ADP Automatic Data Processing Inc

(Note: We have revised this article as the original erroneously referred to Insperity (NSP), formerly known as Administaff, as a competitor of Paychex.)

Paychex Inc. (PAYX) is scheduled to announce its third quarter fiscal 2012 results on March 28 after the closing bell, and we notice no movement in analyst estimates at this point.

Second Quarter Overview

Paychex delivered modest second quarter 2012 results, with earnings of 39 cents per share beating the Zacks Consensus Estimate by a penny. The quarter’s results indicate slow recovery in the small and medium business (SMB) sector due to deceleration in high unemployment and inflation rates.

Paychex’ second quarter revenues grew 6.6% year over year, backed by increases of 12.5% in Human Resource Service revenue and 4.8% in Payroll Service revenue.

A modest revenue growth and better cost management led to operating margin expansion of 640 basis points year over year. Nevertheless, Paychex seemed a bit cautious about the fiscal 2012 guidance.

Keeping in view the current market and economic condition, Paychex believes that checks per client will moderate through fiscal 2012, impacting quarterly comparisons for both Payroll Service and Human Resource Service revenues.

Moreover, Paychex believes that the favorability in expenses realized in the second quarter may not be realized throughout fiscal 2012 due to the planned investments in its business.

For more details of second quarter earnings, please visit: Paychex Beats Despite SMB Slowdown.

Agreement of Analysts

Out of the 20 and 23 analysts providing estimates for the third quarter and fiscal 2012, respectively, none made any revision in the last 30 days. Also, no change was noticed in the estimates provided for fiscal 2013.

But some analysts prefer to remain cautious based on management’s commentary regarding the sluggishness in new small-business formation. Moreover, a few analysts think that aggressive pricing from Automated Data Processing Inc. (ADP) is stealing customers away from Paychex.

The time difference between when the company receives payments from its clients and pays it out to employees typically earns some interest for Paychex. Now, with the government contemplating lower interest rates, this quick income stream of the company will also be restricted.

Magnitude of Estimate Revisions

There was no change in the Zacks Consensus Estimate for the third quarter or fiscal 2012 over the past 30 days. We also see that there was no change in estimates over the past 90 days, implying that analysts have stuck to their estimates post second quarter results.

Recommendation

The market is losing confidence on the growth of the SMB group. The sector is being hit hard by lackluster demand that comes on the heels of high unemployment and inflation rates. Outsourcing companies like Paychex are highly dependent on the performance of the SMB sector and this is the reason why it may not see much revenue growth.

However, we are encouraged by management’s positive commentary regarding continued investments in product development and synergies from the recent acquisition. We also believe that cost control will play an important role for Paychex, going forward.

Though new business wins in the SMB sector, and stiff competition from Automated Data Processing will remain a constant worry, we believe that Paychex can benefit from the improvement in the U.S. employment situation. Hence, considering the situation and keeping in mind Paychex’ consistency in delivering impressive results and zero European exposure, we expect a constructive quarter ahead.

Paychex has a Zacks # 3 Rank, implying a short-term Hold recommendation.

 
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