All right. So with us today, we have Toby Williams, Co-CEO and President of Paylocity. Thank you for joining us today, Toby.
Thanks for having me.
All right. So in terms of today's agenda, we'll open up a little bit later in terms of any audience Q&A, but to get it kicked off, in terms of the demand environment, how would you characterize the current state of the demand environment, and how does it compare to even last year?
Yeah, I mean, I think we've seen the demand environment overall be fairly stable, although I think, yeah, when I say that, I'm thinking of things like the channel business that we have. So we get 25% plus of our new business, referred to us from some of our channel partners, which are largely brokers or financial advisors, all of which are sold by our own direct sales force. But I think that, you know, that's been fairly steady. I think the demand environment overall has been fairly steady. Probably, the call-outs there from my perspective would just be, it definitely feels like there is. And I think seeing this in other players too, not specific to Paylocity, but just a bit of an overhang from a macro perspective across the industry.
Certainly, seeing that play out in some of the larger deals, in terms of elongated sales cycles, elongated closing cycles with those. So I think so those, those are probably the main factors that I'd see across from a demand perspective.
In terms of the competitive environment, has there been any change in the competitive environment during the fiscal year, in terms of seeing, you know, more competitors discounting increasingly or even seeing more competitors participating in bake-offs?
Yeah, I don't think we've seen any real change there. I mean, part of that is just, it's always been a very competitive environment in our space, and so I don't think that's... We haven't seen any acceleration in that or really easing in that. And I don't think we've—I also don't think we've seen any significant change from a, you know, from a pricing standpoint.
Got it.
Fairly consistent.
And then if you look at your ex-float growth for FY 2024, can you help us rank the primary headwinds that you're facing this year? And are any of those headwinds anticipated at this juncture to persist into FY 2025?
Yeah, I think we've seen, probably the main call-out has just been employees on the platform, which is employees at our, at our clients, declining sequentially on a month-to-month basis, coming up on, you know, a year or maybe a little over a year now at this point as we head into Q4. And so, that's been a, that's been a headwind throughout. And just for context, I mean, if you think back to pre-COVID, we would've seen in more of a normalized macro environment, we would typically see, you know, 2%-3% sort of tailwind from a revenue growth perspective. And, this year, that's, that's been a, a headwind to growth, for sure. So on a, on a monthly basis, seeing those levels decline, sequentially.
In terms of that net client hiring, in terms of … did you also witness, I know you’ve detailed, in terms of starting with August month-on-month declines occurring? Is that also what you witnessed here most recently in 3Q, consistent month-on-month declines?
Yeah, when you look at it from a quarterly perspective, we, if you go back to not this last call, but the call before that, we changed our guide to assume that we would continue to see that throughout the rest of this fiscal year and, including last quarter, Q3, and then this quarter, Q4, and that's, that's what we observed in Q3 as well.
Any notable differences in terms of those reductions based on, you know, client size or industry vertical, or is it pretty uniform across the base?
No, it's fairly uniform. I mean, we cut it by vertical, we cut it by size, we cut it by geo. I mean, we look at all the different dynamics that you would think of, and there has not been any material, you know, sort of stand out from any of those factors.
In terms of your guidance and for 4Q, assuming those ongoing month-on-month declines, for exceeding FY24, would that put you negative on a year-on-year basis in terms of net client hiring, or would it still potentially be positive year-on-year there?
Yeah, I think... Well, it depends on- I mean, it depends on how it plays out and the magnitude. So, you know, I think we would still be positive, at this point.
Mm-hmm.
You know, sort of going into Q3 and headed into Q4. So you have to see how Q4 plays out. I mean, I think it's very likely that you end the year still positive, although, you know, you start to get into that fall timeframe, where depending on how it trends and what the magnitude of that is, that, that would be the place where you'd see a change.
Got it. Paylocity has been increasingly pushing up market in recent years, which you would define as companies with 500+ employees. What has driven this increasing success there in recent years?
Yeah, I think if you go back, probably, you know, call it three years ago, we would've started to see a pull from those size clients. I mean, we would've always had clients that were, you know, of that size, but I think we started to see increasing frequency, getting pulled into larger and larger deals. It was not a sort of specific strategic pivot on our part to say, "Hey, let's go up market and see what we can find." We've gotten pulled into larger and larger deals, and I think that was largely a reflection of our investments in the platform, our investments in the breadth of the product suite, and those products really resonating in that segment of the market. We've...
