State of the Industry: Five Years After the Recession

by Charles Brewer, Actionable Intelligence

If we believe the observations of the National Bureau of Economic Research (NBER), an esteemed group of economists whose word is gospel when it comes to the growth and decline of the U.S. economy, the recession ended in June 2009. Hallelujah! But it seems hard to believe that the recession ended five years ago. Not because of any syrupy notions about how “time flies,” but simply because it is hard to believe that the recession ended so long ago, and things still don’t feel like they’ve normalized yet.

But numbers don’t lie. If we look how rapidly the U.S. economy is expanding, we see that GDP growth is almost where it was 10 years ago. See Figure 1. Corporate bank accounts are bursting and balance sheets are strong. Wall Street has taken notice and stocks are soaring. With some regularity, the various U.S. exchanges reach record highs. 

So if everything is so great, what’s going on with our industry? Overall, as a group, hardware manufacturers are doing modestly well. The days of big quarterly declines are behind us. Most firms — but not all — are reporting at least modest growth. Compared to pre-recession days, however, unit shipments are down in most hardware categories and so is cartridge consumption. As a result, revenue is down for most manufacturers compared to 2007 — and for some it is way down. So, is the state of the industry strong? Well, you tell me.

HP: Industry proxy

I see Hewlett-Packard’s printing group as the industry’s bellwether, and things at the market leader look pretty good these days. In May, HP President and CEO Meg Whitman reported the company’s second quarter results and the printer group is doing well. Total hardware shipments were up for the fourth consecutive quarter. While total revenue for HP’s printing group declined 4.3 percent to $5.83 billion in Q2 2014 from $6.09 billion a year ago, profits surged roughly 3.7 points, jumping from 15.8 percent in the second quarter of last year to 19.5 percent this year. See Figure 2.

It appears that HP is cashing in on all the investments it has made over the years in inkjet technology. Unlike its competitors, for the past four quarters HP has reported that it shipped more inkjet hardware during the respective quarter than in the previous year. More importantly, ink cartridge sales are strong and now represent over half of HP’s total supply revenue. Executives for the company including Whitman and CFO Cathie Lesjak have indicated that market reception of HP’s OfficeJet Pro X series — the high-speed inkjet machines HP launched last year for business users — has been excellent.

But there are two sides to every coin. While inkjet sales are good and expected to strengthen even more, LaserJet sales are down. Whitman conceded that the installed base of LaserJets is shrinking. Presumably more troubling is the fact that sales of laser cartridges are soft and expected to remain so throughout HP’s fiscal year, which ends on October 31. Although she did not mention it in May, in the Q1 earnings calls Whitman said that laser cartridge sales are being stymied by so-called cloned cartridges—cheap knockoffs that are copied with no regard whatsoever for the OEM’s intellectual property. 

Of course, all of this news must be of great concern to Canon. The Japanese hardware maker supplies HP with all of its laser print engines and toner cartridges. In 2013, 17.6 percent of Canon’s revenue came from sales of engines and consumables to HP. The folks in Tokyo must be fretting as the LaserJet population contracts and more cloned cartridges flood the market. This situation for Canon is made that much more precarious by the fact that HP recently tapped Sharp to provide it with print engines for higher-end A3 copiers. That deal is limited to just a few machines but it must be unsettling to Canon nonetheless. I suspect that the most troubling piece of news for Canon, however, is HP’s thriving inkjet business. It is clear that HP’s focus right now is deploying more Officejet units to see if it can push its profits even higher.

I should point out, despite all its success, Whitman said during the Q2 earnings call that HP may layoff as many as 16,000 additional employees. These job cuts will be in addition to the others implemented at the firm over the past couple of years. In May 2012, HP initially announced it would eliminate 27,000 jobs by the end of 2014 but with the job cuts mentioned by Whitman in May, that total may now swell to some 50,000 employees.

