<PAGE>
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
Quarterly Report Pursuant to Section 13 or 15(d)
of the Securities Exchange Act of 1934
For the three months ended September 30, 1999 Commission File Number 0-14371
- --------------------------------------------- ------------------------------
COMPUCOM SYSTEMS, INC.
- --------------------------------------------------------------------------------
(Exact name of Registrant as specified in its charter)
Delaware 38-2363156
- --------------------------------------- -----------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
7171 Forest Lane, Dallas, TX 75230
- ---------------------------------------- -----------------------
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (972) 856-3600
-----------------------
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
----- -----
The number of shares of the Registrant's common stock outstanding as of November
12, 1999 was 47,664,950 shares.
- --------------------------------------------------------------------------------
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Index
PART I. FINANCIAL INFORMATION Page
- ------- --------------------- ----
Item 1. Condensed Consolidated Balance Sheets
September 30, 1999 and December 31, 1998 (unaudited) 3
Condensed Consolidated Statements of Operations
Three and nine months ended September 30, 1999 and
1998 (unaudited) 4
Condensed Consolidated Statements of Cash Flows
Nine months ended September 30, 1999 and 1998 (unaudited) 5
Notes to Condensed Consolidated Financial Statements 6
Item 2. Management's Discussion and Analysis of Financial Condition
and Results of Operations 12
Item 3. Quantitative and Qualitative Disclosures about Market Risk 18
PART II. OTHER INFORMATION
- -------- -----------------
Item 6. Exhibits and Reports on Form 8-K 19
2
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheets
(In thousands)
(unaudited)
<TABLE>
<CAPTION>
September 30, December 31,
1999 1998
---------------- ----------------
<S> <C> <C>
Assets
------
Current assets:
Cash $ 4,506 $ 4,526
Receivables 334,961 262,380
Inventories 155,141 138,551
Other 5,511 9,965
---------------- ----------------
Total current assets 500,119 415,422
Property and equipment, net 41,117 72,004
Cost in excess of fair value of tangible net assets
purchased, less accumulated amortization 84,589 54,786
Other 12,673 3,277
---------------- ----------------
$638,498 $545,489
================ ================
Liabilities and Shareholders' Equity
------------------------------------
Current liabilities:
Accounts payable $181,861 $160,524
Accrued liabilities 88,675 89,218
Current portion of long-term debt 1,500
---------------- ----------------
Total current liabilities 270,536 251,242
Long-term debt 150,410 81,929
Deferred income taxes 1,378
Other 659
Shareholders' equity:
Preferred stock 15,000 15,000
Common stock 483 474
Additional paid-in capital 67,526 66,329
Retained earnings 134,543 128,478
---------------- ----------------
Total shareholders' equity 217,552 210,281
---------------- ----------------
$638,498 $545,489
================ ================
</TABLE>
See accompanying notes to condensed consolidated financial statements.
3
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Operations
(In thousands, except per share amounts)
(unaudited)
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30 September 30,
1999 1998 1999 1998
-------------- -------------- --------------- ---------------
<S> <C> <C> <C> <C>
Revenue
Product $806,191 $531,640 $1,955,526 $1,438,913
Service 83,151 67,756 225,914 188,165
Other 3,934 3,817 11,561
-------------- -------------- --------------- ---------------
Total revenue 889,342 603,330 2,185,257 1,638,639
-------------- -------------- --------------- ---------------
Cost of revenue
Product 740,576 482,054 1,799,826 1,294,919
Service 54,102 45,716 148,306 127,846
Other 2,076 2,098 6,071
-------------- -------------- --------------- ---------------
Total cost of revenue 794,678 529,846 1,950,230 1,428,836
-------------- -------------- --------------- ---------------
Gross margin 94,664 73,484 235,027 209,803
Operating expenses
Selling 33,068 29,999 85,346 79,447
Service 13,057 14,131 35,664 41,835
General and administrative 24,936 17,726 69,100 48,304
Depreciation and amortization 5,848 4,535 16,237 11,561
-------------- -------------- --------------- ---------------
Total operating expenses 76,909 66,391 206,347 181,147
-------------- -------------- --------------- ---------------
Earnings from operations 17,755 7,093 28,680 28,656
Financing expenses 6,909 5,322 17,446 13,337
-------------- -------------- --------------- ---------------
Earnings before income taxes 10,846 1,771 11,234 15,319
Income taxes 4,338 708 4,494 6,128
-------------- -------------- --------------- ---------------
Net earnings $ 6,508 $ 1,063 $ 6,740 $ 9,191
============== ============== =============== ===============
Earnings per common share
Basic $.13 $.02 $.13 $.18
Diluted $.13 $.02 $.13 $.18
Average common shares outstanding
Basic 47,660 46,256 47,647 46,180
Diluted 50,634 46,991 48,311 47,274
</TABLE>
See accompanying notes to condensed consolidated financial statements.
