安富利 (AVT) 2013 Q4 法說會逐字稿

I would now like to turn the floor over to Vince Keenan, Avnet's Vice President of Investor Relations.

Good afternoon and welcome to Avnet's fourth-quarter fiscal year 2013 business and financial update. If you are listening by telephone today and have not accessed the slides that accompany this presentation, please go to our website and click on the icon announcing today's event.

As we provide highlights for our fourth-quarter fiscal year 2013, please note that in the accompanying presentation and slides we have excluded restructuring, integration, and other items including certain income tax adjustments for all periods presented. When discussing organic growth, prior periods have been adjusted to include the impact of acquisitions and divestitures.

In addition, when we refer to the impact of foreign currency, we mean the impact due to the change in foreign currency exchange rates when translating Avnet's non-US dollar-based financial statements into US dollars.

Finally when addressing working capital, return on capital employed, and return on working capital, the definitions are included in the non-GAAP section of our presentation.

Before we get started with the presentation from Avnet management, I would like to review Avnet's Safe Harbor statement. This presentation contains certain forward-looking statements which are statements addressing future financial and operating results of Avnet. Listed on this slide are several factors that could cause actual results to differ materially from those described in the forward-looking statements. More detailed information about these and other factors is set forth in Avnet's filings with the Securities and Exchange Commission.

In just a few moments, Rick Hamada, Avnet's CEO, will provide Avnet's fourth-quarter fiscal year 2013 highlights. Following Rick, our Chief Financial Officer, Kevin Moriarty, will review some additional financial highlights and provide first-quarter fiscal 2014 guidance. At the conclusion of Kevin's remarks, a Q&A will follow.

Also here today to take any questions you may have related to Avnet's business operations are Phil Gallagher, President of Technology Solutions, and Harley Feldberg, President of Electronics Marketing.

With that, let me introduce Mr. Rick Hamada to discuss Avnet's fourth-quarter fiscal 2013 business highlights.

Thank you, Vince. Hello, everyone. Thank you all for taking the time to be with us and for your interest in Avnet.

While sequential growth trends across our portfolio were somewhat inconsistent over the first three quarters of fiscal 2013, we did close out the year on a more positive note as both EM and TS delivered growth at or above normal seasonality and notably this trend was evident in all of our regions.

At EM, where growth was below normal seasonality in the March quarter, our June quarter revenue came in above both expectations and normal seasonality. In our TS business, after a very weak September quarter to start the year, we had three consecutive quarters of normal sequential seasonal growth, and in the June quarter, our EMEA region realized normal seasonal growth after trailing our other regions for multiple quarters.

As a result, Avnet organic revenue in constant currency increased 5% sequentially to $6.59 billion, which was in line with our normal enterprise seasonality for our third consecutive quarter.

On a year-over-year basis, reported revenue increased nearly 5% in constant currency and organic revenue growth just crossed over into positive territory at roughly 0.5%. Gross profit increased 2% sequentially to $771 million while gross profit margin declined 30 basis points with both operating groups realizing a sequential decline.

On a year-over-year basis, gross profit dollars increased 1.6% even as gross profit margin declined 33 basis points, primarily due to the decline in the EMEA region at both operating groups.

The expense management actions we implemented during the year added additional leverage as adjusted operating income grew 3 times faster than revenue sequentially and adjusted operating income margin increased at both operating groups over the March quarter.

In our June quarter, adjusted operating income grew 14% sequentially to $222.7 million and adjusted operating income margin increased 28 basis points to 3.4%. On a year-over-year basis, operating income decreased 4.8% and operating income margin declined 33 basis points as a decline at EM was partially offset by an increase at TS.

Below the operating income line, results were negatively impacted by higher-than-expected foreign currency losses and other items amounting to approximately $6.7 million pretax or approximately $0.03 per share after tax. This compares with the below the line expense of $4.1 million in the year ago quarter and income of $4.1 million in the March quarter. As a result of these factors, adjusted EPS increased $0.08 or 9% sequentially to $0.98.

On a year-over-year basis, adjusted EPS was down just 1% from the year-ago quarter as the decline in profitability was partially offset by the benefits of shares repurchased.

Return on capital employed increased 154 basis points sequentially to 12.1% due to the increase in profitability and an improvement in working capital velocity. After our disappointing September quarter, working capital velocity improved year-over-year for the next three quarters and was a contributing factor to our strong cash flow generation in fiscal 2013.

Cash flow from operations was $267 million for the quarter and $696 million for our full fiscal year. Our cash flow from operations continues to be strong due to our improved profitability combined with our disciplined management of working capital in response to the slower growth environment. For our full fiscal year, working capital declined approximately $90 million excluding the impact of acquisitions and foreign currency, driven primarily by a $241 million reduction in inventory.

Even though we are beginning to see various positive signals on our dashboards, there are still questions regarding the pace of recovery by region and end market. With a substantial majority of our previously announced restructuring initiatives complete, we plan to build on this performance and leverage future growth into improved margins and returns across our portfolio.

