PC Mall CEO Discusses Q3 2010 Results - Earnings Call Transcript

| About: PCM, Inc. (PCMI)
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PC Mall (MALL) Q3 2010 Earnings Call November 4, 2010 4:30 PM ET


Frank Khulusi – Chairman, President and CEO

Brandon Laverne – CFO

Kristin Rogers – VP, Marketing


Brian Peterson – Raymond James & Associates

Bill Dawkins – [Inaudible] & Dawkins Inc.


Good day ladies and gentlemen and welcome to the third quarter 2010 PC Mall Incorporated earnings conference call. On the call with us today are Frank Khulusi, Chairman, President and Chief Executive Officer; Brandon Laverne, Chief Financial Officer; and Kris Rogers, Executive Vice President.

At this time, I would like to refer to the Safe Harbor statement under the Private Securities Litigation Reform Act of 1995. During this conference call, management may discuss financial projections, information, or expectations about the Company’s products or markets, or otherwise make statements about the future which statements are forward-looking and subject to a number of risks and uncertainties that could cause actual results to differ materially from statements made. These risks and uncertainties are detailed in the company’s filings with the Securities and Exchange Commission.

I would now like to turn the conference over to Mr. Frank Khulusi. Please proceed sir.

Frank Khulusi

Thank you operator. Good morning. Welcome and thank you all for participating on this call with PC Mall. Today we will be discussing the company's financial results for the third quarter of 2010. I'd like to start by sharing a few of our third quarter 2010 highlights.

Consolidated net sales for Q3 2010 were $336.1 million, up 20% year-over-year. Consolidated gross profit for Q3 2010 was $43.2 million, up 10% year-over-year. Consolidated operating profit for Q3 2010 was 44 million, up 33% year-over-year.

Adjusted EBITDA for Q3 2010 was $6.9 million, up 43% year-over-year. Diluted earnings per share for Q3 2010 was $0.17 versus diluted earnings per share of $0.11 in Q3 2009. We purchased 87,813 shares of our common stock in Q3 2010 at an average price of $4.16.

I am very pleased that in the third quarter we were able to grow the top line by 20% and our adjusted EBITDA by 43% as compared to the third quarter of 2009. Excluding sales of Sun Microsystems, consolidated sales grew 25%.

We continue to see signs of increased IT spending in corporate markets, and are optimistic that those trends will continue. The investments we have continued to make are beginning to contribute to both our sales and our productivity as evidenced by the year-over-year EBITDA growth, which was more than two times our sales growth.

Now I'd like to turn the call over to Brandon Laverne, our chief financial officer, who will present the financial results in a bit more detail. Brandon?

Brandon Laverne

Thanks Frank. Please note that adjusted EBITDA is a non-GAAP measure that looks at operating profit, adding back depreciation, amortization, and non-cash stock-based compensation and special charges if any. We did not have any special charges in Q3 2010. Additional information about our use of non-GAAP financial information, as well as a reconciliation of the non-GAAP financial measures, is provided in our current report on Form 8K, filed with the SEC earlier today, and available on our website.

I will now speak about our Q3 2010 segment results, and all comparisons I make will be against Q3 2009 unless otherwise noted. For our SMB segment, or small to medium size business segment, Q3 net sales increased nearly $25 million, or 29%, to $110 million, primarily due to improved account executive productivity and an increase in revenues from our new Chicago sales office.

This growth was driven in part by a 24% increase in new or reactivated buying customer accounts, as well as a 19% increase in average revenue per customer. Our average order value in SNB grew by 17%, and was consistently up throughout the quarter.

Average account executive headcount during Q3 2010 in our SMB segment was 357, up 5% over the prior year. SMB gross profit increased by $2.9 million, or 24%, to $14.6 million, resulting primarily from the 29% increase in sales and the $300,000 increase in vendor consideration. SMB gross profit margin decreased to 13.2% in Q3 2010 compared to 13.8% last year, primarily due to a 59-basis point decline in vendor consideration as a percentage of net sales.

SMB operating profit increased by $1.7 million, or 28%, to $7.6 million, driven primarily from the $2.9 million increase in gross profit, partially offset by a $1.1 million increase in personnel costs. These personnel cost increases were primarily due to the investment in our Chicago office, and our addition of account executives in that facility, and an increase in variable compensation expenses due to the increased SMB gross profit.

