Earnings Transcript for CTSDF - Q3 Fiscal Year 2023

Operator: Thank you for standing by. This is the conference operator. Welcome to the Converge Earnings Call for the Third Quarter of 2023. [Operator Instructions] I would now like to turn the conference over to Lauren Gerber, Converge Investor Relations. Please go ahead.

Lauren Gerber: Thank you, Gerry and good morning everyone. Joining me to discuss Converge’s Q3 fiscal 2023 results are Shaun Maine, Group CEO; Greg Berard, Global CEO and President and Avjit Kamboj, Chief Financial Officer. This call was being recorded live at 8 a.m. Eastern Time on November 14, 2023. The press release we issued earlier this morning is available for download along with our Q3 MD&A, financial statements and accompanying notes, all of which have been filed and available for view on SEDAR+. Please note that some statements made on the call maybe forward-looking. Actual events or results may differ materially from those expressed or implied and Converge disclaims any intent or obligation to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise. The complete Safe Harbor statement is available both in our MD&A and press release as well as on converge.com. We encourage our investors to read it in its entirety. We are reporting our financial results in accordance with international financial reporting standards or IFRS. As always, we will discuss non-GAAP performance measures, which should be viewed as supplemental. The MD&A contains definitions of each one used in our reporting. All of the dollar figures expressed on this call are Canadian, unless otherwise noted. I will turn it over to Shaun to begin with a high level overview of the past quarter, then Greg will expand with some operations highlights, including client examples and Avjit will dive into our Q3 financial performance before we conclude with the Q&A. So, with that, Shaun.

Shaun Maine: Thank you, Lauren and welcome to those of you attending today’s third quarter call. I would like to begin by providing financial highlights from our record results, which for the first time in our history, exceeded $1 billion in gross sales supported by significant organic growth, overall demonstrating ongoing demand for Converge’s comprehensive set of solutions. Highlights discussed throughout today’s call are undeniably linked to the continued demand for Converge’s unique set of solutions, including high performance computing delivered through our end-to-end advise, implement and manage or AIM strategy, allowing Converge to outperform its peers, while acting as a trusted advisor and delivering unified and differentiated solutions to its clients. Let’s begin with the main financial highlights from the past record quarter, where gross sales grew 42% year-over-year to $1.04 billion. Notably, gross profit performance increased from $139.7 million to $174.1 million or 24.7% year-over-year, while we reported significant third quarter organic growth of 23.6%. A testament to the cash generation characteristics of the IT services space, Converge has continued to strengthen its balance sheet, specifically by reducing the company’s net debt by $44.3 million from the previous quarter. In regards to backlog management, for which Greg will provide further details, our product backlog increased by $30 million from the end of the second quarter, demonstrating resiliency in demand. Expanding on financial highlights from a year-to-date perspective, the company’s adjusted EBITDA grew 24% year-over-year to $124 million and $167 million in the past year. As mentioned, Converge indefinitely reduced net debt to a balance of $370.5 million bringing our net debt to LTM adjusted EBITDA ratio to 1.84, which is under our target 2x ratio. Cash generated from operating activities significantly increased by $18.9 million during the third quarter, bringing the company to $115.1 million of cash generated year-to-date. In addition to using cash to reduce debt, the company also this year made payments for acquisition-related consideration of $95.6 million comprised of $20.8 million of contingent payments, $43.8 million for deferred consideration, and $31 million of non-controlling interest payments for its European acquisitions. Despite economic headwinds, it is ever more evident that the extent to which organizations are designating significant budgets to pressing IT needs in cybersecurity, advanced analytics, and overall digital transformation, all of which Converge actively pursues to become a top North American provider. While many industry providers have experienced declines in revenue, our organic growth profile directly demonstrates how the diversification of our offerings to these key areas has made Converge resilient to these trends. This was the key reason why we launched the Coffee and Converge series, which spotlights the depth of Converge’s fast and unique offerings, which our Global Chief Executive Officer and President, Greg Berard will expand upon.

