23 December 2009

ADP: Look Ahead to December 2009 Quarterly Results

Automatic Data Processing (NASDAQ: ADP) earned $0.56 per share in the first quarter of fiscal 2010, which ended 30 September 2009, up from $0.54 in the same quarter of last year.

In November, we examined ADP's Income Statement for the September quarter and compared the entries on each line to our "look-ahead" estimates.  We later performed a financial gauge analysis of ADP, which determined the GCFR Overall gauge fell from 58 to 52 of the 100 possible points.

We have now modeled ADP's Income Statement for the quarter that will end on 31 December 2009.  The intent of this exercise was to produce a baseline for identifying deviations, positive or negative, in the actual data that the company will announce on 2 February 2010.  GCFR estimates are derived from trends in the historical financial results and guidance provided by company management.

First, we set the stage with some background information about ADP and the business environment in which it operates.

Automatic Data Processing, Inc. (NASDAQ: ADP) performs payroll, tax, and other personnel-related services for over 500,000 clients, large and small.  ADP declares it pays one of every six private sector employees in the United States.

ADP vies for clients with numerous public and private, business software and services companies.  Competitors include Paychex, Inc. (NASDAQ:PAYX), the now-private Ceridian, and India's Wipro (NYSE: WIT), to mention a few.

As a payroll processor, ADP directly feels the effects of lower Total Non-farm Employment and the higher Unemployment Rate in the U.S.  The weak labor market today is illustrated vividly in the monthly ADP National Employment Report on non-farm private employment, which ADP creates based on payroll data.

ADP is one of four remaining of U.S. companies with a AAA bond rating.  It is also an S&P 500 Dividend Aristocrat, having hiked its dividend for 35 consecutive years.

Investing gurus Bill Ackman, David Einhorn, and Bill Nygren owned ADP shares on 30 September 2009.

ADP has recently agreed to acquire OneClickHR (LON: OCLR), a British developer of human resources software, for $25.4 million.  On 30 October,  ADP closed on its purchase of HRinterax, "an HR content and support services company focused on the small business market."

In 2007, ADP divested its Brokerage Services Group business, which became Broadridge Financial Solutions (NYSE: BR).  GCFR articles related to Broadridge can be found here.

We're now ready to look specifically at the current quarter.

In a press release announcing results for the quarter ended last September, ADP provided a very cautious forecast for fiscal 2010.

We have updated our forecasts for total ADP revenues and earnings per share. Certain market indicators suggest that the U.S. economy has reached the trough of the downturn and has begun to stabilize; however, the economic landscape is still challenging and the timing of the inevitable recovery remains uncertain. We continue to anticipate that the tough year-over-year comparisons will abate as the fiscal year progresses.
  • Total revenues - decline of 1% to 2%
  • Diluted earnings per share - $2.34 to $2.39, compared with $2.39 earnings per share from continuing operations in fiscal 2009 excluding favorable tax settlements in the fourth quarter
  • Employer Services - decline in revenues of 1% to 2%
    • Pays per control - decline of 4% to 5%
    • Client revenue retention - flat to down 1 percentage point
  • PEO Services - revenue growth of 4% to 6% driven by benefits pass-through revenues
  • Employer Services and PEO Services new business sales - about flat
  • Dealer Services - decline in revenues of 3% to 6%
  • We anticipate no improvement in pretax margins

We've noted previously that guidance in terms of Earnings per Share (EPS), instead of Net Income, enables management to satisfy or exceed expectations by increasing share repurchases.

Since Revenue in fiscal 2009 was $8.9 billion, a decline between 1 and 2 percent would translate into a fiscal 2010 Revenue range between $8.7 billion and $8.8 billion.  We are choosing a mid-range figure of $8.75 billion as the Revenue projection for fiscal 2010. 

Historical data suggest 25 percent of a fiscal year's Revenue will be realized in the December quarter.  By applying this ratio to our Revenue projection for fiscal 2010, we obtain a $2.19 billion Revenue estimate for the second quarter of the current fiscal year.

The Gross Margin was 52.1 percent of Revenue in the September 2009 quarter, and we are expecting a similar margin in the December quarter.  This is equivalent to forecasting that the Cost of Goods Sold -- what ADP calls "Operating Expenses" -- will equal (1 - 0.521) * $2.19 billion = $1.05 billion. 

Depreciation and amortization expenses have been around $60 million in each of the last eight quarters.  We have no reason to expect a materially different figure in the December 2009 quarter. 

Similarly, Research and Development (R&D) expenses ("Systems Development and Programming Costs") have been about $125 million per quarter.

Sales, General, and Administrative (SG&A) expenses are more variable, but the amount in the December quarter is normally modestly higher than in the preceding September quarter.  We are expecting SG&A expenses in the current quarter to be 5 percent greater than September's $493 million, which would be $517 million.

Rolling up these estimates yields a target for Operating Income, as we define it, of $438 million.  This is 1.1 percent less than Operating Income in the December 2008 quarter.

For net non-operating income (i.e., other income less interest expense), $25 million would seem to be a reasonable estimate based on recent history. 

If the Income Tax Rate is 36 percent, Net Income will be $296 million ($0.59 per share, depending on share repurchases).  In the year-earlier quarter, Net Income from continuing operations was $300 million ($0.59 per share).

Please click here to see a full-sized, normalized depiction of the projected results next to ADP's quarterly Income Statements for the last couple of years.  Please note that our organization of revenues, expenses, gains, and losses, which we use for all analyses, can and often does differ in material respects from company-used formats.  The standardization facilitates cross-company comparisons.

Reference:  The chart above of the ADP National Employment Report can be found here.

Full disclosure: Long ADP at time of writing.

No comments:

Post a Comment