Fastenal Company

Q3 2021 Earnings Conference Call

10/12/2021

spk09: Greetings, ladies and gentlemen, and welcome to the Fastenal 2021 Third Quarter Earnings Results Conference Call. At this time, all participants are on a listen-only mode. Any question and answer session will follow the formal presentation. If you would like to ask a question, please press star 1 on your telephone keypad. If anyone should require operator assistance during the conference, please press star 0 on your telephone keypad. As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Taylor Ranta, thank you. Please go ahead.
spk08: Welcome to the Fastenal Company 2021 Third Quarter Earnings Conference Call. This call will be hosted by Dan Fornes, our President and Chief Executive Officer, and Holden Lewis, our Chief Financial Officer. The call will last for up to one hour and will start with a general overview of our quarterly results and operations, with the remainder of the time being open for questions and answers. Today's conference call is a proprietary Fastenal presentation and is being recorded by Fastenal. No recording, reproduction, transmission, or distribution of today's call is permitted without Fastenal's consent. This call is being audio simulcast on the internet via the Fastenal Investor Relations homepage, investor.fastenal.com. A replay of the webcast will be available on the website until December 1st, 2021 at midnight central time. As a reminder, today's conference call may include statements regarding the company's future plans and prospects. These statements are based on our current expectations and we undertake no duty to update them. It is important to note that the company's actual results may differ materially from those anticipated. Factors that could cause actual results to differ from anticipated results are contained in the company's latest earnings release and periodic filings with the Securities and Exchange Commission, and we encourage you to review those factors carefully. I would now like to turn the call over to Mr. Dan Fornes.
spk06: Thank you, and good morning, everybody, and thank you for joining us for our Q3 2021 earnings call. And I'm going to start on page three of Holden's flipbook and run through some thoughts on the quarter. And similar prior quarters, Holden will share his thoughts on the latter half of the flipbook, and then we'll do some Q&A at the tail end of this call. So for the quarter, we grew our sales 10%. We ended the quarter with the business a bit stronger, up 11%. And of equal or perhaps more importance, when I think of our sequential patterns, And we highlight that, and Holden will touch on that, but we highlight that in our September information web release. We're in a good spot as far as where we were in January and where we are in September and how that positions us for going into 2022 from the standpoint of the strength of the business, the gains in the business, et cetera. If I set aside the noise of of comparisons for a second and comparisons to 2020. And I take a longer peer back and holding on page five of the flipbook, similar to what we did last quarter, is we did a comparison to 2019. And we did that because it allows us to just not have to explain all the conditionality of the comparisons and look at it and say, Here's what the business looked like before the pandemic started. And here's what our business looks like today. And everybody in this call knows what happened in the last 24 months as it relates to Fastenal's business. The success we enjoyed, the help to society we were able to provide last year and the products that we were bringing to bear and the impact we saw in our safety business in 2020. So let's just ignore all that noise for a second. And what stands out to me is we continue to invest in the growth drivers of the business. We continue to invest in the people side of the business. We continue to execute and grow our market share. And what you see is an organization that is about 13% bigger than we were two years ago. As we've talked in the past, and I'm looking at page five in the flipbook right now. As we've talked in the past, our growth drivers carry a different gross profit profile. And you'd see with the rounding and holding schedule there, our gross margin is about 90 basis points lower than it was two years ago. What we've talked about is what we like about these growth drivers is they differentiate us in the marketplace And they tap into the strengths of Fastenal. And we're able to bring scale to these elements and manage our operating expenses more effectively. And you can see that not only did we improve our operating expenses as a percentage of sales in the last two years, we completely offset the impact of the gross margin change. In fact, that's a little bit of rounding. It's closer to 100 basis points. And as a result, our operating income as a percentage of sales is 10 basis points higher today than it was two years ago. And so I believe in that two-year time frame, we've done a great service to our employees. We've done a great service to our customers. I believe we've done a great service to society in general and what we were able to accomplish in 2020 and 2021. And I believe we served our shareholders well in the process. If you think about the operating administrative expenses, and what's really happened. We picked up about 30 basis points on the people side of the business. We picked up about 70 basis points in that two-year period on the non-people side of the business. If I look at the people component, so our expense on the people side is up about $28 million in that two-year period. 