PC Connection Inc (CNXN) 2016 Q3 法說會逐字稿

Good afternoon, ladies and gentlemen, and welcome to the third-quarter 2016 Connection earnings conference call. My name is James, and I will be the coordinator for today.

(Operator Instructions). As a reminder, this conference call is the property of Connection and may not be recorded or rebroadcast without specific permission from that Company.

On the call today is Tim McGrath, President and Chief Executive Officer, and Bill Schulze, Interim Chief Financial Officer and Corporate Controller.

Any statements or references made during the conference call that are not statements of historical fact may be deemed to be forward-looking statements. Various remarks that management may make about the Company's future expectations, plans and prospects constitute forward-looking statements for the purposes of the Safe Harbor provisions under the Private Securities Litigation Reform Act of 1995.

Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the risk factors section of the Company's annual report on Form 10-K for the year ending December 31, 2015, which is on file with the Securities and Exchange Commission as well as in other documents that the Company files with the commission from time to time.

In addition, any forward-looking statements represent management's view as of today and should not be relied upon as representing views of any subsequent date. While the Company may elect to update forward-looking statements at some point in the future, the Company specifically disclaims any obligation to do so, even if estimates change, and therefore you should not rely on these forward-looking statements as representing views of any subsequent to today.

During the call, GAAP and non-GAAP financial measures will be discussed. A reconciliation between the two is available in today's earnings release and at the Company's website.

Today's call is being webcast and will be available on Connection's website. The earnings release is also available on the website.

I would now like to turn the call over to Tim McGrath. Please proceed, sir.

Good afternoon, everyone, and thank you for joining us today to review the Company's third-quarter financial results. Q3 was an exciting time for the Company. We rebranded to Connection, made good progress on the integration of Softmart and purchased GlobalServe. In addition, the Company achieved record net sales and gross profit in Q3.

We increased earnings per share due to 4% sales growth and a significant improvement in gross margin percentage. The third quarter had strong new order bookings but lower-than-expected revenues due to larger projects pushing into Q4. According to the industry analysts and some of our major suppliers, overall demand was stable in Q3, with the exception of some targeted strength in public sector.

In addition, we saw a reduction in large deals in the quarter. We also experienced strong bookings in public sector and have a large backlog, as many of the larger deals did not ship in Q3.

As we review our results, please note that unless otherwise stated all of our third-quarter 2016 comparisons are being made against third-quarter 2015. We also have a full quarter of Softmart results in Q3 of 2016 based on the acquisition date of May 27.

Consolidated net sales increased year over year by $28 million, or 4.1%, to $708 million. Note that the legacy Softmart business contributed approximately $42 million in net sales this quarter. Gross profit dollars in the quarter increased by 9.5% to $97 million. Consolidated gross margin increased to 13.7%, a substantial increase over the 13% in Q3 2015.

SG&A excluding special charges increased this quarter to $73.2 million from $66.2 million. The increase was due to higher variable compensation from increased gross profit, three months of Softmart SG&A, and the hiring we have done over the last year with both sales and technical areas.

We continue to take a hard look at SG&A, given the softer IT spending environment for service and storage. And since June 1, we have implemented over $7 million in annualized cost reductions from all areas of the Company. We continue to look for ways to make the business model more efficient, which will enable us to invest in mission-critical growth areas of the business.

Diluted earnings per share increased from $0.49 to $0.51. Adjusted earnings per share, including special charges for acquisition, rebranding, restructuring and acquisition-related amortization, increased from $0.50 to $0.54 per share.

We acquired GlobalServe on October 11. GlobalServe's procurement engine, OneSource, provides real-time reporting, including Web-based access to complete dashboard and transaction information on IT assets as they move through the supply chain and the IT lifecycle, combined with a network of nearly 500 partners and 25,000 OEM-authorized service professionals in over 170 countries.

The OneSource system is designed to offer Connection's customers consistent supply chain operations and competitive procurement through a centralized purchasing portal. We believe this global capability gives us competitive advantage and will enable us to better serve our customers.

Most of our large customers have international needs, and now we have -- and we own the industry-leading tool, which will simplify our customers' global IT procurement and reduce costs. We expect that this will be an important component of our future growth strategy.

I would now like to review the status of the Softmart acquisition, which closed on May 27. We continue to make good progress on the integration. Softmart's Microsoft business, combined with the existing Connection business, makes us one of the top Microsoft partners. Softmart has created a strong Microsoft service practice, and together we have developed software landscape optimization tools. This process helps customers streamline and optimize their software usage and licensing requirements. We believe the combination of these processes and tools gives us some of the deepest capabilities in the industry for software licensing, deployment and management.

