SPS Commerce - Q2 2023

Transcript

Operator (participant)

Good day. Welcome to the SPS Commerce Q2 2023 Earnings Conference Call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing star, then zero on your telephone keypad. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star, then one on your telephone keypad. To withdraw your question, please press star, then two. Please note, this event is being recorded. I would now like to turn the conference over to Irmina Blaszczyk, Investor Relations for SPS Commerce. Please go ahead.

Irmina Blaszczyk (Investor Relations)

Thank you, Drew. Good afternoon, everyone, and thank you for joining us on SPS Commerce Q2 2023 Conference Call. 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, specifically our Form 10-K, 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 on 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 the Investor Relations section of our website, spscommerce.com. During our call today, we will discuss adjusted EBITDA financial measures and non-GAAP income 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 financial measures, including reconciliations of these measures with comparable GAAP measures. With that, I will turn the call over to Archie.

Archie Black (CEO and Executive Chair)

Thank you, Irmina, and welcome everyone. Before I proceed with my prepared remarks, I'd like to mention the CEO announcement we made earlier this month. In October, I will transition to the role of Executive Chair of the Board as we welcome our new CEO, Chad Collins. Given Chad's leadership and industry experience, I believe he is uniquely qualified to lead SPS through its next chapter of growth and innovation, capitalizing on omni-channel retail dynamics. We look forward to introducing Chad to you all on our Q3 earnings conference call. Turning to our Q2 performance, we continue to see investments in organizations across retail, fueling ongoing demand for SPS Fulfillment and Analytics products. Total revenue of $130.4 million grew 19% in the quarter, while recurring revenue grew 20%.

In today's omnichannel world, the average consumer expects to purchase exactly what they want from where they want, looking for a consistent experience across all channels. They are pushing the limits of retailers' operations and forcing suppliers to embrace an omnichannel strategy. Since the pandemic, the increased pace and complexity of fulfillment exposed inefficiencies, which are now forcing suppliers to revitalize their supply chain. According to the 2022 MHI Annual Industry Report, a survey of over 1,000 supply chain and manufacturing leaders, 74% of respondents plan on investing in inventory and network optimization tools over the next year. For example, Moose Toys, a large manufacturer in Australia, has been a SPS Fulfillment customer since 2016, expanding their network across Asia, Pacific, North America, and Europe. To effectively manage their inventory, they use sell-through data from retailers for forecasting and planning.

However, they were receiving the data in many different formats and had to process it manually, which caused delays in their ability to extract meaningful insights. SPS Analytics was the right solution for Moose Toys to begin aggregating, normalizing, and integrating the vast amount of data feeds from their many trading partners. They can now leverage the strategic insights derived from the data to capitalize on significant growth opportunities around the world. As trading partners strive for automation, ERP integration is another key component to solving supply chain challenges. For example, our partnership with Microsoft has been mutually beneficial over the years, and Microsoft has recently chosen to highlight SPS Commerce as the featured solution on their App Store.

Microsoft has been focused on migrating their customers to the cloud, and with their strong presence in retail, distribution, and manufacturing, the need for fully automated and scalable supply chain operations is a pivotal factor of these ERP migrations. SPS Commerce's deep Microsoft integration technology, multi-tenant cloud-based retail network, and full-service model is allowing Microsoft sellers and VARs to leverage best-of-breed technologies when trying to migrate customers and win new business. Just as retailers and suppliers are investing in new technologies to optimize their supply chain, SPS Commerce remains committed to delivering world-class products and excellent customer experience. By capitalizing on artificial intelligence technologies, we're already driving efficiencies throughout our organization to serve our customers and improve our product offerings.

SPS is the world's largest retail cloud network, which gives us access to the depth and breadth of data necessary to leverage AI and reduce the requirements for suppliers to connect to retailers, making it much easier to implement trading partner connections. We see many opportunities to enhance our products in the future as we use AI to increase the intelligence of SPS's network, which in turn will make joining and operating within the network increasingly more efficient. Yesterday, we announced our planned acquisition of TIE Kinetix. We believe TIE's e-invoicing capabilities will enable us to capitalize on the opportunity presented by mandatory e-invoicing regulations in Europe, while expanding our European presence to serve our growing network with access to international markets. In summary, increasing complexity in omni-channel retail is fueling investment in supply chain revitalization.

SPS is well positioned to capitalize on new technologies such as AI, which are proving necessary for automation and optimization of trading partner relationships, and amplify our ability to bring our network to more retailers and suppliers faster and easier. With that, I'll turn it over to Kim to discuss our financial results.

