Competitive Advantage
Imagine the agony a business goes through when finding the right compliance and payroll processing company…
ADP operates in a field where cutting corners can cost companies dearly. As a result, the human resources and payroll industry is not about commodity pricing, but rather quality service.
ADP is the Human Resources provider for over 80% of Fortune 500 companies. ADP’s market dominance is not confined to the U.S. The company is also the number one outsourced human resource provider in Europe.
Another competitive advantage for ADP is its global scale. The company can manage the payroll for virtually all employees of multi-national corporations. This is a key selling point that smaller rivals cannot match.
ADP’s size gives it the ability to better serve the largest multi-national companies in a way that reduces the complexity of their operations by having only one payroll provider globally.
The fundamental reason for ADP to exist (payroll taxes and government compliance) gives the company a very long expected life. ADP is not going anywhere anytime soon.
ADP’s Growth Prospects & Expected Total Returns
Automatic Data Processing (NASDAQ:ADP) is one of the largest companies in a very large industry. The human resources, compliance, and payroll industry is growing – and ADP is growing faster than the industry.
Source: NASDAQ 33rd Investor Program Presentation, slide 10
There are a two primary growth drivers for the industry in general and ADP in particular:
– Global GDP Growth
– Growing Regulatory Burdens
As the global economy grows, more businesses will need more payroll processing and human resources services.
On top of this, growing regulatory burdens – both in the United States and internationally – incentivize businesses (especially small businesses) to outsource payroll services.
Source: NASDAQ 33rd Investor Program Presentation, slide 15
These two growth drivers combined with expanding services from ADP will drive above-average growth for ADP going forward. The company’s management is targeting long-term total returns of 14% to 17% (!) a year from the following sources:
Source: NASDAQ 33rd Investor Program Presentation, slide 22
Obviously, returns in the mid-teens would be exceptional. Can the company really grow at this rate? Each of management’s expected growth drivers are compared to historical or current results below.
Expected dividend yield of 2% to 3%
ADP currently has a 2.7% dividend yield. There is no question that management’s expected dividend yield is in line with current numbers.
Expected share repurchases of ~1% a year
The company has reduced its share count by 2% a year over the last decade. Again, this estimate appears very reasonable.
Revenue growth of 7% to 9%
ADP has grown its revenue 2.3% a year over the last decade. I find it difficult to believe that ADP will be able to grow its revenue at 3x to 4x its historical rate over the last decade over a longer period of time. With that said, the company’s performance in recent years has been stronger. As a result, I believe a more reasonable (given historical numbers) revenue growth estimate is 3% to 7% per year.