Softmart has also attained Tier 1 Cloud Solution Provider status with Microsoft. This gives us more robust cloud and cloud services capabilities in addition to the ability to provide cloud offerings and services electronically. This is an important transition as our customers change the way they procure and utilize cloud services.

While there is still work to be done, we are making good progress and expect that the integration will be complete by December 31. We're optimistic that in 2017 we will see increased sales from Softmart's existing customers as we go deeper and wider with those accounts.

In September we launched our new brand, Connection, and we changed our stock ticker symbol to CNXN. This brand name reflects our mission to help people connect with technology in new and innovative ways from the PC to the data center. As a leading national solution provider, we provide end-to-end technology solution which enables customers to enhance growth, elevate productivity and empower innovation.

Our new brand reflects the full scope of our capabilities, providing customers, suppliers, investors and employees with one cohesive brand that pulls together all of our subsidiaries.

And now I will turn the call over to Bill Schulze to discuss the results of our business segments and financial highlights. Bill?

Thanks, Tim. Sales for our SMB segment, which serves small to medium-sized businesses, increased by 12.5% to $302 million. This includes all of Softmart's Q3 revenues, which were approximately $42 million. As we transition the Softmart sales force into one of our three existing subsidiaries, Softmart revenues will begin to flow through these areas.

SMB gross margin in the quarter was strong, as it increased by 29 basis points to 15.4%, led by solid performance in advanced solution categories such as software and services. Sales by our large-account segment decreased by 4% due to large projects pushing into Q4. The large-account segment had to compare against a very strong Q3 2015, which saw a 20% growth. Gross profit dollars, however, increased by almost 8% as we continue to focus on driving gross margin improvements.

Gross margin in Q3 was 13.34%, a significant increase from 11.92% last year. Sales in the public sector segment, which include sales to government and education customers, increased 2% to $173 million. Gross profit dollars for the public sector were also up over last year.

Our health care vertical, which includes customers in all three business segments, increased revenues by 2% and generated gross profit growth of 11% due to strong gross margins. We continue to focus on connecting health care customers with customized solutions in this specialized vertical, which is projected to be a growth area for the foreseeable future.

In Q3, we incurred $1.1 million of acquisition, rebranding and restructuring costs. This charge includes costs associated with the acquisition of GlobalServe, the rebranding of the Company to Connection, severance related to internal restructuring and duplicate costs incurred in our Chicago area office move. There will be additional restructuring costs incurred in Q4 as we continue to rationalize our expense structure. In addition, we will break out amortization of acquired Softmart intangible assets each quarter. Q3's amortization totaled $293,000.

Overall, our bottom-line performance exceeded the prior year. Earnings per share, excluding one-time charges and amortization of acquired intangibles, increased to $0.54 per share, up from $0.50 last year. Trailing 12-month adjusted EBITDA increased to $94.8 million.

Our balance sheet is in good shape. The Q3 2016 cash balance of $67 million is higher than Q2's balance of $47 million due to good profitability in the quarter as well as lower working capital requirements.

On a year-to-date basis, we have generated positive cash flow from operations of $32 million prior to the Softmart acquisition of $34 million and a special dividend of $10.6 million. Our goal with excess cash is to maximize shareholder value while maintaining financial flexibility.

We continue to assess M&A opportunities and other capital allocation such as dividends and stock buybacks. As a reminder, we still have $17.8 million in previously authorized share repurchases.

I will now turn the call back over to Tim to discuss current market trends.

Thanks, Bill. Our third-quarter results reinforce the importance of product mix and advanced technologies on our gross profit margin. We believe our plan is on track and that our strategy is working. Despite the softness in the overall IT spending, we are able to produce strong gross margins and therefore grow our earnings per share.

Looking ahead, current industry growth projections for the balance of 2016 and 2017 are in the 3% range. Our goal is to grow faster than the market by taking share. The large-account subsidiary will be comparing it against a record-setting performance in Q4 of 2015, which included several large software deals.

We are also focused on advanced technologies and investing in complex areas in order to help our customers drive their business outcomes through IT investments. For example, our software business continues to grow, including cloud, virtualization and security. We are seeing growth in converged infrastructure, and we also continue to target vertical markets such as health care, retail, financial and manufacturing.

We believe our business model is more relevant than ever as we help our customers navigate through technology that is more complex and more disruptive.

Our acquisitions of Softmart and GlobalServe have expanded our capabilities and increased our customer count and sales headcount and enhanced our automated sales tools. Our balanced portfolio of customers, suppliers, products and solutions has helped us to deliver solid results. Our goal is to continue to deliver sustained and consistent performance.

We will now entertain your questions.

(Operator Instructions) William Gibson, ROTH Capital Partners.

Tim, one of the things I noticed and it seems to be pretty consistent strength in the notebooks and mobility throughout this year. What is behind that strength?

