Xerox Holdings Corporation (XRX) Earnings Call Transcript & Summary

Good morning, everyone. Welcome back. So the next session we're hosting here is Xerox Holdings, and I have the pleasure of hosting Xavier Heiss, who's the Chief Financial Officer of the company. What we'll do here is, again, for those on the webcast, we have the option of sending any question. We'll open it up to the audience in a bit. But just given sort of the landscape here, I wanted to give Xavier sort of the opportunity to give us a general overview of the company. I don't know that any investors are new, but you've had a lot of changes, including sort of a big update at the Investor Day. So why don't I hand it over to you and with a broad overview first and then we go into some of the questions we've been asking most of our companies? Thank you.

Thank you, Samik, and very good morning, everyone, and thanks for the opportunity of presenting today. So we hosted in February an Investor Day. And the key message is to make it simple is Xerox is much more than a print company. So the print business and it has been a very resilient on the business that we still rely on. But at the same time, we have evidence with a 3 years plan that this business can grow, and we have also innovations that we are leveraging outside of the print business that over time will improve the revenue trajectory that we have for Xerox. We've made clearly, I would say, guidance on the clear statement around how these other businesses outside of the print business can grow. All these businesses have a characteristic. They address large TAM, so addressable market, but also they address businesses where growth will be more than the single-digit revenue growth there. And I will, during this discussion with Samik, comment more on this. But if you have heard about CareAR, which is a software-augmented reality product that we have today on offerings; if you have heard about FITTLE, FITTLE is our financing business that we are expanding beyond financing the Xerox equipment; and if you have heard about PARC innovation, you already know a lot of what we have there. But we will have the opportunity with Samik to cover this.

Great. So Xavier, before we delve into some of those aspects of the business, just wanted to go through a few more broader questions we are asking most of our companies just to get a broad pool of where -- how you are thinking about sort of the macro environment here because that is obviously your overarching concern from most investors that we're hearing. So this session, what -- based on the demand trends that you're seeing, how would you think about the likelihood of a recession that seems to be the biggest concern that investors have today?

Yes, so it's a concern to be transparent here. I'm not an economist. So I won't comment by saying, do we have a recession or will that recession come. What we know and what we observe at Xerox is over time, when we face situations that looks like a recession, you can take 2008. But if you look at COVID for Xerox, COVID impacting the ability of employee going back to the office, it was the situation that looks like or could have been interpreted as a recession. The key point for Xerox is our business model is resilient. And during this time, it could be 2008, it could be the recent times that we face here with COVID. We have been able to show the resiliency of our business model. 2/3 of the revenues that we are generating are contracted. And they are contracted on a period of time that are 3, 4, 5, even more in some cases with our customer. And we have also, during this period, have the ability to adjust, flex our cost base in line with the cost pressure we could have faced. So behind the recession, I would like to address 2 dynamics that have a direct impact on -- drives the activity on the revenue trajectory and profit trajectory for Xerox. #1 dynamic is a dynamic around supply chain. And I was listening to Greg just before, he commented here. Supply chain challenges are still there. So we have seen some gradual improvement, but the fact that chips are still under constraint and the dependency we have on some of these chip here is still present. We see a gradual recovery. We see as well that potentially this situation will improve during the second half of the year. But clearly, we are validating, monitoring and tracking the key data point on this one. What we have done in order to address this is what a lot of competitors are doing but also what the industry is doing. #1 is to ensure that we have the right supplies on the right source of chips mainly. So we purchase across the board. We are not -- we try to be as channel-agnostic as possible. And we are also working with our OEM to secure the source of supplies. The second thing that we have done is redesign, so board redesign, products redesign in order to flip to chips that are more commonly available and where we can directly influence the supply chain. So that supply chain point here is something where we are expecting a gradual recovery, but we are not expecting this to be completely offset. Just to highlight one number, so you understand the size for Xerox, we have currently, at the end of quarter 1, a backlog of equipment of $422 million. Usually, we don't disclose this number. The reason why we disclosed is because the size of this equipment backlog is now more than 3 months. It's close to 3.5 months of equipment revenue, more than 1/4 of equipment revenues that we have there. So over time, this backlog will reduce. But so far, this backlog was a growth sequentially since quarter 3, quarter 4 and quarter 1 this year. It was growing 22% over -- or 21% over a quarter for this year. So that's the first pressure. The second pressure that we have is around the back to the office. You have all heard, okay, will employee be back to the office? Xerox is obviously -- has a business model where we have a dependency of presence in the office, but this is not like a 100% dependency. I would like to demistify a little bit of this here. And it shows that over time, we observe and monitor a straight correlation between 3 factors. Factor #1 is vaccination rate. Factor #2 is people returning to the office. Factor #3, which impact directly our business, is print volumes. When these 3 factors work together and there is a high correlation between the 3, then we see our business recover. Just to give you a data point, March, March of this year was one of the best months that we have seen since the beginning of the pandemic. So we see this recovery. We see when Omicron virus is over or is controlled, people are encouraged of being back to the office. And then when they are back to the office, they use our solution. Our solution is not only printing. It's managing workflow, document workflow. And when they use our solutions, this is where we book the revenue. So we are encouraged with the slow gradual recovery of this year. Will it be pre-pandemic level before the end of the year? No, and we said it and we commented as well there by saying we are expecting a gradual recovery of this. So third items, it's inflation and the fact that we see cost increase on inflation coming all across the board, mainly freight cost but also some, I'll call that component and manpower cost there. And here, we are leveraging a tool or a process that you know that we have put in place in the company called Project Own it. On Own It, it's not a cost reduction project. Own It is a structural way, permanent way, driven by the management team, led by our CEO, John Visentin, and where we regularly and review our cost base and ensure that we are able to adjust properly the cost base that we have versus the cost pressure that we are facing from other constraints here. So far, strong delivery, more than $1.8 billion of gross savings have been delivered since this project was initiated roughly 3 years ago.

