Automatic Data Processing Inc. (ADP - Analyst Report) reported first-quarter fiscal 2016 earnings from continuing operations of 68 cents per share, beating the Zacks Consensus Estimate of 65 cents. Earnings also increased 10% year over year. 

Automatic Data Processing Inc. - Earnings Surprise | FindTheBest

Operational Details

Quarterly revenues of $2,714 million fell short of the Zacks Consensus Estimate of $2,723 million but grew 6% year over year.

Employer Services revenues in the quarter increased 3% year over year to $2,130.8 million. PEO Services revenues rose 18% year over year to $701.5 million.

In the quarter, combined worldwide new business bookings for the company grew 13% year over year. New business bookings represent annualized recurring revenues expected from new orders.

Interest on funds held for clients in the quarter declined 3% to $88 million. The company’s average client funds balance increased 3% year over year to $19.4 billion in the quarter while average interest yield was 1.8%.

Total expenses in the reported quarter increased 5.6% year over year to $2.26 billion, attributable to higher selling, general & administrative expense, operating expenses and systems development & programming costs.

Balance Sheet

Automatic Data Processing exited the quarter with cash and cash equivalents (including short-term marketable securities) of approximately $3.2 billion compared with $1.7 billion as on Jun 30, 2015. Long-term debt was approximately $2 billion compared with $9.2 million as on Jun 30, 2015.

Guidance

For fiscal 2016, the company now expects revenues to grow in the range of 7% to 8% over fiscal 2015, compared with the earlier projection of 7% to 9%. The upper-end of the guidance has been trimmed owing to the divesture of the AdvancedMD business. The company expects revenue growth in the first and second quarters to be lower than the second half of the fiscal.

ADP continues to expect earnings per share to grow 12% to 14% in fiscal 2016 from $2.89 per share in fiscal 2015.

This represents 50 basis points (bps) expansion in adjusted EBIT margin from 18.8% in fiscal 2015. Worldwide new business bookings are now expected to rise at least 10% from $1.6 billion in fiscal 2015 (prior forecast was 8% to 10%).

Employer Services revenues are expected to grow in the range of 5% to 6%, including the negative impact of foreign currency. This represents pre-tax margin expansion of approximately 100 bps. The company expects pay per control to increase 2% to 3% in the year.

PEO Services revenues are expected to increase 15% to 17%. Pre-tax margin is expected to grow 50 bps year over year.

In addition, the company expects interest on funds held for clients to increase $5 million or 1% (earlier projection was $5 million to $15 million or 1% to 4%). The projection was revised owing to lower expectations for the short term and fixed income new purchase rates. It is likely to be driven by estimated growth in average client funds balances of 3% to 5% to $22.5 billion to $22.9 billion. Average interest yield is expected to be flat at 1.7%.

Further, the total contribution from client funds extended investment strategy is estimated to grow $10 million over last fiscal.

The guidance excludes the benefit from the sale of ADP’s AdvancedMD business.

Our Take

Automatic Data Processing is expected to gain on the back of improved execution and higher client retention. The company’s retention rate of 90% has created a huge recurring revenue base. The firms believe that the spin-off of its dealer services segment will enable the company to focus more on its HCM (human capital management) solutions. Additionally, the sale of its AdvancedMD business will allow it to focus more on the core operations.

In addition, Automatic Data Processing’s higher revenue per client and lower cost of operations place it in an advantageous position. Moreover, we expect the company to benefit from rising demand for payroll processing and human resource administration solutions along with new offerings in the software-as-a-service (SaaS) space.

However, a volatile macroeconomic environment and increasing competition from the likes of Paychex, Equifax Inc. (EFX - Analyst Report) and TriNet Group, Inc. (TNET - Snapshot Report) are the near-term headwinds. ADP’s growth is significantly dependent on employment levels. Global macro-economic recovery has been sluggish following the recession, affecting the overall employment rate. This does not bode well for the company.

Moreover, as ADP earns interest income on funds held on behalf of clients, near-zero interest rates are hurting its top line.

Zacks Rank

Currently, Automatic Data Processing has a Zacks Rank #3 (Hold). A better-ranked stock in the broader tech space is Facebook, Inc. (FB - Analyst Report), sporting a Zacks Rank #1 (Strong Buy).