沛齊 (PAYX) 2009 Q1 法說會逐字稿

Welcome and thank you for standing by.

At this time all participants are in a listen-only mode.

(OPERATOR INSTRUCTIONS) Today's conference is being recorded.

If you have any objections you may disconnect at this time.

Now I will turn the meeting over to John Morphy, Senior Vice President and Chief Financial Officer.

You may begin.

Thank you for joining us for our first quarter earnings release.

Also joining us today is Jon Judge, our President and CEO.

The teleconference call will be comprised of three sections: review of first quarter 2009 financial results including comments and updated guidance for the full fiscal year of 2009, overview from Jon, and lastly a Q&A session.

Yesterday after the market get closed we released our financial results for the first quarter ended August 31, 2008, and we have filed our Form 10Q with the SEC which provides additional discussion and analysis of the results for the quarter.

These are available by accessing our Investor Relations page at www.paychex.com.

In addition, this teleconference is being broadcast over the Internet and will be archived and available on our website for approximately one month.

Obviously, the US economy and investment markets are facing many challenges with investment liquidity becoming an even greater concern over the past few weeks.

Accordingly, we would like to start our conference call with some comments related to our over $4 billion of cash, cash equivalents, corporate investments and funds held for clients.

In summary, we believe our investments are in safe places and we continue to revise our investment strategies based upon actual and/or expected market conditions.

Past examples of our changing investment strategies include eliminating auction rate securities as an allowable Paychex investment choice due to potential liquidity concerns late last summer despite the fact we had never experienced a failed auction.

Another example was when last fall we exited the insured variable rate demand notes market where insurance was deemed to be a critical factor in credit ratings.

We have continued to invest in VRDNs, municipal bonds, backed by highly rated financial institutions that also contained the highest short-term credit ratings.

Recent market conditions have caused us to at least temporarily eliminate our investments in variable rate demand notes as we are not certain these instruments can meet our immediate liquidity needs for our short-term investments.

As of September 25th, 2008, today, we have sold substantially all of our variable rate demand notes.

No losses have resulted from these sales and the funds from these are currently being reinvested in US agency discount notes.

We have always maintained a conservative investment strategy within our investment portfolios to maximize liquidity and protect principal and we aggressively continue those strategies in our current investment environment.

Our policy is particularly valuable in times of market turmoil experienced last week.

Our priority is liquidity over yields, so we will always be conservative investing in the least risky investments.

We have been able to limit our exposure during the current investment environment as a result of our policies of investing in high credit quality securities with AAA and AA ratings and short-term securities with A-1, P-1 ratings, by limiting the amounts that can be invested in any single issuer.

As of September 22, 2008, we had no exposure to subprime mortgage securities, asset backed securities or asset backed commercial paper, collateralized debt obligations, auction rate securities, enhanced cash or cash plus mutual funds or structured investment vehicles.

We have not and do not utilize derivative financial instruments to manage our interest rate risk, and as of September 22nd, 2008, we have no positions in prime money market funds.

The first quarter fiscal 2009 was another strong cash generation quarter as we increased our cash position by over $80 million, payed out dividends of over $100 million generated a 44% return on equity.

In addition we entered into a one year revolving credit facility that can provide up to $400 million.

We do not expect any of the covenants to have any significant impact on our dividend acquisition or capital structure policy.

Now to get back to the first quarter.

Overall we are pleased with the first quarter results during this difficult times.

Most of our financial results were in line with the expectations we developed during our fiscal 2009 planning process.

In summary, net income and net income excluding interest on funds held for clients were slightly over expectations.

HRS revenues are right on expectations and payroll revenues were slightly less than expectations.

We will provide more color on these areas when we get to the guidance portion of this call.

We achieved record revenues and earnings per share for the three months ended August 31, 2008.

Net income was $149 million or $0.41 diluted earnings per share.

The slight decrease in year-over-year net income was attributable to the stock repurchase plan completed in December of 2007 and lower levels of interest on funds held for clients and investment income related to the significantly lower interest rates in fiscal 2009.

Operating income excluding interest on funds held for clients increased 11% to $197 million for the first quarter.

We continue to grow revenue faster than expenses, achieving operating income net of certain items at 39% of service revenues compared to 38% a year ago.

This is the highest percentage we have ever achieved for a quarter, a note-worthy accomplishment in these difficult times.

Again, looking more at the income statement, payroll service revenue growth was again primarily driven by client based growth, price increases and growth in the utilization of ancillary services.

We continue to experience a difficult market for new client sales, related to fewer new business starts, losses related to out of business and no longer having any employees continues to be about 10% compared to a year ago.

We saw a little bit of increase in that during the quarter but not very much.

Checks per client have decreased slightly over 1% when compared to a year ago.

Utilization of our payroll tax administration services was 93% of all clients, as of August 31, 2008.

Employee payment service utilization was 73%, with more than 80% of our new clients selecting these services which include direct deposit, access cards and ready checks.

Human resource revenue growth increased 16% for the first quarter to $131 million.

The following factors contributed.

Comprehensive human resource outsourcing services, client employees increased 17% to 446,000.

Workers' compensation insurance client base increased 15% to 74,000 clients, retirement service client base increased 9% to 49,000, and the asset value retirement services client employees funds increased 7% to $9.4 billion.

As of September 22nd, this balance was approximately $9 billion.

The growth in HRS service revenue as we mentioned was right in line with our expectations.

Interest on funds held for clients decreased 25% for the quarter to $24 million, due primarily lower average interest rates earned offset partially by higher realized gains on sales of available for sales securities and higher average investment balances.

The average interest rate earned on funds held for clients is decreased to 3.0% from 4.2% a year ago.

The funds held for clients average balances increased 4% for the first quarter of fiscal 2009, slightly higher than recent quarters, due to the calendar timing that was favorable in the first quarter.

