全錄公司 (XRX) 2009 Q2 法說會逐字稿

Good morning and welcome to the Xerox Corporation's second-quarter 2009 earnings release conference call hosted by Ursula Burns, Chief Executive Officer. She is joined by Larry Zimmerman, Vice Chairman and Chief Financial Officer.

During this call Xerox executives will refer to slides that are available on the web at www.Xerox.com/investor. At the request of Xerox Corporation today's conference call is being recorded. Other recording and/or rebroadcasting of this call are prohibited without express permission of Xerox.

After the presentation there will be a question-and-answer session. (Operator Instructions)

During this conference call Xerox executives will make comments that contain forward-looking statements, which by their nature address matters that are in the future and are uncertain. Actual future financial results may be materially different than those expressed herein.

At this time I will turn the meeting over to Ms. Burns. Ms. Burns, you may begin.

Good morning and thanks for joining us today. As many of you know, I took over the CEO role at Xerox on July 1. With 29 years of Xerox tenure under my belt and the great benefit of working side-by-side with Anne Mulcahy, I am both humbled by the trust the Board has placed in me and honored by the opportunity to lead our company now and well into the future.

We made progress in the second quarter, managing through the challenges of the global recession by focusing intently on cash and earnings while investing for growth. Please turn to slide four and we will get started.

We delivered $0.16 earnings per share, $609 million in operating cash flow, and a 1 point increase in gross margin. All of this reflects the strong flow-through of our cost reduction initiatives and operational improvements. At the same time our industry continues to face challenges from the decline in enterprise spending on technology. This is delaying purchasing decisions and slowing demand for document-related supplies and support.

Xerox has seen sequential improvement with revenue up 5% from the first quarter of this year. And our clients are increasingly responding to the up to 30% savings we provide through our managed print services. We believe it is imperative that we continue to innovate and build marketplace momentum for when the economy starts to improve. That is why we are continuing our steady drumbeat of product launches, 12 through the first half of this year, including the Xerox ColorQube that cuts the cost of printing a color page by up to 62%.

Let me take a moment to review our quarter two results. Larry will then share more detail about our financials, I will provide some guidance for next quarter, then Larry and I will take your questions. But please turn to slide five for a summary of our second-quarter performance.

$0.16 EPS is above our $0.10 to $0.12 expectation for the quarter. This is the result of significant efficiencies captured in the business and a disciplined approach to cost and expense management necessary to help offset the economic impact on revenue.

The recession is affecting our business in three key areas. First, the overall slowdown in business activity has lowered demand for supplies, especially in heavily document-driven processes like financing applications, mortgages, insurance enrollment, M&A, and hiring and training. All areas where Xerox's technology and services are critical and areas where we are confident there will be an improvement as the economy rebounds.

Second, we are closely managing costs and our customers are doing the same, which means delaying spending on technology until there are stronger signs of economic improvement. And while sales cycles are longer and deals are smaller, our customers are taking advantage of the value we offer with outsourcing and other document services.

Third, the especially hard hit developing markets dampen our total revenue picture. In areas like Russia and Eurasia access to credit is still quite limited and is creating a huge burden on the business environment. These factors contributed to a second-quarter revenue decline of 18% including a 5-point negative impact from currency.

Post sale revenue was down 8% in constant currency and equipment sale revenue declined 25%. Total revenue was $3.7 billion, which was $177 million higher than in the first quarter. That is an increase of 5%. Again, the flow-through from restructuring and operational improvements are helping to relieve pressure from the revenue decline.

Gross margins improved one point from last year to 40.2% and is up sequentially by 1.3 points. Selling, administrative, and general expenses were down year-over-year by $157 million. Second-quarter operating cash flow of $609 million was $167 million higher than Q2 '08. This performance positions us well to increase our guidance for full-year cash flows to $1.5 billion from $1.3 billion.

Our cash on hand was up $672 million in Q2 and we closed the quarter with a cash balance of $1.2 billion. Total debt is down $347 million through the first half of the year. We continue to remain on track to reduce overall debt by $1 billion this year.

Let's turn to slide six. This slide reflects the recessionary factors that are impacting our industry and our business, and where our competitive position is holding up well. As I mentioned, we saw some modest improvements in Q1 with revenue up 5%. In today's times sequential trends tend to be more meaningful than year-over-year ones. We are closely monitoring them so that our investments are well aligned with signs of economic recovery.

Equally important, our install base or what we call MIF, machines in the field, remains stable. That means that clients aren't exiting technology contracts. In fact, our digital install base is up 2%. And I have touched on services a couple of times; the decision-making for services deals has lengthened and we are seeing an increase in smaller deals.

