ADP – An Overvalued Dividend Aristocrat

Introduction

Looking at the oldest investment account statements I can locate, I know I am an Automatic Data Processing (ADP) shareholder dating back to at least 2005. In my April 2021 holdings review, I reflect ADP as my 20th largest holding; this exposure is in a retirement account for which I do not disclose details. ADP has increased its quarterly dividend every year I have been a shareholder. In fact, ADP is a member of the Dividend Aristocrats a group of companies in the S&P 500 Index with dividend increases for at least 25 consecutive years; ADP’s track record is 46 consecutive years. During my 16+ years as an ADP shareholder, I have automatically reinvested the quarterly dividends. In addition, I own Broadridge Solutions (BR) and CDK Global (CDK) shares since March 2007 and September 2014 when they were spun-off from ADP. With the release of Q3 2021 and YTD results on April 28, 2021, I view this as an opportune time to look at ADP’s valuation to determine if I should acquire additional shares. In my analysis, you will see why I think that currently ADP is an overvalued Dividend Aristocrat but should be on your watchlist.

ADP - An Overvalued Dividend Aristocrat

ADP – An Overvalued Dividend Aristocrat – Business Overview

Most people are likely somewhat familiar with ADP. Many people reading this article may receive their payroll remittances and cheques/direct deposits from ADP. My former employer (one of the ‘Big 5’ Canadian banks) sold its payroll operations to ADP around the turn of this century. Now, it has a payroll referral service arrangement with ADP.

I strongly recommend an investor understand a business before initiating a position. A great source of information is the company’s 10-K. The first section of ADP’s 10-K includes a review of the company. An explanation of various risk factors follows the company review.

Client Funds Investment Strategy

A little under a decade ago, ADP implemented its Client Funds Investment Strategy. This sophisticated investment strategy generates interest income which is an important component of ADP’s earnings. This strategy has several priorities. First and foremost, these are client funds. ADP, therefore, only invests in very safe and liquid investments. Secondly, ADP uses a hold-to-maturity and borrowing strategy to maximize the overall yield.

The following is an excerpt about ADP’s Client Funds Investment Strategy from page 51 of 153 in ADP’s 2020 10-K.

Our investment portfolio does not contain any asset-backed securities with underlying collateral of sub-prime mortgages, alternative-A mortgages, sub-prime auto loans or sub-prime home equity loans, collateralized debt obligations, collateralized loan obligations, credit default swaps, derivatives, auction-rate securities, structured investment vehicles or non-investment grade fixed-income securities…..This investment strategy is supported by our short-term financing arrangements necessary to satisfy short-term funding requirements relating to client funds obligations.

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Disclosure: I am long ADP, PAYX, BR, CDK, and CSCO.

Disclaimer: Dividend Power is not a licensed or registered investment adviser or broker/dealer. We are not providing you with ...

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