19 April 2008

ADP: Look Ahead to 2008 First Quarter (3Q Fiscal 2008) Results

Our earlier analysis of ADP's financial statements from December 2007, when the second quarter of ADP's fiscal year ended, determined that the Overall gauge score had risen to 49 out of 100 possible points. [A change we have since made to our scoring algorithms would have pushed this total up over 50 points.] This was the best score we had calculated for ADP since September 2003. The Cash Management, Growth, and Profitability gauges all registered good scores, and the Value gauge was OK at 8 out of 25 possible points.

We did have some concerns, most notably a year-over-year decline of 0.8 percent in CFO. In addition, we were worried that the analysis results might have been skewed by corporate restructuring activities, such as the Broadridge Financial Solutions, Inc. (BR) spin-off.

We've now made an estimate of ADP's results in the quarter that ended in March 2008. The intent of this exercise was to produce a baseline for identifying any deviations, positive or negative, in the actual data, which the company will publish on 1 May 2008. Our estimates are derived from trends in the company's historical financial results. We also consider guidance provided by company management.

Automatic Data Processing, Inc. (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 information technology services to corporate customers. ADP also publishes the monthly ADP National Employment Report(SM) that measures total non-farm private employment.

ADP management, in a report on the second quarter, reiterated a forecast for 12 to 13 percent Revenue growth during the fiscal year that will end on 30 June 2008. Applying the midpoint of this growth rate to last year's Revenue of $7.82 billion establishes $8.8 billion as the target for the current fiscal year. Revenue in the first half of the year was $4.14 billion, which indicates the company expects to take in $4.66 billion in the second half. If we apportion half of the latter figure to each remaining quarter, we get a Revenue estimate of $2.33 billion. We'll round this up to $2.4 billion because Revenue in the March quarter has been slightly greater than Revenue in the June quarter in each of the last four years.

Management indicated that margins are expanding by narrow amounts. Using recent history as a guide, we'll look for a Gross Margin of 56 percent in the March quarter. Therefore, we're anticipating Cost of Goods Sold (CGS) -- what ADP calls "Operating Expenses" -- of (1 - 0.56) * $2.4 billion = $1.06 billion.

Depreciation and amortization expenses have totaled about 2.7 percent of Revenue in the last year. Given our Revenue estimate, it seems reasonable to expect these expenses to equal about $65 million in March quarter.

Our estimate for Research and Development (R&D) expenses ("Systems Development and Programming Costs") is 6.0 percent of Revenue. This would equate to $144 million

Sales, General, and Administrative (SG&A) expenses are usually within a couple points of 27 percent of Revenue. For the March quarter, the estimate would be 0.27 * $2.4 billion = $648 million.

Rolling up the figures identified above, our estimate for Operating Income in the quarter is $487 million. This is 13 percent below the $560 million of Operating Income in the year-earlier quarter, in which the Gross Margin was especially high at 59 percent and SG&A expenses were especially low at 25 percent of Revenue.

For net non-operating income (i.e., other income less interest expense), $15 million would seem to be a reasonable estimate based on recent data.

If the Income Tax Rate is 37.0 percent, Net Income from continuing operations will be $316 million ($0.60 per share).

ADP management expressed confidence that they would "achieve the high-end of our 18% to 21% forecasted growth in diluted earnings per share from continuing operations, up from $1.80 in fiscal 2007 which excludes the net one-time gain recorded in the first quarter of fiscal 2007." In other words, management is telling investors to expect earnings of about $2.16 per share. The assumptions we've made above for the March quarter, if carried forward into the June quarter, would enable this goal to be achieved. Additional share repurchases would make it easier to attain.

Please note that the tabular format below, which we use for all analyses, can and often does differ in material respects from company-used formats. A common difference is the classification of income and expenses as Operating and Non-Operating. The standardization is simply for convenience and to facilitate cross-company comparisons.

($ M)

March 2008
March 2007
Revenue (1)


CGS (2) (1056)

Depreciation (3)

R&D (4) (144)

SG&A (648)


Other income


Interest, etc.
Pretax income

Income tax

Net Income from continuing operations

Income from discontinued operations (5)

Shares used in per-share calculations

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
5. Net of tax

No comments:

Post a Comment