Lexmark's 3Q Mixed, View Disappoints

Lexmark International Inc. ( LXK - Analyst Report ) has posted third quarter 2012 earnings per share (EPS) of 94 cents, outshining the Zacks Consensus Estimate of 78 cents and the company’s guidance range of 75–85 cents.

Revenue

Lexmark’s third quarter revenue of $919.2 million dropped 11.2% from $1.03 billion in the year-ago quarter and was lower than the Zacks Consensus Estimate of $923.0 million. The year-over-year decline was roughly in line with the company’s expected range of 9.0–11.0%. The dampened year over year comparison was due to currency headwinds, weakness in Europe and its exit from the Inkjet business.

On a year-over-year basis, Hardware revenues declined 24.0% while Supplies dropped 10.0%. However, Software and Other revenue climbed 25.0%.

Imaging Solutions and Services revenue decreased 13.0% year over year. Perceptive Software revenue grew 88.0% year over year to $41.0 million.

Operating Results

Gross margin in the quarter was 35.7%, down from 36.9% in the year-ago quarter due to unfavorable mix.

Reported operating margin was 1.3% compared to 9.6% in the year-ago quarter. Total operating expense increased 11.8% due to a 6.7% rise in selling, general and administrative expense and higher one-time expenses. This was partially offset by a 1.6% decline in research and development expenses.

Net income on a GAAP basis broke even (0 cent per share) as against $67.0 million or 86 cents in the year-ago quarter. Adjusting for restructuring-related charges as well as acquisition-related adjustments, non-GAAP net income was 94 cents per share compared with 95 cents in the year-ago quarter.

Balance Sheet & Cash Flow

Lexmark ended the quarter with $859.3 million in cash, cash equivalents and marketable securities, down from $915.8 million in the previous quarter. The reduced cash balance was due to share buyback and dividend payment during the quarter. Trade receivables were $522.9 million and inventories were $288.5 million. The company’s long-term debt balance remained flat sequentially at $649.4 million.

The company generated $133.0 million in cash from operations, up from $49.0 million in the previous quarter. Capital expenditures totaled $38.0 million, flat sequentially.

Lexmark bought back shares worth $120.0 million during the third quarter. The company had roughly $251.0 million remaining under its existing share repurchase authorization at quarter end. Moreover, the company paid a quarterly dividend of 30 cents per share, totaling $21.0 million.

Guidance

For the fourth quarter of 2012, management expects revenue to decline 10.0% to 12.0% year over year. Earnings on a GAAP basis are expected in the range of 17–27 cents per share.

Excluding the restructuring charges and acquisition-related adjustments, non-GAAP earnings are expected in the range of 82 cents–92 cents. However, the Zacks Consensus Estimate for the fourth quarter is pegged at 89 cents, which is above the midpoint of the company’s guided range.

Our Take

Lexmark’s third quarter results were modest with the bottom line surpassing the Zacks Consensus Estimate, but revenue missing the same. Guidance for the fourth quarter was deterring, too, reflecting slowing demand. Though new products launched during the quarter could win back lost market share, their impact on results could still be some way off.

Though the restructuring and share buyback plans could boost share prices in the near term, the overall outlook for the printing industry will remain bearish. Demand for printers is slowing down due to increasing usage of digital content through mobile devices.

Lexmark is doing really well in the Managed Printing Services (MPS) market. It has been declared a leader in this market by the research firms IDC and Gartner. The company recently clinched a 5-year deal from the renowned oil and gas producer Statoil ASA ( STO - Analyst Report ) for a sum of $20.0 million.

Though constant pricing pressure from competitors such as Canon Inc., Xerox Corp. ( XRX - Analyst Report ) and Hewlett-Packard Co. ( HPQ - Analyst Report ) and a high debt burden will be a concern, we expect Lexmark to turn the table with increased focus on software and services.

Currently, Lexmark has a Zacks #2 Rank, implying a short-term “Buy” rating.