Converge Technology Solutions Corp

TSX:CTS

Earnings Call Transcript 2024-Q1

[Operator]

Thank you for standing by. This is the conference operator. As a reminder, all participants are in a listen-only mode and the conference is being recorded. After the call, there will be an opportunity to ask questions. [Operator instructions]. I would now like to turn the conference over to Lorne Gorber, Converge Investor Relations. Please go ahead.

[Lorne Gorber]

Thank you, and good morning. Joining me to discuss Converge's Q1 2024 results are Shaun Maine, Group CEO; Greg Berard, Converge's Chief Executive Officer; and Avjitpal Kamboj, Chief Financial Officer. This call is being recorded live at 8 a.m. Eastern Time on May 9, 2024. The press release we issued earlier this morning is available for download along with our Q1 MD&A, financial statements and accompanying notes, all of which have been filed and are available to investors on SEDAR+. Please note that some statements made on this morning's call 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. The complete safe harbor statement is available both in our MD&A and press release. 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 usual, we will also discuss non-GAAP performance measures, which should be viewed as supplemental. The MD&A contains definitions of each one used in our reporting. Finally, all the dollar figures expressed on this call are Canadian, unless otherwise noted. So with that, I'll turn it over to Shaun Maine for opening remarks. Shaun?

[Unknown Executive]

Thanks, Lorne. Good morning and good afternoon to those of you joining from overseas. Welcome to our first quarter 2024 results call. I will provide a high-level summary of the industry and quarter before Greg Berard, Converge's CEO, focuses on the business; and Aji Kamboj, our CFO, provides more details on the financials. The reason investors like the IT services industry is because of its combination of growth with cash generation. Converge continues to display these characteristics in the first quarter of 2024. You may recall on our fiscal year 2023 results call, we highlighted Converge's performance in the latter half of the year, reporting record consecutive $1 billion quarters in gross sales. Today, we are pleased to announce that the momentum continued into the first quarter, reporting another $1 billion in gross sales, marking this for the third consecutive quarter. $1.01 billion in gross sales represents an increase of $41 million and gross sales organic growth increased by 4.2% year-over-year. Our gross profit increased by 2.1% to $175.3 million and an adjusted EBITDA of $42.2 million, up 2.9% from last year. In Q1, we also demonstrated a continuation of our cash generation by producing $110.9 million in cash from operating activities, a considerable 286% growth year-over-year. Our substantial cash generation continues to strengthen our existing robust balance sheet, closing the first quarter in 2024 with a net debt reduction of $190 million year-over-year and by $79 million compared to Q4 2023, bringing a net debt-to-EBITDA ratio of 0.8 of vast an impressive improvement from 2.1% year-over-year. In the past, we have targeted a net debt-to-EBITDA ratio of 2. In a high interest rate environment, we will be targeting a ratio of 1. Now that we have surpassed our target, we will focus more on providing returns to shareholders. Subsequent to Q1, we have increased share buyback through our NCIB and now have less than 200 million shares outstanding. After introducing a regular dividend of $0.01 per share per quarter or $0.04 per share annually a year ago, today, we are raising this dividend to $0.15 per share per quarter or $0.06 per share annually, a 50% increase. On previous calls, we have noted that we are pausing acquisitions until the go-live of our new ERP system later this year as we focus on internal efficiencies and streamlining our existing operations. When we do get back to acquisitions, these will be fewer in number and focus on capabilities and enhancing organic growth. The previous focus on capabilities has allowed the current advise, implement, manage our AIMS strategy that allows us to be trusted business partners with our customers and provide industry-leading solutions around AI, advanced analytics, cybersecurity and cloud that has helped us outgrow the market. In addition to M&A, Converge will continue to organically invest in new experienced sellers, new capabilities such as our IP 4G solutions and IP around emerging solutions and AI. As mentioned in previous calls, these capabilities have resulted in us attracting more large enterprise customers, which in turn are consuming our high-end services and capabilities. As we continue to meet growing demand with our comprehensive set of solutions and diverse customer matrix, Converge is honored to be recognized as a leading IT solution provider through various awards and features from top industry partners and channels. To expand further on our recent achievements, I would like to turn the call to Greg Berard to dive into our partner relationships and operational highlights. Greg?

[Greg Berard, executive]

