SCANSOURCE, INC.
10-Ks and 10-Qs
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934 for the
Quarterly period ended
September 30, 2014
Commission File Number: 000-26926
ScanSource, Inc.
(Exact name of registrant as specified in its charter)
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SOUTH CAROLINA
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57-0965380
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(State or other jurisdiction of
incorporation or organization)
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(I.R.S. Employer
Identification No.)
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6 Logue Court
Greenville, South Carolina, 29615
(Address of principal executive offices)
(864) 288-2432
(Registrant’s telephone number, including area code)
Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes
x
No
¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate website, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§ 232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post to such files. Yes
x
No
¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of "large accelerated filer," "accelerated filer," and "smaller reporting company" in Rule 12b-2 of the Exchange Act.
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Large accelerated filer
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x
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Accelerated filer
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¨
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Non-accelerated filer
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¨
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(Do not check if a smaller reporting company)
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Smaller reporting company
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¨
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Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes
¨
No
x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
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Class
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Outstanding at October 31, 2014
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Common Stock, no par value per share
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28,551,300 shares
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SCANSOURCE, INC.
INDEX TO FORM 10-Q
September 30, 2014
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Page #
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Item 1.
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Condensed Consolidated Balance Sheets as of September 30, 2014 and June 30, 2014
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Condensed Consolidated Income Statements for the Quarters Ended September 30, 2014 and 2013
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Condensed Consolidated Statements of Comprehensive Income for the Quarters Ended September 30, 2014 and 2013
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Condensed Consolidated Statements of Cash Flows for the Three Months Ended September 30, 2014 and 2013
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Item 2.
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Item 3.
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Item 4.
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Item 1
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Legal Proceeding
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Item 1A.
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Item 6.
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FORWARD-LOOKING STATEMENTS
The forward-looking statements included in the "Management’s Discussion and Analysis of Financial Condition and Results of Operations" and "Quantitative and Qualitative Disclosures About Market Risk" and "Risk Factors" sections and elsewhere herein, which reflect our best judgment based on factors currently known, involve risks and uncertainties. Words such as "expects," "anticipates," "believes," "intends," "plans," "hopes," "forecasts" and variations of such words and similar expressions are intended to identify such forward-looking statements. Except as may be required by law, we expressly disclaim any obligation to update these forward-looking statements to reflect events or circumstances after the date of this Quarterly Report on Form 10-Q or to reflect the occurrence of unanticipated events. Actual results could differ materially from those anticipated in these forward-looking statements as a result of a number of factors including, but not limited to, the factors discussed in such sections and, in particular, those set forth in the cautionary statements included in "Risk Factors" contained in our Annual Report on Form 10-K for the year ended
June 30, 2014
. The forward-looking information we have provided in this Quarterly Report on Form 10-Q pursuant to the safe harbor established under the Private Securities Litigation Reform Act of 1995, should be evaluated in the context of these factors.
3
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Item 1.
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Financial Statements
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SCANSOURCE, INC. AND SUBSIDIARIES
(In thousands, except share information)
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September 30,
2014 |
June 30,
2014 |
||||||
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Assets
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|||||||
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Current assets:
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|||||||
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Cash and cash equivalents
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$
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139,863
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$
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194,851
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Accounts receivable, less allowance of $24,110 at September 30, 2014 and $26,257 at June 30, 2014
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500,002
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464,405
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|||
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Inventories
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495,090
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504,758
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Prepaid expenses and other current assets
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44,497
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33,558
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Deferred income taxes
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18,302
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18,109
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Total current assets
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1,197,754
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1,215,681
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Property and equipment, net
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38,423
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31,823
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Goodwill
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50,945
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32,342
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Other non-current assets, including net identifiable intangible assets
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73,869
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55,278
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Total assets
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$
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1,360,991
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$
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1,335,124
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Liabilities and Shareholders’ Equity
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|||||||
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Current liabilities:
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Accounts payable
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$
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423,545
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$
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421,721
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Accrued expenses and other current liabilities
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67,915
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63,574
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Current portion of contingent consideration
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7,806
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5,851
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Income taxes payable
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15,164
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8,685
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Total current liabilities
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514,430
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499,831
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Deferred income taxes
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4,356
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185
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Long-term debt
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5,429
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5,429
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Long-term portion of contingent consideration
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2,356
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5,256
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Other long-term liabilities
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24,155
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21,780
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Total liabilities
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550,726
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532,481
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Commitments and contingencies
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Shareholders’ equity:
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Preferred stock, no par value; 3,000,000 shares authorized, none issued
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—
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—
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Common stock, no par value; 45,000,000 shares authorized, 28,551,300
and 28,539,481 shares issued and outstanding at September 30, 2014 and June 30, 2014, respectively
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170,104
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168,447
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Retained earnings
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670,104
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650,896
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Accumulated other comprehensive income (loss)
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(29,943
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)
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(16,700
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)
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Total shareholders’ equity
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810,265
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802,643
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Total liabilities and shareholders’ equity
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$
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1,360,991
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$
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1,335,124
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June 30, 2014 amounts are derived from audited consolidated financial statements.
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See accompanying notes to these condensed consolidated financial statements.
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4
SCANSOURCE, INC. AND SUBSIDIARIES
(In thousands, except per share data)
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Quarter ended
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|||||||
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September 30,
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2014
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2013
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Net sales
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$
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791,720
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$
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731,904
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Cost of goods sold
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714,075
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655,405
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Gross profit
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77,645
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76,499
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Selling, general and administrative expenses
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48,155
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47,540
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Change in fair value of contingent consideration
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513
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738
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Operating income
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28,977
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28,221
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Interest expense
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190
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247
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Interest income
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(835
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)
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(574
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)
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Other (income) expense, net
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386
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109
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Income before income taxes
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29,236
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28,439
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Provision for income taxes
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10,028
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9,002
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Net income
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$
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19,208
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$
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19,437
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Per share data:
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Net income per common share, basic
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$
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0.67
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$
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0.69
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Weighted-average shares outstanding, basic
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28,544
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28,034
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Net income per common share, diluted
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$
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0.67
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$
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0.69
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Weighted-average shares outstanding, diluted
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28,794
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28,257
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See accompanying notes to these condensed consolidated financial statements.
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5
SCANSOURCE, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (UNAUDITED)
(In thousands)
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Quarter ended
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|||||||
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September 30,
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2014
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2013
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Net income
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$
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19,208
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$
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19,437
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Foreign currency translation adjustment
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(13,243
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)
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4,271
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Comprehensive income
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$
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5,965
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$
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23,708
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See accompanying notes to these condensed consolidated financial statements.
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6
SCANSOURCE, INC. AND SUBSIDIARIES
(In thousands)
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Three months ended
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|||||||
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September 30,
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||||||
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2014
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2013
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|||||
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Cash flows from operating activities:
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Net income
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$
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19,208
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$
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19,437
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Adjustments to reconcile net income to net cash provided by (used in) operating activities:
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|||||||
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Depreciation and amortization
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1,897
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1,869
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Amortization of debt issuance costs
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74
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86
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Provision for doubtful accounts
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(2,071
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)
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2,930
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Share-based compensation
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1,409
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1,157
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Deferred income taxes
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(885
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)
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(255
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)
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Excess tax benefits from share-based payment arrangements
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(70
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)
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(274
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)
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Change in fair value of contingent consideration
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513
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738
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Changes in operating assets and liabilities, net of acquisitions:
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|||||||
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Accounts receivable
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(22,523
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)
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(8,250
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)
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|||
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Inventories
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14,530
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(28,617
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)
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|||
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Prepaid expenses and other assets
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(2,718
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)
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(3,528
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)
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Other non-current assets
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307
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(538
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)
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Accounts payable
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(11,961
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)
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53,698
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|||
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Accrued expenses and other liabilities
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(3,474
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)
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(2,014
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)
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|||
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Income taxes payable
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6,462
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9,262
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|||
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Net cash provided by (used in) operating activities
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698
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|
45,701
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|
|||
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Cash flows from investing activities:
|
|||||||
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Capital expenditures
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(7,319
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)
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(215
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)
|
|||
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Cash paid for business acquisitions, net of cash acquired
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(35,516
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)
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—
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|
|||
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Net cash provided by (used in) investing activities
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(42,835
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)
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(215
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)
|
|||
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Cash flows from financing activities:
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|||||||
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Borrowings (repayments) on short-term borrowings, net
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(4,609
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)
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—
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|
|||
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Repayments on capital lease obligation
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(81
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)
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—
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|
|||
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Contingent consideration payments
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(5,529
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)
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(3,644
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)
|
|||
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Exercise of stock options
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205
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|
2,786
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|
|||
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Excess tax benefits from share-based payment arrangements
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70
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|
274
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|||
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Net cash provided by (used in) financing activities
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(9,944
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)
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(584
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)
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Effect of exchange rate changes on cash and cash equivalents
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(2,907
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)
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703
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Increase (decrease) in cash and cash equivalents
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(54,988
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)
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45,605
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Cash and cash equivalents at beginning of period
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194,851
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148,164
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Cash and cash equivalents at end of period
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$
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139,863
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$
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193,769
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See accompanying notes to these condensed consolidated financial statements.
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7
SCANSOURCE, INC. AND SUBSIDIARIES
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(UNAUDITED)
(1) Business and Summary of Significant Accounting Policies
Business Description
ScanSource
,
Inc. is a leading international wholesale distributor of specialty technology products. ScanSource, Inc. and its subsidiaries ("the Company") provide value-added distribution services for technology manufacturers and sell to resellers in the following specialty technology markets: POS and Barcode and Security through its Worldwide Barcode & Security segment and Communications through its Worldwide Communications & Services segment.
The Company operates in the United States, Canada, Latin America and Europe. The Company distributes to the United States and Canada from its Southaven, Mississippi distribution center; to Latin America principally from distribution centers located in Florida, Mexico and Brazil; and to Europe from its distribution centers located in Belgium, France, Germany and the United Kingdom.
Basis of Presentation
The accompanying unaudited condensed consolidated financial statements of ScanSource, Inc. have been prepared by the Company’s management in accordance with United States generally accepted accounting principles ("US GAAP") for interim financial information and applicable rules and regulations of the Securities Exchange Act of 1934, as amended. Accordingly, they do not include all of the information and footnotes required by US GAAP for annual financial statements. The unaudited condensed consolidated financial statements included herein contain all adjustments (consisting of normal recurring and non-recurring adjustments) which are, in the opinion of management, necessary to present fairly the financial position as of
September 30, 2014
and
June 30, 2014
, the results of operations for the
quarters ended
September 30, 2014
and
2013
, the statements of comprehensive income for the
quarters ended
September 30, 2014
and
2013
and the statements of cash flows for the
three
months ended
September 30, 2014
and
2013
. The results of operations for the
quarters ended
September 30, 2014
and
2013
are not necessarily indicative of the results to be expected for a full year. These financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company’s Annual Report on Form 10-K for the fiscal year ended
June 30, 2014
.
