Eplus Inc (PLUS) Q1 2022 Earnings Call Transcript

Good day, ladies and gentlemen. Welcome to the ePlus Earnings Results Conference Call. As a reminder, this conference call is being recorded. I would now like to introduce your host for today's conference, Mr. Kley Parkhurst, Senior Vice President. Sir, you may begin.

Thank you for joining us today. On the call is Mark Marron, CEO and President; Elaine Marion, CFO; Darren Raiguel, COO and President of ePlus Technology; and Erica Stoecker, General Counsel. I want to take a moment to remind you that the statements we make this afternoon that are not historical facts may be deemed to be forward-looking statements and are based on management's current plans, estimates and projections. Actual and anticipated future results may vary materially due to certain risks and uncertainties detailed in the earnings release we issued this afternoon and our periodic filings with the Securities and Exchange Commission, including our Form 10-K for the year ended March 31, 2021 and our Form 10-Q for the quarter ended June 30, 2021 when filed. The company undertakes no responsibility to update any of these forward-looking statements in light of new information or future events. In addition, during the call, we may make reference to certain non-GAAP financial measures and we've included a GAAP financial reconciliation in our earnings release, which is posted on the Investor Information section of our website at www.eplus.com. I'd now like to turn the call over to Mark Marron. Mark?

Thank you, Kley, and thank you, everyone, for participating in today's call to discuss our results for the first quarter of fiscal 2022. We had a great start to our fiscal year as net sales of adjusted gross billings growth underscore robust customer demand for our technology and finance solutions. More importantly, this quarter continued to show the scalability and efficiency of our operating model as strong top line growth fueled healthy operating income and net earnings growth. Our first quarter consolidated net sales increased 17.4% from the prior-year period, with operating income growing 29.8% and net earnings growing 35.5%. In addition, adjusted gross billings rose 15.9% year-over-year to $633 million. These results reflect demand for our solutions, a substantial rebound in the IT markets and our continued focus on expense management and investments that enhance our operating efficiency. Our strong first quarter financial performance benefited from balanced revenue growth for product sales and services. In our technology segment, sales were up 17.3%, driven in part by strong growth in the enterprise market and additional land and expand contract wins with high volume customers. Although our technology segment gross margins decreased from last year, due to product and customer mix along with a lower gross to net adjustment, our overall results highlight the positive operating leverage in our model as segment operating income was up 43.9%. Services revenue grew 16.3% in the first quarter, with gross margins of 39%, up 140 basis points from last year's first quarter. During the first quarter, we experienced solid growth in both professional and managed services, driven in part by continued strong demand for secure and flexible hybrid work models to accommodate remote workforces. This increased growth in the remote workforce is positive for ePlus, accelerating customer cloud adoption and the provision of cloud services. We had several key cloud and security-related contract wins during the quarter, underscoring market demand for our capabilities in these areas. One innovative example of this is where we worked with a healthcare provider who leveraged our cloud-hosted infrastructure to use a solution that analyzes and detects if a digital medical image of a mole is cancerous. We also saw a solid uptick in annuity service bookings in Q1 versus last year and continued to add to our annuity quality revenues. In addition, the recurring annuity-type revenue generated by our services business will enhance both the predictability and visibility of our revenue stream. Security remains a critical area of customer focus and investment. Our consultative approach to designing and implementing comprehensive security solutions helps safeguard our customers' data and mitigate the present security risks. Security represents 20.8% of our trailing 12-month adjusted gross billings and almost $500 million on a standalone basis, reflecting its significance within the total solutions approach