Insperity Inc (NSP) 2007 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2007 earnings conference call. My name is Angelique, I will be your coordinator for today. At this time all participants are in a listen-only mode. We will conduct a Question and Answer Session towards the end of this conference. (OPERATOR INSTRUCTIONS) On your call today we have Mr. Paul Sarvadi, chairman of the board and Chief Executive Officer; Mr. Richard Rawson, President of the company.

I would now like to turn the call over to Mr. Doug Sharp, Chief Financial Officer. Please proceed, sir.

Thank you. We appreciate you joining us this morning. Before we begin I would like to remind you, that any statements made by Mr. Sarvadi, Mr. Rawson or myself 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, projects, believes, likely, probably, goal, objective, outlook, guidance, appears, target, 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 the Company's filings with the SEC. These risks and uncertainties may cause actual results to differ materially from those stated in such forward-looking statements.

Now let me take a minimum to it outline our plan for this morning's call. First, I am going to discuss our second quarter financial results. Paul will add his comments about the quarter and on our outlook for the remainder of the year. 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 third quarter and the remainder of 2007. We will then end the call with a question and answer session.

Now let me begin by summarizing the financial highlights from the second quarter. We reported a 35% increase in second quarter earnings per share to $0.50. This was significantly above our expectations, primarily as a result of higher unit growth and gross profit for work site employees. The average number of work site employees paid, increased 9% to 108,336 for the quarter, above the high-end of our forecasted range of 107,750. Continued pricing strength for our HR services combined with favorable outcomes in each of our direct cost programs, resulted in an increase in second quarter gross profit for work site employee per month from $228 in 2006 to $241 this year. These results also significantly exceeded our forecasted range of $221 to $225. Operating expenses came in at forecasted levels with exception of an additional accrual for incentive compensation tied to the achievement of higher operating results. Our working capital position remained relatively flat compared to the first quarter at approximately $119 million even though we repurchased a million shares during Q2 at a total cost of approximately $35 million.

Now let's review the details of our second quarter results. As I just mentioned, the average number of paid work site employees per month increased 9% over the second quarter of 2006 from 99,839 to 108,336. Unit growth exceeded our forecast due to contributions from our unit growth drivers including sales and net growth within the existing client base. Paul will provide further details on these drivers in a few minutes. Second quarter revenues increased 12% over 2006 to $377 million as a result of the 9% increase in average paid work site employees and a 3% increase in revenue per work site employee per month. Looking at second quarter revenue contribution in growth by region, the southeast region which represents 11% of total revenue grew by 10%. The Northeast region which represents 20% of total revenue grew by 20%. The central region which represents 14% of total revenue grew by 10%. The southwest region which represents 34% of total revenue grew by 14%. And the west region which represents 21% of total revenue grew by 2% and was impacted by the loss of a large mid-market client during the 2006 year end client renewal period. Now let's move to gross profit which was obviously a strong contributor to this quarter's results. As I mentioned earlier gross profit per work site employee per month for the quarter was $241 up from $228 reported in Q2 of 2006 and significantly above our expectations. While we continue to effectively increase the markup on our HR services, the upside of the quarter was generated from our direct costs programs.

First of all our workers' compensation program continues to generate positive results. Our effective management of both the number and severity of claims, has given us the ability to offer lower pricing to go our clients and prospects while also contributing to go our bottom line results. Workers' compensation costs were 0.52% of non-bonus payroll for the quarter, below our forecasted rage of 0.75 to 0.80%. Actuarial loss estimates continue to reflect our favorable claims trends and resulted in a $6.4 million reduction in previously reported loss estimates. This reduction is generally consistent with that reported in the previous quarter.

Secondly, benefit costs came in slightly better than expected. On a per covered employee per month basis, costs increased 6.4% over the 2006 period to $656 and included the expected $3.3 million reduction in administrative costs negotiated under the new United Healthcare contract.

A third piece of good news with the receipt -- was the receipt of a $2.9 million unemployment tax refund from the state of Texas during the quarter. You may recall us mentioning in last quarter's conference call that state funds were generating surpluses due to continuing low unemployment levels. We anticipated that statutory requirements would mandate the return of these surpluses to employers through either lower rates or tax credits. The receipt of these moneys resulted in a decline in payroll tax costs as a percentage of total payroll from 7.45% in Q2 of 2006 to 7.14% in Q2 of this year. In a few minutes Richard will provide further detail on this quarter's positive developments and the expected impact on direct cost trends and pricing for the remainder of 2007.

