安富利 (AVT) 2003 Q2 法說會逐字稿

Please stand by. Our presentation will now begin.

Good afternoon, ladies and gentlemen, and welcome to Avnet second quarter fiscal 2003 corporate update. My name is John Hovis and I'm vice president and director of investor relations for Avnet. If you're listening by telephone today and have not accessed the slides that accompany this presentation, please go to our Web site, www.ir.avnet.com, and click on the icon announcing today's event. After registering, please click on the telephone-only option that appears on your screen.

As a reminder to our Webcast participants, the slides will move automatically as we advance through today's presentation. And as always, we're happy to accept questions via e-mail and provided quick access through a link on your screen situated to the left of the slide show, we will receive your e-mails during the presentation and answer as many of them as time allows during the Q&A session.

As we have done over the past two quarterly updates we have completed a survey for you to complete at the end of the Webcast. This survey is designed to capture your opinion of the quality of the items and elicit your feedback on the quality of today's presentation as well as our investor relations here at Avnet. So please take the 120 seconds at the conclusion of our presentation today and answer the survey. Your feedback does make a difference.

Now before we move on to formal introductions I would like to review Avnet's Safe Harbor statement. This presentation contains certain forward-looking statements within the meaning of Section 27-A of the Securities Act of 1933 and Section 21-E of the Securities Exchange Act of 1934. These statements are based on management's current expectations and are subject to uncertainties and changes in factual circumstances. The forward-looking statements herein contain statements addressing future financial and operating results of Avnet and may include words such as believe, should, likely, attempt, anticipate, intent, can, and expect. Actual results may vary materially from the expectations contained in the forward-looking statements.

The following factors among others could cause actual results to differ materially from those described in the forward-looking statements -- the effects of additional actions taken to lower costs, the company's ability to retain and grow market share, the company's ability to generate additional cash flow, any significant and unanticipated sales decline, changes in business conditions, and the economy in general, changes in demand and pricing pressures, allocation of products by suppliers and other competitive and or regulatory factors affecting the businesses of Avnet generally. More detailed information about these and other factors is set forth in Avnet's filings with the Securities and Exchange Commission including the annual report on Form 10-K for fiscal 2002. Avnet is under no obligation to expressly disclaim any such obligation to update or alter any forward-looking statements whether as a result of new information, future events, or otherwise.

Now, to begin, Avnet held its annual analyst day at the opening of the stock exchange on September 17 last year and we had excellent participation by the analyst community, and I would just again like to say thank you thank you to all of you who attended the event. We are looking forward to a similar event this November this year and we will let you know the details about that when they arise. Now moving on to today's quarterly update.

In a few moments Ray Sadowski, Avnet's Chief Financial Officer, will provide our second quarter financial update. Following Ray, Roy Vallee, Chairman and CEO of Avnet, will provide his comments regarding the progress of the company during the second quarter as well as comment on the broader strategic issues of Avnet in the industry. At the conclusion of Roy's remarks we will move to Q&A. Also with us today and available to take any questions that you may have related to Avnet's business operations are our three operating group presidents, Andy Bryant, President of Marketing, (inaudible) and Ed Kamins, President of Applied Computing.

Let me introduce Ray Sadowski for our second quarter overview - Ray.

As has been our convention for the past several quarters I would first like to provide the broad overview of our operating results for the December 2002 quarter, which is our second quarter of 2003. Please note that, for analysis purposes, we normally segment out all special charges in order to provide a clear comparison of operating results between quarters.

Avnet's second quarter fiscal 2003 results reflect revenues of $2.35 billion with special charges of 7.1 million or 6 cent per share. As compared with the previous quarter, revenues increased by $173 million or 8% due directly to stronger-than-anticipated sales at computer marketing and expected strength at applied computing, specifically computer marketing, which historically enjoys strong seasonal revenue growth in the December quarter, typically in a 10-15% range grew 28% during the quarter. This exceeded our prior estimate of growth in the 20% range, and Roy will make some specific observation about the drivers behind this revenue growth during his comments.

Year over year quarterly enterprises were down flat by 13 million or .6%. Although EM sales were down sequentially they were up year over year for the second quarter. Gross profit dollars rose by 18 million, offsetting a nearly 6.5 million increase in operating expense. Although (inaudible) make additional comments concerning operating expenses in a few minutes, let me explain the sequential increase in operating expenses which we had expected.

You can see that reported expenses are up 6.5 million on a sequential basis. If you pro forma out of the September 2002 quarter, the 6.5 million unusual deposit item related with the -- with the acquisition we discussed on our prior call, expenses are essentially flat. Expenses are flat on that pro forma basis even though some of the previously announced cost reductions implemented during the quarter have benefited the second quarter due to the increase in expenses to support the significant, sequential growth and sales in gross margins and the impact of the strength of the euro.

