Proprietary Systems See Growth At Avnet

October 27, 2014 Timothy Prickett Morgan

The large distributors of systems, storage, networking, and related systems software are perhaps a better barometer of what is going on out there in the enterprise than IBM these days, and that is one of the reasons why The Four Hundred watches very carefully how these companies are doing every quarter. The good news is that Avnet is doing a lot better than Big Blue in the past quarter. And its server business, for both proprietary and X86 machines, is growing.

In the 13 weeks ended in September, Avnet’s overall revenues rose by 7.8 percent to $6.84 billion and net income rose by 6.1 percent to $127.9 million. That may only be a tiny bit of revenue dropping to the bottom line, but that is the nature of the wholesale distribution business, which is every bit as rough as the retail business in any market. Avnet’s Electronics Marketing group, which sells components to all kinds of device makers, had a 7.8 percent rise, to $4.37 billion, and operating income was up 15.3 percent to $202.7 million, which works out to an operating income margin of 4.6 percent. The Technology Solutions half of Avnet, which peddles systems and software, saw more modest growth, up only 2.4 percent to $2.47 billion in the quarter, which is Avnet’s first quarter of its fiscal 2015. Operating income was down three-tenths of a point, to $62.4 million, showing just how tough it is to make a buck in the IT infrastructure racket these days with that working out to a 2.5 percent operating income margin.

Without the help of foreign exchange rates, Avnet Technology Solutions only grew by 2 percent, and unlike IBM, which was hurt by currency, Avnet was help to a small degree in its systems business. Europe and Asia continue to be problematic for Avnet, with sales down 3.1 percent to $672.9 million in the fiscal first quarter in Europe and down 15.2 percent to $359.5 million in Asia. The Americas region, by contrast, saw a nice 11.2 percent rise compared to the year-ago period, hitting $1.43 billion. This was the first time in three years that the Americas region showed double-digit growth on an organic basis (meaning, not helped by acquisitions), according to Rick Hamada, Avnet’s chief executive officer.

As for Europe, the core enterprise IT distribution business was actually up, but the computing components business that is embedded in the Technology Solutions group had much steeper declines, more than offsetting those gains. Those components are not included in the Electronics Marketing group because they are the processors, disks, memory, motherboards, and other components that the build-your-own server makers buy.

Across all of Avnet, this computer components business represents around $1 billion in annual revenues (somewhere between 8 and 10 percent of global sales in the Technology Solutions group) and is inherently more volatile given the large deals that customers do–or don’t, as they see fit. Various software products now constitute north of 20 percent of the Technology Solutions business. Storage is an even larger part of the business, but Avnet did not say how large. And with a sigh of relief, Avnet said that both proprietary (meaning IBM Power Systems and some mainframes) and industry standard (meaning X86 servers) servers both saw positive growth in the quarter. How much, Gallagher did not say. But up is still up and better than down.

Asia was, as Hamada put it, a surprise in the first fiscal quarter. “As always, we are trying to separate what may be secular versus cyclical with that business–and there are lots of little things that contribute to that,” explained Hamada. “Whether it is a buy-China bias for our China-based business, whether we have got macroeconomic concerns and slowdowns going on in Australia that contributed to our disappointment in Australia/New Zealand.”

Interestingly, Hamada said that Avnet sold something on the order of $600 million in System x products from IBM each year, which works out to something on the order of one-seventh of the $4.2 billion in revenues that IBM booked a year. (I am presuming that both Avnet and IBM were both referring to their 2013 numbers.) “That actually now is out of IBM and into a new relationship,” said Hamada, reminding everyone that the deal was effective on October 1, which was several days after the fiscal first quarter closed. “We are open for business around the globe with Lenovo and off and running with them.”

Phil Gallagher, who was on the call with Wall Street analysts with Hamada to go over the numbers, said that the quarter was pretty typical with regard to IBM’s product lines, that the transition to Lenovo was very smooth, and that unlike many other distributors, Avnet has relationships with Lenovo that already span the globe.

Looking ahead, Avnet is expecting for Technology Solutions to book sales of between $2.85 billion and $3.15 billion in its second quarter of fiscal 2015 ended in December. That works out to a decline of anywhere from between 3.6 percent and 12.8 percent, and that works out to an 8.2 percent decline at the midpoint. Why the Technology Solutions business would decline by so much is not clear, given the fourth quarter budget flush and the updates to Xeon and Power systems and the continuing need for storage among enterprises.