What changed in this filing

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Item 2. Management’s Discussion and Analysis

2021-04-30 compared with 2020-11-04 · 291 added, 490 removed, 327 unchanged (70% of the section changed)

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References herein to “we,” “us,” “our,” the “Company” refer collectively to both Xerox Holdings and Xerox unless the context suggests otherwise.

Currently, Xerox Holdings' sole direct subsidiary is Xerox and therefore Xerox reflects the entirety of Xerox Holdings' operations.

Accordingly, the following MD&A solely focuses on the operations of Xerox and is intended to help the reader understand the results of operations and financial condition of Xerox.

References to "Xerox Holdings Corporation" refer to the stand-alone parent company and do not include its subsidiaries.

References to "Xerox Corporation" refer to the stand-alone company and do not include subsidiaries.

Currently, Xerox Holdings' primary direct operating subsidiary is Xerox and Xerox reflects nearly all of Xerox Holdings' operations.

Accordingly, the following MD&A primarily focuses on the operations of Xerox and is intended to help the reader understand Xerox's business and its results of operations and financial condition.

The MD&A is provided as a supplement to, and should be read in conjunction with, the Condensed Consolidated Financial Statements and the accompanying notes.

Throughout the MD&A, references are made to various notes in the Condensed Consolidated Financial Statements which appear in Item 1 of this form 10-Q, and the information contained in such notes is incorporated by reference into the MD&A in the places where such references are made.

Throughout this MD&A, references are made to various notes in the Condensed Consolidated Financial Statements which appear in Item 1 of this Quarterly Report on Form 10-Q, and the information contained in such notes is incorporated by reference into the MD&A in the places where such references are made.

Xerox Holdings' other direct operating subsidiary is CareAR, Inc.

(CareAR), a small SaaS solutions provider, which was acquired in 2020.

CareAR incurred approximately $1 million of Selling, administrative and general expenses and $1 million of Amortization of intangible assets, net in first quarter of 2021.

Due to their immaterial nature, and for ease of discussion, CareAR's expenses are included in this discussion with Xerox's costs and expenses.

Currency Impact

To understand the trends in our business, we believe that it is helpful to analyze the impact of changes in the translation of foreign currencies into U.S.

To understand the trends in the business, we believe that it is helpful to analyze the impact of changes in the translation of foreign currencies into U.S.

Dollars on revenue and expenses.

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Impact of COVID-19 on Our Business Operations

In response to the COVID-19 pandemic, we have prioritized the health and safety of our employees, customers and partners to support their needs in the current hybrid environment so work can be done flawlessly migrating between the workplace and the home-office.

While we continue to implement actions to mitigate the effects of the pandemic on our business and operations, the uncertainty around its trajectory, duration and economic impact make it difficult for the company to predict its full impact on our business operations and financial performance.

As a result, we are not providing specific financial guidance at this time.

During the third quarter, corresponding with business reopenings, the rate of decline of equipment installations (including in areas of our business that support our hybrid workplace initiatives) improved, as did printed-page volumes.

These operational improvements resulted in a moderation of our rate of revenue decline during the third quarter as compared to the second quarter, which gives us confidence in the resilience and readiness of our business to recover as progress is made to control the pandemic and as businesses and economies reopen.

We have modeled the impacts on our business of numerous recovery scenarios and expect to deliver positive earnings and operating cash flows from continuing operations, after capital expenditures, in the fourth quarter.

However, the ongoing resurgence of the virus around the globe, and the impact it is having in forcing new restrictions and lockdowns, leads us to anticipate that our revenues will continue to decline significantly as compared to the prior year, as businesses hold off or delay purchases until there is a more certain path to controlling the pandemic and to economic recovery.

During the current year, the most significant impact from the pandemic has been on sales of our equipment and unbundled supplies.

However, due to their transactional nature, these revenues experienced the largest recovery during the third quarter and we expect that they will continue to fluctuate and gradually improve concurrent with business reopenings.

Our bundled services contracts, on average, include a minimum fixed charge and a significant variable component based on print volumes.

The variable charges are impacted by our customers' employees not being in the office using our equipment due to lock-downs or capacity restrictions in office buildings.

We expect that this contractual relationship will continue to enable us to ramp up and support our customers' needs as businesses resume operations.

We have a strong balance sheet and sufficient liquidity, including access to our undrawn $1.8 billion revolver.

We further strengthened our liquidity by refinancing our 2020 debt maturities in the third quarter 2020 and early-redeeming a portion of our 2021 debt maturities in October with the proceeds from the issuance of new senior unsecured notes and from a finance receivables securitization.

With our Project Own It transformation and cost

Xerox 2020 Form 10-Q

savings, we built a more flexible cost structure, and have also focused our efforts on incremental actions to prioritize and preserve cash as we manage through the pandemic.

These actions include the use of available temporary government assistance measures and furlough programs, and the reduction of discretionary spend such as near-term targeted marketing programs, the use of contract employees, and the temporary suspension of 401(k) matching contributions, as well as lower compensation incentives consistent with lower sales and operating results.

Government Assistance and Furlough Programs

In response to the COVID-19 pandemic, various governments have enacted or continue to contemplate temporary measures to provide aid and economic stimulus directly to companies through cash grants and credits or indirectly through payments to temporarily furloughed employees.

On March 27, 2020, in response to the COVID-19 pandemic, the U.S.

government enacted the Coronavirus Aid, Relief, and Economic Security Act (the "CARES Act").

In addition to including temporary changes to income and non-income-based tax laws, the CARES Act provides refundable employee retention credits and defers the requirement to remit the employer-paid portion of social security payroll taxes.

Similar pay protection programs were enacted in Canada and Europe that primarily provide direct grants to companies to cover the salary and wages of employees (retained or temporarily furloughed).

During the three and nine months ended September 30, 2020, we recognized savings of approximately $35 million and $95 million, respectively, from these temporary measures in the U.S., Canada and Europe, including $28 million and $81 million, respectively, from various government assistance programs and $7 million and $14 million, respectively, from furlough programs.

Through the use of these programs, we have thus far been able to provide an offset to our costs, without further use of cash, while largely maintaining our employee base and minimizing the financial impact to our employees.

There were no material impacts to our income tax expense in the second or third quarters of 2020 as a result of the temporary changes included in the CARES Act and we expect to defer payment of the employer-paid portion of social security payroll taxes through the end of calendar year 2020;

however, this deferral will be reduced by employee retention credits as earned during 2020.

Savings were recorded as follows in the Condensed Consolidated Statements of Income:

(in millions) Three Months Ended September 30, 2020 Nine Months Ended September 30, 2020

Cost of sales $ 1 $ 1

Cost of services, maintenance and rentals 25 65

Research, development and engineering expenses — 1

Selling, administrative and general expenses 9 28

Total Estimated savings $ 35 $ 95

In response to the COVID-19 pandemic, we continue to prioritize the health and safety of our employees, customers and partners and support their needs so they can perform their work flawlessly, whether in the office or a remote location.

During the first quarter 2021, our business was still experiencing the impact of the pandemic, and the recovery in the near-term may be uneven and affected by the emergence of new variants of the virus and the resurgence of elevated COVID-19 cases in various countries and regions.

However, we saw a gradual recovery of our revenues as businesses gained confidence in the progress to control the pandemic and resumed investments in new printing technology and services, and we saw a positive correlation between the roll-out of vaccinations, the return of employees to the office, and the gradual recovery of our page-volume driven Post sale revenues.

We expect that measures to control the pandemic and expand economic activity will result in a moderate economic improvement in 2021.

We also expect to continue our actions to mitigate the effects of the pandemic on our business operations and financial performance, and we have a strong balance sheet and sufficient liquidity, including access to our undrawn $1.8 billion revolver.

With our Project Own It transformation and cost savings, we have built a leaner and more flexible cost structure, but we also continue to focus our efforts on incremental actions to prioritize and preserve cash as we manage through the pandemic.

These actions include the continued reduction of discretionary spend such as near-term targeted marketing programs, the use of contract employees, and the suspension of 401(k) matching contributions.

In addition, in response to the COVID-19 pandemic, various governments continue to employ temporary measures to provide aid and economic stimulus directly to companies through cash grants and credits or indirectly through payments to temporarily furloughed employees.

During first quarter 2021, we recognized savings of approximately $10 million from the use of such measures in the U.S., Canada and Europe.

We continue to monitor government programs and actions being implemented or expected to be implemented to counter the economic impacts of the COVID-19 pandemic.

Xerox 2021 Form 10-Q 39

Third Quarter 2020 Review

Total revenue of $1.77 billion for third quarter 2020 declined 18.9% from third quarter 2019, including a 0.8-percentage point favorable impact from currency.

The decrease in revenue reflected a decrease of 20.0% in Post sale revenue, including a 0.7-percentage point favorable impact from currency and a decrease of 15.2% in Equipment sales revenue, including a 0.9-percentage point favorable impact from currency.

Total revenue of $5.09 billion for the nine months ended September 30, 2020 declined 23.1% as compared to the prior year period, including a 0.3-percentage point unfavorable impact from currency.

The decrease in revenue reflected a decrease of 22.0% in Post sale revenue, including a 0.3-percentage point unfavorable impact from currency, and a decrease of 27.1% in Equipment sales revenue, with no impact from currency.

The COVID-19 pandemic significantly impacted our third quarter 2020 and year to date revenues due to business closures and office building capacity restrictions that impacted our customers' purchasing decisions, and caused lower printing volumes on our devices.

The biggest impact from the pandemic occurred in the second quarter 2020, while, the rate of decline of our revenues improved sequentially in third quarter 2020, as more businesses reopened and more employees returned to the workplace.

Geographically, revenue declines were similar in both of our go-to-market regions for the year.

The improvements in third quarter 2020 revenues grew the most sequentially, from second quarter 2020, in our EMEA Operations, primarily as a result of wider reopenings of workplaces and economies over the summer in the region, and higher installation of devices associated with our hybrid workplace promotions.

EMEA revenues were also more favorably impacted by recent acquisitions in the region.

The decrease of revenues in third quarter 2020 from our Americas Organization also improved sequentially as a result of business reopenings, primarily in our SMB and indirect channels, while the sequential recovery of Large Enterprise revenues in the region was smaller due to the more restricted reopening of large office buildings, as well as a larger mix of bundled contracts with fixed minimums.

Our North American operations include a larger mix of government, education, healthcare and other large customers that have been less affected by business closures than our SMB customers.

Net income attributable to Xerox Holdings 1 and adjusted 2 Net income attributable to Xerox Holdings were as follows:

Three Months Ended September 30, Nine Months Ended September 30,

(in millions) 2020 2019 B/(W) 2020 2019 B/(W)

Net income attributable to Xerox Holdings (1)

$ 90 $ 157 $ (67) $ 115 $ 382 $ (267)

First Quarter 2021 Review

Total revenue of $1.71 billion for first quarter 2021 declined 8.1% from first quarter 2020, including a 2.3-percentage point favorable impact from currency.

The decrease in revenue reflected a decrease of 13.4% in Post sale revenue, including a 2.2-percentage point favorable impact from currency, offset by an increase of 17.2% in Equipment sales revenue, including a 3.0-percentage point favorable impact from currency.

The COVID-19 pandemic impacted our first quarter 2021 revenues due to business closures and office building capacity restrictions that caused lower printing volumes on our devices.

However, our revenues from equipment devices benefited from higher sales in the last month of the quarter corresponding with increased confidence in the progress of vaccinations and the gradual reopening of workplaces, compared to business shutdowns at the end of first quarter 2020.

Net income (loss) attributable to Xerox Holdings and adjusted 1 Net income attributable to Xerox Holdings were as follows:

Three Months Ended March 31,

(in millions) 2021 2020 B/(W)

Net income (loss) attributable to Xerox Holdings $ 39 $ (2) $ 41

Adjusted (1) Net income attributable to Xerox Holdings

105 184 (79) 191 528 (337)

Third quarter 2020 Net income attributable to Xerox Holdings 1 decreased $67 million as compared to third quarter 2019 reflecting the impact from lower revenues primarily associated with the COVID-19 pandemic that were only partially offset by lower costs and expenses including lower Income tax expense as well as lower Transaction and related costs, net and Other expenses, net.

Third quarter 2020 A djusted 2 net income attributable to Xerox Holdings decreased $79 million as compared to third quarter 2019, reflecting lower revenues, which were only partially offset by lower costs and expenses and lower Income tax expense.

Net income attributable to Xerox Holdings 1 for the nine months ended September 30, 2020 decreased $267 million as compared to the prior year period reflecting the impact from lower revenues, primarily associated with the COVID-19 pandemic, and higher Transaction and related costs, net, that were only partially offset by lower costs and expenses, including lower Income tax expense as well as lower Restructuring and related costs and Other expenses, net.

In addition, Net income attributable to Xerox Holdings 1 for the nine months ended September 30, 2020 includes the first quarter 2020 impact of a $61 million increase in our bad debt provision reflecting the expected impact from the COVID-19 pandemic on our receivable portfolio.

A djusted 2 net income attributable to Xerox Holdings for the nine months ended September 30, 2020 decreased $337 million as compared to the prior year period primarily reflecting lower revenues, which were only partially offset by lower costs and expenses including lower Income tax expense, partially offset by the increased bad debt provision.

Net income attributable to Xerox Holdings 1 for the three and nine months ended September 30, 2020 were both positively impacted by savings of approximately $35 million and $95 million, respectively, from temporary government assistance measures and furlough programs in the U.S., Canada and Europe.

Refer to the Government Assistance and Furlough Programs section for additional information.

