Dividend Aristocrats Part 43: Automatic Data Processing (ADP)

Automatic Data Processing (NASDAQ:ADP) was founded in 1949 in Patterson, New Jersey. The company provides businesses of all sizes with payroll, tax, and human resource services and software.

ADP has grown rapidly since 1949. The company now processes payroll for 1 in 6 (24 million total) workers in the United States, and another 12 million internationally. Over the last decade, ADP stock has compounded investor wealth at 13.2% a year.

This article examines ADP’s dividend, competitive advantage, growth prospects, recession performance, and valuation.

ADP has registered a decline in popularity among smart money investors as of late. At the end of September, 32 funds (out of some 730 tracked by Insider Monkey) held long positions in ADP, down from 42 funds a quarter earlier. These funds reported stakes with a total value of $957.22 million as of the end of the third quarter, which represented around 2.60% of the company’s outstanding stock. Andy Brown’s Cedar Rock Capital, David Harding’s Winton Capital Management, and Cliff Asness’ AQR Capital Management reported sizeable positions in ADP in their last 13F filings.

ADP Dividend Analysis

ADP has increased its dividend payments for 41 consecutive years, making the company a Dividend Aristocrat. The image below shows the company’s quarterly dividend history since 1983.

The company currently has a payout ratio of ~60% and a 2.7% dividend yield. ADP’s dividend yield is 0.5 percentage points above the S&P 500’s dividend yield of 2.2%.

The company’s payout ratio is generous without being overly aggressive. ADP’s management is targeting a payout ratio in the 55% to 60% range. This means dividends are likely to grow in line with earnings-per-share going forward.

ADP’s payout ratio wasn’t always so high. The company has expanded its payout ratio from 33% in 2005 to the 55%+ since 2010. With that in mind, take a look at the company’s long-term dividend yield history below:

The effects of the company’s payout ratio hikes are evident in its dividend yield history. ADP’s average dividend yield since 2010 is 2.4%. As mentioned above, the stock currently has a 2.7% dividend yield.

Business Segment Overview: PEO & Employer Services

ADP operates in two primary business segments. Each segment is shown below along with percentage of total earnings generated for ADP in its 1^stquarter of fiscal 2016:

– Employer Services generated 87% of earnings

– PEO Services generated 13% of earnings

Both segments provide payroll, human resources, and compliance services to ADP’s customers. The PEO Services segment operates by creating a shared tax ID number with its small and medium sized business customers.

The Employer Services segment manages payroll (and other human resources and compliance activities), but does not create a shared tax ID number for its clients. That is the primary distinction between the two segments.