ScanSource, Inc. Form 10-K Summary
Reporting period: Fiscal year ended June 30, 2019. The filing is not a 2018 fourth-quarter filing; it includes fourth-quarter data for the three months ended June 30, 2019, with comparable June 30, 2018 results. ScanSource distributes technology solutions and services through two segments: Worldwide Barcode, Networking & Security and Worldwide Communications & Services.
Financial Results and Key Metrics
| Metric | FY2019 | FY2018 | Change |
|---|---|---|---|
| Net sales | $3.873 billion | $3.846 billion | 0.7% |
| Gross profit | $452.6 million | $436.1 million | 3.8% |
| Gross margin | 11.7% | 11.3% | +40 bps |
| Operating income | $90.0 million | $67.6 million | 33.0% |
| Operating margin | 2.3% | 1.8% | +50 bps |
| Net income | $57.6 million | $33.2 million | 73.7% |
| Diluted EPS | $2.24 | $1.29 | 73.6% |
| Cash flow from operations | $(27.1) million | $24.8 million | Declined |
- Fourth-quarter fiscal 2019 net sales were $960.8 million, gross profit was $109.9 million, net income was $11.6 million and diluted EPS was $0.45.
- Worldwide Barcode, Networking & Security sales declined 1.5% to $2.590 billion, while operating income increased 5.2% to $59.9 million. Segment gross margin improved to 9.5% from 9.1%.
- Worldwide Communications & Services sales increased 5.4% to $1.283 billion, while operating income increased to $31.3 million from $10.9 million. Segment gross margin was 16.2%, compared with 16.3% in FY2018.
- On a constant-currency, excluding-acquisitions basis, consolidated sales increased 2.3%; Communications & Services increased 8.6%, while Barcode, Networking & Security declined 0.6%.
- SG&A increased 5.7% to $314.5 million, primarily from employee-related investments in North America. The change in fair value of contingent consideration declined to $15.2 million from $37.0 million.
- The effective tax rate was 26.1%, compared with 45.6% in FY2018, when significant discrete tax-reform items affected results. FY2019 included a $3.1 million Brazilian tax benefit related to state-provided tax benefits.
- Adjusted non-GAAP operating income was $128.5 million and adjusted non-GAAP diluted EPS was $3.36, compared with $124.0 million and $3.11, respectively, in FY2018. These measures exclude, among other items, acquisition amortization, contingent consideration changes, acquisition costs and restructuring costs.
Liquidity, Capital Resources and Balance Sheet
- Cash and cash equivalents were $23.8 million at June 30, 2019, including $18.9 million held outside the United States.
- Working capital increased to $776.4 million from $651.9 million, principally because inventory increased to $697.3 million from $595.9 million. Management cited strategic inventory purchases and lower-than-planned sales.
- Accounts receivable were $655.0 million, with an allowance of $38.8 million. Days sales outstanding, excluding Intelisys, increased to 62 from 59.
- Total debt was $360.5 million, compared with $249.4 million, including $200.8 million outstanding under the revolving facility, $146.3 million under a senior secured term loan and $4.6 million under a European overdraft facility.
- The amended credit agreement provides a $350 million revolving facility and a $150 million term loan, with maturity on April 30, 2024. Additional borrowing capacity of up to $250 million may be available under the accordion feature, subject to lender commitments.
- Available revolving capacity was $149.2 million at June 30, 2019. The Company was in compliance with its leverage and interest coverage covenants.
- Future contractual obligations included $77.9 million of discounted Intelisys contingent consideration, with $38.4 million payable in FY2020 and $39.5 million in FY2021. Undiscounted earnout payments could reach $85.1 million.
- Capital expenditures were $7.2 million in FY2019. Management expected FY2020 capital expenditures of approximately $4.0 million to $6.0 million.
Material Changes and Unusual Items
- Operating cash flow turned negative because of increased inventory and working-capital investment, despite higher net income.
- FY2019 included $2.4 million of restructuring costs, $1.2 million of acquisition costs and $15.2 million of contingent-consideration expense.
- ScanSource acquired Canpango, RPM Software and Intelisys Global during FY2019 for combined net cash consideration of approximately $32.2 million. Their consolidated impact was not material.
- On July 1, 2019, after the reporting period, ScanSource acquired intY and its CASCADE cloud-services platform for approximately $51.0 million.
- On August 20, 2019, ScanSource announced plans to divest physical-product distribution businesses in Europe, the United Kingdom, Mexico, Colombia, Chile, Peru and Miami-based export operations. The Company plans to retain digital businesses in those locations, including intY, Canpango and Intelisys Global. No transaction or timing was assured.
- No goodwill impairment charges were recorded. Goodwill totaled $319.5 million and identifiable intangible assets totaled $127.9 million at year-end.
Outlook, Risks and Contingencies
- Management expected the FY2020 effective tax rate from continuing operations to be approximately 25% to 26% and stated that existing liquidity should cover working-capital and cash requirements for at least the next twelve months.
- The Company is repositioning toward higher-margin, adjacent and recurring-revenue opportunities, particularly cloud, telecom services and digital platforms.
- Key risks include intense competition and narrow margins, reliance on major suppliers including Cisco and Zebra, customer credit losses, inventory obsolescence, foreign-exchange volatility, variable interest rates, cybersecurity and information-system disruptions, acquisition integration, and execution of the planned divestitures.
- Most supplier agreements are non-exclusive, short-term and terminable on 30 to 120 days’ notice. Cisco and Zebra each represented more than 10% of FY2019 net sales.
- The Company reported no material off-balance-sheet arrangements and stated that pending litigation was not expected to have a material adverse effect, although outcomes cannot be assured.
- Grant Thornton issued unqualified opinions on the financial statements and internal control over financial reporting. Management excluded Canpango and RPM from its internal-control assessment because they were acquired during FY2019.
Investor Verification Checklist
- Verify whether the planned international physical-distribution divestitures were completed, their proceeds or losses, and any impairment or restructuring charges.
- Track inventory levels, inventory turnover, receivable days and operating cash flow following the FY2019 working-capital build.
- Reconcile reported GAAP results with non-GAAP results, particularly the effects of contingent consideration, restructuring, acquisition costs and amortization.
- Monitor debt balances, variable-rate exposure, credit-facility availability and compliance with the 3.50-to-1.00 leverage and 3.00-to-1.00 interest-coverage covenants.
- Assess the performance and integration of intY, Canpango, RPM and Intelisys Global, including the expected contribution of recurring cloud and services revenue.
- Review supplier concentration, rebate assumptions and the terms and renewal status of Cisco and Zebra distribution agreements.