Insight Enterprises Inc (NSIT) 2012 Q3 法說會逐字稿

Good afternoon, my name is Ali and I will be your conference operator today.

At this time, I would like to welcome everyone to the Insight Enterprises, Incorporated third-quarter earnings conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer session.

(Operator Instructions)

I would now like to turn the conference over to your host, Ms. Glynis Bryan, Chief Financial Officer.

Ms. Bryan, you may begin your conference.

Thank you.

Welcome everyone and thank you for joining the Insight Enterprises conference call.

Today, we will be discussing the Company's operating results for the quarter ended September 30, 2012.

I'm Glynis Bryan, Chief Financial Officer of Insight, and joining me is Ken Lamneck, President and Chief Executive Officer.

If you do not have a copy of the earnings release that was posted this afternoon and filed with the Securities and Exchange Commission on Form 8-K, you will find it on our website at Insight.com under our Investor Relations section.

Today's call, including the question and answer period is being webcast (technical difficulty) by the Investor Relations page of our website at Insight.com.

An archived copy of the conference call will be available approximately two hours after the completion of the call and will remain on our website for a limited time.

This conference call and the associated webcast contains time sensitive information that is accurate only as of today, October 31, 2012.

This call is the property of Insight Enterprises.

Any redistribution, retransmission, or rebroadcast of this call in any form without the express written consent of Insight Enterprises is strictly prohibited.

In today's conference call, we will reference the Company's return on invested capital, or ROIC, for the periods ended September 30, 2011 and 2012, a computation of which can be found on our website at Insight.com under the Investor Relations section.

Finally, let me remind you about forward-looking statements that will be made on today's call.

All forward-looking statements that are made in the conference call are subject to risks and uncertainties that could cause our actual results to differ materially.

These risks are discussed in today's Press Release and in greater detail in our Annual Report on Form 10-K for the year ended December 31, 2011.

With that, I will now turn the call over to Ken to give you an overview of our third-quarter 2012 operating results.

Ken?

Hello everyone.

Thank you for joining us today to discuss our third-quarter 2012 operating results.

In the third quarter, softer macroeconomic conditions continued to affect our top-line results but we have focused on the profitability of our business and continued cost control which helped us deliver double-digit growth in earnings for the quarter.

Specifically, consolidated net sales decreased 5% to $1.18 billion, down from $1.24 billion in the third quarter of last year.

On a constant currency basis, consolidated net sales decreased 3%.

Gross profit was $167.6 million, up 3% year-over-year and gross margin was 14.2%, an increase of 100 basis points from the third quarter of 2011.

Earnings from operations increased 10% to $30.7 million or 2.6% of net sales compared to $27.9 million or 2.3% of net sales in the same quarter of 2011.

Net earnings increased 13% year-to-year to $19.4 million and diluted earnings per share increased to $0.43 compared to $0.38 in the third quarter of 2011.

And we achieved return on invested capital of 11.1% in the third quarter, which was up 10 basis points year-over-year.

North America net sales were down year-to-year reflecting continued softness and spending by our largest clients, but we're beginning to see the benefits of our profitability initiatives which contributed to our higher gross margin performance in the quarter.

This combined with continued discipline in managing our costs led to a 15% increase in earnings from operations in North America for the quarter.

As we look out at the balance of 2012 and to 2013, we are focused on returning to positive top-line growth in this segment.

We've invested in our inside sales force over the past two years and have seen good improvement in the top line performance and profitability of the inside sales business over the period.

As we move forward, we will continue to invest modestly in the inside sales force but will now look to invest more deeply in our field sales force in the United States.

We have recently launched a multi-city strategy throughout the US where we will invest in additional sales and technical resources in key cities and in alignment with our core partners.

These teams will be focused on mid-market and large enterprise clients in the local markets bringing deeper technical expertise around certain technologies to our clients.

To ensure we execute well in these initiatives, we recently named Steve Dodenhoff as President of our US business reporting directly to me.

Steve has over 20 years of experience in sales, service delivery, and talent development roles with growth oriented technology companies.

