COMPANY PROFILE. My recommendation for Automatic Data Processing is a Sell.

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1 Ticker: Sector: ADP Information Technology Industry: Data Processing & Outsourcing Recommendation: Sell Pricing Closing Price $ wk High $ wk Low $26.46 Market Data Market Cap $20.72B Total Assets $26.86B Trading Vol. 3.87M (avg.) Valuation EPS (ttm) $2.38 My recommendation for Automatic Data Processing is a Sell. The fundamentals of the business are strong but the market is very saturated and growth will be hard to achieve. I feel like there are more opportunities for a stronger return than this business provides. Further, it is near the 52 week high, which is more like an 8 year high. There isn t much upside potential but there is not really a threat to leave our money in this stock until we find something we like better. P/E (ttm) Div Yield 3.23% Profitability & Effectiveness (ttm) ROA 4.26% ROE 22.35% Profit Margin 13.57% Oper Margin 19.91% By: Taylor Fox Stf427@mail.missouri.edu COMPANY PROFILE Automatic Data Processing (ADP) is one of the world s largest providers of business outsourcing solutions. Leveraging 60 years of experience, ADP offers a wide range of human resource, payroll, tax and benefits administration solutions from a single source. ADP is also a leading provider of integrated computing solutions to automotive, heavy truck, motorcycle, marine, recreational vehicle and heavy machinery dealers throughout the world.the Company s segment includes Employer Services, Professional Employer Organization (PEO) Services and Dealer Services. Employer Services offers a range 1

2 of HR information, payroll processing, tax and benefits administration solutions and services, including traditional and Web-based outsourcing solutions, that assist approximately 570,000 clients in the United States, Canada, Europe, South America (primarily Brazil), Australia and Asia to staff, manage, pay and retain their employees. In November 2009, the Company announced the purchase of HRinterax, Inc as well. The company was founded in It is headquartered in Roseland, New Jersey and employs 45,000 people. ADP processes payments of one in six U.S workers. It serves more than 540,000 clients in more than 40 countries and no single client contributes more than 2% of ADP s total revenues. In fiscal year 2009, ADP processed more than 51 million end-of-year tax statements for its clients' employees and helped facilitate the transfer of more than $1 trillion in client funds to taxing entities. ADP is one of only four nonfinancial companies to have an AAA credit rating from Standard & Poor s, along with Johnson & Johnson, Exxon and Microsoft. They also have an AAA rating from Moody s. ADP has a wide moat in the industry and strong profitability. This is due to reasons like high customer switching costs, economies of scale and their brand image. Because of the difficulty in switching outsourced human resources processes to another provider, ADP is able to lock clients into its services through long-term contracts. Average client retention is 10 years, and this helps ADP to raise prices with little resistance. ADP's economies of scale allows the company to be price-competitive without feeling margin pressure as it can leverage its large 540,000-member client base to spread out costs associated with its servicing infrastructure. The company's strong brand plays a role, as clients are hesitant to entrust their critical HR functions to an unproven competitor. ADP's established competitive position and the industry's minimal capital-reinvestment requirements have enabled the firm to turn 17% of its revenue into free cash flow on average over the past five years. The minimal amount of capital necessary to run the business allows the company to generate strong free cash flows. Most of ADP s revenues come from the U.S. The company is trying to diversify geographically, and in 2009, acquired a majority interest in a leading Chinese provider of HR outsourcing services. They also started offering wage and tax collection & remission services in Canada, the United Kingdom and the Netherlands. 2

