Fastenal Company FAST reported adjusted earnings of 47 cents per share in the third quarter of 2015 and beat the Zacks Consensus Estimate of 46 cents by 2.2%. Earnings grew 4.4% year over year as a weak sales performance was offset by better pre-tax margins.
Sales Remain Weak
Net sales of $995.3 million increased 1.5% year over year, but missed the Zacks Consensus Estimate of $1.005 billion by almost 1%.
However, sales slowed down significantly in the first three quarters of 2015. This Zacks Rank #3 (Hold) company’s top line was hurt due to lower sales to its customers in the oil & gas industry, a stronger U.S dollar and overall weakness in the industrial economy. Quarterly performance was also hurt by softness in net sales at the Canadian business, which increased about 6% in local currency during the quarter, compared to a 10% increase in the previous quarter.
Fastenal’s total average daily sales growth rate was 1.5% in the third quarter, much lower than 14.3% in the prior-year quarter. Foreign exchange dragged third-quarter daily sales growth rate by 1.4%. A strong dollar significantly hurt the company’s export-related activities. Daily sales were hurt by minimal price increase of non-fastener products and price deflation of fastener products.
Daily sales declined 0.3% in September, while it grew 1.6% in August and 3.2% in July. In comparison, the company recorded daily sales growth of 12.9%, 15% and 14.7%, respectively, in the corresponding year-ago months.
This industrial and construction supplies wholesale distributor serves customers in manufacturing and non-residential construction markets. Both these end-markets witnessed moderating growth due to a weak industrial environment.
Daily sales to manufacturing customers (representing almost 50% of revenues) grew 1.1%, down from 13.7% growth in the prior-year quarter and 3.8% in the previous quarter. Daily sales growth rates to manufacturing customers softened due to subdued sales of both fasteners and non-fasteners.
Daily sales growth rate of fastener products (used mainly for industrial production and accounting for nearly 40% of the company’s business) declined 4.4% in the quarter, much weaker than the flat results recorded in the previous quarter and a 9.9% increase in the year-ago quarter.
Lower demand from the heavy machinery manufacturing customer base – mainly from those engaged in oil and gas business – hurt fastener sales as production requirements from this group declined. The heavy manufacturing business represents approximately one-fifth of the company’s business.
Non-fastener product sales (used mainly for maintenance) increased 5.9%, down from 17.6% growth in the prior-year quarter and 9% in the last quarter. The non-fastener business also weakened over the last few months as improved vending trends were offset by overall weakness in the industrial environment.
In the non-residential construction market, daily sales to non-residential construction customers (representing 20% to 25% of revenues) declined 1.7%, down from a 9.3% increase in the prior-year quarter and 1.6% in the previous quarter. Slowdown in the energy sector also hurt sales in this market.
Vending Trends Continue to Improve
As of Sep 30, 2015, Fastenal operated 53,547 vending machines, up 17.4% year over year. During the quarter, the company signed 4,689 machine contracts, down almost 9% from the last quarter. Daily sales growth rate to customers using vending machines was 4.8%, down from 8.6% in the previous quarter. Vending machines now account for 42.1% of the company’s sales, higher than 40.9% in the prior quarter.
After remaining soft in 2013, vending trends improved through 2014 and the first three quarters of 2015, as management’s recent efforts on enhancing the quality of signings/installs paid off. Even though daily sales growth to customers using vending declined sequentially, percentage of vending customers and signings improved.
Gross Margins Down, Pre-Tax Margins Improve
Gross margin of 50.5% in the third quarter of 2015 declined 30 basis points (bps) year over year but increased 20 bps sequentially.
Strong emphasis on growing average store sales is also pulling down gross margins. Under its Pathway-to-Profit initiative, Fastenal focuses on increasing the average store size (measured in terms of monthly sales). As the average store size increases, gross margins will decline due to a higher mix of larger customers which generate lower margins. However, lower supplier incentives due to softer net sales and tighter inventory levels drove the sequential improvement.
However, a larger store size leads to better earnings leverage by spreading operating costs by higher sales, thereby improving pre-tax margins. This resulted in an improvement of 30 bps in pre-tax margins to 22% in the reported quarter.
Stocks to Consider
Some better-ranked stocks in the construction sector include Builders FirstSource, Inc. BLDR, The Home Depot, Inc. HD and Tempur Sealy International Inc. TPX. All these stocks carry a Zacks Rank #2 (Buy).
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