we bring to customers. The pandemic has shifted applications and users beyond their traditional environments. We continue to innovate, invest and help our customers go beyond their traditional cybersecurity methodologies to optimize environments and introduce new technologies that are purpose-built for securing a remote workforce and applications deployed across multiple clouds. As the global economy moves beyond 2020 and into a post-pandemic environment, businesses are quickly adapting to the new normal, a process that involves reassessing previously implemented remote workforce solutions and network infrastructure to ensure that current IT systems and technology roadmaps can adapt with agility to both present and future IT challenges. To help our customers succeed in this new environment, ePlus developed an innovative suite of services and solutions, called Navigate the Next. Our solutions specifically address and help solve the three most pressing IT challenges now faced by our customers. First, as employees return to the office, even on a part-time basis, their health and safety remain of paramount concern. Through our partnerships with leading technology vendors, we offer innovative return to the workplace solutions to assist enterprises in monitoring physical distancing and providing safe working conditions. Second, enterprises and organizations seek more efficient management of current IT project expenses, coupled with the longer-term strategy for funding future technology products. Our expense management offering solves these needs through cloud cost optimization services, Carrier Expense Management and strategic financing programs. And third, as remote and hybrid work has become commonplace, businesses now more than ever require robust and scalable platforms to maintain business continuity with their dispersed workforce. To address this challenge, we developed an approach based on hybrid cloud virtual desktop infrastructure that offers significant cost, performance, and security advantages over existing solutions. We've been pleased by the positive market response to our Navigate the Next suite of solutions, which represents just one example of how our investments in technology and resources enable ePlus to stay at the forefront of dynamic market trends and further strengthen our position as a trusted partner to our more than 3,500 customers. Turning now to our financing segment, net sales grew 18% in the first quarter compared to the prior-year period, primarily due to increased sales of off-lease equipment. Although the financing segment's results can be lumpy from quarter to quarter due to the timing and size of transactions, this business provides a unique point of differentiation for ePlus as our lease and financing options offer our customers flexibility in managing their IT budgets. With an acceleration in IT spend more than expected this year, our financing segment is seeing strong interest from a variety of customers. From a capital allocation standpoint, the strength of our balance sheet enables us to pursue strategic acquisitions and fund organic growth initiatives. As we move forward, we will continue to identify and evaluate potential acquisition candidates that not only broaden our geographic presence but also enhance our capabilities and participation in high growth markets. Looking ahead to the balance of our fiscal year, we're encouraged by the fundamental health of our markets and the strength of customer demand for our services and solutions. With the global economy reopening and IT spending accelerating, the outlook for ePlus remains positive, particularly in our areas of focus of security, data center, cloud and digital infrastructure. As I noted last quarter, disruptions in the electronic supply chain continue to cause component shortages. And while this did not materially affect our first quarter results, we recognize the potential for some revenue headwinds as we move through our fiscal year. In addition, the emerging COVID variants and the possibility of a delayed return to work and/or government mandates could adversely affect our future performance. We remain well positioned for continued growth in fiscal 2022, supported by the strength and breadth of our customer relationships and our strategic partnerships with leading vendors across the IT ecosystem and our comprehensive portfolio of transformative technology solutions. I will now turn the call over to Elaine Marion, our CFO, to walk you through our financial results in more detail. Elaine?

