Paychex Earnings Preview: Revenue Timing, Health Insurance Demand To Drive Top Line

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Paychex (NASDAQ:PAYX) is set to release its fourth quarter fiscal 2015 earnings on Wednesday, July 1, before the market opens. For the fourth quarter, we expect to see growth in Payroll revenues as a result of a shift in revenue timing. However, growth could be tempered due to some weakness in small business employment. Purchases of solutions for compliance with the Patient Protection and Affordable Care Act (PPACA) should also have helped increase Paychex’s revenues.

In the third fiscal quarter, Paychex reported 8% year-on-year growth in revenue, tracking the lower end of its guidance of 8-10% growth for the fiscal year, to reach $693.6 million, driven by strong growth in its Human Resource Services (HRS) segment. [1] Paychex’s net income grew 6%, driving a 5% increase in earnings per share, which reached $0.46.

We currently have a price estimate of $46 for Paychex. For 2015, we estimate revenues of $2.74 billion and EPS of $1.86, in line with consensus estimates.

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See our complete analysis of Paychex here.

Robust Job Environment Drives Growth Prospects

According to the Employment Situation Summary released by the U.S. Bureau of Labor Statistics (BLS), the unemployment rate in the U.S. increased marginally from 5.4% in April to 5.5% in May. [2] The increase was driven by a rise in the U.S. labor force, which is a positive for the U.S. job market as it indicates that people are confident of their chances of getting a job and were therefore actively looking for one. The 397,000 increase in labor force helped drive up the labor participation rate by 10 basis points sequentially. In May, the U.S. economy added 280,000 jobs, against expectations of 225,000 job additions.

Job additions for the month of April totaled 223,000, compared to market expectations of 224,000 job additions. Despite the miss, experts were pleased with April job additions as it marked a significant turnaround from the poor showing in March, when only 85,000 jobs were added. This indicates persistent growth momentum in the U.S. job market.

Though the broader market pointed towards growth, Paychex’s target market, small businesses with less than 50 workers, has been inconsistent in the past few months. The Paychex IHS Small Business Index, an indicator of change in small business employment in the U.S., declined 0.05% sequentially in March due to weather related issues, west coast disruptions and weakness in the mining and oil and gas industries. [3] In April, the index recovered some of the loss, reporting a gain of 0.04% sequentially. However, it again declined in May, dropping 0.17% sequentially.

This inconsistent movement in the small business job market could have a negative impact on Paychex’s Payroll segment in the fourth quarter. However, the segment’s revenues could benefit from the shift in revenue timing witnessed in the previous quarter. [4] Paychex expects Payroll revenue growth in the fourth quarter to be at the higher end of its full year guidance of 3-5% growth, as a portion of its third quarter Payroll revenues shifted into the fourth quarter. [1]

 

 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 15, 2014. [5] 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), many large employers (1,000+ employees) in the U.S. are unprepared to comply with the regulations of the PPACA. [6]

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 19%, [1] as a result of a new health insurance offering, which contributed 5 percentage points to the revenue growth. [4]

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Notes:
  1. Paychex’s Q3 FY 2015 10-Q SEC Filing, March 25, 2015, www.sec.gov [] [] []
  2. Employment Situation Summary, www.bls.gov []
  3. The Paychex | IHS Small Business Jobs Index, www.paychex.com []
  4. Paychex’s (PAYX) CEO Martin Mucci on Q3 2015 Results – Earnings Call Transcript, March 25, 2015, www.seekingalpha.com [] []
  5. By the Numbers: Open Enrollment for Health Insurance, www.hhs.gov []
  6. One in Two Large Employers Unprepared to Fully Comply with the Affordable Care Act, January 15, 2014, www.adp.com []