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Editor's note: In light of Xerox's latest earnings warning, issued today, Peter Eavis' Xerox warning, posted yesterday, is worth another read.





Under the Microscope
Xerox over a month

The market is buzzing with rumors that the copier giant could soon release new information about its restructuring efforts and its debt position, which many observers deem to be precarious. The Stamford, Conn.-based firm has reported severe operating difficulties over the past year. And it's close to exhausting a $7 billion loan made by a multibank syndicate led by




Bank One






J.P. Morgan



By watching how banks treat Xerox at a juncture like this, much can be learned about how big lenders view problem borrowers at a time when the economy is slowing and when investors are dumping bank stocks due to bad-loan fears. In the short term, if the banks continue to support Xerox, it would a sign that they think the company's restructuring plan -- involving a hoped-for $1 billion in cost cuts and asset sales worth $2 billion to $4 billion -- has a good chance of providing enough cash to meet debt payments through 2001.


Beyond that, it's far from clear whether Xerox can execute the sort of operational recovery needed to ensure that debt repayments can be made over the next few years -- and its bankers are likely keenly aware of the steep challenges the firm faces.

Perhaps adding to any reluctance among banks to come up with a new debt agreement, financial industry regulators are said to be clamping down on the practice of softening conditions on loans to troubled companies to keep them from default.

Xerox's recent plunge

Xerox's stock slipped 7.6% Wednesday to $6.13, a level that's nearly 80% below the 52-week high.

If Xerox does make an announcement imminently, here are some areas that investors need to be keeping a close eye on.

First, exactly how much of the $7 billion revolver loan has been drawn down. At the end of October, Xerox had used up $5.3 billion. It was expected to use up another $1.1 billion by the end of this year to pay off other debts. As a result, the company is thought to have only $600 million left at its disposal.

However, even that sum may have been taken up to cope with the possible ramifications of a

Moody's Investors Service

ratings downgrade that took Xerox's debt below investment grade, leaving it with so-called junk status. Moody's move could have forced Xerox to spend $110 million to repurchase derivative contracts and refinance a $315 million credit secured with receivables.


One recent positive development that has partially eased cash flow fears is Xerox's sale of its China operations to

Fuji Xerox

for $550 million cash. The sale is scheduled to close Wednesday. A gain of about $100 million is expected on this sale. Xerox would get a huge boost if it were to announce before year-end that it's close to selling its stake in Fuji Xerox, which could raise over $1 billion.

Another all-important number is Xerox's tangible net worth (net worth minus intangible assets, such as the value of intellectual property rights). If this drops below $3.2 billion, Xerox will have broken the only financial covenant in the agreement for the $7 billion credit. At the end of the third quarter, the net worth number was around $4.2 billion. But if the company were to have a very bad fourth quarter and a raft of charges related to its internal restructuring, that $1 billion cushion could shrink considerably. Analysts expect Xerox to lose 7 cents a share in the fourth quarter, narrowing the third quarter's 20-cent loss.

Xerox still has at least one credit avenue open, according to Moody's analyst Richard Lane. He says existing loan and bond agreements allow the company to make secured borrowings in the region of $800 million. Creditors can't say no to Xerox using this opportunity, but if it does decide to, it'll add to fears surrounding the cash crunch.

Also important is for Xerox to provide reassuring comments on next year's cash needs. The company has operating cash needs of $600 million to $1 billion in the first half of 2001, according to

Credit Suisse First Boston's

Allterton Smith. And debt maturities totaling about $1.25 billion will come due in 2001. Meanwhile, the company's cash generation appears to be falling far short of those needs. "Xerox could generate over $200 million from operations (excluding financing)" in 2001, according to a report from


Benjamin Reitzes.

Know any companies that the market may be misvaluing? Detox would like to hear about them. Please send all feedback to

In keeping with TSC's editorial policy, Peter Eavis doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships.