Greetings. Welcome to the Fastenal Third Quarter 2019 Earnings Results Conference Call. At this time, all participants are in a listen only mode. A question and answer session will follow the formal presentation. Note this conference is being recorded.
I'll now turn the conference over to Ellen Seltz with Investor Relations. Ellen, you may now begin.
Welcome to the Fastenal Company 2019 Q3 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 1 hour and we'll 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 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 December 1, 2019, 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 Flores.
Thanks, Alan, and good morning, everybody, and thank you for joining the Q3 FAST earnings call. Just a few observations on the business as I start out. This is no secret, but the industrial marketplace has weakened in the last 12 months. The Blue team has reacted. I am impressed with the group I call friends and associates.
They're a talented group and it shines through this quarter. My next comment isn't really a trade secret. The Q3 of 2019 had one additional business day. We generated about $21,000,000 per day in revenue. This helped our quarter.
The sarcastic side of me was thinking that perhaps everybody on this call could petition our respective governments about modifying the global calendar to add one business day in every quarter going through is probably do more for our economy than all the silliness that we typically see coming out of our respective capitals. And I'll leave it at that. And no political party has a monopoly on ridiculousness. All kidding aside, the supply chain for our customers has become more expensive in the last year and a half and more volatile. Our job is really straightforward.
We provide supply chain solutions. We challenge the status quo with both our customer and with our supplier. And trust me, they reciprocate. That's a good constructive balance, a good friction balance. Challenge sometimes means considering a different product.
Our business model has an advantage here over many of our local competitors. Sometimes it means a different solution. As you know from what you've learned about Fastenal over the years and prior quarters, we have many to offer. Fortunately for us, many of our competitors are one trick ponies, and this helps us win in this type of environment. Never lose sight of the strength of an organization where our team, 75% of our employees have intimate knowledge of our customers' operation.
They have knowledge of their local and business their local and global business culture and the scale to stitch it together. This is more powerful than an abstract server study of customers' keystrokes that can only do fulfillment. I believe we can win, but we have to figure out where we win with that strategy. And I think the things that we do with our growth drivers play very well into understanding that advantage. All that technology though does bring tremendous productivity wins.
We are slowly introducing technology in our business and I believe you see it shine through in our ability to manage the labor side of our business. Getting to Holden's flip book, we reported earnings of $0.37 There were just some discrete tax items in the quarter in actually in both years, but adjusting for these, the EPS remained at $0.37 I'm pleased to see our pre tax profit growth accelerate from frankly a disappointing Q2. 2 things stood out. First, the team executed nicely on pricing, which produced a better gross margin. Does it mean that we're not behind on the price cost?
And the goal isn't about who wins on the price cost because this is a supply chain relationship between supplier, between our supplier, our business and our customer and we need a supply chain that works for all. So it's not about who wins, it's about who provides the best value to our customer. Secondly, our team adjusted really well to the slowing business, couldn't adjust as fast in the 2nd quarter, we adjusted a little bit faster in the 3rd to provide nice incremental margins, while at the same time we continue to invest in the growth drivers of our business. That's one of the most important aspects of this is we still have the resources to invest in growth. Business conditions remain sluggish and our customer tone remains cautious.
Very pleased with the cash generated during the year to date, the improvement during the period. My compliments to our team in the field, my comments compliments to Holden and Cheryl and their respective teams performed really well on managing our working capital. And the nice thing about this page, in one page we talked about 2 things that we haven't been able to talk about with confidence and maybe even some pride in recent years and that is we performed well gross margin and on working capital. But we still have work to do. On sites, we signed 84 in the quarter, a little bit less than the Q2.
I think there's 2 things driving that. 1, a lot of discussions during the quarter with customers centered on supply chain, challenging supply chain. Some of those discussions were about pricing. And also in an environment like this, and we see it in our vending as well, when there's uncertainty in the environment, a natural human reaction is, sometimes it's easier to not make a decision at all than to worry about what decision is the right one. And so we're seeing saw a little bit of a slowdown.
But we're still at up 30% over where we were a year ago at 1076 on sites. And the business continues to grow in the low teens. And we believe we'll still sign between 375 to 400. Little bit more difficult of a goal than it would have been 3 months ago or 6 months ago. Only time will tell if that belief will be turned into a reality.
But we believe it's we can accomplish it. The one thing might jump out at you is, we closed 22 branches during the quarter. That's not a surprising number. We've been doing similar numbers to that over the last 4, 5, 6 years. But we did close 35 on sites.
I'm a firm believer. Some organizations sometimes not hide from the truth, but hold back the truth. They won't acknowledge things challenging the status quo. And as a result, they don't do anything, don't do anything and all of a sudden do something big all at once. And then spend all their efforts adjusting for the numbers to explain it to what was going on in the world.
