Tuesday, April 26, 2011

Lexmark: Is It Finally Game Over?


Lexmark has missed the boat on many fronts; The office products industry has been consolidating rapidly due to oversupply of commodity products offered at incredibly low prices particularly in the low to medium segment.  Lexmark, which is an ex-IBM spin-off, has held its strong hold in relatively smaller verticals such as pharmacies, hotels etc. shielding itself from price wars and competition from larger rivals. 

Many larger rivals had approached Lexmark in past as a buyout candidate but the management with unreasonably high premium expectations combined with over-self confidence about the competitive sustainability of their business vis-à-vis HP/Canon/EDS, Xerox/ACS and Ricoh/IKON, refused friendly merger proposals.
In our opinion, Lexmark stands no chance of ever getting back to its heydays in the early to mid 2000s. I would even go as far as questioning the viability of their financial model as an independent vendor.

Lexmark simply does not have deep financial pockets, secured customer access in new markets particularly in non-US and emerging economies, a credible footprint of managed print services capabilities and captive channels of distribution. Unfortunately, given their reputation for passing on opportunities for merger combinations in the past, they may not even have any prospects for a friendly take-over anymore.

Despite management’s claims that this is a “tactical and not a strategic issue”, we would not buy the stock at this time. Accordingly shares of Lexmark (LXK) were falling 15.5%, to a recent $32.36 in midday trading, after the printer maker posted disappointing first quarter earnings before the market’s open this morning.

According to Down Jones News, The company’s first-quarter profit slid 13% on lower sales and higher costs, falling short of the company's expectations and prompting shares to erase their 2011 gains. The Lexington, Ky., company also said it has a number of partners that were affected by last month's earthquake and tsunami in Japan. The printer maker anticipates a minor impact to hardware availability for the remainder of the year. 

Lexmark--as with other technology companies, including rival Xerox Corp. (XRX)--had been benefiting from businesses spending on technology upgrades after delaying these purchases during the economic downturn. But the company attributed its disappointing quarterly results and outlook primarily to increasing restructuring costs.
"The first quarter of 2011 was one with both near-term marketplace and transitional challenges," Lexmark President and Chief Executive Paul Rooke said on a conference call with analysts. 

Lexmark said it suffered from increased nonmanufacturing costs. The company has been consolidating how it manages inventory in North America and then delivers it to customers. But it's been plagued by some transition issues that have resulted in higher-than-expected costs. 
The company said it will have to incur additional costs in the second quarter related to these transition issues but expects the challenges to be completely resolved in the second half of the year. 

"We believe this is more of a temporary issue, not a strategic issue," Rooke said in an interview. The news prompted shares to recently drop 16.7% to $31.88. The stock had been up 10% this year prior to Tuesday's trading.

Lexmark projected second-quarter earnings of $1 to $1.10 a share, below analysts' latest average estimate of $1.15. The company sees revenue growth dropping by a low single-digit percent from the $1.04 billion reported a year earlier. Analysts expected a small increase to $1.05 billion. 

The company said it believes the devastating events in Japan last month will have a minor impact to hardware availability in the second quarter. For the remainder of the year, there will be "some limited but manageable" hardware issues, which should be resolved by the end of the year, the company said. 

"We are incurring incremental product and engineering costs as we resolve supply issues and these costs will be reflected in our guidance," Gamble said. 
Lexmark reported earnings of $83.3 million, or $1.04 a share, down from $95.3 million, or $1.20 a share, a year earlier. Excluding restructuring- and acquisition-related charges, profit fell to $1.14 a share from $1.35. Revenue slipped 0.8% to $1.03 billion. 

Standard & Poor's Equity Research slashed its investment rating on Lexmark to hold from buy, noting lower printer hardware sales mixed with a flat performance from supplies hindered results.

The disappointing segments overshadowed growth among software sales. S&P slashed its price target to $34 from $45.  Lexmark had seen gains from its $280 million acquisition of Perceptive Software last May, which allows Lexmark to offer a software platform as a core component of its existing services.

The company in February projected earnings of $1.18 to $1.28 a share, beating analysts' earnings forecasts at the time, on revenue of $1.05 billion. 
Imaging solutions and services revenue, which makes up the bulk of the total, slid 3% year on year, and hardware revenue slipped 12%. Gross margin widened to 37.6% from 36.9%. 

Rooke said the best way to analyze the 12% drop in hardware revenue is to differentiate between core and legacy products. Sales of laser and business inkjets rose from a year earlier, but the company continued to struggle with declining sales of its legacy, low-end consumer inkjets. The company also missed some channel sales due to aggressive competitor promotions, many of which it declined to compete with. 

"We saw very encouraging signs in our core strategic areas, which were masked by our legacy, consumer business that we're exiting," Rooke said.

1 comment:

Nicholas said...

I wouldn't count them out just yet. From the POV of sales info they are not going anywhere. Lexmark has roughly 70% market share in many verts. Not to mention their large national accounts with the likes of walmart, lowes, depot, and others. Picking up Perceptive Software will enable large gains into their abilities to hit clouds and such from the box onthe mfp side combined with their solutions (ability to customize) they are set.