PAYCHEX INC

Previous wording

Management’s Discussion and Analysis of Financial Condition and Results of Operations reviews the operating results of Paychex, Inc. and its wholly owned subsidiaries (“Paychex,” the “Company,” “we,” “our,” or “us”) for the three months ended August 31, 2024 (the “first quarter”), the prior year period ended August 31, 2023 (the “prior year period”), and our financial condition as of August 31, 2024. The focus of this review is on the underlying business reasons for material changes and trends affecting our revenue, expenses, net income, and financial condition. This review should be read in conjunction with the August 31, 2024 consolidated financial statements and the related Notes to Consolidated Financial Statements (Unaudited) contained in this Quarterly Report on Form 10-Q (“Form 10-Q”). This review should also be read in conjunction with our Annual Report on Form 10-K (“Form 10-K”) for the year ended May 31, 2024 (“fiscal 2024”). Forward-looking statements in this Form 10-Q are qualified by the cautionary statement included under the next sub-heading, “Cautionary Note Regarding Forward-Looking Statements.”

Current wording

Management’s Discussion and Analysis of Financial Condition and Results of Operations reviews the operating results of Paychex, Inc. and its wholly owned subsidiaries (“Paychex,” the “Company,” “we,” “our,” or “us”) for the three months ended November 30, 2024 (the “second quarter”), the six months ended November 30, 2024 (the "six months"), the respective prior year periods ended November 30, 2023 (the “prior year periods”), and our financial condition as of November 30, 2024. The focus of this review is on the underlying business reasons for material changes and trends affecting our revenue, expenses, net income, and financial condition. This review should be read in conjunction with the November 30, 2024 consolidated financial statements and the related Notes to Consolidated Financial Statements (Unaudited) contained in this Quarterly Report on Form 10-Q (“Form 10-Q”). This review should also be read in conjunction with our Annual Report on Form 10-K (“Form 10-K”) for the year ended May 31, 2024 (“fiscal 2024”). Forward-looking statements in this Form 10-Q are qualified by the cautionary statement included under the next sub-heading, “Cautionary Note Regarding Forward-Looking Statements.”

Previous wording

Certain written statements made in this Form 10-Q may contain, and members of management may from time to time make or discuss statements which constitute, “forward-looking statements” within the meaning of the safe harbor provisions of the United States (“U.S.”) Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by such words and phrases as “expect,” “estimate,” “intend,” “intent,” “outlook,” “will,” “would,” “projections,” “strategy,” “mission,” “anticipate,” “believe,” “could,” “may,” “target,” “potential,” “purpose,” “design,” “might,” and other similar words or phrases. Forward-looking statements include, without limitation, all matters that are not historical facts. Examples of forward-looking statements include, among others, statements we make regarding operating performance, events, or developments that we expect or anticipate will occur in the future, including statements relating to our outlook, revenue growth, earnings, earnings-per-share growth, and similar projections.

Current wording

Certain written statements made in this Form 10-Q may contain, and members of management may from time to time make or discuss statements which constitute, “forward-looking statements” within the meaning of the safe harbor provisions of the United States (“U.S.”) Private Securities Litigation Reform Act of 1995. Forward-looking statements can be identified by such words and phrases as “expect,” “outlook,” “will,” “guidance,” “projections,” “strategy,” “mission,” “anticipate,” “believe,” “can,” “could,” “design,” “may,” “possible,” “potential,” “should,” and other similar words or phrases. Forward-looking statements include, without limitation, all matters that are not historical facts. Examples of forward-looking statements include, among others, statements we make regarding operating performance, events, or developments that we expect or anticipate will occur in the future, including statements relating to our outlook, revenue growth, earnings, earnings-per-share growth, and similar projections.

Previous wording

Our investor presentation regarding the financial results for the first quarter is available and accessible on our Paychex Investor Relations portal athttps://investor.paychex.com. Information available on our website is not a part of, and is not incorporated into, this Form 10-Q. We intend to make future investor presentations available exclusively on our Paychex Investor Relations portal.

