ScanSource's sales jumped 30%. Why did profit more than halve?

ScanSource's technology sales surged, but its profits shrank. Large hardware orders brought in more revenue at thinner margins, while a customer credit problem in Brazil added another expense.

The distributor reported $962.3 million of sales for the quarter ended September 30, its first fiscal quarter of 2027, up 30% from a year earlier. Net income fell to $8.7 million from $19.9 million. Even after removing acquisition and restructuring costs and other adjustments, earnings per share fell to $0.86 from $1.06.

More hardware, less profit per dollar

Sales growth remained strong at 26.8% after removing acquisitions and currency effects. But gross profit, the money left after the cost of products and services, rose only 9%. Gross margin fell to 12.2% from 14.5%.

Management says previously delayed large orders arrived alongside new deals booked and shipped during the quarter. Those transactions carry lower margins. Pricing also contributed materially to sales growth, although the company could not separate its effect from other factors.

Higher overhead absorbed more of the gross profit. Bad debt expense increased by about $4.5 million, mainly because of specific Brazilian customers. That expense remains in ScanSource's adjusted earnings.

Chief Financial Officer Steve Jones said nearly all the company's exposure to Brazilian customer Oi S.A. is now reserved. Management expects the unusual order mix and credit-related pressure to be largely confined to this quarter, with a more normal mix of large and everyday orders ahead.

The higher forecast includes a newly acquired business

ScanSource now expects annual adjusted EBITDA, a profit measure before interest, taxes and several other expenses, of $175 million to $185 million. Its August range was $158 million to $165 million.

The new range includes MicroAge, an IT services and solutions provider acquired September 1. The August forecast excluded that business. Management says it remains confident in its original expectations for the remaining quarters, while MicroAge contributes to the higher annual target.

There is a more profitable part of the mix to build on. Recurring business contributed 32.8% of gross profit, up from 31.7%, and both operating segments increased gross profit.

The cash recovery still has to arrive

Growth also required more money tied up in the business. ScanSource used $42.3 million of operating cash during the quarter. After capital spending, free cash flow was negative $44.1 million, versus positive $20.8 million a year earlier.

Management still targets at least $85 million of annual free cash flow. Research by Ticker Byline shows that reaching that floor now requires approximately $129.1 million of free cash flow over the remaining three quarters.

That recovery matters for the balance sheet. The MicroAge purchase required $217.8 million of cash after acquired cash, and debt rose to $332.4 million from $101.4 million at June 30. Jones says reducing leverage is a near-term priority, alongside continued share repurchases.

The next results will test management's expectation that the lower-margin order mix was temporary, and whether the strong sales can turn into enough cash to fund those plans. Our ScanSource company profile tracks the financial record, acquisition and annual targets.