Converge Technology Solutions Corp

TSX:CTS

Earnings Call Analysis

Robust Sales Growth, Earnings & Outlook

The company reported Q4 gross sales of $1.1 billion, marking a 12.7% year-over-year increase and capping a fiscal year with $4 billion in sales, a 30.6% jump from the previous year. Of this, organic growth was consistent at 10.9%, both for the quarter and the year. Q4's adjusted EBITDA rose by 8% to $46.5 million with the full year at $170.3 million, up 19.2%. A solid fiscal 2024 is anticipated, with an expected gross profit between $735 million and $760 million and adjusted EBITDA ranging from $185 million to $198 million, signifying mid to high single-digit to double-digit organic growth.

Strategic Growth and Record Performance in 2023 Set a Positive Tone for 2024

The company saw a transformative year in 2023 with an impressive addition of 500 net new logos and notable organic revenue growth. The North American segment, a significant contributor, showed robust expansion in its sales force with 135 sales professionals each driving over $1 million in gross profit. Investments in higher value professional services and managed services have paid off, with double-digit growth in top accounts. In particular, cybersecurity, propelled by the acquisition of CBI, witnessed a 75% revenue growth from its penetration testing services, validating the company's consolidation strategy and offering promise for further growth into 2024. The growth mirrored the organization's strategic push across analytics, AI, cloud, cybersecurity, and managed services, specifically positioning Converge to capitalize on the accelerating innovations in AI technologies.

Financial Fortification with Increased Sales, Adjusted EBITDA, and Operating Cash Flows

Sales figures have shown a 12.7% year-over-year increase in Q4, reaching over $1 billion for the second consecutive quarter. This has contributed to an annual gross sales tally of approximately $4 billion, a sizable 30.6% hike compared to the previous year. Adjusted EBITDA for Q4 was $46.5 million, with a total of $170.3 million for the year 2023, which represented a 19.2% rise from 2022. Strong cash flows were a highlight, with a year-over-year quadrupling in operating cash to $229.5 million, serving to significantly bolster the balance sheet and liquidity. The organization achieved a net reduction in debt by $52 million in 2023 and managed to return around $23 million to shareholders through buybacks and dividends. An increase in cash flow conversion rate to a remarkable 135% of adjusted EBITDA was also noted, accentuating the company's solid financial foundation.

Management's 2024 Vision: Solid Gross Profit and Adjusted EBITDA Expectations

Looking forward, management anticipates gross profit for fiscal 2024 to range between $735 million and $760 million, showcasing mid- to high single-digit organic growth. Adjusted EBITDA is expected to range from $185 million to $198 million, indicating robust high single-digit to double-digit organic growth. The first quarter of fiscal 2024 is set with gross profit targets of $170 million to $178 million and adjusted EBITDA of $40 million to $44 million. The company's capital strategy remains consistent, focusing on internal organic growth, debt reduction, share buybacks, or exploring new acquisitions.

Reinvestment and Technological Innovation to Drive Organic Growth

The company is continuing to reinvest in itself to foster organic growth by expanding its sales force and luring in top-tier consulting talent. Technological innovation is also being pursued through initiatives like the development of AI solutions and hiring of experts in the field. The success and future vision involve a convergence of sales, services, and emerging technologies to maintain and accelerate growth while continuing to deliver on commitments to shareholders and clients.

Earnings Call Transcript 2023-Q4

[Operator]

Thank you for standing by. This is the conference operator. Welcome to the Converge Earnings Call for the Fourth Quarter and Fiscal Year 2020. [Operator Instructions].I would now like to turn the conference over to Lorne Gorber, Converge Investor Relations. Please go ahead.

[Lorne Gorber]

Thank you, Lorne, and good morning. Joining me to discuss Converge's Q4 and fiscal 2023 results are Shaun Maine, Group CEO; Greg Berard, Converge Chief Executive Officer; and Avjitpal Kamboj, Chief Financial Officer. This call is being recorded live at 8 a.m. Eastern Time on March 6, 2024. The press release we issued earlier this morning is available for download along with our Q4 and 2023 MD&A, financial statements and accompanying notes, all of which have been filed and available for review on SEDAR. Please note that some statements made on the 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 in both our MD&A and press release as well as on converge.com. We encourage our investors to read it in its entirety. We are reporting our financial results in accordance with International Financial Reporting Standards, or IFRS. 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. All of the dollar figures expressed on this call are Canadian, unless otherwise noted. I'll turn it over to Shaun to begin with a high-level overview of the past year. Greg will then expand to some operations highlights, including client examples. Avjitpal will dive deeper into our Q4 and fiscal 2023 financial details as well as our Q1 and 2024 outlook before Shaun wraps up and we take your questions. So with that, Shaun?

[Shaun Maine, executive]

