Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The following is management's discussion and analysis of certain significant factors which have affected our financial position and operating results during the periods included in the accompanying condensed consolidated financial statements. Dollar amounts are stated in millions except for share and per share amounts and where otherwise noted. Throughout this document, percentage and dollar change calculations, which are based on non-rounded dollar values, may not be able to be recalculated using the dollar values in this document due to the rounding of those dollar values. References to daily sales rate (DSR) change may reflect either growth (positive) or contraction (negative) for the applicable period.

Business

Fastenal is a North American leader in the wholesale distribution of industrial and construction supplies. We distribute these supplies through a network of approximately 3,400 in-market locations. Most of our customers are in the manufacturing and non-residential construction markets. The manufacturing market includes sales of products for both original equipment manufacturing (OEM), where our products are consumed in the final products of our customers, and manufacturing, repair and operations (MRO), where our products are consumed to support the facilities and ongoing operations of our customers. The non-residential construction market includes general, electrical, plumbing, sheet metal, and road contractors. Other users of our products include farmers, truckers, railroads, oil exploration companies, oil production and refinement companies, mining companies, federal, state, and local governmental entities, schools, and certain retail trades. Geographically, our branches, Onsite locations, and customers are primarily located in North America, though we continue to grow our non-North American presence as well.

Our motto is Growth Through Customer Service**®** and our tagline is Where Industry Meets Innovation**™**. We are a customer- and growth-centric organization focused on identifying unique technologies, capabilities, and supply chain solutions that get us closer to our customers and reduce the total cost of their global supply chain. We believe this close-to-the-customer, 'high-touch, high-tech' partnership approach is differentiated in the marketplace and allows us to gain market share in what remains a fragmented industrial distribution market.

Executive Overview

The following table presents a performance summary of our results of operations for the nine-month and three-month periods ended September 30, 2023 and 2022.

			Nine-month Period																		Three-month Period
			2023						2022						Change						2023						2022						Change
Net sales			$	5,588.1					5,285.0						5.7		%				$	1,845.9					1,802.4						2.4		%
Business days			191						192												63						64
Daily sales			$	29.3					27.5						6.3		%				$	29.3					28.2						4.0		%
Gross profit			$	2,555.1					2,447.4						4.4		%				$	847.6					826.5						2.6		%
% of net sales			45.7		%				46.3		%										45.9		%				45.9		%
Operating and administrative expenses			$	1,380.2					1,326.7						4.0		%				$	460.9					447.3						3.0		%
% of net sales			24.7		%				25.1		%										25.0		%				24.8		%
Operating income			$	1,174.9					1,120.7						4.8		%				$	386.7					379.2						2.0		%
% of net sales			21.0		%				21.2		%										21.0		%				21.0		%
Earnings before income taxes			$	1,167.8					1,111.8						5.0		%				$	385.4					375.3						2.7		%
% of net sales			20.9		%				21.0		%										20.9		%				20.8		%
Net earnings			$	888.6					841.3						5.6		%				$	295.5					284.6						3.8		%
Diluted net earnings per share			$	1.55					1.46						6.3		%				$	0.52					0.50						4.1		%
Note – Daily sales are defined as the total net sales for the period divided by the number of business days (in the United States) in the period.

The table below summarizes our absolute and full time equivalent (FTE; based on 40 hours per week) employee headcount, our investments related to in-market locations (defined as the sum of the total number of branch locations and the total number of active Onsite locations), and weighted Fastenal Managed Inventory (FMI) devices at the end of the periods presented and the percentage change compared to the end of the prior periods.

												Change Since:									Change Since:									Change Since:
			Q3 2023						Q2 2023			Q2 2023						Q4 2022			Q4 2022						Q3 2022			Q3 2022
Total selling personnel - absolute employee headcount			16,261						16,302			-0.3		%				15,898			2.3		%				15,662			3.8		%
Total selling personnel - FTE employee headcount			14,750						14,993			-1.6		%				14,476			1.9		%				14,284			3.3		%
Total personnel - absolute employee headcount			22,862						22,913			-0.2		%				22,386			2.1		%				22,025			3.8		%
Total personnel - FTE employee headcount			20,284						20,631			-1.7		%				19,854			2.2		%				19,519			3.9		%
Number of branch locations			1,615						1,635			-1.2		%				1,683			-4.0		%				1,716			-5.9		%
Number of active Onsite locations			1,778						1,728			2.9		%				1,623			9.6		%				1,567			13.5		%
Number of in-market locations			3,393						3,363			0.9		%				3,306			2.6		%				3,283			3.4		%
Weighted FMI devices (MEU installed count)			110,191						107,115			2.9		%				102,151			7.9		%				99,409			10.8		%

During the last twelve months, we increased our total FTE employee headcount by 765. This reflects an increase in our total FTE selling personnel of 466 to support growth in the marketplace and sales initiatives targeting customer acquisition. We had an increase in our distribution and transportation FTE personnel of 95 to support increased product throughput at our facilities and to expand our local inventory fulfillment terminals (LIFTs). We had an increase in our remaining FTE personnel of 204 that relates primarily to personnel investments in information technology, manufacturing, and operational support, such as purchasing and product development.

The table below summarizes the number of branches opened and closed, net of conversions, as well as the number of Onsites activated and closed, net of conversions during the periods presented.