Consolidated operating and selling G&A expenses increased 5% during this quarter, the increase was the result of our continued investment in personnel and other costs related to selling and retaining clients and promoting new services.

As of August 31, 2008, our employees increased 5% to 12,500 employees, compared to a year ago.

Investment income net decreased 75% to $3 million for the quarter, due to the lower average investment balances resulting from the funding of the stock repurchase program commenced at the beginning of August 2007, and lower average interest rates earned.

Our effective income tax rate was 33.8% for the first quarter ended August 31, 2008, compared with 32.2% for the same period a year ago.

This increase is the effective -- is due to the effective income tax rate, primarily the result of lower levels of tax exempt income derived from municipal debt securities held in our investment portfolios.

Taking a look at the balance sheet, cash and total corporate investments were $519 million as of August 31, 2008.

Our cash flows from operations were again strong, at $215 million for the quarter.

Our total available for sale investments including corporate investments and funds held for clients reflected a net realized -- unrealized gain of $34.4 million as of August 31, compared with a net unrealized gain of $24.8 million as of May 31st, 2008.

The three year AAA immunity securities yield decreased to 2.46% at August 31, 2008 from 2.65% at May 31, 2008.

Net unrealized gain was $19.6 million as of September 22nd, 2008.

Our net property and equipment balance activity for the first quarter reflected capital expenditures of $16 million and depreciation expense of $16 million.

Client fund deposits as of the end of the quarter were $3.7 billion, compared to $3.8 billion as of May 31, 2008.

Client fund deposits vary widely on a day-to-day basis and average $3.2 billion during the first quarter representing a 4% increase over the prior year.

Total stockholders' equity increased to $1.3 billion as of August 31, 2008, reflecting $112 million in dividends paid during the first quarter and a return on equity again was an exceptional 44%.

Moving on to the guidance.

Our outlook for the fiscal year ending May 31, 2009 is based upon current economic and interest rate conditions continuing with no significant changes.

Consistent with our policy regarding guidance, our projections do not anticipate or speculate on future changes to interest rates.

We estimate the earnings effect of a 25 basis point increase or decrease in the federal funds rate at the present time will be approximately $4.5 million after taxes for the next 12-month period.

Projected revenue and net income growth for fiscal 2009 are as follows.

Payroll service revenue growth is projected to be in the range of 5% to 7%.

This compares to our original guidance of 7% to 8%.

During the planning process, we were optimistic that despite difficult conditions, we could improve sales productivity, new business starts would not get worse, and our out-of-business and/or no longer having any employees would remain about the same at approximately 10% higher than a year ago.

We have implemented process changes that we believe over time will improve sales productivity, but new business for formation in our targeted markets remains weak.

Accordingly, we have revised our expectation for payroll service revenue growth to reflect the continued difficulty in selling new clients and a slight increase in out-of-business and/or no employees over the past three months.

Remaining relatively constant this checks per client which reflected decrease of a little over 1% during the past 12 months.

Human resource services revenue growth is projected to be in the range of 18% to 21%.

This is higher than the 16% we experienced in the first quarter, due to easier year-over-year comparisons in the last half of fiscal 2009 and continued EGTRRA billings through 2009.

The easier comparisons primarily relate to time and attendance sales in the last half of fiscal 2008, and we expect quarterly EGTRRA revenues to be higher in the last three quarters compared to the first quarter due to the timing of the billings.

The slight reduction in HRS service revenue growth guidance was related to lower bips on retirement service client funds.

Total service revenue growth is projected to be in the range of 8% to 10%.

Interest on funds held for clients is expected to decrease 20% to 25%.

And total revenue growth is projected to be in the range of 6% to 8%.

Putting these revised guidelines in perspective, in total they only represent an approximately 1% decrease to the revenue plan we open developed during our fiscal 2009 planning process.

While we here wish it was better, I would imagine that most companies wish they only had to deal with what we had to deal with.

Investment income is projected to decrease by 50% to 55% and net income growth is projected to be in the range 2% to 4%.

Growth in operating income net of certain items excluding interest on funds held for clients is expected to approximate 11% to 13% for fiscal 2009.

The effective income tax rate is expected to approximate 34% throughout fiscal 2009.

The tax rate is higher than for fiscal 2008 due to the anticipated lower levels of tax exempt income from securities held in our investment portfolios.

Interest on funds held for clients and investment income are expected to be impacted by the interest rate volatility.

Currently, there is a flight to quality in the markets which is pushing yields on these instruments down.

Generally such flights to quality are short-lived and yields are expected to recover.

Based upon current interest rates and economic conditions, we expect interest on funds held for clients and investment income to change by the following amounts in the respective quarters of fiscal 2009.

For second quarter and third quarter, interest on funds held for clients will be down 25% to 30%.

We expect the fourth quarter will be down approximately 15% to 20%.

Investment income in the second quarter will be down approximately 55% to 60% and third quarter 15% to 20%.

And we expect it to increase approximately 0% to 5% in the fourth quarter.

At this time, I would like to turn the meeting for questions -- not to questions, to turn the meeting over to Jon Judge.

Thanks, John.

Good morning, and thanks for joining us on the call.

I'll add a few comments on our quarter and then open up the lines to your questions and comments.

Overall, as John said, we're pleased with the results of the quarter, particularly given all the economic upheaval of the year in general and the last few weeks specifically.

Our operating results were solid, not as strong as in normal Paychex quarter but strong enough to continue our trends of setting new records for revenue and profit despite the economic environment.

Service revenue was up 7%.

Operating income ex float up 11%.

Cash on the balance sheet, up 19%.

And as John mentioned, margins expanded to 39%, the highest that those margins have ever been, and I think a testimony to the fact that we intend to manage this business for profitability, despite the economic environment conditions that we're in.