Greg Berard: Thank you, Shaun. Good morning, everyone. I am excited to expand on the strategic investments we continue to make in the business driving the right solutions with our clients and the resulting performance benefits this helps support in Q3. As technology spending priorities shift based on the economy or other factors, Converge is there for our clients with our end-to-end portfolio and our trusted advisor status. No matter the macro, organizations are and will continue to designate more significant budgets to key IT solutions, such as those outlined on the following slide. Converge actively engages with our clients providing thought leadership and leveraging a pool of deep technical expertise across our organization. This was evident in a recent workshop we did for one of our cybersecurity clients. They were interested in understanding how GenAI could both impact and benefit their business. We facilitated a Generative AI design thinking workshop with over 30 employees and identified 124 different use cases across their business. It is workshops like this that will allow Converge to continue to help our clients understand where technology can impact their business. I will come back to this point with some concrete examples in a moment. As Shaun mentioned, our results highlight the continued success of our practice strategy and the advantages of our end-to-end capabilities. Across the practice areas, we continue transforming the business and continue to focus on executing our AIM strategy. The ability for us to advise, implement, and manage solutions for our clients continues to be a unique differentiator in the market and a significant driver of success for us in 2023. While others in the market continue to struggle with fulfillment or diversification challenges, our skills and capabilities help deliver organic growth of over 23% in Q3 and double-digit year-to-date. If you recently attended or listened to our Coffee and Converge series, you saw our experts firsthand, diving deeper into our AI, cybersecurity and managed services practice areas. This series has given us the opportunity to highlight how we differentiate ourselves from industry peers, which offer a fraction of our comprehensive AIM strategy. We will discuss this more when I highlight some of our recent wins around AI, application development, cloud and high performance computing. For those of you who are unable to join in-person or by webcast, I encourage you to view the recordings of both Coffee and Converge events. They can both be found in the Investor section of our website. All of the metrics highlighted throughout today’s call are linked to the continued demand Converge experiences for its unique set of solutions through our end-to-end strategy utilized across all of our practice areas, allowing Converge to deliver unified and repeatable solutions with our strategic partners. We continue to leverage these unique relationships with strategic partners across each practice areas and build solutions with AWS, CrowdStrike, Google, IBM, NVIDIA, Red Hat, Tableau and many, many more. As we continue to focus on building high value solutions with business outcomes that our clients count on, our marketing team has hosted over 160 client-facing events year-to-date, with almost 6,000 clients attending and we launched over 330 campaigns across analytics, cloud, cyber and managed services, which helped us drive our first $1 billion quarter ever and we continue to drive pipeline for Q4 and 2024 across our high value offerings. Additionally, we have secured 123 net new logos in Q3, continuing our impressive average of over 100 new clients each quarter, resulting in over 338 new logos in North America in 2023. Now, let’s talk about a few strategic wins that showcase the value we are driving with our clients. This is a great example in the healthcare space on how our teams are partnering with their clients to drive meaningful business outcomes and are making a difference in the world. Our client needed to build an HPC Center of Excellence where they can provide cutting-edge, high-performance computing systems and dedicated solution engineers to enable their researchers and data scientists to run large datasets dedicated to cancer research and early detection. The client, along with Dell, NVIDIA, [indiscernible] and Converge was able to build a state-of-the-art, high-performance compute facility to attract top cancer researchers and doctors from around the world. The ability to run large data queries for oncology imaging creates faster results in detecting cancer cells. Converge was with the client and provided the infrastructure considered to be part of the company’s portfolio. These servers are designed for complex compute and AI ML and HPC intensive workloads. They are used by large enterprises and research institutions for tasks such as machine learning, data analytics and scientific computing. Our ability to leverage our data center and data science resources was the key differentiator for us to help our clients. Another great win where we worked with our financial services client to leverage GPU technology for its analytics to drive significant benefits and leveraging the parallel processing power of GPUs for lightning fast data crunching and complex calculations. We helped our clients significantly reduce the time required for risk assessments, portfolio optimization and market analysis. By leveraging Bat data GPU integration, our clients now have the ability to handle massive amounts of real-time financial data more efficiently, enabling quicker decision-making and capturing profitable opportunities faster than their competitors. This solution empowers our clients to gain a significant competitive edge, enhance its investment strategies and achieve superior returns for its clients. A common theme you will continue to see is our ability to combine resources across our organization to drive high-performance clusters around AI workloads in a secure manner. The last one I will discuss is the region of York. Converge initiated a relationship with the region of York in 2017 and established a comprehensive partnership over the last 6 years to become a trusted adviser. The collaboration initially concentrated on tasks such as performance analysis, traffic signal performance and trip assessments. This endeavor utilized data for mobility applications, vehicle health monitoring and while setting standards for data warehousing and business intelligence at the region. Recently, Converge brought together resources from across all of our practice areas and built a strong demonstration in Q3 that showcased our data science, dashboarding, custom application development and data engineering skill sets. As a result, we were awarded a large services contract for the next 3 years to continue to help the region of York. Our team will be focused on business intelligence, data science, data architecture and engineering, cloud architecture and migration, Azure DevOps support and custom application development. This is a perfect example of why Converge is unique in the marketplace and will continue to deliver end-to-end solutions for our clients. We have the technical expertise and thought leadership across the solutions our clients need to ensure we can continue to be their trusted advisers and help them deliver the business outcomes they require. In addition to these great wins and the solid quarter we posted, our product bookings backlog increased in Q3, highlighting the strong demand we continue to see and build with our clients. We entered the start of Q3 with a product backlog of $447 million, and we closed the quarter with $479 million of product backlog. This is a testament to the efforts of our teams, the relationships we have with our clients and strategic partners and the growing share of wallet. Our portfolio and capabilities are differentiators in the market and our results demonstrate that better than any long explanation that Shaun, Avjitpal or I can give. So on that, I will turn it over to Avjit to discuss the Q3 numbers in more detail.