But the value of our offerings in this area really can't be overstated. It's a competitive differentiator that is quite resilient and is opening up more deals for us than ever before. We absolutely lead the industry in managed print services and document outsourcing. Our more than 50% win rate against competitors is helping us strengthen this leadership.

Gartner ranked Xerox in the top of its Magic Quadrant for print services. We just secured the document outsourcing top ranking in the Black Book of Outsourcing. Others in the industry are clearly intrigued by the 30% savings that Xerox can offer and now they are making claims similar to that. But we are confident that we are the only company with the vast experience and expertise to deliver savings with no strings attached.

I noted earlier the economic impact on our business in developing markets. You will see here that it resulted in a 34% decline in revenues for Q2. I was in Russia earlier this month and while conversations with business and government leaders alluded to some returning confidence, it will be a longer road to recovery especially for the small- and mid-sized businesses that are dependent on access to credit. Our brand remains very strong in these regions and we will continue to maintain our broad distribution capacity so we maintain and grow our market share.

In our office business we continue to see the direct impact of lower channel inventory and supply sales. But our market share is holding up. For example, installs were up 10% in segments two to five. Operating margin of 10.8% was stable from last year and up four points from Q1.

We continue to have the industry's broadest portfolio of technology for businesses of any size and we intend to maintain this leadership position. That is why we launched eight competitively-priced office systems in Q2. Of note is the Xerox ColorQube, this is the first A3 solid ink multi-function system. Our proprietary solid ink enables a huge breakthrough in the cost of color printing.

As I mentioned earlier, with ColorQube the cost of the color page can be cut by up to [62]%. The ColorQube buzz has caught on and created demand. We are pleased -- with the pace of installs and we will open more markets faster than initially planned to broaden availability. The decline in transactional business activity that I touched on earlier can be seen in our production business, which is impacted by lower black and white page volumes and product mix.

That being said, demand for our iGen4 remains strong as the commercial print industry invests in digital. Xerox's iGen system is the industry standard. The sequential operating margin increase in production is good, but it's not good enough. Certainly the economy has had a major impact on this business with declines in mono offsetting color gains, but frankly with an operating margin of 4.7% we see this as an area of improvement going forward.

We will continue to build on our strong leadership in this space. In fact, at the upcoming Print '09 show we will highlight a broad array of printing applications, technology, unique packaging and finishing systems. You will see that our innovation stays ahead of the pace making it harder for others to catch up.

Revenue from color, while down in Q2, still represents more than 40% of our total revenue. Netting it out we know the economic factors that are impacting our business. We are executing well in all areas where we can mitigate these factors and we are maintaining our focus on innovation, services, distribution, and brand strength that will benefit us when the economy improves.

That is a good time and a good place for me to hand it over to Larry for more details on our financial results.

Thank you, Ursula, and good morning. At the first quarter earnings call we discussed the challenges of the current environment as well as the difficulty in projecting future results. We said we would assume no change in our revenue trend. We would focus on areas we could control -- cost and expense, cash -- and strive for sequential improvement across the board.

We targeted ourselves to achieve more total revenue in second quarter than first; we delivered $177 million more. We targeted ourselves to lower our costs and improve gross profit margin; we delivered 40.2% versus 38.9% in Q1 and up a point from last year. We targeted significant expense reductions; we delivered $224 million year-over-year in second quarter, $171 million at constant currency versus $109 million in Q1.

We targeted ourselves to deliver at least $0.10 to $0.12 of earnings per share; we delivered $0.16 of earnings per share. We targeted ourselves to generate at least $300 million of cash flow from ops; we delivered $609 million. These results demonstrate the strength of our business model.

Slide eight. We continued to aggressively drive for revenue in all parts of our business while recognizing the economic realities. Although demand is lower and decisions are delayed, our product line and services are as broad and competitive as they have ever been and we continue to win in the marketplace.

Our focus on cost and expense reductions is yielding. Our gross profit margin was 40.2%, an increase from Q1 and last year. Cost reductions coupled with mix more than offset the impact of the stronger yen. Our RD&E and SAG expense, excluding bad debts, declined $224 million with $53 million help from currency. Again, our focus on restructuring and discretionary reductions is yielding.

Bad debts increased $46 million from last year, but is basically consistent with Q1 at about 1% of our financed receivables. Going forward we are assuming it will stay at this level.

Operating income was 7.6%, up from 5% in Q1 as we delivered additional revenue and reduced cost and expense. Equity income was $9 million, which reflects the business environment pressures at our partner, Fuji Xerox, down $21 million year-over-year. And, finally, our EPS was $0.16 a share.

