SPS Commerce, Inc.
Q2 2021 Earnings Call Transcript

Published: 1 Aug 2021

[Operator:]

Hello. Thank you for standing by and welcome to the SPS Commerce Q2 2021 Earnings Conference Call. At this time, all participants 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 may be recorded. I would now like to hand the conference over to your speaker today Irmina Blaszczyk. Please go ahead.

[Irmina Blaszczyk:]

Thank you, Josh. Good afternoon, everyone and thank you for joining us on SPS Commerce second quarter 2021 conference call.

[Archie Black:]

Thanks, Irmina and welcome, everyone. We are pleased to report another outstanding quarter driven by strong demand for SPS' fulfillment solution. The acceleration in e-commerce we have witnessed since the pandemic began continues to drive the digital transformation as retailers and suppliers conform to the omnichannel customer experience. Total revenue grew 25% to $94.5 million and recurring revenue grew 22%. We continue to see strong momentum in fulfillment, which grew 24% year-over-year. Adjusted EBITDA grew 34% to $27.3 million. In a recent study by the Economist Intelligence Unit, 72% of enterprises have significantly accelerated their pace of digital transformation and EDI is an integral part of the digital transformation initiative. Our growing network of e-commerce services and retailers, suppliers, vendors and distributors are leveraging SPS' industry-leading EDI solution to adapt their businesses to the demands of omnichannel retail Osborn the world's largest surface treatment and finishing provider faced several challenges with its SAP EDI system. Many SAP EDI solutions require significant ongoing maintenance from IT teams to meet EDI requirements or to add trading partners. Some require making changes to the SAP system itself, which can be difficult and costly.

[Kim Nelson:]

Thanks, Archie. We had a great second quarter of 2021. Revenue was $94.5 million a 25% increase over Q2 of last year and represented our 82nd consecutive quarter of revenue growth. Recurring revenue this quarter grew 22% year-over-year. The total number of recurring revenue customers increased 10% year-over-year to approximately 34,550 and wallet share increased 11% to approximately 10,150. For the quarter adjusted EBITDA grew 34% to $27.3 million compared to $20.4 million in Q2 of last year. We ended the quarter with total cash and investments of approximately $233 million.

[Operator:]

Thank you. Our first question comes from Scott Berg with Needham & Company. You may proceed with your question.

[Scott Berg:]

Hi, Archie and Kim, congrats on a fantastic quarter. I guess, I'd like to start with Kim's last comments about your expectations around growth rates stepping them up to 15% or greater in this e-commerce environment. I guess, Archie kind of a two-part question there is the first one, obviously is what's driving the confidence in that one in that growth metric versus the what we call it lower teens that you've reported in general the last two to three years?

[Archie Black:]

Yes. I think a couple of things on the confidence. One, we have significant momentum as you've seen in the acceleration in revenue growth. We're not ready to state the claim that we'll continue to accelerate, but we think the effects of our growth are no longer just because of the pandemic or effects thereof. We think we're mostly through that. And I think all the things we've done, we're really seeing the fruits of those labor that we are expanding our TAM by going after accounts that are non EDI, add-on products different ways to really add value to our customer base. And that is allowing us to not only win more, but keep more. And we think that we have a lot more run room. So we published a $5 billion TAM. We think it's substantially above that and we'll do some work on that. As far as the sales force, we really haven't made any significant changes. Obviously, you're always making moves, but any significant changes in -- since 2018. But I think the changes we made in 2018 just continue to accelerate our performance of that team. The team got very focused on the retail on different segments. I think that allowed them to work better with the customers. I think it gave them clear talking points. And they've also really, really have a targeted go-to-market strategy and messaging, which is much stronger. So I think that is allowing us to have more success on the retail side, which will ultimately drive customer adds.

[Scott Berg:]

Got it. Helpful. I guess, if I parse through your comments there Archie and the prescriptive comments, you spoke a lot about fulfillment in EDI, but I didn't hear anything about analytics. How does analytics or the opportunity there figure into this 15% organic growth profile here?

