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Will Margin Woes Hurt Fastenal's (FAST) Earnings in Q3?

Zacks Equity Research

Fastenal Company FAST is scheduled to report third-quarter 2019 results on Oct 11, before the opening bell.

In the last reported quarter, the company’s earnings missed the Zacks Consensus Estimate by 2.7%. That said, it surpassed the consensus mark in three of the trailing four quarters, while met the same once, with average positive earnings surprise of 0.45%.

Markedly, second-quarter 2019 earnings declined 2.7% but revenues increased 7.9% year over year. Notably, sales growth slowed to 7.9% year over year, marking the first sub-10% reading in nine quarters. The increase was driven by higher unit sales, primarily related to growth drivers, with notable contributions from industrial vending, Onsite locations and construction. Higher underlying market demand than second-quarter 2018 also contributed to the growth.

How are Estimates Faring?

Let’s take a look at the estimate revision trend in order to get a clear picture of what analysts are thinking about the company prior to the earnings release. The Zacks Consensus Estimate for earnings for the to-be-reported quarter has remained unchanged at 36 cents over the past 60 days. This indicates 2.9% growth from the year-ago level. Revenues are expected to be $1.37 billion, up 7.4% year over year.

 

Fastenal Company Price and EPS Surprise

 

Fastenal Company Price and EPS Surprise

Fastenal Company price-eps-surprise | Fastenal Company Quote

Let’s see how things are shaping up for this announcement.

Key Factors

We expect the U.S. industrial market to register growth in the third quarter, albeit at a slower rate than in 2018, thereby driving high-single-digit revenue growth. Over the past couple of months, Fastenal’s sales have softened on a year-over-year basis, with average daily sales growth of 6.1% and 6.3% in July and August, respectively. Considering these readings, average daily sales growth is certainly expected to slow down in the third quarter from the year-ago level (13%) and last reported quarter (7.9%).

This modest growth rate in daily sales is consistent with management’s softer macro outlook, general market slowdown and inventory destocking seen across the industrial space.

Nonetheless, growth in core product offerings like Onsite Locations/vending machines/managed inventory is expected to benefit Fastenal in the third quarter of 2019.

Higher Non-Residential End-Market Demand: Construction market, especially non-residential and manufacturing, is expected to act as a major tailwind for Fastenal’s performance in the quarter.

Vending Machines to Drive Growth: Over the last few quarters, Fastenal’s sales have been driven by increased installation of industrial vending machines. Sales through vending devices continue to grow at a double-digit pace, primarily due to higher installed base. This trend is likely to continue in the quarter to be reported.

Onsite Locations to Boost Sales: A consistent increase in the number of on-site locations is likely to strengthen Fastenal’s market share and boost quarterly numbers. The increased number of onsite locations is likely to expand its market share. The trend is expected to continue in third-quarter 2019 as well. The company aims at achieving 375-400 onsite signings in 2019, implying an increase from 336 a year ago.

In a nutshell, strong momentum in construction, vending machine installations and onsite locations are likely to support top-line growth in the to-be-reported quarter.

Gross Margin Pressure: Fastenal’s changes in product and customer mix have been hurting gross margin for quite some time now. Increased product costs, higher freight expenses, and changes in product and customer mix are expected to impact its third-quarter gross margin.

To offset tariffs placed on products sourced from China to date, Fastenal has been successfully raising prices. However, those increases were not sufficient to counter general inflation in the marketplace. The company has undertaken additional steps in third-quarter 2019 to counter cost pressure and the incremental tariffs that were levied on China-sourced products in May 2019.

Here is What Our Quantitative Model Predicts:

Our proven model does not suggest that Fastenal is likely to beat estimates in the quarter to be reported. That is because a stock needs to have both a positive Earnings ESP and a Zacks Rank #1 (Strong Buy), 2 (Buy) or 3 (Hold) for this to happen. Unfortunately, that is not the case here as you will see below.

Earnings ESP: The company has an Earnings ESP of -0.16% as the Most Accurate Estimate is pegged at 36 cents, lower than the Zacks Consensus Estimate of 37 cents. You can uncover the best stocks to buy or sell before they’re reported with our Earnings ESP Filter.

Zacks Rank: Fastenal currently has a Zacks Rank #4 (Sell). Note that we caution against stocks with a Zacks Rank #4 or 5 (Strong Sell) going into the earnings announcement, especially when the company is witnessing negative estimate revisions.

You can see the complete list of today’s Zacks #1 Rank stocks here.

Stocks to Consider

Here are some companies in the Zacks Retail-Wholesale sector, which according to our model have the right combination of elements to post an earnings beat in their respective quarters to be reported:

Asbury Automotive Group, Inc. ABG has an Earnings ESP of +4.53% and a Zacks Rank #2.

Burlington Stores, Inc. BURL has an Earnings ESP of +0.09% and holds a Zacks Rank #2.

Urban Outfitters, Inc. URBN has an Earnings ESP of +10.22% and a Zacks Rank #3.

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