艾睿電子 (ARW) 2006 Q1 法說會逐字稿

Good morning. My name is Crystal, and I will be your conference operator today. At this time, I would like to welcome everyone to the Arrow Electronics Q1 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question-and-answer session.

[Operator Instructions].

Thank you. Mr. Birns, you may begin your conference.

Thank you, Crystal. Good morning, everyone, and welcome to the Arrow Electronics Q1 conference call. I am Ira Birns, Arrow's Vice President and Treasurer, and I will be serving as the moderator on this morning's call. Today's call is also available via webcast. To access this webcast or any future webcasts, please visit our Investor Relations website at www.arrow.com/investor and click on the webcast icon.

With us on this morning's call are Bill Mitchell, President and Chief Executive Officer; Paul Reilly, Senior Vice President and Chief Financial Officer; Ed Coleman, President, Arrow Enterprise Computing Solutions; Mike Long, President, Arrow North America and Asia Pacific Components; and Jan Salsgiver, Executive Vice President, Arrow EMEASA and Vice President, Supplier Marketing.

By now, you all should have received a copy of our earnings release. If not, you can access our release on the Investor Relations section of our website at www.arrow.com.

Before we get started, I would like to review Arrow's Safe Harbor statement. Some of the comments to be made on this mornings call may include forward-looking statements, including statements addressing future financial results that are subject to a number of risks and uncertainties that could cause actual results or facts to differ materially from such statements for a variety of reasons. Detailed information about these risks is included in Arrow's SEC filings.

We will begin with several minutes of prepared remarks which will then be followed by a question-and-answer period. As a reminder to any members of the press, you are in a listen-only mode on this call, but please feel free to contact us after today's call with any questions you may have. At this time, I would like to introduce our President and CEO, Bill Mitchell.

Thanks, Ira, and thanks to all of you for taking the time to join us this morning. As markets continue to strengthen this quarter, we experienced excellent growth across all of our components businesses. In North America, the firming that we first saw in the third quarter of last year continued through the first quarter, and we've reached a level of sales not seen since the first quarter of 2001 while growing operating income by more than 30% year-over-year.

The markets in Europe improved significantly, and when combined with our growth initiatives, led our European components business to the highest level of sales in its history while we achieved impressive year-over-year growth in operating income.

Asia continued to be very positive with record sales for our first quarter and a solid contribution from Ultra Source which we acquired in December. Book-to-bill ratios are above 1.1 worldwide while cancellation rates remain low. Lead times continue at the higher end of normal range, and pricing remained stable.

In our Enterprise Computing business, we continue to demonstrate solid profitability in returns. And DNS, our European acquisition, performed extremely well. Storage and Services remained strong; however, we did see some softness in certain parts of the proprietary server market.

Overall, we had a very strong first quarter, exceeding our expectations for both sales and earnings, while continuing to deliver a strong return on invested capital. Consolidated sales were $3.2 billion, the second-highest quarterly level and the highest level ever for a first quarter in our company history. We posted our 13th consecutive quarter of year-over-year sales growth, with an increase of 17%, or 8% excluding the DNS and Ultra Source acquisitions.

Diluted earnings per share were $0.68 excluding certain charges and including the impact of option expense, reaching record levels, excluding the tech bubble period. We continue to meet our strategic goal of growing operating income at a faster pace than sales, as operating income increased 36% year-over-year. Excluding the DNS and Ultra Source acquisitions, operating income grew more than four times faster than our growth in sales.

Continued execution on efficiency initiatives led operating expenses as a percentage of sales to a six-year low for the first quarter, and our operating margin increased 60 basis points over last year. We generated a return on invested capital in excess of our cost of capital for the ninth consecutive quarter, and our return on invested capital was 11.6%. Excluding options expense, it was 11.8%, nearly 30% ahead of last year's first quarter, and the highest level since 2000.

Before I turn things over to Paul, I would like to take a moment to welcome the newest member of our Arrow team. Peter Kong, recently joined us as our new President of Arrow Asia-Pacific and reports to Mike Long. As a former president of Asia-Pacific Operations for Lear Corporation, Peter developed and implemented the company's Asia-Pacific strategy and successfully led the division to record sales and profitability. Peter brings with him a wealth of experience to take Arrow Asia-Pacific to the next level of performance.

And so in summary, our performance this quarter was outstanding as we continue to take advantage of the opportunities in the marketplaces we serve around the world. We have achieved a consistent record of execution on the fundamentals of our business strategy, growth, operational excellence, financial stability and shared leadership; and we see a clear path to continued improvement on all measures. Paul will now give you a more detailed review of the first quarter, and then Mike, Jan and Ed will discuss their businesses' performance in greater detail.

Thanks Bill. As reflected in our earnings release, there are a number of items that impact the compatibility of our results to those in the trailing quarter and the first quarter of last year. I will be reviewing our results, excluding these items, to give you a better sense of our operating performance. As always, the operating information we provide to you should be used as a complement to our GAAP numbers. For a complete reconciliation between our GAAP and non-GAAP results, please refer to either our earnings release or the earnings reconciliation slide at the end of the webcast presentation.

For analysis purposes, please note that as of the first quarter of this year, our OEM Computing Solutions business, which was previously included in our computer product segment, is now a part of our North American Components business. Prior period segment data has been adjusted to reflect this change. Given these two businesses have overlap in their customer base, we see greater opportunity for selling synergies under the new structure.

