Q2 2009 Earnings Call
August 11, 2009; 05:00 pm ET
Richard Leeds - Chairman & Chief Executive Officer
Larry Reinhold - Chief Financial Officer
Bruce Leeds - Vice Chairman
Gilbert Fiorentino - Chief Executive of Technology Products Group
Denise Roche - Brainerd Communicators
Dorsey Gardner - Kelso Management
Ross Lutero - Unknown Company
Good afternoon ladies and gentleman, and welcome to Systemax second quarter 2009, earnings teleconference call. During the presentation all participants will be in a listen-only mode afterwards you will be invited to participate in the question-and-answer session. (Operator Instructions)
At this time I would like to turn the conference over to Ms. Denise Roche of Brainerd Communicators, please go ahead.
Thank you operator, welcome to the Systemax, second quarter 2009 earnings conference call, I am here today with Richard Leeds, Chairman & Chief Executive Officer of Systemax, Gilbert Fiorentino, Chief Executive of Systemax Technology Product segments which includes TigerDirect, CompUSA, CircuitCity.com and MISCO and Larry Reinhold, Executive Vice President and Chief Financial Officer.
This discussion may include certain forward-looking statements, it should be understood that actual results could differ materially from those projected due to a number of factors including those subscribed under the caption forward-looking statements in the company’s annual report on From 10-K. This call is a property of and is copyrighted by Systemax Inc. I will now turn the call over to Mr. Richard Leeds.
Good afternoon and thank you for joining us on today’s call. The second quarter much like the first, was confronted with a very challenging global economic environment and decline in consumer confidence that has affected the broad retail sector. As we had stated in our press release, I am very pleased that we managed to grow overall revenues in this environment on a constant currency basis. Most of the companies operating on, in our markets and most retails in general, are reporting significantly lower revenues compared to last year.
As we said last quarter, we intended to grow market share in this economy and we delivered on that. Our second quarter results led by our North American technology products group were very solid. Our success is a result, not only of our continued focus on gaining market share, but also leveraging our strong portfolio of retail brands which now include TigerDirect, MISCO, CompUSA and the newly launched CircuitCity.com.
In our earnings press release issued earlier today, we provided additional transparency on the business, including a summary table on revenue mix by product category and details on revenue breakdowns from retail channels and B-to-B channels.
I’d like a moment to discuss how the current environment has impacted each of these channels. Our B-to-B operations, both in technology products and industrial products have been most affected by the economic slump, as businesses of all sizes continue to cut back on spending and are either reducing the size of orders or postponing purchases altogether. This is a trend that began in the fourth quarter, accelerated in the first quarter and has continued since.
While we can’t control when spending will resume we have implemented cost reduction initiatives to better rationalize our expenses of sale, but we haven’t done this at the expense of future growth. We continue to strategically invest in areas we believe, that will help Systemax grow this part of the business in the long run.
This includes investing in our sales force, improving our ecommerce side, increasing product selection, and expanding into complementary product categories. Although, B-to-B sales of the quarter in six-month period are down, we have seen our customer base grow and believe that we are modestly gaining market share, which will benefit out bottom line once the market resumes more normalized activity.
By contrast, we believe our consumer retail operations are performing well ahead of the market. During the quarter, we saw a top-line growth in both our ecommerce properties and retail stores. We are also expanding our brands, and on May 19, we closed on the acquisition of Circuit City’s ecommerce business for $14 million in cash, plus a share of future revenue over a 30-month period.
Few days later, on May 22, we have launched the new and improved CircuitCity.com website. I would like to thank everyone in our team that worked so hard to get the website up so fast. We believe that this iconic brand is a great fit to our ecommerce portfolio. CircuitCity.com is now fully integrated into Systemax’s operations and contributed five weeks of sales for the quarter.
While the dollar amount was not material during that short period, we have seen a healthy increase in traffic to the site. We continue to develop our advertising campaigns, website features and product categories to leverage our experience in the online retailing of computers and consumer electronics and are established backend in distribution infrastructure to grow the Circuit City business.
We are also seeing improved traffic across our established sites TigerDirect.com and CompUSA.com. Today, Systemax has three sites, TigerDirect.com, CompUSA.com and CircuitCity.com combined ranks third in terms of traffic in the United States consumer electronics segment according to Hitwise. This validates our belief that Systemax has positioned itself as a leader in online retailing of value priced random computers and consumer electronics.
In addition to growing our E-commerce business, this continues to focus on improving and expanding our storefront footprint. Our retail 2.0 initiative is progressing as planned offering from US service and satisfaction to our customers. We’ve converted five stores, we’ve also continued to expand our brick and mortar location, and the second quarter opened up 13 stores located at Timber Pines, Florida. We continue to look at opportunities for additional expansion in target geographic areas around the country.
