Paycor HCM, Inc.

Ladies and gentlemen, thank you for standing by and welcome to PACOR's first quarter fiscal year 2025 earnings call. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. And now I would like to turn the call over to Rachel White, Vice President of Investor Relations. Thank you, Rachel. You may begin.

Good afternoon and welcome to PACOR's earnings call for the first quarter fiscal year 2025, which ended on September 30th. On the call with me today are Raul Villar, Jr., PayCourse Chief Executive Officer, and Adam Ante, PayCourse Chief Financial Officer. Our financial results can be found in our press release issued today, which is available on the investor relations section of our website. Today's call is being recorded, and a replay will be available on our website following the conclusion of the call. Statements made in this call include forward-looking statements related to our financial results, products, customer demand, operations, and other matters. These statements are subject to risks, uncertainties, and assumptions and are based on management's current expectations as of today and may not be updated in the future. Therefore, these statements should not be relied upon as representing our views as of any subsequent date. We also will refer to certain non-GAAP financial measures and key business metrics to provide additional information to investors. Definitions of non-GAAP measures and key business metrics and a reconciliation of non-GAAP to GAAP measures are provided in our press release on our website. With that, I'll turn the call over to Raul.

Thank you, Rachel, and thank you all for joining us to discuss PACOR's fiscal first quarter results. The future of HCM is connected, and our unique value proposition of empowering leaders to drive business results by connecting them to people, data, and expertise is continues to win in the market and help drive 17% revenue growth this quarter. We continued to pragmatically invest in sales and product expansion to fuel future growth while demonstrating the scalability of our business model with significant adjusted operating income margin and free cash flow expansion. Our team executed against our strategic growth initiatives, increasing the average number of employees on our platform by 5% and expanding the amount we earn per employee per month, or PEPM, by 11%, resulting in 16% recurring revenue growth. The demand environment remains healthy. as most employers are struggling with outdated and inadequate HCM tools. Key indicators of demand, such as leads and prospect traffic to paycore.com, increase year over year, and our win rates remain strong. We continue to feel good about our go-to-market trajectory, and the average tenure of our field sellers continue to increase, which drives productivity. As we shift up market, clients tend to purchase a more complete solution, and average deal size and attach rates continued to expand nicely in the mid-market. Benefit brokers remain a key component of our go-to-market strategy to help us identify employers that are dissatisfied with their legacy HCM tools, and they influenced over 60% of our field bookings this quarter. Complementing our direct channel, our embedded HCM solution continued to gain momentum with both new and existing partners. We signed several new embedded partners since our last earnings call, achieving a milestone of double-digit partnerships. Our modern embedded HCM solution enables our strategic partners to not only increase their revenue per client, but also enhance customer retention. The upmarket velocity within the embedded channel continued as average employees per company are triple our current average. In response to customer demand, we expanded our embedded sales team and expanded the current payroll and HR offering to include workforce management. Our team continued to augment our award-winning HCM platform by introducing valuable new functionality for our customers that expands our PEPM opportunity. Our product roadmap continues to center around connecting people, data, and expertise. Last call, we described our new compensation management solution that connects leaders with tools that streamline the process of rewarding their team, which added $2 to our suite, bringing our list pepum to $55. Building on our industry-leading AI capabilities, this quarter, our team launched PayCore Assistant, connecting employees to expertise. The Assistant is a next step in our AI evolution as we continue to drive efficiency and effectiveness so customers can focus on higher value work. This AI-powered HR companion transforms the way employees and leaders interact with PayCore through a simple conversational interface. Our modern and intuitive solution is designed to boost productivity by enhancing the speed and effectiveness of responding to employees' HR-related questions, empowering leaders to focus on powering people and performance. This solution joins several existing AI innovations, including intelligent skills management, digital assistant, candidate sourcing, job description generation, and sentiment analysis in performance management and employee surveys. We also recently introduced the PayCore integration platform, enabling customers to seamlessly connect their preferred business solutions to our HCM suite. This platform provides pre-built connections to over 300 best-in-breed technology partners, along with robust developer tools and services to create custom connections, making it easier for customers to integrate their technology systems to enhance efficiency and accuracy. With this platform, we're giving mid-market companies the ability to connect systems at a level and scope historically reserved for larger enterprises. The innovation we have delivered in our HCM suite continues to earn industry accolades. We're extremely proud that Paycor was ranked among the top five vendors in Sapient Insights Group's 27th annual HR Systems Voice of the Customer Rankings in several categories, including mid-market user experience and vendor satisfaction for both payroll and HRMS. In addition, Paycor's Talent Acquisition Suite was recognized in Nucleus Research's Top Leader Quadrant. Our top fiscal 2025 priorities remain to drive sales efficiency and accelerate cash conversion while continuing to invest in our strategic growth initiatives, namely adding employees through sales expansion and increasing PEPM through product innovation. Now I'll turn the call over to Adam to discuss our financial results and guidance.