14% of that number is the addition of people and or changing roles and or inflation in rates. That raised the base element of our pay above 14%. The incentive component, and this is looking at that, not 14%, 14% of the increase came from that. 61% of the increase, that $28 million over the last two years, 61% is related to incentive compensation. So when we find success as an organization, we share that deeply into the organization. And like we saw last year, our incentive comp pulled back. It reloaded itself this year. On a two-year basis, 60% of our increase in human costs is incentive comp. Another 14% is health care. One thing that's rippling really fast significantly through our P&L right now, not just on a one-year basis, which is like 45% increase, but on a two-year basis, 14% of our cost increase is healthcare. And I don't know where that's going to go in all honesty. Another 1% of our increase came from profit sharing. And 90% of our increases are bucketed into those four categories in the last two-year period. The other 10%, the biggest individual component of that is social taxes. and then other little noise in the numbers. If I look at the increases, our remaining expenses in operating expenses increased about $4.5 million on a two-year basis. 25% of that increase relates to FMI, vending and bins, 25% of that increase relates to distribution center increases. Now, part of that is cost for facilities. Part of that is cost that we're doing to manage through the chaos that is the supply chain in today's world. 50% of that increase is IT equipment. As you know, last year, we deployed 8,000-plus mobile devices throughout our network to create efficiencies. productivity gains, to create social distancing, to create a better means to serve our customers and illuminate for them what we do. That 50% of our increase there is what's funding a big piece of our labor efficiencies in the last two years. The final, the other guys you have the last two years, fuel prices are a little bit higher. Fortunately, everything else in our P&L offset the impact of fuel. And so I hope you find that helpful of taking the noise out of the one-year comparison and looking at it holistically and said, what's happened in the last two years? Fastenal has invested in its ability to serve. It's managed its costs effectively. It's shared the fruits of our labor with our team. And I think we've served customers and society and our shareholders well in that process. Flipping back to page three, and I'll get back off my tangents. Fast bin. We have talked about that next stage as we broaden our FMI, Fast All Managed Inventory footprint. And vending's been around for 13, 14 years. Putting technology into bins is relatively new. A year ago, we had 705 machine equivalent units deployed across our network. It's still a pretty small piece of the business. That number has grown almost fourfold to 2,600 in the third quarter of 2021. It's now about 1% of our sales going through that footprint. Again, it's small, but the power to become more efficient and provide a differentiated value in the marketplace is strong. I talked a few minutes ago about the mobility technology we deployed. A year ago, that mobility technology helped us manage 6% of our revenue. Today it's 11. And again, ways to better illuminate and create efficiencies for our team and frankly keep our team safer because these devices create social distance. When you're in, whether we're in a pandemic or an endemic right now, I'm not smart enough to know, but these things help in our business. As you read about in the paper and as I've seen in some of the write-ups and I've seen from some of our peers and some of our Other industries, the product and shipping cost inflation is not just high, it's brutally high. The chaos and the impact, not just from a financial perspective, but from a toll it takes on our human capital is immense. The thing that stands out for me is the entrepreneurial culture within Fastenal. Our ability to solve problems for others means you can also solve problems for yourself. The disruptions we're seeing, our teams in the local market are able to figure out solutions to take care of their customer, just like we did in 2020. We're doing it again in 2021. But it does take a toll to the organization. As we go through all this and have a lot of discussions with customers about disruption, about cost changes, price changes, it, as you can imagine, takes a lot of energy away from some of our growth drivers. And it lengthens some of the sales cycles. And you're seeing that show up a bit in our on-site and our SMI program. So on-site-wise, we signed 75 devices during the, excuse me, 75 on-sites during the quarter. Perfect world. I'd like that number to be 100. But it really is about how much participation are we getting across the network and how many customers are saying, yeah, move in with me. We'd like Fast Zone to help us on-premises. That's a tougher sale in this environment. However, our