Paylocity Holding Corporation (NASDAQ:PCTY) Q2 2024 Earnings Call Transcript

Paylocity Holding Corporation (NASDAQ:PCTY) Q2 2024 Earnings Call Transcript February 8, 2024

Paylocity Holding Corporation misses on earnings expectations. Reported EPS is $0.67 EPS, expectations were $1.21. PCTY isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Hello, and thank you for standing by. Welcome to Paylocity Holding Corporation Second Quarter 2024 Fiscal Year Results Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] I would now like to hand the conference over to Ryan Glenn. Sir, you may begin.

Ryan Glenn: Good afternoon, and welcome to Paylocity’s earnings results call for the second quarter of fiscal 2024, which ended on December 31, 2023. 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 herein 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’ll be attending the Wolfe Conference in New York on February 27th, and Toby and I will be attending the Stifel Executive Summit in Florida in early March and the Raymond James Institutional Investors Conference in Orlando on March 6th. 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 2024 earnings call. Our solid results continued in Q2 of fiscal 2024, with total revenue growth of 20% as our differentiated value proposition of providing the most modern software in the industry continues to resonate in the marketplace. Recurring and other revenue was $298.4 million or 16% growth over Q2 of last year. We continue to receive positive client feedback on our modern product suite, including newer products such as advanced scheduling, learning management, rewards and recognition and employee voice. Specifically, a client in the automotive industry with over 1,000 employees highlighted how the ability to create custom recognition awards that are shareable via the mobile app is positively impacting employee sentiment by making it easier for employees to celebrate one another in new ways.

Similarly, a retail client with 900 employees has created over 200 custom trainings with our learning management module to better connect employees to the company’s vision, mission and core values. Additionally, we continue to invest and build upon our AI leadership in the HCM industry with the launch of AI-driven personalized learning plans, optimized workforce schedules and embedded generative AI recommendation within rewards and recognition, employee voice and community. Building upon the generative AI-driven announcement and job description released in community and recruiting last calendar year, these new features help to further improve business efficiency, communication and the end user experience for our clients. While we are pleased with our Q2 results, the macro environment has become increasingly challenging over the last few months as employment levels on the platform once again moderated versus our expectations and presented an incremental headwind to results in the quarter and to fiscal 2024 guidance.

Despite the macro challenges, we continue to invest in our product suite and this commitment to product innovation continues to be recognized by third parties as Paylocity was recently awarded a Bronze Brandon Hall Group Excellence in Technology Award in the Best Advance in Employee Engagement Technology category, and named as overall leader in 10 HCM product category in G2’s Winter 2023 Grid Reports, marking the 21st consecutive quarter in which Paylocity achieved leader ranking. I would now like to pass the call to Toby to provide further color on the quarter.

Toby Williams: Thanks, Steve. This is a very busy time of year for all of our teams across the business 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 on 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 busy year-end season. Building on Steve’s comments around product innovation, in early December, we announced the acquisition of Trace, which enables organizations to manage headcount plans, forecast headcount budgets and approved headcount changes. When combined with the valuable employee record data in our platform, we believe Trace’s headcount planning capabilities will help our clients improve decision-making and drive faster execution.

From a financial perspective, Trace will not materially contribute to revenue or impact our overall margin profile in fiscal 2024. With respect to our go-to-market efforts, we’ve realized significant success in the upper end of our target market over the last several fiscal years, and we have invested to grow the size of that team. To date, in fiscal 2024, we’ve seen sales cycles upmarket take longer, and it has taken longer for our new reps to ramp up which has pressured productivity and new sales volumes in January and has weighed on fiscal 2024 growth. That said, we remain confident in our sales team and go-to-market motion, and we are pleased by our top of funnel activity, the growth of the upmarket pipeline and our ability to drive product differentiation upmarket.

