Insperity - Earnings Call - Q2 2021

Transcript

Speaker 0

Good afternoon, everyone. My name is Erica, and I will be your conference operator for today. I would like to welcome everyone to the Insperity Second Quarter twenty twenty one Earnings Conference Call. At this time, all participants' lines are in a listen only mode. After the speakers' presentation, there will be a question and answer session.

Please be advised that today's conference is being recorded. I would like to introduce today's speakers joining us are Paul Sarbadi, Chairman of the Board and Chief Executive Officer and Douglas Sharp, Senior Vice President of Finance, Chief Financial Officer and Treasurer. I'd like to turn the call over to Douglas Sharp. Mr. Sharp, please go ahead.

Speaker 1

Thank you. We appreciate you joining us. Let me begin by outlining our plan for this evening's call. First, I am going to discuss the details behind our second quarter twenty twenty one financial results. Paul will then comment on the key drivers behind our Q2 results and our plan over the remainder of the year.

I will return to provide our financial guidance for the third quarter and an update to the full year guidance. We will then end the call with a question and answer session. Now before we begin, I would like to remind you that Mr. Sarvati or I may make forward looking statements during today's call, which are subject to risks, uncertainties and assumptions. In addition, some of our discussion 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 eight ks filed today, which are available on our website. Now let's discuss our second quarter results. We achieved $0.91 in adjusted earnings per share and $60,000,000 of adjusted EBITDA with our growth rebounding ahead of plan from the pandemic lows a year ago. As for our growth metric, the average number of paid worksite employees increased by 7% over 2020, above the high end of our forecasted range of 5% to 6%. And this was a sequential increase of 4.3% over 2021.

Both worksite employees paid from new client sales and net gains from hiring in our client base exceeded our targets. And second quarter client retention came in at our historical high level of 99%. Now along with worksite employee growth, our revenue per worksite employee, which included a 6% increase in pricing and the non recurrence of the 2020 FICA deferral and customer service fee credits exceed exceeded our expectations. Our workers' compensation program also continues to produce favorable results. In spite of these three factors, we experienced a decline in gross profit of 9% from 2020 related to the dynamics associated with the pandemic.

First, during 2020, with the onset of the pandemic, we experienced unusually low utilization in our health plan and therefore lower benefit costs. Over the first half of this year, we have seen an increase in health care utilization, including elective care that was previously deferred and COVID-nineteen related vaccination, testing and treatment costs, along with changes in claim payment patterns by our carrier associated with these claims. The second area of gross profit, unemployment taxes, has been favorable relative to our expectations coming into 2021. We prudently budgeted for an increase in state unemployment tax rates coming off of the high 2020 unemployment levels. Ultimately, many states elected not to raise their rates at anticipated levels, including Texas, whose rate we received during q two.

Also, we experienced a change in client mix that had a favorable impact on our CUDA cost. So the gross profit contribution from our payroll tax area has exceeded our budget through the 2021. Moving forward into the second half of this year, we have appropriately lowered our pricing to allow our clients and prospects to benefit from our lower CUDA costs while still targeting our initial budgeted spread between price and cost. We will closely monitor CUDA rates as we enter 2022 to determine the need for any further pricing adjustments. Now another positive outcome in the payroll tax area during Q2 was a receipt of $11,000,000 of federal payroll tax refunds related to prior years.

As for our Q2 operating expenses, we continue to balance managing costs relative to the ongoing pandemic while also investing in our current and long term growth plans. We have increased our marketing spend related to lead generation activity and have incurred costs related to our sales force implementation. Other corporate employee headcount has remained relatively flat in the 2021. We have reinstituted travel for certain employees and events. However, these costs, along with other G and A costs, continue to be managed at historically low levels as the economy and our growth recovers from the pandemic.

