自動資料處理 (ADP) 2008 Q1 法說會逐字稿

Good morning.

My name is Carol and I will be your conference Operator.

At this time I would like to welcome everyone to the Automatic Data Processing Incorporated first quarter fiscal 2008 earnings conference call.

I would like to inform you that this conference is being recorded and all lines have been placed on mute to prevent any background noise.

After the speakers remarks, there will be a question and answer session.

(OPERATOR INSTRUCTIONS) Thank you.

I will now turn the call over to Elena Charles, Vice President, Investor Relations.

Ms.

Charles you may begin.

Hello, thank you.

Good morning.

I'm Elena Charles.

Here this morning is Gary Butler, ADP's President and CEO; and Chris Reidy, ADP's Chief Financial Officer.

A slide presentation accompanies today's earnings call and webcast and it is available for you to print from the Investor Relations home page of our website at ADP.com.

Just to remind you the first quarter of fiscal 2008 plus a two year history of revenue and pre-tax earnings for our new reportable segment has been posted to the IR section of our website as well.

During today's conference call, we will discuss some forward-looking statements that involve some risks and these are discussed on page two of the slide presentation and in our periodic filings with the SEC.

With that introduction, I'll turn the call over to Gary for his opening remarks.

Thank you, Elena.

Good morning, everybody, and welcome to the call.

I'll begin today's call with some opening remarks about our first quarter.

Then I'll turn it over to Chris who will take you through the more detailed results and then I'll return a little later in the call to provide you with an update on our guidance for fiscal 2008 and you can see in spite of the headwinds from lower interest rates, we are forecasting yet another strong year for ADP.

Also at the end before we go to Q&A, I'll discuss why I believe that ADP has never been better positioned to take advantage of the growth opportunities and the large and growing markets that we serve.

First, let me say I am very pleased with our results for the first quarter.

We are off to an excellent start for fiscal '08.

Business momentum is strong and we are ahead of our expectations.

We continue to execute against our growth strategies and you can see that we are achieving the desired results of double digit revenue growth with pre-tax margin expansion.

In this quarter we also acquired three smaller distributors of our Dealer Services auto line product that support our strategy of expanding our direct presence in key world markets in the dealer community.

These acquisitions will add about $20 million in revenues to fiscal 2008.

Revenue growth for the quarter was a strong 13.5% and we achieved better than anticipated pre-tax margin expansion excluding last years net one-time gain.

Sales growth and Employer Services was double digit and I am pleased with dealer strong sales growth.

Client retention was excellent in both Employer Services and Dealer Services as well.

Our cash balances are down from the $1.9 billion at fiscal '07 year-end, June 30, to approximately $1.5 billion.

This excludes the assets related to the reverse repurchase agreement discussed in the press release.

Year-to-date, we returned $560 million to our shareholders, buying back nearly 12 million shares of ADP stock.

Again, off to a great start for the year and with that I'll turn it over to Chris for a more detailed view.

Thanks, Gary, and good morning, everyone.

As Gary said earlier our results for the quarter were terrific.

Total revenues grew 13.5% to $2 billion and client fund interest revenues grew 15% from balanced growth of 7.5% and a 30 basis point improvement in the average interest yield to 4.6%.

I'd like to remind you that we had a net one-time gain in last years first quarter so we're showing here the first quarter fiscal 2008 comparisons including and excluding last years net one-time gain.

On an apples-to-apples basis excluding last years one-time gain, pre-tax earnings grew 21% and the pre-tax margin expanded 110 basis points.

Earnings per share from continuing operations increased 25% to $0.45 a share.

Now, turning to slide five, we'll talk about share repurchases and our cash balances at September 30.

As Gary mentioned earlier we repurchased nearly 12 million shares fiscal year to date for about $560 million.

As we had indicated on our last earnings call, this level of share buybacks is higher than historical buyback levels but lower than last quarters $1.1 billion buyback which included investing the dividend from the Broadridge spinoff.

The share buyback to date are anticipated to be a little over $0.01 accretive for the full fiscal year 2008.

With nearly 11 million shares purchased in the quarter at a cost of about $514 million, we have reduced our cash balances from June 30, to $1.5 billion at September 30.

This excludes the assets related to an outstanding reverse repurchase agreement of about 345 million that matured on October 1.

Bottom line is that we're continuing to return excess cash for our shareholders.

Now let's turn to slide six.

Employer Services had a terrific first quarter.

11% revenue growth with 9% organic growth and 8% growth in our traditional payroll and tax filing business in the United States.

Our Beyond Payroll revenues grew 18% in the U.S.

Strong performance from employees and Virtual Edge that were both acquired last year as well as comprehensive outsourcing services and time and attendance contributed to the strong Beyond Payroll growth.

I do want to point out that the PEO is a separate reportable segment this year and is no longer included in the ES Beyond Payroll metrics.

ES's pretax margin of over 50 basis points was better than anticipated and results from increased operating efficiencies, and this included a drag from last years acquisitions that closed after last years first quarter.

Pays percControl, a same-store sales metric was up 1.6% in the quarter and average client fund balances were up 7.5%.

Client retention was terrific in the quarter improving 50 basis points over last year to a new record level.

New business sales growth which includes both ES, and PEO, was 11% and all market facing segments achieved double digit sales growth.

Now let's turn to slide seven.

We were very pleased with the strong results for the PEO this quarter.

Revenues grew a strong 21% and you see the pre-tax margin increased over 250 basis points.

About half of the margin expansion is coming from growth in the business and the other half from an easy compare with last years first quarter.

This improvement felt good to us and we are raising our full year estimates for pre-tax margin expansion as you'll hear from Gary later on.

The number of average work site employees paid during the quarter increased 19% to 165,000.

Now moving on to Dealer Services, dealer also had a very solid first quarter.