Slide nine. Cash flow has and will continue to be the strength of our annuity-based business model. Our people executed well on all fronts in the quarter. We delivered earnings of $147 million; reduced inventory and accounts receivable by $325 million; reduced year-to-date debt $347 million, projected to be down $1 billion full year; held CapEx and internal use software at $39 million; delivered $609 million of cash flow from ops; demonstrated access and capacity demand in capital markets with a $750 million bond transaction in May; enhanced our flexibility with $1.8 billion unused revolver capacity; and ended the quarter with $1.2 billion of cash.

Based on these results I believe we can deliver about $1.5 billion of cash flow from ops for the year or $1.45 free cash flow per share.

Slide 10. Let's quickly touch on currency and bad debts and then move on to our financing business. Translation currency, converting a non-US P&L to US dollars, has improved slightly and compares will improve in fourth quarter assuming spot rates remain the same. Transaction currency, converting costs mostly again to a country's currency, for example US dollars or euros, we also have seen some improvement. But the yen is still significantly stronger than last year which pressures us on cost.

In 2Q we were able to mitigate this with other cost reductions resulting in a 40.2% gross profit margin.

Bad debts, although they increased in this economic environment, they remain a relatively small percentage of our receivables below 1%. We expect this trend to continue going forward this year.

The bottom part of the slide addresses our financing dynamics to give a perspective and context in understanding our debt and our commitment to maintaining investment grade status. We lease finance the majority of our products to our customers in a three- to five-year bundled total contract that generally includes the equipment, service, supplies, and leasing and financing.

The equipment represent $7.6 billion of finance assets and we leverage them 7 to 1. That is the $6.6 billion of debt on the slide. The remaining $1.4 billion is core debt; only 18% leveraged. Over the three to five years our customers pay down this obligation to Xerox. This is a committed stream of cash.

The debt ladder shows how we manage the debt maturities and balance with operating cash flow. We keep these maturities at approximately $1 billion a year. Contrast this to our cash flow from ops over the last seven years, which has been $1.5 billion to $2 billion and forecasted to be $1.5 billion this year even in the current environment.

As the debt matures we have typically gone to capital markets to maintain the leverage ratio. In May we borrowed $750 million in difficult times. In addition, we have a $2 billion revolver that gives us flexibility as to when we want to go to capital markets. Though the context and perspective I am giving you on this is the majority of our debt supports contractually obligated payments from our customers, our core debt is small, our cash flow and financial flexibility are strong, and we have comfortably managed this over the years and will continue to do so.

Slide 11. The last topic I would like to cover before turning it back to Ursula is our second-quarter post sale revenue dynamics. Although certainly impacted by the economy, post sale has held up relatively well with an 8.4% constant currency decline. Over 60% of the decline, 5.4 of the 8.4 points, was driven by paper and supplies. Both of these revenue streams continue to be impacted by weaker end-user demand and inventory management by our distributors as well as end-users.

Developing markets with its two-tiered distribution has been disproportionately impacted by the economic slowdown resulting in a 25% decrease in post sale revenue, which represents 3.3 points of the 8.4. Their performance is magnified by currency changes in those geographies for which we do not adjust but which cost us about 2 percentage points on total post sale revenue.

We are seeing less of an impact on usage levels of our equipment, which affects our core annuity of outsourcing service and rental; only $90 million lower on a base of $2 billion, or 2.6 points of the 8.4. Our machines in the field continue to grow 23% for color and 2% for total digital. This is another positive sign going forward as our install base is large and growing.

Although pages were down, driven by mono production declines, color pages grew 12%.

So in summary, obviously difficult times where we focus on what we can control, drive as much revenue as possible be tough minded in reducing costs and expenses, drive the strength of our model cash, and of course deliver value to our shareholders. I think we accomplished all of these in 2Q and this resolve will continue going forward.

Thank you and now back to Ursula.

Thanks, Larry. Here is a closing summary of the quarter. We are pleased with EPS. Cash flow, gross margin, and operational improvements have delivered solid bottom-line results despite continued revenue challenges. These results reflect the strength of our model and the resolve of our people.

So our Q2 performance positions us well to deliver on full-year guidance. Third quarter is seasonally our slowest on revenue so Q3 requires continued discipline in cost and expense management and prioritizing cash. Building marketplace momentum also remains a priority and we will maintain our focus on value-based offerings, like managed print services and document outsourcing. This along with the breadth of our technology, expanded distribution, and global account management gives us confidence in the strength of our long-term competitive position.

With that we are setting third-quarter guidance at $0.10 to $0.12. We continue to expect full-year 2009 earnings to be in the range of $0.50 to $0.55.

Thank you for your time. Now Larry and I will be happy to take your questions.

(Operator Instructions) Richard Gardner, Citigroup.

