ADP’s Wide Moat May Be Under Threat
The firm’s competitive positioning is eroding, leading us to cut our fair value estimate and stewardship ratings.
We are increasingly concerned about ADP's (ADP) competitive positioning as a result of lower switching costs. Given ongoing retention issues and a lower margin forecast, we are decreasing our fair value estimate to $79 per share from $86, as a result of increasing competition and rising cost pressures. In addition, we are lowering ADP’s stewardship rating to Poor from Standard. Though we have been concerned about ADP’s aging technology infrastructure and management’s propensity to underinvest in operations, Pershing Square’s recent presentation convinced us that our initial concerns underestimated the size of ADP’s problems. Previously, we believed the company would be able to address these issues through temporary increases in spending that would decrease margins, but ultimately result in a stronger company. Now, we believe ADP’s issues are more complicated and will take significantly longer to fully address. Furthermore, we believe the problems at ADP are of the company’s own making which is why we feel compelled to lower the company’s stewardship rating to poor from standard. Though we expect ADP will generate returns significantly above its cost of capital, we believe the ADP’s wide moat is potentially under threat.
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Colin Plunkett does not own (actual or beneficial) shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.