PC Connection Inc (CNXN) 2006 Q1 法說會逐字稿

Good morning, ladies and gentlemen I will be your conference facilitator today. At this time, I would like to welcome everyone to the PC Connection 2006 first quarter conference call.

It is now my pleasure to turn the floor over to your host, Mr. Steve Baldrige, VP of Finance and Corporate Controller. Sir, the floor is yours.

Thank you, and good morning everyone. This is Steve Baldrige, VP of Finance and Corporate Controller. Patricia Gallup, Chairman and CEO, Jack Ferguson, Senior Vice President and CFO, and Peter Cannone, Senior Vice President-Sales Operations, are also here with us today. We are pleases to have you join us today for PC Connection's 2006 first quarter conference call. If you haven't already seen our press release, you can contact Suzanne Stanley at 603-683-2217, and she will fax or e-mail a copy to you immediately. You can also view it on our website. Today's call is also being webcast. It will be available from PC Connections website and at streetevents.com.

I'd like to inform our participants that any statements or references made during the conference call that are not statements of historical fact may be deemed the forward-looking statements. Various remarks that we may make about the Company's future expectations, plans and prospects constitute forward-looking statements for purposes of the Safe Harbor provision 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 'factors that may affect future results and financial condition' in the Company's annual report on Form 10-K for the year ended December 31, 2005, which is on file with the Securities and Exchange Commission. In addition, any forward-looking statements represent our views only as of today, and should not be relied upon as representing our views as of any subsequent date. While we may elect to update forward-looking statements at some point in the future, we specifically disclaim any obligation to do so, even if our estimates change. And, therefore, you should not rely on these forward-looking statements as representing our views as of any date subsequent today.

I'm now going to turn the call over to our CEO, Pat Gallup, for her remarks on our quarterly results. Pat"

Good morning, everyone, and thank you for joining us. I hope you've all had the opportunity to read our press release, which announced that net sales for the quarter ended March 31, 2006 increased $56.6 million or 17.5% to $380.5 million from $323.9 million for the quarter ended March 31, 2005. Our overall sales this quarter were the highest first quarter sales in the Company's history. This increase was due to our continued organic growth, and to the positive effects of the Amherst Technologies asset acquisition we made in October 2005. The first quarter of 2006 included $27.3 million of sales by the former Amherst employees who joined our organization. This accounts for 8.4 and -- 8.4 percentage points of our year-over-year increase. Net income for the quarter was $1.7 million or $0.07 per share compared to $0.9 million or $0.4 per share for the prior-year quarter. As stated in our press release, the quarter ended March 31, 2006 included special charges. Had these charges not been incurred, pro forma net income for the current year quarter would have been $2.2 million or $0.9 per share. No special charges were incurred in the first quarter of 2005. Our press release includes a reconciliation of these pro forma amounts.

We enjoyed significant year-over-year sales growth in all three of our business segments. I'll begin by commenting on our small and medium-sized business segment, SMB, which is our original core business. Net sales increased by $18.8 million dollars or 9.4% from the first quarter of 2005, to $219.1 million dollars. Most of this increase resulted from organic growth. Only $3.3 million dollars of this increase in our SMB business is attributable to our Amherst acquisition. Sales to large corporate account customers, our large account segment, increased 41.9% to $108.4 million from the corresponding period a year ago. Revenue for the quarter included sales of $24 million again rated by our Amherst Technologies sales account managers. However, if we exclude the Amherst-related revenue, large account sales still grew by 10.4% year-over-year. We believe the integration of Amherst is substantially complete and, therefore, we do not plan to report the Amherst revenue separately in the future.

Sales to government and education customers, our public sector segment, increased 12.4% from the first quarter of 2005 to $53 million. More specifically, sales to the federal government increased by 28.1%, while sales to state and local governments increased by 8.1% year-over-year; Additionally, gross profit dollars from federal sales increased 32.5% year-over-year, while gross profit dollars from state and local government sales increased by 14.2% year-over-year. Through our customer acquisition initiatives in each business segment, we continue to acquire new accounts and, therefore, increased our market share. Consolidated gross profit dollars increased over the first quarter of 2005 by $9.1 million, due to increases in both sales and gross profit margins. Margin increased year-over-year by 70 basis to 12.2%. This improvement resulted from higher customer invoice margins, higher sales of services, software and accessories, lower freight costs and increased vendor consideration.