Thank you, Shaun, and good morning and afternoon to everyone. In Q1, our pursuit to becoming top North American IT end-to-end solution provider will showcase more than ever through the multiple partner awards from some of the largest technology providers in the world, including placing on CRN 2024 TECELETE-250 and their MSP 500 list for the third consecutive year with our continued increased ranking succeeding industry peers. Additionally, we were pleased to be recognized by Broadcom as partner of the New Year for North America as the fastest growth in cybersecurity and also recognized by VMware and as their America's technical enablement Partner of the Year, recognizing ongoing collaboration of Converge's cybersecurity and cloud practices with Broadcom Solutions. As a result, we have also created a VMware SWAT team internally to help all of our clients understand the go-forward strategy with Broadcom and ensure our experts of providing the thought leadership needed by our clients across the application modernization and hybrid cloud landscape. Since launching the SWAT team, our teams, which consist of technical resources from all of our practice areas, have been engaged with over 150 clients, providing the technical thought leadership needed on options moving forward. Our cyber team was also recognized by IBM for our strong data security and data management services, leading to us winning their North American Partners Plus award in digital defense. We have built robust capabilities around data protection and have managed services offerings to help our clients ensure they are securing their data. Lastly, we are proud to be awarded the NVIDIA Networking Partner of the Year as well as their Canadian Partner of The Year. Our partnership with NVIDIA continues to grow and being the only North America partner to win 2 awards showcases the depth and breadth of the Converge team. AI has become the forefront of our industry, and these tremendous recognitions are a testament to our strategic focus in growing our AI practices. Achieving 2 NVIDIA awards out of only 14 categories demonstrates the significant growth and size of Converge and reaffirms we are organically growing faster than competitors, reaching new levels in the market as larger customers are seeking us out for our solution expertise in both high-performance clusters as well as AI workloads, which is attributed to the unparalleled skill set of our technical teams and the solutions and partnerships we have built. Converge takes pride in cultivating unique partner relationships to deliver exceptional solutions and services to our customers in support of their technology initiatives. We are committed to creating strong partnerships that enable us to offer our customers a world-class portfolio of solutions. The key to our recent outperformance originates largely from the success of our cross-selling strategy and the portfolio we have built to drive more solutions with our clients. Over the past 5 years, we have built a world-class sales organization on a foundation of over 300 sellers, 35 solution specialists and over 60 presale solution architects coming together from all of our high-value practice areas. We are executing an aligned client-centric sales strategy to drive exceptional value with our clients and strategic partners. As we discussed on our last call, we are also aggressively hiring new sellers and brought on 14 in Q1 alone. Our strategy is to recruit the experienced sellers that can benefit from having access to the portfolio and solutions we have built across Converge. As we mature and focus our efforts on driving more professional and managed services, we have institutionalized new processes and procedures that are helping our reps drive more of these solutions into their accounts. Today, over 60% of them are selling more than 4 practice areas to clients, a combination of analytics, cloud, cyber, managed services, amongst all our other practice areas. As a result, we've secured 103 net new logos in Q1, continuing our impressive average of over 100 new clients each quarter with whom we haven't done business with in the past. And what's more, these new logos are in many cases, large enterprise names that you would certainly recognize across financial services, health care, manufacturing and high tech. We continue to diversify the high-value solutions we drive with our clients, allowing us to engage with large enterprise clients as well as the mid-market client base we've been selling into for years. We see ongoing momentum and interest in all of our high-value solution areas, specifically around analytics, AI, cloud and cybersecurity. As mentioned on our previous call, we have now hired a senior leader to run our AI practice and help us drive more solutions, bringing together all of our practice areas. We are not just developing presentations on the subject. We are in the market and have been in the market for years, delivering secure private solutions, leveraging our partners like IBM and their Watson X platform, AWS, Google, Microsoft, AMD, and, of course, NVIDIA. The volume of new opportunities and those with existing clients has swelled exponentially since we launched our offering last year with a webinar entitled Chat GPT and beyond, unlocking the power of LLMs. You will also hear more from us in the coming weeks as we launch new AI solutions with some of our top strategic partners and there'll be more press releases around that. Together with the leadership team, we are focused on making the most accretive investments in our AI strategy. With multiple projects running in parallel across virtually all of our practices, we felt it was important to pull together an AI SWAT team that can work together with our clients and drive more multi-practice AI solutions in areas like AI ops, observability, DevSecOps and many other strategic areas. To capitalize on the current momentum with our clients and strategic partners, this team is heads down on a number of important activities, driving awareness internally and externally on the diverse set of AI projects going on across the business. They are building new solutions with our strategic partners that we can take to market together, and they are engaged with the partner ecosystem on collateral, running marquee events and coming out with co-branded solutions for our clients. Convergys solution teams have deployed AI, high-performance clusters in automotive, financial and health care, and it's what led to us being recently awarded the top honors by NVIDIA, both geographically and around our deep networking skills. We also continue to drive many design thinking workshops with our clients to help them understand the power of AI. The combination of the resources we have internally, the partnerships we formed and the practice areas we have across the board will allow us to continue to build solutions that will continue to make Converge, a major player in all of the AI discussions. We are excited about the future opportunities to apply new technologies, including AI, cloud, cyber and automation to continue to help our clients drive operational efficiencies across their environment. Converge continues to shape and transform innovation, revolutionizing client technology interactions. Our clients continue to choose and converge for our unique ability to provide the full end-to-end spectrum of our advisory implementation and managed offerings across cloud, hardware and software solutions. We have built a unique set of skills supported by strategic partnerships across analytics, AI, cloud, cyber, and we will continue to work closely with all of them to deliver high-value solutions for our clients' businesses. A few examples of these over the past quarter are outlined here. We had a Canadian-based wealth management company previously select Google Cloud to manage their data platform back in 2019. Building on that decision and blending it with their broader digital transformation strategy, they determine that their mission-critical IBM power system workloads could also participate in their migration to cloud strategy. Converge and our IP 4G solution opened the door for total not partial digital transformation of their on-prem infrastructure platform. With IP 4G, they were able to leapfrog to the latest power 10 generation infrastructure, and they will now be able to vacate their on-prem data center by the end of 2024. Another great example is where our cloud and cyber teams partnered up to close a large multiyear software transaction with CrowdStrike at one of the largest automotive companies, and we secured over 230,000 endpoints around the globe. Enterprises like this are looking to reduce the amount of technology partners and leverage the platforms that our vendors are building to improve efficiency while managing their overall spend. This is exactly what Converge was able to do with the help of our strategic partner CrowdStrike, but we were also able to leverage our cloud platform team internally to help our clients take advantage of their AWS spend and procure it through the AWS Marketplace. The combination of this thought leadership is what makes Converge unique in the marketplace. As we continue to become an expert in HPC workloads with our clients, we also work closely with one of our partners in the technology space to test their GPUs at scale in a simulated client infrastructure. We partnered with Arista on the networking side to gather the architecture and once this is deployed and validated, we will enable our clients to sell multiple GPUs to their customer base. We are now having conversations about also wrapping our managed services solutions around this, and we will help on the GPU support side as well as building out additional lab space. The combination of RAI and data center skills continues to provide us the opportunity to engage in the end-to-end solutions for our clients around their AI workloads. We are confident that the advice, implement and manage strategy we have put in place around all of the solutions we have built, the many strategic partnerships we have in place, the investments we continue to make in our technical teams and the continued focus on organic growth will allow us to continue to drive more value with our clients and continue to be their trusted adviser and end-to-end solution provider. At this point, I will pass the line to Avjit to review the details of our Q1 financial performance. Avjit, over to you.

