全錄公司 (XRX) 2012 Q2 法說會逐字稿

Good morning and welcome to the Xerox Corporation [second-quarter 2012] (corrected by company after the call) earnings release conference call hosted by Ursula Burns, Chairman of the Board and Chief Executive Officer. She is joined by Luca Maestri, Executive Vice President 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 would like to turn the meeting over to Ms. Burns. Ms. Burns, you may begin.

Good morning and thanks for joining us today. We will get started on slide 3 with a review of the strategic imperatives that define our business and align with our financial performance. First, accelerating our Services business. We are operating in a market that is rich with opportunity, especially as more and more enterprises and governments seek efficient and productive ways to manage their operations. We are taking full advantage of our experience and expertise by diversifying our offerings, aggressively pursuing opportunities in key growth areas like e-discovery, HR outsourcing, customer care, transportation and healthcare and expanding globally. During the first half of this year, revenue from Services grew 8% in constant currency, tracking very well with our expectations.

Second is maintaining our leadership in technology. We are continuing to take a disciplined and practical approach to managing our technology business for a sustained benefit to our bottom line. That means providing the industry's best technology delivered through a cash-generating business model and focusing on building our business in color, SMB and across developing markets.

During the first half of this year, installs of Xerox products were up 5% and in particular, our color MIF, that is machines in field, was up 14%. Install and MIF growth is a good indication of future annuity revenue reflecting our continued market share leadership and in particular, the share that we are taking from competitors.

Third, we are driving operational excellence across our enterprise. This means adjusting our cost model so that we are competitively advantaged and have the financial flexibility to adapt to changing marketplace needs while scaling in key growth areas.

Operating expenses are down. This is indicative of our disciplined approach to managing our cost base. And in Services, we delivered sequential improvement in operating margins. By executing well on the first three priorities, we are very focused on the fourth, which is creating value for our shareholders. Doing so by delivering solid earnings and allocating capital in the areas of acquisition, dividends and share repurchase.

The economic uncertainty has created more pressure, especially in Europe and especially impacting our technology business. We benefit from offering a diverse portfolio that allows us to aggressively pursue areas of higher growth and to manage for improved profitability in more mature markets. The quarterly numbers give one picture, but I am just as closely managing the progress that we are making to be increasingly differentiated and advantaged in the marketplace.

We are winning customers, trust and helping them simplify how work gets done in ways that may surprise you. Please turn to slide 4 for some examples of what I mean. The key to our Services growth is investing in those markets where we already have respected expertise and where we see potential for market expansion. The discovery process for the legal industry is a great example. It is a complex area and one that can be incredibly costly if left to more manual processes.

We have built a competency in e-discovery through advanced software tools and services and we just strengthened our advantage through the acquisition of Lateral Data. Its software helps firms and in-house legal departments manage the entire discovery lifecycle in simple and affordable ways.

We are also taking this customized approach to the mobile phone market by acquiring UK-based WDS, which provides technical support to the world's largest wireless telecommunications brand. Through its proprietary cloud-based platform, WDS analyzes millions of technical support interactions across thousands of mobile devices. It then uses this data to help clients adjust any systematic problems all real-time, fast and in productive ways.

Productivity is also the benefit of advancing Technology and Services for healthcare. While the headlines this past month were all about what is next for the Affordable Care Act, we were already moving far ahead through our established relationships with healthcare payers, providers and government agencies. This includes Q2 announcements for developing Nevada's health information exchange and enhancing New Mexico's Medicaid reimbursement services, to create a cloud-based portal that gives Florida business owners more health insurance choices, as well as being selected as a BPO provider for the NIH. Xerox is exceptionally well-positioned as a trusted provider for the business of healthcare.

That is a quick glimpse of the stories behind the numbers and we will share more with you each quarter and hopefully, they help to reframe your perception of Xerox to showcase the amazing opportunity that is in front of us and to better explain the evolving nature of our business mix and model.

So now let's look at how this translates into our financial results. Turn to slide 5. I will provide a top-level review, then Luca will take you through the detail and I will close with our expectations for quarter three and then we will take your questions.

In the second quarter, we delivered adjusted EPS of $0.26. On a GAAP basis, earnings were $0.22 per share. This includes $0.04 related to the amortization of intangibles. Earnings are in line with our expectations and reflect the investments that we are making to grow our business. Total revenue of $5.5 billion was down 1% and up 1% in constant currency. Services revenue was up 7% in constant currency. Demand for our industry-leading Managed Print Services led to a 6% increase in revenue from document outsourcing. ITO revenue was up 9%, a significant improvement from prior quarters and revenue from business process outsourcing grew 8%.

Revenue from our technology business declined 4%. This was impacted by the continued weak macroeconomic environment and by clients increasingly shifting to Xerox's Managed Print Services, which is reported in our Services segment. I remain quite pleased with our across-the-board progress in Services and the benefit that it brings to our top line.

Strong revenue from Services, our growth driver today and in the future, gives us financial flexibility and helps minimize the impact from our slowing technology business. We continue to make the appropriate investments in our Services business, which includes incurring startup costs to ramp new contracts.

