CDW Corporation

Al Morales, our Chief Financial Officer. Our earnings release was distributed this morning and is available on our website, investor.cdw.com, along with supplemental slides that you can use to follow along during the call. I'd like to remind you that certain comments made in this presentation are considered forward-looking statements under the Private Securities and Litigation Reform Act of 1995. Those statements are subject to a number of risks and uncertainties that could cause actual results to differ materially. Additional information concerning these risks and uncertainties is contained in the earnings release in form 8K refurnished to the SEC today and in the company's other filings with the SEC. CDW assumes no obligation to update the information presented during this webcast. Our presentation also includes certain non-GAAP financial measures, including non-GAAP operating income, non-GAAP operating income margin, non-GAAP net income, and non-GAAP earnings per share. All non-GAAP measures have been reconciled to the most directly comparable GAAP measures. And you will find most directly comparable GAAP measures in accordance with SEC rules. You'll find reconciliation charts in the slides for today's webcast and in our earnings release in Form 8K. Please note all references to growth rates or dollar amount changes in our remarks today are versus the comparable period in 2023 unless otherwise indicated. Replay of this webcast will be posted to our website later today. I also want to remind you that this conference calls the property of CDW and may not be recorded or rebroadcast without specific written permission from the company. With that, let me turn the call over to Chris.

Thank you, Steve. Good morning, everyone. I'll begin today's call with a brief overview of our performance, strategic progress, and view on the second half of the year. Al will provide additional detail on our results, our capital allocation priorities, and our outlook. We'll move quickly through our prepared remarks to ensure we have plenty of time for questions. Second quarter market dynamics played out roughly as we expected. Cautious customer behavior once again elongated sales cycles and drove prioritization of needs over wants and cost savings over expansion. Capital investment in complex solutions, particularly those tied to data center and network modernization, continued to be downsized or put on hold, and there was growing refresh activity in client devices. What was not expected were two end market specific dynamics, a worsening in the UK environment and further federal funding challenges. Within a limited demand environment, we continue to help our customers build out technology roadmaps, and our pipeline remains solid in the solution space. Conversion remains challenging with uncertainty weighing on our customers' appetite to spend. The team's value as a trusted advisor and ability to deliver solutions that met our customers' most pressing priorities drove excellent performance across cloud, security, and services. Performance that contributed to strong profitability and cash flow. performance made possible by the strategic investments we have made over the past five years to bring full stack, full lifecycle solutions to our customers. For the quarter, the team delivered gross profit of $1.2 billion flat year over year with a gross margin of 21.8% of 80 basis points, net sales of $5.4 billion, which were down 3.6%, Non-GAAP operating income of $510 million, down 3.7%, with a non-GAAP operating income margin of 9.4%, which was flat, and non-GAAP earnings per share of $2.50, which was down 2.6%. Let's take a look at this quarter's performance drivers. First, our balanced portfolio and markets. Recall we have five sales channels, corporate, small business, healthcare, government, and education, each a meaningful business on its own, with 2023 annual sales ranging from $1.6 billion to $9 billion. Channels are further segmented to focus on customer end markets, including geography, verticals, customer size, and spend. Teams are similarly segmented in our UK and Canadian operations, which together delivered $2.6 billion in 2023 sales. These unique customer end markets are typically uncorrelated given the different economic and external factors that impact each of them. Our second quarter results provide a good example of this. Corporate posted a net sales decline of 2%. Robust increases in cloud and security supported profitability with a meaningful increase in gross margin. Client devices increased for the second quarter in a row and posted both year-over-year and sequential sales increases of low double digits. Notably, client device ASPs held firm with a mix into higher value, higher functionality units. Once again, servers and netcom declined as customers continued to undergo technology transitions and absorb capacity. Storage was a standout category, increasing double digits driven by upgrades of legacy systems. Small business net sales declined 3%. The team's ability to help customers address mission-critical priorities around security and productivity with cost-effective software and cloud solutions contributed to improvements in both gross profit and margin. Small business did not see significant refresh activity, and while increasing mid-single-digit sequentially, client devices declined slightly year-over-year in the quarter. Consistent with corporate ongoing postponement of infrastructure investments in net common servers drove low double-digit declines. Public sales declined 2% in the quarter with mixed performance by end market. Government decreased 6% as growth in state and local was more than offset by a decline in federal. Federal results were further impacted by the delayed fiscal 2024 budget authorization as several key