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ADP > SEC Filings for ADP > Form 10-K on 19-Aug-2013All Recent SEC Filings

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Form 10-K for AUTOMATIC DATA PROCESSING INC


19-Aug-2013

Annual Report


Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations

FORWARD-LOOKING STATEMENTS

This report and other written or oral statements made from time to time by Automatic Data Processing, Inc. ("ADP") may contain "forward-looking statements" within the meaning of the Private Securities Litigation Reform Act of 1995. Statements that are not historical in nature, and which may be identified by the use of words like "expects," "assumes," "projects," "anticipates," "estimates," "we believe," "could" and other words of similar meaning, are forward-looking statements. These statements are based on management's expectations and assumptions and are subject to risks and uncertainties that may cause actual results to differ materially from those expressed. Factors that could cause actual results to differ materially from those contemplated by the forward-looking statements include: ADP's success in obtaining, retaining and selling additional services to clients; the pricing of services and products; changes in laws regulating payroll taxes, professional employer organizations and employee benefits; overall market and economic conditions, including interest rate and foreign currency trends; competitive conditions; auto sales and related industry changes; employment and wage levels; changes in technology; availability of skilled technical associates; and the impact of new acquisitions and divestitures. ADP disclaims any obligation to update any forward-looking statements, whether as a result of new information, future events or otherwise. These risks and uncertainties, along with the risk factors discussed under "Item 1A. Risk Factors," should be considered in evaluating any forward-looking statements contained herein.

EXECUTIVE OVERVIEW

ADP's mission is to power organizations with insightful solutions that drive business success. We seek to embrace new technology and innovation to deliver market leading products and services that meet the needs of our clients across all of our markets. Our commitment to service excellence lies at the core of our relationship with each of our clients, whether a small, mid-sized or large business, or a multinational enterprise. Our business strategy is based on four strategic pillars, which are predicated on our ability to drive innovation and service excellence, and attract, build, and retain the right talent to position ADP as the global market leader in human capital management (HCM) services. Our strategic pillars are to:


grow our integrated suite of cloud-based HCM, benefits, and payroll solutions to serve the U.S. market;

invest to grow and scale our HR Business Process Outsourcing solutions by leveraging our platforms and processes;

leverage our global presence to offer clients HCM, benefits, and payroll solutions where they do business; and

grow and deepen our solutions offering to ensure our key adjacencies are market leaders.

