Earnings Call Transcript - SCSC Q4 2025

Operator, Operator

Welcome to the ScanSource Quarterly Earnings Conference Call. Today's call is being recorded. I would now like to turn the call over to Mary Gentry, Senior Vice President, Finance and Treasurer. Ma'am, you may begin.

Mary M. Gentry, Senior Vice President, Finance and Treasurer

Good morning, and thank you for joining us. Our call will include prepared remarks from Mike Baur, our Chair and CEO; and Steve Jones, our Chief Financial Officer. We will review our operating results for the quarter and the year and then take your questions. We posted an earnings infographic that accompanies our comments and webcast in the Investor Relations section of our website. As you know, certain statements in our press release, infographic on this call are forward-looking statements and subject to risks and uncertainties that could cause actual results to differ materially from expectations. These risks and uncertainties include the factors identified in our earnings release and in our Form 10-K for the year ended June 30, 2025. Forward-looking statements represent our views only as of today, and ScanSource disclaims any duty to update these statements, except as required by law. During our call, we will discuss both GAAP and non-GAAP results and have provided reconciliations on our website and in our Form 8-K. I'll now turn the call over to Mike.

Michael L. Baur, Chair and CEO

Thanks, Mary, and thanks, everyone, for joining us today. We are excited about the growth opportunities ahead for our channel partners and the expanding role of technology distribution. The convergence of IT, connectivity and cloud computing is propelling a shift toward converged solutions that are redefining success in technology distribution. We are the leading technology distributor uniquely positioned to build cutting-edge skills, capabilities and expertise to excel in a connected cloud-driven world. We believe end users face increasing complexity when making technology investment decisions. Because of this complexity, end users are looking to the indirect channel for their technology solutions, given the need for integration and the number of solutions, especially as advanced technologies like AI become part of the solution. Our multiple sales channels are a key competitive advantage for ScanSource, with our suppliers as they seek new routes to market. Our channel partners have different skills and capabilities and for certain opportunities, they will take advantage of additional services that ScanSource can deliver to end users on behalf of our partners. We are building capabilities that end users require and our partners demand in our converging technology ecosystem. This includes an innovative supplier portfolio, financial enablement, expert pre- and post-sales engineering support, powerful tools, marketing support and an exceptional customer experience. Last quarter, we announced the creation of Launch Point, a new business development team that will identify and assist emerging innovative technology growth companies as they are getting ready for channel success. The Launch Point team has an active pipeline of innovative suppliers and has recently signed contracts with companies offering products to enhance our smart warehouse initiative, which includes private cellular networks, robotics, drones and additional IoT solutions. We have channel partners in both segments that have end-user demand for converging solutions that include hardware, software and services. To illustrate with an example, we have a channel sales partner who developed a converged solution for a leading auto parts retailer that bundled wireless connectivity plans with 30,000 mobile computing devices. Our ability to support the converged solution was a differentiator, allowing the partner to win the deal and providing the end user with an improved business outcome. We see hardware plus software plus services convergence as the future of technology distribution. This is the vision for our strategic plan, and the new 3-year strategic goals that Steve will introduce in his remarks. Our goals reflect our confidence in our growth strategy to deliver complex converging solutions for our partner ecosystem that will increase our addressable market. I'll now turn the call over to Steve to take you through our financial results and outlook for fiscal year 2026.