You know, if you go back to the time of the IPO, we would've really had $200 in PPY. We're around $550 today. So you've seen this steady year-on-year growth in terms of PPY, which is owing to the expansion of the platform, building out more modules. And I think a lot of what we've done over the last few years has really been focused on pushing the boundaries of what traditional HCM really means in the market. So we've added things like Community, which is really the communication hub across the platform, surveys, more recently, Employee Voice, Rewards & Recognition. So really that next sort of circle of things around the core of HR, and I think we've been really happy with what we've seen from a take rate perspective in those products, many of them still early on.
You know, we've been able to maintain sort of a 50%-ish ± realized PPY across the handful of years where we've taken that to, you know, 550, where it sits today, from a base of 200 at the time of the IPO. So I think that product set expansion and the differentiation that we've been able to drive have really sort of drawn us into that segment.
Is there a typical profile of a client with, call it, 1,000+ employees, that makes it a strong fit for Paylocity versus, call it, maybe one more of a enterprise-focused competitor?
I mean, I think, you know, the biggest difference, I mean, that it's hard to tell where exactly the cutoff point is up market. But I think you get to a place where there's an expectation of a higher level of customization, and you know, part of our value prop is we'll give you out-of-the-box, accelerated time to value, certainly baking in best practices, but from a configuration standpoint, we are able to hit most use cases. I think that's our approach from a go-to-market perspective upmarket.
Yeah. And what are those primary sources for these upmarket deals? Historically, you've disclosed around, across the entire base, around 40 - 40, or call it 40%-50% of new revenues coming from the combination of ADP and Paychex. What about when it comes to more of those larger, 1,000-plus type clients? Where do those usually stem from?
Yeah, you don't see a noticeably different mix. I mean, obviously, you, you have players like... So when we're competing for a 1,000-employee deal, just in the example that you gave, I mean, it would be typical to see someone like an ADP. You might see somebody like a Ceridian or a UKG and sometimes a Paycom. I mean, those are more or less the usual suspects that you would see there, and I think that tends to be the same, you know, mix for when you're taking business.
Got it.
Less so Paychex, obviously, because they're focused on smaller clients, but-
Makes sense. You also have acknowledged this year that the upmarket did catch you a little bit off guard in terms of the lengthening of sales cycle and time to get new reps productive there. Can you discuss the lessons learned and actions being taken to improve on the productivity in that segment of the market?
Sure, yeah. I mean, I think, you know, I'm not sure that this comment is. I think this is true across enterprise software, at least that would be the commentary that I think you hear, you know, broadly in the market. But in the first half of the year, started to see sales cycles elongate, and, you know, I think what you see there is just a higher degree of focus on spend from a software perspective at potential clients, at prospects. And it tends to manifest in a couple of different ways.
One could be, you know, for us, in our industry, you would have a CHRO that might have been able to, you know, write that check previously, and now there might be another layer or two of approval that goes beyond that, from either a CIO or a CFO or potentially both. I think you're not seeing those deals go lost, but you're also seeing the sales cycles take longer, doing more demos, seeing more levels or layers of approval in those deals. I think the other thing that you see is, you know, engaging in a sales cycle, and at some point, the decision-maker or the people that you're engaging with from a prospect perspective say, "Hey, you know, I just... I'm gonna put this down for a quarter.
You know, pick it back up in three, four months' time." So I think you see those types of situations playing out, and again, I don't know that there's anything unique to our business or even our industry from an enterprise software perspective. I think that is a common tale. You've heard others in the market certainly reference experiences like that. So I think that's mostly been the experience. I think for us, we've seen an outsized amount of growth in our business over the course of the last three years from larger clients, and so as we've ramped up our hiring, we have pulled most of the people from within our business. So most of those would've been folks that were focused on, you know, sort of mid-market and starting to skew upmarket a little bit.
But we've also hired some folks from outside of the business, and I think anytime that you do that, certainly natural from a growth perspective, but those folks often take longer times to ramp, and you see this intersection of that happening, plus elongated sales cycles, I think has been the observation over the you know, probably the first, you know, three quarters of the year.