Thank you, Lorne. Good morning, and welcome to our fourth quarter and fiscal year 2023 results call, and good afternoon to those of you listening overseas. I am pleased and proud to reflect on the significant growth Converge has achieved once again this past year. It's remarkable to see the dedication and hard work of our team continue to translate into results. The highlights of which include delivering gross sales of $4 billion and corresponding gross profit of over $700 million in 2023. Each of these key metrics have doubled from only 2 years ago, positioning us extremely well for our next phase of growth. As you many of you will recall, our initial strategy was to build out our footprint across every NFL city, where our targeted customers are often located and then to build a hybrid IT model on the existing local skill sets, analytics, cybersecurity, cloud, managed services, allowing us to provide unparalleled user experience to our customers, thanks to our deep technical expertise in the solution areas customers most require. The 35 acquisitions made to date have enabled us to achieve these goals in North America, and now we can shift our focus to growing organically as this footprint and integrated set of solutions give us the ability to act as a strategic adviser to our customers as we assist them through workshops and advisory services, implementing these solutions and then managing them on their behalf. We have a very diversified healthy mid-market customer base, which for us means customers between 500 and 10,000 users. But the interesting development we started to see last year and are seeing more this year is larger customers coming to us for help with their high-performance clusters and AI workloads due to the uncommon in mute skill sets of our technical teams. Greg will provide examples and the fact that we are growing organically faster than our peers is attributable to these teams and solutions. One of the reasons many investors are attracted to the IT services industry is a combination of growth and cash generation, and our results emphasize this. In Q4, Converge reported its second consecutive $1 billion quarter with gross sales growing by 12% year-over-year to $1.08 billion. At the same time, primarily due to post-COVID inventory normalization and a focus on process, which Avjit will expand upon, Converge generated $114.5 million of cash from operating activities in Q4 and generated over $229 million of cash in 2023. This cash generation has strengthened our already strong balance sheet, and we acted 2023 with a net debt-to-EBITDA ratio of 1.23. When you consider this growth in the full year context, the 2023 financial-- fiscal financial results demonstrated a robust demand for Converge's full suite of capabilities. Reporting record gross sales exceeding $4 billion in 2023, representing an increase of 30.6% and gross sales organic growth increasing by 10.9% year-over-year, well above the industry peers. Gross profit increased by 27.6% to $702.9 million, up from $550.8 million in 2022 with gross profit organic growth of 8.1% and adjusted EBITDA of $170.3 million, up $27.4 million or 19.2% year-over-year. With supply chain still normalizing, we have a very healthy North American product backlog of $412 million entering Q1. With that, I would like to turn the call to Greg Berard to dive into our operational highlights.

[Greg Berard, executive]

