Tuesday, May 02, 2006

Administaff- Is it Cheap Enough?

Administaff (ASF) got killed in the marketplace today dropping $10.82 per share almost 20%. The PEO business model (professional employer organization) is attractive in that it affords small businesses the opportunity to outsource HR functions like payroll and workers comp and other employee benefits to an outside expert rather than build internal administration. The risk in the business is that ASF remains liable for payroll, benefits, and insurance costs of the hired employees whether or not the client pays. Hence, the company's margins could be squeezed at times of rapidly changing health insurance premiums, not to mention, if the client were to run into financial difficulties and fail to meet payroll. Hence, despite the growth in the best of times, in my view, there is economic sensitivity in this business.

The returns on capital over time have been reasonably impressive coming in at around 14%. However, despite the sell-off, the EV/EBIT remains at about 20 times, still too expensive in my view.

From the standpoint of returning capital to shareholders, ASF has bought back little stock in the last five years on a net basis. A dividend was instituted last year of 7 cents quarterly which was recently stepped up to 9 cents providing a current yield of 0.76%.

Wall Street estimates of growth rates going forward have been cranked up from 20% to 28% in the last twelve months. In my view, the Street's dreaming!

An interesting interview with Jim MacDonald and Tom van Fleet of First Analysis Securities discussing this space can be found here.

Judging from the insider transactions at ASF, particularly those of the CEO, I find little reason to get involved even at these prices.

Disclaimer: Neither I, my family or clients have a current position in Administaff.


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