PC Connection - Earnings Call - Q1 2025

Executive Summary

• CNXN delivered Q1 2025 net sales of $701.0M (+10.9% y/y), GAAP diluted EPS of $0.51 (+2% y/y), and adjusted diluted EPS of $0.60 (+20% y/y). Revenue and EPS were driven by double‑digit growth in notebooks/desktops and datacenter modernization; gross margin compressed 50 bps to 18.2%.
• Strong estimate beat: Q1 2025 revenue beat consensus by ~8.5% and “Primary EPS” (S&P’s tracked EPS) beat by ~45% on adjusted basis; GAAP EPS of $0.51 also exceeded typical expectations. The Board raised the quarterly dividend to $0.15 and added $50M to the buyback, lifting authorization to $170M (about $50.5M available post increase).
• Segment highlights: Public Sector +54.7% y/y (federal +$40.1M) at lower margin due to large project rollouts; Enterprise +5.4% y/y; Business Solutions +1.0% y/y with margin expansion of +170 bps.
• Management cited backlog at a near two‑year high, tariff timing driving mixed customer behavior, and AI PC momentum as catalysts for 2025; they aim to outperform U.S. IT market growth by ~200 bps and see mid‑ to high single‑digit top‑line growth for 2025.

What Went Well and What Went Wrong

What Went Well

• Devices and modernization drove growth: “double digit growth for digital workplace solutions… as well as double-digit growth for datacenter modernization” contributing to adjusted EPS +20% y/y.
• Segment execution: Business Solutions margin expanded 170 bps to 25.3% on favorable customer/product mix; Enterprise advanced technologies up 8% y/y; Public Sector revenue up 54.7% (federal +$40.1M).
• Strategic capital return: dividend raised to $0.15 and buyback authorization increased by $50M to $170M; 697,069 shares repurchased for $44.8M in Q1.

What Went Wrong

• Margin compression: consolidated gross margin fell 50 bps to 18.2%; Public Sector margin declined 240 bps to 13.6% due to lower‑margin large rollouts; Enterprise margin down 90 bps to 14.2%.
• Operating cash flow used: -$52.4M in Q1 as inventory was staged ahead of anticipated tariffs (+$56.7M) and accounts payable declined (-$27.0M).
• Tariffs and macro uncertainty: uneven demand as some customers accelerated purchases ahead of tariffs while others delayed spend; management highlighted suppliers’ limited ability to rapidly reconfigure supply chains.

Transcript

Samantha Tracy (Head of Investor Relations)

Thank you, Operator. Good afternoon.

Operator (participant)

Good afternoon, everyone. Welcome to the first quarter 2025 Connection earnings conference call. My name is Dee Dee, and I will be the coordinator for today. At this time, all participants are in listen-only mode. Following the prepared remarks, there will be a question-and-answer session. As a reminder, this conference call is the property of Connection and may not be recorded or rebroadcast without specific permission from the company. On the call today are Tim McGrath, President and Chief Executive Officer, and Tom Baker, Senior Vice President and Chief Financial Officer. I will now turn the call over to the company.

Samantha Tracy (Head of Investor Relations)

Thank you, Operator. Good afternoon, everyone. I will now read our cautionary note regarding forward-looking statements. Any statements or references made during the conference call that are not statements of historical fact may be deemed to be forward-looking statements. Various remarks that management may make about the company's future expectations, plans, and prospects constitute forward-looking statements for purposes of the safe harbor provisions under the Private Securities Litigation Reform Act of 1995. Actual results may differ materially from those indicated by these forward-looking statements as a result of various important factors, including those discussed in the risk factor section of the company's annual report on Form 10-K for the year ended December 31st, 2024, which is on file with the Securities and Exchange Commission, as well as in other documents that the company files with the Commission from time to time.

In addition, any forward-looking statements represent management's view as of today and should not be relied upon as representing views as of any subsequent date. While the company may elect to update forward-looking statements at some point in the future, the company specifically disclaims any obligation to do so other than as required by law, even if estimates change. Therefore, you should not rely on these forward-looking statements as representing management's views as of any date subsequent to today. During this call, non-GAAP financial measures will be discussed. A reconciliation between any non-GAAP financial measure discussed and its most directly comparable GAAP measure is available in today's earnings release and on the company's website at www.connection.com. Please note that unless otherwise stated, all references to first quarter 2025 comparisons are being made against the first quarter of 2024.