			Nine-month Period									Three-month Period
			2023			2022						2023			2022
Branch openings			8			11						3			3
Branch closures, net of conversions			(76)			(88)						(23)			(24)
Onsite activations			252			230						79			92
Onsite closures, net of conversions			(97)			(79)						(29)			(26)

In any period, the number of closings tends to reflect normal churn in our business, whether due to redefining or exiting customer relationships, the shutting or relocation of customer facilities that host our locations, or a customer decision, as well as our ongoing review of underperforming locations. Our in-market network forms the foundation of our business strategy, and we will continue to open or close locations as is deemed necessary to sustain and improve our network, support our growth drivers, and manage our operating expenses.

THIRD QUARTER OF 2023 VERSUS THIRD QUARTER OF 2022

Results of Operations

The following table sets forth condensed consolidated statement of earnings information (as a percentage of net sales) for the periods ended September 30:

			Three-month Period
			2023						2022
Net sales			100.0		%				100.0		%
Gross profit			45.9		%				45.9		%
Operating and administrative expenses			25.0		%				24.8		%
Operating income			21.0		%				21.0		%
Net interest expense			-0.1		%				-0.2		%
Earnings before income taxes			20.9		%				20.8		%
Note – Amounts may not foot due to rounding difference.

Sales

The table below sets forth net sales and daily sales for the periods ended September 30, and changes in such sales from the prior period to the more recent period:

			Three-month Period
			2023						2022
Net sales			$	1,845.9					1,802.4
Percentage change			2.4		%				16.0		%
Business days			63						64
Daily sales			$	29.3					28.2
Percentage change			4.0		%				16.0		%
Daily sales impact of currency fluctuations			-0.1		%				-0.6		%

Net sales increased $43.5, or 2.4%, in the third quarter of 2023 when compared to the third quarter of 2022. There was one fewer selling day in the quarter relative to the prior year period and, taking this into consideration, our net daily sales growth increased 4.0% in the third quarter of 2023 compared to the third quarter of 2022. We experienced higher unit sales in the third quarter of 2023 that was primarily due to growth at our Onsite locations, particularly those opened in the last two years. This more than offset the impact of softer end market demand on our manufacturing customers and lower revenues to construction and reseller customers. Foreign exchange negatively affected sales in the third quarter of 2023 by approximately 10 basis points.

The impact of product pricing on net sales in the third quarter of 2023 was modestly positive, consistent with historical trends, as compared to the impact of product pricing on net sales in the third quarter of 2022 of 550 to 580 basis points. Incremental pricing actions over the past twelve months have been of modest scope, resulting in mostly stable price levels through the third quarter of 2023.

From a product standpoint, we have three categories: fasteners, safety supplies, and other products, the latter of which includes eight smaller product categories, such as tools, janitorial supplies, and cutting tools. We experienced increasing divergence in the performance of our fastener versus our non-fastener product lines in the third quarter of 2023, which we believe relates to two factors. First, fasteners are more heavily oriented toward production of final goods than maintenance, which results in greater susceptibility to weaker manufacturing end markets. Second, pricing for fasteners has decelerated at a faster pace than non-fastener products. The DSR change when compared to the same period in the prior year and the percent of sales in the period were as follows:

			DSR Change Three-month Period									% of Sales Three-month Period
			2023			2022						2023			2022
Fasteners			-2.0		%	18.2		%				32.1		%	34.1		%
Safety supplies			9.2		%	12.4		%				21.4		%	20.5		%
Other			6.8		%	15.4		%				46.5		%	45.4		%

Our end markets consist of manufacturing, non-residential construction, reseller, and other, the latter of which includes government/education and transportation/warehousing. We continued to experience a significant divergence in the performance of our manufacturing end market versus our non-manufacturing end markets in the third quarter of 2023. We are growing relatively faster with key account customers, particularly Onsites, with significant managed spend where our service model and technology is particularly impactful, which disproportionately benefits manufacturing customers. The DSR change when compared to the same period in the prior year and the percent of sales in the period were as follows:

			DSR Change Three-month Period									% of Sales Three-month Period
			2023			2022						2023			2022
Heavy manufacturing			9.0		%	25.4		%				43.2		%	41.3		%
Other manufacturing			2.5		%	19.1		%				31.1		%	31.6		%
Non-residential construction			-7.2		%	5.2		%				9.1		%	10.2		%
Reseller			-6.9		%	3.7		%				5.8		%	6.5		%
Other end markets			8.1		%	-4.3		%				10.8		%	10.4		%

We report our customers in two categories: national accounts, which are customers with a multi-site contract, and non-national accounts, which include large regional customers, small local customers, and government customers. We continued to experience a significant divergence in the performance of our national account customers versus our non-national account customers, which relates to the relative growth of our sales through Onsite locations and larger, key accounts. The DSR change when compared to the same period in the prior year and the percent of sales in the period were as follows:

			DSR Change Three-month Period									% of Sales Three-month Period
			2023			2022						2023			2022
National accounts			8.6		%	20.8		%				60.8		%	58.0		%
Non-national accounts			-1.9		%	9.9		%				39.2		%	42.0		%

Growth Drivers

• We signed 93 new Onsite locations (defined as dedicated sales and service provided from within, or in proximity to, the customer's facility) in the third quarter of 2023, resulting in 268 year-to-date signings of new Onsite locations. We had 1,778 active sites on September 30, 2023, which represented an increase of 13.5% from September 30, 2022. Daily sales through our Onsite locations, excluding sales transferred from branches to new Onsites, grew at a low double-digit rate in the third quarter of 2023 over the third quarter of 2022. This growth is primarily due to contributions from Onsites activated and implemented in 2022 and 2023. Based on the signings in the first nine months of 2023, we currently expect to sign approximately 350 new Onsite locations for the full year of 2023.