3 Business Segments EMPLOYER SERVICES Employer Services offers a comprehensive range of HR information, payroll processing, tax and benefits administration solutions and services, including traditional and Web-based outsourcing solutions, that assist approximately 570,000 employers in the United States, Canada, Europe, South America, Australia and Asia to staff, manage, pay and retain their employees. Employer Services markets these solutions and services through its direct marketing sales force and, on a limited basis, through indirect sales channels, such as marketing relationships with banks and accountants, among others. In fiscal 2009, 80% of Employer Services revenues were from the United States, 13% were from Europe, 5% were from Canada and 2% were from South America (primarily Brazil), Australia and Asia. Employer Services approach to the market is to match clients needs to the solutions and services that will best meet their expectations. To facilitate this approach, in the United States, Employer Services is comprised of the following market-facing groups: Small Business Services, Major Account Services and National Account Services. In addition, Employer Services Added Value Services division provides services to clients across all three of these groups. ADP provides payroll services that include the preparation of client employee paychecks, electronic direct deposits and stored value payroll cards, along with supporting journals, summaries and management reports. ADP also supplies the quarterly and annual social security, medicare and federal, state and local income tax withholding reports required to be filed by employers. ADP also enables its clients to interface their major enterprise resource planning (ERP) applications with ADP s outsourced payroll services. ADP, through its Tax and Financial Services division, processes and collects federal, state, and local payroll taxes and remits them to the taxing authorities. ADP provides an interface between clients and over 7600 tax agencies in the U.S, from the IRS to local governments. In fiscal 2009, ADP processed over 51 million tax statements and moved over $1 trillion in client funds. ADP's insurance services offers comprehensive workers' compensation payment programs and job tax credit services that assist employers in the identification of, and filing for tax credits. Other services provided through this segment are Retirement Services, Pre-Employment Services and Talent Management Services. 3

4 DEALER SERVICES Dealer Services provides integrated dealer management systems and other business management solutions to automotive, heavy truck, motorcycle, marine, RV and heavy machinery retailers in North America, Europe, Africa and the Asia Pacific region. Approximately 27,000 retailers in over 90 countries use ADP s DMS solutions, other software solutions, networking solutions, data integration, consulting and/or digital marketing solutions and services. Clients use ADP s DMS solutions to manage core business activities such as accounting, inventory management, factory communications, appointment scheduling, vehicle financing and insurance, sales and service. In addition to its DMS solutions, Dealer Services offers its clients integrated applications to address each functional area of the dealership, including Customer Relationship Management applications, front-end sales and marketing solutions, and an IP Telephony system fully integrated into the DMS to help dealerships drive sales processes and business development initiatives. Dealer Services provides its dealership clients computer hardware, hardware maintenance services, software support, system design and network consulting services. Dealer Services also designs, establishes and maintains communications networks for its dealership clients that allow interactive communications among multiple site locations as well as links between franchised dealers and their franchisors. Although, recession was severe during , revenues of ADP for 2009 is $8,867.1 million, as compared to $8,776.5 million in FY2008. Revenues from the Employer Services segment increased by 4%, or $225.3 million, to $6,587.7 million, and revenues from the PEO Services segment increased by 12%, or $125.3 million, to $1,185.8 million. This increase was due to a 10% increase in the average number of worksite employees arising from new client sales. Net income also increased from being $1,235 million in 2008 to $1,332,600 million in Dealer Services revenues, which were negatively impacted by the difficulties facing the automotive industry, decreased 3% in fiscal 2009 due to dealership consolidations and closings, lower transactional revenue and dealerships reducing services in order to cut their discretionary expenses. 4

5 The majority of ADP s revenues come from the U.S. During FY2009, 80% of Employer Services revenues were from the United States, 13% were from Europe, 5% were from Canada and 2% were from South America (primarily Brazil), Australia and Asia. ADP has recently started to make a strong push internationally. The company opened exploratory offices in China and India in an effort to establish a service network as these economies become more mature. In addition, ADP also acquired a majority stake in a leading Chinese provider of HR outsourcing services. ADP is also establishing a strong global network outside emerging markets to better serve large multinational firms seeking to obtain consistent global HR services. Recently in November 2009, the Company also announced the purchase of HRinterax, Inc as well to boost its operations and businessgrowth. FINANCIAL TRENDS ADP's financial position is very strong, with 90% recurring revenues, excellent margins from the ability to generate consistent, strong cash flows, strong client retention and low capital expenditure requirements. The company has raised the dividend payout for 35 consecutive years while maintaining an AAA credit rating. ADP has also been engaged in an aggressive share buyback program, and the company has bought back approximately 20% of the common stock that was outstanding as on June 30, ADP repurchased 40 million of its shares in FY 07, 33 million in FY 08, and 13.8 million in FY 09, and expects to continue repurchases through This signals management's confidence in the stock. ADP s balance sheet is very strong, with $3.8 B of cash and short-term securities at the end of FY 2009, and long-term debt of around $42.7 million. Its ability to generate strong cash flow should help keep the company unleveraged. ROE was 25.5% in FY2009 as compared to 22.7% in 08 and 18.3% in 07. Net earnings from operations increased 14% in FY2009 to $1.3B as compared to $1.1B in