Avjit Kamboj: Thank you, Greg. Good morning, everyone, and thank you for joining us this morning. I’d like to start off by expressing my thanks to our exceptional team at Converge for their dedication and hard work, which played a pivotal role in achieving the remarkable success we’ve seen this quarter and the success we see ahead. Your commitment and efforts are truly appreciated. Thank you. My review of the financial results, I will refer to some items that are non-GAAP measures, including gross sales, organic growth and adjusted EBITDA. For detailed descriptions and reconciliations of our GAAP to non-GAAP measures, please refer to our MD&A filed this morning. In the third quarter, we delivered a record gross sale of $1.04 billion, up 42% year-over-year. And on a year-to-date basis, our gross sales were $2.96 billion or an increase of 39% year-over-year. This growth was driven both by the result of our acquisitions completed last year and the solid organic growth initiatives we have put in place. As a reminder, for presentation purposes, product sales includes hardware and software sales and services include managed services, professional services, public cloud solutions and maintenance and support. Total gross sales organic growth for the quarter was 23.6% and 10.8% on a year-to-date basis. Splitting this organic growth between products and services, products gross sales organic growth was 26.9% for the quarter, and services gross sales growth was 17.4% for the quarter. Our product sales growth was largely driven by innovative solutions, including high-performance compute, AI, mainframe, storage and networking and security solutions in North America. This obviously more than offset decline in our end user device sales to public sector and government entities in Canada and Germany. Demand for our solutions remain strong, as shown by growth in our product backlog from Q2 to Q3 this year, as Greg just walked through. On the services side, we continue to deliver solid organic growth. Services organic growth for the quarter was 17.4% compared to Q3 last year, driven by our cross-selling strategy and our services transformation activities. We’re continuing to see growth in our high-value services through our Converge consulting platform. GAAP revenue for the quarter was $710.1 million, an increase of 38% year-over-year. Again, the year-over-year increase was driven by a combination of both acquisitions and organic growth. As a reminder, revenue is not the most comparable measure across periods in our industry due to gross net accounting adjustments required under GAAP. Looking at profitability in the quarter. We generated gross profit of $174.1 million during the quarter, representing an increase of $34.4 million or 25% year-over-year. Gross profit margin for the quarter was 24.5% compared to 27.1% in Q3 last year. And on a year-to-date basis, gross profit margin was 25.4% compared to 25.1% last year. The decrease in gross profit margin during the quarter is due to product mix from higher hardware sales during the quarter. And as a reminder, due to gross net GAAP adjustments, hardware sales have lower gross margin presented on a GAAP basis compared to software sales, which are recorded at 100% margin. Again, for comparability, I would like to highlight that a number of acquisitions we completed in the prior year, particularly TIG in the U.S., Gfdb in Germany that was completed in July last year, and Stone Group in the UK completed in November last year, our high-volume, low-margin businesses with sales primarily to education sector, public sector and government entities. Our strategy to expand services and diversify these businesses to include more commercial sector will yield significantly higher margin expansions over time. Adjusted EBITDA for the quarter was $41.3 million, an increase of 33% from Q3 last year. Including Portage, adjusted EBITDA from Converge business was $41.7 million. Adjusted EBITDA as a percentage of gross profit was 23.7% compared to 22.2% in Q3 last year and 23.7% year-to-date. The increase in adjusted EBITDA as a percentage of GP is driven by the realization of efficiencies in the business and tighter cost controls. While we continue to invest in our overall solutions and services strategy by expanding our sales workforce and attracting high-value consulting talent. Adjusted EBITDA as a percentage of gross profit was also limited due to low margin, high-volume acquisitions I mentioned earlier. These acquisitions have historically operated at very low margins, and it will take time for us to transform these businesses. Turning now to the balance sheet and cash flow. In the quarter, cash provided by operating activity was $96 million compared to $15 million in the prior year. This is mainly due to our renewed discipline with respect to cash and working capital management. The