JPMorgan upgrades Paychex stock rating on PEO growth strength

JPMorgan upgraded Paychex's stock rating to Neutral from Underweight on Thursday and increased its price target to $115 from $105. The current share price of $104.49, down from $114.53, indicates that the stock remains undervalued according to InvestingPro analysis. The upgrade was prompted by stronger-than-expected growth in Paychex's professional employer organization (PEO) business.

The downgrade on Wednesday was attributed to a revenue shortfall in management solutions due to a shift towards PEO, and a perception of guidance weighted heavily in the second half of the fiscal year. JPMorgan finds this business mix favorable, given PEO clients' superior average revenue per user, retention, and profit-dollars per customer compared to those who outsource administrative solutions.

PEO revenue growth has accelerated sequentially, driven by more clients converting from administrative solutions and strong referral activity, resulting in a third consecutive quarter of high-single-digit PEO worksite employee growth. The company's strong gross profit margin of 74% supports this positive business mix shift. Paychex has raised its dividend for 12 consecutive years, with a current yield of 4.56%.

The firm's guidance for the second quarter implies a 6% revenue growth when normalized for comparisons, consistent with the full-year estimate. The sequential decline in margins is primarily due to increased investment in marketing and headcount ahead of the selling season. JPMorgan modestly raised its earnings per share estimates for fiscal 2028, citing success in PEO and potential cost efficiencies.

Despite reporting adjusted earnings of $1.34 per share in its fiscal first-quarter results, which exceeded Wall Street's estimate of $1.32 per share, the company's stock declined, suggesting that investors might be focusing on other aspects of its performance.