On year over year, expenses are down 10.76 million in U.S. dollars; however the year over year comparison was significantly impacted bit change in the value of the euro. Had the value of foreign currencies remained the same as a year ago, operating expenses would be down by an additional 10.1 million. Previously announced expense reduction less yield benefits in excess of 90 million on an annualized basis, of which 80 million was removed from the business as of the end of the December 2002 quarter. As a result of the increased revenue and gross profit dollar growth, operating income was up by over 11 million or 58% from the December 2002 quarter.

Year over year operating income grew by just over $8 million up 33%. Interest expense was down 10%, or 2.7 million from the September 2002 quarter. (inaudible) 27% or 8.8 million year to year, reflecting a favorable impact of our significant reduction in debt. Net income before special items was up substantially over the first quarter of the fiscal year, increasing by 7.6 million or 6 cents per share. On a year over year comparison, earnings after tax increased by 9.7 million or 8 cent per share, essentially flat sales growth as we benefited from significant cost cutting and debt reduction actions. These results represent our best performance in seven quarters. It reflects our commitment to be profitable at any level of revenue and we are pleased with our performance but we still have a long way to go.

During the second quarter of fiscal 2003, we executed certain actions as part of our ongoing cost reduction initiative and, accordingly, recorded special charges totaling 106.7 million pretax, 65 million after tax or 55 cent per share on a diluted basis for the second quarter and for the year to date. The entire pretax charge is included in operating expenses. Of this special charge of 106.7 million, 59 million represented a non-cash write down and 47.7 million requires the use of cash. The charge consisted of severance, 27.1 million, charges related to the consolidation of selected facilities, $37.3 million, and charges related to certain key related initiatives, 47 million on a pretax basis.

As I noted last quarter, the cost reduction efforts made so far are important because, as you can see here, revenue continues to track sideways. With sales of $2.35 billion in the second quarter of fiscal 2003, the sequential growth over the September 2002 quarter was due to stronger than expected seasonal growth in our computer business. However, we still continue to move in a relatively tight, stable band from a year to year comparison. We have not seen revenue crossover, which is necessary for us to get sufficiently excited and speak the language of recovery. The lack of real market growth continues to be a disappointment but the flat trend line is relative of the industry.

While markets in the company's revenue levels have remained relatively flat over the past six quarters, earnings per share, excluding special items, have improved from our earnings trough in September 2001 but remained relatively flat from the December 2001 quarter through the September 2002 quarter. The December 2002 quarter represents strong crossover in earnings performance and we're pleased with the performance of our team in managing the balance sheet and (inaudible) and creating the significant amount of earnings leverage we now have. With any growth in the markets in which we compete, this leverage should create rapid growth in earnings.

I want to spend a few moments commenting on a point we made in our last quarterly analyst update and that is the impact of business (inaudible) on the enterprise as experienced lower than average gross profit margins throughout this downturn driven by the shift in business from the higher margin business to the lower computer margin business. During 2001, (inaudible) treated on this slide, EM (ph) represented 67% of (inaudible) revenues as opposed to the trough which accounted for 54% of the consolidated revenues.

As I noted, the computer business has a strong surge in revenues in the September quarter. This past quarter was no exception. During the December quarter gross margins rose sequentially as we expected. Margins fell from 17 -- from 13.7 to 13.4 existent with lower market computer revenues, which accounted for 49% of consolidated revenues in the December quarter. Here you can see the year to year comparison of (inaudible) profit margin for the past three December quarters. With the strong fall off in component revenue since the December 2000 quarter, noted on this (inaudible) is the second quarter of fiscal 2001, the combined sales of CM and AC grew to roughly 50% of consolidated revenues in the December 2001 and 49% in December 2002. This compares with 36% in December 2000, thus causing the decline in consolidated gross profit margins.

In each case, gross profit margins dips with the seasonal surge in computer products revenue. Margins were flat year to year on the same revenue mix in the past two December quarters. We continue to maintain that lower gross profit margins experienced by the company over the past six quarters is not structural (inaudible) due primarily to a change in the enterprise revenue mix which should improve as we move through the next up cycle. With the next up cycle, we believe gross profit margins can return to levels enjoyed during the prior up cycle as our revenue mix normalizes.

An important part of the operating leverage over the past several quarters has come through expense control as we have steadily reduced expenses. Since the peek of the last up cycle quarterly expenses were reduced from 359 million to 284 million in delivered dollars as of the second quarter of fiscal 2003. However, as I previously indicated, fluctuations in foreign currency exchange rates continue to impact reported expenses and will remain a factor until currency markets stabilize. The two lines you see on this graph represent delivered dollars and constant dollars, meaning, what would the dollar amount of expense be if foreign currency exchange rates are not changed since December 2000. You can see that in constant dollars we have reduced expenses from 385.5 million in the second quarter of fiscal 2001 to $269.6 million in the December 2002 quarter. That equals almost $89 million per quarter or $356 million on an annualized basis, including cost reduction actions taken during the December quarter that have not yet been fully realized in the income statement, annual expense reductions since the December 2000 quarter are well in excess of $400 million.

