AvidXchange - Q2 2023

Transcript

Operator (participant)

Morning, everyone, and thank you for joining us for the AvidXchange Holdings Inc. Q2 2023 earnings call. Joining us on the call today is Mike Praeger, AvidXchange Co-founder and Chief Executive Officer; Joel Wilhite, AvidXchange Chief Financial Officer; and Subhaash Kumar, AvidXchange, Head of Investor Relations. Before we begin today's call, management asked me to relay the forward-looking statement disclaimer that is included at the end of today's press release. This disclaimer emphasizes the major uncertainties and risks inherent in the forward-looking statements that the company will make this afternoon. Please keep these uncertainties and risks in mind as the company discusses future strategic initiatives, potential market opportunities, operational outlook, and financial guidance during today's call. Also, please note that the company undertakes no duty to update or revise forward-looking statements.

Today's call will also include a discussion of non-GAAP financial measures, as that term is defined in Regulation G. Non-GAAP financial measures should not be considered in isolation from, or as an for, financial information presented in compliance with GAAP. Accordingly, at the end of today's press release, the company has provided a reconciliation of these non-GAAP financial measures to financial results prepared in accordance with GAAP. With that, I will now turn the call over to Mike Praeger. Mike, over to you.

Michael Praeger (CEO)

Thank you, everyone, for joining us today. Joel Wilhite and I are excited to discuss AvidXchange's 2Q 2023 results. Before I do that, I just wanted to thank all of those who participated in our recent Investor Day event on June 1st, held both in person and online. Especially for those of you that visit us in Charlotte, North Carolina, for our Investor Day event, you experienced firsthand our performance-based AvidXchange culture and how we have successfully transitioned to be back in the office 3+ days a week across our multi-office footprint. We are already seeing an impact on productivity, collaboration, and teammate development. With that, I want to now turn to our Q2 results. We delivered another quarter of solid operating results, achieving now 8 consecutive quarters of exceeding our financial targets relative to our implied outlook.

Revenues exceeded our implied Q2 2023 outlook, while our adjusted EBITDA results were a standout bright spot, driven by healthy revenue performance, continued gross margin expansion, unit cost reduction, along with operating expense leverage. These operating and financial results, coupled with the optionality we believe we have at our disposal, gives us further confidence in our progression towards our medium-term Rule of Forty objective of achieving both 20% organic revenue growth and 20% adjusted EBITDA targets by 2025, which we outlined during our Investor Day. As the macro backdrop remains somewhat volatile, where economic sentiment swings back and forth between a hard landing and no landing, our purpose-built value proposition of accounts payable and payment automation solutions is a proven capability with tangible and rapid ROI for middle-market companies.

By leveraging the force multiplier of our proprietary two-sided network, buyer and supplier customers reap enormous value benefits that we believe get particularly magnified during volatile economic times. Our buyer customers are able to automate their back office and significantly reduce costs, oftentimes by more than 60%, while enhancing scalability and security of their accounts payable and payment processes. While on the supplier side, our supplier customers get better visibility into their invoice and payments, and are able to accelerate their cash flows and working capital while optimizing aspects of their own back-office reconciliation functions. A good customer example of the power of our overall AvidXchange business flywheel and the value we are delivering through our two-sided network is with Chicago, Illinois-based Remedy Medical Properties, the nation's largest private owner of healthcare properties. Remedy exemplifies the power of AvidXchange's two-sided network.

Before adopting AvidXchange's invoice and pay solutions, Remedy accounts payable and payment processes were time-intensive, with many manual processes. According to Senior Accounts Payable Manager, David Bennett, several hours a day were spent opening the mail, scanning invoices, filing, and stuffing checks into envelopes. By adopting our API-based AvidInvoice and AvidPay automation software solutions, which seamlessly integrate into Remedy's Yardi Voyager accounting system, Bennett's team shaved off 1 whole workday per week by no longer needing to sign checks, stuff envelopes, and file invoices. Without AvidXchange, Bennett estimates that they would have had to hire up to 3 to 4 more people to process the growing volume of invoices and payments over time.

As David Bennett stated, "Keeping track of AP statuses and conversations was challenging, but with AvidInvoice, there is now a central place for updates, notes, and answers, allowing us to work more efficiently and better communicate with property managers and our suppliers." While buyer customers like Remedy and other customers we have referenced over the past quarters highlight the customer value proposition, there are also broader market forces that are influencing the adoption of our solutions across the middle market or the mighty middle, as I call it. These forces range from the continued mass shift to the cloud for the critical back-office applications that support business continuity, along with enabling work-from-home models for finance and accounting professionals, along with changing demographics and heightened focus on payment fraud prevention.

Speaking of payment fraud prevention, recently, the United States Postal Service put out an urgent bulletin warning against sending checks through the mail due to a surge in mail theft. Nothing drives human behavior more than loss avoidance, and according to the Association for Financial Professionals, roughly 70% of payment fraud for organizations occurs with paper checks. However, based on our data, payment fraud relates to checks in the B2B space is even greater at over 90%. While fraud is unfortunate, it adds another layer of uncertainty to our remaining paper check supplier customers, while magnifying the value proposition of our various payment modalities. With roughly 55% of our payment mix still being checks, we're extremely well positioned to help our customers mitigate this risk while building on our industry-leading e-payment penetration. Let me now provide a quick summary of our year-over-year Q2 2023 financial results.