[Avjitpal Kamboj, executive]

Thank you, Greg. Good morning and good afternoon, everyone, and thank you for joining us today. My review of Q1 2024 financial results, I will refer to some measures that are non-GAAP, including gross sales, organic growth, adjusted EBITDA and leverage ratios. For detailed descriptions and reconciliations of our GAAP to non-GAAP measures, please refer to our MD&A filed this morning. Since joining Converge a year ago, our team's execution has been rapid and unrelenting. We've made meaningful changes and taken concrete steps towards integrating acquired businesses into one Converge focusing on products and services discipline, operational discipline and financial discipline. We still have lots of work to do, but I am happy with the progress we have made so far and our financial results, specifically our cash generation demonstrates some of the wins that we've had. We will continue to work tirelessly to do the right things to make Converge resilient and increase shareholder value. We're making the investments required to make Converge the best and the most sought-after end-to-end IT solution provider. As you might have noticed, we have provided additional disclosures in our MD&A this quarter on gross sales by geography and constant currency analysis for additional transparency. We will continue to add additional disclosures over time. Let's dive into Q1 results, and we'll start with the top line. Gross sales were approximately $1.01 billion for the quarter, representing growth of 4.2% year-over-year, and this represents our third consecutive quarter north of $1 billion in gross sales. I'm pleased to report that Q1 represents the cleanest quarter from organic growth calculation perspective as we did not do any acquisitions in 2023. Our higher-than-market sales growth demonstrates the power of our sales engine. We truly do have the best sales team in the industry. Breaking down our Q1 growth sales by geography and excluding Portage, which is all Canada, Converge North America business grew by approximately 7% during the quarter. North America business represents approximately 88% of our overall gross sales. U.K. business grew by approximately 1% and our Germany business declined by approximately 22% in Q1. Consistent with the commentary last quarter, decline in Germany business is primarily due to lower end-user device products and services sales to education sector compared to Q1 2023. Translating the results from foreign currencies, predominantly USD, GBP and euros provided an approximate 40 basis point benefit to our gross sales for the quarter. Q1 2024 U.S. dollar FX was largely in line with the rates in Q1 2023. We did experience a benefit in translating our U.K. and Germany business to Canadian dollars with GBP increasing by approximately 4% and euro increasing by approximately 1%. As you might have noticed in our MD&A, we have updated our gross sales and revenue split between products and services. Going forward, we will provide our top line split by products, which includes hardware and software, professional services and managed services and maintenance and support on cloud solutions. Key reason for this update is to provide top line split based on resell business compared to higher-margin business from professional services and managed services and a highly recurring business from maintenance and support contracts, along with public cloud resale business, which hopefully provides better visibility into our transformation journey to a higher-margin business. Splitting the 4.2% growth in gross sales for Q1 between products, professional services and managed services and maintenance support and cloud, product gross sales growth was 5.4% for the quarter, while professional services and managed services gross sales organic growth was 2.3%, maintenance support and cloud growth was 1%. Our growth during the quarter was largely driven by our innovative solutions to our customers, including high-performance compute, analytics solutions, cybersecurity solutions and multiyear software licenses. Hardware resale represents less than 50% of our overall business. We are laser-focused in transforming our business to accelerate our professional services and managed services growth. I will quickly touch on revenue in accordance with IFRS for the quarter. As a reminder, revenue is not a primary KPI for our industry due to gross net accounting requirements. Our revenue will fluctuate quarter-over-quarter depending on the product mix as most hardware sales are recognized on a gross basis and most software sales are recognized on a net basis. Gross sales is the best measure for top line. IFRS revenue in Q1 was $628.8 million, a decrease of approximately $49 million compared to Q1 2023, representing an increase in our gross net adjustment of approximately $90 million compared to Q1 2023. The increase in gross net adjustment and decrease in revenue, while gross sales increase is an indicator of higher software sales. Turning now to our profitability. Gross profit in Q1 was $175.3 million, up 2.1% from Q1 2023. In Q1, gross profit in North America grew by approximately 4.2% and by 12% in the U.K., which was offset by a 28% decline in Germany. Gross profit margin for the quarter was 27.9% compared to 25.3% in Q1 last year. The increase in gross profit margin is primarily driven by higher software sales and higher-margin professional services and managed services revenue. Q1 adjusted EBITDA was $42.2 million, up 2.9% year-over-year. Excluding the $1.3 million negative adjusted EBITDA from Portage, adjusted EBITDA from Converge business was $43.5 million in Q1, representing an increase of 3.8% year-over-year. Excluding Portage, adjusted EBITDA as a percentage of gross profit was 25.2% compared to 24.9% in Q1 last year. We expect adjusted EBITDA as a percentage of GP to increase over time, driven by gross margin improvements and SG&A efficiencies from back office and service delivery organizations while we continue to invest in our overall solutions and services by expanding our sales force and attracting high-end consulting talent. Our Phase 1 of our ERP program remains on track to go live in October. Net income before taxes for the quarter increased by $3.3 million compared to Q1 2023 and net loss after tax increased by approximately $200,000, resulting in a net loss of $3.5 million for