Current wording

Our investor presentation regarding the financial results for the second quarter is available and accessible on our Paychex Investor Relations portal athttps://investor.paychex.com. Information available on our website is not a part of, and is not incorporated into, this Form 10-Q. We intend to make future investor presentations available exclusively on our Paychex Investor Relations portal.

Previous wording

Highlights compared to the prior year period are as follows:

Current wording

Highlights compared to the prior year periods are as follows:

Previous wording

For further analysis of our results of operations for the first quarter and prior year period, and our financial position as of August 31, 2024, refer to the tables and analysis in the “Results of Operations” and “Liquidity and Capital Resources” sections of this Item 2.

Current wording

For further analysis of our results of operations for the second quarter and six months, the prior year periods, and our financial position as of November 30, 2024, refer to the tables and analysis in the “Results of Operations” and “Liquidity and Capital Resources” sections of this Item 2.

Previous wording

Total revenue increased to $1.3 billion for the first quarter, reflecting an increase of 3% compared to the prior year period. Excluding the impact of the expiration of the Employee Retention Tax Credit ("ERTC") program and one less payroll processing day as compared with the prior year quarter, revenue growth was 7%. The changes in revenue as compared to the prior year period were primarily driven by the following factors:

Current wording

Total revenue increased to $1.3 billion for the second quarter and $2.6 billion for the six months, reflecting increases of 5% and 4% respectively, compared to the prior year periods. Excluding the impact of the expiration of the Employee Retention Tax Credit ("ERTC") program, revenue growth for the second quarter and the six months was 7% and 6% respectively. The changes in revenue as compared to the prior year periods were primarily driven by the following factors:

Previous wording

Lower revenue from ancillary services, primarily due to the expiration of our ERTC Service.

Current wording

Lower revenue from ancillary services, primarily due to the expiration of our ERTC program.

Previous wording

Interest on funds held for clients: $37.5 million for the first quarter, reflecting an increase of 15%, primarily due to higher average interest rates and average investment balances.

Current wording

Interest on funds held for clients: $36.1 million for the second quarter and $73.6 million for the six months, reflecting increases of 15% for each period, primarily due to higher average interest rates and average investment balances.

Previous wording

(1) The net unrealized loss on our investment portfolio was approximately $49.3 million as of September 27, 2024. Refer to Note F in the Notes to Consolidated Financial Statements and the "Market Risk Factors" caption contained in this Form 10-Q for more information regarding AFS securities held in an unrealized loss position.

Current wording

(1) The net unrealized loss on our investment portfolio was approximately $103.3 million as of December 18, 2024. Refer to Note F in the Notes to Consolidated Financial Statements and the "Market Risk Factors" caption contained in this Form 10-Q for more information regarding AFS securities held in an unrealized loss position.

Previous wording

(2) The Federal Funds rate was in the range of 5.25% to 5.50% as of August 31, 2024 and as of May 31, 2024. Effective September 19, 2024, the Federal Reserve decreased the Federal Funds rate to a range of 4.75% to 5.00%.

Current wording

(2) The Federal Funds rate was in the range of 4.50% to 4.75% as of November 30, 2024 and 5.25% to 5.50% as of May 31, 2024. Effective December 19, 2024, the Federal Reserve decreased the Federal Funds rate to a range of 4.25% to 4.50%.

Previous wording

Total expenses: The following table summarizes the total combined cost of service revenue and selling, general and administrative expenses for the period below:

Current wording

Total expenses: The following table summarizes the total combined cost of service revenue and selling, general and administrative expenses for the periods below:

Previous wording

Total expenses increased 3% to $771.8 million for the first quarter compared to the prior year period. Total expenses increased as a result of the following:

Current wording

Total expenses increased 4% to $778.8 million for the second quarter and 3% to $1.6 billion for the six months, compared to the prior year periods. Total expenses increased as a result of the following:

Previous wording

PEO direct insurance costs: $130.3 million for the first quarter, reflecting an increase of 18%, related to growth in average worksite employees and PEO insurance revenues.

