The Daily Magic Formula Stock for 07/04/2008 is Systemax Inc. According to the Magic Formula Investing Web Site, the ebit yield is 18% and the EBIT ROIC is 50-75 %.
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Systemax is primarily a direct marketer of brand name and private label products. Our operations are organized in three reportable business segments â€” Technology Products, Industrial Products and Hosted Software. Our Technology Products segment sells computers, computer supplies and consumer electronics which are marketed in North America and Western Europe. Most of these products are manufactured by other companies. We assemble our own personal computers (â€śPCsâ€ť) and sell them under the trademarks Systemaxâ„˘ and Ultraâ„˘ . We also sell certain computer-related products manufactured for us to our own design under the trademark Ultraâ„˘ . Technology Products accounted for 92% of our net sales in 2007. Our Industrial Products segment sells a wide array of material handling equipment, storage equipment and consumable industrial items which are marketed in North America. Most of these products are manufactured by other companies. Some products are manufactured for us to our own design and marketed under the trademarks Globalâ„˘ , GlobalIndustrial.comâ„˘ and Nexelâ„˘. Industrial products accounted for 8% of our net sales in 2007. In both of these segments we offer our customers a broad selection of products, prompt order fulfillment and extensive customer service. Our Hosted Software segment, which became a reportable segment in 2006, participates in the emerging market for on-demand, web-based business software applications through the marketing of our PCS ProfitCenter Software â„˘ application. See Note 11 to the consolidated financial statements included in Item 15 of this Form 10-K for additional financial information about our business segments as well as information about our geographic operations.
The Company was incorporated in Delaware in 1995. Certain predecessor businesses which now constitute part of the Company have been in business since 1955. Our headquarters office is located at 11 Harbor Park Drive, Port Washington, New York.
On January 5, 2008 the Company entered into an asset purchase agreement with CompUSA Inc. Under the agreement the Company acquired CompUSAâ€™s e-commerce business and 16 of its retail leases and related fixtures for consideration of approximately $30.4 million. This acquisition accelerates the Companyâ€™s planned expansion into the retail market place and when consummated in early 2008 will give the Company approximately 26 retail storefronts operating in North America and Puerto Rico.
Effective the fourth quarter of 2007, the Company changed its fiscal year end from a calendar year ending on December 31 to a fiscal year ending at midnight on the Saturday closest to December 31. Fiscal years will typically include 52 weeks, but every few years will include 53 weeks which was the case in 2005. Fiscal 2007 ended on December 29 and included 52 business weeks. For clarity of presentation herein, all fiscal years are referred to as if they ended on December 31. The fiscal year will be divided into four fiscal quarters that each end at midnight on a Saturday. Fiscal quarters will typically include 13 weeks, but the fourth quarter will include 14 weeks in a 53 week fiscal year. For clarity of presentation herein, all fiscal quarters are referred to as if they ended on the traditional calendar month. The effect of the change in year end in 2007 was de minimis.
We offer more than 100,000 brand name and private label products. We endeavor to expand and keep current the breadth of our product offerings in order to fulfill the increasingly wide range of product needs of our customers.
Our computer sales are primarily offerings of brand name original equipment manufacturers, as well as our own Systemax and Ultra brands. Computer supplies and consumer electronics related products include supplies such as laser printer toner cartridges and ink jet printer cartridges; media such as flash memory, recordable disks and magnetic tape cartridges; peripherals such as hard disks, CD-ROM and DVD drives, printers and scanners; memory upgrades; data communication and networking equipment; monitors; digital cameras; plasma and LCD TVs; MP3 and DVD players; PDAs; and packaged software.
We assemble our Systemax and Ultra brand PCs in our 297,000 square foot, ISO-9001-certified facility in Fletcher, Ohio. We purchase components and subassemblies from suppliers in the United States as well as overseas. Certain parts and components for our PCs are obtained from a limited group of suppliers. We also utilize licensed technology and computer software in the assembly of our PCs. For a discussion of risks associated with these licenses and suppliers, see Item 1A, â€śRisk Factors.â€ť
Our industrial products include storage equipment such as wire and metal shelving, bins and lockers; light material handling equipment such as hand carts, pallet jacks and hand trucks; ladders, furniture, small office machines and related supplies; and consumable industrial products such as first aid items, safety items, protective clothing and OSHA compliance items.
We began to market our PCS ProfitCenter Software â„˘ suite of business applications in 2004. PCS ProfitCenter Software â„˘ is a web-based application which is delivered as an on-demand service over the internet. The product helps companies automate and manage their entire customer life-cycle across multiple sales channels (internet, call centers, outside salespersons, etc.). We have recognized less than $1 million in revenues for this service to date.
Sales and Marketing
We market our products to both business customers and individual consumers. Our business customers include for-profit businesses, educational organizations and government entities. We have developed numerous proprietary customer and prospect databases. We consider our business customers to include the various individuals who work within an organization rather than just the business itself.
We have established a multi-pronged system of direct marketing to business customers, consisting primarily of relationship marketers, catalog mailings and proprietary internet websites, the combination of which is designed to maximize sales. Our relationship marketers focus their efforts on our business customers by establishing a personal relationship between such customers and a Systemax account manager. The goal of the relationship marketing sales force is to increase the purchasing productivity of current customers and to actively solicit newly targeted prospects to become customers. With access to the records we maintain of historical purchasing patterns, our relationship marketers are prompted with product suggestions to expand customer order values. In the United States, we also have the ability to provide such customers with electronic data interchange (â€śEDIâ€ť) ordering and customized billing services, customer savings reports and stocking of specialty items specifically requested by these customers. Our relationship marketersâ€™ efforts are supported by frequent catalog mailings and e-mail campaigns, both of which are designed to generate inbound telephone sales, and our interactive websites, which allow customers to purchase products directly over the Internet. We believe that the integration of our multiple marketing methods enables us to more thoroughly penetrate our business, educational and government customer base. We believe increased internet exposure leads to more internet-related sales and also generates more inbound telephone sales; just as we believe catalog mailings and email campaigns which feature our websites results in greater internet-related sales.
Our growth in net sales continues to be supported by strong growth in sales to individual consumers, particularly through e-commerce means. To reach our consumer audience, we use online methods such as website campaigns, banner ads and e-mail campaigns. We are able to monitor and evaluate the results of our various advertising campaigns to enable us to execute them in the most cost-effective manner. As part of our marketing strategy we advertise manufacturersâ€™ mail-in-rebates on many products we sell and, in some cases, offer our own rebates. We combine our use of e-commerce initiatives with catalog mailings, which generate calls to inbound sales representatives. These sales representatives use our information systems to fulfill orders and explore additional customer product needs. Sales to consumers are generally fulfilled from our own stock, requiring us to carry more inventory than we would for our business customers. We also periodically take advantage of attractive product pricing by making opportunistic bulk inventory purchases with the objective of turning them quickly into sales. We have also successfully increased our sales to individual consumers by using retail outlet stores. As of December 31, 2007 we had eleven such retail locations open in North America and four in Europe, with several new retail locations under construction. With the CompUSA acquisition, the Company will add approximately 16 retail outlets in 2008, bringing total retail outlets to approximately 26 in North America and Puerto Rico. The Company expects to selectively add to its North America retail network in the remainder of 2008.