total onsites grew 10.5% over the number of onsites grew 10.5%. And the sales through those onsites grew more than 20% in the last 12 months. So they've proven what they can do for our customer and what they can do for our revenue growth. We decided to get a few more signings. As I touched on the FASTO managed inventory, I think Holden does an excellent job, and I know we haven't filed our 10-Q yet, but in our last quarter 10-Q, and the 10-Q they'll be filing in the upcoming days, does a very good job explaining our digital footprint and looking at the FMI component of that as well as the e-commerce component of that We're pushing the hardest on the FMI because we think a great supply chain partner doesn't simplify the ordering process. They simplify the supply chain process. And why are you physically ordering repetitive items? And we believe that's a unique place for us to be. Similar to what we saw on onsites, our past all managed inventory from a device standpoint is up 10% year over year. So we continue to see great traction. But I would like the signings to be a little bit higher. E-commerce, it's about 14% of our sales now. It grew 43%. There's still a lot of one-off stuff, and we're seeing that we're providing a better tool in the marketplace to help grow that piece of our business. You combine FMI and e-commerce, our digital footprint is now 44% of sales, 45% of sales, excuse me. And that's where we ended the quarter in September. And that number, nine months ago, was in the 30s. So really pleased with that. Before I transition over to Holden, I thought I'd touch a little bit on our in-market locations. Page 13 in his flipbook, he has a great table in there that shows our in-market location statistics. And I thought I'd share some perspectives on this. In the six years that I've been in this role, in the several years before that, we were doing a pivot. And that pivot was really about the intensity of our branch-based locations, the intensity of our network. We were starting to morph that into a few more onsites, and we took that into a really high gear in 2016. But if I look at what's happened in the last eight years, we've removed 938 locations. from the FASNO network. And that's basically adding up all those closed converted branch numbers over that time frame. And in three of those years, 2016, 2018, and 2021, we've removed more than 150 branch locations. Part of that is us looking at our network and saying, for what we are in the marketplace, what makes the most sense? But it's also a reflection of the onsite. As we're moving more and more business out of the branch network and moving into the customer, You rationalize your network. Most organizations would look at this and say, geez, 938 on a base of 2687 eight years ago. Let's take a big restructuring charge. Let's do it all at once. Let's throw everything plus the kitchen sink into it and have cover. That's not how we operate. Our district managers, our district leaders have figured out over that eight-year period how to be creative, I'm making the economics of that work. In some cases, they might go to a customer and lease out part of a building to them. But they figured out how to manage that process and constructively rationalize our footprint over an eight-year period, where our footprint now, when you add in openings, we're 31% lower than we were eight years ago. But there wasn't a big disruptive impact. We just did it as a normal course of business. That's something I think is a hallmark of the FASN organization. In prior quarters, I've shared some COVID stats with the group. We had a tough quarter in the third quarter. We had in the fourth quarter of 2020, we had five weeks where we had more than 50 cases in that discrete week in the fourth quarter of 2020. Two of those weeks were over 100. In the third quarter of 2021, we had seven weeks where we had more than 50 cases. One of those over a hundred. I'm proud of the fact that our teams look for ways to take care of our employee base, look for ways to protect each other and manage through that process because it's been incredibly disruptive in the third quarter. Staffing locations, when you have people out with COVID, when your average location has five to 10 employees is incredibly challenging. We managed through it. The other thing, during the third quarter, we did a survey. We did a pulse survey of our employees. And some things that jumped out in that survey, our employees felt, and we always get a very high participation in these surveys. Our employees felt in that survey, their manager, the team around them, truly cared about each other. And we were protecting each other. And as the leader of Fastenal, I'm incredibly proud of Lutein for doing that. You know, there was a negative in there. There was one that felt, which there was a little more communication internally. And that's a message to me. We need to always be good about communicating what we're seeing in the marketplace. And the other thing that jumped out is I know what's expected of me at work. And my manager cares about my well-being and about my development as a person. So a lot of positive things. The team is tired from going through this period, but a lot of positive things we're seeing. With that, I'm going to turn it over to Holden. Great.
