ACCO Brands Strategic Study for OSS

By Jeremy W. AllenFinance Summer Intern

July 2014

Office Depot

Financial Outlook• Strong 1st quarter performance

– Adjusted income of $72M Q1-14 vs. $54M pro forma Q1-13• Due to synergy realization earlier than expected

• Raising 2014 Adjusted Operating Income Outlook– Anticipate no less than $160M 2014 Operating Income

• Due to improved operational execution and accelerated synergy realization• Synergies-$675M (total annual run-rate by end of 2016)

– $75M from store portfolio optimization– $130M purchasing synergies (COGS)– $470M from SG&A/Distribution/Occupancy

• $180M of this $675M will occur in 2014 – $50M from COGS and $130 from SG&A

Office DepotPublicly Stated Store Closings

• Expect to close at least 400 stores - approximately 150 of those to close in 2014– 41% of total stores US stores (1,912) located in California (198), Florida (191), Georgia (79), Illinois (93) and

Texas (222) as of December 28, 2013

Source: Office Depot 2013 10-K (p. 19-20)

Office DepotU.S. Retail Store Optimization Plan

1. Preliminary Optimization (Initial Analysis): Identify initial group of expected store closures while testing optimization plan assumptions– This includes thoughtful, store-by-store evaluation. Factors include: store performance, sales transfer,

stranded costs, store closing costs, expected impacts to other channels and overall go-to-market strategy

2. Final Optimization (Stage 1)– Complete analysis to determine optimal portfolio to improve profitability– Sequence store closures in waves to maximize benefit

3. On-going real estate operations (Stage 2)– Negotiate favorable lease terms and evaluate locations as leases near expiration

4. “Store of the Future” (Stage 3)– Define optimal store format aligning with Unique Selling Proposition (USP)– Test and implement new format

***Note: As of December 28, 2013 North American Retail accounted for 41.0% of Office Depot’s Total Sales

***Source: Office Depot 2013 10-K (p. 25)

Office DepotRetail Plans

• “Unique Selling Proposition”– May lead them to increase use of own private label

• Increase brand awareness and uniqueness of Depot• Implement one-store operating model

– Have opened several stores with smaller, more intimate format. Includes technology area (Bluwire) focused on computer products and technology centers where customers can interact with products

• Contract Business– Drive profitable sales by aligning pricing, assortment and incentive strategies– Expand into more profitable customer segments– Grow adjacent product categories

• Direct Business– Common web platform leveraging both brands– Improve online experience & optimize digital marketing

Office DepotAnalyst’s comments

• “…we expect over 500 stores to close, but the timing of lease expirations will determine how quickly and beneficial these closings will be” (Credit Suisse, 6 November 2013)

• “The office products sector continues to suffer from twin secular challenges – erosion in paper consumption weighing on core office supplies, and encroachment from ecommerce weighing on both market share and margins vis-à-vis the retail business” (Goldman Sachs, 27 May 2014)

• “We see significant opportunity for ODP to deliver outsized earnings growth in 2014-2016 from merger integration and a broader cost-cutting initiative, off an exceptionally low margin base…New CEO Roland Smith has experience taking out costs at both Wendy’s and Delhaize, and has established good early momentum in our view, as the firm cleanly beat expectation in its first quarter post-merger” (Goldman Sachs, 27 May 2014)

• “The biggest drivers of synergies include cost-take-out, purchasing, and sales reclamation from closed stores, while allowing for erosion in the underlying business” (Goldman Sachs, 27 May 2014)

• “E-commerce bulls have vociferously purported that retailers will not be able to compete on prices which will lead to their demise. This obtuse view does not consider the recent legislative changes. Websites such as Amazon no longer are exempt from sales tax, so the prices between these websites and brick and mortar stores are comparable. Further, the rising shipping costs provide a headwind to e-commerce companies.” (Jeffrey Himelson – SeekingAlpha.com 13 June 2014)

StaplesStore Closings

• Plan to close 225 stores in North America by 2015– 140 of these closures planned for 2014

• Noted in the Q1 2014 10-Q (page 9) that the company approved the closure of 112 specific retail stores, although there is no mention as to their geographic location

– However, only 16 total closed as of Q1-14– 80+ expected to close in Q2-14– Multi-year cost savings of $500M by end of 2015 with half coming in 2014– Plan on reducing store prototype from 24K sq. ft. to 12K sq. ft. – Their few smaller store formats incorporate omni-channel features to better address customer needs

and generate 95% of sales that are generated in the 24K sq. ft. store– 45% of total US stores (1,515) located in 6 states: California (214 stores), Florida (90 stores),

Massachusetts (75 stores), New Jersey (84 stores), New York (131 stores) and Pennsylvania (91 stores) as of February 1, 2014• Potentially significant closures in these locations

Staples

Source: Staples 2013 10-K (p. 13-14)Locations as of February 1, 2014

Staples

Retail Plans• Want to continue to be destination for core office supplies

– i.e. ink, toner, paper, etc.• Also want to expand beyond office supplies

– e.g., technology products and services, copy and print services, facilities and break room supplies– Full assortment of industry vertical focused solutions

• i.e. serving restaurants, medical offices, retail stores• Removing 1,200 unproductive SKUs from shelves

– Replacing with items from more productive categories• e.g., Cleaning and Break Room Supplies

• Accelerating growth in Copy & Print– $1.3B multi-channel Copy & Print offering– Gross margins in services business ~2x company average

StaplesStrategic direction into e-commerce

• Top priorities are to accelerate growth online, expand categories beyond office supplies, drive sustainable growth in copy and print business

• Launched biggest refresh to Staples.com in 2013 by making website faster and easier to navigate– Increased customer engagement and personalization with acquisition of Runa– Opened new software development center in Seattle

