Welcome to the Insight Enterprises' second quarter 2015 operating results conference call. [Operator Instructions]. I would now like to introduce your host for today, Ms. Glynis Bryan, Chief Financial Officer. You may begin, ma'am..

Thank you. Welcome everyone and thank you for joining us for the Insight Enterprises conference call. Today, we will be discussing the company’s operating results for the quarter ended June 30, 2015. I’m Glynis Bryan, Chief Financial Officer of Insight and joining me is Ken Lamneck, President and Chief Executive Officer.

If you do not have a copy of the earnings release that was posted this afternoon and filed with the Securities and Exchange Commission on Form 8-K, you will find it on our website at insight.com under our Investor Relations section.

Today’s call, including the question-and-answer period, is being webcast live and can be accessed via the Investor Relations page of our website at insight.com. An archived copy of the conference call will be available approximately two hours after completion of the call and will remain on our website for a limited time.

This conference call and the associated webcast contain time-sensitive information that is accurate only as of today, July 29, 2015. This call is the property of Insight Enterprises. Any redistribution, retransmission, or rebroadcast of this call in any form without the express written consent of Insight Enterprises is strictly prohibited.

In today’s conference call, we will refer to non-GAAP financial measures as we discuss the second quarter 2015 financial results.

Specifically, when we reference SG&A, earnings from operations, and earnings per share comparisons year over year for the quarters, we are excluding severance expenses in both periods and the noncash real estate impairment charge we recorded in the second quarter of last year.

You will find a reconciliation of these non-GAAP measures to our actual GAAP results included in the press release issued earlier today. Finally, let me remind you about forward-looking statements that will be made on today’s call.

All forward-looking statements that are made in this conference call are subject to risks and uncertainties that could cause our actual results to differ materially. These risks are discussed in today’s press release and in greater detail in our annual report on Form 10-K for the year ended December 31, 2014.

With that, I will now turn the call over to Ken to give you an overview of the second quarter 2015 operating results.

Ken?.

Hello, everyone. Thank you for joining us today to discuss our second quarter 2015 operating results. In the second quarter, we continued to execute our sales investment plans while delivering on a seasonally important quarter for our business. Consolidated net sales of $1.42 billion were consistent year over year in U.S. dollars.

Excluding the effects of currency changes, net sales grew 7%, with particularly strong top line performance in our North America segment. Gross profit was $191 million in the second quarter, down 2% in U.S. dollars but up 4% in constant currency. Gross margin declined 30 basis points year over year to 13.4%.

This decrease was driven primarily by lower gross margin due to product and client mix transacted in the quarter, primarily in North America. Consolidated selling and administrative expenses were flat year over year in U.S. dollars.

Excluding the noncash charge of $5.2 million related to our Illinois real estate assets recorded in the second quarter of last year, SG&A expenses increased 4% year over year, reflecting planned investments in sales, technical, and services headcount across the business.

Consolidated earnings from operations on a non-GAAP basis decreased 16% to $43.4 million. On a GAAP basis, earnings from operations decreased 7% to $43 million. Diluted earnings per share on a non-GAAP basis decreased $0.06 year over year to $0.68. On a GAAP basis, diluted earnings per share were $0.67.

In North America, net sales increased 10% year over year. Our notebooks and desktops category grew double digits in the second quarter, with large clients who continued to upgrade their environments in 2015, and we continue to see nice growth in the networking category where we also provide professional and technical services.

In the software category, we continue to see good demand for business productivity and security software solutions, which led to 5% growth in this category. And the team delivered 27% year over year growth in services sales, driven by increased professional services engagements in the networking space and more technical deployments.

By client segment, we saw particularly strong growth in Q2, with large enterprise and public sector clients and lower spending in the SMB space. This combination of client and products mix dampened our product gross margins in the quarter.

So far in the third quarter, we’re continuing to see increased spending with large accounts and expect gross margin to be down year over year by approximately 30 basis points in the third quarter, and by a similar amount for the full year. In EMEA, net sales increased 1% year over year in constant currency in the second quarter.