Due to the lack of improvements in the market we serve we (inaudible) cost reductions I spoke of earlier. We expect the results will be -- we expect the results will be continued improvement in the direction of our operating profit margin trend line. The earlier (inaudible) we initiate had had a positive impact (ph) on profit income margin before special items which increased 43 basis points sequentially raising to 1.35%. This performance also represents the second quarter in a row where we increased margin on a year over year basis.

Operating margins were up 34 basis points year over year again on basically flat revenues. An important part of the structural operating (inaudible) we have built into our business model has been (inaudible) through working capital reduction. We indicated in last quarter's update we expected to generate an additional 350 million in reductions through the fiscal year. As you can see here, we exceeded our expectations here by a significant degree.

Working capital fell by approximately $73 million in delivered U.S. dollars, even though revenues were up 8%. In constant dollars, the working capital declined by 119 during the December 2002 quarter. Each of them have done an excellent job on capital management. Receipts were off during to growth in -- inventory was again down as we continue our focus on inventory optimization. The company's return on capital employed (inaudible) initiative that we have talked about the past several quarters continue to produce benefits in performance ratios. In the instances of day sales outstanding and inventory returns, we have continued these working capital metrics. We would (inaudible) to increase in the fall quarter, coupled with the increase trade receivables which occurred so late in the December 2002 quarter.

Additionally, the $6.5 inventory turns illustrated on the right-hand graphic likely will not be sustained with growth in EM (ph) revenues. This quarter's performance is flattened by a higher than normal rate of dropped (ph) shipment revenues in our CM business.

Cash generated from working capital reductions continues to be used to primarily reduce the company's debt. Since the end of December, 2000, we have reduced total debt by nearly 1.9 billion and our net now stands at approximately $1.4 billion. In the December 2002 quarter, we again reduced that this time by an additional 293 million through working capital reductions and the tax refund we identified during our last quarterly update, as well as from cash income.

The facts regarding our liquidity position warrant a quick review since some of the analysts have questions and are following this issue. Looking at the numbers, the table provided here points out we have 6 -- 786 total liquidity compared to the last update, when we noted (inaudible) 593 available total liquidity. We expected 200 million, including 150 million of the tax refund previously noted as a generous cash to manage debt operations and the $7 86 of total capacity represent an increase of the prior quarter of $193 million. And of course the reducing the total debt by 293 million during the 2002 quarter, we (inaudible) and AR securitization program by a combined $180 million. In addition, cash and cash equivalents of $186 million increased sequentially by $13 million.

As I just illustrated, we do not have a liquidity problem. Amounts currently available under our credit facilities combined with current cash and expected cash generation continue to be more than adequate for 2003 debt and fund our global operations. Also as I stated last quarter, while we have several options available to us, we will attempt to complete a capital (ph) markets transaction to enhance our long-term capital structure and obviously the proceeds to (inaudible) the calendar '03 (inaudible).

As I have already mentioned, we will exceed our cost reduction goals set for the December 2002 quarter. We expect a full benefit (inaudible) 80 million in parts reductions to benefit the P&L in the March 2003 border (ph) with the balance to be reflected in the June 2003 quarter. The -- relate to completing the exit of certain facilities and actions being feign in Europe. As we are committed to a reasonable profitability level -- we will determine whether further actions are required depending on the revenues for the March quarter.

Now we would like the turn the comments over to Roy Vallee, Chairman and Chief Executive Officer - Roy.

Thank you, Ray. Good afternoon, everyone. I want to begin by saying I am quite pleased with the performance of our people worldwide during the 2002 border. The technology markets continue to move sideways, but the Avnet team continues to make strides in managing those things that we can control. With the operational and strategic moves we have made in terms of the industry downtown, we have moved the company into position to improve financial performance. As Ray laid out in explaining the company's enterprise performance I think we're just beginning to see the early returns of these efforts. I will make some comments as well as on our group's performances. Then I would like to finish with revenue and earnings guidance for March quarter and this fiscal year ending with the June 2003 quarter.

Revenues for the December quarter came in largely in line with what we had expected. We anticipated a 15-20% sequential increase in revenues from our (inaudible) businesses. As you know, (inaudible) while applied computing grew (ph) 15% over the quarter. We expected revenues from the EM business to be flat sequentially and we were disappointed with 3%.

It is no secret that the month of December was a tough month for the components in the America's region, which impacted EM's global results. We had guided to EPS of five cents for the 2002 quarter. We were able to exceed these estimates by creating 6 cents in the quarter. This represents 8 cents improvement with revenue down on a year to year basis.

Despite the growth in our computer businesses, both AM and CM were down slightly on a year over year basis. EM was up slightly, indicating wild (ph) year over year growth for the second quarter. We expect this growth to slow in the coming March as well. The fact the enterprise did not cross over into year over year as indicated on the right-hand graphic is, again, an indicator that it is too early for Avnet to recall a recovery in the marketplace. We're a stable industry that is on the bottom of an economic trough.