So as a result, and as expected, we are facing near-term pressure on margins, but also as expected, we made sequential improvements in quarter two. Operating margin of 9.7% was down year over year and up 1.2 points from quarter one and that was driven by a 1.3 point sequential improvement from our Services business. Q2 gross margin of 32% was down 1.4 points improving 1 point from quarter one. This is in the range of our expectations for the first half of the year and we balanced our investments by continuing to improve RD&E and SAG, which is now at 19.4% of revenue.

We generated $228 million in cash from operations, again in line with expectations and reflecting the need to make higher cash pension contributions during the first half of the year. We remain confident in our ability to generate $2 billion to $2.3 billion in full-year operating cash and we are continuing to use available cash for acquisitions and share repurchase.

Please turn to slide 6 for a closer look at our top-line results. The metrics of these charts tell two different, but key messages. First, reiterating the importance of Services in the total picture of our business. A year ago, the revenue coming from Services and Technology were about -- were evenly split. Now Services makes up 51% of the total, up from 48% a year ago.

Second, a reminder of the significance of our annuity-driven business model. As you see here, 85% of our revenue is annuity and it is up 2% in quarter two. We remain focused on increasing profitable annuity-based revenue across our portfolio. We manage our Services business for growth, building our pipeline, increasing signings of multiyear contracts and investing in acquisitions to strengthen our competencies.

In addition to winning major BPO and ITO deals, we continue to lead with our Managed Print Services, which are in demand as enterprises look for ways to operate more efficient workplaces. For example, we recently signed a six-year MPS contract with Boeing to consolidate its printers, copiers and fax machines and to implement a global printing framework based on price, energy, efficiency and ink use.

We also strengthen our annuity stream through the installs of Xerox equipment. Our approach is to lead in color, so Xerox ink is being used to generate color pages printed in workplaces and print shops of any size. During the quarter, our color MIF was up 14%. Equipment sales revenue was down 6% in constant currency and this is where we are seeing the largest impact from economic weakness, especially in Europe. In fact, two-thirds of the equipment sale revenue decline came from Europe. Equipment sales revenue has the most volatility in our business right now and it represents just 15% of our total revenue. We are managing it by being very disciplined with our cost base while expanding distribution to capture opportunities in SMB and developing markets.

In summary, we are clear-minded about the dynamics of our two businesses based on market opportunity and the macro environment. And we are managing our operations to align with the changing nature of both. In Services, again, our emphasis is on growth and making the investments to scale so that we can serve our clients in diverse, reliable and efficient ways anywhere around the world. And in Technology, we are sharply focused on streamlining the cost base. Our emphasis is on nurturing a resilient business model in ways that maintain market leadership while generating cash and supporting our bottom line.

Considering the economic uncertainty, we now expect that revenue from Technology will continue to be weak. As a result, we are revising our full-year earnings expectations. They are based on continued strong year-over-year revenue growth from Services, lower revenue from Technology and the ongoing benefit from operational efficiencies. So let me turn it over to Luca and I will be back to wrap up and open the call to your questions.

Thank you, Ursula and good morning, everyone. Overall, I believe we performed well in a weak economic environment to deliver 1% constant currency revenue growth and EPS within our guidance. Services, as expected, had strong growth and we are confident this will continue for the balance of the year.

Technology revenue improved sequentially, down 4% year over year versus down 5% in Q1 at constant currency, but this was helped by an easier compare and we expect equipment revenue will continue to be pressured given the challenging macro conditions.

We were pleased with the margin performance despite being down from last year. Sequentially, gross margin improved 100 basis points to 32% and operating margin improved 120 basis points to 9.7%. Year-over-year gross margin was down 140 basis points driven by Services and mix while Technology gross margin was actually 20 basis points better.

The drivers of the decline are generally consistent with what we saw in Q1. Services margin saw good sequential improvement, but, as anticipated, we have margin compression due to new contract ramp-up costs and this remains the largest driver of year-over-year margin decline. Also, the increasing Services mix continues to impact gross margin, but is fairly neutral to operating margin. The gross margin on our Services business is half that of our Technology segment, so the strong growth in services has a direct impact on overall gross margin.

We, again, saw good progress in expense efficiencies with SG&A improvement of 50 basis points. As a result, operating margin was down 70 basis points year over year. We continue to expect operating margin to show year-over-year improvement by Q4.

Restructuring of $29 million was $38 million higher year over year and it is important to note it is fully reflected in our adjusted results. Tax rate of 22.4% was lower than prior year. The EPS impact from higher restructuring and lower tax rate offset each other on a year-over-year basis. Adjusted EPS of $0.26 was down $0.01 from 2011 with the only adjustment to reported EPS being the amortization of intangibles.

Moving on to segment performance, let me start with Services. Services revenue was up 7% in Q2. The growth rate was somewhat lower than Q1, driven by BPO. This reflected some timing of revenues and some lower volumes in areas such as transportation and customer care. ITO showed good revenue acceleration and was up 9%. New contracts signed in recent quarters are now beginning to ramp and we have about 3 points of growth related to intercompany services as this business is taking over more of our own IT infrastructure. We, of course, eliminated intercompany growth within total Services. Also, document outsourcing continues to show a good pace of growth, up 6% at constant currency.

