Lexmark International, Inc. Guidance Call Transcript

Jan.13.09 | About: Lexmark International, (LXK)

Lexmark International, Inc. (NYSE:LXK)

Guidance Call

January 13, 2008 8:30 am ET

Executives

John Morgan – Director of Investor Relations

Paul J. Curlander – Chairman of the Board & Chief Executive Officer

John W. Gamble, Jr. – Chief Financial Officer & Executive Vice President

Analysts

Shannon Cross – Cross Research

Kathryn Huberty – Morgan Stanley

Toni Sacconaghi – Bernstein Research

Min Park – Goldman Sachs

Bill Fearnley – FTN Midwest Research

Ben Bollin – Cleveland Research Co.

Bill Shope – Credit Suisse

Wendy Abramowitz – Argus Research

Richard Gardner – Citigroup

Tom Carpenter – Hilliard Lyons

Operator

Welcome to the Lexmark International fourth quarter 2008 outlook revision conference call. During the company’s opening remarks all participants will be in a listen only mode. Afterwards, we will conduct a question and answer session. (Operator Instructions) As a reminder, this conference call is being recorded on Tuesday, January 13, 2009. I would now like to turn the call over to John Morgan, Lexmark’s Director of Investor Relations.

John Morgan

Chairman and CEO Paul Curlander and EVP and CFO John Gamble are with me this morning. After Paul’s remarks we will open the call for questions as time permits. We ask that you please limit yourself to one question and one follow up if needed so that we can get to everyone. Following the conclusion of this conference call a complete replay will be made available on our investor relations website located at http://investor.Lexmark.com.

Please note that upon the completion of this conference call the company will have no further comments on its results, restructuring, or guidance until its earnings release scheduled for Tuesday, January 27th. As a reminder, any of today’s remarks that are not statements of historical fact are forward-looking statements and involve certain risks and uncertainties that are disclosed in the Safe Harbor section of our earnings releases and SEC filings.

Actual results may differ materially from such statements. Lexmark undertakes no obligation to update any forward-looking statements. With that, I’ll turn it over to Paul.

Paul J. Curlander

Today we’re announcing that our fourth quarter operating results will be lower than expected. As we went through the fourth quarter we saw weaker than expected market demand for both hardware and supplies across all geographies and a broad weakening of currencies versus the dollar which together resulted in lower than expected revenue for both hardware and supplies.

We now expect fourth quarter revenue to decline about 17% year-to-year. This is a greater reduction than the low to mid teens percentage reduction we had indicated in our October guidance. Earnings per share during the quarter were impacted by several factors including a negative impact on operating income from currency rate shifts during the quarter, a tax benefit in the quarter which approximately offset in earnings per share the effect of these currency rate shifts, and an increase restructuring related charge in the fourth quarter 2008 primarily due to the 2009 restructuring plan we’re announcing today.

We now expect fourth quarter 2008 GAAP earnings per share to be in the range of $0.19 to $0.24 per share. Fourth quarter restructuring related charges will be about $0.52 per share or about $0.22 per share higher than expected in the October, 2008 guidance primarily due to this 2009 restructuring plan. The company’s fourth quarter 2008 results are expected to include an about $0.30 per share tax benefit.

Earnings per share excluding restructure related charges are now expected to be in the range of $0.71 to $0.76 per share with the lower operating income impact being about offset by the tax benefit. Now, this compares to the October, 2008 guidance range for earnings per share excluding restructuring of $0.70 to $0.80. For the quarter, laser and inkjet unit sales were less than expected with laser units declining 8% year-to-year ink jet units declining 43% year-to-year.

We also saw significant weakening of foreign currency during the quarter directly impacting both hardware and supplies revenue. The shortfall in revenue versus expectations was due both to the currency impact as well as weaker hardware demand. About two thirds of the revenue short fall came in hardware as hardware revenue declined about 29% year-to-year in the quarter with declines in both laser and inkjet hardware.

Supplies were about one third of the revenue short fall as supplies revenue declined about 12% year-to-year in the quarter with declines in both laser and inkjet supplies. As with hardware, supplies revenue was negatively impacted by currency shifts versus our October guidance as well as weaker than expected end user demand in both inkjet and laser supplies.

During the quarter, we increased supplies pricing in all geographies due to the relative strengthening of the dollar but still had a significant negative impact on supplies revenue in the quarter due to the currency shifts. As normally happens with supplies price increases, we saw channel buy ahead. The combination of the channel buy ahead and the weakness in end user demand resulted in an increase in supply channel inventory which we expect to be worked off over the next quarter or two.

Compared to our expectations, the short fall in earnings per share excluding restructuring and the tax benefit was due primarily to the currency effect as much of this currency driven revenue decline directly impacted gross margin. Partially offsetting this decline was a limited fourth quarter 2008 benefit from supplies price increases and lower than expected operating expense in the quarter which was down about 6% year-to-year.

On a segment basis, consumer segment operating income excluding restructuring was in line with expectations as the weaker hardware unit sales channeled by ahead of supplies due to the price increases and lower operating expenses acted to offset the impact of currency and weaker end user supplies demand. The primary miss versus expectation for both revenue and operating income excluding restructuring is in our business market segment.