[Archie Black:]

Yes. I think right now it's being led by fulfillment. Again, we continue to see a huge opportunity with analytics. We are starting to see increased growth in the analytics. It's still trailing fulfillment, so it's still being driven by fulfillment. So with the comments, we're not reliant upon a big rebound in analytics, but we feel very confident in the long-term growth aspects of analytics.

[Scott Berg:]

Excellent. And then I'm going to just sneak a third one in here. Kim, your -- you outperformed by $0.06 in the quarter on the earnings side at least versus consensus, you only raised your full year earnings by $0.03. Did you pull -- push some hiring or some of the other expenses, I guess, pull them forward right -- excuse me, push them into the back half of the year? Just trying to understand maybe the delta between those two.

[Kim Nelson:]

Sure. So the second half expectations for EBITDA does take into account, hiring we are doing on both the customer success side as well as the sales side based on our performance we've already seen to date, and our expectations going forward. So it would be correct to think that in the back half of the year, the spend is higher than the front half. Some of that just naturally is just timing right of when hires occur.

[Scott Berg:]

Thanks and I’ll jump in the queue. Congrats another great quarter.

[Operator:]

Thank you. Our next question comes from Jason Celino with KeyBanc Capital Markets. You may proceed with your question.

[Devin Au:]

Hi, Archie. Hi, Kim. This is actually Devin on for Jason tonight. Thanks for taking our questions. Just first one I have is looking at your customer additions slight acceleration a lot of our adds in last quarter, which is encouraging and sort of building off of the strong momentum in the past few quarters. Just wondering if you could provide any sort of details on kind of the profile of these new customers that you're winning in terms of their size and like where they're coming from partners versus direct just anything out of the ordinary that you're seeing? Any details you can provide would be helpful.

[Kim Nelson:]

Sure Devin. As it relates to the net customer adds we added about 700 in the quarter a similar amount to last quarter. And to your point we've now seen multiple quarters where that number is higher than where it had historically been. A lot of that is related to the community activity that we have. And just as a reminder, the majority for a quantity of net customer adds tend to come from those community enablement campaigns we run. The size of those customers can vary although they are going to skew to smaller-sized customers and then over time our -- the value of those customers do grow with us. That's not to say that we didn't also have I'll call it a normal or good quarter, as it relates to with some larger customers, but as it relates to the quantity of the net customer adds that is going to be primarily driven with the relationship we have on the community enablement campaigns.

[Devin Au:]

Got it. Got it. That's helpful. And then one more question for me. Archie in your prepared remarks you mentioned 72% of companies have accelerated their digital transformation and EDI being one of them. But as the economy and I guess offices reopens, I was wondering what have you been hearing from your customers in terms of their investment priority in EDI among kind of the broader retail IT projects? Has there been some sort of reshuffle of priorities on their end, or is EDI still high priority?

[Archie Black:]

Yeah. From the retail side, we're seeing strong demand. And I think it's really driven by the new omnichannel experience that customers are expecting. And I think when you look at our market space our competitors, we're just uniquely situated to handle e-commerce, to handle brick-and-mortar and more importantly to really to do omnichannel. And we're seeing just -- it's everywhere, right? You're thinking more and more of e-commerce is coming from stores, store delivery, store pickup. So, we continue to see very strong demand from the retailers and anticipate that's here for the foreseeable future.

[Devin Au:]

Great. Thanks so much.

[Operator:]

Thank you. Our next question comes from Matt Pfau with William Blair. You may proceed with your question.

[Matt Pfau:]

Hey guys. Thanks for taking my questions and great quarter. I wanted to ask on the adjusted EBITDA growth expectation longer term. Decent sized range that you guys provided there. So, I want to know one, where do you expect the leverage to come from? And then two, what sort of drives you being at the upper end or lower end of that range?