Given the muted economic environment, we believe this overall performance confirms the strength of our diversified services portfolio. We expect growth in Q3 will be in line or better than Q2. It is worth noting that the Q2 growth was almost entirely organic, but clearly we will continue to support services growth with tuck-in acquisitions. The latest examples being the WDS and Lateral Data acquisitions that Ursula just highlighted.

Signings in Q2 were lower year over year and down 1% on a trailing 12-month basis. The year-over-year decline is caused by less renewal potential this year despite a strong 89% renewal rate for the combined BPO and ITO business. New business signings on a trailing 12-month basis are up 13% and continue to drive our revenue performance. Services margin of 10.6%, while down year over year, showed a 130 basis point sequential improvement. We continue to expect that by Q4 Services margin would show year-over-year improvement and will be within our 11% to 13% target range for services.

Let's now turn to the Technology segment. Technology revenue was down 4% and document-related revenues, which includes document outsourcing, were down 2% at constant currency. Despite a sequential improvement in technology revenue, it is fair to say we saw increased pressure on our results from the macro environment. Equipment in particular was lower than anticipated, driven by weakness in Europe and the continued success of our Partner Print Services offering, which results in some revenue shifting from Technology to Services.

The sequential improvement in revenue was driven by unbundled supplies, which was up 5% versus down 7% in Q1. Unbundled supplies represent a little less than 20% of our technology revenues and it is predominately aligned with entry products. It can be volatile given channel inventory dynamics, which is what we saw in Q1 and in Q2.

Looking at product segments, part of the weakness in equipment revenue was mix. We saw a rebound in entry thanks to new products and OEM sales. High end showed very strong color install growth, but this was driven primarily by the entry production products and midrange was impacted by the migration of Managed Print Services.

We are planning for equipment revenue to continue to be weak in Q3 and therefore for total revenue declines to be down mid-single digits for Technology. Segment margin of 11.3% was down slightly from 2011, but reflected continued cost and expense control and was above our 9% to 11% target range for Technology. There are obviously a number of different dynamics at play in the market and as we move to the key metrics slide, I would like to give some additional insight into how we view and how we are managing our different businesses.

Let's look first at Services. The Company has gone through a transformation over the past two years with Services now accounting for over 51% of total revenues and we clearly expect this trend to continue. A few important points to make regarding our position in services and future expectations. We are a leader in a number of very attractive and growing Services segments, including healthcare, both government and commercial, commercial BPO areas such as human resource outsourcing and transaction processing, as well as transportation.

We have strength in three very important capability areas -- ITO, customer care and document management -- which we leverage across all of our lines of business. And we have a tremendous opportunity to increase our capabilities, leverage innovation to build greater differentiation and expand globally. This should lead to greater operating leverage and value add, which will improve not only revenue, but margins over time. Services will be the growth driver for the Company and also will make us a more valued partner to our entire customer base.

In terms of Technology, I want to address how we are managing the continued impact of a weak macro environment. First, we have been gaining market share for several quarters and we do not have significant exposure in some of the areas of greatest secular pressure such as consumer and single function devices. For instance, when you look at the metrics on this slide, they are generally stable and in some cases positive.

Second, we continue to selectively invest in areas where we see the greatest growth opportunities such as small and medium-sized business, Managed Print Services and color. And third, we have realized sooner than many that there are specific areas of secular pressure such as transaction (inaudible) printing that impact us. As a result, since the end of 2008, we have proactively worked to make our business more annuity-based, our cost base more flexible and our investments more focused.

Our document-related business remains attractive. It has a very large annuity stream and good cash dynamics, limited capital requirements and committed revenue streams. We are the global market leader, have great technology and strong customer relationships and we can leverage these characteristics to strengthen our Services business further.

If we now turn to the next slide, I will take a moment to review Q2 cash flow. Cash from operations was a source of $228 million, which compares to a source of $347 million in 2011. Through the first half, cash flow was $213 million versus $317 million in 2011. This is fully in line with our expectations as the driver of the year-over-year decrease is the timing of pension contributions. Cash contributions to our global pension plans in Q2 were $158 million, which was $80 million higher than 2011. We now expect second-half contributions of approximately $150 million versus $303 million last year.

We spent $115 million on CapEx, which is consistent with our annual forecast of around $500 million and we decreased debt by $455 million. Dividends paid was $63 million and we repurchased $306 million of stock. This was an acceleration compared to our original plan and we continue to plan to repurchase between $900 million and $1.1 billion for the year weighted towards the end of the year. Finally, we remain on track for $2 billion to $2.3 billion of operating cash flow for the year.

Let us turn to the next slide to review our capital structure. Our Q2 ending debt balance decreased to $9.2 billion. In May, we retired $1.1 billion in senior notes, which was the only term debt coming due this year. From a maturity standpoint, we maintain a well-balanced debt ladder with just about $1 billion coming due annually.

