November’s Job Market Data Isn’t a Boon to Payroll Processors
The U.S. Labor Department recently released job market data for the month of November. The unemployment rate in the U.S. economy dipped to 7% from 7.8% a year ago, apprising of an improving job market. [1] However, the statistics came with a caveat. The majority of the decline in unemployment rate resulted from a rise in the number of workers not willing to work, and not due to increase in the number of employed workers.
The number of unemployed workers in November stood at 10.9 million, lower than 12 million a year ago, while the number of employed workers stood at 144.4 million, marginally higher from the year ago figure. [2] Additionally, labor force participation rate in the U.S. has been on a downward trend, and declined from its pre-recession levels of 66% to less than 63% in November. [3] The labor force includes people available and willing to work, but excludes the ones who willingly opt not to work.
The downward trajectory in both the number of unemployed workers and the labor force participation rate suggests that the unemployment rate declined due to increase in the number of workers unwilling to work. Some economists have observed that a weak job market has led to discouraged people leaving the work force. [4] Excluding these disheartened workers from the work force, the unemployment rate would have been higher close to 11%, implying that there has been no substantial real decrease in unemployment that was created by the recession. [5]
We consider this as disappointing news for payroll processors such as ADP (NASDAQ:ADP) and Paychex (NASDAQ:PAYX). Below we examine how a stagnant job market can impact each company’s value.
ADP
ADP’s primary source of revenue is its payroll processing business, which is directly related to the employment scenario in the U.S. economy and makes up approximately 40% of our value estimate for the company. We gauge the performance of this business based on the average fee received by ADP for every client it serves. When employment levels increase, ADP benefits from increase in hiring activity by its clients that boosts the fee earned per client. We forecast the average fee earned per client to increase to $14,500 by the end of our review period. However, if the job market remains stagnant and the driver remains flat until the end of our review period, we could see a 5% downside to our price estimate.
Currently, we have a price estimate of $73 for ADP, which marks our valuation at a discount of over 5% to the market price.
Paychex
Paychex is another leading payroll processor in the U.S. According to our model, the company’s payroll processing division makes up approximately 62% of its total value. We gauge the performance of Paychex’s payroll processing business based on the average number of employees served by the company per payroll client. Paychex benefits from increase in hiring activity by its clients when the employment scenario improves.We forecast the average number of employees per payroll client to increase to 19 by the end of our forecast period, but if the job market remains stagnant and the number remains flat, we could see a downside of about 10% to our price estimate for the company.
Currently, we have a price estimate of $35 for Paychex, which marks our valuation at a discount of over 15% to the market price.
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Notes:- Employment Situation Summary, United States Department Of Labor, December 6, 2013 [↩]
- Employment Situation Summary, United States Department Of Labor, December 6, 2013 [↩]
- Labor Force Statistics from the Current Population Survey, United States Department Of Labor, December 6, 2013 [↩]
- Oct jobless report paints dim picture of US job market, China Daily USA, November 9, 2013 [↩]
- Real Jobless Rate 11.8% Excluding Labor Force Exodus, Investors Business Daily, November 19, 2013 [↩]