customers did not receive funding releases until late June, weeks later than expected. These released funds face processing delays from the normal gears of government as hardware and software orders require solicitation, competitive bids, and evaluation. We know that ongoing projects will eventually move forward, but some agencies may pause new projects as they await the clarity around the next administration's priorities. In light of these layers of friction and uncertainty, we do not expect a federal catch-up in the back half of 2024. The state and local team had another solid quarter, up mid-single digits. Security remained a key performance driver. Client devices increased by mid-single digits both year-over-year and sequentially. While early, state and local budget dollars are being allocated to improving citizens' experience at state and municipal agencies, including enhanced AI-powered automated response and messaging platforms. Healthcare net sales were flat. Security remained a key focus area, and the team delivered robust customer spend and gross profit growth, led by security assessments for cloud migration and identity management. Driven by refresh, client devices increased by double digits. The team's ability to deliver cloud migration, including moving applications out of hospital data centers, drove excellent cloud performance and contributed to both increased growth margin and profitability. Education sales declined roughly 1%. K-12's top line was roughly flat year over year, while profitability grew. For the second quarter in a row, client device sales increased up mid-single digits, as school systems refreshed aged Chromebooks. Security and cloud remain top priorities, both delivering strong growth and gross profit. Once again, collaboration hardware, primarily smart whiteboards and interactive flat panels, declined meaningfully as schools continue to digest the significant purchases made over the past several years. With the sunsetting of ECF funds and upcoming deadlines for ESSER funds of September 30th, the team is focused on helping their customers pivot to refresh programs funded through traditional mechanisms. Consistent with recent quarters, higher ed institutions remain focused on investments to enhance student experience to drive enrollment, while doing more with less. and the team posted a mid-single-digit top-line decline. Cost elasticity continued to drive strong double-digit growth in cloud. Security remained a top priority, up strong double digits, and client devices returned to growth in the quarter, up high single digits driven by refresh. Our UK and Canadian international operations, which we report as other, declined 13%. While both teams continue to execute well, the demand environment, particularly in the U.K., worsened during the quarter as the early general election amplified already challenging conditions. U.K. sales declined high teens in U.S. dollars, and Canada declined 4% in U.S. dollars. Given current conditions, we expect the U.K. market to remain volatile and under pressure through the back half of the year. As you can see, the diversity of our end markets results is fundamental to the first driver of our performance. our balanced portfolio of customer and market. Category performance demonstrates the benefit of our second performance driver, our broad and deep portfolio of products and solutions. Transactions categories increased during the quarter while solutions categories declined. Both transactions and solutions increased sequentially in the quarter. At the portfolio level, hardware decreased 5%. High single-digit client device growth and mid-single-digit storage growth was more than offset by meaningful declines in netcom and collaboration. Software customer spend increased mid-single digits, while net sales were impacted by our strong mix into netted-down revenue and decreased by 1%. Services increased by 6%, driven by cloud and security-related services. Once again, cloud was an important performance driver, contributing double-digit gross profit growth across software, services, and security. Profitable growth that was enabled by the strategic investments, both organic and acquired, we have made in solutions and services capabilities over the past five years. And this leads to the final driver of our performance in the quarter, our three-part strategy for growth, which is, first, acquire new customers and capture share. Second, enhance our solutions capabilities And third, expand our services capabilities. Each pillar is crucial to our ability to profitably advise, design, orchestrate, and manage the solutions our customers want and need in any environment. Let me share an example of our strategy and action as we delivered on a customer's priority in today's challenging demand environment. An insurance company faced early end of life for its hyper-converged infrastructure equipment, something not contemplated in their already tight budget. Armed with our broad and deep cloud portfolio, our cloud, hybrid infrastructure, and services group collaborated to architect a cloud subscription-based solution that delivered cost elasticity the customer's budget could absorb. The multifaceted solution seamlessly moved on-premise workloads and data to the public cloud, delivered cloud compute, migrated custom and off-the-shelf applications, created a virtual desktop infrastructure, and delivered security measures with virtual firewalls. Plus, it optimized workloads to ensure the customer effectively managed CPU usage, memory, and storage, further mitigating costs. This comprehensive solution generated more than $1 million in product revenue and a multimillion-dollar CW professional services engagement. After seeing our cloud expertise in action, the customer engaged us for additional cloud