Now let's move to operating expenses which increased 11% over Q2 2006 to $60.2 million. This was approximately $2 million over the midpoint of our expected range which reflects the amount of an additional accrual, for incentive compensation tied to our improved operating results. On a per work site employee per month basis operating expenses increased from $181 in Q2 of 2006 to $185 this quarter. As expected, stock-based compensation costs increased by $4.00 per work site employee per month as a result of the annual restricted share grants to employees. Otherwise increases in cash compensation and advertising costs were offset by lower G&A and depreciation costs. As for net interest income we reported approximately $3 million for the quarter. This is at the low end of our expected range due primarily to the utilization of invested funds in executing our share repurchases.

Now let's review several key balance sheet and cash flow items. We ended the quarter with approximately $119 million of working capital and only a $1.5 million in debt. During the quarter we generated $25 million of EBITDA and received $24 million of excess funding from our workers' compensation program. Cash out lays included share repurchases totaling 1 million shares at a cost of $35 million, cash dividends of $3 million, and capital expenditures of $4 million. As of today we have a 1.055 million shares remaining for repurchase under our authorization. Now before providing financial guidance I would like to turn the call over to Paul.

Thank you, Doug. In my part of the call today I will discuss several factors contributing to our continuing success growing our core business. I will also describe progress we've made re-engineering our middle market strategy to improve results and take advantage of the significant opportunity represented by this segment. In addition, I will provide some insight into new opportunities we are also investing in for the future, centered around our HR tools business plan.

Over the first half of this year we've experienced strong unit growth in our core business offset by a decline in the middle market segment for our clients above the 150 employee level. The number of work site employees in our core business increased by nearly 8% in the six months from December 2006 to June 2007. Over the same period, the middle market bottomed out at a 15% decline from year end in March before recovering nicely in the second quarter to only a 6% deficit by the end of June. On a year-over-year basis, our 9% unit growth this quarter was a combination of an 11% growth rate in the core business offset by a 4% decline in the middle market. Currently the middle market is 12% of our base and the core is 88%.

Now, before I describe our plan to remedy the mid-market segment let me take a few minutes to highlight the strength of our core business growth engine. During the second quarter we averaged 254 trained sales personnel, up 7% over the same quarter last year. This team, however, is substantially more experienced due to the reduction in turnover from 40% one year ago to 30% today. In fact the number of trained sales personnel with more than 12 months tenure with the company, is up more than 25% over this period and the number with more than 18 months has increased over 20%. The benefit of this level of experience is just beginning to appear in our growth results. We exceeded our paid work site employee target for the second quarter to strong conversion into paid work site employees from sales and better than expected net gain in employment within the existing client base offset by slightly higher than expected client attrition. Early in the second quarter we implemented a plan to improve visibility and successful conversion of sold accounts into paid work site employees. This plan included linking the timing of commission payments to first payroll and establishing a contact program with new accounts during the pre-enrollment period to smooth the on-boarding process. The result has been better throughput from sold paid accounts and a substantial improvement in visibility of first-time paid employees. Our small business client had a good quarter in hiring much needed new staff and also added summer help which was evident in the net gain in the client base in June. This net gain was also facilitated by an increase in effective effectiveness and efficiency in our recruiting division. Since the establishment of our recruiting center of excellence at the beginning of this year, the number of new hires per recruiter has nearly doubled from approximately 4 per month to nearly 8 per month and in total over 1,600 new hires were placed in the first half of 2007 by our recruiters adding to go our work site employee growth. Client attrition in the second quarter was acceptable but slightly higher than our historical 1.5% per month. Attrition for April, May and June was 2.0%, 1.3% and 1.8% respectively averaging 1.7% for the quarter. Service satisfaction rates remain high at 90% overall satisfaction for the quarter.

