Dayforce, Inc. (DAY) Earnings Call Transcript & Summary

Good morning, everybody. My name is Mark Marcon. I follow human capital technology and solutions for Baird. Our next presenting company is Dayforce formerly known as Ceridian. We're very pleased to have Jeremy Johnson, the CFO over here with us. Jeremy first joined the company in 2012 and spent nearly a decade with the company prior to -- and he served as the Head of IR, prior to leaving and then rejoining the company again in 2024 as CFO. Jeremy, welcome.

Thank you.

Is there any feedback, just curiosity. Good. Okay. Great. So Jeremy, one thing, welcome back. Glad to have you here.

Can you talk a little bit about what changed over the years, just to start out with a real softball. What changed in the time period that you ended up leaving and you came back, what are the major developments that you've noticed?

Yes. Well, it's good to see everyone, first of all, and thanks for having me again, Mark. Look, Dayforce, I think as most of you know, human capital management company that really started through the acquisition of -- Ceridian's acquisition of Dayforce in 2012 time frame, and that's when I joined the company. And from 2012 till really our IPO in 2018, we started with bringing payroll, the legacy kind of payroll of Ceridian together with the innovative workforce management technology in Dayforce and had the idea of building Dayforce, as a single application that cuts across the entire HCM suite. That's really our competitive advantage. And when we started in kind of '13, '14 with a GA product, it ultimately was payroll and workforce management and maybe a little bit of benefits, and that's what we call the compliance modules. Over the years, we worked to build out the entire full HCM suite. And I'd argue we'd have -- we have one of the most full or the best full HCM suite in industry. And when I left the company in 2021, we had kind of worked on building out our 5 growth levers, which is, one, to acquire new business; two, it's to expand inside the customer through add-on sales and customer base sales. Three, it's to expand into the enterprise and grow beyond where we had been selling, which was largely major markets in the past. Four, it was to expand globally. And then lastly, it was to expand into adjacent markets through innovation like the Dayforce Wallet. And I guess I was very surprised coming back at how earlier this year, at how much progress we've made across large enterprise, which requires us to move with SIs and involve SIs in the sales process as well as global. And those are the 2 things that I think on my first earnings call, I said was the things that surprised me most was how much progress we've made there as a business. So today, basically starting from 0 in 2012 Dayforce revenue all the way to this year, we're targeting kind of the mid $1.7 billion in revenue. and approaching kind of mid-28% adjusted EBITDA margins.

That's great. There's been a lot of discussion in the industry with regards to what level of penetration we have. Arguably, you have one of the most modern platforms fully integrated. You've got a continuous calculation engine. When you look at the various segments that you're in, how would you describe the level of modernization, and I'm thinking about it both domestically as well as internationally.

Yes. Well, maybe it helps to kind of start with where we compete, and I mentioned kind of major markets and large enterprise, and I'll double-click on those for a second here. Major market is really where we grew up. For us, that's around 700 employees to kind of into that low enterprise space of about 12,000 employees. In that segment, we sell a full suite almost all the time. And that would be -- full suite for us is payroll, workforce management benefits, some time and attendance plus a couple of other modules. And we also sell into, as I mentioned, the large enterprise. Large enterprise is 12,000 and above, usually involved in SI in that sale, doing the implementation. And there, we sell a compliance kind of bundle. Usually, the main bundles of payroll workforce management benefits with a land there and then a chance to expand into more of the talent modules in Dayforce. I think for us, I would say our market share from when we started in 2012 to today is still below kind of 4%, maybe in the 3% range across the board. And it's a fantastic growth story to get to hear, but there's no reason our market share can't be into that 7%, 8%, 9%, 10% range over the longer term. So that's really where we set our targets. When we sell, for the most part, we're selling to multinational companies, based largely in North America, Australia, U.K. And now as we expand into Germany, you'll see us expand into the DACH region. But we're selling into multinational companies based in those geographies. And that's really, I think, a competitive advantage for us.

Can you also describe a little bit going from sub 4% market share to 9% to 10% market share. You're going to displace other folks when you think about like, okay, what are the reasons why somebody would switch to you versus using ADP or UKG or Workday or SAP or Oracle. What are the key reasons there for people who don't know the space all that well?