snapback in cash generation this quarter was driven by moving swiftly to implement improved receivables and payables processes across the company with disciplined measures being put in place to better define terms and parameters for our contracts and operating hurdles for our operation. Implementation of these improvements is in progress and will continue. These changes offer confidence in our ability to generate meaningful cash from operating activities for the full year 2023 and beyond. As I previously stated, our conservative target for cash from operating activities continues to be 70% of adjusted EBITDA in the long run, as services become a bigger component of our overall business with days payable in salaries and wages being much shorter than vendors. We continue to invest in organic growth by hiring top talent across the organization to drive the transformation of our business, including cross-selling solutions. During the quarter, we reduced our net debt by $44.3 million, while funding approximately $17 million of acquisition-related payments in the form of contingent consideration deferred consideration from cash we generated from operations. Net debt at the end of the quarter was approximately $307.5 million, resulting in a leverage ratio of 1.84x of LTM adjusted EBITDA to our net borrowings, down from 2.24x a quarter ago or 2023 – Q2 2023. Our leverage ratio in accordance with our credit agreement is now at 2.55, down from 2.8x a quarter ago. Our credit agreement net debt includes lease liabilities, contingent consideration and deferred consideration and only allows a deduction of $50 million of cash from balance sheet. Our credit agreement leverage ratio would have been 2.2x if the entire cash balance of $105 million is deducted. We have put in a capital allocation plan in place to maximize shareholder returns. Our focus continues to be reinvesting back in our business, our innovations and on completing the integration of previous acquisitions, all in addition to paying down our debt and repurchasing our stock. We are capable of pulling several levers simultaneously with the cash we expect to generate from operations. The balance sheet remained strong with approximately $292 million of readily available capital between our cash on hand and available capacity under our credit facility. As such, in line with our capital allocation strategy yesterday, our Board of Directors approved a $0.01 dividend payable to shareholders of record as of December 13, 2023. For the quarter, this represents a cash outlay of approximately $2 million. During the quarter, we spent approximately $1.6 million in CapEx. If you recall, we communicated in Q2 that we expected our CapEx to be around $7 million to $9 million in Q3 related to our backup and recovery data center in Europe. I’m pleased to share that we were able to turn a majority of the significantly upfront cash outlay into payments over a period of time in the form of leases. We expect our CapEx run rate to be around $2.5 million to $3 million a quarter going forward. Again, from a future capital allocation perspective, we will continue to allocate capital with our previously communicated strategy of organic growth as our number one priority and secondly, debt reduction and share buybacks; and lastly, acquisitions depending on our share price. In summary, we are implementing new technology and data analytics for our back office. We’ve improved our cash and treasury management, our resource utilization and overall decision-making is improving across the board and throughout the organization, resulting in great results this quarter. Together with the leadership team, we’re laser focused on strengthening the company’s reputation and foundation, driving efficiency, fostering a culture of innovation and transparency. Our new ERP program is on track, and we expect Phase 1 to be live with mid-next year. We have a lot to do. And together with the entire Converge team, I’m confident that with their expertise and dedication, we will achieve remarkable results together. Now turning to outlook for the next quarter Q4 2023. We expect gross profit in Q4 to be between $177 million and $184 million and adjusted EBITDA to be between $45 million and $47 million. Given that the last acquisition we did of Stone Group was early November 2022, Q4 will be the first clean quarter with negligible acquisition impact. Therefore, year-over-year growth in Q4 will almost entirely be organic. As I mentioned earlier, we continue to see strong demand across our business and services. And I’m excited about the future as we transform the business and continue to deliver solid results in the future. Again, I would like to express my thanks to the entire Converge team for delivering a solid financial performance this quarter. I will now turn it over to the operator for questions. Operator?

