Good day, ladies and gentlemen. Welcome to the Fastenal Company 2018 second quarter earnings conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question and answer session, and instructions will be given at that time. If anyone should require operator assistance during the conference, please press star then zero on your telephone keypad. As a reminder, today's conference is being recorded. I would now like to turn the call over to Ms. Ellen Stolts of Investor Relations. Ma'am, you may begin.
Welcome to the Fastenal Company 2018 second 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 one hour. 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 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 September 1st, 2018, at midnight Central Time. As a reminder, today's conference call may include statements regarding the company's future plans and prospects.
These statements are based on our current expectations. 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. We encourage you to review those factors carefully. I would now like to turn the call over to Mr. Dan Florness.
Thank you, Ellen. Good morning, everybody. Thank you for participating in today's call. I realize, at this stage of the economic cycle, our industry is a bit out of favor. However, I believe we have a great story to tell. I believe our moat is expanding in the marketplace. Let's start out by going to Holden's flip book. If I look at some of the highlights he called out, It's probably good if I go on the right page. I'd start with our non-residential construction business is accelerating. In June, we hit 17%. In all honesty, I don't understand the strength behind it. I know the things we've done to build momentum there. I was very pleased with the progress we saw in the second quarter. Our manufacturing demand is stable at very healthy levels.
We roll that together, we grew our sales 13.1% in the second quarter. That is our fifth straight quarter of double-digit growth. When I think about it, I think there are two things that are noteworthy there. One is we are growing on some good growth numbers, and I think that is a pretty strong statement. The second thing is, a year ago in late March 2017, we acquired a great organization in Michigan called Mansco. We anniversaried that acquisition on March 31st. Our growth in the second quarter was 100% organic, and we put up, I think, a great number. If I look at on the operating income side, our operating income grew 13.3%. Leverage is a beautiful thing. Our reported EPS was $0.74. However, there was a discrete tax item in there.
Really pleased with the earnings growth we saw in the quarter and our ability to manage our expenses. Holden will touch on some of this a little bit deeper later. Onsite and vending signings are on pace to achieve our 2018 targets. As mentioned, we had significant operating leverage in the second quarter, including employee-related expenses. Our gross margin was stable on a sequential basis, which I think was an important thing to note. The real key to the stability from Q1 to Q2, from my perspective, is we did a little bit better job using our own trucks. We have always talked about the fact that we have a great trucking network we built over the last 35 years. We have a structural advantage in the marketplace.
Frankly, the marketplace is becoming increasingly more expensive, and so our ability to divert some of our shipments off of third-party carriers onto our own network serve us well in any economy, served us really well in the second quarter. In the context of normal seasonality, our operating cash flow improved in the second quarter. We purchased some stock, and as we announced last night, we increased our third-quarter dividend from the $0.37 we had been doing in the first two quarters to $0.40. Flipping to page four of Holden's book. We signed 81 Onsites in the second quarter. That is a 19% increase over the second quarter of 2017. We finished the quarter with 761 active sites. That is a 57% increase over last year. Our 2018 goal for Onsite signings remains somewhere between 360 and 385.
Total in-market locations were 3,051 at the end of the quarter, up over the 2,937 a year ago. What you are seeing before your eyes is a morphing of the Fastenal distribution model. We are consolidating some locations throughout the marketplace, probably a little bit more in the major metros where we have a wide smattering, and so some of those locations are morphing into Onsites, and so we continue to expand our in-market presence. We signed 5,537 vending devices in the second quarter, a 13.5% increase over the second quarter of 2017. Our installed base grew 14.3%. The sales through our vending devices grew in excess of 20%. Our 2018 goal is to sign 21,000 to 23,000, and we feel good about that goal at this point. National accounts. Daily sales grew 19% in the second quarter. In June, we broke 20%.
I have to say, that tasted pretty good. I was proud of the team and everything they're doing to grow their business. Outside the U.S., our sales continue to well outpace the company, and we're seeing great results within the U.S. and throughout the rest of the world. Before I turn it over to Holden, just wanted to share some commentary and call this in the category of trying to be ever more transparent in what we do and what we're seeing in the marketplace. At 7:00 A.M. this morning, Holden had his typical call with our leadership group, our regional Vice Presidents, our VPs that lead up support areas, as well as our officers. He discussed through the earnings release to give them more insight into what we saw in the business.
He gives me a few minutes at the end to throw in a few thoughts, and I thought I'd share with you some of the thoughts that were covered on that call. The first one to talk about with the group is we've really decided that hitting goal matters. We have hit goal. January, we missed goal. Weather messed us up a little bit, so we came in just shy of goal. Since February, we've hit goal every month. We had a big goal number in June, and was pleased to say we hit it. In total, for the first and second quarters, we hit goal. Hitting goal consistently gives you confidence to invest in where you're going. From a gross margin perspective, we maintained our gross margin and the mantra of, "Hey, just use our trucks," played out really well.
