Q3 2023 Paycheck Inc Earnings Call
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Speaker 1: It is now my pleasure to turn the conference over to Mr. John Gibson. Please go ahead, sir.
Speaker 2: Thank you, Todd. Thank you, everyone, for joining us for our discussion of the Paychex Third Quarter Fiscal Year 23 Earnings Release. Joining me today is Efrem Rivera, our Chief Financial Officer. This morning, before the market opened, we released our financial results for the third quarter ending February 28. You can access our webinar at the end of the
Speaker 2: earnings release on our investors relations website our Form 10-Q will be filed with the SEC within the next day
Speaker 2: This teleconference is being broadcast over the internet and will be archived and available on our website for approximately 90 days.
Speaker 2: We're going to start the call today with an update on the business highlights and then F1 will review our financial results and outlook for fiscal year 23. We'll then open it up for any of your questions.
Speaker 2: As you saw in our press release, we delivered solid financial results for the third quarter with total revenue of 8% and adjusted to rooted earnings per share growth of 12. Thanks to the outstanding efforts of our employees, we completed a successful selling and calendar year-end season with strong sales volumes and revenue retention for the quarter.
Speaker 2: We continue to see a stable macro environment and demand for our solutions.
Speaker 2: Our unique value proposition is clearly resonating in the market
Speaker 2: Small and men's size businesses continue to show remarkable resilience.
Speaker 2: as seen in our job index the last two months as they contend with a constantly changing labor market, inflation, increasing regulations, and rising interest rates.
Speaker 2: Before we get into the third quarter results, I want to take a minute to address the recent volatility in the US banking market as a result of two highly publicized bank closings.
Speaker 2: We have no cash, restricted cash or investments deposited within Silicon Valley Bank or Signature Bank.
Speaker 2: And we've met all client fund obligations related to employee payment services and remittances to applicable tax or regulatory agencies.
Speaker 2: We continue to monitor the situation and believe that our existing client funds held, cash, cash equivalents and investment balances are more than sufficient to meet all client fund obligation
Speaker 2: We remain ready as we were when the crisis was unfolding to help businesses and their employees whose payroll processing or direct deposits may have been impacted by these bank closures.
Speaker 2: Paychex has a long-standing track record for being a stable place for customers, employees, and investors during all types of macroeconomic situations and crisis, and we demonstrated that once again.
Speaker 2: The selling season was positive in terms of both revenue and volumes in a very highly competitive environment. In particular, demand has remained strong for our HR outsourcing solutions. Though, as we reported in prior quarters, we continue to see a trend of client shifting preferences for our ASO model over the PO model.
Speaker 2: In the third quarter, we saw revenue retention remaining near record levels and normalization of uncontrollable losses at the very low end of the market.
Speaker 2: The focus and investment we continue to put in our high-value clients is making a difference in the customer experience. In addition, the advisory assistance we provide our clients is critical in these challenging times. Our retention for our HR outsourcing businesses both ASO and PO.
Speaker 2: Stand at an all-time record high here today.
Speaker 2: DO and insurance solutions continues to show lower health insurance attachment and enrollment inside those clients that are attaching.
Speaker 2: This is specifically impacting our PO in the Florida market and the softer rates for workers' compensation insurance continue to impact the property and casualty part of our insurance agency exactly.
Speaker 2: We expect these trends to continue early into the next risk year and normalize as the year progresses.
Speaker 2: Paychex is uniquely positioned with a continuum of solutions designed to help businesses in any macro environment. We help them recruit and train employees, gain access to capital, and provide valuable benefit packages such as insurance and retirement.
Speaker 2: Through our innovative technology, compliance, and HR expertise, we are here to help businesses drive efficiency within their HR processes, which therefore frees up valuable time for them to focus on growing their business.
Speaker 2: Competing for and retaining employees remains a challenge for today's workforce.
Speaker 2: And I want to commend Congress and the President for signing the recent SECURE Act 2.0, which will introduce a range of new opportunities for businesses looking to introduce a retirement benefit and make their employee value proposition more competitive.
Speaker 2: We have begun to launch campaigns to educate the market on the SECURE Act II and continue to position paychecks as the industry leader in retirement plans that we are. We are working on strategies to leverage our strength in this market and capitalize on this opportunity in the years ahead. As higher interest rates and disruptions in the banking system have both impacted the cost.
Speaker 2: and the ERTC program.
Speaker 2: We continue to see strong demand for our full service ERTC solution.
Speaker 2: Many of the businesses we've helped are leveraging their new financial flexibility to reinvest in new solutions such as a retirement plan or one of our integrated HCM technologies.
Speaker 2: Recently, our ERTC service was recognized with a Stevie Award for helping businesses obtain critical financial support.
Speaker 2: In uncertain times, people work for stable, trusted advisors to help them succeed. I am proud that we have recently been recognized as one of the most admired, one of the most ethical, and one of the most innovative companies by several prominent and respected brands.
Speaker 2: We were named one of Fortune's most admired companies in 2023. And for the 15th time, we were named among one of the most ethical companies in the world by Ethosphere.
Speaker 2: This is a select group of companies that show exceptional commitment to ethical operations.
Speaker 2: compliance performance and governance and risk practices.
Speaker 2: including strong commitments to ESG and diversity, equity, and inclusion.
Speaker 2: And today we are announcing that we have been named to Fortune's list of America's most innovative companies.
Speaker 2: we are announcing that we have been named to Fortune's list of America's most innovative companies for 2023.
Speaker 2: due to the innovation we've shown in our products, processes, and culture.
Speaker 2: These awards are the result of the dedication of our 16,000 plus employees who daily are supporting our clients and helping them succeed and doing business the right way every day.
Speaker 2: I'm very proud of the team and I'm very proud of Paychex. There's no question that we are a well managed and stable market leader that people can depend on.
Speaker 2: We have a long-standing track record of being there for our customers when they need us most, and we continue to be well positioned to help them through the HR challenges they are facing and whatever comes their way in the future. Now I'll turn it over to Ephron who will take you through our financial results for the third quarter.
Speaker 2: Thanks, John . Good morning to everyone on the call. I'd like to remind you that we have
Speaker 2: of the customary things I remind you that during these conversations, we're going to talk about forward-looking statements.
Speaker 2: Items like EBITDA, non-GAAP measures, please refer to our press release for more information on these topics. The set of respons accelerator and vacuum accelerator Agilent, broken into four channels
Speaker 2: I'll start by providing some of the key points for the quarter and finish up with a review of fiscal 2023 outlook.
Speaker 2: Total revenue for the quarter, as you saw, grew 8% to $1.4 billion.
Speaker 2: total service revenue.
Speaker 2: total service revenue increased 7% to $1.3 billion.
Speaker 2: obviously benefiting from increase in interest rates.
Speaker 2: Management Solutions revenue increased.
Speaker 2: 7% to $1 billion driven by additional product attachment, HR ancillary services, that's largely what we've discussed previously, our ERTC product, and price realization. We continue to see strong attachment of our HR solutions, retirement, and time and attendance products.
Speaker 2: The man for our ERTC service remains strong and contributed approximately 1% to revenue growth in the quarter. The man for our ERTC service remains strong and contributed approximately 1% to revenue
Speaker 2: demand for this product along with our internal execution.
