What’s Driving Paychex’s Stock Rally?

Paychex’s (NASDAQ:PAYX) stock price has been increasing with solid momentum. In the past week, the stock hit new highs almost every day, gaining 2.4%. In the past 6 months, Paychex’s stock grew 18%, whereas the NASDAQ composite grew 9.2%. The primary reason behind the solid gain is the continued strength in the U.S. job environment, which has seen consistent job additions and a decline in the unemployment rate. In this article we take a look at the current scenario and the road ahead.

See our complete analysis of Paychex here.

Small Business Job Additions Pick Up Pace

According to the February release of the Employment Situation Summary by the U.S. Bureau of Labor Statistics, a total of 257,000 jobs were added in the month of January, compared to market expectations of 230,000, making it the twelfth straight month of 200,000 plus job additions. ^[1] The Employment Situation Summary also revised job additions for the months of November and December upwards by a total of 329,000.

Despite the unemployment rate remaining at its six-year low levels in the past few months, Paychex’s checks per client growth slowed down to less than 1% in the second fiscal quarter. This decline can be attributed to the moderation in employment growth at small businesses in the U.S., which account for most of the company’s Payroll client base. The Paychex IHS Small Business Index, an indicator of change in small business employment in the U.S., declined for the better part of 2014. ^[2] However, there was a slight uptick in the index in January, because of which there is renewed confidence in the small business job environment. Paychex is hopeful that this positive trend will continue throughout 2015.

With jobs being added every month, Paychex’s number of employees per client will likely increase. This will lead to incremental revenues per client, which should drive growth in revenues and margins.

Unemployment Rate Likely To Decline Further

The Insured Unemployment Rate (IUR) represents the portion of the labor force that is eligible to receive unemployment insurance. It is considered to be a leading indicator of unemployment conditions in the U.S. The seasonally adjusted IUR has been declining consistently since 2008 and has currently reached the pre-recession rate of 1.8%. ^[3] This bodes well for the job environment and companies like Paychex, since their number of employees per client will likely improve further.

Health Insurance Demand Presents Growth Prospects

The Patient Protection and Affordable Care Act (PPACA) has encouraged 11.4 million enrollments to the Health Insurance Marketplace since November. ^[4] However, employers are still unprepared to comply with the PPACA, which includes a regulation requiring many employers to provide health insurance to employees. According to recent research by Automatic Data Processing (NASDAQ:ADP), half of the large employers (1,000+ employees) in the U.S. are unprepared to comply with the regulations of the PPACA. ^[5]

As businesses continue to buy health insurance for their employees to remain compliant with the PPACA, we believe that Paychex’s revenue from health insurance offerings will grow. A similar trend was noticed in the previous quarter, wherein Paychex’s Human Resource Services (HRS) revenue grew 21%, ^[6] as a result of growth in sales of a new health insurance offering, which represented around 7% of total HRS revenue. ^[7]

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1. Employment Situation Summary, www.bls.gov [↩]
2. The Paychex | IHS Small Business Jobs Index, www.paychex.com [↩]
3. Unemployment Insurance Weekly Claims data, www.doleta.gov [↩]
4. By the Numbers: Open Enrollment for Health Insurance, www.hhs.gov [↩]
5. One in Two Large Employers Unprepared to Fully Comply with the Affordable Care Act, January 15, 2014, www.adp.com [↩]
6. Paychex’s Q2 FY 2015 10-Q SEC Filing, December 19, 2014, www.sec.gov [↩]
7. Paychex’s (PAYX) CEO Martin Mucci on Q2 2015 Results – Earnings Call Transcript, December 19, 2014, www.seekingalpha.com [↩]