Positives Dampen Some Headwinds at Fastenal
Despite a few bright spots in the latest earnings release, shares of this wide-moat industrial distributor are fully valued.
We reiterate Fastenal's (FAST) $41 fair value estimate and wide-moat rating. The third-quarter report reflected many of the headwinds present throughout 2016, including weak demand from manufacturing and nonresidential construction customers, offset by positive sales trends finally emerging in Canada, as well as new account gains in vending and customer onsite stores. Despite a few bright spots in the latest earnings release, shares are fully valued and we believe other companies in industrial distribution, such as Wesco International, offer a more attractive margin of safety at current levels.
Fastenal’s third-quarter sales grew 2% year over year to $1.01 billion. Despite 3% and 2%, respective sales declines among manufacturing and nonresidential construction customers that make up 70%-75% of Fastenal’s customer base, new vending installations, and success with a plan to add 200 new customer onsite stores generated net sales growth. Gross margin contracted 100 basis points to 49.5%, reflecting large customer account additions as well as lower sales of high-margin fasteners to cyclically depressed manufacturing customers. Operating margin contracted 210 basis points to 20.0%, reflecting gross margin compression and upfront costs related to personnel to support new vending relationships and distribution infrastructure investment.
Year-to-date, free cash flow declined 22% to $220 million. Although cash flow from operations was only down 5%, similar to the decline in net income, capital expenditures are running 36% higher. This reflects a new large vending relationship, as well as growth in the company's store base by 2% in 2016, relative to net declines in the store base in 2014 and 2015. During the quarter, cash flow largely went toward dividend payouts. The company appears to currently have share repurchases on hold while it reviews its capital allocation priority set, concurrent with the arrival of a new CFO only several weeks ago.
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Kwame Webb does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.
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