Most companies buy us for 2 reasons. One is a fantastic user experience. They want to make sure that their employees can use a software for their HCM needs that is easy to use, has a mobile experience, a mobile-first experience and doesn't require you to log into different pages to do different things throughout the HCM cycle. So a user experience and kind of modern technology as well as an ROI. We -- that's how we largely sell and it doesn't matter if we're selling into the major markets or to the large enterprise. We kind of sell by mapping out existing tech stacks for our prospects and our customers and saying, "You've got largely, it will be 12 boxes on average that you see." And that's -- payroll is one of those. You'll get workforce management, you get time and attendance, you have benefits. You have a bunch of learning, normally a few different learning modules. You'll get recruiting, you have performance management, compensation management and a lot of different people across both HR and finance and technology to support those modules. And what we do is when we sell is we show what it looks like with Dayforce, which is one box and fewer people to support that. So we truly sell on an ROI basis. And that, combined with the user experience is kind of what brings people to Dayforce.

I know there's going to be a wide range of answers depending on the company that you're pitching to. But when you're talking about an ROI, like generally speaking, what sort of hard cost savings can they end up experiencing by moving over to Dayforce. And there's obviously the efficiencies in terms -- because I mean your workforce management tools are extremely robust and predictive. You've got great tools in terms of things like early wage access, which can help companies with recruiting and retention. But in addition to that, you can actually generate savings just in terms of the pure workforce management and efficiencies. When you characterize all of those different elements, what resonates with the clients? And how do you size it typically?

Yes. We try to keep it as simple as possible because largely what we've seen in this environment is we've got to sell to our buyer. And then the buyer has to sell internally to get that through the various gates and whether that's a CFO approval, a CEO approval or a Board approval. So we try and keep it as simplistic as possible at hard savings, which is the cost of existing software that you're going to be able to retire, the people that are supporting that. And then we can obviously show what it is with Dayforce. You can get very complex. And we do that in some circumstances when it's required. Things like the amount of money that you can save by moving to our workforce management on labor planning. Things like the improved retention that you'll get out of the Dayforce Wallet and having your team actually feel financial stability. Obviously, the savings from user experience is probably some more of the softer cost savings in there. We can make an ROI work on the hard costs and it looks even better when you add in some of the softer costs.

Great. When you think about like the growth trajectory, and it's been -- particularly if we take a look at Dayforce recurring ex float, continues to be in the 20s to high teens. You've articulated some thoughts with regards to 2025 targets in terms of $2 billion in revenue. Can you just talk a little bit about the margin targets. If you get to $2 billion in 2025, how to think about the margins.

Yes. I mean, just for everybody here, our kind of midterm guidance has been for a number of years now. This $2 billion in total revenue, a 30% adjusted EBITDA margin. And to get there, we think recurring gross margins will be around 80% plus. We actually hit 80% in Q1 this year. It bounces around a little bit quarter-to-quarter. But next year, we're targeting 80% recurring gross margins. You think about the margin profile of this business. And this year, I mentioned the kind of mid-28% range on adjusted EBITDA getting to 30% next year. We were in the low 20% range a few years ago, actually before I left the company and have grown very nicely. We've expanded margins through largely expanding our recurring gross margins, scaling our G&A costs. And all the while, while investing in our product and technology to continue to expand the full HCM suite across the board. We are starting to pivot to more of a free cash flow discussion as we mature the business. Adjusted EBITDA had been, I think, a nice way to kind of talk about the growth and profitability of the business. We love free cash flow because there's nowhere to hide in free cash flow, and it's great. It's a great indicator of how well we're doing as a business. And you'll see us start to pivot that. We talked about -- this year, you're hearing me say things like adjusted EBITDA conversion to operating cash flow. Last year, it was about 54%. The year before that, it was about 53%. This year, we're expecting mid- to upper 50% range. To get to free cash flow, it's simply just CapEx that gets you down there. And we're working on expanding our free cash flow margins, and you'll see us move to that over a period of time.

And so like the 30% EBITDA margin, $2 billion in revenue, what sort of free cash flow margin do you think would be reasonable to expect?

We haven't given guidance on it, but I think you can do some math using the overall conversions that I talked through on adjusted EBITDA to operating cash flow. For example, last year, I think, including our interest obligations on the debt, we were about 7.5% free cash flow margins as a percent of revenue. We'd expect those to expand this year and expand next year.

And aside from the lever of the CapEx, what else could you do in order to improve that free cash flow?

Yes. When you think about free cash flow for us, it's driven by the overall adjusted EBIT to profitability of the business. As that goes up, we're going to see free cash flow margins expand. And the method to do that is through recurring gross margin expansion, improving our professional services and other gross margin and scaling G&A. We still have room -- a lot of room to go there. You'll probably see us kind of hold our investment in product and technology at the level as a percentage of revenue that it's at today with any difference going into sales and marketing where we can capitalize and grow. If you go into kind of how to get to operating cash flow, it's balance sheet optimization for us, focusing on collections and payables and cash taxes and things like that. That I think are really good for a business of our size to continue to focus on.

