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    PAYX
    Earnings call· Feb 2025(Q3 FY25)

    PAYCHEX INC PAYX

    Mar 26, 2025 Source

    Executive summary

    Paychex Q3 FY25 — Paycor Acquisition Progress & Margin Expansion

    Paychex delivered a strong Q3 FY25, marked by robust adjusted EPS growth and significant operating margin expansion, driven by efficiency gains and technology investments. The pending Paycor acquisition is progressing well, with increased synergy expectations and a positive outlook for next fiscal year's adjusted EPS. While the PEO segment faces pass-through revenue headwinds from specific health plan dynamics, overall client retention remains strong, and the company continues to innovate with AI-driven solutions.

    Highlights

    5

    • Total revenue grew 6% excluding the impact of the discontinued ERTC program.

    • Adjusted diluted earnings per share grew 8% during the quarter to $1.49.

    • Adjusted operating margins increased approximately 180 basis points to 46.9% due to increased productivity and cost discipline.

    • Client retention improved over last year's solid performance, with HR outsourcing solutions near record levels.

    • The Paycor acquisition is now expected to be accretive to adjusted earnings per share next fiscal year, with synergies over $80 million.

    Concerns

    4

    • PEO and Insurance Solutions growth guidance was lowered to 6% to 6.5% (from 7% to 9%) due to continued headwinds from pass-through insurance revenues.

    • Total revenue guidance for FY25 is now expected at the low end of the 4% to 5.5% range, primarily due to pass-through insurance revenues.

    • Interest on funds held for clients decreased 2% to $43 million, primarily due to lower average interest rates.

    • Customer employment levels were a little softer than expected, impacted by weather-related challenges, fires in California, and lower bonus checks.

    Guidance & targets

    11
    CategoryTargetConfidence
    Total revenue growth
    4% to 5.5%
    high materiality
    Medium
    Management Solutions revenue growth
    3% to 4%
    medium materiality
    Medium
    PEO and Insurance Solutions revenue growth
    6% to 6.5%
    high materiality
    Medium
    Interest on funds held for clients
    $145 million to $155 million
    medium materiality
    Medium
    Adjusted other income net
    $30 million to $35 million
    low materiality
    Medium
    Adjusted operating income margin
    approximately 43%
    high materiality
    Medium
    Effective income tax rate
    24% to 25%
    low materiality
    Medium
    Adjusted diluted earnings per share growth
    5% to 7%
    high materiality
    Medium
    Revenue growth (including Paycor)
    10% to 12%
    high materiality
    Medium
    Adjusted EPS impact (including Paycor)
    neutral
    high materiality
    Medium
    Adjusted diluted earnings per share impact (Paycor acquisition)
    accretive
    high materiality
    High

    Segment performance

    2
    SegmentRevenueYoYQoQMargin
    Management Solutions
    Driven by growth in clients served, client worksite employees for HR solutions, and higher revenue per client from price realization and product penetration, partially offset by lower ERTC revenues.
    		$1.1 billion5%——
    PEO and Insurance Solutions
    Driven primarily by growth in the number of average worksite employees and an increase in PEO insurance revenues.
    		$365 million6%——

    Operational metrics

    32
    Total revenue
    $1.5 billionincreased 5%
    Q3 FY25

    Includes headwind from ERTC program expiration.

    Total expenses (excluding one-time costs)
    $801 millionincreased 1%
    Q3 FY25

    Continued investments in product, technology, data, and AI were offset by productivity and efficiency gains.

    Operating income
    $692 milliongrew 6%
    Q3 FY25

    Impacted by ERTC program expiration.

    Adjusted operating margin
    46.9%increased 180 bps
    Q3 FY25

    Due to increased productivity and cost discipline.