Today's call is being webcast and will be available on Connection's website. The earnings release will be available on the SEC website at www.sec.gov and in the investor relations section of our website at www.ir.connection.com. I would now like to turn the call over to our host, Tim McGrath, President and CEO. Tim.

Timothy McGrath (President and CEO)

Thank you, Samantha. Good afternoon, everyone, and thank you for joining us today for Connection's Q1 2025 conference call. I'll begin this afternoon with an overview of our first quarter results and highlights of our performance. Tom will then walk us through a more detailed look at our financials. Our team remained focused on delivering extraordinary value through integrated IT solutions and customer service. This resulted in consolidated net sales of $701 million, an increase of 10.9% in the first quarter. We delivered a solid start to 2025 in a dynamic macroeconomic environment. The quarter was characterized by some customers accelerating purchases in an attempt to minimize the impact of tariffs, while others elected to delay purchases due to uncertainty with respect to the near-term economic environment. Gross profit increased by nearly 8% to $127.3 million, while gross margins were down slightly to 18.2%, 50 basis points below last year.

As predicted, our mix shifted towards notebooks and desktops as customers executed on their device refresh initiatives. We continued our focus on driving internal efficiencies and reducing costs, resulting in operating income of $14.5 million in Q1, an increase of 7.9% compared to Q1 2024. Operating income as a percentage of sales remained flat at 2.1% year-over-year, although operating income excluding severance expense was $17.5 million, an increase of 29.6%. Operating income excluding severance expenses as a percentage of sales was 2.5%, an increase of 40 basis points. Net income was $13.5 million, an increase of 2.5% compared to $13.2 million in the prior year quarter. In Q1 2025, our diluted earnings per share was $0.51, an increase of 2% from $0.50 in Q1 2024. However, adjusted diluted earnings per share was $0.60, an increase of 20%.

In Q1, notebooks and desktops net sales increased 21% year-over-year and were up 7% on a sequential basis as a result of customers moving forward with their device refresh initiatives. Revenue for advanced technologies and integrated solutions increased by 7%, propelled by sales of software and server storage solutions. Customer priorities around data center refresh, server consolidation, and edge computing are gaining momentum. We'll now look a little deeper into our segment performance. In our business solution segment, our Q1 net sales were $258.4 million, an increase of 1% compared to the prior year. Our gross profit, which we believe is a better indicator of our performance, increased by 8.4% to $65.4 million compared to the prior year. Gross margin increased 170 basis points compared to the prior year quarter to 25.3%. Gross margins were favorably affected by both customer and product mix.

In our public sector solutions business, Q1 net sales were $144.6 million, 54.7% higher than a year ago. Sales to the federal government increased by $40 million, while sales to state and local government and educational institutions increased by $11 million. Gross profit for the public sector segment was $19.6 million, an increase of 30.9% compared to Q1 2024. Gross margin decreased by 240 basis points to 13.6% for the quarter compared to the prior year. The revenue increase and margin decline resulted from a few large project rollouts in Q1 2025 that were at lower-than-average margins. In our enterprise solution segment, Q1 net sales grew 5.4% to $298 million compared to last year. Our strategy to deliver enterprise solutions is taking hold as we drove an increase of 8% in advanced technologies. Gross profit for the enterprise segment was $42.3 million, 1% lower than the prior year.

Gross margin decreased by 90 basis points to 14.2% for the quarter. The margin decrease was a result of the expected lower license fees from enterprise agreements. I'll now turn the call over to Tom to discuss additional financial highlights from our income statement, balance sheet, and cash flow statement. Tom?

Tom Baker (SVP, CFO and Treasurer)

Thanks, Tim. In the first quarter, SG&A increased by 5% over the prior year. The increase in SG&A was primarily due to an increase in variable compensation due to higher levels of gross profit in the quarter. On a percentage of sales basis, SG&A decreased 88 basis points to 15.7% of net sales in the quarter compared to 16.6% in the prior year quarter. In the first quarter of 2025, we continued our initiative to reduce our cost structure. As a result, we recorded a charge of $2.9 million for severance expenses associated with internal cost reduction activities. Currently, we expect these actions to result in approximately $5 million of net annualized savings split evenly between SG&A and cost of goods sold. Interest income for Q1 amounted to $3.9 million compared to $4.6 million last year, a decrease of $664,000. Our effective tax rate was 27.1%, up from 27%.

