Paycom Software, Inc. — Q1 2020 Form 10-Q
Reporting period: Three months ended March 31, 2020; filed April 30, 2020. Paycom provides cloud-based human capital management software on a SaaS basis. Financial statement amounts below are in millions, except per-share data.
Key financial results
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Revenue | $242.4 | $199.9 | +21% |
| Recurring revenue | $238.5 | $196.9 | +21% |
| Operating income | $89.3 | $62.5 | +43% |
| Net income | $63.0 | $47.3 | +33% |
| Diluted EPS | $1.08 | $0.81 | — |
| Operating cash flow | $82.0 | $80.4 | +2% |
Gross margin was approximately 88%, versus 85%; operating margin was 36.8%, versus 31.3%; and net margin was 26.0%, versus 23.6%. Adjusted EBITDA, a non-GAAP measure, was $117.9 million versus $103.3 million; non-GAAP diluted EPS was $1.33 versus $1.19.
Revenue growth reflected new-client additions, increased productivity in mature sales offices, maturing newer offices, sales of additional applications to existing clients, and strong tax-form filing activity. Lower interest rates reduced interest earned on client funds. Q1 is typically seasonally stronger in revenue and margins because payroll forms are processed early in the year.
Financial position and liquidity
- At March 31, cash and cash equivalents were $181.8 million, compared with $133.7 million at year-end. Funds held for clients were $1,392.4 million, matched by a client-funds obligation of the same amount; these client funds are not general-purpose liquidity.
- Total assets were $2,309.7 million and stockholders’ equity was $599.8 million. Deferred contract costs totaled $367.3 million.
- Debt was approximately $32.2 million, including current maturities. The $75 million revolving facility had no borrowings outstanding; the company reported covenant compliance and capacity to increase the facility to $125 million subject to conditions.
- Management said cash and cash generated from operations were expected to meet working-capital and capital-expenditure needs for at least the next 12 months, while noting it would continue assessing COVID-19 effects on liquidity.
- Cash, cash equivalents and restricted cash totaled $1,261.2 million at quarter-end, down $380.6 million from the beginning of the period. This measure includes restricted client funds. Investing cash outflow was $183.6 million, including purchases of short-term investments held for clients and $25.7 million of property and equipment purchases. Financing cash outflow was $279.0 million, substantially affected by the timing-related $270.4 million decrease in client-funds obligations.
Material changes, outlook and risks
- Operating expenses increased 11% to $153.1 million. Sales and marketing rose 39% to $55.0 million, including higher employee-related and advertising costs; management planned to increase advertising spending in Q2 versus Q1 and said it could continue where returns warranted. R&D increased 17% to $21.6 million.
- General and administrative expense declined 11% to $40.1 million, primarily because non-cash stock-based compensation decreased. Total such compensation was $15.8 million, down from $31.1 million, mainly because market-based awards had accelerated vesting in Q1 2019.
- The effective tax rate rose to 28.7% from 23.9%, primarily due to lower excess tax benefits from stock-based compensation vesting.
- COVID-19 created substantial uncertainty. Paycom cited potential client headcount reductions, business closures and failures, delayed client onboarding, lower demand, and effects on clients’ ability to pay. Per-employee pricing makes client workforce reductions a revenue risk. Lower interest rates, slower growth in client funds and CARES Act employer Social Security tax deferrals were expected to weigh on recurring revenue growth.
- At March 31, 98% of employees were working remotely; business travel was suspended and sales meetings shifted to virtual formats. Management noted this could lengthen sales cycles and impede client acquisition, while expressing confidence in the business and its products. The filing did not provide a numerical revenue or earnings forecast and stated that the pandemic’s full impact could not yet be estimated.
- Paycom repurchased 40,032 shares during the quarter at an average $204.04 per share. A March authorization provided up to $250 million in repurchases, with $242 million remaining at quarter-end.
- An SEC inquiry, ongoing since 2019, concerns whether certain clients were charged for applications they were already paying for and focuses on books and records and internal controls. Fewer than 250 clients—about 0.5% of the client base—were identified; approximately $2.5 million had been refunded. The company could not predict the inquiry’s timing, scope or outcome.
- Management reported effective disclosure controls and no material changes in internal control over financial reporting during the quarter. Ordinary-course legal proceedings remain subject to uncertainty.
Important facts for investors to verify
- How COVID-19 affected client employee counts, retention, new-client onboarding and per-employee revenue in subsequent quarters.
- Trends in interest income on client funds and the effects of lower rates and CARES Act tax deferrals on recurring revenue.
- Progress and outcome of the SEC inquiry, including any further client refunds, findings or remediation.
- Whether higher marketing investment supports client acquisition and growth, and how expenses and margins evolve after the seasonally strong first quarter.
- Use of the repurchase authorization, cash available excluding client funds, capital spending on the Grapevine facility, and compliance with debt covenants.
- The effect of stock-based compensation and market-based award vesting on reported and non-GAAP earnings.