We delivered revenues exceeding $91 million, which grew at a rate of over 19% compared to the same period last year. Once again, our Q2 growth was led by double-digit revenue growth dynamics across most of our vertical markets. Non-GAAP gross margins expanded to over 68% in the quarter, up 460 basis points on a year-over-year basis. In addition, we posted an accelerating non-GAAP adjusted EBITDA profit of approximately $3 million in the quarter, which was close to an $8 million positive swing from an adjusted EBITDA loss of $4.7 million in the same period last year. We also ended the quarter with a 9.5% year-over-year increase in our total transaction yield to $4.84, which is now up $0.79, or roughly 20% since our IPO in October of 2021.

On today's call, we'll touch on three topics. First, our top-of-funnel activity. Second, discuss innovations to our existing product suite around new payment modalities under gear three of our AvidXchange business flywheel. Quick reminder that gear three incorporates all of our collective strategies to convert paper checks to electronic payments, along with an update of our pending launch of Invoice Accelerator 2.0. Third, explore several of our operational levers designed to accelerate automation that are key steps to driving continued gross margin expansion and accelerating our profitability. On to the first topic. From a top-of-funnel buyer opportunity perspective, we ended the first half of 2023 with a healthy growth, up 70% on a year-over-year basis. Virtually all verticals saw double-digit growth, including construction, financial services, media, healthcare, our HOA, and educational, as examples.

Equally, the growth in the top of funnel came with a slightly higher average deal size attachment, aided by our 3-way PO match product. This healthy top of funnel was further backstopped by a sustained pace of close win rates. The only top-of-funnel deviation continues to be within the commercial office subsector of our overall real estate vertical. Just to be clear, when we talk about real estate, real estate vertical, we are largely talking about real estate commercial operating companies and not residential home builders. Multifamily, student housing, and industrial subsegments of the real estate vertical remain very strong, commercial office real estate continues to soften. Meanwhile, product and integration partnerships launched over the last 12 months continue to play a solid role in the growth of our top-of-funnel prospect activity.

For example, the launch of our 3-way purchase order, or PO offering in 2022, although off a small base, has seen triple-digit uptake. What's more exciting is how broad the adoption has been, spanning education, real estate, and our HOA condo association management verticals across both vertical and horizontal ERP accounting systems. Furthermore, the average new buyer deal size in our top-of-funnel related to the 3-way match is also larger than what we typically see in those verticals. In the education vertical, for example, we're seeing 3-way PO use cases with individual schools and school systems for ordering supplies and managing their inventory. Equally encouraging, we're seeing strong top-of-funnel activity within our preferred strategic partnership with ResMan in the real estate multifamily subsector, which was launched last year as well. All in all, we are very pleased with the underlying metrics driving our top-of-funnel sales momentum.

This underscores not only the large and unpenetrated $20 billion-plus addressable market within the B2B middle market for AP and payments automation solutions, but also the long secular growth opportunities that we see despite some near-term pockets of macroeconomic softness. Topic number two is all about year three of our AvidXchange business flywheel, where we continue to accelerate ways to maximize our industry-leading e-payment penetration of converting paper checks to various forms of e-payments across our two-sided network by removing barriers to adoption, as an example of our STP offering, and introducing new payment modalities, which we believe is the secret sauce of our success and one of our biggest competitive advantages. We are excited to highlight new augmented payment modality in conjunction with just-launched lien waiver management solution, which delivers critical automation functionality within our construction vertical.

Currently, buyers and suppliers in the construction industry have to navigate a series of regulatory rules across various government agencies in order to set up and begin transacting. New and existing buyers in the construction vertical must have the account validation and other customer due diligence requirements, while new and existing suppliers, numbering in the thousands, must also pass numerous bank account validation rules in order to be paid. Our new same-day payment offering for lien waivers compliantly and programmatically sends same-day payments from general contractors, our buyers, to subcontractors, our suppliers. With the integration of this new payment modality, the system allows for the programmatic creation of suppliers, payments, and status reporting while incorporating a new specialized payment funding model. This augmented payment modality makes a great use case for the roughly 1,500 base of construction buyer customers.

Finally, topic number three is related to optimization of operational levers, where we continue to look at the linkages across our operational value chain, specifically around payment processes, with the objective of further automating all of our remaining manual payment delivery processes. Currently, when making a virtual card payment, the process and time it takes between a wholesale processor generating a virtual card and getting that virtual card into a supplier's hands to complete the entry of card details into the merchant system, typically requires multiple manual steps, translating into approximately two days of delivery time. Through our new virtual card delivery and distribution platform, which we plan to have fully rolled out by Q4, that processing time goes from two days to near real-time delivery of cards to our suppliers.

This dramatic overhaul does not only improve the customer experience through faster speed, but it also drives scalability and efficiency for us. With virtual card issuance potentially numbering into the millions on an annual basis, this new capability has the potential of not only generating meaningful savings over time, but also extending the payment automation horizon significantly further beyond our current 80% payment automation level today. In summary, we are pleased with our strong Q2 top line and exceptional bottom-line results. We remain focused on delivering on our product roadmap, integration partnerships, and e-payment penetration, while leveraging data to drive incremental customer value. On today's call, we provided a progress update on some of those areas and look forward to further such updates around partnerships in the works, in addition to existing and new offerings we've been nurturing.

