A muddle-through economy and a legacy of high valuation continues to weigh on shares of small business payroll and human resource (HR) service provider Paychex (Nasdaq:PAYX). While the large amount of sell-side skepticism on this stock might appeal to investors with a contrarian streak, the lack of growth and momentum are legitimate concerns. Paychex's above-average yield and strong potential for dividend growth makes it a worthwhile hold, but it's hard to get excited about this combination of growth and valuation today.

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Closing the Year In-Line
Paychex didn't really surprise for good or ill with its fourth quarter results. Revenue rose 6% as reported and 5% on an organic basis. While the smaller HR services business continues to grow at a double-digit clip (up 12%), the larger payroll services business grew just 3% on an organic basis. The nearly 2% growth in checks per client (the Paychex version of "same store sales") was nice, but the 1% growth in clients was not as encouraging.

While revenue growth is pretty flaccid, margins are still quite strong. Gross margin improved a full point, while operating income rose 7%. Excluding the interest Paychex earns on client funds, operating margin improved by 80 basis points this quarter.

SEE: Understanding The Income Statement

On that latter point, interest from client funds dropped 12% from last year and about 2% from the prior quarter. With interest rates so low, it is a struggle for Paychex to earn a significant return on these short-term deposits.

The Hunt for Growth Continues
While it seems unlikely that analysts will find too much to quibble about with Paychex's reported earnings, the guidance is going to cause some trouble. Not only is Paychex looking for less growth in 2013 than originally hoped, but growth is now becoming a central bear thesis on the stock.

Some of Paychex's growth trouble is out of its hands; companies like Automatic Data Processing (Nasdaq:ADP), Accenture (NYSE:ACN) and IBM (NYSE:IBM) have benefited from the fact that hiring activity and service demand among large corporations have recovered, but the recovery in small- and mid-sized businesses (SMB) has been more uncertain.

Competition is also a threat, though. Intuit (Nasdaq:INTU) has specifically targeted this SMB market, as have a host of other smaller companies that are building around software-as-a-service (SaaS) models. And then there are companies like Heartland Payments (NYSE:HPY) trying to build its payroll card businesses (though Paychex does service payroll cards as well).

What this all mean is that Paychex needs to figure out new avenues for growth. Acquisitions could add a point or two of growth on a year-to-year basis, but it seems that the company needs to add new lines of business to really change its trajectory - and that represents execution risk that the company management just may not see as worthwhile.

SEE: Analyzing An Acquisition Announcement

The Bottom Line
Paychex is another one of those classic examples of how not every great business is a great stock. Paychex posts incredible returns on capital and generates a very compelling amount of free cash flow from its revenue. What's more is it's a leveragable business model where each incremental customer is more profitable than the one before it.

SEE: 5 Must-Have Metrics For Value Investors

All of that said, the numbers just don't point towards value. Even if Paychex can stave off competition and enjoy a rebound in SMB hiring, it's just hard to see where the company is going to generate double-digit growth without a bold (and risky) expansion plan into new businesses. I completely understand investors willing to hold this for the dividend and dividend growth potential, and I see relatively limited down-side risk, but it's hard to get excited about the price-value tradeoff today.

At the time of writing, Stephen D. Simpson did not own shares in any of the companies mentioned in this article.

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