ADP Is Expected To Continue With Its Strong Growth Momentum In Q1 Fiscal 2018

by Trefis Team
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ADP (NASDAQ:ADP) is slated to release its Q1 fiscal 2018 results on November 2nd. In fiscal 2017, the company performed in line with guidance and market expectations, and the trend is expected to continue in this fiscal as well. The main driver for its revenues last fiscal were its PEO services, the division which has witnessed a consistent growth of around 12%-13% in each of the last few years. While ADP’s PEO services business has driven much of the top line growth, payroll processing continues to be its core business, contributing to the largest portion of its top-line. Going forward, ADP expects its revenues to grow at a steady rate of 5%-6%, and its adjusted diluted EPS to improve by 2%-4%.We have a price estimate of $106 per share for ADP, which is around 9% below the current stock price.

PEO Services Will Not Only Drive The Future Revenue Growth But Its Contribution To Overall Revenues Might Keep Growing

ADP’s revenue from its PEO services have grown at around 14.5% annually over the last five years. As the popularity among businesses to outsource their HR services keep rising, this figure might grow even further in the future. The global market for HR outsourcing is estimated to expand at a compound annual growth rate (CAGR) of around 12.7% between 2016 and 2020 and that will provide a major boost to ADP’s PEO services growth.

However, the total revenue growth rate for the company is not being able to keep pace with the PEO revenue growth. During the last five years, ADP’s overall revenue has increased at a rate of roughly 7% annually. This is resulting in a greater contribution by the PEO services to the company’s overall revenues. As a result, the proportion of PEO services in the company’s total revenue has grown from 20% in 2012 to almost 28% in 2017.

One of the important drivers for the growth in ADP’s client base has been brought about by the implementation of the Affordable Care Act (ACA). The adoption of ADP’s products has been increasing significantly post the Act, especially since larger employers  (+1,000 employees) find it easier to outsource the job to a third party who can help them implement ACA solutions for their employees. Consequently, the significant growth in the rise of demand for its PEO services has led to a 9% annual rise in its worksite employees over the last couple of years. Based on the company guidance, we expect ADP’s PEO services revenue to grow by 11% to 13% in the current fiscal year.

Payroll Processing Will Continue Being The Biggest Contributor Of ADP’s Revenues

The two main drivers for its payroll processing services has been a stable growth in the number of clients served by the company, and an annual rise in client fees. The company’s revenue from this segment has grown at a steady rate of 5% annually over the last five years and accounts for almost 65% of the company’s total valuation, according to our estimates. However, it is noteworthy to mention that this segment’s contribution to the company’s overall revenues is gradually declining and has dropped from 75% in 2012 to about 69% in 2017. Even then, with an ever growing customer base and a high retention rate of clients of over 90%, the company is in a strong position to generate sustained revenue growth in this segment.

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