Our results during fiscal 2013 continue to reflect the strength of our underlying business model, including the diversity of our client base and products, against the uneven global economic recovery. Our focus on product innovation and improvements in salesforce productivity led to growth in new business bookings. We are pleased with the performance of our business segments, which have continued to drive good revenue growth and strong pretax margin expansion. We continue to benefit from solid revenue retention across our business segments and we remain pleased with the strength of our pays per control metric, which represents the number of employees on our clients' payrolls as measured on a same-store-sales basis utilizing a representative subset of payrolls ranging from small to large businesses that are reflective of a broad range of U.S. geographic regions. Despite the negative impact to our margins from strategic acquisitions completed in fiscal 2012, we remain pleased with their positive contribution to our revenue growth. We continue to be impacted by the decline in high-margin client interest revenues as a result of lower interest rates, partially offset by an increase in our average client funds balance. Though we believe that the impact to fiscal 2013 client funds revenue will be the bottom in terms of the year-over-year decline, we expect the lower interest rate environment to continue to impact us negatively during the year ending June 30, 2014 ("fiscal 2014").
Consolidated revenues in fiscal 2013 increased 7%, to $11,310.1 million, as compared to fiscal 2012. Earnings from continuing operations before income taxes decreased 1%, to $2,084.3 million, as compared to fiscal 2012 and net earnings from continuing operations decreased 1%, to $1,364.1 million, as compared to fiscal 2012. Our diluted earnings per share from continuing operations was flat in fiscal 2013 as compared to $2.80 per share in fiscal 2012 on fewer shares outstanding.
Our fiscal 2013 results include a $42.7 million non tax-deductible goodwill impairment charge related to our ADP AdvancedMD business. Our fiscal 2012 results include a gain on the sale of assets of $66.0 million, or $41.2 million after tax, related to rights and obligations to resell a third-party expense management platform. Excluding these items from both years, our adjusted earnings from continuing operations before income taxes increased 4%, to $2,127.0 million, as compared to $2,041.9 million for fiscal 2012, and adjusted net earnings from continuing operations increased 5%, to $1,406.8 million, compared to $1,338.5 million for fiscal 2012. Our adjusted diluted earnings per share from continuing operations increased 6%, to $2.89 for fiscal 2013 from $2.72, as adjusted, for fiscal 2012, on increased adjusted net earnings from continuing operations and fewer shares outstanding.
Our business segment results were solid with Employer Services' revenues increasing 7% to $7,914.0 million and earnings from continuing operations before income taxes increasing 9% to $2,134.2 million, PEO Services' revenues increasing 11% to $1,973.2 million and earnings from continuing operations before income taxes increasing 17% to $199.2 million, and Dealer Services' revenues increasing 9% to $1,813.7 million and earnings from continuing operations before income taxes increasing 21% to $335.7 million in fiscal 2013. Employer Services' and PEO Services' new business bookings, which represent annualized recurring revenues anticipated from sales orders to new and existing clients, grew 11% worldwide, to over $1.35 billion in fiscal 2013. Dealer Services' new business bookings showed strength as we continued to experience the effects of a stronger automotive industry and increased penetration of applications within our base. Our key business metrics continue to reflect the core strength of our business model, with our Employer Services' worldwide client revenue retention rate increasing to a record 91.3% and our pays per control metric increasing 2.8% for the twelve months ended June 30, 2013. Interest on funds held for clients decreased approximately 15%, or $72.4 million, to $420.9 million from $493.3 million in fiscal 2012. The decrease in the consolidated interest on funds held for clients resulted from the decrease in the average interest rate earned to 2.2% in fiscal 2013, as compared to 2.8% in fiscal 2012, partially offset by growth in average client funds balance of 7% resulting from the continued strength and growth of our Employer Services segment.

We invest our funds held for clients in accordance with ADP's prudent and conservative investment guidelines, where the safety of principal, liquidity, and diversification are the foremost objectives of our investment strategy. The portfolio is predominantly invested in AAA/AA rated fixed-income securities. Our client funds investment strategy is structured to allow us to average our way through an interest rate cycle by laddering the maturities of our investments out to five years (in the case of the extended portfolio) and out to ten years (in the case of the long portfolio). This investment strategy is supported by our short-term financing arrangements necessary to satisfy short-term funding requirements relating to client funds obligations.

Our financial condition and balance sheet remain solid at June 30, 2013, with cash and cash equivalents and marketable securities of $2,041.1 million. The cash and marketable securities balance included $0.7 million of cash and $245.2 million of long-term marketable securities pledged as collateral to the outstanding reverse repurchase obligations as of June 30,


2013, which were repaid on July 2, 2013. This borrowing was a normal part of our client funds extended investment strategy. Our net cash flows provided by operating activities were $1,577.2 million in fiscal 2013, as compared to $1,910.2 million in fiscal 2012. This decrease in cash flows provided by operating activities from fiscal 2012 to fiscal 2013 was due to the fiscal 2013 payment of a reinsurance arrangement with ACE American Insurance Company, higher pension plan contributions, a variance in the timing of tax-related net cash payments, and unfavorable changes in timing differences on the remaining net components of working capital, partially offset by higher net earnings. The increase in cash used in investing activities of $4,822.0 million is due to the timing of receipts and disbursements of restricted cash and cash equivalents held to satisfy client funds obligations, partially offset by the amount of cash used for business acquisitions and proceeds from the sale of businesses included in discontinued operations. The increase in cash provided by financing activities of $5,104.9 million is primarily due to the timing of cash received and payments made related to client funds as compared to the prior year.

