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SPS Commerce, Inc. (NASDAQ:SPSC)

Q4 2012 Earnings Conference Call

February 6, 2013 16:30 ET

Executives

Nicole Gunderson - Investor Relations

Archie Black - President and Chief Executive Officer

Kim Nelson - Chief Financial Officer

Analysts

Laura Lederman - William Blair

Tom Roderick - Stifel Nicolaus

Scott Berg - Northland Capital Markets

Jeff Houston - Barrington Research

Pat Walravens - JMP

Michael Huang - Needham & Company

Operator

Good day, ladies and gentlemen, and welcome to the SPS Commerce Q4 2012 Earnings Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will follow at that time. (Operator Instructions) As a reminder, this conference call is being recorded.

I would now like to turn the conference over to Nicole Gunderson, Investor Relations.

Nicole Gunderson - Investor Relations

Good afternoon everyone and thank you for joining us on SPS Commerce’s fourth quarter and full year 2012 conference call. Joining me on the call today is CEO and President, Archie Black, and CFO, Kim Nelson. Before turning the call over to the company, I will read our Safe Harbor statement.

We will make certain statements today including with respect to our expected financial results, go-to-market strategy, and efforts designed to increase our traction and penetration with retailers and other customers. These statements are forward-looking and involve a number of risks and uncertainties that could cause actual results to differ materially. Please note that these forward-looking statements reflect our opinions only as of the date of this call and we undertake no obligation to publicly update or revise any forward-looking statements, whether as a result of new information, future events, or otherwise. Please refer to our SEC filings as well as our financial results press release for a more detailed description of the risk factors that may affect our results. These documents are available at our website, spscommerce.com, and at the SEC’s website, sec.gov.

In addition, we are providing a historical datasheet for easy reference on our Investor Relations section of our website, spscommerce.com. During our call today, we will discuss adjusted EBITDA financial measures and non-GAAP earnings per share. In our press release and our filings with the SEC, each of which is posted on our website, you will find additional disclosures regarding these non-GAAP and adjusted EBITDA measures, including reconciliations of these measures with comparable GAAP measures.

And with that, I will turn the call over to Archie.

Archie Black - President and Chief Executive Officer

Thanks, Nicole and welcome everyone. We are very happy to share with you today our fourth quarter results, which marked another great year for SPS Commerce reflecting the dynamic change we are seeing in the retail industry.

Fourth quarter revenue increased 42% to $22.5 million and adjusted EBITDA was $2.6 million. Recurring revenue grew 47% in the fourth quarter. For the full year, revenue grew 33% to $77.1 million and adjusted EBITDA grew 66% to $9 million. Over the year, we have executed against all our key metrics. Our recurring revenue grew 38% in 2012, customer account grew 11%, and wallet share with those customers grew 15%. This growth has come from many factors. We successfully added new customers adding scale to our network and driving revenue growth. We have sold our customers with new features and functionality, such as EDI Compliance and the Universal Catalog service and added new connections to our existing customers.

We continue to grow our channel strategy leveraging the value-added resellers who sell and deploy new supply chain solutions, introducing SPS Commerce to new prospects and broadening the reach of our network. With the successful acquisition of Edifice, we bolstered our market leadership with its advanced analytic solution and a solid roster of Fortune 1000 companies. We reinvested in the business driving innovation and distribution while staying focused on profitable growth. And we successfully completed a follow-on offering. We have strengthened our balance sheet, and enables us to continue to make strategic acquisitions to further augment our position as industry leader in the supply chain world.

2012 was also a pivotal year for the industry as the supply chain ecosystem continues to evolve and adapt to new technologies and greater consumer demands. First, there is the need for increasing collaboration among the members of the supply chain. In fact, in a study we commissioned of over 500 SPS Commerce customers and partners nearly all expresses as a top priority for the coming year. We believe this in turn will drive more COG-based EDI solution replacements within the retail ecosystem. And with our market leadership, we feel confident that we will be able to take advantage of these change events.

Second, e-commerce has been growing rapidly and accounts for $1 trillion in sales per year. Retailers and suppliers are like are being forced to evolve their strategies to play in this market, whether it be brick and mortar store creating an e-commerce strategy for the first time expanding the number of SKUs offered for building the bridge between show-rooming and in-store purchases, new adaptations must be made to stay competitive.

