Xerox Holdings Corporation (XRX) Earnings Call Transcript & Summary

Good afternoon, everyone. My name is Erik Woodring. I am the IT hardware analyst here at Morgan Stanley. We're joined today by Xerox. But before I get into that, let me just read a quick disclaimer here. The views expressed or represented by non Morgan Stanley speakers during today's event do not represent the views of Morgan Stanley or Morgan Stanley Research. For important disclosures, please see the Morgan Stanley research disclosure website at www.morganstanley.com/researchdisclosures. If you have any questions, please reach out to your Morgan Stanley sales representatives. So with that, welcome, everyone, to the first day of the Sustainable Futures conference. My name is Erik Woodring, again, Head of the IT Hardware Research here at Morgan Stanley. I am very pleased to be joined by both Michele Cahn and David Beckel from Xerox. Michele has been at Xerox for almost 3 decades, 27 years. She heads the company's global government affairs, sustainability, citizenship and compliance department. David is the Head of IR. So both of you, Michele, David, thank you for joining us today.

Thank you for having us.

Thanks for having us sir.

Yes. Awesome. So maybe I'll start at a high level. This is the first time that we've been able to host you guys here at the Sustainable Futures conference. And so I think people know the brand, Xerox, but some investors might not know exactly, in this world, what Xerox does. And so if we could just start out, maybe high level, just provide the audience with a broad overview of the company, kind of products and service offerings today.

Sure, Michele, I think I'll go and take that one. So obviously, Xerox, extremely well-known brand, been around for more than 100 years. One of the primary things from the recent Investor Day we have, which you remember, Erik, was Now and Next, which I think is actually -- it is actually a very great way to reference our transformation strategy. I would see ourselves going forward. So starting with the Now, what most people know us as is the leader in office and production print equipment and managed print service in the markets that we operate. But we don't just sell machines and services. We sell print and document workflow solutions. So what a lot of people may not realize is that about 2/3 of our revenue is contracted for multiple years, providing said services. So getting to the next, Xerox's future applies not only to the future of our own print and services business, which will increasingly benefit from an expansion into faster-growing adjacencies of IT services for small and medium-sized businesses and also digital services. It also applies to the 3 businesses we stood up in 2021, which are FITTLE formerly known as XFS, our captive finance business, CareAR, which is our software business provides an AR-based field service management platform and then PARC, which is extremely well known among the business community, Palo Alto Research Center, which is now an incubation engine that focuses on the commercialization of research across a number of disciplines, including Internet of Things, Cleantech and 3D. So we have the stabilized and growing print and services business, which we expect will generate more than $525 million of free cash flow through 2024 as well as growth and strategic optionality from these newer businesses. So that's the Now and the Next as part of Xerox today.

Thank you, David. So maybe, Michele, I'll transfer to you now. Another high-level question. Broadly speaking, let's say, how does Xerox kind of integrate or incorporate ESG, all of the above into its business processes? And maybe from your perspective, how has that changed over the last 2 or 5 years?

Sure. So Xerox, as David said, has been around for a while, and our core values include behaving responsibly as a corporate citizen. So when we first began manufacturing these large helping devices, which were large at the time we looked at them and said, we cannot put those in the waste stream. That would be irresponsible. There's intrinsic value in those products. We want them back, and we would want to extract the value of the parts and the other elements, the minerals that are in the products. So we began what became sort of a closed-loop process long before people put labels around remanufacturing closed-loop process. And it was something we did because we knew it was the right thing to do. And by the way, it may be a good business sense. You can't maintain a sustainable business spread, ESG program unless it also makes good business sense. But fast forward, you look to what's happened over the last 5, 6, 7 years, we went from what was called the design for environment program to design for sustainability. So we're looking at a holistic footprint of our product, the supplies, the consumables, the packaging, how it's delivered, and we have principles that guide each one of those to ensure that no matter what components we're using, what supplies were manufacturing or packaging material, it's as sustainable as possible. And then most recently, I think the rest of the world has sort of caught fire with the whole ESG movement, something we've been practicing for quite a long time.

