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

Can you hear me? Yes. Perfect. Huge crowd today. Good to see you all.

Yes. So thank you, everybody, for joining us. I appreciate you being here. My name is Ryan Fenske at BofA Securities. I'm thrilled to host TriNet Group again this year at our conference and here on stage with me, I've got Kelly Tuminelli, Executive Vice President and CFO. Kelly, thank you so much for joining us.

Ryan, great to be here with you.

So to kick us off, could you provide a quick overview of TriNet for anyone less familiar with the story?

Sure. Sure. I'd love to. TriNet is -- what we do is we provide a suite of HR services to SMBs. Most of our roughly $5 billion worth of revenue comes through our professional employment organization model, our PEO model. There's such a need for help on the part of our customers that it is a large market opportunity. And what we've done and what we've seen is with the proliferation of HR technology out there, our customers really appreciate kind of the service model that we provide and the service aspect of our model.

Great. And then maybe -- so think about just kind of the overall economic backdrop, you guys have a really interesting vantage point into the health of the SMB economy. What are you seeing across your key verticals in terms of employment trends and hiring as we approach the end of the year?

Yes. We get that question a lot, Ryan. TriNet -- you know one thing for people that may be less familiar with the story is we've been around for over 30 years. And we've seen a number of different economic cycles. Complexity is our friend, and it really isn't abating. The current cycle has seen no employment growth really outside our verticals. So you've seen it in government. You've seen it in health care, large company employment in areas that really has passed up the verticals that we serve. But I do think it's making our value proposition resonate even more strongly because it will become a virtuous cycle as rates normalize or at least stabilize and people get back to investing.

Okay. Great. And have you seen any early indications from your customers on what hiring plans are looking like for 2025?

Well, I think our clients tend to be an optimistic bunch. They started the SMBs for a reason. And so they're always optimistic about the opportunity in front of them. That being said, we really haven't seen hiring start yet, particularly in the tech sector. It's a little bit too early for us to really call it, but I do think that the uncertainty with an election in front of people as well as just the uncertainty around the rating environment was keeping people from investing in growth. We are seeing that loosen up a little bit, and we're hopeful, but we're just hoping that with the election uncertainty behind us that our clients will get back to hiring.

Okay. Great. And shifting gears a little bit. What are some of the broader secular tailwinds for the PEO industry that investors should be thinking about?

Yes. Well, historically, complexity has been our friend. We've seen a proliferation of state regulations and federal regulations for that matter. The new administration does seem focused a little bit more on deregulation, but in actuality, I really don't think HR employment regulation is going to decrease over time. It's funny to say this because in the short term, health cost inflation can be a headwind. But really, in the long run, it's a tailwind for us in our business. And the reason it's a tailwind is people are looking for solutions because for a small and medium-sized business, if you want to provide good quality benefits to your employees, it costs a lot of money and you're looking for solutions to be able to do that in a way that's going to resonate with your employees, but also provide a lot of value to them while it's not costing you as much. And I think TriNet can really help provide those types of solutions.

Okay. Great. And PEO is clearly a very underpenetrated market. I think you've talked about just 7% of small- and medium-sized business employees currently fall under a PEO. I guess given the value that you add for your customers, why do you think penetration is still so low?

Well, I think one of the things is industry awareness. Now for one, there's a certain type of business that's just not the right business for a PEO in the SMB market. And if you're -- if you don't have a level of complexity, let's say, a sole proprietorship or something that is a little easier to manage within 1 geography, et cetera, you probably don't need as much of a packaged solution like you would get with the PEO, but for companies where they do have more complexity that they don't want to invest in a full HR staff, co-employment model, providing HR health, workers' compensation, training, compliance is a really good thing for them. I think overall, there's an opportunity that competition actually creates an opportunity with awareness. And we will be focused on a few targeted markets, but it is still relatively concentrated in the same 6 or 7 states.

Okay. Great. And then a little over a year ago, you launched the new broker channel. As to start there, why might a broker that was independently selling health insurance to an SMB prior want to partner with TriNet?