Before I turn the call over to Gilbert we’ll discuss highlights for the technology products group, I would like to briefly discuss our rationale for exiting the ProfitCenter software business.
Although we have significantly narrowed the focus of our PCS business over the last several quarters, an effort to establish a sustainable business model after a through evaluation we concluded it was in the best interest of the company and our shareholders to reduce our investment in the software business.
This will improve our profitability, strengthen our balance sheet, prove our operating cash flows, and allow us to deploy our capital on areas which are better aligned with our core retail and direct marketing businesses. During Q2, PCS incurred an operating loss of $4.1 million and during the last four quarters the operating loss has aggravated as $16.1 million.
Systemax has evolved over the years and with the acquisition of CompUSA last year and the recent addition of Circuit City.com we have cemented our position as a leader in the consumer electronics retail market.
Despite the macro challenges that remain the company preformed well in the second quarter, will remain dedicated to our strategic expansion and the amplification of our brands. Systemax as a profitable and growing business is well positioned to prosper once the industry and economic environments improve. We will now turn the call over to Gilbert.
Thank you Richard and good afternoon everybody. The second quarter was an exciting period for the technology products group. As Richard mentioned, we added Circuit City.com to our portfolio of brands. Our core consumer businesses continue to grow as we prepare to open new stores and complete the Retail 2.0 conversions of our existing stores. The e-commerce business also grew stronger.
Clearly, the highlight of the quarter was Circuit City. Circuit City is a well-known national brand with a 60 year legacy in consumer electronics. We launched the new and improved website a few short days after the acquisition was completed. The new Circuit City.com website features every day low prices Systemax’s other business are known for. Great deals, a wide selection of products and fast shipping, world class customer service, advanced search capabilities, enhanced content and much more.
We are energized by the opportunities that Circuit City presents. Since it went live site traffic has consistently grown and is now averaging over 900,000 visitors per week. We have been building out advertising campaigns, website features, and product categories.
In July we began an online advertising campaign to reinforce the real messaging and launched an affiliate marketing program to attract new customers to the site. We are currently developing plans to leverage the customer list and offering great opportunities for our vendors to reach these known buyers with their product messaging.
We are also expanding the product categories on the Circuit City site with categories and brands which legacy shoppers have historically been known to buy, such as music and movies, houseware and small appliances and mobile electronics.
Moving onto overall performance of the technology products group, in the second quarter, net sales decreased by 3% in US dollars, but if you look at it on a constant currency basis, sales growth would have been 3%. Revenue growth in the quarter was driven by our North American operations, where sales grew about 11% over prior year.
North America represented 74% of Systemax technology products group total revenue in the second quarter. However, the strong growth in our North American division was offset by declining sales in Europe of approximately 29% in US dollars. European sales were significantly impacted by exchange rate changes, and if we exclude the effect of exchange rate changes; sales would have declined only 13% against the previous year.
In North American technology, laptops, LCD, high definition TVs and monitors were the best performing product categories and represented about 20%, 10% and 7% of total revenue for the quarter respectively. Laptop sales grew over 70% from prior year, driven by continued strength in Netbooks. Of the laptop sales, Netbooks represented about 24% of the revenue during the quarter.
CompUSA continues to lead our retail storefront strategy in the United States, supported by the CompUSA.com website. While TigerDirect.com and now Circuit City.com encompass the majority of our e-commerce business, our CompUSA web operations are a nice complement to the core brick and mortar business, and we had 566,000 average weekly unique visitors to that site.
In the Hitwise rankings for market share in the top 20 websites in the shopping and classified computers category, CompUSA is at number 13 representing 1.5% share of visits at the end of the second quarter which is up from 16th place or 1.3% share of visits at the end of the first quarter.
TigerDirect.com, which is the largest of Systemax’s e-commerce businesses in terms of activity and web traffic, was up 45% over 2009. During the quarter there were 2 million average weekly visitors to the site.
In total, Systemax’s three consumer retail sites are performing well. comScore Media Metrix lists the three websites combined as having the number two fastest growing traffic across all websites with 59% growth from May to June 2009. In fact if you add the market share for the Systemax technology websites in the United States combined, TigerDirect.com plus Circuit City.com and CompUSA.com, they generate enough traffic to rank our company the third largest computer and electronics reseller on the web according to Hitwise reporting.
