Paylocity Holding Corporation (NASDAQ:PCTY) Q2 2023 Earnings Call Transcript

Paylocity Holding Corporation (NASDAQ:PCTY) Q2 2023 Earnings Call Transcript February 2, 2023

Operator: Hello, and thank you for standing by. Welcome to Paylocity Holding Corporation Second Quarter 2023 Fiscal Year Results. I would now like to hand the conference over to your speaker, Ryan Glenn. You may begin, sir.

Ryan Glenn: Good afternoon, and welcome to Paylocity’s earnings results call for the second quarter of fiscal ’23, which ended on December 31, 2022. I’m Ryan Glenn, Chief Financial Officer. And joining me on the call today are Steve Beauchamp and Toby Williams, co-CEOs of Paylocity. Today, we will be discussing the results announced in our press release issued after the market closed. A webcast replay of this call will be available for the next 45 days on our website under the Investor Relations tab. Before beginning, we must caution you that today’s remarks, including statements made during the question-and-answer session, contain forward-looking statements. These statements are subject to numerous important factors, risks and uncertainties, which could cause actual results to differ from the results implied by these or other forward-looking statements.

Also, these statements are based solely on the present information and are subject to risks and uncertainties that can cause actual results to differ materially from those projected in the forward-looking statements. For additional information, please refer to our filings with the Securities and Exchange Commission for the risk factors contained therein and other disclosures. We do not undertake any duty to update any forward-looking statements. Also, during the course of today’s call, we will refer to certain non-GAAP financial measures. We believe that non-GAAP measures are more representative of how we internally measure the business, and there is a reconciliation schedule detailing these results currently available in our press release, which is located on our website at paylocity.com under the Investor Relations tab and filed with the Securities and Exchange Commission.

Please note that we are unable to reconcile any forward-looking non-GAAP financial measure to the directly comparable GAAP financial measure because the information which is needed to complete a reconciliation is unavailable at this time without unreasonable effort. In regard to our upcoming conference schedule, I will be attending the Stifel Executive Summit in Florida on March 6 and the Raymond James Institutional Investor Conference in Orlando on March 7 and Toby will be attending the JMP Tech Conference in San Francisco also on March 7. Please let me know if you’d like to schedule time with us at any of these events. With that, let me turn the call over to Steve.

Steve Beauchamp: Thank you, Ryan, and thanks to all of you for joining us on our second quarter fiscal ’23 earnings call. Our differentiated value proposition of providing the most modern software in the industry, coupled with continued strong execution, resulted in excellent Q2 results and increased full year guidance. Total revenue was $273 million or 39.3% growth over Q2 of last year and exceeded the top end of our guidance by $12 million. Our continued strong sales momentum is the result of ongoing investments in product innovation, including leveraging last year’s acquisition of Cloudsnap, a flexible low-code solution for integrating disparate business applications. We have fully integrated Cloudsnap into the Paylocity suite and are leveraging this technology to provide the most modern software in the industry to accelerate the role of new integrations and use cases to better serve our clients and their employees.

To date, we developed nearly 2 dozen next-gen integrations across ERP, point-of-sale, time and labor and expense-related software that allow our clients to experience better data consistency by sharing employee benefits, financial and other key data elements more readily across their HR and other critical business systems. In addition, Cloudsnap’s low-code integration capabilities has accelerated the extensibility of the Paylocity platform, helping to drive differentiation and incremental value to clients by positioning employee data and the Paylocity platform at the center of their application ecosystem. We continue to see strong attach rates in our modern workforce solutions as clients realize the value in creating a unique employee experience and engaging culture for remote, hybrid and in-office teams.

Community and premium video whose new features centered on creating and sharing files, automating team groups and centralizing video management have allowed our clients and their employees to use our application in ways that stretch beyond traditional HCM functionality. This dynamic is reflected in our utilization metrics, where community monthly active users post and announcements continue to demonstrate strong growth on a year-over-year basis. Similarly, the number of videos created and played within our premium video offering continue to grow faster than the overall business as clients look to increasingly connect and engage with their employees through mediums that are more engaging than traditional e-mail. Our continued success in the market and commitment to product innovation continues to be recognized by third parties as Paylocity was recently named an overall leader in all 12 HRIS product categories in G2’s Winter 2023 Grid report, including the number 1 overall leader in several categories, such as core HR, HR management systems, performance management and learning management.