No, that's great. That's really helpful. I guess something that you touched on there, but was in your sustainability report. It was just about the goal of carbon neutrality and reaching carbon neutral. I believe it's by 2040 for Xerox. And so -- maybe help us understand because a lot needs to go into that obviously, that's not a Xerox comment. That's just a general comment to reach carbon neutrality for these manufacturing types of businesses. Will the supply chain look different? If I fast forward 10 -- I guess it's 18 years and you are carbon-neutral, like look all that much different today? Or how do you envision that kind of taking place?

So obviously, you can't go from something to net zero overnight. So it's been something we've been working on for a while with our suppliers. Our members of the Responsible Business Alliance. We ask all of our suppliers to adhere to responsible business alliance principles. We audit, select a number of them every year. And as we sort of push the envelope forward on getting to net zero, we're driving new standards around use of post-consumer recycled plastics, for instance, post-consumer materials. We have very intimate relationships with our suppliers, especially in the manufacturing space, and we're working together with them to share our common goals and asking them, which was unusual up until recently, asking our suppliers to sign up for the same net zero goals that we're adhering to. So we're developing this ecosystem of entities who are all committed, have neutral commitments to reaching net zero. So yes, some suppliers may look different. But I would say, given what's happened around the world, there's now more of an interest in finding ways that we can work together on each of those goals as opposed to resisting.

No, that's great. And your answer there kind of fed into my next question was -- my question was there was about supply chain. But obviously, there's more than that in the Xerox ecosystem. You have suppliers, but then you have partners, you have customers. And so just curious, what's the reaction been from partners and customers in terms of your goals, how you kind of position them? The time line to reaching your goals? How have they responded either negatively or positively, of course.

Yes. I would say for customers overwhelmingly positive, I would say, well over 50% of our customers want to understand not only how we're doing it, but how can we help them actually reach net zero as well, especially the large enterprise customers and certain government customers. And it creates a much closer relationship with our customers. We're sharing best practices. I think suppliers, as you look at supplier-supply chain, it depends on the maturity of the supplier. We are dedicated to working with all of our suppliers to help them make that journey. So it's uneven in some places, but the larger ones have -- are well aware. And there are some small ones who are sort of best-in-class as well, so.

And then maybe the last part of this process in terms of energy efficiency and carbon neutrality is just how has Xerox's manufacturing processes really changed or evolved over time as you've thought about carbon neutrality and reducing your energy consumption. And then maybe over the next 10 years, what is there left to do? What's the heavy lifting as we think over the next decade?

Well, there's always more to do. So I mean, we are proud that we're kind of charter members of the Energy Star program which is an EPA initiated program, which has gone as sort of a global, I think label people recognize now is Energy Star reducing energy consumption. And the program was initially focused on sort of the office equipment and now just speaking from product development, we're now looking at how we develop the Energy Star program, and we've been a leader in doing this for our high-end production equipment. And as we're doing that, we're also looking at more efficiencies in our operating footprint around the world, applying some of our own technologies that we use, sensorizing our factories and our facilities and operations, ensuring that we're leasing spaces or on owning -- occupying spaces that have the highest efficiency possible and deploying some of our Cleantech technologies and some of our other new solutions that are coming out in the marketplace as well.

So it almost sounds like you're getting more efficient, so to speak, doing more with less or at least utilizing technology internally to help reach those goals. Does that mean, again, not necessarily from the standpoint of output but from the standpoint of square footage or numbers of locations, one, how do you think that changes for Xerox, let's say, over the next 5 years? And then geographically, does that mean things change? Does that mean you leave certain centers to go to other areas because that technology is more abundant? Or maybe help us think through that as well.

Yes. I mean we do a regular assessment in mapping of all of our facilities and looking at our energy efficiency use, climate risk assessment is also an important factor. So we'll have ongoing continuous dialogue about that. It also depends clearly on where we have a great concentration of customers. I'm sitting in Washington, D.C. We have a large government customer base. David's in outside of New York, in [ Terpel ] County, I don't see us ever leaving those areas. But we are constantly reassessing and reevaluating and thinking through what's the right size, what's the right profile for the company, given the environmental footprint we want to ensure that we're addressing, which is zero-waste and getting to net zero, which means not having no carbon emissions, but being able to offset them all, so they're balanced.

Right, right. So you make a good point. And obviously, I'm spending more time on the environment side to start off because Xerox is a company that makes things obviously. And we'll touch on obviously the other parts of it. But this is a -- you create devices that have plastics in them, you create devices that output paper. And so what -- maybe if we start on the paper side, just what efforts is Xerox taking to kind of limit the impact of deforestation, maybe use alternative materials -- like how does that -- what are you guys doing and how does that fit into your goals?

