新聚思 (SNX) 2004 Q2 法說會逐字稿

Welcome to the Synnex Corporation Q2 2004 earnings conference call. At this time, all participants are in a listen-only mode. Later we will conduct a question-and-answer session and instructions will follow at that time. If you should need assistance during the conference, please press star then zero on your touch-tone telephone. As a reminder, this conference is being recorded.

I would now like to introduce your host for today's conference, Miss Sandy Salah, Senior Director of Marketing and Investor Relations. Miss Salah, you may begin your conference.

Thank you, James. Good afternoon and welcome to Synnex fiscal 2004 second quarter earnings conference call.

Joining us on today's call are Bob Huang, President and Chief Executive Officer, Dennis Polk, Chief Financial Officer, and John Paget, President of North America and Chief Operating Officer. Before we begin our discussion, the statements on today's call which are not historical facts are forward-looking statements within the meaning of the Private Securities Litigation Reform Act.

These forward-looking statements include but are not limited to: statements about our expectations regarding financial performance of the third quarter of 2004 and future periods, our expectations regarding the performance of our non-U.S. distribution entities, our growth strategy, how we intend to grow our distribution businesses and our plans to move further into opportunities to service IT suppliers and VAR customers outside of product distribution. These forward-looking statements are subject to a number of risks and uncertainties that could cause actual results to differ materially from those discussed in these forward-looking statements. Please refer to today's earnings release and documents filed with the Securities and Exchange Commission, specifically our most recent form 10(K) and form 10(Q) for information on risk factors that could cause actual results to differ materially from those discussed in these forward-looking statements. Today's discussion may also include certain non-GAAP financial measures, which are provided as supplemental information to enhance your understanding of our financial results and other financial metrics.

Additionally this conference call is the property of Synnex and may not be recorded or rebroadcast without specific written permission from the company. Now, I would like to turn the call over to Dennis Polk for financial highlights.

Thank you, Sandy and thanks to everyone for joining our call and webcast today.

As Sandy indicated, I will review the financial highlights of the last quarter and then Bob will share his comments on the quarter and also on our expectations for the third quarter of 2004. Once Bob is done with his comments, we will answer any questions you may have.

Regarding our second quarter results, revenues were $1.27 billion, an increase of 35% over the second quarter of 2003, and a 4% sequential increase from the first quarter of 2004. By segment, distribution revenues were $1.12 billion, an increase of 24% over the second quarter of 2003, and 2% sequentially. Assembly revenues were $150 million, an increase of 252% over the second quarter of 2003 and 28% sequentially. From an earnings standpoint, net income increased 45% to $10.2 million, or 34 cents per share, compared to $7 million or 28 cents per share in the second quarter of 2003. As our IPO officially closed on December 1, 2003, the EPS figure for the second quarter 2004 reflects the additional shares from the offering. Whereas the second quarter of 2003 does not.

Regarding our gross margins. Gross margins for the second quarter was 4.22%, down 31 basis points from the prior year quarter and down 11 basis points sequentially. Distribution customer mix was a primary contributor for the year-over-year and sequential declines, as we did more business with the larger customers we serve.

Second quarter 2004, SG&A expense was $34.9 million or 2.74% of revenues. This compares to SG&A expense of 3.14% of revenues in the prior year quarter and 2.89% of revenues in the prior sequential quarter.

Increased revenues, continued expense control, and the effect of our deferred compensation program, contributed to the decline in our SG&A percentage. It is important to note that our SG&A percentages decline despite the increased cost we have incurred as a result of being a public company.

Operating income for the second quarter was $18.9 million or 1.48% of revenues. This compares to $13.2 million or 1.39% of revenue in the prior year quarter. From a segment basis perspective, distribution operating income was $14.7 million or 1.31% of revenues, and assembly operating income was $4.2 million or 2.78% of revenue.

Year-over-year decline in distribution income was primarily due to seasonal as well as some economic operating factors affecting our non-US distribution subsidiary. The year-over-year increase in our assembly segment was primarily due to increased business with our main customer, Sun Microsystems.

Other expense, consisting primarily of financing fees, net foreign currency losses, and net [un mid planned] income increased by approximately $600,000 over the prior year quarter. Higher overall revenue volume and the associated finance cost contribute to the increased expense in this category. Other expense also increased due to higher deferred compensation expense in the quarter. These amounts were somewhat offset by lower FX losses in second quarter of 2004 versus 2003.

Our tax rate was 37.8% for the second quarter, and is within our expected range of 36 to 39%, which is primarily dependant upon a percentage mix of earnings from the geographies we operate in.

