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

Fired up for SPS Commerce. I'm Brett Klein from the technology banking team. Thrilled to have Chad and Kim here with us on stage. I will ask a series of questions, open it up for your questions. Keep us lively, get those questions ready as we wrap down the conference here with a few more fireside sessions. Chad and Kim, thank you very much for being here. We're going to bring you energy.

All right.

Great to be here.

All right. We're going to just start though with the basics. But hopefully, most people know the SPS story, but just in case not, take a few minutes just to frame the business and the problem you're solving for customers and who your customers are?

Yes, absolutely. So I think we're all familiar with the omnichannel dynamics that are happening and have been happening in retail. And as a result of that dynamic, we have built a network that connects retailers with all their merchandise suppliers digitally and allows them to exchange information about the supply chain activities they have, and that's become increasingly important with all these other numerous paths to the consumer. And the way that we do that is by working with retailers to onboard a high percentage of their order volume and get that connected digitally. And then we primarily monetize the suppliers that are connected to our network by based on the number of trading partner connections they have on our network.

Excellent. And from the retail perspective and some of the supplier perspective who are some of the logos that investors would know that are on the platform?

Yes. So we have the majority of the large retailers in North America on our platform, and there are specific ways that they expect their suppliers to interact with them, typically referred to as a retailer rule book. And so we've built out that retailer rule book for all those major retailers into our network. And then that really helps once those rules are built. When a supplier connects to our network, they get the benefit that we put into building out that retailer network and don't need to comply with all those complex retailer rules themselves. We really handle it on their behalf. So if you walked in -- went to any kind of shopping center and saw a bunch of big retailer names, you'd probably find their retailer rule book built into our network.

Excellent. I didn't mention Chad, but you just finished up, I think, first full quarter as CEO, a long-time industry veteran, but what attracted you to SPS and the opportunity here?

Yes, absolutely. So as an occupational hazard of being in supply chain software for over 20 years, I've learned a lot about how customers are solving supply chain problems with technology. And I've had a point of view for some time that the best sort of technology architecture model, if you will, to solve the supply chain challenges is network-based technology. And you think a lot about the different software that's out there, addressing supply chain. A lot of it is focused only on the 4 walls of one organization. But a lot of the business problems that are trying to be solved around the supply chain involve multiple participants. And so network really leads to solving some of those problems just from a technology architecture standpoint. It's best suited for that. And I knew then that SPS had one of the most powerful networks in retail. I had the opportunity through a partnership in one of my previous companies with SPS to get to know the business. And in addition to that, SPS, I'd say, is a very well-respected employer in my hometown, Minneapolis just -- the employees love working there. I knew that. A lot of good things the company is able to do in the community as well. And it's also great having done numerous global roles before, having a more headquarter-driven company that's 15 minutes from my house is a big benefit as well. So really, for all of those reasons, SPS seemed like a great fit.

That's excellent. And I don't know if you had a formal 90-day plan or something like that. I hear new CEOs sometimes have. But just what are some of your initial observations from the company around maybe areas of excitement for you or areas you may want to accelerate investment. Anything you want to change?

Yes. So I mean, first off, I'd say what a great situation for a new CEO to come into. Usually, new CEOs means something's on fire or there's a big strategic shift that has to happen. Thankfully, the Board and the leadership team went through a very thoughtful succession planning process and then transition process. And really, when I got in on the inside, one thing that I really realized is this sort of philosophic approach to build out the network, how powerful that is. And what I mean by that is 20 years ago, when this business was really starting to build up, you could have taken an approach that you'd solve each customer connection challenge individually and not make that reusable for future participants in the network. And there was a very thoughtful strategy to build out the network and make sure that all the work that was done building connections in the network are going to be reusable for all participants in the network going forward. And I think that really just provides competitive differentiation for the long run and also just makes the onboarding process easier for new members of the network. The second thing was what we call the community go-to-market approach. And this is really the commitment we make to retailers to onboard a high percentage of their order volume in a very short period of time. And while from the outside, I knew what SPS did and that this was part of their go-to-market, to work with the retailers, what I didn't fully understand is just all the know-how and process capability and also technology that was behind these community go-to-market programs and then sort of the big benefit, right? Because not only do we get to help the retailer, the retailer gets there connections digitized, which leads to efficiencies for them. But then it's built in sort of lead generation for us because they're handing us that whole list of their suppliers, which are future participants to the SPS network.

