Converge Technology Solutions Corp

TSX:CTS

Thank you for standing by. This is the conference operator. Welcome to the Converge earnings call for the third quarter of 2024. As a reminder [Operator Instructions] and the conference is being recorded. [Operator Instructions]

I would now like to turn the conference over to Dennis Fong, Converge Investor Relations. Please go ahead.

Thank you, operator, and good morning. Joining me on the call today to discuss Converge's Q3 2024 results are Greg Berard, Chief Executive Officer; and Avjit Kamboj, Chief Financial Officer. This call is being recorded live at 8:00 a.m. Eastern Time on November 12, 2024.

The press release we issued earlier this morning is available for download along with our Q3 MD&A financial statements and accompany notes, all of which have been filed and are available for review on SEDAR plus.

Please note that some statements made on the call today may be 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. Complete safe harbor statement is available in both our MD&A and press release, as well as 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 before, we will also discuss non-GAAP performance measures, which should be viewed as supplemental. The MD&A contains definitions on each one used in our reporting. All the dollar figures expressed in this call are Canadian unless otherwise noted.

I'll now turn it over to Greg to begin with opening remarks, providing a high-level summary of our Q3 results and business overview for the quarter. Avjit will dive further into the financial details of our Q3 results and provide notes for Q4 before we wrap it up and take your questions.

With that, Greg.

Thank you, Dennis. Good morning, and good afternoon to those of you joining from overseas. Welcome to our third quarter 2024 results call.

In what follows, I will provide a business update on the quarter, beginning with high-level financial highlights. I will then provide an update on our partnerships and our key practice areas and share a few examples of customer success stories that illustrate how we are continuing to drive value with our clients and acting as their trusted advisor. I will also speak to current market conditions and provide an outlook on our longer-term objectives. Following my remarks, Avjit Kamboj will provide a more detailed review of the third quarter financials, discuss our capital allocation priorities, and a forecast for the remainder of fiscal year 2024.

As announced in our press release this morning, the previously discussed Group CEO transition plan has progressed ahead of schedule and the Board has accepted Shaun Maine's decision to step down as Group CEO. I will continue my role as CEO of Converge, and effective today, I have been appointed as a member to the company's Board of Directors. I would like to thank Shaun and the Board for their continued confidence and support, and I look forward to the incredible future ahead built on the strong relationships with our clients and partners, combined with our deep technical capabilities we have amassed across all of our key practice areas, all supported by our strong operating and financial discipline. With that, let me begin by reviewing the highlights for the quarter.

As reported in our Q3 preliminary release on October 24, our financial results were affected by lower demand in North America. This was a result of macroeconomic factors that delayed project spending in the final weeks of the quarter, specifically around our data center and device business, leading to results that fell below our guidance range. However, I will reiterate that our strategic investment areas around AI, cloud, and cyber all grew double digits in Q3. I will address the factors that impacted the overall quarter, but first and foremost, I want to emphasize that our business fundamentals remained strong.

In Q3, we generated $48.9 million in cash from operating activities, with $32.1 million in adjusted EBITDA. This represents a 152% cash conversion from adjusted EBITDA to operating cash flow. During the quarter, we also returned $10 million in capital to shareholders through our NCIB share repurchases and dividends.

From a cash flow standpoint, this was a continuation of what we have done throughout the year. Year-to-date, the business has generated $212 million in cash from operating activities, an 85% year-over-year increase. With this cash, we have reduced our net debt position by $82 million since the beginning of the year and $180 million since Q3 of 2023.

In addition, we have returned $61.7 million in capital to shareholders through dividends and share buybacks. Our financial results are supported by the immense value that we bring to our customers. We have generated over $3 billion of gross sales year-to-date with an organic growth rate of 2%, highlighting the sustained demand for Converge's comprehensive set of solutions.

Our AIM strategy, Advise, Implement, and Manage across all of our practice areas continues to put us in a position to deliver end-to-end solutions and services that validates the strength of our organic growth strategy and our ability to outperform other regional providers.

As we review our Q3 business highlights, I want to emphasize our continued confidence in our model, our market position, and our strategy. It is our differentiated end-to-end service offerings and our deep relationship with our strategic partners that drives our financial engine, which allows us to reinvest and create long-term value for our shareholders.

Converge takes great pride in our unique partner relationships that enable us to offer a world-class portfolio of solutions. The combination of our AIM strategy, our deep technical expertise, and our strategic partnerships is what makes us unique in the marketplace, providing a competitive edge amongst peers. The industry recognitions achieved both recently and throughout the year continue to underscore the success we are seeing across our practice areas. It is the combination of our technical expertise and trusted advisor status that gives us the ability to drive the right solutions and value with our clients.

We are proud to have been recognized as a CRN Triple Crown Award winner for the third consecutive year. This prestigious award honors companies who have been named to 3 of CRN's most distinguished lists, the Solution Provider 500, which ranks the largest IT solution providers in North America by revenue, the Fast Growth 150, which highlights the fastest growing IT companies, and the Tech Elite 250, which recognizes those with the highest-level certifications from the top technology vendors. This continued recognition reinforces Converge as a leading player in the IT industry and a trusted global technology partner.