We have, as I mentioned earlier, a great trucking network, and we're tapping into it a little bit more. We've been having a lot of discussions about expenses. This is one where if I'm looking myself in the mirror, I have to say, either we're not communicating really well or you're not listening. I think it's probably more we need to step it up on how we communicate. I'm taking that piece on from the standpoint. After the first quarter, when we grew our labor expense about 14%, I got a lot of phone calls from shareholders in the sell-side community really wondering, "What the heck's going on that you're growing your expenses so fast and you're not able to leverage?" What we've been talking about the last two years is the investments we're making in growth drivers.
We made dramatic investments in our ability to sign vending devices. We made tremendous investments in our ability to implement and improve our Onsite network. We made sizable investments a little over a year ago in our ability to grow our e-commerce locally. The other piece is understanding the fundamentals of how we compensate. Historically, a sizable piece of compensation within Fastenal has been incentive-based. If you read our proxy, you can see that if we don't grow our earnings, our leadership better enjoy living on base pay, because that's the key driver of incentive comp. In the first quarter of 2018, we added $21 million in pre-tax to our business. That was double the $11 million we had added the year before, when we compare 2017 to 2016. That causes our incentive comp to grow quite dramatically.
If I look at the 14% labor growth in the first quarter, six points of it comes just from expanding incentive comp. One point of it comes from our Mansco acquisition, and the other seven comes from adding people in the organization. If I look at transition from Q1 to Q2, you saw our labor expense growth drop 400 basis points from 14 to 10. What really changed there? We put a little bit of a pause on hiring. We had gotten ahead of ourselves. That wasn't the real change. The real change was we anniversaried Mansco, and our incentive comp, while at a high level, is not disproportionately higher than second quarter of 2017. Because in the second quarter of 2017, we added about $27 million in pre-tax. In the second quarter of 2018, we added 31. The delta there isn't as great.
Our team throughout the organization are enjoying enhanced incentive, but they were second quarter last year, so the comp is different. I apologize that I haven't communicated that better. We saw a nice change in our ability to leverage. Frankly, I didn't think it was going to happen till the third quarter, and the team did a nice job of deciding to move it up three months. If I look at the MSAs, I've started to talk about that more, talked about that in the President's Letter, talked about that at our annual meeting and in previous discussions. We're really learning a lot by really taking a good look at those 100 large MSAs, communities of over half a million. What is our plan in those markets?
There was something that's jumped out for me, and this isn't an exclusive thing to the MSAs, but it stands out when I look at it from things we're doing. Yesterday at our board meeting, the individual that leads the e-commerce drive, and within Fastenal, that's a relatively small business because there's so many things we do that don't lend themselves to e-commerce. We do Onsites, we do our local branch network. In many cases, we're fulfilling things for our customers that they don't even have to order. E-commerce really isn't part of the Fastenal model. One thing that really was interesting to see is that as we've been quietly building momentum in our ability to go to market in a bunch of different ways.
If I look at true local e-commerce transactions, where we're taking advantage of our last mile advantages, that's about $100 million business, and it's growing 30% a year. I think that speaks well, and forget the fact that it's e-commerce. It speaks well to the capabilities of the Fastenal organization to fulfill and to serve customers' needs. The interesting thing is we're seeing really nice growth within our Onsites as well. It's about ease of doing business. Bear with me a second. I like milestones. Sometimes they're fun to point out. This is probably a ridiculous one, but bear with me. If I go back to 1987, the year we went public, we had about 50 locations back then. We had 300 and some employees. For the year, we did just under $20.3 million. I believe it was $20,294,000 or something like that.
In the month of June, on a daily basis, we broke $20.3 million. In June of 2018, we did more revenue every day than we did 31 years ago, that company that went public. It's a pretty neat milestone, and I'm proud of what our team has done in that 30-some years to accomplish that. Said another way, we're 254 times bigger than we were 31 years ago. That's kind of fun. I also thanked our regionals and our VPs and RVPs for a great quarter. I think they really demonstrated the power of the blue team and what we can accomplish in the marketplace and some of our structural advantages. I'm blessed from the standpoint, I have a wife that's not afraid to challenge me on most things in life, personal and business.
The other day, she was asking me some questions about the quarter, and I told her, "I can't tell you because it's not public yet." All kidding aside, she was asking about what we're seeing from the tariffs. She said, "You think any of your strength you're seeing is coming from the tariffs in the marketplace?" I answered really quickly and with confidence. I said, "Absolutely not." I said, "What our business is about is we're a supply chain partner, and most of our customers are able to operate in a very lean environment because of what we do." I don't believe there's any impact from the lift other than if there's any impact to any of our customers and their activity that would create.