4
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Condensed Consolidated Statements of Cash Flows
Nine months ended September 30, 1999 and 1998
(In thousands)
(unaudited)
<TABLE>
s<CAPTION>
1999 1998
---------------- ----------------
<S> <C> <C>
Cash flows from operating activities:
Net earnings $ 6,740 $ 9,191
Adjustments to reconcile net earnings to net
cash provided by operating activities:
Depreciation and amortization 16,237 11,561
Deferred income taxes 2,285 (582)
Changes in assets and liabilities:
Receivables (74,807) 2,579
Inventories 76,317 62,704
Other current assets (4,357) 1,048
Accounts payable 21,337 (6,625)
Accrued liabilities and other (6,559) (13,793)
---------------- ----------------
Net cash provided by operating activities 37,193 66,083
---------------- ----------------
Cash flows from investing activities:
Capital expenditures, net (5,644) (12,174)
Contributions to investee (576)
Proceeds from sale of building 39,791
Business acquisitions, net of cash acquired (138,296) (49,288)
---------------- ----------------
Net cash (used in) investing activities (104,725) (61,462)
---------------- ----------------
Cash flows from financing activities:
Net bank credit facility and other borrowings 94,310 (4,525)
Repayment of debt (27,329)
Issuance of common stock 1,206 576
Preferred stock dividend (675) (675)
---------------- ----------------
Net cash provided by (used in) financing activities 67,512 (4,624)
---------------- ----------------
Net decrease in cash (20) (3)
Cash at beginning of period 4,526 4,456
---------------- ----------------
Cash at end of period $ 4,506 $ 4,453
================ ================
</TABLE>
See accompanying notes to condensed consolidated financial statements.
5
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 1999
(1) General
-------
These condensed interim consolidated financial statements should be read
in conjunction with the consolidated financial statements and the summary
of significant accounting policies and notes thereto included in the 1998
Annual Report on Form 10-K for CompuCom Systems, Inc. (the Company). The
information furnished is unaudited but reflects all adjustments consisting
only of normal recurring accruals which are, in the opinion of management,
necessary to present a fair statement of the results for these interim
periods. Interim results are not necessarily indicative of results expected
for the full year.
(2) Contingencies
-------------
The Company is involved in various claims and legal actions arising in
the ordinary course of business. In the opinion of management, the ultimate
disposition of these matters will not have a material adverse effect on the
Company's consolidated financial position and results of operations, taken
as a whole.
(3) Earnings per share
------------------
In accordance with SFAS No. 128, "Earnings Per Share," basic earnings per
common share have been computed based on net earnings after preferred stock
dividend requirements and the weighted average number of common shares
outstanding during each period. Diluted earnings per common share assumes
conversion of dilutive convertible securities into common stock at the
later of the beginning of the period or date of issuance and includes the
add-back of related interest expense and/or dividends, as required.
Earnings per common share have been computed as follows (in thousands,
except per share amounts):
<TABLE>
<CAPTION>
Three months ended September 30, 1999 Nine months ended September 30, 1999
------------------------------------------ ----------------------------------------
Income Shares Income Shares
(Numerator) (Denominator) EPS (Numerator) (Denominator) EPS
------------- --------------- ------ -------------- --------------- ------
<S> <C> <C> <C> <C> <C> <C>
Net earnings $6,508 $6,740
Less: Preferred stock dividends (225) (675)
Basic EPS
- ---------
Income available to common shareholders 6,283 47,660 $.13 6,065 47,647 $.13
Effect of dilutive securities
- -----------------------------
Stock options 734
Convertible preferred stock 225 2,216 646
Employee Stock Purchase Plan 24 18
------------ ------------- -------------- --------------
Diluted EPS
- -----------
Income available + assumed conversions 6,508 50,634 $.13 6,065 48,311 $.13
============== ============= ===== ============== ============== =======
</TABLE>
6
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 1999
<TABLE>
<CAPTION>
Three months ended September 30, 1998 Nine months ended September 30, 1998
-------------------------------------- --------------------------------------
Income Shares Income Shares
(Numerator) (Denominator) EPS (Numerator) (Denominator) EPS
------------ -------------- ------- ------------ -------------- --------
<S> <C> <C> <C> <C> <C> <C>
Net earnings $1,063 $9,191
Less: Preferred stock dividends (225) (675)
Basic EPS
- ---------
Income available to common shareholders 838 46,256 $ .02 8,516 46,180 $ .18
Effect of dilutive securities
- -----------------------------
Stock options 735 1,094
------------ -------------- ------------ --------------
Diluted EPS
- -----------
Income available + assumed conversions 838 46,991 $ .02 8,516 47,274 $ .18
============ ============== ======= ============ ============== =======
</TABLE>
The Company has excluded options to purchase 2,215,657 shares from its
calculations of diluted earnings per share for the nine months ended
September 30, 1999, and has excluded options to purchase 2,250,811 and
1,782,335 shares from its calculations of diluted earnings per share for
the three and nine months ended September 30, 1998, respectively, as they
are considered anti-dilutive.
(4) Business Combinations
---------------------
During 1998, the Company consummated three business combinations
(collectively, "the 1998 acquisitions"). The total consideration given for
the 1998 acquisitions was approximately $49 million in cash. In addition,
the Company assumed liabilities of approximately $95 million, in aggregate.
