Earnings Call: Q2 2014

Aug 5, 2014

Hello, and welcome to the Paycom Second Quarter Fiscal twenty fourteen Results Teleconference. All participants will be in listen only mode. After today's presentation, there will be an opportunity to ask questions. Please note this event is being recorded. I would now like to turn the conference over to Mr. Craig Bolte, Chief Financial Officer. Please go ahead, sir. Thank you, and good afternoon. Before we get started, I would like to note that certain statements made during this conference call that are not historical facts, including those regarding our future plans, objectives and expected performance are forward looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward looking statements represent our outlook only as of the date of this conference call. While we believe any forward looking statements we have made are reasonable, actual results could differ materially because the statements are based on our current expectations and are subject to risks and uncertainties. These risks and uncertainties are discussed in our final prospectus that was filed with the Securities and Exchange Commission on April 15, 2014. You should refer to and consider these factors when relying on such forward looking information. We do not undertake and expressly disclaim any obligation to update or alter its forward looking statements whether as a result of new information, future events or otherwise, except as required by applicable law. Also during the course of today's call, we will refer to certain non GAAP financial measures. A reconciliation schedule showing GAAP versus non GAAP results is currently available in our press release that we issued after the close of the market today, which is located on our website at www.paycom.com. I will now turn the call over to Chad Richison, Paycom's President and Chief Executive Officer. Chad? Thanks, Craig, and thanks to everyone joining us both on our conference call and online. I'm excited to spend this time with the investor community as we believe that the human capital management industry is at the beginning of a multi year transformation and that this presents opportunities for well positioned providers to capture the value offered by this change. We believe that Paycom is leading the charge of this transformation due to our superior technology and unique approach and is poised to grow faster than the industry by continuing to grow our market share. As you can see from our earnings release, this was another outstanding quarter for Paycom. Demand for our software as a service technology and end to end human capital management solution remains very strong. And our differentiated offering is resonating in the marketplace. We saw accelerating growth in the 2nd quarter with a 39.3% increase in total revenue to $33,300,000 approximately 98% of which was recurring. Annualized new recurring revenue, which is an estimate based on the annualized amount of the 1st full month of revenue attributed to new clients also increased in the 2nd quarter to 11,500,000 dollars up from roughly $8,300,000 for the same quarter last year. The results are driven by the power of our single database end to end solution and the associated superior data that comes with a single database that spans the entire employment lifecycle. This data is key to our value proposition. We capture employee data from the applicant all the way to retirement and everything in between, providing functionality and talent acquisition, time and labor management, payroll, talent management and human resources. All of the functionality is included in one solution, which eliminates the need for integration with other systems, making it easy to use and more efficient to manage. For employers, this means that when an applicant is hired into the system, his or her data is populated across all functionality from payroll to performance management. Employees love this because there's one less browser and one less database to log into. Plus our solution puts all relevant, accurate and secure information at their fingertips such as their pay rates, deductions, benefit selections, performance reviews and much more. Now before I do a deep dive into our technology, I want to back up and spend a few minutes describing our view of how HCM will evolve over the next few years and how this evolution will transform the way that companies manage their employees and leverage HCM to drive business. Let's turn back the clock about 15 years to the year 2000. At that time, Internet usage was ramping and the cloud was virtually non existent. Based on our experience, we believe at that time, human resource professionals accounted for virtually all usage of HCM functionality and data. We believe the C suite usage was very small, mostly in the form of high level printed reports and employee usage was very low as well. Fast forward to today, the Internet is everywhere and the use of cloud computing and SaaS models are continuing to grow. Looking at usage of HCM applications and data today, we estimate that HR professionals usage still accounts for the overwhelming majority of total use. C suite usage has grown slightly, but employee usage has grown substantially. What does this mean on a practical basis? And how does this form our vision of HCM? Simply put, we believe and have been executing with this belief for years that the optimal model of HCM is one where the employees are empowered to enter their own personal data into the system as well as retrieve such information at will. With Paycom, our clients' employees enter everything from new