Summary of Significant Accounting Policies
Except as described below, there have been no material changes to the Company’s significant accounting policies for the
quarter ended
September 30, 2014
from the information included in the notes to the Company’s consolidated financial statements included in the Annual Report on Form 10-K for the fiscal year ended
June 30, 2014
. For a discussion of the Company’s significant accounting policies, please see the Company’s Annual Report on Form 10-K for the fiscal year ended
June 30, 2014
.
Cash and Cash Equivalents
The Company considers all highly liquid investments with original maturities of three months or less to be cash equivalents. The Company maintains some zero-balance, disbursement accounts at various financial institutions in which the Company does not maintain significant depository relationships. Due to the nature of the Company’s banking relationships with these institutions, the Company does not have the right to offset most if not all outstanding checks written from these accounts against cash on hand, and the respective institutions are not legally obligated to honor the checks until sufficient funds are transferred to fund the checks. Checks released but not yet cleared from these accounts in the amounts of
$66.1 million
and
$84.1 million
are included in accounts payable as of
September 30, 2014
and
June 30, 2014
, respectively.
Recent Accounting Pronouncements
In May 2014, the FASB issued a comprehensive new revenue recognition standard for contracts with customers that will supersede most current revenue recognition guidance, including industry-specific guidance. The core principle of this standard is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve this core principle, the standard provides a five-step analysis of transactions to determine when and how revenue is recognized. Other major provisions include the capitalization and amortization of certain contract costs, ensuring the time value of money is considered in the transaction
8
price, and allowing estimates of variable consideration to be recognized before contingencies are resolved in certain circumstances. This guidance also requires enhanced disclosures regarding the nature, amount, timing and uncertainty of revenue and cash flows arising from an entity’s contracts with customers. The new standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. Early application is prohibited. The standard permits the use of either the retrospective or cumulative effect transition method. This guidance will be applicable to the Company at the beginning of its first quarter of fiscal year 2018. The Company is currently evaluating the impact on its consolidated financial statements upon the adoption of this new standard.
(2) Earnings Per Share
Basic earnings per share are computed by dividing net income by the weighted-average number of common shares outstanding. Diluted earnings per share are computed by dividing net income by the weighted-average number of common and potential common shares outstanding.
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Quarter ended
|
|||||||
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September 30,
|
||||||
|
|
2014
|
2013
|
|||||
|
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(in thousands, except per share data)
|
||||||
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Numerator:
|
|||||||
|
Net Income
|
$
|
19,208
|
|
$
|
19,437
|
|
|
|
Denominator:
|
|||||||
|
Weighted-average shares, basic
|
28,544
|
|
28,034
|
|
|||
|
Dilutive effect of share-based payments
|
250
|
|
223
|
|
|||
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Weighted-average shares, diluted
|
28,794
|
|
28,257
|
|
|||
|
Net income per common share, basic
|
$
|
0.67
|
|
$
|
0.69
|
|
|
|
Net income per common share, diluted
|
$
|
0.67
|
|
$
|
0.69
|
|
|
For the
quarter ended
September 30, 2014
, weighted average shares outstanding excluded from the computation of diluted earnings per share because their effect would be anti-dilutive were
227,720
. For the
quarter ended
September 30, 2013
, there were
751,435
weighted average shares outstanding excluded from the computation of diluted earnings per share because their effect would be anti-dilutive.
(3) Accumulated Other Comprehensive Income (Loss)
Accumulated other comprehensive income (loss) consists of the following:
|
September 30,
2014 |
June 30,
2014 |
||||||
|
|
(in thousands)
|
||||||
|
Foreign currency translation adjustment
|
$
|
(29,943
|
)
|
$
|
(16,700
|
)
|
|
|
Accumulated other comprehensive income (loss)
|
$
|
(29,943
|
)
|
$
|
(16,700
|
)
|
|
For the
quarter ended
September 30, 2014
and 2013, the tax effect of amounts in comprehensive income reflect a tax expense of
$0.9 million
and a tax benefit of
$0.2 million
, respectively.
(4) Acquisitions
On September 19, 2014, the Company acquired 100% of the shares of Imago Group plc, a European value-added distributor of video and voice communications equipment and services. Subsequent to the acquisition, the Company formally changed the name of Imago Group plc to ScanSource Video Communications Europe Ltd. ("Imago Scansource"). Imago ScanSource joins the Company’s Worldwide Communications and Services operating segment. This acquisition supports the Company’s strategy to be the leading value-added distributor of video, voice, and data solutions for resellers in Europe.
Under the Share Purchase Agreement, the Company structured the purchase transaction with an initial cash payment of
$37.4 million
, plus
two
additional annual cash installments for the twelve month periods ending September 30, 2015 and 2016, based
9
on the financial performance of Imago ScanSource. The Company acquired
$1.9 million
of cash during the acquisition, resulting in net
$35.5 million
cash paid for Imago ScanSource. Please see Note 8,
Fair Value of Financial Instruments
for further information regarding the fair value accounting for this contingent consideration.
Pro forma results of operations and a complete purchase price allocation have not been presented for this acquisition because the results of this acquisition are not material to our consolidated results. The purchase price of this acquisition was allocated to the assets acquired and liabilities assumed based on their estimated fair values on the transaction date, resulting in goodwill and identifiable intangible assets. Due to the timing of the acquisition relative to end of quarter, the valuation of certain tangible assets and the finalization of amortizable intangible assets is still in process at the date of this filing, therefore, estimates provided are subject to change. An estimate of the goodwill and identifiable intangible assets as of the acquisition date is as follows:
|
Goodwill
|
Identifiable Intangible Assets
|
||||||
|
(in thousands)
|
|||||||
|
Imago ScanSource
|
$
|
19,284
|
|
$
|
19,605
|
|
|
Intangible assets acquired include trade names, customer relationships, and non-compete agreements.
For tax purposes, due to the nondeductible nature of the amortization of identifiable intangible assets acquired the Company recorded a deferred tax liability in the amount of
$4.1 million
. The deferred tax liability represents the difference between the book and tax bases in the assets and will decrease over time as the assets are amortized for book purposes.
(5) Goodwill and Other Identifiable Intangible Assets
The changes in the carrying amount of goodwill for the
three
months ended
September 30, 2014
, by reporting segment, are as follows:
|
Barcode & Security Segment
|
Communications & Services Segment
|
Total
|
|||||||||
|
|
(in thousands)
|
||||||||||
|
Balance as of June 30, 2014
|
$
|
16,876
|
|
$
|
15,466
|
|
$
|
32,342
|
|
||
|
Additions
|
—
|
|
19,284
|
|
19,284
|
|
|||||
|
Foreign currency translation adjustment
|
(565
|
)
|
(116
|
)
|
(681
|
)
|
|||||
|
Balance as of September 30, 2014
|
$
|
16,311
|
|
$
|
34,634
|
|
$
|
50,945
|
|
||
Included within other non-current assets in the Condensed Consolidated Balance Sheets are net identifiable intangible assets of
$33.8 million
and
$16.0 million
at
September 30, 2014
and
June 30, 2014
, respectively. The increase in net identifiable intangible assets is due to those acquired related to the Imago ScanSource acquisition. These amounts relate to acquired intangible assets including trade names, customer relationships, non-compete agreements, and distributor agreements.
Short-Term Borrowings
A subsidiary of the Company has a
€6.0 million
line of credit, which is secured by the assets of our European operations and is guaranteed by ScanSource, Inc. This agreement can be withdrawn by the lender with minimal notice. The subsidiary line of credit bears interest at the 30-day Euro Interbank Offered Rate ("EURIBOR") plus a spread ranging from
1.25%
to
2.00%
per annum. The spread in effect for the period ended
September 30, 2014
was
1.25%
. Additionally, the Company is assessed commitment fees ranging from
0.10%
to
0.275%
on non-utilized borrowing availability if outstanding balances are below
€3.0 million
. The interest rate spread and commitment fee rates are based on the Company's Leverage Ratio for its revolving credit facility, as defined below. There were no outstanding balances at
September 30, 2014
and
June 30, 2014
.
Imago ScanSource, a new subsidiary of the Company has multi-currency invoice discounting credit facilities secured by the subsidiary’s assets for its operations based in the United Kingdom and France. The invoice discounting facilities allow for the issuance of funds up to
85%
of the amount of each invoice processed, subject to limits by currency of £
4.1 million
, €
4.1 million
, and
$0.7 million
. Borrowings under the invoice discounting facilities bear interest at a base rate determined by currency, plus a spread of
1.85%
. The base rate is the United Kingdom base rate published by the Bank of England for GBP-based borrowings,
10
30-day EUROLIBOR for Euro-based borrowings, and the Lloyds Bank daily USD published rate for the USD-based borrowings. Additionally, the Company is assessed an annual commitment fee of less than £
0.1 million
. There were no outstanding balances at
September 30, 2014
.
Revolving Credit Facility
The Company has a
$300 million
multi-currency senior secured revolving credit facility that was scheduled to mature on
October 11, 2016
. On
November 6, 2013
, the Company entered into an amendment of this credit facility ("Amended Credit Agreement") with JPMorgan Chase Bank N.A., as administrative agent, and a syndicate of banks to extend its maturity to
November 6, 2018
. The Amended Credit Agreement allows for the issuance of up to
$50 million
for letters of credit and has a
$150 million
accordion feature that allows the Company to increase the availability to
$450 million
, subject to obtaining additional credit commitments for the lenders participating in the increase. The Company incurred debt issuance costs of
$0.5 million
in connection with the Amended Credit Agreement, which were capitalized to other assets on the Condensed Consolidated Balance Sheets and added to the unamortized debt issuance costs from the previous credit facility.
At the Company's option, loans denominated in U.S. dollars under the Amended Credit Agreement, other than swingline loans, bear interest at a rate equal to a spread over the London Interbank Offered Rate ("LIBOR") or alternate base rate depending upon the Company's ratio of total debt (excluding accounts payable and accrued liabilities), measured as of the end of the most recent quarter, to adjusted earnings before interest expense, taxes, depreciation and amortization ("EBITDA") for the most recently completed four quarters (the "Leverage Ratio"). The Leverage Ratio calculation excludes the Company's subsidiary in Brazil. This spread ranges from
1.00%
to
2.25%
for LIBOR-based loans and
0.00%
to
1.25%
for alternate base rate loans. The spread in effect for the period ended
September 30, 2014
was
1.00%
for LIBOR-based loans and
0.00%
for alternate base rate loans. Additionally, the Company is assessed commitment fees ranging from
0.175%
to
0.40%
, depending upon the Leverage Ratio, on non-utilized borrowing availability, excluding swingline loans. The commitment fee rate in effect for the period ended
September 30, 2014
was
0.175%
. Borrowings are guaranteed by substantially all of the domestic assets of the Company as well as certain foreign subsidiaries determined to be material under the Amended Credit Agreement and a pledge of up to
65%
of capital stock or other equity interest in each Guarantor as defined in the Amended Credit Agreement. The Company was in compliance with all covenants under the credit facility as of
September 30, 2014
. There were no outstanding balances at
September 30, 2014
and
June 30, 2014
.