Thanks, Raul. I'll discuss our first quarter performance, then share our outlook for the second quarter and fiscal year. As a reminder, my comments related to financial measures are on a non-GAAP basis. We had another impressive quarter, delivering total revenues of $167 million, an increase of 17% year-over-year. Recurring revenue grew 16% over the prior year. Our recurring revenue growth is primarily driven by expanding the number of employees on our platform and the amount we charge per employee per month. This quarter, average employees grew 5% over the prior year, largely driven by new business wins from our direct and embedded channels. Labor market growth remained consistent and contributed modestly. Net revenue retention trended favorably on a sequential and year-over-year basis. We finished the quarter with approximately 31,000 customers utilizing our platform to help coach, optimize, and retain 2.6 million employees. We continue to see our average customer size increase year-over-year as we move up market, demonstrating the success of our product and service investments. Effective PEPM increased 11% year-over-year to $19. Excluding embedded HCM deals, Effective PEPM increased 12%, fueled by expansion of our product suite. The growth in effective PEPM is attributable to cross-sales, pricing initiatives, and higher bundle attach rates. Talent has consistently demonstrated strong cross-sales traction, and a long runway remains as the overall penetration of our base remains low. We continue to add partners to our marketplace, and this partner referral channel contributed more than a point of growth this quarter as well. For the fourth consecutive quarter, our embedded HCM channel continued to points of employee growth. We signed several deals since the last earnings call and now have more than 10 partners. The larger opportunities in our pipeline are progressing nicely and we are seeing more opportunities enter the funnel, demonstrating strong market interest for a modern solution. While we are pleased with the progress in anticipating doubling our embedded revenue in fiscal 25, it's still very early and will take some time before this channel materially impacts our revenue. We continue to invest in scale and capitalize on this opportunity by expanding our team, our solution, and sales enablement tools to drive mutual success. This quarter, we generated $13 million of interest income on average client funds of approximately $1.1 billion, an effective rate of 490 basis points. While our primary objective remains durable revenue growth, we continue to expand our focus on operating margins and free cash flow. Adjusted gross profit margin excluding depreciation and amortization was 79.2%, an increase of approximately 90 basis points over the prior year. Sales and marketing expense was $52 million for the quarter, or 31% of revenue, down over 200 basis points from a year ago, primarily fueled by more measured sales expansion and our focus on efficiency. We invested $28 million, or 17% of revenue, in R&D on a gross basis this quarter to continue differentiating our HCM suite and expanding our PEPM opportunity, consistent with levels a year ago. As we scale, we've continued to drive leverage in G&A. G&A expense was $21 million, or 13% of revenue this quarter, an improvement of 110 basis points from last year. Quarterly adjusted operating income increased over 40% to $23 million, with margins of 13.6%, up 250 basis points from 11.1% last year. During the quarter, adjusted free cash flow was a use of $22 million, representing a significant margin improvement of nearly 15 percentage points compared to the prior year. Free cash flow margins expanded at an accelerated rate compared to operating margins as we grow over the amortization of prior sales and product investments. As a reminder, Q1 is our seasonally lowest cash flow quarter due to the timing of our annual bonus payout. We closed the quarter with $98 million in cash and no debt. In addition, our stock-based compensation expense decreased year-over-year to less than 8% of revenue with less than 1% share dilution. For fiscal 25, our top priorities remain driving sales efficiency and accelerating cash conversion. As we laid out at the beginning of this year, we remain growth-focused with a disciplined investment philosophy as we continue targeting higher ROI investments, which aligns with our intent to create long-term shareholder value. We look forward to providing more color on this topic in a few weeks at our investor day. Based on a stable demand environment and the potential for further growth, PEPM expansion, we are increasing our outlook to fiscal 25. For the second quarter, we expect total revenues of between $176 to $178 million, or 12% growth at the top end of the range, which includes $12 million of interest income on average client funds balances of approximately $1.1 billion. And adjusted operating income is expected to be between $26 to $27 million. For the full year, we expect revenues of $726 to $733 million, or 12% growth at the top end of the range, including $48 to $50 million of interest income, which contemplates up to 150 basis points of break cuts over the remainder of the fiscal year. And we anticipate adjusted operating income of $127 to $130 million. On a recurring basis, that implies approximately 180 basis point improvement in adjusted operating income margins. In summary, we remain optimistic about our opportunity in HCM. Demand remains healthy for our innovative HCM solution that empowers leaders to drive business results by connecting them to people, data, and expertise. Our software plays a vital role in attracting, compensating, and retaining exceptional talent. We're confident in our strategy and focus on executing a proven go-to-market playbook to deliver greater sales efficiency and free cash flow margins. With that, we'll open up the call for questions. Operator?