Client satisfaction and client retention continued at world class levels, protecting our recurring revenue model.

Payroll service revenue wasn't as strong as we would like but HRS and MMS were right on plan.

From a sales perspective, we're off to a good start.

MMS, our major markets group, had a very solid quarter and is positioned for a very good year.

We're getting good lift from the investments that we've made for the past couple of years, strengthening our offerings portfolio, things like time and labor management and hosting and benefits tracking and administration and expense management and several other applications, and as a result two very good things are happening in our MMS world.

One, we're achieving higher revenue per unit, and two, we're competing successfully in situations where we might otherwise have been eliminated for lack of functionality.

So MMS is off to a good start.

HRS is also off to a good start.

Very strong quarter on 401K sales.

Very strong quarter on insurance, particularly health insurance.

We've gotten good productivity out of of our sales force in the HRS environment and so we're very happy with where we HRS.

And then core, we had a good quarter in core in many respects.

But core is the place that the effects of the economy are being felt the most.

That's logical, given the importance of new business starts to our core business and the effect the credit crunch has had here.

The good news is there's lots of existing businesses to sell to and hopefully convince of the wisdom of outsourcing their payroll and HR needs, particularly at a time when these smaller businesses need to stay focused on generating revenue and being able to meet their next payrolls.

As you can imagine, we have a lot of focus and energy on this core segment, mostly in the area of execution.

Lots of blocking and tackling.

This business is a very activity-based business and there's no short cuts to doing this activity.

It's all about calls and presentations and closing rates.

We've made some changes in our management team to strengthen our hand.

We're made some changes in territories to improve our productivity and several other areas to drive focus on execution, execution, execution.

We just had our sales recognition event, so I had the chance to spend several days with our sales teams, and I can tell you firsthand, they're one fired up group and ready to do whatever it takes to win.

It was very inspiring for sure to be with this team.

So a good first start, a good first quarter and a good start to our year in a pretty difficult environment.

I think about all that's transpired over the past few months and I'm grateful to be at Paychex.

We have a very solid company, an excellent balance sheet with no debt, we're generating top line and bottom line growth, but we have a fantastic business model with recurring revenues in a very good competitive positioning, and 12,500 employees that are willing to do whatever it takes to succeed.

No one's in a better position to weather this economic storm, I don't believe, than we are.

At least that's one man's opinion.

With that, I'd be happy to take any questions you have.

Thank you.

We will now begin the question-and-answer session.

(OPERATOR INSTRUCTIONS) One please, moment, please, for the first question.

Our first question comes from Julio Quinteros with Goldman Sachs.

Your line is open.

Great.

Hey, Jon, real quickly, can you go back through just one comment?

As you were talking about the checks per client growth there was a 10% number you cited as well.

I don't think I caught what that 10% number was about.

Basically, out of business and no longer having any employees that loss code is about 10%, that's about where it was at the end of last fiscal.

During the quarter it got a little bit worse, not much, like 10% might have been to 11%.

But enough that we felt a little bit of a revenue hit.

Okay.

Got it.

Go ahead.

Checks per client is what we've experienced over the last 12 months we feel pretty good about that.

In fiscal 2002 and 2003 that number moved four.

We continue to see this environment where those who are in trouble have lots of problems and those who are okay seem to be hanging in there pretty good.

That's great.

Thanks for the perspective there.

Also, on the client base growth, coming out of the last fiscal year you were running around 2%, just based on the last notes that we're looking at here.

How did that finish this quarter, and how did you expect that to ramp going forward from here?

We only disclose that once a year and we hopefully would be better than that, but we might not be based on new business starts when we get down to the end of the year.

Anything now is purely conjecture, because the real period that this makes a difference on is in the selling season which really happens in December, January and February.

Got it.

Great.

Thank you.

Our next question comes from Adam Fresh with UBS.

Your line is open.

Thanks.

It's Jason Kupferberg for Adam.

Good morning, guys.

Had a question.

MMS you made some fairly positive comments on and I don't think you've broken out explicitly the revenue contribution there in the last few years.

Could you give us a sense of what payroll services growth would look like without MMS?

That would be breaking it out, wouldn't it?

Yes.

Nice try.

Okay.

Sorry.

Figured it was worth a shot.

We don't just not give it to you because we don't want to give it, because we don't want to give it.

Really the payroll business is MMS is developed is a 15 over business.

We had a 15 over business in core before we set up MMS.

A third of the MMS clients come from core which we actually actively convert them when we think a client would benefit from the upgrade, and we also sell more services into them, whether it's HR online, BeneTrac, those things.

So other MMS offering, we spend a lot of time in making the product line broader.

It's working very well.

We're very competitive.

But we still look at this, it's all payroll.

Okay.

When we look at the guidance for total services revenue, it looks like it's going to come in meaningfully below where you guys had trended during the last downturn, because I think you were able to maintain low double digit growth service revenue during the last downturn.

I mean, what's the big difference this time?

It seems like checks per client is actually not as bad this time around.

Obviously, you're trying to grow off a bigger base.

I understand that that's part of it.

But are there other factors at work here causing the growth?

There's a lot of different factors.

Back the last time we were barely over $1 billion, now we're at $2 billion.

The growth in HRS was greater because the business unit was only at around $100 million.

Now it's at over $400 million.

Client growth back then on a year-over-year basis was typically higher than it is now and some of the payroll ancillaries that we have today weren't at mature then.

So we like to go back and kind of compare all these kind of changes and recessions and the other problem is the recession back then is totally different from the one now.

The one back then, new business starts weren't a problem.

In this recession it's all about new business starts to some extent because credit wasn't the problem back then.

So I look at these two downturns and while they have some similarities, they have some things about them that are not similar at all.

Okay.