During the course of the year, our debt balance may change moderately given timing of cash flows, but we continue to plan for $8.6 billion for year-end debt. The vast majority of our debt is in support of our financing of customer leases. Of the $9.2 billion debt balance, $5.6 billion can be associated with the financing of Xerox equipment for our customers. The finance debt is calculated assuming a 7 to 1 leverage of our financed assets of $6.4 billion. These finance assets represent committed revenue streams from our customers.

In Q2, as I said, we made good progress on share repurchase, $306 million or 41 million shares. We have said all along that our repurchases will be back-half-weighted given timing of cash flows, but we are maximizing what we can do in the near term given the share price opportunity.

In summary, we continue to be focused on growing and improving the profitability of our Services business while maintaining our profitable leadership in Technology. We are seeing the impact of macro weakness, but believe we are well-positioned to have steady revenues and profits through this time. In terms of capital allocation, we remain committed to using our strong cash flow to return value to shareholders through share repurchase, dividends and accretive tuck-in acquisitions. With that, I will hand it back to Ursula.

Thanks, Luca. Let me quickly wrap up so that we can get to your questions. Our results in the second quarter reflect consistent progress. Growth in Services, increase in annuity revenue, the steady pace of increasing installs and color MIFs, sequential margin improvement in Services, disciplined cost management and on-track performance with cash generation and capital allocations all delivered to build value for our stakeholders and more value in our business.

Our guidance on cash remains unchanged and we remain committed to investing in share repurchase throughout the year. For the third quarter, we expect adjusted earnings of $0.24 to $0.26 per share and we now expect full-year adjusted EPS of $1.07 to $1.12, which comprehends the continued revenue weakness that we are expecting from our technology business.

With that, I thank you again for joining us today and as we get to your questions, I know that you'll want to dive deeper into trends, especially in our Services business. So we have in the room with us today Lynn Blodgett who is the President of our Xerox Services business. Now let's open it up to your questions and I will field them and ask either Lynn or Luca to chime in as well.

(Operator Instructions). Shannon Cross, Cross Research.

Thank you very much. Good morning. I guess the first question, Ursula, is can you talk a little bit about what you are seeing in terms of the pressure on the technology side, whether you see this as a cyclical issue? Clearly, Europe is weak from an economic standpoint. Or more of a secular trend. I think you have talked about it some in the past. But I am curious if you have seen any changes in maybe the rate of decline on the secular side. Just any clarity you can give us there would be helpful.

Thank you. It's a good question. I think one that many people have, so we are going to spend a little bit of time talking our way through this. First, let me start with secular, the secular trends that we are seeing in the marketplace. We see a growth in color almost across the board. So mid-range, high end, places that we anticipate. We see that in color MIF increasing and color pages increasing. We see a shift, a decided shift towards Managed Print Services away from single function devices. We don't have a very large business in single function devices, black and white or color at the low end and we took advantage of this lack of participation by driving, by starting and then driving our Managed Print Services business.

More and more customers are pushing towards Managed Print Services. There is no doubt about it. All of our competitors are now engaged in Managed Print Services. We have been engaged for a long time and we are leading. That is the second secular trend. We see growth in small and midsize businesses everywhere around the world, the US and in developing economies particularly.

We see a move away from, which we have seen for quite a few years now, high-end black-and-white transactional pages. That move is continuing; it has not slowed down. The momentum is there and we have recognized that and baked that into our business model and our guidance on a go-forward basis.

We have not seen a slowdown or a shift in those secular trends at all. If you look at the macro environment, and then I will bring it all together, we have seen a considered slowing of business in Europe. We saw this a little bit later than most, but in the first quarter -- and in the first quarter, we definitely started to see the pickup. We have seen acceleration of that softness in the second quarter -- towards the end of the second quarter. That is the reason why we have adjusted our guidance downward. We are now assuming and planning for mid-single digit declines in equipment revenue in the Technology segment. This is -- in revenue in the Technology segment. This is a big change from where we were in the first quarter. We were thinking that we could hold that to flat to low single digits. And now I think that is not a realistic expectation.

So secular trends haven't changed. I mean we haven't seen the change. If you look at North America and DMO, we still see pickup in color, move to MPS, a slowdown in high-end black-and-white printing, a pickup of SMB businesses. So that is still there and on a macro side, we are definitely seeing a weak Europe. I hope that answered it.

Yes, no, that was helpful. My next question is for Lynn actually or Ursula, whoever wants to take it. Can you talk a bit about what is going on on the healthcare side in your Services business? Opportunities, challenges, given Obama Care and all that's sort of developing right now?

Yes, I will have Lynn take it. We are pleased, really pleased and very excited about healthcare, but I will have Lynn dive into it. It is a real winner for us.

Shannon, thank you. As you know, we are very well-positioned in all of the aspects of healthcare. Our healthcare business has grown and is now a significant part of the overall portfolio. And we have services in the private sector, both in the payer and the provider side and on the government side. And so the whole effort around affordable care is something that we feel we are very well-positioned for, as well as just the continued evolution on the private side. So we feel very, very good about our position in healthcare.

Can you give us sort of an idea of how big it is?

It is right now about $2 billion of the portfolio, so about 10% of the overall portfolio and it is growing nicely.

