ARROW ELECTRONICS, INC. annual report, FY2020

Arrow Electronics, Inc. — Fiscal 2020 Form 10-K Summary

Business context and reporting period

Arrow Electronics is a global distributor and solutions provider for electronic components and enterprise computing products and services. The filing covers the fiscal year ended December 31, 2020, including quarterly information for the fourth quarter. Operations are divided between Global Components, representing approximately 72% of 2020 sales, and Global Enterprise Computing Solutions (ECS), representing approximately 28%. Arrow served more than 180,000 customers in over 85 countries and had approximately 19,600 employees.

Financial performance and key metrics

Metric	2020	2019	Change
Sales	$28.673 billion	$28.917 billion	Down 0.8%
Gross profit	$3.191 billion	$3.298 billion	Down 3.3%
Gross margin	11.1%	11.4%	Down 30 bps
Operating income	$894.5 million	$107.7 million	Up $786.8 million
Operating margin	3.1%	0.4%	Up 270 bps
Net income attributable to shareholders	$584.4 million	$(204.1) million	Returned to profitability
Diluted earnings per share	$7.43	$(2.44)	Improved materially
Cash flow from operations	$1.360 billion	$858.0 million	Up $501.8 million
Capital expenditures	$123.6 million	$143.2 million	Down $19.6 million

Segment sales: Global Components sales increased 1.2% to $20.503 billion; Global ECS sales decreased 5.7% to $8.171 billion.
Segment operating income: Global Components generated $780.3 million versus a $10.2 million loss in 2019; Global ECS generated $353.8 million versus $426.2 million in 2019; Corporate expense was $239.6 million versus $308.3 million.
Adjusted performance: Non-GAAP operating income declined 11.3% to $936.9 million, or 3.3% of sales, from $1.1 billion, or 3.7%, in 2019. Non-GAAP net income declined to $609.7 million from $636.5 million.
Fourth quarter: Sales were $8.454 billion, operating income was $321.4 million, net income attributable to shareholders was $236.1 million, and diluted EPS was $3.08.
Balance sheet: Cash and cash equivalents were $373.6 million; accounts receivable were $9.205 billion; inventories were $3.287 billion; total assets were $17.054 billion; and shareholders’ equity was $5.089 billion.
Debt and liquidity: Long-term debt was $2.098 billion and current borrowings, including the current portion of long-term debt, were $158.6 million. Arrow had no borrowings under its $2.0 billion revolving credit facility, $1.2 billion North American asset securitization program, commercial paper program, or $200 million of uncommitted credit lines at year-end. Management reported more than $3.2 billion of committed and undrawn liquidity in addition to cash.
Margins and working capital: Non-GAAP gross margin declined approximately 50 basis points, primarily because Asia-Pacific represented 46% of Global Components sales versus 38% in 2019. Working capital as a percentage of sales improved to 13.5% from 16.7%.

Material changes versus the prior comparable period

Sales declined modestly, but reported profitability improved sharply because 2019 included approximately $623.8 million of goodwill and other impairment charges, $162.4 million of losses related to the personal computer and mobility asset disposition business wind-down, and higher restructuring and other charges.
Global Components benefited from stronger Asia-Pacific demand, while Americas and EMEA volumes were lower. ECS was pressured by weaker demand for proprietary server solutions and networking, partially offset by stronger infrastructure software, industry-standard server, security, and storage demand.
Reported gross margin declined because of regional mix and increased Asia-Pacific contribution. Expense reductions, lower travel costs, and the operating expense reduction program partly offset margin pressure.
Operating cash flow increased to $1.360 billion, aided by working-capital management and $397.9 million of operating cash inflow from the EMEA receivables securitization program.
Financing cash outflows increased to $1.227 billion, including $483.7 million of share repurchases, $411.5 million of net long-term debt repayments, repayment of $209.4 million of 6.00% notes, and a $48.4 million settlement of forward-starting interest-rate swaps.
Arrow adopted the expected-credit-loss standard on January 1, 2020, increasing the allowance for credit losses by $47.0 million and reducing retained earnings by $35.9 million after tax.
The company repurchased approximately $484.8 million of common stock during 2020. The July 2020 authorization left approximately $463.5 million available for future repurchases at year-end.

Guidance, outlook, management commentary, risks, and unusual items

The filing does not provide formal numerical revenue or earnings guidance. Management stated that it expects current cash, available borrowing capacity, and projected operating cash flow to meet foreseeable needs, while continuing to evaluate acquisitions, capital allocation, and additional financing as needed.

COVID-19: The pandemic disrupted travel, employee availability, business activity, and global supply chains. Demand was strong for work-from-home and business-continuity solutions, but future effects remained highly uncertain, including potential customer credit deterioration, supply constraints, recessionary conditions, and cybersecurity exposure from remote work.
Receivables securitization: Arrow sold approximately $1.936 billion of EMEA receivables during 2020. Approximately $397.9 million remained uncollected at year-end, and $551.8 million of collateralized receivables was held by the bankruptcy-remote funding entity.
Goodwill concentration and impairment risk: Goodwill was $2.115 billion. The Americas Components and eInfochips reporting units exceeded carrying value by less than 10% at the latest test and remain particularly sensitive to changes in forecasts, margins, growth rates, discount rates, and market conditions. No 2020 goodwill impairment was recorded.
Inventory risk: Inventories were $3.287 billion. The independent auditor identified inventory net realizable value adjustments as a critical audit matter because of estimation uncertainty surrounding demand, aging, obsolescence, and supplier protection.
Tax and regulatory contingencies: 2020 included approximately $32.7 million of reserves and other adjustments, primarily for foreign tax and other loss contingencies. Unrecognized tax positions totaled $62.2 million, with settlement timing not reasonably estimable.
Export-control review: Arrow disclosed unauthorized shipments from 2015 through 2019 with aggregate invoiced value of approximately $4.8 million to resellers for potential reexport to sanctioned persons. BIS closed its investigation with a warning letter and no penalty; OFAC’s review remained ongoing, and any penalty could not be estimated.
Environmental matters: Arrow remains responsible for remediation at former Wyle sites in Huntsville, Alabama, and Norco, California. Estimated additional costs were $3.3 million to $10.0 million for Huntsville and $5.9 million to $17.0 million for Norco, while additional potential costs could not be estimated.
Supplier concentration: One supplier accounted for approximately 14% of consolidated sales. Distribution agreements are generally non-exclusive and cancellable on short notice.
International exposure: Approximately 65% of 2020 sales originated outside the United States. Foreign exchange, tariffs, trade restrictions, taxes, political conditions, and regulatory compliance could affect results.
Audit and controls: Ernst & Young issued unqualified opinions on the financial statements and internal control over financial reporting. Management concluded disclosure controls and internal controls were effective as of December 31, 2020.

Important facts an investor should verify

Whether Global ECS demand and operating margins recover from the 2020 decline, particularly in proprietary servers and networking.
Whether the Asia-Pacific sales mix continues to pressure consolidated gross margins.
The sustainability of strong operating cash flow after considering receivables securitization and working-capital movements.
The refinancing or renewal of the $1.2 billion North American asset securitization program maturing in June 2021 and the maturity profile of outstanding notes.
Potential goodwill impairment in the Americas Components and eInfochips reporting units, which had less than 10% headroom.
Future inventory write-downs, customer credit losses, and supplier price-protection or stock-rotation recoveries.
The outcome and potential financial impact of the unresolved OFAC review, foreign tax matters, and environmental remediation obligations.
The effect of COVID-19, semiconductor and enterprise IT cycles, tariffs, foreign exchange, supplier concentration, and competitive pricing pressure on future sales and margins.