5 Things Staples' Management Wants You to Know

Office supply company Staples (NASDAQ: SPLS  ) managed to beat analyst estimates when it last reported earnings, but the results were somewhat of a mixed bag. Strength in some areas was overshadowed by continuing weakness in retail, and the numbers alone paint an incomplete picture of the company's turnaround effort. Here are five comments made by CEO Ron Sargent during Staples' post-earnings conference call that fill in some details for investors.

Source: Flickr/Mike Mozart.

Commercial sales growth is accelerating

We grew sales in North American Commercial 3%, that was our fastest growth rate in three years. This was supported by the investments we're making to evolve our selling model, to accelerate growth beyond office supplies and to enhance the customer experience on our websites.

One of Staples' three segments is North American Commercial, which is comprised of Staples' business-to-business operation. During the second quarter, this segment accounted for 38% of sales and nearly all of Staples' adjusted operating profit. Commercial is the most important part of Staples' business, and Staples has made investments to ensure it remains that way.

Staples has expanded the scope of products it sells to its commercial clients over the past few years in an effort to diversify away from office supplies, and the results have been encouraging. The facilities category, which is comprised of products like janitorial and breakroom supplies, is now a $1 billion annual business within the commercial segment, and it has been growing in the double digits for the past four years.

Staples' strategy is to become a one-stop shop for businesses by expanding into categories beyond office supplies, and so far, it seems to be working.

New products and initiatives driving online growth

We also saw accelerating growth in Staples.com, with sales up 8% during Q2 that was driven by marketplace sales that were in line with our expectations and increase in business customer acquisition and improved customer service or customer conversion driven by improvements we've made to our desktop and mobile websites. We added more than 250,000 new products on Staples.com in categories like furniture, teaching and education, tools and hardware and business technology, ending the quarter with over 1 million products now available on staples.com.

Staples has been increasingly focusing on its e-commerce business, revamping its websites and adding hundreds of thousands of new products. Staples also acquired technology start-up Runa last year, which allows the company to dynamically adjust its online prices and generate personalized offers to ensure it's competitive against other online retailers. Staples already generates roughly half of its revenue online, or about $10 billion annually, which makes accelerating growth all the more impressive.

Along with these efforts, Staples launched nationally in July the ability for customers to buy online and pick up in store, and Sargent hinted that the capability for Staples to ship online orders directly out of stores may be a future initiative. In short, Staples is getting increasingly serious about accelerating online sales and leveraging its stores in the process.

Smaller stores are the future

We downsized and relocated 8 stores to our 12,000 square feet format during the second quarter. We now have 40 of these stores, which continue to retain over 95% of sales.

Along with planning to close around 225 stores by the end of next year, Staples has been experimenting with converting some stores into a smaller format. A total of 40 stores have now been downsized to 12,000 square feet, far smaller than the typical 18,000 to 24,000 square-foot stores, and Staples' has been able to retain more than 95% of sales. Lower costs associated with a far smaller footprint coupled with nearly the same level of sales should result in better margins as more stores are transitioned.

Aggressive cost-cutting

We're in the early stages of dramatically changing our supply chain operating model, and we're developing a lower-cost operating model in our North American retail stores to offset the negative impact of lower sales per store. We're on track to eliminate at least $250 million of annualized cost in 2014, and we're pursuing additional expense reductions beyond our previous target of $500 million by the end of 2015.

Staples has been working to slash costs as demand for core office products has weakened, and so far, the company has managed to eliminate $150 million in annualized costs, with a goal of $250 million by the end of this year and at least $500 million by the end of 2015. Some of these cost cuts have been reinvested into various initiatives, however, so the progress isn't apparent by looking at the company's income statement.

Over time, Staples expects all of these cuts to flow through to the bottom line, but investments in key initiatives over the next couple of years will eat up some of the cost savings.

Stores are still weak, but there are areas of growth

Ink and toner, core office supplies and paper declined year over year, and we continue to drive growth in copy and print services and facilities breakroom supplies. During the second quarter, we completed the remerchandising of our U.S. stores with an expanded assortment categories beyond office products, our wider offering of facilities and breakroom supplies sporting double-digit growth on this category, and we've also seen encouraging trends in categories like office gifts and early education supplies. We expect to build momentum here as customer awareness of these new categories increases throughout the remainder of the year.

Along with adding new products to the commercial and online businesses, Staples has been remerchandising its stores. Certain categories are growing rapidly, and services like copy and print grew in the mid-single digits during the second quarter. Staples has also added kiosks to its stores that allow customers to browse and order items off of staples.com, and these kiosks now account for more than 5% of U.S. retail sales.

The challenge for Staples will be getting the word out that it's no longer just a seller of office supplies, and that will take time. Staples launched the "Make More Happen" advertising campaign earlier this year, but investors will need to wait a few more quarters to see if the retail stores begin to recover.

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