And then just last question, is the tenure of your sales force materially different now versus how it was during the last downturn?

No.

I would expect it is about the same.

Turnover is probably a little bit better now.

So maybe it's a little bit better.

We in the sales force have a great sales force and the experienced group.

That's why you go out to conference and you get to touch base with the top third and the seniority there is very high.

So things really haven't changed too much since back then.

Thanks for the color.

Our next question comes from Rod Bourgeois with Bernstein.

Your line is open.

Great.

Rod Bourgeois here.

I'm trying to reconcile the fact that bankruptcies hurt your payroll revenue growth, but I also heard you're having record client retention.

So is it -- how do you reconcile those two points?

When we talk about the retention, it's what we do and that is we normalize it to what a normal client failure would be.

So from that perspective, you're right, if we put it in -- didn't take out -- if we didn't normalize the out of business then we're slightly below record but we're almost right on it.

The retention is going extremely low.

Our client satisfaction is at the highest it's been.

It's in the low 90%.

So both of those things are boding very well for us.

So obviously when we lose -- when clients go out of business, there's not a whole lot we can do with that.

Can you tell us what percentage churn you're experiencing and how much of that is bankruptcies?

It's slightly over 20%.

So in total we're not at a record right now.

And bankruptcies are probably about 2/3 of that.

I don't want to say bankruptcies.

The technical term is out-of-employees or no employees.

We don't always know whether they went bankrupt.

Got it.

Makes sense.

Okay.

Great.

And when you look at the pressure on your payroll revenue growth that you experienced this quarter, can rank order the issues?

Was it new business starts that was the biggest problem versus out-of-businesses?

Well, first of all, when you -- you've got to differentiate between P&L revenue and sales.

Right?

Because sales in a given year will only affect somewhere in the neighborhood of 10% to 15% of our revenue.

Right.

So on the sales side, new business starts -- in core new business starts is probably the most significant issue that we're facing right now, because a substantial amount or not inconsequential amount of our normal new business comes from new business starts or new business originations.

So that would -- in my opinion, that would be probably the biggest issue that we're facing on the core side.

In terms of the core revenue, the biggest issue would probably be the fact that it would be the fact that we didn't get as many sales in the prior year as we would have liked to.

Okay.

And guys, given that the credit market crisis is still alive and well, are you assuming that new business starts and related issues are going to potentially get worse this quarter, or are you seeing that turn at all?

We didn't bake anything in.

We baked pretty much where we are as where we are.

It's hard to believe.

You have a pretty good view on this world.

I would sort of be interested in your view.

It's hard for me to believe that the credit environment is going to get worse than it is right now, because it's really bad.

So it seems to me like the only thing you can assume is that the credit environment is going to stay the same or get better.

Yes.

I mean, that's putting faith in the bailout plan which is kind of yet to be determined, I guess.

It's not just the bailout plan, I mean, these banks have to make money.

How are they going to make money if they don't loan money?

Sure, I hope that's the case.

I hope we're at the bottom.

On the buyback front, are you guys considering a buyback, or given the credit situation that we're in do you hold your cashier?

We're always open -- are you talking about buyback of the stock?

Correct.

There's nothing that we're doing right now that would lead me to tell you that we're thinking about doing another buyback.

I mean, we're not that far off of the last buyback.

We do believe that cash is a good thing to have in this environment.

We do believe that in these types of economic conditions, that there is always the opportunity for the strong to take from the weak.

And one of the ways that you do that is to be in a good cash and credit worthiness position.

So right now, I think we'll probably hold pat with the cash on our balance sheet and continue to build the cash on our balance sheet.

We're thrilled with what happened in the last quarter in terms of the cash we put on the balance sheet.

We're about $.5 billion of cash on the balance sheet, so we'll continue to keep doing that.

Should I assume you're seeing more attractive acquisition candidates out there in this environment?

Not as many as I would have liked to have seen.

There are clearly acquisition candidates there, particularly in the smaller payroll, we continue to buy small payroll companies.

We'll do that throughout the year.

Larger payroll companies, there aren't that many of them left, if any of them go on the block we'll obviously be one of the first people that will be contacted and we'll take a look at those.

We're always looking at potential opportunities where we can buy companies that add to our product portfolio and make our sales position stronger and improve our revenue stream.

So all of those things are part of our strategy and as soon as we get one where it's at a point where it's prudent to talk about it, we will tell you about what we're doing.

Great.

Thanks, guys.

Our next question comes from Gary Bisbee with Barclays Capital.

Your line is open.

Thanks.

Yes.

Just a question on the costs.

You continue to do a great job of getting the margins.

It looks like with the falling revenue you had to hold back your cost growth to less than 5.5% year-over-year.

I guess I just wanted to get your sense on, is this sustainable?

And Jon Judge, I think you made a comment about even in a tough environment you're going to remain focused on profitability.

But do you give something up next year?

Does it get harder to rebound if you underinvest now to hit the earnings numbers?

I guess any thoughts on how you think about that.

It's a good question, in some respects it's more of a philosophical question.

But it's -- our feeling is that whenever we find something that we think is a good investment opportunity for us, we will invest in it.

And we'll do it in whatever means that we have to.

What we're doing in an environment like this, though, we have a very strong belief that revenue earns expense, and so if we don't see that there's a reasonable return, and we're not going to take fliers on things.

We're very disciplined in all of the investment proposals that come to us, and we have a culture and an environment inside the company that encourages people to bring investment opportunities forward.

But we also force a fairly disciplined pro forma view on that and if we don't feel like the idea has got a reasonable chance to be successful, we won't invest in it.

But on an operating side of the house, though, we are very disciplined in the fact that we build plans that assume a certain level of revenue and for that we allow a certain amount of expense, and if we're not getting the revenue, we're pretty disciplined about taking the expense out.