And that $2 billion is just for the healthcare provision in BPO and ITO. We have -- obviously, in our Technology side, we have support of the healthcare as well. But for the Services business, BPO and ITO, we are definitely a leader here. We also have just recently won some new business throughout the States and you will be seeing that in the next quarter.

Great. And then my final question for Luca, we have been hearing more about sort of questions about the leasing business, your thoughts on how big of a leasing business you need to maintain given your mix or your migration to Services. So can you talk a little bit about how you think about the leasing business strategically?

Well, the leasing business is directly related to our equipment revenue. We support our customers by financing those leases. 85% of all the equipment that we sell is financed by ourselves to our customers. You would see that the size of the portfolio has come down a bit in line with the decline in equipment revenue. It is really part and parcel of our go-to-market strategy. It is a great differentiator for us in the marketplace, particularly at times when credit becomes difficult. So it is a business that we like because it is very profitable and it is very much bundled together with the rest of the Technology business. It will follow -- in terms of the sizing, it will follow very much the progression in our Technology revenue and particularly equipment revenue.

Is this something that you need to keep in the same size you have or is it something where you could look for partners though over time?

Well, again, it is a profitable business. Of course, if we can find more efficient ways to run it, we will do so. At this point, again, it is a very profitable business and that is the way we are keeping it right now.

Great, thank you very much.

Ben Reitzes, Barclays Capital.

Yes, hi. I wanted to ask you if we should be concerned about Services bookings down 26% in the quarter after being down 27% year over year the prior quarter on some pretty easy compares and the drop-off in the renewal rate.

So, Ben, let me start with the renewal rate. Let me start with the renewal rate. The renewal rate was excellent during the second quarter. We were at 89% with the top of our range of 85% to 90%. The drop in bookings very much driven by less renewal potential. Less renewal potential is not necessarily bad. It means that we got long-term contracts and in this given quarter, we didn't have much to renew and as you know, renewing contracts tends to bring some compression in margins.

If you look at our new business signings and you look at it on a trailing 12-month basis, actually we are up 13%, very good. And by the way, we have seen some level of delays in decision-making during the quarter, particularly in document outsourcing. Our pipeline has now grown 10% in the quarter. So new business signings up 13%, pipeline up 10%. So we are not concerned about the progression of signings.

Probably the other thing -- this issue of renewal, it is kind of an interesting metric because it actually is better for us -- if you consider the risk that is associated with renewals, and as Luca said with margin compression, the fact that we don't have much up for renewal is a good thing and we renewed a high percentage of that. So we feel very good about renewals and we are glad there wasn't a lot up for grabs.

Do you have another question?

Yes, with regard to the Technology segment, if you could just kind of talk a little bit more about your positioning. What we are seeing is a rapid drop-off in a lot of the entry level and the inkjet -- some of the inkjet areas for certain players. And I was just wondering if you could talk about your relative positioning among the segments. You tend to call an entry level at a higher level than some of the others. And if you could just talk about your relative positioning there by the segment and what kind of deceleration you are expecting.

Right. So there are two ways to look at this. First is on the traditional single function, single function, low-end either consumer or very small business, very, very small business market. We are a de minimis player in that portion of the market. We serve those customers through resellers, any resellers who are interested in taking our products and moving it. We are a very, very small player there.

The next segment is a little bit higher up in the SMB place and primarily color and multifunction devices, A4 configuration, but some small A3 as well. You look at our installed growth across entry, we have grown installs in all of those places. And even in the very, very small color printers, A4 color and A4 mono, but we are relatively small in this segment and serve it through resellers.

The way we participate here is through MPS and MPS does two things for us. One, we can deliver some of our technology into a client's account, SMB and large customers as well, but we also, through our success in MPS, take over pages in clients accounts that are not done on our technology today.

So what we are seeing is definitely a softening of the market potential for the small devices, particularly single function devices and we participate in that not by bringing new technology only, but by bringing a new offer called MPS. I hope that answered it.

Yes. And could you just clarify what kind of growth rate now you expect at the high end considering I think it has a disproportionate share of the EBIT in this segment?

We expect to continue to grow color, high-end color, mid to high and high-end color installs and activity and revenue, particularly in color and we expect to continue to see weakness or declines, revenue declines in our high-end black-and-white business. There is no doubt about either of those things.

I think that that -- yes, so the trends haven't changed. We are still shifting towards color. We're still moving some pages down from offset to color driven by applications. That is why we are seeing, even in a weak economic environment, some buoyancy in color, the color metrics and we are definitely continuing to see the move from black-and-white in the high end.

Okay, thanks a lot.

Keith Bachman, BMO Capital Markets.

Thank you. I would like to extend Ben's question for a second if I could. On bookings, A, what are you anticipating for the next couple quarters? The compares certainly don't get any easier. And then part -- I will save part B to that question, but if we could just go over A for a second.

We anticipate a sequential progression in signings. We know we signed a lot during the course of the second half of last year, but clearly we expect signings acceleration as we get into Q3.

The pipeline is growing -- the pipeline is strong and is growing. It has grown 10% and is growing across the three lines of business and in subsegments of the business. So we are not seeing a concentration of pipeline at all and we are seeing expansion in just about all of the lines. So we do expect, as Luca said, for signings to continue to be strong.