Net income for the quarter was $13.5 million, an increase of 2.5% from $13.2 million in the prior year quarter. In Q1 2025, diluted earnings per share was $0.51, an increase of 2%. Adjusted diluted earnings per share was $0.60, an increase of 20%. Our trailing 12-month adjusted earnings before interest, income taxes, depreciation, and amortization, or adjusted EBITDA, was $123.1 million compared to $120.3 million a year ago. In the first quarter, we paid a $0.15 per share quarterly dividend. In addition, we significantly increased the activity under our share buyback program. We purchased 697,000 shares at an average price of $64.22 per share for a total cost of $44.8 million. This represented 2.7% of shares outstanding at December 31st, 2024. At the end of the quarter, we had $14.9 million remaining for share repurchases under our existing stock repurchase program.

As we announced earlier today, our board of directors authorized an additional $50 million to be added to our existing share repurchase program as we consumed virtually all of the buybacks previously authorized in the month of April. As of today, we have 25.4 million shares outstanding, a decrease of 3.4% from December 31st, 2024. Today, we also announced that our board of directors declared a quarterly dividend of $0.15 per share. The dividend is payable to shareholders of record on May 13th, 2025, and payable on May 30th, 2025. Cash flow using operations for the first quarter of 2025 was $52.4 million, primarily driven by an increase in inventory of $56.7 million and a decrease in accounts payable of $27 million.

These outflows were partially offset by $13.5 million in net income and an increase in accrued expenses and other liabilities of $7.8 million and a decrease in accounts receivable of $7.1 million. The increase in inventory was a result of our decision to stage inventory for both daily customer needs and rollouts in advance of anticipated price increases resulting from tariffs. Our accounts payable balance decreased $27 million for the first quarter of 2025, largely due to the timing of payments. Cash generated from investing activities of $104.7 million was a result of $108.8 million of proceeds from the sale of investments and $50 million of investment maturities, offset by $52.4 million of investment purchases. We used $48.2 million of cash for financing activities during the first quarter of 2025, primarily for repurchases of $43.7 million of stock and payment of $3.9 million of dividends to shareholders.

We ended Q1 with $340.3 million of cash, cash equivalents, and short-term investments. When we are thinking about capital allocation, we remain committed to growing the business and have an ongoing program focused on investing in inorganic opportunities and organic growth programs. I will now turn the call back over to Tim to discuss current market trends.

Timothy McGrath (President and CEO)

Thanks, Tom. Reflecting on the quarter, we executed well against our strategic plans as evidenced by our Q1 results. In fact, our performance has been recognized by our partner community as we've been the recipient of several awards, including Intel's AI PC Partner of the Year, HP Inc's US Print National Solution Provider of the Year, HP Inc's U.S. Commercial Supplies Partner of the Year, and finally, Samsung's Display Partner of the Year. Shifting to our vertical market performance, financial services net sales increased 32% and gross profit 31% year-over-year. Our healthcare team grew net sales by 13% and gross profit 10% year-over-year. As we look across the evolving technology landscape, we are seeing strong momentum in the AI PC space. Entire application layers are being built around AI-capable PCs, creating tailwinds for refresh cycles across enterprise and commercial markets.

This transformation is driving two consistent themes: AI trust and AI return on investment. They are now at the forefront in decision-making for every AI deployment. Trust in AI systems around security and compliance is a gating factor. Similarly, the ability to measure and defend return on investment is shaping AI adoption curves. Both areas are core focus points for our Connection Helix organization, and we're investing in building frameworks, playbooks, and advisory capabilities to lead these conversations. Looking to the future, there's much speculation about near-term economic conditions. We remain confident in our ability to outperform the market and take market share. We're encouraged by several emerging trends that reinforce our positive outlook, including continued momentum around device refresh, compelling business cases for data center modernization, customer initiatives to implement AI technology to drive return on investment, momentum in edge computing and AI PCs as data becomes increasingly distributed.