The worldwide growth in active internet users has made e-commerce a significant opportunity for sales growth. In 2007, we had approximately $915 million in internet-related sales, an increase of $96 million, or 12%, from 2006. E-commerce sales represented approximately 33% of total revenue in 2007, compared to approximately 35% in 2006. The increase in our internet-related sales enables us to leverage our advertising spending, allowing us to reduce our printed catalog costs while maintaining customer contact.
We currently operate multiple e-commerce sites, including www.tigerdirect.com, www.compusa.com, www.compusagoved.com, www.compusabusiness.com, www.misco.co.uk, www.globalindustrial.com, www.tigerdirect.ca, www.misco.de, www.misco.fr, www.infotelusa.com, www.misco.nl, www.globalcomputer.com, www.misco.it, www.misco.es, www.globalgoved.com, www.misco.se and www.systemaxpc.com, and we continually upgrade the capabilities and performance of these web sites. Our internet sites feature on-line catalogs of thousands of products, allowing us to offer a wider variety of computer and industrial products than our printed catalogs. Our customers have around-the-clock, on-line access to purchase products and we have the ability to create targeted promotions for our customersâ€™ interests. Many of our internet sites also permit customers to purchase â€śbuild to orderâ€ť PCs configured to their own specifications.
In addition to our own e-commerce web sites, we have partnering agreements with several of the largest internet shopping and search engine providers who feature our products on their web sites or provide â€śclick-throughsâ€ť from their sites directly to ours. These arrangements allow us to expand our customer base at an economical cost.
We currently produce a total of 18 full-line and targeted specialty catalogs in North America and Europe under distinct titles. Our portfolio of catalogs includes such established brand names as TigerDirect.comâ„˘, Global Computer Suppliesâ„˘,TigerDirect.caâ„˘, MiscoÂ®, HCS Miscoâ„˘, Global Industrialâ„˘, ArrowStarâ„˘ and 06â„˘. Full-line computer product catalogs offer products such as PCs, notebooks, peripherals, computer components, magnetic media, data communication, networking and power protection equipment, ergonomic accessories, furniture and software. Full-line industrial product catalogs offer products such as material handling products and industrial supplies. Specialty catalogs contain more focused product offerings and are targeted to individuals most likely to purchase from such catalogs. We mail catalogs to both businesses and consumers. In the case of business mailings, we mail our catalogs to many individuals at a single business location, providing us with multiple points-of-entry. Our in-house staff designs all of our catalogs. In-house catalog design helps reduce overall catalog expense and shortens catalog production time. This allows us the flexibility to alter our product offerings and pricing and to refine our catalog formats more quickly. Our catalogs are printed by third parties under fixed pricing arrangements. The commonality of certain core pages of our catalogs also allows for economies of scale in catalog production.
As noted above, the increase in our internet-related sales allowed us to reduce the distribution of our catalogs to 57 million in 2007, which was 3.4% fewer than in the prior year. In 2007 we mailed approximately 40 million catalogs in North America, a 2.5% reduction from last year and approximately 17 million catalogs, or 5.6% fewer than 2006, were distributed in Europe.
Customer Service, Order Fulfillment and Support
We generally provide toll-free telephone number access for our customers. Certain of our domestic call centers are linked to provide telephone backup in the event of a disruption in phone service. In addition to telephone orders, we also receive orders by mail, fax, electronic data interchange and through the internet.
A large number of our products are carried in stock, and orders for such products are fulfilled on a timely basis directly from our distribution centers, typically on the day the order is received. We operate out of multiple sales and distribution facilities in North America and Europe. The locations of our distribution centers enable us to provide our customers next day or second day delivery. Orders are generally shipped by third-party delivery services in the United States and in Europe. The locations of our distribution centers in Europe have enabled us to market into additional countries with limited incremental investment. We maintain relationships with a number of large distributors in North America and Europe that also deliver products directly to our customers.
We provide extensive technical telephone support to our Systemax and Ultra brand PC customers. We maintain a database of commonly asked questions for our technical support representatives, enabling them to respond quickly to similar questions. We conduct regular on-site training seminars for our sales representatives to help ensure that they are well trained and informed regarding our latest product offerings.
We purchase the majority of our products and components directly from manufacturers and large wholesale distributors. During 2007 and 2006, Ingram Micro accounted for 14.4% and 12.8% of our purchases. During 2005, no vendor accounted for more than 10% of our purchases. The loss of this vendor, or any other key vendors, could have an adverse effect on us.
Certain private label products are manufactured by third-parties to our specifications. Many of these private label products have been designed or developed by our in-house product design and development teams.
Competition and Other Market Factors
The North American and European technology product markets are highly competitive, with many U.S., Asian and European companies vying for market share. There are few barriers of entry, with these products being sold through the direct market channel, mass merchants, over the internet and by computer and office supply superstores.
Timely introduction of new products or product features are critical elements to remaining competitive. Other competitive factors include product performance, quality and reliability, technical support and customer service, marketing and distribution and price. Some of our competitors have stronger brand-recognition, broader product lines and greater financial, marketing, manufacturing and technological resources than us. Additionally, our results could also be adversely affected should we be unable to maintain our technological and marketing arrangements with other companies, such as MicrosoftÂ®, IntelÂ® and Advanced Micro DevicesÂ®.
The North American technology products market is highly fragmented and characterized by multiple channels of distribution including direct marketers, local and national retail computer stores, computer resellers, mass merchants, computer and office supply â€śsuperstoresâ€ť and internet-based resellers. In Europe, our major competitors are regional or country-specific retail and direct-mail distribution companies and internet-based resellers.
With conditions in the market for technology products remaining highly competitive, continued reductions in retail prices may adversely affect our revenues and profits. Additionally, we rely in part upon the introduction of new technologies and products by other manufacturers in order to sustain long-term sales growth and profitability. There is no assurance that the rapid rate of such technological advances and product development will continue.