• FMI Technology is comprised of our FASTStock℠ (scanned stocking locations), FASTBin® (infrared, RFID, and scaled bins), and FASTVend® (vending devices) offering. FASTStock's fulfillment processing technology is not embedded, is relatively less expensive and highly flexible in application, and delivered using our proprietary mobility technology. FASTBin and FASTVend incorporate highly efficient and powerful embedded data tracking and fulfillment processing technologies. Prior to 2021, we reported exclusively on the signings, installations, and sales of FASTVend. Beginning in the first quarter of 2021, we began disclosing certain statistics around our FMI offering. The first statistic is a weighted FMI**®** measure which combines the signings and installations of FASTBin and FASTVend in a standardized machine equivalent unit (MEU) based on the expected output of each type of device. We do not include FASTStock in this measurement because scanned stocking locations can take many forms, such as bins, shelves, cabinets, pallets, etc., that cannot be converted into a standardized MEU. The second statistic is revenue through FMI Technology which combines the sales through FASTStock, FASTBin, and FASTVend. A portion of the growth in sales experienced by FMI, particularly FASTStock and FASTBin, reflects the migration of products from less efficient non-digital stocking locations to more efficient, digital stocking locations.

The table below summarizes the signings and installations of, and sales through, our FMI devices.

			Three-month Period
			2023						2022						Change
Weighted FASTBin/FASTVend signings (MEUs)			5,969						5,187						15.1		%
Signings per day			95						81
Weighted FASTBin/FASTVend installations (MEUs; end of period)			110,191						99,409						10.8		%
FASTStock sales			$	234.2					215.9						8.5		%
% of sales			12.5		%				11.8		%
FASTBin/FASTVend sales			$	526.2					456.9						15.2		%
% of sales			28.2		%				25.1		%
FMI sales			$	760.4					672.8						13.0		%
FMI daily sales			$	12.1					10.5						14.8		%
% of sales			40.7		%				36.9		%

Our goal for weighted FASTBin and FASTVend device signings in 2023 remains between 23,000 to 25,000 MEUs.

• Our eCommerce business includes sales made through an electronic data interface (EDI), or other types of technical integrations, and through our web verticals. Daily sales through eCommerce grew 41.3% in the third quarter of 2023 and represented 24.5% of our total sales in the period.

Our digital products and services are comprised of sales through FMI (FASTStock, FASTBin, and FASTVend) plus that proportion of our eCommerce sales that do not represent billings of FMI services (collectively, our Digital Footprint). We believe the data that is created through our digital capabilities enhances product visibility, traceability, and control that reduces risk in operations and creates ordering and fulfillment efficiencies for both ourselves and our customers. As a result, we believe our opportunity to grow our business will be enhanced through the continued development and expansion of our digital capabilities.

Our Digital Footprint in the third quarter of 2023 represented 57.1% of our sales, an increase from 49.5% of sales in the third quarter of 2022.

Gross Profit

Our gross profit, as a percentage of net sales, was unchanged at 45.9% in the third quarter of 2023 from 45.9% in the third quarter of 2022. Customer and product mix had a negative effect on our gross profit percentage. We continued to experience relatively strong growth from Onsite customers and non-fastener products, each of which tend to have a lower gross profit percentage than our business as a whole. This was offset by a number of favorable variables. First, we continue to experience favorable freight costs, which reflects elevated domestic freight revenue leveraging what are relatively stable costs to support our captive fleet, lower expenses related to external freight providers, and lower fuel costs. Second, in the third quarter of 2022 we had a $3.4 write-down of pandemic-related gloves that did not recur in the third quarter of 2023. Third, we experienced slightly positive price-cost. This reflects moderating product costs, as we took no meaningful pricing actions in the period, and an easy comparison, as it largely recaptures the price-cost deficit experienced in the third quarter of 2022.

Operating Income

Our operating income, as a percentage of net sales, was unchanged at 21.0% in the third quarter of 2023 from 21.0% in the third quarter of 2022.

Operating and Administrative Expenses

Our operating and administrative expenses, as a percentage of net sales, increased to 25.0% in the third quarter of 2023 from 24.8% in the third quarter of 2022. This largely reflects an increase, as a percentage of net sales, in other operating and administrative expenses. Our ability to leverage was adversely impacted by slow sales growth, which made it difficult to leverage spending on certain business initiatives and investments. Our ability to leverage was also limited by having one less selling day in the third quarter of 2023 than we had in the third quarter of 2022, as most of our operating expenses will not vary based on the number of selling days in a given period.

The percentage change in employee-related, occupancy-related, and all other operating and administrative expenses compared to the same periods in the preceding year, is outlined in the table below.