Operator: Thank you. [Operator Instructions] Our first question comes from the line of Christian Sgro of Eight Capital. Please go ahead.

Christian Sgro: Hi, good morning. And congrats on a strong cash flow generation quarter. I want to lead there and this question is for Avjit, but it’s good to see a really strong free cash flow quarter. And you pointed out in the past, there can be puts and takes that can make some muted or more explosive. So as you think about some of the working capital dynamics this quarter, is there anything you’d call out as one-time? Or I think your intro remarks say that some of these trends are sustainable, some of the terms on the receivables payables side are improving. So any other color you could provide there in what we could think about into Q4?

Avjit Kamboj: Yes, absolutely. And thank you for your question. There was nothing one-time this quarter. What we’re putting in the processes and the policies we’re putting in, these are sustainable policies and processes. And these will improve and continue to improve as we make our policies more disciplined and our operations more accountable going into 2024.

Christian Sgro: Okay. That’s helpful. I have one follow-on on the backlog, and Greg touched on this area. But with the supply chain sort of troubles unwinding, is it a useful sort of metric to think of to judge the Converge business? Would you comment on a normalized backlog? And then, I guess, separately, any color on the composition of the backlog at this point would be helpful as well.

Greg Berard: So we’ve been giving you this detail probably for the last year because it was much more dramatic. Most of the backlog has normalized into kind of that 4 to 6-week territory. The one difference is network gear is still an issue. It’s been an issue now for a while. So most other parts, and of course, GPU cards are the other issue. But network gear actually got a little bit worse this quarter compared to there. But most of the other parts are fairly normalized. So really, the increase in backlog is more a function of demand than it is necessarily of more problems. The one thing I’ll say though is we don’t know what the new normal is. I think we’re getting closer to it. Last year, I was too optimistic on what normalization would look like. But the fact that it grew again here is more, I think, demand focused and still there’s some issues that persist with the networking side.

Christian Sgro: Thanks for taking my questions.

Greg Berard: Thanks, Christian.

Operator: Our next question comes from the line of Rob Goff of Echelon. Please go ahead.

Rob Goff: Thank you very much. And please let me know, Christian, congratulations on a very strong quarter and tremendous free cash flow.

Greg Berard: Thank you.

Rob Goff: My questions are not that dissimilar. But when you look at the free cash flow generator in the quarter, you suggested that we could see more improvements going forward and that there are structural changes. Could you perhaps address some of the structural changes you put in place and are contemplating looking forward?

Greg Berard: Yes, absolutely. So within this quarter, what we saw was the turning of our negative working capital from the last quarter. So, you saw a massive spike this quarter. But I think it’s best to look at on a year-to-date basis. When we – some of the structural changes that we are making is just putting more discipline in our contracts, our contracts are structured. What terms we are offering, how we look at our payables, how we look at our vendor payables, it’s throughout the entire organization looking at from our entire cash cycle process, whether it’s payables or receivables and holding the entire organization accountable for that cash.

Rob Goff: Okay. Thank you. And you did talk to the strength of the hard work. Could you perhaps dive a little bit deeper there, in that we are seeing peers like Soft Choice and CDW with 20% down year-on-year? Can you talk to your pockets of strength that they don’t have?

Greg Berard: Yes, absolutely, Rob. So, I think it ties to our ability to have conversations around high performance compute AI in other areas, right. So, you are seeing a shift in the market where devices were down significantly for most of our competitors. But when you look at the high value solutions we are driving and the data center technologies that that drives along with it, that’s why you are seeing the growth from us, right. It’s the combination of building out those high value solutions with the platforms.

Rob Goff: Okay. Thank you.

Greg Berard: Thanks Rob.

Operator: Our next question, my next question comes from the line of Stephanie Price of CIBC. Please go ahead.

Stephanie Price: Hi, good morning. You got some of leverage as well and just wanted to get your thoughts on capital allocation. As you know leverage is now under your 2x targets on a on a non-bank debt basis. How should we think about use of cash here? Is share repurchase still the focus, or do you kind of think about M&A as you as you start to get that leverage ratio down?

