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Paychex (PAYX) Beats Q3 Earnings Estimates, Lags Revenues

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Paychex Inc. (PAYX - Free Report) reported mixed results for third-quarter fiscal 2017, wherein its bottom line came ahead of the Zacks Consensus Estimate but the top line missed the same. However, on a year-over-year basis, the company registered improvement on both the counts.

The company reported non-GAAP earnings per share of 55 cents, which beat the Zacks Consensus Estimate by a penny and grew 10% year over year mainly on the back of higher revenues. On a GAAP basis, Paychex’s earnings came in at 56 cents per share compared with the year-ago quarter figure of 50 cents.

Quarter Details

Paychex reported total revenue (including interest on funds held for clients) of $795.8 million, up 6% year over year. Excluding interest on funds held for its clients, total services revenue (Payroll service and Human Resource Services) grew 6% year over year to $782.6 million. The Zacks Consensus Estimate was pegged at $799 million.

Payroll Service segment revenues went up 2% from the year-ago period to $446.6 million, primarily on the back of higher revenue per check and client base. However, the increase was tempered by approximately 1%, mainly due to one lesser processing day compared with the year-ago quarter.

Human Resource Services segment revenues rose 12% year over year to $336 million, chiefly driven by solid growth in client base and worksite employees, increased revenues from retirement and online HR administration services.

Interest on funds held for clients increased 11% on a year-over-year basis to $13.2 million, primarily benefiting from higher average interest rates earned.

Paychex’s total expenses were up 4% from the year-ago figure to $489.2 million due to higher wages and related expenses resulting from increased headcount in operations. However, total expenses, as a percentage of total revenue, contracted 130 basis points (bps) to 61.5%.

The company’s operating income grew 10% year over year to $306.6 million. Paychex’s operating margin expanded 70 bps to 38.5%.

Net income came in at $202.5 million, up from $180.4 million reported last year.

Paychex, Inc. Price, Consensus and EPS Surprise

Paychex, Inc. Price, Consensus and EPS Surprise | Paychex, Inc. Quote

Balance Sheet & Cash Flow

Paychex exited the fiscal third quarter with cash, cash equivalents and corporate investments of $403.9 million compared with $293 million at the end of the previous quarter. The company has no long-term debt. It generated operating cash flow of $769.3 million in the first three quarters of fiscal 2017.

During the first nine months of fiscal 2017, Paychex paid $496.9 million as dividend and repurchased shares worth $166.2 million.

Guidance

Paychex reiterated its fiscal 2017 outlook. Management still expects Payroll Service revenues to increase year over year in a range of 3–4%, while Human Resource Services revenues are anticipated to grow in a range of 12–14%. Total service revenue is estimated to increase in a range of 7–8%. However, Interest on funds held for its clients and investment income are now projected to grow in the upper-single-digit growth, up from the previous guidance of mid-single digit range.

Net income is still likely to increase 7% year over year on a GAAP basis and 8% on a non-GAAP basis. Effective income tax rate is now anticipated to be 35%.

Our Take

In the fiscal third quarter, Paychex’s earnings beat the Zacks Consensus Estimate, but revenues missed the same. The stock was down in pre-market trading. Notably, Paychex has underperformed the Zacks categorized Outsourcing industry on a year-to-date basis. The company has lost 1.5% year to date compared with the Outsourcing industry’s gain of 0.3%.

Nonetheless, the year-over-year improvement on both counts was encouraging. Moreover, the company’s reiterated outlook for fiscal 2017 is praiseworthy, indicating that it is relatively well placed despite the current macroeconomic sluggishness.

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

Product launches are likely to be the other growth drivers. Moreover, Paychex’s focus on small- and mid-sized businesses looking for HR solutions could provide growth opportunities.

However, unfavorable interest rates and competition from Automatic Data Processing (ADP - Free Report) and Insperity (NSP - Free Report) remain the primary concerns.

Currently, Paychex has a Zacks Rank #3 (Hold).

A better-ranked stock in the broader technology sector is Broadcom Limited (AVGO - Free Report) , which sports a Zacks Rank #1 (Strong Buy). You can see the complete list of today’s Zacks #1 Rank stocks here.

The company, which designs, develops and supplies analog and digital semiconductor connectivity solutions, has a long-term EPS growth rate of 13.6%. The EPS estimate for the current fiscal has been revised upward to $12.91 from $12.13 over the last 30 days.

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