Just last week, I participated in the 2024 Ingram Micro One Innovation Center held in Maryland, where I had the opportunity to engage with industry leaders and esteemed partners. I was part of a panel with NVIDIA and Ingram talking about the value of AI partnerships and how our unique skills help position us for the growth expected around AI deployments and growth in AI workloads.

We talked about the success we've had around high-performance compute, but also discussed the importance of focusing on building new industry solutions and replatforming existing ones, which enables us to optimize, scale, and manage AI workloads for our clients.

Also, at the event, Converge, was honored to receive Ingram Micro's Solution Partner of the Year for North America. Ingram is a longstanding top partner of Converge and a leading technology company in the global IT ecosystem, with a vast reach that extends to nearly 90% of the world's population. Our designation as this year's Solution Partner of the Year is a testament to our growth as a company, our investments in driving growth around AI, cloud, and cyber, and our consistent ability to deliver groundbreaking solutions to our customers alongside Ingram Micro. This recognition further highlights the strength and depth of our partnerships, which are a key driver of our success.

One question we often receive from investors is regarding our partner diversification strategy. We have over 1,000 partner relationships, enabling us to meet our customers' diverse end-to-end IT solution needs. It is important to note that no single vendor accounts for more than 10% of our gross sales, which is a direct reflection of the strength and resilience of our diversified partner ecosystem. While the composition changes from year-to-year based on our customer investments, it's the breadth of our capabilities across product lines that builds reoccurring long-term relationships with our top clients. All of this provides diversification across our partner base and makes our business a strong indicator of the current industry trends in IT spending.

As a result of this diversification, we are able to deliver targeted solutions through our AIM strategy, which is uniquely designed around our deep expertise in our core practice areas and our go-to-market strategy around advanced analytics and artificial intelligence, application modernization and cloud platforms, cybersecurity, and data center solutions. These solutions cover our customers' end-to-end IT needs, including key areas where IT budgets are shifting, allowing us to continue to drive growth in our strategic investment areas.

In North America, we continue to see the power of our practice areas as we accelerate discussions with our clients on driving higher value solutions. This is positioning Converge for larger enterprise level opportunities through our unique internal expertise and ever-expanding capabilities. As a result, in the third quarter, we also added another 119 net new logos and saw double-digit growth in our key strategic practice areas, driving the growth around our software and managed services revenue.

The growth in managed services in Q3 was driven by demand for our IP4G solution in partnership with IBM and Google, our infrastructure as a service offerings, and our 24/7 help desk solution. We are committed to continuing to diversify our business across our vertical practices while continuing to drive greater penetration of higher value professional and managed services. As we have done over the past few years, we will continue to invest in new offerings, new partnerships, and new solutions that drive value for our clients. This strategic approach will undoubtedly increase our wallet share from customers, but also help to fortify our position against future market fluctuations.

To highlight the value, we continue to prioritize and deliver for our clients. We secured several wins in Q3 that showcase our role as a trusted advisor and demonstrate our commitment to providing higher value solutions. One notable case involved our cloud and managed services team engagement with a global human resources company that partnered with Google to move from traditional IT infrastructure to a cloud-first approach with a goal of moving all of their North American applications to Google Cloud.

As a trusted IBM and Google partner, Converge was chosen to help migrate their Oracle systems to the IBM Power for Google Cloud platform. We effectively provided deployment, migration, and project leadership services, securing a 5-year IP4G subscription for development, production, and DR workloads across 2 U.S. regions, and also added a 5-year AIX and backup managed services contract. This is a great example of showing how our IP4G solution can help us expand both our professional and managed services business.

Another example of our teams working together across practices and driving value around their cybersecurity needs is the work we did with a large healthcare insurer. They were facing challenges of technical debt, user experience issues, and stringent security requirements. With the end goal to replatform their portals and use a solution that met modern identity standards and could be managed by their MSP, they partnered with our Converge cybersecurity team. We implemented a modern customer identity and access management solution using Okta's Customer Identity Cloud, enhancing user experience and increasing security with advanced attack prevention and multi-factor authentication.

Through our professional services and cyber team, we will continue to work toward enabling commercial members across their portfolio of applications and to migrate and consolidate their providers, their brokers, and their employers to the Okta platform.

Lastly, we worked with a leading nonprofit health and well-being organization ranked among the top health plans in the U.S., serving over 2 million members. They came to us wanting to improve how they share patient information between systems, meet healthcare data sharing regulations, and build a modern infrastructure for real-time data exchange between their on-premise systems and the cloud. By leveraging our professional services teams across our key strategic practices and our expertise in application modernization and cloud integration, our teams helped create a customized solution that reduced risk, accelerated the project, and established Converge as a trusted partner for similar healthcare initiatives. This is just another example that shows the power of our Converge strategic investments combining the power of our AI application modernization and cloud teams.