spk04: Thanks, Dan. Turning over to slide six. As indicated, our sales were up 10% in the third quarter of 2021, which includes up 11.1% in September. The period still has some difficult COVID-related comparisons, with government customers down 40.4%, and safety and janitorial products being down 2.9% and 15.4%, respectively, in the third quarter of 2021. As a result, we believe that total growth for the quarter understates the strength we are experiencing in our traditional manufacturing and construction customers, as the chart on the page illustrates. On the product side, this is also well demonstrated by our 20.2% growth in fasteners, But sales of our other product segment, excluding janitorial, was also up 16.8%. In safety, sales of vended safety product, which removes from both periods direct shipped, typically COVID-related bulk product, was up 28.5%. National account sales were up 16.8%. And while our smaller accounts were only up 2.2%, if we adjust for the government, our remaining customers would have been up 11.7%. So bottom line, we continue to experience broad strength in our traditional markets consistent with macro data points such as PMI and industrial production. Pricing contributed 230 to 260 basis points to growth in the third quarter of 2021, up from 80 to 110 basis points in the second quarter. This reflects actions taken year to date to mitigate the increases we are seeing in product, particularly steel, and transportation, particularly overseas shipping. Inflation continued to rise over the course of the third quarter of 2021, particularly for overseas containers and shipping services. While we have a range of efforts underway to mitigate the impacts of inflation on our customers' costs, further price actions may also be necessary in the fourth quarter of 2021. Aside from inflation, and as Dan discussed, our marketplace continues to experience tight supply chains and labor shortages. These disruptions impacted customer production more in the third quarter of 2021 than the previous quarter. and that increase in COVID infections exacerbated these challenges. These trends seem likely to persist in the near term. To address these, we will continue to lean on technology and branch initiatives to improve productivity and an organizational culture that empowers local leaders to sustain high service levels. And while the supply chain remains elongated, we do expect an inflow of imported product in the fourth quarter of 2021 and the first quarter of 2022 that should sustain our high product availability and reduce the impact of fill-in-buys. Now to slide seven. Operating margin in the third quarter of 2021 was 20.5, flat versus the third quarter of 2020. Gross margin was 46.3 in the third quarter of 2021, up 100 basis points versus the third quarter of 2020. This relates to two items. First, we experienced good leverage of overhead and organizational expenses due to strong product demand and growth. Second, we had better product margin, primarily in safety products. Lower margin COVID-affected PPE was a smaller proportion of total safety sales versus last year, and the margin on those COVID-affected products increased. Product and customer mix did not impact gross margins in the third quarter of 2021 versus the prior year, in contrast to the favorable impact experienced in the second quarter of 2021. Relatively strong fastener growth allowed positive product mix to offset the negative impact of strong on-site growth on customer mix, but the gap was narrower sequentially, a trend that is likely to persist. While the impact of pricing in the third quarter of 2021 exceeded our original expectations, inflation and shipping costs similarly exceeded our expectations. As a result, price costs continued to be largely neutral on our gross margins in the third quarter of 2021. The increase in gross margin was offset by operating expenses growing faster than sales. Part of this is due to the comparison, as third quarter 2020 operating expense leverage still reflected COVID-related low labor intensity sales versus current sales being generated in a more traditional high touch manner. Just as relevant, however, is the role of cost resets. In the first year of a manufacturing recovery, it is typical for various operating expenses to have an outsized recovery. We're experiencing that in 2021, including in the third quarter, but also believe that the breadth of resets are unusually wide. For instance, we are seeing a 40% increase in incentive pay But we're also seeing a 50% increase in fuel costs, a 165% increase in travel expenses, and a 45% increase in healthcare costs. The nature of past downturns and recoveries would not have necessarily led to so dramatic a rise, particularly in the latter two items. As with last quarter, deleveraging operating expenses in the third quarter of 2021 is a function of anniversarying the first periods of pandemic-related cost savings measures combined with a strongly recovering marketplace. Similar dynamics are likely to play out in the fourth quarter of 2021, although not likely on the same order of magnitude, and we anticipate being able to leverage in 2022 for a comparable level of growth. Putting it all together, we reported third quarter 2021 EPS of $0.42, up from $0.38 in the third quarter of 2020. Turning to slide eight, operating cash flow was $168 million in the third quarter of 2021, down 32% annually and 68.8% of net income. We paid roughly $30 million in payroll taxes, which were deferred from 2020 as part of pandemic-related legislation. The bigger impact on our conversion, however, was an increase in working capital. Year-over-year, accounts receivable was up 13.8%. This reflects strong customer demand and a shift away from PPE surge buyers last year and toward traditional customers this year that slightly blended up days outstanding. Inventory was up 4.4%. We did see meaningful reduction in our three-ply mask inventory in the third quarter of 2021 and anticipate clearing out this inventory in the fourth quarter. Adjusting for this, inventory would have been up 6.2%. We continue to clean out slow-moving hub and branch inventory, close branches, and shift our stocking focus in the field. We believe these represent improvements in our working capital that will be sustained. That is being offset by product inflation and, to a lesser degree, product flowing into our networks. have a significant amount of imported product in transit and we expect to see product availability in our hubs improve over the next couple of quarters in the current environment this is how we are utilizing our balance sheet to support customer service and growth net capital spending in the third quarter of 2021 was 47 million up from 34 million in the third quarter of 2020 reflecting spending on a non-hub construction project in winona we have lowered our 2021 net capital spending range to $155 to $175 million, down from $170 million to $200 million, as supply chain difficulties are limiting our purchases of vehicles, branch supplies, and other products. From a liquidity standpoint, we finished the third quarter of 2021 with debt at 11% of total capital and net debt at 3.4% of total capital. Net debt is up from 2.2% in the year-ago period and 5.1% versus the fourth quarter of 2020. Essentially, all of our revolver remains available for use. That's all for our formal presentation. So with that, operator, we will take questions.
