Insperity Inc (NSP) 2007 Q4 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Adminstaff fourth quarter 2007 earnings conference call. My name is Annie, and I will be your coordinator for today. At this time, all participants are on listen-only mode. We will be facilitating in a question-and-answer session towards the end of today's conference. (OPERATOR INSTRUCTIONS) I would now like to introduce your presenters for today's call, Mr. Paul Sarvadi, Chairman and Chief Executive Officer, Mr. Richard Rawson, President. And I would like to turn the presentation over to Mr. Douglas Sharp. 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 Mr. Sarvadi, Mr. Rawson, or myself, they are not historical facts. They are considered to be forward-looking statements within the meaning of the federal securities laws. Words such expects and tend, projects, believe, 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 minute to outline our plan for this morning's call. First, I am going to discuss our fourth quarter in 2007 full year financial results. Richard will then discuss current and expected trends in our direct cause including benefits, worker's compensation and payroll taxes and the impact of such trends on our pricing. Paul will recap the 2007 year and comment on outlook for 2008. I will then return to provide Q1 and full year financial guidance and move in in the call with a question-and-answer session.

Now, let me begin by summarizing the financial highlights from the fourth quarter. We reported earnings per share of $0.50 near the high end of our expectations. These earnings were driven by positive results in the following key matrix. We achieved an 11% increase in the average number of paid worksite employees over Q4 of 2006 to 115,451 for the quarter. Gross profit for worksite employee for month averaged $244 up from $239 reported in Q4 of 2006 and significantly above our expectations. The strong unit in gross profit growth contributed to operating expenses coming in at higher than forecasted levels as additional accrual for incentive compensation was tied to the achievement of this better than expected results. As far our share repurchase activity, we repurchased further in $82,000 shares during the fourth quarter resulting in a total of $2.3 million shares repurchased for the full year 2007. We have repurchased another 295,000 shares during Q1 of this year and as of today, there are approximately 847,000 shares remaining for repurchase under authorization. We ended the quarter with $97 million in working capital.

Now let us review the detail of our fourth quarter results. Fourth quarter revenues increased 14% over 2006 to $402 million as a result of the 11% increase in the average paid worksite employees and a 3% increase in revenue per worksite employee per month. Looking at fourth quarter revenue contribution and growth by region, the Southeast region which represents 11% of total revenue grew by 15%. The Northeast region, which represents 20% of total revenue grew by 20%. The Central region, which represents 14% of total revenue grew by 12%. The Southwest region, which represents 34% of total revenue grew by 18% and the West region, which represents 20% of total revenue grew by 5% and was impacted by the loss of a large mid-market client during the 2006 year-end client renewal period. We averaged 277 trained sales reps for the fourth quarter, which is a 7% year-over-year increase.

Now let's move to gross profit, which was obviously a strong contributor to this quarter's results as we generated a higher-than-expected surplus in our direct cost programs. This higher surplus was primarily driven by our workers' compensation program as continued effective claims management has given up the ability to offer a lower pricing while also contributing to our surplus. Workers' compensation cost were 0.4 to 1% of non-bonus payroll for the quarter while below our forecasted range of 0.55 to 0.65% and included a $7.4 million reduction in previously reported lost estimates. We also experienced favorable results in the area of benefits. Fourth quarter benefit cost on a per covered employee per month basis came in at $678, a year-over-year increase of only 5% compared to an expected 6 to 7% increase. Payroll tax costs in the percentage of total payroll of 5.87 percent remained relatively flat compared to the fourth quarter 2006. In a few minutes, Richard will provide further detail on this quarter's positive development. He will also comment on our positive outlook for 2008 given healthcare plan design changes, lower unemployment tax rates, and continuing favorable trends in our workers compensation program.

Now let us move on to operating expenses which totaled $66.3 million for the quarter or approximately $2.8 above the mid-point of our expected range. This variance primarily resulted from two items, an additional accrual for incentive compensation of $1.4 million tied to the achievement of better than expected Q4 operating results and the write off of $1.2 million of capitalized software cost associated with the initial version of our HRTools product, which is in the process of being transitioned to a software as service model. Operating expenses on a per worksite employee for a month basis is totaled $191 for the quarter including $7 related to these two items. This quarter's amount compared to $185 per worksite employee per month reported in Q4 of 2006. As per net interest income, we reported approximately $2.8 million for the quarter. This is just below the low end of our expected range due primarily to the utilization of invested funds and executing our share repurchases? Our effective income tax rate for Q4 of 34.9% was slightly less than the forecasted rate of 35.5% reflecting a slightly lower than expected affected stated tax rate. Now, I would like to take a few minutes to review our full year results. Revenues grew 13% that is $1.6 billion as the result of the 10% unit growth and a 3% increase in revenue per worksite per month.

As for full year 2007 revenue contribution in growth by region, the Southeast region, which represents 11% of total revenue grew by 11%. The Northeast region, which represent 20% of total revenue grew by 22%. The Central region which represented 14% of total revenue grew by 11%. The West region which represented 21% of total revenue grew by 4% and the Southwest region which represented 34% of total revenue grew by 16%. Gross profit for worksite employee per month declined by 1% from $234 in 2006 to $231 in 2007. Higher than expected healthcare costs earlier in the year were mitigated by improving healthcare trends in the latter course and continued favorable trends in our worker's compensation and payroll tax areas.

