Tim McGrath - President and CEO Bill Schulze - Interim Treasurer and CFO.

Anthony Lebiedzinski - Sidoti & Company William Gibson - ROTH Capital Partners.

Good afternoon ladies and gentlemen, and welcome to the Second Quarter 2017 Connection's Earnings Conference Call. My name is Terrance, 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 question-and-answer session.

As a reminder, this conference call is a property of Connection and may not be recorded or rebroadcast with specific permission from the company. On the call today is Tim McGrath, President and Chief Executive Officer; and Bill Schulze, Interim Treasurer and Chief Financial Officer.

Any statements or references made during the conference call that are not statements of historical facts, 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 Factors Section of the Company's Annual Report on Form 10-K for the year ended December 31, 2016, 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, even if estimates change, and therefore, you should not rely on these forward-looking statements as representing views as of any date subsequent to today.

During the call, GAAP and non-GAAP financial measures will be discussed. A reconciliation between the two is available in today's earning release and at the Company's Web site. Today's call is being webcast, and will be available on Connection's Web site. The earnings release is also available on the Web site.

I would now like to turn the call over to Tim McGrath. Please proceed, sir..

Thank you, Terrance. Good afternoon everyone, and thank you for joining us today to review the company's second quarter financial results. During the second quarter the company achieved record net sales, and a record gross profit. Net sales grew by 11% in Q2 due to strong growth in all three segments.

Revenues increased by 12% for Enterprise Solutions, 11% for Public Sector Solutions, and 9% for Business Solutions, our SMB segment. We saw strong growth across most of our product lines, including software, networking, desktops, security, and services.

We're seeing an increase in demand in the Enterprise Solutions space as a result of technology refresh and endpoint security. This segment's revenues grew by 12% year-over-year, and gross profit grew by 9%. Sales of software, accessories, and networking products grew 23%, 37%, and 60% respectively in the Enterprise segment.

Sales for Public Sector Solutions increased by 11%, to $151 million. Federal defense spending continues to be a driver of our growth in the public sector. Sales for Business Solutions grew 9% in the quarter, services grew 34%, software grew 12%, and mobility grew 11% in this segment. We're seeing strong growth in the mid market.

In addition, we're particularly pleased with our ability to sell across the solutions stack as we saw growth in all of our advanced technologies, including software, service storage, networking, and services.

As we review our results, please note that unless otherwise stated all of our second quarter 2017 comparisons are being made against second quarter 2016. We also have a full quarter of Softmart results in Q2 of 2017. In Q2, consolidated net sales increased year-over-year by $73.6 million or 10.9%, to $749.8 million.

Gross profit dollars in the quarter increased by 6.2%, to $99.7 million. Consolidated gross margin decreased to 13.3% from 13.9% in Q2, 2016, this was due in part to increased sales by our Enterprise and Public Sector federal solutions, which generally have lower margins.

SG&A excluding severance and restructuring charges increased this quarter to $76.3 million, from $72 million. The increase was due to higher variable compensation from increased gross profit, three months of Softmart SG&A, and our investments over the last year in both sales and our technical areas.

We've introduced additional operating expense disciplines, and we continue to monitor our costs in this mixed IT spending environment. This discipline will enable us to continue to invest in our mission critical growth areas of our business.

Net income for the quarter increased $13.6 million, up 9%, and diluted earnings per share increased from $0.47 to $0.51. Adjusted earnings per share excluding severance and restructuring charges increased to $0.53 per share. And now I'd like to provide an update on the 2016 acquisitions. As you know, we've completed the integration of Softmart.

Softmart's sales force is now completely integrated into our business. We're pleased with the success of both the Softmart and GlobalServe acquisitions in addition to our organic growth of 7%. With GlobalServe we have a portal that enables consistent delivery, reporting, pricing, and logistics for our customers.

We're excited to be able to offer our customers this global capability. This industry-leading tool simplifies our customers' IT procurement and reduces their cost. This acquisition has exceeded our expectation for stimulating demand in the large account space.

We believe that GlobalServe gives us true competitive advantage, and we expect this to be an important component of our future growth strategy. And now I'll turn the call over to Bill Schulze to discuss the results of our business segments and financial highlights.

Bill?.

Thanks, Tim. Sales for our Business Solutions segment, which serves small to medium-sized businesses increased by 9% to a record $296 million. Business Solutions sales grew across nearly all product lines, and included strong sales in mobility, desktops, and software. Gross margin for this segment decreased in the quarter by 44 basis points to 15.6%.

Selling margins were stable in the quarter, however gross margin in Q2 last year was a record 16.1% making for a difficult year-over-year compare. Sales for Enterprise Solutions increased by 12% to a record $302 million. We won several large deals in Q2, some of which were at lower margins.

