Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

The Board of Directors and Stockholders of Fastenal Company:

We have audited the accompanying consolidated balance sheets of Fastenal Company and subsidiaries as of December 31, 2014 and 2013, and the related consolidated statements of earnings, comprehensive income, stockholders’ equity, and cash flows for each of the years in the three-year period ended December 31, 2014. In connection with our audits of the consolidated financial statements, we also have audited the financial statement schedule listed in the table of contents at Item 15. We also have audited the Company’s internal control over financial reporting as of December 31, 2014, based on criteria established in Internal Control – Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission. Fastenal Company’s management is responsible for these consolidated financial statements and the financial statement schedule, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Report on Internal Control Over Financial Reporting. Our responsibility is to express an opinion on these consolidated financial statements and the financial statement schedule and an opinion on the Company’s internal control over financial reporting based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement and whether effective internal control over financial reporting was maintained in all material respects. Our audits of the consolidated financial statements included examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements, assessing the accounting principles used and significant estimates made by management, and evaluating the overall financial statement presentation. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Fastenal Company and subsidiaries as of December 31, 2014 and 2013, and the results of their operations and their cash flows for each of the years in the three-year period ended December 31, 2014, in conformity with U.S. generally accepted accounting principles. Also, in our opinion, the related financial statement schedule, when considered in relation to the basic consolidated financial statements taken as a whole, presents fairly, in all material respects, the information set forth therein. Furthermore, in our opinion, Fastenal Company and subsidiaries maintained, in all material respects, effective internal control over financial reporting as of December 31, 2014, based on criteria established in Internal Control – Integrated Framework (1992) issued by the Committee of Sponsoring Organizations of the Treadway Commission.

/s/ KPMG LLP

Minneapolis, Minnesota

February 5, 2015

FASTENAL COMPANY AND SUBSIDIARIES

Consolidated Balance Sheets

(Amounts in thousands except share information)

	December 31
	2014				2013
Assets
Current assets:
Cash and cash equivalents	$	114,496			58,506
Marketable securities	—				451
Trade accounts receivable, net of allowance for doubtful accounts of $12,619 and $9,248, respectively	462,077				414,331
Inventories	869,224				784,068
Deferred income tax assets	21,765				18,248
Prepaid income taxes	—				24,869
Other current assets	115,703				107,988
Total current assets	1,583,265				1,408,461
Property and equipment, less accumulated depreciation	763,889				654,850
Other assets, net	11,948				12,473
Total assets	$	2,359,102			2,075,784
Liabilities and Stockholders' Equity
Current liabilities:
Line of credit	$	90,000			—
Accounts payable	103,909				91,253
Accrued expenses	174,002				148,579
Income taxes payable	7,442				—
Total current liabilities	375,353				239,832
Deferred income tax liabilities	68,532				63,255
Commitments and contingencies (notes 5, 9, and 10)
Stockholders’ equity:
Preferred stock, 5,000,000 shares authorized	—				—
Common stock, 400,000,000 shares authorized, 295,867,844 and 296,753,544 shares issued and outstanding, respectively	2,959				2,968
Additional paid-in capital	33,744				69,847
Retained earnings	1,886,350				1,688,781
Accumulated other comprehensive (loss) income	(7,836		)		11,101
Total stockholders’ equity	1,915,217				1,772,697
Total liabilities and stockholders’ equity	$	2,359,102			2,075,784

See accompanying notes to consolidated financial statements

FASTENAL COMPANY AND SUBSIDIARIES

Consolidated Statements of Earnings

(Amounts in thousands except earnings per share)

For the year ended December 31

	2014				2013			2012
Net sales	$	3,733,507			3,326,106			3,133,577
Cost of sales	1,836,105				1,606,661			1,519,053
Gross profit	1,897,402				1,719,445			1,614,524
Operating and administrative expenses	1,110,776				1,007,431			941,236
Gain on sale of property and equipment	(964		)		(643	)		(403	)
Operating income	787,590				712,657			673,691
Interest income	759				924			464
Interest expense	(915		)		(113	)		—
Earnings before income taxes	787,434				713,468			674,155
Income tax expense	293,284				264,832			253,619
Net earnings	$	494,150			448,636			420,536
Basic net earnings per share	$	1.67			1.51			1.42
Diluted net earnings per share	$	1.66			1.51			1.42
Basic weighted average shares outstanding	296,490				296,754			296,089
Diluted weighted average shares outstanding	297,313				297,684			297,151

See accompanying notes to consolidated financial statements

FASTENAL COMPANY AND SUBSIDIARIES

Consolidated Statements of Comprehensive Income

(Amounts in thousands)

For the year ended December 31

	2014				2013			2012
Net earnings	$	494,150			448,636			420,536
Other comprehensive (loss) income, net of tax:
Foreign currency translation adjustments (net of tax of $0 in 2014, 2013, and 2012)	(18,683		)		(7,354	)		3,522
Change in marketable securities (net of tax of $0 in 2014, 2013, and 2012)	(254		)		98			39
Comprehensive income	$	475,213			441,380			424,097

