Annual Report 2007

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Notes to the Consolidated Financial Statements

(Dollars in millions, except per-share data and unless otherwise indicated)

Short-term borrowings at December 31, 2007 and 2006 were as follows (in millions):


	2007		2006
Current maturities of long-term debt	$	426	$	1,465
Notes payable		18		20
France Bridge Facility due 2008		81		–
Total	$	525	$	1,485

We classify our debt based on the contractual maturity dates of the underlying debt instruments or as of the earliest put date available to the debt holders. We defer costs associated with debt issuance over the applicable term or to the first put date, in the case of convertible debt or debt with a put feature. These costs are amortized as interest expense in our Consolidated Statements of Income.

Long-term debt, including debt secured by finance receivables at December 31, 2007 and 2006 was as follows (in millions):


	Weighted Average Interest Rates at December 31, 2007		2007			2006
U.S. Operations
Xerox Corporation
Notes due 2008	5.88	%	$	2		$	3
Senior Notes due 2009 ⁽¹⁾	10.75	%		606			613
Euro Senior Notes due 2009 ⁽¹⁾	10.60	%		328			290
Floating Senior Notes due 2009	5.72	%		150			150
Senior Notes due 2010 ⁽¹⁾	7.13	%		699			687
Notes due 2011	7.01	%		50			50
Senior Notes due 2011 ⁽¹⁾	6.62	%		757			750
2007 Credit Facility due 2012	5.33	%		600			–
Senior Notes due 2012	5.59	%		1,096			–
Senior Notes due 2013 ⁽¹⁾	7.63	%		542			541
Convertible Notes due 2014	9.00	%		19			19
Notes due 2016 ⁽¹⁾	7.20	%		257			248
Senior Notes due 2016 ⁽¹⁾	6.48	%		697			696
Senior Notes due 2017 ⁽¹⁾	6.83	%		497			497
Zero Coupon Notes due 2022	5.77	%		409			–
Subtotal			$	6,709		$	4,544

Xerox Credit Corporation
Yen Notes due 2007	–			–			252
Notes due 2012	7.20	%		25			75
Notes due 2013	6.49	%		60			60
Notes due 2014	6.06	%		50			50
Notes due 2018	7.00	%		25			25
Subtotal			$	160		$	462

Other U.S. Operations
Borrowings secured by finance receivables ⁽²⁾	5.24	%		275			782
Borrowings secured by other assets	9.98	%		8			10
Subtotal			$	283		$	792
Total U.S. Operations			$	7,152		$	5,798

International Operations
Euro Bank Facility due 2008	5.04	%		177			–
Pound Sterling secured borrowings ⁽²⁾	–			–			609
Euro secured borrowings ⁽²⁾	–			–			580
Canadian dollars secured borrowings ⁽²⁾	–			–			88
Other debt due 2008-2010	5.78	%		36			50
Total International Operations				213			1,327

Subtotal				7,365			7,125

Less current maturities				(426	)		(1,465	)

Total Long-term debt			$	6,939		$	5,660

(1) The principal amounts of these debt instruments have been adjusted for the effects of fair value hedge accounting, as described in Note 13 – Financial Instruments, as well as premiums and discounts.

The following summarizes the original principal amounts of those instruments as of December 31, 2007:


Senior Notes due 2009	$	600
Euro Senior Notes due 2009		331
Senior Notes due 2010		700
Senior Notes due 2011		750
Senior Notes due 2012		1,100
Senior Notes due 2013		550
Notes due 2016		250
Senior Notes due 2016		700
Senior Notes due 2017		500

(2) Refer to Note 4 – Receivables, Net for further discussion of borrowings secured by finance receivables, net.

Scheduled payments due on long-term debt for the next five years and thereafter are as follows (in millions):

2008		2009		2010		2011		2012		Thereafter		Total
$426 ⁽¹⁾		$1,552		$707		$808		$1,721		$2,151		$7,365

(1) Quarterly total debt maturities for 2008 are $106, $60, $223 and $37 for the first, second, third and fourth quarters, respectively.

2007 Credit Facility
In 2007, we amended and restated our $1.25 billion unsecured 2006 credit facility. The amended and restated facility (the “2007 Credit Facility”) increased the maximum amount available for borrowing to $2 billion and includes a $300 letter of credit subfacility. The Facility is available, without sublimit, to certain of our qualifying subsidiaries and includes provisions that would allow us to increase the overall size of the Facility up to an aggregate amount of $2.5 billion. It matures in 2012, although we have the right to request a one year extension on each of the first and second anniversaries of the Facility. Our obligations under the Facility are unsecured and are not currently guaranteed by any of our subsidiaries. In the event that any of our subsidiaries borrows under the Facility, its borrowings thereunder would be guaranteed by us.