Our pipeline of opportunities continues to grow. Finally, our backlog at the end of Q1 was at its highest level in nearly two years. We anticipate that 2025 will outperform the results we saw in 2024. Because of this confidence in our business, we continue to invest in key projects and programs to enhance our sales, services delivery, and systems. At the same time, we took additional steps this quarter to reduce costs, allowing us to allocate more resources toward driving long-term growth and strengthening the foundation of our business. We are optimistic about the prospects for the balance of the year and believe that we can outperform the U.S. IT market growth by 200 basis points. We believe our focus and business strategy remains well aligned with the shifting dynamics of how customers deploy, utilize, and consume technology.

We continue to connect our customers with technology that enhances growth, elevates productivity, and empowers innovation. We help our customers expertly navigate through a complex set of choices within the technology landscape. We help calm the confusion of IT for our customers. We know that in this complex world of technology, change happens and expertise wins. On that note, I'd like to take a moment to thank our extremely dedicated and valued employees for their continued and extraordinary effort during this rapidly changing environment. We will now entertain your questions.

Operator (participant)

Thank you. As a reminder, to ask a question, please press star one one on your telephone and wait for your name to be announced. To withdraw your question, please press star one one again. Please stand by while we compile the Q&A roster. Our first question comes from Adam Tyndall of Raymond James. Your line is open.

Adam Tindall (Managing Director and Senior Equity Analyst)

Okay, thanks. Good afternoon. Tim, I want to start in your opening comments. You talked about how some customers in the quarter were accelerating purchases, some customers were delaying purchases, so kind of like two different camps. Is there more of a pattern to the type of customer or vertical that was accelerating versus maybe holding off? A similar question on product category. Any particular product category that's sort of being sweated in terms of sweating assets versus maybe accelerating purchases?

Timothy McGrath (President and CEO)

Thanks, Adam. I'll start with kind of the customer perspective, and it really has been a mixed bag. We're talking with many customers who are very concerned with cost containment, expense reduction, and doing everything they can do to prepare for this economic backdrop and for the tariff waves that are certainly affecting their future outlook. A lot of concern around expense optimization and productivity gains. There are other customers who are realizing that many of these projects, some enabled by AI, are driving productivity and that technology is the right path forward. It really is a mixed bag. As you know, it continues to be an evolving situation as the threat of tariffs kind of moves up and down. That said, we did see really good growth in the quarter in a couple of our vertical markets.

To begin with, we consider federal part of our GovConnection subsidiary, but that said, Federal was very strong. That is large project-driven. We also had good growth in finance and healthcare vertical markets. Again, that's based on business-driven projects that were kind of in the queue. Our BSG and small and mid-market teams have been very consistent, but their forecasted growth is a little lower than what we're expecting in large enterprise just based on our enterprise funnel. We do need customers to have a clear view of the future. Obviously, if they're concerned about their customer end markets and their share price, it does affect their spending.

Adam Tindall (Managing Director and Senior Equity Analyst)

Got it. Okay. As we kind of look.

Timothy McGrath (President and CEO)

I left out endpoint. Sorry, Adam. We are seeing now we had about 21% growth in our endpoint business. About 40% of that was AI-enabled. Customers, we think, are placing those orders for investment protection, but also to prepare for their AI projects and projects at the edge.

Adam Tindall (Managing Director and Senior Equity Analyst)

That's helpful. As we look forward, your comment there at the end, talking about how backlogged at the highest level in nearly two years is very encouraging. I guess, would you maybe try to put a little bit finer point on expected growth for the year? I know IT market plus 200 basis points, but I mean, here we are in Q1 with gross profit dollar growth in the high single-digit range. I'm just wondering, as you think on a forward basis, what a reasonable gross profit dollar growth might be given that backlog. Tom, I imagine you might weigh in on that. If you could also maybe just double-click on OPEX in general. Obviously, we saw the leverage come through with the SG&A initiatives. Is that fully reflected? Is there more in the future? How can we think about OPEX growth for the year as well? Thanks.

