Hockeysticking ZenPayroll grabs a $20M Series A, sets out to make you love payroll as much as its founders do

By Michael Carney , written on February 19, 2014

From The News Desk

Payroll may well be the unsexiest aspect of running a business. Unfortunately, it’s also one of the most crucial. Employees need to be paid for their efforts and the tax men, both state and federal, need to collect their piece of the pie. But despite this critical nature, payroll software has long languished under the slow moving care of giant incumbents like ADP, Intuit, and Paychex.

That changed when ZenPayroll launched publicly in December 2012, a Y Combinator (YC) graduate intent on reinventing payroll for the modern age. Now, 18 months after raising the largest Seed round in YC history, the company is once again proving itself a Sand Hill Road darling with a $20 million Series A round. The company’s latest funding round was led by General Catalyst and included a sizable participation from Kleiner Perkins, bringing ZenPayroll’s total funding to date to more than $26 million. Prior rounds include participation from the CEOs of Yelp, Dropbox, Yammer, Box, and Zuora, as well as Google Ventures and Salesforce.

Since pulling back the curtain on its cloud-based Payroll platform, ZenPayroll has added support for contract workers and accountants managing multiple businesses from a single dashboard, as well as introduced an API aimed at creating a more connected back-office. That’s on top of the core features of moving payroll to the cloud, automating tax filing, and offering employees online access to their payroll history

As a result, the company now processes more than $400 million in annual payroll, up from just $100 million as of August. That’s 300 percent growth in just five months, a rate that co-founder and CEO Joshua Reeves says is accelerating month over month. Furthermore, revenue grows linearly with processing volume, he adds.

"Customers love that we make their lives simpler by automating the tedious parts of compensation,” Reeves says. “But we’re also adding new tools that change what you can do as a manager.”

One example of this, he says, are spot spot bonuses, or the ability to give random bonuses whenever you like using either cash or direct deposit. Previously, this was all but impossible for bookkeepers to account for given the complicated payroll and tax implications. This has proven particularly popular in retail, where commission-based compensation can misalign employee and customer incentives.

The timing of this latest fundraising is more about the opportunity that ZenPayroll sees ahead, than an immediate cash crunch, according to Reeves. ZenPayroll still has more than two thirds worth of its seed capital in the bank, he says, and is generating meaningful revenue, although he declined to discuss profitability.

“When I look back, 2012 was about building a foundation and the core of our product,” Reeves says. “2013 was largely about building out our team. In 2014, our focus is on accelerating our growth and reaching scale. Capital is the lifeblood of a startup. We’re proud to have revenue and happy customers, but the ability to grow faster is all about capital.”

The size of the round and the firms participating were just as strategic as the timing, Reeves adds. ZenPayroll ran a closed process, he says, entering into discussions with only handful of deliberately selected firms and clearly stating the terms that it was looking for from the outset. That it was able to pull off such a seemingly backward approach to fundraising – Reeves said the company got the exact terms and investors it wanted (we’ll have to take his word for it) – would seem to be a testament to the attractiveness of the opportunity.

“This was a fun process and one that we view very similarly to hiring,” Reeves says. “We knew that we wanted partners with shared values, who have proven themselves willing to think long-term, and who have impressive portfolios of past successes."

Both General Catalyst’s Hemant Taneja and Kleiner’s Randy Komisar fit the bill, Reeves says. Taneja has been deeply involved with Stripe, a company whose growth Reeves says he and his co-founders greatly admire. Komisar, who was Reeves’ Stanford professor more than a decade ago, has been on the board of Nest among other standouts, Reeves says.

There are 6 million US businesses that process payroll, either through a third-party service provider, a bookkeeper, or manually. ZenPayroll has been growing rapidly, but has barely scratched the surface of this market. The service is currently available in just seven states – reaching 41 percent of the US population – meaning that there’s still an abundance of new markets to target, as well as. The company anticipates reaching what it calls "comprehensive coverage, "as well as expanding into Canada by year’s end, according to Reeves – a promise that it’s made and pushed back several times.

Early customer feedback would suggest that ZenPayroll is on the right track. In a recent customer survey, 87 percent of respondents claimed to have recommended ZenPayroll to other businesses, Reeves says. The company is also seeing a 98 percent conversion rate from companies signing up for a free two-month trial then converting to paid customers. Churn is similarly low relative to industry norms for small- and mid-sized business (SMB)-focused software, Reeves says, but is subject to the unusually high failure rates of businesses of this size.

ZenPayroll’s customers have a mean of just 10 employees and none is larger than 75 currently, he adds. Without any data on the number of customers it's hard to guess at ZenPayroll's revenue. A 10 person company pays ZenPayroll $65 per month, while a 75 person company would pay $195 (the service costs $25 plus $ per employee up to 10, and $2 per employee thereafter). That means that if the average employee makes $50,000 per year, then ZenPayroll would be bringing in a little more than $600,000 in revenue. If accurate, it's not a huge number. But if the company can maintain the hockey stick trajectory that saw it grow by 300 percent in five months, this figure gets pretty large rather quickly.

That the company has found so much success in the SMB category is impressive, given the difficulty of targeting these typically elusive customers. But it is also illustrates just how far ZenPayroll will have to climb to make a dent in the enterprise market currently dominated by its publicly-traded predecessors.

And therein lays the rub. ZenPayroll has built a wildly popular product that by all accounts is better than anything else in the market today. But building the best product alone doesn’t guarantee winning a market. There is an obvious hole at the low-end of the payroll food-chain, that ZenPayroll has proven itself more than capable of filling. But the company, and its new investors, have set their sights much higher. To truly disrupt this space, ZenPayroll will now need to prove that it can build a killer, enterprise-grade sales and customer support staff to match its winning product. It’s a challenge that has tripped up more promising product-first companies than you can count. The piles of cash and addition of savvy board members should give Reeves and his team a huge head start, but there’s no substitution for execution.

ZenPayroll is currently a 27-person company, but it will need to more than double in size in the coming year, Reeves admits. The company will also increase its on-the-ground presence in key markets, first by hosting local events aimed at engaging communities and partners and eventually by opening offices outside San Francisco.

Reeves is as confident as ever. "The core of what we’re doing is building this in a way that’s authentic to us, our backgrounds, and everything we think compensation can be,” he says. "We don’t spend a lot of time focused on incumbents in this space. We prefer to talk instead to partners and customers.”

He likes to talk about building this business for the next 50 years. "This funding is all about accelerating our existing programs – the things that have made us stand out to our customers,” he says. “We’re not just building modern, easy to use, and affordable payroll software. We’re committed to making compensation less transactional and impersonal, but more about rewarding work. We want to celebrate this. Our customers tell us every day that we’re on the right track."

[Image via justsomethingimade]