Third, the increasing consumer expectations and the power they have over the entire retail ecosystem has forced companies to change their practices as they are now competing on the basis of customer experience. Amazon is a great example of this. One of Amazon’s most influential effects on consumer expectations is in the order to fulfillment process, which is now a benchmark that weighs on their entire retail ecosystem. Which leads me to the fourth industry trend, the distribution needs of retailers are changing, dropped shipping capabilities and third-party logistics providers are becoming more and more important in the supply chain cycle.

Given all of this, we are very excited about our business and our future prospects as we enter 2013. We see a multi-billion dollar opportunity in the retail supply chain in front of us and we are focused on growing our customer account and wallet share in order to take advantage of it. We will do this by continuing to do what has made SPS Commerce so successful in 2012, investing in sales and marketing by expanding our product footprint and looking for strategic acquisitions that will bolster our market leadership even further.

With that, I will turn it over to Kim to discuss our financial results.

Kim Nelson - Chief Financial Officer

Thanks Archie. As Archie mentioned, we had a great fourth quarter. Revenue for the quarter was $22.5 million, a 42% increase over Q4 of last year and represented our 48th consecutive quarter of revenue growth. The increase in revenues is a result of an increase in recurring revenue customers and an increase in what we refer to as wallet share, which is the annualized average recurring revenue per recurring revenue customer. Recurring revenue this quarter grew 47% year-over-year.

The total number of recurring revenue customers increased 11% year-over-year to approximately 18,000. For Q4, wallet share increased 32% to $4,499. Excluding the Edifice acquisition wallet share increased 15% year-over-year. As you look a these two metrics it’s important to remember that they work in concert with each other and it’s really the mix of the two that we focus on. Total operating expenses for the quarter were $15.4 million and represented 69% of revenue. For the quarter adjusted EBITDA was $2.6 million compared to $1.6 million in Q4 of last year. We ended the quarter with total cash of approximately $66 million.

Before turning to guidance I will recap the year. Revenue in 2012 was $77.1 million and adjusted EBITDA grew 66% to $9 million. Recurring revenue grew 38% for the year. Now turning to guidance, for the first quarter of 2013 we expect revenue to be in the range of $22.7 million to $23.2 million. We expect adjusted EBITDA to be in the range of $2.5 million to $2.7 million. We expect fully diluted earnings per share to be in the range of minus $0.01 to breakeven with fully diluted weighted average shares outstanding of approximately 15.7 million shares.

We expect non-GAAP diluted earnings per share to be in the range of $0.10 to $0.11, with stock-based compensation expense of approximately $1 million and amortization expense of approximately $720,000. For the full year we expect revenue to be in the range of $97 million to $98.5 million, representing 26% to 28% growth over 2012. We expect adjusted EBITDA to be in the range of $12.3 million to $12.8 million.

We expect fully diluted earnings per share to be in the range of $0.02 to $0.04 reflecting a year-over-year increase in amortization from the Edifice acquisition, stock-based compensation and share count. We expect fully diluted weighted average shares outstanding of approximately 15.8 million shares. We expect non-GAAP diluted earnings per share to be in the range of $0.48 to $0.50, with stock-based compensation expense of approximately $4.4 million.

We expect amortization expense for the year to be approximately $2.9 million. For the year, we are expecting an effective tax rate of 39% calculated on GAAP pre-tax net earnings. We expect to pay nominal cash taxes in 2013 due to our NOLs. In summary we had a strong 2012 with recurring revenue increasing 38%. We continued to deliver top-line growth while incrementally increasing our adjusted EBITDA margins. As we enter 2013, we continue to execute and focus on our unique viral platform that gives us the competitive advantage in the supply chain world.

With that, I would like to open the call up to questions.

Question-and-Answer Session

Operator

Thank you. (Operator Instructions) The first question is from Laura Lederman of William Blair. Your line is open.

Laura Lederman - William Blair

Thank you for the nice quarter. I appreciate it. Kim, can you talk a little bit about recurring revenue growth and what that was in the quarter and also similarly what you expect for recurring revenue growth and organics about – sorry organic recurring revenue growth for the full year and also what it was for the quarter?

Kim Nelson

Sure. In the quarter, our organic recurring revenue growth was 24% that was the same percent that it was for the year.