The market for the sale of industrial products in North America is highly fragmented and is characterized by multiple distribution channels such as retail outlets, small dealerships, direct mail distribution, internet-based resellers and large warehouse stores. We also face competition from manufacturersâ€™ own sales representatives, who sell industrial equipment directly to customers, and from regional or local distributors. Many high volume purchasers, however, utilize catalog distributors as their first source of product. In the industrial products market, customer purchasing decisions are primarily based on price, product selection, product availability, level of service and convenience. We believe that direct marketing via catalog, the internet and sales representatives is an effective and convenient distribution method to reach mid-sized facilities that place many small orders and require a wide selection of products. In addition, because the industrial products market is highly fragmented and generally less brand oriented, it is well suited to private label products.
Hosted Software offers an on-demand software solution for the multi-channel commerce industry. The software distribution model in which a software application is hosted by a software vendor or a service provider and made available to customers over the Internet is also known as software as a service (SaaS). Leading technology analysts generally agree that traditional software licensing is being replaced with on-demand delivery models that increase the predictability of information technology financial expenditures while making it easier for multi-channel commerce companies to manage their customers, products and services regardless of sales channel.
The increasing replacement of obsolete software solutions by multi-channel retailers for newer technologies provides Hosted Software with a competitive edge which is likely to give rise to greater deployments of its on-demand software. The advantages of having a single solution, single database to manage all sales channels (eCommerce, call center, catalog, mail order, retail) with web-based accessibility and faster implementation cycles will fuel continued penetration into the multi-channel software market space.
As of December 31, 2007, we employed a total of 3,535 employees, including 3,140 full-time and 395 part-time employees, of whom 2,343 were in North America and 1,192 were in Europe.
Lawrence P. Reinhold was appointed Executive Vice President and Chief Financial Officer, the principal financial officer of the Company, effective January 17, 2007*. Mr. Reinhold was a business, finance and accounting consultant in 2006. Previously he was Executive Vice President and Chief Financial Officer of Greatbatch, Inc., a publicly traded developer and manufacturer of components used in implantable medical devices from 2002 through 2005; Executive Vice President and Chief Financial Officer of Critical Path, Inc. a publicly traded communications software company in 2001; and a Managing Partner of PricewaterhouseCooopers LLP with responsibility for its Technology, Information, Communications, Media and Entertainment industry practice in the Midwestern United States from 1998 until 2000 (and held other positions at that firm from 1982 until 2000). He received his BS in Business Administration (in 1982) and his MBA (in 1987) from San Diego State University.
Thomas Axmacher was appointed Vice President and Controller of the Company effective October 2, 2006**. He was previously Chief Financial Officer of Curative Health Services, Inc., a publicly traded health care company. He held that position from 2001 to 2006. From 1991 to 2001 Mr. Axmacher served as Vice President and Controller of that company. From 1986 to 1991 Mr. Axmacher served as Vice President and Controller of Tempo Instrument Group, an electronics manufacturer. Mr. Axmacher received a Bachelor of Science degree in Accounting in 1982 from Albany University and a Master of Business Administration degree in 1992 from Long Island University.
Curt S. Rush has been General Counsel and Secretary of the Company since 1996. Prior to joining the Company, Mr. Rush was employed from 1993 to 1996 as Corporate Counsel to Globe Communications Corp. and from 1990 to 1993 as Corporate Counsel to the Image Bank, Inc. Prior to that he was a corporate attorney with the law firms of Shereff, Friedman, Hoffman & Goodman and Schnader, Harrison, Segal & Lewis. Mr. Rush graduated from Hunter College in 1981 with a B.A. degree in Philosophy and graduated with honors from Brooklyn Law School in 1984 where he was Second Circuit Review Editor of the Law Review. He was admitted to the Bar of the State of New York in 1985.
* Steven Goldschein retired effective January 17, 2007 as the Company's Senior Vice President and Chief Financial Officer.
** Michael J. Speiller resigned effective September 29, 2006 as the Company's Vice President and Controller.
MANAGEMENT DISCUSSION FROM LATEST 10K
Systemax is primarily a direct marketer of brand name and private label products. Our operations are organized in three reportable business segments â€” Technology Products, Industrial Products and Hosted Software. Our Technology Products segment sells computers, computer supplies and consumer electronics which are marketed in North America and Western Europe. Most of these products are manufactured by other companies. We assemble our own PCs and sell them under our own trademarks Systemaxâ„˘ and Ultraâ„˘ . We also sell certain computer-related products manufactured for us to our own design under the trademark Ultraâ„˘. Technology products accounted for 92% of our net sales in 2007. Our Industrial Products segment sells a wide array of material handling equipment, storage equipment and consumable industrial items which are marketed in North America. Most of these products are manufactured by other companies. Some products are manufactured for us to our own design and marketed under the trademarks Globalâ„˘ , GlobalIndustrial.comâ„˘ and Nexelâ„˘. Industrial products accounted for 8% of our net sales in 2007. In both of these product groups, we offer our customers a broad selection of products, prompt order fulfillment and extensive customer service. Our Hosted Software segment, which became a reportable segment in 2006, participates in the emerging market for on-demand, web-based business software applications through the marketing of our PCS ProfitCenter Software â„˘ application. See Note 11 to the consolidated financial statements included in Item 15 of this Form 10-K for additional financial information about our business segments as well as information about our geographic operations.
The market for computer products and consumer electronics is subject to intense price competition and is characterized by narrow gross profit margins. The North American industrial products market is highly fragmented and we compete against multiple distribution channels. Distribution of information technology and our industrial products is working capital intensive, requiring us to incur significant costs associated with the warehousing of many products, including the costs of leasing warehouse space, maintaining inventory and inventory management systems, and employing personnel to perform the associated tasks. We supplement our on-hand product availability by maintaining relationships with major distributors and manufacturers, utilizing a combination of stocking and drop-shipment fulfillment.
The primary component of our operating expenses historically has been employee related costs, which includes items such as wages, commissions, bonuses, and employee benefits and stock option expenses. We have made substantial reductions in our workforce and closed or consolidated several facilities over the past several years. Our restructuring actions and other cost savings measures implemented over the last several years resulted in reducing our consolidated selling, general and administrative expenses from 15.2% of net sales in 2003 to 11.9% of net sales in 2007. We will continue to monitor our costs and evaluate the need for additional actions.
During the first quarter of 2008 the Company entered into an asset purchase agreement with CompUSA Inc. and acquired CompUSAâ€™s e-commerce business and 16 of its retail leases and related fixtures for direct consideration of approximately $30.4 million. This acquisition accelerates the Companyâ€™s planned expansion into the retail market place for Technology Products and gives the Company 26 retail outlets in North America and Puerto Rico.
