Scansource Inc (SCSC) 2003 Q2 法說會逐字稿

Good afternoon. My name is Cody, and I will be your conference facilitator. At this time, I would like to welcome everyone to the ScanSource 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 period. If you would like to ask a question during this time, simply press star then the number one on your telephone keypad. If you would like to withdraw your questions, press the pound key. Thank you.

Mr. Bryson, you may begin your conference.

Okay. Thank you.

Welcome to the ScanSource conference call to discuss results for the quarter-ended December 31, 2002. My name is Jeff Bryson, and I’m vice president of administration and investor relations of ScanSource. With me today is Mike Baur, President, and CEO and Rich Cley, CFO. We would like to give you a brief background of the company, then share our comments related to the second quarter 2003 earnings. At the end of our earnings presentation, we will be happy to take your questions.

This conference call contains certain comments which are forward-looking statements that involve risks and uncertainties. These statements are subject to the Safe Harbor created by the Private Securities Litigation Reform Act of 1995. Any number of important factors could cause actual results to differ materially from anticipated results. For more information concerning factor that could cause such a difference, see the company’s annual report on Form 10-K and quarterly reports on Form 10-Q filed with the Securities and Exchange Commission.

The first portion of our call with center on overall sales and operating results. The company recorded sales of 250.1m for the quarter-ended December 31, 2002, an increase of 20% over sales of 207.9m for December 31, 2001. This quarter’s sales pattern was very unusual compared to December quarters in the past. Typically, we have a strong October and November. However, this year late November was particularly slow and due to end users making some favorable last minute decisions, second half December sales came in stronger than expected. This period also saw return of some lower margin large order deals that we haven’t seen as frequently over the past several quarters. On December 19, our internal sales run rates were not projecting us to hit the midpoint of the sales range as would typically be the case of late in the quarter. With the IT spending weaknesses being seen by others in the IT supply chain, we didn’t have the evidence that we could count on a strong close in December to hit our numbers.

We will now provide overall sales results by end markets. Measuring sales based upon our end markets shows year-over-year growth of 38% in AIDC and point-of-sale and 2% for telephony for the quarter-ended December 2002. That produced a 57 to 43 mix of AIDC and point-of-sale versus telephony sales.

Our next discussion will focus on consolidated operating results. Gross margin was 10.8% for the second quarter of fiscal 2003 versus 10.6% for last year. Gross margins were higher than last year as a percentage of sales but lower than our last three quarters which have ranged from 10.9 to 11.6% for the following reasons: The mix in orders changed due to a return of some lower margin large orders and the point-of-sale product line. We had some expected margin impact from selling the Avaya SMBS product group at lower margins due to open sourcing which began on October 1 and ChannelMax fees and related gross margins were affected by lower than expected volumes.

Operating expenses were 16.5m and 6.6% of sales, compared to 15m and 7.2% of sales last year. SG&A benefitted from a lower bad debt expense than normal. We had better experience in customer collections and recoveries with lower bad debt write-offs this quarter. We continue to consistently apply our credit, collection, and reserving policies.

This quarter’s operating expenses as a percentage of sales, without the improvement in bad debt experience, would have been about 6.8% which is comparable to the March and June 2002 quarters and would have been in line with September if the September quarter is adjusted for its nonrecurring amounts.

Operating income increased by 51% to 10.4m, and 4.2% of sales compared to 6.9m, and 3.3% of sales for the December 2001 quarter end. If you will recall, the year ago December quarter’s operating income was impacted by a nonrecurring impairment of capitalized software for 840,000. Without that item, this year’s operating income would have been higher by 34%. Due to the reduction in both the average usage of our line of credit, and interest rates, the net interest expense was only $274,000 this year versus $382,000 for the same period last year. We are continuing to mitigate the P&L impact of a portion of our borrowing by recovering some of our interest costs from customers.

As we told you on our last call, our overall effective tax rate for the next couple of quarters will be higher than our historical 38% rate since we cannot tax effect foreign country operating losses. As those country units begin to turn profitable, the overall effective tax rate will then drop net operating loss carry forwards are used in those countries. To help you forecast our results, we will try to predict our tax rate one period in advance. For the December quarter, the actual tax rate blended to 42% which was slightly higher than the 39.5 to 40% we expected. We expect our blended tax rate for the upcoming March quarter to continue to be between 42 and 43%.

December quarter-end net income increased 19% to 5.8m, and 2.3% of sales, compared to 4.9m in December 2001.

We now need to take a minute and describe the effects of the stock split on earnings per share. Most of you know that we declared on January 6, 2003, a two-for-one stock split which will be effected as a 100% stock dividend on our common stock to be paid on January 28 to shareholders of record of January 17, 2003. Reporting rules require our press release to conform to the presentation we will later use in our 10-Q, which will be filed on or about February 14. As a result, we had to show weighted-average shares and EPS on a post-split basis, even though the pay date on the stock split is not until January 28. For your convenience, in our press release, we added a page of supplemental disclosures of weighted-average shares and EPS on a pre-split basis. Since those pre-split EPS numbers are the historical amounts that conform to current analyst models and are comparative to prior periods, for this call we will discuss all historical share and EPS amounts on a pre-split basis.