This includes our flagship Invoice Accelerator 2.0 finance offering, which is targeted to be released in the Q4 and is just one example of many new innovation products in our product pipeline. Along similar lines, we're also rapidly broadening the use case for products just launched across our other verticals based on demand. Our new lien waiver management offering that we announced last quarter is a great example of this, and we look forward to updating you on this offering along with other use cases in future quarters. Of course, none of the success we have achieved to date would be possible without the existing talent and new talent we continue to attract to be part of our team. It is with great enthusiasm, I take this opportunity to announce the promotion of John Feldman to the role of Chief Operating Officer from SVP of Operations.

John has leveraged his formidable experience as Chief Operating Officer of Capital One's retail bank, Chief Risk Officer, as well as other roles overseeing product management around payments at various financial institutions to great effect at AvidXchange. Thanks to John and his team, our efforts related to the service transformation strategy are yielding results, as roughly 80% of our e-payments have now been automated, with significant more gains to come. Also, I'm pleased to formally announce the appointment of Doug Anderson as our Chief Product Officer. Doug brings his forte of building products and other SaaS-based offerings at scale to AvidXchange, honed from his experience at leading global tech companies such as SAP Concur. We believe these strategic, operational, and talent initiatives, coupled with our strong balance sheet cash, gives us further optionality to accelerate value creation opportunities.

Of course, we are mindful of the volatile macroeconomic backdrop and the potential for further short-term impacts on our business. However, we believe we are still in the very early innings of a significant long-term opportunity to drive impactful value for our customers, create future growth opportunities for our team members, and unlock both short-term and long-term value for our shareholders. With that, I'd like to turn the call over to my partner, Joel Wilhite.

Joel Wilhite (CFO)

Thanks, Mike, good morning, everyone. I'm pleased to talk to you today about our Q2 2023 financial results, which reflect continued execution of our growth strategies amid continued macro uncertainty. Overall, we delivered another quarter of healthy year-over-year financial performance. Relative to the implied Q2 2023 business outlook, Q2 revenues came in better, driven largely by interest revenues. That, together with higher gross margins driven by unit cost initiatives and yield expansion, coupled with expense control, led to significant adjusted EBITDA outperformance. We believe this adjusted EBITDA outperformance underscores the scope for operating leverage in our financial model. Turning to year-over-year results. Total revenue increased by 19.1% to $91.2 million in Q2 of 2023 over the Q2 of 2022.

Roughly two-thirds of the revenue growth was driven by the combination of addition of new buyer invoice and payment transactions, coupled with yield expansion. The remaining third of our revenue growth this quarter was driven by higher year-over-year interest revenue, partially offset by a year-over-year decline in political revenues. Our strong revenue growth also resulted in total transaction yield expanding to $4.84 in the quarter, up 9.5% from $4.42 in Q2 of 2022. Of the 9.5% increase, roughly three-quarters of the increase was driven by the aforementioned flux between interest and political revenues, with the remainder driven by mix and yield expansion.

Software revenues of $27.2 million, which accounted for 29.9% of our total revenue in the quarter, increased 12.6% in Q2 of 2023 over Q2 of 2022. The increase in software revenues was driven by growth in total transactions of 8.7%, with the balance driven by a combination of price increases in certain subscription-based revenues. Payment revenue of $63.2 million, which accounted for 69.4% of our total revenue in the quarter, increased 22.6% in Q2 of 2023 over Q2 of 2022. Payment revenues reflect the contribution of interest revenues, which were $9.2 million in Q2 of 2023, versus $1.2 million in Q2 of 2022. Recall, year ago, period payment revenues also included contribution from political media revenue.

Almost half of the 22.6% increase in payment revenues was roughly in line with the increase in total payment volume, which was up 12.6%, with the remaining portion driven by the aforementioned flux between interest and political revenues. On a GAAP basis, gross profit of $55.6 million increased by 29.6% in Q2 of 2023 over the same period last year, resulting in a 500 basis point improvement in gross margin for the quarter to 61%. Non-GAAP gross margin increased 460 basis points to 68.3% in Q2 of 2023 over the same period last year, roughly more than half of which was driven by a combination of unit cost efficiencies, yield expansion and mix, with the remainder driven by higher interest revenue.

Now moving on to operating expenses. On a GAAP basis, total operating expenses were $81.4 million, an increase of 18.3% in Q2 of 2023 over Q2 of last year. On a non-GAAP basis, operating expenses, excluding depreciation and amortization, increased 10.9% or $5.8 million to $59.2 million in the Q2 of 2023 from the comparable prior year period. On a percentage of revenue basis, operating expenses, excluding depreciation and amortization, declined roughly 480 basis points to 65% the Q2 of 2023, from 69.8% the comparable period last year. This highlights the operating expense leverage, particularly across G&A, as well as sales and marketing. I'll now talk about each component of the change in operating expenses on a non-GAAP basis.

Non-GAAP sales and marketing costs decreased slightly by $0.4 million, or 2.2% to $18.7 million in Q2 of 2023 over Q2 of last year, which was driven largely by lower marketing costs around event sponsorships. Non-GAAP research and development costs increased by $3.8 million, or 21% to $21.7 million in Q2 of 2023 over Q2 of last year. The increase was due to the continued investment in our products and platform. Non-GAAP general administrative costs increased by $2.5 million, or 14.9% to $18.9 million in Q2 of 2023 over Q2 of last year, driven by a combination of higher expenses as we transition to a public company, coupled with higher performance-based bonus accruals and bad debt reserve adjustment.