spk09: Thank you. The floor is now open for questions. If you would like to ask a question, please press star 1 on your telephone keypad at this time. A confirmation tone will indicate your line is in the question queue. You may press star 2 if you would like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. In the interest of time, we do ask that you please limit yourself to one question and one follow-up. Again, that is star one to register a question at this time. Our first question is coming from Jacob Levinson of Milius Research. Please go ahead.
spk01: Good morning, everybody. Good morning. I think some of us were positively surprised by the growth rates, particularly as you close out the quarter. didn't seem at least that you had a lot of, uh, maybe product availability issues, but maybe, maybe that's, maybe I'm reading into that wrong. So were there any particular areas that you guys are really struggling to procure product? And I'm just thinking about, you know, your fast chain and stuff being stuck off the coast of California. Uh, maybe provide there.
spk06: Yeah. If, if you, uh, If you look at, so we have a variety of supply chain partners, some of which are domestic supply chain partners, and they might be selling us, in many cases, branded product, and that might be a domestically manufactured or North American manufactured or a globally manufactured item. And then you have the items that are more commodity in makeup, and Fasteners is a high player in that, that tend to be produced offshore, and that's been the case for 60, 70 years. And as you can appreciate, we upped our safety stock and the depth of inventory we have on domestically sourced product. And if I think of our supply chain, if I think of our distribution centers and our service level that we measure with fulfillment to our branch network, we're at a very good spot there. It's product that we bring in from overseas. that is manufactured overseas. And one thing that helps us in the process, and we've gotten some grief from over the years from the analyst community, and justifiably so, we carry a lot of inventory. And we have inventory spread across 3,400 locations, branch onsites and distribution centers. And so that gives us some resiliency that a lot of our peers don't have. But no, it's crushingly bad right now. on-product coming in that has to go through a port, and we're not immune to that. We just have maybe a little more resourcefulness locally because some business models are so leveraged to scale that when things get tough, they kind of fall apart. Our model is leveraged to scale, but when things get tough, our local folks step up and fill in the gaps, but it's brutally hard work.
spk04: And to Dan's point, this is anecdotal, just feedback from the regional vice presidents that I get each month and each quarter. But to Dan's point about our ability to identify and locate product locally when we're not able to get it imported. Fasteners are a big portion of that. But there certainly have been challenges in locating that domestic product. But the anecdotal feedback from the field is that we've done a better job of that than most, and we've been able to sustain service levels. And so you're absolutely right about difficulties on that imported product getting into our traditional supply chain, but we are finding answers to that outside of our traditional supply chain, which is allowing us to retain high service levels to the customers.
spk01: Okay, that's helpful. And just as a quick follow-up, I'd have to imagine you're your smaller competitors are probably struggling right now, maybe not able to maintain that same service level. And you've got a clean balance sheet, so maybe you can comment on the pipeline. Is there an opportunity to maybe pick up some of your smaller competitors that are struggling?
spk06: You know, I think there's a couple fronts there. My perception would be, yes, there's struggling that's going on in the marketplace. If you don't have as deep and as robust of a supply chain and as many different places to tap into alternatives as we do. Even with our trucking network, we're able to move some stuff around that our competitors can't do because our product is incredibly expensive to move. And it's expensive for us too, but it's less expensive because we're more efficient at it. I think the biggest risk for some of the smaller and the folks that don't have as deep a supply chain is actually only now popping its head up because my perception is some of that fill-in buying activity of stuff that's imported by others that proves to be fill-in buys, that product is becoming more scarce in the marketplace, which I believe puts us in an even better position to be serving our customer and not going through Herculean efforts to make it happen.
spk04: When we look at opportunities, that pipeline, if you will, we're doing a lot more of evaluating strategic opportunities rather than simply picking off perhaps struggling competitors as a means of consolidation. That's not the primary focus when we do look into acquisitions. Ours is primary strategic. So again, at this point, we think a better use of our balance sheet is investing in the working capital that we need to sustain the type of service levels, which will in turn put pressure on those smaller customers and allow us to gain the market share without having to pay a premium for it.
spk01: Thank you, guys. I'll pass it on. Thank you.
spk09: Thank you. Our next question is coming from David Masley of Baird. Please go ahead.
spk07: Thank you. Hi, guys. Good morning.
spk09: Good morning.