There's no inventory build in the cycle from what I'm seeing, which caused me to immediately go to Holden and say, "Hey, Holden, this is what I told my wife. Am I accurate?" He canvassed our RVP group, and he got a resounding no. We're not seeing that at all. I thought I'd address that in the context of the time. Second question she had, which was actually just as good as the first, was, how does Fastenal react in an environment like this? I looked at her and I said, well, I gave her the proverbial I'm a farm kid, and I learned at a young age, you don't react to the weather, you plan for it because you can't change it. This is just like the weather. It seems to change on a daily basis.
What I can tell you is Fastenal's biggest strength is our field network, our branch, and Onsite network. We, unlike any other regional, national, or global distributor, we source a tremendous amount of product locally. We don't have a small centralized group that has to be really agile, although they are. We have 15,000 people working in our branch and Onsite network that are agile every day. Our ability, it's not easy to manage through it, but our ability to manage through it is stronger than anybody else in the marketplace. Going into a period like this, the confidence I have comes from the team we have on the ground, and it makes it pretty exciting.
When I was finishing up with the RVPs this morning, I didn't say this to them because I didn't want to get weird on the call, but I thought back to a movie. Gene Hackman is one of my favorite actors of all time. I thought back to a movie he made back in the early '80s called "Hoosiers." At the end of the movie, he cites a line as the scene is going dark to his team that, "I love you guys." 22 years ago, I joined the Fastenal organization. I didn't join because of the growth of the organization. I didn't join because of the opportunities of the marketplace. I didn't even join because of the great people. All three of those were true.
I joined because I saw in Fastenal an organization that treats people differently than other organizations I'd seen in my prior experience, and I wanted to be part of that. In an organization where you're inclusive and you treat others well, and you invite others to join, and the only requirement to join is a willingness to learn and change, a willingness to help each other succeed, and a willingness to be challenged by others and to be willing to challenge others to think big. When you have all that, you have a home at Fastenal. Come join us. We can do great things together. I think you see it come through in a quarter like this and in what we're doing and the evolution over the last few years. I'll close with 2 thoughts, I'll turn it over to Holden.
My mom is having a double mastectomy at 11:00 A.M. this morning. I wish her well on that. I'm going to go visit her after the call, and Godspeed in her recovery. 60 days ago, my wife had the same surgery, and I'm proud to say that today she looks and feels better than she ever has. I'm thankful for organizations like Gundersen Health down in La Crosse. Our medical in this nation can do great things. With that, I'll shut up and turn over to Holden. Thank you.
Thank you. Good morning. Why don't we go over to slide five. As covered, the total and daily sales were up 13.1% in the second quarter. That's consistent with the growth that we logged in the first quarter of 2018. We estimate that pricing contributed between 50 and 100 basis points in the period, which is also in line with last quarter, although we should say that this quarter did have to grow over what were modest price increases from last year's Q2, and that did mask what was some incremental progress on price in the period. The quarter finished on a healthy note, with June's daily sales growing up 13.5%. This represents the 13th straight month of organic daily sales growth, ranging between 11.5% and 14.5%, and that's despite the stiffening comparisons we've seen over the period.
In addition to contribution from our growth drivers, as Dan discussed, this growth is supported by what remains healthy macro conditions. The PMI averaged 58.7 in the second quarter, and industrial production continued to expand at a low- to mid-single-digit rate. Non-residential construction continued to accelerate for us, leading our mix this quarter with growth of 15.5%. This includes growth of 17.4% in June. Manufacturing end markets remained stable at high levels, growing 13.3% with sustained strength in most subverticals. From a product standpoint, non-fasteners were up 14.8%, and fasteners were up 11.1%. Both were in line with the first quarter levels, though it's worth noting that fasteners in June grew 13.5%, which is the fastest rate we've seen this cycle. From a customer standpoint, national accounts were up 19.1%, with 80 of our top 100 accounts growing. In June, our national accounts grew 20.4%.
Growth to non-national accounts continues to run in the mid to high single digits, with roughly 66% of our branches growing in the second quarter. In terms of market tone, sentiment in the field remains constructive, especially as it relates to the non-residential construction market, the good demand of the past few quarters appears to be carrying into the third quarter of 2018. Over to slide six. Our gross margin was 48.7% in the second quarter of 2018, down 110 basis points versus the second quarter of 2017. While mix is always a factor given where we're seeing our strongest growth, it was a relatively minor factor this quarter. There were two larger impacts. In the second quarter of 2017, we had a modest price increase ahead of anticipated higher product costs.
The large decline in the current period reflects the degree to which those costs have caught up. Higher freight expenses were also a meaningful drag on a year-over-year basis. Sequentially, on the other hand, our gross margin was flat. There were no big movers in either direction, but seasonality was offset by a little extra leverage due to the strong growth, a slightly lower mix drag, and steps to counter increasing costs of freight and imports. Price cost was slightly negative in the quarter, there is further work to do here. We do believe we'll make further progress in coming quarters. Our operating margin was 21.2% in the second quarter of 2018, flat on a year-over-year basis. Stronger seasonal volumes and the lapping of certain cost resets generated 110 basis points of cost leverage and an incremental margin of 21.5%.