Overall, in the business market segment about 60% of the revenue short fall expectation was in hardware revenue. The hardware revenue shortfall was due to the lower than expected laser unit sales, a negative currency impact and a less favorable mix of product. The short fall in laser supplies revenue was primarily due to the negative currency impact. The shortfall in operating income excluding restructuring in the business segment in the fourth quarter compared to our expectations was primarily due to the weaker international currencies.

At quarter end, cash plus current marketable securities were approximately $973 million. During the fourth quarter we completed the return of $123 million of capital to shareholders through the repurchase of 5.2 million shares of Lexmark stock. Now, this morning in response to the weakening economic environment, we’re also announcing an additional restructuring program for 2009 that will be substantially completed by year end 2009.

This new program is a continuation of our actions to reduce support activities including G&A functions as well as supply chain and sales support. We’re also streamlining our marketing and sales management structure to improve costs while maintaining the expanded enterprise coverage we implemented in late 2007. We are also consolidating some product development programs in R&D.

Total restructuring costs and expense will be approximately $45 million, $20 million of which was recorded in the fourth quarter of 2008. These actions will impact approximately 375 positions with about a third of the positions being transferred to other lower cost Lexmark locations. Total annualized savings from these actions once completed are expected to be approximately $50 million with 2009 savings of approximately $40 million.

Now, as we look in to the first quarter, we’re expecting the continued weakness of the global economy to negatively impact hardware unit sales with declines year-to-year in our sales of both inkjet and laser hardware. We also expect the dollar to continue its relative strength versus the first quarter of 2008 negatively impacting revenue and gross margins.

For supplies, we’re expecting a continued economic weakness and the shrinkage of the current high channel inventory levels that negatively impact revenue. These factors are driving our expectation of a year-to-year decline in revenue in the first quarter of 2009 in the mid to high teens percent with declines in both market segments but with the larger percent decline in the consumer segment. Supplies revenue is expected to decline year-to-year at about the same rate as the fourth quarter of 2008.

In the first quarter we’re currently expecting GAAP earnings per share to be in the range of $0.52 to $0.62 with about $0.13 per share in restructuring related charges. Earnings per share excluding restructuring related charges is expected to be in the range of $0.65 to $0.75. Now, while these near term results are clearly less than we expected as we entered the fourth quarter, we continue to focus on the long term growth and success of the company and the creation of shareholder value.

We announced a number of new laser products during 2008 and our ongoing R&D investment is producing a steady stream of new product introductions as well as ongoing product awards and industry recognition. We are continuing our focus on the expansion of our management services and industry solutions initiatives which will lower output related costs and improve productivity for our enterprise customers.

We also made significant investment in our enterprise sales force over the last two years to improve our coverage and expand the reach of our solutions and services propositions. The focus of all these business market investments is to drive work group laser growth and page generation.

On the consumer side, we’re driving a significant change in our market strategy to focus on higher usage products and customers. Although we’re seeing significant near term impact in our units, we believe that with these changes we will be much better positioned for the future. This inkjet strategy is driving good growth year-to-year in the retail sell out of our wireless inkjet units.

The introduction of new products such as our professional series inkjets and an increasing amount of industry recognition and awards for our inkjet products. We’re also continuing to focus on the restructuring of our business to lower our costs and better allow us to fund these strategic initiatives.

In closing, we continue to have a strong financial position and balance sheet with almost $1 billion in cash and current marketable securities. As a final comment, since our analysis of fourth quarter results and first quarter outlook are not yet complete, we will not be able to provide today the usual commentary and color or our normal quarterly conference call. But, we are scheduled to be back on January 27th before the fourth quarter earnings release.

At this time we will open it up for questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from Shannon Cross – Cross Research.

Shannon Cross – Cross Research

My first question has to do with basically trying to get from the numbers if sort of on an apples-to-apples basis we’re looking at $0.41 to $0.46 for fourth quarter and then you’re obviously guidance up for first quarter, I’m just trying to understand what the puts and takes are? Is it op ex, is it you expect to sell a little more hardware so you’ll see a bit of a mix shift of hardware in the first quarter? The first quarter tends not to be a big hardware quarter, so if you could just help us sort of understand how you think things are going to trend and change on a quarter-to-quarter basis, that would be very helpful.

Paul J. Curlander

Let me say a few things, I’ll let John put in his comments as well. As we go in to the first quarter we’re focused on continued weak hardware demand. So, as we take a look at lasers, we take a look at inkjets, we are expecting those units to decline. We are not sure they’re going to decline at the same level as what we saw in the fourth quarter because of a number of things that we are doing but we still expect a decline so perhaps a slight improvement there in terms of those units.

But, as we look on a year-by-year basis, we’re still considering the currency situation and the relative strength of the dollar. So, we’re going to continue to see that impact certainly through hardware revenue. As we take a look at supplies, the issue we have is that as we went through the fourth quarter we did a significant amount of price increases in our international geographies.