Avjit Kamboj: Yes. So, our capital allocation strategy remains the same, Stephanie. Number one is to continue investing in our organic growth internally with our hiring of our sales teams and our high value individuals on the consulting side. Secondly, as you mentioned, now that we are below 2x, we will be looking to expand more on our NCIB and providing a return to our shareholders through an expanded at NCIB. And thirdly, we will continue to pay-down debt. And lastly, we will probably go back on the acquisition path as our share price recovers and the market becomes more attractive.

Stephanie Price: Okay. Thank you. And then also wondering about the overall demand environment, how much visibility here do you have in fiscal ‘24 and what are clients talking about as we approach year end, is there still a little bit of hesitancy just given the overall macro environment or our clients looking to spend as we head into fiscal ‘24?

Greg Berard: Yes. So, we have a very close eye on that right. We do monthly business reviews and quarterly business reviews with our entire organization and we continue to see demand be healthy. I think as we sit through the conversations with our teams, the diversification that we bring to the table is the key differentiator for us. So, as spending priorities shift, our ability to shift with our clients, whether it’s around more focus on AI or more focus on cyber, our end-to-end portfolio gives us the ability to continue to diversify with our clients and make sure we are helping them build the solutions that they need for 2024. So, pipeline and demand continues to be healthy for us across the board.

Stephanie Price: Great. Thank you very much.

Greg Berard: Thank you.

Operator: Our next question comes from the line of Jérôme Dubreuil of Desjardin. Please go ahead.

Jérôme Dubreuil: Hey. Good morning and thanks for taking my questions. The first one is on the margins of project where your full strategy is deployed, where you have the more end-to-end capabilities that are very much integrated and implemented maybe some regions in the Northeast of the U.S. What type of margins are you seeing there so we can see where the whole business might be going down the road? Are we talking well on the team stuff?

Greg Berard: Yes, I can take that. The way we look at our business, when I – I won’t comment on region-by-region internally and look at our long-term targets. Our long-term target of getting to 30% of adjusted EBITDA percentage of GDP still remains the target, and that’s what we are driving towards. If we were to take out some of the noise between the low-value businesses, we see a very, very clear path to getting to that 30%. But given the amount of revenue we bought from these low-value – low-margin businesses, it will take us some time to get there, which is the target that we have been communicating to the market of sort of 3 years to 4 years, but we see a very, very clear path to getting to that 30% EBITDA margin.

Jérôme Dubreuil: Thanks. And just maybe kind of similar that was asked, but in terms of working cap, you talked about assessing it on the year-to-date basis and going forward. But just to see what you are expecting in the very near-term, you are expecting any quick reversals or are we back to kind of normal that we should be expecting with the transition towards services?

Avjit Kamboj: Yes. So, I would say this quarter was the reversal from the prior quarters. Our target of 70% of EBITDA being converted to cash from operating activities remains intact and that’s what we are driving towards. And like I have mentioned in my remarks, that is a conservative target that we have set, we expect to overachieve that, but that’s the target that we are marking towards for now.

Jérôme Dubreuil: Okay. And then last one for me, because there we were talking about U.S. deployment of Portage in the last couple of quarters still in the near-term roadmap?

Greg Berard: Yes. So, what Portage, they launched their 3.0 release, which is channel ready because of the productized enough of the offering that it can be implemented in three months to six months and Converge obviously has a very strong channel. So, the next stage of for Portage is U.S. sales and they have been engaged with our sales channel in the U.S. as we do with other product companies as well. But we have a very – Converge has a very strong footprint into municipalities and there are active conversations, including some states are having CIO summits with Portage hosting those. So, the next big stage of growth for Portage has done a great job in Canada is to the U.S. and that’s being facilitated by Converge.

Jérôme Dubreuil: Thank you.

Operator: Our next question comes from the line of John Shao of National Bank. Please go ahead.

John Shao: Hey. Good morning, guys and thanks for taking my question. So, on hardware, do you think we are going to see that hardware spending rebound potentially in 2024 given the time of year though that the current refreshment cycle?

Greg Berard: So, those are two different, when you say hardware, it’s very different and that we are experiencing very high demand around high performance compute. When people talk about hardware decline, they are talking about devices because too many people, I guess overbought during the pandemic and then the laptop “device refresh cycle” is around 3 years in private enterprise in about 5 years in government. But one of the things just a data point, our Canadian business does a lot of its business out of Ottawa with the Federal Government. And a year ago they were competing for around 11,000 devices, where this year it’s 5x that. So, we are going to see a normalization in devices. As that as a data point, but not to the again, government was very poorly equipped for work from home because working from home was not a general business model that governments had. They were forced into that by the pandemic, which means there was a large kind of – plus a refresh where you will come to that. So, I think you will see it get according to Gartner and other people like that better next year and then I think you will see it more normalized going forward. But as far as hardware sales, the high performance compute is the reason that our numbers might look different from people that are focused on devices.