We have a strong business model with a high percentage of recurring revenues, excellent margins, the ability to generate consistent, healthy cash flows, strong client retention, and low capital expenditure requirements. We continue to enhance value to our shareholders, and in fiscal 2013 returned excess cash of $805.5 million through dividends and $647.3 million through our share buyback program. In the last five fiscal years, we have reduced the Company's common stock outstanding by approximately 5% through share buybacks, net of the effect of common stock issued under employee stock-based compensation programs. We have also raised the dividend payout per share for 38 consecutive years.

RESULTS OF OPERATIONS

ANALYSIS OF CONSOLIDATED OPERATIONS

(Dollars in millions, except per share amounts)
                             Years ended June 30,                      $ Change                 % Change
                       2013           2012          2011          2013          2012         2013       2012

Total revenues     $ 11,310.1     $ 10,616.0     $ 9,833.0     $   694.1     $   783.0         7  %       8  %

Costs of revenues:
Operating expenses    5,742.4        5,365.2       4,888.6         377.2         476.6         7  %      10  %
Systems
development and
  programming
costs                   654.3          592.7         570.0          61.6          22.7        10  %       4  %
Depreciation and
amortization            252.9          256.4         249.8          (3.5 )         6.6        (1 )%       3  %
Total costs of
revenues              6,649.6        6,214.3       5,708.4         435.3         505.9         7  %       9  %

Selling, general
and
  administrative
costs                 2,620.6        2,456.9       2,314.6         163.7         142.3         7  %       6  %
Goodwill
impairment               42.7              -             -          42.7             -       100  %       -  %
Interest expense          9.1            7.7           8.6           1.4          (0.9 )      18  %     (10 )%
Total expenses        9,322.0        8,678.9       8,031.6         643.1         647.3         7  %       8  %

Other income, net       (96.2 )       (170.8 )      (116.6 )       (74.6 )        54.2       (44 )%      46  %

Earnings from
continuing
  operations
before income
taxes              $  2,084.3     $  2,107.9     $ 1,918.0     $   (23.6 )   $   189.9        (1 )%      10  %
Margin                   18.4 %         19.9 %        19.5 %

Provision for
income taxes       $    720.2     $    728.2     $   673.0     $    (8.0 )   $    55.2        (1 )%       8  %
Effective tax rate       34.6 %         34.5 %        35.1 %

Net earnings from
continuing
   operations      $  1,364.1     $  1,379.7     $ 1,245.0     $   (15.6 )   $   134.7        (1 )%      11  %

Diluted earnings
per share from
  continuing
operations         $     2.80     $     2.80     $    2.50     $       -     $    0.30         -  %      12  %


Non-GAAP measures

The following table reconciles our results to adjusted results that exclude the fiscal 2013 non tax-deductible goodwill impairment charge and the fiscal 2012 sale of assets related to rights and obligations to resell a third-party expense management platform.

                                              Years ended June 30,                   $ Change              % Change
(Dollars in millions, except per
share amounts)                          2013          2012          2011         2013        2012       2013      2012

Earnings from continuing
operations
  before income taxes                $ 2,084.3     $ 2,107.9     $ 1,918.0     $ (23.6 )   $ 189.9       (1 )%     10 %
Adjustments:
Goodwill impairment                       42.7             -             -
Gain on sale of assets                       -         (66.0 )           -
Adjusted earnings from continuing
operations
   before income taxes               $ 2,127.0     $ 2,041.9     $ 1,918.0     $  85.1     $ 123.9        4  %      6 %

Provision for income taxes           $   720.2     $   728.2     $   673.0     $  (8.0 )   $  55.2       (1 )%      8 %
  Effective tax rate                      34.6 %        34.5 %        35.1 %
Adjustments:
Goodwill impairment                          -             -             -
Gain on sale of assets                       -         (24.8 )           -
Adjusted provision for income
taxes                                $   720.2     $   703.4     $   673.0     $  16.8     $  30.4        2  %      5 %
  Adjusted effective tax rate             33.9 %        34.4 %        35.1 %