Thus I refute HP

Any weakness in HP’s LaserJet business does not appear to be impacting Canon’s business — at least not yet. Canon missed its projected revenue numbers for FY 13 but the shortfall was slight and it appears to be more related to Canon’s ailing camera business than poor sales of printers and copiers. Canon’s total annual sales were actually up a respectable 7.2 percent from ?3.480 trillion in fiscal 2012 to ?3.731 trillion in FY 13, which ended on December 31, 2013. The number was just shy of the firm’s forecasted sales of ?3.75 trillion, which led to much investor hand-wringing. Canon’s operating profit in fiscal 2013 was ?337.3 billion, up 4.1 percent from the year prior and its full-year net income was ?230.5 billion versus ?224.6 billion in fiscal 2012, a 2.6 percent increase. 

For fiscal 2013, Canon’s Office Business Unit, which markets laser-based copiers and printers, delivered net sales of ?2.0 trillion, a 13.8 percent increase from ?1.76 trillion in fiscal 2012. Helped by a weaker yen that I’ll discuss later, the group’s full-year operating profit ballooned 31.1 percent to ?266.9 billion. Canon said that demand for printers and printer-based MFPs were up last year, contrary to HP’s comments. Unit shipments of color laser units were up 16 percent for the year compared to 2012, and likewise monochrome unit shipments jumped 13 percent. Canon said that demand for color office MFDs such as the imageRUNNER ADVANCE C5200/C2200 was a big revenue driver in 2013. For the year, net sales of color copiers were up 17.2 percent.

Canon reported its first quarter results for FY 14 on April 24, and, as well as it did last year, it appears to be on track to do even better this year. Net sales, operating profit, and net income all grew in Q1 FY 14, which ended on March 31, compared with the first quarter of 2013. Sales grew 6.3 percent to ?868.3 billion and the first-quarter operating profit was up a robust 50.9 percent year-over-year to ?82.6 billion. Net income grew 16.4 percent from ?40.9 billion in the first quarter of 2013 to ?47.6 billion in the quarter ended this March.

Canon’s Office Business Unit contributed a lot to the firm’s overall first quarter performance. The group had net sales of ?509.2 billion, an increase of 9.7 percent over net sales of ?464.2 billion in the prior year’s first quarter. Operating profit for the group was up 20.6 percent from ?60.1 billion in Q1 FY 13 to  ?72.5 billion this year. The imageRUNNER ADVANCE C5200/C2200 series was popular in Q1, which helped push year-over-year color copier unit shipments up 7 percent and grew net sales of color copiers by 6.3 percent. Shipments of monochrome copier units were flat year-over-year in the first quarter, but net sales of these units grew 4.9 percent. Apparently, Canon’s color printer-based MFPs are selling like hotcakes. The firm reported that unit shipments grew 31 percent compared to last year but shipments of monochrome printer units slid 2 percent. Total printer net sales grew 8.3 percent.

The other Americans

Lexmark’s business has come out of its doldrums over the past couple of quarters, thanks in large measure to mushrooming laser cartridge sales. Lexmark is also selling more hardware and appears to be enjoying some success with its profitable managed print services (MPS) and Perceptive Software businesses. Xerox, on the other hand, continues to limp along as it tries to morph into a successful services provider. Xerox reported weak hardware and consumables sales last year, and unfortunately, its Services business has been lackluster this year with fairly low margins.

After pulling the plug on its inkjet business in 2012, Lexmark has struggled. That was a costly exercise, which has put constant pressure on the firm’s bottom line ever since. Lexmark also struggles with top-line pressures as it attempts to move up market and pursue higher-volume print environments. The firm has lost the cash that sales of lower-end machines provide as well as the cash from inkjet sales. While good news at the end of last year made it appear that the strategy might be working, the company reported in April its revenue was essentially flat in Q1 14, totaling $878 million compared to $884 million in 2013. The firm’s gross profit margin grew to 38.9 percent up from 38.0 percent a year ago, but the operating margin slid to 6.1 percent, down from 7.0 percent in the first quarter of 2013.

Lexmark noted that its laser cartridge sales continued to climb during Q1, which was a good thing. Obviously, without those sales, total revenue would have been down at the firm. In fact, Lexmark’s laser supplies business accounted for all of its laser business’s growth in Q1. Hardware revenue actually declined 8 percent in the quarter. The firm saw a 1 percent growth in laser hardware unit shipments in the first quarter, but average unit revenue shrank 8 percent. Lexmark reported that its laser supplies sales were up 9 percent compared with the first quarter of 2013. Presumably the aggressive campaign it is waging against third-party supplies vendors is working. But this is a stopgap measure at best. Lexmark must place more units if it hopes to continue to organically grow its laser business and sell more cartridges in the future.