Laura Lederman - William Blair

Great. And that’s also what you expect for 2013?

Kim Nelson

For 2013, we are guiding just the total revenue. We don’t breakout between reported and organics. For the first 12 months until we lap the Edifice acquisition when we are announcing our earnings we will provide both reported and organic.

Laura Lederman - William Blair

Second question for me, can you talk a little bit about any changes in competition who you are seeing more of, who you are seeing less of just give us a recess here if there has been any change at all?

Archie Black

Yeah. The competition has remained relatively stable. It’s the legacy software providers on the high end. And as we are moving upstream, we are obviously seeing them more and more. And then a whole host of smaller competitors that we are really competing on market leadership, collaboration tools, and our focus and our strength of our network. So, it’s remained relatively the same other than we are moving upstream and so we are seeing the legacy software providers more often.

Laura Lederman - William Blair

And final question Edifice, give us a sense of how that’s doing so far?

Archie Black

Yeah. So far it’s been a fantastic acquisition. We are really excited about what we are seeing. When we made the acquisition in August, really the first two to three months is really about making sure that two successful companies were continuing along the path and that the acquisition was not an attraction. And then after that, after that first two to three months, we really start to try to have a game plan about the synergies and we are very excited about where we are at this time.

Laura Lederman - William Blair

Thank you.

Operator

Thank you. The next question is from Tom Roderick of Stifel Nicolaus. Your line is open.

Tom Roderick - Stifel Nicolaus

Hi guys. Good afternoon. So, may be I can follow-up on Laura’s question about Edifice and maybe if you wouldn’t mind just going to a little bit more detail about some of the integration progress you have made with Edifice. Can you talk about any combined customers you have landed so far, what deal sizes are looking like, how TPI is sort of being taken in relation to having Edifice in the fold now?

Archie Black

Yeah, certainly. So, we are obviously six months into the acquisition. And as I have stated, the first quarter was really about making sure that the pipelines for both organizations stayed the same and we delivered on those promises. And what you are really seeing now is that the sales teams on the supplier side working together making sure that we get customers both from the traditional Edifice customers have the ability to purchase the lower end point of sales, TPI solution, and our customers to purchase the more advanced analytics tools. So, we are focusing on that. And then from the retail side again working together, there is examples, there is not hundreds of examples, but I think the teams are working very well together and look forward to a fantastic 2013 for the two teams.

Tom Roderick - Stifel Nicolaus

Great thanks. The second question from me just about sort of distribution and sales capacity, I don’t know if you can update us on the number of sales that you have got at the end of year here, but and thinking about that and then thinking about sort of the go-to-market strategy, can you just talk about the distribution capacity and what some of the enablement campaigns might be doing for that?

Kim Nelson

Sure. We exited the year with a 165 sales people that was up net five versus a quarter ago.

Archie Black

And as far as again we think we have a very, very large market opportunity in front of us, so we think we can at least double the number of sales and marketing heads before we even come close to having capacity restraints. So, we are going to invest as aggressively as we can while hitting our margin goals in 2013 and beyond.

Tom Roderick - Stifel Nicolaus

Great. And last one from me, Kim just in thinking about those margin goals, you set a point number on EBITDA here for the year to the extent that you have the opportunity again to exceed that like you did last year. Where do you want to put those excess dollars? Will those all go back into sales and marketing?

Kim Nelson

Sure. If there is excess dollars, you are correct, we will be reinvesting those back into the business. We have the opportunity to Archie’s point to continue to add many sales and marketing personnel to help us grow the top line. Obviously, as the organization continues to grow we add in other areas as well to make sure that we are supporting our existing customers, but our desire is to funnel as much additional dollars into sales and marketing as we can and still hit our profit expectations that we have just set for 2013.

Tom Roderick - Stifel Nicolaus

Okay, great. That’s it from me. Thank you.

Operator

Thank you. The next question is from Scott Berg of Northland Capital Markets. Your line is open.

Scott Berg - Northland Capital Markets

Hi, Archie and Kim. Nice quarter here. I got two questions for you. First of all, on the jump in ARPU on a sequential basis between the third and the fourth quarter, the growth between the two quarters was much larger than what we have seen over recent quarters. Can you talk about the impact for that? Is it directly related to Edifice, because I figured that was probably already baked into the third quarter ARPU numbers?

