AVT

Business Context and Reporting Period

Company: Avnet, Inc.
Filing Type: Form 10-K (Annual Report)
Period Ended: June 26, 1998
Business Overview: Avnet is one of the world's largest industrial distributors of electronic components and computer products. The company connects suppliers of semiconductors, interconnect products, and passive devices to original equipment manufacturers (OEMs) and other industrial customers. In fiscal 1998, the company reorganized its operations into two major groups effective in 1999: the Electronics Marketing Group (EMG) and the Computer Marketing Group (CMG). The company also divested its Video Communications Group (Channel Master) in October 1997.

Key Financial Metrics

Margins (Fiscal 1998):
- Gross Margin: 16.6% (down from 17.8% in 1997)
- Operating Margin: 4.6% (down from 6.1% in 1997)
- Profit Margin: 2.6% (down from 3.4% in 1997)

Material Changes vs. Prior Period

• Revenue Growth: Consolidated sales increased 10% to a record $5.92 billion, driven by an 8% increase in EMG sales and a 29% increase in CMG sales.
• Profitability Decline: Net income decreased 17% to $151.4 million. This decline was primarily due to a 1.1 percentage point drop in gross margins caused by competitive pricing pressures and a higher mix of lower-margin computer products.
• Special Items: Fiscal 1998 results included a net negative impact of $14.9 million pre-tax ($12.5 million after-tax) due to special charges. This included a $35.4 million pre-tax charge for reorganization of the Electronic Marketing Group, partially offset by a $33.8 million pre-tax gain on the sale of Channel Master.
• Debt Increase: Total debt rose 58% to $810.9 million, primarily to fund a $308.2 million stock repurchase program and increased working capital needs.
• Divestitures: The company completed the sale of its Channel Master business (Video Communications Group) and divested Avnet Industrial.

Guidance, Outlook, and Risks

Management Commentary & Outlook:
Management expects future results to benefit from cost savings resulting from the reorganization of EMG Americas. The company plans to continue strategic acquisitions to expand its global footprint. While the reorganization of EMG EMEA is planned, specific costs were not fully quantified at year-end, with some charges expected in the first quarter of 1999.

Risks and Contingencies:
- Market Conditions: The company faces risks from global industry correction cycles, pricing pressure, and supplier product allocations.
- Foreign Currency: Fluctuations in foreign exchange rates (specifically French, Canadian, and Far East currencies) negatively impacted 1998 results. A 2% increase in sales and net income was estimated if rates had remained constant with 1997.
- Year 2000 Issue: The company estimates remediation costs between $12.0 million and $15.0 million. Management believes the program is on schedule and does not anticipate significant disruption.
- Environmental: The company is a potentially responsible party for environmental cleanups (e.g., Oxford, NC site). Management believes accrued liabilities are sufficient and does not anticipate a material adverse impact.

Investor Verification Checklist

• Reorganization Costs: Verify the timing and magnitude of remaining reorganization charges for EMG EMEA and EMG Americas expected in Q1 1999.
• Margin Trends: Monitor gross margin compression trends, specifically the impact of the growing computer products segment (27% of sales) versus higher-margin semiconductors (54% of sales).
• Debt Servicing: Assess the impact of increased debt levels ($810.9M) and variable interest rate exposure (63% of debt) on future interest expenses.
• Stock Repurchases: Confirm the completion of the $450 million stock repurchase program and its effect on share count and EPS.
• Year 2000 Compliance: Track the progress of the Year 2000 remediation program and potential costs associated with third-party supplier failures.