Operating margin remained strong at 6.9% for the SMB segment, down slightly from 7.0% last year due to those incremental investments. We continue to be pleased with our Chicago call center results to date. At the end of Q3, we had 84 SMB account executives in the Chicago office, and expect to continue hiring in that location throughout 2011.

For our MME, or mid-market and enterprise segment, Q3 net sales were $133.8 million, or 37%, over last year, primarily due to increased account executive productivity and increased IT spending by customers in the mid-market and enterprise sector. Average account executive headcount during Q3 2010 in our MME segment was 113, up just 9% over the prior year.

Product revenues increased by 44%, while service revenues increased by 11%. Service revenues represented 17% of our MME segment's net sales in Q3 2010 compared to 21% of sales last year. The increase in service revenue was primarily due to the inclusion of service revenues of NSPI, which we acquired in June 2010, as well as a 24% increase in service sales performed under our Abreon brand, which is primarily focused on change management at e-learning consulting.

These increases in service revenues were partially offset by a 12% decrease in MME's Sarcom brand of professional and managed services, which is a result of certain large service engagements in Q3 2009 that did not reoccur this year.

We continue to see a healthy pipeline in our services business and remain optimistic about its growth prospects in the future. MME gross profit increased by $2.7 million, or 16%, to $19.9 million, driven largely by the 37% increase in net sales.

Our MME gross profit margin decreased to 14.9% in Q3 2010, compared to 17.6% last year, primarily due to the growth of the product sales, driven by some larger product transactions outpacing the growth of services sales and the 94 basis point decrease in vendor consideration, which is primarily due to the impact in Q3 2009 of the positive resolution of certain vendor consideration claims.

Overall, service gross margin increased both on a year-over-year basis and sequentially, or were offset by product margin declines due to the larger transactions mentioned earlier. MME operating profit in Q3 2010 increased by $400,000 or 7%, to $5.9 million, primarily due to the $2.7 million increase in gross profit, partially offset by a $1.4 million increase in personnel costs, a $300,000 increase in depreciation and amortization expenses primarily related to the acquisition of NSPI, and a $200,000 increase in variable fulfillment costs. The increase in MME personnel cost was due in part to an increase in variable compensation costs related to the increased gross profit discussed earlier and the acquisition of NSPI.

For our public sector segment, which sells to the federal government as well as state, local, and educational customers, also referred to as SLED, we reported net sales of $53.5 million, a 4% decline over the prior year. This decrease was due to a 13% decrease in our federal government business resulting from a 75% reduction in sales of Sun Microsystems solutions, which we believe is substantially related to the acquisition of Sun by Oracle in January 2010, and resulting vendor program changes made in Q2 2010 in connection with Sun solutions that we discussed last quarter.

As a result, we expect federal sales of Sun solutions may be negatively impacted for the foreseeable future. However, we continue to be committed to diversifying our product portfolio in our federal business, and to that end we added incremental technical headcount in Q3 to help drive such sales.

Sales in our federal government business, excluding sales of Sun Microsystems solutions, increased 23% in Q3 2010 over the same period in the prior year. Sales in our SLED business increased by 12%, driven by stronger demand and our aggressive public sector market share growth strategy. Public sector gross profit decreased by $1.5 million, or 26%, to $4.2 million.

Public sector gross profit margin decreased to $7.8 million in Q3 2010, compared to 10.2% in Q3 2009, but was up from 6.3% in Q2 2010. The decrease in public sector gross profit and gross profit margin was primarily due to the impact of the Sun changes mentioned earlier.

Gross profit margin also reflects the effects of our previously stated market share growth strategy in the public sector business, specifically on the Windows platform in order to broaden our sales mix. We expect that future sales of Sun Microsystems solutions will be made at lower margins than we had historically experienced prior to the changes made by Oracle.

Our SLED margins continue to increase on a year-over-year basis, rising by 131 basis points in Q3. We also started to see some traction in services delivered to our SLED customers during Q3, and while the service revenues are still relatively small, they contributed to its margin growth in Q3, and we hope to further grow these revenues in the future.

Public sector operating profit decreased by $1.8 million to $600,000 in Q3 2010, compared to last year, primarily due to the $1.5 million decrease in public sector gross profit and an increase in public sector personnel costs of $300,000, resulting primarily from our investment in our Health Dynamix division. While we continue to be negatively impacted in our public sector business by the Sun changes we discussed, we are pleased that we were able to accomplish our goal of quickly returning this business to profitability. Average account executive headcount during Q3 2010 in our public sector segment was 98, up 20% over the prior year, primarily focused on the SLED business.

