Paycom Software Inc (PAYC) — Q4 2016 Earnings Call Transcript

Thank you and good afternoon. Before we get started, I would like to note that certain statements made during this conference call that are not historical facts including those regarding our future plans, objectives and expected performance are forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These forward-looking statements represent our outlook only as of the date of this conference call. While we believe any forward-looking statements we have made are reasonable, actual results could differ materially because the statements are based on our current expectations and are subject to risks and uncertainties. These risks and uncertainties are discussed in our filings with the Securities and Exchange Commission including our quarterly report on Form 10-Q for the quarter ended September 30, 2016 and our Annual Report on Form 10-K for the year ended December 31, 2015. You should refer to and consider these factors when relying on such forward-looking information. Any forward-looking statements speak only as of the date on which it is made and we do not undertake and expressly disclaim any obligation to update or alter our forward-looking statements whether as a result of new information, future events or otherwise except as required by applicable law. Also during the course of today's call we will refer to certain non-GAAP financial measures. A reconciliation schedule showing GAAP versus non-GAAP results is included in the press release that we issued after the close of the market today which is available on our website at investors.paycom.com. I will now turn the call over to Chad Richison, Paycom's President and Chief Executive Officer.

Thanks, Craig. I would like to welcome everyone to our fourth quarter 2016 earnings call. On this call I will begin with some highlights of our results for both the fourth quarter and the full year. I will then provide some comments regarding our view into the marketplace for cloud-based payroll and human capital management or HCM, and then follow that with some examples of key client wins during the quarter. Craig will review our financials and then we will open up the line for questions. Before I begin, I want to take a moment to thank our incredible team of Paycom employees. With such robust growth, it becomes all the more important to sustain a culture that makes Paycom a great place to work and thrive. I am grateful to all of our team members who give their all to provide unparalleled service to our clients and also help keep our unique culture alive and strong. Due to our passionate and engaged workforce we were awarded the title of top workplace in Oklahoma. This marked our fourth consecutive year on the list and this year we were also awarded the Direction award. This additional award comes as a result of feedback from employees who believe the company is going in the right direction. We also celebrated our second year on Deloitte's Fast Technology 500 list, which was a further indication of our success and leadership. We had an excellent year in 2016 and I am extremely proud of all that we have accomplished. Our sales momentum continues with full year revenue of $329.1 million, representing 46.5% growth over the comparable prior year period. For the fourth quarter of 2016, we achieved revenue of $87.8 million, representing 35% growth over the comparable prior year period. I would like to take a moment to highlight our fourth quarter performance. In the fourth quarter of 2016, we lapped our first full quarter of ACA revenue from current clients. As a reminder, in Q4 of 2015 we also experienced a pull forward of clients that started early on our system to gain ACA compliance. As such, we were very pleased with our ability to post a 35% growth rate over this very hefty comparison. Craig will review our guidance in more detail later on the call, but I am pleased to share that we are starting this year off strong. With positive indications from our sales team and the market that make us optimistic for 2017. Additionally, I am pleased to share that our retention rate for 2016 was once again 91%, indicating ongoing client satisfaction with Paycom. 2016 was our second full year as a public company. As we celebrate this milestone, we combine the perspective of what we have accomplished with what is possible for us to achieve. As I survey the marketplace, I believe our strategic advantage is more significant than ever. We believe that the trend of companies replacing multi single function payroll and HR software solutions with an easy to use yet extremely powerful Paycom system is set to continue for several years. This trend will be driven by executives seeking the value creating ROI offered by the Paycom system and also by younger workers who have lived their entire lives with mobile devices and user-friendly interfaces, and who will increasingly demand modern HCM software experiences from their employers. Feedback from our sales organization validates that this trend continues to gain momentum and I will highlight some examples of this later in my prepared remarks. In 2016, we continued to build the foundation that we believe will allow us to remain at the forefront of this trend and capture the resulting growth opportunity. We