Will ADP’s PEO Business Continue To Drive Growth In Fiscal Q3?

by Trefis Team
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ADP (NASDAQ:ADP) has had a strong fiscal year so far. Over the last four quarters, the company’s revenues have swelled by  8% year-on-year, and we expect this strong growth trend to continue when the company reports its fiscal third quarter earnings on May 1. We expect new business bookings to drive top-line growth for the company this time around, although the revenue gains will be partially offset by foreign exchange headwinds. Additionally, ADP’s earnings should receive a boost from its ongoing transformation initiatives as well as from improving operating efficiencies.

We have summarized our key expectations from the earnings announcement in our interactive dashboard – How Is ADP Likely To Have Fared In Fiscal Q3?  In addition, here is more Trefis Internet & Software Services Data

A Quick Look at ADP’s Revenue Sources

ADP reported $13.3 billion in Total Revenues in Fiscal 2018. This included 3 revenue streams:

  • Payroll Processing: $9 billion in FY2018 (67% of Total Revenues). This includes ADP’s traditional payroll processing and tax filing services
  • PEO Services: $3.9 billion in FY2018 (29% of Total Revenues). ADP’s Professional Employment Organization (PEO) solutions segment provides outsourcing solutions based on co-employment
  • Interest on Client Funds: <$0.5 billion in FY2018 (4% of Total Revenues). This represents the interest ADP earns between pay periods on funds received from clients

Key Factors To Watch For In Q1

PEO Services Will Continue To Drive Top-Line Growth

  • ADP’s PEO Services business has been expanding steadily as more companies globally are exploring the option of using HR outsourcing. ADP’s revenue from its PEO services have grown at around 14.5% annually over the last five years. For Q2, revenues were up 12% year-on-year, primarily driven by a 9% increase in average worksite employees. Average worksite employees increased 9% to 536,000 in Q2 and this figure is further expected to increase in the range of 8% to 9% for full-year 2019.
  • PEO segment’s year-to-date revenue growth has been just over 11% and we forecast PEO services revenue to increase in the low double-digit range in the near term. This will likely to be driven by an increase in the number of new PEO Services clients as well as by growth in the company’s existing clients.

Payroll Processing Will Continue To Be The Core Business

  • While ADP’s PEO Services business has driven much of its top line growth in the last few years, payroll processing continues to be its core business – contributing 67% of total revenues. In Q2, the company’s revenue from its payroll processing services increased by approximately 6% compared to the prior-year quarter.
  • We forecast the segment revenues to increase by around 5% in the near term primarily driven by business from New Business Bookings and expected benefits from acquisitions. With a large and growing customer base, and a client retention rate of over 90%, the company is in a strong position to generate sustained revenue growth in this segment.

Trefis Price Estimate

Based on our forecast, ADP’s adjusted EPS for full-year 2019 is likely to be around $5.08. Using this figure with our estimated forward P/E ratio of 30x, this works out to a price estimate of $153 for ADP’s shares, which is roughly 5% below the current market price.

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