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The Weekly Contrarian Pick




52 week range: 23.75-1.75

P/E Ratio



Institutional Holdings

Office Equipment

P/E to Industry

Price/Book to Industry

Profit Margin to Industry

London headquartered, $3 billion in revenues, Danka Business Systems is one of the world's largest suppliers of automated office equipment.  The company derives 28% of its revenues from the sale of photocopiers, facsimiles, and other office equipment . 65% of the company's revenues come from its retail service, supplies, and rental business which provides outsourced technical support, training, maintenance and supply contracts to its base of copier customers. The company's wholesale division markets its products to independent dealers and accounts for 7% of revenues. In September,  Danka  announced a distribution pact with Canon that allows Danka to offer a complete line of color copiers to its customers.

This former highflier's troubles began with the December 1996 acquisition of the sales, marketing, and equipment service divisions of  Kodak's copier business. Danka also acquired Kodak's outsourcing business. Danka struggled from the beginning to integrate the businesses, and in December 1997 it announced the first of a string of earnings warnings that cut its stock price in half.

In late June 1998 Danka announced that revenues for the first quarter of fiscal year 1999 would be 10% below expectations due to lower equipment sales in the U.S., and as a result earnings for the quarter and fiscal year would be hurt. According to Danka, "the revenue shortfall was primarily related to internal issues, including the integration of the sales force, changes in the compensation plan introduced on 4/1, and sales order entry issues related to the integration of the product portfolios. Additionally the company is experiencing a recent increase in competition among equipment sales and this is impacting margins."

On October 5th Danka issued yet another earnings warning, and announced that the company would report a loss for the quarter. Gross profit margins fell in the second quarter due to lower retail margins in the equipment and service divisions, and intensified competition from Japanese manufacturers.  Margins also came under pressure as the company continued to take steps to reduce inventory levels.    The company's second quarter fiscal 1999 revenues fell 10% due to lower equipment sales and lower retail service, supplies, and rentals revenues. Equipment sales were hurt by an accelerated shift to digital products, Asian economic problems, and competition from Japanese manufacturers selling directly to consumers.

There were a few bright spots in the second quarter report. Prices remained stable in the retail supplies and services division.  Equipment sales on a sequential basis rose 5% from the first quarter. Color copier and digital products sales rose 8% and 34% respectively. Danka is taking steps to improve the availability of digital products to meet increasing customer demand.   The increased focus on higher margin digital products will help profit margins in coming quarters. Danka will also benefit from an easing of competition from Japanese manufacturers due to the rise in the Yen. The gradual improvement we foresee in Asian markets over the next year will help the company regain revenue growth. Danka is expected to report a profit next year. We believe that the company is taking the necessary steps to survive its current financial crisis.

In early December DANKY reached an accord with its lenders to restructure its lending agreements.  On December 12th Danka announced that an agreement had been reached to end its research and development contract with Kodak The company also announced that it had terminated the onerous supply agreements with Kodak that required it to make minimum purchases of equipment from Kodak. The ending of these agreements will greatly help Danka in its efforts to reduce the inventory buildup which had impacted profit margins.   Under the terms of the terminated agreements Danka had been required to make purchases from Kodak which exceeded the company's inventory needs. The inventory buildup caused by these supply contracts had put a severe strain on Danka's finances.   Danka's payments to Kodak will be reduced by $150 million over the next 3 years.

Danka still needs to come to agreement with Kodak on long term supply relationships, and the company will need to continue to adjust its product mix in the coming quarters   if it is to regain financial stability. We believe that the company has taken the necessary first steps on the road to a return to profits. The past year's string of bad news has left the shares severely undervalued. DANKY now trades at just 1.5 times cash flow, with a price/sales ratio of 0.08. The current book value is $8.32 a share. We look for the shares to trade up to the $8-10 range on any positive developments.  Our 12-18 month target for DANKY is $10-15 a share.


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