See accompanying notes to consolidated financial statements

FASTENAL COMPANY AND SUBSIDIARIES

Consolidated Statements of Stockholders’ Equity

(Amounts in thousands)

	Common Stock
	Shares			Amount				Additional Paid-in Capital			Retained Earnings			Accumulated Other Comprehensive Income (Loss)			Total Stockholders’ Equity
Balance as of December 31, 2011	295,258			$	2,953			16,856			1,424,371			14,796			1,458,976
Dividends paid in cash	—			—				—			(367,306	)		—			(367,306	)
Stock options exercised	1,306			13				29,631			—			—			29,644
Stock-based compensation	—			—				4,800			—			—			4,800
Excess tax benefits from stock-based compensation	—			—				10,149			—			—			10,149
Net earnings	—			—				—			420,536			—			420,536
Other comprehensive income (loss)	—			—				—			—			3,561			3,561
Balance as of December 31, 2012	296,564			$	2,966			61,436			1,477,601			18,357			1,560,360
Dividends paid in cash	—			—				—			(237,456	)		—			(237,456	)
Purchases of common stock	(200	)		(2		)		(9,078	)		—			—			(9,080	)
Stock options exercised	389			4				9,302			—			—			9,306
Stock-based compensation	—			—				5,400			—			—			5,400
Excess tax benefits from stock-based compensation	—			—				2,787			—			—			2,787
Net earnings	—			—				—			448,636			—			448,636
Other comprehensive income (loss)	—			—				—			—			(7,256	)		(7,256	)
Balance as of December 31, 2013	296,753			$	2,968			69,847			1,688,781			11,101			1,772,697
Dividends paid in cash	—			—				—			(296,581	)		—			(296,581	)
Purchases of common stock	(1,200	)		(12		)		(52,930	)		—			—			(52,942	)
Stock options exercised	315			3				7,694			—			—			7,697
Stock-based compensation	—			—				7,039			—			—			7,039
Excess tax benefits from stock-based compensation	—			—				2,094			—			—			2,094
Net earnings	—			—				—			494,150			—			494,150
Other comprehensive income (loss)	—			—				—			—			(18,937	)		(18,937	)
Balance as of December 31, 2014	295,868			$	2,959			33,744			1,886,350			(7,836	)		1,915,217

See accompanying notes to consolidated financial statements

FASTENAL COMPANY AND SUBSIDIARIES

Consolidated Statements of Cash Flows

(Amounts in thousands)

For the year ended December 31

	2014				2013			2012
Cash flows from operating activities:
Net earnings	$	494,150			448,636			420,536
Adjustments to reconcile net earnings to net cash provided by operating activities, net of acquisition:
Depreciation of property and equipment	72,145				63,770			53,459
Gain on sale of property and equipment	(964		)		(643	)		(403	)
Bad debt expense	11,480				9,421			9,726
Deferred income taxes	1,760				8,129			15,442
Stock-based compensation	7,039				5,400			4,800
Excess tax benefits from stock-based compensation	(2,094		)		(2,787	)		(10,149	)
Amortization of non-compete agreements	527				421			593
Changes in operating assets and liabilities, net of acquisition:
Trade accounts receivable	(63,418		)		(51,593	)		(43,291	)
Inventories	(87,622		)		(68,685	)		(69,231	)
Other current assets	(7,510		)		(10,627	)		(7,528	)
Accounts payable	12,501				13,234			4,240
Accrued expenses	25,263				22,424			14,193
Income taxes	34,405				(14,714	)		704
Other	1,730				(6,266	)		3,201
Net cash provided by operating activities	499,392				416,120			396,292
Cash flows from investing activities:
Purchases of property and equipment	(189,474		)		(206,540	)		(138,406	)
Cash paid for acquisition	(5,575		)		—			—
Proceeds from sale of property and equipment	5,819				4,990			4,524
Net decrease (increase) in marketable securities	451				(97	)		26,811
Net increase in other assets	(2		)		(145	)		(133	)
Net cash used in investing activities	(188,781		)		(201,792	)		(107,204	)
Cash flows from financing activities:
Borrowings under line of credit	705,000				260,000			—
Payments against line of credit	(615,000		)		(260,000	)		—
Proceeds from exercise of stock options	7,697				9,306			29,644
Excess tax benefits from stock-based compensation	2,094				2,787			10,149
Purchases of common stock	(52,942		)		(9,080	)		—
Payments of dividends	(296,581		)		(237,456	)		(367,306	)
Net cash used in financing activities	(249,732		)		(234,443	)		(327,513	)
Effect of exchange rate changes on cash and cash equivalents	(4,889		)		(990	)		360
Net increase (decrease) in cash and cash equivalents	55,990				(21,105	)		(38,065	)
Cash and cash equivalents at beginning of year	58,506				79,611			117,676
Cash and cash equivalents at end of year	$	114,496			58,506			79,611
Supplemental disclosure of cash flow information:
Cash paid during each year for interest	$	915			113			—
Net cash paid during each year for income taxes	$	257,514			270,615			268,357

See accompanying notes to consolidated financial statements

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements

Note 1. Business Overview and Summary of Significant Accounting Policies

Business Overview

Fastenal is a leader in the wholesale distribution of industrial and construction supplies operating a store-based business with approximately 2,700 locations. These locations are primarily in North America.

