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Paychex Inc. (PAYX - Snapshot Report) reported fourth-quarter 2014 earnings of 40 cents per share, which came in line with the Zacks Consensus Estimate. Notably, on a year-over-year basis, reported earnings per share increased 18.3%.

Quarter Details

Paychex reported total revenue (including Interest on funds held for clients) of $639.0 million for the quarter, which not only increased 9.2% from the year-ago period but also came ahead of the Zacks Consensus Estimate of $618.0 million.

Excluding interest on funds held for clients, which was up 2.0% on a year-over-year basis, total services revenues (Payroll service and Human Resource Services) increased 9.3% from the year-ago quarter to $628.8 million. Interest on funds held for clients was up due to lower average interest rates earned, which partially offset an increase of 3.0% in average investment balances.

Payroll Service segment revenues increased 3.1% from the year-ago period to $394.5 million, primarily driven by higher checks per payroll, revenue per check and client base. Checks per payroll increased 1.1% from the year-ago quarter. The company witnessed growth in revenue per check on the back of price increases and higher adoption of Paychex’s products. Paychex had roughly 580K payroll clients as of May 31, 2014, up 2.0% on a year over year basis.

Buoyed by growth in client base in retirement services, HR Solutions and eServices products, Paychex’s Human Resource Services segment generated revenues of $234.3 million, which increased 21.6% from the year-ago quarter.

Paychex’s total expenses increased 9.9% from the year-ago quarter to $410.7 million, primarily due to compensation-related expenses. Moreover, higher expenses related to investment in product development and supporting technology and higher sales-related costs were also responsible for the rise in expenses. Moreover, total expenses as a percentage of total revenue increased 46 basis points (bps) on a year-over-year basis.

Paychex reported operating income of $228.3 million, up 7.8% from the year-ago period, attributable to a higher revenue base. Operating margin decreased to 35.7% compared with 36.2% in the year-ago quarter, primarily due to higher operating expenses.

Excluding interest on funds held for clients, Paychex’s operating income came in at $218.1 million or 34.7% of total services revenue, which increased from $201.8 million or 35.1% of total services revenue reported in the year-ago period.  

Net income came in at $145.9 million or 40 cents, which improved from $123.5 million or 34 cents reported in the year-ago quarter.

Balance Sheet & Cash Flow

Paychex exited the quarter with cash and cash equivalents of $152.5 million versus $271.3 million at the end of the previous quarter. Corporate investments were $398.7 million compared with $314.4 million in the previous quarter. Paychex has no long-term debt.

During the fourth quarter, Paychex repurchased 1.1 million shares for approximately $46.8 million. Year-to-date, the company generated operating cash flow of $880.9 million.

Guidance

For fiscal 2015, management expects 3–5% increase in Payroll Service revenues from the year-ago period. Human Resource Services revenues are expected to increase in the range of 16.0% to 19.0%.

Total service revenue is expected to increase in the range of 8–10%. Interest on funds held for clients and investment income for fiscal 2015 are expected to be flat, primarily affected by low interest rate.

Net operating income as a percentage of service revenues is expected to be in the range of 37.0% to 38.0% for fiscal 2015. The effective income tax rate for fiscal 2015 is expected to be constant with the fiscal 2014 guidance (in the range of 36–37%).

Our Take

Paychex reported modest fourth-quarter results, with the top line beating the Zacks Consensus Estimate and the bottom line matching the same.  However, both revenues and earnings increased on a year over year basis, primarily boosted by growth across all its segments. Moreover, Paychex provided an encouraging outlook for fiscal 2015, which signifies that it is relatively well-placed amid the current macroeconomic sluggishness.

Moreover, we remain encouraged by the company’s investments in product development and focus on building its sales force to support revenue growth. We also believe that the company’s expansionary initiatives such as joint ventures and acquisitions support its long-term growth strategy.

Product launches are also expected to provide additional support. Moreover, Paychex’s focus on small and mid-sized businesses looking for HR solutions could provide the company with opportunities.

However, unfavorable interest rates and competition from Automatic Data Processing (ADP - Analyst Report) and Insperity (NSP - Snapshot Report) remain the possible headwinds for the company.

Currently, Paychex has a Zacks Rank #3 (Hold). Investors can also consider Micron Technology Inc. (MU - Analyst Report), which carries a Zacks Rank #2 (Buy).
 

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