Stephen T. Jones, Chief Financial Officer

Thanks, Mike. Q4 was a strong close to our fiscal year. We delivered on our guidance for revenue, adjusted EBITDA and free cash flow. Net sales returned to growth, and we delivered strong profitability. Net sales for the quarter grew almost 9% year-over-year, while adjusted EBITDA grew 13%, and non-GAAP net income grew 17% over last year. Our Q4 non-GAAP earnings per share of $1.02 grew 27.5% year-over-year. Now turning to our segments. I want to call your attention to additional information that we included in our earnings infographic on our key technologies and growth drivers. I'll start with our Specialty Technology Solutions segment. Net sales increased 9% year-over-year and 16% quarter-over-quarter, with broad-based hardware growth in North America, led by double-digit growth in mobility and barcode, physical security, and managed connectivity. We also benefited from some large deals that were pulled in late in the quarter. We estimate the pull-ins contributed $30 million to $40 million of revenue in Q4. Gross profit followed revenues growing 8% year-over-year, reflecting a higher mix of hardware for the quarter. For the segment, the percent of gross profits from recurring revenues totaled approximately 11%. Segment gross profit margin was similar to last year at 10.3%, while the segment adjusted EBITDA margin was up 35 basis points to 3.6%. In our Intelisys & Advisory segment, net sales and gross profits increased 1% year-over-year, including the positive contribution from our Resourcive acquisition, while adjusted EBITDA for the segment declined 4%, due to increasing investments in SG&A to drive future billings growth and expand our technical capabilities in emerging technologies like AI. Annual end-user billing for Intelisys increased 4.5% year-over-year to bring annualized net billings to approximately $2.8 billion, including double-digit growth year-over-year in CX, which includes UCaaS, CCaaS and AI-enabled CX solutions. This segment operates in a very competitive landscape, as sales models and partner needs evolve. We believe that we have a unique competitive position with the combined capabilities from our businesses in both segments, as we enable the channel model of the future. As we look back on our full year results, we delivered strong profit growth, while facing tough market conditions. Full year net sales totaled just over $3 billion, a year-over-year decline of 6.7%, while gross profits of $408.6 million and adjusted EBITDA of $144.7 million grew by 2.4% and 2.8%, respectively. Gross profit margins increased 120 basis points year-over-year to 13.4%, and adjusted EBITDA margins increased 45 basis points to 4.76%. For the year, recurring revenues represented 32.8% of our consolidated gross profits compared to 27.5% last year. The higher contributions and concentration of netted-down revenues is the primary driver of our improved margins. Non-GAAP net income of $85.1 million is an increase of 9.6% over last year, and full-year free cash flow of $104 million represents a 122% conversion of our non-GAAP net income. Non-GAAP EPS of $3.57 increased by 15.9% year-over-year, including the benefit of share repurchases, which totaled $107 million. Going a bit deeper on our balance sheet and cash flow. We ended Q4 with $126 million in cash and a net debt leverage ratio at approximately 0 on a trailing 12-month adjusted EBITDA basis. Adjusted ROIC for the quarter is 14.9%, and full-year adjusted ROIC is 13.6%. Our Resourcive and Advantix acquisitions completed last August were accretive to both EPS and ROIC for both the quarter and the full-year results. Share repurchases for the quarter totaled $25 million, and we're pleased with the contributions from our two acquisitions and what they bring to our channel capabilities and our strategic plans. We have an active pipeline of acquisition targets for both segments. These targets could expand our capabilities and help us drive additional value across our partner ecosystem, while supporting our strategic goals. As we start our new fiscal year, we think about delivering on our strategic plans, we want to clarify our capital allocation framework. We'll continue to maintain our discipline in evaluating M&A opportunities and believe there's room for both acquisitions and share repurchases, while maintaining a targeted net debt leverage of 1 to 2 times adjusted EBITDA. We want to provide FY '26 full-year outlook, and we believe that the full-year net sales will range between $3.1 billion and $3.3 billion. Full-year adjusted EBITDA will range between $150 million and $160 million, and we will deliver at least $80 million in free cash flow. We also believe that revenue will accelerate in the second half of our fiscal year and expect low single-digit growth for the first half, as we continue to navigate the dynamic macro environment. Our adjusted EBITDA is expected to grow year-over-year and includes investments we believe will help us drive expanding margins. Our free cash flow expectations reflect the confidence we have in our team's ability to manage working capital while taking advantage of growth opportunities. Today, we're also introducing new 3-year strategic goals. Our new goals are included in the infographic that accompanies our earnings release, and our updated investor presentation posted on our website. Our new goals replace our midterm goals we initiated several years ago and successfully delivered. We updated our targets for adjusted EBITDA margin, the percent of gross profits from recurring revenue and ROIC. We've included GP growth as a better metric to represent business growth, and we're introducing a new free cash flow metric. Our goals reflect our confidence in our strategy and the drivers we have to create long-term value for our shareholders. We'll now open it up for questions.

Operator, Operator

And our first question comes from the line of Adam Tindle of RJ.

Adam Tyler Tindle, Analyst

Okay. And congrats on a strong finish to the year-end. I just wanted to start on the midterm targets. I noticed that free cash flow as a percent of net income was included, Steve. I wonder if you could maybe just expand a little bit on why to include that metric. Obviously, I was happy to see it, but just a little bit more on the conversation on including that metric. And if we start doing some math here, based on your current leverage, which is fairly minimal and in the future cash generation, we're going to have quite a bit of cash coming in. I think you mentioned it on there, but if you could just talk a little bit more about the capital allocation priorities with that incremental cash? And then I have a follow-up.