Now I would like to take a few minutes to address our new plan for the middle market. As I mentioned on our last call, during the first quarter we conducted an in-depth analysis of our strengths, weaknesses, opportunities and threats within our sales, service and infrastructure for our mid-market segment. This analysis was the foundation for re-engineering the sales process, the service model, and the financial model for this segment. The specific items identified in the resolutions are proprietary and too numerous to recount on this call. However, there are four basic issues that have been addressed in the new model. They are relationship management, full service perception, service delivery complexity and unwarranted bureaucracy. Besides the nature of these middle market clients, typically involve a higher number of decision makers and influencers that make the buying and renewal decision better than our core business clients. We have implemented a matrix relationship management model in both sales and service to address this need. We've also developed a roll-based training program intended to improve communication and deepen relationships at various levels in the prospect organization. The second area we addressed was the difference in the perception of a full-service HR department for middle market accounts compared to our core accounts. When we say we are a full service human resources department for your company, a middle market client envisions a broader array of services than the small business account. This created a service gap perception that we have documented and resolved. Going forward we should have a much better fit between mid-market client expectations and our services provided. In this process we also evaluated the actual impact we had on on mid-market clients that we've served, both the successes and failures. Out of this process we developed a new service model, structure, contract, and process to address the uniqueness and complexity of these accounts. Changes include establishment of a separate business unit for the segment which we refer to as a center of excellence. We also had created a new high level service position as the single point of contact to facilitate the implementation of the service plan. And in addition, we plan to add and reorganize resources to improve responsiveness and effectiveness serving these larger accounts. The new model includes implementation of best practices for fundamental, programmatic and strategic HR services over a longer period than our previous one-year contracts. For clients of this size, implementation and impact is more comprehensive and a two-year plan makes more sense from both the client and service provider perspective. As a result we have created a new two-year contract centered around implementation and progress reporting on the unique service plan designed for the mid-market account. This contract became available at the end of June and is now in place with two brand new clients sold in July. And lastly, we addressed a multitude of bureaucratic issue that have evolved overtime and became a source of frustration for clients and service providers. Although these issues were more prevalent and frequent in large accounts, they're also experienced throughout our core business. Resolving these issues should increase client satisfaction and help retention across our entire client base.

This mid-market and re-engineering efforts has been enlightening and our chance to be successful in the segment has been greatly improved. However, these changes do not come without some investment. We expect to increase our operating expense by approximately $3 million from new through 2008 to make these improvements. It will take a considerable length of time to determine how successful we'll be ultimately in this space and the return on this investment. We will measure the sales changes after a sufficient number of prospects go through the pipeline, most likely next spring, implementation of the new service model will be evaluated in the back half of 2008 once a number of clients have been enrolled and the service plans have been implemented. And finally, it will take a number of years before renewal rates can be determined due to the new two-year initial contract period. We consider this new mid-market plan a good investment with the potential to turn a unit growth detractor, into a unit growth contributor. As for profitability, we validated the the operating income per work site employee on this segment of of our core business -- I am sorry, of our business last year, to be about 10% to 15% higher that than the core business. We expect the the the costs of the improvements to lower operating income per employee within this segment and be more in line with the core business over the next 12 to 18 months before returning to 2006 levels.

The second investment decision to discuss today is our business plan we've approved for HR tools. Many of you are familiar with our effort to demonstrate our HR expertise and extend our brand to HRtools.com and our subscription and desktop HR point solutions. These solutions provide four separate applications to perform HR tasks including creating job descriptions, completing performance reviews, developing employee handbooks, and an application called People Manager, which maintains information about employees. Our priorities for this enterprise beyond branding, have been to provide leads for our PO offering and secondarily to provide a new source of revenue and gross profit for Administaff. A thorough review of the assets he with have and the market opportunity in this space has resulted in a new business plan for the adventure worthy of an investment. In addition to the products and websites, the user base for these products has grown substantially. We currently have over 250,000 registered users of HRtools.com, more than 167,000 users of online applications and over 92,000 previous purchasers of the desk stop product. The opportunity we see here is to rewrite the product offering into an integrated package that can be sold either as a desktop solution or as a software -- as a service model. This integrated package would use people manager as the foundational element and each other application would share this basic information. So, as an example, an employee's job description would be the basis for the annual performance review, and the record would be maintained in the system.

Now, once rewritten all current users would be prime candidates for the new offering and an additional opportunity would be created for our core PEO business. The new software is a service offering would be provided to our PEO clients as the service enhancement to our employee service center application currently provided to Administaff clients. This would be a valuable new addition to the service provided that can stay with the client if they exit our core offering, continuing an income stream for Administaff. We expect to invest approximately $3 million over the next 12 months in this venture of which approximately two-thirds will be capitalized and the other one-third expense. The revenue potential outside the PEO is significant, and the ongoing revenue stream from software to service users including current and exiting clients could be substantial.