Thank you. At this time, we will be conducting a question and answer session. If you would like to ask a question, please press the star key followed by 1 on your telephone keypad. A confirmation tone will indicate that your line is in the queue. You may press star 2 to remove a question from the queue. For participants using speaker equipment, it may be necessary to pick up your handset before pressing the star keys. One moment, please, while we poll for questions. And the first question comes from the line of Gabriella Borges with Goldman Sachs. Please proceed with your question.

Yes, good afternoon. This is Max Gamperl on for Gabriella today. Thanks for taking our questions. On AI, can you talk a bit about the initiatives around AI enablement and data infrastructure investments that you're making? How are you thinking about ROI and these investments? And do you see these as more of a driver to compete or... Could these investments actually turn into a more material driver of top line upside?

Hey, Max. Yeah, sure. A lot of the data investments that we've made in the structure that we've been able to utilize to enable a lot of the AI capabilities, we've been making the data investments for a long time. So you're not seeing a lot of outsized AI-specific data investments that we've needed to make. We're using Azure infrastructure and other third-party solutions to actually run the model, so we're not building those internally and having to staff up for that. In terms of what we're actually seeing, where we're seeing this come together is really around usability of the product. So how do we leverage AI to make the product more usable for clients, for employees, for associates? And we're starting really with that mobile experience. That's what you're seeing released more recently is the AI assistant that's available for associates online. of our customers. And it's really about enabling efficiency and enabling them to be able to navigate workflows more rapidly, navigate their own policies internally, as well as all the other areas that we've been building into the platform over the last a couple years all that continues as we think about like how to monetize this and really where this can go we think that the this sort of usability is and the ability to navigate is really uh what we'll continue to invest in so i think you'll see more and more functionality and capability that will come through this agent assist and how people engage in our software From a revenue perspective, I think it's still a little bit early, but we do see this as a monetization opportunity with some of the more advanced AI solutions like this assistant. But it's still early days, and so we'll see. You definitely have to create the value for the customers. And in this case, we're removing questions. We're removing queries from associates to the HR reps that are customers. And that should be driving a lot of productivity for both the associates and the companies and our customers themselves.

Great. And then have you received any early feedback on the PayCore Assistant and any color on potential pricing of this product would be great. Thank you.

Yeah, I mean, we started with pilots and the pilot feedback is great. I mean, still really early days, but the pilot feedback is great. People are excited about it. You know, it sort of hits you with much easier to use capability inside of the mobile app. So folks are excited about that. I mean, I think that there's high expectations for you know, how you engage with LLM models with some really great consumer-like applications out there. And so we're trying to make it as best we can, but it's still really early. And in terms of the monetization, I'd say no, it's still too early. We have some ideas about it, but we're not locked in on anything with regards to the monetization just yet. Thanks, Max.

And the next question comes from the line of Scott Berg with Needham & Company. Please proceed with your question.

Hi, everyone. Thanks for taking my questions here. Nice quarter. I guess a couple of them here. Let's start with Raul. Your comments on the demand environment sound pretty positive. I'm pretty happy with the tax rates, at least for what you're seeing, especially as you move up market a little bit more. But as you deconstruct maybe what the deals look like, do you see customers buying the additional modules outside of payroll, core HR, and time and attendance differently today? Is it kind of a different packaging than what they bought a year ago, or is it largely consistent?

No, Scott, it is extremely consistent. We continue to see outsized interest in our talent solutions, and we continue to see really strong attach of, you know, over two and a half modules You know, and it's been fairly consistent, slightly ticking up quarter over quarter. So we feel really good about, you know, the quarter, solid execution, great performance, and we really like our setup in 25.

