Q4 2022 Xerox Holdings Corp Earnings Call
Speaker 1: Welcome to the Xerox Holdings Corporation's fourth quarter and 2022 earnings release conference call. After the presentation, there will be a question and answer session. To ask a question, please ask a question.
Speaker 2: to the effective shutdown of our operations in those markets.
Speaker 3: These and the after effects of the pandemic fueled an unprecedented level of inflation and currency dislocation.
Speaker 4: and central bank efforts to control inflation drove historic increases in interest rates.
Speaker 5: Finally.
Speaker 6: For Xerox, last year we unexpectedly lost our dear friend and leader, John Byzantine. I am proud to report that we managed through these challenges, taking significant corrective actions to match supply with demand and lower costs to offset inflationary headwinds.
Speaker 7: For the year, revenue of $7.1 billion increased 1% in actual currency and 4.8% in constant currency.
Speaker 8: our first year of constant currency revenue growth since our separation from conduit.
Speaker 9: However, growth in revenues and cost savings were more than offset by broad-based inflationary pressure.
Speaker 10: resulting in a decline in operating profits and free cash flow.
Speaker 11: Still, we delivered revenue and free cash flow above the revised guidance levels given last quarter.
Speaker 12: Throughout the year, our company and our people remain resilient and never lost focus on what is most important, providing value to our clients.
Speaker 13: I couldn't be more proud of the effort our team expended in the fourth quarter to deliver the highest level of quarterly equipment revenue since 2019, an accomplishment that was instrumental in driving full year revenue and free cash flow above our revised guidance.
Speaker 14: We ended the year with momentum in our values and business performance.
Speaker 15: Sustainability has long been a top priority for Xerox.
Speaker 16: and our sustainability efforts are being recognized in the marketplace.
Speaker 17: Xerox was recently named one of the global 100 most sustainable corporations in the world by corporate knights and received an A rating from the Climate Disclosure Project for Climate Transparencies.
Speaker 18: one of the leading evaluators of corporate environmental reporting efforts.
Speaker 19: Importantly, the progress we have made to improve the sustainability of our offerings is driving improvement in our clients' own sustainability goals.
Speaker 20: And our ability to help clients manage their sustainability goals is increasingly a competitive differentiator in the marketplace.
Speaker 21: Turning to our performance, in print and managed print services, equipment revenue grew at the highest rate since before the pandemic.
Speaker 22: due to improved product supply.
Speaker 23: Consumables, such as supplies and paper, grew again this quarter. And contractual print services, our largest, most stable source of revenue, grew low single digits in constant currency.
Speaker 24: including contributions from recently acquired Go Inspire.
Speaker 25: In Q1, we plan to launch a series of customer experience applications to improve the setup, security, and productivity of equipment geared towards small and home office users.
Speaker 26: Included in these plans is the launch of CarryR instruct, which provides augmented reality support for our A4 devices using digital twin technology.
Speaker 27: IT Services grew revenue double digits for the quarter and the year.
Speaker 28: including contributions from Powerland in Canada.
Speaker 29: Enabling that growth is the breadth of enterprise-class services we bring to mid-market clients.
Speaker 30: Xerox Automation, our robotics process automation solutions, once again grew signings meaningfully on a quarter over quarter basis.
Speaker 31: The automation group wins business by understanding at a deep level our client's business, industry, and needs, and then uses that knowledge to drive customer success through customized solutions.
Speaker 32: Increasingly, our team is integrating automation with other leading technologies, such as object content recognition and machine learning to drive productivity enhancements.
As an example, this quarter our automation group won new business from an existing UK client by developing an end-to-end document workflow solution that combines multiple advanced technologies to extract, classify, and process digitized information.
from scanned documents.
saving the client significant time and money.
Digital Services signings also grew double digits in the quarter and for the full year, and our offerings are resonating in the marketplace.
In December , Xerox was named a Top Accounts Payable Solutions Provider by CFO Tech Outlook in recognition of our ability to assist clients with digital transformation of their payables process.
Our AP Workflow Optimization solution delivers a reduction in processing costs and improvement in working capital for our clients and is just one of many digital services we offer.
In 2023, we will begin offering our suite of digital services to the mid-market, further augmenting the types of enterprise class services and solution sets we can bring to mid-market clients.
Fiddle grew originations this quarter more than 40% for both captive and non-captive leases.
capping off a year where total originations grew high single digits, including double-digit growth in non-captive leases.
We recently announced an innovative funding solution for Fiddle, enabling a strategic shift in its business model to focus on being an asset-light, best-in-class provider of leasing services and solutions.
