艾睿電子 (ARW) 2004 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to your Arrow Electronics second quarter 2004 earnings conference. At this time all participants have been placed on a listen-only mode and the floor will be open for questions following today's presentation. It's now my pleasure to turn the floor over to your host, Eileen O'Connor. Ma'am, you may begin.

Thanks, Ashleigh. Good afternoon everyone and welcome to the Arrow Electronics second quarter conference call. I'm Eileen O'Connor, Vice President of Investor Relations and I will be serving as the moderator on today's call. With us on the call today are Bill Mitchell, President and Chief Executive Officer, Paul Reilly, Vice President and Chief Financial Officer, Brian McNally, President North American Components, Germano Fanelli, President of Arrow Europe, Middle East, Africa and South America, Harriet Green, President of Arrow AsiaPacific, Mike Long, President North American Computer Products, Jan Salsgiver, Vice President Global Strategy and Operations, and Peter Brown, Senior Vice President and General Counsel. By now you all should have received a copy of our earnings release. If not please contact me and I'll get you a copy. Alternatively you can access our release on our website, which is www.Arrow.com.

Let me remind everyone that some of the comments made on today's call may contain forward-looking statements. Those statements are subject to risks and uncertainties as described in our SEC filings. Rather than read the entire disclaimer contained in those filings, please remember that they do apply to this call. We will begin with several minutes of prepared remarks which will then be followed by a question-and-answer period. At this time I would like to introduce Bill Mitchell, our President and CEO.

Thanks, Eileen, and thanks to all of you for taking the time to hear about our quarter. All of our teams reported very strong performance during the second quarter. Consolidated sales were $2.75 billion, up 2.8% sequentially and that was 4% when you exclude the impact of foreign exchange, and up 30% from last year's second quarter. Operating income before charges increased 19% sequentially and 129% from last year to $126.7 million. As a percentage of sales operating income was 4.6%, up a healthy 60 basis points from March, and 200 basis points from last year. This is the seventh consecutive quarter that our operating income outpaced our growth in revenues. Net income before charges and gains of $69 million was up 38% sequentially and up more than four-fold from last year. I'm very pleased with our results as they reflect our continued focus on customers and operational efficiencies which when combined with even modest sales growth enables Arrow to deliver exceptional results.

Let me give you a brief overview of the second quarter. Our North American computer products business had the best quarter it has ever had, posting record sales and operating income. For the first time in its history, second quarter sales and operating income exceeded any fourth quarter on record which as you know is traditionally the strongest quarter of the year in this business. Mike Long and his team continue to do an outstanding job in this very competitive marketplace driving profitable growth across a wide variety of customers and products. The end markets remain stable and so we expect normal seasonality in this business in the third quarter. Our components businesses around the world posted solid sales performance. Worldwide component sales were $2.04 billion with operating income as a percentage of sales at 5.9%.

Let's take a look by region. In North America sales of 988 million were up for the sixth consecutive quarter marking a 1.7% increase compared to our first quarter and a 28% increase over last year. Our growth in operating income once again outpaced our growth in sales. Operating income was up for the sixth consecutive quarter and was up 16% over the first quarter and up nearly three-fold over the second quarter of last year. And this is the highest level we've achieved since the first quarter of 2001. Though our North American business did see a slight slowdown in June, as did many others in the tech sector, we continued to believe that we are in the midst of a more traditional rational recovery so we would expect normal seasonality in the third quarter. In Europe despite the generally weak macroeconomic situation and the strong euro, we posted a sales increase in constant dollars of 15% over last year. On a sequential basis, sales declined 1% as a result of fewer shipping days, and that decline is much lower than the declines we've seen historically.

Our operating income excluding foreign exchange grew at a faster pace than our sales, advancing by 18% sequentially and nearly doubling over last year. Looking ahead, given that our second quarter performance improved both sequentially and over last year, we expect to see normal third quarter seasonality. Asia Pacific as a region continues to present great opportunities for us. Second quarter sales were $290 million, up 9% sequentially and 46% over last year despite the tightening of credit in China. Our 9% growth in sales drove a 25% increase in operating income sequentially with year-to-date earnings already exceeding the total for last year. Looking to the third quarter we continue to see strong growth, though it may be at a slower pace given the power shortages, credit tightening, and other issues existing in China. Let me now ask Paul to discuss the financials for the second quarter and then Brian, Germano, Harriet and Mike will discuss their businesses in detail.

Thanks, Bill. As you have seen in our press release there are a number of items that impact the comparability of our results with those of the trailing quarter and Q2 of last year. I'll start by reviewing our results excluding these items and then at the end of my comments I will go through them in detail. Sales for second quarter were $2.75 billion, up 2.8% over the first quarter and up 30% from Q2 of last year. Excluding the impact of foreign exchange, sales were up nearly 4% sequentially and 27% over last year's second quarter. Sales in our worldwide components businesses were $2.04 billion, up approximately 1% over Q1 and 29.8% over Q2 of 2003. Each business around the world posted year-over-year sales growth of more than 20%.