Critical Accounting Policies and Estimates
Our significant accounting policies are described in Note 1 to the consolidated financial statements. The policies below have been identified as critical to our business operations and understanding the results of operations. Certain accounting policies require the application of significant judgment by management in selecting the appropriate assumptions for calculating financial estimates. By their nature, these judgments are subject to an inherent degree of uncertainty, and as a result, actual results could differ from those
estimates. These judgments are based on historical experience , observation of trends in the industry, information provided by customers and information available from other outside sources, as appropriate. Management believes that full consideration has been given to all relevant circumstances that we may be subject to, and the consolidated financial statements of the Company accurately reflect managementâ€™s best estimate of the consolidated results of operations, financial position and cash flows of the Company for the years presented. Actual results may differ from these estimates under different conditions or assumptions.
Revenue Recognition. We recognize product sales when persuasive evidence of an order arrangement exists, delivery has occurred, the sales price is fixed or determinable and collectibility is reasonably assured. Generally, these criteria are met at the time of receipt by customers when title and risk of loss both are transferred. Sales are shown net of returns and allowances, rebates and sales incentives. Reserves for estimated returns and allowances are provided when sales are recorded, based on historical experience and current trends.
Accounts Receivable and Allowance for Doubtful Accounts . We record an allowance for doubtful accounts to reflect our estimate of the collectibility of our trade accounts receivable. We evaluate the collectibility of accounts receivable based on a combination of factors, including an analysis of the age of customer accounts and our historical experience with accounts receivable write-offs. The analysis also includes the financial condition of a specific customer or industry, and general economic conditions. In circumstances where we are aware of customer charge-backs or a specific customerâ€™s inability to meet its financial obligations, a specific reserve for bad debts applicable to amounts due to reduce the net recognized receivable to the amount management reasonably believes will be collected is recorded. In those situations with ongoing discussions, the amount of bad debt recognized is based on the status of the discussions. While bad debt allowances have been within expectations and the provisions established, there can be no guarantee that we will continue to experience the same allowance rate we have in the past.
Inventories . We value our inventories at the lower of cost or market, cost being determined on the first-in, first-out method. Reserves for excess and obsolete or unmarketable merchandise are provided based on historical experience, assumptions about future product demand and market conditions. If market conditions are less favorable than projected or if technological developments result in accelerated obsolescence, additional write-downs may be required. While obsolescence and resultant markdowns have been within expectations, there can be no guarantee that we will continue to experience the same level of markdowns we have in the past.
Long-lived Assets. Management exercises judgment in evaluating our long-lived assets for impairment. We believe we will generate sufficient undiscounted cash flow to more than recover the investments made in property, plant and equipment. Our estimates of future cash flows involve assumptions concerning future operating performance and economic conditions. While we believe that our estimates of future cash flows are reasonable, different assumptions regarding such cash flows could materially affect our evaluations.
Accruals. Management exercises judgment in estimating various period end liabilities such as costs related to vendor drop shipments, sales returns and allowances, cooperative advertising and customer rebate reserves, and other vendor and employee related costs. While we believe that these estimates are reasonable, any significant deviation of actual costs as compared to these estimates could have a material impact on the Companyâ€™s financial statements.
Income Taxes. We are subject to taxation from federal, state and foreign jurisdictions and the determination of our tax provision is complex and requires significant management judgment. Management judgment is also applied in the determination of deferred tax assets and liabilities and any valuation allowances that might be required in connection with our ability to realize deferred tax assets.
Since we conduct operations in numerous US states and internationally, our effective tax rate has and will continue to depend upon the geographic distribution of our pre-tax income or losses among locations with varying tax rates and rules. As the geographic mix of our pre-tax results among various tax jurisdictions changes, the effective tax rate may vary from period to period. We are also subject to periodic examination from domestic and foreign tax authorities regarding the amount of taxes due. These examinations include questions regarding the timing and amount of deductions and the allocation of income among various tax jurisdictions. We have established, and periodically reevaluate, an estimated income tax reserve on our consolidated balance sheet to provide for the possibility of adverse outcomes in income tax proceedings. While management believes that we have identified all reasonably identifiable exposures and that the reserve we have established for identifiable exposures is appropriate under the circumstances, it is possible that additional exposures exist and that exposures may be settled at amounts different than the amounts reserved.
We recognize deferred tax assets and liabilities for the effect of temporary differences between the book and tax bases of recorded assets and liabilities and for tax loss carry forwards. The realization of net deferred tax assets is dependent upon our ability to generate sufficient future taxable income. Where it is more likely than not that some portion or all of the deferred tax asset will not be realized, we have provided a valuation allowance. If the realization of those deferred tax assets in the future is considered more likely than not, an adjustment to the deferred tax assets would increase net income in the period such determination is made. In the event that actual results differ from these estimates or we adjust these estimates in future periods, an adjustment to the valuation allowance may be required, which could materially affect our consolidated financial position and results of operations.
Restructuring charges. We have taken restructuring actions in the past, and may commence further restructuring activities which result in recognition of restructuring charges. These actions require management to make judgments and utilize significant estimates regarding the nature, timing and amounts of costs associated with the activity. When we incur a liability related to a restructuring action, we estimate and record all appropriate expenses, including expenses for severance and other employee separation costs, facility consolidation costs (including estimates of sublease income), lease cancellations, asset impairments and any other exit costs. Should the actual amounts differ from our estimates, the amount of the restructuring charges could be impacted, which could materially affect our consolidated financial position and results of operations.
Recently Adopted and Newly Issued Accounting Pronouncements
Effective January 1, 2007, the Company adopted the provisions of FASB Interpretation 48, â€śAccounting for Uncertainty in Income Taxesâ€ť (â€śFIN 48â€ť). FIN 48 clarifies the accounting and reporting for uncertainties in income tax law. This interpretation prescribes a comprehensive model for the financial statement recognition, measurement, presentation and disclosure of uncertain tax positions taken or expected to be taken in income tax returns. For those benefits to be recognized, a tax position must be more-likely-than-not to be sustained upon examination by taxing authorities. At January 1, 2007, the Company had a liability for unrecognized tax benefits of $3,379,000 (including interest and penalties of $731,000) of which $283,000 was charged to retained earnings at January 1, 2007. Of this total, $2,586,000 (net of the federal benefit on state issues) represents the amount of unrecognized tax benefits that, if recognized, would favorably affect the effective income tax rate in any future periods.
The Company or one of its subsidiaries file U.S. federal income tax returns and tax returns in various state and foreign jurisdictions in Canada and Western Europe. The Companyâ€™s U.S. federal income tax returns have been examined by the Treasury Department through 2001. State and local tax returns have been examined through various dates from 2001 to 2005 with ongoing tax examinations pending in several states. Included in the Companyâ€™s FIN 48 liability is a current liability of $2,264,000 for the expected taxes and interest and penalties relating to pending state tax examinations involving disputed allocations of income; no issues have been raised to date with respect to the other pending state tax examinations.
