SPS Commerce, Inc. (SPSC) Earnings Call Transcript & Summary

Thank you so much, guys, for coming to 25th Annual Credit Suisse Technology Conference. Lanis Roddy Salton from the software team. Next up, we have SPS Commerce, Kim Nelson, CFO. Thank you so much for joining us. If that's all right, we'll just kick it off.

Yes, absolutely.

So just starting at a high level, COVID forced the world to rethink how it consumes goods and services and saw, almost a decade's worth of transition to online purchasing happen in less than 1 year. At a high level, how much has that improved e-commerce landscape helped your business, how much of that is structural versus cyclical?

Sure. So just maybe I start off for those that might not be as familiar with SPS Commerce. We primarily play in the retail space. So the question is very appropriate here. We exist because of retailers, but we monetize our relationships with suppliers. We've had 83 consecutive quarters of top line growth, and we continue to get more and more customers and more and more revenue per customer. So just high-level, what we do and where we play. As it relates to the pandemic, that really was a growth or an accelerator to our fulfillment product. If you think about what fulfillment product is doing is it's allowing a retailer to place order for goods and the supplier to use our system to automate that process, make it as efficient as possible from receiving the request for the product to ultimately delivering it. In some cases, the delivery may be directly to your house via a drop-ship. Sometimes it may be to a distribution center, sometimes and maybe directly to the store. And so what we did see, to your point is, as the pandemic hit, many retailers were forced to really have to further embrace omnichannel, which simply means any way that you and I are going to look for product and buy product, needs to have a robust experience. So whether you're looking online, whether you're going to purchase in a store, whether you're going to buy online but pick up at the curb, any of those, all of that complexity, the retailers had to really embrace making that all a seamless experience, especially when a lot of the consumers weren't necessarily going to stores anymore. There was a lot less foot traffic outside of grocery in many retailer locations. So all of that change event, to your point, that put a lot of pressure and strain in the retail space. And perfect for what we do because we help as retailers are doing a change event, like broadening out their e-commerce solution, we're there to help them. And the way that works is we're able to partner with the retailer. The retailer will give us the list of suppliers. We'll contact the suppliers on behalf of the retailer. It's what we refer to as community program, and it's one of the key differentiators of SPS Commerce versus other companies in this space. You saw that reflected in our financial results as we saw an acceleration in our fulfillment growth rate during the pandemic. And in light of a lot of those results that we've seen, we actually increased our expectation as a business. Prior to the pandemic, we said we're a company that can grow our top line 10% or greater. And 2 quarters ago, we updated that, to say we're a company that can grow 15% or greater for the foreseeable future from the top line. So lots of positive momentum that we have seen in that space.

Awesome. And I think the natural follow-up, and I think a lot of investors are actually still trying to think through this is how much of the headwind is returned to in-person, if at all?

Yes. So from our lens, we would characterize what we've seen more how you started off, which is an acceleration forward, maybe more retailers adopting omnichannel, embracing the change that's needed in automation. And so that might have pulled forward by, call it, 2, 3, 4 years. But we believe that change is here, and we're just going to grow off of that change. The 1 caveat that I would say is what we saw particularly in the back half of 2020, there was a pretty large increase as it relates to the percentage of business that went via drop-ship. And for those that aren't familiar with drop-ship, drop-ship is simply when a supplier is fulfilling that order directly to the consumers home address versus sending that product to, say, a distribution center and then the retailer is fulfilling it. A lot of that, we believe, was because retailers candidly were scrambling to make sure that they could have and source more products from multiple suppliers. And drop-ship is a great way to do that very quickly. However, it's also quite expensive for a retailer. And our belief is that retailers are going to really rebalance and determine what products should they have in their own distribution centers versus having the supplier drop-ship. Long-winded way to say, in the back half of 2020, we did see a little bit of a positive growth because of that, and we're lapping that this second half of this year.

Okay. Perfect. And then as we think about your TAM of about $5 billion, just by nature of its size, it does look like there is material room to grow that going forward. Can you just talk about like the biggest needle movers you see going forward, whether it's potential expansion into new verticals, acquisitions whatever it may be?