significantly expanded our Oklahoma City corporate campus completing and moving employees into our new third building. We commenced construction on building four, which will provide as much space as our first three buildings combined as well as a parking garage. Additionally, we bolstered our board of directors adding seasoned executives, Ric Duques and J.C. Watts. We welcome both of them to Paycom and look forward to their contributions. Along with our physical expansion we continue to grow our team, making the required investments in our workforce to support our anticipated growth. In 2016, we added personnel across every department, growing our headcount to 2,075 as of December 31, 2016. Notably, we expanded our R&D group, growing adjusted R&D cost to 8% of revenue for the full year ended 2016. We have always been very efficient with our R&D spend. Our high productivity has been enabled by the fact that our solution was built with a single database. As we have matured over the years, we have continually strived to improve our software development process and even today we continue to make adjustments to become more streamlined and efficient. We had the opportunity to host several investors at our corporate headquarters in 2016. A highlight of every visit is touring our R&D area where investors can see firsthand not just the size and scope of our R&D team, but also the unique culture that allows our team to develop top quality software at such an impressive pace. Because our goal is to potentially replace several different vendors when we win a new client, we have to ensure that our offerings provide greater value to our client than those of our competitors. As a reminder, we compete in several HCM areas and with many companies whose sole focus is one specific area. The culture of efficiency goes beyond our R&D organization and permeates throughout our entire company. While we are making the required investments to secure our growth, we are also focused on leveraging the profitability inherent in our model. Now I will provide some brief comments regarding the Affordable Care Act. At this time we are assisting our clients with complying with the current law. When and if ACA is eliminated, we will react appropriately and promptly. If responsibility goes to the individual states, we could have separate state laws and regulations with sub-regulations for several states while other states may have none. The ACA could also be repealed and replaced with something still requiring the annual reporting of employee information. Another option is that the current law could be repealed so that there is no longer a requirement for businesses to report employee information. With that scenario in mind, if this was the last month for ACA billing and next month it is gone, we estimate that we would need to replace approximately 3% of our revenue for the remainder of the year. As a reminder, we don’t just assist our clients with tax and regulatory compliance, we provide a comprehensive set of software solutions including recruiting, compensation, training, HR, benefits administration and many others. Our systems are used to help clients navigate each of these areas and much more. So while the immediate elimination of ACA would have a minor impact on our revenue from a certain number of our current clients, we do not believe it would impact our overall value proposition or our new business onboarding pace. Now we will provide some examples of notable new client wins from the quarter. First, we signed a trucking company with 3,200 employees. The client had been processing their payroll in-house and were doing many things manually including onboarding new employees, benefits enrollment and several other key processes. This client chose Paycom because they wanted a true hire-to-retire system that would service their entire organization and with our platform they were able to eliminate five point solution providers as well as several other manual processes. They are very excited about the positive impact they expect our solution to have on their firm. Additionally, they really valued our hands-on implementation process and the caring attention we brought to the table. Next, we welcomed a retail services company with 3,500 employees to the Paycom family. They had been previously using a large competitor for payroll and also point solution providers for applicant tracking, background checks and performance management as well as a home-grown internal system for employee onboarding. This client wanted to consolidate these disparate systems and eliminate manual entry and the associated exposure. Finally, we are very pleased to bring on a health services company with over 8,000 employees. They evaluated several vendors as part of their transition. With Paycom, this client was able to eliminate seven point solution providers. In addition to gaining these efficiencies, this company chose Paycom because they believe that our solution is the right platform to help them achieve their growth targets. We are honored to partner with them and excited to provide a foundation for their future growth. To conclude, we had an excellent fourth quarter and a tremendous year and I will now turn the call over to Craig for an update on our financials and guidance.

