Ladies and gentlemen, thank you for standing by, and welcome to the Insight Enterprises second quarter 2020 operating results call. At this time, all participant lines are in a listen-only mode. After the speaker's presentation, there will be a question and answer session. To ask a question during this time, you can press star one on your telephone keypad. I would now like to hand the conference over to your speaker today, Ms. Glynis Bryan, Chief Financial Officer. Please go ahead, ma'am.
Thank you. Welcome everyone, thank you for joining the Insight Enterprises earnings conference call today. Today, we will be discussing the company's operating results for the quarter ended June 30th, 2020. I'm Glynis Bryan, Chief Financial Officer of Insight, and joining me is Ken Lamneck, President and Chief Executive Officer.
If you do not have a copy of the earnings release 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 our investor relations section. Today's call, including the question and answer period, is being webcast live and can be accessed via the investor relations page of our website at insight.com.
An archived copy of the conference call will be available approximately two 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, August 6th, 2020. This call is a property of Insight Enterprises. Any redistribution, retransmission, or rebroadcast of this call in any form without the express written consent of Insight Enterprises is strictly prohibited.
In today's conference call, we will refer to certain non-GAAP financial measures as we discuss the second quarter 2020 financial results. When referring to non-GAAP measures in today's call, we will refer to adjusted earnings from operations, adjusted diluted earnings per share, and return on invested capital. You will find a reconciliation of these non-GAAP measures to our actual GAAP results included in 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 are discussed in U.S. dollar terms.
Finally, let me remind you of our forward-looking statements that will be made on today's call. 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 annual report on Form 10-K and periodic reports subsequently filed with the SEC. With that, I will now turn the call over to Ken, and if you're following along on the slide presentation, we will begin on slide four. Ken?
Hello, everyone, and thank you for joining us today to discuss our second quarter 2020 operating results. I'm pleased to report that through our dedicated team, resilient business model, and the PCM acquisition, we delivered double-digit adjusted earnings growth year-over-year in the second quarter. Given the challenging demand environment in the second quarter, our operating priorities for the quarter were clear.
First, we tightened the health and safety standards in our warehouse and mobilized most of our teammates to work from home, which allowed us to continue to support our clients' most pressing IT needs. Second, we focused on reducing our costs to align with the current demand environment, reducing operating expenses by $26 million sequentially. Third, we focused on cash flow generation, delivering very strong cash flow from operations in the quarter. Finally, we focused on optimizing our earnings results in this tough climate.
Turning to our second quarter results on slide five. Consolidated net sales in the second quarter were $1.97 billion, up 7% year-over-year due to the acquisition of PCM. We focused on growing our services and solution business mix, which helped drive gross margins up 150 basis points year-over-year to 16.5% in the second quarter, a new record for our company.
Adjusted diluted earnings per share was $1.75, up 11% year-over-year. On a GAAP basis, diluted earnings per share was $1.32. Within these results, gross profit generated from cloud solutions increased to 19% of our consolidated gross profit over the past 12 months, now a meaningful component of our profitability.
Given our strong execution bringing cloud and digital solutions to clients, we are proud to announce that Microsoft named Insight their 2020 U.S. Partner of the Year, as well as their Worldwide Customer Experience Partner of the Year. Moving to slide six.
During the second quarter, we maintained our focus on integrating the PCM business, and I'm pleased to report that we've effectively completed the onboarding of all PCM clients to our Insight systems. Over the past year, we have migrated clients off nine ERP systems at PCM, sunset 16 of PCM's different websites, and have consolidated nine of their go-to-market brands into our One Insight. Early this year, we aligned the PCM team to our North American and EMEA go-to-market structure.
Now accounts on common platforms and to our new organizational structure in place, we believe we're well positioned to compete as a single brand in the marketplace. We continue to expect to exit the year with approximately $50 million-$55 million in annualized run rate cost savings ahead of our first-year expectations on the previously disclosed total commitment of $70 million over two years.
Slide seven. Over the past five years, we have invested in our digital marketing platforms and capabilities. Our ability to lead our clients to the right technology choices through digital engagement, internal research, and published content is important to our strategy to attract and win new clients. In the past year, it has also earned us notable recognition from partners, including global Customer Experience Partner of the Year awards from both Microsoft and Cisco.
As we have grown our digital marketing capabilities into a powerful resource, including the reimagining of insight.com last year, we more effectively meet organizations where they are at on their buying journeys.