Let me finish my comments today with our outlook for growth over the balance of 2007. Year-to-date we've averaged an increase of slightly more than 1,000 employees each month. However, the second quarter averaged over 1,500 employees as our middle market termination stabilized and our paid from sales number improved, and we experienced some net growth from new hires. If we use those two extremes of 1,000 to 1,500 employees per month, you essentially land in the range for our guidance that Doug will provide for the third quarter and full year. At the midpoint of this range we would see acceleration each quarter over the balance of the year, in our growth rate, and return to our double-digit unit growth rate that we've had historically. It's important to note that the expediency with which our staff has responded to the bumps in the road we experienced at year end. This shallow dip and quick recovery in our growth rate is attributed to them. We've had a similar effort by our staff managing the direct costs and their results are equally impressive. At this time I will pass the call to Richard to provide details about these direct costs results.

Thank you, Paul. This morning I am going to discuss the details of our second quarter gross profit results. Then I will explain how our pricing strategy and direct cost trends should shape our gross profit per work site employee per month for the balance of this year and into 2008. As many of you know our gross profit comes from the markup on our HR services combined with the surplus that is generated when our direct cost pricing allocations exceed the corresponding direct costs.

For this quarter our gross profit per work site employee per month was $241, significantly above our forecasted range of $221 to $225. These results came from achieving our targeted average markup for the quarter of $200 per work site employee per month and generating a surplus of $41.00 per work site employee per month or 3.6% of the total markup. This surplus came from contributions in all three of our direct cost centers which are payroll taxes, workers' compensation and benefits. Let me give you the details.

The surplus in the payroll tax cost center came primarily from the state of Texas unemployment tax refunded that Doug mentioned a few minutes ago. Last quarter I had mentioned the possibility that we might be getting a refund due to the the increased level of surpluses in the sate, unemployment tax funds, So, we were not surprised when we got a refund checks in the mail. Without this refund we still generated a surplus in this cost center, but not quite as much as we had forecasted. In this case, that's a good thing. Remember, after the first quarter of the year, if we are growing faster than we forecasted, we will have more payroll tax expense than our allocations for each new employee until their wages exceed the state unemployment taxable wage base. Since we did grow faster this quarter, we had more expense than our allocation, but that situation typically reverses itself in the future quarters. I will refer back to this topic when I discuss the outlook for the balance of 2007 in just a few minutes.

Our second contributor to the surplus this quarter, came from the positive results in our workers' compensation program. These results occurred because our claims management personnel continue to settle workers' compensation claims for amounts lower than expected. Additionally, we experienced lower than expected incident and severity rates associated with the current policy year, due to our ongoing safety programs. Again, this quarter, just like last quarter, our incident rate is down almost 8% on a work site employee base that has grown 9%, and our severity rate associated with these claims is down almost 6% over the last year. As a result our workers' compensation expense was lower than expected at 0.52% of non-bonus payroll.

Our third contributor is the surplus this quarter came from slightly better than expected benefits costs. If you remember for the last two quarters our benefits costs have been at or above the top end of our expected range. The primary reason was because we experienced a significant increase in our large loss claims over 50,000 dollars in the fourth quarter of last year followed by an increase to our reserves in the first quarter of this year to cover the the runout of those claims. For the second consecutive quarter, we have seen a further reduction in the number of large loss claims such that our trend has settled back into our historical range. The the average large loss claim is still a bit higher than we would like to see, but that number was driven by a very few really large claims. A final result is that our healthcare claims during the second quarter were $2.00 per covered employee lower than what we expected at the midpoint of our range for the second quarter. In summary, our strong gross profit results this quarter increase our likelihood to have another very good year.

Now I would like to update everyone on our outlook for gross profit per work site employee per month for the remainder of 2007 and going into 2008. Let me explain each component beginning with pricing. We are well on our way to achieving our targeted average markup on our HR services of $201 per work site employee per month by Q4 of this year. Since we have added more new business than previously forecasted, the pricing for new business typically reduces the average on the whole book of business. Therefore we should average somewhere between $200 and $201 per work site employee per month for the full year which is up $2.00 to $3.00 over the last year. The demand for our service is still very high, and renewal pricing in the second quarter increased slightly more than $6.00 per work site employee per month.

The second component of our gross profit per work site employee per month comes from the payroll tax cost center. A few minutes ago I mentioned how payroll tax expense in the corresponding billing allocation work in our model. Faster growth later in the year can reduce the surplus for a quarter or two. Since we are experiencing slightly faster growth we should see a lower surplus in this cost center in Q3 and Q4 than our previous forecast. As for 2008, the surpluses in the payroll tax cost center should increase. The primary reason for the expected increase comes as a result of the surpluses that are sitting in many state unemployment tax funds. Therefore we should be getting lower state unemployment tax rates for 2008. From an allocation perspective we could see a moderate decline at the beginning of 2008 commensurate with these lower state unemployment tax rates, but the overall surplus should increase in 2008 over 2007.