Speaker 2: have continued to exceed our expectations while ERTC has been a tailwind and we expect demand to continue into fiscal year 24. It will eventually moderate and become a headwind as we progress through next fiscal year.
Speaker 2: Beyond insurance solutions, revenue increased 6% to 321 million, driven by higher revenue per client and growth in average worksite employees. The rate of growth was impacted by factors previously discussed, including lower medical plan sales, and lower medical plan sales.
Speaker 2: and participant volumes, along with a mix shift to ASOs, as John called out. We expect these trends to normalize as we progress through fiscal 2024, meaning a little bit more of a balance between PDO and ASO. Interest on funds held for clients increased significantly to $35 million in the quarter, while motors forward by nearly $60 billion a year, as were GBO and It was business options earnings and services options everything
Speaker 2: 12 million with an operating margin of 44.3% of flight expansion over the prior year period.
Speaker 2: Our effective tax rate for the quarter was 24.3%.
Speaker 2: compared to 22.3% in the prior year period.
Speaker 2: The prior year period included a higher volume of stock based comp and
Speaker 2: the stock based compayments and the recognition of a tax credit related to our development of client facing software that generated the difference in rates.
Speaker 2: Net income increased 9% to $467 million. Deluded earnings per share increased 8% to $1.29 per share. Adjusted diluted earnings per share increased 12% for the quarter to $1.29 per share. Let me quickly summarize the results for the first nine months of the fiscal year.
Speaker 2: Up income increased 9% with a margin of 41.8%. Adjusted net income and adjusted diluted earnings per share. Both increased 12% to $1.2 billion and $3.31 per share.
Speaker 2: Our financial position remains strong, as you can see, with cash, restricted cash, and total corporate investments of more than $1.6 billion.
Speaker 2: Total borrowing is approximately $808 million as of February 28, 2023. Cash flow from operations, again, solid for the first nine months was at $1.3 billion. It was an increase from prior driven by higher net income and changes in working capital.
Speaker 2: We've had our quarterly dividends at 79 cents per share for a total of $854 million during the nine months.
Speaker 2: fiscal 2023 or 12 months rolling.
Speaker 2: return on equity was a stellar superb for 47%.
Speaker 2: Now, let me turn to our guidance.
Speaker 2: for the current fiscal year ending May 31, 2023. Our current outlook incorporates our results for the first nine months in our view of the evolving macroeconomic environment. We have raised guidance on certain measures based on performance this past quarter.
Speaker 2: fiscal year ending May 31, 2023. Our current outlook incorporates our results for the first nine months in our view of the evolving macroeconomic environment. We have raised guidance on certain measures based on performance this past quarter. Updated guidance is as follows.
Speaker 2: Management Solutions revenue announcement to grow at or slightly above 8%. We previously got it to a range of 7 to 8%. On that note, thanks a lot forara accepting your own insurance.
Speaker 2: Solutions outlook is unchanged at growth in the range of 5 to 7 percent, although we anticipate it to be towards the lower end of the range.
Speaker 2: We expect 2.4 PDO and insurance solutions growth to be below 5%.
Speaker 2: These are the factors that we talked about through much of the year.
Speaker 2: Interest on funds held for clients is expected to be in the range of $100 to $105 million.
Speaker 2: Total revenue is expected to grow approximately 8%. Other income expense net is now expected to be income of 10 to 15 million obviously due to higher interest rates.
Speaker 2: Remember we met interest income there with our expense on the debt.
Speaker 2: Adjust the deleted earnings per share is now expected to grow on the range of 13 to 14%.
Speaker 2: We previously got a growth of 12 to 14%, so we tightened the range obviously one quarter left.
Speaker 2: Guidance for margins and effective tax rates are unchanged, but we do anticipate that the
Speaker 2: being on the higher end of the range for operating margin and the lower end of the range for effective tax rates.
Speaker 2: We currently are in the middle of our annual budget process and are working on expectations for next fiscal year. As you know, this is challenging for a number of different reasons, not the least of which are expected outcomes in terms of interest rates and also macroeconomic environment.
Speaker 2: We'll provide final guidance for fiscal 2024 during fiscal 2023's fourth quarter earnings call in June . However, let me share some of our preliminary thought process around fiscal 2024. On a preliminary basis, we believe that the exit rate in the fourth quarter is rate savings from this month's spike in applaud lag.
Speaker 2: is a decent approximation for total revenue for 2024.
Speaker 2: This should result somewhere in the range of 6 to 7%. And again, we got more to do there, but just giving you what our thought process is at the moment.
Speaker 2: And it's heavily dependent on what we think will happen with interest rates during the year and at this point our assumptions are conservative.
Speaker 2: Management Solutions is expected to be lower as a result of moderating ERTC revenues. We called that out last year. It didn't happen. It actually went the other way. We do think it's going to happen next year.
Speaker 2: And then PEO and insurance revenue growth is expected to trend higher as we progress through the year with moderation in some of the headwinds we have experienced this year primarily around insurance attachment and also as we called out several times, a mix shift to ASO. We remain committed to improving margins.
Speaker 2: And we anticipate that operating margin will expand at this stage in the range of 25 to 50 base points.
Speaker 2: for fiscal 2024. Of course, all of this is subject to our current assumptions.
Speaker 2: which can change, especially if there are significant changes to the macro environment, which at this stage we are not seeing.
Speaker 2: I'll refer you to our investor slide for a moment.
Speaker 2: on our website for more information. And now let me turn the call back over to John .
Speaker 2: Thank you Ephron. With that now being complete, Todd will open up the call for any questions people have.
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Speaker 1: Our first question comes from Kevin McVeigh with Credit Suisse.
Speaker 1: Hello Kevin. Great. John . Hey Afrin. Congratulations. Just really, really strong results here. I don't know if John or Afrin may be, and I know it's preliminary Afrin, but the 2024 looks pretty similar to the 2023. There's a lot of cross currents.
Speaker 1: from a macro perspective. You know, and you folks tend to be pretty conservative. Maybe help us understand some of the puts and takes. Maybe there's a little bit more pricing. And just any base underlying assumptions around unemployment because, again, just really, really nice outcome. We're just trying to understand maybe that a little bit more.
Speaker 2: Let me, I'll let John talk a little bit more about what our thinking is from a macro perspective. I'd like Kevin just to kind of address some of the issues that we're dealing with.
Speaker 2: higher level assumptions that go into the plan. I called out the fact that ERTC is not going to be the headwind, I'm sorry, the tailwind that it was this year. We called that out last year, but it's definitely gonna happen next year. Or I wouldn't say definitely. I will say we have a very high...
Speaker 2: high degree of belief that we won't see it. However, you're going to see that more in the second half of the year than the first half of the year. So that's the first thing I'd say. If we look back at where we started this year, we were getting a nice macro upload from employment we started the year. That seems to have run its course.
Speaker 2: So through the year. Interest rates I called out. The first half of the year I think we've got some sense of where we're at, and so where we're at, the market does too. What is really hard to understand is what happens in the second half of the year, and whether we start going in reverse on interest rates. We're taking steps to position the portfolio to be able to deal with that if that's what happens, but.
Speaker 2: No one knows there. That's all the stuff that's headwind.
Speaker 2: positive. We think HR continues to be strong. We think as John pointed out, we think retirement continues to be strong. We think that HCM continues to proceed well. We think PEO, which has been a little bit of a tailwind of growth this year, does better next year.
