Insperity Inc (NSP) 2004 Q2 法說會逐字稿

Good day ladies and gentlemen, and welcome to the Administaff second quarter 2004 earnings conference call. My name is Carlo and I will be your coordinator for today. At this time all participants are in a listen-only mode and we will be facilitating a question and answer session towards the end of this conference call. If at any time you require assistance please feel free to press star followed by zero and a coordinator will be happy to assist you.

I would like to remind you that any statements made by Mr. Sarvadi, Mr. Rawson, or Mr. Sharp, that are not historical facts are considered to be forward-looking statements within the meaning of the Federal Securities laws. Words such as expects, intends, believes, estimates, likely,goal, assume, and similar expressions are used to identify such forward-looking statements and involve a number of risks and uncertainties that have been described in detail in Administaff's filings with the SEC. These risks and uncertainties may cause actual results to differ materially from those stated in such forward-looking statements. Your presenters for today are Mr. Doug Sharp, Chief Financial Officer, Mr. Rawson, president and Mr. Sarvadi, Chairman and Chief Executive Officer.

Mr. Sharp, you may begin.

Thank you. We appreciate you joining us today. Let me outline our plan for this mornings call. First I'm going to discuss our second quarter financial results. Paul will add his comments about the quarter and on our outlook for the remainder of 2004, then Richard will discuss trends in our direct costs including benefits, Workers' Compensation and payroll taxes and the impact of such trends on our pricing. I will return to provide financial guidance for the remainder of 2004. We will ends the call with the questions and answer session.

Now let me begin my summarizing the financial highlights from the quarter. For the quarter we met or exceeded our expected ranges for each of our key metrics. Year-over-year unit growth turned positive for the first time in over a year, reaching 3% in the second quarter of 2004. Revenue per work site employee per month increased 3% or $32 over Q2 of 2003, 1,005 per work site employee per month for the quarter. When combined with unit growth total revenue increased 6%. This increase in revenue when combined with benefit costs coming in at expected levels Workers' Compensation costs trending in line with favorable claims experience and a credit in state unemployment taxes resulting from a settlement agreement with the state of California related to do a fourth quarter 2003, assessment, resulted in gross profit for work site employee per month of $210.

Operating expenses for the second quarter were 44 million, resulting in operating income of 4.5 million, compared to 2.7 million in the second quarter, 2003. We reported second quarter earnings of 2.8 million or ten cents per share compared to net income of continuing operations of 1.9 million or seven cents per share for the second quarter of 2003. We ended the quarter with $58 million in working capital, $8.2 million of proceeds from our settlement of the Aetna lawsuit had been offset by share repurchases during the first half of the year.

Now let's review some of the details of our second quarter results. The average number of paid work site employees per month increased 3.2% over the first quarter of 2004, from 74,792, to 77,209, within our expected range. Paul will provide further details regarding our unit growth drivers including sales, client attrition, and net growth within the existing client base in a few minutes.

First quarter revenues increased 6% over Q2 of 2003 to 233 million as a result of a 3% increase in the average paid work site employees and a 3% increase in revenue per work site employee per month to 1,005 for the quarter. The Q2 revenue per work site employee declined sequentially from $1,123 in Q1 of this year; consistent with the revenue pattern resulting from the impact of our new billing system. But substantially all of our base was on our new billing system in January of 2004 compared to only 20% in January, 2003. As a reminder the new billing system accelerates invoicing of the payroll tax allocation in our fee to correspond to the higher payroll tax cost earlier in the year while the older invoice system component ratably over the year.

Looking at second quarter revenue growth by region the northeast region which represents 13% of our total revenue grew by 9%. The central region, which represents 14% of total revenue, grew by 6%. The west region, which represents 23% of total revenue grew by 13%. The southwest region, which represents 40% of total revenue, grew by 5%. And the southeast region, which represents 10% of total revenue declined by 8% due to the attrition of a few large clients which were not offset by new sales. We averaged 232 trained sales reps for the second quarter which is relatively flat compared to the first quarter of 2004. Turnover in sales reps had declined to 33% on a rolling twelve-month basis. This compares to a peak of 47% a year ago, a peak.