Thank you, Mark, and thank you, everyone, for joining us today. We are pleased with our strong fiscal 2022 first quarter performance. Our consolidated net sales for the first quarter were $416.6 million, a 17.4% increase from the $355 million reported in last year's first quarter. In our technology segment, revenue was up 17.3% to $400.4 million compared to $341.2 million in last year's first quarter, reflecting robust growth in both product revenue and service revenue of 17.5% and 16.3%, respectively. We are also very pleased with the continued sequential increase in service revenue over the past five quarters, resulting from our ongoing efforts to emphasize our managed services. Our robust top line performance underscores strong demand for our diverse portfolio of solutions that are well aligned with customer needs. Adjusted gross billings increased 15.9% to $633 million from $546.4 million, benefiting mainly from organic growth which constituted approximately 80% of the growth coupled with contribution from the SMP acquisition we completed on December 31, 2020. The adjusted gross billings to net sales adjustment was 36.8% compared to 37.5% in last year's first quarter. This continued to trend higher relative to 33.3% on a trailing 12-month basis. Our financing segment was up 18% to $16.3 million, mainly due to increased sales of off-lease equipment of $5.1 million, up from $3.9 million last year. The results for our financing segment tend to be uneven from period-to-period. Our consolidated gross profit increased 7.1% to $105.5 million from $98.6 million, while consolidated gross margin was 25.3% compared to 27.8% last year. Technology segment gross profit increased 9.9% to $95.4 million, while the gross margin of 23.8% declined 160 basis points, mainly as a result of lower product margin due to competitive pressure from enterprise customers and our lower proportion of sales of third-party maintenance and software subscriptions in the first quarter. Services margins expanded 140 basis points to 39% due to growth in our service offerings. The financing segment's gross profit decreased 14% due to higher sales of off-lease equipment, which yielded lower margins. Consolidated operating expenses decreased 0.7% to $73.1 million consistent with last year and the prior sequential quarter. Our total headcount at the end of June 2021 was 1,547, an increase of 0.7% compared to 1,536 in the year ago first quarter and 0.8% below last quarter's level. Operating income increased 29.8% to $32.5 million. Our effective tax rate for the quarter decreased to 27.8% from 30.8% last year. For the year, we expect our tax rate to be between 28% and 30%. Consolidated net earnings of $23.5 million were $1.75 per diluted share or up 35.5% and 34.6%, respectively from $17.4 million or $1.30 per diluted share in last year's first quarter. Non-GAAP diluted earnings per share increased 29.8% to $1.96 per diluted share compared to $1.51 per diluted share year-over-year. Adjusted EBITDA was up 24.6% to $38.3 million. Our diluted share count totaled $13.44 million compared to $13.39 million in the prior-year quarter. Now, looking at our end markets in our technology segment on a trailing 12-month basis. Telecom, media and entertainment, and technology continued to be our largest markets representing 27% and 16% of segment net sales, respectively. SLED, Healthcare and Financial Services followed, accounting for 15%, 13%, and 12%, respectively, with the remaining 17% distributing among several other customer types. Moving to the balance sheet, we ended the quarter with $93.8 million in cash and cash equivalents compared to $129.6 million at the end of March. As a reminder, we have approximately $161 million in our financing portfolio and a portion of that could be monetized if the need for additional capital arises. Inventory levels increased sequentially 11.1% to $77.8 million. Inventory levels vary with ongoing customer projects. Our cash conversion cycle at the end of the first quarter was 32 days up from 30 days in the year-ago quarter and down from 37 days in the March period. We continue to actively monitor the effects of COVID-19, the vaccine rollout and the spread of the new variants on our business and footprint. We also remain committed to seeking new investments either organically or through acquisitions to advance our positioning. We began fiscal 2022 with strong fiscal quarter results, which bolster our outlook, given solid demand and positive trends in the market for our solutions and services. In addition, we closed several outside transactions in our financing business in July 2021, which we estimate will contribute $0.32 to $0.37 per diluted share in our second quarter. Against this favorable backdrop, we continue to monitor the potential negative impacts from product shortages in our industry.

Thanks, Elaine. We are off to a great start in fiscal 2022 and I'd like to thank the entire ePlus team for their continued dedication and hard work in achieving our positive first quarter results. We continue to execute well on our growth strategy, and as the global economy continues to reopen, we see numerous opportunities to expand our participation in higher growth areas. As always, we will continue to work closely with our customers to be their partner of choice for delivering comprehensive lifecycle IT solutions. In summary, the fundamental outlook for ePlus remains strong, and I am excited about our opportunities this year and beyond. Operator, I'd now like to open the call for questions.

Your first question comes from Maggie Nolan with William Blair. Your line is open.

Hi, thank you. I'm wondering, Elaine, how are you balancing your expectations for the next couple of quarters given the increased product sales you've seen alongside the expected shortages and supply chain issues you've mentioned?