Total revenues grew 8%, organic revenue growth was 6% compared with 4% in last years first quarter and we are on track to improve organic revenue growth for the full year to 7 or 8% which is over last years 6%.

As Gary mentioned earlier during the quarter we acquired three distributors of our Dealer Services auto line product.

These are terrific acquisitions that support our strategy of expanding our direct presence in Asia, Portugal and Mexico.

In the first quarter there was a drag on dealers pre-tax margin from these acquisitions and despite the impact of these acquisitions, Dealer Services pre-tax margin expanded nearly 70 basis points from increased business momentum and expense control.

New business sales were strong, internationally with our auto line product and in North America with sales of products such as digital marketing and IP telephony.

Now I'll turn it back to Gary for an update on our full year forecast.

Thank you, Chris.

Just for everybody, we're on slide nine, and at this point, I'll update our fiscal 2008 revenue guidance.

We are raising our revenue growth forecast to 12 to 13%.

This is based primarily due to our current estimate of the benefit from foreign exchange rates as well as the acquisition activity in Dealer Services that we spoke to earlier.

As you know, we have lowered the anticipated growth in client funds interest.

We are, however, still forecasting an increase of about 8% which is about 30 million to $40 million lower than our previous forecast of 13 to 14% growth.

This revision is based on Fed funds futures contract and forward yield curves which call for 75 basis points of reductions in the Fed funds rate over the remainder of the fiscal year and this is in addition to the 50 basis point reduction since our original forecast in July.

And also just to give you another data point, even had we had the entire 125 basis point reduction in Fed funds rate, affectively lowering the rate to 4%, if this rate had been in effect for the entire fiscal year since July 1, our forecast for interest on client funds would have been lower by an additional 10 million to $20 million.

The average yield on the client funds portfolio is forecasted to be nearly 4.5% for the year.

Now, this is different from our previous forecast by about 20 basis points where we had forecast improvement to 4.7% over last years 5.5%.

We are also anticipating 7 to 8% growth in client funds balances which is slightly lower than our previous forecast of over 8%.

We do think we'll see lower wage growth this year as a result of early indications that year-end bonuses may not be quite as robust as last year and this years pay growth appears to be slightly lower than our internal plan as we are forecasting about 1.5% growth in our pays percControl metric compared with 2% in our previous forecast.

I'm now switching to Slide 10 to review the EPS forecast.

We do anticipate another strong year of earnings growth and as I stated earlier, I am particularly pleased to express confidence in our ability to attain the high end of our earnings per share forecast from continuing operations.

Just to remind the audience, the 18 to 21% growth is compared with the $1.80 per share a year ago which does include the impact of the net one-time gain which does exclude the impact of the net one-time gain from last years first quarter.

We continue to see positive momentum in the businesses as evidenced by the strong business metrics we reported today and we believe the strength of our first quarter results and the $0.01 or so benefit from year-to-date share repurchases will counteract the 4 to 5% drag from the estimated reduction to earnings per share from our updated interest forecast on client funds.

In our forecast there are no further share buybacks contemplated in the '08 guidance, although it is our intent to continue to buyback shares at higher than historical levels, again depending upon market conditions, but also not at the aggressive levels of last years fourth quarter which included returning the dividend from the spinoff of the Brokerage busine.

I'm now switching to slide 11 to talk about guidance by business segment.

On Slide 11, you will see our updated guidance for the different business segments.

I thought this table would help you clearly depict the current forecast for the year and also compare it to our previous forecast.

So for Employer Services and again, this excludes the PEO services, we do anticipate for ES about 10.5% revenue growth, slightly down from our previous forecast of 11% revenue growth and this is due to the anticipated lower client funds balance growth as I mentioned earlier, and to remind you, Employer Services is credited with revenue at a constant 4.5% interest rate on client funds balances and is therefore not impacted by the changing interest rates.

We do anticipate an improvement in pre-tax margin expansion of 70 to 120 basis points.

This is up notably from our previous estimate of 50 to 100 basis point improvement.

As we switch to the PEO services segment, we are raising our revenue growth forecast to 19 to 20% from 18 to 19% previously forecasted, and we are estimating higher margin expansion of 50 to 90 basis points compared to about 50 basis points previously forecasted.

We have stayed the course with our forecast on new business sales, so we are confirming that forecast for high sales growth, for sales growth in the high single digits to low double digits.

Dealer Services, we anticipate revenue growth of about 10 % for Dealer Services.

This is up from our previous forecast of 8 to 9% and it is due primarily to the first quarter acquisitions that both Chris and I spoke about a little earlier, and as a result of the cost associated with these acquisitions, we do anticipate pre-tax margin improvement of 70 to 90 basis points compared with our prior forecast of over 100 basis points.

Now let's turn to slide 12 as I try to summarize where we are.

So to recap for the quarter, revenue growth was a strong 13.5%.

Pre-tax and net earnings increased 21% and earnings per share increased 25%, again excluding last years first quarter net one-time gain.

Our expectations for the year are strong, despite the expected lower interest rate environment.

Anticipated revenue growth for the year is once again double digit.

Pre-tax margins are improving across-the-board and we are confident we will attain the high end of our EPS growth forecast.

I'd also like to take this opportunity while I have you all here to share some comments on the portfolio and the credit markets.

First of all, ADP's investment guidelines are very prudent.

Our investment portfolios for both our client and corporate funds as well as our ability to borrow in the commercial paper markets have not in any way been adversely affected by the recent turmoil in the credit markets.

ADP only invests in highly liquid, investment grade, fixed income securities.

Our overall investment portfolio quality is very high at AAA/AA and ADP has zero exposure to subprime asset backed or mortgage backed securities or asset backed commercial paper and ADP has zero exposure to CDO's and CLO's which is are collateralized debt and collateralized loan obligations.