• Hiring talented engineers and leaders in order to use big data to develop personalized shopping experiences

• Staples.com and Staples.ca are designed to reach small businesses, home offices and consumers, offering next business day delivery for most orders in the majority of their markets

• Staples.com sales grew by 6% during Q1 2014 YOY.– Much of their growth is in categories beyond office supplies– Expanded assortment of products to 850,000+ products in Q1-14

• This expanded assortment drove over $6M in incremental sales per week• Could pass 1.5M products by end of 2014

Staples

Staples Acquisition of Runa• At the time of the acquisition (2 October 2013) Staples.com was the second largest internet retailer• Runa serves customers by generating “personalized items, offers, and delivery estimates in real time”

– Its headquarters in San Mateo, California will serve as the newest Staples Lab, following locations in Seattle and Cambridge

• Creators of Runa built it with a “philosophy of doing more with less, by leveraging the most talented engineers and data scientists in the world to tackle the most challenging problems in e-commerce”

• Staples will be implementing two services developed by Runa: 1) PerfectOffer - automated personalized offers in real-time and 2) PerfectShipping - real-time delivery estimates and free-shipping offers.– These services are meant to convert more web traffic browsing into actual purchasing by making

Runa your best sales person ‘all the time’– Leverage data about what Staples has in its own stock to offer people and combines that with what

people are browsing for and have bought in past– Prior to purchase by Staples, Runa had great success working with eBay on improving and expanding

usage of their “Fast’n’Free” shipping

StaplesAnalyst’s comments

• “Our AlphaWise survey of 251 business purchasing managers shows that the demand outlook for office products remains lackluster as overall spending is expected to rise 0%-1% over the next 12 months. The outlook for adjacent categories is not much better at 1%-2%. On the bright side, SPLS is viewed as best-in-class in execution and customer satisfaction.” (Morgan Stanley, 23 June 2014)

• “Our pricing study reveals that SPLS’ online pricing is highly competitive while its computers/communication/home office market share is steady.” (Morgan Stanley, 23 June 2014)

• “Moving to smaller formats should be beneficial to returns, but the cost to remodel is too high. As we show inside, the payback on a smaller store is compelling, but remodel costs would need to be halved…margins are likely to continue going lower before they ultimately improve. Not only do all of SPLS investments have to run their course, but they must prove that top-line efforts can stabilize sales” (Morgan Stanley, 23 June 2014)

• “We continue to believe that the right strategic move in this segment is to get to one superstore chain, leading to significantly more store closures, and consolidating sales forces while reducing costs” (Credit Suisse, 20 May 2014)

Implications-Industry• In an increasingly competitive operating environment, it is difficult to say if Staples or Office Depot's

business models makes sense• Further industry consolidation will likely occur, although it would not be hard to imagine if either or both

of these companies fails due to competition from either mass merchandisers (Wal-Mart/Target) or Amazon.com in the long term– “Further consolidation in the segment may make sense longer-term, but is unlikely over the next 12

months” (Morgan Stanley, 23 June 2014)– “Amazon is gaining traction in a high quality way. The competitive threat may be longer-term, but the

data suggests that the momentum will continue over the next 12 months. In comparison with the survey results from 2011, the percentage of respondents that have purchased office products from amazon.com jumped to 26% from 15%. Moreover, the amount of respondents that label amazon.com as its primary vendor for office products (in terms of dollar spend), jumped to 6% from 2% in 2011” (Morgan Stanley, 23 June 2014)

• Commercial business will continue to drive sales and profitability while retail will continue to lose share

Implications-Industry• Intense price competition due to availability of consumers to shop online and price check will lead to very

tough times for the brick and mortar stores– This will lead to even worse margins and sales than they currently have– A quick check of the websites of Amazon, Staples, and Depot reveals the following:

• Prices/Shipping Time for Quartet 6’ x 4’ Porcelain Whiteboard w/ aluminum frame• Amazon: $385.99 with estimated shipping time of 2 days• Staples.com: $549.99 with estimated shipping time of 1 day• Office Depot.com: $629.99 with estimated shipping time of 20-30 days

• “The eCommerce pricing mechanism is dynamic with several competitors, which we believe implies a downward sloping price curve. This is a pressure that, we believe, could last for some time in the channel” (Morgan Stanley, 23 June 2014)

• “…contrary to popular belief, it is not Amazon (AMZN) that is killing Staples, but rather companies like Oracle (ORCL), Salesforce.com (CRM), or even IBM (IBM), that offer computing solutions to replace print. Simply put, Staples will no longer be as essential to businesses as it once was, as Staples can no longer offer “everything your business needs” (Ernest Wong - SeekingAlpha.com, 3 April 2014)

Implications-Industry• Staples stores have an advantage in that they offer services outside of selling office supplies which

differentiate them from competition and can drive consumer traffic in to the stores– Copy & Print Services, Technology trade-in, textbook rental, etc.

• Office Depot’s website is very cluttered and it appears that they have lost focus on their core business by branching off into break room and cleaning supplies as well as technology– They likely do not stand a chance against larger, more established online competitors in these various

categories– A lot of these new product categories are one-time purchase items (mops, coffee makers, etc.) rather

than recurring revenue streams• While both companies may be able to reduce costs over the short run to increase their bottom line, this

does not address the fact that they will have a hard time achieving top line growth and retaining market share from their competition

• “Corporate demand for office products remains subdued and the surveyed office supply purchase managers are anticipating flat spending for 2014 and flat to +1% in 2015. Although selling adjacent categories remains an option, the growth of these categories is only slightly better than core office products” (Morgan Stanley, 23 June 2014)