Current wording

PEO direct insurance costs: $130.8 million for the second quarter and $261.1 million for the six months, reflecting increases of 17% and 18% respectively, related to growth in average worksite employees and PEO insurance revenues.

Previous wording

Other expenses:$151.2 million for the first quarter, reflecting an increase of 6%, primarily related to continued investment in technology, sales, and marketing.

Current wording

Other expenses:$151.9 million for the second quarter and $303.1 million for the six months, reflecting an increase of 6% for each period, primarily related to continued investment in technology, sales, and marketing.

Previous wording

Other income, net: Other income, net decreased 19% to $10.4 million for the first quarter, primarily as a result of lower average investment balances on our corporate investments.

Current wording

Other income, net: Other income, net decreased $6.1 million to $5.6 million for the second quarter and $8.5 million to $16.0 million for the six months, primarily as a result of lower average interest rates earned on our corporate investments as well as lower average investment balances.

Previous wording

Income taxes: Our effective income tax rate was 23.3% for the first quarter, compared to 23.7%, for the prior year period. Both periods were impacted by the recognition of excess tax benefits related to employee stock-based compensation payments.

Current wording

Income taxes: Our effective income tax rate was 24.0% for the second quarter and 23.6% for the six months, compared to 24.2% and 23.9%, for the prior year periods, respectively. All periods were impacted by the recognition of excess tax benefits related to employee stock-based compensation payments.

Previous wording

Our financial position as of August 31, 2024 remained strong with cash, restricted cash, and total corporate investments of $1.6 billion. Short-term borrowings of $18.9 million and long-term borrowings of $800.0 million were outstanding as of August 31, 2024. Our unused capacity under our unsecured credit facilities was approximately $2.0 billion as of August 31, 2024. Our primary source of cash is our ongoing operations, which was $546.1 million for the first quarter. Our positive cash flows have allowed us to support our business, and pay dividends. We currently anticipate that corporate cash, corporate restricted cash, and total corporate investments as of August 31, 2024, along with projected operating cash flows and available short-term financing, will support our business operations, capital purchases, primarily investment in our technology solutions, share repurchases, dividend payments, and the servicing of long-term debt for the foreseeable future.

Current wording

Our financial position as of November 30, 2024 remained strong with cash, restricted cash, and total corporate investments of $1.3 billion. Short-term borrowings of $18.2 million and long-term borrowings of $800.0 million were outstanding as of November 30, 2024. Our unused capacity under our unsecured credit facilities was approximately $2.0 billion as of November 30, 2024. Our primary source of cash is our ongoing operations, which was $841.1 million for the six months. Our positive cash flows have allowed us to support our business, and pay dividends. We currently anticipate that corporate cash, corporate restricted cash, and total corporate investments as of November 30, 2024, along with projected operating cash flows and available short-term financing, will support our business operations, capital purchases, primarily investment in our technology solutions, share repurchases, dividend payments, and the servicing of long-term debt for the foreseeable future.

Previous wording

Details of borrowings under each credit facility during the first quarter were as follows:

Current wording

Details of borrowings under each credit facility during the second quarter were as follows:

Previous wording

Letters of credit: As of August 31, 2024, we had irrevocable standby letters of credit available totaling $165.4 million, primarily to secure commitments for certain insurance policies. The letters of credit expire at various dates between October 02, 2024 and August 24, 2025. No amounts were outstanding on these letters of credit during the first quarter or as of August 31, 2024.

Current wording

Letters of credit: As of November 30, 2024, we had irrevocable standby letters of credit available totaling $165.9 million, primarily to secure commitments for certain insurance policies. The letters of credit expire at various dates between December 01, 2024 and November 23, 2025. No amounts were outstanding on these letters of credit during the second quarter or as of November 30, 2024.

