Chris Leahy: Adam, thanks for the question. If I could let me zoom out first and then zoom back into AI. Let me just start with the environment that we experienced in Q1, there are a couple of factors that impacted results in complex solutions results. And look, we had a dynamic in a pretty complex environment that manifested in what I would call fits and starts of both the market and our customers who had lack of certainty and visibility. You take the first economic and financial uncertainty, in other words, the interest rate and inflation environment. And that was really the primary driver of the impact for our corporate team and our small business team. And that created an overhang in the environment which drove what I’ll call an uneven market condition situation, pretty similar to the trends we saw in 2023.
And as a result, our customers remained cautious, they remained prudent. There was relentless scrutiny on deals across the board in the solution space, in particular as customers focused on cost optimization and short term ROI, and ultimately that dampened capital investment in the period. I’d also say to a lesser degree, AI considerations as an added complexity in the deliberation process enter the picture. We’re at a real inflection point with AI, critical decision for all of our businesses understanding what it means to their business and their workforce, what it means to their roadmap – technology roadmaps and what the implications for infrastructure are. I just would highlight a couple of other pressure points during the quarter, a lesser impact, but we had some changes in the IT landscape with some consolidation and acceleration into as a service which creates a natural interruption, I would say in just the customer process.
Fed budgets delayed and then the education market is transitioning really back to a more normalized funding mechanism. And the result of all of that was collectively we had to spend deficits. What I would say is our engagement overall has been incredibly strong. I’m really pleased with the engagement and we are seeing that our value continues to build as we help our customers manage the complex tech environment and a dynamic period. But what didn’t happen is the solid pipeline that that translated into did not then translate into invoicing in the solutions portfolio as it would in a normal operating environment. Now, while we have seen the pause on the complex solutions, we are helping customers who need to refresh client actually start doing that.
And that’s some positive signs and what I’ll call a lower risk, lower friction client category. But at the end of the day, right, it was solutions that impacted our results overall. Now, if I flip to your question on AI, here’s what I’d say. Look, we’re in the early innings. Some of our customers are advanced, but really most are in an assessment and experimentation stage and it’s going to unfold over time. CDW is uniquely positioned in the space to take advantage of what will be ubiquitous in a full stack opportunity. We know how to take customers on a journey. We’ve done it before this art and science of new technologies. We’ve got the full stack and broad portfolio so we can help customers at every entry point. And we’ve got services against the entire part of the stack across the lifecycle.
And so we’ve got the ability to deliver integrated solutions. We also understand our customers pain points and opportunities given our deep vertical expertise and our intimacy with our customers. So we can create packaged solutions that can scale pretty quickly as well as customize solutions. So you think about it in terms of the choice. We help them identify the best solution, compatibility, developing roadmaps for integration, and cost and value analysis. Now, in the areas of opportunity, there are four that I mentioned in the prepared remarks, and I’ll just emphasize those and then I’ll talk about where we’re seeing pickup now and what we anticipate going forward. First, in workforce, think productivity tools and assistance. You know, we’re the leader here with regard to many of our partners, and there is much interest in workforce AI impact currently.
High value use cases, think horizontal and aligned personas [ph] things like security and customer experience, chatbots that can be deployed horizontally across many of our customers. Think broad scale vertical applications where they’re deeply verticalized and multidimensional, and then the full stack infrastructure to underpin the applications and solutions. Now we are leveraging our deep partner relationships to understand and use our customer knowledge to influence our roadmaps, very similar to what we’ve done in the past, whether it was cloud or security, and to bring to market products that are suitable for fit for certain customers. We’re expanding our engineering and services capabilities. We’re partnering with innovative AI startups, and we’re developing our own internal experience, which helps us operationally, but builds credibility with our customers.
Where we sit now, Adam is primarily a services engagement. We have a lot of activity around those two solutions MOAT [ph] discovery that I mentioned, and typically in those we’re finding that customers come to find that their data is not in the shape that it needs to be. And that leads to engagement around data and data governance and data security, et cetera. Over time, we would expect the arc of AI to move from the application layer and the services that we’re providing through to inference at the edge and then into the data center. But it’s going to be a journey and we’re the early innings and we’ve seen this before play out. We certainly feel absolutely confident that it will be a full stack play and that our strategy and the strength of the partnerships is going to – you know, we’re positioned and are already capturing the ability to navigate our customers through the journey.