Principles of Consolidation

The consolidated financial statements include the accounts of Fastenal Company and its subsidiaries (collectively referred to as ‘Fastenal’ or by such terms as ‘we’, ‘our’, or ‘us’). All material intercompany balances and transactions have been eliminated in consolidation.

Revenue Recognition and Accounts Receivable

Net sales include products, services, and freight and handling costs billed, net of any related sales incentives paid to customers and net of an estimate for product returns. We recognize revenue when persuasive evidence of an arrangement exists, title and risk of ownership have passed, the sales price is fixed or determinable, and collectibility is reasonably assured. These criteria are met at the time the product is shipped to, or picked up by, the customer. We recognize billings for freight and handling charges at the time the products are shipped to, or picked up by, the customer. We recognize services at the time the service is completed and product is provided to the customer. We estimate product returns based on historical return rates. Accounts receivable are stated at their estimated net realizable value. The allowance for doubtful accounts is based on an analysis of customer accounts and our historical experience with accounts receivable write-offs. Sales taxes (and value added taxes in foreign jurisdictions) collected from customers and remitted to governmental authorities are accounted for on a net basis and therefore are excluded from net sales.

Foreign Currency Translation and Transactions

The functional currency of our foreign operations is typically the applicable local currency. The functional currency is translated into United States dollars for balance sheet accounts, except retained earnings, using current exchange rates as of the balance sheet date, for retained earnings at historical exchange rates, and for revenue and expense accounts using a weighted average exchange rate during the period. The translation adjustments are deferred as a separate component of stockholders’ equity captioned accumulated other comprehensive (loss) income. Gains or losses resulting from transactions denominated in foreign currencies are included in operating and administrative expenses.

Cash and Cash Equivalents

We consider all investments purchased with original maturities of three months or less to be cash equivalents.

Financial Instruments and Marketable Securities

All financial instruments are carried at amounts that approximate fair value. The fair value is the price at which an asset could be exchanged in a current transaction between knowledgeable, willing parties. Assets measured at fair value are categorized based upon the lowest level of significant input to the valuations. Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets or liabilities. Level 2 inputs are quoted prices for similar assets and liabilities in active markets or inputs that are observable for the asset or liability, either directly or indirectly through market corroboration. Level 3 inputs are unobservable inputs based upon our own assumptions used to measure assets and liabilities at fair value. In determining fair value we use observable market data when available.

We did not have any marketable securities as of December 31, 2014. Marketable securities as of December 31, 2013 consisted of common stock. We classified our marketable securities as available-for-sale. Available-for-sale securities were recorded at fair value based on current market value. Unrealized holding gains and losses on available-for-sale securities were excluded from earnings but were included in comprehensive income and were reported as a separate component of stockholders’ equity until realized, unless a decline in the market value of any available-for-sale security was below cost then the amount was deemed other than temporary and was charged to earnings, resulting in the establishment of a new cost basis for the security.

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Inventories

Inventories, consisting of finished goods merchandise held for resale, are stated at the lower of cost (first in, first out method) or market.

Property and Equipment

Property and equipment are stated at cost. Depreciation on property and equipment is provided for using the straight-line method over the anticipated economic useful lives of the related property. Long-lived assets are reviewed for impairment whenever events or changes in circumstances indicate that the carrying amount of an asset may not be recoverable. If circumstances require a long-lived asset or asset group be tested for possible impairment, we first compare undiscounted cash flows expected to be generated by the asset or asset group to its carrying value. If the carrying value of the long-lived asset or asset group is not recoverable on an undiscounted cash flow basis, an impairment is recognized to the extent the carrying value exceeds its fair value. Fair value is determined through various valuation techniques including discounted cash flow models, quoted market values, and third-party independent appraisals, as considered necessary. There were no impairments recorded during any of the three years reported in these consolidated financial statements.

Leases

We lease space under operating leases for certain distribution centers, stores, and manufacturing locations. These leases do not have significant rent escalation holidays, concessions, leasehold improvement incentives, or other build-out clauses. Any such terms are recognized as rent expense over the term of the lease. Further, the leases do not contain contingent rent provisions. Leasehold improvements on operating leases are amortized over their estimated service lives on a straight-line basis. We lease certain semi-tractors, pick-ups, and equipment under operating leases.

