Richard Rawson - President Paul Sarvadi - CEO Douglas Sharp - CFO.

Kwan Kim - SunTrust Jim Macdonald - First Analysis Mark Marcon - R. W. Baird.

Good morning. My name is Kristen [ph] and I will be your conference operator today. I would like to welcome everyone to the Insperity Second Quarter Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer session.

[Operator Instructions] At this time, I would like to introduce today’s speakers. Joining us are Paul Sarvadi, Chairman of the Board and Chief Executive Officer; Richard Rawson, President; and Douglas Sharp, Senior Vice President of Finance, Chief Financial Officer and Treasurer. At this time, I would like to turn the call over to Douglas Sharp. Mr.

Sharp, you may begin..

Thank you. We appreciate you joining us this morning. Let me begin by outlining our plan for this morning’s call. First, I’m going to discuss the details of our second quarter 2016 financial results. Paul will then comment on the key drivers behind our strong results.

I will return to provide our financial guidance for the third quarter and an update to the full year 2016 guidance. We will then end the call with the question and answer session, where Paul, Richard, and I will be available. Now, before we begin, I would like to remind you that Mr. Sarvadi, Mr.

Rawson or myself may make forward-looking statements during today’s call, which are subject to risks, uncertainties and assumptions. In addition, some of our discussions may include non-GAAP financial measures.

For a more detailed discussion of the risks and uncertainties that cause actual results to differ materially from any forward-looking statements and reconciliations of non-GAAP financial measures, please see the company’s public filings included in the Form 8-K filed today, which are available on our website.

Now, let me begin today’s call by discussing our second quarter results, which were driven by continued mid-teen double-digit worksite employee growth, and ongoing effective management of our gross profit and operating cost.

Adjusted EPS increased 43% over Q2 of 2015 to $0.60 and adjusted EBITDA increased 13% to $25.6 million in line with our forecast. During the first half of 2016 we remain ahead of our initial budget having generated a 74% increase in adjusted EPS over 2015 to $2.23 and a 34% increase in adjusted EBITDA to $86.8 million.

Our second quarter highlights were led by a 14.2% increase in average paid worksite employees to 163,521 which is at the midpoint of our Q2 forecasted range of 163,000 to 164,000.

This growth continues to be driven by a high level of client retention which averaged over 99% for the quarter and an increase in sales driven by a 15% year-over-year increase in the average number of trained business performance advisors.

Net hiring in our client base was positive for the full quarter, however included a dip in May consistent with the weakness reported in the broader labor market.

Now along with achieving our forecasted Q2 growth and paid worksite employees we also effectively managed our direct cost trends and operating costs to achieve our targeted bottom line growth.

Gross profit increased by 9% over Q2, 2015 and as expected was influenced by client and product mix changes, benefit plan selection and the seasonality associated with payroll taxes. Benefit and workers compensation costs continue to trend favourably when compared to our initial 2016 budget.

Adjusted operating expenses increased by 7% over Q2 of 2015 and declined 7% on a per worksite employee per month basis from $211 in Q2 of 2015 to $197 in Q2 of this year due to cost savings initiatives and continued operating leverage.

We continue to closely manage our operating expenses as demonstrated by an increase of only 4% in corporate headcount excluding the growth and the number of business performance advisors and only a 2% increase in G&A cost.

As per our balance sheet and cash flow, we ended the quarter with approximately $70 million of working capital including $51 million of adjusted cash. In addition, we have $95 million available under our line of credit.

We have repurchased just over 3.1 million shares through the first half of this year with the majority of the shares acquired through our Dutch Auction Tender Offer in January. We’ve also paid out approximately $10 million of dividends inclusive of the recent 14% increase in our quarterly dividend rate.

Now at this time I’d like to turn the call over to Paul..

Thank you, Doug. My comments today will focus on three primary areas. First, I’ll discuss key drivers of our excellent recent results, second, I’ll describe our plans to continue our momentum over the last half of 2016 and third, I’ll discuss the critical elements we are focusing on to set up a strong 2017.

Our outstanding second quarter reflects that our overall strategy is in place, and our simple formula for success is working. Our wide array of business performance solutions and our premium workforce optimization offering, our in-demand and our business performance advisors are working the Insperity selling system.