This light (ph) provides the updated quarterly group breakdown and operating margins by operating room (ph) and regions of the world. The revenue by region graphic, the bottom panel on the lower right-hand, reflects the growing importance of our Asia region, which exceeded 10% of consolidated revenues, up from 7% year to year. Should continue to grow.

We are well positioned in the People's Republic of China, and we continue to invest in that part of the world to meet our (inaudible) has grown as a total revenue. The Americans decreased, going from 61% to 56%. Operating income before special charges grew sequentially for each operating group in every region. EM made good progress, increasing (inaudible) by 53% sequentially despite revenue decline. The increase in operating income was due to both cost reductions and gross margin improvement.

CM increased operating income sequentially by 124% despite erosion. Growth in the revenue streams bolted (ph) (inaudible) they required no inventory, and the return on working capital is attractive. AC increased operating (inaudible) by over 71% with continued improvements in the market they serve. However, like CM, this group (inaudible) as well as product mix, that is, a high seasonal (inaudible) of lower gross margin, (inaudible) processor and disk drive cells (ph).

So at the enterprise level, operating income increased by 58% driven by all of these factors just outlined. Interest expense reductions primarily related to the continued efforts of reducing our working capital and debt helped drive stronger pretax income. Avnet's earnings leverage continues to grow with actions we have taken to size our operations to the market conditions we are faced with. Since the December 2000 peak of the last cycle when the markets we compete in began to deteriorate substantially we have taken out of the business well over $400 million in annualized SG&A, of which approximately $356 million in constant dollars is reflected through our December 2002 results.

Although it is difficult to predict when meaningful sales growth will occur, it is easy to predict that Avnet's earnings should rise dramatically when that inevitably occurs. We have built an unprecedented amount of leverage into our business model through continued working capital reductions, now just shy of an amazing $2 billion and reductions in total debt by nearly 1.9 million. We have strengthened our liquidity position with approximately 786 million in liquidity currently available to us, of the financing options available to us and the continuing improvement of the debt capital markets, we are in a strong position and continue to ensure our investors that we have adequate capital and adequate access to resources to meet any needs the company has in the short or long-term.

We have been very candid and deliberate about our plans to enter the capital markets when it best benefits the company. Our objectives have been to raise $325 million or more to replace notes maturing later this calendar year.

So where do we go from here? We continue to believe that the industry is past the deepest part of the economic trough. However, and -- we are in a market that is stable. However, we expect the technology markets will slowly rebound and begin growing again in 2003. And Avnet should cross over for the March 2003 quarter, although revenue (inaudible) sequentially due to seasonal factors. Nevertheless, we have an obligation to the shareholders.

This quarter tangibly demonstrated our commitment to our investors that we can and will produce profitable results. While very pleased with our team's efforts and progress for the quarter, we're not satisfied with Avnet's absolute results and will continue to work to improve our profitability in the coming quarters. We continue our driving value initiative, and return on capital employed initiatives.

As we guided in today's press release, we currently see enterprise revenue in the March 2003 quarter to be down specially from the December quarter. We expect revenues to exceed the September quarter level of $2.17 billion and be in the range of $2.25 billion to $2.3 billion for the quarter. This would result in year over year growth at the enter prize level and be the first quarter to crossover since the current downtown began in December of 2000. We expect less than normal sequential revenue design from 5% to 10% from our computing businesses, mitigated by our EM business, which is due to be up 2% to 3%. Of the net result of the cost productions made in the 2002 quarter will have their full impact occurred in the March 2003 quarter. With this P&L (inaudible) and the higher margin EM business, we expect to see current estimates of 6 cents for the March quarter by one cents to three cents and produce another quarter of EPS growth. We currently anticipate that revenue will slightly exceed 2002 levels of $8.9 billion.

Based upon lower cost and the slight year over year revenue growth expected (ph) under current market conditions, we expect to end the 20002 share of 21 cents before (inaudible).

In closing, we're making good on our resolve to make shareholder value for (inaudible). Our efforts in using a (inaudible) as we reach working capital productivity and operating leverage (inaudible) accelerating earnings growth with the move we have executed on and our commitment to a strong balance sheet is unwavering. We're a leader in the markets in which we compete. Our management team remains the most (ph) experience in our memory. I am truly excited to see what we're capable of in the next industry up cycle.

Now we will open it up for Q&A.

Ladies and gentlemen, at this time we will be conducting our question-and-answer session. If you would like to ask a question, please press star one on your telephone keypad. To remove your question from the cue, please press star two. For participants using speaker equipment it may be necessary to pick up your handset before pressing prefacing the star keys. To ask a question press star one on your touch done keypad. If you're using a speakerphone, pick up the handset before pushing your star keys.

I will pause a moment to take in questions.

Our first question comes from Matt Sheerin with Thomas Weisel.

