Still got the power
Staples was the last of the "Big 3" power channel resellers to release its first quarter results and once again delivered another set of solid quarterly results, outpacing its two main rivals, Office Depot and OfficeMax
Staples may not have been the darling of Wall Street over the last three months, shredding over 15 percent of its market value since the end of February as its growth has been somewhat below (high) expectations, but it still looks the most likely of the power channel players to benefit from an upturn in the economy.
Even as the economy remains shaky, the world’s biggest office supplier continues to make money. Total company sales increased 4 percent year-on-year for the quarter to $6.1 billion, while net profit leapt 32 percent to $189 million.
And after another confident conference call from Ron Sargent and his team in May, there is reason for Staples to be optimistic about its three businesses; North American Delivery (NAD), North American Retail (NAR) and International.
North American Delivery NAD is perhaps the most intriguing unit at the moment as the fight for market share continues. Once again, Staples would appear to have the edge here over its rivals.
Ron Sargent highlighted the "strong" customer acquisition during the quarter in the contract segment, where he said that sales from new customers drove sales in the high single-digits.
Attention will be turned in the coming weeks to whether Staples makes a bid for the upcoming US Communities contract. NAD President, Joe Doody, admitted that sales at government is "not a significant part" of the existing business, but did say that he has been seeing "an increased opportunity and willingness of state and municipalities, not just enter into a dialogue, but to pursue business with us". He added that Staples has been growing its sales force in this area and continues to "gain momentum".
A US Communities bid is likely to be fought and won over price at the end of the day. What Staples has been showing recently is its ability to operate a low cost NAD business, but still increase its margins.
In fact, NAD margins were one of the highlights of the quarter, increasing around 1.6 percent to 8.3 percent compared to the same quarter last year.
This was partly helped by continued supply chain integration of former Corporate Express facilities and by the fact that there is a gradual, but constant, trend by customers to purchase more higher margin off-contract products.
Margins have also been helped by an increase in the average contract order size, up by $7 to $200, and by a reduction by several percentage points in the number of orders under $50.
More interestingly, perhaps, is the fact that margins were up even as the company makes price concessions in new areas, like facility and breakroom products, where it wants to take more share.
"We’ve made some pricing moves to get us more as a destination category there and viewed not a convenience category," said Doody, who added that he saw "significant growth opportunities" in the category.
It will be interesting to see if Staples goes with a highly aggressive bid for the US Communities business. There could potentially be some "best government pricing" issues with its current NJPA contract, although this is also currently up for rebid. We are unsure as to the value of business derived from NJPA, but it is unlikely to be anywhere near the estimated $500 million value of the US Communities business.
Depot has already said that it will be "very aggressive" in its bid. It admitted in its Q1 conference call that US Communities represented about 5 percent of total sales, but much less in profitability. It looks like margins will have to take a further cut if it is to stand a chance of retaining the business.
North American Retail
After posting same-store comps up 4 percent in the previous quarter, Staples’ NAR same-store increase of 1 percent in the first quarter of 2010 might be regarded as a little disappointing, but this still puts it ahead of Depot and ‘Max which both trended downwards during the first quarter.
One noteworthy figure is the increase in customer count comps, up by 3 percent, although average order size was down by around 2 percent (interestingly, Depot noted that its average transaction value was up for the first time in nine quarters). Despite this positive traffic trend, Staples said that the increase was due largely to consumers relative to small business customers, reflecting the continued weakness in the North American job market.
Staples’ investments in its tech offering seem to be paying off. Comp sales in computers, software, and peripherals were up more than 10 percent and it has been able to maintain respectable margins thanks to the relative success in the sale of service add-ons. In fact, overall NAR gross margins were flat, despite the higher mix of lower margin tech products.
International President Mike Miles has made margin improvement in the International division a top priority this year and he won’t be disappointed in Q1 operating margin leaping from 1.7 percent last year to 2.9 percent this year.
In Europe it was even better, as the European office products business (excluding the print business, that is) achieved a 4.1 percent operating margin, a 3 percent improvement on last year, helped by Corporate Express integration improvements, no loss-making Czech Republic or Hungarian comps to worry about, and a general improvement in other European markets.
The Corporate Express integration continues to appear to be on track, with four more distribution centres closing during the quarter. The transition to the Staples Advantage name has been completed, with only strong local brands like JPG in France and MondOffice in Italy being maintained for the time being.
NAD SVP Pete Howard has just been named SVP for Southern Europe where it is hoped his direct marketing and e-commerce experience will help re-ignite sales growth in the region.
If there is a concern in Europe, then it is with the retail business, where comp sales were down by 5 percent (although the recently re-branded stores in Norway posted positive comps of around 3 percent). Miles admitted that Staples is having problems attracting core small business customers and that there has been too much of a focus on technology promotions in the past. Having said that, EU retail managed to maintain flat operating margins despite the lower sales comps.
China has been a drag on the International division for a few quarters now and it cost Staples about $50 million in 2009. Its performance in the first quarter 2010 was roughly the same as in 2009, so the business is still losing money, but one-time costs incurred last year will help comps going forward for the rest of 2010. However, the Chinese operations look to be very much a work in progress and there does not appear to be any visibility as to when they will become profitable.
Staples, Depot and ‘Max have all issued cautious outlooks for the rest of the year as job growth prospects globally look muted. There are also uncertainties in Europe with the recently announced bailout for Greece and concerns about other economies such as Spain and Portugal. Any worsening of the situation in Europe would, of course, affect only Depot and Staples as OfficeMax’s international operations are limited to Canada, Australia and Mexico.
The real battleground, of course, is in the US, especially in the contract segment, where the RFP for the US Communities contract is due to be issued shortly. Office Depot has played down the impact to its business should it not be awarded the new contract, but it would surely be a big blow if Staples, ‘Max or a group of independents were to be awarded at least a portion of the contract. n