Climb Global Solutions, Inc. Q2 FY2021 Earnings Call

Good morning, everyone, and thank you for participating in today's Conference Call to discuss Wayside Technology Group's Financial Results for the Second Quarter ended June 30, 2021. Joining us today are Wayside's CEO, Mr. Dale Foster; the Company's CFO, Mr. Drew Clark; and the Company's Investor Relations Adviser, Mr. Sean Mansouri with Elevate IR. By now, everyone should have access to the second quarter 2021 earnings press release, which was issued yesterday afternoon at approximately 4:15 p.m. Eastern Time. The release is available on the Investor Relations section of Wayside Technology Group's website at waysidetechnology.com. This call will also be available for webcast replay on the Company's website. Following management remarks, we'll open the call for your questions. I'd now like to turn the call over to Mr. Mansouri for introductory comments.

Thank you. Before I introduce Dale, I'd like to remind listeners that certain comments made on this conference call and webcast are considered forward-looking statements under the Private Securities Litigation Reform Act of 1995. These forward-looking statements are subject to certain known and unknown risks and uncertainties as well as assumptions that could cause actual results to differ materially from those reflected in these forward-looking statements. These forward-looking statements are also subject to other risks and uncertainties that are described from time-to-time in the Company's filings with the SEC. Do not place undue reliance on any forward-looking statements, which are being made only as of the date of this call. Except as required by law, the Company undertakes no obligation to revise or publicly release the results of any revision to any forward-looking statements. Our presentation also includes certain non-GAAP financial measures, including adjusted gross billings and adjusted EBITDA as supplemental measures of performance of our business. All non-GAAP measures have been reconciled to the most directly comparable GAAP measures in accordance with SEC rules. You'll find reconciliation charts and other important information in the earnings press release and Form 8-K we furnished to the SEC yesterday. With that, I'll turn the call over to Wayside's CEO, Dale Foster.

Thank you, Sean, and good morning, everyone. Our strong second quarter results reflect the continued focus and execution of both organic and inorganic growth initiatives. We generated exceptional growth across all of our key operating and financial metrics during the quarter, along with our two acquisitions from the past year that are driving meaningful improvements in the respective geographies and vendor lines. As we've stated before, we have three core initiatives that drive everything we do: Number one, generate organic growth from existing vendors and customers; number two, enhance our line card with addition of new emerging vendors; and number three, execute on our acquisition strategy by utilizing our balance sheet and free cash flow to acquire companies that will be strategic and accretive to our earnings. Within the existing vendor network, we continue to deepen relationships with the sales and marketing teams focused on higher growth products. Our partners continue to recognize our unique ability to actively sell and market their products to channel customers. Spending on security and data center and cloud product lines remain all-time highs, and we plan to continue capitalizing on this market momentum by serving as an effective sales channel for our partners. The depth of our relationships is further reflected by the activity within our top customers and partners. For instance, in 2020, we generated $102 million of gross sales with our top 20 vendors. Today, we generated more than $156 million of annualized gross sales with our top 20, a 50% increase. This truly speaks to the quality of our service offerings and the value we provide to our customers and partners. Although we are pleased with our performance to drive growth within our existing network of vendors and customers, we know there is always room for improvement, and we will continue to seek opportunities to deepen these relationships. Signing up new vendors is also key to ensuring that we have the most compelling list of technologies to offer on our line card. In Q2, we continue to execute on that front as reflected by several new partnership announcements in marquee companies like StorONE and D2iQ. To put some numbers behind the improvements we have made, in 2020, we generated $1 million-plus in net sales with about 30 different customers. Today, we generated over $1 million of sales with more than 42 customers. This is a reflection of both depth and breadth within our customer network and speaks to the proactive sales culture we have implemented across our various business units in Wayside. On the acquisition front, we continue to actively seek strategic opportunities across multiple geographies, while working to drive efficiencies through scale and various operating levers in all divisions of the Company. During the quarter, we rebranded CDF's Sigma software distribution business to Climb Channel Solutions, which brings together two highly respected channel brands servicing the emerging technology market. Sigma and Climb share many vendor relationships, which makes for a seamless integration process with a shared focus on driving growth and efficiencies. As you may have seen, earlier this week, we launched Climb Expedition, our new cloud marketplace designed for MSPs and hybrid VARs to explore and transact with vendors that are moving to a subscription-based model of software delivery. Expedition is a flexible self-service platform that enables our partners to interact more efficiently with clients' slate of technology solutions. Expedition not only benefits our customers, but also benefits our emerging vendors by extending their reach into the MSP community. I look forward to providing future updates on Expedition and how the new marketplace will help distinguish us from our competition. Speaking of the competition, the continued consolidation in the industry provides us with an even greater opportunity to separate Wayside from the pack. In the past year, several of our top players in tech distribution either merged or have been acquired, including Ingram Micro's $7 billion acquisition by Platinum Equity as well as Synnex's merger with Tech Data, which will create a combined company that will generate $57 billion in pro forma annual sales. Companies like these don't offer the boots-on-the-ground, high-tech support that we offer through our distribution and solutions. Emerging technology companies need more than simply supply chain logistics, which is the focus of most large distribution companies. For this reason, Wayside is well positioned to win and differentiate itself in this segment of the market. Before I turn the call over, I want to discuss a few key new additions to the Wayside team. First, we are thrilled to deepen our bench on the Board with the addition of Gerri Gold as a Director. Gerri brings nearly three decades of executive experience to the Board and is currently the Senior Vice President and COO of HPE Financial Services, the IT asset management and financing division of Hewlett Packard, where she oversees $13 billion in assets across more than 50 countries worldwide. We also retained a new Investor Relations firm, Elevate IR, to help improve our communications and awareness within the investment community. Given our improved financial profile and the strong momentum in our business, we felt the time was right to bolster our IR efforts, and we look forward to working with Elevate to engage a broader audience going forward. And finally, in June, we appointed Drew Clark as our new CFO. Drew brings an outstanding track record of driving results for both public and private companies. He most recently served as the COO of Medisolv and has served on multiple public company Boards, including SafeNet and Howard Bancorp. Most importantly, Drew shares our vision of creating a differentiated platform of distribution and solutions for emerging technology brands. He has a keen understanding of the critical work and infrastructure required to take Wayside to the next level. So without further ado, I'd like to introduce everyone to Drew Clark as he takes you through our financial results. Drew?