The 1998 acquisitions were accounted for as purchases and accordingly the
consolidated financial statements reflect the operations of the acquired
entities since the respective acquisition dates.
On May 10, 1999, the Company consummated the acquisition of the TASD
division of ENTEX Information Services, Inc ("the TASD acquisition"). The
total consideration given for the TASD acquisition was approximately $137
million in cash. The TASD acquisition was accounted for as a purchase and
accordingly the condensed consolidated financial statements reflect the
operations of the acquired entity since the acquisition date. The Company
has not completed the allocation of the purchase price for the TASD
acquistion. Therefore, the allocation of the purchase price recorded could
be adjusted once this process is completed.
The following unaudited proforma financial information presents the
combined results of operations for the three and nine months ended
September 30, 1998 as if the 1998 acquisitions and the TASD acquisition had
occurred as of the beginning of 1998, after giving effect to certain
adjustments, including amortization of goodwill, increased financing
expense on debt related to the acquisitions, and related income tax
effects. The proforma results do not necessarily represent results which
would have occurred if the 1998 acquisition and the TASD acquisition had
taken place on the basis assumed above, nor are they indicative of the
results of future combined operations.
7
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements
September 30, 1999
(in thousands, except per share data)
Three Months Ended Nine Months Ended
September 30, 1998 September 30, 1998
------------------- ------------------
Revenue $1,044,621 $3,239,171
Net loss $ (6,587) $ (6,861)
Diluted loss per share $ (.15) $ (.10)
The following unaudited proforma financial information presents the
Company's combined results of operations for the three months ended
September 30, 1999 as if the TASD acquisition had occurred as of the
beginning of 1999, after giving effect to certain adjustments, including
amortization of goodwill, increased financing expense on debt related to
the TASD acquisition, and related income tax effects. The proforma results
do not necessarily represent results which would have occurred if the TASD
acquisition had taken place on the basis assumed above, nor are they
indicative of the results of future combined operations.
(in thousands, except per share data)
Nine Months Ended
September 30, 1999
-------------------
Revenue $2,804,997
Net earnings/(loss) $ (304)
Diluted earnings/(loss) per share $ (.02)
(5) Client Link/ E-Certify Merger
-----------------------------
On April 13, 1999, the Company completed the merger ("the E-Certify
merger") of its majority-owned subsidiary, ClientLink, Inc. ("ClientLink")
with E-Certify Corporation ("E-Certify"). The combined operations of
ClientLink and E-Certify will be conducted under the name E-Certify, Inc.
The Company has recorded its investment in E-Certify at the net carrying
amount of its investment in ClientLink and will account for the ongoing
operation using the equity method and as such has condensed its net
investment into a single investment account, which is included in Other
Non-current Assets as of September 30, 1999.
8
<PAGE>
(6) Restructuring Accrual
---------------------
During the fourth quarter of 1998, the Company recorded a $16.4 million
restructuring charge, primarily consisting of costs associated with the
closing of facilities and disposing of related fixed assets as well as
employee severance and benefits related to a reduction in workforce. The
following table provides a summary of the restructuring charge by category
as well as a rollforward of the restructuring accrual through September 30,
1999:
<TABLE>
<CAPTION>
Cash
Restructuring Accrual at Outlays Accrual at
Charge 12/31/98 & Other 9/30/99
-------------------------------------------------------
<S> <C> <C> <C> <C>
Lease termination costs $ 7,259 $ 6,415 $4,589 $1,826
Employee severance and related benefits 3,804 2,986 2,297 689
Disposal of assets, net of estimated proceeds 3,044 2,907 1,311 1,596
Other 2,330 1,780 1,780
-------------------------------------------------------
Total $16,437 $14,088 $9,977 $4,111
=======================================================
</TABLE>
The Company expects the restructuring activities to be substantially
completed by the end of 1999 and believes the restructuring accrual is
reasonable.
(7) Segment Information
-------------------
The Company defines its operations as three distinct segments - sales of
computer products ("product"); services, which includes configuration,
network integration, and technology support ("service") and ClientLink.
During the quarter ended June 30, 1999, ClientLink merged with E-Certify
and is accounted for on the equity basis after the merger. Therefore, as of
September 30, 1999, the Company defines its operations as two distinct
segments, product and service.
The Company measures segment earnings as operating earnings, defined as
income before restructuring charges, financing expenses and income taxes.
All significant intersegment activity has been eliminated. Business assets
are the owned or allocated assets used by each business. The "Other" column
includes all assets not specifically allocated to a segment.
