Payroll and human resources software provider, Paylocity (NASDAQ:PCTY) reported results in line with analysts' expectations in Q2 FY2024, with revenue up 19.5% year on year to $326.4 million. On the other hand, the company expects next quarter's revenue to be around $397 million, slightly below analysts' estimates. It made a non-GAAP profit of $1.49 per share, improving from its profit of $1.12 per share in the same quarter last year.
Paylocity (PCTY) Q2 FY2024 Highlights:
- Revenue: $326.4 million vs analyst estimates of $324.4 million (small beat)
- EPS (non-GAAP): $1.49 vs analyst estimates of $1.28 (16.9% beat)
- Revenue Guidance for Q3 2024 is $397 million at the midpoint, below analyst estimates of $401 million
- The company dropped its revenue guidance for the full year from $1.41 billion to $1.39 billion at the midpoint, a 1.5% decrease
- Free Cash Flow of $57.09 million, up 28.3% from the previous quarter
- Gross Margin (GAAP): 67.1%, in line with the same quarter last year
- Market Capitalization: $9.45 billion
Founded by payroll software veteran Steve Sarowitz in 1997, Paylocity (NASDAQ:PCTY) is a provider of payroll and HR software for small and medium-sized enterprises.
Managing payroll may seem like an easy thing to do from the outside, but it is actually one of the most difficult administrative functions of a company. There are tax compliance issues, employees are eligible for different benefits based on contract type, local and national laws, and even a small mistake can ruin the whole process.
Using Paylocity software, organizations can schedule interviews with job candidates, manage employee attendance, learning, payroll, and benefits. Paylocity also integrates with other software platforms to help employees with tasks such as compliance, tax and insurance management.
The company developed its software for small businesses in search of intuitive and affordable HR solutions, as enterprise HR software is often too expensive and too complex to use for smaller businesses and their employees.
HR Software
Modern HR software has two powerful benefits: cost savings and ease of use. For cost savings, businesses large and small much prefer the flexibility of cloud-based, web-browser-delivered software paid for on a subscription basis rather than the hassle and complexity of purchasing and managing on-premise enterprise software. On the usability side, the consumerization of business software creates seamless experiences whereby multiple standalone processes like payroll processing and compliance are aggregated into a single, easy-to-use platform.
The major competitors in the mid-market for HCM software include ADP (NASDAQ:ADP) and Paychex (NASDAQ:PAYX).
Sales Growth
As you can see below, Paylocity's revenue growth has been very strong over the last two years, growing from $196 million in Q2 FY2022 to $326.4 million this quarter.
This quarter, Paylocity's quarterly revenue was once again up 19.5% year on year. We can see that Paylocity's revenue increased by $8.78 million in Q2, which was roughly the same growth rate observed in Q1 2024. This steady quarter-on-quarter growth shows that the company can maintain its paced growth trajectory.
Next quarter's guidance suggests that Paylocity is expecting revenue to grow 16.8% year on year to $397 million, slowing down from the 38.2% year-on-year increase it recorded in the same quarter last year. Looking ahead, analysts covering the company were expecting sales to grow 17.7% over the next 12 months before the earnings results announcement.
Profitability
What makes the software as a service business so attractive is that once the software is developed, it typically shouldn't cost much to provide it as an ongoing service to customers. Paylocity's gross profit margin, an important metric measuring how much money there's left after paying for servers, licenses, technical support, and other necessary running expenses, was 67.1% in Q2.
That means that for every $1 in revenue the company had $0.67 left to spend on developing new products, sales and marketing, and general administrative overhead. Paylocity's gross margin is poor for a SaaS business and it's dropped significantly since the previous quarter. This is probably the exact opposite of what shareholders would like to see.
Cash Is King
If you've followed StockStory for a while, you know that we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can't use accounting profits to pay the bills. Paylocity's free cash flow came in at $57.09 million in Q2, up 15.6% year on year.
Paylocity has generated $265 million in free cash flow over the last 12 months, an impressive 20.3% of revenue. This high FCF margin stems from its asset-lite business model and strong competitive positioning, giving it the option to return capital to shareholders or reinvest in its business while maintaining a cash cushion.
Key Takeaways from Paylocity's Q2 Results
It was good to see Paylocity exceed analysts' earnings estimates but otherwise we struggled to find many strong positives in these results. On the other hand, Paylocity's full-year revenue guidance was below expectations and market took that seriously. The company is down 8.6% on the results and currently trades at $157.55 per share.
Is Now The Time?
When considering an investment in Paylocity, investors should take into account its valuation and business qualities as well as what's happened in the latest quarter.
Although Paylocity isn't a bad business, it probably wouldn't be one of our picks. Although its , Wall Street expects growth to deteriorate from here. And while its very efficient customer acquisition hints at the potential for strong profitability, the downside is its existing customers have been reducing their spend, which is a bit of a concern. On top of that, its gross margins aren't as good as other tech businesses we look at.
The market is certainly expecting long-term growth from Paylocity given its price-to-sales ratio based on the next 12 months is 6.4x. We can find things to like about Paylocity and there's no doubt it's a bit of a market darling, at least for some. But we are wondering whether there might be better opportunities elsewhere right now.
Wall Street analysts covering the company had a one-year price target of $202.47 per share right before these results (compared to the current share price of $157.55).
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