CDW Corporation — FY 2017 Form 10-K
Reporting period: Fiscal year ended December 31, 2017. This is an annual report, not a standalone fourth-quarter filing; selected Q4 figures are included below. CDW distributes and integrates IT products and services for business, government, education and healthcare customers in the U.S., U.K. and Canada.
Financial performance
| Metric | FY 2017 | FY 2016 | Change |
|---|---|---|---|
| Net sales | $15,191.5 million | $13,981.9 million | +8.7% (+8.9% constant currency) |
| Gross profit / margin | $2,449.9 million / 16.1% | $2,327.2 million / 16.6% | Profit +5.3%; margin down 50 bps |
| Operating income / margin | $866.1 million / 5.7% | $819.2 million / 5.9% | Income +5.7%; margin down 20 bps |
| Net income | $523.0 million | $424.4 million | +23.2% |
| Diluted EPS | $3.31 | $2.56 | +29.3% |
| Adjusted EBITDA (non-GAAP) | $1,185.6 million; 7.8% margin | $1,117.3 million; 8.0% margin | +6.1%; margin down 20 bps |
| Cash from operating activities | $777.7 million | $604.0 million | +$173.7 million |
| Capital expenditures | $81.1 million | $63.5 million | +$17.6 million |
Fourth-quarter 2017 net sales were $3,838.6 million, operating income was $221.6 million and net income was $195.2 million, compared with $3,492.4 million, $197.2 million and $103.2 million, respectively, in Q4 2016. Q4 2017 net income included the benefit of the Tax Cuts and Jobs Act.
Liquidity, debt and capital allocation
- Year-end cash was $144.2 million, down from $263.7 million. Working capital was $863.5 million, versus $957.4 million.
- GAAP total debt and capitalized lease obligations were $3,236.7 million; this excludes $498.0 million of inventory-financing payables. Company-reported net debt was $3,091.3 million.
- CDW reported $996 million of additional borrowing availability under its U.S. asset-based revolver and $68 million under its U.K. revolving facility; neither had outstanding borrowings at year-end. Management said liquidity was adequate for at least the next year. The company was in compliance with debt covenants.
- Financing cash outflow was $818.7 million, including $534.0 million of share repurchases and $106.9 million of dividends paid. The board increased the repurchase authorization by $750 million; $858 million remained available at year-end. The quarterly dividend was raised to $0.21 per share.
- Debt refinancing and redemption activity generated a $57.4 million loss on extinguishment of debt. Variable-rate debt was $1.5 billion; interest-rate caps with $1.4 billion notional value were in effect through December 31, 2018.
Material changes and management commentary
- Sales growth was driven by customer refreshes of notebooks, mobile devices and desktops, as well as networking, video, security, hyper-converged infrastructure and cloud-related solutions. Hardware represented 78.7% of sales, up from 78.6%.
- Corporate sales rose 7.8%, Small Business 9.3%, Public 8.0% and Other (Canada and U.K.) 14.5%. Healthcare sales declined 2.9%, reflecting customer uncertainty about reimbursements and funding. Government sales rose 16.3%; Education rose 9.6%.
- Gross margin contracted primarily because of a higher share of lower-margin hardware sales and competitive pricing pressure. Operating income increased, but consolidated operating margin fell.
- Operating cash flow improved, while cash declined primarily amid substantial repurchases, dividends and other financing outflows. The cash conversion cycle held at 19 days.
- The 2017 effective tax rate was 20.8%, compared with 36.9% in 2016, reflecting a $96 million benefit from revaluing deferred tax balances, equity-compensation tax benefits and other items, partly offset by a $20 million mandatory repatriation tax charge. The company had recorded provisional Tax Act amounts and was continuing its analysis. Management expected a 2018 effective tax rate of 24%–25%; no broader financial or sales guidance is provided in the supplied filing text.
- CDW adopted the new revenue standard on January 1, 2018 using full retrospective application. The filing estimates reported 2017 sales would be reduced by $358.6 million, with little change to profit; the 2017 gross margin would appear approximately 16.5% rather than 16.1% after the adjustment.
Risks, contingencies and unusual items
- Key risks include economic and government-spending weakness, intense competition and pricing pressure, dependence on vendor partners and distributors, product availability, rapid technology shifts, cybersecurity and IT-system disruptions, customer credit and inventory obsolescence, and foreign exchange and Brexit uncertainty.
- Vendor concentration is notable: products from seven named manufacturers represented nearly 60% of 2017 consolidated sales; Cisco and HP Inc. products together represented more than 25%. Each of the three largest U.S. wholesale distributors accounted for approximately 10% of U.S. purchases.
- Leverage and variable interest rates may constrain financial flexibility, debt service, dividends, repurchases and investment. Debt agreements include restrictive covenants and borrowing-base/liquidity conditions.
- Ordinary-course litigation, audits and indemnification matters remained outstanding; the company said it did not believe a material loss beyond amounts already recognized was reasonably possible, while noting outcomes are unpredictable. The SEC concluded its investigation of vendor partner incentives in May 2017 and did not intend to recommend enforcement action.
- The audit opinion was unqualified, and management and the auditor reported effective internal control over financial reporting as of year-end.
Most important facts for investors to verify
- Whether sales growth can continue without further gross- and operating-margin erosion, particularly as hardware mix and competitive pricing evolve.
- How much of 2017 net-income growth reflects recurring operations versus Tax Act benefits, and whether the expected 2018 tax rate is achieved.
- Debt-service capacity and refinancing terms, including exposure to variable rates, revolver availability and covenant restrictions.
- Cash generation after working-capital movements, repurchases and dividends; confirm the sustainability of shareholder distributions against leverage and liquidity needs.
- The realized impact of retrospective revenue-standard accounting on reported sales and margins, and the evolution of vendor concentration, customer demand and healthcare sales.