Larry Reinhold - President and CEO Mike Smargiassi - IR, Brainerd Communicators, Inc..

Analysts:.

Good afternoon, and welcome to the Systemax Third Quarter Conference Call. All participants will be in listen-only mode. [Operator Instructions]. I would now like to turn the conference over to Mike Smargiassi. Please go ahead..

Thank you, Austin, and welcome to the Systemax third quarter 2016 earnings call. Today’s call will include formal remarks from Larry Reinhold, President and Chief Executive Officer. We will not be hosting a live Q&A session at the end of today’s call.

If you should have any questions on third quarter results, please contact Brainerd Communicators or Systemax. Contact details can be found in the press release issued today and at www.systemax.com. Today’s discussion may contain certain forward-looking statements.

It should be understood that actual results could differ materially from those projected due to a number of factors, including those described under the forward-looking statements caption and the company’s annual report on Form 10-K and quarterly reports on Form 10-Q.

I would like to highlight the non-GAAP metrics that are included in today’s press release.

The company believes that by presenting the entire North American Technology Products Group and Misco Germany as discontinued operation, as well excluding certain recurring and non-recurring adjustments from comparable GAAP measures, investors have an additional meaningful measurement of the company’s performance.

As a result, this call will include a discussion of certain non-GAAP financial measures. The company has provided a reconciliation of these non-GAAP financial measures to the most directly comparable GAAP measures in today’s press release. The press release is available on the company’s Web site and has been filed with the SEC in a Form 8-K.

This call is the property of and is copyrighted by Systemax Inc. I will now turn the call over to Mr. Larry Reinhold..

Thanks, Mike. Good afternoon, everyone, and thank you for joining us today. In the quarter, we made further progress in streamlining our company, optimizing our operations and strengthening our competitive position, all of which are focused on driving long-term growth and margin performance.

Industrial extended its record of revenue growth to 27 consecutive quarters, as we saw strong performance in categories such as HVAC, material handling, and storage.

We continue to outperform the overall market, and in the past five years have more than doubled industrial size and scope of operations, and the vast majority of that growth has been organic.

While the business is well positioned from a strategic standpoint, its rapid expansion has resulted in many of the growing pains we are currently managing through. These are essentially good problems to have but they take time to fully address.

As I have noted on past calls, we have been making focused investments in both capital and staff to improve industrial’s operations, and these costs will continue to impact our near-term bottom line performance. As these efforts take hold, we expect to see margin expansion as we benefit from the efficiencies and increased order volume.

We remain pleased with the initial results of these efforts and have continued to strengthen our sales capabilities adding more than 30 new sales representatives in the quarter, and almost 10% increase in our outbound sales force.

These additional sales members will ramp over the next year and allow us to better serve our customers and to better capitalize on the significant lead generation of our e-commerce platform.

The rollout in optimization of our new warehouse management and distribution system is ongoing, and we have implemented the new system in five of the six North America distribution centers.

As we implement the new system at each location, it does result in some process disruption both before and after the go-live dates, which we’re addressing through temporary increases in warehouse staffing to ensure we maintain customer service levels. We are also very active in building our customer and vendor relationships.

We completed two customer and vendor shows during the quarter in New York and Wisconsin and an additional show in Las Vegas two weeks ago, which allowed us to showcase the scope of our product line and the value we bring to market.

This is the first year we held these events, which generally take place at our distribution centers and the response has been very positive. Finally, this fall, our industrial business was ranked 24th on industrial distribution magazine’s annual Big 50 List.

This is the first time we were included and it’s a significant accomplishment for our team, one that highlights the growth and success. We continue to build on that success and believe we are on the right path to create a more efficient, competitive, and profitable business.

In EMEA technology, non-GAAP revenue increased 1% in the quarter on a constant currency basis, and excluding Misco Germany which we sold in September. The exit from Germany positively impacts our financial performance moving forward and allows us to sharpen our focus on other markets.

France continued to serve as a model of success within Europe and delivered another exceptional quarter, its 11th consecutive quarter of double-digit organic growth.

Strong management, recruitment of key sales support personnel, and close partnerships with our strategic vendors have allowed us to continue to meet and surpass customer expectation in the France market.

We also generated strong results in the Netherlands where our solutions business had its third consecutive quarter of double-digit organic growth and has produced revenue growth in each quarter since we acquired the business in June of 2014.

Its performance reflects the expansion of its customer base and benefits from the continued integration with our traditional reseller operation. Finally, the solutions business and a partner were recently awarded a multiyear, multimillion-dollar tender to service data centers for the Dutch government.

This is a significant win for the business that highlights our capabilities and the success we are seeing in the Netherlands market. In the UK, our operations remained challenged and the post-Brexit market is tough. While the top line decline narrowed in the quarter, operating losses increased.

We had a good recruiting quarter adding approximately 20 sales members to the team. We benefited from a number of public sector and large enterprise account wins, which while positive for the business do carry somewhat lower margins.

Our UK solutions team kicked off its fall marketing campaign with an inaugural customer and vendor trade show at Wembley Stadium. We have built a world-class solutions and service team in the UK and feedback was very positive from the event, and the rollout of our solutions and services offerings to the market continues.

Our entire UK is focused on our solutions and services offering and product offering and returning the business to profitability. As a result of the strategic initiatives we have accomplished in the past three quarters, we have further streamlined our structure and reported non-GAAP operating profits.

With a strong balance sheet, we have significant flexibility to return capital to shareholders, execute on our business plan, and continue investing in our growth opportunity.

