Paychex CEO Discusses F2Q2011 Results - Earnings Call Transcript

Paychex CEO Discusses F2Q2011 Results - Earnings Call Transcript
By Seeking Alpha ,

Paychex, Inc. (PAYX)

F2Q2011 Earnings Conference Call

December 21, 2010 10:30 a.m. ET

Executives

John Morphy – SVP, CFO and Secretary

Martin Mucci - President and CEO

Analysts

Julio Quinteros – Goldman Sachs

Jason Kupferberg – UBS

Rod Bourgeois – Bernstein

David Togut - Evercore Partners

David Grossman – Stifel Nicolaus

Nathan Rozof – Morgan Stanley

Ashwin Shirvaikar – Citigroup

Jim Macdonald – First Analysis

Tim Willi – Wells Fargo

Kartik Mehta – Northcoast Research

Jim Kissane – Bank of America -Merrill Lynch

Mark Marcon – R.W. Baird

Gary Bisbee – Barclays Capital

Joseph Foresi – Janney Montgomery Scott

Glenn Greene – Oppenheimer

David Parker – Lazard Capital Markets

Tien-Tsin Huang – JPMorgan Chase

Giri Krishnan – Credit Suisse

Presentation

Operator

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Welcome and thank you for standing by. (Operator instructions) I would now like to turn over the meeting to John Morphy, Senior Vice President and Chief Financial Officer.

John Morphy

Thank you for joining us today for our second quarter earnings release. Also with us is Martin Mucci, our President and CEO. During this teleconference call we will review our second quarter 2011 financial results, guidance for the full year fiscal 2011, and Martin will provide an overview of the business perspective as well as we will concluded with a Q&A session.

Yesterday afternoon, after the market closed, we released our financial results for the second quarter, ended November 30, 2010. We have also filed our Form 10-Q with the SEC, which provides additional discussion and analysis of the results for the quarter. These are available by accessing our investor relations page at www.paychex.com. In addition, this teleconference is being broadcast over the Internet and will be archived and available on our Web site for approximately one month.

We were pleased with our favorable financial results for the second quarter. Results were very consistent with our first quarter results and given another quarter of positive results, we have improved our outlook for fiscal 2011 accordingly. I will discuss this in more detail in a few minutes.

Our key business indicators of checks per client, revenue per check and client retention continued to improve. Checks per client, the number of checks issued during the period divided by the average client base represents our most meaningful barometer of how the economy is doing. Our checks per client reflect an increase of 2.5% for the second quarter and 1.8% for the six months compared to the same periods last year.

We saw checks per client gradually stabilize the last fiscal year with positive growth of 1.1% for the fiscal 2010 fourth quarter and 1.2% for the first quarter of fiscal 2011. Fiscal 2011 has generated increases in revenue per check. The increase is consistent with the annual price increase we implemented in May of 2010 and also reflects some positive results related to decreases in discounting.

Our client base in the quarter has benefited from better client retention as our client losses for the first half of fiscal 2011 were 12% lower than for the same period last year. Our client base has improved slightly since May 31, 2010.

On December 9, 2010, we announced that we have entered into an agreement to acquire Share Payroll, Inc., a leading provider of software as a service payroll processing for small businesses for approximately $115 million. Share Payroll serves approximately 30,000 small businesses with its online payroll product. The transaction is expected to close by the end of Calendar 2010 and revenue for share payroll for the 2010 calendar year is expected to be approximately 23 million.

The diluted earnings impact on fiscal 2011 is expected to approximate one penny per share with most of the one penny related to the amortization of acquired and tangible assets and deal expenses occurred in expense in the year of acquisition.

In summary, our second quarter was a very good quarter, quite similar to our first and our six months results were slightly better than we anticipated at the beginning of the fiscal year. One of the many benefits of our filing of Form 10-Q on the same day as the press release is that we get to wake up early and get a preview of how Wall Street is responding to our results.

Through some early morning comments on guidance, our guidance policy remains unchanged since well before the recession entered our lives. Normally the guidance we give at the beginning of the year remains unchanged except for actual change in interest rates. The recurring revenue nature of our business provides for a predictability very few other company's enjoy.

The improved guidance for fiscal 2011 relates primarily to better than expected checks per client and sooner than expected operations productivity related to the implementation of our core advanced payroll platform in fiscal 2010.

We do not include a revenue growth or slight earnings dilution for Share Payroll on our guidance since the transaction is not yet closed. If we had included anticipated results for Share Payroll the change to guidance, if any, would have been minimal.

There were also some comments on operating margins. Operating margin improvements of Paychex are a way of life as all of our employees recognize the need and desire to continually improve operating margins. We experienced some backward movement during the recession, as our cost reduction efforts could not outpace the excessive reductions and checks per client and negative client growth. It's very good to be back on our normal trend of improving operating margins in the first half of the year, watching some erosion in the second half of the year related to normal investments in the business with the expectation of new operating margin improvements will appear in the first half of the next fiscal year.

We will now move on to a discussion of our results as presented in the consolidated income statement. Payroll service revenue increased 1% for both the second quarter and the six months to 355 million and 716 million. The primary reason for the payroll service revenue growth, aforementioned increase in Checks per client, increase in revenue per check and better retention.

Offsetting some of these positive factors was our lower client base compared to a year ago. We have seen a slight increase in our client base since the end of fiscal 2010 with the more meaningful period for changes in the client base coming up in the next six months.

Human resource services revenue increased 10% for both the second quarter and six months to 145 million and 291 million. HRS revenue growth reflects modest improvements in economic conditions, coupled with our annual price increase. Some additional highlights of contributions to HRS revenue growth were; Paychex HR Solutions client employees served increased 14% to 532,000 employees as of November 30. We have seen positive results from expanding our PEO offering throughout the country. In addition, improving economic

Conditions has resulted in growth in number of employees per client for HR Solutions.

Health and benefits services revenue increased 29% to $10 million for the second quarter and 35% to 20 million for the six months of fiscal 2011, driven primarily by a 29% increase in the number of applicants as of November 30, 2010 compared to a year ago.

Somewhat offsetting the impact of the previously mentioned factors is fluctuations in PEO workers compensation, which negatively impacted PEO net service revenue. Our workers compensation cost will often fluctuate quarter to quarter.

Combined interest on funds held for clients and investment income decreased 8% for the second quarter and six month. Yields available on high quality securities continue to remain low. Expenses increased 1% for the quarter and 2% for the six months due to costs related to continued investment in our sales force, customer service and technological infrastructure.

Improvements in productivity within operations with related lower headcount has somewhat offset this increase.

Sales up represented headcount is at the expected level going into the third quarter or main selling season.

Operating income increased 6% for both the second quarter and six months to 204 million and 405 million. Operating income, excluding interest on funds held for clients, increased 7% to both the second quarter and six months to $192 million and 381 million respectively. We continue to manage expenses, contributing to this growth.

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