This funding agreement also allows for growth in Fiddle's portfolio without the use of Xerox Balance Sheet.
Xavier will explain this funding solution in more detail.
I will now touch on our priorities for 2023.
Amid all the volatility and uncertainty in the marketplace, we at Xerox are focused on what we can control to drive growth in profits and shareholder value.
Our three main priorities this year are customer success, profitability, and shareholder returns.
Starting with customer success.
We can deliver more value to our clients by making it easier to do business with Xerox. I have spent a lot of time since becoming Xerox CEO meeting with our clients and partners to discuss the ways we can extend our relationships through additional value-added digital services.
and all too often I have heard I didn't know Xerox could do that.
To leverage this opportunity and drive revenue growth, we are taking a more holistic, client-centric approach to improving customer outcomes by delivering essential products and services that are closely aligned with our clients' needs.
The current macro backdrop plays to our advantage in this regard, as our IT and digital services are designed to increase productivity by reducing the cost and complexity associated with clients' technology and document workflows.
Further, it is apparent from our market research that Xerox has a clear path to win more business within the IT and digital service markets.
because of the trust we have built over time providing value to our clients.
We are confident our brand and client relationships can be leveraged to expand our penetration of wallet share, and we are confident in our ability to expand client TAM over time as we invest in and develop
new types of digital services for a hybrid workplace and distributed workforce.
An example of our ability to increase wallet share is the recent renewal and addition of services at a large telecom operator in Canada.
This client, like many, is adapting to the complexities associated with a hybrid workplace.
Leveraging our deep relationships across the company, we took a holistic approach to tailoring a set of print and digital services that will help them in the hybrid transition and improve overall productivity.
We also included advanced analytics for print management, digital mail, to bring speed, security, and cost savings to their mail and carrier operations, and advanced software solutions to streamline and enhance their production print operations.
By leveraging our relationships and portfolio of offerings, we are able to drive customer success while growing our annual contract value by double digit rate.
Another priority for 2023 is the continued focus on profitability.
Since 2018, Project Own It has been a cornerstone of our transformation efforts and a focal point for the optimization of our cost base.
We reached our 2022 targeted gross cost savings of $450 million, bringing total savings since 2018 to more than $2 billion.
Just as important as these savings, however, is the management operating system.
the set of disciplines around measuring and monitoring business processes.
that was instilled in our organizational culture by project owning.
We do not plan to provide annual savings targets going forward, but the behaviors engendered by the program will aid in our continuous effort to implement a more flexible cost-based and operating model.
Just as we will make it easier to do business with Xerox, we will make it easier to do business within Xerox by investing in processes that drive incremental organizational efficiencies and enable the types of collaboration required to offer holistic solutions to our clients.
The current macroeconomic environment necessitates a greater focus and scrutiny on the profitability about offerings and operating units.
Accordingly, we have become more disciplined about where and how we do business, placing emphasis on metrics such as return on investment and the generation of profit, not just revenue dollars.
This discipline has already been applied to our investments in R&D.
In the past few months, we have taken actions to lower and in some cases redirect investments in R&D towards projects with more certain and near-term returns.
We exited our joint venture, Eloqu, and paid growth investments in 3D printed.
Navdi and Mojave, two successful businesses incubated at Park, were spun out, allowing these businesses the freedom and flexibility to attract external growth capital at their own pace.
To be clear, investment and innovation remain a priority at Xerox, but will be more focused on projects and partnerships that augment our existing strengths and opportunities within print, IT, and digital services.
Finally, we will continue to prioritize shareholder returns.
A greater focus on customer success and profitability will naturally result in higher profits, but we also remain laser focused on cash flow generation.
Despite a strong finish to the year, free cash flow in 2022 fell below our initial expectations.
2022 was an anomaly, not a trend.
Beyond expected improvements in profitability for 2023.
We have already taken steps to improve our capacity to generate more free cash flow per profit dollar, such as FIDL's Receivable Funding Agreement.
We also remain focused on improving working capital and expect improvements in inventory efficiency in 2023 as supply chain conditions normalize.
Each of these priorities, customer success, profitability, and shareholder returns will remain cornerstones of our long-term strategic plan.
And each of these priorities are reflected in our full year guidance, which calls for stable revenues amid a challenging and volatile economic environment and growth in adjusted operating income margin and free cash flow, the details of which Xavier will provide.
To recap.
To recap, 2022 was a challenging year.
one that tested the resolve of our employees and the strength of our business model.