For our MacMall segment, Q3 2010 net sales were $38.8 million, a 7% decrease over the prior year, primarily due to the previously announced intentional strategy shift in Q1 2010 to focus the MacMall brand on higher profit customer segments such as small businesses, creative professionals, and high end consumers.

Consistent with that strategy, revenues in our business division of MacMall were up 60% over the prior year. Our strategy shift has already paid off with respect to MacMall profitability and our goal is to also return to year-over-year revenue growth in the fourth quarter.

MacMall gross profit decreased by $100,000, or 2%, to $4.5 million in Q3 2010, and MacMall gross profit margin increased to 11.7% in Q3 2010, compared to 11.0% last year. The increase in MacMall gross profit margin was primarily due to the aforementioned intentional strategy shift.

MacMall operating profit was $1.2 million in Q3 2010, an increase of $700,000, or 150% over the prior year, due to our increased margins, tight operating expense control, and significant reduction in advertising that were made possible by the strategic sales shift. The operating profit increase was attained while increasing our average account executive headcount by 21% to 190 account executives during Q3 2010, primarily in support of our outbound small business effort.

Corporate and other operating expenses include corporate related expenses such as legal, accounting, information technology, product management, and other administrative costs that are not otherwise included in the reportable operating segment. Q3 2010 corporate and other operating expenses remained flat at $11.3 million as compared to Q3 2009, but included an increase in depreciation expense of $500,000, which was primarily related to the completed portions of our ERP and infrastructure upgrades. As a percentage of consolidated net sales, our corporate and other operating expenses declined by 60 basis points to 3.4% in Q3 2010, versus 4.0% in the prior year.

On the balance sheet front, accounts receivable was $161.7 million, a slight increase over year end, but down over $8 million sequentially. Inventory at September 30, 2010 was $56.2 million, representing a decrease of $12.4 million from year end, reflecting sell through of seasonal purchases made in late 2009, as well as sell through of our public sector backlog that existed at year end, offset by increases in inventory supporting our MME segment.

Accounts payable at September 30, 2010 was $95.2 million, a decrease of $13.6 million from December 31, 2009. Outstanding borrowings under our line of credit increased by $5.2 million to $58.4 million at September 30, 2010, compared to year end, but decreased by $6.4 million from $64.8 million at the end of Q2.

We generated $5.1 million of operating cash flow during the quarter, compared to Q3 2009 when we used $18.2 million of operating cash. Our capital expenditures were approximately $1.5 million during the quarter, reflecting our continued investments in our IT infrastructure compared to $1.8 million of cap ex in Q3 '09. Working capital increased nearly $3 million during the third quarter.

Now I would like to turn the call over to Kris Rogers. Kris?

Kristin Rogers

Thanks Brandon. At this time I'll review the product category results, which are calculated based upon gross billed revenue. With the strong revenue growth in Q3 2010, we saw strong year-over-year growth in our leading product categories. While a portion of the growth was driven by larger opportunities, we saw growth across most traditional product categories, which we believe is a function of a more normalized demand environment.

Our largest product category for Q3 2010 was notebooks, at 17% of our revenues, up from 15% of our mix in Q3 2009, with revenue growth of 38% over Q3 2009. Unit growth was flat with revenue growth showing a flattening of ASPs year-over-year. The increase in notebook sales reflects a resurgence in commercial demand, and we saw our best growth in the $700 to $1,000 price point band where Intel continues to dominate.

In addition to the increase in the number of commercial notebook refreshes, we did see growth in the back to school market, as well as sales into the federal space as a result of the federal budget year-end close. The Apple notebook line also grew at 26% year-over-year for Q3 2010, but with a significant higher growth in unit sales as the lower-price iPad grew in volume during Q3 2010.

Software also came in at 17% of revenues as compared to 16% of revenues for Q3 2009, with 25% growth year-over-year. Our largest publisher was Microsoft, since our growth of over 40% in our commercial markets. Adobe continued to perform well on the afterglow of the Creative Suite 5 launch. Across the rest of the software category, the strongest growth was in the areas of virtualization, with publishers like VMWare and Citrix growing at rapid rates.

We continue to see strength in new programs from leading publishers for their software as a service offerings. We are currently partners with Microsoft in both their [inaudible] program and through NSPI we are a [inaudible] partner, and are also partnered with Symantec, McAfee, TrendMicro in their SAS and cloud offerings, and while revenues in these categories are very small today, we believe that there will be significant growth going forward.