And finally I'd like to express my views on why I believe that ADP is much better positioned today than it was some five or six years ago when the economy softened at that time and why I believe the new ADP can successfully execute our growth objectives over the long term horizon.

First, as we think about the new ADP, we have divested four slow or no growth businesses over the last 18 months.

Second, I also believe ADP is much better positioned today.

We are keenly focused on two large underpenetrated markets in Employer Services and Dealer Services and they both have strong underlying growth attributes and both businesses have 90% recurring revenues.

Third, our product line today has never been more complete and we have excellent competitive position across all of the markets we serve.

In the international markets, our global view product and auto line product are winning market share handily, and our largest organic growth opportunity in HR BPO is yielding tremendous results.

The PEO as you can see is growing very robustly.

COS and the high end of the market is doing great.

In fact it turned profitable this month, and we're very pleased with our new administrative services offering which is basically the PEO without co-employment but for the middle market, is now starting to gain ground.

We have an abundance of new offerings that we didn't have a number of years ago that are driving incremental market share gains.

I couldn't be more pleased with our success in Virtual Edge, our Employees acquisition which is gaining share for new payroll and benefits in the mid markets, our workers comp and healthcare initiatives are gaining traction, and in Dealer Services, we're having great success with IP telephony and our acquisition, BZ Results.

Fourth, in addition to the inherent scale advantage that we get from volume that drives improved margins we have a number of other efforts under way to continue to augment these margins over time.

And fifth, our committment to return excess cash to shareholders through share repurchases and higher dividends remains very strong.

So in closing I believe ADP is on a very clear path to increase shareholder value by executing on the strategic initiatives discussed with you both today and over the last year.

I hope you can see why I remain very excited about ADP's future growth opportunities.

So with that, I will conclude and turn it over to the Operator to take your questions.

(OPERATOR INSTRUCTIONS) Our first question will come from the line of Rod Bourgeois with Bernstein.

Yes, good morning.

Gary, I wanted to inquire about what is enabling you to increase your margin targets for fiscal '08 and I guess specifically what I wanted to ask about is the increased margin outlook in reaction to the lower float outlook or is the new margin outlook something you would have granted to us even if the float situation had not worsened?

Well, we definitely would have improved margins, had float not gone the opposite way.

I guess the good news is that we're on track or ahead of where we thought we would be on some of the margin expansion and that coupled with the accretion from the share buyback has put us in a position to put out a pretty good forecast.

All right, so I guess just to be really precise here though, after you saw the yield curve drop during the quarter, did you get more aggressive with your margin target than you would have in sort of a normal course scenario on the float side?

This is Chris.

We didn't do anything unnatural in terms of clamping down on expenses or kind of starving areas.

This is really more just the momentum in the business as well as the fruition of some margin initiatives that we've been talking about for awhile, things like the data center consolidation, smart shoring, telesales, all of the things that we were planning on doing anyway.

So it wasn't that we just clamped on expenses completely to offset the other.

Okay, great.

And then the other sort of obstacles that appeared to have occurred during the quarter was pays percControl growth slowed some and then also your client funds balance growth, looks like the outlook has come down there.

Can you talk specifically to what you're seeing in terms of the key economic trends in your client base that's causing you particularly to take the client funds balance growth outlook down?

You mentioned a lower outlook for bonus activity.

Can you talk specifically to what you're seeing in the relevant economic trends?

We wouldn't generally get to that level of detail, Rod.

I mean, we see bonuses pending on fiscal year ends and people getting prepared for the calendar year-end which is when most of the bonuses are paid, and obviously, this has not been a banner year on Wall Street which is also generally a place where we do benefit from higher bonuses, so I think we're pretty good at forecasting our balances and our people and our money movement center are quite skilled at this, so they basically through educated experience have come up with this forecast and frankly, I think they're probably right.

Okay, and one other quick question, Gary.

Given you're able to sort of keep your revenue targets intact, despite some of the headwinds that you're seeing with pays percControl and in the float situation.

Is there something happening in your ancillary sales that are surprising on the upside when you look at your portfolio of sort of newer products, is there anything that's shining through there?

Well, a couple things are going on there, Rod.

One is we finished June with a very strong sales finish which obviously gave us momentum from the revenue side.

We also had a strong sales quarter in the first quarter which gave us continued momentum.

We have very strong momentum in our global view sales which we talked about for quite some time.

We're doing very well in our national accounts area with our COS products, and we continue to see great sales success in not just COS, but our time and labor management products and I couldn't be more delighted with the penetration we're getting with employees in Virtual Edge across the enterprise.

Dealer is doing great on the large dealer groups as well as some of the new products that I mentioned in my opening comment.

Bear in mind, Rod, that the rule of thumb that we use on Pays percControl if the 2% goes to 1% that's about a $20 million impact on revenue so it's not all that substantial and there was a number of other factors in the revenue, we had had a pick up of a little bit of about $20 million or so from the Dealer acquisitions as well as the fact that the foreign exchange rates as you saw, lifted the first quarter by about 1%, the dollar being very weak and if we just look out and forecast based on where the dollar is today, that accounts for the biggest portion of the increase of the total revenue from 12% guidance to the 12 to 13 guidance.

Rod, also, the statistic that we quote, the 1.6 is our Auto Pay product which is our historical mid market product, and we did see a little bit of a decline there in this quarter.

As you may recall, we also had in the first quarter of last year, it was 1.7%, or the second quarter, Elena is correcting me here, so this can be aberrations and even though we don't disclose the other statistics, we still saw pretty nice growth in the low end of the market and the high end of the market in terms of same-store growth from some of our other products that was at a higher level than the 1.6.

We don't go to that level of detail in our reporting but we're seeing some drag but nothing like falling off the cliff or anything.