Okay. Great. Just going back to some of the broader sort of industry questions and supply obviously, you touched on it. But more specifically, I think now the concern seems to be most around the China lockdowns, right? You already were supply constrained. You have a backlog of almost a 1/4 on account of that. How material is this China lockdown to the supply chain that you rely on? Is this sort of something that only makes it slightly more incrementally challenging? Or is it a material impact as you think about supply?

This is an incremental pressure that is coming into the equation that we have. We don't rely specifically on China. So some of the sourcing of our product, our OEM are not directly manufactured on relying directly on China on some of the lockdowns that you have seen in Shenzhen as an example. However, they could use some of the component coming from China, and this component could, in some cases, trigger some disruption in the supply chain here. So this is an additional item that we have currently in the environment. But as I mentioned it, we are working on how we can avoid, how we can with our OEM partner here minimize the impact and drive our supply chain to the best of the efficiency. But this is creating -- and the backlog is a good example. This is creating some tension. One question we -- I'm asked often is around the quality of the backlog. I mean, is this backlog fungible? Is this backlog solid enough? At the end of the day, if you know the way our business works, at the end of the day, it's for a customer to wait in average a little bit less than 2 months, 2 to 3 months. Around close to 50% of our backlog is less than 60 days. So it's for a customer to extend leasing contract because our [ friendly ] solutions are leased by 2 to 3 months and get the product. This is something we are managing. And so far, the consideration rate or the reduction rate of the backlog is not meaningful for us.

When does supply normalize in your view? Do you have any updated predictions of when that happens?

This is a very difficult question. So we commented by saying we see some easing, and the easing will be gradual, certainly in the second half of the year. I was listening again to some conference and I'm hearing the same message here that step by step, it is easing, but you have seen how unpredictable this could be. So far as I mentioned it, we are managing and driving with our OEM as many actions as possible in order to avoid the impact here. But again, this strong backlog, the demand, which is still here, the volume of orders that we are seeing give us as well encouragement that when the supply chain issue will ease, this will give us some opportunity from a revenue point of view.