We've made substantial progress over the past few years to improve the sales focus and operational discipline of the US business.

I'm excited to have Steve in the position to help us drive to the next level of excellence in our largest market.

Moving on to EMEA.

During the third quarter, net sales increased 2% in constant currency but we continued to see mixed results across the EMEA region.

Hardware sales have been strong largely due to the acquisition of Inmac in Germany and the Netherlands earlier this year.

There was softer demand for software products across the region, primarily in the large enterprise and public sector markets, and the higher mix of hardware sales in the quarter, which tend to bring higher gross margins than software sales, drove gross margins up over 100 basis points year-to-year.

Also in EMEA, we went live in our new IT system in the UK on October 1, completing a significant milestone in this multi-year initiative.

To date, this project has gone very well with six countries now live on the system.

Over the coming quarters, we'll focus on completing our IT systems implementation across the remaining markets in EMEA in order to realize the cost synergies available to us from operating on a single platform and to enable us to sell hardware in a select number of additional markets.

Next, our Asia-Pacific business delivered good quarter results.

Net sales increased 2% and earnings from operations grew 59%.

Strength in mid-market sales in China and public sector spend in Australia more than offset softness with large clients across the region.

I'll now hand the call back over to Glynis who will discuss the third-quarter operating results of our business segments.

Glynis?

Thank you, Ken.

Starting with North America, net sales were $869 million in the third quarter, down 5% year-to-year.

Sales in our hardware category decreased 6% year-to-year.

Software sales decreased 1% and services sales decreased 10% reflecting lower volume primarily in the large enterprise client group.

Despite our lower sales, gross profit in North America increased 2% year-over-year to $117 million and gross margin increased 100 basis points to 13.5%.

This increase was due to an increase in gross product margins due to business and client mix in the quarter and to the effects of our profitability initiatives.

Also contributing to gross margin improvement were an increase in fees from enterprise agreements and a higher mix of more profitable services and sales.

Selling and administrative expenses for North America in the third quarter decreased 2% to $88 million and as percentage of sales increased 30 basis points to 10.1%.

These results include the recovery of $2 million of legal fees incurred in prior periods.

Excluding this recovery, SG&A expenses in North America were basically flat year-to-year.

We also recorded $916,000 in severance and restructuring expenses in this segment in the third quarter compared to $476,000 in the same period last year.

Earnings from operations in North America were $28.3 million or 3.3% of net sales in the third quarter of 2012, up 15% and 60 basis points from the $24.6 million or 2.7% of net sales reported in the same quarter last year.

Moving on to EMEA, our EMEA operating segment reported net sales of $277 million, down 4% in US dollars.

In constant currency, net sales increased 2%.

Also in constant currency, sales of hardware grew 20% due to the affect of our recent acquisition of Inmac.

Software sales decreased 10% year-to-year due to lower volumes across the entire region and the sales of services increased 6%, both numbers in constant currency.

Gross profit in EMEA increased 3% in US dollars and increased 9% in constant currency with gross margins increasing 110 basis points to 15.7%.

This increase was primarily driven by a higher mix of hardware sales due to the acquisition of Inmac earlier this year.

Selling and administrative expenses in EMEA in the third quarter were up 7% in US dollars and in constant currency these expenses were up 15%.

This increase year-over-year was primarily driven by higher salaries and benefits from investments in head count and also the addition of Inmac to our portfolio in February.

Earnings from operations in EMEA were $1.4 million in this third quarter, down from $2.7 million reported last year.

Our Asia-Pacific operating segment reported net sales of $36 million, up 2% year-to-year in US dollars and up 3% in constant currency.

Gross profit was $7.3 million and gross margin was 20.4%, up from 19.1% last year due to higher vendor funding and an increase in fees from enterprise agreements.

Selling and administrative expenses in APAC increased 4% in US dollars and 5% in constant currency due to investments in sales and services head count.

Our Asia-Pacific operating segment reported earnings from operations of $950,000, which was up 59% year-over-year.

Moving on to our tax rates.

