Lexmark: What's Next for Printers?

[Anonymous]

Lexmark: What’s Next for Printers?

Lexmark (NYSE: LXK) has been one of the premier manufacturers of laser and inkjet printers since 1997, when it introduced the first sub-$100 color inkjet printer.  Since then, however, demand for printers has become an ongoing concern, and it has forced Lexmark and its competitors to rethink their business models.  With the company set to report earnings next Tuesday, investors will be looking for concrete plans from the company on how it intends to adapt to the changing environment. 

Lexmark used to be known as the most aggressively priced brand of printer, and its ability to undercut the competition was a big advantage.  Now, its rivals, particularly Hewlett-Packard (NYSE: HPQ) and Canon (NYSE: CAJ) are consistently cutting their prices and taking market share.  Lexmark generates only 24% of its revenue from printer sales, with the majority (70%) coming from supplies and the other 6% coming from software.   Revenues from printers fell 7% in 2011, and the company is projected to report a further 10% decline for 2012 during its earnings call.  Industry analysts project a continued decline into 2013, so look for the company to address this issue during the call.

Of the two types of printers Lexmark produces, laser and inkjet, the majority of revenue declines have been seen in the inkjet market, where cheap products from competitors and generally weak demand have produced dismal sales results.  Lexmark is the fourth largest inkjet maker in terms of market share, following Hewlett-Packard, Epson, and Canon, who combine for a dominating 85% of the market.  The company is actually exiting the consumer inkjet business, so look for a status update regarding this. 

As a result, Lexmark has decided to commit almost all of its resources to the laser printer market, which is a higher-growth area than inkjets.  In order to compete with the larger companies, which for laser printers are HP, Ricoh, Xerox, and others, Lexmark needs to add new innovative products to its portfolio, especially in shared workgroup color printers, which provide more revenue per unit than other types of laser printers.

So, what needs to happen for Lexmark to return to its glory days?  First, the shift toward higher-end hardware (like the color laser printers mentioned above) and managed printing services (MPS) need to show signs of success.  Second, Lexmark’s international business, particularly in Europe, needs to stabilize and subsequently grow.  Given the economic climate in Europe, enterprises are reluctant to spend money on new equipment and contracts, so this needs to recover.  Finally, the savings from the restructuring efforts need to be substantial.  The company is shifting its operations to lower-cost countries and is closing at least one facility, eliminating 1,700 employees.  

One bright spot: With uncertainty comes cheap valuation.  Lexmark currently trades at just 7.5 times 2012’s earnings, and when you factor out the $500 million in net cash Lexmark is sitting on, this P/E ratio drops to just 5.4 times earnings.  However, the consensus calls for very little growth ahead; in fact earnings are expected to slowly decline over the next few years.  Lexmark’s historical average is right around 10 times earnings, so if you’re willing to wait out the adaptation taking place, you could be handsomely rewarded in a few years. 

In the meantime, investors are paid nicely to wait and see.  Lexmark currently yields 4.29% and actually has a nice history of share repurchases, with the number of outstanding shares dropping from 89.2 million in 2008 to 64.6 million currently, a 27.5% decline in less than five years. 

So, while things may turn out all right for Lexmark in the end, for now there are many challenges ahead.  When the company reports, more important than the numbers themselves are the company’s status updates on the restructuring and the outlook for the future.  Any increase in corporate spending would be a huge positive catalyst, especially with the focus shifting to high-end laser printers.  At any rate, although it is very cheap right now, Lexmark needs to show me that it will get through these tough times before I can be bullish on the stock.

[Author]

January 24, 2013 at 8:46 AM