In the hardware category, double-digit growth in sales of servers was more than offset by lower sales of networking and storage products, which led to a slight decline in the category year over year.

But the team delivered 3% growth year over year in software and services sales and expanded gross margins by more than 100 basis points, which led to double digit earnings from operations growth in constant currency.

In the Asia Pacific, second quarter net sales decreased 8% year over year in constant currency due to a higher mix of software maintenance sales, which we reported net of related costs in our financial statements.

Our sales execution improved in key markets across Asia Pacific in the second quarter but lower fees earned on sales of enterprise agreements drove earnings from operations down year over year. Halfway through 2015, we see global IT demand as relatively stable, with North America growing a bit faster than Europe.

We continue to see clients working through the process to update their server environments, following the expiration of Windows Server 2003 maintenance in early July.

This market event had resulted in a slower refresh than we saw with the XP maintenance expiration last year and we expect that clients will still be addressing this issue throughout the balance of the year and that we will participate in the more tempered demand that is occurring in the marketplace.

2015 is turning out to be a year of diverse product and services opportunity with our largest clients, and we’re [unintelligible] our share of that growth, albeit at lower margins. At the same time, we’re growing our share with the U.S. federal government clients.

We have just been awarded two additional three year enterprise software agreements with the U.S.

Navy and the National Institute of Health, and we have been recently granted the opportunity to compete for hardware business under the SEWP contract, a contractual vehicle that supports more than $2 billion in annual IT spend to federal agencies in the United States. We’re looking forward to growing our share in this market over the coming quarters.

And finally, in the second quarter of 2015, we announced a brand refresh for our company. This year, we celebrate 20 years listed on the NASDAQ stock exchange and 27 years in business.

We’ve evolved from a disk drive reseller to a global IT solution provider over the past 27 years, and 2015 is the perfect time to revisit how we define our value proposition in the marketplace as a Fortune 500 employer.

We see the marketplace moving from traditional IT products to intelligent technology business solutions that help our clients not only run their business more efficiently but smarter. So our purpose in this new marketplace is just that, to make meaningful connections to help businesses run smarter.

We connect our partners to clients, our clients to solutions, and our teammates to opportunities. This rebranding initiative has united our global team around our company purpose and our newly articulated values of hunger, heart, and harmony.

In addition to our refreshed logo, purpose statement, and values, just last week we launched the new insight.com website, where clients will enjoy a fresher, more relevant research and shopping experience with Insight. I’m very proud of our team for coming together to reshape the way we represent Insight to our many stakeholders going forward.

And now I’m going to hand the call over to Glynis, who will discuss our second quarter financial results in more detail.

Glynis?.

Thank you, Ken. Starting with North America, net sales in North America were $979 million in the second quarter, up 10% year-to-year. Sales in our hardware category increased 11%. Software sales increased 5%, and services sales increased 27% year-to-year.

By client group, we saw higher spending by large enterprise and public sector clients, particularly federal and state and local agencies, and lower spending in the midmarket SMB client group. Gross profit in North America increased 3% year over year to $128 million and gross margin decreased 100 basis points to 13.1%.

This margin decrease was driven primarily by lower product margin on hardware sales due to business mix transacted in the quarter - this is driving 59 basis points of the decline - and also to a decrease in fees earned on software enterprise agreements compared to last year, which is driving 54 basis points in margin decline.

These decreases more than offset the approximately 20 basis points increase in margin generated from higher services [billed].

And on the SG&A front, excluding the $5.2 million noncash real estate impairment charge recorded in the second quarter of last year, [unintelligible] administrative expenses for North America in the second quarter increased 11% or $9.7 million year over year to $99 million.

This increase is driven by headcount investments primarily in sales and services, higher variable compensation, and higher healthcare benefits due to increased claims.

We have added approximately 200 sales and sales related team mates in the North America business in the past 12 months and we are focused on improving their productivity over the coming quarters.