Operating income as a percentage of sales was 5.9%, 60 basis points over last quarter and 200 basis points over last year. Worldwide computer product sales were $707 million up 10% sequentially from the first quarter and up 29% year-over-year. Operating income as a percentage of sales was 4.5%. That's up 130 basis points from last quarter and 110 basis points from last year. Our consolidated gross profit margin of 16.4% was 60 basis points above the first quarter, principally due to stronger margins in our computer products, European and AsiaPac businesses, as well as a change in mix as sales to our large global customers experienced a low single-digit decline from Q1. Gross profit margins in our core customer base, the small to medium size customers around the world, were flat with the first quarter. Our gross profit margins for our core customers have been flat for several quarters now pointing to relative pricing stability in the marketplace.

Compared with last year, our gross profit margin was 30 basis points lower in part due to AsiaPac and our computer products businesses being a larger part of our mix as well as the margin pressure we saw in the worldwide components businesses in Q3 of last year. Operating expenses as a percentage of sales were 11.8% down 230 basis points from last year. The decrease in operating expenses is a result of our continued focus on operating efficiency, our ability to better size our structure to meet the needs of our business model and our ability to lever our cost structure to meet growing sales volumes. Operating income as a percentage of sales was up 60 basis points over Q1 which itself was up 70 basis points over Q4 and year-on-year we were up 200 basis points. Operating income dollars were up 19% over the March quarter, a 2.8% sales increase and up an impressive 129% over last year on a sales increase of 30%. As we've been saying for sometime now we have the ability to lever our cost structure to drive significant increases in operating income with relatively small sales increases.

And our earnings growth has outpaced our sales growth for the last six quarters. We continue to believe that we have considerable operating leverage that will enable us to capitalize on future increases in sales activities. Our working capital per sales dollar in Q2 was 20 cents. This is the third consecutive quarter that we have been at 20 cents or less. Historically 25 cents was considered best in class. Our return on working capital for the quarter was 23.8%, the highest level since 2000. We chose to selectively make some investments in inventory, not because of any real or perceived shortages, but to support new sales initiatives. We continue to believe that our inventory levels are aligned with our current business realities. And we expect to be cash positive for the remainder of the year.

Unrelenting focus on operation and organizational efficiencies, continued improvement in working capital management, our ability to lever our cost structure enabled us to deliver our seventh consecutive quarterly increase in net income and earnings per share. Net income, which is at its highest level since the first quarter of 2001, was $69 million compared with $50 million last quarter and up more than four-fold from last year's $16.8 million. Earnings per share were 60 cents and 57 cents on a basic and diluted basis respectively compared to 47 cents and 44 cents on a basic and diluted basis in Q1 and 17 cents in Q2 of last year. Net interest expense was 24.5 million, down from 30.7 in the first quarter and $31.9 million in Q2 of last year as we continue to take advantage of our strong liquidity to drive down debt. During Q2 we prepaid $141.7 million in debt bringing the total for the first six months to $505 million. Our effective tax rate for the quarter was 32.5% down from Q1's 34% as we continue to drive for greater efficiency in our tax structure.

Depreciation and amortization for the quarter were $16.8 million and non-cash interest expense related to the zero coupon convertible debentures was $4.2 million. Lastly number of actual shares outstanding was 113.015 million. As I mentioned earlier for comparability purposes and more importantly to give you a better sense of our operating results I exclude some one-off items from my remarks. The differences between our reported GAAP basis numbers, the numbers I have been discussing, are due to the following items. As I mentioned during the second quarter of this year the company repurchased an additional $141.7 million accreted value of its zero coupon convertible debentures due in 2021 which could have been initially put to us in February of 2006. The related loss on the repurchase including the premium paid and write-off of related deferred financing cost is approximately $7.1 million. That's $4.2 million net of taxes or 4 cents and 3 cents per share on a basic and diluted basis respectively. During the second quarter of this year the company resorted(ph) a net restructuring gain of $1.2 million. That's $1.9 million net of taxes or 2 cents and 1 cent per share on a basis and diluted basis respectively.

Included in this amount is a $2.9 million gain on the sale of the Brookhaven, New York, Logistics Center offset in part primarily by personnel cost from previously announced restructurings. During the second quarter of 2003 the company repurchased $14.6 million of its 8.2% senior notes that were due in the fourth quarter of 2003. The premium paid along with the write-off of related deferred issuance costs, resulted in a pretax charge of $400,000 and that's $200,000 that are taxes. During the second quarter of 2003, the company also recorded restructuring charges of $14.6 million, that's $9.7 million net of related taxes or 10 cents per share. The operating information we provide to you should be used as a compliment to the GAAP numbers and our earnings release includes a full earnings reconciliation. Now I'll ask Brian McNally to discuss our North American Components business.

Thanks, Paul. Sales in our North American Components group were up for the sixth consecutive quarter reaching 998 million up 1.7% compared to our first quarter, 3% on a daily run rate basis, and up 28% over last year. Operating income was up for the sixth consecutive quarter, up 16% over Q1 and up nearly three-fold over the second quarter of last year, reaching its highest level since Q1 of 2001. As Bill pointed out, our growth in operating income once again outpaced our growth in sales and our inventory levels remain stable. The sales increase was driven by the strength of our very broad customer base. Sales in our core businesses, those that service the small to medium-sized OEMs and CMs, were up 3%. This was partially offset by a 3% decline in sales to the large CM's and customers they service. We attribute this sales decline to what several of the large CM's and their customers have already said publicly.

