Can Paychex Stock Drop To $44?

Despite a 25% decline in Paychex stock (NASDAQ: PAYX) since the beginning of this year, as the spread of the novel Coronavirus rattled the stock markets and the broader economy, at the current price of $63 per share, we believe Paychex has a significant downside if there are no signs of abatement of the crisis by June 2020. The key is PAYX stock is still roughly unchanged since the beginning of 2018, a little over 2 years ago. We estimate that Paychex’s stock price could decline to levels of around $44 (worst-case scenario) if its revenues fall by 25% vs. FY’19, its margins contract by 15% to about 23.3% in 2020 (as it continues paying its staff along with incurring other fixed expenses), and its valuation multiple, which is already at a multi-year low, rises marginally to around 24x. Below, we summarize this possible downside case for PAYX, which is detailed in our interactive dashboard analysis Paychex Downside: How Low Can Paychex Stock Go?

So what’s the likely trigger and timing to this downside?

• The global spread of coronavirus has led to slowdown in industrial and economic activity, thus affecting company hiring activities. Most companies have frozen hiring, and many companies are aggressively laying off employees. Also, in a bid to save expenses, companies are unlikely to rely on external HR and payroll processing providers. This will lead to lower demand for PAYX’s services across these segments. We believe PAYX’s Q4 results in June will confirm the hit to its revenue, with the management having already warned that the next few quarters will be difficult.
• Specifically, we believe the full-year revenue expectations formed by the market may be closer to $2.8 billion, about 25% lower than its 2019 revenue of $3.8 billion, and ~17% lower than the 2018 revenue of $3.4 billion.
• The market has seen this coming, and Paychex’s P/E multiple has already shrunk from around 29x to 22x. We believe Paychex’s P/E multiple could recover slightly to 24x, but even that might not be enough to stop the stock from slipping lower.
• The 25% reduction in revenues will not accompany a proportional reduction in expenses, as compensation expenses and other fixed costs, like rent for manufacturing plants and upkeep of other machinery, are likely to fall by a smaller percentage. This will likely result in the net income margin shrinking by a little over 15% from 27.4% in 2019 to about 23.3% in 2020.
• This, in turn, would translate into a stock price drop of about 30%, close to $44.

Will such a drop be justified? Absolutely not. However, investors who are first out the door in a panic selling situation take a smaller hit to their portfolio.

The actual recovery and its timing hinge on the broader containment of the coronavirus spread. Our dashboard forecasting US COVID-19 cases with cross-country comparisons analyzes expected recovery time-frames and possible spread of the virus.

We do believe these trends are likely to reverse in later quarters of 2020, and as the Coronavirus crisis is tamed during late Q2, higher revenue and earnings expectations will replace the dire scenarios that are easily imagined during difficult times.

Further, our dashboard -28% Coronavirus crash vs. 4 Historic crashes builds a complete macro picture. It complements our analyses of the coronavirus outbreak’s impact on a diverse set of companies. The complete set of coronavirus impact and timing analyses is available here.

Further, to see how Paychex’s HR outsourcing peer ADP has performed in recent years, view our interactive dashboard Why Automatic Data Processing Stock moved 24.8%

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