You can't give a blended number for the Pays percControl growth across your whole client base?

No.

Okay, all right, thanks, guys.

Our next question comes from the line of Kartik Mehta with FTN Midwest Research.

Good morning, Gary.

Wanted to ask you a little bit about the ES side.

Maybe how much of that was net client growth?

It sounds like the top line if you exclude kind of what's happening in the interest rate environment is still in line with their expectation or maybe even a little bit better and I was wondering if you could break that down to maybe how much of that is net new client growth?

Well, the best place to go look at that is a core growth in our payroll and tax filing revenue which was up I think 8% for the quarter.

That metric is probably the one that most clearly reflects the net new business ad from new clients, and you got to be careful about clients because you may not sell as many two man payrolls that generate smaller revenue numbers but you may be having great success upmarket which is driving new business revenue from new clients, maybe not exactly just client count.

So that's why we look at that blended number and just like we got last year in that 8 to 9% range, we're seeing a continuation of net new business in that revenue line and again to remind you, that's the single highest margin contribution line in all of ADP, so we're delighted.

Chris, if you looked at your flow portfolio and assuming the interest rate declines that happen, that are being forecasted, will you change how you manage a float portfolio in any way or will you kind of keep the same mentality rate?

On the contrary, this is why we have the strategy that we do.

In the rising interest rate environment, we don't experience that immediately because of the reinvestment portfolio but in a declining interest rate environment, we're somewhat protected against that over time because we're only exposed to the extent that we're reinvesting, so since we're investing a little bit longer term, that lessens our exposure to the short-term rate, so the metric that we use and this changes as the duration of the portfolio changes but our current metric on the impact is that as the short-term Fed funds rate changes by 25 basis points, it has about a $5 million impact on us and across the whole yield curve, that 25 basis point decline is an $11 million impact.

The reason why that's as little as it is is because we tend to invest a little bit longer term and not put everything into short-term rates.

So we're very pleased with that strategy particularly in this environment.

So are you looking to extend that duration at all or are you going--?

It actually did extend a little bit since the beginning of the year to 2.4.

That's up from 2.3 but when you have the size of portfolio we have it's hard to move that dramatically, but we have a little bit.

Where that shows up is that same rule of thumb at year-end would have been a $7 million impact for 25 basis points change in the Fed fund rate so the change from 7 to 5 is really indicative of the fact that we moved a little bit more long term.

And Gary a little bit of a bigger picture question.

I know at the beginning you had stated that you want to return capital back to the shareholders, but as you look at today and as the markets changed, how do you compare acquisition opportunities to share buyback?

And by that I mean are the prices for acquisitions and returns improving so that you have an opportunity to make more acquisitions over the next couple of years or at least over this fiscal year versus share buybacks?

That's about four questions rolled into one but I'll do my best.

First of all, historically, we were chasing large acquisitions, the third leg, fourth leg, fifth leg, which we were totally off of that approach today and we're looking more for smaller acquisitions like a Virtual Edge or an Employees or a BZ Results where we can leverage our large distribution channel and sell back into our very large client base of over 500,000 clients to drive organic revenue growth rather than acquired revenue growth, and we're going to remain on that track.

We have no intentions to change.

Probably the biggest challenge for us from an acquisition standpoint is not the price because we are willing to pay and I haven't seen any real delta in pricing over the last year, but we are willing to pay for the right kind of acquisitions, but I think the good news is is that we have a pretty complete product line at this point and we have large underpenetrated markets so we're just trying to drive the heck out of penetration and sale of those products and if we find new acquisitions that make sense to where we can leverage the distribution, then so be it, we'll do it.

Great.

Thank you very much.

Thanks.

Our next question comes from the line of James Kissane, with Bear Stearns.

Great.

Great job, guys.

Did you break out the U.S.

Employer Services sales growth?

I don't think I caught it.

No, we haven't done that and I think if you'll recall on the last earnings call, Jim, we talked about the fact that the lines are blurring with the global view product that we have, so it's difficult to be that precise, so going forward , we'll just do a worldwide

Can you give us a sense of the tone in the U.S.

on the sales side?

It's not materially different.

It's positive, Jim.

There's nothing there.

There's no need to roll over the rock.

Okay and just following up on the Pays percControl, any sense on intraquarter trends?

I know it bumps around a little bit but you're talking about 1.5% for the full year now.

I think we just think that's prudent to do based on the first quarter and based on what we're seeing in the market, so I think it's the right thing to do.

Okay, excellent and just update on progress for Global View implementations?

Implementation as a general statement remains on track.

There are a few bumps in the road, mostly caused by clients not being able to handle some of the implementations because when you're implementing in 10 or 20 countries, it's pretty much a burden on the client as well as a challenge for ADP.

Our sales results for the fourth quarter and the first quarter in Global View were on track and considerably over last year, so pretty much business as usual.

Thanks, Gary.

Our next question comes from the line of Adam Frisch with UBS.

Great.

Thanks and good morning.

Real nice job on the quarter.

Pretty strong across-the-board on execution but some naysayers might look at the Pays percControl, I know other guys in Q&A have touched on this, some of the naysayers might look at the Pays percControl and slightly a slower client fund as early indications of your business slowing.

So I have three questions on that front and Gary, I'll give them one at a time.

One, are these leading indicators of your business and if -- or are there lots of other things that go into it and if so, how far into the future could we see a possible slowdown in growth?

Well, we've seen a slight degradation in Pays percControl and the balances which we've shared with you.

I think if you were to be looking at the National Employment Report or the BLS reports, I don't think that's a whole lot different than the economy in general.

We just have a different slant or a weighted average across the industry group.