So it's a multipronged approach. So yes, we are very sensitive to the fact that we are printing multifunctional devices print, but they also do many other things. So we created a print relief program in partnership with the [ MGA ] called PrintReleaf. And so customers can opt in to the program. So as you print, it calculates how many trees may have been used to produce that paper. And then you can offset that with planting a tree in place of that paper. We're also ensuring that our paper sourced from sustainable forest. We also -- part of the value proposition of managed print services is literally managing print. So we will go in to a customer and ensure that they're printing in an optimal way that they don't have excess devices, and they're only printing what they need to. We help create and develop duplex printing, so double-sided printing, so that obviously reduces your print output by at least half. And we also help develop post-consumer recycled paper. So it's a holistic view of helping the customer understand that there's a multifunctional device. Yes, it happens to print but it also dose 5,000 other things like translate into 42 languages a document, and it digitizes all of your paper too, so you don't need to retain the paper and continue to print.

Right. Right. You brought something up that was interesting, and I just sparked a thought in my -- with me and that is alternative materials for paper. Sometimes you'll hear or I'll hear from investors, hey, people want to -- might want to print less because of their focus on the environment. They don't want to cut down trees. And I realize you're doing things to offset that. So the point of the question is more, where do you say on a scale from just starting to -- we're there, Xerox is in terms of kind of marketing those types of alternative materials and getting customers to adopt things that are alternatives to paper, meaning recycled paper -- recycled products and so to speak. Is that early days? Or how do we think about that?

No. I think we're much more mature in that continuum, and we have a sophisticated client development teams that work with our customers, making sure they understand it, and it's not just the paper, but the software that resides on the device that will allow you to determine where -- how best to print, where to print, what's the most sustainable way to print? Can it be -- is it duplex? Is it expanding the print coverage. So -- and really, it's a customer choice too. They have to decide they want to opt into the program and work with us, and they have a whole infinite continuum options to help us reduce their print and the amount of output of paper, output they're generating.

Right. So again, this will -- this will probably be my last question on the environment before we touch on other parts of the ESG sphere. But you mentioned it earlier, Xerox has been focused on some remanufacturing activities to reduce waste in the workplace. Maybe you could help us better understand that by just describing a few of the initiatives that you guys have, some of the programs, partners, just -- and where that's going in the future, do you think?

Sure. Well, for our products that we basically leased and we only take them back, we have a reverse logistics center in the United States and one in Europe. So that's -- so when we bring our hardware back, we're looking at what we can strip, what we can reuse, and we're designing products that have a platform that lasts like 7, 8 years. So there's a lot of interoperability in the parts and they can be reused and replaced easily. So they have a long life cycle. And then for the consumables, we have partnerships with a number of NGOs and we have preprinted labels where people can return the cartridges and the consumables and the toner to Xerox through the Green World Alliance. That's a program that is going to be absolutely critical in Europe, for instance, in the coming years, as Europe looks to a comprehensive consumable take-back program. We've been doing this for well over a decade and more. Our customers love it. They want to be able to return their toner and cartridges. And we also look at like everything we're manufacturing around the whole experience of interacting with Xerox. So our toner is emulsion aggregate toner, which is actually organic toner which melts at a lower heat level. So it is more environmentally sustainable than a traditional black ink toner. So it's a whole life cycle of elements that we're looking at.

Okay. And you made a comment earlier about, obviously, in many ways, these ESG decisions make good business sense as well. Are there -- when we talk about recycling or some of these new manufacturing activities, is there a P&L impact to that? Or is that something that has just been run rate for so long that this is part of your business? And just maybe trying on my end to better understand and maybe, David, this question would be for you. Just the cost or upside that you could get from remanufacturing or recycling products, i.e., not needing to go out and buy something net new on the market, if that makes sense.

Sure. So we do -- we look at all the cost of everything, including taking back. And in some instances, recently, it can be more expensive to take back. So we are very conscious of that, and we try to manage it as efficiently as possible, and we've been very successful at it because we've been doing it a long time, so we understand what we need to do. So we are looking at -- and that's why we're sort of designing products that have a platform that lasts for 7 years or so, and then you can upgrade the models in the parts and replace and ensure that you're still coming out with new better optimal devices, but they continue to be taken back and reused and repurposed in a way that's very efficient so...