Our GAAP net loss was $18.8 million for the quarter, versus a GAAP net loss of $25.7 million in the prior year period, driven by a combination of strong revenue flow-through and expense control, leading to lower operating losses, coupled with higher interest income and lower interest expense due to reduced borrowing costs and partial debt paydown. Our GAAP loss reflects $3.6 million of expenses related to the cyber incident in the Q2 of 2023, which includes professional services and legal fees. On a non-GAAP basis, excluding those cyber costs, our net loss in the Q2 of 2023 was $0.5 million, an improvement of $13.2 million compared to the year ago quarter, driven by the aforementioned factors.

On a non-GAAP basis, adjusted EBITDA was approximately $3 million in Q2 of 2023, compared to a loss of $4.7 million in Q2 of 2022, largely due to the aforementioned factors. Turning to our balance sheet for a moment, I want to touch on a few key items. We ended the quarter with a strong corporate cash position of $438.3 million, against an outstanding total debt balance of $82.9 million, including a note payable for $18.7 million. We had $23.9 million on our credit facility undrawn at quarter end. Corporate cash, meanwhile, was split roughly 60% among money market funds, commercial paper, and U.S. Treasuries, with the remaining 40% in demand deposit accounts.

The weighted average maturity on the corporate cash was roughly 12 days, while the effective interest rate on our corporate cash position for the Q2 was roughly 4.6%. Customer cash at quarter end was approximately $1.2 billion, with an interest rate of roughly 4.2% for the quarter. I'll now provide an update on our full year 2023 guidance. In light of our Q2 2023 financial outperformance, balanced with further volume impacts from macro crosscurrents, and based on all information currently available, we're raising our 2023 outlook and now expect total revenue for the year to be in the range of $368 million-$370 million. Our 2023 out- revenue outlook reflects approximately $35 million in interest revenue from customer funds, versus approximately $11 million earned in 2022.

As a reminder, we do not anticipate any political media revenue contribution in 2023, versus having recognized $8.5 million in 2022. Similarly, we expect a higher non-GAAP adjusted EBITDA profit, ranging between $7 million and $8 million for the year. This adjusted EBITDA outlook reflects approximately $2 million in incremental second-half investments in IT security enhancements and associated costs related to the cyber incident. With that, I would now like to turn the call back over to the operator to open up the line for Q&A. Operator?

Operator (participant)

At this time, I would like to remind everyone, in order to ask a question, press star, then the number one on your telephone keypad. Please limit your question to one per person. We'll pause for just a moment to compile the Q&A roster. Your first question comes from the line of Jamie Friedman from Susquehanna. Jamie, your line is now open.

Jamie Friedman (Senior FinTech and IT Services Research Analyst)

Hi, good results here. Thank you for taking my question. I just was hoping you could elaborate on this slide four. It's the financial monetization flywheel. I know you had talked about this a bit in your prepared remarks, but if you could take a couple of these, in particular, that you think the model is most leveraged to, like, how would you decompose it? Is it the, you know, obviously, the buyer customers, the transaction yield? Yeah, if you could pull out a couple of these and just talk through how you're thinking about the inputs, that would be very helpful. Thank you.

Joel Wilhite (CFO)

Thanks, Jamie. Appreciate the question. Why don't I kind of lead off and let Mike add some color? The first thing I would say is just zooming out from the flywheel and the metrics that you're referencing. You know, when we think about that 20% organic growth potential that we have in the early days of this really big opportunity, we think about it in sort of, kind of three simple elements to our growth algorithm that kind of do map to that, to the flywheel. First of all, when we think about, you know, year one is attracting and retaining, you know, buyer customers of accounts payable automation. We think about, you know, keeping and expanding organically, that volume on our platform. Number two, we're continually focused on adding additional buyers and their volume.

Number three, expanding the yield of the volume on that platform, and the yield really comes into year three and year four. Just generally setting the table, Mike, I don't know if there's more that you want to sort of map back to the flywheel.

Michael Praeger (CEO)

Yeah, the, so one of the things that the flywheel does, Jamie, is, you know, allows us to really monetize, continue to monetize the same transaction multiple times. Now, you know, we're up to, you know, five to six different monetization events that we can have in a single transaction from, you know, the managing the software for the purchase order, the invoice, the payment. Then we have specialized services that we recently released, like Avid Analytics and even one around utility, you know, bill payments. Then on the network side, we certainly have the economics related to e-payments, along with them, you know, our Invoice Accelerator offering related to, you know, supplier financing.

So, you know, it allows us to continue to monetize the same transaction multiple times, and where that shows up is in our transaction yield, continuing to expand. Um, and then, um, the one thing I, I, you know, like to remind people is, um, you know, with, uh, year three, which is at the bottom of the flywheel, um, that's a, uh, a really big opportunity for us, as we still have over fifty percent of our suppliers on paper checks. And, uh, just to remind people, when you do that conversion from a paper check to a supplier, to an, uh, e-payment supplier, um, you know, the, the revenue on the payment network for a check is zero, and we have relatively high costs of about eighty-five cents.

When we flip it to be electronic supplier, you know, the cost goes to pennies, and the revenue goes to, you know, $8 to $10 on average per transaction. That's a really big, you know, kind of built-in monetization, you know, kind of opportunity for us, you know, within the existing base before we even add new, you know, buyer customers and supplier customers to the flywheel.

Operator (participant)

Okay, your next question comes from the line of Dave Koning from Baird. Dave, your line is now open.