Now let's turn to the operating groups. In the June quarter, Electronic Marketing's sequential growth was above expectations with all three regions contributing. Reported revenue grew 4.6% sequentially while organic revenue increased 4.7% in constant currency as compared with our normal seasonal range of flat to up 4%. At a regional level, sequential organic revenue increased 5.5% in the Americas regions, grew 3.3% in constant currency in EMEA, and was up 4.3% in Asia.

On a year-over-year basis, reported revenue increased 5.5% while organic revenue was up 2.6% in constant currency, which represents the first positive year-over-year organic growth in eight quarters. In addition, all three regions grew mid-single digits year-over-year on an organic basis when you exclude the impact of the Americas decision to exit the commercial components business in Latin America.

EM's gross profit margin decreased 34 basis points sequentially due to lingering competitive pressures with all three regions experiencing a decline. On a year-over-year basis, EM's gross profit margin declined 61 basis points primarily due to increased competitive pressure in the EMEA region partially offset by an improvement in the Americas related to our previously mentioned decision, to [age] of the commercial components business in Latin America.

The sequential increase in revenue and benefits from cost reductions initiated during the year drove operating income up 8.2% sequentially to $175.4 million. Operating income margin increased 15 basis points sequentially with improvements in the Americas and Asia regions partially offset by a decline in EMEA. Operating income margin declined 66 basis points year-over-year primarily due to our previously mentioned declines in our gross profit margins in our EMEA region.

While the environment of relatively short and stable lead times in the electronic component supply chain has led to some competitive pricing pressure, the EM team did a good job managing working capital velocity and both improved sequentially and year-over-year.

Since the weak September quarter, EM has improved working capital velocity by 0.5 turns and reduced its cash cycle by nearly eight days with over [9%] of that improvement attributable to a reduction in days of inventory. To put this in perspective, EM inventory turns are at a level last seen in the first quarter of fiscal 2011 when the component supply chain was dealing with long lead times and shortages during the peak of the (inaudible) recovery.

Our effective working capital management helped drive return on working capital up 200 basis points sequentially; however, ROWC was down 185 basis points year-over-year due to lower profitability in our Western regions, partially offset by an improvement in Asia, where return on working capital was up for both the June quarter and the full fiscal year.

While we are somewhat encouraged that our book to bill ratio remained above parity in all three regions for the third consecutive quarter, customers continue to take advantage of the relatively short and stable lead times that have characterized the past year and have placed orders consistently with this ready availability.

Although both returned to more normal seasonal patterns this quarter, it remains difficult to discern any longer term trends given the mixed demand signals by end market. We do expect that if demand in our served markets continues to improve, we will experience some increase in lead times, which has historically led to a recovery in gross profit margins.

Going forward, we will continue to focus on the profitable growth opportunities in each region and expand margins and returns as we enter fiscal 2014.

As a wrap-up to our EM section this quarter, I did want to quickly acknowledge our recent announcement regarding our upcoming leadership transitions for this business. Harley, who in my humble opinion has led our EM team to a position of clear industry leadership, will be handing over the reins to Gerry Fay effective October 1. We will provide a further update on this transition as part of our Q1 call, but for now, we have our focus and attention on our Q1 performance while planning for a smooth and effective transition as we have done for a number of key roles around here over the past two years.

Now I would like to move on to TS. Technology Solutions delivered another solid financial performance as operating income margins and returns increased both sequentially and year-over-year, aided by a third consecutive quarter of normal seasonal growth on the topline and continued attention to expense management.

Reported revenue increased 4.7% sequentially to $2.6 billion and organic revenue grew 5.4% in constant currency as compared with a normal seasonal range of up 3% to 7%. At the regional level, our Americas region grew 6.9% from the March quarter while EMEA was up 3.3% in constant currency and Asia increased 3%. When compared with the year-ago quarter, reported revenue was up 3% while organic revenue declined 2.4%.

On a year-over-year basis, growth in storage, services, and software was partially offset by a decline in servers.

After two quarters of improving gross profit margin, TS gross profit margin declined 25 basis points sequentially due to competitive pressures yet remained flat as compared to their year-ago quarter. The expense management initiated during the year has had a meaningful impact on TS as they were able to leverage their sequential topline momentum by growing operating income 3.5 times faster than revenue.

Operating income grew 16.6% sequentially and operating income margin improved 29 basis points, led by our Americas region and to a lesser extent, our EMEA region. On a year-over-year basis, operating income margin increased 15 basis points with improvements in our Americas and Asia regions partially offset by a decline in EMEA.

In Asia, where we have consciously increased our focus on margins and returns, operating income margin increased 58 basis points year-over-year and return on working capital was up 457 basis points with our ASEAN region driving much of that improvement. This increase in TS operating income margin when combined with an improvement in working capital velocity drove return on working capital up 437 basis points sequentially and 245 basis points year-over-year.

Even though margin levels for our full fiscal year 2013 are below fiscal 2012, the cost reductions and portfolio decisions implemented to focus on profitable operating earnings are having a positive impact as we exit the fiscal year.