Thank you. Larry and Ursula, aside from a seasonal revenue decline in Q3 could you walk us through the dynamics that are prompting you to guide earnings down sequentially?

Richard, thank you for the question. It's primarily the seasonality of our business. Revenue and gross profit are weaker in the third quarter. One issue; we have also overdelivered on the cost savings, cost and expense savings in Q2. We do expect to deliver a strong cost and expense savings in Q3.

We do start to lap some of the benefits that we did in quarter two of last year as well. So weaker revenues sequentially, weaker profits sequentially, a little bit of negative headwind from currency, and cost and expense savings still being pushed I think get us to the point where we are at $0.10 to $0.12.

Okay. If I could just follow up, it sounds like you are expecting gross margins down sequentially. And I am wondering why that would be the case given probably continued yield from negotiations with Fuji Xerox as well as a more favorable dollar/yen relationship in the quarter and perhaps a full quarter benefit of that.

Then maybe if Larry could give us a little bit of sense of how SAG should trend sequentially as well. It seems like it should be down given that you have got continued restructuring savings, as well as a seasonal decline in revenue. Thank you.

Thanks, Rich. Yes, I think on the gross profit margin what you see in the third quarter is seasonally less revenue. And when you have less revenue, particularly on the post-sale side, it tends to fall through to the bottom, right through because you have to keep your cost level there because you go into the fourth quarter and the revenue goes up and there is a lot more work there.

So you tend to see -- that is why the margin always goes down in the third quarter because you are losing predominantly on the post sale seasonality in the quarter. And that just affects the margin. I don't expect it to be a huge effect, but it is an effect and it does make it lower. And that really drives the answer to why earnings per share would be down in the quarter.

On the expense side I think there would be a sequential improvement. It wouldn't be a huge number, but you also have the currency less from a spot rate standpoint right now in the compares year to year. So that would take the expense back up.

And so I guess we are assuming that you wouldn't see a huge sequential decline there, it would be moderate. I think the combination of that gets you to the earnings per share that we are expecting in the quarter.

As far as the Fuji Xerox cost savings flow through, we have been successful, too, in negotiating some good cost reductions from Fuji Xerox. We don't believe that we will get significantly better news or additional news from Fuji Xerox going forward. They are struggling like we are struggling, and their economies are struggling like our economies.

So we are working hard with Fuji Xerox, but not additional, significant cost savings.

And that is another point, the equity income tends to look to be lower in this environment.

Okay, great. I will get back in the queue. Thank you.

Shannon Cross, Cross Research.

Hearing from your end customers about page volumes, demand for color, where they are printing, what they are printing? And then also any thoughts on how they are looking at leases, pushing them out a year; just sort of in general what your customers are saying.

Thank you, Shannon. Good question on page volumes, color, mix of business, etc. Most of the impact that we are seeing on page volumes is in production mono. Significant impact in production mono.

It's a transactional business; the economy is hitting right in the middle of that segment, right in the heartland of that segment. So M&A things, legal business, training, employee on-boarding, all of those types of activities which serve the production mono business well are down in this economic time.

The good news about the business, the install base is there, the people still have the machines. When the economy starts to turn up, we do expect -- when it starts to rebound we do expect that our technology will be used more and more.

Office, on the other hand, is a position of strength for us. I said in the talk that we grew our position in segment two to five. Our position in colors in office stays strong, so color in the office and black-and-white in the office is good. The biggest hit in mono.

Page volumes; overall monochrome down, color down significantly less, so holding up very well across both -- in office and in production. Leases pushing them out; we do see technology refresh on a longer cycle. So people are holding on to their technology for a longer amount of time. On the positive side they are not canceling their contracts though. They are remaining -- they are holding that equipment.

We do think that when business volumes start to rebound that we will see customers be more open and more capable of upgrading their technology.

Okay, great. Then, Larry, could you talk a little bit about how we should think about working capital and the various different parts of the balance sheet as they we go through the next couple of quarters? I know you have guided full-year you took up the cash flow number. But just in terms of the outperformance this quarter and then sort of how to think about next and then fourth quarter.

Yes, sure. We tried to push second quarter and I think we have succeeded. We tried to make it like a fourth quarter so that we had a much better performance in working capital, inventory, and AR. So I think you are going to see less of a skew where it all happens in the fourth quarter. Again, third quarter is seasonably weaker so you won't see nearly the performance (technical difficulty)

Okay, great.

The fourth quarter will be well done, but it's kind of a smoothing effect which we are really trying for for the long term. We would like to actually do this trick more than in 2009.

Okay, great. Thanks.

Ben Reitzes, Barclays Capital.