With timely thought leadership through resources like our 2020 Insight Intelligent Technology Pulse report, measuring the impact of COVID-19 on enterprise business readiness and our quarterly tech journal, we're giving clients fresh perspectives on things like supplier consolidation and managing hybrid workforces at a time when they have more questions than ever about how to move forward.
insight.com is serving as a crucial starting point for clients' research. Overall traffic to our site grew 128%, and live chats with virtual agents grew 550% year- over- year last quarter.
The modernization of our online experience ultimately earned Insight gold status in the web presence category of the 2020 Association of National Advertisers B2 Awards, as well as an Oracle Markie Award for best demonstrated ROI in service. In a new normal now post-COVID, Insight's thought leadership, coupled with our investments in digital marketing over the past five years, position us well to continue to creatively reach and grow strong relationships with our clients.
On slide eight. Heading into the third quarter, some markets in Europe and Asia are open for business, while most major cities in North America are partially open and many businesses are still in a work from home mode for most of their teammates. As a result, we expect demand trends to continue to be down in Q3.
In July, hardware bookings are down year-over-year more than 10% in North America business as clients extend the useful life of their assets in this uncertain environment. Software sales, mostly Software as a Service delivered in the cloud and reported in our service category, have proven more resilient and are expected to perform better than hardware sales in the third quarter.
We do not have visibility to how the global economy and overall IT demand will respond over the coming quarters. With this high degree of uncertainty, we're not going to provide specific EPS guidance for the third quarter or for the second half of the year. To assist with your modeling, however, we currently expect net sales [inaudible] in the third quarter compared to last year due to the addition of PCM of an additional month in the quarter.
On a consolidated basis, we currently expect gross margin in the business to be between 14.7% and 14.9%, up year-over-year due to the addition of PCM and a higher mix of cloud and services sales. Finally, we will continue to focus on controlling our costs to align with the demand environment and currently expect SG&A as a percent of sales will approximate levels reported in the second quarter.
There remains significant uncertainty around the ongoing impact of COVID-19 on the economy and potential resurgence of cases in the back half of the year. Based on what we know right now, we would expect the fourth quarter results to follow historical top-line trends of low single-digit growth compared to the third quarter. We are pleased to see each of our segments rise to the operating and demand challenges presented by COVID-19 in the first half of 2020.
I want to thank our teammates across the globe for their commitment to Insight and our clients. As we head into the back half of 2020, we have a resilient team, a strong balance sheet, and access to sufficient levels of capital to meet our foreseeable operating requirements during these challenging times, and we're confident that our solution area expertise will allow us to support our clients' needs both in this environment and when the economy eventually rebounds. I will now hand the call back over to Glynis to provide more detail on our financial performance.
Thank you, Ken. I'd also like to thank our global teammates for their dedication and resilience during these last several months. I'm going to start on slide 10. Last quarter, we identified key initiatives to help protect our profitability during these uncertain economic times. As Ken noted, we decreased our operating expenses by $26 million in the second quarter compared to Q1 of 2020.
About 1/2 came from lower salaries, the majority of which was due to fewer headcount from planned integration actions and the right sizing of certain support functions for current demand trends. The balance of the decrease splits fairly evenly between lower travel and other discretionary expenses and lower variable compensation and lower budget attainment in the first half of the year.
As we move on to slide 11, in addition to the cost savings initiatives and the enhanced credit review procedures, we made debt reduction a priority use of available cash. In the second quarter, we generated strong cash flow and reduced debt by $350 million, ending the quarter with approximately $435 million of debt outstanding under a revolving ABL facility and our convertible notes.
At the end of the quarter, we had $164 million in cash on hand. We also ended the second quarter with eligible accounts receivables to support access to the maximum availability under our $1.2 billion ABL facility. Exiting the quarter, we are comfortable with our current leverage position of less than 1.5x debt to cash flows or EBITDA.
Under our ABL agreement, our primary compliance covenant is a fixed charge coverage ratio, which includes trailing 12 months EBITDA over capital expenditures, taxes, and interest expense.
As of June 30th, we were at 4x against the minimum requirement of one time, are very confident that we can support our capital requirements and liquidity needs. As we highlighted last quarter, our cash cycle is inverted, meaning we pay our partners on terms shorter than we receive from our clients, which allows us to [inaudible] more cash flow when sales decline.
We saw this dynamic in the second quarter, which helped drive the record cash flow generation of $404 million in the quarter. In this working capital dynamic, we also benefited from more than $2 million in cash flow items related to timing differences between quarters. For the full year, we expect cash flow generation will be in the range of $240 million-$280 million, comfortably exceeding the top end of our previously announced annual guidance range of $180 million-$200 million.