Meanwhile, the situation at Xerox is less than ideal. After weak hardware sales last year, the firm reported in April that revenue from its Services business was flat in the first quarter of this year and margins slipped. Total Xerox revenue in the first quarter of 2014 stood at $5.1 billion, a 2 percent decline from the first quarter of 2013. First-quarter Services revenue was $2.92 billion, which is flat compared with Q1 13, and the Document Technology revenue was $2.0 billion, tumbling 4 percent from $2.1 billion during Q1 of last year. Xerox’s first-quarter gross margin slipped several hundred basis points to 30.2 percent, compared with 30.5 percent a year ago. The firm’s operating margin improved, however, to 8.6 percent during the first quarter, up from 7.5 percent last year.

Xerox recognizes equipment sales both in its Document Technology business and its Services business. Total company equipment sales were $715 million in the first quarter, down 1 percent from $724 million in the year-ago period. In Q1 FY 14, Xerox’s sales of unbundled supplies and paper amounted to $557 million, down 2 percent from $559 million in the first quarter of last year. 

Fortunately, margins for the Document Technology business improved, climbing a healthy 3.4 percent from the first quarter of 2013 to 12.2 percent. Unfortunately, margins on the Services business in the first quarter of 2014 dipped 700 basis points to 8.6 percent compared the first quarter of last year. Chairman and CEO Ursula Burns said that the company experienced  “higher-than-anticipated investments in our government healthcare business as we implement new Medicaid and health insurance exchange platforms.” Given that the Xerox long-term growth strategy is to be “services led,” this was unfortunate news indeed. The company lowered its guidance for the full-year margin in its Services segment and its 2014 earnings.

Turning Japanese

The American OEMs must be wishing they could be more like their Japanese counterparts, at least as far as their businesses go. The fiscal year ends for most Japanese companies on March 31, and for many of these firms, the year just ending was a good one. These Asian companies, however, did not discover some new way to spark demand in the largely disinterested market. Rather, the strong sales that Japanese companies enjoyed last year with a few exceptions came from the fact that the yen is being deflated and they could sell their products more cheaply. Japan is in the midst of an economic recovery plan cooked up by prime minister Shinzo Abe and his ministers. The fundamentals of what is often referred to as “abenomics” calls for a weaker yen to assist Japanese manufacturers, and these businesses will grow the economy.

 Konica Minolta had an excellent year. Annual net sales reached ?943.8 billion, up 16.1 percent from ?813.1 billion during the previous year. Compared to the year ending March 31, 2013, operating income jumped 43.0 percent to ?58.1 billion as net income rose 44.5 percent to ?21.9 billion. The numbers are a little misleading, however, because last year the firm suffered an extraordinary loss on its retirement plan and fixed asset impairment, including some production equipment. Its operating profit in 2013 was further impacted by delays in its cost-reduction plans for certain new products and deteriorating European market conditions. The firm also suffered because of a shift in the mix of the Business Technology Business products toward lower-end models in its fourth-quarter sales. This year, A3 color MFPs were credited with driving revenue growth as the firm shipped more units and improved net sales. Production print sales of both color and monochrome units were also up, as were sales of its Optimized Print Services, which includes both IT services and an MPS component.

Long seen as the sick man of the Big Three copier companies, Ricoh has reversed its fortunes of late. The firm managed to deliver quarter after quarter of sales and income growth compared with the year prior. In the end, it had annual net sales of nearly ?2.24 trillion, up 16.2 percent from the previous year, and exceeding the firm’s forecasted net sales of ?2.20 trillion for the full year. The company’s full-year operating income was  ?120.3 billion, which was up an impressive 89.8 percent and net income rose a whooping 124.3 percent. 