Thanks, Chad. Before I review our fourth-quarter results and also our outlook for the first quarter and full year 2017, I would like to remind everyone that my comments related to certain financial measures will be on a non-GAAP basis. We use adjusted EBITDA and non-GAAP net income as supplemental measures to review and assess our performance and for planning purposes. Adjusted EBITDA is a non-GAAP financial measure that excludes non-cash stock-based compensation expense and certain transaction expenses that are not core to our operations. Non-GAAP net income is a non-GAAP financial measure that also reflects adjustments for non-cash stock-based compensation expense and certain transaction expenses that are not core to our operations which are further adjusted for the effect of income taxes. Reconciliations of the GAAP to non-GAAP measures discussed today are included in our press release. As Chad mentioned, we experienced a strong fourth quarter with total revenues of $87.8 million representing year-over-year growth of 35% from the comparable prior-year period. Our full year 2016 revenues were $329.1 million, representing growth of 46.5% from the comparable prior year period. Within total revenues, recurring revenue was $86.3 million for the fourth quarter of 2016 representing 98% of total revenues for the quarter and growing 36% from the comparable prior-year period. Total adjusted gross profit for the fourth quarter was $72.8 million representing an adjusted gross margin of 83%. For the full year 2017, we anticipate that our gross margin will be within a range of 82% to 84%. Total adjusted administrative expenses were $56.5 million for the quarter as compared to $47.4 million in the fourth quarter of 2015. Adjusted sales and marketing expense for the fourth quarter of 2016 was $35.6 million. Adjusted R&D expense was $6.5 million in the fourth quarter of 2016, representing growth of 157% over the comparable prior-year period. As Chad detailed, we have continued to invest in R&D to maintain and expand the competitiveness of our solution. As a reminder, a portion of our R&D expense is capitalized. Our total adjusted R&D costs for the fourth quarter of 2016 including the capitalized portion were $8.4 million or 10% of total revenues. Total adjusted R&D costs for the full year of 2016 including the capitalized portion were $27.2 million or 8% of total revenues. Adjusted EBITDA was $20.7 million or 24% of total revenues in the fourth quarter of 2016 compared to $10.5 million or 16% of total revenues in the fourth quarter of 2015. Our GAAP net income for the fourth quarter was $8.6 million or $0.15 per diluted share, based on approximately 59 million shares versus $5.2 million or $0.09 per diluted share a year ago. Our effective income tax rate for the fourth quarter of 2016 was 32% and the rate for the full year was 23%. For modeling purposes, for 2017 we estimate that our combined federal and state tax rate will be 35%. Non-GAAP net income for the fourth quarter of 2016 was $10.8 million or $0.18 per diluted share based on approximately 59 million shares versus $6 million or $0.10 per diluted share a year ago. We repurchased 634,506 shares during the fourth quarter completing our initial $50 million stock repurchase plan. As of today, we have repurchased approximately 1.1 million shares in total. Our board of directors has extended our plan, authorizing the repurchase of up to an additional $50 million worth of common stock and we look forward to continuing to return cash to our stockholders via these repurchases. Turning to the balance sheet. We ended the quarter with cash and cash equivalents of $60.2 million and total debt of $29.8 million. As a reminder, this debt represents the financing of construction at our corporate headquarters. Construction of our fourth building and parking garage are proceeding well. Cash from operations was $24.5 million for the fourth quarter, reflecting our strong revenue performance and the profitability of our business model. With that, let me turn to guidance for the first quarter and full year for fiscal 2017. I want to emphasize that because of the current uncertainty surrounding which of the various provisions of the ACA will be affected by Congressional action, as well as the timing of any such action, this guidance assumes that the ACA would remain in place for the remainder of 2017 without any modifications. For the first quarter of 2017, we expect total revenues in the range of $114.5 million to $116.5 million, representing a growth rate over the comparable prior period of approximately 28% at the midpoint of the range. We expect adjusted EBITDA for the first quarter in the range of $42 million to $44 million, representing an adjusted EBITDA margin of approximately 37% at the midpoint of the range. For fiscal 2017, we are introducing revenue guidance to a range of $422 million to $424 million or approximately 29% year-over-year growth at the midpoint of the range. For the full year 2017, our adjusted EBITDA guidance is a range of $113 million to $115 million, representing an adjusted EBITDA margin of approximately 27% at the midpoint of the range. With that, we will open the line for questions.

A couple of questions if I may. First of all, Chad, in the past you talked about kind of office openings and I know like investors paid a lot of attention but we probably shouldn’t be because it takes an office two years to kind of get fully up and running. Do you want to make any comments in terms of how you think about '17 or should we just kind of ignore that for the time being? Then the second question that I had was on, if I look your strength in the last year, a lot of that was driven by the existing offices selling a lot better. What is your assumptions for '17 in terms of the momentum you saw in '16? Do you think you can carry that all the way into '17? And then I had a quick one for Craig. If you look at the guidance, what's your assumptions on interest rates for this year? Because obviously interest rate increases will help you on the carry that you have. What's your base assumption for the guidance? Thank you.