Our financial position and liquidity remain strong as we continue investment in our growth and provide returns to our shareholders. During the quarter, we repurchased 98,000 shares of stock at a cost of $9,000,000 raised our dividend rate by 12.5%, paying out $17,000,000 in cash dividends and invested $9,000,000 in capital expenditures. We ended Q2 with two $13,000,000 of adjusted cash and $370,000,000 of debt. Now at this time, I'd like to turn the call over to Paul. Thank you, Doug, and thank

Speaker 2

you all for joining our call today. Let me begin by providing some color around our strong second quarter and first half results and the solid execution driving our growth acceleration. I'll follow these comments with the discussion of priorities for the balance of this year, and I'll finish with some thoughts about the exciting market opportunity we see ahead for Insperity, the PEO industry, and the overall HR services sector. We've had an excellent 2021 in the face of considerable uncertainty from the ongoing effects of the pandemic. Our priority as we entered this year was to accelerate our growth momentum and return to double digit growth in paid worksite employees as soon as possible while managing through the uncertainty.

As the year began, we were optimistic we would achieve this growth rate by year end or early twenty twenty two despite the loss of our largest client, which represented just under 3% of our worksite employee base. Our confidence was based upon our solid sales momentum, underlying client retention improvement and steady hiring in the client base. Our guidance provided today indicates we now expect to return to double digit unit growth in the third quarter, well ahead of schedule, building off our strong recent trends in all three of our growth drivers. Outperformance in paid worksite employees from previous booked sales, combined with stronger than expected hiring within the client base and historically high client retention, to produce a rapid acceleration in our unit growth. In fact, paid worksite employees were up 9% in four months by the June over our low point of the year in February.

New sales in the second quarter met our targets with booked sales for new clients and worksite employees, up 3930% respectively over last year. This positions us well to fuel third quarter growth since booked sales from a given quarter typically become paid worksite employees in the following quarter. Another highlight from our sales organization this quarter was booked sales for our traditional employment solution, Workforce Acceleration, which achieved 94% of forecast. We are beginning to see decent traction with this offering with gross profit contribution in q two from this offering increasing significantly over the same period last year. Although the numbers are still small relative to other contributors to gross profit, we believe this trend bodes well for the future since the potential for this offering is substantial.

Our client retention in the second quarter continued at historically high levels as our client service interactions have continued at rates dramatically above pre pandemic levels. We would have expected the level of service interactions to recede to historically normal levels by now, but it appears more of our client base has discovered the depth of our service team's expertise and the capability of a sophisticated HR function to help their businesses succeed. The most significant driver to our rapid growth acceleration in the first half of the year was growth in our client base above our expectations. We budgeted this metric at the low end of our historical range for this year, and it appears we are more likely to end up near the high end even with some potential cooling off in hiring over the balance of the year. We expect continued hiring within the client base over the back half of the year, but the labor market is showing some stress level around availability of candidates that could dampen the rate.

The competition for qualified candidates is quite pronounced, leading to wage inflation, signing bonuses, and an increased employee turnover to pursue better opportunities. We saw some of these effects in our own data this year with average wages and bonuses up 744%, respectively. The tightening labor market is also the result of a significant increase in retirements and career decisions reflecting personal reprioritization coming out of the pandemic. This dynamic represents a considerable opportunity for Insperity since one of the major advantages of our workforce optimization offering is the immediate capability to compete for employees against much larger firms. Once again, a sophisticated HR function is needed to respond to address these marketplace changes to gain a competitive advantage.

The second quarter and first half of this year also reflected volatility in two of our direct cost areas most affected by the pandemic, specifically unemployment taxes and health care costs. There are simply many moving parts in these two areas that will take some time to settle out as the pandemic wanes. So we will continue to set wider ranges than normal for our expectations in these areas. So we have delivered solid profitability year to date, and we have a good plan for the balance of the year. To continue to set the stage for long term growth and profitability, our plan includes strategic investments in sales and service capacity.

We expect to begin ramping up the number of Business Performance Advisors at a rate of approximately 10 per month and go into 2022 at around 700 BPAs across the country. We are reinstituting our fall campaign kickoff in early September with simultaneous events held across the country and linked together remotely. We also have budgeted an increase of several million dollars in radio and digital marketing spend, extending campaigns that have been successful generating qualified leads. We are also continuing our investment to implement Salesforce and are on schedule for our target rollout to the sales organization next spring. And most importantly, we intend to invest to add service team capacity for the growth we are experiencing and expect to continue in the months ahead.

