Paylocity Holding Corporation — Form 10-Q Summary
Reporting period: Quarterly and year-to-date periods ended March 31, 2016. The supplied metadata states “2015 Q3,” but the filing itself is for fiscal third quarter 2016 and compares with the periods ended March 31, 2015.
Business Context
Paylocity provides cloud-based payroll and human capital management software to medium-sized organizations, generally those with 20 to 1,000 employees. Its SaaS platform includes payroll, HCM, implementation, compliance, and related services. Recurring revenue is primarily based on client employees and products used.
Financial Performance and Position
| Metric | Three Months Ended March 31 | Nine Months Ended March 31 |
|---|---|---|
| Total revenue | $70.6 million, versus $47.3 million | $170.9 million, versus $112.7 million |
| Recurring revenue | $67.1 million, up 53% | $162.3 million, up 53% |
| Gross profit | $43.4 million; 62% margin | $99.4 million; 58% margin |
| Operating income (loss) | $6.2 million, versus $1.7 million | $1.5 million, versus $(9.7) million |
| Net income (loss) | $6.2 million, or $0.12 diluted EPS | $1.6 million, or $0.03 diluted EPS |
| Adjusted EBITDA | $14.6 million, versus $7.5 million | $25.1 million, versus $7.7 million |
| Operating cash flow | Not separately presented for the quarter | $29.1 million, versus $10.2 million |
Recurring revenue represented 95% of total revenue for both the quarter and the nine-month period. Recurring gross margin improved to 72% for the quarter and 71% year to date, compared with 71% and 67%, respectively, in the prior comparable periods. Implementation services remained loss-making, with implementation gross margins of negative 148% for the quarter and negative 177% year to date.
At March 31, 2016, cash and cash equivalents were $89.7 million, compared with $81.3 million at June 30, 2015. Funds held for clients were $1.423 billion and were matched by client fund obligations of the same amount; these funds are restricted for client-related payments and are not operating liquidity. Total assets were $1.575 billion and stockholders’ equity was $120.6 million.
The filing does not report outstanding borrowings or debt at March 31, 2016. Operating lease obligations totaled $35.1 million and unconditional purchase obligations totaled $3.3 million. The company stated that cash on hand and operating cash flow should be sufficient for at least the next 12 months.
Material Changes Versus Prior Comparable Period
- Total revenue increased 49% for the quarter and 52% for the nine-month period, driven primarily by new and existing clients and the Affordable Care Act compliance solution.
- Recurring fees increased 53% in both comparison periods. Interest income on client funds increased 34% for the quarter and 44% year to date due primarily to higher average client fund balances.
- Gross margin improved from 59% to 62% for the quarter and from 53% to 58% year to date, principally due to improved recurring gross margin and lower reseller expenses following the acquisition of the remaining reseller during fiscal 2015.
- Sales and marketing expense increased 40% for the quarter and 43% year to date as the company expanded its sales, lead-generation, and marketing personnel.
- Research and development expense increased 34% for the quarter and 32% year to date, while the company added development personnel and increased capitalization of internal-use software costs.
- General and administrative expense increased 49% for the quarter and 43% year to date, reflecting higher personnel, stock-based compensation, occupancy, professional services, and public-company costs.
- Net income improved from $1.8 million to $6.2 million for the quarter. For the nine-month period, the company moved from a $9.5 million net loss to $1.6 million of net income.
- Operating cash flow increased by $18.9 million year to date. Capital expenditures were $11.7 million and capitalized internal-use software costs were $5.8 million, both materially higher than the prior year.
Outlook, Commentary, Risks, and Unusual Items
Management expects to continue investing in sales and marketing, research and development, implementation and client service personnel, data centers, and infrastructure. Management expects these investments to increase absolute costs but anticipates long-term economies of scale, operating leverage, and improved gross and operating margins. No quantitative revenue or earnings guidance is provided in the filing.
Results are seasonal. The fiscal third quarter generally benefits from W-2 preparation, higher client fund balances and interest income, and increased implementation activity following the calendar year-end. Management cautions that third-quarter results are not necessarily indicative of full-year or future performance.
Stock-based compensation was $13.2 million for the nine months ended March 31, 2016, compared with $10.7 million in the prior year. The company also incurred approximately $0.4 million of costs related to the September 2015 secondary offering during the nine-month period. The secondary offering involved sales by existing shareholders, and the company received no proceeds.
The company maintains a valuation allowance against most net deferred tax assets, which materially affects the relationship between tax expense and pretax income. It reported no unrecognized tax benefits. Recently issued accounting standards, including revenue recognition, leases, deferred taxes, and stock compensation standards, were under evaluation and had not yet been adopted.
- Client agreements are generally terminable on 60 days’ or less notice, creating renewal and revenue-retention risk.
- The business depends on continued client growth, employment levels, interest rates, and adoption of cloud-based payroll and HCM solutions.
- Security breaches, service interruptions, software defects, data loss, or failures at data centers, banking partners, or other service providers could result in liabilities, client losses, and liquidity needs.
- Client funds and payroll processing expose the company to credit, interest-rate, liquidity, ACH settlement, and banking-partner risks. The company processed substantial payroll volumes and may need short-term liquidity if client payments fail to clear.
- Competition, regulatory changes affecting payroll and benefits, including the Affordable Care Act, and the need to update products could affect growth and margins.
- The company expected to cease qualifying as an emerging growth company on June 30, 2016, potentially increasing compliance and audit costs.
- Management reported no material pending legal proceedings, no material off-balance-sheet arrangements, and effective disclosure controls as of March 31, 2016.
Investor Verification Priorities
- Verify that the applicable period is fiscal Q3 2016, not Q3 2015, and reconcile all quarter and year-to-date comparisons.
- Assess recurring revenue growth, client additions, retention, employee counts served, and the sustainability of the 53% recurring-fee growth rate.
- Separate operating cash and liquidity from the $1.423 billion of restricted client funds and matching client fund obligations.
- Monitor implementation losses, capitalized software costs, capital expenditures, and whether investments are producing expected operating leverage.
- Review stock-based compensation, dilution from options and restricted stock units, and the effect of the company’s planned transition out of emerging-growth-company status.
- Evaluate exposure to client payment failures, ACH and banking-partner disruptions, interest-rate changes, cybersecurity incidents, data-center outages, and regulatory changes.