Stephen T. Jones, Chief Financial Officer

Sure, Adam. When we thought about the free cash flow conversion metric for our longer outlook that we provided, we wanted to do two things. One, we wanted to build on the back of what we said before that we were building this cash culture. This, I think, really puts a stake in the ground for us and how we're thinking about the business. We also think this is a key reason why we're very attractive. Our financial position is very attractive is to have this kind of metric and this kind of discipline in generating free cash. When we think about our capital allocation framework, we want to do two things. If you look at the combined set of targets that we have for our 3-year goals, you'll see several things. One is we need to expand our GP. We also are expanding that percent of recurring revenue. That will come through acquisition and faster growth in some of these emerging technologies that we have. But we also think it's important to balance that with returning cash to shareholders when we don't have opportunities to deploy that to help us hit those goals.

Adam Tyler Tindle, Analyst

Okay. Got it. Yes, I wonder if it might make sense at some point to kind of split up and do a percentage of cash flow for shareholder return, or a pie chart or something like that. Is that something you guys would consider?

Stephen T. Jones, Chief Financial Officer

Still early in our ability to generate cash. We think we've gone out here and put some pretty aggressive 3-year goals out there.

Adam Tyler Tindle, Analyst

Okay. That's fair. And maybe, Mike, as a follow-up. Obviously, as we kind of look at the segment results, the Intelisys & Advisory segment has very healthy margin in total and attractive margins. But the adjusted EBITDA, I think you said was down for the year. I just wonder if you might expand a little bit more kind of how you're thinking about that segment strategically. And on a forward basis, I think in the press release, you talked a little bit about investments expected in fiscal '26. I wonder if maybe it's related to that segment or if you could expand on the nature of the investments that you're thinking about?

Michael L. Baur, Chair and CEO

Yes. Sure, Adam. We believe that the opportunity to grow the Intelisys business is substantial. And one of the things that we learned over the last couple of years as we saw the competitive pressures from some of the PE-backed companies, there was a land grab for partners and their business. And along the way, we did everything we could in our old model to retain that. And what we are learning is that we need to do some new things. And a couple of those that we've already invested in last year that really will see the payoff over time is a different partner segmentation strategy to make sure that we're providing the right, I'll call it, mix of services for partners. We tended to treat our partners mostly based just on volume historically, and we've changed that. And under Ken's leadership, our team has added more headcount to focus on strategic partners and a strategic partner for us going forward is a partner that can grow. In the past, we were, frankly, having partners that were earning a lot of resources and taking resources from our teams, but they weren't growing. And so we really are driving a new sales demand strategy around finding the places that growth is happening and putting our resources there. So we've done a significant amount of reorganization within the Intelisys team. And what we've learned is that our partners trust us that we have this level of trust about the simple stuff for us, which is making sure that partners get paid on time and accurately. And we believe that we're still the most attractive distributor for these trusted advisers. But we're also cognizant that we have these private equity-based competitors who are still trying to do a land grab. So we're going to use our balance sheet to better support the growth partners that we believe can drive future opportunities for us. So we're going to invest in some cases, our balance sheet with these partners, and we've talked about this in the past some of our programs. We've got some new names for them, but there's one we call a revenue accelerator program, where we'll invest alongside the partner if they are committed to making sure all of that future revenue comes to us exclusively. So those are the things that we've started in FY '25 that we'll see happen and pay off throughout the year, but we certainly saw in '25 kind of a disappointing growth year because we didn't make these investments in FY '24. So I really believe we've got the right team. We've got the right programs, and we're making the right investments because we still believe this business can grow substantially.

Operator, Operator

Our next question comes from the line of Keith Housum of Northcoast Research.

Keith Michael Housum, Analyst

Congratulations on a strong quarter. I appreciate the additional information and the infographic detailing the businesses and their various segments. Building on Adam's question regarding the Intelisys business, it appears that revenue in that segment has decreased sequentially, which is concerning. I understand there are some competitive challenges, but could you discuss the expectations for this segment as we look toward 2026 and how quickly you anticipate being able to turn it around? Additionally, can you quantify the strategic investments needed this year?