We don't do that. We challenge the business every day. And if our team feels, along with their customer, there are some on sites that don't make sense in today's environment, perhaps the business has slowed down, perhaps a plant has been consolidated. We want to understand the why from the standpoint of trends of our business, but I consider this a healthy thing. Vending, we continue to have a very good clip with vending.
To me, the most noteworthy thing that stood out in our vending numbers, so our installed base is up 12.2% Q3 to Q3. Our product sales are up in the mid teens. Now I'm not real good at numbers, but I do know that means our revenue per machine increased in the 12 month period. I consider that a tremendous
2 things that are
shining through there. 1 I think there's 2 things that are shining through there. 1, vending is about a lot of the stuff that goes to our vending machines is about PP and E, so stuff people need. We're in a high employment environment. So there's still plenty of employees and employees need stuff.
I think that's part
of it. I think the
other part is our team has become really dialed in at managing their vending asset base and utilizing that asset base to the benefit of their customer. And it means sometimes you pull parts out, you put new parts in. And that those two things drive the fact that that base of business actually expanded in a declining economy. E commerce was up about 28% Q3 to Q3. I consider that a weaker number.
One thing that shines through in that for me is a chunk of that e commerce is to larger customers and a chunk of that was economically weakened. With that, I'll turn it over to Holden.
Great. Thanks, Dan. Good morning. Let's just jump on to Slide 5. Total sales were up 7.8% in the 3rd quarter.
Adjusting for the one more selling day in the period, our daily sales were up 6.1%, which is a deceleration from the 2nd quarter. September daily sales growth was up 5.8%, which is fairly consistent with the July August rates, but business activity has continued to soften. The leading Purchasing Managers Index averaged 49.4 in the 3rd quarter and it was 47.8 in September. Those are levels that are consistent with modest contraction in industrial production. For its part, industrial production was up just 0.3% in the July August period.
The cautious tone is reflected in the feedback of our regional leaders and in the trends of our end markets. Manufacturing was up 7.7% and heavy equipment was up 4.4 percent. Oil and Gas and Industrial end markets are also softening, while transportation and consumer linked customers are stable. Construction was up 2.9% in the 3rd quarter with larger customers outperforming smaller ones. We estimate the price in the Q3 contributed $90,000,000,000 to $120,000,000,000 during this period.
From a product standpoint, non fasteners continue to lead, but did decelerate with 8% growth in the 3rd quarter, while our more cyclical fastener line was up 3%. From a customer standpoint, national accounts were up 10.2% in the quarter, with 62 of our top 100 accounts growing. Non national account growth was less than 1% with roughly 57% of our branches growing in the 3rd quarter. Our growth today is coming largely from the growth drivers, which only reinforces our commitment to them. Regardless of market conditions, Fastenal provides a value to our customers and has a financial model that allows us to invest as others pull back, and we intend to do so.
Now moving over to Slide 6. Our gross margin was 47.2% in the 3rd quarter, down 90 basis points versus last year. The components of this decline are familiar, product and customer mix, price cost and transportation expense, plus the absence of the difficult comparison we had last quarter. However, the Q3 was also up 30 basis points versus the 2nd quarter, which bucks the more traditional flat to down sequential pattern. This largely reflects moderation in the variables that impacted the Q2.
Mix drag was 70 to 80 basis points, narrowing a bit as on-site growth rates slowed. Price cost improved through the quarter as pricing efforts to offset tariffs and inflation gained traction. It's common for the 4th quarter gross margins to slip versus the Q3 as has happened in 4 of the last 5 years, typically by 20 to 40 basis points. With the momentum we built in the 3rd quarter, however, being able to sustain our gross margin above 47% in the 4th quarter. Our operating margin was 20.4% in the 3rd quarter, down 10 basis points year over year.
SG and A as a percentage of sales was 26.8%, better by 80 basis points and a record low for the 3rd quarter. We leveraged operating costs despite the slowdown in sales growth aided a bit by an extra selling day in the period. Looking at the pieces, we achieved 65 basis points of leverage over employee related costs, which were up 4.2%. This growth was largely due to a 4.1% increase in FTE growth at the end of the period. We realized 20 basis points of leverage over occupancy related costs, which were up 2.8% comprised of higher vending expenses as we expand the installed base and flattish occupancy expenses.
Conditions remain challenging, we remain focused on adding resources as necessary to finance our growth drivers and support our ability to take market share, while tightly managing other costs and investments. If you put it all together, we reported Q3 2019 EPS of $0.37 which is up 8% from $0.34 in the Q3 of 2018. As Dan mentioned, we did have discrete tax benefits in both the current and prior year periods. And if you include a $3,600,000 benefit in the 3rd quarter including a $3,600,000 benefit in the Q3 of 2019. If you adjust for these, Q3 2019 EPS remained $0.37 up 7.3%.
Turning to Slide 7. Looking at cash flow. We generated $257,000,000 in operating cash in the 3rd quarter or 121 percent of net income. Higher earnings combined with lower working capital needs to produce the cash flow. Year to date cash conversion is 96.4%.
