ScanSource, Inc. Form 10-Q Summary
Business Context and Reporting Period
ScanSource, Inc. is an international wholesale distributor of specialty technology products serving approximately 250 manufacturers and 28,000 resellers. Its reportable segments are Worldwide Barcode & Security and Worldwide Communications & Services, operating across North America, Latin America, and Europe. This unaudited Form 10-Q covers the quarter and six months ended December 31, 2013, representing fiscal 2014 second-quarter and year-to-date results.
Key Financial Metrics
| Metric | Quarter Ended Dec. 31, 2013 | Quarter Ended Dec. 31, 2012 | Six Months Ended Dec. 31, 2013 | Six Months Ended Dec. 31, 2012 |
|---|---|---|---|---|
| Net sales | $740.6 million | $747.7 million | $1,472.5 million | $1,481.3 million |
| Gross profit | $77.3 million | $74.4 million | $153.8 million | $148.4 million |
| Gross margin | 10.4% | 9.9% | 10.4% | 10.0% |
| Operating income | $27.5 million | $24.4 million | $55.7 million | $50.6 million |
| Operating margin | 3.7% | 3.3% | 3.8% | 3.4% |
| Net income | $18.3 million | $16.4 million | $37.7 million | $34.0 million |
| Diluted EPS | $0.64 | $0.59 | $1.33 | $1.22 |
- Quarterly sales declined 0.9%; year-to-date sales declined 0.6%.
- Quarterly operating income increased 12.4%; year-to-date operating income increased 10.0%.
- Cash provided by operating activities was $1.3 million for the six months, compared with $10.0 million of cash used in the prior-year period.
- Cash and cash equivalents were $157.1 million at December 31, 2013, compared with $148.2 million at June 30, 2013.
- Accounts receivable totaled $438.4 million and inventories totaled $467.2 million. Net working capital increased to $669.2 million from $614.4 million at June 30, 2013, primarily because of higher inventory.
- Capital expenditures were $0.4 million year to date. Management expects fiscal 2014 capital spending of $13 million to $18 million, primarily for a new SAP enterprise resource planning system.
- Long-term debt was $5.4 million. There were no borrowings under the $300 million revolving credit facility or the €6.0 million European line of credit; the revolving facility had $300 million available and the company was in covenant compliance.
Material Changes Versus the Prior Comparable Period
- Worldwide Barcode & Security sales decreased 2.6% for the quarter and 1.9% year to date, primarily because of weaker barcode demand, fewer large deals, and weaker networking infrastructure and card-printer sales. Segment operating income declined 2.5% for the quarter and 3.9% year to date.
- Worldwide Communications & Services sales increased 2.2% for the quarter and 1.8% year to date. Operating income increased 30.3% for the quarter and 24.4% year to date, supported by higher service-fee revenue, vendor program recognition, large deals, and growth in key vendor lines.
- Gross margin improved because of stronger Communications & Services performance, including higher service-fee revenue and vendor program recognition.
- SG&A was essentially flat for the quarter and increased 0.4% year to date. The current period included executive severance and elevated personnel costs; the prior-year quarter included $2.1 million of Belgian tax-compliance and personnel-replacement costs.
- The company reorganized reporting from geographic segments to the two global technology segments and retrospectively reclassified prior-period information.
- The revolving credit facility was amended in November 2013, extending maturity from October 2016 to November 2018 and adding a $150 million accordion feature, subject to additional lender commitments.
Outlook, Commentary, Risks, and Unusual Items
- Management’s objective is to grow profitable sales, with emphasis on security and communications technologies, and to evaluate strategic acquisitions and additional product lines. No quantitative revenue or earnings guidance was provided.
- Management expects sufficient liquidity from cash, operating cash flow, and available credit facilities to meet working-capital and other cash requirements for at least the next twelve months.
- Venezuela presents heightened collectability risk because government currency controls limit customers’ access to U.S. dollars. The company held $2.1 million of Venezuelan accounts receivable at December 31, 2013, fully reserved.
- The company recorded $0.5 million of contingent-consideration fair-value expense for the quarter and $1.2 million year to date. The remaining CDC acquisition earnout liability was $9.5 million, including $5.2 million classified as current; undiscounted future payments may reach $12.3 million.
- Foreign-exchange exposure remains material. Forward contracts had $74.0 million of notional amounts outstanding, and year-to-date net foreign-exchange losses were $0.3 million.
- Goodwill impairment testing remains sensitive to projected results for European POS & Barcode, ScanSource Latin America, and ScanSource Brasil reporting units. Management did not identify a likely impairment at December 31, 2013, but noted limited excess fair value for certain units in the prior annual testing.
- The company is pursuing litigation against former ERP implementation partner Avanade and is defending related payment claims. The matter was pending and its ultimate financial effect was not clear from the filing.
- Management concluded that disclosure controls and procedures were effective as of December 31, 2013, with no material change in internal control over financial reporting.
Important Facts for Investors to Verify
- Whether inventory growth and lower inventory turns translate into higher working-capital requirements or inventory obsolescence risk.
- Progress, total cost, timing, and execution risks associated with the SAP ERP implementation and the $13 million to $18 million fiscal 2014 capital-spending expectation.
- Venezuelan receivable exposure, reserve adequacy, and broader foreign-exchange and international operating risks.
- Future CDC earnout payments, changes in the Level 3 fair-value estimate, and the impact of Brazilian currency movements.
- Sustainability of improved Communications & Services margins and vendor-program revenue recognition.
- Potential goodwill impairment in international reporting units and the outcome and possible costs of the Avanade litigation.