Our next-largest category was desktops, at 10% of revenues versus 9% of revenue in the prior year, with very strong growth of 34% over Q3 2009. Desktop sales continue to benefit from SMB and mid-market enterprise refresh cycles, and we also believe that the introduction of Intel's I processor will continue to fuel ongoing demand for desktops. Desktop sales were up at all customer segments, and across all platforms, including the Apple platform, where the iMac saw very high growth thanks in part to a new product release in Q3 of 2010.

Networking was 9% of sales, roughly flat compared to Q3 of 2009, with sales increasing 21% year-over-year. While today our networking business is primarily split between Cisco and HP, we are seeing strong growth from other partners, including Polycom, SonicWALL, Barracuda, and Netgear. We saw very strong growth in core routing and switching business, as well as unified communications, but also believe that both our capabilities and our pipeline are building in emerging technology verticals like video security and physical surveillance.

Our overall delivered services, excluding packet services, were our next-largest category at 7% of total revenues in Q3 2010, flat with revenues in Q3 of 2009. The year-over-year growth is primarily the result of the inclusion of NSPI's remote managed services, as well as an increase in sales of Abreon, our subsidiary in mid-market and enterprise, which focuses on change management and e-learning. This is the second quarter in a row that Abreon has shown year-over-year growth.

That growth was offset by a 12% decline in the lifecycle managed services from Sarcom. We continue to believe that our customers are increasingly embracing solutions and services, and feel that we're well-positioned for growth in services, as we continue to refine our portfolio of offerings.

Storage was 6% of revenues in Q3 2010, down from 9% of revenues in Q3 2009, with year-over-year decline of 22%. While we had growth across our traditional enterprise storage partners, the growth was offset by the substantial declines in the Sun Microsystems storage business on the federal side. Enterprise and business class storage represents a significant growth category for us going forward, and we continuing to invest in solutions and service capability as well as expanding our portfolio of relationships in this area. We believe that the recent acquisition of 3PAR by HP will provide significant opportunity for us on a go forward basis, and are working to build on that.

Manufacturer packaged services came in at 4% of our revenues in Q3 2010, flat with last year's percent of revenues, and up 15% Q3 2009. The growth came in both the manufacturer extended warranty and support contract and renewals, as well as for activation and other local SMB service offerings from companies like iTeam.

Display and printers represented 5% and 3% respectively of revenues. Printer sales were up 8% over Q3 2009, largely on the growth of mono lasers, which is the dominant part of the printer mix. While there was greater than 20% year-over-year growth in categories like color laser and color laser MFPs, mono continues to be the lion's share of our printer business, with all brands growing nicely. Of note is the continuing growth of specialty print verticals like POS, where companies like Zebra continue to grow.

While still a small piece of our overall printer revenue in that area, we continue to invest in our service and support capabilities to deliver managed print services contracts in both the mid-market enterprise and SMB spaces, and continue to see good growth in 2011 in this category.

In displays, we saw solid growth of 31% over Q3 2009. The growth in displays is being driven primarily by large format displays, with the traditional LCD market flat. Growth is also being driven by large digital signage wins in the mid-market and enterprise space.

Server sales were 4% of sales in Q3 2010, with a 22% increase over Q3 2009, with growth coming across all manufacturer partners, with the exception of Sun Microsystems. Virtualization continues to drive strong growth for servers. We also see opportunity increasing going forward in SMB, as HP and Cisco introduce microserver products, specifically designed for small business.

Power continues to be a strong growth category, with Q3 2010 revenues coming in 44% higher than Q3 2009. Power represented 3% of revenues in Q3 2010 versus 2% of revenues in Q3 2009. Power growth is supported by the growing commercial focus on the virtualization trend, which requires greater server capacity and efficiency, creating the need for additional racking power and UPS to support the additional load on the server infrastructure.

Also of note in Q3 2010 we added a number of new healthcare relationships to strengthen the offering for Health Dynamix, our dedicated healthcare division. Barco, Elo touch screen, and [Izo] are new partners for us in Health Dynamix, and all showed strong growth in Q3 2010. These manufacturers and others are being integrated into our solutions at Health Dynamix, where we're now able to feature customer solutions for complete electronic health records, or EHR, in support of meaningful use in government standards and funding, passed with the recent ARA High Tech Act; physician services, support, and technology bundles; long-term medical data retention and digital archiving for hospitals; positive patient identification and barcode medication administration solutions for hospitals; complete wireless and networking solutions to support point of care in telemedicine within hospitals, clinics, and physician practices; quality of care dashboard and reporting for hospitals; clinical computing assistance; computing devices and specialty products for clinicians; and finally, specialty print solutions for admissions, pharmacy, laboratory, and secure prescription printing.

