Snap-on: Tools of the Trades - [Business Breakdowns, EP.213]
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This is Matt Russell, and today we explore the world of tools to break down Snap-on. My guest is Matt Fleming, Portfolio Manager at William Blair. For all of the publicity that the other Snap gets, Snap-on has been around for over 100 years. Today, it operates with over a $17 billion market cap. And it's a great place to start your day.

And it has continuously evolved the straightforward model of selling tools to specialists like mechanics into this durable business model where it has carved out a leadership position in the professional tools market.

Matt gets into what makes Snap-on different, the early days of tool innovation, the relationship-focused sales team built around a franchise model, and a financing program that dates back to the very early days of Snap-on. If you've only lived in the world of DeWalt tools, you'll have some fun learning about the professional world through Snap-on. So please enjoy this breakdown of Snap-on. ♪

All right, Matt, I am excited to break down Snap-on today. This has been a fun one for me to research myself and into some of the history here of this business, one that I was not particularly familiar with. And I thought the best place to start is with the

simplest overview. They operate in an interesting niche and an interesting segment of the economy. So maybe you could just kick us off there. Of course. Well, Matt, I think they do probably the best job of describing their business. And so they self-describe as a designer and manufacturer of innovative and high quality tools that, quote, make work easier for serious professionals performing critical tasks where the cost for penalties of failure are high. They

They are a tool company, but it's very different from the tools that maybe you have in your garage or I use in my basement from time to time. These are professional grade tools, very, very high quality. They've got to be durable. The socket wrenches can't snap. The screwdrivers can't bend. Their technicians and users, which I'll get into, are using these all day, every day for their livelihood.

Things like comfort and ergonomics really matter. And then again, dependability. One of the great things about Snap-on is that they're constantly innovating and creating tools for their customers to do the job quicker and more efficiently. So very high uptime and productivity improvement.

You mentioned it there. It's a little more targeted at the professional rather than me with my set of DeWalt tools or pick your consumer brand. Do they have a particular market that they go after in terms of the tool usage? Is there concentration in certain portions of that? Yeah.

Yes, there certainly are. So again, these are professional technicians and 77% of their customers are vehicle services professionals. So think about automotive technicians and mechanics that are working at dealerships, but also for the most part, smaller collision repair or auto repair shops.

The other 23% of their customer base, again, are professionals, but in usually what they describe as critical industries. So think aviation, aerospace, military, government, natural resources, and trade schools. So it is a pretty well-defined professional segment that they're targeting.

How do you think about the market that they operate in? Because we could just look at it as the broader tool market. You could separate it between consumer and professional. How do you frame it? And then do you have any sense on the size of that market just in terms of what it represents? So take these numbers with a grain of salt because they're a little bit squishy. But what I've come up with is probably the total tool market in the United States, a

I'll kind of reference United States because that's about 75% of Snap-on tools in North America and predominantly in the United States. So that market is about 6 billion. But again, that's going to include Stanley Black & Decker, DeWalt, the stuff that I may use, Big Box. I estimate about half of that. So about 3 billion is probably the total addressable market for their customer base.

So the way to think about that, though, is there are 800,000 auto repair technicians in the United States. So that's their primary customer base. There's about 8% turnover annually in that industry. So about 68,000 professionals are coming into that business every year. So it's pretty fluid turnover.

Specifically, the way they measure market share is, and I'm sure we'll talk more about this, but they have a specialized distribution network that they call mobile tool distribution, probably more commonly known as the van market. And they have about 60% share within the van market of mobile tools.

Within their two other segments, which are adjacent, so think non-auto technician, which would be auto repair equipment and critical industries, market shares are a little bit harder to frame out for those two segments. Auto repair equipment's very decentralized, and Snap-on has by far the leading share, but it's hard to put a number on that. And then the same within critical industries, a little more concentrated, but again, they have the majority of that share.

It's an interesting business model in terms of how they've evolved with the mobile van dynamics and a bit more that we'll get into there. But let's just go all the way back to the start. It has a rich history. Can you bring us to the origin story and why?

some type of timeline to where we are today. It's a long time. So any major points that you think are worth highlighting? I think it's really fun because when you look at the business today, you can look back and really see the evolution of this company. There were no major pivots. There were just what I'd say are evolutions and enhancements. So in 1920, there was an automotive engineer named Joseph Johnson who

who was recognizing the burgeoning automotive industry in the United States, Model T, Ford, all the other car companies that were coming out. And he recognized that you could increase productivity through tools. He essentially invented what we consider to be the modern day socket wrench. So he came up with a system with five different handles and 10 different sockets that you could interchange and interconnect. And his mantra was that five does the work of 50.

