Bill.com: Grabbing Market Share In The SMB Back-Office Software Industry (NYSE:BILL)

Background Information and Investment Thesis

Bill.com (BILL) provides a cloud-based software that automates back-office financial operations for small and medium-sized businesses (SMBs). Its platform allows SMBs to digitize their entire business transaction lifecycle: collecting accounts receivable and disbursing accounts payable. BILL primarily collects revenue from subscription fees and transaction fees. Additionally, the company generates float revenue through interests earned on customer funds as customer payments are clearing.

In FY 2020, BILL delivered a solid financial performance, with total revenue at USD 157 million (at a CAGR of 56% since 2018) and gross profit at USD 118 million (a CAGR of 61% since 2018). As a result the stock has returned 190% since going IPO in December 2019. Although current trading multiple of 48x EV/Revenue shows BILL is trading at a premium, we believe BILL is worth a buy due to the following reasons:

  1. Leader in the SMB back office financial software market
  2. Growing List of Partners creates Strong Network Effects
  3. Virtual Card and Cross-Border Payments to drive Transaction Revenue

Leader in the SMB financial software market

BILL operates in an overlooked industry of back office financial workflows. In 2016, SMB Technology Adoption Index estimates that 97% of SMBs still rely on paper checks to process payments. That number has only increased to 90%, according to Rene Lacerte, BILL’s CEO, in Q4 2020 Earnings Call. Out of roughly 30.7 million SMBs in the US, BILL is targeting 6 million businesses with 1 to 499 employees. With over 100,000 customers, BILL grabs roughly 1.7% market share. BILL determines its market opportunity to reach $9B domestically and $30B globally. We can calculate these numbers by multiplying Core (Subscription and Transaction) Annual Revenue per User by total SMB Employers in the region.

Source: Company’s Investor Presentation

We expect this market to grow bigger as International Data Corporation (IDC) forecasts IT spending to reach $676 Billion in 2021, growing at 4.5% CAGR. Delving deeper into investments in IT spending, IDC estimates business services to grow the fastest at 7.1% CAGR topping software and hardware.

Furthermore, Coronavirus has forced SMBs to be lean and more efficient in managing their cash flows. Considering an Accounts Payable/Receivable Clerk in the US earns an average of $43,000, BILL’s affordable pricing plans provide SMBs an opportunity to save costs and focus more on running operations that cannot be automated.

Source: Company’s Website

In the SMB software market, BILL mainly competes with legacy manual tools such as Excel and Paper Checks. Moreover, BILL also indirectly competes with large legacy vendors such as Intuit (NASDAQ:INTU), Oracle (NYSE:ORCL) and SAP (NYSE:SAP), whose target segment are enterprise customers, and technology vendors who sell point solutions software like accounts payable solution, accounts receivable solution or workflow management. However, our desk research of online reviews shows that BILL’s platform provides the best value of money for SMBs, thanks to its ease of use, great customer support and extensive integration features.

Source: G2

Source: G2

Growing List of Partners Creates Strong Network Effects

BILL acquires customers in four different ways, through partnerships with financial institutions, with accounting software companies, with accounting firms and direct marketing efforts to SMBs. BILL works with financial institutions to integrate its bill pay services with their online banking platform. Currently, BILL has contracts with the top three largest banks in the US, including JPMorgan Chase, as well as five other major financial institutions. We expect new partnerships with more financial institutions in the near future.

Source: Company’s Investor Presentation

Next, BILL has built unique APIs with established accounting software solutions, to integrate its payment and workflow automation features. Recently, BILL announced an extension of its partnership with Intuit to support Intuit’s QuickBooks Online Advanced customers on top of QuickBooks base customers. BILL stated that QuickBooks Online Advanced customers process more transaction volume and thus generate a significantly higher ARPU than do QuickBooks base customers with Simple Bill Pay features. Intuit has doubled its QuickBooks Online Advanced Customers to 75,000 users in 2020. Moreover, Intuit estimates 1.5 million mid-sized businesses that can potentially use the combined solutions with BILL to manage cash flow, streamline payments and associated workflows.

Accounting firms have also relied on BILL’s software to automate financial operations. BILL has cemented its position as the leading provider among accounting firms evident by landing 80 (up 14% YoY) of the top 100 accounting US firms as customers. CPA.com estimates that there are over 45,000 accounting firms and 100,000 bookkeeping firms who are seeking for cloud-based software to improve their operations. Given BILL now only has 5000 accounting firms (up 25% YoY), penetration to the accounting firms market represents a massive opportunity. Accounting firm partners make up approximately 51% of BILL’s total customers and 46% of total revenue for fiscal 2020.