This is William Hemmond in for Matt Sheerin. He is not available at the moment. I had a quick question regarding your thoughts on Arrow and its recent acquisition of Pioneer Standard. Specifically, could you address how this changes the competitive landscape in your opinion?

Well, specifically, I guess I think that the transaction, at least on the surface, seems to make sense for both parties. From an Avnet perspective, you know, we continue to like the consolidation of this industry around two key players. So I think that there is a residual benefit for us, probably lies in certain customer and supplier issues where they may have too much concentration of business once the transaction is completed. But the net-net is that this industry has dramatically consolidated over the past several years, and we believe that it is in a healthier position today and one that certainly indicates the opportunity for us to improve our financial performance on a go-forward basis relative to what has been possible in the past.

Thank you.

You're welcome.

Our next question comes from Brian Alexander with Raymond James. Please state your question.

Just a couple of questions on the guidance. For EM specifically, I think that the March quarter is up sequentially, and I'm wondering what your guidance supplies about the sequential growth in the Americas. And it looks like your earnings guidance is not necessarily reflecting an increase in gross margins on a sequential basis despite the mix shift, and I just wanted to clarify that. Thanks.

Okay. Brian, let me take a shot at that and then ask Andy if he wants to add anything. As you look at EM on a global basis, your point about EMEA is correct. We typically have a strong March quarter there. You can recall that from last year.

In the case of Asia, we have the Chinese New Year which will take a couple of weeks out of the quarter and put a damper on the revenue growth we had been getting there. Relative to America what we really see here is a relative flattening in the sales per day. And a significant part of the decline in revenue last quarter it was the loss of days, and as we look at the increase in days in the March quarter, coupled with the activity levels and the bookings that we're seeing, we believe that America should be at least flat in the current quarter. And so when you roll that up, that gives us the slight revenue growth for EM globally that we're forecasting.

As far as the gross margins, you know, the real issue there, Brian, is that we should experience enterprise level increase in gross margin in the March quarter. However, the reason for the earnings forecast is, you know, it's difficult, of course, to peg the top line. If it comes in closer to the $2.3 billion as opposed to the $2.25 billion there's a chance for higher levels of open margin and EPS. So the gross margin should be there assuming things play out the way we expect, but we don't yet know how to peg the top line.

Okay. If I could just follow up on the gross margin pressure that you saw in CM in the September quarter was that a function of the competitive environment or more a function of changes in vendor terms and conditions?

Okay. Let me just first ask Andy, is there anything you want to add, Andy, or did that sound right for EM?

I think you got it pretty good. I would just add, you know, one of the things that we can't peg but what we have been doing is gaining share of market in the Americas, so we hope it has bottomed and continue to focus on market share.

And Rick, would you like to talk to the CM gross margins.

Yes, I will, Roy. Thank you. Brian, the primary influence was more on the mix of products rather than overall competitive. And also the mix of the business between our distribution and reseller businesses. The distribution business was the stronger, particularly in North America nor the December quarter.

Okay, thank you.

Our next question comes from Steven Fox with Merrill Lynch. Please state your question.

Good afternoon. First a couple of quick questions. The payables increase, could you just go over that again? And then secondly, on the SG&A outlook, can you talk in terms of dollars, how much SG&A would come down in this current quarter? And the currency impact to sales in the quarter just completed?

Okay. The increase in payables is really a function primarily of our computer marketing business, where a significant amount of business takes place during the September quarter and, in fact, the latter part of December. And in their particular case, I think as we noted earlier, a significant amount of their businesses dropped ship. Even though we shipped the products to the customer in December, of the payable for that will be created. And we won't pay for that until, you know, sometime in the March quarter. So that's the predominant reason why our payables would increase in the December quarter.

Okay. And so, Ray, we should expect it to go back down this quarter?

It depends upon the level of activity, but from a normalized perspective, the answer to that would be yes. But again it would depend upon the activity that took place during the quarter. What is unusual about CM is that so much of the business takes place at the end of the quarter and its drop-shift business as opposed to, let's say, EM as an example, we're talking about a business environment, where inventory is essentially being purchased over day and payable to (inaudible) payables are being paid every day on a routine basis. In the CM situation, the payable payables have been created to the December time frame based upon the volume of business that occurred there. Okay?

And SG&A?

Repeat the question again?

Just -- the improvement from $284 million how much lower should SG&A go in the current quarter. .

You -- I guess our guidance would be based upon the 80 million that we have taken out of the business, we would expect to see approximately a $20 million reduction in business on the sequentially quarter basis. However, based upon what we see happening with the euro so far, that may wind up mitigating that to some extent. I don't think it will be a huge number. It could easily be $3 million, $4 million based upon what is happening to the value of the euro. But again, the expense benefit, we see the full $20 million in the March quarter.

And then how much did currencies affect the top line?

Currencies would have affected the top line on a sequential basis by -- bear with me one second -- on a sequential basis, it looks like currencies in total would have had an impact of about $10 million. If you just look at sequentially as an example, I will just read you a couple of numbers, it looks as though sales were benefited by about $10 million, gross profit by about 1.5 million, operating expenses, I think I mentioned about 1.5 million as well. Yet (ph) by the time you get to operating income, really no significant impact.