Net capital spending in the Q3 was $60,000,000 up from $35,000,000 in the Q3 of 2018. This continues to reflect investments in hub property and vehicles that are necessary to support high service levels as well as investments in vending equipment to support growth in our installed base. Our 2018 range for total capital spending is unchanged between $195,000,000 $225,000,000 with the same factors driving the 3rd quarter increase impacting the full year. We also paid out $126,000,000 in dividends in the period and reduced debt by $55,000,000 We finished the quarter with debt at 14 0.7 percent of total capital, in line with last year's 14.4 percent, but down sequentially and from year end. Inventories were up 13.4% in the Q3 of 2019.
Nearly half of this growth related to inventory to support new on sites. The remainder relates to higher hub inventories. We plan for growth in inventory to slow meaningfully in the Q4 as actions taken earlier in 2019 to reduce overseas purchasing in response to slower demand begins to be felt. Accounts receivable grew 5.8% in the Q3 of 2019. Receivables benefited from slower growth and the timing of quarter end.
If I try to adjust for the latter, we estimate that receivables growth would have been roughly 7.5% with a roughly half day increase in DSO, the slowest rates have increased since the first half of twenty seventeen. Our customers continue to aggressively pursue longer payment terms and withhold payment at quarter's end. We expect growth in our working capital assets to be more modest in the 4th quarter than it was in the 3rd, producing another strong cash flow quarter. That's all we
have for our formal presentation. So with that, operator, we'll take questions. Before we switch over to questions, last night when I was flipping through Holden's book, one thing that hopefully stands out in these calls is Dan is completely unscripted, which probably makes for a frustrating listen from an audience perspective. Holden is nicely scripted, so you get maybe the how from Dan, but you get the what and the meat from Holden. I think that's a good one to punch.
There was an item that I added into the notes of my flip book last night that I didn't want to throw out there because I thought I might get a question on it. And I didn't want to give you an unsatisfactory answer, so I thought I'd preempt you. That is the one item in the quarter that kind of makes me scratch my head is our construction business. And we had enjoyed nice growth in construction over the last several years. That growth has slowed dramatically as we've come into 2019.
And in all honesty, we don't completely understand it. It's 2 worlds there. Our large account business continues to grow well. Our local business isn't growing as well. And some of that you can attribute to the fact that we close about 5% of our locations a year.
So that's going to take a toll on the local construction business. That's not a new phenomenon. We've been doing that for 4, 5 years. There is some slowing in our local construction business. I thought I'd point it out to you.
I've given you the unsatisfactory answer that we don't completely understand it. I do know from talking to peers in other organizations, and I know a number of folks in organizations that sell into this arena. In the larger comp business, they're not really seeing it, but they are seeing it in the smaller comp business as well. And so it's more of an observation than a conclusion. I apologize for that, but thought I'd point it out.
Anyway, with that, we'll turn it over to questions. And not sure if Ellen preempts the group, but we'd ask for one question and a brief follow-up if you so need.
Thank you. At this time, we'll be conducting a question and answer session. Our first question today comes from the line of David Manthey with Robert W. Baird. Please proceed with your question.
Thank you. Good morning, everyone.
Good morning, Dave.
First off, can you talk about additional price increases that you may be thinking about in the 4th quarter to offset additional tariff related COGS inflation?
Sure. The so as you know, there's going to be another round of tariffs that go into place in mid October, and then there'll be another round in mid December. Our intention is as we get into the latter part of this quarter that we will adjust our pricing and our pricing tools to reflect the changes that are coming because of those tariffs. So I think you can expect us to take action on those should they ultimately materialize in the latter part of this quarter.
Okay. Thank you. And second, it's a small percentage I know, but I'm hoping you can provide more details on the 35 on-site closures. Were these purely chance or cyclical customer issues rather than a bad fit or some sort of competitive loss? Is there anything you can share with us regarding that?
Or is there anything you learned from those closures that will help you better vet potential customers for on-site implementations in the future?
Sure. Yes. The quick answer is probably a little bit of all of the above. But you're right, Dave. I mean, we closed more this quarter than we've typically done.
And I think there's a couple of things to think about here. One is simply the installed base has gone up. And as the installed base goes up, there's going to be a natural degree of churn that happens. And so the fact that it's a high number, but frankly, the 3 or 4 quarters that preceded this quarter were higher than the ones before that. And so there's an element simply of it's become a big part of our business.
We have a lot of them out there. There's going to be a natural element of churn that goes up over time. But the second piece is, you're right. As we've achieved a degree of critical mass in that initiative, the reviews we always review our business, not only in Onsites, but elsewhere. But we get more active in terms of reviewing the business that we have as we get critical mass, as we have more aged facilities.