Our third component of gross profit comes from our workers' compensation cost center. The better than expected incidence and severity rates that we have experienced throughout this policy year, coupled with effective claims settlements, should translate into lower costs than we previously forecasted. Additionally, we are nearing the end of the renewal process for our workers' compensation insurance policy beginning October 1, 2007, and I believe we should be able to benefit somewhat from reduced administrative fees next year. Therefore we now would expect our costs to trend downward from the previously forecasted range of 0.75% to 0.80% of non-bonus payroll to a new range of 0.60% to .70% for the balance of the year and into 2008. As for the allocation side of this cost center, I had mentioned last quarter that we had had an increase in the percentage of white collar workers which have lower pricing allocations. That increase still exists today, so while our allocations in this cost center may decline slightly, so will our costs. The bottom line is that we still expect to see a nice surplus contribution to gross profit from this cost center for the remainder of 2007 and into 2008.

The fourth and last component of gross profit is the benefits cost center. Last quarter you may remember that I mentioned that we were just beginning to see a migration of covered work site employees from the United Healthcare ChoicePlus 250 plan, to a higher deductible lower cost plan. That means that we immediately experience a reduction in our benefits allocation and then typically a few months later we see the corresponding expense reduction. However, until we see a meaningful decline in the costs, we're still going to forecast an 8% to 9% year-over-year increase in benefit costs for the full year of 2007. Therefore, considering these two factors, we're now forecasting less contribution to gross profit from the benefits costs center for the remainder of 2007.

Now, for 2008 we have some additional factors that will affect the surplus or deficit in the benefits cost center. They are: number one, benefit planned design changes that should reduce claim costs. Number two, lower administrative fees previously negotiated with United Healthcare beginning in 2008. Number three, double-digit healthcare cost increases from our fixed rate carriers that will only affect about 15% of our total book of business. Number four, ongoing allocation increases to match future expected costs. And number five, continued migration of participants into lower cost plans. These factors should allow to us to mitigate total benefits trend increases and further deficits in this cost center for 2008.

Now let's summarize the outlook for gross profit for the balance of 2007. We continue to see the average markup per work site employee per month to gradually increase throughout the year from an average of $198 to $200. We should continue to see surpluses generated from two of our three direct cost centers. Therefore, the surplus component of our gross profit for the full year is expected to be $24.00 to $27.00 per work site employee per month or approximately 2.5% of the dollars allocated within our pricing to cover the direct costs. For 2008 we have a very solid game plan for being able to generate the appropriate amount of gross profit per work site employee per month. Now I would like to turn the call back over to Doug to give further financial guidance.

Thanks, Richard. Now, let me begin by providing an updated forecast of our full year key metrics beginning with unit growth. With the rebound in our unit growth during the second quarter, and the positive sales metrics that Paul just discussed, we are now forecasting an increase from our previous full year guidance to a new range of 110,000 to 111,000 average paid work site employees per month. As for gross profit, we are forecasting a fairly similar range to our previous guidance for the reasons mentioned by Richard a few moments ago. Our updated range is $224 to $227 per work site employee per month. As for operating expenses, we now expect to be in a range of $239 million to $241 million for the full year. It's our better than expected first half results have given us the opportunity to make further investments in our growth in new product offerings. The increase over our prior guidance includes costs associated with additional service personnels to support our improved mid-market service plan and costs associated with further developing new product offerings including an HR tools product enhancement. The high-end of the expected range of operating expenses includes additional incentive compensation tied to achieving higher unit growth from gross profit goals. When combined with our 2007 expected range of average paid work site employees operating expenses, on a per work site employee per month basis, are now expected to decline from $183 in 2006 to approximately $181 for 2007. We now expect net interest income to be in a range of 12 million to $12.5 million for the full year down slightly from our prior forecast due to the use of funds to repurchase shares. Utilization of these funds, which were previously invested in tax exempt securities, has resulted in a slight increase in our expected annual effective income tax rate to 35.7%. We are now forecasting 27.5 million average diluted outstanding shares for the full year, down from our prior forecast of 28 million shares as a result of share repurchase activity during the first half of this year.

