Arrow Electronics: Growing Market Share Starting To Reflect In The Stock's Price

Summary

• Arrow's market share is growing in all segments.
• The company's free cash flow yield has doubled in the past year.
• EPS and revenue estimates are expected to skyrocket.
• Accounting metrics show that 2021 could be a successful year of earnings reports.
• The stock has strong value multiples with few long-term risks.

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Tech stocks have mostly smashed Q-1 earnings but stock gains and losses remained mixed. Today's coverage is for investors who are looking to diversify their growth portfolios into a well-diversified tech company that is gaining market share by the quarter. Arrow Electronics (NYSE:NYSE:ARW) provides tech investors with an option for sustainable returns in a market where big tech is certainly the way to go before returning to small-cap stocks when the growth cycle returns.

The Company

Arrow Electronics, Inc was founded in 1935 and is based in Centennial, Colorado. Arrow is one of the world's largest distributors of electronic components and enterprise computing products.

"The company operates in two segments, Global Components and Global Enterprise Computing Solutions. The Global Components segment markets and distributes semiconductor products and related services; passive, electro-mechanical, and interconnect products consisting primarily of capacitors, resistors, potentiometers, power supplies, relays, switches, and connectors; and computing and memory products, as well as other products and services. The Global Enterprise Computing Solutions segment offers computing solutions, including data-center, cloud, security, and analytics solutions, as well as access to various services, including engineering and integration support, warehousing and logistics, marketing resources, and authorized hardware and software training." - Source

We see Arrow as a candidate to become the dominant firm within the sector due to its global presence and wide range of products. The company is in the tech sector but the stock doesn't move like a tech stock only, it moves like a tech growth stock, deep value stock, and manufacturing stock all in one.

Performance

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The company has performed well over the past year during the tech boom. It's interesting to see that the company has still carried on and performed well YTD, somewhat beating the mini tech crash we've had.

Because the company is in the upstream part of the value chain, it will always be reliant on a select few large clients, which brings systemic risks with it. The stock price will generally fluctuate with a correlation to its key customers' industries.

Earnings & Expectations

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The company has outperformed earnings expectations in 10 of the last 12 quarterly reports, whilst beating the last 3 estimates by significant amounts. Arrow Electronics beat the expected EPS by $0.50 and smashed revenue expectations by $732.15 million.

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So let's analyze the income statement and see what can be expected in the May 6th earnings report as well as the rest of 2021:

• The company had an 8% increase in accounts receivables during 2020 which resulted in the CCC (cash conversion cycle) being reduced by 4 days. The receivables amount could be reduced and a large amount of 2020's revenue could be recognized in Q-1 2021 as the DSO (days of sales outstanding) is 113, which means that credit sales in Q3 and Q4 (2020) were due in Q-1 2021.
• The company unamortized $453,407 million in software development expenses in 2021. This could be reversed in 2021 if the company deems that the development actively adds to revenue streams.
• Goodwill wasn't impaired in 2020 and investors should consider that if goodwill had to incur impairment losses in the future, operating income will be reduced.

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EBITDA to normalized net income remains healthy and has been for years. The company has a WACC (weighted average cost of capital) of 10.39%, which is very high. We think that the 45 acquisitions Arrow has completed will show strength in top-line earnings as well as synergies, which will allow for more favorable financing terms. Corporate tax rate increases need to be tracked closely by investors as they will affect bottom-line earnings.

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Seeking Alpha's sample of analysts' expectations shows two important factors. A large increase in revenue and EPS is expected and this breathes air into our bullish argument regarding the company's earnings for Q-1 2021 and beyond.

Encouraging to investors should be that arrow returns cash to its investors by share repurchases. This increases the fair value of their shares drastically, a cash dividend would've reduced balance sheet values and subsequently the fair value of the shares outstanding.

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The last bit of the financials we'd like to look at is the rise in Arrow's free cash flow yield from 2019 to 2020. As Warren Buffett says, "cash is king," and Arrow has seen its free cash flow yield increase from 7% to 14.1%. This is really encouraging as free cash flow is essentially what determines the stock's fair value looking forward.

What's Driving The Stock's Price

• As mentioned Arrow has completed 45 acquisitions which are starting to add to top-line revenue as well as synergies. This has really started driving the stock's price since 2020 and will continue to do so in our opinion.
• Gartner expects the largest spending on IT in history for 2021 with $1.03 trillion to be deployed, and it expects a 4.1% YoY increase in IT spending. This is encouraging for a sector leader such as Arrow.
• Arrow offers best-in-class services to customers, and this along with its broad product offering has seen the company increase market share on all fronts.
• The company produces a lot of its revenue from semiconductor sales, and although a temporary shortage of supply is a concern, the semi-conductor business is lucrative moving forward.

Risks

• The company is highly levered with a 50.9% debt/equity ratio, which usually wouldn't be considered as high but considering covid-19's disruption on manufacturing, this should be considered risky.
• Arrow is a global company and derives revenue in multiple currencies, and the current climate of the FX market is considered unstable.
• Because Arrow competes in a broad range of markets, it's difficult to remain competitive on all fronts and requires a lot of large recurring investments.

Latest News

• Arrow has expanded its relationship with Amazon Web Services (AMZN) which allows the company to globally resell and manage and bill AWS's end customers for their services.
• The company is seeking more efficient operating efficiency with the appointment of Sean J. Kerins in December 2020.
• The company announced in September 2020 that it reached distribution agreements with Victor Corporation. Victor Corporation is currently offering modular power solutions to Arrow's customer base.

Multiples

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Both Seeking Alpha and Zacks Equity Research rank the stock as an A for value. Readers should take note of strong sales expectations relative to enterprise value and price. We think that cash flow is really what will drive the value of this stock forward. Furthermore, Price/Book is lower than the sector average, and when you consider the company's share buyback policy, you can almost say that the stock has value based on that premise alone.

Final Word

We like the company based on the business model and the way the business model is starting to reflect in the stock's price. Earnings for 2021 look promising and the company has a track record of beating earnings estimates. Cash flow yields are very high, which adds value to the stock along with the company's share buyback compensation policy. Value metrics show that the stock has runway and risks are far and few. Arrow is a buy!

Analyst’s Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.