WESCO International, Inc. - 10-Q Summary (Period Ended Sept 30, 2008)
Business Context and Reporting Period
This is a Quarterly Report on Form 10-Q for WESCO International, Inc., a full-line distributor of electrical supplies and equipment, for the period ended September 30, 2008. The company operates over 400 branches globally, with approximately 87% of sales generated in the United States. The reporting period covers the third quarter and the first nine months of fiscal year 2008.
Key Financial Metrics
| Metric | Q3 2008 | Q3 2007 | 9 Months 2008 | 9 Months 2007 |
|---|---|---|---|---|
| Net Sales | $1,628.1 million | $1,545.6 million | $4,681.0 million | $4,514.3 million |
| Net Income | $65.9 million | $71.8 million | $170.8 million | $179.6 million |
| Diluted EPS | $1.53 | $1.54 | $3.92 | $3.65 |
| Operating Income | $98.6 million | $109.3 million | $272.5 million | $295.4 million |
| Operating Margin | 6.0% | 7.1% | 5.8% | 6.5% |
| Operating Cash Flow (9mo) | $221.1 million (vs. $207.2 million prior year) | |||
| Cash & Equivalents | $103.3 million (as of Sept 30, 2008) | |||
| Total Debt (Short + Long Term) | $1.175 billion (as of Sept 30, 2008) |
Material Changes vs. Prior Period
- Sales Growth: Net sales increased 5.3% in Q3 and 3.7% for the nine-month period. Growth was driven by higher commodity prices, favorable exchange rates, hurricane restoration activity, and prior acquisitions. This was partially offset by the absence of sales from the divested LADD operations ($24.7 million in Q3; $75.5 million for nine months).
- Profitability Decline: Net income decreased 8.2% in Q3 and 4.9% for the nine-month period. Operating income declined primarily due to the partial divestiture of LADD operations, higher cost of goods sold (COGS) due to supplier price increases, and increased SG&A expenses.
- Margin Compression: COGS as a percentage of sales increased to 80.6% in Q3 (from 79.7%) and 80.3% for nine months (from 79.6%). SG&A expenses as a percentage of sales also increased due to higher payroll, bad debt expenses, and foreign currency transaction losses.
- Divestiture Impact: In Q1 2008, the company sold a 60% interest in its LADD operations, recognizing a $2.1 million after-tax loss and removing $119.6 million in net assets. The remaining 40% interest is accounted for using the equity method.
Outlook, Risks, and Management Commentary
- Outlook: Management anticipates softer activity levels in major end markets for the remainder of 2008 and throughout 2009 due to macroeconomic data. However, they believe the company is well-positioned to perform at an above-market rate due to its strong market position and focus on margin and productivity.
- Liquidity: The company maintains $303.4 million in available borrowing capacity under its revolving credit facility and $500 million under its Receivables Facility. Total liquidity (cash + available credit) is approximately $348.3 million. Moody's affirmed the credit rating with a stable outlook in October 2008.
- Capital Allocation: The company repurchased approximately 1.9 million shares for $74.8 million during the first nine months of 2008. Future excess cash is expected to be directed toward debt reduction, share repurchases, and accretive acquisitions.
- Risks & Contingencies:
- Legal: WESCO is a co-defendant in a lawsuit in Indiana alleging sale of defective products, seeking $52 million in damages. Management denies liability and intends to defend vigorously.
- Accounting Changes: Implementation of FSP APB 14-1 regarding convertible debt is expected to decrease long-term debt by ~$252.5 million and increase equity by ~$146.3 million, resulting in a $0.10-$0.12 decrease in EPS in the year of adoption (2009).
- Market Risk: Global financial turmoil has impacted credit markets, though the company remains in compliance with all covenants.
Key Facts for Investor Verification
- Divestiture Accounting: Verify the ongoing impact of the LADD joint venture (40% ownership) on future earnings via the equity method and the specific timing of the $2.1 million loss recognition.
- Convertible Debt Impact: Monitor the implementation of FSP APB 14-1 in 2009, which will reclassify a significant portion of debt to equity and increase non-cash interest expense, affecting reported EPS.
- Bad Debt Trends: Review the increase in bad debt expense ($3.3 million increase in Q3; $4.0 million increase for nine months) as a potential indicator of customer credit quality deterioration in a slowing economy.
- Legal Exposure: Track the status of the $52 million Indiana lawsuit regarding defective products.
- Commodity Pricing: Assess the company's ability to pass through supplier price increases to customers, given the lag time mentioned in the MD&A which contributed to margin compression.