Xerox 2020 Form 10-Q

Cash flows provided by operating activities of continuing operations for the nine months ended September 30, 2020 were $313 million, as compared to $846 million in the prior year period primarily reflecting lower net income, as result of the COVID-19 pandemic, as well as increased use of working capital, net 3, partially offset by decreases in finance assets and lower payments for taxes due to lower pre-tax income.

Cash used in investing activities for the nine months ended September 30, 2020 was $223 million including capital expenditures of $60 million and acquisitions of $193 million.

Cash provided by financing activities for the nine months ended September 30, 2020 was $424 million reflecting proceeds of $1,507 million from the issuance of Senior Notes and $340 million from a secured financing arrangement, partially offset by payments of $1,051 million on Senior Notes, $150 million on repurchases of our Common Stock and dividend payments of $176 million.

As a result of the uncertainty created by the COVID-19 pandemic, in the first quarter 2020 we withdrew our previously disclosed outlooks for full year 2020 revenue, earnings, operating cash flows and capital allocation as disclosed in our 2019 Annual Report.

At this time, we remain committed to delivering positive earnings and operating cash flows from continuing operations, after capital expenditures, in the fourth quarter.

We also remain committed to paying our current dividend on common shares and returning at least 50% of operating cash flows from continuing operations, after capital expenditures, to shareholders.

We expect to complete at least $150 million in share repurchases during the remainder of 2020.

First quarter 2021 Net income attributable to Xerox Holdings increased $41 million as compared to first quarter 2020 primarily due to the prior year including a $60 million incremental provision to cover estimated write-offs on our trade and finance receivable portfolio from the economic disruption caused by the COVID-19 pandemic as well as lower Restructuring and related costs, net, Transaction and related costs, net and non-service retirement-related costs.

These impacts were offset by lower Revenues that were only partially offset by lower operating costs and expenses.

First quarter 2021 A djusted 1 net income attributable to Xerox Holdings decreased $3 million as compared to the prior year, reflecting lower revenues, which were only partially offset by lower operating costs and expenses and lower Income tax expense.

Cash flows provided by operating activities for the three months ended March 31, 2021 were $117 million, as compared to $173 million in the prior year period primarily reflecting lower working capital, net 2 , as well as a lower run-off of finance receivables.

Cash used in investing activities for the three months ended March 31, 2021 was $17 million for capital expenditures.

Cash used in financing activities for the three months ended March 31, 2021 was $318 million reflecting payments of $95 million on secured borrowings, $162 million on repurchases of our Common Stock and dividend payments of $54 million.

We continue to expect a modest recovery in 2021 and expect full year total revenues to increase to at least $7.2 billion, or approximately 2.5%, excluding the impact of currency.

We are confident in our ability to generate cash and plan to continue our capital allocation policy of returning at least 50% of our annual free cash flow to shareholders, as disclosed in our 2020 Annual Report.

We expect operating cash flows to be approximately $600 million, with capital expenditures of approximately $100 million and plan to opportunistically make share repurchases utilizing our remaining share repurchase authorization of approximately $338 million.

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(1) Net income from continuing operations attributable to Xerox Holdings.

(1) See the “Non-GAAP Financial Measures” section for an explanation of the non-GAAP financial measure.

(2) Working capital, net reflects Accounts receivable, net, Inventories and Accounts payable.

Critical Accounting Policies and Estimates

Management’s Discussion and Analysis of our financial condition and results of operations (MD&A) is based on the Condensed Consolidated Financial Statements and accompanying notes that have been prepared in accordance with GAAP.

The preparation of these financial statements requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period.

Actual results could differ from those estimates.

As discussed in our MD&A, during the first half of 2020 the company was significantly impacted by the economic disruption caused by the COVID-19 pandemic.

This disruption required us to review the majority of our estimates to ensure we appropriately considered the impacts caused by the COVID-19 pandemic.

The following is a discussion of several key estimates with respect to revenue recognition, allowance for doubtful accounts and credit losses, income taxes and goodwill.

As the extent and duration of the impacts from the COVID-19 pandemic remain uncertain, the Company’s estimates and assumptions may evolve as conditions change.

Revenue Recognition

As disclosed in our 2019 Annual Report, revenues associated with our service arrangements – maintenance and document management - are generally recognized as maintenance and printing services are rendered, which is generally on the basis of the number of images produced.

Accordingly, this recognition methodology requires us to estimate customer usage at the end of a period since the customer is typically not invoiced for that usage until the following period.

Normally this estimation process is straight-forward and objective based on our significant history with different types of customers and device usage as well as the fact that a majority of our devices have connectivity to Xerox so we can remotely read and collect usage data.

In addition, as disclosed in our 2019 Annual report, our service arrangements normally include a minimum volume charge together with a variable charge, so the estimation process is limited to the variable component, which will vary based on the channel and geography.

However, the impacts from the COVID-19 economic disruption that began in March 2020, as well as the related shutdowns of some of our customers, required us to further review our estimation process for the variable component to ensure we properly and objectively captured the impacts of the decline in volumes and not solely rely on historical usage data.

We will continue to assess the usage data of our customers to ensure we properly adjust historical averages and recognize revenue consistent with those revised usage patterns and ultimately what is invoiced to the customer.

Allowance for Doubtful Accounts and Credit Losses

As disclosed in Notes 8 – Accounts Receivable, Net and Note 9 - Finance Receivables, Net, in the Condensed Consolidated Financial Statements consistent with our adoption of ASU 2016-13 effective January 1, 2020 (refer to Note 2 - Recent Accounting Pronouncements in the Condensed Consolidated Financial Statements), the allowance

Xerox 2021 Form 10-Q 40

for doubtful accounts and credit losses is based on an assessment of past collection experience as well as consideration of current and future economic conditions and changes in our customer collection trends.

In assessing the level of reserve in 2020, we had to critically assess current and forecasted economic conditions as a result of the COVID-19 pandemic to ensure we objectively included those expected impacts in the determination of our reserve.

Our assessment also included current portfolio credit metrics and the level of reserves and write-offs we recorded on our receivable’s portfolio during the credit crisis in 2008/09 as additional reference points to objectively determine the adequacy of our allowance.

Refer also to the Selling, Administrative and General Expenses (SAG) section for additional discussion regarding the incremental bad debt provision recorded in the first quarter 2020 primarily related to the economic impact of the COVID-19 pandemic.

As disclosed in our 2019 Annual Report, we record the estimated future tax effects of temporary differences between the tax bases of assets and liabilities and the amounts reported, as well as net operating loss and tax credit carryforwards.

Deferred tax assets are assessed for realizability and, where applicable, a valuation allowance is recorded to reduce the total deferred tax asset to an amount that will, more-likely-than-not, be realized in the future.

We apply judgment in assessing the realizability of these deferred tax assets and the need for any valuation allowances.

In determining the amount of deferred tax assets that are more-likely-than-not to be realized, we considered historical profitability, projected future taxable income, the expected timing of the reversals of existing temporary difference and tax planning strategies.

Similar to other estimates during 2020, we needed to determine if any change in valuation allowances was required based on the rapid change in the economic environment and the expected changes in our financial projections for 2020 resulting from the impacts of the COVID-19 pandemic.

Our effective tax rate for the nine months ended September 30, 2020 included an approximate 5-percentage point impact for additional valuation allowances, which were primarily the result of the negative impacts of the COVID-19 pandemic.

We expect to continue to review projections and their potential impact on our assessment regarding the recoverability of our deferred tax asset balances in the fourth quarter 2020 and new or additions to existing valuation allowances may be required.

We perform our annual Goodwill impairment testing in the fourth quarter of each year.

During the fourth quarter 2019 impairment testing, our estimated fair value of the Company was significantly in excess of our net book value.

However, in the second quarter 2020, as a result of the continued negative financial impacts from the COVID-19 pandemic on our current and near-term future operations, the expected slower recovery during the latter half of 2020 as businesses return to their respective offices, as well as a sustained market capitalization below our book value, we determined there was a triggering event requiring an interim quantitative evaluation of Goodwill.

In prior years' quantitative tests we estimated the fair value of the entity by weighting the results of the income approach (discounted cash flow methodology) and market approach.

However, as a result of limited market compares due to companies not providing guidance in this current economic environment, our interim quantitative evaluation of goodwill was based on the income approach to estimate fair value.

The income approach, which we believe provides a result that is equally or more representative of fair value in the current circumstances, is based on the discounted cash flow method that uses the Company's estimates for future forecasted financial performance including revenues, operating expenses, and taxes, as well as working capital and capital asset requirements.

Projected cash flows are then discounted to a present value employing a discount rate that properly accounts for the estimated market weighted-average cost of capital, as well as any risk unique to the subject cash flows.

Our estimates regarding future forecasted cash flows accordingly reflected consideration of the continued negative financial impacts from the COVID-19 pandemic on our current and future operations as well expected recovery scenarios.

After completing our interim impairment review, we concluded that Goodwill was not impaired and, based on various forecast models and related sensitivity analysis, which we believe reflect the inherent uncertainty of the future, the excess of fair value over carrying value ranged between 10 and 20 percent.

We believe the discount rate applied in our cases was an appropriate risk adjusted cost of capital and considers the current lower debt interest rates in the market.

Although our internal forecasts clearly indicate that Xerox is and will be significantly impacted by the economic disruption caused by the COVID-19 pandemic in 2020, based on a review of macroeconomic and industry considerations, the business is expected to continue to recover in the second half of the year and recover further still in 2021 with the expectation of a return to normal trends by 2022.

In addition, consistent with our historical results, we believe we have the ability, within a relevant range, to offset potential further delays in the recovery of our revenue base with cost reductions and productivity improvements to help manage and maintain our projected

Xerox 2020 Form 10-Q

level of cash flows.

Lastly, although our estimates of the fair value of the entity were in excess of our market capitalization, we believe the implied premiums that would be indicated at net book value or at our estimated fair values are reasonable.

In performing its assessment, the Company believes it has made reasonable estimates based on the facts and circumstances that were available as of the second quarter reporting date in light of the developing situation resulting from the COVID-19 pandemic.

In the third quarter 2020, although business performance improved, we determined that the continued negative impacts on our current operations resulting from the COVID-19 pandemic and the impacts expected on our future operations as well as a market capitalization that remains less than book value required us to qualitatively assess whether a triggering event had occurred and whether it was more likely than not that our goodwill was impaired as of September 30, 2020.

Based on our interim qualitative assessment as of September 30, 2020, we determined that it was more-likely-than-not that the fair value of the Company was greater than net book value and that we did not have a “triggering event” requiring a quantitative or Step 1 assessment of goodwill.

Our review of macroeconomic and industry considerations, as well as the Company's financial results for the third quarter 2020 were all consistent with expectations and sensitivities assessed as part of our quantitative review performed in the second quarter 2020.

Further, although our market capitalization remained below our net book value, the Company's market capitalization did improve in the third quarter 2020.

If assumptions or estimates in the fair value calculations change or if future cash flows vary from what was expected, including those assumptions relating to the duration and severity of the financial impact from the COVID-19 pandemic, this may impact the impairment analysis and could reduce the underlying cash flows used to estimate fair values and result in a decline in fair value that may trigger future impairment charges.

We normally assess goodwill for impairment during the fourth quarter and based on the events and factors noted in 2020 – macroeconomic, industry and company – we plan to utilize a quantitative model for the assessment of the recoverability of our goodwill balance.

As part of that quantitative assessment, we expect to monitor developments regarding the COVID-19 pandemic, including its impact to our forecasted revenues, expenses and cash flow, as well as our market capitalization.

If the extent and duration of the economic disruption caused by the pandemic is longer or more severe than currently estimated there could be a material impact to our revenues and expected cash flows which in turn could negatively impact the recoverability of our Goodwill balance.

Xerox 2020 Form 10-Q

Financial Review

Three Months Ended

September 30, Nine Months Ended

September 30, % of Total Revenue

(in millions) 2020 2019 % Change CC % Change 2020 2019 % Change CC % Change 2020 2019

March 31, % of Total Revenue

(in millions) 2021 2020 % Change CC % Change 2021 2020

Equipment sales $ 381 $ 325 17.2 % 14.2 % 22 % 17 %

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Total Revenue $ 1,710 $ 1,860 (8.1) % (10.4) % 100 % 100 %

Reconciliation to Condensed Consolidated Statements of Income:

Reconciliation to Condensed Consolidated Statements of Income (Loss):

Sales $ 602 $ 565 6.5 % 4.2 %

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$ 1,710 $ 1,860 (8.1) % (10.4) % 100 % 100 %

Xerox Services $ 661 $ 829 (20.3) % (21.3) % $ 2,041 $ 2,535 (19.5) % (19.2) % 40 % 38 %

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(1) Refer to the "Geographic Sales Channels and Product and Offerings Definitions" section.

Total revenue for the three months ended September 30, 2020 decreased 18.9% as compared to the third quarter 2019, including a 0.8-percentage point favorable impact from currency and an approximate 1.4-percentage point favorable impact from recent partner dealer acquisitions, while total revenue for the nine months ended September 30, 2020 decreased 23.1% as compared to the prior year period, including a 0.3-percentage point unfavorable impact from currency and an approximate 1.1-percentage point favorable impact from recent partner dealer acquisitions.

The COVID-19 pandemic significantly impacted our revenue during 2020 due to business closures and office building capacity restrictions that impacted our customers' purchasing decisions and caused lower printing volumes on our devices.

However, the rate of our revenue decline improved sequentially from second quarter, as more businesses slowly reopened and more employees returned to the workplace.

Geographically, revenue declines were similar in both of our go-to-market regions for the nine months ended September 30, 2020, while revenue growth in third quarter 2020 from our EMEA Operations improved the most sequentially, primarily as a result of wider reopenings of workplaces and economies over the summer in the region, and higher installation of devices associated with our hybrid workplace promotions.

EMEA revenues were also more favorably impacted by recent acquisitions in the region.

Our North American operations include a larger mix of government, education, healthcare and other large customers that have been less affected by business closures than our SMB customers.

Our Latin American Operations had the largest revenue declines, consistent with the extensive lockdowns and the economic crisis throughout the region.

Total revenue for the three and nine months ended September 30, 2020 reflected the following:

Xerox 2020 Form 10-Q

Total revenue for the three months ended March 31, 2021 decreased 8.1% as compared to first quarter 2020, including a 2.3-percentage point favorable impact from currency and an approximate 1.0-percentage point favorable impact from 2020 partner dealer acquisitions.

The COVID-19 pandemic impacted our first quarter 2021 revenues due to business closures and office building capacity restrictions that caused lower printing volumes on our devices.

Sequentially, the rate of decline of our revenues moderated during first quarter 2021.

Geographically, the rate of revenue decline moderated more significantly in our EMEA operations, partially due to the region's earlier and more expansive shutdown in the prior year, as well as its higher mix of SMB businesses which have recovered more rapidly with the progress of vaccinations and the control of the pandemic, while our North American operations include a higher proportion of Enterprise customers who are experiencing a slower pace of return to large office buildings.

Our EMEA revenues were also favorably impacted by prior year acquisitions in the region

Total revenue for the three months ended March 31, 2021 reflected the following:

Post sale revenue

Post sale revenue primarily reflects contracted services, equipment maintenance, supplies and financing.

These revenues are associated not only with the population of devices in the field, which is affected by installs and removals, but also by the page volumes generated from the usage of such devices and the revenue per printed page.

Post sale revenue also includes transactional IT hardware sales and implementation services from our XBS organization.

For the three months ended September 30, 2020 Post sale revenue decreased 20.0% as compared to the third quarter 2019, including a 0.7-percentage point favorable impact from currency, while Post Sale revenue decreased 22.0% for the nine months ended September 30, 2020, including a 0.3-percentage point unfavorable impact from currency.

The COVID-19 pandemic significantly impacted our Post sale revenue since March 2020, however, its impact on our Post sale revenue slightly moderated later in the second quarter and continued to moderate during the third quarter, as business reopenings in certain geographical areas in the U.S.

and Europe resulted in a gradual moderation of our page volume declines.

These revenues are associated not only with the population of devices in the field, which are affected by installs and removals, but also by the page volumes generated from the usage of such devices and the revenue per printed page.

Post sale revenue also includes transactional IT hardware sales and implementation services primarily from our XBS organization.

For the three months ended March 31, 2021 Post sale revenue decreased 13.4% as compared to first quarter 2020, including a 2.2-percentage point favorable impact from currency.

The COVID-19 pandemic impacted our Post sale revenue during the first quarter 2021 due to office closures.

The decline in Post sale revenue reflected the following:

• Services, maintenance and rentals revenue includes rental and maintenance revenue (including bundled supplies) as well as the post sale component of the document services revenue from our Xerox Services offerings.

◦ For the three months ended September 30, 2020, these revenues decreased 20.5% as compared to the third quarter 2019, including a 0.8-percentage point favorable impact from currency.

The decline at constant currency 1 reflected a lower population of devices (which is partially associated with continued lower Enterprise signings and lower installs in prior and current periods), an ongoing competitive price environment, and lower page volumes (including a higher mix of lower average-page-volume products) that are worse than pre-COVID-19 decline trends due to the impact of business closures during the quarter.

While these revenues are contractual in nature, on average, our bundled services contracts include a minimum fixed charge and a significant variable component based on print volumes.

The rate of decline of these revenues moderated during the quarter compared to the prior quarter as businesses reopened in certain geographical areas in the U.S.

◦ For the nine months ended September 30, 2020, these revenues decreased 21.4% as compared to the prior year period, including a 0.2-percentage point unfavorable impact from currency.

While these revenues are contractual in nature, on average, our bundled services contracts include a minimum fixed charge and a significant variable component based on print volumes.

The rate of decline of these revenues began to slightly moderate late in the first half of 2020, and continued to moderate during the third quarter 2020, as businesses started to reopen in certain geographical areas in the U.S.

• Supplies, paper and other sales includes unbundled supplies and other sales.

◦ For the three months ended September 30, 2020, these revenues decreased 20.0% as compared to third quarter 2019, including a 0.2-percentage point favorable impact from currency and reflected lower supplies revenues associated with lower page volume trends, slightly offset by higher IT revenues from our XBS channel and from recently acquired IT dealers outside of the U.S.

The decrease in supplies was significantly impacted by lower sales through indirect channels, as resellers, in response to the lower demand caused by the pandemic, reduced their inventory purchases to manage liquidity.

We expect that such resellers will maintain low purchase levels and lower inventories until there is a stable recovery in sales activity.

◦ For the nine months ended September 30, 2020, these revenues decreased 27.8% as compared to the prior year period, including a 0.7-percentage point unfavorable impact from currency and reflected lower supplies revenues associated with lower page volume trends, slightly offset by higher IT revenues from our XBS channel and from recently acquired IT dealers outside of the U.S.

We expect that such resellers will maintain low purchase levels and lower inventories until there is a stable recovery in sales activity.

While these revenues are contractual in nature, our bundled services contracts generally include a

Xerox 2021 Form 10-Q 41

minimum fixed charge and a significant variable component based on print volumes.

The rate of decline of these revenues moderated as compared to fourth quarter 2020, benefiting from an easier compare (as the prior year was affected by shutdowns at the end of the quarter), but also corresponding with a modest sequential increase in page volumes as the quarter progressed consistent with the rollout of vaccinations, which allowed more employees to return to their offices.

For the three months ended March 31, 2021, these revenues decreased 14.8% as compared to first quarter 2020, including a 3.2-percentage point favorable impact from currency.

The decline at constant currency 1 reflected a lower population of devices (which is partially associated with lower installs in prior periods), an ongoing competitive price environment, and lower page volumes (including a higher mix of lower average-page-volume products).

• Supplies, paper and other sales includes unbundled supplies and other sales.

For the three months ended March 31, 2021, these revenues decreased 7.9% as compared to first quarter 2020, including a 1.4-percentage point favorable impact from currency and reflected primarily lower supplies revenues associated with lower page volume trends partially offset by higher IT revenues from IT dealers acquired in the prior year in the U.K.

and Canada, and from our XBS sales unit The decrease in supplies was impacted by lower sales through indirect channels.

The rate of decline of these revenues improved as compared to fourth quarter 2020, as resellers, moderately softened their cash control and inventory restrictions consistent with gradual indications of improvement in the control of the pandemic.

• Financing revenue is generated from financed equipment sale transactions.

For the three months ended September 30, 2020, these revenues declined 8.3% as compared to third quarter 2019, including a 0.5-percentage point favorable impact from currency, while Financing revenue for the nine months ended September 30, 2020 decreased 7.6%, including a 0.3-percentage point unfavorable impact from currency and reflected a continued decline in the finance receivables balance due to lower equipment sales in prior periods.

For the three months ended March 31, 2021, these revenues declined 6.8%, reflecting a continued decline in the finance receivables balance due to lower equipment sales in prior periods and included a 1.8-percentage point favorable impact from currency.

XFS lease originations increased in the quarter as compared to first quarter 2020, due to a higher level of lease originations for our XBS sales unit.

(1) See the “Non-GAAP Financial Measures” section for an explanation of the non-GAAP financial measure.

Equipment sales revenue

Three Months Ended September 30, Nine Months Ended

September 30, % of Equipment Sales

(in millions) 2020 2019 %

CC % Change 2020 2019 % Change CC % Change 2020 2019

Three Months Ended

March 31, % of Equipment Sales

(in millions) 2021 2020 % Change CC % Change 2021 2020

Entry $ 68 $ 48 41.7% 35.9% 18% 15%

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CC - See "Currency Impact" section for a description of Constant Currency.

Equipment sales revenue decreased 15.2% for the three months ended September 30, 2020 as compared to third quarter 2019, including a 0.9-percentage point favorable impact from currency as well as the impact of price declines of approximately 5%, while for the nine months ended September 30, 2020, Equipment sales revenue decreased 27.1%, as compared to the prior year period, with no impact from currency, as well as the impact of price declines of approximately 5%.

The COVID-19 pandemic has significantly impacted our equipment sales revenue during 2020 as a result of business closures and office building capacity restrictions that impacted our customers' purchasing decisions and caused delayed installations.

The pandemic affected our operations in March 2020 and throughout the second quarter 2020, however, as businesses reopened in certain geographical areas of the U.S.

and EMEA the impact of the pandemic on our equipment sales lessened compared to its impact in the first half of 2020, resulting in sequential improvement in third quarter 2020 in the rate of decline.

The decline at constant currency 1 reflected the following:

• Entry - The increase for the three months ended September 30, 2020, as compared to third quarter 2019, was due to higher installs of lower-end printers and MFPs (primarily black and white devices) in EMEA and through our indirect channels in the U.S., in part associated with hybrid workplace promotions.

The decrease for the nine months ended September 30, 2020, as compared to the prior year period, was primarily due to lower sales of devices through our indirect channels in EMEA, Latin America and the U.S.

affected primarily by the COVID-19 pandemic and partially offset by higher installs of black and white devices in EMEA as well as the benefit of large order deals from Eurasia.

• Mid-range - The decrease for the three months ended September 30, 2020, as compared to third quarter 2019, was driven primarily by the COVID-19 pandemic and related office closures, which impacted sales of this group of products more due to their prevalence in office-team settings.

Higher sales to our government and education sector customers in North America, as well as strong demand for our recently launched PrimeLink devices and our new generation of ConnectKey devices, provided a partial offset.

The decrease for the nine months ended September 30, 2020, as compared to the prior year period, was primarily driven by the COVID-19 pandemic and related office closures, which has more significantly impacted our sales through indirect channels in the U.S.

and Europe, as resellers in response to lower demand caused by the pandemic, have reduced their inventory purchases to manage liquidity, partially offset by strong demand for our recently launched PrimeLink devices and our new generation of ConnectKey devices.

• High-end - The decrease for the three months ended September 30, 2020, as compared to third quarter 2019, primarily reflected lower installs of our Versant entry-production color, Iridesse and iGen production presses, partially offset by higher installs of our cut-sheet inkjet systems.

The decrease in our equipment sales revenue from production color systems was partially impacted by the COVID-19 pandemic, particularly affecting installs of our Versant and Iridesse systems due to their higher mix to the SMB segment where production printing applications depend on business reopening activity.

The decrease for the nine months ended September 30, 2020, as compared to the prior year period, primarily reflected lower installs of our Versant entry-production color and iGen production presses, as well as lower installs of our Iridesse production presses in EMEA, which were partially offset by demand for our recently launched Baltoro Inkjet press.

The decrease in our equipment sales revenue from production color systems was partially impacted by the COVID-19 pandemic, primarily in

During first quarter 2021, we revised the classification of equipment sales revenue by category for our XBS sales unit.

Refer to the Equipment Sales Revenue - Classification Update section, for the revision of prior periods based on the new classification.

Equipment sales revenue increased 17.2% for the three months ended March 31, 2021 as compared to first quarter 2020, including a 3.0-percentage point favorable impact from currency partially offset by the impact of price declines of less than 5%.

The increase is partially the result of a favorable compare to the first quarter 2020, when the COVID-19 pandemic resulted in sudden business closures during the last month of the quarter when, historically, a significant portion of our equipment is sold.

In addition, these revenues increased at a higher pace through our indirect channels in the U.S.

and EMEA, in part due to resellers modestly rebuilding inventories as demand increased with business reopenings.

We also continue to see higher sales to our government customers in the U.S., and a higher mix of our revenues coming from lower-end devices as a result of trends associated with the COVID-19 pandemic.

The growth at constant currency 1 reflected the following:

• Entry - The increase was driven primarily by higher demand for our lower-end printers and MFPs through our indirect channels in the U.S.

and in EMEA, including higher installs related to government deals in the developing regions of EMEA.

• Mid-range - The increase was driven primarily by higher demand as a result of business reopenings as compared to business shutdowns that reduced purchases of office devices in the prior year.

In addition, through the quarter, we saw a gradual narrowing of the gap to pre-pandemic levels consistent with the progress of vaccinations and office and school reopenings.

Xerox 2021 Form 10-Q 42

our European operations, where the distribution of our Iridesse systems through indirect channels was affected by furlough adoptions and lower inventory purchases as dealers managed their liquidity.

• High-end - The increase reflected primarily improvement in sales of devices in the lower-end of the range, to SMB customers, while sales of larger production engines continued to be depressed as a result of our clients' delayed capital investment decisions.

Total Installs

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Revenue associated with equipment installations may be reflected up-front in Equipment sales or over time either through rental income or as part of our Xerox Services revenues (which are both reported within our Post sale revenues), depending on the terms and conditions of our agreements with customers.

Installs include activity from Xerox Services and Xerox-branded products shipped to our XBS sales unit.

Installs include activity from Xerox Services and Xerox and non-Xerox branded products installed by our XBS sales unit.

Detail by product group (see Geographic Sales Channels and Product and Offerings Definitions ) is shown below.

Installs for the third quarter 2019:

• 9% decrease in color multifunction devices reflecting lower installs of ConnectKey devices through our indirect channels in the U.S.

• 52% increase in black-and-white multifunction devices reflecting higher activity primarily from indirect channels in the U.S.

and developing regions in EMEA.

The increase is primarily driven by higher sales of low-end devices associated with large order deals from Eurasia and hybrid workplace promotions.

