Morningstar | ADP Updated Forecasts and Estimates from 17 Apr 2019
As the United States' largest provider of payroll services, Automatic Data Processing should continue to benefit from the evolving and increasingly complex relationship between businesses and their employees, but in the medium term, we see challenges. Throughout its existence, ADP has benefited from changes in the tax code and fluctuating levels of labor regulation and benefit compliance. Most midsize businesses do not have the expertise to adapt to these constantly changing compliance requirements. However, we believe payroll is slowly becoming commoditized. The challenge will be for ADP to increase its value proposition and introduce new offerings that maintain its high switching costs.Though we think ADP can expand margins in the near term, we have growing concerns regarding the company’s technology platform and increasing competition. ADP’s legacy technology platform is the result of years of acquisitions that weren’t effectively integrated and is seemingly cobbled together using antiquated systems. As a result, ADP’s back-office operations have been inefficient. In comparison, ADP’s smaller competitors operate with much simpler technology platforms that are less expensive and easier to maintain. We suspect ADP’s technology has contributed to its client retention issues in the past. Though we think management is doing as much as it can to address these issues, we suspect improving its technology infrastructure will be an ongoing process.Nevertheless, ADP’s core customer, which is a midsize business with approximately 50 employees, is modestly insulated. Smaller businesses are likely to be the most cost-sensitive and trade down for do-it-yourself payroll solutions, while large enterprise customers have greater resources and bargaining power, resulting in lower switching costs and lower margins. We anticipate the two ends of the spectrum will experience the greatest competition. ADP will see pressure in its largest customers, but will be able to defend its core segment in midsize businesses.Automatic Data Processing is a provider of cloud-based human capital management (HCM) solutions to employers, providing solutions to businesses of various sizes. The company's two reportable business segments are Employer Services, which provides a range of technology-based HCM solutions, including payroll services, benefits administration, talent management, HR management, workforce management, compliance services, insurance services and retirement services; and Professional Employer Organization, which provides clients with employment administration outsourcing solutions through a relationship in which employees who work for a client are co-employed by the company and the client.
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