Dividend Aristocrats in Focus Part 4: Automatic Data Processing (ADP)

Automatic Data Processing (NASDAQ:ADP) traces its roots all the way back to 1949, when it was started by a 21-year old entrepreneur named Henry Taub. ADP began with a single client, and in the decades since, has grown to an industry leader in payroll processing services.

ADP currently has more than 600,000 clients spread across the world.  The stock has generated strong total returns over the last decade.  The image below shows an investment in ADP vs the S&P 500 (SPY) over the last decade.

ADP has a long history of paying and raising its dividend. The company has increased its shareholder payout each year for the past 41 years.

This streak qualifies ADP as a Dividend Aristocrat. In fact, ADP is the only Dividend Aristocrat in the information technology sector. Rapidly advancing technology makes building a durable competitive advantage in the IT sector difficult. ADP is the exception, not the rule.

Being a Dividend Aristocrat matters. ADP’s excellent performance over the last decade is not an exception. The Dividend Aristocrats Index has outperformed the S&P 500 by 3.1 percentage points a year on average over the last decade, according to S&P (1).  You can see all 50 Dividend Aristocrats here.

ADP’s most recent dividend increase was 8.1% in November 2015. ADP’s new annualized dividend of $2.12 per share represents a 2.4% current dividend yield. It has been four quarters since the last increase. Since the company typically raises its dividend each year in the fourth quarter, another raise is likely next month.

ADP maintains a target payout ratio of 55%-60% of earnings. This is the percentage of profits that the company seeks to distribute to shareholders as a dividend. Last year, ADP’s declared dividends of $2.08 per share represented 64% of its diluted earnings for the year. That is slightly above its target payout ratio, but the company is likely to generate enough earnings growth to justify a dividend increase this year. Therefore, investors should expect a mid-single digit dividend increase in the coming month.

Keep reading this article to learn more about the investment prospects of ADP.

Business Overview

Automatic Data Processing (NASDAQ:ADP) operates two separate reporting segments, which are Employer Services and Professional Employer Organization Services. The Employer Services business is ADP’s largest, and constitutes more than 80% of annual earnings.

ADP provides administrative tasks like payroll services, benefits administration, and human resources management to companies of all sizes. ADP’s clients utilize these services because outsourcing these functions allows them to focus on their core business activities. With hundreds of thousands of clients, ADP is highly diversified. No single customer represents more than 2% of ADP’s annual revenue.

Moving forward, ADP will concentrate solely on its Human Capital Management business, as a result of its 2014 spin-off of CDK Global CDK. The HCM business is comprised of software and service-based products designed to help clients streamline their recruiting, payroll, and management functions. Specifically, ADP will invest mostly in cloud-based software, to fuel future growth.