Moving on to slide 12, we'll review our operating segment results. Starting with North America, net sales were $1.5 billion in the second quarter, up 10% from the prior year quarter. Year-over-year, hardware sales increased 9%, software sales were down 1%, and services sales increased 27%.
Net sales growth was driven by the PCM acquisition. Since the closing of the acquisition, the PCM book of business has been mostly integrated into Insight systems. As a result, we no longer report results for the acquired PCM business on a standalone basis. Gross profit of $245 million in North America was up 23% year-over-year, and gross margins improved 170 basis points to 16.9%, primarily due to increased mix of cloud and services sales of the business, the addition of PCM, and higher vendor funding realized in the quarter.
North American selling and administrative expenses, excluding amortization expense, increased 26% year-over-year, primarily due to the PCM acquisition. Adjusted earnings from operations increased 15% year-over-year to $67 million for the quarter. As Ken suggested, we are still on target to realize between $40 million-$45 million in PCM cost synergies in 2020, and we expect to exit the year with annualized run rate cost savings between $50 million-$55 million against our two-year commitment of $70 million.
Moving on to EMEA on slide 13. In EMEA, net sales in the second quarter grew 6% in constant currency to $392 million. A 7% increase in hardware sales and a 13% increase in services sales were partially offset by a 2% decrease in software sales as clients chose cloud solutions over on-prem software.
The increase in hardware net sales was due primarily to higher volume of device sales to public sector clients. The increase in services net sales was due to higher sales of cloud solutions, increased software referral fees, and higher volume of sales of Insight-delivered services.
Gross profit in EMEA in the second quarter was $68 million, up 8% year-over-year in constant currency, and adjusted earnings from operations was $21 million, up 26% from the same period last year, also in constant currency.
In this disruptive economic environment, we're very pleased to see our EMEA business deliver these record-level financial results. Moving on to APAC on slide 14. In APAC, net sales in the second quarter declined 23% in constant currency to $38 million, reflecting lower volume of public sector and enterprise clients.
Gross profit was flat year-over-year in constant currency, while gross margin expanded from the prior year quarter due to an increased mix of cloud and services sales in the quarter. Adjusted earnings from operations decreased 4% in constant currency year-over-year. Our effective tax rate for the second quarter of 2020 was 26.2%, which was in line with prior year quarter of 25.9%.
A little bit more detail on our cash flow performance on slide 16. Year to date through the second quarter of 2020, our operations generated $498 million of cash compared to $183 million last year. In the first half of 2020, we invested approximately $14 million in capital expenditures, up from $11 million last year. We have decided to defer the build-out of our new corporate headquarters until early next year as we focus on optimizing our execution in this unusual environment.
As a result we now expect CapEx for the full year to be between $20 million-$25 million. As an update, we have six of our buildings held for sale as of June 30th. We're continuing to actively market these facilities, but in these times, the timing of a sale remains uncertain.
We've also invested $6 million to acquire vNext in France in February, and we received $14 million in net proceeds from the sale of one of our buildings. Lastly, we used $25 million to repurchase our common stock in the first quarter. All of this activity led to a cash balance of $154 million at the end of the second quarter, of which $120 million was resident in our foreign subsidiary. As I noted earlier, approximately $435 million of debt was outstanding under a revolving credit facility and convertible notes.
This compares to $112 million of cash and $45 million of debt outstanding at the end of the second quarter of 2019. As a reminder, we've taken several actions and are reviewing additional opportunities to help preserve our profitability through the downturn while positioning our business to emerge healthy and competitive as market conditions improve.
Specifically, on the cost side, we have reduced discretionary spending across the business. We're allowing natural employee attrition to flow through, and we're assessing replacement hiring in the context of current demand. We've right-sized our operational and delivery platforms to expected volume trends, and we've accelerated our existing PCM integration plans around back office sales and services, and that will allow us to meet our revised synergy goals for this year.
At the same time, we plan to make select strategic investment in sales and technical resources across our solution areas to ensure we optimize our participation as market conditions improve and f inally, we will be judicious about our use of cash, deferring discretionary capital investments and using available cash to pay down debt as our priority.
Our balance sheet is healthy, and we have access to capital to operate in these uncertain economic times. We believe all these steps will help us emerge strong to compete as the economy recovers. I'll now turn the call back to Ken for his closing comments.
