Avnet - Q1 2018

Transcript

Operator (participant)

Behind me participating.

Please stand by. Our presentation will now begin. I would now like to turn the floor over to Vince Keenan, Avnet's Vice President of Investor Relations. Please go ahead.

Vincent Keenan (VP of Investor Relations)

Good morning and welcome to Avnet's first quarter of fiscal year 2018 business and financial update. As we provide the highlights for our first quarter of fiscal year 2018, please note that in the accompanying remarks we have excluded certain items, including ERP accelerated depreciation, intangible asset amortization expense, restructuring, integration, and other items in certain discrete income tax adjustments from all periods covered in our non-GAAP results. When we refer to constant currency or the impact of foreign currency, we mean the impact due to the change in foreign currency exchange rates when translating Avnet's non-U.S. dollar-based financial statements into U.S. dollars. When we refer to organic sales, we have adjusted the prior period to include the impact of acquisitions. In addition, when addressing return on capital employed, return on working capital, and working capital velocity, the definitions are included in the non-GAAP section of our press release.

Before we get started with the presentation from Avnet management, I would like to review Avnet's safe harbor statement. This call contains certain forward-looking statements which are statements addressing future financial and operating results of Avnet. There are several factors that could cause actual results to differ materially from those described in the forward-looking statements. More detailed information about these and other factors is set forth in Avnet's filings with the Securities and Exchange Commission. In just a few moments, Bill Amelio, Avnet's CEO, will provide Avnet's first quarter fiscal year 2018 highlights. Following Bill, our interim Chief Financial Officer, Ken Jacobson, will review some additional financial highlights and provide second quarter and full year fiscal 2018 guidance. Bill will provide some closing remarks, and at the conclusion, a Q&A will follow.

Also here today to take any questions you may have related to Avnet's business operations is Phil Gallagher, President of Electronic Components. With that, let me introduce Mr. Bill Amelio to discuss Avnet's first quarter fiscal 2018 business highlights.

William Amelio (CEO)

Thank you, Vince, and hello everyone. Thank you for taking the time to be here and your interest in Avnet. We started fiscal 2018 with a strong top-line performance as revenue of $4.7 billion exceeded the high end of our expectations, driven by the strength of our EMEA and Asia regions, as well as Premier Farnell. Overall revenue increased 13% year-over-year, with organic revenue increasing 3.5% in constant currency. Adjusted operating income declined $19 million, or 12% year-over-year, and operating income margin declined 87 basis points. This quarter we saw declines in our gross margin and operating income from the year-ago period, which was due in part to the supplier channel and program changes, as well as some additional inefficiencies associated with the ERP deployment in America.

At a regional level, both EMEA and Asia regions offset the impact of supplier channel and program changes as they grew both revenue and operating income dollars year-over-year. Premier Farnell also exceeded expectations as year-over-year revenue grew for a third consecutive quarter with a double-digit operating income over that time frame. The Americas regions experienced a material year-over-year decline in revenue and operating income. There are two factors that contributed to the Americas' performance this quarter. First, the ERP disruption, and second, the supplier channel changes. When our new ERP system went live in the fourth quarter of fiscal 2016, we experienced failures in basic handoffs in our sales-related process, and we lost visibility of many key performance metrics. Inaccuracies in our data flow and communication with customers and suppliers led to some frustration and dissatisfaction. However, the team did an amazing job of tackling these challenges.

The first three quarters post-go-live were basically a triage exercise by the team to identify issues, then develop software fixes and workarounds to restore many of the processes that previously were in place. Even when the system began to stabilize, we had to invest or reassign significant resources to ensure the proper processing of transactions, including product returns, supplier and customer pricing, and supplier ship and debit processing. All of these issues resulted in lost productivity and, unfortunately, an inward focus as employees spent significant time fixing the system and problematic transactions. We continue to spend $3 million-$4 million per quarter to reliably maintain customer service levels. We believe this money is well spent, as evidenced by our recent net promoter scores, as well as many verbatim comments that cited improved customer service in the Americas.

We are currently on track with regard to our Americas region's ERP deployment, which we believe will allow us to phase out of these expenses and grow more profitably in the future. The other challenge that hit Americas region hard was supplier channel and program changes that impacted both revenue and demand creation margin. The $1 billion of revenue that shifted to competitors disproportionately impacted the Americas region because of higher loss of demand creation revenue. The combination of supplier program changes and ERP disruptions caused the Americas region to experience a significant decline in gross profit margin. These challenges are now mostly behind us, and this is evidenced by improved metrics, including on-time deliveries, quote accuracy, order processing accuracy, and order correction turnaround times. I'd like to thank our customers, suppliers, and especially our Americas employees who worked so hard to recover us from the ERP disruptions.

I often say distribution is a relationship business, and the relationships our teams have with their counterparts at customers and suppliers is why we not only got through this challenge, but we expect to have a brighter future going forward. While I'm pleased with the strong financial performance this quarter, I'm even more pleased with the progress that we're making in transforming Avnet. Our strategy directly addresses two fundamental shifts that are impacting our industry. The first is that suppliers are modifying how distributors get compensated for their role in the technology supply chain. Suppliers are paying less for traditional services and legacy design wins, and they're focusing more on getting their technology in front of a broader set of customers earlier in the product lifecycle.