As you've seen in the examples shared today, we have had great success in delivering impactful solutions for our clients. Each of these stories reflects our commitment to providing tailored solutions that meet our clients' unique needs, and these are just a few examples that continue to underline our AIM strategy is working and we will continue to be the trusted advisor for our clients delivering high-value solutions.

Before handing the call over to Avjit for a detailed financial review, I'd like to provide some additional commentary on our Q3 sales performance in the current market environment. We conducted a thorough analysis of our sales funnel from the bottom up and identified all the key deals that slipped from our Q3 forecast. We saw a larger amount of elongated customer decision-making and delays in projects. This was unusual and something we haven't seen in recent quarters, and it supports our view that the weakness was spread across a fairly wide range of customers that were exhibiting increased caution across the IT industry.

On the customer side, we observed procurement becoming more involved in purchases, which slowed down deal velocity across the data center and device business.

Since the end of September, we continue to track and monitor all the deals that have pushed. The good news is we've closed about a 1/4 of these deals in Q4 already, and we expect the remaining deals to be pushed into late Q4 and some into 2025.

We also achieved a major milestone for the company with the successful implementation of our new ERP system that went live in North America in October, with the full completion expected in 2025.

As we continue to optimize the ERP system, it will increase the velocity of information across our business. This visibility will continue to allow us to be more data-driven, and we will look to accelerate the benefits achieved in the coming quarters.

We are committed to our long-term investment plan, driven by our focus on organic growth and our continued investments in new sellers and strategic technical hires. Our goal for 2024 was to target 10% annual growth in our seller base, and we have added over 30 new sellers in 2024. We also remain focused on improving profitability by continuing to drive higher-value solutions and the right optimization across the business, aiming for 30% adjusted EBITDA conversion from gross profit over the next 3 years.

We are growing our team, boosting efficiency, and fostering a strong company culture that emphasizes focus, accountability, collaboration, and execution. Our leaders fully embrace these core values, empowering our teams to implement strategic initiatives decisively and drive long-term success for our clients and shareholders. We remain steadfast in our commitment to our long-term goals, and we are confident in our ability to reach them as we continue to execute and invest in the right strategic areas for our clients, our employees, and our shareholders.

With that, I will now pass the line to Avjit to review the details of our Q3 and year-to-date financial performance.

Thank you, Greg, and good morning, everyone. In my review of Q3 2024 financial results, I will refer to some measures that are non-GAAP, 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.

Also note that our operating results in Q3, including gross sales, revenue, gross profit, and adjusted EBITDA now exclude the results of Portage, which has been deconsolidated in Q2. Although our third quarter results did not meet expectations and the second half of this year did not pan out to be what we had expected, we believe our end markets will recover and we will observe positive momentum in our strategic focus areas. At the same time, the operating discipline we have instilled has enabled us to keep delivering strong cash generation and conversion of cash from adjusted EBITDA.

Following the successful migration of our ERP in North America in October, we're poised to drive further efficiencies in our business commencing mid-next year. Our ERP will also enable us to provide additional insights over time as we strive to provide more transparency towards the material factors that drive our business.

Let me begin with a review of Q3 top-line results. Gross sales were approximately $945 million for the quarter, representing a decline of 8.9% year-over-year. Excluding gross sales of Portage in Q3 of prior year, gross sales declined 8.4%. As noted on our preliminary results release on October 24, Q3 revenue was impacted by adverse macroeconomic conditions as certain customers delayed spend as timelines shifted into the fourth quarter and the next fiscal year.

Looking at our 3 primary sales categories and adjusting to exclude impact of Portage from the prior period, product gross sales, which includes hardware and software sales, declined by 7% for the quarter. Managed and professional services declined by 6.8%, and maintenance support and cloud declined by 14.8%.

The third quarter is generally a seasonally weaker quarter for us. And a large factor in the year-over-year decline is the comparison against a period of abnormally strong backlog fulfillment in Q3 of 2023.

Within product sales, software was a bright spot growing at double-digit rate year-over-year, while hardware sales declined due to lower demand in North America for data centers, networking, and storage solutions. This also translated into lower-related maintenance and support sales while cloud growing double-digits.

The decline in our professional and managed services sales this quarter was driven by the same factors discussed in our Q2 report, namely a reduction in resale of professional services as we focus more on in-house delivery, products and services discipline and moving away from non-core services, and lastly, conclusion of large talent or staffing service contracts with 2 major clients as these clients transitioned contractor spend to in-house spend.

As Greg covered earlier, we saw strength in our focus practice areas where we have continued to invest, including cloud platforms, AI, and cybersecurity. These areas all grew by double-digits. We believe our leadership in these strategic areas is a key source of market differentiation for Converge and will drive long-term organic growth in our business.

I touched on this last quarter, but I think it's worth reiterating for newer listeners. We report revenues in accordance with IFRS. In our industry, revenue is not a primary KPI due to gross net accounting requirements or also known as netted down sales in our industry. Our revenue will fluctuate over time depending on the product mix of netted down sales. Most hardware sales are recognized on a gross basis and most software maintenance, support, and cloud sales are netted down sales, meaning these are recognized on a net basis.