Thank you, Glynis. Slide 16. We remain committed to our long-term priorities discussed at our Analyst Day last fall, which include continuing to innovate in order to capture share on high-growth areas such as cloud and the intelligent edge, developing and delivering solutions to drive better business outcomes for our clients, expanding the scale of our business with strategic clients and end markets, and lastly, continuing to optimize client experience and our execution through relentless focus on operational excellence.
For the remainder of 2020, we believe the overall IT market will be challenged given the current COVID crisis and its adverse impact on the global economy. We've taken the appropriate steps to reduce our discretionary spending, ensure we have access to capital to support our short-term operating plans, and are confident we will weather this tough economic environment and emerge healthy on the other side.
Thank you again for joining us today, and thank you for all of our teammates across the globe for their support of our company, our partners, and our clients. Be safe, and we look forward to talking with you again later in the fall. That concludes my comments, and we'll now open up the line to questions.
Ladies and gentlemen, if you'd like to ask a question, please press star one on your telephone keypad. We'll pause for just a moment to compile the Q&A roster. Your first question comes from Adam Tindle with Raymond James.
Okay.
Hey, Adam. Before you ask your question, can I just make one correction?
Yep.
When I was talking about cash flow, and I talked about the activity that was timing differences in the quarter, I said $2 million. That should have been $200 million, just to be clear.
I think I was able to back into that, but I appreciate the clarification.
I just want to clarify for everybody listening in. Go ahead with your question now. Thank you.
I'm going to start with Ken. In the press release, and you talked about a pronounced impact in Q2 compared to internal budgets. When I hear that, I would usually expect to see a disruption in operations and cash flow, but operating margin was up year-over-year, and Glynis just covered how cash flow was very strong. I guess the question would be maybe color on the internal budget and the biggest areas of variance, and why we didn't see that show up in operating metric issues this quarter.
Internally, we had a higher growth expectation around the combination of Insight and PCM in our business. That is really the biggest[inaudible]
We had aggressive targets.
We had aggressive targets around the acquisition, and given this environment, we grew, but we didn't grow as much as our internal budgets would have anticipated.
Okay. Were you able to, Yeah. It seems like you were able to manage some costs in the operational-
Yes
aspects to avoid.
Yes.
growth.
Yes. We've been very aggressive about managing the operational costs. In the quarter, we had some help slightly from PCM on the gross margin line, it's also the decline in hardware relative to the increase in services and the mix of the services business with cloud that's driving the gross margin improvement across all the regions.
Okay, thanks. Ken, I just wanted to ask you, it was helpful when you talked about the July trend line for North American hardware declines at down 10%. Could you maybe just give us some context to compare that to either May or June to give us a sense of the cadence of that? How does that compare to what you've been experiencing? Secondly, when you look at your forward indicators, your backlog, does that down 10% year-over-year in July start to improve in August and September?
As you might recall, Adam, in our last earnings call, we talked about actually that what we were seeing trajectory-wise was actually a 20% sort of bookings decline going into the quarter. Certainly, that is an improvement. We're seeing down 10%, still down, but certainly an improvement from what we saw, and which did play out certainly across the board for the quarter we just announced.
Yes, I think you could extract from that, but the trend line certainly seems to be improving in regards to the negativity of the booking trends. To your other question in regards to that, it's hard for us to predict August, September, what that's going to look like. What we saw from the trends just in July, of course, that was what we experienced.
Okay. I guess bigger picture, you talked about kind of suppressed IT spending through the remainder of the year. As you're talking to customers and your sales team's talking to customers, do you get a sense of IT budgets on a go-forward basis? It seems like you'll obviously have a pause and a freeze right now as customers are normalizing and reevaluating, because what do you think happens to budgets and IT spending?
Is there a case that we're going to have a longer period of pressure, or do you think we're going to have a surge in projects returning and go back to a 3% trend line? I know that's a hard question, just any kind of color what you're getting from the sales force and customers.
Yeah. I would say that certainly a lot of it is obviously dependent upon the COVID-19, and when people start to come back to offices. I think that will certainly have an impact on the actual spending of certainly the infrastructure side of it, as I think certainly clients are sweating those assets probably longer than they normally would.
As they start coming back to offices, I think that will certainly start to open up, and that will start to improve. The device side, I think, continues to be pretty strong. Certainly the second half will see a pretty robust increase in Chromebooks as education starts to certainly realize distance learning becomes much more the norm going forward. I think there's certainly a huge increase in Chrome products being sold into the K-12 market.