Adam Tindle: Yep, complexity is typically good for CDW. That makes sense. Just a quick follow up. Al, on guidance, the gross profit dollar for Q2, where you talked about low single digit year-over-year growth, I think if I did the math on a sequential basis, it’s like low double digits. And last couple of years it’s been more like 6% to 8% sequentially, so above the last couple of years. Just given a little bit weaker than expected trends in Q1, and not wanting to get into that situation again in Q2, maybe just help us with how you thought about that gross profit dollar guidance in Q2. And is there anything that maybe underpins that sequential growth, whether it was maybe push outs from Q1 or something like that? Thank you.
Al Miralles: Yeah, sure, Adam, happy to address that. A couple of things. First, I think we mentioned in our prepared remarks. Look, we feel encouraged by the pipeline that we have and kind of what’s out there from a customer spend perspective, and a lot of that would be more in the solutions category as we talked about. So that’s number one. The thinking, Adam, is, look, if you look back over history of seasonality, historically, season [ph] now would be more in like mid teens level. And so when we take the sum of the catalysts that Chris mentioned upfront, that is the workload and data growth, the need on the security front and obsolescence of client devices, we think that there’s both catalysts there, but also kind of an existing tangible pipeline that we see.
And so when you add that together and you think about the context of historical seasonality in the more mid teens, our Q2 outlook would actually be short of that seasonality modestly. And we think that knowing that Q1 was a slower start, there’s a decent pipeline there. And we know that ultimately our customers have to get back to these critical spend items. We have confidence in ability to get to that level from a seasonality perspective in the second quarter.
Adam Tindle: Got it. Thank you very much.
Operator: Our next question comes from Samik Chatterjee from JPMorgan.
Samik Chatterjee: Hi. Thanks for taking my question. I guess, Chris, I sort of appreciate all your comments about what you’re seeing in terms of a challenging sort of customer spending environment. I’m just more curious when I contrast this to last year. Obviously the challenges are sort of the scrutiny on budgets is new, but through last year we did see sort of solutions remaining quite robust and it was more the transactional business that was sort of impacted. So as you now are starting to see the transaction business open up a bit, but the solutions business pull back any sort of insights or sort of read into sort of what the change in customer thinking is or what we might be able to see in terms of recovery in that solutions business from the insights you have from the transactional business as well. Just curious on that and I have a quick follow up. Thank you.
Chris Leahy: Yeah, let me start on that one. I think what we’re seeing now is we talked about the macro environment and the added complexity now of AI is a consideration. And as our customers this year are continuing on, that kind of pause and deliberation added to it the AI factor, if you will, they are also faced with the need to refresh client devices. And so I tell you what I think we’re seeing is a need to go ahead and spend budget on things that they – they really can’t hold off on anymore. They have old devices, they’d like to get over to the new operating system. They want to make sure the devices are available as demand will start to pick up and there’s some switching of the budget over to the devices right now. I think that’s a behavior we certainly are seeing. In terms of the trend as we go through the year, I’ll let Al speak to the outlook and our expectation regarding the outlook.
Al Miralles: Yeah, sure. And good morning, Samik. A couple of things I would mention when we think about the parallel to 2023, look, a year later, a lot of the caution and concern that we experience has persisted. And I would say to some extent in Q1 became even more heightened. And look, there is a mixed story on the economy, but what you think about the financial aspects intra quarter we went from an expectation in the market of a number of rate cuts to the potential of now just a few. So there’s been quite the whipsaw [ph] effect. So just to give that kind of backdrop, if you will, that it’s the economic and financial environment continues to get more complicated, Samik for sure. The other element I would add is on the solutions front.
A year later, notwithstanding those comments about macro uncertainty persisting, we’ve got several categories that obviously have gone through pretty significant market transitions and digestion of capacity. And really it all points back to as the clock moves forward, we get closer and closer to those catalysts that we talked about, that is need for network modernization, need to address workload and data growth. And so our confidence on the solutions front is that ultimately customers will have to act on those things. And I would say our pipeline reflects a lot of those intended actions. Just the space that we’re in right now is customers are deferring, taking longer, have more decision makers to get to that solution spin. But we know that it’s out there.