Okay. Maybe, David, I'll shift this one to you. This is kind of a quasi ESG, quasi-business question. And that is there are some investors kind of concerned about the trajectory of the print industry. But actually, if you take a step back, Xerox, obviously, cash a wide net and is in other printing end markets outside of your traditional enterprise print. So just -- maybe talk to us about some of the opportunities that Xerox sees, not in PARC or CareAR, we're going to get to those next, but in terms of printing outside of core enterprise print where Xerox has a name for themselves, is building out their footprint and is excited about the next, call it, 2 to 5 years.

Yes. No. So at our Investor Day, we sort of broke some of our businesses down, including financial forecast for print and services specifically. And we did, as part of our forecast in 2024, we're expecting low single-digit growth in services. And so a big part of that growth is really 3 main aspects. I would say to that, above and beyond sort of whatever secular pressure one might want to ensue. On the first, would be continued market share in 2021, and we grew our market share in print equipment, 200 basis points very strong, especially given the pandemic backdrop. We continue to gain share in managed print services. And the reason we do is because of the breadth of services, the high quality of technology that we provide to the marketplace. And Michele actually talked about a few of those types of things like optimizing the print footprint in workflow. That's just one of the services we provide as well as translation of documents into multiple languages. We're continuing to optimize and innovate within the realm of printing and print services to help us expand that share. The second thing would be expanding our IT services business for small and medium-sized businesses. Now this is not directly print related per se, but it's a very natural adjacency for us. We have one of the largest -- not the largest, all medium-sized business, direct sales force in the country. So we operate primarily in North America and Europe, also large in Europe. And so it's a natural adjacency for us to sell IT services into these existing customer bases. And we've been very successful with that. And for example, in Q1, grew that business organically more than 40%. And then the third would be digital services, which is sort of like the digital corollary in a lot of ways to document workflow solutions. These offerings really help our clients navigate their digital documentation transformations through, for example, intelligent document processing and personalized customer communications. Q1, for example, our capture and content offering, which includes digital mailroom, data extraction and processing services signings grew 72% and new business signings grew over 100%. So these are businesses we're investing in and areas where we see a lot of growth potential going forward that we're really excited about. And again, they are natural adjacencies and complementary to our sort of core or traditional print services business.

Right. Perfect. perfect. So we'll add on to that. And this is kind of open ended for David or Michele. But -- so we have CareAR and then the innovation hub PARC, you're focusing on digital manufacturing, you're focusing on IoT, you're focusing on Cleantech. Obviously, CareAr into gets a bit of the brake fix in remote services. But maybe can you just touch on kind of how these different businesses and/or as we get into PARC and some of the smaller initiatives, let's call them, projects that you're working to commercialize, how do they all kind of fit into Xerox's broader ESG initiatives, i.e., both being good from a business sense, but then also being good from kind of an environmental or social government stance?

Sure, sure. I'll start. When we talk about the projects coming out of PARC, the most obvious one that would fit into the ESG is our Cleantech dehumidification solution, which reduces energy consumption by 80%. I mean, air conditioning is attributes like 4% of all GHG emissions in the world. This is a significant game changer, our dehumidification system, which is getting ready for final test phase. Our LMX printer, which is in the marketplace and has had great reception uses 3D metal printing, a off-the-shelf commercial aluminum alloy to ink -- to melt aluminum and inkjet it into small parts and different applications that can be used for different tools and a supply chain. So with all the issues around supply chain, finding specialized parts, LMX is a perfect solution, just in time, it's safe. Competitors are using powders. This is off the shelf, aluminum. You don't need a special environment in which to operate it. So that's another game changer. And another solution is our Eloque solution that uses IoT, Internet of Things sensors, the sensors are attached to any type of infrastructure, right now it's bridges. And it allows us to do predictive maintenance and see and develop an algorithm, so we can determine what the life expectancy is of that piece of infrastructure. Does it need to be serviced now? Or can it wait? You'll be surprised there are some bridges that were built to such exacting standards like 50 years ago. They don't necessarily need to be serviced, like you'll see a bridge that was only built 5, 6 years ago, that wasn't using the best materials that probably needs to be serviced. So it's extending the infrastructure, the life expectancy monitoring it in a way that's very sustainable, you're not drilling holes, you're just really adhering them to the side, and it ensures a much more resilient infrastructure to ensure that we have the right safety, certainty and predictability as we think about all of these major investments we're making, whether it's in bridges or tunnels or roadways.

