Insight Enterprises, Inc. (NASDAQ:NSIT) Q4 2022 Earnings Call Transcript

Insight Enterprises, Inc. (NASDAQ:NSIT) Q4 2022 Earnings Call Transcript February 9, 2023

Operator: Ladies and gentlemen, welcome to the Insight Enterprises, Inc. Fourth Quarter Full Year 2022 Earnings Conference Call. My name is Glenn, and I will be the moderator for today’s call. . I will now hand you over to your host, James Morgado, SVP Finance and CFO in North America, to begin. James, please go ahead.

James Morgado: Welcome, everyone, and thank you for joining the Insight Enterprises earnings conference call. Today, we will be discussing the company’s operating results for the quarter and full year ended December 31, 2022. I’m James Morgado, Senior Vice President of Finance and CFO of Insight North America. Joining me is Joyce Mullen, President and Chief Executive Officer; and Glynis Bryan, Chief Financial Officer. If you do not have a copy of the earnings release or the accompanying slide presentation, that was posted this morning and filed with the Securities and Exchange Commission on Form 8-K, you will find it on our website at insight.com under the Investor Relations section. Today’s call, including the question-and-answer period, is being webcast live and can also be accessed via the Investor Relations page of our website at insight.com.

An archived copy of the conference call will be available approximately 2 hours after completion of the call, and will remain on our website for a limited time. This conference call and the associated webcast contain time-sensitive information, that is accurate only as of today, February 9, 2023. This call is the property of Insight Enterprises. Any redistribution, retransmission or rebroadcast of this call in any form without the expressed written consent of Insight Enterprises is strictly prohibited. In today’s conference call, we will be referring to non-GAAP financial measures, as we discuss the fourth quarter and full year 2022 financial results. When discussing non-GAAP measures, we will refer to them as adjusted. You’ll find a reconciliation of these adjusted measures to our actual GAAP results, included in both the press release and the accompanying slide presentation, issued earlier today.

Also, please note that unless highlighted as constant currency, all amounts and growth rates discussed are in U.S. dollar terms. As a reminder, all forward-looking statements that are made during this conference call are subject to risks and uncertainties that could cause our actual results to differ materially. These risks are discussed in today’s press release and in greater detail in our most recently filed periodic reports and subsequent filings with the SEC. All forward-looking statements are made as of the date of this call, and except as required by law, we undertake no obligation to update any forward-looking statements made on this call, whether as a result of new information, future events or otherwise. With that, I will now turn the call over to Joyce.

And if you’re following along with the slide presentation, we will begin on Slide 4. Joyce?

Joyce Mullen: Thank you very much, James. Good morning, everyone, and thank you so much for joining us today. It is my pleasure, to report that we ended 2022 with an outstanding fourth quarter that topped off a record-setting year. For 2022, we delivered record net sales, gross profit, gross margin, adjusted EFO and adjusted diluted EPS, and we ended the year with positive cash flow from operations of $98 million. These are stellar results, in a volatile macro environment. For the past year, we have articulated our focus on delivering differentiated value for our clients. Improving and scaling our solutions offerings and enhancing our technical expertise in the areas where we know we excel. And while there is no finish line in this race, I feel great, about the progress we’ve made so far.

Our clients choose us because we help them improve and transform their businesses and achieve the outcomes they need. This is evident from our record-setting results this year, and in fact, we outpaced the global IT market across all categories: Software, including cloud; services; and hardware. The foundation of our services business is based upon long-standing relationships, and understanding of the outcomes our clients need and what is required to make them successful. We deliver this through our deep technical expertise, which has led to record performance in Insight core services with gross profit growth of 14% for the year. We are still in the early stages of executing against our long-term strategy, but the progress we made in 2022 propels us forward, in pursuit of becoming the leading solutions integrator.

We outlined the strategy at our Investor Day last fall. And as a reminder, there are 4 key pillars underpinning that strategy. First, captivate clients. This is a people- and outcome-focused business. We plan to drive continued improvement in Net Promoter Scores, by delivering exceptional results. We pride ourselves in earning the right to do more by delivering high-quality and outcome-based solutions. And our investments in e-commerce and automation will allow our clients to transact with us even more efficiently via self-service. This creates a seamless customer experience for our clients and frees up our sales teammates to focus on our second pillar, which is selling solutions. We are transforming our sales capabilities and aligning our incentives to focus on our solutions portfolio.