In addition to our continuing efforts to improve product margins, we initiated new sales training efforts in the fourth quarter. We are beginning to see some positive benefits, and expect that moving forward, these efforts will further improve both productivity, as well as retention of our sales force. Total SG&A expenses increased $6.5 million or 18.5% year-over-year in the first quarter of 2006. This increase was primarily attributable to: Increased operating costs due to the Amherst transactions $1.8 million; increase to variable compensation expense associated with our organic sales growth, $1.5 million; continued investments in sales, systems, services, and sales training, 1.3 million; and our new call center in Texas, $200,000. As a percentage of sales, SG&A expenses were virtually unchanged at 11% for this quarter compared to 10.9% for the first quarter of 2005. As we have stated in past calls, we can continue to make significant investments in our internal systems to provide a better buying experience for our customers, as well as increase the productivity of our sales force. During the quarter, we incurred incremental expense of approximately $300,000 and made capital expenditures of aprobo -- approximately $800,000, as a result of these enhancements. Going-forward, we will make additional investments in our systems, and expect to see improved productivity as a result of these initiatives, beginning late in 2006 and ramping throughout 2007.

We also continued to execute the rollout of our service initiatives. These included the continued integration of former Amherst service engineers into our MoreDirect organization, increased levels of sales training and promotion of services to our customer base, and continued development of managed or what we refer to as viewable service offerings. These incremental investments, strategically position us to capture a larger portion of the IT services market moving forward. Income from operations for the quarter was 3$.6 million or 0.9%, representing an increase from $1.9 million or 0.6% for the first quarter of 2005.

In summary, during the quarter, sales and earnings increased year-over-year to $380.5 million and $0.07 per share respectively. We are pleased with this successful integration of our Amherst Technologies acquisition and our overall Company performance, and we are encouraged with the progress made in the opening of our new Texas call center. As we have commented in past conference calls, we remain alert for opportunities in a consolidated market and will consider acquiring businesses with complimentary corporate cultures that add new customers and talents. We will continue to monitor our operating costs and review our spending plans and programs to ensure the best possible deployment of our resources. On the other hand, we expect to continue to make significant investments to support our sales organization and our customer base.

Now I'd like Pete Cannone to make some additional comments on our sales company and trends in the marketplace. Pete?

Thanks, Pat. Our total number of sales representatives increased by 64 to 650 as of March 31, 2006, from 586 at March 31, 2005 and from 618 at December 31, 2005. Total sales representatives as of March 31, 2006 include 34 from our Amherst acquisition. On a consolidated basis, annualized sales productivity for the first quarter increased year-over-year by 8.2%. This was due largely to productivity gains in our product sector segment. In this segment, sales productivity increased 9.2% from the first quarter of 2005, driven primarily by 44.9% increase in our federal sales productivity. Federal sales benefited from the addition of vendors to our GSA and other contract vehicles. Sales productivity in our large account segment increased year-over-year by 4.6%, while sales productivity in our SMB segment increased by 3.7%.

Now, on to our product sale trends. Notebook and PDA's continue to be our largest selling product category, accounting for 17% of total sales, with desktops and servers not far behind at 14.9%. The highest growth categories this quarter were software, video, imaging and sound, and accessories, increasing at over 24%. Average selling prices or ASP's for computer systems, decrease during the quarter by 5%, compared to the first quarter of last year and decreased by 1% compared to the fourth quarter of 2005. The year-over-year decrease resulted from a4% decrease in both notebooks and desktops ASP's, and a 24% decrease in workstation ASP's, offset by a 4% increase in server ASP's. The sequential decrease in ASP's resulted from a 12% decrease in workstation ASP's, offset by a 13% increase in server ASP's. Both desktop and notebook ASP's were largely unchanged in the fourth quarter of 2005. Declining ASP's required us to generate even higher unit sales to sustain our revenue growth in these categories. Notebook revenues increased 8% on a 13% increase in unit sales, compared to the first quarter of 2005. Desktop revenues increased 20% year-over-year on a 24% increase in unit sales. Revenues from service sales increased 16% on an 11% increase in unit buy-ins, compared to the first quarter of 2005.

