Is Bill.com the Next Breakout Software-as-a-Service Company?

2019 was a mixed year for IPOs. While big names such as Uber and Lyft failed to live up to the hype, others such as BeyondMeat and Zoom were roaring successes. 

One company that was hot straight off the bat was Bill.com (NYSE: BILL), whose share price surged 65% on its first trading day. The cloud-based software provider helps small and medium-sized businesses manage customer payments and cash flow.

After releasing a good set of results for its first quarter as a listed company, Bill.com’s share price jumped again and are now trading an eye-popping 143% above its IPO price. 

With the surge in price, I decided to take a deeper look into the company and whether its shares at today’s price is a good investment opportunity. I will analyse Bill.com using my blogging partner Ser Jing’s six-point investment framework.

1. Is Bill.com’s revenue small in relation to a large and/or growing market, or is its revenue large in a fast-growing market?

Bill.com’s main clientele are small and medium businesses (SMB). According to the US Census Bureau, there were 6 million SMBs in the US in 2018. Data from SME Finance Forum pointed to 20 million SMEs globally in 2019. These numbers translate to a market opportunity of US$30 billion globally and US$9 billion domestically for Bill.com, based on an average revenue of US$1,500 per customer.

Comparatively, Bill.com, as of the end of 2019, served just 86,000 customers and had a US$156 million revenue run rate. That means it is serving just 2.6% of its total US addressable market, giving it a huge opportunity to grow into.

We’ve not even touched the international market opportunity yet. Bill.com currently operates only in the US and if and when it opens its doors internationally, we could see another big wave of growth.

The 61% year-on-year jump in core revenue in the quarter ended 31 December 2019 also demonstrates that the company is on the right track to fulfilling its vast potential.

CEO and founder, Rene Lacerte, outlined five key drivers of growth during the latest earnings conference call that will help Bill.com capitalise on its market opportunity:

1. Invest in sales and marketing activities to acquire new customers
2. Seek increased adoption by existing customers by increasing the number of its customers’ employees who become regular users (Bill.com charges each company a fixed amount per user)
3. Grow the number of network members (network members are suppliers and clients that customers can interact with through the platform) 
4. Enhance platform capabilities through R&D
5. Expand internationally

2. Does Bill.com have a strong balance sheet with minimal or a reasonable amount of debt?

As is the case for most fast-growing start-ups, Bill.com is still loss-making and burning cash. The company had negative free cash flow of around US$10 million and US$8 million in fiscal 2018 and 2019 (the company’s fiscal year ends on 30 June). 

Thankfully, Bill.com is flushed with cash after its IPO. At end-2019, the company had no debt, and US$382 million in cash and short term investments. This puts Bill.com in a commanding position financially and it also means that the company should have the financial power to continue investing for growth.

It is also positive to note that the company’s sharp rise in share price could also open the door for it to raise more money through issuing shares (in a reasonable manner!) to boost its balance sheet in the future.

3. Does Bill.com’s management team have integrity, capability, and an innovative mindset?

Rene Lacerte has an impressive resume. He is a serial entrepreneur who sold his last startup, PayCycle, to Intuit for US$170 million. It was at PayCycle when he realised how difficult it was to run the back-office operations of a company. Hence, he started Bill.com to streamline the back-office processes of SMBs. 

His track record as an entrepreneur is a testament to his ability to innovate and lead a team. Bill.com has a 13-year track record of growth and has consistently improved its service and grown its network of partners.

These initiatives have helped build Bill.com into a platform that customers trust and stick with.

I think Lacerte has a clear vision for the company and he has put in place a good framework to achieve that. In addition, his decision to take the company public last year is also smart, given the high valuation that he managed to raise new capital at.

When looking at a company’s management team, I also like to assess whether the compensation structure is incentivised to boost long-term shareholder value. 

I think Bill.com has a fair incentive structure. Rene Lacerte is paid a base salary of US$350,000 and also given option awards. As the option awards vest over a multi-year period, it incentivises him to grow long-term shareholder value. 

4. Are Bill.com’s revenue streams recurring in nature?

Bill.com has a predictable and recurring stream of revenue. The cash management software company derives its revenue through (1) monthly subscriptions, (2) transaction fees, and (3) interest income from funds held on behalf of customers while payment transactions are clearing.

Monthly subscriptions are recurring as Bill.com’s customers tend to auto-renew their subscriptions. Transaction fees are not strictly recurring in nature, but approximately 80% of total payment volume and the number of transactions on Bill.com’s platform in every month of fiscal 2019 represented payments to suppliers or from clients that had also been paid or received from those same customers in the preceding quarter.

In other words, Bill.com’s customers tend to make recurring payments or collect recurring fees over the platform. This, in turn, generates recurring transaction fees for Bill.com.

In the quarter ended December 2019, subscription and transaction revenue made up US$33 million of the total revenue of US$39.1 million.

