Converge Technology Solutions is a Buy ahead of earnings, says Laurentian

Look for Converge Technology Solutions (Converge Technology Solutions Stock Quote, Charts, News, Analysts, Financials TSX:CTS) to hold back on its M&A program over the next little while, says Laurentian Bank analyst Nick Agostino, who provided on Tuesday an Action Note update on the company and stock ahead of third quarter earnings.

Converge, which is set to report its Q3 2022 on November 8 after market close, is a North American IT solutions provider with advanced analytics, cloud, cybersecurity and managed services offerings. The stock did very well over the early stretch of the pandemic, with shares going from about $1.00 to around $12 by mid-2021. But the last year and a bit have seen CTS retreat to now around the $6.00 mark.

Agostino is expecting the stock to head higher again. With his update, the analyst reiterated a “Buy” rating and $9.50 per share target price, which at the time of publication represented a projected one-year return of 70.3 per cent.

On the upcoming quarterly report, Agostino is modelling revenue at $617.2 million, which would represent a 68 per cent year-over-year improvement and compares with the consensus call at $612.4 million. On earnings, Agostino is lowering his EBITDA estimate to $32.1 million compared to the Street’s $37.2 million, with Agostino noting likely higher SG&A costs to support the revenues from recent acquisitions. 

Agostino said his take on Converge’s Q3 is that recently published results and commentary from key CTS vendors are instructive and in many cases, a good sign for CTS. He pointed to solid results from names like IBM, Microsoft and Alphabet as well as to weakness from Amazon AWS and Apple iPads.

“Similar to prior quarters the key demand drivers stem from strong hybrid computing demand including for the cloud. Regarding M&A, we model ~$195 million in incremental M&A revenues – inclusive of proportional revenues from the recent Newcomp Analytics and Stone Technologies, which occurred late in Q3. We note that key partners Microsoft and Apple have indicated continued supply chain constraints, which impacted their overall results,” Agostino wrote.

Agostino said Converge’s balance sheet looks clean, with $102.3 million in net debt for a 0.8x leverage and cash from operations of $89.7 million including working capital. He said the company likely has about $616 million in dry powder for M&A activity but that it likely won’t be until mid-2023 before Converge gets back into acquisitions, as it will likely focus on integrating recent pickups. 

“CTS currently trades at 6.9x NTM EBITDA vs. peers at 8.2x including outliers. As the 7-8x forward EBITDA range is typically a support level for ITSP companies, we view the current valuation on CTS as an attractive entry point,” Agostino wrote.