The average daily balance during the
three
month period ended
September 30, 2014
and
2013
was
$0.0 million
. There was
$300 million
available for additional borrowings as of
September 30, 2014
and
2013
, and there were no letters of credit issued under the revolving credit facility.
Long-Term Debt
On
August 1, 2007
, the Company entered into an agreement with the State of Mississippi to provide financing for the acquisition and installation of certain equipment to be utilized at the Company’s Southaven, Mississippi distribution facility, through the issuance of an industrial development revenue bond. The bond matures on
September 1, 2032
and accrues interest at the 30-day LIBOR rate plus a spread of
0.85%
. The terms of the bond allow for payment of interest only for the first
10
years of the agreement, and then, starting on September 1, 2018 through 2032, principal and interest payments are due until the maturity date or the redemption of the bond. The agreement also provides the bondholder with a put option, exercisable only within
180
days of each fifth anniversary of the agreement, requiring the Company to pay back the bonds at
100%
of the principal amount outstanding. As of
September 30, 2014
, the Company was in compliance with all covenants under this bond. The balance on the bond was
$5.4 million
as of
September 30, 2014
and
June 30, 2014
and is included in long-term debt. The interest rate at
September 30, 2014
and
June 30, 2014
was
1.01%
and
1.00%
, respectively.
Debt Issuance Costs
As of
September 30, 2014
, net debt issuance costs associated with the credit facility and bonds totaled
$1.3 million
and are being amortized on a straight-line basis through the maturity date of each respective debt instrument.
11
(7) Derivatives and Hedging Activities
The Company’s results of operations could be materially impacted by significant changes in foreign currency exchange rates and interest rates. These risks and the management of these risks are discussed in greater detail below. In an effort to manage the exposure to these risks, the Company periodically enters into various derivative instruments. The Company’s accounting policies for these instruments are based on whether the instruments are designated as hedge or non-hedge instruments in accordance with US GAAP. The Company records all derivatives on the balance sheet at fair value. Derivatives that are not designated as hedging instruments or the ineffective portions of cash flow hedges are adjusted to fair value through earnings in other income and expense.
Foreign Currency
– The Company conducts a portion of its business internationally in a variety of foreign currencies. The exposure to market risk for changes in foreign currency exchange rates arises from foreign currency-denominated assets and liabilities, and transactions arising from non-functional currency financing or trading activities. The Company’s objective is to preserve the economic value of non-functional currency-denominated cash flows. The Company attempts to hedge transaction exposures with natural offsets to the fullest extent possible and, once these opportunities have been exhausted, through forward contracts or other hedging instruments with third parties. These contracts will periodically hedge the exchange of various currencies, including the U.S. dollar, euro, British pound, Canadian dollar, Mexican peso and Brazilian real. While the Company utilizes foreign exchange contracts to hedge foreign currency exposure, the Company's foreign exchange policy prohibits the use of derivative financial instruments for speculative purposes.
The Company had contracts outstanding with notional amounts of
$77.4 million
and
$62.5 million
for the exchange of foreign currencies as of
September 30, 2014
and
June 30, 2014
, respectively. To date, the Company has chosen not to designate these derivatives as hedging instruments, and accordingly, these instruments are adjusted to fair value through earnings in other income and expense. Summarized financial information related to these derivative contracts and changes in the underlying value of the foreign currency exposures are as follows:
|
|
Quarter ended
|
||||||
|
September 30,
|
|||||||
|
|
2014
|
2013
|
|||||
|
|
(in thousands)
|
||||||
|
Net foreign exchange derivative contract (gains) losses
|
$
|
(1,414
|
)
|
$
|
2,179
|
|
|
|
Net foreign currency transactional and re-measurement (gains) losses
|
1,862
|
|
(2,020
|
)
|
|||
|
Net foreign currency (gains) losses
|
$
|
448
|
|
$
|
159
|
|
|
Net foreign exchange gains and losses consist of foreign currency transactional and functional currency re-measurements, offset by net foreign currency exchange contract gains and losses and are included in other income and expense. Foreign exchange gains and losses are generated as the result of fluctuations in the value of the British pound versus the euro, the U.S. dollar versus the euro, the U.S. dollar versus the Brazilian real and other currencies versus the U.S. dollar.
The Company used the following derivative instruments, located on its Condensed Consolidated Balance Sheets, for the risk management purposes detailed above:
|
|
As of September 30, 2014
|
||||||
|
|
Fair Value of
Derivatives
Designated as Hedge
Instruments
|
Fair Value of
Derivatives
Not Designated as Hedge
Instruments
|
|||||
|
|
(in thousands)
|
||||||
|
Derivative assets:
(a)
|
|||||||
|
Foreign exchange contracts
|
$
|
—
|
|
$
|
74
|
|
|
|
Derivative liabilities:
(b)
|
|||||||
|
Foreign exchange contracts
|
$
|
—
|
|
$
|
53
|
|
|
|
(a)
|
All derivative assets are recorded as prepaid expenses and other current assets in the Condensed Consolidated Balance Sheets.
|
|
(b)
|
All derivative liabilities are recorded as accrued expenses and other current liabilities in the Condensed Consolidated Balance Sheets.
|
12
(8) Fair Value of Financial Instruments
Accounting guidance defines fair value as the price that would be received to sell an asset or paid to transfer a liability in an orderly transaction between market participants at the measurement date. Under this guidance, the Company is required to classify certain assets and liabilities based on the fair value hierarchy, which groups fair value measured assets and liabilities based upon the following levels of inputs:
|
•
|
Level 1 – Unadjusted quoted prices in active markets that are accessible at the measurement date for identical, unrestricted assets or liabilities;
|
|
•
|
Level 2 – Quoted prices in markets that are not active, or inputs which are observable, either directly or indirectly, for substantially the full term of the asset or liability; and
|
|
•
|
Level 3 – Prices or valuation techniques that require inputs that are both significant to the fair value measurement and unobservable (i.e. supported by little or no market activity).
|
The assets and liabilities maintained by the Company that are required to be measured at fair value on a recurring basis include the Company’s various debt instruments, deferred compensation plan investments, outstanding foreign exchange forward contracts and contingent consideration owed to the previous owners of Brasil Distribuidora de Tecnologias Especiais LTDA ("CDC" or "ScanSource Brasil") and to the previous owners of Imago ScanSource. The carrying value of debt is considered to approximate fair value, as the Company’s debt instruments are indexed to LIBOR or the alternate base rate using the market approach (Level 2 criteria).
The following table summarizes the valuation of the Company’s remaining assets and liabilities measured at fair value on a recurring basis as of
September 30, 2014
:
|
Total
|
Quoted
prices in
active
markets
(Level 1)
|
Significant
other
observable
inputs
(Level 2)
|
Significant
unobservable
inputs
(Level 3)
|
||||||||||||
|
|
(in thousands)
|
||||||||||||||
|
Assets:
|
|||||||||||||||
|
Deferred compensation plan investments, current and non-current portion
|
$
|
14,776
|
|
$
|
14,776
|
|
$
|
—
|
|
$
|
—
|
|
|||
|
Forward foreign currency exchange contracts
|
74
|
|
—
|
|
74
|
|
—
|
|
|||||||
|
Total assets at fair value
|
$
|
14,850
|
|
$
|
14,776
|
|
$
|
74
|
|
$
|
—
|
|
|||
|
Liabilities:
|
|||||||||||||||
|
Deferred compensation plan investments, current and non-current portion
|
$
|
14,776
|
|
$
|
14,776
|
|
$
|
—
|
|
$
|
—
|
|
|||
|
Forward foreign currency exchange contracts
|
53
|
|
—
|
|
53
|
|
—
|
|
|||||||
|
Liability for contingent consideration, current and non-current portion
|
10,162
|
|
—
|
|
—
|
|
10,162
|
|
|||||||
|
Total liabilities at fair value
|
$
|
24,991
|
|
$
|
14,776
|
|
$
|
53
|
|
$
|
10,162
|
|
|||
The following table summarizes the valuation of the Company’s remaining assets and liabilities measured at fair value on a recurring basis as of
June 30, 2014
:
13
|
Total
|
Quoted
prices in
active
markets
(Level 1)
|
Significant
other
observable
inputs
(Level 2)
|
Significant
unobservable
inputs
(Level 3)
|
||||||||||||
|
|
(in thousands)
|
||||||||||||||
|
Assets:
|
|||||||||||||||
|
Deferred compensation plan investments, current and non-current portion
|
$
|
14,044
|
|
$
|
14,044
|
|
$
|
—
|
|
$
|
—
|
|
|||
|
Forward foreign currency exchange contracts
|
65
|
|
—
|
|
65
|
|
—
|
|
|||||||
|
Total assets at fair value
|
$
|
14,109
|
|
$
|
14,044
|
|
$
|
65
|
|
$
|
—
|
|
|||
|
Liabilities:
|
|||||||||||||||
|
Deferred compensation plan investments, current and non-current portion
|
$
|
14,044
|
|
$
|
14,044
|
|
$
|
—
|
|
$
|
—
|
|
|||
|
Forward foreign currency exchange contracts
|
119
|
|
—
|
|
119
|
|
—
|
|
|||||||
|
Liability for contingent consideration, current and non-current portion
|
11,107
|
|
—
|
|
—
|
|
11,107
|
|
|||||||
|
Total liabilities at fair value
|
$
|
25,270
|
|
$
|
14,044
|
|
$
|
119
|
|
$
|
11,107
|
|
|||
The investments in the deferred compensation plan are held in a rabbi trust and include mutual funds and cash equivalents for payment of non-qualified benefits for certain retired, terminated or active employees. These investments are recorded to prepaid expenses and other current assets or other non-current assets depending on their corresponding, anticipated distributions to recipients, which are reported in accrued expenses and other current liabilities or other long-term non-current liabilities, respectively.
Foreign currency forward contracts are measured using the market approach on a recurring basis considering foreign currency spot rates and forward rates quoted by banks or foreign currency dealers (Level 2). See Note 7 -
Derivatives and Hedging Activities
. Foreign currency contracts are classified in the consolidated balance sheet as prepaid expenses and other current assets or accrued expenses and other current liabilities, depending on the respective contracts' favorable or unfavorable positions.
The Company recorded contingent consideration liabilities at the acquisition date of CDC and Imago ScanSource representing the amounts payable to former shareholders, as outlined under the terms of the Share Purchase Agreements, based upon the achievement of projected earnings, net of specific pro forma adjustments. The current and non-current portions of these obligations are reported separately on the Condensed Consolidated Balance Sheets. The fair value of the contingent consideration for CDC (Level 3) is determined using a discounted cash flow model. The fair value of the contingent consideration for Imago ScanSource (Level 3) is determined using a probability weighted discounted cash flow model. Subsequent changes in the fair value of the contingent consideration liabilities are recorded to the change in fair value of contingent consideration line item in the Condensed Consolidated Income Statements. Fluctuations due to foreign currency translation are captured in other comprehensive income through the changes in foreign currency translation adjustments line item as seen in Note 3 -
Accumulated Other Comprehensive Income
.
