Fastenal Company (FAST), engages in the wholesale distribution of industrial and construction supplies in the United States, Canada, and internationally. It offers fasteners, and other industrial and construction supplies under the Fastenal name. The analysis of Fastenal was posted to readers of my Dividend Growth Investor Newsletter on September 30, 2019 when the stock was at $32.67/share.
Fastenal is a dividend achiever with a 21-year track record of annual dividend increases. The last dividend increase occurred in July 2019, when management raised its quarterly dividend by 2.30% to 22 cents/share. This was the second dividend increase over the past year however. There was a 7.50% dividend increase in January 2019. Overall, the new dividend is 10% higher than the distribution paid during the same time last year. I would continue monitoring the dividend increase developments for any continuation or deceleration in the dividend growth rate.
During the past decade, Fastenal has managed to boost dividends at an annualized rate of 19.50%. I would expect this rapid growth to slow down to possibly below 10% (more like a 7% - 10% range) over the next decade. Rising earnings per share will provide the fuel behind future dividend increases, given the payout ratio today (please see below)
Fastenal has managed to grow earnings per share over the past decade, which provided the fuel behind dividend increases. Fastenal earned $1.31/share in 2018, which was a good increase from the 47 cents/share it earned in 2008. It is notable to see that earnings per share did decrease in 2009 to 31 cents/share, before rebounding in 2010 to 45 cents/share. The company is expected to generate $1.37/share in 2019.
The company can grow by opening new branches to distribute products, increase sales at existing locations. The principal competitive advantages for Fastenal are its customer service, price, product availability, and convenience.
Growth can be achieved by further expansion abroad, while location growth in the US will be more limited. International accounts for 14% of sales, with the majority of international sales from Canada and Mexico. Having an installed base of vending machines and on-site locations at customer places of business is a great way to get foot in the door and generate recurring revenues ( albeit subject to the cyclical nature of industries it serves). Being part of the customer process embeds Fastenal there, which is a competitive advantage., which can drive incremental revenues. Other growth area includes inventory management services. That could mean more business for Fastenal, which could further its scale and help it offer even more products in its catalogs. The company’s scale is a competitive advantage, both in sourcing and distribution.
Taking share from smaller distributors is another way to capture a bigger market share, and grow revenues. As its customers consolidate, they would require a distributor with a better reach in the US, in order to consistently serve the account. Fastenal offers fast delivery to 90% of products, which is great for its customers, who know they will be taken care of quickly.
Fastenal’s customer base exposes it to the cyclical nature of this client base. Tariffs could be bad for the customers and for Fastenal, as it sources its products from abroad, including China. Tariffs and trade tensions could squeeze margins, as it would increase costs and put pressure on revenues too. Fastenal can pass some cost increases to customers of course, but in a competitive environment, this could be difficult.
The dividend payout ratio increased from 28% in 2008 to 59% in 2018. The doubling of the payout ratio is one reason why dividend growth exceeded the high earnings growth over the past decade. I do not think that there is a lot of room left for further expansion of the payout ratio. A lower payout ratio is a plus, since it provides a margin of safety against temporary declines in earnings.
Fastenal also started repurchasing shares around 2014, reducing the number of shares by almost 4% to 574 million shares. It would be interesting to see if they do more share buybacks in the future as a way to manage earnings per share. It is great to see a company that doesn’t engage in financial engineering in order to reduce shares outstanding at any cost and increase earnings per share at any cost. I like that Fastenal has been able to grow the earnings per share the old fashioned way – by actually growing the business.
Right now the stock is selling at 26.90 times forward earnings and offers a defensible yield of 2.35%.
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