As far of recap of our direct cost, benefit cost per covered employee per month increased 8.3% for the year from $623 to $675, as we ended up in the middle of our initial forecasted range of 7 to 9%. The percentage of worksite employees covered under our health insurance plan increase from 72.7% to 73.2%. Worker's compensation cost as a percentage of non-bonus payroll declined from 0.92% in 2006 to 0.51% in 2007 as we experienced declines in both claim and administrative costs. This allowed us to lower the pricing allocations to new and renewing client while also contributing to our surplus. Payroll taxes is a percentage of total payroll declined from 7.27% in 2006 to 7.06% in 2007. This was primarily due to the higher payroll average of our worksite employees and the receipt of an unemployment tax refund from the state of Texas in Q2.

Now, let's move on to operating expenses, which increase 10% on 13% revenue growth. An increase in cash and stock based compensation cost is made up about 70% of the increase in total operating expense dollars. Cash compensation costs increased by 10% over 2006 due primarily to the hiring of sales and service personnel including those associated with the initial phase of our mid market initiative. Depreciation and amortization increased by $700,000 over 2006. However, it included the $1.2 million write-off of capitalized software cost mentioned earlier. General administrative costs increased by 9%, slightly below our 10% unit growth, included cost associated with our sales office opening and additional corporate head count. Summing up these items on a per-worksite-employee-for-month basis, we experienced an increase of only $1 over 2006 to $184. This increase includes a $3 increase in stock based compensation costs offset by reductions in other areas.

Now let us review several key balance sheet and cash flow items. We ended the quarter with approximately $97 million of working capital and only $1.2 million of debt. During the fourth quarter we generated $25 million of EBITDA. Cash outlays included cash dividend of $2.9 million, capital expenditures of $3.3 million, and share repurchases totaling $582,000 shares at the cost if $19.2 million. For the full year, we generated $90 million of EBITDA, cash outlays included cash dividend of $12 million, capital expenditure of $13 million and share repurchases totaling $2.3 million shares at a cost of $81 million. Now before providing our financial guidance, I would like to turn the call over to Richard.

Thank you, Doug. This morning I am going to briefly discuss the details of our fourth quarter gross profit results and I will update you on pricing strategy and the direct cost trends that will shape our gross profit for worksite employee per month for 2008. Additionally, I will update you on some new products that we have introduced for 2008. As many of you know, our gross profit comes from the market we earn on our HR services combined with the surplus that is generated when our direct cost pricing allocations exceed the corresponding direct cost. For this quarter, our gross profit for worksite employee per month was $244 well above our forecasted range of $230 to $233. These results came from achieving $200 per worksite employee per month that mark-up and generating a surplus of $44 per worksite employee per month that are 3.8% of our total mark-up. This quarter surplus came primarily from better than expected contributions, on the worker's compensation and benefit cost centers. Here are the details beginning with the benefits cost center. This quarter our expense per covered worksite employee was $678 and below the low-end of our expected range.

We have continued to see a migration of employees that of the United Healthcare choice plus 250 plan into lower cost higher deductible plans which helped to reduce our costs. Compared to Q3, we saw a slight decline in both the number of claims over $50,000 and the dollar amount of those claims. These factors contributed over $2 per worksite employee per month to the better than expected gross property results. The remaining $11 are better than expected surplus came from positive results in our workers' compensation cost center. This quarter, the number of claims reported, is 2% lower than Q4 of last year. This decline continues to be impressive when you consider that we've had an 11% growth in the number of paid worksite employees that incur those claims. These positive results are directly related to the great job our safety professionals in the field continue to do. The severity rate of those claims following Q4 is down 26% from Q4 of 2006. Our claims management personnel continue to settle workers compensation claims for amounts lower than expected and our back to work programs continued to produce favorable results. Therefore, we had a nice surplus from a worker's compensation program as the expense was just 0.41% of non-bonus payroll.

Now before we close the book on 2007, let me share some final thoughts about our full year results. Our initial pricing strategy for both new and renewing business was designed to produce a combined service fee of $200 per worksite employee per month for the full year. We accomplished this goal. We estimated that the surplus component of gross profit per worksite employee per month should add about another $26 to $35 for a total gross profit of $226 to $235 per worksite employee per month. The surplus for the year came in at $31 producing a total gross profit per worksite employee per month of $231 and right in the middle of our targeted range. This $31 surplus is 3.1% of the $986 per employee per month which was allocate to cover those direct costs. Now, these results give me a lot of confidence in our ability to forecast and manage to specific targets for 2008.

But now let me share with you some of the specific game plan for 2008 beginning with the pricing. We plan to increase pricing on new and renewing business by $4 per worksite employee per month by the end of 2008 and average $202 of mark-up on our HR services for the full year. In addition, we anticipate a slight increase in the surplus component of gross profit over 2007's results from $31 to a range of $33 to $38 per worksite employee per month. Here is how. The surplus generated from the payroll tax cost center should be higher than 2007. As we said last quarter, we expected lower state unemployment tax rates as a result of surpluses sitting in many state unemployment tax funds. By law, the states are required to lower the rate and/or give credits to employers. At this point, we have received nearly all of our state unemployment tax rates for 2008 and they are approximately 15% lower than last year's rates.

In addition, we have been notified that this year we will receive a $1.5 million credit in the second quarter from the state of Texas. We have reduced our allocation in this cost center to pass on most of the benefit to our clients. However, we have retained some of the benefit due to our success in controlling these costs. Therefore, our expected contribution to gross profit from this cost center will be slightly higher than 2007.