Great. Then, Roy, one last question for you. How do you feel about your inventory levels, particularly on the component side? Are you running where you would like to keep them? How would you describe it?

I first have to start by laughing at myself, because I have been telling this group that I believe we're down to levels of working capital that can't go much lower, and our team on a worldwide basis just continues to prove me wrong and take the numbers lower. From a terms perspective, we are, across our units at or above historic highs for turns. So if you ask the question in terms of dollars, I believe that as EM's business begins to grow, the inventory dollars must begin to grow. If you ask in terms of product activity, I will tell you I believe we can maintain and improve on the productivity as the revenues begin to grow.

And if the question, Steve, is really specifically how are they right now, let me just share with you and everybody on the call, that Andy has been emphatic with this team about not running low or out of the fast-moving items. The benefits here to the inventory reduction have been in the slower moving devices that, overtime, were working out of the inventory, while we are constantly replenishing the fast-moving item else. So I don't feel that the inventories are too low unless revenues begin to grow, in which case we will need to do more replenishing.

Thank you very much.

Steve, just one clarification. On the working capital, just so you understand, the payables, as I explained, is fine. Keep in mind as well, you have the same issue relative to receivables. As the CM gets to the September quarter is significant, you create a receivable as well. You comment in terms of the payables coming down in March quarter is correct for the most part but that will be offset by the collection of the receivables that CM will experience during the March quarter as well.

Absolutely. Thank you very much.

Andy, anything you want to add on the inventory?

Quickly, that we're focused on the dollar amount, but also on (inaudible). And as Roy said, mix. And so we -- not only have we driven the EF&G (ph) items out of the business to replenish those with As, we have will also driven the freshness of the inventory so we're looking at over 12 months and under 12 months and we have never really been in a better position. I would echo that we're in a great position.

Okay. Thank you.

Our next question comes from Robert Damron with Southwest Securities. Please state your question.

Hi, Roy.

Hey, Rob.

A with couple of questions. First, on the gross margin longer term, if the electronics business does eventually start to improve and see accelerating growth, the overall should improve - however, if Asia continues to grow as a percentage of sales, how will that impact the growth margin if we look two years out? I'm assuming Asia gross margins are a bit lower? Maybe you could describe for us a little bit the Asian business model, specifically in China, how that model there differs from the one in the U.S.?

Yeah. Ironically, right now, our operating margins in Asia for the EM business are the highest of the three regions in the world. Now, obviously the reason is that EM, as well as EMEA are under tremendous sales pressure so there's compression in the P&L and that's why Asia is performing relatively well. On a longer-term basis, we expect Asia to operate with lower gross margins in Europe and America, lower operating margins unanimous Europe and America, but higher asset velocity.

And we continue to hold them accountable for the same return on capital targets that we have for the balance of the EM business around the world. Now, your point about the EM revenue mix is valid. However, Rob, what is interesting, as a result of all of the EM actions that are being taken on a global basis, our EM group level gross margins have been trending up. I should look here, but I think it's something like four out of the last six quarters have been up for (inaudible) I will take a stab at that. Five out of six quarters have been up.

That includes the growing importance of Asia. So your point is valid. It's very astute. However other actions are under way in America and Europe that are having a positive effect on the margin. And so far, we're winning that race.

Okay, and then one other related question. If, you know, the larger accounts start to come back over the next several quarters, do they tend to be lower gross margin? And as that would happen, would that have some negative impact on the gross margins?

Let me throw an answer back at it, and then I will flip it back to Andy and see if there's any color he wants to put on this. The reality is that, as the larger accounts come back, yes, there would be the tendency for those gross margins to be lower. However, the other thing that happens to us is we're able to generate higher margins across the business. If you look at the charts that Ray shared, you saw a decline in EM gross profit margins as a result of gross profit softness. We would expect the net-net of -- the market coming back as well as the market firming would allow EM to expand markets overall not contract.

Now, let me add one more thing. Because, Rob, you know very well, in the last circle, there was some very large business from a very small number of customers that was done at very low margin that we are not going to reengage in in the next cycle. We have decided that for the very largest accounts where the margin complex exists we're going to pursue that businesses through a -- unbundled services sort of a model and not try to hone the working capital in those engagements. That will reflect in much lower revenues in that tier one segment, but higher profit margins and certainly higher returns on capital.

Andy, what did I miss?

Covered it pretty well. I would just echo and congratulate our management team on our focus in tier two. I think one of the things driving our GP (ph) up is our (inaudible) allocation for our resources into the sweet spot of our account base, and the work that we're doing in assets to obtain the best cost in the market. And then on Asia, I would just add that, you know, the market there is a little different. It's pretty much a built to order market which gives that asset velocity a chance to happen. It's not as much of a time place utility market like Europe and America. So we're confident in Asia that we can continue to get to those return on capital numbers that we're producing today in our Asian business.