Gross sales and gross profit are the best measure for top-line. We have included this slide in our deck to illustrate this gross net accounting and the impact of revenue and gross profit.

IFRS revenue in Q3 was $630.7 million, a decrease of approximately 11.2% compared to Q3 in 2023. The higher decrease in revenues compared to gross sales is due to lower netted down sales of hardware during the quarter where Converge acts as a principal.

On a year-to-date basis, gross sales grew 1.9% with organic growth of 2% excluding any impact from Portage. This was driven by 3.1% growth in product sales, 5.1% growth in maintenance, support and cloud solutions, partially offset by 7.8% decline in managed and professional services.

We remain highly engaged with our customers discussing their needs across high-performance computing for AI, app modernization, cloud solutions, cybersecurity solutions, and multi-year software licenses. We believe the deferral of deals from some of our customers will close. It should be just a matter of time. Our expectation is that the end-user device refresh cycle will pick up in 2025. And regarding our professional and managed services business, we're focused on expanding and have strategies to drive higher operating leverage.

Turning now to our profitability. Gross profit in Q3 tracked with our revenue and at $158.3 million represented a decline of 9.1% from Q3 last year or 7.3% excluding the impact of Portage. Gross profit margin for the quarter was 25.1%, an increase of 60 basis points compared to Q3 last year. The increase in gross profit margin is primarily driven by product mix from higher software sales and public cloud sales recognized on a net basis.

Q3 adjusted EBITDA was $32.1 million, a decline of 22.2% year-over-year. Adjusted EBITDA as a percentage of gross profit was 20.3% compared to 23.7% in Q3 last year. Given the operating leverage of our business, changes in gross profit will lead to a larger percentage change in adjusted EBITDA. Conversely, once gross revenues and gross profits recover, we would expect a significant positive impact on adjusted EBITDA, likely returning it to prior levels and higher. As a result, there's no change to the target operating model we expect to achieve over the next 3 years.

As a result, as Greg indicated, we're targeting adjusted EBITDA as a percentage of GP in the 30% range driven by gross margin improvement and flexing your operating leverage from SG&A efficiencies.

I'm pleased to report that Phase I of the ERP program successfully went live in October without any major issues. We are now focused on improving our processes as everyone gets more familiar with the system. This marks a significant operating milestone for us. And we are intensely focused on driving efficiencies and plan to accelerate some of the benefits of this new system over the next fiscal year.

In Q3, we reported a net loss of $3.3 million compared to our net loss in Q3 of 2023. The net loss includes a loss of $2 million representing the company's portion of net loss of Portage since the date of deconsolidation.

I will now go into details on our performance by segment. Breaking down Q3 gross sales by region, Converge North America business declined by approximately 9.7% during the quarter and represented approximately 81% of our overall gross sales.

Gross sales in UK declined by approximately 8.6% primarily due to a large one-time hardware transaction in the prior year.

Our Germany business declined by 1.1% in Q3 as we saw some stabilization in demand for end-user devices to the education sector.

The gross profit decline of 7.3% excluding the prior year's impact from Portage was all driven by decline in North America of 13.8% offset by solid growth in UK and Germany, with the UK increasing 31.5% and Germany increasing by 26.3% year-over-year.

Translating results from foreign currency predominantly USD, GBP and euros provided an approximate 200 basis points benefit to gross sales and gross profit.

UK gross profit growth was primarily driven by positive factory spent variance throughout at the end of the quarter given that Stone Group manufactures its own product.

Similarly, North America adjusted EBITDA decreased by 35.8% and UK adjusted EBITDA being up 3.3% and Germany adjusted EBITDA increasing by 115% for the quarter compared to last year.

We had expected a greater stability in our European business in Q3 and it was a positive to see this unfold which is seasonally stronger quarter for the education sector.

Now moving on to cash flows of liquidity and balance sheet. Cash from operating activities in Q3 was $48.9 million. Cash conversion of adjusted EBITDA into cash flow from operations was slightly above 150% for the quarter compared to our target of 75%. Free cash flow for the quarter which is defined as cash from operating activities, less CapEx, less lease payments and interest payments was $40.6 million or 126% of adjusted EBITDA for the quarter compared to 78.8 million in Q3 of last year.

We have continued to manage our working capital very effectively. Although we expect cash conversion to trend over time in line with our previously provided guidance of converting approximately 75% of adjusted EBITDA to cash from operations, we now expect for the full year fiscal 2024, our cash conversion will be closer to 150% conversion.

Looking at our balance sheet, we finished Q3 with a solid financial position with a net debt of approximately $128 million. Our leverage ratio at the end of the quarter was 0.77x compared to 1.84x at the end of Q3 last year. As previously stated, our target leverage ratio is around 1x in a high interest rate environment and we are comfortable operating around this ratio. As a reminder, we calculate our leverage ratio as short-term and long-term borrowings left cash divided by LTM adjusted EBITDA.