spk07: Yeah, so first question on operating expenses. Now, we look sequentially in most years. There's either the same number of selling days or sometimes there's a minus one. third quarter to fourth quarter. This year, if my math is right, you're losing two selling days. And offsetting that, I know you have costs up on some of these resets and inflation and things. But given that day situation, is there any thoughts you can give us relative to the roughly 400 million SG&A you reported in the third quarter, how we should be thinking about the fourth quarter SG&A?
spk04: You're right about the days count. And so on a sequential basis, you know, yeah, we would lose a couple of selling days, you know, and that's leverage that you do give up. On top of the seasonality, right, fourth quarter is just typically not quite as active a period as occurs in the third quarter, but that happens every year. You know, I think if you look at history, you know, history would suggest that you would expect flat to down 3%, give or take. And that really depends heavily on compensation costs. Whether you're flat or down 3 is really driven by compensation costs, which makes sense because it's 70% of our operating expense line. I will note, I think that whereas we have a difficult comparison from a day's standpoint, we do have a little bit of an easy comparison from a wages standpoint. You know, we had some wages that were deferred into Q4 last year, and, you know, we will not necessarily replicate that this year. So that creates a little bit of an easier comparison. And I do think that we'll have somewhat lower growth on days and lower gross margin, et cetera. You know, and if you bank all that in, you know, honestly, I think somewhere within that normal range still makes sense to me, David.
spk07: Yeah, okay. Okay. That's helpful, Holden. Thanks. And then just quickly on slide seven, you said you expect to more effectively leverage at a similar growth in 2022. Was the similar growth part of that statement any kind of outlook, or is that just a placeholder for the leverage comment?
spk04: It was no sort of outlook. It was just simply saying, you know, I guess a better way to put it would be all other things being equal. But it wasn't a prediction. As you know, my crystal ball consists primarily of the PMI, and that doesn't extend much past the beginning of Q1, as you know. So it wasn't a prediction.
spk07: Fantastic. Thanks a lot, Holden. Appreciate it.
spk09: Thank you. Our next question is coming from Chris Stankert of Loop Capital. Please go ahead.
spk05: Hey, morning, everyone. Thanks for taking the question, guys. I guess first off, maybe just any update here, third quarter now on kind of the 2020, we added a lot of new customers, comments on retention in the past, but just any update on kind of what that retention looks like kind of today?
spk04: Yeah, in the quarter, we still had, so the definition, by the way, of that retention is customers that had not previously purchased from us prior to Q2 last year when the pandemic began to settle in for the first time. So just so we understand the definition. We still recognize a little more than $50 million in revenue from those customers in the third quarter. Down a little bit from where we were in the Q2 period, but it still represents a significant increase. investment and opportunity within the healthcare space that derived from the environment that we've been experiencing the last 18 months.
spk05: Got it. Okay, that's helpful. I guess my apologies if I missed it in the prepared materials, but very dynamic pricing environment, obviously. Any comment on kind of what you're expecting, you know, the top-line impact to be into the fourth quarter here? I mean, subject to change, certainly, but just kind of a snapshot of what you're seeing today would be great.
spk04: Yeah, I always feel I need to also point out it's a very dynamic cost environment. But I would say that our exit rate was perhaps a little stronger than our entrance rate for the Q3. And so I do believe that you probably have some continued edging up from the range that we experienced in Q3 and Q4. So it wouldn't surprise me if that number is a little higher. But we also keep a pretty good tab on when we expect to see container costs and things like that begin to flow through the model. And I think you're going to see that edge up in Q4 as well. So you could see incremental pricing in Q4 relative to Q3, but I think you're going to see incremental costs. I think we're sort of currently expecting that for all intents and purposes that that price cost will remain neutral.
spk05: Got it. Thanks so much for the help. And again, congrats to the team on being able to maintain that price-cost neutrality so far. So thanks again, and best of luck.
