Business Context and Reporting Period
ScanSource, Inc. filed this unaudited Form 10-Q for the quarter ended September 30, 2021, the first quarter of fiscal 2022. The company is a hybrid technology distributor serving more than 30,000 sales partners across the United States, Canada, Brazil, the United Kingdom and Europe. Its two segments are Specialty Technology Solutions and Modern Communications & Cloud.
During the quarter, ScanSource renamed and realigned its operating segments to better reflect its hybrid distribution strategy. Prior-period segment amounts were reclassified for comparability. The company had completed the divestiture of product distribution businesses in Europe, the United Kingdom and Latin America, excluding Brazil, during fiscal 2021.
Financial Performance and Position
| Metric | Q1 FY2022 | Q1 FY2021 | Change |
|---|---|---|---|
| Net sales | $857.3 million | $757.3 million | 13.2% increase |
| Gross profit | $101.3 million | $80.8 million | 25.4% increase |
| Gross margin | 11.8% | 10.7% | Up 110 basis points |
| Operating income | $30.3 million | $1.6 million | Increase of $28.7 million |
| Operating margin | 3.5% | 0.2% | Improved materially |
| Net income from continuing operations | $22.1 million | $(0.1) million | Improved by $22.2 million |
| Diluted EPS | $0.86 | $(0.01) | Improved by $0.87 |
| Adjusted EBITDA | $41.4 million | $20.9 million | 97.9% increase |
Specialty Technology Solutions revenue increased 22.7% to $501.7 million, while Modern Communications & Cloud revenue increased 2.0% to $355.6 million. Intelisys connectivity and cloud revenue increased 13.7% year over year. Management attributed margin expansion to higher sales volume, favorable sales mix and higher vendor program recognition.
Cash and cash equivalents were $55.5 million at September 30, 2021, compared with $62.7 million at June 30, 2021. Accounts receivable were $589.5 million and inventories were $493.5 million. Net working capital investment increased to $564.0 million from $486.7 million, primarily because of higher receivables and inventory and lower accounts payable.
Operating activities used $57.0 million of cash, compared with $71.2 million provided in the prior-year quarter. Investing activities used $1.1 million, principally for capital expenditures. Financing activities provided $54.9 million, primarily from net revolving-credit borrowings. Days sales outstanding increased to 62 days from 60 days at June 30, 2021; inventory turns were 6.3 times versus 6.5 times in the preceding quarter.
Total debt was $197.4 million at September 30, 2021, including $56.4 million drawn on the revolving credit facility, compared with $143.2 million at June 30, 2021. The company had $293.6 million of additional revolving availability, was in compliance with its debt covenants, and reported no outstanding letters of credit. The credit facility matures April 30, 2024.
Material Changes Versus the Prior Comparable Period
- Revenue growth was broad based, led by Specialty Technology Solutions and North American demand. Constant-currency consolidated growth was 12.9%.
- Gross profit increased faster than revenue, producing a 110-basis-point gross-margin improvement.
- Q1 FY2022 included no restructuring charges, compared with $8.3 million in Q1 FY2021, and no contingent-consideration fair-value expense, compared with $0.5 million previously.
- Corporate operating expense was substantially lower because the prior-year period included restructuring and divestiture costs.
- Q1 FY2021 included a $11.7 million net loss from discontinued operations, including a $10.7 million loss on the divestiture disposal group. No discontinued-operations loss was recorded in Q1 FY2022.
- Operating cash flow swung to a $57.0 million use, primarily because growth consumed accounts receivable and inventory investment and reduced accounts payable.
- Foreign currency translation reduced comprehensive income by $11.1 million in Q1 FY2022, compared with a $3.5 million translation gain in the prior-year quarter.
Guidance, Outlook, Risks and Unusual Items
Management expects an effective tax rate, excluding discrete items, of approximately 24.5% to 25.5% for fiscal 2022. Planned fiscal 2022 capital expenditures are $5 million to $8 million, primarily for information technology investments and facility improvements. Management believes available cash, operating resources and credit facilities will be sufficient for at least the next twelve months.
Key risks include COVID-19 uncertainty, supply-chain disruptions, customer and supplier credit risk, foreign-exchange and interest-rate movements, cybersecurity and information-technology failures, employee retention, loss of major customers or suppliers, and execution of the organic growth strategy. The company stated that its distribution facilities remained operational during the pandemic but continues to face pandemic-related healthcare, prevention and business-environment costs.
The company has a $100 million share-repurchase authorization approved in August 2021, with no repurchases during the quarter. It has never declared or paid a cash dividend, and dividends are restricted under the credit facility. Network1-related Brazilian tax contingencies were supported by indemnification receivables totaling approximately $3.7 million at September 30, 2021. Management stated that pending litigation is not expected to have a material adverse effect, although no assurance was given.
Management concluded that disclosure controls and procedures were effective as of September 30, 2021, and reported no material change in internal control over financial reporting during the quarter.
Important Facts for Investors to Verify
- Whether revenue growth and gross-margin gains persist after accounting for supply-chain constraints, product availability and vendor incentives.
- Whether the working-capital build, negative operating cash flow and increased revolving borrowings reverse as inventory and receivables normalize.
- Compliance with the credit facility’s maximum 3.50-to-1.00 leverage ratio and minimum 3.00-to-1.00 interest-coverage ratio.
- The sustainability of Intelisys and other cloud, connectivity and subscription growth within Modern Communications & Cloud.
- The effect of COVID-19, proposed vaccine mandates, supply-chain disruptions and foreign-exchange movements on future results.
- The basis and comparability of management’s non-GAAP measures, including adjusted EBITDA, constant-currency revenue and non-GAAP EPS.
- The status of the $100 million repurchase authorization and any effect of future repurchases on liquidity and share count.