Revising Lexmark Price to $37 Per Share

Lexmark International (NYSE:LXK) released its earnings results on July 23rd and results were decidedly mixes. ^[1]   A look at its financial statements indicates that the debt it took to finance the acquisition of Kofax has left the company cash strapped. This is negatively impacting our valuation of the company. Furthermore, apart from the negative impact from exiting inkjet industry, its laser printer division has been unable to buck the downward trend in the world wide printer hardware industry. However, the company is aggressively building its software business to diversify from the flagging printer industry, where competition from bigger players such as HP and Canon limits the growth for smaller companies. Lexmark is focusing on high margin process management software services, laser printer hardware and Managed Print Services (MPS). The company continues to acquire companies that will be integrated with Perceptive Software to bolster its business process management offering. After considering all these factors, we have revised Lexmark’s price to $36.80. In this article, we explore the factors that justify our valuation of Lexmark.

See our full analysis on Lexmark

New Acquisition Weighs On Balance Sheet

Lexmark’s cash position has declined from a surplus of $97 million (net of debt) to a deficit of $924 million. The primary reason for this deficit was the $1.01 billion acquisition of Kofax, which was financed by $400 million in  new debt and $600 million cash and equivalents. This negatively impacted the valuation of the stock by 45%. This decline was offset by 28% due to assimilation of Kofax revenues into Perceptive division, its enterprise software business.

Acquisition To Drive Growth At Perceptive Software

The Perceptive software division is the second biggest business unit and makes up 17.3% of Lexmark’s estimated value. Perceptive Software is becoming an increasingly important division for Lexmark as it plans to become an end-to-end solution provider. We project that revenue for this division is expected to increase approximately $600 million or 18% of its total revenues in 2015, primarily due to revenues from Kofax. However, organic growth (net of Kofax revenues) is expected to be close to 15% for 2015.

Furthermore, the content and process management software markets that Lexmark participates in are projected to grow in aggregate approximately 11% annually over the next several years. Currently, we expect Perceptive’s revenues to grow from $313 million in 2014 (prior to Kofax) to over $940 million by 2022. We also expect the seamless integration of Perceptive’s array of solutions with MPS to bolster revenue for the company. Moreover, the revenues from this division can be significantly higher in the future, due to organic and inorganic growth that can help the company to capture a bigger chunk of $12 billion ECM-BPM industry. If Perceptive’s revenues were to increase to $1.2 billion, our stock price can potentially increase by 5%.

Focus On High End Inkjet And MPS To Drive Growth

According to IDC, the worldwide hardcopy peripherals market shipment declined by 2.5% in Q1 2015. ^[2] The past trend indicates that demand for inkjet and Laser printer remains tepid. The total single function printer market declined -8.0% year over year in the first quarter, and total multifunction peripheral (MFP) shipments decreased by -0.3%. However, MFPs showed strong performance in all color laser speed ranges, especially in 31-44 ppm, growing 19.9% year over year.

In the recent quarters, Lexmark’s unit sales of printer hardware and supplies have declined in line with the decline in printer hardware industry. However, Lexmark has been restructuring its business in light of the emerging trends in the printer hardware industry. Lexmark exited from its low margin inkjet printer business and increased its focus on the higher margin laser printers, especially MFP. Furthermore, it is extensively focusing on the A4 (paper format) printer segment that forms 76% of total printer sales and witnessed 12.1% year-over-year growth in first quarter.  While the laser printer market has flat lined at 40.4 million, Trefis estimates that Lexmark’s push in the sub-segment will result in improvement in its market share by 10 basis points to 4.61% by 2022.

Additionally, the company is offering managed print services (MPS), under which the procurement (of hardware and cartridges), maintenance (of printers and printing solutions) and other aspects of printing managed by Lexmark. As a result of these efforts, Lexmark’s MPS contracts have increased. This has positively impacted its printer supplies business. We believe that MPS integrated with Perceptive’s solutions will deliver value to Lexmark’s growing client base. We expect MPS to become the biggest driver of revenue in ISS division going forward. Due to MPS contracts, we expect Lexmark’s laser cartridge pricing to stabilize at $227.

Additionally, the contribution from services to MPS business remains small. Currently, we forecast other parts and services revenue, which is primarily MPS revenues, to remain flat at $187 million.  However, if Lexmark bags more MPS contracts then this figure can be significantly higher.

You can drag the trend lines in the interactive charts above to see how various scenarios for laser printer market share, cartridges per laser printer and Perceptive software revenues affect Lexmark’s stock value.

We have updated Lexmark price estimate to $36.80 , which is 14.5% above its current market price.

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More Trefis Research

1. Read our  “Lexmark Earnings” Kofax Boosts Revenues Even as Printers Suffers” [↩]
2. Worldwide Hardcopy Peripherals Market Shows a Small Dip in the First Quarter of 2015, According to IDC, May 21 2015, www.idc.com [↩]