Kim Nelson (Executive VP and CFO)

Thanks, Archie. We had a great Q2 of 2023. Revenue was $130.4 million, a 19% increase over Q2 of last year, and represented our 90th consecutive quarter of revenue growth. Recurring revenue this quarter grew 20% year-over-year. The total number of recurring revenue customers increased 11% year-over-year to 43,000, and Wallet share increased 8% to $11,350. For the quarter, adjusted EBITDA grew 24% to $38.2 million, compared to $30.9 million in Q2 of last year. We ended the quarter with Total cash and investments of approximately $270 million. Turning to Guidance. The following Q3 and Full year 2023 Revenue and Adjusted EBITDA guidance does not include the impact from the pending acquisition of TIE Kinetix.

For the Q3 of 2023, we expect revenue to be in the range of $133.6 million to 134.4 million, which represents approximately 17% year-over-year growth. We expect Adjusted EBITDA to be in the range of $39.3 million to 40 million. We expect fully diluted earnings per share to be in the range of $0.37 to 0.38, with fully diluted weighted average shares outstanding of approximately 37.6 million shares. We expect non-GAAP diluted income per share to be in the range of $0.65 to 0.67, with stock-based compensation expense of approximately $11.7 million, depreciation expense of approximately $4.9 million, and amortization expense of approximately $3.7 million.

For the full year, we expect revenue to be in the range of $528.5 million to 530.0 million, representing approximately 17% to 18% growth over 2022. We expect adjusted EBITDA to be in the range of $155.8 million to 156.9 million, representing growth of approximately 18% to 19%. We expect fully diluted earnings per share to be in the range of $1.60 to1.63, with fully diluted weighted average shares outstanding of approximately 37.4 million shares.

We expect non-GAAP diluted income per share to be in the range of $2.69 to 2.72, with stock-based compensation expense of approximately $46.2 million, depreciation expense of approximately $19.4 million, and amortization expense for the year of approximately $14.7 million. For the remainder of the year, on a quarterly basis, investors should model approximately a 30% effective tax rate calculated on GAAP pre-tax net earnings. As noted in our press release announcing the planned acquisition of TIE Kinetix, we expect it to have a nominal impact on Q3 financial results, with the exception of approximately $1 million of certain one-time deal-related costs. In the Q4, we expect TIE Kinetix to contribute approximately $3.9 million of revenue and expect adjusted EBITDA of the acquired business to be approximately negative $500,000.

Beyond 2023, we maintain our annual revenue growth expectation of 15% or greater as we expand our network through community enablement campaigns and acquisitions. We continue to expect adjusted EBITDA dollar growth of 15% to 25% as we invest in the business to capitalize on market dynamics and support current and future growth. In the long term, we maintain our target model for adjusted EBITDA margin of 35%. In summary, ongoing investments across the retail industry continue to present tremendous opportunities for SPS. With the only full-service EDI solution, we are well positioned to help our customers optimize their network as we capitalize on a multi-billion dollar adjustable market to deliver sustained, profitable growth. With that, I'd like to open the call to questions.

Operator (participant)

We will now begin the Q&A session. To ask a question, you may press star, then one on your telephone keypad. If you're using a speakerphone, please pick up your handset before pressing the keys. If at any time your question has been addressed and you would like to withdraw your question, please press star, then two. At this time, we will pause momentarily to assemble our roster. The first question comes from Matthew Fowle with William Blair. Please go ahead.

Matthew Fowle (Analyst)

Hey, great. Thanks for taking my questions. First, wanted to ask on the TIE Kinetix acquisition. Could just better help us understand, you know, what this brings to the table? Is this e-invoicing product different than what you currently have, and how does it help you gain more traction in Europe? Thanks.

Archie Black (CEO and Executive Chair)

Yeah. Thanks for the question, Matt. A number of things. One, the company is at roughly 60% European revenue and 40% U.S. revenue. Those businesses are relatively separate as far as go-to-market, et cetera. The U.S. business, think of that as much more consistent with a customer acquisition play, so, you know, meaningful revenue there, put them on our platform, they can have more, more offerings that we can upsell the customers like we've done in the past. The European business, I think gives us a couple things: One, it gives us a larger platform to go after fulfillment and really just think about learning about the market. We're in the market on a much smaller basis. We're in the market in analytics, but not much there.

The e-invoicing product is, think of it as, in Europe, it's a government reporting, almost regulatory compliance, where you need to report VAT tax, et cetera. In order to do business in Europe, you have that. We partnered in the past for those capabilities. It's applicable in Europe, and also we use some of it in Mexico, but don't anticipate using it in the US just because it's, it's not really utilized here. We do not have an e-invoicing platform as we speak. That's, you know.