In our Americas region, the investments we've made in professional services and converged solutions are resulting in incremental growth and higher gross profit margins. In our EMEA region, where our team has had to deal with a tough macro environment for the past two years, the addition of Magirus has strengthened our competitive position in key technologies including virtualization, storage, and converged solutions, enhancing the value we can deliver to our (inaudible) partners.

As we mentioned at our Analyst Day back in May at the start of fiscal 2014, we combined our reverse logistics and IT asset disposition businesses with TS professional services organization to form a new services organization within TS. This move will allow us to leverage our volume network to enhance the value we deliver to our trading partners and accelerate their growth in these higher-margin segments of IT spending.

While fiscal 2013 started out with a very challenging September quarter for TS, our global team has done a good job responding to market conditions and driving consistent improvement in financial performance. As we told you on our Q1 earnings call back in October, the actions we initiated were designed to get TS back to prior year operating margins by our June quarter. I am proud to report that TS met this short-term goal and is ready to resume progress toward our long-term goals as we enter fiscal 2014 with some momentum in our served markets and a strong focus on our organic growth strategies.

Now I would like to turn the commentary over to Kevin Moriarty to provide more color on our financial position and some reporting changes for fiscal 2014. Kevin?

Thank you, Rick, and hello, everyone. After the disappointing setback we experienced in the first quarter of fiscal 2013, our team has done a good job adjusting to market conditions and closed the year with a strong performance on both the top and bottom line.

As a result of the portfolio actions we took and the actions we completed, we enter fiscal 2014 in a stronger competitive position across our portfolio. In addition to this strong performance, the effective working capital management through a typical 2013 resulted in cash flow from operations of $696 million that strengthened our already solid balance sheet while allowing us to invest in strategic acquisitions and our share repurchase program.

Before I provide guidance, I would like to address some changes that will impact how we report our results in fiscal 2014.

As highlighted at our May 1 Analyst Day, at the beginning of fiscal 2014, we combined our reverse logistics business, Avnet Integrated, with Technology Solutions service offerings into a newly created organization within TS called Avnet Services. Avnet Services will combine existing services organizations into one dedicated global team with a unified strategy to focus on software, lifecycle, and education services that complements our existing solutions and suppliers' service offerings.

In addition, we have decided to combine our regional computing components business into a single global organization within TS called Avnet Global Computing Components. Bringing these regional businesses together under a single global organization will allow us to work with suppliers more strategically, to take advantage of Avnet's global scale and scope including optimizing inventory levels and support resources across regions.

Collectively, this global organization which focuses on commercial hard disk drive, microprocessors, and memory modules generated approximately $1.2 billion of sales in fiscal 2013.

As a result of these changes, roughly $450 million of annual revenues that have been previously reported in Electronics Marketing will be consolidated within TS beginning in fiscal 2014.

Finally, as previously communicated, beginning in fiscal 2014, we will exclude the amortization of intangibles from our adjusted numbers, consistent with the process followed by many technology companies.

In fiscal 2013, amortization of intangibles totaled $32.3 million, which would represent approximately a $0.16 positive impact on adjusted earnings per share if it has been excluded. For fiscal 2014, we currently expect to amortize roughly $32.5 million of intangibles from prior acquisitions and approximately 80% is related to acquisitions in Technology Solutions, with the balance attributable to Electronics Marketing.

We have also provided some historical information related to the amortization of intangibles in the slide presentation and in the CFO review issued earlier today to assist with your analysis. These three reporting adjustments are reflected in the outlook provided in our press release and we will account for these items when reporting our adjusted results in fiscal 2014.

Now let's turn to our outlook. Looking forward to Avnet's first quarter of fiscal 2014, we expect EM sales to be in the range of $3.7 billion to $4 billion and sales for TS to be between $2.35 billion and $2.65 billion. Therefore Avnet's consolidated sales are forecasted to be between $6.05 billion and $6.65 billion.

This sales guidance takes into account the previously mentioned transfer of some services in computer components business which I previously mentioned from EM to TS amounting to approximately $100 million for the current quarter. When adjusting for these transfers, acquisitions and the impact of foreign currencies, the midpoint of guidance for EM and TS would represent a sequential growth rate of negative 0.9% and negative 8.4% respectively as compared with the normal seasonal range of plus 1% to negative 3% for EM and negative 5% to negative 10% for TS.

Based upon that revenue forecast, we expect first-quarter fiscal year 2014 earnings to be in the range of $0.83 to $0.93 per share. This above EPS guidance does not include any potential restructuring charges or any charges related to acquisitions and post closing integrations and as previously discussed, now excludes the amortization of intangibles.

The guidance assumes 139 million average diluted shares outstanding used to determine earnings per share and an effective tax rate in the range of 28% to 30%.

In addition, the above guidance assumes that the average euro to US dollar currency exchange rate for the first quarter of fiscal 2014 is $1.32 to the euro. This compares with an average exchange rate of $1.25 to the euro in prior year first quarter and $1.31 to the euro in the fourth quarter of fiscal 2013.

