Insperity, Inc. (NSP) Q1 2016 Earnings Report, Transcript and Summary

Good morning. My name is Sally, and I will be your conference operator today. I would like to welcome everyone to the Insperity First Quarter 2016 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session. [Operator Instructions] At this time, I’d like to introduce today’s speakers. Joining us are Paul Sarvadi, Chairman of the Board and Chief Executive Officer; Richard Rawson, President; and Douglas Sharp, Senior Vice President of Finance, Chief Financial Officer and Treasurer. At this time, I’d like to turn the call over to Douglas Sharp. Mr. Sharp, please go ahead.

Thank you. We appreciate you joining us this morning. Let me begin by outlining our plan for this morning’s call. First, I’m going to discuss the details of our first quarter 2016 financial results. Paul will then comment on the key drivers beyond our strong results. I will return to provide our financial guidance for the second quarter and an update to the full year 2016 guidance. We will then end the call with the question-and-answer session, where Paul, Richard, and I will be available. Now, before we begin, I would like to remind you that Mr. Sarvadi, Mr. Rawson or myself may make forward-looking statements during today’s call, which are subject to risks, uncertainties and assumptions. In addition, some of our discussions may include non-GAAP financial measures. For a more detailed discussion of the risks and uncertainties that could cause actual results to differ materially from any forward-looking statements and reconciliations of non-GAAP financial measures, please see the company’s public filings including the Form 8-K filed today, which are available on our website. Now, let me begin today’s call by discussing our record high first quarter results, which were driven by further acceleration of worksite employee growth, and effective management of our gross profit and operating cost. Adjusted EPS increased 90% over the first quarter of the prior to a $1.63. Adjusted EBITDA increased 45% over Q1 of 2015 to a record high 51.2 million. Our first quarter highlights were led by a 15% increase in average paid worksite employees exceeding our forecasted range of 13% to 14%. These results were due to our record high level of client retention during our heavy Q1 client renewal period, and continuing strong sales. Client attrition totaled to only 7.6% for the quarter, a significant improvement over an already favorable trend. You may recall that attrition improved to 9.9% in Q1 of 2015 from 12.8% in the first quarter of 2014. Our first quarter retention results largely dictate the expected outcome for the full year. Q1 2015 results led to a full year client retention of 85%, up from 82% in 2014 and each of these gears above our long term average of 80%. During our heavy yearend sales and renewal period and throughout the first quarter we also effectively managed those pricing relativity changes in our client mix and our direct cost trend. This led to gross profit for worksite employee coming in within our targeted range. Q1 benefits and worker's compensation cost came in on budget and continue to trend favorably. Now moving on to operating costs we continue to effectively manage expenses and leverage our cost structure. Adjusted operating expenses increased by less than 2% over Q1 of 2015 and declined 11% on a per worksite employee per month basis from $230 in Q1 of 2015 to only $204 in Q1 of this year. You may recall that we implemented certain cost savings actions beginning in Q2 of last year. These initiatives along with the typical leverage in our business model brought about by our general 50/50 mix of fixed and variable costs favorably impacted Q1 year-over-year comparison. Our effective tax rate in Q1came in at 38% below our forecasted rate of 41%, this lower rate was largely due to our new accounting pronouncement addressing taxes associated with divesting of stock awards. The related tax benefit had no impact on adjusted EBITDA however positively impacted adjusted EPS by $0.05 relative to our forecast. For subsequent quarters we're estimating the effective income tax rate of 40% which then equates to a full year rate of 39%. As per our balance sheet and cash flow we ended the quarter with $40 million of adjusted cash and $95 million available under our line of credit which was recently increased from a $125 million to $200 million. This follow January's successful Dutch auction tender offer in which we repurchased just over $3 million share or 12% of our outstanding common stock. Now at this time, I'd like to turn the call over to Paul.

