Arrow Electronics, Inc. — 2012 Second-Quarter Form 10-Q Summary
Business context and reporting period
Arrow Electronics is a global distributor of electronic components and enterprise computing solutions. Its two reportable segments are Global Components and Global Enterprise Computing Solutions (ECS). This unaudited Form 10-Q covers the quarter and six months ended June 30, 2012, compared with the quarter and six months ended July 2, 2011. Each comparable period had 64 shipping days for the quarter and 128 shipping days for the six months.
Key financial metrics
| Metric | Q2 2012 | Q2 2011 | Six months 2012 | Six months 2011 |
|---|---|---|---|---|
| Sales | $5.151 billion | $5.540 billion | $10.040 billion | $10.763 billion |
| Gross profit | $687.1 million | $770.1 million | $1.368 billion | Approximately $1.493 billion |
| Gross margin | 13.3% | 13.9% | 13.6% | 13.9% |
| Operating income | $188.7 million | $248.3 million | $376.1 million | $467.5 million |
| Operating margin | 3.7% | 4.5% | 3.7% | 4.3% |
| Net income attributable to shareholders | $114.4 million | $156.2 million | $228.0 million | $292.5 million |
| Diluted EPS | $1.02 | $1.33 | $2.02 | $2.49 |
| Net cash provided by operating activities | Not separately provided | Not separately provided | $311.0 million | $(144.7) million |
Q2 sales declined 7.0%, while six-month sales declined 6.7%. Global Components sales fell 10.9% in the quarter and 12.4% year to date; Global ECS sales increased 1.9% and 7.9%, respectively. Foreign-currency translation reduced sales by $199.9 million in Q2 and $277.1 million in the first six months.
At June 30, 2012, cash and cash equivalents were $325.8 million, accounts receivable were $4.402 billion, and inventories were $2.075 billion. Total assets were $10.035 billion. Short-term borrowings were $27.4 million and long-term debt was $1.958 billion, for total reported debt of approximately $1.985 billion. The company had a $1.2 billion revolving credit facility and a $775.0 million asset securitization program, with $191.8 million and $200.0 million outstanding, respectively.
Six-month investing cash outflows were $251.1 million, including $187.2 million for acquisitions, $48.9 million for capital expenditures, and $15.0 million for a cost-method investment. Financing cash outflows were $116.8 million, including $157.8 million of share repurchases. Cash decreased by $71.1 million during the six months to $325.8 million.
Material changes versus the prior comparable period
- Sales decreased $389.4 million in Q2 and $722.8 million in the first six months, primarily from weaker Global Components demand, competitive pricing, product and customer mix, and currency translation.
- Gross margins decreased approximately 60 basis points in Q2 and 20 basis points for the six months. On a pro forma, constant-currency basis, the decreases were approximately 80 and 50 basis points.
- SG&A declined 6.8% in Q2 and 4.5% for the six months as management streamlined operations and reduced expenses. Depreciation and amortization increased 7.8% and 16.6%, respectively, primarily due to the ERP initiative and acquisitions.
- Interest and other financing expense increased 7.6% in Q2 and 6.5% for the six months, primarily because of higher average debt used to fund acquisitions.
- The company completed five acquisitions during the first six months of 2012 for aggregate consideration of $232.2 million. Management stated that their individual and aggregate operating impacts were not material.
- Share repurchases totaled approximately $149.7 million through June 30, 2012, representing 4.04 million shares under the approved programs. The board authorized an additional $200 million of repurchases in June 2012.
Guidance, outlook, risks, contingencies, and unusual items
The filing does not provide specific revenue or earnings guidance. Management stated that customer and supplier visibility is limited because substantially all sales are made order by order rather than under long-term contracts. Management expects the global ERP initiative to have a $40 million to $60 million cash-flow impact in 2012, with the impact expected to remain relatively flat in 2013, funded from operating cash flow.
- 2012 restructuring, integration, and other charges were $13.3 million in Q2 and $21.6 million for the six months, including workforce reductions affecting approximately 270 positions, six vacated facilities, asset write-downs, and acquisition-related expenses. The company had $12.7 million of restructuring and integration accruals remaining at June 30, 2012.
- 2011 included a $5.9 million legal-settlement charge and a $1.8 million bargain-purchase gain; neither item occurred in 2012.
- The company performed interim goodwill and indefinite-lived intangible-asset impairment tests because its stock price traded below book value for part of Q2. No impairment was recorded, although the analyses depended on forecasts, margins, growth rates, discount rates, and other significant assumptions.
- The company was in compliance with debt covenants at June 30, 2012 and stated that it was not aware of events likely to cause future noncompliance. Approximately 78% of debt was fixed-rate and 22% floating-rate.
- Environmental matters at the Huntsville and Norco sites remain subject to uncertain scope and cost. The company estimated additional Huntsville expenditures of approximately $3.5 million to $4.75 million and additional Norco expenditures of approximately $13.0 million to $24.7 million, while relying on indemnification and insurance recoveries.
- A French court ruled in favor of the company in the Tekelec matter, but the plaintiff appealed. The company stated that any additional exposure would not materially affect its financial position, liquidity, or results of operations.
- Forward-looking risks include weaker demand, pricing pressure, supplier and customer changes, competition, currency movements, ERP implementation, additional restructuring, acquisition integration, and the ability to generate sufficient cash flow.
Important facts for investors to verify
- Whether the decline in Global Components demand and gross margin pressure persists, and whether Global ECS growth can offset it.
- The sustainability of operating cash generation given the substantial accounts receivable and inventory balances.
- Debt maturities, refinancing requirements, interest-rate exposure, and continued covenant compliance.
- Actual ERP implementation costs and execution progress versus the stated 2012 and 2013 expectations.
- Future restructuring charges, acquisition integration costs, and the effect of the new acquisition pipeline.
- The timing and collectability of environmental and tax indemnification receivables from E.ON AG and insurance carriers.
- The company’s ability to maintain liquidity while funding acquisitions, capital expenditures, and share repurchases.