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The stock price of industrial distribution company WESCO International (NYSE: WCC) fell around 12% in April driven by a disappointing set of first-quarter earnings. As you can see in the chart below it's not been a happy time for investors in industrial wholesale and distribution stocks. Fastenal Company (NASDAQ: FAST) and MSC Industrial Co Inc.(NYSE: MSM)have also reported disappointing results this earnings season.
While all of these companies have reported an improving end-market environment -- in line with a broadly improving industrial economy in 2017 -- and sales have been improving, they have disappointed with margin.
For example, Fastenal saw its operating income decline in the first-quarter to 20.3% from 20.4% in the same period last-year. Meanwhile, MSC Industrial spoke of a pricing environment that "remains challenging" and management doesn't expectmuch help from pricing in the near-term.
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WESCO's operating margin of 3.8% in the first-quarter came in at the bottom end of its guidance range and CFO Dave Schulz also spoke of pricing pressure in the quarter.
Image source: WESCO International.
It matters because the strong run-up in share prices of stocks in the sector has been built upon hopes of an industrial recovery -- and recoveries usually bring about a combination of revenue growth and margin expansion. Unfortunately, the latter hasn't happened yet. Moreover, cost pressures are rising as metals & minerals prices have generally increased in the last year.
WESCO's CEO John Engel talked of a "lag effect" before price increases start to push through. Essentially, this is the argument that as the recovery gathers steam pricing conditions will improve as the slack in the sector is picked up. If he's right -- and the historical chart below suggests he is -- then the recent dip in stock prices is a good buying opportunity. You would be buying into companies that are set to expand sales and margin -- earnings should grow significantly.
On the other hand, there is no telling the strength or longevity of the industrial recovery, and therefore whether industrial supply companies will be able to gain traction on pricing in 2017.
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Lee Samaha has no position in any stocks mentioned. The Motley Fool owns shares of and recommends MSC Industrial Direct. The Motley Fool recommends Wesco International. The Motley Fool has a disclosure policy.