Sales for the first quarter were $3.2 billion, an increase of 8% sequentially and 17% year- over-year. Excluding the impact of foreign exchange rates, sales were up 7% sequentially and 20% over last year. Sales in our worldwide components business were $2.6 billion. That's an increase of 13% sequentially and 19% year-over- year, including the impact of Ultra Source. Excluding the Ultra Source acquisition, sales increased 9% sequentially and 13% over last year.

Each of our components businesses around the world achieved strong sequential and year-over-year increases in sales and operating income. Worldwide components operating margins increased 20 basis points sequentially and 90 basis points year-over-year. Excluding the impact of Ultra Source, operating margins increased by 70 basis points over the fourth quarter and 120 basis points over last year's Q1. We are making great progress towards targets set out in our timeless business model, and we still see additional areas for improvement, particularly in Europe and in Asia.

Worldwide computer product sales were $584 million. It's down 11% sequentially in the seasonally weak first quarter and up 8% year-over-year, including the impact of the DNS acquisition. Excluding DNS, the loss of a large reseller customer that we discussed with you last quarter, sales were down 6% year-over-year. While operating income as a percentage of sales increased 120 basis points over last year, if you would exclude the DNS acquisition, we could see a decline of 80 basis points. We remain solidly profitable with industry-leading margins and strong return on working capital.

Our consolidated gross profit margin was 15.3%. The acquisition of DNS and Ultra Source reduced our gross profit margin by 50 basis points in the first quarter. So excluding these acquisitions, gross profit margin was 15.8%, an increase of 70 basis points sequentially and a decrease of 10 basis points year-over-year. This sharp sequential increase was principally driven by a change in our mix, as our components business represented a greater portion of sales this quarter.

Operating expenses as a percentage of sales were 10.5%. That's an increase of 10 basis points over the fourth quarter, but down 130 basis points from last year. Our continued progress with ongoing initiatives led to our 13th consecutive quarter of year-over-year declines in operating expenses as a percentage of sales, reaching the lowest level in six years.

The increase in expense dollars when compared with the first quarter of 2005 is principally due to the impact of our acquisitions. Effectively, we organically grew sales by over $225 million without increasing operating expenses, penetrating our ability to drive for increase productivity. Plus, as we told you on our last call, we continue to selectively invest in our business

As a result of our strategy to continue to drive for operational excellence, further into our businesses, we are also undertaking now additional initiatives that are expected to result in savings of approximately $6 million annually, which we expect to realize beginning in 2007. The one-time costs associated with these additional actions are expected to be approximately $6 million on a pre-tax basis.

Operating income was $150 million, an increase of 9% sequentially and 36% year-over-year. Our operating margin was flat with the fourth quarter and up 60 basis points from last year. And if you exclude the impact of our acquisitions, operating income percent increased by 20 basis points and 80 basis points, respectively, over the fourth quarter and first quarter last year.

Our effective tax rate for the quarter was 33.9%, and for modeling purposes, you should assume that our tax rate for the remainder of 2006 will be approximately 34%. Net income was $84.1 million, up 9% sequentially and 43% from last year. Earnings per share was $0.70 and $0.68 on a basic and diluted basis respectively, and that's including the impact of option expensing. Earnings per share on a diluted basis increased nearly 40% when compared to last year's first quarter.

Our operating performance, which continues to outpace the competition contributed to our ninth consecutive quarter in which our return on invested capital exceeded our cost of capital. First quarter ROIC came in at a strong 11.6%. That's 11.8% if you would exclude the option expense. It's the highest level we have achieved since 2000. Our ratio of working capital sales dollar was 18.2%, our first quarter record low. We used nearly $2 million of operating cash flow this quarter, primarily to drive inventory purchasing, supporting our 13% increase in sales in our components business.

We strategically invested inventory this quarter to drive our sales growth, yet our continued focus on asset management and strong earnings performance allowed us to achieve an increase in our industry-leading return on working capital. Inventory turns increased from 6.3 times in the first quarter last year to nearly 7 times this year in the first quarter. We expect to be cash positive for the full year.

Our balance sheet remains strong with net debt at its lowest first quarter level in eight years, and net debt to cap at 25%. During the first quarter, we repaid approximately $100 million of debt, including all of our remaining outstanding zero coupon convertible debentures. Despite the first quarter debt repayment, our cash balance at the end of the first quarter remained in excess of $380 million.

Now we will discuss the results of each business unit for the first quarter. Mike Long will discuss our components businesses in North America and Asia Pacific.

Thanks, Paul. We had a very impressive quarter in our North American Components business on broad based strengths in both semiconductors and our passive, electromechanical and connector segment. Sales increased a solid 8% over last quarter and even a stronger 14% over last year to reach $1.2 billion, the highest level of sales since the first quarter of 2001.

We also achieved our fourth consecutive quarterly increase in daily run rates. Our ability to generate additional revenue with minimal incremental cost drove a decrease in operating expenses as a percentage of sales of 150 basis points year-over-year, which led to an operating income growth of over 30% and a 120 basis point increase in our operating margin. Through disciplined management of our assets, we increased our return on working capital and our year-over-year inventory turns despite strategically investing in inventory to support our strong sales growth this quarter.

We move on to current trends. Lead times have extended but are still within normal ranges. Bookings increased continually throughout the quarter along with our daily run rates, and book-to-bill ratios are above 1.1. Cancellation rates also continue to be within a normal range. And last quarter, our customer survey indicated that well over half of our customer base felt they had appropriate levels of inventory heading into the first quarter. This quarter, the survey results were even more favorable with the majority of customers surveyed, indicating they were comfortable with their current inventory position.