The lessons learned from overcoming these challenges will serve us well as we execute on our strategic priorities for the year. And these priorities will ultimately form the foundation of a long-term plan for delivering sustainable growth in profits.
I will now hand over to Xavier.
Thank you, Steve, and good morning, everyone.
As Steve mentioned, 2022 was a challenging year on a number of fronts.
Revenue and profitability were impacted by surging inflation, supply chain challenges, currency disruption, a war in Ukraine, higher interest rate and, as a consequence, an uncertain and unpredictable macroeconomic environment.
Uncoergingly, we ended the year stronger, with full year revenue exceeding our initial guidance of at least 7.1 billion, despite more than 250 million of currency headwinds, and more than 90 million headwinds from halting sales to Russia.
Adjusting operating margin improves secondarily each quarter this year on group 440 basis point year-over-year in Q4 due in large part to improved product availability.
Full year of Free Cash Flow exceeded our revised guidance and we put in place a funding solution at FITOL that will improve future of Free Cash Flow generation while supporting FITOL gross.
Q4 revenue grew in actual and constant currency for the first time since quarter 2 of 2021 due to resilient demand for our product and services on
Revenue growth of 9.2% at actual currency was negatively impacted by 470 basis points of currency Edwin, notably the euro on British part.
Equipment revenue grew significantly, reaching its highest level since Q4 of 2019 due to an improvement in supply chain conditions.
As a result, our backlog, including equipment on IT hardware, declined 43% sequentially to 246 million.
Our backlog remains elevated but it's healthy.
We expect backlog to decline through the first half of the year as supply chain conditions further normalize.
Post-sell from new group meet single digit in concern currency for the fourth consecutive quarter pract towards was dotted with additional layout with the property silence.
Growth this quarter was driven by IT services, which includes the acquisition of power land unconsumable. Is improving our diverse population iniselybarught to hold and
The residency of Contractual Print Services Revenue was observed again this quarter, aided by recent pricing action on the acquisition of Go Inspire.
Turning to profitability.
Profit were higher year over year, driven mainly by better equipment sales, improved product on geography mix and lower logistic cost.
partially offset by higher bad debt expense.
We expect profitability to improve further in 2023 as we realize the benefit of price on cost action taken in 2022, further improvement in product availability, lower logistic cost and additional operating efficiency.
Gross margin improves 190 basis points over the prior year quarter.
mainly driven by a favorable shift in product and geography mix, lower supply chain related costs, and benefits associated with price and cost actions taken throughout the year, partially offset by ongoing product cut increases on the effect of recent acquisitions.
OPEX excluded bad debt expense was lower year-over-year due to our focus on improved return on R&D investment on
Adjusted operating margin of 9.2% increased 440 basis points year over year. Driven by 300 basis points of supply chain related cost improvement, 130 basis points from cost reduction action, and 100 basis points from price increase on currency.
Partially offsetting this benefit were higher bad debt expense associated with the release of reserves in the prior year.
Other expense net were 7 million lower year-over-year due to a 39 million benefit from sets of non-core business assets partially offset by an increase in non- service retirement related costs on higher currency losses due to currency
Fourth quarter adjusted tax rate was 21.8% compared to minus 8.8% last year.
The increase was largely due to prior tax benefits for changes in the re-measurement of uncertain tax positions.
A GSC DPS of 89 cents in the first quarter was 55 cents higher than the prior year driven by higher adjusted operating income, sales of non-core assets and a lower share count partially offset by a higher tax rate.
GAAP earnings per share of $0.74 was $4.71 higher mainly due to a non-cash goodwill impairment charge of $715
their share in the prior year.
Let me now review revenue cash flow on profitability in more detail.
Turning to revenue, equipment sales of 554 million in Q4 grew 49% year-over-year in constant currency or 44% in actual currency.
ROTH was driven by better availability of product across all categories and regions particularly for higher margin
The second short growth in equipment review mirror the decline in equipment backlog revealing resilient older activity amid an uncertain
We continue to see particular strengths in demand for our A3 office machines.
Equipment revenue growth outpaces installation this quarter due to favorable product mix on the benefit of recent pricing actions.
Installation growth was stronger for higher margin mid-range products on color A4 multi-function equipment.
Color A4 outperforms black and white due to a stop in shipment of A4 mono product to Russia on supply shortage. Warning outdoor
For self-review of 1.39 billion grew 4.2% in constant currency year-over-year and declined 0.4% in actual currency.
Processed growth in constant currency was driven by IT services, including benefits associated with the recent acquisition of power land in Canada on growth in consumables.