It's not anything that we'll -- that we don't believe that it's anything that will hurt our future.

The types of things that we cut out are the types of things that won't have any impact on either our near-term or medium or long-term health.

Can you give us a sense what those types of things are that you're able to cut out?

You might have less meetings than you had in the past.

You might make it more difficult or make less money available for internal travel to meetings and we might cut out some nonessential meetings that we don't need.

We might delay projects for a quarter.

It's a variety of things.

It's the normal list that any company would look at.

When it comes to investments in things that will improve the health of this business, as long as I've been here and for everything that I know for the time that Tom was here, there was never an investment that was something that could grow the business that was never upheld.

One thing we use the word cut, remember, we're still growing.

So it isn't really cutting all the time as much as you might not let somebody spend something extra.

You tell them you've got to be more productive.

When you're still growing, it's really about not spending money you don't think you have.

So it isn't like eliminate ago whole lot of things and if you can't find things to eliminate, you're in trouble.

Okay.

And then just following up on the last question on acquisitions that you got, last time there was -- last recession when there was the difficult revenue environment, if I remember correctly you bought Advantage Payroll sort of halfway through that to help generate some more growth.

You've said you don't see as much out there as you would like.

Is your appetite much higher given the environment right now, or is that really not?

Well, I'd say the way you put that sentence together was revisionist history.

We didn't buy Advantage because we were a recession.

They were two entirely different scenarios.

But our financial strength, both in the cash that we have on the balance sheet and the strength of our stock as a currency and in our borrowing ability, if we found something that would materially help this company, we are in a very good position to execute on it.

Okay.

Thanks, that's all I've got.

Our next question comes from [Shawn Connelly] with RW Baird.

Your line is open.

Good morning.

I'm calling in for Mark Marcon.

My question is, can you discuss trends throughout the quarter, as well as what you've been seeing since the end of the quarter?

Are there any specific geographies or verticals where you're seeing particular signs of strength or weakness?

First off, I don't like to comment on any trends that are almost a full quarter, because this business while it has a lot of predictability to it.

It's got calendarization.

Things move around, if you look at two weeks you're never sure what you've got.

What's happened since the last two weeks, I wouldn't probably know, but I wouldn't probably comment if I knew much about it anyway, because I don't know what it would be.

The quarter trends, I don't think anything changed dramatically.

The new business starts, just the credit crisis is kind of stuck your where it is.

Out-of-business, slightly worse.

Checks kind of stayed the same through the whole thing.

So nothing in my mind really significantly changed.

So we're kind of a little bit where we are is where we are.

Okay.

And then I know in terms of your guidance, you said that the guidance is based on the current economic environment.

And just if you look at headlines it seems like things over the past four weeks have even got worse.

So do you think that your guidance really incorporates how things have been the past four weeks as opposed to just what we saw in Q1?

Again, I wouldn't adjust something off of four weeks and I don't know where some of this is going to go.

And one thing I know we're going to get the question eventually so I'll talk about it, is we've got payroll revenue growth of under 5% last quarter and we've got a guidance of 5% plus.

Last year we had the same conversation.

Payroll revenue growth was 7.8% in the first quarter and we had guidance higher.

Second quarter it moved all the way up to 8.8%.

Now whether it will go up a point, I don't know.

But I'm pretty confident right now that second quarter payroll revenue regardless of the environment is probably going to be a bit stronger because that's how the calendar works.

But the reason you've got to look at this data, some people jumped on the fact that the client funds balance increased more than it has in the past few quarters.

And it did.

All because of where June 30th fell.

Because it fell I think on a Monday and we held the money longer and affected the average for the whole quarter.

So you've got a lot of things going on in this business, some repeat, some don't.

And when you look at all these the short periods of time you really can get caught with some bad predictions.

Okay.

And then my last question is in terms of your HRS guidance, it implies that we're going to see some acceleration and from what we saw in Q1.

And I know you mentioned that part of this is due to the lower revenue in the second half of '08 in terms of time and attendance and higher benefits from EGTRRA.

Are these the only reason for the acceleration, or do you expect to see a pick up in other areas such as your health insurance initiative?

We're not predicting any -- no, health will keep growing right through the quarter because it's so small that when you're going to take something $10 million to $20 million it's clearly going to grow each quarter.

Not too worried about that.

I wouldn't even call that an upturn.

We kind of don't want to use the words in this call about acceleration.

We don't compare sequential quarters.

You really got to look at quarter-over-quarter.

Sequential quarters in this business doesn't mean much.

I know that everybody wants to kind of look at it that way.

And we keep coming back.

I wish it worked that way, but it doesn't.

We could have a sequential quarter be worse than the one before it with nothing happening, simply that's the way it worked out with some of the seasonality.

So we're not predicting anything to get better.

We are looking at the fact that time and attendance, we talked about the revenue recognition slight change made in the last quarter.

That's going to help us in the fourth quarter.

The EGTRRA billings, I know pretty much what they're going to be.

The first quarter is when we got started and we know they're going to be some fair percent higher in the last three quarters by quarter.

So when we look at all those things, that's why we feel confident.

We have some easier compares as well coming up.

Great.

Thank you very much.

Thanks, Mark.

Our next question comes comes from Bill Murphy your -- with Morgan Stanley.

Your line is open.

It's Charlie Murphy.

Thanks very much.

John Morphy, is it possible to isolate how material the EGTRRA billings are and do they go away in fiscal '10.

We said they're approximately $10 million.

And it is a one time event that we talked about before that we have a one time expense event that we don't want to get into a lot of detail about because of competitive conditions, but it's something that we're doing on a conversion.

So it's unusual, but the impact in the P&L year-over-year should not be significant.

Okay.

Thank you.

Ex the revenue but not the net.

Got it.

Thanks.