Mid-Range (1)

• 21% decrease in mid-range color installs primarily reflecting lower installs of multifunction color devices partially offset by strong demand for our recently launched PrimeLink entry-production color devices and our new generation of ConnectKey multi-function devices.

• 19% decrease in black-and-white mid-range installs reflecting in part global market trends partially offset by strong demand for our recently launched PrimeLink light-production devices and our new generation of ConnectKey multi-function devices.

• 38% decrease in high-end color installs reflecting primarily lower installs of our lower-end Versant devices and of our Iridesse and iGen production systems, partially offset by higher installs of our Baltoro cut-sheet inkjet systems.

• 13% decrease in high-end black-and-white systems reflecting lower installs of our Nuvera devices along with market trends.

Installs for the nine months ended September 30, 2020:

• 21% decrease in color multifunction devices reflecting lower installs of ConnectKey devices through our indirect channels in the U.S.

• 15% increase in black-and-white multifunction devices reflecting higher activity primarily from sales in the lower end of the portfolio through indirect channels in our developing regions in EMEA, partially offset by lower installs through our indirect channels in Latin America and the U.S.

Installs for the first quarter 2021:

• 9% increase in color multifunction devices reflecting higher installs of ConnectKey devices through our indirect channels in EMEA, partially offset by lower installs through our U.S.

• 97% increase in black-and-white multifunction devices reflecting higher activity primarily from indirect channels in the U.S and from developing regions in EMEA.

The increase is primarily driven by higher sales of low-end devices including large order government deals from developing markets in EMEA.

Mid-Range (1)

• 31% decrease in mid-range color installs primarily reflecting lower installs of multifunction color devices partially offset by strong demand for our recently launched PrimeLink entry-production color devices and our new generation of ConnectKey multi-function devices.

• 26% decrease in mid-range black-and-white reflecting in part global market trends partially offset by strong demand for our recently launched PrimeLink light-production multi-function devices and our new generation of ConnectKey multi-function devices.

• 50% decrease in high-end color installs reflecting primarily lower installs of our lower-end Versant devices, along with lower installs of our Iridesse production systems, partially offset by strong demand for our recently-launched Baltoro cut-sheet inkjet systems.

• 16% decrease in high-end black-and-white systems reflecting lower installs of our Nuvera devices along with market trends.

• 11% increase in mid-range color installs primarily reflecting higher installs of our recently launched PrimeLink entry-production color devices and our new-generation of ConnectKey multi-function printers.

• 13% increase in mid-range black-and-white installs reflecting higher installs of our recently launched PrimeLink light-production devices and our new-generation of ConnectKey multi-function devices.

• 46% increase in high-end color installs reflecting primarily growth from our lower-end Versant devices and our Iridesse systems partially offset by lower installs of our higher-end production presses.

• 18% increase in high-end black-and-white systems reflecting higher installs of our Nuvera devices related to cyclical account refreshes in the U.S.

_____________

(1) Mid-range and High-end color installations exclude Fuji Xerox digital front-end sales;

including Fuji Xerox digital front-end sales for the three and nine months ended September 30, 2020 Mid-range color devices decreased 21% and 31%, respectively, and High-end color systems decreased 39% and 50%, respectively.

(1) Mid-range and High-end color installations exclude Fuji Xerox (now known as FUJIFILM Business Innovation Corp.

(Fuji Xerox)) digital front-end sales;

including Fuji Xerox digital front-end sales Mid-range color devices increased 12% and High-end color systems increased 44%.

Xerox 2021 Form 10-Q 43

15 unchanged sentences

Our primary offerings are Intelligent Workplace Services (IWS), as well as Digital and Cloud Print Services (including centralized print services) and Communication and Marketing Solutions.

Equipment Sales Revenue - Classification Update

During first quarter 2021, we revised the classification of equipment sales revenue by category for our XBS sales unit to conform the classification of devices across Xerox sales channels.

The revision had no impact on reported total equipment sales revenue.

2020 Equipment Sales Revenue As Reported

(in millions) Q1 Q2 Q3 Q4 FY

Entry $ 40 $ 34 $ 55 $ 59 $ 188

Mid-range 218 209 291 325 1,043

High-end 64 64 69 115 312

Other 3 3 4 11 21

Equipment Sales Revenue $ 325 $ 310 $ 419 $ 510 $ 1,564

(in millions) Q1 Q2 Q3 Q4 FY

Entry $ 8 $ 10 $ 11 $ 11 $ 40

Mid-range (12) (14) (15) (16) (57)

High-end 3 3 3 4 13

Other 1 1 1 1 4

Equipment Sales Revenue $ — $ — $ — $ — $ —

2020 Equipment Sales Revenue As Revised

(in millions) Q1 Q2 Q3 Q4 FY

Entry $ 48 $ 44 $ 66 $ 70 $ 228

Mid-range 206 195 276 309 986

High-end 67 67 72 119 325

Other 4 4 5 12 25

Equipment Sales Revenue $ 325 $ 310 $ 419 $ 510 $ 1,564

Xerox 2021 Form 10-Q 44

2 unchanged sentences

The following is a summary of key financial ratios used to assess our performance:

Three Months Ended September 30, Nine Months Ended September 30,

(in millions) 2020 2019 B/(W) 2020 2019 B/(W)

Three Months Ended March 31,

(in millions) 2021 2020 B/(W)

Gross Profit $ 611 $ 712 $ (101)

2 unchanged sentences

Equipment Gross Margin 27.9 % 26.3 % 1.6 pts.

26.7 % 32.9 % (6.2) pts.

Post sale Gross Margin 38.0 % 40.8 % (2.8) pts.

40.7 % 41.7 % (1.0) pts.

Total Gross Margin 35.7 % 38.3 % (2.6) pts.

37.8 % 39.8 % (2.0) pts.

RD&E as a % of Revenue 4.3 % 4.5 % 0.2 pts.

4.6 % 4.2 % (0.4) pts.

SAG as a % of Revenue 26.2 % 29.1 % 2.9 pts.

27.7 % 23.8 % (3.9) pts.

Pre-tax Income $ 119 $ 223 $ (104) $ 149 $ 486 $ (337)

Pre-tax Income Margin 6.7 % 10.2 % (3.5) pts.

2.9 % 7.3 % (4.4) pts.

Pre-tax Income (Loss) $ 53 $ (5) $ 58

Pre-tax Income (Loss) Margin 3.1 % (0.3) % 3.4 pts.

Adjusted (1) Operating Profit

2 unchanged sentences

5.2 % 4.7 % 0.5 pts.

5.5 % 11.8 % (6.3) pts.

____________ _

1 unchanged sentence

Pre-tax Income Margin

Third quarter 2020 pre-tax income margin of 6.7% decreased 3.5-percentage points as compared to third quarter 2019.

The decrease primarily reflected the impact of lower adjusted 1 operating margin (see below), of 4.6-percentage points, partially offset by lower Other expenses, net, Transaction and related, costs, net and Restructuring and related costs.

Pre-tax income margin for the nine months ended September 30, 2020 of 2.9% decreased 4.4-percentage points as compared to the prior year period.

The decrease primarily reflected the impact of lower adjusted 1 operating margin (see below), of 6.3-percentage points, partially offset by lower Restructuring and related costs and Other expenses, net.

First quarter 2021 pre-tax income margin of 3.1% increased by 3.4-percentage points as compared to first quarter 2020.

The increase primarily reflected the impact of higher adjusted 1 operating margin (see below) as well as lower Restructuring and related costs, net, Transaction and related costs, net and lower Other expenses, net, partially offset by higher Amortization of intangible assets.

Adjusted 1 Operating Margin

Third quarter 2020 adjusted 1 operating margin of 7.4% decreased 4.6-percentage points as compared to third quarter 2019 reflecting the impact of lower revenues, primarily as a result of the significant effect of the COVID-19 pandemic on our business, partially offset by cost and expense reductions associated with our Project Own It transformation actions as well additional savings from various cost reduction actions to mitigate the impact of the pandemic, including approximately $35 million from temporary government assistance measures and furlough programs (see the Government Assistance and Furlough Programs section for further details) and other reductions in discretionary spend such as near-term targeted marketing programs and the use of contract employees and the temporary suspension of 401(k) matching contributions for the year 2020, as well as lower compensation incentives consistent with lower sales and operating results.

The suspension of the 401(k) matching contribution in the third quarter 2020 resulted in a 0.7-percentage point benefit from the reversal in the third quarter 2020 of the accrual through the second quarter 2020.

The decrease was also affected by an approximate 1.0-percentage point unfavorable combined impact from higher tariffs and transaction currency.

Adjusted 1 operating margin for the nine months ended September 30, 2020 of 5.5% decreased 6.3-percentage points as compared to prior year period reflecting the impact of lower revenues, primarily as a result of the significant effect of the COVID-19 pandemic on our business and a 1.2-percentage point unfavorable impact due to an increase in bad debt expense of $61 million in the first quarter 2020, to reflect the expected impact to our customer base and related outstanding trade and finance receivable portfolio as a result of the economic disruption caused by the pandemic.

These negative impacts were partially offset by cost and expense reductions associated with our Project Own It transformation actions as well as additional savings from various cost reduction actions to mitigate the impact of the pandemic, including approximately $95 million from temporary government assistance

Xerox 2020 Form 10-Q

measures and furlough programs in the second and third quarters of 2020 (see the Government Assistance and Furlough Programs section for further details) and other reductions in discretionary spend such as near-term targeted marketing programs and the use of contract employees and the temporary suspension of 401(k) matching contributions for the year 2020, as well as lower compensation incentives consistent with lower sales and operating results.

The decrease was also affected by an approximate 0.8-percentage point unfavorable combined impact from higher tariffs and transaction currency.

First quarter 2021 adjusted 1 operating margin of 5.2% increased by 0.5-percentage points as compared to first quarter 2020 reflecting an approximate 3.7-percentage point favorable impact from lower bad debt expense due to a higher provision in the prior year to reflect the expected impact to our trade and finance receivable portfolio as a result of the economic disruption caused by the COVID-19 pandemic.

This benefit was partially offset by the impact of lower revenues, primarily due to the effect of the COVID-19 pandemic on our business.

The impact of these lower revenues was in turn partially mitigated by cost and expense reductions associated with our Project Own It transformation actions, and additional savings from various other cost reductions to mitigate the impact of the pandemic.

These actions include savings of approximately $10 million from temporary government assistance measures and reductions in discretionary spend such as the use of contract employees and the suspension of 401(k) matching contributions.

______________

(1) Refer to the Operating Income and Margin reconciliation table in the "Non-GAAP Financial Measures" section.

Third quarter 2020 gross margin of 36.8% decreased 3.2-percentage points as compared to third quarter 2019, reflecting the impact of lower revenues (including from our higher margin post sale stream) primarily as a result of the significant effect of the COVID-19 pandemic due to business closures, as well as price promotions, and an approximate 1.0-percentage point adverse combined impact from transaction currency and higher tariffs.

These headwinds were partially offset by the cost savings from our Project Own It transformation actions, as well as the additional cost reduction actions to mitigate the impact of the pandemic, including savings of approximately $26 million from temporary government assistance measures and furlough programs and other reductions in discretionary spend such as the use of contract employees and the temporary suspension of 401(k) matching contributions.

Gross margin for the nine months ended September 30, 2020 of 37.8% decreased 2.0-percentage points as compared to the prior year period, reflecting the impact of lower revenues (including from our higher margin post sale stream) primarily as a result of the significant effect of the COVID-19 pandemic due to business closures, as well as price promotions, and an approximate 0.8-percentage point adverse combined impact from transaction currency and higher tariffs.

These headwinds were partially offset by the benefits from our Project Own It transformation actions, as well as additional cost reduction actions to mitigate the impact of the pandemic, including savings of approximately $66 million from temporary government assistance measures and furlough programs and other reductions in discretionary spend such as the use of contract employees and the temporary suspension of 401(k) matching contributions.

Gross margins are expected to continue to be negatively impacted in future periods as a result of an increase in the cost of our imported products due to higher import tariffs.

We currently estimate an approximate $30 million cost impact from these higher tariffs for the full year 2020.

Third quarter 2020 equipment gross margin of 25.5% decreased 9.0-percentage points as compared to third quarter 2019, reflecting the pressure from lower revenues (primarily as a result of COVID-19 related business closures) and an unfavorable mix of growth in low-end devices as well as the adverse impact of price incentives, transaction currency and incremental tariff costs partially offset by the benefit of cost reductions from Project Own It.

Equipment gross margin for the nine months ended September 30, 2020 of 26.7% decreased 6.2-percentage points as compared to the prior year period, reflecting the impact of lower revenues (primarily as a result of COVID-19 related business closures) as well as the adverse impact of price incentives, transaction currency and incremental tariff costs partially offset by the benefit of cost reductions from Project Own It.

Third quarter 2020 Post sale gross margin of 40.3% decreased 1.3-percentage points as compared to third quarter 2019, reflecting the impact of lower revenues (primarily as a result of COVID-19 related business closures impacting page volumes) and price erosion on contract renewals, partially offset by productivity and cost savings and restructuring savings associated with Project Own It transformation actions, as well as savings from our additional cost reduction actions to mitigate the impact of the pandemic, including approximately $25 million of savings from temporary government assistance measures and furlough programs and other reductions in discretionary spend such as the use of contract employees and the temporary suspension of 401(k) matching contributions.