We believe a successful fall selling and retention campaign will build upon our recent success and increase the likelihood of double digit growth into 2022. Insperity has a tremendous market opportunity in the years ahead. Demand and recognition of the value of our services has never been higher. The PEO industry has reached a stage of more rapid adoption, and the total addressable market is large. My optimism for the long term future is rooted in a different dynamic than I've seen in the thirty five years building our company and industry.

At the core of this optimism is the recognition of the importance of the HR function and the need for consultative HR support to achieve business objectives. I have mentioned throughout the pandemic the increase in the number and average length of time of interactions with our client owners and C level management. Another element and maybe the most significant change to note is the topics being discussed at this level, including corporate culture, diversity and inclusion, employee communication and emotional support, and talent acquisition and retention. It is apparent that developing and implementing an ongoing people strategy is front and center in the minds of business owners and the C suite. This reality highlights the value of the PEO option for small and midsized firms in general and even more so the distinct competitive advantage of Insperity's premium service offering.

So we believe it's time to pour gas on the fire and prepare for the growth potential in the years ahead. We are in a great position to ride the wave of the recognized value of a sophisticated HR function on top of a second wave of the growing awareness of the PEO solution on top of a third wave of the value Insperity can deliver with our superior service model. We intend to continue to capitalize on this expanding market opportunity by investing in innovative ways designed to drive awareness and adoption of Insperity's best of class offerings. We believe this will allow us to continue to deliver on our mission of helping businesses succeed so communities prosper and provide exceptional returns to our shareholders. At this point, I'd like to pass the call back to Doug.

Speaker 1

Thanks, Paul. Now let me provide our guidance for the third quarter and an update for the full year 2021. We are now forecasting 5.5% to 6.5% worksite employee growth for the full year, an improvement over our previous guidance of 4% to 6% growth. This increase is based upon our outperformance during the first half of the year leading to a higher starting point going into Q3, continuing momentum in sales and client retention, and some continued hiring by our clients. We are forecasting q three paid worksite employee growth of 9.5% to 10.5% over 2020 since coming off the 7% year over year growth in the prior quarter.

As we approach our annual fall sales campaign, we have taken a portion of the upside in earnings created during the first half of this year and invested in initiatives designed to build upon our strong sales momentum. These initiatives include the continued hiring of business performance advisors, increased investment in advertising, and reinstituting our corporate sales and client retention fall campaign event. Also, as I mentioned a few minutes ago, as a result of the 2021 SUDA rates coming in lower than anticipated, we have taken the opportunity to pass savings to our renewing clients and prospects through lower SUDA pricing allocations over the latter half of twenty twenty one to further support our sales and retention goals. Now there does, seem to be, continued uncertainty surrounding the pandemic and its impact on our direct cost programs, particularly in our benefits area where COVID related costs, potential deferred care, higher acuity, and the Delta variant are potential factors. Therefore, we continue to take the approach of adopting a wider than usual range around our earnings expectations.

When considering this factor and the investment of a portion of the earnings upside for the first half of the year, we are now forecasting adjusted EBITDA in a range of $258,000,000 to $288,000,000 This is up from our previous guidance of two fifty million dollars to $280,000,000 As for full year 2021 adjusted EPS, we are now forecasting a range of $4 to $4.59 up from our previous guidance of $3.83 to $4.4 As for Q3, we are forecasting adjusted EBITDA in a range of $52,000,000 to $62,000,000 and adjusted EPS from $0.74 to $0.93 At this time, I'd like to open up the call for questions.

Speaker 0

I would like to remind everyone, in order to ask a question, you may press star one on your telephone keypad. Again, that's star one on your telephone keypad. We'll pause for just a moment to compile the q and a roster. Your first question comes from the line of Anthony Nicholas from William Blair. Your line is open.

Please go ahead.

Speaker 3

Hi. Good afternoon. Thanks for taking the questions. My first one, and and I apologize if I missed missed this in the prepared remarks, but I just was hoping you could provide an update on on the mid market, specifically any color on sales momentum there, commentary on the pipeline, conversion rates, etcetera?

Speaker 2

Sure. No problem. I didn't really mention mid market this quarter. They're, of course, embedded into the total sales growth numbers. And I I mentioned last quarter that we had, you know, really wrung out the mid market sales pipeline at toward the end of the year, and it's built really strong over the course of this year.