We move on to Asia-Pac. Our Asia-Pac region achieved record sales of $531 million, an increase of 18% sequentially and 75% over last year. Excluding Ultra Source, sales decreased by 5% sequentially as we experienced typical seasonal weakness from the Chinese New Year, while year-over-year, sales increased by a strong 31%. We experienced year-over-year growth in most regions with China and the ASEAN region performing exceptionally well. Continued focus on our higher margin passive electromechanical and connector products resulted in another strong quarter with a year-over-year sales increase of over 40%.

Ultra Source, acquired in December, delivered a solid quarter, and we fully expect this business to help accelerate our growth in Asia by further improving our position in Taiwan, which continues to be the important gateway to the Greater China market. The market remained relatively stable this quarter with no meaningful shifts in supply and demand.

In summary, we had a very good quarter as we near the end of our heavy investment phase across the region. We remain focused on profitable growth as we move forward towards the goal of being the clear number one in Asia as we are in North America and Europe. Bill?

Thanks, Mike, and thanks for an outstanding performance in both North America and in Asia. Jan, could you give us the overview of Europe?

Sure. In Europe, we also had a very strong quarter with sales of $952 million. This represents the second highest level of quarterly sales in our history. Excluding the impact of foreign exchange, our total sales increased 14% sequentially and 13% year-over-year. Our Components business reached its highest level of quarterly sales ever as sales to our core customer base increased an even higher at 25% over the first quarter and 20% over last year in local currencies.

Despite ongoing competitive pressures, our gross profit margin increased 80 basis points sequentially and 20 basis points year-over-year. The strength in our margins resulted from a higher mix of core components, ongoing strengths in our broad, small, medium sized customer base, and a disciplined focus on margins throughout the business. Overall, similar to America and Asia, lead times are stretching somewhat and prices remain stable. Our book-to-bill ratios were very strong across all regions throughout the quarter.

Operating performance in the first quarter was impressive as we continue to push forward with our initiatives around growth and operating efficiencies. Operating income grew 48% sequentially and 39% year-over-year, while our operating margin increased 120 basis points over last quarter and 140 basis points over last year. From a working capital perspective, while we made a conscious decision to invest in inventory to drive our sales growth, we were still able to deliver an increase in turns and return on working capital.

In summary, we had a great quarter, and we continue to focus on driving profitable growth by broadening our customer base and investing in new markets and customer segments.

Thanks, Jan, and congratulations to Germano, Jan and the entire European team for really impressive results. Ed Coleman, could you comment on Enterprise Computing Solutions?

Sure can. Thank you, Bill. Enterprise Computing Solutions again delivered solid profitability with strong results in both return on working capital and operating income margins. ECS posted sales of $511 million, a decrease of 11% sequentially and an increase of 11% year-over-year, including the impact of DNS.

As noted last quarter, we lost a large reseller customer at the end of 2005 as a result of M&A activity in the channel. Excluding this loss and the impact of DNS, sales decreased 5% year-over-year. Looking at some key areas of the business, we saw continued strength in storage and services, while we experienced domestic weakness in some proprietary servers and software.

Newly acquired DNS performed very well this quarter, exceeding our expectations for growth due in part to the strength of its security solutions business. We continue to be focused on providing a strong value proposition to our reseller partners by offering training, financial services, and technical support on recruiting new resellers and on expanding our relationships with existing OEM and reseller partners.

Thanks, Ed. In summing up, overall, we had an excellent quarter. We've created a sustainable and profitable business model. We continue to execute well. We continue to consistently deliver results ahead of the overall market.

Component business experienced an excellent quarter with each of regions achieving significant year-over-year increase in sales, profitability and return on working capital. Our enterprise computing solution business continues to generate best in class results and profitability in return on working capital. Operating income increased 36% year-over-year, demonstrating that continued execution on our key strategies is consistently generating results. We generated a return on invested capital of nearly 30% ahead of last year's first quarter and the highest level since 2000.

The strategic acquisitions that we made in the fourth quarter, DNS and Ultra Source, are both performing well and have given us tremendous opportunities to accelerate growth through product and market expansion.

As we look into the second quarter, the component market remains rational with meaningful signs of improvement, especially in North America and Europe. Based upon the information known to us today, we expect normal seasonality in the second quarter and believe that sales in the upcoming quarter will be between $3.35 billion and $3.45 billion. We anticipate continued stability in our component businesses around the world, and that will result in worldwide component sales between $2.6 billion and $2.65 billion.

In our Enterprise Computing Solutions business, we expect traditional seasonal growth in the second quarter resulting in worldwide computer products sales between $750 million and $800 million. We anticipate earnings per share on a diluted basis, including $0.02 relating to the expensive stock options and excluding any charges, to be in the range of $0.70 to $0.74 a share. And excluding the impact of expensive stock options, earnings per share in the second quarter are expected to increase 33% to 40% from last year's second quarter.

And so, in summary, we continue to drive toward achieving our timeless business model targets and expect our progress to continue as we will see many more opportunities to improve across all of our metrics. We manage the company for steady and consistent growth, and we continue to execute on the goals we set out to achieve, and those are to pursue major long-term growth initiatives in every market and geography that we serve, to continue growing sales faster than the market, to embed continuous process improvement in our culture, and we are making great progress there, which will allow us to achieve even greater levels of efficiency and further enhance our profitability.

Our financial performance has improved significantly with working capital for sales, solid return on invested capital at record levels, and we see a clear path to achieving the targets laid out in our timeless business model.

And finally, and most importantly, we continue to operate with a shared leadership to ensure everyone in our organization is fully engaged in driving our company's performance. Our success is truly a testament to our employees. We have come a long way, and I'd like to thank each and every one of them for an outstanding job. They have shown they are up to the challenges we have faced, and I look forward to continued successes to come.

