ADP Form 10-Q Summary
Business context and reporting period
Automatic Data Processing, Inc. (ADP) reported unaudited results for the three months ended September 30, 2011, its first fiscal quarter of fiscal 2012. Comparisons are with the three months ended September 30, 2010. ADP provides employer, professional employer organization (PEO), and dealer services. PEO revenue is reported net of substantial payroll wage and payroll tax pass-throughs.
Key financial metrics
| Metric | Quarter ended September 30, 2011 | Prior-year quarter | Change |
|---|---|---|---|
| Total revenue | $2,522.5 million | $2,229.4 million | Up 13% |
| Earnings before income taxes | $459.3 million | $436.4 million | Up 5% |
| Net earnings | $302.7 million | $278.5 million | Up 9% |
| Diluted EPS | $0.61 | $0.56 | Up 9% |
| Operating cash flow | $316.3 million | $222.3 million | Up $94.0 million |
- Reported pretax margin was approximately 18%, versus 20% a year earlier; management cited an approximately 140-basis-point decline. The effective tax rate fell to 34.1% from 36.2%, reflecting tax matter resolutions and a favorable mix of earnings.
- Segment revenue and pretax earnings: Employer Services $1,750.4 million and $410.0 million; PEO Services $400.5 million and $36.6 million; Dealer Services $407.9 million and $63.1 million. Revenue grew 9%, 17%, and 18%, respectively.
- At September 30, cash and cash equivalents were $1,248.9 million; corporate cash and marketable securities totaled $1,367.7 million. Working capital excluding client funds assets and obligations was $1,222.7 million.
- Long-term debt was $26.0 million; the long-term-debt-to-equity ratio was 0.4%. ADP had no commercial paper, reverse-repurchase obligations, or borrowings under its credit agreements outstanding at quarter-end.
- Client funds assets were $19,272.1 million, against client funds obligations of $18,552.6 million. These balances arise from payroll and tax payment services and are not equivalent to unrestricted corporate liquidity.
Material changes versus the prior comparable period
- Revenue growth reflected higher business activity, acquisitions, foreign exchange, and improved client metrics. Revenue would have increased approximately 10% excluding recent acquisitions; foreign exchange added $48.5 million.
- Expenses rose 15%, faster than revenue, and would have increased approximately 11% excluding recent acquisitions. Higher operating costs included acquisition-related expense, investment in client-facing staff, PEO pass-through costs, and foreign exchange.
- Acquisitions contributed to growth, particularly in Dealer Services. Without acquisitions, Employer Services revenue grew approximately 7%, PEO Services grew 17%, and Dealer Services grew approximately 6%.
- Cash from operations improved year over year. Investing cash flow was positive $5,882.1 million versus negative $4,155.7 million, while financing cash flow was negative $6,315.4 million versus positive $3,438.8 million. These large swings primarily reflected timing and movement of restricted client funds, not solely corporate investment or financing activity.
- ADP repurchased approximately 5.3 million shares for $249.2 million and paid $177.7 million in dividends. Dividends declared per share increased to $0.36 from $0.34.
Outlook, management commentary, risks and unusual items
- Management described the business as having recurring revenue, strong retention, healthy cash generation, and low capital expenditure needs. No specific revenue, earnings, or EPS guidance was provided in the filing.
- Fiscal 2012 capital expenditures were expected to be $160 million to $180 million, compared with $184.8 million in fiscal 2011. ADP said acquisitions completed or announced around the quarter, totaling approximately $126.4 million, were not expected to materially affect fiscal 2012 earnings.
- Investment portfolio interest rates earned fell to 3.0% from 3.5%. ADP estimated that a 25-basis-point change in both short- and intermediate-term rates would affect pretax earnings by approximately $9 million over the following 12 months; a 25-basis-point change in short-term rates alone was estimated to affect pretax earnings by approximately $4 million.
- Approximately 87% of available-for-sale securities were rated AAA or AA, and all were investment grade. The $7.8 million of unrealized losses at quarter-end was attributed to interest-rate changes, not credit losses, according to management.
- Liquidity risks include the possibility that economic turmoil could constrain access to short-term debt markets. ADP cited committed revolving credit facilities, a commercial paper program, and reverse-repurchase capacity as sources of liquidity supporting client-fund obligations.
- Disclosed legal matters included a patent-infringement complaint involving ADP AdvancedMD and an EEOC charge concerning alleged employment discrimination in Illinois. ADP stated it could not estimate possible losses or ranges for the described matters; it intended to defend the patent claim and was cooperating with the EEOC investigation. A separate class action settlement was awaiting final court approval; the vendor was to pay settlement costs and ADP had been dismissed from the action.
- Broadridge notified ADP that it would not extend an outsourcing agreement beyond June 30, 2012. ADP did not anticipate a material impact but was continuing to assess the matter.
- Other notable items: ADP recorded no impairment loss on assets held for sale in the quarter, compared with an $8.6 million loss in the prior-year quarter. Goodwill declined to $2,997.5 million, partly due to currency translation. Management reported effective disclosure controls and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether revenue and earnings growth persist after separating organic growth, acquisition contributions, foreign exchange, and PEO pass-through costs.
- Whether expense growth moderates and margins recover after the reported 140-basis-point pretax margin decline.
- How client-fund investment yields, interest rates, and access to short-term funding affect earnings and liquidity.
- The eventual outcome and any financial exposure from the patent complaint and EEOC investigation, and final approval of the class action settlement.
- The effect of the Broadridge agreement’s expiration and the integration and returns from acquisitions.