SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 8-K
CURRENT REPORT
PURSUANT TO SECTION 13 OR 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
Date of Report: June 29, 1999
(Date of earliest event reported)
PAYCHEX, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 0-11330 16-1124166
(State of incorporation) (Commission (IRS Employer
File Number) Identification Number)
911 PANORAMA TRAIL SOUTH, ROCHESTER, NEW YORK 14625-0397
(Address of principal executive offices) (Zip Code)
(716)385-6666
(Registrant's telephone number, including area code)
ITEM 5. OTHER EVENTS
The registrant's press release dated June 29, 1999, which reports its
financial results for the fiscal year ended May 31, 1999, is attached. In
addition, this report includes Management's Discussion and Analysis of
Financial Condition and Results of Operations for the three years ended May
31, 1999, 1998 and 1997, and its financial condition at May 31, 1999.
This review is not a complete and comprehensive discussion and analysis as
required by the Securities and Exchange Commission for Annual Reports filed on
Form 10-K or quarterly reports filed on Form 10-Q. The 1999 Form 10-K and the
Annual Report to Shareholders is expected to be mailed in August 1999, and
will contain a complete set of audited Consolidated Financial Statements,
Notes to Consolidated Financial Statements, and an updated Management's
Discussion and Analysis of Financial Condition and Results of Operations for
the years ended May 31, 1999, 1998 and 1997, and its financial condition at
May 31, 1999.
All information included in this Form 8-K is qualified by the cautionary
statement in Exhibit 99.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
PAYCHEX, INC.
Date: June 29, 1999 /s/ B. Thomas Golisano
-----------------------
B. Thomas Golisano
Chairman, President and
Chief Executive Officer
Date: June 29, 1999 /s/ John M. Morphy
-----------------------
John M. Morphy
Vice President, Chief
Financial Officer and
Secretary
FOR IMMEDIATE RELEASE
John M. Morphy, Chief Financial Officer
Paychex, Inc. 716-383-3406
or
Jan Shuler 716-383-3406
Paychex, Inc.
Access Paychex, Inc. News Releases and related SEC filings at
http://www.paychex.com/paychex/finance/finance.html
PAYCHEX, INC. REPORTS RECORD
YEAR-END AND FOURTH QUARTER RESULTS
ROCHESTER, NY, June 29, 1999 -- Paychex, Inc. (NASDAQ: PAYX) today announced
record net income of $139.1 million or $.56 diluted earnings per share for the
year ended May 31, 1999, a 36% increase over net income of $102.2 million or
$.41 diluted earnings per share for the same period last year. Total service
revenues were $597.3 million, an increase of 21% over $493.7 million for the
previous fiscal year.
For the quarter ended May 31, 1999, net income increased 35% to $37.9 million
or $.15 diluted earnings per share as compared to net income of $28.1 million
or $.11 diluted earnings per share for the same period last year. Total
service revenues were $156.6 million, an increase of 19% over $131.7 million
for the same period last year.
PAYROLL SEGMENT
For the year ended May 31, 1999, operating income from payroll services
increased 31% to $235.7 million from $180.3 million for the same period last
year. Payroll service revenue was $545.2 million, an increase of 20% over
$455.2 million for the same period last year.
For the quarter ended May 31, 1999, operating income from payroll services
increased 37% to $64.2 million from $46.7 million for the fourth quarter last
year. Payroll service revenue was $142.0 million, an increase of 19% over
$119.6 million for the fourth quarter last year.
The increases in revenues and operating income were the result of a 10%
year-over-year increase in the Company's Payroll client base and continued
growth of the Taxpay and Direct Deposit products. Paychex currently services
322,600 Payroll clients, with 254,300 utilizing Taxpay, the Company's tax
filing and payment feature, 135,400 taking advantage of the Company's Direct
Deposit product and 39,500 using the Company's Check Signing option.
HRS-PEO SEGMENT
For the year ended May 31, 1999, operating income for the segment increased
90% from $6.6 million to $12.6 million. HRS-PEO service revenue rose to $52.0
million, an increase of 35% over $38.5 million for the same period last year.
For the quarter ended May 31, 1999, operating income for the segment increased
6% from $3.9 million to $4.2 million. HRS-PEO service revenue rose to $14.7
million, an increase of 21% over $12.1 million for the fourth quarter last
year.
