Good day, ladies and gentlemen, and welcome to the Fastenal Company Q4 and Fiscal Year 2017 Earnings Results Conference Call. At this time, all participants are in a listen-only mode. Following management’s prepared remarks, we will host a question-and-answer session and instructions will be given at that time. [Operator Instructions] As a reminder, this conference call may be recorded. It is now my pleasure to hand the conference over to Ms. Ellen Trester of Investor Relations. Ma’am, you may begin.

Welcome to the Fastenal Company 2017 annual and fourth quarter earnings conference call. This call will be hosted by Dan Florness, our President and Chief Executive Officer; and Holden Lewis, our Chief Financial Officer. The call will last for up to 45 minutes, and we’ll start with a general overview of our quarterly results and operations, with the remainder of the time being opened 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 March 1, 2018, 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 Florness.

Thank you, Ellen, and good morning, everybody and thank you for joining us on our fourth quarter earnings call. First off, Happy New Year and welcome to 2018. Before I touch on the quarter, I’d just like to share a couple of stories. One is the conversation I had with Bob Kierlin, our Founder of Fastenal, about a week ago. Being in just finishing my second year in this role it’s nice to having Bob around to share thoughts with periodically, and I shared with him my President’s letter for the annual report we will be filing here in early February. And he stopped back and after reading through and he said, yes, I liked your letter. I do have a question for you though on the right hand column of the first page, I really think you should change it. And I am like okay and he said it feels like you are on an apology tour because you are frustrated with Q4. And he said, you know, what are you doing right now? Your -- Fastenal is working to evolve the business. Where we’ve been ramping up our business activity, we’ve been ramping up our development activity, that’s relates to our district manager and our branch managers. We’ve been ramping up the business to support vending at a higher level and you are ramping up to turn on Onsites and all these things require people and energy and a lot of it. And we are doing it quickly and he said you know we’ve tripled the number of Onsites we have in a couple of years and we have a whole bunch to turn on, and again that takes energy to do, explain that, don’t apologize for it, explain that. And that was helpful. I did modify my…

Thank you, Dan. Good morning. I am going to begin with a quick recap for our 2017 results. Before moving on to discuss on the quarterly performance. In 2017, Fastenal generated $4.4 billion in sales, which is up 10.8% from 2016. We had one fewer selling day in the year so on day’s basis we are up 11.3%. We did get the economic tailwind that began in late first quarter, strengthens throughout the year, however, we also believe our growth drivers have allowed us to outgrow the marketplace and I want to provide a little bit more color on those. For vending, excluding units in all these locker program, we finished 2017 with over 71,000 in installed machines, up 8,600 units or 14% over 2016. Signings were below our full year goal but up 7%, but at the highest level since 2013. We also saw higher revenue per machine of 2% to 3% and removables were down 4% and because of that revenue through our machines rose more than 15% in 2017. In 2018, we are targeting signings of 21,000 to 23,000. We signed 270 new Onsite agreements in 2017, shy of our goal of 275 to 300 but well above last year’s 176 signings. Growth of sales through Onsite excluding branch transfers accelerated through 2018 and was up 22% for the year. We are targeting 360 to 385 signings in 2018. Lastly, National Accounts pace the overall business with daily sales growth of 14.5% in 2017. Sales for our largest customers accelerated through the year with December up 19.7% to a greater extent than last year this is achieved both through a combination of new accounts and by penetrating existing accounts. Margins in 2017 stabilized. Our gross margin finished at 49.3 which were down 30 basis points. This was…

[Operator Instructions] And our first question will come from the line of David Manthey with Baird. Your line is now open.

Thank you. Good morning, guys. Happy New Year. Just quick two part question here. One mechanical and one soft side. First, could you level set everyone on your FIFO accounting and how the price increases flow through P&L? I am just interested in this price increase that you recently put through if you can talk about maybe magnitude and timing of the effect on both the top line and the gross margin as it flows through, that’s one. And then second, what is the main message that you as a leadership team are sending out to the field this year? And I know you mentioned a few things. I am wondering about aggression on new business and focus on value and Onsite and price increases but Dan when you had that conversation with your RVPs what is the number one most important message you would have those guys and gals take out to their team and their customers today?

I am going to start with the second part then I’ll go to the first. And Cheryl [ph] or Holden feel free to chime in if you feel my answer is somewhat lacking. As far as the main message, last year talked about growing - a simple message, grow sales and grow earnings. We’ve struggled for few years. Obviously amplified by the oil and gas slowdown and how it hit our business. The message this year just had one more thing to it. Grow sales and grow earnings, let’s grow it double digit and then the concept of think big. And think big is about one thing we did in 2017 as we worked with all of our district leaders, all of our district managers came in for two day workshop, a day and half workshop. And it was about developing a business plan, a five year business plan for their business. And think big that’s basically this, have a plan. Incorporate our growth drivers Onsite, vending, construction, CSP16, national accounts, international, incorporate that into your plan and vet your plan. Share with your peers, share with a regional -- whether it’s your region or not, share with somebody else and then share with every member of your team because if you get great people pursuing a common goal, you can accomplish great things. And you can get the most out of great people and be more successful move faster. So our biggest message is have a plan and grow your business and think big about it. In regards to -- we are on FIFO accounting, and so our part of inventory increase for the year is inflation. I am not going to get too deep into the magnitude because I just don’t want to get ahead of ourselves Dave…