Excellent. Crazy few years for retailers, suppliers, supply chain. Omnichannel, you referenced e-commerce explosive growth, maybe on the negative side, a pandemic that shut down supply chains for some period of time. We've got geopolitical issues, wars in various spots around the globe, both positive and challenging factors here. But with all that's happened in the macro, what has been -- how has the conversations with customers shifted around technology like SPS.

Yes. So I think all of these changes that are leading to different innovations in supply chain. Some of them kind of forced upon like a pandemic. Some of them, just the increasing consumer expectations, which is leading to a lot of innovation around omnichannel. All of this is really driving towards, frankly, more complexity and a higher degree of need for information exchange between retailers and their suppliers to deal with inventory shortages, inventory excess, new paths to market in omnichannel. And really what we hear from our customers, both on the retailer side and the supplier side is this need to innovate in ways to get products to consumers and all that, they kind of know that collaboration and technology are playing key roles in bringing those products to consumers.

Excellent. Kim, I'm going to pull you in here, just given your longer tenure at the company. But what have you seen over the past couple of years on the demand environment from customers? And where do we sit today entering or almost wrapping Q1 of 2024.

Yes. So what's interesting is a lot of what got us to where we are and our growth and how we have grown over time, those remain. And so that community go-to-market that Chad talked about that is sort of that gift that keeps on giving. It's one of what we would characterize as sort of that crown jewel. And we don't see that waning at all. We see that there continues to be a lot of change events that are happening, a lot of things and how retailers need to be thinking about retail in a different way, which gives us a lot of confidence and opportunities to continue to roll those community go-to-market campaigns, which then translates to more and more customers on our network. And then we have the opportunity to continue to grow our relationships with customers over time. So all of that still remains. What's also quite interesting is that during the pandemic, to your point, there's a lot of pluses, minuses things, the world was changing. And if you look at some companies, you may have seen that a big increase during that time as it relates to e-commerce, then you saw that sort of wane come back down in future years. If you look at our financial results, you'll see that, that has been pretty darn consistent. And so in any really, I'll call it, really good economic times, really bad economic times, our overall financial results really have not really changed by more than, call it, 1% or 2% either on the positive or the negative. And I think that really speaks to everything we're doing really is omnichannel. And so even though there's a lot of different puts and takes that are happening overall with our business being so focused and helping the retailers and suppliers be really effective in the omnichannel world, that has translated into pretty darn consistent overall revenue growth. So again, at any given quarter or year, there can be different dynamics, different challenges that retailers are facing that suppliers are facing, but we do believe that our products and our go-to-market approach remains very strong and vibrant going forward.

Great. Thank you, Kim. Chad, shifting the gears to sustainability. Where is that as a factor driving customer buying decisions or bringing on suppliers or new retailers on the platform? Is that a first order thing that they're focused on today? Or is it still more of a second order?

Yes. I'd say it's kind of a second or third order. There are some ways that we're helping customers today with their sustainability initiatives, especially the need for the buying organizations to get information relative to certain regulations or compliance aspects of the items that they're buying. So we often, when we're exchanging item information across our network, we're starting to see a lot more information about compliance-driven pieces of the data associated with the item whether it's a country of origin information, whether it's what the packaging is on that and whether it's meeting certain requirements. So quite a bit of it coming in -- being introduced at the item level. I'd say, over time, I think as this increases on the agenda, overall with the ESG initiatives, we do think we have a core capability around helping buying and selling organizations exchange information about their supply chain. So to the extent that there's more regulation and it does really raise up on the agenda of our customers, we think we'll be well positioned for that. But as of today, we don't see high demand when we do our voice of customer exercise around this particular topic.

Okay. Great. 15 minutes in, my AI buzzers going off of my pocket here. It's been the talk of the conference, obviously. So let's go there. How do you see the initial AI opportunities for SPS through your platform for customers.