CDC is part of the Company's Worldwide Barcode and Security Segment, and Imago ScanSource is part of the Company's Worldwide Communications and Services segment.
The table below provides a summary of the changes in fair value of the Company’s contingent considerations (Level 3) for the CDC and Imago ScanSource earnouts for the
quarter ended
September 30, 2014
:
|
|
Contingent consideration for the
quarter ended |
||||||||||
|
September 30, 2014
|
|||||||||||
|
|
Barcode & Security Segment
|
Communications & Services Segment
|
Total
|
||||||||
|
|
(in thousands)
|
||||||||||
|
Fair value at beginning of period
|
$
|
11,107
|
|
$
|
—
|
|
$
|
11,107
|
|
||
|
Issuance of contingent consideration
|
—
|
|
4,983
|
|
4,983
|
|
|||||
|
Payments
|
(5,529
|
)
|
—
|
|
(5,529
|
)
|
|||||
|
Change in fair value of contingent consideration
|
498
|
|
15
|
|
513
|
|
|||||
|
Foreign currency translation adjustment
|
(882
|
)
|
(30
|
)
|
(912
|
)
|
|||||
|
Fair value at end of period
|
$
|
5,194
|
|
$
|
4,968
|
|
$
|
10,162
|
|
||
14
The table below provides a summary of the changes in fair value of the Company’s contingent considerations (Level 3) for the CDC earnout for the
quarter ended
September 30, 2013
:
|
|
Contingent consideration for the
quarter ended |
||||||||||
|
September 30, 2013
|
|||||||||||
|
|
Barcode & Security Segment
|
Communications & Services Segment
|
Total
|
||||||||
|
|
(in thousands)
|
||||||||||
|
Fair value at beginning of period
|
$
|
12,545
|
|
$
|
—
|
|
$
|
12,545
|
|
||
|
Payments
|
(3,644
|
)
|
—
|
|
(3,644
|
)
|
|||||
|
Change in fair value of contingent consideration
|
738
|
|
—
|
|
738
|
|
|||||
|
Foreign currency translation adjustment
|
(133
|
)
|
—
|
|
(133
|
)
|
|||||
|
Fair value at end of period
|
$
|
9,506
|
|
$
|
—
|
|
$
|
9,506
|
|
||
The fair values of amounts owed are recorded in current portion of contingent consideration and long-term portion of contingent consideration in the Company’s Condensed Consolidated Balance Sheets. The U.S. dollar amounts of actual disbursements made in connection with future earnout payments are subject to change as the liability is denominated in currencies other than the U.S. dollar and subject to foreign exchange fluctuation risk. The Company will revalue the contingent consideration liabilities at each reporting date through the last payment, with changes in the fair value of the contingent consideration reflected in the change in fair value of contingent consideration line item on the Company’s Condensed Consolidated Income Statements that is included in the calculation of operating income. The fair value of the contingent consideration liabilities associated with future earnout payments is based on several factors, including:
|
•
|
estimated future results, net of pro forma adjustments set forth in the Share Purchase Agreements;
|
|
•
|
the probability of achieving these results; and
|
|
•
|
a discount rate reflective of the Company’s creditworthiness and market risk premium associated with the Brazilian and European markets.
|
A change in any of these unobservable inputs can significantly change the fair value of the contingent consideration.
Barcode and Security Segment
The fair value of the liability for the contingent consideration related to CDC recognized at
September 30, 2014
was
$5.2 million
, all of which is classified as current. The change in fair value of the contingent consideration recognized in the Condensed Consolidated Income Statements contributed a loss of
$0.5 million
for the
quarter ended
September 30, 2014
. The change this quarter is largely driven by the recurring amortization of the unrecognized fair value discount and changes in actual results. In addition, volatility in the foreign exchange between the Brazilian real and the U.S. dollar has driven changes in the translation of this Brazilian real denominated liability. Although there is no contractual limit, total future undiscounted contingent consideration payments are anticipated to range up to
$5.8 million
, based on the Company’s best estimate of the earnout calculated on a multiple of adjusted earnings.
Communications and Services Segment
The fair value of the liability for the contingent consideration related to Imago ScanSource recognized at
September 30, 2014
was
$5.0 million
of which
$2.6 million
is classified as current. The change in fair value of the contingent consideration recognized in the Condensed Consolidated Income Statements contributed a loss of less than
$0.1 million
for the
quarter ended
September 30, 2014
. The change this quarter is largely driven by volatility in the foreign exchange between the British pound and the U.S. dollar of this British pound denominated liability. Although there is no contractual limit, total future undiscounted contingent consideration payments are anticipated to range up to
$5.8 million
, based on the Company’s best estimate of the earnout calculated on a multiple of adjusted earnings, before interest expense, income taxes, depreciation and amortization.
15
(9) Segment Information
The Company is a leading distributor of specialty technology products, providing value-added distribution sales to resellers in specialty technology markets. The Company has
two
reportable segments, based on product and service type.
Worldwide Barcode & Security Segment
The Barcode & Security distribution segment focuses on automatic identification and data capture ("AIDC"), point-of-sale ("POS"), electronic physical security, and 3D printing technologies. We have business units within this segment for sales and merchandising functions, including ScanSource POS and Barcode business units in North America, Latin America, and Europe and the ScanSource Security business unit in North America. We see adjacencies among these technologies in helping our resellers develop solutions, such as with networking products. AIDC and POS products interface with computer systems used to automate the collection, processing and communication of information for commercial and industrial applications, including retail sales, distribution, shipping, inventory control, materials handling, warehouse management and health care applications. Electronic physical security products include identification, access control, video surveillance, intrusion-related and wireless and networking infrastructure products. 3D printing solutions replace and complement traditional methods and reduce the time and cost of designing new products by printing real parts directly from digital input.
Worldwide Communications & Services Segment
The Communications & Services distribution segment focuses on communications technologies and services. We have business units within this segment for sales and merchandising functions, and these business units offer voice, video conferencing, wireless, data networking and converged communications solutions in North America and Europe. As these solutions come together on IP networks, new opportunities are created for value-added resellers to move into adjacent solutions for all vertical markets, including education, healthcare, and government. To help resellers develop a new technology practice, or to extend their capability and reach, ScanSource Services Group delivers value-added support programs and services, including education and training, network assessments, custom configuration, implementation and marketing.
16
Selected financial information for each business segment is presented below:
|
Quarter ended
|
|||||||
|
|
September 30,
|
||||||
|
|
2014
|
2013
|
|||||
|
|
(in thousands)
|
||||||
|
Sales:
|
|||||||
|
Worldwide Barcode & Security
|
$
|
500,960
|
|
$
|
450,644
|
|
|
|
Worldwide Communications & Services
|
290,760
|
|
281,260
|
|
|||
|
$
|
791,720
|
|
$
|
731,904
|
|
||
|
Depreciation and amortization:
|
|||||||
|
Worldwide Barcode & Security
|
$
|
1,080
|
|
$
|
1,082
|
|
|
|
Worldwide Communications & Services
|
817
|
|
787
|
|
|||
|
$
|
1,897
|
|
$
|
1,869
|
|
||
|
Operating income:
|
|||||||
|
Worldwide Barcode & Security
|
$
|
12,541
|
|
$
|
11,959
|
|
|
|
Worldwide Communications & Services
|
17,786
|
|
16,262
|
|
|||
|
Corporate
(1)
|
(1,350
|
)
|
—
|
|
|||
|
$
|
28,977
|
|
$
|
28,221
|
|
||
|
Capital expenditures:
|
|||||||
|
Worldwide Barcode & Security
|
$
|
86
|
|
$
|
141
|
|
|
|
Worldwide Communications & Services
|
3
|
|
74
|
|
|||
|
Corporate
|
7,230
|
|
—
|
|
|||
|
$
|
7,319
|
|
$
|
215
|
|
||
|
Sales by Geography Category:
|
|||||||
|
North America
|
$
|
606,646
|
|
$
|
570,358
|
|
|
|
International
|
195,929
|
|
173,564
|
|
|||
|
Less intercompany sales
|
(10,855
|
)
|
(12,018
|
)
|
|||
|
$
|
791,720
|
|
$
|
731,904
|
|
||
|
(1)
For the quarter ended September 30, 2014, the amount shown includes acquisition costs primarily related to the Imago ScanSource acquisition.
|
|||||||
|
September 30, 2014
|
June 30, 2014
|
||||||
|
|
(in thousands)
|
||||||
|
Assets:
|
|||||||
|
Worldwide Barcode & Security
|
$
|
672,424
|
|
$
|
702,230
|
|
|
|
Worldwide Communications & Services
|
528,316
|
|
431,908
|
|
|||
|
Corporate
|
160,251
|
|
200,986
|
|
|||
|
$
|
1,360,991
|
|
$
|
1,335,124
|
|
||
|
Property and equipment, net by Geography Category:
|
|||||||
|
North America
|
$
|
34,318
|
|
$
|
28,673
|
|
|
|
International
|
4,105
|
|
3,150
|
|
|||
|
$
|
38,423
|
|
$
|
31,823
|
|
||
17
(10) Commitments and Contingencies
The Company and its subsidiaries are, from time to time, parties to lawsuits arising out of operations. Although there can be no assurance, based upon information known to the Company, the Company believes that any liability resulting from an adverse determination of such lawsuits would not have a material adverse effect on the Company’s financial condition, results of operations or cash flows.
The Company is in the process of designing and developing a new Enterprise Resource Planning ("ERP") system. In December 2013, the Company retained SAP for software platform and implementation consulting services on the new ERP system. For the
three
month period ended
September 30, 2014
, the Company incurred
$6.2 million
in the form of capital expenditures related to the ERP project. Amounts in accrued expenses and other current liabilities related to capital expenditures totaled
$2.0 million
and
$3.0 million
as of
September 30, 2014
and
June 30, 2014
, respectively. Capital expenditures for fiscal 2015 could range from
$17 million
to
$22 million
.
During the Company's due diligence for the CDC acquisition, several pre-acquisition contingencies were identified regarding various Brazilian federal and state tax exposures. The Company is able to record indemnification receivables that are reported gross of the pre-acquisition contingency liabilities as they were escrowed in the Share Purchase and Sale Agreement. However, indemnity claims can be made up to the entire purchase price, which includes the initial payment and all future earnout payments. The table below summarizes the balances and line item presentation of these pre-acquisition contingencies and corresponding indemnification receivables in the Company's Condensed Consolidated Balance Sheets:
|
September 30, 2014
|
June 30, 2014
|
||||||
|
|
(in thousands)
|
||||||
|
Assets
|
|||||||
|
Prepaid expenses and other current assets
|
$
|
4,514
|
|
$
|
5,023
|
|
|
|
Other non-current assets
|
$
|
1,097
|
|
$
|
1,221
|
|
|
|
Liabilities
|
|||||||
|
Accrued expenses and other current liabilities
|
$
|
4,514
|
|
$
|
5,023
|
|
|
|
Other long-term liabilities
|
$
|
1,097
|
|
$
|
1,221
|
|
|
Changes in these contingent liabilities and receivables from
June 30, 2014
, are primarily driven by foreign currency translation.
