TriNet Group, Inc. (TNET) Earnings Call Transcript & Summary

Good afternoon, everybody. I'm Kevin McVeigh, the HCM services analyst here at CS. Next up, we've got TriNet. We're thrilled to have Burton Goldfield, CEO of TriNet who's really, really, really transformed TriNet over the course of time. What I'd like to do is I'm going to sit down, start a little Q&A. I want to keep this as interactive as possible. So midway through, I'd like to open it up to you folks and we'll just kind of weave questions in and out over the course of time. But Burton, again, we're thrilled to have you as well as Jeff Hayward and Alex Bauer. Alex, I think it's the award for kind of flying in and out in the day. But Burton, I wanted to start out, again, thank you so much for allowing us to host you.

I started every HCM with the same question. It sounds very basic, but I think it's really important. Tell us about TriNet. And what I mean by that is tell us about the PEO within the broader HCM ecosystem. And what you've done over the course of the last decade is really transformed the company in a lot of different ways. So maybe just a little bit of context around that, and we'll kind of see where that takes us.

Perfect. Well, thanks for having me, and I've known you a long time, and I am absolutely passionate about the small and medium business space. We can talk about the macroeconomic environment. But basically, TriNet provides HCM and PEO solutions for over 22,000 companies in the SMB space today. We have grow -- we IPO-ed in 2014, March, and we have grown over that period of time, substantially based on a very strong and vibrant SMB community. And within that community, we service a group of select customers within the PEO model, which is 6 specific verticals around technology and life sciences, nonprofit and professional services. And we service the broader community of SMBs with the HCM solution through the acquisition of Zenefits, which occurred in February of this year.

And one thing I want to get into Zenefits. Maybe we'll start just with the obligatory macro because that's tended to come up at every meeting. But maybe just your view on that real quick this way we can kind of.

Yes. Our model is a per employee per month basis. So we are focused on the growth or lack of growth of our installed base community as well as acquiring net new customers. We're seeing a mixed environment today. We're serving our existing customers, particularly the smaller customers, there is a positive outlook of hiring within 2023, particularly in the 10 to 50 space in the 500 and over, we're seeing where there is slight declines projected in the hiring of employees. In the overall market, we still consider the market bullish in 2023, and we have seen significant growth over the last 2 years.

Again, you're kind of evenly balanced across those 6 verticals, so a pretty good diversification across different end markets. Going back to the revenue, Burton, obviously 2 main line items, right? You've got the insurance and you've got the professional services. What I think has been exceptional is over the last 8 years, you've done a tremendous job optimizing the insurance. Leading into COVID and then through COVID and as we come out of this. Maybe help us understand that process because it was a strategic decision to really optimize, I think, the WSEs and that proved to be very, very prescient in terms of what is done to the business more broadly?

Well, thank you. At the end of the day, we're listening to our customers and trying to add incremental value each and every quarter and each and every year. Obviously, the platform itself is a key part of that and the utilization and utility of the platform on top of that, within the PEO model, we're able to offer a single employer plan, which is a combination of 500 different medical plans that are available to each and every one of our customers. This is particularly important in the verticals we serve, where technology and financial services and life sciences are looking for very tailored and very specific plans for their employees to both attract and retain their employees. So that has driven much of our business because our belief is that each vertical has unique needs, nonprofits needs are different than financial services, which are different from technology. By focusing and becoming experts in the 6 verticals, on the margin, we believe there's more value to offer. That value converts to more revenue and that revenue converts to more profit.

And maybe leverage that into the strategic rationale behind Zenefits and what that can bring to bear?

The passion of TriNet is around the small and medium businesses. The ability to focus within the PEO sector on these specific verticals, eliminates a large percentage of the overall SMB market. So there's 2 key elements. One is to expand the TAM through the HCM solution for additional customers within TriNet. And number 2 is to leverage a cloud-based platform, which is API first, that Zenefits is built, very sophisticated testing environment and development environment to accelerate the capabilities, the functionality and ultimately the value of TriNet as a company to not only the HCM customers, but to the PEO customers.

And one of the critical points to that is, and just I think the audience can appreciate. At a certain point, there'll be as clients kind of grow, they grow out of the PEO model and Zenefits allow you to kind of capture some of that and kind of create a mini ecosystem, if you would. And maybe talk about that within context to the retention because I think over the course of time, we've continued to improve on retention despite just the natural nuances of the business model.

So as our clients grow, our most successful clients in the PEO industry ultimately grow out of TriNet. They want to have a self-insured plan. They want to have an in-house system by having an HCM platform that they can migrate to on a single instance platform, we believe we can keep customers quite a bit longer. We have existence proof of existing PEO customers migrating to Zenefits and we also have Zenefits customers migrating to the PEO environment. But the ultimate goal is to use a single platform, a single data model, a single payroll engine and a single reporting engine so that you could seamlessly use 2 different legal constructs within the same platform.