They've purchased a bit too much inventory in Q1. Book to bill ratios were flat overall with bookings slowing in the month of June and this could be in preparation for the seasonally slower summer months. The greatest growth in backlog that is scheduled for delivery more than 90 days out would suggest that our customers may have more visibility into their own end market beyond the summer months. Moving on to lead times, unit and ASP traffic. We'll start with semiconductors. Our Q2 experience was similar to the first quarter with blended ASPs flat with the first quarter. So they remain stable but not increasing. When we do see average prices increasing in a product category it's usually because of product mix.

For example, analog ASPs were up overall in the mid single digits because with analog product our sales grew faster in the higher priced application specific products than they did in commodities. Lead times are still in the 8 to 12 week range with no significant shortages to report. Passive(ph) prices were flat with the first quarter and lead times are stable in most commodities. Electromechanical product ASPs were up in the high single digits and lead time across a widespread of technologies have remained stable. Connector ASPs were up in the low single digits from the March quarter as many suppliers increased prices of cost of some raw materials rose. Lead times are still longer for high-speed connectors but remain stable overall at 8 to 12 weeks with no major shortages to report.

Thanks Brian. We'll now move on to Germano Fanelli who will comment on our European business. Germano is in an airport in Europe as he has been out visiting customers and suppliers and we hope he got a lot of big orders today.

Yeah, thank you, Bill. As Bill mentioned earlier and as you all know, the economic environment in Europe remains sluggish and the weak U.S. dollar is continuing to have negative effect on the manufacturing of product usually exported. Sales in Europe off 825 million were down 5% sequentially which is less than the typical decline seen in the second quarter, but up 22 from last year in reported dollars. In cost of dollars, our sales were down only 1% sequentially and we're up 15% year-on-year. Excluding foreign exchange and the impact on sales of our (inaudible) computer product business, sales were up 35% over last year. Our European components business was up 21% sequentially excluding the impact of foreign exchange. Our operating income as a percentage of sales continues to be well ahead of our European competitors, despite the tough macroeconomic environment and the beginning of a seasonal slowdown in Europe we increased the operating income as a percentage of sales by 120 basis points sequentially on a 5% decline in sales. This is true validation of the leverage inherent in our business model. As in each of the past several quarters we're seeing the same trends in pricing and availability as in North America.

Thanks, Germano. Harriet Green will now discuss our AsiaPacific business. Thanks, Bill.

Second quarter sales were $290 million up 9% sequentially and 46% over last year. The growth we experienced in the second quarter was led as in the first quarter by robust demand for digital consumer products, primarily flat panel monitors and TV's, MP3 products and digital cameras. The telecom sector also showed some strength, particularly in bay station and infrastructure products. Our year-on-year growth was broad-based across the region, with Asean leading. North Asia countries have also recorded great year-on-year sales growth with Korea and Taiwan recording increases in excess of 60%. Additionally, our customer focused initiatives in China, India, and the Australia-New Zealand region are showing great progress. The Chinese government's tighter monetary stance while originally intended to target specific sectors, such as construction, infrastructure, et cetera did have a slight ripple effect on some of our small and medium-size customers towards the end of the quarter.

However, these issues seemed to abate and we continue to monitor this situation as well as the power and water allocations in southern China vigilantly. The situation regarding pricing and availability is again different in the AsiaPac region than it is in North America and Europe. Semiconductor ASPs increased by 15% for the second consecutive quarter, led by analog and volatile memory. We remain on allocation for a number of products core to the mobility and consumer sectors, sought 23 Discreets, slash and various SRAM. We continue to remain profitable despite continued investments. And as Bill mentioned, it is notable that our operating income in the first half of 2004 exceeded our operating income for all of 2003.

Thanks, Harriet. And now let's turn it over to Mike Long to discuss computer products.

Thanks, Bill. Sales in North American Computer Products were $626 million, up 10% sequentially and up 25% from last year on an adjusted basis. Our operating income was up 58% sequentially and 54% over last year. And this is our 12th consecutive quarter of year-over-year earnings growth. In addition, for the first time in our history, Q2 sales and operating income was higher than any Q4 which, as you know, is traditionally our strongest quarter. Our record performance was a result of our strong execution across our broad customer and product bases. Sales in our enterprise computing group were up 19% sequentially from the March quarter and 41% from last year. Our Sun business was up 35% sequentially and 43% year-on-year.

Distribution in general and Arrow in particular, have proven to be an effective method of going to market for Sun. So not only is more of Sun's product going through distribution, but we are also outgrowing the market. Our IBM business was down 18% sequentially and 15% year-on-year. The vast majority of the sequential decline stems from the I-series product announcement and our performance in the I-series for the quarter was consistent with the channel. Our HP business was up 42% sequentially and 21% year-over-year. Storage sales increased by 16% from the March and 56% from last year. And we maintained the number one position with EMC, Hitachi, and Network Appliances. Service sales increased 36% from first quarter and 54% from last year. Software sales were down 34% from the first quarter but up 24% from last year.