John Shao: Okay. Got it. Microsoft recently released the pricing of co-pilots, so maybe just share with us, the type of conversation you are having there with customize as-well-as their level of interest at this point.

Greg Berard: Yes. So, I will jump on that. Lots of conversations with clients around, I will say the AI platforms across all the cloud platforms today. So, we are having conversations with Microsoft, AWS, Google, IBM, etcetera. A lot of interest, not a lot of movement right now around the Microsoft tool, but we are actively piloting some things internally testing it, so we are ready to have those conversations and ready to help our customers implement it when they are ready. But I would say late 2024, you will see more traction there.

John Shao: Okay. Thank you. I will pass it on.

Operator: Our next question comes from the line of David Kwan of TD Securities. Please go ahead.

David Kwan: Hey guys. Just one question on the margins side, so thanks Avjit, for the commentary as it relates to your expectations as it relates to the 30% adjusted EBITDA margin target in over the next 3 years or 4 years. Can you provide some color as to how you see yourselves kind of getting there? Is it more back-end loaded? Given your planned organic growth investments or should it be more of a steady progression?

Avjit Kamboj: I think there will be a steady progression starting towards the end of – or close of second-half of next year as we transfer our business and invest in our capabilities. But at the same time, you will also see a drop it drop in our back office costs as we implement our new ERP system towards the end of next year. See, you should see a steady growth after – towards the end of next year and then a steady growth of 30% thereafter.

David Kwan: That’s helpful. I guess on the ERP migration, so it sounds like you are expecting, I think at least North American migration to be complete by the end of next year. Should we expect that Europe is going to follow the same in 2025?

Greg Berard: Correct. So, we actually expect our first phase, which is most of North America to be live by mid-next year. And then goal is to have all of North America by end of next year and then Europe will follow very early 2025 like you said.

David Kwan: Great. Thanks.

Operator: Our next question comes from the line of Divya Goyal of Scotia Bank. Please go ahead.

Divya Goyal: Good morning everyone. So, I wanted to actually get a little bit more color in the 2024 trends. I know you briefly discussed it, but just trying to understand what are you truly seeing across the enterprise and the SMB versus commercial clientele for yourself and considering a potential slowdown with the macro and the geopolitical conditions out there, where do you see things trending for yourselves and if you could provide us some color on the guidance along with that as well?

Shaun Maine: So, I will leave the guidance to Avjit, but geographically you are seeing some real differences. In the U.S., we are seeing strength. And again, as Greg mentioned, we do these quarterly business reviews and we were talking to as one of our regional leaders and they are saying, Shaun, I talked to all of my OEMs and they are seeing declines and we are just not seeing that. We keep on asking, are you seeing weakness, are you seeing weakness and as Greg said, because of the diversity of our solutions, we are continuing to see that strength and demand and that is particularly in the U.S. We are also seeing some strength in UK, not as more headwinds in the German marketplace. And in Canada, we have seen some problems, especially around the Federal Government this year as we talked about the refresh cycle. But the majority of our business in the U.S., we simply have not seen those declines. You hear a lot about headwinds and other people might be experiencing it. But when we do our regional reviews, we continue to see very strong demand.

Avjit Kamboj: And on 2024 guidance Divya, we will provide that guidance as we present our fiscal year 2023 results.

Divya Goyal: And for the Q4 guidance, is that something where you see further upside or is there a potential for any downside there, like can we be confident in the guidance given how the things have been trending over the past few weeks and going forward towards December?

Shaun Maine: Where we sit today, Divya, we are very comfortable with the guidance we provided and the range we provided.

Divya Goyal: That’s good color. If Shaun or Greg or Avjit yourself, could you provide some more color on how the REDNET business is trending in the European market and what kind of traction do you see in that side of the world right now?

