Good day, ladies and gentlemen and welcome to the Fastenal's Fourth Quarter Conference Call. I would now like to introduce your host for today’s conference call, Ms. Ellen Trester. You may begin.

Welcome to the Fastenal Company 2016 annual and fourth quarter earnings conference call. This call will be hosted by Dan Florness, our President and Chief Executive Officer and Holden Lewis, our Chief Financial Officer. The call will last for up to 45 minutes and we will start with a general overview of our quarterly results and operations, with the remainder of the time being open for questions and answers. Today’s conference call is a proprietary Fastenal presentation and is being recorded by Fastenal. No recording, reproduction, transmission or distribution of today’s call is permitted without Fastenal’s consent. This call is being audio simulcast on the Internet via the Fastenal Investor Relations homepage, investor.fastenal.com. A replay of the webcast will be available on the website until March 1, 2017 at midnight Central Time. As a reminder, today’s conference call may include statements regarding the company’s future plans and prospects. These statements are based on our current expectations and we undertake no duty to update them. It is important to note that the company’s actual results may differ materially from those anticipated. Factors that could cause actual results to differ from anticipated results are contained in the company’s latest earnings release and periodic filings with the Securities and Exchange Commission and we encourage you to review those factors carefully. I would now like to turn the call over to Mr. Dan Florness.

Good morning, everybody and thank you for joining our call today. And I'll start by just Apologizing for the state of my voice on today's call. I am recovering from a bit of a cold, so I'll try to speak clearly. My comments this morning will be relatively brief. I just want to touch on five points. First off we had an upbeat finish to a tough year. Secondly, I believe we've changed the trends of our business. Third, I believe we've improved the health of our business. The fourth and fifth aren’t comments so much on 2016, but I think they are comments that we should always remind ourselves of, one is we have great people close to the customer and we have great people behind the scenes to support our local business. Both are structurally important components to the success of our business today historically and I believe going forward. In regards to the upbeat finish our sales trends and our gross profit stabilized and/or improved depending on if you look at that in comparison to Q3 or comparison to Q4 of a year ago and we grew our earnings. For a new CEO you can appreciate the importance that comes with having a release that doesn’t have some either parenthesis or dashes in front of a number or two after we've come through quite frankly a pretty tough 2015 and 2016 period. Secondly, our trends have improved in both, in the last several years, primarily 2014 and 2015 we had significantly added people cost to our organization as we grew our headcount primarily at the store, but throughout the organization. These costs, when I look at the trends that come with it had about peaked in the second quarter of 2016 and as we have gone through…

All right thank you Dan and good morning and thanks for joining the Fastenal's fourth quarter call. I'm going to begin with a quick recap of our full year 2016 results and then I'll move on to a discussion of the quarterly performance. So, in 2016 Fastenal generated $3.96 billion in sales, that's up 2.4% from 2015. We did have an extra day in the year, so on a day's basis we were up about 2%. I'm not going to belabor the tough conditions that persisted through the year and I feel like that's well understood by you, but I would like to highlight some of the drivers that allowed us to grow despite it. First, on vending, we finished 2016 with 62,822 machines, that's about up 7300 units or 13% over 2015. So at this point 46.1% of our sales now go to customers that use vending. So it is a fairly well represented in the field. Revenues to our machines increased by more than 10% in the fourth quarter. Signings of 18,059 machines were up 1% year-over-year. Note that these figures exclude the nearly 15,000 units that we installed related to our leased locker program. Despite all those successes, vending did not quite reach the goals we'd set for it in 2016, but note that signings were a three year high and we think that with the distractions related to our optimization efforts and the leased locker initiative now past us, we're targeting more than 20,000 signings in 2017. Secondly on our onsites we signed 176 new agreements in 2016 a little shy of our goal of 200, but substantially above the 80 that we signed last year and this frankly contributed to driving sales through these sites up at a better than 25% rate for the year.…

[Operator Instructions] Our first question comes from Robert Barry with Susquehanna.

Hey guys, good morning.

Hey Rob, good morning.

So I guess the broader question is just to provide a little bit more color about what you're seeing in some of the key end markets in particular heavy and light manufacturing in oil and gas, but also more specifically, I noticed you updated the monthly sequentials and I think if you plug those into the model it implies 1Q growth would be just over 5%. I know that's not meant as an outlook, but is that how you're thinking that growth could track in 1Q?

