Arrow Upgraded to Neutral

We recently upgraded our recommendation on Arrow Electronics Inc. ( ARW - Analyst Report ) from Underperform to Neutral based on the company’s best in class services, improved design and easy-to-acquire technologies.

We are optimistic that Arrow’s newly introduced product ranges including ArrowSphere, UC in the Cloud solutions and Live Virtual Help Desk services are likely to mitigate the increasing demand in the industry. Moreover, the company’s broad portfolio of products and services is expected to elevate its position and enable it to secure substantial market share in the present scenario.

Arrow, being a key player in the low-margin Electronic components and computer products distribution business, has a keen eye for profitable acquisitions, which are likely to enable Arrow to enter new markets and maintain its leading position in the global market. During the first six months of 2012, the company completed five acquisitions, which are expected to boost sales in the coming quarters.

Repurchase of common stock utilizing its strong cash flow position has been an ongoing trend at Arrow. As of June30, 2012, a total of 4,035,802 shares were bought back by Arrow for $149.7 million. In June 2012, the company announced buyback of an additional $200 million of its common stock under a share repurchase program. This buyback of common shares, we believe, will certainly boost investor confidence. In addition, the company’s balance sheet remains sound, which enables it to safeguard against any slowdown in the economy.

Moreover, Arrow’s cost effective strategy has helped it to establish itself at an advantageous position in the industry. The company has recently taken an initiative to trim down its costs by $20 million, which reflect its ongoing efforts to improve its operational efficacy and enhance margins going forward.

On the flipside, the current macroeconomic challenges coupled with slower growth in China has been impacting the company’s financials and dampening sales. In addition, various other factors such as foreign currency fluctuations and external operational hazards including change in political or economic conditions have also been affecting the company’s business, thus raising concerns.

Arrow’s significant portion of revenues come from the sale of semiconductors, which is a cyclical industry characterized by changes in technology and manufacturing capacity, and is also subject to significant market fluctuations. The current slowdown is expected to adversely affect the company’s semiconductor business thereby hurting its revenue stream. Meanwhile, Arrow‘s computing segment continues to be impacted by overall business spending cuts and the corresponding pressure on prices and profitability is expected to negatively impact the company’s overall top line growth and margins.

The company’s domestic and foreign operations are subject to significant competitive pressures. Competition looms large from major players in the industry, which include Richardson Electronics Ltd. ( RELL - Snapshot Report ) and Avnet Inc. ( AVT - Analyst Report ) . To compete successfully, Arrow must excel in terms of product quality and innovation, customer service, technical and computing capabilities and price competitiveness.

Arrow holds a Zacks #3 Rank, which translates into a short-term (1-3 months) 'Hold' rating.