SPS Commerce, Inc. (SPSC) Q3 2013 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the SPS Commerce Third Quarter 2013 Earnings Conference Call. [Operator Instructions] As a reminder, this conference call is being recorded. I would now like to turn the conference over to Stacie Bosinoff, Investor Relations. Please begin.

Good afternoon, everyone, and thank you for joining us on SPS Commerce's third quarter 2013 conference call. Joining me on the call today is CEO and President, Archie Black; and CFO, Kim Nelson. Before turning the call over to the company, I'll read our Safe Harbor statement. We will make certain statements today, including with respect to our expected financial results, go-to-market strategy and efforts designed to increase our traction and penetration with retailers and other customers. These statements are forward-looking and involve a number of risks and uncertainties that could cause actual results to differ materially. Please note that these forward-looking statements reflect our opinions only as of the date of this call, and we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. Please refer to our SEC filings, as well as our financial results press release for a more detailed description of the risk factors that may affect our results. These documents are available at our website, spscommerce.com, and at the SEC's website, sec.gov. In addition, we are providing a historical data sheet for easy reference on our Investor Relations section of our website, spscommerce.com. During our call today, we will discuss adjusted EBITDA financial measures and non-GAAP earnings per share. In our press release and our filings with the SEC, each of which is posted on our website, you will find additional disclosures regarding these non-GAAP and adjusted EBITDA measures, including reconciliations of these measures with comparable GAAP measures. And with that, I'll now turn the call over to Archie.

Thank you, Stacie, and welcome, everyone. We had a great quarter as we continue to experience momentum in all areas of our business. Both revenue and adjusted EBITDA were ahead of guidance, reflecting strong execution. Total revenue grew 33% to $27 million and adjusted EBITDA was $3.6 million. Recurring revenue grew 35%. This quarter, we continued to expand our customer base, upsell our existing customers, and move upstream by adding larger customers. We talked about the rapid evolution of the retail ecosystem, which is being driven by the increasing influence of the consumer. Consumers want options. Living in a world where information is at their fingertips, expectations have skyrocketed. They want to interact with their brands at their convenience, whether it is in a store, on a website or from their mobile device. And consumers turn to social platforms to give them a means to not only receive information, but to express their real-time experiences as well. Both suppliers and retailers need to be able to quickly adapt their supply chain capabilities to these ever-changing dynamics. And those who can swiftly respond to this evolution are well positioned to gain market share against their competitors. Retailers are exploring new avenues to interact with their customers. This omni-channel approach provides consumers with one unified experience across brick-and-mortar, e-commerce, social and mobile. In order to do this effectively, it's imperative that suppliers become strategic partners with retailers. Increasingly, SPS is being recognized as one of the most comprehensive, cost effective and efficient ways for suppliers and retailers of all sizes to embrace the omni-channel approach and build a supply chain strategy around this evolution. There's a wide and growing network of channel partners within the retail ecosystem, and we continue to see momentum in this area as they recognize the value of connecting to our network. This quarter, we partnered with Accellos, a provider of warehouse and transportation management solutions with expertise in Microsoft Dynamics GP. Accellos built a solution to automate the connection between Microsoft Dynamics GP and SPS Commerce using our RSX standard, a data format we developed to enable frictionless expansion of trading partner relationships. Through this partnership, Accello's customers now have the ability to automate their supply chain relationships with their existing trading partners and have immediate access to any of our 50,000 trading partners worldwide. Accellos can now provide its customers that nimble and responsive supply chain capabilities required to meet the needs of today's rapidly evolving marketplace. One customer that has already implemented the SPS Accellos solution is SOG Specialty Knives & Tools, a company that is experiencing dramatic growth. They sell to dozens of retailers, who each use a variety of fulfillment channels, while also selling directly to consumers. Additionally, their trading partner connections had to be manually updated in their ERP system. As the business continued to grow, this became very cumbersome. TheIR business is seasonal, and it's critical that they're able to respond to surges of demand in a timely manner. The SPS-Accellos solution automated the requirements for the wide variety of distribution models retailers use and enabled them to increase productivity while decreasing costs. This is just one of many customer success stories. Our leadership position is growing and our opportunity is expanding. Our solution addresses the entire spectrum of the retail ecosystem. It gives retailers and suppliers the tools they need to embrace the evolution occurring in the retail industry. For smaller suppliers, our SaaS solution is a cost-effective, efficient way to replace manual processes, while enabling suppliers to expand their distribution and easily grow their business. For larger suppliers, our solution replaces the legacy software model, allowing them to take advantage of our multi-tenant platform and immediately connect with thousands of trading partners and retailers. As these larger suppliers recognize the need to upgrade or change their on-premise software, our leadership in the space earns us the right to compete and win against legacy software incumbents. Looking to the next quarter and beyond, we are very excited about our business and our expanding market opportunity as the retail supply chain evolves. Our SaaS platform enables our customers to adapt quickly and easily to this evolution, and we will continue to leverage this by expanding our customer base and upselling our existing customers. With that, I'll turn it over to Kim to discuss our financial results.