Bill.com also has a decent customer retention rate of 82% as of June 2019. The net dollar-based retention rate is an indicator of how much more customers are spending on the platform, net of upsells, contraction, and attrition. Ideally, the number should be more than 100%. Bill.com’s net dollar-based retention rate was 110% for fiscal 2019 and 106% for 2018. Put another way, Bill.com’s customers as a group, paid 10% and 6% more in 2019 and 2018, respectively.

The increase in net spend by existing customers is a good indicator that Bill.com has a business model that promotes recurring and growing revenue from its existing clients.

5. Does Bill.com have a proven ability to grow?

Bill.com has barely gotten its feet wet as a listed company so it has yet to prove itself to the investing public. However, as a private company, Bill.com has grown by leaps and bounds.

The chart below shows the annual payment growth and milestones that it has achieved since 2007.

Bill.com grew to 1,000 customers in three years after launching its demo in 2007. In 2014, it hit 10,000 customers and today serves more than 86,000 customers.

As the company’s revenue is closely linked to the number of customers it serves and the payment volume handled through its platform, Bill.com’s revenue has also likely compounded at an equally rapid pace over the years.

Most recently, Bill.com reported a strong set of results in its first quarter as a listed company with core revenue up 61% in the quarter ended December 2019.

6. Does Bill.com have a high likelihood of generating a strong and growing stream of free cash flow in the future?

As mentioned earlier, Bill.com is still not free cash flow positive. However, I believe the company has a clear path to profitability and free cash flow generation.

For one, its existing customers provide a long and steady stream of cash over a multi-year time period. As such, the company can afford to spend a higher amount to acquire customers.

In its S-3 filing, Bill.com showed a chart that illustrated the value of its existing customer base.

The chart is a little blur so let me quickly break it down for you. The orange bars illustrate the revenue earned from the customers who started using Bill.com’s software in the fiscal year 2017. The revenue earned from the cohort increased from US$6.7 million in FY17 to US$14.2 million and US$17.3 million in FY18 and FY19, respectively.

The dark blue chart shows customer acquisition costs related to getting the 2017 cohort onto its platform. Once the customers are using the platform, they tend to stay on and there is no need to spend more on marketing. Hence, there is no dark blue bar in FY18 and FY19.

The dotted black line is the contribution margin from the cohort. Contribution margin rose from -108% (due to the high customer acquisition cost that year) in FY17 to 73% and 76% in FY18 and FY19, respectively.

In short, the chart demonstrates the multi-year value of Bill.com’s customers and the high potential margins once the customers are on its platform. These two factors will likely drive profitability in the future for the company.

Risks

Execution-risk is an important risk to take note of for Bill.com. The relatively young SaaS firm is just finding its feet as a public company and will need to execute on its growth plans to fulfill its potential and deliver shareholder returns.

With barely three months of a public track record to go on, investors will need to take a leap of faith on management to see if they can actually deliver.

There is also key-man risk. Lacerte is the main reason for the company’s success so far. His departure, for whatever reason, could be a big blow to the company.

In addition, the market for financial back-office solutions is fragmented and competitive. Some of Bill.com’s competitors may eat into its market share or develop better products.

That said, Bill.com has built up an important network of partners and businesses that are already supported on its platform. This network effect creates value for its current customers and I think it is difficult for competitors to replicate.

Valuation

Now we come to the tricky part- valuation. Valuation is always difficult, especially so for a company that has yet to generate free cash flow and with an uncertain future. I will, therefore, have to make an educated guess on where I see the company in the future.

According to its own estimate, Bill.com has a market opportunity of US$39 billion worldwide. To be a bit more conservative, let’s cut this opportunity by half and then assume it can achieve a 20% market share at maturity in five to 10 years’ time.

If that comes to fruition, Bill.com can have annual revenue of US$3.9 billion. Given its high 75% gross profit margin, I will also assume that it can achieve a net profit margin of 25%. Mathematically, that translates to an annual profit of US$975 million.

If the market is willing to value the company at 25 times earnings by then, Bill.com could be worth close to US$24.4 billion.

Today, even after the spike in Bill.com’s share price, it has a market cap of just around US$3.8 billion. In other words, the stock could potentially rise by more than 600% over the next five to 10 years if it lives up to the above projections.

The Good Investors’ conclusion

Bill.com has had a good start to life as a listed company, with shares soaring above its IPO price.

It also ticks many of the boxes that Ser Jing and I look for in our investments. It has a huge addressable market, a proven track record of growth, and a clear path to profitability. The injection of cash from the IPO also gives it a war chest to invest in international expansion.

On top of that, its market cap is still a fraction of its total addressable market and potential future market value. There are risks but if Bill.com can live up to even a fraction of its potential, I believe its stock could rise much higher.

Disclaimer: The Good Investors is the personal investing blog of two simple guys who are passionate about educating Singaporeans about stock market investing. By using this Site, you specifically agree that none of the information provided constitutes financial, investment, or other professional advice. It is only intended to provide education. Speak with a professional before making important decisions about your money, your professional life, or even your personal life.