spk06: Thank you. Before we take the next question, I'll just throw a little added commentary in on the question about the customers that we didn't have before that are buying from us now. And Holden touched on the actual statistics. I'll touch on the anecdote piece. So if I go back in time three years, four years ago, and I'd be out traveling. Probably the only place I would hear about things that we were doing that were noteworthy as it related to either government or health care, I'd be traveling down in Florida, and Bob Hopper would be telling me about a K-12 school district that we were doing business with or that had expanded. Perhaps I'd visit a site. We have a lot of onsites. in K-12 school districts in the southeast, particularly in Florida, early on. And then, you know, Bob would tell everybody about it, and pretty soon everybody else was kind of dabbling in it and finding success there. And then we moved into, you know, expansion in some of the higher ed and signed some onsites. One thing that stands out for me when I think of the last nine months is I periodically hear, and it's not just coming from Bob anymore, but I periodically hear about a healthcare facility that we just signed up as an onsite. So far, most of those that I've heard about have been tethered to a university, but seeing traction there, now the numbers are incredibly small, don't get me wrong, in the scheme of things, but that's not something I heard about 15 and 20 months ago. that I am hearing about as we go through each quarter of 2021. And I see that as a positive because it widens the basket of potential customers out there. The other thing that stands out, Holden and I have ongoing conversations with our team about metropolitan areas and what's our plan for last Friday we went through Minneapolis and the St. Paul area. What's our plan for this market? Every one of those discussions now include a discussion about some traction we're getting on the government and educational fronts and health care fronts as it relates to business activity and onsite. And, again, you would have had to draw it out of people in the past. Now it's offered up as a growth opportunity in individual markets. With that, we'll take the next question.
spk09: Thank you. Our next question is coming from Ryan Merkel of William Blair. Please go ahead.
spk03: Hey, guys. Nice job on gross margins this quarter. So my first question is, is there anything to call out on gross margins as we think about the fourth quarter? Should we expect normal seasonal declines?
spk04: So yeah, I think if you look historically, again, you would typically expect to see call it 20 to 40 basis points of decline from Q3 to Q4. You know, I feel pretty good about that, to be honest. There could be a touch of upward bias to that 20 to 40 basis point range. But, you know, if I think about, you know, price-cost being relatively stable versus where we are, et cetera, you know, yeah, I just think that the history here probably is fairly instructive. And, again, there might be a slight upward bias to that 20, 40 basis points history, but that's probably how I'd characterize it. My expectations for the quarter.
spk03: Okay, that's helpful. And then I wanted to ask about FTEs. I noticed it was flat year over year in September. It's down from January. Is this intentional or is this due to labor shortages? And then are you seeing applications pick up now in some of the states where the benefits have ended?
spk06: You know, it is not intentional. I frankly would rather be on this call saying, okay, You know what we missed by a penny? Because we added more people. It was easier to add people. But my sense is it's improved some. And the most acute part for us, we build pipelines. We build sales pipelines. We build pipelines of talent. And our best pipeline for talent over the last 50 years has been Get somebody with a year or two years left of college or they're going to, whether that's a four-year state college or a two-year technical college, ask them to come work for us. Tell them, hey, we'll get you some experience. You'll get some cash coming in, which is always helpful to a student. And we're looking at 15 to 20 hours a week. But what we're really doing is dating. And what the thought process be, when you graduate, we think you will like us and we think we'll like you and we'll get married. And then you'll join the blue team and and grow your career. That's a tough recruiting model in the last year and a half because if college is closed and kids go home, well, we need them. Our motto is to hire them when they're at school, not when they're three hours away at home. So that just devastated that. Kids are back in school now. Now, we're only a month, basically, a month and maybe five weeks into school. We haven't seen an uptick that I can tangibly put my finger on. Most of it's anecdotal. I believe that piece of hiring will get better. And I don't know if I believe that because I'm being a glass-half-full optimist and I'm just wrong, or I believe it because I think a lot of people hunger to get back to some sense of normalcy. And part of it is, hey, I need a part-time job in college. But it's not planned.
spk03: Got it. All right. Thanks, Dan. Thank you.
spk09: Our next question is coming from Michael McGinn of Wealth Fargo. Please go ahead.
spk02: Thanks. I was hoping to hone in on the fasteners and port lead times you alluded to in the release. Is there a way to disaggregate what the total lead time is from mill to port and then how those fasteners turn relative to your remaining product set when they do get into domestic stock? And maybe if it makes sense to compare how that is in a normalized environment versus the congestion we're seeing now.