All right. Well, thanks, Raimo. I will take the first two. First on office openings. I mean we haven't changed our strategy on that. As I had said in the past, we will be opening up offices this year. It's rare that we have ever had offices open too much before this date, February 8. I do know at one year we did announce office openings, I think with our very year-end earnings announcements. Some others have been actually announced in the second quarter. So as we get those offices opened, we will be announcing them. But our strategy on that hasn’t changed. That also falls into your second part of your question, as a company we have always matured, are maturing offices, and that is where we experience a lot of our growth. I have talked about it in the past that office openings due to the way we do it, do produce somewhat of a drain on our current talent which we get all back in subsequent years. So we are very focused on our current strategy. Nothing has changed on our end. We will be continuing to open up offices this year as well as maturing as I have talked about in the past. Maturing our current group to bridge the gap in between our new business sales capacity that exists as an opportunity and what we are actually achieving. As far as the interest rates, I will turn that over to Craig.

Raimo, on the interest rates, you know our guidance basically assumes rates are where they are today. You know there is talk about two, possibly even three interest rate increases during the year of 25 basis points. I think it's somewhat dangerous to include those because you just never know if they are going to happen. One thing I would though remind you is we are holding a significant amount of client funds. During the fourth quarter our average daily balance was around $680 million, on a pretax basis that’s about $1.7 million. So that really falls to the bottom line.

Chad, I want to follow up on Raimo's question about office openings based on your previous comments. Can you give us an idea of how many offices you plan to open, without getting into specific locations, as that may be competitive information? My second question is regarding the ACA. The insights you've provided on the ACA have been helpful, as have those from your competitors. Understanding that it can vary, if we exclude the fluctuations relating to the ACA and its contributions over the past few years, what is your growth expectation for the next couple of years—will it be above or below 30% on a normalized basis? Lastly, I have one follow-up on the 8000.

Yes, regarding your first question about office openings, we have never specified the number of offices we plan to open. My concern about discussing our future plans primarily relates to our internal team rather than the competition. We inform our team members when they are ready and have met certain goals, and this process remains unchanged. The first individuals who will be aware of any developments are our current employees. As we continue our internal discussions and explore various markets, we will share information about that in the future. I want to note that, to my knowledge, we have not opened any offices before February 8, apart from possibly once or a few early openings. We still have the rest of the year ahead of us, and our focus is on that. Now, regarding your second question about the ACA...

Yes. It's around the long-term growth, the sustainability of the long-term growth rate.

Yes. I mean there isn't a product that we have that we use as a crutch to support future growth. It's every product in aggregate. So it's never one product and that would be the truth of ACA. ACA was a very popular product. We were very forthcoming with that and it came about and everybody had to get compliant. Most products that have a compliance piece to it are fairly popular and so it was. We have called out that it does represent a smaller portion of our overall revenue. We are not giving 2018 guidance today but I can tell you that we are set up to be a very good grower over the next several years and I think the way that we have worked our business even overcoming pretty strong growth comps last year, we are heading into Q1 with our largest comps, 63% growth from Q1. And I think that we are going to be coming out the gate strong on that.

That's helpful, Chad. Regarding the large contract you signed in the quarter, congratulations on that. How long do you anticipate the implementation for something of that size to take, and do you currently see more deals of that magnitude in your pipeline, or is this more of an isolated case?

Yes. I mean it would be uncommon for anything that we sell to stretch on longer than three months from a conversion standpoint. Typically they are much earlier than that. I have always taken the position that the longer you allow a conversion to take data, your data worsens over time, and the longer you are stuck in conversion, the harder conversion gets. So we are set up to onboard companies very efficiently and that company would follow the same onboarding process as our other companies.

Chad and Craig, your implied EBITDA margins for 2017 suggest they will be flat or slightly down after a couple of years of significant growth. I am curious about the reasoning behind this. Why is that the case, especially since you're expecting robust growth on the top line despite less growth for your guidance next year?

Yes. On our adjusted EBITDA guidance, this is really our starting point for the year and as we look out throughout the year, we are still set up to be a high growth company and part of that comes with increased commissions and selling and marketing expenses. So as we sit here today that’s really our beginning point on guidance and what we know sitting here today.

And we also, I mean we do hire ahead of the revenue that we catch and I don’t know to what extent that would be, of course some of that is in there. I mean we have guided to 27%, we feel like as we sit here today, that’s a good guide for us and we will be updating that as we have more information and we move along.

Okay. Thanks. That sounds like a good starting point. And I guess have you adjusted your 2017 guidance relative to your expectation prior to the new FLSA overtime rules being blocked, I think you had implied at least in earlier indications for 2017 that you see some benefit from that and now that looks less certain.