Earnings from operations in North America were $29.3 million in the second quarter of 2015, down from the $35.7 million in the same quarter last year, excluding the real estate charge last year and severance expenses in both periods. Moving on to EMEA, our EMEA operating segment reported net sales of $381 million, down 15% year over year in U.S.

dollars, but up 1% in constant currency. Also in constant currency, hardware sales decreased 3% while software and services sales each increased 3%. By client group, we saw higher spending by midmarket, hosting, and public sector clients, and a decrease in spending by large clients, which helped gross margin in the quarter.

Gross profit in EMEA was $53 million, a decrease of 6% year over year in U.S. dollars but an increase of 10% in constant currency terms.

Gross margin increased 130 basis points in the quarter, about half of which is due to higher product margin in the software category, including higher vendor incentives, and the balance is due to a higher mix of maintenance for sales [unintelligible]. Selling and administrative expenses in EMEA in the second quarter were down 7% in U.S.

dollars to $43 million, but up 8% in constant currency terms. This increase year over year was primarily driven by planned investments in sales resources over the past few quarters. In the second quarter, we recorded severance expense of $522,000 in this segment, up from $215,000 recorded in the same period last year.

Excluding severance expenses, earnings from operations in EMEA were $10.1 million in the second quarter of 2015, flat year-to-year in U.S. dollars. On a GAAP basis, earnings from operations decreased 17% year over year, excluding the effects of currency changes in the quarter.

Our Asia Pacific operating segment reported net sales of $65 million, down 21% year-to-year in U.S. dollars and down 8% in constant currency terms. This decrease is due to a higher mix of software maintenance sales in this year’s second quarter. Gross profit was $10.4 million, which was down 23% year-to-year in U.S.

dollars and down 10% in constant currency terms, due to lower incentives in the software category. Selling and administrative expenses in APAC were flat year over year in constant currency. Earnings from operations were $4.2 million in the second quarter, down from $6.2 million last year.

Moving on to our tax rate, our effective tax rate in the second quarter of 2015 was 38.1% compared to 38.6% for the second quarter of 2014 due to lower taxes on earnings in foreign jurisdictions.

Moving on to our cash flow performance, our operations generated $96 million of cash in the first six months of 2015, compared to $104 million in the same period last year due to increased working capital utilization.

We invested $7 million in capital expenditures in the first half of 2015, up from $5 million last year, and we spent $86 million to repurchase approximately 3.1 million shares of our common stock. We completed the repurchases using the remaining $6 million of authorization in early July.

All of this led to a cash balance of $176 million at the end of the quarter, of which $145 million was resident in our foreign subsidiaries and $50 million of outstanding debt on our balance sheet [unintelligible] debt facilities. This compares to $150 million of cash and $25 million of debt outstanding at the end of last year’s second quarter.

And from a cash flow efficiency perspective, our cash conversion cycle was 14 days in the second quarter of 2015, a decrease of 7 days year over year due to expanded use of our inventory financing facility and timing of supply payments at the end of the quarter. I will now turn the call back to Ken..

Thank you, Glynis. Moving on to our outlook for 2015, for the full year 2015, we continue to expect top line growth in the low single digits in U.S. dollars and gross margins similar to those reported in the first half of 2015. As a result, we now expect diluted earnings per share for the full year of 2015 of $2.05 to $2.15.

This outlook reflects an average U.S. dollar to Europe currency exchange rate of $1.10 and an average U.S. dollar to British pound currency exchange rate of $1.52.

The adverse effect on gross profit of previously announced partner program changes in the software category, which the company expects to be between $5 million and $10 million for the full year 2015, an effective tax rate of 37% to 39%, and an average outstanding share count of approximately 38.3 million shares for the year end and finally, capital expenditures of $10 million to $15 million.

This outlook excludes severance and restructuring expenses incurred during the year. Thank you again for joining us today. I want to thank our teammates, clients, and partners for their dedication to Insight. That concludes my comments, and we’ll now open the line up for your questions..

[Operator instructions.] And our first question or comment comes from the line of Matt Sheerin with Stifel..

On your guidance, could you provide more color where the gross margin decline is coming from? Your EPS guidance implies it’s guiding down $0.05, and if you factor in exchange rate impact, it’s slightly more than that.

Can you provide more color on where that decline is coming from?.