Thank you, Shaun, and good morning and good afternoon to everyone. As you just heard from Shaun, our strategy of driving growth with higher value solutions and services is working, and it helped us deliver significant growth year-over-year and continues to be a differentiator for us in the market. As we continue to transform and drive more strategic offerings with our clients, we will continue to increase the recurring revenue base in our accounts and drive more professional and managed services. I know many of you have seen this slide in the past, but we have added even more focus on artificial intelligence in 2024, and we will continue to make more investments around AI and how it aligns to all of our practice areas. As many of you know, we've been in the AI space for many years, and we've been working with our clients on building applications and even worked on the Watson systems when they debuted back in 2011. We've built all our practice areas to focus on advisory, implementation and managed services. We have built consistent processes and structure to ensure all our clients have the same experience and gain access to our technical experts across the globe. We have structured all the practices to have solution specialists, solution architects and delivery resources to help support our sellers and clients across North America and to drive our cross-sell strategy across our diverse client base. This continued focus on driving high-value services and being the trusted adviser to our clients is key to our profitable growth strategy and will continue to be a unique differentiator in the market. A great example of this is the current situation around VMware. Customers are facing challenges to understand the impact to their business of the changes that the go-to-market strategy Broadcom has launched for VMware and ultimately decide how to weave these changes into their technology strategy. We believe a consistent consultative approach built around the convert game strategy differentiates Converge in this conversation. We have set up a SWAT team of sales and technical leaders focused on supporting customers in a holistic way and adapting to the situation as it evolves. We have the best-in-class professional services skills for the legacy VMware offering, the BCF focused offerings Broadcom is moving forward with the cloud delivery models and the alternative virtualization and orchestration tools, positioning Converge advisory services on assessing the impact and options for our clients, leveraging our implementation services for hybrid cloud delivery models and our ability to provide ongoing managed services for these environments is why our clients want to work with Converge. We were also just recognized as the Americas Technical Enablement Partner of the Year in 2023 from VMware. So we have the right skills and team to help our clients on this journey. Our ability to offer the thought leadership and end-to-end solutions by bringing the right experts to the conversation will allow our sellers to continue to build the right relationships and drive value with their clients as the IT landscape continues to evolve. All of the Converge practice areas have the depth and breadth similar to what we showcased at our coffee and Converge sessions over the past few months, the deep technical and domain expertise. We continue to invest in the thought leadership and technical expertise that is relevant to our clients. Our ability to drive the end-to-end solutions for our clients equally demonstrates our ability to pull higher-value software and services into our revenue mix. This slide highlights the value that Converge can bring. We bring experts in from all of our practice areas to drive both the business and technical conversations. This allows us to have multiple entry points with the client throughout their buying process. If they want to talk about corporate use cases and how the applications they leverage today can be modernized, we have the team to support them. If they want to talk about their data governance and data modernization projects, we have the data analytics team to help them prepare and be ready for the workloads. In many scenarios, we are bringing together all of our practice areas to talk about the compute power, networking, security and automation layers to help our clients prepare for the innovation they need to stay ahead of the competition. Converge is uniquely built to do everything from the chip conversation to the human interactions and everything in between. We have the right experts to build the solutions for our clients, and we have the right partnerships to leverage the strategic vendors in the marketplace. As a result, as you've seen in 2023, our revenue mix is global and well diversified, positioning us for further growth in 2024 and beyond. As we continue executing on our cross-sell strategy, the numbers now show over 90% of our clients are buying more than one practice area and nearly 2/3 of our North American clients are now leveraging our skills and expertise across more than 4 practice areas. Our continued focus on driving higher-value solutions with our clients and expanding our footprint in our accounts will be key to our continued success and the organic growth we saw in 2023. This is a unique differentiator for us with our mid-market and enterprise clients and allows us to be their go-to partner for their end-to-end technology needs across analytics, AI, cloud, cybersecurity and managed services. We will continue to invest and grow in these solution areas, and we look forward to continuing to execute on our strategy. In 2023, we won over 500 net new logos. That's an amazing result for the team. In addition to this new logo activity, we extended and expanded our existing relationships with our current installed base. And while the timing of deals and the mix of bookings will vary on a quarterly basis, we believe the depth and breadth of deals we added in 2023 showcases the value that we deliver and adds multiple opportunities for sustainable growth. The results to date in North America speak for themselves. Our strategy is clearly working, proven with another record 2023. Of approximately 400 sales professionals, 135 of them drove over $1 million of gross profit last year with over 80 of our sellers having career years. This is a testament to our strategy, our portfolio and our offerings for our clients. 25% of those sellers sold all of our practice areas and nearly 30% of them drove 5. This is great momentum for the team, but there's also plenty of headroom to drive more growth. Based on this success, we are actively recruiting and hiring more sales reps across North America as we have proven they can sell more and drive more value with their clients by joining Converge. The investments we made to drive higher value professional services and managed services are paying off as well. In 2023, of our top 250 accounts, we grew nearly 200 of them, resulting in double-digit growth across managed and professional services. Nearly 75% of our sellers in North America sold more professional services in 2023 than they did in 2022, resulting in growth across more than 85 of our top 100 services accounts. Take cybersecurity, for example, in 2022, Converge's acquisition of CBI significantly expanded our security services portfolio with the inclusion of, among other solutions, a highly successful penetration testing as a service offering. With our experienced seller ecosystem on the ground, educating thousands of clients fast forward through our first fully integrated year, and we have seen revenue from our penetration testing as a service offering grow 75% in 2023, once again demonstrating the value add of not just the CBI acquisition, but the benefits and synergies of our overall consolidation strategy. This example is just one of many, many repeatable solutions combined under one Converge umbrella that we can bring our clients today. And the as-a-service nature of these solutions makes them very sticky with very high renewal rates following our initial engagements. Furthermore, this type of service provides a very strategic entry point for promoting the full catalog of Converge services and solutions. We are encouraged to see this growth trajectory carrying into 2024 as a significant tailwind. And it's all connected. The disruptive nature of AI is driving companies to look for a competitive advantage and innovation for their business. This almost always means investing more in technology and solutions. This is a universal benefit for global bars, resulting in more hardware, more software and more services. Our experience with AI and high-performance compute spending has been focused on the infrastructure layer today rather than on the applications. It's also led to several services opportunities to help our clients understand the potential use cases where AI can benefit their business by driving design thinking workshops with our clients. As a result, Converge is best positioned for the application spend that will follow and all the solutions that AI will drive. This positioning will generate future growth and recurring revenue as we continue serving these clients whose foundational AI platforms we have helped stand up. Every day, we are working with more and more clients to enable their journey to leverage the power of generative AI and high-performance compute to serve their mission and build out their platforms, whether on premise or in the cloud. We have built up an AI and HPC task force as an ongoing support service model, led by experts in AI, machine learning and high-performance compute as program managers partnered with our clients to drive success on their overall AI strategy. Our task force is customized to address the specific needs of the client and includes a combination of technical leaders from all of our practice areas. This is a recurring revenue managed offering and is designed to loop back to the advised and implement phases of the customer journey as we support our clients in responding to the accelerating innovation we are all experiencing in generative AI technologies. The Converge combination of all our practice areas makes us unique in this space and will continue to be trusted advisers with our clients and drive solutions and unique value that we can deliver. I will close out with a few high-level wins to showcase our strategy and the value we are driving with our clients and partners. For our customers that are establishing themselves as leaders in the AI and HPC space, Converge has supported them with specialized professional services and purpose design solutions to support their AI and machine learning initiatives. One of our customers is a major cancer research institution, and we supported their mission as they look to become global leaders in supercomputing. We are proud to work with them on hardware and professional services to build out their underlying technology to help them drive the important work and research they do on a daily basis. We teamed up with Dell, NVIDIA and many other partners to build out these solutions. We were also chosen by a leading legal services firm to help address accessibility and cost efficiency challenges with traditional transcription services for [indiscernible] depositions. Their present method remain cumbersome and constrained by availability and affordability. What the Converge team produced is an intuitive and user-friendly interface tailored to the specific needs of our clients and their industry. Our AI-driven approach ensured accurate and compliant transcriptions and our client now sits at the forefront of revolutionizing the efficiency and accessibility of our deposition documentation. The Converge team was able to pull technical experts across our digital infrastructure, cybersecurity and cloud practices to come together and build the right solution for our client. I talked about our cyber penetration testing as a service and all the growth we had in 2023. We have many more use cases and wins we could share across all our practice areas. It was a great 2023, and we continue to come together as one converged organization to be the trusted adviser to our clients and to be their end-to-end solution provider by building the right solutions around AI, cloud, cyber and all of our practice areas. We have the right partnerships with all the major OEMs in the marketplace, and I'm confident the combination of our clients, employees and partners will continue to be a key differentiator for us in the market. In summary, we are very bullish on the outlook for profitable growth in 2024, and I'm just as confident in our ability to continue to deliver value for our clients. Converge is uniquely positioned to create and seize the opportunities for profitable growth moving forward. I'll now turn it over to Avjit for a review of our financial performance and outlook for Q1 and 2024.