Dale, thank you for the warm introduction, and I'm absolutely thrilled to be joining the team at such a pivotal time in the Company's history. So let's jump right into our results. I'd like to note that all comparisons and variance commentary referred to the year-ago quarter unless otherwise specified. Net sales in the second quarter of 2021 increased 33% to $75.4 million compared to $56.6 million in the prior period. This reflects both the strong organic growth and the benefit from the acquisition of CDF as well as one month of incremental contribution from Interwork, which was acquired in May 2020. Excluding these acquisitions, we increased net sales by $9.8 million or 17% year-over-year, with CDF and Interwork contributing an estimated $6.9 million and $2 million, respectively. Adjusted gross billings, a non-GAAP measure, increased 48% to $235.1 million compared to $158.7 million in the prior quarter. Again, we experienced strong organic growth of 28% or $45.2 million, with an estimated contribution of $20.9 million from CDF and $10.3 million from Interwork, which reinforces Dale's earlier comments regarding our continued execution of both organic and inorganic growth strategies. Gross profit in the second quarter of 2021 increased to a record 54% or $11 million compared to $7.1 million in the prior period. Again, the increase was driven by organic growth and the benefit of the CDF and Interwork acquisitions. SG&A expenses in the second quarter were $8.5 million compared to $6.4 million, with the increase primarily related to incremental cost from the operations of CDF and Interwork, as well as costs related to investments in our business that we expect will drive continued growth in the quarters and years ahead. These expenses include $2 million from CDF operations and $300,000 related to increased amortization expense, primarily attributable to our acquisition of CDF in November of 2020. $200,000 of employee separation expenses were also part of this increase and core selling expenses associated with the organic growth delivered to the gross profit increases, all of which were offset by last year's non-recurring approximately $500,000 of various expenses, with the defense of the unsolicited bid and $200,000 of acquisition-related costs. As a percentage of net sales, SG&A was 11.3% compared to 11.2%. Net income in the second quarter of 2021 increased approximately fourfold to $2.1 million or $0.49 per diluted share compared to $600,000 or $0.13 per diluted share. Adjusted EBITDA in the second quarter increased 68% to $3.5 million compared to $2.1 million. The increase was driven by the aforementioned organic growth and acquisition benefits as well as strong operating leverage. Effective margin, defined as adjusted EBITDA as a percentage of gross profit, increased 270 basis points to 32% in the second quarter of 2021 compared to 29.3% in the prior quarter. Cash and cash equivalents were $23.8 million as of June 30, 2021, compared to $29.3 million as of December 31, 2020. The expected decrease was primarily driven by timing of cash flows, and it's not an indication of any business or operating trend. The Company remains debt-free with no borrowings outstanding under either our $20 million U.S. or £8 million U.K. credit facilities, both with Citibank. On August 3rd, our Board of Directors declared a quarterly dividend of $0.17 per share of common stock, payable on August 20th to shareholders of record on August 16, 2021. Looking towards the balance of 2021, our strong liquidity position and our operating cash flow continue to provide us with the flexibility to execute on both our organic and acquisition growth strategies. Despite the strong results of our second quarter, we, as a company, still have work to do to achieve our desired levels of growth and profitability. As we look at the balance of 2021, we see ample growth opportunities to capture and look forward to achieving both our short-term and long-term goals, while continuing to build meaningful long-term relationships with our customers and vendor network. This concludes our prepared remarks, so we'll now open it up for questions.

We now have a question from Ed Woo.

Congratulations on the quarter. My question is, what are you hearing from your enterprise customers? Do they feel that the business environment is positive? Or are they concerned about possible upticks in COVID again or people running out of steam in terms of working from home?

