Xerox (XRX) Misses on Q1 Earnings, Split Likely in 2016

Despite a challenging macroeconomic environment, Xerox Corporation XRX reported relatively modest first-quarter 2016 results with adjusted earnings (from continuing operations) of 22 cents per share compared with 24 cents in the year-ago quarter. Weak revenues across the company's segments, along with negative currency translation impact acted as a deterrent to the bottom line. The adjusted earnings marginally missed the Zacks Consensus Estimate by a penny.

GAAP income for the reported quarter was $34 million or 3 cents per share compared with $225 million or 19 cents per share. The sharp fall in GAAP earnings was primarily due to high restructuring expenses during the quarter.

Total revenue for first-quarter 2016 was $4,281 million compared with $4,469 million in the year-earlier quarter. The year-over-year decrease in revenues was attributable to decline across most segments and adverse currency exchange rates. Revenues beat the Zacks Consensus Estimate of $4,273 million.

Both adjusted operating margin and gross margin for the reported quarter was down 130 basis points year over year to 7.2% and 30.3%, respectively. The decrease in operating margin was due to lower margin in Document Technology segment.

Segment Performance

During first-quarter 2016, Xerox restructured its operating segments. Revenues from the Services segment, which include Document Outsourcing DO and Business Process Outsourcing BPO, increased 1% year over year to $2,482 million in the reported quarter. While BPO revenues remained flat at $1,690 million, revenues from DO increased 2% year over year to $792 million with growth in the partner print services offerings and improved equipment sales due to higher signings.

First-quarter 2015 Services segment margin was 7.7%. Total contract value for deals signed in the Service segment were $2.1 billion, with BPO and DO accounting for $1.5 billion and $0.6 billion, respectively. Signings declined 13% year over year owing to lower renewal opportunities.

Revenues in the Document Technology segment declined 10% year over year to $1,639 million due to weak sales and an adverse currency impact. Segment margin fell 250 basis points year over year to 10.2%. Revenues in the Other segment decreased 7% to $160 million.

Restructuring Plans

During first-quarter 2016, Xerox announced its plan to split its BPO business from its Document Technology and DO business. The separation will see Xerox segregating its hardware operations and its services business, with each functioning as an independent, publicly traded company.

The tax-free spin-off of the BPO business is expected to complete by year-end 2016. Xerox expects to record one-time separation costs of approximately $200 to $250 million in 2016, of which $8 million was incurred in the first quarter.

As part of the restructuring, Xerox has decided to execute a three-year strategic transformation program to improve its productivity and reduce costs across the businesses. The company expects to save about $700 million in 2016 from the restructuring activities.

When combined with savings from cost streamlining actions currently in process, Xerox intends to realize cumulative cost reduction of $2.4 billion over three years. During the reported quarter, Xerox recorded $126 million as restructuring charges and expects to record $300 million for the same in 2016.

Financial Position

As of Mar 31, 2016, Xerox had cash and cash equivalents of $1,189 million compared with $872 million in the prior-year period. Long-term debt at the end of the reported quarter was $5,359 million.

Net cash used in operating activities for the quarter was $25 million compared with net cash from operating activities of $113 million in the year-ago period.

Guidance

Xerox expects second-quarter 2016 GAAP earnings to be in the range of 6–8 cents per share and adjusted EPS in the range of 24–26 cents.

For 2016, Xerox reiterated its earlier guidance for adjusted earnings and continues to expect adjusted EPS in the range of $1.10 to $1.20 per share.

However, 2016 GAAP earnings are currently expected in the range of 45–55 cents per share, down from 66 cents to 76 cents. Cash flow from operations is expected between $950 million and $1.2 billion, down from $1.3–$1.5 billion, and free cash flow within $600 to $850 million, down from $1.0–$1.2 billion expected earlier.

Moving Forward

Xerox has been grappling with slow demand in its printing business for years, while its attempts to leverage the business process outsourcing market also failed to lend growth momentum. The company also endured a number of slip-ups in its Medicare and Medicare information services for several government agencies across the U.S.

However, Xerox has been striving to focus on strengthening its portfolio, improving productivity and boosting its higher-margin segments. Its planned restructuring might just bring the turnaround that the company needs.

Xerox currently has a Zacks Rank #3 (Hold). Other favorably ranked stocks in the industry include Acacia Research Corp. ACTG, Performant Financial Corp. PFMT and PFSweb Inc. PFSW, each carrying a Zacks Rank #2 (Buy).

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