Net earnings from continuing
operations                           $ 1,364.1     $ 1,379.7     $ 1,245.0     $ (15.6 )   $ 134.7       (1 )%     11 %
Adjustments:
Goodwill impairment                       42.7             -             -
Gain on sale of assets                       -         (41.2 )           -
Adjusted net earnings from
continuing operations                $ 1,406.8     $ 1,338.5     $ 1,245.0     $  68.3     $  93.5        5  %      8 %

Diluted earnings per share from
continuing operations                $    2.80     $    2.80     $    2.50     $     -     $  0.30        -  %     12 %
Adjustments:
Goodwill impairment                       0.09             -             -
Gain on sale of assets                       -         (0.08 )           -
Adjusted diluted earnings per
share
   from continuing operations        $    2.89     $    2.72     $    2.50     $  0.17     $  0.22        6  %      9 %

Fiscal 2013 Compared to Fiscal 2012

Total Revenues

Total revenues increased $694.1 million, or 7%, to $11,310.1 million in fiscal 2013, as compared to fiscal 2012, due to an increase in revenues in Employer Services of 7%, or $525.5 million, to $7,914.0 million, an increase in revenues in PEO Services of 11%, or $201.8 million, to $1,973.2 million, and an increase in revenues in Dealer Services of 9%, or $152.4 million, to $1,813.7 million. Total revenues would have increased approximately 6% without the impact of recently completed acquisitions and the impact to revenues pertaining to the sale in fiscal 2012 of assets related to rights and obligations to resell a third-party expense management platform. In addition, revenues decreased $61.3 million due to changes in foreign currency exchange rates.

Total revenues in fiscal 2013 include interest on funds held for clients of $420.9 million, as compared to $493.3 million in fiscal 2012. The decrease in the consolidated interest earned on funds held for clients resulted from the decrease in


the average interest rate earned to 2.2% in fiscal 2013, as compared to 2.8% in fiscal 2012, partially offset by an increase in our average client funds balance of 7%, to $19.2 billion, in fiscal 2013.

Total Expenses

Our total expenses increased $643.1 million, or 7%, to $9,322.0 million in fiscal 2013, as compared to fiscal 2012. The increase in our total expenses was due to an increase in operating expenses of $377.2 million, an increase in selling, general and administrative expenses of $163.7 million, an increase in systems development and programming costs of $61.6 million, and the goodwill impairment charge of $42.7 million. Total expenses would have increased approximately 7% without the impact of the goodwill impairment charge and 6% without the impact of recently completed acquisitions.

Our total costs of revenues increased $435.3 million, or 7%, to $6,649.6 million in fiscal 2013, as compared to fiscal 2012, due to an increase in operating expenses of $377.2 million and an increase in systems development and programming costs of $61.6 million.

Operating expenses increased $377.2 million, or 7% in fiscal 2013, as compared to fiscal 2012, due to the increase in revenues described above, including the increases in PEO Services, which has pass-through costs that are re-billable and which includes costs for benefits coverage, workers' compensation coverage and state unemployment taxes for worksite employees. These pass-through costs were $1,513.5 million for fiscal 2013, which included costs for benefits coverage of $1,193.2 million and costs for workers' compensation and payment of state unemployment taxes of $320.3 million. These pass-through costs were $1,363.6 million for fiscal 2012, which included costs for benefits coverage of $1,060.3 million and costs for workers' compensation and payment of state unemployment taxes of $303.3 million. The increase in operating expenses is also due to expenses related to businesses acquired of $84.4 million and higher labor-related expenses in Employer Services of $69.4 million, partially offset by a decrease of $34.0 million due to changes in foreign currency exchange rates.

