Good day, ladies and gentlemen, and welcome to the Fastenal Company second quarter 2013 earnings release conference call. At this time, all lines 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 assistance during the conference, you may press star and then zero on your touch-tone telephone. As a reminder, today's conference is being recorded. I would now like to turn the call over to your host, Ellen Trester, Investor Relations. Please begin.
Welcome to the Fastenal Company 2013 second quarter earnings conference call. This call will be hosted by Will Overton, our Chief Executive Officer, and Dan Flornes, our Chief Financial Officer. Also present is Lee Hein, our President. The call will last for up to 45 minutes. The call will start with a general overview of our quarterly results and operations by Will and Dan, 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, 2013, at midnight Central Time.
As a reminder, today's conference call includes statements regarding the company's anticipated financial and operating results, as well as other forward-looking statements based on current expectations as defined by the Private Securities Litigation Reform Act of 1995. Forward-looking statements may often be identified with words such as "we expect," "we anticipate," "upcoming," or similar indications of future expectations. It is important to note that the company's actual results may differ materially from those anticipated. Information on factors that could cause actual results to differ material from these forward-looking statements are contained in the company's periodic filings with the Securities and Exchange Commission. We encourage you to review those carefully. Investors are cautioned not to place undue reliance on such forward-looking statements as there is no assurance that the matter contained in such statements will occur.
Forward-looking statements are made as of today's date only. We undertake no duty to update the information provided on this call. I would now like to turn the call over to Will Oberton. Go ahead, Mr. Oberton.
Thank you, Ellen, and thank everybody for joining us today. Looking at the results for the second quarter, I think the main story is slow sales growth, and we believe that's really caused by a few things. One is a slow economic condition. It's very slow out there from an industrial side. The other would be that we were too tight on adding people in the fourth quarter and for basically the last three quarters. With our headcount down negative 2% at the store, we do not have enough time in the stores to get out and make the number of sales calls that we need to make. Our plan going forward to try and address that is to add between 100 and 150 FTE per month for the next six months throughout the rest of the year, adding 600 to 900 FTE for the year.
We can't do anything about the economy, but we do have the balance sheet and the strength to go out and add the people to grow the stores. The decision to add the stores, we've spent a lot of time looking at that, looking at the data, but mainly we've spent time talking to our store managers and asking them what it would take to free up some time or to get out there and make more calls, and that was the common theme is, "Hey, give us a little help. We'll grow the business." One positive, actually a very positive, on the sales side of the quarter were our June results. Our sequential growth from May to June was 3.2%.
The historical number is 2.8%, and we're really hoping that that continues and that maybe that's a trend of the things we're doing with adding more people and trying to free up time in the store. Again, the major theme of the quarter was slow sales, but we're working very hard to correct that. On the expense side of the equation, I think we've done a very nice job in almost every category. There are always a few things that jump out, but I think Dan and his team and the people in the field who manage these things continue to do a good job, and they really have it dialed in, and we've become very consistent with our expense control and where the money's being spent and how we do it. I feel very good about those efforts and what everyone has done there.
On the margin, the gross margin, we had a very nice improvement year-over-year of 60 basis points. The other side of that is we had a disappointing trend from the first quarter to the second quarter, actually dropping slightly. We were not anticipating that and trying to look at the data, trying to understand what is going on. Part of it is there is a lot of pressure in the field from the customers. When the economy is slow, it's harder to increase your margin. That being said, we still believe that with hard work and staying focused on our new pricing guidance system, that we will continue to see improvements. Stay tuned on that.
There's a lot of opportunity on the gross margin, not by wholesale price increases, but by just being a little better line by line with the customers, understanding where the opportunities are and understanding what products we can sell them. General comments on the earnings, I think we've done a nice job there. If you look at creating earnings leverage with only 5%, less than 6% sales growth, we've never done that, very positive. A 22.7% pretax number, although it's not 23, the number I continue to talk about, we're getting very close, and we're still confident that we're going to move that number up and achieve our 23% goal. The last thing I want to talk about is our vending, automated vending solutions, as you saw that our trend in the second quarter was actually down from the first quarter but still a very good number.