I think that's going to certainly bolster in the second half the device spending category. For that point of view. I think from the infrastructure side, that's probably going to be pretty much the same for the second half of the year. Of course, as we indicated, software, certainly a much more resilient cloud, which again, is 19% of our GP, much more resilient, than certainly what we're seeing in hardware.
Okay. That's helpful. Thank you very much.
Your next question comes from the line of Matt Sheerin with Stifel.
Yes, thanks. Good morning. Just wanted to ask about the strong gross margin in the quarter and your guide for it to be down roughly 150 basis points sequentially. I imagine that's a mix issue, but you also talked, Ken, about continued weakness in infrastructure, hardware, and other hardware products. You would think that that mix would continue to favor you. Could you talk about that dynamic?
Yeah, I think on the gross margin, for Glynis to chime in as well. I think, certainly Matt, it is the mix issue. Certainly, second quarter is our largest quarter. It's Microsoft's year-end, so there's a big acceleration that occurs in there. Of course, a lot of that comes in as netted. That certainly has a big impact, and always historically has had a bigger impact than our gross margin for the second quarter.
The comment around hardware, yeah, there's no question that certainly software carries a higher gross margin for us overall in services than hardware does. On the infrastructure side, a lot of that, of course, will tend to be a pretty decent gross margin overall. The devices tends to be certainly much more competitive in that regard.
In the infrastructure side, you do get the ability, of course, to get deal registration on a lot of the projects and so forth, which carry a pretty good gross margin. Devices certainly doesn't carry that same gross margin level. Glynis, I'll let you add as well.
I think historically, Matt, we've seen usually about 100 basis points decline in gross margin between Q2- Q3. Q2 is our largest quarter. In this Q2 in particular, our margin was helped by the fact that there was a lower percentage of hardware in our gross margin and a higher percentage of services, and specifically cloud-related services that are 100% margin, that drove that higher gross profit.
We're anticipating that hardware is going to be a bigger component of our overall gross profit in Q3 relative to the 10% decline versus the 28% that we had talked about at the beginning of Q2. That will have a bigger impact on overall gross margin in Q3 relative to what we saw in Q2.
Okay. Thank you. That's helpful. Ken, just on the cloud revenue, the SaaS products that you're selling, could you be more specific about where clients are investing, and do you see those trends continuing out the end of the year?
I think certainly in the COVID-19 crisis, when everybody was certainly working from home, I think clients took the perspective of how do they get their organization in a very secure way up and running in a remote fashion.
The cloud became a very good solution when you looked at VDI and so forth providing the necessary security. It was very simple, easy to use, and easy to get running. I think you saw a tremendous impact there, certainly. That certainly has shown a pretty robust increase from that perspective. Another area is, of course, it's easier for them to get up and running, to go to the public cloud.
It's a situation where they're trying to look at their cost structures as well and rather have it sort of as an operational expense versus a capital expense, at this stage where there's so much uncertainty. I think that's continuing. Of course, from a cloud point of view, we're all just seeing the dramatic increase in tools such as Microsoft Teams and Cisco Webex, and so forth, which of course drive a significant cloud consumption as well for all of our clients.
I think that's going to certainly play out and continue. Certainly a lot of that will be sort of permanent structures in place for clients as well. I think as they start looking, we know some clients, when they look towards VDI, realize that might be more temporary to do that in a public cloud setting as it is quite expensive.
I think clients will start relooking at that as they start to come back more into an office setting.
Yeah, relative to that, are you seeing issues with customers basically not being on premise, so some of those integration projects that you do, particularly the Datalink business that you have? Are you seeing some issues there, and as companies open up again, you think some of those projects will be reinstated?
Exactly. That is exactly what we expect to happen. There is certainly certain key projects still going on, as we know, as we experienced in prior downturns and going back to 2000 and 2008, 2009, there is usually a robust increase here once we do come out of this, where you cannot delay those projects forever.
You can only put them on hold and pause. We do believe that there will be a significant resurgence there once the market does turn around, and clients do have to put those projects in a much more active category.
Okay. My last question for Glynis, relative to the balance sheet, your cash position was up. You've taken down some debt. Could you tell us about the strategy in terms of what you expect the debt reduction to be for this year, and also interest expense estimate for Q3?
I think that what I would say is that we talked about the $200 million timing difference. Most of that comes back in Q3, so you should anticipate that that'll be an increase in our debt usage in Q3. When you look through our back end cash flows, generally we use cash in Q3, and we generate a little cash in Q4, such that we're relatively flat from where we are at the end of Q2.
