ADP Earnings Preview: PEO Services, Payroll Processing Expected To Sustain Growth

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ADP (NASDAQ:ADP) is scheduled to reported its fiscal Q2 2017 earnings on February 1. [1] The company reported a 7% annual increase in revenue to $2.9 billion in the first fiscal quarter, a trend consistent over the last few years. ADP has reported a steady 7-8% increase in revenue over the last few years, predominantly driven by higher demand for HR outsourcing and services (or PEO services). High revenue growth in HR outsourcing business has been complemented by a steady growth in its core payroll processing business.

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In the first fiscal quarter ended September, ADP’s HR outsourcing revenues rose by around 13% year-over-year to $790 million. Much of the growth in the HR services (or PEO services) business was attributable to ADP’s business outside the U.S, which witnessed a strong demand for solutions catering to both small and mid-sized clients and large businesses. [2] Comparatively, payroll processing revenues were up 6% to just over $2 billion for the quarter.

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Key Growth Metrics For ADP

In terms of growth metrics, the company has witnessed double digit growth in PEO Services revenues, which has led to an increase in the contribution of PEO Services to the company’s top line from 17% in 2010 to 26% in 2016. Correspondingly, the total number of worksite employees under ADP’s HR division has increased at a CAGR of almost 13% from 2010 through 2015. In the most recent earnings, the company reported an almost 13% increase in its total worksite employees to 439,000 by the end of September. We forecast ADP’s total worksite employees to increase to almost 480,000 employees by the end of fiscal 2017.

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On the other hand, ADP’s core payroll processing business has also grown at a steady 5-6% over the last few years. In the quarter ended September, ADP’s payroll processing revenues increased by 6% to $2 billion, with the number of payroll clients and fee per client growing at 1-2%. The consistent growth in these metrics should continue to benefit ADP in the long run.

 

ADP generated around $89 million from interest on client funds, which was only 2% higher on a year-over-year basis. The average clients funds balances for the quarter were are around 9% higher on a y-o-y basis to $27.4 billion. However, lower yield on the client funds (1.6%) led to limited revenue growth as shown above. In the long run, higher interest rates could help improve yields on interest-bearing assets for ADP.

 

For fiscal 2017, ADP expects to sustain revenue growth in Payroll Processing & HR Outsourcing businesses. The company has given a guidance of mid-single digit growth in Payroll Processing revenues (4-6%) as shown below. On the other hand, HR Outsourcing and Other Services segment should continue to witness strength in its service offerings, with a double digit growth in revenues. According to the guidance provided by the company at the end of Q1 FY’17, ADP’s adjusted EBITDA margin could improve by over around 50 basis points through the year. We maintain our $86 price estimate for ADP, which is around 15% lower than the current market price.

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See our full analysis for ADP.

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Notes:
  1. ADP to Announce Second Quarter Fiscal 2017 Financial Results on February 1, 2017, ADP Press Release, December 2016 []
  2. ADP Q1 FY 2017 Earnings Call Transcript, Seeking Alpha, November 2016 []
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