Contractual print services revenue was resilient on GOU, low single digit year-over-year in concerned currency, reflecting benefit of recent pricing action on the acquisition of GOU Inspire.
Notably, this important component of our annual T revenue grew modestly in 2022 despite a slower than expected return of employees to offices on ongoing macroeconomic concern.
We believe we have now reached a
Rows in post sales revenue at constant currency was partially offset by lower financing revenue reflecting a lower
Geographically, both regions grew in constant currency.
The Americas region grows faster than EMEA, mainly due to better product availability on mix as well as stronger growth in consumable cells.
Let's now review cash flow.
Free cash flow was 168 million in Q4, lower year by year by 14 million.
Operating cash flow was 186 million in Q4 compared to 198 million in the prior year. Working capital was a source of cash of 73 million this quarter, 120 million lower than the prior year, driven by higher account receivable on the use of cash to
activity on feeder growth strategy.
Positively offsetting this effect were higher operating income in the current quarter and favorable timing of
Going forward, we expect FITOL Receivable Funding Agreement to result in finance receivables being a source of cash as new originations are increasingly funded by third-party financing partners while collection runoff of
Investing activities were a source of cash of 17 million compared to a use of cash of 31 million in the prior year, due in large part to an asset sale in the current quarter, partially offset by slightly higher capex, which mainly supports our investment in IT infrastructure.
Financing activities consume 67 million of cash this quarter, which is comprised of dividend payments on the early payment of a portion of our 2023 notes, netted by proceeds from finance receivable security decisions.
During the quarter we pay dividends totaling 43 million and did not
Turning to profitability.
Quarter 4 adjusted operating profit margin grew substantially on a sequential year-over-year basis for the reason previously discussed.
Importantly, margin expanded secondarily each quarter this year as we took corrective measures to offset an unprecedented level of inflationary pressure on ongoing supply chain challenges.
We successfully implemented price increases across our portfolio of products and services and took action to rein in costs, most notably across areas of investment where the expected payback variant extends across multiple years or was less certain.
Many of these actions were reflected in the achievement of our targeted project on its savings of $415 million.
As Steve noted, we will not be providing a targeted savings amount for 2023, but the principle of continuous improvement on operating efficiency instilled by Project OWNIT will play an important role in driving expected margin improvement in 2023 and beyond.
Turning to segment, in Q4, FITOL finance assets were 3.3 billion.
7% sequentially in actual currency.
Petal origination volume grew more than 40% year over year.
both non-captive channel origination which includes third-party dealers and non-Xerox vendors and captive product origination room more than 40% a function of growth in new dealer relationship on third-party equipment origination as well as higher Xerox equipment for you
Fetal revenue declined 9.6% in Q4 mainly due to a reduction in operating lease revenue which reflects lower
Segment profit was minus 5 million, down 30 million year-over-year due to a reserve release of 12 million in the prior year quarter, lower net financing profit, higher inter-segment commission associated with higher Xerox origination, higher bad debt expenses and strategic
Segment margin was negative 3.4% compared to positive 15.2%
Over time, we expect current unfettered receivable funding solutions to result in lower financing revenue and profit for fetal, which will be partially offset by growth in fee-based commissions on servicing revenue.
However, in 2023 we do not expect a material change in fetal revenue or profit as lower finance revenue will be offset by higher upfront commission on lower bad debt expense.
Print on other review rule 10.2% in Q4
print and other segment profit tripled over the prior year quarter, resulting in the 640 basis point expansion in segment profit margin year-over-year driven by improved product supplies on mix and the benefit of price on cost action taken throughout the year.
I'd like to spend some time now to discuss how FITA recently's receivable funding arrangement is expecting to affect free cash flow for the year.
The agreement dropped on FeetalSign with an affiliate of HBS investment partner contemplates sales of future lease receivable of around 600 million in 2023.
This amount will have otherwise been funded by Xerox so this reduction in our funding obligation will result in the direct benefit to operating cash flow.
However, this benefit is expected to be partially offset by growth in our least receivable portfolio.
When considering the year-over-year change in free cash flow, the net receivable funding benefit will be additive to free cash flow.
Additional agreements covering US- non-direct and foreign receivables are not included in guidance but would further increase expected free cash flow for the
Receivable funding agreements are expected to contribute to free cash flow for multiple years but at a decreasing level due to the timing of prior lease receivable run-off.
Turning to capital structure, we ended Q4 with 1.1 billion of cash, cash equivalent on restricted cash.
$2.9 billion of the $3.7 billion of our outstanding debt is allocated to our support filter lease portfolio. The remaining debt of around $800 million is attributable to the core business.