Up 16.9 percent from the year prior, Ricoh’s Imaging and Solutions segment contributed ?1.97 trillion to the firm’s total revenue. Office imaging sales grew 11.1 percent year-over-year to ?1.48 trillion, and production printing sales grew 25.9 percent to ?185.0 billion. Monochrome MFP sales shrank 13 percent, while sales of color MFPs grew 4 percent. Black-and-white and color office printer sales declined by 3 percent and 8 percent, respectively. In production printing, sales of black-and-white devices declined by 5 percent but color production sales grew a robust 34 percent. Meanwhile, MDS sales increased 10 percent and IT services sales increased 27 percent. 

When it reported its earnings on May 8 for the past fiscal year, Japan’s other long-suffering hardware manufacturer, OKI Electric Industry, indicated that its turnaround efforts are beginning to bear fruit. Up 6 percent from the previous fiscal year, OKI’s net sales for the year totaled ?483.1 billion. While net sales showed a respectable gain, they were just under the ?484.0 billion the firm had forecast. OKI’s operating income grew a spectacular 101.8 percent year-over-year to ?27.2 billion, and net income proved just as robust growing 101.2 percent to ?27.4 billion. Although OKI failed to meet its net sales target, these figures exceed the guidance given by the company earlier in the year when it projected a full-year operating income of ?26.0 billion and net income of ?25.0 billion. Earlier this year, to improve profitability, OKI announced it would undertake certain cost-cutting actions such as eliminating 800 jobs and standardizing its printer engines to reduce the number of platforms by 60 percent. It appears the scheme is working

OKI credited its steady Info-Telecom Systems business performance along with restructuring of the company’s printer business for the positive net sales results. It had good news about its color and monochrome LED business, saying sales increased due to the introduction of new models. In addition, OKI’s product mix of office printers improved as sales shifted toward higher value-added models. Not all of OKI’s news was good, however. Sales of the firm’s dot matrix printers experienced declines and the company continues to be adversely affected by suspending sales activities at its Spanish sales office, which had been misreporting business results for several years.

Good enough?

I overlooked a couple of companies, but I think you get the picture. Most firms are currently enjoying improved sales and profitability, although much of the improvement is coming from the weaker yen rather than stronger market demand. In the States, the profitability of HP’s printer business is expanding as it successfully places more inkjet units. Sales of laser hardware are down at HP, Lexmark, and Xerox, however. HP notwithstanding, much of the industry’s growth is coming from the same areas: color MFPs, production color, and services, including managed print services.

But looking at where things are today relative to 2007, we still have further to go. Of the Japanese firms I reviewed, Ricoh is the only one generating more revenue now than it did five years ago — and that’s really only because Ricoh had nowhere to go but up. In terms of the U.S. companies, the situation is similar. Of the three companies I reviewed, only Xerox’s revenue is higher than it was in 2007. That rise in revenue is not organic, however; it comes from Xerox’s purchase of Affiliated Computer Services (ACS), which added billions of dollars to Xerox’s top line. See Figure 3.

So the industry still is not back to its prerecessionary levels. The truth is — and I think most folks realize it — we probably never will get back to 2007. There are plenty of headwinds, such as an overall move away from hardcopy as more technological alternatives like smartphones and tablets become available. I would expect to see some degree of growth, however. The economy in the U.S. still has room to add more jobs in order to return to where it was prerecession. In December 2007, when we slipped into the recession, the U.S. unemployment rate was at 5 percent. The latest numbers released from the U.S. Department of Labor indicate that unemployment was at 6.3 percent in May 2014. If we can add jobs and come close to the 5 percent mark, there will be more people printing. The same is true in Europe. The region should continue to grow jobs and print volumes should grow as a result. See Figure 4.

Of course, it is really impossible to say what will happen. When the National Bureau of Economic Research announced in September 2010 that the recession was over, it reported that it was the longest recession since World War II. Previously, the longest postwar recessions came in 1973-75 and 1981-82, and each lasted 16 months, while the 2007-09 recession lasted 18 months. So we are in uncharted waters. Regardless, I think that we can say that the state of the industry is stronger than it has been in awhile and one should expect to see more growth.  

For full-size charts, download the PDF edition of The Imaging Channel July 2014.

Contact Charles Brewer at cbrewer@action-intell.com or www.action-intell.com

This article originally appeared in the July 2014 issue of The Imaging Channel.