[Avjitpal Kamboj, executive]

Thank you, Greg. Good morning, everyone, and thank you for joining us today. In my review of both the Q4 and audited 2023 financial results, I will refer to some measures that are non-GAAP, including gross sales, organic growth and adjusted EBITDA. For detailed descriptions and reconciliation of our GAAP to non-GAAP measures, please refer to our MD&A filed this morning. Let's start with the top line. Our Q4 growth sales were approximately $1.1 billion for the quarter, representing growth of 12.7% year-over-year, and this represents our second consecutive quarter north of $1 billion in gross sales. I'm pleased to report that Q4 2023 represents the cleanest quarter from organic growth calculation perspective as the last acquisition we did was in U.K. of Stone Group in early November 2022. Q4 year-over-year performance includes only 180 basis points of growth from M&A resulting in 10.9% organic growth for the quarter. This led to full year 2023 gross sales of approximately $4 billion, up 30.6% compared to fiscal 2022. Organic growth for the full fiscal year 2023 was coincidentally also 10.9%. Breaking down our Q4 organic growth sales by geography and excluding Portage, which is all Canada, Converge North America business grew by approximately 16% during the quarter. North America business represents 88% of our overall gross sales. Our U.K. business grew by over 20% and our Germany business declined by approximately 32% in Q4. Decline in Germany business is primarily due to lower end-user device sales to public sector compared to Q4 in 2022 and decline in spending by the government sector. We're working diligently to turn around our business in Germany by becoming a better VAR, integrating our acquired businesses, and we've also made structural changes, including appointment of new management teams in Germany. Revenue in Q4 was $651.1 million, an increase of $10.2 million compared to Q4 in 2022. For the full fiscal year, revenue grew by more than $540 million or 25%. This growth in revenue was driven primarily by solid organic growth initiatives and the result of our acquisitions completed in 2022. And just 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 more software sales are recognized on a net basis. Therefore, gross sales is the best measure for top line. Splitting the 10.9% organic growth in gross sales for Q4 and for fiscal 2023 between products and services, products gross sales organic growth was 10.4% for the quarter, and services gross sales organic growth was 12% for the quarter. For the full year 2023, product growth sales organic growth was 9.3% for the year, and services gross sales organic growth was 14% for the year. As a reminder, for presentation purposes, product includes hardware and software sales and services includes managed services, professional services, public cloud solutions and maintenance and support.Our product sales growth was largely driven by innovative solutions to our customers, including high-performance compute, cybersecurity solutions, multiyear software licenses and AI infrastructure solutions. Demand for our solutions remain strong as we continue to transfer our business to a solution provider. On the services side, we continue to deliver solid organic growth. As I mentioned, services organic growth for the quarter was 12% compared to Q4 last year, driven by our cross-selling strategy and our services transformation activities. We're continuing to see growth in our high-value services through our Converge consulting platform. Turning now to our profitability. Gross profit in Q4 was $181.5 million, up 7.5% from Q4 2022. And for the full fiscal year 2023, gross profit was $702.9 million, up 27.6% or $152 million higher than 2022. Organic GP growth was 5.7% in Q4 and 8.1% for the full fiscal year 2023. Organic gross profit margin for the quarter was 27.9% compared to 26.4% in Q4 last year. And for the full year, gross profit margin was 26% compared to 25.4% last year. As a reminder, for comparability, Stone in the U.K. was acquired in November 2022. And while it adds revenue, this operation still is a low-margin business with sales primarily to education and public sectors. And as we continue to cross-sell higher-margin solutions and services to our customers of acquired companies, gross margins are expected to continue to increase. Q4 adjusted EBITDA was $46.5 million, up 8% year-over-year, and for the full year 2023 adjusted EBITDA was $170.3 million, an increase of 19.2% for 2022, including the negative adjusted EBITDA from Portage, adjusted EBITDA from converged business was $47.8 million in Q4 and $174.1 million for the full year 2023. The adjusted EBITDA growth in Q4 was almost entirely organic as our U.K. business typically generates negligible adjusted EBITDA due to seasonality in Q4. Adjusted EBITDA as a percentage of gross profit was 25.6% compared to 25.5% in Q4 last year and 24.2% for fiscal 2023. We expect adjusted EBITDA as a percentage of GP to increase over time, driven by increased efficiencies and tighter cost controls while we continue to invest in our overall solutions and services strategy by expanding our sales force and attracting high-end consulting talent. Net income in Q4 was $4.8 million compared to a net loss of $4.7 million in Q4 of last year. For the full fiscal year, we recorded a net loss of $6.4 million, primarily driven by depreciation and amortization from acquisitions. Turning now to our balance sheet, liquidity and cash flows. Cash from operating activities in Q4 was $114.5 million, an improvement of $84.1 million or 277% compared to Q4 of 2022. Massive cash flow from operating activities was primarily driven from a reduction in inventory as we reduce inventory back to minimum levels, which was built up during COVID and also new inventory controls that we put in place. For the full fiscal year, cash from operating activity was $229.5 million compared with $41.6 million last year or 452% higher. Cash flow from operations was 135% of adjusted EBITDA compared to 29% of adjusted EBITDA in fiscal 2022. Significant increase in cash flow conversion is primarily due to the reversal of negative cash flows from working capital in fiscal 2022. Combining fiscal 2023 and 2022 cash flow from operations was approximately 87% of adjusted EBITDA. Looking at our balance sheet. We finished 2023 with a solid financial position with a net debt of approximately $210 million. We reduced our net debt by $52 million compared to December 2022 and by approximately $98 million compared to just a quarter ago Q3 2023. Our leverage ratio at the end of the year, December 31, 2023, was 1.23x compared to 1.83x at the end of last year and compared to as high as 2.25 at the end of Q2 in 2023. We calculate our leverage ratio as short-term and long-term borrowings less cash divided by LTM adjusted EBITDA. In addition to reducing our net debt by $52 million this year and reducing our acquisition-related liabilities by approximately $97 million, which includes contingent consideration deferred consideration and non-controlling interest liabilities. We also returned approximately $23 million of capital back to shareholders in the form of share buybacks and dividends. The cash-generating momentum we've carried into 2024 reflects our significantly improved working capital management. Implementation of these improvements is ongoing and will continue throughout 2024. These changes offer confidence in our ability to generate meaningful cash from operating activities going forward. 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 for organic growth and on completing the integrations of previous acquisitions, all in addition to paying down our debt and repurchasing our stock, we can pull several levers simultaneously with the cash we expect to generate from operations. Additionally, we're implementing innovative solutions and data analytics for our back office. We've improved our cash and treasury management. Our resource utilization and overall decision-making is improving across the board and throughout the organization, resulting in significant fundamental improvements across the business. We're seeing the benefits this quarter of better inventory management as an example. We just getting started, together with the leadership team, we're laser-focused on doing things right and doing the right things to drive efficiency and foster a culture of innovation and transparency. Our new ERP program is on track to go live with Phase 1 in North America in the second half of this year. We have a lot to do between now and then but together with the entire converged team, I'm confident that with the expertise and dedication, we will achieve remarkable results together. Now turning to our outlook for the next quarter and for full fiscal 2024. For fiscal 2024, we expect GP to come in between $735 million and $760 million, representing organic growth of mid- to high single digits and adjusted EBITDA of between $185 million to $198 million, resulting in organic growth of high single-digit to double-digit growth. For the current quarter Q1 2024, we expect gross profit to be between $170 million to $178 million and adjusted EBITDA to be between $40 million and $44 million. In addition, with the strong cash generation in fiscal 2023, we are now increasing our conservative target for cash from operating activities over time to be 75% of adjusted EBITDA now. We will continue to invest in organic growth by hiring top talent across the organization to drive the transformation of our business, including cross-selling solutions. We're excited for the future and expect to continue to deliver on our commitments.I will now pass the line back to Shaun for closing remarks.