Our effective tax rate for the third quarter was 32.6%, below our expected range of 36% to 38%, reflecting benefits from the recognition of certain foreign tax credits partially offset by increases in reserves for unrecognized tax benefits.

On the cash flow performance, for the nine months ended September 30, 2012, our operations generated $30 million of cash compared to $10 million of cash last year.

We invested $22 million in capital expenditures in the first three quarters of 2012 compared to $17 million in the same period last year, primarily related to our IT systems integration initiatives in North America, and we also spent $3.8 million on the Inmac acquisition in EMEA in the first quarter of this year.

All of this led to a cash balance of $141 million at the end of the third quarter of which $121 million was resident in our foreign subsidiaries and we had $112 million of debt outstanding under our debt facilities.

This compares to $99 million of cash and $156 million of debt outstanding at the end of the third quarter of 2011.

Our cash conversion cycle was 30 days in this third quarter, up two days year-to-year due primarily to higher accounts receivable in North America, despite lower sales recorded in the period.

The increase in accounts receivable was due to a higher volume of transactions occurring later in the quarter and the effect of two less collection days in September compared to last year.

I will now turn the call back to Ken for closing comments.

Looking into the fourth quarter, we expect global demand trends to continue to be muted particularly for hardware products.

We expect software sales to increase from third quarter due to seasonality in that category.

And we expect diluted earnings per share of $0.52 to $0.59 in the fourth quarter, and for the full year we expect diluted earnings per share to be between $2.17 and $2.23.

This outlook includes an effective tax rate of 36% to 38% for the fourth quarter and excludes severance and restructuring expenses incurred during the year and the non-operating gain on an acquisition recorded in the first quarter.

Thank you again for joining us today.

That concludes my comments and we'll now open up the line for your questions.

(Operator Instructions)

Brian Alexander.

Maybe just a little bit more on the demand environment.

Obviously the revenue was weak this quarter.

We see weakness across obviously all of tech.

But you alluded to large account spending being disproportionately weaker so I was just wondering in the context of the north American sales decline of 5%, if you can maybe pars out how much of that was large account, how much was SMB, and then just maybe talk about linearity during the quarter.

Did it get weaker as the quarter progressed and you have seen any recovery so far in October?

Yes.

So Brian, what we can say to that, of course, is that when we look at the investments of course that you know we made in our inside sales organization which really covers that sort of small and medium account base that we did have certainly above market growth when we do all of the analysis and that number.

So it certainly was field related which to us of course is large in enterprise type clients.

As we look at it by verticals, we saw certainly softness in the finance vertical, in the retail vertical, and then we also saw good strength actually in manufacturing.

That surprised us.

That was pretty strong.

And then of course I think dependent upon which part of the public sector you're talking about, there is certainly some softness and of course there's also seasonality in that as well.

But that's how we really sort of -- North America played out for us.

And then in terms of linearity during the quarter and what you've seen so far in October and I realize the last couple of days have probably been impacted by the storm in the northeast.

Yes, we've definitely, I think Brian, which was consistent with we were tracking with what we heard certainly without the industry, that September certainly didn't have the strong finish that is usually associated with September.

That it certainly was a little bit more muted.

And we think that that same trend is continuing at this point into the fourth quarter.

Okay.

And then maybe if you could just talk about products that were relatively better and worse in North America as well as in Europe and then also, Glynis, if you have a pro forma organic revenue number for Europe.

I realize it is clouded by currency and by the acquisition of Inmac.

To address your first question, Brian, I'll take that.

We did see actually strength in the -- we saw growth in the desktop notebook market, which I know has been under certainly a lot of fire.

But we did actually see that category of products actually grow quarter-over-quarter.

We saw the server market relatively -- server and storage market relatively flat.

We did see some decline in the networking space for us.

And in the software area, we saw actually in the large account area, we definitely saw that software certainly didn't have the normal trajectory that we normally see in that.

So that was certainly a little bit down in large accounts.

And then Glynis, you want to address the --

Yes, so Brian, your question around Inmac in Europe.