So that would be how I compare the different periods. Look, hopefully we’ll get more economic and financial clarity that will assist. Hopefully we’ll get further down the path of customers thinking about what their IT roadmaps will look like in this era of AI. And then we do believe that we would see more balanced spending across both solutions and transactions.
Samik Chatterjee: Got it. And Al, a quick follow up for you, just in terms of expectations for then gross margin as we go – progress through the year, you sort of did it 21.8 in 1Q. You’re guiding to a similar number for the full year. Is it going to be pretty similar through all four quarters as you sort of see solution spend improving maybe through the year, but client devices being a headwind on that margin? Like how should we think about progression here?
Al Miralles: Sure. Samik, for the full year I would say we’re holding to our expectation on gross margin that we gave, which was that it would be similar to 2023 all in. I think there’s going to probably be some variability, quarter to quarter, obviously most notably driven by mix. But at this juncture we would hold to those expectations. Certainly given that the mix has shifted a bit in Q1 and we saw stronger client device growth and less solutions, you’d expect that that would have some impact on our gross margin. But I would say when we think about the contribution of netted down revenue, which we think is durable, that’s helped to hold those margins in. And so at this juncture, we’re holding to that expectation of that kind of high ’21s gross margin similar to 2023.
Samik Chatterjee: Okay, thank you. Thanks for taking my questions.
Operator: Our next question comes from Amit Daryanani from Evercore.
Amit Daryanani: Good morning, everyone. I have, I guess, a question and a follow up as well. When you folks talked about the hardware categories, one of the things that really stood out was storage performance was fairly good. I’m curious, like, historically speaking, the storage tend to be a leading indicator for what you see eventually with Netcomm and servers or not. I’d love to kind of understand from a historical perspective, is storage a better indicator? And then maybe related that, the Netcomm weakness, do you think it’s more inventory digestion at this point, or is it really demand is weak?
Chris Leahy: Amit, it’s Chris. You know, I think what we’re seeing with storage right now are a confluence [ph] of two things. One, we had a number of customers who are investing in networking and implementing networking over the last few years, and storage is kind of coming. Storage kind of was the next investment, if you will. So we’re seeing positive results there. The other thing is we’ve, you know, we’ve got some new, exciting products out in the market, and that’s always appealing to our customers. So that’s really what I think is driving the storage – the storage growth in this period.
Amit Daryanani: Got it. And then, you know, Al, just for you, on capital allocation, the buybacks were fairly minimal in the quarter. Given, you know, how good the free cash flow generation was and the fact that leverages towards the lower end of that two to three time range that you folks talk about, how do we deal with buybacks for the rest of the year? And is the intent to perhaps short [ph] some capital or cash for the debt paydown that you might have to do by the end of this year and early next year? Or would you use it for buybacks?
Al Miralles: Yeah. Thanks, Amit. Appreciate the question. Look, we will continue to do what we’ve done in terms of balancing both strategic and tactical elements on the capital allocation front. And I think, look, I think 2023 is probably a good guidepost for you in terms of what that looked like. At any given time, we’re going to look at all of the elements of the, what’s going to provide the best short term return, how do we feel about the valuation front, and where do we get the most strategic value. I think the opportunity for us, Amit, in 2024, is we’ll continue to be patient and opportunistic, but with $800 million of cash on the balance sheet, I’d say pretty consistent track record here of cash flow generation. We feel like we’ve got plenty of opportunity and optionality to be able to create value across all four of the priorities in our capital allocation scheme.
Amit Daryanani: Thank you.
Operator: Our next question comes from Matt Sheerin from Stifel.
Matt Sheerin: Yes, thank you. Good morning, Chris. I hope you can elaborate more on what you’re seeing in the government sectors. You talked about budget related pushouts in federal, and I know there’s obviously some seasonality, particularly in the September quarter. So what should we expect in terms of the seasonality across those markets?
Chris Leahy: Yeah. Good morning, Matt. On federal I tell you that the federal budget delay, which was about, you know, pushes things out by about six to eight weeks, creates a pretty much a complete pause. But once the budget was implemented, then the trickle down effect starts to happen and the money is making its way to the agencies. We have seen, I call it very strong activity in both projects and programs that were ready to go, and that’s been a positive and very strong activity and those that will take a little while to get through the pipeline. So what I would say, Matt, is, you know, as we think about seasonality back to the full year, landing more on what you’d see as a federal seasonal year with it being more back end loaded.