The decline was mainly due to a large number of IBM extended license agreement deals carried over from Q4 to Q1. Remember that we said these three areas, storage, software, and services, were going to be areas of focus for us going forward, so we're pleased with their excellent second quarter performance. Sales in our OEM computer group were up 2% sequentially and 20% from last year. The OEM customers continue to be interested in global logistics capabilities, demanding end-to-end supply chain model solution, in which we provide a total Arrow Solution, managing the entire supply chain from design through system integration and delivery to the OEM customer. In conclusion, we had a very strong quarter, setting record sales and profit and posting our 12th consecutive quarterly year-over-year increase in sales and operating income. We continue to outgrow the market in this very important business, expand our product offering, and grow operating income at a faster pace than our sales growth.

Thanks, Mike, and thanks to all of the members of the team. As you've heard our second quarter was another exceptional quarter with strong operating performance and outstanding execution of our strategy. I'd like to recap some of the highlights and discuss what we see going forward. The components business in North America improved in Q2 posting its sixth consecutive quarter of increasing sales and operating income. Once again operating income increased at a faster pace than sales. In Europe operating income dollars and operating income as a percentage of sales showed healthy improvement both sequentially and year on year. Asia continues to show strong growth and underlying demand appears to be strong. And as in Europe and North America operating income advanced well ahead of the increase in revenues. Computer products business is performing exceptionally well with new records for sales and operating income.

As a result of our strong profitability and improved working capital management our consolidated return on working capital is at its highest level since 2000. I'd like to talk a little bit about our strategy, because we are committed to four pillars in our strategy. The first is to grow sales organically at a faster rate than the overall growth in the markets we serve. The second is a relentless commitment to operational excellence and continuous process improvement. The third is greater financial stability to ensure we drive enhanced shareholder value. And finally, it is our commitment to our philosophy of shared leadership which ensures that our high performance teams around the world share the same values and vision and are working collectively and collaboratively towards our success. As we look to the third quarter, we believe we're entering a traditional seasonal summer period. In North American components business sales should show a slight improvement over Q2. In Europe sales will decline because of the extended summer holidays.

And in AsiaPac there will be a slow sequential growth given the summer holidays. In our computer products business we also expect to see the traditional third quarter slowdown. With that said, we believe that sales in the third quarter will be between $2.6 and $2.7 billion, an increase of 24 to 29% over last year's third quarter. We will again drive a year-over-year increase in earnings that will be at a higher rate than the year-over-year increase in sales. We expect earnings per share excluding charges on a diluted basis in the range of 45 to 49 cents, an increase of 200% over last year. As always we remain committed to driving and expanding the breadth and depth of our relationships with our suppliers and customers while focusing on operational excellence in order to deliver premium investment returns to our shareholders.

Thanks, Bill. Ashleigh, we'll open it up to questions now.

Thank you. The floor is now open for questions. If you have a question please press star then 1 on your touchtone phone at this time. If at any point your question has been answered you may remove yourself from the queue by pressing the pound key we do ask that while you pose your question that you pick up your handset to provide optimum sound quality. Once again to ask a question please press star then 1 on your touchtone phone at this time. Our first question is coming from Scott Craig of Morgan Stanley. Please go ahead.

Good afternoon. A question for Mike in the computer business in North America. Mike, you spoke last quarter about some HP/Q issues in the channel. Can you give us an update on that? And then secondly, with regards to IBM, you know, is it possible that we see a little bit better than normal seasonality in the third quarter if the IBM products come back after they go through the new product launch or what's your expectations on timing there? Thanks.

Okay. First with HP/Q, as you know they did have a model change. The model change, albeit one quarter in, we did have sales growth as we indicated just before. There were some minor hiccups in the SAP conversion that Hewlett Packard had. The management team there appears to remain committed to working with the channel to improve their channel segment, market share, if you will. I think we have a couple more quarters to see how it plays out, but right now cautiously optimistic with their program. IBM, we saw a second quarter decline primarily due to the I-series product announcement, as you know. The P-series product announcement is coming out for Q3, so we are expecting traditional sale for IBM going into Q3 at this point.

Okay. Thanks.

Thank you. Our next question is coming from Steven Sachs of Merrill Lynch. Please go ahead.

Hi, good afternoon. First the big picture question, Bill. Can you -- you sort of alluded to some comments but why -- can you sort of summarize why you think it's a summer slowdown and what information you have to support that this is going to come back like it normally does in the fall?

Steve, as we've talked in some -- some of our previous calls, we monitor a wide variety of metrics which include book to bills, which include turns business, which includes cancellations, double bookings, et cetera. All of those appear to us to be running in the normal range and so there's nothing that would tell that we don't have a rational steady recovery. What we're seeing feels nothing like the boom and bust year of the 2000 cycle, it feels like a rational steady recovery. We see firm demand in the end markets. We see no bubbles on the horizons, the macroeconomic conditions in the world, by and large, are pretty good in most of the economies of the world. Even though the people are talking about the cooling down of the Chinese economy, they posted 9.6% growth in their economy which is pretty cool indeed. So as we look across the broad spectrum of our customers, at the broad spectrum of -- of geographies and markets that we serve we see we're running in a normal range and this seems like a rational, pretty well managed recovery that's on its way that's in a normal part of the cycle in all parts of the world.

