ScanSource, Inc. Form 10-Q Summary
Business context and reporting period
ScanSource distributes technology solutions and services, including barcode, POS, payments, security, networking, unified communications, telecom and cloud offerings. It operates through Worldwide Barcode, Networking & Security and Worldwide Communications & Services. This filing covers the quarter and nine months ended March 31, 2020, the third quarter of fiscal 2020, rather than calendar 2019 Q3.
Key financial metrics
| Metric | Quarter ended March 31, 2020 | Quarter ended March 31, 2019 | Nine months ended March 31, 2020 | Nine months ended March 31, 2019 |
|---|---|---|---|---|
| Net sales | $872.5 million | $893.4 million | $2.851 billion | $2.912 billion |
| Gross profit | $94.8 million | $110.0 million | $320.8 million | $342.7 million |
| Gross margin | 10.9% | 12.3% | 11.3% | 11.8% |
| Operating income | $6.3 million | $18.8 million | $43.4 million | $69.9 million |
| Operating margin | 0.7% | 2.1% | 1.5% | 2.4% |
| Net income | $1.7 million | $11.7 million | $24.6 million | $46.0 million |
| Diluted EPS | $0.07 | $0.45 | $0.97 | $1.79 |
| Cash flow from operations | Not separately provided | Not separately provided | $150.1 million | $(24.5) million |
At March 31, 2020, cash and cash equivalents were $34.6 million, inventories were $666.5 million, accounts receivable were $618.8 million and total assets were $2.074 billion. Total debt was $320.6 million, including $168.5 million drawn on the revolving credit facility. Shareholders’ equity was $897.7 million.
The company reported $181.5 million of unused revolving-facility capacity, although only $79.0 million was available for additional borrowing based on the leverage-ratio calculation. The company was in compliance with its debt covenants. Its credit facility matures April 30, 2024 and requires a leverage ratio no greater than 3.50-to-1.00 and an interest coverage ratio of at least 3.00-to-1.00.
Material changes versus the prior comparable period
- Quarterly sales declined 2.3%, while nine-month sales declined 2.1%. On a constant-currency basis excluding planned divestitures and acquisitions, sales increased 0.5% for the quarter but declined 0.5% for the nine months.
- Quarterly gross profit declined 13.8% and gross margin fell 140 basis points. Management identified a $4.5 million inventory charge related to problems with a new inventory-management system at the Southaven, Mississippi distribution center.
- Quarterly operating income fell 66.6% and nine-month operating income fell 38.0%. The Barcode, Networking & Security segment drove much of the decline, while Communications & Services quarterly operating income increased primarily because of lower contingent-consideration expense.
- Net income and diluted EPS declined substantially, partly reflecting lower operating income and a quarterly effective tax rate of 53.1%, compared with 25.8% in the prior-year quarter. The nine-month effective tax rate was 29.6%, compared with 25.4%.
- Operating cash flow improved by $174.6 million year over year, primarily because of higher accounts payable and lower inventory. Investing cash outflows included $48.9 million paid for the July 1, 2019 acquisition of intY and its CASCADE cloud platform.
- Total debt declined from $360.5 million at June 30, 2019 to $320.6 million at March 31, 2020. Accumulated other comprehensive loss increased to $129.2 million, primarily because of foreign-currency translation losses and interest-rate-hedge losses.
Guidance, outlook, commentary, risks and unusual items
- Management expected fiscal 2020 capital expenditures of approximately $7 million to $8 million.
- Management expected a fiscal 2020 effective tax rate, excluding discrete items, of approximately 29.5% to 30.5%.
- COVID-19 had limited impact during most of the reported quarter, but April net sales declined 22% year over year, or 20% excluding foreign-currency translation. Management expected COVID-19 to adversely affect operations for at least the next two quarters, potentially longer.
- COVID-19 risks include lower demand, supplier disruptions, distribution-center staffing constraints, increased healthcare costs and weaker cash flow. The company stated that the ultimate impact could not yet be predicted.
- The company planned to divest physical-product distribution businesses in Europe, the United Kingdom, Mexico, Colombia, Chile, Peru and Miami. Negotiations and due diligence were ongoing, with no assurance that the transactions would close or produce favorable terms.
- The company recognized $6.3 million of contingent-consideration expense for the nine months and had a $45.7 million current liability related to the remaining Intelisys earnout. Future undiscounted payments were estimated to be up to $48.1 million.
- The company adopted ASC 842 leases on July 1, 2019 and recognized approximately $37.0 million of right-of-use assets and lease liabilities. The adoption was not material to the income statement.
- Management stated that existing cash, operating cash flow and available credit were expected to satisfy working-capital and other cash requirements for at least the next twelve months. The company has never paid a cash dividend, and its credit facility restricts cash dividends.
Most important facts for investors to verify
- Whether COVID-19-related sales declines and operational disruptions persisted beyond April and affected covenant compliance or liquidity.
- Whether the Southaven inventory-system problems were fully remediated and whether additional inventory charges were required.
- The final purchase-price allocation and ongoing earnings contribution of intY.
- The timing, valuation and accounting consequences of the planned international and Miami divestitures.
- The amount and timing of the remaining Intelisys earnout payment.
- Whether the company maintained sufficient borrowing availability, particularly the $79.0 million calculated availability, as operating earnings changed.
- The effect of foreign-currency movements and the interest-rate swap on accumulated other comprehensive loss and future earnings.