2023-06-08 12:07:02 ET
Automatic Data Processing, Inc. (ADP)
Baird’s 2023 Global Consumer, Technology and Services Conference Call
June 08, 2023 08:30 AM ET
Company Participants
Don McGuire - Chief Financial Officer
Conference Call Participants
Mark Marcon - Robert W. Baird & Co.
Presentation
Mark Marcon
Good morning, everybody. I'm Mark Marcon. I follow Human Capital Technology & Solutions for Baird. Our next presenting company is ADP. As I think, virtually everybody knows, ADP is the largest provider of payroll and HCM solutions, certainly in the U.S. and likely in the world paying one out of every six private sector employees in the U.S. Today, we are very pleased to have Don McGuire, the CFO with us. Don joined the company back in 1998 as the VP of Finance in ADP Canada and was most recently ADP's President of Employer Services on the international side. Also, in the audience we have, Danny Hussain and Matt Keating, two terrific folks on the IR team.
Don, welcome. I know you've got one slide, so we'll go into some prepared remarks and then we'll transition over to a fireside chat, which when you were looking at the smoke yesterday, seems quite literal.
Don McGuire
So Mark, thank you for the invitation. Thanks, everyone, for joining us this morning, so eager to get going. And I apologize, even though I am from Toronto, I've never experienced that smoke in my life. So other than a couple of weeks in Shanghai in the past, but it's very unusual and hopefully, it all passes quickly. But good morning, everyone. Just to launch in here to give a bit of an overview on the company. Many of you will know us, we are the leader in human capital management, and we're very proud of our footprint. We do pay one in six in the U.S., as Mark just said, we also pay in addition to 14 million people outside the United States, and we have people on the ground in – our own people on the ground in well over 30 countries. We can do payroll ourselves on our own platforms in about 45 countries.
And in addition to that, we do have a partner network that enables us to pay most countries in the world that have a population of any significant size. We do have a good offer. We offer from small business to large enterprise, so kind of across the broad spectrum. We do have everything from basic payroll through the full PEO services and the things that come with that, time and attendance, HR services, screening and selection, pension services, insurance, I'm sure Mark will ask me about some of these things as we go on.
We do, of course, as I mentioned, we are in many locations around the world. Our three pillars, so to grow our suite of HCM products, continue the HR outsourcing journey. It's not getting any easier for companies to find HR professionals, people who want to be HR professionals, payroll professionals, et cetera, so the opportunity to continue more of that of a full suite of outsourcing BPO type activities, either BPO or HRO is still very much in demand.
And to continue to build that global presence, we do – as I said, we pay 14 million people outside the U.S. That's roughly 40% of the people we pay, it's only about 16% of our revenue. So you can understand that there's a number of adjacencies that we have here in the U.S. that we think we'll be able to extend beyond and continue to have a very, very positive growth story there.
And of course, we are very pleased with our financials. We continue to grow. And of course, very good credit rating, a decent market cap and that 48 years of consecutive dividend increases is something we're incredibly proud of and I'm sure that – I'm sure we'll hit 50, and I'm sure we'll keep going well beyond that as well.
Mark Marcon
That's a terrific summation. Don, one question that we're asking virtually every single one of the 22 companies that we're hosting at this conference is what are the – how would you view the positives and the negatives with regards to AI and these large language models. It seems like you would – you've been doing AI at ADP for multiple years now. So you obviously have a very significant head start relative to some competition. But how are you viewing it? What are you looking at?
Don McGuire
Yes. I think certainly, generative AI and large language models are certainly the talk of the day, if you will. Lots of promises. Everybody is trying to get on board. I think a lot of people are making a lot of early claims on things that are still unproven, so we'll see how it unwinds and how it transpires. But I would say that, I think, generally, I think it's positive for us. I think that as much as we have made good progress on using AI through chatbots and through learning what our customers ask and trying to make sure that we can serve up answers to questions, et cetera, more easily, there's no doubt that from what we've seen in some of our early testing that this generative AI and using the big pool of data we have from all these people we pay around the world gives us a head start because that data, I think, is the underpinning of the success of generative AI, so I think we're going to be able to benefit from that significantly.