solutions, including identity management and unified cloud call center ongoing managed services. Today, we are one of the customer's most valued strategic partners. A great example of how we're delivering value to our customers both for today and for the future. And that leads me to our expectations for the balance of the year. You will recall that on the last quarter's conference call, we shared our expectations for 2024 US IT market growth in the low single digits and our target to grow 200 to 300 basis points above market. This factored in a modest improvement in demand conditions in the second half of the year. Given real-time feedback from our large and diverse customer base, we now expect current market conditions to persist throughout the year, not get worse, but not get better. Given the market's slow start to the year, without a second half demand pickup, we now look for US IT market growth up towards the lower end of a low single-digit range. We continue to maintain our target to grow 200 to 300 basis points above market. Growth will return, but demand drivers are there. Workload and data growth, increased security threats, client device obsolescence, and adoption of AI-powered assistance and applications. But customers need greater clarity and confidence, clarity around economic conditions, and clarity around the impact of AI on their tech roadmap. and confidence that investments made today will deliver the right foundations and economic returns in an AI-powered future. Improved demand conditions are a function of when, not if. Wildcards for the balance of 2024 include the potential of greater macro and geopolitical uncertainty, significant degradation of market conditions in the UK, as well as unusual uncertainty in the US election. As we always do, we will provide an updated perspective on business conditions as we move through the year. Whatever the market conditions, we will remain focused on delivering exceptional value to our customers, gaining share, and executing with the discipline and rigor that is CW's hallmark. And we will continue to play the long game, holding steadfast in our commitment to executing against our growth strategy to ensure we have the solutions and services capabilities our customers need to achieve their mission-critical outcomes. With that, let me turn it over to Al, who will share more detail on our financial performance.

Thank you, Chris, and good morning, everyone. I will start my prepared remarks with details on our second quarter performance, move to capital allocation priorities, and then finish with our updated 2024 outlook. Second quarter gross profit of $1.2 billion is roughly flat, up 0.1% versus the prior year. This is modestly below our original expectations for low single-digit growth for the quarter, as the aforementioned strength in cloud security and services was offset by lower demand for netcom and collaboration hardware. Consolidated second quarter net sales of $5.4 billion were down 3.6% versus the prior year on both reported and average daily sales basis, and up 11.3% sequentially, driven by seasonally higher demand in education channels and government channels, and especially pursuant to client devices. Gross margin increased approximately 80 basis points year over year. First margin of 21.8% was flat quarter over quarter and broadly in line with both full year 2023 levels and our expectations for 2024. Second quarter year over year margin expansion was primarily driven by the higher mix in the sales where CDW acts as agent, also known as netted down sales. This category grew by 8.7%, once again outpacing overall net sales growth and representing 33.2% of our gross profit. compared to 30.6% in the prior year's second quarter. Year-over-year expansion came from our teams continuing to successfully serve customers with cloud and SaaS-based solutions. The netted down category of solutions represents an important and durable trend within our business, contributing to our ability to deliver enhanced gross margins. It is important to note that netted down sales growth and its impact on our mix of business will fluctuate over time with customer priorities and product demand. Second quarter gross profit was up 11.3% compared to the first quarter of 2024 on both reported and sequential average daily sales basis. While second quarter sequential net sales and gross profit growth were higher than the sequential growth rates seen in the last few years, they were very modestly behind our own expectations, as well as historical seasonal upturn we experienced in pre-pandemic years. This reflected two factors, longer than expected delays in spend from our federal customers related to the prior congressional budget impasse and lower performance by our UK business, which is impacted by volatility in the economic and political climate. Turning to expenses for the second quarter, non-GAAP SG&A totaled $673 million, up 3.2% year-over-year. Expenses were roughly consistent with the expectation we shared on our last earnings call, including expense efficiency ratio more in line with normal levels. The improvement from the first quarter reflected higher gross profit attainment and relatively lower level expenses on a quarter-over-quarter basis. Coworker count at the end of the second quarter was approximately 15,200, up slightly over the first quarter and year end. Customer-facing coworker count was also slightly up at approximately 11,000. Our goal is to balance driving growth and exceptional customer experience with efficiency and cost leverage from our broader operations. Non-GAAP operating income totaled $510 million, down 3.7% versus the prior year, driven by the combination of roughly flat gross profit and moderately higher expenses year over year. Non-GAAP operating income margin of 9.4% was flat