Paychex Earnings: Regulatory Tailwinds Offset Moderating Employment Growth and Higher Attrition

Amid uncertain economic conditions, wide-moat Paychex PAYX reported sound fourth-quarter and fiscal 2023 results, with both top line growth and profitability broadly in line with our expectations. Following the result, we maintain our longer-term forecasts and $120 fair value estimate. At current prices, Paychex shares are fairly valued, in our view.

Revenue in the fourth quarter increased a healthy 7% year over year, and 9% year over year for fiscal year 2023. The result was underpinned by strong demand for retirement solutions fueled by regulatory tailwinds and ongoing uptake of employee retention tax credit services, partly offset by moderating employment growth and weak insurance attachment. As anticipated, client retention has retracted to prepandemic levels as small business failures normalize. However, on the bright side, Paychex reported improving revenue retention underpinned by like for like price increases and greater module adoption.

Despite economic headwinds, Paychex achieved improved profitability year over year on greater contribution from ultra-high margin interest income, improved operating leverage on a larger client base and greater digitization of sales and service. Fiscal 2023 year-on-year operating margins improved by 70 basis points to 41.6%, about 10 basis points below our forecast.

For fiscal 2024, we forecast revenue growth of 6%, and operating margin expansion of 60 basis points to about 42% year over year, both in line with management’s guidance. Our forecasts assume ongoing demand for retirement solutions and employee retention tax credit services, as well as a recovery in insurance attachment following an expansion of the product suite, and further interest income upside. However, we expect this will be partly offset by a slowing of hiring activity for the remainder of calendar 2023 as higher interest rates weigh on economic activity before a recovery in 2024 as tight monetary policy unwinds.