Ladies and gentlemen, thank you for standing by. Welcome to the SPS Commerce Q2 2020 earnings conference call. At this time, all participants 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 session, you will need to press star then one on your telephone. Please be advised that today's conference is being recorded. If you require any further assistance, please press star then zero. I would now like to hand the conference over to your speaker for today, Irmina Blaszczyk. You may begin.
Thank you, Towanda. Good afternoon, everyone. Thank you for joining us on SPS Commerce second quarter 2020 conference call. We will make certain statements and projections today, including with respect to our expected financial results, go-to-market strategy, and efforts designed to increase our traction and penetration with retailers and other customers. These statements and projections are forward-looking and involve a number of risks and uncertainties that could cause actual results to differ materially. We note in particular that uncertainty regarding the impact of COVID-19 pandemic on our performance could cause actual results to differ materially from our projections. Please note that these forward-looking statements reflect our opinions only as of the date of this call. We undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise.
Please refer to our SEC filings, specifically our Form 10-K, as well as our financial results press release we furnished via Form 8-K to the SEC earlier today for a more detailed description of risk factors that may affect our results. These documents are available at our website, spscommerce.com, at the SEC's website, sec.gov. In addition, we are providing a historical data sheet for easy reference on our investor relations section of our website, spscommerce.com. During our call today, we will discuss Adjusted EBITDA financial measures and non-GAAP earnings per share. In our press release and our filings with the SEC, each of which is posted on our website, you will find additional disclosures regarding these non-GAAP and Adjusted EBITDA measures, including reconciliations of these measures with comparable GAAP measures. With that, I will turn the call over to Archie.
Thanks, Irmina. Welcome everyone. Before I review our second quarter performance, I would like to address two important topics. First, I would like to reflect on the tragedy that took place two months ago in our hometown of Minneapolis and the senseless murder of George Floyd while in police custody. My sympathy and condolences are with George Floyd's family, friends, and communities. My heart goes out to everyone that has been impacted and affected by the violent riots that followed this tragic event. It is time to stop turning a blind eye and ignoring the systemic issues that plague our society. I would like to thank all SPS Commerce employees for their commitment to be part of the solution as we all take action against racial bias, injustice, and inequity.
SPS has always embraced diversity, but we recognize that more needs to be done, and we began with the following steps. During the past two months, I hosted discussions with employees and listened intently to their feedback on how we move forward as a company and community. I also formed an advisory group that meets regularly to discuss how SPS can make an impact. In recognition of Juneteenth, all SPS employees received $100 each towards supporting their local Black-owned businesses. Together with more than 80 members of the Minnesota Business Partnership, I signed a letter urging lawmakers to pass policing reform in a special session. We are working with Federal Reserve President Neel Kashkari and Justice Page to amend Minnesota's Constitution to give all children a right to a quality education.
I am personally committed to addressing the inequities in Minnesota's education system. As an immediate step, SPS Commerce has started the process to establish a scholarship program for students of color wishing to pursue a career in technology. The systemic injustice in our country underscores the need for change. The real work is ahead of us, making sure we don't return to what was considered normal. SPS is focused on making that change. The second issue we continue to face is the ongoing pandemic, and SPS Commerce remains committed to customers to ensure they are able to deliver everyday essentials we all need. The dynamics impacting the retail industry, which we outlined on our last earnings call, continue to play out as we expected. Across our large network of trading partners across diverse end markets, we continue to see a steady volume of transactions.
Enablement campaigns are driving ongoing momentum and fulfillment, which is offset by softness in analytics. For the second quarter, revenue grew 10% to $75.6 million. Recurring revenue grew 11%. Adjusted EBITDA grew 25% to $20.4 million. The current situation requires retailers to navigate the retail industry's new normal. The COVID-19 crisis means a shift from common brick-and-mortar stores, with many shoppers nervous about purchasing products in-store. We're seeing an evident shift to e-commerce sales, with many e-commerce businesses experiencing sizable growth. To help the brands who ship on behalf of retailers in their e-commerce retail stores, SPS Commerce joined forces with our partner, ShipFusion. We believe the right partner can make or break a retailer's logistics, customer service, and repeat purchases. ShipFusion has multiple fully managed and operated fulfillment centers across the U.S. and Canada, giving brands the best tools possible for building a successful e-commerce operation.
