Payroll and human resources software provider, Paylocity (NASDAQ:PCTY) reported Q3 FY2022 results beating Wall St's expectations, with revenue up 32.2% year on year to $245.9 million. Guidance for next quarter's revenue was $217.5 million at the midpoint, 2.15% above the average of analyst estimates. Paylocity made a GAAP profit of $34.8 million, down on its profit of $36.8 million, in the same quarter last year.
Paylocity (PCTY) Q3 FY2022 Highlights:
- Revenue: $245.9 million vs analyst estimates of $241.6 million (1.79% beat)
- EPS (non-GAAP): $1.22 vs analyst estimates of $0.91 (33.9% beat)
- Revenue guidance for Q4 2022 is $217.5 million at the midpoint, above analyst estimates of $212.9 million
- Free cash flow of $65.3 million, up from $14.8 million in previous quarter
- Gross Margin (GAAP): 69.2%, in line with same quarter last year
Founded by payroll software veteran Steve Sarowitz in 1997, Paylocity (NASDAQ:PCTY) is a provider of payroll and human resources 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 benefits from dual trends around costs savings and ease of use. First is the SaaS-ification of businesses, large and small, who much prefer the flexibility of cloud-based, web-browser delivered software paid for on a subscription basis than the hassle and expense of purchasing and managing on-premise enterprise software. Second is the consumerization of business software, whereby multiple standalone processes like payroll processing and compliance are aggregated into a single, easy to use platforms.
The major competitors in the mid-market for HCM software include ADP (NASDAQ:ADP) and Paychex (NASDAQ:PAYX).
As you can see below, Paylocity's revenue growth has been very strong over the last year, growing from quarterly revenue of $186 million, to $245.9 million.
And unsurprisingly, this was another great quarter for Paylocity with revenue up 32.2% year on year. On top of that, revenue increased $49.9 million quarter on quarter, a very strong improvement on the $14.3 million increase in Q2 2022, and a sign of re-acceleration of growth.
Guidance for the next quarter indicates Paylocity is expecting revenue to grow 29.8% year on year to $217.5 million, in line with the 28.2% year-over-year increase in revenue the company had recorded in the same quarter last year. Ahead of the earnings results the analysts covering the company were estimating sales to grow 23% over the next twelve months.
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 is left after paying for servers, licenses, technical support and other necessary running expenses was at 69.2% in Q3.
That means that for every $1 in revenue the company had $0.69 left to spend on developing new products, marketing & sales and the general administrative overhead. While it improved significantly from the previous quarter this would still be considered a low gross margin for a SaaS company and we would like to see the improvements continue.
Cash Is King
If you follow StockStory for a while, you know that we put an emphasis on cash flow. Why, you ask? We believe that in the end cash is king, as you can't use accounting profits to pay the bills. Paylocity's free cash flow came in at $65.3 million in Q3, up 14.4% year on year.
Paylocity has generated $94.6 million in free cash flow over the last twelve months, a solid 11.9% of revenues. This strong FCF margin is a result of Paylocity asset lite business model and provides it plenty of cash to invest in the business.
Key Takeaways from Paylocity's Q3 Results
Sporting a market capitalization of $11.5 billion, more than $96.4 million in cash and with positive free cash flow over the last twelve months, we're confident that Paylocity has the resources it needs to pursue a high growth business strategy.
We were very impressed by the strong improvements in Paylocity’s gross margin this quarter. And we were also excited to see the really strong revenue growth. Overall, we think this was a really good quarter, that should leave shareholders feeling very positive. The company is flat on the results and currently trades at $173 per share.
Is Now The Time?
When considering Paylocity, investors should take into account its valuation and business qualities, as well as what happened in the latest quarter. Although we have other favorites, we understand the arguments that Paylocity is not a bad business. Its revenue growth has been strong. And while its gross margins show its business model is much less lucrative than the best software businesses, the good news is its very efficient customer acquisition hints at the potential for strong profitability.
Paylocity's price to sales ratio based on the next twelve months is 11.0x, suggesting that the market is expecting more moderate growth, relative to the hottest tech stocks. We don't really see a big opportunity in the stock at the moment, but in the end beauty is in the eye of the beholder. And if you like the company, it seems that Paylocity doesn't trade at a completely unreasonable price point.
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