Speaker 2: The insurance business, although we call out PEO, a lot of the moderation on the growth rate in PEO insurance coming from insurance, we think that starts to improve as we go into next year. And then we have the normal level of cost discipline in the business that drives.
Speaker 2: address the results that we're anticipating in 2024. So that's a broad overview of how the numbers are put together. I'll let John talk to macro and any other parts of that, but then we need to call out.
Speaker 2: Yeah, yeah. Kevin, keep in mind that we've certainly seen the efforts and really expected to see some moderation. We don't expect another four and a half basis points increase in interest rates, and we don't expect the type of hiring that we saw from the – you know, it's hard to believe that the great –
Speaker 2: resignation was just last year, a year away. So certainly we've had the benefit of staffing up, but we're not seeing any contraction, moderation. In fact, you look at our job index, which has been a great indicator of kind of small business health. And what we've seen in both January and February that we've reaped.
Speaker 2: reported March yet, but I can tell you continue not to see anything there. Demand for our products, the HR products, the online products that we're offering, the HCM products, the 401k effort is really, really strong. I mean, we had a strong sales quarter in the second quarter and the third quarter was actually better than...
Speaker 2: that even in a relative basis, you know, quarter to quarter from prior periods. So we're seeing good demand and what I would say moderation and stabilization. We're certainly closely watching all of the indicators, but we're not seeing anything. You know, we've got a very – the other thing I would point out on macro basis, there's a lot of noise in the system.
Speaker 2: And, you know, I think it's important to understand we have a very diverse client base.
Speaker 2: And I think it's fair to say, paychecks, we're more of a Main Street small and mid-sized business company. We're not the Silicon Valley, we're not focused on one particular vertical, or we're not heavily weighted here or there. And so we tend to represent what's going on Main Street. And I don't think Main Street small business owners have been.
Speaker 2: reckless in hiring or reckless in spending or able to spend more than they make. And so again, they struggled through this and we've been helping them get through it. We've been strong as well and particularly work out in our HR advisory products both PO.
Speaker 2: and ASO, again, at record levels. So we have a good degree of confidence that our value proposition is resonating with our current clients. We still think there's a ton of opportunity inside our client base to provide them further assistance. And while we've seen a tilt towards ASO versus PO this year, I always look at it this way. Those ASO clients are Paychex clients.
Speaker 2: And we'll be talking to them again next year about whether or not it's the right time and whether or not you've got the right benefits offering that now meets their needs. And we're certainly doing a lot of work there to try to make sure we've got the right continuum of insurance products to meet the market conditions for small businesses today.
Speaker 2: I feel like, look, this labor challenge that we have is not going to go away, and I don't think the complexities of hiring people are going to go away. And I think that bodes well for how we positioned ourselves, both from an HCM perspective, our technology is driving efficiencies, it's helping people manage remote workers.
Speaker 2: It's helping them attract workers and quite frankly our HR advisory services are paying big dividends. I hope that gives you some color on what we're seeing. Super helpful. I'm going to get back in the queue. Congrats again. Thank you. Now let's know what you have to offer us in the future in order to get ourtn chartIPG forecast. Are all the questions
Speaker 1: Thank you. Our next question comes from David Tuggett with Evercore ISI.
Speaker 1: Thank you. Good morning. Good morning, Efren. Good morning, John . Just to dig into the fiscal 24 guidance a bit more, could you walk through some of the underlying drivers of Management Solutions revenue growth for next year in a little greater depth? And in particular, let me get you more on this a little bit, so you can help us get right to it.
Speaker 3: let's say start with the critical year-end selling season which you've just gone through, you've indicated it was strong. If you could kind of walk through kind of what parts of the bookings were particularly strong within your...
Speaker 3: client-based, small-end, like sure payroll versus kind of more of the core
Speaker 3: you know, payroll processing business. And then in addition to that, if you could comment on your expectations for client revenue retention next year and also for pricing.
Speaker 2: Okay, let me break it into two pieces and then let John comment on the selling season. So David, I'd love to hear you put.
Speaker 2: To put the revenue plan together for management solutions, I'd say you've got to get several dimensions.
Speaker 2: The first is obviously what do you expect from a client growth perspective? John can talk to what we saw during the selling season. What I mean is unit growth in terms of sales. The second part is what do you expect from a pricing standpoint to related talking?.
Speaker 2: year you want to get the right level of product attachment, continued growth on the ancillary products in the bundled suite including time and attendance, HR administration. And then increasingly within management solutions, retirement and HR drive a lot of growth. So we're assuming strong years in both of those products.
Speaker 2: partly on the retirement side based on what John said. So you put all those together, and that forms the basis of our thought process around management solutions and then PEO and insurance. We expect to grow faster than we've seen this year in part because.
Speaker 2: some of the headwinds we feel will update as we get into next year, although that may still be evident in Q1.
Speaker 2: You framed the question correctly in the sense that if we come out of the selling season and we haven't felt like we've hit some of our objectives, it becomes a little bit more challenging to put the plan for 24 together. But John called out the fact that we thought we had a...
Speaker 2: good performance in the sell and season. We obviously are not getting any percentages at this point. We think after Q4 we give you a lot of detail about client base, etc. We'll talk about that. But I'll let John talk to what we were seeing during the sell and season. Yeah, no. I think, David, the key point was we had...
Speaker 2: both strong revenue production, new revenue production, and good volume production.
Speaker 2: across the core business and then really just continue to see this accelerated level. I mean, we were growing the HR, our HR businesses were growing a good healthy clip before the pandemic. And when the pandemic hit, we started to come out of it and it accelerated. And we're really being strong.
Speaker 2: growth there, strong growth in retirement services, our online services, time and attendance, the other bundles that we're offering, retention insights. We're just seeing a lot of traction in our products and services. And we saw it in the third quarter. I said the third quarter was a step up from the second quarter. We felt pretty good about the second quarter.
Speaker 2: And it was a very highly competitive environment. I would say there are a lot of aggressive competitors out there, and I think our products and our sales team did a great job executing. Also, the other thing I feel good about in that quarter is we sell a lot of our business. Over 50% of our new clients come to us from strategic partnerships.
Speaker 2: Maybe they need to be in a nice safe place where I don't have to have worries about whether or not their employees are going to get paid. So I think that's also helped us in the third quarter as well.
Speaker 3: Thanks for that. Just pivoting to the float, Efren, how are you positioning the float if the Fed is almost done raising short-term interest rates?
Speaker 2: So that's an interesting point, David. I wonder whether they're almost done raising short interest rates. I tend to agree with you, but I'm not so certain about it. But, you know, the lever you have there is what percentage you have long-term versus what percentage you have short-term.
Speaker 2: were of the conviction that interest rates seem to be getting close to some sort of peak. Having said that, my...
Speaker 2: my prognostication skills on this are not anything anyone should take to the bank. But I do think from a portfolio management perspective it's probably better to start going longer now whereas we were shorter earlier in the year. Understood. Thanks so much.
Speaker 1: Thank you. Our next question comes from Ramsey L. Assal with Barclays.
Speaker 4: Hi, thank you very much for taking my question this morning. Hey, Ephraim, can I ask you to drill down a little bit in terms of the factors that are giving you confidence that the insurance side of PEO will improve next year? What's true about the drivers or sort of reasoning behind that expectation?