The third quarter results don't change our capital allocation strategy, but they do influence our near-term actions. Our priorities remain investing in organic growth, maintaining a healthy leverage ratio and returning capital to shareholders. We will continue to focus on deploying capital where we expect the greatest returns.

From an organic growth perspective, we added 37 new account executives in North America, exceeding our target of approximately 10%. Net of low performer non-voluntary departures, our net increase was 14 new account executives.

Year-to-date, we have reduced net debt by approximately $82 million and paid approximately $32 million in contingent and deferred consideration that related to previous acquisitions for a total of $114 million reduction in net debt and acquisition related liabilities.

We have returned a total of approximately $62 million of capital back to shareholders in the form of share buybacks and dividends this year. In Q3 alone, we repurchased approximately 1.6 million shares for a total of 10.5 million shares for the year. Subsequent to quarter end, we repurchased additional 1.5 million shares to date for approximately $5 million.

Given our share price, we believe that buying Converge stock offers a better return on capital than acquiring other companies through M&A. We generated approximately $178 million in free cash flow so far this year. We calculated free cash flow as cash generated from operations minus CapEx, lease payments, and interest.

Our shares are currently trading around a free cash flow yield of 24%. We're confident in our ability to maintain strong cash generation in our business and at these valuations, we plan to deploy capital aggressively to buy back shares, creating value for our ongoing shareholders. As a result, we intend to maximize our daily purchases under our NCIB program in the near-term.

Before I turn to outlook, I do want to reiterate that we will not deploy capital on M&A that is not accretive. We will evaluate each deal to make sure it meets our target ROI target and cash-on-cash return target. And like I said, at these share price levels, the best acquisition to do is to buyback our own shares.

Now turning to our outlook, the uncertain market conditions we currently operate under are likely to persist throughout the remainder of 2024. Customer sentiment remains cautious.

Given these market conditions for the full fiscal 2024, we expect our gross profit to be down low single digits, excluding Portage. We now expect for the full fiscal 2024 revenue to be between $2.5 billion and $2.56 billion, gross profit to be between $678 million and $691 million, and adjusted EBITDA to be between $155 million and $166 million.

We mentioned a large AI deal last quarter, and it is not in the forecast for Q4 either, as there are no real updates from the last quarter. The deal continues to be in our pipeline, but the amount and the timing are still in flux.

For the fourth quarter, Q4 2024, we expect revenue to be between $600 million and $646 million, gross profit to be between $165 million and $178 million, and adjusted EBITDA to be between $36 million and $47 million.

With that, I would like to thank you all for joining the call today, and I will now open the floor to questions. Operator?

[Operator Instructions] And your first question comes from the line of Gavin Fairweather with Cormark.

First, just to start out on the segments which you're targeting. The company was really built on the mid-market and the script provided a lot of examples of larger enterprise deals and solutions, which isn't necessarily new, but I'm curious to what extent you're pointing the sales force more and more towards enterprise and whether you've kind of split out the sales force at all. Any detail on that would be helpful.

Sure. Thanks, Gavin. Yes, so we have not. We continue to go to market the same way right now in 2024. Based on the volume of deals we are seeing, we are looking to make some changes for 2025 to just ensure we continue to drive the volume in the mid-market while at the same time driving larger enterprise deals as well. So we want to make sure we adequately cover both target segments.

Okay, that's helpful. Just wanted to check in on that. And then for my follow-up, just on the services side, the revenue is flat sequentially and you called out some of the same factors which impacted you in Q3 and Q2. So do you think that that revenue line has stabilized now? Maybe you can talk about your longer-term plans for the services business line in terms of which areas you can push for growth and any opportunities you have around profitability. That would be helpful.

Sure, yes. So from a services perspective, when we look at year-over-year, similar to Q2, the numbers were down. But when you look at quarter-over-quarter, from Q2 to Q3, we are seeing momentum behind specifically the professional services business. When you look at managed services, we had mentioned that [ that ] was up double digits year over year. So we're seeing good growth on the managed services side and we're seeing now stronger growth in the professional services side. And we continue to make sure we invest in the right, both technical resources and as we bring on new sellers, invest in resources that understand how to drive professional service as well. And we're seeing some nice momentum right now behind that as we head into Q4 in 2025.

And your next question comes from the line of Rob Goff with Ventum.

And Greg, congratulations on your new responsibilities. All the best there.

Thanks Rob.

My question would be, when we look at Q3 and Q4, can you give us any better sense for the impact of the 2023 backlog drawdown and what the year-over-year IBM factor might be?

Yes, so can't quantify the number, Rob, right? But what we've dug into is the fact that, as we all know, the supply chain challenges we had coming out of COVID presented a challenge for us in terms of '21, but then we saw the backlog flush out in '22 and '23. And as we go quarter to quarter here in 2024, the backlog is not as significant, right? Which is good for us in terms of being able to manage and optimize the business moving forward, but it is presenting challenges in terms of year-over-year compares for us. Specifically, to IBM, in 2023, we had a nice mainframe refresh cycle that helped us in 2023, and that is not here in 2024, which is some of the commentary around IBM.