Finally, from a manufacturer concentration standpoint, on a gross consolidated basis our top five manufacturers for Q3 2010 were HP, Apple, Cisco, Microsoft, and Lenovo, respectively, who in aggregate represented approximately 56% of our total revenues. As a point of reference, the top five manufacturers for Q3 2009 were HP, Apple, Cisco, Microsoft, and Sun Microsystems, who represented approximately 53% of total revenues in Q3 2009.

At this point, I'll turn the call back over to Frank Khulusi. Frank?

Frank Khulusi

Thanks Kris. I would like to take a moment to provide you some additional detail, and also update you on a few of our strategic initiatives. In early October, our Health Dynamix team announced a new partnership with MedPlus, a division of Quest Diagnostics, whereby they would be providing solutions to physicians and doctors' offices inclusive of EHR, or electronic health record software, hardware, and ancillary services. Healthcare is a growing market for IT, and through Health Dynamix, we believe we are well-positioned to continue to grow our footprint in this space.

As Kris mentioned, we continue to believe that our customers are increasingly embracing solutions and services. In late Q2 we announced that our Sarcom subsidiary completed its acquisition of NSPI, a managed services provider. We intend to continue to build and refine our services portfolio as we respond to the changing IT needs of our customer base.

In Q3 we continued to grow our presence in social networking, specifically through the small business network powered by PC Mall, which we launched late last year as a social media community for small businesses. We believe that our unique approach with a social media platform gives us a cost-effective way to market to and engage these small businesses and give these businesses an efficient and cost-effective way to research, assess, and ultimately procure solutions that support their IT needs.

Our 2010 goals for the small business network were focused on building the community, and we have already surpassed our goal for 2010 with respect to active members with over 25,000 active users, up 39% from Q2.

In closing, we are pleased that we were able to grow revenues by 20% and grow our adjusted EBITDA by 43% on a year-over-year basis, and grow revenues and adjusted EBITDA sequentially as well, despite headwinds in our [inaudible] business. We are optimistic about the demand environment going forward, and we are confident that our continuing investments in our growth and in our infrastructure are both prudent and opportunistic.

We look forward to leveraging these initiatives going forward, and believe they will create new and compelling growth opportunities for us as we're better able to anticipate, identify, and serve the needs of our customers across our markets. We remain committed to our previously stated goal of attaining a non-GAAP operating profit margin of between 1.5% to 2% for the fourth quarter, and are focused on achieving that goal while positioning ourselves to continue growing our top line and bottom line into 2011 and beyond.

Now I'd like to open up this call for any questions you may have.

Question-and-Answer Session


Thank you. [Operator Instructions.] Our first question is from the line of Brian Alexander with Raymond James. You may proceed.

Brian Peterson

Hi, this is Brian Peterson stepping in for Brian Alexander. To start off, a clarification on the MME gross margins. Did you say that there were some larger deals that pressured that in the quarter? And just looking at it going forward, it looks like your services comps are actually a little bit easier starting in the fourth quarter. So as we look out into the fourth quarter and heading into 2011, should we expect this to be the trough, all else equal?

Frank Khulusi

With respect to larger deals, we obviously will take whatever deals come our way, and the pricing is what the market dictates, and so they were, and will continue to be, accretive to our bottom line. With respect to our services business, as we stated we do have a strong pipeline and we are optimistic and are very focused on the growth prospects for that business going forward.

So the one thing that I do caution you on though, and I wouldn't call it caution, because it's actually a positive thing, is that we are not focused on a particular mix, so we'll take whatever business we can get in each of the areas that we're focused on. We're focused on both products and services. But the trough that you're talking about with respect to absolute dollar sales, absolutely. We want to drive growth in services going forward, and think we can do that.

With respect to percentage of business and its effect on overall gross margins, it's going to be a function of what we get in product sales and what we get in services sales. We're not going to stop once we get to a particular product sales number.

Brian Peterson

And to follow up on the services growth, can you talk a little bit about the NSPI acquisition going forward, and maybe how you’ve been able to leverage their customer base into what you're already selling, your cross-selling opportunities, or vice versa? Just a little bit of detail on that?