And then obviously, I mean, from David's perspective, from the board's perspective, $2 billion isn't the ultimate target. What can you say about some of the longer-term targets?

Yes, $2 billion is in sight, obviously, next year. And as we start to focus, set our sights on what's beyond $2 billion, we're starting to plan the business on what we look like as a $5 billion company. We haven't set a time range on getting there at all, but you'll likely see us try to get to that $5 billion in overall revenues and be somewhere above $1 billion in free cash flow. What we'll try to do is get us to a rule of 40, where we're growing at a pace and our unlevered free cash flow is at a decent level where we can try and balance and maintain a rule of 40 at that level on an unlevered free cash flow at that scale.

In order to get to that free cash flow margin would you basically need to get the EBITDA margins up into the 40% range.

That's probably what the math would entail. Yes.

Okay. And the big levers there would basically be on professional services. That's actually reducing, becoming a smaller part of the overall mix, that's got lower margins on the flip side, Dayforce recurring has high margins, particularly with your older clients.

That's right. Mark, I wouldn't look at -- so it's correct assumption on professional services and other. It's going to become a smaller piece of our overall business, especially as we continue to push into the large enterprise and use SIs. So it will grow at a slower pace than revenue, is the expectation. It will still grow in our opinion because we are selling more into the major market area, and we had great success in Q1, for example, in major markets where we do most of the implementations ourselves. Budget envelopes for customers and that segment size, they just don't support SI being involved. So we'll continue to do most of our implementations there where SIs will continue to do most of the implementations on the large enterprise side. I think as far as the recurring gross margins go, I wouldn't look at 80% as a ceiling. We have room to expand beyond that. One of the key points for us is our ability to sell back into the base. And that is probably a significant recurring gross margin lever for us because as we sell additional functionality into our base, we don't need to add additional customer support costs. We don't need to add additional hosting costs. And it actually should allow us to expand margins beyond that 80% range. And we haven't set a new ceiling for that, but I do believe that it will be beyond that.

Great. We've got about 12 minutes left. And so I want to cover some big topics that have been coming up. One, I was visiting with investors in the Midwest and New York last week. And in almost every discussion that report from Blue Orca came up, and so I was wondering if I could give you a public forum here to kind of go through a few of the different points. So one would basically be, if we take a look at the auditor's opinions, it sounds to me like the issues have been corrected, but I'm wondering if you just want to expand on a few of the deficiencies and how they came up and then your confidence that those have been addressed.

Yes. And I thought you put out a great report about some of the things that were mentioned in the Blue Orca report. So I appreciate that. I encourage everyone to read his report on more of our accounting background, which we've been talking about for years. Nothing's changed in our accounting policies. It's all documented in our SEC filings, and we fully support our accounting policies. We have a great relationship with KPMG, our independent auditor, and they've been our auditor for a long time. And unfortunately, this year, we had a material weakness in our internal controls over financial reporting around ITGC. And we -- it's kind of a culmination of a bunch of deficiencies, not one single deficiency that was a material deficiency, but the culmination of a bunch around things like access control, segregation of duties. I ultimately feel like KPMG raised the bar this year on their audit which is completely fine for them to do, but left us little room to plan to avoid the material weakness. All these issues either have been or are being remediated right now, and we look forward to having a very clean audit opinion towards the end of this year.

Great. One other thing that they brought up. I mean, there's a whole slew of things, some of which were completely illegitimate, but one thing that they brought up was just the opportunity in terms of pulling forward professional services. You've been changing how you do your professional services. You're doing more with SIs. The scope of the contracts are bigger. I'm wondering if you can go into some of the details with regards to that.

Yes. And your note did a good job of explaining it. Essentially, our accounting is very different than some of the other smaller business HCM players in space. And the reason that it's different is because we charge a lot for our implementation. They're longer projects. They take a long time to complete the projects, whereas on the smaller side, they don't have to do an implementation that lasts longer than a month usually. So for us, when we actually recognize revenue, we have 2 performance obligations when there's no SI involved, 2 performance obligations in the contract are professional services and recurring services. And because we typically discount when we're doing the implementation of the professional services, but we're required to recognize that revenue at a fair value. Well, it means that we're recognizing more revenue than we can actually invoice. And the difference between those 2 is a contract asset. That contract asset is created during the implementation time period and then reduced as we bill and invoice for the recurring side of this. So essentially, we're required to under ASC 606 pull-forward revenue and reduce our recurring revenue during the initial contract term. It is -- it's a pain. We don't like it. I'd much rather not do this if I didn't have to, but we have to follow the accounting rules that are in place. And yes, we do likely look different than some of the smaller business players from our revenue recognition policies because of the way we do business, the markets we serve.