We continue to streamline our account coverage to match skills with our clients’ need and propensity to buy services. The theme here is really about focus, that is, doing a finite number of things and doing them really well. Our third pillar is deliver differentiation. This is all about providing innovative, scalable solutions through reusable IP, exceptional technical talent and our very compelling solutions portfolio. Again, we are focusing on our strengths that align with the fastest-growing areas of the market and the areas where our clients need the most help. Cloud, data, AI, cybersecurity and edge. And the fourth pillar is to champion our culture. This has been a strategic advantage for us, and we will continue to leverage our values of hunger, heart and harmony to evolve our high-performance culture.

This is critical to attracting and retaining, such incredible talent. And speaking of incredible talent, I am happy to announce the addition of 2 new leaders. First, we are pleased to welcome Adrian Gregory, as our new President of Europe, Middle East and Africa, EMEA. Adrian held various leadership positions at both Atos and HPE, Adrian brings over 27 years of experience in the technology sector. He will lead our EMEA team as we continue to build our services and solutions capabilities in that region. Additionally, Kate Savage joined as an SVP in our Solutions segment, where she is focused on all operational aspects of our services business. Kate joins us from Capgemini, where she was Executive Vice President, driving operations and people strategies.

M&A is also an important part of our strategy and supports the 4 pillars I outlined above. As we enter 2023, we have nearly $1.5 billion in financing capacity to fuel this strategy. We will be deliberate, in our acquisitions to support our solutions business in key growth areas such as cloud, data, AI and cyber. One such example is our acquisition of Hanu last year. As a reminder, Hanu is a Gartner Magic Quadrant Azure migration company, that allows us to scale our cloud business. Hanu also has a robust recruiting and development academy to build more technical expertise in EMEA. And to support these changes I outlined above, we stood up a global transformation office to manage the initiatives across the company. As I mentioned earlier, we had a record-setting 2022.

Glynis will walk you through our Q4 performance, and I will highlight some of our full year results now. Net sales of $10.4 billion, up 11% year-on-year. Cloud gross profit of $340 million, growth of 29% year-on-year. Insight core services gross profit of $253 million, an increase of 14%. Gross profit grew 13% and gross margin expanded 40 basis points to 15.7%. Adjusted EPS was $9.11 per share and grew by 28%. Adjusted EBITDA margin expanded by 60 basis points to 4.7%. And we generated operating cash flows of $304 million in Q4, taking the full year to $98 million. These results demonstrate our team’s ability to execute in a challenging environment, and the resilience of our business model. We’ve talked a lot about our ambition to become the leading solutions integrator by combining our strengths in hardware, software and services, to offer comprehensive solutions that drive business outcomes for our clients.

And I want to share a recent example of this. Vivli, is a non-profit organization whose mission is to facilitate the sharing of clinical research data, and to enable their partners to develop treatments for diseases, such as Alzheimer’s, diabetes and many others. To do this effectively, they needed an intuitive platform that would provide researchers around the globe with secure access to a vast array of clinical trial data. We worked with Vivli to define this new platform and determined 3 critical requirements for success. Those were ensure the solution was secure, patient privacy is clearly critical, create a smooth user experience with an intuitive front end and ensure the platform was scalable and manageable. Our highly experienced technical team developed a solution using the full complement of Azure services, which ultimately drove business efficiency, eliminated manual and redundant processes and meet a significant impact, on the research community.

For Vivli, success is all about adoption. After delivering this project, Vivli has been pleased with the clinical data growth of 42% year-over-year and more researchers are using this platform than ever, with user growth of 20% per year. This is a great example of our purpose, accelerating transformation by unlocking the power of people and technology. We love the human aspect of this example and how the solution has not only helped Vivli, but has helped potentially thousands of patients at critical moments in their lives. Customer success stories like this, reinforce confidence in our strategy. As I mentioned, we see cybersecurity as a major focus for us, and I want to talk through a really meaningful example of our capability in this space as well.