Post sale gross margin for the nine months ended September 30, 2020 of 40.7% decreased 1.0-percentage points as compared to the prior year period, reflecting the impact of lower revenues (primarily as a result of COVID-19 related business closures impacting page volumes) and price erosion on contract renewals, partially offset by productivity and cost savings and restructuring savings associated with Project Own It transformation actions, as well as savings from our additional cost reduction actions to mitigate the impact of the pandemic, including approximately $65 million of savings from temporary government assistance measures and furlough programs and other reductions in discretionary spend such as the use of contract employees and the temporary suspension of 401(k) matching contributions.

First quarter 2021 gross margin of 35.7% decreased by 2.6-percentage points as compared to first quarter 2020, reflecting the impact of lower revenues, primarily as a result of the effect of the COVID-19 pandemic, including a lower mix of our higher-margin post sale stream (which is most affected by business closures and the associated lower print volumes), as well as the impact of the ongoing competitive price environment.

These headwinds were partially offset by the cost savings from our Project Own It transformation actions as well as the additional cost reduction actions to mitigate the impact of the pandemic, including savings of approximately $7 million from temporary government assistance measures and reductions in discretionary spend such as the use of contract employees and the suspension of 401(k) matching contributions.

Xerox 2021 Form 10-Q 45

First quarter 2021 Equipment gross margin of 27.9% increased by 1.6-percentage points as compared to first quarter 2020, reflecting higher sales in the last month of the quarter, as well as the benefit of cost reductions from Project Own It and favorable transaction currency partially offset by an unfavorable mix of growth in low-end devices and the impact of targeted price promotions.

First quarter 2021 Post sale gross margin of 38.0% decreased by 2.8-percentage points as compared to first quarter 2020, reflecting the impact of lower revenues (primarily as a result of COVID-19 related business closures impacting page volumes) and price erosion on contract renewals, partially offset by productivity and cost savings and restructuring savings associated with Project Own It transformation actions, as well as savings from additional cost reduction actions to mitigate the impact of the pandemic.

Research, Development and Engineering Expenses (RD&E)

Three Months Ended

September 30, Nine Months Ended

September 30,

(in millions) 2020 2019 Change 2020 2019 Change

(in millions) 2021 2020 Change

R&D $ 59 $ 68 $ (9)

1 unchanged sentence

Total RD&E Expenses $ 74 $ 84 $ (10)

Third quarter 2020 RD&E as a percentage of revenue of 4.3% decreased by 0.3-percentage points as compared to third quarter 2019, primarily due to the benefit of cost reductions that outpaced the impact of revenue declines.

RD&E of $76 million decreased $24 million as compared to third quarter 2019 reflecting savings from Project Own It that enhanced simplification and rationalization in our core technology spend, and other temporary cost actions, as well as a favorable impact from the timing of investments, partially offset by higher spend in our innovation areas.

RD&E as a percentage of revenue for the nine months ended September 30, 2020 of 4.6% increased by 0.4-percentage points as compared to the prior year period, primarily due to the impact of revenue declines that outpaced the benefit of cost reductions.

RD&E for the nine months ended September 30, 2020 of $236 million decreased $44 million as compared to the prior year period, reflecting savings from Project Own It that enhanced simplification and rationalization in our core technology spend, and other temporary cost actions, as well as a favorable impact from the timing of investments, partially offset by higher spend in our innovation areas.

First quarter 2021 RD&E as a percentage of revenue of 4.3% decreased by 0.2-percentage points as compared to first quarter 2020, as a result of cost reductions that outpaced the rate of revenue declines.

RD&E of $74 million decreased $10 million as compared to first quarter 2020 reflecting savings from simplification and rationalization in our core technology, as well as a favorable impact from the program cycle of recent launches and the timing of projects.

Selling, Administrative and General Expenses (SAG)

Third quarter 2020 SAG as a percentage of revenue of 25.1% increased by 1.7-percentage points as compared to third quarter 2019, primarily due to the impact of lower revenues, partially offset by the benefits from cost savings and restructuring associated with our Project Own It transformation actions, and savings from additional cost reduction actions to mitigate the impact of the pandemic, including approximately $9 million from temporary government assistance measures and furlough programs, and other reductions in discretionary spend such as near-term targeted marketing programs, the use of contract employees and the temporary suspension of 401(k) matching contributions, as well as lower compensation incentives consistent with lower sales and operating results.

Third quarter 2020 SAG of $444 million decreased by $66 million as compared to third quarter 2019, reflecting cost savings and restructuring savings associated with our Project Own It transformation actions and from additional cost reduction actions to mitigate the impact of the pandemic, as described above, partially offset by expenses from recent acquisitions.

SAG as a percentage of revenue for the nine months ended September 30, 2020 of 27.7% increased by 3.9-percentage points as compared to the prior year period and included a 1.2-percentage point unfavorable impact due to the increase in bad debt expense of $61 million in the first quarter 2020, as compared to the prior year period.

The increase also reflected the impact of lower revenues, partially offset by the benefits from cost savings and restructuring associated with our Project Own It transformation actions and savings from additional cost reduction actions to mitigate the impact of the pandemic, including approximately $28 million from temporary government assistance measures and furlough programs, and other reductions in discretionary spend such as near-term targeted marketing programs and the use of contract employees and the temporary suspension of the 401(k) matching contributions, as well as lower compensation incentives consistent with lower sales and operating results.

SAG for the nine months ended September 30, 2020 of $1,411 million decreased $162 million as compared to the prior year period, reflecting cost savings and restructuring savings associated with our Project Own It transformation actions and from additional cost reduction actions to mitigate the impact of the pandemic, as noted above.

These savings were partially offset by the increase in bad debt expense as described above, as well as expenses from recent acquisitions.

During first quarter 2020, our bad debt provision was $61 million higher than the prior year period, primarily reflecting the expected impact on our customer base and related outstanding receivables portfolio as a result of the economic disruption caused by the COVID-19 pandemic.

The majority of the increased provision is related to finance receivables due to their larger balance and longer-term nature.

During the second and third quarters 2020, write-offs as well as the bad debt reserves for our trade and finance receivables portfolios were in line with our models and consistent with future expectations regarding the impacts from the COVID-19 pandemic.

We continue to

First quarter 2021 SAG as a percentage of revenue of 26.2% decreased by 2.9-percentage points as compared to first quarter 2020, primarily as a result of an approximate 3.7-percentage point favorable impact from lower bad debt expense due to a higher provision in the prior year to reflect the expected impact to our trade and finance receivable portfolio as a result of the economic disruption caused by the COVID-19 pandemic.

The remaining increase was primarily due to the impact of lower revenues, which was only partially offset by lower expenses as a result of cost savings and restructuring associated with our Project Own It transformation actions, and savings from additional cost reduction actions to mitigate the impact of the pandemic.

These actions include savings from temporary government assistance measures and reductions in discretionary spend such as near-term targeted marketing programs, and the suspension of 401(k) matching contributions.

First quarter 2021 SAG of $448 million decreased by $93 million as compared to first quarter 2020, reflecting primarily lower bad debt expenses, as well as cost savings and restructuring savings associated with our Project Own It transformation actions and from additional cost reduction actions to mitigate the impact of the pandemic, as described above, partially offset by higher compensation related accrual expenses (consistent with higher expected operating results), an approximate $10 million impact from translation currency, and higher expenses from prior year acquisitions.

Our bad debt provision of $10 million decreased by $64 million as compared to first quarter 2020, primarily due to the prior year reflecting an approximate $60 million incremental provision to cover estimated write-offs on our trade and finance receivable portfolio from the economic disruption caused by the COVID-19 pandemic.

Subsequent to first quarter 2020 and through first quarter 2021, actual write-offs incurred to date have lagged expectations but remain in line with our original projections over the life of the lease portfolio and consistent with future expectations regarding our estimated impacts from the COVID-19 pandemic.

Accordingly, our reserves as a percent of receivables have remained fairly consistent subsequent to the first quarter 2020 charge.

We continue to monitor developments regarding the pandemic, including business closures and mitigating government support actions and as a result our reserves may need to be updated in future periods.

On a trailing twelve-month basis (TTM), bad debt expense was approximately 1.3% of total receivables, which is nearly back to the pre-pandemic trend of approximately 1.0% and reflects the consistent level of reserves subsequent to the first quarter 2020 charge.

Xerox 2021 Form 10-Q 46

monitor developments regarding the pandemic, including business closures and mitigating government support actions and as a result our reserves may need to be updated in future periods.

Bad debt expense for third quarter 2020 of $16 million was $3 million higher as compared to third quarter 2019, while bad debt expense for the nine months ended September 30, 2020 of $103 million was $65 million higher compared to the prior year period as a result of the increase in the bad debts provision recorded in first quarter 2020 as described above.

Bad debt expense of approximately 2.7 percent of total gross receivables on a trailing-twelve-month basis (TTM) remained higher than the 2019 trend of less than one percent, reflecting the significant increase in first quarter 2020.

Restructuring and Related Costs

We incurred restructuring and related costs of $20 million for the third quarter 2020, as compared to $27 million for third quarter 2019, and $64 million for the nine months ended September 30, 2020 as compared to $176 million in the prior year period .

These costs were primarily related to implementation of initiatives under our business transformation projects including Project Own It.

Restructuring and Related Costs, Net

We incurred Restructuring and related costs, net of $17 million for the first quarter 2021 , as compared to $41 million for first quarter 2020.

These costs were primarily related to the implementation of initiatives under our business transformation projects including Project Own It.

The following is a breakdown of those costs:

Three Months Ended

September 30, Nine Months Ended

September 30,

(in millions) 2021 2020

Restructuring and severance (1)

$ 18 $ 12 $ 57 $ 37

Severance (1)

Asset impairments (2)

1 unchanged sentence

Net reversals (4)

(3) (7) (18) (23)

Restructuring and asset impairment costs 21 29

4 unchanged sentences

_____________

(1) Reflects headcount reductions of approximately 650 and 150 employees worldwide for the three months ended September 30, 2020 and 2019, respectively, and 1,100 and 450 employees worldwide for the nine months ended September 30, 2020 and 2019, respectively.

(1) Reflects headcount reductions of approximately 350 and 300 employees worldwide in first quarter 2021 and 2020, respectively.

(2) Primarily related to the exit and abandonment of leased and owned facilities.

The charge includes the accelerated write-off of $2 million f or the three months ended September 30, 2020 and 2019, respectively, and $3 million and $36 million f or the nine months ended September 30, 2020 and 2019 , respectively, for leased right-of-use assets, as well as $2 million and $0 million f or the three months ended September 30, 2020 and 2019, respectively, and $3 million and $12 million for the nine months ended September 30, 2020 and 2019 , respectively, for owned assets upon exit from the facilities, net of any potential sublease income and other recoveries.

The charge includes the accelerated write-off of $1 million and $1 million for leased right-of-use assets and $9 million and $1 million for owned assets upon exit from the facilities, net of any potential sublease income and other recoveries, including potential sales, in the first quarter of 2021 and 2020, respectively.

(3) Primarily includes additional costs incurred upon the exit from our facilities including decommissioning costs and associated contractual termination costs.

1 unchanged sentence

(5) Includes retention related severance and bonuses for employees expected to continue working beyond their minimum notification period before termination.

(6) Amounts for nine months ended September 30, 2019 include approximately $38 million for estimated severance and other related costs we were contractually required to pay in connection with employees transferred as part of the shared service arrangement entered into with HCL Technologies in the first quarter 2019.

The $4 million credit in first quarter 2021 reflects a change in estimate.

(6) Amounts primarily reflect estimated severance and other related costs we were contractually required to pay in connection with employees transferred as part of the shared service arrangement entered into with HCL Technologies in the first quarter 2019.

(7) Represents professional support services associated with our business transformation initiatives.

Third quarter 2020 actions impacted several functional areas, with approximately 30% focused on gross margin improvements, approximately 65% focused on SAG reductions and the remainder focused on RD&E optimization.

Third quarter 2019 actions impacted several functional areas, with approximately 50% focused on gross margin improvements, approximately 45% focused on SAG reductions and the remainder focused on RD&E optimization.

The restructuring and related costs reserve balance as of September 30, 2020 for all programs was $87 million, which is expected to be paid over the next twelve months.

First quarter 2021 actions impacted several functional areas, with approximately 25% focused on gross margin improvements, approximately 65% focused on SAG reductions and the remainder focused on RD&E optimization.

First quarter 2020 actions impacted several functional areas, with approximately 40% focused on gross margin improvements, approximately 50% focused on SAG reductions and the remainder focused on RD&E optimization.

The Restructuring and related costs, net reserve balance as of March 31, 2021 for all programs was $76 million, which is expected to be paid over the next twelve months.

Refer to Note 10 - Restructuring Programs in the Condensed Consolidated Financial Statements for additional information regarding our restructuring programs.

Transaction and Related Costs, Net

We recognized a credit of $(6) million for the three months ended September 30, 2020 for Transaction and related costs, net, primarily related to adjustments to costs from third party providers of professional services associated with certain strategic M&A projects.

Transaction and related costs, net were $18 million for the nine months ended September 30, 2020 primarily related to costs from third party providers of professional services associated with certain strategic M&A projects including our terminated proposal to acquire HP Inc.

Xerox 2020 Form 10-Q

Transaction and related costs, net primarily reflect costs from third party providers for professional services associated with certain strategic M&A projects.

There were no Transaction and related costs, net incurred during first quarter 2021 as compared to $17 million of Transaction and related costs, net, during the first quarter of 2020 primarily related to legal and other professional costs associated with the terminated proposal to acquire HP Inc.

Amortization of Intangible Assets

Amortization of intangible assets for the three months ended September 30, 2020 of $13 million increased by $4 million, primarily due to the impact from 2020 partner dealer acquisitions, while Amortization of intangible assets for the nine months ended September 30, 2020 of $34 million decreased by $1 million as compared to the prior year period as a result of the write-off of trade names in prior periods associated with our realignment and consolidation of certain XBS sales units as part of Project Own It transformation actions, partially offset by intangible amortization associated with 2020 and 2019 acquisitions.