Well, for a segment of broker customers, we are a great fit. We target smaller small- and medium-sized businesses. And we can actually provide scale to those brokers to manage their SMBs. We provide a comprehensive solution for SMBs that solves their customers' problems. So it takes -- it really offloads a lot of the broker-customer service expense that they have because we're scaled to do that. And so for us, for the right brokers and right broker partners, it can be really a symbiotic relationship.

Okay. Great. And we talked about the roughly 7% market penetration. I guess how should we think about the opportunity for a growing broker channel to expand that over time?

Yes, I think it can be helpful. I think we have -- not only do we have an education opportunity with small and medium-sized businesses, but we do have an education opportunity with the right broker partners. The -- a broker channel gives us the scale we need from a go-to-market perspective, but it also can give us access to new geographies where we haven't historically had a big direct sales force presence. The challenge brokers have sometimes is being able to provide technology in an efficient manner. And because we've got our proprietary technology, our Benefits administration tool, we can actually provide PEO best-in-class service experience, which then allows a broker to be able to help serve a client in another way through their P&C lines, et cetera.

Okay. Great. And then in terms of your direct sales to customers, you've also made sizable investments in growing the sales force over the past 1.5 years. I guess, are there specific verticals or geographies that you've been particularly focused on there?

Yes. Well, you're right. We have -- we've made it very public that we were investing in our sales force because we did -- we had let it shrink over time, and we really needed to build back up our sales force. But now really what the secret sauce is, is really keeping that sales force longer. There are some specific targeted geographies where we're investing, but we really think it has to be targeted because really, what you need to do is within an under-penetrated market, our best lead source is referrals. And so getting the name recognition out there doing a good job with new customers, helping them be able to refer that to other customers, it's really that investment in those targeted markets that gets us the name and brand recognition and then it becomes a self-fulfilling prophecy there, but sales force retention is absolutely key because as a sales rep hits their 2-, 3-, 4-year marks, the productivity increases pretty substantially, and we want to be able to recoup that investment that we've made in our sales force. And the more tenured we can get them, the more effective they can be. So those are some of the things.

Okay. Thanks for the color. And taking a step back, it'd be great to run through the competitive landscape. How has the environment changed, say, over the past few years?

Yes. Well fundamentally, I don't think there has been a significant change at least in the competitive landscape for PEO competitors. There's always new competitors coming into the market. The largest players are still the largest players. But there has been a proliferation of HR technology and technology solution providers out there, and that's the way we need to see our model. We need to see our model as not just a PEO, but really providing HR solutions to our customers. Our customers generally prefer the simplicity of like a bundled solution that's wrapped in excellent service. I think every PEO competitor out there maybe takes a little bit different approach. And you may have heard the term before, you know one PEO, you know one PEO, which just really says that depending on an individual customer's needs, our solution hits a different set of customers than maybe some of our other competitor PEOs out there. But the thing that we think makes us maybe a little bit different than some is owning our own technology, and it will give us significant advantages in terms of both client and work-site employee experience.

Okay. Great. And so I think it kind of leads into my next question on, I guess, how would you frame the key differentiators between TriNet and competitor offerings. You mentioned the technology piece. Anything else you'd highlight there?

Yes. Technology is a big part of it, but the other -- another thing that makes us a little bit different is really our vertical approach to our marketplace. So we believe that our vertical approach, we can actually hit unique needs that different verticals have. And I think we can bring a level of expertise that's different than others.

Okay. Great. I guess then maybe shifting to insurance and some thoughts on how health costs have been trending, I guess, on insurance, you have a rather unique model where you guys take risk on roughly 80% of your insurance book. I think first, maybe can you walk us through the mechanics of that for anyone who's not familiar? And then second, why TriNet prefers that model?