Both retailers and suppliers are seeing the need for increased efficiency and automation, underscoring the mission-critical nature of the service we provide. For example, Drakes Supermarkets, a leading grocery retailer in Australia, pivoted from being supplied by a wholesaler to directly supplying its 40 stores. Drakes' partnered with SPS Commerce to deploy an EDI strategy and electronically connect with their suppliers through vendor onboarding. EDI provided Drakes' with the order and inventory visibility they need to manage a diverse vendor community and keep their shelves stocked. In addition to supply chain automation, EDI improves order fulfillment accuracy, which avoids shipment delays and additional costs associated with inaccurate data entry. Earlier this year, SPS surveyed nearly 200 third-party providers about data accuracy. The responses showed a direct correlation between timely and accurate data from customers and their ability to ship accurately and on time.
Suppliers use 3PLs to take on the logistics and fulfillment aspects of their businesses, and without proper data, the 3PL cannot perform the task it was hired to do in the most efficient manner. SPS asked 3PLs what was the one thing they would be doing in 2020 to address 3PL order accuracy. The responses focused on automation, moving clients to EDI, or working with customers to increase their use of EDI. As the world's retail network, SPS solutions are responsible for keeping products moving along the retail supply chain for more than 90,000 businesses. We empower retailers, suppliers, and logistics firms to embrace today's latest retail trends. Our solutions have received numerous awards, and we have recently been ranked number one Twin Cities largest software development firm by the Minneapolis/St. Paul Business Journal. I am honored to have our local tech teams recognized for all they do.
They lead the pack not just in numbers, but also in talent and passion. In summary, the challenges we have endured this year have impacted our communities, our businesses, and our lives. I would like to thank SPS Commerce employees for their ongoing dedication to our customers and our communities. We remain committed to take action and make progress in the years ahead. With that, I'll turn it over to Kim to discuss our financial results.
Thanks, Archie. We delivered a solid second quarter of 2020. Revenue was $75.6 million, a 10% increase over Q2 of last year and represented our 78th consecutive quarter of revenue growth. Recurring revenue this quarter grew 11% year-over-year. The total number of recurring revenue customers increased 5% year-over-year to approximately 31,500. For Q2, wallet share was up 5% year-over-year at approximately $9,100. For the quarter, Adjusted EBITDA was $20.4 million, compared to $16.4 million in Q2 of last year. We ended the quarter with total cash and investments of approximately $233 million. We also repurchased $7 million of SPS shares in the quarter. Now turning to guidance. For the third quarter of 2020, we expect revenue to be in the range of $76.6 million to $77.1 million. We expect Adjusted EBITDA to be in the range of $20.5 million to $21 million.
We expect fully diluted earnings per share to be approximately $0.19 to $0.20, with fully diluted weighted average shares outstanding of approximately 36.3 million shares. We expect non-GAAP diluted earnings per share to be approximately $0.32 to $0.33, with stock-based compensation expense of approximately $5.1 million, depreciation expense of approximately $3.5 million, and amortization expense of approximately $1.4 million. As Archie mentioned earlier, the dynamics of the current situation continue to impact our business. We continue to monitor the uncertainty around the duration and magnitude of the pandemic and the impact that a second wave of infections may have on economic activity. We are also taking into account the possibility of continued pressure on retailers, prolonged store closures, and bankruptcies, all of which would negatively impact our business. For the remainder of the year, we expect to see continued softness in analytics.
The ongoing need for automation across our network continues to drive momentum and fulfillment. Given these dynamics, and with two quarters remaining in the year, we are reinstating our annual guidance for 2020. For the full year, we expect revenue to be in the range of $304.1 million-$305.3 million, representing approximately 9% growth over 2019. We expect Adjusted EBITDA to be in the range of $82.4 million-$83.5 million, representing 18%-20% growth over 2019. We expect fully diluted earnings per share to be approximately $0.99 to $1.00, with fully diluted weighted average shares outstanding of approximately 36.1 million shares. We expect non-GAAP diluted earnings per share to be approximately $1.41-$1.42, with stock-based compensation expense of approximately $19.6 million, depreciation expense of approximately $13.4 million, and amortization expense of approximately $5.5 million.
