Fastenal Company — Q1 2017 Form 10-Q Summary
Business Context and Reporting Period
Fastenal distributes industrial and construction supplies primarily through approximately 2,500 company-owned stores, industrial vending machines, and Onsite customer locations. The unaudited report covers the three months ended March 31, 2017, compared with the same period in 2016.
Key Financial Metrics
| Metric | Q1 2017 | Q1 2016 | Change |
|---|---|---|---|
| Net sales | $1,047.7 million | $986.7 million | +6.2% |
| Gross profit | $518.0 million | $491.5 million | +5.4% |
| Gross margin | 49.4% | 49.8% | -40 basis points |
| Operating income | $212.5 million | $201.2 million | +5.6% |
| Operating margin | 20.3% | 20.4% | -10 basis points |
| Net earnings | $134.2 million | $126.2 million | +6.3% |
| Diluted EPS | $0.46 | $0.44 | +4.5% |
| Cash flow from operations | $210.4 million | $166.5 million | +26.4% |
Cash and cash equivalents were $134.3 million at March 31, 2017, compared with $112.7 million at December 31, 2016. Total debt was $365.0 million, including $220.0 million outstanding under the $700.0 million unsecured revolving credit facility. The company reported compliance with its debt covenants. Current assets were $1,810.7 million versus current liabilities of $369.6 million.
Net cash used in investing activities was $75.1 million, including $57.9 million paid for the Mansco acquisition and $21.2 million of property and equipment purchases. Net cash used in financing activities was $114.7 million, primarily reflecting $92.6 million of dividends and $265.0 million of debt repayments, partly offset by $240.0 million of debt proceeds. Capital expenditures net of disposals were $19.1 million.
Material Changes Versus the Prior Comparable Period
- Sales growth was driven by higher unit volumes, improved industrial activity, increased sales at existing stores, and growth initiatives. Fastener sales returned to growth, while non-fastener daily sales increased 9.4%.
- Industrial vending machines increased to 64,430 from 56,889, and active Onsite locations increased to 437 from 289. The company signed 5,437 vending machines, 64 Onsite locations, and 43 national account contracts during the quarter.
- Gross margin declined primarily because of product and customer mix, higher freight expense, and costs associated with the final stage of a new inventory tracking system.
- Operating and administrative expenses grew more slowly than sales, improving the expense ratio to 29.2% from 29.4%. Higher fuel costs and consumption increased selling transportation expense.
- The company acquired certain assets and assumed certain liabilities of Manufacturers Supply Company for $57.9 million in cash, plus contingent consideration with a preliminary fair value of $1.3 million and a maximum undiscounted amount of $2.5 million.
- The Mansco acquisition was funded substantially with $60.0 million of 3.22% senior unsecured notes due March 1, 2024.
- The company adopted ASU 2016-09 on share-based compensation, including a $0.5 million discrete tax benefit in Q1 2017 and a $5.1 million retrospective cash-flow reclassification for Q1 2016.
- Unlike Q1 2016, the company made no share repurchases in Q1 2017. It retained authorization to purchase up to 1.3 million shares.
Outlook, Commentary, Risks, and Unusual Items
Management stated that improving business conditions supported sales growth, citing a first-quarter Purchasing Managers Index average of 57.0 versus 49.8 in the prior-year quarter. The company continues to pursue growth through industrial vending, Onsite operations, national accounts, product availability initiatives, and selective store openings and closures. It opened five stores and closed 26 stores during the quarter.
No specific earnings or sales guidance was provided in the filing. Management expects to continue quarterly dividends subject to the board’s future determination and the company’s financial needs. The board declared a $0.32-per-share dividend payable May 24, 2017.
- Key risks include economic weakness in manufacturing and non-residential construction, competitive pricing pressure, changes in product and customer mix, fuel and steel price inflation, foreign currency movements, interest-rate increases, and difficulty controlling expenses.
- Additional risks relate to adoption and execution of vending and Onsite strategies, installation quality, store openings and closures, staffing, inventory management, technology and cybersecurity, customer credit, and product liability.
- A 1% increase in LIBOR during the first quarter would have increased interest expense by approximately $0.6 million, based on the company’s disclosure.
- Operating lease residual-value guarantees totaled approximately $75.9 million, although management considered the likelihood of funding the guarantees remote except for immaterial accrued losses.
- The filing reported no litigation matters considered probable or reasonably possible to have a material adverse outcome, and no material change in previously disclosed risk factors.
- The company expects ASU 2014-09 revenue recognition adoption in January 2018 and did not expect a material impact based on its assessment at filing. It expects the lease standard, effective in 2019, to materially increase reported assets and liabilities.
Important Facts for Investors to Verify
- Whether sales momentum in fasteners, national accounts, vending, and Onsite locations continues without further gross-margin erosion.
- The final purchase-price allocation and operating contribution of the Mansco acquisition, including any contingent consideration.
- Debt repayment requirements, floating-rate exposure, covenant compliance, and liquidity under the revolving credit facility.
- The effect of higher freight, fuel, steel, labor, and technology-tracking costs on future margins.
- The sustainability of operating cash flow after acquisitions, inventory investment, capital expenditures, debt service, and dividends.
- The eventual accounting and disclosure effects of the revenue recognition and lease standards.