And we're looking forward to a good fall in in mid market, but not much else to report on that front at this time.

Speaker 3

Got it. Thank you. And then in terms of the guidance, specifically around worksite employees, obviously, a pretty big increase there. Is there any way to kinda dimensionalize how much of that is a consequence of better hiring from the base versus new sales? Just trying to to understand the change in and how much is a function of the stronger end market.

Speaker 2

Yes. Well, certainly, we I mentioned in the prepared remarks that we generally have a range that we use for net gain of hiring in the client base over the course of a full year. And we had budgeted in for this year to be at the low end of our range, you know, which would be in the, you know, around or maybe less than 4% or so. And the high end of our range would be typically over the course of the year in the 6% to 7% range. So, you know, that that gives you a little bit of color going from the low end to the high end over the in terms of our estimate for the full year.

But as you look back over the first half, certainly, you had outperformance in sales. You had incredible retention at historically high levels, which formed the base for the net change from the clients to be upside for you, which is exactly what happened. So, you know, very good for this part of the year. We haven't really budgeted in that for the balance of the year at these kind of rates we've seen simply because we know the labor market's tightening up some. It'd be nice if that could continue like that, but that's not what we're building our expectations.

Speaker 0

Your next question comes from the line of Toby Summer from two Truist Securities. Your line is open. Please go ahead.

Speaker 2

Hi. Thanks.

Speaker 4

I was wondering if you could dig into the pricing. I think you said up 6%, but then maybe some sort of reaction to the payroll situation being better and alleviating some of that to your customers. How how should we think about pricing if we kinda net out those two pieces on a go forward basis? Thank you.

Speaker 2

Yeah. Thanks for the question, Toby. So we we are continuing to move price appropriately with underlying trends we're seeing in the marketplace. And so that what you've seen in the total, you know, revenue per employee increase going up is does reflect strong pricing, in what we're doing. And and, of course, we manage each of the allocations for each of the ultimate costs that come out.

So relative to the unemployment tax, we had boosted rates early in the year anticipating, additional cost that would be passed on from the layoffs during the pandemic. A lot lot of that did not come through, and so we we have opted to, you know, reduce the allocation rates for the balance of the year and then take another look as we get some insight into next year's potential cost. But this is the ongoing aspect of managing price and cost within each of of the buckets that we manage that contribute to gross profit. Thank

Speaker 4

you. From a a a BPA perspective, where would 700 put you year over year in terms of growth at the year end? And then you talked about some incremental sort of investments and upside you're investing it to to help stimulate growth. Could you give us some color about what areas you're applying the increased investments? Thanks.

Speaker 2

Yes, absolutely. We've had a great first half with the maturing of our sales staff allowing for us to hit our sales targets without a lot of growth in the net number of BPAs, which was the plan as the year began. As we ramp up the number of BPAs, the 700 number should put us around 5% ahead of the year prior. So we'll be continuing to benefit from some of the sales efficiency gain. But we're investing over the last half of the year additional marketing dollars in both digital and also radio, advertising that's proven to be, effective in helping us get in front of qualified leads.

It's, So that investment is a little bit of insurance policy on hitting those sales targets over the balance of the year and continuing to build on the strong sales momentum we have in the company as we sit today. So it makes sense to both start it. It go head back to increasing the number of BPAs. That's your investment really in in 2023 growth, you know, you because it takes twelve to eighteen months to train BPA. So we'll be ramping up over the back half of this year and in the first half of next year, moving that BPA count up to the right number.

And in the meantime, we're investing more to help support the success that our current trained BPAs are having.

Speaker 0

Your next question comes from the line of Josh Vogel from Sidoti. Your line is open. Please go ahead.

Speaker 5

Thank you. Good afternoon, Doug and Paul. Hope you guys are doing well.

Speaker 2

Thank you.

Speaker 5

My first question, you talked about increasing the client count. Last quarter, it was offset a little bit by a reduction in the average size of clients. So I was just curious, when we're looking at your wins and prospects pipeline today, what does the average client profile look like relative to the existing base?