Previous wording

Other commitments: We had outstanding commitments under existing workers’ compensation insurance agreements and legally binding contractual arrangements. We also entered into various purchase commitments with vendors in the ordinary course of business and had outstanding commitments to purchase approximately $3.9 million of capital assets as of August 31, 2024. In addition, we are involved in three limited partnership agreements to contribute a maximum of $30.0 million to venture capital funds in the financial technology sector. As of August 31, 2024, we have contributed approximately $23.6 million of the total funding commitment.

Current wording

Other commitments: We had outstanding commitments under existing workers’ compensation insurance agreements and legally binding contractual arrangements. We also entered into various purchase commitments with vendors in the ordinary course of business and had outstanding commitments to purchase approximately $6.3 million of capital assets as of November 30, 2024. In addition, we are involved in three limited partnership agreements to contribute a maximum of $30.0 million to venture capital funds in the financial technology sector. As of November 30, 2024, we have contributed approximately $24.1 million of the total funding commitment.

Previous wording

Our investment portfolio incorporates both corporate cash and funds held for clients. Interest rates, market conditions, and our volatile cash flows are among several factors influencing our investment strategy directing the mix between long-term and VRDN AFS securities compared to short-term restricted cash and cash equivalents held in the portfolio. A portfolio strategy that favors larger balances held in restricted cash and cash equivalents will impact our investing activities due to the offsetting activity in the purchases and sales or maturities of AFS investments.

Current wording

Our investment portfolio incorporates both corporate cash and funds held for clients. Interest rates, market conditions, and our volatile cash flows are among several factors influencing our investment strategy directing the mix between long-term and VRDN AFS securities compared to short-term restricted cash and cash equivalents held in the investment portfolio. An investment portfolio strategy that favors larger balances held in restricted cash and cash equivalents may impact our investing activities due to the offsetting activity in the purchases and sales or maturities of AFS investments.

Previous wording

Summarized cash operating, investing, and financing cash flow information for the first quarter and the prior period:

Current wording

Summarized operating, investing, and financing cash flow information for the six months and the prior period:

Previous wording

The changes in our cash flow for the first quarter compared to the prior year period were primarily the result of the following key drivers:

Current wording

The changes in our cash flow for the six months compared to the prior year period were primarily the result of the following key drivers:

Previous wording

Net income attributable to the reasons discussed in the “Results of Operations” section of this Item 2;

Current wording

Net income attributable to the reasons discussed in the “Results of Operations” section of this Item 2; offset by

Previous wording

Net changes in PEO assets and liabilities as a result of the timing of cash collected and the settlement of payroll taxes; and

Current wording

Net changes in PEO assets and liabilities as a result of the timing of cash collected and the settlement of payroll taxes;

Previous wording

A net decrease in accrued corporate compensation primarily due to the settlement of fiscal 2024 year-end bonuses, offset by an increase in accrued payroll due to the timing of processing.

Current wording

A net decrease in accrued corporate compensation primarily due to the settlement of fiscal 2023 year-end bonuses;

Previous wording

Net purchases of short-term accounts receivable due to an increase in our client base, the timing of cash collections on outstanding receivables and cash settlement of the related reserve; and

Current wording

Net purchases of short-term accounts receivable due to an increase in our client base, the timing of cash collections on outstanding receivables and cash settlement of the related reserve;

Previous wording

Net purchase of short-term accounts receivable due to an increase in our client base, and funding to existing client base, and the timing of net cash collections; offset by

Current wording

Net purchase of short-term accounts receivable due to an increase in our client base, and funding to existing client base, and the timing of net cash collections; and

Previous wording

Cash used to develop and enhance our client facing internal-use software and the acquisition of third-party customer lists;

Current wording

Cash used to develop and enhance our client facing internal-use software and the acquisition of third-party customer lists; offset by

Previous wording

Net sales from AFS securities primarily due to a shift from investing in VRDNs to reinvesting in cash and cash equivalents due to more favorable interest rates. Our VRDN holdings were $11.3 million at August 31, 2023 compared to $344.1 million at May 31, 2023.

