FREE ESSAY ON ADP SECURITY EVALUATION

ADP SECURITY EVALUATION

Valuation of a Security
Automatic Data Processing, Inc.
ADP
April 7, 1999
Spring Hill College
Management of Financial Resources
Dr. Ralph Sandler 
ADP - Automatic Data Processing, Inc. (NYSE:AUD)
ADP is one of the largest independent computing services firms in the world with more
than $4.5 billion in annual revenues and more than 425,000 clients. Founded in 1949, ADP
provides computerized transaction processing, data communications, software, and
information services to companies in virtually every industry. ADP Employer Services is
the world's largest provider of payroll services and human resource administration
systems. It offers a comprehensive range of benefits, payroll and business tax deposit
and reporting, time and attendance, 401(k) recordkeeping, and unemployment compensation
and management services. 
In addition, ADP provides securities transaction processing and investor communications
services to the brokerage and financial communities, industry-specific computing and
consulting services to auto and truck dealers, and computerized, automated auto-repair
estimating and auto parts availability services to the auto-repair industry. 
I picked ADP to analyze because their Dealers Services Group is a major player in the
same industry as the company I work for, ABMC, Inc., Automotive Business Management
Consultants, Inc. Computerized automated management for auto and truck dealers is big
business, and there is stiff competition for dealer's business. Because of ADP's size and
diverse corporate structure, it is difficult to make comparisons with ABMC, Inc. We are
still very small with only 38 employees and about 1,000 dealers. In addition, ABMC, Inc.
is still privately owned with no outstanding security issues. Automotive related software
is our only business as well. ADP is quite diversified and their Dealer Service Group
provides only 15% of the company's total revenue.
Over 18,000 auto and truck dealers in the United States, Canada, Europe, Asia, and Latin
America use ADP's on-site systems and communications networks to manage virtually every
are of operations. From parts sales, to repair service, to new vehicle to sales to
bookkeeping. ADP systems and services target every aspect of the auto dealership. 
Earning Growth
ADP has a remarkable record of earning growth. In July of 1996 it was published that "ADP
is the only public company in the nation to achieve consistent, record growth in earning
and revenue for 139 quarters, nearly 35 years." Well, they have now reported 150
consecutive quarters of record sales and earnings. That's 37 straight years of
double-digit earnings per share growth. In just the past four years the earnings per
share has grown at an average rate of 14%. Not only do analysists expect ADP shares to
continue to perform, but the prediction is for the shares to actually outperform the
market in the coming months. 
Total revenue and net earnings have also steadily climbed for ADP. In the September 14,
1998 listing of VARBusiness' Top 100 Stocks, ADP ranked 44th based on an average annual
return of 22.0%. Two stiff competitors in the Dealer Services business, Reynolds &
Reynolds and EDS ranked 46th and 57th, respectively.
ADP stock carries Value Line's highest safety ranking. Their high recurring revenue
stream, predictable interest income, and low exposure to foreign markets makes it an
excellent portfolio holding. 
Quality of Management
Much can be said about ADP's management as well. An October 1997 article in Sales &
Marketing Management noted ADP's sales-oriented culture, and gave their management praise
for continually making strategic changes to improve efficiency. Weekly sales meetings at
regional offices are designed to recognize and reward high achievers, as well as motivate
sales personnel lagging behind. Wild applause and standing ovations are commonplace at
these events. Upbeat music plays and high-fives abound, as employees share in camaraderie
not often found in the workplace. 
According to stock analyst James A. Meyer, "This company is so well managed that it's the
envy of everyone on Wall Street." Meyer went on to say, "...ADP manages resources
prudently. All things being equal, far fewer people get far more done at ADP than at the
average American corporation. That's because it's decentralized." ADP's theory rests in
not making something complicated that isn't. Employees in the field report to management;
management doesn't try to micromanage every little aspect of the company.
ADP has had over 150 acquisitions since it's inception. Added all up, though, and it
doesn't account for 25% of the company today. According to former CEO Josh Weston, ADP's
mission has not been to instantly grow the company. His theory is, "...anytime that you
can accelerate the accomplishment of a program you want to do anyway by getting a kick
start through an acquisition, you get there faster." When new product and market ideas
are developed, ADP management always examines whether they can get there faster through a
reasonably priced acquisition. 
Competitive Structure of Industry
The Computer and Data Services industry is competitive. Companies such as America Online,
Dun & Bradstreet, EDS, National Data Corp., CSG Systems, Intl., Paychex, Inc. and First
Data Corporation all compete for similar business. The investment outlook for this
industry is positive. Corporations are increasingly outsourcing data-processing tasks to
eliminate expenses associated with maintaining in-house computer systems. With the "Year
2000" problem at the forefront of people's minds, data service companies such as ADP,
which are prepared for the turn of the century, will undoubtedly be fighting for the
small business revenues available and a greater market visibility. Great things are
projected to come.
Fortune Magazine just named ADP the "Most Admired" corporation in the Computer and Data
Services industry. Senior executives, outside directors, and financial security analysts
for the industry ranked companies on a variety of criteria including quality of
management, quality of products, innovativeness, use of assets, and social
responsibility. ADP ranked in the top 20% of the 469 Fortune 1,000 companies and also
received high marks for its investment value (ranked 25 out of 469), financial soundness
(ranked 20 out of 469), and use of assets (ranked 57 out of 469). According to Fortune,
the list of Most Admired Companies is the definitive report card on corporate
reputations.
Public Policy Issues
There are no major public policy issues facing ADP specifically. However, being a leader
in the data computing and communications industry, concerns about data security are
present now more than ever. The increased use of personal computer technology has led to
wonderful advancements in both the business and private sector. The Internet provides a
place for communication, information research, entertainment, and, yes, even sales and
marketing. 
ADP generates payroll checks for over 26 million workers. That is an awful lot of
sensitive employee and employer information business are sharing with ADP. It has been
and will continue to be of great public concern that ADP utilize and maintain this
information strictly for the purposes set forth in the agreement made with the customer.