Sure. So we've been public for, gosh, 10-plus years, and our TAM and our view of that roughly $5 billion TAM is a number we've had for many years. To your point, we actually think that, that number is greater than the $5 billion. And the reason for that is the way we really sized or scoped that $5 billion opportunity, it was really primarily around 2 products: our fulfillment product, which is our core product, about 80% of our revenue; and our analytics product, which provides point-of-sale and sell-through information and data to the suppliers. And looking at the large opportunity we saw globally, that would translate to approximately 200,000 customers with an average ASP of 25,000. However, we recognize that there are opportunities, even though that's still a very large opportunity in front of us, we do have the ability to offer some, think of it as add-on products. So you buy our fulfillment products and you can buy some add-on products, will ultimately make the supplier even more efficient. All of the concepts of these add-on products would all then be additive to that TAM. So our belief as we think the $5 billion TAM is much great. It's definitely greater than that. We just haven't updated that number yet, but the point being, it's a significantly large opportunity in front of us to get more and more customers as well as get it more and more revenue from those customers and how we'll get that revenue from the customers, in some cases, it's just as a supplier is doing business with more and more retailers and in some cases, it's going to be from additional products as well.

Awesome. You mentioned an omnichannel approach earlier. We've seen this actually in how retailers spend their marketing dollars are targeting this omnichannel approach. How are you positioned to win in an omnichannel world?

Sure. So if you think about omnichannel, and for all of us in the room, we've been living this and breathing it, right? Sometimes you go to your computer and you want to buy something online, sometimes you might search for a product and go to the store. All of those concepts is broadly omnichannel, meaning anywhere you want to look for a product through all the way of how you're ultimately going to buy that product, you're getting that seamless, consistent experience. So it sounds really simple. It is not simple. So from the retailer side, there's a heck of a lot of complexity that comes with omnichannel to have that -- again, that seamless experience to the consumer. And that's right where we can come in to help out. And the reason we can come in to help out is retailers will have different rule books or ways in which those orders will be placed all the way through to the orders to be fulfilled. Well, if you think about what we've created over a 20-plus year time period, the depth and breadth of our network of having over 35,000 recurring revenue customers, which are primarily the suppliers and over 3,000 retailers within our network, we have a whole bunch of expertise in what we're doing and how we're doing it. And so we can really partner with retailers to help them on this journey. And we can also take work off of the retailer in the fact that we're very happy to pick up the phone and call their suppliers to talk to them about what they need to do differently. So omnichannel, we believe, it's still early days for many retailers, but it is a great growth opportunity we expect to see for many years, which helps drive our growth in turn, which gives us confidence in increasing our revenue expectations ongoing.

Awesome. The supply chain disruption has been very topical across verticals. You guys have mentioned in the past inventory labor issues as being potential headwinds and tailwinds. Can you kind of just walk us through the moving parts there? How should we be thinking about it net-net and just the entire supply chain disruption manus?

Yes. There's a lot there, and you hear a lot about it in the news. And to your point, in some cases, it's a headwind. In some cases, it's a tailwind. So when there's inefficiencies or disruption that's happening, that can be a positive or a tailwind for SPS Commerce because it might be the impetus that's needed for a retailer to do something different or do something in a more automated way or source product from different suppliers. All of those are positives for us because it gives us an opportunity to get more and more customers or get more and more revenue from certain customers that just happen to not be maybe doing business with that particular retailer. So in that way, it's a very nice sort of tailwind and opportunity for us. Where, in some cases, it can turn into a headwind is if the -- let's say, the supplier is having trouble in maintaining its workforce and its staff or they don't have the time or the capacity to be focused on rolling some of these changes out. The same thing could be said on the retailer side, but it would tend to be a little bit more on the supplier side. So in occasions, that could turn into a headwind. If even though the retailer wants to do something, the supplier is saying, I just don't have the capacity or the resources in which to embark on this right now. Overall, however, we do see it more of a tailwind than a headwind.

Okay. And then as a quick follow-up to that, should we be thinking about those when you talked about labor, inventory, those deferred deals being potential tailwinds down the line as those supply chain and labor issues abate, is that -- do you think about that as a tailwind in the future?

In the case where I said it could be a headwind, meaning a supplier doesn't have the time or the resources or the retailer doesn't have the time or the resources, in that case, yes. It's a matter -- our belief is it's a matter of when, not if, because we believe that there will continue to be more and more automation in the retail supply chain.

Awesome. And then if we could just take a step back, talk about fulfillment versus analytics. If you kind of just frame up for us how both of those segments are formed relatively through COVID. Obviously, analytics has a lot of momentum in the past couple of quarters. If you kind of just frame up for us how that performed through COVID? Where we sit today and where we're going?