Now moving to gross profits, gross profit for work site employee per month increased from $208 in Q2 of 2003 to $210 in the second quarter of 2004, and included the following: Payroll taxes including FICA, [inaudible], and state unemployment taxes as a percent percentage of total payroll cost increased 7.36% in Q2 of 2003, to 7.41% in Q2, 2004. Results for the second quarter of 2004 include a $2.3 million, or .23% of total payroll cost, reduction in our estimate of unemployment tax costs associated with the fourth quarter, 2003, assessment from the state of California. As we have previously mentioned we have been negotiating a settlement with the employment development department of the state of California; which we expected to resolve this year. In June, 2004, we agreed to a reduction from the initial assessment of 5.6 million to 3.3 million. Although this settlement is subject to final approval by the California Attorney General's Office and an administrative law judge of the California unemployment insurance appeals board we expect their approval at the settlement amount of 3.3 million and have revised our estimate of the related liability. As expected benefit costs per covered employee per month increased 5.8% over Q2 of the prior year, to $568 for the quarter. Approximately 70% of the work site employee base was covered by our medical plans during the second quarter resulting in a cost of $399 on a per work site employee per month basis.

Workers' Compensation costs were 1.34% of nonbonus payroll for the quarter and reflect the results of favorable claims experience as mentioned by Richard in last quarters conference call. He will provide further details regarding our claim experience and expected trends in a few minutes. Workers' Compensation costs for Q2 of 2003, were 1.67% of nonbonus payroll and included a charge of 2.5 million, or .28% of nonbonus payroll related to the right off of a Workers' Compensation dividend earned on the prior policy due to the deterioration in the financial condition of our former insurance carrier, Kemper.

Another factor that has always affected our gross profit is the work site employee turnover which results from a combination of work site employed added from new clients, client attrition and a normal employee turnover within the existing client base. This turnover affects the number of days a work site employee is paid during a quarter and therefore impacts the margin earned on that employee. During the second quarter we experienced greater than expected work site employee turnover, primarily due to the termination of several large accounts and a more active labor market.

Now let's talk about operating expenses. Operating expenses totaled 44 million for the quarter at the high-end of our expected range. However holding operating expenses flat from Q2 of last year resulted in a decline in operating expenses for work site employee per month from $196 in Q2 of 2003 to $190 this quarter. Also remember that second quarter operating expenses include costs associated with our sales and client conferences and the incentive sales trends. As for the details compensation costs increased by 480,000, or 2% over Q2 of 2003. Depreciation and amortization costs declined by approximately 739,000 as the effects of certain fixed assets becoming fully amortized more than offset depreciation resulting from this and last year's reduced capital expenditures.

General and administrative costs declined by approximately 804,000, due primarily to Aetna related legal fees incurred in the second quarter of last year. Commission costs have increased slightly consistent with the increase in work site employees and advertising costs increased by approximately 912,000, over Q2, 2003. However, year-to-date costs are only 411,000 over the first half of 2003. This increase is consistent with our goal of establishing growth momentum. As for interest income in the second quarter of 2004, we expected, we reported net interest income of approximately 126,000, compared to net interest expense of 289,000 in Q2, 2003, due primarily to increased cash balances including cash held in our Workers' Compensation program.

Now I'd like to make some comments on our BS. Total assets were 349 million, including current assets of 220 million. Prepaid insurance and other current assets totaled 13.2 million including 8.1 million funded to United Healthcare, which represents accumulative funding in excess of actual costs since inception of the plan over two years ago. Additionally the Texas unemployment tax credit received last year which had a balance of 5.1 million at December 31, 2003, was fully applied to state unemployment tax liabilities during the first six months of 2004. Capital expenditures during the first half of the year totalled 2.7 million, which included 530,000 in capitalized software development costs. This run rate is significantly down from prior years when that we were investing heavily in our facility and technology infrastructure. Deposits of 57 million consist primarily of 38 million related to our Workers' Compensation program, which includes 26 million set aside for expected future claims, and $12.5 million in collateral. Additionally we currently have a $17.5 million deposit balance with the United Healthcare related to our medical plan. Working capital increased by 2 million since December 31 of 2003, to 58 million included the $8.25 million settlement with Aetna which has been off set by share repurchases of 8.3 million.

Now I'd like turn the call over to Paul.

Thank you, Doug.

Today I will focus my comments on the progress we are making in our sales and marketing efforts that I believe will lead to achieving our stated goals of double-digit unit growth by the ends of the year. I will also cover product developments that continue to increase the value of our product proposition and our competitive position. I'll end my comments some some preliminary thoughts on how thing are shaping up for 2005.