For the Quarter ended September 30, 1999
Operating Results Product Service Other Total
----------------------- ----------- --------- --------- --------
(in thousands)
Net revenues $806,191 $83,151 $ - $889,342
Gross margin 65,615 29,049 - 94,664
Operating earnings 6,508 11,247 - 17,755
Total assets $443,487 $46,728 $148,283 $638,498
9
<PAGE>
<TABLE>
<CAPTION>
For the Quarter ended September 30, 1998
ClientLink,
Operating Results Product Service Inc. Other Total
- --------------------------- -------------- --------------- -------------------- -------------------- --------------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Net revenues $531,640 $67,756 $ 3,934 $ - $603,330
Gross margin 49,586 22,040 1,858 - 73,484
Operating earnings 2,075 3,974 1,044 - 7,093
Total assets $353,347 $32,050 $ 3,798 $153,620 $542,815
</TABLE>
<TABLE>
<CAPTION>
For the Nine Months ended September 30, 1999
ClientLink,
Operating Results Product Service Inc. Other Total
- --------------------------- -------------- --------------- ------------------------ -------------------- --------------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Net revenues $1,955,526 $225,914 $ 3,817 $ - $2,185,257
Gross margin 155,700 77,608 1,719 - 235,027
Operating earnings (396) 28,603 473 - 28,680
Total assets $ 443,487 $ 46,728 $ - $148,283 $ 638,498
</TABLE>
<TABLE>
<CAPTION>
For the Nine Months ended September 30, 1998
ClientLink,
Operating Results Product Service Inc. Other Total
- --------------------------- -------------- --------------- ------------------------ -------------------- --------------
(in thousands)
<S> <C> <C> <C> <C> <C> <C>
Net revenues $1,438,913 $188,165 $11,561 $ - $1,638,639
Gross margin 143,994 60,319 5,490 - 209,803
Operating earnings 17,489 8,074 3,093 - 28,656
Total assets $ 353,347 $ 32,050 $ 3,798 $153,620 $ 542,815
</TABLE>
10
<PAGE>
(8) Financing Arrangements
During the second quarter of 1999, the Company finalized the following new
credit agreements: a) a $175 million receivables securitization ("the
Securitization") and b) a $225 million working capital facility ("the
Revolver"). These new credit facilities replaced the Company's previous
securitization and working capital facility. The new Securitization, which
has a term of 3 years and pricing based on a designated short term interest
rate plus an agreed-upon spread, allows the Company to sell an interest in
its accounts receivable on a revolving basis and is accounted for as a sale
of accounts receivable in accordance with Statement of Financial Accounting
Standards No. 125, "Accounting for Transfers and Servicing of financial
Assets and Extinguishments of Liabilities". As planned, the Company
increased the Securitization to $250 million in September 1999. As of
September 30, 1999 the Company has fully utilized the Securitization. The
new Revolver, which matures in May 2002, bears interest at LIBOR plus an
agreed-upon spread and is secured by a lien on the Company's assets.
Availability under the Revolver is subject to a borrowing base calculation
and compliance with certain financial covenants. As negotiated in the
second quarter of 1999, the Revolver was reduced by $25 million in
September 1999 and is scheduled to be reduced by an additional $25 million
in May 2000. As of September 30, 1999 the Company had sufficient collateral
to enable it to fully utilize the Revolver and had $150 million outstanding
under the Revolver. Both the Securitization and the Revolver require the
Company to maintain compliance with selected financial covenants and
ratios.
(9) Reclassification
----------------
Certain amounts in the 1998 condensed consolidated financial statements
have been reclassified to conform with the 1999 presentation.
11
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
September 30, 1999
Results of Operations
- ---------------------
The following table shows the Company's total revenue, gross margin and gross
margin percentage by revenue source. Operating expenses, financing expense,
income taxes and net earnings are shown as a percentage of total net revenue for
the three and nine months ended September 30, 1999 and 1998.
<TABLE>
<CAPTION>
Three months ended Nine months ended
September 30, September 30,
1999 1998 1999 1998
-------------- --------------- ---------------- ---------------
Revenue:
<S> <C> <C> <C> <C>
Product $806,191 $531,640 $1,955,526 $1,438,913
Service 83,151 67,756 225,914 188,165
Other 3,934 3,817 11,561
-------------- --------------- ---------------- ---------------
Total revenue 889,342 603,330 2,185,257 1,638,639
-------------- --------------- ---------------- ---------------
Gross margin:
Product 65,615 49,586 155,700 143,994
Service 29,049 22,040 77,608 60,319
Other 1,858 1,719 5,490
-------------- --------------- ---------------- ---------------
Total gross margin 94,664 73,484 235,027 209,803
-------------- --------------- ---------------- ---------------
Gross margin percentage:
Product 8.1% 9.3% 8.0% 10.0%
Service 34.9% 32.5% 34.4% 32.1%
Other 47.2% 45.0% 47.5%
-------------- --------------- ---------------- ---------------
Total gross margin percentage 10.6% 12.2% 10.8% 12.8%
Operating expenses:
Selling 3.7% 5.0% 3.9% 4.8%
Service 1.5% 2.3% 1.6% 2.6%
General and administrative 2.8% 2.9% 3.2% 2.9%
Depreciation and amortization 0.6% 0.8% 0.8% 0.7%
-------------- --------------- ---------------- ---------------
Total operating expenses 8.6% 11.0% 9.5% 11.0%
-------------- --------------- ---------------- ---------------
Earnings from operations 2.0% 1.2% 1.3% 1.8%
Financing expenses 0.8% 0.9% 0.8% 0.8%
-------------- --------------- ---------------- ---------------
Earnings before income taxes 1.2% 0.3% 0.5% 1.0%
Income taxes 0.5% 0.1% 0.2% 0.4%
-------------- --------------- ---------------- ---------------
Net earnings 0.7% 0.2% 0.3% 0.6%
============== =============== ================ ===============
</TABLE>
(Continued)
12
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
COMPARISON OF THE QUARTER ENDED SEPTEMBER 30, 1999 TO THE QUARTER ENDED
SEPTEMBER 30, 1998
Product revenue, which is primarily derived from the sale of distributed
desktop computer products to corporate customers, increased approximately 51.6%
to $806.2 million in the third quarter of 1999 from $531.6 million in the third
quarter of 1998. The increase in product revenue is the result of the May 1999
TASD acquisition. Product gross margin as a percentage of product revenue for
the third quarter of 1999 was 8.1% compared to 9.3% for the third quarter of
1998. The Company attributes this decline primarily to heightened competition
from direct marketers and other corporate resellers and a reduction in
manufacturer sponsored incentives. The Company expects to continue to experience
lower product gross margin percentages when compared to the comparable prior
year period.