Yes. So the fulfillment, as I mentioned, sort of our core product, again, call it, 80-plus percent of our revenue. And that is -- the fulfillment product is really sold to suppliers that allows suppliers to comply with retailers expectation of how they are going to receive that purchase order in an automated way, all the way through to how they are going to fulfill and ultimately deliver that product. And there's a lot of sort of nuances and complexity in between. That's basically the fulfillment product. That, we did see a nice acceleration occur during the pandemic for a lot of the reasons that we previously mentioned. On the analytics side, which is primarily focused on point-of-sale and sell-through data, that is an area that actually saw softness during the pandemic. So there was a period of time in 2020 that it was about a flat growth rate, and then I call it sort of single-digit-ish growth rate. And the reason for that, we really think is twofold. One, as retailers were really focused on omnichannel, they really needed to double down there. And all of the focus and attention was having to make sure that they have that omnichannel experience for the consumer. And therefore, analytics candidly took a back seat. It wasn't quite as much of a priority. On top of that, we did have some of our paying customers on the supplier side of analytics that were in industries that were a little bit more distressed. Think of it as high-end luxury goods, apparel, et cetera. As you can imagine, during the pandemic, they're really focused on every dollar and where it's going. So there was some additional pressure that we felt during that time period. To your point now, when we think about 2021, that growth rate, although not at the fulfillment growth rate level, it has increased. It was about 10% last quarter. And we really think that's a couple of things. One, we're sort of lapping that sort of depressed growth rate that we saw in 2020. Also depending on where retailers are at in their journey in omnichannel, they then can start to focus some more time and attention on the analytics side. So our belief is there's great opportunity for both fulfillment and analytics going forward.

Awesome. I want to take a step back, talk about international for a second. You guys have laid that out as a key growth driver. The U.S. has been fairly stable for you guys in terms of revenue contribution, about 85%. What are the biggest near-term catalysts? And how are you positioning to kind of see that international growth going forward?

Sure. So what really varies depending on the location. So if I start on sort of the Asia side of the world, we actually have a strong presence there, but it is primarily to support the North American suppliers supply chain. So think about sourcing companies, manufacturing location where the product is actually being produced and then the product needs to come over here to the U.S. So in that case, we already have a nice presence, but that revenue shows up as U.S. revenue because that supplier is -- resides or their corporate headquarters are in the U.S. So we expect to just continue to do the same that we've done there. If you think about sort of the Australia area, that we expect to be similar. If you think about Australia GDP to U.S. GDP, you'd expect our business as a percentage to be similar to the U.S. business. And we have a nice presence there particularly on the fulfillment side, analytics beginning to grow there. When we think about the Europe opportunity, what's interesting is pre-pandemic, so if you think about 2019, although on a small base, we were starting to actually get some nice traction on the analytics side. And part of that was because some of our customers are very enterprise-sized customers and analytics. Think of Nike, Adidas, Under Armour, so very like well-known marquee brands. And as you can imagine, they of course have business in Europe as well as business in the U.S. And so we were beginning to get some nice traction in having engaged conversations with European retailers about sharing this point-of-sale data so that these large suppliers, enterprise-level suppliers could have that information really more globally. Now when the pandemic hit, as you can imagine, a lot of those conversations sort of got put on a pause. But in Europe, again, small based on analytics, but we do anticipate getting back to some more traction, particularly with those retailers that do business with, again, call it -- think of more of those larger enterprise-level suppliers on the analytics side. And that's really our way. We're going into that market on analytics. On the fulfillment side, the way we are attacking that is similar to what we did in the U.S., which is organic. And what I mean by that is it all starts with a retailer has a supplier that they want to buy product from. And then the retailer is looking to make that an automated process once the retailers decided what they want to buy, at what price point and quantity. They want everything else to happen as efficiently behind the scenes as possible. So what we're doing is we're taking then some suppliers in the U.S. that also happen to sell product internationally, and having them then connect us into those European retailers so that we can then build a relationship with those retailers, build out the rule books and ultimately, try to, in essence, replicate what we've created in the U.S. Now in the U.S., it took, gosh, 10-plus years before that sort of viral engine and network really started to take off. So our belief is for Europe, a nice large opportunity, but it's a, call it, a more medium- to longer-term opportunity just because of the way we're approaching it.

And then how should we think about like level of investment needed in the product and sales force to actually scale that?