In the recent quarter we began our unit growth acceleration achieving year over year unit growth of 2.8% and sequential growth of 3.2%. This was accomplished by achieving the low end of our expected of 700 to 1,000 work site employees. Let's look at each of the drivers to growth, sales, client retention and the net effect of new hires and layoffs in the client base. In the sales area we are focused on both volume and pricing priorities. Our business model and strategy as a premium service provider to a highly targeted market comprised of the best small businesses in America requires both effective client selection and appropriate pricing in order to deliver on our promise to clients. This year we made progress in both volume and price. Year-to-date sales are slightly ahead of budget although the first quarter was 27% over budget and the second quarter 18% under budget. This is largely due to the residual effect of a successful Fall campaign benefiting the first quarter, and the necessary refilling of the pipeline a balanced focused on pricing is part of the equation in the second quarter.

Also in the second quarter the total number of sales opportunities in first calls and bids on potential clients was below our standard and not at satisfactory levels. However, evidence of acceleration and improvement is clear in looking at each month of the quarter. First calls, total census and total employees sold all trended up from April to June. Additionally our salesperson turnover rate has continued to trends down, reaching 33% for Q2. Our efforts to develop leads to sales staff through our marketing of advertising was also a bright spot and bodes well for the future. Over the first half of the year we increased the census coming from our marketing programs from 1.1 to 1.9 per salesperson per month. This is a result of improvements in our targeting and an increase in advertising spend.

Pricing was also a positive in the quarter. Now when I discussed pricing in the context of our sales effort I'm referring to the mark up within our comprehensive service fee above the allocation to cover our district cost of payroll tax, Workers' Compensation and employee benefits. Richard will address those allocations in a few minutes. In May we reintroduced a focus on pricing in the sales organization through an improvement to the residual commission component of the sales compensation plan. As you may be aware our sales staff received a base salary designed to be enough to survive but not enough to really enjoy life. They also received an enrollment bonus to experience the thrill of the kill when they bring in the new account and the final component of their compensation is a residual income stream equal to a small percent of the service fee mark up included in pricing to the client. They receive a smaller percentage for accounts sold at a lower mark up an higher percentage for a higher mark up. Until May we only had three tiers with a $30 per work site employee gap between the levels in this commission scale and as you might expect pricing was clustered around these levels. We introduced new levels between and above the highest tier at 10-dollar increments to reward efforts to price appropriately and to reflect the sensitivity of our business model is every dollar of additional mark up built into an account.

Although this modified commission schedule was only in place for half the quarter we saw immediate results within the quarter as new accounts sold in Q2 included an average 7% increase in the service fee component over new accounts sold in Q1. This commission schedule also applies to current clients when they are renewed at a higher tier. Renewals processed in this quarter included an average increase of 5.6% in the service fee. I reported last quarter we had seen a 3% decline in our service fee component of our pricing on the client base as a whole. In the second quarter our pricing emphasis caused a decline in bottom out in May and tick up in June. We are current in a period of modest increases in the direct cost components so I believe we can continue to recover our service fee mark up throughout the fall on new and renewing accounts. I expect the full effect of this new incentive to add more to gross profit as the year progresses and regain a significant portion of the previous decline by year end.

Our client attrition for the quarter was slightly higher than expected averaging 1.9% of the client base each month. Although this number is much improved over last year our target for this metric is 1.5% and we need to continue to improve in this area. The third factor that affects our growth is the net effect of new hires and layoffs in the client base. We are continuing to see momentum building in the labor market as a whole. With the exception of May which was a surprise down month, new hires have exceeded lay offs every month this year. We are capitalizing on the rebound in the labor market through the implementation of a systemic improvement in our recruiting support we provide our client. Earlier this year we completed and implemented the Administaff talent network which integrated nine different systems used in the recruiting process into one dashboard and activity management system. The net effect of this one of a kind Web-based application is the acceleration have been greater visibility into the process of recruiting from the job description development to sourcing and matching candidates to backgrounds checking and selection. Our recruiters contributed to this net client growth placing over 1,000 employees this quarter.