We will be focusing the rest of this year and going into next year on driving a higher level of go-to-market productivity and driving execution upmarket. We have remained focused on our referral channels and have been pleased with the consistency of our referrals, which once again delivered more than 25% of our new business in Q2. We have also continued to drive leverage across the business as we grow and scale with focus on both EBITDA and free cash flow leverage this quarter and this fiscal year. The strong culture at Paylocity continues to be recognized externally as we recently were named to Newsweek’s America’s Greatest Workplaces for Diversity in 2024 and built-ins list of the 100 best large companies to work for in Chicago for 2023. I would now like to pass the call to Ryan to review the financial results in detail and provide updated fiscal 2024 guidance.

Ryan Glenn: Thanks, Toby. Total revenue for the second quarter was $326.4 million, an increase of 20%, with recurring other revenues up 16% from the same period last year and above the midpoint of our guidance. Our adjusted gross profit was 72.7% for Q2 as we continue to focus on scaling our operational costs while maintaining industry-leading service levels. We continue to invest in research and development and to understand our overall investment in R&D, it is important to both combine what we expense and what we capitalize. On a dollar basis, our year-over-year investment in total R&D increased by 27% when compared to the second quarter of fiscal 2023 and 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 21.3% of revenue in the second quarter versus 23.7% in the second quarter of last year. On a non-GAAP basis, G&A costs were 9.1% of revenue in the second quarter versus 11.3% 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 $112.6 million or 34.5% margin and exceeded the top end of our guidance by $9.6 million and represented 620 basis points of leverage versus Q2 of fiscal 2023. 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 $219 million. Operating income was $49.7 million and net income was $38.1 million. In regard to the balance sheet, we ended the quarter with cash and cash equivalents of $366.9 million and no debt outstanding. In regard to client-held funds and interest income, our average daily balance of client funds was $2.4 billion in Q2. We are estimating the average daily balance will be approximately $2.9 billion in Q3 with an average annual yield of approximately 450 basis points. On a full-year basis, we are estimating the average daily balance will be approximately $2.5 billion to $2.6 billion with an average yield of approximately 445 to 450 basis points. Please note, our guidance includes the impact of a contemplated 25 basis point decline in the Fed funds rate in May.

In regard to client workforce levels, year-over-year employees on the platform growth came in below our expectations in Q2, resulting in an incremental headwind to the quarter and fiscal year. Given recent macroeconomic trends, our updated guidance for the back half of fiscal 2024 includes further moderation in client workforce levels through the remainder of the fiscal year. Finally, I’d like to provide our financial guidance for Q3 and full fiscal 2024. For the third quarter of fiscal 2024, total revenue is expected to be in the range of $395 million to $399 million or approximately 17% growth over third quarter fiscal 2023 total revenue. And adjusted EBITDA is expected to be in the range of $153.5 million to $156.5 million. And for fiscal year 2024, total revenue is expected to be in the range of $1.384 billion to $1.389 billion or approximately 18% growth over fiscal 2023.

And adjusted EBITDA is expected to be in the range of $474 million to $478 million, which represents 240 basis points of leverage over fiscal 2023. Operator, we are now ready for questions.

Operator: Thank you. [Operator Instructions] Our first question comes from the line of Scott Berg with Needham. Your line is open.

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Q&A Session

Joshua Reilly: Hey guys. This is Josh on for Scott. Thanks for taking our questions. Just starting off here, what are you seeing in terms of unit growth or any potential churn with customers at the low end of the market? One of your public competitors noted an elevated level of churn with customers under 50 employees. Are you seeing anything there? Or is it really simply just a matter of customers across the board regardless of size, lowering their employment levels across all customer segments?

Steve Beauchamp: Yes. I think the impact that we’re seeing is our current customers are not necessarily getting the growth of employees on the platform that you would typically see in this type of economic environment. And so we certainly factored that in, in terms of what we’ve seen already this year and then assumed that that was going to continue to be the case for the back half of the year. So that’s the headwind that I think Ryan referred to in the script. You typically see customers under 50 employees, they naturally turn over at a higher rate just because there’s more out of business losses. That trend is probably something that’s always been the case in our industry. And so if you were growing that segment more and you were losing more there, that probably just is the nature of the business under 50 market.

