XEROX HAS $9.3B. IN DEBT

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XEROX HAS $9.3B. IN DEBT

 user 2010-05-17 at 1:23:26 pm Views: 57
  • #24192
    http://quicktake.morningstar.com/Stocknet/san.aspx?id=334325
    XEROX HAS $9.3B. IN DEBT
    New Credit Rating: Xerox
    Morningstar is initiating credit coverage of Xerox XRX with a
    BBB- rating. Most notably, the firm scores poorly on our Solvency Score
    measure, owing primarily to its large receivables financing program. The
    decision to provide customers with long-term financing, which has
    become a key part of Xerox’s relationship with many, adds a large dose
    of leverage to the balance sheet. More than one fourth of assets at the
    end of 2009 were tied to customer financing activities, and the firm
    finances the vast majority of these assets with debt. Of Xerox’s $9.3
    billion in debt at year-end 2009, $6.6 billion was tied to customer
    financing. Return on invested capital and interest coverage, two
    additional components of the Solvency Score, also suffer as a result of
    the large financing operations, as the firm engages in this activity
    more to support equipment sales than to generate profit. We believe
    Xerox’s receivable book is well diversified and provides a solid asset
    base to borrow against. Historically, provisions for loan losses and
    actual write-offs have run at less than 1% of total receivables per
    quarter. We didn’t adjust our Solvency Score upward, however, as
    financing customer purchases does present more balance sheet risk than
    leaving this activity to a third party. In addition, any issue with
    Xerox’s ability to access the capital markets would probably hurt sales.

    We
    have given the firm credit for the quality of the collateral against
    which it borrows in our Cash Flow Cushion calculation. The firm faces
    about $1 billion in debt maturities each year for the next decade. In
    addition, the firm repaid $1.7 billion of Affiliated Computer Services’
    debt after completing its acquisition of the company earlier in 2010.
    Most of Xerox’s debt not tied to receivables was issued in 2009 to
    prepare for the ACS acquisition, leaving the firm with $3.8 billion in
    cash at the end of 2009. Beyond 2010, we expect Xerox will generate
    about $1.5 billion in cash per year through our five-year explicit
    forecast period. At that level of cash generation, the firm will cover
    its obligations only once over during the next five years. However, we
    expect Xerox will be able to issue additional debt against new
    receivables created in the course of business. As a result, we assume
    that the firm refinances 70% of its debt that comes due between 2011 and
    2014, roughly the same percentage of its current debt load tied to
    customer financing. This cash inflow provides a decent cushion against
    an unexpected downturn in the business, moving the Cash Flow Cushion
    into a range more typical for a BBB rated company. If the firm is unable
    to refinance debt, it would probably begin allow its receivable book to
    shrink, also boosting the cash cushion.

    Xerox’s rating benefits
    from a solid Business Risk score, which is the result of the firm’s size
    and narrow economic moat rating. We believe Xerox’s competitive
    position is on the weak side among firms with a narrow moat rating,
    though. Xerox has created an impressive recurring revenue stream around
    its large installed base of equipment, but competing on the merits of
    hardware is a daunting task, especially given the attitude that office
    machines are cost centers to minimize and not strategic differentiators.
    When it is time to upgrade, we do not believe there is enough
    complexity in the typical office machine to generate significant
    switching costs. On the other hand, while we question the strategic
    rationale behind the ACS acquisition, we do like the business. ACS
    outsources entire business processes that take time and effort to set
    up, creating stronger bonds with the clients and thereby making the
    supplier more difficult to replace.