Service revenue increased 22.7% to $83.2 million for the third quarter of 1999
from $67.8 on during the third quarter of 1998. Service revenue is
primarily derived from LAN/WAN projects, consulting, asset tracking, network
management, help desk, field engineering, procurement, configuration,
distribution, and software management. Service revenue reflects revenue
generated by the actual performance of specific services and does not include
product sales associated with service projects. The increase in service revenue
is primarily due to increases in both configuration and field engineering, both
of which benefited from an increase in product unit sales volume. Service gross
margin as a percentage of service net revenue for the three months ended
September 30, 1999 was 34.9% compared to 32.5% for the same period in 1998. The
increase was primarily due to improved performance in the Company's field
engineering business. In the short term, the Company expects to continue to
experience improved service gross margin percentages when compared to the
comparable prior year period.
Selling expense increased approximately $3 million for the three months ended
September 30, 1999 as compared to the same prior year period. This increase is
primarily due to the TASD acquisition, which resulted in an increase in sales
and sales support personnel partially offset by the Company's 1998
restructuring. Although the TASD acquisition resulted in an increase in the
dollar amount of selling expense, selling expense as a percentage of revenue
declined to 3.7% for the three months ended September 30, 1999 from 5.0% for the
same period a year ago. The Company attributes this decline to increased
leverage of its infrastructure resulting from the TASD acquisition and its own
cost reduction efforts.
Service expense decreased approximately $1.1 million to $13 million for the
quarter ended September 30, 1999 from $14.1 million for the same prior year
period. As a result of the E-Certify merger, ClientLink is no longer a
consolidated subsidiary and consequently service expenses do not reflect
ClientLink's expenses subsequent to the E-Certify merger. The Company's equity
interest in E-Certify's loss is recorded in general and administrative expense.
The Company's interest in the loss was less than $0.2 million.
General and administrative expense increased to approximately $24.9 million
for the quarter ended September 30, 1999 from $17.7 million for the same
period in the prior year. This increase was primarily due to increases in
distribution and administrative personnel to support the Company's revenue
growth and expenses related to the TASD acquisition and expenditures to continue
expansion of the Company's electronic commerce capabilities. The Company's
operating expenses are reported net of reimbursements by certain manufacturers
for specific training, promotional and marketing programs. These reimbursements
offset the expenses incurred by the Company.
(continued)
13
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Depreciation and amortization expense increased for the three months ended
September 30, 1999 in absolute dollars but decreased as a percentage of net
revenue when compared to the same period in 1998. Goodwill amortization
increased primarily due to the TASD acquisition. In addition, depreciation
expenses increased due to certain property and equipment acquired in the TASD
acquisition.
Financing expense decreased as a percentage of net revenue, but increased in
absolute dollars for the three months ended September 30, 1999, as compared to
the same period in 1998. This absolute dollar increase is primarily a result of
increased borrowings associated with the TASD acquisition.
As a result of the factors discussed above, net earnings increased for the
quarter ended September 30, 1999 to $6.5 million compared to $1.1 million for
the same period in 1998.
COMPARISON OF THE NINE MONTHS ENDED SEPTEMBER 30, 1999 TO THE NINE MONTHS ENDED
SEPTEMBER 30, 1998
Product revenue increased approximately 36% to $2.0 billion for the nine
months ended September 30, 1999 from approximately $1.4 billion in the same
period of 1998. The increase in product revenue is primarily a result of the
TASD acquisition. Product gross margin as a percentage of product revenue for
the nine months ended September 30, 1999 was 8.0% compared to 10.0% for the same
period in 1998. The Company attributes this decline primarily to heightened
competition from direct marketers and other corporate resellers and a reduction
in manufacturer sponsored incentives.