Thank you, Doug. Today I'd like to address three topics, we expect to create significant shareholder value for 2016 and beyond. First I'll discuss the key drivers behind the outstanding results we're experiencing and the implications of these positive trends. Second, I'll cover the essential elements of our strategic plan and explain why we are confident we have the right plan for the future. And third, I'll discuss the design of our business model and the opportunity for sustainable high growth and profitability in the years ahead. Our year-over-year unit growth rate has accelerated over the last few years from 3% in 2014 to 12% in 2015 to 15% in Q1 of this year. This ramp up has been driven by systemic improvements in sales and retention of clients, as a result of our dynamic strategic plan to offer a wide array of business performance solution to attract more clients and keep them longer. These improvements in sales and retention combined with the rightsizing of our cost infrastructure and the inherent operating leverage in the business model are driving these outstanding results we are reporting today. Last quarter we indicated we will experience record level client retention in the midst of our heavy renewal period which spans the year end to February. The 7.6% attrition number for Q1 which Doug just mentioned is simply unprecedented and punctuates the systemic change we were hoping to achieve through the new strategies employed. In our residual business model no one factor is more valuable than improving the client retention rate which increases the lifetime value of the customer and the return on the investment to attain those clients. In order to understand the systemic change we've achieved in this area it's important to look at our clients' segment including small businesses with less than 50 employees, emerging gross clients with 50 to 149 employees and our mid-market clients with a 150 to several thousand employees. Our biggest retention challenge has always been this larger client segment where we have historically experienced a success penalty, helping clients get to this size only to have them take their HR function in house or sell to a larger company and eliminate the need for our services. Due to our wide array of offerings and the customer for life service mindset we now have a range of service models and customization capability driving the improvement in our retention rates in each of these segments. Our small business and emerging growth segment attrition rate in the key year end transition period have decreased by 37% and 32% respectively, since 2014. But the most impressive improvement is in the mid-market where our client engagement strategies has reduced the attrition in our largest clients segments by 74% contributing to an overall decrease in yearend attrition since 2014 of 46%. The dramatic improvement in the mid-market segment is the direct result of our capabilities to offer more service options combined with our high level of engagements with senior management in these accounts. The progress we have made in solving these success penalty paves the way for more consistent, predictable high growth at lower cost in this improved business model. The improvement in client retentions for the full year of 2014 and 2015 from 82% to 85% set a historical high water marks for this metric with the start we have had this year our expectation is to exceed the level of retention for the full year 2016. The second key driver to our recent results is the Starwood sales execution we are experiencing growing the sales staff and improving sales efficiency. The challenge we had to overcome in recent years was to integrate cross selling into the Insperity selling system. We have overcome that challenge. Today we are seeing significant benefit and confirmation of the strategic decisions to offer wide array of business performance solution to fit more of this prospects we call on day-to-day. This is added to our ability to generate consistent predictable sales results. Q1 sales were 110% of budget and a 16% increase over the same period in 2015, due to a 12% increase in the number of trading business performance advisors and a 4% increase in sales efficiency. As I mentioned last quarter any time you are growing the sales staff substantially and sales efficiency increases instead of decreases your sales management and training are hitting the mark. These results demonstrate our capability to recruit and train BPAs and bring them up to a base level with sales efficiency in an appropriate timeframe. These competency is the key to driving consistent predicable growth into the future. We are continuing to grow the sales organization at rates to achieve targeted growth objectives. Recently our total number of higher BPAs exceeded 400, which puts in a position to reach the train BPA target level of 370 on schedule this year. As we grow the sales staff we've been able to increase efficiency by driving more qualified leads through our marketing efforts. In the first quarter we increases corporate lead by 76% over the same period last year with a 40% increase in unique visitors to inspertiy.com. These increases are the result of our efforts in digital marketing, a robust loyalty referral program and channel partner activity. These programs are contributing nicely today and have tremendous upside to continue to fuel our sales momentum. In addition in the first quarter for each new workforce optimization client we added we also sold another one of our business performance solutions either attached to the sale or on a standalone basis. This strategy adds to gross profits and expands our customer base that can be cross sold on other offerings and eventually up sold to workforce optimization in the future. The final key driver to our recent results is the demonstrable operating leverage inherent in our business model. For the last five quarters in the row our unit growth rate has far outpaced our growth and operating cost providing significant margin expansion. Our cost infrastructure is right sized and we expect to continue to see operating leverage and margin expansion going forward. So the essential elements of our strategic plan are in place and the power of our business model is just beginning to emerge. The role we envision of the business performance advisor as a trusted advisor and the customer for life approach is paying off. The number of trained BPAs we have today is appropriate for the size of the worksite employee base to achieve targeted growth rates and our capabilities growing train the sales force is validated by our recent results. Our broad product and service offerings are hitting the mark with our prospect and clients, resulting in higher client retention rates, additional contribution to gross profit line and an expanded addressable market. We are positioned as the premium service provider in the marketplace, aggregating the best small and mid-sized companies on to our platform. Our proprietary risk based client selection process allows us to maximize the value of our offering for client and our own profitability at the same time. Our unique capability of managing risk and matching pricing cost continues to provide a stable environment for our clients on some of their most volatile costs, this also contributes to improve retention and increase demand for our services. Perhaps the most essential element of our strategic plan is the high touch service differential that comes from the way of Inspertiy care for, and about, our clients. The combination of our best class cloud technology platforms and our high level of consultative services is central to our unique position in the market place and the superiority of our business model. Another highlight over the last few years is the efficiency gains we have made by optimizing our service models for each segment of our client base, lowering our cost of service while increasing customer satisfaction. Our key metric in these area is the number of worksite employee service for Inspertiy service professional and has increased in the last -- each of the last eight quarters, improving by more than 20% since 2014. So the icing on the cake of our strategic plan is inherent operating leverage from our fixed to variable cost structure. As we continue to grow at double digit rate margins continue to improve. We are confident, we have the right strategic plan for the future and our clear focus as we look ahead is on consistent, predictable, high growth and profitability to drive shareholder value. Our business model is designed to produce double digit unit growth and we believe our plan in place has increased both the likelihood of success and the growth rate we can achieve in the future. In this model when we grow a number of paid worksite employees in the 10% to 20% range over an extended period, generally we can expected adjusted EBITDA growth in the 15% to 25% range. We are now forecasting a second year in a row with adjusted EBITDA growth above this level. In 2015, 12% worksite employee growth resulted in a 31% increase in adjusted EBITDA. For 2016, we are off to a very strong side, and in the revised guidance for this year you can see the benefits in the growth rate in adjusted EBITDA from growth achieved through higher retention and lower cost. In summary, our recent strong execution and results, which validate our strategic plan have provided a positive outlook for both the balance of this year and beyond. At this point I’ll pass the call back to Doug to give our overall rives 2016 guidance.

