Paychex Continues to Capture Upside From the Economic Recovery, but Shares Screen as Overvalued

We have marginally upgraded our fiscal 2022 forecasts for wide-moat Paychex as we were too pessimistic about the COVID-19 omicron variant’s potential impact on the small business and labor markets. We now expect fiscal 2022 adjusted diluted earnings per share to increase 23% over the prior year to $3.74, up from our previous forecast of $3.60 and in line with updated guidance. As tailwinds from the labor market recovery fade into fiscal 2023, we continue to expect revenue growth to revert to high-single digits underpinned by mid-single-digit industry growth, modest market share gains, low-single-digit price growth, and taking greater share of client's wallet. Our upgraded near-term forecasts are immaterial to our valuation, and we maintain our $110 fair value estimate. At current prices, Paychex screens as overvalued trading at a 25% premium to our valuation. We suspect the market may be extrapolating recent robust top line growth and margin expansion, relative to our view of conditions normalizing from 2023.