For the remainder of the year on a quarterly basis, investors should model a 30% effective tax rate calculated on GAAP pre-tax net earnings. Given our history of strong operating leverage and the resilience of our SaaS business model, we remain confident in our ability to achieve our long-term Adjusted EBITDA margin target of 35%. In summary, we cannot predict the duration and magnitude of the pandemic and its growing impact on the economy. The challenges the retail industry faces underscore the need for EDI and supply chain automation. With our cloud-native operational model, SPS Commerce is well-positioned to continue to provide mission-critical solutions and support our customers, our partners, and our community. With that, I'd like to open the call to questions.
Thank you. Ladies and gentlemen, as a reminder, to ask the question, you will need to press star then one on your telephone. To withdraw your question, press the pound key. Again, that's star one to ask the question. Please stand by while we compile the Q&A roster. Our first question comes from the line of Matt Stotler with William Blair. Your line is open.
Hey, guys. Thanks for taking my question, and a nice quarter in a challenging environment. I wanted just to ask on, you obviously did better in the quarter than you guided to, and you obviously have enough confidence in the business to reinstate your 2020 guidance. Maybe you can just discuss what's giving you the confidence to reissue guidance. Obviously, you have three more months of data points relative to the last time you issued your earnings release, but maybe you can just sort of discuss what you saw in those data points that's making you feel good about issuing 2020 guidance again.
Sure, Matt. To your point, we do have 3 more months of data than from our last earnings call. You may recall a quarter ago, we gave some commentary around different puts and takes. We had said that community enablement campaigns on the fulfillment side, that's an area that we were seeing more occurring there as retailers were working to become more electronic in what they were doing, as well as trying to source products from different suppliers and moving more online. We did see that carry forward in this past quarter. We also said that we anticipated that analytics would be a bit softer, and that did also carry forward. You may recall, we also talked about potential of bankruptcies and churn, that was something that we really didn't know what was going to happen there.
I would say on that last one, we're still in a we don't know what's going to happen there. We did not see an increase in churn or bankruptcies in the quarter. That is something that still may happen in the future, depending on the magnitude or the duration of the pandemic and what that means to store closing. However, knowing that we're now less than 6 months left of the year, we have nice visibility into this quarter, and then you're really only predicting for the next 90 days after that point. Because of that, we felt like there was enough color in the results that we've seen, and our belief of what's in the pipeline and the opportunities that we felt comfortable being able to restate the annual guidance as well as give guidance for the next quarter.
Great. Just one quick follow-up on that. On the churn side, obviously if a customer churns in the fourth quarter, it is a much less meaningful impact than on the overall results for the year relative to the start of the year. It sounds like you did perhaps account for some potential pickup in churn, or how did you think about that when you put together your guidance?
Sure. To your point, because of the way the recurring revenue works, should churn increase in, say, Q4, the impact is a relatively nominal impact in the quarter, would be a much larger, more significant impact into 2021. When we established our expectations for the remainder of this year, we took into account what we're seeing in the pipeline, as well as some uncertainties such as churn. We would have taken that into account, to your point, it's a relatively nominal impact this year compared to the impact that would be in the following year.
Okay, great. Thanks a lot, guys.
Thank you. Our next question comes from the line of Scott Berg with Needham & Company. Your line is open.
Hi, Archie and Kim. Congrats on a good quarter here. I guess two questions from me. Archie, can you comment maybe a little bit about your drop ship business in particular? We all know e-commerce is certainly taking a meaningful step up here in the quarter given the current situation. Did you see any benefit there in terms of customers seeking to potentially employ your solution in that arena?
Yeah, I think there's two areas, Scott. Our drop ship volume continues to be two to three X what it was pre-pandemic. Not surprising what you're seeing is a massive shift to e-commerce, and we believe a substantial portion of that will stick. We've seen that, and we have seen both retailers and suppliers looking for drop ship solutions. We've seen that as a continued trend and getting in the habit, so it's been a tailwind.
Got it. Helpful. From a follow-up perspective, I know on the Q1 call, Archie, you had called out enablement campaigns in the month of April being strong, especially with Costco, I believe was the customer example. Maybe commentary on trends of enablement campaigns throughout the quarter, maybe what you saw in May and June, were they kind of in line with historical trends, or were they meaningfully different?
