INSIGHT ENTERPRISES INC annual report, FY2011

Insight Enterprises, Inc. 2011 Form 10-K Summary

Business context and reporting period

Insight Enterprises is a global provider of IT hardware, software and services to commercial and public-sector clients. The filing covers the fiscal year ended December 31, 2011; it is an annual filing rather than a standalone fourth-quarter filing. Operations comprise North America, EMEA and APAC, representing approximately 70%, 26% and 4% of 2011 consolidated sales, respectively.

Hardware, software and services represented approximately 53%, 42% and 5% of consolidated sales. Insight operated in 23 countries, employed 5,386 teammates at year-end and served clients in approximately 190 countries.

Key financial metrics

Metric	2011	2010	Change
Net sales	$5.287 billion	$4.810 billion	+10%
Gross profit	$709.2 million	$646.1 million	+10%
Gross margin	13.4%	13.4%	Flat
Earnings from operations	$147.4 million	$124.1 million	+19%
Operating margin	2.8%	2.6%	+20 basis points
Net earnings	$100.2 million	$75.5 million	+33%
Diluted EPS	$2.18	$1.61	+35%
Cash flow from operations	$115.7 million	$98.2 million	+18%

Income from continuing operations before tax was $141.7 million, and income tax expense was $41.5 million. The effective tax rate declined to 29.3% from 34.5%, primarily because of an $8.6 million tax benefit related mainly to foreign tax credits recognized following a foreign-operations reorganization.

At December 31, 2011, cash and cash equivalents were $128.3 million, working capital was $426.5 million and total assets were $1.858 billion. Total debt was $116.6 million, including $115.0 million under the senior revolving credit facility and $1.6 million of capital lease obligations. Stockholders’ equity was $596.8 million.

The company generated $115.7 million from operations, used $40.9 million in investing activities and used $68.0 million in financing activities. Capital expenditures were $27.1 million, primarily for IT systems, and $13.8 million was used for the Ensynch acquisition. The company repurchased and retired approximately 2.9 million shares for $50.0 million.

Fourth-quarter 2011 net sales were $1.360 billion, gross profit was $179.0 million, operating earnings were $42.2 million and net earnings were $34.7 million, compared with fourth-quarter 2010 net sales of $1.339 billion, gross profit of $172.6 million, operating earnings of $37.3 million and net earnings of $25.0 million.

Material changes versus the prior comparable period

• Sales increased 10% overall, led by North America growth of 10%, EMEA growth of 7% and APAC growth of 36%.
• Services sales increased 17% in North America and 23% in EMEA, supporting the company’s strategy to expand higher-value services.
• Selling and administrative expenses increased 7% but declined to 10.5% of sales from 10.8%, reflecting productivity and cost-control initiatives.
• Operating earnings improved substantially despite $5.1 million of severance and restructuring expense, compared with $3.0 million in 2010.
• Cash conversion cycle increased to 22 days from 18 days, primarily because days sales outstanding rose to 82 days from 78 days, particularly in foreign operations.
• Debt increased from $92.6 million at year-end 2010 to $116.6 million, while cash increased modestly from $123.8 million to $128.3 million.
• Insight acquired Ensynch effective October 1, 2011, for approximately $13.8 million net of cash acquired, adding professional-services and cloud-migration capabilities. The acquisition did not materially affect 2011 results.
• Inmac was acquired effective February 1, 2012, after the reporting date. Its reported 2011 revenue was approximately $120 million; the acquisition was intended to expand hardware capabilities in Germany and the Netherlands.

Guidance, outlook, commentary and unusual items

Management described strong IT-spending momentum in the first half of 2011, followed by reduced spending by certain large enterprise clients in the second half. Management also reported effects from changes to the largest software partner’s channel incentive programs during the fourth quarter.

• Management expected 2012 capital expenditures of $20 million to $25 million, primarily for North American and EMEA IT-system integration and facility and technology upgrades.
• Additional 2012 North American IT-integration costs were expected to include $5 million to $10 million of selling and administrative expense and $2 million to $5 million of capital expenditures.
• The company planned to complete North American system integration by the end of 2012 and continue EMEA deployments through 2012 and into 2013.
• Management expected cash flows from operations and available financing facilities to support anticipated operating and working-capital requirements over the following 12 months, with excess cash targeted for debt reduction, capital expenditures and potential small acquisitions.
• The company launched the InsightCloud Solutions Center in February 2012 and planned to expand cloud, software-as-a-service and managed-services offerings.
• Goodwill impairment testing in the fourth quarter found that the North America reporting unit’s fair value exceeded carrying value; no impairment was recorded.
• Other notable 2011 items included $5.1 million of severance and restructuring expense, a $1.4 million write-off of software development costs related to the North American systems project, and the $8.6 million tax benefit noted above.

Debt, liquidity, risks and contingencies

• The $300 million senior revolving credit facility, $150 million accounts-receivable securitization facility and $150 million inventory-financing facility mature on April 1, 2013. At year-end, availability was $185.0 million, $150.0 million and $56.1 million, respectively.
• The maximum leverage ratio under the financing agreements was 2.50 times adjusted earnings. The company reported compliance with all debt covenants at December 31, 2011.
• Contractual obligations totaled $285.9 million, including $115.0 million of revolving debt due in 2013, $93.9 million under the inventory-financing facility, $59.3 million of operating leases and $13.5 million of obligations due within one year.
• Key risks include reliance on Microsoft and other partners for product availability and incentives, intense price competition, changing cloud and software-distribution models, IT-system integration and cybersecurity risks, economic weakness, customer receivable collectability, inventory obsolescence, foreign-currency exposure and the need to refinance facilities maturing in 2013.
• Outstanding matters included securities class-action litigation related to the historical trade-credit restatement, a Department of Justice and FCC OIG investigation involving the E-Rate program, and a qui tam lawsuit alleging Trade Agreements Act and False Claims Act violations. The company could not estimate possible losses for these matters.
• Performance bonds outstanding were approximately $21.9 million. The company also had approximately $5.1 million of unrecognized tax benefits and stated that certain tax audits could materially affect the effective tax rate, although management did not expect a material adverse outcome based on available information.
• KPMG issued unqualified opinions on the consolidated financial statements and the effectiveness of internal control over financial reporting.

Most important facts for investors to verify

• Whether the 2012 refinancing or replacement of the facilities maturing April 1, 2013 occurred on acceptable terms.
• Execution, cost and business-disruption risk associated with the North American and EMEA IT-system integration programs.
• The sustainability of partner funding and the effect of changes to Microsoft and other vendor incentive programs on gross margin.
• Receivable collection trends, particularly the increase in days sales outstanding and exposure to foreign operations.
• Financial contribution and integration progress from Ensynch and Inmac, including the expected expansion of European hardware sales.
• Developments and potential financial exposure related to the E-Rate investigation, qui tam litigation, securities litigation and tax audits.
• Whether the 2011 tax benefit and other unusual items distort year-over-year earnings comparisons.
• The company’s ability to maintain growth while expanding services and cloud offerings in a highly competitive, low-margin distribution market.