Concerned about an economic slowdown and the drop in oil prices, investors bid down the share price of the Fastenal Company (FAST, Financial) in March of this year. Even more quickly, they bid it back up again, as shown in this one-year chart:
David Rolfe (Trades, Portfolio) may have put his finger on the seeming contradictions that surround the company. Writing in the Wedgewood Partners first-quarter commentary, he observed:
“We have been pleased with the fundamental performance of the Company during our holding period, and we continue to like Fastenal’s business model and competitive position in an industry that will benefit from the long-term renaissance in American manufacturing. The stock, however – separately from the business fundamentals – has been a bit more of a wild, occasionally head-scratching ride during our holding period.”
In other words, Mr. Market has been more capricious than usual when valuing Fastenal.
The company started out as a supplier of threaded fasteners, meaning bolts, nuts, screws and similar products. In 1993, it aggressively expanded its product lines and now has nine of them. This excerpt from a table in Fastenal's 10-K for 2019 shows how the sources of revenue stack up:
Over the past half dozen years or so, Fastenal has significantly grown its Onsite locations. These are dedicated “branches” within or near customers’ facilities, such as factories, allowing it to provide enhanced customer service (and presumably keeping out the competition). For details on the shift to Onsite and its importance to the company, I recommend the article, “Some Thoughts on Fastenal,” written by fellow GuruFocus contributor The Science of Hitting.
In this article, I will go over my own thoughts and analysis of the stock.
Fundamentals
Our analysis of Fastenal begins with a look at the financial strength, for which the company has a moderately high score:
Fasternal’s long- and short-term debt have risen steeply, as shown in this 10-year chart:
However, with an interest coverage ratio of more than 100, the company has more than enough operating income to cover its interest expenses.
The ROIC (return on invested capital) vs. WACC (weighted average cost of capital) ratio heavily favors the return on invested capital, which, at 26%, is more than triple the weighted average cost of capital of 8%, indicating the efficient use of funds.
Overall, the company has good financial strength.
Profitability
Fastenal gets an excellent score from GuruFocus for profitability:
The GuruFocus system warns that both the gross and the operating margins have declined, but that doesn't necessarily mean they are low. With the operating margin close to 20% and the net margin nearly 15%, the company is earning very good returns on its operations, especially compared to competitors in the industrial distribution segment.
Return on equity and return on assets are both relatively high, indicating a highly-profitable company.
We also see double-digit growth for revenue, Ebitda and EPS without NRI, although the latter two are not as strong as they have been in the past.
Overall, this is a company with a strong history of profitability.
Valuation
In the valuation category, Fastenal gets a poor score, indicating it is considered at best fully valued, if not overvalued:
Given its profitability and growth, we should not be surprised at the expensive valuation, which includes a price-earnings ratio of 30.93; investors see high potential and are willing to pay for it.
Looking at a 10-year price chart shows us Fastenal has been in an uptrend for the past five years, although it has been a volatile ride for investors who held on:
The discounted cash flow (DCF) calculator also shows the stock as overvalued at the current price of $44.84. Because Fastenal has a 4-star business predictability rating (out of a maximum of 5 stars), we can be reasonably confident of its accuracy.
Dividends
Below is the GuruFoucs summary about Fastenal's dividends and share repurchases:
The current dividend yield is close to the S&P 500's average of 2%, and, asthe below chart indicates, the yield has been pushed down by the surge in the share price:
However, the company has still been increasing its dividends:
The payout ratio is relatively high at 65%.
The below chart of the company's free cash flow should provide some assurance to investors who worry about the sustainability of Fastenal’s dividend:
The company has a dividend growth rate averaging 13.20% per year over the past three years. That’s significant and suggests the board of directors has high confidence the company will be strong enough to meaningfully increase dividends in the future.
According to the 10-K for 2019, Fastenal has increased its dividends over each of the past few years as follows:
- 2017: $0.64
- 2018: $0.77
- 2019: $0.87
Assuming the board increases the dividend at the same rate for the next five years as it has for the past five years, and assuming investors buy and hold the stock for five years, the 5-year yield on cost would be about 3.65%.
Investors also might enjoy some gains from share buybacks. Between 2015 and 2018, Fastenal reduced its share count by about 20 million:
It did not buy back any shares in 2019 after buying back 4 million in 2018 and 3.8 million in 2017. The second-quarter earnings release reported the company did not buy back any shares in the first or second quarters of this year.
Overall, Fastenal has a reasonable dividend approach, with increases in previous years and a payout ratio that is sustainable.
Gurus
For the past year, gurus have executed more sells than buys of Fastenal stock:
Eight of the gurus followed by GuruFocus had positions in the stock at the end of March. Chief among them was Mairs and Power (Trades, Portfolio) with 4.7 million shares, representing 0.82% of the company’s outstanding shares and 2.15% of the investment firm’s common stock portfolio. The firm reduced its stake by 9.25% during the quarter.
Pioneer Investments (Trades, Portfolio) held 1,038,281 shares at the quarter's end, a reduction of 16.45% from the previous quarter.
Ron Baron (Trades, Portfolio) of Baron Funds held 790,200 shares after a reduction of 30.86%.
Conclusion
Fastenal is a solid company with robust financials and excellent profitability. However, its valuation is less attractive, especially since its spike this past spring. Value investors might put it on their watch list; as the 10-year price chart showed, the share price is volatile and dips quite consistently. Whether it will dip enough is another question.
The dividend is respectable, and an income investor might take serious interest if the share price dropped significantly. Such a decline would push its yield up to the point where it might compete with high-dividend stocks (4% or more per year).
For the time being, I think this is a stock best left to growth investors, assuming they can get a toehold during one of the dips.
Disclosure: I do not own shares in any companies named in this article.
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