Got it. And with your most recent earnings, you updated your long-term financial targets, primarily to remove the 20%+ revenue growth-
Yep
... and replace it with now a $2 billion+ revenue milestone. Can you discuss what led to this decision?
Yeah, I think, you know, where we are right now, I mean, I think our eyes have been on, you know, we, we crossed the $1 billion mark. That was certainly a, a, you know, big milestone for us, and I think, you know, having done so, the eyes naturally focus on, on doubling that and getting to $2 billion. And I think we're, we're well on our way with the guide that we have for this fiscal year. And, you know, I think as we look at where we are this fiscal year, we'll come in, you know, I think just below 20%, and I think the, you know, the, the Q4 guide bracketed around 13%. Yeah, I think you, you draw the focus to, hey, what's the big- what's the next big milestone for the business in terms of the overall revenue?
And that's, that's $2 billion, and I think, you know, feel good about our, our ability to get there. And you also, I think, start to look down through the P&L, and, I think the guide that we have in terms of the financial targets, you know, you can line that up pretty well. That's the- that's a good picture of what the business should look like at $2 billion in revenue.
Got it. Is it possible over the medium term, assuming more of a normalized hiring environment, call it 2%-3% like you would get pre-pandemic, that you could return to 20%-plus ex-float organic growth again?
Well, I mean, I think right now, with what we're seeing, you have sort of pre-pandemic, and then for a period of time coming out of the pandemic, you had an awful lot of tailwinds that are not present right now across macro and across the industry. And certainly, if you see those things come back, depending on the magnitude, you'll get lift from that. But some of those things are outside of our control, I think. So I think for right now, what we're focused on is driving productivity across our go-to-market motion, driving productivity across the business, driving profitability across the business. So we've made a lot of progress from a Free Cash Flow perspective, certainly from an Adjusted EBITDA standpoint, really up and down the P&L.
So I think from our perspective, as you go through this fiscal year, and you start to pencil out next fiscal year, there is, I think there's an increased focus on productivity, on driving leverage from a profitability perspective, and, you know, driving execution from a go-to-market standpoint, overall generating new revenue. I think those are the points of focus, and, you know, some of the other things I think have become a headwind that used to be significant tailwinds. You know, whether those things return and when they do, and the order of magnitude that those show up is hard to say, but they would be positives if they flipped.
Got it. And then customer support, regardless of vendor, seems to be a key customer complaint in terms of time to reach the support, time to resolution, or even the quality of the resolution. Why do you think it's so difficult for any vendor to really nail it? Is it more so a balancing act between balancing profitability with customer satisfaction there? Any thoughts?
... Well, I think from, from an industry standpoint, yeah, I think the, the reasons that people switch would be either product or service, and I think that's been true for, you know, since the beginning of time in the industry. And, yeah, I think from our perspective, we've tried to hit both, you know, very strategically. I think we have invested in our product set in a different way than many other competitors have. I think that's really resonated in the market and created significant differentiation for us. And at the same time, we've also tried to provide world-class service, and I think, you know, everybody saw in the course of COVID, retention rates go up. And I think, you know, coming out of COVID, everybody has seen retention rates return to, you know, more normalized levels.
I think, you know, from an execution standpoint, our focus continues to be on providing world-class service to our clients.
Can you discuss what you've done in recent years to improve on that customer support function, as well as anything, you know, currently in the works or potentially planned on that function?
Yeah, I mean, I think our focus has really been, you know, starting from a product investment perspective, making sure that we're investing in the product set in the ways that really resonate with clients to give them a good experience. Ultimately, that's the, you know, that's the thing that they're dealing with and seeing every day. And then, I think if you go back to, you know, COVID as an example, yeah, I think that was really a standout period for us in terms of our ability to staff. What you heard in, you know, during COVID and then, coming out of COVID with the Great Resignation was... I think you heard the competitive set talking about real difficulty in staffing to be able to support customers.
And that, I mean, that was a challenge for everybody, but I think we came through that in a way that, you know, you never heard us talk about that. We were always able to staff, and that's really the key from a customer service perspective, is, you know, driving the product investments that resonate and create a good experience, and then being able to staff to support the level of interaction that you expect.