Now, let's discuss the workers' compensation cost center. We also expect to see a nice contribution to the surplus component of our gross profit from this cost center but not quite as much as 2007. Fot the last quarter, I explained the details of our new workers compensation program and how it would reduce administrative expense. The ongoing improvement and incidents in severity rates that we experienced throughout 2007 coupled with effective claims management in 2008 should also help us on the cost side. Even though our cost for 2007 was 0.51% of non-bonus payroll, we like to be conservative with our forecasting, so we will assume a total cost of about 0.6% of non-bonus payroll for the full year. We expect a slight reduction over 2007 to the allocation site of this cost center. Therefore, our spread should be slight little less than last year. The benefit cost center is another area where we expect to see some improvement in 2008. For the last quarter, I mentioned that we had several factors that should positively affect the benefits cost center in 2008. As part of our historical strategy for managing this cost center, we made a couple of plan design changes beginning January 1, 2008. These changes include a $5 increase in the co-payment for office visits in the choice plus 250 man and doubling the co-payment charge for office visits to a specialist. The only other plan design change that we've made increased the tier 2 and tier 3 prescription co-payments from $30 and $50 to $35 and $60 respectively. Now these plan modifications are reflective - the types of plans that we see in the market today.

A few minutes ago, I had mentioned that we had continued to see a migration of covered worksite employees moving from the United Healthcare choice plus 250 plan to higher deductible plans. We should began to see a reduction to our costs, especially when you consider that on January the 1st of each year, that deductible requirement for each covered employee starts over. Now the third factor that reduces cost is the reduction in administrative fees, which we have previously negotiated with the United Healthcare to begin in January of 2008. These factors should off set more than half of a normalized 8% to 9% healthcare trend increase in 2008. Therefore for the full year of 2008, our total benefits cost per covered employee should increase about 4% over 2007. We have continued to increase our allocation on the pricing side to match, normalize, trend increases and reduce the deficit in this cost center. This combination of allocation increases and reduced costs should add to our gross profit per worksite employee per month in 2008. The last topic that I want to share with you today is about some new product offerings that we have made available to new and existing clients. Some are designed to add additional revenues to gross profit and others are designed to enhance our service. You may have seen a press release during the fourth quarter announcing that our current 401k plan had reached the $1 billion mark in total assets. This puts us in the top 5% of record keeper in the United States.

Additionally, the fees that we get from the mutual funds go to offset the cost of providing this benefit to employees and any short fall gets charged to the participants. Now that we are out of $1 billion in assets the fees we received from the mutual funds are covering all of the cost to provide this benefit in the standard Adminstaff plan except for $1.50 per participant per quarter. This means that each participants return should be 100 to 200 basis point higher than in a conventional 401k plan. We have also added a Roth 401k option for current clients and former clients that still have us record keep their 401k plan. We have also created a non-qualified pretax deferred compensation plan for existing client. Now, this plan mirrors or 401k plan in that participants who use the same, easy to use technology platform to manage their account have the same investment options to choose from. We've also introduced tonight the identity theft insurance policy, and the surprisingly popular pet insurance. We believe that these additional offerings will enhance our position in the marketplace and those add to our gross profit for 2008. In summation, we see the mark-up component of gross property increased 200 per worksite employee per month, over 2007, and the surplus component increased $2 to $7 For worksite employee per month to a total gross profit of $235 -- $240 per worksite employee per month for the full year of 2008 At this point, I would like to turn the call over the Paul.

Thank you, Richard and good morning, everyone. On our third quarter call in November, I stated that small business owner sentiment had become over hesitant and they should become more conservative in their decision making. Over the last 90 days, there has been considerable uncertainty regarding prospects for the overall U.S. economy. This uncertainty has had some effect on new sales, client retention, and the net hiring within our client base. Now we have been watching and waiting for this type of reaction that we have witnessed over the last few month. And in 22 years of business, we have seen this before, and we are aware of this specific affect on our business model that comes from a down in the economy. We also know what to change and implement when this happens, and we are in full swing with the changing climate.

So today, we will be describing a plan that trims our unit and revenue growth by 4% and our earnings per share target by 5% from our initial 2008 guidance. First, I will describe conditions that emerged over the last quarter that have caused us to lower growth expectations for 2008. Secondly, I will discuss our operating plan in response to these changes and explain how we intend to take advantage of the current environment. And finally, I will finish with our plans for product and service enhancement directed toward extending our competitive advantage over the long term. Now in business decision makers respond to economic uncertainty, we have seen an impact on our sale's efficiency at each stage of the sales process. Our senses to first correlate, close it's percentage, and time to close, we reflect hesitancy of the prospect. During this recent fall campaign, our senses rate was 43% compared to 50% last year. Our closing rate was 35% compared to 42% last year resulting in an overall sales efficiency rate of 1.5 sales per sales person per month compared to 1.85 during the last year's ball campaign. Now, this level of sale's efficiency was enough to achieve threshold objective of 1200 new account sold during the ball campaign, but not our higher target them. So in this period, it is harder to sell and you need more selling opportunities, but we still sell very effectively. Client retention since our last call has been a good news/bad news story. Our client attrition rate for the recent quarter averaged 1.1%, this is better than the historical fourth quarter average of 1.3% which we also experience in the fourth quarter of 2006.

The January client terminations however represented 9.6% of the worksite employee base, which is higher than the 8% level we experienced in January of 2007. This included an increase in the core market client attrition consistent with the changing economic climate and continuing a mid-market attrition which I will discuss in a few minutes. Now as we look ahead into February and March, termination notices are down indicating normal retention rates or even better than averages. So, we have had somewhat of a mixed bag in client retention since our last call. Now another factor in our business model model effected by the economic environment is the net of new hires and lay offs within our client base. Over the last 90 days, we have seen no growth in a client base, it's lay offs and new hires have cancelled one another out. Although lay offs are not exceeding new hires yet, there's slight tell when we had diminished over the quarter and is not apparent in early 2007 hiring plan. Another sign of slowing comes from the commission's page to sales staff at client location. This metric fell from a consistent 6-8% year-over-year increase in previous quarters to 3.4% in the fourth quarter. This indicate the pipeline in phase of new business within the client base has slowed somewhat. Now, when we combine sales retention and net hiring result into our January starting point in page worksite employees and factor in current economic conditions, we now anticipate unit growth in 2008 of 8-9% over 2007. This is down from the 11 to 12% growth previously forecasted and consistent with growth levels we expect in a struggling economy. The average paid worksite employee account for the full year 2008 is expected to be 4% lower than our initial guidance.