In summary, for the second quarter sales and retention showed improvement but not up to acceptable levels from my point of view. Any net gain from internal growth in our client base should put us near the high-end or over our expected range for paid work site employees which was not the case in Q2. I expect better execution in the third and fourth quarters in sales and retention based upon the improving trends from April to June. I also expect to continue to achieve an average 700 to 1,000 net gain in work site employees paid for the balance of the year. We are accelerating our unit growth rate and we are on track to reach double-digit unit growth by year end. I would also like to discuss today improvements in our product proposition that make Administaff an even better fit for our target small to medium-size business client. We are announcing today the availability of health savings accounts for our client base beginning on January 1, 2005. Health savings accounts were created late last year as part of the Medicare bill to allow individuals to set aside pretax dollars for future healthcare expenses. Ever year the money not spent would stay in the account and gain interest tax-free just like an IRA. Unused amounts remain available for late years unlike amounts in flexible spending arrangements that are forfeited if not used by the end of the year. Funds distributed from health savings accounts are not tax have had they are used to pay qualified medical expenses.

Now this consumer driven approach to healthcare is very attractive for our target market and for Administaff. Individuals become more astute consumers of healthcare services as they literally pay for medical expenses from their own account and see their asset grow as a benefit of their healthy life styles and healthcare spending decisions. These accounts are clearly more attractive to high income individuals consistent with our client base. These accounts will also save clients and Administaff on payroll taxes as well as because employer contributions are not subject to FICA taxes. I believe this approach will be an excellent new option for our clients and employees to add to our newly expanded retirement services offering. Our service offering continues to improve for our premium service buyer and widen the competitive advantage we have with our target market.

I'd like to finish my comments today with some preliminary thoughts about how 2005 is shaping up for Administaff. Although we will not be provided specific guidance for 2005 for quite sometime we have a plan and goals for the balance of the year that will position the company for a strong 2005. Our plan for the last half of the year is to continue the growth acceleration we've started through an aggressive sales and marketing campaign which I will detail for you next quarter. We also expect to gradually regain the slight margin decline experienced over the last year of $5 per work site employee per month due to the new residual commission schedule I discussed. Another part of our plan is to begin to add sales staff slowly throughout the balance of the year as sales eave efficiency and momentum billed. We plan to hold operating expenses and capital spending down to allow the growth to drive down operating expense per work site employee. The other critical part of the picture is matching the pricing allocations and the cost for our direct costs including payroll taxes, employee benefits and Workers' Compensation, which as will you hear from Richard, are all in good shape. Achieving these objectives will put us in a position for a strong earnings growth next year and at this point I would like to pass the call on to Richard.

Thank you, Paul.

Today I would like to update you on the status of our pricing strategy as it relates to matching the allocations to our direct costs for the balance of 2004. In the area of employer related payroll taxes I previously reported that barring any retroactive charges our allocations should exceed our costs in this particular cost center. Not only have we not had any retroactive charges but as Doug mentioned earlier, we now have an agreement related to the California unemployment tax issue that we had expected this year. As you know, employer related payroll taxes are higher earlier in the year and decline later in the year. Our allocation reflects this pattern so now with half the year behind us we continue to expect to have a surplus in this cost center.

Our healthcare costs have continued to trend upward as expected. These costs are up 4.7% over the first half of 2003 and 3.1% over last quarter, resulting in an increase to the deficit in this particular cost center. Last quarter we announced that effective June 1st we would once again begin raising our allocations on a quarterly basis. Those increases were 2% for the PPO and 2 to 3% increases for the HMOs. Today we are announcing the next quarterly increase in our allocations for both the PPO and the HMOs. We are increasing the PPO allocation another 2% and the HMO allocations 2 to 4% depending upon what state the customer is in.

This means that the cumulative allocation increases for all renewing business this fall within would then average 8 to 14% which should be easily accepted by our customers and match the market trends. We are not making any planned design changes for 2005 other than the introduction of the new high deductible health plan offered in conjunction with healthcare savings accounts, or H. S. A's. This will give our client owners and work site employees an opportunity to evaluate the advantages of an H.S. A. compared to their existing health plan benefits. Since this new option carries with it a lower premium we should also see some moderate reduction in our costs in 2005 as employs select this option.