Looking at the pieces, we achieved 80 basis points of leverage over general corporate expenses and occupancy-related costs. The latter was up 3%, with growth in vending being partly offset by flattish facility expenses. Employee-related costs were up 10%, that generated 50 basis points of leverage. We were restrained in our headcount additions this quarter, with total and FTE headcount being up just 3.4% and 4.7% respectively. This was aided further by inclusion of Mansco expenses in both periods and a moderation in the growth of incentive comp now that we have entered our second year of stronger growth. Putting it all together, the second quarter of 2018 EPS were $0.74, though excluding a one-time tax item, this would have been $0.70, or up 36% from the second quarter of 2017.
In the absence of tax reform and the lower rate that it provides to us, EPS would have been $0.59, and growth would have been 13.8%. We continue to anticipate a tax rate of 24.5%-25%, absent refinements in the application of or discrete events arising from recent tax reform. Turning to slide seven, we generated $152 million in operating cash in the second quarter of 2018 or 72% of our net income. Second quarters are usually lower cash-generating periods due to our having two tax payments. Still, we were pleased that the conversion rate in the current quarter was above the 57% average conversion of the past five years, which reflects the lower tax rates.
Based on our expectations for continued favorable cash flow, we have increased our quarterly dividend from $0.37, which we established in the first quarter of 2018, to $0.40 for the third quarter. Net capital spending in the second quarter of 2018 was $25 million, bringing our year-to-date outlays to $53.8 million, consistent with the first two quarters of 2017. However, this reflects mostly timing, and we would expect higher capital spending in the second half of 2018 for expansions and upgrades at hubs and for property purchases. We've also identified a need to increase our spend for vending equipment, given the strength that we're seeing in that growth driver. As such, we are increasing our full-year 2018 net capital spending projection to $158 million from our previous $149 million.
We increased funds paid out in dividends by 15% to $106 million and repurchased $40 million in stock in the period. We finished the quarter with debt at 16% of total capital, below last year and at levels that provide ample liquidity to invest in our business and pay our dividend, which we actually increased for the third quarter. The picture for working capital was improved versus the first quarter. Inventories were up 11.4% in the second quarter of 2018. Inventory on hand fell five and a half days, which we view favorably in light of inflationary pressures and plans for additional inventory investments in the field throughout 2018. Receivables grew 19.6% in the second quarter of 2018, expanding days by a little more than three and a half.
This continued to be affected by growth in our national accounts and international businesses, as well as customers pushing payments past quarter end. Fortunately, the intensity of this latter factor has moderated, and we have not seen any meaningful change in hard to collect balances. That's all that we have for our formal presentation. With that, operator, we'll take questions.
Thank you. Ladies and gentlemen, if you have a question at this time, please press the star, then the number 1 key on your telephone keypad. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. To prevent any background noise, we ask that you please place your line on mute once your question has been stated. Thank you. Our first question will come from the line of Ryan Cieslak with Northcoast Research. Your line is open.
Hey, good morning, guys. Nice quarter.
Thank you.
Thank you.
The first question I had is, looking at the June sales growth rate, particularly with fasteners, big acceleration there from maybe what you guys were trending in May. Dan or Holden, maybe if you could peel back the onion a little bit and think about what's ultimately driving that. Do you feel like it's a combination of both the market accelerating there, but also maybe some share gains? Just trying to get a better understanding of what's driving the acceleration in fastener growth here.
I'm not sure that I have a tremendous amount of granularity there for you. I would say that if I look at June, our fastener growth in most of our categories actually stepped up pretty nicely, right? That's true of our OEM fasteners, which no doubt the Onsite growth is playing a role in that, as is the general economic strength that we've seen. Construction fasteners were up quite a bit in June relative to even May as well, or March or April. MRO was up as well. I would say that it's fairly broad, but we've definitely seen the same sort of acceleration that we've seen in the construction business broadly. We've seen that in the construction fasteners, too. I would look at it and I would say that we're seeing stability, relative to prior quarters in many categories.
The construction piece, which is accelerating broadly. Also, we're seeing that from the fastener component of construction, too. That's probably what I would say about those pieces.
Okay, great. For my second question, really nice to see the operating leverage here in the quarter and the incremental margins within that range you have talked about. It feels like as you get in the back half of the year, you continue to lap some of the headwinds you saw last year from an expense standpoint. If I hear you right, you said price cost dynamics may be just some additional opportunity there. How do we think about incremental margins then into the back half of the year? Is there anything that we should be keeping in mind from a negative standpoint or an offset that comes in that maybe keeps you at the low end of that range versus potentially getting to the higher end of that range? Thanks.