Okay, great. And then just two quick questions. Did your book to bill stay above one in the June quarter? Where was that, if you have any details on that. And secondly, just an update on the Disway acquisition, is it still going to close this month.

First of all did the book to bill stay above one, the answer is yes. And so we're -- that's good news for us. In terms of the Disway acquisition we're expecting -- expecting to close next week.

Is that in your forecast that you just provided?

Yes, Steve, you know, it's a business that's not going to have a dramatic impact initially. As you've heard us talk about we're going to run it on as a separate business through the end of this year before we put them into our system, or on to our system, and that's really where we get the synergies to have a big financial impact, or a bigger financial impact. So it won't have too much of an impact this quarter because it will be part of the quarter plus don't forget it's got an Italian part of the business which will be shut down for August, so it's a real small impact for this quarter.

Got it. Thanks a lot.

Thank you. Our next question is coming from Matt Sheerin of Thomas Weisel Partners. Please go ahead.

Yes, thank you. Just like to get back to the comments regarding seeing a bit of a slowdown from your large customers and their, I guess, having too much inventory and working it down. Are there signs that they've worked through that? And are the order patterns that you're seeing them in line with the order patterns you're seeing from other customers?

Yes. This is Brian McNally from North America. We've had some indication from them both verbally that they expect Q3 to come back and through the order patterns that we see. Nothing -- nothing outstanding -- out of the ordinary from their normal ordering pattern.

Okay. So you think the month of June was the month that everything sort of corrected itself?

Yeah, actually, June was a leveling month, stronger bookings earlier in the quarter with a little bit softening in June leading to flat bookings for the quarter.

And given the strength in your gross margin in the quarter due to the mix of customers would you expect gross margin to come down within the components business due to that mix of customers?

Hey, Matt, it's Paul. You know, when we're talking about our gross profit margins we're talking about for around the world so for sure the mix impacts our overall GPP whether it's best of growth in a region like Asia Pac which has lower gross profit. It will also have an impact, but don't forget we'll have fewer sales in Europe which traditionally has a very strong gross profit percent. Unless, of course, if we do see a disproportionate increase in our large, alliance type account , as we call them here, which traditionally do have a lower gross profit, we would see bit of a decline. The thing I point to is this is our third straight quarter of flat GPP with our core customer base around the world pointing to a real strong indication of pricing stability.

Okay. Great. Thank you. And just a quick question regarding the tax rate. Should we expect it to the remain flat with this quarter?

Yeah, what I would expect right now is that, for modeling purposes, 32.5% is a good number to use where, if we have a few initiatives underway right now to move that downward, not quite sure we're going to get those completed for this year but we're investigating them hard to be able to drive that down. As you know at 32.5% we are -- we have shown good progress but we need to continue to make more.

Okay. And then just lastly, on the inventory which was up modestly in the quarter, would you expect to continue to build or are you satisfied with the current levels?

Matt, this is Bill. What we try to do is we try to match the inventory builds or declines to the business we see. And of course, we're looking out and trying to make sure that we've got the right stuff at the right place at the right time. We look across all of our businesses because the needs in each one of our-- of our regions are quite different. So we are investing in Asia. Europe has moved up a bit. We held our inventories in North America flat. We will continue to evaluate what inventory we need and make sure that it is -- it is aligned with the business realities and we'll adjust -- we'll adjust accordingly. As Paul said, though, we do expect to be cash positive for the balance of the year.

Okay, thank you.

Thank you. Our next question is coming from Brian Alexander of Raymond James. Please go ahead.

Yeah, just a question on SG&A for the company. Looks like if -- if the variable ratio is about 4%, Paul, that would get you about 3 million up sequentially in the June quarter. I think your SG&A was up closer to 8 or 9 million. Were there any items in there that will roll off next quarter? Could you just walk us through the SG&A increase in June?

Yeah, Brian, that's a good question. We have talked about variable expenses being about 4% depending on the region or the business, but we've also talked about is our strategic initiative in AsiaPac requiring us to invest in that area. So, when we look at our expense structure and the way it changes and goes up and down we also have to be mindful of that as well as, maybe, some other investments we're making as we support new sales initiatives.

Okay, fair enough. And on the gross margins in the core components business if what we're seeing is just traditional seasonality and we've seen several quarters in a row as you've mentioned of flat sequential gross margin at what point, if this is just a normal cycle, would you expect that to pick up in the core -- in the core components business?

Well, that's an interest question, because as you know, over time, GPP goes up or goes down depending upon product availability so it's really a bit out of our control in that it's dependent upon our suppliers and if they add capacity or not. We're watching that as closely as possible. You know what it's like in a sales environment, that each and every day you're trying to create value for your customers and be rewarded accordingly.

Okay. And then the last question back to gross margin is I think you saw some nice improvement in the computer business which also translated into very healthy operating margins. How sustainable was the gross margin increase that you saw? Could you give us a little bit more color about what drove that? Was it just shift in mix with software down and how should we be thinking about the margins in that business going forward?

You're absolutely right, Brian, the change in mix in the computer production business just like the change in mix in components world does impact the gross profits, so if we're going to move into our traditional Q3 period of time with a bit of a dip in the sales I would think that you'd see some softness in the gross profit for the quarter but over time we're working hard to create value for our customers. And as the mix changes we'll be able to -- to be able to get maybe more or maybe less depending on the mix.