I discussed the FLSA and its potential impact on American businesses if the injunction had not been in place. Continuing with the changes would have significantly affected various industries, especially with a potential doubling of the minimum wage for salaried employees. I noted that we do not charge extra for compliance with these regulations; it is included in our government compliant module. Currently, companies are utilizing our FLSA tool, which accounts for 31 different minimum wage criteria across 31 states, many of which vary based on occupation. For example, Oregon's minimum wage changes depending on whether you are in an urban or rural area, while Minnesota's rates differ based on employer revenue. Similarly, Nevada's thresholds depend on whether employers provide health coverage. While compliance is mandated at the federal level, our tool can also address state requirements. I believe our product is already in use, although it does not directly generate revenue on its own, but many of our products function this way. Ultimately, it's the comprehensive solution we provide that adds value for our clients.

Great. Chad, at least the way I understand it, and correct me if I am wrong, that it was a little unclear to me but I thought you had implied that you would sell more the government compliance tool realizing that this is a functionality that’s included in that and people buy it for a lot of different reasons. But is there anything in guidance that implies the sale of that tool? Was it going to increase because of the FLSA currently, in current guidance?

Our guidance was not changed based on FLSA, based off of any FLSA expectations. Does that answer the question?

I think so. I just want to be clear though. Did you have originally in your guidance, your previous indications for 2017, any uplift in sales of the compliance tool because of the...

No, no.

So, Chad, you had mentioned in your script that you had some good success in replacing a number of point products in some of your recent wins. And, so I am wondering at this point, just how diversified is the revenue stream if you compare it to a couple of years ago. For instance, in terms of how diversified the revenue stream is outside of that core payroll piece.

Yes. I mean that’s not something that we have updated. We had talked about and which is true, we sell one total product and then it's modules that clients choose to take. The longer we have had a product, the higher the adoption rate. And so time and attendance as a product, we have had for quite a long time. Obviously, it's going to have a higher adoption rate than a product we may have come out with a year or two ago. But it's the products as a whole that when we go in there is what we are selling. One product that has the many different modules associated. Okay. In answer to your question, all I can tell you is that it is going to be more diversified over time just because we have more products and the adoption rates of these products also increases over time. And we start off with 100% of all of our clients have the payroll module and so over time that’s obviously going to be as a percentage to be somewhat diluted into the overall product mix.

Okay. Makes sense. And then as well, any comment on the linearity of starts or go live during Q4? Is it possible that, just the timing there is always an ebb and flow. Is it possible they were a little more backend loaded in Q3 and then a bit more liner in Q4?

No. I would say that this year end would be similar to past year ends with the exception of the pull forward that we had due to the ACA phenomenon and companies wanting to get compliant for that next year. So outside of that, our starts have been somewhat consistent based on how they followed when the deal was booked originally.

Okay. I understand. The last question I wanted to address is regarding the guidance you're providing, which you mentioned is just the starting point. We recognize your strong track record in this area over the years. If we look back at 2016, the company’s revenue grew by $104 million in absolute dollar terms. However, the guidance for 2017 indicates a smaller growth increment of about $94 million. Mathematically, this suggests that new bookings may be stabilizing or remaining flat year-over-year since those bookings drive incremental growth. This is particularly notable given EDP's forecast of flat bookings growth moving forward, which was an unexpected disappointment. I’m curious to know your perspective on this. While flat bookings for a period isn't necessarily problematic, are there indicators of when you might navigate through the challenging comparisons related to ACA and start to see stronger growth again?

Yes. Mark, one thing to keep in mind in last year, that was the first year that we had the ACA forms filing. So in that first quarter we had a pretty significant lift both to form filings as well as we had the full year of some of that ACA. But that was one of the phenomenon that we had for the first quarter of 2016.

Yes. In terms of our guidance for this year, I am not aware of any company in our industry that experienced a higher growth rate than us last year, nor am I aware of any that is projecting a higher growth rate than us this year. We are coming off the most challenging comparisons and we take pride in our performance. All feedback from our sales team, which I closely monitor, indicates that we are in excellent shape as we enter this year.

Craig, wondering if you could update us on what you are seeing in terms of sales retention, maybe senior level, mid-level and then hiring environment. Any changes there we should be aware of?