And now, Jack Ferguson will discuss our balance sheet and cash flow in more detail. Jack?

Thank you, Pete. Cash flow generated from operations for the quarter ended March 31, 2006 was $5 million compared to $3.7 million in the same period a year ago. This increase was due primarily to greater reductions in inventory and receivables during the quarter ended March 31, 2006, compared to similar first quarter 2005 reductions. As to the balance sheet, accounts receivable increased by $31.9 million to $151 million on March 31, 2006, compared to the March 31, 2005 balance, due primarily due to increased sales incledi -- including those sales attributable to our Amherst Access acquisition. Day sales outstanding, or DSO's, increased slightly to 45 days from 43 days as of March 31, 2005, but decrease from 47 days as of December 31, 2005. Inventory balances were reduced from $14.2 3 million to $16.1 million at March 31, 2006 compared to the December 31, 2005 balance.

Continued focus on the supply chain initiatives contributed substantially to the improvement in our inventory turn. Inventory turns this quarter improved to 20 turns compared to 16 in the first quarter of 2005 and was unchanged from the fourth quarter of 2005. Net sales of products drop-shipped by distributors and other vendors directly to our customers reached its highest level in Company history, accounting for 48% of total net sales in the first quarter compared to 42% of total net sales in the first quarter of last year. Both our federal government and large commercial account business primarily use drop shipping to meet their demands. Based on quarterly levels, inventory days also improved to 17 days at March 31, 2006 versus 23 days at March 31, 2005, and 19 days at December 31, 2005. We believe inventories are in excellent condition, both in quantity and in quality.

In summary, the balance sheet remains very healthy. In view of our increasing investments and other initiatives discussed this morning, we will not be providing guidance for the second quarter of 2006. We believe that these investments are in the best long-term interest of our Company and our shareholders. Thank you for joining us today. We will now entertain your questions. Operator?

Thank you. [OPERATOR INSTRUCTIONS] Your first question is coming from Brian Alexander from Raymond James.

Thanks. Just a couple clarifications. Can you tell me last quarter, in Q4, what Amherst might have contributed to revenue? I think it was about $25 million, but I just wanted to confirm. And also, can you give us a sense of what that's contributing to overall profitability in the first quarter.

Hi, Brian, this is Steve Baldrige. In Q4 of '05, Amherst contributed approximately $25 million in sales.

In profitability in the first quarter, are they positively contributed to profitability?

Yes. The Amherst operation is making a positive contribution to our large account segment.

Okay. And a couple other clarifications, what was option expense during the quarter?

The option expense during the quarter was $141,000. If you will recall in our 10-K last year, we said that we would have option expense of roughly $562,000 for the year 2006, based on the options that were then outstanding and unvested. So the 141 represents one-fourth of those. Obviously, that expense could increase, if we were to issue additional options.

And that's included in your $0.09?

Yes.

Okay. And then on the services strategy, maybe just talk a little bit more in detail about where you're seeing the traction. It seems like in the SMB segment that was a bigger contributor to profitability than it had been in recent quarters. And to what extent are you or can you leverage some of the service capabilities that you received in the Amherst transaction down into the SMB space?

Brian, this is Pete Cannone The best thing that would start off is that with -- as we mentioned in the conference call, we continue to integrate our service engineers from Amherst into our MoreDirect and our large enterprise segment. What we're looking there is, by integrating there is utilizing the enterprise model to add -- create new opportunities in the enterprise space. That professional services model compliments the enterprise marketplace, the customized services and the needs of those large customers, compliments MoreDirectl, and our sales force. As far as our SMB force goes, we continue to focus on the SMB and selling the traditional warranties and services, managed skewable services. And our strategy is to continue to leverage those types of offerings to our SMB customers and also leverage in our enterprise segment more of the customized service offerings that Amherst has brought to us.