Other Long-Lived Assets

Other assets consist of prepaid security deposits, goodwill, non-compete agreements, and other related intangible assets. Goodwill represents the excess of the purchase price over the fair value of net assets acquired. Goodwill is reviewed for impairment annually. The non-compete and related intangible assets are amortized on a straight-line basis over their estimated life.

Accounting Estimates

The preparation of the consolidated financial statements in conformity with U.S. generally accepted accounting principles (GAAP) requires us to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reported period. Actual results could differ from those estimates.

Insurance Reserves

We are self-insured for certain losses relating to medical, dental, workers’ compensation, and other casualty losses. Specific stop loss coverage is provided for catastrophic claims in order to limit exposure to significant claims. Losses and claims are charged to operations when it is probable a loss has been incurred and the amount can be reasonably estimated. Accrued insurance liabilities are based on claims filed and estimates of claims incurred but not reported.

Product Warranties

We offer a basic limited warranty for certain of our products. The specific terms and conditions of those warranties vary depending upon the product sold. We typically recoup these costs through product warranties we hold with the original equipment manufacturers. Our warranty expense has historically been minimal.

Stock-Based Compensation

We estimate the value of stock option grants using a Black-Scholes valuation model. Stock-based compensation expense is recognized on a straight-line basis over the vesting period. Our stock-based compensation expense is recorded in operating and administrative expenses.

We report the benefits of tax deductions in excess of recognized stock-based compensation as cash flows from financing activities, thereby reducing net operating cash flows and increasing net financing cash flows.

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Income Taxes

We account for income taxes under the asset and liability method. Under this method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. The effect on deferred tax assets and liabilities of a change in tax rates is recognized in income in the period that includes the enactment date.

We recognize the effect of income tax positions only if those positions are more likely than not to be sustained. Recognized income tax positions are measured at the largest amount that is greater than 50% likely of being realized. Changes in recognition or measurement are reflected in the period in which the change in judgment occurs. We record interest and penalties related to unrecognized tax benefits in income tax expense.

Earnings Per Share

Basic net earnings per share is calculated using net earnings available to common stockholders divided by the weighted average number of shares of common stock outstanding during the year. Diluted net earnings per share is similar to basic net earnings per share except that the weighted average number of shares of common stock outstanding includes the incremental shares assumed to be issued upon the exercise of stock options considered to be ‘in-the-money’ (i.e. when the market price of our stock is greater than the exercise price of our outstanding stock options).

Segment Reporting

We have determined that we meet the aggregation criteria outlined in the accounting standards as our various operations have similar (1) economic characteristics, (2) products and services, (3) customers, (4) distribution channels, and (5) regulatory environments. Therefore, we report as a single business segment.

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Note 2. Financial Instruments and Marketable Securities

Due to the varying short-term cash needs of our business, we periodically have marketable securities. We value these assets utilizing a fair value hierarchy that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted prices in active markets for identical assets and liabilities (Level 1) and the lowest priority to measurements involving significant unobservable inputs (Level 3). The three levels of the fair value hierarchy and how they are determined are defined earlier in Note 1.

Note 3. Long-Lived Assets

Property and equipment

Property and equipment at year end consists of the following:

	Depreciable Life in Years			2014				2013
Land	—			$	36,511			36,644
Buildings and improvements	15 to 40			224,365				216,852
Automated storage and retrieval equipment	5 to 30			116,127				98,474
Equipment and shelving	3 to 10			519,635				462,224
Transportation equipment	3 to 5			59,459				57,536
Construction in progress	—			237,637				148,172
				1,193,734				1,019,902
Less accumulated depreciation				(429,845		)		(365,052	)
Net property and equipment				$	763,889			654,850

Note 4. Accrued Expenses

Accrued expenses at year end consist of the following:

	2014				2013
Payroll and related taxes	$	21,928			21,960
Bonuses and commissions	20,910				12,502
Profit sharing contribution	11,460				12,211
Insurance	31,137				30,880
Promotions	23,224				18,047
Sales, real estate, and personal property taxes	58,716				47,784
Deferred revenue	3,125				2,447
Legal reserves	1,684				795
Other	1,818				1,953
	$	174,002			148,579

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Note 5. Stockholders’ Equity

Our authorized, issued, and outstanding shares (stated in whole numbers) at year end consist of the following:

	Par Value		2014			2013
Preferred stock	.01/share
Shares authorized			5,000,000			5,000,000
Shares issued and outstanding			—			—
Common stock	.01/share
Shares authorized			400,000,000			400,000,000
Shares issued and outstanding			295,867,844			296,753,544

Dividends

On January 14, 2015, our board of directors declared a quarterly dividend of $0.28 per share of common stock to be paid in cash on February 27, 2015 to shareholders of record at the close of business on January 30, 2015. We paid aggregate annual dividends per share of $1.00, $0.80, and $1.24 in 2014, 2013, and 2012, respectively. The 2012 amount included a fourth quarter supplemental dividend of $0.50.

