CDW Corporation Q1 2007 Earnings Call Transcript

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CDW Corporation (CDWC)
Q1 2007 Earnings Call
April 24, 2006 8:30 am ET

Executives

John Edwardson - CEO
Barb Klein - SVP and CFO
Jim Shanks - EVP
Harry Harczak - EVP
Paul Shain - SVP

Analysts

Jason Gursky - JP Morgan
Matt Sheerin - Thomas Weisel Partners
Brian Alexander - Raymond James
Bernie Mahon - Morgan Stanley
Dan Renouard - Robert Baird
Bruce Simpson - William Blair
Andy Hargreaves - Pacific Crest Securities
Marko Vucenovic - FTN Midwest
Richard Gardner - Citigroup

Presentation

Operator

Good morning, ladies and gentlemen and welcome to the First Quarter 2007 Earnings Call. At this time all participants are in a listen-only mode. Later we will conduct a question-and-answer session. Please note that this conference is being recorded.

I will now turn the call over to Mr. John Edwardson. Mr. Edwardson, you may begin.

John Edwardson

Okay. We are having a great deal of trouble hearing you. So, if any of the callers are having trouble hearing me, I hope they will let you know somehow.

Good morning and thank you to all of you listening in to discuss with us CDW's outstanding first quarter results. With me here in the room today are Jim Shanks, our Executive Vice President; Harry Harczak, Executive Vice President; Barb Klein, Senior Vice President and Chief Financial Officer, and Paul Shain, Senior Vice President and responsible for the Berbee operations.

Also in the room are Doug Eckrote, our Senior Vice President, and Chris Leahy, our General Counsel as well as Cindy Klimstra. So, we have a room full of people to discuss with you a lot of good news this morning. But before we begin, Barb will present the company's Safe Harbor disclosure statement.

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Barb Klein

Thank you John and good morning. Any statements made by management in this conference call, which are forward-looking, that is not historical in nature, are made pursuant to the Safe Harbor provisions of the Private Securities Litigation Reform Act of 1995. Please be cautioned that such forward-looking statements involve risks and uncertainties, and are based on the company's current expectations. Actual results could differ materially from such expectations. Certain risks, uncertainties and other factors affecting the company's business are contained in its filings with the SEC, and are discussed in this conference call.

Also, if you are listening to a playback of this conference call, please be advised that our statements on this conference call are made as of the date of the call, are subject to future events and should not be considered to represent the expectations of management other than as of the date of this call.

Our press release and slides for today's call are posted on the Investor Relations' pages of our website at cdw.com. Supporting materials on the Investor Relations' page are under the heading, entitled "Webcast."

John Edwardson

Okay. Thank you, Barb. In our recently published shareholders report, my letter to shareholders reviewed the landmark steps that we took in recent months to expand our platform for growth. Major investments included the geographic realignment of medium and large customer accounts in the corporate sector as well as our acquisition of Berbee Information Networks.

We also completed our first year of operations on our new Western Distribution Center in North Las Vegas. The geographic realignment proved to be especially challenging, but we knew these were the right strategies for CDW's future growth.

We are now pleased to report that we are beginning to make more progress on leveraging these significant investments, as we delivered new quarterly records for revenue, for gross profit, and for operating income in the first quarter of 2007.

We believe that we outpaced the market rate of growth by approximately three times based on the market data from various third-party sources. The credit for this performance goes directly to our CDW co-workers who have focused on growing our business profitably and providing an unmatched experience for all of our customers.

We return to slide 3 of the webcast presentation. You'll see that it compares our financial results for the first quarter of 2007 to the first quarter of 2006. You can see that total revenue grew 17% or $1.86 billion, gross profit increased to 18.7% or $301 million and gross profit margin was up 16.2% of revenue.

Operating income increased 25.2% to $118 million and operating margin was 6.3% of revenue. Net income, likewise, increased 24.5% to $77 million and diluted earnings per share increased 28% to $0.96.

In the first quarter of 2007, Berbee contributed $143 million to our total revenue. Excluding Berbee and therefore on a non-GAAP basis, total revenue was $1.716 billion, an increase of 8% compared to the previous year period. Berbee also contributed $0.03 to diluted earnings per share after accounting for interest expense related to the acquisition.

A key component of our performance this quarter is the improved operating margin of our corporate and public sectors, based on both year-over-year and sequential quarter comparisons. Barb will provide more details in her presentation, but we wanted to recognize our sales team's efforts to be more strategic and more disciplined in growing revenue profitably.

In addition, we recognized all of our non-sales coworkers' extra work to optimize our margins and to keep our SG&A costs under control. Annualized revenue per coworker decreased to $1.34 million in the first quarter of 2007 from $1.47 million a year ago. Annualized gross profit for coworker also decreased in the first quarter of 2007 from the first quarter of 2006.

The decrease in these metrics was primarily being driven by the increased sales force growth over the past few quarters, plus Berbee has less revenue per coworker than CDW original.

Slide 4 shows the return on equity and return on invested capital. In the first quarter of 2007, we achieved return on equity of 21.2%, and return on invested capital of 33.3% including Berbee.

Barb will give you more detail on ROIC trends later in her presentation.

If you turn to slide 5, you can see that we spent $16 million to repurchase 254,000 shares of common stock at an average price of $63.53 per share. We still have $2.9 million shares available for purchase under our current share repurchase authorization.

While we achieved our goals for the first quarter of 2007 to grow operating income faster than revenue and profitably outpace market growth, we still believe that one quarter is not a trend maker. As we consider the rest of 2007 and beyond, we continue to set the bar high and remain never satisfied. In other words, we are not letting up for a second.

So, how do we keep this success going? How do we continue to grow operating income faster than revenue and probably outpace market growth? We are going to do this by going on offense. We have made significant investments, as we have discussed with you, which include the sales force alignment, Berbee and the Western Distribution Center. So, what's next?