The just to let you know. And if I look at that, there's a handful where the plant closed. There's a handful where the model changed, right, where we opened the on-site because the purchasing manager liked the model and that purchasing manager has now moved on and new ones in place doesn't like the model as much. And so they've changed So there's a few of those. There are a few where we lost some business to competitors.
Usually that's because they decided to go for maybe a better pricing scheme or what have you, but those do exist. Or somebody new in their procurement function. Or somebody new in their procurement function, right. So those elements do exist. They've existed every quarter before this.
Now I will also say there were 11 on sites that frankly we closed them because maybe the financials didn't play out as we would have expected. In fact, if I look at those 11 on sites, they're running about $20,000 a month. That's well below what we need to have in order to make that model make sense. And so we wound up closing that on site, but in 9 of those 11 cases, that business moved back to the branch that's nearby, right? So it's not lost business even though it is a closed on-site, but the financial decision is better at branch than it was on-site in those cases.
So I think the perspective that you have to have here is we always review our business And as the base goes up, I think closures will go up as well. But that said, I think that this quarter was pretty high. I don't expect to see that level of closings in the Q4. And even at that high level, we're talking about roughly 3% of our installed base. I mean, not a big number, so which I think you kind of commented.
So that's probably how I'd respond to that.
I'll add just an item in there, Dave, and that is if you think about growth drivers, if you think about our business in general, we consider this a healthy part of the business. Take our national accounts business as an example. I know based on history that when we come into a new year, I can assume that 5% of our national account revenue from last year will be gone, not because we lost the customer, but because across those thousands of locations, there were special projects going on in 2019 that won't happen in 2020. And so if we want to grow our national comp business and I'll just pick an arbitrary number, if we want to grow our national comp business 15%, we have to go into the year with a plan to hit 20% because we know we're starting down 5%. When I think of our vending business, this year we will pull out about 13% of our vending machines based on our installed base.
And that's been true for years. Actually, if I go back 5 years ago, we were pulling out about 25% of our installed base every year from the prior year because we put in 10, we realized we needed 8. We put in 2, realized that wasn't a great place to put vending. And we improved the business. Over the last decade, we've pulled out north of 40,000 vending machines from locations where we've installed them.
And what do we have to show for it? We have a business that went from 0 to we'll do about $1,100,000,000 through vending this year. Helps our overall organization grow faster. It's a nice discrete business in and of itself. And but I know that every time we place 10 machines or so like we're going to pull a few of them back.
And I love the business and I love the fact that we're always rationalizing. I don't know ultimately like on the on-site what is the turn rate, but I don't know maybe 5% a year is a number. And I hope I don't see that in every darn report that comes out now that Florence thinks they will do this. But I'm just saying it's a business and you approach it from a pragmatic business perspective, what's a win for your customer, what's a win for your team and what's a win for the future of the business as well. And we love the On-site business and we think a healthy look at it is a good thing.
All right. Very helpful color as always. Thanks very
much. Yes. Thanks, Dave.
The next question is from the line of Nigel Coe with Wolfe Research. Please proceed with your question. Thanks.
Good morning, guys. Good detail on the first couple of questions there. Yes, hi guys. So, just want to maybe just address kind of what you're seeing out there in a bit more detail. It feels like September was a weaker month more broadly, yet you saw a nice uptick in September sequentially.
So you didn't seem to see that, although you are talking about a greater proportion of national accounts customers are declining. So I'm just wondering if you maybe just dig into sort of the feedback you're hearing from branch managers. And then more specifically, you called out, I think, last quarter weakness in heavy industry and oil and gas. You didn't call that out this quarter. So I'm just wondering what you're seeing in those two areas?
Thank you.
Sure. So yes, the September number was a little bit below where July August was. I would agree that they were in the same range, but we did do a little bit better with pricing in the quarter, obviously. And I think that, that kind of moved through as the quarter went on as well. I think I'm going to get into disclosing month by month kind of what we think the pricing was.
But I think it's fair to conclude that it got better as the quarter progressed. And that probably did you probably saw a little bit of a decline in volume or a backing up in volume growth filled in a little bit by an improvement in the pricing side. And I think that was probably an element of it because if I think about the markets, yes, they're getting softer. And that probably doesn't surprise anybody. And you're right, I didn't call out oil and gas and heavy machinery specifically.
It feels like it almost goes outside at this But those areas are weak. The industrial manufacturing sector broadly is weak. And I kind of feel like volume for us outside of our market share gains is probably in the area flattish. And that's where we've gotten to at this point. In terms of feedback from the RVP groups, it's probably what you would expect.
Most are talking about tone being cautious much as they have been. They did call out obviously oil and gas, heavy equipment. We've talked a bit before about some of the automotive. We don't have a lot of direct exposure to automotive, very little, if any. But indirectly, some of the regions that are there have certainly called that out.