hire data and time off requests to expenses and changes in beneficiaries. This model is much more accurate and allows employees to access much more data than they had previously. It also allows HR professionals to spend less time on data entry and occupy more strategic roles within the organization. As you look at the next wave of workers, today's youth are growing up surrounded by technology. It is clear they will be overwhelmingly comfortable with entering their own data. Based on our view of industry trends, we expect that over the next few years, employees will be entering much more of their own data and account for significant usage of HCM systems. Employees want and expect to be able to manage their information, empowering them with the ability to do so helps keep top talent motivated and engaged, a proven driver for reducing turnover, improving productivity and increasing customer satisfaction. In addition to improved employee engagement, we anticipate that these changes will ultimately drive efficiencies, lower costs and potentially unlock new ways of doing business that will improve our clients' day to day operations. We believe Paycom is the most favorably positioned company in the HCM space to take advantage of this trend due to the fact that we provide the functionality and data analytics that businesses need to manage the complete employment lifecycle. As you know, a key difference between Paycom and our competitors is the way we have approached building our HCM suite. Many of them have chosen to simply integrate their own products or integrate products from other vendors for core functionality like talent management, applicant tracking or benefits. Our suite is built as one unified solution using our Paycom framework. Aside from not being dependent on others to deliver our core functionality, this approach gives us key engineering benefits such as a more seamless user experience and significant code reuse between modules. Each time we build within our framework, we get faster and more efficient at building HCM applications. A most recent example of this strength was displayed during our new client redesign, where we chose to build new code generation tools that automatically write much of the predictable coding we would have done, leading us to faster development and greater overall consistency. This client redesign follows the employee redesign from last quarter and we've received extremely positive feedback from our clients who now have the ability to access the system anywhere, anytime and from any device. This development framework has allowed us to create a broad unified suite that allows us to approach clients with a full featured solution from the onset and allows our clients to transform their payroll and HR efforts immediately upon implementation of the Paycom system. Even with our expanded solution, we continue to improve. At Paycom, we can leverage the work we put in several years ago in establishing our single database architecture and create new applications and features more quickly for minimum cost. Additionally, as you might expect, all new applications and functionality work well with our existing suite, which makes for easy conversations with clients as we present our solution. Our software development team continued to innovate and deliver and we launched several new features this quarter, including Paycom Push Reporting, which is a smart analytics feature that generates reports based on client specified metrics. Push reporting eliminates the need for someone to pull or generate a report. It does the work for you. Client feedback on our push reporting functionality has been extremely positive so far and we've already seen new client wins because of this feature. Last quarter, I highlighted our employee self-service redesign with responsive coding that dynamically adapts to any screen resolution that the employee may be using. As I mentioned earlier, this quarter we rolled out this enhancement to the client side and the response has been tremendous. Our clients are now able to be more productive than ever with the ability to access key HCM data and processes from any location and the device that best suits their needs. These are two recent examples of how our clients are pulling our technology development teams deeper into their development efforts and strengthening our competitive position in the marketplace. As I highlighted last quarter, we view our sales organization as a key competitive strength and I'm pleased to report that the momentum of our sales efforts has continued this quarter. As we continue to increase new business sales across our mature and growing offices, while adding new clients at a robust pace. I'm particularly proud of the speed with which we are ramping up new team members at the 5 new sales offices opened in the first half of twenty fourteen and the skill with which our experienced team members are helping our new associates learn the Paycom culture and how to sell the Paycom way. As a reminder, although new sales teams won't reach maturity for 24 months, we look forward to them making revenue contributions toward the end this year. To sum it up, Paycom is continuing to succeed in our mission to bring enterprise class solutions to the market in a profitable and efficient way. Our investments in technology and expanding our sales footprint are already yielding positive results. We believe we are at the beginning of a multi year growth cycle as new and potential clients continue to learn how Paycom can help and improve their businesses. I will now turn the call over to Craig to