These wins contributed to our growth in both revenues and gross profits. Gross profit dollars increased by almost 9%, and gross margin was 12.3% in Q2. Sales for Public Sector Solutions, which includes our government and education customers, increased by 11% to $151 million.

Sales to state and local governments and education customers increased by 3%, and sales to the federal government increased by 45% driven by strong defense spending. Gross margins decreased year-over-year by 119 basis points, but increased sequentially from Q1 by 152 basis points. In Q2, we incurred $941,000 of severance and restructuring costs.

The restructuring charges were related to the relocation of our Softmart facility, as well as the completion of the integration of this team. We do not expect any future restructuring charges in the near future. Overall, our bottom line performance exceeded the prior year.

Earnings per share, excluding one-time charges, increased to $0.53, up from $0.49 last year. In addition, trailing 12-month adjusted EBITDA increased to $94 million. Our balance sheet continues to be in good shape.

We ended the quarter with $28 million in cash, operating cash flow decreased for the first-half of the year due to our strong revenue growth, as well as an increase in inventory related to several upcoming enterprise rollouts. Our goal continues to be to maximize shareholder value while maintaining financial flexibility.

We continue to assess M&A opportunities and other capital allocations such as dividends and stock buybacks. As a reminder, we still have approximately $18 million in previously authorized share repurchases. I will now turn the call back over to Tim to discuss current market trends..

Thanks, Bill. We're pleased with our record sales and gross profit for the quarter, and with our ability to execute well in all three sales subsidiaries. In addition, we expanded our customer base in this hypercompetitive demand environment. The company achieved strong growth in software, networking, communications, and services.

We believe our team and the strategies that we have in place position us well to gain market share and increase shareholder value. Our goal is to grow faster than the market by taking share. We're also focused on advanced technologies. We're investing in complex areas of our business in order to help our customers drive their business outcomes.

Our software business continues to grow, including cloud, virtualization, security, and both our software and security assessments. We also continue to target vertical markets such as healthcare, retail, financial services, and manufacturing.

We believe our business model is more relevant than ever as we help our customers navigate through technology that's more complex and more disruptive. Our acquisitions of Softmart and GlobalServe have expanded our capabilities, increased our customer accounts, sales headcount, and enhanced our automated sales tools.

Our balanced portfolio of customers, suppliers, products, and solutions has helped us to deliver solid results. Our goal is to continue to deliver sustained and consistent performance. We'll now entertain your questions.

Terrance?.

Thank you. [Operator Instructions] And our first question comes from Adam Tindle from Raymond James. Your line is open..

Hi, this is Joe filling in for Adam. As you begin to plan for the back half of the year you have historically done a special dividend in the fourth quarter.

Can you talk about how you're thinking about capital allocation priorities, and might there be something outside of this as it doesn't seem that investors give you much credit for it?.

Well, thanks, Joe. We really evaluate several different facets of our capital allocation. Of course dividends are an important component of that and can be very important for our shareholders. We also look at share buybacks, and we weigh that against relevant market opportunities and M&A opportunities at the time.

So at this point we really can't predict what will happen in Q4, but we can assure you that we're going to do our very best for shareholders..

Okay.

And do you have any updates on the search for a permanent CFO?.

We have an executive search firm in place, and we have seen some good candidates. We have not finalized that search, but we'll continue, and we'll certainly update you as soon as we have an end result..

Great, thank you..

Thank you..

And our next question comes from Anthony Lebiedzinski from Sidoti & Company. Your line is open..

[Technical difficulty] Tim, you talked about this -- the fact that you are in a hypercompetitive environment there kind of similar, I suppose, as the first quarter. You did have some nice sequential improves [technical difficulty] however down from a year ago.

So how should we think about just overall the gross margins for the company for the back half of the year? Do you still anticipate those to be down or maybe less down, or how broadly do you think we should think about that?.

Thank you. I'll give you some of the sort of the higher level trend stuff, and I'll let Bill follow up with a little more specificity. To begin with, when I said hypercompetitive, I simply mean that in the large project space, as we're seeing really good demand there. So there are drivers of that.

I mentioned the technology refresh, Windows 10 has been a driver, endpoint security has been a driver, but they have been very competitive. As you know, cloud is viable alternative. And when our customers are looking at solutions they're weighing all their options, and that's very natural for our business.

In addition, a lot of our growth has come from the federal space. And as you know, those large federal projects tend to be bid out as well. So overall, we're optimistic about the back half of the year. We think we can continue to grow our business, and outpace the competitive landscape.

As you know, we're still seeing analysts predict low single-digit IT growth, and we're optimistic that we can outpace that. In terms of some of the specifics on margin I'm going to let Bill comment..

Sure..