We signed 20% more machines, or excuse me, we installed 20% more machines in the first half of the year than we did last year, and our overall numbers are still very strong. My looking at the vending numbers and trying to understand it, I think the biggest difference, there's really two differences in the trend. One is that we've worked much harder at making sure that every machine we've signed is a very good signing. We've really cranked up the quality on the signings, and that's reduced it a little bit, not a significant difference. I think the other reason that we've slowed a little bit is we've backed off with some of the pressure. The reason the pressure to sign at the store level, and the reason we've done that is because vending is a long cycle sale.
Right now, our focus has to be on creating sales immediately, going out, knocking on the door, and walking back with an order. Basically, the word out to our district managers and our store managers is improvement month to month to month. However they do that, whether it's through signing vending machines, whether it's knocking on doors and just creating immediate sales, is really our focus. Going forward into the quarter, the theme within Fastenal, our main focus was improve daily growth, because we know that if we can improve our daily growth going in later into the year, that will bode well for us going into the first quarter of next year, and that's what we're always focused on, sequential pattern through the year, step into the next year and continue on with that. With that, I will turn it over to Dan.
Dan has some comments, more color on the things I've just touched on. Thank you very much.
Good morning, everybody. Thank you for participating in our call today. I have a handful of points I'll make just to highlight some items in the press release. Some will be redundant to Will's. Bear with me as I run through them, please. First one, I agree with Will, a huge plus on the quarter. The fact that we were able to leverage earnings on 5.5% sales growth, I think is a pretty strong feat when you look at the type of investments that we continue to make into our business. I think it talks a lot about the Pathway to Profit that we started back in 2007, where we really slowly moved our business to being a more variable cost structure than historically when we were constantly adding stores at a higher clip.
We were introducing a lot more fixed cost into our cost pool, the occupancy associated with those sites and the fixed headcount in those sites, that it gives us a little bit more ability to adapt. That combined with the fact that we had a 60 basis point improvement in gross margin, those two things really allowed us to grow our earnings. Will touched on some of the things with investing a little more heavily in our stores in the coming months, which we think will also help on the revenue side because we've probably running a little bit too lean at the store level. Second item, reiterate what Will mentioned on Page 4. In June, we beat the sequential trend. To be honest with you, that's a good feeling. We believe that positions a bit better going to the tail end of the year.
When you look at the ISM reading out there, it really isn't because there's a rising tide that lifted our ship. We're just rowing a little faster and moving the sales forward. On Page 6, our manufacturing business, again, this ties right into the ISM, has been climbing in the last two months despite the continued weakness on the fastener side. This really demonstrates a bit of the greater engagement we have with the 30% of our sales base that now is linked to vending. It really is a very tangible way. I've touched on this in previous calls. It's a tangible way of measuring the type of relationship we have with that customer and how engaged we are in taking additional market share with that customer. On the flip side of that coin, construction continues to be weak. We see just treading of water.
One of the things that we've been experimenting with in a handful of stores, I believe it's a few hundred stores over the last few months, is introducing some additional construction products to see if we can stimulate some activity. We're seeing some very positive results from that. We anticipate continuing to add some construction products. We want to be a destination. We want our store and that local market to be the destination for the customers in that market, including the construction customers. We believe there's opportunity for us to take market share faster, regardless of what the marketplace delivers in just overall growth. As Will touched on, our vending pace up a little bit. I alluded to this in the commentary. We're really putting in a good discipline, I believe, of quality signings, quality installs.
We're to the point now where a very meaningful part of our business, of our store base, has more than 10 machines installed. We're becoming experts in vending at a greater and greater percentage of our store locations, and I think that bodes well for us in the future. The other item that I'd touch on, and I'm touching on this one because I assume there might be a question or two on it. We're starting to lap greater and greater numbers. If I go back two years ago, about 10% of our sales base included customers that had exposure to vending. At that point in time, that business was growing about just over 40%.