Yes. So because we are -- we like to say sort of cloud by birth. And how we've created our product, it is a cloud-based software-as-a-service solution. So it's one to many. Once you've created sort of the rule books from the retailers, all the suppliers get to benefit from it. So because of that technology and infrastructure, it naturally scales regardless of, I guess, sort of size or location. On the product side, we continue our -- if you look at our R&D spend as a percent of revenue, that's sort of been consistent in, call it, give or take, within 1% or 2% around, call it, 10-ish percent of revenue. And we do believe that that's sort of an appropriate amount of spend back. And what we're doing there is we continue to enhance products and features of our existing products. We also do take some time to look at our internal tools to make some efficiencies there, which will translate into more profit as well as spending some time looking on add-on products and other opportunities. So that's sort of how we think about it.

And then moving to ERP implementations. You guys have talked about an increase in retail ERP implementations being a potential tailwind to your business because of the strong partner network. What are you seeing there in terms of deferrals, pull forwards? Sort of what's the landscape there?

Sure. So what's interesting is when the pandemic started, there was a lot of unknowns. And we listed a whole bunch of things, some that we thought would be positive, some that we thought could potentially be negative. We actually thought the ERP side would turn into a negative during the pandemic, thinking that everyone was going to just sort of stop ERP implementations. What we realized is, depending on where the supplier was at, if they had already made a decision to make a change, they continued on that process. Looking back on it, I guess that's pretty obvious. But at the time, it was not. So we saw continued nice activity happening with ERP implementations during the pandemic. And now when we look, we are seeing still a nice healthy amount of activity happening there. Now what's interesting is when that activity happens on the retailer side or the supplier side, it impacts us a little bit different. If it's on the supplier side, that's a great way if they didn't have SPS for us to come in and win that business, we'll rip and replace, and then they'll just pay us a recurring revenue fee and they'll become a recurring revenue customer. So that's awesome. If they already are using us and they're switching ERPs, we just -- we'll help them through that process and they'll pay us nominally for that. On the retailer side, if the retailer is making an ERP change, that is an awesome lead generation engine for us because it usually means there's additional work or requirements or activity that the retailer needs to push down to the suppliers. So on those -- like if they're putting in a new warehouse management system, say at Manhattan as an example, that's great because then we might get a list of 1,000 suppliers for us to contact. So we sort of -- we benefit on both sides, just a little bit different.

And then -- that's a great point. Like when we think about your channel like value-add resellers, system integrators, like where are you seeing the most growth? And where are you investing the most as you think about your channel?

Sure. So when we think about our channel side, we have a dedicated sales organization that we call channel sales, and they surround themselves really around 5 practices. And those practices would be Microsoft, Sage, Oracle, NetSuite and SAP. Those are all areas where we have been able to build relationships, not even directly with the ERP companies, but also to your point, with the borrowers and the GSI or the systems integrators. And that has been a great network where they can refer leads to us, and then we can convert them to be new customers of ours. We also have many customers that use QuickBooks. If you think about our size, many of our fulfillment customers are going to be more small to midsize, a QuickBooks ERP is something that a small size supplier would use. So that's also an area that we have nice inroads and relationships in. So that has been a really successful way for us to get in front of potential customers at a time they're making an ERP change. And over time, besides those sort of 5 ERP practices, we're also looking at other relationships, more partnership relationships. Shopify, as an example. Manhattan could be another example, where companies that are in the retail space, we could have the same customer, we're just doing different things for them. So it's a great way to partner together.

Awesome. I'll ask you one more, and then I'll open up to the audience. As we think about the long-term operating model, you guys are expecting a reacceleration of revenue growth to back over 15%. What gives you confidence in that reacceleration in revenue growth?