That should help you as you think through what debt would be at the end of the year, and hence the associated interest expense. Just as a reminder, our convert has a cash coupon of 0.75 basis points, so 75 basis points. Our revolver debt is at 125 over LIBOR. Sorry, our ABL debt is at 125 basis points over LIBOR.
Okay, great. Thank you.
Your next question comes from the line of Paul Coster with JPMorgan.
Hi, it's Paul Coster here. Can you hear me?
Yes.
Yeah. Hi, Ken and Glynis. Thanks for taking the question. Well, let me start with the free cash flow. Glynis, sounds like you're looking for an increase in the free cash flow for the full year, the $200 million having worked through the system.
That's in excess of what you previously were forecasting, it sounds like you're going to use it to pay down maybe some more debt. I don't think anyone's going to complain about that, except I will, because why not buy back some shares? I mean, the stock looks really inexpensive at the moment. Why not use some of that excess to focus on equity ahead of debt?
We agree with you that the stock looks cheap right now. I think that until we feel a little bit more certainty about what's happening in the environment, in the economic environment, and when the recovery is actually going to occur, I think we're just being prudent and conservative with regard to our use of cash.
There are other opportunities in the marketplace that we'd want to take advantage of if they came to fruition. I think we just want to make sure that we are as best positioned as possible to take advantage of that. We do have $25 million still outstanding under our authorization from the board for a share repurchase. As of right now, we don't have a plan to implement that.
Okay. Well, I think you know my opinion. The other thing, Ken, I was really fascinated by the success you're having in going to market through the Internet, in a digital way, and it feels to me like you're developing a competitive advantage here, certainly relative to the very fragmented, sort of smaller IT VAR market, but maybe even relative to some of the bigger players out there. Can you talk to us a little bit about that and what you think that might mean in terms of operating margins over the longer term?
Thanks, Paul, for the question there. We've been investing, as we indicated, for the last pretty much five years on building out that platform. It's an extensive array of IT systems and SaaS solutions that come together to really deliver that experience. We view it certainly as a differentiator because there's only a few of us in our space that could really have the wherewithal and the economics to really drive that kind of a platform.
We started to view that certainly to be a long-term competitive advantage, as smaller players would be challenged to make those kind of investments longer term. As we know, as clients look to obtain more and more information we know that most clients now are going to the internet for their source of information before they go to a sales rep.
It's critical for us to make sure we're part of that conversation, that dialogue, in order to obtain that connection to our clients. That's been the journey that we've been on, and we're seeing significant results from that when we look at our lead flow and our ability to really cater our clients' needs and really understand them and to nurture them along their buying journey. That's become a significant advantage and one that certainly our partners recognize and bet pretty heavily with us on going forward.
Hard to exactly quantify it, but I think we'd all agree that that's really a key part of the future, that it's sort of that companion for sales, is they've got to have a strong digital marketing capability for the sales organization long term, or you're not going to have the same relevancy because the phone being an important tool is very much a little bit outdated in regards to trying to obtain that first connection to clients.
As we all know, none of us answer our phones today. Very difficult. Still an important way to communicate, but it's certainly not what it was five, 10 years ago.
Gotcha. If I can sneak in one last question. The cloud you're having some success with. It's sort of a two-part question. First, how much of that is Microsoft? The other part of the question is, in the past, we've seen some companies sort of struggle with that transition to cloud because of the netting out of the revenues. The revenue line doesn't look so good, but margins look great. It doesn't seem to be impacting you at the aggregate level. I'm just wondering if you can comment on those two questions.
You're right. It's netted, and it does actually produce higher gross margin. I would say that how it has impacted us is that if you looked at kind of customer-generated revenue, you would see growth in software in many quarters where we report no growth, flat or slightly negative growth on a net basis.
That is the impact of more business moving from on-prem to off-prem. We saw that in Q2, it impacted overall software growth for us at the top line, it helps us ultimately at the gross margin line in terms of the 16.5% gross margin that we reported. Because we have a complement of hardware and services, maybe we don't see the reduction in our revenue that much.
We internally look at that growth versus net around software, one, to track the conversion to the cloud and what business that's generating, but also so that we can understand the productivity of our sales force in terms of how they're selling to the end client. That trend is something that we expect will continue, because over the course of the next decade, I don't know how long it will take, most of that on-prem software is going to convert to some kind of cloud subscription-based solution.