Great. So let's delve into core print a bit more here. And I know you outlined that overall, return to office is going to help page volumes and -- but you're not expecting it to sort of rebound to pre-pandemic levels just yet. At the Analyst Day, you had outlined the target of -- that you -- what you think is realistic is 80% of pre-pandemic. That's what your target model is based on. Just help us think about where we are relative to that 80% benchmark today. How much of that has already sort of been a recovery? How much of a recovery have you already seen? And what makes you think -- like why the 80% number, what makes that 80% number realistic?

Yes. So as you know, this is one of the key metrics we are monitoring, and I gave you the way we correlate the -- this number or the metrics, the trackers between vaccination rate, then people going back to the office and when they print or use our solution. And the correlation is very strong. And what we see as well there is that more and more company -- and this is maybe something that is killing what I call a [ MISM ], which is, okay, company will never bring employee back to the office. We know that this concept is not the right concept. And we observe it. And we are hearing and you can see some of my colleagues being here, some CEOs being here saying, okay, collaboration is critical in this environment. And collaboration being done remotely working from home does not work. There are currently so many examples of IT project or other collaborative projects, product launch that are not working, have been delayed, have not been achieved because companies are not being able to recreate the collaboration environment here. So this back to the office is something that we see, and we see a lot of CEOs calling it out obviously, by respecting health condition, so having COVID behind us is certainly [ at the yes ]. Now I go to -- often the second question would be -- or second point would be when employee are coming back to the office, are they still printing? Are they still using your solution? And the answer is yes. And if you look at what the norm could be by saying, okay, 3 days out of 5. You have heard this by saying, okay, this is maybe the hybrid ways of working. We are pleased to observe that when employees come back, they use our solution. And in some cases, they do the activity in 3 days with our solutions, including printing that could be more than 3 days out of 5. So this is what gives us the encouragement of reaching the 80%. We are not far from the 80%. We are not yet there. We are not far and we see the recovery, depending on the country and the different place of the world, happening at a different pace. In the U.S., you can see that the presence in the office is growing. But recently, I was looking at the metric by saying roughly 43% of the company based on [ badging ] are bringing employees back to the office on a very regular basis, and this number is growing. So this is another indicator that we are monitoring that give us confidence that achieving the 80% is still a valid target for the future.

Okay. Staying on core print, you've seen that recovery somewhat, but there's more, obviously, to go here in terms of page volumes as you go through sort of return to work a bit more. Which verticals have really stood out? I know it will be different by geography as well, but which of those verticals -- are there certain verticals that have recovered faster than certain others?

Yes, so that's a great question. Xerox has a very diversified portfolio. So we are not in a single vertical. We are addressing the enterprise market. And I would say the enterprise market, market that during COVID-19 was obviously the most steadier or the most consistently have been federal and have been the health industry. No surprise, health care industry, hospital, but also everything around anything you can do in order to help COVID and the pandemic has been very, I would say, good insight, and we saw page volume and transaction on our system being strong here. SMB came after. On the SMB business was fast to go back to the office, and we see some progressive growth on page volume coming back here. And then you go to the other industry being left there, banking, insurance, some services here took longer, but we see this recovering. The industry depends. That means in our vertical here, the pure industry manufacturing is not like one of the largest segments that we have, but it depends on the industry how fast they are reopening here. But the vertical overall, we have like a patch -- our portfolio is being balanced. And help us, in some cases, to offset or compensate some weakness in one area and some strength in other areas. Same story geographically. I mean we have had some country. EMEA at one stage was leading. U.S. is recovering, and we have some country where the vaccination rate was earlier, very strong, where they recover faster.

Okay well. Managed print services, it was an area of growth, even pre-pandemic, but more than sort of what you're seeing now, what are customers showing in terms of appetite to engage more in managed print services after the pandemic?