Got two questions; one is on cash flow. You upped the forecasts and it's $200 million, which is a nice pop, but is anything happening to change your view of how you want to use the cash in terms of when you think you can do share repurchases or acquisitions? And how you are thinking about into 2010 and 2011 even with the head start you have got? I have one follow-up.

Well, I think, Ben, we stay where we are in this environment on what we are doing with cash. Right now we are paying down debt. We have debts in the third and fourth quarter going forward here that we want to pay down. We want to have a good cash balance and I think then we would evaluate if we want to change direction if the economy got a lot better. If the economy stays where it is I think we will stay the course.

I think on the acquisition side we have done all distribution ones. We are still looking at those, but they would be on the small side. If the economy changes direction then we will reevaluate.

Okay, great. So in short, it sounds like next year you will reevaluate if things remain stable on that share repurchase question.

Then with regard to post sale, can you just talk about some of the trends there in more detail? What is going on with supplies? Is the supplies inventory correction over, is it not over, and how long will it last? And maybe any other puts and takes of post sale trends into the back half of the year.

I can take that, Ben. What we have seen on supplies is no significant change from what we saw in the first quarter. Stabilization in North America and in Europe, continued weakness in DMO and in our XIP business; so not a significant change there at all.

How long will it last is an interesting question. I don't really know. We are preparing for not a significant change for the remainder of this year for sure. We are preparing for supplies inventory to be under pressure and for the post sale to be under pressure in total. I don't really know when it will change.

Is there a way to quantify what the hit was? You did a 40-plus gross margin. Is there like a supplies hit -- was there a channel inventory reduction that was a hit to the gross margin though in the quarter and that may be resolved even in a depressed market? Is there any way to talk about that? And that is the end of my questions.

There really wasn't, not that we could see, the difference there not a big driver there. If you look at when Larry was speaking about in his discussion about how our post sales flow, we had an 8% decline in post sale. If you look at our core new business we had a -- the decline was about 4%. So the rest of the decline is from this inventory stocking and from our two-tier business model, DMO, XIP, etc.

The core business annuity fared significantly better than the rest of the annuity stream and the rest of the business. If you look at that, we are counting on that level to go forward. The inventory to stay kind of where it is. They can't really destock much more than they have. We don't expect a big rebound there. And the post sale stream on the core piece of the business we think will rebound when the economy rebounds.

Thank you very much, guys.

Chris Whitmore, Deutsche Bank.

Thanks very much. Another question on gross margin, this time on product gross margin and the competitive environment. Curious what you are seeing in terms of pricing and how are your Japanese competitors responding to the changing yen pricing? Thanks.

We see pricing kind of being stable in the 5% to 10% range reduction. Nothing unusual from a price perspective, nothing unusual. It's a different competitor. As you know, Ricoh is probably the most aggressive competitor in the market. They stay there, they remain there, their trends have not changed. The rest of the competitors have kept their position as well.

We have even seen some price increases in some portions of the globe, not something that we are seeing everywhere, by the way. So gross margins are driven by pricing; pricing is not a big change across the board.

Just to follow up on that, HP recently held a call which seemed to place a bull's eye on both your production business and your office business in terms of their expected growth going forward. What are you seeing from HP and maybe can you specifically address how you compete against Indigo in the high-end production market?

What we are seeing from HP is their focus on our business as you have said. They recently announced a managed print service offering that we have had in the market for quite a while. We are the leader there, as I pointed out when I was speaking earlier.

So we are -- what we see in HP is trying to catch up with the position that Xerox has, both in the production space, in any the managed print service space, in the A3 MFP space, across the board. We don't take them lightly. We are very confident based on our investments, our history, what we are doing in the marketplace today that we can effectively compete against HP.

Are they competing more with price or more with service and solutions?

What we are seeing in managed print services they are competing right now with words. So right now it's an advertisement so we have to dispute that in the marketplace. As I said on managed print services, we are very, very confident there.

In the high-end space, which I didn't answer that portion of the question before, we are very, very pleased with our iGen position. The install base, the activity we got in quarter two very strong. We do not see them positioning and competing with us on price.

As you know, they are positioned in a different place in the marketplace. Out AMPVs and usage patterns for our iGen4s are higher than their Indigo devices. But we have an aggressive portfolio that allows us to compete effectively and surround them, get right on top of them.

So it is a tough market out there, but we are very confident in the position that we have in both high-end color and managed print services and A3 Office against HP and other competitors as well.

That is very helpful. One last question for me is on the revenue guidance or expectations for revenue. Do you think the underlying rate of year-on-year revenue growth ex currency will moderate, stay about the same or get incrementally worse in Q3?

We expect it to stay about the same. We have not seen an indication for it to move in any direction. We expect it to stay about the same.

Thanks a lot.

Keith Bachman, BMO Capital Markets.

