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Office Depot (ODP) Q1 Earnings Miss Estimate; Stock Falls

Office Depot, Inc. ODP posted adjusted earnings of 10 cents per share that missed the Zacks Consensus Estimate of 13 cents per share. Notably, this is the third consecutive quarter in which the company reported negative earnings surprise. The bottom line also declined 23.1% year over year. Following, the dismal performance shares of the company slipped 4.7% yesterday.

Including one-time items, the company delivered earnings of 8 cents per share, flat year over year.

The company’s top line also missed expectations for the sixth consecutive quarter. Total sales of $3,544 million lagged the Zacks Consensus Estimate of $3,619 million and also declined 9% year over year, primarily due to decline in sales of North American Business Solutions Division and International Division. Excluding the impact of U.S. retail store closures, currency headwinds and revenues from the Grupo OfficeMax joint venture (sold last August), sales dipped 4%.

Management expects total sales to decline in fiscal 2016 in comparison with 2015 on account of store closures, currency headwinds, business disruption owing to the impending buyout by Staples, Inc. SPLS, and tough market conditions.

The company mentioned, “The protracted regulatory review of the pending Staples acquisition continues to have a substantial disruptive impact on our business.” Office Depot further said that the pending acquisition has mostly impacted its North American Business Solutions Division and International Division.  

In an effort to get Federal Trade Commission (“FTC”) clearance, Staples and Office Depot recently entered into an agreement to sell large corporate contract business as well as allied assets – which generate above $550 million in sales – to office-supply wholesaler Essendant. Essendant will pay around $22.5 million to Staples. However, this transaction will only be effective if FTC approves the merger between Staples and Office Depot.

In Dec 2015, the FTC rejected the revised offer from Staples for the purchase of Office Depot. Also, the FTC had filed a lawsuit against this $6.3 billion deal on apprehensions that it would lower competition nationwide and result in price hikes and fewer options for large corporate houses that usually make bulk purchases. After the FTC objection, Staples decided to offload commercial contracts worth $1.25 billion to ease monopolistic concerns. However, the FTC rejected the proposal without a counter offer.

After the rejection of the revised offer, Staples and Office Depot decided to take a few more months to clear all the hurdles related to their merger. The companies postponed their merger date to May 16, 2016 from the initially scheduled date of Feb 4, 2016. A hearing on the FTC’s initial restriction on the merger has begun i and the decision is expected to be out by May 10, 2016. The company believes that this deal will be beneficial to both shareholders and customers.

Coming back to Office Depot’s results, adjusted gross profit fell 8.6% year over year to $856 million, whereas gross margin came in at 24.2%, flat year over year. Adjusted operating income came in at $115 million, down 14.9% from the year-ago period, while adjusted operating margin contracted 30 basis points to 3.2%.

Segment Performance

In the reported quarter, the North American Retail division’s revenues fell 8.9% to $1,506 million. Comparable-store sales dipped 1% year over year. The segment reported operating income of $102 million, which improved substantially from $86 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 1,555 at the quarter end. During the quarter, the company shut down nine outlets. Notably, the company closed 181 stores in 2015. Also, it plans to close over 50 stores in 2016.

Revenues for North American Business Solutions declined 7.4% to $1,368 million (or 7% on a constant currency basis) owing to hurdles related to the pending buyout by Staples, and a drop in customer order fill rates.  

The division posted operating income of $46 million, down from $58 million in the prior-year quarter, while operating margin declined 50 bps to 3.4%.

The International division’s revenues tumbled 10.3% to $670 million as currency headwinds intensified. On a constant currency basis too, sales dropped 6%. The division reported operating loss of $10 million due to a fall in sales, contraction in gross margin rate and negative impact of foreign currency exchange rate, partly offset by lower selling, general and administrative expenses. In the prior-year quarter, the company had reported operating income of $14 million. At the end of the quarter, total store count at the International division was 274 –149 company-owned outlets and 125 outlets operated by franchisees and licensees.

Other Financial Details

Office Depot ended the quarter with cash and cash equivalents of $879 million, long-term debt (net of current maturities) of $624 million, and shareholders’ equity of $1,661 million. The company incurred capital expenditures of $26 million during the quarter, comprising $6 million related to merger integration. Management anticipates capital expenditures of approximately $250 million in 2016.

Other Stocks to Consider

Office Depot currently has a Zacks Rank #3 (Hold). Some better-ranked stocks in the sector include CST Brands, Inc. CST and KAR Auction Services, Inc. KAR. Both the stocks hold a Zacks Rank #2 (Buy).

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