On August 14, 2014, the Company, entered into a binding letter of intent, pursuant to which the Company agreed to purchase, through the Company or one of the Company’s affiliates, all of the shares of Intersmart Comércio Importação Exportação de Equipamentos Eletrônicos, S.A., a corporation organized under the laws of the Federative Republic of Brazil, and its related entities (collectively “Network1”) from the Network1 shareholders. As of the date of this filings, the Company is still in the process of negotiating a definitive agreement for the Network1 acquisition previously disclosed in Note 17 of the Notes to Consolidated Financial Statements in the Company's Annual Report on Form 10-K for the year ended June 30, 2014.
(11) Income Taxes
The Company had approximately
$1.2 million
of total gross unrecognized tax benefits as of
September 30, 2014
and
June 30, 2014
, respectively. Of this total at
September 30, 2014
, approximately
$0.4 million
represents the amount of unrecognized tax benefits that are permanent in nature and, if recognized, would affect the annual effective tax rate. The Company does not believe that the total amount of unrecognized tax benefits will significantly increase or decrease within twelve months of the reporting date.
The Company conducts business globally and, as a result, one or more of its subsidiaries files income tax returns in the U.S. federal, various state, local and foreign jurisdictions. In the normal course of business, the Company is subject to examination by taxing authorities in countries and states in which it operates. With certain exceptions, the Company is no longer subject to state and local, or non-U.S. income tax examinations by tax authorities for the years before June 30,
2010
.
The Company’s policy is to recognize interest and penalties related to income tax matters in income tax expense. As of
September 30, 2014
, the Company had approximately
$0.9 million
accrued for interest and penalties.
18
Income taxes for the interim period presented have been included in the accompanying condensed consolidated financial statements on the basis of an estimated annual effective tax rate. In addition to the amount of tax resulting from applying the estimated annual effective tax rate to pre-tax income, the Company includes certain items treated as discrete events to arrive at an estimated overall tax provision. There were no material discrete items during the period.
The Company’s effective tax rate differs from the federal statutory rate of
35%
primarily as a result of income derived from tax jurisdictions with varying income tax rates, nondeductible expenses, and state income taxes.
The Company has provided for U.S. income taxes for the current earnings of its Canadian subsidiary. Earnings from all other geographies will continue to be considered retained indefinitely for reinvestment.
Financial results in prior quarters have generated pre-tax losses in Europe, which were primarily the result of our European Communications business, and could affect the valuation of certain deferred tax assets. In the judgment of management, it is more likely than not that the deferred tax asset will be realized.
19
|
Item 2.
|
Management’s Discussion and Analysis of Financial Condition and Results of Operations
|
Overview
ScanSource, Inc. is a leading international wholesale distributor of specialty technology products. ScanSource, Inc. and its subsidiaries (the "Company") provide value-added distribution services for approximately 300 technology manufacturers and sell to approximately 28,000 resellers in the following specialty technology markets: POS and Barcode, Security and Communications.
The Company operates in the United States, Canada, Latin America and Europe. The Company distributes to the United States and Canada from its Southaven, Mississippi distribution center; to Latin America principally from distribution centers located in Florida, Mexico and Brazil; and to Europe principally from its distribution center in Belgium, France, Germany and the United Kingdom.
The Company distributes products for many of its key vendors in all of its geographic markets; however certain vendors only allow distribution to specific geographies. The Company's key vendors in barcode technologies include Bematech, Cisco, Datalogic, Datamax-O'Neil, Elo, Epson, Honeywell, Intermec by Honeywell, Motorola, NCR, Toshiba Global Commerce Solutions and Zebra Technologies. The Company's key vendors for security technologies include Arecont, Axis, Bosch, Cisco, Datacard, Exacq Technologies, Fargo, HID, March Networks, Panasonic, Ruckus Wireless, Samsung, Sony and Zebra Card. The Company's key vendors in communications technologies include Aruba, Avaya, AudioCodes, Cisco, Dialogic, Extreme Networks, Meru Networks, Plantronics, Polycom, Shoretel and Sonus.
On August 14, 2014, the Company, entered into a binding letter of intent, pursuant to which the Company agreed to purchase all of the shares of Network1from its shareholders. The Company expects to close the Network1 acquisition on or before December 31, 2014.
On September 19, 2014 the Company acquired 100% of the shares of Imago Group plc, a European value-added distributor of video and voice communications equipment and services. Subsequent to the acquisition, the Company formally changed the name of Imago Group plc to ScanSource Video Communications Europe Ltd. Imago ScanSource is an addition to the Company’s Worldwide Communications and Services operating segment. This acquisition supports the Company’s strategy to be the leading value-added distributor of video, voice, and data solutions for resellers in Europe.
During fiscal year 2014, the Barcode & Security distribution segment added 3D printing solutions as a product offering targeting the manufacturing, healthcare, aerospace, and automotive markets. 3D printing solutions replace and complement traditional methods and reduce the time and cost of designing new products by printing real parts directly from digital input.
In the first quarter of fiscal 2015, Zebra Technologies and Motorola Solutions represented key vendors in our barcode technologies business. On October 27, 2014, Zebra Technologies purchased Motorola Solutions’ enterprise business.
The Company operates under two segments: Worldwide Barcode & Security and Worldwide Communications & Services. The management structure for our reporting segments allows each worldwide segment to have its own president and globally leverages the Company's leadership in specific technology markets.
Our objective is to continue to grow profitable sales in the technologies we distribute. We continue to evaluate strategic acquisitions to enhance our technological and geographic portfolios, as well as introduce new product lines to our line card. In doing so, we face numerous challenges that require attention and resources. Certain business units and geographies continue to experience increased competition for the products we distribute. This competition may come in the form of pricing, credit terms, service levels and product availability. As this competition could affect both our market share and pricing of our products, we may change our strategy in order to effectively compete in the marketplace.
The Company is in the process of designing and developing a new Enterprise Resource Planning ("ERP") system. In December 2013, the Company retained SAP for software platform and implementation consulting services on the new ERP system.
Evaluating Financial Condition and Operating Performance
In addition to disclosing results that are determined in accordance with United States generally accepted accounting principles ("US GAAP"), we also disclose certain non-GAAP financial measures. These measures include non-GAAP operating income, non-GAAP net income, non-GAAP EPS, return on invested capital ("ROIC") and "constant currency," a measure that excludes
20
the translation exchange impact from changes in foreign currency exchange rates between reporting periods. We use non-GAAP financial measures to better understand and evaluate performance, including comparisons from period to period.
These non-GAAP financial measures have limitations as analytical tools, and the non-GAAP financial measures that we report may not be comparable to similarly titled amounts reported by other companies. Analysis of results and outlook on a non-GAAP basis should be considered in addition to, and not in substitution for or as superior to, measurements of financial performance prepared in accordance with US GAAP.
Non-GAAP operating income, non-GAAP net income and non-GAAP EPS
To evaluate current period performance on a clearer and more consistent basis with prior periods, the Company discloses non-GAAP operating income, non-GAAP net income and non-GAAP diluted earnings per share. The Company completed an acquisition on September 19, 2014 and has a planned acquisition that it expects to close on or before December 31, 2014. Both of these acquisitions are structured with earnout payments. Given the size of the acquisitions and potential variability of fair value adjustments on operating results, non-GAAP results exclude amortization of intangible assets related to acquisitions and change in fair value of contingent consideration. Results for the quarter ended
September 30, 2014
also exclude acquisition costs. Non-GAAP operating income, non-GAAP net income and non-GAAP EPS are useful in better assessing and understanding the Company's operating performance, especially when comparing results with previous periods or forecasting performance for future periods.
Below we are providing a non-GAAP reconciliation of operating income, net income and earnings per share adjusted for the costs and charges mentioned above:
|
Quarter ended September 30, 2014
|
Quarter ended September 30, 2013
|
||||||||||||||||||||||||||||||
|
Operating Income
|
Pre-Tax Income
|
Net Income (Loss)
|
Diluted EPS
|
Operating Income
|
Pre-Tax Income
|
Net Income (Loss)
|
Diluted EPS
|
||||||||||||||||||||||||
|
(in thousands)
|
|||||||||||||||||||||||||||||||
|
GAAP Measures
|
$
|
28,977
|
|
$
|
29,236
|
|
$
|
19,208
|
|
$
|
0.67
|
|
$
|
28,221
|
|
$
|
28,439
|
|
$
|
19,437
|
|
$
|
0.69
|
|
|||||||
|
Adjustments:
|
|||||||||||||||||||||||||||||||
|
Amortization of intangible assets
|
992
|
|
992
|
|
660
|
|
0.02
|
|
924
|
|
924
|
|
605
|
|
0.02
|
|
|||||||||||||||
|
Change in fair value of contingent consideration
|
513
|
|
513
|
|
341
|
|
0.01
|
|
738
|
|
738
|
|
487
|
|
0.02
|
|
|||||||||||||||
|
Acquisition costs
|
1,350
|
|
1,350
|
|
1,350
|
|
0.05
|
|
—
|
|
—
|
|
—
|
|
—
|
|
|||||||||||||||
|
Non-GAAP measures
|
$
|
31,832
|
|
$
|
32,091
|
|
$
|
21,559
|
|
$
|
0.75
|
|
$
|
29,883
|
|
$
|
30,101
|
|
$
|
20,529
|
|
$
|
0.73
|
|
|||||||
Return on Invested Capital
Management uses ROIC as a performance measurement to assess efficiency at allocating capital under the Company's control to generate returns. Management believes this metric balances the Company's operating results with asset and liability management, is not impacted by capitalization decisions and is considered to have a strong correlation with shareholder value creation. In addition, it is easily computed, communicated and understood. ROIC also provides management a measure of the Company's profitability on a basis more comparable to historical or future periods.
ROIC assists us in comparing our performance over various reporting periods on a consistent basis because it removes from our operating results the impact of items that do not reflect our core operating performance. Adjusted EBITDA excludes acquisition costs for the
quarter ended
September 30, 2014
and also excludes changes in fair value of contingent consideration. We believe the calculation of ROIC provides useful information to investors and is an additional relevant comparison of our performance during the year. In addition, the Company's Board of Directors uses ROIC in evaluating business and management performance. Certain management incentive compensation targets are set and measured relative to ROIC.