discuss our financial results. Craig? Thanks, Chad. Our momentum continued into the Q2 and we were pleased to see this reflected in our financial results. Before I review our second quarter results and our updated outlook for 2014, I want to again quickly review a few key elements of our financial model. As we detailed last quarter, the vast majority of our revenues are recurring revenues. These are based on client fees for our broad and growing suite of applications, which include talent acquisition, time and labor management, payroll, talent management and HR management applications. The services related to recurring revenues are rendered during each client's payroll period and are charged and collected as part of our processing of the client's payroll, which provides reasonable collectability and excellent visibility. Our cloud based SaaS model supports gross margins of approximately 80% with cost of sales largely consisting of hosting and support costs along with employee related expenses for client support, delivery and bank charges. As Chad highlighted earlier, we believe our data is a key competitive advantage and to this end we operate our own data centers. Regarding our operating expenses, we pay commissions to our sales reps based solely on new sales at the time of their 1st monthly billing cycle. This is a one time commission paid, which we recoup over the life of the client relationship. While our continued robust top line growth results in near term increases on our sales and marketing expenses, this is more than offset over the long term given the predictable recurring nature of our client relationships. With this background in mind, let's review our results for the Q2. As a reminder, as I review our fiscal second quarter results and our outlook for the Q3 and fiscal 2014, my comments related to certain financial measures including adjusted EBITDA and non GAAP net income are non GAAP financial measures, which excludes stock based compensation and other non recurring charges including transaction expenses relating to our initial public offering as well as losses related to retirement of related party debt. Total revenues in the Q2 of 2014 grew to a record $33,300,000 an increase of 39.3% compared to the same period last year. Within total revenue, recurring revenue was $32,700,000 representing 98.2% of our revenue and growing 39.6 percent year over year. Annualized new recurring revenue or ANRR was $11,500,000 up from $8,300,000 in the same period last year. Our continued strong revenue growth in the Q2 was primarily driven by the addition of new clients. We continue to see success in adding new clients in our mature offices, which are offices that have been open for at least 24 months, as well as adding new clients in our more recently opened sales offices. Total gross profit for the Q2 was $26,900,000 representing a gross margin of 80.9%. This compares to gross margin of 80.1% in the prior year period. Turning to operating expenses. For the 2nd quarter, total administrative expenses were $23,800,000 as we continue to invest ahead of our growth opportunity by adding new sales offices, adding to our R and D talent and incremental cost of being a public company. Adjusted EBITDA was $6,100,000 or 18.2 percent of revenue compared to $4,400,000 or 18.4 percent of revenue in the Q2 of 2013. Non GAAP net income was 2,100,000 dollars or $0.04 per diluted share based on 50,300,000 shares versus $500,000 or 0 point 0 $1 per diluted share based on 48,000,000 shares in the year ago period. Turning to the balance sheet. We ended the quarter with cash and cash equivalents of $14,000,000 and debt of $27,400,000 The debt represented financing on our corporate headquarters. During the quarter, we used net proceeds from our IPO and existing cash to retire $65,000,000 of outstanding debt. With that, let me turn to guidance for the Q3 and for fiscal 2014. For the Q3, we expect total revenue in the range of $34,000,000 to $35,000,000 representing a growth rate of 33.7% at the midpoint. We expect adjusted EBITDA in the range of $4,500,000 to $5,500,000 representing an EBITDA margin of 14.5% at the mid point. For fiscal 2014, we expect total revenue to be between $143,000,000 to 145,000,000 dollars or 33.8 percent year over year growth at the midpoint. We expect adjusted EBITDA in the range of $22,000,000 to 24,000,000 representing an EBITDA margin of 16% at the midpoint. In summary, our momentum continued into the 2nd quarter and we anticipate ongoing success through the rest of the year as we leverage our investments in R and D and sales and marketing and strive to deliver revenue growth. With that, I'd like to turn it back to Chad. Thanks, Craig. In conclusion, we had a great Q2 in our 1st year as a public company. We remain very excited about the opportunity we see for our company. We believe we are well positioned to leverage our ongoing sales momentum and technology advantages to continue to drive innovation across our technology platform, take share and build our recurring revenue base for the next several years. With that, I'd like to turn the call back to the operator and open up the lines to take any questions. Thank you. We will now begin the question and answer session. And our first question will come from Raimo Lenschow of Barclays. Thanks for taking my question and congratulations to a great second quarter. The first question I had was can you talk a little bit about the dynamic of payroll versus non payroll this quarter? Sure. Raimo, as we've talked about in the past, all of our new business comes in well, all of our business