Sure. And just to remind folks or to let folks know if they're not aware, we -- prior to the pandemic, we were growing, call it, 10% or greater top line, and we, 2 quarters ago, updated our view to say we are a company that can grow 15% or greater top line while still delivering some nice profit, EBITDA dollars anywhere between, call it, 15% to 25% on an annual basis. And the reason we got confidence on that, it's -- there's actually multiple -- there's multiple factors to that. One is going back to where we started the conversation, a lot of momentum happening in the omnichannel space. And that certainly helped accelerate our growth in last year, in 2020, but we still see a lot of opportunity for change events and things that need to happen there on the retail side. Another, analytics. So as we talked about, analytics grew a little bit softer in 2020. It's starting to rebound, still growing at a slower rate than fulfillment, but we see a very large opportunity there in front of us. And then thirdly, although those are really our 2 primary products, about a year ago, we launched an add-on product. And our belief is that over the years, there are multiple opportunities in which we could ultimately be helping our supplier become more efficient in their supply chain and their work and do that in a very cost-effective way for the supplier, but we would be able to monetize that relationship more. So when you think about sort of those 3 aspects, those are all things that help us or give us confident that we have the ability to grow 15% or greater. And then the final thing I'd add, everything there was sort of -- you can think about that as sort of organic conversations. We have been acquisitive in the past. We believe we're the leader in the retail cloud-based supply chain solution. And we do have capital at our disposal, and we do believe that there's opportunities for us to continue to consolidate in this space.

Awesome. I want to take a quick break. If anyone has any questions from the audience. If not, I got to fire off a few more before we let Kim go.

This is a great segue because you just mentioned there's organic growth. So historically, you mentioned that you're more about consolidating. But historically, your acquisitions have been just for customers or just for products, and then when your acquisition of databases [indiscernible]. So what do you [indiscernible] as you look for an acquisition when you're out looking for [indiscernible].

Sure. So we have 2 different funnels. The first funnel is as we are primarily in the retail space, we are ideally looking for assets or targets that are primarily in the retail space. We also do think the cloud-based solution is companies that are more SaaS in nature. And then where there's a network involved, so multiple parties. So that's sort of the first sort of lens of how we look at it. Then we would look at it and say it's going to fall as either a pure rollup, right, consolidation, customer acquisition. It could be geographic expansion. It could be a product or technology enhancement. And in all of the acquisitions that we've done in the past, they have hit 1 or multiple, that's the first screening. And then that second sort of 4 buckets that I gave you, all of the acquisitions we've done have hit 1 or multiple ones of those as well. And that's really our lens of how we look at it.

Awesome. Another one I had was, obviously, you guys are very focused on the retail vertical. As we think about -- I mean, particularly on analytics, where it does seem like there are applications outside of simply retail? How do you guys think about the decision to stay purely focused on retail versus expanding into other verticals? And how do you guys think about that?

Yes. So a couple of things. One, our definition of retail is pretty broad. So maybe broader than it might initially think. If you think about if you were to purchase a product, whether it's online or in a store, and you see the product on the shelf or you see it on your computer and you want to buy that, really whoever produced that product could ultimately be one of our paying customers or a supplier. So we are in grocery, we're online or CPG, we're apparel, we're general merchandise. It even includes foodservice, industrial distribution. I mean it's a super broad, broad category. So with that lens when we think about where we are now and the large opportunity, which we think is in excess of $5 billion. Our belief is it's important to stay focused there. Because, again, there's such a large opportunity in front of us, and we have this network that we've established, and it's just sort of that gift that keeps on giving and then we can just make that network bigger and bigger and bigger. So because of all those reasons, we just think there's so much opportunity that our desire is to be the world's retail network, and we think that, again, we have years of runway ahead of us before we have completely accomplished that vision and mission that we have.

Yes. And then if we think about your R&D spend, it's been fairly stable as a percent of revenue, and you guys forecast that going forward, staying fairly stable. Where are you investing in the product? And then how do you balance depth versus breadth of the platform?

Sure. So we always want to make sure we're not resting on our laurels, right? So we want to keep on making sure that we're reinvigorating the product, making sure that it's helping our customers ultimately be as efficient as possible. In 2018, so a few years ago, we did a pretty major overhaul of our fulfillment product. And so that went out to 20-plus thousand customers. So we'll continue to make enhancements on our existing products like fulfillment as well as analytics. We will continue to look to say what are other products that make sense for us. So more recently, we launched that Carrier Service as an add-on product. And we also will spend some of those resources investing in internal tools and applications, so that we can make sure we're being as efficient as possible for once we sign up a customer to get them up and running and giving them complete sort of -- shorten that sort of time to value.

Awesome. The last one I have for you. What technology are you most excited about over the next 5 years that you think will have the biggest impact on your space?

Well, honestly, I think it's change events happening in retail versus a technology. And so omnichannel broadly, there's so much -- there's still so much there, and that gives us a lot of excitement of our ability to keep on growing there.

Awesome. We're looking forward to seeing it. Thank you so much. I think that's it.

All right. Thank you very much.

Awesome. Thank you.