Investors might want to consider Paycom in light of its substantial share price decline.
Investing in stocks that have experienced a drop of over 70% at some point in their history can often be risky. Historical trends indicate that successful stocks often continue to thrive, while struggling stocks may falter. Nevertheless, there are exceptions to this general rule.
Paycom, known for its human capital management (HCM) software-as-a-service (SaaS) solutions, serves as a pertinent example. The company’s stock price has fallen by 70% from its peak. In 2019, Paycom reported sales of approximately $600 million and a share price around $170. Currently, despite the share price remaining roughly the same, the company’s revenue has almost tripled.
This scenario, coupled with Paycom’s robust free cash flow generation, has led to the company trading at a valuation that might not be seen again for a decade. While the market uncertainty surrounding Paycom’s growth persists, the arguments for investing in and holding Paycom long-term remain compelling.
The primary contributor to Paycom’s falling share price is its slowing sales growth. Management attributes a considerable part of this decline to the rollout of its Beti payroll processing platform in late 2021. Beti allows employees to manage their own payroll, identifying and correcting common errors before the company processes payments, thereby reducing the need for payroll reruns.
While beneficial for Paycom’s clients, with one customer noting a 50% reduction in their payroll department thanks to Beti, the platform has inadvertently reduced sales from payroll reruns, leading to slower growth. Nonetheless, long-term investors should view this offering as a positive trade-off, enhancing customer satisfaction at the expense of short-term sales. Paycom’s Net Promoter Score (NPS) of 67, which outperforms competitors like Paychex, Workday, and ADP, indicates high customer approval.
During the company’s second-quarter earnings call, indicators suggested that the slowdown in sales growth might be transient. CEO Chad Richison mentioned a 24% increase in units sold year-over-year for Q2, suggesting a stronger future performance than the reported 9% sales growth might imply. Additionally, Richison highlighted that July revenue starts were up 40%, indicating potential growth in the subsequent quarter. The expansion of Beti into international markets such as Canada, Mexico, the U.K., and Ireland also points to further growth opportunities.
Paycom’s commitment to innovation and customer satisfaction is evident in its increased spending on research and development (R&D). Despite this investment, the company’s free cash flow generation remains strong. With new tools like GONE, which automates time-off requests and saves significant costs for clients, Paycom consistently offsets R&D expenses with the value generated from new offerings.
Even though Paycom continues to develop innovative products, it is trading at a historically low price-to-free cash flow (P/FCF) ratio. With $346 million in cash and no long-term debt on its balance sheet, the company has initiated a $1.5 billion share buyback plan, which could positively influence the share price. Furthermore, Paycom offers a 0.9% dividend, though it has not raised it since its inception six quarters ago, possibly prioritizing share buybacks at current valuations.
In conclusion, Paycom’s sales growth may see a resurgence in the coming years. Combined with its track record of profitable innovation, this potential for growth places Paycom in a strong position, making it an attractive candidate for long-term investment.
