content_image/82006.jpg
## 2004  $_{ }$ 

(Dollar Amounts in Millions except Per Share Information and as Otherwise Noted) 

Management included the net earnings growth rate information excluding the gain on disposal of the DIY Business and excluding the extraordinary gain on acquisition because we believe it provides a consistent presentation of the growth experienced in Fastenal’s ordinary course operations. 

During 2004 and 2003, the net earnings growth rate was greater than that of net sales primarily because of the earlier mentioned impact of payroll and related costs, and, in the case of 2004 only, the improvements in gross profit margins. During 2002, the net earnings growth rate was lower than that of net sales primarily because of the earlier mentioned impact of operating and administrative costs. 

Effects of Inflation— Price inflation related to certain products positively impacted net sales in 2004. Price deflation related to certain products negatively impacted net sales in 2003 and 2002. 

Critical Accounting Policies— The Company’s estimates related to certain assets and liabilities are an integral part of the consolidated financial statements. These estimates are considered critical to the consolidated financial statements because they require subjective and complex judgments. 

Allowance for doubtful accounts – This reserve is for accounts receivable balances that are potentially uncollectible. The reserve is based on (1) an analysis of customer accounts and (2) the Company’s historical experience with accounts receivable write-offs. The analysis includes the aging of accounts receivable, the financial condition of a customer or industry, and general economic conditions. Historically, results have reflected the reserves previously recorded. Management believes the results could be materially different if historical trends do not reflect actual results or if economic conditions worsened for the Company’s customers. 

Inventory reserves – This reserve is for shrinkage. The reserve is based on an analysis of inventory trends. The analysis includes inventory levels, physical inventory counts, cycle count 

## Management’s Discussion & Analysis of Financial Condition & Results of Operations 

adjustments, and the on-hand quantities relative to the sales history for the product. Historically, results have reflected the reserves previously recorded. Management believes the results could be materially different if historical trends do not reflect actual results. 

Health insurance reserves – This reserve is for incurred but not reported and reported and unpaid health claims. The reserve is based on an analysis of external data related to the Company’s historical claim reporting trends. Historically, results have reflected the reserves previously recorded. Management believes the results could be materially different if historical trends do not reflect actual results. 

General insurance reserves – This reserve is for general claims related to worker’s compensation, property and casualty losses, and other self- insured losses. The reserve is based on an analysis of external data related to the Company’s historical general claim trends. Management believes the results could be materially different if historical trends do not reflect actual results. 

## Liquidity and Capital Resources 

Net cash provided by operating activities was: 

<img src='content_image/82006.jpg'>

The 2004 decrease in net cash provided by operating activities was primarily due to the increase in inventories. The 2003 increase in net cash provided by operating activities was primarily due to the increase in net earnings and the impact of lower growth in inventories when compared to 2002, and, to a lesser degree, the impact of effective accounts payable management and of the strengthening Canadian dollar when compared to the United States dollar. The 2003 increase was partially offset by expected increases in trade accounts receivable. 