    Diluted earnings per share
    $1.43increased 4%
    Q3 FY25
    Adjusted diluted earnings per share
    $1.49increased 8%
    Q3 FY25
    Total revenue
    $4.1 billiongrew 4%
    YTD FY25
    Management Solutions revenue
    $3 billionincreased 3%
    YTD FY25
    PEO and Insurance Solutions revenue
    $1 billionincreased 7%
    YTD FY25
    Interest on funds held for clients
    $117 millionincreased 8%
    YTD FY25
    Total expenses
    $2.4 billiongrew 3%
    YTD FY25
    Operating margins
    42.9%expanded 40 bps
    YTD FY25
    Adjusted operating margins
    43.3%increased 80 bps
    YTD FY25
    Diluted earnings per share
    $3.76increased 4%
    YTD FY25
    Adjusted diluted earnings per share
    $3.79increased 5%
    YTD FY25
    Cash, restricted cash and total corporate investments
    $1.7 billion
    as of Feb 28, 2025
    Total borrowings
    $817 million
    as of Feb 28, 2025
    Capital returned to shareholders
    $1.2 billion
    first 3 quarters FY25
    Return on equity
    45%
    12-month rolling

    Remained robust.

    ERTC program headwind
    1%
    Q3 FY25

    Implied from 5% reported growth vs 6% ex-ERTC growth.

    ERTC program headwind
    200 bps
    FY25

    Included in the total revenue guidance range.

    Client losses
    downyear-over-year
    Q3 FY25

    Across all employee size segments.

    Out-of-business losses
    down double digits
    Q3 FY25

    Largest portion of losses.

    Bonus dollar volume paid out by clients
    8%higher than prior year
    Q3 FY25
    Number of people who got bonuses
    lessthan prior year
    Q3 FY25

    Contributed to check compression.

    PEO plan range per employee
    $11,000-$14,000
    Q3 FY25

    Small changes in participation can make a big difference in revenue.

    Average deal size
    smallerthan last year
    Q3 FY25
    Percentage of employees taking benefits
    lowerthan typical
    Q3 FY25
    People buying down to lower cost options
    almost 2xhistorically
    Q3 FY25

    Contributes to lower MPP enrollment and pass-through revenues.

    401(k) business growth
    double-digit
    Q3 FY25

    Underpinnings are strong.

    Broker referral program growth
    up double digitsyear-over-year
    Q3 FY25
    Additional client sites
    up double digits
    Q3 FY25

    Not indicators of pending recession or macro employment problems.

    Industry KPIs

    4
    MetricValueDetails
    Peo metricsstrong upper digit
    Retention rateimproved over last year
    Pays per controlflat%
    Client funds balances yielddecreased 2%%

    Product announcements

    2
    ProductTypeDetails
    Gen AI-powered HR Copilot toollaunch
    Paychex Perkslaunch

    Deals & partnerships

    1
    PaycorAcquisition of a leading provider of HCM, payroll, and talent software to strengthen competitive position upmarket and offer Paychex's HR solutions to Paycor's approximately 50,000 customers and their 2.7 million employees.

    Definitive agreement entered. HSR waiting period expired on February 21. Paycor will operate as a stand-alone business unit. Adam Ante (Paycor CFO) to join as SVP of Paycor, Ryan Bergstrom (Paycor CPO) to join as Paychex CPO. Customers will remain on current platforms.

    Risks & headwinds

    6
    Pass-through revenue headwind in PEOFY25, continuing until end of calendar year

    Lowered FY25 PEO and Insurance Solutions growth guidance to 6%-6.5% (from 7%-9%)

    Mitigation: Conservative underwriting for Florida at-risk medical plan; offering stand-alone plans through agency; focus on worksite employee growth and retention.

    Softer customer employment levelsQ3 FY25

    Checks per client flat year-to-date; lower bonus checks than expected; impacted by weather-related challenges and fires in California.

    Mitigation: Focus on strong retention, with client losses down year-over-year and out-of-business losses down double digits.

    Lower average interest rates impacting client funds interestQ3 FY25

    Interest on funds held for clients decreased 2% to $43 million in Q3 FY25.

    Mitigation: Not explicitly stated, but implies continued focus on other revenue drivers.

    Health inflation and rising healthcare costsOngoing

    More employees opting for lower-cost health plans; average deal size smaller and percentage of employees taking benefits lower in Florida PEO; almost 2x historical rate of people buying down to lower cost options.

    Mitigation: Offering a variety of plans, including lower-cost options; leveraging PEO model to scale and create value proposition; conservative underwriting.

    ERTC program expirationFY25

    Approximately 200 basis points headwind to total revenue guidance for FY25.

    Mitigation: Company has anniversaried the end of ERTC, so quarterly impact will no longer be discussed.

    Asset balances in 401(k) businessQ3 and Q4 FY25

    Headwind in Q3 and Q4 due to market performance.