Sales for the quarter were solid as the number of trained business performance advisors was up 15% delivering a 16% increase in the number of paid worksite employees from new sales. The numbers of discovery calls were up 14% and the number of business profiles or opportunities to bid were up 12%.

Total sales were 93% of target for the quarter and 99% year-to-date so we are continuing to see solid execution from our sales organization. Mid-market sales are on track and the pipeline for new business is our strongest to date.

This segment now represents just under 25% of our work site employees and is 19% larger than one year ago, and this includes clients that grew into this segment from our core small business and emerging growth client base.

The sale of additional business performance solutions attached to a workforce optimization sale and on a standalone basis continued that levels from Q1. These sales contributed at the gross profit line and added new clients to up sell to workforce optimization in the future.

Another highlight in the quarter and year-to-date was the effectiveness of our marketing efforts which is very important as we head into the last half of the year. Marketing leads provided to our sales team are up over 80% as social media followers are up over 100% and unique visitors to inspertiy.com are up over 40%.

As Doug mentioned, our client retention rates are continuing at historically high levels as our wide array of business performance solutions and the level of care from our service organization continue to meet or exceed customer expectations.

This is particularly amazing when considering the service efficiency gains that we have made over the last couple of years. Our key service ratio of a number of work site employees per service provider improved 20% over 20% while achieving record retention levels.

The third factor relating to our unit growth is the net change in employment in existing clients from month to month due to lay-offs and new hires. This reflection of the broader labor market continues to be a slight positive contributor overall but remains unpredictable for month to month and week against historical comparisons.

Q2 was a good example of this as April and June were slightly positive, however this metric was flat in May, and in total lower for the quarter than last year on larger client base.

We track several additional key indicators in our data to gauge the strength of the labor market in the small to medium sized business community including overtime as the percentage of base pay and commissions paid to the sales staff of our clients.

Overtime as the percentage of base pay was down slightly from the same period last year, but remains just over 10% which typically indicates the need to hire staff. The commissions paid to the sales staff of our clients was at 5% year-over-year which is about average compared to historical levels over the last few years.

As we look ahead to the last half of the year our focus is on building on our growth momentum. In order to do this, we’ll need to increase activity that leads to sales and retention results and be prepared to overcome any obstacles that may appear.

Each year we boost sales activity in the last half of the year with our false selling and retention campaign, we expect to launch this year’s campaign in early September and our sales and service teams are up for the challenge. Our recent marketing success bodes well for our plans to increase activity this fall.

Our goal will be to maximize the amount of time our BPAs spend in front of qualified prospects. Another key factor and a favourite for this fall is the direct cost stability we have experienced that translates into favourable pricing for our clients and prospects.

We expect these positive trends in our benefits and workers compensation programs will help in converting new and renewing accounts over the balance of this year. In addition, the Affordable Care Act continues to cascade down state by state, carrier by carrier throughout the country.

This fall, many businesses will be facing community rating and narrowed networks for the first time especially in the 50 to 100 employee category. This translates into more firms looking for solutions to get out of the complexity, compliance and cost of the Affordable Care Act.

We are also cognizant of the factors that can introduce uncertainty in the market place and negatively affect business on a sentiment. This would include geopolitical events which have increased the frequency of late and of course the upcoming election.

Our approach will be to prepare our staff as effectively as possible and maximize the number of opportunities in order to achieve our objectives even if uncertainty is elevated. There are several key initiatives over the last half of the year designed to set up a strong 2017.

In addition to a robust fall selling in retention campaign, we will be focussed on growing the sales team, deploying technology enhancements and becoming certified under the small business efficiency act. Recruiting and training business performance advisors over the last half of the year is a major priority.

We have over 400 BPAs hired now and expect that number to reach 425 by year-end. This will put us on track for growth goals for next year. Another priority for 2017 is to deploy technology upgrades to both the PEO co-employment and traditional employment platforms.

Our industry leading PEO platform will become more HCM like in both look and feel and functionality. The platform will also accommodate what we call BYO, or bring-your-own HCM.

This will accommodate clients that already have a human capital management system that they have made an investment in and want to continue to use it within the PEO relationship.

We also have an upgrade to our traditional employment platform underway that we expect will drive our standalone payroll business and traditional employment bundles called workforce administration and workforce collaboration.