As a result we’ve had a lot of disruption in the channel, we’ve had a lot of buy ahead, we’re sitting on a lot of channel inventory in both laser and inkjet supplies so we’re expecting some pretty significant shrinkage in those supplies. Also, as we saw some of the disruption in the channel we did see weaker than expected in user demand in supplies. We’re expecting some of that to continue in the first quarter. It’s a little hard to gage as we see some of these prices impact finally sink in and start to stabilize but we expect to see some of that.

Now, as we also look in to the first quarter we’ve been doing a lot of activity around operating expenses and so we’re looking for operating expense improvements on a year-to-year basis and certainly sequentially come out of the fourth quarter. So, kind of a combination of all these things is yielding our thought process. John, do you want to add some thoughts?

John W. Gamble, Jr.

No, I think that’s basically covering the major factors that we see moving in to the first quarter in addition to the price increases hopefully taking more hold as you said.

Shannon Cross – Cross Research

Then just a follow up because currency obviously this quarter is a bit more of an impact than it’s been in prior. Can you just explain to us your currency impact on your COGS line? Do you have currency sharing kind of arrangements with some of your ODM suppliers or how should we think about how currency runs through on the gross margin line?

Paul J. Curlander

I think you should primarily think of the COGS as a dollar denominated affect. Obviously, we have some geographic components to that in our other cost of goods sold but primarily you should be thinking of it as a dollar.

John W. Gamble, Jr.

Yes, we have some Yen based suppliers as well. But, it’s generally dollar and obviously we have labor, etc. that is non-dollar in our supplies organization. But, in general it is more dollar denominated but you’re also going to see some impacts from Yen and the currencies of our major manufacturing facilities being in the Philippians, China and Mexico.

Operator

Your next question is coming from Kathryn Huberty – Morgan Stanley.

Kathryn Huberty – Morgan Stanley

If I take the dollar to Euro exchange rate as an example, the rate was the same on October 21st when you guided as the average during the quarter so can you help us understand where you were surprised versus the guidance you provided in October? It sounds like from the answer to the last question maybe it was the Asian based currencies?

John W. Gamble, Jr.

No, I think we had some surprises across the major currencies that impact us. So, the major currencies that impact us would be the Euro, the Pound, probably some of the Latin American currencies as well as some of the Asian currencies probably more the Aussie Dollar than others, as well as some of the other Asian currencies including the Yen. In general we certainly has some surprises relative to currency overall across those currencies.

Kathryn Huberty – Morgan Stanley

So when you guided were you taking the September 30th exchange rates and therefore the volatility even in October hit you versus guidance?

John W. Gamble, Jr.

There is certainly some of that. We’re not in a position to update our outlooks daily based on currency movements so there is certainly some of that but, the rapid changes we saw in October and November were more rapid than we certainly would have expected.

Kathryn Huberty – Morgan Stanley

Then just lastly, were there any incremental hedging costs in the quarter related to currency?

John W. Gamble, Jr.

We don’t have an aggressive hedging program.

Operator

Your next question comes from Toni Sacconaghi – Bernstein Research.

Toni Sacconaghi – Bernstein Research

Laser supplies, my understanding is that business over the last six or seven quarters has been generating growth in the mid to high single digits, in fact perhaps even low double digits in a couple of those quarters. I think you said Paul that laser supplies were down despite the fact that you had substantial channel fill and then I think you also said that you attributed entirely to currency so can you help a) explain what appears to be a very dramatic deceleration in supplies fairly suddenly in terms of year-over-year growth rate from Q3 to Q4 despite the fact that you had the boost of channel fill; and how you believe that was entirely due to currency especially since you ostensibly harmonize your supply pricing over time?

Paul J. Curlander

Let me say a couple of things Tony, as we went through the quarter currency was moving fairly rapidly and we were actually doing multiple supplies price increases in the international geographies. There’s always a delay in terms of the effective date on those price increases and so as we went through the quarter, although we did numerous price increases the impact in the quarter was really very low compared to taking those prices up.

So, we did not get much relief in the quarter from the price actions. As we look at our supplies modeling, obviously a lot of things happened during the quarter but, as we look at how we sold in and how we sold out of the channel as best our estimates tell us, what we see is that in terms of sales out there was weaker than expected demand. We look in terms of dollars, we also look in terms of what we call pages because pages are kind of the units of supplies.

As we looked at pages out, we saw less than expected pages in the fourth quarter having a little bit of a surprising result to us but this is what we saw. The reality is that a lot of that came I think certainly in the November time frame as we saw kind of a pause in terms of buying a lot of things across a lot of geographies but certainly we saw less than expected sell out.

Now, as we did the price increases we did get buy ahead and as we looked at what sold in the channel on a pages basis, we actually sold at and maybe in some cases even slightly above what we had expected to sell in to the channel. But, in terms of dollars on the laser side, it did not offset the currency impact that we saw during the quarter. As we look at what we sold in, and we sold in more in terms of pages than what we sold out, we built channel inventory but in terms of dollars we actually sold in less than what we had expected.

Now, overall as we take a look at the laser supplies, in terms of sell out growth, we’re seeing a couple of affects again, first we saw less than expected end user demand so that depressed the sell out of our laser supplies on a year-to-year basis. Secondly, we’ve been seeing in our OEM business some weak results over time on the hardware, we’re now starting to see those laser supplies on a year-to-year basis decline which is going to be a drag certainly in the foreseeable future on the overall laser sell out supplies growth rate.