With that, let's open up the line for Q&A. Operator?

(Operator Instructions). Sherri Scribner, Deutsche Bank.

Thank you, I just wanted to get a sense of the seasonality and the expectations for the September quarter. It looks like for EM you are expecting seasonality to be at the low-end of the range. I assume that's primarily related to the upside this quarter and then looking at TS, it looks like the expectations for seasonality to be at the higher end of the range.

Can you give us some detail on what you are expecting there and if I'm right in terms of the EM business?

Sherry, this is Rick. I think we said that for TS it would be normally down 5% to 10% and Kevin reported that if you adjust -- with all the moving parts they are about down 8.4% I think at the midpoint. So actually TS might be a little below that midpoint, whereas EM was closer to it overall.

So basically the general outlook for our business is pretty much in line with quote unquote normal seasonality and we have had certainly some -- we've talk about the mix signals, there have been some encouraging ones along the way. The positive book to bill over three-quarters of EM, the fact that it's geographically balanced across all three regions, the fact that we have now had three normal sequential seasonal performances on a growth basis for TS -- these are all encouraging signs.

But at the same time as you know, and have heard from many of our -- not only competitors but also some of our partners in the overall tech world, there's been some mixed signals regarding the health of the IT spending, the recovery in the industrial -- broad industrial markets we serve, etc. So all of that is factored into what we put together for you there.

And Phil and Harley, if you want to add any particular color from performance or computers, we'd go from there, but hopefully that gives you a little more color commentary on what we are trying to do.

About your businesses -- Phil, thanks, Sherry. Just at a really high level when we are only looking a quarter out, we are feeling pretty confident. Asia Pac was definitely normal seasonality. The Americas is going well so we feel pretty good there in addition and one that we are just pleased with the progress we are making, very pleased as a matter of fact with the progress we are making in Europe.

We are still just a bit cautiously optimistic with some of the outlook in Europe, so if there's any issue with TS as being off a bit, it's more around Europe than it is anything else.

Okay, just quickly on the operating margins, we are not really in the targeted range yet. I know that we need to see some growth to get those operating margins back, but do you anticipate that we will see that in fiscal 2014?

Yes, Sherri, if you look at the two businesses here, so short-term goal for TS was to get back on year-on-year margin by the June quarter, which they were able to achieve. Now we've got to get back to the long-range goals in that range of 3.4 to 3.9. With our EM team, Harley and team, we were trying to get back to at least 5% by the June quarter, came up a little short but obviously we are looking to continue to set our sights on getting back in that range.

Growth would help, so on a down quarter heading into Q1 flattish to slightly down or up, a little bit of leverage challenge there but I believe we are looking for the second half of FY14 for EM to get back into the 5%, minimum 5% range.

Okay, great. Thank you.

Mark Delaney, Goldman Sachs.

Great, thanks very much for taking the question. I know one of the goals that you articulated at the Analyst Day was to focus more on margins and so I'm trying to just get a better sense of some of the steps the Company can take to improve margins, given that gross margins for our June quarter are at one of the lowest levels in quite a long time.

So maybe as a scenario if you just assumed seasonal growth rates across the entire business from here, would you expect to eventually get back to your target operating margin levels or are there further steps that you need to take either in terms of design in work or cost-cutting or something else that will get you back to your target at margin levels?

Mark, I'll just ask Kevin to jump in but I will tell you, if we have had normal seasonal patterns from here, we feel good about the trajectory back towards those ranges we've spoken about. There are still wildcards, what's going on with gross margin, what's going on with the lead times, what goes on with the year-end IT spend and the budget flows, etc. So lots of moving parts but the growth will certainly help.

We don't rely exclusively on that. I think at this point what we are saying is that the contribution from the expense reductions that we've talked about in previous quarters, we have expense management always ongoing, reallocating resources, trying to align resources to growth, trying to move on the design win mix of our business. All those issues are normal course of business experience management, but there is at this particular time, we are not anticipating further specific expense reduction as part of the equation, but that lever if needed will always be there.

I don't know, Kevin, if you want to talk about the rest of the levers.

Thanks, Rick. I would just amplify, Mark, that obviously continue to improve SG&A efficiency (inaudible) see dollars faster than expenses and continue to optimize from our acquisitions. Obviously M&A focus on higher margin opportunities, effective portfolio management with constant evaluation of appropriate actions taken. There was a point brought up earlier about the sustained economic recovery and [birth] is also important. But I think that's kind of our key tenet as we look at how we get back to the targeted goals.

Okay, thanks for that. Then for my follow-up, I'm hoping you can be a little bit more specific on some of the mix signals that you are seeing in terms of bookings and customer conversations. I understand that the book to bill was positive across all three regions within your EM segment this past quarter.

When you think about your guidance for next quarter within EM, are you actually seeing anything impact your actual order rates that gives you pause? Maybe there's been a decline in actual orders or are you just trying to factor in some general hesitancy when you speak with your customers?

Harley, do you want to jump in?