And the I guess just one last clarification. I'm not sure if I heard Germano correctly when he talked about the change in revenue in Europe and the core components business. Did he say up 21% sequentially?

I think it was year-over-year.

Do you have that number sequentially?

Sequentially, I -- I do have it. I just have a stack of paper in front of me, but I do -- give me a moment, I'll look for it.

Yeah, it was 21% sequentially.

Yeah, I think that was -- it's 21% actually year-over-year and sequentially it was flat, in the components business.

Thank you.

Thank you. Our next question is coming from Mark Edelstone of Morgan Stanley. Please go ahead.

Yes, good morning. Assuming that your view that this is just a normal seasonal downtick ends up being correct, when would you expect to see the recovery in business take place and what would be some of the signs that you're looking for? Would that just simply be order intensity picking up at customers or can you kind of just walk us through the types of signals you'll be looking for?

Well, let's again look by region because it's different. In Asia Pacific, again, we expect things to slow down a bit during the summer but we always look for momentum and growth in the -- in that marketplace. It doesn't have a particularly strong summer slowdown. In Europe there is a strong summer slowdown and we're clearly in it and it will accelerate. So, in Europe you get to know in September, really, what -- as the business comes back, so it's mid-September. So we always sit around and bite our fingers until mid-September when we know. In our North America business we would expect normal seasonality. We watch it very carefully. September is typically a pretty strong month for us so we'll watch that one very carefully. Mike's computer products business also has the real seasonality that goes along with it. We'll be looking in August and September to get a better flavor for that. But again we watch very carefully the metrics, what the book to bill ratios are, what the inventory builds seem to be, what the turns business looks like. They change from region to region. And we're always comparing them to sequentially, we're also comparing them year-over-year, we're comparing them to sort of historical cycles to try and get a flavor for what the business is. But normally when we go into the third quarter, it will take us awhile to have good indications of what the quarter is going to -- is going to be like and we will certainly report fully at our next -- at our next call and we'll have a much better sense for how well the year's going to turn out and what it looks like beyond that.

Thank you very much.

Thank you. Our next question is coming from Tom Dinges of JP Morgan. Please go ahead.

Good afternoon, guys. Couple of quick ones for you. I was hoping that you could clear up a little bit of confusion that I have here on -- in the north -- in the commentary on North American components ASPs overall in the semi business were highlighted as basically around flat with some up side in analog and probably some downside in some other areas. But on the AsiaPacific side you were talking about ASPs, you know, having a fairly robust balance for the quarter. I'm wondering if that was just more related to mix and if you could on the AsiaPacific side maybe talk about some of the products that are finally starting to transition over there, specifically in the semi area, that might be helping you with that ASP there. And then I have a followup.

Sure, this is Jan and Harriet, you can add something if you need to. If I take a look at the difference between the ASP trends in North America and in AsiaPac, where we saw the double-digit growth in ASP increases was again it was in -- it was in analog, as Harriet mentioned, then it was also in some of the Discreet products. There we saw in the 15% range increases in ASPs in those product. And Harriet mentioned that, in fact, the sales growth in AsiaPac was primarily driven by a lot of the digital consumer products. And as we've said there are some specific part shortages, and as Paul said part shortages are what lead to ASP increases, and so whether it was stot 23 devices or some specific high-performance analog and a few memory devices, where parts were very hard to get and, in fact, we were able to get a lot more value by having the inventory in place and we've talked about the investments in Asia in inventory. In this case it was a very good deal to have that inventory to be able to realize those higher margins.

Okay, thank you. And then secondly a little bit of a bigger picture question here. When we see some inventory levels rising at the actual chip manufacturers themselves, some book revenue through distribution on a sell-in basis, some book on a sell-out basis but we have seen some inventory levels rise a little bit here over the last couple of quarters. Your inventory levels were up a little bit higher and yet the commentary on North American Components was that it appears that further out at least bookings and so forth were still holding in steady. Ultimately over the course of different cycles how has -- has that dynamic played out for yourselves and for distributors as a whole when you see rising inventories at the actual chip manufacturers themselves? It seems as if you have inventory in a couple of different places in the channel and just curious how that kind of unfolds over the course of -- does it take a quarter or two before that kind of rectifies itself or how does that unfold? Thank you.

This is Bill. Complex question in a lot of factors going on on there. Again, sort of the basic is we will try to adjust our inventory up and down to reflect the business realities that we see and we'll make the investments as necessary because inventory is our life blood and we believe we've made the investments in inventory. It's hard for to us comment specifically on any of the chip makers. There's some up or there's some down, it's kind of all over the -- the map. Remember we service sort of 30% of the total available market, they're looking at servicing us plus servicing other -- their direct customers so it's hard for us to really comment on that. But as we look across many, many of them we see a real mix of ups and downs across our -- across our total portfolio. And so we don't see anything -- the ones that have been specifically commented upon are very obvious and are certainly obvious to everyone. We -- again, as we look across our total portfolio of suppliers we don't see anything out of the ordinary. Remember, again, we do sell on what we call point of sale. Our suppliers by and large do not get credit for inventories until we -- until we sell it. So we try to keep a very, very tight handle on all of that. Paul, anything else that you might want to add to that?