Within the brick and mortar segment our Retail 2.0 initiative is successfully progressing and receiving much acclaim as an innovative to meld our industry leading web presentation with the instant gratification of making a purchase at a store location that is unlike anything else provided to consumers in our industry. By the end of the quarter we had five stores that have been relaunched to Retail 2.0.
Customer response to Retail 2.0 has been quite positive. With customers appreciating the additional product information available, the ability to shop without leaving the store, the knowledgeable staff as well as the independence that gives them to make their own buying decisions.
Recently, a new addition to the Retail 2.0 model is the inclusion of the waterfall display for cameras and GPS devices and MP3 devices. The waterfall installation is just the next step of advancing the Retail 2.0 model with its ability to project information about these products on a screen immediately when a customer picks up one of the products from the installation. For example, if a camera is picked up on the installation there is a screen that automatically shows the customer the website version of what that camera’s content is.
We’re constantly innovating, and as we spend time in the stores talking to sales associates and to our customers as well as in our discussion with vendor partners, we continue to make modification and add features to further improve the Retail 2.0 experience.
Our B2B business was down an 11% compared to with the prior year for all the reasons that Richard mentioned earlier. We still believe B-to-B offer significant growth opportunities for Systemax, and we continue to strategically invest in this part of the business and position it for growth when the economic environment improves.
Throughout our technology business everybody is making plans to capitalize on Microsoft planned October launch of Window 7. As a close partner of Microsoft we are well positioned to gain significant share of the estimated $320 billion in revenue that IDC reported will be generated as a result of Windows 7 launch between October and the end of 2010.
Moving to our European operations, our performance has differed by country much like their economies have varied. The most challenging countries are Spain, Germany and Italy, where deepening economic crisis and soaring unemployment rate significantly impacted second quarter revenue as business decreased corporate spending.
One shift we did see across the board for a while, in the first quarter the impact had been mostly on our small and medium size business customers, in the second quarter all customers regardless of size were impacted by the economic slow down.
We have focused on cutting expenses, especially in markers where we’ve experience the most softness, though headcount reductions and through other cost cutting initiatives.
The bright side in Europe was the UK, our largest European operation. The UK operation benefited from our strength in the public sector with much of the business coming from government and educational sources.
As we have said previously, challenging markets present opportunity to grow through select acquisition. At the beginning of August, we signed a definitive agreement to acquire WStore Europe, a European supplier of business IT products with operations in France and the United Kingdom.
We think this is an exciting growth opportunity within the vast and fragmented European IT market. This acquisition will strengthen our presence in the region, grow market share and enable us to leverage our experience in the sector and our established background and distribution infrastructure to grow our European Operations. We expect that acquisition to close in the third quarter.
In summary, while we are certainly not immune to the macroeconomic environment, we believe that our overall consumer business is faring well, considering the current macroeconomic business. In the segments most impacted, B-to-B we are managing our expenses and watching the bottom line. We are gaining market share across the businesses, taking advantage of the opportunities to grow strategically through acquisition and innovating to improve the overall retail experience, all of which will benefit the company in the long-term. With that I’ll pass the call to Larry.
Thank you Gilbert and good afternoon everyone. Before I provide details on the quarter, I’d like to review a couple of housekeeping items. First, as you likely noticed, we have introduced a new format for our quarterly earnings release. We believe this new format, which details our comparable channel sales growth and revenue mix by channel and product category provides increased transparency into our business that better matches with the needs of our investments.
Secondly, I want to comment briefly on the one-time pretax charges reported this afternoon. These charges totaled $6.3 million and included $2.4 million related to the previously announced plan to exit the PCS Hosted software business, which Richard discussed earlier. The other $3.9 million in one time charges were principally related to litigation settlements and severance payments in various business units.
The largest individual item included in these special charges was a settlement with a patent flow. These total charges impacted our second quarter net earnings by $4.5 million after tax or $0.12 per diluted share. Systemax posted second quarter consolidated sales of $721.6 million down 4.6% compared to the second quarter of last year. When you look at revenue on a constant currency basis, sales grew 1.4%.
Comparable second quarter retail channel sales increased by over 15% compared to last year, while B-to-B sales were down 17%. Our performance was again highlighted by growth in our North American Technology products group, which I’ll discuss in more detail shortly.
Gross margin for the quarter was 14.8% versus 15.2 % last year down mostly due to product mix and the continued use of discounted rate charges. Net income for the quarter was $6.5 million or $0.17 per diluted share down from $0.36 in the same period last year. Income tax expense in the quarter was about $2.5 million. Our effective tax rate for the quarter was 27.6% down from 37.1% last year due, principally to a tax reserve reversal of $1million. Excluding this tax reversal our effective tax rate would have been 39.1%, just 2% higher than last year.