Customers, whether large OEMs, startups, makers, are increasingly demanding digital tools and online access to services that speed their time to market and, of course, at lower cost. Our transformation strategy not only addresses these shifts but will position AVNET to deliver higher value services throughout the entire product lifecycle. AVNET's transformation is based on four key pillars, and they are: first, a unique end-to-end ecosystem. Secondly, the digitization of our business. Third, our transformation initiative. And four, right-sizing the cost structure of AVNET. So let me briefly describe the progress we're making in each of these areas. First, our unique end-to-end ecosystem. AVNET's ecosystem continues to expand the products and services we offer, which is reflected in many key metrics that we track.

For example, we're seeing strong growth in our digital community as membership grew 9% from the previous quarter and 37% year-over-year, and we've now crossed the 800,000 member mark. The rich technical content and unique peer-to-peer interactions on our sites are a key driver of this growth as more engineers and entrepreneurs are turning to Avnet's engineering communities for insight and support for products as well as solutions. We recently enhanced the prototyping and manufacturing support in our ecosystem with the acquisition of Dragon Innovation. By using Dragon Innovation's SaaS-based solution, our customers can access support through the entire product lifecycle from design to prototype and from product ramp via a flexible and low-cost model.

Our Dragon offering will enable any company bringing a new product to market to accurately forecast finished goods production costs, identify the optimal manufacturing partner, and ensure they have the appropriate funding needed to scale to full volume quantities. In addition, our strategic partnership with Kickstarter increased the likelihood that the new innovations will be successful by combining Kickstarter's funding platform with Avnet's and Dragon's expertise in component design and manufacturing. This end-to-end ecosystem is much more than just a one-stop shop. Avnet is now uniquely positioned to guide customers from idea to product and from product to market. This will speed time to market for our customers, lower their costs, and simplify them on their journey. The next area is the digitization of our business. Our digital revenues grew and are now seeing an $800 million annual run rate. This revenue benefits us in two ways.

First, we typically see higher gross margins on web orders due to better pricing that's inherent in small order quantity. But second, we also see our cost to serve these customers is lower than traditional channels and also benefits our profitability. Customer lead handoff between Avnet and Premier Farnell are also increasing as we've made investments in digital tools and training in both of our operating groups. We're seeing the benefits of these investments as qualified leads increased significantly this quarter to $3,000 with a potential revenue value of $40 million. Also, we're about to move from trial to implementation with marketing automation software that will allow us to personalize that customer journey and nurture them directly with custom content along the way. This capability will yield many more qualified leads and improve our yield on customer acquisition.

These investments, as well as others, represent a multi-year digital transformation effort that we believe will enhance the customer experience, increase our mix of e-commerce, drive greater productivity, and allow us to leverage big data and advanced analytics. By digitizing more of our processes, we also expect to develop a low-cost-to-serve model that can meet the needs of our customers at every point in the product lifecycle. The next pillar is our transformation initiative. I'm pleased to report that we're currently ahead of our plan, and we're starting to see the fruits of our efforts impacting the profit and loss statement. Our transformation initiatives cover everything from pricing and inventory management to organizational structure and business processes. One example I'll share is our OneAsia initiative.

Based on customer feedback and the globalization of the supply chain, we realized that our historic country-centric structure was adding unnecessary costs and complexity to the customer engagement. By consolidating the OneAsia structure, we greatly improved the customer experience, and we lowered our annual cost by $12 million. The last pillar of our transformation is right-sizing our cost structure. We've undertaken a series of aggressive actions to streamline our organization structure. We eliminated redundancies and centralized certain functions. These actions will result in a $120 million reduction in our annual expense run rate. These savings not only align our cost structure appropriately, but they will allow us to make strategic investments in growth markets with new tools and solutions that we believe will leverage our technical resources to sell more product and create a stickier long-term relationship with our customers.

With these strategic initiatives in place, we expect to see a long-term improvement in our growth margins and our returns. While these initiatives are clearly benefiting our customers and Avnet, suppliers are also recognizing that our value proposition can uniquely meet their needs as well. I'm pleased to announce that we've made significant progress this quarter with our supplier partnerships across the entire ecosystem. At Avnet, we added nine new franchises while expanding regional coverage with another five. Premier Farnell also added nine new franchises and expanded their regional coverage with an additional supplier. Many of the new products are a strong fit for high-growth markets, including automotive, lighting, and the Industrial Internet of Things. In addition, we recently were selected by Marvell to be their single global distribution partner, which will result in new revenue and growth opportunities.