Really good question, Maggie. So firstly, if you look at the quarter, we feel pretty good about the quarter overall, the metrics were up across all of the key areas from top to bottom. We've also seen that our open orders were up significantly, almost 32% over last year, and backlog in our services was up. So all kind of key metrics we look at are all very good. As it relates to the shortage, this past quarter, it was still in play and we saw a minimal effect. It did affect our quarter, where some things were pushed out due to lead times. I give credit to our teams, Darren, our COO and Elaine, our CFO did a great job with their teams making sure that we worked closely with the customers and the vendors on getting the products out that the customers or solutions that our customers needed. There's still some uncertainty around the lead times and a lot of the experts are saying it's going out to next year. But right now, we feel pretty good about where we are in the quarter so far, the pipeline and some of the metrics overall. But there is always that uncertainty as it relates to some of the shortages that are beyond our control.

Okay. Thanks, Mark. And then on the financing offering, can you give us an update just the latest update on credit quality of your customers, how you're assessing risk particularly for those receivables that are not assigned to third parties?

Yes, sure. This is Elaine. We are continuing in our standard process of evaluating our lessees. We've been doing it for years and have a pretty robust process in place to evaluate the credit quality of our lessees. Our exposure is actually down this quarter from the previous quarter. So there's really no change, Maggie, in how we approach the credit quality process in our customer base.

Okay. Thank you.

Sure.

No problem, Maggie.

And your next question comes from Matt Sheerin with Stifel. Your line is open.

Yes, thank you. Good afternoon, everyone. My first question is regarding the leasing transactions you mentioned, which represent an incremental 32% to 37%. How should we view that? Is it primarily a gross profit increase in that business, meaning you expect to gain a few million dollars?

Yes, that's a fair point. Matt, a couple of things to clarify. It wasn’t a percentage; it was actually cents. As we’ve mentioned before, our finance business is somewhat inconsistent. Much of our revenue comes from transaction gains, which are net of all costs except taxes. This quarter, we had several significant deals that we deemed material and planned to announce, occurring in July during Q2. So, yes, in response to your question, that's exactly how it's going to unfold.

Okay, great. Regarding the decline in gross margin in the tech segment, you mentioned experiencing some pricing pressure at the customer level. Could you provide more details on that? Additionally, for the September quarter, I understand that typically there is an improvement in gross margin due to an increase in warranty and third-party maintenance contracts with your largest vendor. Should we anticipate a quarter-on-quarter improvement in gross margin?

Thank you, Matt. I'll summarize what occurred this quarter. Several factors influenced our gross margins. First, the gross to net was lower, affecting the margins. Our product margins were slightly below the typical level, primarily due to our land and expand initiatives, which usually have lower margins initially, although we aim to demonstrate value over time. Additionally, our enterprise business saw significant growth, with customers of a thousand employees and above increasing by 28%. Typically, enterprise margins are tighter. On a positive note, our service margins improved by 140 basis points, thanks to an increase in our annuity services revenues, which we expect to continue to grow both in revenue and margins as we develop those annuity services further. Regarding the gross to net, we generally anticipate an increase in July due to the fiscal year-end, but it's challenging to provide a precise figure right now. I do expect it to be higher compared to last year, contributing positively to gross margins, although I cannot specify the exact amount, and I don't anticipate a dramatic increase.

Got it. And then, just in terms of the upside that you saw last quarter. I mean the momentum you have going and what do you attribute that to, if you're just customers finally they get back to the office, they're seeing more pent-up demand projects that have to be done. What do you account for that big uptick that you saw?

Yes. There are several factors at play here. First, demand for our solution is strong. We are seeing many customers require what we're offering across various areas, including transitioning back to the workforce, managing costs, securing long-term funding for previously postponed projects, and developing remote and hybrid solutions. Additionally, there seems to be a slight rebound in the IT market, which we have noticed. Our growth has continued across our four main sectors: data center and cloud, networking, security, and collaboration, all of which saw growth in both the quarter and over the past year. Specifically, security grew by 19% year-over-year for the quarter and now represents 20.8% of our trailing 12 months, nearing a $500 million business. The key takeaway is our diverse customer base, our tailored solutions for their needs, and consistent growth across each of our solution areas.