Speaker 2: Yeah, so two things, Randy.
Speaker 2: It's interesting, it's been an unusual year in the sense that we've seen softness in insurance inside the PEO and we've seen softness in insurance, particularly healthcare insurance, in our agency. You know, I'd start with the kind of obvious point that safeguards not to collect cases because adoptions farthe parish25 and territories at times concerned with needing to?,
Speaker 2: At some point people do need health insurance and at some point as clients grow within the PEOs we add more clients we're going to get more health care attachment.
Speaker 2: What's happened this year is that in the PEO in particular, you have renewals that occur in the fall and then you have renewals that occur at the beginning of the year. And it's in that cycle you don't get what you expected. You basically have to wait for some period of time before you start all of that process all over again. So we, as we went through the year, in the first half of the year, thought okay, we're gonna come out of the year.
Speaker 2: with robust insurance as we get to the end of the year. It was better, but it wasn't what we expected. On the agency side, it's been moderating as we've gone through the year, and we've gone through cycles like this.
Speaker 2: or it seems attachment is lower and then it picks up. So part of it is almost a mean reversion phenomenon that we think will occur. But the second part is we put a number of different initiatives in place that don't bear immediate fruit, but we think will bear fruit as we go into.
Speaker 2: into next year. One thing that's really interesting, final point on that, just to highlight something John said, which is this preference for ASL versus PEO isn't a permanent preference for many clients eventually that want a PEO solution because they want the benefits on both and we're expecting that we're going to see more of that as well.
Speaker 2: being somewhat attenuated by the insurance of the disease, which has been very, very sluggish through the year.
Speaker 2: I would add to that, I think it's important to understand that particularly on the insurance attachment side in the PO, remember that's a lot of passive revenue not a lot of margin.
Speaker 2: But it's a big dollar number, so a small percentage change in any direction has probably an overweighted impact on the revenue in the PO, right? And so, you know, extra 1% or 2%, and then another 1% or 2% participation within the base, I think, is critical. And to Ephrin's point...... forirenthongos f e
Speaker 2: You have this opportunity to reset your insurance portfolio every open enrollment. And you're hoping that you have the right portfolio of cost and the type of plans that people can afford and they want to gravitate to and what they're going to do. And that cycle comes up every fall and into the winter. So certainly you will think of this as a table entitled sell less your insurance asso
Speaker 2: We're taking a lot of data, we're doing a review of every market for the PO and looking at our health insurance line up, making sure it's competitive. We're taking and affordable for clients, we're talking to our clients. We're already in the process of beginning to reset that and talk about that reset. So we're confident that we'll have the right line up and the right opportunity.
Speaker 2: And then the difference is historically most of the Paychex PO sales really prior to our acquisition of Oasis was coming from upgrading ASO clients into the PO business, a lot of inside the base. Now it is far more outside the base, but we still have that capability inside the base.
Speaker 2: We think there's additional opportunity inside our client base to upgrade them to PO, and that not only increases the revenue, but it also increases the lifetime value of the customer to us. It's the right thing to do for the business, and we'll be looking at plans to do that as we go into next year as well. Okay, thank you.
Speaker 2: inside our client base to upgrade them to PO. That not only increases the revenue, but it also increases the lifetime value of the customer to us. It's the right thing to do for the business, and we'll be looking at plans to do that as we go into next year as well. Thank you very much for that. Let me sneak one follow-up.
Speaker 4: I called out higher revenue per client as a driver in the quarter. I'm just curious over time have you seen the kind of overall growth algorithm of the business?
Speaker 4: shift more such that that higher rev per client metric is sort of more important. I guess the underlying question is do you expect sort of ongoing gains there to sort of persist or was there something a little more lumpy about it that we should be aware of?
Speaker 2: No, for sure. I mean if you look at the, if you parse all the data, I'm not sure you get it from all of the public disclosure. You get pretty close. You've seen persistent growth in revenue per client.
Speaker 2: So yeah, we can talk about an algorithm that's about units and price, or we can talk about an algorithm that's really around revenue per client. And revenue per client has become more important certainly in the last five years.
Speaker 2: I think it's important to keep in mind, we're at a stage where we're driving more value to the customer.
Speaker 2: and both through our technology as well as our advisory services. And that value is driving retention, it's driving pricing power, and it's driving openness to add additional products and services.
Speaker 2: over time. So the old traditional model we've always had, which is we've always been able to drive price increases over time to cover our cost increases. We've been able to go into the base and drive attachment. I would lay on top of that because we focus so much on the HR value proposition.
Speaker 2: and driving customers up our kind of value continuum. Yet the other benefit we are seeing here is revenue retention. And now they are looking at us as their trusted advisor and they are saying, I want my 401K with paychecks. I want my time and attendance with paychecks. I want my other digital offerings from paychecks. I want my insurance from paychecks. That was very helpful. Thanks a lot.
Speaker 2: driving customers up our kind of value continuum, that the other benefit we're seeing here is revenue retention. And now they're looking at us as their trusted advisor and they're saying, I want my 401K with paychecks. I want my time and attendance with paychecks. I want my other digital offerings from paychecks. I want my insurance from paychecks. That was very helpful. Thanks a lot. You're welcome.
Speaker 2: value continuum that the other benefit we are seeing here is revenue retention. And now they are looking at us as their trusted advisor and they are saying, I want my 401K with paychecks. I want my time and attendance with paychecks. I want my other digital offerings from paychecks. I want my insurance from paychecks. That was very helpful. Thanks a lot. You're welcome.
Speaker 1: Thank you. Our next question comes from Andrew Nicholas with William Blair. Hi, good morning guys. This is Daniel Maxwell on for Andrew today. Sort of similar to the last question, but specifically on WSE growth in the PEO and ASO client base. If you can break apart.
Speaker 1: in upselling to PEO or is there anything else in there?
Speaker 2: Yeah, so we've seen healthy growth in WFCs across ASO and PEO. We don't separately break them out, but folks have been growing, so we're seeing positive results on that.
Speaker 2: on that side of the equation, splitting it out between new ads versus existing base. The reality is that because the existing base is so large, it dwarfs the impact of new ads from a WFT perspective, especially when you consider losses.
Speaker 2: So we've seen good growth on WSE that makes us, as John said, more positive about the general value of our HR advisory services, both across ASO and PE. I'll let John talk through the shifting preferences in a given year between ASO and PE.
Speaker 2: Yeah, Daniel, I think that what you're seeing is, and again, some of this is just speculation on our part, but when you see clients that had our insurance and we go through enrollment and where they had 25 employees that bought the insurance, now they have 22.
Speaker 2: or you see clients that had your insurance in the PO and And decide that they no longer going to have insurance or offer insurance for your employees I just think you're in a position where given some of the uncertainty People being cautious on off of adding a benefit now. It's interesting
Speaker 2: they know they need to have benefits to attract and retain employees. So 401k is doing very, very well. It's a lower cost benefit. It's a lower commitment. And now when you take the secure act to, you know, technically if you're a 20 to 50 man company, a person company, you now can basically get a 401k set up and have all of the set up costs and the annual costs covered through tax credits.
Speaker 2: So those are things they're adding, but the health insurance, because of the size of the expenditure and the fact of the matter is once you start offering it, it's a pretty long-term commitment you're making. I think there's a degree of hesitance to that. And again, as I said, I think there's more we can do in going out and looking for more innovative.