Thanks Paul. Now, before we open up the call for questions, I would like to revise our financial guidance for the second and an update to our full year 2016 forecast. We continue to expect worksite employee growth in the mid-teens and our forecasting Q2 average paid worksite employees in a range of 163,000 to a 164,000 or approximately 14% to 15% growth over Q2 of 2015. Based upon our strong start to 2016 and an improve outlook for sales and client retention, we have raised the low-end of our initial full year guidance and are now forecasting full year worksite employee growth of 14% to 15%. We are also projecting the higher adjusted EBITDA based upon the strong first quarter result, the expected improvement in our growth outlook and further operating expense savings over the remainder of the year. We are now forecasting an increase in adjusted EBITDA of 28% to 32% over 2015, up from our initial guidance of 22% to 28%. This increase translates into an updated forecast of $141 million to $145 million. As for Q2, we are forecasting adjusted EBITDA of $24 million to $27 million, which as expected is down sequentially from Q1 due to the typical seasonality in our gross profit. We are now forecasting 2016 adjusted EPS of $3.46 to $3.58, up from our initial guidance of $3.19 to $3.36. This translate to an increase of 58% to 63% over 2015, up from an initial forecast of 46% to 53%. This guidance assumes approximately 21.5 million shares outstanding, similar to our initial forecast. The Q2 adjusted EPS is projected in the range of $0.54 to $0.62 an increase of 29% to 48% over Q2 of the prior year. In conclusion, we are very encouraged by another strong start to our year and we look forward to updating you on our progress throughout the year. Now at this time, I would like to open up the call for questions.