As we go in to the first quarter we’re obviously watching to see what the sell out supplies stream looks like. As we exited fourth quarter again, a lot of disruption we have not seen all the geographies come back to where we would have thought they would have been in terms of page sell out. Some of that could be the economy, some of that could be the price actions, some of it could be credit situations with the channel. But, we’ll certainly be looking at that as we go through the first quarter to see what happens with that. These are the key factors that are going on with laser supplies.

Operator

Your next question comes from Min Park – Goldman Sachs.

Min Park – Goldman Sachs

Can you just tell us if and how much of the $0.30 tax benefit you saw in the quarter was expected when you gave your initial targets and how much of it is incremental?

John W. Gamble, Jr.

When we gave the initial guidance the only thing we mentioned in terms of a potential item that would be beneficial in tax in the quarter was the extension of the R&D tax credit which was about $6 to $7 million. The big thing that affected our tax position was that the changes in operating income we talked about did result in a change in the mix of our overall taxable income to make it more international.

It also resulted on our tax rate in general overseas going down so that when you take a look at the full year our blended tax rate, because our international tax rates are lower than the US, went down for our income. So, when the full year tax requirement goes down, the affect on the fourth quarter ended up being a credit in the period.

Min Park – Goldman Sachs

Could you tell us what your effective tax rate for the full year was? I think you’re targeting 23%?

John W. Gamble, Jr.

It was below 20%. It was in the 17% to 18% range. Obviously, we’re not done yet with our full year analysis but it currently looks like it’s about 17% to 18%.

Operator

Your next question comes from Bill Fearnley – FTN Midwest Research.

Bill Fearnley – FTN Midwest Research

On the supplies side, I just want to go back to that if I could Paul, on the inkjet and then the laser side you had price increases, you had lower demand and you had currency effects, what was the effect of each as a percentage or relative effect on the inkjet and then the laser business? I understand that there’s a lot of moving parts but which was the biggest and which was the smallest of those three factors on the supplies revenue? Then, I have a follow up.

Paul J. Curlander

I would say the biggest impact on supplies revenue in the quarter was the currency. That was the biggest impact. In terms of our revenue, as I was indicated earlier in response to Tony’s questions in terms of sell in as we look at pages, we actually had the level of sell in on pages really in both inkjet and laser that were more than what we had expected when we came in to the quarter. So really, the missing supplies revenue was all about the currency in terms of sell in.

Now, sell out was weaker than expected, and this was obviously about economic demand, some of it has to do with I think again, some of the disruption that occurred in the channel and with our customers, but that sell out was less than expected so as a result we also built channel inventory during the quarter. Now, this shrinkage of that channel inventory becomes a much bigger factor in Q1.

So, as we start to get some impact from the supplies price increase in Q1 which helps us as we move in to the first quarter, we’re going to see this shrinkage in channel inventory which takes it the other way.

Bill Fearnley – FTN Midwest Research

Then if I could shift gears to the hardware side, could you give what the ink jet and laser AUR trends in the quarter were and what your preliminary expectations are for 1Q09 or in to the current fiscal year?

John W. Gamble, Jr.

I think in terms of getting in to that level of detail, we’re going to have to hold off on that until the earnings call in a couple of weeks.

Bill Fearnley – FTN Midwest Research

Trend wise John can you give some sense was it lower or in line with what you had expected on the hardware AUR side on inkjet and laser?

John W. Gamble, Jr.

I just really think in terms of the comments on the specifics like you’re discussing we’re going to have to hold off until the earnings call.

Operator

Your next question comes from Ben Bollin – Cleveland Research Co.

Ben Bollin – Cleveland Research Co.

When you look at the core verticals in the enterprise business, the laser business, retail, financial, legal, could you give an approximately percentage of the business that comes from these markets? I’m interested in what types of visibility you’re seeing from those customers? Then, a brief follow up.

Paul J. Curlander

Well, if you take a look at our business market segment, I would say roughly that what you would see and again, it varies by geography but we tend to think in terms of at least 40% to 50% of our revenue coming from the enterprise segment overall. Maybe a little higher than that depending on the geography. Then, within that obviously the big verticals are the ones that you talked about; financial services is big for us, retail is big for us, government is certainly big for us as well, healthcare would be another one; these are the major segments that we have.

Ben Bollin – Cleveland Research Co.

Any thoughts on when you talk with these large customers that you’ve had for a long time, their discussions in relation to capital investment plans or how they’re looking at their printers and what they’re doing with their own assets in to the out year.

Paul J. Curlander

Well, we see certainly a range of things as we talk to our customers. Clearly, everyone is looking to take costs out and take capital spend down. We find some customers who as a result don’t want to spend anything or entertain any types of propositions and are pulling back in terms of what they have been buying on a run rate or routine basis.

But, we also find customers who are very interested in the significant [inaudible], they’re interested in our services and our industry solutions propositions to make a little bit of an investment but to take their costs down significantly as a result. So, we kind of see a mix. But, the general climate out there right now is to take cost out, to slowdown spending and we’re certainly seeing a lot of that.