A year later, second quarter of last year, that number had doubled to about 20% of our sales base, and at that point in time, it was growing in the low 30s. This is me thinking out loud with math, which might be a little dangerous in a conversation, but I'll throw it out there anyway. We don't have perfect ways to measure this because a lot of times those incremental machines are going into existing customers, same plant, a sister plant, or it's going into a completely new customer.
If you think of that first-year customer seeing, let's just say for discussion sake, that number we saw a couple of years ago, 43%, 45%. If that number dropped down to the mid-20s in the second year as we lap, if half your business is at 45% and another half is in the low 20s, that'd put our average on that 20% in the low 30s to 34% we saw a year ago. If I take that a step forward and say, okay, we've gone from 20 to 30, and the new blood is growing in that 40s neighborhood. Next group of blood is growing in the low 20s, and let's say the stuff in the third year moves down to more in line with what the company is doing, what the marketplace is providing to us.
If you start lumping those together, you get down to kind of a 20% number, because you have a third of it's new, a third of it's a year old, and a third of it's more than a year old. I don't know if that's how the math is playing out, but right now, that's kind of how I'm thinking about it when I look at the pieces to understand the impact that vending has and the impact of what engagement with that customer base can mean. On page nine, this really goes hand-in-hand with my first comment, and this is really the summary of the Pathway to Profit. Continue to see nice improvement in two ways. One, that individual groups, their relative profitability improved in all groups except for the last, where it pretty much maintained from a year ago.
Just as importantly, our average store size continues to grow, and we're seeing the Pathway to Profit, the change in mix, continuing to drive that operating margin up. We're not at 23%, but 22.7%. We're at least in sight of that. Not the goal, but the threshold we think we can hit and achieve and surpass. Page 12. Personally, it's a little bit of a negative for me. I really felt coming into the quarter, we had momentum to get us north of the 52.3%. We're essentially at the same number where we were in the first quarter. I still believe there is opportunity for us to raise that bar and to raise that in future quarters and future years, and I feel still very bullish on that going into the third and fourth quarter.
The only other item that stood out for me that frustrates me a little bit is on page 15. Our AR grew a little faster than it should, and there's really two dynamics going on there. One is the calendar. Now, both June of 2012 and June of 2013 ended on a weekend. The calendar is similar, so my comment about the calendar might sound a little odd. I don't know if this is a post office logistics thing or what's driving this, but we're slowly seeing more and more of our cash come in in the first two and three days of the week than was historically the norm. Historically, we had a big cash come in on Monday, which is really weekend processing of mail coming through the post office, because most of our cash still comes in via the U.S. mail.
If I look at the stats today, about 50% of our cash comes in the first two days of the week. Another 20% comes in on Wednesday. In the first three days of the week, about 70% of our cash comes in, and that's even different from what it was a year ago. If we held our books open until Tuesday instead of closing on the weekend, our AR would look a lot better. Bottom line is calendar is impacting and just the way the mail comes in is impacting our days. We're also getting a lot of hard push from our customers on extending some days, and we're working on that on a case-by-case basis. I believe there's opportunities for us to continue to improve our days out as we've done over the years. That's a challenge for us right now.
Despite all that, I'm very pleased with the cash flow we had in the first half of the year. Obviously, Q1 and Q2 have some different dynamics because of tax payments. In the first half of the year, I think we put up a very good number. I feel good about our number for the year. To that extent, we announced last night an increase to our dividend payout for the third quarter. We announced a $0.25 dividend versus the $0.20 we paid out in the second quarter. With that, I will turn it over to any questions you might have. As we've requested in the past, please try to limit your questions to one with a related follow-up if necessary based on a response so that everybody has a chance to ask questions. Thank you.