[Operator Instruction] And your first question comes from the line of Tobey Sommer with SunTrust. Your line is open.

I wanted to start by asking a couple questions about the individual solutions. How big a contributor is that to the income statement now, whether in terms of gross profit or EBITDA? Thanks.

Yes Tobey, its contributing $16 per worksite employee for month range and of course that’s actually down a little bit from where it was a year ago. But that’s because our worksite employee base, the denominator was growing faster than the topline and it's still growing at 10%, 11%.

I would just add to that we are just now seeing the beginning of that can be and the exciting part for us if that there are two key elements to that as part of the strategic plan, one is that it’s the third consecutive gross profit line, but more importantly it has its not risk based and has unlimited potential. So it's definitely a very nice strategic addition. Richard is correct to say that we are growing fast at this point, we got to grow those business even faster with the deferrals that are building and the attachment rates that are going forward, we are very excited about that element and business for the future.

Well, what are the faster-growing individual point solutions, one or two of them? And how do you see that element of the strategy in source of profit changing the addressable market for the Company? Thanks.

I'll highlight these three -- I’ll highlight just three right now that are just -- the portfolio quarter-to-quarter you have some do better than others, of course right now our recruiting group is really knocking it out of the park throughout the year-end transition. Our retirement services group, added -- we’re just really adding a lot of customers in that area. We also I would say that are continuing strong performance in the time and attendance area and a lot of that’s driven by the ACA requirements of hardly even think about trying to manage those reporting requirements for that on effective time and attendance solution. So those three I would highlight as leaders of the pack at this point in time, but I think it's important to understand that having this wide array of solutions is what enables a level of customization so that we can customize an initial solution for our clients and then keep them longer by continuing updating their set of solutions in what we call our customer for life strategy And it just feels like we're able to continue to meet our customers’ needs because we actually are.

Okay. And if I could sneak in one more, and I'll get back in the queue. On retention, or, conversely, customer attrition, does it -- going to map out somewhere in the 15% to 16% range this year? If I'm right, historically I thought after the big January month, the monthly average is around 0.9%. Is that accurate?

Yes it's ranged from 0.8% to 1.0% but during the recent years it’s been, we've had a shift over the last five years or so of more toward the yearend and less throughout the year. So we’ll see how the year plays out, but in any event it looks to us after [indiscernible] through that yearend period that we really do have the sustainment change of client retention that we were hoping to achieve with the new strategy.

Okay I'll get back in the queue. Thanks for your help.

Your next question comes from the line of Jim Macdonald with First Analysis. Your line is open.

On the number of BPAs, could you update us with a level of trained BPAs this quarter? And I think your goal of getting to 370 seems, if I remember right, a little bit lower than before. Is there a reason for that, or maybe improved efficiency?

No, we were heading for 400, total 370 trained in our plan for through our while planning cycle at the yearend, but we were around just under the 350 number I think for the first quarter. So we are on track to get to that number and we feel good about that and that that is the right number based on the sales efficiency we're seeing and the ramp up rate for the new BPAs.

Okay. And then, moving on to the core business gross profit, what are your thoughts on that? It was down a bit last year, maybe due to mix and other things. But do you expect that to be down again this year, or more flattish?

I think it’s going to be pretty much in the same range it was last year. Jim and it is -- it does really completely relate to mix. All of our cost centers and the surplus of -- other things obviously could benefit which is always a negative are really right on target where we forecasted it be, so we’re feeling good about the trends in those areas.

Okay. And maybe you can give us an update where the government stands on the successor employer rulings?

That’s a good question, we are very hopeful that they are going to meet their publicly stated objective of having the information available by July 1st, so [indiscernible] can becomes certified under the law and ultimately not have to [indiscernible] in 2017. So that does present some upside to the model in a couple of ways. It obviously allows us to not have to fight in that [indiscernible] of customers. But we’re hopeful with that clears up some confusion in the sales process and offers a lower price to the customer. So unless [indiscernible] to come on board and at the same time that will save us save us a lot of costs, since we've been subsidizing that double payment in our business model. So it represents some upside for us at the gross profit per employee line as you go into 2017. And hopefully this supports our [indiscernible].