Okay, but if I extend that for a second, let's presume for the year, because right now you are down 26% year over year first half, so let's say you are down 20% to 25% for the year on your bookings. With that as an assumption, will you still be able to grow Services say in the mid single digits to high single digits as you look out over calendar year '13?

Yes, I think that the signings rate that you are looking at is a little bit misleading because of the renewals. And again, if we don't have the challenge of renewing something, that is better than it coming up for renewal because we don't have a reprice and that is skewing the number.

As Luca said, we definitely have a difficult compare in the second half, but we expect bookings, new business bookings, which are the things that -- new business bookings and renewal rate are the two things -- not renewal volume, but renewal rate are the things that drive growth and because those are improving, we feel comfortable in maintaining the growth rate.

Okay, let me ask another on Services. Ursula, for you, the tuck-in acquisitions is identified as being $300 million to $400 million for the full year. Is that a run rate we should be thinking about even as we look at CY'13?

We haven't given a lot of guidance on CY'13, but I would say that acquisitions across the board in both Services -- across the board in Services and in distribution, a little bit less there, are part of the business model for us. So tuck-in acquisitions is something that you should continue to see, particularly in Services, for the foreseeable future.

Okay, I am going to ask one more and then I will cede the floor. For Lynn, if I could, Lynn, could you just describe how your direct level reports have changed in the last year as the business has changed? And what I am interested in is the influx of say Xerox people or even adding to third parties from the Accentures or the IBMs of the world that would help in the consulting side of the business or ITO areas.

Well, I think that we have a very good mix, particularly in my direct reports, of people who have experience from the private sector and the public sector. We have continued to, over the last year, to align the operating officers on a more vertical basis so we have a commercial healthcare person, a government healthcare person and so on. So we think that improves the focus and the subject matter expertise. And we have had nice movement of people from the traditional ACS side of the business over into the Xerox ranks and vice versa.

So my Chief Financial Officer, for example, is directly from Xerox and has been a tremendous addition to us and we continue to look outside. We try to promote from within as much as we can and we also know that you have to have a healthy mix of new talent. A lot of our new talent comes via acquisition and that is probably the biggest source of influx of new talent. But we, because of each competitor that we have goes through cycles and when one is having difficulties, we try to take advantage of that and hire talent from those people.

All right. Thanks very much.

Next question please.

Ananda Baruah, Brean Murray.

Thanks, guys, good morning. Thanks for taking the question. I guess the first one is for Luca. Luca, can you walk through how much wiggle room, I guess through the cash flow dynamics for a CFO, and I know you sound like you said you came in line with what you were expecting this quarter. I think it was a little bit lighter than what most folks were expecting. So can you talk through sort of the wiggle room in the reiteration of the guidance for the second half of the year? Sort of I guess how comfortable are you now with that guidance because you didn't lower it, but you are lowering overall P&L guidance? And maybe what some of the influences are in there and are there any tailwinds that we should be thinking of?

Sure. And let me start with the issue of guidance. So we feel comfortable with the $2 billion to $2.3 billion, even though we have taken earnings down. When you look at our reduction of guidance in EPS, when you do the math, it translates to approximately $100 million of pretax cash earnings. So obviously that is a headwind.

What offsets that is the fact that a portion of the reduction comes from equipment and so also our leasing business will reduce -- our leasing receivables will come down and that will give us a partial offset in cash. And the other tailwind that we have is that we now expect our pension contributions to be about $50 million lower than we were forecasting previously because of this recent pension funding legislation that was passed at the end of June. So that is why we end up with the similar cash flow as prior quarter.

When we look at it in progression first half versus second half, again, we have delivered exactly the same level of cash flow in 2012, the first half versus the first six months of 2011, when you exclude the different timing of the pension contributions. So as we look ahead, and we know how much cash we have delivered last year, again, we think we can be well within the range.

Awesome, thanks. And I guess probably for Luca and for Lynn, on the Services operating margin expectations for the second half of the year, how does macro softness or does macro softness influence what you guys are expecting from Services operating margins through the year? And then I have a follow-up to that as well.

In general, Services is much more resilient to the macro, but there are areas of our Services business that, and we have seen it already in Q2 where, for example, transportation or customer care, that you end up getting lower volumes with lower levels of activity. But as we look at our progression, we've said it before, we expect that by Q4, we will be within our target range, 11% to 13%, for Services operating margins and we were pleased with the progress we made in Q2. We expect Q3 to be more or less in that ballpark that we have seen for Q2.

Luca, --

Last one, Ananda. Let's make it quick.

It is just a follow-up on that. Are the operating margins in Services, have they been tracking relative to your expectations? And do you have any -- is there anything that can positively offset some of the lower volumes like lower unemployment claims or something like that?

Well, of course, we have such a diversified portfolio that you always get some offset. But, again, in Q2, our operating margin in Services was slightly ahead of our expectations.

Bill Shope, Goldman Sachs.

Thanks. I have a question on the supplies revenue growth. You had mentioned that it was partially driven by timing of purchases for channel partners. Could you dig into that a bit more and help us understand how much of an impact that had on growth?

