ScanSource, Inc. Form 10-K Summary
Reporting period: Fiscal year ended June 30, 2016. The filing is an annual report, not a 2015 fourth-quarter filing; quarterly data for the quarter ended June 30, 2016 are included. ScanSource distributes technology products and solutions to approximately 34,000 resellers across North America, Latin America and Europe through two segments: Worldwide Barcode & Security and Worldwide Communications & Services.
Financial performance and liquidity
| Metric | FY2016 | FY2015 | Change |
|---|---|---|---|
| Net sales | $3.540 billion | $3.219 billion | +10.0% |
| Gross profit | $355.4 million | $327.1 million | +8.7% |
| Gross margin | 10.0% | 10.2% | Down 20 bps |
| Operating income | $96.9 million | $101.4 million | -4.5% |
| Operating margin | 2.7% | 3.2% | Down 50 bps |
| Net income | $63.6 million | $65.4 million | -2.8% |
| Diluted EPS | $2.38 | $2.27 | +4.8% |
| Operating cash flow | $52.2 million | $75.5 million | -30.8% |
Barcode & Security sales increased 11.6% to $2.381 billion, primarily reflecting the KBZ acquisition. Communications & Services sales increased 6.9% to $1.159 billion, largely due to a full year of Network1 results. On a constant-currency, excluding-acquisitions basis, consolidated sales increased less than 0.1%, indicating limited underlying growth.
Barcode & Security gross margin improved slightly to 8.4%, while Communications & Services gross margin declined to 13.4% from 13.8%. Communications & Services operating income fell 19.6% to $44.7 million, while Barcode & Security operating income rose 8.1% to $53.0 million.
Cash and cash equivalents were $61.4 million at June 30, 2016, down from $121.6 million. Working capital was $643.8 million versus $645.4 million. Cash used in investing activities was $73.6 million, including $61.5 million of net cash paid for KBZ and $12.1 million of capital expenditures. Cash used in financing activities was $36.3 million, principally reflecting $100.2 million of share repurchases, partly offset by revolving-credit borrowings.
Total debt, including current and long-term debt, was $76.9 million versus $8.8 million. The company had $71.4 million outstanding under its $300 million revolving facility, with $228.2 million of additional availability, and was in compliance with its covenants. Management stated that existing liquidity is expected to cover working-capital and cash requirements for at least the next twelve months.
Material changes versus the prior comparable period
- Revenue growth was acquisition-led and adversely affected by foreign-currency translation. Excluding acquisitions and currency effects, segment results were mixed: Barcode & Security rose 0.8%, while Communications & Services declined 1.6%.
- SG&A increased 15.4% to $257.3 million, driven by acquisition-related employee costs, higher bad-debt expense and intangible amortization.
- ROIC declined to 13.3% from 14.6%, primarily because average funded debt increased to support acquisitions.
- Weighted-average diluted shares declined to 26.7 million from 28.8 million because of substantial repurchases, supporting the increase in diluted EPS despite lower net income.
- The company acquired KBZ Communications in September 2015 for $61.5 million net cash and completed purchase-accounting adjustments related to Network1.
- Fiscal 2016 did not include the $15.5 million net legal recovery recognized in fiscal 2014.
Guidance, outlook, risks and unusual items
Management expects a fiscal 2017 effective tax rate of approximately 34% to 35% and fiscal 2017 capital expenditures of $3 million to $8 million, including approximately $1.5 million for continued ERP implementation. The company continues to pursue profitable growth, higher-margin opportunities and strategic acquisitions, but the filing does not provide specific revenue or earnings guidance.
On August 8, 2016, ScanSource announced an agreement to acquire Intelisys Communications. The transaction subsequently closed on August 29, 2016. The initial purchase price was approximately $83.6 million, with estimated earnout payments of $100 million to $150 million over four years; purchase accounting and pro forma results were not yet available when the filing was prepared.
Key risks include intense price competition and narrow margins; dependence on major vendors, particularly Avaya, Cisco and Zebra, each exceeding 10% of fiscal 2016 sales; reseller credit losses; foreign-currency exposure; Brazil and Latin America operating and regulatory risks; ERP implementation and cybersecurity risks; inventory obsolescence; acquisition integration; and potential volatility in contingent consideration and goodwill valuations.
Contingent consideration totaled $24.7 million at June 30, 2016, primarily related to Imago and Network1. Estimated undiscounted future earnouts could reach approximately $3.0 million for Imago and $26.0 million for Network1. Network1 pre-acquisition tax contingencies were estimated at up to $31.0 million, although the filing states they are indemnifiable under the purchase agreement.
Grant Thornton issued unqualified opinions on the consolidated financial statements and internal control over financial reporting. Management excluded KBZ from its internal-control assessment because it was acquired during the year; KBZ represented approximately 4% of consolidated assets and 9% of consolidated revenue.
Most important facts for investors to verify
- Whether underlying organic growth improves after adjusting for acquisitions and foreign-currency effects.
- Whether Communications & Services margins and operating income recover from the fiscal 2016 decline.
- The cash-flow impact of higher receivables, inventory needs, acquisition earnouts and the $71.4 million revolving-credit balance.
- The final cost, financing and earnings contribution of the Intelisys acquisition, including earnout obligations.
- Vendor concentration, distribution-agreement renewals and the effect of changes to rebates, discounts or product availability.
- Progress, cost and operational impact of the global SAP ERP rollout.
- Exposure to foreign exchange, Brazil-related contingencies, customer credit losses and inventory write-downs.
- The effect of the new $120 million three-year share-repurchase authorization announced August 29, 2016 on liquidity and share count.