Mark, this is Harley Feldberg. Let me comment a little bit as well as you kind of took us a little bit back to I think the heart of Sherri's question as well.

When we gave our revenue guidance for Q1 of I believe down 0.9%, just below 1%, our intent was to send a message that we view it as normal seasonality. So our records suggest normal seasonality minus 1 -- excuse me -- plus 1 to minus 3. So the intent of that number was to suggest normal seasonality. I just want to be clear on that. You may have a different view of the numbers, but that was our intent.

There is really nothing that I can give you that has changed our view for the long-term as reflected by the positive book to bill in all regions. But I was reading an example that might be a good one to depict mixed signals this morning. Many of you may have seen the release out of Europe on the PMI numbers for Germany and I haven't read that in detail as it just came out this morning.

But if you look through it, what you will see there is an interesting dilemma in that the overall number looks encouraging but when they dissect it, what they said was that the majority of the growth in this case was for domestic spending. And their export-related data was mixed specifically out of a concern for slow down in China and obviously the balance in the [Eurozone]. But for me that's an example when we say mixed signals, there is a positive in PMI but one level down you see a mixture of what the [data is].

Great, thank you very much.

Brian Alexander, Raymond James.

Okay, thanks. The first is just a clarification. To get to your September outlook, Rick, are you assuming EM margins slide back to around the 4.2% level given the regional mix shifts that you're likely to see in the quarter with Asia becoming the bigger piece in September?

And then to get back to 5%, which I know we've asked about already, but are you counting on any gross margin recovery to get there or is it all going to be expense leverage? If it's really expense leverage, what quarterly revenue for EM do you think you need to achieve to get back to that level? It seems like maybe $4.3 billion, $4.4 billion a quarter, but just wanted to confirm that. Thanks.

First of all, Kevin, on the sequential operating margin expectations for EM there, off of -- again midpoint of 1% down on the revenue. Is it roughly flattish, Harley?

Roughly flattish is what we forecast.

Yes, and then Brian, it's not 100% on the expenses. We will look at all the levers. And at this point the expectation is that the margin erosion we've seen is abating a bit. And as we have said historically we've seen in the past as momentum picks up generally lead times start to move out and at that point we generally tend to see a recovery in the gross margins.

Now we haven't factored in a major move there along the way but we have factored in some expectations regarding not continuing to have a major decline in the deal where otherwise that would probably put more pressure on the expenses.

Then from the quarterly revenue again the midpoint as Harley said there are down 0.9%. I think that all of that commentary is based on that expectation of revenue and the upside of course should have very rich drop through which would help with the leverage and the expansion of the margin expectation.

I guess the follow-up, why do you think you are seeing the additional margin pressure sequentially in EM if your revenue basically came in above seasonal and lead times were stable through the quarter? Is that typical for this part of the cycle or is this atypical?

I will ask Harley to chime in, Brian, but I think it's that last part of your statement that has our attention, which is that lead times have remained stable. The fact that they are short, stable, and predictable encourages customers to order on a much shorter cycle there, less longer-term supply chain engagements and there's less complexity to try to sort through on their behalf.

I think that that is the issue that at this point in the cycle normally we see lead times start to move out yet that's not what we are seeing at this point.

Harley, do you have anything to add there?

Thank you, Rick. First off, I would be a little bit more assertive than Kevin was, maybe considering my personal circumstance I can be a bit more of a risk taker. But I actually think it is possible for us to increase albeit modestly, increase both gross margin and op margin even in the first half of our fiscal year, which is not typical. I say that because of a combination of many different factors from revenue de-selection to expense synergies to a belief based on our booking activities in our last couple quarters. That we are starting to see the beginning of a healthier environment in the broad industrial base where we do tend to make our richest margins.

The bookings tell us that the PMI data in Germany to a degree reinforces that, but it didn't really impact our June results to a substantial degree. So June backwards is obviously factual. June forward is somewhat more subjective.

The indicators do suggest to us and reinforce that we are seeing an improving environment in the segment of the market that we need to really be stronger to allow us to raise gross margins. So in addition to Rick's point about lead times, those two factors, continued improvement in the broad industrial base and the market showing growth, I think the total market showed some growth you might've seen back to positive year-on-year territory in the June quarter. Those two factors should contribute to an ability for us to enhance our gross margins and of course, the drop through would be significant, as Rick said.

Thanks for the risk-adjusted answer.

Matt Sheerin, Stifel Nicholas.

Thanks, I just want to go back to the gross margin issue again because it certainly looked a lot tougher than we had expected and certainly compared to Arrow. They have certainly been seeing similar pricing pressure. But it looks like it got incrementally worst for you.

Then, Harley, you used the term possibly deselecting revenue and being obviously more careful about managing your margin versus volumes, and I know there's a fine line there but are you looking at that in any specific area? Then as part of that, as you see backlog building -- not lead times -- but backlog seems to be a little bit firmer across the supply chain, wouldn't that help pricing at all?

It is my belief that that backlog, obviously turning into shipments, should improve pricing if indeed, as you heard Rick say earlier, one of the byproducts of that is expanded lead times. It is very difficult to enhance gross margins with very low lead time environments.