We also added longtime Avnet partners Xilinx and Integrated Device Technology to Premier Farnell's line card. This is a clear example of synergies that exist and that are growing between Avnet and Premier Farnell. We're also in discussions with several other suppliers who are interested in leveraging our digital ecosystem for new product introductions and overall feedback on their products. We believe with the success we've had this quarter, we're laying the groundwork to replace revenue we lost as a result of the supplier channel changes with revenue from both new suppliers and growing and existing suppliers. Now let me transition to a few other highlights for the quarter. We are redeploying our field application engineers to suppliers who are creating incentive plans for their products, including analogs, microcontrollers, sensors, and power management. As a result, these renewed partnerships, we're seeing improvement in our demand creation metrics.

Design registrations have increased 41% sequentially, and we're seeing continued success in key technologies, including FPGAs, microcontrollers, and analog products. This is further evidence that our suppliers value our customer-facing technical resources as we have already begun to replace many of the sockets that we lost as a result of the supplier channel change. We recently appointed an executive to oversee our global FAE community to increase their effectiveness and ensure we are sharing best practices globally. Our EBV business in EMEA, which is known as the global leader in demand creation, is working with other regions to organize resources to build expertise in both applications and vertical markets. Our Abacus tool, which provides engineers' block diagrams that address common engineering challenges, is attracting suppliers who want to have their products featured while growing its library of design.

We're also designing IoT solutions that address common platform requirements, including security and asset tracking. These solutions will allow us to penetrate high-growth vertical markets, including industrial, transformation, and healthcare. However, perhaps the most important thing this quarter is that we believe the Americas region has stabilized, and we're now seeing many key metrics improve. Since we went live with ERP in the fourth quarter of fiscal 2016, IT defects have declined 90%, and many metrics that we measure, like order processing, are at pre-ERP implementation levels. Design registrations have recovered, and our net promoter scores, which are determined through regular customer surveys of thousands of customers, have made a sharp turn upward. We're also beginning to win new business from customers as they regain confidence in our ability to deliver and meet the business needs.

We are confident that the hard work of our entire team has laid the foundation for a recovery that will gain momentum with both our customers and suppliers as we progress through fiscal 2018. Now I'd like to turn the commentary over to Ken Jacobson to provide more color on our financial performance. Ken? Thank you, Bill. And hello, everyone. In our September quarter, reported revenue grew 13% year-over-year, while organic revenue increased 3.5% in constant currency. When you exclude the negative impact of the previously announced supplier channel changes, revenue would have increased 8.3% year-over-year in constant currency, and our sequential growth rate would have been 1.7%. At Premier Farnell, reported revenue increased 7.6% year-over-year and was up 6.2% in constant currency. Gross profit of $613 million increased $90 million, or 17% year-over-year, primarily due to the addition of Premier Farnell.

Gross profit margin of 13.1% declined 55 basis points sequentially, primarily due to supplier channel and program changes. The combination of supplier channel and program changes is having a negative impact on both our gross profit margin and our mix of demand creation revenue in fiscal 2018. These changes were felt more severely in the western regions of our electronic components business. Operating expenses of $471 million increased $109 million year over year, primarily due to the addition of Premier Farnell and changes in foreign currency exchange rates. If you exclude the impact of foreign currency, operating expenses declined $16 million sequentially, primarily as a result of our cost reduction initiatives. Adjusted operating income of $142 million declined $13 million from the June quarter, and adjusted operating income margin was down 32 basis points, primarily due to the impact of the supplier channel and program changes.

Adjusted operating income declined $19 million year-over-year as the addition of Premier Farnell, and growth in the electronic components in the Asia regions was offset by a significant decline in the Americas region. Adjusted operating income margin declined 87 basis points year-over-year due to the supplier channel and program changes, as well as inefficiencies in our electronic components Americas region related to the previously mentioned ERP deployment. Adjusted earnings per share of $0.76 increased $0.02 from the year-ago quarter, primarily due to the acquisition of Premier Farnell, a lower effective tax rate, and a lower share count. Now let's take a further look at revenue growth by region. Our reported growth rate was enhanced by the acquisition of Premier Farnell beginning in the second quarter of fiscal 2017.

Our organic growth for the electronic components group was negative in the first two quarters of fiscal 2017, as the America's region was dealing with the immediate impact of the post-go-live ERP disruption, while the Asia region reported negative growth as a result of our decision to exit select high-volume supply chain engagement. When you exclude the impact of that decision, our Asia region grew 5.9% in constant currency in fiscal 2017. We continue to demonstrate strong performance in the NEA region, where the team grew organic revenue double digits in constant currency over the past four quarters. Avnet organic revenue in constant currency grew 2% and 8% in the third and fourth quarters of fiscal 2017, respectively, compared to organic growth of 3.5% in the first quarter of fiscal 2018.

When you exclude the negative impact of these supplier channel changes, our organic growth was 8.3% in the September quarter. At a regional level, both the NEA and Asia regions have offset the supplier channel changes and delivered double-digit organic growth this quarter of 20.2% and 14.5%, respectively. Excluding the impact of the supplier channel changes, the America's region declined 10.8%, primarily as a result of the cumulative impact of the ERP disruption in fiscal 2017 that impacted both our America's components and integrated solutions businesses. As demonstrated by our first quarter results, we have two international regions and Premier Farnell that are growing faster than the market, while the America's region has been challenged by both ERP deployment and a disproportionate impact from the supplier channel and program changes.