So I think our base is reflecting pretty much what's happened in the general economy and again, even if it goes to 1% rather than 1.5, you're talking about another 7 million or $8 million in revenues, so on an $8.5 billion enterprise, if we can't figure out a way to deal with that, then we have other challenges, so I'm pretty comfortable.

I mean, you never know what's going to happen but based on everything I know, I think we're in pretty good shape.

Do you still feel that the Street is always, how do I want to say this, the Street always kind of couple's the macro stuff that's going on with employment and wages and stuff like what we just talked about with some of the secular trends in payroll outsourcing, where some of the secular trends of either penetration is still relatively low or you have growth of new products, and all that kind of stuff, somewhat offsets some of the macro stuff that might be slowing a little bit?

Is there still somewhat of a misunderstanding there?

Do you think at the Street level?

Well, I think there's a couple things.

I think the Analyst community as a general statement is more concerned about interest rates fluctuation than I am.

Certainly, it's always better to have the wind at your back than the wind at your face, but ADP's been dealing with flowed income for 20 something years and with the exception of the time when we got all the way to 1% Fed funds rate and we had a collapse of the brokerage industry at the same time and slower employment, we've been able to deal with the vagaries of the Fed funds rate for a long period of time.

Obviously if Fed funds goes to 1% again it's not something that I would particularly look forward to but if we have normal kind of cycles here we'll be perfectly fine.

Okay, and then last question on this topic and then I'll move on.

If your top line did slow and I'm assuming that if it did, it would be some time in fiscal '09 given the way you guys normally conservatively give your guidance.

How much would margin suffer if at all or are there some plans in place where if your top line slowed, your profitability and EPS would not be impacted?

Well, first of all, just let's talk about the markets that we serve.

The core payroll business is growing 6 to 8%, just the market itself, and the Beyond Payroll is growing double digits in terms of the market, so we get lift because of the businesses that we're in and we're seeing no change in that plus the international car markets in terms of vehicle sales are going gangbusters which we're benefiting from and I don't expect China to stop growing in terms of new vehicle sales in the same way with Eastern Europe and some of the other growth opportunities for us.

So I think it's, we're in pretty good shape as it relates to those kind of issues.

We obviously don't give '09 forecast top or bottom but as we've shared with you previously, we have a lot of margin initiatives under way that will improve margins over time, so obviously, that's better if revenue growth is faster than it is if it's slower but it's still not going to change the impact that those margin initiatives are going to bear fruit in the future.

So whether we're growing 12% organically or 9 or 10, we're still going to get great margin contribution over the next couple three years.

That's great and that line of questioning was more so to look at the other side of the argument in terms of the bears, but I think we've pretty much covered that.

One last question, Pays percControl, you said every 1% decline is about $20 million in revenues.

Is it a disproportionately higher number for margins considering that incremental paycheck is a higher margin than the original?

Sure.

I mean, it would be, that margin is our highest margin across the enterprise, so it would certainly be more of a drag than a new global view sale in revenue to use that example.

Right, but how much, if it's $20 million in revenues what is it to operating margin?

We don't go there.

Okay.

But I would just clarify that generally, that metric, it's $15 million just purely based on a change of Pays percControl.

We say $20 million because generally, there are other implications of that participation in 401(k) plans, plans taken Beyond Payroll services, time and labor management so the $20 million is kind of an all in, all in with the other ramifications just to be clear on that.

Got it.

Thanks, guys, good job.

Our next question comes from the line of David Grossman with Thomas Weisel Partners.

Thanks.

Not to kind of beat this Pays percControl issue, Gary, but maybe if you just go back in time to kind of the '01 time period and I think during that period, the Pays percControl actually went negative, yet the payroll business actually grew maybe bottomed at about 2% growth.

So can you help us just maybe understand the dynamic between pricing, new sales and Pays percControl and retention and what combination of factors could allow you to sustain kind of this mid single to high single digit growth in payroll even if the economy does start slowing down here over the next 12 months or so?

If you go back in time to the '02 periods, we did see some slightly negative growth in the 1 to 2% kind of range.

We had a lot of period of time where we were flat.

The other thing that's really I think helpful here is that the continued improvement and retention is helping us a lot.

When you think about a 50 point or 50 basis point improvement in retention on 7 billion or $8 billion in recurring revenue, it's real money, so I would be much more pleased about an increase in retention than I would be worried about a 1 point drop in Pays percControl.

And the single busiest metric we have around our growth is new sale, and we're on our third year of consecutive double digit sales growth and it's paying off in terms of the organic business growth that we're seeing in both Dealer and in ES.

Just as a reminder to that point, the metric that we've given on retention is a 1% change in retention is worth about $50 million of revenue.

So is there any quick, I know you've given us some great rules of thumb here in terms of the individual metrics but in terms of combination of metrics if we do see continued degradation in Pays percControl, the new sales one obviously is a difficult one to kind of factor in here.

Is there anything you can help us with?

We can obviously offset the--?

Well, we talked about 1% is worth 15 million to $20 million in terms of revenue.

Our new sales, the annual value of our new sales is roughly $1.2 billion.

So continuing to grow new business at $1.2 billion plus is far more important than whether or not we lose 15 million to $20 million in further degradation in Pay percControl, so I mean I guess anything is possible if you went negative 5% growth it certainly wouldn't be a whole lot of fun, but again that's not something that keeps me up at night.

Okay, got it and just on the margin side, you talked about the data center consolidation.

You talked about telesales and the Smart Shoring, where are we in that effort if we will?

Are we at 50% through the effort?

Are we 75% or is there still, is this going to continue well into fiscal '09?

I'd say on the data center consolidation probably around halfway there, and it's harder to say that on Smart Shoring because it's almost continuous.

We've got a significant number of people in India are on an offshoring basis, we've opened up centers in El Paso and El Paso is pretty far along but we're now looking and we're expanding in Augusta that will ultimately get up to about the same size, 1,000 to 1,500 people, so I think that's a continuous effort as we look at the complexion of our employee base and as we grow, to grow in areas like El Paso and Augusta, or India.