I don’t think we’ve seen anything in that space that would be any different than before. And I think an economy that’s growing and fairly consistent in terms of employment levels, nothing to call out in that space.

Joshua Reilly: Got it. And then just a follow-up. Are you seeing – is there going to be any year-over-year headwinds related to forms revenue in the March quarter in terms of number of employees that were active on the platform on a year-over-year basis? Thank you.

Ryan Glenn: Sure. So I think we obviously – where we are in the quarter, have a good idea of where form revenue is trending for Q3, so we’ve taken that into account as we’ve guided for Q3 and for fiscal 2024.

Joshua Reilly: Got it. Thanks, guys.

Operator: Thank you. [Operator Instructions] Our next question comes from the line of Brad Reback with Stifel. Your line is open.

Brad Reback: Great. Thanks very much. Toby, can you spend a couple of minutes reviewing some of your commentary on the salesforce, the close rates, upmarket. How much of that you feel is economic versus execution? Thanks.

Toby Williams: Yes. Sure. Thanks, Brad. Yes, I think if you go back over probably the last, call it, 18 months to two years, we’ve talked about getting a traction upmarket and we’ve talked about having incremental success there from a sales perspective. And I think that’s been the case. And I think we’ve also invested more across the business and in go-to-market to support the growth that we’ve seen there. And as we’ve called out, I think last quarter, we called out that we were seeing slightly slower sales cycles, I think we saw the same thing this quarter. And I think that was the reason why we put it in the script. I think it’s hard to take a part with any precision, what part of that because I know others in the space have talked about this, too, and you’ve on and off heard it in the broader software category in terms of upmarket sales cycles being longer.

It’s hard to take a part how much of that is attributable to the macro. I don’t think the macro helps. But I think part of it is, I think as we’ve sort of gotten further and further into the upmarket, I think we certainly have an opportunity to execute better. And I think that will be a focus as we look at the rest of this fiscal year to be able to drive productivity and I think that will carry into next fiscal, too.

Steve Beauchamp: I think the only thing I would add to that, Brad, is one of the things that we are seeing is a pretty nice build in the pipeline market. We didn’t see all that come through in January and obviously, we had to factor that into the guidance. But we definitely see a fair amount of activity there. And so that is certainly allows us to remain optimistic about the success in the market in terms of the clients that we’re selling, the response we’re getting from prospects in the market and the opportunity going forward.

Brad Reback: And can you just remind us what upmarket means for you? Is that north of 500, north of 1,000? Thanks.

Steve Beauchamp: Yes. I would say it’s north of 500 employees would be how we define that kind of internally, yes.

Brad Reback: Great. Thanks very much.

Operator: Thank you. [Operator Instructions] Our next question comes from the line of Samad Samana with Jefferies. Your line is open.

Samad Samana: Hi, good evening. Thanks for taking my questions. Maybe the first one, as you – maybe to piggyback on Brad’s question about the upmarket, does it make you think that you need a different type of either sales reps? Or I guess, can you help us understand maybe what has made it more difficult for them to be able to ramp? And does it, do you need to hire different types of reps there than it historically done in the core sales organization? Maybe walk us through that?

Steve Beauchamp: Yes. I think it’s a good question. So we’ve been ramping the number of reps in that space, as Toby just mentioned faster than the rest of our sales force over the last, call it, two to three years. We’ve called out the fact that success in that market has been a tailwind for us over the last couple of fiscal years. Early on in that cycle, you get a lot of promotions from within. It’s very common to be able to do that as you start to ramp to bigger numbers, you’re certainly bringing more people in from the outside. So I think part of this is figuring out how long does it take someone to ramp from the outside versus internal. And then I think secondly, when you start to get higher volume of deals in that space, trying to understand what those sales cycles look like and the decision-making cycle.