You next question comes from the line of Jeff Martin with ROTH Capital Partners. Your line is open.

Paul, could you touch on the customized solutions by segment? My understanding was you had largely taken the flexibility to the midmarket. Have you already taken that to the core workforce optimization segment? And also the -- related to a third segment, the large account segment?

In the core segment, yes we certainly have our BPAs across the board are capable of helping to attach various solutions to the full workforce optimization option in order to help make the sale and that’s a very good thing. So somebody for example, they look at the workforce optimization and maybe it's going to cost them some money on a current employee basis every month or we might offer couple of solutions that actually lower the cost like our retirement services solution, if they happen to have a retirement plan, reward us at a more efficient delivering a fast solution. So we are able to actually offset cost with some of the other solutions which make the sale workforce optimization more likely. And when it comes within with other basis performance solution attached. So yes, it's actually took a long time to get in place in this mindset of how to use these other solutions to deliver, what you like -- more like a customize solution for the customer and helps to be some part of a mix to make the workforce optimization solutions that provide twice. Now, if they are not ready for that, I think we have a lot of upsides and providing what I call traditional employment solution which we've been doing in the mid-market, as I presenting some options to customers that want more flexibility. But I think there is a nice feature for us presenting kind of the pay-roll centric solutions in the small business client base and that have few items attached pay-as-you-go workers' comp and a simplified for [indiscernible]. And if the customer is not ready for workforce optimization, if they are the right profile customer for us in the long run we’ll bring them on that model, and hopefully upselling them over the time. And in addition of that you think we can have customers in the workforce optimization modest for various reason, I mean moves out of that model maybe from a cost driven perspective or whatever, it's nice to have some else to go for those customers, and keep them in [indiscernible].

Okay, great. And then could you also touch on the client internals -- hiring, wages, overtime, and the implication -- or the indication [multiple speakers] economy there?

There are several things that as you know I keep an eye on what I would call a capacity measure which is the percentage of overtime pay to regular phase. And we generally look for a 10% or better number that indicates the need to hire new employees. The business owners only hire new employees , if the think it’s because of the capacity issue, but also if their pipeline in new business has to be good enough to where they think that’s going to be sustained for a while and they actually would make more money by hiring new peoples that are working overtime. So the other thing I look at is the commissions paid to the sales staff of our clients as we run all the payrolls. We are able to compare on a year-over-year basis what percent of base pay and commissions were in one period for the same group of employees [indiscernible]. So that number -- we also look that the number to be strong enough typically around 8% or so to support the need for -- not just a need for employees, but the likelihood that they need admissible time on an ongoing basis. So actually this quarter was the first time nearly since to 2008 period that we’ve seen both of those numbers finally at the level looking for, overtime was 10%, commissions were 11% on a year-over-year basis. So that should be the mix we are looking forward and we are actually in the -- during this quarter and towards the end we started to see a little of uptake there. So we -- it’s been -- the actually net hiring in the client base has been a slight positive now for say several year not as the rates you would expect in a normal recovery. And we are going to really just happy if this not a headwind, we'll play on succeeding new hires, but we haven't built any of this into our going forward growth plan, we preferred and it’d be driven strictly by our sales and retention, the things more in our control, but if this continues I would expect to see a little bit more of a tailwind coming of this asset.

Your next question comes from the line of Mark Marcon with Robert W. Baird, your line is open. Mark Marcon your line is open. [Operator Instructions] Thank you ladies and gentlemen, I will now turn the call back over to Mr. Paul Sarvadi.

Alright, well thank you very much, sorry if we've missed Mark there, but we'll be in touch with him offline and thank you again for participating in our call today and we look forward to seeing you out on the road or updating you further as the year progresses. Thanks again for your participation.

Thank you, ladies and gentlemen for your participation. That's concludes today's conference call, you may now disconnect.