21
We calculate ROIC as earnings before interest expense, income taxes, depreciation and amortization, plus change in fair value of contingent consideration and other non-GAAP adjustments ("adjusted EBITDA") divided by invested capital. Invested capital is defined as average equity plus average daily funded interest-bearing debt for the period. The following table summarizes annualized return on invested capital ratio for the quarters ended
September 30, 2014
and
2013
, respectively:
|
|
Quarter ended September 30,
|
||||
|
|
2014
|
2013
|
|||
|
Return on invested capital ratio, annualized
(a)
|
16.2
|
%
|
17.4
|
%
|
|
|
(a)
|
The annualized EBITDA amount is divided by days in the quarter times 365 days per year (366 during leap years). There were 92 days in the current and prior year quarter, respectively.
|
The components of this calculation and reconciliation to our financial statements are shown on the following schedule:
|
|
Quarter ended September 30,
|
||||||
|
|
2014
|
2013
|
|||||
|
|
(in thousands)
|
||||||
|
Reconciliation of net income to EBITDA:
|
|||||||
|
Net income (GAAP)
|
$
|
19,208
|
|
$
|
19,437
|
|
|
|
Plus: income taxes
|
10,028
|
|
9,002
|
|
|||
|
Plus: interest expense
|
190
|
|
247
|
|
|||
|
Plus: depreciation and amortization
|
1,897
|
|
1,869
|
|
|||
|
EBITDA (non-GAAP)
|
31,323
|
|
30,555
|
|
|||
|
Plus: Change in fair value of contingent consideration
|
513
|
|
738
|
|
|||
|
Plus: Acquisition costs
|
$
|
1,350
|
|
$
|
—
|
|
|
|
Adjusted EBITDA (numerator for ROIC) (non-GAAP)
(a)
|
$
|
33,186
|
|
$
|
31,293
|
|
|
|
Quarter ended September 30,
|
|||||||
|
|
2014
|
2013
|
|||||
|
|
(in thousands)
|
||||||
|
Invested capital calculations:
|
|||||||
|
Equity – beginning of the quarter
|
$
|
802,643
|
|
$
|
695,956
|
|
|
|
Equity – end of the quarter
|
810,265
|
|
723,748
|
|
|||
|
Add: Change in fair value of contingent consideration, net of tax
|
341
|
|
487
|
|
|||
|
Add: Acquisition costs, net of tax
(b)
|
1,350
|
|
—
|
|
|||
|
Average equity
|
807,300
|
|
710,096
|
|
|||
|
Average funded debt
(c)
|
6,205
|
|
5,429
|
|
|||
|
Invested capital (denominator for ROIC) (non-GAAP)
|
$
|
813,505
|
|
$
|
715,525
|
|
|
|
(a)
|
Adjusted EBITDA removes the impact of change in fair value of contingent consideration for the quarters ended September 30, 2014 and 2013 and acquisition costs for the quarter ended September 30, 2014. Adjusted EBITDA and the resulting change in ROIC is shown retrospectively.
|
|
(b)
|
Acquisitions costs are nondeductible for tax purposes.
|
|
(c)
|
Average funded debt is calculated as the average daily amounts outstanding on our short-term and long-term interest-bearing debt.
|
22
Results of Operations
Currency
We make references to "constant currency," a non-GAAP performance measure that excludes the foreign exchange rate impact from fluctuations in the weighted average foreign exchange rates between reporting periods. Constant currency is calculated by translating current period results from currencies other than the U.S. dollar using the comparable weighted average foreign exchange rates from the prior year period. This information is provided to view financial results without the impact of fluctuations in foreign currency rates, thereby enhancing comparability between reporting periods.
Net Sales
The Company has two reportable segments, which are based on technologies. The following tables summarize the Company’s net sales results by technology segment and by geographic location for the quarters ended
September 30, 2014
and
2013
, respectively:
|
|
Quarter ended September 30,
|
|||||||||||||
|
Net Sales by Segment:
|
2014
|
2013
|
$ Change
|
% Change
|
||||||||||
|
|
(in thousands)
|
|
||||||||||||
|
Worldwide Barcode & Security
|
$
|
500,960
|
|
$
|
450,644
|
|
$
|
50,316
|
|
11.2
|
%
|
|||
|
Worldwide Communications & Services
|
290,760
|
|
281,260
|
|
9,500
|
|
3.4
|
%
|
||||||
|
Total net sales
|
$
|
791,720
|
|
$
|
731,904
|
|
$
|
59,816
|
|
8.2
|
%
|
|||
Worldwide Barcode & Security
The Barcode & Security distribution segment consists of sales to technology resellers in our ScanSource POS & Barcode business units in North America, Europe, Brazil and Latin America and our ScanSource Security business unit in North America. Sales for the Barcode & Security distribution segment increased
$50.3 million
, compared to the prior year quarter. On a constant currency basis, net sales for the Barcode & Security distribution segment increased $50.2 million, which represents a 11.1% increase compared to the prior year quarter. The increase in Barcode & Security sales for the current quarter as compared to the prior year quarter is primarily due to an increase in big deals and run rate business in the POS & Barcode business units. Our Security business also had growth driven by an increase in sales of its wireless networking products.
Worldwide Communications & Services
The Communications & Services distribution segment consists of sales to technology resellers in our ScanSource Communications business units in North America and Europe, ScanSource Catalyst in North America, and ScanSource Services Group. Sales for the Communications & Services segment increased
$9.5 million
compared to the prior year quarter. On a constant currency basis, net sales for the Communications & Services distribution segment increased $9.6 million, which represents a 3.4% increase compared to the prior year quarter. The increase in Communications & Services sales for the current quarter compared to the prior year quarter is primarily due to growth in all North America Communications businesses, which included a strong sales quarter for the resale of vendor service contracts. Sales for the newly-acquired Imago ScanSource business contributed $4.7 million for the quarter.
|
|
Quarter ended September 30,
|
|||||||||||||
|
Net Sales by Geography:
|
2014
|
2013
|
$ Change
|
% Change
|
||||||||||
|
|
(in thousands)
|
|
||||||||||||
|
North American (U.S. and Canada)
|
$
|
595,791
|
|
$
|
558,340
|
|
$
|
37,451
|
|
6.7
|
%
|
|||
|
International
|
195,929
|
|
173,564
|
|
22,365
|
|
12.9
|
%
|
||||||
|
Total net sales
|
$
|
791,720
|
|
$
|
731,904
|
|
$
|
59,816
|
|
8.2
|
%
|
|||
23
Gross Profit
The following table summarizes the Company’s gross profit for the quarters ended
September 30, 2014
and
2013
, respectively:
|
|
Quarter ended September 30,
|
% of Net Sales September 30,
|
||||||||||||||||||
|
|
2014
|
2013
|
$ Change
|
% Change
|
2014
|
2013
|
||||||||||||||
|
|
(in thousands)
|
|
|
|
||||||||||||||||
|
Worldwide Barcode & Security
|
$
|
43,021
|
|
$
|
40,731
|
|
$
|
2,290
|
|
5.6
|
%
|
8.6
|
%
|
9.0
|
%
|
|||||
|
Worldwide Communications & Services
|
34,624
|
|
35,768
|
|
(1,144
|
)
|
(3.2
|
)%
|
11.9
|
%
|
12.7
|
%
|
||||||||
|
Gross profit
|
$
|
77,645
|
|
$
|
76,499
|
|
$
|
1,146
|
|
1.5
|
%
|
9.8
|
%
|
10.5
|
%
|
|||||
Worldwide Barcode & Security
Gross profit dollars increased for the Barcode & Security distribution segment, however, as a percentage of net sales, gross profit margin decreased for the quarter ended
September 30, 2014
compared to the prior year quarter.The decrease in gross margin is primarily due to a less favorable sales mix, including a higher volume of big deals at lower gross margins.
Worldwide Communications & Services
In the Communications & Services distribution segment, gross profit dollars and gross profit margin decreased for the quarter ended
September 30, 2014
, compared to the prior year quarter. The decreases in gross profit margin are primarily due to less favorable sales mix in the current quarter, combined with prior year benefits from timing of vendor program recognition that did not recur in the current quarter.
Operating Expenses
The following table summarizes our operating expenses for the
quarters ended
September 30, 2014
and
2013
, respectively:
|
|
Quarter ended September 30,
|
% of Net Sales September 30,
|
||||||||||||||||||
|
|
2014
|
2013
|
$ Change
|
% Change
|
2014
|
2013
|
||||||||||||||
|
|
(in thousands)
|
|
|
|
||||||||||||||||
|
Selling, general and administrative expenses
|
$
|
48,155
|
|
$
|
47,540
|
|
$
|
615
|
|
1.3
|
%
|
6.1
|
%
|
6.5
|
%
|
|||||
|
Change in fair value of contingent consideration
|
513
|
|
738
|
|
(225
|
)
|
(30.5
|
)%
|
0.1
|
%
|
0.1
|
%
|
||||||||
|
Operating expenses
|
$
|
48,668
|
|
$
|
48,278
|
|
$
|
390
|
|
0.8
|
%
|
6.1
|
%
|
6.6
|
%
|
|||||
Selling, general and administrative expenses ("SG&A") increased
$0.6 million
for the quarter ended
September 30, 2014
, compared to the prior period primarily due to acquisitions costs incurred during the period and increased employee-related expenses, partially offset by a reduction in bad debt expenses. The Company had a credit in bad debt expense this quarter due to improved collections and accounts receivable agings.
We present changes in fair value of the contingent consideration owed to the former shareholders of CDC and Imago ScanSource as a separate line item in operating expenses. In the current quarter, we have recorded fair value adjustment losses of
$0.5 million
. These losses are primarily the result of the recurring amortization of the unrecognized fair value discount and changes in actual results.
Operating Income
The following table summarizes our operating income for the
quarters ended
September 30, 2014
and
2013
, respectively:
24
|
|
Quarter ended September 30,
|
% of Net Sales September 30,
|
||||||||||||||||||
|
|
2014
|
2013
|
$ Change
|
% Change
|
2014
|
2013
|
||||||||||||||
|
|
(in thousands)
|
|
|
|
||||||||||||||||
|
Worldwide Barcode & Security
|
$
|
12,541
|
|
$
|
11,959
|
|
$
|
582
|
|
4.9
|
%
|
2.5
|
%
|
2.7
|
%
|
|||||
|
Worldwide Communications & Services
|
17,786
|
|
16,262
|
|
1,524
|
|
9.4
|
%
|
6.1
|
%
|
5.8
|
%
|
||||||||
|
Corporate
|
(1,350
|
)
|
—
|
|
(1,350
|
)
|
nm*
|
|
nm*
|
|
—
|
%
|
||||||||
|
Operating income
|
$
|
28,977
|
|
$
|
28,221
|
|
$
|
756
|
|
2.7
|
%
|
3.7
|
%
|
3.9
|
%
|
|||||
*nm - percentages are not meaningful
Worldwide Barcode & Security
For the Barcode & Security distribution segment, operating income increased, however as a percentage of sales, operating margin for the quarter ended September 30, 2014 compared to the prior year quarter, primarily from a decrease in gross profit margin.