Sure. So, to address your second question first. We all know how the math works. Yes, we've updated the sequentials. As we go into 2017 we're going to begin discussing those sequential rates of change in terms of the prior five year averages as opposed to what we've done historically with 98 going from 1998 forward. So the numbers are what the numbers are. I'll let you plug them in and kind of figure out where it is, but I think that you're on the right track in terms of how that should fall out given those sequential rates to change. On the second question, where we saw the most encouraging signs I would say would have been in the process industries and we go about this a couple of ways. We listen to our Regional Vice Presidents and what they're seeing in the marketplace and then we look at our top 100 accounts to get a sense of which areas are doing well, which ones are not and what I would tell you is, the general industrial companies on our lists, they're still challenged. That's been the case most of the year and I'm not sure that I saw or have heard any meaningful difference in the fourth quarter as it relates to general industrial firms. As it relates to the process industries, I would tell you that a lot of those including oil and gas looked better among our top 100 and then if you sort of listen to some of our RVPs talk about energy there definitely is more of an enthusiasm and some more encouraging facts on the ground in those regions that are heavier in oil and gas. So what I would tell you is, I don't feel like the fourth quarter felt a lot different in a lot of places than what we saw in the third quarter, but the notable exception would have been in those process industries and that oil and gas space. As you know, we were surprised by how impactful the decline in oil and gas was to us when it began to head south couple years ago. We would consider it a positive if in fact oil and gas had some legs and did better from here, but we'll see how that plays out.

Right, right. Maybe just for my second question just on the gross margin, nice sequential rise, you listed a number of reasons for the improvement, but one of them was not price and I was just wondering if you can comment on what's happening in the pricing environment and in particular given we've started to see some inflation and in fact, I think we've seen inflation for several quarters now, how do you feel about the ability to start getting price, especially if some of these end markets are still a little sluggish?

Sure. We've seen the same thing that you have with respect to commodity prices. I would tell you that those increases are relatively new. We've seen it happen before, only to sort of retrace if you will. So I think it's probably premature to be saying that we have clearly entered a re-flation period, if you will, but that said, we're watching it and we believe that if, if those raw material increases prove to be durable we believe that as we have in the past, we will be able to pass that through, through price increases. Yes, we don't have any reason at this point to think that that would not be a part of the equation. However, we have not at this point taken significant strides to begin that process yet.

Yes, I mean how much of a lag historically would there be, like several quarters or how do you think about...

Hey Rob, yes. I'm going to chime in so we can keep going through the roster - your questions, sorry.

Okay. Yes, of course, sorry. Thanks.

Our next question comes from Andrew Buscaglia with Credit Suisse.

Hey guys. Congrats on a good quarter.

Thank you.

Thank you.

Yes, can you and can you touch on, it sounds like, you didn’t have a ton of commentary, I guess in the press release or your prepared remarks just on trends improving. Can you comment maybe what you're seeing through January and just it sounds like December was a little bit muddled with timing and stuff like that, but just any recent update would be great?

I'm going to just interject one thing and then I'll shut up and let Holden talk. In regards to January we've learned over the years there are certain places you don't go because invariably what we talk about we're always wrong and the question is how wrong. So I'll stop Holden before he starts [indiscernible]. With that, I'll let Holden have his say.

Yes, I don't think there's a whole lot to add. We're not going to comment on January. I mean we put out the sequential rate of change that we're sort of looking at and beyond that, we're not going to go there, but I'll just reiterate again, fourth quarter was a lot richer on optimism than it was real progress. But you have to, we listen to the people in the field, we look at the same data that you guys tend to look at, and it's, it hopefully will translate into better results as we go through 2017. But I'll just leave it as in fourth quarter, general industrial companies were still fairly slow and if there was a favourable inflection it is in the process of the oil and gas industries and that's very early, so let’s see how that plays out and I don't think that I noted anything that inflected negatively.

Okay. Got it and then just switching on to the gross margins. Some of the things you had been experiencing with regards to customer negative customer mix, product mix, how are you feeling about gross margins in 2017 versus 2016 just relative to some of those sort of longer term headwinds we have been experiencing?

