Xerox Holdings Corporation: SMB Expansion And Software Growth Key To Company Success Into 2022

Summary

• Turning XFS into a global business payment platform will help Xerox turn around its fortunes into 2022.
• Slow procession back to the office due to Covid-19 may make XRX not to actualize the $500 million free cash flow into the year.
• A grasp of the Canadian SMB market is a key step to expanding the AI/virtual services growth post-Fuji-Xerox.
• Separating XFS and other IoT software solutions will help Xerox to drive revenue and expand in the long run.

Photo by A stockphoto/iStock via Getty Images

Thesis

Xerox Holdings Corporation (NASDAQ:XRX), the global print and digitization powerhouse, plans to return to growth in 2022 by offering differentiated opportunities to small and mid-sized businesses ("SMBs"). While focusing on cash flow and returns to capital, the company intends to invigorate its innovation engine.

In this regard, investors can look up to Xerox's stand-alone investment into XFS, the decision to separate with Fujifilm and upgrade through partnerships that will steer revenue growth post-2021.

Xerox Holdings Corporation has gained 5.13% year-to-date as of April 26, to stand at $24.38. The stock lost 2.75% after announcing the Q1 2021 results that saw quarterly revenues drop 11.69% into the second quarter of the year. In terms of annual analysis, revenues were down 8.1% YoY at $1.71 billion with the free cash flow at -33.33%. Positive first-quarter results were dependent on growing equipment sales as workers returned to offices owing to the accelerated distribution of vaccines globally from Q1 2021.

Stand-alone XFS businesses

The plan to make Xerox Financial System (XFS) not only a global payment system but a separate system for Xerox is a strategic move for the company. It will work to expand the customer base and improve revenue collection. As a separate business, it will have a processing platform to offer competitive solutions to all departments. For example, NCR Corporation (NCR) uses the CxBanking software as its payment suite to help other service providers of payment services and merchants to complete transactions.

XFS will help customers buy new Xerox technology and help improve equipment sales for the company. Further, as an integrated customized payment system, it will help clients manage their cash flow. This payment system will offer customers leasing options with the growth strategy looking to expand beyond print servicers to other IT systems and software.

In Q1 2021, customers through XFS were able to lease 700,000 equipment with asset financing at $3.4 billion. The debt-to-equity ratio of the finance assets stood at 7:1 into Q2 2021, XFS debt support being $2.9 billion ($2.23 billion from unsecured debts and about $670 million from securitization).

Xerox has managed to serve more than 150,000 customers in different portfolios and geographies through XFS with its annual rate of loss (in its portfolio) below 1.5%. The company has a total debt value of $4.35 billion as of Q1 2021 and total liabilities at $8.63 billion. Therefore, the main strategy for XRX will be how to increase securitization. Further, the company has to improve on its debt cost. As of Q4, 2020 XFX debt stood at $3.0 billion, with the support lowering by $0.1 billion to $2.9 billion as of Q1 2021.

In collaboration with the original equipment manufacturers ("OEMs"), Xerox will be able to distinguish the seller's credit risk from the assets in the deployment of the XFS. Quarterly assessment of the sellers will help the printing solution provider in its securitization procedure.

Fuji-Xerox

Q1 2021 saw the termination of the Fuji-Xerox partnership and the formation of the Fujifilm Holdings Corporation. The name change is expected to take effect in Asia-Pacific countries where the two companies had formed subsidiaries. On its part, Fujifilm announced the initiation of two marketing campaigns to spearhead the company's transformed agenda; 1) The "Never Stop 2021" campaign to use technology services to boost social change and 2) The "Accelerate your business success" to show how innovations can stimulate entrepreneurial success.

A six-month analysis running into Q1 2021 shows that Xerox stock has gained +42.31% after Fujifilm confirmed the deal. It has also increased 38.22% since the start of Q2 2020.

Xerox 12-month share price analysis

Investors are worried that the rebranding of Fujifilm will affect Xerox Holdings’ footprints in the Asia-Pacific region losing market share in countries such as New Zealand and Japan. However, the corporate shift of Fuji Xerox will help the new brand to obtain value from technological innovations that began earlier.

Further, Xerox officially discontinued the Fujifilm businesses as indicated in its 10-K (2019) and the 10-Q/10-K (2020) fillings with the SEC. In Q1 2020, GAAP earnings per share reached $0.21 rising to $0.22 in Q1 2021. Shareholder returns also rose from $58 million in Q1 2020 to $216 million in Q1 2021 (+272.41%).

Xerox revenue trend as of Q1 2021

However, revenue has declined from $1.86 billion in 2020 to $1.71 billion in Q1 2021. Free cash flow has also dropped from $150 million in Q1 2020 to $100 million in Q1 2021.

Xerox transformation after Fujifilm exit

Xerox will need to initiate a vigorous revenue drive to reach not just the Asian market, but the global trend into Q2 2021. We are looking at an expansion of software offering and automation of robotic processes, especially in the small and mid-size business ("SMB") space. Turning the XFS into a global payment service will be a good place to start seeing its client base has expanded across America and Asia.

Xerox is also optimistic that it will be able to generate free cash flow to the tune of at least $500 million into the second quarter. But dependence on printing alone may not actualize this prospect seeing that there is still a slow procession back into offices as occasioned by Covid-19 restrictions. To achieve the $375 million growth margin into the second quarter, XRX will need to upgrade the software innovation business.

To help in the integration of the PARC AI technology, Xerox will team up with CareAR to offer a seamless digital interaction. We can all agree that the world is quickly shifting towards augmented reality ("AR") and customers will welcome efforts made towards smoothening software support. As a complement for print purchases, virtual aspects such as remote troubleshooting assistance are necessary to propel growth.

In managing content, the Alto artificial intelligence ("AI") analyzer will help XFS to drive data intelligence through its financial landscape across various geographies. Alto uses proprietary algorithms drafted in up to 53 different languages and 125 countries. With a client base of more than 150,000 across different geographies, XFS will find Alto Analytics as an essential element

Xerox Acquisition of Groupe CT

In its Q1 2021 earnings call, Xerox had indicated its need to incorporate personalization software such as DocuShare to help in the creation and management of content. On April 26, 2021, XRX announced the acquisition of Canadian document management firm, Groupe CT. This acquisition presents the second Canadian purchase after the company acquired Digitex in Q1 2020.

The Canadian market is central to the growth of Xerox especially with Digitex controlling the western market, while Groupe CT has the eastern market. These subsidiaries will help in automating workflows and using intelligence to offer virtual retail services in Northern America.

On a point of growth, Xerox is expanding into the infrastructure business by commercializing its IoT in bridges and road constructions. The company's adoption of clean technologies coupled with AI will help identify global construction solutions post-pandemic.

Bottom Line

Xerox Holdings' acquisitions at the moment are sustainable seeing that total debt stands at $4.35 billion with total cash ("MRQ") reserve of $2.38 billion. The return on assets (ttm) for the company is 1.96% against an ROE of 4.14%. Investors can be optimistic that the IT adjacencies to complement the print services will pay off seeing the EBITDA (ttm) into 2021 of $763 million. After replacing Fujifilm, Xerox appears to favor an expansion into the Northern American market with Canada forming a good foundation. We cannot rule out a return back to Asia especially since the market is enthusiastic about AI. Further, the integration of XFS and vital software content systems such as PARC as stand-alone sectors is integral in ensuring the company's success. For these reasons, a bullish bet is sufficient with XRX.

Analyst’s Disclosure: I am/we are long XRX. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.