In response to these market conditions, we have opted our operating plans as scale back expenses were appropriate while taking advantage of targeted opportunities. Our strong cash position and cash flow characteristics of our business model allow us to be opportunistic during a slower economic cycle. The first change we made in our operating plan was to scale back corporate hiring in line with worksite employee growth expectation. Next, we decided to save some cost and open only four new offices as opposed to the 8 to 10 opening to originally scheduled for 2008. We still plan, however, to continue sales person hiring at an aggressive rate and fill the eight offices open in 2007. We are starting the year at approximately 280 trained sales personnel, which is 11% higher than the same period last year. A weak labor market may actually help us increase this number which is our leading indicator for future unit growth.

We also see an opportunity to help clients take advantage of the weaker labor market. Many skilled positions have been difficult to fill over the last couple years. The current environment represents an opportunity to fill out and upgrade staff at client location. Our recently improved recruiting operation will have a real opportunity to shine and benefit out client and mitigate the effect of layoffs in the client base . We will also keep our eyes peeled for opportunities to acquire companies or develop alliances with companies that have products or services that can compliment our PEO services. It is possible to get a double win with strategic acquisitions that can lower PEO service costs and offer new a revenue stream for Administaff with prospective or former PEO client. Another important decision we have made is to continue product and service enhancements that will improve our client experience and our competitiveness in the marketplace. Fortunately the cash flow dynamic of our strong business model allow for this opportunity to lead for our company that cannot afford such a decision when the economy turn. We will continue to execute our plans for mid-market service enhancement in 2008.

In the fall campaign, we were able to test some critical aspects of the re-engineering we conducted in this segment during 2007. The new service model was presented to a sample of current clients and was very well received. We sold six accounts out of the 18 opportunities in the fourth quarter with over 2,000 worksite employees and four of those accounts are on the new two-year contract. The most significant mid-market test involved conducting stewardship meetings with renewing account to provide detail information on the cost and value of their contract with Administaff. This meetings were conducted with 12 account with the 11 of renewing and the 12 that staying the contract for 6 months for further evaluation. These results have us very excited about extending these practices over the entire segment during 2008 to approve overall client retention. These meetings have also given us some insighted to cost and value-related discussion that may be beneficial to clients in the 50 to 150 employee range to improve retention as well. This will be a company-wide priority over 2008. The final area we intend to capitalize on during the slower economic period is the development of our HRTools products into a software as a service model.

Our research has revealed that an integrated suite of application at the right price point that includes job descriptions, performance reviews, policy development, and employee data management and reporting will fill a hole in the small-to-medium sized business marketplace. Over the course of this year, we intend to complete this application and use it in three ways to support our business plan. First, we intend to provide this application to current client as a nice upgrade to self-service capabilities within the employee service center we provide. This is will fill a proceed product gap in our core service and increase the value received by our client. Secondly, we intend to allow everyday client to maintain this application in the software as a service model on a per employed per a month cost basis, allowing us to monetize former clients. And thirdly, we expect to market this application to prospective PEO client and other small businesses through various channels to extend our brand and develop PEO lead. We've been continuing to develop marketplace alliances to offer other good and services to PEO client. This model has been working and has potential to be extended to a much broader customer base to small business that our prospects for both HRTools and our PEO services. We have been working for several years developing this non-PEO revenue sources primarily to our HRTools initiative and our marketplace alliances. For most of this period, the revenue and cost were immaterial.

However, the HRTools rewrite decision represents a much more significant investment than in prior years. Since this investment is entirely expensed, we expect these initiatives to prove slight drag of approximately $0.05 to $0.06 per share on our 2008 result. Both of these initiative are at critical juncture to capitalized on previous effort and investment, and we believe continuing on our current projectory is the right thing to do and will payoff in 2009 and beyond.

So to summarize, we have seen a transition over the last 90 days from uncertainty about the economic climate to validation that the small business community has adjusted their plans for a lower growth outlook. We have adjusted our game plan to control cost and direct resources at the most important near and long term initiative and we have adjusted our outlook accordingly. At this time, I would like to pass the call back to Doug to provide specific guidance for

Thanks, Paul. As most of you are probably aware, we provided our preliminary 2008 outlook during our previous conference call. At this time, I would to update our outlook based upon the outcome of our fall sales campaign and year-end client renewal period and the expected impact on our business by the current economic environment. Let me begin by saying that we typically start the year by forecasting a wide range for our key matrix. For 2008, our guidance produces an implied range of earnings per share growth of 5% to 15% over 2007. As for the details, let's begin with worksite employees. Base upon Paul's earlier comments, we are now forecasting monthly net unit growth of 1100 to 1300 on top of our January starting point. This results in a range of average paid worksite employees of 119,000 to 120,000 or 8% to 9% unit growth over 2007. As for the first quarter, we expect the average paid worksite employees to be in the range of 114,000 to 114,500. As for our pricing and direct call simetric, we expect gross profit per worksite employee per month to increase from $231 in 2007 to a range of $235 to $240 in 2008, which is a combination of $202 in mark-up on our HR services and a surplus of $33 to $38.