Speaker 2: product sets that gives access, affordable access to health care for our employees and our teams are working on that as we go through the new enrollment. But again, the issue you'll have there, that's going to be enrollment, you know, when we get into the fall of this calendar year and into the second quarter of our fiscal year. Does that help? That's all.
Speaker 1: Yeah, that's helpful. And then just generally on capital allocation, anything on the attractiveness of buybacks going forward or any M&A opportunities that have become more attractive in the last few months in the pipeline? I just look with respect to buybacks.
Speaker 2: to that what we're looking at, but the right opportunity comes along. We obviously have to drive powder to be able to make something happen.
Speaker 2: Yeah, I think our position has changed on this. I think the market conditions are changing and have changed. I think we're going to continually be on the lookout for opportunities that accelerate our position from an HR leader and a technology leader.
Speaker 2: and continue to position us as a leading digital HR human capital management provider. So I would say I've seen some, we've seen some valuations starting to come down. I'm sure the recent disruptions in the financial markets may create additional opportunities. And as Efren said, we stand ready if the right opportunity comes around.
Speaker 2: to pull the trigger. It's not that we haven't wanted to do something, but we also are not going to overpay for something. So you're going to see the same financial discipline you've continued to see from paychecks. We believe that the market conditions are more conducive to us moving forward on the M&A front, but we'll see if that actually transpires. Thanks a lot.
Speaker 1: Thank you. Our next question comes from Samad Samana with Jefferies. Hi, good morning. Thanks for taking my questions. Maybe one, just as I think about that comment about the number of new customers coming through strategic partnerships.
Speaker 1: How should we think about maybe how that impacts customer acquisition costs? Those tend to be slightly larger, smaller, more profitable, less profitable. How should we think about where you're acquiring the customer from and what the impact of that is to the financials? So I wouldn't think anything about it. I would just really go commenting that's the paychecks for.
Speaker 1: It doesn't do anything to our cost of acquisition. I just think they killed it certainly during the selling season. We saw a good uptick in how they were referring paychecks over other options that they have. That was my comment. As we think about the bookings and the quarter, anything to call out between the
Speaker 1: the different kind of customer sizes. So think about it as this very down market, maybe more micro customers versus your average customer size. Just any trends or pockets of strength or weakness.
Speaker 2: Well, actually what I would say is we have good strength, I think, across the board. And actually, what I would tell you is that we actually saw a little more strength up market, not just the small startup ones and twos and on the digital side, which is during the pandemic, that's where we saw a lot of growth. You know, business starts to move up through the...
Speaker 2: we saw a lot of escalation in the very micro end of that space. I would say that is balanced out. It has gotten back to a more balanced world than what we saw in the third quarter with strength in the more traditional segments for paychecks.
Speaker 2: a lot of escalation in the very micro end of that space. I would say that's balanced out. It's gotten back to a more balanced world than what we saw in the third quarter with strength in the more traditional segments for paychecks. Great. Good to see the strong execution, guys.
Speaker 2: Thank you. Thank you. Our next question comes from Brian Bergen with TD Cowen. This is actually Jared Levina for Brian today. How did the 3Q PEO revenue in Works by Employees come in relative to your expectations? And then what is the expectation for 4Q in terms of how...
Speaker 2: work-site employees and at-risk health insurance revenue will compare to 3Q? Yeah, I, Jared, I...
Speaker 2: I won't get into that level of granularity at this point. And so we'll report. You know, as we get through the quarter and year end, I'm not ready to dive into specific questions.
Speaker 2: operational metrics for the PEO at this point. You know, we called out that revenue was going to be lower in Q4. That's a function of the topics that we've been talking about relative to insurance, but.
Speaker 2: I won't go any farther than that. We'll have more to say if we get to the Q4. Okay, and then in terms of that 25 to 50 basis points of potential margin expansion for FY24, can you discuss what the primary drivers of that expansion would be? Yeah, I mean, it is, you know, it's a...
Speaker 2: It's an emphasis that the company has had, we're going through the budget process frankly, after this call is done, we'll start the process of putting our budget together.
Speaker 2: It's an emphasis that the company has had, we're going through the budget process, frankly, after this call is done, we'll start the process of putting our budget together, but we...
Speaker 2: We just have a mantra to get more efficient where we can get more efficient. And some of it comes from operations, some of it comes from sales, some of it comes from G&A. It's really across the business and where we see an opportunity to become more efficient. Absolutely.
Speaker 2: not simply just cut costs, obviously that's important, but also deploy technology where appropriate to become better at doing what we're doing. We do it. I would say that many of the technologies that you read about in that year, we don't trumpet but we use. And we think that advances in things like AI.
Speaker 2: can be of tremendous help to tech-enabled services businesses. So we're excited about the potential, understand the risks, and are actively looking at how we can deploy those technologies to get more efficient, get better at serving our clients.
Speaker 1: Great, thank you. Thank you. This event comes from Jason Kupferberg with Bank of America.
Speaker 3: Hey, good morning, guys. So I guess this is a school of thought out there. Hey, Efren. There's a school of thought out there that just, you know, one of the byproducts of the banking crisis could be some tightening of credit. Small businesses find it harder to get loans. They tend to bank with a lot of the regionals, et cetera. I'm just wondering what your take is.
Speaker 3: on that as we start to look into fiscal 24. It doesn't sound like you guys are really assuming a recession per se in this preliminary outlook for next year. So just want to get reaction to that to start. Thanks
Speaker 2: Yeah, Jason, I think I kind of mentioned it in my remarks and some other questions. I don't think there's any doubt, I mean, prime's at 8% for small and mid-sized business owners, and you talk to any regional bank that I've heard, there's going to be some tightening of credit. That's part of the reason why we've seen a lot of our customers engaging us on our ERTC product.
Speaker 2: So it was interesting, you know, I would say as we approach some of our clients, some of our clients were like, yeah, I really don't need that. A lot of our clients don't. We'll get more Main Street small business owners. They're not looking for a handout and they're probably sometimes a little gun shy to get out. And I've talked about auditing this stuff.
Speaker 2: We had a bunch of clients come back to us and said, hey, I can use this money. And on average it's $180,000 per client. So we've been doing that. We created partnerships with Fintech during the PPP during the pandemic. And we are also helping our clients from that perspective as well because we've really become a trusted source.
Speaker 2: for our clients to help them when they're trying to figure out how to take advantage of tax programs, of government programs. When you look at the PPP loans, 9% of all of the PPP loans in the U.S. was placed by paycheck.
Speaker 2: That was more than JP Morgan and Bank of America, you guys, combined. And so I think we are continuing to support them and help them, and we will continue to look for ways that we can help them access nontraditional funding sources. And I think that is another part of our value proposition that our customers and our CPA partners are appreciating. Okay, understood. As a follow-up, I just wanted to add...
Speaker 3: losses. And then just any thoughts on FedNow coming this summer? Do you see any potential impacts on float if it's adopted by enough banks? And maybe just talk about how your float income breaks down between payroll and the tax pieces?
Speaker 2: Yeah, let me take the first part. Yeah, Jason, obviously, as John mentioned earlier in the call, when you have interest rates rising point to 50 basis points at the pace it did, and you're holding very high quality securities but are interest rates at 1, 1 1?2, you're going to take.