    Mitigation: Not explicitly stated, but implies focus on other aspects of the 401(k) business.

    What to watch in Q4 FY25

    5

    Paycor Acquisition Close

    next quarter
    CurrentHSR expired Feb 21, expected to close in coming weeks
    TargetOfficial closing announcement

    Why it matters

    The acquisition is a major strategic move, impacting revenue, EPS, and market positioning, with integration planning already underway.

    We are working diligently towards a closing of the Paycor acquisition in the coming weeks, and we have already made several important decisions related to the integration.

    Q&A highlights

    7

    Asked about client preference between ASO and PEO models, trading down to lower-cost health plans, and the duration of the lower implied Q4 PEO growth.

    Management stated no trade-off from PEO to ASO, with strong double-digit worksite employee growth in both. The Q4 PEO impact is primarily due to the Florida at-risk medical plan, where participation is down and employees are opting for lower-cost plans, creating a pass-through revenue headwind without affecting net revenue or earnings. They emphasized conservative underwriting and managing the book well.

    “PEO performance really across the country is strong. Our bookings were double digits. We got a solid pipeline going into Q4 and it continued to be strong.”

    asked by Daniel Maxwell · answered by John Gibson

    3 min read7 chapters

    Detailed Narrative

    01

    Paycor Acquisition & Integration Update

    The waiting period under HSR for the Paycor acquisition expired on February 21, and the closing is expected in the coming weeks. Paycor will operate as a stand-alone business unit, with Adam Ante joining as SVP of Paycor and Ryan Bergstrom as the new Chief Product Officer of Paychex. Both companies' customers will remain on their current platforms, gaining access to a comprehensive HCM portfolio. The company has increased its confidence in achieving cost synergies, now expecting them to exceed $80 million, leading to the acquisition being accretive to adjusted EPS next fiscal year.

    02

    Client Retention & Satisfaction

    Client retention has improved year-over-year, with HR outsourcing solutions maintaining near record levels. Revenue retention is also above pre-pandemic levels. Client losses are down across all employee size segments, and out-of-business losses decreased double digits. Paychex was recognized by the Wall Street Journal for achieving the second-highest increase in customer satisfaction among 250 companies.

    03

    PEO Business Dynamics & Headwinds

    While the PEO business remains strong with increasing participant levels in health plans, enrollment in the specialty Florida at-risk medical plan decreased year-over-year. More employees are opting for lower-cost health plans, creating a pass-through revenue headwind with no impact on earnings. The company maintains a conservative underwriting approach for the Florida plan, prioritizing risk management over revenue growth.

    04

    Innovation & AI Initiatives

    Paychex was named one of Fortune's Most Innovative Companies for the third consecutive year. The company is piloting a Gen AI-powered HR Copilot tool, developed from proprietary data, to enhance HR professionals' efficiency and client support. This tool is on track to launch at the start of the next fiscal year. Additionally, Paychex Perks, a digital marketplace for employee benefits and discounts, has seen over 180,000 client employees make purchases since its September launch.

    05

    Macro Environment & Labor Market

    The pace of U.S. job growth has moderated but remained stable and in line with historical averages. Customer employment levels were slightly softer than expected in Q3, influenced by weather, California fires, and lower bonus checks. Year-to-date, checks per client have been flat, indicating stable labor market conditions. The small business index shows moderate growth, with no signs of recession, and client additions of new sites are up double digits.

    06

    Strategic Partner Program Refresh

    Paychex is committed to fostering strong relationships with strategic partners, including brokers and CPAs. The broker referral program saw double-digit growth year-over-year in both PEO and HCM businesses. A major strategic partner program refresh is planned for the coming weeks, incorporating investments in technology, improved support, and new marketing initiatives, leveraging best practices from both Paychex and Paycor.

    07

    401(k) Business Performance

    The 401(k) business is experiencing double-digit growth, although asset-based revenue faced a slight headwind in Q3 and is expected to continue in Q4 due to market performance. The company sees opportunities to offer its 401(k) program to Paycor's client base, leveraging its experience with both smaller and larger clients. Regulatory actions, such as closing SECURE Act loopholes for micro-businesses, are viewed as important for future growth.

    AI-generated summary of the company’s earnings call. Not investment advice.