Operator

Your next question comes from Toni Sacconaghi – Bernstein Research.

Toni Sacconaghi – Bernstein Research

I just wanted to get that follow up in, Paul I’m still struggling with how big the impact of currency could have been. Basically your supplies in the first three quarters for lasers I think were close to double digits, certainly high single digits. You emphatically said every call that they grew strongly. Now, all of a sudden they’re growing below zero and there was channel fill which should have helped you.

So, including channel fill it’s more than 1,000 basis points deceleration in year-over-year laser supplies growth and you’re saying it’s entirely due to currency. Am I interpreting that correctly? I’m just not sure there were any shifts that were that big in currency in the quarter.

Paul J. Curlander

I’ve given you all the factors Tony. Again, I would start with the end user demand was less than expected so we saw in terms of what I talked about in terms of page out sales we saw less than what we had anticipated.

Toni Sacconaghi – Bernstein Research

But you recognize on a sell in basis so I’m just talking about your reported revenue which is sell in. You said it was in line or better than you expected and yet your supplies were down and they were up high single digits in the first three quarters of this year. So, I’m trying to understand on an apples-to-apples sell in basis for every quarter how you could have such a steep deceleration year-over-year growth despite sell in and attribute it entirely to currency?

Paul J. Curlander

We’re confusing two things here perhaps. As I talk about currency, we’re talking about comparisons to our expectations as we entered the quarter. You’re now starting to talk about in terms of year-to-year comparisons. In terms of year-to-year comparisons I think the factors [inaudible] that we are seeing a deceleration in the supplies because of the OEM factor which is now becoming a drag, a decline. We are also seeing from a price perspective the currency impact. These are the major factors in the quarter on a year-to-year basis.

Operator

Your next question comes from Bill Shope – Credit Suisse.

Bill Shope – Credit Suisse

Just looking at the first quarter guidance again, are you expecting any of this tax benefit to leak in to that quarter? And also, on hedging activities why aren’t you more aggressive with hedging activities? And, is that going to change going forward?

John W. Gamble, Jr.

In terms of the specific impact of tax in the fourth quarter, no it’s specific to the fourth quarter. In terms of ongoing effective tax rate, well obviously we’ll update that when we do the earnings call but the current expectation built in to guidance is in the neighborhood of 20% to 21% in terms of an ongoing effective tax rate that we used for the first quarter. In terms of hedging, economically I think on an ongoing basis we don’t think that we should be aggressively hedging our international exposures and I don’t think we intend to begin doing that.

Operator

Our next question comes from Wendy Abramowitz – Argus Research.

Wendy Abramowitz – Argus Research

One quick question on your sell in of supplies, was that happening more internationally than in the US or was it about the same in both?

Paul J. Curlander

Well, we have sell in of supplies and built channel inventory in the US as well as internationally. The reality is we also took prices up in the US on supplies in the fourth quarter. We talked about that on our last earnings call but the effective date on that price increase actually occurred in the quarter and in some cases late in the quarter so we saw buy in, in the US as well buy ahead of a price increase.

Operator

Your next question comes from Richard Gardner – Citigroup.

Richard Gardner – Citigroup

I just wanted to get a sense of what your future plans are for price increases on the supplies side of the business? My sense coming in to the quarter was that competitors are raising supplies prices sufficiently to offset much larger Yen COGS exposure that you have which should in the end give you a little bit of leeway to raise supplies prices and actually see some of that fall to the gross margin line.

What do you intend to do with supplies prices in the future? And, maybe if you could also let us know what you’re seeing out there from competitors on the supplies pricing front?

Paul J. Curlander

We’re certainly seeing competitors raise supplies prices. I’m not sure I would say we’re seeing people raise supplies prices more than what Lexmark is doing but certainly we’re seeing people respond to the shift in currency. In terms of what our anticipation is, we’re very focused on being harmonized on our pricing around the world for a lot of different reasons. As we’ve seen this significant amount of currency shift, there’s always latency in getting the effective price around the world and there’s disruption by the significant amount of price movement that we had.

Just the absolute amount of price increases in local currencies was very significant. Then, as you do that, there’s always some level of negotiation with customers where you are in the middle of deals or where the local price on supplies has moved significantly, there’s always some level of renegotiation that goes along with that. We’re going to be focused on harmonization and making sure that we are there.

Currency will probably continue to move some. We’re not anticipating it to be the dramatic movements we saw in the first quarter but we’ll be looking at that. We do have scheduled another price increase in the US yet to come which we factor in to our harmonization plans around the world. So, we’ll be looking to harmonize to that level of pricing around the world as well as we go forward.

And, we are watching the competition very closely and if we see opportunities to increase supplies pricing we will because it’s been challenging to get recovery on the negative impact of currency around the world. So, to the extent that we can get that recovery in any geography, we’re looking to do that.

John W. Gamble, Jr.

Just for clarity so people understand, the foreign exchange rates used in the first quarter guidance that we gave assumed 12/31/08 rates.