David J. Koning (Senior Research Analyst and Associate Director of Research)

Yeah. Hey, guys. Great job on, on profitability. I guess my, my first question, incremental margins on a year-over-year basis, about 53%. It's, it's the strongest in many years. I'm wondering if you can kind of disaggregate a little bit. We know interest revenues probably contributed some, you know, cost cuts, maybe some. Then, you know, how much is just kind of core, stable cost base and revenue growth just driving good, good incremental margin? Like, maybe just kind of walk through that a little bit and how sustainable this is.

Joel Wilhite (CFO)

Yeah, great question, Dave. Thanks for the question. Maybe let me just start with kind of talking about gross margin, then I'll make a few other comments altogether contributing to the incremental margin you're seeing from an EBITDA perspective. You know, we've talked about the importance of gross margin and the focus that we have on that. We've said before that as we get into that 70% ZIP code, we begin to see a profitable business, and we've kind of crossed that point, and, you know, kind of not looking back. You know, for the quarter, overall good, you know, overall, non-GAAP gross margin expanded, you know, 460 bips, as I mentioned in the prepared remarks. You know, 100 bips on a sequential basis.

To your point, you know, the float contribution is something that, you know, benefits. It's kind of a great feature in our model and benefits, you know, gross margin and EBITDA performance. Stripping out both the impact of float and the year-over-year impact of the political media advertising, we're still up about 260 bips year-over-year, 40 bips sequentially. That really shows the focus that we're taking on just operational efficiency across the board. No one particular lever, but many that we're focused on, and so we're proud of the gross margin result for the quarter. You know, on the EBITDA side of things, again, we're also, we talked about, you know, beginning to see, see scale in the model this year.

you know, first with kind of G&A, as we kind of get through the full load of public company costs in our run rate, and then a focus on, you know, kind of, you know, minimizing that growth. Also from an R&D perspective, we're really focused on both growth and profitability, and we have, you know, a full payload of, of investments in our products and platform. Also, we see and are very focused on harvesting scale from R&D as well. All told, we're, we're kind of pleased with the quarter, pleased with the progress from a profitability standpoint.

Operator (participant)

Our next question comes from the line of Nance Will from Goldman, Goldman Sachs. Will Nance, your line is now open.

Will Nance (VP, Equity Research Analyst)

Hey, guys. I think that was me. Appreciate you taking the question. I was hoping you would spend a little bit more time just kind of unpacking some of the macro impacts that you, that, that you're seeing in the quarter. Trying to think about, like, the expectations for revenue ex float in the back half of the year and how that's changed. You know, I guess as you look out, you know, we've seen some of these, you know, some of these macro-related impacts on invoice sizes over the past year. Do you have a sense, or can you maybe just kind of catalog when you first began to seeing it and when we should start to kind of grow over some of those negative impacts on, on invoice sizes? Thanks.

Joel Wilhite (CFO)

Yeah, good question, Will. I'm happy to take that one. I guess what I would say is, first of all, you know, we're pleased with the quarter. Another solid quarter, you know, kind of, you know, exceeding our, our expectations in a time of caution and moderation that has persisted, you know, all year. I think we talked early in the year about having seen this begin midway through the last through the Q4 of last year. That, that choppiness or moderation, whatever you wanna call it, has, has really kind of continued.

As we sat and thought about, you know, kind of guiding the second half of the year, obviously, we've incorporated, you know, kind of the beat that we see and a revised take on what we see from a float revenue standpoint. Apart from that, the back half really contemplates nothing different than what we've sort of been suggesting all along. Not sure when it turns around. You know, we'll certainly talk about it when it happens, but expecting that the current conditions persist through the better part, you know, through the end of the year.

Michael Praeger (CEO)

Yeah, that was well said, Joel. Will, just maybe a little historical context. In kind of past cycles when we've seen, you know, it turn around, we noticed that discretionary spend comes back really quickly, you know, across our customer base. You know, we certainly look forward to, you know, kind of when that macro turns around as well.

Operator (participant)

Our next question comes from the line of Ramsey El-Assal from Barclays. Ramsey, your line is now open.

Ramsey El-Assal (Managing Director)

Hi, there. Thanks so much for taking my question today. It's great to see the entire vertical stack, sort of ex real estate, was back to healthy growth this quarter. On real estate, I was wondering how you're looking at that vertical over the longer term. I'm thinking of, you know, work from home trends and sort of struggling commercial office markets. Will real estate kind of diminish as we move forward in terms of its longer-term contribution to growth, or are you expecting a rebound back to sort of prior levels?

Michael Praeger (CEO)

Yeah. Ramsey, this is Mike. One thing I'd, I'd like to clarify is that overall, the vertical of real estate actually performed fairly well for us. My commentary was, it's a, it's a big vertical related to lots of subsectors within the vertical. When we look at our customer base, it's really kind of split across five different verticals, you know, led by multifamily, you know, apartment operators, being one. The second one is, you know, student housing and campus housing. Third is industrial, the fourth is retail, and the fifth is commercial office. Of the five, you know, commercial office is the one that we saw that had, you know, that still has kind of the headwinds related to, you know, the dynamics that you just indicated.

Yeah, the reason why the overall vertical was positive for us is because multifamily, student housing, and industrial are really performing well. You know, if you see, you know, a lot of our new kind of partnerships that we've launched in the last couple of years, are with companies in the focused in the multifamily sector. You know, we, you know, and then maybe kind of the backdrop is, you know, although it's the, our first vertical we started in 23 years ago, we're still single-digit penetration within the vertical, so lots of runway, you know, in that overall vertical.