Our last major cost center to discuss today is our Workers' Compensation insurance program. Last quarter I indicated that if our claim loss experience continued to be better than the prior year our outside actuaries would recommend that we lower our claims loss estimates. Since policy inception last September we have experienced more than a 5% decline in the number of reported claims compared to the previous policy period. Additionally we've had almost a 2% decrease in the average incurred claim amount. Therefore, the improved claim loss experience has been reflected in the current quarter results. Now this improved claims loss experienced is also benefiting us in the renewal process for our Workers' Compensation program for the next policy year. We have almost completed the negotiation of that program beginning in September of 2004. I am also pleased to report that we expect to see a reduction in both the expected losses and the administrative costs components of that program. The combined effect should produce a total cost of 1.38% to 1.42% of nonbonus payroll beginning in the fourth quarter of this year. Bottom line is that our price allocations should exceed our cost for 2004 in this area.

Now in summary, we continue to be pleased with the results of our pricing strategy and the team of dedicated people that work in this area of the organization. At this point in the year considering all that we know we believe that all of our allocations, all of our pricing allocations should closely match the increases in our direct costs for the balance of the year. At this point I'd like to turn the call back over to Doug.

Thanks, Richard.

Now let's discuss guidance for the remainder of 2004 beginning with our full year guidance. As Paul mentioned a few moments ago we continue to expect a net monthly increase of 700 to 1,000 paid work site employees for the remainder of 2004, with exception of December which generally convert into paid work site employees in January of the following year. When added to our results for the first half of the year the average paid work site employees are expected to be in a range of 78,000, to 78,500 for the full year. As for gross profit per work site employee per month based upon our reported results for the first half of the year and our expectations for remainder of 2004, we expect to be in a range of $208 to $210 for the full year; with a a midpoint consistent with a range of $206 to $212 provided in our previous guidance. The previous quarter's conference call we forecasted our full year operating expenses in a range of 170.5 million to 174.5 million. We now expect to be closer to the high-end of this range and have therefore revised our estimated range to 173 million, to 175 million. This increase is primarily the result of our efforts to ramp up growth for 2005. Additionally we assume diluted weighted-average shares outstanding of 27.2 million for the full year.

Now let's discuss our guidance for each of the remaining quarters. First of all, gross profit trends for Q3 and Q4 of this year will not be comparable to the third quarters, third and fourth quarters of 2003 due to the impact of the new billing system, which I mentioned during my discussions with Q2 results. As for the average paid work site employees per month assuming the net monthly unit growth just mentioned in the second quarter average paid work site employees as a starting point, we expect to be in a range of 79,000 to 80,000 for the third quarter, and 81,000 to 82,000 for the fourth quarter. We expect the gross profit per work site employee per month to be in a range of $196 to $200 for the third quarter and $204 to $208 for the fourth quarter. This increase from Q3 to Q4 is primarily due to the effect of new business on our gross profit. Our new business, the payroll tax allocation and our fee is billed ratably over the year while the payroll tax cost is incurred as employees earn their wages up to specified wage levels. As we would expect such wage levels to be met by the fourth quarter for the majority of new business added in prior quarters, fourth quarter gross profit per work site employee would reflect this factor and increase over the third quarter.

These third and fourth quarter expected ranges also factor into potential for work site employee turnover consistent with that experienced during the second quarter as I mentioned earlier. We expect operating expenses to be in a range of 42.5 million to 43.5 million for the third quarter, and 43.5 million to 44.5 million for the fourth quarter. This fourth quarter increase is primarily attributable to increased sales and marketing efforts surrounding our fall sales campaign. Additionally we assume diluted weighted-average shares outstand to go 26.8 million in both the third and the fourth quarters. This is down from the Q2 reported diluted weighted-average shares outstanding of 27.3 million, primarily due to our ongoing share repurchase program.

Now I'd look like to open the call for questions.

Thanks you sir. [Caller instructions]. Your first question is from Joshua Rosen from CSFB.

It's Josh and Jeremy with CSFB. Real quick, we'd love to hear a little bit more color. You talked about losing a few largest customers in the southeast region and attrition levels still be a little bit higher than you like. This hit you in February as well, as far as the client reasons behind this relative to competition in those markets, is it product? Just a little more color on that front.

Sure, glad to. Actually there were three large accounts recent that will have left as a kind of a combination of thing. One of them, their company sold to a larger company. So that's, we've talked about that before, kind of the success penalty if you will with when a company grows and does well and then ends up being purchased by another company. Another company left us basically took the service back in house. It didn't go to what we would traditionally call competition but went to what we internally believe is competition which is the traditional method of handling these kind of services in house.