[Kim Nelson:]

Sure. So, prior to this earnings call, we had said that we're a company that can deliver around 20% EBITDA dollar growth on average in any given year. And to your point, we now have a range of 15% to 25% that -- for the foreseeable future. And that range takes into account as we have some acceleration in the top line, we want to make sure that we are investing back in the business for the current customer needs as well as future needs. So having a little bit larger range allows for that additional investment that -- and for that to explain some of sort of I'll call it the -- putting the range down to the 15%. As it relates to the other side on to the 25%, we certainly are a SaaS business model with still lots of opportunity for us to expand our margin. And so that takes that into account as well. Longer term, our belief is still about a 35% adjusted EBITDA margin. And with that there's -- based on where we're currently at compared to the 35%, there's still room in each of the areas with the caveat of most likely not in R&D. We think as a tech company, we are investing appropriately as a percentage of revenue. So, you'll see over time longer term expansion in gross margin improvement in that G&A as a percent of revenue. And there's still is some room, albeit smaller than a few years ago, as it relates to the sales and marketing spend as a percent of revenue as well.

[Matt Pfau:]

Got it. And last one for me just on Microsoft Dynamics 365 upgrade cycle and your investment with Data Masons to take advantage of that. How is that playing out relative to your expectations?

[Archie Black:]

I would say on every account everything is at or above expectations. I think the team has done a fantastic job. The team is executing extremely well. The Microsoft Dynamics environment is extremely strong. So Microsoft itself is executing well. And we're seeing more deals and larger deals. The larger deals is I think a factor of two things

[Matt Pfau:]

Sounds great. Thanks, guys. Appreciate it.

[Operator:]

Thank you. Our next question comes from Parker Lane with Stifel. You may proceed with your question.

[Parker Lane:]

Yeah. Hi, Kim and Archie. Thanks for taking my question. I wanted to go back to the point you made at the beginning Archie, which is how much easier it is to add trading partners through use of SBS' platform. Can you maybe talk about the last year with such a disruptive environment in place, if you think about some of those long-term customers you had how much of an acceleration or an expansion in the number of trading partners that they were managing on the SBS platform took place? Is that something that really accelerated or is it more just about the efficiency of those trading partner relationships through SBS?

[Archie Black:]

Thanks, Parker. I think it's both. Clearly, we have seen over time that when we land a customer, we can continue to grow that customer over time. And one of the things that e-commerce does do for the industry is it increases the total addressable market. Because ultimately, if you think about our business, it's about number of trading partner relationships. And in general, most retailers have increased their number of trading partner relationships as opposed to decreased. So that does expand -- continue to expand the opportunity. I think the fact that we're working with retailers and we can onboard suppliers so much faster and so much better than anybody else because of those deep retailer relationships and that coupled with having a better solution in the marketplace, I think it's just a win-win-win. And then if we can get it to the fact that now we have added value services that were given to the suppliers, it just adds another layer of differentiation between us and the competitive landscape.

[Parker Lane:]

Yeah. That makes sense. And then if we think about the annual growth targets you put out there, thank you for that thinking back to the history of SPS, there have been instances with some brick-and-mortar stores in the past that have gone in the way of bankruptcy and that's caused a little bit of disruption in the model. Do you think there's enough activity and sort of drop shipping and some more of these omnichannel approaches to offset any potential impact of that going forward, just as we think about such a transformative environment that we're in the retail sector as a whole?

[Kim Nelson:]

Sure. So when we think about it from the bankruptcy's lens, in the retail space there are always going to be some companies that don't make it, but we have not seen an acceleration there. So our belief is there's so much change happening really due to omnichannel. So a lot of what Archie discussed earlier on this call. There's lots of change events happening and lots of opportunities for suppliers to work with retailers in different ways. And I think that's really a lot of what's driving this fulfillment growth we're seeing in momentum and we really have not seen an uptick or an increase in bankruptcies.

[Parker Lane:]

Got it. Very helpful. Thanks, again.

[Operator:]

Thank you. Our next question comes from Mark Schappel with The Benchmark Company. You may proceed with your question.