Amortization of intangible assets for the three months ended March 31, 2021 of $15 million increased by $4 million as compared to the prior year period primarily related to intangible assets associated with our 2020 partner dealer acquisitions in the U.K.

Worldwide Employment

Worldwide employment was approximately 25,500 as of September 30, 2020 and decreased by approximately 1,500 from December 31, 2019.

Worldwide employment was approximately 24,600 as of March 31, 2021 and decreased by approximately 500 1 from December 31, 2020.

The reduction resulted from net attrition (attrition net of gross hires), of which a large portion is not expected to be back filled, as well as the impact of organizational changes.

_____________

(1) Decrease based on revised headcount at December 31, 2020 of 25,100 from 24,700 due to the change in definition of full-time equivalent employee.

Xerox 2021 Form 10-Q 47

Other Expenses, Net

Three Months Ended

September 30, Nine Months Ended

September 30,

(in millions) 2021 2020

Non-financing interest expense $ 24 $ 21

$ 30 $ 27 $ 69 $ 81

Non-service retirement-related costs (13) (2) (20) 21

Interest income (1) (8)

Non-service retirement-related costs (20) 1

Gains on sales of businesses and assets — (1)

Litigation matters (1) (8) (1) (8)

Contract termination costs - IT services — (8) 3 (8)

Currency losses, net 2 2

Contract termination costs - IT services — 3

All other expenses, net (1) 5

Other expenses, net $ 4 $ 23

_____________

(1) Includes interest expense of $11 million that is attributable to Senior Notes issued by Xerox Holdings.

Refer to Note 13 - Debt in the Condensed Consolidated Financial Statements for additional information regarding debt activity in 2020.

Non-Financing Interest Expense

Third quarter 2020 non-financing interest expense of $30 million was $3 million higher than third quarter 2019.

When combined with financing interest expense (Cost of financing), total interest expense decreased by $1 million from third quarter 2019 primarily reflecting a lower average debt balance in the third quarter as the impact from the incremental $770 million of net new senior unsecured debt was only partially reflected in the quarter.

For the nine months ended September 30, 2020 non-financing interest expense of $69 million was $12 million lower than the prior year period.

When combined with financing interest expense (Cost of financing), total interest expense decreased by $21 million from the prior year period primarily reflecting a lower average debt balance as the impact from the incremental $770 million of net new senior unsecured debt was only partially reflected in the third quarter 2020.

In October 2020, the Company completed the early redemption of $750 million of Senior Notes due May 2021.

Refer to Note 22 - Subsequent Event in the Condensed Consolidated Financial Statements for additional information.

First quarter 2021 non-financing interest expense of $24 million was $3 million higher than first quarter 2020.

When combined with financing interest expense (Cost of financing), total interest expense increased by $1 million from first quarter 2020 primarily reflecting a lower average debt balance.

Refer to Note 11 - Debt in the Condensed Consolidated Financial Statements, for additional information regarding debt activity and the interest expense.

Interest Income

Interest income for the three months ended March 31, 2021 was $7 million lower than first quarter 2020, primarily due to lower interest rates.

Non-Service Retirement-Related Costs

Non-service retirement-related costs for the three and nine months ended September 30, 2020 decreased $11 million and $41 million, respectively, compared to the prior year periods, primarily driven by lower losses from pension settlements in the U.S and lower discount rates.

Non-service retirement-related costs for the three months ended March 31, 2021 were $21 million lower than first quarter 2020, primarily driven by lower discount rates, as well as higher expected returns on plan assets due to higher asset balances, and lower losses from pension settlements in the U.S.

Refer to Note 14 - Employee Benefit Plans in the Condensed Consolidated Financial Statements, for additional information regarding non-service retirement-related costs.

Xerox 2020 Form 10-Q

Interest Income

Interest income for the nine months ended September 30, 2020 increased $3 million compared to the prior year period, primarily reflecting interest on a higher cash balance as a result of cash proceeds received from the sales of our indirect 25% equity interest in Fuji Xerox Co., Ltd.

(FX) and indirect 51% partnership interest in Xerox International Partners (XIP) completed in fourth quarter 2019, partially offset by lower market interest rates.

Gains on Sales of Businesses and Assets

Gains on the sales of businesses and assets increased $9 million for the three and nine months ended September 30, 2020, respectively, as compared to both prior year periods reflecting higher proceeds from sales of non-core business assets.

Litigation Matters

Litigation matters increased $7 million for the three and nine months ended September 30, 2020, respectively, as compared to both prior year periods, reflecting the favorable resolution of certain litigation matters in third quarter 2019.

Contract Termination Costs - IT Services

Contract termination costs - IT services increased $8 million and $11 million for the three and nine months ended September 30, 2020, respectively, as compared to both prior year periods, reflecting an adjustment in 2019 to a $43 million penalty recorded in fourth quarter 2018, associated with the termination of an IT services arrangement.

Third quarter 2020 effective tax rate was 24.4%.

On an adjusted 1 basis, third quarter 2020 effective tax rate was 21.1%.

This rate was higher than the U.S.

federal statutory tax rate of 21% primarily due to state taxes, the geographical mix of profits which includes non-deductible items on lower pre-tax income and an increase in deferred tax asset valuation allowances partially offset by the impact from various tax law changes.

The adjusted 1 effective tax rate excludes the tax impacts associated with the following charges:

Restructuring and related costs, Amortization of intangible assets, Transaction and related costs, net as well as non-service retirement-related costs and other discrete, unusual or infrequent items as described in our Non-GAAP Financial Measures section.

The effective tax rate for the nine months ended September 30, 2020 was 24.2%.

On an adjusted 1 basis, the effective tax rate for the nine months ended September 30, 2020 was 23.8%.

First quarter 2021 effective tax rate was 26.4%.

On an adjusted 1 basis, first quarter 2021 effective tax rate was 27.7%.

This rate was higher than the U.S.

The adjusted 1 effective tax rate excludes the tax impacts associated with the following charges:

Third quarter 2019 effective tax rate was 29.6%.

On an adjusted 1 basis, third quarter 2019 effective tax rate was 27.3%.

These rates were higher than the U.S.

federal statutory tax rate of 21% primarily due to state taxes and the geographical mix of profits.

federal statutory tax rate of 21% primarily due to state taxes and the geographical mix of earnings.

The adjusted1 effective tax rate excludes the tax impacts associated with the following charges:

The effective tax rate for the nine months ended September 30, 2019 was 21.8% and included a benefit of $31 million related to the January 2019 finalization of regulations that govern the repatriation tax from the 2017 Tax Cuts and Jobs Act (the Tax Act).

On an adjusted 1 basis, the effective tax rate for the nine months ended September 30, 2019 was 26.7%.

Restructuring and related costs, net, Amortization of intangible assets, non-service retirement-related costs and other discrete, unusual or infrequent items as described in our Non-GAAP Financial Measures section.

First quarter 2020 effective tax rate was 20.0%.

On an adjusted 1 basis, first quarter 2020 effective tax rate was 29.4%.

This rate was higher than the U.S.

federal statutory tax rate of 21% primarily due to state taxes and the geographical mix of profits.

federal statutory tax rate of 21% primarily due to state taxes and the geographical mix of earnings as well as the increased impact from various non-deductible and discrete items on lower pre-tax income.

The adjusted1 effective tax rate excludes the tax impacts associated with the following charges:

Restructuring and related costs, Amortization of intangible assets, Transaction and related costs, net and non-service retirement-related costs as well as other discrete, unusual or infrequent items as described in our Non-GAAP Financial Measures section, which included the impact of the Tax Act.

Restructuring and related costs, net, Amortization of intangible assets, Transaction and related costs, net, non-service retirement-related costs and other discrete, unusual or infrequent items as described in our Non-GAAP Financial Measures section.

Our effective tax rate is based on nonrecurring events as well as recurring factors, including the taxation of foreign income.

2 unchanged sentences

(1) Refer to the Effective Tax Rate reconciliation table in the "Non-GAAP Financial Measures" section.

Xerox 2020 Form 10-Q

Equity in Net Income of Unconsolidated Affiliates

In November 2019, Xerox Holdings sold its remaining indirect 25% equity interest in Fuji Xerox, which had been previously accounted for as an equity method investment.

Refer to Discontinued Operations below and Note 6 - Divestitures, in the Condensed Consolidated Financial Statements for additional information regarding the sale of Fuji Xerox.

Accordingly, our remaining investment in Affiliates, at Equity at September 30, 2020 largely consists of several minor investments in entities in the Middle East region.

Three Months Ended

September 30, Nine Months Ended

September 30,

(in millions) 2020 2019 2020 2019

Equity in net income of unconsolidated affiliates - Fuji Xerox (1)

$ — $ 57 $ — $ 132

Equity in net income of unconsolidated affiliates - continuing operations — 1 2 5

Total Equity in net income of unconsolidated affiliates $ — $ 58 $ 2 $ 137

Fuji Xerox after-tax restructuring and other charges $ — $ — $ — $ 19

_____________

(1) Equity in net income for Fuji Xerox for 2019 is reported in Income from discontinued operations, net of tax.

Net Income from Continuing Operations

Third quarter 2020 Net income from continuing operations attributable to Xerox Holdings was $90 million, or $0.41 per diluted share.

On an adjusted 1 basis, Net income from continuing operations attributable to Xerox Holdings was $105 million, or $0.48 per diluted share.

Third quarter 2020 adjustments to Net income from continuing operations included Restructuring and related costs, Amortization of intangible assets, Transaction and related costs, net and non-service retirement-related costs as well as other discrete, unusual or infrequent items (see Non-GAAP Financial Measures).

Net income from continuing operations attributable to Xerox Holdings for the nine months ended September 30, 2020 was $115 million, or $0.49 per diluted share.

On an adjusted 1 basis, Net income from continuing operations attributable to Xerox Holdings was $191 million, or $0.84 per diluted share and included the negative impact of a $61 million pre-tax increase in bad debt expense (approximately $43 million after-tax) as compared to the prior year period, primarily reflecting the expected impact to our customer base and related outstanding receivables portfolio as a result of the economic disruption caused by the COVID-19 pandemic.

Adjustments to Net income from continuing operations for the nine months ended September 30, 2020 included Restructuring and related costs, Amortization of intangible assets, Transaction and related costs, net, non-service retirement-related costs, as well as other discrete, unusual or infrequent items (see Non-GAAP Financial Measures).

Third quarter 2019 Net income from continuing operations attributable to Xerox Holdings was $157 million, or $0.68 per diluted share.

On an adjusted 1 basis, Net income from continuing operations attributable to Xerox Holdings was $184 million, or $0.80 per diluted share.

Third quarter 2019 adjustments to Net income from continuing operations included Restructuring and related costs, Amortization of intangible assets, Transaction and related costs, net and non-service retirement-related costs as well as other discrete, unusual or infrequent items (see Non-GAAP Financial Measures).

Net income from continuing operations attributable to Xerox Holdings for the nine months ended September 30, 2019 was $382 million, or $1.62 per diluted share.

On an adjusted 1 basis, Net income from continuing operations attributable to Xerox Holdings was $528 million, or $2.24 per diluted share.

Adjustments to Net income from continuing operations for the nine months ended September 30, 2019 included Restructuring and related costs, Amortization of intangible assets, Transaction and related costs, net and non-service retirement-related costs, as well as other discrete, unusual or infrequent items (see Non-GAAP Financial Measures).

Refer to Note 20 - Earnings per Share in the Condensed Consolidated Financial Statements, for additional information regarding the calculation of basic and diluted earnings per share.

_____________

(1) Refer to the Net Income and EPS reconciliation table in the "Non-GAAP Financial Measures" section.

Investment in Affiliates, at Equity largely consists of several minor investments in entities in the Middle East region.

There was no Equity in net income of unconsolidated affiliates for the three months ended March 31, 2021, as compared to $2 million of Equity income of unconsolidated affiliates for the three months ended March 31, 2020.

Xerox 2021 Form 10-Q 48

Discontinued Operations

In November 2019, Xerox Holdings completed a series of transactions to restructure its relationship with FUJIFILM Holdings Corporation (FH), including the sale of its indirect 25% equity interest in Fuji Xerox Co., Ltd.

(FX) for approximately $2.2 billion as well as the sale of its indirect 51% partnership interest in Xerox International Partners (XIP) for approximately $23 million (collectively the Sales).

As a result of the Sales and the related strategic shift in our business, the historical financial results of our equity method investment in FX and our XIP business (which was consolidated) for the periods prior to the Sales are reflected as a discontinued operation and as such, their impact is excluded from continuing operations for all periods presented.

Refer to Note 6 - Divestitures in the Condensed Consolidated Financial Statements for additional information regarding discontinued operations.

Other Comprehensive Income (Loss)

Third quarter 2020 Other Comprehensive Income, Net Attributable to Xerox Holdings was $88 million and included the following:

i) net translation adjustment gains of $179 million reflecting the significant strengthening of our major foreign currencies against the U.S.

ii) $1 million of net unrealized gains;

and iii) $92 million of net losses from the changes in defined benefit plans primarily due to net actuarial losses as a result of lower discount rates in the U.S and the negative impacts from currency, partially offset by settlements.