And then off of that, how should we think about the growth pattern as a result of that in the third and fourth quarters? And then I guess finally on that, how should we think about macro risk to supplies consumption in coming quarters given that I think some of your competitors are starting to see some consumption pressure as a result of the macro environment?

Yes, so let me start with Q1 and Q2. There were inventory dynamics in Q1 that were kind of negative, so we were down 7%. In Q2, the positive 5%, Bill, is a combination of an easier compare because of the Japan situation last year and I would say it goes about 50/50. Some of it was the reversal of some of this inventory dynamic, some of it was the easier compare.

As we look at the second half of the year, we expect some slight decline. So when you look at the full year for supplies, down slightly for the full year, which is exactly what we said last time around. And of course, some of it is around macro weakness.

And you asked about the supplies consumption and how is it tied to macro. Remember that these supplies that we are reporting here is not all of the supplies that we actually sell in our business. Most of the supplies are bundled in our contracts. This is about 20% of the supplies and as Luca said, it is volatile given our channel partners buying at certain times versus pricing, etc. and their cash flow needs.

But on the major portion of our business, the supplies are trending towards the macro environment, which is a move towards color, a move towards MPS, all the things -- and a move away from black-and-white at the high end. That is in the business model and incorporated in how our supplies are being consumed.

Okay, that's helpful. And then one more question. There has been quite a bit of variability on share count estimates for you guys, particularly as folks try to fine-tune the timing of the buybacks. Just so we are all level set, can you help us understand how you are thinking about the diluted share count dynamic in the third and fourth quarter and as we exit the year?

Yes, so Bill, we provided on page 20 of our deck, we provided you with fully diluted shares as of June 30, right, that we are 1.366 billion. And then you need to think about it in terms of the different dynamics. We are going to be buying back shares throughout the quarter I would say relatively consistently and we will be issuing some minor amounts for stock compensation plans. And then you need to do the average of the three months and then you come out with weighted average shares for adjusted EPS for Q3. And then you take whatever is the ending point, and that would be your starting point for Q4. I hope it is clear enough, but clearly we can give you much more detail if you want separately.

Well, I guess just to clarify, the variability particularly is on the fourth quarter. Some folks have a pretty significant decline in the share count because of buyback assumptions. So specifically if you could help us understand how we should think about that sequential move with the back-end-loaded nature of your buyback.

No, right. I mean you are not going to see it -- you are not going to see the full impact, right, because it is going to be a weighted average of the three months of Q4. So for the purposes of EPS, it is obviously a limited impact. You will have the full effect only starting in January of 2015.

Okay. Makes sense. I appreciate it. Thank you.

Mark Moskowitz, JPMorgan.

Yes, thanks, good morning. The first question is more high level. Just curious here, Ursula or Lynn, if you are starting to see some folks pull forward purchases because they are worried about decreased purchasing power owing to currency fluctuations down the road. So are you worried that maybe the forward quarters are maybe being mortgaged here in the very near term because of some currency issues?

Not at all. Not at all. We are not seeing -- that dynamic is an interesting one that you just said. We are not seeing that. We see a healthy mix of people telling us that they are going to wait, people buying now and people -- we don't see a lot of people saying please I want to buy earlier. We are seeing a normal business mix here, particularly on the Services side.

On the technology side, what we are seeing is people saying, for any large equipment purchase, let me think about it a little bit more and for -- and therefore sweating their assets a little bit more. We see equipment sale revenue softness with that. That is primarily happening in Europe, but we are also seeing in the United States a mix down. So people are buying, particularly in color for example. Our color install growth and activity growth was at the lower end of the high segment of that market. And so you see huge activity growth, but it doesn't always translate to revenue because the number of devices, the size of the devices are smaller. But we are not seeing people move forward stuff and therefore putting pressure on our go-forward.

Okay. And then the other question here either for Luca or Lynn, just kind of curious here in terms of the Services business. You are definitely signaling it appears that the gross margin improvements in Services are sustainable and I am trying to figure out how that impacts the cash flow. Are we getting to the point now where you are going to finally see later this year and early 2013 that positive inflection point where the startup costs of a lot of these Services engagements starts to fade and thereby you start having better gross margin, but also better cash flow? And is that supporting the cash flow reiteration for 2012?

So first of all on gross margins, and I think you were asking about operating margins on the Services side as well. Let me repeat. We expect to see -- to come out of 2012 at an operating margin level for Services which is better than in 2011. And obviously, we believe that that will carry forward in 2013 and give us some tailwind.

Regarding capital use and the ramp-up of these contracts, clearly the investments that we have made for the contracts that we are ramping up are declining because we have now ramped up these contracts. But we want to continue to grow this business and depending on the profile of the contracts that we are going to be signing, there is going to be capital requirements. And certainly we are not going to shy away from growing the Services business because it requires some capital investment upfront.

From an operating cash flow perspective, I just repeat what I just said before. We are comfortable with our guidance and it includes the type of investments that we need to make for the Services business. This year in general, the Services business has fewer megadeals than we have seen in 2010 and 2011. These megadeals typically require additional capital. So when you do a compare year over year, there is less use of capital on the Services side for new contracts.