Diluted earnings per share were 16% higher this year at $0.92 cents per share compared to $0.79 per share for the December period one year ago. As you will recall from last year, we had an extraordinary after-tax gain of 829,000 in the December 2001 quarter. We did our best to explain at that time that without the gain of $0.13 cents per share and the after-tax software impairment of $0.08 cents per share, our December 31, 2001, diluted EPS would have been $0.05 cents lower at $0.74 cents per share. On that basis, this year’s December 2002 results of $0.92 cents per share or 24% higher than the year-ago quarter. Our return on invested capital this quarter was 26%, which is slightly above our target range.

Next, let me describe our reporting segments. Our business consists of three reporting segments: North America distribution, international distribution, and ChannelMax. North America distribution sell throughout the U.S. and Canada from a single, centrally located distribution center in Memphis, supported by the headquarters staff in South Carolina. North America distribution includes sales by three sales unit. The ScanSource sales team, who sell automatic identification and data capture product, AIDC, and point-of-sale equipment; the Catalyst Telecom team, who sell voice, data, and converged communications products from Avaya; and the Paracon sales group, who sell converged communications products from Intel.

Now we will provide sales results and update you on each reporting unit. First, we’ll cover North America distribution and the ScanSource sales unit. North America distribution sales were 231.4m, a growth rate of 24% over last year. The North America distribution segment has three sales units, the first of which sell AIDC and point-of-sale equipment for manufacturers such as Symbol, IBM, Zebra, [Entermek] [ph], and NCR. AIDC products include all types of mobile data collection computers, barcode scanners, wireless products, and barcode label printers. Point-of-sale equipment includes those computer-based systems that have replaced electronic cash registers in grocery, retail, and hospitality environments. We had a strong quarter growth in this sales unit particularly with the return of more larger size POS deals than we have seen in the past several quarters.

The Catalyst Telecom sales unit: As discussed on our last call, Avaya has split their voice products into two business units relevant to Catalyst Telecom. The first is the Converged Systems and Applications Group, CSAG, which markets Definity PBXs and the Avaya MultiVantage IP Telephony Solution for larger enterprises. CSAG products generally require more value-added services and are continuing to be sold under a closed distribution model.

The second Avaya group is called the Small and Medium Business Systems, SMBS unit, and it markets the [Magics Partner and IP Office Solutions] [ph] which are targeted to a broader market place. The SMBS group began an open sourcing program effective October 1, 2002, where dealers are no longer tied to only one distributor. Avaya has stated that their intent is to expand the total number of resellers buying these products. During the quarter-ended December 2002, Catalyst was able to maintain its market share in this new environment but did see an expected reduction in gross margins to SMBS customers.

The Paracon sales unit. The Paracon sales team continues to focus on the Intel-based communications product. They had good sales growth this quarter, but did not reach the stretch goals we set for them. Paracon’s growth depends upon adding new telephony vendors.

Our second reporting segment is international distribution. International distribution which includes Latin America and Europe posted sales of 16.6m which is higher than last year’s partial quarter of Latin America sales at 2.8m. Our international business segment is focused on the AIDC and point-of-sale markets at this time. Latin America sales were better than expected in the December quarter which its seasonally strongest of the year. That sales team has done a particularly good job, given that they have had to overcome not selling to Brazil or Argentina for much of calendar 2002 and most recently they have curtailed sales to Venezuela due to political unrest in that country. Their challenge for the March quarter is two-fold. First, the March quarter is Latin America’s seasonally slowest of the year and second this team will be launching a distribution facility in Mexico and taking over management of the Mexico sales force previously handled by the [Greenville] [ph] home office. This focus on infrastructure should prepare the Latin America unit for renewed growth beginning in April.

We are disappointed with the financial results of our European business unit. A year ago, our key vendors encouraged us to bring the ScanSource model to Europe, so we began to invest in programs and infrastructure based on a revenue model that has not materialized. AIDC and POS manufacturers continue to assert the need for a strong two-step distributor in Europe as a lower-cost alternative to direct selling. In order to be successful in Europe, we need to be able to provide value-added service to smaller customers and be able to provide for fulfillment for larger accounts. For manufacturers to be able to handoff large opportunities, we have to build a more efficient, lower cost model than we currently have. We’ve decided that starting this quarter, we will begin implementing more of a market-based sales model. We will be consolidating our U.K. distribution center into Belgium and combining our MIS and back office functions into one location. Our goal in these changes is to streamline our infrastructure and increase sales rep responsibility and productivity to more closely resemble the U.S. model.

Our European incremental direct expenses this quarter worked out to $0.08 cents per share which was above our planned range of $0.04 to $0.06 cents per share. We still believe the Europe market is a growth opportunity for ScanSource, and we believe that the proposed changes can bring our loss from incremental direct expenses to under $0.03 cents per share by June 30, 2003.