I also think that there's – if we break it into a couple of different groups, we certainly, from an operational perspective, we can think about things like understanding why people call, serving up the right answers to our service people to make sure they can answer questions more quickly, more accurately, more consistently, making sure that we can do things that today sounds a little bit mundane, but reporting is still hard. So even though there's good reporting tools in our products, people want answers, they want answers quickly. If you can do these things in real language, then getting those things more quickly, I think, is a big benefit to everyone.
And then, of course, if you look at the sales side of life and you think about the opportunities to make sure that our sales teams know when to reach out to clients, understand trigger events inside our existing clients and what might be a trigger event to selling an additional module, et cetera, there's just a myriad of opportunity, I think, that presents itself with generative AI. We'll see, though. I think that I said to someone the other day, one of the many consultants who's knocking on my door trying to sell us things that three or four years ago, RPA was going to change the world and yet made some progress, and we all made some progress, but it wasn't as transformative.
This sounds like it's got more legs for sure, but I think it's still early days and trying to make sure that people can take the data models they have and make sure they can use those well is something that still needs to be proven.
Mark Marcon
Got it. And when we think about just some of the financial implications, when we think about your expense base, what percentage of the expense base is actually the service infrastructure just handling calls that are coming in from clients?
Don McGuire
Well, certainly, it's a significant piece. I think the – for sure, if you look at our costs, like many other companies costs, most of it is labor, so it's a lot of money. It's north of $1 billion, so we do have an opportunity to look at that, and see if there's opportunities there. It is fair to say, though, it's going to take some time, but I think we all see opportunity. And certainly, I think we don't want to be – we want to be quick off the mark, and I think we can leverage the data we have and just continue some of the journeys.
The good news is that, as you mentioned, we already have been doing AI in some of our products and some of the interactions we have with our clients, so we've already got the plans and we've already established and what we were trying to do. Generative AI may just pick up the pace for us, so improve the deployment of those things. So I think we're already down the road, and if we can move more quickly, that would be good.
Mark Marcon
And you're already answering a number of requests from clients through your chatbots. What number of questions are you programmed to be able to answer almost automatically?
Don McGuire
I would say – I think I can answer that question by saying not as many as we would like. So I think we've made good progress, but we have done some early testing and we've run literally hundreds of thousands of customer inbound calls through these tools now and kind of surface the themes, et cetera. So I think we're pretty excited about the opportunities we see from the results that are coming back from those early stages of investigation.
So we'll see where it takes us, but I think it's going to improve things significantly. I would say that there's a lot of folks out there and it reminds me of a book that was written even before I graduated. The Futurists, Alvin Toffler, I think he's long dead now, but it was called the Future of Work. And way back in the 70s, he thought none of us would have jobs and everybody will be having a two-day work week, and we'd have all this recreation time, et cetera. So I think it's a wish that had come true. But I think we've gotten through these not enough jobs, not enough people, et cetera. So we're going through this ebb and flow, if you will, of demand for labor, et cetera, for some time, and I think I expect that's going to continue. Whether or not generative AI displaces a lot of people are not, people are going to find things to do that are going to be interesting and grow the economies.
Mark Marcon
Great. And then, I mean, one of the other elements that generative AI is potentially speeding up the coding process. When I think about, for example, Next Gen Payroll and you've transitioned your workforce now new logos, percentage of them to Next Gen Payroll, but you still have a large legacy base on AutoPay. When we think about that, do you think that will – you could actually implement some of those tools to speed up the transition process?