that we have, every client that we have here now comes in with the payroll offering. And so everything that comes in does have the payroll. We continue to expand our product offerings and we're becoming more aggressive in the initial sales call to where we have been able to penetrate more as somebody comes in upfront. Yes. Okay. And on these non payroll modules, like what are the trends that you're seeing there? What are the modules that are kind of easiest to sell? And where do you see growing momentum starting to pick up more? Like our competitors, I mean, this isn't we don't necessarily disclose module by module. We do see it as one solution. I mean, however, I will say, I mean, unlike others, I mean, we are providing the ANRR. We have 30 sales teams, 6 to 8 reps on each team focused exclusively on new business wins. And the overwhelming majority of all ANRR comes in new wins is what they are. Yes, we'll leave it at that. Okay. Then so you opened up 5 offices in Q1. Did you open up any more in Q2? Or are there plans? Or are you just now in the staffing mode for those 5 offices? Correct. So we did open up 5 offices in Q1, which was a couple more than what we had forecast. As we stated earlier, it takes on average 24 months for them to ramp up to maturity. And we're seeing them trend to that point now. And so the but are there plans for doing more this year? Like you're done for the year basically, it's the next cycle starts next year? Well, we're always reviewing opportunity. And as we go into the future quarters, I mean that's something we'll definitely be looking at. But we didn't open up another one this quarter, because we opened 2 additional Q1 early. Yes, yes. Okay, perfect. And then last question for me, like so now as a public company, what has been the reaction that you've seen from the client base and kind of working in the market environment? Has there been any change and improvement because you got more recognition or like or any change from a competitive nature that ADP is taking you more seriously now or anything along those lines? Well, I can't speak from the competitors. I know that we are finding it easier to have conversations with clients and when prospecting. Yes. Okay, perfect. Okay, that's it for me. Thank you. All right. Thanks, Simon. And our next question will come from Sterling Auty of JPMorgan. How's it going guys? This is actually Albert Chee on for Sterling. Great job on the quarter. The results look pretty solid, but just a question I have is, do do you think you could update us on the competitive environment from both your HCM SaaS competitors and maybe touch on what some of the larger incumbents have been responding with? I know one of your competitors on the larger incumbent side had kind of had talked about strong demand in the SaaS application. So can you talk about the dynamics between the sort of response and what's currently out there in terms of your direct competitors? Thanks guys. Sure. Thanks for the question. So we've been competing with substantially the same people since I started the company in 1998. It's really been the usual suspects, save a couple of new ones, maybe smaller ones. Anyway, it's a highly competitive market and our competitors continue to come out with new products and target new markets and new market segments all the time. We still plan on taking market share and growing. I mean, it's been our model since we started and we continue to be strong at it today. Thanks. And the next question will come from Brad Ryback of Stifel. Hey, guys. How are you? Hey, Brad. Chad, to your comment earlier about higher attach rates, could you give us any sense of how much higher ANR per new customer is today where it might have been a year ago or 2 years ago? Sure. It's I can't give you specifics on that, the specific number, but it's trending up. We have added new modules, if you will. Again, we're selling one solution, but we've added new product features over the last 3 years. So as we go into a new client or a new win, we've had more to sell them. Okay. And then just one quick follow-up on the new office side and the potential to add in the back half of the year. If there is an opportunity, does the EBITDA guidance potentially assume some of that or have a fudge factor in for that? Or would that be added expense to that guidance? Thanks. I do not I'm trying to get to the gist of the question. We aren't we would choose to open up an office or not based on the opportunity or demand or our ability to accelerate it once open. We don't really go into any market that we don't plan to have a lot of success in. So I wouldn't necessarily say it's EBITDA guidance that's driving that decision. Yes. No, I apologize. If you did open offices in the back half of the year, would that be a headwind to the $22,000,000 to $24,000,000 EBITDA guide you gave? Or might that already have some wiggle room and conservatism baked in that it could handle that? As we look to the full year guidance on adjusted EBITDA, we feel comfortable with the numbers we've provided and included in that is increase in sales force headcount as well. Great. Thanks very much. Thank you, Brad. This concludes our question and answer session. I would like to turn the conference back over to Chad Richison for any closing remarks. All right. Well, thanks again to everyone for participating in today's call and for your interest in Paycom. We appreciate your time and we look forward to speaking to everybody next quarter. So thank you. The conference is now concluded. Thank you for attending today's presentation. You may now disconnect.