PC Connection, Inc. — Q2 2014 Form 10-Q
Business context and reporting period. PC Connection is an IT products reseller and solutions provider serving small and midsize businesses (SMB), large accounts, and public-sector customers. This unaudited report covers the three and six months ended June 30, 2014; balance-sheet comparisons are with December 31, 2013. Amounts below are in millions except per-share data.
Financial performance and position
| Metric | Q2 2014 | Q2 2013 | First half 2014 | First half 2013 |
|---|---|---|---|---|
| Net sales | $633.2 | $557.3 | $1,193.0 | $1,062.7 |
| Gross profit / margin | $83.8 / 13.2% | $73.9 / 13.3% | $156.6 / 13.1% | $140.8 / 13.2% |
| SG&A | $64.6 | $58.5 | $125.7 | $115.2 |
| Operating income / margin | $19.2 / 3.0% | $15.4 / 2.8% | $30.9 / 2.6% | $25.5 / 2.4% |
| Net income | $11.4 | $9.2 | $18.6 | $15.3 |
| Diluted EPS | $0.43 | $0.35 | $0.70 | $0.58 |
- Q2 sales rose 13.6% year over year; first-half sales rose 12.3%. Growth was reported across all three segments. Q2 growth was strongest in Public Sector (20.2%), followed by Large Account (13.3%) and SMB (10.7%).
- Gross margin edged down year over year in both periods. Segment trends differed: Large Account margin improved, while SMB and Public Sector margins declined, mainly because of lower-margin desktop and notebook sales.
- First-half operating cash flow was $20.8, versus $27.0 a year earlier. The company attributed cash generation primarily to earnings and higher accounts payable, partly offset by increases in receivables and inventory. Investing cash outflow was $3.5; financing cash inflow was $0.4.
- Cash was $60.3 at June 30, up from $42.5 at year-end. Accounts receivable was $295.3 and inventory $97.2. Total current liabilities were $188.5. No bank borrowings were outstanding; the full $50.0 revolving facility was available.
- Total liabilities were $207.3 and stockholders’ equity $339.3. Accounts payable included $26.2 owed under supplier-supported inventory trade-credit arrangements; these amounts are recorded as accounts payable, not bank borrowings.
Material changes and management commentary
- Management cited the April 2014 end of Windows XP support as a driver of desktop, notebook, and software demand, along with IT project rollouts delayed from 2013. The Windows XP-related impact was less in Q2 than in Q1.
- Public Sector sales benefited from increased education and federal-government demand; K-12 notebook and tablet demand was associated with standardized digital testing. Large Account growth also reflected new customers in the first half.
- SG&A increased in dollars, including personnel costs and investment in solution-sales and support staff, but declined as a share of sales due to scale. The company is expanding higher-margin IT services, while cautioning that added service-engineer costs could weigh on results if service revenue does not grow sufficiently.
- Management expects next-12-month capital expenditures of $8.0–$10.0 and lease and other contractual payments of approximately $3.8. A broader software and IT project, if fully implemented, could require more than $20.0 over three to five years; the scope had not been finalized.
- The company said cash, operating cash generation, and available credit should fund working capital and other needs for at least the next 12 months. It issued no specific revenue or earnings guidance in the provided filing text.
Risks, contingencies, and unusual items
- A multi-state unclaimed-property audit remains in progress. Management believes known and estimated liabilities are adequately provided for, but formal assessments are incomplete and additional liabilities could materially adversely affect results, financial position, or cash flows.
- The company faces ordinary-course legal matters, including patent claims; management did not expect those matters to have a material effect. It also identified supplier efforts to sell directly to customers or restrict reseller access, as well as dependence on IT demand and the ability to manage receivables, inventory, and costs.
- The revolving credit facility has financial and operating covenants, including a maximum funded-debt ratio of 2.0:1 and a minimum-net-worth test. The company reported compliance at June 30, 2014; reduced Adjusted EBITDA could constrain future borrowing capacity.
- The headquarters lease was extended for five years in May 2014, with monthly rent of $104,434, in addition to taxes, insurance, and common-area charges.
- ASU 2014-09, the new revenue-recognition standard, is effective for the company January 1, 2017. The company was assessing its potential impact.
Important facts for investors to verify
- Whether sales growth persists after the temporary Windows XP replacement and delayed-project demand subsides, particularly across the three segments.
- Whether the company can sustain or improve gross margins as product mix and segment-level selling margins change, and whether service growth offsets the cost of hiring service engineers.
- How receivables, inventory, and payables evolve: first-half cash flow was lower year over year, receivables days rose to 40 from 39, and inventory turns fell to 28 from 30.
- The outcome and potential exposure from the unclaimed-property and other tax audits, and any effect on cash flows or reported liabilities.
- Final scope and spending for planned IT investments, covenant headroom, and the company’s ability to fund capital and working-capital needs without drawing on its credit facility.