What I would say is, the components that drove it in the 2nd quarter, I think those are intact in the 3rd quarter. When we're talking about the occupancy leverage, the general corporate leverage, those should continue to be leverageable pieces of our overall mix. From an employee expense piece, yeah, you're right. We've lapped those resets, and that'll certainly be true in Q3. Those pieces that led to this leverage this quarter, those are still very much intact as we go forward. You combine that with double-digit revenue growth, assuming that that's what we achieve in the 3rd quarter, I think that that is a formula to continue to make progress on the incremental margins, particularly because I would not expect the gross margin comp to be anywhere near as difficult, right.
I mean, that we did 21.5 against that gross margin is fairly satisfying, I think that where you're going with this is should we do better? We should be. I think that the math would tell you that we should do better in Q3 than we did in Q2 from an incremental margin standpoint. The one piece that I will contribute to that is, the strong work that was done by everybody at Fastenal to deliver that leverage in the quarter, that does also afford us the opportunity to keep investing in growth. There is the potential that we may choose to take some of that growth and reinvest it in the business, to sustain the type of growth rates that we're having. Yeah, I would concur, Ryan.
I think that the pieces that drove this incremental margin are still intact as you go to Q3. We shouldn't have the same difficulty with the gross margin comp, if we continue to grow quickly, I think that the prospects for doing better on incremental margin in the back half are still pretty strong.
Okay, thanks. I'll get back in queue.
Thank you. Our next question will come from Scott Graham with BMO Capital Markets. Your line is open.
Hey, good morning. Three questions for you all. Number one, Holden, hearkening back to the comments you made about a year ago that you kind of have to deal with 20-30 basis points of gross margin headwind from mix. Is that still a number that you would go with? Maybe talk a little bit about how you will backfill in the second half on that a little bit more. Secondly.
Hey, Scott, let me take them in order. Also, we're going to take two, think about the second question carefully before you get it.
Sure, no problem. Mm-hmm.
As it relates to your first question, yeah, the mix elements aren't changing. Again, with national accounts growing as quickly as they are within the mix, and with the Onsites growing as quickly as they are within the mix, they continue to contribute more to our growth overall each quarter. I think this quarter, the Onsites were good for 4% of our-- contributed to 4% growth in our business, and a year ago, that was 3.2%. Those are mix issues that we're happy to take those on, but it does push the margin down, and I still believe that 20%-30% mix drag per year is the right number to think about. I haven't changed off those terms.
Good. Thank you. Secondly, you got some really good operating leverage at the operating expense line. Could you talk about the sustainability of that and how you're looking at that in the second half toward some of the incremental margin comments you made?
Yeah. Not a lot to add versus what I just contributed. Again, the pieces that drove it this quarter, I think those pieces are intact as you go into Q3 and Q4 in terms of lapping some of these expenses. What we won't have is we won't have the difficult gross margin comp. You blend all that together, and there certainly is a path to doing better incremental margins in the third quarter and fourth quarter than what we did this quarter. The only caution I threw out there was, we're afforded the opportunity to invest in our business because of the leverage that we achieved this quarter, and we might reroute some of that into sustaining the type of growth that we've enjoyed. I don't have a lot to add to that.
I guess what I'm trying to get at, Holden, simply is, you have this gross margin headwind. It's not going to go away. Does that kind of get the entire company, particularly at the regional level, much more focused on their operating expenses to generate the leverage to offset that gross margin issue?
This is Dan, I'll just chime in quick. If you go back in time, a decade ago, we were talking about the Pathway to Profit. In that discussion, we talked about the inherent profitability of the Fastenal business and how that gets enhanced over time. When I look at our most mature regions, that frankly have a higher percentage of Onsite, and in many cases, national account business than the company average, they're also our lowest operating expense businesses, and typically our highest operating margin businesses. Part of the expense management comes from it's hard work. You do it every day. You don't let things slip through your fingertips. You understand what's best in class across the organization. Part of it comes from the fact the inherent leverage that comes in the Fastenal model.
When the average branch is doing 120 versus 100, you pick up hundreds of points of operating margin. When it goes from 120 to 150, you pick up expense leverage, and only partial offset to that can come from the fact that your gross margin. Typically, a branch doing 100 will lose 100 basis points of gross margin on its journey to 150 a month. It'll also shed 450 basis points of operating expense, and your net win is a 350-point win. It's really not allowing being a little bit lazy or a little bit lax on expense management today to let any of that slip through your fingertips. That economic model is what affords us to do what we're doing with Onsite.