With the exception of the current liability of $2,264,000, the Companyâ€™s remaining tax liabilities and interest with respect to unrecognized tax benefits have been reclassified to other non-current liabilities on the balance sheet because payment of cash is not anticipated within one year. This amount at January 1, 2007 aggregates to approximately $1,115,000, including $305,000 for interest and penalties. The Companyâ€™s continuing practice is to record interest and penalties related to tax positions in income tax expense in its consolidated statement of operations.
During 2007, the Company resolved a state tax issue by paying an assessment of approximately $1,901,000 (including $169,000 in interest) to a state taxing authority. As of December 31, 2007 the Companyâ€™s liability for unrecognized tax benefits was approximately $1,547,000 (including interest and penalties of approximately $632,000).
In September 2006, the Financial Accounting Standards Board (â€śFASBâ€ť) issued Statement of Financial Accounting Standards (â€śSFASâ€ť) No. 157 â€śFair Value Measurementsâ€ť which is effective for fiscal years beginning after November 15, 2007. This statement was issued to increase consistency and comparability in fair value measurements and for expanded disclosures about fair value measurements. The Company is currently evaluating the potential impact, if any, of this pronouncement.
In February 2007, the FASB issued SFAS No. 159 â€śThe Fair Value Option for Financial Assets and Financial Liabilities (including an amendment of FASB Statement No. 115)â€ť which is effective for fiscal years beginning after November 15, 2007. This interpretation was issued to improve financial reporting by providing entities with the opportunity to mitigate volatility in reported earnings caused by measuring related assets and liabilities differently without having to apply complex hedge accounting provisions. The Company is currently evaluating the potential impact, if any, of this pronouncement.
In December 2007, the FASB issued SFAS No. 141R, â€śBusiness Combinations,â€ť which replaces FASB Statement 141. SFAS No.141R retains the requirement that the acquisition method of accounting be used for business combinations. The objective of SFAS No. 141R is to improve the relevance, representational faithfulness and comparability that reporting entities provide in their financial reports about business combinations and their effects. SFAS 141R establishes principles and requirements for how an acquirer 1) recognizes and measures identifiable assets acquired, the liabilities assumed and any noncontrolling interest in the acquiree, 2) recognizes and measures the goodwill acquired in the combination or a gain from a bargain purchase and 3) determines what information to disclose to enable users of the financial statements to evaluate the nature and financial effects of the business combination. SFAS No. 141R is effective for business combinations for which the acquisition date is on or after the beginning of the first annual reporting period beginning after December 15, 2008. The Company is currently evaluating the potential impact, if any, of this pronouncement.
In December 2007, the FASB issued SFAS No. 160, â€śAccounting and Reporting of Noncontrolling Interestâ€ť (â€śSFAS No. 160â€ť). The objective of SFAS 160 is to improve the relevance, comparability and transparency of the financial information that reporting entities provide related to noncontrolling interests, sometimes referred to as minority interests. SFAS No. 160 requires, among other things, that noncontrolling interests be shown separately in the consolidated entityâ€™s equity section of the balance sheet. SFAS No. 160 also establishes accounting and reporting standards for ownership interest in subsidiaries held by parties other than the parent, for presentation of amounts of consolidated net income attributable to the parent and the noncontrolling interest, for consistency in accounting for changes in a parentâ€™s ownership interest when the parent retains a controlling interest, for the valuation of retained noncontrolling equity interests when a subsidiary is deconsolidated and for providing sufficient disclosure that identifies and distinguishes the interests of the parent and the interests of the noncontrolling owners. SFAS No. 160 is effective beginning January 1, 2009. The Company is currently evaluating the potential impact, if any, of this pronouncement.
Results of Operations
Sales increased in all three reporting business segments and in both geographies during 2007 over 2006. The growth in Technology Products sales was driven by increased internet and retail store sales, private label product sales and expanded product offerings. The growth in Industrial Products sales resulted from the Company increasing its market share through competitive pricing advantages and increased internet sales. The growth in North American sales reflected the above factors in both segments. The growth in European sales was driven by strong business to business gains and by the effect of a weaker US dollar. Exchange rates positively impacted the European sales comparison by approximately $78 million in 2007 as compared to 2006. Excluding the movements in foreign exchange rates, European sales would have increased 12% from the prior year. Sales as measured in local currencies increased in all of the European markets we serve in 2007 . Sales in our Hosted Software segment were not material in 2007 or 2006 due to early stage of operations.
Sales increased in all three reporting business segments and in both geographies during 2006 over 2005. The growth in Technology Products sales was driven primarily by increased internet-related marketing initiatives targeting consumers. The growth in Industrial Products sales resulted from the Company growing its market share through competitive pricing advantages and increased internet sales. The growth in North American sales reflected the above factors in both segments. The growth in European sales was driven by strong business to business gains and by the effect of a weaker US dollar. Exchange rates positively impacted the European sales comparison by approximately $4 million in 2006 as compared to 2005. Sales in our Hosted Software segment were not material in 2006 and 2005 due to early stage of operations.
Consolidated gross margin increased 70 basis points during 2007 over 2006, due primarily to decreased competitive pricing pressures in the Technology Products segment. Gross margin is dependent on variables such as product mix, vendor price protection and other sales incentives, competition, pricing strategy, rebates and other variables, any or all of which may result in fluctuations in gross margin.
Gross margin was relatively flat during 2006 over 2005, due to decreased competitive rebates and pricing pressures in the Companyâ€™s Technology Products segment.
SELLING, GENERAL AND ADMINISTRATIVE EXPENSES
Selling, general and administrative expenses increased in 2007 over 2006 primarily as a result of the increase in sales volume as well as increased accounting, auditing, legal and consulting costs related to the Company being subject to Sarbanes Oxley section 404 requirements. Significant expense increases include approximately $26 million of increased internet advertising costs, $8 million of increased sales salaries related to the increased sales volume and an increase in other salaries and related costs of approximately $15 million due to increased staff in areas such as finance, marketing and information technology.
Selling, general and administrative expenses increased in 2006 over 2005 as a result of approximately $3 million of increased credit card fees, a $4 million increase in sales salaries related to the increased sales volume, an increase in other salaries and related costs of approximately $10 million due to increased staff in areas such as marketing and information technology as well as approximately $1.8 million of salary expense related to stock compensation expense recorded as the result of the adoption of SFAS 123(R). Rent expense increased $2.3 million due to the companyâ€™s expansion. These increases were partially offset by a decrease of approximately $6.1 million of bad debt expense and a positive impact of foreign exchange of approximately $3.5 million.