Thanks, Archie. As Archie mentioned, we had a great third quarter. Revenue for the quarter was $27 million, a 33% increase over Q3 of last year and represented our 51st consecutive quarter of revenue growth. Recurring revenue grew 35% year-over-year. The total number of recurring revenue customers increased 9% year-over-year to 19,387. Wallet share increased 22% to $5,018. Excluding the Edifice acquisition, wallet share increased 15% year-over-year. As you look at these 2 metrics, it's important to remember that they work in concert with each other, and it's really the mix of the 2 that we focus on. Total operating expenses for the quarter were $18.4 million and represented 68% of revenue. Adjusted EBITDA was $3.6 million compared to $2.2 million in Q3 of last year. Now turning to guidance. For the fourth quarter of 2013, we expect revenue to be in the range of $27.3 million to $27.8 million. We expect adjusted EBITDA to be in the range of $3 million to $3.3 million. We expect fully diluted earnings per share to be approximately breakeven, with fully diluted weighted average shares outstanding of approximately 16.1 million shares. We expect non-GAAP diluted earnings per share to be in the range of $0.11 to $0.12, with stock-based compensation expense of approximately $1.2 million and amortization expense of approximately $720,000. For the full year, I'm pleased to announce that we are increasing our revenue guidance. We expect revenue to be in the range of $103.7 million to $104.2 million. We expect adjusted EBITDA to be in the range of $13 million to $13.3 million. We expect fully diluted earnings per share to be in the range of $0.04 to $0.05. We expect fully diluted weighted average shares outstanding of approximately 15.9 million shares. We expect non-GAAP diluted earnings per share to be in the range of $0.51 to $0.52, with stock-based compensation expense of approximately $4.3 million. We expect the amortization expense for the year to be approximately $3.2 million. For the remainder of the year, you should model a 39% effective tax rate calculated on GAAP pretax net earnings. We expect to pay nominal cash taxes in 2013 due to our NOLs. Before I turn the call over to Q&A, I want to remind investors that for 2014, we expect to deliver approximately 1% improvement in adjusted EBITDA margin, off of our current 2013 guidance. As we look out towards next year, our philosophy on margin expansion remains the same, and we expect to invest any additional upside back into the business. In summary, we had a great third quarter with recurring revenue increasing 35%. Looking to the rest of the year, we'll continue to execute against our growth strategy to take advantage of the large market opportunity we see in front of us. With that, I'd like to open the call up to questions.

[Operator Instructions] The first question is from Tom Roderick of Stifel. Tom M. Roderick - Stifel, Nicolaus & Co., Inc., Research Division: So, Archie, maybe I'll throw my first question at you here. You spent a little extra time today talking about the move upstream, some of the partnerships you're making to get there. And, Kim, you referenced that relative to what that's meant to wallet share. Can you just maybe go into a little bit more depth with respect to who you might be facing as you move upstream? What does this do to potential discounting, as you get up there or sale cycles? And as you're moving up there relative to the partners, you've talked frequently about Microsoft with Dynamics and NetSuite; any other partners out there that are emerging that we should be aware of? Just any further commentary around that whole shift would be great.