I had a couple. Larry, just to be clear -- and congratulations on a good cash flow, Larry. On the intentions for the 1.5, you have indicated $1 billion of core debt. If I look at the debt ladder, will you take that $1 billion down by the end of the year? In other words, will you refi or to think you will just pay that off to lower your total debt outstanding at the end of the year?

Yes, we are going to pay down our debt through payments that are due third quarter and fourth quarter. We are going to pay them; with cash flow and the cash we have on hand. End up the year down probably around $1 billion less debt than we had at the beginning of the year.

Great, great. Perfect, thanks. Ursula, I wanted to ask you about two things on the revenue side. One is the managed print services and then second is the solid ink. I wanted to get your perspective on how we might see -- you mentioned that you are being successful and a leader there. HP has jumped into the market. How might we see the benefits of that unfold in terms of the income statement?

What is the magnitude of growth that you think you can get if you look at CY-10? I assume that shows up in the services, outsourcing, and rentals line item, but perhaps you can clarify that. Then I have a follow-up on solid ink, if I could. I will stop there and then follow up on solid ink.

We will see the benefits in the wholesale line where the profit revenue flows through. What it allows us to do -- what it allows our customers to do, more importantly than what it allows us to do, is to be significantly more efficient in their document infrastructure. What we end up doing is taking a large amount of print and output spend and consolidate that.

The consolidation doesn't happen at Xerox's expense generally. It happens at single-function printer expense. Efficiencies in the system. So you will see that by us selling more devices, also by actually more revenue streams, post-sale revenue streams from the services side of the business.

But can you give us some perspective then, Ursula, on how big is the business now in terms of run rate? Any kind of just color to help us think of how it might drive some opportunities as we look to next year?

About $3.5 billion the [MPS] business, the whole -- the MPS business; large inflow in the MPS business, about $3.5 billion. It is growing. It is a stronger growth engine or being impacted less than our equipment business, so it's an area of strength for us.

Okay.

By the way, it is a global business as well. It's something that we practice around the globe. I think that is what you asked as well.

Then to follow up, Ursula, on the solid ink, its sounds like you are definitely suggesting you are gaining some traction there. Any kind of color on how you think that impacts your growth trajectory as you look out over the next 12 to 18 months?

One of the major focus areas for Xerox because it's the big cry from our customers is to make color more accessible to them. They know it's important and they want to be able to use color, but we can't give it to them in a cost effective manner. Solid ink allows us to do that.

We launched it second -- the first quarter of this year in a limited geographic way.

Right.

Expand in the geographies because the call for it is more than we thought. People want it in all areas, so we are expanding -- how quickly we can open up the rest of the United States to go to Europe in the third quarter, rest of world in 2010. So A3, the ColorQube device, we expect to be a good impetus for customers to take up color more and more.

We will see the benefit of this product more in 2010 than we said when we launched it then in 2009 because this is all pipeline building and all teaching customers how to actually utilize this in filling the coffers. And we will see the benefit in 2010.

We are very excited about it. It's doing what we expect it to do.

Okay. I will cede the floor. Thank you.

Mark Moskowitz, JPMorgan Securities.

Thank you, good morning. A few questions. Firstly, it is encouraging to see that after a really tough first quarter that you were able to establish and get back on track in terms of normal sequential growth. And Larry and Ursula, I guess the question is as far as 3Q, the weak seasonal revenue trend guidance, does that imply that you can get back to that down 3% to 5% sequential growth or is it something a little lighter or a little worse?

Then I guess the follow-up is what are the swing factors there, just given that the S&B could really be hemorrhaging here going forward? If we look at the CIT fallouts or potential fallout just the tighter credits at large as well as the continuing problems with DMO. What type of cross currency do you see and what type of offsets are there?

Let me make sure I understood the revenue question. The third quarter sequentially, obviously, is a lower revenue quarter. We get -- the currency compares a little better, so that helps it a little but it's definitely a lower quarter than second quarter. And we expect to see in a constant currency way the same kind of trends that we saw in the first and second quarter that is where we are currently assuming similar decline levels actually we think it's a trend for the fourth quarter as well.

On the financing, the majority of our business we finance ourselves. That was the financing section I went through there. And it's a great go-to-market strategy, works well for our customers in bundle contracts. We make significant profit from it and that gives us very little exposure to anybody else having difficulty in the business, whether it's the IT, anybody else because there is very little exposure to that area.

Or as DMO is concerned, we really don't do financing there. Now financing is affecting the business there because people are having difficulty getting financing but that is a risky business that we have not gone into. We have counted on other sources and that has worked well.