Thank you, Bill. And, Crystal, let's open up the call to questions at this time.

[Operator Instructions].

Your first question comes from Michael Walker with Credit Suisse.

Thanks. Good morning. A question, first it's a housekeeping question on the computer product side. Just clarify that most of the DNS acquisition contributes in the June quarter?

DNS acquisition closed at the end of December 2005. So it's fully reflected in Q1.

Okay. So I am a little confused, I guess, on the guidance for the computer side in June, you did 584 in March, and you're guiding 750 to 800 in June. Is there a further re-categorization there or is there something I'm missing here?

No, Michael what we are seeing at full quarter results, while our computer business is going forward in Q1, with DNS being a part of the full quarter, and that's what our expected growth rate is Q1 to Q2. There is some, obviously, seasonal impact because Q2 is a stronger quarter than Q1.

Okay. So just to take that a step further, you were saying that the Unix are the proprietary business where world is weaker or softer, although it's weaker, but it still looks like you are guiding to decent seasonality in Q2 on the computer side. So what's kicking in? Is the Intel [center] business particularly strong right now?

I think we'll see seasonality cross all lines of business within computer product improve in Q2 as we historically do.

Okay, and then my last question just on the semi side of the business. Just talk about, obviously, you have been in the couple of quarter of recovery. You're seeing lead time start to stretch out. Prices, I guess, you said were relatively stable. What's kind of your overall microcyclical view right now? Do you feel like we are kind at the midpoint of the cycle? Do you have any reason to believe that the expansion kind of continues for several quarters? Do you foresee a downturn at any point?

What we continue to see is strength in our marketplace. Asia is very strong, North America strengthened starting of the third quarter of last, and Europe turned up strongly this quarter. As we said, our book-to-bill ratio has remained strong. We see this as a very rational and stable market, as it has been for some period of time. And given the look-forward that we have, which is about 90 days, we see that continued strength.

Where we are in the cycle is very hard for us to say, and this market now has been basically doing well for quite some period of time, and we certainly don't see any signs that would tell us that there is a downturn coming. Having said that, we have relatively limited visibility, it's about 90 days, but so far so good. The markets appear strong.

Okay. Thanks.

Your next question comes from Bernie Mahon from Morgan Stanley.

Question for you on inventory. It seems like lead times are kind of stable and pricing's pretty stable, and you are expecting, kind of, normal seasonality in the components business. You built up some inventory this quarter. Are you kind of happy with these days levels, or do you think you'll going to have to may be build up some more inventory in there for an increase, the days of inventory on hand?

Hi, Bernie, it's a Paul. You are right, in fact, we are very happy with our performance year-over-year where we've driven anything from 6.3 times to 7 times. So we're very happy with the performance and the way we managed inventory. We are also investing for what we think will be relatively good market, as Bill just mentioned. We see continued growth in the marketplace.

So we don't see any pressing need to drive inventory up on a broad micro basis. And in fact, we'll continue to manage the inventory not on a global basis, but on a regional basis, so matching up needs of our customers, whether it's in Europe, North America or Asia, with our inventory levels. So no real pressure to drive it up. We made some strategic investments, and we are happy where we are right now.

Okay. The strategic investments that you made, can you kind of clarify maybe what region or what products those were in?

What I can tell you, Bernie, is that it's across the board, it's not in one particular region. Each region invested in inventory, but each region was able to also drive their inventory turns up. So from that point of view, we think it is a broad-based strong market that we're selling into. As far as products, we don't normally disclose that type of information. At this point in time, we're not about to.

Okay. That's good. And then just kind of a follow-up to previous question on the computer side of the business, with the weakness in the first quarter, was that due to kind of a product transition at a large vendor? And now you're just going to -- those orders were maybe booked in the March quarter and now they are just going to be fulfilled and billed in the June quarter?

I think we saw some slippage from Q1 to Q2, but I guess more an impact due to the fact that it's a mature market that we are working very hard to participate in fully. But I would put it more to the maturity of the proprietary sever market than I would to new product announcements or delivery delays. But we are going to work hard to maximize our participation in that market as well as invest in some of the higher growth areas in the marketplace.

Okay. Thanks.

Your next question comes from Matt Sheerin.

Yes, thanks. I hate to beat a dead horse, but just a question again on the computer guidance. It looks like it's going to be up 30% sequentially in the last -- if you look at the last two or three years, it's been up in the single-mid to high single-digits. So, I'm trying to figure that out; there is no other acquisition got to kicking in to help there?

Hey, Matt, it's Paul. No, there's no acquisitions in there. Keep in mind, though, that when we said we were buying and acquiring DNS, it was because we thought we could accelerate their growth, but they are having the growth on their own. We are looking for product extension there, geographic expansion there. So it's a combination of good performance in our North American business as well as continued growth in DNS.

Okay, great. And then OEM Computer Group, that's about $105 million, $110 million in the quarter?

Yes. For modeling purposes, you can assume it is about $100 million. There's always a bit of seasonality in that, a little bit above, a little bit below, as you go throughout the year.

Okay, and the margin profile there versus electronics versus your core computer business?

The operating income margin is a little bit ahead of our traditional computer products business, somewhat, the mid-range business. It's probably right in the same range now where our North American components business is operating.

Okay. And then on Europe, and maybe, Jan, you can chime in on this, it sounds like things are going very well. How much do you think has to do with the RoHS initiatives that are happening right now? And what's the short or long-term impact of that?

Jan, why don't you go ahead and take that one.

