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The Fall of Mighty Zenefits

Posted on Friday, Feb 19th 2016

A MarketsandMarkets report pegs the HCM market to be worth $17.5 billion by the year 2019. The market was estimated to be worth $10.96 billion in 2014, translating to an annualized growth of 9.8% over the five year period. But the high growth in the market has not been of much help to former Unicorn player Zenefits – a company that uses HCM applications to cross-sell insurance products.

Zenefits’s Financials

San Francisco-based Zenefits was founded by Parker Conrad and Laks Srini as a platform to manage HR issues within an organization along with a marketplace for employee benefits. The company follows a hub-and-spoke model that offers cloud-based HR software for free. In return, it gets access to the pool of employees at these organizations to sell insurance products to.

Zenefits has more than 10,000 organizations as its customers, giving it access to a pool of more than 100,000 employees. According to the company, nearly 70% of the employees have purchased insurance through Zenefits. On an average, Zenefits earns nearly $450 a year per employee. That translates to a revenue rate of $31.5 million annually. Zenefits also earns additional revenues by selling additional paid features such as stock options administration and implementation fee. Zenefits does not disclose revenues, but it is estimated to have ended fiscal 2014 with $20 million in revenues. The company was targeting $100 million revenues in 2015, but recent reports reveal that revenue growth has slowed down. There are conflicting reports on revenues, with one report suggesting $45 million in revenues as of August 2015 and another one mentioning $80 million as of November 2015.

Zenefits is venture funded with $583.6 million in investments from investors including Fidelity Investments, TPG, Andreessen Horowitz, Brendan Wallace, Founders Fund, Insight Venture Partners, Institutional Venture Partners, Jared Leto, Justin Mateen, Khosla Ventures, Sound Ventures, Andreessen Horowitz, Elad Gil, Hydrazine Capital, SV Angel, Maverick Capital, Venrock, Aaron Levie, Adam Jackson, Benjamin Ling, Brad Gessler, Charlie Cheever, David Petersen, David Rusenko, Sohail Prasad, Wefunder, and Y Combinator. Its last round of funding was held in May 2015 when it raised $500 million at a valuation of $4.5 billion. But things appear to have deteriorated since.

Zenefits’s Issues

Zenefits was looking to make a difference in the insurance market by simplifying the process of purchasing insurance. But according to recent market reports, the company may have taken several short cuts to reach that stage. It is now being scrutinized by regulatory authorities for license and legality related concerns. According to regulators, the company has broken state laws by allowing salespeople to act as insurance brokers in at least seven states without the required licenses. Earlier last year, the Washington state began an inquiry into the matter. Post the inquiry, the company introduced its license management system to ensure all its salespeople are licensed to sell insurance.

Zenefits’s Enhancements

Meanwhile, Zenefits continues to enhance its offerings. In November 2015, Zenefits launched Zenefits Payroll, a free payroll service that is integrated with all its HR and insurance offerings so that the payroll systems runs automatically. The application does not need any manual updates or data inputs. It calculates employee deductions for health, retirement, and other benefits from Zenefits insurance systems based on changes made by employees and also uses hours worked, vacation, and sick leave data flow from its platform into payroll.

Zenefits was also among the first few to adopt Obamacare. The company launched a new Affordable Care Act (ACA) compliance tool that will be able to automatically generate and file the required 1094-C and 1095-C forms with the IRS.

Despite the products, the slowdown in its revenues has hurt its valuation. In November 2015, its investor Fidelity Investments wrote off its investments in Zenefits by 48%. That reduced Zenefits’s valuation to $2.34 billion, compared with the $4.5 billion valuation in May. The more recent regulatory issues won’t help the valuation either. Zenefits is addressing the challenges by announcing a change in management. Earlier this month, founder and CEO Parker Conrad stepped down and was replaced by COO David Sacks. The company also hired a new Chief Compliance Officer and appointed a Big Four audit firm to review its licensing procedures.

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