			Approximate Percentage of Total Operating and Administrative Expenses			Three-month Period
			2023
Employee-related expenses			70% to 75%			1.6		%
Occupancy-related expenses			15% to 20%			3.7		%
All other operating and administrative expenses			10% to 15%			11.0		%

Employee-related expenses include: (1) payroll (which includes cash compensation, stock option expense, and profit sharing), (2) health care, (3) personnel development, and (4) social taxes.

In the third quarter of 2023, our employee-related expenses increased when compared to the third quarter of 2022. We experienced an increase in employee base pay due to higher average FTE during the period and, to a lesser degree, higher average wages. We also experienced higher healthcare-related costs. This was partly offset by bonus and commission payments declining to reflect the impact of slower sales and profit growth versus the prior year.

The table below summarizes our FTE headcount at the end of the periods presented and the percentage change compared to the end of the prior periods:

									Change Since:									Change Since:
			Q3 2023			Q2 2023			Q2 2023						Q3 2022			Q3 2022
Total selling personnel (1)			14,750			14,993			-1.6		%				14,284			3.3		%
Distribution/Transportation personnel			2,984			3,053			-2.3		%				2,889			3.3		%
Manufacturing personnel			704			723			-2.6		%				671			4.9		%
Organizational support personnel (1)			1,846			1,862			-0.9		%				1,675			10.2		%
Total personnel			20,284			20,631			-1.7		%				19,519			3.9		%

(1) Of our Total Selling Personnel, 80%-85% are attached to a specific in-market location. Organizational support personnel consists of: (1) Sales & Growth Driver Support personnel (approximately 35% of category), which includes sourcing, purchasing, supply chain, product development, etc.; (2) Information Technology personnel (35% to 40% of category); and (3) Administrative Support personnel (25% to 30% of category), which includes human resources, Fastenal School of Business, accounting and finance, senior management, etc.

Occupancy-related expenses include: (1) building rent and depreciation, (2) building utility costs, (3) equipment related to our branches and distribution locations, and (4) industrial vending equipment and bins utilized as part of our FMI services (we consider this hardware to be a logical extension of our in-market operations and classify the depreciation and repair costs as occupancy expenses).

In the third quarter of 2023, our occupancy-related expenses increased when compared to the third quarter of 2022. We continue to experience rising rent costs for our buildings due to inflation and upsizing of branches. At the same time, slowing in the pace of branch closings is resulting in a moderating level of incremental cost reduction to offset these increases. We also had higher costs for FMI hardware as we continue to expand our installed base of such hardware.

All other operating and administrative expenses include: (1) selling-related transportation, (2) information technology (IT) expenses, (3) general corporate expenses, which consists of legal expenses, general insurance expenses, travel and marketing expenses, etc., and (4) sales of property and equipment.

Combined, all other operating and administrative expenses increased in the third quarter of 2023 when compared to the third quarter of 2022. The increase in other operating and administrative expenses relates primarily to higher spending on information technology, higher bad debt expense, and higher general insurance costs.

Net Interest Expense

Our net interest expense was $1.3 in the third quarter of 2023, compared to $3.9 in the third quarter of 2022. We had higher interest income, reflecting higher cash balances through the period and higher rates paid on those balances. We also had lower interest expense, reflecting lower average borrowings through the period, as well as slightly lower average interest rates.

Income Taxes

We recorded income tax expense of $89.9 in the third quarter of 2023, or 23.4% of earnings before income taxes. During the third quarter of 2023, the liability for unrecognized tax benefits decreased $3.9 due to the lapse of statute of limitations, of which $3.8 impacted the effective tax rate. Income tax expense was $90.7 in the third quarter of 2022, or 24.2% of earnings before income taxes. We believe our ongoing tax rate, absent any discrete tax items or broader changes to tax law, will be approximately 24.5%.

Net Earnings

Our net earnings during the third quarter of 2023 were $295.5, an increase of 3.8% compared to the third quarter of 2022. Our diluted net earnings per share were $0.52 during the third quarter of 2023, which increased from $0.50 during the third quarter of 2022.

Liquidity and Capital Resources

Cash flow activity was as follows for the periods ended September 30:

			Three-month Period
			2023						2022						Change
Net cash provided by operating activities			$	388.1					257.9						50.5		%
Percentage of net earnings			131.3		%				90.6		%
Net cash used in investing activities			$	43.0					44.5						-3.4		%
Percentage of net earnings			14.6		%				15.6		%
Net cash used in financing activities			$	286.9					220.8						29.9		%

Net Cash Provided by Operating Activities

Net cash provided by operating activities increased $130.2 in the third quarter of 2023 when compared to the third quarter of 2022. The improvement in operating cash flow, as a percent of net earnings, reflects working capital being a source of cash in the third quarter of 2023, as opposed to a use of cash in the third quarter of 2022. This reflects the normalization of global supply chains versus the prior year and, to a lesser degree, slower business activity, which combine to reduce the rate of working capital expansion necessary to support our customers' growth.