Michael L. Baur, Chair and CEO

Yes, we've been examining this issue for over a year. We recognized the revenue pressure about three years ago due to margin pressures from some private equity-backed competitors who were willing to operate with minimal margins to entice partners to shift from Intelisys based solely on changes in commission splits. Consequently, we had to determine our response. In some instances, we lost partners, but we decided to focus on long-term growth. One significant step we took last year was implementing a new strategy centered around Channel Exchange. This approach was necessary because we needed to bring in new suppliers to foster growth since we hadn't added many significant ones recently. The strategic partners we aim to recruit require suppliers that operate differently from the traditional Intelisys model. The Channel Exchange transaction model allows us to onboard new suppliers, which includes recent additions like Sophos and Trustifi. We believe these are the types of new opportunities that will contribute incrementally to our revenue rather than replacing existing revenue streams. We have a pipeline of additional suppliers on the way. While we know we won't see the results from the Intelisys model as soon as we would like, we are currently securing new orders and deals. For fiscal year '26, we've planned a reasonable growth approach, which includes adding sales resources, financial support, and new suppliers. We expect to be on a significant growth path by the end of '26.

Keith Michael Housum, Analyst

Great. And as we think about the guidance for next year, perhaps maybe some puts and takes on that. Again, come back to adjusted EBITDA guidance you guys gave at the low end of the range, it's only 3% growth, but you at the top end of the range, it's obviously in the double digits. How are you thinking about, I guess, what has to go right, what has to go wrong in order to meet the top and bottom end of your ranges there?

Stephen T. Jones, Chief Financial Officer

Well, Keith, as we were talking about last year, similar to how we're sitting here this year, looking at FY '26, we see the growth coming in the second half. We see a faster growth trajectory coming in the second half as we're still in this kind of choppy tariff and interest rate environment. So the low end of the range, both ends of the range include our investments that we need to make. What Mike was talking about in Intelisys, what we're talking about in our other businesses, we've got investments in that guidance. What we'll do as we go along is we'll throttle those investments to make sure that we manage to that EBITDA margin. And so that's how we're thinking about it. The other thing that can swing through there a little bit is mix. And as we think about the mix, the mix can move around a bit on our EBITDA. And so those are the key things that we're thinking about as we think about that range.

Keith Michael Housum, Analyst

Great. Appreciate it. And maybe just one more for me, if you don't mind. Talking on the 3-year strategic goals, getting your recurring revenue as a driver of gross profits up to 50%, obviously, a pretty massive move considering the 31% you have here in this quarter or so. How much of M&A is part of that is involved in that versus what you guys believe you can do organically? And then if '26 going to be like a rebuilding year for that? Is this really a '27, '28 fiscal year performance?

Stephen T. Jones, Chief Financial Officer

Well, Keith, I'll refer back to what we mentioned in our prepared remarks. We increased our recurring revenue as a percentage of our gross profits from 27.5% to almost 33% for the year. A significant portion of this growth is attributed to our acquisitions, which while not large, have had a substantial impact. Additionally, we anticipate that the advanced emerging technologies will contribute more to our net revenue. This will also aid in our growth. I think Mike has more to add.

Michael L. Baur, Chair and CEO

Yes. Additionally, in the materials we provided, there's a new schedule on Page 12 that illustrates the recurring revenue gross profit and its changes over time. In the specialty technology area, we were at 6.6% back in Q4 of '24, and now we’ve increased to 11%. This aligns with what Steve mentioned about our acquisitions, which may seem small in the context of Advantix and Resourcive, but they can quickly enhance our recurring revenue. As I mentioned in our last call, we have four presidents, each focusing on acquisitions, and they are committed to increasing recurring revenue within their businesses. Therefore, we are optimistic about reaching our goal of 50% by the end of '26.

Operator, Operator

Our next question comes from the line of Gregory Burns of Sidoti.

Gregory John Burns, Analyst

You mentioned some strong, I guess, broad-based growth in the Technology segment. Were there any detractors, though in the quarter?

Stephen T. Jones, Chief Financial Officer

We continue to have a very profitable communications business. While it does not have a significant growth path, it remains very profitable for us and supports the sale of other solutions. I would say this segment is experiencing slower growth. Additionally, you can refer to our infographic, which provides a breakdown of the Specialty Technology segment.

