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Paychex and Payroll Profits

06/18/2018 5:00 am EST

Focus: DIVIDEND

Ian Wyatt

Publisher & Chief Investment Strategist, Wyatt Investment Research

We think Paychex (PAYX) is a worthwhile buy; a 3.4% yield is a good starting place for this solid divided grower, asserts Ian Wyatt, editor of High Yield Wealth.

Dividend growth is solid because the business supporting the dividend is solid. Paychex is the second-largest provider of payroll processing, human resources, and benefits services in the United States.

Paychex takes a smaller-is-better view of the world. Roughly 99% of its clients are businesses composed of fewer than 100 employees. The average client size of the business is approximately 16 employees.

The worldwide market for business services totaled $131 billion in 2016, according to a May 2017 report by market researcher IDC. Between 2016 and 2021, IDC expects the segment to grow at a 6.4% compound annual growth rate. Paychex’s niche of the sector should, at the least, maintain a similar growth rate.

The National Federation of Independent Business (NFIB) represents 325,000 small businesses in the United States. NFIB’s small business optimism index posted a 16th consecutive month in the top 5% of 45 years of survey readings for April. A net 20% of small-business owners plan to create new jobs.

Paychex’s customer base will continue to grow. Paychex will grow with it. Fiscal-year 2018 will end this month. Paychex guided for annual revenue to finish 7% higher. The company should report $3.37 billion in revenue for the year.

Management expects net income growth to exceed revenue growth. Net income --embellished by tax reform -- should grow 13% year over year to post at $923 million. EPS should post at $2.55. 

We expect total revenue to grow 7% in fiscal-year 2019. Revenue should post near $3.6 billion. We expect EPS to post near $2.80. We think our estimate is conservative. It neglects the impact of share repurchases, which we expect to occur with greater frequency in fiscal-year 2019.

Paychex is a cash-generating machine. It generated posted $1 billion in free cash flow over the trailing 12 months. Free cash flow is up 29% over the past three years.

Cash and total corporate investments stood at $826.6 million at the end of February -- double the amount three years earlier. The cash will be used to support additional share buybacks and dividend increases. The dividend was recently increased 12%. As the dividend goes, so goes the share.

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