Service revenue increased approximately 20% to $226 million for the nine
months ended September 30, 1999 from $188 million during the same period of
1998. The increase in service revenue is primarily due to increases in
consulting and both configuration and field engineering, which are typically
driven in part by product unit sales volume. Service gross margin as a
percentage of service net revenue was 34.4% for the nine months ended September
30, 1999 compared to 32.1% for the same period in 1998. The increase was
primarily caused by improved performance in the Company's field engineering
business.
Selling expense increased approximately $5.9 million for the nine months ended
September 30, 1999 as compared to the same prior year period. This increase is
primarily a result of the TASD acquisition, which resulted in an increase in
sales and sales support personnel. In addition, the Company incurred certain
professional services fees related to the integration of the TASD business into
its operations. These incremental costs were offset partially by the Company's
cost reduction efforts related to the 1998 restructuring. Although the TASD
acquisition resulted in an increase in the dollar amount of selling expense,
selling expense as a percentage of revenue declined to approximately 3.9% of
revenue for the nine months ended September 30, 1999 from approximately 4.8% for
the same prior year period. The Company attributes this decline to increased
leverage of its infrastructure resulting from the TASD acquisition and its own
cost reduction efforts.
Service expense decreased in both dollar terms and as a percentage of revenue
for the nine months ended September 30, 1999 when compared to the comparable
prior year period. The decrease was primarily a result of the Company's cost
reduction efforts. In addition, as a result of the E-Certify merger, ClientLink
is no longer a consolidated subsidiary, and consequently service expenses do not
reflect ClientLink's expenses subsequent to the E-Certify merger. The Company's
equity interest in E-Certify's loss is recorded in general and administrative
expense. The Company's interest in the loss was less than $0.2 million.
(Continued)
14
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
General and administrative expense increased to $69.1 million for the nine
months ended September 30, 1999 from $48.3 million for the same period in the
prior year. This increase is primarily due to expenditures to continue
expansion of the Company's electronic commerce capabilities as well as increases
in distribution and administrative personnel to support the Company's revenue
growth and expenses resulting from the TASD acquisition. General and
administrative expense, as a percentage of net revenue, increased for the nine
months ended September 30, 1999 to 3.2% compared to 2.9% for the comparable
period of the prior year. The Company's operating expenses are reported net of
reimbursements by certain manufacturers for specific training, promotional and
marketing programs. These reimbursements offset the expenses incurred by the
Company.
Depreciation and amortization expense remained relatively flat as a percentage
of revenue but increased for the nine months ended September 30, 1999 in
absolute dollars when compared to the same period in 1998. The increase
primarily relates to amortization of goodwill on two business combinations that
were completed during the second quarter of 1998, and the TASD acquisition
completed during the second quarter of 1999, as well as depreciation expense for
certain property and equipment acquired in the TASD acquisition.
Financing expense remained flat as a percentage of revenue but increased in
absolute dollars for the nine months ended September 30, 1999, as compared to
the same period in 1998. During the quarter ended June 30, 1999 the Company
incurred approximately $1 million in charges related to the extension of its
previous credit facilities until the new credit facilities were finalized.
These charges, along with higher borrowing levels due to the TASD acquisition,
were the primary reasons for the increase in financing expenses.
As a result of the factors discussed above, net earnings decreased for the
nine months ended September 30, 1999 to $6.7 million compared to $9.2 million
for the same period in 1998.
Liquidity and Capital Resources
- -------------------------------
Working capital at September 30, 1999 was $230 million compared to $164
million at December 31, 1998. The increase is primarily due to an increase in
accounts receivable resulting from higher revenues in the three months ended
September 30, 1999 than in the three months ended December 31, 1998 and an
increase in inventory partially offset by an increase in accounts payable
resulting from the TASD acquisition. The Company's accounts payable balance
fluctuates relative to the timing of the receipts of product and the mix of
vendors.
The Company's working capital requirements are generally funded through
financing arrangements and internally generated funds. During the second
quarter of 1999, the Company finalized negotiations on its new credit
facilities. The new credit facilities consisted of a $175 million receivables
securitization facility ("the Securitization") and a $225 million working
capital facility ("the Revolver") (collectively, "the Credit Facilities"). As
planned, the Company increased the Securitization to $250 million in September
1999. As of September 30, 1999 the Company has fully utilized the Securitization
with pricing based on a designated short term interest rate plus an agreed-upon
spread. As negotiated in the second quarter of 1999, the Revolver was reduced by
$25 million in September 1999 and is scheduled to be reduced by an additional
$25 million in May 2000. The Revolver bears interest at LIBOR plus an agreed
upon spread and is secured by a lien on the Company's assets. Availability
under the Revolver is subject to a borrowing base calculation and compliance
with certain financial covenants. As of September 30, 1999 the Company had
sufficient collateral to enable it to fully utilize the Revolver and had $150
million outstanding under the Revolver. The Company does not expect its
effective interest rate under the Credit Facilities to be materially different
from the levels experienced in 1998.
(Continued)
15
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
The Company's liquidity continues to be negatively impacted by vendor rebate
programs, which generally exist to enable the Company to sell its products at a
price that is competitive with direct marketers. Under these programs, the
Company is required to pay a higher initial price for product and claim a rebate
to reduce the price. As a result of the administrative requirements of the
vendors, the collection of these rebates can take several months. Due to these
programs, the Company's initial purchase price for the product is often higher
than the sales price the Company obtains from its customers. As of September 30,
1999 these programs are a material factor in the Company's financing needs. As
of September 30, 1999, the Company was owed approximately $77 million under
these vendor rebate programs.
