, and options covering approximately 200,000 shares at a $70 exercise price.
Most important facts for investors to verify
- Whether 23.0% sales growth and improved operating leverage continue as comparisons become more demanding.
- Whether higher steel, fuel, freight, and labor costs can be passed through without reversing gross-margin gains.
- Whether receivable and inventory growth remains aligned with sales and does not materially weaken cash conversion.
- Progress toward the 150-to-200-store 2011 opening plan and the stated store-sales and pretax-margin objectives.
- Future dividend frequency and payout decisions, which remain subject to board approval and the company’s financial needs.
- The status and potential exposure of the supplier litigation, despite management’s assessment that material liability is remote.
- The effect of the May 2011 two-for-one stock split when comparing subsequent share counts and per-share results.