WESCO International, Inc. — FY 2016 Form 10-K
Reporting period: Year ended December 31, 2016. WESCO distributes electrical, industrial and communications products and provides supply-chain and logistics services, primarily in North America.
Financial performance and liquidity
- Revenue: $7.336 billion, down 2.4% from $7.518 billion in 2015. Normalized organic sales declined 4.9%; acquisitions and additional workdays partly offset that weakness.
- Profitability: Operating income was $332.1 million, down from $373.7 million; operating margin fell to 4.5% from 5.0%. Net income attributable to WESCO was $101.6 million versus $210.7 million, and diluted EPS was $2.10 versus $4.18. Excluding the debt-redemption charge, adjusted diluted EPS was $3.80, a non-GAAP measure.
- Fourth quarter: Sales were $1.793 billion versus $1.862 billion in Q4 2015; operating income was $82.0 million versus $90.0 million; net income attributable to WESCO was $47.3 million versus $48.4 million; diluted EPS was $0.96 versus $1.03.
- Cash flow: Operating cash flow was $300.2 million, up from $283.0 million. Capital expenditures were $18.0 million and reported free cash flow was $282.2 million, versus $261.4 million in 2015.
- Debt and liquidity: Year-end debt was approximately $1.402 billion before unamortized issuance costs and discounts; financial leverage was 3.5x adjusted EBITDA versus 3.8x. WESCO reported $704.6 million of liquidity, comprising $509.7 million of revolver availability, $146.8 million of receivables-facility availability and $48.1 million of available cash. Total cash and equivalents were $110.1 million, including $76.4 million held by foreign subsidiaries. The company said it complied with debt covenants.
- Capital structure: WESCO issued $350 million of 5.375% senior notes due 2024 and used the proceeds to redeem its 6.0% convertible debentures due 2029. The redemption generated a $123.9 million non-cash loss. Holders converting debentures received shares; 6.27 million shares were issued in connection with the redemption.
Material changes versus prior period
- Normalized organic sales weakness worsened to a 4.9% decline from a 3.3% decline in 2015. Management cited challenging economic and end-market conditions, including pressure in oil and gas and other commodity-linked markets.
- Operating margin declined as lower sales and gross margin outweighed cost-management benefits. Cost of goods sold rose to 80.3% of sales from 80.1%; SG&A rose to 14.3% from 14.0% of sales.
- The effective tax rate fell to 23.1% from 31.4%, partly because the debt-redemption loss reduced pretax income. The 2015 rate included tax expense associated with resolution of transfer-pricing matters.
- WESCO acquired Atlanta Electrical Distributors, expanding its construction and MRO presence in the southeastern United States. Acquisition payments were $50.9 million, compared with $151.6 million in 2015.
Outlook, risks and unusual items
- Management provided no specific sales or earnings forecast in the filing. It expected 2017 capital expenditures to be similar to 2016 and planned to direct excess cash primarily to debt reduction, acquisitions and share repurchases.
- Key risks include economic and customer-spending weakness, commodity-price and product-cost volatility, supplier concentration and availability, foreign-exchange movements, competition, cybersecurity and operational disruption, and acquisition integration. Eaton represented approximately 11% of 2016 purchases; the ten largest suppliers represented about 32%.
- Debt maturities and refinancing are important liquidity considerations: approximately $380.9 million was scheduled for 2018 and $145.4 million for 2019; the receivables facility matures in September 2018. Debt agreements include restrictive covenants.
- Contingencies include a Delaware unclaimed-property compliance audit and a New York County District Attorney investigation concerning minority and disadvantaged-business contracting practices. WESCO said it could not predict the outcomes; it could not reasonably estimate exposure for the investigation. Management did not believe pending matters were likely to materially affect financial condition or liquidity, while acknowledging a period’s results could be affected.
- The independent auditor issued an unqualified opinion and reported effective internal control over financial reporting as of December 31, 2016.
Investor verification priorities
- Assess whether organic sales and margins are stabilizing, especially in industrial and commodity-exposed markets.
- Review the non-GAAP adjusted EPS reconciliation and the cash and share effects of the convertible-debt redemption.
- Verify liquidity availability, the 2018–2019 refinancing requirements, covenant headroom and the distinction between total cash and cash included in reported liquidity.
- Track the Delaware audit and New York investigation for developments, potential liabilities or changes in management’s estimates.
- Evaluate whether the Atlanta acquisition and cost actions deliver the expected growth and operating benefits.