Weak jobs report? Don't tell that to payroll processing companies Paychex (Nasdaq: PAYX ) and Automatic Data Processing (Nasdaq: ADP ) . The two hit simultaneous 52-week highs yesterday. Let's dig into the details to find out whether this growth is sustainable.
How it got here
Over the past year, both Paychex and ADP have moved in one fairly consistent upwards direction. Smaller rival Insperity (NYSE: NSP ) had a good run of its own last year, but consecutive mediocre guidance numbers -- meeting expectations in April, and later offering a downwards revision in July -- contributed to make it the odd company out in 2012:
Paychex has managed to grow through acquisitions lately, but ADP's growth, as my colleague Sean Williams points out, is largely organic. Does that make Paychex risky and ADP the payroll provider of the future? Let's dig into the details to see how each company holds up.
What you need to know
Over the past few years, only one company has generated any real income growth, and even then, it could best be described as "modest."
What's behind the growth in each company's stock price? The easy answer is dividends. Each company offers a relatively strong yield today. Insperity's the only one offering higher yield today than it offered three years ago, and that's only because it began paying out last year:
Although Paychex has the superior yield today, that comes at the expense of a much higher payout ratio. ADP and Insperia both offer sustainable payout ratios that leave room for corporate reinvestment, but Paychex pays out nearly all its income to shareholders:
Since most of this growth in stock price hasn't been matched by income growth, Paychex and ADP now trade at the high end of their recent P/E ranges. Insperity's P/E is the lowest of the bunch after its slide this year:
From the looks of things, tiny Insperia is a solid investment, but you can't ignore its declining net income. ADP's the only option that's provided real growth, and its lower payout level should hold up better if things turn south. The Fool's Dan Dzombak might disagree, as he ranks Paychex 22nd on his Value Investor 500, but ranks ADP only 142nd.
What's next for these payroll companies? As long as the economy keeps chugging along, however slowly, there should be enough income to pay out dividends and enough new hires for a sliver of growth. The risk of recession seems just an inch too far away to be realistic -- but I'm not about to stop being vigilant, and neither should you.
The Fool's CAPS players don't think Paychex has anything to worry about, with 95% giving the company an outperform call. ADP also earns a 95% approval rating.
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