Systems development and programming costs increased $61.6 million, or 10%, in fiscal 2013, as compared to fiscal 2012, due to increased costs to develop, support, and maintain our products and increased costs related to businesses acquired of $6.6 million, partially offset by a decrease of $6.7 million due to changes in foreign currency exchange rates.

Selling, general and administrative expenses increased $163.7 million, or 7%, in fiscal 2013, as compared to fiscal 2012. The increase in expenses was related to an increase in selling expenses of $72.9 million resulting from investments in our salesforce and an increase in expenses of businesses acquired of $16.3 million, partially offset by a decrease of $24.6 million due to changes in foreign currency exchange rates. Additionally, selling, general, and administrative expenses decreased $24.1 million due to lower severance expenses in fiscal 2013, as compared to fiscal 2012.

Other Income, net
Years ended June 30,
(Dollars in millions)                                  2013         2012       $ Change

Interest income on corporate funds                   $ (64.5 )   $  (85.2 )   $  (20.7 )
Realized gains on available-for-sale securities        (32.1 )      (32.1 )          -
Realized losses on available-for-sale securities         3.5          7.7          4.2
Impairment losses on available-for-sale securities         -          5.8          5.8
Impairment losses on assets held for sale                  -          2.2          2.2
Gains on sales of buildings                             (2.2 )          -          2.2
Gain on sale of assets                                     -        (66.0 )      (66.0 )
Other, net                                              (0.9 )       (3.2 )       (2.3 )
Other income, net                                    $ (96.2 )   $ (170.8 )   $  (74.6 )

Other income, net, decreased $74.6 million in fiscal 2013, as compared to fiscal 2012. The decrease was due to a $66.0 million gain on the sale of assets related to rights and obligations to resell a third-party expense management platform in fiscal 2012 and a decrease in interest income on corporate funds of $20.7 million in fiscal 2013, as compared to fiscal 2012. The decrease in interest income on corporate funds resulted from lower average interest rates from 2.1% in fiscal 2012 to 1.5% in fiscal 2013, partially offset by increasing average daily corporate funds, which increased from $4.0 billion in fiscal 2012 to $4.2 billion in fiscal 2013. Such decreases were partially offset by gains of $2.2 million pertaining to the sale of two


buildings in fiscal 2013, a $5.8 million impairment loss on available-for-sale securities in fiscal 2012, and an impairment loss of $2.2 million related to assets previously classified as assets held for sale in fiscal 2012.

Earnings from Continuing Operations before Income Taxes

Earnings from continuing operations before income taxes decreased $23.6 million, or 1%, to $2,084.3 million in fiscal 2013, which includes the effect of the $42.7 million goodwill impairment charge, compared to $2,107.9 million in fiscal 2012, which includes the effect of a $66.0 million gain on the sale of assets related to the rights and obligations to resell a third-party expense management platform. Overall margin decreased approximately 140 basis points in fiscal 2013 with approximately 40 basis points of margin decrease attributable to the goodwill impairment charge, 20 basis points of margin decrease attributable to acquisitions completed in fiscal 2012, and 90 basis points related to the continued decline in interest on funds held for clients discussed above. In addition, overall margin decreased approximately 60 basis points due to the fiscal 2012 gain on the sale of assets related to the rights and obligations to resell a third-party management platform. These decreases were partially offset by margin improvements in our business segments.

Adjusted earnings from continuing operations before income taxes increased $85.1 million, or 4%, to $2,127.0 million, in fiscal 2013, compared to $2,041.9 million for fiscal 2012, due to increased revenue and margin improvement in our business segments, partially offset by the continued decline in interest on funds held for clients.

Provision for Income Taxes

The effective tax rate in fiscal 2013 and 2012 was 34.6% and 34.5%, respectively. Our effective tax rate for fiscal 2013 includes the effect of a non tax-deductible goodwill impairment charge of $42.7 million that increased our effective tax rate by 0.7 percentage points in the period. The 0.7 percentage point increase was offset by a reduction in foreign taxes and the availability of higher foreign tax credits in fiscal 2013, as compared to 2012.