When a Fortune 100 insurance and financial services provider needed to modernize security, they turn to Insight. They needed to address a challenge called secret sprawl or more plainly, a situation that many organizations face when passwords, encryption keys and other sensitive authentication information is stored in many different locations. Secret sprawl leads to mismatch credentials and creates a risk of security breach. To address this challenge, we implemented HashiCorp’s Vault software to consolidate user credentials. We also developed customizable self-service API templates, to direct authentication between multiple applications and developed automation to monitor expiration of web security certificates. The solution we deployed is a seamless credential management system with automated compliance.

We’re really proud of the work done on this project and the value we provided. I think it’s a testament to the deep technical talent we have at Insight, and we see that as an important differentiator in the industry. We also earned some tremendous industry recognitions in 2022. You can see the details in the accompanying presentation. So, I’ll just highlight a few recent recognitions now. We earned 3 Cisco Partner of the Year recognitions, achieved all of Microsoft Solutions partner designations, earned Microsoft’s 2022 Partner of the Year for manufacturing, as well as the 2022 Canadian Partner of the Year Award. Additionally, as champions of people, leadership and culture, we strive to be a company where all teammates have the opportunity to reach their full potential.

And I’m proud that Insight was recognized by Forbes, as one of the world’s top female-friendly companies. Before handing the call over to Glynis, who will share our 2023 outlook, let me briefly touch on the year ahead. As we head into 2023, we expect continued economic uncertainty. And now more than ever, it is critical that we support our clients, as we navigate these uncertain times together. We are uniquely positioned, with our combination of deep expertise in hardware and software, and our portfolio of digital transformation services focused on cloud, data, AI and cyber, to deliver cost-effective technology solutions and business outcomes for our clients. The $4 trillion IT market is growing in the low single digits. However, cloud, data and AI, cybersecurity and the edge, are expected to grow in double digits, which plays to the strength of our portfolio and our technical talent.

We remain focused on our ambition to become the leading solutions integrator, and I look forward to discussing our progress as we continue our journey. With that, I’ll turn the call over to Glynis to walk you through the important details of our financial and operating performance in Q4 2022, as well as our outlook for 2023. Glynis?

Glynis Bryan: Thank you, Joyce. As Joyce mentioned, we delivered record results for the year as we continued our journey to become the leading solutions integrator, despite the challenging macro environment. I’d like to start with some comments on our 2022 performance. Every year does not play out like this one, but 2022 was a year of 2 halves. The first half had very strong net sales growth of 22%, fueled by exceptionally strong devices growth in the high 30% range against a weaker first half of 2021. In the second half, net sales were essentially flat across better second half 2021 performance, but we achieved higher gross margin and positive cash flow from operations. In the second half of 2022, our operations generated cash flow of $540 million, leading to positive cash flow from operations of $98 million for 2022.

As we have discussed previously, when hardware sales decelerate, we spin off significant cash flow. Our performance in the second half of 2022 is an excellent illustration of this. Our net sales performance in 2022 reflect our execution, volatile market conditions and the easing of supply chain issues that began in 2021. Although we have essentially flushed our device backlog, we still have significant backlog in networking and infrastructure, going into 2023. As we have previously discussed, we’re on a multiyear journey, and we’re in the early stages. In 2022, we started assembling the building blocks around sales transformation, portfolio optimization, our differentiated value proposition related to offerings and our technical talent, and our profitability initiatives to accelerate gross margin and EBITDA margin expansion.

Photo by Danial Igdery on Unsplash

We are not finished with our efforts in these areas, but our performance to date is meeting our expectations. The slide presentation today includes details on our Q4 and full year 2022 performance for the 3 geographic regions, as well as our consolidated results. I will focus on our consolidated results and on the key highlights from our Q4 performance on this call. You will also find the GAAP equivalents for our adjusted results in our investor slides and a reconciliation to the GAAP amounts, in the appendix to the investor slides. In Q4, gross margin was a record 16.8%, an increase of 180 basis points compared to prior year and reflects the higher mix of cloud, Insight core services and infrastructure products, all of which transacted at higher margins.

Our strong performance was driven by 44% cloud gross profit growth and 11% Insight core services gross profit growth. Combined with our operating expense leverage, this resulted in a record adjusted EBITDA margin of 5.4%, up 120 basis points over 2021. For the fourth quarter, adjusted diluted earnings per share was $2.53, up 28% in constant currency and 25% in U.S. dollar terms, year-over-year. For the year, adjusted diluted earnings per share was $9.11, a record for us. Up 31% in constant currency and 28% in U.S. dollar terms year-over-year. This performance illustrates the resilience of our business model in a declining device market and gives us confidence as we make progress on our solutions integrator strategy. As we previously discussed, with the slower growth in hardware in the fourth quarter, we generated $304 million in cash flow from operations in the quarter.