Our third reporting segment is ChannelMax. ChannelMax posted 2.1m in sales this quarter. ChannelMax business has been hit by a combination of two factors. First, in the phone business, some dealer’s revenue are down this year, and in other cases some sales programs are not performing as well as the manufacturer would like. Don’t forget that in general, in a slower economy, manufacturers using this program have sufficient capacity and have less need to turn to an outsource partner.

We would now like to discuss balance sheet metrics and cash use. Inventory turns without ChannelMax inventory improved to 6.6 at the end of December 2002 compared to 5.4 turns in the June 2002 quarter. The number of outstanding accounts receivable days without ChannelMax was 45 at December 31, which is slightly higher than the June 30 quarter at 42 days, but in line with our experience in September.

Our line of credit can fluctuate depending upon the role our vendors wish for us to play in the distribution channel. Cash of 6.8m was provided by operations this quarter, primarily from a decrease in accounts receivable. After cash use for capital expenditures, our line of credit balance dropped to 40.2m at quarter end. We ended the quarter at 0 days of paid for inventory, meaning that our investment in inventory was completely offset by our interest-free trade payables to creditors.

We will include this part of the call with our expectations for the March 31, 2003, quarter. Looking ahead to the March quarter, we think total revenues could range from 230m to 250m which would provide a growth rate of between 9 and 15% compared to last year. Post-split, earnings per share could range from $0.34 cents to $0.39 cents per share for the quarter-ended March 31, 2003, on approximately 12,700,000 weighted-average shares outstanding, which would be after a post-split $0.045 to $0.055 per share investment in Europe. One reminder about last year’s EPS. In the March 2002 quarter, we had a temporary favorable tax rate due to the tax related savings from a consulting project which helped us capture a variety of state income tax credits and deductions. While the post diluted EPS was $0.83 cents per share, we asked investors to consider a $0.79 cent quarter, absent the favorable tax effects.

At this time, we will attempt to answer your questions.

At this time, I would like to remind everyone, in order to ask a question, please press star then the number one on your telephone keypad. We’ll pause for just a moment to compile the q-and-a roster. Your first question comes from Mr. [Jeff Rosenberg] [ph].

Hi. A couple of questions about your guidance. First of all, in terms of the revenue and the sequential decline that you’re potentially implying. Can you talk about whether or not that’s based upon how business is trending so far in the quarter or whether or not it’s some of the seasonal factors you talked about in terms of Latin America or elsewhere?

Hi, Jeff. It’s Mike. I think what I’ll say there is we certainly are sensitive to what happened last quarter where we saw kind of an uneven quarter and it got kind of weird near the end of the quarter and this particular quarter, the March quarter, as you recall probably, the March month is typically our strongest month of the quarter. So based on the current run rates that we’re seeing through January, that’s how we came up with the idea for the range here. But we, certainly, again, I think our impact of what happened last quarter and hoping that what we saw there won’t be the same here where people wait until the last minute to give us orders. And certainly, so far, through January, we’re not seeing that.

Okay. And then in terms of the EPS number again, we’ll just jump in between the pre-split and post-split. On a pre-split basis you’re saying between $0.68 and $0.78 cents, is that right?

Yes.

Okay. And that’s obviously in terms of the margin profile that you just posted in December, I wouldn’t – if you’re at the midpoint of your range, you know, I’d be well above that. So can you talk about where your – I don’t know if it’s expenses related to the consolidation in Europe or in Mexico but can you talk a little bit more about why you expect margins to be lower this quarter?

Yes, I think what we’ve seen is – certainly we’ve denominated for you the fact that we believe that we’ll spend $0.03 cents additional in Europe, or potentially that much. Certainly, we’re going to do as well as we can there. So potentially there’s a $0.03 cent effect there and then based on our discussion on the improvement in bad debt this quarter that was better than our normal historical experience, that would apply as much as $0.05 cents of effect from the bad debt better than normal performance. Then, I think the remainder of the way there to the upper end of our range is the opportunistic purchases that we have typically done in high growth quarters. As you can tell, we’re trying to manage our balance sheet and we’ve rationalized inventory in a way that we haven’t taken advantage of as many of those opportunistic buys. So I think that helps round out the fact that the gross margin will be a little bit less.

And I’m sorry. I’m confused about the extra in Europe. I thought you said $0.045 to $0.055 cents. You said it would be $0.03 cents incremental. Are you expecting it to be – are you talking $0.045 to $0.055 is the post-split number?

Yes, that’s the post-split number, Jeff. I’m very sorry. I went back to a pre-split basis for you. Sorry about that.

So you’re expecting that number this quarter to be $0.09 to $0.11 cents?

Correct.

Okay. And how much of that would you consider to be – should we assume that the increment between $0.08 cents and $0.11 cents is one time related to some of these moving around, you know, consolidating at U.K. and changing other things or what would you think would be sort of a June number that we should think about in terms of the Europe dilution.

Yes, it’s not necessarily one-time cost. I think it will evolve over time. It will involve different decisions that we’ll be making and is not necessarily one time.

So for the time being we need to adopt a lower margin expectation until you start to see some improvement here?

Yes.