Okay. RoHS is part of this reason for the strength that we had, but I think it's really just one of several different factors. I mean obviously for us, the very strong investments and focus on a very broad customer base and some improving macroeconomics in Europe are also contributing to the strength.

As it relates to RoHS, as you know the European customer base is ahead of the rest of the world in driving to be RoHS compliant and meet the deadline, and I do believe that that was a piece of what drove our strong performance. We have been very proactive in helping our customers get RoHS compliant. And we were using all of our information tools, our supply chain tools to help make sure that we drove our customers to RoHS compliance. And I think that they appreciated that and part of their inventory strategy as well is rewarding us in helping make that happen for them.

Matt, [this is Mike]. Just a follow on to that one. One of the things that we always like to emphasize is that because of the breadth and depth of our customer base across many different verticals in all of the geographies of the world, when we see some strength there, it is across many different things. So RoHS is a piece of it, as consumer is a piece of our success in Asia, and industrial is a piece of our success in North America. But it's really across all of the verticals in all of our marketplaces that we are seeing strength, some because the market is strengthening and some, quite frankly, I think because we are executing very well.

And just lastly, quickly on the inventory issue again, we are seeing areas like passive components, for instance, lead time stretching out, utilization rates getting to 90% and above, I mean, are you at the point where customers are concerned or asking you to build the inventories? Or on the flip side, are suppliers also asking you to maybe build a little bit more inventory? Because you were just up a day or two in terms of inventories, which looks still pretty lean.

Matt, that's a big question, of course. We've talked about this for a couple of quarters now. Suppliers always want us to build more inventory. The fact of the matter, though, is that what we're seeing is no real change in what people are requesting at this point in time. And still broadly, when you look at it, you know, each of the suppliers' lead times are the upper end of normal, but not beyond that.

We see no real indication of double ordering. Our book-to-bill while very strong, is not excessive. Cancellation rates are still well within bounds of normal. We don't see any change in pricing from suppliers. And while the market is very competitive at the customer level, margins are firm there also.

You know, we talked last year about how we saw some pressure competitively in the first two to three quarters of the year, but they have been relatively flat since then. So, don't see any indication today that there needs to be more inventory in the channel, either from the suppliers' side or from the customers' side.

Okay. Thanks a lot.

Your next question comes from Brian Alexander with Raymond James.

Thanks. Just a follow-up on a couple of questions. First of all, on the book-to-bill, you said above 1.1. Was that the case in all your geographies? Was there any major variability between geographies? And based on history, and as you've been through many cycles, how much above 1.1 would you need to see book-to-bill get before you start to worry more about cancellations and some of these other factors?

Brian, it's Bill. We did see above 1.1 in all of our regions, and we do watch that very carefully to make sure that we're not seeing overheating. And as I said, as Paul said, we really don't see any signs in any of our regions that things are getting overheated.

One of the things we do like to point out is that we increased sales very substantially this quarter over fourth quarter and year-over-year and yet continued to show positive book-to-bill ratios in all of our businesses, and that's a really good sign for us. That says the market is pretty good out there.

But, again, as we look across the broad range of metrics, cancellation rates, potential double bookings, bubbles of inventory that might be growing with customer sets, et cetera, we see a strengthening market but not an overheated market; it's still a pretty rational and stable one.

And just a question on historical indication of book-to-bill, has that been useful in terms of predicting cancellations? How high would that have to get before you'd start to worry about that?

You know, that's not something that we would disclose. We certainly watch it carefully, as they say. We're not in a position right now that -- we don't think that there is overheating out there right now.

Okay.

It's Paul. I don't think there is a single metric that we point to that talks about the condition of the marketplace. We really look at it across each region individually. We look across a multitude of metrics, and that's really how we try to evaluate how the market is going. So we don't see any one factor that we rely upon and don't see a number of factors moving against us to think that it's an over heated market at this point in time.

And, then, Paul, Just a follow-up on the inventory. My first reaction when I looked at the numbers was that the sequential increase in inventory days was probably just a function of mix in terms of higher percentage of revenue coming from the components business. So if you, kind of, looked at the segments on a stand-alone basis, you'd see pretty constant turns on a sequential basis. Is that how you look at it?

Yes, absolutely, true. You know, we do have a lower mix of computer products business in the first quarter. As we know, that business has very high inventory turns. So you are absolutely right, you know, the change on mix also grows some of the change in inventory on a sequential basis. But we still had - I'm sorry - we [dipped] about 40 basis points in turns. When you look on an unconsolidated basis sequentially, but our components inventory turns were, in fact, up sequentially also.

Okay. And then, just to finish on -- back on to the enterprise solutions business, in terms of the decline in revenue that you saw a year-over-year, was that concentrated in one particular vendor's product or was that across the board and is more of a comment on the overall product segment?

Hey, Brian, it's Ed. You know, I think there are strengths and weaknesses across the different manufacturers that we represent. So I wouldn't say it was concentrated in any one, but in each of the manufacturers there are pluses and minuses. So I think you saw the IBM announcement yesterday, as is an example of some of the weakness they saw in some of their server products. But again, if the marketplace is a very important market -- the proprietary server marketplace, we want to participate fully in that. We're also investing in industry standard product line as well as storage and services and the like.

Your margin decline, Ed, was pretty dramatic, even if you assume DNS did not really add much to profitability this quarter. So I'm just trying to get a better understanding. I think you said earlier in that call, Paul, 80 basis point decline year-over-year in margin. Could you just help us understand what is driving that? I would think with the service mix down, your margins should be better, given that the other stuff, I think, is higher-margin. So is there any change in vendor programs or pricing or mix that would explain why the margins are down so much, year-over-year?