Gregory John Burns, Analyst

Great. And then can you maybe update us on the outlook for Brazil? Any changes there? And what your expectations are for that market?

Stephen T. Jones, Chief Financial Officer

Well, Brazil is an interesting dynamic for us. They're growing in local currency. And they're now getting ready to lap a pretty significant supplier shift out of some channels. And so we like where Brazil is going. We're just going to have to settle through these FX headwinds that we're seeing.

Michael L. Baur, Chair and CEO

And Greg, this is Mike. I want to add that we've been focusing a lot on Brazil lately. I want to remind our investors that Brazil's business model is what we aim to replicate in the U.S. They have been selling a much larger number of cloud-based, recurring products and have been offering converged solutions well before we referred to them that way. In Brazil, we are one of the key players, not just a small distributor, which means we have better access to suppliers compared to some situations we face in the U.S. We are pleased that our business there is profitable, with a highly engaged team that can effectively attract suppliers and communicate the value of ScanSource and our channel, which is still a work in progress in the U.S. We appreciate that business despite the challenging economic and political environment in the country. We have a strong management team that fully understands our goals for expanding our recurring revenue business in the U.S.

Operator, Operator

Our next question comes from the line of Damian Karas of UBS.

Damian Mark Karas, Analyst

Congrats on the progress.

Stephen T. Jones, Chief Financial Officer

Thank you.

Michael L. Baur, Chair and CEO

Yes. Thank you.

Damian Mark Karas, Analyst

So I just have a couple of more specific questions. First, I wanted to ask you about barcoding and mobility solutions and what your expectation is there for that part of the business that you have factored into your fiscal 2026 guidance? And I think typically, like the fourth calendar quarter of the year, so your guys second quarter is when a lot of the larger project activity kind of often consummates for that part of the business. Just curious if you think there might be still larger projects that are fewer in number, comparable level maybe to what you saw last year, or if there's the possibility that there might be a larger project ramp as we kind of get through the end of this calendar year?

Stephen T. Jones, Chief Financial Officer

Yes. Thank you for the question. When we consider the mobility and barcode technologies, we mentioned in our prepared remarks that this was a strong growth area for the fourth quarter. However, we want to note that we are still experiencing some uncertainty in the macro environment, particularly regarding our large deals, making it unclear whether we will see growth in the first half or the second half. Therefore, we need to wait and see when those significant deals will start to materialize. We observed some progress in the fourth quarter, which we were pleased to see, but it is not yet widespread.

Damian Mark Karas, Analyst

Really helpful. And then I guess kind of a new news item in the last month is Zebra acquiring Elo. I was just wondering if you could maybe discuss ScanSource's relationship with Elo? And do you think that transaction potentially changes anything on your side for either of those product categories, barcoding and point of sale?

Michael L. Baur, Chair and CEO

This is Mike. I can address that. We typically avoid commenting on our partners' acquisitions or their strategies specifically. However, I can share insights about our relationships with both companies. We have a long-standing partnership with Elo, and the same goes for Zebra. I frequently discuss their goals with their respective CEOs. Regarding ScanSource, it's worth noting that supplier consolidation usually does not benefit us, unless it leads to the creation of new market opportunities. We're hopeful that this situation will result in new solutions that will be advantageous for ScanSource and our channel partners. We believe there is potential for this to happen. As mentioned in our prepared remarks, we are focused on converged solutions, which involves multiple vendors since no single vendor can supply every component. With Zebra and Elo now working together, there will still be a need for other elements of that solution that we can offer. Any investments they make in retail will be beneficial for us, as we have always maintained a strong retail channel presence. We anticipate that this will lead to new technology at the front end of retail, which aligns with their communication. Overall, we see this as a positive development for ScanSource and our channel partners.

Damian Mark Karas, Analyst

Very interesting. Good luck.

Michael L. Baur, Chair and CEO

You bet.

Stephen T. Jones, Chief Financial Officer

Thank you.

Operator, Operator

I'm showing no further questions at this time. I'll now turn it back to Steve Jones for closing remarks.

Stephen T. Jones, Chief Financial Officer

Yes. Thank you for joining us today. We expect to hold our next conference call to discuss September 30 quarterly results on Thursday, November 6, at approximately 10:30 a.m.

Operator, Operator

Thank you for your participation in today's conference. This does conclude the program. You may now disconnect.