Got it. Helpful. And then on the embedded opportunity, sounds like you signed a couple new partners here this quarter, got it into the double-digit territory, as you mentioned. If you look at those partners, and my guests will get a little bit of this at the analyst day, but do those partners bring anything different than the partners that you currently have? Maybe, I don't know, type of product that they have or type of end market, just trying to understand if we view them maybe any differently than what you've assigned to them.

Yeah. Hey, Scott, we are really excited about some of these partnerships and they are starting to get into maybe a slightly different end market and territory for us. So we're really excited to talk more about that in the analyst day in a couple of weeks or the investor day in a couple of weeks. And yeah, we'll go through that in a little bit more detail. But we are hitting a couple different end markets. We have some technology. We've sort of broken this into three different spaces, technology, center of influence and then payroll service bureaus. And most of what we're seeing today is really in that center of influence and technology space. That's where we want to focus. And we've signed some more partners in that space that we'll talk to in a couple weeks.

And the next question comes from the line of Bob and Shaw with Deutsche Bank. Please proceed with your question.

Great. Thanks for taking my questions and congrats on this strong quarter. Raul, you talked about, like, feeling good about the go-to-market and seeing kind of seller tenure improve. Do you think the issues that you kind of saw yourself going through a few quarters ago behind you and any kind of changes you're thinking about upcoming for this fiscal year in terms of the go-to-market and territories?

Yeah, we definitely feel like we've had two consecutive quarters of improvement in all the key seller metrics. from a retention, breadth of participation. So we feel really good about where we are, and we're going to continue to process, improve, and drive that forward. But we feel really good about it in our positioning. And I don't anticipate anything significantly different. We're going to continue to have success, strong success in our demand generation and continue to leverage the broker channel. We're getting a little over 60% of our mid-market results from the broker channel. So we feel really good about that. We're going to continue to press in there. But outside of that, we really like our formula. It's been really consistent. It's delivered really consistent bookings growth. And it's really just about execution. And we feel like, you know, some of the challenges that we faced in the second half of last fiscal year or the first half of this calendar year, you know, are behind us. And we've had two great quarters in a row of improvement.

Got it. That's good to hear. And just a follow-up for Adam. Just in terms of the outperformance this quarter, it sounds like DCNet was pep and driven. And anything specific within the modules or pricing that drove that and kind of how we'll have employment trends? trend of this quarter relative to expectations.

Yeah, hey, Bob. The employment trends have been consistent in that sort of low single-digit sub-1% range, and that has led to some upside. So we do see that as upside. We didn't include anything related to the labor market in our guide. And then, yeah, we've seen some continued upside performance across cross-sale and some of the pricing take that we've been able to accomplish. And so just some consistency and outperformance relative to a little bit of the conservatism.

Thanks, Robin. And the next question comes from the line of Mark Marcon with Baird. Please proceed with your question. Let me add my congratulations.

Really nice quarter all the way across the board. Can you talk a little bit more about the PayCore integration platform? When exactly was that introduced? Do you have any clients on it now? And, you know, how much of a boost do you think that's going to provide with regards to being able to sell to new logos?

Yeah, so the platform has been live for, you know, since the beginning of the fiscal year. We have clients that are leveraging the technology every day as either new clients are added into the platform or existing clients decide they want to leverage technology you know, the platform for an integration. It really provides simple self-service tools to enable to accelerate that process. And so we feel really good about it. You know, integrations, you know, was a dirty word in HCM for a long period of time. And we've really embraced it, opened up the platform and tried to leverage that as a differentiator across the ATM ecosystem. And we feel like we're going to continue to invest here. We're going to continue to open the platform. And we want to continue to make it easier for our clients to connect their data to all the tools they want to use.

That's great. And then can you talk a little bit more about the sales progress? Sounds like Things are going well in terms of both, you know, the pipeline at the top of the funnel as well as conversions and win rates. Can you talk a little bit about the effect of the increased maturity and where are you seeing the strongest sales growth? Is it still in the tier one markets that are still relatively immature for you? How do you think about that progress?

Yeah, I mean, we're still seeing outperformance in the Tier 1 markets as a percentage of the whole. They're the 15 largest cities in the U.S., and we would expect that. And so we're excited about, you know, our ability to continue to grow in those cities or grow into those cities. And so that's, you know, I would say the biggest, you know, item in the quarter was really the overperformance of the broker channels. You know, over 60% of our field bookings coming from a trusted partner is great. It's great for the reps, but it's also a testament to how great they think the product is and the experience is. And so, you know, we're excited about, you know, that as probably a standout metric in the quarter.