I love that. That's awesome. No. Maybe we thought about this from a business standpoint. So maybe if we kind of flip it on its head and think about the customer, how often are customers talking with Xerox about ESG factors? How often does it play into their decision-making process?

I would say now, it's more often than not. I have a team of people who sit there and just respond to customer inquiries and they want to know how can we help them reach their sustainability goals. Can we -- how can we apply the sustainability calculator, you're demonstrating to us to our other solutions and offerings that we have, how can we assess our own footprint? How did you come up with your road map to net zero? So we find ourselves now getting into sort of a more consultative relationship with our customers, especially the large enterprise, certain governments in Europe, we recently were the sole print service provider for COP26, the Global Climate Summit in Glasgow one of the reasons why is because we were manufacturing products, and they understood the closed-loop cycle nature of that. So it's really become a significant competitive advantage when we're talking to customers, and we're seeing it increasingly with all of our customers and new customers.

Okay. That was really helpful. I guess I want to turn this conversation now internally and ask you guys how -- again now, so we've talked about customers, supply chain partners. How about you incorporating ESG into Xerox internally into your company culture, into your workplace, maybe talk about some of the initiatives that you have that are really important internally at Xerox.

So as I said at the outset, we were -- we are one of our core principles is behaving responsible as a corporate citizen and valuing all of our employees. So we were thinking about the social aspect of ESG long before again, it had a label. So we established ERGs in the 1970s, employee resource groups, affinity groups. We created a Xerox volunteer community involvement program. We had a science or still have a science consultant program that's over 50 years old, where engineers and researchers are mentoring kids from economically disadvantaged neighborhoods hoping that they have the opportunity to become engineers, come to work at Xerox. And then as the years have gone by, we've expanded it to ensure we have a formal volunteer program. We're in the middle of volunteer month, where employees can get dollars matched for every hour that they volunteer for an NGO. And it's just something that's really in our DNA, and we think about diversity, inclusion and belonging in the same way. And we talk about ensuring that the Xerox workplace reflects the workplace in which we work and operate and our customers. So we're very focused on that.

Good. That's really good to hear. We have a little over 2.5 minutes left. So I just want to get to these last 2 questions. So as you look out over, let's call it, the next 12 months and then the next, let's call it, 5 years which might be short in the ESG sphere. But as we just think about that time frame, kind of what is Xerox' most pressing ESG priority? And that can be from taking it the furthest along? Or what do you think is most important either from internally or externally? Just curious how you'd answer that question.

Yes. Well, I think a couple of things. One, we pledged to get to net zero by 2040. We accelerated our goal by 10 years last year. So that has obvious implications if we don't meet it. So it's a pressing priority. And we continue to implement programs to help us do that. We're about to launch a all Xerox climate change training program for every single employee, so they can understand how they can help us reach that goal. But then it's ensuring we continue to make progress on things like diversity, inclusion and belonging. We all went through the pandemic and the great resignation and the work -- the profile of the workplace has changed and employees. So we're redoubling our efforts in that area as well and renewing them to ensure that we are attracting diverse talent, and we have a diverse talent pool and renewing partnerships and initiating new partnerships with organizations who are in our cities and communities who can ensure that we have a pipeline of talent.

Great. So we have less than one minute left. And so we're obviously running out of time. Michele, I just kind of want to give you the dance floor here. Anything that you'd love to leave the audience with in terms of a message or a commitment or anything that you'd want to share in terms of Xerox and the relationship that you guys have with the world of ESG and sustainability.

I would just tell everybody that Xerox has been practicing ESG even though when no one knew it was called ESG, over 50 years ago, and it's a core element of everything we do, and it's a key plank of all of our operations. So if you want to do some benchmarking, check out Xerox and everything we do in the CSR ESG space.

That's amazing. So you finished with 5 seconds left. So on behalf of Morgan Stanley, David, Michele, thank you so much for joining us. [indiscernible] joining us, everyone in the audience. Thank you for spending your afternoon or at least part of your afternoon with us.

Thank you.

Thanks, Erik. Really appreciate it.