I'm not sure that I'm adding any markets to the list that are soft, but I'm not seeing anything getting better either. And so it's still a bit of a challenge. What I will say is, I think some of the commentary from the RVPs what got added in, in the last month or 2, Little bit more discussion about seeing some layoffs in their markets, little bit more discussion about seeing people deciding or choosing to defer spending decisions. I would say those really began to creep into the dialogue in the last quarter or 2. And again, I just think it feeds this narrative that conditions, they're not spiraling out of control by any means, but they continue to soften up in our marketplace.
Great. Thanks, Helmut. That's great color. And then just on the gross margin, you've kind of preemptively went out with 47% number for 4Q. Obviously, that's top of our minds.
I understand just given your turns and the timing of tariffs of 25% List 3 start to filter into your P and L in 4Q. So I'm just curious if you are seeing the incremental inflation, what could be the offsets to that?
Well, remember, the List 3 tariffs went into place initially, I think, in December of 2018, and then there was an increase in the number in March of 'nineteen. Those frankly the cost of those actions were largely in our 3Q. I know I think I know what you're talking about. We have turns of 2 times. But remember, tariffs are a little bit different and that it's not about when you purchase the products, it's about when it hits the shores.
And so if our 6 month sort of supply chain lag is 3 months overseas and on the water and 3 months domestically, then the impact from tariffs, you're going to feel that once it hits the shore, but from that period to the time that it flows through the network. That's really more like 3 months. So the List 3 tariffs, those costs were largely in 3Q. I don't anticipate an incremental impact in 4Q from the List 3 tariffs. On List 4, those go into play in October and then again in December, if they ultimately go through.
And I expect that those costs would then roll forward into the Q1 of next year. And we'll adjust our business ahead of that to make sure that we are neutral on it. So our intention is obviously not to fall behind based on sort of what the new tariffs are. But I think I want to emphasize as well, Nigel, when we fell behind, it had a lot more to do with general inflation in the marketplace than it did with the tariffs. Now I think general inflation was sort of goosed by the tariffs, if you will, but it wasn't so much the tariffs that presented the challenge to us as it was the generalized inflation.
And I think the change of approach that we've taken in recent months in 3 areas. 1, the group has new information and new tools in the field that they didn't have 18 months ago. We have a new structure internally dealing with our pricing and our costing versus what we had 18 months ago. And I think that structure, the people involved in that structure and its oversight, I think they're doing a phenomenal job. And then just the muscle memory that's been built up in the field, again, very different from what existed 18 months ago.
And so I think our capabilities now versus what existed 18 months ago are far stronger. I think the execution and speed of what you saw in 3Q reflects that. And I think we can manage what comes as effectively today as we've been able to at any point in this period. But I don't anticipate tariffs being an incremental drag to 4Q relative to 3Q at this point. I'll just throw
as Colvin was talking, was just flipping through some stats here on components of our business just to shed a little additional light on the first question about heavy equipment. If I look at heavy manufacturing, now heavy equipment is a subset of that. If I look at heavy manufacturing as a business, that's about between 35% 40% of our revenue. So it's a big swap of our revenue. That was growing about 13.5% in the Q1, that dropped to a little over 8% in the Q2, and it was about 6 percent in the Q3.
So Mirrors up pretty well with what our reported number is. If I look at heavy equipment subset in there which is about 2 thirds of that component, it's about 27% of our revenue, 13.5% in the Q1, so in line with the overall heavy manufacturing, 7.5% in the second quarter, so it was starting to pull down the overall heavy manufacturing group. It dropped to 4.5% in the Q3. So two things jump out at that. That's a lot of OEM fasters and there are a lot of production in there that weakened as we went through the year.
The interesting thing is that there was a divergence between the 2 thirds of the heavy manufacturing that's heavy equipment and the 1 third that isn't. There's a divergence and there's more resiliency in the other group. So the overall number isn't declining as much. And I go into the weeds and get a little wonky on you only from the standpoint of that demonstrates what our team is doing, our national accounts team, our regional teams are doing. That's market share gains.
We're picking up great market share there because our customers are struggling right now. And it shines through in our heavy manufacturing, it shines through in some of the stats that Holden puts out as far as our top 100 customers. How many are growing with us? All that kind of information really sheds light.
Our next question is from the line of Ryan Merkel with William Blair.
Couple of questions. Hey,
Ryan. Before you start, congratulations on a new
baby. Thank you. A lot of work, but a lot of fun.
There you
go. Thanks, Dan.
You must
be tired because usually you get in the queue earlier than this.
I'll tell you what, 3 hours a week. You're a little slow.
Yes, a little slow. So on gross margins, just a follow-up. So if you do a little bit better than 47% in the Q4, that would be a year over year decline of like 56 bps. So how should we think about the components of mix, price cost and freight?
I think at that point, so the freight comparables will get easier. Obviously, our goal as a company is to not rest on comparables, but actually execute the freight side better. But at minimum, the freight comparables get easier. And so I'm not expecting a big drag on freight. I think that will be I think that impact will be diminished.