The decline that we’re seeing in our guidance is related primarily to the gross margin performance that we’re seeing. So as we’ve gone through this year, we have a different mix of business than we had [indicated]. We have the growth that we’re seeing ultimately from the investments that we’re making in our North American business in particular.

However, when we look at where that growth is coming from, it’s coming primarily from our very, very large enterprise group, which is not where we have invested right now. And it’s also coming from our public sector group. Both that large enterprise group and public sector group historically have lower margins.

We’re not seeing as yet the improvement in growth coming from midmarket and our SMB business. That’s partly where we’ve been making the investments, and we anticipate that we’ll see that in kind of early 2016, because those resources typically take about a year to ramp up, as we’ve said in the past.

So when you look at where the guidance is coming from, we actually, I think, from a consensus perspective, may have missed guidance by $0.05 as it relates to this second quarter, and as we look out over the remainder of the year, we see that we’re going to be hitting our revenue guidance, but with the change in the composition and mix of clients in the growth, we anticipate seeing about a 30 basis point degradation in Q3 related to North America, and overall, we think that for the year, we’ll see a $0.10 degradation at the [unintelligible] level in overall margins for the full year of 2015.

And that’s what’s driving the guidance..

And on operating expense line, can you talk about your hiring plan? Are you going to slow down, or are you still hiring to focus on emerging growth areas?.

We have a strategy that we laid out that says that we are focused on driving hiring sales, with a view that while it’s going to hurt us in the short term, we’ll get the benefit from it in the longer term.

We saw a portion of that flow through this quarter, as you can see, in terms of a North American perspective, and also an EMEA perspective on a constant currency basis, our SG&A was in the high single digits. The increase was in the high single digit basis.

Some of that will anniversary a little bit going into Q3 and Q4, specifically some of the EMEA pieces, but we are still continuing to make the investments in SG&A, specifically in the sales and sales support and technical resources that we committed to at the start of the year. Because we think we’ll get some benefit back in future years..

And then lastly, on North America you grew nicely, 10% year over year or sequentially 19%.

So based on your guidance, it seems like you’re going to see slightly below seasonal trends? Is that a fair way to think about it?.

Well, no. So, when you look at our Q2, remember that there’s some Microsoft effect in there. So it’s the Microsoft year-end, and then Q2 is historically our highest revenue quarter, ultimately for the year, meaning that we have a bigger software quarter in Q2 than we typically have in other quarters.

Primarily because it is Microsoft’s year-end and there’s a lot of business that flows through driven by that. I wouldn’t say that we think that the seasonality in the rest of the year is going to be unusual relative to our normal trend. There’s a currency effect in there as well too, ultimately, so you have to look at it on a constant currency basis..

And our next question or comment comes from the line of Brian Alexander of Raymond James..

On the revenue outlook for the year, I realize that your overall growth outlook in dollars hasn’t changed in terms of low single digit growth, but it looks like you did revise your currency assumptions to be a little bit more favorable.

So just confirming that the local currency sales outlook has come down a little bit for the year, and if you can maybe provide some regional color on that.

And then when I look at the outlook, so you’re looking for low single digit growth for the year, yet you were flat for the first half, and your comparisons in the second half of the year are much tougher than they were in the first half of the year.

So implied in that outlook, even if it’s a little bit lower than last time, is an acceleration in year over year growth in the second half, even though you have more difficult compares.

So can you talk about what’s driving those assumptions?.

Let me parse it out. So I think that in the North American business, we anticipated that we were going to have mid-single digit revenue growth in North America, and we continue to have that expect with regard to the full year. And North America is trending well as it relates to that.

In EMEA, we talked about on a constant currency basis, also being in the mid-single digits on a constant currency basis. That may have changed a little bit, and we’re getting a little bit of a benefit from the change in our exchange rates that we got going to $1.10 to from $1.05 on the euro. Very small benefit that we’re getting there.

What we find in EMEA in the second quarter that drove part of the 1% constant currency growth in EMEA was the impact of the mix of business that they got and how [netting] impacts that top line revenue.