Now for third quarters guidance, based upon my earlier comments we expect average paid work site employees per month to be in a range of 112,250 to 112,750 for the quarter. As for gross profit, based upon Richard's earlier discussion, we expect to be in a range of $216 to $219 per work site employee per month for Q3. Third quarter operating expenses are expected to be in a range of $58.25 million to $58.75 million. This is down sequentially from Q2 by approximately $1.7 million as higher costs associated with our new service and product initiatives, are more weighted to Q4 and into 2008. We expect net interest income to be between 3 million and 3.2 million and are forecasting 27.2 million average diluted outstanding shares for the quarter. Now, at this time I would like to open up the call for questions.

(OPERATOR INSTRUCTIONS) Your first question comes from the line of Tobey Sommer with Suntrust Robinson Humphreys. Please proceed.

Thank you. I had a question about the sales force. You gave interesting metrics about how the tenure is improving and that likely bodes well for sales trends and productivity over time. I didn't catch, and I apologize if you mentioned it, the number of trained and hired salespeople and maybe also in that context if you could update us on your office expansion plans, that would be appreciated. Thanks.

Sure, Tobey. Number trained for the quarter was 254. Number hired is between 290 and 300 at this point, and having a lot of success there of late, so we're excited about how that's ramping up. As far as the new office openings, we've announced four. The fifth one is imminent, right in front of us. We have three more opening up over the balance of the year, and I think that's going to put us in a good stead for growing the sales force at the right rate.

Thanks. So at the midpoint it looks like kind of a 16% delta between hired and trained. Given the fact that the tenure is improving and sales force turnover is down, you're having success hiring. Any thoughts about the potential productivity of the overall sales force? Do you think the upper limit of that productivity, are you thinking that it may be higher than you had thought previously?

Well, what's going to be interesting is as you go into the fall we're going to have two things happen. First of all, you have this significant increase in the number of tenured reps as you go into the fall campaign. Obviously that should be beneficial for our selling season, but we also have a significant new crop, that 16% that you're talking about of sales staff that were not in the trained number, will be rolling in as new reps, and so you will have a little bit of a counter balance to that, but I think we're just positioned very nicely for a strong fall selling season.

And shifting gears, wanted to talk about the planned redesign with United. Historically that has lowered your costs and obviously you've got some negotiated lower administrative fees as well. I think the last time you did that was in 2005 and you had generated an awful lot of earnings growth. I just want to get a sense for looking back historically in maybe 2005 and I know it is back a couple years, what sort of contribution did -- and how meaning was that planned resign in 2005, to the very good here you had at that time?

Tobey, it was significant I guess is the best way to say it. You know, because we have almost, I don't know 70 some odd thousand participants on our benefit plan today, it doesn't take a lot of change in a plan design to bring some significant reduction in cost to our program. Now, you have to realize that obviously we're a little bit early in talking about 2008, but we know that the trend in healthcare costs is certainly going to be in the 10% to 12% range at least that's what people are saying today. And so, any plan design changes that we implement will actually reduce that trend for 2008. And you know -- and we like that because that actually makes our total package offering to our customers more attractive because if our costs only go up say 7% as opposed to 12%, then that's a real benefit to -- to our client owners, work site employees and their families. So, we -- in thinking about how we may benefit from this, it will be more than just a financial. It will also potentially be for new growth.

Right. That makes good sense. In terms of the percentage of work site employees on the healthcare plans and maybe breaking it down in terms of percentage of eligible also, and then I will get back in the queue. Thank you.

Sure. Yes, we have about, I don't know, it's 72.5% or so of the total work site employee basis in one of our health plans on any given day, but when you look at eligible, it is closer to 88% to 90%. People, you know, they select -- they -- a spouse will be in another plan, and so the work site employee of Administaff will go on the spousal plan, and so that eligible number is a significant number as well, and it makes for a good solid operation.

Thank you very much.

Your next question comes from the line of Jim Macdonald from First Analysis. Please proceed.

Yes, great quarter, guys.

Thanks, Jim.

Just following up on the healthcare, since it seems like you've been a little behind in terms of pricing versus costs. Do you think there will be catch-up you'll need to do next year or do you think you can offset that with plan design changes?

Well, definitely plan design changes are going to be a big factor of it but we are still continuing to go increase our allocations because we want to, you know we want to make sure that we're doing the very best that we can to match the the price and the the costs. And so -- on both new and renewing business. So, there, you know, there will be another increase in the allocation side coming very shortly, but then as we move into 2008 we'll also be looking to go see how the participants act in terms of which plans they migrate to and that may cause us to not have to do as much of an increase in the allocation. I think we're real comfortable that the allocation rates increases that we're planning, though, still create a nice advantage for our current customer over the market at large.

