Paychex-The Bull Story

You probably have heard of Paychex-they are the company who your company outsources their countless paperwork and staffing needs for things like 401(k) plans, HR administration, and payroll. A majority of their business comes from small businesses, who have no (or little) pricing power and time to do this stuff. They also act as a PEO, or Professional Employer Organization for larger companies, which means that they act as the employer and then lease the employees to the company.

These businesses all have extremely high barriers to entry, and as a result, the market is dominated by a small handful of larger players. Paychex has a 10% share in this market, which places them in “second place” to ADP, who has a 30% share. Paychex has 543,000 clients (98% less than 100 employees), which means that no single customer contributes a material amount of revenue, limiting risk if a client leaves. According to their latest 10-k, Paychex has a client retention rate north of 80%, with most of the attrition attributed to customers going out of business, not switching providers.

Paychex projects that they can achieve 15% income growth over the forseeable future, in line with past growth rates over 5 and 10 year periods. Right now they are trading at 30x past earnings, a 2.0 peg. The company’s share are expensive, but that is because they have such a wonderful business model, unique competitive advantages (a large moat) and recurring revenue from customers. As their clients grow, so does Paychex, and probably your portfolio as well.

I’ll be writing about this company and the staffing outsourcing industry as I learn more about it.


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