He created this multipurpose tool back in the day when you had single-use tools. So really a much more effective model. Fast forward to 1930, the company which he founded, which was then known as the Snap-on Wrench Company, merged with another high-quality tool company called Bluepoint. So those two companies merged and renamed the company Snap-on Tools.

In the 1930s, you had some interesting evolution because we were unfortunately, obviously in the depression. And so not a lot of tools were being bought. But what Snap-on did was what they came up with, they called the dream orders. And that's when they would go to their customers and say, hey, I know you're not in a position to buy any tools right now.

But what would be the magic wish list? If you were to get any tool you want, what would it look like? And so they would really listen to their customers, describe what they needed in the tools. And so that became the precursor to what we now talk about as the voice of the customer. The other thing that they pioneered during the 1930s was extended payments. They called them time payment. We'll fast forward to the model today where technicians are able to buy tools off the van and finance those and make regular payments.

So that really originated in the 1930s. 1940s, post-World War II, we saw the development of the direct distribution, which was the precursor to today's mobile tool distribution or van model. In 1990, they converted that business to a franchise model, which it is today and is a very important part of the story. In the 2000s, like a lot of other companies, Snap-on really embraced continuous improvement

and developed what they call the RCI, the Rapid Continuous Improvement System, that's based on the Toyota production system. And certainly there are other very well-known brands, Danaher Business System, 8020, Kaizen Lean, et cetera. But SnapBonds is called RCI. And then the last really important milestone, I would say, is Nick Pinchuk, who is the president, CEO, and chairman today. He became president and CEO in 2007, and has been really integral to

their employment of this business system. And when we talk about the margins and the sales growth, he's really been a key part of that. Such a rich history and a lot that I want to get into there. I think the idea of the wishlist, particularly at a time where the economy was stressed, is something where you could easily just look internally at your business and think about ways that you can improve it. But to go externally is powerful. On your point in terms of the

financing model and giving technicians the ability to do this, which is a unique way of providing credit, almost creating a new business line. It's interesting to me to hear that when I think of tools, again, I'm coming from the consumer perspective. So I'm thinking of things that might not be super expensive. These items, when you think about the cost of

the average sale, are they higher than I'm imagining? What drives that financing need, which is not immediately obvious to me? I think you've hit the nail on the head. Typically, their products are 20% to 30% higher than their competitors, which I think speaks to their brand loyalty and the quality and so forth. What's really interesting, and when I first got into Snap-on, this was really the hook for me,

is really a couple dynamics I think we should explore. The first is in the United States, it's a very different model in that the technicians have to supply their own tools. So if I go to work at an auto repair shop, I'm essentially using the bay and whatever car comes in, if it's my turn, I can go work on that car and I can get paid for it. But because there's such a high turnover in the industry, the tools are basically required to be owned by the individual. And so there's

There's not a lot of working capital for the shop. And so therefore, what it ends up happening is the tools that you have as a technician really enable you to do more work. What's amazing to me, Matt, is not only is, say, a BMW require different tools than a Toyota, but really even within the same brand, different makes, different models all require tools.

So what you end up having is a vast collection of tools that you need as a technician. Some of the work I did suggest that I would say, you know, an entry level technician just to probably if you were I to get started in this business, we'd probably need 25 to 50 tools. And that might be $11,000 collectively. If you're an experienced technician and you've been doing this maybe 15, 20 years, you might have $40,000 worth of tools that you have.

For the most part, the financing does tend to be higher ticket items, which are tool storage, for example. That might be a $10,000 really sophisticated rolling toolbox. Increasingly, power tools are more expensive. And then diagnostic tools, which are

essentially laptops that you can plug into the car and get a whole diagnostic setup. Those are pretty high ticket items. For the most part, you tend to finance those. But over time, there's quite a collection of tools that the technician will finance. I'm sure there's some combination of both, but quality seems like a big piece of this.

Is that what they really lean on relative to the competition? What is their brand value when you think of quality, convenience, and even the status that it might signal as a brand? Their competitors, specifically Matco, have adopted a van model as well. So I think what Snap-on really differentiates it is just in a tight geography. So the vans are stopping by at least weekly, if not more, to the technicians.

