ADP’s $61 Fair Value Is Hitched To The U.S. Recovery

by Trefis Team
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Automatic Data Processing (NASDAQ:ADP) announced its Q2 FY13 earnings on February 5, reporting organic revenue growth of 6% year-over-year to $2.7 billion. [1] Additionally, ADP also posted solid growth in its earnings per share from continuing operations of  7%, which was driven by the repurchase of 5.9 million shares in this fiscal year. Overall, we are encouraged by ADP’s growth during the quarter and think that the firm’s results show that it has capitalized on the uptick in U.S. employment in the last few months. Revenues for the company’s biggest segment, payroll processing, grew by 7% year-over-year and the firm’s client retention ratio grew by 80 basis points during the quarter. This quarter’s performance strengthens our view that ADP’s fundamental valuation is likely to remain relatively stable going forward. 

See our complete analysis of ADP here

Core Business Sound

All of ADP’s businesses posted solid growth during the quarter. Revenue for the firm’s payroll processing division, which makes up approximately 80% of the company’s value, increased 7% during the year. Additionally, auto dealer services and HR outsourcing services also posted growth of 11% and 13% respectively. What especially encouraged us was the fact that the company’s client retention ratio increased 80 basis points. We think that this ratio is important because if ADP can maintain it going forward, it will have to find fewer new clients to maintain its current growth rate.

Growth In Client Employees Encouraging

We find it encouraging for ADP’s long term prospects that the number of employees on its client payrolls increased approximately 2.6% year-over-year. We stress on this because it shows us that ADP was able to successfully capture the growth in the U.S. job market during the quarter. ADP’s clients have continued to increase the number of employees on their payrolls in good times and bad, providing more evidence to us that the company can maintain a decent growth rate going forward.

While the U.S. job market improved, the world economy continues to be plagued by uncertainty due to the Euro crisis and the U.S. budget situation. Therefore, the fact that ADP’s clients have continued to hire employees during an uncertain economic environment, shows that their underlying businesses are likely to be fundamentally sound. This means that any improvement in the world economy could see them hiring a bigger proportion of workers relative to the overall economy.

FY 2013 Outlook

During the previous quarter’s earnings call, ADP’s management stated that it does not expect the economic environment to change much over the next fiscal year. Management’s Q1 FY13 guidance was reiterated in Q2, as the company expects modest year-over-year revenue growth of around 5% in FY2013, which is relatively in line with our estimates.

We currently have a $61 price estimate for ADP, which is approximately 2% above the current market price.

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Notes:
  1. Press Release, SEC []
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