The increases in service revenue for the year and the quarter are primarily
related to increasing 401(k) plan recordkeeping and section 125 clients. The
increases in operating income for the year and the quarter are due to service
revenue gains and continued leveraging of operating expenses. The lower than
normal year-over-year growth in fourth quarter operating income was due to a
comparison to an exceptionally strong fourth quarter in fiscal 1998. The
full-year percentage increase in operating income is more indicative of
expected future results for the HRS-PEO segment.
As of May 31, 1999, the segment had 10,100 401(k) plan recordkeeping clients,
20,200 section 125 clients and 18,300 PEO worksite employees. The number of
worksite employees represents a 5% decline over a year ago. During fiscal
1999, additions to worksite employees exceeded expectations, but were offset
by the loss of two large PEO clients during November 1998. The loss of these
clients did not have a material impact on operating income.
CORPORATE EXPENSES
Corporate expenses are primarily related to the Information Technology,
Organizational Development, Finance, Marketing and Senior Management functions
of the Company. For the year ended May 31, 1999, Corporate expenses increased
16% from $52.2 million to $60.7 million. For the quarter ended May 31, 1999,
Corporate expenses increased 16% from $13.7 million to $15.9 million. The
period increases are primarily due to additional employees required to support
the continued growth of the Company's business segments.
INCOME TAXES
The effective income tax rates for the year and quarter ended May 31, 1999,
were 30.5% and 32.3%, respectively, compared with 29.1% for the same periods
last year. The increase in the annual effective rate was due to the growth in
taxable income exceeding the growth in tax-exempt income, which is derived
primarily from the Taxpay and Direct Deposit services that provide investment
revenue. The higher effective rate for the fourth quarter of fiscal 1999 was
due to higher than anticipated investments in taxable financial instruments,
which were yielding a higher net of tax return than tax-exempt investments.
The effective tax rate for fiscal 2000 is expected to range between 30.5% and
31.0%.
B. Thomas Golisano, Chairman, President, and Chief Executive Officer of
Paychex said, "We are proud to have completed another successful year.
Fiscal 1999 was our ninth consecutive year of record service revenues and net
income, and our eighth consecutive year of net income growth of 36% or more.
We look forward to fiscal 2000 as we continue to execute our formula for
growth: increasing client counts, increasing utilization of ancillary
services, and leveraging our operating expense base."
PAYCHEX, INC.
CONSOLIDATED STATEMENTS OF INCOME
(In thousands, except per share amounts)
For the three months ended For the twelve months ended
May 31, May 31, May 31, May 31,
1999 1998 1999 1998
Service revenues:
Payroll $141,975 $119,595 $ 545,249 $ 455,227
HRS-PEO 14,661 12,116 52,047 38,477
------- ------- --------- ---------
Total service revenues 156,636 131,711 597,296 493,704
PEO direct costs
billed (A) 148,309 136,575 578,132 499,741
------- ------- --------- ---------
Total revenue 304,945 268,286 1,175,428 993,445
PEO direct costs (A) 148,309 136,575 578,132 499,741
Operating costs 38,219 34,187 151,956 131,731
Selling, general and
administrative
expenses 65,987 60,605 257,778 227,273
------- ------- --------- ---------
Operating income 52,430 36,919 187,562 134,700
Investment income 3,541 2,645 12,581 9,473
------- ------- --------- ---------
Income before income
taxes 55,971 39,564 200,143 144,173
Income taxes 18,081 11,513 61,044 41,954
------- ------- --------- ---------
Net income $ 37,890 $ 28,051 $ 139,099 $ 102,219
======= ======= ========= =========
Basic earnings
per share (B) $ .15 $ .11 $ .57 $ .42
======= ======= ========= =========
Diluted earnings
per share (B) $ .15 $ .11 $ .56 $ .41
======= ======= ========= =========
Weighted-average
common shares
outstanding (B) 246,153 244,743 245,521 244,514
======= ======= ========= =========
Weighted-average
shares assuming
dilution (B) 249,103 247,989 248,788 247,219
======= ======= ========= =========
Cash dividends per
common share (B) $ .06 $ .04 $ .22 $ .15
======= ======= ========= =========
(A) Wages and payroll taxes of PEO worksite employees and their related
benefit premiums and claims.
(B) Financial information for the periods ended May 31, 1998, have been
adjusted for a three-for-two stock split distributed in May 1999.
PAYCHEX, INC.