Okay and just one last thing actually for you, Chris.

If I understood you correctly on the last call, you had some cash outside the U.S.

that if you could successfully repatriate it, you would apply that to incremental share repurchases.

Can you perhaps just give us an update on where we are on that?

Sure.

The best reference would be back to our 10-K, where we actually do talk about freeing up the APP 23 ruling on that which we basically took the income tax expense, we covered it with foreign tax losses, so that really wasn't very dramatic but in effect, that freed up a significant portion of the international cash and so when you look at our cash balances, other than basic working capital needs and some slight restricted cash that the rest of that is pretty much free cash, so we've made progress on that and it's now available.

Now, some of that will actually be repatriated.

The timing of the repatriation will occur by the end of this calendar year for about half of that and the balance into the second half of our fiscal year.

And can you aggregate or quantify that for us?

I don't want to pin ourselves down to a number but if you look at it from another angle, we're probably, the amount of cash that you would expect to see on the balance sheet on the near term could be as low as 1 billion from the 1.5 that it is today.

Great.

Thanks very much.

Our next question comes from the line of Liz Grausam with Goldman Sachs.

Great.

Thank you.

First, wanted to touch on the employer sales growth for the quarter at 11%.

This is over probably your toughest comparable in the first quarter of '07 where you posted 16% growth.

When you look at your forecast now, which obviously is baking in much more difficult macroeconomic conditions, do you think your new employer sales, Employer Services sales could come in stronger given the start you had at the year and is there a reason why you aren't increasing that expectation at this point in time?

Well, the performance in the first quarter is pretty consistent with our plan for the first quarter, for both Dealer and ES, and even the metrics that we see across the enterprise pretty much have them forecasting to continue to finish at a plan kind of level.

So we just didn't want to be too optimistic and try to raise that forecast, when that's really what the business units are telling us.

And then the PEO expectations were firmed up both in the revenue an the margin expectations.

Could you just discuss a little bit further what you're seeing in that market in particular that's giving you greater confidence right now?

Well, we had a very strong quarter, obviously in both revenue and margin.

We had a good sales results for the first quarter and we said double digits in all of our business units and the number of workside employees which was in the press release was also quite strong, and so in a full fiscal year, generally if you have a good first quarter you're going to have a good fiscal year.

If you have a bad first quarter it's obviously tougher to make up that ground in the service business, so we're feeling great about the results in the PEO.

Great.

And just lastly on the cash allocation, you've obviously been a material repurchaser of your stock.

You do tend to raise your dividend in mid November.

I know it's a Board decision but can you give us any color on the process of making that decision and looking at your dividend growth relative to your earnings growth rate at this point in time?

Again, as you pointed out, I can't speak for the Board, but I would be quite surprised if they didn't raise the dividend at least at the level of our EPS forecast or higher.

Great.

Thank you.

Our next question comes from the line of Charlie Murphy with Morgan Stanley.

Thanks.

Gary and Chris I was wondering if you could isolate for us the one or two key factors that led you to raise the Employer Services margin forecast for '08?

Well, I think the thing that was the most important is they had great margin performance in the first quarter, and just like my comments earlier, typically if you've got good margin performance in the first quarter, it should stay with you at least if not the whole year at least over a good part of the year.

So that would be the single biggest thing that would cause me to go there.

Okay, and Chris, could you tell us what the diluted shares outstanding were on September 30?

Sure.

Hold on one second.

Well, the average is in the press release.

The actual balance I don't have right here.

Obviously it will be in the 10-Q.

Okay.

We probably have that here, Charlie, just let us find it and we'll move on and we'll come back to that.

Thanks very much.

Our next question will come from the line of Gary Bisbee with Lehman Brothers.

Hi, good morning.

My congratulations on a great quarter.

Thank you, Gary.

I guess the first question, the retention continues to get better and I guess I'm wondering why.

Is this still a case of as you cross-sell more things the challenges the customer has to replace that if they leave is getting the barrier to exit is getting higher?

It's really three things, Gary.

One is I think our service levels are good and in some cases , they're great, and so clients if you do a good job for them tend to stay around a longer period of time.

Secondly, our sales bundles as well as our sales back into the base have never been better.

So in national accounts, when we sign up a new account, they sign up literally for two to three products and it usually includes hosting.

If you go to major accounts, it's a couple of products and the PEO is a whole host of products, so clearly, if you were to look at a client who was a payroll only client in major accounts and take that same group of clients that had payroll 401(k) and time and labor management, that retention rate would move up 3 or 4 percentage points because of the fact that they had multiple products.

On top of that, large clients stay with us longer than small clients.

Obviously, if you're Ikea and you're converting to ADP's payroll or global view product in 20 countries for 80,000 employees, it's highly unusual unless you have a major problem for that client not to stay around for 10 to 15 years, so we are having great success with COS, Global View and then our high end of the marketplace.

So the blended average will automatically get a lift to the extent that we're able to grow those businesses even faster than our traditional

So if we assume that we continue to have a somewhat weaker employment market in the U.S.

and historically I think at the small customer end that would lead to more companies going out of business and hurting retention.

Do you think that you can still have retention gains or at least, I guess in worse case keep it flat year-over-year even if you have a little weaker environment at the low end?

I don't remember exactly but I think even in 2001 and 2002 and when we went into 2003, we didn't see any real declines in our retention.

It is harder to improve it, to your earlier point, but we really didn't see any material degradation in retention.

Okay, and then the second question on the PEO margin obviously really strong year-over-year.

Were there any one time gains there or issues around the workers comp?

Or is that just continued improvements of scale?

It has nothing to do with workers comp.