In 2023, we expect our business to generate cash flow from operations in the range of $180 million to $220 million. And to update you on our share repurchase program, in Q4, we repurchased 839,000 shares of our stock, at an average price of $98.88 per share for a total cost of $83 million. In full year 2022, we repurchased a total of 1.1 million shares, at an average price of $97.35 per share for a total cost of $108 million. As of the end of January, we have $196 million remaining under our $300 million share repurchase authorization, and we anticipate executing $96 million in our planned share repurchase, pending market conditions. In the fourth quarter, our convertible notes exceeded the market price trigger of $88.82, and so were convertible at the option of the holders.

As a result, the principal amount was reclassified to current liabilities. The $350 million principal amount of the convertible notes will always be settled in cash. In future reporting periods, as our average stock price in any quarter exceeds the warrant price of $103.12, we will include shares in our diluted and adjusted diluted earnings per share calculation, for the amount in excess of the warrant price and the average share price throughout the quarter. You will find an illustration of this in the appendix to the investor presentation. We continue to evaluate our alternatives relative to the convertible notes, as well as, the impact of the convertible notes and dilution on our share repurchase strategy. Our current share forecast for 2023 includes the net impact of share repurchases and anticipated dilution assuming our share price increases throughout 2023.

We exited Q4 with approximately $1.5 billion of our $1.8 billion capacity available, under our ABL facility. And we have ample capacity to fund our business and capital deployment priorities. Further, we ended the year with adjusted ROIC of 15.9%, an increase of 50 basis points over 2021. Our presentation shows our 2022 performance relative to the metrics that we laid out at our Investor Day in October. 2022 is our baseline year. Moving on to 2023. As we communicated last quarter, we anticipate a modest growth year, as the macroeconomic environment remains challenging across the globe, given elevated inflation and interest rates. Consistent with the market consensus, we anticipate higher borrowing cost under our ABL, and we also anticipate that foreign exchange rates could create added volatility.

In the face of this uncertainty, we are focused on improving cash flow and preserving capital for critical initiatives. We will continue to fund the 4 critical initiatives Joyce outlined, including the outfitting of a new Texas advanced integration and client fulfillment center, as well as critical initiatives related to sales transformation, digital commerce and our differentiated value proposition. In addition, the most recent forecast for the IT market is projecting low single-digit growth for 2023, with hardware down and software and select services up in the mid- to high single-digit range. The areas of cloud, data and AI, cyber and modern infrastructure are all forecasted to continue to grow at a double-digit pace. This plays to our strength, and we believe our performance in Q4 confirms, the strength of our business model and our ambition to be the leading solutions integrator.

As we think about our guidance for the full year of 2023, our expectations remain modest. We expect to deliver gross profit growth, in the high single-digit range. We expect adjusted diluted earnings per share for the full year of 2023 to be between $9.90 and $10.10. This outlook assumes interest expense between $48 million and $52 million and effective tax rate of 25% to 26% for the full year, capital expenditures of $55 million to $60 million and an average share count for the full year of 34.3 million shares, after an estimated completion of our current share repurchase program and net of estimated dilution. This outlook excludes acquisition-related intangible amortization expense of approximately $32 million, assumes no acquisition-related or severance and restructuring and transformation expenses, and assumes no significant change in our debt instruments or the macroeconomic outlook.

I will now turn the call back to Joyce.

Joyce Mullen : Thank you, Glynis. 2022 was a record-setting year and we are thrilled with our results. And Q4 showed encouraging progress toward our goal. There are significant headwinds driven by the macroeconomic environment, but we believe our broad portfolio of solutions provide us with the resiliency to navigate any economic cycle. We are well positioned in the fastest-growing areas of the market. We are laser focused on execution and building momentum towards our ambition to become the leading solutions integrator. We are passionately focused on delivering against our strategic pillars of captivating clients, selling solutions, delivering differentiation and championing our culture. Our plan is to supplement this strategy, with our intentional M&A approach.