CONSOLIDATED BALANCE SHEETS
(In thousands)
May 31, 1999 1998
ASSETS
Cash and cash equivalents $ 52,692 $ 35,571
Investments 290,555 214,967
Interest receivable 18,045 13,227
Accounts receivable 62,941 54,596
Deferred income taxes 1,364 1,525
Prepaid expenses and other current assets 6,000 4,391
--------- ---------
Current assets before ENS investments 431,597 324,277
ENS investments 1,361,523 1,154,501
--------- ---------
Total current assets 1,793,120 1,478,778
--------- ---------
Property and equipment - net 65,931 64,698
Deferred income taxes 1,417 517
Other assets 12,633 5,794
--------- ---------
Total assets $1,873,101 $1,549,787
========= =========
LIABILITIES
Accounts payable $ 10,328 $ 10,496
Accrued compensation and related items 36,574 33,649
Deferred revenue 4,643 4,443
Accrued income taxes 4,281 2,628
Other current liabilities 17,905 13,960
--------- ---------
Current liabilities before ENS client deposits 73,731 65,176
ENS client deposits 1,358,605 1,150,484
--------- ---------
Total current liabilities 1,432,336 1,215,660
Other long-term liabilities 4,965 4,520
--------- ---------
Total liabilities 1,437,301 1,220,180
========= =========
STOCKHOLDERS' EQUITY
Common stock, $.01 par value,
300,000 authorized shares
Issued: 246,326/1999 and 163,188/1998 2,463 1,632
Additional paid-in capital 68,238 46,463
Retained earnings 362,269 278,107
Accumulated other comprehensive income 2,830 3,405
--------- ---------
Total stockholders' equity 435,800 329,607
--------- ---------
Total liabilities and stockholders' equity $1,873,101 $1,549,787
========= =========
PAYCHEX, INC.
BUSINESS SEGMENT INFORMATION
(In thousands)
The Company has two business segments: Payroll and Human Resource
Services-Professional Employer Organization (HRS-PEO). The Payroll segment is
engaged in the preparation of payroll checks, internal accounting records, all
federal, state and local payroll tax returns, and collection and remittance of
payroll obligations for small- to medium-sized businesses. The HRS-PEO
segment specializes in providing small- and medium-sized businesses with
cost-effective outsourcing solutions for their employee benefits. HRS-PEO
products include 401(k) plan recordkeeping services, section 125 plans,
workers' compensation, group benefits, and state unemployment insurance
services, employee handbooks and management services. As an outsourcing
solution, HRS-PEO relieves the business owner of human resource
administration, employment regulatory compliance, workers' compensation
coverage, health care and other employee-related responsibilities. Consistent
with PEO industry practice, HRS-PEO revenue includes all amounts billed to
clients for the services provided. Corporate expenses are primarily related
to the Information Technology, Organizational Development, Finance, Marketing
and Senior Management functions of the Company.
For the three months ended For the twelve months ended
May 31, May 31, May 31, May 31,
1999 1998 1999 1998
Total revenue:
Payroll $141,975 $119,595 $ 545,249 $455,227
HRS-PEO revenue:
Service revenue 14,661 12,116 52,047 38,477
PEO direct costs
billed (A) 148,309 136,575 578,132 499,741
------- ------- --------- -------
Total HRS-PEO
revenue 162,970 148,691 630,179 538,218
------- ------- --------- -------
Total revenue 304,945 268,286 1,175,428 993,445
PEO direct costs (A) 148,309 136,575 578,132 499,741
------- ------- --------- -------
Total revenue less PEO
direct costs $156,636 $131,711 $ 597,296 $493,704
======= ======= ========= =======
Investment revenue
included in Payroll
revenue $ 13,800 $ 12,624 $ 52,335 $ 43,429
======= ======= ========= =======
Operating income:
Payroll $ 64,154 $ 46,707 $ 235,710 $180,265
HRS-PEO 4,176 3,948 12,598 6,642
------- ------- --------- -------
Segment operating
income 68,330 50,655 248,308 186,907
Corporate expenses 15,900 13,736 60,746 52,207
------- ------- --------- -------
Total operating income 52,430 36,919 187,562 134,700
Investment income 3,541 2,645 12,581 9,473
------- ------- --------- -------
Income before income
taxes $ 55,971 $ 39,564 $ 200,143 $144,173
======= ======= ========= =======
(A) Wages and payroll taxes of PEO worksite employees and their related
benefit premiums and claims.