Yes. No, happy to, Ryan. Well, first, we do individually assess the risk of every group that we bring on to our TriNet PEO, and we price them individually based on overall demographics and risk characteristics. We take a deductible layer on a little over, as you mentioned, 80% of our health fees, where we -- while we're offering fully insured plans, the individual takes really -- their individual deductible. TriNet then covers claims up to an individual pooling limit, which is $500,000 per life. Very few of our customers actually hit that, but that's why you have insurance. A cohort of our business does reprice quarterly, which is a little different than some competitors as well. But what that does is it enables us to be able to respond to trends as they're emerging. And because we actually do take risk, we're managing and maintaining a really detailed claims database. It helps us better assess our expected ongoing claims risk as well as see some of the underlying trends so we can make sure that our pricing includes that. At the end of the day, while it may be a short-term headwind when you see significant health cost inflation, we do think it's a long-term tailwind for our business. And the reason for that is as it becomes a bigger part of an expense of a business, we can be there to help provide solutions.

Okay. Excellent. And you mentioned kind of the near-term headwind from health care cost inflation. Obviously, that's a challenge that has not been unique to TriNet this year. I guess from your vantage point, has that stabilized as we wrap up 2024? And I guess, as you guys reprice the January 1 cohort, should that be an increase that's kind of consistent with what you pushed through on October 1?

Yes. It's a good question. And it is one of the benefits of being able to renew a cohort of our book every quarter is really taking that information in and then assessing what type of a rate increase is appropriate for each individual client. When I go back to our October 1 renewal, and that was low double-digit level, the good news is we've had very strong retention of our clients. So what that tells me is that low double-digit renewal was about right in terms of it was appropriate for the cost trends that we're seeing and the competitive environment out there and that we're not priced at a level that's different than we're seeing from an emerging trend perspective. We are nearing the end of the renewal cycle for January. It is slightly higher than October. It's a little different mix of customers, but it's really a little early to call final retention on that at this point in time, but we don't have any reason to believe it won't be strong. One thing I mentioned on the third quarter call is part of our renewal strategy as well is we're not assuming that health care inflation is going to abate at this point in time. We just really haven't seen signs of that. And so our pricing does have to assume an elevated level of health cost inflation over time.

Okay. Great. I appreciate the color there. And then you guys have also been doing some work this year around centralizing data and I think an overall increased level of investment in your data and analytics capabilities, particularly with respect to how you manage risk. I guess what's signaled to the team that there was an opportunity to improve here? And what are some of the benefits that you expect to see over time?

Yes. Well, in the area of data and analytics, I mean think about the developments that have happened over the last few years with artificial intelligence, with just tools that you can use to more quickly assess and synthesize that. I'm going to start with the investment in insurance capabilities. So back in June, we announced Tim Nimmer was joining our company to lead our insurance services and operations. And he's been able to really strengthen our actuarial team and bring additional capabilities there. From a data and analytics centralization previously, we had had a lot of pockets of really good data and analytics across the company. But we felt like centralizing that, we could really invest in certain capabilities, enhance data science, and it wouldn't be diluted. And we would be able to see from point-of-sale, prospect information all the way through our colleague engagement survey scores and all the things that really impact the client experience and their propensity to stay with us. And it's just an investment that we will continue to make as we look forward.

Okay. Great. Speaking of investing in the business, maybe you could shift gears a little bit to financial policy. I guess, can you just walk us through how you think about capital allocation and what your relative priorities are today?

Yes. Happy to. And as a CFO, that's like my favorite topic. Our capital priorities haven't changed. Last year, just to remind everyone, in 2023, we made our financial policy public, and we really have gone through and tried to make a concerted effort. So we were very transparent and clear with where we were prioritizing capital. But let me just reiterate. So first and foremost, our first priority is investing in our business for growth. So investing in profitable new business. With the new CEO, we have had an opportunity to review those priorities and really call out the best ideas from a whole pool of good ones. We've zeroed in on a few that we're going to be investing in even further and we'll be giving more information on that kind of in the February timeframe when we roll out our fourth quarter results and our guidance for 2025. As a part of the investment in organic growth, we are working on managing our expenses prudently because we're trying to create cost savings that can be repurposed for some of these strategic investments. Our next capital priority, we talk about M&A. I'd put that in the opportunistic category at this point in time, but we will continue to return capital to shareholders. We initiated a dividend earlier this year. And you would expect to see us continuing to invest in buybacks and dividends as appropriate and in line with our capital policy. And lastly, I'd say we're planning on staying in the targeted leverage range that we laid out last year of 1.5 to 2x adjusted EBITDA and maintain an appropriate buffer, but while maintaining a prudent balance sheet.