Yeah, no, we had a relatively strong enablement quarter. Remember, the enablement campaigns that you roll out in a quarter were sold one or two quarters earlier. There's a separation between closing enablement campaigns and the actual economic effect of them. Early in the quarter, we saw some customers want to accelerate, and some were a little bit deer in the headlights. I think as the pandemic, as we got into a rhythm after 30, 45 days, people realized we need to move forward, and I think things are
Are positive, and people are recognizing again, what we had discussed previously, the need to automate their supply chain, and that continues to be a trend. Then we're out trying to land new enablement campaigns, and those are longer-term sales cycle, but early indications are positive.
Great. Congrats again and thanks for taking my questions.
Thank you. Our next question comes from the line of Koji Ikeda with Oppenheimer. Your line is open.
Hi, this is Chad Schoening on for Koji. Thanks for taking the question. Wondering if you could touch on kind of the overall resilience of your technology today versus back in the 2008 period. Obviously, this is a pretty disruptive period, curious to hear kind of what has changed from a technology standpoint that could make your tech more strategic for a retailer now versus back then. Thank you.
Well, compared to 2008 and 2009, when we were probably a $20 million business, just about everything has changed. I would say our tech was strong, but we have world-class infrastructure. Our infrastructure team is unbelievable. We are clearly best in class, and I think it'll show during periods of times like this, where we can do a number of things. One, keep everything going extremely smoothly, we also have the ability, with our technology infrastructure, to scale up or down needed infrastructure literally within seconds. I think the reliability, the dependency, and then the scalability of the solution is night and day. As suppliers are looking to make sure they have companies that can operate during these changing and challenging times, I think that can become a more strategic advantage in the sales cycle.
Great. Thank you.
Thank you. Our next question comes from the line of Tom Roderick with Stifel. Your line is open.
Hey, Kim. Hey, Archie. Thanks for taking my questions. Archie, I appreciate your thoughts on the social issues impacting your community. Well done on taking some proactive measures to get involved, thanks for that. I guess kind of taking a big picture type of question, as we look at all the supply chain disruption, and it's taking a lot longer to get things from manufacturing facilities, factories over to in-store fulfillment here, would love to hear what your retail partners are doing in real time to pivot more towards, like you said, e-commerce, and let's even just call it multi-channel fulfillment. When you're having your discussions with those retail partners, what are they doing proactively, as opposed to, okay, now the orders are coming e-commerce, and we're just going to fulfill them in that regard.
What are they doing in terms of their own supplier selection, pivoting the way that they're working with their partners, and then how does that impact the way that you have the opportunity from a fulfillment basis to get ahead of it?
Yeah, I think a number of things, Tom, some that affect us and some that don't. Remember, in many cases, actions that the retailer takes can greatly affect the consumer experience, but it does not affect the way they operate with their supplier. For instance, delivering from stores doesn't affect how they do business with their suppliers. Curbside pickup, we're seeing more of that. That does not affect the way they work with their suppliers. We're seeing a lot of discussion around that, a lot of discussion around wanting to know inventory levels, a lot of discussion from suppliers figuring out how to source in country, as they're worried about the tax repercussions with China and other countries, and also the speed and resiliency of that. We're seeing a lot of that.
We're also seeing the ability to retailers really try to shift and think about their inventory much more holistically. They need to think of inventory in their stores, in the distribution center, and at their suppliers. We're seeing a lot more of that, and that's driving the drop ships. That allows a retailer, perhaps not as profitably with the drop ship, but keeping the customers and the customer experience, I think is much more front and center right now.
Yeah. Fantastic. Then just relative to some of the comments and concerns relative to the analytics sector. Still holding in there pretty well, and it seems like this would be sort of the technology that you might worry a little bit more about churn if in-store retail doesn't recover. Perhaps you can kind of refresh us as to how the traffic and point-of-sale analysis impacts your purchasing decisions and where those are coming from. Because again, sort of looks like analytics is holding in there relative to what you would worry about.
