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OfficeMax Incorporated posted fourth-quarter 2012 adjusted earnings of 16 cents a share, marginally beating the Zacks Consensus Estimate by a penny but waning 5.9% from 17 cents earned in the prior-year quarter. Alongside, this Zacks Rank #2 (Buy) company decided to merge with Office Depot, Inc. (ODP - Analyst Report).

Including one-time items, the company reported a loss of 39 cents compared with earnings of 3 cents a share in the prior-year quarter.

Total sales dropped 7.4% year over year to $1,700.5 million, and also fell short of the Zacks Consensus Estimate of $1,752 million. However, excluding the impact related to foreign currency translation, store plans and shift in weeks, sales declined 2.7%.  

The company now forecasts sales for first-quarter 2013 to be lower than sales of the comparable prior-year quarter, including the favorable impact of foreign currency translation. Sales for 2013 are expected to remain even with the prior year, including the positive impact of foreign currency translation.

OfficeMax’s gross profit declined 4% year over year to $431.8 million during the quarter, while gross profit margin expanded 90 basis points to 25.4%. Adjusted operating income for the quarter decreased 7.6% to $28.1 million, whereas adjusted operating margin remained flat at 1.7%.

Management expects adjusted operating margin for first-quarter 2013 to be marginally lower than the prior-year quarter’s 2.3%, whereas for 2013 it is expected to remain even with 2% reported in the prior year.

Segment Discussion

OfficeMax Contract segment sales dipped 5.3% year over year to $885.4 million in the quarter, reflecting an 8% decline in U.S. Contract operations sales. However, Contract operations sales in international markets inched up 0.9% (down 2.6% in constant currency basis). On account of increased customer margins, Contract segment’s gross profit margin strengthened 60 basis points to 22.8%. However, segment income margin shriveled 40 basis points to 2.6%.

OfficeMax Retail segment sales fell 9.5% year over year to $815.1 million, reflecting a decline of 4.1% (in constant currency) in comparable-store sales due to lower traffic and sluggish sales of technology products. U.S. comparable-store sales fell 4.6%, whereas, comparable-store sales in Mexico rose 0.4% in constant currency. Retail segment’s gross profit margin expanded 130 basis points to 28.2%, reflecting favorable sales mix and effective promotional strategies. Segment’s income margin expanded 50 basis points to 2% during the quarter.

At the end of the quarter, OfficeMax operated 941 retail stores – 851 in the U.S. and 90 in Mexico.  During 2012, the company opened 11 stores – 1 in the U.S. and 10 in Mexico. Moreover, the company closed 48 stores comprising 46 in the U.S. and 2 in Mexico.

For 2013, the company expects to downsize and relocate stores in the U.S. The company plans to close 5–10 stores alongside new store openings. Moreover, the company plans to open 6 stores in Mexico.  

Merger Details

OfficeMax and Office Depot decided to merge their businesses in order to better compete with the industry bellwether Staples Inc. (SPLS - Analyst Report) and online rivals such as Amazon.com Inc. (AMZN - Analyst Report).

The decision augurs well for both the companies, which have been grappling with soft sales as business budget remains tight, consumers and small businesses remain frugal about big-ticket spending on items such as business machines and other durable products.

Looking at the numbers, the combined sales for both the companies in the recently concluded year ended on Dec 29, 2012 stood at approximately $18 billion, whereas cash and cash equivalents together comes at $1.2 billion. 

The all-stock merger agreement, which involves 2.69 Office Depot shares for each share of OfficeMax, would result in cost synergies of $400 to $600 million yearly by the third year from the time of closing of the transaction. The transaction is expected to be concluded by the end of 2013. Management of both the companies are yet to decide on the name of newly formed company, the location of corporate headquarters and the CEO.

Other Financial Details

OfficeMax ended the quarter with cash and cash equivalents of $495.1 million, long-term debt of $226 million, non-recourse debt of $735 million and shareholders’ equity of $1,034.4 million. During 2012, the company generated cash flow of $185.2 million from operating activities. Management expects cash flow from operations to exceed capital expenditures in 2013.

The company incurred capital expenditures of $39 million during the reported quarter and expects capital expenditures to be in the range of $100–$125 million in 2013.

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