Yes and so managed print services, I don't know if you know that, but it's something Xerox invented. On the managed print services, it's now for the vast majority of enterprise and now in SMB, this is a way to go after the activities that are around document management, but also managing multi-brand and offerings across a broad range of solution here. So Xerox is #1, we're leader clearly there, we've invented this market. We have more than 30% market share in this industry. On top of that, maybe you saw it. I think we released a press release this morning for Quocirca, which is one of the company assessing the performance, just published a report today showing that we are the clear leader in our cloud print services. And I'm touching and I'm using this in order to describe what is the future on managed print services what, our customers are asking for and what are the offerings that we are developing on managed print services. The #1 is security. You don't do managed print services if you are not considered and trusted by our customer and you bring all, the secure environment. Printing on the device, Xerox-wide security here Xerox has been for years very strong in this area and we develop best-in-class solution on this one. The second one is analytics. You want to know what is happening when you manage this fleet of devices. Some of them are Xerox some are not -- some of the solutions are broader. So we want customers to understand exactly what is happening and provide them via different source of information, straight access to their fleet or the equipment that we are managing for them. And the last one is cloud. And I just mentioned it, but Xerox is a leader, and we are creating offerings here in cloud print services, in simple term, print or use devices anywhere you are, any way you want and how you can use it. It could be on a simple A4 small device up to the largest equipment that we have and where we can leverage the solution here. So NPS is a very strong offering for us. Now if we extend NPS here, we can go beyond on what we call digital services. And we have 2 offerings where we are also leading the pack there, which are CMS, so customer or creative marketing services there, where we offer customized communication services for our customer on another offer called content on capture, where we digitize document or processes for our customers, help them to drive the workflow regardless of the source of information. Paper on non-paper, we do not care. So that's what I wanted to share on the NPS, a very strong opportunity for us by the way, a market which is still growing on the market with good opportunity with a strong leadership in market share.

Okay, got it. We do want to get into the adjacent businesses outside of core print, but it's interesting that the last quarter that you reported, given some of the disclosure that you had around FITTLE, the broader investor perception was that you're now going to accelerate the time line of how you think about monetizing the asset? And the reason I ask this is obviously like shareholders are very interested in sort of the adjacent businesses and the monetization time lines of each of those, but FITTLE, in particular, stood out as most investors as something that they believe hasn't accelerated given the disclosures. So maybe share your thoughts on that, whether that's the right interpretation? And how should we think about the time line?

Yes, so let's just step back. So I started by saying what we disclosed during Investor Day is that Xerox is not only a print business. And without outside of the print business, we have good assets and we started to communicate more and more last year. But if I take the example of FITTLE in quarter 1 this year, we saw that we reported FITTLE as a segment. So now it is officially in our K and Q, a segment that we are reporting. And you can see the true value of the asset. The reason why we are doing this is in the past, FITTLE was considered as administrative function, just a way to finance equipment at Xerox by leveraging our balance sheet. But this business is much more than this. And we clearly started to value and to expand this business outside of the pure Xerox print business. And this is a data point that we shared during quarter 1 earnings. Our non-Xerox outside of the pure direct Xerox business here, FITTLE origination, which is the ability to finance equipment that are not Xerox equipment here was growing despite constraints despite an environment which was under pressure here. So at the end of the day, this is a good asset, good quality asset here. And we said for this asset, and we will touch, I'm sure certainly later on what we do CareAR and PARC innovation. But at the end of the day, we will say we want clearly to monetize and show the value of this asset. So when you look at the sum of the part of this component, you realize that there is little valuation being left on this asset. So from a time line point of view, we will obviously look at any opportunity that makes sense from a shareholder point of view and when the valuation of this asset will return the best shareholder return that we're expecting here. So I'm not committing here to a time line. We want first to show the value, give the opportunity to the analysts and our shareholders to assess the quality. And then we are working on processes for each of them in order to find the best way to monetize them.

Okay, got it. But we do want to get to the adjacent businesses, but let me get 2 or 3 quick questions about sort of the overall financials here in the midterm. You guided low to mid-single-digit revenue growth in the medium term. What are the levers you can for, let's say, page volumes stay below expectation, right up to the 80% number, what are the levels you can pull to still meet those targets in that case?