Kim Nelson

Sure. So, if you look at the reported numbers in Q4, it was a 32% increase and in Q3 it was 21% increase. As it relates to those numbers the Edifice acquisition occurred part way through Q3, so you had partial quarter benefits in the numbers. Q4 is the first quarter that you have a full quarter’s impact for Edifice. As it relates to the organic numbers, Q4 the organic number was 13% and Q3 was 10%. So, you did see a nice increase actually in both reported as well as organic. As it relates to anything specific in the quarter, there was nothing one outlier. We continued to have the ability to add customers as well as up-sell existing customers that translated in to those numbers that we reported for the quarter.

Scott Berg - Northland Capital Markets

Great. As a follow up to that, what would you attribute the slight acceleration of the organic growth of that number is it selling more, I guess is that a combination of connections or more on-selling more of the analytics offerings?

Kim Nelson

Sure, so first I had encouraged folks to make sure they are looking at the recurring revenue overall, which has two components, both customer as well as ASP. In this particular quarter you are correct that you saw a higher acceleration of ASP, but it’s really the combination of the two and how that translates through recurring revenue that we think it’s the most relevant. Specific to ASP what you saw in the quarter, if you saw existing customers add more connections, you also saw customers decided to purchase more of the analytics type offerings. And we also continued to be at channels sales to add larger type customers.

Scott Berg - Northland Capital Markets

Great and I guess last question for me is on gross margins on a go forward basis. It looks like we are seeing the impact of the Edifice acquisition fully in the quarter with gross margins slightly below 70, is that the number that we should use from a go forward in ‘13 or do we see some additional leverage there as you may be post some costs synergies out of the – from the Edifice acquisition?

Kim Nelson

Sure. To your point, Q4 is the first quarter, where we had a full quarter of Edifice. So, those gross margins are really your appropriate starting point. For 2013, you have what our (unified) adjusted EBITDA margin is for 2013. But as you are looking at individual line items using Q4 gross margin as your starting point is appropriate for 2013.

Scott Berg - Northland Capital Markets

Great. Thanks for taking my questions.

Operator

Thank you. The next question is from Jeff Houston of Barrington Research. Your line is open.

Jeff Houston - Barrington Research

Hi. Thanks for taking my questions. Regarding channel sales, what percent of revenue did they represent in the quarter and the full year ‘12 and could talk a bit about any progress you are making with new partnerships or is it still mostly working with NetSuite?

Kim Nelson

Sure, so as it relates to numbers for the full year 2012 channel sales represented 14% of new business that’s up from approximately 10% from a year ago.

Archie Black

And as far as the NetSuite partnership, we are very excited about the NetSuite partnership and it’s been a very strong positive partnership, having said that, it’s the vast minority of our channel sales lead generation. So, we have literally 100s of partners giving us leads. So, NetSuite is an important customer as a partner as they all are, but not at disproportionate amount of the leads.

Jeff Houston - Barrington Research

Great. Then separately, regarding retailers sharing of point of sales data, which is really necessary for your business intelligence tools to function, is it still roughly a 140 out of the 1,700 that share that data. And if you can just talk about some of the trends there that will be great?

Archie Black

Yeah, it is, it’s in that ballpark. It is slowly drifting up we are seeing each quarter. There are retailers that are adding and we are seeing more activity there. It’s been a slow drift, but we continue to see a continue drift up and we think that’s a mega trend that we are going to be part of.

Jeff Houston - Barrington Research

Alright. Thank you.

Operator

Thank you. The next question is from Pat Walravens of JMP. Your line is open.

Pat Walravens - JMP

Oh, great. Thank you and congratulations to you guys. Quick question on the sales force and then a bigger picture question, on the sales force our quarter is going up in 2013?

Archie Black

Yes, quarters and almost every area, in fact in all areas are going up and we have seen a continual trend over the years for them to go up as we continue to gain leadership and gain momentum in our business.

Pat Walravens - JMP

And then my bigger picture question for you Archie is you mentioned in your remarks that one of the trends is that, there is more cloud EDI replacements, can you elaborate on that, what’s going on there?