We believe that BILL’s strategic platform integrations with financial institutions, accounting firms and accounting software providers have created strong and sticky network effects evident by customers growth, net dollar retention and core revenue per customer.

Source: Company’s 10-K and Author

Virtual Card and Cross Border Payment To Increase TPV/Customer

Going forward, we expect lower customer growth as BILL shifts its efforts to accommodate existing high-paying customers who pay subscription fees and generate higher transactions as opposed to micro businesses. Therefore, customers as a metric will be less relevant than Total Payment Volume (TPV) or TPV/Customer. To drive TPV, BILL is betting on B2B Cross-Border Payments and Virtual Card.

McKinsey reports that worldwide B2B cross-border payments amounted to $133 trillion in 2018. Aiming to capture this market, BILL has introduced International Payments in their platform allowing customers to make payments to international vendors in USD or local currency. Whether payments are made in US Dollar or local currency, BILL customers can save time and money either way. International payments in USD cost only $10 per transaction, while local currency payments do not have a wire transfer fee and provide cheaper exchange rates than typical bank rates. BILL charges a flat fee for US payments and an ad valorem fee for FX conversion payments. Currently, FX revenue contributes to 25% of total revenue and BILL is aiming to increase this number to 40%-50%. Considering BILL has helped customers disburse over $2.3 billion (up 300% YoY) to international suppliers, we believe cross-border payments will only increase.

Next, BILL’s partnerships with Mastercard (NYSE:MA) and Comdata to offer customers virtual card payments are key to drive TPV and ultimately transaction revenue. Mastercard forecasts virtual card market to grow at 19.2% CAGR from 2017 to 2021. Furthermore, Mastercard reports that 6% of B2B check volume has switched to card payments and expects this number to reach 8% to 11%. To capture this market, BILL has made investments in its platform to convert both checks and ACH transactions to virtual. Currently, virtual card payments have only been introduced for 18 months and account for 1% of total TPV. We expect this percentage to increase as BILL’s platform investments drive adoption.

Valuation: Hefty Premium

BILL currently trades at an expensive multiple at 48x EV/Revenue as the stock has rocketed over 190% since going IPO in December 2019. There are only a handful of SaaS companies who trade above 40x EV/Revenue in the last twelve months. Those companies include Shopify (SHOP) at 48.5x EV/Revenue, Cloudflare (NET) at 53.7x EV/Revenue and Unity (U) at 50.1x EV/Revenue.

We projected BILL’s total revenue for 2022 to reach USD 238 Million growing at 23% CAGR. Assuming 42x EV/Revenue, we calculated BILL’s implied fair price to be USD 131, a 15% upside. We realize BILL’s premium valuation, but we believe BILL is best suited to capture the growing SMB back office software market. As with young high growth companies, be prepared for volatility and add to your positions when rotation from tech sector causes the stock to drop.

Source: Author

Risk

There are two risks in investing in BILL:

  1. Low Interest Rate Impact on Float Revenue
  2. Unclear Path to Profitability

Low Interest Rate Impact on Float Revenue

While we forecast revenue to increase over 20% CAGR for the next 5 years, we expect float revenue to decrease 22% CAGR until 2025 due to low interest rate. Historically, BILL’s float revenue on average represents 15% of total revenue at pre-COVID levels. However, the pandemic has forced the Fed to stabilize the US economy by lowering interest rates. Needless to say, this move has negatively impacted float revenue since BILL earns interest from interest-bearing deposit accounts, certificates of deposit, money market funds and US Treasury securities.

Unclear Path to Profitability

BILL has not been EBITDA positive since 2018 because of high operating expenses. Operating expenses have been in the low 80s as a percentage of revenue until recently in 2020, when they jumped to 97% of revenue. The jump in operating expenses is primarily driven by increases in R&D and G&A expenses. We expect R&D expense to increase even further in the next few years as BILL is investing heavily into product development it works on integrating its platform with financial institutions. Lastly, adding more features and local currencies on cross-border payments mean that G&A expense will increase due to regulatory compliance and risk management.

Conclusion

We believe BILL’s unique positioning in the SMB market, strong network effects and innovative offerings will allow the company to grab more market share. We feel that BILL’s strong financial performance and execution in its Go-to-Market strategies justified its premium valuation.

Disclosure: I am/we are long BILL. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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