The Company's business is not capital asset intensive, and capital
expenditures in any year normally are not significant in relation to the overall
financial position of the Company. Excluding acquisitions, capital expenditures
were approximately $5.6 million for the nine months ended September 30, 1999 as
compared to $12.2 million for the same period in 1998. The majority of the 1999
and 1998 capital expenditures were related to the upgrading of Company hardware
and software. The Company does not expect capital expenditures in the fourth
quarter of 1999 to be materially different from capital expenditures made during
the first three quarters of 1999.
Year 2000 Readiness Disclosure
The Year 2000 issue results from the fact many computer programs were
previously written using two digits rather than four to define the applicable
year. Programs written in this way may recognize a date ending in "00" as the
year 1900 rather than the year 2000. This could result in a system failure or
miscalculations causing business delays and disruptions of operations. The
Company has developed a step-by-step plan which details the tasks, deliverables,
resources, and target dates necessary to monitor the Company's information
systems at the turn of the century and beyond. Assessment of the Company's
systems has been divided into five areas - Core information systems and
components ("Core IS"), Distributed Desktop systems, Non-IS systems, new IS
purchases by the Company, and mergers and acquisitions.
The Company's Core IS includes purchasing, order management, warehouse
management, distribution, service dispatch, service parts, engineer billing,
human resources and financial information systems. Distributed Desktop systems
include all desktop computers and related components used by the Company's
associates, wherever they are located. Initial assessment of these systems has
included the identification of each hardware, software, tool, and package
comprising these systems to determine whether or not they support Year 2000 date
codes. Testing, remediation, and validation of the Company's Core IS and
Distributed Desktop systems was substantially completed in the third quarter of
1999. Remediation includes the enhancement, upgrading, migration, or
replacement of non-compliant hardware, software, tools and/or systems.
Validation entails testing of all systems including a "quality control"
environment in which the date is artificially set forward to the Year 2000 to
simulate the turn of the century and beyond. The Company has also purchased a
Year 2000 compliance software package that will generate audit reports on a
regular basis to report any noncompliant Distributed Desktop systems. The
Company began using this software package in January 1999 and will produce and
review the reports on a regular basis through 2000.
(Continued)
16
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
Non-IS systems include all microcontroller systems and back-up processes of
Core IS. Microcontroller systems comprise all electronic systems such as
telephones, security systems, alarms, etc. Initial assessment and remediation
of the Company's non-IS systems was completed during the first quarter of 1999.
The Company reviews each of its new potential hardware and software purchases to
ensure they are Year 2000 compliant. The Company completed three acquisitions
during 1998 and the TASD acquisition in 1999; however, these acquisitions have
been integrated into the Company and the major processes of the acquired systems
have been replaced with the Company's Core IS.
As part of its Year 2000 assessment, the Company must also consider the
compliance of third parties with which the Company has a material relationship,
namely its vendors, suppliers, and customers. The Company relies on vendors and
suppliers for hardware, software, and tools used within its own business
environment. The Company developed a Year 2000 questionnaire which was sent to
its vendors and suppliers in order to ascertain whether vendors and suppliers
warrant their hardware, software, and tools to be Year 2000 compliant and
whether vendors and suppliers have adequately addressed the Year 2000 issue. The
Company has documented compliance via the questionnaire of the hardware,
software, and tools currently in use. By the end of June 1999, the Company
upgraded or replaced any noncompliant vendors and suppliers of hardware,
software and tools then in use by the Company.
Noncompliance could result in a system failure, business delays, and/or
disruptions in operations. The Company is in the process of finalizing a
continuity plan in case a Year 2000 problem occurs. As a reseller of computer
products, the Company only passes through to its customers the applicable
vendor's warranties; it generally makes no warranties regarding Year 2000
compliance on any of the products it resells. However, if one of the Company's
major vendors or suppliers is found to be Year 2000 noncompliant which is not
corrected on a timely basis, it could have a material adverse effect on the
Company's results of operations. Due to that fact, the Company is continuing
the process of obtaining assurances from its vendors and suppliers regarding
their readiness for Year 2000.
The Company's plan also includes the availability of a test team that will
test the Company's information systems on an on-going basis to further validate
that additions or modifications to any of the Company's systems do not create
Year 2000 compliance issues. The Company's expectations with respect to the
Year 2000 issues noted above are based on the premise there will be no material
general failure of external systems (including power, communications,
transportation or financial systems) necessary for the ordinary conduct of
business. At the present time, the company is developing a continuity plan to
operate in the event its computer systems or those of its vendors, suppliers, or
customers are not Year 2000 compliant. The Company expects to have this
continuity plan completed by mid-December 1999.