Our next question comes from [Nel Taptardo] with Centennial Asset Management.

Your line is open.

Yes.

Thanks.

Just to clarify, the checks growth per client, it was down 1% year-over-year, or it was talking about sequentially down 1% but still up 10% year-over-year?

No.

The checks per client are down about 1% year-over-year, so if it was 20, that's not the number, take 1% off of 20 and that's what it would be.

Okay.

You just said that you don't think the situation for the new business growth to improve.

Presumably, I think on a year-over-year basis it was just about 1% to 2% growth versus you had been forecasting that you would be growing about 4% to 5%.

Is that a reasonable assumption to make that for the fiscal '09 probably I think it would be still remaining in the 1% to 2% range kind of?

You're talking about -- you've got to say that again.

I didn't get you.

New business sales growth in the previous conference calls you had mentioned that you planned to grow about 4% or so every year.

But looks like in this quarter, due to tough market conditions, tough credit markets and tough new business starts, it was just about 1% to 2% from the numbers it looks like.

Now, as you said earlier, that probably the markets may not improve in the second quarter.

You are not seeing any kind of improvement.

Now is that a reasonable assumption that going into the fiscal '09, looks like the credit markets are not going to improve quickly.

That new business sales growth might remain in the 1% to 2% range for this year?

First off, we never gave a percentage growth on new business starts or new business clients.

Client growth basically we disclose once a year.

I'm not going to conjecture on what it will be.

We look at the markets staying about the same ,but I'm not sure what they're going to do.

Okay.

On the human resources, you are projecting 18% to 21% growth.

I think last year it was about 19%.

So you're doing in the same range.

Where is the confidence coming from that for that kind of a growth continuing in this fiscal year and do you think that can continue for another year or two?

Well, we give guidance, we take it very seriously.

So when we give it, we firmly believe that's what it's going to be and it's supported by our internal forecast process.

So basically when you look at HRS right now, we have seen good sales in virtually almost all the products.

We know that healthcare growth is accelerating.

We've got the EGTRRA.

So we feel pretty comfortable.

Now, are we the perfect forecasters?

I wish I could do that.

But this what is we believe it will look like.

Yes.

Okay.

One last question, on your division policy.

I think the payout is about 75%.

The growth has come down to about 2% to 4% on an earnings basis, looks like.

If you look at that pay out, are you going to -- are you able to maintain that return on equity of about 28% that you had been putting out for last many years?

Is that a doable number or do you think that the return on equity might be coming down?

Return on equity, because of the stock buyback, went from 28% to 44% this quarter.

I don't think it's going to come down substantially.

It's going to probably stay in the 35% to 40% level, at least.

But in our business I'm not sure, while that's a great number and I like it, we're going to generate cash.

It's kind of a buy product of all the things we do.

But the dividend payout we're comfortable with where it is.

We increased it in July because we think we've got to increase it equal to about net income growth.

We're not going to let the pay out drift down at this moment, but that's subject to the board.

And the reason the net income is only 2% to 4% is because interest rates are down.

If you look at the number that we look at as being the strongest number which is net income exclusive of that, we're up 11%, we're looking at 11% to 13%, we're about 11% for the quarter.

So when I look at the growth of the business right now the part that I can control, it's double-digits.

Now, when I look at the part I can't control, unfortunately that's only 2% to 4%.

But interest rates eventually this will annualize out and the problem with interest rates will go away probably .

When it starts to diminish in the fourth quarter of this year, it certainly will diminish next year in the first

Okay.

So you will remain at the same payout ratio in that case, 75% on your earnings, increase dividends?

It's not bothering us.

Okay.

Thanks.

Very comfortable.

Okay.

Our next question comes from Glenn Greene with Oppenheimer.

Your line is open.

Thank you, good morning.

The first question is for Jon Judge.

You gave a little bit of color on this, but if you could just sort of refresh sort of the measures that you took on the sales execution side and what's sort of been the early response.

I'm sure whatever you've been doing has sort of been masked by the macro headwinds and the slower small business formation and more business failures, what not.

But if you could give some color around the progress you've made there.

And it varies by the different sales divisions.

But the one I was talking about is predominantly core, because core is the one that the economic headwinds is having probably the largest impact on.

And what I said was we made some changes in some of the management team.

We made some changes in some of the territories for productivity reasons.

We've done some different things relative to training.

But probably the most important thing that we're doing is -- this is a very activity-based business.

It's all about the calls that our teams are making on the various referring sources, whether that be CPAs or existing clients or banks or other partners or some of the work that we do in our national sales call center to generate the opportunities that lead to presentations that lead to closures.

So it's really -- the point I was trying to make is when you get into an environment like this where the sledding gets tougher, where it's harder to get a decision out of a client, where there are more decisions that's are pending, waiting to start as the client thinks through their own economic capabilities.

It's environments like that where we believe that the best thing that you can do is get back to as simple a model as you can, stay focused on only those things that will generate sales and revenue so to get the rest of the noise off the line and just sort of manage through the basics.

And that's basically was we're doing in the core side of the house.

Because that business is business driven that way.

Now we're fortunate in that we have a very good sales methodology in this company.

It's very data driven.

And it's just a lot more focus on the basics and a lot less time being spent on things that aren't directly related to either sales or revenue.

It's probably too early to tell, though, the success that you may be getting from some of these measures and we're probably not going to know until the key sort of selling season in the February quarter.

Well, I think that's right.

But some it is things that we do as a matter of course.

Making sure that all your territories are filled when you open the year.

Getting your quotas out and getting all of the change in any calendar year calmed down as quickly as you can, so that you can get right into the mode of selling.

Holding your people more accountable in terms of the activities that are expected and the results that are expected.

And so yes, you're right, those things tend to take -- they tend to take more time.