Operator (participant)

Your next question comes from the line of Craig Maurer from FT Partners. Craig, the line is now open.

Craig Maurer (Managing Director)

Yeah, hi. Thanks, guys. Two questions. First, could you unpack the increase in revenue guide a little bit and differentiate between what was driven by an increase in float revenue versus what the change was in core revenue guidance? Secondly, if you think back to prior cycles, can you perhaps try to size what you think the impact from political revenue will be in 2024, considering the election cycle? Thanks.

Joel Wilhite (CFO)

Thanks, Craig. I'll take the first part of the question. Look, we're, we're, you know, we were pleased again with the quarterly results. Again, a beat on top and bottom. We've factored in, you know, obviously now raising the range for the year, factored that into the equation. Really, I think it would be, you know, if I were to split that out, it's really the, you know, continued. What we continue to see is that moderation in spending across the middle market, that's, that's baked in, and a little bit of a tick-up in that float revenue contribution. Feel good about, feel good about the outlook for the rest of the year. Mike?

Michael Praeger (CEO)

Yeah, on, on the political side, in, in the last cycle, we, you know, controlled or processed roughly 30% of the political spend payments of the industry. If we look forward to, you know, the, what's estimated for, you know, the 2024 political cycle, they estimate it to be the first, $10 billion spend cycle for political advertising. you know, that's up, you know, roughly, I believe the last cycle was roughly $7.8 billion, certainly, some growth there in 2024. one thing that, you know, was a learning for me was, everyone kind of assumes it's geared exclusively for the candidates, and that's actually not the case.

It's a kind of mixed split between both candidate, you know, advertising as well as the main issues. The issues drive a lot of the spend as well. That probably maybe gives you a little bit of context.

Operator (participant)

A reminder to everyone, please limit your questions to one person only. Thank you. Your next question comes from the line of James Faucette from Morgan Stanley. James, your line is now open.

James Faucette (Managing Director and Senior Equity Research Analyst)

Yeah, sure. Wanted to talk a little bit about competition, and, and we've seen, news recently from other players in the market, including Brex and Ramp yesterday. You know, how are you seeing, what are you seeing out in the market in terms of competition, and, and how would you frame the distinction in business models that are out there and strategy compared to your own right now?

Michael Praeger (CEO)

Yeah. So, it's a good question. Certainly, you know, we saw those announcements as well. It's kind of interesting, you know, in terms of, you know, actually what we see happening in the market, is really no different than what we, you know, have seen historically, related to, you know, new competition within the middle market segment. You know, typically the, the new entrants have been focused on small business. There's lots of good reasons for that, mainly driven by, you know, the, all the nuances of the, you know, the mighty middle, as I call it, the middle market, being roughly 50% of all the companies. Middle market highly align themselves with industry verticals that require unique business processes as well as accounting systems to support the verticals.

That translates to, you know, a big effort related to, you know, product development, related to integrations, as well as accommodating the nuances of the industry. You know, a good example of that is what we talked about with our lien waiver management, you know, for the construction vertical, so we can, you know, do a good job of executing construction-related payments. You know what, you know, we continue to see is really the same players across the, you know, the middle market component, and it's very verticalized. Then you have the horizontal layer, where we do see, you know, kind of, probably the most competition is in the horizontals related to the NetSuite channel, Microsoft Dynamics, Sage Intacct, you know, Acumatica, as examples.

Specifically for, you know, Brex Ramp, you know, they've been really on the spend management side, versus the AP side. You know, we, you know, don't really see them, they don't have significant activity that we see across, you know, our particular verticals within the middle market.

Operator (participant)

Come from the line of Tien-Tsin Huang from JPMorgan. Tien, your line is now open.

Tien-Tsin Huang (Managing Director and Senior Equity Analyst)

Hi, thanks. Good morning. I think Dave asked on incremental margins, but maybe I'll ask on gross margins in the second half. Again, just, just wanna make sure if there's any call-outs for the second half as we model that out.

Joel Wilhite (CFO)

Yeah. Yeah, great question, Tien-Tsin. I think it's... You know, again, I won't repeat, obviously, my comments in response to Dave's question, but we were pleased with our kind of margin expansion. Again, 460 basis points, even, you know, close to 300, stripping out float political. One of the things, specifically to your question about, I would go back to some comments I've made previously about just cautioning some, some moderation in those gross margins going forward. Again, we're super focused on gross margins. We expect to continue to see that edge up over time, but not in linear fashion.

I would sort of say that we think about overall year expansion in the kind of 200 basis points range and maybe, you know, 100 or so stripping out float on a full year basis.

Operator (participant)

Your next question comes from the line of Darrin Peller from Wolfe Research. Darrin, your line is now open.

Darrin Peller (Managing Director and Senior Analyst)

Guys, thanks. You know, just revisiting the, you know, the algorithm around the EBITDA 20% targets. I know gross margin is a big part of that, and we're seeing the success of that now. If you guys don't mind reminding us just of the path and the building blocks and the timing that we can, we can think about for all those factors playing out, and how much is reliant on incremental. Well, I guess I'd say both incremental products and offerings that are high incremental margin, as well as macro, to some degree.

