Business context and reporting period
PC Connection, Inc. is an IT products and solutions reseller serving small and midsize businesses and consumers (SMB), large accounts, and public-sector customers. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2012, compared with the corresponding 2011 periods. Effective January 1, 2012, Consumer/SOHO was combined with SMB; prior-year segment data was recast.
Financial performance and liquidity
Amounts below are in millions, except per-share data and percentages.
| Metric | Q2 2012 | Q2 2011 | First half 2012 | First half 2011 |
|---|---|---|---|---|
| Net sales | $542.6 | $512.6 | $1,041.3 | $974.5 |
| Gross profit / margin | $71.6 / 13.2% | $66.9 / 13.0% | $138.2 / 13.3% | $125.7 / 12.9% |
| Operating income / margin | $14.7 / 2.7% | $12.4 / 2.4% | $23.7 / 2.3% | $19.9 / 2.0% |
| Net income | $8.8 | $7.5 | $14.3 | $12.0 |
| Diluted EPS | $0.33 | $0.28 | $0.54 | $0.44 |
| Operating cash flow | Not presented quarterly | $72.0 | $32.9 |
- Q2 sales rose 5.9%; first-half sales rose 6.9%. Large Account was the main growth driver, up 22.5% in Q2 and 23.0% for the first half. SMB sales declined 1.1% and 0.4%, respectively, including lower Consumer/SOHO sales; Public Sector declined 3.1% and 0.9%.
- At June 30, cash was $63.4, versus $4.6 at year-end 2011. The company had no bank-line borrowings and the full $50.0 credit facility was available. Current assets were $402.6 and current liabilities $183.1.
- Operating cash flow benefited from a $40.8 reduction in accounts receivable and higher accounts payable. Days sales outstanding fell to 41 from 47 at December 31, 2011; inventory turns were 28 in Q2 versus 25 a year earlier.
- Bank debt was zero at quarter-end. Capital lease obligations totaled $1.5. Accounts payable included $24.7 owed under supplier-supported inventory financing, which is secured by eligible inventory.
Material changes and unusual items
- Gross margin improved year over year in both reporting periods, which management attributed to higher-margin products and solutions and, for the first half, incremental vendor consideration. Large Account Q2 margin declined to 11.6% from 12.0%; first-half margin was 11.7% in both years.
- SG&A increased in dollars, mainly from personnel, sales-support and IT-system investment, but remained 10.5% of sales in Q2 and 10.9% for the first half.
- First-half 2012 included $1.135 in special charges for a former executive’s retirement awards and workforce reductions; none were recorded in the first half of 2011. Most was settled through nonvested stock and cash; $0.037 remained accrued.
- Operating cash flow was materially higher than the prior-year period, principally reflecting receivables collection and working-capital movements. Assess the sustainability of this cash generation separately from earnings growth.
- The company began amortizing the MoreDirect tradename over an estimated five-year remaining life in Q2 2012. Intangible amortization was $0.508 in the first half, compared with $0.263 a year earlier.
Outlook, risks and contingencies
- No specific revenue or earnings guidance was provided. Management said operating results for the reported interim periods may not indicate full-year results.
- Management expects $9.0–$12.0 of capital expenditures over the next 12 months, excluding the broader software initiative, and approximately $4.0 of capital lease and other contractual payments. A possible broader software implementation could require more than $20.0 over three years; $10.8 had been capitalized for the Customer Master Data Management project by June 30. When that software is placed in service, annual depreciation is expected to increase by $2.0.
- Management believes cash, operating cash flows, and available credit will fund requirements for at least 12 months. It noted that weaker IT-product demand could materially affect operating cash flow. The company also cited supplier attempts to sell directly to customers, competitive pricing, recruiting and retaining sales staff, and the cost of growing higher-margin services as ongoing business challenges.
- A multi-state unclaimed-property audit remains in progress, with no formal assessments yet. Management said the ultimate outcome is too early to determine and additional liabilities could materially adversely affect financial position, results, or cash flows. Other legal proceedings, including patent claims, were not expected by management to have a material effect.
- Up to $1.0 of final ValCom acquisition contingent consideration may be payable in Q4 2012 if the remaining revenue milestone is achieved. The June 30 contingent liability was $0.970.
- The company reported effective disclosure controls and no material change in internal control over financial reporting during the quarter.
Important facts for investors to verify
- Whether Large Account growth and improving gross margin continue, and how much growth reflects acquired ValCom sales.
- Whether the strong first-half operating cash flow persists after the favorable receivables and other working-capital movements.
- The final scope, timing, cost, and expected returns of the software initiative, including the projected depreciation increase.
- The outcome and potential financial exposure from the unclaimed-property audit and any other tax or legal contingencies.
- Whether Public Sector demand, particularly federal government sales, and SMB Consumer/SOHO performance recover.