ADP 10-Q Summary
Business context and period. Automatic Data Processing, Inc. (ADP) provides employer, professional employer organization (PEO), and dealer services. This filing covers the fiscal second quarter and first six months of fiscal 2010, ended December 31, 2009; comparisons are with the corresponding 2008 periods. Amounts are in millions except per-share data.
Key financial results
| Metric | Three months ended Dec. 31, 2009 | Change year over year | Six months ended Dec. 31, 2009 | Change year over year |
|---|---|---|---|---|
| Total revenue | $2,204.4 | Up $1.1; essentially flat | $4,307.2 | Down $77.5 (2%) |
| Pre-tax earnings from continuing operations | $480.1 | Up $6.9 (1%) | $927.4 | Up $12.9 (1%) |
| Pre-tax margin | 22% | Up from 21% | 22% | Up from 21% |
| Net earnings from continuing operations | $315.8 | Up $15.4 (5%) | $599.9 | Up $21.6 (4%) |
| Diluted EPS from continuing operations | $0.62 | Up $0.03 (5%) | $1.19 | Up $0.05 (4%) |
| Operating cash flow | Not presented separately for the quarter | $672.9 | Down $8.7 from $681.6 |
- Revenue mix and segments: For the quarter, Employer Services revenue fell 2% to $1,571.4, PEO Services rose 9% to $311.2, and Dealer Services fell 5% to $311.0. For the six months, the respective changes were down 2%, up 8%, and down 5%.
- Drivers: Payroll and payroll-tax filing revenue declined 7% in both periods, amid fewer payrolls processed, lower pays per control, and reduced client-fund balances. Pays per control fell 5.0% in the quarter and 5.7% for six months. Price increases partly offset the pressure. PEO growth reflected more worksite employees and higher billed benefits-related costs.
- Profit and costs: Lower SG&A and interest expense helped offset revenue pressures. SG&A declined 9% in the quarter and 8% for six months, partly reflecting cost reductions and the absence of prior-year restructuring and receivables charges. Interest expense fell to $2.5 from $8.1 in the quarter and to $5.6 from $27.4 for six months, largely due to lower borrowing rates.
- Interest-related revenue: Interest on client funds declined to $127.7 from $147.3 for the quarter and to $255.6 from $299.2 for six months. ADP cited lower average yields and client-fund balances. Interest income on corporate funds also fell.
- Cash, liquidity, and debt: At December 31, corporate cash and marketable securities totaled $1,872.3; cash and equivalents were $1,741.1. Working capital excluding client funds and related obligations was $1,799.6, versus $1,521.0 at June 30. Long-term debt was $41.8; there was no commercial paper outstanding or borrowing under credit agreements at quarter-end. The company had $6.0 billion of committed revolving credit facilities and a commercial paper program with up to $6.0 billion capacity.
- Client funds: Funds held for clients were $21,375.4, with client-fund obligations of $20,809.1. These balances relate to payroll and tax remittances and should be distinguished from ADP’s corporate liquidity and debt.
- Capital returns: ADP repurchased $151.9 of common stock and paid $330.8 in dividends during the six months. Dividends declared were $0.34 per share for the quarter, up from $0.33.
Management outlook, risks, and unusual items
- Management expected approximately $130 million of fiscal 2010 capital expenditures, compared with $167.7 million in fiscal 2009. The filing provides no specific full-year earnings or revenue guidance and cautions that interim results may not indicate full-year results.
- ADP estimated that planned GM and Chrysler dealership closures could reduce Dealer Services revenue by approximately $50 million annually over the next 12 months. The company also recorded a $6.8 million impairment charge related to GM’s Saturn shutdown announcement.
- ADP cited continued economic pressure on payroll clients and auto dealerships, including client losses, pricing sensitivity, dealership closures, and lower employment and wage activity. Other stated risks include competition, interest-rate and foreign-currency movements, regulatory changes, technology, and execution of acquisitions and divestitures.
- Quarter and six-month tax rates benefited from a $12.2 million tax-provision reduction relating to resolved tax matters and lower accrued interest; the six-month effective tax rate was 35.3%, versus 36.8%. An IRS agreement reached in January 2010 regarding 2007–2008 audits was not expected to materially affect the effective tax rate.
- Other notable items included a $5.3 million impairment loss on available-for-sale securities during the six months, a $1.5 million building-sale gain, and a $14.8 million Reserve Fund distribution received in January 2010 that ADP expected to recognize as a gain in the following quarter. The Reserve Fund had suspended redemptions following Lehman Brothers’ bankruptcy; liquidation remained ongoing.
- ADP reported no material expected impact from ordinary-course litigation or product/service representations and warranties. A contract extension added obligations of $34.2 million, $73.1 million, and $74.3 million for fiscal 2013, 2014, and 2015, respectively. Two businesses acquired in January 2010 cost approximately $73 million.
- Management reported effective disclosure controls as of December 31, 2009 and no material change in internal control over financial reporting during the six months.
Investor verification points
- Track whether the decline in pays per control, client retention, and payroll activity stabilizes, and whether cost savings can continue to offset revenue pressure.
- Assess the effect of lower client-fund yields and balances on revenue and earnings, along with sensitivity to interest-rate changes.
- Monitor Dealer Services exposure to dealership closures and the estimated $50 million annualized GM/Chrysler revenue impact.
- Review the quality and liquidity of client-fund investments, the Reserve Fund liquidation and distribution accounting, and access to short-term funding.
- Separate recurring performance from tax-resolution benefits, prior-year restructuring and credit-loss charges, the securities impairment, and other unusual items.
- Verify capital spending against the approximately $130 million fiscal 2010 estimate and evaluate the company’s use of cash for dividends and share repurchases.