Frank Khulusi

So, on the NSPI front, it's very early going. That has just happened, and the integration is underway. Our initial and early indications are nothing but goodness there. There's a lot of customer excitement. There's a lot of vendor excitement, and there's a very solid pipeline of business building, of selling those services, or potentially selling those services, into our existing accounts or into our legacy existing accounts. Kris, do you want to add anything to that?

Kristin Rogers

I think a couple of things. First, I think the offering for NSPI is very accretive to us from an SMB perspective. The hosting and remote monitoring services businesses provide a really kind of in the space that a lot of SMB accounts are looking for some support right now. And I think second to that, Brian, is as we talk with folks like Cisco, and Microsoft, and HP, and they're trying to figure out exactly what the go to market strategy is going to be for different cloud and SAS offerings, I think NSPI has given us a really good foundation to start to build on. And so as Frank indicated, I think there looks like a lot of opportunity on a go forward basis across our legacy customer base and potentially to position us for reaching out to new customers as new opportunities come up.

Brian Peterson

The SMB segment. The productivity metrics have actually been pretty impressive. If I'm looking at GP dollars for headcount, it looks like it's been up in the high teens each quarter this year, and I know you guys have been hiring some people in your Chicago office. Are they still underperforming, your sort of legacy SMB sales force to the extent that we could probably see a lot more there, and we're sort of in the early innings? Or is it more that they have actually caught up and the improvement should be muted relative to the comps that we've seen?

Frank Khulusi

Well, as you know that office is pretty young, so on a ten-year base productivity basis we're very pleased with what they've been able to generate and deliver so far. But with respect to the terminal point that you made, they are nowhere near that. As to your analogy, we're very much early innings.

Brian Peterson

Based on the fourth quarter guidance, I know you reiterated your margin guidance. Can you just talk about what you're expecting in terms of revenue as far as normal seasonality or budget flush or any qualitative read on demand?

Frank Khulusi

So as you know we don't forecast the future, but from a demand perspective demand continues to be very strong, and we're very pleased with demand and pretty much the same segments that we've had the strong demand in the third quarter. And on the consumer front, we are actually getting some additional traction with respect to some of our efforts, so whereas we don't know what we don't know, and it remains to be seen what the impact of our strategy changes will be the first quarter, the first Christmas quarter, or holiday quarter, that our strategy change comes into play, and we have more of business to business focus there, but we are expecting a significant increase in consumer sales, and possibly a return to year-over-year growth starting in the fourth quarter. But if not starting in the fourth quarter, then we are very optimistic about that in next year. So all good news there from a demand perspective.

Brian Peterson

Just lastly, I know you mentioned that Apple sales were pretty strong this quarter, and specifically the iPad. Can you talk about that success as far as SMB, MME, consumer?

Frank Khulusi

We are very pleased with the adoption of the iPad across, and in, segments that we believe are relatively new frontiers or virgin frontiers for Apple. It's been quicker than we thought, and deeper than we thought. And it's allowed us to leverage our position in the marketplace, one of the leaders, one of the largest with respect to sales, we believe that that will continue. We think that it's only the beginning, and one of the things that could happen as well is like the iPod where there was a halo effect, and allowed iPod sales into consumer to allow for adoption of Macintosh computers into the consumer market, hopefully the iPad adoption to businesses will at some point start expanding the computer sales, or the Mac sales I should say, into corporations as well. We've started seeing some of that, but it's early innings and the opportunity there could be pretty significant and again, our relationship with Apple could be an advantage there.


[Operator Instructions.] Our next question is from the line of Bill Dawkins from [Inaudible] & Dawkins Inc. You may proceed.

Bill Dawkins – [Inaudible] & Dawkins Inc.

Couple of questions, starting with Health Dynamix, and it's only because this is a new part to y'all's world, but could y'all get a little deeper into what exactly all this encompasses in respect to Quest, HP, and y'all, and how y'all fit into that relationship? And give me some kind of an idea of what kind of a market we're looking at with a partner like Quest.

Kristin Rogers

The partnership that we announced at the beginning of this month is that MedPlus, which is actually a division of Quest Diagnostics, has an EHR software. They've partnered with HP on the hardware side, Health Dynamix on the reseller side, for us to create a comprehensive solution, which is basically the software itself, the hardware that it needs to run on, and then the support, i.e. both our working with the doctors to figure out what they need, and our selling it to them, and then our ability to support it post-that fact. To go out into the world of private practitioners, and really sell that solution versus competitive solutions out there.

