With the office supply industry suffering from sluggish demand, the upcoming earnings report from market leader Staples ( SPLS ) isn't expected to wow investors. Competitor Office Depot ( ODP -1.52% ), which recently completed its merger with OfficeMax, has already reported lackluster results. The declining demand for traditional office supplies has been a very real problem for both companies. However, Staples hasn't been sitting on its hands, as it has made significant changes in order to adapt to the changing market. Progress on these initiatives will be the key thing to look for when Staples reports earnings on Thursday, March 6.
What analysts expect
Office Depot expects revenue to decline by 8.9% for the fourth quarter and by 4.8% for the full year, which reflects both falling same-store sales and store closures throughout the year. Revenue fell by only 3.8% during the third quarter, so these estimates represent a deterioration from last quarter. Office Depot reported a 2.9% revenue decline in its fourth quarter, excluding the effects of the OfficeMax merger, so Staples may end up beating the revenue estimate for the quarter by a considerable amount.
Analysts expect Staples' EPS for the fourth quarter to decline by about 15% year over year to $0.39, with full-year EPS of $1.22.
Looking for progress
Staples is doing a few things to reverse the sales declines that currently plague the company, and an update on these initiatives should give investors a sense of how close Staples has come to stabilizing its business.
The first initiative is cost-cutting, which includes downsizing and closing stores as well as savings in other areas. At the beginning of 2013 Staples set a goal of reducing costs by $150 million during the year, and the company met that goal by the end of the third quarter. There may be more room for Staples to take additional costs out of the business, much like Best Buy has aggressively done over the past year, and this should help the company maintain its margins in the face of declining sales.
Staples has been closing some unprofitable stores, and it has downsized others into a smaller format. Staples had previously stated a goal of closing 40 stores in 2013, and it may announce further store closings in the upcoming earnings report. The Office Depot-OfficeMax merger complicates the picture a bit, however, because Office Depot has been closing stores as well. In markets where all three stores previously operated, Staples could soon be facing a single competitor, and the company will likely want to wait until the smoke clears on the merger before committing to any more major store closings.
A smaller store format is an alternative that Staples has been testing, and its 12,000-square-foot stores have been able to retain greater than 95% of sales so far in comparison with its traditional, larger-format stores. Staples expected 45 of these smaller stores to be operational by the end of 2013, and this should further help Staples reduce costs without sacrificing very much revenue.
The second initiative is a large increase in the number of product categories offered through both Staples' retail stores and staples.com. Staples added 70,000 new products on staples.com during the third quarter, and expects to add 100,000 additional products by the end of 2013. Staples now offers both retail store supplies and restaurant supplies, and the goal is to broaden the company's product portfolio in order to serve an increasing number of industries.
In January, Staples began a partnership with BookRenter in which it allows the company to offer textbook rentals through its website. Given that Staples already sells school supplies, this initiative makes a lot of sense, and it gives students a one-stop shop for all of their school supply and textbook needs. Expansion into related areas is the key to Staples' turnaround efforts, and I expect to hear more details during the company's fourth-quarter conference call.
The bottom line
While Staples' revenue and earnings are set to decline, the company is making the changes needed to adapt to a changing office-supply market. It's hard to say exactly when the numbers will begin to reverse, but it's clear that Staples is making a play to become a much broader retailer than it has been at any time during its history. Shares of Staples have been declining since the beginning of the year, and at just 11 times expected full-year earnings, Staples is inexpensive given its turnaround prospects.