ScanSource, Inc. — Fiscal 2019 First Quarter Summary
Business Context and Reporting Period
ScanSource distributes technology solutions and services, including point-of-sale, payments, barcode, physical security, networking, unified communications, telecom and cloud services. It operates through Worldwide Barcode, Networking & Security and Worldwide Communications & Services segments across North America, Latin America, Europe and South Africa. This Form 10-Q covers the quarter ended September 30, 2018, compared with the quarter ended September 30, 2017. The financial statements are unaudited.
Key Financial Metrics
| Metric | Q1 FY2019 | Q1 FY2018 | Change |
|---|---|---|---|
| Net sales | $972.9 million | $924.6 million | 5.2% increase |
| Gross profit | $112.2 million | $105.9 million | 5.9% increase |
| Gross margin | 11.5% | 11.5% | Unchanged |
| Operating income | $21.4 million | $7.6 million | 182.1% increase |
| Operating margin | 2.2% | 0.8% | Increased |
| Net income | $14.3 million | $4.1 million | Increase |
| Diluted EPS | $0.56 | $0.16 | Increase |
| Net cash provided by operating activities | $5.7 million | $(37.4) million | Improved |
- Worldwide Barcode, Networking & Security sales were $655.1 million, up 5.6%; segment operating income was $13.5 million versus $14.0 million.
- Worldwide Communications & Services sales were $317.8 million, up 4.5%; segment operating income was $8.3 million versus a $6.3 million loss.
- Excluding foreign exchange and acquisitions, consolidated sales grew 6.5% on a constant-currency basis.
- Cash and cash equivalents were $18.9 million at September 30, 2018, down from $25.5 million at June 30, 2018.
- Total debt was $281.9 million, including $276.8 million outstanding under the revolving credit facility, compared with $249.4 million at June 30, 2018. Borrowing availability was $123.2 million.
- Accounts receivable were $677.5 million and inventories were $672.7 million. Inventory increased $76.7 million from June 30, 2018.
- Total assets were $2.02 billion and shareholders’ equity was $877.9 million at quarter-end.
Material Changes Versus the Prior Comparable Period
- Sales growth was driven primarily by increased North American volume. International reported sales declined 1.2%, but increased 7.5% on a constant-currency basis excluding acquisitions.
- Operating income benefited materially from lower contingent-consideration expense: $4.6 million in the current quarter versus $16.9 million in the prior-year quarter.
- SG&A increased 6.5% to $77.9 million, primarily due to employee-related costs, recent acquisitions and restructuring costs, partly offset by lower bad-debt expense.
- Interest expense increased 65.7% to $2.6 million due to higher average borrowings and higher interest rates.
- The effective tax rate declined to 25.5% from 38.8%, primarily reflecting the lower U.S. federal statutory tax rate.
- Cash flow from operations improved to $5.7 million from a $37.4 million use of cash, although inventory consumed $78.8 million of cash.
- Investing cash outflows declined to $14.2 million from $144.1 million, reflecting the absence of the prior-year POS Portal acquisition. Current-quarter acquisitions of Canpango and Intelisys Global required $13.2 million of cash.
Guidance, Outlook, Risks and Unusual Items
- Management expects a fiscal 2019 effective tax rate, excluding discrete items, of approximately 25% to 26%.
- Fiscal 2019 capital expenditures are expected to range from $10 million to $15 million, primarily for information technology investments.
- Management believes existing cash, operating cash flow and revolving-credit availability will be sufficient to meet working-capital and other cash requirements for at least the next twelve months.
- Future contingent consideration payments relate primarily to Intelisys and Network1. The Intelisys liability had a discounted fair value of $69.8 million at September 30, 2018, with anticipated undiscounted payments up to $85.8 million. The Network1 liability was $10.3 million and was expected to be paid in the quarter ending December 31, 2018.
- Contingent consideration expense of $4.6 million reflected recurring discount amortization and improved Intelisys results; changes in projected results, probability assumptions, discount rates and foreign exchange could materially affect future expense.
- Canpango and Intelisys Global were acquired during the quarter for approximately $13.2 million combined; purchase-price allocations were not finalized at the reporting date.
- Key risks include foreign-currency and interest-rate volatility, dependence on major suppliers and customers, acquisition execution, credit risk, demand and pricing pressure, and potential changes in supplier relationships.
- The company reports foreign operations and uses currency forwards and a $50 million interest-rate swap; derivatives are not used for speculative purposes.
- Management stated that pending litigation is not expected to have a material adverse effect, although no assurance was provided. Belgium reported an approximately $1.0 million pretax loss, creating potential deferred-tax-asset valuation risk if profitability does not recover.
- ASC 606 revenue recognition was adopted July 1, 2018 using the full retrospective method, with no material impact on the consolidated financial statements.
Investor Verification Checklist
- Verify whether sales growth and margins remain durable after separating acquisition contributions, foreign exchange effects and contingent-consideration adjustments.
- Monitor inventory growth, inventory turns, accounts-receivable aging and Latin American collections, including the reported 60-day DSO excluding Intelisys.
- Track revolving-credit utilization, interest rates, covenant compliance and remaining borrowing capacity.
- Reconcile future Intelisys and Network1 earnout payments with operating cash flow and available debt capacity.
- Assess the integration and performance of Canpango, Intelisys Global and prior acquisitions, including the final purchase-price allocations.
- Evaluate exposure to foreign exchange, floating interest rates, supplier concentration and changes in technology demand.
- Distinguish GAAP results from management’s non-GAAP measures: adjusted diluted EPS was $0.89 versus $0.76 in the prior-year quarter after excluding specified acquisition-related, restructuring, amortization and contingent-consideration items.