Rising Healthcare Costs And AI Coding Trends Will Pressure Margins And Constrain Earnings Power

Catalysts

About Insperity

Insperity provides outsourced human resources, benefits administration and HR technology solutions to small and mid-sized businesses.

What are the underlying business or industry changes driving this perspective?

• Persistently elevated health care utilization, including higher outpatient procedures, pharmacy spend and large-claim frequency, risks pushing benefits cost trends above Insperity's pricing power, compressing gross profit per worksite employee and limiting EPS growth.
• Structural increases in medical costs enabled by AI driven coding and documentation improvements for providers may entrench higher loss ratios at insurers, forcing repeated repricing cycles that could weaken client retention and pressure revenue growth.
• Reliance on a single major carrier relationship through 2028 concentrates execution and negotiation risk. Any shortfall in expected savings from the new UnitedHealthcare contract could delay margin recovery and keep adjusted EBITDA below historical targets.
• HRScale's success depends on rapid adoption in a mid-market segment that is still testing AI and cloud HR platforms. Slower than expected client go-lives or longer stabilization periods could leave Insperity with elevated platform costs and subdued earnings leverage.
• The combination of a sluggish small and medium-sized business labor market and potential AI related employment efficiency could cap worksite employee growth at low single digits. This may limit the ability to drive double-digit top line expansion and margin-driven EPS acceleration.

Assumptions

This narrative explores a more pessimistic perspective on Insperity compared to the consensus, based on a Fair Value that aligns with the bearish cohort of analysts. How have these above catalysts been quantified?

• The bearish analysts are assuming Insperity's revenue will grow by 6.8% annually over the next 3 years.
• The bearish analysts assume that profit margins will increase from 0.3% today to 1.2% in 3 years time.
• The bearish analysts expect earnings to reach $95.6 million (and earnings per share of $4.43) by about December 2028, up from $17.0 million today. However, there is some disagreement amongst the analysts with the more bullish ones expecting earnings as high as $176.4 million.
• In order for the above numbers to justify the price target of the more bearish analyst cohort, the company would need to trade at a PE ratio of 17.4x on those 2028 earnings, down from 84.8x today. This future PE is lower than the current PE for the US Professional Services industry at 25.0x.
• The bearish analysts expect the number of shares outstanding to grow by 1.27% per year for the next 3 years.
• To value all of this in today's terms, we will use a discount rate of 7.71%, as per the Simply Wall St company report.

Risks

What could happen that would invalidate this narrative?

• The new long-term UnitedHealthcare contract, including lower pooling levels and improved risk sharing through 2028, could structurally reduce benefits costs and volatility, supporting a sustained recovery in gross profit margin and earnings.
• The successful rollout of HRScale into an underserved mid-market of more than 40,000 companies with over 25 million employees, combined with strong early HR360 booked sales and record-large client wins, may drive a return to double-digit worksite employee growth and accelerate revenue.
• Ongoing discipline in operating expenses, including a projected 3% year-on-year decline in 2025 and a forecast reduction of about $15 million in HRScale related OpEx in 2026 as investment shifts to capitalizable development, could restore historical operating leverage and lift net margins.
• Insperity’s internal and client-facing AI initiatives, such as the Compass tool and predictive analytics for pricing and prospecting, may improve sales efficiency, client retention and service productivity, supporting higher revenue per worksite employee and stronger earnings.
• Management’s stated goal and detailed three year plan to recover the majority of the 2025 earnings shortfall in 2026, aided by pricing power, cost reductions and new growth engines, outlines a potential path back to historical adjusted EBITDA growth rates north of 20% and a higher earnings base.

Valuation

How have all the factors above been brought together to estimate a fair value?

• The assumed bearish price target for Insperity is $34.0, which represents up to two standard deviations below the consensus price target of $45.0. This valuation is based on what can be assumed as the expectations of Insperity's future earnings growth, profit margins and other risk factors from analysts on the more bearish end of the spectrum.
  
• However, there is a degree of disagreement amongst analysts, with the most bullish reporting a price target of $71.0, and the most bearish reporting a price target of just $34.0.
  
• In order for you to agree with the more bearish analyst cohort, you'd need to believe that by 2028, revenues will be $8.2 billion, earnings will come to $95.6 million, and it would be trading on a PE ratio of 17.4x, assuming you use a discount rate of 7.7%.
  
• Given the current share price of $38.22, the analyst price target of $34.0 is 12.4% lower. Despite analysts expecting the underlying business to improve, they seem to believe the market's expectations are too high.
  
• We always encourage you to reach your own conclusions though. So sense check these analyst numbers against your own assumptions and expectations based on your understanding of the business and what you believe is probable.