The Company currently anticipates it will spend approximately $1,400,000 on
Year 2000 compliance, of which approximately $1,154,000 has been spent through
September 1999. The majority of the remaining expense is expected to be for
full-time associates dedicated to the Year 2000 compliance effort. All previous
as well as future expenditures on Year 2000 compliance have or will come from
operating cash flow or the Company's Credit Facilities.
(Continued)
17
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
Management's Discussion and Analysis of Financial Condition
and Results of Operations
This document contains certain forward-looking statements regarding revenues,
margin, earnings, growth rates and certain business trends that involve risks
and uncertainties that could cause actual results to differ materially from the
results discussed herein, specifically, the ability to grow product and service
revenue may not continue; the restructuring cost reductions may not be adequate
to offset costs needed for other operations; additional product cost reductions
may continue to reduce revenues, margins, and earnings; the improvement in
service and product gross margins may not continue; the ability to decrease
costs through the TASD acquisition or the Company's ability to maintain
customers acquired in the TASD acquisition may not be as great as anticipated;
and the Company may not be able to find additional ways to leverage costs and
reduce costs further. Other factors that could cause actual results to differ
materially are: the Company's ability to effectively manage inventory levels in
response to changes in its major suppliers' price protection and return
programs, competitive pricing and supply, short-term interest rate fluctuations,
general economic conditions, employee turnover and possible future litigation,
the impact of Y2K and the related uncertainties may have on future revenue and
earnings as well as the risks and uncertainties set forth from time to time in
the Company's other public reports and filings and public statements.
Item 3. Quantitative and Qualitative Disclosure About Market Risk
- ------- ---------------------------------------------------------
The Company is exposed to interest rate risk primarily through its Credit
Facilities. The Company utilizes these Credit Facilities for its working capital
and other borrowing needs. As of September 30, 1999 the Company had $250 million
outstanding under the Securitization and $150 million outstanding under the
Revolver. If the Company's effective interest rate were to increase by 75 basis
points (.75%), the Company's annual financing expense would increase by
approximately $2.1 million based on the average outstandings under the
Securitization and Revolver during the nine months ended September 30, 1999.
18
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
PART II. OTHER INFORMATION
Item 6. Exhibits and Reports on Form 8-K
- ------- --------------------------------
(a) Exhibits
--------
Exhibit
No. Description
--- -----------
27 Financial Data Schedule
(b) Reports on Form 8-K
-------------------
1. On July 26, 1999 the Company filed a Current Report on Form 8-K/A to
amend the Current Report on Form 8-K filed by the Company on May 25,
1999, to announce its acquisition of certain assets of the
Technology Acquisition Services Division of ENTEX Information
Services, Inc. The amendment was filed to include financial
statements that were not available at the time of filing of the
initial report.
19
<PAGE>
COMPUCOM SYSTEMS, INC. AND SUBSIDIARIES
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.
COMPUCOM SYSTEMS, INC.
----------------------------------
(Registrant)
DATE: November 15, 1999 /s/ Harry Wallaesa
----------------------------------
Harry Wallaesa,
Chief Executive Officer
DATE: November 15, 1999 /s/ M. Lazane Smith
----------------------------------
M. Lazane Smith,
Senior Vice President, Finance and
Chief Financial Officer
20
<TABLE> <S> <C>
<PAGE>
<ARTICLE> 5
<LEGEND>
THIS SCHEDULE CONTAINS SUMMARY FINANCIAL INFORMATION EXTRACTED FROM THE
CONDENSED CONSOLIDATED BALANCE SHEET AS OF SEPTEMBER 30, 1999 AND THE CONDENSED
CONSOLIDATED STATEMENT OF OPERATIONS FOR THE NINE MONTHS ENDED SEPTEMBER 30,
1999 AND IS QUALIFIED IN ITS ENTIRETY BY REFERENCE TO SUCH FINANCIAL
STATEMENTS.
</LEGEND>
<MULTIPLIER> 1,000
<S> <C>
<PERIOD-TYPE> 9-MOS
<FISCAL-YEAR-END> DEC-31-1999
<PERIOD-START> JAN-01-1999
<PERIOD-END> SEP-30-1999
<CASH> 4,506
<SECURITIES> 0
<RECEIVABLES> 334,921
<ALLOWANCES> 3,688
<INVENTORY> 155,141
<CURRENT-ASSETS> 500,119
<PP&E> 82,289
<DEPRECIATION> 41,172
<TOTAL-ASSETS> 638,498
<CURRENT-LIABILITIES> 270,536
<BONDS> 150,410
0
15,000
<COMMON> 483
<OTHER-SE> 202,069
<TOTAL-LIABILITY-AND-EQUITY> 638,498
<SALES> 1,955,526
<TOTAL-REVENUES> 2,185,257
<CGS> 1,799,826
<TOTAL-COSTS> 1,950,230
<OTHER-EXPENSES> 206,347
<LOSS-PROVISION> 0
<INTEREST-EXPENSE> 17,446
<INCOME-PRETAX> 11,234
<INCOME-TAX> 4,494
<INCOME-CONTINUING> 0
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<EXTRAORDINARY> 0
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<NET-INCOME> 6,740
<EPS-BASIC> 0.13
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