Where that becomes important to us, Paul, longer term, is the managed services that that would drive, which of course, is a recurring revenue stream for us. That's where we're most focused on that, because I think the cloud consumptions will become competitive going forward. The real key for us will be how we attach ourselves, providing this managed service capability to our clients globally. That's the area that we're invested in and continue to build out.
The recurring revenue stream that we'd like to capture.
Right.
Microsoft?
Well, Microsoft, if you think about what Microsoft's percentage of the total software publisher ecosystem, I would say it's comparable, in terms of our composition, the composition of our portfolio. We clearly do other vendors as well as not just Microsoft, but they're the behemoth in the industry. They're the behemoth in our cloud results as well.
Okay, gotcha. Thanks.
I don't have a specific percentage for you.
Your next question comes from Marc Wiesenberger with B. Riley.
Thank you. Good morning. In the current environment, can you talk about the opportunities to expand wallet share with your customers, and which opportunities may be more durable relative to others, and then the potential impact on the P&L?
I think it's certainly been an area, Marc, of always focus for us, of course, is how do we obtain more of our clients' business through. That's why we really went to our four solution areas, because we believe our clients all buy these four solutions, supply chain optimization, connected workforce, which is about the modern workplace experience, cloud and data center transformation, and digital innovation.
The ability to sell all of our clients through SMB, all the way through public sector, they're all buying in those areas, so having the levels of expertise becomes critical. As we all know, the fastest way to expand is to sell more to your current client set. That's an area that we continue to be very focused on and delivering certainly more value to our clients.
Understood. With budgets across all organizations being stretched as well as the duration of work, learn from home kind of continually evolving, has the current situation provided any impetus or opportunity to accelerate the device as a service offering?
Yeah, I would say it certainly has. That's all in our, what we call connected workforce. We sort of start with that end game of saying, "Hey, we can provide device as service." What we find depends on where we have to meet the client where they're at, because a lot of clients aren't completely ready for their environment to do that.
What we'll do is we say, "We think that's the ultimate end game for you, but we can help you along this journey." For some large clients, it may take them actually a couple of years before they can actually get there due to their internal workings and their structure. We actually map out for them what it would take, and then we'll meet them where they're at and actually migrate them towards that end game, towards that.
The other part of your question was, I think, around what areas of technology are you seeing very resilient sort of in this environment? Certainly, there's a few that are very key. At the top of the list, of course, is security. The cyber attacks continue, as we know, at an accelerated basis. We see all clients, no matter how distressed their environments are, continue to invest in security.
That's certainly one of the top areas that we're focused on as well. Collaborative environments, of course, as we all know, we discussed with things like Teams and Webex and so forth, are critical for clients. More devices, more robust devices for their teammates to work from home, is certainly becoming very key. Things like in the networking space, SD-WAN is getting lots and lots of attention for clients.
It's a very cost-effective solution for them to network their devices together. Those are certainly some of the key areas. Of course, as we talked about, everything's cloud, is accelerating dramatically. You see the growth rates of + 45% for the likes of Google and Amazon and Azure. That's certainly very substantial growth rates that we're certainly participating in. Those would be certainly some of the highlighted areas that we're focused on because our clients are so focused in those areas.
Understood. Just two more from me. Can you talk about the reception in the market you're seeing to the Connected Platform for Detection and Prevention, and maybe what the margin profile for those types of engagements looks like?
A good question there, Marc. It gives us an opportunity to explain. The Connected Platform is basically Insight's IP, where we provide basically a single pane of glass. This is all around IoT. We take the ability to take all this tremendous amount of data and turn that into very useful information for our clients through this Connected Platform.
It basically takes these devices at the edge, in this case around COVID, of course, it's around thermal imaging, which obviously helps with all the temperature testing, and then does optical cameras to do basically tests for social distancing, tests if people are wearing masks.
It can actually do contact tracing as well. All those pieces. We've got quite a few clients very interested. We're obviously using that in our facilities. In all our major facilities, we use that technology that we've developed.
We certainly have quite a few clients right now very actively looking at that. Some very large theme park type companies are looking at how they bring back the public to their environments and so forth.
There's a lot of really strong interest in that area, and certainly, we've had some good success in delivering that solution. The key is it's really just around IoT, and in this case, COVID just happens to be one of the solutions to that. It's a robust platform that works in all IoT environments.