We believe these upgrades in both the PEO and traditional employment platforms will continue to enhance our competitive advantage in the market place in 2017. One other priority which sets up a storm here next year is completing the certification process under the small business efficiency act.

We will be completing our application in the near future and we have prepared for the changes that come with this opportunity. Once we are certified, we will no longer have to restart payroll tax, the payroll tax wage basis on new accounts that come on throughout the year.

This will lower our cost related to these payroll tax payments, increasing profitability and allow for more favourable pricing to prospects enhancing our sales.

The combination of the stamp of approval from these small business efficiency act and the financial benefits of certification provide an additional lift to the PEO industry in general and for Insperity specifically for 2017.

So in summary, we are pleased with the recent results and the momentum we have in the business and we are focussed on the right priorities for the balance of the year and look forward to continuing strong results and increasing shareholder value. At this time, I’ll turn the call back over to Doug..

Thanks, Paul. Now before we open up the call for questions, I'd like to provide our financial guidance for the third quarter and an update to our full year 2016 forecast.

Based upon our solid execution through the first half of 2016 and outlook for strong client sales and high client retention over the remainder of the year, we continue to expect worksite employee growth of 14% to 15% for the full year.

As per Q3, we are forecasting average paid worksite employees in a range of a $170,000 to $170,700, an increase of 14% and 14.5% over the third quarter of 2015.

We also remain on target for our 28% to 32% increase in adjusted EBITDA over 2015, when combining our unit growth outlook with expected growth profit trends and operating leverage over the remainder of the year.

This increase translates into forecasted adjusted EBITDA by $141 million to $145 million which averages to approximately $71 for worksite employee per month, a 13% increase over 2015. As per the third quarter, we are forecasting adjusted EBITDA of $30 million to $32 million, which follows our typical seasonal earnings pattern.

We are now forecasting an increase of 60% to 64% in adjusted EPS over 2015 to a range of $3.50 to $3.60. This is up from our previous guidance of $3.46 to $3.58. Q3 adjusted EPS is projected in a range of $0.72 to $0.78, an increase of 26% to 37% over Q3 of 2015.

In conclusion, we are pleased with our continued strong growth and profitability and look forward to updating you on our progress over the remainder of the year. Now at this time, I'd like to open up the call for questions..

Thank you. [Operator Instructions] Our first question comes from Tobey Sommer with SunTrust..

This is actually Kwan Kim on for Tobey. Thank you for taking my question. My first question is regarding job growth among your customers. Could you give us some color on what you're seeing in terms of your customer job growth and how that sort of flows down and affected the worksite employee growth in the quarter? Thank you..

Yes. In the last quarter I mentioned in my remarks that it's been slight positive overall, slightly less positive than it was a year ago, and its remains a little choppy. You know, we had a couple normal months in April and June, and then May was pretty much flat. Layoffs and new hires about even.

And so, that was fairly week number kind of reflecting what was going on in the labor market overall. So, we're keeping a close eye on it. Now, the good news is that over time its still up over 10% commissions we pay to the sales staff of our clients, which gives some insight into their pipeline for new business, still remains pretty good.

So, we think we're probably going to see more of the same slight positive tailwind, but the growth comes from the new sales and the retention rate – we're just always happy when it's not a headwind..

Got it. Could you comment on the worksite employee growth trends among your tech customers, the trends you're seeing in customer activity level in that factor.

Are you seeing any slowdown in job growth there?.

No, not really. We really down break it down too much by sector. We do some internal analysis of that. But we haven't seen anything that I would call a change in that area..

Okay. And my last question is regarding individual solutions.

Could you talk about which areas are growing faster than others than how individual solutions contribute to the income statement in terms of the EBITDA?.

Yes. We continue to see some really good results by having a wide array of business performance solutions that helps us to sale our core workforce optimization offering. Our attachment rates were good in the quarter.

And we also sell those services on a standalone basis which expands our customer base and gives us other clients to sell into and sell up sell over time.

And so, we had very good results in retirement services area where it makes a whole lot of sense when you become workforce optimization customer to go ahead attach the 401(k) because our record keeping services are very economical and it helps to make the financial numbers work to become a client.