Current wording

Net sales from AFS securities primarily due to a shift from investing in VRDNs to reinvesting in cash and cash equivalents due to more favorable interest rates. We had no VRDN holdings as of November 30, 2023 compared to $344.1 million as of May 31, 2023.

Previous wording

Dividends paid at $0.98 per share. The payment of future dividends is dependent on our future earnings and cash flow and is subject to the discretion of our Board of Directors (the "Board");

Current wording

Cumulative dividends paid at $1.96 per share. The payment of future dividends is dependent on our future earnings and cash flow and is subject to the discretion of our Board of Directors (the "Board"); and

Previous wording

Cash used to repurchase 0.8 million shares of our common stock at a weighted average price of $125.50 per share during the first quarter. All repurchased shares were retired upon acquisition; and

Current wording

Cash used to repurchase 0.8 million shares of our common stock at a weighted average price of $125.50 per share during the six months. All repurchased shares were retired upon acquisition; offset by

Previous wording

Decrease in client fund obligations related to the timing of collections and remittances of client funds.

Current wording

Increase in client fund obligations related to the timing of collections and remittances of client funds.

Previous wording

Dividends paid at $0.89 per share. The payment of future dividends is dependent on our future earnings and cash flow and is subject to the discretion of our Board.

Current wording

Cumulative dividends paid at $1.78 per share. The payment of future dividends is dependent on our future earnings and cash flow and is subject to the discretion of our Board; and

Previous wording

Changes in interest rates and interest rate risk: Funds held for clients are primarily comprised of short-term funds and AFS securities. Corporate investments are primarily comprised of AFS securities. As a result of our investing activities, we are exposed to changes in interest rates that may materially affect our results of operations and financial position. Changes in interest rates will impact the earnings potential of future investments and will cause fluctuations in the fair value of our long-term AFS securities. We follow an investment strategy of protecting principal and optimizing liquidity. A substantial portion of our portfolios is invested in high credit quality securities with ratings of AA or higher, and A-1/P-1 ratings on short-term securities. We invest predominantly in corporate bonds; municipal bonds; U.S. government agency securities; and VRDNs when available in the market. We limit the amounts that can be invested in any single issuer and invest primarily in short- to intermediate-term instruments whose fair value is less sensitive to interest rate changes. We manage the AFS securities to a benchmark duration of two and one-half to three and three-quarters years.

Current wording

Changes in interest rates and interest rate risk: Funds held for clients are primarily comprised of short-term funds and AFS securities. Corporate investments are primarily comprised of AFS securities. As a result of our investing activities, we are exposed to changes in interest rates that may materially affect our results of operations and financial position. Changes in interest rates will impact the earnings potential of future investments and will cause fluctuations in the fair value of our long-term AFS securities. We follow an investment strategy of protecting principal and optimizing liquidity. A substantial portion of our portfolios is invested in high credit quality securities with ratings of AA or higher, and A-1/P-1 ratings on short-term securities. We invest predominantly in corporate bonds; municipal bonds; U.S. government agency securities; and VRDNs when available in the market. We limit the amounts that can be invested in any single issuer and invest primarily in short- to intermediate-term instruments whose fair value is less sensitive to interest rate changes. We manage the AFS securities to a benchmark duration of two to three and one-quarter years.

Previous wording

During the first quarter, our primary short-term investment vehicles were U.S. government agency discount notes and bank demand deposit accounts. We have no exposure to high-risk or non-liquid investments. We have insignificant exposure to European investments. We have not and do not utilize derivative financial instruments to manage our interest rate risk.