And in terms of acquisitions, can you talk to how your pipeline looks? Are you seeing valuations become more attractive?

We're not. The valuations for our pipeline have remained consistent and have not dropped. And like I said in my prepared remarks, Rob, we -- at our current stock price level, the best acquisition we can do is to buyback Converge stock. So at these levels, we will not be doing any acquisitions that are not accretive or that do not meet our internal ROI targets and our cash on cash return targets.

And your next question comes from the line of Stephanie Price with CIBC.

Just wanted to maybe get your outlook heading into 2025. I mean, obviously second half 2024 was maybe a bit weaker than you've been expecting. Like what are you hearing from clients as you look into 2024 and what are clients buying priorities as you look into next year?

Yes, so I think a couple of comments on that, right? I mean, we are still seeing our clients be cautious on spend here in Q4. But from a 2025 perspective, all the things we talked about that we're executing well on around AI, around cyber and around cloud migrations continues to be lots of conversations with our client base and looking at ways to optimize their environment, both around automation and optimization. So the conversations are happening. We expect to continue to invest in the areas that we believe they will spend. And obviously the end user device and the Windows 11 upgrade is 2025. So we're confident that that will bounce back mid to late next year. So there are positive signs as we head into 2025 and the momentum for us around our strategic investment areas and the professional and managed services business continues to move in the right direction. So we do have optimism as we head into 2025.

And then maybe a more detailed one. Just curious if you could dig into the maintenance support and cloud decline in the quarter. You mentioned that cloud grew double digits. So then what's happening in that revenue line? And maybe also, can you give us some color on how large that cloud business is currently?

Yes, so the decline is all coming from maintenance and support line. Maintenance and support is generally tied to hardware sales. So every single hardware sales also attracts a large maintenance and support contract with it. As hardware sales decline, maintenance and support will also decline. Our cloud solutions did have double digit growth during the quarter. We will provide the quantification, but it's for the quarter, at least from a third quarter perspective, it's $30 million plus from a gross sales perspective.

And your next question comes from the line of Jerome Dubreuil with Desjardins.

Just want to talk about your macro comments. I would like to get more in the details of it. Obviously, we've been seeing what happened with the IBM mainframe cycle. I wonder what percentage of the EBITDA shortfall that was and versus maybe what the high-performance compute business has done in the quarter. I think it probably used to be an offset in the first half of the year. Wondering if that dynamic keeps going.

Yes, so just looking at it from a macro perspective, maybe let me just talk about overall economy. If you just look at Q3, and given the majority of our North America business is U.S., so I'll just look at U.S., I'll make the U.S. comments. GDP in U.S. grew by about 2.8%, I think, for Q3. But if you back out the growth from government spending, GDP only grew by about 40 basis points. So that's telling you that the economy, at least from a U.S. perspective, is not humming as much as we thought. But given there's a lack of data, at least in the U.S. from a GDP perspective, it's hard to quantify. But you're seeing it across the board with others in our industry, some software companies, and so on.

So when we look at just Q3, and you're absolutely right, from a first-half perspective, some of the declines from a macro factor perspective was offset by growth in our AI practices. That did not happen in Q3. We did not have the similar AI deals that were -- we were able to offset the macro trends.

The second one from me, I actually like the comment on buybacks, especially given where your leverage is. It's reasonable. Avjit, I don't know if you ran the math, but what would be the leverage impact from the buyback plan that you have right now? Is it a material impact, or with the cash that's generated, you're able to maintain the leverage where it's at, even with the accelerated buyback?

It would not be material. Our goal is to stay around 1x from a leverage perspective.

And your next question comes from the line of John Shao with National Bank.

How should we think about the rebate structure going forward in conjunction with those macro challenges you talk about? At the same time, you also mentioned a lot of partner awards. So do you think that's going to put Converge in a stronger negotiating position?

I'm assuming you're referring to rebates from vendors?

Yes, that's correct.

Yes, there's really no change from us. Majority of our rebates are either transactional rebates or volume rebates. And transactional rebates have been recurring for years and years and years, and there's no expected change to those.

From a volume rebate perspective, it is all tied to volumes, and those are contracts that we already have signed as of today. So there's no change expected.

And my second question is, I remember you mentioned some of the customers basically paused their spending prior to the U.S. election. But given right now, that answer is pretty much clear. Do you think they're going to resume their spending, and how should we think about their spending environment under a new government?

Yes, so look, I think they'll still be somewhat cautious here in Q4, but we are seeing some conversations pick up in certain accounts that we were hoping to see. So there is some, I'll say, revised conversations going on across some of our client base. But I still think they'll be cautious through the end of 2024, and then the momentum will pick up in 2025.

Your next question comes from the line of Divya Goyal with Scotiabank.

Greg, I wanted to get a little bit more color, and my apologies if I missed it during your prepared remarks here. But could you help us get an understanding of the current hardware mix of the business? What exactly does it comprise?