For the first quarter, we are forecasting a range of gross profit per worksite employee per month of $250 to $254, which is considerably higher than that forecast since the latter of three quarter of 2008. This is because we expect to have a greater surplus from our direct cost programs in Q1 when considering the positive up front impact of benefit plan design changes and payroll tax surpluses which are typically higher prior to worksite employees reaching their taxable wage limits. We expect gross profit for worksite employee to decline by 9% to 10% from Q1 to Q2 as we experienced less of an impact from these two items combined with increased payroll tax cast associated with new business. Thereafter, we would expect just a slight sequential increase in Q3 and a sequential increase of 4% to 5% in Q4 as payroll tax cost on new business further decline and price increases continue to roll in. Now, let us discuss operating expenses beginning with our full year forecast. In light of a softening economy and the expected impact to our unit growth, we have made certain reduction to our initial operating expense budget. However, we do intend to continue invest in our sales expansion and new products and services. Reductions from our initial budget include the lowering the growth in our service and support head count and certain G&A cost that corelate with our revise unit gross outlook. We plan to open four new sales offices in 2008 on top of the the eight sales offices open in 2007. This will allow for a targeted 15% increase in trained sales reps in 2008.

And as Paul mentioned earlier, we will invest a total of approximately $7 million additional dollars this our mid-market, a non-PEO initiative, HRTools, and marketplace in 2008. When combined with a budget increase of approximately 10% in our core PEO, we are forecasting total operating expenses in a range to $273 to $276 million. This increase is slightly lower than our forecasted 11% increase in total growth profit dollars. And as in prior years, and the high-end of our full year operating expense range is tied to additional incentive compensation which will only be accrued upon achieving a higher unit growth in gross profit result. Taking a look at operating expenses on a per worksite employee per month basis, we are forecasting an increase from $184 in 2007 to about $192 in 2008. However, with the mid-market and HRTools initiatives accounting for $5 of the increase and stock based compensation costs increasing in $1 per worksite employee.

As for our first quarter guidance, we expect total operating expenses to be in a range of $68.75 million to $69.25 million. As in our typical pattern, operating expenses are higher in the [first] and fourth quarter due to advertising and business promotion cost and at a consistent lower level during the two intervening quarters. We expect net interest income to be between $2 and $2.5 million for the first quarter and between $9.5 and $10.5 million for the full year based upon forecasted cash balances and our current environment of lower interest rates. We are forecasting an effective income tax rate of 35.5% and expect average outstanding shares of $25.8 million for the first quarter and for the full year. Finally, we have budget a capital expenditures at $18 million, a budget that increase of approximately $5 million over 2007, largely relates to the relocation and renewal of sales and service offices. Now before we open up the call to questions, I would like to inform you that we will be holding an analyst and investor day on May 8. We look forward to provide an update on both recent developments and our long term strategy by core PEO business and new products and services, and we will be announcing further details shortly. So at this time, I would like to open up the call for questions.

(OPERATOR INSTRUCTIONS) And your first question comes from the line of Tobey Sommer with Suntrust Robinson Humphrey Please, proceed.

Thank you. I wanted to ask you a question about the slower outlook, I guess, based on the part of your customers. And can I ask you what your sort of game plan is if that accelerates from here considering that it has changed versus what you saw on the marketplace 90 days ago? What if 90 days from now, the situation has worsened? What levers do you have at your disposal to pull to alter your game plan? Thank you.

That is a good question. We will be monitoring very closely what clients are doing, but what happens in our business this time of year is we are able to kind of get a feel for our client going forward plan, and there was someone of a battening down with the hatches that took place over the year-end cycle, but their game plan is pretty much in place for the going-forward. So, we are still pretty comfortable that we got the right outlook built into our goal and forward game plan. I think if we saw a further issues like layoffs, significantly exceeding new hires, and things of that nature, we again would look at some tightening up relative to the operating expenses, but we also have built in to our operating model that our incentive comp program triggers off the ongoing results that are generated. So, we got a little room in the game plan that way as well.

Thanks. For additional color, I was wondering if you could you comment on does your current outlook contemplate kind of zero network site employee additions among the existing customer base, or do you contemplate perhaps some slight headwind in that regard? And then I was wondering if you could comment on the timing of the office opening and expenses associated with them. And I apologize if I missed them in the prepared remarks whether they are kind of first half, second half, loaded or just evenly throughout the year.

Let me handle the first part. As far as building into our forecast, we felt like the right thing to do based on the hiring plan that we can see into our client base, that it looks like more of a steady state so we did not- - we built in pretty much dead on the water scenario relative to new hires and lay offs so that there would be no benefit but no major detriment coming from that aspect. So, I would say it is more of a steady state there. No gain, no loss. So maybe a slight impediment, but we did not factor in more of a wholesale major layoffs scenario because we do not see that coming yet.

Yes, until we- - as far as doing [EVA] sales office, those are fairly present and loaded to have those in place for the fall campaign. So, probably spread it with the first two to three quarters.

Thank you. And if I may ask one last question, I'll get back in the queue. You did suggest, I think that as a slowing market, you could take advantage of certain situations. I seemed to read into it that in addition to the share repurchases that you've been executing on recently perhaps there would be an opportunity for you to be opportunistic from an M&A perspective. I guess, first I did, I read that correctly, and if so, what kind of ares would you look at?

Yes, certainly. I did mention that much in my script and we do have an active process internally to look for targeted opportunities that could add components like other HR service components that can either lower our cost in terms of running the PEO, and at the same time, offer a new product through our hrtools.com and other channel strategy. So, we're going to be keep an eye open for companies that are out there that might be the timing is as economic downturn and is significantly difficult for them and maybe create an opportunity for us.