Okay, thank you.

Chris Whitmore, Deutsche Bank.

Thanks very much. I wanted to ask about the competitive environment on both the Technology business and the Services business. Ursula, on technology, in your prepared remarks, you indicated you are gaining some market share, so I was hoping to flesh that out a little bit. Where are you seeing market share gains, against which competitors and in which segments?

And then secondly as it relates to Services and the deferral of activity that you referenced, are you likewise seeing an increasing competitive environment or pricing environment on those new contracts?

I will take the share and then I will have Lynn chime in on the pricing environment of Services. So on competitive environment in Technology, we are absolutely gaining share, publicly reported, externally reported positioning. We gained share in -- we have gained share in all segments of the business in North America and in developing markets. And it is kind of hard to tell what is exactly happening in Europe. It seems like we are gaining share there as well, but we also have some share weakness in certain segments. So potentially, yes, we are gaining share.

If I can just interject -- in terms of the deferral of opportunities that was alluded to, that is, first of all, not substantial and it is not driven by a change in competition. It has much more to do with people just being a little more cautious in their decisioning process. We are always asked about the change in competition or are we seeing a significant shift from one competitor to another. Because we are in so many different markets, we deal with competitors, a very wide set of competitors and in general, we haven't seen any sort of a material shift in the competitive landscape.

Let me go back to Technology. So as I said, we are gaining share particularly in the United States and in key markets, in developing markets. We are gaining in most segments and the competitors that we are taking from are the traditional competitors. I mean there is Ricoh who has some challenges that they are working their way through -- they are working their way through in 2012. There is HP, there is -- I mean normal places, different competitors, different segments. The most competitive segment right now is the high end of the color printing business is probably the most competitive segment and we are holding our own there and in certain places winning share.

My follow-up is around R&D and your commitment to R&D. On a year-on-year basis, R&D is down 8%; on a two-year basis, it is down 17%. Is this level of R&D sustainable over time and can you continue to cut R&D and remain competitive in Tech Services?

Important to keep in mind that, when you look at our R&D numbers, they are only a fraction of what we spend. Our R&D activities are coordinated with Fuji Xerox in Japan and when you combine the R&D spend of the two companies, you actually conclude that our R&D investment in Technology is very healthy. There are some areas of R&D, particularly the non-core areas where obviously we are looking for cost efficiencies and we look for outsourcing opportunity in that space, but those are again I repeat non-core portions of R&D. We feel very good about our product development capabilities as is reflected in the fact that we have been gaining market share for several quarters.

And innovation in Services shows up in a shift that we are making in our core R&D that you see reported, but also a lot of innovation in Services happens in a way that doesn't come out -- it is almost in the operating expense line of the business. So we are very focused on R&D, on innovation, very focused on innovation. We are coordinating with Fuji Xerox and we are absolutely not stepping away from being a market leader in all of the areas that we said we are focused on. That is Services, all lines, small and medium-sized business that we have a lot of effort there, color for sure and MPS. Spending a lot of money in those areas and we will continue on a go-forward basis. Next question.

Alban Gashi, Credit Suisse.

Hi, good morning. I guess my question is, as the Technology business comes down throughout the year given the equipment downturn, how does that impact the Technology margins as you get higher supply side? And then a quick follow-up for Lynn on Services.

No, obviously, without a doubt, that is the reason why we've reduced guidance on EPS. Without a doubt, a slowdown in equipment and a slowdown in Technology revenue in general has an impact on margins. So we are going to see some lower margins on the Technology side. The way we deal with it is the way we have been dealing with it for many years, which is really relentless focus on cost management and trying to grow those areas of the business that provides some growth opportunity. But that is fundamentally the reason why we have taken EPS down.

Okay. And then I guess, Lynn, on the Services margin, as you get back into your target range of 11% to 13%, can you put into context some of the drivers between the mega contracts maturing, overall operational improvements and then just revenue growth and mix sort of ranking them?

Well, I think the biggest contributor would be the ramping of the megadeals. As Luca said, we haven't had as many megadeals this year as last year so that in and of itself should provide us some relief, but we also want to continue -- we never want to shy away from an opportunity that has a reasonable return associated with it because of the startup expense. And so we think it will come from the lower megadeal. As we implement, we improve operational efficiency. So you have that investment that happens when you are starting up and then you have a natural improvement in productivity just as the contract matures that will also contribute. But we hope that our bookings will continue strong and so that will counterbalance that to a certain extent.

And I guess just a quick follow-up to that, as you end the year in the fourth quarter, you said you expect it to be higher year over year than the fourth quarter of last year. But I guess where do you expect it to be within the 11% to 13% range?

Within that range.

Lower, higher end?

Yes, solidly within the range.

Solidly within the range. We will give you more -- we have an investor conference in November and we will be able to give you more detail about the Services business and the progression that we are making there, which is very strong, very good on just about every operational line. And the Technology business, where we still have a very strong position, we will be able to lay out in more detail what we expect for 2013 and beyond at the investor conference.

So thanks for your time and for your interest and please enjoy the weekend. Thank you.

This does conclude today's conference call. You may now disconnect.