While some growth stocks are soaring, boosted by the hype surrounding artificial intelligence, others are being left behind. Human capital management software provider Paycom Software (PAYC 0.90%) and ad tech company PubMatic (PUBM -0.13%) have seen their stocks beaten down since peaking during the pandemic.
While investors have grown weary of Paycom and PubMatic as growth rates for both companies have contracted, there are some good reasons to buy and hold these two stocks ahead of a potential recovery.
The best companies are willing to break a few eggs to make an omelet. Paycom has built its reputation over decades on making life easier for its customers. The company’s human capital management platform requires little configuration, is user-friendly, and covers a wide range of functionality. These features free clients from the pain of cobbling together multiple point solutions.
Paycom is now disrupting itself with Beti, its automated payroll platform that enables employees to do their own payroll. The upside for employers is a vast reduction in errors. Every time HR needs to be looped in to fix a problem, that’s money out the door in the form of additional labor costs.
In the long run, Beti should boost customer retention and reduce churn for Paycom by delivering significant cost and time savings to customers. In the short run, though, Paycom is feeling some pain. Beti is reducing demand for other services, effectively cannibalizing a portion of Paycom’s revenue. This, along with an uncertain economic environment, is stunting growth. Paycom reported 17% year-over-year revenue growth in the fourth quarter of 2023, and it expects growth to slow to about 10% in the first quarter of this year.
Paycom’s slowing growth has put a chill on the stock. Shares of Paycom are down a whopping 65% from their pandemic-era high and down nearly 50% from their 52-week high. If you assume that growth will never reaccelerate, the valuation looks pricey. With adjusted earnings per share (EPS) of $7.75 last year, the price-to-earnings (P/E) ratio is roughly 25.
The economy will eventually stop acting as a headwind for Paycom, and the downsides of Beti will eventually be swamped by the upsides. Beti is at the center of Paycom’s international expansion outside of North America, which kicked off earlier this year with the company’s entry into the U.K. The long-term growth potential of Paycom’s increasingly automated platform remains as large as ever, with the company estimating that it’s tapped into just 5% of its total addressable market.
While the short-term picture for Paycom is muddled, now is the time for long-term investors to buy this beaten-down growth stock.
The digital advertising market is starting to bounce back following a sluggish year. Social media giant Meta Platforms reported robust 25% year-over-year revenue growth in Q4, driven partly by a 21% rise in ad impressions and a 2% rise in average ad pricing.
PubMatic, which operates a sell-side digital advertising platform that helps publishers and app developers monetize their content, has felt some pain in recent quarters. Revenue was down slightly in Q3 2023 to $63.7 million, and even fast-growing categories like connected TV failed to provide a boost.
PubMatic’s net dollar-based retention rate dipped to 97% for the trailing-12-month period even as the number of ad impressions soared 33% in Q3, a sign that ad pricing was weak. Pubmatic generates revenue through revenue-share agreements with its clients.
Business should pick up in 2024 as the digital ad market improves, but there’s more to like about PubMatic than the coming recovery in digital ad demand. PubMatic is a rare breed of companies that run their own computing infrastructure rather than rely on third-party cloud-computing platforms. This gives PubMatic the flexibility to pull back on infrastructure investments during tough times, bolstering its cash flow.
Even in a difficult Q3, free cash flow increased from the prior-year period to $33.3 million as PubMatic reduced capital spending. The company also continued to drive down the cost of processing ad impressions, something that will pay off as ad prices firm up.
With shares of PubMatic down about 75% from their pandemic-era high, the stock has the potential to bounce back as the company’s results improve this year.
Randi Zuckerberg, a former director of market development and spokeswoman for Facebook and sister to Meta Platforms CEO Mark Zuckerberg, is a member of The Motley Fool’s board of directors. Timothy Green has positions in PubMatic. The Motley Fool has positions in and recommends Meta Platforms, Paycom Software, and PubMatic. The Motley Fool has a disclosure policy.