That consists of senior unsecured bonds and finance asset liquidization.
We have a balanced bond maturity ladder over the next few years and expect to repay the remaining 300 million of debt mattering this year in March 2023.
Finally, I will address guidance.
We expect revenue to be flat to down, low single digit in constant currency in
As noted earlier, the amount of our portfolio of products and services remains resilient, particularly for our most material and profitable A3 office devices.
Contractual print services review, our largest contributor to post sales review, is expected to remain steady.
While we have not yet experienced a meaningful put-back in demand for our products or services due to macroeconomic pressures, our revenue outlook does account for potential deterioration in macroeconomic conditions.
If economic conditions were to degrade further, we believe the most likely effect would be delays in equipment purchases or service implementations, not cancellation or order of reduction on difficulty implementing future price increases.
Offsetting this risk are the annuity-like nature of our post-sale business on the counter-cyclicality of many of our IT and digital services for which demand is expected to increase even if IT budgets are rush in real life.
This year, we are re-instituting guidance for adjusted operating income margin.
For the year, we expect adjusted operating income margin to be at least 4.7%, an 80 basis point increase over 2022 level, driven by recent enacted unexpected price on cost action as well as lower logistic costs.
We expect to generate at least 500 million of free cash flow, including the benefit of FITOR, Receivable Funding Solution.
Excluding the net benefit of the receivable funding solution, we expect free cash flow to be in the range of 90 to
Finally, our policy of returning at least 50% of free cash flow to share holders remains unashined.
While we do not provide quarterly guidance, I want to provide some color on the expected quarterly cadence of our
First, on revenue, equipment sales growth is expected to be higher in the first half due to easier product supplies compared. And at this time, we do not expect a significant deviation in the quarterly growth rate of post- DEM.
For adjusted operating margin, we expect sequential improvement in margin after quarter 1 on year-over-year for increasing margin in quarter 1 to quarter 3.
The sequential improvement reflects normal seasonality, the clearing of the remaining backlog on the cumulative effect of lower R&D spend, which is expected to benefit margin in the second half related to the first half.
Finally, free cash flow.
The cash flow benefits of the receivable funding arrangement are expected to be realized throughout the year at roughly the same cadence as equipment sales
We will now open the line for Q&A.
Certainly. Once again, ladies and gentlemen, if you have a question at this time, please press star 1-1 on your telephone. One moment for our first question.
And our first question comes from the line of Ananda Baruha from Loop Capital. Your question, please.
Hey, good morning guys. Thanks for taking the questions and Happy New Year and for all the context, I guess.
I guess just starting right there Xavier with your with your comments about
about being kind of risk of the guidance and what you're seeing from customers. Can you give us any context about sort of what you're hearing and seeing from enterprise customers? Sort of folks have started to see some slowing in enterprise.
It doesn't seem like you guys are meaningfully seeing it yet. And so, you did plan, I think you pointed the equipment sales out just now. It's kind of like the primary risk to the forecast that you see. So just some context there and then I have a quick follow up after that. Thanks.
Hi Anand. Good morning. Happy New Year to you as well. So yes, so what we are seeing here from a demand point of view from our customer enterprise on the SMB customer, the demand is still strong. On the Q4, as you have noticed, it has been a very good quarter for us. It was driven by the ability to reduce the
look at the post sales revenue. Post sales is made of contracted activities so some of this is print related some of it is not print related.
And when we look at our forecast, we want to be realistic on balance in the way we approach it. Realistic because the macro environment is an environment which is bringing uncertainty. But at the same time, we are confident on balance when we look at the demand.
not only for the equipment side but also for the solution side. I'm sure Steve will be able to comment on what the offerings are currently driving this demand.
Yeah, and under Steve, so one of the things that we're seeing if you think about the macro environment with inflation with the ability to be able to hire cost increases all of our customers are dealing with those macro trends and so as we think about customer success and really driving solutions specific to driving productivity for our customers.
We think we have a great opportunity to expand inside of the existing customer base that we're in today. Simple example, if you think about school districts and their challenge with administrators, teachers, having more, doing more with less, how do we drive more productivity in workflow? Things like how equipment can do language translation, how equipment can grade papers, how equipment can...
certainly in the small and mid-market space.
Got it. That's super interesting. Okay, great. I'll leave it there. I appreciate it. Thanks, guys.
Thank you. One moment for our next question.
And our next question.
comes to the line of Eric Woodring from Morgan Stanley . Your question, please.