MANAGEMENT'S DISCUSSION AND ANALYSIS
OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
Management's Discussion and Analysis reviews the Company's operating results
for the three years ended May 31, 1999 (fiscal 1999, 1998 and 1997), and its
financial condition at May 31, 1999. The focus of this review is on the
underlying business reasons for significant changes and trends affecting
revenues, net income and financial condition. This review provides additional
analysis and disclosure than that contained in the Company's June 29, 1999
press release, which precedes this discussion.
This review is not a complete and comprehensive discussion and analysis as
required by the Securities and Exchange Commission for Annual Reports filed on
Form 10-K or quarterly reports filed on Form 10-Q. The 1999 Form 10-K and the
Annual Report to Shareholders is expected to be mailed in August 1999, and
will contain a complete set of audited Consolidated Financial Statements,
Notes to Consolidated Financial Statements, and an updated Management's
Discussion and Analysis of Financial Condition and Results of Operations for
the years ended May 31, 1999, 1998 and 1997, and its financial condition at
May 31, 1999.
Forward-looking statements in this Management's Discussion and Analysis are
qualified by the cautionary statement in Exhibit 99, contained in this Form
8-K.
RESULTS OF OPERATIONS
(In thousands,
except per share amounts) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
Service revenues $597,296 21.0% $493,704 23.5% $399,733
Operating income $187,562 39.2% $134,700 39.4% $ 96,625
Income before income taxes $200,143 38.8% $144,173 39.1% $103,656
Net income $139,099 36.1% $102,219 36.0% $ 75,150
Basic earnings per share $ .57 35.7% $ .42 35.5% $ .31
Diluted earnings per share $ .56 36.6% $ .41 32.3% $ .31
==============================================================================
The financial results for Paychex, Inc., in 1999, reflect the ninth
consecutive year of record service revenues and net income, and the eighth
consecutive year of net income growth of 36% or more. The Company's ability
to continually grow its client base, increase client utilization of ancillary
services, implement modest price increases, and decrease operating expenses as
a percent of service revenues has resulted in nine years of average compounded
annual growth in service revenues of 19% and net income of 36%.
Payroll segment
(In thousands) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
Payroll service revenue $545,249 19.8% $455,227 23.4% $368,855
Investment revenue included in
Payroll service revenue $ 52,335 20.5% $ 43,429 27.3% $ 34,105
Payroll operating income $235,710 30.8% $180,265 33.2% $135,364
==============================================================================
Payroll clients 322.6 9.9% 293.6 11.8% 262.7
Taxpay clients 254.3 15.2% 220.7 22.0% 180.9
Direct Deposit clients 135.4 29.7% 104.4 36.5% 76.5
Check Signing clients 39.5 17.9% 33.5 23.2% 27.2
==============================================================================
Revenues: Payroll service revenue includes service fees and investment
revenue. Service fee revenue is earned primarily from Payroll, Taxpay, Direct
Deposit, Check Signing and other ancillary services. Investment revenue is
earned during the period between collecting client funds and remitting the
funds to the applicable tax authorities for Taxpay clients and employees of
Direct Deposit clients. Investment revenue also includes net realized gains
and losses from the sale of available-for-sale securities.
The increases in service revenue for 1999 and 1998 are primarily related to
the growth of the Payroll client base, including improvement in client
retention, and increased utilization of ancillary services such as Taxpay,
Direct Deposit and Check Signing by both new and existing clients. During
1998 and 1997, the growth of the Taxpay client base was accelerated by the
Internal Revenue Service's Electronic Federal Tax Payment System mandate,
which required many small businesses to remit payroll tax payments
electronically as of July 1, 1997. Remitting payroll tax payments
electronically by the Company, results in the payments becoming "good funds"
one day earlier, and a one day reduction in investment revenue.
At May 31, 1999, 79% of Payroll clients utilized the Taxpay service, compared
with 75% at the end of 1998, and 69% at the end of 1997. Client utilization
of this product is expected to mature within the next several years within a
range of 82% to 87%. Client utilization of Direct Deposit was 42% at May 31,
1999, versus 36% and 29% at May 31, 1998 and 1997, respectively. At May 31,
1999, only 25% of the total employees paid by the Company's payroll service
utilize direct deposit. This service is expected to provide growth
opportunities for fiscal 2000 and beyond.
The decrease in year-over-year percentage growth in Payroll service revenue in
1999 compared to 1998 reflects the impact of lower interest rates and the
maturing of Taxpay. Fiscal 2000's percentage growth in Payroll revenue is
expected to be within the long-term historical range of 17% to 19%. Additional
discussion on interest rates and related risk is included in the Liquidity and
Capital Resources section of this review under the caption "Investments and
ENS investments".