the quarter, driven by $3.6 million in income tax expense. Given our profitability in each of the regions, we do expect to pay approximately $42 million in cash income taxes this year. Now turning to our balance sheet, liquidity and cash flows. Cash from operating activities in Q1 was $110.9 million, an improvement of $82.2 million or 286% compared to Q1 last year. Cash from operations as a percentage of adjusted EBITDA was 263% for the quarter. Free cash flow for the quarter, which is defined as cash from operations, less CapEx, less lease payments and less interest payments, was $97.2 million for the quarter compared to $10.6 million in Q1 of last year. This massive cash flow from operating activities was primarily driven by approximately $72.5 million of cash from working capital, primarily due to renegotiation of payment terms and certain vendors and to a smaller extent, timing of payables given that the quarter end was on Easter weekend. I do want to stress that this significant cash from working capital due to payables was a onetime benefit, but it will provide smaller incremental benefits in the future. Excluding cash from working capital, we generated $38.5 million of cash from operations, representing approximately 91% of adjusted EBITDA. We remain committed and are confident in our ability to continue to deliver on our previously provided guidance of converting 75% of adjusted EBITDA to cash from operations from Q2 to Q4 of this year, meaning we do not expect any material reversal of cash from working capital generated in Q1 in future quarters as long as our business continues to grow. That translates to approximately 115% conversion of adjusted EBITDA to cash flow from operations for the full fiscal year 2024. Looking at our balance sheet. We finished Q1 with a solid financial position with a net debt of approximately $138.8 million with approximately $158 million of cash and approximately $288.8 million in borrowings. The leverage ratio at the end of the quarter was 0.76x compared to 2.08x at the end of Q1 last year. As a reminder, we calculate our leverage ratio as short-term borrowings and long-term borrowings less cash divided by LTM adjusted EBITDA. During the quarter, we repaid approximately $96 million of debt, reducing our total borrowings to $288.8 million compared to Q1 2023 a year ago, we reduced our debt by approximately $171 million. In addition to reducing our debt, we also paid approximately $11 million in contingent consideration and deferred consideration liabilities. As we have previously stated, our target leverage ratio is around 1x, and we're very comfortable operating around of this ratio. In line with our capital allocation strategy previously communicated, we continue to invest in organic growth, reducing our debt and returning capital to shareholders. I am pleased to share that during the quarter, we repurchased approximately 2.1 million shares and an additional 2.8 million shares subsequent to quarter end for a total repurchase of approximately 4.9 million shares to date this year. Including the dividends paid and the shares repurchased to date, we returned approximately $29 million of capital back to shareholders so far this year. I am also pleased to share that the Board has decided to increase our dividend by 50% to $0.06 a year now. We have put a capital allocation plan in place to maximize shareholder returns. Looking ahead, our focus continues to be reinvesting back in our business and on completing the integration of previous acquisitions, all in addition to paying down debt and returning capital to our shareholders in the form of buybacks and dividends and executing on strategic M&A. We still have a lot to do, and I'm confident that together with the expertise and dedication of my colleagues, we will deliver exceptional results. Now turning to outlook for the next quarter. For the second quarter, Q2 2024, we expect gross profit to be between $175 million and $182 million and adjusted EBITDA to be between $43 million and $46 million. Lastly, on Portage. In line with our capital allocation strategy and operational and financial discipline, we continue to explore ways to monetize our investment in Portage. However, given the market conditions, we do not see a potential transaction in the near future. Therefore, we are focused on deconsolidating Portage and turning it into investment accounting, allowing Portage to accelerate on their growth journey and operating completely independent of Converge. Excluding the negative EBITDA from Portage, we would have positively impacted our adjusted EBITDA as a percentage of GP by approximately 100 basis points. With that, I would like to thank you all for joining today's call. And I will now open the floor for questions. Operator?

[Operator]

Thank you so much presenters. We will now begin the question-and-answer session. [Operator instructions]. Our first question comes from the line of Rob Goff of Echelon.

[Robert Goff, analyst]

Congrats on the quarter. There's a lot of talk about the AI and cyber and deservedly so. We look at it in terms of being a growth driver and a retention tool. Could you give us a sense of the revenue leverage to growth? And what business in those categories touch in terms of clients? So are you providing AI and cyber to clients who would represent half of your revenues? Or just how pervasive is it across your client base?

[Unknown Executive]

Rob, maybe the best way to answer that because we don't provide division by customer and with the new RFP system, we'll look forward to that. But when I look at the wind wire that we see every 2 weeks, most of the solutions that we're closing are led with either the analytics or AI team or cybersecurity. Those are the capabilities that drive the customer needs you start there, but then you're providing the whole suite of solutions behind it. But you are finding that yet both the analytics and the cyber teams are leading those solutions. So once we get our ERP system, we're looking forward to providing more disclosure around kind of customer base, we do have a very large, large customer base, and it grows by 100 customers every quarter. And as Greg mentioned, we are expanding into more larger customers as well. But I think the kind of -- so not exact numbers, but kind of directionally, you do find that analytics and cyber to lead all those solutions.

[Robert Goff, analyst]

Great. And perhaps if you can expand on your comment that you are experiencing wins with larger enterprise a bit more color that?

[Unknown Executive]

So it's these capabilities. IT budgets are not expanding, but they are moving those budgets towards like people didn't budget for AI, maybe they are in this cycle. But those capabilities are allowing us to enter customers. And now with some of our investments, as Greg mentioned, around things like IP 4G, we have IP and house solutions, which are geared for larger customers. So we're finding ourselves now providing solutions to larger and larger customers around high-performance compute and some of the investments we've made in IP around things like IP 4G and the other AI solutions we have. So we're finding ourselves drawn into those accounts because of our capabilities. And those tend to be different in that they are obviously larger volume, different kind of services, longer sales cycle, but they can be much more meaningful as well. In addition to, we have a great kind of mid-market, which is for us, 500 to 10,000 seats and look to a large mid-market customer base, but we are getting drawn into larger and larger customers as well.

[Operator]

Your next question comes from the line of John Shao of National Bank.

[Meng Shao, analyst]

And could you maybe give us an update on your product backlog information that a metric that's no longer given.

[Avjitpal Kamboj, executive]

John, it's Avjit here. Backlog is no longer a relevant KPI for us. What we're seeing is we're actually able to -- and our vendors are able to fulfill the orders that are coming within the same quarter. We're not having the same supply chain issues than we were a year ago.

[Meng Shao, analyst]

Okay. Got it. And after, you talked about Q2 guidance, but not 2024 annual guidance. Can I assume that one is maintained?

[Avjitpal Kamboj, executive]

At this point, yes, there's no change to our annual guidance.

[Meng Shao, analyst]

Okay. And lastly from me, in terms of the AI solutions, could you maybe talk about the margin profile and how they're going to represent a margin expansion opportunity for Converge?

[Unknown Executive]

So in general, the services part -- so there's different components to this. High-performance compute is more driven around the product side but it's really a lot of the solutions and where we have like IP 4G is recurring revenue. IP -- whenever you have IP in a solution, those are always driving higher margins, and it's the services around them. So in the advisory -- so in high-performance compute, you've got the implementation side, but it's the advisory part beforehand and the managed services afterwards that are much higher margin than the implementation there. So that's where you'll continue to see the margin profile rise and that conversion from gross profit to adjusted EBITDA increase as well to our target of 30%.

[Operator]

Our next question comes from the line of Christian Sgro of Eight Capital.

[Christian Sgro, analyst]

As you sell to larger and larger enterprise, does that customer conversation or go-to-market motion change at all? Do you have to restructure the approach or the way you go in with teams? Or do you find the same sort of approach with the mid-market works as you talk to large financial institutions and other?

[Unknown Executive]

It is completely different. So as you'll recall, we were very, very successful in the early Phase I, Phase II by implementing Greg's strategy of -- along with Red Hat, hoping going to every NFL city and inviting mid-market customers to come to us as we train them up on [Anson] OpenShift. That mid-market customers will come get 30 to 50 of them to come to us for training. Large enterprise is completely different, you need to go to them with teams. We build out positive teams for them. There's much more -- it's a longer sales cycle, but obviously much more meaningful. There's a different service level. So in my form of life, we were only large enterprise, so very familiar with it. But Greg's got dedicated teams that he's been developing for those so there is differences in our go-to-market around large enterprise. We predominantly had been focused more on the mid-market, but we're finding that we're -- as we're drawn into there, there are larger engagements around services. There's longer time frames and obviously, there's larger volumes there as well. But it is a different motion, both on the sales side and the delivery side.

[Christian Sgro, analyst]

Got it. And then going back to managed services, core, higher-margin part of the business. Is it still a key strategy to grow managed services as quickly as possible over time? And how has the macro changed customer conversations? Are they more or less willing to offload services? Now do you see this improving -- are customers becoming more independent over the year? Like how do you think of that segment of the business?

[Unknown Executive]

We really learned a lot -- so you're going to grab first, and I'll let you jump in here. We are developing a whole bunch of specific managed services around these customers. It's not good enough just to be a generic managed service. It's much more directed. But Greg, please expand on that.

[Greg Berard, executive]

Yes. I was just going to say the focus still remains on managed services, but when you think about our overall portfolio, it's not just managed services, right? And that's why we always talk about our AIM strategy, really focusing on the end-to-end spectrum, the advisory on the front end, the implementation and then our ability to manage. I think depending on the client set, you see the lower tier clients within mid-market, more apt to have the managed services conversations. And then depending on the solution, some of the larger enterprises like IP 4G drive managed services for us. But the conversation is across the entire in portfolio, and we're going to continue to focus on both high-value professional services as well as managed services.

[Operator]

Our next question comes from the line of Jerome Dubreuil of Desjardins.

[Jerome Dubreuil, analyst]

First one is on high-performance compute. It's good to see a bridge over an otherwise not easy hardware ecosystem. We're kind of all wondering how long this will last. Do you think this is more something that's just about the training in [Indiscernible] or that will be relevant in the inference phase of AI as well? Just maybe looking for if you think this is a sustainable trend that we are seeing in the results right now?