Yes.

Okay. Just one quick one and I will think about getting back in. On the -- you said you had a number of summer hires. Can you kind of quantify that and is that going to be an issue going into Q3 or Q4?

It is kind of hard to tell, you know, exactly which ones are summer help, but you know, it was probably around 1,000 or so employees, and you can generally expect those to come out of the third quarter when you get into the September time frame, so you just kind of have to factor that into the whole picture.

And that is what your guidance is based on?

Yes.

Okay, thanks very much.

Your next question comes from the line of Thomas Giovine of Giovine Capital Group.

Hello, guys, well done.

Hey, Tom, thanks.

Thanks

Can you just describe maybe what the current thinking is of the board regarding buybacks, and again last quarter I was trying to see if I can convince you guys to be a little bit more aggressive in terms of maybe doing a [dutch] or putting in a 12-B-1 or whatever thats called. But clearly you were very a agressive during the quarter but you still have a capital structure that still kind of defies gravity, and then can you just tell me maybe what the current thinking is there?

Yes, I think we had a better quarter in trying to execute on our own game plan. You know, we brought back the million shares, and you know we were able to -- once we got beyond our open window, we you know, went ahead and filed a 10-B-51 plan so we could keep thinking advantage of the low valuation that we perceived. We are going to have our board meeting next week, so we'll get kind of an update from everybody on how we feel about that. I like the way we executed this -- this particular quarter and I think that steady as you go approach, but with aggressively setting aside capital to return to share holders this way I think it is appropriate where we are.

Okay, and just, I'm sorry, just to go back, but you did buy back shares north of here I guess at 35?

Oh, yes, we did.

Alright, thank you very much.

Your next question comes from the line of Mark Marcon of Robert W. Baird. Please proceed, sir.

Good morning and let me add my congratulations.

Thank you Mark.

I would like to ask, you outlined a number of initiatives. You've got you know kind of a re-engineering of your mid-market service offering. You've also got the HR tools that you're going through. And what I was wondering is, as we look towards this guidance that you've given us for the back half of this year, is -- are -- is the full expense of those -- of those initiatives included in that guidance, and could there be any spill over in terms of additional expense going into 2008 or should you be be done by the end of this year?

Yes Mark, this is Doug, I'll answer that. The, basically the increase in the operating expense guidance over the initial guidance of $2 million does relate to the initiatives that we're putting in place with the mid-market and the HR tools and the product initiatives. So, we have considered that in the balance for 2007 yet there will be some additional investment going into 2008 as Paul mentioned. I think he was quantifying in total dollars to some extent the mid-market and the HR tools adjustment over our 12 to 18 month period, so obviously some of this investment goes into 2008.

But it doesn't look like it is going to -- it's going to -- I mean even with this additional investment you're still actually going to see a decline in terms of your operating expense per work site employee and it sounds like that could potentially continue to be the case forward. Is that correct?

That's correct. That's what we're forecasting, yes, for the '07 period and we should hope to that going forward with the leverage we have.

Okay, terrific. And then with regards to you know, kind of one-time gains that you had this quarter, can you -- can you just summarize those? It sounded like you had the -- you know you had the Texas payroll tax refund, I think you also had something from -- from CNA if I recall correctly.

Well let me try to clear that up for you. And the best way to explain it is by looking at that gross profit per work site employee number which was about $19/ $20 in excess of the midpoint of the forecast we provided. The payroll tax refund from the state of Texas was about $9.00 of that. Now, we did not include it in our forecast although as Richard mentioned in last quarter's conference call, probably wasn't totally unexpected considering the environment of the state funds out there, but that's $9.00 of the 20. The other is attributable to the workers comp costs coming in lower than expected. That makes up the majority of the variance.

Okay. Great. So -- so that basically addresses that. And then in the southwest it looked like you had a nice rebound in terms of your revenue growth rate. Was there anything particularly driving that?

No, I don't think so. You know, our success rates across the markets are pretty good. The only one that kind of lagged behind was the West Coast, but that was more driven by the loss the mid-market accounts that we've already been through early in the year and how that rolls through in subsequent quarters.

How was the West Coast if we strip out the mid-market? Have you looked at the core?

Yes, the core business, like I said, has been growing nicely throughout the year, and was certainly fine out in the West Coast as well. A little better in Southern California, in Phoenix than in the the north but both acceptable.

Were they around the national average in terms of what you were seeing in the West Coast?

Yes.