Thank you. Ladies and gentlemen, if you have a question at this time, please press * then 1 on your touchtone telephone. If your question has been answered and you wish to remove yourself from the queue, you may press the # key. In the interest of time, we are asking that you please limit yourself to one question and one follow-up. Again, ladies and gentlemen, if you have a question, please press *1 at this time. Our first question comes from Hamzah Mazari with Credit Suisse. Please go ahead with your question.
Thank you. The first question is just on vending. Just trying to better understand what has led to the change in strategy from maybe Q1, where you wanted to grow your installed base as fast as possible, now to sort of taking a little more of a measured approach. I realize some of this may be you're running too lean. Maybe your profitability expectations have changed on vending. Just any color you can provide there.
Okay. I'll start out with no, our profitability expectations have not changed at all. It really comes to what I said in the call, is that we're getting the signings by working very hard with the managers and pushing them hard on signing vending machines. When we really looked hard and listened to our managers about how we can improve our sales quickly month-to-month versus year-over-year, the word was let us go out and just make regular sales calls, call on contractors and small accounts, and pick up orders. The vending cycle, if we sign a vending machine
Typically, it takes about five to six months to be producing revenue for us. It's a great business. It's just a longer cycle business. We said, "Okay, let's just let it flow naturally." The fact that we signed almost 5,400 machines without putting all the pressure on, to me, was actually a pretty impressive number. It's nothing about our view long-term of vending. We think it's still a fantastic opportunity for us. It's just about how much time you can consume in the store for just one initiative that's a longer cycle initiative.
That's very helpful. Just to follow up, you mentioned the June number was pretty good, 6% relative to 5.3% in May. Has there been any change in July, what you're seeing? I know it's early days in July, but any change versus expectation? Thank you.
Hamzah, this is Dan. First off, experience has taught us whenever we try to predict on the tenth a month, our odds of being incorrect are incredibly high. So we tend not to go down that path, especially in the July month, because with the Fourth of July, it even adds a little more uncertainty. Our expectations going into the tail end of the year, we think we're doing some things on the headcount side, on the vending side, on a whole bunch of aspects of our business, to position us better for the upcoming months than the last months.
Great. Thank you.
Our next question comes from Sam Darkatsh with Raymond James. Please go ahead with your question.
This is Josh filling in for Sam. Thank you for taking my questions.
Hi, Josh.
I wanted to get your thoughts. You called out the non-residential construction industry as being a bit of a headwind to margins and the lackluster growth there. Could you give me any thoughts on your outlook for that vertical and what you think of it in the coming months?
Well, as we touched on, it's been essentially treading water for some time, and earlier in the spring, we thought it was very weather-centered because we really had a tough weather pattern. I know from firsthand knowledge, we had a snowstorm here the first week of May, and a lot of the Upper Midwest was hit hard, and so there was some weather going on. When I look at the May numbers in total, I look at the June numbers, the construction is weak. As I alluded to earlier, there are some things that we're doing, testing a few 100 stores with putting some more products in, that we've seen some positive results from that's going to cause us to expand that more in some additional locations. As far as predicting where it could go, your guess is as good as mine.
That isn't applying pressure on our margin. I don't think Dan didn't say that.
On the gross margin, it does give us a little pressure because our construction business does run.
Right. Okay.
runs at a slightly higher gross margin, so it's a little mixed issue there. I was just trying to identify pluses and minuses to gross margin.
Got it. Could you maybe just elaborate a little bit more, going back to the vending program, on how you're defining the quality of an installation? Is it purely the revenue potential of the machine, or are there other factors that you're considering?
It's really about the revenue potential of the customer. Well, there's two things. One is revenue potential of the customer and how many machines per customer. What we identified is that in some cases, because of aggressive salespeople there saying, "Hey, we need to put six machines in here," and as we went in and sized up the customer, we found that really four or five was a more appropriate number. What we're really doing is just a screening process. Now that we have so many machines out and so many customers, we have great data, and it's really looking very hard to say, "Is that the correct number for that customer, or is this customer even capable of getting one machine?" We've always done it. We just have better data today.