Technicians really prefer to buy from the van for a couple of reasons. One is it's pretty convenient. They don't have to leave their place of work to get a tool. The second is, is that the vans are really doing value added selling. So you might be the van operator and I'm the technician and I'd say, Matt, I've got this issue that I really need to solve. And you might say, oh, well, you should really be using this tool and not that tool. And I happen to have it on stocks.

So I think it's really differentiation of the value added sell. It's the SKUs. So Snap-on has 40,000 SKUs just in the tool segment. So 65,000 SKUs company wide. But again, just on that automotive technician, you know, 40,000 different SKUs.

They're constantly innovating. One number I came up with, it's a little hard to pin down, but CEO Pinchuk referenced their Snap-on Franchise Conference, which is their big annual event. Last year, they showcased 4,500 new tools to the van technicians and operators to really understand that. I would say to your listeners and to you, a real highlight of Snap-on is listening to their quarterly calls regularly.

when Nick Pinchuk picks a tool to describe and is quite passionate about it. So I picked two. An example they talk about is this new special hex driver with an extra long five and three quarters shaft that allows the technicians on newer cars to adjust the radar sensors

without having to take the bumpers and the grills off. So historically, they'd have to take these parts off. Now they've got this extra long piece that goes in there. Their new handheld is called the Apollo Diagnostic System. It uses their software system called Mitchell One. There's over 3 billion repair records and 500 billion data points in this system. There's just unmatched

And then one of the new things they were talking about, which I think is really cool, is you can actually set your tool crib up such that if you take a tool out and at the end of the day, if you don't put it in and you shut it, it will let you know that you're missing a tool. They're taking that technology and applying it to folks that work on aircraft engines, just making sure that all the wrenches you brought out came home with you. And they're thinking about adding those type of innovations, things like medical as well.

It's painting a very nice picture. The next time the mechanic tells me it's going to be $2,000 because they have to take apart the steering wheel, I'll make sure that they check with Snap-on first. I think that's a great idea. On the van model, for

For me, it's easy to look at this and say, oh, it feels like it might be outdated with everything happening online these days. Can you walk through what that looks like? You have a weekly meeting. You mentioned that they're trying to buy things off the van. I can't imagine they're carrying 40,000 SKUs. So what does that look like in terms of, is there conversations being had about what they might need and then they're bringing them the next week or a little bit more that gets into the sales process? I know it's going to look differently each time.

Setting the stage, there are 4,700 vans worldwide. The majority of those, about 3,400 are in the United States.

5% of those are company-owned. The rest are this franchise model. When you get into a franchise as a franchisee, there's going to be an initial outlay of capital, and then you do have franchise costs. That's probably, I think, around $20 million a year in total for Snap-on that they get from these franchisees. And then there's a capital commitment that the van has to

by somewhere around $140,000 of inventory. So to your point, they really want to make sure that their customers

are being supplied with the inventory. They don't want a van to be under inventory. A franchise van probably has up to 200,000 in inventory. So they're going to carry, obviously not 40,000 SKUs, but they're going to probably carry 80, 20, the 80% are the fastest turning. Certainly if there's a product they don't have, they can order it and bring it back. The beauty of the franchise model, as I said, was not only the value at its sell, but it also works very well when they sell on credit.

Because there's a natural governor that every week you're coming and collecting. If I'm not paying you back and I say, well, hey, Matt, I need a new tool, you might say, well, and you get paid for the first tool before that. So I think there's a natural balance on both sides of that.

Certainly makes a lot of sense, the enforcement of that credit. I want to tap into that evolution from Vann into franchise and the franchise model. There's obvious benefits when it comes to capital intensity and what you can do. But can you tap a little bit more into that? Was it unique when they did it? And what would you say are the major benefits of operating this way versus the traditional industry?

in-house sales force? First of all, I think you can control your margins. And so they will sell at a certain price to the franchisee. They have probably what I call MSRP, you know, or list pricing that they set out. But ultimately, it's up to you as a franchisee to price appropriately. Therefore, there's very little discounting that they're doing, as opposed to, say, Stanley Black & Decker, who has to partner with a big box retailer with a lot of pricing power. They're

they're going to share in that margin. The vans do a pretty good job and they typically earn about a 30 to 35% gross margin, but they are bearing the risk. They are also absorbing the capital cost as well. And then just frankly, the operating costs as well. So they're driving a van around pretty regularly.