[Joe Brunetto:]

Hi, guys. This is actually Joe Brunetto on for Mark Schappel. Thank you for taking my question and congrats on a great quarter. Just to begin with respect to Data Masons, did Data Masons revenue contribute -- Data Masons revenue contribution in the quarter track in line with the $5 million per year -- per quarter that you expected when it was acquired?

[Kim Nelson:]

Joe, it was trending about 10% ahead of that, pretty similar to what we also saw in Q1.

[Joe Brunetto:]

Awesome. Thank you. And then, Archie, could you comment on what you're seeing with respect to the part of your business tied to ERP system migration? Is this part of your business accelerating?

[Archie Black:]

Yeah, I would say that, business continues to be very strong and steady. I don't see, an acceleration in that, but you continue to see upgrades, new ERP system movements, and I would say it would be very similar to the quarter before.

[Joe Brunetto:]

Great. Thank you. And if I could just sneak one more in, Kim, you may have actually touched on this a bit in an earlier question. But with respect to margins in the past, you've said that one places that you expected to drive further EBITDA margin leverage was from the gross margin line. What is the driver for the higher gross margins? Is it just scale or is there other cost initiatives in the works?

[Kim Nelson:]

Sure. So longer term, we believe we have an opportunity to have gross margins in the low 70s. The biggest driver of how we get there over time, it really is a lot of leveraging higher revenue with investments that we've made. So we'll continue to add resources, of course, but you do get some scaling in the model over time. Now, that is a longer-term view as it relates to gross margins. Currently, when we're in a time period where we're seeing some acceleration happening on the top line, do keep in mind that, we are going to be adding resources end customer successes sort of an obvious area there. And so that does in the shorter term put pressure as it relates to gross margin that has all been taken into account as it relates to our EBITDA guidance for the remainder of this year. But again, nothing's changed relative to our long-term view, and what gets us to that long-term view is really about scaling.

[Joe Brunetto:]

Awesome. Thank you guys so much. That's going to be all from me.

[Operator:]

Thank you. Our next question comes from Joe Vruwink with Baird. You may proceed with your question.

[Joe Vruwink:]

Great. Hi, everyone. Quick one to start, does the 15% assume any acquisition contributions?

[Kim Nelson:]

So, Joe, you may recall that prior to this, we were saying we're a company that we believe we can grow 10% or greater. And we've now increased that number to say 15% or greater. When we think about acquisitions, the comment would be the same in both. We're making that statement and sometimes as a company, we do acquisitions, sometimes we don't. But we're confident with our ability to grow that 15% or greater, you can sort of think of it sort of with or without, because it's 15% or greater.

[Joe Vruwink:]

Okay. Great. And then I'd be curious just to get kind of an update on what you see in terms of competitive landscape. And I'm wondering, does the scale and network advantages that SPS has at this point, do you think you are seeing a stronger growth opportunity that's maybe a bit different than even your peers in this category might be seeing, or do you think it's a case where just the broader imperative that you're now seeing in customers expressing demand for means the overall solution both for you, but also your peers is also stronger than it has been?

[Archie Black:]

Yeah, we definitely think that we continue to outpace our competitors in our solutions on a number of different fronts. The network has always been a significant competitive advantage and our network continues to grow and strengthen. So that's the first part. I think the second part really is, our solution has just continued to mature, continued to get better. As you recall, two, three years back, we rolled out a brand new fulfillment solution that is allowing us to just have a better solution in the marketplace. That and then, our acquisitions and investments in technology over the last three, four years, you take EDI Admin, that acquisition, we bought MAPADOC, which really gave us a clear leadership in the Sage, Data Masons in the Microsoft space, our own development in the net suite space. So we now consider ourselves to be a leader in that space. And then, the last part is just adding value-added services to our customers, just make it easier to work and do their work, work with SPS Commerce. We think ultimately that makes it, the sales process more efficient and it also makes another reason, yet another reason for a supplier to stay with SPS Commerce. So we think we continue to outperform our competitive landscape, and we'll continue making those investments, and hopefully, in a year or two, I'll say it's even further differentiated from the competitors.

