Increased adoption of cloud computing and other emerging technologies, operational efficiency and reduced expenses on the back of the successful work-from-home trend and the hybrid working model have been driving competitive advantage besides increasing innovation and speed to market. These factors bode well for the Zacks Outsourcing industry.
Automatic Data Processing, Inc.ADP, Paychex, Inc. PAYX and Genpact Limited G are some stocks that are likely to gain from the abovementioned industry trends. However, rising data security issues, thanks to increased dependency on technology, are concerns for the industry.
Outsourcing is the practice of transferring control of certain operations, services or processes, previously done by the company’s internal staff and resources, to external resources or third-party contractors to improve operating efficiency by focusing on core business competencies. The Zacks Outsourcing industry comprises companies engaged in providing human capital management solutions, business management solutions and information technology solutions to human resource, payroll, benefits, and retirement and insurance services to small- and medium-sized businesses. Some industry participants also provide business process services with capabilities in transaction-intensive processing, analytics and automation in the United States and abroad.
What’s Shaping the Future of the Outsourcing Industry?
A Healthy Demand Environment: Increasing demand for expertise in improving efficiency and reducing costs has benefited the industry over the past several years. The industry has witnessed growth in revenues, income and cash flow over the past few years, enabling most players to pursue acquisitions and other investments, and pay out stable dividends.
Rising Dependency on Technologies: Most of the industry participants are also considering emerging technologies such as cloud computing to drive competitive advantage, increase innovation, improve speed to market and drive performance within the industry. The wider application of artificial intelligence (AI) is expected to be the biggest change induced by the pandemic. The adoption of AI should lower complications and simplify operations. This should aid the industry.
Notably, industry players are in the process of modernizing their traditional legacy-oriented business processes in order to keep themselves flexible in any kind of operating environment.
Growing Security Issues and Remedies: COVID-led increased dependency on technology has led to growing cases of hacking, identity theft and malicious payload deliveries. With success of the work-from-home and ongoign hybrid working models being the new-normal professional scenario, remote infrastructure vulnerabilities and security gaps are being exploited to secure unauthorized access to proprietary systems and data.
As a preventive measure to enhance data security and ensure cyber-resilience, increased implementation of secure access technologies such as VPNs, two-factor authentication and other ID and access-management controls for home workers, as well as increased monitoring and threat-detection tools, are being used. Outsourced service providers are also updating organizational policies (including Bring Your Own Device and work-from-home policies) and data breach protocols in order to reduce security risks. Adequate training of employees about emerging threats and data security issues is also being prioritized by several companies.
Zacks Industry Rank Indicates Encouraging Prospects
The Zacks Outsourcing industry, which is housed within the broader Zacks Business Services sector, currently carries a Zacks Industry Rank #99. This rank places it in the top 40% of more than 250 Zacks industries.
The group’s Zacks Industry Rank, which is basically the average of the Zacks Rank of all the member stocks, indicates continued outperformance in the near term. Our research shows that the top 50% of Zacks-ranked industries outperform the bottom 50% by a factor of more than two to one.
The buy-side analysts covering the companies in this industry have been increasing their estimates. Over the past year, the industry’s consensus earnings estimate for the current year has increased 3.7%.
Before we present a few stocks that investors can buy or retain given their growth prospects, let’s take a look at the industry’s recent stock market performance and current valuation.
Industry’s Price Performance
The Zacks Outsourcing industry has outperformed the broader Zacks Business Services sector as well as the Zacks S&P 500 composite over the past year.
The industry has declined 10.3% over this period compared with a 31.1% decline of the broader sector and 21.2% decrease of the Zacks S&P 500 composite.
One-Year Price Performance
Industry’s Current Valuation
On the basis of forward 12-month price-to-earnings (P/E), which is commonly used for valuing outsourcing stocks, the industry is currently trading at 24.91X compared with the S&P 500’s 17.69X and the sector’s 27.16X.
Over the past five years, the industry has traded as high as 28.89X, as low as 17.89X and at the median of 23.48X, as the charts below show.
Forward 12-month Price-to-Earnings (P/E)
3 Outsourcing Stocks to Keep a Close Eye On
We are presenting three Zacks Rank #3 (Hold) stocks that are well-positioned to grow in the near term. You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.
Automatic Data Processing: This New Jersey-based company provides cloud-based human capital management solutions worldwide. ADP remains strong, backed by its momentum in sales, client satisfaction and client retention. The company continues to enjoy a dominant position in the human capital management market through strategic buyouts like Celergo, WorkMarket, Global Cash Card and The Marcus Buckingham Company. It has a strong business model, high recurring revenues, good margins, robust client retention and low capital expenditure. ADP has updated its fiscal 2023 outlook. It now expects revenues to register 8-9% growth (prior view: 7-9% growth). Adjusted EPS is now expected to register 15-17% growth (prior view: 13-16%). ADP expects Employer Services revenues to grow at a rate of about 7-8% (prior view: 6-8%), while PEO Services revenues are still expected to grow at a 10-12% rate. The Zacks Consensus Estimate for ADP’s 2023 EPS has moved up 0.9% in the past 90 days. The stock has rallied 12% in the past six months.
Price & Consensus: ADP
Paychex: This New York-based company provides integrated human capital management solutions. Paychex continued to enjoy higher revenues per client resulting from improved price realization, growth in client base across HCM, and ancillary products resulting from strong sales performance and high levels of retention, besides improved market conditions on asset-based revenues for retirement services, and an increase in funding for temporary staffing clients. An increase in the number of average worksite employees, the impact of an increase in average wages per worksite employee and a rise in PEO health insurance revenues act as other tailwinds. Buyouts have expanded Paychex’s customer base, besides generating cost and revenue synergies. The Zacks Consensus Estimate for PAYX’s 2023 EPS has improved 1.2% in the past 90 days. The stock has declined 0.7% in the past six months.
Price & Consensus: PAYX
Genpact Limited: This Bermuda-based company provides business process outsourcing and IT services in North and Latin America, India, the rest of Asia, and Europe. Genpact enjoys a competitive position in the BPO services market based on its domain expertise in business analytics, digital and consulting. Acquisitions have been helping it in expanding its product portfolio and gaining new domain expertise. AI offers ample growth opportunities amid the COVID-induced dependency on technology. Consistency in rewarding shareholders through dividend payments and share repurchases boosts investor confidence and positively impacts earnings per share.
The Zacks Consensus Estimate for Genpact’s 2022 EPS has improved 0.4% in the past 90 days. The stock has gained 7.9% over the past six months.
Price & Consensus: G
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