We obviously understand that end-user device sale has been -- is being pushed out, but Converge as a company was benefiting from not just mainframe modernization, but the broader core modernization. So if you could help us understand what is the mix of the hardware pipeline currently and going forward?

Sure. So when you look at the hardware business, we break it down into 2 components. What we consider our data center business and then our device business. So when you think about data center technologies, that is everything from a compute perspective. So think of your traditional OEMs, the Cisco's, the IBM's, the HPE's, right? So anything to do with compute and data center capabilities.

And then you can think about networking, right? So all of the networking that exists out there in data centers, and then storage. So storage vendors, everyone from vast storage to pure storage to your traditional EMC storage solutions. So when we talk about our data center capabilities, that is end-to-end ability to support our clients and their workloads, like I said, from compute to networking to storage.

And then when you look at the volume side of the business, and this is everything that the market's been talking about around end-user devices and AI being built into them as we head into 2025, that's the volume business, which is typically higher volume, lower margin, right? So you have the data center business, which is what we've been talking about as we drive these large high-performance compute solutions. That encompasses everything we do from a data center perspective. And then the volume business is everything we do on the end-user side.

So those are the 2 components, right? And as we mentioned in Q3, which was the first time we had seen it, we did see a slowdown and a delay in procurement making decisions on those data center-based solutions.

So was it a client-specific issue, you would say, or was it an industry-specific issue in Q3? And how should we see that proceed in Q4 and potentially getting into fiscal 2025? How would you diversify this risk that has impacted the number so significantly last quarter?

Yes. So it was across the board from an industry perspective, right? And you've seen a lot of our competitors feel the same thing on the infrastructure side. What I would say is public sector definitely saw it more than others. Our public sector business was down in every single region. So public sector had a bigger impact, but we did see it across all of the industries.

In terms of as we continue to look to diversify the business, that is why we continue to make significant investments in what we call our strategic areas, right? As we transform the business over the next few years, we will continue to focus on driving growth in the software and the cloud and the managed services side to increase our overall recurring revenue model. And parallel to that, we will continue to look at what vendors are having success from a data center perspective and invest in the right areas there. So we're confident that if we can continue to drive that growth around our strategic initiatives and then continue to layer on top of that some of the success we've had around high-performance compute and other data center needs, that will balance out as well as making sure we optimize our cost model around professional services, which will help from an EBITDA perspective.

And your next question comes from the line of Robert Young with Canaccord Genuity.

One of your competitors described pricing pressure in the market as irrational, below or stronger than they've seen in several years, even to the point where gross -- some of the deals are being done at negative gross margins. And so also seeing the channel changes of VMware, a lot of things that may be impacting your margins. I'm just looking at your guidance for Q4, and it looks like the range could be up a little bit or down a little bit based from here. And so I'm just trying to understand in the interplay between pricing pressure, if that's a factor, and the utilization changes in service. I'm trying to understand how that's going to affect the short-term in margins.

Yes. Maybe, Rob, let me start with just an overview of what our margin profile looks like between each of the products, and then I'll touch on where the pressures are maybe.

So our product, hardware and software, are both in the teens margin. So the margin between hardware and software is very, very similar. Our professional services margins are in the 30% range, 30% to 35% range. Our managed services margins are 40% to 45% range. And then maintenance support and cloud are high single digits, and cloud deals mean more towards mid-single-digit deals.

From a pricing perspective, we did see pricing pressures in the quarter, and you generally expect that, especially when customer orders are being pushed out and companies want to compete more and more over the same business. So we did have a few deals that we were expecting to close at higher margins, and we had a large competitor come in trying to win the deal at a much, much lower margin. That resulted in us lowering our price to retain the customer.

Now, is that -- pricing pressure, is that something you expect to relent in the near-term? Or is that something that you're preparing the business for into the beginning of 2025?

I think our overall strategy, as we've talked about, is a services-led strategy. So the more and more services we embed within our customer profile, the less pricing pressure we will have. So as we increase our PS and MS over time, the less pricing pressures we will have on our resale business. But for now, given our PS and MS business still represents about 12% of our overall business, we will need to play in the market and see where it goes. But we are fully focused on the technical capabilities we have and attaching services to each sale we make from a retail perspective.

That's very helpful. Second question, I'm also really happy to see the focus on buyback. I think you'd said that you'll be aggressive on the NCIB. Another analyst already asked a little bit about the willingness to potentially incur debt to drive that higher. What are your levers or thoughts around taking the buyback above the NCIB as it stands today?

Yes. So that's something we have discussed, Rob. And the biggest issue that generally we run into, call it an SIB, is the other option. We look at the timing of it. Given that we only have 6 weeks left, then we go into a blackout period, that's the biggest thing we're evaluating against as to is it possible to do an SIB within the time frame before going into a blackout period, or we do it in -- after Q1. But the other option we're always open to, and we continue exploring, are just deals that are in block trades. And we're also open to those as well.