Now I am of the opinion that the improving environment we are seeing today is primarily driven by how low inventory overall is with the aggregate supply chain. So in many ways, I believe that's what driving the improved booking environment and should continue to show modest growth over the next couple of quarters overall.

You know, the gross margin, I'm not sure I agree with your data on -- your comparative data to us and our largest competitor, but in that neither of us I believe publishes group gross margin. I'm not sure how to validate that. I'm not sure that data is accurate as far as gross margin.

It has been a difficult situation. Again as I've said multiple times, we need that growth to return in the broad industrial base. We are seeing encouraging signs so I do see a more positive environment moving forward.

One area of gross margin if I could that got a lot of attention was Europe and I think we singled it out as well as in our comments? And specifically EM, as I think many of you are aware, that is the region where we as Avnet have the largest share. So we have seen quite a bit of aggressive pricing going after -- legally going after us as the largest shareowner in that region, and that does make for a highly competitive market. Growth, of course, will help alleviate some of that.

Okay, thanks for that detailed answer. I appreciate that. And on the shift of some of the commercial components business from EM to TS, it seems like every few quarters you swap business back and forth. Is this commodity PC-related businesses like disk drives that don't really belong in EM, and is there still a significant embedded component business that's left there?

Matt, it's Rick. So we don't mean to confuse you. The component -- this computing components business, which is primarily microprocessors, hard disk drives, memory, it had actually been -- in Europe and Asia consistently been in the TS business. We made it part of the embedded business here in the Americas under EM, and that's the last portion that is now coming out of EM under this now Avnet global computing components umbrella.

All of those components that are sold as part of embedded solutions, OEM systems, etc., that remains part of our embedded systems business. So yes, you're right; this is strictly the volume commercial-oriented sale of those particular commodities and products.

Okay, so $100 million is coming out of North America this quarter, approximately?

Approximately.

Okay, so that leaves you -- you mentioned a $1.2 billion or $1.4 billion business in the commercial components. Could you give us an idea of margins? I imagine it's well below margins on both sides of your business, but could you give us an idea there and what kind of targets you have that are reasonable targets for you to reach in that business?

So you're right, Matt, it's $1.2 billion. It runs lower gross margins than our sort of core businesses on either side. It runs marginally less operating margin profile. And generally speaking, particularly the business we are focused on retaining has an outstanding return profile.

We obviously, for lower margin business, which is higher risk, we obviously set the bar higher from a return expectations point of view. And by the way, that same analysis over the past couple years has led to some of these discussions and decisions around revenue de-selection.

Okay, all right, thanks a lot.

Jim Suva, Citigroup.

Great, thank you very much. In your prepared comments, you mentioned strength in storage, services, and software of year-over-year growth. Can you help us quantify some of the percent on that that you are seeing? And then maybe how that compared to last quarter or sequentially? I'm just trying to figure out if some of those buckets are accelerating, still growth stable, or growth that's decelerating?

Jim, this is Phil. How are you doing? Clearly the storage has been the story of the year I think frankly for many of us and continues to be for us. On a year-on-year, let's just say it grew in the higher teens from a revenue standpoint, so very, very positive.

We are seeing in services -- and some of this is resold as well as Avnet branded although it's not all included in the numbers yet. We are seeing really good growth there as well in the -- let's call it the mid to single high -- high single digits. Okay and software continues to grow nicely.

Another way to look at it is we have a stated strategy to continue to outgrow or increase our diversification in our portfolio around services and software. If you look at our mix today, the question hasn't been asked and I think it helps to answer your questions. Hardware is roughly 59% of our total mix today, whereas software and services makes up the balance at 40%, which is a pretty significant shift from several years ago for sure.

It's not the emphasis on hardware by any stretch but it's more of an emphasis on really driving the value add around the hardware.

Great, and then as a quick follow-up, relative to say last quarter, I believe last quarter each of those three buckets were also pretty strong. Are we seeing an acceleration in some of those three buckets or still kind of stable in cost of growth or deceleration? Just kind of gauge about the magnitude and the change?

I would say it has been pretty consistent I think is the best word to use there, Jim. Particularly storage, keep in mind, storage today if you look at storage, (inaudible) storage is driving a lot of software. If you look at the acquisitions that a lot of our storage providers have made, a lot of it's in the software space so it starts to become a bit of a mix.

When you look at storage in general, that has been very, very consistent and of course we have a focus not only on the Avnet -- not only on resold services but the Avnet branded services, which we will continue to elaborate on in the future.

So I would say consistent with be the word, very consistent, very steady as we continue to drive the mix in portfolio.

Great, thank you so much for the details.

Steven Fox, Cross Research.

Thanks, good afternoon. Just two questions from me. First of all on the $100 million per quarter in revenues that basically shifts between the two businesses, what's the operating profits associated with that?

Then secondly, I thought I heard you talk about some gross margin pressures in TS, but I wasn't clear on what was driving that, whether it was mix or actually something in the marketplace, etc. If you could just sort of expand on that, I'd appreciate it.

