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In HP-Xerox Dance, The Next Move Belongs To HP, Expert Says

‘It wasn’t like Xerox was taking a massively unlevered company and levering them up. They were starting with a company that was already kind of levered on their balance sheet,’ says Ric Thomas, professor of practice with the Sawyer Business School at Suffolk University.

For anyone hoping to see HP and Xerox come together in a merger of the copier and printer kings, the last card to play belongs to HP, said one expert.

And, Ric Thomas, a professor of practice with the Sawyer Business School at Suffolk University in Boston, wouldn’t be surprised if HP used it.

“You have two competitors in a similar industry with shrinking market share,” he said. “HP has done a little better in this environment, because while people are working from home, personal computers are in demand. I wouldn’t be surprised if something like that happened.”

However, with the coronavirus pandemic wreaking havoc on global markets, there are likely no conditions under which the two already indebted companies can find a path forward together in the short term, he said.

“HP has a shareholder meeting coming up,” he said. “I can’t imagine they would propose to take over Xerox at that meeting, but you never know.”

Xerox announced it was scrapping its months-long takeover bid for HP on Tuesday, saying the coronavirus pandemic had created too difficult an environment to push a deal forward. The deal which was financed with a $24 billion loan from three banks, and partially funded by Xerox stock, would have paid HP stockholders $24 a share. HP traded at $15.49 up $0.66 cents yesterday afternoon.

Thomas has a 25-year history in the investment management field, overseeing the active quantitative equity business, as well as asset allocation research at State Street Global Advisors. He said occasionally an acquirer can find unused leverage on the acquired’ s balance sheet and with that soften the debt burden needed to finance a deal.

However, HP had negative book equity, meaning its liabilities were greater than its assets, coming into the deal, and before the global outbreak of COVID-19.

“HP had been using all of its earnings over the last few years to buy back stock, or pay off debt,” Thomas said. “So they had been using a lot of their cash to shrink their balance sheet. It wasn’t like Xerox was taking a massively unlevered company and levering them up. They were starting with a company that was already kind of levered on their balance sheet.”

The two companies had about $10 billion in combined debt before Xerox planned on borrowing an additional $24 billion to take over a company in a deal that was valued up to $33 billion. Even if Xerox achieved the $2 billion in cost savings it touted would happen if the two companies merged, the resulting debt would be difficult to manage, he said.

“Now you’re looking at putting another $24 to $33 billion in debt on that entity? That seems pretty aggressive,” Thomas said. “It would take a lot of synergies to make that work.”

The deal had the backing of Carl Icahn, as the largest single owner of Xerox and one of the largest shareholders of HP. That made the deal seem feasible given the legendary corporate raider’s history of improbable take overs, however, Thomas said it could not overcome the economic impact of the global health crisis.

“Xerox still had to come up with another $9 billion in cash. That’s either coming through stock issuance, or they’re going to have to issue debt. So what are we seeing with debt right now? They’re a high yield company. Their debt is junk bond rated,” Thomas said. “They’d have to borrow at probably 10 or 12 percent. I just don’t see that happening. All of a sudden the cost of capital went way up. The deal no longer makes sense. They had to walk away.”

While many Xerox partners saw the benefits of the combination, Xerox Accredited Master Elite Partner, Josh Justice, president of Just Tech in La Plata, Md., said he believes the company will go harder into IT services in its next phase.

“I think it’s a smart move that Xerox has been getting into IT services, I know they’re building that in the U.S.,” he said. “I launched my IT services company 10 years ago. It wasn’t really getting huge until year five. Now its booming. As I told you my IT services company, we picked up three new clients this month.”

He said in the current climate, Justice said he could move some workers from the printer copier side of his business to the IT services side until demand for imaging devices returns.

“Right now everything depends on the coronavirus and how long it effects us,” he said. “We are still selling somewhat. I think in the long term, regardless of what happens with any acquisition, Xerox has a lot of opportunities in working with partners. There’s going to be a lot of built up demand. I think for partners in the SMB community, the second half of the year could be huge.”

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