Our plan is to add net new sales force coworkers at the rate of approximately 350 to 400 per year in 2007 with similar aggressive plans for 2008. We also intend to hire more engineers for Berbee. We are actively evaluating acquisition opportunities to expand the Berbee platform with the goal of having a national footprint in three to four years.

Simply put, we need to continue implementing our business strategy to be a single source provider of IT products and services for our customers. Core drivers of our ability to execute the strategy and take market share will be two. One, focus on the changing needs of customers; two; improve productivity, and three continue to make investments for the long-term growth of this company.

Customers are looking to CDW to help them solve business problems and increase their operating efficiency. They want us to understand their business. So we can help them better, compete by leveraging their use of technology. Sure, they will need to upgrade computers and printers, but they also need, for example, faster and more secured networks, better document management, increased mobility, customized solutions and, of course, cost savings and ease of integration.

Customer's demand values for providing services and after-sales support is key. As our customer's specific needs change, we are increasingly modifying our offerings to gain market share.

If you would turn to slide 6, it shows our US market opportunity. Of our $200 billion market, the value-added resellers hold the majority of share. Many of bars offered customized solutions and high-level customer service. To improve our ability to take share from bars, we have to constantly keep pace with what's driving customer's purchasing decisions.

Through our increased focus on customer segmentation, services and advanced technology solutions, we have significantly improved our strategic position in the market. We are focusing on improving our custom acquisition rates, while continuing to further penetrate accounts.

To improve productivity, we are working on a number of initiatives. In IT, we are upgrading our internal infrastructure to support more and higher volumes of transactional growth.

In general technology prices have decreased and we have to sell more products to increase revenue, the number of transactions will increase significantly overtime.

The upgrades are also designed to provide better customer service as we optimize delivery options between our two distribution centers, and to enhance account manager productivity, we are adding more functionality to our sales systems, engraving new tools for the sales team to better serve customers.

In our product and partner management department, we are launching a new partner optimization program which strategically evaluates the profitability and the addition, as well as the deletion of vendor partners. To give you a sense of the scale we are talking about, we currently have about 1,300 active vendor partners with the top-200 making the vast majority of our revenue. But being more selective of the types of partners and products we carry, we expect to improve our purchasing efficiency and our inventory turnover.

In operations, we continue to work on driving more volume through our Western Distribution Center. In the first quarter of 2007, approximately 30% of our shipments were handled by this facility. In addition to enhancing our IT systems to optimize shipments between our Las Vegas and Vernon Hills facilities, we expect to add more selling resources focused on the Western regions of the United States.

As I mentioned earlier, a key investment we are making this year is the addition of a net new 350 to 400 sales force coworkers and we are on track to reach this goal. We have significantly increased our recruiting efforts to build a more robust sales force pipeline and have applied more stringent hiring criteria to reduce turnover at the same time.

Even though it takes time for new account managers to build their books of business, we believe this is an efficient way to expand sales capacity and to grow CDW. Jim Shanks will discuss the details of these plans in his section.

Turning to Berbee, we are very pleased with their performance this quarter as demand for unified communication solutions among Berbee customers remained very strong. In addition, Berbee saw continued strength in server and storage consolidation projects and collaboration solutions. While Berbee's revenue growth in the first quarter of 2007 increased significantly compared to a year-ago, we do want to remind you that Berbee's growth rate can be more variable compared to our corporate and public sectors, due to its more project-oriented business model.

Our integration team has created and implemented a joint sales coverage model that optimizes customer relationships with expertise between CDW and Berbee. As an early indication of success, we are working jointly to generate Microsoft license sales.

As another benefit, we have continued to deploy CDW's configurations centered to configure certain hardware for Berbee customers. Vendor’s ship products directly to the distribution centers, CDW technicians configure the product and then we ship it to Berbee's customers. This process shortens implementation schedules and reduces total project cost.

We are in the process of integrating Berbee's systems related to coworker's services and demands and expect to complete these tasks by the end of the year. There are no immediate plans to integrate CDW and Berbee's independent sales systems.

The key attraction of the Berbee acquisition was the potential for us to expand its model. Currently Berbee, as you remember, operates in six Midwestern states. But as I mentioned earlier, we intend to expand to a national platform within three to four years.

As a special note, we congratulate our Berbee coworkers for winning Cisco's 2006 Solution Innovation Partner of the Year award and the US Technology Excellence Partner of the Year for Unified Communications and Security. This is the sixth year in a row that Berbee has won an award at the national or global level from Cisco.

Finally, we are maintaining our stretched objective of $10 billion annual run rate of revenue by the end of 2008, which will likely include both organic growth and acquisition activity.

In summary, we delivered a strong first quarter for US shareholders, but we remain focused on executions to sustain the success.

Once again, I'd like to recognize the outstanding efforts of all of our coworkers who implement positive change every single day, so we can better meet our customer's needs and profitably outpace market growth.

Jim Shanks will now discuss revenue results and sales force items. Harry will then review product trends and Bob will close with addressing the financial results. Jim.

Jim Shanks

Thank you, John. In the first quarter of 2007, total corporate sector segment sales were $1.219 billion representing 6% increase over the last year. Average daily sales in the first quarter of 2007 were $19.047 million compared to $17.972 million in the first quarter of 2006, which was also an increase of 6%. On an average daily sales basis, the corporate sector increased 3.9% in January, 2.5% in February and 11.3% in March.

As John said, we are pleased that our corporate sector delivered solid results in the first quarter of 2007 and especially in the month of March, which was corporate's strongest month of average daily sales growth since September 2005. March 2007 was the one-year anniversary of the geographic realignment of our corporate sector. In March 2006, we segmented most of our medium and large corporate customer accounts into five geographic regions and realigned account managers accordingly.

During March, 2006 and April, 2006, account managers teamed together to transition the reified accounts that numbered in the 10 or above. Then on May 1, 2006, the account managers become wholly responsible for their reassigned accounts and began the task of rebuilding relationships with these customers.

The expected benefits of the sales force alignment are beginning to be realized, which include maximizing our sales coverage model, better understanding customer needs and enhancing our product and service offerings, deepening customer relationships and increasing shares spend, increasing visibility of market opportunities and strengthening relationships with vendor partners to create more sales opportunities.

A popular question is then, when will corporate sector growth reaccelerate? Following our first quarter of 2007 results, questions may shift to, how sustainable is your performance or how can you improve? Our success depends on the execution of our growth strategies everyday and the constant collaboration of all CDW's functional areas to drive sales. While our corporate sector results improved this quarter, we are never satisfied, and still have a lot of work to do to sustain similar results.

For example, we are working to enhance the visibility of future sales by identifying deals earlier in the sales cycle, which will help to increase profitability. We remain confident that the sales force alignment will continue to improve our ability to possibly grow sales. The public sector segment generated total sales of $497.4 million in the first quarter of 2007, which was a 13.4% increase from the first quarter of 2006.

Average daily sales were $7.772 million in the first quarter of 2007 compared to $6.851 million in the first quarter of 2006, also representing a 13.4% increase from the prior year. On an average daily sales basis, the public sector grew 10.8% in January, 16.8% in February and 13.7% in March. In the first quarter of 2007, the healthcare, education, and state and local government customer channels within the public sector had profitable double-digit sales growth.

In the federal customer channel, we were especially focused on profitable growth, which resulted in lower top line revenue, but significantly improved operating income for this channel compared to the same period a year ago.

Across the entire sales organization, we have sharpened our emphasis on strategic sales growth and disciplined cost controls to improve profitability. For example, we have stepped up our focus on acquiring new customers, while continuing to cultivate and penetrate existing accounts.

We also look to sales activities and profit levels to determine how to better align compensation around profitable growth. As a result, we enhanced our goal setting process that rewards achievement of profitable growth targets. Our efforts had a positive impact on corporate and public sector's operating margin results. Both of which improved in the first quarter of 2007 compared to the prior year period.

Barb will review segment operating results further in her section of the presentation.

On March 31, 2007 our sales force, including Berbee, numbered 2,662 coworkers. This compares to 2,589 sales coworkers on December 31 of 2006, including Berbee and 2,128 sales coworkers on March 31 of 2006 prior to the Berbee acquisition. Nearly 340 advanced technology specialists are included in the sales force coworkers for the first quarter of 2007.

On a sequential quarter basis, we grew our sales team by 73 net new sales co-workers in the first quarter of 2007. Comparing this strong performance through the past two years, in the first quarter of 2006, we had a sequential quarterly decline of 25 sales co-workers and in the first quarter of 2005, we had a sequential quarterly decline of 27 sales co-workers.

As John said earlier, we are making solid progress to reach our goal of adding approximately 350 to 450 net new sales force co-workers in 2007. We want to recognize the outstanding performance of our co-workers' services team for their recruiting and training efforts. As part of our more rigorous hiring process, our sales mangers are now actively involved in interviewing and selecting new account mangers for their teams.

Slide 7 shows average daily sales per average sales force coworker, which includes Berbee. For the first quarter of 2007, average daily sales per average sales force co-worker were approximately $11,100 compared to approximately $11,600 for the first quarter of 2005. A key reason for this metric's year-over-year decrease is the considerably higher denominator which represents the significant increase in the average sales force coworkers for the first quarter of 2007.

Slide 8 shows gross profit dollars on an average daily basis including Berbee. Average daily gross profit dollars for average sales force co-worker were approximately $1,790 for the first quarter of 2007, compared to approximately $1,850 for the first quarter of 2006. Again, the year-over-year decrease for the first quarter of 2007 reflects the significantly higher average sales force co-worker count.

In the first quarter of 2007, a percentage of sales force turnover based on the trailing 12 months was in the low 20s and was similar compared to one year ago.

If you turn to slide 9, it shows that the Web generated approximately $551 million in direct online sales for the first quarter of 2007, representing a 10% increase compared to the same period a year ago.

Online sales in the first quarter of 2000 comprised 32.1% of total sales excluding Berbee. Berbee sales are not generated on the Web due to the higher service component of the sales.

At this time, I'll turn it over to Harry Harczak, who will comment on product trends.

Harry Harczak

Thank you, Jim and good morning all. Turning to slide 10, we compare our product mix for the first quarter of 2007 to our product mix for the first quarter of 2006. As a reminder, our first quarter of 2007 product sales include Berbee product sales. Categories primarily impacted are netcomm servers and data storage. Software was the largest product category comprising 16.3% of sales. The netcomm category was second at 14.8%, notebooks and accessories third at 13.3%, data storage fourth at 13.2% and desktop computers and servers fifth at 13.0%.

Slide 11 shows product category growth rates. Sales growth for netcomm products was 65.6%. Berbee contributed significantly to the netcomm growth rate due to its focus on Cisco's advanced technologies and Voice over IP security and wireless solutions. CDW sales of netcomm products excluding Berbee also had strong double-digit growth. Networking switches and security hardware propelled the overall category.

During the first quarter, CDW achieved Cisco Gold Authorization for the corporate sector. While we were previously Cisco Gold for the public sector and Berbee, the new gold authorization allows us to offer a broader array of Cisco products including Voice over IP and certain higher-end routers and switches to all CDW corporate customers. From not a significant category in terms of total sales volume, telephony sales exhibited strong growth in the first quarter due to the Cisco Gold Authorization as well as leveraging our specialists' team.

The combined notebook and accessories product category increased 21.5% driven by robust notebook sales, which represent most of the category. Sales of memory products grew 12.7%. Results were largely driven by customers adding high-performance memory products to desktops and notebooks to maximize their systems in preparation for Microsoft Vista.

Customers are also adopting virtualization software and database applications and seeking to maximize performance on dual and quad-core systems. Memory is also a key category in our efforts to attach accessory products to anchor product categories.

Sales of input devices grew 11.9% driven by accounting standards for point-of-sale and warehouse applications as we positioned products that help our customers address their business issues.

Sales of data storage devices increased 11.4% and include Berbee sales. Customers continue to store larger amounts of data, protect against threats of data loss, comply with the increasing government legislation, and increase their access and secure store data. Greater adoption of disk-based storage versus tape has also continued.

Sales of the combined category of desktops and servers which include Berbee server sales increased 10.8% in the first quarter of 2007 compared to the prior year period. While the overall category grew, the inclusion of Berbee added significantly to server sales growth.

CDW server sales excluding Berbee had double-digit growth, while desktop sales were down slightly in the quarter.

Software sales increased 8.6% versus the prior year period. This category also includes Berbee sales. Major growth drivers were high-end stored software solutions and security products. We also experienced robust sales of Microsoft Enterprise Agreements for which we received a commission but did not include as revenue in the software category. Our enterprise agreement business was strengthened by improved alignment with the Microsoft field teams as a result of the geographic realignment of our corporate sector.

In addition, Berbee is beginning to uncover more opportunities to some Microsoft Enterprise Agreements through CDW based on CDW's large account reseller status.

With regard to Microsoft Vista, we have not seen significant adoption by our customers in the first quarter of 2007. While we are promoting Vista and educating customers as they prepare their adoption plan, we continue to provide support to Windows XP.

As part of our efforts to position CDW as an IT thought leader, we released the results from our first Microsoft Windows Vista tracking poll in November 2006. We plan to release an update for the tracking polls in the next few weeks.

Sales of video products decreased 1%.While we experienced double-digit unit growth in the category, average selling prices continued to decline significantly. Products experiencing strongest demand include large-format LCD monitors, touch screen displays and video accessories such as video cards.

Demand is growing for wide desktop LCD monitors that support Vista's wide monitor format. The trend is also increasing sales of video cards and memory upgrades to support the wide video format.

Printer sales decreased 2.3%. While ongoing customer migration from multifunction and laser printers grew our unit growth, average selling prices continue to decline. We remain focused on our customer penetration program that targets existing customers who have not purchased printers from us before and we are working closely with our partners, as they launch new products and work to accelerate the category.

Slide 12 shows the change in revenue, unit volume and average selling prices for notebook CPUs and desktop and server CPU excluding Berbee sales. Notebook CPU sales increased 22.5% and unit volume increased 29%, while the average selling price decreased 5% from a year ago. Sales were robust for most of our top brands and we experienced strong demand based primarily on the replacement of desktops with notebooks. While the price difference between desktops and notebooks has stabilized, we have focused on to accelerate to provide customers more feature-rich products.

We've also continued our customer penetration program which emphasizes selling notebooks to existing customers who have not previously purchased notebooks from CDW. Sales from desktop computers and servers excluding Berbee grew 3.6%, while unit volume increased 1.4%. The average selling price increased 2.2% from the prior year period.

We had double-digit sales growth in the sever category, which reflected customers continued adoption of blade servers and demand for new product releases around Intel and AMD processor platforms. Customers continue to consolidate and utilize virtualization technology, as a business solution to improve efficiency and productivity. While the desktop category was down slightly year-over-year, we believe, we moderately outperformed the market.

In the desktop category, the product mix continued to shift more towards higher-end workstations with dual-core processors, added memory and upgraded video cards, which help to offset the continued decline of average selling prices of desktops. We continue to promote our customer penetration programs for the desktop category.

Barb Klein will now review our financial results for the quarters.

Barb Klein

Thank you, Harry. As John stated in the first quarter of 2007, we've set new quarterly records for sales, gross profit, and operating income. Gross profit margin was 16.2% of sales in the first quarter of 2007 compared to 16% of sales in the first quarter of 2006.

The increase was primarily due to an increased level of vendor incentive, increased commission revenues and the inclusion of Berbee, partially offset by a lower amount of cooperative advertising funds, classified as reduction of cost to sales and a slightly lower product margin. Gross profit margin of 16.2% in the first quarter of 2007 increased from 15.6% in the fourth quarter of 2006, primarily due to an improvement in product margin.

To reflect on our recent performance, we are increasing our stated objective for gross profit margins from the previous range of 15.25% to 16%, to a revised range of 15.5% to 16.2%.

Slide 13 shows our operating statistics. Selling and administrative expenses as a percentage of sales were 8.3% in the first quarter of 2007, compared to 8.1% in the first quarter of 2006, an increase of $25.4 million. The increase in selling and administrative expenses in the first quarter of 2007 was primarily due to the inclusion of Berbee's operating expenses and increased payroll costs as a result of continued investments in expanding CDW's sales force.

One item that impacted SG&A expenses in the first quarter of 2007 was a slight reduction in stock compensation expense. In accordance with the accounting standard that applies to this expense, that is SFAS 123R, we are required to evaluate the assumptions used to calculate the expense at least annually. We performed that evaluation in the first quarter of 2007 and adjusted the forfeiture rate assumption for certain categories of coworkers based on our experience in 2006.

As a result, stock compensation expense was reduced by $1.7 million, which added about $0.01 to EPS in the first quarter of 2007. After these adjustments, stock compensation expense was $1.7 million in the first quarter of 2007. The estimated stock compensation expense for full year 2007 is between $13 million and $14.5 million.

Advertising expense was $29.2 million or 1.6% of sales in the first quarter 2007 compared to $30.9 million or 2% of sales in the first quarter of 2006. Advertising expense was slightly lower in the first quarter of 2007 versus the prior year, primarily due to a lower amount of corporate advertising funds classified as a reduction of cost to sales.

Under the accounting rules that apply to this reclassification, some of the cooperative advertising funds that company received from its vendor partners were a direct offset to the advertising expense for specific marketing activities rather than as a reclassification of cost to sales. The types of marketing activities can vary from quarter-to-quarter, but we expect future advertising expense to be in a similar range of approximately 1.5% to 2% of sales.

Operating margin was 6.3% in the first quarter of 2007 compared to 5.9% in the first quarter of 2006. We achieved solid revenue and profitability growth this quarter. Corporate sector revenue growth improved, gross margin was solid and SG&A expenses were well controlled. While we expect to add a net new 350 to 400 sales force co-workers across the organization and additional engineers for Berbee in 2007, we will continue to tightly control costs increases in other areas of business.

As we stated on our year-end 2006 conference call, we do not plan on adding any coworkers to non-sales support functions other than IT. To reflect our recent performance, we are increasing our stated objectives for operating margins to a range of 6% to 6.4%. Previously, the range was 5.8% to 6.3%. This objective is in place until we determine the need for any future revisions.

As we've done historically, we will update our objectives only during our quarterly conference calls.

The effective tax rate for the first quarter of 2007 was 37% compared to 37.4% for the first quarter of 2006. We evaluate our effective tax rate each quarter and currently estimate the effective tax rate will be approximately 38% for future quarters.

As John stated, we repurchased approximately 254,000 shares of common stock for $16 million for an average price of $63.53 per share in the first quarter of 2007. The repurchases offset the dilutive effect of options exercised by coworkers during the quarter.

Berbee was $0.03 accretive to the first quarter of 2007 diluted earnings per share, net of lower interest income as a result of the purchase. We still expect Berbee to be accretive to 2007 diluted earrings per share by a range of $0.08 to $0.10.

Turning to the balance sheet, inventory turns on an annualized basis were 25 times in the first quarter of 2007 compared to 24 times in the prior year. Our inventory objective remains at 23 to 24 turns.

Accounts receivable - day sales outstanding were 40 days at the end of the first quarter of 2007 compared to 37 days at the end of the first quarter of 2006. Berbee impacted this metric by approximately two days, because it's billing and delivery of projects is spread out over a longer period of time compared to CDW's more transactional business.

Based on our additional experience with Berbee, we are updating our DSO target to a range of 40 to 42 days including Berbee compared to our previous target range of 42 to 44 days.

As of March 31, 2007, our cash, cash equivalents and marketable securities totaled approximately $510 million.

In the first quarter of 2007, cash flow from operations was approximately $154 million and capital expenditures were approximately $14 million. We still expect capital expenditures to be in a range of $55 million to $60 million in 2007. John mentioned that in the first quarter of 2007 we achieved return on equity of 21.2% and return on invested capital of 33.3% including Berbee.

The addition of Berbee and our purchase of the Western Distribution Center in the fourth quarter of 2006 increased the average total assets while decreased in cash, which resulted in a lower return on invested capital for the fourth quarter of 2006 and first quarter of 2007 as compared to previous quarters, which is shown on slide 5.

Turning to segment results, corporate sales increased 6% and operating income increased 8.9% in the first quarter of 2007 compared to the prior year period. Operating incomes in the corporate sector increased primarily due to revenue growth, which was partially offset by investment and selling resources.

Corporate sector operating margin was 8% in the first quarter of 2007 compared to 7.8% in the first quarter of 2006 and 7.6% in the fourth quarter of 2006. As Jim mentioned, the entire sales organization is focused on improving profitability by sharpening their emphasis on strategic sales growth and being disciplined on cost controls. These efforts were especially apparent in the public sector operating results.

Public sector sales increased 13.4% and operating income increased 71.6% in the first quarter of 2007 compared to the prior year period. Operating income for the public sector increased primarily due to revenue growth and an increase in gross margins. Public sector operating margin was 5.1% in the first quarter of 2007 compared to 3.4% in the first quarter of 2006 and 4.8% in the fourth quarter of 2006.

While we did not own Berbee prior to October 11, 2006, we are providing Berbee's sales growth for comparative purposes, which was 69.3% in the first quarter of 2007 versus the prior year period. Berbee's operating margin was 3.6% in the first quarter of 2007 and 3.5% in the fourth quarter of 2006.

As a reminder, Berbee's operating margin is lower than the other segments due to the higher proportion of services in their business. Berbee's operating income also includes amortization expense relating to intangible assets.

As a final note, we announced March 2007 and first quarter of 2007 sales prior to our earnings announcement today. We expect to continue to report featured results in a similar manner.

Thank you for your attention and we will now open the line for questions.

John Edwardson

And before, those of you who want to ask questions, we ask that you limit your number of questions to just two. And with that, we are ready.

Question-and-Answer Session

Operator

We will now begin the question-and-answer session. (Operator Instructions). Jason Gursky is online with the question. Please go ahead.

Jason Gursky - JP Morgan

Hi, there. Just a quick question perhaps for Jim. I was wondering if you could talk a little bit about the success that's being commenced; CDW sales people are having and selling the Berbee products and services and vice-versa. The cross selling that's going on between CDW products and the Berbee, you'd mentioned that your leading brands with some Microsoft products. So, I was just wondering if you can just outline a little bit about how the success in the cross selling is going?

Jim Shanks

Sure, Jason. Some of the things that we've done, we started early on. I think, John mentioned in his script that we have gotten the sales alignment figured out. So, we are doing a lot of exchanging of opportunities back and forth. Clearly defining how the roles of engagement would be for different opportunities that have come up. And doing that has really created an environment, where we are starting to share leads back and forth. There are lot of legacy Berbee customers that have the need for the types of products that we have been selling and clearly a strong demand for our legacy customers for the types for service and advance technologies that Berbee is able to provide.

So, the sales force has been working closely on exchanging information and [up to this] back and forth. We do have quite a few examples that we go back to that show the process working together. It really starts from a collaboration around the opportunity. It's a closed conversation with the customer on what their technology needs are and then we bring all the different resources to bear. As John mentioned in his script, there's a lot of efficiencies that we can provide from our configuration centers as well. So, as we are looking at the customer in a holistic fashion, we have a much more expansive product offering to give them. And as we start to integrate more in the some of our back-office practices, we will continue to buy more efficiencies and share even more at least.

John Edwardson

One point here for Jason. There's good news and bad news here. The bad news is that we didn't get started on this until late in the first quarter with the sales engagement model. The good news then is we had an incredible growth in CDW original and Berbee without much lead, back in the collaboration in Q1. It’s just really beginning to take effect. So, that's the news. It's a great news in terms of potential revenue growth for both CDW original and Berbee.

Jason Gursky - JP Morgan

Okay. That's great. And then, just a quick follow up for Barb on a bookkeeping question. Can you give us the amortization amount that was related to Berbee, so we can back in to a operating margin for them?

Barb Klein

Why don't you go to the next question and I'll give you that in just a minute. I need to look it up. Okay?

Jason Gursky - JP Morgan

Okay. Thanks.

Operator

Matt Sheerin is online with the question. Please go ahead.

Matt Sheerin - Thomas Weisel Partners

Yes, thanks. Just questions regarding the strong corporate sales in the month of March. It sounds like a lot of that was due to operational issues, the corporate sales realignment finally cooking. But, is there anything in sort of a macro sense that you saw IT spending pickup? Because, I know in your last call, you talked about some relatively muted IT spending environments, some was Vista related. So, how much of it is CDW specific in macro?

John Edwardson

Yeah. I think we all want to answer this question. Harry and Jim and I and Paul are (inaudible) just standing here. What this is all about? And I said it in my presentation, it's going on an offence. The market as we believe is growing at 5% or 5.5%. What this quarter was all about? Was taking market share. And we took market share in corporate, we took it in public, we took it in Berbee and there's some product categories that are growing a little more quickly than others and we've disclosed some of those, and Harry can talk about more of those.

This was about our people doing a darn good job for their customers and winning a lot of business and taking it away from other people. Harry, if you want to add some of the different product category information, or Jim and Paul. But, this was really about our people just doing their jobs very, very well.

Paul Shain

Matt, I think there are a couple of product categories that are strong, our product categories that we deliver a lot of value to customers, and in particular, notebook category, as well as the networking categories.

So, we are getting great results in the networking categories. That's not just our offering, but it's the value around our offering, including specialist teams as well as the solution resources and services' team that Berbee has.

Matt Sheerin - Thomas Weisel Partners

Okay. I mean was that partially the reason why you saw gross margin increase and the vendor incentives?

Barb Klein

No. The vendor incentives came very quite significantly quarter-to-quarter. It really is dependent on the programs that the vendors put in place. And as we have stated before, our objective there is to make sure that we thoroughly understand the programs, track carefully our progress against the achievements of the goals in the programs and then make sure that we, of course, collect from our vendors as well.

Matt Sheerin - Thomas Weisel Partners

Okay. Thank you.

Barb Klein

May I answer the other question too, before going to the next question. The amortization for Berbee in the first quarter was about $1.7 million, for the previous caller.

Operator

Brian Alexander is online with the question. Please go ahead.

Brian Alexander - Raymond James

Thank you and nice quarter. I just wanted to talk a little bit or call about the Berbee growth that you saw in the quarter up 70%, in light of what a lot of companies have said, it was kind of a weak enterprise spending quarter. So I guess going forward, Q2 and beyond, realizing you don't give guidance, just provide a little bit more color on normal seasonality and the expected trajectory of sales given what appears to just be an extraordinary second quarter?

For example, is it still fair to assume kind of 15% to 20% annual organic growth rate for Berbee that would hit your five-year target of doubling that business or are you well ahead of that rate?

John Edwardson

Brain, this is John Edwardson. Paul is going to answer the question. But before he does, I have to tell you I am looking very forward to his answer, because you know that he used to be the Director of Equity Research at Baird. So, I am going to listen very carefully here. See I can answer your question by not answering your question and not giving you any advanced information. So, Paul it's all yours.

Paul Shain

Thanks for the question, Brian. I would just like to say that our first quarter was the strong quarter, but we are a very project-oriented company. And so, there is very little that you can predict from one quarter. It's not that we are based on when large projects close, when products ship and things like that. So, I think we are comfortable with our long-term forecast and results there. We always take a good positive surprise in a quarter and particularly the first quarter. But certainly we would extrapolate that to a trend that I would focus on for the rest of the year.

Brian Alexander - Raymond James

And then just a follow up for Barb. Barb, I think one of the factors that you mentioned in the gross margin commentary was that despite being up year-over-year, part of the offset to that was product margins were down. Is that including Berbee or excluding Berbee? I asked that question just because I thought the product set of Berbee would provide an uplift to the overall product margin.

Barb Klein

That would have been an invasive way of the business and that was just a very slight decline year-over-year. So, it was not a significant factor.

Brian Alexander - Raymond James

And so that excludes Berbee?

Barb Klein

Yeah.

Brian Alexander - Raymond James

Thank you.

John Edwardson

Okay. Thank you, Brian.

Operator

Bernie Mahon is online with the question. Please go ahead.

Bernie Mahon - Morgan Stanley

Hey, good morning. Question for you on the operating margin target. It was just last quarter that you lowered previous 5.8% to 6.3% and now you're raising it, kind of backup there. What's really changed? Is it really just the growth rate? Seems like its all in the gross margin. Is that because of the revenue growth or is it because of vendor incentives? It's just not clear to me what changed over the last couple of months?

John Edwardson

Barb and I are looking at each other, and so Barb, if still I don't get the answer; you want to please help. Bernie, I think it was a lot of hard work on the part of lot of people. It began with the sales organization and we're trying to make sure that we priced our products appropriately and try to grow revenue profitably and it started at the top line, as you suggested. But it also went through a great cost controls and a lot of hard work by a whole lot of people in sales.

We mentioned earlier, we are trying to grow the company significantly this year on a top line basis with unit price decreases. That means even more growth in the numbers of units. We are trying to do that without hiring any more people that we had at the beginning of the year outside of the sales and the IT organization. And CDW original, Berbee's has got a lot of growth in a number of categories. This means that a lot of our people have to figure out how to do their jobs with fewer resources as a percent of revenue. What we are trying to do is get our SG&A costs in the staff support areas back to where it was, as a percent of revenue, about 18 months ago.

And so, we have worked very, very hard to make that happen and the response has been very good. I think that what happened is our people have responded much more quickly and much more efficiently than we thought they would be able to. And so, that' why we've changed the guidance on these areas. Barb, if you have anything else.

Barb Klein

I don't have anything to add. I think that was really summing up what we saw happened.

John Edwardson

Okay.

Bernie Mahon - Morgan Stanley

Okay. I guess may be just as a follow up to that. I mean, say, we are staying in a pretty stable demand environment. What would you say is the probability that you come in, that we don't change it again through the year? I know you are 80% confident in the 6% to 6.4%, now these things change, so its 50% percent confident?

John Edwardson

Well, I hope if we could change them and raise them all upward for you. So we are not going to give you any guidance on that at this point. We just can't. To say that it's going to be what it is for the rest of the year. It is what it is until we make a change in our announcements. So, that's just the way it works. And to say that its going to get better, that its going to get worse, we are giving you what we can give you based on the best information that we have at this point in time.

Bernie Mahon - Morgan Stanley

All right. Thanks a lot.

Operator

Dan Renouard is online with the question. Please go ahead.

Dan Renouard - Robert Baird

Hi. Thanks. A question on your sales force net adds and I have got two questions along those lines. One, you referenced that you have had success in adding net sales people versus the last couple of years. Just looking at your 350 to 400 goal, should we expect a somewhat linear addition in terms of net sales adds for the next three quarters or will be more front-end loaded, etcetera? And then, how was your turnover in Q1 and is your turnover expectation changed at all in the last three to six months?

Paul Shain

Okay. I'll take that. One of the things when we get into our adding and our hiring process, we do when you look at the accruals that we use, we get a lot of college graduates. So, there's some impact on when they are graduating. That does the [outcome] flows rather than just appeared linear year as far as coming through. We are working hard to bring that in more towards the front of the year, then the back trying to get out ahead of the different hiring plans. The other thing was the turnover. Last year, we saw improvement in being able to reduce the amount of turnover. We've made a lot of changes in not only the selection but also the training process as well as on boarding image of the sales organization. So, we've got a lot of activities going on to try to continue to reduce the amount of turnover that we have in the sales organization as well, which as you can correlate definitely reduces the burden of having to hired people as well.

Dan Renouard - Robert Baird

If I can clarify, so, you have had success. I think in Q1 your turnover was lower year-over-year, eventually?

Paul Shain

Turnover for year-over-year was pretty comparable to what it had been in the prior year. But clearly last year was a good improvement of turnover over prior year, and its always tough comparing Q1. As you can imagine from sales organizations, at the beginning of the year, when they are getting new sales for us and a lot of different things are happening that's when we tend to get a pretty good amount of turnover anyway.

Dan Renouard - Robert Baird

Okay. Thank you.

Operator

Bruce Simpson is online with the question. Please go ahead.

John Edwardson

Hello, Bruce.

Bruce Simpson - William Blair

Hi. Good morning. Barb, can you repeat what the cash flow from operations number was in the quarter?

Barb Klein

Sure. Cash flow from operations was $154 million in the first quarter.

Bruce Simpson - William Blair

So, that seems like a significantly ahead of your typical quarterly plan. I wonder if you can comment on that and also I know you don't give guidance on that specific metric, but can you kind of shape us as to how this year ought to be compared to prior years?

Barb Klein

I can't guide you on anything relating to the rest of the year. But with respect to the first quarter of '07 versus the first quarter of '06, when you think about the cash flow pieces, one of the things to keep in mind is that the working capital has a significant impact on that. And to the extent that accounts payable cut off can change depending on when the quarter ends that can have an impact on what the change is in working capital.

As you know, we don't time our payments. So we take advantage of every one of our cash discounts we have. So that can change the accounts payable balances. So, we have some impact on accounts payable, some impact on accredit expenses, which again is just an issue of timing. Accounts receivable balances were also well controlled, so we saw a decrease in DSO, from where we were at the end of last year. We didn't have the Berbee impact coming in all at one time. So, that was another piece that helped us in the quarter, plus we had obviously a nice strong increase in net income, which obviously is a piece of that as well. That was up about $16 million, I think if you take a look at year-over-year. So, all of those factors contributed to a much stronger cash flow in the first quarter.

Bruce Simpson - William Blair

So you expect operating cash flow to grow relative to the '06 reported number inline with growth in net income or their changes in working capital that should change that relationship?

Barb Klein

Both of those factors will have an impact on cash flow. But we do need to obviously make sure that we continue to try to generate strong net income. But as you know, the other factor that's key for us is to control our working capital.

John Edwardson

And I think we also have some significant capital expenditures last year that we -- okay, okay.

Bruce Simpson - William Blair

Okay. My last question, I will jump off, is just, you improved your DSO target and again, that was, I think you changed that in the fourth quarter and now you kind of changed it back towards the other direction. What happened in the quarter that gives you confidence that that's permanently changed?

Barb Klein

The reason for the slight change was because we simply have more experience with Berbee now in terms of we have been close to their business. And that's the reason that we changed it down by two days.

Bruce Simpson - William Blair

Thank you.

Operator

Andy Hargreaves is online with the question. Please go ahead.

Andy Hargreaves - Pacific Crest Securities

Hi. I apologize, if you had answered this already. But relative to the targets for March and the expectations still that Berbee is going to add 30 basis points to the gross margin and subtract 20 basis points to op margin?

Barb Klein

I'm sorry, your question --

John Edwardson

So, I think let me repeat the question. I think it was, will Berbee continue to add 30 basis points to gross profit margin and reduce the operating margin by 20 basis points? Was that the question?

Andy Hargreaves - Pacific Crest Securities

Yeah.

John Edwardson

Okay.

Barb Klein

We are not going to comment anything specifically with respect to margins going forward, with respect to Berbee, because we just follow them into the business. And we are giving you the objectives that we are trying to achieve, including Berbee. But our expectations in terms of those impacts haven't changed from what we gave you previously.

Andy Hargreaves - Pacific Crest Securities

Okay. On the working capital side, kind of, following up on your previous comments, the payables have extended pretty significantly for the last couple of years and have offset some of the inventory gains. Is that sustainable or do you expect some type of leveling off in payables?

Barb Klein

As I said a little bit earlier, what we do with our accounts payable is that we take advantage of every cash discount we possible can, which of course, relates primarily to the purchase of that inventory. And then secondly, we don't time the payments to our vendors based on when a particular month, or quarter or year end. So, what really doesn't have it, we don't control that. It is dependent on when the actual month ends and when we actually cut our checks for the month.

So, the growth in payables that you've seen year over year are combination that affects the business, is much bigger, and therefore we are purchasing more inventory and we have more payables relating to that inventory. And then secondly, it just has an impact from when the month or the quarter might actually ends.

Andy Hargreaves - Pacific Crest Securities

Okay. Thank you.

Operator

Bill Fearnley is online with the question. Please go ahead.

Marko Vucenovic - FTN Midwest

Hi, this is [Marko Vucenovic] this morning. My question was, I guess, obviously government conditions formed very well. I was wondering what kind of color you could add in terms of key catalyst, be it big contracts, specific departmental spending initiatives and how sustainable they were?

Paul Shain

So, the success we saw in Q1, we are always winning new contracts, but when you think of contracts, it's really a license to hunt and pursue sales opportunities. Those activities only happen through consistent sales execution to close those deals. We had a lot of good traction. I think it's a continued execution of our segmentation. Every month, every quarter we gain greater visibility into the different segments finding an uncovering opportunity that we didn't see before.

So, I think it comes back to just pure solid execution, and we're in those segments right now it's about priming for the year. As we've mentioned before, Q2 is a very strong period for state, local and education and Q3 for federal. So, we are really trying to make sure in Q1, it was about capturing opportunities and making sure we're getting the deck started for success throughout the year.

Marko Vucenovic - FTN Midwest

Okay. And my follow-up was in state and local governments, we've seen or heard a lot about property tax revenues declining and forcing both on tax increases and budget overrides. And do you see that putting any additional pressure on state and local governments this year, especially as we get closer to the educational buying season?

Paul Shain

There are always constant constraints in state and local. And depending on what material you read and research, a lot of people will conclude that it's a market you'd never want to touch. We've been able to develop a winning formula in that space. Many years when people were getting out, we were able to identify the funded opportunities and make sure with the right customers that we work with them closely, not just on their current procurement needs but in long-term needs. So, I think we've established very strong relationships that help us navigate a very confusing and complex space to make sure that we're not wasting our resources and focused on those opportunities that would become a reality.

Marko Vucenovic - FTN Midwest

All right. Thank you.

Operator

[Richard Gardner] is online with the question. Please go ahead.

Richard Gardner - Citigroup

Hi, could you please talk about the ramp up of Berbee across the national and state? You mentioned that it was in five or six states and your vision was to have it national in three years. Can you just provide any color to, how you think that will go and in particular, just you've mentioned a couple of times that that's much more of a high-touch business, but won't that require more people than the current target? Thanks.

Harry Harczak

Yeah. The ramp up of our platform into a national will really come from two vehicles of growth. One is continued internal growth, which is net addition of new sales people and the associated engineers and solution specialists that go with supporting those customer initiatives. And then the second opportunity that we've identified historically is that we continue to believe that consolidation will continue, and we want to be part of that process as we look for a national platform or we can add geographically to the existing 60 portfolio that we have today.

John Edwardson

Okay, thank you. With that we are out of time.

Richard Gardner - Citigroup

Doesn't answer the question at all.

John Edwardson

Excuse me?

Richard Gardner - Citigroup

I am sorry. I was really hoping -- I am sorry, I didn't realize my line was still active. But if you don't mind, you said that you are in five to six states. How many do you expect to be in by the end of this year?

John Edwardson

Okay. We are not going to give you an expectation by the end of this year. Berbee serves a lot of customers outside those five to six states. They have offices in those five to six, but many of their customers are national customers [target, coals] Harley and others that have locations all over the US. So, we are doing a lot of work all over the country already. But the objective over the next three to four years is, clearly, we are not going to have offices in all 50 states. I don't think, we are going to need one probably in North Dakota for example. But we will want to be able to serve important customers wherever they are in the US. So, you don't ever want to put a timetable on acquisitions that backs you in the corner that you never want to be in.

Richard Gardner - Citigroup

Okay. Thank you very much.

John Edwardson

Okay. Thank you.

With that, our time is up, and I want to thank all of you for listening in. I want to remind you just a couple of things. We've been through some significant changes at CDW over the last 18 months with the addition of Western Distribution Center. The significant reorganization, I think in total, we moved nearly 100,000 customers to new account managers, as we went through the geographic realignment, and then of course the acquisition of Berbee. So, we are very pleased with the results for this quarter.

We thank you for your confidence in the company, as we have gone through many of these changes. And we want to remind you of one more thing, if you do not do business with CDW, our phone number is 1800-800-4CDW or go on to our website at cdw.com. And finally, thank you to all of our CDW and Berbee coworkers for doing an absolutely incredible job in Q1, and we'll be doing that again for you in Q2. Thank you very much.

Operator

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may all disconnect.

TRANSCRIPT SPONSOR

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