RESTRUCTURING AND OTHER CHARGES
During 2005, we incurred $4.2 million of restructuring and other charges. These costs were primarily related to further restructuring actions undertaken in Europe during the year as a result of continuing decline in profitability. The costs were comprised primarily of staff severance expense related to the elimination of approximately 240 positions, which resulted in approximately $6 million in annual savings.
INTEREST AND OTHER INCOME AND INTEREST EXPENSE
Interest expense was $1.0 million, $1.7 million and $2.7 million in 2007, 2006 and 2005. Interest expense decreased in 2007 and 2006 as a result of decreased short-term borrowings in the United Kingdom. The extinguishment of mortgage debt related to our Georgia warehouse sale in the first quarter of 2006 also contributed to the decreased interest expense. Interest and other income, net was $5.5 million, $9.5 million and $0.7 million in 2007, 2006 and 2005. The increase in other income in 2006 mainly resulted from the gain on sale of the Georgia location.
The low effective tax rate in 2007 resulted primarily from the reversal of a valuation allowance of approximately $5.9 million against deferred tax assets in the United Kingdom partially offset by the recording of a valuation allowance of approximately $1.7 million against the deferred tax assets of Germany. The United Kingdom valuation allowance, originally recorded at $10.2 million, had been established in 2005 as the result of a cumulative loss position in the United Kingdom and was the primary driver of the high effective tax rate in 2005. The effective rate in 2005 also was unfavorably impacted by increased state and local taxes and losses in other foreign jurisdictions for which no tax benefit has been recognized. These increases were partially offset by an income tax benefit of $2.7 million we recorded in the fourth quarter of 2005 resulting from a favorable decision we received for a petition submitted in connection with audit assessments made in 2002 and 2004 in a foreign jurisdiction.
During 2007, 2006 and 2005, we did not recognize certain foreign tax credits, certain state deferred tax assets in the United States and certain benefits on losses in foreign tax jurisdictions due to our inability to carry such credits and losses back to prior years and our determination that it was more likely than not that we would not generate sufficient future taxable income to realize these assets. Accordingly, valuation allowances were recorded against the deferred tax assets associated with those items. If we are able to realize all or part of these deferred tax assets in future periods, it will reduce our provision for income taxes by a release of the corresponding valuation allowance.
MANAGEMENT DISCUSSION FOR LATEST QUARTER
Results of Operations
Three Months Ended March 31, 2008 compared to the Three Months Ended March 31, 2007
The Technology Products sales increase was driven by increased internet and retail store sales, private label product sales, expanded product offerings and the acquisition of the CompUSA ecommerce business and sixteen retail stores. Sales attributable to CompUSA were $18.3 million. The Industrial Products sales increase resulted from the Company increasing its market share through competitive pricing advantages and increased internet sales. Both North America sales and Europe sales increased in the first quarter as compared to the same periods in the prior year. Movements in foreign exchange rates positively impacted the European sales comparison by approximately $18 million in the first quarter. Excluding the movements in foreign exchange rates, European sales would have decreased .4% from the prior year. The increase in our North American sales resulted from sales growth in both our Technology Products and Industrial Products groups. This increase was primarily a result of our continuing internet initiatives, increased retail sales, expansion of our product offerings and the aforementioned acquisition of certain CompUSA assets. Consolidated gross margin improved by over 150 basis points in the first quarter as compared to the same period in 2007 due to decreased competitive pricing pressures in 2008 as compared to the previous year. Gross margin is dependent on variables such as product mix, vendor price protection and other sales incentives, competition, pricing strategy, cooperative advertising funds required to be classified as a reduction to cost of sales and other variables, any or all of which may result in fluctuations in gross margin.
The increase in selling, general and administrative expenses during 2008 was primarily the result of $9.5 million of increased salaries, $1.5 million increased rent costs and $1.5 million of professional fees and telephone communication charges. Included in these cost increases are approximately $2.5 million of costs related to CompUSA operations and $.7 million in one time severance costs. Included in the first quarter of 2007 is a gain of approximately $2.4 million from a lawsuit that was settled favorably. Excluding this gain and the one time severance costs in 2008, selling, general and administrative expenses would have increased 11.5% in 2008 as compared to 2007.
The Companyâ€™s effective tax rate for the first quarter of 2008 was 36.1% compared to 37.6% in 2007. The reduced rate in 2008 is primarily the result of a reversal of a tax liability of approximately $.4 million related to favorable settlement of an outstanding tax issue.
Financial Condition, Liquidity and Capital Resources
Our primary liquidity needs are to support working capital requirements in our business, to fund capital expenditures, and to fund special dividends declared by our Board of Directors and to fund acquisitions. We rely principally upon operating cash flow and borrowings under our credit facilities to meet these needs. We believe that cash flow available from these sources will be sufficient to meet our working capital requirements as well as any interest and debt repayments in the next twelve months and thereafter.
Our working capital decreased in the first quarter of 2008 as the result of the use of cash of approximately $30.4 million for the purchase of certain CompUSA assets, an increase in inventory, primarily related to purchasing inventory for the 16 CompUSA retail stores, an increase in accounts payable and accrued expenses and an increase in dividends payable as the result of the dividend declared by our Board in March 2008. Our inventory turnover decreased from 10 times to 9.5 times on an annual basis primarily the result of the restocking of the 16 acquired CompUSA retail stores. Future accounts receivable and inventory balances will continue to fluctuate with changes in sales volume and the mix of our net sales between consumer and business customers. These accounts will also be affected by the acquisition of CompUSA.
The decrease in cash provided by operations in 2008 resulted from changes in our working capital accounts, which used $10.9 million in cash compared to $.1 million of cash used in 2007, primarily the result of an increase in inventories related to the CompUSA acquisition. Cash generated from net income adjusted by other non-cash items provided $20.1 million for the first quarter of 2008 compared to $18.8 million provided by these items in the first quarter of 2007.
Cash flows used in investing activities during 2008 were primarily for the CompUSA acquisition and for capital expenditures in retail stores and information technology. Cash flows used in investing activities during 2007 consisted primarily of upgrades and enhancements to our information and communications systems hardware and facilities costs.
In the first quarter of 2008 we repaid $2.3 million in short-term loans in Europe and we had proceeds and excess tax benefits from stock option exercises that provided approximately $2.1 million of cash. In the first quarter of 2007 we had proceeds and excess tax benefits from stock option exercises of approximately $2.5 million. We used cash of $.9 million to repay long-term debt obligations, primarily in Europe.