The risk to that, of course, is Snap-on's got to really make sure that their customers are getting serviced and make sure the brand is intact. It was sort of a natural evolution of once they had that geography and footprint in place to really kind of outsource the model to a more capital-like. Do you see pockets of...

pressure on that system? Because as you mentioned, you're putting a lot of the business decisions in their hands. It removes some of the risk from you, but ultimately you're dependent on them to remain in business and thoughtfully efficient. How much volatility have you seen with that over time?

I don't have a great number in terms of a turnover, but it's pretty low. I wouldn't go so far as to say that the Snap-on franchise is like a Budweiser dealer or Caterpillar dealer or anything like that. It's a pretty loyal group. They bring all these franchisees out to this main conference every year and it's a 10-day event and people really love it and they look forward to it. The initial capital costs are not

insignificant. So I think what you get is folks that are pretty committed to being in the business and then figure out pretty quickly that they like it. One thing I didn't mention is the company also has a number of other trucks that they use as well, and they will supplement the vans. So these are pretty funny. They've got the rock and roll cab,

and the techno which is t-e-c-h-k-n-o-w these are specialized vans that they will bring around and really help the franchisees sell the product market it but for example don't have to carry a hundred units of ten thousand dollar tool crips i think snap-on's done a very good job partnering with the franchisees and making sure they know that they're supported

One of the other things I wanted to tap into was the idea of advice. And this is something that I'm always surprised by, but I need to adjust my thinking around it.

it, how these reps can really instruct and help out the actual people performing the jobs. Would you say that that is a big piece of what they're doing? How would you measure the value in just the knowledge and the ability to suggest a different tool that's going to make whatever operation a little bit easier on a BMW?

Candidly, the van operators are not necessarily automotive technicians themselves. They're probably not going to suggest a new way of auto repair. Where I think their value added though is really understanding from the company what the new product line and this again, really refreshing that 4,500 new tools a year. And the company itself does a great job of really going to visit customers,

technicians take cars apart, take notes and say, wow, we could come up with this new product. So again, I think that the new tools are really being designed in partnership with the customer, but it's the van operator who is just really distributing or promoting that is probably a better way to think about it. That makes sense. On the, I,

idea of the advantage that they have built over time. It's a historic business. There's been a ton of tools businesses around. Maybe this gets into what you were mentioning with KCI, but what can you point to that has allowed them to differentiate from competitors, but also just maintain that advantage over time? If you were to isolate or think about different variables, what really stands out there?

First of all, they have a lifetime warranty. I can't speak to Matco's warranty or some of their competitors, but that's a pretty big differentiation because getting back to this capital cost, if you're going to pay 20 to 30% premium, you want it to be durable. And then if it breaks, you want to obviously have it taken back. I think that's a key piece of their brand. It really probably goes back to the innovation and breadth of product. They're really controlling how far and wide they can go. For example, Matco,

supplies Milwaukee brand power tools on their van, but it's a third party. And so Snap-on really takes pride in the fact that they control 85 to 90%, meaning soup to nuts, manufacturing, design, distribute their products. And so they really feel good that they're continually giving folks what they want.

There are upgrade cycles, which they're currently working on. So tools is probably farther and fewer between in terms of replacement, but you're probably going to replace your diagnostic equipment every three to five years. And you might replace your tool storage every five to seven years. And I think there's a pretty loyal customer base. I don't want to suggest it's Ford versus GM, but I think folks who really know the product and there's a strong brand loyalty there.

If we start to consolidate everything we kind of mentioned into the financial model a bit here, when you think about top line growth and the drivers, you have the new SKUs. It's unique because of the franchise model. But can you break down how you approach top line growth, just how the business frames it as well?

They talk about 4% to 6% organic top-line growth, and that's company-wide. Obviously, that goes in waves. If I break down those components, it's going to be the new entrance to the technician market, 68,000 a year. It's going to be the existing base that is growing with, again, those new tools that they're buying. There does tend to be some cyclicality, and I don't know that's the right term,

it's probably better described as a product refresh. So a couple of years ago, they really revamped their tool storage line. That was a pretty big driver as well. So you do get those spikes. The business tends to track

overall economic growth, but I would say there's certainly a component of consumer confidence slash small business optimism. And when the technicians are concerned about the economy, they might pull back on their purchases just as a consumer might. There does tend to be a little bit of that as well, but it's certainly not the boom bust of other industrial companies.