At Paylocity, how does the customer support model... Is there a dedicated rep or team that assigned each client, or is it more of a just general helpline that customers call into?
Yeah, largely a dedicated rep model. I mean, that changes a little bit at the very lower end of the market-
Mm
... but largely a dedicated rep model, and then bringing in, you know, any team members that you need to support a specific question or, you know, specific level of expertise they certainly have access to, but that's the model.
Got it. And then in your investor deck, you disclose the mix of source of new client revenues. So ADP and Paychex, as I mentioned earlier, has consistently been around, you know, 40%-50% of that mix there. Each of these vendors have also reported at or near record revenue retention metrics. Are you witnessing... A key question we get from investors: Are you witnessing the number of at-bats for competitive takeaways from them changed at all in recent years, whether or is it pretty consistent, less? Kind of what, what are you seeing from them in terms of their churn on the absolute number of opportunities?
Yeah, I mean, I think, so if you think about how that's evolved over time, I think if you go back to, you know, the time of the IPO, you would've seen probably 50% of new business or, or maybe even a little bit more coming from, ADP and, and Paychex, and a smaller mix of that coming from, like in-house or local or regional providers, of which there are, you know, thousands across the U.S. I think as we've broadened out our business and increased the geos that we've, we've had reps in, you've started to see that spread out more.
And so you've seen the source of business from ADP and Paychex on a combined basis tick down, and you've seen source of business tick up from certainly all the other competitors, which are much larger now than they would've been at the time of the IPO. So I think that's been the trend in terms of where new business comes from. And, you know, I think everyone had a very similar experience over the course of the last, you know, handful of years now in terms of going through the pandemic. Everybody saw retention rates really increase, and then I think as we've come out of the pandemic, everybody across the industry has seen retention rates tend to normalize. And I don't, you know, I don't know that that's created a materially different set of opportunities in the market.
I feel like overall that's been, you know, fairly consistent.
And then in terms of the medium term, any thoughts on how that mix of new client revenue sources might evolve over the medium term? Would it be a continuation of the current trends where ADP and Paychex would decrease in terms of mix, and some of the other competitors would increase? Any thoughts there?
Well, I think the dynamic that I just referenced of you've had other competitors in the market grow and become larger, and I think those have become a, you know, larger source of new business, as you would expect over time. And, you know, I don't think I see any material change in that probably directional evolution over the next, you know, two, three years type thing.
Got it. And then in terms of that, call it roughly 15% or so mix that you call in-house solutions, can you clarify, is that, you know, Microsoft Excel or paper-based processes? What does that exactly entail?
That is all of the above. I mean, sometimes that is in a true, you know, in-house software solution, so someone is using a hosted version of Sage, as an example. So I've seen that multiple times with kind of mid-market clients. Sometimes that's a mix of using an Intuit product plus an accountant for tax filing type thing. I mean, I think there's a... Those are the... it's never someone using pen and paper, but it is almost always a mix of some version of one of those things.
Got it. And then Paylocity's made solid progress in expanding margins over time. Can you discuss the primary levers you have to driving additional margin expansion from here?
Yeah, I think as you look out over time, I mean, the different levers are you get a natural flow-through from profitability perspective, just with the size and scale of the business. And so yeah, I think we have seen and continue to see that on a year-to-year basis. From a gross margin standpoint, I mean, one of the benefits we have is as we have broadened out the solution set, you most of those new solutions, as you're adding them on from a client perspective, either to new clients or back into the client base, which is a bigger part of the sales motion today than it would've been, you know, five, six years ago, those products oftentimes have a much either no lift or lighter lift from an implementation standpoint. So you get...
Gross margin leverage there. Then I think from an Adjusted EBITDA and from a Free Cash Flow perspective, yeah, I think we've worked really hard to just drive leverage in each one of those areas from a, you know, management of the business perspective. I think you see all of those things come together in our ability as we've grown, to be able to continue on a year-to-year basis, drive leverage up and down the P&L.
Got it.