Speaker 2

Yes. So both of the we saw, you know, over the course of last year, about an 8% decline in the average coming out of COVID. And we've seen about half of that come back, and it's been interesting to watch how it's pretty consistent between the average size of the customer base and the prospect base. So I would say we're half to maybe 60% back on average size both in the base, and and it seems to be flowing through also in the prospect base. That means to me there's still some more to be gained there before we're back at that level.

So maybe some more room there. But also, you ought to have to consider that businesses may have just kind of tightened their belt a little bit and found other efficiencies, so may not get back to that level. It would take new growth for new growth within their company to go beyond that.

Speaker 5

Great. I appreciate those insights. And looking at how the state unemployment rates are coming below expectations you had at the beginning of the year and now you're using these lower rates to pass along savings to further support sales and retention. I'm you know, and this may be silly, and I apologize. But if if we see some lockdowns or extended stimulus efforts, can can states change those tax rates on the fly, which could potentially squeeze you?

Or can that can that only be done once a year at this point, and any changes would be a 2022 event? Thank you.

Speaker 2

Yeah. It would be highly unusual for there to be some kind of unemployment change midyear. You know, it's not impossible, but I I would would that'd be highly unusual. And it so this is really, at this point, more about, you know, just, looking ahead to 2022, adjusting for what we prepared for that didn't occur this year. We'd be adjusted for that in pricing.

And we'll have a a look at pricing going into 2022 with more insight into what's happening on the cost side. And the good news about unemployment tax is when you change the rate rates in the system, on the pricing and cost side, those, those changes flow right through. So it's it's much easier to match, the pricing and cost in, in the unemployment tax area.

Speaker 0

Your next question comes from the line of Jeff Martin from Roth Capital Partners. Your line is open. Please go ahead.

Speaker 6

Thank you. Thanks for taking my questions and hope you're both doing well here. Wanted to get a sense on the revenue per worksite employee, up pretty significantly both on well, year over year, dollars 200 or $175 or so. Could you help us kinda parse out what the sources of that are? Is that workforce acceleration being, you know, contributed within the gross profit dollars, but it's not in the worksite employee count versus wage inflation and higher commissions versus maybe some additional ancillary features like your software as a service platforms offer?

Speaker 1

Yeah. So if you're looking at the year over year increase for the q two, you know, in that, revenue per employee number well, first, in total revenues, I think, is about 19%. And then 7%, percent obviously is the increase in worksite employee volume. So you're left with the 12% number. And we talked about the fact that 6% of that 12% was increase in pricing that we've been passing through.

And the other 6% or so has to do with what was happening back in 2020 with the government stimulus and deferral of FICA payments. So you had a comparison issue. So you didn't have that money, you know, flowing through your your revenue, per employee last year, and that has since been, lessened significantly. And so and then we gave customer service fee credits back in q two of last year. So and so that's the other piece of that revenue revenue per employee number.

Speaker 6

Okay. Great. And then could you also speak to your client retention efforts? Are there any unique things you're doing today that, say, you may maybe weren't doing year and a half, two years ago pre pandemic?

Speaker 2

Well, there there are quite a few things down in more subtleties in the way that the processes that are going on there and and the interactions with clients like I've I've mentioned. But as we look forward to this year, in terms of the year end transition, I'm really excited about it. I think we're, you in a good place right now in terms of how those processes have and continue to work. And, this year, we don't have the, kind of large or jumbo clients that could affect that type of, retention, or attrition like we had in the last couple of year end. So, you know, it's early, but we we feel good about the way retention is going to this point and, optimistic about the, balance of the year.

Speaker 0

The next question that we have is from Mark Marken from Baird. Your line is open. Please go ahead.

Speaker 7

Hey. Good afternoon, Paul and Doug. Just wondering if you could talk a little bit about, what you're seeing on a couple of gross cost elements. One, just the health care costs. How did that trend over the course of the quarter?

I know there's a lag between when the costs are incurred and when you become fully aware of them. But what are you seeing just in terms of the sequential trends, particularly as it relates to those elective procedures, and how you're thinking about it as the year unfolds? That's one aspect of it. And then the second aspect of it is can you talk a little bit about the service infrastructure and what you're seeing in terms of interactions and length of interactions and how how we should think about the the service group, expanding?