6 Below is the 5 year dividend payout with the yield being around 3.2%. SWOT ANALYSIS Looking at the above table we realize that ADP has far better Gross and Operating margins as compared to both its sector and industry. Also, net profit margin is exceedingly better as compared to industry and sector as well. 6

7 We can see all the three critical ratios: ROA, ROI and ROE has been really good as well for ADP. This shows how good the strategy is of ADP to efficiently and effectively utilize resources. SWOT Analysis STRENGTHS Competitive market position The company strengthened its market position through the employer services and the dealer services. ADP offered PEO services to over 560,000 employers worldwide and paid nearly 33 million workers in over 30 countries. The company provided over 50 million workers with one or more of its services and moved over one trillion dollars in client payroll taxes, direct deposits, and related funds in the US and Canada. ADP also has a leadership position in the services offered to large businesses. The closest competitors of ADP, Paychex and Administaff offer services primarily to small and midsize business, so they are not in direct competition with ADP. Client retention ADP has strong client retention capabilities. No single client accounted for revenues in excess of 2% of annual consolidated revenues. The company's business is typically characterized by longterm customer relationships that result in recurring revenue. ADP is continuously in the process of performing implementation services for clients. ADP's largest clients, both in the US and in international markets, generally are with the company on an average for about 15 years. This is important because revenue from existing clients is more profitable than revenue from new clients, where there is more selling and implementation expenses. The company's higher client retention and superior client service serves as a competitive advantage. 7

8 WEAKNESSES Geographic concentration ADP is significantly dependent on the US. The company earned about 80% of its total revenues from the US market in fiscal year The US operations have historically accounted for a significantly large portion of the company's revenues. However, the company has started taking initiatives to increase their international operations and revenues, with their acquisition of a Chinese HR services company in 2009, and increasing the services offered in countries like Canada and the Netherlands. The company also opened offices in China and India last year, and this is a good move as business is rapidly expanding in these countries. OPPORTUNITIES Emerging Digital Marketing Arena The dealership advertising and marketing programs are evolving steadily into digital media. ADP estimates that dealers spend roughly $8 billion annually on advertising initiatives, with approximately $6 billion channeled through traditional sources (newspapers, radio, etc) and approximately $2 billion allocated to digital marketing. The market is poised for a dramatic shift towards digital means of promotion, and the company intends to be at the focus of this transformation. It is involved in a number of digital programs geared towards driving Internet search engine traffic to its customer's websites. In addition, the company's management stated that approximately 70% of people initiate vehicle searches via the Internet, while only 10% of auto dealers use this method of marketing. ADP foresees enormous potential in creating digital offerings like rich content dealer websites. The company's 2006 acquisition of BZ Results, a major provider of innovative e-marketing solutions, has become a strong catalyst for accelerating the growth of ADP's Digital Marketing business. BZ Results helps dealers engage more online customers using tools such as search engine optimization, marketing, virtual test drives, Internet lead management, and automated follow-up. These efforts help ADP gain an edge over its competition and position themselves better for future opportunities. Acquisitions ADP has made several acquisitions over the past three years to help expand its client base and reach into adjacent markets. The company acquired four businesses in 2009, four in 2008 and eleven other businesses in 2007 for a total cost of $550 million. ADP has used its large cash balances to strengthen their position in the market during the recession, and also set them up for further growth when the economy picks up. Some of their acquisitions are Employease, a provider of web-based solutions for HR and benefits professionals; VirtualEdge Corporation, an innovator in the field of recruiting and talent lifecycle management solutions for HR organizations; the fully-outsourced payroll business of Intuit; the tax incentives business of Mintax; and Taxware, a major provider of tax content and compliance solutions for sales, use, and value added tax. These acquisitions enable the company to increase the breadth of its offerings and also enable the company to leverage the customer base of the acquired companies to generate incremental revenues. 8