So they got a benefit in terms of gross margin expansion, and [EFO] margin expansion coming through from that, but there was a difference with regard to the mix of business that drove more netting than we would have anticipated from a budget perspective. That we don’t anticipate seeing again in the second quarter.

There was one large contract in EMEA that drove a big part of that netting impact in Q2. We’re not envisioning that we’re going to see that again going into Q3, so we expect normal netting and normal mix of business with regard to how the second half is going to transact.

And I think those will be the two primary drivers of what would be driving the revenue growth. Our APAC business is underperforming a little bit. The impact of the Microsoft program changes are more dramatic in the first half of 2015 across the board.

We gave you a $5 million to $10 million guidance range in terms of the impact of Microsoft program changes. It’s much more heavily weighted in the first half than it is in the second half. A little bit of the reverse from last year. APAC saw a big chunk of that in Q2.

Part of that was definitely known based on a large deal that occurred last year, so we were not surprised necessarily by what’s happening in APAC in Q2, and we don’t envision that that necessarily will continue going forward..

And Brian, on the EFO side, one thing to keep in mind too is it looks like, because you deal in so many varying currencies, as you know, that in Q2 there’s about a $2 million EFO impact, just due to the currency movement. On the EFO line. And then $3.6 million for the first half at the EFO line, just through the currency..

And then just drilling down into the North American business, as you guys pointed out, your hardware business was better than seasonal, and I think you said PCs and networking were strong. A little bit surprised on the PC commentary.

Why do you suppose you’re seeing strength in PCs now when obviously the market was a lot stronger a year ago around the XP expiration. And I think by your own admission, you didn’t capture as much of that a year ago as you expected. So what’s driving that strength now? And then in software, I think you were a bit lower than typical seasonality.

So how much of that is a change in focus for the company due to some of the program changes by your largest partner, versus just a reflection of overall demand?.

On the software front, I would say it’s not related to the program changes. I would just say it’s the mix of clients, the mix of business overall. We track pretty closely what our share does with some of the larger software vendors, and we didn’t really see any sort of give back there. So I think that’s more sort of a sign of the market in that regard.

On the hardware front, I think as you’ve pointed out historically, there’s certain things that certainly drive the demand cycles and XP certainly was doing that last year. But I think overall, we see a lot of clients of course moving to sort of a we’re going to upgrade 25% every year.

And we’re seeing that with some of the larger clients that we have in play, that are really starting to contribute there. So I’m not sure that that’s indicative of the entire market, but I think for certain large clients. Because it does look like we did pick up share in that category based on NPD data.

So I would say it’s probably a little bit more specific to the client mix that we have in that regard..

And over in Europe, with the currency having moved obviously significantly over the last year, what are you guys seeing in terms of vendors raising prices, if there’s any way to kind of ballpark some of the major cats what percent increase you’ve seen your vendors raise prices, and how uniform that is across the vendor base.

Or is it very dependent on who it is and what types of products.

And to the extent prices are rising, are you able to pass that through, and is that affecting demand in any way?.

I would say it’s a little bit spotty dependent upon the vendor itself in regards to who’s trying to raise prices. The passing through is a little bit more challenging, and so again, I would say that’s somewhat spotty. But overall, I would say that it’s pretty manageable. It’s not like it’s creating havoc for us at all.

It’s what you’d sort of expect in these kinds of cycles..

So you don’t think it’s had any sort of major influence on demand in terms of customers anticipating rising prices and maybe pulling forward some demand or anything like that? It seems like it’s much more gradual..

We did see a little bit of that early in the quarter, where there were some announcements that were occurring in regards to one of our software publishers. And that did pull, I think a little bit, but nothing really that moved the needle that much. We actually thought it was going to move the needle more, but it really didn’t..

I know you’re a baseball fan, Ken, so in terms of what inning we’re in on these price increases, do you think we’re in the first three innings, the second three, or the last three?.

I would say probably the second three..

And then moving over to margins, you guys talked about North American margin pressure. And if I understand it correctly, it’s really more a function of large enterprise demand in that customer mix increasing, and the nature of larger deals and what that does to gross margins.