Okay. That helps. Thank you.

Our next question comes from Patrick Parr (ph) with UBS Warburg. Please state your question.

Patrick Parr, please state your question.

Sorry. I had it on mute. The question for you regarding your CM business in the September quarter. The upside there was driven specifically by -- can you tell us more, was it specific product segments or specific vendors that were doing that? What more can you tell us about that?

Rick, do you want to take that one?

Sure.

Hello, Rick.

Hi Patrick. Certainly our largest relationship is IBM and it's their end of year which always has an impact, but we had sequential growth in all three of our commodity secretaries, hardware, software and services. Software provided the most dramatic upside, and the software was also the area where we had some deliberate capture of incremental revenue streams that had the impact as was already discussed.

As you look to the March quarter, obviously we see a seasonal decline. Is the magnitude of the decline in CM typical with prior years or is that strength you saw on a relative year continuing in the March quart?

It's a little of both. It's not difficult to expect just five to 10. If you remember last year, we were up 23 sequential and down 22. Participant of our expectations this year are mitigated bay strong book to bill in the September quarter which provided hangover to get us started.

Is that a number you guys give out?

I don't believe so.

Greater than one?

Bigger than a bread box (ph).

Okay. Second question is for (inaudible). What is included in other income in the December quarter and how would one model that moving ahead?

In the December quarter I guess I bring it into two broad pieces, very similar to the first quarter, and that's about $2.a 5 million, $2.2 million of interest income, and about $2.4 million or so of currency gains, which is pretty similar to the last quarter, the decrease from the last sequential quarter. The difference there was a decrease in interest income as we did some different things with cash during the quarter.

I think on a go-forward basis, we generally use about a $2 million per quarter number. It's hard because it is other income and it's very difficult to predict the items that will be in there. Generally, it's about a $2 million or so number are maybe a little higher based on the current level of interest income. Which will start to decline in future quarters but probably not significantly in the March quarter.

So there were no one-time items in there?

There are no ...

Other than currency.

Other than currency, there are no -- no, no one-time items in there, no.

Speaking of one-time items are there any charges planned for the March quarter?

No. At this particular point.

Okay. Thank you.

Our next question comes from John Warvath (ph) with Lehman Brothers.

Nice quarter, guys. I was just wondering about, in terms of Europe, it looks like you had about 16% sequential growth.

And I think you said 10 million was currency impact. If I back that out, it's about 14% growth. So what I'm wondering is, can you characterize the macro environment over there and maybe help me reconcile strong sequential growth to kind of the weak macro data I'm getting, and also if there's any significant differences between computer marketing and the strong marketing and applied computing that are different from the overall segment growths, that would be great.

Yeah. This is John. Go.

John, hi, it's Roy.

Hi, Roy.

Yeah, it's very straightforward. The growth for the region is skewed by growth in computer marketing and applied computing. Electronics marketing grew in delivered dollars. If you take away the effect of currency, they would have been closer to flat on a sequential basis. So the macro environment there for components, I would categorize as just slightly better than America, with a little bit less transfer business and maybe a little smaller hangover from the tech bubble.

And then in terms of the computer business, the growth on a sequential basis was almost the same for computer marketing and in the case of applied computing, add a little higher.

We were up quite substantially in Europe, about 31%. That's all microprocessors and (inaudible) related.

That was applied computing, 31%.

Correct, in Europe.

So pretty much, John, the seasonal effect of the computer businesses was the big driver of growth.

Okay, great. Could you also maybe comment a little about pricing and components between semiconductors and the passers?

Andy, do you want to take a shot?

In the Americas we tried to look at it as -- to the best of our ability in our own world, which is resale per line item. We saw an increase of 2.7% aggregated in the Americas. There's some other areas like flash. Intel is trying to be the driver in the raising of flash prices and Mrs. Very strong demand for flash in the cell phone market, not so strong in the broader markets, and particularly strong in Asia, of course. So we're still really waiting for a positive sign that ASPs are headed up to the right and are going to continue to do so. We see spotty evidence that ASPs are picking up a bit.

In terms of lead time, things are pretty stable. You know, once again, I can share with you in the (inaudible) world power supplies and things like resistors are stable at eight to 10 weeks, and capacitors are stable eight weeks, you know, some of the areas that are interesting are in the analog and the power area where things are going out to about 12 to 14 weeks. But in general, if they stable lead time and flat to slightly rising ASP environment is what we see.

Great. Thanks a lot.

Okay.

Our next question comes from Tom Dinges with JP Morgan.

Most of my questions have been answered, so I just have a couple of points of clarification. Ray, you had talked about an additional 200 million approximately of cash flow that you expected to generate over the course of the next two quarters to end this fiscal year. Does that include and encompass the cash component of the charge you took this quarter? Will that be completely paid out by the end of this physical year?

