In 2014, Fastenal Company (NASDAQ:FAST) identified a new growth driver for its business. Instead of having its customers come to it, the fastener, tool, and supply retailer realized its customers increasingly desired Fastenal to go to them. The company calls this its onsite business, which is even more profitable than the company's more traditional store-based operations. A key piece of this is, believe it or not, vending machines. Here's why being onsite is so important to this 3%-yielding stock's future.
The little things
Fastenal provides customers with reliable and fast access to things you don't really think about much, literally the nuts and bolts that keep businesses running. It has around 2,290 physical branches where it sells fasteners, tools, and other supplies. However, that number is down from a peak of 2,687 in 2013. Yet revenues increased each year through that span, going from around $3.3 billion in 2013 to nearly $4.4 billion in 2017.
Although the company is really good at what it does, the store closures aren't a sign of an incredible increase in efficiency. They point to a business shift that started to take shape in 2014, when Fastenal realized that going direct to its customers was a key growth driver for the business. That includes three main categories: onsite locations, stocking customer supply bins, and vending machines.
The main goal is to help customers free up time and resources that they can instead put toward their businesses, while Fastenal does the things it does well (making sure its customers have the parts they need when they need them), just at a different location. This leverages its distribution system, including its branch network, and integrates Fastenal into its customers' workflow in a way that makes the company hard to replace.
How much growth?
Between 2014 and the first quarter of 2017, Fastenal increased its onsite locations from 214 to 761. If you count those locations as stores, which they effectively are, its total store count at the end of the second quarter actually rises from 2,290 to 3,051. Adding these onsite locations to the store count each year turns a steadily declining number since 2014 into a steadily rising one. And these are incredibly profitable operations, with operating expenses that are roughly half of what a typical Fastenal store would cost to operate.
To break out a key piece of this puzzle, onsite vending machines, not the type that contain soda and chips, have been growing at a compound annual rate of 15% since 2013. Sales through vending machines grew 20% year over year in the most recent quarter, so this is a very real business that customers appear to like based on the installed base of over 76,000 vending machines (vending locations generally contain more than one machine).
Today, onsite represents around 20% of the company's revenues, double what it was in 2013. And despite making up just 20% of the top line, Fastenal explains that 40% of its revenue growth is being driven by this business. With an onsite revenue run rate of over $2 billion a year, the company still sees plenty of potential in what it believes is an over $22 billion market opportunity. Although being onsite at a customer location isn't a unique business model to Fastenal, this is clearly the business to watch for growth at this industrial supplier.
A decent price for a great business
Fastenal's shares are near all-time highs, but based on its ability to continue driving growth in new ways, that makes complete sense. However, it may not be as expensive as you think. The company's price to earnings to growth ratio, also known as the PEG ratio, is currently around 1.4 times compared to a five-year average of just under 1.9. This suggests it is trading at a discount relative to the valuation it has historically been afforded. The company's enterprise value to EBITDA, meanwhile, is roughly in line with its five-year average. Overall, Fastenal looks fairly priced to, perhaps, a little bit cheap based on its growth prospects -- driven by things like vending machines and onsite locations.
Where things start to get really interesting is when you consider the stock's generous 3% yield, backed by 19 years of consecutive annual dividend increases. An S&P 500 Index would only get you a yield of about 2%. And the current yield is easily at the high end of the company's historical yield range.
The trailing 10-year annualized growth rate on the dividend, meanwhile, is nearly 20%. That's not a realistic number to expect in the future because it includes a shift in the payout ratio from around 30% in 2008 to the 60% range more recently. However, over the trailing three years, the dividend has grown at an annualized rate of 8.6%, nearly three times the historical growth rate of inflation.
Although Fastenal's stock price is high on an absolute level, it looks relatively cheap when you consider its growth prospects and generous 3% dividend yield. Investors looking for a mix of growth and income would do well to take a closer look at this company today, making sure to focus on its onsite business, a key growth driver and a still huge growth opportunity. At the end of the day, a fair price for a company that appears to be firing on all cylinders is still an enticing opportunity.