Okay. Let me just switch gears to one more topic and then I’ll let you move on. On the Symbol announcement of what they’re doing in the Channel, can you talk a little bit about whether or not you expect increased competition there in terms of if they’re going to move to such a focus on everything going through two-tier, I assume that makes the pie bigger, but I wonder whether or not you expect additional distributors to be introduced, and I’ve also wanted to see if you had any comment on – it sounds like there’s some pricing fixing depending on how a reseller is classified and does that potentially eliminate some of the price competition you’ve seen in that product line historically? Could you talk a little bit about how that might affect things?

Okay, Jeff. It’s Mike. I will. Basically, right now what Symbol has stated that they’re going to be rolling out a new program. It’s not been formally rolled out to the channel yet. It’s been talked about. They’ve had some basic press information go out this week, but in my meetings with the senior management team, they’ve expressed that they want fewer larger distributors. I would say that they said fewer, larger, better, and that’s true for the U.S. and also for Europe and probably it’s an especially true statement in Europe where they have probably 15 or 16 companies today who are class [indiscernible] distributors. So as this program is rolled out worldwide, the big change is going to be that partners, our customers, will receive more benefits based on their commitment to the Symbol’s product line, based on their commitment to providing value-add and we in turn are going to provide them additional incentives as well. Symbol is going to provide some of those incentives to us to pass through to them. So our ability to still manage our margins and the business with them is still fully in our hands but Symbol is giving us additional tools to provide incentives to those partners who they believe provide [indiscernible] generation and not just fulfillment. So they’re going to basically categorized all their partners into essentially to camps, reseller partners and solution providers and within that there will be different ways that you can qualify.

And on the European front, does that apply that there’s a lot – I mean, again, they’ve been behind you in terms of being there and trying to transfer business to you, do you expect that to accelerate as they consolidate? I mean when would you think that might start to happen?

Well that gets back to our whole comment about Europe. I mean, I’m really frustrated. We basically built a model that we knew was not the most efficient model but we felt like if we had enough revenue shifted to us last year we could accommodate a slower change to more of a U.S.-based productivity model, and what we found is as Symbol management team changed last year and as their team got together and put in place some of the programs, they just were never implemented the way they were communicated to us, and it think the new management team at Symbol has told me that those programs will be rolled out. There will be no – you know, it’s one of those there will be less discussion and more action. I don’t know these guys as well, so our assumption is it will happen quickly, but right now it’s hard for me quantify. That’s why part of the challenge we have in assessing where can we get a more efficient model working in Europe and how can we begin to generate profitability has been based on the revenues, but we’re not going to count on those revenues coming to achieve these numbers we’re talking about with you today. If that revenue doesn’t come by June, we’re still prepared to have a more efficient model.

Okay. Thanks.

Your next question comes from [Rick Reed]. Mr. Reed, you may ask you question.

Yes. Hi. Good afternoon, guys. Mike, can you touch a little bit on the telephony side of things and I guess just a quick question if you can update us from a [macro] perspective. You know, if we look at the total telephony revenue. I guess this quarter it looks like it was about 108, 110m, and if I look at the two Avaya groups, the converged systems and the SMB unit, you know they were about 540m, so that would suggest that you’ve kind of penetrated them 20% and I know there’s some revenue in that number from Paracon that doesn’t apply to that. But I mean does that suggest that the Avaya penetration is starting to get close to the targets that they’ve suggested in terms of indirect distribution?

Well I don’t know exactly because I haven’t run the numbers – at least I haven’t run the numbers quite the way you have. What I sense is that a year ago Avaya clearly stated when they started their year in October 2001 they were going into 2002 with a clear mandate to shift business to the indirect channel. This year, after a year of that, they didn’t kick off the year saying that. They kicked off the year saying we need to be profitable at Avaya and do the right things. We won’t necessarily shift it just for the shift reasons but clearly we want to have our partners help us find incremental business and I think where Avaya is focused right now is on their new product family that they believe is going to give them incremental market share gains against their competitors. And we certainly think some of our partners, some of our dealers have tremendous sales quarters, even while the overall market has not been as strong. So for us it’s a matter of making sure we have the right partners working with us at Catalyst, and then making sure that Avaya knows who they are so that Avaya feels comfortable if they do have opportunities or the direct sales force maybe is not the best solution that they’ll use our partners from another distributor. I guess overall we feel the opportunity is still there, it just not going to be forced like maybe it was a year ago.

And with the new products that they’re coming out with and focusing on, Mike, I mean that seems to work better for them to go in a direct model at this point. Is that what you’re seeing or is that not the case?

Well I think they have to prove some pilot installations, and typically those do happen on a direct basis. But we have seen a nice uptick in some of our business in the new products as well – the MultiVantage and the IP office products in the SMBS group. We have seen those start selling nicely and we believe that they are not that far away from becoming more important to the channel.

And then I guess I want to go over to the SMB unit where you’re starting to see the channel open up and tech data is entering in the market. I read recently that tech is offering about 1200 [vars] extended credit and presumably some other programs as well. How is that affecting you? You guys mentioned that you’ve been able to maintain share. Do you expect with tech rolling out those programs that that will be the case, and do you expect that you might see some incremental price or margin pressure?