Required Rate of Return
ADP's required rate of return using the 30-year Treasury Bond rate found in the Wall
Street Journal on March 26, 1999 as the risk free rate, a historical risk premium of
6.5%, and ADP's beta of .95 found in Value Line is 11.755%. 
risk free rate + market risk premium ( stock beta )
5.58% + 6.50% ( .95 )
11.755%
The Value Line beta estimate of ADP's stock is .95, indicating a corporate volatility
slightly less than that of the stock market. 
Dividend Growth Rate
The estimated constant growth rate of ADP is 17.0%. This rate is determined by
multiplying the ROE of 23.0% times one minus the payout rate of 26.0%. 
Since the estimated constant growth rate is greater than the required rate of return, the
Gordon Model cannot be used to estimate the price of the stock. If this model were used,
the result would be an infinite stock price. Since no company is worth an infinite amount
of money, it is impossible to have a constant growth rate that is greater than the
required rate of return. In these situations, to find the present value of a stock under
what is considered a super normal growth period, follow the steps below.
? find the dividends expected during the supernormal growth period
? find the price of the stock at the end of the supernormal growth period
? discount the dividends and the projected price back to the present
? sum these present values to find the current value of the stock.
Dividend Growth Rate
From Value Line 1999 Dividend Declared $ 0.30
2002 Estimated Dividend $ 0.45
with a financial calculator, PV -0.30
FV 0.45
N 3
I/YR 14.47% estimated dividend growth rate
Estimated Dividends: 1999 $0.30 
2000 $0.3435 (0.30 x 1.1447)
2001 $0.3933 (0.3435 x 1.1447)
2002 $0.45
Value of Common Stock
Based on the calculation steps described above, I have determined the present value price
of ADP's stock to be $26.69. This is lower than the NYSE closing price $39.375 on Friday,
March 26, 1999 as reported by the Wall Street Journal.
The estimated price of the stock at the end of the supernormal growth period is $39.90,
calculated as the Earnings per Share of $1.90 times the Price Earning Ratio of 21.0.
Using a financial calculator, discount each expected FV dividend to the present using the
required rate of return. The sum of these present values, and the PV of the estimated
value of the stock at the end of the supernormal dividend growth period is the current
stock price.
1999 2000 2001 2002
FV .30 .3435 .3933 .45 + 39.90
N 1 2 3 4
I/YR 11.755 11.755 11.755 11.755
PV .268 .275 .282 25.869 $26.69
This difference between my price of $26.69 and the NYSE closing price of $39.375 on March
26, 1999 is most likely related to investor expectations about the future of the stock
compared to the projected figures reported in ValueLine. The stock is selling for a
premium, in essence, which indicates that investors feel the expected return and benefits
of holding ADP stock are greater than available in other securities available. With the
turn of the century rapidly approaching, investors may be looking for stocks with proven
track records. (Over 37 years of double-digit earnings per share growth isn't too
shabby!) 
In February of this year ADP sold Peachtree Software, an accounting software package for
small business, to Sage Software, Inc. This sale of close to $145 million dollars
occurred after the ValueLine publication I used in this security analysis. This sale
could very well have caused the current trading price of ADP stock to rise well above the
price I calculated.
Sensitivity Analysis
Slight changes in either the stock's beta or the risk free rate make only small changes
in the stock's price. If the 30-year Treasury bond rate were 6.5%, the stock's cost of
capital changes to 12.675% and the price of the stock falls to $25.84. If we raise ADP's
beta to just over the market level to 1.05 the price of the stock becomes $26.09. 
With proven management and earnings records, ADP, Inc. is a wise investment. Despite
changes in the market and the U.S. and world economy, ADP has maintained positive growth
over more than a quarter of a century. Their market share in the data processing and
integrated payroll services industry is unmatched. They have mastered the business of
human resources and personnel administration services and it is paying off. Approximately
57% of company revenues come from this division. ADP's diversification into brokerage
services and dealer and claim services helps to stabilize any market and corporate
fluctuations. 
Works Cited
Business Wire. "ADP Earns Top Honors From Fortune Magazine." February 16, 1999.
Dowling, Debra. "Roseland, N.J., Company Envy of Wall Street." Knight-Ridder/Tribune
Business News, July 12, 1996 p7120344
Rasmusson, Erika. "ADP (Automatic Data Processing Inc.'s Sales Strategies." Sales &
Marketing 
Management, Oct 1997 v149 n10 p54(1).
ValueLine. 1999.
VARBusiness. "The Top 100 Stocks - Best of Publicly Traded Firms Among the VAR 500, 
Distribution 50 and retailers." September 14, 1998.
Wernle, Bradford. "Manheim, ADP Team Up On Used Cars." Automotive News, Sept. 22, 1997 
n5732 p50(1).
Bibliography
Business Wire. "ADP Earns Top Honors From Fortune Magazine." February 16, 1999.
Dowling, Debra. "Roseland, N.J., Company Envy of Wall Street." Knight-Ridder/Tribune
Business News, July 12, 1996 p7120344
Rasmusson, Erika. "ADP (Automatic Data Processing Inc.'s Sales Strategies." Sales &
Marketing 
Management, Oct 1997 v149 n10 p54(1).
ValueLine. 1999.
VARBusiness. "The Top 100 Stocks - Best of Publicly Traded Firms Among the VAR 500, 
Distribution 50 and retailers." September 14, 1998.
Wernle, Bradford. "Manheim, ADP Team Up On Used Cars." Automotive News, Sept. 22, 1997 
n5732 p50(1).