ePlus Inc. — Q3 FY2017 Form 10-Q
Reporting period: Quarter and nine months ended December 31, 2016; comparisons are with the corresponding 2015 periods unless noted. Amounts are in U.S. dollars, generally millions, except per-share data. The interim statements are unaudited.
Business context
ePlus provides IT products, software, professional and managed services, and customer financing. Its technology segment generated 98% of nine-month net sales; its financing segment generated 16% of operating income. Cisco represented approximately 49% of trailing-12-month product and services sales.
Financial performance
| Metric | Q3 FY2017 | Q3 FY2016 | Nine months FY2017 | Nine months FY2016 |
|---|---|---|---|---|
| Net sales | $326.7 | $298.6 | $996.6 | $904.8 |
| Gross profit | $73.8 | $64.1 | $223.4 | $195.1 |
| Operating income | $21.3 | $17.6 | $67.0 | $59.4 |
| Net earnings | $12.6 | $10.3 | $40.1 | $34.8 |
| Diluted EPS | $1.81 | $1.40 | $5.71 | $4.74 |
| Operating cash flow | Not presented by quarter | $29.7 | $(17.7) |
Q3 net sales increased 9.4%, operating income 20.8%, and net earnings 22.6%. Nine-month growth was 10.1%, 12.8%, and 15.2%, respectively. Consolidated gross margin was 22.6% in Q3 and 22.4% year to date, versus 21.5% and 21.6%. Operating margin was 6.5% in Q3 and 6.7% year to date, versus 5.9% and 6.6%. Management attributed improved gross margin to sales mix, higher services contribution, and vendor incentives. Operating expenses rose 13.1% in Q3 and 15.2% year to date, including higher variable compensation and staffing.
Technology-segment nine-month operating income increased 11.2% to $56.0 million. Financing-segment revenue fell 13.6% to $24.1 million, but operating income rose 21.8% to $11.0 million, principally as direct lease costs declined.
Cash, liquidity and debt
Cash was $69.7 million at December 31, 2016, down from $94.8 million at March 31, 2016. Nine-month operating cash flow was $29.7 million; investing used $47.0 million and financing used $8.2 million. Working-capital investment included $62.0 million of net additions to trade and other receivables and $77.4 million of inventory, partly offset by higher payables and accrued/deferred liabilities. Inventory increased to $111.1 million, including $77.7 million committed to customer orders. The technology segment cash conversion cycle increased to 27 days from 20.
Current assets were $588.8 million and current liabilities $382.7 million. Recourse and non-recourse notes payable totaled $54.0 million, compared with $47.4 million at March 31; $52.4 million was non-recourse. Floor-plan payables were $120.9 million. The Wells Fargo facility had a $250 million aggregate limit, including a $30 million accounts-receivable sublimit; no amount was drawn on that sublimit. The company reported compliance with facility covenants. Management said cash, operating funds, available facility capacity, and possible portfolio monetization should meet requirements for at least 12 months, while warning that loss of the facility could materially affect operations.
Changes, outlook and notable items
- Product and services sales rose 10.3% in Q3 and 11.1% year to date, supported by demand from telecom, media and entertainment, SLED, technology, and healthcare customers. Adjusted gross billings grew faster than GAAP sales, reflecting greater sales of third-party services reported net.
- Financing-segment nine-month revenue declined as portfolio earnings and gains on asset sales fell; post-contract earnings increased. Net gains on financial-asset sales were $4.1 million year to date versus $5.4 million.
- In December, ePlus acquired selected assets and liabilities of Consolidated IT Services for preliminary consideration of $13.1 million, including $9.5 million paid at closing. The acquisition added $7.6 million of goodwill; acquired-period revenue and earnings were not material.
- The company repurchased 328,481 shares under its program for $26.8 million during the nine months, and separately repurchased shares for $2.6 million to satisfy employee tax withholding. A two-for-one stock split was declared February 2, 2017, after quarter-end; reported historical EPS is pre-split.
- Other unusual items include $0.38 million of DRAM class-action proceeds in nine-month other income and a $0.5 million tax benefit from early adoption of share-based compensation accounting guidance. The latter increased nine-month EPS by $0.07. Non-GAAP results exclude specified items and should be considered alongside GAAP results.
- No specific financial guidance was provided. Management expects to continue expanding through targeted hiring and new locations, which may weigh on near-term results. It described UK foreign-exchange and Brexit exposure as immaterial to date.
Risks and contingencies
Key risks include reliance on vendors and incentives, competition and changing IT demand, customer credit quality, working-capital needs, and dependence on the Wells Fargo facility. Cisco, HPE/HP and NetApp together accounted for about 60% of trailing-12-month product and services sales. Financing receivables included $3.2 million for a bankrupt customer on non-accrual status; the total credit-loss reserve was $5.6 million. The company reported no legal proceedings expected to have a material effect, while noting ordinary-course claims and audits. Management reported disclosure controls were effective and no material change in internal controls during the quarter.
Important facts for investors to verify
- Whether the elevated inventory, receivables and 27-day cash conversion cycle unwind as customer orders are delivered and collected.
- Revenue recognition and delivery timing for the large customer prepayment; deferred revenue was $67.3 million, primarily related to equipment expected to ship within three to six months, and open orders were $238.5 million.
- Facility availability and covenant headroom, particularly given reliance on the $250 million working-capital facility and the increase in floor-plan payables.
- Financing-portfolio credit quality, residual values, asset-sale gains, and exposure to the bankrupt customer.
- Consolidated IT Services integration, final purchase-price allocation, and whether expected acquisition benefits materialize.
- Underlying earnings growth after considering share repurchases, the stock-compensation tax benefit, acquisition amortization, and other non-GAAP adjustments.