Okay. My last question is about your headcount. It seems to have remained stable, yet you're experiencing good growth. Last year, I remember that on the services side, your employee numbers had decreased compared to your customer base. Are you increasing your headcount again, and are you facing any challenges in finding candidates due to the labor shortages we've been hearing about?

Yes. So a couple of things there, Matt. Yes, we're going to continue to invest in headcount because we believe we can continue to expand our reach and our solutions so we will continue to look for headcount. It's a little bit tougher in the market from both a recruiting and retention standpoint. Yes, it's a fairly competitive market, and people being able to work remotely has put an interesting dynamic. We do have an internal recruiting team though that does a really nice job finding the resources we need both on the sales and services side; so all goodness there. On the services side, just to add to it Matt, that's pretty interesting. So one, our services were up 16.3% this quarter year-over-year, and that's attributable to a lot. PS getting on-site is still a little bit tight as we have talked about. But what's interesting now is staffing has started to pick up where our customers are looking for, as the hiring market is a little tighter, they are looking for us to help them get up to speed as they return to work. We're also seeing customers that need help with what we call our on-demand jumpstart program where if you think about a lot of customers have been working from home and will now get back into the office. So a lot of their technology has been sitting idle. So we kind of go in and do identify test, remediate their technology, both with local resources at our call centers. So we're starting to see some pickups and staffing and that on-demand services. And our annuity services are total contract value in Q1. Year-over-year, it was actually up 80%. So a lot of the services business we've been saying we've been trying to build out is actually moving in the right direction even in these times.

Okay, that's very helpful. Thanks a lot.

All right. See you, Matt.

Your next question comes from Greg Burns with Sidoti. Your line is open.

Just following up on that. The last question in terms of headcount and investing in more customer-facing resources. The left and really the strong last few quarters, maybe some of that is conservatism. And then, obviously, demand is picking up here. So how should we think about operating leverage, operating margin targets moving forward?

Okay, Greg, you were a bit unclear, but I believe you asked about our expectations for operating leverage moving forward. Overall, we've managed to achieve some operating leverage due to the pandemic, particularly since travel and entertainment expenses are down. We have effectively realigned our ePlus employees to focus on areas that are vital to our customers in this new environment, which has helped boost our net sales and AGB while keeping headcount stable. That said, I anticipate that we will continue to hire both sales and services staff, as I see a strong opportunity to capture additional market share in the future. Thus, I believe the operating expenses from this past quarter serve as a reasonable benchmark for us. Over time, our headcount is likely to increase slightly as we expand in certain focus areas, as I believe we can sustain growth in those segments.

Okay, thanks. In terms of the conversations you're having with your customers, has there been any change considering the recent resurgence we're seeing in COVID? Are they becoming more cautious about their outlook?

No, I haven't heard it yet. I think we just got the news. I think today with the mandate for the mask again coming back in, I think everybody's been accustomed to doing a lot of the virtual remote kind of calls, if you will. I've done many, many in terms of calls myself on video with customers and they seem very open to it and they've adapted fairly well to it as we walk through our solutions or trying to help them with what they need. So, I don't think we'll see much of a change than what we've seen over the past year, to be honest Greg. I think the big thing that a lot of customers are trying to figure out is the lead times on some of the supply chain stuff. So, I think they all need solutions where they're looking to upgrade their solutions or maybe jump-start some of the stuff that they wanted to do, but didn't do in the last year and they're trying to figure out what is the right solution and then what's the lead time in order to get that in.

Okay, great. Thank you.

All right, Greg. Thanks.

All right. There are no further questions at this time. I will now hand the call back to the company.

Okay. The company says, thank you. And if I could thank everybody for attending today, we appreciate it and look forward to seeing you or hearing from you on the next quarterly earnings call. Take care and be safe. Thank you.

This concludes today's conference call. Thank you for your participation. You may now disconnect.