Why Staples Stock Has Plummeted 30% This Year

Staples stock performed terribly in the first half of 2014. Can it bounce back?

Jul 13, 2014 at 10:30AM

So far, 2014 has not been a good year for Staples (NASDAQ:SPLS) investors. Staples stock fell more than 15% just in January, and it fell further after releasing a weak Q4 earnings report and Q1 guidance in March. Halfway through the year, Staples stock is down about 30% from where it ended 2013.

SPLS Chart

Staples Stock YTD Price Chart, data by YCharts.

It's not hard to understand Staples' problems. Staples and fellow office-supply giant Office Depot (NASDAQ:ODP) are under pressure due to the secular decline of some categories like PCs, ink, and paper as well as growing competition from online competitors. However, Staples has not restructured as aggressively. As a result, its earnings are falling, driving the big drop in Staples stock.

Earnings under pressure
In 2013, Staples' adjusted EPS fell 17%, from $1.39 to $1.16. The majority of the annual decline came during Q4, when adjusted EPS dropped from $0.46 to $0.33. While some of Staples' profit decline could be attributed to one-time factors such as severe winter weather in the Northeast and a shift in the retail calendar, the biggest issue was simply weak core sales trends.

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Office Depot has taken dramatic action to cut costs and boost its earnings.

Office Depot also posted weak results last year -- indeed, it broke even on a full-year basis. However, Office Depot investors can look forward to the benefits of its merger with OfficeMax in the next few years. By the end of 2016, Office Depot expects to generate annual synergies of at least $675 million, which will dramatically boost the company's earnings power.

Meanwhile, in response to the trend of stagnant to declining sales and falling earnings, Staples rolled out plans to shrink its retail footprint. First, it will close up to 225 stores by the end of 2015. Second, Staples announced that it would downsize most of its stores over time to a 12,000-square-foot floor plan. (For comparison, a typical Staples store today is 25,000 square feet.)

The smaller stores are much cheaper to operate but generate nearly the same sales volume as Staples' 25,000-square-foot stores. This plan seemed very promising in its potential to boost EPS -- so much so that I recommended Staples stock back in March.

Not much progress yet
Unfortunately, Staples hasn't gotten very far in its turnaround yet. In Q1, adjusted EPS declined sharply once again, falling from $0.26 to $0.18. Staples also projected further declines in sales and earnings for Q2.

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So far, Staples hasn't made much progress on its turnaround plan.

Most disturbingly, while Staples' store closures are proceeding at a good pace, the company did not make much progress on its downsizing initiative. Staples is having trouble convincing its landlords to reconfigure their properties in order to shrink the Staples "boxes." As a result, Staples expects to downsize just 25 stores to the smaller format this year.

Looking for a sense of urgency
The problem with Staples stock is thus fairly straightforward. Revenue trends are unfavorable, and show no signs of reversing. Staples does have a fairly credible plan to cut its costs -- but it is not moving very quickly toward implementing that plan. As a result, it's hard to know whether Staples' earnings are close to a bottom or whether they will continue to fall.

By contrast, Office Depot is in the midst of rapidly delivering synergies from its merger with OfficeMax. New Chief Executive Officer Roland Smith has already implemented massive job cuts at the corporate headquarters, including cutting half of the senior management roster. The company is also closing about 20% of its North American stores in just 30 months.

Investors are rewarding Office Depot for its decisive turnaround-related actions. For Staples stock to recover, Staples management will also have to become more aggressive. If the cost cuts can be accelerated, then Staples should be able to return to earnings growth even if sales remain weak. On the flip side, if there is no visible progress on cost cuts, Staples stock will continue to struggle in the second half of 2014.

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Adam Levine-Weinberg owns shares of Office Depot. The Motley Fool owns shares of Staples. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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