Coming into this, my impression was maybe that there was a little bit more of the natural replacement cycle that was keeping a floor on revenue, which may be the case. But I am getting the sense that a lot of the revenue-based revenue growth is driven by either net new mechanics coming into the industry or net new SKUs being introduced to the market. Is that the case where it is a lot of new business rather than the reoccurring maintenance state?

I think that makes a lot of sense. So I think if we break it down another way, Matt, tools is about 54%, diagnostic equipment and management systems, 22%, and equipment's 24. So equipment is going to be big ticket items such as a car lift, a real liner. That's going to be purchased not by the technician, but by the auto shop itself. For sure, there's a replacement cycle there. There is some innovation. They were just talking about a new

wheel aligner that's modular so you can move it around your shop if you don't have the dedicated space. They're certainly innovating there, but for the most part, I think you've got some more replacement cycles that go with that. Diagnostics and management systems, I would say that falls more into the new growth category. And if you think about the complexity of new cars,

A 2025 Tesla is really different than your 2012 Honda Civic or what have you. It's much more computerized. You have to be really plugging in. So I think in that segment, those are higher ticket price, going to be a little more cyclical, but you're having technological innovation for sure. That big piece, 54%, I think you really got that right, where there is going to be some replacement, but the majority of that's probably going to be new SKUs and new entrants to the market.

On that point, just in terms of the evolution of cars and what they have become, where increasingly computer-esque, you often hear anecdotes from mechanics about how challenging it is to work on a car. It feels like there's not a lot of standardization from one car to the next. How much of a reality is that? And how does that impact the business? Is it just a matter of evolving technology?

to create tools that support that new look and feel of vehicle? Or is there anything else to it? On the margin, you've actually seen dealerships gain share from the independent repair shops. And that's because they have access to this sophisticated equipment. And so therefore, folks like Snap-on are going to design and create tools for small independent shops to compete effectively. My sense is what you're going to have is

In the old days, you might have a big computer in your office and you had to do your work there. Now, obviously, we've all got mobile and handheld and iPads. And so I think increasingly that's the way technology is going to go. In addition to just being able to plug your machine into the car and have the machine tell you what's going on with it, if you just think about

The number of manuals you have to have for a car that's been in production for 30 years, you don't want to have your bookshelf with those manuals. You want to have it all on your laptop and flip it up really quickly. It's as much data as it is interaction with the machines. What's really interesting is that Snap-on, I think, is developing a pretty interesting subscription business. Every year, as a technician, you might just download all your manuals for

100 different cars or what have you. And then somebody brings in something you don't have, you might actually purchase that and be able to work on it. Yeah, it's an interesting way to add a new revenue line. It makes a lot of sense in a value-added way. On that point, just in terms of the

independent repair shops versus car-associated dealerships and their maintenance services. Does Snap-on have any relationships with the auto OEMs, the car dealers? Do they sell into that market at all? Yes, they do. You can kind of cut this business a number of different ways, but the way they actually break down their segments are three. So they call Snap-on Tools, which is about 39% of the business. That's primarily focused on that automotive technician that we talked about.

primarily the independent channel. And then they have C&I, which is commercial and industrial. That's that critical industries we talked about. That's going to be about 23%. And then the remainder, 30%, is what they call repair service and information.

About a third of that is going to be tools that they sell to the technicians at the OEM dealers. Another third is going to be undercar equipment, think the big heavy CapEx lifting systems. And then a third is probably going to be that information systems that we talked about. Thank you. I think I've asked to break down the revenue base every possible which way and

You become armed with the numbers. The last point, just on the top line and revenue, you mentioned cyclicality for lack of a better term, but there's exposure to the general economy. How has the business performed when we have seen recessionary periods, whether you take the financial crisis, I know that was a very unique time, something like the industrial recession, which I'm not sure that that would have had an impact in that 15, 16 timeframe. But are there

Are there any historical precedents that you can point to that really projects what type of sensitivity they would have to downturns? The first quarter of 2009, which I'd say is probably the worst period in recent economic history, ex-COVID, which we can talk about in a second, organic sales were down 11% in the snap-on tools business.