Mobility has been a focus area for the Company, and we have really good traction there. There are a number of drivers for that as we look at the changes in our industry, and it has continually been our top category. So, we're optimistic that as you look at Gartner's third platform and you look at mobility in the workforce, we're optimistic that that trend is going to continue for us.

And does Windows 10 play into that?

Windows 10 plays into that as well as into the desktop arena. And we are seeing adoption of Windows 10, and we think that that is going to continue. We think with some of the newer technologies and the newer chipsets, as well as the security offered by Windows 10, that we are going to see good adoption of that.

Good. And then you mentioned the tough environment for servers and storage. Is that the flip side of people going to the cloud?

The cloud is certainly a driver there. As you know, it can be a headwind and a tailwind. We benefit from cloud with product offerings like Microsoft Azure, and we also benefit when customers need a hybrid or a private cloud solution. But for the public cloud adoption, we are seeing workloads move off premise. And when it comes to server storage, certainly a headwind.

Okay. Then just lastly, regarding the Connection name, how is that resonating with the customers? Don't take this wrong, but it almost sounds like a dating site to me.

(laughter). Actually, that's a good question. As we are in our 35th year, moving to a brand like Connection was something we pondered for quite a while. For years, customers referred to us as Connection. But from our individual subsidiaries to our customer base, they all felt so strongly that we represent so much more than just PCs. While PCs are a important component of what we do, we do so much more beyond that. We just felt that it was the time.

When you think about connecting customers to off-premise solutions, connecting customers to data center solutions, connecting customers really across the board, we are so much more relevant than just PC. We thought it was the right time to change. And across the board, we have had very good reviews from that.

All right. Thank you.

(Operator Instructions). Anthony Lebiedzinski, Sidoti.

After several years of not doing any acquisitions, this year you have done two: first with Softmart, then with GlobalServe. As you integrate these acquisitions into your business, how should we think about the operating margin profile of the Company changing over the next two to three years?

Thanks, Anthony. We felt that the opportunities that were presented were the right time for us in the market. We felt that strategically it could enhance our overall value proposition. And as I mentioned in the call script, we really feel like we get true competitive advantage with solutions that we are getting in software and as well with a global solution from GlobalServe. So, we're excited about that.

I am going to let Bill cover the margin component.

Hi, Anthony. With the Softmart, basically we will be looking to basically drive into our 3% operating income or so. And every year, we are looking to raise operating income by about 10 to 20 basis points. That's really our goal on the bottom line, and I think Softmart will work well toward that.

Okay. And with the addition of GlobalServe, I know, Tim, you talked about that in your opening remarks. Now, have your customers been asking -- have they been asking actually for such a solution? Is that what really drove this acquisition? Maybe if you could just expand on that, that would be great.

Yes, in the large account space, Anthony, that was probably the number one ask. As the majority of all the large accounts have a multinational presence or aspire to have a multinational presence, they all need a global solution. And that was always an ask as well as always a check in an RFP or an RFI process.

And, so, GlobalServe does represent a great opportunity because it enables us to serve them better. The actual revenue that goes through GlobalServe ends up in the in-country partner who fulfills that solution. So the benefit to us is that we can win more US-based business because we have the portal and the software. So, that connection will enable us to drive more growth in the enterprise accounts for the US segment. Global revenue is with the global partner, not us, so I just wanted to clarify that.

Yes, Anthony, basically those are agencies, just revenues for us, and they're less than $5 million a year. As Tim said, the real benefit is capturing the sales from our multinational customers here in the US.

Got it. Okay. Thanks for that. And, also, Tim, I think you had said in your script that some of the large projects were pushed into Q4. Can you perhaps maybe give us some color on that, whether quantify or give us some sort of -- how should we frame the revenue shift from Q3 to Q4?

There are two areas in particular that really have significant backlogs going into Q4. The first is the federal component of our public sector group. We did win some very large contracts, and we have record level backlogs going into the quarter. And, as you know, most of the business today is project business and it rolls out over time. And in this particular case, the orders came in, but they just will not ship until into Q4 with a public sector statement.

For large account, we have many large project rollouts that are scheduled for Q4 and beyond, but that really was the differentiator. In Q3, we just didn't see the abundance of the large deals. There was clearly a lack of those $1 million deals for us, and the ones that came in came in late in the quarter.

Okay. Thank you.

(Operator Instructions). I am not seeing any further questions. I would now like to turn the call back over to Tim McGrath for a final comment.

Well, thank you. I would like to thank all of our customers, vendor partners and shareholders for their continued support and our dedicated coworkers for their efforts. I would also like to thank those of you listening to the call this afternoon. Your time and interest in Connection are appreciated. Have a great evening.

Ladies and gentlemen, that does conclude today's conference. Thank you for your participation. You may all disconnect. Everyone have a great day.