Inmac contributed about $27 million of sales in the third quarter and excluding the effect of Inmac, organic sales in Europe would have been down 8% constant currency terms.

And then maybe back to software, Ken.

Do you think this is all just macro and cyclical and just difficulty in closing deals toward the end of the quarter or is any part of the software weakness that you've seen, and I think it was weaker in Europe than it was in North America and Asia, is any of that tied to maybe customers moving to more of a SAS model or is that not part of the story?

No.

I'd say it's very early to talk about that moving, especially these large clients moving to a SAS model and we stay pretty close to that because we do have certainly a SAS solution that we discuss with clients so we do not believe it is that.

We think it is pretty much the comment that you made in regards to the trend in the seasonality that we've been seeing there in that regard.

Certainly Europe being weaker, not unexpectedly than of course what we are seeing in North America on the software front.

And just finally, if I look at the implied earnings growth sequentially for Q4, obviously it's weaker than what you've seen historically and just I'm trying to figure out how much of that is below seasonal revenue expectations versus maybe some reversal of the margin strength that you saw this quarter and maybe Glynis, you could talk about the gross margin strength that you saw sequentially up 100 basis points.

I think most of your comments were referencing year-over-year so I am just wondering if maybe we're going to see gross margins decline and if there was anything temporary or unusual that helped you in the third quarter.

Thanks.

So I think that what you will see in the fourth quarter around gross margins is something closer to our historical norm.

So you are right, in Q3 our gross margins were a little bit higher than the norm that's associated with the mix of business that we have around software versus hardware, specifically in EMEA.

The difference in software versus hardware in EMEA is a little bit more dramatic than it is here.

So we had some strength in gross margins in EMEA related to the fact that we had some weakness in software in EMEA and hardware is a much stronger contributor to the quarter than software was.

That is part of the explanation for what happened with margins in Q3.

We are not anticipating that happening Q4.

Number one, Q4 is a seasonally strong software quarter so even if software remains weak, there is going to be some recovery with regard to just the volume of deals that turn over and come up for renewal and our reset in the fourth quarter that were not there in the third quarter.

So software in EMEA will have a bigger impact on overall gross margins.

So in EMEA, it was 15% plus.

We would assume something in the 14%-ish range of margins for EMEA for Q4 under normal circumstances.

What was the other part of your question?

I was trying to get a sense for whether the gross margin coming down was a bigger factor to the below seasonal earnings guidance for Q4, if you are also assuming below seasonal revenue.

So we are assuming that we are not going to see a budget flush currently in Q4.

So based on all of the indications that we have, based on feedback from clients, based on different economic indicators that are out there, we believe that clients are being conservative with regard to their spend and are curtailing anything they view to be discretionary at this stage so we're not anticipating to see a budget flush at the end of this year.

I'm not sure what the impact of the elections would be and I'm not sure what the impact of the recent disruptions in the northeast will be either in that analysis but it is a combination of a lower growth assumption specifically around the budget flush both -- in all the geographies.

More normalisation of our gross margins and a little bit higher SG&A as we are still continuing to make investments in certain sales functions on a go-forward basis, specifically in our field sales and our services operation.

Great.

I promised Matt I'd leave him some questions, so thank you.

(Operator Instructions)

Matt Sheerin.

Yes.

Thanks, from Stifel Nicolaus.

Good afternoon.

So just following up on Brian's question regarding the gross margin, obviously big quarter-to-quarter swing there in gross margin and that helped you.

I understand that the mix -- particularly the mix in Europe with software down fairly significantly.

But also you said on more than one occasion, Ken, that part of that gross margin was due to what you called profitability initiatives.

Could you elaborate on that?

Is it walking away from volume, low margin-volume deals?

Are you getting better pricing or better deals from the distributors that you buy from?

What things are going into that?

Yes, thanks for the question, Matt.

On the profitability issue, it actually entails all of the things that you certainly mentioned there in that regard.

So it does include of course getting -- as we discussed historically, more deal registration.

It does also us being more prudent and not just taking empty calorie business just to get revenue.

We are being more disciplined around that facet of business as well.

