Office Depot Remains Neutral - Analyst Blog

We reiterate our long-term Neutral recommendation on Office Depot Inc. (ODP), which entails that the stock will perform mostly in line with the broader market. The company's third quarter 2010 net earnings rose to 3 cents a share, beating the Zacks Consensus Estimate of a one-cent loss.

During the third quarter of 2010, soft demand for office supplies in a sluggish economy led to a 4.3% fall in total revenue to gross $2,899.7 million. Total revenue also missed the Zacks Consensus Estimate of $2,954 million. However, the soft topline was more than compensated by a rise in bottom-line results.

The company has been actively managing its cash flows, generating free cash flow of $109 million in the quarter. Office Depot further expects to deliver free cash flow on the higher end of the 2010 guided range of $50 million to $70 million. The company's strong liquidity position supported by a solid cash balance thus provides a springboard for future growth.

The current economy has hit the consumer market and Office Depot is no exception. However, to its credit the company has repositioned its business to sustain growth in this difficult environment. In an attempt to keep profits at a decent level, the company is undertaking cost control measures, shutting down underperforming stores and reducing exposure to higher dollar-value inventory items. By the end of fiscal 2013, the company plans to save $100 million in annual costs.

Additionally, the company has been acquiring strategically over the past few years to expand its reach in overseas markets. It is particularly looking for opportunities in the emerging markets of Eastern Europe, Asia and South America.

On a flip side, the company hinted that it will not renew the Los Angeles County office supplies contract. However, the company notified that it would try to secure individual contracts and manage its costs to alleviate the negative impact of the lost business. We believe that the uncertainty arising from the situation is likely to keep the stock under pressure.

Office Depot also faces stiff competition from office supply retailers, such as OfficeMax Inc. (OMX) and Staples Inc. (SPLS), and wholesale clubs, discount stores, mass merchandisers, and computer and electronics superstores on attributes like store format, pricing strategy and in-stock consistency. This may weigh upon the company's results. Also, its high exposure to international markets runs the risk of currency fluctuations.

 
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