Yes, so you have multiple dynamics within our business. So on the print business, we guided to low single-digit increase on revenue growth there. The reason is very simple. You have multiple ways of attracting this. And this is not only related to the recovery post-COVID. We were guiding this up to 24 when we did the LRP and we shared our long-range plan here. The reason why we believe we can grow in print is #1 is market share. We gained market share, and we are still after a strategy where, over time, quarter-by-quarter, we are gaining market share. And we do that on multiple segments on the A4 segment, which is the entry part of our product. This is something that we are achieving. On the A3 as well, A3 mid, this is segment as well for us, which is important because this is one of the most profitable and we are on a gain-share trajectory. And we post exactly the same strategy and same approach on the market share on production. So market share is one way to go after it. But when I'm looking at print and services, we should not forget that in the services part of this, I covered MPS, and I shared with you the trajectory, the offerings and the expansion that we have in this area. The second component as well is IT services. On IT services is now becoming a significant part of the print and services business. And within IT services, organically and inorganically, we are growing on -- during COVID-19, despite the pressure on revenue, this is an area that was growing, and this is still a growth engine for Xerox.

Okay. Now similarly, if I think about the first quarter, you cited some additional operational headwinds to what you were expecting previously and that prompted you to talk about more savings coming from Project Own It that helps you maintain the cash flow guidance as well for the year. How should investors think about the cadence of earnings through the year given some of these, sort of confluence of different drivers?

Yes, so just to reiterate the guidance that we have for this year, at least $7.1 billion of revenue and from a free cash flow point of view, at least $400 million. So that's the guidance we reiterated this guidance after quarter 1 earnings. The reason why we reiterated the guidance here is driven by the revenue trajectory. As I mentioned it, we have a strong backlog. And currently, we are executing on driving any revenue activity that is supporting the trajectory from a revenue point of view. We achieved the quarter 1 -- our quarter 1 performance from a revenue point of view, where we were expecting it to be. From a profit point of view on profitability, free cash flow. Obviously, some of the headwinds like inflationary -- inflation and inflationary pressures that we are facing on some of the elements here. We made publicly the statement by saying we will increase our Own It target, the Own It target on the gross savings target we were looking after for only this year were $300 million, and we have increased them by 50%. So we are currently on the execution path of $450 million of gross savings that will materialize across multiple type of initiatives. This team as I mentioned it to you has evidence on over time has been able to achieve and drive this savings initiative within the company here. We are leveraging multiple lever here, and it's not only straight cost-cutting. It has some of this component, but it's also looking at all the element of cost -- on the component of cost, but also looking at the price component on ensuring that we can have for the revenues that we are generating this year, the best margin mix here. So that's overall the guidance here. We are expecting, I would say, as of now, but specifically this year, the vast majority of the profitability improvement and margin improvement to come in the second half of the year. Quarter 4 is traditionally for Xerox, a very strong quarter. So don't be surprised to see the guidance of earnings with the sequential increase with a stronger quarter.

Got it. On the capital allocation front, you've been fairly active on buybacks. And obviously, there's a set program there. But are acquisitions going to be a material part of how you think about sort of transforming the business or sort of laying out the portfolio?

Yes, so capital allocation, just to reiterate our, I would say, external guidance on this year, 50% return to shareholder, mainly driven by dividend but also share buyback. We executed some share buyback in quarter 1. And if you look at this 50%, I will say, with dividend on share buyback, we have already achieved them. So it's like we are even slightly above this so, now if you look at the other lever that, remain in our own obviously, acquisition. Acquisition is a key way. We often have asked a question by saying, do you believe in consolidation or do we believe in consolidation yes, we believe in consolidation. We believe in strategic consolidation. If they make sense and in consolidation, you need as well to have 2 parties to agree and decide that this is the right way forward. So we are still actively working on how this market could consolidate. It could be done via acquisition, but also it could be done via consolidation of capacities that we have. I'm just giving you an example here. FITTLE, our financing company, is also financing equipment that, are not only Xerox equipment, but we have OEM agreement with some of our competitors. Moving now as well in the capital allocation to the different levers that we have debt and we are also looking. The market, give us some opportunity currently from a debt point of view. And we have seen that on Friday, we announced early debt repayment of $350 million. This is a way for us to deliver as well as the company and to leverage the cash flow, the free cash flow that we are generating.

Got it. I have a few more to go on the adjacent businesses, but let me check if anyone in the audience has a question. Okay, let me continue here.