If you think of the growth drivers we've talked about for a number of years and again growth drivers are, I just want to caution, our sales plan at the local level is what drives our business. The growth drivers that we talk about serves as the means to the end of how you serve your customer. The impact of, we had, I believe we had a very successful year taking some first steps, steps that started one and two years ago of expanding our onsite presence, all those things continue a pattern that's been in place for 20 years and that is our mix of customers are continually changing. Our product mix continues to move a bit away from fasteners. Perhaps we can slow that down a little bit if there is some recovery that helps our fastener business in calendar 2017, but the underlying long term pattern is still what it is. And what we need to be smart about every day is identifying those pieces we can grab on to and make a little better – a decade ago a piece we grabbed onto was freight. In the last five to seven years a piece we've grabbed on to is our exclusive brands, our private labels and making sure we have a great strategy to support our supplier base and our product mix in serving our customers. And, but the underlying trends are still there. We just need to defend the position every day and I think we gained some footing on that as we went through 2016. It was still a tough year to go through 2015 and 2016 I should say, because the trend has been going on for several years.

Right, okay, alright. Thank you, guys.

Our next question comes from Hamzah Mazari with Macquarie.

Good morning. Thank you. Just had a big - I just had a big picture question around the store network. How should we be thinking about the store network longer term given the aggressive push on onsite? Does onsite cannibalize any other store revenues? Just any color on that piece. And then you talked about participation rate going up with district managers on onsite, but could you give some color on the sales cycle as well, does it take a year or six months, any color around the onsite business would be helpful?

Sure. Probably the best way to think about the big picture from a store network standpoint is, is over the last 20 years we've been quietly growing onsite in some of our Mid-Western business units. So last week I was in Southern Wisconsin, all of our general managers were in and in that discussion one of the things that stands out when I think of our business in Wisconsin and Illinois, over a third of our revenue in that business unit above 35% comes through the onsite type of strategy where we've been incredibly successful over time and developing our business in a broader fashion. But if I think of that business over the last 20 years we continued to open stores. We continued to grow our footprint and some of that, stem from the fact that we had things going on. We had non-fasteners growing in our business. So lot of markets that traditionally weren’t viable became viable. In more recent years we made improvements from the vending side of the equation, but we believe long term it's a huge market out there number one, and we espouse that often. We're not wed to one strategy, we're wed to getting close to our customer where it economically works in providing them a level of service that our competitors either can't or are unwilling to do and we believe it's a compliment of both. Only time will tell if structurally the fact patterns of our industry change and it prompts our ultimate store count to go up or go down, but the market is still there and we need to, of all to serve that market, but history has shown they're very complementary to each other onsite and store. In relation to onsite, it's typically a multi-year endeavour. Part of it is us getting, it's like anything it's incremental. So, we move, when we move in if you will, in the case for an onsite, it depends sometimes on the product lines we're starting with. It might move faster if we're moving in with an OEM relationship or a broad bending platform relationship. It might move a little slower if it's a broader mix of products and we're picking up particular commodities as we go along. I believe it's probably in many cases two to four year endeavour to get in deeper, maybe it's one to five, but it takes time and that's one of the points that we stressed earlier in the year as we want to build momentum back into our business and getting traction to the onsite is a big piece of that.

Hamzah, you also asked something about cannibalization and in fact we do generally speaking take some sales out of the store and that becomes the seed revenue for that onsite and what we find is that inside of 12 to 24 months that seed revenue has grown dramatically from its original number. As it relates to the store, our expectation generally is that that store, which now note doesn't have to provide a disproportionate service to a single customer can sort of have, it's sort of selling energy reinvigorated and then they can go out and from a bit of the lower base begin to grow that business again. And we've sort of all through the compensation with the onsite business to make it neutral from that standpoint, but the expectation is that the store, sort of no longer responsible for that piece of revenue will go on to find new active accounts and just begin to grow that business again from that new level.

One additional piece in when I think of the cannibalization that comment would have been true of store openings for the last 30 years as well and so onsite isn’t new piece of the equation. Really what we're doing and I think Holden described it best, we're taking some seed dollars where we have a great relationship and we're going after business that historically, our store network wound not go after because it wasn't geared to service that business given the profile of the gross margin in that business and we need to structurally change our cost components to go after that business.