Last question, if I could squeeze it in, is just an update. Now that the ERP system is in, congratulations on that. Maybe if you could give us a sense of the expected benefits, potentially, if you're going to provide new metrics or additional transparency, what that -- what you might be able to give us a better insight into, what you're getting internally that's giving you better decision-making capabilities. Just a general update on what the ERP system can do in 2025, and then I'll pass the line.

Yes. So internally -- and maybe I'll give you the same thing that we talk about internally, there's 3 main data points within the organization that basically runs our organization. One is our item master that effectively allows us to think through what kind of a product is it, is it a service, is it a maintenance, and what kind of hardware is it, and so on. And then the second data point is sales orders. Third one is purchase orders that gives you margins. Those are all flowing through the ERP for the companies that have gone live with the ERP, and we're able to look at those almost on a daily basis now.

Going forward, because we have the same structure for the new ERP for all the companies that went live, we will be able to quantify our splits between hardware, software, and services. We will also be able to look at each of the practices in detail and be able to quantify and drill down as to why certain things are happening. We're also able to look at each of the orders as the bookings come in on a daily basis to see where the bookings are coming from and what the expected deliveries of those are.

And your next question comes from the line of Daniel Rosenberg with Paradigm Capital.

I was curious about your comments around the SIB. If you were to consider one, would that change or how far would that change how you guys think about target leverage ratios in the short-term?

Yes. Our -- when I say our target leverage ratio, we're 0.77x as of right now, and we're comfortable around 1x. When I say around 1x, going up to 1.2x would not be -- would still be within that target range. So we're not looking to lever up to 2x to do something from an SIB perspective or just any share buybacks perspective, but we're comfortable around our 1x leverage and that remains our target.

And my next question was just around the outlook. So it sounded like a little bit of optimism about 2025. You have your core practice areas growing in the double digits. I was curious about the Windows upgrade cycle. Are there any other short-term trends and how substantial is that one versus anything else that gives you that optimism for 2025?

Sure. Yes, I'll cover that. Right, so, when you think about where we had a lot of success in 2024, we've talked about the double-digit growth we've seen in the strategic practice areas, right? So as we head into 2025, we continue to see growth around those areas and we continue to invest heavily in them, which will drive a couple of things for us. Obviously, more software and cloud growth, more professional and managed services growth, which is positive for us from both a GP and EBITDA perspective. With the rollout of the ERP system and our ability to gain more visibility into the business and create more optimization across the board, that will also give us some positive outlook for 2025.

And then, as you look at, to your point on the end-user device side, our ability to generate more revenue on the volume side and selling more devices across the board will also help us on the professional services side as well. So we look at the overall market, the outlook on the market for 2025 and just where we've been investing as an organization and feel confident that the momentum will be much better for us in 2025.

And your next question comes from the line of Adhir Kadve with Eight Capital.

This is Kiran on for Adhir. I just wanted to circle back with that last question. Looking at your backlog and demand to exit the year and into the first half, what are the variability levels there? We've talked about a large AI deal in play. What are factors that could positively or negatively expecting -- affect your expectations from today?

Sorry, Adhir. Can you repeat it? It was a bit hard to hear you.

Yes. Just curious with the variability levels with the backlog on demand. You touched on the AI deal in play that was not backed into the expectations. I'm curious where that is.

Yes. So maybe let me comment on the backlog first. I think as we've talked about through us this year, last year, we saw a very large unwinding of our backlog coming out of COVID as the backlog had to pent up and deliveries were being slowed down last year. So all that got caught up last year. When I look at the new orders coming in this year, most of the orders are being fulfilled within the same quarter. So there's no delay in orders being pushed out or being fulfilled. So those are happening fairly rapidly. So what that means is your backlog is a very, very small number because you're able to ship them pretty quickly.

And in terms of the large AI deal, that continues to be in our pipeline, but it is not in our forecast for this year at all. The deal continues to progress, but the timing and the amount are both still uncertain.

And then for my second, I wanted to unpack the strength you're seeing in IP4G. And more broadly, how your own IP-led businesses are doing? And what are your focus areas for investment here?

Thanks. Yes. So when we talk about IP4G, we've been seeing a lot of success in 2024, specifically in larger enterprise accounts, both in the U.S., Canada, and in Europe. And that is one of the key solutions that we talk about in every conversation when we're talking about workloads shifting from on-premise to the cloud.

The other drivers, as I mentioned earlier, were really around our infrastructure as a service offerings within our managed services portfolio, our 24/7 help desk, and also just building more managed services and offerings across all the practice areas. And that will continue to be a focus of ours from an investment perspective, investing in solutions that each of the practice areas can discuss and talk about.

And to Avjit's point earlier, wrap services around the product offerings that we do have. So we will continue to invest in those across all the practice areas. It's part of our AIM strategy, and each strategy leader within the practices is laser focused on building more solutions that drive both professional and managed services for us in the business, which is what we're optimistic about and we want to continue to invest in to help drive that growth as we head into 2025.

And I'm showing no further questions at this time. This now concludes today's conference call. We thank you for participating and ask that you please disconnect your lines.

Thank you.