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Near-Term Outlook for Outsourcing Industry Looks Bright

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Outsourcing is the practice of transferring control of certain operations, services or processes, previously done by a company’s internal staff or resources, to a third party.

Companies in the Zacks Outsourcing industry offer services related to information technology, network, telecommunications, human resource, insurance administration, accounting, marketing and security. The largest markets include Europe, the Middle East and Africa.

Here are the industry’s three major themes:

  • The industry has been growing steadily on increasing demand for expertise to improve efficiency and reduce costs. Revenues and cash flows of most of the industry participants remain stable through the economic cycle, enabling them to pay out stable dividends.     
  • Higher corporate spending post the tax reform resulted in better business for outsourcing companies. With corporates continuing to pour tax savings into investments in digital and artificial intelligence, cloud and blockchain, the outsourcing companies should keep thriving.
  • The industry is labor intensive and heavily dependent on foreign talent. Rising talent costs due to competition coupled with Trump’s stringent policies on immigration could curb the industry’s growth.

Zacks Industry Rank Indicates Bright Prospects

The Zacks Outsourcing industry is housed within the broader Zacks Business Services sector. It currently carries a Zacks Industry Rank #105, which places it in the top 41% of more than 250 Zacks industries.

The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates solid near-term growth prospects. Our research shows that the top 50% of the Zacks-ranked industries outperforms the bottom 50% by a factor of more than 2 to 1.

The sell-side analysts covering the companies in this industry have been steadily increasing their estimates. Over the past year, the industry’s consensus earnings estimate for the current year has increased 8%.

Before we present a few stocks that you may want to consider for your portfolio, let’s take a look at the industry’s recent stock market performance and current valuation.

Industry Outperforms Sector and S&P 500 Index

The Zacks Outsourcing Industry has outperformed the broader Zacks Business Services Sector as well as the Zacks S&P 500 composite over the past year.

The industry has rallied 9.1% over this period, significantly outperforming the 6.8% rise of the broader sector and 1.8% rise of the Zacks S&P 500 composite.

One-Year Price Performance

 

Industry’s Current Valuation

On the basis of forward 12-month price-to-earnings (P/E) ratio, which is commonly used for valuing outsourcing stocks, the industry is currently trading at 20.17X compared to the S&P 500’s 16.04X and the sector’s 20.59X.

Over the past five years, the industry has traded as high as 23.46X, as low as 19.92X and at the median of 21.63X, as the charts below show.

Forward 12-month Price-to-Earnings (P/E)

 

 

Bottom Line

Growing adoption of outsourcing in emerging economies and prudent investments post the tax reform are likely to offset operating challenges that the industry has been encountering.

Two stocks in the Zacks Outsourcing Services universe currently hold a Zacks Rank #2 (Buy). Below, we have also mentioned one more stock from the same industry, which we believe investors should hold on to as it carries a Zacks Rank #3 (Hold).

You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

Let’s take a look at the stocks.

Automatic Data Processing, Inc. (ADP - Free Report) : The stock of this New Jersey-based provider of business process outsourcing services has gained 30.6% in the past year. The Zacks Consensus Estimate for current year EPS has improved 1.9% in the past 60 days. Currently, it has a Zacks Rank #2.

Price and Consensus: ADP

 

Paychex, Inc. (PAYX - Free Report) : The stock of this New York-based provider of payroll, human resource, retirement, and insurance services has climbed 5.1% in the past year. The Zacks Consensus Estimate for current year EPS has moved up by a penny in the past 60 days. Currently, it has a Zacks Rank #2.

Price and Consensus: PAYX

 

Broadridge Financial Solutions, Inc. (BR - Free Report) : The stock of this New York-based provider of investor communications and technology-driven solutions has risen 9.5% in the past year. The Zacks Consensus Estimate for current year EPS has improved 0.6% in the past 60 days. Currently, it has a Zacks Rank #3.

Price and Consensus: BR

 

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