CDW Corporation — Q2 2016 Form 10-Q
Reporting period: Quarter and six months ended June 30, 2016. Unaudited results. CDW provides IT products and solutions to business, government, education and healthcare customers in the U.S., Canada and U.K. CDW UK was consolidated after its acquisition in August 2015, affecting year-over-year comparisons.
Financial performance
| Metric | Q2 2016 | Q2 2015 | Six months 2016 | Six months 2015 |
|---|---|---|---|---|
| Net sales | $3,664.6m | $3,314.0m | $6,781.3m | $6,069.2m |
| Gross profit / margin | $610.5m / 16.7% | $534.5m / 16.1% | $1,135.0m / 16.7% | $991.0m / 16.3% |
| Operating income / margin | $223.5m / 6.1% | $205.9m / 6.2% | $384.5m / 5.7% | $357.5m / 5.9% |
| Net income | $117.5m | $108.2m | $195.3m | $162.9m |
| Diluted EPS | $0.70 | $0.63 | $1.16 | $0.94 |
- Q2 sales rose 10.6%; excluding CDW UK, organic sales increased 4.3% (4.5% on a constant-currency basis). Six-month reported sales rose 11.7%; organic sales grew 4.5% (4.8% constant currency).
- Q2 gross margin expanded 60 basis points, attributed to service-contract mix, vendor funding and CDW UK. Operating margin fell 10 basis points as selling and administrative costs rose faster than sales, including higher staffing and acquisition-related costs. For the six-month period, operating margin declined 20 basis points.
- Q2 net income increased 8.6%. Six-month net income increased 19.9%; the prior-year comparison included a $24.3m debt-extinguishment loss, while 2016 had none. Net interest expense also declined year over year.
- Management-reported Q2 Adjusted EBITDA was $300.6m, up 12.2%, with an 8.2% margin versus 8.1%. Six-month Adjusted EBITDA was $533.3m, up 11.4%, with a 7.9% margin, unchanged year over year. These are non-GAAP measures.
Cash flow, debt and liquidity
- Six-month operating cash flow was $313.1m, versus $99.1m a year earlier. The increase reflected stronger earnings and working-capital movements, including higher trade payables and collections; inventory uses of cash were approximately $99m in both periods. Capital expenditures were $25.7m.
- Cash was $129.4m at June 30, 2016, compared with $37.6m at year-end. Total debt carrying value, including current maturities, was approximately $3.24bn; net debt was $3.11bn. The company reported $778m available under its U.S. revolving facility and a further £50m (about $67m) under the CDW UK facility, with no U.S. revolver borrowings outstanding.
- CDW reported compliance with debt covenants and a 2.9 total net leverage ratio. Inventory financing payables were $509.8m, up from $439.6m at year-end; the company said these arrangements do not incur interest when paid as due.
- Cash conversion cycle improved to 17 days from 19 a year earlier. Financing cash outflows included $223.1m of share repurchases and $35.7m of dividends. The board authorized a $750m increase to the repurchase program in May; a quarterly dividend of $0.1075 per share was announced after quarter-end.
Business changes and management commentary
- Q2 Public segment sales increased 11.4%, led by government and education; Corporate sales declined 1.1%, as medium/large customer sales fell 2.1% amid delayed projects and longer decision cycles. Other sales, including CDW UK and Canada, rose sharply primarily because CDW UK was included for the full quarter.
- For the six months, Public sales grew 8.8% and Corporate sales grew 1.8%. Education benefited from E-Rate-related projects and digital learning initiatives; healthcare remained subdued amid industry consolidation. Management cited growth in notebooks/mobile devices and security and applications software.
- Management described economic signals as mixed and said it was monitoring conditions and adjusting operating plans. It identified customer IT spending, government budgets, competitive pricing and execution in complex technology solutions as important factors. No specific company revenue or earnings guidance is provided in the supplied filing text.
Risks, contingencies and unusual items
- Management highlighted potential Brexit-related market and currency volatility, trade restrictions and regulatory complexity, as well as broader economic uncertainty that could defer customer IT spending or pressure prices.
- The SEC had requested documents in an investigation of CDW’s vendor partner program incentives. CDW said it had produced documents and was cooperating. As of June 30, the company did not believe a material loss beyond amounts already recognized was reasonably possible, while noting outcomes are inherently unpredictable.
- Other stated exposures include ordinary-course litigation, government and customer audits, and potential customer bankruptcies. Management said there were no material changes to contractual obligations and no material off-balance-sheet arrangements.
- Foreign currency translation reduced six-month comprehensive income by $42.9m. The filing states that interim results are not necessarily indicative of full-year results.
Important facts for investors to verify
- Separate organic performance from acquisition-driven growth, and assess CDW UK’s contribution, profitability and integration costs.
- Track operating-expense growth and margins, especially Corporate performance and whether Public-sector growth persists.
- Assess the sustainability of operating cash flow given the contribution of trade-payable timing and working-capital movements.
- Review net debt, covenant headroom, planned repurchases and dividends, including the effect of capital returns on leverage.
- Monitor the SEC vendor-incentive investigation, Brexit-related currency and trading risks, and customer spending trends.