Okay. Great. And just to clarify on the cost save opportunity that you mentioned, is that something you plan to discuss along with guidance in -- during the next quarterly earnings report or...?

Yes. And it's something I think we've been highlighting on most of our earnings calls this year as well. I think we've got the whole company focusing on a set of discrete priorities and making sure that we're really also focusing on enabling our colleagues to do their jobs efficiently and scale our service delivery in a way that makes a difference to our customers.

Okay. Great. And then on the M&A front, could you give us some color on how that pipeline is looking today? Are there any opportunities that -- or specific priorities that you're focused on?

Well, what I would say on M&A is we're -- there's so many opportunities for organic growth right now, that that's our #1 priority. We will always be opportunistically looking at M&A for the right solutions that fit our offering. But again, with the lens of, let's make sure it's absolutely the right opportunity that can help us grow the business and grow profitably.

Okay. Got it. And you mentioned the leverage range that you guys operate within. You've done an excellent job of maintaining a conservative balance sheet and a conservative leverage profile. You're kind of within that 1.5 to 2x range today. I guess why do you think that range is the right level for this business? And would you be comfortable temporarily going higher for the right transaction?

Yes. Well, I just mentioned our M&A priorities. And right now, we're really focused on organic growth. I think as you've probably read our ratings reports. If you look at our ratings reports, I think there is an acknowledgment that, hey, for the right strategic transaction, there is an opportunity to go above your target leverage range as long as you've got a path to pull it back within, we're not contemplating that at this point in time, but it is something that gives us a little bit of flexibility to work it back into an appropriate range over time. But at the end of the day, we've got a really strong cash generative business that allows us to be able to do that.

Okay. Great. And then just on kind of like the 1.5 to 2x range specifically, I guess, why is that the level that you guys feel like is appropriate for TriNet?

Yes. It's just -- it's one, historically, we'd been very under-levered. We wanted to set some guardrails to make sure that investors understood what we were targeting, and it allows us to be comfortable throughout a number of different economic cycles. So I think it is the right level at this point in time. And at the end of the day, we're working on building an enduring company.

Okay. Great. And you mentioned some of the headroom that you guys have with the credit rating agencies. But I guess, taking a step back, big picture, how do you think about your credit ratings? And over time, is there a desire to get to investment grade?

Yes. We'd always love to be investment grade because we like the cost of capital. But I'm very comfortable with the rating that we're at right now. And I think the way that we can improve that over time is growing profitably. I think it's really more of a scale question than it is a leverage target question.

Okay. Great. And before we wrap up and see if there's any other questions in the audience, I know you can't talk about guidance for 2025 yet, but I guess as you guys look out to next year, what are you most excited about in the business?

Yes. Well, I'm excited that we've got a company that's all rolling in the same direction, focused on a discrete set of -- a discrete set of important priorities to help us grow and grow profitably. I'm excited about the market opportunity out there. I think with the election behind us, I think we've got an opportunity for people to think about -- think back to growing their business, not the level of uncertainty that might be out there. And I'm excited to where we covering SMB hiring.

Excellent.

Great. Any questions from the audience?

So you talked a little bit about kind of like returning capital to shareholders. Is there anything on the debt side that you're planning in the coming year, I guess, the leverage is already quite low. So there's probably no need for any LME, but just like how do you think of kind of managing that interest expense that you're talking about, given that you are very lowly levered and your coupon -- I mean, your coupons are like in the 7% or so.

Yes. I mean in terms of managing our debt, right now, we have about $900 million in bonds and another $175 million borrowed on our credit line. We are working on maintaining that within our target leverage ratio. We'll probably reduce the exposure on the credit line a little bit. And -- but right now, we don't have imminent plans for an issuance.

Great. Well, Kelly, thank you so much for joining us. Appreciate it.

Absolutely, Ryan. It was fun to be here. Thank you.