How are you doing? So we've been very pleased with obviously our top line growth. And exceeding -- far exceeding the overall estimates of maybe 250 to 300 basis points growth. We did, last year, in Q3; we did a 13.7% margin.

That is going to be tough to obtain given the much of our growth is coming in the public sector, and it's particularly in the enterprise area. The bills are not quite at the margin levels of the SMB area. So I think just due to the sales mix between the segments we'll see that down some, I would expect, in Q3.

Q4, we did a 13.3% around there, and I think that's very attainable for Q4, but again it's going to -- we'll look at that more when we get closer to that at that time..

Right, but I guess partly offsetting [indiscernible] it sounds like you do anticipate the revenue gains will still be there..

Our goal is just to continue to double up on where the overall guidance is. So we've been pretty successful last quarter -- two quarters.

But, Tim, what do you think?.

Yes, I think that's reasonable. Q3, it's certainly a larger quarter for us because of the public sector business, and Q4 is usually very strong as well, the combination of our SMB and Enterprise team..

Got it, okay. And then can you also just touch base on the performance of your different verticals like healthcare and the financials, so maybe you know….

Yes, the two larger verticals for us. So the healthcare vertical we did see a little decline in Q2. And there are a couple of drivers for that, Anthony. One is that last year in the quarter we were looking at 19% growth, so that was a pretty tough compare. There were a couple of very large deals that didn't repeat in the software space.

But more than that, the new administration I think, as you know, has been talking about either repealing or replacing the Affordable Care Act, and I think that has led to some uncertainty in the healthcare space. And I think that for right now the healthcare space is taking a little bit of a pause where they figure out sort of where we go next.

So I don't expect that growth to come back significantly until we really figure out what's happening with the ACA and the next steps. However, we have had some very good wins in healthcare. We've got some GPOs that have re-awarded us their business, and that's really exciting.

So to the extent that the healthcare spending comes back, again, we think we'll be right there, and certainly leading the pack. We've also seen really good growth in Q2 in retail.

We had 44% growth in our retail vertical market for Enterprise, and about 27% consolidated overall, so strong growth in retail, and strong growth in the specific retail solutions. We're seeing good growth in manufacturing, and good growth in financial. So overall, we think our vertical market strategy is mission critical for us.

And other than a little pause in healthcare, we're pretty bullish..

Okay, that sounds good. Thanks very much..

Thank you..

[Operator Instructions] And our next question comes from William Gibson from ROTH Capital. Your line is open..

Hi, Tim. I'd like to follow-up a little on the verticals.

On a sales and marketing front, is that a combination team, do you have people specializing in the vertical, or is it just the Account Manager for the particular company, or how does he draw on the expertise there?.

So, it's a combined effort, Bill. We do have some centralized functions. And those centralized vertical market functions include product management and marketing, as well as some specific vertical expertise. So we do hire vertical market experts, but then they work closely with our sales force.

We do make sure that all of our sales force who are selling into the verticals are trained specifically on that vertical. We believe specialization matters, and we believe that it's mission critical in these vertical markets that our sales force is trained in that space. And that combination has worked really well for us..

Now, I'm a little surprised with the desktop growth, and you talked about technology Refresh, was the Windows 10 driving that, or what do you think is behind that?.

So, there is a combination. For us clearly it's large projects. And Windows 10 has been a driver of Desktop Refresh. Intel Gen 7 has been a driver, and more and more our customer base is talking about endpoint security.

So I'd say that you roll all that up together combined with aging assets that are out there, I mentioned the Refresh that makes a pretty powerful combination. But I want to be clear, Bill, it is the large projects that are driving those desktop growth numbers..

Yes. Okay.

And you mentioned weighing your relevant opportunities, dividend buyback, acquisition; how the acquisition outlook look right now, now that you've got the two last fully integrated?.

Well, we don't feel any immediate pressure, Bill, we think we've got the right business plan, we think we wrapped excellent team around that plan. And so, we are pretty confident on where we are headed. However, we do remain open as we look at tuck-in opportunities or opportunities that were round out of solutions capability.

As you know, it still is a lot of consolidation out there especially in that smaller war arena. So we are keeping all of our opportunities open and our powder dry..

Okay. Thanks, Tim..

And at this time, I'm showing no further questions. I would like to turn the call back to Tim McGrath for any closing remarks..

Thanks, Terrance. So I would like to thank all of our customers, vendor partners, and shareholders for their continued support. And I'd also like to thank you -- excuse me, I left out our co-workers, please bear with me, our dedicated co-workers for their efforts, and I would like to thank everyone listening to our call this afternoon.

Your time and interest in Connection are appreciated. Have a great evening..

Ladies and gentlemen, thank you for participation in today's conference. This concludes the program. You may now disconnect. Everyone have a great day..

Okay. Thank you, Terrance..

You are welcome..