That's very helpful color, I appreciate it. Just a followup and I'll turn it over. How much of your cost of goods sold is foreign sourcing? A competitor of yours mentioned, there is just 15%, just trying to get a sense of what you guys are on at? Thank you.

So what we have said is that we think that 40% to 45% of our COGS are probably derived from overseas. I don't know what the competitor, how he is defining the number. I will tell you that of that 40% to 45% not all of that is directly sourced, obviously have a significant operation with passcode that directly sources product, but that does not rise to near the level of 40% to 45%. So the number that we use includes not only the directly sourced, but also that product that we may buy domestically, but ultimately is sourced from an overseas customer. But we talk about it in terms of 40% to 45% of our COGS and that's, that's kind of how we've discussed it.

Got it. It makes sense. Thank you.

I'll add on one piece there as well. The fastener production moved offshore of North America. So, Fastener on in 2017 we're celebrating our 50th year in business largely the trends within fasteners were moving offshore well became we even became a company and a lot of that was driven by the automotive sector back in the late '50s and early '60s. So our percentage is a little bit higher because of the Fastener concentration in our business. With that said, our concentration won’t be any different than any of our peers in the industry given some of the product mix. And so I see us as being in a similar boat if you will, with everybody else with a lower cost structure in our underlying business.

Got it. Thank you.

Our next question comes from Ryan Merkel with William Blair.

Hey thanks. Good morning guys.

Good morning.

Good morning.

So first Holden, you said with a little faster growth you could leverage the income statement in 2017. So two questions, what level of sales growth do you think they need to see SG&A leverage and then secondly is SG&A growing half the rate of sales a reasonable goal in 2017?

So I don't think that our original guidance was changed. I think we said that at sort of low to mid-type of revenue growth that we will look to sustain the margin and if we can get mid to high-type of growth we can expand it. I still think that that is, generally speaking, where we see the model. In terms of the rate of growth of SG&A, bear in mind that if we do in fact get better growth then we would expect to see our incentive comp go up. We're going to continue to invest in vending. And so, we have talked about achieving 20% to 25% type incremental in sort of a low to mid-type single-digit growth environment and maybe 25% to 30% type incrementals, if you get to mid to high sort of where we were I think in the third quarter and we haven't seen anything that sort of changes that.

Perfect . Got it, okay. And then second back to the onsites how are the installations you've done working and how much did onsite add to growth in 2016, if you have that number handy, because I think you were hoping for maybe 300, 400 basis points to grow from onsite this year?

The onsites grew as a category about 25% for the year.

That's including the transferred, came like dollars.

Correct. Yes, that’s the challenge. Right, so we’re up 120.

Let me, Ryan why don’t we talk about the specific numbers offline. We have them, but I'm not going to do the math on this forum. So when we touch base on it offline.

No worries. But just you've sign up a lot of onsites, are they working as you expected out of stores starting to add new active accounts with the freed up selling energy.

Yes, I'll answer that from the standpoint, we took a deep dive look at the onsites that had been turned on and had sufficient history and for us sufficient history meant they had to be operating at least nine months. And so we looked at that to see what’s happening in that group and we liked what we saw and we weren't surprised by what we saw. We saw a group of accounts and the numbers that we really analyzed it was just over 50 of our onsites that have been operating long after we could really get a feel for it. And the trends were solid and it wasn't driven by a few that were pulling it up or pulling it down and which is good to see. It was a good performance generally speaking across the group. We saw that the gross margin of the store that’s spawned, I don’t know if that's the right word, but that on the onsite business their gross margin went up post separating the business, which is what we would expect because typically you're taking a larger customer you might be at 10 to 20, $30,000 month customer and you’re extracting it from $100 to $120, $150 store and the remaining business actually have slightly higher gross margin. So we saw that as we expected, we saw that business with , with a little bit with a lower gross margin than our average onsite, but that is very typical, because often times when you are stepping into a new onsite you are stepping into products that you might be not sourcing half mil yet. You might not truly understand some of the products from the standpoint of I think is back to that optimal sourcing component. You might have product where you know the optimal source, but you're going to get the product in for three, four, five, six months, and so you have some lower margin sales that are going out. You might have some product that the customer had a meaningful supply on and you don’t pick up that business for a period of time. But when I look at those onsites that we've studied again we were pleased with the results and we're surprised by the results. I suspect when Holden runs his numbers he is going to find a low single digit probably of one to two kind of number given the fact that so, much of our business was ramping up in the latter half of the year, but I'll hand it back to Holden.