Worldwide Communications & Services
For the Communications & Services distribution segment, operating income and operating margin increased for the quarter ended September 30, 2014 primarily due a credit for bad debt expense, as mentioned above, partially offset by a decrease in gross profit margin.
Corporate
Corporate incurred a
$1.4 million
expense relating to acquisition costs incurred during the
quarter ended
September 30, 2014
primarily related to the acquisition of Imago.
Total Other Expense (Income)
The following table summarizes our total other (income) expense for the
quarters ended
September 30, 2014
and
2013
, respectively:
|
|
Quarter ended September 30,
|
% of Net Sales September 30,
|
||||||||||||||||||
|
|
2014
|
2013
|
$ Change
|
% Change
|
2014
|
2013
|
||||||||||||||
|
|
(in thousands)
|
|
|
|
||||||||||||||||
|
Interest expense
|
$
|
190
|
|
$
|
247
|
|
$
|
(57
|
)
|
(23.1
|
)%
|
0.0
|
%
|
0.0
|
%
|
|||||
|
Interest income
|
(835
|
)
|
(574
|
)
|
(261
|
)
|
45.5
|
%
|
(0.1
|
)%
|
(0.1
|
)%
|
||||||||
|
Net foreign exchange (gains) losses
|
448
|
|
159
|
|
289
|
|
181.8
|
%
|
0.1
|
%
|
0.0
|
%
|
||||||||
|
Other, net
|
(62
|
)
|
(50
|
)
|
(12
|
)
|
24.0
|
%
|
(0.0
|
)%
|
(0.0
|
)%
|
||||||||
|
Total other (income) expense, net
|
$
|
(259
|
)
|
$
|
(218
|
)
|
$
|
(41
|
)
|
18.8
|
%
|
(0.0
|
)%
|
(0.1
|
)%
|
|||||
Interest income for the quarter ended
September 30, 2014
was
$0.8 million
, and includes interest income generated on longer-term interest bearing receivables and interest earned on cash and cash equivalents.
Net foreign exchange losses consist of foreign currency transactional and functional currency re-measurements, offset by net foreign currency exchange contract gains and losses. Foreign exchange gains and losses are generated from fluctuations in the value of the British pound versus the euro, the British pound versus the U.S. dollar, the U.S. dollar versus the euro, the U.S. dollar versus the Brazilian real, the Canadian dollar versus the U.S. dollar and other currencies versus the U.S. dollar. While we utilize foreign exchange contracts and debt in non-functional currencies to hedge foreign currency exposure, our foreign exchange policy prohibits the use of derivative financial instruments for speculative transactions. During the quarter, the Company's net foreign exchange losses increased over the prior year primarily due to settlement of a European vendor receivable exposure that was less than anticipated.
25
Provision for Income Taxes
For the
quarter ended
September 30, 2014
, income tax expense was
$10.0 million
reflecting an effective tax rate of 34.3%. The effective tax rate for the
quarter ended
September 30, 2013
was 31.7%. The increase in the effective tax rate from the prior year quarter is primarily due to the recognition of a discrete item in the quarter ended September 30, 2013 and the impact of non-deductible acquisition costs in the current quarter. Our estimated annual effective tax rate range for the full fiscal year is 34% to 34.5%.
26
Liquidity and Capital Resources
Our primary sources of liquidity are cash flows from operations and borrowings under the $300 million revolving credit facility. As a distribution company, our business requires significant investment in working capital, particularly accounts receivable and inventory, partially financed through our accounts payable to vendors, cash generated from operations and revolving lines of credit. In general, as our sales volumes increase, our net investment in working capital typically increases, which typically results in decreased cash flow from operating activities. Conversely, when sales volumes decrease, our net investment in working capital typically decreases, which typically results in increased cash flow from operating activities.
Our cash and cash equivalents balance totaled
$139.9 million
at
September 30, 2014
, compared to
$194.9 million
at
June 30, 2014
, including $32.2 million and $39.7 million held outside of the United States at
September 30, 2014
and
June 30, 2014
, respectively. The decrease in cash and cash equivalents is primarily from cash used in the purchase of Imago ScanSource and an earnout payment made to former shareholders of CDC. Checks released but not yet cleared in the amounts of
$66.1 million
and
$84.1 million
are included in accounts payable as of
September 30, 2014
and
June 30, 2014
, respectively.
We conduct business in many locations throughout the world where we generate and use cash. The Company provides for U.S. income taxes for the earnings of its Canadian subsidiary. Earnings from all other geographies are considered retained indefinitely for reinvestment. If these funds were needed in the operations of the United States, we would be required to record and pay significant income taxes upon repatriation of these funds.
Our net investment in working capital has decreased to
$683.3 million
at
September 30, 2014
from
$715.9 million
at
June 30, 2014
and increased compared to the
September 30, 2013
balance of
$637.4 million
. Net working capital has decreased
$32.5 million
since
June 30, 2014
, principally from a decrease in cash used to acquire Imago ScanSource and make an earnout payment to former shareholders of CDC, partially offset by higher accounts receivable. Our net investment in working capital is affected by several factors such as fluctuations in sales volume, net income, timing of collections from customers, increases and decreases to inventory levels, payments to vendors, as well as cash generated or used by other financing and investing activities.
Net cash provided by operating activities was
$0.7 million
for the
three
months ended
September 30, 2014
, compared to
$45.7 million
provided by operating activities in the prior year period. The decrease in cash provided by operating activities for the three months ended
September 30, 2014
is largely attributable to higher sales growth, which led to increases in accounts receivable.
The number of days sales outstanding ("DSO") was
55
days at
September 30, 2014
, excluding the impact of Imago ScanSource, unchanged from DSO at
June 30, 2014
and
September 30, 2013
. Inventory turned
5.7
times during the
first
quarter of fiscal year 2015 versus
5.6
and
6.3
times in the sequential and prior year quarters, respectively.
Cash used in investing activities for the
three
months ended
September 30, 2014
was
$42.8 million
, compared to
$0.2 million
used in the prior year period. The increase in cash used in investing activities is due to the acquisition of the Imago ScanSource business and capital expenditures on the Company's new Enterprise Resource Planning ("ERP") system.
In December 2013, we retained SAP for the software platform and implementation consulting services for a new ERP system. The Company is currently working on the development and implementation of the new ERP platform. Management expects capital spending for fiscal 2015 to range from $17 million to $22 million, primarily related to the ERP system.
For the
three
months ended
September 30, 2014
, cash used in financing activities totaled to
$9.9 million
compared to
$0.6 million
in the prior year period. The increase in cash provided by financing activities was primarily from increases in the contingent consideration payment balance to former shareholders of CDC, repayments on short-term borrowings of Imago ScanSource, and fewer stock options exercised than in the prior year.
In August 2014, our Board of Directors authorized a three-year $120 million share repurchase program. No purchases were made during the
three
months ended
September 30, 2014
.
The Company has a
$300 million
multi-currency senior secured revolving credit facility that was scheduled to mature on
October 11, 2016
. On
November 6, 2013
, the Company entered into an amendment of this credit facility ("Amended Credit Agreement") with JP Morgan Chase Bank, N.A, as administrative agent, and a syndicate of banks to extend its maturity to
November 6, 2018
. The Amended Credit Agreement allows for the issuance of up to
$50 million
for letters of credit and has a
$150 million
accordion feature that allows the Company to increase the availability to
$450 million
, subject to obtaining additional credit commitments for the lenders participating in the increase.
27
At our option, loans denominated in U.S. dollars under the Amended Credit Agreement, other than swingline loans, bear interest at a rate equal to a spread over the London Interbank Offered Rate ("LIBOR") or alternate base rate depending upon the Company's ratio of total debt (excluding accounts payable and accrued liabilities) to EBITDA, measured as of the end of the most recent year or quarter, as applicable, for which financial statements have been delivered to the Lenders (the "Leverage Ratio"). This spread ranges from
1.00%
to
2.25%
for LIBOR-based loans and
0.00%
to
1.25%
for alternate base rate loans. Borrowings under the Amended Credit Agreement are guaranteed by substantially all of the domestic assets of the Company as well as certain foreign subsidiaries determined to be material under the Amended Credit Agreement and a pledge of up to
65%
of capital stock or other equity interest in each Guarantor (as defined in the Amended Credit Agreement). We were in compliance with all covenants under the credit facility as of
September 30, 2014
.
There were no outstanding borrowings on our $300 million revolving credit facility as of
September 30, 2014
and
June 30, 2014
.
On a gross basis, we made zero borrowings and repayments on our Revolving Credit Facility in the
three
months ended
September 30, 2014
and
2013
. There were no standby letters of credits issued and outstanding as of
September 30, 2014
on the revolving credit facility, leaving $300 million available for additional borrowings.
Imago ScanSource, a new subsidiary of the Company has multi-currency invoice discounting credit facilities secured by the subsidiary’s accounts receivable for its operations based in the United Kingdom and France. The invoice discounting facilities allow for the issuance of funds up to 85% of the amount of each invoice processed, subject to limits by currency of £4.1 million, €4.1 million, and $0.7 million. Borrowings under the invoice discounting facilities bear interest at a base rate determined by currency, plus a spread of 1.85%. The base rate is the United Kingdom base rate published by the Bank of England for GBP-based borrowings, 30-day EUROLIBOR for Euro-based borrowings, and the Lloyds Bank daily USD published rate for the USD-based borrowings. Additionally, the Company is assessed an annual commitment fee of less than £0.1 million. There were no outstanding balances at September 30, 2014.
On April 15, 2011, the Company, through its wholly-owned subsidiary, ScanSource do Brasil Participações LTDA, completed its acquisition of all of the shares of CDC, pursuant to a Share Purchase and Sale Agreement dated April 7, 2011. The purchase price was paid with an initial payment of $36.2 million, net of cash acquired, assumption of working capital payables and debt, and variable annual payments through October 2015 based on CDC's annual financial results. The Company has made four payments to the former shareholders. As of
September 30, 2014
, we have
$5.2 million
recorded for the continuing earnout obligation, all of which is classified as current. The future earnout payment will be funded by cash on hand and our existing revolving credit facility.
On September 19, 2014, the Company, through a wholly-owned subsidiary, completed its acquisition of 100% of the shares of Imago ScanSource, pursuant to a Share Purchase Agreement. The purchase price was structured with an initial payment of $37.4, plus two additional annual cash installments for the twelve months ending September 30, 2015 and 2016, based on the financial performance of Imago ScanSource. The Company acquired $1.9 million of cash during the acquisition, resulting in net $35.5 million cash paid for Imago ScanSource. As of
September 30, 2014
, we have
$5.0 million
recorded for the earnout obligation, of which
$2.6 million
is classified as current. Future earnout payments will be funded by cash on hand and our existing revolving credit facility.