Richard Gardner – Citigroup

As a follow up Paul can you just give a sense of how much of your supplies business is contractual? In other words, I think you said earlier that 30% to 50% of your revenue is from the enterprise segment, that’s probably where most of the contractual business is in supplies. What percentage of that business would actually be contractual so that you could not adjust supplies pricing perhaps as quickly as you would like? Or, are there mechanisms built in to those contracts that allow for immediate changes based on currency?

Paul J. Curlander

There’s a combination of things out there but I think your point is correct, that there are contractual obligations that do not allow us to move supplies pricing certainly not immediately. In some cases later, a year or two depending on how the currency might move. But, I think you’re right to think about it as about 50% of supplies pricing in some geographies, up to 50% is contractually obligated. Typically in local currency some of these have ability to make changes, some do not.

Operator

Your next question comes from Shannon Cross – Cross Research.

Shannon Cross – Cross Research

I just had a couple of follow up questions, the first one, just on the tax side John just checking for first quarter because you said it wasn’t going to flow through but I would assume just geographically you’re selling in different places or do you expect things to sort of go back to normal in which case – I’m just trying to get an idea of how the tax rate is not going to sort of change in first quarter as well?

John W. Gamble, Jr.

Well, I think actually what we indicated is the tax rate was slightly different than the guidance we gave in the fourth quarter. I think we said ongoing effective rate of about 23% when we did the guidance in the fourth quarter. When asked about the first quarter I said in the neighborhood of 20% to 21%. I think we are assuming a little lower here and as we work through the remainder of this month and finalize the tax accruals then we’ll probably further refine that but, right now I’d say 20% to 21% is what is embedded in the outlook.

Shannon Cross – Cross Research

Then a question with regard to sort of restructuring savings and how we should think about op ex in 2009, if you sort of take all of the restructuring that you’ve done and the savings that should be there, I don’t know $100 millionish and then you’ve got your fx which obviously is moving around but in theory might provide some benefit. Can we say that op ex may be down $170 million in the year or is that going to be given back in pricing?

I guess just Paul and John how are you thinking about taking the savings and then redeploying them either to the bottom line or I know pricing has gotten really aggressive. Just if you could give us any color as to how you think things will sort of play out?

John W. Gamble, Jr.

In terms of specific color around the way the restructuring savings add, etc. I think that’s another one that we’re going to wait until the earnings call in two weeks. The savings number you’re quoting in general were total savings. Some of those savings impacted COGS, some impacted op ex. There’s a lot of information actually on the specific savings levels that we’ve achieved and that we indicated would exist within the earnings slide decks that are published on our website. It will take a while to try and recount that all right here on the call but it is available on the website. I’d suggest, if you could, for the next two weeks just take a look at those and then we’ll talk more about the specific area of savings related to the restructurings on the earnings call in two weeks.

Shannon Cross – Cross Research

Then my last question, just on the restructuring charge that you’re going to be taken in 2009, for 375 headcount it seems like a fairly high number. I’m just curious as to within that if there’s cost others than headcount, I don’t know shutting down facilities, anything you can provide to us?

John W. Gamble, Jr.

There’s generally some involved, there’s generally other savings involved as well as there is costs related to sometimes the movement of jobs from one location to another. In generally yes, there are costs outside of just severance involved in our restructurings.

Shannon Cross – Cross Research

Right but nothing incremental that’s different than sort of prior restructurings in terms of maybe percentages or what have you?

John W. Gamble, Jr.

I really couldn’t say that, each one is different depending on the facilities impacted and the movements that are occurring so to say that we’re doing the same types of activities but the specific levels of project costs are not always the same by action.

Operator

Your next question comes from Tom Carpenter – Hilliard Lyons.

Tom Carpenter – Hilliard Lyons

Can you give us some additional color on the changes you made in the fourth quarter for the 2009 restructuring plan versus what you still have to change in 2009? Then, I have a follow up.

Paul J. Curlander

Tom, you’re referring to the restructuring plan that we did in the fourth quarter 2007?

Tom Carpenter – Hilliard Lyons

Well, you said at least you’re already taking some charges for the new plan in 2009, is that correct?

Paul J. Curlander

Yes, okay. So, the plan that we just announced this morning, yes some of those charges will fall in to the fourth quarter of 2008. That’s correct.

John W. Gamble, Jr.

We indicated that was about $20 million.

Tom Carpenter – Hilliard Lyons

Can you tell us what actions you’ve already taken in this quarter versus ones that you’re going to do in the first quarter?

Paul J. Curlander

Well basically what we’re doing is we’re taking actions going forward. Because of the accounting rules for subsequent events, some of this ends up in to the fourth quarter accounting and that’s what we’re referring to.

Tom Carpenter – Hilliard Lyons

Can you give us some additional color on the G&A supply changes and the sales and support changes?

Paul J. Curlander

Well, we’re working a combination of projects. Every one of these restructurings that we talked about really is a sequence of projects that make it up. As we look at the supply chain, our focus is a combination of different things. It is just an ongoing effort to continue to look at how we move product from the sourcing manufacturer to our customers and take out cost and expense, reduce [touches], get more efficient in the way that we move it, get more efficient in our distribution networks, get more efficient in our fixed cost structure and continue to push more of what we do, if we have to do something with resource and to lower cost geographies.