Don McGuire
Yes. So just to be clear, our current platforms, not our legacy platforms, our current platforms, which are very strong and capable platforms, are out there, and we do have an awful lot of clients still on those platforms. And we are selling in our mid-market, we're selling about 30% to 40% of our core – the core market onto the Next Gen platforms already, so that's coming along quickly. But back to the Copilot coding, if you will. I think once again, we've been doing some work on that. And once again, people have been trying to sell us lots of things, and they've been reading a fair bit of stuff.
And I think the general takeaway from it is that folks who are already relatively good coders, get a lot out of using Copilot because they know what they're asking, they know what they're expecting. And so if you're relatively good at these things and you add this truly as your Copilot as opposed to your coach, if you add this as your Copilot, then you can make good or more progress more quickly.
If you're relatively new to what you're doing, coding or the products you're coding on, et cetera, and you really don't have the skill set to understand where you're going or the confidence to understand where you're going, the Copilot thing can do nothing more than confuse you because you're not really sure how to assess what's coming out the other end. So I think there's kind of two camps, but for sure, we're looking at that, and we've done some early tests. So we've had some good results on the early tests as well to help speed things up.
Mark Marcon
Great. And then, I mean, you obviously have an incredible view in terms of what's occurring in the labor market currently, macro comes up in almost every discussion. It's been interesting because people have been anticipating a mild recession for multiple quarters at this point. It has yet to come to fruition. Your ADP data is basically showing that job growth continues to be very good, but fragmented. How would you characterize where we are from a macro perspective at this point based on what you see?
Don McGuire
Yes. It's interesting, Mark. I was actually presenting our 2024 plan to the Board yesterday. And before I started, I said this feels a little bit like Groundhog Day because last year, at this time, we were all talking about the recession that was coming, et cetera, and so here we are. And we're still looking – it depends on what you read and who you believe. I think Bloomberg has got a survey out there that said 60% of CEOs and CFOs think we're going to have – we have a 60% chance of recession. I think Morgan Stanley came out with something late last week or early this week that said, it's a 25% chance there's going to be a recession. So who knows?
But what I can tell you is that we do see – you saw the BLS report that was very strong, you saw our own National Employment Report that was strong as well. We do continue to see growth. But I do think it's fair to say that the growth – there's growth, but the growth is decelerating. So we are seeing continuous growth, we think of positive in a lot of ways, and we're seeing growth without a recession landing on our doorstep. So I think the growth is here, but I think it's fair to say, and I think it's pretty well acknowledged that it's slow. It's growth, but at a slowing pace.
Mark Marcon
And when you're just going through the plan, so it's very, very fresh. Can you remind us of the growth algorithm and factors that investors should think about with regards to changes? And as an example, virtually all of your competitors are presented at this conference. Some of them mentioned, hey, employment was a fairly significant tailwind basically since June of 2020. Now we're not seeing that same level of growth, so they went through their steps in terms of thinking about their growth algorithm? How should we think about ADP’s?
Don McGuire
So I think there's a number of areas for growth that we're still very excited about. First of all, I think the market is about $150 billion TAM right now. So there's still lots of opportunities, so there's lots of market to be gained. There's still lots of payroll to be had here in the U.S. and certainly internationally, and we continue to grow there.
We also have some offers that I think have lots of legs to them. So if you think about things like retirement services, all the mandates that we're seeing, it's interesting that in a number of countries around the world, governments are realizing that the pension plans they have aren't enough. So they're downloading the responsibility on to employers to make sure that those – that there are pension plans for folks as they retire. That's created a bunch of energy for us, and we've had great success there. We don't call that number out specifically yet because generally, we talk about $1 billion for a market before we called it out individually, but I would say that we're in the hundreds of millions in that segment already.
We have insurance services, which is doing well. We have – we continue to do well with our payroll engines, and we're going to continue to have good results from client fund interest. So I have called out in our last earnings call, specifically that although client fund interest will continue to grow for us based on two factors, the average daily balance is growing based on the fact that we're paying more people and the people that we're paying have higher wages than they did in the past, so that's going to continue. The rates are high. They have been high.