Matthew Fowle (Analyst)

Great

Archie Black (CEO and Executive Chair)

capabilities and customer acquisition.

Matthew Fowle (Analyst)

Just one quick follow-up on that. Kim, I know you said that the revenue from the acquisition isn't included in the updated guidance that you provided in the earnings press release, but the $1 million of additional expenses in Q3, is that factored into the guidance?

Kim Nelson (Executive VP and CFO)

No, the guidance we provided excludes anything related to the acquisition we announced of TIE Kinetix. The reason for that is we announced it, but it is not yet closed. All the numbers exclude, but we have separately, in a press release about TIE Kinetix, as well as on this earnings call, reiterated the numbers that we believe they will be in 2023. That $1 million of really deal-related costs in Q3 is not factored into the SPS Commerce guidance we provided today.

Matthew Fowle (Analyst)

Okay, got it. Thank you very much.

Operator (participant)

The next question comes from Scott Berg with Needham. Please go ahead.

Scott Berg (Managing Director and Senior Research Analyst)

Hi, Archie and Kim. Congrats on the good quarter, thanks for taking my questions. I guess a couple things here, starting with the acquisition. Archie, I'm certainly familiar with the VAT reporting requirements there. There's some nuances, I think, kind of developing over the next couple of years around real-time reporting for VAT for different vendors. Can that be a catalyst to maybe drive some outsized growth from that segment going forward, knowing that a lot of these countries are kind of, you know, trying to get to more of this real-time, almost straight-through processing for, you know, for VAT reporting?

Archie Black (CEO and Executive Chair)

Well, I think the e-invoicing has an opportunity to, to grow and, you know, it has an opportunity. Right now, it's fairly small, but pretty optimistic that it can be a bit of a catalyst into the future. You know, I, I wouldn't, I wouldn't put a lot of weight onto it as we look at 2024, and clearly not 2023, but having those capabilities will be a positive. You know, for us, more importantly, we really get to learn that market by being in it. I think that's a nice size deal that puts us in the market, and we can really see more firsthand what is happening and what the real opportunity is.

Scott Berg (Managing Director and Senior Research Analyst)

Got it. Helpful. On business trends in the quarter, it looks like the company added roughly 250 net new customers. Knowing the Q2 is usually a seasonally strong period for customer acquisitions, that's actually lighter, not just during the pandemic, but during several years before that. Anything to read through necessarily on a single-quarter snapshot on customer acquisition trends?

Kim Nelson (Executive VP and CFO)

Sure. When we think about the community enablement activity in the quarter, it was, it was quite a strong quarter, but what we saw is more skewed towards existing customers that we were able to upsell, versus the amount of net new customers. We, we don't think that that is at all a trend. It just so happened this quarter that the mix was a bit more on our existing customers versus new.

Scott Berg (Managing Director and Senior Research Analyst)

Got it. Helpful. I'll jump back in the queue. Congrats again.

Operator (participant)

The next question comes from Parker Lane with Stifel. Please go ahead.

Parker Lane (Managing Director and Director of Equity Research)

Hi, Kim. Hi, Archie. Thanks for taking the questions here. Kim, I know it's, it's early to be talking about 2024, but as far as it relates to TIE Kinetix, you talked about a $16 million revenue benefit for next year. And I, I noticed that, you know, I think they did $8 million of total revenue in their first half of, of their year. Can you just give us a better sense of what your assumptions are as you look forward to 2024, 2025 on, you know, any, any interesting dynamics to, you know, that revenue growth in that business?

Kim Nelson (Executive VP and CFO)

Sure. Obviously, we have not yet acquired the business, but, that is our, obviously, our intent, which we do believe will close later in Q3. As it relates to our expectations for 2024, of the approximately, you know, the $16 million that we did, that we did mention, that is primarily based on our view of what we see as the opportunity. Do also keep in mind, that there is a, as, you know, a, a fair portion of their business is in Europe. You, it is, subject to fluctuations from FX rates as well. Overall, it's our best view.

Operator (participant)

Excuse me, there has been an interruption. Just one moment, please. Just one moment. Ms. Nelson, please continue. Thank you.

Kim Nelson (Executive VP and CFO)

Great. All right, apologies, apologies for that. Parker, I don't know exactly where I cut off, but you were asking as it relates to our expectations for 2024. As the acquisition, we believe, will close at the end of Q3, at this point, we put together our best view of what we see as that opportunity in 2024, based on where that company is on its journey to moving over to a SaaS fulfillment model, as well as the opportunities that we see in Europe.

