An Image Problem At Xerox

By Daniel Eisenberg

Pity the poor copier. long the undisputed king of office equipment, the mighty Xerox machine has of late become more like an adding machine, an ancient workhorse being shunted aside by smaller, cheaper and better gadgets--in the case of Xerox, a sexy array of PCs, printers and scanners. For any office drone who has ever cursed a paper misfeed or the dreaded ADD TONER warning, the end of the copier's reign is welcome. But it has put Xerox, the $19 billion-a-year imaging pioneer, in quite a jam.

Like AT&T, with its shrinking long-distance business, and any number of one-technology companies before it, Xerox is caught in what business gurus call a paradigm shift. And it is desperately trying to figure a way out. As white collars increasingly rely on e-mail and download documents from the Net, fewer copies are being made each year, and sales of machines are nearly flat. At the same time, traditional analog copiers are being replaced by souped-up, hybrid digital devices plugged into a computer network and capable of copying, printing and scanning. At the high-tech, high-output end of the copier business, in a segment Xerox once had all to it- self, competitors have finally caught up. To make matters worse, the company's immensely proud, even arrogant corporate culture rebelled at management's latest attempt to reorganize--a revolt that cost the CEO his job and left big customers feeling neglected. The end result: the company's profits and its stock price are in free fall.

This week that rebellion will be crushed--along with thousands of jobs--as Xerox is expected to announce its latest massive restructuring. Last week the company was reportedly considering selling its debt-ridden financing operation, which lends money to prospective customers, to GE Capital. It has also discussed selling Xerox PARC, its research center in Silicon Valley, a source of great innovation--from the computer mouse to the graphical user interface and laser printer--but, thanks to the missteps of top brass, not a source of much income.

In many respects, Xerox has actually done a fair job of adapting to the changing environment: more than half its revenues now come from digital products, its color machines are wildly popular, and it is well positioned to be a leader in on-demand, custom publishing. But a slew of newly aggressive players, from Canon and Ricoh to Hewlett-Packard, have done better, steadily encroaching on its once exclusive, very lucrative turf. From 1997 to 1999, Xerox's estimated share of the $1.3 billion-a-year, high-end, black-and-white production copier market in the U.S., where the real money is made, dropped from the near monopoly level of 75% to 45%, according to Cap Ventures, a document consulting firm in Norwell, Mass. "This transition has played to our strengths," says Dennis Amorosano, a marketing director at Canon, which has used its networking savvy--as well as lower manufacturing and overhead costs that make its machines 10% to 30% cheaper--to steal some of Xerox's business.

The bungled realignment of Xerox's vaunted sales organization--once the gold standard for corporate America--only worsened the firm's bad situation. Like most traditional sales forces, Xerox's was organized geographically, right down to the street level. But Xerox decided it needed the majority of its 15,000 U.S. direct-sales reps to focus on specific industries, such as banking, graphic arts or the public sector, rather than geographic regions.

While the strategy is sound, the execution was anything but. Without sufficient training, copier sales reps were suddenly attempting to speak a foreign language, about sophisticated computer networks. As they tried to get up to speed on their new assignments, they quickly became demoralized, turf wars ensued, and accounts were lost in the shuffle, leaving them all too vulnerable. A concurrent reorganization of the company's byzantine back-office operations, which caused customer bills and orders to pile up, only added to the chaos. As Daniel Kunstler, senior analyst at JP Morgan, puts it, "If the person you want to date stops returning your calls, you might try to find someone else to date, or get very lonely." Some of Xerox's most talented reps, including field generals in the U.S. and Europe, have fled. At its worst, the turnover rate has reached 40%, and key positions are still vacant.

The botched reorganization derailed CEO Rick Thoman. An IBM and American Express executive and a Lou Gerstner protege, Thoman was brought in as CEO last year to turn Xerox into a high-tech dynamo. His sin was not his strategy but his sense of urgency. Thoman believed Xerox had to move fast, but the troops were not ready. "There's a fine touch between knowing what to do and when to do it," an insider says of Thoman's leadership. Thoman was replaced by former Xerox chief Paul Allaire.

Three weeks ago, Xerox issued its fourth profit warning in little over a year, telling already wary investors that sagging sales and high costs would cause its first quarterly loss in a decade and a half. Allaire and president and COO Anne Mulcahy, his recently anointed heir apparent, who were unavailable for comment last week, candidly admitted to analysts that the company has an "unsustainable business model."

No wonder Wall Street has lost confidence in "the document company," as it rechristened itself a few years ago. Over the past 18 months, its stock has dropped from a high of $63 to as low as $6 (it closed up a bit, to nearly $9, on Friday); its market value has collapsed almost $40 billion to a piddling $5.6 billion. Xerox has cut its quarterly dividends 75%, to 5[cents]. As it's not currently welcome in the bond market, where its credit rating has sunk to near junk-bond status, Xerox had to tap a $7 billion revolving credit line, setting off rumors that it might be on the verge of bankruptcy. (Xerox says there is no liquidity crisis.)

This week, when Allaire and Mulcahy, a well-liked 24-year veteran of the company, formally disclose the damage, they'll do their best to put that speculation to rest and chart a turnaround strategy. Saddled with $17 billion in debt, Xerox is a bloated company that needs to trim the fat--and fast--to compete with the Japanese and rivals in Silicon Valley. Besides getting rid of the credit division and Xerox PARC, options include bailing on its Japanese joint venture with Fuji.

That won't solve the company's revenue problems. Xerox has cut bundling deals with Compaq and Dell to push its fledgling line of ink-jet printers, and it is spending $200 million on its biggest advertising blitz ever. But it's having a tough time taking on H-P in the hot personal and small-business space. "They're never going to beat [them]," says Frank Pacetta, vice president of sales at SingleSource IT and a 20-year Xerox veteran.

Nor will cutbacks address problems at the other end of the spectrum. For much of the past decade, even in the digital segment, Xerox has virtually owned the upper end of the market with its DocuTech line of copiers and high-speed printers--tanklike, six-figure machines that can spit out up to 180 pages a minute and are sold primarily to governments, universities, commercial printers and large corporations. Servicing and supporting those machines has been the company's real cash cow. In the past year, however, Canon, IBM and German printer Heidelberger--which, ironically, purchased its technology from Xerox's old Rochester, N.Y., brother-in-arms, Kodak--have come up with a product to rival Xerox's. Though these upstart machines don't have as many bells and whistles, they're more than adequate for companies that increasingly prefer slimmed-down, more open technology that works better with all sorts of software programs. They have also handed customers some valuable bargaining leverage in dealing with Xerox.

"The actual printing engine is becoming more and more of a commodity," says Ross Waddell, vice president of purchasing at copy giant Kinko's, which, while still Xerox's largest commercial customer, has diversified its equipment base by signing a multimillion-dollar deal with IBM to manage a complex network of high-speed Heidelberger copiers.

Xerox recognizes this, and part of Thoman's mandate was, in fact, to turn the company from a seller of boxes to a seller of services, a so-called solutions provider like IBM that would help bewildered companies manage their document flow. That is easier said than done. Apart from the challenge of taking on established powerhouses like IBM and EDS, Xerox has had to deal with a perception problem. "Xerox, as a brand, is so associated with copying that it's almost like Kleenex trying to sell paper towels," notes Charlie Corr, a group director at Cap Ventures. The difference is that people, and companies, will keep buying lots of tissues. But before long, there won't be anything for those plain old copiers to copy.