No. In fact, I know there's been quite a bit written about the thought that there's an inventory build at the supplier level. We've actually been tracking over time this whole series of different semiconductor and passive electro mechanical suppliers, and, in fact, in some instances you see the inventory increase being less than their sales increase, in some you see it's more than but there's not a trend from the information we've been tracking in that particular area.

Okay. Thank you.

Thank you. Our next question is coming from Joni Jensen of McCann(ph) Securities. Please go ahead.

Yes, a couple of questions. First off, what was your CapEx for the quarter?

CapEx was in the range of about $9 million.

Okay. And then what is the current accreted value of your convert on your balance sheet?

It's about $380 million.

Okay. Thank you very much.

Thank you. Our next question is coming from Carter Shupe of Deutsche Bank. Please go ahead.

Yeah, hi. Wanted to touch on the gross margin here, Paul. I was actually really surprised that how high it came in here and the sequential increases quite impressive given the fact that both the computing division and the AsiaPac region contributed to the top-line growth. I was wondering if you can kind of give me or provide a little bit more color in regards to what drove the big sequential increase in gross margins, maybe kind of talk about restructuring in 1 Q, HP's new channel program and maybe price gains in products where you're doing market pricing particularly in Asia where you saw some ASP increases. Kind of which of those three factors, or maybe some other factors, that led to the substantial increase and how sustainable they are.

Yeah, I think I'd -- I would -- I'd start by saying that, you know, we've worked hard to be able to drive our gross profit margin up in each of businesses that you referred to that have traditionally been lower than our components business. So, in North America we're expanding our product offering but don't forget that our computer products business is also built around a value added component. That's really where we create value for our customers in that area. So, and of course, product mix does -- mix does impact that. The same thing is true in AsiaPac. You've heard us talk about our belief that over the long term the value-added component that we can provide to our customers in North America and in Europe will become equally important in the AsiaPac region. It's just getting started but that obviously does contribute. Also don't forget that our -- that we have different sales initiatives in the AsiaPac region targeted for different types of customers that have different needs for different types of services some of which have a higher gross profit. So we're thrilled with the fact that gross profit was up in the computer products business and in AsiaPac. We'll work hard to keep it but we do expect to see a little bit of a decrement in Q3 in the computer products world as some of the product mix changes.

Okay. Is it still safe to assume that AsiaPac and the computing division comes on at about half the gross margin as the Americas and European components division? Is that kind of a good ballpark figure?

Broadly, that's about the right number.

Okay, great. And then also if you look at the past four years, we saw an average 6% sequential decline in 3Q on the computer product division, is that kind of what you guys are talking about in the range for 3Q when you talk about normal seasonal decline? Is that accurate?

It would be in that range. The fact of the matter is that we really had a very strong quarter in computer products in the second quarter so when you set records sometimes it's tough to duplicate that record performance quarter after quarter after quarter. You know, for the last four years we've posted record performance in Q4 and now we've done it two out of the last three quarters. So we'll have to see. Our expectation is that end market demand will be relatively the same as we've seen in the last couple of quarters and generally what the investment community and the analytical community has been calling for in end market spending in computing products.

Okay, great. Two more quick questions. HP new channel program how did that affect your gross and SG&A in the quarter? Was that material or not?

No.

Okay. Great. And then also it seems like there's a disconnect between what we were hearing from some of your suppliers, particularly on the analog side, they were seeing distributors, I'm not sure if you guys or maybe it's some of your competitors, but they're definitely canceling orders as early as May and I'm trying to reconcile that with the fact that you guys saw a slowdown in June in North America. Did you guys see a sales slow down June and maybe an orders slow down in May? How did that play out?

Carter, it's Brian. You know, we saw stronger bookings in the April and May time frame with a little slow down in June. And as you know we manage our inventory very carefully across all of our suppliers and each, you know, each asset manager is chartered with making sure they're comfortable that we have our inventory and pipeline in place to support the customer's future demand. And so it's several moves up and down across all of the commodities but overall, you know, very steady. This up-turn is very steady with no major surprises and pretty stable lead time.

Okay, thanks a lot.

Thank you. Our next question is coming from June Kim of Advent Capital. Please go ahead.

I'm all set. Thank you.

Thank you. Our next question is coming from Wayne Klein of AIG Global. Please go ahead.

Good afternoon. Thanks for taking my call. I'm sorry if I missed the mention of free cash flow. Just wondering whether you did comment on free cash flow and if you didn't if you could tell us what cash from operations was year-to-date. Thanks.

So our cash flow for the quarter was a negative, about $50 million cash flow from operation. That would mean for the first six months of the year we're negative by about $170 million, round numbers. Our CapEx, as I mentioned, is probably year-to-date about $15 million. So that if you look at free cash flow it would be, you know, round numbers, a negative 185. Though we are committed to managing the balance sheet and we do believe we'll be cash positive for the rest of this year.

Right. So when you say cash positive for the rest of the year, that doesn't mean that you'll be cash positive for the entire year, does it?

Our goal is to be cash positive for the rest of the year. We're driving hard for that. We're not quite sure we're going to get there or not. If we do get there it's going to be in the range of maybe zero to 50 to $100 million cash positive.

