Office Depot: B2B Business, Not Retail, Driving Growth

‘Our transformation that we're undergoing reduces the reliance on retail and places much more emphasis on distribution to our B2B relationships along with a broader offerings of products and services,’ says Office Depot CEO Gerry Smith.

Office Depot Wednesday reported significant financial changes that demonstrated just how far the company, best known for its retail office supplies business, has transformed into a full-fledged business-to-business solution provider.

Growth in Office Depot's Business Services Division, or BSD, during its second fiscal quarter of 2019 nearly offset falling sales from its retail division, said Gerry Smith, CEO of the Boca Raton, Fla.-based company.

Smith, in his prepared remarks during the company's quarterly financial analyst conference call, said the quarterly report was an opportunity to highlight the progress the company has made in growing its position as a leading B2B provider of business products and services.

[Related: Office Depot Launches MSP As A Service For SMBs]

"Our B2B business, which consists of our BSD and CompuCom divisions, drove our performance in the quarter," Smith said. "In our BSD division, we drove top-line revenue growth and significantly higher profitability while expanding our distribution network and winning new customer accounts. In our CompuCom division, we delivered revenue growth and a dramatic operational turnaround when compared to the first quarter of 2019."

Office Depot in 2017 acquired CompuCom, a move that started its shift from a retail-focused office supplies seller to an IT services focus.

Growing Office Depot's B2B business has been a strategic focus, Smith said. He noted that, in the second fiscal quarter of 2019, B2B business generated over 60 percent of Office Depot's total revenue, and at the divisional level drove over 90 percent of its operating income.

"This represents a significant shift in our business, and clearly demonstrates that we are a B2B-driven company providing business products and services delivered through an integrated distribution platform with a world-class supply chain," he said.

Office Depot has become a leading integrated distribution company, primarily serving businesses through its B2B platform with a full complement of services and supplies, products and technology solutions, Smith said. The company counts over 200,000 enterprise customers, including over half of the Fortune 500 companies and nearly 10 million business customers, he said.

The company also has a unique supply chain that can do next-day deliveries to effectively the entire country, and do so directly to the desktop and not just to the loading dock, Smith said.

"Our transformation that we're undergoing reduces the reliance on retail and places much more emphasis on distribution to our B2B relationships along with a broader offerings of products and services," he said. "Our recent performance clearly supports our direction with a strong performance of our BSD division and improving performance at CompuCom."

For its second fiscal quarter 2019 ended June 29, Office Depot reported total revenue of $2.59 billion, down 2 percent from the $2.63 billion the company reported for its second fiscal quarter 2018.

That includes product revenue of $2.18 billion, down 1 percent over last year, and services revenue of $405 million, down 6 percent. The company said the 6 percent drop in services revenue was primarily due to lower sales at CompuCom and was partially mitigated by a 5 percent increase in the BSD and a 7 percent increase in the retail division.

The company also reported a GAAP loss of $24 million, or 4 cents per share, down from last year's net income of $19 million, or 3 cents per share. On a non-GAAP basis, net income for the quarter was $37 million, or 7 cents per share, up from last year's $30 million, or 5 cents per share.

BSD revenue for the quarter reached $1.33 billion, up 2 percent over last year. Operating income for the BSD reached $86 million, up from last year's $67 million.

Office Depot's retail division revenue was reported to be $1.00 billion, down 4 percent over last year, while operating income was $9 million, down from last year's$ 22 million. Part of that decline was due to the closing of several of the company's nonprofitable and nonstrategic retail stores during the quarter.

Revenue from the CompuCom division was $258 million, down 7 percent from last year's $277 million. The CompuCom division showed a small $1 million operating income, down from last year's $6 million. However, Smith said, CompuCom revenue increased 4 percent compared with its first fiscal quarter 2019 sales.

"After a very poor start to the year, we are very pleased to report that CompuCom’s performance in the second quarter improved dramatically as compared to Q1 as initiatives that we put in place begin to drive improved results," he said. "Relative to the first quarter of 2019, revenues increased, largely driven by product sales in the corporate sector, and operating income grew to $1 million versus a loss of $15 million in the first quarter."

Copy and print subscriptions and tech services all grew during the second fiscal quarter, Smith said.

"We’re also entering into new partnerships to expand our service offerings, and are launching new 'store-within-a-store' opportunities of retail," he said. "While the total amount of services revenue was down due to CompuCom, services revenue as a percentage of our total revenue remained at 16 percent."

That "store-within-a-store" opportunity is just a part of how Office Depot is re-examining its retail strategy to drive new store traffic and offer new services to clients, Smith said.

"We recently launched our first store-within-a-store opportunity for Lenovo in Florida and Arizona, and the early feedback is encouraging," he said. "Our Lenovo store-within-a-store provides customers a fresh experience and encourages greater exploration of products in a modern environment [and] provides us more flexibility in pricing and promotion."

Office Depot is also now partnering with Telos ID, an FBI-certified background check and biometric services company to provide identity verification services in support of government programs and commercial clients, Smith said. The company has started offering the Telos ID services to over 200 of its stores to date, and may roll out this service to 500 or more locations over the balance of this year, he said.

"We’re also continuing to evaluate that economic co-working opportunity with nine locations now open," he said. "We have seen sales lift in each location, and the customer feedback has been terrific. We will continue to assess our progress and evaluate the business model for future store opportunities."

Smith wrapped up his prepared remarks by saying Office Depot has a large and growing customer base, market and sales presence, diversified product and services, and a top-notch supply chain.

"Our transformation is showing that we are clearly a B2B-driven company with extremely valuable assets, providing our customers with critical business products and services through our integrated distribution platform," he said.

When asked by an analyst about Office Depot's potential exposure to the China-focused tariffs, Joe Lower, the company's executive vice president and CFO, responded that Office Depot's direct exposure to tariff issues is under 10 percent of its cost of goods sold.

That exposure can be mitigated, and Office Depot did see an impact of under $10 million from a cost perspective during the quarter, Lower said.

"We’ve pretty successfully mitigated," he said.

Given Office Depot's outlook, Lower said it expects the exposure to be under $20 million in the second half of the year, although that is subject to change given changes in the supply base and how customers might accept those changes.