Yes. I might just chip in Dave as well. If you recall we actually had a modest increase in prices we put in the second quarter in response to what we are seeing inflation in the channel. That really was intended to go after a sliver of the business. And at the end of the day, the amount of which price moved our revenue line this year was fairly immaterial. And we felt that it achieved a goal but it was fairly immaterial overall. This iteration now the demand has gotten stronger and cost inflation has gotten stronger, is intended to address a large slice than we had done in the past. And it’s really intended to do address the same thing is to address the inflation that we see in what’s relatively long supply chain in the fastener business. So we would expect that the -- without giving the details of our quantity, we expect it would be more significant this time around than it was certainly with the smaller on in the second quarter.

And Holden we could see some of that impact as early as first quarter, correct.

Yes. We would expect that we would be able to speak about in concrete terms by that point.

Thank you. And our next question will come from the line of Ryan Cieslak with Northcoast Research. Your line is now open.

Hi, good morning, guys. And my first question is really quick follow up on the gross margin and/or pricing side of things. Holden or Dan, the way I think about the pricing implementation, is it give you the opportunity to once again get ahead of the COGS inflation on the fastener side or should we be thinking about this more as a catch up to what maybe you saw in the fourth quarter with regard to that headwind?

Yes. I would characterize it as a bit of a catch up in this regard. I mean as Dan had indicated and I talked about in the script was, we did see the fastener gross margin in the fourth quarter tick down as a result of product inflation. So the group has done a great job staying ahead of it in the non-fastener side, we’ve gone little bit behind on the fastener side and so this is intended as much anything else to begin to cover up some of that lag.

Okay, okay, fair enough. And then Dan when you think about the opportunity here in 2018, obviously 2017 was a really good year for you guys in terms of top line. I am not looking for specific guidance but what maybe are some of puts and takes on the top line in the context that comps do get more difficult and what are maybe some of the incremental drivers and how do we sort of maybe frame up what the opportunity could be? Can you actually grow again double digits or should we be maybe tempering our expectations just given the comps gets more difficult? Thanks.

As far as the opportunity drivers for 2018, here are the things that come to mind for me, we have great momentum in our business. As I mentioned earlier, our National Accounts team is executing about as well as I think we’ve ever executed in our history. We have built in lift from the – if you think about the vending machines that we’ve signed that we’ve been deploying late in the year or throughout the year but they have been strong throughout the year. The fact that we are removing fewer and I feel better about installed base and how we are going to grow that in the next 12 months. Our Onsites, we have record number of Onsites that we signed. I feel we have great momentum come into the year because again Onsite now is a company thing. It’s not touching a small chunk of our business, it’s touching the business. So I feel very good about our growth right and the couple of years momentum we have built into them and we are finishing the year strong. And I feel really good about the tax bill signed late in the year. And it’s ability to list -- to lift the industrial marketplace in the United States. Industrial marketplace and I don’t want to get too deep into the discussion here but let’s be honest. The industrial marketplace in United States has been the highest taxed population on the planet. And we are unleashing some of that potential with the tax change. I mean I look at our business for example, I believe the S&P 500 has an effective rate of about 27% before the tax act. Our effective tax rate in recent years has been about 10 points higher than that, 36.5%-37%. And we are indicative of that example. And I believe for a lot of our customers it unleashes their potential to think bigger about their business and to grow faster and we are going to participate in that growth because we are going to help support their business. And I feel really good about that coming in 2018. And I think it has some legs to it.

And Ryan just wants to chip in one thing from the earlier question just to make sure everyone understands it. Although product inflation was a factor in fourth quarter, it was well behind product mix, the impact of Mansco and the issues around freight in the quarter in terms of an impact. So when we say that we are sort of catching up, if you will, I don’t want to leave the impression that we fall in particularly far behind. It was a fairly minor factor in the fourth quarter. We are acting because we needed to make sure that it doesn’t expand as an issue in 2018.

Fourth quarter was above guidance.

Got it. Just really quick on freight, Dan. Just really quick if I can. Is the freight component more of an internal or company specific element or are you actually seeing some pressure from the marketplace as well as it relates to maybe drivers? You mentioned few, how much of it is more company specific and execution versus maybe some market headwinds that you guys are seeing right now? Thanks.

It’s us. It’s company specific. A piece of it is seasonal but that was true last year too. But when I look at the impact of fourth quarter versus third quarter a year ago, and the impact of fourth quarter versus third quarter in 2017, it’s us. Because what were -- the relativeness of what we are charging for freight, relativeness of how much we are doing internal versus external, we moved most of the freight on our own trucks which is a huge competitive advantage. We still manage it well. And I am going to cut you off with that question. And we will go on for the next one. We are running a little tight on time.