spk06: Holden, I don't know if you have that slide deck that we were just looking at the other day. As you can appreciate, sometimes at quarter end or during the quarter, you're looking at so many different things. that I don't want to give you inaccurate information. What I can tell you is the buffer we're building into our supply chain for import is dramatic. And, you know, it's measured in weeks, not in days. And those weeks are, I could almost say it in months rather than weeks. But it's a, and I'm trying to stall so Holden can look it up, but I don't think I'm going to get that luxury. But suffice it to say, it's weakened out. And, you know, yesterday with our board, I'll share an insight I posed to them. And that is, you know, as an organization, one of the board's obligations to the shareholders is to manage risk. And one of the things I said to the board from a risk standpoint that we have to be acutely aware of, and I don't know if that acutely aware of is six months from now or six years from now. But I honestly don't know how this is going to work its way out because a lot of capacity was taken out from the steamship lines last year. And part of the issue is the capacity just isn't there. So is this something that's part of our new normal that we're going to have this kind of consternation and we need to build an extra 30 or 45 days of time into supply chain? The risk is... When that flips, and again, I don't know if it's six months from now or six years from now, when that flips, we have to be acutely aware it's happening when it's happening because right now we sell $13 million worth of inventory a day. If all of a sudden stuff comes in three weeks faster, four weeks faster, you get, you know, well, 13 times 20 business days in a month is $260 million, right? So you could add $100, $200, $250 million of inventory really fast if you're not dialed in and managing it. But it's measured in weeks. And I apologize we don't have it at our fingertip. But a 30- to 45-day window wouldn't surprise me. But I just don't have the accurate number in my fingertips.
spk02: Yeah, not a problem. I guess switching gears to the onsites, I believe the normalized target remains 375 to 400. Can you discuss the revenue per site normalization or baseline you see as this initiative continues to mature? And with the backdrop being, you started onsite, I think the average was 150, and now it's 100 per site. Does this normalization create a wider net for you to drive more signings in 2022? The...
spk04: So in terms of the revenue per site, you're right. I mean, when we started this, we had a smaller cohort of onsites that did between 1.8 and 2 million in revenue per site. And today, frankly, that's probably more in the 1.45 million annualized level. And that's an improvement over last year. And frankly, it's actually an improvement over 2019 as well. So we have begun to see that improvement occur. You know, it's one of those things I think is relevant to talk about because we talk about the signings being somewhat weaker. But that team in the onsite group, we've seen the average size go up. We've actually seen the margin on that group go up. And we've seen the inventory on hand actually decline in terms of the days on hand numbers. You know, we've talked a lot about as you sort of get out of this hyper growth process into sort of a more of a, you know, fast growth process that comes to a certain level of productivity efficiency. We have seen that over the last 12 months, you know, and so when we get back to being able to sign 375 to 400 when the market normalizes, I think we are doing so off of a larger, more productive base. And I think that's an exciting development. Does that answer the question or did I miss a point of it?
spk06: Nope, that answers the question.
spk02: Appreciate it.
spk06: Okay. So I'm going to pull back to the last question. I pulled up my notes here from some stuff from a few days ago. In September, so total transit time for deliveries in August hit a fast and all record 58 days, and September was trending higher at the time they provided this update. This was a couple weeks ago. If I look at that back in – In the first quarter of 2020, which is the earliest bars on my chart here, that number was in the 30s as far as days. And this includes both the transit time to the port and then the average time discharged from port to destination. So it's not just what it takes to cross the ocean and get to the port. Are you sitting there for 10 days or nine days out in the ocean off port, off Southern Cal or wherever it might be? but then getting it through the terminal and transferred. Probably the thing that jumps out the most for me is typically when we're negotiating rates, that's a rate that goes from the port in the original country to our destination, which is our distribution center. And the steamship lines handle that entire journey. 35% of our containers coming in in the third quarter, we actually couldn't get them to the destination because they weren't available because there's such a shortage of containers. 35% had to be manually unloaded at the port, loaded on a semi, and driven to our distribution center. And everything you read about is what's happening with the container costs coming from overseas. That doesn't include that layer of expense because putting it on a semi and driving it across North America is a lot more expensive than the container going on a train and going across North America. And that actually, I mean, we see a fourfold increase in container costs year over year. If you added that piece in, the increase is more like sixfold. But that's on 35% of our containers coming in. The only silver lining in that is that 35 was 45% in August, and it was 28% in September. So I don't know if it's coming down and it's going to continue that trend, because one month isn't a trend. It's a data point. But that's been a brutal piece of the inflation as well. I see we're at five minutes before the hour. I trust we've answered most of the questions satisfactorily. And if you have any follow-up, hold an eye around for the balance of the day. I would put one quick call out to the Fastenal team. EHS today recognized Fastenal, along with nine other organizations, as one of America's safest companies. And I want to say to our EH&S team, Our safety teams that developed our plan and our employees that honor and respect that plan, thanks for keeping each other safe in 2020. Thanks for what you did for society, and congratulations on the recognition. Take care, everybody. Thank you.
spk09: Well, then, thank you for your participation. This concludes today's event. You may disconnect your lines or log off the webcast at this time and enjoy the rest of your day.
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