You're not going to see results on them right away.

They're all very good things.

I mean, in any business when you get more disciplined and you get more down to the basics and you drive activities that are directly related to the results that you're trying to get, you're going to get better results.

So I'm pretty comfortable and pretty confident that that's going to happen.

Okay.

And just real quickly, pricing, I assume it was sort of 4% or so heading into the year and has that held?

Yes.

Our tradition of many years, we continue and again, it sometimes amazes me, but I've been here long enough to realize it's one of the great things about this business.

It's been released.

It is in.

This year, in terms of resistance or other fallouts from it has been no different from any other year.

Would it be wrong to think that you're sort of sub 5% corterial payroll growth?

If you back out 4% you're volume growth's about 1%, or is that not the right way to think about it?

Client growth last year in payroll was 2%, so you're not too far off.

Okay.

All right.

Thank you.

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

Your line is open.

Thank you.

Jon Judge, you had said I think during your prepared comments that MMS is no longer getting eliminated for lack of functionality.

Could you elaborate on that a little bit?

It could be as simple as if you're looking for a solution that where you require time and labor management, we don't have a time and labor management module, then if that's an important part of what the client is looking for you get eliminated from consideration.

If they're looking for a type of sophisticated expense management capability and you don't have one, you get eliminated if the other players do.

So it was as simple as that.

And can you give any sense for the magnitude of kind of the market that's opened up over the last 12 to 18 months as a result of enhancing the functionality of the product?

No, I can't give you a specific number.

I can tell you this conversation was held multiple times with our sales teams over the last several years and there's no question but that the richer functionality that we have to sell has given us -- has allowed us to win situations that we would have won in the past.

In terms of trying to put a number to the size of that segment of the market, I can't do that.

Great.

Thank you.

Our next question comes from [Chingu Wong] with JPMorgan.

Your line is open.

Thanks, good morning.

Question on wage inflation among your clients.

Any noticeable change in the trend there and also are you seeing any change in the number of hours worked at your clients?

Well, we don't track hours worked so I wouldn't know that.

Wage inflation, I think it's about the same, but I wouldn't know.

The one we really get to look at on wages is when we go look at the bonuses, but since client funds are up around 4%, I know only a little bit was related to the calendar thing that accelerated.

So it's been about that same, so I'm going to assume wage inflation is about the same.

Okay.

But on the outlook for the float balance growth, it sounds like we should assume something below 4% for the rest of the year, am I correct in thinking that?

I would say approximately 4%.

Okay.

And then just lastly on the retirement services, Jon, made a comment lower bips.

Do you mean lower pricing or is it lower assets under management?

It's lower assets plus this trend that we made towards more detailed funds decreases the bips some.

That's -- we're the leader in 401K.

We're making all the right moves in the marketplace.

It isn't often when your Vice President of Sales says the product is great and isn't asking for anything.

You only get that for about five minutes every year.

The product is very good.

One reason it's good is we moved ahead because we're leading the charge.

In doing this we knew we were going to have to give up some bips on the money because these products don't carry the same levels.

So it's just something that's there.

If we didn't do that we wouldn't maintain our number one position.

Got you.

Then the 9% growth in client -- retirement service clients, seems like it's holding up around 9%.

Is that rate sustainable in your view?

Yes, that number was a little bit affected in the last couple years by an acquisition we did, so 9% is pure organic without any acquisitions.

And we feel -- we are -- the thing that I guess we're surprised about and pleasantly is because we talk about all the other stuff is the HR selling efforts have really been very good.

I mean, you would have expected they would be troubling because you would say those are the ones that are more optional.

But to date the sales force, we put some changes in, changed the compensation a little bit, not that it was more, we changed how we paid it, did some other things on training, got the product under better control and the new stuff, and I think we're seeing some definite benefits which is enabling us to meet our sales goals in a marketplace that you wouldn't normally expect to.

Great.

Nice execution in a tough environment.

Appreciate it.

(OPERATOR INSTRUCTIONS).

Our next question comes from with Nel Taptardo with Centennial Asset Management.

Your line is open.

Yes, thanks.

Just one question on the German business you talked about.

Could you just update what the situation in Germany, how the business is progressing there, what your expansion plans are there, and is it seeing the same kind of scenarios that you're seeing in the US?

The German business is going well.

It's running ahead of plan.

We're at, I don't know, about 1,500 clients, 1,300 clients, something like that at the moment.

Everything over there is going pretty much the way we expected it would be going and we're into four cities now.

I think the point that we've made in the past is that it's a business that is coming up.

In terms of materiality, it's not material to the big picture yet, and once it becomes material, then we'll talk more about it and give you more information on it.

But or right now it's doing very well but it's not material.

Okay.

Thank you.

Our next question comes from Mark Marcon with RW Baird.

Your line is open.

Good morning.

I'm sorry, I may have missed this because I'm calling from the road.

But can you talk a little bit about as we go out towards next year, what your expectations would be with regards to the sales force productivity and dealing with the challenging environment?

I'm talking about calendar '09 and potential pick up in terms of sales force productivity and how we should think about that vis-a-vis what could still be a fairly challenging economic environment.

I think two things.

Is this Mark?

Yes, it is.

I think two things that I would say on that, Mark.

I would say, one, you should absolutely expect that we are going to get productivity from our sales force and it will be different by sales force.

In the case of the core salespeople, we're trying to drive higher units per salesperson, we're trying to get better productivity from some of our territories with some of the territory alignments that we've done.

We're trying to make progress in attrition.

If you look at the attrition that we have in our sales force, it may be true in sales forces that are similar to ours, the majority of our turnover comes from salespeople that are in the one month to 18 months to two years.

It's the overwhelming majority of our turnover.

And so we're doing lots of things there to try and make sure that we're hiring the right people, that we're on-boarding them properly, that we're giving them the right tools and training to make them successful and we're managing them to success.

