Investors in industrial supply companies Clasp (FAST -0.17%) were pleased to see their shares rise 7.5% on the day they released their third quarter results. This is excellent news for Fastenal, and since the company’s sales are often seen as a key indicator of conditions in the industrial sector, many commentators are taking this as a sign that a turning point in the industrial economy has passed. I have to disagree, and here’s why.
All about Fastenal
Those hoping for an upcoming earnings season dominated by industrial companies touting an improving economy based on Fastenal’s earnings could be in for a disappointment. Yes, Fastenal did well this quarter. However, I would argue that this is mainly due to the successful expansion of local locations and not to a cyclical economic recovery.
Fastenal signed 93 new locations during the quarter and reached 268 new locations during the year. For the year as a whole, the company is aiming to develop 350 new locations. CEO Daniel Florness discussed Fastenal’s locations on the call, saying, “Our daily sales in these locations, excluding the transferred stores when you open a location, are in the low double digits. These sales contributed to the 5.7% increase in total sales for the quarter.
What Fastenal’s sales say about the economy
The company sells fasteners, safety products, cutting tools, janitorial supplies and more. With at least 74% of sales going to manufacturers, monthly sales data is a valuable barometer of production conditions.
The diagram below needs a little explanation and I’ll try to keep it simple. It measures the monthly change in sales (e.g. September sales compared to August sales); this is the “delta”. Fastenal then compares this delta to a benchmark (taken as the average of the last five years, excluding the highly skewed 2020) to see how sequential sales performance compares to normal performance.
Data source: Fastenal Presentations. Chart by author.
The graph shows two positive numbers in the last quarter (September and July), but it is far too early to draw conclusions from them.
First, while the September daily rate posted 4% sequential growth in August and 5% year-over-year growth, both numbers appear to be a low hurdle to overcome. Weak sales in August and a simple comparison with September 2022 may make this result look slightly better than reality. This point was partially acknowledged in CFO Holden Lewis’s comments on the September earnings call: “It appears to have more to do with easing comparisons in certain areas of our business rather than a clear signal of improving customer demand or an improvement.” of prospects.”
Second, there is no clear pattern in the data (unlike the strength in 2021 when the economy recovered from the lockdowns imposed on the population), and relying on one data point (September) is never a good idea.
Third, the company’s most cyclical products, fasteners, continue to underperform. For example, the daily fastener sales rate fell 2% in the quarter compared to the same period last year. In comparison, safety items increased by 9.2% and “other products” (which accounted for 46.5% of total sales) increased by 6.8%. Therefore, sales, which represent Fastenal’s strongest influence on the economy, are its weak points.
Image source: Getty Images.
Fourth, when asked which industry verticals were positive or negative in the earnings release, Lewis responded: “Aerospace is doing pretty well,” but “everything else remains pretty lukewarm.” Frankly, it’s no surprise that Air – and space sectors are doing well as the industry continues to recover from the devastation inflicted on it during the pandemic.
What it means for investors
Buying this sector based on Fastenal’s data would be a mistake as it is far too early to conclude that a turnaround has already been reached.
However, production conditions will eventually improve and it is worth remembering that the weakness has worsened in 2023 as many industrial companies are reducing inventories after rushing to build up inventories during the worst phase of the supply chain crisis last year. A recovery will occur over time, not least after destocking is completed.
Therefore, it makes sense to have a little patience and watch and listen carefully to what management says when companies report earnings for the current season.
Lee Samaha has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
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