Expect Arrow Electronics In-Line

We continue to view the shares of Arrow Electronics, Inc. (ARW - Analyst Report) cautiously. Margins are likely to remain under pressure, as the core business continues to deteriorate and the need for successful acquisition integration becomes more acute. We do not expect significant price appreciation over the next few months and reiterate our Hold rating.

The demand picture for the June quarter looks similar to the first quarter, with the European weakness expected to deepen further. Looking ahead to 2008 and beyond, we are taking a conservative approach, with assumed revenue growth of around 3%+ in 2008, and little operating margin expansion. Whether that ends up being conservative or overly optimistic is still everyone’s guess.

Arrow now has a more variable cost structure than ever, so should still have strong earnings power in a slow market. And, more importantly, it should generate significant cash in a low-growth or negative demand picture. In either scenario, we would expect opportunistic acquisitions.

The stock is trading at 9.9x our FY08 EPS estimate, and we expect the multiple to remain depressed until investors get a better sense of how global economic conditions will impact the technology sector. That said, we believe Arrow to be a relatively safe play in technology, given its broad customer and supplier base, market leadership and counter-cyclical balance sheet characteristics.

We note that while internal inventories seem to be in control, the receivables number is mounting. Also, the equity multiplier has been steady over the last three quarters, with equity coming in-line with the increase in total assets. This is another metric to watch, given the company already has over $1.26 billion in long-term debt.

Read the full analyst report on ARW