to the prior year and up from 8.3% in the first quarter. Our non-GAAP net income was $339 million in the quarter, down 2.9% on a year-over-year basis. With second quarter weighted average diluted shares of $135.6 million, non-GAAP net income per diluted share was $2.50. Moving to the balance sheet. At period end, net debt was roughly $5 billion. Net debt has declined by approximately $93 million since year end 2023, primarily reflecting our increased cash position alongside modest debt repayment. Liquidity remains strong, with cash plus revolver availability of approximately $1.9 billion. The three-month average cash conversion cycle was 17 days, up three days from the prior year but still at the lower end of our targeted range of high teens to low 20s. This cash conversion reflects our effective management of working capital, including active management of our inventory levels. As we've mentioned in the past, timing and market dynamics will influence working capital in any given quarter or year. We continue to believe our target cash conversion range remains the best guidepost for modeling working capital longer term. Adjusted free cash flow was $138.4 million in the quarter, consistent with our expectations and seasonal business trends. Year to date, adjusted free cash flow was a healthy $503 million and 84% of non-GAAP net income within our stated rule of thumb of 80 to 90%. First half performance puts us on track to meet our 2024 objectives. For the quarter, we utilize cash consistent with our 2024 capital allocation objectives, including returning approximately $202 million in share repurchases and $83 million in the form of dividends. We remain committed to our target to return 50 to 75% of adjusted free cash flow to shareholders via the dividend and share repurchases in 2024. That brings me to our capital allocation priorities. Our first capital priority is to increase the dividend in line with non-GAAP net income. Last November, we announced a 5% increase of our dividend to $2.48 annually, our 10th consecutive year of increasing the dividend. We will continue to target a 25% payout ratio in 2024. Our second priority is to ensure we have the right capital structure in place. We ended the second quarter at 2.4 times within our targeted net leverage range of two to three times. We will continue to proactively manage liquidity while maintaining flexibility. Finally, our third and fourth capital allocation priorities of M&A and share repurchases remain important drivers of shareholder value. We continually evaluate M&A opportunities that could accelerate our three-part strategy for growth. Year to date, we've utilized over $250 million of cash on share repurchases and have over $830 million remaining under our current share repurchase program. And that leads us to our outlook. The uncertain market conditions we operated under throughout 2023 have persisted well into 2024. The customer sentiment remains cautious and prudent across end markets, particularly in the commercial, international, and federal channels. Last quarter, we spoke about the slow start to the year for 2024 IT spending and shared our expectations for tough conditions to persist in the near term, but to modestly improve in the second half. At the same time, we noted a compelling need for our customers to address cloud workload growth, increasing security threats, and aging client devices. These priorities continue to resonate with customers and were brighter spots in the second quarter. while uncertain macroeconomic conditions and a complex technology landscape weigh on customer demand for solutions hardware. Given these market conditions, our updated full-year 2024 expectation is for flat to low single-digit gross profit growth, a view that incorporates both our slower start to the year and our view that the mild recovery we anticipated in the second half is not likely to materialize. This leads to seasonality roughly in line with historical levels, with the first half contributing approximately 48% of net sales and gross profit. We maintain our expectation for 2024 gross margin to be similar to the full year of 2023, and much like we've seen throughout the first half of 2024. Finally, we expect our full year non-GAAP earnings per diluted share to be flat up slightly year over year. Please remember we hold ourselves accountable for delivering our financial outlook on a full year constant currency basis. Moving to modeling thoughts for the third quarter. We anticipate low single digit gross profit growth compared to the prior year with no change to our expectation that gross margin will be comparable to full year 2023 and the first half of 2024. This leads to roughly normal seasonality compared to historical levels and off of a moderately lower second quarter base. We continue to expect the fourth quarter to be meaningfully lower compared to the third quarter, principally due to seasonally lower demand from education and government customers. Moving down the P&L, we expect third quarter operating expenses to be moderately higher than the third quarter of 2023 on a dollar basis, given the higher gross profit performance. but at a similar ratio relative to gross profit. We expect third quarter non-GAAP earnings per diluted share to grow in the mid single digit range year over year. For full year 2024, we are maintaining our expectation for adjusted free cash flow to be in the range of 80 to 90% of our non-GAAP net income. We currently sit comfortably within that range. That concludes the financial summary. As always, we'll provide updated views on the macro environment and our business on our future earnings calls. And with that, I will ask the operator to open it up for questions. We would ask each of you to limit your questions to one with a brief follow-up. Thank you.