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Summary

  • Trinet shows strong topline revenue growth.
  • Yet, growth is inflated through acquisitions.
  • Operating margins are small, and leverage is a drag on earnings.

TriNet Group (NYSE:TNET) provides human resource solutions to small and medium-sized businesses, enhancing productivity for organizations by outsourcing their HR functions to one core partner.

The company saw an uneventful public offering followed by strong subsequent returns in the weeks following the IPO.

The Public Offering

TriNet Group provides key human resource solutions, including payroll processing, human capital consulting, employee benefits, compensation and retirement plans, among others. These services are delivered by TriNet's own professionals, which are enabled through a cloud-based platform, allowing businesses to access and manage their business online from every place in the world.

TriNet sold 15 million shares for $16 apiece, thereby raising $240 million in gross proceeds. The company received all of the cash in the offering, with no shares being offered by selling shareholders.

The offering took place right in the middle of the $15-$17 price range which has been set by the bankers and the firm ahead of the offering.

Some 22% of the total shares outstanding were offered in the public offering. Trading at $22.00 on Thursday's closing price, the equity in the chain is valued at $1.5 billion.

The major banks that brought the company public were JPMorgan, Morgan Stanley, Deutsche Bank, Jefferies, Stifel and William Blair.

Valuation

TriNet believes it is an industry leader in North America serving nearly 9,000 corporate clients. In total, TriNet covers roughly 231,000 client's employees, which TriNet calls worksite employees, for which it processed $17 billion in payroll and payroll tax payments.

TriNet believes there are plenty more opportunities to grow ahead, as there are roughly 5.7 million employers with 500 or fewer employees in the US which TriNet aims to serve. Especially the smaller companies with often a handful of employees stand to benefit significantly from these outsourced services.

For the year of 2013, TriNet generated revenues of $1.64 billion, which is up by 61.4% compared to the year before. Note that the vast portion of these revenues and costs are tied to insurance costs on which TriNet can add little value. Therefore, operating income totaled just $66.3 million the year before. As a result of higher net interest expenses, net income fell from $31.8 million in 2012 to $13.1 million last year.

TriNet operates with roughly $94 million in cash before the offering took place. The company used proceeds from the offering to reduce leverage, as it expects to operate with $604 million in notes payable and capital lease obligations following the offering. Even then, the net debt position will come in just above the $500 million mark.

The $1.5 billion valuation values the company at roughly 0.9 times annual revenues, which does not appear steep. Note that revenues appear inflated, as a lot of these revenues are directly paid through third-parties. Shares trade at 23 times operating earnings and over a 100 times GAAP earnings.

Investment Thesis

As noted above, TriNet has seen a very strong public offering. Shares were offered at $16 per share, but have risen nearly 40% in a three-week period.

Investors are drawn to the rapid growth, although revenue growth slowed down to $481.7 million in the fourth quarter of 2013, up by 49.5% on the year before. A large portion of this growth is driven by acquisitions, which is hiding the fact that growth is really not that impressive.

In 2013, for example, TriNet acquired Ambrose for roughly $200 million. The company added $134.5 million in revenues for the last six months of 2013 alone, thereby inflating reported year-on-year revenue growth for the period by a significant portion.

Other risks include the digestion of these acquisitions, especially into the future. Changing legislation, notably the healthcare reform and stiff competition from the likes of Automated Data Processing (NASDAQ:ADP), are other concerns as well. So is the debt position which resulted in rather high interest payments of roughly $45 million in 2013. The public offering could cut interest payments by $10-$15 million per annum going forward, providing a boom to GAAP earnings.

With all of this in mind, I don't understand the enthusiasm of investors for the offering of TriNet and the strong returns following the public offering. TriNet has a lot more to prove before justifying the current high valuation. This includes the fact that TriNet has to demonstrate solid growth without the help of acquisitions, deleverage its balance sheet, and improve its earnings potential.

I remain cautious and stay on the sidelines.

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Source: TriNet - Strong Performance By This Recent Public Offering, Yet Concerns Remain