Thank you very much.

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

Good morning. Just one follow on to Toby's question is--to what extent do you have flexibility to further reduce expenses if the magnitude of this downturn ends up being a little bit worse than what you are anticipating?

Well, we certainly can adjust the hiring plans and things, and we could have a good system for being able to try to match that up pretty closely with our expected worksite employee growth. You know, we also have significant investment sets in our game plan for growing the sale staff, for advertising. The advertising costs are higher this year in an election year, so there are other components in there. But we would have to make a decision at the time based on whether it makes more sense to pour gas on the fire, or whether pairing back is exactly the right thing to do.

And when are the new offices scheduled to be opened?

Again, we are opening- - the plan is to open four sales offices next year, and those price spread over the first three quarters of the year. Fairly evenly.

So some are kind of already locked in?

Yes, we will open one this quarter and a couple next quarter, one in the third, something like that.

Okay. And then in terms of- - if we look at all the geographies with the exception of California, you continue to experience very strong growth. In California, it sounded like Northern California, you had a management change. Can you give us an update in terms of how you are seeing California shaping up on a go-forward basis?

Yes. I think we are feeling pretty good about the marketplace out there. We have had a couple things going on in the general marketplace relative to pricing, healthcare, and other components to have an affect. But the main reason that the growth rate was down there was that the early last year there was a large middle market customer, I think over 800 employees that went away, and so takes the year that kind of flush at to the systems. So, we actually have been doing better than it might look like in those numbers.

Okay. So, it sounds like things are generally going well. Are you expecting economic softness to be relatively- - even across the country or would you expect it to be a little bit more pronounced in California, Florida and the states that we are reading about that are the most challenged?

Yes. I expect it to be a pretty even throughout the country with the exception of the Southwest. Down here in Texas, we are a little bit counter cyclical. With oil prices this high and so forth, even though a lot of our base is not in the oil business, but that is certainly a significant part of the economy down here. And so, I think we have late bit of insulation there from the fact that we do still have pretty good share of our business, about 30 or so percent in the Southwest.

Okay. And it sounds like your- - I mean, the really good news this quarter is that the gross profit for worksite employee is expected to go up materially. Are you getting any push back at all from your clients?

Well, no. We actually have been passing on cost reductions to our clients. We had a 15% reduction in unemployment tax rates and passed on most of that back to the customer but allowed some of us to fall through the increase our gross profit, because we are out there doing the work that earns that reduction. So, things have lined up pretty much the way Richard predicted the last year, which is that we have a little less gross profit coming from the comp program, which has performed fantastic, but we have the benefits plan. This is the year that we do the benefit design changes and entered into a new contract to lower administrative costs and that cost center would perform better, and then, of course, the unemployment tax. So as relates to our first quarter outlook, our first quarter outlook actually got better that the last quarter at the gross profit line, and more than offset the reduction in the worksite employee count.

From your customer's perspective, and I know it varies across depending on the state they're in, but in general, what do- - what is their perception of what they're paying Administaff in terms of the fees that are kind of going through, and what sort of decline are they actually sensing that they are getting?

I think this is an area where we can do a better job and i think that's part of what was reveal in the meetings we held with customers last quarter. I think we can do a better job explaining what we're doing and how that flows in to the cost of value of their relationship with us. If you would look back over the past years, we have done a great job on managing one of the most difficult costs to manage, which is the healthcare costs. We have had a fairly stable environment there. Now last year, we did have to keep increasing price more inline with the trend label to catch up a little bit even though we are able to control cost some this year with the plant design changes. We have also really nice options to customers. It was great to be able to sit in the room and say we do have some new plan options for you this year. It's the tool that you need to you use to help control your cost at the client level. Of course, that translate to the some of the migration we've seen into the choice plus 250 plan, some other options for customers which lowers our cost during the fall. So, it really does depend on the specific situation of given client and then- - and what they need to do to help manage their cost, but I think we got a nice job of creating options to help them in that regard.

In general, their preception is that what they're paying is less.

Yes.

Okay. Great. Thank you.

I mean, they are getting less of an increase than they otherwise would have gotten in the healthcare side. By the way, I missed focus. I think I said they were coming in to the choice plus 250, I meant they are going out of that plan if there are other plan options. Sorry about that.

Okay. And so, it is not that they are paying less but the increase that they are seeing is going be less than what they were going to expect in this.

That is correct and less than they are hearing about from their friends and business associates in other, that they are hearing about in companies that are not with the Administaff.

Mark,this is Richard. I will tell you that we have been looking at our trend and healthcare costs for now for about 10 years and we have compared that to the Kaiser Family Foundation, who does an annual survey, they have been doing it since 1960 something. Every year that since we started tracking this, our trended cost in healthcare as for Administaff, the full business which reflects all the clients has been lower than that trend. So, this is a real value proposition that the business owner gets to see and it is our job to highlight that to them when it comes time specially at renewal. And Paul said we have done a really good job of finding out how they receive this in the number of mid-market accounts that 11 out of 12 and the 12 would not decide, I'd better stay on a few more months before I rethink my decision to change.

You know, that is -- like I say, we need to do a better job of communicating this to our customers. If you look over the last couple of years we have lowered the worker's compensation allocation by a third within our contract to customers. We've lowered the unemployment tax allocation 2 years in a row for most account. Sat specific as it done work exactly it cross the board, but we've controlled the healthcare cost increases much better that the average in the marketplace. I mean, you have all that up. this is really working for our customers but we need to do job of making that note.

Okay, and last question, on the worker's comp, that's obviously been going in your favor. How long do you think that can keep up particularly if we go into a softening economic environment?