recovered pretty quickly to finish the year down three and then ramped pretty quickly thereafter. So the following year, plus five, plus eight, plus 10, plus 13, really for the three years afterwards, 2010 through 2013, high single digit organic growth. Similar pattern to 2020, where you had

Q2 and the whole world was shut down, down 20%. Down eight in the first quarter, down 20 in Q2 2020, but then 17 and 20% rebound followed by 27% and 50% organic sales in Q1 and Q2 in 2021. So the reason I mentioned that is what the data would say is you certainly can have drawdowns in organic growth,

but it tends to get made up in the recovery period. That could be pent up to ban, that could be delayed replacement, that could again be new entrants and some combination of all the above.

a trend line that moves upwards with some shocks when you have macro economic periods. I think that's right. If we transition down into the margin line, and you mentioned they're able to control the margin now with this franchise model, can you talk a bit about what that has looked like historically and where they tend to operate from a margin perspective? I think if we frame out the three segments of

The margins in RS&I are going to be the highest. That's higher price point, higher technical sale. And RS&I, which is the repair service and information, in 2010, those were a little over 19%. They're 19.4% margins. Fast forward 14 years later, at the end of 2024, they increased those about 600 basis points to 25.3%.

They think those margins will certainly go up, but I think they're mindful of that they're pretty high already. CNI, which is the commercial industrial margins, pretty nice improvement as well, 11% in 2010. Again, 600 basis points in 2024. That's going to continue to go up, but they do sell about 50% of that segment primarily in Europe through distribution. So they are going to track lower margins than their tools counterpart.

but here's the real shining star in 2010 the tools segment had a margin of 10 percent and at the end of last year they finished at almost 23 percent 1200 basis points in 14 years and that averages out to be about 85 percent of annual improvement

Some of that is for sure mix. Some of that's new product and pricing, but that really gets back to the rapid continuous improvement, really under the stewardship of Nick Pinchuk. And this one keeps surprising me. I've owned this company for a long time. And every once in a while, I get hesitant and say, well, I just don't know that margins can continue to go. And I also get my notes. And I think I said that when they were at 15%, at 18%, at 20%. So I'm trying to be open-minded that they can continue to improve.

You see plenty of revenue growth stories that explain stocks. It's always interesting to find these efficiency where you're getting some top line, but the margin improvement that is quite incredible across the board, across all three divisions, just in terms of performance.

pressures upward or downward on those margins are there major things that you see as tailwinds or headwinds that you point to well you can have some mix again in that tool business so you're going to have a reference when they went through this tool storage business high ticket item

Those are pretty high margin. The diagnostics tend to be. So you do have that replacement cycle that can roll through. Those can be challenges. They do buy a lot of steel. It's unclear what impact of tariffs, but just general commodity costs can certainly be a headwind for them. They obviously forge and manufacture a lot out of metals.

When you take the margins, you move it down through the income statement into the cash flow statement, what does that look like in terms of free cash flow conversion and the general free cash flow profile of the business?

Free cash flow could be a little bit more lumpy. And the reason it's lumpy, Matt, is that we do have, as we talked about, this financial services business. And so what happens is when you're investing in finance receivables, that can drain some of your cash flow. So you kind of do have lumpiness over time. In good years, cash flow can certainly exceed earnings. And then probably on average,

It may bottom out somewhere like 60% of net income, and it can vary in between. But certainly a lot of cash flow at the operating company, no net debt at the operating company. They have a nice dividend. They do some small tuck-in acquisitions. I think the biggest one they've done is maybe $200 billion over the last 10 years or so. And so good allocators of capital.

How does the risk sit in terms of in the system? If a sale is made, it's financed, is that risk sitting at the parent level? Is

Is it at the franchisee level? I know there's a lot of intermingling there, but what are the mechanics there? So about 30% of the tools that are sold off the van are financed by Snap-on credit. I don't know that the technicians are financing this with outside credit. So again, 30% roll through. And then if

If they do that 30%, that becomes a finance receivable for snap on credit. So that goes up to the parent company. The risk is held with them. The good news is the bad debt is a little under 3% and the days delinquent

are between 1.7 and 2%. And I was looking at banks and other credit companies, that's probably just a touch higher, but not meaningfully worse. And then if you look at what I'd probably call subprime lenders, this is much better than that. So I think that really gets back to that frequent collection, that weekly collection that they do, it really keeps bad debt down.