Speaker 2

Sure. You know, if we if we wanna talk about the benefits side first, this is it's, you know, it's really interesting to watch the dynamics of the pandemic as they play out. Because as you know, there have been moving parts, a lot of moving parts and components that you have to really dig down on to and monitor. And so you have some, obviously, if you have deferral of care, that lowers your cost. If you have, you know, early in the pandemic, we had, you know, pharmacy costs go up, dramatically because we were allowing people to buy more, for extended periods.

Then you had you know, you have COVID actual claim costs start to come through, and testing costs. And, of course, this year, you had the addition of vaccine costs, and then you have the potential for a deferral of care coming in or chronic care that was deferred. So we really dug in this quarter to look at the detail. And, certainly, COVID costs were higher. If you remember the peak of the COVID hospitalizations being early in the year, and that plays out over, you know, as you mentioned, plays out over time.

So certainly part of the first half story. We started to see some of, some higher levels of, you know, things that relate to, possible deferral of care, like, lab work and MRIs and things of that nature. But it's interesting because all of it's just little bits and pieces all over the map inside the benefit plan. So all in, a little higher than we would have expected or that we we did expect, but not outside of the range of our expectations. So for the full year, you know, I think we've continued to be appropriately conservative.

And that's why we continue to have a wider range around our earnings targets. So that's the benefits side. Now on the service side, it is definitely time to invest in service capacity based on the way service needs have continued at a high level. And our growth has accelerated faster than, than we originally budgeted. So, it's important to make sure that we staff up effectively and, you know, make sure we maintain our unique service model with our clients, the unique level of care that we provide.

And the breadth, depth, breadth of services, depth of our services, the level of care is our distinguishing factor in the marketplace. And, so that's definitely something that you've got to always manage when you make the investment, to make sure that you're ready and maintain those service levels.

Speaker 7

That's great. And then with regards to a couple of revenue factors, both in terms of what's occurred so far and then in addition to that going forward, can you talk a little bit about two dynamics? One, just the contribution and the expectations from workforce acceleration and the successes that you're seeing in workforce acceleration, in certain regions where it might be working better and gaining a lot of traction? Then how should we factor in the lower tax rates with regards to pricing in the second half of the year? In other words, when we can obviously see the worksite employee growth, but what sort of decline should we see from a pricing perspective in total you know, to the first half as as we model out the second half?

Speaker 2

Yeah. So on the unemployment tax, remember, most of your unemployment taxes are really incurred in the first quarter and second quarter. And it's it's, even though you we've adjusted the rates for the balance of the year, it'll have a minimal effect on the actual collected allocations because a lot of people hit their limits for many of these taxes. But so it will also, though, lower the rates we'll be building in for next year to which will help us add new business. So that's we don't see that that's going to have a dramatic effect on lowering our revenue for the balance of the year.

Now the other part of your question is interesting because on the workforce administration, I felt like I needed to mention this quarter because what I'm really seeing is more of a of a more of this with of the workforce acceleration being an ingrained part of the sales process, and it's just more routinely becoming an option that is being presented and people are taking when they're not ready for the full workforce optimization step. That's what we were hoping for, and it's beginning to happen. It's happening at a more acceptable rate. And I think we'll continue to get adoption across our BPA base. And, you know, on a year over year basis, when I look at the total gross profit contribution, even though it's a small number, it has such potential.

I felt like I needed to mention it because it's it really increased a lot in twelve months, and it has the potential to do that for a long time if we continue to see the same trends of adoption, in the base. So it is a bright spot for the future and allows us to continue to drive these key factors like gross profit per worksite employee. And and, you know, in our business, adjusted EBITDA per worksite employee is really the the primary key metric about what the business is about because that worksite employees are unit revenue, unit expense, unit risk. So it's really how much cash flow you make per unit of risk that you take. So anything that drives that equation, we think has tremendous potential for the future.

Speaker 0

Thank you. The Q and A is now closed. I would like to turn the call over back to Mr. Sarvati. Please go ahead, sir.

Speaker 2

Once again, I'd like to thank everybody for joining the call today. We appreciate your interest in the company, and look forward to any follow-up questions for Doug in the coming days. We look forward to seeing you at some point this fall. Thank you again and we'll see you next quarter.

Speaker 0

This concludes today's conference call. Thank you all for joining. You may now disconnect.