Here's Something to Cheer in the Early Earnings Innings
(Bloomberg Opinion) -- Fastenal Co.’s first-quarter earnings report was notable for what it wasn’t: it wasn’t alarming. None of its key numbers fell notably short of estimates and signs of gloom and doom were conspicuously absent.
The company, a distributor of factory-floor basics, earned 68 cents per share in the first three months of the year, a penny higher than analysts had estimated. Net revenue of $1.31 billion for the quarter matched analysts’ consensus. Most importantly, in a sector that’s seen profits squeezed from higher costs, increased spending and incursions from Amazon.com Inc, Fastenal’s gross margin showed signs of stabilizing. Compared to the fourth quarter, it held flat at about 47.7 percent. If this trend holds, it would be a welcome change. Fastenal shares surged more than 5 percent on the news.
Recall that a gross-margin miss in Fastenal’s third quarter amid higher freight, labor and interest expenses caused a panic that drove the company’s stock down more than 7 percent on earnings day and then ricocheted across the industrial sector. Because Fastenal distributes hardware, equipment and supplies to the biggest U.S. manufacturers and it usually reports early on in the earnings season, it’s traditionally been thought of as a bellwether for what’s to come. The theory held last year as 3M Co. and Caterpillar Inc. offered up signs of peaking margins and sales growth in the weeks after Fastenal’s disappointment. But lately, there are reasons to think Fastenal is charting its own path and becoming less dependent on the macroeconomic backdrop for growth.
Fastenal’s strong showing contrasts with fellow distributor MSC Industrial Direct Co., which reported its fiscal second-quarter earnings on Wednesday and noted a “moderation” of the U.S. industrial economy in February that continued into March. Average daily sales at MSC increased 6.1 percent year over year excluding the impact of acquisitions, a healthy gain but weaker that what management had forecast. MSC Chief Executive Officer Erik Gershwind attributed the shortfall to weather events, de-stocking, softening demand in the automotive and energy sectors and the government shutdown. That’s in line with the recent hit-or-miss economic data and commentary from other industrial companies. MSSC expectys just 4 percent organic daily sales growth in its fiscal third quarter. Meanwhile, MSC’s gross margin for the period was weaker than analysts expected despite a price increase during the period that should have given its profitability a boost.
Fastenal also lost some momentum in its revenue gains: Daily sales grew 12.2 percent in the quarter, compared with 13.2 percent in the same period in 2018. But it's poised to hold on to a much stronger pace overall. That's a testament to its efforts to roll out new initiatives, which include its network of vending machines that can dispense industrial parts and its on-site inventory-management services. It signed 5,603 industrial vending machines in the first quarter, giving it a total installed base of more than 80,000, up 13 percent relative to the year-earlier period. Sales generated through inventory-management teams embedded onsite at customers' facilities were up more than 20 percent in the first three months of the year. It’s targeting 375 to 400 signups for that service this year. I’ve written before about how these investments should help insulate Fastenal’s market share from Amazon, which likely has little interest in the expenses entailed in setting up and maintaining this kind of infrastructure. But it undoubtedly comes at a cost to profitability.
The worry is that because Fastenal has traditionally depended on revenue gains to drive its earnings, it’s not clear what would protect the company’s profit growth should those gains evaporate in a downturn. But Thursday’s results suggest these new initiatives may be a shield in and of themselves from a broader economic downturn, making Fastenal more of an anecdote than a bellwether in the broader scheme of things.
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Brooke Sutherland is a Bloomberg Opinion columnist covering deals and industrial companies. She previously wrote an M&A column for Bloomberg News.
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