Stock Purchases

On January 14, 2015, our board of directors increased the maximum number of shares of our common stock that may yet be purchased to 2,000,000 shares.

Stock Options

The following tables summarize the details of grants made under our stock option plan that are still outstanding, and the assumptions used to value these grants. All options granted were effective at the close of business on the date of grant.

	Options Granted			Option Exercise (Strike) Price				Closing Stock Price on Date of Grant				December 31, 2014
Date of Grant	Options Outstanding			Options Exercisable
April 22, 2014	955,000			$	56.00			$	50.53			852,500			—
April 16, 2013	205,000			$	54.00			$	49.25			155,000			—
April 17, 2012	1,235,000			$	54.00			$	49.01			1,077,500			243,750
April 19, 2011	410,000			$	35.00			$	31.78			320,000			60,000
April 20, 2010	530,000			$	30.00			$	27.13			237,300			102,300
April 21, 2009	790,000			$	27.00			$	17.61			345,600			199,350
April 15, 2008	550,000			$	27.00			$	24.35			172,500			117,500
April 17, 2007	4,380,000			$	22.50			$	20.15			1,551,930			1,249,430
Total	9,055,000											4,712,330			1,972,330

Date of Grant	Risk-free Interest Rate			Expected Life of Option in Years		Expected Dividend Yield			Expected Stock Volatility			Estimated Fair Value of Stock Option
April 22, 2014	1.8	%		5.00		2.0	%		28.55	%		$	9.57
April 16, 2013	0.7	%		5.00		1.6	%		37.42	%		$	12.66
April 17, 2012	0.9	%		5.00		1.4	%		39.25	%		$	13.69
April 19, 2011	2.1	%		5.00		1.6	%		39.33	%		$	11.20
April 20, 2010	2.6	%		5.00		1.5	%		39.10	%		$	8.14
April 21, 2009	1.9	%		5.00		1.0	%		38.80	%		$	3.64
April 15, 2008	2.7	%		5.00		1.0	%		30.93	%		$	7.75
April 17, 2007	4.6	%		4.85		1.0	%		31.59	%		$	5.63

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

All of the options in the tables above vest and become exercisable over a period of up to eight years. Each option will terminate approximately nine years after the grant date.

The fair value of each share-based option is estimated on the date of grant using a Black-Scholes valuation method that uses the assumptions listed above. The risk-free interest rate is based on the U.S. Treasury rate over the expected life of the option at the time of grant. The expected life is the average length of time over which we expect the employee groups will exercise their options, which is based on historical experience with similar grants. The dividend yield is estimated over the expected life of the option based on our current dividend payout, historical dividends paid, and expected future cash dividends. Expected volatilities are based on the movement of our stock over the most recent historical period equivalent to the expected life of the option.

A summary of the activity under our stock option plan is as follows:

	Options Outstanding			Exercise Price1				Remaining Life2
Outstanding as of January 1, 2014	4,356,630			$	34.06			4.66
Granted	955,000			$	56.00			8.41
Exercised	(314,300	)		$	24.49
Cancelled/forfeited	(285,000	)		$	44.39
Outstanding as of December 31, 2014	4,712,330			$	38.52			4.59
Exercisable as of December 31, 2014	1,972,330			$	27.89			2.51

	Options Outstanding			Exercise Price1				Remaining Life2
Outstanding as of January 1, 2013	4,835,792			$	32.51			5.40
Granted	205,000			$	54.00			8.41
Exercised	(389,162	)		$	23.91
Cancelled/forfeited	(295,000	)		$	35.89
Outstanding as of December 31, 2013	4,356,630			$	34.06			4.66
Exercisable as of December 31, 2013	1,442,380			$	23.61			2.74

1	Weighted average exercise price

2	Weighted average remaining contractual life in years

The total intrinsic value of stock options exercised during the years ended December 31, 2014, 2013, and 2012 was $7,466, $9,925, and $34,424, respectively. The intrinsic value represents the difference between the exercise price and fair value of the underlying shares at the date of exercise.

At December 31, 2014, there was $15,908 of total unrecognized compensation cost related to unvested stock options granted under the plan. This cost is expected to be recognized over a weighted average period of 4.60 years. The total grant date fair value of options vested under our stock option plan during 2014, 2013, and 2012 was $7,287, $3,508, and $3,866, respectively.

Total stock-based compensation expense related to our stock option plan was $7,039, $5,400, and $4,800 for 2014, 2013, and 2012, respectively.