If we look at the yield curve, there's some expectation they’ll start to come down. So we'll continue to get some lift, although not the percentage lift that we had, but that's going to endure for a number of years. And as you know, our portfolio, our investment strategy, we have a laddered strategy, so we're locking in new investments at about 3.5%. We're earning about 2.45% today, so that's going to have a positive impact as we go forward.
And then, of course, with things like the PEO and HRO, as I mentioned at the outset, trying to find people to be HR professionals, payroll professionals is getting more and more difficult, and more and more companies are happy shifting more of their internal operations in those areas to people like ADP. So I think there's lots and lots of exciting areas for us to continue to grow.
Mark Marcon
And one part of the algorithm in terms of earnings is you're a highly scalable business. Any reasons why we shouldn't continue to see some of the benefits of scale that we've experienced?
Don McGuire
Yes, that's – and for sure, that's the number one. That's the number one way for us to improve our margins is just scale. So as the total revenue goes up and the number of people we pay goes up, the scale that we have, it makes a meaningful difference. And I think you've seen our margin improvements over the last number of years. And certainly, our commitments, which we're meeting, they've been there, and we'll continue to be focused on margin improvements as well.
Mark Marcon
So is it fair to say that giving you the opportunity to call things out, it doesn't sound like there's any real change in terms of the kind of the steady algorithm that you've expressed multiple times before in the past?
Don McGuire
Yes, I think we're pretty proud of the fact that we are a steady grower and a consistent grower. We don't have a lot of steps up and more importantly, steps down. So I think you can pretty much look at our trajectory and look at where we're going and have confidence that we'll continue the journey, and I think that's what folks look for. There's no big yes in one year and then a big oh no's in the following year. So we've been pretty consistent, and I think that is something that's valued at ADP.
Mark Marcon
Absolutely. Can we delve into some of the specific businesses?
Don McGuire
Sure.
Mark Marcon
So one area that has continued to grow really nicely is within domestic payroll run continues to do really well. Can you talk a little bit for investors who aren't, you know as in the weeds as I am with regards to ADP? When we think about the small business services, how run has changed things, how you're continuing to gain share in that market? And basically, small business services is defined as companies with six to 50 employees. You've also got role for the micro market.
Don McGuire
Yes. So in that – as we refer to it internally, the small business services market, and you're right. I mean the sweet spot there is kind of anywhere from two, three up to 25 or although the bulk of them tend to be kind of in the 10, 12 space. It's a good market for us. It's a product that we've had for some time, and we've gone through great efforts to modernize that product and make it more user friendly. And I think that's showing in our Net Promoter Scores and therefore, our retention.
It's very successful. The modernization has been very good for us. It's doing very well. And we have a very strong network of our own sellers and also strong networks through CPAs and brokers and banks to help us distribute that product, and it's a good product to use. CPAs really like it. It's something that we have a product, a product we have a tool that we deploy to the CPA community called Accountant Connect, where they can look at the number of companies that they work on behalf of and they can manage all those companies through – with ADP through a dashboard, if you will, so they very much value that product.
And it's come quite a way and it gets good reviews. We go out of our way on a regular basis to use third parties to survey our clients and other people's clients around our NPS scores. We're very happy with the improvement we've had on our own surveys, et cetera, but sometimes you got to step away and ask somebody else to do it, including for yourself. And we're very pleased with what we're seeing in that space as a result of the improvements that we've made and continue to make to that product.
And of course, in the small business space, that's where we have our roughly 130,000 retirement services clients because that's very good attach and as state mandates continue to push companies of smaller and smaller sizes into having some sort of a pension plan, that is very good. And of course, the insurance services that is kind of in the 200,000 client space. Most of these clients are in that small business services segment, who want that workman’s compensation, et cetera, that's something that's very often sold inside that inside that segment. That segment now for us is north of 800,000 clients, and we expect that it will be – we're optimistic that it will be north of one million clients and not too distant future.
