Paychex: Earnings Preview

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Paychex Inc. (PAYX) is scheduled to announce its first quarter fiscal 2011 results on September 28, 2010, and we do not see any major variation in analyst estimates at this point. Fourth Quarter OverviewPaychex delivered modest fourth quarter 2010 results, with EPS of 32 cents per share beating the Zacks Consensus Estimate by a penny.Paychex reported fourth quarter revenues of $496.2 million, flat year over year. The slight improvement was the result of a 1.1% growth in checks processed per client and a marginal recovery in the retirement services client base compared with the year-ago quarter.Payroll Service revenues were down 2% from the year-ago quarter, due to major customer losses in the back half of the year, although the increase in checks per client helped somewhat. However, revenues from the Human Resources Services segment grew 6.0% from the year-ago quarter, driven by the positive impact of the Healthcare Reform Act passed in the U.S. and increased hiring.Paychex generated operating income of $173.6 million, almost flat with the year-ago quarter and net income of $115.5 million, up 1.5% year over year. The company exited the quarter with cash and cash equivalents of $284.3 million.For fiscal year 2011, Paychex expects Payroll Service revenues to remain flat year over year and Human Resource Services revenues to increase 10.0% to 13.0%. Interest on funds held for clients is expected to decrease 12% to 17%, while net investment income is expected to increase 24% to 27%. Moreover, net income is expected to improve marginally from the fiscal 2010 level.Agreement of AnalystsOut of the twenty analysts providing estimates for the first quarter, only one moved upward in the last thirty days. There was no downward revision for the quarter. Further, there were no upward or downward estimate revisions for fiscal year 2011.The limited number of changes to estimates also point to the fact that there was no major catalyst during the quarter that could drive results. Consequently, analysts are sticking to the estimates projected post fourth quarter earnings.One analyst (William Blair) continues to believe that Paychex’s results will remain under pressure due to the sluggish labor market and low interest rates expected in the near term. However, another analyst (Oppenheimer) believes that the U.S. job market is improving at a modest pace, and expects Paychex’s core growth metrics to show continued signs of stabilization/improvement in the coming quarters. Hence, the analyst anticipates limited revenue growth and margin expansion in the near term. Given the above analyst opinions regarding the target market, the lack of revisions in fiscal 2011 and the single downward revision (in the past 7 days) for fiscal 2012 is not surprising.Magnitude of Estimate RevisionsThere were no changes to analyst estimates for the first quarter or fiscal year 2011 over the past 30 days. Moreover, there was no change in the Zacks Consensus Estimate for the first quarter or the fiscal year since the fourth quarter earnings announcement. However, we note that the Zacks Consensus Estimate for fiscal 2012 has gone down by a penny.RecommendationWe remain concerned about the decreasing customer count and challenging conditions in the U.S. small business segment owing to higher employee turnover and constrained credit conditions. Since small businesses make a major contribution to the company’s total revenue, we remain unsure about when Paychex could return to its normal double-digit revenue growth.We look forward to a positive contribution by Paychex’s Human Resource Services segment, as there has been a steady increase in clients over the past few quarters.On the other hand, we are slightly concerned about growing competition in the outsourcing space from big players such as Automated Data Processing Inc. (ADP) and Administaff Inc. (ASF), as well as limited margin expansion due to continuous investment in diverse fields.We currently have a short-term Sell recommendation (Zacks Rank #4) on Paychex Inc.Disclosure: NoneComplete Story »