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Earnings Per Share

The following tables present a reconciliation of the denominators used in the computation of basic and diluted earnings per share and a summary of the options to purchase shares of common stock which were excluded from the diluted earnings calculation because they were anti-dilutive:

Reconciliation	2014			2013			2012
Basic weighted average shares outstanding	296,490,378			296,754,160			296,089,348
Weighted shares assumed upon exercise of stock options	822,866			929,428			1,061,602
Diluted weighted average shares outstanding	297,313,244			297,683,588			297,150,950

Summary of Anti-dilutive Options Excluded	2014				2013			2012
Options to purchase shares of common stock	1,903,767				1,273,527			847,254
Weighted average exercise prices of options	$	54.67			54.00			54.00

Any dilutive impact summarized above would relate to periods when the average market price of our stock exceeded the exercise price of the potentially dilutive options then outstanding.

Note 6. Retirement Savings Plan

The Fastenal Company and Subsidiaries 401(k) and Employee Stock Ownership Plan covers all of our employees in the United States. Our employees in Canada may participate in a Registered Retirement Savings Plan. The general purpose of both of these plans is to provide additional financial security during retirement by providing employees with an incentive to make regular savings. In addition to the contributions of our employees, we make a profit sharing contribution on an annual basis based on an established formula. Our contribution expense under this profit sharing formula was approximately $11,460, $12,211 and $11,110 for 2014, 2013, and 2012, respectively.

Note 7. Income Taxes

Earnings before income taxes were derived from the following sources:

	2014				2013			2012
Domestic	$	757,896			697,062			649,098
Foreign	29,538				16,406			25,057
	$	787,434			713,468			674,155

Components of income tax expense (benefit) are as follows:

2014 :	Current				Deferred			Total
Federal	$	250,527			1,919			252,446
State	30,768				256			31,024
Foreign	10,518				(704	)		9,814
	$	291,813			1,471			293,284

2013 :	Current				Deferred			Total
Federal	$	220,588			8,547			229,135
State	29,073				527			29,600
Foreign	7,487				(1,390	)		6,097
	$	257,148			7,684			264,832

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

2012 :	Current				Deferred			Total
Federal	$	202,095			14,742			216,837
State	27,586				981			28,567
Foreign	8,476				(261	)		8,215
	$	238,157			15,462			253,619

Income tax expense in the accompanying consolidated financial statements differs from the expected expense as follows:

	2014				2013			2012
Federal income tax expense at the ‘expected’ rate of 35%	$	275,602			249,714			235,954
Increase (decrease) attributed to:
State income taxes, net of federal benefit	20,549				16,683			20,449
Other, net	(2,867		)		(1,565	)		(2,784	)
Total income tax expense	$	293,284			264,832			253,619
Effective income tax rate	37.2		%		37.1	%		37.6	%

The tax effects of temporary differences that give rise to deferred income tax assets and liabilities at year end are as follows:

	2014				2013
Deferred income tax assets (liabilities):
Inventory costing and valuation methods	$	4,311			3,834
Allowance for doubtful accounts receivable	4,873				3,586
Insurance claims payable	10,404				10,594
Promotions payable	1,586				1,240
Stock-based compensation	7,837				5,974
Federal and state benefit of uncertain tax positions	1,327				1,158
Foreign net operating loss and credit carryforwards	5,768				5,089
Foreign valuation allowances	(3,007		)		(2,819	)
Other, net	592				932
Total deferred income tax assets	33,691				29,588
Property and equipment	(80,458		)		(74,595	)
Total deferred income tax liabilities	(80,458		)		(74,595	)
Net deferred income tax liabilities	$	(46,767	)		(45,007	)

A reconciliation of the beginning and ending amount of total gross unrecognized tax benefits is as follows:

	2014				2013
Balance at start of year:	$	3,282			5,331
Increase related to prior year tax positions	185				37
Decrease related to prior year tax positions	(113		)		(1,695	)
Increase related to current year tax positions	924				1,058
Decrease related to statute of limitation lapses	(506		)		—
Settlements	—				(1,449	)
Balance at end of year:	$	3,772			3,282

Included in the liability for unrecognized tax benefits is an immaterial amount for interest and penalties, both of which we classify as a component of income tax expense. The amount of unrecognized tax benefits that would favorably impact the effective tax rate, if recognized, is not material.

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Fastenal Company or one of its subsidiaries files income tax returns in the United States federal jurisdiction, all states, and various foreign jurisdictions. With limited exceptions, we are no longer subject to income tax examinations by taxing authorities for taxable years before 2011 in the case of United States federal and foreign examinations and 2010 in the case of state and local examinations.

In general, it is our practice and intention to permanently reinvest the earnings of our foreign subsidiaries and repatriate earnings only when the tax impact is zero or very minimal. As of December 31, 2014, we have not made a provision for United States income taxes or for additional foreign withholding taxes on $112,908 of unremitted earnings, of which $7,560 is in the form of cash. Generally, such amounts become subject to United States taxation upon the remittance of dividends and under certain other circumstances. It is not practicable to estimate the amount of deferred income tax liabilities related to investments in these foreign subsidiaries.