Net Earnings from Continuing Operations and Diluted Earnings per Share from Continuing Operations

Net earnings from continuing operations decreased $15.6 million, or 1%, to $1,364.1 million in fiscal 2013, which includes the effect of the $42.7 million goodwill impairment charge, compared to $1,379.7 million in fiscal 2012, which included the effect of an after tax gain on the sale of assets of $41.2 million. Diluted earnings per share from continuing operations was flat in fiscal 2013, as compared to $2.80 in fiscal 2012.

In fiscal 2013, our diluted earnings per share from continuing operations reflects the decrease in net earnings from continuing operations and the impact of fewer shares outstanding as a result of the repurchase of approximately 10.4 million shares in fiscal 2013.

Adjusted net earnings from continuing operations increased $68.3 million, or 5%, to $1,406.8 million, in fiscal 2013, as compared to $1,338.5 million for fiscal 2012, and the adjusted diluted earnings per share from continuing operations increased 6%, to $2.89 for fiscal 2013, compared to $2.72, as adjusted, for fiscal 2012. The increase in adjusted diluted earnings per share from continuing operations for fiscal 2013 reflects the increase in adjusted net earnings from continuing operations and the impact of fewer shares outstanding due to the repurchase of approximately 10.4 million shares in fiscal 2013.

Fiscal 2012 Compared to Fiscal 2011

Total Revenues

Our total revenues increased $783.0 million, or 8%, to $10,616.0 million in fiscal 2012, as compared to fiscal 2011, due to an increase in revenues in Employer Services of 7%, or $510.2 million, to $7,388.5 million, PEO Services of 15%, or $227.5 million, to $1,771.4 million, and Dealer Services of 10%, or $147.8 million, to $1,661.3 million. Total revenues would have increased approximately 6% without the impact of recently completed acquisitions and the impact to revenues pertaining to the sale of assets related to rights and obligations to resell a third-party expense management platform. There was no impact to total revenue growth rates as a result of changes in foreign currency exchange rates.

Total revenues for fiscal 2012 include interest on funds held for clients of $493.3 million, as compared to $540.1 million in fiscal 2011. The decrease in the consolidated interest earned on funds held for clients resulted from the decrease in


the average interest rate earned to 2.8% during fiscal 2012, as compared to 3.2% for fiscal 2011, partially offset by an increase in our average client funds balance of 6%, to $17.9 billion in fiscal 2012.

Total Expenses

Our total expenses increased $647.3 million, or 8%, to $8,678.9 million in fiscal 2012, as compared to fiscal 2011. The increase in our total expenses was due to an increase in operating expenses of $476.6 million, an increase in selling, general and administrative expenses of $142.3 million, and an increase in systems development and programming costs of $22.7 million. Total expenses would have increased approximately 6% without the impact of recently completed acquisitions.

Our total costs of revenues increased 9%, to $6,214.3 million in fiscal 2012, as compared to fiscal 2011 due to an increase in operating expenses of $476.6 million and an increase in systems development and programming costs of $22.7 million.

Operating expenses increased $476.6 million, or 10%, in fiscal 2012, as compared to fiscal 2011 due to the increase in revenues described above, including the increases in PEO Services, which has pass-through costs that are re-billable and which includes costs for benefits coverage, workers' compensation coverage and state unemployment taxes for worksite employees. These pass-through costs were $1,363.6 million in fiscal 2012, which included costs for benefits coverage of $1,060.3 million and costs for workers' compensation and payment of state unemployment taxes of $303.3 million. These pass-through costs were $1,182.2 million in fiscal 2011, which included costs for benefits coverage of $937.8 million and costs for workers' compensation and payment of state unemployment taxes of $244.4 million. The increase in operating expenses is also due to operating expenses related to businesses acquired of $132.1 million, and higher labor-related expenses in Employer Services of $38.5 million. Additionally, . . .

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