Insperity, Inc.

Good morning. My name is Paul, and I will be your conference operator today. I would like to welcome everyone to the Insperity First Quarter 2025 Earnings Conference Call. At this time, all participants are in listen-only mode. A question and answer session will follow the formal presentation. If anyone should require operator assistance during the conference, please press star zero on your telephone keypad. Please note this conference is being recorded. At this time, I would like to introduce today's speakers. Joining us are Paul Cervati, Chairman of the Board and Chief Financial Officer, and Jim Allison, Executive Vice President of Finance, Chief Financial Officer, and Treasurer. At this time, I'd like to turn the call over to Jim Allison. Mr. Allison, please go ahead.

Thank you. We appreciate you joining us today. Let me begin by outlining our plan for this morning's call. First, I'm going to discuss the details behind our first quarter 2025 financial results. Paul will then comment on our first quarter results, the macroeconomic environment, and the ongoing implementation of our Workday Strategic Partnership. I will return to provide our financial guidance for the second quarter and full year 2025. We will then end the call with a question and answer session. Before we begin, I would like to remind you that Paul or I may make forward-looking statements during today's call which are subject to risks, uncertainties, and assumptions. In addition, some of our discussion may include non-GAAP financial measures. For more detailed discussion of risks and uncertainties that could cause actual results to differ materially from any such forward-looking statements and reconciliations of non-GAAP financial measures, please see the company's public filings, including the Form 8-K filed today, which are available on our website. This morning, we reported first quarter adjusted EPS of $1.57 and adjusted EBITDA of $102 million. These results fell below our guidance range, primarily due to higher than expected benefits costs, which I will discuss further in just a minute. The average number of paid worksite employees increased by 0.7% over Q1 of 2024 to 306,023. The paid worksite employee growth was slightly below our guidance range as some new client starts were delayed or canceled in the second half of the quarter due to mounting uncertainty around the impact of the new administration's economic policies. However, Brookside employees paid from new client sales still increased 3% over Q1 of 2024. In addition, client retention remained a bright spot in the quarter with a total client retention of just 9% in Q1 of 2025 versus 12% in Q1 2024. Client net hiring was just slightly positive for the quarter, but continued to be very weak compared to historical norms and lower than last year. Gross profit per worksite employee in Q1 2025 was $338 per month, down from $378 in Q1 of 2024, as benefits cost per covered employee increased 8.4% year over year. Other components of gross profit per worksite employee, including pricing, payroll taxes, and workers' compensation, were generally in line with our expectations. We are obviously disappointed by the emergence of higher benefits costs. On a per covered employee basis, benefits costs exceeded our budget by $28 million, of which $12 million was related to higher-than-expected runoff of medical claims related to prior periods, and $16 million was related to higher than expected medical claims incurred in Q1. Typically, the claims runoff from prior periods includes a mix of positive adjustments and negative adjustments. And in periods of higher than expected runoff, it's typically concentrated in the most recent prior period. Our $12 million adjustment this quarter was much more widespread in that we saw an elevated level of claims adjudication and payment above normal historical levels for virtually all older periods, which is an unprecedented occurrence. To mitigate future exposure to claims from these historical periods, our adjustment includes both the higher level of adjudicated claims plus an increase in our reserve for remaining unreported claims. We have analyzed our medical claims history to investigate the underlying causes of the higher than expected claims activity for Q1 and prior periods. Our analysis indicates a significant acceleration of claims payment activity for inpatient hospitalization and outpatient services in Q4 and Q1. Pharmacy costs also trended at higher than expected levels, although to a somewhat lesser degree. Looking at large claims, we can see that the frequency of claimants costing more than $100,000 in a quarter has increased by about 10% in Q4 and Q1 compared to recent history. To summarize, our data indicates that our benefits costs have been impacted by an acceleration of several interrelated factors. Claims processing affecting current and prior periods, inpatient, outpatient, and pharmacy costs, and the frequency of large claims. As we look to what this means for our expectations for the full year, we have considered a range of possibilities, including whether these factors represent a longer-term new normal, a shorter term increase in utilization that happens from time to time in our plan, or possibly even a change in the timing of payments or processing speed. In addition, we have taken into consideration the impact of demographic changes and plan migration to lower cost plan options, which should provide a favorable impact to claims trends as we proceed through the year. Based on these factors, we are forecasting a range of benefits cost per covered employee of 6.5% to 7.5% for the full year, up from our initial projection of 5% to 6.5%. Based on the higher projected cost trend, we have raised our pricing targets moving forward. We have already started to implement these measures with an emphasis on strategically selected accounts. Assuming our benefits cost trends towards the midpoint of the projected range, we expect to be able to realign our pricing by January of next year. In addition, we are also evaluating benefit plan design and packaging changes that could mitigate health care cost trends in 2026. We continue to closely monitor claims activity and will adjust our pricing and plan offerings accordingly. Moving to Q1 operating expenses, they were managed slightly below budget and increased only $5 million or 2% over Q1 of 2024. The small increase was driven by the investment in our Workday Strategic Partnership, which totaled $13 million in Q1 of 2025 versus the initial ramp up of $5 million in Q1 of 2024. Other operating expenses were down slightly year over year. As for income taxes, our effective tax rate was 29% and was generally in line with Q1 of 2024. During the first quarter, we continued to return capital to our shareholders through our regular dividend program and the repurchase of our shares. We paid $23 million in cash dividends and repurchased 224,000 shares of stock at a cost of $19 million in Q1. We ended the quarter with $124 million of adjusted cash, and we had $280 million available under our credit facility. Now at this time, I'd like to turn the call over to Paul.