Yes. Yes, absolutely. So one of the things that we continue to work on, and I think we'll continue to work on for years is just a faster, easier customer onboarding experience to our network. And this particular challenge is very well suited for some of the Gen AI technology that's taking shape right now. And so looking at all those process steps that have been traditionally done on a more manual basis in that process of onboarding a customer, there are some opportunities there for us to apply Gen AI to those and really streamline that customer onboarding experience. And we have some of those initiatives underway already using Gen AI. I'd say as we look to the long term, I mean, while that does help customers get on the network faster, which provides them benefit, provides us benefit. What we -- that's not really a new, say, product offering or commercial offering. And I think as we look to that, I'd say it's more likely not a more Gen AI type approach, but more kind of a data science-based AI approach when we look at the total data that we have on our network and how can we provide advanced kind of -- advanced analytics, more data science approaches to that vast amount of data that we have on our network to come up with insights and potentially use those insights to help our customers and further monetize the network.

Excellent. And Kim, let me bring you in too as you think about the P&L, and Chad, you hit on some of this with onboarding even. But what are some of the opportunities within SPS's own business for AI maybe beyond the onboarding situation to think about driving efficiency and more automation?

Sure. So there is a lot of work that we are doing to make sure we are leveraging that capability and those tools that will make us more efficient. Some of those will show up in the cost of goods sold and have an impact on gross margin. That really speaking to a lot of that sort of customer onboarding, even things of if there's an existing customer that has a question, and maybe they e-mail, well, we get lots of e-mails. And so how can we use that as a way to prioritize who we're going to respond to that's more urgent, faster than others. All of those will have an impact on that overall customer experience and hit sort of the cost of goods sold line. There's also an aspect that's really on, I'll say, the back-end technology. So as we build out retailer rule books, there are ways in which we have a lot of data within our network, we have a lot of those rule books within our network, but there is ways we can be utilizing or leveraging that technology to make that even more efficient. And that would be more on the, call it, that technology or R&D side. So we're excited about lots of opportunity there. I would say those are already things we were thinking about experimenting with doing even before AI became maybe as popular as a subject as it currently is, but we are certainly continuing to focus there as well.

Excellent. Let's turn to competition. How do you think about the competitive landscape? Are there legacy technologies? Are there small point products? How should we think about the 2 sides of the spectrum?

Well, I mean, our biggest competitor is still yet to be digitized connections in the supply chain. So surprisingly, there is a lot that's not connected on in a digital way. Still a lot of e-mail of excel spreadsheets going back and forth about purchase orders and PDF invoices going back and forth via e-mail. So there's a tremendous opportunity just to digitize these in a more formal way. We also see what was the historic approach to solve this problem, which was to buy on-premise software, and have a team around that on-premise software that would continually be working on complying with these ever-changing retailer mandates around how you needed to digitally connect. And for some companies, especially those with certain size and scale, we realize that they will live out with that approach until either they move all their software to the cloud, or those people that have been doing that for years get promoted or retire or whatever the case is and then they'll look for a more full-service approach. And then we still do see a segment out there of smaller providers that are maybe focusing on a particular segment within retail or have a particular niche or maybe just developed a bigger customer base, maybe they're not winning as much in the market now, but they do have a dedicated customer base. And on those, we view those as very logical customer tuck-in acquisitions over time. But a lot of those are kind of founder businesses or PE-backed businesses. So we'll find the right time for those companies.

The neat thing about a network business really is the network effects but also I think about it as competitive barriers. To your point on some of these maybe smaller or very niche solutions, they don't have the breadth or scale obviously, the network just from a supplier and retailer standpoint nor the data that you talked about utilizing in the future. How do you think about that as a competitive barrier? And what else are the factors why you win?

Yes. So I think it's a combination, I'd say, of the network itself and the power that comes from the network. And once we get a new participant added, they really see how beneficial it can be, and they'll add more trading partners over time. That in combination with the community go-to-market. So when we run a community go-to-market, our commitment is really to the retailer to get those digital connections on behalf of the retailer. But we have an open network approach. So those suppliers can connect through us if they choose or they can connect through another means and we'll take them through a testing and certification process to ensure that they're compliant with the retailer. Well, the benefit of that is even when we run one of those community programs, if the supplier doesn't join us at that point in time, they go through the testing and certification process, we then know who they are, and we know that when there's likely a change event, they have a new supply chain system, a new ERP system that they're already aware of SPS Commerce and then they're likely to join SPS Commerce at that point in time.

