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We maintain our long-term Neutral recommendation on Lexmark International Inc. based on the company’s weak third quarter 2012 results and deterring fourth quarter guidance.

In the third quarter of 2012, LXK’s revenue dropped 19.2% year over year 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%.

Rising expenses continued to pressure margins and the company’s GAAP earnings per share (EPS) broke even compared with 86 cents in the year-ago quarter. Adjusting restructuring-related charges as well as acquisition-related adjustments, non-GAAP EPS was 94 cents per share compared with 95 cents in the year-ago quarter.

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 82–92 cents a share.

The printing industry is going through tough times with the ongoing macro softness. The sluggish economy in the U.S. as well as the Euro zone crisis has been prompting many businesses to postpone big purchases until clearer signs of stability. Lexmark’s relatively high European exposure is also a matter of concern. If the macro pressures begin to suppress new hardware sales and consumption patterns in this region, sales of the company could see further decline.

Also, demand for printers is slowing down due to increasing usage of digital content through mobile devices. Many organizations are moving toward digitization of content and are becoming “paperless” since the switchover is reducing operating costs.

But we believe Lexmark could fight back the situation with its leading position in the managed printing services (MPS) arena. This service provides end-to-end printing solutions starting from printing equipment, supplies, service and overall management. Considering its growing exposure, research firms Gartner and IDC recognized the company as a leading MPS vendor in October 2012.

Apart from this, we believe that Lexmark's growing exposure in the software space through consecutive acquisitions will prove beneficial. It is evident from the fact that the company has been posting solid revenue growth in its software segment for the past quarters.

Estimate Revision Trend

Over the last 60 days, out of the 9 estimates for fiscal 2012, 3 estimates were raised while 5 estimates were revised downward. However, magnitude of estimate remained unchanged at $3.78 for fiscal 2012 in the last 60 days. Over the past 90 days, the Zacks Consensus Estimate for fiscal 2012 increased by 4 cents.

Currently, Lexmark International has a Zacks #3 Rank (Hold). Lexmark’s archrival Hewlett-Packard Co. also has a Zacks #3 Rank (Hold).

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