Yeah. I think there's some arguments that you could make the argument to suppliers that this is more strategic now than ever before. I think those that are using it heavily, that is the case. We're seeing that. I think where we see issues is as people are needing to make cost adjustments within their business, if they need to do that, things are very much under scrutiny. If they're heavily using analytics and it's baked into their operations, then we feel pretty good about retaining the customers. If they really haven't operationalized the use of the analytics product, and I think our analytics team does a fantastic job and has really had a focus over the last few years on really making sure we're tracking usage and making sure those customers are trained and using the product as much as they can.
It is a discretionary spend. We believe it's a very strategic spend, it's only strategic if you really are using it. One of the things we're just finding in general is customers are scrutinizing all of their spend, and I would assume this is across all vendors and saying, "If we're not really using it, we shouldn't continue paying for it.
That's just a normal flight during uncertain or challenging times. We do that at SPS Commerce. Things go a little bit more under scrutiny in times like this. I think that's a natural trend.
Yeah. One last quick one, just if you don't mind. I think a lot of companies are getting the question of, okay, second quarter was better than you'd feared, but how's the outlook sort of shape up, and in particular, how's the pipeline building coming along? What do you have for thoughts on that? I know you have typically a shorter sales cycle and a highly efficient sales model. Would love to hear what you're hearing for sort of top of the funnel pipeline for generation to refill the bucket.
Yeah. No, we feel things are. Again, with the community enablement campaigns, I would say, those sales cycles continue to be equivalent, if not better. Demand gen from search engine optimization or paid search, that's actually interesting is the fact that leads have shrunk, but the quality has gone up. People only search if they're ready to buy. I think that's actually, in some ways, a positive, in some ways, a negative. The end result is positive in the fact that you are working with less prospects to get the same output. Then the bigger deals are starting to come back around. We saw pretty decent on fulfillment. People are realizing that they need to automate their supply chains and make that more efficient.
Fantastic. Really good. Appreciate it. Thanks, guys. Nice job.
Thank you. Our next question comes from the line of Pat Walravens with JMP Securities. Your line is open.
Oh, great. Thank you. Two questions. First of all, if I look back to the factors that you pointed to on the negative side last quarter, Archie and Kim, you talked about closures, bankruptcies, analytics, and ERP migration. We talked about bankruptcies and analytics, but I'm wondering on closures and ERP migrations, what's going on. And in particular, your data on closures must be really interesting. I mean, can you tell what % of the stores on your network have not been open for business?
We can retailer by retailer. I don't have an aggregate number for you, Pat. The biggest thing that affects us is if a retailer actually goes out of business.
Yeah.
A retailer going from 500 stores to 200 stores, it's a fairly minimal impact, unless their assortment is going down, unless their number of suppliers Depending on the category, if it's grocery, which we haven't seen closures-
Yeah
That would probably have more of an impact because it is regionalized. That is not a significant impact on us.
ERP migrations, is there anything there that was worth calling out?
Yeah. We've seen that slow down, but it seems more similar to the past. Remember, there's some times where we are getting the deal right when they sign to go with a new ERP, and sometimes we're trailing. We're not the best indicator early on. It's when they start to migrate or halfway through the implementation, depending on the ERP system. We haven't seen a major change there yet.
Okay
They will be going down the road, you probably know the ERP and how they're doing better than I do.
Yeah. Well, surprisingly, they've actually been doing all right.
Yeah.
My other question was just sort of practically, anywhere in the world, do you have people back in the office, and is anything happening in person, or is everything 100% remote for SPS Commerce?
Most of our offices are open, because we are critical. We are completely work from home optional, and we've made very clear that that is truly work from home optional. I would tell you in the Minneapolis office, on any given day, there's an average of 2%-4% of employees are in for some reason.
Yeah.
Perhaps they have a big meeting, and they don't have great internet at their house. They need to print some things, they don't have great printing capabilities, or they just want a better work environment. It's pretty minimal. Obviously our help desk, which has been phenomenal, they come in, so if you have a laptop issue, you can go to the help desk bar and get your things fixed. There's a few people in, but it's not a collaborative work environment, I wouldn't say that.
Yeah. All right, great. Thank you, Archie. Thank you, Kim.
Thanks, Pat.
Thank you. As a reminder, ladies and gentlemen, that's star one to ask the question. Our next question comes from the line of Joe Vruwink with Baird. Your line is open.