If I could just get one more in. You mentioned wholesale pricing not necessarily being a component of your bullishness on gross margin. Could you talk about the pricing environment in the industry?
Well, the pricing environment is always difficult, but with the economy slow like it is, it's more difficult to go in and ask for a price increase. I think some of it is just reluctance of salespeople. When your customer's already putting pressure on you, it's harder to go in and push pricing. It's just a more difficult environment. There's not real dynamic, not a lot going on. It's just when business is robust, it's a lot easier to walk in with a price increase than it is when business is slow.
Thank you very much.
Timing is tough.
Our next question comes from Adam Uhlman of Cleveland Research. Please go ahead with your question.
Hi, guys. Good morning.
Thank you. Adam.
Help us better understand when the revenue contribution from that could hit. Could we see anything in the back half of this year? Is that more for next year? Wrapped into that, if you could just talk about the active account trends that you're seeing today.
The headcount increase, we started adding some people in June, as you saw in the numbers, and we're going to continue, as I said, to try and add 100 to 150 FTE per month. The majority of the people we'll be adding will actually be part-time support people, which will allow the managers and the salespeople to get out of the store and contact the customers. In talking to many, many managers, which myself and Lee and the whole entire team has been doing, it's they're saying, "Hey, we're stuck inside packaging orders, which someone else could do if I had the time or if we had the hours." As far as when we expect to see improvement, based on looking at historical data of when we've added people and when the sales have improved, it actually comes very quickly.
We would expect to see maybe slight improvement in August, but by October, by the beginning of the fourth quarter, it should make a difference in our incremental gains, our month-to-month gains. Really, as I had said in the call, our goal is to set ourselves up for a good first quarter, more of a historical first quarter, in that high teens, maybe pushing to 20% if we can do things very well between now and then. That's within probably a little economic help as well. Who knows if that comes. It's really about adding support so the salespeople can get out and monitoring it very close to see where we're getting the gains and where we are.
Okay. Where's the active account growth running right now?
Oh, excuse me. It's up slightly, but it's pretty flat.
Okay, great. Thank you.
We believe most of that is attributable to not making enough sales calls, not having the time to get out and pound on doors. It's like anything. If you don't stir it up, it doesn't happen.
Great, thanks.
Our next question comes from David Manthey with Robert W. Baird. Please go ahead with your question.
Thank you. Good morning.
Hey, David.
Guys, I was wondering, first off, with what you said, Will, earlier, you mentioned that there's no change in your profitability expectations. As you're adding the full-time equivalents, getting the store people out in the field more, it sounds like your growth expectations have not changed either. If anything, maybe have gone up. I'm just trying to figure out where these lines intersect. It sounds like the vending might be contributing a little bit less as it matures and as there's fewer being installed, but you might get a little bit of a boost from some of the more active selling efforts. Could you talk about your expectations on growth just from sort of a secular basis? Has it changed at all with what we're talking about here today?
It really hasn't, and we don't expect any less from vending. Although our signings slipped from first to second quarter, we still have thousands of machines that are being installed. We still have-
We did 20% more.
We did 20% more than we did last year. Dan and I, and we've talked about this a few times, we maybe got a little overzealous throwing a 30,000 out there, but we've probably made bigger mistakes. The vending, we expect it to continue to grow and continue to a higher percentage of our customers are deploying the technology, and it's going to continue to grow, we believe, at a rapid rate. As far as adding the salespeople, that's really nothing new. What happened there, and I take responsibility, is we got too tight in the fourth quarter. And part of where we went wrong, or the decision, was I thought that vending was going to automatically increase the efficiency in our stores.
