PC Connection, Inc. — Q3 2012 Form 10-Q
Business context and reporting period. PC Connection is an IT products reseller and solutions provider serving small and midsize businesses and consumers (SMB), large enterprises (Large Account), and government and education customers (Public Sector). This unaudited filing covers the quarter and nine months ended September 30, 2012; comparisons are with the corresponding 2011 periods. Dollar amounts below are in millions unless stated otherwise.
Financial performance
| Metric | Q3 2012 | Q3 2011 | Nine months 2012 | Nine months 2011 |
|---|---|---|---|---|
| Net sales | $561.3 | $575.6 | $1,602.6 | $1,550.1 |
| Gross profit / margin | $72.2 / 12.9% | $70.4 / 12.2% | $210.4 / 13.1% | $196.1 / 12.6% |
| SG&A | $55.9 | $54.6 | $169.3 | $160.3 |
| Special charges | — | — | $1.1 | — |
| Operating income / margin | $16.3 / 2.9% | $15.9 / 2.8% | $40.0 / 2.5% | $35.8 / 2.3% |
| Net income | $9.9 | $9.4 | $24.2 | $21.4 |
| Diluted EPS | $0.37 | $0.35 | $0.91 | $0.80 |
- Q3 sales declined 2.5%, while gross profit rose 2.5%; higher gross margin more than offset lower sales. SG&A rose 2.4% and increased to 10.0% of sales from 9.4%.
- Nine-month sales grew 3.4%, gross profit grew 7.3%, and operating income increased $4.2 million. SG&A grew 5.6%; the period included $1.1 million of special charges.
- Q3 segment sales: SMB $219.2 million, down 2.3%; Large Account $192.8 million, down 6.7%; Public Sector $149.2 million, up 3.2%. Nine-month sales were $674.1 million, $571.1 million, and $357.4 million, respectively.
- Gross margin increased in all three segments for the nine-month period, attributed principally to a greater focus on higher-margin products and service solutions. Q3 Large Account margin improved notably, while SMB margin declined slightly.
Cash, liquidity, and debt
- At September 30, 2012, cash was $53.5 million, versus $4.6 million at December 31, 2011. Current assets were $398.5 million and current liabilities $169.1 million (current ratio approximately 2.36).
- Nine-month operating cash flow was $63.7 million, versus $22.4 million in 2011. Investing cash use was $7.0 million and financing cash use was $7.8 million. Improved collections and lower inventory contributed to operating cash flow; receivables fell $24.9 million from year-end and inventory fell $12.0 million.
- No bank-line borrowings were outstanding at quarter-end; the full $50 million facility was available and expires in February 2017. The facility may be increased to $80 million subject to conditions. Accounts payable included $14.0 million due under inventory trade-credit arrangements. Capital lease obligations totaled approximately $1.2 million.
- Management said cash, operating cash generation, and available credit should cover requirements for at least the next 12 months. Expected capital spending, excluding the software initiative, was $9–$12 million over the next 12 months; capital lease and other contractual payments were estimated at approximately $4 million.
Changes, outlook, and key risks
- Q3 Large Account sales were affected by two large customer deployments totaling $36 million in the prior-year quarter that did not recur. For the nine months, Large Account sales rose 11.1%, partly reflecting ValCom and increased solution selling.
- Effective January 1, 2012, Consumer/SOHO was combined with SMB; prior segment comparisons were recast. Federal government sales were constrained over the nine months, offset by state, local, and education demand.
- The company had capitalized $12.0 million for its Customer Master Data Management software project, expected to be placed in service in 2013; management expected approximately $2.0 million of additional annual depreciation once in service. Further software investments were not finalized and could exceed $20 million over three years.
- No specific earnings or revenue guidance was provided. Management cited ongoing priorities of growing revenue and gross margin, improving sales productivity, controlling SG&A, and investing in IT and solution-selling personnel. It cautioned that service revenue may not grow enough to offset added personnel costs.
- Risks include technology suppliers selling directly to customers, intense online price competition, demand and spending changes, and dependence on suppliers. A multi-state unclaimed-property audit remained underway; no formal assessment had been made, and additional liabilities could materially adversely affect results. Management considered ordinary-course legal matters not expected to have a material effect.
- Unusual items: nine-month special charges of $1.135 million related to a former executive’s retirement and workforce reductions. The final $0.916 million ValCom contingent-consideration payment was made in October 2012. Management reported effective disclosure controls and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether improved gross margins and higher-margin solution sales can continue, particularly as SG&A and personnel costs rise.
- Whether SMB and Large Account sales recover after Q3 declines, and the sustainability of Public Sector growth amid constrained federal spending.
- Actual timing, total cost, and depreciation impact of the Customer MDM project and any additional IT investments.
- Cash-flow sustainability and working-capital trends, including receivables, inventory, payables, and use of the credit facility.
- Outcome and potential exposure from the unclaimed-property and other audits; also confirm whether subsequent events or later filings disclose any material developments.