Yes, so the incremental revenues through onsite would have increased our revenue, probably a little bit over 3% for the year, do you remember that does include some cannibalization. That would take that down a little bit, that's a total number, but the onsite revenue did in fact contribute a little more than 3% of our growth.

I would suspect it would probably cut it by a third to half.

Yes, okay. Okay. That's very helpful. Thank you.

Our next question comes from Robert McCarthy with Stifel.

Good morning, everybody.

Hi Rob.

Just following up on a couple issues, I suppose first, just maybe Holden you could talk about the process industries and oil and gas and maybe give us some sense of what you think the exposure is, just maybe walk us through the number of stores in the right regions, give us a sense beyond kind of the SIC codes of how big the overall exposure could be to your network for sales?

Yes. So the direct impact is fairly light; I think we've talked about sort of low, mid-single digit direct impact from the oil and gas industry. So you're right to say that the impact is really more indirect. I'm not sure that we've really sort of come down exactly on a sort of a number we think it is. It clearly does matter and Dan can give more historical perspective, in terms of what the full-year impact is. But bear in mind that where that full year impact comes from companies like Flowserve or Wear Group that are not oil and gas companies, if you will. They are pump companies or engineering companies, but they have significant exposure to the oil and gas within their overall customer mix, that's where our exposure comes from. So there is a challenge in figuring out the full exposure comes from that fact. Dan, do you know kind of what our little full year indirect impact might be?

I don't, in the past I think we've talked about a number somewhere between 10% and 12%, but we, it's really difficult to pinpoint it because there is so much indirect impact. The example I’ve often cited is, if I travel an hour and a half to visit my mom, there is a sand mine up, two sand mines within two miles of the pharma Groupon. One was they both were operating, two years ago, one was operating 24 hours a day, the other one was operating 16 hours a day. One of the shut down and the other one has one shift. Our Red Wing store was impacted by oil and gas, but I went to sort of our Red Wing, Minnesota stores having an impact of oil and gas. So it's very hard to list it out.

Okay and Holden perhaps we'll table that for a little probing offline. The second major question for this call is maybe you just talk about onsite. I mean, obviously people have been talking about the opportunities there in terms of what's going on, but maybe just talk about really how important is from an optimization of network potential? I mean, I think you cited in the past at least anecdotally, how high the margin is in your legacy stores and kind of your book [ph] Gaiden, which is the upper peninsula of the Midwest and Minnesota in terms of where the margins are and could you just talk about, really what you think the margin opportunity long term could be for the company at least qualitatively given onsite?

Well, I’ll throw out a few pieces, and then we'll wrap the call, so running up against 45 minutes. For us profitability on the day really stems from where is our average store size in that region and how well are we doing managing the growth of our business over time. So if I look at the Midwest where we have a greater concentration of onsite. It is also an area or the country where we have the largest average store site because it has grown over time. Our West Coast started opening up 20 years. Our Midwest started opening up 50 years ago. So we have a 20 to 30 year head start. And our highest operating margin business is in the Midwest. With that said, one thing Bob Kierlin has always reminded us and in the 20 years that I've been here and probably in the50 years if he has been here is that at the end of the day gross margin marker we look at to understand our business. Operating margin is a marker we look at to understand our business, but great organizations long-term focus on where they can provide their shareholders with their employees with an opportunity, their customer with the service and their shareholders with a return on investment. And we like the various businesses within Fastenal, because they all provide a very attractive return and that is at the end of the day the ultimate test of a business. And if you're providing opportunities to employees, you have a great organization to serve your customer long term; we believe we have all those components in our store network and in onsite. With that, I see we're at 45 minutes and similar prior quarters, we realized we're in the thick of earning season and everybody has a pretty busy plate. We’ll sign off for now again. Thank you for your support of Fastenal and thank you for welcoming Holden to the team.

Thank you.

Ladies and gentlemen that concludes today’s presentation. You may now disconnect and have a wonderful day.