Well we think the real differentiator for us today is our specialized sales force that we’re real proud that has been 100% focused on Avaya for a long time now, and we don’t believe they have that expertise. So they’ve got to find other ways to differentiate themselves from the sales and support that we provide plus the technical expertise we have on the full Avaya product line allows to take a new reseller who may come into this market frankly through a tech data or a [votaone] [ph] and if they come in through tech data and they start learning the products, we’re able to help them sell not only the SMBS products, but also the Definity product line and the MultiVantage line, if they so desire. So we think having a full portfolio with the right support structure will certainly keep our customers loyal long term and we think we’re a better alternative but yes we also have credit programs for resellers, too. We don’t believe there’s anything significant in that announcement.

Just in terms of the pricing and the margin pressure, I mean, do you expect that that will continue for the foreseeable future?

Well I think at this point, you know, after a quarter, we kind of know where the landscape is, and we’ve always in our company in all of our divisions, you know, been used to working in a competitive landscape where we can get some additional margin based on us providing more value to customers. We don’t always have to match pricing. I think this first quarter was tough for us trying to figure out where will the limits on customers and pricing and competitors be, so it was a learning quarter for us. We certainly are anticipating that there will be still be some pressure and that’s why we’re being cautious in some of the guidance we’re giving you.

And just last question for me going to the point-of-sale side. You know, NCR basically said today something similar that you guys did. They’re seeing some bigger orders. They’ve seen their backlog pile up but they’re also suggesting that’s going to be relatively short-lived. Do you have a sense for will these point-of-sale larger customers, are they just one time in nature? Maybe flushing some inventory? Or is this the start of a trend?

Well we, actually, saw some nice activity last quarter. It started well before the end of the quarter. These deals typically have to quote on and work on for a long period of time, and I would say there’s more of those type of deals that are at that stage where they’ve been quoted and the customer is trying to decide when to place the order. I think those – many more of those in the queue, if you will, than we’ve ever had – well we’ve had since a year ago. So, yes, I feel that there’s more that queued up. I don’t know how much that’ll continue, but we certainly think that what we saw last quarter is a good sign.

Okay. Great. Thanks a lot, Mike.

Yes.

Your next question comes from Chris [Fildy].

Good evening, guys. I just wanted to – I’m hoping that we’re not getting mixed up in pre-split and post-split numbers and just to kind of clarify this. Right now the consensus estimate for the upcoming quarter is $0.91 cents and the midpoint of your range will be $0.73 cents on a pre-split basis. So we’re looking at about $0.18 cents between where the numbers are now and where they probably should be. So the numbers you gave out, it looks like was the incremental costs in terms of Europe, or is it total cost of $0.09 to $0.11 cents pre-split, or was that incremental to the $0.08 cents that you did in the most recent quarter?

Yes, Chris, let me try to do it better, because you’re right, I did go back to a pre-split basis. The way we’re going to walk you through is from the posted $0.92 cents pre-split we did this quarter, and I’ll take you to the top end of our range of $0.78 cents pre-split, and both of those were roughly 250m, so that’s the reason for that particular comparison.

Okay.

So what I’ll do is walk you backwards from $0.92 cents, we believe there will be three additional cents of investment in Europe, and certainly we’re going to try to do better, but that’s what we’re preparing for – three additional cents there. We implied that we had better than expected bad debt performance that is not likely to recur that would quantify at about $0.05 cents, and then the remainder of that difference is in the ability to purchase inventory that has occurred through opportunistic purchases that we forewent in the December quarter that we won’t take the effects of those as that inventory sells through in the March quarter.

Okay. And I guess also, just looking at this here, if you’re going to have higher losses in Europe it also means the tax rates gone up higher than we’re expecting. I guess I had modeled about 39%, so that’s another four or five cents.

That’s exactly right and that’s an unfortunate kind of a double impact of Europe and other foreign country losses that temporarily you have a higher blending of your tax rate. Now, of course, when those turn around to become profits, then there will be a period of time there that we’ll get an unfavorable tax benefit from having the NOLs help offset some of that future income.

Okay. Now you didn’t mention any incremental costs of Latin America. You did talk about getting the Mexico facility up and running.

That is a good point and again that would again be part of the reason for some of our conservatism is to say, you know, there will be some infrastructure development in that unit. Now granted, that’s a pretty small unit, so we don’t want to over state that case.

Okay. In terms of the strength of the demand you saw in the barcode market, was that an indication simply of year-end spend it or lose it or is it underlying strength that retailers are upping their capital expenditures? What’s your sense?