We believe that our existing sources of liquidity, including cash resources and cash provided by operating activities, supplemented as necessary with funds under our credit agreements, will provide sufficient resources to meet the present and future working capital and cash requirements for at least the next twelve months.
28
Contractual Obligations
In addition to the contractual obligations and commitments disclosed in our Annual Report on the Form 10-K, as of August 28, 2014, the Company entered into a binding letter of intent with Network1 as disclosed in Note 10 of the Company's Notes to Consolidated Financial Statements herein.
Accounting Standards Recently Issued
In May 2014, the FASB issued a comprehensive new revenue recognition standard for contracts with customers that will supersede most current revenue recognition guidance, including industry-specific guidance. The core principle of this standard is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. To achieve this core principle, the standard provides a five-step analysis of transactions to determine when and how revenue is recognized. Other major provisions include the capitalization and amortization of certain contract costs, ensuring the time value of money is considered in the transaction price, and allowing estimates of variable consideration to be recognized before contingencies are resolved in certain circumstances. This guidance also requires enhanced disclosures regarding the nature, amount, timing and uncertainty of revenue and cash flows arising from an entity’s contracts with customers. The new standard is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. Early application is prohibited. The standard permits the use of either the retrospective or cumulative effect transition method. This guidance will be applicable to the Company at the beginning of its first quarter of fiscal year 2018. The Company is currently evaluating the impact on its consolidated financial statements upon the adoption of this new standard.
Critical Accounting Policies and Estimates
Critical accounting policies are those that are important to our financial condition and require management's most difficult, subjective or complex judgments. Different amounts would be reported under different operating conditions or under alternative assumptions. We have evaluated the accounting policies used in the preparation of the consolidated financial statements and related notes and believe those policies to be reasonable and appropriate. See Note 1 of the Notes to Consolidated Financial Statements in our Annual Report on Form 10-K for the year ended June 30, 2014 for a complete listing of our significant accounting policies.
Goodwill
Goodwill is not amortized but is tested annually for impairment at a reporting unit level. Additionally, goodwill is tested for impairment on an interim basis if at any time facts and circumstances indicate that an impairment may have occurred.
As discussed in Item 7 of the Company's 2014 Annual Report on Form 10-K under Critical Accounting Policies, we performed our annual goodwill impairment test as of April 30, 2014 and found that the estimated fair value of the Latin America reporting unit exceeded its carrying values by 10.2%, a smaller margin than the Company's other goodwill reporting units. As of
September 30, 2014
the Company has goodwill associated with ScanSource Latin America of $4.0 million.
We monitor results of these reporting units on a quarterly basis, as not meeting estimated expectations or changes to the projected future results of their operations could result in a future impairment of goodwill for these reporting entities. Based on current projected future results, we do not believe there is a more likely than not expectation that a goodwill impairment exists.
|
Item 3.
|
Quantitative and Qualitative Disclosures About Market Risk
|
The Company’s principal exposure to changes in financial market conditions in the normal course of its business is a result of its selective use of bank debt and transacting business in foreign currencies in connection with its foreign operations.
Interest Rate Risk
The Company is exposed to changes in interest rates primarily as a result of its borrowing activities, which include revolving credit facilities with a group of banks used to maintain liquidity and fund the Company’s business operations. The nature and amount of the Company’s debt may vary as a result of future business requirements, market conditions and other factors. A hypothetical 100 basis point increase or decrease in interest rates on borrowings on the Company’s revolving credit facility, variable rate long-term debt and subsidiary line of credit for the quarter ended
September 30, 2014
would have resulted in less than a $0.1 million increase or decrease, respectively, in pre-tax income for the period.
29
The Company evaluates its interest rate risk and may use interest rate swaps to mitigate the risk of interest rate fluctuations associated with the Company's variable rate long-term debt. At
September 30, 2014
, the Company had
$5.4 million
in variable rate long-term debt outstanding with no interest rate swaps in place. If used, derivative instruments have the potential to expose the Company to certain market risks including the possibility of (1) the Company’s hedging activities not being as effective as anticipated in reducing the volatility of the Company’s cash flows, (2) the counterparty not performing its obligations under the applicable hedging arrangement, (3) the hedging arrangement being imperfect or ineffective, or (4) the terms of the swap or associated debt changing. The Company seeks to lessen such risks by having established a policy to identify, control, and manage market risks which may arise from changes in interest rates, as well as limiting its counterparties to major financial institutions.
Foreign Currency Exchange Rate Risk
The Company is exposed to foreign currency risks that arise from its foreign operations in Canada, Latin America, Brazil and Europe. These risks include transactions denominated in non-functional currencies and intercompany loans with foreign subsidiaries. In the normal course of the business, foreign exchange risk is managed by balance sheet netting of exposures, as well as the use of foreign currency forward contracts to hedge these exposures. In addition, exchange rate fluctuations may cause our international results to fluctuate significantly when translated into U.S. dollars. These risks may change over time as business practices evolve and could have a material impact on the Company’s financial results in the future.
The Company’s senior management has approved a foreign exchange hedging policy to reduce foreign currency exposure. The Company’s policy is to utilize financial instruments to reduce risks where internal netting cannot be effectively employed and not to enter into foreign currency derivative instruments for speculative or trading purposes. The Company monitors its risk associated with the volatility of certain foreign currencies against its functional currencies and enters into foreign exchange derivative contracts to minimize short-term currency risks on cash flows. These positions are based upon balance sheet exposures and, in certain foreign currencies, our forecasted purchases and sales. The Company continually evaluates foreign exchange risk and may enter into foreign exchange transactions in accordance with its policy. Actual variances from these forecasted transactions can adversely impact foreign exchange results. Foreign currency gains and losses are included in other expense (income).
The Company has elected not to designate its foreign currency contracts as hedging instruments, and therefore, the instruments are marked-to-market with changes in their values recorded in the consolidated income statement each period. The Company's foreign currencies are primarily British pounds, euros, Mexican pesos, Brazilian reais and Canadian dollars. At
September 30, 2014
, the fair value of the Company’s currency forward contracts outstanding was a net receivable of less than $0.1 million. The Company does not utilize financial instruments for trading or other speculative purposes.
30
|
Item 4.
|
Controls and Procedures
|
An evaluation was carried out under the supervision and with the participation of the Company’s management, including its Chief Executive Officer ("CEO"), Chief Financial Officer ("CFO") and Principal Accounting Officer ("PAO") of the effectiveness of the Company’s disclosure controls and procedures as of
September 30, 2014
. Based on that evaluation, the Company’s management, including the CEO, CFO and PAO, concluded that the Company’s disclosure controls and procedures are effective as of
September 30, 2014
. During the quarter ended
September 30, 2014
, there was no change in the Company’s internal control over financial reporting that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.
31
|
Item 1.
|
Legal Proceedings
|
The Company and its subsidiaries are, from time to time, parties to lawsuits arising out of operations. Although there can be no assurance, based upon information known to the Company, the Company believes that any liability resulting from an adverse determination of such lawsuits would not have a material adverse effect on the Company’s financial condition or results of operations.
|
Item 1A.
|
Risk Factors
|
In addition to the risk factors discussed in our other reports and statements that we file with the SEC, you should carefully consider the factors discussed in Part I, Item 1A. "Risk Factors" in our Annual Report on Form 10-K for the year ended
June 30, 2014
, which could materially affect our business, financial condition and/or future operating results. The risks described in our Annual Report on Form 10-K are not the only risks facing our Company. Additional risks and uncertainties not currently known to the Company or that the Company currently deems to be immaterial also may materially and adversely affect the Company’s business, financial condition, and/or operating results.
|
Item 6.
|
Exhibits
|
|
Exhibit
Number
|
Description
|
|
10.1
|
Letter Agreement between ScanSource, Inc. and Network1 dated August 14, 2014 (incorporated by reference from Exhibit 10.1 to the Form 8-K filed on August 15, 2014).
|
|
31.1
|
Certification Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|
|
31.2
|
Certification Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|
|
32.1
|
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
|
|
32.2
|
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
|
|
101
|
The following materials from our Quarterly Report on Form 10-Q for the quarter ended September 30, 2014, formatted in XBRL (eXtensible Business Reporting Language): (i) the Condensed Consolidated Balance Sheets as of September 30, 2014 and June 30, 2014; (ii) the Condensed Consolidated Income Statement for the quarters ended September 30, 2014 and 2013; (iii) the Condensed Consolidated Statements of Comprehensive Income for the quarters ended September 30, 2014 and 2013; (iv) the Condensed Consolidated Statements of Cash Flows for the three months ended September 30, 2014 and 2013; and (v) the notes to the Condensed Consolidated Financial Statements.
|
32
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
|
|
ScanSource, Inc.
|
|
|
|
/s/ MICHAEL L. BAUR
|
|
|
|
Michael L. Baur
|
|
|
Date:
|
November 4, 2014
|
Chief Executive Officer
(Principal Executive Officer)
|
|
/s/ CHARLES A. MATHIS
|
||
|
Charles A. Mathis
|
||
|
Date:
|
November 4, 2014
|
Executive Vice President and Chief Financial Officer
(Principal Financial Officer)
|
|
/s/ GERALD LYONS
|
||
|
Gerald Lyons
|
||
|
Date:
|
November 4, 2014
|
Senior Vice President of Finance and Principal Accounting Officer
(Principal Accounting Officer)
|
33
EXHIBIT INDEX TO QUARTERLY REPORT ON FORM 10-Q
|
Exhibit
Number
|
Description
|
|
10.1
|
Letter Agreement between ScanSource, Inc. and Network1 dated August 14, 2014 (incorporated by reference from Exhibit 10.1 to the Form 8-K filed on August 15, 2014).
|
|
31.1
|
Certification Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|
|
31.2
|
Certification Pursuant to Rule 13a-14(a)/15d-14(a) of the Securities Exchange Act of 1934, as amended, as Adopted Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002.
|
|
32.1
|
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
|
|
32.2
|
Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.
|
|
101
|
The following materials from our Quarterly Report on Form 10-Q for the quarter ended September 30, 2014, formatted in XBRL (eXtensible Business Reporting Language): (i) the Condensed Consolidated Balance Sheets as of September 30, 2014 and June 30, 2014; (ii) the Condensed Consolidated Income Statement for the quarters ended September 30, 2014 and 2013; (iii) the Condensed Consolidated Statements of Comprehensive Income for the quarters ended September 30, 2014 and 2013; (iv) the Condensed Consolidated Statements of Cash Flows for the three months ended September 30, 2014 and 2013; and (v) the notes to the Condensed Consolidated Financial Statements.
|
34
TABLE OF CONTENTS
Part I. Financial InformationItem 1. Financial StatementsItem 2. Management S Discussion and Analysis Of Financial Condition and Results Of OperationsItem 3. Quantitative and Qualitative Disclosures About Market RiskItem 4. Controls and ProceduresPart II. Other InformationItem 1. Legal ProceedingsItem 1A. Risk FactorsItem 6. Exhibits