Hey guys, good morning. Congrats on the really strong results in the December quarter. Steve, I guess I want to ask you a bigger picture question and that is just, as we enter 2023, you know, it feels like based upon our conversations that most enterprises and small businesses have kind of settled down into their
hybrid work setup, whatever that may be. I'm just curious kind of what you've learned now as we've seen you know kind of hybrid work and work from home normalized. What have you seen in terms of how enterprises and SMBs are consuming Xerox in this new world? What's maybe surprising to you? What maybe came that's a bit unexpected to you? We'd love to just get your feedback on that and then
How do you drive productivity? And so what we're seeing is a great opportunity for a couple of things. One, to actually play in that space, right? We have been incredibly innovative, innovative through the years around how we drive workplace productivity. This is just a new area for us in terms of workplaces, wherever an individual is. And so,
we see an opportunity to do a couple of things. One, with our products and solutions, workflow with our cloud solutions, AI solutions, what we think we can do with augmented reality, we can actually help customers drive productivity. But more importantly, drive insight to the data that they have inside of those workflows.
We believe there's a great opportunity for us to play in that space and really be the provider of choice to help customers in this new world, wherever their employees are, and drive productivity and drive insight to data. So that's the first thing. Second, as you think about the macro headwinds that customers are facing, as I talked a little bit earlier to Ananda...
specifically around customer success. And so we think we can play in this area, and we have a great opportunity to expand our wild share inside of customer accounts there.
Okay, super, that's super helpful. Thank you. And then, Xavier, maybe a question for you is, you know, really nice to see some margin expansion into 2023. Can you help us, two-part question, can you help us maybe better understand the trade-off between 2020 and 2020?
gross margins and OPEX in 2023, how to think about each of those. And then, you know, what would be some of the more influential factors that you would have to see in 2023 to help you, you know, maybe get operating margins closer to, for example, 2020 or 2021 levels. And that's it for me. Thanks.
Thanks Eric. As you have noticed on that we commented it in quarter three. Q4 was an important quarter for us. You have noticed that we have been able to drive a margin up on the Q4. Q4 was a strong quarter driving the overall margin for the company and for the year up there.
So the ingredients that make it work and the ingredients that will be required to achieve the plan that we have in 2023 are quite simple. Number one is things that we've already put in place. We've put in place price increases in order to face some of the cost inflation but also to rebuild the margin here.
activity-based is contractual which means that when we end up to pricing price and it lasts for the year and for the year after and the year after. So the second point is the improvement on supply chain. You know that the 2021 or 2022 have been I would say literally crazy from a supply chain point of view and I say maybe the cost of supply chain on the uncertainty around this year.
container shipment which will help you know to improve the gross margin up. Finally is the way we will invest. The last point is quite important we commented in our earnings that we are putting in place a flexible cost base but in flexibility just means that we will be very selective in the way we make the investment.
and in an uncertain macro environment our responsibility is to ensure that we prioritize for term high yield return investment versus long term investment.
So that's a key component. Obviously we will have to offset some of the headwinds that could exist. Technically, you know that we have the benefit of the Fuji XeroX royalty. We still have some inflation costs there. But that's the reason why it's back to the three main components that I mentioned to you. Price, supply chain, investment.
We are confident in our ability in 2023 to expand our operating margin. Thank you guys!
2023 to expand our operating margin. Awesome, thank you guys. Thank you.
Thank you one moment for our next question.
And our next question comes from the line of Sumeet Chatterjee from JP Morgan. Your question, please.
Hi, good morning. This is Angela Jin on for Sonic Chatterjee. Congrats on the strong quarter. So a question about backlog. So I saw that backlog came down about 183 million quarter on quarter and equipment sales are up about 164 million quarter on quarter. So can you just walk us through the gap there?
Yes, so good morning Angela. So the backlog here, I would say it's a good story because you know this backlog was building up. We started to see a decrease of the backlog in quarter three and we were pleased to be able to get some of these backlogs reducing and to have the 43 percent decline, the 43 percent sorry, of a decline in quarter four. This is mainly related to the high profit equipment that we have what we call A3 equipment and this is related to supply chain condition improving and also the logistic agility and logistic speed you know coming back to a normal level there. So that was a good story, that was a good story because it helped the mix of products that we are selling bring it back to a more normalized mix.
Second point, it helped the overall gross margin improvement both on the equipment side, but also some of these products are driving good post sales revenue on profit here. So that's regarding Q4. When we look at the order pattern that we are seeing here, we still see quite a very strong demand.
now. What we're expecting is to flush his backlog during the first half of the year and to give you a number of the normalized backlog. If you look at the backlog that we have today versus a normalized backlog we are currently at two and a half times
We're expecting this to be clean or flush in quarter one with some really impacting quarter two. Assuming supply chain or manufacturing stays good for the rest of the year, you should be in a BAU mode for the second half of the year. Got it. That's really helpful. And then for my follow-up.
very meaningfully ramp originations in 2023.