So very quickly. On the debt comment, I think there's a piece of debt that's coming due in 2023. That's relatively sizable. What are some of the considerations that you have in order to address that?

Yes, so it's a great question. So the $350 million that I mentioned is the early tranche here is part of the consideration that we have on the -- we went public on Friday. We have a tender offer, which is currently at play for this $350 million. Regarding the remaining $650 million, we are leveraging or we have on the table, multiple ways of addressing it. One, as you know it, for FITTLE, we are working on securitization. And we have done securitization over time, and this is becoming like -- it's a key source of the key funding source for FITTLE, which is quite successful. And the other one is obviously free cash flow generation that we have within the company. So the $400 million free cash flow guidance that we have here is also here in order to - build, on being able to address the $1 billion. No specific concern on the $1 billion for next year.

So let's go back to FITTLE. How should we think about the synergy between your core print business and FITTLE and particularly what I'm interested in understanding is, let's say, you think about a monetization time line and at the end of that monetization roadmap includes spinning off FITTLE. Why should we think there are dissynergies in the process?

Yes, so we don't look at it as a pure dissynergies because clearly, the financing business and the equipment business. If you think about this, at the end of the day, what we are doing is that we are bundling a solution for our customer. And this solution has 3 components and equipment, a service. The service is what, do we deliver in order to get this equipment running. It could be a piece of software. It could be what we call break/fix, someone providing services on this equipment, it could be supply, it could be consumable that the machine could use. And the last thing is financing. You bring these 3 together, you have a triangle, where you finance and you offer to the customer a solution. And we believe that this triangle should remain in whatever solution we'll have in the FITTLE, because this is the success on the way we go-to-market, our direct and indirect sales force is able to leverage the benefit of having a captive leasing company. So this is a key component. We don't expect the synergies, and this is something that we will -- I call that protect in the way we will go there. From a pure, I would say, EBITDA and form of pure replacement of those income here, there are many ways where you can replace it. So I'm not expecting -- I'm not here being worried around EBITDA the synergy. And we will see when we are going through the monetization of the asset. What will be the best outcome and avoid some of these dissynergies.

Got it, okay. Moving quickly to CareAR how are you thinking of balancing growth there, which is obviously important, but at the same time, getting the business to improve profitability. Obviously, given these market conditions, profitability is also going to be a focus for a lot of investors?

Yes, so CareAR, I don't know how much you all know on the CareAR, but CareAR is a great software solution. This is an augmented reality platform that any service force can use in order to conduct I call it break/fix of fixing an equipment or a solution. Think about yourself having to either build, you buy your barbecue and you have to build it on ITR device and you have to build it. And you can read the notice. Usually, after 3 pages, you are tired in doing this here. You can be guided with augmented reality on how to build it or how to service it. It could be a router. It could be any device that you have a washing machine you don't know how to do something. This device will help you with a combination of software, artificial intelligence and also machine learning on what is the best solution. The reason why we believe this solution is very strong and the success we have currently by selling this solution is it addresses a lot of challenges that the service industry is facing. When I say service, the workforce - service workforce is facing here. #1, you have the impact of great recession and -- great, sorry, resignation on the aging population. You have a lot of service engineers that have done their job for a long time and they have everything in their brain, but it's not documented, and they will know how to do that, this solution prevent doing this. #2 is simply ESG consideration. Think about this, with this device, you can fix remotely or guide someone fixing remote layer solution regardless of their location, it could be done in a city and the person could do the fixing in another city. What does that mean? That mean you avoid travel, you limit CO2 emission and you become more, green more efficient in the way you do thanks. And third one, the inflationary pressure that exists on the salaries and the fact that the solution can provide better efficiency. We can do more coal, easier coal on more efficient way of getting revenue back from the customer because the solution is working so great solution. We are currently on a trajectory as well, very similar to FITTLE to monetize this asset, to get this asset and to bring it with the higher value remember the ServiceNow investments that was made here. This is a good testimony that this solution is strong on the software market. We have something that we will be able to monetize.

Okay got it. We've run out of time. But thank you for coming to the conference. Thank you, everyone, in the audience.

Thank you all.