Similarly, the strong culture at Paylocity continues to be recognized externally as we receive the 2023 Built-in Best Places to Work award. I would now like to pass the call to Toby to provide further color on the quarter.

Toby Williams: Thanks, Steve. Our focus on driving higher employee engagement, collaboration and connection once again contributed to strong results in Q2 as these underlying tenets of our modern workforce solutions have continued to drive increasing utilization of these products as we exit the pandemic. This dynamic was evident in Q2 across a wide range of clients, including an auto dealer with 1,200 employees across 22 locations that has seen employee survey participation increased to more than 70% since the rollout of Paylocity surveys, which directly led to updates on their fringe benefit policies and higher employee engagement. Similarly, an outdoor furniture manufacturer with over 1,800 employees has seen over 90% of its employees engage with the Paylocity mobile app to communicate, collaborate and recognize their peers.

Combined with the ongoing investments we are making across our broader product suite, this commitment to innovating and building the most modern software platform in the industry contributed to strong sales execution in Q2 and helped set us up for a strong second half of fiscal ’23. Consistent with the prior quarter, interest income on client funds continues to rise as a result of sustained interest rate increases from the Federal Reserve. Given the large market opportunity in front of us, we continue reinvesting a portion of this upside back into key areas of the business to help drive future growth. In addition to continuing our investments in digital marketing and our channel initiatives, which once again, delivered more than 25% of our new business in Q2, we will continue to incrementally invest across our product suite to further innovate and deliver the most modern software platform in the industry.

This is also a very busy time of year for our operations teams as they work closely with clients on year-end processing of payrolls, W-2s, 1095s and annual tax form filings to federal, state and local agencies and the implementation of new clients. I want to thank all of our employees for their hard work and dedication to our clients during this very, very busy time of year. I’d now like to pass the call to Ryan to review the financial results in detail and provide updated fiscal ’23 guidance.

Ryan Glenn: Thanks, Toby. Total revenue for the second quarter was $273 million, an increase of 39.3% with recurring and other revenues up 31.4% from the same period last year and $14 million ahead of our guidance midpoint. Our adjusted gross profit was 72.4% for Q2 versus 68.7% in Q2 of last fiscal, representing 370 basis points of leverage as we continue to focus on scaling our operational costs, while maintaining industry-leading service levels. We continue to make significant investments in research and development and to understand our overall investment in R&D is important to combine both what we expense and what we capitalize. On a dollar basis, our year-over-year investment in total R&D increased by 38.4% when compared to the second quarter of fiscal ’22 and we remain focused on making incremental investments in R&D throughout fiscal ’23 as we continue to build out the Paylocity platform to serve the needs of the modern workforce.

In regards to our go-to-market activities, on a non-GAAP basis, sales and marketing expenses were 23.7% of revenue in the second quarter, and we remain focused on making incremental investments in this area of the business in fiscal ’23 to drive continued growth. On a non-GAAP basis, G&A costs were 11.3% of revenue in the second quarter versus 13.3% in the same period last year, and we remain focused on consistently leveraging our G&A expenses on an annual basis. Our adjusted EBITDA for the second quarter was $77.4 million or 28.3% margin and exceeded the top end of our guidance by $10.9 million and represented 450 basis points of leverage versus Q2 of fiscal ’22. We continue to be pleased by our ability to drive increased profitability through leverage and adjusted gross margin, adjusted EBITDA and free cash flow while also maintaining strong revenue growth.

Briefly covering our GAAP results. For Q2, gross profit was $182.9 million, operating income was $18.2 million and net income was $15.6 million. In regards to the balance sheet, we ended the quarter with cash and cash equivalents of $120.1 million and no debt outstanding. In regard to client-held funds and interest income, our average daily balance of client funds was $2.3 billion in Q2. We are estimating the average daily balance will be approximately $2.7 billion in Q3 with an average annual yield of approximately 320 basis points. On a full year basis, we are estimating the average daily balance will be $2.4 billion with an average yield of approximately 280 basis points. Additionally, please note that our guidance includes the impact of this week’s 25 basis point interest rate increase and also assumes an increase of up to 25 basis points in March.