Hey, Brian, it's Paul. There is not dramatic change in our mix or supplier program, so that's a real good sign for us. I think this is an indication of our ability both upside to leverage the business and downside. Now, you know, in a normal, if we were in a cyclical downturn, we might rethink our expense structure. But think back to what we talked about in February on our call where we said, while we were seeing a loss of a sizable customer, we were not going to adjust our expense structure, in fact, we were going to redirect those resources to go out and grow this business. Also, we talked about the fact that we want to invest in this business throughout the world, not just in North America but in Europe. So we'll be growing aggressively there.

And we think we can afford to take a bit of a decline in our operating income margin in this business for a couple of quarters to make sure that we get growth, good growth, over long-term. So not a real change from a supplier point of view, not a change to our strategy, we remain committed this business. We're making sure that we invest where we can grow aggressively, topline, [outgrow] the market, and really sustain the business over the long-term.

This will be the last quick one. Your margin guidance for that segment, 55 to 57, I assume, would change given the reclassification of the OEM business. So we just wait for Analyst Day for new guidance?

Yes. It's affected, obviously, buy that in DNS, as we go forward.

Thanks.

Next question comes from Jason Gursky with JP Morgan.

Good morning, guys. Just a quick question on the cost side. You took a small restructuring charge this quarter. I was wondering if you just give little bit more color on that, exactly geographically where that's coming from and where you see the charges for the rest of the year coming from?

And then, maybe a little bit more detail, kind of, regionally in Europe what your plans are there knowing that you've got the acquisition that you just completed and what the outlook is in Europe on the cost side?

Well, Jason, what we talked about with this new announcement that we'll be taking additional $6 million of costs out of the business -- and by the way, remember that we are investing in customer facing [roles], we've been able to, through CPI and those type of initiatives, be more efficient and really take out more headcount and transaction processing [a role]. That will be principally North America, as we move forward, and we figure a small part of that charge of the accounting rules in Q1, the total charge will be 6 million, I think the vast majority will be picked up in the second quarter.

With that said, you know, DNS is managed separately from the rest of Europe because it is part of our Enterprise Computing Solutions business. When we talked about DNS in the past, we don't see that there is expense synergies there, per say. We went after and found them as a partner because of a strong management team, a strong culture that's very similar to ours underneath that. So what we are looking to do is really drive, I guess, what I would call sales synergies or accelerate that sales growth by being able to bring suppliers and product sets that they might not have been able to get on their own to them. So, don't see a lot of expense synergies or expense changes in Europe, as we go forward in the near-term.

Okay. And in Asia?

Same concept. Your know, Ultra Source is a pretty interesting business model for us. Traditional Taiwanese company, gateway into Greater China, we really do that on a standalone basis over the intermediate term for two reasons. One, we believe that they have a very successful business model. We want to learn from them. We want to see if there is anything in the way they do business that we can adopt to ensure that our business -- our previous business-- in Asia Pacific can be more like them and be more expense efficient. And also, in there, we believe the secret to that or the success to that acquisition, a strategic acquisition, will be accelerating the lines being added to their line costs to grow sales that [inaudible] in the overall market.

Okay, great. Thanks, guys.

The next question comes [Carter Sheuse] with Deutsche Bank.

Thanks. I want to come back to the guidance. Unfortunately, I'm still scratching my head on the computer guidance. You said several times that you expect a normal seasonality in the computer division over the past three years, which are pretty healthy years. We've seen average uptick of about 10% sequentially. The mid-pointer guidance is roughly at 29%, 28%, so I'm trying to figure out what I'm missing.

Is DNS like a -- I mean, do you see a 50% or 60% sequential increase in that business in the June quarter, or is the SKYDATA acquisition a lot bigger than what I am expecting? Trying to reconcile there, one possible reason might be that you included the OEM computing division in guidance before you decided to switch it over to components, but I think a lot of people on the call are still confused about this.

Hi, Carter. It's Paul. No, we have not included the OCS number in the guidance. I mean, if you break down the pieces, SKYDATA is probably not bigger than what you're thinking. But let's go back to DNS. Back when we announced the DNS acquisition, we talked about the fact that they were some leading distribution partner in Central and Eastern Europe.

So, in fact, we all know that the second quarter is traditionally the strongest quarter in the Sun business. So they will grow at a faster pace because they are more reliant upon Sun. But we believe that we can deliver those results in the second quarter.

So, I mean, still 30%, though. I mean, Sun -- Q2 isn't up 30% sequentially. All your business with Sun, it's still going to make sense for your end market to be up 30% sequentially?

But don't forget Carter, we also talked about the remaining costs, keeping the people that were previously handling the customer that [left] us because of the M&A activity. We've been investing in that, and we expect to see a payback from that investment beginning in the second quarter.

Okay. I mean, it would be helpful if we can get a better explanation of why that's up, but I will move on. Can we talk a little bit about the comment you said that we're getting near the end of the heavy investment period in Asia? Is that suggesting that we may start to see margins improve in Asia, that were [inaudible] the acquisition in Asia, is that the right way to think about that?

Carter, its Bill. As we've been saying, we have been investing in people. We invested some in an expansion of footprint in the new offices. We've invested in systems. We've invested in working capital. We think we have those investments in place, and we would expect some margin expansion to start coming towards the back half of this year and into 2007 as we begin to approach the targets in our timeless business model.

If you look at it this year, our first quarter was $530 million, 30% year-over-year. At the end of -- in 2002, we did about $650 million of business in Asia for the total year. We are getting reasonably close to doing that on a quarter basis. And so, we have grown quite rapidly. And we've invested for that growth, and as we say we expect to begin reaping some benefits of that in the -- towards the second half of this year and through 2007, as we drive towards the targets that we shared about a year ago on our investor day.