So those were the two main ones. But I do view this as our improvement in this area I think has to come from not only retaining larger accounts in a more effective manner but also having a good pipeline of larger accounts. Because you've got to be able to have those in the pipeline to replace those because some are going to leave for selling the business reasons or whatever. We also had an account recently that we terminated based on compliance issues related to propensity to have employment litigation claims. And we worked with the customer to try to make the corrective action that is it takes to prevent those types of occurrences and we didn't get the kind of cooperation that's necessary. And so we are always going to make that decision and let that kind of client go.

Okay. Just following up with an update on the status of the relationship with United, how that's progressing, anything along those lines, Richard, would be helpful.

Sure. I can tell you that I think we have established a very good relationship with United Healthcare. They certainly are a quality organization. We have in terms of how we work with them month in and month out, it's going extremely well. Our plan is of the size at this point that it's got a lot of predictability to it. We continue to monitor all of the aspects of the relationship. And we are talking about things for 2005 right now for our renewal right now. It's just a good relationship. They've continued to, it looks like they are going to expand their marketplace by acquiring Oxford Group out of the northeast which we believe will be absolutely a help to us in the northeast marketplace. And so we are happy about that.

They've also worked closely with us on putting together a program for the health savings accounts and the high deductible plan that goes along with us so thing are in good shape there.

Okay. Great. Thanks for the update.

Next question comes from to be some with, Tobey Sommer with SunTrust Robinson Humphrey.

Could you give us more color regarding the sales force and talk about perhaps the type of people that you may be seeing some turnover in and speak to any other patterns that you can see in terms of geography or anything such like that?

Okay. Let me just remind everyone that our sales force sells a value-added service to a premium service buyer at an investment for the customer to come on our service, not a safe you money approach. So if you look at our sales staff you will find the average age is over 40 years old. You'll find a lot of folks come from the backgrounds of either owning their own business or working in the financial arena. These are folks who have to be able to speak and communicate very effectively with owners of businesses. So it is a professional sales force. Now the good news is we've really had a reduction in our turnover rate. It was as high I believe as 47% about a year ago when we were going through a lot of the challenges related to pricing and so forth. But as this point now it's metered back down to a level that is kind of at the high-end of what I call our acceptable range at 33%. And so we are doing well there at this point. I'm pleased with the turnover rate. What I mentioned in my dialogue that I have not been pleased with here with in the second quarter was just an overall activity level of number of first calls and number of census per rep. Those numbers have to go up. The company is doing an effective job on increasing the amount of opportunities that come from our marketing and investment we are making in advertising. But we've got to have more opportunities and we need people out there creating those opportunities. So that's been our focus over the course of the second quarter. I saw a lot of things moving in the right direction by the end of the quarter. So I will make those things continue through the balance of the year.

In terms of the albeit reduced turnover rate that you currently have down from the peak last year, does it primarily consist of new people that maybe rolling on to greater on the incentive comp, and just sort of curious as the productivity that you are seeing in terms of first calls, is there maybe a core legacy group of salespeople that are still reaching their productivity levels? Is it the new people that are perhaps trailing a little bit or?

Well, it's always the reality that your turnover is going to be higher with your newer folks in our business. We have a very definitive path for a salesperson over the course of their first 12 months and what they are supposed to be able to do and perform at and then also 12 to 18 months is the critical point where someone really has to come up to an acceptable level of sales efficiency. And then if you look at our seasoned staff that have been with us more than 18 months you'll finds quite a bit of stability in that group. You lose one every now and then but it's not that often. But in a period like we went through about a year and a half or two years ago to last year, it was difficult for a new person to come up to speed and deal with the complexities we were dealing with as a company. So that's what made it go up during that period. At this point our turnover in the newer sales staff is back to more acceptable levels and that's what's making it all come down into place.

One last follow up. Any particular objection that the sales force is encountering, you know, that may be contributing to that? You spoke to development. Is there anything on that side that you may need to tweak to facilitate the sales process and reign in retention even further?

