In one of my previous discussions of Xerox, on April 24, 2012, I highlighted Xerox management team as a reason to invest in the company, among other reasons. Starting on March 1, 2013, Luca Maestri, the current Xerox (XRX) CFO, will report to Timothy Cook in Cupertino, CA as the controller for Apple (AAPL). Moving from an executive role at Xerox to a similar role at Apple is without a doubt a large change for Maestri. Luca Maestri was previously with General Motors and Nokia Siemens before moving to Xerox, and his departure is a surprise.
While the role of the CFO is important, the company should not have a problem finding a replacement for its CFO, since it is headquartered next to the financial capital of the world, New York City. Despite this sudden loss for Xerox, the company should be able to perform well in 2013, due to a number of performance measures. This article will discuss the company's 2013 earnings per share, dividend yield, share buy-back, new business opportunities in services, and why the shares seem like a good investing opportunity.
Fundamentals and Valuation
Xerox has 1.27 billion shares outstanding, a market capitalization of $9.2 billion and an enterprise value [EV] of $17.7 billion as the company has $7.5 billion of long-term debt. During its annual investor conference held in November of last year in New York City, the company revealed an increase of its quarterly dividend in 2013 to $0.0575 (from $0.043 per quarter or a 33% increase) for an annual dividend yield of 3.1%.
In addition, the company will add $1 billion to its share repurchase program, and this will further boost future per share performance. For 2013, Xerox expects to earn $1.10 to $1.15 per share for a forward price-to-earnings ratio of 6.6 to 6.3. This PE ratio is more reminiscent of a rail or a utility company, not a technology and services company. Below is a table that compares some of Xerox valuation measures to that of major competitors Hewlett-Packard (HPQ), Canon (CAJ), and Lexmark (LXK).
Service revenues as a % of total**
Price-to-cash flow from operations
Price-to-book value (tangible)
Source: Reuters, author's estimates; * In $$ billions; ** Latest quarter.
As seen from the above table, Xerox seems undervalued compared to Canon and overvalued compared to Hewlett-Packard and Lexmark. One of the reasons for the valuation gap with Hewlett-Packard is that Xerox derives much larger portion of its revenues from services compared to Hewlett-Packard. In addition, Xerox is the leader in patents with the company receiving 1,618 patents in 2011 (including patents issued to its Fujitsu joint venture), compared to 1,308 for Hewlett-Packard.
Transitioning to Services
Xerox is successfully transitioning to services while maintaining its profitable print business (as well as other hardware businesses). The move to services has been enabled by the company's acquisition of a number of service companies (ACS in 2009 and Global Imaging Systems in 2007 among other smaller companies) and the successful transformation from a hardware to a more service-oriented company. A recent article in Harvard Business Review detailed how Xerox was able to transition itself into an organization that successfully runs its new and old businesses. According to the article, Xerox was able to accomplish this through a combination of cost reductions, streamlining the legacy business, sharing of resources between the two businesses (research and development especially), and creating two new businesses that are run with their own formulas for success.
Xerox expects that by 2017, two-thirds of its revenues will be from services. Since the launching of the service business in 2001, Xerox has been slow, steady, and strategic in growing it to its current levels while at the same time, adopting social media as a business-to-business marketing tool and as a "listening" tool about its brand and business prospects, according to an article in Chiefmarketer.com. The company's Youtube video A World Made Simpler has over 600,000 views as of this writing highlighting its efforts in social media. At its core, Xerox's marketing strategy is to build and redefine its brand identity, not necessarily generate more sales leads. Other innovative ways in which the company is engaging its own workforce and external customers are blogging, the adoption of Yammer (the enterprise social network), and by using gamification (integrating games in learning and marketing activities). All this contributes to changing the company image from a 20th century print company to a 21st century service company.
While the departure of Xerox's CFO is a loss for the company, it seems like the company's game plan in the next several years is already mapped out. The company will continue to expand its service offerings in demand areas such as government, healthcare, transportation, and finance, while at the same time, simplifying and improving its legacy print business. The shares seem attractively priced and the increase in dividend and share repurchase are two shareholder friendly initiatives that should bring additional value in the future. While there will be challenges in the services business, about 90% of it comes from higher-margin renewals, bringing certainty to cash-flow and revenues. Investors looking to invest in a world-class company with relatively inexpensive shares should consider Xerox.