It was primarily just an easy compare to the prior first quarter.

Okay, and then lastly, do you have on hand what cash flow from operations and CapEx were in the quarter?

I think CapEx was around 30 million to 35 million.

We were a little behind our internal plan so I think we're still forecasting in the 175 to 200 kind of range.

Cash flow from operations was a little over 275.

Great.

Thanks a lot.

Just to be clear on the question that Charlie had asked, at 526 million shares outstanding at 9/30, about 7 million of dilution so it's about 533 to 534 diluted shares at September 30.

Our next question comes from the line of Mark Marcon with Baird.

Good morning and I'd like to add my congratulations to a strong quarter.

Thanks, Mark.

With regards to looking at Employer Services, you had internal growth in ES of 9% and I'm wondering, can you break that down in terms of looking at Beyond Payroll relative to core, and can you remind us what that split is between the two?

The revenue split I think is about 60/40.

Is that worldwide or U.S?

That's more I think U.S.

if I were guessing.

It's all U.S.

It's actually since we've pulled the PEO out of that mix now , the payroll, payroll tax actually is up.

It's closer to 68, 65, 66, 68% with 32% of that in Beyond Payroll now and that's of the U.S.

Okay, thank you.

And then--?

And that grew 18% this quarter, Mark.

And how much of that was internal in terms of Beyond?

We don't actually publish that.

It's not something we track as much.

In the Beyond Payroll almost by definition, it's all internal because if you didn't have TLM before, well it's internal growth in the sense that it's a new product to an existing client, so it is internal growth.

I meant if we were stripping out like Virtual Edge and Employees and things of that nature, just to get a sense for how it's, what the organic growth rates are as opposed to how much is being contributed by acquisitions.

Well, those acquisitions are growing like gangbusters, Mark.

Employees in Virtual Edge will literally almost double in a 12 month period of time.

And that's because of the cross-selling, right?

What?

And that's because of the cross-selling that you've got?

Yes, but again, it's organic.

If you got 20 million today and we double it to 40 million, that incremental 20 counts as organic growth.

Got it.

That makes sense.

And then with regards to the margin improvement, just trying to get to this again.

I mean, how much of it is a price increase in terms of across-the-board?

How much of it is the onshoring, near shoring, Smart Sourcing, and how much of it is just the improvement in terms of areas like COS, Global View, where you've been making investments and the real reason for the question is ultimately, what does this portend for future margin expansion as we look out over the next two to three years?

Because it seems to me like you're still at the relatively early stages in terms of optimizing.

Yes, a couple of things.

You started with price increases, I don't think that's where you want to go because price increases are about the same as they were last year, so that's not contributing to the margin improvement.

And really, we don't break out the improvements in margin by the items that we said because it's almost impossible to tell.

You see it in your results and you know it's being driven by these initiatives but the lines blur.

We have in the past when we made the investments we needed to make in our salesforce and in some of our new businesses in COS in Global View, we paid that price last year and the year before in terms of margin suppression as well as some of the acquisitions that we did.

All those things as you said, you're beginning to get some leverage out of those acquisitions so it's all of those things combined that yield the improvements in the margins.

You can't really point to any one of the items and it's impossible to break them down any further.

How far along are we?

I mean we're obviously looking at this year but we're also looking beyond, and so I guess what I'm trying to ascertain is to what degree could we count on continued margin improvement in ES based on continued maturation of COS and Global View combined with all of the cost savings initiatives that you've got in place?

Mark, I think the way to think about it, you have to park acquisitions to the side, but assuming no acquisitions, and if we can maintain anywhere close to double digit revenue growth, I would be very disappointed if we didn't grow at least 0.5 a point of margin a year.

Great.

And then finally, just where do you think, you gave some great color with regards to your rate assumptions.

Where does that take you in terms of where you think the effective yield would be at the very end of the year and the last quarter of the year and where do you think if rates don't change above and beyond what you've already described, the effective yield would be for next year?

We have not gone to that level of detail and I'm not sure if we did we would feel comfortable sharing that at this point.

I think there's so much up in the air round what the Fed is going to do, we did try to give you some color by looking at full year of FY '08 if everything was at 4% in terms of Fed funds rates, that would also imply medium intermediate term rates around 4.5 or 4.6 which is kind of where the yield curve is today.

So we did try to give you our best guess on what would happen if that had been in effect for the entire year and then I think you just kind of have to make your own assumptions and go from there.

Yes, Mark.

Think about it when we talked about where we thought the full year would be a little bit under the 4.5% and the first quarter was about 4.6%, so to average out which is a little under 4.5, the fourth quarter would have to be then below the 4.5.

Not significantly below but it would go a bit below that.

One point to remember is that as our investments mature, the embedded rates are around 4.15 and the new purchase rates that we see are around 4.4 as well.

Terrific.

Thank you.

Not that dramatic exiting this year.

Thank you.

Very helpful.

Our next question comes from the line of Greg Smith with Merrill Lynch.

Yes, hi, guys.

Hi, Greg.

What's your tax rate expectation for the full year?

It was a little bit lower than we thought and I think international is driving that if I'm correct?

Yes.

Well, some of it's international.

Some of it is the impact of our data center consolidation efforts so we get some state tax benefits as well.

I'd probably go back and say that on a reported basis, 2007 was 37.1 when you adjust for spin expenses and brokerage or whatever, you really put that at a 36.8 level on an apples-to-apples basis.

This year is 36.6, but that's somewhat misleading as well because of FIN 48, you now take the interest expense on tax liabilities and charge that to the tax line, so adjusting for that on an apples-to-apples basis, our effective tax rate would be 35.9 and the difference between the 36.8 and the 35.9 or just about 100 basis points is really coming from the data center consolidation efforts.

