Arrow Electronics, Inc. — Q2 2013 Form 10-Q Summary
Business context and reporting period
Arrow Electronics is a global distributor of electronic components and enterprise computing solutions, operating through Global Components and Global ECS. The filing covers the quarter and six months ended June 29, 2013; comparable periods ended June 30, 2012. Results are unaudited and reported under U.S. GAAP.
| Metric | Q2 2013 | Q2 2012 | Six months 2013 | Six months 2012 |
|---|---|---|---|---|
| Sales | $5.306 billion | $5.151 billion | $10.156 billion | $10.040 billion |
| Operating income | $155.9 million | $188.7 million | $293.4 million | $376.1 million |
| Operating margin | 2.9% | 3.7% | 2.9% | 3.7% |
| Net income attributable to shareholders | $89.9 million | $114.4 million | $167.8 million | $228.0 million |
| Diluted EPS | $0.86 | $1.02 | $1.58 | $2.02 |
| Gross profit | $689.6 million | $687.1 million | Approximately $1.332 billion | Approximately $1.368 billion |
Financial condition and liquidity
- Cash and cash equivalents were $345.9 million at June 29, 2013, down from $409.7 million at December 31, 2012. Approximately $299.0 million was held outside the United States.
- Six-month operating cash flow was $154.5 million, versus $311.0 million in the prior-year period. Investing cash outflow was $65.9 million, including $53.6 million of capital expenditures and $9.4 million for an acquisition.
- Financing cash outflow was $153.5 million, including $312.3 million of share repurchases, $338.2 million of senior-note redemption, and $85.3 million of net long-term bank-debt repayments. These uses were partly funded by $591.2 million of net proceeds from new notes.
- Total debt, including current borrowings, was approximately $2.098 billion at June 29, 2013, compared with approximately $1.952 billion at December 31, 2012. Long-term debt was $2.073 billion and current borrowings were $24.9 million.
- The company had $63.3 million outstanding under its $1.2 billion revolving credit facility and $200.0 million outstanding under its $775.0 million asset securitization program. It was in compliance with applicable covenants.
- Management stated that cash, available borrowing capacity, expected operating cash flow, and capital-market access should be sufficient for projected needs for the foreseeable future.
Material changes versus the prior comparable period
- Q2 sales increased 3.0%; six-month sales increased 1.2%. Adjusted for foreign currency, acquisitions, and the fulfillment-contract presentation change, sales increased 3.4% and 1.3%, respectively.
- Global ECS sales increased 12.4% in Q2 and 10.1% for six months, while Global Components sales declined 1.6% and 3.1%, respectively.
- Gross profit dollars were broadly flat in Q2 and lower for the six-month period. Gross-profit margins declined approximately 30 basis points in Q2 and 50 basis points for six months, primarily because of competitive pricing pressure and product mix.
- Operating income declined 17.4% in Q2 and 22.0% for six months; operating margin fell from 3.7% to 2.9% in both periods.
- Restructuring, integration, and other charges increased to $30.2 million in Q2 and $51.8 million for six months, versus $13.3 million and $21.6 million, respectively, in 2012. Six-month restructuring actions included approximately 770 position eliminations and exits from 26 facilities.
- Net income declined 21.4% in Q2 and 26.4% for six months. The six-month comparison also includes a $4.3 million pretax loss on debt prepayment.
- Average diluted shares declined to 104.0 million in Q2 and 105.9 million for six months, from 112.0 million and 113.1 million, respectively, reflecting substantial repurchases.
Guidance, outlook, risks, contingencies, and unusual items
- The filing does not provide specific quantitative revenue or earnings guidance. Management notes that most sales are order-by-order rather than under long-term contracts, limiting visibility beyond a few months.
- Management is pursuing restructuring and efficiency initiatives to reduce costs and real-estate requirements. The remaining restructuring accrual was $35.2 million, expected to be spent in cash.
- Key operating risks include competitive pricing and margin pressure, changes in supply and customer demand, supplier relationships, global market conditions, ERP implementation, acquisition integration, foreign exchange, and the ability to generate cash flow.
- Environmental obligations inherited through the Wyle acquisition remain unresolved. The company estimates additional identified costs of approximately $4.0 million to $4.75 million at Huntsville and approximately $18.2 million to $25.1 million at Norco, but states that ultimate costs cannot yet be fully estimated and could materially exceed current accruals.
- International tax audits resulted in a $5.4 million increase in the Q2 tax provision and a $0.9 million after-tax increase in interest expense. The reported Q2 effective tax rate was 29.1%; excluding identified unusual items, management reported an adjusted rate of 26.3%.
- Foreign exchange contracts had a notional amount of $352.4 million. Management estimated that a 10% decline in average foreign exchange rates would reduce six-month sales by approximately $293.4 million and operating income by approximately $6.0 million.
- Approximately 86% of debt was fixed-rate and 14% floating-rate at quarter-end. Management stated that a one-percentage-point interest-rate change would not materially affect six-month net interest expense.
Most important facts for investors to verify
- Whether Global ECS growth can offset weakness in Global Components and whether competitive pricing continues to compress gross margins.
- The timing, cash cost, and recurring savings from the 2013 restructuring program.
- Operating cash-flow conversion and working-capital trends, particularly accounts receivable, inventory, and accrued expenses.
- Debt maturities, covenant headroom, and refinancing requirements for the asset securitization program and other borrowings.
- The ultimate cost and insurance recoveries associated with the Huntsville and Norco environmental matters.
- Progress and execution risk associated with the ERP initiative and integration of acquired businesses.
- The extent to which share repurchases and lower share count support EPS despite lower operating income.