And maybe talking about the broader market for PEO, Burton. It's been an amazing evolution in terms of when we -- when I started in the business, at least, I think the default of you as it was California, New York, Texas and Florida. And what you've seen is from a regulatory perspective, that become much more friendly to the PEO, as the rules and regulations change a little bit. Maybe talk about that. And then within the context of the broader competitive environment, how you differentiate yourself from the ADPs, the paycheck and the asperities of the world?

So if you never heard a PEO over the next couple of years, you'll be hearing a lot more about it. Simply, complexity is the friend of the PEO model, the ability to operate a small business in a multistate environment is getting more and more complex as time goes on. Everything from the federal state and local laws to the tax laws to access to medical care with the change in the Dobbs Act. Each state is operating more and more independently, and you juxtapose that with the work from home, remote work concept, which has occurred with COVID, you're finding companies of 20 and 25 people in 10 different states to manage those employees in 10 states legally in a small company is highly complex. The PEO, whether it's TriNet or any other great PEO out there will intermediate that complexity and also provide joint liability. So the construct itself is getting more and more in fashion because complexity is becoming a very tricky issue as it relates to employment across the U.S.

And maybe just to drive that point a little bit further. When I think about watershed events in the industry, you've had the ACA Act in COVID. And my observation is it feels like there's a lot less volatility in the model where just the adoption rates on the health care, whether it's kind of traditional health care or workers' compensation, there's a lot less volatility around that. And I think part of that is the regulatory landscape has changed so much. Maybe talk about that a little bit because, again, even through COVID, there's -- it's just -- the trajectory of the margins continue to really, really scale relative to prior cycles.

So you can break it down into as it relates to access to health care in all 50 states, there's a price component, there's a choice component and there's a user experience component. These are very personal issues to every employee, to every employer who provides the medical care and we believe that the ability to optimize around price choice and user experience through our iPhone app, through our relationships with great carriers and through our ability to price to risk has helped TriNet grow over the years. But they're all separate aspects. One, obviously, technology enables all 3 of them. But at the end of the day, are you providing the right plans for the vertical you're serving and the employees within that vertical in the states that they are working from.

I think one of the more clear examples is, and I think you talked about this more recently, you've been able to tailor the plans based on the needs of your employees and whether they need to tweak kind of some of the offerings to make it more manageable from an expense perspective, been able to do that almost real time.

Absolutely. So people are looking for some high deductible plans. There's other people who have asked us to put in travel benefits for women's health care if they're not available within 100 miles of their home. We've added capabilities for adoption assistance where companies feel compelled to provide that as a benefit to attract and retain people and things like [indiscernible] to be able to have a program so that people can have tax deductible payments for education. It becomes a highly personal issue to a company, to a founder, to a CEO. How do they want to structure their medical plans to satisfy not only their economic needs, how much are they willing to spend, but to attract and retain the right people. There is still a tremendous fight for talent out there. Don't kid yourself when it comes to the sectors that we're involved in great people in technology, great people in financial services, same with our nonprofit space. They want to attract and retain the right people. And the benefit package is offered, the extended benefit package is really important. But as you point out, there's a limitation to what a company can afford and frankly, what they're comfortable supporting.

And it's amazing to your point, the benefit packages become -- it's almost -- the compensation is comparable. It's the benefits package a lot of time is differentiators. I do want to open it up to the office because I don't want -- to the audience because I don't want to leave it all till the end. Anyone have any questions.

Can I just ask -- you said between verticals, it's different, the [indiscernible] Can you explain that? Because I feel like insurance for me is the same as someone in health care.

So in hospitality and retail, the packages for insurance are radically different than what is being offered in the white-collar space, what is being offered in financial services and technology. In terms of deductibles, in terms of services that are being rendered. So the difference in cost can be fairly radical when it comes to the medical insurance. When it comes to the overall features and functionality of the PEO in many of the sectors, they are really excited that we have an iPhone app that you can request and approve PTO, that you can look at your paychecks that your medical benefits are digital encoded within our platform. And there's other verticals that that's not a relevant factor. So just tailoring the needs to a particular vertical. Another interesting one is that in the nonprofit space, the average compensation is about 1/3 West in our other verticals, but the amount they're willing to pay for benefits is actually 10% higher.

Any other questions? No. All right. I'm going to keep going on. Burton, we're coming up on a year, just about a little under a year from when you announce Zenefits. You closed it in 2022. Maybe talk about kind of expectations versus what you've seen so far. And again, what's interesting and I think one of the subtle points to the PEO model is there's a lot of complexity in the sales process. Just much more so than traditional payroll, things like that. So help us understand how you synchronize the leverage of the technology with the still very complexity of the sales. And I want to open that up also broader to your ability to recruit sales, scale them, which you've done a really nice job of. And there's a certain amount of just scalability that's on the come from folks who've recently hired as they continue to kind of scale from a sales force perspective.