Thank you, sir. Our next question will come from the line of Christ Dankert from Longbow Research. Your line is now open.

Hi, good morning, guys. Thanks for taking my question. I guess just trying to take a bigger picture here. How would we think about the pathway to profit kind of in the context of Onsite being such a key driver now? And kind of how that looks versus traditional stores?

Okay. I’ll take that one. Pathway to profit historically was about growing our average branch size and as that would happen the operating expenses drop dramatically. A branch doing $50,000 to $80,000 a month has operating expenses well into 30s. A branch doing $150,000 to $250,000 a month has operating expenses that are well down into the mid if not low 20s but mid 20s anyway and so that’s really what the pathway to profit was about, was letting the inherent profitability shine through. Onsite creates challenge for pathway to profit in that your revenue growth is coming from our growth drivers, vending help our branch revenue grow. CSP helps our branch revenue grew. Onsite actually help, cause the brands revenue to either trade or maybe go back slightly. So if I have $20,000 month account in a $150,000 branch and I move that to an Onsite to turn into $100,000 customer, the branch close on $150,000 to $130,000 and so we have negative leverage going on there which hurts the pathway to profit concept. Our job is can all those other things get us back to 150. The more thing we’ve been talking about in our business where we’ve been closing some branches, so if we move out enough customers and a handful of branches maybe we go from 10 branches in that market to 9 which lets us claw back a little bit to pathway to profit because you got a 9 have a higher average. And so it’s really about on the branch side, the pathway to profit is as healthy as ever. The Onsite creates real challenge for it but I’ll take that challenge because it allows us to grow an Onsite in attractiveness business from the standpoint of our ability to grow with it, and our ability to generate return.

And one thing I’ll contribute to that is if you do look at the Onsite that predate this becoming a growth driver; the operating margins are above where the newer Onsites are. And so there is a pathway to profit element that’s getting lost only because we are opening so many. The intermediate term measure of success is the degree to which we use the pathway to profit to expand maturing Onsite base and to begin to refill what we took out of the branch and then they sort of go down that pathway to profit, second time if you will.

And I guess if I could just flip through the timing a bit more I guess. Is there a way to breakout the Onsites by age then? Maybe we can back into year where you started the year where you finished the year but as far as trying to think about profitability and size, the net impact for 2018 and beyond. I mean is there any way that we kind of look at profitability by our size and then sub divisions at all?

So we do. We have not necessarily gone down the path of sharing that year by year with investment community but we do track that internally. I mean what I would tell you is that from the point that you start an Onsite probably between call it six quarters later you are sort of where the Onsite should be in sort of steady state and then from there you begin doing the things you need to do to improve the margin you go down that pathway to profit, looking for product substitution opportunity, looking for additional volume opportunities. So that path down the pathway is probably begin in earnest between four and eight quarters after sort of the signing and that progress begins and then ultimately you get there but with these new ones since it’s becoming growth driver, I am not sure we necessarily figure out the exact date that you get to a corporate margin on the Onsite business from the time you start.

We are going to take more one call. I see we are at 43 minutes past the hour, one more question I should say.

Absolutely. Our last question will come from the line of Robert Barry with Susquehanna. Your line is now open.

Hey, guys. Thanks for taking the question. Good morning and Happy New Year. I did actually one who follow-up on a comment holding during the prepared remarks about stability, expecting stability in gross margin in 2018. But that’s just a price cost comment and then maybe we should layer on what has become this kind of normal 20 to 30 bp hit from next from the growth drivers. So like to [Multiple Speakers]

So thank you for clarifying. That’s right. It was intended to be comment about what we were doing at pricing and it was really twofold. One to just let you know that we are taking sort of part and places seriously and taking steps to do it. But the second is we are not necessarily looking at this is an opportunity to boost our margin, if you will, right. We are trying to defend our margin from product inflation that everybody in the marketplace knows that’s there. And so I think that you are right to think about in terms of -- it’s intended to offset product inflation and then the other variables that are always there on gross margin are still there.

Right. So thinking about just kind of level setting a base case for 2018 it seems like prices offsetting cost inflation and then you’ve got 20 to 30 basis points impact from the growth driver and so maybe that’s kind of what we see. Would that be kind of good expectations?

Yes. I think it’s a good place to start and then we’ll try to do everything we can freight and other element but I think a good place to start is what we said before, which is every year we kind of start off in the whole 20 to 30 basis points on gross margin because of product and customer mix and when you see how faster our National Accounts are growing, international growing, the Onsites are growing, there is no reason to think that that’s any different 2018 than it was 2017.

Got it. And if that happens do you think operating leverage [Multiple Speakers]

We try to religiously keep this till 45 minutes because we realized its earnings season and everybody business and have other call to hop on. Thank you everybody for participating on our call today. As our last question touched on, it forces us to focus very, very intently on the operating expenses within our business. Invest wisely to support growth, invest wisely to grow faster and but manage our expenses prudently. Thanks everybody. Have a good day.

Ladies and gentlemen, thank you for participation on today’s conference. This does conclude our program. And we may all disconnect. Everybody have a wonderful day.