The other thing that's been coming up with a lot of investors is whether you look at all of the different [ pays ], which are all going to be here at this conference or you take a look at Workday or even CRM or UiPath, across the board, we're basically seeing a little bit of a slowdown with regards to revenue growth rates. Couple of different reasons that have been cited. One is just a slowdown in terms of employment, which is something that every single company that we follow is employment related, and we're seeing that across the board. And then the other thing is just longer decision cycles, particularly in the up market. I'm wondering if you can talk a little bit about like how much of an impact is that on you at Dayforce. And how does the pipeline look right now? You guys just had a Chicago summit. Maybe you've got some recent data points just in terms of the level of interest that's out there.

Actually, the Chicago Summit is later this week.

Later this week. But you know how many people are signed up for it.

And it's actually a fantastic event right now. We've got, I think, record pipeline attending that event. And we're excited to host that over -- I think it's over 100 prospects attending that event. So we do those around the country a couple of times a year, and they're a great event to kind of [ herd ] pipeline through. And I think for us, we talked about in our Q4 call that we did see some elongated sales cycles. And we didn't -- we fell short in Q4 of kind of our aggressive sales targets. We also talked about having a fantastic January where we saw much of that come back and Q1 was in line with our expectations and a record Q1 for us from a sales side of things. We had and still do have record pipeline. And usually, we go into a year with anywhere from kind of 2.5 to 3x coverage on our pipeline. This year, we had 5x, above -- just short of 5x coverage on our pipeline. So we're seeing the demand. The demand environment is there. And we were pleased with what we saw in Q1. We continue to be pleased with what we've seen throughout Q2 here. And I think with regard to employment levels, as you mentioned, we bill on a per employee per month basis. So we don't see that at renewal, you have this either kind of upsell or downsell and what's recently with some of our competitors been more of a downsell related to churn from employment levels or even lower employment levels than expected. So we see that in our numbers on a consistent basis on a per employee per month basis. And we went into this year expecting employment levels to remain relatively flat, and that's what we've seen so far. So we've been, I think, in line with our expectations there.

Great. We only have 3 minutes and 50 seconds, luckily we have a breakout session after this. So plug for that. But one thing would basically be, if we take a look at the initiatives that you have in place, you basically have a lot of AI initiatives, you've got global initiatives. Let's start with global. That's something that distinguishes you, number of companies or a number of countries that you -- the road map in terms of countries where you will have native payroll. Can you discuss that and what that's done for you in terms of some of those multinational wins.

Yes, that's right. And we built Dayforce U.S. and Canada. So as a global to start -- a global product to start and the ability to expand to places like the U.K. and Ireland and Australia, New Zealand. We just announced Singapore payroll. Obviously, we've got Germany live now and will likely move into some of the more DACH areas over there. and we have a couple in smaller ones like a Mauritius payroll that our team built down there. Obviously, we have a big population of people in Mauritius. What you'll see us do and our focus is to sell in to multinationals based in those key geographies. And that strategy has worked really nicely for us. And we may go in and build native payroll and a couple of others, but you start to think about where global multinationals are headquartered. And we've covered the majority of those areas. And we use a group of -- a nice network of in-country payroll providers for the rest, and we connect everything into our technology. So you can actually see one screen with kind of all your global payroll, even if you don't use Dayforce natively for outside of the companies we have -- or the countries we have, excuse me.

Unfortunately, there's more topics to cover than we've got time for. But one recent announcement is Flex and kind of your entry into the EOR space in the 1 minute and 40 seconds that we've got left, how should investors think about that?

That's very nice of you. Dayforce Flex, it's our on-demand marketplace that really helps augment -- companies kind of augment their workforce with shift work. So if you think about it, we're kind of taking the burden off of our employers from an onboarding side of things, from a payroll side of things, from a background check side of things, and we're allowing them to post shifts and have those shifts be filled with either gig workers, alumni workers, retired workers. And those shifts, then someone can actually go and work a shift, get paid directly through the Dayforce Wallet and go on their way. And it's a really unique way to kind of expand the workforce and allow employers to meet the demands of the changing employment environment. We're excited about it. I think the tech is fantastic, and it's a vision that's been in the works for a number of times -- and really just a number of years, excuse me, an extension of the Dayforce Wallet ultimately.

That's terrific. Unfortunately, we're out of time. Please join me in thanking Jeremy for a thoughtful discussion. We are going to be going into a breakout session. So I've got a bunch more questions, but we're going to go into Aster Suite B. So I'll leave it there.

Thanks, everyone.