Well, the developments we are making right now I think the area where we have room for improvement is in the larger account arena and I believe the health savings accounts which also will allow us as we work through a few other details to deal with flexible spending accounts in a different way as well. We are going to have more options for larger customers. The retirement services improvements we made over the last year also helped with larger accounts to give them more options. And so that's where we focused the product development efforts on becoming a better match for that little bit larger customer. We are still a one of a kind solution for the small to medium-size business in terms of not only the product design but the actual delivery of our service and the service level the way we will pamper our customer not just caring for them but caring about their business and really putting high performance human resource practices in place that help their businesses grow and succeed. And our client satisfaction levels are at all time highs. We are doing just very well in that area. So I think we've got really a perfect hand in glove fit for our target smallest customer. Where we are improving is having some other options, for example, the recruiting process as well that I mentioned are new Administaff talent network, right now has helped us internally to facilitate that process more effectively. But in the next-generation will actually be taking the visibility into that process out to the client. That also I think is very effective for our larger customer. So that's where we focused some attention, kind of build a pipeline of large customers that are coming on and deal with that issue of retention in that area.

Thank you very much.

Your next question is from Tom Geovini with Geovini Capital Group.

My first question is with regard to the H.S.A. which I think will be a great thing, will that have any margin impact for you? Because it will be a higher deductible plan for those employers who are going to adopt those? Will there be a margin impact, obviously a positive one for you?

Sure. As a matter of fact I mentioned that kind of in my remarks, Tom. You know, how we see that happening over 2005 and beyond I think will be an incremental piece. We don't know what the number of customers that will transition to this new plan as they renew in January and, of course, in January and beyond because it will be offered to them when they renew for new business, obviously, they can select those that come on in January can select it immediately. But we just don't know how much of an acceptance rate there's going to be but we expect that it will continue to improve and we will put out some information to help folks be able to evaluate that opportunity better. Because we think it's really a big one.

I guess my next question relates to, I guess attrition. You've been providing us with essentially all the inputs where you're talking about a goal of 700 to 1,000 a month additions, and you talked about the percentage of attrition in new hires and fires. So we have almost all the plugs. I think one of the things that I find somewhat frustrating is maybe if we can get a little bit more color in terms of why it is that folks are attritioning. You mentioned large client and they are leaving because of sort of a success penalty. I'm curious as to why we don't break out the attrition more, so we can come up with some kind of controllable attrition that would help us understand whether it's the product as opposed to being purchased or company's going out of business or companies that you're firing. We essentially have all the inputs and I guess from my standpoint I think it would be helpful to have a little bit more there.

That's fine. We have, we do that, we've done that from time to time just talking in general terms. And we haven't updated that because that hasn't changed a lot. About half of the customers go away for financial reasons, changes in the business, I think that's just the normal course of how businesses work. That number went up a lot during the recession period and took our kind of normalized monthly rate of attrition to over 2.5%. We are tracking back down to the one and a half kind of on your normal month excluding what happens at year end attrition. But the same things, we haven't updated it because it hasn't really changed. About half go away for financial reasons. Then you have the balance of them kind of split across three or four other minor items, the success penalty, us needing to turn customers that aren't in compliance, and of course, some go away because they are not satisfied with the value equation. That's been a relatively small number that either go to a competitor or go to back to take it in house. And we haven't seen a big change so I haven't updated that. I hope that helps you.

One last one and I'll shut up. Can you just maybe also talk about how you are looking at the capital plan? Again you are essentially debt free if you take away from the building and you are generating cash and the CapEx is relatively modest. You don't really need capital to grow in order to open new offices because you essentially financial that out of operating cash-flow and I'm wondering why we are not more aggressive with buy back especially given where your stock is.

That's a good question. I think what we have opted to do, we do favor the buy back approach. In this quarter we increased the share buy-back program and executed on it and expect to continued to do so as long as we feel, as long as the stock prices is in this area. We are doing that I think in a prudent way, managing through that as we make the money. We are buying shares back.

What's left on the authorization.

1.1 million shares.

Right. Thank you.

Ladies and gentlemen, Instructions. Your next question is from Jim MacDonald with First Analysis.

Good morning. I want to circle back on sales productivity in the quarter because last quarter you were I believe on plan and by my calculations this quarter, it's maybe half a plan or a little over half a plan in gross productivity. What could cause such a big switch? I mean.

It wasn't that big a swing. It was swing, like I said the first quarter was like 27% above budget, second quarter was 18% below in new sales.

And budgeted is 15, 18?

I'm sorry, I'm not following you, 15, 18.

Per person per month?