[Unknown Executive]

[Indiscernible], because Greg is really close to the ground, so Greg?

[Greg Berard, executive]

Yes. So look, I think we're still in the early phase of high-performance compute. You're seeing some of the larger enterprises jump in early, but everybody is trying to understand how they're going to leverage generative AI moving forward. So you're going to see smaller customers try to take advantage of the hyperscalers and do more with AI and cloud. But we're continuing to have conversations with large enterprise clients around how to take advantage of the high-performance compute platforms, take advantage of the data that's in their environment. So to me, we're still early in the phase, and I see the demand continuing to grow around high performance compute.

[Jerome Dubreuil, analyst]

Great. Second question would be on the new leverage target of 1 versus 2 previously. What's the main driver of the new target?

[Unknown Executive]

So a lot of that had to do with -- in a high interest rate environment we figured, especially the market we've been listening to our shareholders and especially our Canadian shareholders prefer to us to target a lower leverage ratio because of the incredible cash generation we've had in Q3 and Q4 and now in Q1, we've actually surpassed that target. So we're very comfortable operating in this range, and we continue to generate great cash. As I mentioned, the IT services industry is a fantastic combination of growth and cash generation, and we've been demonstrating that the financial discipline that Avjit and his team have put in place around a lot of our processes have really kind of accelerated that on the working capital side, but also working with our vendors on payables, the team's done a tremendous job. So the cash generation that we have means that we're in the luxury spot of very comfortably maintaining a lower target and being able to do all the things we need to do.

[Jerome Dubreuil, analyst]

Okay. Great. And then last for me. Avjit I think you mentioned a guidance in terms of free cash flow conversion of EBITDA for 2024. I missed the number. If you could just repeat that, please?

[Avjitpal Kamboj, executive]

Yes. So what I said was it continues to be from Q2 to Q4, 75% of adjusted EBITDA to cash flow from operations. And if you just extrapolate that and take Q1, the massive conversion we had in Q1, that effectively translates to approximately 115% for the full fiscal year.

[Operator]

Our next question comes from the line of Robert Young of Canaccord Genuity.

[Robert Young, analyst]

I wanted to touch on the cash flow from operations. I think you said it was AP driven. I wanted to -- is that multiple vendors and distributors? Like did you go across all of your vendor space and force a lot of counterparties onto better payment terms or is this a negotiation with one large one? I understand it's one time, but I just want to get a sense of how much is out there yet to improve on your payments terms.

[Avjitpal Kamboj, executive]

I would say it's multiple vendors. Rob, it's not isolated to just one. It is our biggest vendors that we went after. There's no point in spending time with the smaller ones. I mean it doesn't have that much of an impact. But it was a broader exercise to go through our large expense base and renegotiate payment terms.

[Unknown Executive]

And Rob, as you will recall from the very, very beginning, extending payment terms is a function of size. And so we've always been focused on that and as we become a very large partner, you have more leverage and your ability to do that. So that continues. So with scale, you were able to do this.

[Robert Young, analyst]

Right. So you're asserting your larger size, but is there more out there? Maybe I'll just broaden the question, is there more working capital adjustment or improvement that you see in the short run, like these type of onetime adjustment last quarter it was inventory this quarter accounts payable? Is there anything else that you can improve in the short run?

[Avjitpal Kamboj, executive]

Nothing in the short term, Rob, but as we continue to work towards integrating our businesses, there are different opportunities that pop up. And as we're putting it all on to one ERP, I'm sure there'll be more opportunities in the future. But as of right now, nothing in the short term.

[Robert Young, analyst]

Okay. And I think Greg said that you had hired 14 experienced sellers in Q1. I think that would be less than the top line and gross profit growth, if -- I think I heard $300 was the number of sellers have overall? So -- in the past, I know you're adding a lot of sales through M&A. And so I'm curious if you're catching up on that sales force? Or are you pacing ahead of the demand that you see? Just to get a sense of where you are in the need to grow that sales force.

[Unknown Executive]

And I'll hand it over to Greg in a second. Yes, go ahead, yes. I'd say 10% sales experienced sellers growth is what our target is. As you know, this is an incredibly large and fragmented marketplace and a well-demonstrated way of growing is once you have a presence in a region, and our strategy was always to be in every NFL city, you get the user experience and then you can add more sellers. So when you expect with Greg's success in cross-selling, and I think we've given the stats like it was over 90% of sellers in the Northeast, we're selling 4 more practice areas, add more sellers. But when you add experienced sellers, it's different from other people's strategy of hiring new grads. So our target is 30 sellers this year about a little less than halfway there. You do spend more time in interviewing these more experienced sellers, but they definitely have an impact and one of the biggest reasons that are attracted to us is because of the capabilities we have. There are not other resellers in the VAR space, don't have the kind of capabilities we have around analytics and AI. And so they're able to sell more into those customers and therefore, make more money, which really helps Greg's ability to recruit them. But Greg, anything you'd add to that?

[Greg Berard, executive]

Yes. I would just say, Rob, to your point, right, it takes us a couple of years to get the sellers to where we want them to be, right? So hiring 14 in Q1 as Shaun said, we -- our goal is to hire 30 in 2024. We feel very comfortable getting to that number. But ultimately, for us, year 1 is not where you see the impact. Year 2, you start to get them really ramped up, but year 3 is when they hit the ground running, right? So we're doing a combination of things, not just hiring experienced sellers but also investing in our growth program as well. So we're helping some of the newer sellers within the organization get to the larger gross profit dollars sooner. So we're doing a couple of things internally to help on that organic growth side. And as we always talk about, right, investing in the solutions and the partnerships to help the existing sales force as well as the new sellers coming in have more to sell. So we're comfortable with that approach.

