Paychex Inc. (PAYX - Snapshot Report) reported decent third-quarter fiscal 2015 results wherein the bottom line matched the Zacks Consensus Estimate while the top line surpassed the same. Moreover, on a year-over-year basis, both revenues and earnings improved.

The company’s quarterly earnings of 46 cents per share were in line with the Zacks Consensus Estimate but increased 4.5% from the year-ago quarter mainly driven by improved top-line performance.

Paychex Inc. - Earnings Surprise | FindTheCompany

Quarter Details

Paychex reported total revenue (including Interest on funds held for clients) of $704.3 million which increased 8% from the year-ago quarter and beat the Zacks Consensus Estimate of $702 million. Excluding interest on funds held for clients, total services revenue (Payroll service and Human Resource Services) also grew 8% from the year-ago quarter to $693.6 million.

Payroll Service segment revenues went up 2% from the year-ago period to $423.8 million, primarily on the back of higher revenue per check and client base.

Human Resource Services segment revenues increased 19% year over year to $269.8 million mainly driven by solid growth in client base and worksite employees, increased revenues from retirement and online HR administration services.

Interest on funds held for clients increased 2% on a year-over-year basis to $10.7 million primarily benefiting from 3% rise in average investment balances owing to increase in client base and wage inflation.

Paychex’s total expenses increased 10% from the year-ago quarter to $440 million due to 6% rise in compensation-related expenses and 3% due to costs associated with its new minimum premium plan health insurance offering within its professional employer organization. Total expenses, as a percentage of total revenue, increased 100 basis points (bps) on a year-over-year basis to 62%.

Consequently, Paychex’s operating margin contracted 100 bps to 37.5%. However, in dollar terms, reported operating income increased 5% year over year to $264.3 million.

Excluding interest on funds held for clients, Paychex’s operating income came in at $255.6 million or 36.9% of total services revenue compared with $241.7 million or 37.8% in the year-ago period.

Net income came in at $169.4 million or 46 cents, which improved from $160.1 million or 44 cents reported in the year-ago quarter.

Balance Sheet & Cash Flow

Paychex exited the quarter with cash and cash equivalents of $265.3 million compared with $140.4 million in the previous quarter. Corporate investments were $355.5 million versus $388.6 million at the end of second-quarter fiscal 2015. The company has no long-term debt. The company generated operating cash flow of $692.8 million in the first three quarters of fiscal 2015.

During the first nine months of fiscal 2015, Paychex repurchased approximately $70.4 million common stocks and paid dividends worth $414.4 million.

Guidance

Paychex maintained the fiscal 2015 guidance provided in Jun 2014. Management expects 3–5% increase in Payroll Service revenues from the year-ago period. Human Resource Services revenues are expected to increase in the range of 16–19%.

Total service revenue is expected to increase in the range of 8–10%. Interest on funds held for clients and investment income for fiscal 2015 are expected to remain flat, primarily affected by low interest rate. Net income for fiscal 2015 is expected in the range of 6–8%.

Net operating income as a percentage of service revenues is expected within 37% to 38% for fiscal 2015. The effective income tax rate for fiscal 2015 is expected to be same as the fiscal 2014 guidance (36–37%).

Our Take

Paychex reported decent third-quarter results wherein the bottom line was in line with the Zacks Consensus Estimate while the top line beat. Moreover, on a year-over-year basis, both revenues and earnings increased. The company reiterated the fiscal 2015 outlook, which signifies that it is relatively well-placed despite the current macroeconomic sluggishness.

Moreover, we remain encouraged by the company’s investments in product development and focus on building its sales force to support revenue growth. We also believe that the company’s expansionary initiatives, such as joint ventures and acquisitions, support its long-term growth strategy.

Product launches are expected to provide additional support. Moreover, Paychex’s focus on small and mid-sized businesses looking for HR solutions could provide growth opportunities.

However, unfavorable interest rates and competition from Automatic Data Processing (ADP - Analyst Report) and Insperity (NSP - Snapshot Report) remain the headwinds.

Currently, Paychex has a Zacks Rank #3 (Hold). A better-ranked stock in the outsourcing industry is Broadridge Financial Solutions Inc. (BR - Snapshot Report) carrying a Zacks Rank #2 (Buy).