I don't look at it exactly that way. It has to do with, that's, it's the number of sales per salesperson per month at an average of 13 gives you a 1.0 number. But there is some seasonality to it. Obviously the fall campaign your numbers better be over 1.0 and there's certain times it's under. In the second quarter I don't want to give give anybody any excuses because in my view it wasn't acceptable and I am expecting to see it improve immediately as we did see it improve through the quarter but I expect where we ended up at the end of quarter to be what continues. But of course in the second quarter, in April we do have our annual sales and client conference call which we put back to back this year, took the whole staff out of the marketplace for a week and then took, had the annual trip in that period, also. Which takes your top performers out. But, you know, you have to sell through those things. You have to plan around them and have better results than we had in the quarter. I don't accept that as an excuse but that does maybe part of the answers to your question.

And on the net hires and fires in existing accounts, you said that the, was the overall quarter up or could you give us a percent for the overall quarter?

Yeah, the overall quarter was a net positive factor but the middle month was kind of weird, who knows why but the layoffs did exceed new hires in the second month of the quarter which has those people out, you don't recover those people, those are gone from the second and third month of the quarter. But all in all it was a net gain, a slight net gain which is helpful. And that's why I said in my comments, if there's any net gains that ought to move us from the midpoint of our range up towards the higher ends or even over the range. And we were about the first quarter tile of our range and so got the benefit of that net gain from new hires exceeding layoffs.

One question on health. Your deficit went up slightly or your surplus went down slightly. Was health a little bit unusual? Is there anything unusual in health in the quarter that it was up a little bit more than expected?

No, actually, Jim, when we looked at what we expected our healthcare costs to be for the second quarter, even though it ended up being our total benefits costs were $568, it was actually $568.30 some odd cents, and we missed up by six cents per employee per month. So we were right on exactly what we were expecting the costs to be. And it's just primarily because of the trend in healthcare that comes to us from the different markets. Obviously we've got great information that we get from United Healthcare. And while they maintain about 78% of our base the other 22% is from other carriers whereby we have fixed rate programs for the year. So we already know what those are going to be. So it wasn't, it wasn't very much of a surprise.

Jim, United, just showing that they are becoming more comfortable with the plan surplus was reduced from about $10 million to the ends of last year to $8 million now at the end of the quarter so you can see where the funding rates to reducing the funding surplus. And in the third quarter that funding rate is down again below what the expected costs are going to be.

We've been expecting that. Can I circle back on one more thing on the consumer driven healthcare plan. That will be I presume substantially lower dollars per employee, right? But it won't have any effect on your P&L other than maybe a decline, a slight decline in gross revenue?

Well, certainly if the in the consumer driven plan the revenue allocation will be lower but also the cost will be lower.

Right. So no net effect but it might slow the growth on the health side?

It might slow, yeah, it absolutely, it ought to mitigate that somewhat next year.

There's two other benefits for us that I want to make sure people understand and that is that I think it makes us again, I mean it's a perfect hand in glove fit for our target customer, it makes us even more attractive. I think it will help us grow the business. Also there is an effect on payroll taxes, which is important to us, any time we can save on payroll taxes for us and our clients that's a good thing. And these savings accounts are on a pretax basis.

The consumer driven health plan is a program that we've had in place for, I don't know, a couple, three years. We've had a high deductible plan that wasn't a lot of acceptance with that plan but there has been some. We think now that the treasury is added a tax deductible feature to it, it ought to really improve the likelihood of people migrate to go that plan. I think everybody will win in that.

Thank you.

You have a question from Michael Baker from Raymond James.

I was wondering if you could give us a sense of year end attrition for the the last two years and how that compares to attrition within the year and what kind of swing variable the health option is as a result of that?

Okay. Let me just clarify for everybody, if you look at our attrition the last few years, the last couple years, say '03 and '02, those were years where we had for the year end attrition number which I would call January and February, January levels were over 7% compared to period prior to that of being close to 6% of the base leaving in January. And then February, for these last couple of years has been 3% or so instead of prior to that two and a half. And then monthly throughout the rest of the year generally have seen historically a one and a half per month attrition that's our target again to get back to that level. And what we have seen in the last couple of years is that number persist up in the over 2 to 2.5% range and now meter on back down, this most recent quarter at 1.9 is not quite back to where we want it to be. Does that help you.

Yes, thank you very much.

Okay. Sir, we have no further questions. Any closing remarks?

No, we don't have any closing remarks. We just appreciate everyone being a part of today's call and we look forward to dialogue next quarter. Thank you.

Ladies and gentlemen, we thank you for your participation in today's conference call. This concludes your presentations you may now disconnect.