And the next question comes from the line of Terry Tillman with Truist Securities. Please proceed with your question.

Great. Good evening, guys. This is Connor Passarella on for Terry. Appreciate you taking the questions. Just wanted to start with, I guess, could you maybe talk a little bit more about the larger upmarket deal opportunities? Could you maybe just kind of talk to, I guess, the decision cycles, anything around there that might be important for us to kind of think about as we think about the pipeline for the rest of the year?

Yeah, I mean, we're really continuing to be pulled up market into larger size transactions. And that's really just based on the power of the platform, the openness of the platform, the robust talent suite. And so we're going to continue to go there and meet clients that want to take a look at the PayCore solutions. And so we're excited about that. We continue to see strong performance there. you know, in that segment. And the only thing from a macro perspective that I would say is, you know, for the majority of our book, there's no change in deal cycle. And I would say at the top end of the book, you know, there's like an increase of like, you know, a week. in the deal cycle. So it's not really that material. Now, we're not at the very high end of enterprise where maybe that would be more material for other software companies. But for us, we haven't seen really any changes in the deal dynamics across the segments other than slightly longer deal cycle for the larger deals that we're working on. Got it. That's really helpful. Thanks, guys. Super. Thanks, Conor.

And the next question comes from the line of Jared Levine with TD Cowan. Please proceed with your question.

Thank you. With the PayCore marketplace, can you discuss the current scale of partner-derived revenues and how materially you believe this can get over the medium term?

Yeah. Hey, Jared. So it's still pretty early days, so it's been consistent in terms of the number of partners that we've had at scale, but the revenue itself is still – it's not immaterial. I mean, it's a good portion, but we're still in, like, low single digits in terms of percentage of total revenue that we have. derived from the partner channel or that referral partner channel. We do think that there's a lot of opportunity. I mean, this has been growing, the interoperability, the platform that we've enabled. There's a lot of partnership opportunities, and we continue to evaluate those. So we think that there's a good opportunity to continue to expand this section of the market.

Great. And then in terms of client list acquisitions, can you talk about the current state of the pipeline there, and are you witnessing any increased competition for these deals?

I mean, we don't really do a ton of portfolio acquisitions. There are opportunities, and so it does tend to be a little bit more opportunistic, and we're always evaluating them, so there's always stuff in the pipeline. I would say we haven't seen anything necessarily that we would call out as a competitive difference in the market around portfolio acquisitions as of late. Thanks, Jared.

And the next question comes from the line of Brian Peterson with Raymond James. Please proceed with your question.

Hi, this is Jessica Ong for Buying Today. Thank you for taking my question. So as you continue to build out your embedded, are there particular customer verticals that you've been seeing that are displaying higher interest in embedded or that can improve your retention rate? Just to build up the partnership here.

Yeah. Hey, Jessica, there are a couple areas that we see that are sort of evolving for us. So as I mentioned before, you have a little bit more on the technology side, and then you have these centers of influence. And within the technology segment itself, really where we're focused or where we see the opportunities around these vertical specific either workforce management, ERP, POS type solutions. And we've seen some success there. I'd say that we haven't signed enough partners just yet and gotten deep enough with those partners to call out any one specific goal. But what we tend to see generally is that the software companies who are going to market are experiencing the same thing across broad software, right? They're trying to improve their value prop they're trying to add additional services and products into their suite, and they want something more punchy to be able to go to market with. And we see that payroll tends to be a service that sits around ERPs and POS that is is really sought after by customers, but is really hard to do and really hard to build a scaled platform. And so we feel like there's this natural fit in a lot of areas around these vertical-specific workforce management, ERP, POS, et cetera. So not anything that we're sort of locked in and really tied on just yet, but continues to be lots of opportunity in that space.

Awesome. Thanks for that, Connor. A follow-up question is, so You've already announced these AI expansions, new product expansions. If you think further in your product roadmap on a high level, what other types of functions and products are you prioritizing for this year to continue going pep in? Thanks.