[Shaun Maine, executive]

Thank you, Avjit. Before we conclude today's call, I would like to take a moment to thank our dedicated employees and leadership team for being the driving force behind Converge's continued growth and success. In 2023, we were pleased to expand our leadership team to align with the trajectory of the company's next phase of growth. In May last year, we brought on Avjit Kamboj as Converge CFO, who's effectively been transforming the Converge finance organization by refining financial processes and structure, aligning the company's forward-looking targets. Although we've taken a pause on M&A, while we focus on integration and automation, as group CEO, I will continue to build our acquisition pipeline with a focus on capabilities now that we've achieved our geographical presence coals. Greg Berard, in his role as Chief Executive Officer, will continue to oversee all operations. Greg has done a phenomenal job guiding Converge through its phases of growth and has been instrumental in building our practice areas. Last year, Greg focused on our North American sales organization, and this year, his focus will be around services as it continues to deliver our aim strategy to our customers achieving higher than industry growth. In Q4, we welcomed Wendy Bahr to our Board of Directors as an independent director. Wendy is a corporate executive with global sales experience and served as Senior Vice President at Cisco, leading their global partner organization where I had the pleasure of working with her. More recently, Wendy held the role of Chief Commercial Officer at leading cloud security organization, Rubrik and also currently acts as a strategic adviser to several portfolio companies of JC Ventures. Wendy's experience will be a major asset to drive continued global growth for Converge. And with that, I would like to thank you for joining today's call, and I will open the floor to questions.

[Operator]

Thank you. Ladies and gentlemen, we will now begin the question and answer session. [Operator Instructions] Our first question comes from the line of John Shao from National Bank.

[Meng Shao, analyst]

So could you give us an update on your capital deployment priorities given that the leverage ratio is that 1.2x?

[Avjitpal Kamboj, executive]

Our capital allocation strategy has not changed. We will continue to allocate our capital based on the priorities we have outlined previously, which is, number one, invest in our organic growth internally. Number two, continue reducing debt; and number three is share buybacks or continue to explore acquisition targets.

[Meng Shao, analyst]

And could you maybe give us an update regarding where you are today in terms of the hardware refreshment cycle and any implications to the hardware demand later this year?

[Greg Berard, executive]

So what we're seeing right now is an increase in device demand, right? We saw a slowdown in 2022. We're expecting the second half of the year to be stronger. There's a few things happening in the industry, number one, around the Windows 11 upgrades. We're seeing more and more demand, specifically up in Canada as well. So the pipeline is growing and we expect the second half of 2024 and 2025 to be strong on the device side.

[Meng Shao, analyst]

And Greg, you mentioned investment in AI. Could you elaborate a little bit on that investment? Is that going to be product capabilities or talent?

[Greg Berard, executive]

A combination of both. So we actually just brought in somebody yesterday to lead our AI practice. So we're making strategic investments from a personnel perspective and also looking to build more solutions that we can take to market. So it will be a combination of bringing in talent and building out solutions that leverage all of our practice areas that we can take to market.

[Operator]

Our next question comes from the line of Rob Goff from Echelon.

[Robert Goff, analyst]

And congratulations on the quarter. Greg, you gave a general feel for increasing device demand in the second half. Could you talk to any similar impact in terms of the services growth were the 20% benchmark in the quarters pretty impressive?

[Greg Berard, executive]

Yes. So we continue to put a lot of focus internally on measuring the growth we're seeing across both professional and managed services. And what you're seeing with the sellers and their ability to cross-sell and leveraging the practice areas, as we've talked about, it's a transformation. So we're seeing the product sales happen across all the practice areas, and now we're seeing that pipeline continue on the services side. So Rob, when we look at measuring on a monthly and quarterly basis, the pipeline continues to move in the right direction for us. So we expect to continue to be able to grow both professional and managed.

[Avjitpal Kamboj, executive]

And Rob, just one to add one more point to on although devices, we talked about earlier, that's some areas of growth. Last year, the material part of our organic growth came from high-performance compute and AI workloads. So that's another area of hardware that you're seeing real growth and is in the high-performance compute on top of things like NVIDIA and VAST Data.

