Business Context and Reporting Period
Arrow Electronics, Inc. filed this Form 10-K for the fiscal year ended December 31, 2012. Arrow distributes electronic components and enterprise computing solutions through two segments: global components and global enterprise computing solutions (ECS). Approximately 65% of 2012 sales came from global components and 35% from ECS. Arrow served more than 100,000 customers through over 300 sales facilities and 43 distribution and value-added centers in 55 countries.
The filing also reports unaudited fourth-quarter 2012 results: sales of $5.403 billion, gross profit of $706.8 million, net income attributable to shareholders of $174.7 million, basic EPS of $1.64, and diluted EPS of $1.62.
Financial Performance and Liquidity
| Metric | 2012 | 2011 | Change |
|---|---|---|---|
| Sales | $20.405 billion | $21.390 billion | Down 4.6% |
| Gross profit | $2.737 billion | $2.949 billion | Down approximately 7.2% |
| Gross margin | 13.4% | Approximately 13.8% | Down approximately 40 basis points |
| Operating income | $804.1 million | $908.8 million | Down 11.5% |
| Operating margin | 3.9% | 4.2% | Down 30 basis points |
| Net income attributable to shareholders | $506.3 million | $598.8 million | Down 15.4% |
| Diluted EPS | $4.56 | $5.17 | Down 11.8% |
| Cash flow from operations | $675.0 million | $120.9 million | Significant increase |
- Global components sales declined 10.0% to $13.361 billion, primarily due to weaker demand, economic conditions, foreign-currency translation, and competitive pricing.
- Global ECS sales increased 7.8% to $7.044 billion, supported by growth in services, storage, and software, partly offset by lower server sales.
- Selling, general, and administrative expense declined 2.3% to $1.850 billion, although SG&A as a percentage of sales increased to 9.1% from 8.8%.
- Interest and other financing expense declined 3.9% to $101.9 million, primarily because of lower interest rates on variable-rate debt.
- Cash and cash equivalents were $409.7 million at year-end, including $359.0 million held outside the United States. Accounts receivable were $4.924 billion and inventories were $2.053 billion.
- Investing cash uses were $409.1 million, including $281.9 million for acquisitions, $112.2 million for capital expenditures, and $15.0 million for a cost-method investment. ERP-related capital expenditures were $65.6 million.
- Financing cash uses were $257.7 million, including $260.9 million of common-stock repurchases.
- Debt consisted of $364.4 million of current borrowings and $1.587 billion of long-term debt at year-end. The company had $1.200 billion of revolver capacity and a $775.0 million asset securitization program, with total borrowings under those facilities of $348.6 million.
- Approximately 80% of debt was fixed-rate and 20% floating-rate. The company reported compliance with all debt covenants.
Material Changes Versus the Prior Comparable Period
- Consolidated sales declined 4.6%, reversing the 14.1% growth reported in 2011. Excluding acquisitions, foreign currency, and the revenue-presentation change, consolidated sales declined 2.6%.
- Gross margin declined because of increased competitive pricing pressure and, to a lesser extent, product mix.
- Operating income and net income declined despite cost reductions and improved operating cash flow.
- Operating cash flow increased to $675.0 million from $120.9 million, principally because declining sales reduced net working-capital requirements.
- Arrow completed seven acquisitions in 2012 for aggregate consideration of approximately $289.8 million; management stated that their consolidated impact was not material.
- Arrow recorded $47.4 million of restructuring, integration, and other charges, compared with $37.8 million in 2011. The 2012 restructuring included elimination of approximately 865 positions, closure or exit activities involving 14 facilities, and $6.6 million of asset write-downs.
- In the third quarter, Arrow prospectively changed certain fulfillment-contract revenue from gross presentation to net agency-fee presentation. The change reduced reported 2012 sales growth by approximately 1.5% but did not affect gross profit dollars, operating income, net income, EPS, balance sheet, or cash flow.
Guidance, Outlook, Risks, and Unusual Items
The filing does not provide formal quantitative earnings or revenue guidance. Management stated that most sales are order-by-order rather than under long-term contracts, limiting visibility beyond a few months. Management expects available cash, borrowing capacity, operating cash generation, and capital-market access to meet projected needs for the foreseeable future.
- The fourth quarter included a $79.2 million pretax gain, or $48.6 million after tax, from the settlement of long-running Wyle environmental and related legal matters. Arrow received $110 million but accepted responsibility for potential future Wyle-related costs.
- Environmental remediation remains ongoing at the Huntsville, Alabama and Norco, California sites. Additional estimated costs disclosed for identified work were approximately $3.5 million to $4.75 million at Huntsville and $17.6 million to $24.1 million at Norco, excluding costs that cannot yet be estimated.
- A $335.4 million carrying value of 6.875% senior notes was classified as current and was due in July 2013. The company anticipated refinancing the maturity, supported in part by a forward-starting interest-rate swap.
- Key risks include semiconductor and information-technology cyclicality, supplier concentration and cancellable distribution agreements, inventory obsolescence, pricing pressure, international operations and currency movements, acquisition integration, ERP implementation, cybersecurity and information-system disruptions, product liability, environmental obligations, tax contingencies, and potential goodwill impairment.
- Goodwill totaled $1.712 billion at year-end. Annual impairment testing identified no impairment, but the valuation depends on forecasts of revenue, margins, working capital, growth, and discount rates.
- The company has no off-balance-sheet financing or unconsolidated special-purpose entities. It had $5.298 billion of disclosed contractual obligations, including debt, interest, leases, purchase obligations, and other commitments.
- Ernst & Young issued unqualified opinions on the consolidated financial statements and internal control over financial reporting. Controls excluded seven entities acquired during 2012, representing 4.4% of total assets, 1.6% of sales, and 2.6% of net income attributable to shareholders.
Most Important Facts for Investors to Verify
- Whether the 2013 maturity of the $335.4 million senior notes was successfully refinanced and on what terms.
- Underlying earnings excluding the $48.6 million after-tax Wyle settlement gain and $30.7 million after-tax restructuring and other charges.
- Whether global components demand and gross-margin pressure stabilized after the 2012 decline.
- Cash conversion, inventory levels, receivables quality, and working-capital requirements as sales conditions change.
- Progress, cost, and control implications of the multiyear global ERP implementation.
- Ultimate environmental remediation costs and the recoverability of disputed insurance claims.
- Acquisition performance, integration costs, and potential goodwill or intangible-asset impairment.
- Compliance with debt covenants and the effect of repurchases on liquidity, leverage, and future capital allocation.