You should expect that we will get productivity improvements in all of them.

We're doing different things by the way in each of the sales forces.

So it's not just a core scenario.

With that said, though, the productivity that we expect to get, we bake into our plans and put into our guidance.

So it's already in all of the number that we release to you.

Right.

I understand that.

I guess what my question is, is I'm aware of the productivity enhancements that you are putting in place and the expectation that those would manifest in better sales numbers, all other things being equal.

I guess what I'm wondering is, how confident are you that we'll actually see the results of these efforts if the environment is weaker?

In other words, are the productivity enhancements so terrific that even if things are worse in the first half of '09 than they are now, you'll still -- you would still expect to see a boost?

Yes, that's a very interesting and tough question.

I think thing I can tell you is that we expect to see improvements out of the productivity.

If the environment gets worse, you're in a position where we would be in a worse place if we didn't do these things.

Sure.

Can I give you a numeric answer as to whether or not these productivity improvements will cover X amount of down fall in the economy?

I could give you a planning number.

I don't think I will.

But, I -- it's a very hard question to answer.

Yes.

I guess I -- it seems relatively obvious that things are at least for now getting a little bit worse, and so -- and you've probably seen that in a few of your geographies.

I was surprised -- it is, that's correct.

I mean, the credit situation is definitely caused some issues for us but we also -- we're also -- we're a company that brings in 120,000 or 130,000 new clients a year, so it's worse than what we are historically used to.

It's in some cases less than what we want.

It's still pretty good performance in and of itself.

But the environment is one that's kind of the one that's interesting to me.

I don't know how you all feel about it.

But I was sort of in the position where I felt like we were at least halfway through this thing, if not at the bottom, near the bottom.

The activities of the last two or three weeks gave the real prospect of the bottom falling out even more.

Yes, I guess that I was trying to get to.

I'm sure you've seen some geographies have been a little bit worse than others and whether or not you've seen the positive impact of the new productivity enhancements come through even in those markets.

I feel -- I do feel much better about the activity that we have and much better about the focus that we have.

On the geography piece, if what you're referring to is the fact that it -- when we think about last year, we were blessed for a while because as the economy was starting to turn sour, we didn't -- we looked at our numbers pretty hard, and we weren't seeing any of it in the first and second quarter last year.

It didn't start to show itself until the third quarter and in that case it was a geographic thing.

It showed itself in Florida.

It showed itself in Arizona.

It showed itself in Nevada.

It showed itself in southern California, largely led by real estate and real estate related environments, like construction, complicated obviously by the debt problem -- by the credit problem.

Now I would say it's not so much that it's concentrated in those areas anymore.

It's pretty much across the board.

But, again, as I said earlier, until the last couple of weeks, I thought that we -- if I had to place my bet, my bet would have been that we were better than halfway through this and getting ready to bottom out and take the return trip to a better time.

Last week kind of surprised me and I'm sure lots of other people.

Yes.

And can I just ask you with regards to -- and I apologize if this was asked earlier.

But it's higher possible we're going to see a material steepening of the yields curve.

With your new financing facility which would give you more flexibility in terms of how you structured the portfolio, is there a thought that you would go out a little further on your duration side to capture higher yields, Jon?

Well, the whole facility is in place to basically be able to do that, even though we only have to bow row less than 25 days a year to do it.

So that's going to have to be balanced against what's going on right now.

We started down on this careful road on investment all the way back when we talked about the auction rates.

And every time we think we've stopped at a place where we're okay, we've been good enough to anticipate and move again.

We looked at the insured variable rate demand notes, we're okay, the banks and the institutions.

And all of a sudden, it isn't that they won't trade, and what you have to realize, I may have to get $1 billion on a day because I've got to go pay all these taxes, and so we can't have stuff saying well, it might clear tomorrow.

Okay.

So and we just don't run the business that way.

Some things have happened here that I wouldn't have expected.

Things keep getting a little bit worse.

Hope this turns.

From what we can tell, I think the Fed and the government are all doing the right things.

Little delay that they've got going on it kind of concerns me because I don't think they've got all day to do this.

But congress sometimes, they move at the pace they move.

But we've just got to keep watching.

Do I hope we get a little more yield?

I do.

We have to have more liquidity.

Got it.

Thank you very much.

Our next question comes from Glenn Greene with Oppenheimer.

Your line is open.

Yes, it's a similar question related to the yields on the float portfolio.

But as you moved out of these variable rate demand notes have you sacrificed some yield?

And I'm just trying to --

Yes.

-- triangulate that with sort of the better sort of float income expectations for the full year.

Yes, we have.

It's the strategy that John talked about, principle protection over yield.

If you have to rank those in rank order, principle protection ranks over yield and liquidity is king.

So how is it that you were able to --

They were better all the way.

These things that happened the last week we hope are not going to stay this way.

Our yields were better in the first quarter were better than we anticipated.

That's the major reason that you changed the outlook for the year on that?

It was based on actual occurrences and where the portfolio was.

Now whether that's going to change because of what's going on this week, that's why I said, we're only temporarily out of the variable rate demand notes.

If we have to stay out of those forever, that's not going to bode well for anything.

I don't believe that will happen.

Okay.

Thank you.

(OPERATOR INSTRUCTIONS)

Well, it sounds like we don't have any more questions.

We want to really thank everybody for participating today.

We had well over 150 people on the call.

We at Paychex, we wish life was better right now too, and we're pretty proud though of the accomplishments of our people in these difficult times, and we look at the first quarter results just like everybody else does with most things, they wish they were better, but we're pretty glad they were where they were.

So thanks again, and we look forward to talking with you in the future.

This concludes today's conference.

We thank you for your participation.

At this time you may disconnect your lines.