Note 8. Geographic Information

Our revenues and long-lived assets relate to the following geographic areas:

Revenues	2014				2013			2012
United States	$	3,308,226			2,951,673			2,798,124
Canada	238,590				227,756			218,570
Other foreign countries	186,691				146,677			116,883
	$	3,733,507			3,326,106			3,133,577

Long-Lived Assets	2014				2013			2012
United States	$	725,189			632,783			495,609
Canada	37,580				22,572			15,954
Other foreign countries	13,068				11,968			17,613
	$	775,837			667,323			529,176

The accounting policies of the operations in the various geographic areas are the same as those described in the summary of significant accounting policies. Long-lived assets consist of property and equipment, location security deposits, goodwill, and other intangibles. Revenues are attributed to countries based on the location of the store from which the sale occurred. No single customer represents 10% or more of our consolidated net sales.

Note 9. Operating Leases

We lease space under non-cancelable operating leases for several distribution centers, several manufacturing locations, and certain store locations with initial terms of one to 84 months. Most store locations have initial lease terms of 36 to 48 months. These leases do not have significant rent escalation holidays, concessions, leasehold improvement incentives, or other build-out clauses. Any such terms are recognized as rent expense over the term of the lease. Further, the leases do not contain contingent rent provisions. Leasehold improvements, with a net book value of $1,732 at December 31, 2014, on operating leases are amortized over a 36-month period. We lease certain semi-tractors and pick-ups under operating leases. The semi-tractor leases typically have a lease term of 48 to 60 months. The pick-up leases typically have a non-cancelable lease term of approximately one year, with renewal options for up to 72-months. Our average lease term for pick-ups is typically for 28 to 36 months. Future minimum annual rentals for the leased facilities and equipment, and the leased vehicles are as follows:

	Leased Facilities and Equipment				Leased Vehicles			Total
2015	$	92,333			23,991			116,324
2016	66,083				15,336			81,419
2017	40,357				6,682			47,039
2018	21,936				1,177			23,113
2019	8,569				—			8,569
2020 and thereafter	1,922				—			1,922
	$	231,200			47,186			278,386

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Rent expense under all operating leases was as follows:

	Leased Facilities and Equipment				Leased Vehicles			Total
2014	$	103,294			35,731			139,025
2013	$	99,483			32,907			132,390
2012	$	96,540			29,039			125,579

Certain operating leases for vehicles contain residual value guarantee provisions which would generally become due at the expiration of the operating lease agreement if the fair value of the leased vehicles is less than the guaranteed residual value. The aggregate residual value guarantee related to these leases is approximately $50,130. We believe the likelihood of funding the guarantee obligation under any provision of the operating lease agreements is remote other than where we have established an accrual for estimated losses, which is immaterial at December 31, 2014. To the extent our fleet contains vehicles we estimate will settle at a gain, such gains on these vehicles will be recognized when we sell the vehicle.

Note 10. Commitments and Contingencies

Credit Facilities and Commitments

We have a $230,000 unsecured revolving credit facility which expires December 31, 2016. The facility includes a $45,000 letter of credit subfacility. At December 31, 2014 and 2013, there were undrawn letters of credit outstanding under this facility with a face amount of $37,315 and $34,415, respectively, and there were loans outstanding under this facility of $90,000 and $0, respectively. We have the right to prepay this debt and intend to repay this amount using cash within the next twelve months; therefore, we have classified the debt as a current liability. Loans under the facility are subject to certain financial covenants, and we are currently in compliance with these covenants.

Loans under the facility, other than swingline loans, bear interest at a rate per annum equal to, at our election, either (i) LIBOR for an interest period of one month, reset daily, plus 0.875%, or (ii) LIBOR for an interest period of one, two, three, six or twelve months as selected by us, reset at the end of the selected interest period, plus 0.875%. The outstanding loan amount at December 31, 2014 bears interest at a rate per annum equal to option (i) noted above. Given the LIBOR rate at December 31, 2014, our effective per annum interest rate at year end was approximately 1.1%. Swingline loans bear interest at a rate per annum equal to LIBOR for an interest period of one month, reset daily, plus 0.875%. We pay a commitment fee for the unused portion of the facility of 0.10% per annum if the average quarterly utilization of the facility is 20% or more, or 0.125% per annum if the average quarterly utilization of the facility is less than 20%. For each letter of credit issued under the facility, we pay a commission fee on the amount available to be drawn under such letter of credit equal to 0.875% per annum and, subject to certain exceptions, an issuance fee equal to 0.075% of the face amount of such letter of credit.

Legal Contingencies

We are involved in certain legal actions. The outcomes of these legal actions are not within our complete control and may not be known for prolonged periods of time. In some actions, the claimants seek damages, as well as other relief, that could require significant expenditures or result in lost revenues. We record a liability for these legal actions when a loss is known or considered probable and the amount can be reasonably estimated. If the reasonable estimate of a known or probable loss is a range, and no amount within the range is a better estimate than any other, the minimum amount of the range is accrued. If a loss is reasonably possible but not known or probable, and can be reasonably estimated, the estimated loss or range of loss is disclosed. In most cases, significant judgment is required to estimate the amount and timing of a loss to be recorded. As of December 31, 2014, there were no litigation matters that we consider to be probable or reasonably possible to have a material adverse outcome.