At the analyst day, if you recall, we showed a couple of lines. One was the gross margin declining over the past 30 years as we've invested in these growth drivers. The other one is the SG&A as a percentage of revenues declining over 30 years as we leverage. I would just point you to the SG&A percentage in the first half of this year has never been lower in the history of our company. That's how the model is supposed to work. As Dan said, this leverage came through perhaps a quarter sooner than we might have expected, the model is working as we would have expected it to.
Great. Thank you both.
Sure.
Thank you. Our next question comes from David Manthey with Baird. Your line is open.
Hey, good morning, guys. First off, looking at that number of top 100 national account customers experiencing growth, I guess it was 80 this quarter. Dan, in the earlier part of this decade, I think you were talking about 75 out of 100 was kind of normal. What is the historical low and high in that figure?
I'm going off the hip here, Dave, bear with me on that. I believe when I go back to 2015, I think we had a quarter where it got down in the 40s. As you know, that was not helpful to our business. What I don't know here is, obviously, we have a solid economy. We also have some growth drivers at our fingertips that either weren't there or weren't contributing at as high a level when I go back to 2015. The Onsite, as Holden mentioned, has changed the game, and 75% of our Onsites are with national account customers. I believe that's the stat. It's in the 70s. What's the cause, what's the effect, or chicken and egg or whatever analogy you want to use? The economy's giving lift, our growth drivers are giving lift.
The fact that our vending is operating at a really high level, that benefits all customers, including national accounts. 80 is a really strong number. When I go back to prior periods where we were able to grow our fasteners, especially at this kind of rate, you needed to be in the 70s.
Mm-hmm. Okay, maybe I'll follow up on that. The second question for Holden, where you say you picked up, I guess, $5 million-$10 million year-over-year due to price, you're saying the price cost equation isn't quite there yet, I assume you're not fully recapturing your COGS increases. Am I right to assume that you're capturing enough of it
That you're picking up incremental gross profit dollars, Holden? You're not getting lower gross profit dollars because you're upside down on that price cost equation, are you?
No, we're not.
Yeah. Okay.
We're slightly underwater just with regards to a price cost standpoint. Yeah, as we said in the first quarter, we got a little incremental pricing in the first quarter from efforts that we put into place in the fourth. We actually got incremental pricing in the second quarter over the first. That was masked a little bit because in the second quarter we were growing over last year's modest price increases where we weren't in the first quarter. We made some incremental progress on pricing. There was certainly some incremental moves on the inflation side as well. Yeah, we're not backwards in that regard.
Yep. Sounds good. Thank you.
Thank you.
Thank you. Our next question comes from Hamzah Mazari with Macquarie Capital. Your line is open.
Good morning. The first question is just around tariffs. You mentioned sort of they're not leading to strength. Does that mean that you didn't see any pre-buy related to tariffs? Then maybe if you could just update us, what your sort of direct and indirect exposure is to China sourcing.
Sure. With regards to pre-buying, I actually canvassed the RVPs this morning to get a sense of what they're seeing in the field, and it came back fairly uniformly that we really aren't seeing anything, or at least nothing's being discussed with us about pre-buying product ahead of time. To be fair, I'm not sure that gloves and goggles are necessarily the type of product that people load up on ahead of demand, right? We may not be that kind of product or that kind of company. We don't believe that that is impacting our revenue growth rates in any meaningful way. As it relates to the 232s and 301, 232 at this point is just feeding inflation, generally speaking, with regards to that one. As it relates to 301, I think there's a couple of threads here.
One is the first $50 billion that has been talked about. There's not a huge impact on us from that. That we've had a chance to kind of see how our products are being affected, I will probably stick with about $10 million of COGS perhaps being affected by that. Although it's in places we hadn't necessarily expected, sort of indirect shipments on things like ball bearings and welding consumables and things like that. It's a pretty small number, I don't think particularly meaningful. If it stops there, I'm not overly concerned about the direct impact of tariffs. I think the question you're really getting at is what happens with the other $200 billion should they go into effect. Honestly, at this point, we're not sure. I mean, it's hard to sort of speculate on that.
I think you can make a case that somewhere in the neighborhood of 10% of our COGS may come from China directly and indirectly. I'm only guessing at the indirect piece. Again, that's more art than science figuring that one out. I don't assume that everything that we get from China will be tariffed. That would pull the number down, the impact down. Of course, we would expect to be able to shift product perhaps from China to Taiwan or Vietnam or other sources. I think one of the great values of having a significant local sourcing operation on the ground in that region is that we know where there's alternative source of product that we can shift as quickly as anybody else. It's conjecture as to what the impact will be, if any.
You would expect that it could have an impact, but we have mechanisms and such to manage that.
Great. Just secondly, any color on just improvement in non-resi. For you, it was pretty dramatic. I know you have oil and gas and non-resi, do you attribute it to that? Is the margin mix on non-resi better than manufacturing? Any color there? Thank you.