Well, the allocation site of that part of our business is pretty much set in stone because it mirrors what is going on in the individual market because worker's compensation is a state-by-state kind of issue. On the cost side, it is actually- - less picks are set at the beginning of the year and then as the actual experience of claims and the number that are incurred and the severity of those claims actually turns into what- - how they are settled out and course with in that gives you the- - and our experiences then that that gives you a reduction because of the way we manage safety in the workplace to begin with. We review every single client in certain SIC codes before they even come on. And so we are actively doing things that would automatically give you some level of comfort that because the actuaries are not going to get to the level of our conservatism out of the box, because that is hard for them to do, so it does not guarantee anything is built in but certainly within you have got this many years of this kind of continued success in managing at the field level, claims, the severity of the claims, all that stuff, the claims administration team that we have to settle those claims, they are going to continue to have positive results in this cost center.

I think one of the things we will focus on that our upcoming analyst today is to show you each policy period and how i t evolves over the seven-year cycle, and then show you in a graphic what happens when you stack those on the top of one another, and then when you weigh in what we do from a pricing side you will see we are able to manage from a spread over on an ongoing basis. I think that would be one aspect of what we covered that day.

You know, that would be helpful. Great. Thank you.

Okay. And your next question comes from the line of Kevane Wong with JMP Securities. Please, proceed.

Hey, guys. How are you doing?

Doing great.

Good. And a few things first to good work on the benefit cost service for that is particularly impressive. Workers' comp, just to beat the horse a little more on this one. Sort of trying to get a gauge on- - well, looking at adjustments to prior years, looks like this year was like roughly $26 million which was great. How much of an adjustment to prior years sort of benefit that you have in your estimate for 2008?

Well, actually, we have not made any assumptions about 2008 until we see the result come about.

No. I mean, net, I'm sorry. When you are looking at the workers' comp costs that you have forecast was it 0.6?

Oh, yes. I'm sorry, yes. $0.6 of 1% of non-bonus payroll is kind of what we are forecasting now.

And with in that what is the sort of expected adjustment to prior year's cost?

Well, you cannot make assumptions about that until you actually see the claims get settled, so it is an ongoing process. So, we do not make a lot of assumptions about what is that going to be.

That's okay. So, you're just looking at certain net that's okay what is you expected to be in, well adjusted as you hopefully you....

We all look at our run rate.

We let the performance of the team produce the results in any given quarter.

And then just really the second or like I said things was- - competitive landscape there is under lot of sort of interesting moving pieces. I've heard of one particular large competitor being extremely price competitor tickling California. There is also looks like up site with other competitors that might be blowing up and giving opportunity to a bit of client out of those. Can you touch on those maybe two factors in other sort of major movements in the marketplace as far as competitor factor factor that you're seeing happening?

Yes. The competitive environment, something we keep a good eye on. We will have another good assessment of that when we get to our sales convention coming up. We have developed, over the last nine months or so, a competitive information base that will be making accessible to our sales staff. But definitely, it's more of a market-by-market issue. And of course, we are the premium service provider in the space. And so, the only real way someone can try to compete with us is on price. And it really becomes does someone want to pay a lower price for a lot less service, and I think we have got better ways to validate what we do and the advantages it brings and the service levels we provide compared to others. And that kind of information when we put it in the hand of our sales staff we are pretty excited about how we things that's going to play out as we go across the year.

As far as other companies that have problems and maybe companies being available for us to cherry pick, we do not really make it a habit of trying to take advantage of someone else's tough times in the most cases. The other CEOs, their client base really doesn't match up with the type of fire that we have because we are starting a premium service product, premium service offering to premium service buyer most to the others in our space have sold more of a cost -saving, saving money approach on a lesser product.

And just one follow on HR as to how to relate to pricing i guess. What is the percentage of when you are looking at renewals or new clients, how many of the discussions tend to have the structure RP where you have multiple competitors versus stall of sole source approach? I know, historically, it has been pretty lowest as far as the numbers of real takeoffs you've had. I'm sort of curious what that is like now.

Yes, that is a good question. Well, we find it in the smaller base of our business, it does not happen very often, it's not that kind of environment that remember, we're able to renew most of our base with internal renewal staff that works in Richard's pricing group. If so that in the most cases does not even involve a sales person or anyone else. So, as you get to larger customers, you do get in to more competitive situation or sometimes we'll have a competitor whisper in the ear of a customer how much money they can save. I mean, then that turns into more in debt process where we will involve our sales staff where higher level personality in that group.

Got you. Okay. And it is represented that able to throw that I think before that was not even 30% of [tangible] needed.

I don't have that cost on the top of my head but it is still a relatively small group that ends up being escalated. Yes, I was going say when you look at managing the timing of when they are supposed to renew and they do renew, we are over 90% of the clients renew in the month they are supposed to renew. So, it is...

And that 10% reflects the one that it does take a little more work to ripe to bring together.

Right.

And your next question comes from the line of Jim McDonald with First Analysis. Please, proceed.

Yes. Good morning, guys.

Good morning, Jim.

Just taking my last question, are you seeing customers be more price sensitive in this economic environment?

Certainly, I think, as over the course of the fourth quarter and the timing of it coming in with the year-end renewal cycle, the attrition at year-end really did kind of was related, I think the cost sensitivity for companies for which the economic turnaround has already had a predramatic effect that they needed to really battening down the hatches. so that is pretty much washed through at this point. It is kind of that first layer of those who were maybe in a tougher financial situation coming into the reversal.

So, what are these customers mostly doing? Are they going in-house, or what are they doing to save money?

Yes. Predominantly, it was just bringing in house or lower benefits being offered.