What I was missing on that is the tremendous amount of work to get to the position where it becomes more efficient, which it does, but there's a lot of work of introducing it and training it and setting it up. All that work was taking away from sales calls, and that's what we're hearing from our managers when we spend time with them. We're really getting back on the Fastenal model, the Pathway to Profit model. Add 15% more hours in the store, and you should get close to 20% more growth. That's what we're on. We've done a lot of work looking at the historical trends saying, "Hey, part of our sales growth problem, a lot of it is we need more hours to make more customer calls." Overall, the expectation has not changed. The mix has not changed.
We basically slowed it down too much over, really, a three-quarter period over the last nine months.
Okay. Thank you.
Does that answer your question, Dave?
It does, Will, thanks. Related to that, I think T-Hub is slated to start coming on here and helping. It sounds like you're approaching this labor problem from two angles now. Could you talk about how T-Hub ramps up? Then if you have time, if you want to touch on the OEM fastener initiative, then I'll hop off here.
Yeah. T-Hub, we're kicking it off this month. It's going to really take probably 9 to 12 months to where we have it rolled up to all of our stores or the majority of the volume. It'll be a long ramp-up. We know that we'll save hundreds of FTE equivalents in the stores by the time we've rolled it out. It's really about taking labor out of the store and doing it in a more efficient fashion. We're very bullish on that project. The other thing that it has is it has the potential, we really believe it will happen, to make the economics of vending better because we lower the amount of labor that goes in to serve the customers and serve them at a higher level. There are some benefits there.
We improve our ability to source the products going through vending.
Yes. The margin opportunity becomes much better with vending because we're buying tremendous quantities to bring into this one facility. Some very good reasons for doing it, and it's a few weeks behind schedule, but for the most part, it's right on track. We're opening to get it going the 1st of July, and I think it's the 15th. Very good progress. As far as the OEM fastener initiative, we're also still very positive on that. I've said from the very beginning, it's going to be a slow process because most of the contracts or customers we're going after have their fasteners under contract. I would say on the average, that's a three-year contract. There's 2, 3, 5s, but most of them are three-year contracts.
We're just positioning ourselves so when those contracts expire or get close to expiring, we're standing at the door, the customer knows our capabilities, and we have a relationship with their buying team or engineering team, and feel we're going to be well-positioned when that happens. We have a lot of nice signings, but still not enough to really move the needle on the macro, but believe that fasteners are a huge part of our future and that we have not done a very good job, broadly speaking, not done a very good job of explaining to the customers how good we are at fasteners and all the things we can offer with our manufacturing, with our importing capabilities, with our local store delivery, the things that most of our competitors really cannot offer that we can.
That was great. Thanks a lot, guys.
Thanks, David.
Our next question comes from Ryan Merkel with William Blair. Please go ahead with your question.
Hey, guys. I wanted to go back to vending for a second. I guess a two-part question. I'm wondering, what are you doing to fix the underperforming machines that you have out there today? Secondly, is the lower revenue that we've seen per machine, is that mostly a macro issue, or is it a quality of machine issue?
I'll answer the first part first. We've identified all of the machines that are producing below what our expectations are. We've put together a very good program, our district managers and our store managers are out visiting these customers. We have seen some improvement. It's coming slow. In talking to the district and store managers, it seems like the customers are very open to, "Yeah, I know we're not buying enough." It sounds like we have just not been aggressive enough with these relationships to move that forward. We're very focused on it. I believe it's a well-designed program to communicate with the stores and the customers and move it forward. As far as the revenue per machine, it's really two things. One is the underperforming. If you pull them out, the revenues drop maybe less than 10%, less than $100 a machine.
Isn't that right, Dan?
Yep.
You pull out the underperforming and it's back. I think the other is pure macro, that the customers are not growing as fast. If you look out at the industrial economy, and you look at what other companies are putting up for numbers, it's probably manufacturing's maybe flat at best right now. In some cases, there's not much growth there, and when we put a machine in and it reduces the spend, there's no way to grow that back. Overall, when you look at the growth and all the things we're doing, we're still very bullish on the overall industrial vending project and what it can mean to the company.