Steve, let me start and I will turn it over to Phil on the gross margin issues in TS. On the $100 million of revenue transfer, I think we just talked about that this components business is generally characterized by lesser gross margins than our core businesses. But I think I used the term marginally below what you would expect from some of our businesses across the portfolio. Then the offset there of course is the exciting returns that keep us interested in this business.

So I don't think we quantified exactly but it's not a 50 basis point or 1% operating business. Somewhere in between there hopefully you can try and figure some of that out.

Phil, on the TS gross margin?

Yes, Steve, we did mention in the script and really margins overall have been moving in the right direction. Where we had a bit of a headwind this past quarter was in Europe more specifically. It's specifically to a region. We can't really say it's specific to a product mix, frankly. I think it is just -- and we've been making progress in Europe, so I want to make that input as well. In the last several quarters, just saw bit of a setback this past quarter.

I don't think there's anything other than the market in general in Europe that has been struggling with growth and with that you get a bit more competition in the marketplace going after the business that's there, but there's nothing specific more than that. We feel confident moving forward we will be fine.

Okay, just a follow-up on that, if it's regional in nature, are you comfortable saying that your product if you were -- I know you sell in a bundled nature in a lot of cases -- but you're saying that there are no sort of gross margin pressures on either your products or services on an individual basis. But when you get the deals in Europe, you have to give up a little bit more in aggregate?

Phil Gallagher It's probably not a bad summary. I'd say that's probably not a bad summary. We are not seeing an across the board product issue in margins. A lot of these big deals, as you know, that come down on the TS side and the enterprise are project-based. They can be really large projects and they can get pretty competitive.

I didn't mention we did have an increase in Europe in the past quarter in processors and some of that but it was relatively minimal to the grand scheme of things.

Thank you very much.

Lewis Miscioscia, CLSA.

Great, could you give us any kind of color on the slowdown or negative growth in the servers or whether you think that that's going to go out X number of quarters? I guess tied to that in the virtualization market, I think a couple of -- or the biggest virtualization company had weak transactional virtualization growth so you could comment that you are also seeing that.

Let me make a comment on the servers. We did note in the script that we saw some modest negative growth in the servers in total but frankly, we don't see any major concern on that moving forward. As you and all the analysts know, the servers in general have become a lesser part of the overall business and particularly the industry standard servers; it's very competitive and could typically not meet the margin hurdles.

So our focus is to continue to drive value around the server-based marketplace, continue driving the converged infrastructure opportunities we have but overall -- and again when I say modest, in the grand scheme the negative growth was not that great.

Ironically actually sequentially again modestly, we were actually up in proprietary, so it's kind of interesting. But in general in total servers, we were down a bit.

And the second part of the question was virtualization? Actually quarter-on-quarter and year-on-year, we continue to see growth in -- and I'm not talking any specifics at prior -- but in virtualization space we actually saw growth -- continued growth.

Is there a decent expansion going with virtualization outside of the market leader or is it mostly the market leader you are referring to?

Again, I don't want to get into any supplier. I would say the market leader for us is still the market leader. But there's certainly guys coming into that space, as you alluded to, that are trying to be a little bit more disruptive and we are obviously working with those suppliers as well. We have them on the line card.

Shawn Harrison, Longbow Research.

A lot of clarifications, I guess. Going back to the restructuring program, are all the savings in the numbers right now or how much incrementally if not you would see maybe into the September quarter?

Shawn, it's Kevin. The previously announced program there in the fourth quarter, the $40 million, that was an annualized number. So it is the $10 million per quarter, roughly half or $5 million we recognized in the fourth quarter. So the actions are substantially complete so we would expect roughly a $5 million carryover benefit in our first quarter.

Okay, second maybe I missed this question but the obligatory book to bill ratios through July and August, how have they been at EM regionally versus kind of what you typically see this time of year. I guess that's for you, Harley.

Book to bill has remained encouraging and positive in all three regions through what is essentially five weeks of the quarter.

Okay, then just two quick follow-ups. The inventory turns were really good this quarter. Does that continue?

And then second, I believe there was an acquisition announced recently, MSC or MCS, excuse me, but is in the guidance? And if not, when do you expect that to close?

Okay, yes, the first question was on inventory velocity and in a way I guess an additional point back to our conversation about what's happening in the market. The inventory velocity that we achieved in June was quite encouraging and I give the team a ton of credit for it.

In candor, part of it is driven by the nature of the business that what has driven the business over the last year or so. Which as we have talked in the past to a higher degree than is typical had it been from high-volume fulfillment type of business and all the large channel partners have mentioned they have seen that.

Therefore, that type of business warrants much higher velocity. Indeed, as we believe we should start to -- we should continue to see improvement in our broader industrial base over the next couple of quarters, then it's likely that velocity will come down a bit. Our goal in the September quarter will be to match our revenue growth with a bit of additional inventory looking for similar velocity.