Mark Marcon
That's great. And then the nice segue in terms of talking about SECURE Act 2.0 because I think that's a huge opportunity. For those of you that don't know, basically, the legislation in the U.S. is basically going to force companies with as few as 10 employees to offer a 401(k) as the default as long as that company is more than three years old, and that's shortly going into effect. You've got this huge retirement services practice. What percentage uplift within your existing client base could you potentially see?
Don McGuire
Well, I think – I think we’d like all one million clients to use something like that, but I think it will take a little bit of time to get there, but it has had good growth for us. And it's been an interesting approach that some of the states and some of the jurisdictions have used, they very much started out with a carrot approach. So tax breaks and various incentives for employers to deploy these pensions to their employees. And of course, as time goes on and people don't comply and now the stick is coming out, and they're starting to penalize companies who don't actually offer these mandated pension plans to their own employees. It started on the West Coast as many things do, and it's kind of making its way across the country here, but we think there's a lot of upside. I mentioned a number of 130,000. We just look at that SBS segment. You can do the math, 130,000 on just over 800,000 clients. And I think it will do nothing but continue to increase, and I'll be very happy in time to be able to sit on a stage like this and say that it is a $1 billion revenue generator for us.
Mark Marcon
That would be great. We're looking forward to writing reports about that. So can you talk a little bit about moving a little bit upmarket? Workforce now continues to improve. It's G2 scores, that's something that we monitor on a monthly basis just in terms of how things are shifting and that continues to move up. Can you talk a little bit about the progress that's occurred there? And the increase in the NPS scores in the mid-market, which is your largest segment domestically.
Don McGuire
Yes. So Workforce Now is a good product for us, and you mentioned the mid-market, but just elaborate perhaps a little bit more on Workforce Now. We're using Workforce Now in our HRO business. We're using it in our PEO business. We're using it in our mid-market majors business, and we're also using it increasingly in the low end, if you will, of the upmarket. So comfortably up to 3,000, 5,000. So it's really become a workhorse for us internally across multiple segments.
And of course, back to your question earlier about margins and scalability, anytime we can do those types of things, that's music to my ears in particular, because fewer products and the scalability of existing products and existing development teams, et cetera, is very, very beneficial for us, so it's been doing incredibly well. I'm glad your G2 is telling you what our G2 is selling, so that's fantastic.
We are, as I mentioned earlier, in the mid-market itself, so in that core of the mid-market, we have had 30% to 40% of all of our new sales go on to that Workforce Now Next Gen with PI underneath our Next Gen Payroll engine is the internal code name, if you will, for that engine is PI. And so we're seeing great success there, and we're optimistic that that's going to continue. It is taking some time. We do have – as you know, we have a very, very large sales force. We have 8,500 sellers around the world. Most of those, of course, here in the U.S. market, and takes a little bit of time. It's – when you get that sales force directed and you get them on to the topic and you get them on to the product, and they have great confidence, et cetera, they go hard, and they're very, very successful. And we're continuing to see that confidence build and we're very much looking forward to those – that sales percentage on the new business, 30% to 40% to go well north of 50% in the near future.
Mark Marcon
Great. We've only got 5 minutes and 30 seconds left. So I'm going to try to squeeze in a bunch of little questions. PEO had been growing very steadily, decelerated a little bit, partially because of insurance costs and take-ups and things of that nature. How are you thinking about the PEO business long-term?
Don McGuire
Yes. So long-term, I think we're still very bullish on the PEO business. The challenges that small employers have running their business and running their gardening center or paint shop or the automotive tooling shop they do or their additive manufacturing, et cetera, et cetera. It's hard enough run your darn business let alone keep up with all these things that you're needing to do around payroll and compliance and HR compliance, et cetera. So we're very bullish that companies in a certain size, I think our average size of our PEO client today is kind of 44, 45-ish. And if you think of somebody that size, you really just don't have the bandwidth to go higher a bunch of HR professionals or payroll professionals, et cetera, or safety professionals to do what you need to do, so coming to a PEO like us is something that works for you. And so we're still very bullish about the long-term prospects for the PEO business.