Under our $120 million (which may be increased by up to $30 million, subject to certain conditions) secured revolving credit agreement for borrowings in the United States and United Kingdom, as of March 31, 2008, eligible collateral was $118.7 million and total availability was $107.7 million. There were outstanding letters of credit of $11.0 million and there were no outstanding advances as of March 31, 2008. The borrowings are secured by all of the domestic and United Kingdom accounts receivable, the domestic inventories of the Company, general intangibles, the Companyâ€™s shares of stock in its domestic subsidiaries and the Companyâ€™s United Kingdom headquarters building. The credit facility expires and the outstanding borrowings thereunder are due on October 26, 2010. The revolving credit agreement contains certain financial and other covenants, including maintaining a minimum level of availability and restrictions on capital expenditures and payments of dividends. We were in compliance with all of the covenants under this facility as of March 31, 2008.
Under our Netherlands â‚¬5 million ($7.9 million at the March 31, 2008 exchange rate) credit facility, at March 31, 2008 there was approximately â‚¬1.1 million outstanding under this line ($1.7 million). This facility expires in September 2008.
We also have certain obligations with various parties that include commitments to make future payments. Our principal commitments at March 31, 2008 consisted of repayments of borrowings under our credit agreements, payments under operating leases for certain of our real property and equipment and payments under employment and other service agreements.
Our current and anticipated needs for cash include funding growth in working capital, the special dividend declared by our Board of Directors in 2008, capital expenditures necessary for future growth in sales and potential expansion through acquisitions. We believe that our cash balances and our availability under credit facilities will be sufficient to fund our working capital and other cash requirements for the next twelve months.
We maintain our cash and cash equivalents primarily in money market funds or their equivalent. As of March 31, 2008, all of our investments had maturities of less than three months. Accordingly, we do not believe that our investments have significant exposure to interest rate risk.
Off-balance Sheet Arrangements
The Company has not created, and is not party to, except as described above, any special-purpose or off-balance sheet entities for the purpose of raising capital, incurring debt or operating the Companyâ€™s business. The Company does not have any arrangements or relationships with entities that are not consolidated into the financial statements that are reasonably likely to materially affect the Companyâ€™s liquidity or the availability of capital resources.
Welcome to the Systemax first quarter 2008 conference call. Iâ€™m here today with Richard Leeds, Chairman and Chief Executive Officer of Systemax; Gilbert Fiorentino, General Manager of Systemaxâ€™s Technology Products business which includes TigerDirect, CompUSA and Misco; and Larry Reinhold, Executive Vice President and Chief Financial Officer of Systemax.
This discussion may include certain forward-looking statements. It should be understood that actual results could differ materially from those projected due to a number of factors including those described under the caption â€śForward Looking Statementsâ€ť in the companyâ€™s annual report on Form 10-K. This call is the property of and is copyrighted by Systemax, Inc.
I will now turn the call over to Richard Leeds.
I am very pleased to report that we achieved another record quarter where we increased sales year-over-year and earnings as well. Consolidated sales for the quarter was $725 million, a record amount for our first quarter and an increase of 7.2% over last year, with sales growing in our two largest business segments despite a challenging macro economic environment.
Sales of technology products computers, computer supplies and accessories, consumer electronics, grew by 7% and sales of industrial products, material handling equipment, storage equipment and consumable industrial items grew by 11%.
Continuing to drive our strong bottom-line results was a sustained focus on improving our gross margins. Consolidated gross margins improved 150 basis points over last year and continue the overall trend of improvement we saw throughout 2007. This improvement was primarily attributable to our technology product segment with less price discounting than a year ago and greater efficiencies in our warehousing and distribution operations due to higher volumes.
We are also continuing to leverage our existing cost structure. Consolidated SG&A cost as a percentage of sales, excluding CompUSAâ€™s start-up cost, have been in a relatively stable range despite our continued spending of significant amount on costs on regulatory compliance. All this has led to an all time best first quarter result of $28 million in operating income, a 28% increase; $18 million in net income, a 30% increase; and $0.48 in diluted earnings per share, also a 30% increase.
As we reported in March during the first quarter we substantially completed our CompUSA acquisition. We are now operating the new and improved CompUSA.com website and sixteen new and improved CompUSA retail outlets.
While our technology product sales revenue did not grow as fast as in prior quarters, through our focus on the CompUSA integration we believe we have positioned this business well for the future. And we declared our second $1 per share special dividend during the quarter. Our stockholders should have received their dividend payments during the first week of April.
I will now turn the call over to Gilbert to discuss highlights of our technology products businesses, including TigerDirect, Misco and now CompUSA.
The first quarter was an extremely busy one for the technology products group. While we are extremely happy with the growth in operating income, we are not happy with the growth in the revenue in the technology products segment.
In the U.S. during the quarter, we acquired the CompUSA web and 16 retail CompUSA stores. While we refer to this as an acquisition, in substance it was just an asset purchase of the web URLs and sixteen store locations. It was not like acquiring an ongoing business where in many cases you simply sign legal documents, change the organizational chart and then start tracking ongoing revenues that you own.
On the day we took over the CompUSA.com URL, there were no sales and in fact we did not even acquire the old CompUSA.com website engine. On the days that we took over each store, it was empty, except for shelving and signage.
During the first quarter we devoted much our attention to converting the CompUSA URL, to an entirely new CompUSA.com e-commerce site, with all new content and e-commerce capabilities. As expected, we have seen significant sales and steady growth increase in the nearly four months since we acquired the assets.
Likewise, during the quarter much attention was spent on the conversion, refurbishment, restocking and reopening of the sixteen CompUSA retail stores. This included all new point of sale and other IT systems, employee hiring and training, restocking of the stores with new inventory and grand opening promotions and events. We added about 700 new employees during the quarter relating to the new retail stores and retrained those employees on our business model and approach to retail.
In fact, the CompUSA store grand reopening extended into April of this year. Even with that distraction, we were able to improve our income substantially after absorbing the CompUSA startup costs. More importantly, we expect that in the second half of the year we will have completed substantially all of the integration of CompUSA business and will again look to aggressively grow our sales.
As of today our total store count in North America is 28, with four in Canada and 24 in the United States and Puerto Rico. We currently have plans to open three more stores, two in Canada and one in Florida. Long term, we intend to re-brand our U.S. TigerDirect stores as CompUSA, leaving us a with a single brand retail strategy in the U.S.
Overall, technology products continued to grow in Q1 in North America and Europe despite increasing concerns over a recession in the U.S. Revenues in North America from the CompUSA.com website and from the few CompUSA retail stores that were opened before March 31 were about $18 million. Revenues in Europe were favorably impacted by favorable exchange rates of about $18 million.
