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Office Depot Loss Widens

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Amid sluggish economic environment, Office Depot Inc. (ODP) posted second-quarter 2012 loss of 14 cents a share that sharply widened from a loss of 6 cents delivered in the year-ago quarter, and also fared worse than the Zacks Consensus Estimate of loss of 9 cents. The dismal result was due to weak top-line performance on account of soft sales in North America and Europe.

On a reported basis, including one-time items, Office Depot’s quarterly loss came in at 23 cents a share compared with a loss of 11 cents registered in the prior-year quarter.

Office Depot’s total revenue of $2,507.2 million decreased 7% from the prior-year quarter and also fell short of the Zacks Consensus Estimate of $2,584 million. In constant currency, revenue slipped 5%.

Despite an 8% decline in cost of goods sold and occupancy costs during the quarter, adjusted gross profit dropped 6% to $746.1 million. However, adjusted gross margin expanded 50 basis points to 29.8% in the reported quarter, marking the fifth successive quarter of margin improvement.

Office Depot reported adjusted operating loss of $26.1 million compared with an adjusted operating profit of $4 million.

Segment Performance

During the quarter, North American Retail division revenue decreased 8% to $993.9 million. Besides, fall in the comparable sales of computers and associated products dragged down comparable-store sales by 4%. However, comps improved 200 basis points sequentially.

Office Depot witnessed sales increase in Copy and Print Depot, office furniture and seating. Sales in the supplies category remained even, whereas sales of ink and toner rose marginally. Management stated that customer transaction counts dropped 3%, while the average order value was marginally negative.

The division reported an operating loss of $21.6 million compared with an operating profit of $3 million in the prior-year quarter.

Total store count at the North America Retail division stood at 1,117 at the end of the quarter. During the quarter, the company closed 6 and relocated 3 stores.

Revenue for North American Business Solutions edged down 1% to $796.4 million. Direct channel sales remained even, whereas contract channel sales fell 1%. The division witnessed increased sales in Copy and Print Depot, furniture, printers, promotional products, and cleaning and breaks room supplies. The sales of office supplies remained relatively in line with the year-ago quarter.

The division posted operating profit of $40.5 million down from $45 million in the year-ago quarter.

The International division’s revenue dipped 13% in U.S. dollars to $716.9 million, whereas it fell 6% in constant currency. The overall sales in European contract channel dropped 2% in constant currency as the growth in the U.K. and Germany was offset by soft sales in other parts of Europe. Asia contract channel sales rose during the quarter. Direct channel experienced a sales decline. The retail channel sales registered growth in Asia but a fall in Europe.

The division posted an operating profit of $9.7 million, down from $13.1 million in the year-ago quarter. At the end of the quarter, total store count at the International division stood at 134. During the quarter, the company opened 2 stores.

Other Financial Details

Office Depot, the operator of office supply stores under brand names such as Office Depot, Foray, Ativa, Break Escapes, Worklife and Christopher Lowell, generated negative free cash flow of $66.4 million during the quarter. The company incurred capital expenditures of $27.9 million.

The company ended the quarter with cash and cash equivalents of $422.7 million, long-term debt of $639 million and shareholders’ equity of $724 million, excluding non-controlling interest of $0.1 million.

Closing Comment

No one can predict the future but efforts to combat the tough economy are obvious. Business budget remains tight, consumers remain more cautious than ever before and companies are trying hard to navigate through the challenging environment. Consumers and small businesses remain frugal about big ticket spending on items such as business machines and other durable products. We believe that the demand for office products is closely tied to the health of the economy.

Going by the pulse of the economy and based on the company’s outlook we prefer to have a long-term “Underperform” recommendation on the stock. Moreover, Office Depot, which competes with OfficeMax Inc. (OMX) and Staples Inc. (SPLS), holds a Zacks #4 Rank that translates into a short-term “Sell” rating.

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