Some way to weather the storm in their particular operation. I also want to follow up on HRTools, is the investment or making all of software is the new services that have some cost associated with them as well?

It's mostly the rewrite of the software into the software as a service integrated application. But there are some ramp-up costs in the latter half of the year related to personnel. We need to manage that initiative as it scales up and to launch the new application as you get into the late part of the year.

And switching gears. On your interest rate guidance or interest income guidance, I believe you got it for $2.5 million in the first quarter, but if you multiply that out it would seem that you woudn't get to 9.5 to $10 million for the year. Could you talk a little bit about what's in your assumptions in terms of interest rates going forward?

Yes. Well, that is the increase over the latter part of the year is really building the cash balances up. Sort of regenerating cash each quarter. We are earning more interest income on that build up of excess cash that we are investing.

How low are you forecasting interest rates by the end of the year?

I don't have that figure at the moment, Jim.

Are you forecasting based on kind of forward yield curves?

Yes, we have considered a scenario or an environment of declining rates in our forecast, and I'll also tell you that our investment policy is more principal preservation, so our investment are conservative for the most part. And again, unlike some other business models out there, we do not make interest income on float just investing excess cash so it's not as large of an impact on our business model that maybe on some of our competitors.

Can you talk all about the duration of your portfolio? Do you have any long-term...

No, we have kept it very short. It is primarily auction rate security which we set rates on a biweekly basis.

Okay. Thanks very much.

Your next question comes from the line of Michael Baker with Raymond James. Please proceed, sir.

Thanks. Richard, I'm wondering if we could dig into the workers' comp a little bit. You obviously addressed the three key pieces from overall perspective that being administrative cost claims in actual management. I was wondering with respect to the claims specifically, can you give us a sense of his historically what you see in a slowing economy? Do you see a pick up? If so, is there a lag aspect to it? And then clearly it sounds like today you have better enhanced management capabilities to deal with that. Maybe you could address in a little more detail what you are doing on that.

Sure. Yes. There is certainly this- - I would say somewhat of a perception and somewhat of a reality in certain kinds of businesses where by in a tightening economy, people get concerned about being laid off and all of the sudden my back hurts. But we are mostly white color business. We have some gray and some blue, but in those particular segments of the economy, we are not nearly as receptive to that kind of a outcome. And even in the last recession, we kind of look for that and we really did not see much of that happen at all. When I look at going back six years ago I don't recall seeing the severity rates that jump out of the line because of the fact that we had eight or nine percent in the manufacturing sector, and 7 or 8% in construction sector and we still got the same kind of rate percentages of business today. It is different for us and it is not as pronounced and when I think about our total history in this segment, we have only had two claims that have ever exceeded an estimate of over a million dollars. It is just not as big of a deal for us number one.

Number two, obviously one of the things that we do on every single account when the day after a claim is reported, we have one of our safety people that goes to that location to see investigate the nature of the injury and what took place, and then if there are issues that are going on in that workplace, that are not conducive to safety, then we're going to send them a report and tell them I got an extra amount of time to change it or else, we are in to the relationship and we do that.

The other thing I would add to this dialogue that is really important is one of the things we bring to the table for our customers is a that is so helpful in a down economic environment is the way we manage liabilities. The way we manage through a lay off at a client location, the communication of it and timing of it and the level of support you provide the employees is what keeps employees from emotionally reacting and doing something they otherwise shouldn't do which is a fraudulent claim or etc. So, most of the time, when companies are going through a layoff scenario, they are fighting a lot of other battles. And, keeping employees from filing workers' comp claims is way down their list. But it is what they can pay attention to, but it's right at the top of the list of what we pay attention to. We are able to help organize, manage communication, manage support, outplacement function for the employees moving on, maybe even place them at another client location. I'm going on activities that mitigate that risk.

Which is why we continue to say in good times or bad, when you have an integrated service and we, as the co employer help the business owner manage that relationship, we can actually create positive outcomes for clients where if you disaggregate the service and have a separate health carrier and a separate comp carrier and separate this and that, you cannot manage that function together.

That is helpful. I had a separate question on the healthcare side. Previously when I asked you guys indicated you have not seen impact from United Health Service issues out there. Clearly United is having some impacts to their business on the unit growth side. I am wondering if that is still the case or if you are beginning to see an impact but have certain intervention dynamics that you bring into place. I wondered for an update on that side of the benefit situation

Sure. I will tell you that we have had a tremendously successful relationship with United Healthcare. And you know, their ability to grow their business compared to -- to grow and having them as part of the offering, are two completely different situations. We have seen that on the servicing side, I would say that they there are always going be times that there is a service issue at a particular location, but those are just random events. We have not seen anything that would give us what I would call cause for concern about the relationship and about their inability to service our customers and as a matter of fact, what we have seen in the last 90 days was some very positive outcomes with United Healthcare in one particular market that, the Illinois marketplace where they were actually able to renew and create a new long-term relationship with the advocate healthcare system in Chicago that had gone awry back in 2003. And so, that was a big one for us. So, we are seeing a little bit different situation.

And we also have service standards negotiate into our contract. But more importantly we have such an integrated system between our people who are advocates for our worksite employees in the claim management side. You know, I don't want to say the squeaky wheel gets the grease and where the is squeaky wheel, but there is some degree of that. But more importantly we have a grease skid on how to deal with escalated issues.

Thanks a lot.

In the interest of time, this concludes today's Q&A session. I would like to turn the call over to Mr. Sharp for closing remarks.

Well, thank you all for attending. We look forward to having our analyst day on May 8 and giving you an update on our long term strategy then. Have a good day, thanks.

Thank you for your participation and today's conference. This concludes the presentation. You may now disconnect, and have a great day.