Yes. We have had basically the same retention rate amongst our executive reps. This group sells the overwhelming majority of our new business and we have maintained a 90% or better retention rate with that group. I had mentioned in the past to everybody that we do have some turnover amongst our newer reps but also that we had really focused on that. And as of January, we just promoted 37 executive reps or 37 people just became executive reps. And so as I had mentioned, I believe a couple of earnings calls ago we were very focused on developing our current younger group of people that are coming up and we are having success with that. So from what I see, early indications are that our turnover rate amongst new reps is down. We are having a greater success keeping our newer reps and again with executive reps it has remained roughly the same.

Got it. Thanks, Chad. And then maybe as you think about kind of the product development roadmap, talk about some areas where you are focusing there. I think a lot of recent investments have been in response to regulatory changes. So I guess with kind of an uncertain backdrop these days on that front, I am curious if that changes kind of your R&D focus at all.

Well, compliance is always number one when it comes to R&D. It's a have to whether it's on the tax side, I mean there might be some changes whether it's ACA or others but at the end of the day we are constantly updating tax tables, new tax codes, new filings and everything else along with whatever is thrown into the mix, sometimes retro. So that’s always a main focus of ours as we go through prioritization, that’s always top. And then the things that follow that or really go alongside with that because it's a different group that work on both. Is the continual expansion of our value proposition so that our clients can experience a better interface and a better experience by using Paycom and really eliminate waste within their organization.

The ACA 3% commentary that you gave, does that exclude the forms filing business from the month of January?

Everything that’s been billed both in January and February. My commentary was if it were to end after this month, we would expect all billing for forms to be completed by the end of February.

Okay. So just to be clear. So the 3% would be starting from March 1 onwards and then...

That’s correct. You are correct.

And then add the forms?

That is correct. Now there might be some forms still that we had done that may not been billed based on certain clients' wishes at different times but, yes, 99 point whatever percent of that 3% is going to be the recurring fee not forms.

Well, it's not the changing of the goals that’s improving. Yes, we did change the level or the amount that someone needs to onboard because before they are able to become an executive rep. And we have done that just because people were reaching it quicker than what we had anticipated. But it's really a focus on those people that weren't getting there. And meanwhile we have a program to get people there, which is something that we needed to really focus on and make that a top priority for our sales management organization which we have done. And so it's really that. The on-purpose strategic development of our new people and not allowing them to get a cut as we focus on our higher growth group. It's really the strategic focus on that group that is making the change. Again, I mean I have got about a couple of quarters' information but those couple of quarters are telling me the efforts that we have made to increase retention amongst our new reps are working.

This is Joe Reptin on for Brent. I have a couple of quick follow-up questions. Regarding office openings, when do you plan to open new offices, do you have representatives ready to take on those roles, and have you identified appealing markets? Have there been any changes in how you identify these two factors?

There has not.

Okay. And then ACA, the 3% left in the air. Is the total still looking around 5% of revenue?

Yes, we mentioned approximately 5%, and we have not altered that figure since we first provided it, which I believe was in the fourth quarter of 2015. I would need to check that, but those are the same approximate numbers we have today.

Okay. Thank you. Then just one final one. FLSA obviously got pushed out, but we had heard that a discussion of it was maybe increasing some customer interest. Can you maybe talk about the pace of client growth through Q4, if the election changed anything and how that's continued through Q1?

Yes, I haven't noticed any significant changes. This is my fourth presidential election cycle that I've experienced. There’s always some variation, but in the mid-market, businesses are focused on optimizing their operations and reducing waste, which remains consistent. We haven't observed any decline in potential customers' interest in adopting our product due to the election outcomes. Regarding the Fair Labor Standards Act, we aren't primarily an FLSA company, but we do offer a product that can assist with overtime calculations related to the new minimum wage salary increases, which may happen at the state level even if not federally. Our value proposition around government compliance goes beyond just the FLSA, covering all our offerings in that space. We continue to see no decrease in demand for our government compliance tools despite the FLSA injunction.

With regards to the EBITDA guidance, when we take a look at sales and marketing, R&D, G&A, which elements would you expect to see grow the fastest on a year-over-year basis and which one would you expect to grow the slowest?

Throughout this year?

Yes. In 2017.

Some of this is influenced by the timing of when deals are finalized and the commission rates for sales and marketing. It's easy to highlight R&D as an area where we are continuing to invest. However, we need to consider that some of this hinges on when sales are onboarded and the related commission rate associated with that.