That’s kind of what’s going on with the supply chain. In G&A there are a number of initiatives going on, obviously the biggest ones I think are in finance and IT but also we’re working in facilities, some things going on in HR as well. But, in finance we’ve been over the last several years now working an ongoing set of projects to consolidate our financial support. We’re in the process of working on new ERP implementation and a set of processes that go with that.

We’re looking to standardize processes, consolidate processes, move to shared service centers. We’ve got a lot of work on that setting up shared service centers in [inaudible] Argentina, lower cost locations as we try and execute that. As we continue to go on we just have more of that that’s unwinding through different geographies around the world.

Operator

Your next question comes from Bill Fearnley – FTN Midwest Research.

Bill Fearnley – FTN Midwest Research

Paul, if I could go back to hardware for a second here, for the promotion and pricing environment for hardware in the quarter, what did you see in the fourth quarter, what are your expectations in the ’09 on the laser and the inkjet side? Then, kind of related to that are there any changes to the marketing and sales spend here in the fourth quarter of the first quarter? What are you seeing for pricing and promotion? And, what do you have to do from a headcount perspective to keep up with all of that?

Paul J. Curlander

Well, as we look at pricing promotions in the fourth quarter I would say in the US pricing continues to be very, very aggressive. Whenever you have weak hardware demand or weaker than expected you see very aggressive pricing, you see very aggressive promotions. We certainly see it on the laser side in the channels, we see it on the laser side in enterprise bids, we see it in retail in terms of the promotions.

I would tell you as we look at the fourth quarter, a lot of promotions on the retail side around Black Friday. I would say as an industry, sell through was not as good as what people had hoped or had expected so that leaves some inventory out there in the channel for people to move through as we go in to first quarter so we would expect ongoing aggressive price promotion in the US.

As you go outside the US and talk about hardware you really end up back in the currency discussion because primarily what we saw in the fourth quarter was that as the currency shifted we did see competition reacting and starting to raise prices on the supplies. We saw much less of that on hardware. In fact, in general what you would say is that the competition was not leaving prices on hardware to reflect the strengthening dollar or the strengthening Yen.

In some cases we saw a little bit less promotional activity in some geographies were people were holding price at a very aggressive point but not doing as much in terms of promotions. We did see some isolated price movements but that was more the acceptation than the rule. So, I would say that the international pricing was beyond aggressive as people did not adjust to some of those currency moves. Very, very significant and certainly part of the issue that we saw in the fourth quarter and part of what we expect and it’s rolled in to our guidance as we look at the first quarter.

Bill Fearnley – FTN Midwest Research

Any concerns about channel finished goods inventory on the laser or the inkjet side given the comments about demand in the fourth quarter?

Paul J. Curlander

Well, we’re going through that right now. We’re a little ahead of our normal schedule and we haven’t looked at all of the inventory situations around the world. I would expect to see some excess inventory in some channels on the hardware side. We’ve already talked about supplies where we know there’s significant inventory sitting in the channel.

Bill Fearnley – FTN Midwest Research

Then the last question, third party threat on the supply side, any change in that during the quarter?

Paul J. Curlander

Whenever you’re raising supplies prices as much as what we did there’s always the risk that you’re going to have third parties start to come in because typically what we’re doing is we’re raising these prices in the local currencies and a lot of the third parties operate in the local currencies so they’re not moving their prices. So, you always have that additional risk. We wouldn’t have expected it to move as rapidly as what we had moved price but it’s possible over time we may see some loyalty loss there.

Obviously, we’re very focused on that and as we go forward we continue to work on our own manufacturing activities to capture as much of that opportunities as we can. But, that risk is certainly there. It’s very hard to detect how much of that actually goes on in any given month or any given quarter.

Operator

Your next question comes from Toni Sacconaghi – Bernstein Research.

Toni Sacconaghi – Bernstein Research

I just wanted to make sure that I understand how you think about currency. Are the discrepancies you continue alluding to simply the fact that your costs whether they be COGS or much of your SG&A is US dollar denominated and as the dollar is strengthened relative to other currencies you’ve captured less revenue than you had anticipated translating in to lower gross margins and lower operating margins? Is that effectively what you are saying in terms of the currency shift?

Paul J. Curlander

Yes, that’s certainly what we’re saying from a hardware perspective in terms of supplies. But, we’re also saying that even though we harmonize and move prices, as we pointed out in the discussion a little while ago a significant portion of laser supplies are covered by contracts that lock prices in local currencies so even though we harmonize prices we you don’t necessarily impact those prices. So, that does have an impact, you’re still at risk there relative to some currencies.

Also, effective dates of price increases are on geo by geo basis vary so we have some of that going on in the supply side as well.

John W. Gamble, Jr.

We do get a benefit in local cost.

Toni Sacconaghi – Bernstein Research

Wherever you produce locally?

John W. Gamble, Jr.

Or wherever we sell locally.

Toni Sacconaghi – Bernstein Research

But if we think about this longer term, I mean effectively longer term assuming there is not much volatility in the dollar going against you, there are two basic premises, one is you’ve raised price in the US by 5% and you’re going to harmonize that internationally. So when that harmonization process is complete and I understand there are some issues with some contracts and I understand there are issues in different geographies but, when that harmonization process is complete you actually should net of any changes in currency, assuming that currency is stable be 5% better off than when you started three months ago.

