31 October 2007

ADP: Financial Analysis through September 2007

We have analyzed ADP's (ADP) preliminary financial results for the quarter that ended on 30 September 2007. This post reports on our evaluation. For our purposes, the financial statements had two shortfalls: the Balance Sheet was abbreviated and the Cash Flow Statement was missing. Our evaluation will be updated after the company formally submits a complete 10-Q report to the SEC.

ADP, which is one of a mere handful of U.S. companies with a AAA bond rating, is a top provider of payroll and other personnel-related IT services to corporate customers. It also publishes the monthly ADP National Employment Report(SM) that reports changes in total non-farm private employment.

ADP has been restructuring. It spun off its Brokerage Services Group business on 30 March 30 2007. The divested company was renamed Broadridge Financial Solutions, and it now trades publicly under the ticker symbol BR. On 6 July 2007, ADP sold an airline ticket-clearing business based in Spain, which had annual revenues of about $75 million. The company also changed the way it accounts for Depreciation and Amortization expenses; this change led to restatements of Costs of Revenue and Sales, General, and Administrative (SG&A) expenses.

As a result of these corporate changes, we didn't publish an analysis of ADP after the June quarter. We were doubtful we had the data needed to make a fair comparison of the company's current performance with its historical norms. We knew that ADP's past financial statements needed to be modified, but we weren't sure how significant the changes would be. Our concerns were recently eased, at least partially, because ADP has now made two years of updated Income Statements available on its web site. We would have preferred more data, but the new data gave us some consistent figures with which we could work.

Employing the available data from the September 2007 quarter, our gauges display the following scores:

Keep in mind that these scores were computed without the benefit of complete balance sheet and cash flow information.

Before we examine the factors that affected each gauge, let's review the latest quarterly Income Statement.

($ M)

September 2007
September 2006
Revenue (1)

Op expenses

CGS (2) (908)

Depreciation (3)

R&D (4) (124)

SG&A (534)

Operating Income
Other income


Interest, etc.
Pretax income

Income tax

Net Income

Discontinued operations

1. Total revenues includes interest on funds held for clients and Professional Employer Organization revenues.
2. Operating expenses
3. Depreciation and amortization.
4. System development and programming

ADP's Revenue in the recent quarter was 13.5 percent greater than in the year-earlier period. The Cost of Goods Sold (CGS) was 45.6 percent of Revenue, just a tad below the 45.8 percent in September 2006. Depreciation expenses were 3 percent of Revenue, up a little from the year-earlier value of 2.9 percent. Research and Development (R&D) expenses were 6.2 percent of Revenue, compared to 6.5 percent in September 2006. Sales, General, and Administrative (SG&A) expenses were 26.8 percent of Revenue; SG&A expenses were a significantly greater 28.1 percent of Revenue one year ago.

The net effect of the higher Revenue and good cost control was Operating Income a substantial 24.3 percent above the amount attained in September 2006.

Non-operating income was $40 million less in the recent quarter than the year-earlier quarter. The difference was the result of a one-time $38.6 million gain in the earlier quarter on the sale of an investment.

The Income Tax Rate in the recent quarter was 37.0 percent, compared to 37.2 percent. Net Income from continuing operations exceeded the level attained a year ago by 9.8 percent. Overall Net Income surpassed the year-earlier figure by 15.6 percent.

Cash Management. This gauge now reads 16 points, but this value is suspect because of the missing Balance Sheet detail. It will almost certainly come down when complete data becomes available.
We don't have sufficient data to calculate the following metrics:

Growth. This gauge now reads 18 points.

The following measures all helped the gauge:
  • Revenue growth = 13.8 percent year-over-year, making up for last year's -9 percent
  • Revenue/Assets = 96.9 percent, up dramatically from 73.5 percent in a year; sales efficiency is improving
  • Net Income growth = 17.4 percent year-over-year, up from -9.2 percent.
Net income benefited from a change in the income tax rate from 38 to 37 percent

By our estimate, Cash Flow from Operations might have declined a little. But we don't have the data to be sure.
  • CFO growth = N/A percent year-over-year, compared to 0.3 percent

Profitability. This gauge now reads 15 points.

The measures that helped the gauge were:
The measures that hurt the gauge were:

Value. ADP's stock price fell from $48.47 to $45.93 over the course of the quarter -- it has since rebounded. The Value gauge, based on the latter price, is at 5 points.

The measures that helped the gauge were:
The average P/E for the Business Services industry is currently 23.5. The average Price/Revenue for the industry is currently 2.6.

If it holds up, 45 out of 100 possible points for the Overall gauge would be the best score for ADP in four years. The stock price rallied nicely after that earlier event.

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