But again, that velocity -- the point I want to make is that velocity is also impacted by what customer sets are driving it. So I guess in a nutshell, would I trade a little bit of velocity for higher margins? I think the answer to that is clear.

Relative to the acquisition, MSC Bleischman was the company you were referring to. We are very excited about it. Due to the somewhat complicated nature of the way we are acquiring the company, Kevin correct me if I'm wrong, but I don't think you will see anything from us from a revenue perspective this year, this calendar year. There should be nothing in your guidance for this quarter and next.

Very helpful. Thanks, Harley.

(Operator Instructions). Amitabh Passi, UBS.

Thank you, just a couple for me. Kevin, can you just clarify your September quarter expectations for gross margin, OpEx, and other expense at the corporate level?

Yes, on OpEx I will start there. When you look at our first quarter, we expect SG&A to increase sequentially roughly $10 million of it [is up] and that's composed of a number of different items. One is the sequential impact of our stock-based compensation. That's a normal T1 item for us and that's roughly $11 million when you look from Q4 to Q1 of an increase.

In addition to that, we have an FX headwind of approximately $2 million to $3 million. And in addition, a sequential increase of cost tied to a recently completed M&A of roughly $1 million or $4 million annualized. Now these increases are reduced by some of the Q4 restructuring actions, that carryover benefit I previously mentioned is roughly $5 million.

So we net all that out, we are expecting a sequential increase of approximately $10 million on the OpEx line sequentially.

Then anything unusual on the other expense line?

Not that we are planning on, no.

Then just one follow-up from me. Just any updates on your appetite for buybacks. I think you have really not participated the last couple of quarters. I'm just curious how you are thinking about the capacity that you currently have available?

It's Kevin again. I will start and -- you are correct, we did not buy back any shares in Q4. We do still have the approximately $224 million remaining on the previously announced program. As we have highlighted in the past, we have a [distant little perch] on the buyback and we buy once we see value based on our intrinsic value. We considered -- we will continue to evaluate the price relative to our internal projections and we will continue to follow our disciplined approach.

I would just add, we have had a schedule in place throughout the past [two] quarters and based on all the new information which we've now shared with you today, etc., we will take a look at our own internal analysis of that projected intrinsic value. Probably adjust our estimates accordingly and let you know next quarter if we hit and trigger anything along those lines.

But we do like, as Kevin said, we like investing in our equity when we feel there is a very compelling value there and just like any other M&A, if you want to think of it that way. Think of it as internal M&A and that's the way we approach it.

Okay, got it. Harley, all the best.

David Ryzhik, Brean Capital.

Hi, guys. Thanks for taking my question. Going back to storage, do you see any change in the tone of demand ahead of new products from the likes of EMC and NetApp?

Can you give me more clarification on that?

Well, in anticipation of for example, potential -- the refresh with the VNX family for EMC, any change that you are seeing right now in demand ahead of that?

No, not specifically. I think EMC getting big into -- net app is investing in flash SSD, storage is coming on strong for them. They make a lot of investments in that space, but nothing specific to your question.

Do you think that overall there's pent-up storage and/or data center infrastructure demand in the second half?

That's a tough call. We really look at our -- we really look at it quarter on quarter since everything is so project-based. We have not seen -- some of our suppliers have announced that they've seen push outs at the end of the quarter. We've seen the cycle getting a little bit tougher and the sign off at the end of the quarter getting a little bit tougher, but we have not seen a big carryover quarter on quarter.

That said, in polling the value-added resellers and just doing a roadshow not too long ago, there is optimism in this quarter. Around both data center, storage networking, that is -- we are cautiously optimistic about but we don't really look beyond the September quarter at this point in time.

Our July looked okay for us, so that's about how we are seeing it right now. But I wouldn't say there's big pent-up demand.

Dave, I would add -- this is Rick. After two quarters in a row of hitting essentially normal seasonal sequential guidance, there wouldn't be any indications to us there that there's a signal of pent-up demand. But it is curious to us, as Phil mentioned, that some of our key OEM partners have mentioned on their March and June quarter calls that they saw some signs of delays and push outs, etc. By the way, very similar to the commentary we shared back in the June/September quarters of 2012.

So we are noticing the same set of comments and phenomenon but whether it's a midmarket versus large enterprise issue, we are not sure. But for our dashboards and what we are looking at, no indications of quote unquote pent-up demand as we close out the year.

Great. Thanks, guys.

This is Kevin. I just want to clarify one thing on the MSC acquisition. It really ties to the regulatory approval of the transaction in terms of whether or not we will see any sales in the second quarter or not. So again, we will keep you updated and it really gets to the regulatory approval of the transaction.

Thank you. Since there are no further questions at this time, I would like to turn the call back over for any closing comments.

Thank you for participating on our earnings call today. As we conclude, we will scroll through the non-GAAP to GAAP reconciliation of results presented during our presentation, along with a further description of certain changes that are excluded from our non-GAAP results. This entire slide presentation including the GAAP financial reconciliations can be accessed in downloadable PDF format at our website under the quarterly results section. Thank you.

Thanks, everybody.

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time and thank you for your participation.