I would like to take a moment to highlight the actions we have taken, which we expect to drive meaningful improvement in our future financial performance. Specific to the Americas region of our electronic components group, we have further stabilized our ERP via numerous software enhancements to improve functionality and transaction processing. Internal sales teams have been reorganized to best leverage tier two and tier three customer accounts, as they represent significant growth and margin potential. Given the reorganization of our sales team, we have also implemented revised compensation plans, which are designed to incentivize on growth and margin profile targets. Lastly, specific to the electronic components Americas region, we recently completed an in-depth comprehensive sales training program designed to integrate and deploy global best practices. From a company-wide perspective, we have made the decision to accelerate our cost reduction plan, which we previously communicated.

We are targeting a global operating expense reduction of $125 million on an annualized basis by the end of fiscal 2018. In the September quarter, we reduced expenses by $16 million sequentially, excluding impact of currency. In the December quarter, we expect to take out an additional $18 million-$22 million of annual operating expenses, with the remainder of the reductions happening in the second half of fiscal 2018. Similar to our sales force reorganization in the America's region, we have taken steps in other regions to ensure a focus on higher growth opportunities, an improved margin profile, and a lean expense structure. We supplemented our business management system with new diagnostic metrics and added transformation initiatives focused on operational areas where we need to accelerate progress. We expect the impact of these initiatives to increase as we exit fiscal 2018, with additional benefits going forward.

As these cost reductions and initiatives are implemented, we expect to see an improvement in our margins that will also be reflected in our returns. We still embrace our value-based management philosophy, which focuses on returns, and we are embarking on this transformation to get the right combination of earns and turns that will drive long-term shareholder value creation. As we look longer term, we expect enterprise operating income margins to be in the 4.5%-5% range, with a targeted return on capital of 250 basis points greater than our cost of capital, which represents a returns range of 10.5%-11.5%. In the September quarter, working capital increased by approximately $328 million sequentially, primarily due to an intentional investment in inventory.

Inventory increased approximately $300 million, with approximately $200 million of the increase being for investments related primarily to strong book-to-bill, extending lead times, and to expand SKUs at Premier Farnell. The remaining $100 million was due to foreign currency and inventory held for a specific supply chain engagement that is working capital neutral. When you exclude the impact of changes in foreign currency exchange rates, working capital increased $265 million, or approximately 6% on a sequential basis. Working capital increased $826 million from the year ago quarter, with a significant portion of the increase driven by the addition of Premier Farnell. In the first quarter of fiscal 2018, cash used for operating activities was $128 million, resulting in a trailing 12-month of cash used for operations of $17 million.

During the quarter, we received approximately $50 million from the sale of Tech Data stock, which we acquired from the sale of the technology solutions business. We used the proceeds to repurchase our own shares via our disciplined share repurchase program. We expect an additional $75 million proceeds from the sale of Tech Data shares by the middle of the December quarter. The remaining $125 million of Tech Data shares will be sold in the June quarter due to contractual restrictions. We expect to use these proceeds to continue to repurchase our own shares. Entering the second quarter of fiscal 2018, we have approximately $327 million remaining under our current share repurchase authorization. We ended the quarter with $540 million of cash, of which $513 million was outside of the U.S.

For working capital purposes, we believe we need between $200 million-$250 million of cash on hand to run our business globally. Going forward, our intention is to maintain the same capital allocation priorities we have pursued in the past: invest in organic growth, return excess cash via our disciplined share repurchase program, sustain our dividend, and invest in strategic M&A opportunities. Looking forward to Avnet's December quarter, we expect sales to be in the range of $4.25 million to $4.55 billion. Based on this revenue forecast, we expect adjusted diluted earnings per share to be in the range of $0.67-$0.77 per share. We have also increased our fiscal 2018 outlook to annual revenue in the range of $18.1 million to $18.5 billion and adjusted diluted EPS in the range of $310 million-$360 million per share.

This increase in fiscal 2018 guidance represents an approximately 5% increase in revenue and a 3% increase in adjusted diluted EPS, as compared to the midpoint of prior guidance. This guidance does not include any additional acquisitions, amortization of intangibles, potential restructuring integration, ERP accelerated depreciation, and other expenses, and certain income tax adjustments. This guidance assumes $123 million average diluted shares outstanding and an effective tax rate in the range of 21%-25%. In addition, the above guidance assumes an average US dollar to the euro currency exchange rate of $1.18 to the euro. This compares with an average US dollar to euro currency exchange rate of $1.08 to the euro in the second quarter of fiscal 2017. Now I'd like to turn the call back over to Bill for some closing remarks. Thank you, Ken.