So you probably know that the world of EHR software is very hot right now. There's a huge whack of federal funding that is starting to flow down to private practitioners to encourage them to go ahead and invest in EHR software to automate their operation. If you look at the data it will tell you that there are approximately 900,000 private practitioners across the United States. The market is young, there's a very small percentage of private practitioners that have actually started the automation process, and so we believe the solution from MedPlus, in combination with HP's hardware, and what we bring to the table, are a pretty compelling value proposition.

So what we've agreed to do is we have a dedicated selling effort that is calling into private practitioners. HP and Health Dynamix and MedPlus are all doing marketing. You'll see us pop up at trade shows. You'll see us pop up in direct marketing pieces in the healthcare space that are basically out in the market touting why this is a cool solution. We have the ability to sell the software directly and receive that as revenue and gross profit. We have the ability to sell the HP solution and receive that as well as the services.

And so it's a pretty entangled relationship. Quest Diagnostics has a very large footprint in the private practitioner world today, because of their own technology, and so they believe that gives them a leg up in trying to drive MedPlus into that space. So brand new. We're aggressively calling into that market today, and hope that over the course of 2011 and 2012, this will be a significant incremental opportunity for us in the EHR space. So does that give you a sense of what we're doing?

Bill Dawkins

So if I look at Health Dynamix's sales force, what kind of difference in training do they receive than an MME or SMB salesperson? Actually, what I want to know is are they SMB and MME guys trained well enough to be a Health Dynamix sales guy, or is this a totally different guy?

Kristin Rogers

Yes. Well, we have sort of a dual approach into the healthcare space, because as you probably know, the number of healthcare end users in the United States is, you're in the millions, right? And so it's impractical to say that Health Dynamix is going to be effective at selling to millions of end users, no matter how big the sales force is.

And the reality is that PC Mall and Sarcom and PC Mall Gov all have existing relationships with hospitals, doctors, clinics, payers, throughout the United States. So what we've done is kind of twofold. Health Dynamix has its own sales force, albeit small today, that is selling directly to a subset of some of the more complex end users. And as you might expect that sales force is very highly trained and really lives, breathes, eats healthcare. That's all they do.

Separate and apart from that, we have put in Health Dynamix a number of technical and marketing bodies whose job it is to then go out and train the salespeople at PC Mall, Sarcom, and PC Mall Gov, and enable their capability to sell solutions into their end users. And so while Health Dynamix itself, proper, will focus on the more complex solutions and the more complex end users, PC Mall, Sarcom, and PC Mall Gov all have this Health Dynamix support organization behind them.

During the months of August and September we trained all of the salespeople in all three companies. We've developed marketing materials for all three companies. All three companies have a Health Dynamix website on their website. So you could go to Sarcom.com and look at healthcare and see the solutions under the guise of Health Dynamics. And so we actually have a two-pronged approach in the market, which we believe gives us really the most efficient way to reach the most end users in the most cost-effective way possible.

And candidly, this is really what's different about what we're doing versus some of our traditional competitors who may have some dedicated websites or pages that may have some marketing slicks. But we have really taken it sort of up a notch in terms of the level of sophistication of the resources that are available, the solutions that are available, and the services that are available.

So it's really, in answer to your question, they're not trained as well as the Health Dynamix salespeople. They don't need to be, because they have an overlay organization backing them up.

Bill Dawkins

Will Quest and HP both drive leads to y'all, or do they have -

Kristin Rogers

They are. As a matter of fact, the calling that's being done today to that huge pool of private practitioners I referenced, those names were actually provided to us by HP and by Quest.

Bill Dawkins

And do you know of any other Quest type company or Hewlett Packard putting together a package like this with other companies?

Kristin Rogers

You know, it's actually a very interesting market, Bill. For example, Ingram Micro, which is one of the large distributors, does have a relationship with [inaudible]. [Inaudible] does have an offering in the EHR space, but I don't know that it's quite as sophisticated or robust as what we're talking about. You'll find that there are other either distributors or large resellers who may have aligned themselves more closely with an EHR provider versus another, but I really don't know anyone that's got dedicated resources and dedicated marketing, that's doing it the way that we're doing it. But that's just what I know.

Bill Dawkins

So Quest and HP are just aligned with Health Dynamix?

