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Office Depot Inc (ODP), OfficeMax Inc (OMX): The War for the Supply Closet – Can Staples, Inc. (SPLS) Stave Off Invasion?

In its Q3 quarterly report, Staples speaks to this problem directly, saying “The decrease in gross profit rate for the third quarter of 2012 was primarily driven by lower product margins in North American delivery.” It will not be long before Amazon is offering same-day delivery for the vast majority of the country (it’s already starting in major metros such as New York and San Francisco). Staples today can not compete with that level of pricing and operational execution.

Where is the growth?

For the third quarter of 2012, Staples posted a year-over-year quarterly sales decline of 2%, and generated a net loss for the quarter of $596 million, compared to a profit of $326 million for Q3 2011.  The quarterly loss is attributable to a non cash write-down for goodwill and long-lived assets. Adjusting for this gives results comparable to those in Q3 2011.

And, as the bulls will always point out, Staples has over $1 billion of cash on its balance sheet, and cash flow from operations of $895 million cumulative for the first three quarters of 2012. Both of these facts are quite positive for the company.

The issue, then, how the company is using its strong cash position to support its growth. Staples is not spending its cash on growth or innovation. Of the $895 million in operating cash flow, $222 million was paid out as a dividend, $383 million was used to purchase treasury stock, and $423 million was used to pay down debt. On the surface, these are all textbook uses of cash. But now is not the time for Staples to follow the textbook.

Staples is under attack. The traditional competition is making big, fundamental changes to challenge and grow market share; Amazon is entering the market, bringing with it a track record of e-commerce dominance in nearly every industry it has pursued; and Staples is content to pay down debt, buy back stock, and pay a dividend.

Staples is scheduled to report fourth-quarter and year-end 2012 earnings on March 6. Regardless of the market’s short-term reaction to the release, Staples has a long and arduous journey to complete before warranting an investment. In the face of intensifying and motivated competition, Staples needs a revolution.

The article The War for the Supply Closet – Can Staples Stave Off Invasion? originally appeared on Fool.com and is written by Jay Jenkins.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

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