That’s correct. I mean you would efficiency in the G&A. Sales and marketing as a whole should continue to grow and then as well as R&D. We will continue to increase our pace on the R&D side as well. And in our gross margin, what Chad mentioned, we have to hire ahead of the business. So you know there are going to be times where the gross margin fluctuates and that’s why we gave the range of 82 to 84 just because we have to hire ahead of the business coming in.

I appreciate that. And then with regard to the tone of business across your various offices. When we take a look at some of your more mature offices, how have those been trending?

Yes. The mature offices that we have not relocated a manager from, meaning it's a mature office but they don’t have a new manager. They have also the mature manager that’s been in there. I mean those are our best offices. You know the second would be those offices that are mature in which we have relocated a manager and then backfilled them with the manager. Those would be second. And the final piece would be those new offices that are not yet mature. So always the offices where we have maintained our current managers, do the best.

Great. Regarding some of the larger sales you achieved and closed this past quarter, what was the process like for purchasing across different departments as you transitioned from single point solutions? How do your solutions for applicant tracking or time and attendance compare to some of the best-in-class solutions that may have been previously implemented?

Yes. It's really a mixed situation that we encounter. We often face competition from the payroll sector as well as time and attendance services. Additionally, we see various point solution providers in areas like talent management, compensation, surveys, and benefits administration. What's common among our midmarket clients is that they tend to opt for point solutions to address specific issues. They are looking to solve problems, but they usually do not have a comprehensive strategy for how they want everything to fit together. When we approach them, it’s not just about providing applicant tracking or tax credits; it's about assisting them in developing a holistic strategy for their employee use cases. Through this approach, we not only help them execute their strategy but also provide a product that automates it. Consequently, we end up replacing all the tools the client might have been using, as it aligns with the overall strategy they adopt when choosing Paycom. So they implement Paycom.

Quick question and then some follow ups. Could you give an update to your current philosophy on up-selling existing customers with more modules?

Well, yes. I mean you definitely want to be able to provide clients with those products that meet their needs. And so we are definitely focused on continuing to bring current products that we have, that our client might not have implemented yet. I will say, as I have been saying, most of our clients implement the majority of our products, over half of our products at the time of their initial conversion. So it really depends on when that client was onboarded of whether or not they have a lot of our products or if we are still needing to go back into the client base. But we do continue to sell into our current client base as we have in the past as well as adding and onboarding new clients. It's important to know that our executive sales group, which again represents an overwhelming majority of all of our business, sales business, they are unable to go out and sell something into the current client base after their clients have been onboarded with us for greater than 30 days. We have a separate group that then works with the client on that and also helps the client not just sell them but helps the client with usage and can even provide additional training. So they are not just a sales resource but there are some other things that they can do as well.

Great. Two technical questions about the quarter. Is there any way to quantify the impact of the pull forward last year on your growth rate this year? And then also, can you comment on your G&A was, seemed like a relatively small increase versus last year in the quarter. Anything unusual that happened in this quarter?

As far as your first question, I think we called out the exact number and that number based on whether or not it started at the end of November, the first of December, you divide by either 12 to take one twelfth of it or you might take two-twelfths of it. But that might give you a little bit of information on the exact impact that any pull forward from Q1 2016 in the start of Q4 2015 may have impacted that quarter.

Yes. And on the G&A, 2015 was our first year of SOX compliance so we have quite a bit of G&A in that fourth quarter, getting ready for that. This year was more of a maintenance feature. So that’s kind of what I would point out. You know, there are several things that go into that but that would probably be the main.

I wanted to see if you can maybe give an update on the total number of modules you have today, let's say versus one or two years ago and where did the PPY shake out as well?

Yes. So the last updated module we talked about was 26 and then we have not updated the annualized opportunity per employee. It still remains at $400, or more than $400 is what we have said.

And in the 26 number, is there a way to kind of reference versus one or two years ago, in terms of how you are expanding your portfolio?

Well, it's been 26, I think we updated, we had 18 at the IPO which was in April of 2014. And so since then we have added on eight additional.

Okay. Great. Then one more question. In terms of where you are gaining share, the pockets of share gains or companies onboarding to you. Has there been any change in terms of those sources and let's say between legacy, regionals, in-house or out of card vendors? Is there any trend that you can point to there?

No. We are in a very competitive industry. Almost all deals are competitive. Typically we are going up against the incumbent and often times that plus another vendor. So it's been very competitive and I can't speak to there being any difference in competition last year from the previous year, from even the previous year in the market that we are focused on.