Speaker 2: you're gonna see some of the unrealized losses that you see in the portfolio. We hold our security to maturity, so that really doesn't represent an issue that we've had explained from.
Speaker 2: plus $100 million plus. Now obviously to this point has nothing to do with credit so there's really no issues there. Understand why you ask and understand all of the concerns that others had. So those securities will roll off the portfolio as they mature just to remind people.
Speaker 3: I was just asking.
Speaker 3: Yeah, sorry, I was just asking about FedNow with those real-time rails coming out this summer. Just any thoughts on how that could, if at all, impact float balances, float income? Yeah, yeah. Obviously, like we'll see how many banks adopt it, right? But, and then anything just on your float income, how it breaks down between the payroll and the tax pieces? Because I know, obviously, some of the float you hold.
Speaker 5: we have is going to narrow but you...
Speaker 5: Of course, you know the business very well. A lot of our floating income is not coming necessarily from overnight payroll. It's coming from taxes and that should not be impacted significantly under the Fed rules. The other part that I would say...
Speaker 5: flip around there is that we stopped and there's not been a lot of conversations really as much lately about real-time payments. We do think that there will be opportunities in the future and that may be an opportunity to monetize even if you lose some element of a floating-time final point just
Speaker 5: Since this is my 12th year now, as you know, Jason, there was a point when our business was heavily dependent on flow, 27% or so of net income. We're in a different world right now. We'll manage through it even if it doesn't materialize quite the way we expected it to.
Speaker 5: That's a breakdown of the three pieces that I think will impact us going into the future.
Speaker 3: Okay, well thank you. Appreciate it. Thank you. Our next question comes from Karthik Mehta with North Coast Research. Hey, good morning John and Ephrin. Ephrin, I wanted to go back to your comment on management solutions, payroll and pricing.
Speaker 3: Do you think it's fair to assume that considering the inflationary environment we're in, and obviously that's impacting your costs as well, that the pricing on the payroll side will be higher than normal? Maybe not as high as it was last year, but higher than normal? So, I think that's fair to assume that considering the inflationary environment we're in, that
Speaker 5: I'll turn it over to you for, John , some comments on pricing because I think we need to distinguish between pure pricing and value delivered to customers. But let me answer your question. So as you know, Karthik, and everyone on the call knows, we typically have said that pricing is...
Speaker 5: around pricing next year, I think the pricing environment will not be quite the same as it was this year. I think it's somewhat of an unusual situation given inflation. Having said that, I just want to limit that comment to the issue of pricing and not...
Speaker 5: not include value. I do think there's always an opportunity to think about how to add more value to a customer and then charge them for that because they're willing to accept it. I'll let John comment on some of the things that we think about in that respect. John , do you want to talk about future pricing?
they want to be served and what products that if we attach we see better stickiness.
and price elasticity. So a lot of AI, a lot of data science, a lot of modeling for us to be very precise in that regard. And then as Efren said, I think we try to talk a lot more about value and about how we engage them in the utilization of our products and services.
We approached for the first time in third quarter over 100 million mobile users, interactions with our Paychex Flex product. And a vast majority of those are employees engaging the product.
And we've been doing a lot to really introduce that to not only our clients, but their employees. But now they are getting accustomed to the notifications, the way paychecks, the way they can make changes in real time. And what we are seeing is people that we can do that with actually see that as a higher value. As you can imagine, it's a better customer experience.
And there's also some service margin benefit there at the same time. So that's been another lever that we understand as well that we're pushing on. So I think what you're going to see is let's continue to understand what things we need to engage the customer around it if we engage them on those items.
it's going to increase the value they get from paychecks, and because of our competitive position, allow us to generate more value to the bottom line at the same time.
And then just, we've talked a lot about obviously PEO and ASO and I'm just wondering if you could give a little bit of context as to revenue per client PEO versus ASO. Yeah, I'd say, Kurt, the way to think about it is, I think, you know, we're talking about
And then just, we've talked a lot about obviously PEO and ASO, and I'm just wondering if you could give a little bit of context as to revenue per client, PEO versus ASO. Yeah, I'd say, Kurt, the way to think about it is, PEO versus ASO, PEO versus ASO, PEO
ASO does not in general include insurances. And so what you end up getting, you know, the little bit of price on PEO on the base product is the added revenue that comes from a benefit attachment.
Typically workers comp and also health care not all clients take health care, but when they do them then the Revenue can be significantly higher Thanks Ephron, thanks John . I appreciate it. Thank you
health care, not all clients take health care, but when they do then the revenue can be significantly higher. Thanks Ephron, thanks John , I appreciate it.
Thank you. Our next question comes from Brian Keen with Deutsche Bank. Good morning. Just a clarification on the preliminary outlook for fiscal year 24. It doesn't sound like you expect a U.S. recession in that guidance. Is that correct? And I guess if we do see a U.S. recession...
How would it show up in the numbers Efren because there's definitely a lag impact to You know to where it shows up in the actual financials Yeah, so Brian is a good point and obviously, you know, we all hear the same chatter everyone
So let me just give an answer to that that's a little bit more nuanced. At this point I can only tell you what we see right now. And I can say as we said, we've repeated earlier, we see signs of moderation that we've been seeing frequently since the fall after Q1. When perhaps the comm unifiedisexuality is the most common Baton mentioned before, but again because if we neither have Men cruelty but certainly do have competition in a lot of these settings, where whether it's a
But we don't see any significant signs of slowing. So we just got through the last three months. Sean gave an overview of kind of what was happening from the selling season. That would have been to what signal that, hey, maybe something's going on here that we needed to pay attention to and incorporate. At this point through the selling season we haven't seen signs of slowing.
and we'd incorporate that in our thinking, and we'd come back and say, guess what, things are slowing down. I don't think that things will occur that way, but it could.
The way we think about the year is really, and I've said this probably for the last three or four years, is in two halves. So I think that our confidence in terms of what we expect to see in the first half is at this stage decent. And what do you mean by decent? I mean, we've got enough.
trending to say something should not fall off the cliff in the first half of the year. The Fed is tight. John said our clients are going to be much more impacted by raises, increases in the prime rate than anything else. And at this point, they seem to be absorbing funds to the QUantory and to the All- Action crowd.
all of those factors into the gumball.
and then stir it up a bit and see what our view is of first half and look at the micro factors in the business, strength in retirement services, strength in HR. We're seeing good progress on HCM and then a rebound in PEO. It produces the results we have. Yeah.
The nuance that I would provide to that is that that takes us through, as you know, the end of November . That's the first half. We'll come up for air and see if the trends that we expected to occur in the back half of the year actually materialize. At this point, it's a little tough to call that nine.
months out, but that's why we label it preliminary. Right now, the point of, Brian , after I've said all of those words, is simply to say, at this point, we don't have anything in our data that's suggesting that a slowdown is occurring or is imminent. Now, if the Fed were to decide that it needs to go back to a cycle of 50 basis points, increase rates, we're gonna have a different conversation really quick.
don't see that happening. And one final point, all of us on the call were wondering two or three weeks ago, were we going to have a systemic banking crisis on our hands? And we certainly were looking at that and concerned about it. It seems like the economy was resilient enough and the Fed did.
or I should say, Trader did the right things in terms of shoring up the banking system. So we have the environment we have. We understand what factors we're moderating. We think that what this outlook...
incorporates is our best thinking on the environment. And I think that having said that, our confidence in the second half, obviously will be something that we'll talk more about as we go through the year. Yeah, I got it. I would.
