WESCO International, Inc. — Q2 2017 Form 10-Q
Business context and period. WESCO distributes electrical, industrial and communications products and provides supply-chain services, primarily across industrial, construction, utility, and commercial markets. This unaudited filing covers the three and six months ended June 30, 2017; comparisons are with the same 2016 periods unless noted.
Financial performance
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Net sales | $1.910 billion | $1.912 billion | $3.682 billion | $3.688 billion |
| Income from operations | $83.1 million | $88.0 million | $150.2 million | $157.5 million |
| Net income attributable to WESCO | $49.5 million | $49.8 million | $87.2 million | $85.9 million |
| Diluted EPS | $1.02 | $1.02 | $1.78 | $1.79 |
| Operating margin | 4.4% | 4.6% | 4.1% | 4.3% |
- Margins and costs: Q2 cost of goods sold was 80.8% of sales versus 80.1% a year earlier, reflecting product-cost adjustments and business mix. SG&A fell to $267.3 million from $274.5 million; as a share of sales it improved to 14.0% from 14.4%, mainly due to lower payroll costs. For the first half, gross-cost ratio rose to 80.6% from 80.1%, while SG&A ratio improved to 14.5% from 14.7%.
- Interest and taxes: Q2 net interest expense declined 13.6% to $16.8 million; first-half expense declined 12.4% to $33.5 million, primarily from reduced higher-priced debt. Effective tax rates were 25.3% for Q2 and 25.1% for the first half, down from 27.3% and 29.2%, respectively, due mainly to favorable discrete items, including stock-award tax benefits, and income mix.
- Cash flow: First-half operating cash flow was $66.8 million, down from $138.6 million. Free cash flow, a non-GAAP measure defined as operating cash flow less capital expenditures, was $57.0 million versus $131.5 million. Working-capital uses included a $96.0 million increase in trade receivables and a $36.9 million increase in inventory; accounts payable provided $76.8 million. Capital expenditures were $9.8 million.
- Balance sheet and liquidity: At June 30, cash and cash equivalents were $87.8 million, total debt was approximately $1.375 billion, and total stockholders’ equity was $2.095 billion. Debt included $25.2 million of current debt and short-term borrowings and $1.335 billion of long-term debt, net of discount and issuance costs. The company reported $562.0 million available under its revolving credit facility and $141.7 million under its receivables facility; reported total liquidity was $750.6 million, including $46.9 million of available cash. The $87.8 million balance-sheet cash figure includes cash held abroad.
- Leverage: The company’s non-GAAP financial leverage ratio was 3.5, unchanged from December 31, 2016; it reported compliance with all debt covenants. Approximately 62% of debt was fixed-rate.
Changes versus prior period
- Q2 sales declined 0.1%; organic sales grew 1.0%, while foreign exchange reduced reported sales by 1.1%. First-half sales declined 0.1%; organic sales declined 0.3%, with acquisitions adding 0.4% and foreign exchange reducing sales by 0.2%.
- First-half operating income decreased by $7.3 million as lower margins outweighed lower SG&A. Net income attributable to WESCO increased by $1.4 million, but diluted EPS was slightly lower at $1.78 versus $1.79.
- First-half operating cash flow fell substantially year over year, primarily reflecting working-capital movements; 2016 also included a different pattern of receivables, payables, and other working-capital cash flows.
- WESCO repurchased $50.0 million of shares through an accelerated stock repurchase transaction in May; total first-half cash-flow statement repurchases were $56.7 million.
Outlook, risks and notable items
- No specific numerical revenue or earnings guidance is provided. Management described improving momentum in certain end markets and geographies, alongside challenging, demand-constrained pricing. It plans to manage working capital and direct excess cash primarily toward acquisitions, debt reduction, and share repurchases, while maintaining liquidity.
- Management believes operating cash flow and available borrowing capacity should cover foreseeable operating needs, but cautions that this is not assured. Cash held by foreign subsidiaries could incur additional U.S. taxes if repatriated; WESCO says it can meet domestic needs without repatriating it.
- Contingencies include a Delaware unclaimed-property compliance audit, for which a liability has been recorded but the outcome remains uncertain, and a New York County District Attorney investigation into disadvantaged-business contracting practices. WESCO cannot reasonably estimate the latter matter’s potential exposure. The filing also describes routine litigation; management does not expect pending matters to materially affect financial condition or liquidity, though a period’s results could be affected.
- Management reported no material changes in market-risk exposures or risk factors, no material changes to contractual obligations, and no interim goodwill impairment trigger. Annual impairment testing was planned for the fourth quarter. Disclosure controls and internal control over financial reporting were reported effective.
Important facts for investors to verify
- Whether improving end-market demand and organic sales momentum continue, and whether pricing and product mix stabilize gross margins.
- Whether receivables and inventory growth converts to cash and operating cash flow recovers from the first-half decline.
- Debt reduction, share repurchases, and acquisition spending relative to leverage, liquidity, and the stated 3.5 leverage ratio.
- Developments and potential financial effects of the Delaware audit and New York investigation, including any changes to recorded liabilities or exposure estimates.
- The impact of favorable discrete tax benefits on the effective tax rate in future periods, and the tax consequences of foreign cash repatriation.