[Robert Young, analyst]

Okay. And then last question for me. end-user devices, I think product you noted was less growth than service or software. Some of the players and the tax base are highlighting a rebound in end user devices in the back half of the year from Windows 11, from refresh cycles and whatnot. Are you seeing that? And how should we think about your end user device business, [Indiscernible].

[Unknown Executive]

Yes. So we are seeing and hearing the same things with our client base, right? We are cautiously optimistic that the second half, the end user device business will come back around. As some folks in the industry have noted, it's going to be gradual, so it's not all going to hit in the second half but we are optimistic that the business will come back around and there's things happening around the Microsoft platform that will drive that as well. So we're optimistic here in the second half of the year that we'll see some of that business come back to us.

[Operator]

Our next question comes from the line of Gavin Fairweather of Cormark.

[Gavin Fairweather, analyst]

Just one for me. As we got closer to the ERP kind of being live and the resumption in M&A, can you just refresh us on the profile of deals that you'll be looking for? And then also just on the deal environment in terms of flow competition and valuations.

[Unknown Executive]

Yes. So the ones that we're looking for are ones that can help our organic growth strategy. So the -- if you have the capabilities on, we've done incredibly well with acquisitions like new comp analytics, LPA, CarpiData, IDX, CBI. So those capabilities, which enable us to do the cross-sell have been incredibly helpful. So in regions, particularly in North America, where we feel regionally we need more capabilities, those will be more of the type of deals that will include. But again, originally, when we were lay fewer in number than say we've done before, and they'll be -- yes, again, it won't be a softer Q4, but I would expect as and when they can help our organic growth, those would be the ones we'll target.

[Gavin Fairweather, analyst]

And then just on the deal environment?

[Unknown Executive]

So again, our method of acquiring companies is different from others, especially the capability side, we partner before we acquire. So -- and we're very close. Like most of the companies that we've acquired, we've known for a very long time. When we hang out at the various industry conferences, the Microsoft, Amazon, Google conferences, the NVIDIA Partner Network, the analytics ones around Alteryx or Snowflake or Watson, we know a lot of these companies and so we're very familiar with them. We've had conversations. We've now -- again, they're aware that we have taken a pause, but we've continued and reengage with some of those and so that we'll be ready when we're ready that to add to those ones as well. So we've never had a problem with finding good targets to acquire.

[Operator]

Our next question comes from the line of Steven Li of Raymond James.

[Steven Li, analyst]

A couple of questions for me. What are the expectations for Portage, so that $1.2 million loss this quarter, does that sustain through the rest of the year or does it get better?

[Unknown Executive]

We're looking to deconsolidate. Obviously, Portage, its whole goal is recurring revenue, and it's really investing for its U.S. expansion. So in order -- because that's at a dichotomy with our financial goals, which are all EBITDA-driven. Last year, there was a negative $4 million of EBITDA from Portage, but they're increasing the recurring revenue. So we're looking to -- for ways that we'll update you as they happen on deconsolidating and having Portage continue on its journey as an independent company. But they're a great partner for us, just like we have other software partners, Converge has a wonderful channel in the U.S., and we're engaging -- Portage is engaging the Converge sales channel to add their verification of identity to municipalities in the U.S. as well. And that's really the growth opportunity for Portage. But we're looking to deconsolidate so that we would recognize it on the balance sheet as opposed to the income statement, so we don't have this conflict where negative EBITDA, which is helping their growth hurts the valuation or the transparency around Converge's numbers.

[Steven Li, analyst]

Got it, Shaun. But the guidance you provided for Q2 includes the EBITDA loss from Potash, right?

[Unknown Executive]

Yes, correct.

[Greg Berard, executive]

And Stephen Lee, you -- we have to include the EBITDA loss up until the day of deconsolidation. Whatever that day happens, it will only impact prospectively going forward.

[Steven Li, analyst]

Okay. Got it. Okay. And then Avjit, the cash flow conversion target for the year. So I heard you say, excluding working capital, it was 90% in this Q1, but then it drops to 75% for the rest of the year. Given that we excluding working capital here, what's the moving parts there? Why is it lower Q2, 3 and 4?

[Avjitpal Kamboj, executive]

The 75% target is inclusive of working capital. One of the big drivers, as I mentioned on my call is we expect significant cash outflow related to income taxes. We do expect about $42 million of income taxes that goes through our cash from operating expenses line -- operating activities line.

[Steven Li, analyst]

Got it. And how about deferred and contingencies? How much is that for the rest of the year?

[Avjitpal Kamboj, executive]

Yes. So deferred and contingent consideration, call it, within -- if I split it out by quarter approximately, and depending on what targets and how much targets are hit on some of these acquisitions, call it somewhere between around $15 million to $20 million in Q2, about $8 million to $10 million in Q3 and negligible amount, approximately either 0 to 5% in Q4, and then in 2025, approximately $15 million.

[Operator]

Our next question comes from the line of Divya Goyal of Scotiabank.

[Divya Goyal, analyst]

So Shaun, I think you did talk about this briefly, but I wanted to get clarity on the variance in trends that you're noting across your client base when you think about the end user device refresh and the high-performance compute, and how is that sort of tracking and trending across your SMB versus the enterprise clients?