And I expect that to be the case as we look forward. Obviously, you get, you get noise from a float standpoint, but ex-float, you know, believe we, we should be able to continue to drive leverage. And the targets, the financial targets that we've laid out, I, I think we've said this, you know, forever, don't view those as, as being ceilings in any, any respect. Most of them we're, we're in right now, but continue to see opportunity on an annual basis, drive leverage up and down.
And then when you look at clients, your average size client, clients with below 50 employees, and then clients in that upmarket, does the margin profile dramatically differ, or are they fairly comparable?
Yeah, I mean, you get some variability, but it's because we have such consistency in our delivery of product from an implementation perspective, and because we have such consistency in the way that we service our clients, you don't tend to see some massively different margin profile.
Got it. Then you've fairly consistently reported annual revenue retention at 92% plus. Can you give us a sense of the mix of that churn that you would qualify as controllable versus uncontrollable?
Yeah, I mean, I think typically you would see in that mix, from an uncontrollable perspective, you would see a mix of, out of business, you would see a mix of, clients being purchased and acquired and, you know, moving off the solution for that reason, with new ownership. Those are probably the two biggest buckets within uncontrollable, and I think you've seen, you know, over probably the last, you know, 18 months, I think that's ticked up a little bit. And, you know, I think the other situations that you see are owing to, you know, the other sort of reasons that I talked about earlier.
Makes sense. In terms of those controllable churn rates, how do those compare based on client size? Is it the larger the client, the greater the retention, or is it pretty uniform across client size?
No, typically, I mean, I think this is true across the industry, you smaller clients would tend to churn more, or more frequently at a higher rate than larger clients, and I think that's, you know, that's what we've observed across the business over time. And I think, you know, our stated target market is businesses with between 10 and 5,000 employees, with an average size of around 140. And so I think we've tended to get some insulation from higher degrees of churn at the lower end of the market because it just hasn't been the focus for us in terms of sub 10 employee clients. But I think those are the, those are the dynamics that we've seen over time, and then true in the industry as well.
Do you believe over the long term you can improve on your controllable churn rates? If so, what would be the primary drivers to achieving this?
Well, it's always the goal.
Yeah.
I mean, I think that's, that's what the team is, is waking up to do every single day, is provide great client service. I think over time, you know, between product investments and continued investments in, in the service team, you know, goal every single year is to drive retention higher and higher, and ultimately just to provide a, a great client experience. I think that's, that's, that is the focus, and I think we have the continued opportunity to do that.
Perfect. In terms of sales headcount, that's also grown pretty consistently-
Yeah
... annually. Based on the existing target markets that you serve in the U.S., how much additional runway do you have to continue to increase that sales headcount? I know currently you're focused more on driving some improvements on productivity, but in terms of that target market-
Yeah
... is there, you know, still a good amount of way to go?
Yeah, I think there is. I mean, I think it, it's, there are... You know, I, I wouldn't look across the U.S. and say there's any, any territory where we couldn't add more reps. That's true, you know, everywhere, including, you know, around the Chicagoland area. So, I mean, I think the, the opportunity still exists. I think our focus for this fiscal year and going into next fiscal year is trying to drive productivity. So I think you just take a more measured approach in, in how many heads you expect to add and where you, where you put them. But I think the opportunity still exists, and as I, you know, I think we'll... You know, we, we've called this out on the, on the last call.
I mean, I think we will go into fiscal 2025 with a, with a lower rep headcount growth than we would've come into this year. And, you know, I think that is reflective of our effort to just drive productivity to a higher place. But I think, you know, we also have the opportunity to continue to invest in that more if you see things turn in the course of fiscal 2025, so.
In thinking broader than the U.S., in terms of the international opportunity, you did acquire Blue Marble a few years ago-
Yep
... in terms of multi-country payroll. But in terms of going, I'd say, more truly global in terms of in-country international sales, can you discuss what the primary hurdles to expanding internationally would be there?
Yeah, I think, you know, it's the main thing that you have to do if you want to develop native payroll capabilities in a geography is the payroll engine, which is typically a significant lift, because the rules, the regulatory framework is different in every country, somewhat stating the obvious. And so you're basically building the payroll engine to address the particulars of any different country that you're going into.