Accordingly, our Board of Directors has declared a cash dividend of $0.05 per share of common stock to shareholders and anticipates continuing a regularly quarterly dividend in the future. We also announced today the appointment of Tex Clark to Chief Financial Officer, a position I have previously held on an interim basis.

I have worked closely with Tex for the past 10 years and he has proven himself to be a valuable member of our team, a leader, and a strategic thinker. He brings a significant understanding our business and has played a critical role in our M&A, FP&A, and strategic initiatives.

I know many of you have spoken with Tex as part of our investor efforts and I hope you will join me in welcoming him into this expanded role. I will now address our segment financial performance in more detail. As mentioned previously, my comments will primarily be directed to non-GAAP results.

Consolidated revenue reflects top line growth in both industrial and EMEA on a constant currency basis. Consolidated gross margin declined slightly driven by lower gross margin in both segments. Consolidated SG&A increased modestly on an absolute basis. Consolidated operating margin was 0.1%.

Starting with industrial’s financial performance, industrial’s third quarter revenue increased 4.1% overall. On a constant currency basis, revenue also grew 4.1%. Our United States revenue was up 4.7% in the quarter while Canada was down approximately 7.7% on a constant currency basis with both markets showing improvement from the second quarter.

The 2016 third quarter had the same number of selling days in the United States as last year but included one additional selling day in Canada versus the 2015 third quarter. Industrial’s gross profit was for the quarter increased to $50.9 million from $49.7 million last year.

Gross margin was off 40 basis points reflecting flat product margin, decreased freight margin, and increased warehouse staffing costs due to incremental temporary labor to ensure customer service levels during our system’s transition. We expect to see higher levels of temporary staff for the next few quarters as we complete this initiative.

SG&A spending for the quarter was $42.5 million and reflects increased salary, advertised, and IT costs. The growth in salary expense reflects increased customer facing and revenue generating positions, specifically in sales and was partially offset by a reduction in back office headcount, which was completed in Q2.

Industrial’s operating income for the quarter was $8.5 million and operating margin declined from 5.8% to 4.5%. Deleveraging in the quarter reflects further investments in logistics and internal systems to expand and optimize our operational capabilities, as well as the aforementioned temporary labor.

We also expanded our customer service and sales organization, which have added near-term costs and will take time to ramp corresponding revenues. We remain very focused on improving efficiencies, identifying further cost reduction opportunities, and improving our overall margin performance.

Turning to EMEA’s financial performance, EMEA’s third quarter revenue declined 3.8%. This excludes Misco Germany as well the remainder of my commentary on EMEA. On a constant currency basis, revenue increased 1.0%.

As mentioned previously, France and Netherlands solutions had strong quarters driven by double-digit organic growth which was offset by decline in other markets.

EMEA gross profit for the quarter declined approximately 13.2% to $26.4 million and gross margin declined 130 basis points to 12.1%, primarily the result of changes in sales mix and aggressive pricing in the UK. The post-Brexit market in the UK is slow and the environment among IT resellers is competitive.

We have aggressively priced large deals in an effort to gain traction with our customer base. SG&A spending in absolute dollars for the quarter was down modestly by approximately $1.0 million, primarily from decreased variable selling expenses.

EMEA’s operating loss for the quarter increased to $4.1 million compared to 1.1 million last year driven by increased losses in the UK, which offset gains in France and the Netherlands.

For the quarter, the discontinued North America Tech business incurred losses of $0.3 million, primarily related to an adjustment to our estimates on certain leased facilities, which was partially offset by the receipt of an initial restitution payment as well as the receipt of settlement fund from participating in a class action industry proceeding.

We continue to move forward with wind-down activities, which primarily include collecting accounts receivable, settling accounts payable, and marketing the remaining leased facilities. In September, we closed the transaction to sell certain assets of our Misco Germany business.

This transaction enabled us to find a home for all of our former employees, mitigate a portion of its long-term lease liability, and extinguish an operation which had generated losses in excess of $25 million over the past five years.

In the quarter, we recorded one-time charges of $1.7 million associated with the transaction, and we do not anticipate significant expenses going forward. Let me now turn to our balance sheet. At September 30, our balance sheet included approximately $152 million in cash and approximately $188 million in working capital.

We continue to have a very strong and liquid balance sheet. The current ratio at September 30, 2016 was 1.6 to 1, total debt was 0.3 million. In October, we entered into a new $75 million credit agreement to replace our expiring agreement.

This new credit line reflects our streamlined focus on the Industrial Products Group and EMEA and substantially reduces cost versus the previous agreement, while increasing flexibility.

Had the amended credit agreement been in effect at September 30, availability would have been $58.1 million which is about $12 million greater than was actually available under the expiring agreement. In summary, we are focused on improving our businesses.

We’re taking steps to expand the products and services we offer our customers, enhance our vendor relationships, strengthen our overall competitive position. We have a scalable infrastructure in place and are focused on optimizing its performance.

Our margin results have not been at acceptable levels and our entire team is working to drive the long-term profitability of the business. We have a strong cash position and significant flexibility to execute our business plan and pursue strategic M&A. This concludes our prepared remarks.

If you have any questions about third quarter 2016 earnings, please contact Brainerd Communicators, our investor and media relations advisor, or Systemax directly. Contact information can be found on the earnings release issued earlier today. Thank you for your interest in Systemax..

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The conference has now concluded. Thank you for attending today’s presentation. You may now disconnect..