ScanSource, Inc. (NASDAQ:SCSC) Q2 2024 Earnings Call Transcript
ScanSource, Inc. (NASDAQ:SCSC) Q2 2024 Earnings Call Transcript February 6, 2024
ScanSource, Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Welcome to the ScanSource Quarterly Earnings Conference Call. All lines have been placed in a listen-only mode until the question-and-answer session. Today's call is being recorded. If anyone has any objections, you may disconnect at this time. I would now like to turn the call over to Mary Gentry, Senior Vice President, Treasurer and Investor Relations. Ma'am, you may begin.
Mary Gentry: Good morning, and thank you for joining us. Joining me on the call today are Mike Baur, our Chair and CEO, and Steve Jones, our Chief Financial Officer. We will review our operating results for the quarter and then take your questions. We posted an earnings infographic that accompanies our comments and webcast in the Investor Relations section of our website. As you know, certain statements in our press release, infographic and on this call are forward-looking statements and subject to risks and uncertainties that could cause actual results to differ materially from expectations. These risks and uncertainties include the factors identified in our earnings release and in our Form 10-K for the year ended June 30, 2023.
Forward-looking statements represent our views only as of today, and ScanSource disclaims any duty to update these statements, except as required by law. During our call, we will discuss both GAAP and non-GAAP results and have provided reconciliations on our website and in our Form 8-K. I'll now turn the call over to Mike.
Mike Baur: Thanks, Mary, and thanks, everyone, for joining us today. As we entered fiscal year 2024, we identified strong free cash flow and focus on Intelisys as keys for our success. For our second quarter, we achieved this aim with free cash flow of $61 million and Intelisys growth of 7.5%. Our business fundamentals remain strong. However, we were disappointed at our lower-than-expected net sales for our hardware business. As it turns out, we were too optimistic in a changing demand environment. Second quarter net sales declined 13%, reflecting lower demand from our portfolio of technologies. Net sales for our Intelisys Technology Services business grew 7.5% and drove our recurring revenue growth. Q2 end user billings increased 10% year-over-year and exceed $2.6 billion annualized.
This includes billings growth in Contact Center as a Service CCaaS of 24% and UCaaS of 18%. As long-standing channel advocates and thought leaders, we meet our partners where they are and help them grow their business. A recent example is our series of AMP'd for Growth educational events, we held the first one last week featuring AI and Communication Platform as a Service CPaaS opportunities. During Q2, barcode, mobility, point-of-sale, security and communications hardware sales declined more than we expected. As we have discussed in previous quarters, strong growth continued from our Cisco portfolio of products and services and our networking products. Our hardware technologies are at different stages of their demand cycles. During the supply chain crisis over the last couple of years, we experienced broad-based demand across our technologies.
We used our strong balance sheet to minimize inventory shortages while enabling our customers to meet stronger than normal demand. End users purchased inventory ahead of their needs, and they are taking time to deploy these products. In this environment, forecasting demand is very challenging. And as a reminder, at ScanSource, we work with no backlogs and no bookings. For the quarter, our adjusted EBITDA and improved working capital efficiency generated another strong quarter of free cash flow. I'll now turn the call over to Steve to take you through our financial results for the quarter and our outlook for fiscal year 2024.
Steve Jones: Thanks, Mike. Q2 demand was softer than we expected. While revenues were lower, our business delivered EBITDA margins consistent with our expectations and strong free cash flow. We continued to improve our key working capital metrics and recurring revenues grew led by 7.5% year-over-year growth in Intelisys. Q2 net sales of $885 million declined 12.5% year-over-year, while gross profit margins of 11.4% were in line with the prior year. While we expected a year-over-year revenue decline, the recovery for our barcode and mobility technology is occurring slower than we expected, and we saw a slowdown sooner than expected in physical security. These technologies are reported in our Specialty Technology & Solutions segment, which saw a revenue decline of 17% year-over-year and a corresponding 17% year-over-year decline in gross profit.
In our Modern Communication and Cloud segment, revenues declined 5% year-over-year. Growth in Cisco partially offset lower sales of communication devices. Gross profits in our Modern Communication and Cloud segment declined 9% year-over-year, reflecting an unfavorable product mix. For the quarter, we delivered $61 million in free cash flow with solid progress on improving our working capital efficiency. Inventory levels and paid for inventory days continue to improve, reflecting both a return to normal supply chain lead times and our expectation of demand. Accounts receivable balances are moving with revenue as we would expect. We are setting the business up to continue to deliver positive free cash flow when our business returns to growth.
Now going a bit deeper into the balance sheet and cash flow. We are pleased with the progress we are making with working capital investment. Our goal is to increase inventory turns while maintaining appropriate inventory levels to meet customer demand. We gained working capital efficiency as demonstrated by improvements in our working capital metrics. Q2 inventory turns increased to 5.1 times, the fastest in five quarters. Days sales outstanding also improved and declined to 68 days, the lowest in five quarters. Our balance sheet remains strong. From a net debt leverage perspective, we ended Q2 at approximately 0.8 times trailing 12 months adjusted EBITDA, with ample liquidity within our existing credit facility to support our strategic plans.
We have an active pipeline of M&A opportunities. However, we believe there is ample room on our existing $65 million authorization to return cash to shareholders through share repurchases for the remainder of FY '24, while maintaining our target leverage ratio of 1 to 2 times trailing 12 months adjusted EBITDA. Looking ahead to the second half of FY '24, the company expects revenue headwinds to continue, and we are updating our guidance to reflect our current view of near-term demand. We are managing our SG&A spending to match our revenue growth expectations for FY '24 and beyond by redirecting resources and investing in our Intelisys recurring revenue business. For FY '24, we now believe that our net sales will be at least $3.5 billion and adjusted EBITDA to be at least $155 million, which reflects an EBITDA margin of 4.4%.
For Q3, we expect net sales to be down 6% to 8% quarter-over-quarter, which is better than our typical Q3 seasonality. We are maintaining our free cash flow outlook of at least $200 million as we continue to improve our working capital efficiency. To help with analyst models, we expect net expense for interest expense, interest income and other expenses to range from $9 million to $10 million for the fiscal year '24. Our estimated effective tax rate, excluding discrete items, is expected to range from 27% to 28% for the fiscal year. Our updated guidance reflects our expectation of the near-term demand environment. We remain confident in the resilience of our business and our ability to be well positioned for return to growth. I'll now turn the call back over to Mike for closing comments.
Mike Baur: Thanks, Steve. We are building a cash culture at ScanSource. In fiscal year '24, for the first time, we included free cash flow as part of our annual outlook. Our aspiration is sustainable and predictable free cash flow that we can forecast and count on. An excellent use of free cash flow is to fund growth of high margin and working capital-light recurring revenue. We will now open it up for questions.
Operator: Thank you. [Operator Instructions] Our first question comes from Greg Burns with Sidoti. Your line is now open.
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