Thank you, Jim, and thank you all for joining our call. Today I'll provide comments on four areas. First, I'll discuss the impact of the change in the macroeconomic environment that occurred in the first quarter and the effect on our full-year growth outlook. I'll follow with progress on initiatives to build on the growth momentum we established early in the year. Next, I'll provide some context around the benefit-cost issues that developed in the quarter and the three initiatives we expect to mitigate effects in 2026. I'll finish with what I believe is the most significant recent development, the outstanding steps forward on our Workday Strategic Partnership, including our agreement on a go-to-market plan. Our first quarter began with an excellent year-end transition due to a very successful fall sales and retention campaign. We achieved an important inflection point, reestablishing positive growth in paid worksite employees. Midway through the quarter, tariff and other government policy initiatives led to turbulence in the market and uncertainty in the marketplace. We saw quite a sudden reversal of optimism in our small and mid-sized business target market and client base, directly affecting decision-making. An outcome of the shock factor in the small business marketplace was a number of sold accounts in the queue to become paid worksite employees decided not to move ahead or delayed the start of their contract beyond the first quarter. Now, although we've already seen some moderation of client and prospect indecision, the dramatic change in sentiment about the economic climate and the impact on their business for 2025 was evident in our recent client survey results. We completed our survey in the middle of April and 66% of respondents expect the economic climate to have a negative effect on their business this year. This is up from only 29% in January. Client survey respondents expecting their business to perform better than last year was down to 58% in April from 71% in January. And those expecting to add employees in the coming quarter were down to 34% from 43%. On a positive note, HR priorities continue to support demand for our comprehensive HR services as the top three needs identified by respondents were retaining talent, building a strong culture, and keeping employee engagement high. Our new sales booked in the quarter were on track through February. However, March came in below budget. We still had a relatively solid full quarter at 85% of budget, especially considering the uncertainty in the marketplace. But the effect on sales was apparent. The Q1 book sales number is not below budget by enough to change our annual sales target. However, the timing of these sales combined with paid worksite employee results in Q1 slightly below our expected range has a significant cumulative effect on the year in our residual income business model. The math from this takes the shortfall in worksite employees times the nine months of the balance of the year. In this case, in our model, the year-over-year growth rate comes down by over 1%, and this lower number of employee months reduces gross profit. This is quite a contrast compared to the momentum we have seen in our growth drivers, including client retention, and our sales and marketing efforts. Our exceptional start to the year in client retention of 91% has put us on track for a strong year in this key metric at the high end of our historical range. Our recent realignment in our sales and service organizations I discussed last quarter is already showing signs of success. Our sales activity figures creating the opportunity for new sales was excellent with a double-digit year-over-year increase in total business profiles or opportunities to bid our services. One of the key drivers of this sales activity was a double-digit increase in marketing leads over the same period last year. Many aspects of our marketing efforts are gaining traction, and we believe we are in a strong position to continue to feed qualified leads to our more experienced team of business performance advisors, driving sales this year even in this economic climate. Now, let me provide some context for the benefit cost increase related to our health plan coverage we have with UnitedHealthcare. In our business model, our quarterly accounting requirements for our annual health plan policy is a source of potential volatility in our results. Volatility in the healthcare market at large has been more pronounced since COVID and predictability has been affected to a degree. But our analysis indicates that this quarter's higher than expected claim activity was due to a variety of factors rather than a primary root cause. UnitedHealthcare is going through a difficult period of their own and they've told us they've not altered their approach handling our claims. Based on the data we received, there are indications of accelerated payments, utilization patterns, large claims, or a combination of the three all appearing to be part of the mix. We've had times in our history where this type of quarter, in hindsight, simply reflected the concentration of large claims or other activity that evened out in subsequent periods. We've also had times where a quarter like this was the first sign of a higher trend rate than expected, and at those times, Pricing and cost management tactics were important to balance price and cost going forward. We're treating this development like the latter case. As a result, we're reserving additional amounts we believe are appropriate and factoring in a higher trend in our outlook, which produces a wider range of forecasted earnings for the current year. If there's such a thing as a silver lining here, the timing of this occurrence allows us to begin three initiatives that we believe will help address this situation with the goal of mitigating effects in 2026. As Jim mentioned, we've already begun a pricing initiative which we believe can balance price and cost by year end at the midpoint of our new expected benefit cost trend. The second initiative is our evaluation and implementation of plan design changes for the next plan year. Plan changes must be decided by mid-year and then implemented over the second half of the year. Because we have this information about benefits cost now, we are factoring in this information as we evaluate upcoming plan changes. No significant plan design changes were initiated this year, so January 2026 would be a practical time for these changes to occur. The third initiative is also timely. Our multi-year contract with UnitedHealthcare is scheduled to be renewed on January 1, 2027. UnitedHealthcare has been