Mark Marcon
That's great. And then one thing I'd love to take advantage of your international experience, when I think about ADP, you pay one out of every six private sector employees in the U.S., but a teeny fraction of the global workforce and you are a global organization. Can you talk a little bit about international and what your aspirations are there?
Don McGuire
Sure. I think that I'm a little bit biased here because I spent the last 15 years in international in the last several years is running the entire international group, so I certainly have a bit of a bias here, but very optimistic. I think I talked earlier about the fact that 40% of the people we pay around the world are outside of the United States, and so I think there's great opportunity for us.
I mentioned earlier, there's no doubt that we're the leader in this space. I mean nobody else has people on the ground in 30 countries and nobody else is definitely number one in France. We're definitely number one in Brazil. You can argue about whether or not we're number one in Australia. We definitely have a great distribution in international. Could we do more? Yes. I was recently in India a couple of weeks back, and we acquired – I did an acquisition a number of years ago when I was in the U.K., and we acquired one of our partners. We're now paying north of one million people in India. Now the challenge is that price points in Southeast Asia, in particular, aren't that high, but that will come. So we think we're well placed to make sure that we can continue to expand our footprint, and certainly, as price points come up and whatnot in some of those markets, I think we're going to see great benefits.
Mark Marcon
One thing that you've got going for you is this ADP marketplace, you've got a big partner network. Can you describe the advantages of the partner network?
Don McGuire
Sure. So the partner network does two things for us. One, it helps us with some of the partners we have, so I know some of them are presenting here at the conference this week, and we use the marketplace for them to come to us, and we have relationships, referral agreements, et cetera. We work with them and help them distribute their products, and then we have more of an e-commerce side.
And on the e-commerce side, folks out in the market come to us and they have something and they want to connect it into ADP payroll. And so as much as we have a broad offering, there are hundreds, and if you've been to the Vegas HR show, there's hundreds and hundreds and hundreds of vendors in this space, and we don’t have everything. We think we have the important stuff. But if you have something that we don't have and you want to hook that into your payroll or your HR system, you can do that through our marketplace, and we think that's a big advantage to us. We have hundreds of vendors who are on the marketplace and so making use of those connectors, if you will, into our payroll engines, et cetera, is very beneficial.
Mark Marcon
Great. It's been a few quarters that Maria has had the role of CEO. From your perspective, what – on the margin, because you guys are very steady and everybody grows up inside ADP, but on the margin, what's changed?
Don McGuire
Well, I think you've said it. A big organization been around for 73 years. Maria is CEO number seven, so a very consistent, stable company. So I would say on the margins, things haven't changed. What would change most, I think, is just maybe the profile, if you will. I mean, Carlos our predecessor and Maria are very different people. Maria is very extroverted person grew up in sales and marketing, started selling payroll door-to-door, she tells the story often. Carlos, more of a finance guy, a little bit more reserved, but they both understand the business incredibly well. Carlos is still on our board. He was with us yesterday.
So there's very much a huge amount of continuity, if you will, and very much Maria, as she says often, Carlos spent 10 years, 11 years, making sure we got fewer platforms, more focused, got out of some of the other business we are in, that we divested, got us more and more focused. And Maria and with the help of the rest of the team are going to continue that journey and make sure we continue to deliver in the future.
Mark Marcon
That's terrific. Unfortunately, we're out of time at this point. Fortunately, we've got you for a breakout session, so we're going to be going over to the Rockefeller foyer which is on the mezzanine level. Please join me in thanking Don for a very thoughtful discussion.
Don McGuire
Thanks, everyone.
Question-and-Answer Session
End of Q&A
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Automatic Data Processing, Inc. (ADP) Baird's 2023 Global Consumer, Technology and Services Conference (Transcript)