While rising rates are not great news for most companies, one firm that stands to benefit from higher rates is Paychex (PAYX), suggests dividend reinvestment expert Chuck Carlson, editor of DRIP Investor.
The company, a leading provider of payroll-processing and human-resources services primarily for small and medium-sized companies, is a direct beneficiary of higher rates. The company is also a direct beneficiary of employment gains.
That the company is somewhat in the sweet spot of this economy — strong employment, rising wages, and surging interest rates — is one reason these shares have held up relatively well in recent weeks.
Paychex, founded in 1971, provides payroll, benefits, human-resources, and insurance services for more than 710,000 businesses in the U.S. and Europe. The firm provides payroll services for roughly one in 12 U.S. private sector employees. The company is the nation’s largest 401(k) recordkeeper and operates the second-largest Professional Employer Organization (PEO).
The company is coming off a strong quarter ended February 28, with revenue rising 15% and per-share earnings up 23% and handily beating earnings estimates. Helping results was a strong labor market, which boosted checks per payroll and average wages. The solid results were a factor in the company boosting guidance for fiscal 2022 ending May 31.
Interest rates are an important player in the company’s profitability. Via its payroll-processing business, Paychex holds and releases funds to pay various payroll taxes for employers.
Paychex keeps the interest that accrues on these funds held for clients. And the amount of funds held for clients is substantial — more than $4.3 billion at the end of February. That level was up nearly 15% year over year. The amount of funds held for clients grows as a result of higher payroll taxes (due to higher wages and more employees). Thus, when short-term interest rates rise, Paychex should garner more interest from these held funds.
The solid profitability should lead to continued dividend increases. The company boosted its dividend 6% in 2021, and I expect a similar increase sometime in the next quarter or two.
While the stock is never cheap — these shares trade for around 35 times fiscal 2022 earnings estimates — I expect Paychex to hold up well relative to the rest of the market. And the stock’s dividend yield of 2% should provide added support. I have owned the stock for a long time and remain a fan of these shares.
Barring a major economic downturn, the company is positioned nicely to drive gains in the top and bottom line. To be sure, a more severe downturn in the stock market will impact Paychex. Nevertheless, I would be quick to take advantage of pullbacks.
Please note Paychex has a user-friendly direct-purchase plan. Minimum initial investment is $250. Subsequent investments are a minimum $100. The firm does not charge a fee to buy shares in the plan.