Shaun Maine: So, in the German marketplace, you have definitely had headwinds on budgets. I mean not only did you have Ukraine war impacting some things, you have had high inflation and now we have got the situation in Middle East. So, that apps has an impact, but the education business, it’s not just REDNET, it’s GfdB, the indexer that we have there. But those are long-term contracts. The key for us is, as we set our strategy was to get a platform, then to expand geographically, but then to get into the commercial sector. And so you will hear more about think back to Converge in its earlier days where things like getting top tier certified with our vendors. There is going to be some announcements on broadening the vendor coverage to some of our high value solutions in Europe, that will be coming in the next few weeks. And this is really taking all the things that work so well that Greg implemented so effectively in North America over there. So, it’s where we are in North America after buying such capabilities around analytics and cyber is much higher level. The immediate benefit as we get to the commercial sector is leveraging. The top tier statuses with the vendors and the diversity of some of the solutions and the use cases that Greg has been providing that are low-hanging fruit and quick wins. So, see in Europe, it’s not to the same degree of the solutions that we have in North America, but think back to like the Phase 1 to Phase 2 kind of growth that Converge went through in kind of 2017 and ‘18 and that’s the journey that we are on in Europe.

Divya Goyal: That’s helpful. Just one last question here on the services group that you discussed just a few minutes ago. Are we talking about more managed services growth or does that include the professional services growth as well, and if you could provide some color or the breakdown on those? That’s all for me. Thank you.

Greg Berard: It’s a combination Divya, right. So, we grew professional services and managed services both in the quarter. What we are seeing is when you look at the professional services business, right, again, the device slowdown occurred in 2023 and that impacted some of the professional services we deliver around the devices. But the overall high value services in our professional services, portfolio grew at a faster rate and a higher rate. And we are continuing to see more growth around managed services. And as we talked about at the Coffee and Converge series, we are going to make some tweaks to the overall go-to-market plan on managed services and we expect to see that continue to grow in 2024.

Divya Goyal: That’s helpful. Thanks everyone.

Shaun Maine: Thank you.

Operator: Our next question comes from the line of Robert Young of Canaccord Genuity. Please go ahead.

Robert Young: Hi. A couple of quickens in interest of time. You said you are holding the organizational accountable for cash. I am assuming that’s around receivables, but are you changing anything around the way that the sales force is incentivized? I think it’s driven by gross profit now, but is there an adjustment around, more focus on cash?

Shaun Maine: So, there is no adjustments as of today to our sales organization. That’s something we continue to evaluate and look at. But in terms of holding the organization accountable for cash from operations, everybody or majority of the organization has a part of their bonus targets meeting our corporate cash from operations now.

Robert Young: Okay. Thanks. And then I would think you know long-term as you think about cash flow from operations conversion to EBITDA, you are giving some targets around where EBITDA margins would go as a percentage gross profit. But Converge in this quarter, where could it go long-term if we are thinking about, where cash related to EBITDA goes. Then I will pass it on.

Avjit Kamboj: Yes. So, the free cash – for the short-term and the medium-term, our target continues to be on a conservative basis. Operations cash from operating activities 70% of adjusted EBITDA and free cash flow which is cash from operations minus interest expense, minus our lease payments and minus any CapEx is expected to be 40% of adjusted EBITDA.

Robert Young: Okay. Thank you. I will pass it on.

Shaun Maine: Thanks Robert.

Operator: [Operator Instructions] And our next question comes from the line of Gavin Fairweather of Cormark Securities. Please go ahead.

Graham Smith: Hi there, this is Graham Smith on for Gavin Fairweather. I am just sort of curious if you can give a little bit more color on just your broader integration efforts and maybe what sort of typical incremental synergies you are sort of expecting to gain in each quarter, especially going to Q4? Thanks.

Greg Berard: Yes. I can provide an update. So, our North America integration is the fastest integration that continues to be on track. As I have mentioned on last quarter’s call, our front office is primarily integrated, our back office as we are working on this New Year, which goes live mid next year, that’s where you will probably see the biggest synergies and operational efficiencies. We continue to look at how we are going to integrate our European business, given that there are two separate jurisdictions. We are on a path to integrate to the two businesses, distinct businesses we bought in Germany into one Converge Germany. So, that’s on track as well. I think you will start to see synergies towards the later end of next year.

Graham Smith: Yes. It’s very helpful. Thanks. And that’s good for me.

Greg Berard: Thank you.

Operator: Thank you. And there are no further questions at this time. Therefore, this concludes your conference call for today. Thank you for participating and ask that you please disconnect your lines. Have a great day.