As we entered fiscal 2018, we knew the supplier channel and program changes would be a headwind to our financial performance. Even with those headwinds, there are many accomplishments to demonstrate that we are competing well and making progress on our strategic initiative. Our AMEA and Asia regions are offsetting the negative supplier impacts by outgrowing the market and executing on our transformation projects. In our Americas regions, the business is stabilizing, with many key metrics indicating that customer confidence and growth are improving. Our digital ecosystem continues to outperform expectations, and we're investing in new services and products to accelerate our growth. Many suppliers are embracing our unique capabilities that are embodied by the combination of Premier Farnell and electronic components to cover the entire product lifecycle.

The addition of innovative solutions from Hackster.io and Dragon Innovation are incenting suppliers to create new partnerships with us that expand their reach to a broader base of customers. We're reacting quickly to the industry shifts by accelerating our cost reduction initiatives to right-size the company. Our investments in growth initiatives include FAEs. Digital and IoT are gaining traction and will ramp as we progress through fiscal 2018. Lastly, we continue to manage our capital prudently, with consistently returning cash to shareholders via dividend and share repurchase programs, and we remain committed to achieve our higher fiscal 2018 revenue and EPS goals. With that, let's open up the lines for Q&A. Operator. Thank you. Ladies and gentlemen, we will now be conducting a question-and-answer session. In the interest of time, please limit yourselves to one question and one follow-up.

If you would like to ask a question, please press Star 1 on your telephone keypad. A confirmation tone will indicate your line is in the question queue. You may press Star 2 if you'd like to remove your question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the Star keys. One moment, please. While we pull for questions. Our first question comes from the line of Param Singh with Merrill Lynch. Please proceed with your question. Hi. Thank you for taking my question. So, you know, firstly, I wanted to get a sense of, you know, the organic growth in Europe and Asia. What was driving that? Was it some share gain? I know you mentioned Marvell. Was that predominantly it? Or is there an underlying demand trend that's benefiting you? And then I have a follow-up. Sure.

Clearly, we are hitting on all cylinders over in AMEA, and automotive continues to be strong for us, as well as industrial. So it's a great quarter. I mean, we're just outperforming, and our demand creation engine is the best it's been. And we're pretty excited about what's going on in both AMEA as well as Asia. Marvell had little impact, no impact this quarter. That's something that's going to happen in the future. And as my follow-up, you know, I noticed that your Premier Farnell margins fell down by about 50 basis points sequentially, and, you know, revenue seems to be stronger. So what led to that margin dip down in Premier? And then what will take you to get to your operating margin target that you outlined? Is that a two- to three-year time frame phenomenon, or what are you thinking about there?

You know, I wouldn't look at quarterly perturbations. If you look at when we picked up Premier Farnell, their operating margins were around 6%, and we've essentially almost doubled those. So, you know, we're driving for more improvement. We made some investments during the quarter in order for us to have better improvement in the future. So we talked about some of the SKU investments that we've made, as well as investments in people in the organization to strengthen their team. But we're ecstatic about the performance that's been happening with Premier Farnell, and we're also very happy about the synergies that we see between AVNET and Premier Farnell with the lead transfer back and forth, as well as the ability to be able to add new supply lines that we would never be adding to Premier Farnell if it wasn't for AVNET. Got it. Thank you. Thank you.

Our next question comes from the line of Adrian Colby with Deutsche Bank. Please proceed with your question. Hi. Thanks for taking my question. I wanted to follow up on Param's question. You've mentioned in the script that you do expect to get into that 4.5%-5% targeted operating margin range. Can you comment on if you're still expecting to get to that 4% zip code in fiscal 2019? What kind of a time frame we're looking at to reach that targeted? Well, as we said in the script, it was 2020. It's kind of the direction. And, of course, we'd like to work in getting that sooner than later. And with the four pillars that I've talked about of what we're trying to do as a company, we have a good shot at being able to bring that in. But right now, our target is 2020. Thanks.

As a follow-up, can you update us on the progress of your CFO search? Sure. Well, we've looked at many candidates internally. We're lucky to have a rich slate internally here. And as you've heard from our interim CFO right now, he's doing a fabulous job. And we had a list of probably about 25+ candidates outside, and we've gone through a pretty rigorous process. And I'm happy to say that I hopefully will conclude that by the end of the calendar year, and I will make an announcement. Thank you. Thank you. Our next question comes from the line of Matt Sheeran with Stifel. Please proceed with your question. Yes. Thank you. A question on the gross margin. You talked about why that was down, obviously, North America, the supplier reductions, and then also the ERP issues there.

As you look forward, and I know you talked about some really nice growth in the demand creation business and design wins. And then as you sort of fix the ERP issues and get that behind you in North America, how should we be thinking about gross margin as we get through your fiscal year? I'd like Ken to give you some more specifics on it, but I will tell you this. I think what we've seen is, too, is we've turned the quarter now in the Americas. It's been a rough slog for us over the course since we've implemented the ERP, and I'm happy to say that we've added in, back in place, many of the headlights that we lost when we went to go live.