You know, our approach has been through Blue Marble to be able to look at the needs of our clients who have employees outside of the U.S. and be able to provide them a single pane of glass in terms of viewing their data and the interactions with their employees, but relying on partners in country for the actual payroll processing.
Got it.
I think that's, to date, served the needs of our clients really well, 'cause part of what you're also assessing is the cross demand of clients that you have in the U.S. for employees outside of the U.S.
One more question before we'll open up to the audience here. In terms of GenAI, can you discuss how you've embedded GenAI within your offerings to date, and also how are you monetizing those offerings, if at all?
Yeah, I mean, I think there's a couple different points of focus from an AI perspective across the business. One is in the product set, and then the other is, you know, how do you leverage AI to create a better client experience from a service standpoint? You know, from a product set perspective, you know, I think we're in the early days, and the use cases have really been targeting taking work off people's plates with things like communication.
So if you're a hiring manager and you want to develop a job description, leveraging generative AI to give you a starting point for any different job description, or you want to push out communications to your employee base, giving you a starting point for comms that you might wanna push out to teams or to employee base writ large. And so that's really been, I think, the first focal point in terms of leveraging AI capabilities in the product set, and I think you get differentiation from that. We have not monetized that to date in terms of putting specific SKU pricing against that. That opportunity may develop over time, but that's what we've seen so far.
From a service perspective, I think you have opportunities over time to be able to identify the questions that, you know, clients are going to ask, and surface the answers to those questions in the application in a timely fashion, and that's been a push for us. I think you may get leverage in that from a cost perspective over time, but I think the primary investment there is really just to create a better client experience, so.
Makes sense. We'll open up any questions in the audience. Yes?
I noticed that you had on your presentation something on on-demand pay, like earned wage access.
Mm-hmm.
Just wondering how popular that has become. It's been growing in terms of popularity. How is it funded, and the economics?
Yeah, I mean, it's. So if you go back to, I mean, we launched that product maybe three years ago, something like that. I mean, we were one of the first to launch, maybe the first to launch that product. We built it natively, so we didn't partner for it, and I think we had more measured expectations when we did so. And we really looked at it as less of a sort of separate, standalone, you know, growth driver, and more as a feature of payroll that we thought would be valuable to clients and their employees to be able to draw down on the wages that they had earned but not yet received.
And that's, you know, I think that was our view of it at that time, and I think that that was the right one in terms of what we've seen from a take rate perspective across the client base. It's certainly grown, but I, I don't think we ever expected it to be the next significant growth driver, and it has not been. So, I mean, I think it's been sort of a nice feature-
Mm
... to be able to offer from a payroll standpoint, and I think it's been valuable, particularly in, you know, some of our larger clients with more of a skew towards hourly workforce. And so I think it's largely been as expected from that perspective. And I think, you know, if I think back to that point in time when we would've been launching that, I think there was uncertainty and certainly, you know, potentially more optimism for that being a growth driver at different of our competitors. But I think we were kind of down the middle with it, we expect this to be an interesting feature from a payroll standpoint, and that's really how it's been. Yeah.
Just on that client service, AI comment, are you finding it more helpful to develop a lot of the solutions in-house, or are you finding any, you know, external programs that... Like, I guess, where do you see that going for your company?
Yeah, I mean, I think for us, there's been a significant amount of in-house development, just to be able to address the use cases that we have in leveraging third-party technology where it makes sense. So, you know, some of the leveraging, some of the large language model technology that exists from third parties has been helpful, but you're taking that and then saying: Alright, what are the use cases that I really want to be able to address? And putting the development of our own from our own resources on top of that to, you know. For example, we've built up over time, and we think this is a competitive differentiator, we've built up over time a significant knowledge base that we give our clients access to.
So one of the use cases is, hey, how do you make that, the experience of accessing that knowledge base faster, more effective, more efficient for clients, and being able to leverage that into the application directly? So that's where you see the intersection of being able to feed that knowledge base through models and get a higher degree, higher hit rate from an accuracy standpoint. But then the piece that we would overlay is, like, alright, how do you deliver that effectively to clients in the application at the point in time where you know they're gonna be looking for something?
Thank you.
Yep.
All right, we are basically at time here. Toby, thank you for joining us.
Yeah, thanks for having me. Thanks for all the time.