Paycor: Initiating Coverage With No-Moat Rating and $26 Fair Value Estimate

We are initiating coverage of Paycor HCM PYCR with a $26 fair value estimate and no-moat and very high uncertainty ratings. Paycor provides payroll and human capital management solutions to small and midsize clients in the United States via a software-as-a-service model. It is well positioned to take share of the expansive and highly fragmented small- and midsize-business payroll and HCM market through industry consolidation and rising demand for sophisticated HCM solutions. We assume the primary share donors will be in-house and regional solutions that dominate this market but lack the product depth and breadth to meet evolving payroll and HCM needs. The shares currently trade about in line with our valuation.

While we believe Paycor benefits from high customer switching costs among its existing customer base and is well placed to benefit from attractive industry tailwinds, it faces fierce competition from peers like Paylocity and Paycom. Paycor has generated uneven returns in recent years following heavy investment to expand sales coverage, and we expect ongoing investments to attract and retain customers will continue to damp returns on invested capital to below our estimated weighted average cost of capital for the foreseeable future. If Paycor can maintain a competitive product suite, effectively fend off competitors to win new customers, and rapidly scale operations in coming years, we could see it eventually earning a narrow moat rating like payroll peers that are further along the growth curve.

Paycor reported healthy year-on-year top-line growth of 29% in fiscal 2023, buoyed by new client wins and a continued skew up market, improved pricing and product attachment from bundling efforts, and interest income tailwinds. This top-line growth supported an improvement in GAAP operating margin to negative 19% from negative 33% in the prior year, despite ongoing investment in sales and marketing efforts, and product innovation.