And when you look at the ways to measure the health of that business, you will see that we've bottomed out and turned on all of those, and we're seeing real progress from the Americas team now. So we'll see margin accretion as we go forward, but we have not laid out the specifics exactly what that is yet. Bill, the only thing I'll add is in the second half, we shift to a higher margin because of the Western region. So we expect some recovery in the Americas as well as the Western region mix. So we expect to exit the year at a much little bit higher gross profit margin percentage than Q1. Okay. And your guidance for Q1, just doing the math on what you said in terms of the cost-cutting opportunities, it looks like gross margin will be flattened down again. Is that right?

I think gross margin is going to be up, you know, between 10-20 basis points. Oh, it's going to be up a little bit. Okay. Okay. Great. And just lastly, just a question for Phil, just in terms of your take on the current cycle here, because you've got extended lead times on certain components, concern about some double ordering in the channel where suppliers are seeing allocation. But then we've got what looks like fairly good underlying demand in broader industrial markets, auto markets, areas where you play. So what's your take, Phil, in terms of their current cycle, and how much do we have left here? Hey, Matt. Thanks. Good to hear from you. Well, how much we have left, that's a very difficult one to call. I can give you what we're seeing today.

And right now, Matt, in all regions, our book to bills are still positive. You average it out, it's probably about 1.04-1. And in our world, that's healthy. If it was 1.2-1, we'd be more concerned. So 1.04-1 is a healthy book to bill based on our current billings. We do check, and we watch very closely our cancellations as a percentage of revenues. And right now, you know, we've put in cancellations, you know, hard backlog as well as best we can. The MRP forecast we take in from customers, which is anywhere from 50%-60% of our business where we're ERP sharing, if you will. And there's nothing to indicate that the cancellations or backlog adjustments are anything out of the norm, which is also positive. And then you look at the lead times.

I mean, you know, the lead times overall, if you look in the, you know, the ceramics, the caps, the resistors, the discretes, there's nothing to say that the lead times are coming in, which is, you know, good for us, frankly, which is why, by the way, we talked about our inventory investment. We're continuing to try to cover that lead time for our customer base. So again, as best we can see, sitting here right here today, on this day, things look healthy, and they look healthy into the March-June quarter, as best we can tell. So I guess I'll leave it at that, Matt. Okay. Fair enough. Thanks so much. Thank you. Thank you. Our next question comes from the line of Adam Tyndall with Raymond James. Please proceed with your question. Okay. Thank you. First question for Bill.

You alluded to regaining momentum, and the job that your Americas team has done sounds encouraging. Can you talk about the decision to raise full-year revenue guidance more meaningfully? I understand the upside in the quarter was just over $300 million or so, but it seems like this was carried through almost three times over based on the full-year guidance. It sounds like there's a lot of positive momentum here, and I'm just trying to understand what gives you the confidence to do that at this time. And then I have a follow-up thing. Okay. A couple of things. First of all, as you and I have talked on plenty of occasions, that I wasn't quite ready to say that we had turned the corner last quarter with Americas, and we had to ride it out. And right now, we now believe that we've now turned the corner.

So that gives us great promise that we hit a little watermark, and we're going to fight our way back. We've demonstrated in other regions that we can win, and we can win big. And I like to say it this way, is that the team has moved from defense to offense now. So that part's really good. The other thing I'd say it's helped us is, you know, we're in an environment where FX is our friend. So that's helped a bit as well. Okay. And then maybe just one for Phil. I understand inventory is up as order trends are better, and it sounds like many metrics support this build, as you alluded to in the previous answer. Just wondering to what extent suppliers are incentivizing distributors to take more inventory. In other words, is there a gross margin benefit coming at some point? Thanks. Yeah. Hi, Adam.

No. Generally, no, that's not incentive at all. For the most part, those days are behind us on the suppliers' pushes to take more inventory. So I'm giving you what's real demand, okay, based on our backlog, real demand based on the MRPs we're taking in. And then, of course, we manage our pipelines based on lead time plus a certain amount of outlook. Okay? But no, there's no incentive for us to take inventory in sooner. Okay. Thanks. Thank you. Our next question comes from the line of William Stein with SunTrust Robinson Humphrey. Please proceed with your question. Thanks for taking my question. Really just a couple of clarifications. First, I think you noted that you expect ROIC to be 2.5% above your cost of capital.

Can you remind us of, maybe you said it before, but I didn't get it, what you believe your cost of capital is? Yeah. So the cost of capital is between 8% and 9%, depending on our debt to equity mix. Thank you. And then you also, in the past, have discussed the future sort of benefits of integrating Premier Farnell with your traditional business in that your hope was that you could make the transition from Premier business to traditional AVNET business without taking a step function down in margins. That certainly would be a great achievement for the company. Any progress in that effort that's worth noting yet? Any timing on that? And I have one more sort of housekeeping, Adam, if I can.