What about acquisitions in Asia? I mean, it seems like the Ultra Source acquisition [inaudible]. Is there an opportunity to make a lot of similar types of acquisitions, where you take ownership stake in the company but you keep the management team there? The market is, obviously, still very fragmented there?

We will continue to look, and we are delighted with Ultra Source as we are delighted with DNS, and we will continue to look opportunistically. When we got the combination of a strategic fit, a financial fit and operational fit, we're still prepared to move ahead. And that's -- been consistently in that place, and we'll continue to look.

Last question for you, on the share repurchase program, can you talk about that and give us an update?

Yes. Carter, we have not done anything on that yet basically because of the fact that the earnings release was out at the end of February, and we go into a quiet period because of getting ready for the first quarter release. More details to come as we move forward.

Great. Thanks, guys.

Next question comes from Steven Fox with Merrill Lynch.

Hi. Good morning. So I guess we haven't convinced you to change your computing guidance so far? [LAUGHTER]

Just on the acquisitions, Bill, I was wondering when you look at the EPS impact, how dilutive was it during the quarter and when would it become accretive and by how much?

Yes, Steve, its Paul. In fact, it was 1 cent accretive for the quarter so that's -- it's interesting when you make the comparison to the first quarter of last year, we had a penny pick up because of the acquisition and we had a negative penny impact because of a change of foreign exchange rate. So when you look at it on a year-on-year basis, it had no real [distortion] because of the offset from foreign exchange. So it was a penny accretive at this point in time.

But it should become more accretive as the year goes on?

Yes, absolutely. We talked about this, and we said that we though that it might be as much as [sense] accretive for the full year. Obviously, that reflects things like seasonality, stronger Q2 versus stronger Q1 for the DNS business, a stronger late Q3 into Q4 Ultra Source, as they had the seasonality for the build-out around consumer consumption for the year-end holidays. So for sure, we expect that to change as we look at the Q2 and Q3 and Q4.

And then from a component standpoint, just elaborating on pricing a little bit, is there anywhere where you're starting to see tightness? And are you expecting overall that demand is picking up to the levels that there is enough capacity coming on as you go into the June quarter, or could we still see some more tightness? It sounds like you're not expecting much tightness at all in the June quarter.

Well, what we have seen is that, obviously, the market is strengthening. Lead times are in the upper end of the normal level. Where we have seen tightness in the first quarter, it was in the semiconductor side, it was in the final assembly and test part of the business, and we think much of that has gone past. Utilization rates are in the high-end of normal, but again, we think that the supply chain, and particularly our piece of the supply chain that we see, in fact, is being managed better throughout from suppliers to ourselves and to customers. And so, we don't see anything out of the normal. It is at the high-end, but we don't see it overheating right now.

Okay. Thank you very much.

Your next question comes from Henry Naah with Lehman Brothers.

Hey, guys. Congrats on the great quarter. Two questions, if I may. The first one, I guess, is concerning the balance sheet. Now, with the debt pay-down this quarter, debt equity, debt capital has kind of been trending down last couple quarters. Can you remind us where you guys would like those levels kind of settle out at?

Hey, Henry. It's Paul. Yes, we paid back about $190 million this quarter. We've said that over the long-term, our capital structure is predicated upon being investment-grade rated. We've talked about the fact that in our view, solid triple-B is probably where we want to be over the long-term. But at the same time, if need-be, we're willing to sacrifice that if there's a strategic initiative out there that would drive shareholder value and also [sort of a way] to get back to investment-grade rated.

So we had the opportunity to take the zeros off the books. We had the cash to handle it. We feel comfortable with where we are right now. But we'll evaluate that as we evaluate, as Bill said, opportunistic-type opportunities out there for acquisitions.

Okay. So you guys don't really have any targets, kind of a capital structure, debt equity, or debt capital ratio?

No, we feel comfortable in the range that we're in right now. We've talked about we're willing to go up a little bit higher. We really manage that not based on a single measure also, but where we think we're going to go with it.

Okay, great. And then just in terms of the strength you guys are seeing in the components business, kind of going out one step, any commentary you can provide in terms of the end market that the strength is coming from?

Again, Henry, what we're seeing is in our North American and European market is good strength across all of our market segments, and that's good news. No real peaks and valleys out there, good strength across the many, many segments that we serve across the base that we serve, which typically is the small to medium-sized customer.

Asia continues to be strong, and again, that has a couple of pieces to it. One, the export manufacturing which is driven by consumer and wireless continues to be strong, but there is a growing piece of the Asian market which is aimed at local demand, and that shows many of the same characteristics that we see in the North American and European, which is good strength across a number of different sectors, although, they're clearly more immature than other large economies of North America and Europe. All in all, it's a very positive story of what we see in the marketplace right now.

Great. And then, one last question, if I may. On the computing business, obviously, kind of been discussed a lot here, looking at Sun's average sequential growth in June quarter over the last three years, they are kind of 15 -- anywhere from 7% to 17% over the last three years, averaging out to about 13%. Obviously, your guidance is a lot higher. But I guess, we could probably just interpret it with the ramp of DNS in Europe that impact [view] is probably a lot greater than what Sun's team in terms of normal growth last couple of year. Would that be probably accurate?