In regards to client workforce levels, the number of client employees on the platform was flat in October, November, December and January on a sequential basis in each month, and as a reminder, was up only modestly on a sequential basis in Q1. Our guidance assumes client workforce levels to be flat for the remainder of the fiscal year. Finally, I’d like to provide our financial guidance for Q3 and full fiscal ’23, which assumes no further changes in client workforce levels in the back half of this fiscal year. For the third quarter of fiscal ’23, total revenue is expected to be in the range of $330.5 million to $334.5 million or approximately 35% growth over third quarter fiscal ’22 total revenue. And adjusted EBITDA is expected to be in the range of $121.5 million to $124.5 million.

And for fiscal year ’23, total revenue is expected to be in the range of $1.156 billion to $1.161 billion or approximately 36% growth over fiscal ’22, and adjusted EBITDA is expected to be in the range of $358.5 million to $362.5 million, which represents 320 basis points of leverage over fiscal ’22. In conclusion, we are pleased with our Q2 results and the strong momentum we have carried in the back half of fiscal ’23. With our fiscal ’23 guidance of approximately 36% revenue growth at the midpoint and adjusted EBITDA margins of 31%, we are firmly above the rule of 60 in fiscal ’23. We remain committed to continuing our history of driving profitable revenue growth while also increasing adjusted gross margin, adjusted EBITDA and free cash flow on an annual basis.

Operator, we are now ready for questions.

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Q&A Session

Operator: Our first question comes from the line of Scott Berg with Needham & Company.

Scott Berg : I’ve got two here. We’re seeing a little bit of weakness from some other SMB companies or software vendors focused on market a little bit. Any color in terms of what you’re seeing around customer adds in the last quarter, maybe relative to your expectations year-to-date?

Steve Beauchamp: Yes. Sure, Scott. So we had a really good first half of the year overall. And I think even Toby mentioned talking about some of the sales momentum that we’ve had in our busy selling season and that allowed us to significantly raise the year. I think we have an advantage being the HCM business, payroll is something that every single company has to do. For us, it all starts with payroll and using the data from being payroll to be able to connect to the rest of the suite and obviously sell a much broader solution today. And so we’ve had continued success in terms of adding new units, and we’ve also had success in terms of selling more product and also even more success upmarket as we kind of called out over the last couple of calls.

Scott Berg : Got it. Helpful. And then from a follow-up question, I know Ryan had mentioned that your R&D expense is up roughly 38% year-over-year. That’s faster than your revenue growth right now. And I’ve called out many times, so I think your product innovation is driving your — at least what I think there’s some preseason win rate improvements over the last 2 years for the company. But how should we think about R&D investments going forward? Do you continue to step on the accelerator in a similar manner as you have been recently? Or is that an opportunity to maybe gain some financial leverage over because you’re starting to, I don’t know, hit as much product as you need to say.

Steve Beauchamp: Yes. I think, Scott, our point has always been a combination of adding new units, landing those customers and then expanding the number of products that we’ve got. I think we have been fairly consistent being close to our revenue growth in terms of our investments in product and technology. We never viewed that as a big leverage point, we look for leverage elsewhere. We see big opportunity to add more modern capabilities to the suite additional products and revenue opportunities to the suite. And we certainly have not signaled any intention to be looking for leverage there, we think there’s a fair amount of natural leverage in the business model in many other places as we scale. So I think the same approach as we’ve taken historically.

Operator: Our next question comes from the line of Brad Reback with Stifel.

Brad Reback : Steve, as you talked about sort of customers using the product in new use cases, is there an opportunity for new ways to monetize going forward beyond just per employee per month?

Steve Beauchamp: Yes. I think that’s a great question, Brad. We called out the Cloudsnap acquisition, the ability for us to integrate in our marketplace. We really view the data that we have about people to be really valuable to our customers, both from an automation perspective. But as we integrate with their broader suite of software that they’re using to run their business, there certainly could be additional monetization opportunities. We are seeing that a little bit in the marketplace. We’re at very early stages of continuing to expand the number of providers and leveraging the data that we have. So I don’t think that — all of our revenue has to be PPM, I think most of our revenue will continue to be PPM. But there’s some opportunity for us to be able to leverage marketplace to potentially drive some referral revenue back to Paylocity as well.