A decrease in some of the foreign income tax rates stay in Germany and UK as well as the optimization of some foreign NOL's.

So bottom line, moving in the right direction.

Okay, great.

And then just in Dealer, we need things to, the growth rate to pick up a little bit as we move through the year.

I guess the question is how much, do you -- how good is your visibility right now in Dealer and what is the sensitivity just to overall U.S.

auto sales at this point?

Two questions there.

First of all, our visibility at Dealer is pretty good because typically, the average time to install at Dealer is five to six months so we're sitting here at the end of September and we have our backlog in place today, plus we have a pretty good view of our forecast for sales for the second quarter so I think our confidence level in Dealer in terms of the full year forecast is pretty high.

And the second part of your question was?

Well, just the sensitivity to U.S.

auto sales for that business overall.

I mean, in general, there is obviously some sensitivity but U.S.

auto sales have been kind of at a low ebb now for going on the second year and we had a great sales year last year.

We've started off strong in the first quarter.

Obviously, it's a little easier if auto sales are up, but auto sales in Europe and in the Far East are going gangbusters so for what little drag we might have in the U.S.

which we've seen for two years, we're more than making up for it on the international scene.

Okay, great.

Thanks a lot.

Our next question comes from the line of Michael Baker with Raymond James.

Yes, thank you.

As the Company emerged out of the last downturn, Art Weinbach indicated that the most meaningful lesson was to actually invest more in the business and leverage the platform and it seems like that's a view that you share.

I was wondering if you could update us on your sales headcount growth expectations and also what kind of benefit you're seeing in terms of new sales from your channel strategy, using CPA's, et cetera?

A couple things.

One is I degree with Art's assessment.

I think the error that we made last time was thinking we could save ourself through a year to 18 month period of the downturn.

Obviously the downturn lasted more like two to three years than 12 to 18 months and so I think we had some hindsight there that said we might have done things a little bit differently.

Today based on where we are, I'm continuing to invest in growing the business because I'm really managing ADP for the five year view, not just for the next year view, and if you're not bringing new products to the marketplace and growing your distribution, you ultimately will get in trouble.

This year, we're going to add about 4 or 5% in terms of headcount growth in our traditional salesforce and that would be true across-the-board.

We're adding a good bit more headcount there in telesales, I think we're up more like 40 or 50% in telesales headcount but you're talking hundreds of people, not thousands of people, and we're also focusing on getting better productivity from these ones that we hired over the last couple three years where we were hiring more in the 8 to 10% in terms of headcount.

So pretty much business as usual, as you can see in COS, we're getting, we've gone through the point where we're now profitable in our COS business.

It's approaching 140 million to $150 million run rate business and the same thing will happen with Global View but it won't happen until '09 which will help us on the margin side as well.

And I was just wondering if you could comment on the benefit that you're seeing from the channel like using CPA's as referrals or banks?

We're continuing to see good improvement in CPA sales.

I think we're pretty excited about a new product that we've launched that's directed at allowing CPA's to wholesale our products.

The new Internet platform that we have is built off of the Microsoft small business accounting platform that we have but it basically allows a CPA to remarket or wholesale ADP services directly to their client base and then we are the second line of service as opposed to the first line of service.

So, we've gotten real good initial reception from that product launch and we're optimistic that it will pay some good rewards in the year ahead.

Thanks for the update.

We have time for one final question.

That comes from the line of Tien-tsin Huang with JPMorgan.

Good morning.

Thanks for all of the disclosure and taking a conservative view on rates in your forecast.

I just had a couple follow-up questions.

First on Employer Services, client fund balanced growth I think you've revised down a bit.

Are you seeing impact from higher client penetration in addition to the macro issues you talked about like wage inflation and lower bonuses, et cetera?

I'm not sure I follow your question, Tien-tsin.

Well, I'm thinking with direct deposit, 401 (k) and the penetration rates creeping higher, wondering if you're starting to see more of a normalization of growth in client fund balance?

Most of the client fund balance is driven through direct deposits, new clients, and tax money movement and also, the ADP check, where we get four to five days worth of float on that instrument.

Roughly in the mid and small end of the market, 85, 90% of our clients sign up for those kind of services when we sell the payroll and we're not seeing any material difference there.

And up market, it's more like 50% of the clients use it because the client is more float sensitive, although we do do a lot of standalone tax in that market but again, I think from your viewpoint, nothing materially different than what you've seen for the last year or two.

Okay, and maybe if I just ask it a different way, what's your long term view, Gary, on client fund balance growth absent any major macro changes?

High single digits.

Okay.

Because we typically add 5 to 8% new payroll tax revenue in terms of adding new clients and typically clients give 4% to 5% merit increases, somewhere between 3 and 5, so you add the two together along with some of the other additional float products that we sell and you get pretty much to that high single digits.

Okay, got it.

Thanks.

And then in Dealer, any change in the U.S.

DMS market because we covered Dealer Track and it seems like they've had some early success since they've bought Arcona.

Do you see any changes from that end or from UCS?

Well, we're doing very well in the marketplace against rentals and UCS.

We don't get to a lot of detail in sharing competitive unhooks by different competitors but we're doing very well there.

Our loss rate to Arcona today is no different than it's been a year ago, so I think surely, Dealer Track buying them gives them some more financial stability, but the Company and the product and the service levels and the breadth of the product that they have hasn't materially changed and so I think all things else being equal the Dealers are still quite happy to be an ADP client.

Good to know.

Thanks a lot.

With that, I don't think we have any more other calls in the queue, so we appreciate you being with us today and we're very pleased with our quarter and continue to be optimistic for a very strong forecast for '08.

Thanks for being with us.

Thank you.

This concludes todays Automatic Data Processing Incorporated first quarter fiscal 2008 earnings conference call.

Thank you for participating.

You may now disconnect.