Yes, I think it's a combination of factors. I don't have all of the data in front of me, but I can tell you that last year, our Enterprise Computing Solutions business, ex the impact of the OEM business, was up 15% quarter-on-quarter. So, the numbers being low single digits or single digit growth is not actually what we saw, at least for last year. I know when you factor in things like the DNS acquisition, you can see why our growth rate will be faster or higher than it was in the past.

Great. Congratulations on a great quarter again. Thanks.

The next question comes from Kevin Sarsany with Foresight Research.

Hi. I have a couple of questions. I guess, first, you touched on this a little bit in your last comment is what is your exposure in the consumer segment in Asia? Capital equipment expenditures on the second half of this year are expected to be pretty high, but most of it's focused on the consumer. I'm just wondering what the exposure in Asia, or overall, to the consumer is?

Again, there's "consumer," and there's "consumer." We have-- certainly, a lot of the export manufacturing is broadly based across the consumer marketplaces -- DVDs, MP3s, laptops, flat-panel displays, a wide variety of things, and that continues to be strong, both for the export markets worldwide as well as for the local domestic marketplaces.

In addition, we do see strengthening marketplaces, particularly in China and ASEAN, around the local markets, both for consumer as well as industrial electronic products. And again, I think that's a positive sign for us.

Can you break it out by flash or anything along those lines?

We normally don't. We normally don't comment on specific product segments or activities. Again, we see a broad variety of customers across a broad variety of marketplaces. As an example, we now have more than 10,000 customers in Asia across a breadth of marketplaces. And so, we fundamentally see all the product technologies in all the end markets, both locally as well as their export markets. And again, we see good strength in all of those markets.

Okay. And then, I was wondering on pricing. You talked about pricing being pretty stable in the components business. Can you separate that semi versus PEMCO market in -- from what I am seeing in the PEMCO market, specifically connector, pricing has gotten better, I was wondering if that is affecting or improving your profitability in that PEMCO area?

Yes, that's a good question. I talked about gross profit. I am looking at core customers. The analysis doesn't get into such a deep [dive] as we're getting into, you know, what product set is better than the other. I think broadly when you look at it, our mix has been pretty consistent. So we think that pricing has been relatively stable, and remember, when we're talking about pricing, we're talking about at the customer level. In fact, it's been stable for a longer period of time, both from a supplier point of view. That's true for both semi or PEMCO.

Jan, you might want to comment on that. You've looked across all of the PEMCO suppliers across all of the markets. Any trends that you're seeing there?

Well, I guess the biggest trend I'd tell you is just that our PEMCO -- we have said that we want to be focused on PEMCO, both because it's a good value-added opportunity and it's an area where we can continue to increase our lead as the number one guy, and we actually outgrew semiconductors in PEMCO and in every region. I'm just checking my numbers real quick. Every region, PEMCO outgrew semiconductor. And it is an area for us to try and continue to drive stronger margins with PEMCO, and particularly with getting on the high end PEMCO products and value-added.

Okay. And my last question, could you comment on CapEx? It looked like there's about $13 million this quarter, is this kind of a trend going forward? And where is that focused? You hadn't kind of had a $52 million kind of CapEx since 2002?

Yes. I can tell you that's focused around the world. I could tell you that, as we've talked about, we are putting in a new financial system. That will take a couple of years to get that fully installed. So the vast majority of our capital expenditures right now are in technology and -- whether it's refreshing our computers on our desktops and our laptops-- and investing in this financial package for use around the world.

I would expect that our pace of spending will be between $45 million and $50 million for this year. Probably a bit less next year, but you're right, it is more than we have been spending in the past. But it's [in-between] that we think we'll improve productivity as we move forward.

Now was the 2001-2002 spending more on bricks and mortar?

No, I would say -- if you go back to 2001-2002, in fact, it was a combination of brick and mortar. That was also where we initially rolled out a big refresh in computers and laptops at that point in time.

Okay. Thank you.

Your last question comes from [Sean Conner] with Waterstone Capital.

Congratulations on a good quarter. A couple of quick questions here. First of all, could you, either today or put it on your website or go over real quick, give us the breakout for the quarters for the rest of the year for 2005? That would include the reallocation to OEM computing business, so that we get to see on a quarterly basis how it looked previously.

You can just assume that it goes between $95 million and $105 million each quarter. And the operating income pace is pretty much similar to what we saw in the first quarter, for modeling purposes.

Okay. And then, secondly, as far as guidance on the OpEx, should we assume that on the computer products that the operating margins should start to go back up into the mid 5 point-- you know, 5.5 range?

Well, you should model, at least for the second quarter because that is where our guidance is restricted to, an increase in operating income percent in the computer products business.

Okay. And then lastly, as far as cash usage, are you considering paying down any additional debt going forward or are you comfortable with your current debt levels?

Well, we are comfortable with our current debt levels. Keep in mind that we have a maturity coming out in the early part of 2007. And we have been opportunistic, both taking debt off the books prior to maturity or even when it matures. So we will continue to evaluate that and move forward.

All right. Thank you, guys, very much. Have a good day.

Thanks very much.

Ladies and gentlemen, we have reached the end of the allotted time for questions and answers. Mr. Birns, are there any closing remarks?

Yes, Crystal, thank you. Before ending today's call, for those participating in today's webcast, we will quickly scroll through the slides referenced in our webcast that contain a reconciliation between GAAP and adjusted results. This reconciliation is also included in our earnings release. Both the release and this presentation will be available on our website for the next couple of weeks.

I would like to thank all of you for taking the time to participate in our call. If you have any questions about any of the information presented today, please feel free to contact Paul, myself, or Sabrina Weaver. Thank you, and have a nice day.

This concludes today's Arrow Electronics first quarter earnings conference call. You may now disconnect.