This tax rate increase is the result of a higher portion of our taxable income being in the United States, where our corporate tax rates are typically the highest in the world. Technology products net sales were $672 million, a decrease of 3% versus the second quarter of last year representing 93% of the company’s overall sales revenue.
On a constant currency basis, technology product sales would have increased 3% compared to last year. Operating income in the second quarter was $16.0 million compared to $23.7 million in the second quarter last year.
Industrial products including the long-term legacy business is a profitable and cash flow generating business and continues to be an important overall product of our business. The revenue growth in our technology products group has far outpaced that of the industrial business. In the second quarter total revenue from the industrial products was $48.8 million, a decrease of 21% over the second quarter of last year.
This represents only about 7% of Systemax’s consolidated revenue as its percentage of total revenues decreases it will have less of a material impact on our results and will become less of a focus group discussion.
Turning to our geographical breakdown, our total North American sales were $547.9 million for all segments in US dollars, an increase of 7% from the second quarter last year, and represented 76% of our total sales for the quarter.
Our total European sales were $173.7 million in US dollars, down 29% over the year ago quarter and represented 24% of our total sales. Again, excluding exchange rate changes, our Europeans sales would have been down about 13% compared to last year.
If we look at our revenue mix by channel, our total consumer retail sales which include sales from retail stores, websites, catalogs, television shopping were $387.4 million, an increase of 18% from the second quarter of last year due in large part to the CompUSA acquisition and represented 54% of our total sales for the quarter.
Business to business sales, which includes sales generated from our outbound call centers, business extranet in the entire industrial product segments were $309.1 million down 24% over the year ago quarter and represent 43% of our total consolidated sales.
I’d like to highlight our revenue mix by product categories in the second quarter. The computer category represents our largest individual product category by revenue accounting for $197.1 million in sales, 17% growth over the last year. This increase was driven by a high demand for Netbooks and laptops.
The second largest product category was consumer electronics, which includes television, display screen that represented a $166.8 million in sales, truly flat from last year. Our computer accessories and software category represented a $108.6 million in sales, an 18% decline in mix compared to last year. As I said at the start, additional information on revenue mix has been made available in our earnings press release.
During the quarter our total SG&A expense increased about a 120 basis points to 13.6% of revenue versus last year. If we exclude the special charges incurred this quarter, our SG&A was about 12.8 % of revenue, a 40 basis point increase versus last year. That increase is the result of cost added at our CompUSA stores, as sales have ramped in various IT initiatives.
The company continues to maintain a strong financial position. As of June 30th, 2009, our balance sheet reflected $258.9 million of working capital and over $87 million in cash and cash equivalent. Our current ratio was 1.8 to 1. We ended the quarter with about $310 million of inventory; we have no debt outstanding other than about $2 million in capital leases. Additionally, our $120 million credit facility remains undrawn and we have about $190 million of cash available liquidity as of the end of the quarter.
During the quarter we repurchased about 66,000 shares of common stock at an average price of $11.99 per share pursuant to our stock repurchase plan approved by the board of directors in May of 2008. To-date we have repurchased 574,000 for $7 million at an average price of $12.19 per share.
With that I would like to open up the call for question. Operator.
(Operator Instructions) Your first question comes from [Ross Lutero – Unidentified Company].
Ross Lutero - Unidentified Company
Wanted to know about that $2.4 million for the charge related to the software business, what more can we expect? Is it still the $5 million in guidance for the rest of the year?
Well, the software business, not every charge can be taken in the quarter, the accountables don’t allow you to do that anymore. There is a scale to the winding down of the business that will happen in Q3 and Q4. We expect that the numbers could be much smaller than what we had in Q2. As we said in our press release, the announcement on the PCS business, we expect that our cost structure will be reduced by at least $10 million on an ongoing basis, after we’ve finished [steadying] the business.
In terms of the Retail 2.0 stores, could you give me a little color on how much does it cost to transition one of these stores to the Retail 2.0, and if you plan to do this with any more stores in the next year?
We are currently converting all of our stores and hope to have that conversion done by the end of the year, and obviously for competitive reasons we don’t really talk about how much it costs to convert the stores
Your final question comes from Dorsey Gardner - Kelso Management.
Dorsey Gardner - Kelso Management
My question is answered. Thank you.
At this time, there appear to be no further questions. I’d like to go and return the call back to Mr. Leeds for any additional or closing comments.
I’d like to thank everybody for listening to our call. We look forward to reporting our results next quarter. Thank you everybody.
That does conclude today’s conference call. Again, we do thank you for your participation.
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