Operating income: Operating income for 1999 and 1998 increased as a result of
continued growth of the client base, record levels of client retention,
increased utilization of ancillary services, modest price increases, and
leveraging of the segment's operating expense base, as evidenced by the
increases in the segment's operating margins year-over-year.
HRS-PEO segment
(In thousands) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
HRS-PEO service revenue $ 52,047 35.3% $ 38,477 24.6% $ 30,878
PEO direct costs billed 578,132 15.7% 499,741 49.2% 334,966
----------------------------------------------
Total HRS-PEO revenue 630,179 17.1% 538,218 47.1% 365,844
PEO direct costs 578,132 15.7% 499,741 49.2% 334,966
HRS-PEO operating income $ 12,598 89.7% $ 6,642 18.7% $ 5,596
==============================================================================
401(k) Recordkeeping clients 10.1 68.3% 6.0 100.0% 3.0
401(k) client funds managed
externally (in millions) $ 757.6 97.7% $ 383.3 177.2% $ 138.3
Section 125 clients 20.2 23.2% 16.4 24.2% 13.2
PEO worksite employees 18.3 -4.7% 19.2 39.1% 13.8
==============================================================================
Revenues: The significant increases in service revenue for 1999 and 1998 are
primarily related to the benefits of developing and growing a recurring
revenue stream from 401(k) recordkeeping clients, section 125 cafeteria plan
clients, and the number of Professional Employer Organization (PEO) worksite
employees. During fiscal 1999, additions to worksite employees exceeded
expectations, but were offset by the loss of two large PEO clients during
November 1998. Fiscal 2000's growth in HRS-PEO service revenue is expected to
be comparable to 1999's rate and continue to grow at a rate higher than
Payroll segment revenue.
PEO direct costs billed and PEO direct costs: Consistent with PEO industry
practice, total PEO revenues reported in the Consolidated Statements of Income
include the Company's service fee, plus the PEO direct costs billed to clients
for the wages and payroll taxes of worksite employees, their related benefit
premiums and claims and other direct costs of employment. The lower
percentage growth in 1999 for PEO direct costs billed and PEO direct costs is
primarily due to the loss of the two large clients discussed above.
Operating income: For 1999 and 1998, the increases in operating income are
primarily related to gains in service revenue and leveraging operating
expenses. Fiscal 1999 also benefited from the February 1998 consolidation of
the PEO administrative functions from Florida to Rochester, New York. During
the first half of 1999, the segment increased its 401(k) recordkeeping sales
force by approximately 50 individuals to attain the goal of servicing more
than 10,000 clients by the end of 1999, and to build a selling infrastructure
for future years.
Full-year fiscal 2000's HRS-PEO service revenue and operating income are
anticipated to continue to grow at a rate that is higher than the Payroll
segment's. Fiscal 2000's quarter-over-quarter percentage comparisons in
HRS-PEO service revenue and operating income may vary significantly throughout
the year, and any one particular quarter's results may not be indicative of
expected full-year results.
Corporate expenses
(In thousands) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
Corporate expenses $60,746 16.4% $52,207 17.8% $44,335
==============================================================================
For 1999 and 1998, the increases in expenses are primarily due to additional
employees required to support the continued growth of the Company's business
segments. In addition, 1999 and 1998 expenses reflect increased national
marketing efforts, which began in the latter part of the third quarter of
fiscal 1998. Fiscal 2000's expenses are expected to increase at a rate
slightly lower than 1999's growth rate.
Investment income
(In thousands) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
Investment income $12,581 32.8% $ 9,473 34.7% $ 7,031
==============================================================================
Investment income earned from the Company's Investments, which does not
include the investment revenue earned from ENS investments, has grown mainly
as a result of increases in investment balances generated from increases in
overall cash flows. Fiscal 1999's growth was slightly impacted by lower
comparable interest rates. Additional discussion on interest rates and
related risk is included in the Liquidity and Capital Resources section of
this review under the caption "Investments and ENS investments". Investment
income for fiscal 2000, subject to changes in market rates of interest, is
expected to grow at a rate slightly lower than the Company's net income
growth.