I say this, well, is that we mentioned that we've seen great progress with lead transfer between the two businesses, and it's up significantly quarter-over-quarter. 3,000 leads have been passed, and it's corresponding to $40 million. While that's not a huge number yet, it's 3x what it was last quarter. So it's a big move in the right direction. The collaboration that's happening across the world is really fabulous. So I've been very encouraged with how the teams are interacting together and how customers and suppliers really are embracing this entire concept. Is the margin, that slow transition, are you seeing that actually take form? Yes. Yes. I'll give you a perfect example. In the Americas, we instituted web-based pricing below a certain price threshold today, and that essentially does two things for us.

One, it gives the Premier Farnell pricing essentially, and it's a lower cost-to-serve model because we're not talking to ISRs or doing it themselves on the web. If I can have just one housekeeping issue. Can you remind us of all the cost savings? I know that you had this one related to Premier Farnell, one, of course, related to ERP, but there was something separate related to, I think it was G&A, that was sort of a drag from the tech solutions sale, sort of stranded costs in a sense. Is that all encompassed in the $125 number that you've highlighted? That's correct. The $120 is all in with all of the different transformation initiatives plus just cost-cutting as well as Premier Farnell. It's kind of one bucket now. I'll make a comment about the Tech Data carve-out. That's gone extremely well.

We've been really partnered extremely well with the Tech Data team, and we've phased out many of the transitional service agreements, and we're down to just a few right now. The most notable one is the IT, which will last probably to the March or June quarter, and then we'll essentially be done. And we have essentially no stranded costs associated with that because we've managed it so effectively over the last several months. And just to make one slight correction, it's $120 million, not $125 million. Yeah. Yeah. I heard that. Thank you very much for the clarifications. Appreciate it. Thank you. Our next question comes from the line of Sean Harrison with Longbow Research. Please proceed with your question. Hi. Morning.

apologize for such a remedial question, but the, I guess, net savings left to come would be $15 million per quarter from the run rate of OpEx you exited the September quarter with. Is that the correct way to think about it? Sean, can you repeat that one more time? The correct way to think about the remaining, I guess, you had $60 million of annualized OpEx savings you generated, I believe, this quarter. And so you have about $60 million on a net basis to come. And so that would say SG&A on an absolute basis should be down about $15 million from where you exited the September quarter. That's correct. Yeah. Okay. Perfect. Two other questions, if I may. How much of the supplier losses came out then in the September quarter? My math says maybe about $750 million.

So you have $250 million to go in the December quarter on an annual basis? No. The majority of it's out. We have a little bit of trickle over into the December quarter. As far as revenue is concerned, very minimal in the second quarter of supplier loss. So it's behind us on a now-go-forward run rate. So you can look to see that in whoever picked it up in their numbers. Gotcha. As I look at the guidance then, it looks a little. Who knows what seasonality is anymore. But it looks a little bit worse. It looks a little bit worse than seasonal. And so I don't know if there was some pull forward of demand in the September quarter. Maybe I have no idea what, like I said, seasonality is, or if that's why I asked the question on the suppliers leaving. Yeah.

I would say it's from the historical seasonality when you take out the select high-volume supply chain engagements in Asia, it would be just below the low end. I believe that range was 0-3 down. Okay. And then lastly, if I may, just inventory positioning versus where you see demand. I know you've been trying to build inventory for a variety of reasons, but do you see the need to continue to build inventory on an absolute dollar basis, or when may that normalize? No, I think we're actually, Sean, this is Phil. No, I think it's going to start to normalize. As we said, we built up some inventory in this quarter deliberately. We also had another strategic opportunity. It was working capital neutral.

So when you take that out, I think we're actually, from an inventory standpoint, in pretty good shape, particularly based on what you just talked about, the guidance for the quarter. So I feel we're about right on the inventory. Perfect. Thank you, Phil. You got it. Thank you. Our next question comes from the line of Stephen Fox with Cross Research. Please proceed with your question. Thanks. Good morning. A couple of questions for me, please. First off, you mentioned the sharp increase in design registrations, the 41%. Can you dissect that a little bit more? How much was maybe related to just ongoing business as opposed to the actions you took to redeploy FAEs? And then I have a follow-up.

Well, it's hard to break that out, but I will tell you this way is that we're definitely seeing acceleration because this has been a major focus of the company. It's something that Phil and I spend a lot of energy on, talking to our teams about and making sure that we got the right programs in place with every one of the suppliers. And we've got commitments with all of them in order for us to replace sockets as fast as possible. And as I mentioned, some of the regions we actually replaced all the sockets that we lost when we had the supplier loss, which is truly remarkable to do that over a few quarters. Yeah. Steve, let me. This is Phil. Let me just add on that. I mean, I'll be a little bit more deliberate. Maniacal focus on design registrations and converting those to design wins.

We've taken, as you know, a couple of suppliers and changed their programs or aren't with us anymore. We did not rebudget our teams. We said, "Hey, we have a certain run rate and design registration design wins. We've got to make up that run rate with the core lines we have." It's noted in the script. We got a bunch of lines that are benefiting from that, and we're getting rewarded for it. As long as we're going to get rewarded for that from a return on investment, we're going to be driving it like no tomorrow. And those registrations still start translating into revenues how far down the road from when you sort of realize? Yeah. And it depends. If it's a low-end controller, that could be 6-9 months. If it's a higher-end FPGA, it could be 12-18 months.