Can you drill down a little bit into the skewable services to give us more examples of what those might entail? I know you mentioned warranties, but what else may have been included in skewables?

Some of the skewable service that you may be looking at is 24/7 monitoring of the service -- of the SMB services, e-mail security, types of securities that we can download. Those types of offerings, Brian, are what we're offering to the SMB customers.

In those instances where you talked more about managed service offerings, is that something you're partnering or for or is that something where PC Connection personnel are being utilized to provide those services?

We're partnering. We use partnerships, bar partnerships. Specifically, bar partners that focus on services.

Okay. Thank you.

Thank you. Your next question is coming from David Manthey from David Robert Baird.

Hi. Thank you very much. I was wondering you can talk about demand trends through the quarter and how you saw things play out and if there's any insight you can give us looking forward. Were things fairly straight line or was it back end loaded or choppy, how did you see it?

David, this is Pete Cannone. I'll start across all three segments, besides we different trends throughout the quarter. In our enterprise segment, we saw more of a -- I would say, a higher demand in the month of March, where some of our larger opportunities, larger deals closed and we were able to maximize on that. As far as our SMB and garment sector, I would say it was pretty steady throughout the quarter. ,Obviously the last quarter of any quarter -- last month of any quarter, you significantly see an upkick and we saw that, but I'd say for our SMB public sector it was pretty steady. And in our large enterprise we were able to gain some large opportunities in the last month.

Okay. And that comment would be more year-to-year, like you said.

Yes.

You always have sort of a month-end, quarter end situation, but --

Ladies and gentlemen, just one moment, please.

We're back.

Okay, so I guess you're saying that the enterprise business relative, sort of year-to-year, was a little bit stronger at month-end, because you typically would see a month-end or a quarter-end push, but it was more pronounced in enterprise, you said?

And, David, I think in the enterprise space, the sales cycles, because of the larger opportunities fake a little bit longer, and I think you see that happen as some of these opportunities close -- some of the larger deal. Absolutely, and that can go quarter-to-quarter.

Okay. Then in terms of margins, the gross margins were up nicely, and I'm wondering, is that level now? Do you think sustainable going-forward? And also as it relates to operating costs, when you look ahead and you sort of singled out the different items here, as you look forward, does the Dallas call center -- or are there any other items that'll increase next quarter that are nonvolume related?

Hi, David. This is Steve Baldrige. On the gross margin, we were, of course, improved with the improvement in gross margin rate in all three segments during the quarter year-over-year. And what we are also a little cautiously about is that gross margin rate as a percent of sales could vary from quarter-to-quarter, depending on the extent of vendor consideration support programs or product and customer mix, the market conditions. So we were pleased with our execution and ability to maximize vendor consideration programs and our customer mix in Q1, and clearly one of our focuses is a team is to continue to improve gross margin. So we, of course, feel cautiously optimistic that we can continue with strong margin rates. As to your comment on operating expenses, as we move in to Q2, we will incur additional SG&A expense from our new Texas call center, as that operation ramps up and goes live from a sales perspective in the second quarter. Well also incur some additional investment in Q2 over Q1 with the enhancements and initiatives that we're driving and the improvements in our sales systems.

Okay. But in those -- those should be fairly -- fairly moderate? In terms of -- I'm just trying to get a handle on -- typically, your EBITDA margins would start out lower in the first quarter and ramp as we move through the year ,generally. Is that what we should expect this year?

This is Jack Ferguson. We had expressed before, I think, in the last conference call that the Texas call center, we would expect that the net cost to us this year would be about $0.05 per share, you can see how that might ramp up throughout the year. And as sales increase, the number would come down. W'd expect to break even -- hit the break even point sometime during the following year.

Okay. And then just a couple other questions. One is on gov connection. By our calculations, that's an enormous swing factor, if you're able to get that business profitable or even break even, it could be as much as $0.20. How far are you right now from break even, and what is the plan there? Is this -- do you have a program in place so that you can get that to break even over the next couple years or not?