Joel Wilhite (CFO)

Yeah, I mean, maybe I'll let me, let me make a brief comment, then Mike, add some color. I, I think that, you know, obviously, we're, we're focused on, you know, getting to that kind of, you know, Rule of 40 profile with a, you know, kind of organic 20% revenue growth as you move out into kind of 2025 and, and, and, and even improving upon that, you know, beyond. I think the pattern, again, I would go back to not necessarily linear, but, but sort of steady, continued expansion in gross margins and scale, really, really beginning to see now and, and for the next year plus, in our operating expenses. Mike, anything to add to that?

Michael Praeger (CEO)

Yeah, yeah. I gotta go back to maybe it was a little bit of the first question that we had today on the flywheel. I kind of think of that, you know, kind of overall growth algorithm, you know, today as, you know, really kind of five, six different components. The first is, remember, we have these multiple, you know, five, six now monetization events on a single transaction. That's, and obviously growing. We still have the kind of the, the big, you know, bucket of paper check suppliers, the 50% of paper check suppliers. That's a great, you know, both revenue as well as gross margin driver.

We're, you know, super excited about, you know, this year is gonna be one of our biggest years in terms of, you know, customer-facing product innovation, certainly led by, you know, Invoice Accelerator, coming up, you know, over this, you know, the second half of this year. Then, you know, we have the strong top-of-funnel activity, continuing to be adding, you know, kind of new buyers. Then, you know, the, the last thing is, you know, I think the macro certainly will, you know, turn around at some point. Just I think as Joel indicated, you know, we're not expecting that to be, you know, anytime soon, but certainly in the future, that will, you know, kind of correct itself as we've seen in past cycles as well.

Operator (participant)

Your next question comes from the line of Alex Markgraff from KeyBanc Capital Markets. Alex, your line is now open.

Alex Markgraff (VP, Equity Research Analyst)

Hey, guys. Thanks for taking the question. Maybe first one, just kind of on a similar topic around product and top-of-funnel activity. Mike, I think you mentioned the three-way purchase order, the module helping with deal size. Just wondering if you could maybe clarify or even quantify some of that tailwind, and then just more broadly, how you're thinking about, you know, the product roadmap and kind of impact on deal sizes going forward, kind of in the near term?

Michael Praeger (CEO)

Yeah, that's a, that's a great question, related to, you know, some of the innovation that we've rolled out to customers. You know, last year, well, you know, late last year, we talked about our, you know, kind of next generation purchase order, procurement-related, you know, kind of functionality that we've been rolling out to customers. One of those was kind of the three-way match capability. The result is, what we were kind of hoping would happen, and that is, we, you know, are starting to attract more of the upper middle market, some bigger customers. That's kind of had an impact on our overall, you know, kind of average deal size, you know, increasing, you know, roughly about 20%.

to give you context, you know, historically, it's been roughly in the, the $50,000 range, and now it's kind of migrated towards the $60,000 range. It's had a really you know, positive impact, related to, you know, kind of the types of buyer customers, you know, that we're attracting, you know, across the middle market.

Operator (participant)

Your next question comes from the line from Tian from the Deutsche Bank. Tian, your line is now open. Tian?

Michael Praeger (CEO)

Maybe next question.

Operator (participant)

Okay, your next, your next question comes from the line from Brent Bracelin from Piper Sandler. Brent, your line is now open.

Brent Bracelin (Co-Head of Technology Research and Managing Director)

Thank you. Good morning. I think, Mike, you talked about 55% of the payment mix being tied to, to check today. What could that check mix like over the next two to three years? What are the things in your control that you can drive that mix lower? Thanks.

Michael Praeger (CEO)

Yeah. I, I like this question, Brent. It may be a gold star question because it's one of the things that I spend a lot of time thinking about, and certainly a lot of our growth strategies relate to, you know, chipping away at this big installed base of paper check. First of all, you know, I think we believe, you know, kind of long term, you know, that that number can go into 70% type range. The kind of the strategies to get there, you know, are exactly the types of things that were, you know, that I talked about, you know, this quarter that we're rolling out to customers.

That is, you know, continue to look at different types of payment modalities, with different value propositions, different price points, with different elements of data wrapped into it that we can deliver, you know, you know, you know, in an automated way or a straight-through process way to our supplier customers. The one, you know, we talked about this quarter, is it was related to kind of the same-day payment execution for construction customers to satisfy their lien waiver requirements, which is a kind of unique business process within the construction vertical. So that new payment offering that we're rolling out, is another good example of a new payment modality, specifically for the construction vertical.

There's a great analogy here, because we learned about the impact of that type of payment modality, you know, maybe a year or so ago when we rolled out a similar payment modality in the media vertical for same day, you know, satisfaction of political payments, which has a very sensitive timeline within the political media, you know, industry. So, those are all good examples of us continuing to add new payment modalities that we look at, you know, how do we target, you know, different sectors of this remaining paper check base with unique value proposition, both incorporating price points as well as, you know, data delivery.

Operator (participant)

Your last question comes from the line of Bryan Keane from Deutsche Bank. Bryan, your line is now open.

Bryan Keane (Managing Director and Senior Equity Analyst)

Hey, guys, I think that's me. I'm guessing it's Bryan Keane. I guess two questions. Mike, can you just help us on, on sales cycles when you talk about top of the funnel activity? I know they were pushed out, a few weeks, maybe even a month. I'm just curious, is that, that's still the case? Then, Joel, any call-outs between third and Q4 as we set our models, just to make sure we think about the right growth rates to put in there? Thanks.