Tom Baker (SVP, CFO and Treasurer)

Yeah. I think, Adam, in terms of overall growth, I think we're probably looking at maybe mid to high single digits on the year. We came out of the shoot at 10%. Looking here in April, I'd say I think there's still a little bit of uneasiness in the market. We're still in the early innings of Q2, but I think mid to high single digits is probably about where we're going to be on the top line. In terms of SG&A growth, in the quarter in Q3, none of the cost savings were really realized in Q1. I mean, those will start to come through in Q2. Like I said in my remarks, they're kind of split evenly between G&A and cost of goods sold. I think as we go through the quarter, we're probably looking at, I'd say, mid-ish single-digit growth in SG&A year-over-year. We're definitely absolutely trying to keep it below the revenue growth.

Thanks.

Timothy McGrath (President and CEO)

As you did ask about the markets, and I clearly stated our large enterprise business has a pretty robust funnel of projects to roll out. Of course, we need customers to agree to move forward on those projects, but our funnel and our forecast is solid with the caveat being the economic backdrop.

Adam Tindall (Managing Director and Senior Equity Analyst)

Very understandable. Thanks, guys.

Timothy McGrath (President and CEO)

Thank you.

Operator (participant)

Thank you. Our next question comes from Anthony Lebiedzinski of Sidoti. Your line is open.

Anthony Lebiedzinski (Senior Equity Analyst)

Good afternoon, and thank you for taking the questions. Certainly nice to see the better-than-expected Q1 results. Just curious to get, first of all, your take on how the quarter progressed. I mean, it sounds like there was some pre-tariff buying, but maybe just kind of maybe walk us through as far as January through March, how the quarter progressed.

Tom Baker (SVP, CFO and Treasurer)

Yeah. I would tell you January and February were a little bit on the light side, and March certainly came through better. I would say it was more heavily weighted to March than last year, but it really hasn't gotten back to the 2022,2023 range yet. I think we were, like, I don't know, 34% of our revenues came through in March of this year. It definitely improved through the quarter, and I think people were getting more and more comfortable with the economic situation. I think they cut some POs loose. I also think there was definitely some buying ahead of expected tariffs. I mean, we bought inventory ourselves to get some price protection.

Anthony Lebiedzinski (Senior Equity Analyst)

Understood. Okay. Just curious what you've seen so far in Q2. Obviously, there's been a lot of noise with the tariffs and the macroeconomic concerns. Any kind of early read on Q2 that you can share? Certainly would love to hear what you guys are seeing in the marketplace since the quarter ended.

Timothy McGrath (President and CEO)

Yeah. Thanks, Anthony. When we think about Q2, there's no denying that the tariffs are weighing heavy on our customer base. Also, when we talk to our suppliers, while they're interested in moving workloads to avoid tariffs, they really can't do it quickly with any certainty or any confidence. Again, we believe that we have a short window to help our customers navigate through this as we had the 90-day reprieve a couple of weeks ago. We're working with customers toward that end. Generally speaking, they're worried about their end markets, their customer base, their share price in this economic backdrop. There is a lot of concern, and we have to move through this together. The projects that are mission-critical will drive productivity and efficiencies and cost savings, for example, server consolidation. Those really make sense. The other projects we know will be scrutinized.

Anthony Lebiedzinski (Senior Equity Analyst)

Understood. Okay. Gotcha. Okay. I know you guys have talked about looking at acquisitions for a while. Given what's going on in the marketplace, are you kind of backing off of that, or are you still looking to possibly do some deals?

Timothy McGrath (President and CEO)

Yeah. Anthony, as I continue to say, our powder is dry. We are looking. Clearly, the interest rate environment has affected some of the opportunities that we're looking at kind of from their perspective. We are ready to go. We continue to search. To be clear, that would be tuck-in acquisitions that expand our solutions capability or bring us into new markets.

Anthony Lebiedzinski (Senior Equity Analyst)

Thank you very much and best of luck.

Timothy McGrath (President and CEO)

Thank you.

Tom Baker (SVP, CFO and Treasurer)

Thanks, Anthony.

Operator (participant)

Thank you. This concludes our question and answer session. I'd like to turn it back to Tim McGrath for closing remarks.

Timothy McGrath (President and CEO)

Thanks, PD. I'd like to thank all of our customers, vendor partners, and shareholders for their continued support. Once again, our coworkers for their efforts and extraordinary dedication. I'd also like to thank those of you listening to our call this afternoon. Your time and interest and connection are appreciated. Have a great evening.

Operator (participant)

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