Thanks, Ed. I think there's a general optimism in the marketplace from our customers, both enterprise and the wide group of resellers that we support. We definitely see it from our vendors. We talked about returning to the office; our teams are back in on July 6th, so that's all positive. We see the pipeline filling up, which had been dragging in the past, but we're now seeing it in the actual results. So that's a good thing.

Great. And my next question is in terms of M&A opportunities. Are there a lot of opportunities out there and what are you seeing in terms of valuations? In terms of capacity for M&A, do you guys feel that you are ready to take on another acquisition at this time?

Let me start with the balance sheet. We're definitely in a position financially to pursue acquisitions depending on the target. We could consider taking on leverage. As far as targets go, the U.S. has consolidated and there are not many targets there. Western Europe is our focus and we have quite a few on the list. We've engaged with a select group and acquisitions will remain part of our strategy in the near future, similar to what we did with Interwork and CDF. Those were good fits for us. We'll take our time to make the right moves that are strategic and within our lanes. Targets will be in distribution, MSPs, and services-type solutions. You'll see activity in the upcoming quarters and we can discuss it further then.

Our next question comes from Howard Ro.

Congratulations, Dale and Drew, on a great quarter. It's wonderful to see these results. I have two questions. One is about cloud distribution. When you started in 2018, that was a glaring hole—you had no cloud distribution, and you started working on it. I know you had a project and then you acquired CDF, which had the cloud platform. Is that project done? Are you satisfied with it or is there more work to do? And what does that mean for your revenue growth?

The project will never be done when it comes to cloud because providers and models keep evolving—hybrid cloud and how vendors want to transact. We launched Climb Expedition, and the underlying coding is the same one that CDF used; we were heading in that direction before the acquisition, and the acquisition accelerated us. We don't track it separately yet because it's so new in terms of dollars, but vendors are moving to subscription models. They're not moving as fast as Microsoft, which already does monthly subscriptions; others may take 18 months to get there. As they move, you'll see license sales shift from perpetual to subscription. That will change our revenue mix, but it also opens up territories and vendors that are born in the cloud that we couldn't transact with before. So it opens us up to more vendors. We're very new to this area in scale; you'll see us talk more about it in Q3, Q4, and next year we will start discussing the numbers.

That segues into my second question about future growth. I'm paying attention to adjusted gross billings, which captures all product movement. It's up 48% year-over-year and up 12% sequentially, and you're approaching $1 billion in adjusted gross billings. From that, gross profit is around 5% of adjusted gross billings. That kind of growth rate isn't sustainable for many companies when already at this size. Where do you see the potential—are you at the beginning, middle, or later stages of that growth? What's the potential market for the overall business?

On a macro level, there's a lot of headroom. The smaller large competitors like ScanSource and the bigger ones are in the billions, and consolidation has happened. We tell investors we can double in size and still be effective in the market. We're being disruptive to some competitors in certain divisions. There are many vendors—over the last three years we've reviewed about 500 vendors and signed only about 50. That's over 100 a year reviewed. We have a full recruiting team and continue to bring vendors in. For our top 20 vendors, we didn't have relationships with many of them 18 months ago. It's about bringing vendors in, growing with them, and servicing them. Some of our portfolio companies have grown significantly with us. We'll focus on adding vendors, growing them, keeping them as long as possible, and providing strong service. We will jettison lower-margin products when appropriate. To bolster margins, we add more services; we've already started doing that with the CDF group and will bring some of that to the U.S.

Our next question comes from Walter Ramsley.

Congratulations. Super quarter. Question about the tax rate that was down a little in the quarter. Can you give us an idea of what it should look like for the second half and maybe for the full year?

Walter, the effective tax rate is slightly lower than historical trends predominantly due to our CDF acquisition and some of the European tax rates when you factor in the various component parts thereof. That has lowered our overall effective tax rate. We expect to be around 22.1% to 22.2% for the balance of the year and year-end overall.

Okay. That sounds good. And SolarWinds has had their problems. Has that spilled over into your business? Could you talk about that a little?

We discussed this in Q1 because it was affecting us. We've doubled down with SolarWinds. They've been a great partner and we've spent time with their team in Austin as everyone gets back to the office. We saw some recovery in Q2 and continue to see improvement. They split off an MSP division called N-able, and we've signed a contract with them, so we'll have a twofold approach with legacy SolarWinds and going forward with N-able. They're retooling how they go to market with their monitoring tools, so I expect to see some exciting developments coming into Q4. Similarly, Sophos had soft quarters and has now had strong quarters after announcing new firewalls, which boosted their sales this quarter.

We have no further questions at this time. I will turn the call over to Dale Foster for final remarks.

Thanks, operator, and thanks to all the shareholders. I appreciate your support. We'll continue to reach out to the investor community and keep updating on what we're doing. If you have any requests, please connect with Sean. Thanks to the Board of Directors—our Board has a refreshed composition and we had great meetings this week. Thanks to the employees; everybody's back and charging strong. I appreciate it and thank you, everybody, again.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating. You may now disconnect.