Well, the thing I think I'll add is just based on sometimes asking a bunch of questions behind the scene, you learn some things, and I think part of the issue is, Ryan, you mentioned quality of machine. I would phrase it a little differently. I'd say some of them, the quality of implementation-
Right
has been our issue. The right parts. Are the right parts in it? Are we providing a high level of service? A lot of times you might have a machine that goes in and inertia is a powerful thing, and it might've been on day one, we're putting this machine in, part of the agreement was some business getting turned over to us because some of the stuff in the machine we were already selling to the customer. Three months later, 6 months later, has that happened? Am I popping in Lee and saying, "Hey, Lee, you said you were going to turn this $500 worth of this over to me. We're just not seeing that activity yet." Lee's like, "Yep, you're right. We got to get that going.
Ryan, I'd jump in. One comment is we've learned some things, too, over the course of a few years, and that is we're starting to lead our customer instead of sitting and waiting for them to choose the items. We were finding at Speed to Revenue, as far as leading our customer, really saying, basically, "Try this, try this. We know this will work, but you should have a box cutter, you should have some batteries, what have you." That's helping, too.
Okay, great. That was really helpful color. The second question I had, this was a big positive, and I think, Will, you pointed this out, but you nearly hit a 23% EBIT margin with 92,000 a month in average sales. Does this suggest that Pathway to Profit margin can be even stronger than you originally talked about, and this is because you've done so well without ramping the sales as much as you would've expected at this point?
We've been saying for the last two or three years, Dan and I, that the 23% is a point in time, and it really has to do with the average store size. It depends on what our gross margin does. At the end of the day, our real goal is return on invested capital. Whether it's 22 or 25, as long as we can continue to grow profitably, we think we can continue to move it up as the average store size grows. What we're doing with the labor, adding people into these stores, as I said earlier, it's a direct piece of Pathway. Put more people in our existing stores, create greater growth, and if we do that, our pre-tax profits will grow as a percentage of sales.
Great.
I guess the long answer to your question, but the answer is yes.
Great. Thanks very much.
Reminder, ladies and gentlemen, if you have a question, please press star one on your touch-tone keypad. Our next question comes from Brent Rakers with Wunderlich Securities. Please go ahead with your question.
Yes. Good morning. I wanted to talk a little bit about the cost implications of the sales force additions and then I guess, on the other side, your non-seller employee number increases have actually pretty significantly exceeded the seller increases. I was hoping maybe you could talk about that historically and then also talk about what the outlook is for hiring there.
I'll start with the non-seller piece. On that, it's more of a function of just the way the comparisons work out because on a year-over-year basis, the numbers are up. If you look at the various components, we've been managing that area pretty tightly. We've added some folks into our IT area. We've added some folks into select resource areas. It's probably more of a function of what you already look at as far as June to June comparison than anything else. I don't know, Will, do you want to touch on the store side?
Right. Well, on the store side excuse me, I lost the question.
On the cost of the FTE adds.
Oh, excuse me. The cost of the FTE adds is really two things. One is we believe we still have room to improve our gross margin and offset some of it. Looking at the math and looking at how we believe we can ramp the sales up, we think we can pay for most of it in gross margin improvement because it doesn't take a tremendous amount when you look at almost $300 million in monthly revenue. You don't need to see a lot of incremental improvement to pay for 1-200 people a month. We're very focused on that. We've talked to the Regional Vice Presidents again this morning on a teleconference, making sure they understand that as their labor goes up, they need to improve their gross margin or increase their gross profit dollars to pay for these people.
In one-on-one conversations with our Regional Vice Presidents and District Managers, all of them feel very confident they can do that because they think they're going to get some pretty quick improvements. Overall, Dan and I are not afraid of it in the macro number from earnings in the fourth quarter and the first quarter, because if we do this right, we think it will actually be a positive in the fourth quarter and the first quarter.
Okay. Great. I guess my second question, I think, Will, you talked about increasing, I believe you said 15% more hours of productivity for some of the Store Managers and the sellers. Presumably, that's coming both from reduced pressure from vending, also some of these additional kind of store support hires. Over what timeframe do you think you can get that profitability improved by about 15%?