We've deployed it in a lot of major restaurants who are worried about food safety and how they actually can measure their ovens and their refrigeration units and provide all the sensing information they need there, to operating rooms that are concerned about bacteria and how do they measure precisely temperature and humidity.
The Connected Platform is a very broad platform that actually helps in the IoT world. As we keep talking, the biggest cloud that's on the horizon is the intelligent edge, and that is all about IoT. That's an area that we think has a very promising future, and one that we're certainly very heavily invested in. That's a long-winded answer to your question, but yeah, lots of good interest in the Connected Platform and certainly around the intelligent edge.
That's helpful. Thanks. Then just a final one. In the release this morning, you talked about the core business being down. Could you quantify that in the quarter?
Yeah. Basically, what we indicated was that the booking rates in July have indicated to us that they're down 10%. We, of course, did say that we would have growth in Q3, certainly a lot of that due to the fact we have two more months of PCM in the numbers. We will have growth, top line growth, in the quarter. Overall, when we look at the trending information, the booking rates are down to 10%, whereas last quarter, actually, the trending was down 20%. Improving, but still a negative number.
Marc, the only thing I would maybe add to that is, we don't have a pure view as to the core business being down. What we do know is that the combination of Insight and PCM reported last year on a year-over-year basis, we know that that combination is down, and it's down consistent with the 28% booking trend that we talked about at the beginning of the second quarter, sorry.
Got it. Thank you. Very helpful.
Okay. Thank you.
Your next question comes from the line of Anthony Lebiedzinski with Sidoti.
Yes, good morning. Thank you for taking the question. Just wanted to get a little bit more color about the third quarter to date trends. Can you perhaps give us a sense as to the performance from the different vertical markets, different end markets, how those are performing?
Yeah. Thanks for the question, Anthony. Certainly the education market is doing very well. The K-12 market as distance learning becomes more and more the norm. The big investments there. Google Chrome is, by anybody's statistics, 75%-85% of that market. Very robust success going on in K-12 markets for devices there.
I think when you look at the federal government spending, as a lot of those dollars around COVID start to get spent, we're seeing certainly some increases at the state and local level as well as in the federal government. This will be a key period for that, for the government spending this quarter. We're anxious to see if that really comes to fruition.
When you look at the sort of corporate accounts, certainly I think we all recognize that the lower end of the SMB space has probably been the most challenged in this environment. How that starts to bounce back, I think is anybody's guess.
Certainly I wouldn't expect that to be an improvement in Q3 at this stage. Then I think it depends upon this, when you talk about corporate accounts in specific verticals, it depends on healthcare, of course, overall depends on the sector that you're in, is actually very challenged, as hospitals, of course, make most of their money sort of on elective surgeries, and they have been certainly sort of on and off.
Hospitals, dependent upon what aspect you're calling on, certainly their IT spend has been challenged, but we'd expect that that would start to bounce back once more of a norm of elective surgeries is on the scene in a more consistent basis. The hospitality industry, of course, is very challenged. Airline industry challenged.
Anything associated in that space you'd expect. We do see that we have lots of business, as an example, with the cruise lines. Obviously not a lot happening in that space, their spend is down considerably. There is focus towards the future and what's going to happen there, and there will be a bounce back for that business. Certainly not this calendar year, but certainly as we look into next year.
I think we have to be very granular in looking at specifically on the verticals when we talk about the corporate account space. It's certainly a little bit more of a mixed bag in that regard.
Got it. That's very helpful. You touched on the SMB clientele. With that in mind, how should we think about the bad debt expense for the rest of the year?
I think today we've had a pretty good handle on our bad debt expense. We've had a couple bankruptcies associated, which we've been able to cover in the normal course of our business. We have a process around our SMB clients with regard to how we've reviewed individual clients.
We have an industry focus with regard to which industries are high risk, et cetera. I would say that we're not seeing bad debt or bankruptcies so much in that segment. What we're seeing a lot of is deferred delayed payments and requests for extended payment terms, typically for a short duration, quote-unquote, "As they get back on their feet." We're also seeing that with large enterprise clients as well. Everybody is some taking advantage and some legitimately asking for relief.
For our large customers, we are providing that, and we have a process that we go through to scrutinize the request, and then we grant it as necessary.
Part of it is making sure that we support our clients during this downturn, being judicious about the credit that we extend on a go-forward basis, and looking through at the history of their performance with us to make a determination about how much are we willing to put at risk with them going forward. It's a very measured risk, and we believe we have that well in hand through our teams.
All right. Well, thank you very much, and best of luck.
Thank you.
Thank you.
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