[Unknown Executive]

I'll throw that to Greg. Greg is much closer to it. So Greg, do you want to get that?

[Greg Berard, executive]

Yes, sure. Divya, so look, I think there's a couple of things we see in the larger enterprises, we're having more of the high-performance compute and on-prem conversations, whereas in the SMB and the lower tier mid-market accounts we're having more application modernization, cloud platform types of conversations. As we look across the customer base, you also see more and more conversations around just our ability to provide services there, not just in the, I'll call it, our lower tier mid-market customers, but also in the larger enterprises. So we're seeing demand in both, but some of the lower tier clients are definitely more cloud-based conversations versus the high-performance compute conversations we're having in our larger client base.

[Divya Goyal, analyst]

But are you seeing -- like when it comes to like your smaller SMB clientele, do you think they are now already gearing up for AI along with the digital modernization. So is it more sort of premium product and high-margin sort of solutions that you're deploying there? Or are we still a few years behind enterprise and kind of in those low margin kind of solutions there?

[Greg Berard, executive]

So I wouldn't say low margin. I would say they're definitely behind in taking advantage of the technology, and we're having more design thinking workshop conversations with them on how they can leverage GI and AI in general across their business, right? So -- but it's still high value because it's the high-value services we provide around it, right? So we try to think about it in 2 ways. You're going to look at the product side, both from a hardware and software perspective, which has a higher margin base in the lower-tier SMB mid-market accounts and a lower margin profile and the higher enterprise accounts, but it's all about for us, driving the high-value services, which is where the margin is, right? And there's going to be, I'll call it, AIM opportunities for us in both sets of clients.

[Divya Goyal, analyst]

That's helpful. And just as a follow-up and my last question here. Could you briefly elaborate on what your relationships look like with hyperscalers and some of your key hardware clients? And I suppose you mentioned Cisco and Dell and a few others, you started having larger and deeper relationships with some of these as well.

[Greg Berard, executive]

Absolutely, right? So we're having conversations with your companies like Navidea and AMD and Intel, but we're also having conversations with how we take advantage of the compute platforms we've been selling for years, right, whether it's IBM, HP, Cisco, Dell, we're talking to them about how we leverage their platforms to build AI solutions as well, companies like Nutanix and others. And then we're also working with the cyber companies like CrowdStrike and others to understand how do we take advantage of all the AI that they've built within their platforms and build customer solutions. IBM specifically in their Watson platform, we're working on a project right now with them. So you'll see us continue to come out with solutions that wrap AI together with both our historical compute partnerships as well as some of the newer cloud and cyber type companies as well.

[Divya Goyal, analyst]

I said my last. But Avjit, if you can provide -- I know you said, I think, you're probably going to provide going forward. But could we get some sense of mix of your hardware and software revenues in your product revenues?

[Avjitpal Kamboj, executive]

I think the best way to look at it for now, Divya, is look at our gross net adjustment and that gross net adjustment is predominantly on our software business, and you'll see the growth in that adjustment quarter-over-quarter, that gives you sort of a sense of how much our software business is increasing.

[Divya Goyal, analyst]

But you would not be able to share the mix right now for the product breakdown?

[Greg Berard, executive]

Not right now. In the future yes.

[Operator]

And again, if you would like to ask a question, [Operator instructions]. We have a follow-up question from the line of Robert Young of Canaccord Genuity.

[Robert Young, analyst]

Just a quick one for Greg on -- you highlighted VMware and Broadcom recognition. They're changing their partner program and so I'm curious as what the implications are for Converge. And if that's part of the shift into larger enterprise because I understand VMware has been focused on more larger enterprise, so what does it mean for Converge?

[Greg Berard, executive]

Yes, we see it as an opportunity, Rob, right? The relationships we've had with VMware are leading to us to still stay close with the Broadcom acquisition and be part of the reseller partner programs they're rolling out, both in Canada and U.S. So there's an opportunity for us to continue to be a go-to partner for Broadcom, but there's also an opportunity for everything else we're doing across our portfolio. So when we talk about creating that VMware SWAT team, it's about understanding what technologies are in place today with our clients and giving them options moving forward. So if they are not happy with what's happening in the pricing and the renewals and things like that with Broadcom, we can explore other options and provide alternative solutions to our client base to ensure that they can continue to leverage the right technology for their business requirements. So we think it as an opportunity not only to continue to drive the VMware solutions but also to drive other solutions, whether it's Nutanix and Red Hat and other companies that we have strong partnerships with. So it's going to be an opportunity for us on the resale side as well as an opportunity for us to provide thought leadership and services around those -- any types of migrations that may happen.

[Robert Young, analyst]

Okay. I assume that you're a bigger player in relative -- is it a much smaller opportunity? Is VMware shrinking the opportunity, the addressable market a lot? Or is it still a very large opportunity where you're a bigger part of it? I'm just trying to understand how big this is for Converge.

[Greg Berard, executive]

Yes. That's the way I would look at it, right? We're a big partner and we're going to be part of any of their go-to-market plans moving forward. And so that provides more of an opportunity for us to engage maybe where we're not engaged today, but also engage in different types of conversations with any of our customers that have VMware. As I mentioned, we've already been involved in over 150 client conversations since this news broke, right? And we expect that number to continue to grow, which is going to mean more opportunity for us across the board.

[Operator]

And there are no further questions. This concludes today's conference call. We thank you for participating and ask that you please disconnect your lines. Have a good day. Thank you.