[Robert Goff, analyst]

And when you're hiring, are you hiring seasoned talent? Or are you hiring graduates? What sort of payback do you vision on these?

[Greg Berard, executive]

So we are hiring experienced sellers that typically bring business with them, right? So our goal -- we always talk about a 2- to 3-year journey, right? So when we're bringing to these new sellers, we expect them to be able to break even for us year 1, double their business in year 2 and year 3 is really when they're up and running, similar to when we buy companies, right, it takes us 3 years to kind of transform them. So we look at year 1 is just getting them up to speed and enabling them on the solutions. Year 2 is when we start to reap the benefit and year 3 is when we really see them take off.

[Operator]

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

[Robert Young, analyst]

I just want to talk about the trend you mentioned around larger customers coming to Converge around AI and Shaun, you noted, a lot of the growth came from high-performance compute. So maybe I want to dig into that a little bit. You mentioned Dell as a partner. I mean how are these companies coming into Converge? Why are they using Converge? And then what does larger customers mean exactly?

[Shaun Maine, executive]

Yes. So Rob, what we're seeing right is a combination of 2 things. Number one, based on the skill sets we have around AI and high-performance compute, some of our partners like Dell, HP, NVIDIA right there coming to us to take advantage of the skills we've built up. But from a client perspective, when we talk about mid-market and enterprise, right, we're seeing some of the larger enterprises come to us because of that end-to-end portfolio. So when we're sitting down with our customers and we can talk about the AI workloads that they're building, we bring in our experts from our cyber team. We bring in the experts from our analytics team and obviously, from a data center technology perspective. So our ability to have that end-to-end conversation is really why the clients are coming to us for those workloads.

[Greg Berard, executive]

And Rob, just to add to that, traditionally, Converge would see lots of deals in the single-digit millions. We're now seeing many more 8-figure deals. And so I think that's the difference, especially around these high compute [indiscernible].

[Robert Young, analyst]

You touched on a VMware channel strategy, I think you suggested that you had a positive position given your strong partner credentials. Maybe you could give us an update on what's going on there. I think it's an invitation-only dynamic with VMware. And then maybe if you could maybe talk about the Red Hat expertise that you have and whether there's overflow handing that. Maybe you can just talk about the overall dynamic there and how it benefits or is bad for Converge?

[Greg Berard, executive]

So we look at it as an opportunity, Rob. And it really comes down to the fact that we have the heritage VMware skills and relationships there. So depending on how the whole marketplace evolves, we can continue to help our customers if they decide to continue to make their investments around the VMware platform. Or to your point, if they start looking to move off and move to Red Hat or other competitors, we're seeing both opportunities. So we're really positioning ourselves as being that consultant with our clients and helping them understand what their options are and giving them the ability to continue to invest in the VMware platform or leveraging our AIM strategy, right, advise them on what other opportunities are out there and what other potential solutions they could leverage. So we're seeing it as an opportunity on both fronts, both from a technology and resell perspective but also to drive our advisory and implementation services.

[Robert Young, analyst]

And last one for me is just around the product backlog down quarter-over-quarter. So, I guess book to bill mathematically would be less than one. Then you said it’s supply chain normalization, but I mean you could worry that it’s demand driven. So, maybe give us maybe a little bit of context around what happened there and then I will pass the line.

[Shaun Maine, executive]

So, this is an improvement in the supply chain. So, the elevated levels especially used to be around network gear, where you were taking 4 to 5 months and then even 2 to 3 months. We are now seeing a normalization where intra-quarter, you are having orders be delivered. And so you don’t have as much of that overhang. So, this is much more of just a normalization. There is still very healthy backlog there, but you are seeing it because of the increased delivery times, you are not seeing a decrease in demand, you are just seeing a better delivery dynamic out there in the marketplace.

[Robert Young, analyst]

Well, last quarter you said networking gear and GPU were the areas of issue in the supply chain. Is that networking gear, is that have a positive implication on your managed services or professional services deployments?

[Shaun Maine, executive]

So, that used to be a gating factor that’s getting better, much better around that. So, that’s normalizing a lot better than it used to be. You still have RAM GPUs, there are still elevated lead times, but networking is much better and therefore you absolutely deployment of projects aren’t being delayed by networking constraints.

[Robert Young, analyst]

Is that part of why the growth this quarter was higher in services?

[Greg Berard, executive]

Rob, I would say it’s more about just our ability to continue to cross sell across all the practice areas and leveraging all the professional services teams across the board, not necessarily specific to the supply chain.

[Operator]

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

[Christian Sgro, analyst]

Could you comment on the competitive landscape, want to focus in on North America as well as the mid-market there, because of any competitive response from your competitors and pricing capabilities, that sort of thing to keep up?

[Shaun Maine, executive]

So, from a pricing perspective, right, in this industry, you have the registration processes that protect you from a pricing on specific opportunities. I would say from a competitive perspective, there is 2 things we look at right is the larger resellers in the marketplace. And they don’t have the technical skills we have, right? And that’s really what we continue to talk to our clients about is leveraging us across the board, the portfolio we have built from a strategic partnership perspective. But when you look at our acquisition strategy, the real differentiator for us is a lot of our competitors will say they do everything we do, but we have actually gone out and bought companies that had years-and-years of technical experience in this space. So, our ability to go deep across the entire portfolio is really what makes us different in the market.

[Greg Berard, executive]

And the other thing I will add to that Christian is just, we are in every NFL city. That coverage model, when you look at all the other partners, they tend to be concentrated in certain areas. When you look through our regions, we have got great diversification and it’s all about that customer user experience. That’s why the action strategy was first about geography, and now it’s about capabilities. So that, when you look and say, especially to our mid-market customers that service level, that user experience is so important and our geographical coverage also helps us party with our vendors because they know, they can run national campaigns with us.