No, that's not the profitability. What I meant by that is 15% more hours in the store.
Okay.
If I have 3 people today working in the store doing, say, 140 hours a week, I would want to add 15% to that number or roughly 20 more hours into that store to free up time. If we really could put 20 hours a week in a store and most of the majority of that time, and not all of it's going to be spent on selling, if you could add 10-15 hours of selling every week in every store, we would see an impact very quickly is what we believe.
Will, how quickly do you think with these hirings will you get to the point of freeing up that 15% more hours?
It's not really freeing it up. If you look at the fact we're going to add 100-150 FTE a month, you can really do the math on that looking at our macro. Here's what they are today, here's what they're adding, it really adds up to, I believe, about 1.5% more hours per month going forward, if you just run the math on it.
Thank you very much.
Our next question comes from Don Baliotti with Janney Capital Market . Please go ahead with your question.
Thank you. I was just curious, Dan or Will, is it possible, as you add these heads, that you could approach both the short-term sales goals by spending more time with your customers, but also work the vending at the same time that gives you that long-term growth piece?
We've said this a couple times. We are working the vending at 5,300, 5,400 machines a quarter would still give us. Could we move it up a little bit, maybe get to 6,000 or 6,500? Yes, but if you look at any other period in time, 5,500 or 5,300 would've been a fantastic number. We're still very committed. I think we are working both sides of it. Like I said earlier in the call, I'm actually quite happy that we backed off the pressure and only lost not a tremendous amount quarter-to-quarter. Year-over-year, we had nice growth.
Will, that exit we talked after the last quarter that while you're not really expecting the 2,500 a month at this point, but you thought you were going to exit the year at that rate, is that still something you feel good about?
I don't want to comment because we'll see what the stores do because we've committed to the stores to back off on hammering it. Let's see what it does naturally. What we're really going to the stores with is, let's get our incremental sales growth above the historical pattern. If we're able to do that, we'll give you labor With that, we expect you to move your incremental pattern up. If we're able to do that, we'll position ourselves in the first quarter of 2014 to have a very good year in 2014, and end 2013 on a stronger note.
Yep. The other dynamic that's going on, and I also touched on this earlier, is right now 44% of our stores have more than 10 vending machines. We're not too far from half our stores having more than 10 machines. We're going to have the impact of our centralized vending distribution model taking some pressure off the stores. We'll see where that number takes us from the standpoint of, we've always been very good at being decentralized when it comes to decision-making, being more centralized when it comes to areas where we can be more efficient, like distribution.
Don, I'd just jump in here. I think how to look at this is, we trust our managers that John, I'm sorry. We trust our managers that if we give them more hours, they make more calls. What happens on those calls will dictate what happens in our sales, whether it comes in the form of construction products, vending, national accounts, key accounts, what have you. They're saying, "Give us more hours, we'll make more calls," then we let them determine what happens in their market based on where they make the call and what happens. You really have to understand the sales cycle of a branch and to the degree of what happens on the call.
You guys, I think you mentioned earlier about the impact of the absorption of the new salespeople and where you think you can offset that in the short term. You've been able to keep that SG&A as a % of sales in that 29, 30% range. Dan, is that something you feel, whether maybe if that goes up, you think you'd offset that with gross margin? Is that how you're looking at that in the near term?
Yep. I think we can maintain that range. Where it'll become challenging, and this is a good problem, if our sales growth moves up and our profit payout moves up, it can move that percentage around, but I think we all would agree that'd be a good problem.
Okay. Thank you.
Yep.
I am not showing any other questions in the queue at this time, gentlemen.
Well, very good. It's 9:44 A.M. We try to hold these calls to 45 minutes. Thanks again, everybody, for participating in the call today, and thanks for your continued support in Fastenal. Have a good day.
Thank you. Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the conference. You may disconnect