Covenant Trip Overshadows Paycom's Sales Growth

NEW YORK (The Deal) -- Investors in private equity-backed Paycom Software (PAYC) are banking on continued revenue growth as the payroll software provider tries to figure out how to comply with a waived debt covenant and how to improve its lackluster stock performance after a disappointing initial public offering.

Paycom sold 6.65 million shares on April 14 priced at $15 each, which was below the expected $18 to $20. The IPO raised about $99.68 million.

Things have only worsened on the stock front, too, closing Tuesday at $12.62, down almost 16% from its debut price.

Paycom has a waiver on the current debt-to-Ebitda covenant attached to its bank loans, which mandate a ratio of less than 1.5 to 1 times, through April 30. Paycom was not in compliance with that covenant as of March 31.

The relevant loans are an $11.86 million secured term note due Dec. 15, 2018, bearing interest at 5% and a $13.52 million construction loan that will be converted to long-term notes when the related construction project is completed, bearing interest at the Wall Street Journal U.S. Prime rate plus 50 basis points, with a minimum rate of 4%. The lender on those loans is Edmond, Okla.-based Kirkpatrick Bank.

When it comes to Paycom's growth outlook, analysts thus far are more optimistic than investors.

The IPO was underwritten by Barclays Capital Inc., J.P. Morgan Securities LLC, Pacific Crest Securities LLC, Canaccord Genuity Inc., and Stifel, Nicolaus & Co.

All five underwriters initiated research coverage on Paycom in May after the expiration of a mandated quiet period on research from underwriters.

Canaccord and Stifel rated Paycom as a buy, while Pacific Crest gave it an outperform rating, and JPMorgan and Barclays rated it overweight, a designation that suggests the company will outperform its peers. Price targets were in the $18 to $21 range.

The main selling point on Paycom seems to be its steady growth, which analysts expect will continue and potentially accelerate.

During the quarter ended March 31, Paycom brought in $37 million in revenues, which is 34% more than the $27.6 million it earned during the same quarter last year and up still more from the $19.8 million it generated in the same quarter in 2012.

Canaccord analysts, in a May 15 report, said, "This is a conservatively managed firm, mindful of the bottom line, that has a multiyear runway of legacy service bureau payroll upgrades and add-on sales of functional and intuitive cloud-based, adjacent HR apps."

In a May 16 report, Pacific Crest Securities trumpeted an "impressive upside" and expressed optimism that Paycom is "clearly gaining market share" in the $16.2 billion U.S. payroll market and the $5.8 billion U.S. human capital management market.

Analysts also noted the potential for overseas expansion.

Still, Pacific Crest Securities warned that the payroll and human resources software space is highly competitive, and that Paycom could eventually take a hit from pricing pressure.

Buyout firm Welsh, Carson, Anderson & Stowe LP paid $56 million for a majority stake in the company in July 2007.

Ahead of the IPO, Paycom's PE sponsor had collected about $12 million in cash dividends from the company.

Welsh, Carson's stake amounted to 56.5% before the offering; an April 15 prospectus estimated that the firm would hold only 48.9% of its shares post-IPO. The PE firm now holds 54.91%, according to data from Bloomberg Finance.

The second-largest shareholder is founder and CEO, Chad Richison. Before the IPO, he held a 24.2% stake; his stake was estimated to fall to 22.3% after the offering. Now, he holds 25.61% of his company's shares, according to data from Bloomberg Finance.

Some 32.93% of the company's stock is held by insiders.

Paycom has sales operations for its cloud-based software in 31 cities.

In its May 16 note, Pacific Crest praised Paycom for maintaining an "operating margin much higher than its peers, even while growing as fast or faster than its peers."

Paycom's competitors include Workday Inc. and Automatic Data Processing Inc., which also sell cloud-based human resources and payroll software products. Workday has a market capitalization of $21.91 billion, while Automatic Data Processing's market cap is $39.36 billion.

Paycom recorded $532.23 million in assets, including $13.1 million in cash and cash equivalents, and $526.18 million in liabilities as of March 31, according to a quarterly report filed with the SEC on May 21.

The company has $86.32 million in debt.

In addition to the loans from Kirkpatrick Bank, the long-term debt structure consists of a $46.9 million note due due April 3, 2017, and an $18.81 million note due April 3, 2022, both owed to Welsh, Carson. Company filings don't specify whether the notes held by Welsh, Carson are secured or unsecured.

A spokesman for Welsh, Carson wasn't available to comment. A Paycom spokeswoman didn't return calls.

-- Jonathan Marino contributed to this report.

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