So 3 different thoughts there. First, I'm delighted with the first 10 months of the Zenefits acquisition. The platform is better than I expected, including the development environment and the infrastructure that was built, that will be evolved into our next-generation solution. It is critical in my mind to keep up with technology, not for technology's sake, but for the features and functionalities that will need 2, 3, 4 years from now, and I believe that the Zenefits platform acting as a catalyst for TriNet will allow us to have the single data model, the single reporting capability, one payroll engine between PEO and the HCM solution. The second thing is the people. It's a great group of people, spend time with them last night here in Phoenix. We have an office right here. And they have a tremendous desire to build a great company around the SMB space, which is music to my heart because that's where my passion is. I think from the ability to start rolling out solutions, we have a solution called Integrated Open Market, IOM, which allows you to bring your own benefits. We have turned to Zenefits to build the benefits administration tool everybody coming on, on January 1 using IOM, we'll be using the Zenefits platform. So we're seeing an immediate ability to leverage both the technology and the expertise of Zenefits within that environment. When you talk about the market and the go-to-market strategy in sales, the second issue is it's a very interesting market. I am learning a lot about what an $11 payroll customer expects. How you go to market with that and how you bring them on board and keep them a while. It's different, and it's fascinating. The cross-sell, upsell opportunity is significant. So if you think about our solutions today, at one end, you have this all-inclusive PEO solution. You get your workers' comp, you get the single employer plan with the medical benefits. You get the transfer of liability. At the other end, you have this HCM platform with Zenefits. The goal is to fill in the barbell with incremental services and products that are valuable to both your PEO customer and your HCM customer. We've started to do that. One of the other acquisitions we made was Clarus R+D, which allows companies to file for their investment tax credits and have a high probability of getting the return on that. That is applicable to the payroll customers on my HCM Zenefits platform as it is my PEO platform. I talked about things like enrich, again, applicable to both of those. So as we fill in the barbell, as we build the integrated platform, which is not a big bang, it's every quarter, adding functionality, we will be able to meld together 2 capabilities, 2 great teams and be able to service a larger percentage of the market. From a sales side of it, there is not an outbound sales engine on the Zenefits side. As you know, on the TriNet PEO side, it is outbound sales. we will be growing the sales team at TriNet. We believe the opportunity is there. We believe the functionality and capabilities of both the HCM and the PEO solution are there. And over the next year, we will grow the TriNet sales force in general.

And what's amazing is when you talk about that down market, to essentially -- there's no human element into it, which is a very stripped-down DIY implementation and really sales process as well. And that just opens up a much larger addressable market. And when you think about that, that allows you to help these companies grow and thrive over the course of time and adopt additional benefits.

Get them earlier, keep them longer. It's both.

Yes. And when you think of like in terms of how that expresses itself in the model, it should lead to more revenue growth right through not only additional revenue, but higher retention, more leverage from a margin perspective as the delivery becomes more technology-focused. And is there a way to think about ability to kind of shift on the front end and the back end from a delivery perspective, kind of where you are today from a technological perspective on the front end and then the back end too, because obviously that will be something that helps scale margins over time.

Yes. So I think about wallet share and market share, the wallet share will be the ability to cross-sell and up-sell the existing 20-plus thousand companies we're serving both PEO and HCM. From a market share standpoint, as you just alluded to, the ability to use technology to nurture leads to define intent before we start the sales process, makes our sales reps more productive. Our productivity is doing well on the sales side and gives them time to look for net new business outside of the incoming leads. So we are using the nurturing capabilities and a lot of the capabilities that have been developed both by TriNet and Zenefits, to significantly change the intake model of the leads that we're going after. There's millions of SMBs in that $60 million TAM that we're going after. The efficiency of being able to find those opportunities that are either very ripe for the HCM solution, possibly a single state from the PEO solution, multiple state is a high indicator of a desire to move and close in that direction, whether they're growing or shrinking, is another aspect, what states they're in and what access they have to health care as a third.

Can we talk about the competitive environment a little bit more broadly in terms of kind of from kind of small to medium-sized business to one of the things I think just as a general rule, you tend to not be much above mid-market because of the economics when clients scale. So maybe remind us of that. But just how often one of the things I've also thought so intriguing is the penetration rates are still so low. You're one of the largest PEOs in the space. So maybe how we think about Paychecks relative to ADP relative to Insperity where you sit today and you've obviously had amazing, what we call WSE growth, which is your worksite employees, you continue to grow that and why that growth is important?