The real question mark there is ultimately there is a cyclical element. How much does our revenue go up or go down based on sort of the macro, but that's the expectation right now, which means that most of what I would expect you to see is going to be related to the product customer mix. I think if you look at the cadence of price cost, it's one of those things where I think the number for the quarter isn't terribly meaningful because pre quarter and post quarter were 2 very different numbers, depending on the timing of when you were able to enact the strategies that we enacted. But we by the time you finished up the quarter, you were approaching kind of balance, if you will, on sort of the pricecost side. And our expectation is to kind of maintain something around neutrality.
And as a result, whatever we achieve in the Q4, I think it's going to be heavily a function of mix.
Okay. Yes, that's really helpful, especially the price cost getting neutral. I think that's really critical. Okay. And then next question, and this is more theoretical, but based on what you're hearing from customers and seeing in the macro, what level of end market growth are you planning for in 2020?
So, yes, very theoretical. The what I would tell you is, as you know, I've studied the PMI and its impact on our business for a long time. And I always view the PMI as being a bit of a leading indicator. And I think the PMI is probably signaling to us that the conditions that you're seeing today, which I think suggest very fairly flattish volumes, that we're going to roll into 2020 in a very similar position. Now what the second half looks like, I have no idea.
But we're going to roll into 2020 in a very similar position. And I think if volumes are flattish, I think that next year we will get whatever we get based on market share gains and call that between 5% to 7%. There's probably a little bit of incremental price that flows in there just because we recognize for a full year what we've put in as this year progresses. And I think that the you're looking at something in the 5% to 8% range based on where the PMI is today. Depending where the PMI is in December, ask the question again because it might all change.
But that's probably how I would characterize how I look at the PMI and its impact on our business.
Got it. Thanks so much.
Yes. Thanks, Brian.
The next question is from the line of Robert Barry with Buckingham Research.
Congrats on the solid quarter.
Thank you.
So just trying to get my head around this tariff related math a little more. Just wanted to clarify, was the full impact of tariffs on List 3 at 25% flowing through the P and L in this quarter? Was that your earlier statement?
Yes, for all intents and purposes, because again, remember, our 2x turns don't really apply where tariffs are concerned, right? Because the moment tariffs go into effect, the first container that hits our shores are tariffed at that point. And from that point, call it, 3 months to move through our system from the ports, through the hubs, through the branches to a customer, right? So we're not talking about a 6 month window in which it takes to sort of realize the tariffs to our cost. We're talking about something shorter than that.
And that's strictly based on the dynamics of the tariffs themselves.
I'll add one more just twist to that. The dynamic there's really a couple of things that come into play. And a piece of it I agree with Holden's comment, a piece of it I disagree with Holden's comment. If you think about a customer where we're bringing in, say, OEM fasters or we're bringing in, it's vending customers, we're bringing in, we do a lot of hand protection through our vending devices. So we are bringing in that kind of product.
Your visibility to need and supply chain are much more dialed in. So that element of the product turns faster because you're bringing in product that you might have a 3 month supply, 4 month supply, 5 month supply. So it turns a little faster. And the variability in that is dependent on not how quick it hits the cost impact, but how long, how many months of how many days of inventory have changed if all of a sudden the customer's business OEM fasteners are down 20%, what you thought was a 5 month supply just instantly became a 6 month supply. Oops.
That means you have the legacy of that problem a little longer. But it still hits relatively quickly. Same thing in a lot of our vending and our hand Now if you went and visited a bunch of our branches and you looked at a lot of the MRO fasteners and a lot of the products that are in our branches, that's product where we have less certainty, less visibility to demand. That's product where we have less certainty, less visibility to demand and we stock it a bit deeper because of that. There you have product that might turn once a year.
And so there's some elements of both. A lot of our discussions with our customer is on the former, not the latter because that's the product in their known spend as opposed to their tail spend. It's the tail spend that becomes a little more difficult from a turn standpoint. I hope I shed light there instead of Yes,
I mean a little bit perhaps. I mean what I'm getting trying to get my head around is if you look at your sales, 34% is faster. I assume a healthy chunk of that is subject to the tariffs. And if you assume tariffs 25 percent on that COGS, it seems like a much bigger number than the 1% price would cover. So I mean maybe some of the things you're talking about, Dan, are the reasons why price cost can be almost neutral even though that kind of headline math I just did suggest a much bigger
pressure. So there's a Yes. Keep in mind, I'll let Holden add in, but there's a bunch of faster product that we have moved out of tariff based country. The issue you run into when you move it, it might be more expensive, but it's less expensive than a 10%, 15%, 25% tariff. And so there is some stuff that we've moved out, But I'll let Holden chime in.
Yes. I mean the only other nuance I would add to that is it's certainly true that we import the great majority of our fasteners. But recall that whereas China is one source, which as Dan indicated, we've actually reduced that source over this period of time. We also get a lot from Taiwan and a handful of other countries out there that aren't subject, right? So don't overstate the impact of if fasteners are heavily tariffed, they are if they're coming from China.