We're also continue to see good strong attachment of the time and attendance offering because of course under the Affordable Care Act, we really have to be all over the time keeping and record keeping and so that becomes a nice add-on as well, so those two are kind of leading the way, although we had a really strong year on the recruiting front, which is kind of interesting in a fairly weak labor market, but our recruiting offering has a lot of uniqueness to it and is well received in the marketplace, and so we've done well there as well..

And I would say that as far as our contribution on the income statement, its right in line at the gross profit line with what we've been forecasting for the full year when you take the whole array of those business performance solutions together, so we we're real pleased..

Our next question comes from Jim Macdonald with First Analysis..

Yes.

Just a follow-up on, Richard, can you tell us what the gross profit contribution was from the business solutions group? And just overall you said in the comments that gross profit was up 9%, but it looks to me like it was down 4.9%? So maybe explain why the overall gross profit was down?.

As far as the contribution from the other products and services, it's fairly similar on a per worksite employee basis, as it's been historically, so its pretty much growing inline with the unique growth. The year-over-year increase in gross profit, dollars is up 9%.

You maybe be referring to gross profit per employee number and a lot of that has to do with the seasonality in the benefit plan migrations in mix of our clients, and products and services. I think if you look at the full year, you know, we're expecting it to be fairly similar with the prior year.

And so, it’s a lot of just seasonality in product mix, but its still in line with what our initial budget was going into the year, so no real surprises there..

Our next question comes from Jeff Martin with ROTH Capital Partners..

Thanks. Good morning, guys..

Good morning..

Paul, I was wondering if you could touch on sales productivity in the quarter. It was very robust in Q1 since like it was pretty close to goal, but it was not quite to goal.

Wondering if you could just kind of qualify that? Give us your interpretation there?.

Yes. You know, as our budget gets larger each month throughout the year. So, we were still at 99% for the year. We were 93% for the quarter. So still a good strong number. And the number of worksite employees paid in the quarter was up 16% on a 15% increase in number of BPAs. So, all systems go there. And I'm pleased with the results.

We just like to set pretty good robust internal target as the year progresses and we always build in a little bit of room between the sales targets, of course, what we hope into our -- roll into our financials..

[Operator Instructions] Our next question comes from Mark Marcon with R. W. Baird..

Good morning. Thanks for taking my question. I just wanted to go back a little bit with regards to the gross profit for worksite employee.

Can you talk a little bit more about that in terms of like the sequential trend? Normally it pulls back from the seasonal perspective from Q1 to Q2, but what were -- it seem like it was a little bit more than what it usually has pulled back.

So, just wondering what some of the factors were there? And then what are your expectations with regards to Q3's GP per WSC should trend relative to the second quarter?.

Yes. Mark, this is Richard. The trends that we're seeing on both the benefits and the workers compensation are right in line with what we forecasted for the year. On the workers comp, it's actually become a little bit better in the last two quarters, because you know we're under a policy year that starts in October and runs through September.

So, when we look at this policy year to-date, our severity rate on claims is actually down over 20% better. So that trend has been really good. On the benefit side, we are seeing -- this quarter we saw little about a 2% trend in the medical side of our claims and it was a 6% increase or 6% trend on the pharmacy.

Now that compares to last quarter where we had about a 1% medical trend on the medical side and a 19% on the pharmacy. So, second quarter is definitely an improvement over the first quarter, but when we look at the whole policy year on the benefit side we're right in line with exactly what we looked at early on.

You know when you look on the revenue side of the business obviously because one of the big elements of our revenue is the amount that's built-in for the medical component of our service.

And so, when people continue to migrate to the lower cost, higher deductible plans than we expected or forecast for the quarter or for the year obviously our revenues going to be lower.

But as you all know, it isn't about our revenue anyway, its about the gross profit and the contribution at the operating income line because every worksite employee is a unit of revenue and unit of risk, and so that's how we measure it..

Thank you. At this time, I'd like to turn the call back over to Mr. Sarvadi for closing remarks..

I will -- once again thank you all for following the company. We look forward to continuing these type of results and get ready to launch our fall campaign for the year. And we'll be reporting on that next quarter. Thank you again for participating today..

Ladies and gentlemen, this does conclude today's Insperity's second quarter earnings conference call. You may now disconnect your lines..