Excellent. You referenced potential acquisitions, but also had completed some recently, kinetics and order exchange. I think, brought on some additional EDI capabilities and e-invoicing. What can you tell us about where the integration processes with those? And maybe over the medium, long term, how do you see the cross-sell opportunity, whether it's specifically or just acquisitions that you've done historically?

Yes, sure. So yes, the ones we've done most recently, the order exchange was really a technology-based acquisition that provided us additional connectivity into our customers' business systems or ERP systems. They've been a partner of ours in Australia. And we just felt that by having that technology ourself, the customer experience was going to be better and easier. Maybe the one we tend to get a few more questions about is the acquisition of TIE Kinetix because this really represented both a geographic expansion and product expansion. So first on the product expansion was the invoicing capability that brought us and e-invoicing has been very popular in the investment community, especially with the strategy many of the tax companies have had around e-invoicing, we really see e-invoicing slightly -- from a slightly different angle. E-invoicing was really a requirement that we have around our fulfillment product, really outside the United States. So if companies were doing B2B transaction for direct merchandise, there was a requirement to drop a copy of the invoice to the government tax authority. And so by not having that e-invoicing capability, we did see that, that was a potential barrier to expanding the outside of our North American markets. And TIE brought us that e-invoicing capability. The second benefit of TIE was although we have our analytics business in Europe and have been successful with that in Europe, we didn't -- we were less successful with the fulfillment go-to-market. We really didn't have a go-to-market for our fulfillment product in Europe and TIE brought us a beachhead into the European market, so we could further develop our go-to-market strategy for fulfillment in Europe. And the integration of both those businesses is going very well. And in particular, with TIE, as we integrate that business, we get to understand their customers, their customer needs, we get to engage in certain new pursuits for new prospective customers. We get to understand the European market a little bit better here in 2024, which will help us formulate our longer-term thinking about how we can develop the European market for fulfillment.

Excellent. I'm going to see -- steady growing business, very profitable. You hit on kind of -- how you think about the framework for growth and profitability and investment initiatives that you undertake to drive durable, sustainable growth like you've had for years, Kim, as you highlighted?

Sure. So we have a stated goal that we believe we can grow our top line 15% or sometimes is greater for the foreseeable future as well as delivering nice profit and margin expansion. So from a EBITDA perspective, we said anywhere between 15% to 25% on an annual basis. So the way you can interpret that is, I mean there may be some years where 15% top line, 15% EBITDA, therefore, flat margin. Many times where if 15% top line and it's great -- it's that 15% to 25%, so therefore, you're also getting some margin expansion. And the reason we have such strong conviction in that is because there's multiple levers or multiple ways in which we have demonstrated our growth and those same ways we believe are still there going forward. So when we think about what drives that top line growth that community go-to-market that Chad and I have both spoken about. We still see a lot of opportunity there, and that drives us to get more and more net new customers. And then over time, those customers grow with us. So there's multiple ways in which that translates into additional revenue for us. Size of customers, our channel sales, bringing us to those larger customers. That is an important portion of our business, and that will remain going forward. We really see that as a great lead generation as well. Over time, we see the opportunity to not just upsell but also cross-sell with different products. So our 2 primary products we have today are fulfillment product and our analytics product. But over time, we see the opportunity to even have more products that can benefit our customers. So all of those would be reasons that would give us conviction on that top line. And then M&A, we've talked about M&A now. They typically have been more tuck-in type acquisitions really because it's quite fragmented in this space. But that certainly, we see the opportunity for -- that's a great way to add customers, so roll up strategy as well as product enhancement, technology enhancement or geographic expansion and we've done all of those types of acquisitions. So those are sort of, if you want to think about 4 buckets or 4 reasons why we have such strong conviction in our ability to continue to grow that top line at 15%. Then as it relates to the bottom line, we are sort of cloud native, cloud by birth, software-as-a-service, multi-tenant platform and architecture. And with that, there is ways you naturally will drive margin expansion. Going back, call it, 5 to 10 years ago, our EBITDA was more in that, call it, mid-teens. We exited last year more in the upper 20s. And we believe longer term, we can be in that mid-30s. We've done a lot in, I'll call it, the sales and marketing efficiency, which has driven a lot of that margin expansion. We see opportunity for continued margin expansion, particularly coming in the area of gross margin and we've said that we start -- we expect to start to see some of that in the back half of 2024 as we start to grow into certain investments that we've made and just getting more efficient in what we're doing. So lots of ways of that gives us that confidence and conviction to continue to grow at 15% top line and lots of ways that gives us the conviction to be able to still be investing back in the business for this great multibillion dollar opportunity but also to be able to deliver nice margin expansion and cash flow back to investors as well.

