Invest In Hewitt, Reap The Benefits

10/12/2009


  Recent Price
$36
  Dividend
$0.00
  Yield

0.0%

  P/E Ratio
16
  Shares (millions)
93
  Long-Term Debt as % of Capital
43%
  52-Week Price Range
$36.95 - $22.78

The architect of the first large-employer 401(k) plan, Hewitt Associates ($36; HEW) administers benefits for one in 20 Americans.

Hewitt handles the functions of a human-resources department, duties many companies have outsourced as a cost-cutting measure in recent years. But even when the economy improves, Hewitt’s services should remain in demand. Market-research firm IDC predicts spending on human-resource services should grow at 6% a year and reach $138 billion by 2013.

Xerox ($7; XRX) agreed to buy outsourcer Affiliated Computer Services ($52; ACS) for $5.5 billion, and Hewitt could potentially draw suitors looking for a recession-resistant business with growth potential. But merger talk aside, the stock has appeal in its own right. Hewitt shares have rallied 22% since the end of July, yet its modest valuation suggests the ceiling is higher. With a strong track record and solid operating momentum, Hewitt is ranked a Buy.

Business breakdown

Hewitt generates most of its revenue from outsourcing. Benefits outsourcing (51% of six-month sales) manages employers’ health, welfare, and retirement plans. Human-resources business-process outsourcing (16%) manages payroll and personnel. This unit offers the best growth potential in the years ahead. Hewitt can work within the framework of a company’s existing human-resources infrastructure, or it can shift clients into its own proprietary systems.

The consulting business (33%) advises clients in two areas. First, Hewitt assists in the design and selection of benefit, welfare, and contribution plans. Second, it helps companies find and train employees and assists companies with restructuring and mergers.

Leaner and stronger

Over the past year, Hewitt has restructured contracts, trimmed
expenses, and divested assets in an effort to keep profits growing despite weak sales. In the nine months ended June, operating income rose 27% despite 4% lower sales. Well-established business relationships should help Hewitt grow steadily going forward. About 95% of its largest clients have worked with the company for at least five years.

Hewitt has lowered its share count by 4.4% over the last year and nearly 16% over the last three years. Both operating cash flow and free cash flow have grown sharply in the last three quarters, and that solid cash flow should support continued share buybacks.

Conclusion

While sales probably fell in the September quarter, the consensus projects per-share-profit growth of 26%. Hewitt topped the consensus by at least 9% in the December, March, and June quarters. In fiscal 2010, Wall Street expects profits to rise 8% on 2% sales growth, and Hewitt seems capable of topping those targets.

At 14 times estimated earnings over the next 12 months, Hewitt shares trade 44% below the three-year average valuation and 4% below the peer-group average. Given Hewitt’s potential for double-digit profit growth in the years ahead, the shares look cheap. An annual report for Hewitt Associates Inc. is available at 100 Half Day Road, Lincolnshire, IL 60069; (847) 295-5000; www.hewittassociates.com.

HEWITT ASSOCIATES
Quarter

    Per-Share
     Earnings*

Sales
Change

      Quarterly
      Price Range

P/E Ratio
Range

Jun '09 $0.60 vs. $0.36 - 6% $31.90 -

$28.31

15 - 14
Mar '09 0.71 vs. 0.43 - 4% 33.65 - 24.73 19 - 14
Dec '08 0.68 vs. 0.59 - 3% 36.42 - 22.78 21 - 13
Sep '08 0.32 vs.

-2.51

+ 7% 42.22 - 34.40 NM
           
Year
(Sep.)

Sales
 (Bil.)

Per-Share
Earnings*
Per-Share
Dividend

52-Week Price Range

P/E Ratio
Range

2008 $3.23 $1.85 $0.00 $43.00
-
$32.17 23 - 17
2007 $2.99 -$1.62 $0.00 35.05
-
23.54 NM
2006 $2.86 -$1.01 $0.00 30.23
-
19.01 NM
2005 $2.90 $1.28 $0.00 32.30
-
23.94 25 - 19
             
————————————————— Quadrix Scores † —————————————————
Overall Momen-
tum
Value Quality Financial
Strength
Earnings
Estimates
Performance
92 77 83 89 61 54 52

   * Earnings exclude special items.
   † Quadrix® scores are percentile ranks, with 100 the best.


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