Larry, just to get back to the seasonality. So just to put a bracket around it, historically you have been down 3% to 5% sequentially in 3Q. Are you saying the currency can maybe make it so it's only down 2% to 3%, or do you expect to still be down in that down 3% to 5% bracket?

I think it's roughly the same.

Okay. And then getting back to Shannon's question.

(multiple speakers) before it happens is a gift.

Sorry, Mark, continue. I am sorry.

Go ahead. I am sorry.

I am sorry. We are having a tough feed here audio-wise. I didn't mean to interrupt.

I was just curious as far as Shannon's question earlier on the renewal activity. Those customers that are renewing, any change in terms of the overall structure? Are you having to throw in more goodies as far as the post-sale economics in the years one, two, three, and four out?

No change from the normal trends and so let me tell you what I mean by that. Generally, when we renewed a customer we renew at a better value proposition for the customer. They do business with us, we learn their processes. They either upgrade to technology that gives them more functionality at a better price or they up their service engagement. And we provide them with more services and we negotiate a price.

We are not seeing a change for the same service or same technology when a customer wants to move to that same technology, if they did that, significant pressure on price in that iteration. Generally, it's adding more value for a little bit more price or the same value you for the same as to what we did before.

So net-net the answer to your question is, no, we are not seeing people coming to us and saying can you please renegotiate our leases or can you change the price of the contracts that we have. When a customer is in trouble, we clearly will work with them to restructure our business. But we are not seeing that in a wholesale way.

Okay. Just last --

Did that answer your questions?

Yes, you did. I appreciate it. Just lastly, Ursula or Larry, in terms of the cost structure clearly you have been really good as far as keeping a tight grip on costs and containment and take outs. But I am just trying to get a sense in terms of when do we really expect to see SAG in particular decline at a greater rate than your revenues? Is that going to be a crossover point in 3Q or do we have to wait until fourth quarter in terms of year-over-year revenue declines are less than the SAG declines?

I think the revenue declines that you have now you can't see expense and costs going down by the same rate revenue had happened. So I think our expenses have been coming down as we have taken every action. We know how to take costs down when that happens. I think we have done this successfully.

Fourth quarter by the time we get to the fourth quarter if the spot rates stay the same, you get -- part of the problem here is you have five or six points of currency affecting this. So in constant currency, if you are down 12% or 13% going rate then you will see a year-to-year or better comparison there. That is -- try to take the structure down at this (inaudible) percent is actual currency.

I just want to add. We want to make sure that we are positioned strongly, well when the economy rebounds. One of the reasons why it never approached the cost base to the tune of the revenue decline that we have seen last -- fourth quarter, first quarter, and second quarter is that if we did that we would not be able to have value and be strong when the economy turns around.

And we don't expect those trends to continue. 2010 we don't know whether there is a recovery, but we don't expect that is an 18 percent revenue decline so the comparison gets a little better.

Thank you.

Ananda Baruah, Brean, Murray, Carret & Co.

Thanks, guys, for taking the question. I guess, Larry, I just wanted to go back to the cost savings and try to get a sense for what the driver or drivers were behind what you recognized, I guess, this quarter. I mean, it certainly seems like you did a little bit more than anticipated given how you guys came out relative to the guidance.

Did you pass more through to the bottom line? Did you do something in a pull forward basis from the second half of the year that you thought maybe we are going to take a little bit longer to do? Is it some combination of both? I guess that is the first part.

And then the second part sort of related to that is what should we expect in terms of -- even if it's anecdotal -- in terms of pass through to the bottom line moving forward from the cost savings?

I think cost savings -- what we did when we started this significant downturn we got our heads together as a management team and we focused at every possible area that we could control and then we committed ourselves to get that done. Now we did an excellent job and we delivered it in the second quarter.

Sometimes you put together a whole cost and expense action plan and you get three quarters of it. So these things actually -- there is 55,000 people here all working on things; some of them happen, some of them don't. I think we had very good execution in the second quarter. We delivered a lot of it and I think we see a lot of that continuing. And I think we have reflected that in our guidance that it continues. Do we overachieve on some of those things in the third quarter? That is possible.

So you maintain the savings objective for '09 of $300 million? Do you guys begin to rethink that at all?

No, I think right now we are executing on the restructuring savings and the other cost savings that we committed to. We think they will deliver the earnings expectation that we set out there.

Okay. And then I guess -- I just have a question on the equity income from Fuji Xerox, because it seems like it's something else or it's another part of the business model that is moving around a bit. I guess the question is when you guys put together originally the '09 guidance did you have the type of contribution that you are now seeing from Fuji Xerox baked into that guidance? I guess is it coming in line with your expectations or has it moved away from your expectations?

It did move away from our expectations. It's coming in significantly lower than we thought. Follow-through business, economic impacts, plus restructuring are both coming in worse than we thought.