Is that not an accurate depiction? And if so, how long do you envision assuming currency doesn’t change from here which is the default assumption, how long will it take you to fully harmonize supplies pricing globally?

Paul J. Curlander

Well, on your first point I think as a general statement, yes your logic is right. The initial 5% increase that we were talking about that took effect in the fourth quarter which you may recall that was really driven by increases in commodity costs that occurred over the last 12 to 18 months. Obviously, some of those commodities are starting to retreat, I’m not sure that they’ve all retreated and that those costs have gone away.

But, to the extent that you have 5% more in price minus whatever the impact is from the commodity cost that drove that initial price increase, yes you’re going to be better off. The second price increase that we’re talking about for 5% is in our view being driven by the global issue in trying to recover some of the currency moves that occurred. So, I think to the extent that we actually implement that again, generally you would be better off 5% from where you were minus whatever currency you haven’t been able to recover in other parts of the world in either hardware or supplies which is what we think drove the second increase in supplies pricing. So, these are some of the offsets to it Tony but, those are the factors that we look at.

Toni Sacconaghi – Bernstein Research

And the time frame for harmonizing Paul given the constraints around contracts, etc. that you mentioned too is that one quarter or two quarters?

Paul J. Curlander

In some cases it could be longer than that. Obviously, we’re very focused on that rate of recovery. We’re looking very carefully at the price per page that we’re getting in every geography and where we were and where we need to be but obviously some of these contracts are multiyear contracts that we’re locked in to at currency rates that have been set up over the last three or four years so some of that is obviously going to take years to recover. Clearly, we’re trying to get a recovery faster than that but some of those contracts we’re locked in to.

Operator

Your next question comes from Tom Carpenter – Hilliard Lyons.

Tom Carpenter – Hilliard Lyons

When you look at the office superstores, the electronics superstores and the mass market retailers, you guys still have great shelf space on supplies but the hardware shelf space isn’t keeping up with the new products you guys are coming out with and all the awards you’re getting and I’d like to hear your comments on that.

Paul J. Curlander

Well we clearly think we’re underrepresented in office superstores versus where we’d like to be and versus where our product set should demand. We’re focused on trying to improve our shelf space in those chains. That’s one of the key focus points that we have as we come in to 2009, we’ve been working on that for a while and that continues to be a focus item for us.

Tom Carpenter – Hilliard Lyons

Can you give us some insight on how that change comes about?

Paul J. Curlander

Well, in general with retailers what you see is that they reset their shelves typically twice a year. Typically with retailers there’s an opportunity to pitch additional products or changes in shelf space on at least an annual basis, sometimes twice a year kind of basis and this is the engagement we have working with all those retailers.

We know these retailers very well, as you point out we do a lot of business with them on supplies and obviously we’re looking to convince them that we have made a shift in our strategy that we’re not just focused on the low end anymore that we’re very focused on small office, small and medium business with our inkjets and with our laser products as well and that there’s opportunity there to work with Lexmark.

This is the initiatives that we’re on. Obviously it’s a tough time for all of these retailers right now and so some of that influences I think their views. Some of them are probably sitting with more inventory than they’d like to have at this point in time but nevertheless that’s the process. We continue to work on it and that’s one of our key goals here in 2009.

Tom Carpenter – Hilliard Lyons

This might be a better question for the next call but where do you think you compete against best in those areas against HP, Canon, Epson or a smaller player in that space like a Dell or a Brother?

Paul J. Curlander

We think that we compete against all these competitors. I mean clearly when someone be it a business or someone for their home office walks in to a store or contacts one of these office superstores they’re considering all these brands so we need to compete against all of them. We feel that we have dramatically improved the product set that we have to deal with professional users, business users.

We think that the increase in awards and recognitions you’re now seeing on our product line reflects that because when one of these publications and test labs give awards they’re looking at all the competition so we think our products are reaching a point where we should have more distribution and clearly we’re focused on trying to make that happen here in 2009.

Operator

Our final question comes from Shannon Cross – Cross Research.

Shannon Cross – Cross Research

Can you just talk a little bit about how currency did benefit you in the first half of last year as obviously the dollar was weakening? And perhaps just to make this a lot easier for everyone if you guys would be willing at some point to start breaking out what your belief is in terms of currency benefit like a number of your competitors do? That would be really helpful.

John W. Gamble, Jr.

In terms of going backwards and trying to give specific numbers regarding currency benefit in the period, we’re just not going to do that right now but we understand your request. But, at this point no I’m not going to go back and recap benefits in prior periods.

Operator

Lexmark will have no comment on this first quarter results, first quarter guidance or restructuring until its earnings announcement scheduled for Tuesday, January 27, 2009. However, you may access the replay of this call available by calling 1-800-642-1687, outside the US by calling 706-645-9291 using access code 80631998. This telephone replay of the conference call will be available through January 20, 2009. That does conclude today’s teleconference. You may disconnect your line at this time and have a wonderful day.

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