Letter to Our Shareholders

Dear Fellow Shareholders:

It will come as no surprise to you that 2009 was a challenging year for businesses around the world. Xerox was no exception. As the recession took its toll, customers pulled back from making new investments in technology, used their current technology less and sought to reduce spending wherever they could. As a consequence, total revenue for the year was $15.2 billion, down 14 percent from the previous year.

To help offset this recessionary impact on revenue, we focused intently on reducing costs and generating cash – taking tough actions to weather the storm while prioritizing investments to accelerate growth. Our operational improvements, along with our substantial recurring revenue stream, enabled the following results:

• Net income of $485 million
• Operating cash flow of $2.2 billion
• Closed the year with $3.8 billion in cash⁽¹⁾
• Gross margin of 39.7 percent
• Debt reduction of $1.1 billion⁽²⁾
• Earnings per share of 55 cents; adjusted earnings per share of 60 cents⁽³⁾ – better than the expectations we set in the first quarter of 2009.

Considering the challenges in the marketplace, we’re especially pleased with the progress we made in delivering on our priorities of cash generation and cost and expense management, thanks to the determination of Xerox people who always stand and deliver.

Investing in Our Future

As proud as we are of our results in the depths of a global recession, we know that we must grow revenue to build even more value for our company and for you. That’s why we remain sharply focused on strengthening our leadership in document management, as well as significantly scaling and growing our services business.

Among our many assets, we are known for and continue to invest in three indisputable strengths: our brand, global presence and renowned innovation. By leveraging these three pillars, we’re expanding into more markets and creating more value-based offerings for our clients through technology and services.

Last year, we brought to market 34 new products, increasing what is already the industry’s broadest portfolio of technology that serves businesses small to large. For example, our clients in the graphic arts marketplace – many of whom print for a living – are always seeking faster, more productive technology so they can better serve their customers. In 2009, we announced the Xerox^® iGen4^® 220 Perfecting Press. It’s a digital color press that can print 220 impressions per minute and up to seven million impressions per month – reliable technology that works hard so our customers can profit.

Of course, Xerox’s brand and technology remain prominent in workplaces of any size. It’s been 50 years since we first launched the Xerox^® 914, the world’s first plain-paper copier and an invention that dramatically changed the way information is shared. Fast forward to today and our customers still depend on Xerox for document technology that does more for less. The Xerox^® ColorQube™ 9200 series of multifunction printers does just that. Launched in May last year, the ColorQube is a game changer in our industry. It cuts the cost of color pages by up to 62 percent compared to traditional color lasers – making it virtually the same as black-and-white for several applications – and it prints, scans, faxes and copies without compromising print quality. It’s also a good example of our focus on helping customers with their sustainability initiatives. Compared to traditional laser printers, ColorQube creates 90 percent less waste from supplies, cuts down on storage space, uses less energy, produces fewer greenhouse gases and meets the U.S. Environmental Protection Agency’s rigorous new ENERGY STAR^® requirements.

As critical as our technology is, so too is our distribution. Xerox boasts the broadest and deepest global sales network in our industry, including direct sales, agents and concessionaires, value-added resellers and teleWeb sales. During 2009, we continued to expand our reach. Most notable was the acquisition of ComDoc, Inc., one of the larger independent dealers in the U.S. Our operations in the United Kingdom also formed a strategic partnership with the Danwood Group. With 34 sales offices, Danwood is the largest independent supplier of printing solutions in Europe and gives us access to more customers in both the corporate and public sector.

You can expect more world-class technology and innovation from Xerox – this year and every year. In 2009, we received 706 U.S. patents – that’s a 16 percent increase from 2008 and places Xerox among the world’s top 25 corporate patent recipients. Add in the 425 U.S. patents received by Fuji Xerox and our total swells to 1,131, putting Xerox in the No. 12 spot worldwide.

We point this out because it’s critical to our future. We innovate today so that we can help our customers tomorrow. It’s at the very core of what Xerox does, why we have sustained our leadership in innovation for six decades and why we have been able to widen the gap against our competitors in recent years.

Traditionally, innovation in our business applies to our hardware and software technology. But it also helps differentiate our service offerings and is especially relevant as we exploit the huge market opportunities in business process and IT outsourcing.

Scaling in Services

Many of our clients are increasingly seeking service providers that offer a full range of solutions – from the management of their print services to the management of work processes in their back and front offices. Large enterprises also demand global capabilities and global account management. And, our customers are demanding more value from their technology. They want their hardware investments married with software, and they want total packages that solve a problem, cut their costs, simplify the way they get work done – or a combination of all three.

We understand these marketplace dynamics very well. Instead of watching them play out in front of us, we knew the better approach was to become a bigger, broader player in the game. The reason is clear: in a mature hardware technology market, the larger growth opportunity is in services.

“Services” is a broadly defined word. As we look at it in our document management business, services comprise both the technical support of our equipment and, as important, the software and outsourcing that relate to workflow in a business. For example: Through our enterprise print services, we help customers save up to 30 percent on their document costs by managing all the devices in their workplaces – regardless of manufacturer – and by handling the supplies, maintenance and support that go along with them. (It’s important to note that we continue to be positioned by Gartner, Inc. in the Leaders Quadrant in the “Magic Quadrant for Managed Print Services Worldwide” – meaningful industry recognition that reflects our strong leadership in this growing business.)