our primary carrier since 2002, and we typically negotiate our new contract before the last year of the current term begins. We've already had a call with UnitedHealthcare leadership and agreed to accelerate contract renewal discussions, including possible structural changes. We also believe there are opportunities to further leverage our workday strategic partnership and our related go-to-market plan in these discussions. So our most significant short-term issue in the first quarter was certainly the benefit cost challenges, and we have a plan in place that we believe will address it in a manner likely to mitigate any effect next year. The most significant development in the first quarter for the long term was the exciting progress we made on our Workday strategic partnership, including our go-to-market plan, which I will cover in a few minutes. First, we achieved the critical milestone of launching our corporate Workday platform in mid-March. I'm very pleased to report that in spite of the complexity and the relatively short period of time to reach this milestone, this launch was nearly flawless. Both firms had prepared diligently for any possible issues. and we're very pleased this transition occurred at such a high level of effectiveness outside the norm of typical deployments. The launch of Insperity corporate instance was a significant milestone for the entire strategic partnership for several reasons. Notably, many of the integrations and development efforts for the corporate instance are also foundational for the client instance. In addition, Insperity now has experienced the efficiency and effectiveness that the Workday solution offers companies like ours with over 4,400 employees. This achievement allows us and our people to become a strong advocate for the joint solution we are developing for clients. The reaction across Insperity from managers and employees alike has been tremendous. People leaders have been commenting that they have much more visibility into their organizations as we move from multiple systems into one with processes that are more efficient and happening in real time as part of a business process workflow. Frontline employee comments have also been enthusiastic about the amount of information available all in one location, the ability to review and complete tasks inside the mobile platform, a fantastic issue resolution process, and the ease of navigation. Now, from the reaction and comments, it's apparent we're off to a great start in developing the advocacy we intended to recommend the joint Insperity Workday solution to clients and prospects in the near future. There's still a hill to climb to launch the new product, but the momentum from the team of both companies working together to achieve such a successful launch of the corporate instance is a leverageable confidence boost. I believe another critical highlight of our efforts so far this year was the completion of our Workday Strategic Partnership go-to-market plan for our new joint solution. With senior leadership and other key personnel from both companies together, our teams agreed upon the plan to take our joint solutions to market. We are aligned on the target market for the joint solution, the product name, messaging, and competitive positioning, the sales motion, and most importantly, to form a new pod, a product-oriented delivery team focused on achieving the objectives set by leadership of both companies. This go-to-market plan contemplates this team of cross-functional sales, sales support, marketing, and other professionals will execute a plan to co-sell our new joint offering. We plan for this to be a client-centered approach to determine the best path forward for a prospect, matching their needs with the offerings of Workday, Insperity, and of course, our new joint solution. This team is rapidly forming and taking the steps necessary to begin calling on targeted early adopter candidates over the last half of this year. The goals of this team over this period include developing the sales motion and selling accounts to queue up for 2026 when the joint solution is expected to be available. This team will wake up every day with the responsibility, authority, flexibility, and incentive to achieve the goals of the go-to-market plan. We believe this new joint offering is a hand-in-glove fit for this large underserved target market. The target market is comprised of over 40,000 businesses with more than 25 million employees in total. We believe our new joint solution to be a uniquely comprehensive combination of technology and services for this mid-market and has the potential to be disruptive, providing greater speed to value and lower cost and complexity. Up to this point, we have not provided any quantification of this new growth driver we expect to begin at some point in 2026. Now that we have an agreed-upon go-to-market plan, we believe it's reasonable to give some frame of reference for consideration. It's important to note this is not specific guidance in any form, but just some information to help you understand the potential significant impact this new product could have to drive growth and return on investments. We expect the average size of prospects in this target market for this new solution to be higher than our historical sales of mid-market accounts, which we believe could double our annual mid-market sales production. As an example, if we sold just 20 accounts at an average of 750 employees, this would produce 15,000 worksite employees, adding approximately 5% to our annual growth at our current size. When you also consider the opportunity for current mid-market accounts moving to the new solution and the corresponding increase in our client retention rate, we believe there's potential to double the size of our mid-market business over a reasonable period of time and drive a substantial return on investment. I had the opportunity to introduce this strategic partnership and the new solution to nearly 80 mid-market business leaders, owners, or CEOs who both prospects and current clients at a recent event. The reaction included a high level of enthusiasm, but also a clear understanding that Insperity and Workday have made a significant investment of resources to bring a potentially game-changing solution to their doorstep. Co-branding, co-marketing, co-selling, all part of our go-to-market plan are key elements of the Workday Strategic Partnership. We believe this new joint solution will be well received by the target market and will be a key driver to the growth trajectory of Insperity for 2026 and beyond. At this point, I'd like to pass the call back to Jim.