The other components, so profitability and when you saw the 100 basis point increase in North America, a good portion of that was the profitability initiatives.

Another portion of that is in the services side of the business, even though that the revenue was down, we did see of course improved gross margin growth year-over-year from the services business.

And then the third piece would be the affect of -- we did a good job in selling enterprise agreements which comes in at a higher margin.

So those three facets are the reasons why in the North America business we were up 100 basis points.

And as Glynis mentioned, the reason we were up over 100 basis points in Europe was really had to do with the fact of hardware gross margin is higher than we se software gross margin there.

So that was the pretty much the sole reason why we saw that growth.

Which again, that will change in EMEA this quarter as we have a seasonably stronger fourth quarter for software.

Okay.

And you said that you've expanded that IT system in Europe to six countries.

How many countries are you selling hardware in now?

Yes.

We started off selling hardware in the Netherlands.

We then moved to France, Germany, and of course we've always been selling hardware in the UK.

So we are actively selling in those countries and there's Ireland.

We're up and running and have the capability as well and then you'll start to see us now, as you know in the next two quarters, we'll be migrating that system to the rest of the European business and then we'll determine specifically which countries we actually want to sell hardware into.

Anticipating your next question on the IT projects we having going on in North America.

They are going actually very much according to the plan.

So we're in the -- into the third phase of the project here so the first phase was converting our services business in the second quarter which went successfully on to SAP.

We also have converted our whole organization onto the SAP CRM tool as well as additionally part of our public sector business is now fully migrated to that system.

And the last phase that we'll go through over the remaining part of this quarter and into next quarter will be the software business being converted.

And we'll do that over a five-month period just because there are so many clients that we have EDI connections with.

We'll do that in a very disciplined fashion to make sure that our clients are completely in sync and are not missing a beat from a service level point of view.

And then the other phase of that of course will be to convert our Canadian operation over to this new system.

So things are moving along smoothly and very much in accordance to our planning that we originally laid out.

Okay.

That's quite helpful.

And then a question on the expenses.

I know you mentioned, Glynis, I believe $900,000 plus in charges or restructuring charges in North America.

Does that imply there is some cost coming out or is it just restructuring to -- I know you did some sales restructuring and things like that.

You also talked about adding some technical sales, doing some sales expansion in Europe.

So what should we think about the actual SG&A dollars next quarter and as we move into 2013?

I think to answer your question, the second charge that we took was related to certain initiatives that we contemplate occurring in next year, 2013, as we get the IT system here in North America implemented and stabilized and we start optimizing it next year.

So that is a charge that we took now in anticipation of certain events that will occur in 2013.

As it relates to the fourth quarter specifically, I don't think that you should anticipate that there is going to be savings as a result of the charges I just said in the fourth quarter.

We are actually making a concerted effort with regard to investments in our sales efforts both on the inside and expanding that to include the field sales and we, as you mentioned earlier, we're also looking at investing in technical resources in certain of our key markets to drive sales optimization and sales growth with our key partners in selected markets.

So I think that you should anticipate that potentially our SG&A will -- our projected SG&A will increase slightly in the fourth quarter.

There is a seasonal increase that would occur there anyway just related to the variable component of it.

And going into 2013, we are reinvesting much of the savings that we are going to be getting from the systems initiative in our sales and investment and technical services activities.

Okay.

Great.

And just one quick question if I can, Ken.

I know that you are an Apple reseller and tablets are doing very well for the channel.

What is the margin profile of those products versus notebooks for you and is that impacting margins at all?

The tablet market for that is probably similar to what you see in the notebook sale.

Because you typically we're seeing most of these selling in pretty good size volume.

They are similar to what we are seeing margin wise on that so the real key in that business of course is being able to get the services with it and to do deployments and those type of things.

So that's what makes that business attractive is being able to complement it with services that clients needs in and around that.

Okay.

Got it.

So net-net, not a big difference.

No.

Okay, all right.

Thanks very much.

There are no further questions at this time.

Okay, thank you very much for joining us.

Thank you for participating in today's conference call.

You may now disconnect.

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