Regarding our balance sheet metrics, Accounts receivable totaled $519 million at May 31, 2004, which includes possibly $161.2 million associated with our off balance sheet account [INAUDIBLE] technician program. DSO including the off balance sheet program was approximately 37 days. Inventory totaled $369 million at May 31, 2004. Inventory days were approximately 28, including a DPO metric of approximately 30 days.

Our second quarter cash conversion cycle was 35 days. On a year-over-year and sequential basis we have achieved improvements in all of these cash conversion cycle metrics.

Other second quarter metrics of note, depreciation expense was $1,036,000. Amortization expense was 787,000. Stock-based compensation expense was $65,000.

Capital expenditures were $4.2 million. The significant increase in capital expenditures for the prior sequential quarter was due to our move into our new corporate headquarters and 3 month distribution and assembly buildings. We expect that our future capital expenditures will be reduced to our recent historical quarterly rate and will be slightly higher than our current depreciation rate. From a product line standpoint, peripherals accounted for 30-34% of our sales. system components accounted for 25-29%, IT systems accounted for 24-28%, Software accounted for 9-13% and networking accounted for 2-6%.

From a customer mix standpoint. our percentage mix of VARs, VMRs, system integrators and corporate resellers remained relatively consistent with prior periods. HP at approximately 28%, and IBM at approximately 11%, were the only vendors accounting for more than 10% of sales during second quarter 2004.

Our full time equivalent head count was approximately 2,060 at May 31, 2004.

regarding our expectations for the third quarter of 2004, we expect net revenues to be in the range of $1.25 billion to $1.30 billion. Net earnings will be in the range of $10.1 to $10.7 million. EPS will be in the range of 33 to 35 cents. These forecasted earnings per share figures are based on an approximate rated average diluted share accounts of 30.6 million. These statements however, are forward-looking and actual results may differ materially. I'll now turn over the call to Bob for his comments. Bob?

Thank you, Dennis. Good afternoon, everyone. We are pleased, again, to deliver strong financial results. Thanks to the efforts of our Synnex team and the continued support of our customers and suppliers, we were able to show solid 35% revenue and 45% net income year-over-year gains for the second quarter of 2004. Excellent job.

Contributing to our success in the second quarter were the following three factors. First, the combination of an overall improved economy as compared to last year, the execution of our distribution strategies, and the continued positive movements by some of our supply partners toward the channels allow us to grow our distribution revenues organically over the prior year. In particular, we saw strength in storage systems, mobile PCs, printer supplies and securities software, offset somewhat by a seasonally flat quarter in our printer sales and a well documented fall off in the hard disk drive businesses. Secondly, our initiative to expand our sales force since the summer also contributed to our revenue growth. We have added approximately 45 sales personnel in Q2, and we are now two-thirds complete on our goal of hiring 200. In the last 12 months, we have added more than 35 new reseller customers in the U.S. alone.

Third, our assembly business continues to grow in Q2 2004. This is the third consecutive quarter of significant growth in this segment. And it was again driven by the acceptance of the products we assembled for our main customers in this business. While our business, U.S. business, shows very strong increases, our international distribution business declined due to seasonality, and our Mexico entity had an operating loss of approximately $660,000, due to a very poor economy and the local operational problems. As I mentioned in our last call, we had committed to fix this problem before this year's end.

In the prior calls, and in some of the conferences we have attended, we stress that our revenues amount and gross margin percentage are important. However, we believe the amount of gross margin dollars generated versus expenses is the key to profitability. For the second quarter, we generated approximately $54 million gross profit with operating income of $18.9 million. This means for every dollar we spend, we generated approximately $1.54 gross profit and 54 cents in operating income. The ratio of 1.54 between gross profit and expense, we call this the GPE ratio is one of the best indications of productivities in business. And I'm happy to say, again, that ours is among the highest in the whole tech industries.

Ours is a model based on high efficiency, focus on vendor strategies, and a seemless execution has again produced a very good financial performance. Now, let me comment on the guidance Dennis provided earlier. The overall U.S. IT spending environment continues to be stronger than last year, but appears to be on a lower albeit stable growth rate currently. We see that demand will continue throughout the rest of the year.

Specifically, regarding our third quarter, we should see solid gains in our U.S. distribution business through market share gains and improved year-over-year on IT spending and a positive shift by some of our major vendors to more indirect channel sales. Our growth will be somewhat mitigated in the third quarter to accepted seasonal declines in known U.S. distribution businesses and in our assembly business.