Kim, you kind of teed up my next question with some of the cross-sell opportunities. But let's talk about the expansion opportunity within existing. I mean there's more suppliers coming on in the network, if they bring in new suppliers to their retail operations. There's the new SKUs. How are you organized from a go-to-market to attack the cross-sell opportunity?

Yes. So when we think about the way we're organized, we have sort of 2 lead generation teams and then one direct sales team. The 2 lead generation team should be no surprise after listening to us talk here for 20 minutes. One is about building relationships with the retailers on the community go-to-market and building relationships with those ERPs or those VARs or the global systems integrators that brings us into those larger than typical customer size for us when they're making an ERP change. Then that -- then those leads go to our direct sales team, and what we mean by that, they're the ones that are doing the actual outreach to the suppliers and ultimately working to have them become a recurring revenue customer. Then within our sales organization, we have different pockets where some that might be more junior sales folks where they're going to be doing the outreach specifically, say, through that community go-to-market, where they have the prospect to reach out to, they're reaching out to on behalf of the retailer. Then we have some folks within the sales organization that they're working to expand that relationship, right? So we now have that as a customer. Now they're going to work and say, okay, what are other things we can do to help that customer ultimately be even more effectively? How do they get an [ A ] with their retailers, and how do we work with them. As their business grows, they add more and more retailers in which they are transacting and doing business with, how do we make sure we're servicing them and adding those retailers or additional connections onto our network. So that's a bit of sort of how we're organized and how we not only land the customer initially but how we then grow that relationship and ultimately are able to get more revenue and monetize those suppliers over time.

Okay. Great. I'm going to take a quick pause and ask anyone in the audience have questions. I still have a few more, but I want to make sure we get your topics addressed. Anyone? Over here.

I'm just curious, there's been a lot of macro just tailwind into B2B e-commerce specifically and also a push to marketplaces, even on the B2B side. I'm just curious how that plays into your strategy and if you've seen an influx of that type of sale within your platform?

Yes. So relative to B2B e-commerce, we tend to see in retail like these more defined assortments, less need for kind of configurator-type things that are often driving the B2B piece. And we also see that these types of network exchange of orders be kind of the predominant way that there's B2B ordering. So broadly, I think you could classify what we're doing is B2B e-commerce because it's kind of electronic in nature, but may not meet the characteristics that people are thinking about when they think of B2B e-commerce now, which is kind of this consumer experience. And then, yes, I think with -- any time that there's more paths to the consumer, whether that is drop-ship e-commerce, which is kind of extending the tail of the assortment for the consumer, whether it's now the evolution of marketplaces, whether it's buy online, pick up in store. All of this just drives more complexity in the overall orchestration of the supply chain which heightens the need for tighter collaboration between those retailers and those suppliers. I'm confident that consumer expectations are just going to keep increasing, keep adding to the long tail of the supply chain in retail and adding to the overall complexity, which will just get the focus back to these digital connections.

Any others from the audience? Investors? I'll circle back and give you another chance. You've talked about growth, and maybe we can just hit on the recent results. You wrapped a really strong year-end for 2023, exited the year 19% year-over-year growth on the top line. And Kim, you've addressed this but you laid out guidance for mid-teens revenue growth. As you think about the macro environment, where we are today relative to the guidance, any baseline assumptions for improvement or hopefully not degradation of the macro but underline the guidance?