So if I go back to, let's start with 2022. In 2022 we say three categories of nanomality. Nanomality for two reasons. One anomaly is related specifically to the reduced profitability that we have in 2022. The second point, I call it good cholesterol, bad cholesterol. The good cholesterol was that fritol is growing.
earlier comment there by saying we expect in 2023 you know free cash flow without fetal movement here normalized free cash flow to be around 90 to 100% of adjusted operating profit so that's a earlier indication of what it could be then on top of that you will have the benefit of what we call the forward flow agreement
you should look at this agreement as being simply the facts that we manage to get a great agreement with the next level party who will fund the forward flow by forward flow you should look at this by saying this is like the future receivable from FITOL or future radiation of FITOL
account and with a chart in the text that explain it as an illustration you have to take into account that FITO is still growing at the same time so this effect the 600 million wave one that we have signed in a quarter four is offset by the fact that FITO is growing so when you look at our guidance of 500
squeeze in one last quick one. So equipment margins are up to 33 percent, so drove a lot of upside in this quarter. It seems like the mix is more favorable than usual with A3 units being shift and strong US sales. So what is the sustainable level of equipment margin going forward?
So, equipment margin, when I look at the pattern we have had during the year, I'm not stopping only to quarter for, I look at how equipment margin evolved across the year. Under your right, mix size of key driver, but one of the key driver was as well our ability to pass price increases to customers.
and to keep this important margin for us, I would say protected or intact in the way we were dealing on pricing with customers. This is what we have done and we believe that with the prices that we have enacted on the impact it will have in 2023, we will be able to see
via our IR team. I give more guidance around you know how we look at the
Okay, thank you.
Thank you. Thank you, Angela.
Thank you one moment for our next question.
And our next question comes from the line of Shannon Cross from Credit Suisse. Your question, please.
Thank you very much for taking my question. I'm wondering about balancing cash requirements. As you're shifting, obviously your model on the financing side, but also as the business itself changes more to solutions and services.
How should we think about what level of inventory over time? How should we think about what level of inventory over time?
maybe become a little bit more of an inventory light model as you move more away from just equipment. And then also, you know, just in terms of core cash needed to run the business, because I'm just trying to figure out what your excess cash is, you know, how you think about, you know, where maybe you're going to be exiting 20, I guess 23, we're already in 23. Thanks.
So hi Shannon, let's go back to our just provided you know some articulation so I will you know maybe repeat or clarify some of the points here. So you have you can look at our guidance for pre-cash flow for next year in two ways. Let me know if there's tweeted or something about that term.ENS quests for March 20, and I appreciate all of your support. Thank you so much for helping us out, Obed minute for your courage and financial bit
I would say business without fatal on the business with fatal. So business without fatal as we mentioned it 2022 was an anomaly in the way you know a free cash flow came specifically due to the margin pressure and the erosion of margin specifically during the first half of the year.
Now, if you look at the normalize on what we have put on the guided for normalize free cash flow without FITEL for next year, you can count on around 90% to 100% of adjusting operating profit. This is in number between 300 to 300 on Saturday.
I wasn't asking about cash flow, I was asking about actual cash. So just to be clear, I understand the cash flow. I'm just saying what kind of, what level of cash do you need to run the business? And then, we get off of your balance sheet, because obviously you have to pay down some debt right now. But I'm wondering, if I think about your company right now, if you generate the 500 million.
with cashier so the quality is quite simple and we did not change it by the way. 50% of free cash flow return to shareholder. So first part will be by a dividend. As you know this, we have maintained our dividend on even during COVID-19 period. So we keep our $1 dividend.
And this will be one of the drivers on the way to drive the cash, to bring the cash back to shareholders. So if you take 50% out of 500, you are at 250. The dividend is in the range of 140, 150 million. The way the cash will come, the free cash flow will come during the year.
will be related to this funding agreement with FITA or it would be progressive. So we will provide you know comment or more information during the next quarter earnings on how we will potentially use and return this cash between shareholders and also we will invest for the business.
product like digital services but also all the automation offerings and the workflow automation that we are pushing to customers.
Okay, and then I guess my question is basically as you think about the debt maturities you have coming due, and obviously the near-term one will be paid with cash on hand, is your idea to de-lever the balance sheet over time because you are shrinking the fiddle business?