And then they're earning an average yield of almost 88% on these receivables. So it's certainly expensive. And that also behooves their borrowers to pay it back pretty quickly. They also issue receivables to the franchisees, that initial $100,000, $150,000 capital. That's going to sit with the parent, but is obviously securitized by the van and the inventory.

Have they ever faced issues with the underwriting, the financing arm, just in terms of pockets of weakness and seeing some stress on that portfolio? Has that ever arose over the history? And it's a long history of financing. To my knowledge, not at all. And so if we go back in time...

In 2009, we bought the stock when they unwound their partnership with CIT. In 1999, they'd set up this partnership with CIT who went through various iterations. And in '09, they brought these receivables onto the balance sheet. And there was a lot of hand-wringing of this company makes tools, what do they know about finance and et cetera, et cetera. And it's just been smooth sailing ever since. For the most part,

I can't think of a period where they've had any stress or issues with the credit. So it's been a pretty nice track record for now. Every once in a while, you get what I call the doubters really talk about how they're juicing the market. That can be the bear cases. They're pushing credit to basically get technicians to buy tools they don't need.

It's very much the other way around. The receivables go up when sales of tools go up. They will lead with some promotions. But again, at 18%, it's certainly not what I call incentive financing for the customer.

On the capital allocation side, you mentioned there can be lumpiness in free cash flow. What is their general strategy in terms of allocating capital? It feels like, because again, of the franchise model, there's unique dynamics here. What does that look like?

They're buying back some stock. They've got a dividend. They are looking for opportunistic acquisitions. They're actually redeploying their capital in this finance company, which has been a pretty good use of their equity when they're getting those returns. They're spending probably 2% a year on R&D. So they are very efficient with their capital. They don't have a ton of capital expenditures. Probably the biggest source of redeployment is putting it back into that finance company.

And on the M&A front, when they do make acquisitions, I know way back when it was a tool manufacturer. Is that still what it looks like? Is there anything else that falls into the potential crosshairs? No, this would primarily be tools. And so they bought a brand fairly recently that gets them into the specialty torque business, which is a niche for them. I would say the others are pretty similar. So that was called mounts.

That was a $40 million acquisition. AutoCrib was another tool storage business, about $36 million. So what I would say is it's just going to be getting into smaller adjacencies where they can acquire a brand that's going to be attractive for them. Thinking about potential headwinds again, I know we've bounced around and then addressed a ton. If you just think about the overall auto market, whether it's

a reduction in the number of vehicles owned per household, whether or not that's actually playing out, but it's a commonly discussed theme. Are there themes like that that you can point to as potential headwinds or structural market dynamics that you see or worry about?

Well, I wouldn't say it's the auto headwinds themselves that I worry about. My personal view is you are going to see a lower number of OEM manufactured cars. And the reason you're going to see that, Matt, in my opinion, is the auto OEMs

really want to manufacture higher price point cars. So 15 years ago, there might've been an entry level, call it $20,000 automobile. Those are really hard to find right now. And obviously the OEMs want to manufacture 50 plus thousand dollar SUVs. On the margin, I think you're going to have fewer new builds

But the positive is that you are going to have a very robust used market and you're going to see people hang on to their cars a lot longer. And so right now, the average age of the car park or fleet is over 12 years. And that used to be in the single digits, call it 10 years ago. So people are certainly keeping their cars safe.

a lot longer, and then over time, that's going to mean increased repairs. The old days, if you bought a car every three or four years, or if you leased and you turned it in, you might not want to repair it as frequently. Now you are going to do that. So I think that's actually a structural tailwind for Snap-on. I think where you could see some challenges though is ultimately this is a people business.

If you look at the number of new entrants over time, it's unclear to me how many people are getting into the auto repair market. You certainly look at other industrial end markets like long haul trucking, for example, and it's just very hard to find people to enter that industry. So over time, if younger folks don't want to get into automotive repair as a career, that might just put pressure on the number of participants in it.

It's something I was thinking about as well, because when I covered the trucking sector, those two roles were frequently mentioned as massive shortages that were perpetual. It was auto repair mechanics and then long haul truckers. In trucking, there's kind of an obvious impact that that can have when you see capacity come out of the system, but you see it recover quite quickly. In auto repair, it's a little less clear to me

what that impact looks like, whether it just drives the price of auto repair higher, or what do you think it actually means if you do see a shortage of labor in that market that persists?

