Xerox Holdings Corporation — Q3 2019 Form 10-Q
Business context and period. The unaudited quarter and nine months ended September 30, 2019 cover Xerox Holdings and Xerox Corporation; following the July 31 holding-company reorganization, Xerox remained the operating business. Unless stated otherwise, amounts below are in millions of dollars.
Financial performance
- Revenue: Q3 revenue was $2.20 billion, down 6.5% year over year (down 5.3% at constant currency). Nine-month revenue was $6.70 billion, down 8.2% (down 6.5% at constant currency). Post-sale revenue fell 7.3% in Q3; equipment sales fell 3.3%.
- Profit and EPS: Q3 net income attributable to Xerox Holdings was $221 million versus $89 million; diluted EPS was $0.96 versus $0.34. Nine-month net income was $535 million versus $224 million; diluted EPS was $2.27 versus $0.83. Management cited lower tax and non-service retirement costs, higher equity income, and cost savings among the drivers. Q3 2018 included a $95 million Tax Act charge.
- Adjusted results (non-GAAP): Adjusted Q3 net income was $248 million versus $222 million, with adjusted diluted EPS of $1.08 versus $0.85. Nine-month adjusted net income was $700 million versus $613 million, and adjusted diluted EPS was $2.97 versus $2.33.
- Margins: Q3 gross margin was 40.0% versus 40.1%; pretax margin was 10.5% versus 8.2%; adjusted operating margin was 12.1% versus 10.9%. Nine-month gross margin was 39.8% versus 39.9%; pretax margin was 7.7% versus 6.3%; adjusted operating margin was 12.0% versus 10.6%.
- Cash flow: Nine-month operating cash flow was $895 million versus $725 million. Investing used $68 million, including $48 million of capital expenditures and $42 million for acquisitions. Financing used $983 million, including $406 million of debt repayments, $368 million of share repurchases, and $183 million of dividends.
- Liquidity and debt: September 30 cash, cash equivalents and restricted cash totaled $979 million; cash and cash equivalents alone were $922 million. Total debt was $4.832 billion, including $3.204 billion of financing debt and $1.628 billion of core debt. No borrowings were outstanding under the credit facility. Debt principal of $554 million was due in Q4 2019.
Changes, outlook and management commentary
- Revenue weakness reflected lower page volumes, a smaller installed device base, competitive pricing, lower supplies and paper sales, and softness in office equipment. Q3 production-system sales were stronger, partly offsetting declines in office-centric products. Management said disruption from North American sales-organization changes had moderated by Q3.
- Project Own It productivity and restructuring savings reduced selling, administrative and general expense: Q3 expense fell $70 million year over year and nine-month expense fell $255 million. The company recorded $176 million of restructuring and related costs in the first nine months, including $48 million of asset impairment charges. Management cautioned that implementation disruption could offset some expected savings.
- For 2019, management expected revenue to decline approximately 7.9%, including an approximately 1.5-percentage-point currency headwind; operating cash flow of $1.175–$1.275 billion; capital expenditures of approximately $75 million; dividends of approximately $250 million; and share repurchases of at least $600 million.
- Management estimated higher import tariffs would add approximately $24 million to 2019 gross costs, with a significant portion expected in Q4; pricing actions were intended to mitigate the impact.
- The HCL Technologies shared-services arrangement carries an aggregate spending commitment of approximately $1.3 billion over seven years and a transition expected to take up to 18 months. Delays in employee transfers could defer savings; termination may trigger fees.
- Subsequent event: On November 5, 2019, Xerox announced agreements to sell its indirect 25% interest in Fuji Xerox and its 51% interest in Xerox International Partners, revise sourcing arrangements, and license trademarks and IP. Expected proceeds were approximately $2.3 billion, subject to transaction terms and approvals. Xerox said proceeds could support acquisitions, shareholder returns and repayment of the $554 million Senior Notes due December 2019.
Risks, contingencies and unusual items
- FujiFilm’s lawsuit over the terminated proposed transaction seeks damages exceeding $1.0 billion, punitive damages and a $183 million termination fee. Xerox disputes the claims; the company said it was premature to assess the likelihood of a material loss. The November 5 agreements included provisions intended to resolve the pending lawsuit.
- Brazilian tax contingencies included $425 million of unreserved claims at September 30, 2019. Management assessed most of the unreserved amount as remote and did not expect a material impact based on counsel’s advice and recorded reserves. Related escrow cash deposits were $53 million.
- Other shareholder litigation related to the former Fuji transaction remained pending, and the filing said material-loss probability could not yet be concluded. The filing also describes approximately $297 million of guarantees, generally considered unlikely to be called.
- Foreign-currency translation and pension remeasurement contributed to Q3 other comprehensive loss attributable to Xerox Holdings of $203 million, despite net income of $221 million.
Most important facts for investors to verify
- Whether revenue declines, page-volume trends, device placements and pricing stabilize, and whether Project Own It savings persist without material disruption.
- Delivery against 2019 cash-flow, capital-spending, dividend and repurchase expectations, alongside the Q4 2019 and 2020 debt maturities.
- Closing, proceeds and use of proceeds from the announced Fuji Xerox and related transactions, including any impact on sourcing and the FujiFilm litigation.
- Actual tariff costs and mitigation, and the timing and realized savings from the HCL transition relative to its spending commitment.
- Developments in the FujiFilm and shareholder litigation and Brazilian tax disputes, as well as the assumptions underpinning related reserves and exposures.