Or do you anticipate utilizing the cash that you generate from FIDL in other areas and keeping a higher level of leverage on your balance sheet going forward?
What we plan simply to do is to face our debt obligations. So we have a 300 million debt to pay in March. We are relying on the, we plan to pay it based on the cash generated by the business. We are not planning at that time to have like a highly or over leverage of the balance sheet.
And if you look at the debt ladder that we have in 2024, 2025, I would say quite clean. And we think that we'll be able to face this debt obligation. So I'm not specifically concerned about our ability to face debt and how debt will take a prevalence versus other type of investment we plan to do.
Okay, thank you. And then I guess just my last question is as you talk to customers and you look at some of these management services contracts that you have out there.
What is the discussion in terms of page volumes going forward, size of equipment? I think last quarter you talked about some customers sort of negotiating in lower page volumes. Is that continuing or as offices open up are things normalizing? Thank you. Good question, so what we see are currently on the...
showing that the pricing freeze that we are passing to customers are sticking. So the way we look at this line, what we call contracted print revenue line there, the way we look at this line from a revenue next year is like a flattish type of line, which is good because this is not like an accelerated decline. So we jump.
Okay, thank you.
Thank you. Thanks, Shannat. Thank you one moment for our final question.
And our final question today comes from the line of Jim Suba from Citi. Your question, please. Thank you. In your prepared comments, you mentioned about the Federal Reserve changing of interest rates and all that, and then I'll have a follow-up. But can you just kind of give us some outlook about what we kind of should be modeling or thinking about for interest expense because...
item.
Hi Jim, good morning. So the way to look at the interest rate and I'm speaking here about core debt. So first of all our core debt is mainly based on a fixed interest rate. So you know all the rate that we have for our debt maturing is not you know indexed.
coming in March 2023. We took the opportunity early in March and also in December to already pay down 300 and 350 million. We have two times 350, we have 300 left to do and we plan to do that there. So no concern on our ability to pay down cash. From an interest point of view, if you take just the interest chart that we have a dinner quarter for and you really walk that...
business will be reported. Maybe it gives me just the opportunity to reinforce one point on CITEL.
With the forward flow agreement that we have signed, the business model of CITEL is changing. CITEL is becoming now an asset-light servicing model for this business, specifically related to office-related or industry-related type of equipment.
What it does mean, it means that the ability for FITEL to grow outside of Xerox is now enabled and it is not done at the detriment of the free cash flow and potentially as you highlighted at the detriment of rate or our ability to leverage or to get the rate that could make FITEL competitive.
We signed this agreement with a strong partnership that helped us to support the growth of this business without having the impact on the free cash flow.
Okay, and then my quick follow up on page 12 of your earnings presentation where you talk about the effect on free cash flow of your receivable funding arrangement. I know this year is kind of the inaugural year of this agreement with your financing partners. You've beenrational if you do that. Well... Well well done.
and impact is a net positive net funding benefit to your 2023 cash flow. Long term, should they kind of equal out, meaning the growth and the receivables, should they kind of equal out or should they kind of always be a net funding benefit like we're seeing in the year 2023? So you're right, Jim. The way to look at it is over time. Our time would be four to five years.
was a run-up of the existing portfolio which has been funded by the Xerox balance sheet on securitization programs that were in place. So this run-up will decline over time and it will be replaced by this funding agreement and this funding agreement is done outside of the Xerox balance sheet.
So this benefit that we see, specifically 2023 and also in 2024, will erode over time. But it will be offset not from a free-castro point of view, but in the P&L way of looking at it there. It will be offset by the fact that this agreement, as I mentioned, it is a shift in the way CITOR would work.
that we would like to see from this business and also some benefits of how we would service or manage this portfolio. So this is a change, this is a shift in the way the FITL business is being built. This is for the good, I would say, of Xerox, because less use of Xerox's balance sheet while preserving the growth of FITL and being able to preserve the revenue on the profit related to this business.
Thank you so much for the details and clarifications. Thank you.
Thank you for listening to our earnings conference call this morning. We have turned the page on 2022. Macroeconomic conditions remain uncertain, but this past year has proven that at Xerox we can react and drive profitable results. I am confident we have the right team and strategy in place to deliver.
growth and profitability, and shareholder returns in 2023 and beyond. Thank you for joining our call and have a great day.
Thank you, ladies and gentlemen, for your participation at today's conference. This does conclude the program. You may now disconnect. Good day.
And is.
I have you.
The.
I Qu.
I.
I mean.