Company Description: Automatic Data Processing Inc., one of the world's largest independent computing services companies, provides a broad range of data processing services.
Fair Value: In calculating fair value, I consider the NPV MMA Differential Fair Value along with these four calculations of fair value, see page 2 of the linked PDF for a detailed description:
1. Avg. High Yield Price
2. 20-Year DCF Price
3. Avg. P/E Price
4. Graham Number
ADP is trading at a premium to all four valuations above. The stock is trading at a 9.7% discount to its calculated fair value of $80.46. ADP earned a Star in this section since it is trading at a fair value.
Dividend Analytical Data: In this section there are three possible Stars and three key metrics, see page 2 of the linked PDF for a detailed description:
1. Free Cash Flow Payout
2. Debt To Total Capital
3. Key Metrics
4. Dividend Growth Rate
5. Years of Div. Growth
6. Rolling 4-yr Div. > 15%
ADP earned two Stars in this section for 2.) and 3.) above. The stock earned a Star as a result of its most recent Debt to Total Capital being less than 45%. ADP earned a Star for having an acceptable score in at least two of the four Key Metrics measured. The company has paid a cash dividend to shareholders every year since 1974 and has increased its dividend payments for 38 consecutive years.
Dividend Income vs. MMA: Why would you assume the equity risk and invest in a dividend stock if you could earn a better return in a much less risky money market account (MMA) or Treasury bond? This section compares the earning ability of this stock with a high yield MMA. Two items are considered in this section, see page 2 of the linked PDF for a detailed description:
1. NPV MMA Diff.
2. Years to > MMA
ADP earned a Star in this section for its NPV MMA Diff. of the $967. This amount is in excess of the $500 target I look for in a stock that has increased dividends as long as ADP has. If ADP grows its dividend at 8.6% per year, it will take 2 years to equal a MMA yielding an estimated 20-year average rate of 2.98%. ADP earned a check for the Key Metric 'Years to >MMA' since its 2 years is less than the 5 year target.
Memberships and Peers: ADP is a member of the S&P 500, a Dividend Aristocrat, a member of the Broad Dividend Achievers™ Index and a Dividend Champion. The company's peer group includes: Paychex, Inc. (PAYX) with a 3.5% yield, Insperity, Inc. (NSP) with a 2.7% yield and Convergys Corporation (CVG) with a 1.5% yield.
Conclusion: ADP earned one Star in the Fair Value section, earned two Stars in the Dividend Analytical Data section and earned one Star in the Dividend Income vs. MMA section for a total of four Stars. This quantitatively ranks ADP as a 4-Star Strong stock.
Using my D4L-PreScreen.xls model, I determined the share price would need to increase to $91.75 before ADP's NPV MMA Differential decreased to the $500 minimum that I look for in a stock with 38 years of consecutive dividend increases. At that price the stock would yield 2.0%.
Resetting the D4L-PreScreen.xls model and solving for the dividend growth rate needed to generate the target $500 NPV MMA Differential, the calculated rate is 6.3%. This dividend growth rate is lower than the 8.6% used in this analysis, thus providing a margin of safety. ADP has a risk rating of 1.25 which classifies it as a Low risk stock.
As the industry leader ADP enjoys advantages of scale, a respected brand and protected by high customer switching costs. The company should see its market grow since payroll outsourcing is currently under-utilized in the small- and medium-sized businesses and overseas. However, based on the current market size, the market is saturated for large-company employer solutions, with additional competition coming from established and emerging participants serving small and mid-sized firms.
The previously announced plans to spin-off the Dealer Services business were completed on September 30, 2014. The Dealer Services business segment provided marketing solutions to over 26,000 auto retailers, distributors and manufacturers.
As a result of the spin-off ADP updated their guidance for fiscal 2015. The company now projects its EPS from continuing operations to grow 12% to 14% in fiscal 2015, up from 11-13% as per the prior guidance. The company reaffirmed its revenue guidance for fiscal 2015 of a 7% to 8% year-over-year increase.
Primarily as a result of the company’s plan to buy back shares, Standard & Poor’s lowered ADP’s credit rating from AAA to AA. In addition, Moody’s Investor service decreased its rating to Aa1, citing lower scale and variety of ADP’s product portfolio.
Financially, the company has a strong balance sheet, with a low debt to total capital of 25%, and a recurring revenue stream generating steady cash flows. Its free cash flow payout of 62% is slightly above my target maximum of 60%. The stock is trading below by calculated fair value of $80.46. I am reevaluating the stock in light of the Dealer Services spin-off.
Disclaimer: Material presented here is for informational purposes only. The above quantitative stock analysis, including the Star rating, is mechanically calculated and is based on historical information. The analysis assumes the stock will perform in the future as it has in the past. This is generally never true. Before buying or selling any stock you should do your own research and reach your own conclusion. See my Disclaimer for more information.
Full Disclosure: At the time of this writing, I held no position in ADP (0.0% of my Dividend Growth Portfolio). See a list of all my dividend growth holdings here.
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Tags: ADP, PAYX, NSP, CVG,