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Note 11. Sales by Product Line

The percentages of our net sales by product line are as follows:

Type	Introduced		2014		2013		2012
Fasteners1	1967		40.2%		42.1%		44.0%
Tools	1993		9.3%		9.2%		9.3%
Cutting tools	1996		5.5%		5.4%		5.1%
Hydraulics & pneumatics	1996		7.2%		7.3%		7.6%
Material handling	1996		6.1%		5.7%		6.0%
Janitorial supplies	1996		7.3%		7.0%		6.6%
Electrical supplies	1997		4.7%		4.6%		4.7%
Welding supplies	1997		4.7%		4.5%		4.3%
Safety supplies2	1999		12.8%		11.2%		9.3%
Metals	2001		0.4%		0.5%		0.5%
Direct ship3	2004		1.0%		1.5%		1.6%
Office supplies	2010		0.1%		0.1%		0.1%
Other			0.7%		0.9%		0.9%
			100.0%		100.0%		100.0%

1	Fastener product line represents fasteners and miscellaneous supplies.

2	The safety supplies product line has expanded, as a percentage of sales, in the last several years due to our FAST Solutions® (industrial vending) program.

3	Direct ship represents a cross section of products from the eleven product lines. The items included here represent certain items with historically low margins which are shipped directly from our distribution channel to our customers, bypassing our store network.

Note 12. Subsequent Events

We evaluated all subsequent event activity and concluded that no subsequent events have occurred that would require recognition in the consolidated financial statements or disclosure in the notes to the consolidated financial statements, with the exception of the dividend declaration and stock purchase authorization disclosed in Note 5.

Note 13. New and Proposed Accounting Pronouncements

New Accounting Pronouncements

In April 2014, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2014-08, Presentation of Financial Statements (Topic 205) and Property, Plant, and Equipment (Topic 360): Reporting Discontinued Operations and Disclosures of Disposals of Components of an Entity, which amends the threshold for a disposal to qualify as discontinued operations and requires new disclosures for individually material disposal transactions that do not meet the definition of a discontinued operation. Under the new standard, companies report discontinued operations when they have a disposal that represents a strategic shift that has or will have a major impact on operations or financial results. This ASU will be applied prospectively and is effective for interim and annual periods beginning after December 15, 2014. Early adoption is permitted provided the disposal was not previously disclosed. This ASU is not expected to have a material impact on our consolidated financial statements.

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers, which requires an entity to recognize the amount of revenue to which it expects to be entitled for the transfer of promised goods or services to customers. This ASU will replace most existing revenue recognition guidance in U.S. GAAP when it becomes effective. The new standard is effective for us on January 1, 2017. Early adoption is not permitted. The standard permits the use of either the retrospective or cumulative effect transition method. We are evaluating the effect this ASU will have on our consolidated financial statements and related disclosures. We have not yet selected a transition method nor have we determined the effect of the standard on our ongoing financial reporting.

Fastenal Company and Subsidiaries

Notes to Consolidated Financial Statements—Continued

Proposed Accounting Pronouncements

In May 2013, the FASB reissued an exposure draft on lease accounting which would require entities to recognize assets and liabilities arising from lease contracts on the balance sheet. We have not yet determined the impact the adoption of this proposed standard will have on our consolidated financial statements. As of December 31, 2014, we lease approximately 90% of our store locations, five of our distribution and packaging facilities, two of our manufacturing facilities, and a significant portion of our distribution fleet.

Note 14. Selected Quarterly Financial Data (Unaudited)

(Amounts in thousands except per share information)

2014 :	Net Sales				Gross Profit			Pre-tax Earnings			Net Earnings			Basic Net Earnings per Share
First quarter	$	876,501			448,478			178,845			111,931			0.38
Second quarter	949,938				482,667			206,782			130,514			0.44
Third quarter	980,814				498,693			212,988			133,314			0.45
Fourth quarter	926,254				467,564			188,819			118,391			0.40
Total	$	3,733,507			1,897,402			787,434			494,150			1.67

2013 :	Net Sales				Gross Profit			Pre-tax Earnings			Net Earnings			Basic Net Earnings per Share
First quarter	$	806,326			421,880			175,172			109,048			0.37
Second quarter	847,596				442,721			192,379			121,009			0.41
Third quarter	858,424				443,395			188,643			119,350			0.40
Fourth quarter	813,760				411,449			157,274			99,229			0.33
Total	$	3,326,106			1,719,445			713,468			448,636			1.51

End of Notes to Consolidated Financial Statements