[Joe Vruwink:]

That's great. And then maybe just one more from me, thinking about some of the things that at the start of the year might have had a potential to impact the growth rates and obviously, you're not seeing that. I think you addressed supplier bankruptcies already. What about some of the potential changes and modes of fulfillment in just getting a normalization and things like drop ship or even as maybe retailers choose to do more ship from store and into some of these things influence potential growth for you, maybe relative to your views at the start of the year and what you see going forward?

[Archie Black:]

Yeah, I think, they do and I think one of the things that's highlighted since the pandemic is SPS Commerce again is very well suited to deliver on a pure e-commerce, to deliver on key Commerce coming from stores, to deliver on brick and mortar and our solution we're just differentiated in the fact that retailers are truly omnichannel and they need a truly omnichannel partner. And that's where we play. And so the shift -- anytime there's a shift regardless of what direction it is, we think that's an advantage for SPS Commerce because that's a change in somebody's environment. When there's change, they have pain and when they have pain, we can solve that pain. So we think any shifts are positive to us. And whether drop ship accelerates or we do more in-store delivery we think each and every one of those is a net positive for SPS Commerce. Some of the competitive landscape if they have -- if they're really only in one world they might have an acceleration during one period of time and then a deceleration. But we just feel like it's -- we're figuring out which pocket it's going into for SPS Commerce.

[Joe Vruwink:]

That’s great. Thank you very much

[Operator:]

Our next question comes from Nehal Chokshi with Northland Capital. You may proceed with your question.

[Nehal Chokshi:]

Yes, thank you and congrats on the very strong results. Definitely I think suggest that the momentum is much more in the pandemic driven here it's great to see that. And it looks like part of this is fulfillment. Could you say what percent of customers now have the fulfillment module?

[Kim Nelson:]

The majority of our customers use fulfillment. There's a small percentage that just use us for analytics, but the vast majority of our customers are fulfillment customers.

[Nehal Chokshi:]

Got it. So what percent of ARR does fulfillment represent now?

[Kim Nelson:]

So if you look at the amount of revenue -- when you're looking at sort of our recurring revenue or subscription revenue over 80% of our revenue is fulfillment on recurring revenue.

[Nehal Chokshi:]

Got it. Okay. Understood. And then can you give us an update on any international traction?

[Archie Black:]

Yes. A couple of areas that are of focus to us. First off the Asian marketplace is really we consider that part of the North America supply chain. And so, we primarily have those offices to support the North American supply chain and it's an extremely important part of supporting the North America supply chain. I think it would be very, very challenging to support the North American supply chain without it. Australia we're actually seeing some nice momentum, a little tougher 2020 off to a very strong 2021. So we're seeing nice momentum there. And then Europe has been primarily led by our analytics solution and we're seeing some momentum there as well. That's off a very, very small base. As you recall we had highlighted that at the end of 2019 going into the pandemic of an area we were going to really lean into and invest in again off of a very small base. And obviously with the pandemic analytics we've discussed that had -- was kind of on pause. But we're starting to see some nice momentum in that area and pretty optimistic. Again, not enough data points on analytics to stake a claim yet but we are seeing some momentum there.

[Nehal Chokshi:]

Got it. Okay. And if I can sneak one more in. You mentioned that you think that the $5 billion long-term revenue target maybe way too low. Which lever in terms of the 200,000 target customers and 25,000 average revenue per customer is likely off then?

[Archie Black:]

I think both. I think just if you look at the marketplace Shopify has 800,000 customers and they don't have every customer, right? Those are all selling a product to a consumer. So not all of them are ultimately going to be SPS Commerce. But as we lean in and say that we're going to work with your trading partners whether or not they have EDI that's one opportunity. And then the second opportunity is. how else can we support our customers in a positive way add value and consequently increase our revenue wallet share. So we think there's opportunity on both sides to continue to move up.

[Nehal Chokshi:]

Great. Thank you very much.

[Operator:]

Thank you. And I'm not showing any further questions at this time. This concludes today's conference call. Thank you for participating. You may now disconnect.