Yeah, hey, Jessica. So we still are focused on a lot of things around this sort of AI assist. I think that it's early on this, and so there's going to be a lot of opportunities for us to continue to expand the depth and the functionality of where that assistant gets to and the sorts of workflows that it can enable, the insights that we can offer back to our clients and to their associates. So there's a lot to continue to advance around that. And then we'll continue to look for opportunities around our talent suite and around benefits. and our workforce management platform. So lots of opportunities still to continue to expand.

And the next question comes from the line of Mark Murphy with J.P. Morgan. Please proceed with your question.

Hello, this is Josephina Ruggieri on for Mark Murphy. Thank you guys for taking the question and congrats on a good quarter. Another question on AI, but a little different. You've talked about some of the efficiencies you've seen in your business. And there's been a couple of quarters where you've been asked about the internal use of AI. Would you say that's been contributing to that? Or have you seen a benefit? And where did you expect you might adopt more AI capabilities internally?

Yeah, hey, Josephina, we are trying a handful of things and piloting things across the business internally. And I'd say that we're still really optimistic, although clearly there's a little bit of a trough in terms of some of the closeness of the capability, right? The idea and the promise of the capability is... probably a little bit further along than how real it is just yet. I think we're seeing that broadly in the market. So we're excited about it. We're piling some things. We have it in our call center where we're supporting our agents to enable them to be more effective and summarize calls, and that's working. We're seeing some improvements there. We're looking for opportunities with co-pilots, and we're seeing more adoption there. But I would say there's nothing that's sticking out that's driving outsized margin improvement at this point.

Great. Thanks for that. And then kind of a second question on another macro environment question. Were there any specific verticals that you saw that did particularly well in this quarter? Was it kind of across the board, a good quarter, anything, any other color you could provide?

Yeah, I mean, we saw a really strong quarter in health care kind of stood out amongst, you know, all the verticals.

And the next question comes from the line of Brad Reback with People. Please proceed with your question.

Great. Thanks very much. Raul, you talked about the overperformance of the broker channel. Are you doing anything differently there or just trying to get a sense of what would have caused that quarter over quarter and really causing it to break out of the historical range?

Yeah, a couple of things. I think, you know, we over the past, we've narrowed our focus and really pointed out you know, our sellers to the brokers with the most opportunity. Secondly, our sales tenure continues to increase. So obviously, you know, the combination of appointing sales associates and at the right target, and then having a more tenured rep execute against that target, you know, just delivers better outcomes. I think those are, you know, it's primarily blocking and tackling. The value prop has always resonated with, you know, our ability to enable them to pick the bed admin that they care about, and they don't have to use ours. It's a big, you know, value prop for the broker. And then secondly, giving them a prioritized and seamless implementation of and good client experience is what they want because they have, you know, a handful of clients that they want to be treated like gold.

Got it. And then, Adam, quickly on the PEPM growth, does the embedded business start to impact PEPM growth this year, or is that something that we should see, you know, in future years?

I do think that it impacts this year. It is dragging right now. You're seeing about a point, two points of a drag in what's showing up on the actuals today. So you did see, like, of the 11% growth, slightly better if you were to take out some of the embedded performance. So we have a lot of actual benefit coming through this quarter and the last couple quarters with cross-sell opportunities, with some of the pricing take that we had mentioned. So we're seeing some of the benefit, and it will be muted over time as embedded continues to grow.

And the next question comes from the line of Steve Enders with Citi. Please proceed with your question.

Hi, thanks for taking the question. Maybe just to follow up on that last comment about taking price, is there any way you can help us size the magnitude of that impact and maybe just more broadly what you're seeing from a pricing environment in the market?

Yeah, I mean, what we tend to do when we increase prices or when we run a pricing increase is it's wrapped around additional products and additional services that we launch into the market and that we offer to our clients. So we'll continue to expand our functionality, our capabilities, the depth of the service offering, and then launch it alongside that. And we've seen some pretty good success there. with that as we really position it around the value that the company continues to build into. We've seen that with the AI offerings where we continue to add AI functionality and features, and we're not necessarily adding it as a product that someone needs to subscribe to. So you're seeing some of that come through, and you see the cross-sell opportunities as we continue to do the same thing. We're building our bundles up. We're offering new products inside of the bundles, and then our insight team is taking that back to our customers and seeing some of the success. Typically, what we see is about a third split between pricing, a third split between cross-sale, and then higher adoption at the point of sale and larger clients and embedded sort of pushing down on that. So those tend to split equally in about thirds. I'd say that we're getting just a little bit more from that cross-sale on the price, you know, a point or so each in those other areas.