Income taxes
(In thousands) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
Income taxes $61,044 45.5% $41,954 47.2% $28,506
Effective income tax rate 30.5% 1.4 29.1% 1.6 27.5%
==============================================================================
For 1999 and 1998, the increases in the effective income tax rate are due to
the growth in taxable income exceeding the growth in tax-exempt income.
Tax-exempt income is derived primarily from the Taxpay and Direct Deposit
services that provide investment revenue. In addition, the higher effective
rate for 1999 was due to higher than anticipated investments in taxable
financial instruments, which were yielding a higher net of tax return than
tax-exempt investments. Fiscal 2000's effective income tax rate is expected
to range from 30.5% to 31.0%, as taxable income is expected to grow at a
faster rate than tax-exempt income.
LIQUIDITY AND CAPITAL RESOURCES
Operating activities
(In thousands) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
Operating cash flows $174,120 27.3% $136,761 27.8% $107,027
==============================================================================
The increases in operating cash flows resulted primarily from the consistent
achievement of record net income. Projected operating cash flows are expected
to adequately support normal business operations, forecasted growth, purchases
of property and equipment and dividend payments. Furthermore, at year-end,
the Company had $343.2 million in available cash and investments and $297.5
million of available, uncommitted, unsecured lines of credit.
Investing activities
(In thousands) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
Net Investments and
ENS activities $ (82,724) -6.8% $ (88,728) 152.4% $(35,151)
Purchases of P&E, net (22,104) -21.6% (28,197) 56.6% (18,008)
Purchases of other assets (3,590) 599.8% (513) -73.5% (1,935)
- ------------------------------------------------------------------------------
Net cash used in investing
activities $(108,418) -7.7% $(117,438) 113.2% $(55,094)
==============================================================================
Investments and ENS investments:
(In thousands) May 31, 1999 May 31, 1998
---------------------- ---------------------
COST FAIR VALUE COST FAIR VALUE
Type of issue:
Money market securities and
other cash equivalents $ 770,648 $ 770,648 $ 714,941 $ 714,941
Available-for-sale
securities:
General obligation
municipal bonds 313,485 314,636 212,222 213,940
Pre-refunded municipal
bonds 295,359 297,621 236,151 238,462
Revenue municipal bonds 266,264 267,290 199,545 200,850
Other securities 21 73 21 65
--------- --------- --------- ---------
Total available-for-sale
securities 875,129 879,620 647,939 653,317
Other 1,424 1,810 1,210 1,210
--------- --------- --------- ---------
Total Investments and
ENS investments $1,647,201 $1,652,078 $1,364,090 $1,369,468
========= ========= ========= =========
Classification of investments
on Consolidated Balance
Sheets:
Investments $ 288,596 $ 290,555 $ 213,606 $ 214,967
ENS investments 1,358,605 1,361,523 1,150,484 1,154,501
--------- --------- --------- ---------
$1,647,201 $1,652,078 $1,364,090 $1,369,468
========= ========= ========= =========
Investments have increased due to the investment of increasing cash balances
provided by operating activities less purchases of property and equipment and
dividend payments. The reported amount of ENS investments will vary
significantly based upon the timing of collecting client funds, and remitting
the funds to the applicable tax authorities for Taxpay clients and employees
of Direct Deposit clients.
At May 31, 1999, the Company had $770.6 million of ENS funds and $47.6 million
of Corporate cash equivalents invested in money market securities and other
cash equivalents with an average maturity of less than 30 days, and $879.6
million invested in available-for-sale securities with an average duration of
2.5 years. At May 31, 1999, the market value of the available-for-sale
securities exceeded their cost basis by $4.5 million compared to $5.4 million
at the end of May 1998.
Interest rate risk - The Company's available-for-sale debt securities are
exposed to market risk from changes in interest rates, as rate volatility will
cause fluctuations in the market value of held investments. Increases in
interest rates normally decrease the market value of the available-for-sale
securities, while decreases in interest rates increase the market value of the
available-for-sale securities.
In addition, the Company's available-for-sale securities and short-term funds
are exposed to earnings risk from changes in interest rates, as rate
volatility will cause fluctuations in the earnings potential of future
investments. Increases in interest rates quickly increase earnings from
short-term funds, and over time increase earnings from the available-for-sale
securities portfolio. Earnings from the available-for-sale securities do not
reflect changes in rates until the investments are sold or mature, and the
proceeds are reinvested at current rates. Decreases in interest rates have
the opposite earnings effect on the available-for-sale securities and
short-term funds.