Parker Lane (Managing Director and Director of Equity Research)

Understood. Okay. Then on the gross margin side of things, you know, it's been a few quarters now. They're relatively in the same place. I know you've talked about low seventies being the long-term target in this business. As we march up towards that low seventies target, are there things you're doing internally to actually get there, or is this just gonna be a matter of the business achieving some additional scale and that naturally flows through there?

Kim Nelson (Executive VP and CFO)

Sure. The biggest way that that gross margin will move from where it is now up to the lower seventies, is really primarily around efficiencies and scaling. You may recall that in prior conference calls and years, we've talked about investments that we've made in the overall customer experience. In some years, those investments have been larger from a growth perspective than our, than our revenue or similar in line for the growth as our revenue, thus, you have not seen that improvement from a gross margin perspective. As our business continues to grow, we believe we will be able to grow into some of those investments. We'll still obviously continue to add resources, but we shouldn't need to do those at the same level that we have historically. We also, as Archie mentioned, we'll be looking at AI.

There's many things we're already doing on the artificial intelligence side, but we certainly do see opportunities on the customer success side as well, where we'll be able to leverage some of those tools and capabilities to help out with efficiency.

Parker Lane (Managing Director and Director of Equity Research)

Understood. Thanks again for taking the questions here.

Operator (participant)

The next question comes from Jeff Van Rhee with Craig-Hallum. Please go ahead.

Jeff Van Rhee (Senior Research Analyst)

Great. Thanks. Hi, guys. Thanks for taking the question. A couple for me, I guess, just high level, I guess, Archie, as you look at the suppliers that are not yet on the platform, you know, what are the characteristics? I mean, you've been at this for a while, you know, just talk about the people that haven't jumped yet and, you know, sort of the defining characteristics.

Archie Black (CEO and Executive Chair)

I think they're segmented into two different areas. The first, I assume we're talking about the fulfillment product. The first is really people that just haven't are doing things more manually, email, mail, and just the retailers have not forced them to do it. They're small, and they're just not there yet. Those are different solutions that we typically get those through our retail enablement campaigns. Pretty high success rate there. I would say the other is where they have bought legacy software, and if they haven't moved ERPs and their business isn't moving very fast, then they're in the spot where they're in legacy software. It's working. They might have five, 10, 20 retailers. It's working. If those retailers' environment isn't changing much, it's hard to get them to move.

Once start seeing more change in their environment or they start growing or making acquisitions, that is the biggest opportunity with them. Just simply, you know, some of these guys, as we work with the retailers, we're helping the retailers effectively become dynamic in their supply chains, which is putting more pressure on the suppliers.

Jeff Van Rhee (Senior Research Analyst)

Mm-hmm. Yep. Along the lines of the enablement campaigns, if you look at the enablement campaigns, what are you seeing that might be the enablement campaign pipeline, what are you seeing that's different with respect to potentially the size of the campaigns, and specifically, as you're implementing the rate at which people are just testing versus signing?

Archie Black (CEO and Executive Chair)

You know, the, the testing versus signing is really just dependent on the, the mix and where we are and the type of retailer. I would say, you know, what we are seeing as consistent is automation of warehouse management, so we're seeing more ASN programs, Advanced Ship Notice, where, you know, if you purchased Manhattan Associates or are trying to more fully utilize their capabilities, in order to do that, you need to receive a document called an advanced ship notice so that you know what's being shipped and when it's gonna be received, and then to be able to receive that product into the distribution center with a barcode label that is scanned. We're seeing more of those programs.

Sometimes those will be a little heavier testing because it's, you know, it's a massive change for the retailer, but for the supplier, it's, it's adding a couple documents, which are complex. We are seeing, you know, we continue to see, it's amazing, multibillion-dollar organizations that are, for the most part, manual still. They're getting into the game because they need to, they, they need to have visibility. The advanced ship notice and you, the warehouse management systems and everything, that is, a lot of that is about inventory visibility, which is becoming, a hotter and hotter topic. Is, I don't wanna have too much inventory, and I need solid visibility into the, into the inventory.

Jeff Van Rhee (Senior Research Analyst)

Yep, yep. Okay, makes sense. Thanks so much.

Operator (participant)

The next question comes from Nehal Chokshi with Northland Capital Markets. Please go ahead.

Nehal Chokshi (Managing Director and Senior Research Analyst)

Yeah, thank you. Of course, on a nice quarter here. Kim, you mentioned earlier that, some of the upside was driven by strong upsell. Was this new SKUs or expanding connections?

Kim Nelson (Executive VP and CFO)

This would be expanding connections. When, when we run a community enablement campaign, where we will end up seeing that impact us is really gonna be in three places: customer adds, testers, or existing customers that are now adding that connection. In this quarter, the mix just happened to skew a bit more on the existing customers adding a connection versus adding new customers. We still, of course, did add new customers, but the quantity of new customers was a bit lower in this quarter than what you would typically see from us with community activity.