But we get a lot of our fasteners from Taiwan and other areas in Asia as well as there's a major supplier in Canada that aren't quite as affected as much. So those obviously aren't impacted the same way.
Would you be willing to just tell us what your List 3 and List 4 exposures are?
No. Yes, I mean, what we said is substantially all of our products that we source from China is covered by List 3 and List 4. We have not disclosed historically what that number is specifically. What it was when this all began 18 months ago, it's a little bit lower than that now or 12 months ago, it's a little bit lower than that now because of the work that we have done. Again, as Dan pointed out, to improve the supply chain cost of our customer supply chains, we have moved a material amount and what does come from China is going to be captured by List 3 and List 4.
The next question is from the line of Josh Pokrzywinski with Morgan Stanley. Please proceed with your question.
Hi, good morning, guys.
Good morning.
Just maybe follow-up on some
of the non resi commentary. It looked like there was a nice uptick in momentum there in September. Dan, I know you talked a little bit about some slowness otherwise, there was a little bit of a head scratcher. But I think more broadly, construction markets had some weather issues impacting earlier parts of the year. Did the season just kind of go longer or have a bit more tail at the end as a function of weather push outs or any explanation for maybe why September was an uptick?
Yes. I hesitate being a farm kid from Wisconsin, I'm always attuned to the weather and I'm appreciative of what that means for this time of the year on people getting corn and soybeans in this part of the country harvested. I'm hesitant to talk much about weather short of that because we're in a lot of jurisdictions and unless there's something major that really hits, it's a regional issue more than a company issue. The one you point out September. September did have a nice uptick in construction.
We grew 6.5% construction business versus the 1st couple of months we were growing between 12%. I like what I saw in September. 1 month is not a trend. I would love to see that strengthening we saw in September shine through in October November and time will tell if that happens. Right now, I honestly don't know, but I did like what we saw in September.
The other thing I might suggest is if you look at just the comparables, in August of 2018, our construction business was growing 18%, 19%. In September of 2018, it was growing 13%, 14%. So a little bit easier comp, I think also contributed to September looking better than the other 2 months in there. So I would consider that as well.
Got it. And then just a follow-up on pricing. Obviously, some good momentum there getting kind of caught up after 2Q.
Any kind of institutionalized moves?
I know there's a lot of discretion
at kind of price movement and what it takes to win business or retain business. Price movement and what it takes to win business or retain business. Has any of that discretion been lifted to higher parts of the organization to
You know,
First off, one of the ways we circle the wagon, so to speak, is we have a frank and honest discussion with our teams. And we talk to hear the facts at hand. Is what we need to do and here is some of the discussions we need to have with our customers. And like I say, you always lead the discussion with here are solutions that make some of the issue go away. Maybe there's a different widget that has a similar form and function that you've suggested in past, but there hasn't been a willingness to change that all of a sudden now can effectively offset this impact.
But you have a frank and honest discussion with your team and they have a frank and honest discussion with our customers. And you challenge them and say, this isn't a mandatory thing, this is a need to do thing, which frankly I think is more important than a mandatory thing. We need to do this. And but we also need to have a mindset that this isn't a project. This isn't a 3 month thing.
This isn't a 12 month thing. This is something you just do. It's just that right now we need to reallocate a little more time to it because the urgency is high, because the volatility is high and you need to have that conversation with your customer. Unfortunately, when you reallocate some of that energy, maybe your vending drops off a little bit in your signings, maybe your on-site drops off a little bit on signings, because something there's always a finite amount of energy in the air.
Yes. So I mean,
I would say we really didn't fiddle with any elements of our culture, right, with the elements of allowing people in the field to make decisions because they're the ones that know the customer far better than anybody in Winona does. And so we really need to fiddle with elements of culture if that's what you're asking. What we have fiddled with, as I said before, is the information and tools that are available to people in the field, the structure internally by which we attack sort of pricing cost questions. And then obviously just again building up that muscle memory in the field, getting used to having these conversations and that sort of thing. We fiddled with those elements, but we didn't fiddle with fundamental culture, payroll, anything or pay plan or anything like that to achieve what we've done.
And the good news is I think that means that it should be more sustainable. Understood. Good color. Thanks a lot.
Great. So I'm going to we're at 9:50. So we've I think we're running to the end or do we go full hour now? Full hour now. Oh, hold on a little bit.
We will pull hour.
Makes my calls afterwards easier.
Thank you.
Keep on going, operator.
Thanks. Our next question comes from the line of Chris Dankert with Longbow Research. Please proceed with your question.
I guess from my perspective, I saw you guys stepped up the IT and technology investment in the quarter by several $1,000,000 Just anything worth writing home about there, any kind of major projects you'd highlight?