Well – this is Mike – I think on the particular deal, the POS deals, the retailers wanted to buy, so they had to find the need. They were waiting for somebody to make it a more compelling business case financially, and I think some of our partners and who typically sell software with these, you know, they make huge margins on the software and their incentive was to try to get some of that software sold at the end of the year as well as our manufacturers wanting to make sure that they had a nice end of the year, too. They were willing to make some better deals to some of these guys and we all know retailers know how to buy. So they certainly know – they’ve been conditioned that if you buy in the fourth calendar quarter you can get deals. But clearly these were already set up, meaning they had already been defined, they’ve been quoted. These weren’t last-minute decisions that they sat down and said, well, we have some money to spend, let’s go find it. It was clearly, they already knew they wanted to spend it, but they got incentives to go ahead and do it now, and we think – obviously, not all of them made that decision at the end of the quarter, but it did show us that we had more of our customers asking us to start quoting on bigger deals and that hadn’t happened in about a year or so, so that was a positive sign. I think as you said, our [NCR] also alluded to that in their call.

And the split moved pretty decidedly in favor of the barcode. Would you expect by the end of the year to settle back out to more of a 50/50 between the two product lines against telephony?

Well I think some of that is the expected movement from having gone international in both Latin America and Europe and only the barcode and point-of-sale area right now, so I think that was expected. I think after that, then your mix will simply be determined by the growth rate of each of those two product segments.

Okay. And I didn’t see anything mentioned in Symbol’s announcement about their new channel strategy but it was heard through the grapevine that you’re going probably end up doing some direct order of fulfillment for them. Can you explain how that might work and what the impact might be on margins?

Well here’s the way it’s been explained to me, Chris, is that, basically, they separated their customers into two groups, resellers and solutions providers, and they will want to use resellers to provide some basic fulfillment for their direct channel. So our role will be similar with those resellers. These guys buy primarily hardware from us that need a certain level of technical support and sales support, but instead of the direct sales force making a sale if they are primarily delivering hardware, not also a solution, then they’ll turn to the resellers in the channel and those resellers will deliver that solution. So the resellers will still buy it from distribution. We will not be servicing the direct sales force directly, if I can say that right. This will not be like a ChannelMax deal. This will be direct sales force handing off business to resellers who will buy for distribution, and that is definitely one of their plans. They’ve already changed their direct sales force quotas and compensations for that and that was kicked off the first week of January at the Symbol sales conference.

Okay. Very good. Thank you.

Thanks.

Your next question comes from Kevin [Stark].

Mike, following up on the last question. Did Symbol give you any sense of what the thresholds or the quotas would be in terms of who has to buy from distribution and who can go buy directly from Symbol? Any percentage change that you can assign to that?

Not at this time. They really haven’t gone through the entire process. The process will be this is they’re going to ask all of their partners today whether they’re currently buying from distribution or buying direct to complete a survey that suggests this is the type of reseller you are or solution provider you are and these are the services you provide. This is the value proposition you provide. And as a result of that survey, Symbol will qualify this particular reseller to fit into a certain category and then from that standpoint Symbol will determine at certain revenue level and certain value-added focuses, they will want to have some of those customers buy directly from Symbol. But the intended focus is to have no more than they have today and probably some of the ones today that are buying will be moved to distribution, and so they’ll be looking to add additional partners who currently don’t buy from Symbol nor from distribution, and so that’s how they’ll fill more direct partners, but it won’t be by taking some of the ones that are currently buying from distribution.

And then speaking to March quarter guidance – of the 9 to 15% top line growth that you mentioned, is it fair to say that the majority of that will be driven by the barcode side?

I would say right now the signals that we’re seeing and we’re getting are that in the telephony side of the business, for us to drive that, we’re going to have to help our partners create more new opportunities, and we’ve got our sales force and our business development team focused on that to make sure that they are visible within in the Avaya direct sales community so that if there’s an opportunity to service some of their larger accounts they can be. Whereas in the past, Avaya would close business and seek somebody to hand it to, so we’re going to have to work harder with our teams and our dealers in the Catalyst side to do that. So I think that would be the reason that we’re a little more cautious there. Otherwise, yes, I think the AIDC and POS business, you know, we believe that it’s got some underlying growth there that we’re starting to see again and that’s reassuring to us, and then we do believe we’re seeing some revenue growth international, even though it’s not a lot yet, it’s just not coming fast enough, and that’s why we’re going to make some decisive moves now so that we don’t have to keep talking about the fact that we’re not making money in Europe. We’re going to figure out how to make money soon and if the revenue comes, that’s going to be additional to our growth for this year.

Sorry to get into such nitty-gritty, but on Avaya’s call they talked about kind of a last minute Russian order because of the timing of the release of the new IP software. I was wondering – I think it was December 13th they said—

Yes.

I was wondering to what extent that might have affected your telecom sales as well?

Yes, what happened is we saw the orders slack off in September and October because they announced that released, and then it didn’t get delivered on time. We did see in late October and all of November that product sales kind of dry up, then it did restart right at the end of the quarter. So we did see, just like Avaya did, a surge at the end for that product. That product is not a huge part of our revenue yet, but clearly that was an indicator and that was one of the other factors of why we also had a nice surge in Catalyst business at the end of the quarter.

Okay. I think a – I’m not sure if it would be fair to worry about ScanSource for Catalyst specifically getting in the middle of a potentially messy divorce between Avaya and Expanets. I was wondering what you could say to that perhaps to reassure me?

