Strong Growth In PEO Services To Drive ADP’s Earnings

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ADP: Automatic Data Processing logo
ADP
Automatic Data Processing

ADP (NASDAQ:ADP) is slated to release its fourth quarter and full year fiscal 2017 financial results before the market opens on July 27. [1] In line with the trend witnessed over the last few years, we expect the company’s full year 2017 revenue to grow by around 6% to $12.4 billion. This rise in revenue will be largely driven by the strong demand for its HR outsourcing and services (or PEO services) and sustained growth in its core payroll processing business. Further, as indicated by management, the company’s operating profits are likely to improve for the year, leading to EPS growth. Consensus estimates call for ADP to report earnings of $3.71 per share for fiscal 2017, which is roughly 14% higher on a y-o-y basis.

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Key Trends Witnessed In Fiscal 2017

  • As more and more employers are switching to HR outsourcing, ADP has experienced a sharp rise in its PEO services revenue over the last decade. The company’s HR outsourcing revenue has grown from $1.3 billion in 2010 to $3.1 billion in 2016, growing at a compounded rate of more than 15% in the last 6 years. Consequently, the contribution of business in ADP’s overall revenue has gone up from 17% in 2010 to 26% in 2016. Based on the year-to-date results and the company’s guidance, we expect ADP’s PEO services revenue to expand by 12-13% for fiscal 2017.

 

  • The growth in ADP’s core payroll processing business has come down from high-single digits in the early part of this decade to mid-single digits over the last few years. The company has delivered sustained growth of 4-5% in the division’s revenue backed by the consistent increase in the average fee per client and the number of clients served. Based on the company’s guidance, we expect the division’s revenues to expand by 3-4% in fiscal 2017, contributing to a steady growth in ADP’s overall revenue.
  • Due to declining interest rates, ADP’s interest on client funds has dropped drastically over the years. The company generated about 10% of its revenue from this division before the economic slowdown of 2008-09, which has come down to merely 3% in 2016. While the average implied annualized yield on client funds is likely to remain flat for the year, the rise in average client fund balance is likely to result in a jump of around $20 million in ADP’s 2017 revenue (as indicated by the company).

Data Source: Google Finance

  • Lastly, in terms of profitability, ADP expects expansion of at least 100 basis points in its PEO services EBITDA margin due to the continued operational efficiencies realized from the division during the year. Further, due to a lower effective tax rate, the company forecasts its diluted EPS to grow by 13-14% for the year, as opposed to its previous guidance of 11-13%. Based on our analysis, we expect the company to report diluted EPS of $3.82 for fiscal 2017.

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Notes:
  1. ADP To Report Fourth Quarter Fiscal 2017 Results, 16th June 2017, www.adp.com []