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ADP Rides on Strategic Acquisitions Amid Rising Expenses

Zacks Equity Research

So far this year, shares of Automatic Data Processing, Inc. ADP have gained 22.9% compared with 24.4% rise of the industry it belongs to and 14.4% increase of the Zacks S&P 500 composite.

 

The company has witnessed a 35.6% rise in share price since it posted third-quarter fiscal 2019 results.

The company reported third-quarter fiscal 2019 EPS of $1.77, which beat the Zacks Consensus Estimate by 8 cents and improved year over year. Total revenues of $3.85 billion missed the consensus mark by $56 million but improved year over year.

ADP has an impressive earnings surprise history, having outpaced estimates in each of the last four quarters. It delivered average four-quarter positive earnings surprise of 7.4%.

What’s Driving ADP?

ADP continues to strengthen its foothold in the global human capital management (HCM) market through strategic acquisitions like Celergo, WorkMarket, Global Cash Card and The Marcus Buckingham Company. These buyouts will strengthen ADP’s customer base and help it expand operations in international markets. The company continues to pursue acquisitions that strategically fit its overall business mix and are easy to integrate over the long term.

The company has a strong business model, high recurring revenues, good margins, robust client retention and low capital expenditure. Moreover, it has a strong cash generating ability that allows it to pursue growth in areas that exhibit true potential. ADP has a strong pipeline for new business bookings. Also, it continues to innovate, improve operations and invest in the sales force.

Effective management execution has helped ADP build cash and cash equivalents of $1.83 billion as of Mar 31, 2019. The company continues to use excess cash to aggressively buy back shares and pay dividends. In the first nine months of fiscal 2019, the company paid dividends worth $949.6 million and repurchased shares worth $760.6 million. We believe that this strong cash position will not only help ADP to continue with its shareholder-friendly activities but also pursue strategic acquisitions and investments on product development in the long run.

Risks

The company has seen an increase in expenses as it continues to acquire companies and invest in transformation efforts. PEO Services benefits pass-through costs and selling expenses are also on the rise. In the first nine months of fiscal 2019, ADP’s total expenses of $8.37 billion increased 3.5% year over year.

The company faces significant competition in each of its product lines. The pressure to remain technologically updated to meet varying client demand is another concern.

Zacks Rank & Stocks to Consider

ADP currently carries a Zacks Rank #3 (Hold). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Some better-ranked stocks in the broader Zacks Business Services sector are WEX WEX, Navigant Consulting NCI and FLEETCOR Technologies FLT. While WEX and Navigant Consulting sport a Zacks Rank #1, FLEETCOR carries a Zacks Rank #2 (Buy).

Long-term expected EPS (three to five years) growth rate for WEX, Navigant Consulting and FLEETCOR is 15%, 13.5% and 16.5%, respectively.

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