Our strong results in 2022 position us well to progress toward our long-term growth and profitability targets, and all of this propels us towards our ambition to become the leading solutions integrator, defining a new category in our industry. In closing, I want to thank our teammates for their commitment to our clients, partners and each other. Our clients, for trusting insight to help them with their transformational journeys. Our partners, for their continued collaboration and support and delivering innovative solutions to our clients. This concludes my comments, and we’ll now open the line for your questions.

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Q&A Session

Operator: . Our first question comes from Matt Sheerin from Stifel.

Matthew Sheerin: My first question, Joyce, is just on your outlook for hardware in general and specifically client devices. It sounds like it’s been down year-over-year for the last couple of quarters. Any sense of when that bottoms? What are your customers telling you?

Joyce Mullen: Thanks, Matt. So, we just had a pretty great quarter and a pretty awesome year, and it was a pretty great quarter in a period when devices were down. So I think, first of all, I just want to say that our combination of services, software, cloud and hardware, of course, give us confidence that our outlook is pretty solid. So, as I outlined the numbers. We’re pretty — we’re confident in that. We see a reasonably good start to the year in that regard. In terms of hardware, we have pretty significant backlog still, near-record high backlog on infrastructure. So — and that’s going to probably not dissipate, until the back half of the year or through the summer. And then from a device point of view, yes, we’re, like the rest of the industry, expecting devices to be down in the first half with some recovery in the back half of the year, primarily driven by much softer compares.

Matthew Sheerin: Okay. And then I wanted to talk about the fourth quarter, where you had basically your revenue down, your gross profit was up, roughly $21 million, and you’re operating — and basically, your SG&A was flat quarter-to-quarter, which seems surprising. So could you explain the relationship between the gross profit dollars, particularly in those netted down revenues and the corresponding OpEx? Because, if we look at your guidance for next year, you’re looking at really, really significant gross profit growth on, I guess, low single-digit revenue. So I’m trying to figure out what that OpEx looks like underneath that model.

Glynis Bryan: Sure. Okay, Matt. You’re exactly correct. So in Q4, software, cloud and software in particular were strong, and you saw that reflected in the gross margin numbers that we posted in Q4. Going into 2022, you’re also correct. We do anticipate gross profit dollar growth in the high single-digit range, and revenue growth is going to be lower than that. That’s based on a couple of things, still. One, devices are a smaller contributor to the overall hardware in 2023. We’re going to get more from infrastructure, more growth from the infrastructure side of the hardware market, that transacts at higher margin. And software and the cloud are also going to be strong going into 2023. And we have core services which are also going to be strong going into 2023.

And in addition, we talked a little bit — maybe in the — in our Investor Day about our profitability initiatives with regard to expanding gross margin. So when you look at our numbers, gross margin is a huge driver of what we anticipate will be our success in 2023. And we have controlled SG&A in the second half of 2022. That is continuing, as we go into 2023. We will continue to fund sales and technical resources, as we have done in 2022. And we will continue to control our back office and admin resources, and leverage low-cost locations in terms of how we expand to meet the needs of the business. That is what’s driving the improvement that you’re seeing in our performance and the guidance we gave for 2023.

Matthew Sheerin: Okay. But just back to the last quarter, where your SG&A didn’t grow sequentially, and your gross profits grew $21 million. Was that because there were cost cutting or variable expenses that went away with the lower hardware sales? And going forward, if let’s say, gross profit margin is up 30 or 60 basis points year-on-year, would SG&A grow at a slower pace than that?

Glynis Bryan: So if you look at Q4, I’ll answer that question first. In Q4, we saw the value and the benefit that we had from the sales transformation and initiatives that we put in place, one, two, from just the cost control that we had around overall GP. So you’re right, we grew gross margin, but SG&A didn’t expand as much. But we did actually have the expansion that we normally would see on sales comp associated with the higher gross profit that was generated. That is correct. When you go into 2023, we would anticipate a similar dynamic. We’re going to see gross profit dollars, that would generate gross margin expansion. That would generate higher commissions, and we’re controlling SG&A around that with regard to getting to the answers that we — the results that we showed you for 2023.

Joyce Mullen: And just to supplement that. I mean we do expect continued leverage on SG&A. As we grow, we get more leverage out of our SG&A spend.