The Company does not utilize derivative financial instruments to manage
interest rate risk. The Company directs investments towards high
credit-quality, tax-exempt securities to mitigate the risk that earnings from
the portfolio could be adversely impacted by changes in interest rates in the
near term. The Company invests in short- to intermediate-term, fixed-rate
municipal and government securities, which typically have lower interest rate
volatility, and manages the securities portfolio to a benchmark duration of
2.5 to 3.0 years.
During the fiscal 1999 quarter ended November 30, 1998, the federal funds rate
was reduced by 75 basis points to 4.75%. The earnings impact of these rate
reductions is not precisely quantifiable because many factors influence the
return on the Company's portfolio. These factors include, among others, daily
interest rate changes, the proportional mix of taxable and tax-exempt
investments, and changes in tax-exempt and taxable investment rates which are
not synchronized, nor do they change simultaneously. Subject to the
aforementioned factors, a 25 basis point change normally affects the Company's
tax-exempt interest rates by approximately 17 basis points.
As of May 31, 1999, the Company had $879.6 million invested in
available-for-sale securities at fair value, with a weighted-average yield to
maturity of 4.10%. Assuming a hypothetical increase in interest rates of 75
basis points given the May 31, 1999 portfolio of securities, the resulting
potential decrease in fair value would be approximately $16.2 million, or
approximately 2% of the portfolio. Conversely, a corresponding decrease in
interest rates would result in a comparable increase in fair value. This
hypothetical increase or decrease in the fair value of the portfolio would be
recorded as an adjustment to the portfolio's recorded value, with an
offsetting amount recorded in stockholders' equity, and with no related or
immediate impact to the results of operations. The Company's interest rate
risk exposure has not changed materially since May 31, 1998.
Credit risk - The Company is exposed to credit risk in connection with these
investments through the possible inability of the borrowers to meet the terms
of the bonds. The Company attempts to limit credit risk by investing
primarily in AAA and AA rated securities, A-1 rated short-term securities and
by limiting amounts that can be invested in any single instrument. At May 31,
1999, approximately 96% of the available-for-sale securities held an AA rating
or better, and all short-term securities classified as cash equivalents held
an A-1 or equivalent rating.
Purchases of property and equipment, net: In addition to the $22.1 million of
purchases of property and equipment for the year ended May 31, 1999, the
Company had committed to purchase approximately $4.0 million of additional
items at May 31, 1999. To support the Company's continued client and
ancillary product growth, significant purchases and commitments were made in
1999 and 1998 for data processing and personal computer equipment, and for the
expansion and upgrade of various operating facilities. Purchases of property
and equipment in fiscal 2000 are expected to range from $27 million to $30
million.
Financing activities
(In thousands,
except per share amounts) 1999 Change 1998 Change 1997
- ------------------------------------------------------------------------------
Dividends paid $(54,055) 50.7% $(35,871) 48.7% $(24,117)
Proceeds from exercise of
stock options 5,535 178.1% 1,990 -8.7% 2,180
Other (61) -- (84) -- 218
- ------------------------------------------------------------------------------
Net cash used in financing
activities $(48,581) 43.0% $(33,965) 56.4% $(21,719)
- ------------------------------------------------------------------------------
Cash dividends per
common share $ .22 46.7% $ .15 50.0% $ .10
==============================================================================
Dividends paid: The Company has increased its quarterly cash dividend rate
per share by 50% in each of the last seven fiscal years. The Company has
distributed three-for-two stock splits effected in the form of 50% stock
dividends on outstanding shares each May in the last five fiscal years.
Proceeds from exercise of stock options: The increase in proceeds from
exercise of stock options reflects the issuance of 1,032,000 shares of common
stock for stock option exercises in 1999, versus 277,000 shares in 1998 and
267,000 shares in 1997, on a pre-split-adjusted basis.
OTHER
Recently issued accounting standards: Through the end of 1999, the Company
expensed as incurred certain costs to develop and enhance its internal
computer programs and software. Expenditures for vendor-provided software
were capitalized and amortized by the straight-line method over their
estimated useful lives, ranging from 3 to 5 years. In March 1998, the
Accounting Standards Executive Committee issued Statement of Position (SOP)
98-1, "Accounting for the Costs of Computer Software Developed or Obtained
for Internal Use." The SOP requires the capitalization of internal use
computer software costs if certain criteria are met, including all external
direct costs for materials and services and certain payroll and related fringe
benefit costs. The Company will adopt the SOP as of June 1, 1999. The effect
of adopting the SOP is expected to increase net income by approximately $2.0
million to $3.0 million for the year ended May 31, 2000.
