1 Super Growth Stock 70% off to buy and hold forever

Usually, hunting for value among stocks that have fallen more than 70% at any point in their history can be dangerous. History suggests that winning stocks keep winning and that investors would be better off “watering their flowers and digging up their weeds.”

However, there are exceptions to this notion.

Take Paycom (NYSE: PAYC) and its human capital management (HCM) software-as-a-service (SaaS) solutions, for example. The stock is currently 70% off its peak value. In 2019, the upstart company had sales of about $600 million and a stock price of about $170. Today, the company’s stock price is the same, but revenue has practically tripled.

That emergence, along with Paycom’s free cash flow generation, leaves the company now trading at what could turn out to be a once-in-a-decade valuation. While the market remains uncertain about the company’s growth story, here’s the case for buying and holding Paycom forever.

Why Paycom’s Current Growth Slowdown Isn’t a Doomsday Scenario

The main reason for the decline in Paycom’s stock price comes from its declining sales growth rate.

While a slowdown like this is concerning, management has argued that a decent chunk of this decline comes from the introduction of its Beti payroll processing platform in late 2021. By empowering employees to manage their own payroll, Beti is identifying and fixing many common errors before a company that processes its payments, reducing the number of reruns required for payroll.

Obviously, this is fantastic for Paycom customers, with one customer saying they were able to cut their payroll department in half thanks to Beti’s time-saving value. However, before Beti, Paycom generated sales from resuming payroll for its customers whenever there were errors. In short, the company’s new blockbuster product is cannibalizing an existing sales base, slowing growth.

Ultimately, investors who think in decades, not quarters, should welcome this trade-off between cannibalizing existing sales and giving customers the best products while keeping them as happy as possible. Because of this focus on customer satisfaction, Paycom’s Net Promoter Score (NPS) of 67 easily exceeds that of its payroll processing peers Paychex, working dayand CfPwhich have the respective scores of -14, 31 and -10. A company’s NPS uses a scale of -100 to 100, with a score above 0 indicating that more customers would recommend a product to their friends than would not. This means that Paycom products are loved.

Best of all for investors, there were some signs in the company’s second-quarter earnings call that this slowdown in sales growth may be coming to an end. Founder and CEO Chad Richison said the company sold 24 percent more units in Q2 year-over-year, which is more promising than Paycom’s 9 percent sales growth in the quarter might indicate. In addition to these promising numbers, Richison announced that “July starts were up 40% from a revenue perspective,” indicating that more sales growth could occur in the third quarter.

The story continues

Additionally, with the recent launch of Beti in Canada, Mexico, the UK and Ireland, Paycom could see further growth as it expands to customers with global operations.

Cash generation rising despite rising R&D spending

My favorite thing about Paycom is that it remains focused on innovation and keeping customers as happy as possible. By increasing its research and development (R&D) spending over time, the company continues to enhance its automation capabilities across its product line. Despite these increased R&D expenses, Paycom’s free cash flow (FCF) generation has proven to be incredibly resilient.

By delivering automated offers like GONE, the company’s new break request tool, Paycom has consistently proven that its new offers generate enough value to offset the cost of research and development required to create them. Touching on the value GONE brings to its customers, the company explained, “Each manual review or approval can cost a company an average of $30.92, according to a November 2023 Ernst & Young study commissioned by Paycom.”

Maintaining its status as a true cash cow while increasing R&D spending makes Paycom a strong contender to become a long-term top compound.

Paycom’s potential once-in-a-decade review

As promising as Paycom’s growth prospects and automated products look, the company continues to trade at a once-in-a-decade low price-to-FCF ratio.

Anchored by a balance sheet that houses $346 million in cash and $0 in long-term debt, management began buying back shares at these lower prices and now has a $1.5 billion share repurchase plan authorized . Compared to the company’s $9.7 billion market cap, this buyback authorization could go a long way in helping Paycom’s stock price rebound.

Last but not least, Paycom pays a dividend of 0.9%, but has yet to raise it since its inception six quarters ago. While a dividend increase would be good for investors, management may be more focused on buying back shares at current prices.

Finally, I think Paycom’s sales growth could be about to change over the next couple of years. This return, along with Paycom’s history of profitable product innovation, makes me more than happy to take shares at this once-in-a-decade valuation and hold them for the long term.

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Josh Kohn-Lindquist has positions in Paycom Software. The Motley Fool has positions in and recommends Paycom Software and Workday. The Motley Fool has a disclosure policy.

A Once-in-Ten-Year Opportunity: 1 Super-Growth Stock Down 70% to Buy and Hold Forever was originally published by The Motley Fool