Got it. Okay, that is actually quite helpful. Then I guess just the last one for me. You talked about -- and maybe, Ursula, this is probably best taken by you perhaps. You talked about post-sale trends in the US and in Europe being about as expected, I guess steady with Q1.

Can you just talk about overall European trends relative to overall US trends? How things changed or didn't change as you moved through the quarter relative to your expectations?

They didn't change, unfortunately. They are about the same. Europe and North America are still seeing the impacts of a flow economy and we didn't see a change in Europe vis-a-vis the US at all in quarter two to quarter one.

Okay. But things didn't get incrementally more challenging in Europe as you went forward either?

No, not incrementally more challenging or worse or better.

Got it. Okay, great. Thank you.

Shannon Cross, Cross Research.

Thank you very much. Ursula, can you talk a little bit about global imaging and what you are seeing in small business and medium business in the US, and sort of thoughts on how that business may expand or potential opportunities for small acquisitions?

Then if you could talk a little bit about developing markets. I know they are sort of on different sides of the spectrum. But I am just curious as to sort of any signs of any stabilization, obviously down substantially this quarter, or sort of how you are thinking about developing markets as you guys go through the next few quarters and maybe even 2010? Thanks.

Global imaging first. Global imaging is fairing a little bit better than the main business that we have and the other channels that we have. They are acquiring -- they acquired a company earlier this year. They are always looking out for them. As Larry said, all tuck-in distribution acquisitions we will take. They accrete revenue almost immediately, so they are good to do. Not a whole lot of them out there currently on the plate, but we are always looking. Fairing well.

Small and medium business is suffering in the United States similar to other segments of the economy -- struggling with growth, struggling with access to credits. We happen to have a good position here. We have a good channel. We have a good infrastructure for financing, so they are doing better than most.

DMO it's like a tale of two cities. DMO is Russia, Eurasia; these economies. I said in my talk earlier that I was in Russia earlier this year. It's a difficult environment, very difficult environment. Large companies, but small and medium businesses as well are suffering from an upheaval in the economic environment in these portions of the world. And we are seeing it in our revenue stream from significant declines.

We are managing that business extremely tightly, not investing ahead of the curve, taking cost and expense out. We have a good, flexible model in DMO so we can actually move cost fairly aggressively and we have done that. Do not want to position ourselves so negatively that when the economy turns around that we can't take advantage.

Our brand is strong there. Our management team, leadership team is strong there. So very difficult environment in the DMO territories, but we are managing it extremely well and positioning ourselves for growth when the economy turns around. And by the way, the economy turning around, it won't be in DMO and it won't be this year. I am pretty sure.

Yes, it makes sense. Can you just talk a bit more about Fuji Xerox and what you think in terms of their opportunities for improving? They continue to restructure. At what point do you think that will sort of settle down? I know Japan remains very weak and we were over there not that long ago and it was not exactly happy. But I am just kind of curious as to what you are thinking about Fuji Xerox over the next several quarters.

We want Fuji Xerox to manage their business very similar similarly to the way that we are managing our business, which is to focus on getting their costs in line to deal with the fact that the economies in their regions are weak. They are doing that. They are taking aggressive actions on restructuring, as you can see from the results.

Japan is a major piece of their business -- Fuji Xerox's business. Japan is particularly weak, so when you add those two things together we are pushing Fuji Xerox, focusing on them being extremely aggressive, and managing cost and expense. But also focusing on investing for the future.

We get strong offerings from them, so we want them to continue doing that. Cost and expense management as their economies continue to be weak.

We have time for one more question.

Richard Gardner, Citigroup.

Okay. Thank you for the follow-up. Ursula, I just wanted -- it's more of a confirmation of something that you said earlier. I wanted to make sure that you had said -- I believe you said that channel inventories on supplies were stable that you didn't see any additional big drawdown during the quarter. And I wanted to gauge your level of confidence that there won't be additional channel inventory drawdown as we go into the back half of the year on supplies? Thank you.

You are correct, Richard. I did say that channel inventories have reached a level that seems to be consistent, low levels. It's hard for me to say what they will do going forward. We are planning for and assuming that the channel inventories will stay as they are now.

If we start to see a turn in either direction, up or down, we will react accordingly. Up, we will make sure that we can supply the demand and down, we will continue to tighten our belt to make sure that we can deliver the earnings that we have said. So not a big change from what I said earlier.

Okay, great. Thank you.

That closes our review. Thank you for the questions. That closes our review of quarter two earnings.

You can count on this leadership team to continue our strong focus on driving shareholder value. My thanks again for joining us today.

This concludes today's presentation. You may now disconnect. Good day.