When I stepped into this role, one of the things that I thought was important, looking at the landscape out there, we decided to make a meaningful move. And I started to talk about this with our shareholders back in that timeframe. We decided to increase our relative IT spend about 0.5% of sales. So I think about our business today, it's 0.5% less profitable relative to so 50 basis points less profitable because we decided to up that spend. Now my gut believes that that 50 basis points, we are I don't know if we've clawed it all back, but we're clawing it back because it brings productivity and it improves our business.
If I I'm always talking to John Soderberg, our leader in the IT area. John's been in that area now, what, three and a half years leading that team. He's done a wonderful job. We have great talent. He's done a wonderful job better connecting our IT group with our business.
And so the talents, the inherent talents of our IT team really shine through. If I think of some recent wins, just yesterday was our Board of Directors. I was chatting with them about 2 days ago, we rolled out and some of you are going to roll your eyes at this comment because companies have been doing this stuff for a long time, we haven't. We started talking earlier this year about the bot implementing a bot within our business to improve and our safety team, we've developed an incredible safety business over the last decade, obviously helped by vending. 55% of our vending revenue is safety products.
And our safety team was looking for added resources because they get bombarded with thousands of questions from the field. And it just takes away a lot of their energy. And to me, the two things, a couple of things jumped out there. Boy, that's I'm glad to hear they're getting more bothered with questions. But I'd rather not add resources to answer questions because the ultimate is surface the information for our team so they have it 24 hours a day, 7 days a week in the field.
So we created our first chatbot. It rolled out 2 days ago. It's a safety bot. We've loaded it with common questions that our safety team gets. We've loaded it with information, OSHA rigs, all the start spewing things I know nothing about.
But information that our field needs to address customer questions, we rolled it out to 50 branches couple of days ago. I'm pleased to report the first morning it was out, there were 29 questions asked and 22 responses, 76% hit rate on responses as far as satisfactory responses to the questions. And that's something we couldn't have done 2 years ago. We are doing some things with rolling out some mobility. That's a slow walk.
But we're rolling some things out. To me, I fundamentally believe the wins are a better partner with our customer, a more productive business, which means we can inherently be more competitive in the marketplace and still provide better value. And but that's something a couple of quick examples, again, you might roll your eyes and say, boy, those are pretty small steps. I think they're huge steps, and I'm really proud of our team for doing And you're right.
I mean, we're looking at IT spending this year just from a P and L standpoint, probably being up 10%, 15%. It's an area that we continue to invest in our business because we can do so even though things are slowing down. That's not necessarily an area that we're looking to restrict
our spend. We invest but we get a return.
Got it. Thanks for the color. It really helps kind of level set things and kind of how the growth goes there. And just the last one for me. From a very high level, we talked about site already, but just again thinking about total opportunity in the past, you guys have highlighted maybe 4,000 vetted addressable opportunities today.
That's still kind of what you see as the opportunity out there?
Yes. And I'll say that way, I believe that number has upside from the standpoint. Earlier we were talking about the 35 on-site closures. And to me the reason I believe it's okay to have what you could arguably call a failure is it means we're testing the fringes. It means we're constantly trying things that maybe we haven't done before to see if it will work.
I remember a trip I did with Troy Parkos who leads our business here in the upper Midwest. We're down in Milwaukee area and we were visiting an on-site and there's nobody in our organization that knows more about On-site than Troy. He's been successful with a lot of over the years. And he's talking about what he's doing and he's kind of shrugging and he says, damn, I'm not sure if it'll work, but here's why I did it, boom, boom, boom. He laid out his reasons and I'm like, that's awesome.
And so I think there's an upside to that number. But yes, that's where our number sits now. But I think we become more creative because Bob Kerlin created an organization that trust people to try things and be willing to make a mistake.
And Dan, you can correct me if this is wrong because that number was put together before I necessarily was here. But I believe that number also didn't include construction, government, education opportunities, right? Correct. So we're actually finding opportunities to be on-site in environments like that as well, which to Dan's point is kind of expanding the envelope for what's possible within an on-site environment.
Got it. Got it. That's really helpful. Thanks, guys.
Sure. With that, it's 5 minutes of the hour. I'm going to call the call short of 5 minutes. Sorry about that. I'm a big believer in obligation.
One thing I constantly talk to my team about is obligations we each have to each other, to our shareholder and to our supplier. And the one obligation I have to this group is to be around to answer calls. Today, I won't be here for that obligation. I'm leaving in a few minutes. A friend and brother, he's technically my brother-in-law, but a friend and brother technically my brother-in-law, but a friend and brother passed away from pancreatic cancer here in September.
David Gustafson down in Madison and going down to support my wife, my sister-in-law and my nephew. And so I won't be around for any questions. If you have any of me, give me a holler next week. Thank you. Thank you.
Thank you. This will conclude today's conference. You
may disconnect
your lines at this time. Thank you for your participation. May disconnect your lines at this time. Thank you for your participation.