The dollar and percentage change in accounts receivable, net, inventories, and accounts payable as of September 30, 2023 when compared to September 30, 2022 were as follows:

						September 30												Twelve-month Dollar Change						Twelve-month Percentage Change
						2023						2022						2023						2023
Accounts receivable, net						$	1,171.0					1,110.6						$	60.3					5.4		%
Inventories						1,513.8						1,678.1						(164.3)						-9.8		%
Trade working capital						$	2,684.8					2,788.7						$	(104.0)					-3.7		%
Accounts payable						$	275.1					277.2						$	(2.0)					-0.7		%
Trade working capital, net						$	2,409.7					2,511.5						$	(101.9)					-4.1		%
Net sales in last three months						$	1,845.9					1,802.4						$	43.5					2.4		%

Note - Amounts may not foot due to rounding difference.

The increase in our accounts receivable balance in the third quarter of 2023 is primarily attributable to two factors. First, our receivables increased as a result of growth in sales to our customers. Second, we continue to experience a shift in our mix due to relatively stronger growth from national account customers, which tend to carry longer payment terms than our non-national account customers.

The decrease in our inventory balance in the third quarter of 2023 is primarily attributable to the absence of supply disruptions from the prior year. Our response at the time was to deepen our inventory as a means of maintaining high service to our customers, particularly for imported inventory. Dissipation of these disruptions has allowed us to shorten our product ordering cycle. It is also likely that slower business activity is reducing the level of inventory our customers require us to maintain to meet their production needs.

The decrease in our accounts payable balance in the third quarter of 2023 is primarily attributable to the dissipation of supply disruptions from the prior year. That allowed us to gradually begin to shorten our product ordering cycle and reduce the volume of product purchases in the third quarter of 2023 versus the third quarter of 2022.

Net Cash Used in Investing Activities

Net cash used in investing activities decreased by $1.5 in the third quarter of 2023 when compared to the third quarter of 2022. This was due to lower net capital expenditures (purchases of property and equipment, net of proceeds from sales of property and equipment) in the third quarter of 2023 compared to the third quarter of 2022.

Our capital spending will typically fall into six categories: (1) purchases related to industrial vending, (2) purchases of property and equipment related to expansion of and enhancements to distribution centers, (3) spending on software and hardware for our information processing systems, (4) the addition of fleet vehicles, (5) expansion, improvement or investment in certain owned or leased branch properties, and (6) the addition of manufacturing and warehouse equipment. Proceeds from the sales of property and equipment, typically for the planned disposition of pick-up trucks as well as distribution vehicles and trailers in the normal course of business, are netted against these purchases and additions. During the third quarter of 2023, our net capital expenditures were $42.9, which is a decrease from $44.4 in the third quarter of 2022.

Cash requirements for capital expenditures were satisfied from cash generated from operations, available cash and cash equivalents, our borrowing capacity, and the proceeds of disposals. For the full year of 2023, we expect our investment in property and equipment, net of proceeds from sales, to be within a range of $180.0 to $190.0. This is a decline from our prior range of $210.0 to $230.0 reflecting a deferral of several distribution center-related projects. This new range represents an increase from $162.4 in 2022, due primarily to investments in fleet equipment to support our network of heavy trucks and an increase in spending on information technology.

Net Cash Used in Financing Activities

Net cash used in financing activities increased $66.1 in the third quarter of 2023 when compared to the third quarter of 2022. This is primarily related to a reduction in our debt obligations, versus an increase in our debt obligations in the third quarter of 2022, which reflected strong operating cash generation in the period. This was only partly offset by a reduction in the third quarter of 2023 of total capital returned to shareholders compared to the third quarter of 2022.

During the third quarter of 2023, we returned $199.8 to our shareholders in the form of dividends, compared to the third quarter of 2022 when we returned $272.8 to our shareholders in the form of dividends ($177.5) and purchases of our common stock ($95.3).

During the third quarter of 2023, we did not repurchase any of our common stock. During the third quarter of 2022, we purchased 2,000,000 shares of our common stock at an average price of approximately $47.68 per share.

We have authority to purchase up to 6,200,000 additional shares of our common stock under the July 12, 2022 authorization. This authorization does not have an expiration date.

Total debt on our balance sheet was $260.0 at the end of the third quarter of 2023, or 7.0% of total capital (the sum of stockholders' equity and total debt). This compares to $555.0, or 14.9% of total capital, at the end of the third quarter of 2022. This decrease is due to applying operating cash generated to the reduction of total borrowings on the balance sheet.

Our material cash requirements for known contractual obligations include capital expenditures, debt, and lease obligations, which are discussed in more detail earlier in this report in the Notes to Condensed Consolidated Financial Statements and in our 2022 annual report on Form 10-K.

An overview of our cash dividends paid or declared in 2023 and 2022 is contained in Note 3 of the Notes to Condensed Consolidated Financial Statements.

NINE MONTHS ENDED SEPTEMBER 30, 2023 VERSUS NINE MONTHS ENDED SEPTEMBER 30, 2022

Results of Operations

The following table sets forth condensed consolidated statement of earnings information (as a percentage of net sales) for the periods ended September 30:

			Nine-month Period
			2023						2022
Net sales			100.0		%				100.0		%
Gross profit			45.7		%				46.3		%
Operating and administrative expenses			24.7		%				25.1		%
Operating income			21.0		%				21.2		%
Net interest expense			-0.1		%				-0.2		%
Earnings before income taxes			20.9		%				21.0		%
Note – Amounts may not foot due to rounding difference.