Yes. The shift has been, really, Tom, over the last 3 years. It's been a very consistent and progressive movement upstream. I think there's a couple of things that are happening in the industry. One is that there's just an acceptance in the cloud; and two, our leadership position in the retail ecosystem. We are seeing legacy software in that phase, which is certainly GSX, a whole host of other different legacy software providers. When we're brought in with channel partners, it tends to be a fairly quick sales cycle. But -- so the sales cycles haven't changed that drastically, and we do have a very strong value proposition. The discounting has not increased. We believe we can keep margins at or equal to as we continue to move upstream, and we're able to do that. Tom M. Roderick - Stifel, Nicolaus & Co., Inc., Research Division: Great. Kim, I don't know if you mentioned it, sorry if I missed it, what was the organic recurring revenue growth rate or just organic total growth rate this quarter?

Sure. 26%. Tom M. Roderick - Stifel, Nicolaus & Co., Inc., Research Division: 26%, okay. So next quarter will be the first quarter that's kind of a clean lap off the Edifice deal. And you've been gradually accelerating the recurring revenue growth rate all year. How should we think about the inputs that you need to put back into the model, whether it's sales or marketing or both to drive that further acceleration? I mean, this is really nice to see this moving into the mid-teens -- or mid-20s and beyond. How much more do you need to put into the model to see that continue to happen?

Well, we still think there's a multibillion-dollar opportunity in front of us that we want to go after. Our approach of going after it is a balanced approach. Meaning, we want to continue to reinvest back in sales and marketing, but we also want to deliver some incremental margin expansion back to investors. So what you should expect to see going forward, it's going to be a very similar approach to what you've seen up to this point. Tom M. Roderick - Stifel, Nicolaus & Co., Inc., Research Division: Okay. And do you have the sales headcount number for us at the end of the quarter?

Sure. We exited the quarter with 173, that is up 11 from the prior quarter.

And the next question is from Michael Huang, Needham & Company. Michael Huang - Needham & Company, LLC, Research Division: Archie, real quick on that new partnership that you had highlighted with Accellos. Could you talk a little bit more about kind of how many customers they have? And what do you believe is that crop lumped in [ph] within their installed base?

So, Michael, I think that when we talk about Accellos, I think it's a very key partnership in the fact that it is the first one that had end-to-end deployment and has built out a technology solution to RSX. We think there's partnerships like Accellos in every ERP system. And I think it shows the start of a very large channel opportunity for SPS Commerce, so people building solutions around us. So I think we'll get nice revenue out of Accellos. It won't be a game changer in and of itself, but it's the first of what I would hope to be dozens of such relationships. Michael Huang - Needham & Company, LLC, Research Division: Okay. Now would they be a referral partner or are they actually -- OEM their solution?

Right now, they're a referral partner. They're also a solution for Microsoft GP suppliers to be able to integrate using their solution to SBS COMMERCE. So they make the implementation process significantly easier for our supplier. Michael Huang - Needham & Company, LLC, Research Division: Got you. And sorry, just one more question around that. I mean, was that a -- was that a competitive -- did you have to compete with someone on that or -- how did you guys come together?

We've known them of them for a long time. We've seen them in the space. They have a very strong presence in the Microsoft GP space. They're viewed as a leader. And they came to us, and we began the conversation. Michael Huang - Needham & Company, LLC, Research Division: Okay, got you. Just with respect to kind of the sales force, Kim, I know you had mentioned kind of the sales -- the sales headcount at the end of the quarter. Could you kind of update us on what is the productivity right now of your sales headcount? And I guess how much room is there kind of to further ramp productivity around existing sales that you have now?