Great. Thanks very much.

Thank you. Our next question is coming from Shawn Conner of Aragon global. Please go ahead.

Yes, I was wondering if you could you tell me if we are hitting more of a normal seasonality, could you just comment on what normal seasonality for Q4 would be?

We really haven't looked that far out to see what the fourth quarter is looking like. As we say we're looking at the third quarter very hard right now. Overall, as we've said, we continue to see this as a very rational, normal recovery. We're in the cycles, we don't see, it's pretty stable through most of the things that we look at, the end markets are stable, et cetera. And so we would -- we've given you sort of the indications of the third quarter and as we come back in end of August and September we'll have a much better view about what the fourth quarter is going to look like.

Okay. And then one quick question on this quarter, then. Kind of like, if you break it down what would September be as a percentage of total sales for the quarter? Like if you had to break -- how much Q3 sales are coming just in the month of September since you said it's Europe and Asia are both very back-end loaded?

Traditionally that's anywhere between 35 and 40% of the quarter.

Okay, thank you.

Thank you. Our next question is coming from Stephen Savas of Goldman Sachs. Please go ahead.

I guess I just wanted to followup just a little bit on the inventory level and I guess ,Bill or Paul, you had indicated, you know, so it 8% inventory growth sequentially, most of it or some portion of it is, you know, select investments that you've chosen to make in different regions but how much of that? Is it half of that 8% increase? Is it more than the 8% increase so inventories were down if you weren't making that decision. If you can give us a flavor that that would be helpful.

Virtually all of it were strategic decisions based on specific sales initiatives that we have going in our various parts of the world.

Okay, so otherwise, presumably then, inventories would have been flat if you weren't making those decisions?

I --.

Roughly.

Plus or minus a few percentage points, as you know inventories are lifeline and so we're always going to try and make sure that we're up and down, it depends on the mix, it depends on where the initiatives are, but we clearly made a decision that we were going to put a little bit of additional inventory for very specific sales initiatives in Asia and other parts of the world.

Okay and I assume then you wouldn't comment on kind of what product areas you were making those initiatives.

No, we wouldn't.

It's worth a shot. Thank you very much.

Steve, just as a point of reference, if you look at our inventory turns for quarter they are about 6.2 compared to about 5.1 in the second quarter of last year so we've shown, even with the inventory bouncing up sequentially the way you're looking at it, we still have over 20% improvement in our inventory turns year-on-year.

Sure. Now that makes sense. You know, everybody's edgy so we're looking for every little bit.

Understood.

Thank you very much .

Thank you. Our next question is coming from Patrick Parr of UBS. Please go ahead.

Good afternoon, guys. Maybe I missed this but you talked about the slowdown beginning in June. Would you say that year -- or month to date that July is trending below where June was? In other words, has that slowdown continued or was June -- or was July trending a little bit better than June was?

Again, Pat, let me make sure that we're clear. What we saw was only in our North America Components business that we saw a little bit of -- of softness in the latter part of June. We don't think it's anything abnormal. It could be accounted for by -- by normal seasonality that we would see. The rest of our businesses, in Asia, in Europe, in North America Computer Products, were absolutely within -- within normal range, and that's what leads us to the conclusion that across the broad sweep of our businesses, that, in fact, we're seeing normal recovery, normal times, and we're in -- in a very normal, rational, steady up part of the cycle even though we're in different parts of the cycle in Asia, North America, and in Europe.

Okay. Bill, I know in the distribution business the number of selling days can impact the quarter significantly. Could you give us a sense of how many selling days there were in the June quarter and how many there will be in the September quarter? And if that's a factor.

You know, Patrick, I wish there was a simple way of calculating it because every country has different religious and national holidays, so as an example, we had one fewer shipping day in Q2 in North America, and we'll have two fewer shipping days in the third quarter with the 4th of July holiday and with Labor Day. But each of the countries in Europe have very different holiday periods. So in certain places we lost four or five days in the second quarter. Now there's not quite as many religious or national holidays during the third quarter in Europe but as Germano can tell you there are extended holiday periods in different parts of Europe and, in fact, it's pretty unusual, I think, that anybody takes a single week off in Europe. They try to put two weeks back to back at least, so what we see is that it's hard to really count ship days around the world at this time.

Okay. Then a question I guess for Harriet regarding China, the comment about the credit situation and the power situation over there. Was that, you know, did that materially impact results or sales performance in the quarter and do you expect it to be a factor in the third quarter or just something worth monitoring?

I think we think it's something worth monitoring. Initially the credit restrictions were very much directed at the heavy industrial sectors. We did see a slight impact on some of our customers, predominantly in the sort of mobile phone arena but these few instances did seem to remedy themselves toward the end of June. So we're, as we said in our formal remarks, we're watching it very, very closely, and I think a good mix of customer knowledge and risk management just trying to give us all the information that we need.

Okay, great. Thank you very much.

At this time there are no further questions in the queue. I'd like to turn the floor back over to the presenters for any closing remarks.

Thanks, Ashley. Well, that's about it. And we'd like to thank you all for taking the time to participate in our call. If you have any questions please feel free to contact Paul or me.

Thank you. That does conclude today's teleconference. You may disconnect your lines at this time and have a wonderful day.