Archie Black

Yeah, I think a couple of things Pat. As there is change events like there is as retail is changing and people are looking to go e-commerce the way suppliers and retailers need to work together at an e-commerce, especially in the drop shift kick, our world is so much more complex and so much tighter. There is a lot of change and change forces people to rethink how they do business and as soon as they we believe we have a superior business model and when there is change and when people re-look how they are going to do business that puts us in a very positive spot as a business. So, we are looking for the world to continue to change. That gives us an easy opportunity.

Pat Walravens - JMP

Thank you.

Operator

Thank you. The next question is from Richard Davis of Canaccord. Your line is open.

Unidentified Analyst

DJ on the line for Richard, can you talk about cash flow in the quarter, this is the first time we saw a cash from operations loss and allow just what went on in the quarter and then how should we think about it for ‘13?

Kim Nelson

Sure. What happened in the quarter is we added additional space for our capacity needs for personnel. So, as we occupied more space in the building, there was cash outflow associated with getting that location up and ready for us and making sure we get furniture etcetera in there. As it relates to going forward really the Q4 was really more of an outlier, you should expect that to be more in trends being cash up and cash flow positive in future quarters.

Unidentified Analyst

Got it. And then building on I guess some of the earlier questions I talked about retailers showing supplier leads, I mean Edifice brought some new retailer relationships to SPS. So, how should we think about those new relationships as kind of a lead gen for your core EDI efforts could we see an acceleration there and just any commentary would help?

Archie Black

Well, I think as the two teams are working together obviously we can capitalize on both the relationships SPS Commerce brought to the table and the Edifice team that brought to the table and be able to make those – all those relationships worth more. And so we do see an expanded opportunity with Edifice going into 2013, we see a lot of momentum.

Unidentified Analyst

Alright. Thanks guys.

Operator

Thank you. (Operator Instructions) The next question is from Michael Huang of Needham & Company. Your line is open.

Michael Huang - Needham & Company

Thanks very much. Just a couple of questions for you. So, first of all, Archie in terms of pricing what are you seeing in terms of the overall pricing environment, how much room is there to take up pricing either per supplier connection - per retailer connection or what not and is that something you guys are considering right now?

Archie Black

From a significant pricing, we think we have latitude and but in today's world, we are really more about the gathering of new customers and expanding our footprint long-term we’ll have those levers. We want to be a very disruptive technology. We want to be able to make the 50% to 75% total cost of ownership argument against the software, but we think we have capacity over time to make changes, but that’s not. We will tweak prices here and there, but there is no major significant price changes that we are planning on.

Michael Huang - Needham & Company

Okay. In terms of 2013, as you think about the target that you laid out for us, have you or could you share with us just some directional assumptions around customer account growth and ARPU growth this year? I mean is it going to be similar to kind of what we have seen in years past or is there anything that actually would cause one of those levers to be a little bit stronger this year from what you can see?

Kim Nelson

Sure. So, what you have seen historically as both of those metrics both how many customers do we have that pay us a monthly fee and how much on average that monthly fee is, you will see both of those have been a very important part of what made up the overall recurring revenue growth. In any given year, so for example in 2012, you saw the ASP aspect of that grow a little faster, in 2011, you saw the customers one grow faster, but really both of them are important components to what drives the overall recurring revenue. As it relates to 2013 as well as future years, our expectation is both are solid contributors to what makes up that overall recurring revenue growth.

Michael Huang - Needham & Company

Okay, great. And last question for you, in terms of enablement campaigns and what kind of visibility you have to the number that would be run in Q1 relative to what you saw last year? Is there – do you have some encouraging thoughts kind of around the number of enablement campaigns that are going to be kicking off earlier part of this year?

Archie Black

Well, obviously at this time in the quarter essentially we kickoff an enablement campaign and what happens is once we do a webcast, typically those decisions really the economics from those enablement campaigns begin coming in 6 to 12 weeks after the webcast, which is a define date. So, obviously at this time of the quarter, we know what the quarter looks like from an enablement campaign and obviously we think it’s strong and the guidance is reflective of that activity.

Michael Huang - Needham & Company

Great, thanks so much.

Operator

Thank you. There are no further questions at this time. I will turn the call back over to management for closing remarks.

Archie Black - President and Chief Executive Officer

Thank you very much for attending today and thank you for your support and look forward to working with all of you in 2013.

Operator

Ladies and gentlemen, this concludes today’s program. You may now disconnect. Good day.

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