Business context and reporting period
ADP provides human capital management, payroll, HR outsourcing and related services. This Form 10-Q covers the quarter and nine months ended March 31, 2020—ADP’s fiscal third quarter of fiscal 2020—and compares results with the periods ended March 31, 2019. The filing metadata’s “2019 Q3” label does not match the period stated in the filing.
Financial performance
| Metric | Quarter ended March 31 | Nine months ended March 31 |
|---|---|---|
| Revenue | $4.048 billion, up 6% | $11.213 billion, up 5% reported and 6% organic constant currency |
| Net earnings | $820.9 million, up 9% | $2.055 billion, up 13% |
| Diluted EPS | $1.90, up 10% | $4.74, up 14% |
| Adjusted diluted EPS | $1.92, up 8% | $4.77, up 11% |
| EBIT margin | 26.6%, up 90 basis points | 23.6%, up 130 basis points |
| Adjusted EBIT margin | 27.1%, up 60 basis points | 24.0%, up 70 basis points |
| Cash from operations | Not reported quarterly in the supplied filing text | $2.250 billion, versus $1.956 billion |
At March 31, 2020, cash and cash equivalents were $1.705 billion; funds held for clients of $30.834 billion are restricted for client obligations and should not be treated as general corporate cash. Debt was approximately $2.005 billion, including $1.002 billion current and $1.003 billion long-term. ADP had no commercial paper or credit-facility borrowings outstanding at quarter-end and reported $10.3 billion of committed credit facilities. Client-fund obligations were $30.359 billion. Stockholders’ equity was $5.491 billion.
Material changes versus the prior comparable period
- Quarterly revenue increased 6%; Employer Services revenue rose 3% reported (4% organic constant currency) and PEO Services revenue rose 11%. PEO revenue excluding zero-margin benefits pass-throughs rose 9%.
- For the nine-month period, revenue grew 5% reported; foreign currency reduced growth by about one percentage point, partly offset by acquisitions. Client-fund interest revenue was $430.4 million versus $415.0 million, while quarterly client-fund interest fell to $158.9 million from $167.4 million as average yield declined to 2.0% from 2.2%.
- Operating cash flow increased $293.6 million year over year. Investing cash flow was positive $478.6 million versus negative $1.198 billion, primarily reflecting the timing of securities purchases and proceeds and lower acquisition and intangible-asset payments. Financing cash flow was negative $964.0 million versus positive $6.945 billion, substantially affected by a much smaller increase in client-fund obligations.
- ADP repurchased 6.2 million shares for $1.006 billion and paid $1.079 billion in dividends during the nine months. Weighted-average diluted shares declined to 433.5 million from 438.1 million.
- Prior-year PEO revenue and operating expenses were revised to net presentation, reducing each by $19.2 million for the quarter and $45.6 million for the nine months; earnings and cash flows were unchanged.
Outlook, management commentary, risks and unusual items
- COVID-19 was already affecting client activity: Employer Services new-business bookings declined 9% in the quarter and 1% for the nine-month period. Pays per control slowed to 1.9% for the quarter and 2.2% for nine months. Management expected further deterioration in pays per control, slower PEO worksite-employee growth, and weaker retention in the fourth quarter, with adverse effects on future results.
- ADP shifted more than 98% of its workforce to remote or off-site work and continued client payroll and HR services. It made a one-time $50.4 million associate assistance payment, not included in its January 29 outlook. The filing provides no revised quantified full-year guidance.
- Management described the business as highly cash-generative and low-capital-intensity, and said liquidity was adequate for foreseeable needs, while noting continued evaluation of pandemic-related effects. Fiscal 2020 capital expenditures were expected to be about $175 million.
- Expenses included the $50.4 million employee payment and a $26.0 million increase in the allowance for doubtful accounts related to COVID-19. Margin gains also reflected transformation efficiencies and lower transformation-related charges. ADP reported a $17.0 million pension prior-service credit following its decision to freeze the U.S. pension plan effective July 1, 2020.
- In April, ADP decided to reduce client-fund securities in anticipation of lower client obligations; by May 1 it had sold about $1.3 billion, realizing a net gain of $0.7 million. ADP also halted new reinvestment of maturities in its client long and extended portfolios beginning in March.
- Risks include pandemic-driven employment and client-spending declines, delayed sales decisions, client credit losses, market and liquidity disruption, interest-rate and foreign-exchange movements, and reliance on banks for payment processing. A potential Illinois biometric-privacy class action remains at an early stage; ADP said it could not estimate a reasonably possible loss. Management did not expect other pending claims to have a material adverse effect.
Important facts for investors to verify
- Whether subsequent employment levels, bookings, pays per control and client retention developed in line with management’s stated fourth-quarter expectations.
- The extent of COVID-19-related client credit losses and whether the $26.0 million allowance increase adequately reflects collection risk.
- Refinancing or repayment of the $1.0 billion notes due September 2020, and continued access to commercial-paper and committed-credit markets.
- Effects of client-fund portfolio sales, lower reinvestment yields and any realized gains or losses on interest income and liquidity.
- Progress and potential exposure in biometric-privacy litigation and the financial impact of the planned pension freeze.
- Comparability of reported growth following the PEO gross-to-net revenue presentation revision, and the reconciliation of adjusted non-GAAP measures to GAAP results.