Okay, super helpful. And then it sounds like rep productivity is trending well over the last two quarters. Is it right to think about increasing rep tenure as the main driver? Are there kind of other components, maybe a more healthy demand backdrop or something else that you would point to that's helping here?

Yeah, I think it's more about tenure drives productivity. And so You know, that is probably the biggest impact. Obviously, you know, we're also selling more, you know, bigger average deal size. So the combination of better tenure, selling a more complete solution helps drive productivity.

And the next question comes from the line of Patrick Walravens with Citizens JMP. Please proceed with your questions.

Hi, this is Nick on for Pat. Congrats on the nice quarter, guys. I had a question regarding AI. So how are you prioritizing, I guess, where you spend, like, I guess, R&D-wise? How are you thinking about that regarding AI, especially now that you have your first product up?

Yeah, well, I wouldn't say, Nick, that it's our first product. We've been launching products around AI for the last couple of years. We've gotten a lot of insights working back through our customers to see what can help them. Where should we prioritize the most based on the needs that our customers have? So that's where we spend most of our time is talking to customers, seeing where the opportunity lies from their perspective. And, of course, as you can imagine, a lot of HR administrators, they take a lot of questions back from their employees and their associates around policies, around how to navigate benefits. And so we wanted to, that's a perfect use case from our perspective for large language models and how we might be able to, you know, reduce the amount of friction that it takes to answer some of those basic questions. And so that's where we started with this agent assist. We also enabled it first in our mobile app so that the majority or the biggest, I should say, cohort of employees have an opportunity to engage with it. Most employees, of our customers, employees, just like across the country, are deskless. They're not sitting at a computer asking questions. They're working. They're in the field. They're in a retail location. They're at a restaurant. And so when they're working through their mobile app, they have an opportunity to engage quickly. And we're excited about that because it also allows us to, for those associates, to launch workflows directly from that app. And so we're really early on that stage, but We wanted to focus with an opportunity to reduce the customer effort and reduce the burden that HR administrators take in answering some of those basic questions that these sorts of models are so great at.

Awesome. Thank you very much.

And the next question comes from the line of Charles Niven with Steven. Please proceed with your question.

Good afternoon, and thank you for taking my question. My question is on sales coverage expansion. I think a couple quarters ago you had mentioned you were slowing things down to the mid-teen growth pace versus 20% prior. Just wanted to see if you're still thinking about things from that perspective or if you're starting to see anything in the macro that would prompt you to potentially accelerate or decelerate that pace.

Yeah, we feel really good about our ability to continue to add headcount throughout the year and continue to balance driving productivity. We're really leaning in on expanding capacity by driving better retention, better overall tenure, and driving that overall productivity. So I think it's going to be a combination of both. You know, we had highlighted early on that we believe we'll be, you know, double digits in headcount growth and I see no reason today why that won't happen.

Got it. And as a follow-up, I wanted to drill into free cash flow a little bit. I know this is the seasonal low for the year, but very strong expansion versus last year. So with that said, I wanted to see if there was any transient factors impacting the expansion this quarter and any comments you could make on the cadence as we think about modeling free cash flow through the year.

Yeah. Hey, Chuck. Nothing necessarily transient that we should be thinking about just right now. I mean, we're trying to be consistent and drive the margin expansion over time. So, you know, we want to try to continue to be consistent as possible. We see the same things that we've been working on around sales efficiency, around leverage out of G&A, continuing to expand gross margins. And then actually we're getting a little bit tighter with some of the working capital that drag that we've been experiencing as we've changed some of our pricing models, that has started to plateau. So you're starting to see that really accelerate into the free cash flow. So this will clearly be our seasonal low, and we want to drive some consistency in that expansion into the going forward quarters as well. Thanks, Chuck.

And at this time, we have reached the end of the question and answer session, and now I'd like to turn the floor back over to Raul Villar, Jr., Chief Executive Officer, for closing comments.

Thank you for joining us this evening. We are optimistic about fiscal 25 and remain confident in our ability to deliver attractive growth while accelerating margin expansion and free cash flow generation. We would like to invite you to attend our inaugural Investor Day on November 21st. With more than three years since our IPO, we're excited to meet with investors to discuss the next phase of PayCore's growth and profitability. We will also be participating in the UBS Global Technology Conference in Scottsdale. Thank you and have a great night.

And ladies and gentlemen, that does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.