I just wanted to make sure that that’s what you’re communicating, or is there some change in the competitive environment or change in vendor incentive programs that might also be contributing to the margin pressure?.

No, I think you got it on your first comment. The market certainly is competitive, but it’s always been a competitive market. We don’t see any real strange abnormalities there. And certainly, from the incentive portion, from the partner side, we don’t see impact there..

Okay, and last one for me, on cash flow. So, it looks like pretty good cash flow in the first half of the year. But largely coming on the payables side, while DSOs and DIOs, inventory days, are actually rising. So you’re able to offset the rising receivables in inventory by the payables.

So two part question is what’s driving that dynamic, and part two is how should we think about the working capital sustainably going forward in cash flow in the second half?.

I think that what I would say is that in general you should anticipate that we’re still expecting that we’d get to our cash flow from operations in the $80 million to $110 million range, which is historically where we’ve operated. So I think that is still true, and that hasn’t changed in terms of anything that we’re seeing underlying the business.

We have a couple of dynamics that we’ve talked about previously, and it does get gorpy from a technical financial term perspective as it relates to when we have a large government deal with a software publisher, how it actually impacts our receivables and our payables relative to our invoicing.

So it actually has an inverse impact on it, so it kind of distorts the view with regard to how our DSO looks relative to a continuing trend, if we didn’t have that same transaction in the prior year quarter.

We can send you the details about that, not material from an investor perspective, I don’t think, but we can send you the details between gross versus net on software and how it impacts our DSO and DPO..

So it’s more that gory detail than it is any sort of back end loaded quarter or change in terms of [unintelligible]..

There were some large deals that came in right at the very end of the quarter. That was a piece of it as well too, but there’s no change in the underlying dynamics of the business, our approach to it.

We did have greater use of our inventory financing facility this quarter than we had in the previous quarter, partly because of the manufacturers that are covered under that inventory financing facility. We had more sales with those in this second quarter than we had in last year's second quarter, so we just utilized that facility more.

And just to refresh your memory, that facility gives us 60 day payment terms relative to 30 day payment terms, for no interest charge, etc. So using that facility just helps us from an overall cash management perspective..

And then maybe just lastly, big picture, Ken, on cloud. How would you say it’s impacting your business today versus maybe what you would have thought would be occurring six months ago? If you look at the AWSs of the world, they continue to grow at very, very impressive rates.

I would imagine some of that is coming from the cannibalization of on premise computing, yet when I look at your North American results, particularly hardware, they’re actually looking pretty strong.

So I know a lot of investors have questions about how cloud will impact hardware, how it will impact distribution and resellers like Insight, so maybe just give us an update on your thoughts and what’s actually occurring..

Yeah, so you break it down into the two cats of, you know, infrastructure service and software as a service. On the infrastructure side, there’s still a tremendous amount, and I think we all recognize that there’s no question it’s a hybrid world. And so we see lots of companies of course still investing in private clouds.

So I think that’s certainly driving a good amount of the infrastructure spending we’re seeing. Of course, as you know, the network of course is still necessary no matter what you do in regards to public or private, so I think networking spends will continue to be a good area to focus on.

So when you look at servers and storage, again, I think we’re seeing certainly good investments in private cloud opportunities in that arena. But no question, Amazon is certainly impacting the business I would say.

We see it primarily in that very sort of smaller part of the S in SMB, as lots of clients are growing pretty rapidly, and in that space, going to Amazon, is what we see. On the SaaS side, we see Microsoft actually being very effective at driving Office 365.

As most people think of Office 365 as mail, well, it’s much, much more than that, I think as you know, as far as what the offering is. And we see really good traction there. We’re very focused on that area with Microsoft.

They’ve got a couple of different programs there, and I would say they’re having, from our vantage point, very good success in migrating clients to Office 365. And associated with that is the Azure platform, which again is their infrastructure as a service platform, we see gaining a lot of traction.

So those areas we’re very focused on, and certainly starting to benefit from a business point of view..

And I’m showing no further questions at this time. So with that, I would like to close the conference. Ladies and gentlemen, thank you for participating, and you may now disconnect..