So I think, Steve, if you use a year as an average, probably a year to 15-18 months, probably. That's helpful. And then just a little more clarity on the book-to-bill numbers you talked about. I mean, is that a reflection also, again, of sort of improving operations, getting better go-to-market, etc.? Or how much does that just a natural reflection of market versus, say, what you guys are doing on your own to turn things around? I'll say a comment before we jump in. I will tell you, if you look at what's happening over in Europe and Asia, that's a reflection of the market. If you look at what's happening in Americas, it's probably a combination of both because we're now regaining all the confidence that we lost with customers and suppliers in the Americas.

You see a huge rebound there, and some of that, of course, is associated with their confidence return. Yeah. I'll add on that. I think the markets in Europe and Asia are solid, particularly around automotive industrial, which we play extremely strong in. I would say it's our team executing those two regions above the market. So we feel very good about that. In the Americas, I mean, we've been candid in the script. We weren't participating in the upmarket as much. Let's just face it. So our team has been working hard just to kind of tread water now as we start to come back out of this thing. I think we'll not only enjoy a little bit of the market uptick, but our execution side and customer confidence coming back should help us. Awesome. All right. Thank you very much. Thank you.

Our next question comes from the line of Mark Delaney with Goldman Sachs. Please proceed with your question. Yes. Good morning. Thanks very much for taking the questions. First question, I'm hoping to better understand the new fiscal 2018 guidance. I think the company took up the midpoint of EPS guidance by $0.10. If you could help us understand how much of that is coming from the now lower tax rate assumption and how much is from the FX tailwinds? And then it seems like that's kind of all or more than all of that $0.10 increase in guidance, even though revenue is coming up. So it seems like there's incremental margin pressure even versus what was assumed before, which is a little surprising to me with lead time starting to expand.

So can you just help us understand what the incremental margin pressure may be that's now baked into the new fiscal 2018 guidance? That'd be helpful. Yeah. I guess how I would characterize it is most of the improvement is coming from FX and the below-the-line share count and tax rate. And what we mentioned earlier was that the margin recovery we expect in the second half of the year, but because of the margin pressure on the first quarter, there is some pressure on the overall guidance. Okay. So margins do seem, though, that they're incrementally weaker than before. And maybe I'll just kind of dovetail into my second question. I'm just trying to better understand the source of the revenue upside. So is any of that some of those high-volume engagements that Avnet participated in historically?

Is that maybe why margins are now lower than what was previously assumed? Or just kind of, again, any sort of better understanding of what the source of the margin pressure incrementally may be? European supplier margins. Yeah. I guess I would characterize as the Americas region underperformance of some of their margin pressures, which we already talked about. And some of the business we're winning isn't necessarily high-volume supply chain, but there is some mix of fulfillment versus demand creation. And then as well, some of the demand creation isn't as high a margin as it used to be what Phil talked about in terms of some of the shift. Okay. That's helpful. If I could just ask one last one.

The company talked about a couple of new wins and not looking for any specific supplier numbers, but in totality, you talked about Marvell, I think IDT, expanded Xilinx. Can you just help us understand the full-year revenue opportunity from some of those newer suppliers that you talked about? That's hard to really estimate what it is. I mean, we got kind of a ballpark range, but we're not yet in a position where I would comment on that. Got it. Thank you. Thank you. Our final question comes from the line of Jim Suva with Citi. Please proceed with your question. Thanks very much. I have two questions. I'll ask them both at the same time.

First, based upon your comment, is it correct, if my math is correct, that basically the margins both on a percent and dollar basis are kind of bottoming here that you're calling for a bottom here this reported September quarter as far as looking ahead? And then my follow-up question is the ROIC, return on invested capital that you mentioned, 2-300 basis points above weighted average cost of capital. That's very impressive. I just want to make sure. Is that an all-in number, or does that exclude things like amortization and various other costs? I think the first question, yes, is the answer to that question. We bottomed out. We plan to work our way back in. And the four pillars that I talked about are going to help us, in fact, get some margin back.

We're just not yet bullish enough to start predicting a big margin expansion. But clearly, as the four things I mentioned, our unique end-to-end ecosystem, the digitization of the business, the huge transformation effort that we've been undergoing since last September of this year, we started implementation in January this year. As I mentioned, we're doing extremely well against that. And the right-sizing of the business with the cost that we're taking out. All those will give us an opportunity to expand operating income margins. But I'll take the second question. To answer the second question, I would say that the guidance we gave on returns is specific to how we look at our adjusted results. So amortization, accelerated depreciation, and some of those things are excluded. Thank you so much for the details. Thank you. There are no further questions at this time.

I would like to turn the call back over to Mr. Keenan for any closing remarks. Thank you for participating in our earnings call today. Our first quarter fiscal 2018 earnings press release can be accessed in downloadable PDF format at our website, www.ir.avnet.com. Thank you. Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation and have a nice day.