INSIGHT ENTERPRISES INC quarterly report, Q3 FY2015

Insight Enterprises, Inc. — Q3 2015 Form 10-Q Summary

Business Context and Reporting Period

Insight is a global provider of integrated technology solutions, including hardware, software and services, serving business and government clients through North America, EMEA and APAC. This unaudited Form 10-Q covers the three and nine months ended September 30, 2015, compared with the corresponding 2014 periods.

Key Financial Metrics

Metric	Q3 2015	Q3 2014	9M 2015	9M 2014
Net sales	$1.342 billion	$1.238 billion	$3.986 billion	$3.870 billion
Gross profit	$182.3 million	$171.8 million	$535.5 million	$530.2 million
Gross margin	13.6%	13.9%	13.4%	13.7%
Earnings from operations	$32.6 million	$28.4 million	$96.0 million	$95.8 million
Net earnings	$20.8 million	$17.4 million	$57.3 million	$56.2 million
Diluted EPS	$0.56	$0.42	$1.49	$1.36
Operating cash flow	Not separately provided	Not separately provided	$24.6 million	$47.8 million

Reported Q3 sales increased 8% year over year, or 13% excluding currency effects. Nine-month sales increased 3%, or 9% excluding currency effects. North America was the primary growth driver, with Q3 sales up 15% and nine-month sales up 10%. EMEA sales declined 6% in reported dollars for Q3 and 10% for nine months, while APAC sales declined 20% and 17%, respectively.

Q3 operating margin was approximately 2.4%, compared with 2.3% in the prior-year quarter. The effective tax rate was 35.0% in Q3 and 37.1% for the first nine months, compared with 34.1% and 37.4%, respectively, in the comparable periods.

Balance Sheet, Debt and Liquidity

Cash and cash equivalents were $148.1 million at September 30, 2015, compared with $164.5 million at December 31, 2014.
Accounts receivable were $1.106 billion, inventories were $131.5 million and inventories not available for sale were $46.2 million.
Total debt was $86.6 million, including $85.0 million outstanding under the accounts receivable securitization facility and $1.6 million of capital lease and other financing obligations.
The senior revolving credit facility had a $350 million capacity and no balance outstanding. The accounts receivable securitization facility had a $200 million capacity, with $115 million of unused capacity based on qualified receivables.
The inventory financing facility capacity was increased to $250 million; $176.5 million was outstanding at September 30, 2015.
The maximum leverage covenant was 2.75 times trailing adjusted earnings. The company reported compliance with all debt covenants and no ABS amortization event.
The company stated that operating cash flow, domestic cash and available financing were expected to fund operating needs, capital expenditures and other commitments for at least the next 12 months.

Cash Flow and Capital Allocation

Operating cash flow decreased 48% to $24.6 million, primarily because higher sales required greater working-capital investment.
Capital expenditures were $10.8 million, compared with $8.0 million in the prior-year period. Full-year 2015 capital expenditures were expected to be $10 million to $15 million.
The company repurchased 3.3 million shares for approximately $91.8 million during the first nine months, and all repurchased shares were retired. The authorized repurchase programs were fully used.
Cash decreased $16.4 million during the first nine months, including a $13.8 million unfavorable foreign-currency translation effect.
The cash conversion cycle improved to 27 days from 30 days, reflecting higher days payable outstanding and expanded use of inventory financing.

Material Changes Versus the Prior Comparable Period

Q3 net earnings increased 20%, while diluted EPS increased from $0.42 to $0.56, aided by earnings growth and a lower share count following repurchases.
Gross margin declined approximately 30 basis points in both Q3 and the first nine months, primarily because of lower hardware product margins, product mix and partner-program changes.
Operating earnings increased 15% in Q3 despite higher selling and administrative expenses, severance costs and an $800,000 non-cash real estate impairment charge.
Selling and administrative expenses increased 4% in Q3 and 1% for the first nine months in reported dollars, reflecting investments in sales, technical and services personnel.
Foreign-currency translation reduced reported sales, gross profit and cash balances, particularly in EMEA and APAC.
Share repurchases increased materially from $29.7 million in the first nine months of 2014 to $91.8 million in 2015.

Guidance, Outlook, Commentary and Unusual Items

Management described Q3 as delivering double-digit sales and gross-profit growth on a constant-currency basis, with controlled discretionary expenses and strong year-over-year earnings growth.
The company expected approximately $8 million of adverse full-year 2015 gross-profit impact from changes to a major software partner’s channel incentive program.
Management expected to remain within its maximum leverage covenant over the following four quarters and intended to use excess cash for capital expenditures and debt reduction, while retaining flexibility for acquisitions.
Effective October 1, 2015, Insight acquired BlueMetal Architects, a design and technology architecture firm, for which trailing twelve-month revenue was approximately $25 million. Purchase accounting was not complete as of the filing date.
Unusual items included $817,000 of Q3 severance and restructuring expense, an $800,000 non-cash impairment charge on a held-for-sale property, and foreign-currency gains of $1.6 million in Q3.
The company had approximately $120.9 million of cash held by foreign subsidiaries whose earnings were considered indefinitely reinvested outside the United States.

Principal Risks and Contingencies

Dependence on technology manufacturers and software partners for product availability, pricing, marketing funds and incentive programs.
Competitive pricing pressure, rapidly changing technology, variable sales and gross profit, and exposure to general economic conditions.
Foreign-currency volatility and weaker economic or sales conditions in EMEA, APAC, Australia, Hong Kong and China.
Working-capital requirements, reliance on financing facilities, covenant compliance and potential lender remedies following a covenant breach or ABS amortization event.
Cybersecurity and IT-system disruptions, delivery-service dependence, contract-compliance risk, tax audits, intellectual-property claims and ordinary-course litigation.
The company reported no pending or threatened legal proceeding expected to have a material adverse effect, but acknowledged that litigation outcomes remain inherently unpredictable.

Investor Verification Checklist

Verify whether North America’s growth and services expansion offset continued weakness in EMEA and APAC.
Track gross-margin recovery and the remaining effect of the major software partner’s incentive-program changes.
Monitor operating cash conversion, inventory financing usage, accounts receivable quality and working-capital needs.
Confirm debt covenant headroom and the relationship between total debt, the ABS facility and the inventory financing facility.
Assess the integration, purchase accounting and contribution of the BlueMetal acquisition beginning in Q4 2015.
Review foreign-currency exposure, foreign cash restrictions and the potential impact of tax audits or unrecognized tax benefits.