Based on this, our guidance is for revenues to essentially be neutral sequentially and up between 21% to 26% over the prior year quarter. From a profitability standpoint, we expect to improve our net income sequentially in the third quarter, despite a neutral to slight increase of sequential sales estimate. Due to expected improvements from actions we are taking in non-U.S. distribution business as I mentioned earlier. And due to our expectations that gross margin will be flat to slightly up sequentially.

The main point to take away from all of this is that overall environment looks good. And we are expecting to grow our revenues by 23% and profits by 36% on a year-over-year basis, utilizing the midpoint of our guidance for Q3. In terms of our growth strategy, we plan to stay on the path that we have discussed with you previously.

We intend to grow our distribution businesses organically by serving existing or new customers and the suppliers. Or through opportunistic acquisitions. And with our objective to increase gross margin dollars, we will offer high value added service to our customers and suppliers, consistent with this strategy, I'm happy to say that after the first quarter with us, BSA, our subsidiary serving IT vendors and resellers with a highly differentiated demand generation services is performing quite well. And we expect to further expand this business via leverage in the distribution relationship that we currently enjoy.

In addition to our success with the BSA, the leasing program that we announced last quarter with GE Commercial Finance, is starting to gain traction as well. We recognize that our existing service initiatives are currently small in proportion to the rest of our company. However, these are service programs that add real value to the distribution channel. And we continue to expect that the service fees generated and the incremental private revenues attached will be meaningful contributors to our bottom line in future periods. As I indicated on our last call, there are many more services we can provide to IT suppliers, resellers and end user customers outside of the product distribution. And based on our success to date, we plan to move further into this space.

I would like to close by saying that we are pleased with our last quarter's solid financial performance. I wanted to again thank our employees for their continued executions and ongoing support from our customers and suppliers. I also wanted to welcome John Paget to our organization. John has been on board as our COO and North American president for approximately one month. And we are already benefiting from his industry experience as well as his leadership and management skills. John will be playing an instrumental role in helping not only our current operations but also our targeted supplier extensions and Soviet initiatives. Welcome John. Thank you again for your time today and interest in SYNNEX. Sandy, I will now turn the call back to the operator for questions.

Thanks Bob. Okay, James, we would like to now open up the lines for any questions.

Thank you. If you have a questions at this time, please press the one key on your touch-tone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. Again if you have a questions please press the one key on your touch tone telephone. One moment for our first question. Our first question comes from Keith Bachman, Banc of America. Your question please?

Hi guys. I was hoping you could help me out a little bit on Mexico. What are the issues down there? And how do you see this unfolding? We'll start with that one, please.

As Bob indicated, we're had some operational issues that we're working through and its also a little bit tougher economic environment. We wrestled a little bit with accounts receivable and the collection thereof. We've been addressing it for the last 3-6 months. And as Bob indicated, we think we will be through the necessary restructuring by the end of the year and turn this entity back to a more profitable way.

But when you say operational issue, is that the AR issue? Is it a system side? Is it something more than that? I was trying to get a little color to better understand that.

It is AR issues and also foreign exchange issues.

Okay. If I think about Mexico and your gross margin was down a little bit this quarter, if Mexico were flat -- is that the driver of the gross margin degradation? Or how should I be thinking about the gross margin without the impact of Mexico?

The gross margin is more down to what we indicated before, primarily more business with larger customers that we serve. Definitely Mexico did depress our margins a little bit during the quarter. The major driver was once again the customer mix in other geographies.

Okay. And the final one, then I'll cede the floor, you mentioned the mix of systems, et cetera. Was there anything there, if you can just refresh my memory, was there anything there that moved around on the mix side of the business in terms of the product areas?

Nothing material at all. The ranges are very consistent with the past set of ranging we've given you over the past year.

Okay. It sounded like the ACDs were down a little bit. Maybe it wasn't material enough to move the needle?

Within our system components section, that's what ACD is, we commented that being down. Other factors within that segment obviously kept it up to a similar level to prior quarters.

So ACDs were down a little bit more than you thought they might be. All right. I may come back at you. Thanks very much.

Thank you. Our next question comes from Brian Alexander of Raymond James. Your question, please?

Thanks. Just to pick up on Keith's question about Mexico, Dennis, could you just tell us how much of a drag that was on operating income last quarter?

Yeah, it was approximately $400,000 last quarter.

Okay. And when do you expect, I guess exactly for that business to be break even? Is that going to happen in Q3? Is that more of a fiscal '05 type of event?

As I mentioned, Brian, as I mentioned earlier, we should be able to get the problem fixed before the end of this year. So you're looking at a couple more quarters , is what we're looking at.