This compares to Other Comprehensive Loss, Net Attributable to Xerox Holdings of $203 million for the third quarter 2019, which reflected the following:

i) $155 million of net translation adjustment losses reflecting the significant weakening of our major foreign currencies against the U.S.

ii) $48 million of net losses from the changes in defined benefit plans primarily due to net actuarial losses as a result of lower discount rates in the U.S., partially offset by settlements and the positive impacts from currency;

Net Income (Loss)

First quarter 2021 Net income attributable to Xerox Holdings was $39 million, or $0.18 per diluted share.

On an adjusted 1 basis, Net income attributable to Xerox Holdings was $47 million, or $0.22 per diluted share.

First quarter 2021 adjustments to Net income included Restructuring and related costs, net, Amortization of intangible assets, and non-service retirement-related costs (see Non-GAAP Financial Measures).

First quarter 2020 Net loss attributable to Xerox Holdings was $2 million, or $(0.03) per diluted share.

On an adjusted 1 basis, Net income attributable to Xerox Holdings was $50 million, or $0.21 per diluted share.

Both amounts included the impact of the approximately $60 million pre-tax increase in bad debt expense (approximately $43 million after-tax) as compared to first quarter 2019, primarily reflecting the expected impact to our customer base and related outstanding receivable portfolio as a result of the economic disruption caused by the COVID-19 pandemic.

First quarter 2020 adjustments to Net loss included Restructuring and related costs, net, Amortization of intangible assets, Transaction and related costs, net as well as non-service retirement-related costs and other discrete, unusual or infrequent items (see Non-GAAP Financial Measures).

Refer to Note 18 - Earnings (Loss) per Share in the Condensed Consolidated Financial Statements, for additional information regarding the calculation of basic and diluted earnings (loss) per share.

_____________

(1) Refer to the Net Income (Loss) and EPS reconciliation table in the "Non-GAAP Financial Measures" section.

Other Comprehensive Loss

First quarter 2021 Other Comprehensive Loss, Net Attributable to Xerox was $3 million and included the following:

i) net translation adjustment losses of $51 million reflecting the weakening of the Euro against the U.S.

Dollar that was only partially offset by the strengthening of the GBP and CAD dollar;

ii) $7 million of net unrealized losses;

and iii) $55 million of net gains from the changes in defined benefit plans primarily due to net actuarial gains as a result of higher discount rates in the U.S.

This compares to Other Comprehensive Loss, Net Attributable to Xerox of $138 million for the first quarter 2020, which reflected the following:

i) net translation adjustment losses of $197 million reflecting the significant weakening of our major foreign currencies against the U.S.

ii) $54 million of net gains from the changes in defined benefit plans;

and iii) $5 million net unrealized gains.

Other Comprehensive Income, Net Attributable to Xerox Holdings for the nine months ended September 30, 2020 was $53 million and included the following:

i) $42 million of net gains from the changes in defined benefit plans is primarily due to the amortization and recognition of net actuarial losses from AOCL 1 ;

ii) net translation adjustment gains of $7 million reflecting the strengthening of our major foreign currencies against the U.S.

and iii) $4 million of net unrealized gains.

This compares to Other Comprehensive Loss, Net Attributable to Xerox Holdings of $158 million for the nine months ended September 30, 2019, which reflected the following:

i) $122 million of net translation adjustment losses, reflecting the significant weakening of our major foreign currencies against the U.S.

ii) $38 million of net losses from the changes in defined benefit plans;

and iii) $3 million of net unrealized gains.

Refer to Note 19 - Other Comprehensive Income (Loss) in the Condensed Consolidated Financial Statements, for the components of Other Comprehensive Income (Loss), Note 14 - Financial Instruments in the Condensed Consolidated Financial Statements, for additional information regarding unrealized (losses) gains, net, and Note 16 - Employee Benefit Plans in the Condensed Consolidated Financial Statements, for additional information regarding net changes in our defined benefit plans.

Refer to Note 17 - Other Comprehensive Income (Loss) in the Condensed Consolidated Financial Statements, for the components of Other Comprehensive Loss, Note 12 - Financial Instruments in the Condensed Consolidated Financial Statements, for additional information regarding unrealized (losses) gains, net, and Note 14 - Employee Benefit Plans in the Condensed Consolidated Financial Statements, for additional information regarding net changes in our defined benefit plans.

_____________

(1) AOCL - Accumulated other comprehensive loss.

New Business Strategy

As disclosed in our 2020 Annual Report, in January 2021 we announced our intention to stand up our Software, Financing and Innovation businesses as separate units by 2022.

At this stage, the operations and financial results for these units continue to be managed by and reported in our “go-to-market” (GTM) sales channels.

We have begun the process of reorganizing these new units from the GTM units but we have not progressed to the point where we have discrete and complete financial information for these new businesses.

Accordingly, the chief operating decision maker (CODM) and management continue to manage the Company’s operations, including the products and services from these units, through the GTM sales channels and as result, we continue to have one operating and reportable segment.

We expect that the business and financial information for these new units, as well as the operational management of these businesses, will continue to be refined and improved during 2021.

Accordingly, a reassessment of our operating segments may be required later in 2021.

Xerox 2021 Form 10-Q 49

Capital Resources and Liquidity

Our financial results through September 30, 2020 were significantly impacted by COVID-19 related business closures and office building capacity restrictions that impacted our customers' purchasing decisions and caused delayed installations and lower printing volumes on our devices.

Our first quarter financial results were impacted by COVID-19 related business closures and office building capacity restrictions.

However, we believe we have sufficient liquidity to manage the business through the economic disruption caused by this pandemic:

• A majority of our business is contractually based and our bundled services contracts, on average, include not only a variable component linked to print volumes, but also a fixed minimum, which provides us with a continuing stream of operating cash flow.

• As of September 30, 2020, total cash, cash equivalents and restricted cash were $3,297 million and, apart from the restricted cash of $55 million, was readily accessible for use.

In October 2020, we completed the early redemption of $750 million of the approximately $1,062 million Senior Notes due in May 2021 from cash on hand.

Refer to Note 13 - Debt in the Condensed Consolidated Financial Statements for additional information.

• A majority of our business is contractually based and most of our bundled services contracts include not only a variable component linked to print volumes, but also a fixed minimum, which provides us with a continuing stream of operating cash flow.

• As of March 31, 2021, total cash, cash equivalents and restricted cash were $2,461 million and, apart from the restricted cash of $82 million, was readily accessible for use.

We have access to an undrawn $1.8 billion Credit Facility that matures in August 2022.

In connection with the issuance of our $1.5 billion of new Senior Notes, we amended the Credit Facility debt covenants to consider our level of cash on hand as part of our principal debt balance.

Refer to Note 13 - Debt in the Condensed Consolidated Financial Statements for additional information.

• We have utilized a combination of capital markets financing and securitization to refinance all 2020 debt maturities and a portion of our 2021 debt maturities, significantly reducing our near-term debt commitments and improving our liquidity.

Refer to Note 22 - Subsequent Event in the Condensed Consolidated Financial Statements for additional information regarding the early redemption of a portion of the Senior Notes due 2021.

• We have focused our efforts on incremental actions to prioritize and preserve cash as we manage through the pandemic.

These actions include the use of available temporary government assistance measures and furlough programs and the reduction of discretionary spend such as near-term targeted marketing programs, the use of contract employees and the temporary suspension of 401(k) matching contributions, as well as lower compensation incentives consistent with lower sales and operating results.

• We have utilized a combination of capital markets financing and securitization to refinance all of our 2021 debt maturities, significantly reducing our near-term debt commitments and improving our liquidity.

• We continue to focus our efforts on incremental actions to prioritize and preserve cash as we manage through the pandemic.

Cash Flow Analysis

The following summarizes our cash, cash equivalents and restricted cash:

Nine Months Ended

September 30, Change

Three Months Ended

March 31, Change

(in millions) 2021 2020

Net cash provided by operating activities of continuing operations $ 313 $ 846 $ (533)

Net cash provided by operating activities of discontinued operations — 49 (49)

Net cash provided by operating activities $ 117 $ 173 $ (56)

Net cash used in investing activities (17) (214) 197

Net cash provided by (used in) financing activities 424 (983) 1,407

Net cash used in financing activities (318) (60) (258)

Effect of exchange rate changes on cash, cash equivalents and restricted cash (12) (29) 17

Increase (decrease) in cash, cash equivalents and restricted cash 502 (169) 671

Decrease in cash, cash equivalents and restricted cash (230) (130) (100)

Cash, cash equivalents and restricted cash at beginning of period 2,691 2,795 (104)

1 unchanged sentence

Cash Flows from Operating Activities

Net cash provided by operating activities of continuing operations was $313 million for the nine months ended September 30, 2020.

Net cash provided by operating activities was $117 million in first quarter 2021.

The $56 million decrease in operating cash from the prior year period was primarily due to the following:

• $495 million decrease in pre-tax income before depreciation and amortization, provisions, gain on sales of businesses and assets, restructuring and related costs and defined benefit pension costs.

• $305 million decrease from higher levels of inventory primarily due to lower sales volume.

• $125 million decrease in other current and long-term liabilities, reflecting lower accruals, particularly incentive-related payments associated with our indirect channel partners and decreases in deferred revenue reflecting lower sales activity.

• $50 million decrease from accrued compensation primarily related to lower compensation costs and the year-over-year timing of payments.

• $82 million decrease from lower accounts payable primarily due to decreased spending and the year-over-year timing of supplier and vendor payments.

Xerox 2020 Form 10-Q

• $272 million increase from accounts receivable primarily due to lower revenue as well as timing of collections.

• $124 million increase primarily related to a higher level of run-off due to lower originations of finance receivables of $97 million and lower equipment on operating leases of $27 million.

• $53 million increase from net taxes primarily due to lower payments in 2020 as a result of lower pre-tax income.

• $47 million increase primarily due to lower restructuring and related costs as compared to the prior year.

• $74 million decrease from accounts receivable primarily due to a lower sequential revenue decrease as compared to the prior year partially offset by timing of collections.

• $56 million decrease from a lower net run-off of finance receivables due to an increased level of XFS lease originations for our XBS sales unit.

• $38 million decrease from derivatives primarily related to settlements of EUR/GBP derivative contracts reflecting the significant movements in rates year-over-year.

• $108 million increase from inventory primarily due to significant usage in 2020 as inventory levels increased with the onset of the COVID-19 pandemic.

• $72 million increase from accrued compensation primarily related to the year-over-year timing of employee incentive payments.

Cash Flows from Investing Activities

Net cash used in investing activities was $223 million for the nine months ended September 30, 2020.

The $155 million change from the prior year period was primarily due to four acquisitions completed in the current year for $193 million compared to two acquisitions in the prior year for $42 million.

Net cash used in investing activities was $17 million in first quarter 2021.

The $197 million change from the prior year period was primarily due to acquisitions of $193 million in the prior year compared to no acquisitions in the current year.

Xerox 2021 Form 10-Q 50

Cash Flows from Financing Activities

Net cash provided by financing activities was $424 million for the nine months ended September 30, 2020.

The $1,407 million increase in cash from the prior year period was primarily due to the following:

• $1,168 million increase from net debt activity.

2020 reflects proceeds of $1,507 million from a Senior Notes offering and $340 million from a secured financing arrangement offset by payments of $1,051 million on Senior Notes, $22 million on the secured financing arrangement and $13 million of deferred debt issuance costs.

2019 reflects payments of $406 million on Senior Notes.

• $218 million increase due to share repurchases.

• $11 million increase from lower distributions of noncontrolling interests.

Net cash used in financing activities was $318 million in first quarter 2021.

The $258 million increase in the use of cash from the prior year period was primarily due to the following:

• $162 million increase due to share repurchases in the current year compared to no share repurchases in the prior year.

• $97 million increase from net debt activity primarily due to payments of $94 million on secured financing arrangements in the current year compared to no payments in the prior year.

Cash, Cash Equivalents and Restricted Cash

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Operating Leases

We have operating leases for real estate and vehicles in our domestic and international operations as well as for certain equipment in our domestic operations.

We have operating leases for real estate and vehicles in our domestic and international operations and certain equipment in our domestic operations.

Additionally, we have identified embedded operating leases within certain supply chain contracts for warehouses, primarily within our domestic operations.

Our leases have remaining terms of up to twelve years and a variety of renewal and/or termination options.

As of March 31, 2021 and December 31, 2020, total operating liabilities were $310 million and $333 million, respectively.

Refer to Note 9 - Lessee in the Condensed Consolidated Financial Statements for additional information regarding our leases accounted under lessee accounting.

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The following summarizes our debt:

(in millions) September 30, 2020 December 31, 2019

Principal debt balance (1)

$ 5,082 $ 4,313

Net unamortized discount (3) (16)

(in millions) March 31, 2021 December 31, 2020

Xerox Holdings Corporation $ 1,500 $ 1,500

Xerox Corporation 2,200 2,200

Xerox - Other Subsidiaries (1)

Subtotal - Principal debt balance 4,373 4,467

Debt issuance costs

Xerox Holdings Corporation (12) (13)

Xerox Corporation (10) (11)

Xerox - Other Subsidiaries (1)

Subtotal - Debt issuance costs (25) (27)

Net unamortized premium 3 3

Fair value adjustments (2)

- terminated swaps 1 1

- current swaps — 1

Total Debt $ 4,352 $ 4,444

_____________

(1) Includes Notes Payable of $2 million as of September 30, 2020.

There were no Notes Payable as of December 31, 2019.

(2) Fair value adjustments include the following:

(1) Represents secured debt issued by subsidiaries of Xerox Corporation as part of the securitization of Finance Receivables - Refer to Note 11 - Debt in the Condensed Consolidated Financial Statements for additional information.

(2) Fair value adjustments normally include the following:

(i) fair value adjustments to debt associated with terminated interest rate swaps, which are being amortized to interest expense over the remaining term of the related notes;

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Hedge accounting requires hedged debt instruments to be reported inclusive of any fair value adjustment.