Michael Praeger (CEO)

Yeah. Well, maybe I'll, I'll start, Bryan. I'm glad we got your question in here. As it relates to, you know, kind of, you know, sales cycles, it's remained consistent with what we've been seeing for the last, you know, couple of quarters. I think we kind of referenced that we saw, you know, kind of a, a slight, you know, kind of extension, you know, of roughly 10 days, you know, from what we historically have seen, and that's remained consistent, you know, in this past quarter as well.

Joel Wilhite (CFO)

Bryan, just to wrap up your last part of your question, just as when you think about the second half, couple comments that I could add. First, on a revenue side of things, you know, way I would think about it, you know, we don't guide necessarily the next quarter, but I would think about revenue as more like a, you know, kind of a 49/51 split, more or less. A little bit of, you know, ramp as you get to the end of the year. Secondly, from an EBITDA perspective, we are really pleased with the quarterly results. The things that I would suggest, again, we're proud to kind of be a profitable business, continue to focus on, on doing that, not looking back.

Keep in mind, I did mention, some investments we're making to pull forward, you know, some investments in our information security profile, and so those will be, you know, beginning to ramp between now and the end of the year. We also continue to, you know, make the investments, whether it's Invoice Accelerator or other products. That said, we're, you know, focused on continuing to be a profitable business going forward. Thanks for the question.

Operator (participant)

Your next question comes from the line of Timothy Chiodo from Credit Suisse. Timothy, your line is now open.

Timothy Chiodo (Director)

Great, thank you for taking the question. A follow-up on the check mix question. If you, if you could just lay out what a time series might have looked like. I know the business has been operating for many years. What was that check mix like 10 years ago? Were there, were there any kind of step functions ever when you introduced new products? You gave the example with the construction vertical one that might have helped with adoption of kind of eliminating some of those checks. To the extent that some of that check mix will start to go away at a more accelerated path over the coming years, other products could help with that.

Michael Praeger (CEO)

Yeah. So, so good question. So a little bit of the, kind of the history lesson, we launched the AvidPay Network in 2012. I think, you know, that, that first year we were, you know, 95% check. You know, we, you know, certainly the, as we got smarter about, you know, virtual card delivery, that, you know, those percentages went up. One of the biggest step function changes was when we launched the Avid, our AvidPay Direct, which is our, our ACH, you know, plus type payment offering, where we can configure different, you know, interchange or fee-based rates.

We settle through the ACH process, and then we wrap kind of a data layer around that transaction we deliver to the supplier for reconciliation. When we delivered and we came up and with the AvidRecon, that was probably a step function change, and that, you know, kind of now is contributing, you know, kind of roughly 10 percentage points of that, you know, of that monetization. When I look back, you know, maybe five years ago, we were probably in a, you know, kind of 25% range, and that's now, you know, ticked off to roughly 40% of transactions we're settling through ePayment. We have noticed a kind of a progression.

One of the things that, you know, hurts that number a little bit, you know, when you look at it on a growth basis, is that, you know, we're adding large volumes of new customers that are bringing, you know, large volumes of suppliers with them. Especially in, you know, as we add new verticals and in our emerging verticals, where we don't have, you know, as deep a penetration rate of converting those suppliers as we do in some of our earlier, you know, sub verticals, we see, you know, larger amounts of paper check suppliers that we're adding to the overall pool.

Certainly, you know, we're adding, you know, converting, you know, thousands of suppliers on a weekly basis, to, you know, kind of ePayments and have a pretty, you know, strong sales force that's dedicated, you know, exclusively to the supplier side of the equation.

Operator (participant)

Last question comes from the line from Will Nance, from Goldman Sachs. Will, the line is now open.

Will Nance (VP, Equity Research Analyst)

Hey, guys, appreciate you squeezing me in for a follow-up. Figured I wouldn't let the last three minutes go to waste here, but maybe just a follow-up on a similar vein of I think Tim's question just now. When we look at sort of the take rate trajectory, we've kind of been in this roughly 30 basis point range for a while now, and I know a big part of the long-term targets is seeing, you know, increased payment, electronic payment adoption and, you know, presumably higher take rates over time. Just wondering if you would, if, if you would kind of talk about kind of near-term drivers of an acceleration in that electronic payment adoption, and I guess maybe just more specifically, a modeling question.

When we think about that year-over-year headwind that you guys are facing in the political advertising vertical, like, was that a higher electronic penetration? Like, in other words, like, is the 40% number that seems like it's been relatively flat over the past year, is that being weighed down by, you know, the, the, the lack of the political ad spending this year?

Michael Praeger (CEO)

Yeah, good question, Will. The, the, the last part of your question. The answer is, is yes, there's a little bit of an enhancement by the presence of political from an ePayment, and sort of TPV yield. Yes, is the answer to that question. I think your general question is, you know, what near-term drivers to acceleration might exist? Again, we're not, you know, sort of predicting when we exit this kind of macro environment. It's possible that that, you know, has some positive impact. Again, we're, you know, we're, we're pretty proud of the TPV yield we've got to start with, just from an industry-leading perspective.

Moreover, you know, in this environment, and certainly there's a lot of leverage over the medium and longer term through year three, as Mike talked about, to take checks out of the system and drive that up.

Operator (participant)

All right, no further questions at this time. I would like to turn the call back over to Michael Praeger. Mike, over to you.

Michael Praeger (CEO)

Thanks. First of all, thank you for everyone joining our Q2 earnings call. We're looking forward to continuing to update you on our continued progress of our operating and financial performance, along with our product innovations. With that, operator, you may end the call.

Operator (participant)

This concludes today's conference call. You may now disconnect.