Like many different high-growth cloud firms, Paycom Software program (PAYC -1.41%) inventory fell off a cliff in late 2021 into 2022 resulting from excessive inflation and the Federal Reserve pushing rates of interest larger on the quickest tempo in 40 years.
Many specialists imagine the economic system will dive into recession someday this yr as a result of aggressive actions by the Federal Reserve to combat inflation. That is horrible information for Paycom, as it’s particularly prone to producing poor leads to a slowing economic system. In consequence, many traders have misplaced their enthusiasm for investing on this inventory. It is down 2% yr so far, in comparison with the Know-how Choose Sector SPDR Fund, which is up 22% in 2023.
Nevertheless, this bear market ought to solely final for a short time. In case you are in search of a top-growth inventory for the long run, Paycom is value contemplating. Here is why.
Paycom has a beautiful enterprise
Paycom is a rising payroll and human capital administration (HCM) firm for small to medium-sized firms. Its platform has two benefits over rivals.
The primary benefit is that its builders constructed its platform from the bottom as much as run on a single database, in contrast to many rivals that use third-party expertise and a number of databases. So, Paycom’s easy platform outperforms rivals’ complicated patchwork methods that require redundant information entry and comprise extra safety dangers.
The second benefit is that it created a instrument named BETI that permits staff to do their very own payroll. BETI ensures accuracy in payroll processing and will increase effectivity. The corporate believes BETI is the way forward for payroll.
Paycom’s goal market should discover the benefits of its platform very interesting, as the corporate is rising income and income like a weed. It has delivered excellent outcomes quarter after quarter and crushed analysts’ income and earnings estimates for the previous 4 quarters.
Furthermore, in its fourth-quarter 2022 earnings report on Feb. 7, 2023, it produced quarterly income progress of 30% yr over yr, its seventh straight quarter of 30% progress and above — spectacular on this economic system.
It additionally produced a typically accepted accounting ideas (GAAP) fourth-quarter 2022 web revenue of $80 million, up from $48.7 million within the earlier yr’s comparable interval.
Nevertheless, administration prefers utilizing adjusted earnings earlier than curiosity, taxes, depreciation, and amortization (EBITDA) somewhat than web revenue to measure bottom-line income. EBITDA excludes an organization’s depreciation assumptions, financing decisions, and tax state of affairs. Thus, EBITDA is a greater measure of an organization’s core profitability, and Paycom’s core profitability is rising on this difficult economic system. For instance, the corporate’s EBITDA margins elevated from 38.4% in This autumn 2021 to 44.2% in This autumn 2022.
As soon as purchasers embed Paycom’s options into their operations, the effort and time to change to a different supplier turn out to be untenable, locking them into its platform from which it might probably promote these purchasers further modules or companies. Moreover, these excessive switching prices give it pricing energy and make it tough for rivals to steal market share.
You possibly can measure Paycom’s excessive switching value by observing its annual income retention price, which was 93% in 2022. That is in line with its common from 2019 of 93% — an unimaginable quantity. In case you see the quantity improve, its switching value aggressive benefit is strengthening. Conversely, the corporate might danger shrinking margins or shedding market share if the quantity begins lowering.
Why Paycom shareholders concern a tough touchdown
Paycom costs its purchasers month-to-month on a per-employee or transaction-processed foundation for companies like payroll, which helps it generate a lot of its recurring income. That is an ideal enterprise mannequin in a rising economic system the place companies are hiring closely. However in a recession with many smaller enterprises both going out of enterprise or shedding employees, getting paid on a per-employee foundation can harm income progress.
An excessive instance of what might occur to Paycom’s income progress throughout a recession occurred within the second quarter of 2020, the worst portion of the pandemic, when the U.S. gross home product shrank at an annual price of 32.9%. As well as, unemployment jumped from 3.6% in This autumn 2019 to 13% within the second quarter of 2020 — the U.S.’s highest quarterly unemployment price ever. On account of the autumn in employment, the corporate’s quarterly year-over-year income progress fell to only 7%, as proven within the chart under.
PAYC Income (Quarterly YoY Progress) information by YCharts
Whereas nobody expects unemployment to worsen to the degrees seen through the pandemic’s top, a recession might stunt Paycom’s progress. The inventory has just lately carried out in lock-step with consensus opinions about whether or not the U.S. can have a tough or comfortable touchdown, and proper now, many imagine there will probably be a tough touchdown. The uncertainty about whether or not a recession will happen and whether or not will probably be gentle or extreme has held the inventory again into a decent buying and selling vary.
Now is a superb time for long-term traders to purchase
Even when a recession happens, Paycom is constructed to outlive. As of the top of 2022, it had $400 million in money in opposition to solely $29 million in long-term debt — a stable stability sheet. Moreover, it produced $228 million in free money move (FCF) in 2022. In consequence, the corporate is more likely to stand up to a recession with out its stability sheet changing into overly burdened.
Paycom is without doubt one of the greatest cloud firms available in the market right this moment. In case you can stand up to short-term downdrafts in inventory value, this funding must be one of many higher performers over the following 10 years.