Credit Rating Downgrade

In August, the Company's $1.0 billion Senior Notes due 2023 were downgraded by S&P and, pursuant to the terms of the Notes, the coupon rate on the Notes increased by 0.25% from 4.125% to 4.375% per annum.

Refer to Note 11 - Debt in the Condensed Consolidated Financial Statements for additional information regarding debt.

Xerox 2021 Form 10-Q 51

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The following represents our total finance assets, net associated with our lease and finance operations:

(in millions) September 30, 2020 December 31, 2019

(in millions) March 31, 2021 December 31, 2020

Total finance receivables, net (1)

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(1) Includes (i) Billed portion of finance receivables, net, (ii) Finance receivables, net and (iii) Finance receivables due after one year, net as included in our Condensed Consolidated Balance Sheets.

(2) The change from December 31, 2019 includes an increase of $24 million due to currency.

(2) The change from December 31, 2020 includes a decrease of $43 million due to currency.

Our lease contracts permit customers to pay for equipment over time rather than at the date of installation;

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Based on this leverage, the following represents the breakdown of total debt between financing debt and core debt:

(in millions) September 30, 2020 December 31, 2019

(in millions) March 31, 2021 December 31, 2020

Finance receivables debt (1)

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____________________________

(1) Finance receivables debt is the basis for our calculation of "Cost of financing" expense in the Condensed Consolidated Statements of Income.

(1) Finance receivables debt is the basis for our calculation of "Cost of financing" expense in the Condensed Consolidated Statements of Income (Loss).

Sales of Accounts Receivable

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Three Months Ended

September 30, Nine Months Ended

September 30,

(in millions) 2021 2020

Estimated increase (decrease) to operating cash flows (1)

Estimated decrease to operating cash flows (1)

$ (27) $ (77)

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(1) Represents the difference between current and prior period accounts receivable sales adjusted for the effects of currency.

The increase for the three months ended September 30, 2020 reflects increased sales activity in the channel.

Refer to Note 6 - Accounts Receivable, Net in the Condensed Consolidated Financial Statements for additional information regarding our accounts receivable sales arrangements.

Xerox 2021 Form 10-Q 52

Liquidity and Financial Flexibility

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Our principal debt maturities are spread over the next five years as follows:

(in millions) Amount (1)

(in millions) Xerox Holdings Corporation Xerox Corporation Xerox - Other Subsidiaries (1)

2021 Q2 $ — $ — $ 107 $ 107

2021 Q3 — — 101 101

2021 Q4 — — 93 93

2022 — 300 289 589

2023 — 1,000 83 1,083

2024 — 300 — 300

2025 750 — — 750

2026 and thereafter 750 600 — 1,350

Total $ 5,082

$ 1,500 $ 2,200 $ 673 $ 4,373

_____________

(1) Represents secured debt issued by subsidiaries of Xerox Corporation as part of securitization of Finance Receivables - Refer to Note 11 - Debt in the Condensed Consolidated Financial Statements for additional information.

(2) Includes fair value adjustments.

(2) Includes Notes Payable of $2 million as of September 30, 2020.

(3) Includes $750 million of Senior Notes due May 2021 that were redeemed in October 2020.

Refer to Note 22 - Subsequent Event in the Condensed Consolidated Financial Statements for additional information regarding the early redemption of these Senior Notes.

Xerox 2020 Form 10-Q

Treasury Stock

In the third quarter 2020 Xerox Holdings repurchased 8.0 million shares of our common stock for an aggregate cost of $150 million, including fees.

No share repurchases were made in the first or second quarter of 2020.

We expect to repurchase an additional $150 million of our common stock in the fourth quarter 2020.

In the first quarter 2021 Xerox Holdings repurchased 6.7 million shares of our common stock for an aggregate cost of $162 million, including fees.

The cumulative total of shares repurchased by Xerox Holdings under the current share repurchase program is 31.4 million shares for an aggregate cost of $762 million, including fees.

As of March 31, 2021, the remaining share repurchase authorization is approximately $338 million.

Shared Services Arrangement with HCL Technologies

In March 2019, as part of Project Own It, Xerox entered into a shared services arrangement with HCL Technologies

(HCL) pursuant to which we transitioned certain global administrative and support functions, including, among others, selected information technology and finance functions (excluding accounting), from Xerox to HCL.

This transition was expected to be completed during 2020, however, as a result of delays caused by the COVID-19 pandemic, the transition is now expected to extend into 2021.

In March 2019, as part of Project Own It, Xerox entered into a shared services arrangement with HCL Technologies ("HCL") pursuant to which we transitioned certain global administrative and support functions, including, among others, selected information technology and finance functions, from Xerox to HCL.

This transition was expected to be completed during 2020, however, it sustained some delays caused by the COVID-19 pandemic, and it is now expected to be finalized by the end of 2021.

HCL is expected to make certain ongoing investments in software, tools and other technology to consolidate, optimize and automate the transferred functions with the goal of providing improved service levels and significant cost savings.

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However, we can terminate the arrangement at any time at our discretion, subject to payment of termination fees that decline over the term, or for cause.

For the three and nine months ended September 30, 2020, we incurred net charges of approximately $49 million and $139 million, respectively, associated with this arrangement.

The cost has been allocated to the various functional expense lines in the Condensed Consolidated Statements of Income based on an assessment of the nature and amount of the costs incurred for the various transferred functions prior to their transfer to HCL.

We incurred net charges of approximately $50 million and $45 million during first quarter 2021 and 2020, respectively.

The increase of approximately $5 million was primarily due to scope changes and currency.

The cost has been allocated to the various functional expense lines in the Condensed Consolidated Statements of Income (Loss) based on an assessment of the nature and amount of the costs incurred for the various transferred functions prior to their transfer to HCL.

Xerox 2021 Form 10-Q 53

Financial Risk Management

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We utilize derivative financial instruments to hedge economic exposures, as well as to reduce earnings and cash flow volatility resulting from shifts in market rates.

We enter into limited types of derivative contracts, including interest rate swap agreements, foreign currency spot, forward and swap contracts and net purchased foreign currency options to manage interest rate and foreign currency exposures.

We enter into limited types of derivative contracts, including interest rate swap agreements, interest rate caps, foreign currency spot, forward and swap contracts and net purchased foreign currency options to manage interest rate and foreign currency exposures.

Our primary foreign currency market exposures include the Japanese Yen, Euro and U.K.

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Accordingly, we believe it is necessary to adjust several reported amounts, determined in accordance with GAAP, to exclude the effects of certain items as well as their related income tax effects.

A reconciliation of these non-GAAP financial measures to the most directly comparable financial measures calculated and presented in accordance with GAAP are set forth below as well as in the third quarter 2020 presentation slides available at www.xerox.com/investor .

A reconciliation of these non-GAAP financial measures to the most directly comparable financial measures calculated and presented in accordance with GAAP are set forth below as well as in the first quarter 2021 presentation slides available at www.xerox.com/investor .

These non-GAAP financial measures should be viewed in addition to, and not as a substitute for, the Company’s reported results prepared in accordance with GAAP.

Adjusted Earnings Measures

• Net income and Earnings per share (EPS)

• Net Income (Loss) and EPS

• Effective Tax Rate

The above measures were adjusted for the following items:

Restructuring and related costs:

Restructuring and related costs include restructuring and asset impairment charges as well as costs associated with our transformation programs beyond those normally included in restructuring and asset impairment charges.

Restructuring and related costs, net:

Restructuring and related costs, net include restructuring and asset impairment charges as well as costs associated with our transformation programs beyond those normally included in restructuring and asset impairment charges.

Restructuring consists of costs primarily related to severance and benefits paid to employees pursuant to formal restructuring and workforce reduction plans.

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Other discrete, unusual or infrequent items:

We excluded the following items given their discrete, unusual or infrequent nature and their impact on our results for each period:

We excluded the following item given its discrete, unusual or infrequent nature and its impact on our results for the period:

• Contract termination costs - IT services

• Impacts associated with the Tax Cuts and Jobs Act (the "Tax Act") enacted in December 2017

Xerox 2021 Form 10-Q 55

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A reconciliation of these non-GAAP financial measures and the most directly comparable measures calculated and presented in accordance with GAAP are set forth on the following tables:

Net Income and EPS reconciliation:

Three Months Ended September 30, Nine Months Ended September 30,

2020 2019 2020 2019

(in millions, except per share amounts) Net Income EPS Net Income EPS Net Income EPS Net Income EPS

Net Income (Loss) and EPS reconciliation:

Three Months Ended March 31,

(in millions, except per share amounts) Net Income EPS Net (Loss) Income EPS

$ 39 $ 0.18 $ (2) $ (0.03)

Restructuring and related costs 20 27 64 176

Restructuring and related costs, net 17 41

Amortization of intangible assets 15 11

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Income tax on adjustments (2)

1 (7) (23) (55)

Tax Act — 4 — (31)

Adjusted $ 47 $ 0.22 $ 50 $ 0.21

Dividends on preferred stock used in adjusted EPS calculation (3)

$ 4 $ — $ 11 $ —

Weighted average shares for adjusted EPS (3)

213 231 215 235

Fully diluted shares at September 30, 2020 (4)

Fully diluted shares at March 31, 2021 (4)

____________________________

(1) Net income and EPS from continuing operations attributable to Xerox Holdings.

(1) Net income (loss) and EPS attributable to Xerox Holdings.

(2) Refer to Effective Tax Rate reconciliation.

(3) Average shares for the calculation of adjusted diluted EPS for 2020 exclude 7 million shares associated with our Series A convertible preferred stock and therefore earnings include the preferred stock dividend.

Average shares for the calculation of adjusted diluted EPS for 2019 include 7 million shares associated with our Series A convertible preferred stock and therefore exclude the preferred stock dividend.

(4) Represents common shares outstanding at September 30, 2020 plus potential dilutive common shares as used for the calculation of adjusted diluted EPS for the third quarter 2020.

The amount excludes shares associated with our Series A convertible preferred stock as they are expected to be anti-dilutive for the year.

(3) Average shares for the calculation of adjusted diluted EPS for the three months ended March 31, 2021 and 2020 excludes 7 million shares associated with our Series A convertible preferred stock and therefore earnings include the preferred stock dividend.

In addition, adjusted diluted EPS shares for 2020 include 4 million shares for potential dilutive common shares, which are not included in the GAAP EPS calculation since it was a loss.

(4) Represents common shares outstanding at March 31, 2021 plus potential dilutive common shares as used for the calculation of adjusted diluted EPS for the first quarter 2021.

The amount excludes shares associated with our Series A convertible preferred stock as they were anti-dilutive for the first quarter 2021.

Xerox 2021 Form 10-Q 56

Effective Tax Rate reconciliation:

Three Months Ended September 30,

(in millions) Pre-Tax Income Income Tax Expense (Benefit) Effective

Tax Rate Pre-Tax Income Income Tax Expense (Benefit) Effective

$ 119 $ 29 24.4 % $ 223 $ 66 29.6 %

Non-GAAP Adjustments (2)

Tax Act — — — (4)

$ 133 $ 28 21.1 % $ 253 $ 69 27.3 %

Nine Months Ended September 30,

Three Months Ended March 31,

(in millions) Pre-Tax Income Income Tax Expense Effective

Tax Rate Pre-Tax Income Income Tax Expense Effective

Tax Rate Pre-Tax (Loss) Income Income Tax (Benefit) Expense Effective

$ 53 $ 14 26.4 % $ (5) $ (1) 20.0 %

Non-GAAP Adjustments (2)

Tax Act — — — 31

$ 65 $ 18 27.7 % $ 68 $ 20 29.4 %

____________________________

(1) Pre-tax income and income tax expense from continuing operations.

(2) Refer to Net Income and EPS reconciliation for details.

(3) The tax impact on Adjusted Pre-Tax Income from continuing operations is calculated under the same accounting principles applied to the Reported Pre-Tax Income under ASC 740, which employs an annual effective tax rate method to the results.

(1) Pre-tax income (loss) and income tax expense (benefit).

(2) Refer to Net Income (Loss) and EPS reconciliation for details.

(3) The tax impact on Adjusted Pre-Tax Income (Loss) is calculated under the same accounting principles applied to the Reported Pre-Tax Income (Loss) under ASC 740, which employs an annual effective tax rate method to the results.

Operating Income and Margin reconciliation:

Three Months Ended September 30,

(in millions) Profit Revenue Margin Profit Revenue Margin

$ 119 $ 1,767 6.7 % $ 223 $ 2,179 10.2 %

Restructuring and related costs 20 27

Amortization of intangible assets 13 9

Transaction and related costs, net (6) 4

Other expenses, net (15) (1)

Adjusted $ 131 $ 1,767 7.4 % $ 262 $ 2,179 12.0 %

Nine Months Ended September 30,

(in millions) Profit Revenue Margin Profit Revenue Margin

Three Months Ended March 31,

(in millions) Profit Revenue Margin (Loss) Profit Revenue Margin

$ 53 $ 1,710 3.1 % $ (5) $ 1,860 (0.3) %

Restructuring and related costs 64 176

Restructuring and related costs, net 17 41

Amortization of intangible assets 15 11

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____________________________

(1) Pre-Tax Income and Revenue from continuing operations.

(1) Pre-Tax Income (Loss)

Xerox 2021 Form 10-Q 57

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Compared sentence by sentence after normalising whitespace, quotation marks, case and digits, so re-formatting and restated figures do not read as changed language. Wording changes appear as one removal and one addition. The current filing and the prior one are authoritative.

What changed 10-Q

Item 2. Management’s Discussion and Analysis