[Christian Sgro, analyst]

Now, for my second question, Avjit touched on the new ERP, which will be like half through this year, a lot of the integration work will be done by then. Could you comment on what we should be looking forward to most either from a go to market standpoint, that way in terms of coordination or more on the cost side, where there is some streamlining to do?

[Avjitpal Kamboj, executive]

This will mostly be on the cost side. So, when we go live later this year, as I have been consistently saying, we will probably see most of the benefit commencing next year. As we implement the ERP go live on it, you have to get used to it and get people trained on it and the benefits and synergies come generally over time.

[Operator]

Our next question comes from the line of Stephanie Price from CIBC.

[Stephanie Price, analyst]

I maybe have a bit of an expansion or now a follow-up on the last question. I just wanted to hone in on the adjusted EBITDA margins. So, just speak at the margins as the tentative gross profit. We are down year-over-year in ‘23, but the Q1 guide kind of implies roughly flat margins, but then the midpoint of the full year guide is about 100 basis point improvement. So, Avjit, I guess it’s one for you. Just curious how you think about the full year in terms of the adjusted EBITDA margins here?

[Avjitpal Kamboj, executive]

So, for the full year, we -- obviously ERP will provide us additional expansion on our margins. But we are still working through and on our cost control that we should be able to get higher margin profile even just within this year without the ERP. That includes looking at our all different costs we have across the globe from travel, from insurance and so on, and including our people cost.

[Stephanie Price, analyst]

And then I also wanted to ask just about Germany and more details around what you are seeing there. It sounds like government was a bit of an issue, but would find a weaker economy, the government would be focused on spending. So, I would love to get more color on what’s happening in Germany here in the outlook for fiscal ‘24.

[Shaun Maine, executive]

Yes, so the big thing for us and started as of you mentioned in Q4 is the integration of all the companies, right. So, we are allowing them to kind of run independently until 2023 and now we are bringing them together and going to market as one Converge across Germany. So, we expect that to pay off and leverage the power of the multiple companies to drive more demand. The other thing we are seeing right with the device pickup that will help us in the second-half of the year in Germany as well. So, we are starting to see more opportunities come specifically around Apple and the devices there. So, we are hopeful that with the integration and the new leadership team in Germany, we can get that business back on track.

[Operator]

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

[Jerome Dubreuil, analyst]

Thanks for taking my questions. First one, I think part of the reason why we are able to put many a bit on the back burner was your ability to drive growth through internal initiatives. Well, we in terms of your internal roadmap, if there may be low-hanging fruits remaining, what’s left to be done there?

[Shaun Maine, executive]

Also, as Greg was talking about, just the percentage of cross-sell, but just because someone sold something they might not have been maximizing it. And so that will continue to grow overtime. And Greg talked about the 3-year, the thing I am most excited about is the high performance compute and AI workloads. The growth we are seeing there, when you look at all the other companies in the space, no one is growing as fast as Converge. And the pipeline that we are seeing around that, that’s like the majority of our organic growth last year, came from like a material amount came from there and we are continuing to see that. So, there is significant upside from those workloads. So, again, adding more sellers, cross-selling, net new logos, that’s the base strategy. The upside is all around AI workloads and high performance compute.

[Jerome Dubreuil, analyst]

And then you seems to you seem to be investing a lot in your organic growth? Can we consider that in terms of the guidance that was provided in terms of the margins, we can kind of assume that this is a year of accelerated organic investments that would not necessarily be done every year or this is normal growth investments?

[Shaun Maine, executive]

You are absolutely right. This is a one time, as Greg just talked about, we are hiring a lot of sellers from our front office perspective. And at the same time, we are also hiring a lot of expertise from a solution services providers perspective. So, this is a one-time big investment as you generally know, when you hire these individuals, you don’t see the reward for these benefits immediately. It comes over time as these individuals ramp up, so you will see the investments this year, and we are expecting to reap the benefits later this year and next year.

[Jerome Dubreuil, analyst]

And then last one for me, Avjit, I think you mentioned that you now expect a 75% conversion of EBITDA to free cash flow. Correct me if I am wrong, but I think it was closer to 70%, that was the aspiration that you provided last quarter. Maybe if you can confirm that and then explain what has changed in terms of the business to explain the change, please?

[Avjitpal Kamboj, executive]

You are absolutely right. Our previous guidance was we expect 70% of our adjusted EBITDA to be converted to cash from operating activities. Now, we expect it to be 75% and we have been using the word conservatively all along as well. We will obviously strive to drive larger percentages as we go along similar to what we did in Q3 and Q4. The growth is really coming from just the confidence in being able -- us being able to forecast our numbers more precisely.

[Operator]

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

[Graham Smith, analyst]

Hi, this is Graham Smith on for Gavin Fairweather. I just want to kind of ask you about the backlog. So, that when we have seen the backlog decline for a couple of quarters and like you mentioned the bill supply chain issue. So, what can we kind of expect that backlog to stabilize now in this more normalized margin backlog [indiscernible]?

[Shaun Maine, executive]

Yes. I think you are looking at more of a stable environment. If you look at our guidance, you are seeing organic growth even though the backlog is smaller. And so I think you are seeing more of a normalization there. One of the reasons we started publishing the backlog was just to exhibit that there was a supply chain constraint and kind of give a general feel for it. And again, we do feel that things are mostly normalized as I mentioned before, GPUs are still the one area that is like, NVIDIA products are the ones that are not normalized. There is a definitely supply constraint there. But for most of the rest, this is getting to be much more of a normalized backlog.

