Fastenal: Why Its Two Profit Margins Diverged

Fastenal, the industrial supplier, reported yesterday that third quarter 2026 sales rose 15.5%, while selling, general and administrative expenses rose 9.4%. Those expenses took a smaller share of revenue, more than offsetting a decline in gross margin. The company kept less gross profit from each sales dollar, yet more operating profit per dollar.

Its third quarter earnings release showed gross margin falling to 44.8% from 45.3% a year earlier. Operating margin rose to 21.5% from 20.7%. Both comparisons cover the three months ended September 30, comparing 2026 with 2025.

The question is whether bigger customers bring enough additional business to make up for a smaller profit percentage on what Fastenal sells them. This quarter supports that argument, though those accounts also require cash while the company waits to get paid.

Fastenal sells fasteners, safety supplies, cutting tools and other industrial products. Some go into a customer's finished products. Others help keep a factory running.

It also helps manage those supplies. Fastenal maintains inventory at or near customer locations and uses sensing bins and vending devices to track stock and help replenish it. Having the right item available is part of what the customer is buying.

Imagine a factory moving more of its purchasing to a distributor already serving the site. The distributor may be able to handle that extra business with much of the staff, space and systems it already has. It could earn a smaller percentage on each sale while making more money from the relationship overall.

That is the mechanism management describes at Fastenal. It says the shift toward larger customers pressured gross margin but brought higher profit dollars and operating efficiencies. Sales per business day to contract customers grew 18.8%, compared with 7.8% for customers without contracts.

Higher prices contributed too. The 15.5% sales increase measures growth in dollars, rather than how many more items customers bought. Management attributes part of the growth to winning more customer business, but the release does not provide a complete breakdown separating those gains from pricing, customer demand and changes in the products sold.

Gross margin measures the share of revenue left after the costs recorded in cost of sales. Operating margin goes a step further, accounting for the expenses of selling products and running the business before interest and income taxes.

Fastenal reports those additional expenses as selling, general and administrative expenses, or SG&A. They include employee and occupancy costs. In the third quarter, SG&A took up 23.3% of sales, down from 24.6% a year earlier.

The company spent more on these expenses. Sales simply grew faster. Management points to better labor productivity and spreading occupancy costs across more revenue. That is operating leverage: when some expenses grow more slowly than sales, more of the additional revenue can reach operating profit.

The dollar figures help. Gross profit rose to $1,104.7 million from $965.8 million, even with the lower gross margin. After SG&A, operating income rose to $530.8 million from $441.5 million. All amounts are in US dollars.

Looking only at gross margin would miss that improvement. The smaller percentage came from a much larger amount of sales.

Fastenal can record a sale before the customer pays. Until payment arrives, the amount owed sits in accounts receivable. Management says larger customers tend to have longer payment terms.

At September 30, receivables were up 19.9% from a year earlier, faster than quarterly sales growth. That fits management's explanation that larger accounts tie up more cash while Fastenal waits to collect. The release does not separately quantify the effects of payment terms, sales timing and collection delays.

Inventory offered a more encouraging comparison. Its September 30 balance was up just 3.1% from a year earlier, which management attributes to disciplined inventory management. Fastenal supported much faster sales growth without a matching increase in the stock it held.

Operating cash flow rose 9.0% to $421.6 million for the quarter. It was still above net income, at 105.0% of net income, but that was down from 115.3% a year earlier. The business generated more net operating cash, while cash generation relative to reported profit weakened.

A larger customer therefore needs to justify both the cost of serving the account and the cash committed to inventory and unpaid invoices.

Some support for the quarter's gross margin may be temporary. Management points to favorable timing involving direct sourcing savings, supplier rebates and tariff refunds. It also reports that the balance between selling prices and costs remained a drag on gross margin.

The next results need to show whether sales can keep outgrowing overhead as those timing effects change. If customer growth slows while staffing, facilities and technology costs keep rising, operating leverage can work in reverse.

Collections are the other test. Receivables growth moving closer to sales growth, alongside resilient operating margins, would strengthen the case for larger accounts. Receivables persistently growing faster than sales, together with weaker cash conversion, would warrant a closer look at payment terms and collections.

This quarter shows why a lower gross margin is worth investigating rather than judging on its own. The better question is how much profit the whole customer relationship produces, and how much cash it takes to support it.