Kristin Rogers


Bill Dawkins

Going on to Sarcom and NSPI, kind of the same conversation. When you talk about feeding NSPI services to your legacy customers, would you say that we should look at this in respect - and I know this could be down the road - but would it be a situation whereas you could almost just buy NSPI services by clicking on a SKU?

Kristin Rogers

Yes, actually. So as Frank mentioned, we're at sort of the beginning stages, but those are the things that are actually being developed as we speak. And so you will be a rep at PC Mall, or potentially a customer of PC Mall's, you go to the website, or you have your customized extranet. You could potentially click on a SKU for NSPI and purchase it that way, or call your rep. But absolutely.

Bill Dawkins

So remote diagnostics, all of these sub parts could be actual SKUs that you can cherry pick and purchase.

Kristin Rogers


Bill Dawkins

Now let me ask you this. So in respect to your sales force, how much training needs to be done into the SMB and to the MME guys to sell that type of service?

Kristin Rogers

So we are actually in the process of working very closely with PC Mall right now on the SMB side, and doing training, and actually spending time trying to understand the types of tools and support that they need in order to be able to effectively reach out to that market and sell those services. So I'd say if the process is on a scale of one to ten, ten being, you know, you've got a robust revenue stream going, we're probably at step four or five right now, maybe six, but we're well into it, and hope to actually start to see some revenue in the short-term.

Frank Khulusi

I would hedge that a little bit, and say more meaningfully next year.

Bill Dawkins

And to clarify the Sarcom business, the service business specifically, y'all do or do not feel like y'all have somewhat come through the trough and things are getting better there as well?

Frank Khulusi

I touched on that earlier. We do have a solid pipeline there, so from an absolute dollar perspective we are definitely working towards growing that business going forward into next year and beyond. But some of that business is project-based, so when you look quarter to quarter it may be a little erratic. That trajectory line should be up still as we go forward.

As I mentioned earlier, that business is more contracts-based, there's a contracts-based portion and there is a projects-based portion and the contracts-based portion that kind of helped us in the downturn because we were still performing services under contracts that were signed prior to that decline. But pipeline was a little challenged during that period.

And as the economy recovered, we're definitely working toward the stronger pipeline now, or trying to grow the stronger pipeline, but that has caused the services business to lag the products business. Now services growth is never going to be as strong as products growth. You're never going to have 50% growth in services because it's very, very hard. It takes a lot of infrastructure to support that. But definitely, the growth can be strong and it's all in relative terms. So we're very optimistic about that side of the business also.

Bill Dawkins

And Frank, with 84 reps in the Chicago office to date, what number do you want to get that to?

Frank Khulusi

We're not quoting a number with respect to that, and as you know, and as we've discussed on many calls before, we do have significant turnover in the early stages of a rep's life, specifically in the first year. It is very, very high, and that's the same for a lot of call center activities out there. Now, as these reps graduate from being more of a call center person, cold calling person, into more of an account manager, they tend to stick and the attrition drops significantly. So we're constantly hiring. The net numbers we report are a function of both attrition that's caused by us for people not performing, voluntary attrition by people that just figure out this is not a job for them, as well as the amount of people we're able to recruit in any particular timeframe.

And we try to balance between our various call centers as well, because we have needs in various areas, and we have a centralized recruiting force, recruiting for all these call centers at the same time. So in a nutshell, that number will be well north of where it is today, but A, we're not quoting to a particular number right now, nor are we able to actually land the airplane within a very narrow range of a number, even if we wanted to.

Bill Dawkins

Well, if you were to dissect the 84 people, knowing that some of those 84 people have been in the business possibly with another company, could you give me an average age of experience in the industry?

Frank Khulusi

No, actually there's a mix of people that have experience but there's also a very strong contingent of people that come in green within the industry, and we give them a very high degree of training, and we take them with us on hopefully what will be a long journey with us. So I would say there is no average age that we compute based on experience in the industry. As a matter of fact, some of our strongest performers are green, fresh off the street.


And at this time there are no further questions in the queue. I would like to turn the call back to Mr. Frank Khulusi for closing remarks.

Frank Khulusi

Thank you operator. I would like to thank everyone on the PC Mall team for their continued effort, dedication, and good work. In addition, thank you all very much for spending some time with us on this call and for your interest in PC Mall. We appreciate your support and look forward to speaking with you again on our fourth quarter conference call. In the meantime, please contact us with any questions, or if you have a need for IT solutions, we'd love to help. Have a great day.

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Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.


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