So for your third quarter guidance, we really shouldn't anticipate any improvement in that operating loss as factored into your current guidance?

We should -- Brian, you should see some improvement on that. We could not continue to live on this type of bleeding situation as you know.

Okay. On the gross margins again, it sounds like all of that sequential decline was in the distribution segment, not in the assembly segment. I just wanted to clarify that. It sounds like you're not really citing pricing pressure as a factor there. I know some of your competitors have gotten a little bit more aggressive in price. I'm just wondering, can you talk about the pricing environment? And are you finding it a little bit tougher to take market share now than maybe you were six to nine months ago?

Brian, it is always competitive. The customer makes them, you know, we have made a lot of investment on the sales force as well. And certainly we feel that there is momentum still carried and we'll continue to gain market shares not because of necessarily on the pricing side at all.

Okay. So you would characterize the pricing environment as aggressive, but really no different than the last couple of quarters. That fair, Bob?

That's a pretty fair statement.

And then I guess my last question is, with respect to Mr. Paget that you just talked about, I think he has a lot of experience on the value distribution side of the business, for lack of a better term, versus the volume distribution business, which is what you're in. So it sounds like you're talking more about value-added services than you used to.

Do you sense maybe a little bit of a change in strategy for the company in getting more involved in more services like some of your competitors are? And could you give us some examples of where you think the biggest service opportunities are. Thanks.

Brian, on the service side of that as we indicated before, we started from as of last year, looking at the opportunity in order to grow our bottom line. So the one we mentioned about the demand generation, it's another, there's quite a few others certainly you could add to the entire supply chain as well. And we're not in a position today to talk about that yet.

Okay. Actually let me just ask one final one. Your guidance, your revenue guidance for next quarter, as you mentioned, is roughly flat sequentially, if you use the midpoint. Your assembly business has been very strong lately. And I think you alluded to the fact that would be down sequentially in the next quarter. Would that imply then your distribution business should be up low single digits on a sequential basis?

Yeah, Brian, we obviously don't break out the guidance between the two segments, but that's a reasonable assumption.

Okay. Thanks a lot, guys.

Thank you. Our next question comes from Peter Barry of Bear Stearns. Your question, please.

Good afternoon, gentlemen.

Hi, Peter.

Dennis, looking at Mexico again, without beating a dead horse, is there any risk that a restructuring charge is going to be required to get this resolved? And two, are there any personnel issues that you can speak to?

As far as a restructuring charge, it was always a potential. We're not talking about that at all at this point in time. We're working through many operational issues.

Nothing significant on the personnel side, if you will. We've been working on these issues over the past three to six months as I said before. We need to do is to fix them by the end of the year as we discussed.

Forgive me if I missed a nuance here, but could you just revisit the source of the pressure of gross margins on the assembly side.

According to my costs we need pressures on the gross margins with regards to the assembly side.

They were down sequentially though.

That was driven once again by the customer mix of the distribution side of the business. And very flatly by the Mexico operations as well.

Okay. Well, maybe I just made some assumptions about cost of sales and the manufacturing side that I shouldn't have made. How about white box business? Has that share of revenue risen or changed meaningfully, quarter to quarter?

Overall, the overall certainly because of the [INAUDIBLE] situation that we indicated earlier has some impact to the total white box business. But nothing really very significant. Because we made up with a lot of other processors. We certainly saw huge growth in that area.

Bob, I know you would be disappointed if I didn't ask my usual question. Any new vendors you can talk about?

Peter, it is the same answer, you know! Right.

I mean, are there any of note that you can speak to at all?

No, not at this point.

I don't want to split hairs, but just looking at the revenue breakdown, you mentioned 24 to 28 for IT systems. That is a bit better, a percentage point or so better than it was in the prior quarter. Is there any significance to that. And what might have driven that?

Yeah, obviously, 1%, it's hard to say that's significant. But to give you an indication what may have driven that is strength in the server business. And storage business that we talked about in our comments.

And the gain in IT was -- the account availing gain or decline in software, is that of any note? That's down a percent or so. Percentage point or so.

Right. And once again, we're somewhat splitting hairs with 1% movement. But with the strength in the servers and storage, we're counterbalanced by that one area, software.

Just one final question for me. Where did you gain your most notable market shares, if you can share that with us? Either -- in any of the product categories.

I think in terms of product categories, we mentioned about the storage system, the servers, certainly again, very good shares on those areas. We also mentioned about the supplies that play pretty well in the space. And the security software, if you can imagine, the way it goes in today. Mobile PCs, we mentioned also earlier had a pretty good business in the last quarter, too.