Nehal Chokshi (Managing Director and Senior Research Analyst)

Got it. Okay. Then you guys also talked about one of the unique capabilities that TIE Kinetix brings is the e-invoicing. What's the value of this capability relative to your typical ARR that you're able to get from your customers? You know, maybe talk about the ASC of invoicing for a given customer size relative to the rest of your product suite that you're offering?

Archie Black (CEO and Executive Chair)

Yeah. First off, we're not gonna be using it in the U.S. because it's not a concept of VAT reporting, tax, tax reporting, compliance reporting. It's, you know, it's not applicable to that business. It really is a European, and then we see that in Mexico as well. It's really more of a, you have to have it. It's like a document type. You have to have it to be able to play. We have done that through partnering, and our fulfillment business in Europe is relatively small. As we've discussed in the past, we've really attacked Europe more with the Analytics product, which we're seeing success in.

you know, being able to, now with those analytics products, have a, a more robust fulfillment product and having the fulfillment customers from TIE Kinetix to be able to have a analytics product, we think over time will also add value. I think of it more as a capability you just have to have as opposed to an upsell. To get into the game, you have to have it.

Nehal Chokshi (Managing Director and Senior Research Analyst)

Understood. Great. Thank you for taking my question.

Operator (participant)

The next question comes from Mark Chappell with Loop Capital. Please go ahead.

Mark Chappell (Senior Vice President and Senior Equity Research Analyst)

Hi, thank you for taking my question. Just a couple of follow-up questions on TIE Kinetix. Such as, you know, how fast was it growing? You know, how many employees did they have? You know, do they have certain target industries that they focus on?

Kim Nelson (Executive VP and CFO)

Sure. About 100 employees, and on a. They were growing, if you, if you sort of, look at things from sort of a constant currency perspective, 'cause they obviously have a U.S. business plus a European business, they were growing in, about the, single digits when you're, when you're adjusting for, again, for a constant currency.

Mark Chappell (Senior Vice President and Senior Equity Research Analyst)

Okay, great. And then, you know, given that they have more of a European focus, could you just remind us, what % of SPS, SPS's revenue today comes from international sources?

Kim Nelson (Executive VP and CFO)

Sure. When you look at our overall revenue, think of it as approximately 85% of the revenue is in more U.S., so non-international. But do keep in mind that our Asia business, which is heavily there to support the supply chain of our North American suppliers, that does show up as U.S. revenue, because the, it's the paying company, is in the United States.

Mark Chappell (Senior Vice President and Senior Equity Research Analyst)

Great. Thank you. That's all for me.

Operator (participant)

Again, if you have a question, please press star, then one. The next question comes from Joe Vruwink with Baird. Please go ahead.

Joseph Vruwink (Senior Research Analyst)

Great. Hi, Archie and Kim. Maybe just one follow-up on the customer account ads this quarter, and maybe to a revenue question as well. Was there any impact from retailer bankruptcies on kind of revenue and the number of connections that might have went away in response to a retailer bankruptcy?

Kim Nelson (Executive VP and CFO)

No, there was not. There was nothing unusual as it relates to the, to bankruptcies that we saw in the quarter.

Joseph Vruwink (Senior Research Analyst)

Okay, thank you. Archie, I wanted to go back to that tidbit you shared at the very beginning. I, I think it was 74% of a surveyed customer base planning to invest in inventory and networking solutions. Do you have a number for current levels of either electronic fulfillment or EDI, just to kind of relate the two? I'm, I'm wondering if we could compare 74% to that, whatever that adoption rate happens to be, to get kind of a sense of what the market might be growing at this point.

Archie Black (CEO and Executive Chair)

I don't, unfortunately. That data was not broken out, is what I understand. What we, you know, what we see is the more, you know, it's been the same story all along. With the more change in the environment for suppliers, kind of back to an earlier question from Joe, as far as, you know, the people that are sticking with their old software, the more change they have in the environment, that tends to serve us well. The fact that people are gonna be changing environments, investing and looking to do things on the supplier side is a, is a positive for SPS Commerce. That's, that's kind of the point. How much of that is gonna be on our fulfillment side? Don't know, but I know if it's on ERP, warehouse management, all those things tend to be a positive for us.

Joseph Vruwink (Senior Research Analyst)

Okay. Thank you very much.

Operator (participant)

I'm showing no further questions in the queue. Ladies and gentlemen, this concludes today's conference call. Thank you for your participation, and have a wonderful day. You may now disconnect.