Great. Hello, everyone. I was curious in thinking about the composition of your growth going forward. There's clearly a lot of interest in getting new suppliers qualified, and it actually seems like, I don't know if you agree, the end market commentary on that sort of thing seems to be broadening. Industrial distributors, grocery is less of a surprise, but it seems like a lot of end markets are still in the same boat, so that would seem good for expanding the audience, perhaps. I was wondering, in thinking going forward, if that's maybe good for getting customer counts up as you look maybe a few quarters out, would your expectation be that maybe the wallet share contribution begins to pick up as these new customers begin to realize the virtue of the network?
That comment, I'll hedge it on kind of the fulfillment product, if you can grow wallet, then obviously with analytics, that's maybe a different conversation, but just your thoughts there.
Sure, Joe. With our business model, we actually are fortunate in the fact that we have been able to continue to add customers or grow that customer count, as well as grow what that wallet share is or that average recurring revenue per recurring revenue customer. This past quarter, they were both 5%, equal weighted to our overall. In any given quarter or any given year, sometimes one may be a percent or two different than the other. What is common is that both of them are meaningful contributors to our overall recurring revenue growth. What tends to have the biggest impact in that customer count is highly correlated to those community campaigns, community enablement campaigns. When we have a quarter where we have strong amount of community enablement campaigns, you'll usually then see a higher increase in our net customer adds.
For this quarter, for example, our customer adds was 458. That was up when you look at it from a sequential basis or if you look at it from a year-over-year basis. It was a very healthy, very nice quarter. What tends to happen is the largest quantity of customers we get from a community enablement campaign tend to be smaller customers initially. Some of them, for example, may not have been doing anything EDI before. Some may, but not a huge amount. What typically then happens is over time, that revenue we get from those customers naturally grows over time. What's great about our business model is both are solid contributors, both are extremely important to our overall recurring revenue.
What you sometimes see is if you have a high community enablement campaign quarter, you're going to see more of that in the customer count and a little bit less on that wallet share, or then the inverse, if you have a quarter that has a little bit less on the community enablement. Our belief is that going forward, both will continue to be very solid, strong contributors to our overall recurring revenue. We believe that long term, we have a total addressable market that's at least $5 billion, which translates into ample opportunity for getting more and more customers and getting more and more revenue from those customers.
Okay, there's nothing about what you've seen over the last couple of months or in thinking about how the second half is forecasted to say that the basic structure of what you've outlined in the past is going to be any different in the next quarter or two, just thinking about the composition of your growth.
There's nothing unique as it relates to a particular quarter or the back half of the year that we would think would be an outlier. If we happen to get a significant increase in churn or bankruptcies, that would have an impact on the average revenue per customer and then somewhat of an impact on the customer number.
If I could squeeze one more in, I did want to ask whether collection activity this quarter was better or worse or about in line relative to your expectations. I see the reserves went up a bit sequentially. Nothing alarming, curious on your thoughts there.
Sure. The accounts receivable balance and the DSO did go up a little bit sequentially as some of our customers just taking a little bit longer to pay. Nothing really of concern or nothing of note there.
Okay, great. Thank you.
Thank you. Our next question comes from the line of Jeff Van Rhee with Craig-Hallum. Your line is open.
Hey, guys, this is Rudion for Jeff. Most of my questions have been answered, but just wanted to circle back to the pipeline for a second. Just curious if there's anything more you can share in terms of what you're seeing maybe up-market, down market, verticals, just relative to where it was maybe pre-COVID. Just curious what all, if any more color you could share on the pipe.
I would say not drastically different. I'd say the only thing that's different is there can be different dynamics within companies that perhaps they have so much business and so much activity, they don't have time to take a breath. They might be slowing down, and then some of the other companies have some capacity, they're more likely to speed up and prioritize things. That's around the edges, though, so don't read into that too heavily. There are some things around the edges, but I wouldn't say it's drastically different other than as we discussed between fulfillment and analytics.
Great. Thanks. That's it for me.
Thank you. I'm not showing no further questions in the queue. Ladies and gentlemen, this concludes today's conference call. Thank you for your participation. You may now disconnect. Everyone have a wonderful day.