Yeah Brian , I just point you to our Paychex IHS job index report.
on our website and look at January and look at February . We release it every month. Both months, the job index improved. We didn't see that in any other consecutive months in the prior fiscal year. So certainly, we don't see, as Efren already said, and I can reiterate what Efren said, that even the benchmarks that we would see that would be signed, we were doing it...
the challenge. And I try to put it in perspective of saying, how can you hear all this on the TV and the newspapers of what's happening, and then rationalize that with what I walk into the office in here every day. And I do think in some respects, I said it in earlier comments, and so I rationalized it.
You know, there's two different small business worlds. And I think there's a lot of money poured into a lot of tech companies. A lot of people that didn't have to make money could spend money, could pay whatever they needed to, could hire as many people even if they didn't have stuff for them to do. I think that bubble is bursting, and you're seeing that being digested. I don't see the foundation of
concerning because that gets contagious. Hopefully the policy makers and individuals can do things to continue to help support main street small businesses from being impacted from those kinds of irrational actors that are doing things that don't make sense.
gets contagious. Hopefully the policymakers and individuals can do things to continue to help support some Main Street small businesses from being impacted to being impacted from those kind of irrational actors that are doing things that don't make sense. I'll get off that soapbox.
No, that was great, super helpful, thank you. Thank you, our next question comes from Peter Christiansen with Citi. Good morning John Ephron, how are you? Good, good. Just wondering if we can get a sense for the health of the top of the funnel, if we were to exclude the ERTC side of things.
What are you seeing from, you know, I know new business formation and also perhaps some share shift from regional self filers, that kind of stuff would be helpful color there. Thank you. Yeah, yeah. No, Peter, again, I'll go back. What we see is on business applications.
see all this oddity going on in the other fiscal years. You know business starts are down from where they were historically and that's why when I even look at some of our you know retention in the small end that doesn't surprise me because even in good times or bad times.
Small businesses start two years later, most of them aren't in business. So when I look at it, there is good stable business starts. When I looked at our sales for the third quarter, they were strong across the board, not just in ERTC, but across the board. And so I really, again, I will go back. I'm not seeing anything on a macro level.
from Marc Marcon with Baird.
Good morning, John and Efren. A couple of questions. One is basically, in terms of the margin guide, or the preliminary thoughts with regards to margins for next year, to what extent would you expect to see any sort of improvement in terms of the margins?
X the impact of float income and how are you thinking about that? Good question, Mark. I I I Don't think slope will play as big an impact on margin expansion as it did this year.
I will hold the answer to that question until I've gone through the budget process because it will depend on where I end up in terms of float income for next year. I anticipate that it will grow so that will have a modest impact on the...
it will exert a positive impact on margin next year. But remember, Mark, one other thing is that we called out ERTC as moderating. That's going to exert a countervailing force. So when I pull those two together, it will again balance our introduction to end-serve Lockdown. That's my secret.
I'll figure it out and answer on 2-4. But I don't think, I think there will be, at the end of the day, likely real improvement in operating margin when all is said and done.
Do you think there will or will not be? Will, will, will. That's my expectation. But I haven't gone through it all. So at X-quote, we should see some margin improvement. And then I would and then.
And then with regards to, you know, I know you're in the budget process now, but are you anticipating, you know, an increase in terms of the sales force, you know, and in terms of the overall headcount within the business.
Or are the technological innovations that you're making sufficient to basically continue to drive the business with the same headcount.
Yeah, good question. I'll answer it in two ways and then let John get his commentary because I'm sure he will be scrutinizing every headcount in the sales budget. But the short answer is that where it makes sense to add headcount to drive greater sales down the log.
we are likely to do that and I'll let John talk to that. But I think you rightly identify something that has been a feature of the company which is increasingly, if you look at not only in the US but also in Europe where we also have a growing business, a lot of our sales are done digitally and do not require.
at least at a minimum the level of sales involvement that our field sales force provides. So you are going to have a mix. And I don't think that we know quite yet whether there are ads, but I would be careful because I know our competitors tout their headcount ads as a precursor or a driver of growth. That is not necessarily where we are at. We can grow without adding headcount although there are places.
where we made sure to do that. I'll let John talk to that issue. John B. Hirshman
Our digital, if you think about just in the U.S., including internationalpaychecks.com and surepayroll.com, probably a 20 point improvement in the percent, 20 percentage point improvement in what we're getting there. We're driving analytics to make our sales force more productive. So instead of just cold calling across the market or inside our client base, we're using
data analytics and models and triggers of behaviors of people engaging our systems to give them active lists. So I think there's opportunity for productivity. And we're doing a lot more digital engagement inside our applications and actually creating digital experiences to drive more attachment, advance learning.
products and services. So I think when we are sitting down for the budget, we are certainly going to add sales reps, engaging our strategic partners, doing things that we need to do to cover the market and the market opportunity we have. But we are equally balanced on making sure we are making investments in digital engagement and driving productivity and using the data analytics we have to make sure we are making every rep as productive as they can be. Fantastic. And then one last.
one. Did you say what your how much pace per control ended up increasing over the course of this of this quarter or this year on a year over year basis?
I've got some investors that are under the impression that your pays per control might be up by 300 bps and then they're factoring in the ERTC and looking at the underlying growth and I'm not sure that the numbers are right. What did you see in terms of pays per control for this last quarter?
So we didn't talk about it, but I will say this. Through the year we have seen increases in pay for control or we would say,
checks, and it's moderated as we've gone through the year. So in some ways, it's been the tale of two cities. The first half is going to end up being different than the second half of the year. David? David? Just keep in mind, remember where Main Street Small Business was a year ago in terms of their ability to hire people.
They were understaffed, desperate to get people. So you got the benefit of that hiring up. It's not that there's a deceleration. This has been an interesting year in terms of people getting in, us helping them getting staffed up. Now they're staffed up, I'm not expecting that they're going to add another big group of employees, regardless of whether or not there was a recession or not. I mean they're fully staffed.
we would expect a moderation of the growth in the number of employees in our clients.
Great, thank you. Thank you. Our next question comes from Eugene Simuni with Moffett Nathanson. Thank you guys. Hi John and Avron. Thanks for squeezing me in. I just have one quick question. I wanted to follow up on the comment you made on secure X 2.0. Always very interesting.
It's interesting to hear about how regulatory developments can help you guys. So can you elaborate a bit specifically on what the opportunities for paychecks might be from that act, and then what is the timeframe for when we might see that flow into your financial results? Yeah. So as we said, we are in our budget and we are really in our planning stages to figure out how we want to approach the SECURE Act 2. We started some education certainly within our base.
and we are trying to figure out and scope the size of the opportunity across the market and determine what investment we are going to do that. And that is something I think we will talk about more in the next call. We are doing a lot of surveys trying to get where people are in their understanding of what it means. There is a huge education effort that I think has to go on, but I think it is a pretty powerful value proposition. Like I said, I think the secular labor problem ain't".
is going to continue. I know even we go through a recession, we just simply don't have enough people working. The labor participation rate is just not big enough to meet even a lower demand. We're at 3.4, 3.5 unemployment. And so I think the simple fact is small and mid-sized businesses needing to compete against large employers who typically have richer benefit plans is going to be a specular.
trend that's going to continue and I think we're well positioned to do that. And I say that because that's going to create the opportunity for a 401k plan. And the SECURE Act 2.0, just to give you an idea, pretty much if you're an employer with between 20 and 50 employees.