Sure. So when we think about our business, we're fortunate that we have tens of thousands of recurring revenue customers, all being somewhat small in their own size. So we don't have large customer concentration, no customers, even a percent of our revenue. And so that provides a lot of, I guess, consistency, visibility within our overall results as well as trends that we have because we've -- this network effect that we've had, we've always had lots of customers that are all relatively small. What we've also seen is when the economy has been really strong or the economy hasn't been as strong, very little impact to our overall results. Again, might call it that percent or so to our overall business. So -- and part of that is because of how we price our product because it's a very logical question of wait a minute, you're primarily in the retail space. So you have to have pretty large swings depending on what's happening in the macro environment. But if we think about our core product, which is fulfillment, the way we price that product, it's primarily based on fixed fee for each retailer that the supplier is doing business with. So if you're using SPS Commerce and you are doing business with 10 retailers, you're going to pay SPS Commerce 10 fixed fees every month. Now under the covers, if that retailer has 100 stores or 1 store or maybe they're going from 100 stores to 10 stores that doesn't matter because we're not pricing that way. We also don't price on a GMV concept. And so because of that, even though we have strong presence in the retail space, and we -- our vision is to be the world's retail network, our overall results tend to be pretty muted and not impacted by either really positive economic times or really dire economic times. That being said, we do believe we are a very thoughtful business partner to help retailers as well as suppliers during this ever-changing retail space and dynamics that are happening. But in our overall results, you tend to not have much impact, either positive or negative.

Excellent. And then just thinking about -- we talked a little bit about EBITDA already. I think you've guided to around 30% EBITDA margins in 2024 and referenced earlier, the longer-term target of 35%. It's certainly not a leap of face going from 30% to 35%. But how do you think about some of the efficiency areas or where will that 5 points of lift come over time across the OpEx lines and gross margin?

Sure. So if you think about our spend as a percentage of revenue, although there's opportunity in each line item, for the most part, you -- we would look at more of that coming in the form of gross margin for some of the reasons we've talked about of some of the growing into investments and efficiencies that we see going forward. It doesn't mean we won't continue to add resources, of course, we will, but we don't necessarily have to do at that same rate or pace that we have historically. And G&A is another area very typical with most companies. There's fixed costs associated in G&A. So as your top line grows, you don't necessarily have to grow at that same level over time. Sales and marketing, we've made a lot of efficiencies there. There's a little bit there, but probably low 20s is where we see that ending up. And then on the R&D side, we do think that spend as a percent of revenue does feel appropriate for us. Longer term, we think sort of that 10 to 12-ish percent of revenue, which is pretty much right where we are, is appropriate for being a tech company and wanting to make sure we continue to innovate and make sure we're meeting our customers' needs.

Okay. Great. Last chance for audience. Any other questions out there from the investor crowd. All right. One last one for me, a big overarching one. Chad, the one full quarter, congrats again. But how do you see SPS down the road, don't know, 5, 10 years, no real time bound, but what's the long-term vision for the business?

Yes, absolutely. So I mean, thankfully, I mentioned this good situation and Kim highlighted the great market opportunity that we have in front of us. In the short term, we need to execute against this great market opportunity we have and the go-to-market programs that we have. And I think if we do that and don't distract the organization, we'll be really set up for success here in the short term. Over the mid to long term, I do think that there's additional ways that we will be able to help our customers with their supply chain. Really coming back to these core competencies that we have around the network itself. So potentially finding other additional ways that we -- that retailers and suppliers might be sharing data across the network and ensuring that we do that, whether that's the sustainability data that you mentioned earlier or other data that will become important for them to share. The other thing is really looking at these workflows that our customers are doing and what are the various other technologies that are involved in those workflows that we may be a better provider to our customers. And then finally, I'd say we have a vast amount of data flowing through our network. And I could imagine that there are some ways that, that data if we provide the right analytics and data science capabilities on top of it could be very attractive to our existing customers or potentially even new segments in the future. So if you look out 10 years, I could see SPS Commerce helping our customers in all those different ways.

Awesome. Chad, Kim, thank you so much for being here at the Morgan Stanley conference this year, and thank you, everyone, for attending.

Thank you.

Thank you.