I think that the oil and gas and things around that are certainly helpful. The other thing I would point out is relative to manufacturing, right? We talked about how our growth has been up between organically 11.5%-14.5% for 13 months. That is not necessarily true of non-residential, right? I mean, for most of that period, our manufacturing was really driving that. If you look at the quarter a year ago in non-res, we were up about 5.5%-6%, right? To some extent, I think what you're seeing is an acceleration off of some easier comps. I do think that also we're benefiting from having injected energy over the last two or three years into the effort.
If you remember, we really started talking about the tone around non-res starting to get better in March of last year, and I think that that tone transformed into actual sort of facts on the ground in November, December of 2017, and it's just continued to run from that point, and right now it's running against relatively easy comps. That's about the color that I have for that. From a margin standpoint, we always think about from a gross margin standpoint, construction fasteners fall somewhere in between the OEM fastener on the low end and the MRO fastener at the high end.
Great. Thank you.
Sure.
Thank you. Our next question comes from Ryan Merkel with William Blair. Your line is open.
Hey, thanks. Good morning, guys.
Hi, Ryan.
Good morning.
Congratulations on making me look completely wrong in my preview too, by the way. Nice quarter.
Don't take it personally, Ryan.
Just to follow up on price cost, and it was slightly negative, so I don't want to make a big deal here, but can you just articulate for us why is price cost negative? What are the key issues there?
Well, the key issue is that inflation continues to run very quickly. As I said, we got some incremental pricing, the quick math is we had feedstock or product costs that was going up somewhat faster. Yeah, that's the environment. I don't know what more to add to it. It is inflationary for products, and that inflation has not stopped.
I'll add just one thought to that, and I touched on this in April. I think we really started the hard press about four to five months later than we should have. We did some things last summer, Holden touched on that, where we were raising prices. Actually, in the second quarter of last year, we got some nice lift in our gross margins. We were actually ahead of it a little bit. November, December time, we really should have been putting on the hard press. We have our meeting in December every year with our leadership. We should have had the hard press on, and I didn't really turn it on until April, and that's completely on me.
Okay.
We're a little bit behind.
To give you a sense, in Q1, we were sort of reacting to things. I think in Q2, we actually put a lot of discipline in the field, just in terms of the messaging, and that messaging flowed down to the RVPs and into the field, and that was a part of that. In Q3, we have some additional tools that are going into the field to hopefully make this pricing process easier. That's why we struggle like everyone else does with what is ramping inflation. We believe that we continue to make incremental improvement each quarter, and I think that's going to continue into Q3.
Got it. Yeah. I'm just clarifying that it's transitory and it's not anything that's structurally different than the past. It was more just being late on passing through the pricing. That's good to hear.
Yeah.
My second question, the non-national accounts, I think you said it was up mid-single digits, I don't think that has accelerated much, correct me if I'm wrong, over the past couple of quarters. My real question is that a market growth rate? Are the smaller customers or non-national account customers just not growing as well, or is it just not a focus for you, that's why the growth rate just isn't anywhere near the national account growth rate?
Yeah, I think there's a couple things going on. Our growth drivers, when it relates to Onsite, really benefits the national accounts and a piece of the non-national. If I think of the strength we're seeing internationally, that's much more akin to our national accounts. Heck, our national accounts are doing a great job. If I think of our local business, one thing that is impacting that, Holden, refresh me on the number, I believe our branch count is down about 6% Q2 to Q2. When we consolidate a branch in a market, historically we've talked about 65%-70% of our business is our top 10 customers in that branch.
Frankly, you can retain that business without a great plan because that's a group of customers you're naturally engaging with, you do enough business that everybody matters to each other from the standpoint of they know Fastenal is an important part of their team. We're typically delivering the product to their back door, so the fact we're coming from a branch two miles away or seven miles away doesn't really matter. If you think of the other third of our business, the other 35%, five of that is retail business. In a piece of that retail business, when you consolidate, you have a high risk of losing. Now, in a $50,000 branch that you consolidate, there's $3,000 that's there, and you're going to lose a piece of it.
The other 30 of the 35, you need to have a really good plan in place to make sure you don't lose touch with that customer, because that's a customer doing $300, $500, $700 a month with you, and your relative importance to them might be different. There we have to have a really good plan. Some of the delta you're seeing, I don't think it's because it's industry growth, which it happens to be. I think it's a case of 6% of our branches disappeared, and there is some impact from that. Does that account for why it's single digit versus double digit? I honestly don't know. That comes into play.
Ryan, I might contribute as well. We are growing in the non-national account business faster than industrial production, which I think is meaningful. In addition to what Dan talks about in terms of the branch closures, the Onsite growth, most of our Onsites are within national accounts, but some portion of our Onsites are not within national accounts. Remember, we do shift revenue from a branch into an Onsite. For those Onsites we sign up, maybe some of those have been serviced out of a store that wasn't a national account business, and there might be a little bit of an impact there as well. There are a few pieces that are sort of working against that number being better than what it is today. It is outperforming industrial production, and we think the field is doing a nice job.