In a previous question, or one of the previous questions, you talked about replacing point solution providers with some of the new deals and that being as a part of an overall strategy. When you are replacing these vendors, are these legacy on-prem vendors and you are replacing based on an overall shift or strategy towards moving towards the cloud, or are you replacing other cloud vendors at these customers?

Yes. It would be rare that we are replacing something that’s not in the cloud in the midmarket. You just really don’t run into installed products very much anymore. So when we are out there replacing what I will point though is you can have different point solution providers where there is crossover. Where you can track candidates in three of them but you might choose one because it's better than the others and then you might use another for comp. So there is crossover amongst point solution providers as far as their functionality. And so we could go into a client, they have chosen one point solution provider for one thing very specific and they have another for something separate then that. Then we go to another company that’s using the same products and they are using all functionality in one of the point solution providers. So really it's just dependent upon how the point solution providers sold it, integrated it, and then through the reporting from there. And so for us we are going in with an overall strategy to replace all with one system.

Got it. And last quarter you talked about a bit, or you introduced a new metric. It was business sales performance capacity and talking about what the new businesses offices could achieve at full maturity and new sales. Any update to that metric at all or could you at least talk about how that's trended from third quarter to fourth quarter, if any change at all?

Well, I will say that anything we focus we impact and we are very very focused on bridging the gap in this. It is, as I mentioned, our new business sales capacity, a metric number was $260 million and as far as from a capacity standpoint, again, that’s new business onboard. And as far as from a capacity standpoint, I wouldn’t update that number today. It's still the $260 million. As far as our gap, closing gap on that, we are definitely closing that gap as we continue to work our strategy in that area. Now I believe I just introduced this about three months ago. So it would be a little early for me to give too much of an update on that other than to say that we are definitely bridging that gap, which is what we have done before. It's not a new metric for us. It's just something we shared last quarter with the general public.

Got it. And then finally, just one last question. Have you noticed any impact or change in the time it takes for sales offices to reach full maturity when you open a second or third office in the same city or area?

You know the total maturity it still takes 24 months. But we are seeing newer offices sell more to maturity. So I would say that they are doing better selling early on and they are selling more towards maturity but at the end of the day it still takes 24 months for you to have 8 sales people of carrying full quota trained and backlog in pipeline.

Chad, I have two questions. Regarding the new business sales capacity metric you mentioned, can you explain how we should consider the relationship between your current sales capacity and your target? At what point in that ratio would you decide to hire more staff, open additional offices, or take further action? I'm interested in your perspective on how you evaluate that relationship between what is realized and what has the potential to be achieved.

Yes. I mean definitely that’s something we manage internally. And one kind of gets the other. I mean as you bridge that gap, you are bridging it through more developed salespeople and that produces a larger bench for you to backfill the relocating, the current mature relocating managers that are going in to opening up new offices. So this is, again, as I said in the past. This isn't a new number for us. We constantly measure and manage this number. As far as where we are at and being able to achieve that number, it's not a metric that we are going to disclose from that standpoint. But it is a number that we manage and as that number grows, you know should 260 grow, which I mean achievement would make that grow. But that what's would make it grow, it wouldn’t be something where we are just taking a guess. It would be based on actual numbers achieved and again, it's a work through that process. So for us, it's something we are focused on. We do measure it and it is something that somewhat tells us, are we ready. And we feel good about where we are at right now. Just to be quite honest with you.

That's great. And maybe just one follow-up. ADP had made mention that in terms of new signings in the last, say 90 days, they'd seen a change in the attach of the ACA reporting module. It sounds like you have not seen that, but I just wanted to confirm that point because we've had a few different views on this from industry players.

No, we have not seen any change in the attach rate for ACA. And from our standpoint, it is still, for anyone client it is still a nominal fee that carries substantial penalties. And if I were a client in the mid-market, I wouldn’t be quick to turn this off. If they wanted to turn something off, there might be some other things that they could turn off that wouldn’t have the negative impact that this would should it stay. And we could be talking about ACA in 2028. I don’t know. But it is the current law today and we are going to continue to help clients put themselves in the best situation to comply with the current laws, all current laws as they exist today.

All right. Well, I would like to thank everyone for joining us on the call today. We appreciate your interest in Paycom and we look forward to our continued success in 2017. Thank you.