So, in scaling our services business, we started with following the document, where we have knowledge and expertise that no one else can match. That focus led us quite naturally to business process outsourcing (BPO). Most business processes are driven by documents, which gives us the opportunity to differentiate ourselves from competitors – most of whom are IT providers. That’s a big deal for us. Think about it. BPO is all about taking time-consuming operations and either automating them and/or finding more productive ways to do them manually.

Healthcare is a good example. If you’ve been to a doctor or hospital recently, you know that the industry is still paper-dependent. In many cases, BPO providers are working behind the scenes keeping the paper flowing and getting it where it needs to be – producing hard copies, converting paper to digital, distributing forms, processing payments and so on.

The same is true in many other facets of our daily lives – mortgage applications, credit card processing, benefits forms, insurance claims, and on and on. We know how to apply document software, such as advancements in redaction and categorization, to make these processes more efficient and effective.

That’s why BPO became the logical and natural next step for Xerox. With a BPO business, we extend our global participation in vertical markets – like healthcare, transportation and financial services. And, we participate in a more diversified and faster-growing market that holds up well in any economy. Nowhere was this strategy more visible than in our acquisition of Affiliated Computer Services (ACS).

Completed in February of 2010, Xerox’s acquisition of ACS significantly strengthens our financial position and enables us to take a quantum leap forward in expanding our already growing services business. It puts an emphatic exclamation point on our drive to transform our company. Growth is certainly at the center of this transformation.

While perhaps not a familiar name in the marketplace, ACS touches millions of lives everyday. Consider this: ACS, which is now a Xerox company:

• Provides services to more than 1,700 federal, state, county and local governments, making ACS the largest provider of managed services to government entities in the United States.
• Processes about $3 billion in electronic toll collections every year.
• Handles more than 1.5 million phone calls daily in 150 customer care centers.
• Manages more than 12.5 million student loans worth $170 billion.
• Provides HR services for more than 4.4 million employees and retirees annually.

Strategically and financially, extending our global brand into business process outsourcing is all about growth acceleration and value creation – more value for our customers through a broader set of technology and services offerings, and more sustainable value for our shareholders by strengthening our financial profile. In fact, the benefits to our business are immediate, including:

• Giving us scale and leadership in business process outsourcing, a market that is growing at a rate of 5 percent per year.
• Increasing our already strong free cash flow⁽⁴⁾, which is expected to exceed $2 billion per year or more than 8 percent of annual revenue.
• Strengthening our annuity-based business model. Through multi-year service contracts for BPO and document management, Xerox’s recurring revenue will represent 80 percent of total revenue.
• Enhancing our profitable revenue growth. Through cost and revenue synergies, we expect to increase our operating margin by 1 percent per year through 2012, which will expand earnings by 15 to 20 percent.

The acquisition would not have been possible without the approval of Xerox shareholders who voted overwhelmingly for it. In fact, more than 96 percent of the votes cast gave us the green light. We can’t tell you how gratifying that is and we are committed to giving you a good return on this investment.

Xerox People: Our Greatest Asset

We are feeling good about where we are and where we’re heading. Much of our optimism comes from the investments we have made, but much of it comes also from the caliber and commitment of Xerox people. We both spend a lot of time with Xerox customers. Wherever we go around the world, our customers sing the praises of Xerox people. They are our competitive advantage.

Last year, our people received more than 350 awards. They were won by Xerox people in every corner of the globe and they were given for our innovation, technology, products and services; for our leadership in diversity, sustainability, corporate responsibility and community involvement; for being well-managed, using Lean Six Sigma exceptionally well, exhibiting a strong sense of values and ethics and being a good place to work.

One award was especially gratifying. J.D. Power and Associates recognized Xerox for providing “an outstanding customer service experience.” This is the fourth consecutive year that Xerox people have been awarded this coveted distinction.

Awards like these confirm what we already know – that we are privileged to lead a wonderful group of people. It’s a responsibility we take quite seriously. And, it’s one of the key reasons we so carefully planned the transition of one Chief Executive Officer to another that took place on July 1, 2009. The transition was smooth and natural as we knew it would be – another sign of the values and culture of this special company.

Despite the recession and its impact on our revenue, we exceeded our financial expectations in most respects last year and generated $2.2 billion in operating cash. We brought a new array of technology to market. We increased our distribution to bring the Xerox brand to more businesses of any size in more places around the world. We announced the ACS acquisition, significantly expanding our portfolio of services. And, we had a seamless transfer of leadership at the helm.

Ready for Real Business

As we look at the dynamics of the markets we serve and understand deeply the challenges our customers face, the value proposition that Xerox offers becomes clearer every day. We know that the one thing that is predictable about business is that it is fundamentally unpredictable. Successful businesses navigate through this unpredictability by making sure the technology, software and business processes that form the backbone of their organizations are operating as effectively and efficiently as possible. No one understands this better than Xerox.

We have the technology and services to take on all our clients’ essential business processes, giving them the freedom to focus on what matters most: their real business. It’s a powerful statement and one that defines and differentiates our new company.

Xerox is now a $22 billion firm that is the world’s leading global enterprise for business process and document management. With our strong leadership in document technology, services and BPO, we are a major player in a $500 billion market – that’s four times the size of the market we traditionally have been a part of – and it’s a market that is growing by more than 5 percent per year. Through our strong will to win, we are aggressively pursuing more than our fair share of this sizable growth opportunity.

We know we speak for all Xerox people, now 130,000 strong, when we say that we are ready for real business – for growing our business and for creating value for our customers and our shareholders. We take those obligations very seriously. In a world of uncertainty, you can count on at least one thing – we will do everything in our power to give you a good return on your investment. That’s a promise.