Institutional
Holdings
25.9% |
Industry
Wholesale Computers |
P/E to
Industry
46.8 % |
Price/Book to
Industry
77.4 % |
Profit Margin to
Industry
150.0% |
| Dallas based CompuCom Systems
is a leader
in the sales and service of distributed desktop computer products to large
and medium
sized U.S. businesses. The company is a dealer of major manufacturers'
desktop
computers, networking equipment, computer peripherals, and software.
CompuCom's
service business provides its customers with network integration services,
consulting,
asset tracking, system configuration, product procurement, help desk
services, and
software management. The company's ClientLink subsidiary provides
information
technology solutions and software application development services to large
businesses.
CompuCom is majority owned by NYSE listed Safeguard
Scientifics. The company
operates in a highly competitive business and must compete with other system
integrators,
direct marketers, and desktop computer companies themselves for business.
Increased competition in the industry led to a wave of consolidation as
companies tried to
increase their market share. CompuCom completed two acquisitions in
1998 that added
almost $400 million to its annual revenues. Pricing is a key area of
competition in
the industry. CompuCom, a corporate reseller, must compete with direct
marketers who are
often able to provide their customers with more favorable rates.
Pricing pressure,
and increased competitiveness, led to a decline in profit margins for CMPC
and for the
industry as a whole in 1998.
Earnings at CMPC fell 59% during the year's first 3 quarters. The
sharp fall in
the average price of computers during 1998 hurt CompuCom as it had to
struggle to increase
units shipped to make up for the lower prices. The company attributed the
lower prices to
heightened competition and expects the downward pricing pressure to
continue, although at
a slower pace. Excluding acquisitions, the company was able to
increase product
revenue by 16% during the 3rd quarter and by 3.9% for the 9 months.
Service
revenues, excluding acquisitions, increased by 4.4% during the year's first
9 months to
$188 million. Gross margins in the service business tumbled to 31.9%
from 36.5% the
prior year Lower billings per engineer in the systems engineering
business was the
primary contributor to the lower margins. Operating expenses increased as a
result of the
company hiring more sales personnel.
We believe that 1998 represented a low point in CompuCom's
operating history and
that steps now being taken by the company will lead to an earnings
turnaround in 1999.
The company and its major vendors (Compaq, IBM, and Hewlett Packard)
have
implemented channel assembly programs that will allow it to compete more
effectively on a
pricing basis with direct marketers. These programs will also give it a
pricing advantage
over those resellers who have not been able to obtain similar deals with
major vendors.
The programs will allow the company to carry lower inventories of
finished goods
and meet lower price protection requirements (CompuCom's suppliers offer it
price
protection and return programs which help absorb product and inventory price
reductions).
In early November CompuCom announced a restructuring plan (and a $25
million charge
against 4th quarter earnings) that is designed to reduce the company's cost
structure.
CompuCom will reduce its workforce by 10% and close branch offices as
it shifts to
a "virtual office model". The company will close its
branch
facilities, but will retain a local presence in all of its markets as its
sales
representatives and engineers begin to use "remote communications"
to
communicate with customers and the main office. According to CompuCom
this move will
lead to a "reduction in its product cost structure of approximately
1.25%-1.5% of
sales". The restructuring is part of a company wide reduction in
expenses
designed to improve profitability and change the current business models
employed by the
reseller industry. This move to a virtual office model will allow CMPC
to achieve
higher margins and offer more attractive pricing than its reseller
competitors who
maintain costly branch offices.
The company is also implementing plans to boost the percentage of its
revenues that are
derived from its service business. The service business will play an
increasingly
important role going forward as customers' technology needs increasingly
become dependent
on successfully implementing information technology into their business.
Earnings during 1999 are expected to improve from an estimated $0.24 in
1998 to $0.57 a
share. The benefits that will result from the company's new business
model are not
yet factored into the current share price. CMPC shares are 53% off
from their
52-week high and are trading at a forward Price/Earnings ratio of just 7.6.
CompuCom is
trading at a Price/Cash Flow ratio of 5.5, and at a Price/Sales ratio of
just 0.09.
We believe that these shares are undervalued and will gain in price once the
first results
from the new business model are reported. We look for the P/E ratio accorded
these shares
to expand to the midpoint of its 5 year range (26-6.7) as earnings
begin to
turnaround. This would leave the shares trading at a forward P/E of
12-14, for a
year end target of $7-$8 a share.
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