Year 2000 readiness disclosure: The Company is actively pursuing resolution
of year 2000 issues. The year 2000 problem originated with the advent of
computers, when dates were stored without century indicators, in an effort to
reduce the need for expensive storage space used for input, output and storage
media. In order to process and calculate dates correctly, internal computer
systems must be changed to handle the year 2000 and beyond. Year 2000 efforts
extend past the Company's internal computer systems and require coordination
with clients, vendors, government entities, financial institutions and other
third parties to understand their plans for making systems and related
interfaces compliant.
In response to year 2000 issues, the Company initiated a program to manage
progress in year 2000 compliance efforts. The managers of the Company's year
2000 compliance program report directly to the Vice President of Information
Technology and provide regular reports to the Company's Senior Management and
the Board of Directors.
Processes and procedures are in place to ensure the following: all future
internal development and testing follows year 2000 development and testing
standards, all projects undertaken in the interim deliver year 2000 compliant
solutions, all future third-party hardware and software acquisitions are year
2000 compliant, and all commercial third-party service providers are being
queried regarding their year 2000 compliance plans. In addition, the Company
is actively working with all government agency partners to determine their
year 2000 compliance plans, and has been making year 2000 changes based on
their mandates.
The Company's internal mission-critical systems were year 2000 compliant by
the end of the first quarter of calendar year 1999. The remainder of calendar
year 1999 will be used to assess and address year 2000 issues for internal
desktop computers and software, complete interface testing with external
agencies and partners, enhance existing normal business contingency plans to
address any identified year 2000 issues, and to react to yet unknown changes
dictated by third parties, such as government agencies, hardware and software
vendors, financial institutions, or utility companies. Third-party interface
testing and resolution of year 2000 issues with external agencies and partners
is dependent upon those third parties completing their own year 2000
remediation efforts.
The Company expects minimal business disruption will occur as a result of year
2000 issues for systems that the Company directly controls. The Company is in
the process of enhancing existing normal business contingency plans to address
any identified year 2000 issues based on actual testing experience with third
parties and assessment of outside risks. There can be no assurance that there
will not be an adverse effect on the Company if third parties, such as
government agencies, hardware and software vendors, financial institutions or
utility companies, do not convert their systems in a timely manner and in a
way that is compatible with the Company's systems. However, management
believes that ongoing communication with and assessment of these third parties
will minimize these risks, and expects minimal business disruption at the turn
of the century.
The Company currently anticipates expenditures for year 2000 efforts to
approximate $5 million, with approximately eighty percent spent through May
31, 1999. The remaining twenty percent will be spent on desktop computers and
software, continued interface testing with external agencies and partners,
enhancing existing contingency plans, and to react to yet unknown changes
dictated by third parties. The cost of the project and the date on which the
Company plans to complete the year 2000 modifications are based on
management's best estimates. These estimates were derived from internal
assessments and assumptions of future events. The estimates may be adversely
affected by the continued availability of personnel and system resources, as
well as the failure of third-party vendors, service providers, and agencies to
properly address year 2000 issues. There is no guarantee that these estimates
will be achieved, and actual results could differ significantly from those
anticipated.
EXHIBIT 99: "Safe Harbor" Statement under the Private Securities Litigation
Reform Act of 1995.
"SAFE HARBOR" STATEMENT UNDER THE PRIVATE SECURITIES
LITIGATION REFORM ACT OF 1995
Certain written and oral statements made by Paychex, Inc., (the "Company")
management may constitute "forward-looking statements" as defined in the
Private Securities Litigation Reform Act of 1995. Forward-looking statements
are identified by such words and phrases as "expects", "is expected to be" and
"could be." Because they are forward-looking, they should be evaluated in
light of important risk factors. These risk factors include general market
conditions, including demand for the Company's products and services,
competition and price levels; changes in the laws regulating collection and
payment of payroll taxes, professional employer organizations, and employee
benefits, including 401(k) plans, workers' compensation, state unemployment,
and section 125 plans; delays in the development, timing of the introduction,
and marketing of new products and services; the possibility of catastrophic
events that could impact the Company's operating facilities, computer
technology and communication systems, including Year 2000 issues; and changes
in short- and long-term interest rates and the credit rating of cash, cash
equivalents, and securities held in the Company's investment portfolios.