The Easter holiday came during March of this year versus April of last year, which had an additional impact, mostly in Europe. So our sales continue to be driven by our diverse channels, business to business, business to consumer over the web, television shopping and retail stores. Our product expansion strategy to compete in the areas of flat panel TVs and other consumer electronics equipment continues to pay off by helping us drive more customers to our selling channels and increasing opportunities to build customer value.
In the first quarter we added Sony retail products to our roster of Tier I consumer electronics manufacturers, in our effort to further solidify TigerDirect and CompUSA as a major player in the higher margin world of home entertainment and consumer electronics.
In the CE world, we now have direct purchasing relationships with Toshiba, Mitsubishi, Hitachi, Sony, Visio, Bose, Yamaha, Onkyo, Harmon Kardon, Garmin, Magellan and Nokia. Direct relationships enable TigerDirect and CompUSA to bring the best prices to our customers at the highest margins for our company.
In the markets we serve and particularly in the online consumer business, competitive price discounting is pervasive. Although we are committed to bringing great value to customers every day, we are concentrating many of our efforts to giving customers the best service experience possible.
By making us the easiest place to do business, offering one stop shopping for items our customers want, shipping orders quickly and correctly and offering a single contact resolution for any customer that has a problem, we will attract more loyal and repeat customers. In order to do that, we have reduced customer discounts preferring to focus on sustainable profitability, instead of short term revenue. This strategy is proven by the growth in our operating income in the computer sector.
TigerDirect continues to concentrate on its online business as well. During the first quarter of 2008, Hitwise, a leading industry ranking service for websites, ranked tigerdirect.com as the sixth biggest website for market share in the electronics and appliances category.
Traffic to our websites continued to grow as we saw a 25% increase in total traffic over the first quarter 2007. Once customers arrive on our site, the user experience has improved with enhanced web content, 90,000 user reviews and over 20,000 user generated questions and answers. Our previously discussed video content program generated almost 5.7 million video viewerâ€™s views during the quarter.
Also in the first quarter we implemented a 90-day satisfaction guarantee program with a third party provider, Assurz. We offer customers the option of paying a small fee to add the Assurz service to their order. The customer then has 90 days to request a return if they are not satisfied with the product for any reason. Assurz pays all the shipping, inspects the item and issues a full refund directly to the customer with no financial costs to Systemax.
During Q1 alone, since we launched this program, over 20,000 customers have taken advantage of this service. Weâ€™re very excited about the technology products segment results, the integration of CompUSA and the opportunities that lie ahead of us, to continue to grow our revenues and offer operating profits.
So now, Iâ€™ll turn the call back to Richard Leeds to discuss our industrial products division and other businesses.
Our industrial products business, Global Industrial and Nexel Industries continued to perform extremely well due to its business model offering our customers low price and high quality products combined with this industry leading website technology. Weâ€™ve added to our product offerings and we expect to continue to do so. We have increased our business sales representatives and we are utilizing our ProfitCenter Software technology to continue profitably scaling the business.
We continue to increase our sourcing capability and purchasing strength both in the U.S. and abroad. This enables us to offer better values to our customers as well as maintain profitability on staple items. It also allows us to bring one-off promotions to our customer base at times filling in slower periods of our business cycle thus increasing operating efficiencies. And finally itâ€™s helped us to increase our product selection on the web by over 60% from just a year ago.
New web visitors to our Global Industrial website grew up over 40% this quarter compared to last year. And even more important, the number of new web customers grew almost 30%. The fast expanding web customer base creates synergy with our outbound telemarketing sales force and traditional catalog mailings.
The sales group solidifies their relationship with many of these new customers by reaching out to provide sourcing help, competitive pricing and customized solutions. The catalogs, including a hard cover edition since January to our best customers, keep our name front and center. We believe this special handling has contributed to our healthy increase in average order size this quarter.
Our hosted software business, ProfitCenter Software, is advancing development of the PCS web-based on demand software application to enhance its features and functionality from multi-channel merchants and direct marketers. During the quarter, PCS delivered version 3.0 of the product, culminating over a year of development effort.
This new version of the product includes new features and functionality including continuity, worldwide shipping, advanced search and faster navigation, personalization and enhanced accounting functionality. We also continued moving closer to deployment for a number of well-known third party clients and anticipate successfully going live with these customers in the coming months.
Finally, as we disclosed in our 10-K and discussed on our last quarterâ€™s conference call, one of our small business units that processes rebates in North America, was served with class action lawsuit and the Florida Attorney Generalâ€™s Office requested us to provide information about our historical rebate claims and payments.
The status of both of these remains essentially the same as reported on our fourth quarter conference call. The court has not as yet certified that this person is representative of the class, and there have been no rulings on our motion dismissed. We continue to also cooperate fully with Florida Attorney Generalâ€™s Office.
I will now turn the call over to Larry Reinhold to discuss more detailed financial results.
Lawrence P. Reinhold
The companyâ€™s financial position showed continued strength in the first quarter of 2008 after the purchase of CompUSA. At the end of Q1 our working capital was $227 million, down from $274 million at the end of Q4, principally as the result of the cash used to fund the CompUSA purchase and for inventory to fill the new stores. Our current ratio at the end of the quarter was 1.6 to 1. Cash balances were $99 million, down $29 million from Q4, again principally related to CompUSA.
During the quarter we generated cash from operations of $9 million while investing $30.4 million for the CompUSA acquisition and another $6 million in other capital expenditures, principally IT equipment. At the end of Q1, our inventory was $269 million, up 8% from Q4, primarily as the result of our adding stock to the sixteen new CompUSA retail stores.
At the end of Q1 we had $2.1 million in debt outstanding, all in Europe. The total availability under our credit facility was approximately $108 million, giving us over $200 million in cash and available credit as of March 31 and we paid $1 per share special dividend early in Q2 on April 2.
During Q1 our SG&A expenses were 12.0% of sales compared to 11.1% in Q1 of 2007. The increase in SG&A as a percent of sales is due principally to approximately $2.5 million of costs related to CompUSA. We incurred most of these costs related to hiring and training over 700 new employees for the retail stores, which were just beginning to have grand openings at the end of March. These employee-related expenses as well as store lease and other costs were incurred in advanced of the stores being opened and the sales revenue ramping up.
Our effected tax rate in Q1 was 36.1% down from 37.6% last year. The tax rate benefited in 2008 from the favorable resolution of a state tax matter of about $400,000. Net income was about, was approximately $18 million in the quarter or $0.48 per diluted share, compared to $14 million or $0.37 per diluted share last year.
Included in the 2007 results were a gain of about $2.4 million or $0.04 per share; diluted shares outstanding were 37.628 million in 2008 versus 37.701 million last year. This results from using a smaller number of unexercised stock options in the calculations due to different stock prices this year, than last year.
I now will turn the call back to Richard Leeds.