Great. And then finally, you mentioned you've got the benefit of your sales force has become more effective. You're seeing an increase in terms of the number of employees per client. On the flip side the attrition rated is slightly higher. Is that all mid-market or is that also in the the core?

Yes, it's still -- in the attrition side we still see, this year we've had fewer accounts terminate, but the average side is higher, so the 150 employee line in the sand between mid-market and core isn't an absolute. You have gradation in there that we do have what I think are some things we address in this middle market initiative that will help us keep larger and growing accounts, so that's why this whole re-engineering effort was not just after the 500 or 1,000 person account but what about those when they go from 100 to 130 to 140, you know, let's do a better job on those as well.

Great. Thank you.

Your next and final question comes from the line of [Kavain Wong] of JPN securities. Please proceed.

Hello, how are you doing?

Great.

First, just a point of clarification, on the workers' comp costs upside I am assuming that wasn't in guidance and that you wouldn't have anything like that in the guidance going forward at this point?

Well, you know, every quarter we get -- first of all to answer your first question, it wasn't in the guidance. That happens, but we have been receiving these kind of, what I would call, positives to the reserve adjustments no both the current policy and the prior year's policy, every quarter for about nine to ten quarters now. And so the fact is, is that like in the first quarter of this year, [Kavain], I think that adjustment was about $6 million, and this quarter is about $6.4 million. They've ranged anywhere from 2.5 to this $6 million level, and you know you never what it's going to be until the outside actuary looks at the number of claims that were incurred during the period plus they look at the number of claims that were settled during the period that related to prior periods, so you can't know in advance until it happens.

Yes, and Kavain, as Richard mentioned in his scripted, we look at the workers comp as it relates to the guidance more in total -- total cost, so we have lowered the range as a percentage of payroll from 0.75% to 0.80% to the 0.60% to 0.70%, so we consider it more as a whole when we include it in the -- in coming up with the guidance on that gross profit metric.

Right, and I am assuming though the guidance is as far as the numbers you're giving are really, excluding sort of of these benefits that is come through, it's really sort of a, hey if you don't get these benefits where would we be and therefore we should be looking for -- or could well see some upside based on these sort of refunds coming back?

Yes, yes, and we just, again, look at it more in total of how our costs are trending.

Got you. Also, was sort of curious about -- generally whats the sales environment like? I mean it sounds like environments seem to be good. I am trying figure out if you guys have actually sort of seen an easier sort of pace of sales as far as people understanding the PEL model, et cetera, and that sort of helping drive stuff, and I guess sorted of conversely has the economy, where it's sort of been -- has that raised any flags or had that really not been an issue so far for you guys?

I think so far so good on the economy side with the the -- within the small business community. We're still seeing -- you know, companies are meeting or exceeding their business plans. They're still hiring. The number one issue is finding and attracting key people. We still see there is a labor shortage out there. It is hard to find the right folks, so that's a good environment for us. Obviously it would be better if there were more people available to put in these positions, we'd grow faster, but all in all I think we're in a good environment, and I think our attitudes and our sales staff are good. And you know, we've had a good solid year, you know, we've made some adjustments on -- on commission and so forth and paying -- tying payment to the initial payroll of the paid work site employees. So, you know you tag a few things up there and I think -- I think we are doing well in that area.

I got you. And then maybe -- well this is maybe a little bit of a broader thing. In the mid market effort, the one thing you've talked a bit about before is the benefit system you're rolling out, which really gives a lot more flexibility on choice of what people would have. Just curious on sort of the feedback on that system, has it helped as far as attracting mid-market guys, or is it too early yet, to really say on that?

Yes, it is really too early yet. You know, we've -- even though we kind of took mid-market off line to completely re-engineer it, it didn't -- obviously it didn't stop. We had customers in the pipeline, we made sales this quarter and you know, already have some going into Q3, so we're, you know, moving along. But, relative to the benefits of flexibility, I don't think thats been a big part of it yet. You know, we still think it will be, as you kind of go into next year, but, at this point no. Right. Alight, thanks guys, I appreciate it.

Ladies and gentleman, I would now like to turn the call back over to Mr. Douglas Sharp, Chief Financial Officer. But, before I do, I would like to remind you if you have any further questions, please contact Mr. Douglas Sharp, Chief Financial Officer. You may proceed.

Okay, well thank you for joining us today we look forward to talking to you soon.

Ladies and gentlemen this does conclude the presentation, thank you for your participation in todays conference, you may now disconnect and have a great day.