ScanSource Earnings Call INSIGHTS: Vendor Program, Margin Degradation

On Thursday, ScanSource (NASDAQ:SCSC) reported its fourth quarter earnings and discussed the following topics in its earnings conference call. Take a look.

Vendor Program

Anthony Kure – KeyBanc: A couple of quick questions. Just on the vendor program, obviously we talked about this last quarter. It’s going on this quarter, and I think what we talked is that, that you’re expecting some release. Just wondering if there’s any – as the quarter passes now, is there any line of sight into maybe when that release might come on the margin side?

Richard Cleys – VP of Finance and CFO: The vendor programs, we have limit to the vendor programs in our International business. We have a number of vendor program issues. For example, one of the things that occurred in one of our International businesses is we went from a fee-based arrangement on a major vendor to a full purchase and sales. So, on the fee-based, you reflect only the margin as revenues, and as the overall gross margin. So you have a 100% gross margin on that product. We are now purchasing that product and taking on the receivable risk in the inventory we carry and we have more of a typical margin. So that impacted the overall International margins, just as an example.

Anthony Kure – KeyBanc: So, I mean obviously you’re talking about – and Mike, you alluded to the fact that if do you want to negotiate or it sounds like you said negotiate with them to have a more profitable enterprise there over in Europe, I mean is that something that should happen in fiscal ’13 or within the next couple of – I’m just trying to get some sort of line of sight there?

Mike Baur – CEO: So typically, we have annual programs and then we have quarterly updates. We have a quarterly business review with each of our key vendors, and at that interval in time, we sit down together and say, hey, how is it working, are we meeting our plans, is ScanSource happy, are we happy as a vendor. So, we generally have these intervals to update and change throughout the year. So it doesn’t mean it’s a year away, it doesn’t mean it happens in the exact quarter that we want it to happen into, but generally, we don’t have to wait a year, Tony.

Anthony Kure – KeyBanc: Then, inventory reserves were also said as an impact. Could you maybe scale those relative to the vender programs, are they as big of an impact, bigger or smaller?

Richard Cleys – VP of Finance and CFO: In the overall margin, the inventory reserves was the largest factor and those inventory reserves are reflective of lower than expected sales and also some purchasing with a number of venders where we’re trying to get some increase especially in our European business. So for our policy as this inventory ages, we have to set up reserves for this with amounts that excess. So that was the biggest single factor in our overall margin.

Anthony Kure – KeyBanc: And then I guess from the outlook perspective, just two quick questions. First the revenue guidance. I mean is it fair to say that with Juniper going away, about $40 million last year, I think you said, is it fair to say that your revenue guidance could have been $40 million higher if you had Juniper still that relationship going?

Mike Baur – CEO: Well, I think it’s fair to say we included loss of Juniper in our guidance.

Anthony Kure – KeyBanc: And then the last one is just on that note, was Juniper a higher margin business because, for the flat revenues and if I go to the midpoint of your guidance here, operating margins come down about – come down sequentially. So is it fair to say that was higher margin business or is there something going on else in the September quarter that’s maybe impacting margins?

Mike Baur – CEO: I wouldn’t read the forecast margin expectation from modeling you are doing there to be the result of Juniper.

Margin Degradation

Keith Housum – Northcoast Research: Staying on the topic of your guidance, if you back into it, as Tony said, you have 3.25% operating margin versus, I think roughly 3.6% excluding Brazil in this quarter. Can you speak about the margin degradation a little bit further? I mean, is there something rising that says that it’s not going to continue, where you are at 3.6% is not going to continue?

Richard Cleys – VP of Finance and CFO: First of all, remember, we’ve got this fair value adjustment and in our fair value adjustment if all is equal on our projections, you end up having additional expense because you are getting closer to the payout. So, in our guidance it implies a fair value expense, I think last quarter, we forecasted about $1 million of expense and we ended up with income, it would be fair to model a similar number for this upcoming quarter, so that I think is a big change coming off of the fourth quarter.

Keith Housum – Northcoast Research: So you said at least similar to that $1 million you’d model for the first quarter?

Richard Cleys – VP of Finance and CFO: I think that would be fair estimate.

Keith Housum – Northcoast Research: That certainly gets you some of that gap, but any other color on what perhaps may fill in the additional gap?

Richard Cleys – VP of Finance and CFO: With the ERP project, we are caring some internal folks and some external consultants where those expenses are not capitalized. So, we do have additional carry, we had for instance last – for the last fiscal year, our expense load for the ERP project for consultants and internal labor that was not capitalized was about $5 million for the year.

Keith Housum – Northcoast Research: So, that number will be increasing in FY ’13 as you guys make a push toward the implementation?

Richard Cleys – VP of Finance and CFO: That would be a reasonable assumption.

Keith Housum – Northcoast Research: Then in terms of FX, you guys disclosed the impact in terms of the overall sales. Any of that dropped into the bottom line or it’d be because of the high measure of the cost of goods sold kind of that filters out to immaterial number?

Mike Baur – CEO: Well, let me just address as a bottom line. If you assume even a 10% margin and then say a 6% SG&A, you’re going to have 4% of whatever that top line is show up as lower U.S. dollars. So, in local currency you could end up with – you get the same results, but when you translate into dollars, it’s going to affect you by call it 4% or thereabouts.

Keith Housum – Northcoast Research: Then finally, with Juniper, did you say the contract ends or the distribution may end September 30 or June 30?

Mike Baur – CEO: September 30. We worked with Juniper on making sure there was no change in the business through June 30, but it’s already been announced to customers at the beginning of July. So, customers already aware of it, so we have got a contract in place just to frankly help both of us transition any inventory issues, any returns all that kind of stuff.

Keith Housum – Northcoast Research: But the expectations are since customers go about it, they are going to start working their way toward other distributors and that’s why they couldn’t get it?

Mike Baur – CEO: Yes, for product like this, it’s available at other distributors, so we anticipate that will happen, yes.