So I'm happy to report after 15 years or maybe not happy to report that still 50% of every net new quote that we generate is uncontested, meaning there is not an ADP or a Paychecks or an Insperity or anybody else you name. It's still a large addressable market, and there's still a lot of opportunity. I believe there's some great competitors out there, but the competitive pressure is not the focus. The focus is to efficiently attract the right customers and keep them a very long time. If they leave a TriNet or they leave somebody else, there's a high probability they're bringing it in-house. They're not going to another PEO. So the question is, can we efficiently bring on the PEO customers and graduate them to an HCM solution that adds the 5-year average lifetime value make it 6 years, 7 years, 8 years. The economics of the model are tremendous at that point because all of the selling costs have already been amortized. You understand the liability of the customer, you understand the service model, can you evolve to keep them longer.

And as you think about how Zenefits starts to scale from a pure cloud -- would kind of consider more traditional cloud revenue. Can we think about where that sits today? And then just without getting too specific, how should we think about that scaling over the course of time?

I think it will become a larger portion of our overall business. It is a very valuable asset over the long term to TriNet. There is, again, a much wider TAM because we're selective in the PEO. There's a size TAM that we don't address with the PEO that we can now as Zenefits and ultimately, what we are working on is the unification of the marketing funnel. So every lead that comes in will now have a product at TriNet, where before, a very small percentage of the leads that came in would go to our PEO solution. So now we can service the broad spectrum of the market. We're doing a lot on the Zenefits payroll engine, which is fantastic. And the team is developing new capabilities on a monthly basis and releasing those capabilities. So at the end of the day, I believe that the SMB market is vibrant, and I'm cautiously optimistic about 2023. I believe there's a solution for the SMB market within the product line that TriNet's offering, and I'm optimistic about where the company is going, but I'm also, frankly, very optimistic about the PEO market. and all the other competitors in this market.

We spent a lot of time on the fundamentals of the business, not too much on capital allocation, and that's a real part of the story too. Maybe talk about the Dutch tender that you recently completed and just the uses of cash flow, obviously, there's been some M&A, but how do we think about that going forward? Again, it was a pretty sizable Dutch. The business creates a lot of cash flow, which creates a lot of optionality for shareholders.

So as you say, it's a capital-light free cash flow business that has been pretty consistent over the years I've been with the company. This year, with the current Dutch tender auction that's going on if that's successful, we will have returned over $600 million in capital, and we have bought Zenefits for a couple of hundred million as well as 200 -- or 2 additional acquisitions. In total, we did all of that through free cash flow and didn't borrow any additional money. From a capital allocation strategy first is to grow the business. We're a growth company, and we have to invest in growth. We're investing in the next generation of platform. We continue to do M&A, big and small. As I said, I love the Zenefits acquisition. We're having so much success with leveraging both the cultures and the direction the company was heading to build the next-generation platform. And finally, the return of capital, which you mentioned is an important part of our strategy. So we're pretty proud of the free cash flow and the opportunity to continue to grow the business.

Maybe just in the closing minutes here because I think it's important to talk a little bit about -- you manage the business incredibly well through COVID, there's been a lot of benefit around kind of margin. And how do we think about you've levered enabled you to employ some tax credits -- well, incent -- I'm not using the right word. The kind of credits to -- back to your existing clients? How should we think about that within the context of the normalization of health care, if are we there? Or how do we think about that as we go into '23 as well?

We're not quite there, but we're close. We're back to a more normal environment. I do think the ability to help companies get their PPP loans to get the forgiveness on the loans to get the tax credits. More and more people are looking at a model like TriNet in the small and medium business space to fundamentally help them not only make them more efficient, but actually get them dollars return to them in cash based on the scale and the expertise of a company like TriNet. So I do think COVID changed things not only from the remote work, which makes employment more complex but also from the concept of what do I expect out of my vendor and what can they do as a true partner. I consider, particularly in the PEO model, to be a true partner. To me, a partner is, you make a mistake, I pay for it. That's a partnership. That's different than a partner saying, "Hey, I sold you software and have a nice day." So I do think the model itself is becoming more and more relevant. And I think you'll see a lot more of it over the next couple of years, just judging by the private equity interest in the private companies from the growth and success of other companies like TriNet. And my only hope is that TriNet continues to deliver unparalleled value, grow both our per employee per month fees as well as increased market share.

And I can tell you firsthand, you're seeing a lot more of these more traditional software companies in the services space, start to lever up the service component because it's just not enough to your point, to deliver their software, their clients really need to leverage the service component of it to really optimize the outcome. And you've kind of gone the other way, which is a really nice outcome for you as you leverage.

Well, there's an interesting dichotomy that people who pay the last, the least need the most help. And that's the interesting part of the model. The people that have the significant issues are the ones that don't have the in-house talent but also want to pay the least amount for payroll. And that's a challenge. So you have to be able to scale it at an efficient price that gives access to the smaller companies who don't want the full service solution.

I'll open it up, if not anyone else, just in, as we close it out.

Well, thank you all for coming. We appreciate it.

Thank you all.