I'm not sure we indicated we would have 200 million through the end of the year. I think that comment related to what we said on our last call, and that 200 million specifically made up of 150 million of a tax refund that we received during this quarter and $50 million that we estimated we would reduce working capital by through the balance of the year and we in fact exceeded that significantly by generating almost 300 million of cash during the quarter.

As we go forward for the balance of the fiscal year at this particular point in time, I guess we're looking at generating a relatively small amount of cash at this particular point in time. Could we do another $50 million, I think that's a possibility, as Roy indicated earlier. We keep being amazed at what the team can do from a working capital productivity perspective, so I think there's an opportunity for us to generate further cash. I do not see significant -- I think the cash utilization for the special charges should -- will -- for the most part even out any reductions and working capital but I still think at the end of the day we probably are a positive cash flow environment for the next two quarter but not by any significant degree, provided that we do not see any particular up take in business.

That leads to my next question in terms of your -- you talked a bit about inventory levels and such, and if you do see some improvement in business across many of the businesses, especially the EM business over the course of the next two quarter that exceed your estimates, you mentioned that inventory would be going up. In light of upcoming maturities and wanting to generate a little bit of cash, would we see things in the receivables area, would that continue -- would we see that trending down or is that going up as well?

Well, it could go up as well but I think when we say increasing inventory we're not talking about increasing inventory by hundreds of millions of dollars. So I don't think the commentary (ph) was meant to indicate that you're going to see substantial increases in inventory. I think what you would see in that kind of environment is some of the reductions in inventory of the slow -- the more slower moving product handy referred to before with somewhat off set the additional inventory that might be required to some extent although we could in fact (inaudible) up using some cash for inventory, I do not believe it's going to be significant dollar amounts where we get into any kind of cash need issue that may in any way limit how much inventory we can in fact buy. I don't think we're talking about those kinds of numbers unless Andy you want to clarify that a little bit.

No, I think, again, we see -- you know, our numbers recovering slowly. We will continue to work the mix and we're going to drive the inventory to the realities of the market growth at this point, and right now, you know, those are modest so I think we're in good shape.

Okay. Thank you.

Operator, I think we have two questions in the queue, so we will take two more and then we will wrap.

Okay. Our next question comes from Richard Gardner (ph) with Salomon Smith Barney. Please state your question.

This is Les Santiago (ph) for Rich. I was wondering if you could give more detail on the CM business in terms of the composition of it, what percentage of hardware and software, and if you could tie the strength and weakness of each product to your bar and end user channels, if possible.

Rick, do you want to take a shot?

Yes, I have some numbers here, and then if we need to drill any further could follow-up perhaps. For the December quarter, our ratios at CM were 7% hardware, 18% software, and 11% services. And within the hardware business, the commodities segment of server, storage and networking were all up. Storage was the strongest but on a sequential basis they were all up. If I compare those percentages to the year-ago quarter, the relative numbers were 78, 9, and 13. So there's a reduction in the hardware share, doubling of the hardware share and consistent but slightly downward trend on the services business.

Richard Gardner In terms of your -- the distributors and bars, did you see any strength in any specific product?

Again, the strongest commodity sections were hardware and storage on a sequential and year over year basis.

Richard Gardner Thank you.

Okay, last question.

Last question is from Carl DeYoung from Deutsche Bank. Please state your questions.

Thank you. You mentioned that you're still looking to tap the capital markets for $325 million or more before the end of February 15 (inaudible). I'm wondering, are you focused on doing a straight debt deal or are you considering some type of a hybrid transaction? And also, if the capital markets environment doesn't let you tap the market before that deadline, would you simply just let the springing lean go into effect and then try to do a straight deal later on or would you at that point turn towards a new account receivable transaction of some sort? Thank you.

A couple of things. I think it is certainly our -- as we look at the capital markets we will try to do a bond transaction. If we cannot get a capital markets transaction completed, I think, yes, the liens would probably spring but I don't think we would allow that to stay in place too long because frankly, for the liens that will be put in place, the amount of available capital drawn from that is not an efficient use of capital.

So I think we will work to put some kind of secure ties program in place to give us better available on the assets and at the same time continue to monitor the capital markets so that, if we had a window of opportunity to get a deal completed that we thought was more appropriate we would leave that open as an option.

Thanks.

Okay. As we conclude today's quarterly analysts call, I would like to thank you for your participation. Please don't forget to answer the survey. If you're with us via Webcast. If you have any questions regarding the material presented today please contact me, John Hovis, directly by phone or e-mail.

The slides we have presented today in the Webcast are available on our Web site at www.ir.avnet.com. As noted in our earnings press release earlier this afternoon, Avnet will be presenting at a number of conferences in the next several weeks and you can view the upcoming conference schedule on the Web site just mentioned.

Thank you all for your time. We look forward to being with you again in late April when we report our fiscal 2003 third quarter results. Thank you again. Bye-bye.

Thanks, everybody.

This concludes today's conference. Thank you for your participation.