Well I don’t know all the specifics but clearly Expanets today, as you know, competes with our other dealers, as well as Avaya. So if Expanets loses some opportunities due to whatever reason, whether they decide not to focus as much on Avaya, or Avaya decides to have other partners play in that market space that will clearly happen. So, in other words, Avaya’s issues with Expanets we don’t believe will affect us. The only place it would be in ChannelMax where we do provide fulfillment services for Expanets, as you know, but on the Catalyst side, frankly, we don’t see that affecting us.

Okay. Are you able to give the segment results, including inner segmental sales at this point?

We have generally not disaggregated that yet. We kind of do that through the 10-Q reporting process, generally.

Would you be able to tell us depreciation and amortization for the quarter?

Yes, we do have that. I have that as a million two.

Okay. And, finally, can you put some color on what you think will Dell’s – not exactly entry but their evolution in the point-of-sale business will mean for ScanSource?

Well we’ve actually been working with Dell on that program for about a year where they’ve started with some of their smaller opportunities, and in general started out with some of their peripheral fulfillment deals where they were selling printers and some scanners, and so their recent initiative, we think, is a positive because they’re going to be selling total solutions and now put them in a competitive position out in the market place probably competing as we’re seeing right now more on tier one retail accounts. And as you know, we don’t have a lot of our resellers focused on that. We have some that are focused in specialty retail where they require software and hardware, and in this case Dell will partner with certain software companies to provide that total solution. But we think that Dell is going to frankly be competing more in the direct sales force of IBM and NCR and so whatever business they win we think is opportunity and incremental for ScanSource. So we see that as a positive.

Okay. Thank you very much.

Thanks, Kevin.

Your next question comes from David [Foster].

Good afternoon. You mentioned earlier in the call that you benefitted from lower bad debt expense. I wonder if you can just go over what your allowance for doubtful accounts was for the quarter and provision and net charge-offs? And also I wondered if you could – I think you said cash flow from operations was 6.8m. I was wondering was capex was for the quarter?

About 1.3m on capex.

Okay.

And then on the bad debt, by the end of the quarter we think the reserve from September to December is actually going to go up just slightly, so what we had was we had experience within the quarter that was a little bit better than expected in terms of collection practices and some recoveries, so we did not have to provide as much in the expense in order to keep the reserve where it is.

Okay. Can you give us the allowance on that?

It’s going to be somewhere just above about 9.3m.

About 9.4m.

9.4.

Oh. I’m sorry. 9.7 – 9.4 is the prior quarter.

So it’s going to go up about 300 grand on a total consolidated basis.

And you said that net charge-offs for the quarter were?

Yes, we’ve never quantified that and disaggregated a quote to that level.

Okay. Thanks very much.

Thanks.

Your next question comes from Gary [Schnero].

Hi, guys.

Hi, Gary.

Can you ballpark and tell us how much your Avaya sales, how much is the converged group, and how much is the small business group? Is it 50/50, 70/30?

Well, Gary, it’s Mike. In the past, we haven’t disaggregated it and frankly for competitive reasons I’d rather not now either. We’ve always said that we really focus on what’s called now the CSAG products, the Difinity product, and it’s typical for Avaya in the past, you know, they weren’t as competitive on the lower end of their product sets. However, they’ve added new products there and so we expect that part of the business to grow.

Okay. And in Europe, the additional spend there, is that additional spend or more of a revenue issue?

I would say both. I’ll tell you why. The additional spend was because when I look at what we needed to provide the right level of services based on vendors saying, Mike, we want you to bring this highly successful U.S. model to Europe and if you do that we’ll help you in the early days. And we had no reason to doubt those guys, frankly, but it didn’t happen, so we went ahead and built the same type product management teams. For example, we have in the U.S. where we have merchandisers, whereas a company like ABC that we acquired, they had purchasing agents. They didn’t have people who new marketing and inventory management expertise, so we have definitely invested in infrastructure that didn’t exist in the company that we purchased. So we started that process. We continued down that process, even up until this quarter, invested in those people hoping that the revenue would get there soon enough. We did see some revenue growth, which is great, but the challenge there is making sure that we get revenue at the right margins and that we have the right productivity from our sales force. We’ve got a significant difference in the way sales are made in Europe versus the U.S. In Europe you’ve got a combination of inside and outside salespeople, and so you’ve got costs that we knew over time we would be able to reduce or eliminate, but we decided we’re going to have to take a faster path to that based on the lack of revenue coming to us soon enough. I guess I can’t continue to wait on the vendors this year, even through what Symbol has said to us makes a lot of sense, and at this stage, we don’t have any reason to doubt the current management team, but I don’t think it’s fair to our investors for us to keep waiting.

Okay. Great. And then, finally, I was a little confused with respect to your revenue guidance, how you were saying similar to last quarter. Is it that in this forecast you’re not planning on a strong march, is that basically what you’re saying?