9 HR BPO services ADP's new business opportunities include Human Resource Business Process Outsourcing (HR BPO), which focus on the outsourcing of integrated multiple processes, such as payroll, HR, and benefits administration. Human resources business process outsourcing is the fastest-growing segment of HR services. The global HR outsourcing industry is estimated to reach $50 billion by 2010, which would represent a CAGR of 12% from the period. ADP has a strong operating base in the US and prominent position in the services it offers. The company, as one of the leading players, is bound to benefit from the growth of the global HR outsourcing industry. THREATS Matured core payroll business Employer Services categorizes its services between traditional payroll and payroll tax, and "beyond payroll." The traditional payroll and payroll tax business represents the company's core payroll processing and payroll tax filing business. The "beyond payroll" business represents the services that extend beyond the traditional payroll and payroll tax filing services, such as time and labor management, and benefit and retirement administration. ADP's core payroll business is becoming more mature. New product releases often give sales a boost; lack of product innovation could prove to be detrimental to sales growth. For example, the company's beyond payroll solutions have displayed great payroll revenue growth, well above its core offering. ADP has to continue to develop more new products to sustain high levels of sales growth in its core payroll services. COMPETITOR COMPARISON 9

10 The industries in which ADP operates are highly competitive. ADP is the largest company in the industry in terms of revenue and market capitalization. ADP identifies its nine largest competitors as Administaff Inc., Computer Sciences Corporation Global Payments Inc., Hewitt Associates Inc., Intuit Inc., Paychex Inc., The Ultimate Software Group Inc., Total System Services Inc., and The Western Union Company. While these are the direct competitors of ADP, none of these companies is as diversified as ADP. The majority of these companies are only in direct competition with ADP in a single or a few specific areas. Paychex (PAYX) and Administaff (ASF) are the two companies that are most similar to ADP. These two companies delivery many of the same services ADP does, however, their target market is small and midsized companies. ADP has just recently lunched product lines targeted at the small and midsized companies. The majority of ADP s clients are large companies with over 15,000 employees. STOCK PERFORMANCE 5 Year Performance ADP VS. S&P500 10

11 5- year stock price movement ranges entirely from about per share. Recent News ADP Workforce Now. Eclipses 7000 th client Aquistions of Workscape and Cobalt in August. Automatic Data Processing, Inc. Issues FY 2011 Guidance; EPS Guidance Below Analysts' Estimates o Automatic Data Processing, Inc. announced that for fiscal 2011, it expects revenue to increase 1% to 3%, diluted earnings per share (EPS) to increase 1% to 3%, compared with $2.37 earnings per share from continuing operations in fiscal 2010 which excludes favorable tax items. The Company reported revenue of $8.9 billion in fiscal According to Reuters Estimates, analysts on an average were expecting the Company to report revenue of $9.219 billion and EPS of $2.52 for fiscal

12 PRESENT PERFORMANCE & FUTURE OUTLOOK ADP has done well in the last couple of years, especially taking into account how severe the recession and economy was two years back. The graphs below show how strong revenues have been for ADP over the last 5 years. We can see that in spite of the recession, revenues didn`t take a hit for ADP. Also, as seen from the above figure, the cash flows from operating activities have remained very robust during the last five years as well.adp is well poised to take advantage of the future growth opportunities in the global HR outsourcing industry. The company has spent the last few years consolidating their leadership position in the industry and acquiring other businesses with the strategy of diversifying into markets they do not currently serve. Though ADP has focused on serving large companies, they are now getting into other segments of the market to directly compete with companies like Paychex and Administaff. ADP acquired HRinterax, an HR content and support services company focused on the small business market, in Nov HRinterax offers HR consulting services, and a best-in-class HR solution through their award-winning web portal, HR411. Strategic acquisitions like this made over the past two years will help ADP take away market share from their competitors and consolidate their leadership position in the industry. 12

13 VALUATION Second Stage Growth Rate 2% 3% 4% 5% 9% % % % The consensus growth ratres through 2015 were relatively similar and there are a few projects they should benefit from so I feel confident in those numbers. Further, all of the numbers I had to manually input have been consistent over the past few years so they seem accurate as well. The stock is currently trading around $

14 RESOURCES USED References: Standard & Poor s Stock Reports Dow Jones Stock Reports Earlier reports from previous analysts and now updated 14