Today we continue our special report from Bob Ciura — editor of Sure Dividend — offering a countdown of his top investment ideas from among the dividend aristocrats; here, he reviews Automatic Data Processing (ADP).
ADP has increased its dividend for 49 consecutive years, making it dividend aristocrat; the company has a long history of growth, due to a dominant position in the human resources and employment services industry.
Even better, the company has increased its dividend at a high rate. Over the past five years, ADP has grown its dividend at just over 12% annually. ADP stock also appears undervalued today, leading to high total return potential for this Dividend Aristocrat.
Business Overview & Recent Events
Automatic Data Processing is one of the largest human resources and employment services companies in the world, with a market capitalization of $101 billion. It provides payroll services, human resources technology, and other business operations to more than 700,000 corporate customers. ADP has increased its dividend for 49 consecutive years.
ADP posted second-quarter earnings results on January 31st, 2024. Adjusted earnings-per-share increased 9% year-over-year to $2.13. Revenue grew 6.4% year-over-year to $4.67 billion. The company saw organic constant-currency revenue growth of 6% for the quarter, led by 20% growth in interest received on funds held for clients.
Average client funds balances actually declined 2% to $32.6 billion year-over-year, but the average yield on funds rose 50 basis points to 2.8%. Total adjusted EBIT was up 7% year-over-year to $1.1 billion.
Growth Prospects
ADP has compounded its adjusted earnings-per-share at a rate just above 11% per year over the last decade. We estimate 9% annual earnings-per-share over the next five years, which will be driven by ADP’s Professional Employer Organization (PEO) Services segment. This portion of the business is expanding margins at the same time, meaning the PEO segment’s growth has had an outsized impact on the firm’s bottom line.
ADP also repurchases its own stock, which we expect to continue boosting earnings-per-share growth each year. The company repurchased over $500 million of its own shares in the first two quarters of the current fiscal year. ADP has averaged a ~1% reduction in its share count over the past 10 years.
Valuation & Expected Returns
Shares of ADP currently trade for a 2024 P/E ratio of 26.8, based on expected EPS of $9.15 for the year. Our fair value P/E ratio for ADP stock is 29, as this is near the company’s 10-year average valuation. Therefore, shares are slightly undervalued right now in our view. An expanding P/E multiple could boost annual returns by 1.6% over the next five years.
We also expect 9% average EPS growth over the next five years. Finally, the stock has a current dividend yield of 2.2%. Overall, we expect ADP stock to generate total returns of 12.8% over the next five years, giving the stock a buy rating from Sure Dividend.