Hi, David, this is Steve. I'll just kick off by saying that Q1 is typically the softest quarter for our public sector during the year. We clearly have a plan to enhance the profitability of our public sector, including the federal business. And as you saw in Q1 our federal sales increased 28% year-over-year coming primarily from the expansion of our GSA contracts, adding new vendors to both that vehicle and other federal vehicles. So, yes, we have a plan and at this point, we're not going to share, necessarily, the timing of that profitability. But we have a concrete plan and are very pleased with what we've seen in the federal space the last two quarters.

Okay. All right. Then the last question and I'll step away here. In terms of the service offerings, maybe I'm not completely understanding this SMB service offering, but I was under the impression that service connection was designed to line up bars across the country to provide not just sort of remote monitoring or services like that that you could theoretically SKU up and perform internally, but more the -- kind of cradle-to-grave services of installation and break fix and things like that. Am I understanding service connection incorrectly?

No, David, you're not. I think the best thing is for me to take a step back and say, really what -- we're in phase one of our service connection, and some of the offerings for our SMB stage. We continue to evolve service connection and our service offerings. As the industry -- as the industry changes and what some of our [inaudible] SMB space are asking us for from customer requirements. So I'd say that we're in phase one of service connection and the offerings we're putting out there right now.

So, David -- this is Steve Baldrige. Clearly what we shared with you historically is still right on. The skewable services that we drive in our SMB and public sector deals primarily with the relationships and agreements that we scale and enter into with various regional bars. And that concept hasn't changed and we'll continue to evolve that in selling and driving screw skewable service revenue in our SMB and public sector, which is a little different than our large account sector where we have a talented team of people. And in addition to maximizing that team, we also enter into third party arrangements to support our enterprise customers.

Okay. All right. Well, congratulations on a great quarter and good luck.

Thank you.

Thank you. [OPERATOR INSTRUCTIONS] Your next question is coming from [David Lynn] from William Blair.

Good morning, good quarter.

Good morning. Thank you, Dave.

I guess my two questions relate to products, and I notice in your press release that you guys had said that iPods and related products -- maybe from Apple -- were particularly strong in the quarter and I just wanted -- wonder you could comment on whether or not you think that Apple will have an impact on sales throughout the remainder of this year, because I know that they had said that they're kind of moving toward the direct channel a little bit more.?

You're referring to the direct trade. What I would say to that in Q1 is that Apple made the decision they are going to break the channel and go direct. Did it impact our business? Yes, it impacted our business, and I don't know what Q2, Q3, the remainder of 2006 will show, will demonstrate, but we expect it will impact our business somewhat. We're going to watch it very closely.

Okay. I'm sorry, I think that's Pete. Did you say the impact was material?

I wouldn't say -- I'd say it was immaterial, but we def -- Apples saying that they're going to a direct strategy. We definitely saw some opportunity that went direct.

Okay. And then Pete, maybe I can stay with you on my second question. I was looking at the products mix part of it, and I was surprised that you guys had really good growth across all product categories pretty much, despite desktop prices going down. What portion of that was desktops versus servers and, I guess, in general, how much of an impact did Amherst have on that growth? Can you kind of dissect it and say, had it not been for Amherst, certain product categories would have been half of what they were or something along those lines?

No, David, what I would say is Amherst thought -- their customers that when we -- the Amherst acquisition, their buying habits were very similar what our large enterprise or more direct buying habits were. So, we saw a very -- similar buying patterns across the board. So outside of the product mixes that we saw, pretty much were in line with what we were doing with our MoreDirect, our large enterprise business throughout the past few quarters. I will comment on that -- have it here has now afforded us entry into some higher-end opportunities into the UNIX marketplace, into the large Microsoft LAR and the high performances servers. So that we're looking forward to through the remainder of 2006.

Thank you, Pete.

Thank you. [OPERATOR INSTRUCTIONS] There appear to be no other questions at this time.

If there's no other questions, we'll end the call. We appreciate your time and hope everyone has a great day. Bye-bye.

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