We could provide you and start up a 401k plan and you would pay paychecks, literally nothing, because you would net. You would pay us for a startup fee. You would pay us for the other fees that we would have there, but you would get all that back through tax credit. So basically you can add the plan and then if you want to contribute up to $1,000.
to each employee, you can get that thousand dollars as a tax credit as well in many circumstances. So I think there's not a lot of awareness. Look, we found the same thing with ERTC. There are just a lot of small, mid-sized business owners not even aware these programs exist. And then they have reluctance to participate because whether we want to like it or not, they have some skepticism about government programs and being on some government list.
And we are really positioning ourselves as kind of this trusted advisor to help them and help facilitate that. So we are doing a lot of studies on it. We are trying to figure out how big the opportunity is. And certainly we think it's a great thing for small and mid-sized businesses. And again, I applaud Congress and all the partisanship that goes on in Washington. It's great to see them have a program like this. I hope there's more programs like this.
of questions from me. First, and I know we've talked a little bit about this both in previous quarters but now but can you recap for us a little bit why you think ERTC outperformed what you thought it would do during the course of this fiscal year and then kind of how that contributes to you thinking that it could flow a little bit in and next?
I'll just start, John , can you take the mirror? Yes, James, I think that when we entered the year, we thought that there was widespread understanding and knowledge of the program such that as we went further and further into the base, clients would have already availed themselves of the service. I mean, there's so much knowledge about the program. It's like we received it for humans. Right. I think you can acquisition on this one too, if you want. But that's not the kind of collaboration we needed, because I think it was Giveme.
What we actually found was that they were anxious to hear and to be educated with respect to the program and the way it worked and our ability to facilitate their access to the program made them constructive about wanting to participate.
the level of understanding was lower than we anticipated. John talked about that for many reasons, and it turned out that there was a much bigger opportunity for me this year than we had realized.
As we get into next year, more and more time has elapsed. The ability to access the programs is running out. One, it relates to a period of time that now will have been 18, 24 months ago. And so as we round the next year,
into the beginning of calendar 24, we think that the opportunity, both within our base and in general, will have moderated so the back half of the year we don't anticipate that there will be as much demand or opportunity.
I think this is a good example of how we are trying to approach helping our clients. I think when the program was first announced we did a lot with the PPP loan program. I talked about that 9% of all of them paired with FinTech companies to be able to facilitate that. And we really developed a muscle there to build an automated simple solution.
and an educational package and program for both our strategic partner CPAs and for our clients to go through. When the ERTC program came out, I think we thought they kind of knew about it and were just trying to do general education. I think what we learned early on is that was just not resonating. And a lot of people either thought they didn't qualify or weren't sure, or quite frankly by some of the just hassles and other challenges of participating in some other government programs, they felt like hey, I don't need this right now and I just can't tolerate. I think we had two things.
database analysis to a specific client and saying we have a high degree of confidence that you spend 10 minutes without and we get a few pieces of information we're going to be able to get you a check that would be meaningful and worth your time that's one then we had to overcome all the obstacles I think simultaneously to that interest rates started to go up and the cost of capital starting to go up
And I think a lot of small business owners who said, hey, I don't need it. It's not worth my time. I don't want to be associated with a government program. I may get audited. And most business owners, small business owners are concerned, an audit would put them out of business worse than anything else. So I think they were avoiding it. I think as we saw that happening, now the receptivity and the demand that said, hey, I really need that $180,000 to bridge inflation, to be able to bridge the cost of capital, to grow my business. And so I think we had those two things.
Us being more precise in terms of our messaging and getting our sales and our education teams out there. And then second, I think there were some macro pressures on small business owners that created that tailwind that exceeded what we expected.
That's a really helpful color. The last thing for me is, Efren, you talked about that at least at the initial planning stages, you think margins next year can expand some. If I reflect back on where you talked about your
you know, margin targets in the past that we were kind of getting towards the upper end of that. Are we at a stage we can start contemplating that maybe the margin structure can even move above where you've talked about in the past or what would have to happen for that to be the case?
That's a good question, James.
and that's the benefit of listening to what I've said over a period of time. You know, if you would have said to me persistently, we could be above 40%, I would have urged caution because I didn't know whether we had all of the set of initiatives that could drive us there. The short answer to that is I don't have a great answer. Like I have a sense of when, when, when, when, when, when.
we're probably getting closer to the ceiling. I do think that you're right in saying that it's been reset a bit, and it's been reset a bit because of technology. So technology keeps giving us opportunities to automate things that we, if you would have said seven years ago, is that a chatbot could be as good or better than a human answering 275 questions that are 90% of what clients want to know, I would have said, I don't know about that. The short answer now is,
That number is not 275, it's probably 375 or 400 questions. So the short answer is technology is going to set the limit, especially in the tech services business. And so I think we probably have developed some more headroom with some of the actions that we have taken. And it's not just pure technology, but I think we've learned to become more automated efficiently. A lot of the initiatives that John started years ago have paid these dividends.
Hey, thank you very much for all the input. John and Ephron, have a good day. Thank you. Appreciate it. Thank you. Thank you. Our last question will come from Andrew Polkowitz with JP Morgan. Hey, John and Ephron. Thanks for fitting in. Just wanted to
Hey guys, um just wanted to ask you mentioned earlier that it was a highly competitive selling season So I just wanted to ask um What if you could share where that competition is coming from whether it's newer entrants usual suspects like the regionals? Um, and if there is anything to call it different from history regarding balance of trade Um, I I wouldn't say uh any new entrants. It's the same. It's the same suspects
I think what we found was just everyone was more aggressive in trying to go after and grab market share. And I'm very proud of our sales team for really out competing. The competitive metrics were very strong for the quarter and I think in a very aggressive market. And I would say every one of our market segments saw that. And I think that's going to continue. Look, I think.
Very proud of where we are and where we are positioned. I'm sure a lot of our smaller competitors and those that are maybe a little more focused in niches that aren't doing as well as the traditional small business market is doing will maybe get more aggressive. But I feel good about where our value proposition is. And I think what we are finding is, as I said, I think our strategic partners, our clients, and I think prospects are beginning to put a premium on A. I want to be somewhere where they know what they are doing. They are doing it right.
and they are stable, and they are going to be able to have the financial capability to continue to invest in their products and services over the long-term. So I think there may be a little less shiny objects as we go forward. James, thank you. And I said one quick follow-up on op margins. I know for this quarter it came out a little bit ahead of the 44% to 43%. You laid out three months ago. Just wanted to ask if there is anything that came out better than you expected.
Thank you. And at this time, I have no further questions in queue. I'll turn the call back over to John Gibson for any additional or closing remarks. Well thank you very much, Todd. I appreciate it. At this point, we'll close the call. If you're interested in a replay of the webcast, please do so.
It will be archived for approximately nine days on our website. I want to thank everybody for your interest in paychecks, and I hope everybody has a great day. This concludes today's call. Thank you for your participation. You may disconnect at any time.
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I'll see you next time.
I.