Sales

The table below sets forth net sales and daily sales for the periods ended September 30, and changes in such sales from the prior period to the more recent period:

			Nine-month Period
			2023						2022
Net sales			$	5,588.1					5,285.0
Percentage change			5.7		%				18.0		%
Business days			191						192
Daily sales			$	29.3					27.5
Percentage Change			6.3		%				17.4		%
Daily sales impact of currency fluctuations			-0.4		%				-0.4		%

Net sales increased $303.1, or 5.7%, in the first nine months of 2023 when compared to the first nine months of 2022. There was one fewer selling day in the first nine months of 2023 relative to the prior year period and, taking this into consideration, our net daily sales growth increased 6.3% in the first nine months of 2023 compared to the first nine months of 2022. We experienced higher unit sales during the period that contributed to the increase in net sales in the period. This was primarily due to growth at our Onsite locations, with the strongest contribution from those sites opened in the last two years and a more modest contribution from more mature locations. This more than offset the impact of softer end market demand on our manufacturing customers and lower revenues to construction and reseller customers. Foreign exchange negatively affected sales in the first nine months of 2023 by approximately 40 basis points. We estimate that adverse weather in the first quarter of 2023 reduced our growth by approximately 10 basis points during the nine-month period.

The overall impact of product pricing on net sales was 190 to 220 basis points during the first nine months of 2023. While product pricing has been positive throughout 2023, the impact was greatest in the first two quarters of the period. This reflects the carryover of broad actions taken in the first quarter of 2022 and targeted actions taken in the first quarter of 2023 to mitigate the effects of higher transportation and material costs for our products, as well as the impact of general inflationary conditions in the marketplace over the past twelve months. The impact of product pricing on net sales was 600 to 630 basis points during the first nine months of 2022.

From a product standpoint, we have three categories: fasteners, safety supplies, and other products, the latter of which includes eight smaller product categories, such as tools, janitorial supplies, and cutting tools. In the first nine months of 2023, fastener daily sales grew at a slower rate than our other product categories, which we believe relates to two factors. First, fasteners are more heavily oriented toward production of final goods than maintenance, which results in greater susceptibility to weaker manufacturing end markets. Second, pricing for fasteners has decelerated at a faster pace than non-fastener products. The DSR change when compared to the same period in the prior year and the percent of sales in the period were as follows:

			DSR Change Nine-month Period									% of Sales Nine-month Period
			2023			2022						2023			2022
Fasteners			1.6		%	21.2		%				32.8		%	34.3		%
Safety supplies			7.6		%	13.8		%				20.8		%	20.6		%
Other			9.6		%	15.7		%				46.4		%	45.1		%

Our end markets consist of manufacturing, non-residential construction, reseller, and other, the latter of which includes government/education and transportation/warehousing. We continued to experience a significant divergence in the performance of our manufacturing end market versus our non-manufacturing end markets in the first nine months of 2023. We are growing relatively faster with key account customers, particularly Onsites, with significant managed spend where our service model and technology is particularly impactful, which disproportionately benefits manufacturing customers. The DSR change when compared to the same period in the prior year and the percent of sales in the period were as follows:

			DSR Change Nine-month Period									% of Sales Nine-month Period
			2023			2022						2023			2022
Heavy manufacturing			13.1		%	26.1		%				43.2		%	40.7		%
Other manufacturing			6.5		%	19.5		%				31.3		%	31.3		%
Non-residential construction			-6.2		%	9.8		%				9.2		%	10.4		%
Reseller			-7.1		%	4.2		%				5.9		%	6.7		%
Other end markets			1.5		%	0.9		%				10.4		%	10.9		%

We report our customers in two categories: national accounts, which are customers with a multi-site contract, and non-national accounts, which include large regional customers, small local customers, and government customers. We continued to experience a significant divergence in the performance of our national account customers versus our non-national account customers, which relates to the relative growth of our sales through Onsite locations and larger, key accounts. The DSR change when compared to the same period in the prior year and the percent of sales in the period were as follows:

			DSR Change Nine-month Period									% of Sales Nine-month Period
			2023			2022						2023			2022
National accounts			10.8		%	22.1		%				59.8		%	57.5		%
Non-national accounts			0.6		%	11.6		%				40.2		%	42.5		%

Growth Drivers

The table below summarizes the signings and installations of, and sales through, our FMI devices.

			Nine-month Period
			2023						2022						Change
Weighted FASTBin/FASTVend signings (MEUs)			18,664						16,005						16.6		%
Signings per day			98						83
Weighted FASTBin/FASTVend installations (MEUs; end of period)			110,191						99,409						10.8		%
FASTStock sales			$	708.6					621.7						14.0		%
% of sales			12.5		%				11.6		%
FASTBin/FASTVend sales			$	1,550.6					1,302.2						19.1		%
% of sales			27.4		%				24.4		%
FMI sales			$	2,259.2					1,923.9						17.4		%
FMI daily sales			$	11.8					10.0						18.0		%
% of sales			39.9		%				36.0		%

Daily sales through eCommerce grew 44.6% in the first nine months of 2023 and represented 23.2% of our total revenues in the period.

Our Digital Footprint in the first nine months of 2023 represented 55.5% of our sales, an increase from 48.2% of sales in the first nine months of 2022.