I think in the short term, that's going to give pricing power to the mechanics who are really saying, all right, I've only got a certain number of hours in the day. If I'm going to work on your car, you're going to have to pay for it. The other thing I would just throw into that discussion, Matt, is I don't know what immigration trends look like and how that impacts the number of participants as well. I think you could see fewer people getting into the business, less

fewer technicians, higher pricing, probably longer wait times. Maybe on the margin, that discourages you from getting your car repaired if you say, I can't wait three weeks and I don't want to spend this money. But I think this all takes place over a longer period of time. When you put it all together, thinking about the framework that you would use here for this type of business, valuation-wise, what type of approach do

do you take and how does that differ, if at all, from how the market views the stock?

One of the hallmarks of our process on the William Blair Value Team is we're big believers in historical valuation. We think that looking at comps is great, but as we like to say, if there's a cheap company in a universe, you might find that that's like buying the cheapest house in an overpriced neighborhood. So it doesn't tell you what the universe does. The other thing is that I think you can get false positives and false negatives.

Said another way, there's some companies just frankly trade in their own valuation orbit. So it's really important to understand where you are relative to that. Fortunately, Snap-on has been around a while. It's a pretty seasoned trading history. And this is pretty unusual. But what we do is we go back and we look at the historical valuation metrics on an average of a five-year, 10-year, 20-year basis. And for Snap-on, they're very similar actually in all three periods.

So if you look at the PE on a 5, 10, and 20-year basis, it's traded between 13 and 17 times. And so if you look at next year's estimates, that would imply a range of something like 270 to 360 for Snap-on. Same thing for EV to EBITDA, 8.5 to 12 times.

gets you to something like 260 to 364. Personally, I like PE a little bit better with this company because of the finance company, but I think you're actually kind of shaken out pretty similarly. But what I would tell you is when you do look at the comps, I would say the stock does look undervalued. Comps is tricky. So I think what I looked at was Interpac Tool, which is a manufacturer of high precision hydraulic tools. That stock trades at a PE of 23, 15 times EV to EBITDA,

ESAB and Lincoln Electric are both welding companies, very high consumable business, but sort of industrially tool-y. And those companies traded very similar valuations over 20 times PE and 15 times. I do think there is the potential for Snap-on to re-rate. If I'm asking you to make an assumption on those other names and...

why they would trade where they do versus Snap-on. But is it the finance business? Is it the growth characteristics of those businesses? Is there something that would be the easy explanation of the valuation gap between them? If I had to guess, it's probably the consumable element

When I look at those welding companies, I think the finance business is misunderstood for Snap-on. So I do think that plays a role for a very significant company in terms of brand and recognition. For an $18 billion market cap company, there's surprisingly little sell-side coverage. There's nine analysts who cover this name. That's actually as high as it's ever been. It is a little unusual for a company of its size and stature.

Absolutely. I think it's not a household name, which is quite interesting. And when I saw the market cap, I was quite surprised. A lot of people know the other snap that trades in the market. And-

Couldn't be two different businesses. Not a lot of overlap, I think, in that investor base. No, I would agree. Well, this has been a fascinating discussion. I have learned so much. Thank you for explaining it in so many different ways. We close these out with the lessons that you can take away from a business and potentially apply elsewhere. What stands out for Snap-on?

Well, I think there's five. And so one is that I think it's a great lesson to identify end markets where there's a natural demand. In this case, we're talking about that automotive turnover. We're talking about the value of the tool to the technician and secular tailwinds. Number two, I would say innovate differentiated products.

that can command brand loyalty and a price premium. So we talked a lot about innovation and their loyal customer base. Three, have that value-added unique distribution. I think you can really see the impact that's had on the tools margin and really the value to the consumer. Fourth, I think the continuous improvement speaks for itself in the margin improvement in the tools business. And then finally, leadership matters. It really starts at the top. And Nick Pinchuk, I think, is an iconic example

CEO. There's some obviously well-known other CEOs out there, and I think Nick's name is not always mentioned with them, but it probably should be. I would say those are my five lessons. Excellent. An excellent way to close it out. Thank you very much, Matt, for sharing the knowledge. To find more episodes of Breakdowns ranging from Costco to Visa to Moderna, or to sign up for our weekly summary, check out joincolossus.com. That's J-O-I-N-C-O-L-O-S-S-U-S dot com.