Are those trends, Bob, that you think are likely to continue for the remainder of the year?

I would think so. There is no reason to believe that the servers would not continue in especially the storage area. Yeah. I agree with you.

Finally, any additional foreign expansion plans that you can share with us?

No. We are not looking at any expansion to a new foreign market.

Thank you very much.

Thank you. Our next question is a follow-up question from Keith Bachman from Banc of America. Your question, please?

Yeah, thanks. Two things. On the contract manufacturing side of the business, a different way to ask it, are you still primarily focused on one vendor?

One customer, that's correct.

One customer, rather. And that's why you have seasonality in the August. Let's say hypothetically, that customer had a June fiscal year end. Is that why there's seasonality there?

That's correct.

On the second side, can you refresh -- on the distribution side of the business, you mentioned servers and storage were stronger. Can you refresh my memory on who your line cards are on the storage and server side. I assume it is primarily HP. I want to verify.

IBM and HP. That's correct.

And the final thing, Brian asked a question about the amount Mexico impacted last quarter. And I didn't catch the impact this quarter. So I was just wondering if you could repeat that for me, please.

We're talking about operating loss here.

Yes.

This quarter was approximately $660,000. And Q1 2004 was approximately $400,000.

I know you guys are probably already tired of this. But it begs the question there was an acceleration on the loss. And yet you're thinking of rectifying it by or have an objective to rectify it by the end of the year. What gives you the confidence since the loss seems to be widening rather than growing that you've got two quarters, or a couple of quarters to fix it.

Because we think we know what the problems are. And we have been pretty much effecting the problems So we believe that the bleeding should stop. Start to stop.

Okay. Thanks very much. That's it for me.

Thank you. Our next question is a follow-up question from Brian Alexander of Raymond James. Your question, please.

Yeah, just to go back to the disk drive commentary about weak sales there. Is that strictly a function of what you're seeing from an in demand standpoint or are you seeing more competition there? I know one of your larger competitors has an initiative to grow their components business, specifically in North America. I'm wondering if that is causing any competitive pressure on the component side of the business.

That is one of the major problems we had. Because of competition. And also, to some degree, the vendors programs somewhat changed. Combination of both really impact us in that area.

When you say competition, are you talking from -- are you talking more from the gray market distributors or more from the franchise distributors?

The gray market is always there. And we never discount that. And I'm talking about the one specifically that --added by one of our major suppliers as you alluded earlier.

Okay. And then when you mentioned changes in vendor programs, can you be a little more specific on what is changing there? Is it a pricing issue? Is it other terms and conditions?

The other terms and conditions in the past, probably more rebates. Nowadays, there are less rebates associated with that. And those also make it more difficult right now from the margin standpoint.

And these are some of the programs that the suppliers have talked about, I think, publicly.

That's correct. You heard that from them as well.

It sounds like those programs are really going to help distributors longer term. What kind of impact do you think you can see? Is that a favorable change for your business long term, where maybe in the short term, it is, I guess, a little bit of pain.

The short term is certainly very painful. And long term, the key things that drive the business is the gray market. If they could have a very good disciplined control on the gray market, I think we can perform -- we can outperform anyone in this market.

Okay. Thanks. That's it for me.

Thank you. Our next question comes from Peter Barry of Bear Stearns. You question, please?

Intel was a 10% customer in the first quarter. Any significance to the fact they were not included in the second quarter?

This is Dennis, Peter. Not at all. It is more a factor of our assembly revenue being up so much. And that percentage is a percentage of our total revenue, not necessarily our distribution revenue.

So they can be on and off --

right. But the percentage mix of HP and IBM, Intel, if you will, is generally consistent.

Let me just close by asking, would it be unreasonable for us to assume that Mexico losses would be maybe not less than $400,000, but less than $660,000 in the third quarter?

I would be shocked -- it would be very shocking if the numbers go up that high, Peter.

So you would expect it under $400,000 in the third quarter, Bob?

We don't expect the losses to be as high as they were in the second quarter.

Okay. That's what I wanted to know. Thank you.

Thank you. At this time, I show no further questions.

Okay. Well, then, this concludes our second quarter earnings conference call. And I thank all of you for joining us today. We will have a replay of this call available for two weeks beginning today at approximately 5:00 p.m. Pacific standard time through July 8. It will be posted on our website at IR.Synnex.com. The replay number for domestic dial is 866-219-1444 and 703-925-2474 for international. The conference ID is 490619. Thank you again for your participation today.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program. You may now disconnect.