After reporting in-line results for two consecutive quarters, Office Depot, Inc. ODP succumbed to a negative earnings surprise in the third quarter of 2015. The company posted adjusted earnings of 16 cents per share that missed the Zacks Consensus Estimate by a penny. However, the bottom line surged 60% from 10 cents reported in the prior-year quarter, providing some cushion to the stock.
Including one-time items, the company delivered earnings of 1 cent a share, down significantly from 5 cents recorded in the prior-year quarter.
The company’s top line also continued with its dismal performance, falling short of expectations for the third successive quarter in 2015. Total sales of $3,690 million missed the Zacks Consensus Estimate of $3,753 million and also declined 9% year over year due to store closures and adverse foreign currency translation. Excluding the impact of U.S. retail store closures, currency headwinds and revenue generated from the Grupo OfficeMax joint venture, which was sold in August last year, sales slipped 2%.
Management continues to project total sales in 2015 to be lower than that of 2014 on account of store closures, currency headwinds, business disruption owing to the impending buyout by Staples, Inc. SPLS, and tough market conditions.
Industry experts believe that the $6.3 billion Staples and Office Depot deal is a step to stave off competition, attain cost synergies and provide consumers with a better omni-channel platform. Office Depot hinted that synergies from the merger with OfficeMax are expected to be over $750 million by 2016 end. The company stated that the pending integration with Staples is expected to close by the end of this year or early 2016. The idea of this merger, however, is not a new one as the same was proposed 18 years ago, but dismissed by the Federal Trade Commission back then, after being slammed as anticompetitive.
Nevertheless, a changing consumer landscape is pushing it forward this time, as office supply retailers are facing stiff competition from companies like Wal-Mart Stores Inc. WMT and Amazon.com Inc. AMZN.
Coming back to Office Depot’s results, adjusted gross profit fell 4% year over year to $936 million, whereas gross margin expanded 120 basis points to 25.4%.
Adjusted operating income came in at $163 million, up 29% from the year-ago period, whereas adjusted operating margin grew 130 basis points to 4.4%. The improvement was attributed to North American retail comparable-store sales increase of 3%, synergies and efficiencies attained due to the merger of Office Depot/OfficeMax, and European restructuring.
Segment Performance
In the reported quarter, the North American Retail division’s revenues fell 7% to $1,604 million. Comparable-store sales grew 3% due to operational effectiveness. The segment reported operating income of $120 million, which improved substantially from $79 million in the prior-year quarter, mainly on the back of lower occupancy costs, a fall in selling, general and administrative expenses, and improved gross margin performance.
Total store count at the North American Retail division was 1,620 at quarter end. During the quarter, the company shuttered 6 outlets. Also, it plans to close 180 stores in 2015 and over 50 stores in 2016.
Revenues for North American Business Solutions declined 6% to $1,438 million (or 5% on a constant currency basis) owing to soft Canadian sales, scheduled transition out of a legacy OfficeMax buying arrangement, hurdles related to the pending buyout by Staples, and a drop in customer order fill rates.
The division posted operating income of $66 million, down from $67 million in the prior-year quarter, while operating margin increased 20 bps to 4.4%.
The International division’s revenues tumbled 19% to $648 million as currency headwinds intensified. On a constant currency basis too, sales dropped 5%. The division’s operating income of $1 million declined sharply from $10 million reported in the prior-year quarter due to a fall in sales and contraction in gross margin rate, partly offset by lower selling, general and administrative expenses.
At the end of the quarter, total store count at the International division was 272, comprising 149 company-owned outlets and 123 outlets operated by franchisees and licensees. During the quarter, 3 company-owned stores and 3 stores operated by franchisees and licensees were opened, while 1 store operated by franchisees and licensees was closed.
Other Financial Details
Office Depot, which carries a Zacks Rank #3 (Hold), ended the quarter with cash and cash equivalents of $958 million, long-term debt (net of current maturities) of $643 million, and shareholders’ equity of $1,580 million. The company incurred capital expenditures of $52 million during the quarter, comprising $26 million related to merger integration. Management anticipates capital expenditures of approximately $200 million in 2015.
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