Current wording

During the six months, our primary short-term investment vehicles were U.S. government agency discount notes and bank demand deposit accounts. We have no exposure to high-risk or non-liquid investments. We have insignificant exposure to European investments. We have not and do not utilize derivative financial instruments to manage our interest rate risk.

Previous wording

During the first quarter, the average interest rate earned on our combined funds held for clients and corporate cash equivalents and investment portfolios was 3.9% compared to 3.7% for the prior year period. When interest rates are falling, the full impact of lower interest rates will not immediately be reflected in net income due to the interaction of short- and long-term interest rate changes. During a falling interest rate environment, earnings will decrease from our short-term investments, and over time, decrease from our longer-term AFS securities. Earnings from AFS securities, which as of August 31, 2024 had an average duration of 2.6 years, would not reflect decreases in interest rates until the investments are sold or mature and the proceeds are reinvested at lower rates.

Current wording

During the six months, the average interest rate earned on our combined funds held for clients and corporate cash equivalents and investment portfolios was 3.8% compared to 3.7% for the prior year period. When interest rates are falling, the full impact of lower interest rates will not immediately be reflected in net income due to the interaction of short- and long-term interest rate changes. During a falling interest rate environment, earnings will decrease from our short-term investments, and over time, decrease from our longer-term AFS securities. Earnings from AFS securities, which as of November 30, 2024 had an average duration of 2.4 years, would not reflect decreases in interest rates until the investments are sold or mature and the proceeds are reinvested at lower rates.

Previous wording

As of August 31, 2024, the Federal Funds rate was in the range of 5.25% to 5.50%. Effective September 19, 2024, the Federal Reserve decreased the Federal Funds rate to a range of 4.75% to 5.00%. There continues to be uncertainty in the changing market and economic conditions, including the possibility of additional measures that could be taken by the Federal Reserve and other government agencies related to the overall macroeconomic environment. We will continue to monitor the market and economic conditions.

Current wording

As of November 30, 2024, the Federal Funds rate was in the range of 4.50% to 4.75%. Effective December 19, 2024, the Federal Reserve decreased the Federal Funds rate to a range of 4.25% to 4.50%. There continues to be uncertainty in the changing market and economic conditions, including the possibility of additional measures that could be taken by the Federal Reserve and other government agencies related to the overall macroeconomic environment. We will continue to monitor the market and economic conditions.

Previous wording

Our total investment portfolio (funds held for clients and corporate cash equivalents and investments) is expected to average approximately $6.2 billion for the year ending May 31, 2025. Our anticipated allocation is approximately 45% invested in short-term securities and VRDNs with an average duration of less than 30 days and 55% invested in AFS securities, with an average duration of two and one-half to three and three-quarters years.

Current wording

Our total investment portfolio (funds held for clients and corporate cash equivalents and investments) is expected to average approximately $6.2 billion for the year ending May 31, 2025. Our anticipated allocation is approximately 45% invested in short-term securities and VRDNs with an average duration of less than 30 days and 55% invested in AFS securities, with an average duration of two to three and one-quarter years.

Previous wording

The combined funds held for clients and corporate AFS securities reflected net unrealized losses of $80.4 million as of August 31, 2024 and $162.5 million as of May 31, 2024. During the first quarter, the net unrealized loss on our investment portfolios ranged from a loss of $162.5 million to a loss of $75.8 million. These fluctuations were driven by changes in market rates of interest. The net unrealized loss on our investment portfolio was approximately $49.3 million as of September 27, 2024.

Current wording

The combined funds held for clients and corporate AFS securities reflected net unrealized losses of $85.9 million as of November 30, 2024 and $162.5 million as of May 31, 2024. During the six months, the net unrealized loss on our investment portfolios ranged from a loss of $162.5 million to a loss of $46.7 million. These fluctuations were driven by changes in market rates of interest. The net unrealized loss on our investment portfolio was approximately $103.3 million as of December 18, 2024.