Sure. So as it relates to sales force productivity. This year, we are about flat in total on sales force productivity compared to last year. But what's happening behind the scenes is we continue to add new resources. And naturally, when you add somebody new, they are less productive. On top of that, we then have existing salespeople that for each year they're with us, they become more and more productive, and quotas, et cetera, obviously increase associated with that. So we've been able to continue to increase our sales headcount while holding that productivity the same. Michael Huang - Needham & Company, LLC, Research Division: Got you. Okay. And last question for you. I don't know if I am kind of reading into this or not, but I thought I heard you mention upsell a little more often than I had -- than I'd heard in the past. But I'm just wondering, in terms of upsell activity, are you seeing -- maybe you could comment on kind of the uptake around or adoption of analytics or kind of the increased number of retailer connections. What type of upsell activity are you seeing out there?

We continue to see strong upsell activity and opportunities. I don't think there was anything unusual about this quarter. There wasn't more or less. That wasn't more -- it's obviously a very, very important driver, but it wasn't more of a driver this quarter relative to the last few quarters.

The next question is from Bhavan Suri of William Blair. Bhavan Suri - William Blair & Company L.L.C., Research Division: Just a quick follow-up there before I drill into a couple of other things. Just as you look at the ASP increase, could you just provide a little color about that increase being driven? How much of it was driven from analytics versus additional connections?

Sure. So when you look at that ASP increase, organically, that was 15% year-over-year, and that's really driven from 3 areas. One is as existing customers end up connecting to more retailers, third party logistics providers, et cetera, so folks within their supply chain. Another aspect is selling other products like the analytics. And then the third area is really going to the larger customers, where channel sales naturally brings us there. All 3 of those are healthy components to what drove the 15% year-over-year organic growth. Bhavan Suri - William Blair & Company L.L.C., Research Division: Got it, got it. That's helpful. And then as you look at this, and I think, Archie, you mentioned obviously the shift to e-commerce and then mobile, any color on sort of, say, a traditional supplier and a retailer switched to drop-ship on e-commerce and then to mobile. Any sense of sort of the number of documents that increase as an average with each one of those? And obviously very specific, but is there any sense of understanding as that shift continues because we know e-commerce is growing. We know tablets are growing. What the increase in number of documents require in averages?

Yes. First off, most retailers that have both a brick-and-mortar business and an e-commerce business that has a drop-ship component typically have 2 different rule books. So from a supplier standpoint, they somewhat look like 2 different retailers. Obviously, transaction count is significantly higher in e-commerce, which obviously impresses the importance of integrating. So that's a big driver of it. And we're really seeing much more of a fluidness between when should a supplier drop-ship and when should they send products to the distribution center. Retailers are -- the good, forward-looking retailers are becoming much more fluid in being able to ship by product type, what goes into the distribution center, and what should be shipped directly to the consumer. Bhavan Suri - William Blair & Company L.L.C., Research Division: Interesting, interesting. And does the mobile have a material impact, or is that just a little extension of the e-commerce effectively?

It's more of an extension of the e-commerce. For a retailer, obviously, they need to make the experience look and feel the same. That's really what we think of when we think of e-commerce as really a seamless experience for the consumer, and it looks and feels and is consistent and they can shop or buy wherever they want to shop and buy, whether it's on the phone, on the computer. Bhavan Suri - William Blair & Company L.L.C., Research Division: Or the tablet, or -- yes. Okay. And then one last one for me. I know you guys have talked about going -- expanding into Europe with your existing customers, say a sports guy or someone who's got operations out there. Any update on that? Any thoughts on sort of actually having a footprint there and investing there directly?

Well, we think that we do have some resources in Europe. We have continued to see momentum we built out to I think it's 4 dozen retailers in Europe. We're getting point of sales data now from some, from some retailers that are a little bit more behind than that. But we continue to see nice progress there.

The next question is from Pat Walravens of JMP Group.

Kim, can we -- and congratulations, you guys; by my count, that's 15 in a row for you. Kim, how is cash from operations this quarter?