Borrowings under the 2007 Credit Facility bear interest at LIBOR plus a spread that will vary between 0.18% and 0.75% depending on our then current credit ratings. The spread as of December 31, 2007 was 0.35%. In addition, we are required to pay a facility fee on the aggregate amount of the revolving credit facility. As of December 31, 2007, we had borrowings of $600 and no outstanding letters of credit under the 2007 Credit Facility and the facility fee rate was 0.10%.

The facility contains various conditions to borrowing, and affirmative, negative and financial maintenance covenants. Certain of the more significant covenants are summarized below:

(a)	Maximum leverage ratio (a quarterly test that is calculated as debt for borrowed money divided by consolidated EBITDA) ranging from 4.00 to 3.25 over the life of the facility.

(b)	Minimum interest coverage ratio (a quarterly test that is calculated as consolidated EBITDA divided by consolidated interest expense) may not be less than 3.00:1.

(c)	Limitations on (i) liens securing debt of Xerox and certain of our subsidiaries, (ii) certain fundamental changes to corporate structure, (iii) changes in nature of business and (iv) limitations on debt incurred by certain subsidiaries.

The 2007 Credit Facility also contains various events of default, the occurrence of which could result in a termination by the lenders and the acceleration of all our obligations under the Facility. These events of default include, without limitation: (i) payment defaults, (ii) breaches of covenants under the Facility (certain of which breaches do not have any grace period), (iii) cross-defaults and acceleration to certain of our other obligations and (iv) a change of control of Xerox.

Senior Notes Offerings

In May 2007, we issued $1,100 of Senior Notes due 2012 (the “2012 Senior Notes”) at 99.613 percent of par, resulting in net proceeds of $1,088. The 2012 Senior Notes accrue interest at the rate of 5.50% per annum, payable semiannually, and as a result of the discount, have a weighted average effective interest rate of 5.59%. In conjunction with the issuance of the 2012 Senior Notes, debt issuance costs of $7 were deferred. The 2012 Senior Notes are subordinated to our secured indebtedness and rank equally with our other existing senior unsecured indebtedness.

Zero Coupon Bonds

In July and August 2007, we issued $300 and $100, respectively, of zero coupon bonds in private placement transactions. The bonds mature in 2022 and the final amounts due at maturity are $706 and $233, respectively. The bonds are putable annually at the option of the bond holder after two years.

Other Debt Activity

Bank Credit Facilities: In July 2007, our subsidiary in the Netherlands entered into an unsecured €120 million (U.S. $161) bank loan due July 1, 2008. The proceeds were used to repay secured borrowings to DLL in connection with our purchase of DLL’s interest in our lease financing joint venture (Refer to Note 4 – Receivables, Net for further information). As of December 31, 2007, approximately €120 million (U.S. $177) was outstanding under this loan.

In October 2007, we entered into a €330 million (U.S. $466) bridge facility due March 31, 2008, in order to repay maturing secured debt in France with Merrill Lynch. As of December 31, 2007, approximately €55 million (U.S. $81) was outstanding under this facility.

Guarantees: At December 31, 2007, we have guaranteed $37 of indebtedness of our foreign subsidiaries. This debt is included in our Consolidated Balance Sheet as of such date. In addition, as of December 31, 2007, $55 of letters of credit have been issued in connection with insurance guarantees.

Interest: Interest paid on our short-term debt, long-term debt and liabilities to subsidiary trusts issuing preferred securities amounted to $552, $512 and $555 for the years ended December 31, 2007, 2006 and 2005, respectively.

Interest expense and interest income for the three years ended December 31, 2007 was as follows (in millions):


	2007		2006		2005
Interest expense ⁽¹⁾	$	579	$	544	$	557
Interest income ⁽²⁾		877		909		1,013

(1) Includes Equipment financing interest expense, as well as, non-financing interest expense included in Other expenses, net in the Consolidated Statements of Income.

(2) Includes Finance income, as well as, other interest income that is included in Other expenses, net in the Consolidated Statements of Income.

Equipment financing interest is determined based on an estimated cost of funds, applied against the estimated level of debt required to support our net finance receivables. The estimated cost of funds is based on a blended rate for term and duration comparable to available borrowing rates for a BBB rated company, which are reviewed at the end of each period. The estimated level of debt is based on an assumed 7 to 1 leverage ratio of debt/equity as compared to our average finance receivable balance during the applicable period.

Net cash payments on other debt as shown on the Consolidated Statements of Cash Flows for the three years ended December 31, 2007 was as follows (in millions):


	2007			2006			2005
Cash (payments) proceeds on notes payable, net	$	(143	)	$	(19	)	$	4
Net cash proceeds from issuance of long-term debt^⁽¹⁾		2,254			1,502			50
Cash payments on long-term debt		(297	)		(207	)		(1,241	)
Net cash proceeds (payments) on other debt	$	1,814		$	1,276		$	(1,187	)

(1) Includes payment of debt issuance costs.

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