[Graham Smith, analyst]

And then just this one on M&A, so you could call that on the call the CBI, acquisition and how penetration testing and services growing very quickly. Are there any other specifics for tools or functions that you could think that you can make a meaningful difference? Is there anything that you are kind of seeing specifically?

[Shaun Maine, executive]

So, the companies we bought like Newcomp Analytics, LPA, Carpe Datum, CVI, IDX, we see a direct correlation for our ability to enhance the cross-sell of the solution areas they come from. So, we have --when we bought VARs for under 5x, that gave us our geographical coverage. When you buy the capabilities, that really helps accelerate what Greg was talking about is the solution area of selling. So, when we get back on the acquisition trail, which will be after we do the ERP implementation, it will be much more around capabilities in areas that we think we can enhance the cross-sell that Greg is talking about.

[Graham Smith, analyst]

I guess one specific with capability or like a short list of capabilities that can specifically looking at or are you just kind of [indiscernible].

[Shaun Maine, executive]

Analytics and cybersecurity were top list, right. So, those were the areas that we have been had tremendous success with analytics and cyber securities and cloud companies. So, you see the acquisitions that we did in 2022. Again, Newcomp, LPA, Carpe Datum, IDX, CBI companies like that are more the kind of capabilities companies that we do more of in the future.

[Operator]

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

[Divya Goyal, analyst]

So, I wanted to actually double click on this German business here. Could you help us understand what does German revenue comprise as a percentage of total European revenue that you reported for fiscal 2023? And if I am not wrong, this is the REDNET business, which was predominantly catering to the government and the education sector. So, how should we expect it to trend in fiscal ‘24 and what gives you confidence that it will start to come back on track in the field ahead?

[Avjitpal Kamboj, executive]

So, first off, from a revenue perspective, the percentages are not meaningful from a revenue perspective, but I will look at it from a gross sales perspective. So, from a gross sales perspective within Europe, Germany and the UK are roughly split 50-50. And within Germany business, it’s not just REDNET, it’s the REDNET and GfdB businesses that we acquired in 2022 and earlier. What gives us confidence is the new discipline and the new management we put in place. We are confident that we can stabilize the business and set it up for future growth, with the focus we are putting on and along with the new management.

[Divya Goyal, analyst]

We will bind to that. So, I wanted to get a little bit more color into the Portage business as well. I know you briefly talked about it, but could you help us understand how is that trending across North America?

[Shaun Maine, executive]

So, security has been moving from perimeter security to identity and accent management. And we have got a consulting practice inside Converge that specializes in that. Portage is kind of at the forefront of implementing that, especially into governments and municipalities in Canada. Like Newfoundland is now using their identities for their age majority, there is a lot of Province of Saskatchewan using our portals for government services. So, they really just done a great job in Canada and with Release 3.0, it’s now a product that’s ready for the channel and U.S. expansion. So, Converge is a great channel company for a lot of software companies, and Portage is another channel that they have already started to work with various state governments with the Converge sales channel and making those inroads. So, that’s the key index stage of growth for Portage is really U.S. expansion, further penetration in the Canadian marketplace and then expansion to the U.S. is kind of the phase around.

[Divya Goyal, analyst]

You did mention quite a few times about your infrastructure servicing capabilities, especially considering the increasing demand for AI. I wanted to understand how is that trending broadly across your different sales channels, are you seeing the same traction across your enterprise sales channel versus the SMB sales channel? And if you could help us understand how actively all your SMB clients are actually considering any such changes?

[Shaun Maine, executive]

So, maybe I would say in terms of the larger AI workloads, right, those are the bigger clients. And in the SMB space, we are seeing more activity around cloud workloads, cyber obviously is still important as well, so when we look at generative AI and the large high performance compute platforms that we are building out, those are in the larger enterprise accounts. In terms of the mid-market and some of the smaller accounts, we are still seeing the interest around how they can leverage Gen AI, but its more cloud focused versus the high performance compute platforms.

[Operator]

Our next question comes from the line of David Kwan from TD Securities.

[David Kwan, analyst]

Maybe a question for Avjit, on the margin front, as it relates to the guidance for the full year, can you talk about the cadence of it, like are you still expecting flattish margins in the first half, at least until the ERP migration is done? And you talked about, I guess some of the other things that you can do to improve the margins this year without the ERP migration. But how much improvement in the margins that’s implied by the guidance is coming from the ERP migration in the second-half of this year?

[Avjitpal Kamboj, executive]

I think they are intertwined, David. We don’t split it out between the different initiatives we have. We have, as we have talked about, we have different levers we pull from different margin profiles on our businesses. That’s number one. Number two, just the cost profile within the business, we do spend approximately close to hundred and something million dollars every single quarter just on people cost. And then in addition to that, we also have significant amount of leases as an example and operating costs from different buckets travel and entertainment and so on. So, there is different levers we are pulling throughout and just putting a more regular from a cost perspective on our business and reviewing everything in detail that gets reviewed and approved, just putting a delegation authority process in and so on. So, we expect that to happen throughout the year, but it will be towards the later end of the year where you will see a higher margin percentage jump.

[David Kwan, analyst]

And curious on the decision to refi guidance for the full year. You have been providing quarterly guidance. So, should we, how – should we read much into that, or like are you guys seeing better visibility in the business?

[Avjitpal Kamboj, executive]

I think it’s just a matter of us being able to get more and more data internally and being able to forecast, have more detailed budgets, updating forecasts periodically. So, you are absolutely right, more visibility into the business, not only from a revenue perspective, but also from a cost perspective.

[Operator]

Thank you. As there are no further questions, this concludes today’s conference call. We thank you for participating and ask that you please disconnect your line. Have a lovely day.