Sure. So when we ended out, the quarter was about $81 million in cash, and that really -- the increase in the cash is driven by obviously strong performance in the business, as well as our ability to actually -- we've reduced down our DSO, so we've been -- we collected more.

Was it -- did you generate like $7.5 million from operations? Is that -- I'm just backing into it. Does that sound right?

Yes, $7.5 million, $7.474 million, if you want to be precise.

Yes, and that's a lot, right? That's just from better collections?

There's a few things going on there. And albeit the details are obviously in our financial statements, you have to look at our business results. You'll also look at -- if you look from the accounts receivable, so we made some significant improvements as it relates to the DSO. And that has a positive benefit relative to the number. And then there's a bit in there on sort of what we call sort of that accrued comp and benefits. Some of that's related to the timing of when cable falls, et cetera. And then there's another aspect on a deferred rent based on our -- we've expanded within our current location. So there's a few different components on there. I think the detail on the cash flow does a pretty good job of breaking it out, but at a high-level business performance and just sort of solid execution.

Great. And then you spent quite a bit more on CapEx then I have modeled. Was there something for us to notice there?

Sure. A couple of things on the CapEx side. So one is, it actually segues very nicely to what we just previously talked about, which is we have taken on additional space here within our building as we continue to add resources, and so what you saw in the quarter was really -- think of it as sort of the furnishings, build out, et cetera associated with us taking on an additional floor. So you had that roll in here. By comparison, you would have seen that in Q4 last year when we took on a floor. So you see it this year in Q3. Last year, you saw in Q4. And then also there were some purchases through Oracle, pretty typical of what we do on sort of an annual basis with that company.

Okay. And, Archie, big picture for you. What's this business going to look like in 5 years?

Well, I think dual [ph] -- Pat, it's been consistent. What we want to do is we want to be the retail standard, and we want to be doing business on all aspects of helping our retail customers and our supplier customers work more efficiently with our trading partners, and that includes both the integration, the intelligence, the catalog information, all the information and collaboration sharing. We'd like to have a platform where customer -- where other companies such as Accellos are building around our solution set. That it becomes very obvious that they not only build around our solution set, but they also are able to sell and implement our customers if the customers so choose to be sold and implemented in that way.

The next question is from Scott Berg of Northland Capital.

I have 2 questions. First of all, on the general demand environment. Are you seeing any noticeable change, either positive or maybe from a not-so-positive perspective today relative to the first of the year, maybe upstream, downstream, product-wise?

I would say it's a continual evolution, Scott, consistent with what we've been seeing. Obviously, there continues to be more and more demand on the larger end, and I would say it's relatively consistent. We do believe, from a competitive standpoint, there's a larger differential each and every day between SPS Commerce and its competitors as we become -- our network and our customer base becomes larger and larger.

Great. And then my last question is on Retail Universe. I think that's been up and running for a little bit more than a year now, if my calendar is correct. Would you say that, that -- I know that ecosystem was designed not necessarily to drive revenue. But do you think it's driven additional revenue in partner connections or up-sell of additional products, kind of looking back over 12-plus months?

I do believe it has, Scott. I don't think it's a real easy thing to just say this resulted from this. We are seeing thousands of companies utilize Retail Universe and get the value from it. And obviously, we believe that the more retailers and suppliers integrate and collaborate, we're in a position to win that business. I think it also builds awareness in the marketplace for SBS commerce. So thousands of customers using it. We're very, very excited with what it's taken on over the last year.

The next question is from Jeff Houston of Barrington Research.

To start off with -- concerning the TPI and Edifice products. Do you ever compete with pure play business intelligence solutions? Do you ever replace them or I assume it's primarily a greenfield opportunity within business intelligence?

I would say, it's more of a greenfield opportunity. And I think as we go forward, there will be potentially more competition for the last, maybe, 10%, 20%, 30% of the revenue. The one value we bring to the software providers is we are getting the data, normalizing the data and supplying that data. Whether or not you purchase a software application, SPS Commerce can bring significant value to you in that environment. So I think we can do -- we can play it both ways.