It's outperforming the organic growth of the industry.
Yep. Perfect. Thank you.
Yep.
Thank you. Our next question comes from Adam Uhlman with Cleveland Research. Your line is open.
Hi. Good morning.
Morning, Adam.
Hey, I was wondering if we could cycle back.
Hey, Adam.
Yes.
Adam, good report yesterday.
Thank you. I wanted to circle back on the investment drivers, I guess, as we think about the back half of the year. We touched on it maybe a little bit, but the headcount growth has been relatively low, and it would seem as if there might be some need to add additional heads into the back half of the year to support the growth that you're seeing. I'm just trying to understand how you guys are conceptualizing that investment spend into headcount. Could it be only a couple of points of extra growth, or is there something where we should be expecting a bigger ramp?
The message we've had to the team is, where you're signing Onsites, where you have business growth, add people. We've been investing at a pretty healthy clip, and as I mentioned, by the first quarter, in all honesty, we probably got a little bit ahead of ourselves. We just put a pause on. We didn't stop hiring, we put a pause on. If you actually drift into the weeds a little bit, you'd see that from a pure headcount standpoint, there was more drop in the part-time than there was in the full-time. The loss of hours and energy wasn't as great. The other thing is, as we migrate to an ever bigger piece of our business being Onsite, we become more efficient.
If I think about some time ago, I forget the exact time, it was little over a year ago, we took over the hosting of our vending network. What that afforded us to do is to interconnect the vending information much more directly into our point-of-sale system. The lift, the workload for servicing vending, while it's still sizable, and we're doing things every day to make it a little bit more efficient, it's much more efficient today than it would've been 12 months ago because the interconnectedness within our point-of-sale system and our trajectory system that runs the vending platform is much more seamless today. We will continue to add headcount to support our growth, but we're working against comps that are really different. That really is what speaks to Holden's confidence in our ability to achieve leverage.
Okay, got you. Then, secondarily, thanks for the disclosure on the e-commerce business. That's a lot of incremental revenue off of a small base. I was just wondering if you could touch on anything new or different that you're doing there, relative to what you've talked about in the past, and how big do you think it could get for you within your current business model? Thanks.
Yeah. At this point, on the last part of your question, I'd be just posing a wild guess, my wild guess would be, frankly, no better than anybody else's wild guess. The part about what we're doing different, for three years, our e-commerce was negative. Nominal. It was a relatively small business because it wasn't an emphasis point. We started investing in resources into our team early part of 2017, we added an RESS, and I hope I have the acronym right. Help me out, Holden. E-commerce sales specialist. Regional e-commerce sales specialist.
There you go.
Okay. It's a small team, but really what they're about is engaging with our branch network, our Onsite network, to go out and drive that. Our IT team is operating at a higher level today than I've ever seen in my 22 years. What the team has put in place, we've always had great talent, but we weren't always able to muster up the resources to do great things. Right now, we're doing some great things. The system they put in place that we rolled out, what we call FAST360, a year ago. That's really a visibility tool for our customers to see what's on their plant floor, whether it's in a vending machine or in a bin stock location. Many times, historically, customers don't know always what's in their facility, because a lot of what we sell is coined MRO.
When it's bought, it's expensed, so there's no visibility to where stuff is. Even on the OEM side, most ERP systems don't give you the level of visibility to know where stuff is. Our FAST360 does that for our customers, we rolled that out a year ago, that's growing nicely in our business. It works out really well in our Onsites as well. The team is really leveraging that start and our same-day capabilities at our branch network to really tap into. We can do today what many companies aspire to do, we've connected some of the dots electronically to do it. I don't want to get ahead of myself. It's still a relatively small number, but we're tapping into making it easier to buy from us. Today, 90% of our sales go through an omni-channel.
We have 10% of our sales where the customer buys through one channel, that's typically our retail business and our what we call tier 1 customers. Relatively small customers that interact with us only at the branch level. When you start layering in where you source at the branch, through an Onsite, through vending, through a bin stock, internationally, e-commerce, and put all those together, that's 90% of our revenue. We're doing things today, we have been naturally for years, what other companies aspire to do, you're just seeing it shine through because we have a group that has a really good plan, they're executing to it. It's still a relatively small part of the business, I haven't the foggiest idea where it'll go to.
Best of luck to your mom and wife.
Thank you. With that, I see we're at just a few minutes before the hour. I hope I'm not cutting anybody off who had a question, but thanks again for your interest this morning, and I do sincerely believe we have a great story to tell. The blue team is blessed with great people, and I believe we do something special for our customers, and they recognize it, and it affords us the ability to grow. Have a good day, everybody.
Thank you.
Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. You may all disconnect. Everyone have a great day.