Well what we’re saying is it’s going – this quarter always has a strong march, and we certainly expect to have a good, strong march, but I guess what we’re seeing is that right now Latin America is going to have a seasonally down quarter and so we had Latin America their stronger last quarter, we’re not – it’s not clear that we’re going to have a huge Catalyst quarter. We saw that last quarter seasonally is down for them because they have a September quarter that’s always strong because that’s the fiscal year end for Avaya, so we’d have to see our Catalyst business really come through and the reason that it may not is because they haven’t gone out to us and say we’re going to intentionally shift more business this year to you. They said to us, we want partners who can earn that business and you guys have got to make sure you’ve got the right partners and, yes, they will get their share. So I’m just saying it’s going to be harder work for us to make sure that that part of the business grows, the Catalyst business this quarter.

Okay. Great. Thank you.

Thanks, Gary.

Your next question comes from John [Sneller].

Good afternoon, and thank you for taking my call. Just to – not to belabor this point, but it appears as thought there’s sort of evolving linearity pattern to the quarters, is that a fair statement, and maybe as a function of the economic environment which is that you’re going to have back end loaded quarters. I’m not sure – you really haven’t talked beyond the March quarter, but is that a fair statement, and can we expect that going forward?

No. I don’t think we’ve evolved back-end loaded quarters. I think we’ve said that December was a surprise to us. It was different than past experiences in the December quarter. We tend to have a large month that is more centered on the number of selling days in that month. That tends to be the signal, which the bigger month is going to be in a given quarter, and so certainly March always has more selling days than January and February. It has no holidays. So that’s the reason we always count on a good March, but I has more to do with the selling days than the fact that it’s at the end of the quarter.

Okay. And lastly, again, not to belabor another point that has been talked about quite a bit. But in terms of Symbol, the two-tiered system that they’re discussing, could you just describe what the top tier of their system would be, and how you would be involved in that?

Well what they’ve said is that they want to identify – this is Mike – identify those top partners and they’ve got a variety of criteria to identify them. They said that there’s a small number that they prefer to have a direct relationship with so they can make sure they’re investing resources adequately and helping those partners help Symbol grow into specific markets. They have not, by the way, told those partners that they cannot buy from distribution. So they’ll still be allowed to, for example, if they need to second source on products that are short supply from Symbol direct, they’re still able to buy those from distribution. So that’s the opportunity for us is to be standing there when Symbol doesn’t deliver to those top partners. But that’s a – again, it’s going to be a very small number of partners. We believe that net-net there’s going to be more business that’s transitioned to the channel in general this year from the direct Symbol sales force that will result in opportunity for two-tier distributors like ScanSource.

Right and what would be the margin impact in this change of distribution?

Well from our standpoint, we’re not forecasting a margin change in that business at this time. We believe what Symbol has communicated is that they want ScanSource and the distributors to provide more value-add to these key solution providers and help them close more business, while still supporting what they call resellers who would need less services. But they want us to grow those solutions providers where we will make higher margins and that’s where they want us focused.

Okay. Great. Thank you very much.

Thank you.

Your next question comes from Gregory [Macosko].

Yes. Hello. Thank you. I just would like, if I could, to understand the shift in gross margin. I understand how you went through the $0.92 to $0.78 cents and could you – and you talked about a number of factors that we’re influencing – have influenced gross margins sequentially, but if you could maybe order them or give us a sense of how much the effect of ChannelMax and Avaya and perhaps the AIDC, etc., on that as we look forward – now especially as we’re looking forward.

I think I’ll try a piece of it, and then I think I’ll let Jeff or Rich jump in. I think there are two areas that you identified. You know, one if the margin pressure that we’ve received on the SMBS part of the Avaya product line from open distribution. We knew that was coming, so our plan was for lower gross margins, but that we would have to have less SG&A [gauge] [ph] service those accounts. So that’s our challenge is monitoring that going forward. We saw it happen last quarter. We believe that we reacted to it, but we still are watching it this quarter and so we’re concerned about that pressure as to how much farther it could go. We don’t believe it will be significant but we’re certainly careful there. And then the lower volumes to ChannelMax definitely translating a lower net income, lower margins for the company at this stage.

And can we expect – you talked about some opportunistic purchases in the last quarter. I would assume that those would affect gross margins in the current quarter?

That is correct. Yes, the choice to buy or not to buy when these opportunistic times comes along, it does affect as the inventory throws through in the following quarter.

And then, finally, just with regard to your previous questioner talked about the Symbol business and how you’re expecting that business not to be affected by the switch in the top tier suppliers. So are we suggesting that it would only be a function of sort of revenue growth then going forward in your estimate 230 to 250?

Well I think what we’re saying, to be honest, Gregory, right now, is I’m not anticipating a lot of Symbol transition business this quarter. On these programs that they’re announcing are not effective yet. They’re not effective to April 1. So a lot of that discussion really is not going to affect us in this particular quarter. We do see it coming later on and that’s why, again, we’re seeing a more – the growth we’re talking about from AIDC does not reflect the impact of Symbol transitioning any business at all in the two tiers that’s not already coming our way.

Thank you.

Your next question comes from Eric [Indy].

My question was answered. Thank you.

Thank you.

Mr. Bryson, at this time, you have no further questions.

Thank you very much for attending the ScanSource conference call.

This concludes today’s ScanSource conference call. You may now disconnect.