Okay, then shifting to your cash balance. I think Kim mentioned it's about $81 million. What types of deals are mostly in your pipeline? Are there more customer consolidation or more of a new functionality to add to your product portfolio?

So as it relates to what will drive our revenue, we'll continue to add customers as you see that metric that we provide each quarter. This quarter, we added sequentially about a little over 500 customers. We also do have the ability, and we'll remain upselling those existing customers, so it's really going to be a combination of both. Enablement campaigns is the biggest driver. Retail enablement campaign is the biggest driver of adding of customers. And then we also again have that ability to upsell other products like the analytics. So it's not really an either/or. It's a combination of both.

Okay. Then shifting to a question I've gotten occasionally is what is the mix of customers that use just the web forms versus the fully integrated EDI Solution? And how is that going to change over time?

So obviously, if you're a very-small-volume customer, the right solution set for you is web forms. As your volume goes up, you want to integrate that data into the ERP system. So what we try to do, the recurring revenue key component from SPS Commerce on a per size is the same for us. So we try to consult and work with the suppliers to go to the right solution. The number of suppliers using -- or the number of customers using web forms is significantly higher than an integrated product. The revenue on integrated product is larger than web forms, and it's growing at a faster pace than web forms. As you can imagine as you move upstream, all of the upstream customers are integrated customers.

The next question is from Jeff Van Rhee of Craig-Hallum.

Just a couple for you. In terms of the retailers and their enablement campaign, have you seen any change in behavior? And in terms of the frequency of willing to give you exclusives or limiting the roster of potential choices for testing and validation to a shorter list? Any changes in behavior there?

I think it's been pretty consistent. And just for clarification, when we do an enablement campaign, when we're in that enablement campaign, SPS Commerce is the sole solution for testing. There's never multiple solutions. It's either one or none, so -- but that's remained relatively consistent. I think the biggest change over the last couple of years in retailer enablement campaigns is around the point of sales data, ensuring the point of sales data and doing retailer enablement campaigns around shared view for this [ph].

Okay. And then along the lines of Accellos and the partnership track, can you just -- one more question on that. In terms of -- there's obviously a lot of other similar directions you can go. And I just want to make sure I heard it right. It sounds like we should be looking for an accelerated pace of those kind of partnerships that maybe this was the tip of a more accelerated pace of signings. I don't want to put words in your mouth.

Well, there has been over the last year. Now earlier this year, we rolled out the retail standard in RSX. So Accellos is the first. So we didn't have the standard per se before that timeframe. So there's no place to go but accelerated pace on partnerships like this. This is the first, but I would expect many more to follow.

Okay. And then last, just sort of open ended on the analytics side. It's been a gradual steady evolution. Any changes in buying behavior there that were notable this quarter?

I think there continues to be that consistent evolution and more and more retailers beginning to share data, and the large suppliers are continuing to get more and more aggressive to get the data, because it has become such a central part of how they manage their business that they're getting more and more aggressive. So I think that trend continues to move forward.

[Operator Instructions] And the next question is from Richard Davis of Canaccord.

Where are you on the point-of-sale data collection?

Well, we're in the very early days. There's -- less than 20% of retailers share the data today. That number continues to expand. But I think we're in the very early days. The largest retailers tend to share the data. The midsize and small retailers, it's less often that they're willing to share it. But I think that as you're -- what we're seeing the large suppliers are becoming more and more aggressive about pushing for that. And so it's just a continual evolution of more and more -- each quarter, more and more retailers sharing that data. But retail tends not to move at lightning paces.

Thank you. I now would like to turn the call back over to management for closing remarks.

Thank you very much for attending today's call, and we're looking forward to visiting with all of you in the coming year.

Thank you. Ladies and gentlemen, this concludes today's conference. You may now disconnect. Good day.