Gross Profit

In the first nine months of 2023, our gross profit, as a percentage of net sales, declined to 45.7% from 46.3% in the first nine months of 2022. The change in our gross profit percentage primarily reflected three items. First, customer and product mix reduced our gross profit percentage. We continued to experience relatively strong growth from Onsite customers and non-fastener products, each of which tend to have a lower gross profit percentage than our business as a whole. This impact widened on a sequential basis. Second, higher organizational/overhead costs reduced our gross profit percentage, primarily due to higher inbound freight costs and working capital needs being relieved from inventory and generating higher period costs. Third, favorable freight expenses partially offset the negative impacts of mix and organizational/overhead costs. This reflected strong domestic freight revenue over the period, which leveraged what are relatively stable costs to support our captive fleet, lower expenses related to external freight providers, and lower fuel costs.

Operating Income

Our operating income, as a percentage of net sales, declined to 21.0% in the first nine months of 2023 from 21.2% in the first nine months of 2022. The operating leverage we achieved during the period was not sufficient to offset the decline in our gross profit percentage.

Operating and Administrative Expenses

Our operating and administrative expenses, as a percentage of net sales, improved to 24.7% in the first nine months of 2023 from 25.1% in the first nine months of 2022. This is due to a decline, as a percentage of net sales, in payroll-related expenses.

The percentage change in employee-related, occupancy-related, and all other operating and administrative expenses compared to the same periods in the preceding year, is outlined in the table below.

			Approximate Percentage of Total Operating and Administrative Expenses			Nine-month Period
			2023
Employee-related expenses			70% to 75%			2.8		%
Occupancy-related expenses			15% to 20%			5.4		%
All other operating and administrative expenses			10% to 15%			9.6		%

In the first nine months of 2023, our employee-related expenses increased when compared to the first nine months of 2022. We experienced an increase in employee base pay due to higher average FTE and average wages during the period, as well as higher healthcare costs and, to a lesser degree, profit sharing costs. This was only partly offset by a decrease in bonus and commission payments reflecting the impact of slower sales and profit growth versus the prior year.

The table below summarizes our FTE headcount at the end of the periods presented and the percentage change compared to the end of the prior period:

												Change Since:
			Q3 2023						Q4 2022			Q4 2022
Total selling personnel (1)			14,750						14,476			1.9		%
Distribution/Transportation personnel			2,984						2,971			0.4		%
Manufacturing personnel			704						696			1.1		%
Organizational support personnel (1)			1,846						1,711			7.9		%
Total personnel			20,284						19,854			2.2		%

(1) Of our Total Selling Personnel, 80%-85% are attached to a specific in-market location. Organizational support personnel consists of: (1) Sales & Growth Driver Support personnel (approximately 35% of category), which includes sourcing, purchasing, supply chain, product development, etc.; (2) Information Technology personnel (35% to 40% of category); and (3) Administrative Support personnel (25% to 30% of category), which includes human resources, Fastenal School of Business, accounting and finance, senior management, etc.

In the first nine months of 2023, our occupancy-related expenses increased when compared to the first nine months of 2022. The most significant contributor to this increase was higher cost for FMI hardware as we continue to expand our installed base of such hardware. We also have experienced rising rent costs for our buildings due to inflation and the upsizing of branches, even as the slowing pace of branch closings is resulting in a moderating level of incremental cost reduction to offset these increases.

Combined, all other operating and administrative expenses increased in the first nine months of 2023 when compared to the first nine months of 2022. The increase in other operating and administrative expenses relates primarily to higher spending on information technology, higher general insurance costs, increased expenses for travel and supplies, and higher bad debt expense.

Net Interest Expense

Our net interest expense was $7.1 in the first nine months of 2023, compared to $8.9 in the first nine months of 2022. We had higher interest income, reflecting higher cash balances through the period and higher rates paid on those balances. We also had lower interest expense, reflecting lower average borrowings through the period, as well as slightly lower average interest rates.

Income Taxes

We recorded income tax expense of $279.2 in the first nine months of 2023, or 23.9% of earnings before income taxes. During the third quarter of 2023, the liability for unrecognized tax benefits decreased $3.9 due to the lapse of statute of limitations, of which $3.8 impacted the effective tax rate. Income tax expense was $270.5 in the first nine months of 2022, or 24.3% of earnings before income taxes.

Net Earnings

Our net earnings during the first nine months of 2023 were $888.6, an increase of 5.6% when compared to the first nine months of 2022. Our diluted net earnings per share were $1.55 during the first nine months of 2023, which increased from $1.46 during the first nine months of 2022.

Liquidity and Capital Resources

Cash flow activity was as follows for the periods ended September 30:

			Nine-month Period
			2023						2022						Change
Net cash provided by operating activities			$	1,078.7					639.1						68.8		%
Percentage of net earnings			121.4		%				76.0		%
Net cash used in investing activities			$	128.2					121.6						5.4		%
Percentage of net earnings			14.4		%				14.5		%
Net cash used in financing activities			$	879.1					506.2						73.7		%

Net Cash Provided by Operating Activities

Net cash provided by operating activities increased by $439.6 in the first nine months of 2023 when compared to the first nine months of 2022. The improvement in operating cash flow, as a percent of net earnings, reflects working capital being a source of cash in the first nine months of 2023, as opposed to a significant use of cash in the first nine months of 2022. This reflects the normalization of global supply chains versus the prior year and, to a lesser degree, slower business activity, which combine to reduce the working capital necessary to support our customers' growth.

