Arrow Electronics Inc. faced a good news/bad news conundrum in the latest quarter. European sales soared but with the euro slumping against the dollar, the distributor found itself reporting negative growth for the region. Strip out currency fluctuations, though, and Arrow executives could easily have boasted that they exceeded sales expectations.
The dollar’s climb against major global currencies in recent months has become a doubled-edged sword for many manufacturers that sell products across multiple geographies. For electronics companies based in Europe that report financial results in euro but sell heavily in dollar, the currency swing has been a boon, helping to offset real or perceived weaknesses.
For U.S. companies – like Arrow –which generate a chunk of sales outside North America, however, the dollar’s strength could best be described as a major headache; it negatively impacts sales and makes it difficult for companies to meet financial forecasts. In the case of Arrow, the company expects “currency changes will continue throughout [the current] quarter that will have potential impact on the translation of our European financial statements for the quarter,” according to Paul Reilly, Arrow’s CFO and executive VP of finance and operations, during a conference call to discuss March quarter results.
The currency fluctuations hit hard during Arrow’s recently ended quarter but the company still managed to maintain positive operating income in both business divisions. It estimated the “impact of changes in foreign currencies” contributed up to $322 million in nominal boost to revenue in the first quarter of 2014. The actual sales reported for the first quarter of 2015 were $5 billion, flat compared with the $5.1 billion from the year-ago quarter before the dollar began to strengthen against the euro. If the euro had remained constant, however, Arrow’s sales would have risen more than 3 percent from the year-ago quarter, executives said.
That’s on a company wide basis. The differences are even more stark when the regional sales in the first quarter are juxtaposed against the year-ago performance. Arrow’s components business led company-wide growth on a constant currency basis in the latest quarter but the Generally Accepted Accounting Principles (GAAP) numbers showed something different. Sales of components in Europe, as reported under GAAP, fell 6.6 percent, the company said, to $923.3 million from $988.9 million. The adjusted numbers, however, pointed to a gargantuan surge in European component sales, said Michael Long, chairman, president and CEO of the company.
“Our objective is to grow sales faster than the market, increase our markets served, grow profits faster than sales and increase return on invested capital,” Long said, during a presentation to analysts. “With respect to sales growing faster than the market in the first quarter we delivered 5 percent overall sales growth on a constant currency basis. Our growth was led by our European components businesses, which grew a robust 13 percent on a constant currency basis, marking the eight consecutive quarter of year-over-year growth.”
The company isn’t letting the prospects of continuing currency turmoil dim its operating income, though. It has continued to reduce operating expenses, which in the March quarter fell 5 percent “but grew one percent year-over-year adjusted for the impact of acquisitions and changes in foreign currency,” according to CFO Reilly. Even after accounting for the impact of currency fluctuations, Arrow’s operating income were essentially flat from the year-ago quarter at $177.4 million vs. $177.7 million, indicating tight management of resources.
“Will Arrow’s operating margins be compressed by strengthening dollar relative to the euro?” asked CEO Long during the conference call. “As we demonstrated again this quarter our operating margins continue to expand in the face of currency headwinds. In the first quarter components delivered a 5.1 percent operating margin and enterprise computing delivered 4.4 percent operating margin with both increasing 20 basis points over the prior year first quarter. Importantly, our component margins were up in the Americas and in Europe and were flat in Asia.”
None of the companies facing the escalating currency problem can completely avoid the challenges arising from this situation, however. For Arrow, it means a continuation of tight resource management as well as other actions meant to help defray costs and eliminate currency differences. One such move by the company is to “align our purchases and sales so they are transacted in the same currency,” Long said.
The Arrow CEO also noted that the company isn’t worried about the possibility of a slowdown in demand from Europe, currently its fastest growing region. The demand the company is seeing from the continent is solid and based on actual component and services consumption, he noted. “Our healthy growth rates for both our European components and our Europe ECS business reflect our strong execution but also improving underlying demand,” Long said.
This doesn’t mean the currency risks aren’t impacting sales; forecasts aren’t as rosy as they could be, for example. Second quarter sales are forecast to be between $5.45 billion and $5.85 billion, with global component sales between $3.45 billion and $3.65 billion, and global enterprise computing solutions sales between $2 billion and $2.2 billion,” according to Arrow’s CFO. He projected earnings per share would be in the range of $1.43 to $1.55, excluding any charges. By contrast, in the second quarter of 2014, Arrow reported sales of $5.7 billion, which means the above-industry average sales growth the company believes it will have may be clipped by the strengthening dollar.
Reilly’s forecast in a statement announcing the first quarter results show why this may be the case. In the ongoing quarter, “the weak euro will have a negative impact of $350 million or 6 percent on sales … when compared with the second quarter of 2014,” he said.
Translation? In constant currency, Arrow’s sales could possibly be between $5.8 billion and $6.2 billion, a healthy rise from the year ago number. Arrow can hit its mark alright. It just has to factor in the prevailing currency winds.