Arrow Electronics, Inc. — FY2018 Form 10-K Summary
Business context and reporting period
Arrow Electronics is a global distributor and solutions provider serving more than 200,000 industrial and commercial customers in over 80 countries. Its two reportable segments are Global Components, representing approximately 70% of 2018 sales, and Global Enterprise Computing Solutions (ECS), representing approximately 30%. The filing covers the fiscal year ended December 31, 2018; fourth-quarter results are also provided.
Key financial metrics
| Metric | FY2018 | FY2017 | Change |
|---|---|---|---|
| Sales | $29.677 billion | $26.555 billion | +11.8% |
| Gross profit | $3.701 billion | $3.357 billion | +10.2% |
| Gross margin | 12.5% | 12.6% | -10 bps |
| Operating income | $1.148 billion | $945.7 million | +21.3% |
| Operating margin | 3.9% | 3.6% | +30 bps |
| Net income attributable to shareholders | $716.2 million | $402.2 million | +78.1% |
| Diluted EPS | $8.10 | $4.48 | +80.8% |
| Operating cash flow | $272.7 million | $124.6 million | +$148.1 million |
FY2018 adjusted net income was $781.0 million versus $674.5 million in 2017, excluding specified amortization, restructuring, disposition, investment, pension, debt-extinguishment, and Tax Act effects. Fourth-quarter sales were $7.918 billion, operating income was $334.4 million, and net income attributable to shareholders was $230.7 million, or diluted EPS of $2.63.
Global Components sales increased 13.8% to $20.857 billion, while Global ECS sales increased 7.2% to $8.820 billion. Segment operating income was $1.008 billion for Global Components and $427.6 million for Global ECS. ECS margin pressure reflected less favorable business mix, partly offset by improved Components margins.
Cash and cash equivalents were $509.3 million at year-end, down from $730.1 million. Accounts receivable and inventory totaled $12.824 billion, or approximately 71.8% of total assets. Total debt, including current borrowings, was approximately $3.485 billion, including $3.239 billion of long-term debt. The company had $2.0 billion of revolving credit capacity, $1.2 billion of asset-securitization capacity, and $810.0 million outstanding under the securitization program. It reported compliance with financing covenants.
Material changes versus the prior comparable period
- Sales growth was broad-based, with strong demand and supplier awards in Components and growth in infrastructure software, security, storage, and industry-standard servers in ECS.
- Operating leverage improved: operating expenses grew 7.5%, below the 11.8% sales increase, and operating margin expanded despite a modest gross-margin decline.
- Net income benefited from the absence of the $59.5 million debt-extinguishment loss recorded in 2017 and from a $28.3 million favorable fourth-quarter adjustment related to the 2017 Tax Act charge.
- Restructuring, integration, and other charges declined to $60.4 million from $74.6 million; loss on disposition of businesses declined to $3.6 million from $21.0 million.
- Investing cash use increased to $463.0 million, including $331.6 million for acquisitions, principally the $327.6 million eInfochips acquisition, and $135.3 million of capital expenditures.
- Debt increased, largely reflecting higher asset-securitization borrowings, while the company redeemed $300.0 million of notes in March 2018. Share repurchases totaled $243.3 million.
Outlook, commentary, risks, contingencies, and unusual items
Management states that current cash, available borrowing capacity, and expected operating cash flow should be sufficient for projected needs for the foreseeable future. The filing does not provide a clear quantitative 2019 revenue or earnings guidance forecast. Sales are primarily order-by-order rather than under long-term contracts, limiting visibility beyond a few months.
- Key operating risks include semiconductor and information-technology cyclicality, pricing pressure, rapid technological change, inventory obsolescence, supplier concentration, customer credit risk, and limited contractual order visibility.
- Approximately 59% of 2018 sales originated outside the United States, creating exposure to foreign exchange, tariffs, trade restrictions, export controls, Brexit-related uncertainty, political developments, and differing tax regimes.
- The company completed implementation of a global Components ERP system in 2018 and reported no identifiable significant issues to date, but unforeseen implementation problems could disrupt operations.
- Environmental liabilities associated with former Wyle facilities in Huntsville, Alabama, and Norco, California, remain unresolved. Estimated additional costs discussed in the filing are $4.2 million to $10.0 million for Huntsville and $12.5 million to $23.2 million for Norco, with potential additional costs not currently estimable.
- The Wyle defined benefit plan was terminated at year-end; an estimated settlement loss of approximately $25.5 million and benefit payments of approximately $60.5 million were expected in 2019.
- Goodwill totaled $2.625 billion. Annual impairment testing did not indicate impairment, but certain reporting units had relatively limited valuation cushion, including approximately 3% for eInfochips and 13% to 14% for two Components reporting units.
- The company adopted the revenue standard Topic 606 retrospectively in 2018. It expected to adopt the new lease standard in the first quarter of 2019, with total assets expected to increase by less than 3%.
- Ernst & Young issued unqualified opinions on the financial statements and internal control over financial reporting. Management excluded two 2018 acquisitions from its internal-control assessment.
Most important facts for investors to verify
- Whether Components growth and ECS performance are sustainable as technology-sector demand and product mix change.
- Inventory turns, receivables quality, working-capital intensity, and the extent to which supplier protections mitigate obsolescence and price-erosion risk.
- Debt maturities, variable-rate exposure, asset-securitization reliance, and compliance with financial covenants.
- The ultimate cost and timing of Wyle environmental remediation and the 2019 pension-plan settlement.
- Integration progress and returns from the eInfochips and other acquisitions, including the valuation support for related goodwill.
- Effects of tariffs, foreign exchange movements, export restrictions, and international tax developments on margins and cash flow.
- Reconciliation of GAAP results to management’s adjusted net income and operating-income measures, particularly the Tax Act benefit and other unusual items.