Net Cash Used in Investing Activities

Net cash used in investing activities increased by $6.6 in the first nine months of 2023 when compared to the first nine months of 2022. This was primarily due to an increase in net capital expenditures (purchases of property and equipment, net of proceeds from sales of property and equipment) in the first nine months of 2023 compared to in the first nine months of 2022.

During the first nine months of 2023, our net capital expenditures were $127.7, which is an increase from $120.9 in the first nine months of 2022. For the full year of 2023, we expect our investment in property and equipment, net of proceeds from sales, to be within a range of $180.0 to $190.0. This is a decline from our prior range of $210.0 to $230.0 reflecting a deferral of several distribution center-related projects. This new range represents an increase from $162.4 in 2022, due primarily to investments in fleet equipment to support our network of heavy trucks and an increase in spending on information technology.

Net Cash Used in Financing Activities

Net cash used in financing activities increased by $372.9 in the first nine months of 2023 when compared to the first nine months of 2022. This is primarily related to a reduction in our debt obligations, versus an increase in our debt obligations in the first nine months of 2022, which reflected strong operating cash generation in the period. This was only partly offset by a reduction in the first nine months of 2023 of total capital returned to shareholders compared to the first nine months of 2022.

During the first nine months of 2023, we returned $599.5 to our shareholders in the form of dividends, compared to the first nine months of 2022 when we returned $679.0 to our shareholders in the form of dividends ($534.4) and purchases of our common stock ($144.6).

During the first nine months of 2023, we did not repurchase any of our common stock. During the first nine months of 2022, we purchased 3,000,000 shares of our common stock at an average price of approximately $48.22 per share.

Critical Accounting Policies and Estimates – A discussion of our critical accounting policies and estimates is contained in our 2022 annual report on Form 10-K.

Recently Issued and Adopted Accounting Pronouncements – A description of recently issued and adopted accounting pronouncements, if any, is contained in Note 1 of the Notes to Condensed Consolidated Financial Statements.

Certain Risks and Uncertainties – Certain statements contained in this document do not relate strictly to historical or current facts. As such, they are considered 'forward-looking statements' that provide current expectations or forecasts of future events. These forward-looking statements are made pursuant to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995. Such statements can be identified by the use of terminology such as anticipate, believe, should, estimate, expect, intend, may, will, plan, goal, project, hope, trend, target, opportunity, and similar words or expressions, or by references to typical outcomes. Any statement that is not a purely historical fact, including estimates, projections, trends, and the outcome of events that have not yet occurred, is a forward-looking statement. Our forward-looking statements generally relate to our expectations and beliefs regarding the business environment in which we operate, our projections of future performance, our perceived marketplace opportunities, our strategies, goals, mission and vision, our expectations related to future capital expenditures, future tax rates, future inventory levels, pricing, Onsite and weighted FMI device signings, the impact of inflation on our cost of goods or operating costs, the impact of price increases on overall sales growth or margin performance, and our ability to grow our business through the enhancement of sales through our Digital Footprint. You should understand that forward-looking statements involve a variety of risks and uncertainties, known and unknown, and may be affected by inaccurate assumptions. Consequently, no forward-looking statement can be guaranteed and actual results may vary materially. Factors that could cause our actual results to differ from those discussed in the forward-looking statements include, but are not limited to, economic downturns, weakness in the manufacturing or commercial construction industries, competitive pressure on selling prices, changes in our current mix of products, customers, or geographic locations, changes in our average branch size, changes in our purchasing patterns, changes in customer needs, changes in fuel or commodity prices, inclement weather, changes in foreign currency exchange rates, difficulty in adapting our business model to different foreign business environments and the challenges of operating in foreign business environments, failure to accurately predict the market potential of our business strategies, the introduction or expansion of new business strategies, weak acceptance or adoption of our FMI offering or Onsite business models, increased competition in FMI or Onsite, difficulty in maintaining installation quality as our FMI business expands, the leasing to customers of a significant number of additional FMI devices, the failure to meet our goals and expectations regarding branch openings, branch closings, or expansion of our FMI offering or Onsite operations, changes in the implementation objectives of our business strategies, challenges in developing and expanding our digital capabilities, difficulty in hiring, relocating, training, or retaining qualified personnel, difficulty in controlling operating expenses, difficulty in collecting receivables or accurately predicting future inventory needs, dramatic changes in sales trends, changes in supplier production lead times, changes in our cash position or our need to make capital expenditures, credit market volatility, changes in tax law or the impact of any such changes on future tax rates, changes in tariffs or the impact of any such changes on our financial results, changes in the availability or price of commercial real estate, changes in the nature, price, or availability of distribution, supply chain, or other technology (including software licensed from third parties) and services related to that technology, cyber-security incidents, potential liability and reputational damage that can arise if our products are defective, difficulties measuring the contribution of price increases on sales growth, acts of war, and other risks and uncertainties detailed in our filings with the Securities and Exchange Commission, including our most recent annual and quarterly reports. Each forward-looking statement speaks only as of the date on which such statement is made, and we undertake no obligation to update any such statement to reflect events or circumstances arising after such date.