Converge Technology Solutions
(CTS-T) C$6.71
Q1/F22: More Acquisitions on the Horizon Event
We are updating our estimates and target price following Converge's Q1/F22 results. See here for our initial take.
Impact: NEUTRAL
Expecting more acquisitions soon. On its Q4/F21 call, management indicated it expected to announce three acquisitions in North America by the end of Q1/F22 (two have closed, namely CBI and IDX) with another four acquisitions in Europe expected in Q2/F22. Management indicated that it still expects to announce these transactions by the end of this quarter with most of its targeted $1 billion in annual revenue from acquisitions expected to be achieved by mid-year. To date, Converge has acquired five companies for ~$170mm (excluding earnouts) that combined have generated ~ $400mm in LTM revenue and ~$30mm in LTM Adj. EBITDA.
Managing the difficult supply chain well. Converge was able to deliver a record revenue quarter despite facing continued supply chain challenges. The company has been able to leverage its size to help secure supply, at times directly from OEMs (bypassing distributors), however less favourable payment terms (generally ~45 days vs. ~75 days with Ingram Micro) has negatively impacted its working capital. Converge has also increased inventory levels and offered certified refurbished equipment for longer lead-time items. Although its backlog surged again this quarter (up 35% q/q to $472mm), we believe it more reflects the very strong demand environment vs. poor supply chain management.
Challenges with a hardware-centric business. Although management continues to focus on increasing the contribution from more stable and higher margin software and services revenue, we believe hardware continues to account for the majority of the business. While the strong demand environment and large backlog should be a near-term tailwind, we also note the general increased volatility in the business and margins with hardware-centric businesses that can negatively impact valuation, something that has played out again this quarter.
TD Investment Conclusion
We are reducing our target price to C$8.50 (from C$12.00), based on 8.0x (was 10.0x) our F2023 Adjusted EBITDA estimate, primarily due to a decline in peer-group valuations. We believe the stock is fairly valued given the outlook and risk profile and would wait for a further pullback before becoming more constructive.