Once a Market Darling, This Software-as-a-Service Stock Has Been Crushed. Time to Buy?
New growth opportunities
Of course, the most important part of ADP's long-term story is that it isn't trying to win by simply processing more payroll checks. It's trying to win by becoming a broader human capital management (HCM) platform -- software that bundles payroll, HR, benefits, and compliance into a single system.
In other words, the company can do well even if pays per control remain flat. Its newer platform initiatives like ADP Workforce Now NextGen (a redesigned version of a core midmarket product) and ADP Lyric HCM (its next-generation human capital management platform for larger clients), for instance, are expected to help the company expand its services with existing customers and attract new ones it may not have reached otherwise.
So, even in a slower pays-per-control environment, there are still ways ADP can grow. And the company's fiscal first-quarter results notably showed those levers were working as growth remained robust even as its U.S. pays per control growth turned flat.
But what about the stock's valuation?
Even with the stock's pullback, shares command a solid premium considering that ADP is only growing its earnings per share at a single-digit rate year over year. ADP currently trades at a price-to-earnings ratio of 25 and a forward price-to-earnings of 23.
While this isn't an obscene valuation for a software-as-service company likely to continue growing steadily for years to come, it may be a bit high now that ADP's pay-per-control trends have flattened. With this core volume metric no longer growing, the company is more dependent on expanding its offerings and less so on the steady drumbeat of its core business. This increases the risks that ADP's earnings-per-share growth could slow over time, causing investors to be less willing to pay a price-to-earnings multiple in the 20s for the stock.
So I'll be staying on the sidelines for now -- even at this lower price. If shares fall to the point that the stock's price-to-earnings ratio is closer to 20, I might reconsider.
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Daniel Sparks and his clients have no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.
Once a Market Darling, This Software-as-a-Service Stock Has Been Crushed. Time to Buy? was originally published by The Motley Fool
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