1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 FORM 10-Q (Mark One) [X] Quarterly Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934 For the quarterly period ended June 30, 2001 ------------- or [ ] Transition Report Pursuant to Section 13 or 15 (d) of the Securities Exchange Act of 1934 For the transition period from ______________ to ______________________ Commission file number 1-10948 ------- OFFICE DEPOT, INC. - -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) Delaware 59-2663954 - -------------------------------------------------------------------------------- (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) 2200 Old Germantown Road; Delray Beach, Florida 33445 - -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip Code) (561) 438-4800 - -------------------------------------------------------------------------------- (Registrant's telephone number, including area code) - -------------------------------------------------------------------------------- (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No[ ] The registrant had 298,732,047 shares of common stock outstanding as of July 28, 2001.
2 PART I. FINANCIAL INFORMATION ITEM 1 FINANCIAL STATEMENTS OFFICE DEPOT, INC. CONDENSED CONSOLIDATED BALANCE SHEETS (In thousands, except share and per share amounts) (Unaudited) <TABLE> <CAPTION> As of As of June 30, December 30, 2001 2000 ----------- ----------- <S> <C> <C> ASSETS Current assets: Cash and cash equivalents $ 189,609 $ 151,482 Receivables, net 783,614 896,333 Merchandise inventories, net 1,114,054 1,420,825 Deferred income taxes and other current assets 176,274 230,449 ----------- ----------- Total current assets 2,263,551 2,699,089 Property and equipment, net 1,092,862 1,119,306 Goodwill and other assets, net 372,633 377,939 ----------- ----------- $ 3,729,046 $ 4,196,334 =========== =========== LIABILITIES AND STOCKHOLDERS' EQUITY Current liabilities: Accounts payable $ 918,707 $ 1,136,994 Accrued expenses and other current liabilities 542,568 580,966 Income taxes payable 64,593 37,118 Current maturities of long-term debt 7,925 153,259 ----------- ----------- Total current liabilities 1,533,793 1,908,337 Deferred income taxes and other credits 50,557 88,247 Long-term debt, net of current maturities 229,718 374,061 Zero coupon, convertible subordinated notes 230,023 224,438 Commitments and contingencies Stockholders' equity: Common stock - authorized 800,000,000 shares of $.01 par value; issued 380,686,294 in 2001 and 378,688,359 in 2000 3,807 3,787 Additional paid-in capital 953,459 939,214 Unamortized value of long-term incentive stock grants (2,770) (2,793) Accumulated other comprehensive loss (82,377) (53,490) Retained earnings 1,614,994 1,516,691 Treasury stock, at cost - 82,190,548 shares in 2001 and 2000 (802,158) (802,158) ----------- ----------- 1,684,955 1,601,251 ----------- ----------- $ 3,729,046 $ 4,196,334 =========== =========== THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE> 2
3 OFFICE DEPOT, INC. CONDENSED CONSOLIDATED STATEMENTS OF EARNINGS (In thousands, except per share amounts) (Unaudited) <TABLE> <CAPTION> 13 Weeks Ended 26 Weeks Ended --------------------------------- --------------------------------- June 30, June 24, June 30, June 24, 2001 2000 2001 2000 ----------- ----------- ----------- ----------- <S> <C> <C> <C> <C> Sales $ 2,553,503 $ 2,632,850 $ 5,571,417 $ 5,698,507 Cost of goods sold and occupancy costs 1,814,850 1,881,337 4,025,848 4,109,348 ----------- ----------- ----------- ----------- Gross profit 738,653 751,513 1,545,569 1,589,159 Store and warehouse operating and selling expenses 539,957 533,955 1,138,784 1,105,740 General and administrative expenses 119,303 115,053 228,905 221,402 Other operating expenses, net (1,120) 6,509 449 10,188 ----------- ----------- ----------- ----------- 658,140 655,517 1,368,138 1,337,330 Operating profit 80,513 95,996 177,431 251,829 Other income (expense): Interest income 2,217 3,521 3,824 6,885 Interest expense (8,515) (7,070) (18,796) (14,266) Miscellaneous (expense) income, net (7,589) (483) (6,426) 20,589 ----------- ----------- ----------- ----------- Earnings before income taxes 66,626 91,964 156,033 265,037 Income taxes 24,652 34,027 57,730 98,064 ----------- ----------- ----------- ----------- Net earnings $ 41,974 $ 57,937 $ 98,303 $ 166,973 =========== =========== =========== =========== Earnings per common share: Basic $ 0.14 $ 0.18 $ 0.33 $ 0.52 Diluted 0.14 0.18 0.33 0.50 THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE> 3
4 OFFICE DEPOT, INC. CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (In thousands) (Unaudited) <TABLE> <CAPTION> 26 Weeks Ended ----------------------------- June 30, June 24, 2001 2000 --------- --------- <S> <C> <C> CASH FLOW FROM OPERATING ACTIVITIES: Net earnings $ 98,303 $ 166,973 Adjustments to reconcile net earnings to net cash provided by operating activities: Depreciation and amortization 97,744 96,179 Provision for losses on inventories and receivables 61,085 47,630 Changes in working capital 135,532 18,585 Loss (gain) on investment securities 8,500 (18,960) Other operating activities, net 22,028 8,759 --------- --------- Net cash provided by operating activities 423,192 319,166 --------- --------- CASH FLOWS FROM INVESTING ACTIVITIES: Proceeds from maturities or sales of investment securities -- 18,960 Purchases of investments and other assets (6,842) (21,612) Capital expenditures, net of proceeds from sales (71,546) (126,370) --------- --------- Net cash used in investing activities (78,388) (129,022) --------- --------- CASH FLOWS FROM FINANCING ACTIVITIES: Proceeds from exercise of stock options and sale of stock under employee stock purchase plans 8,851 7,431 Acquisition of treasury stock -- (200,457) Payments on long- and short-term borrowings (297,416) (3,321) Other financing activities, net 4,851 8,421 --------- --------- Net cash used in financing activities (283,714) (187,926) --------- --------- EFFECT OF EXCHANGE RATE CHANGES ON CASH AND CASH EQUIVALENTS (22,963) (7,879) --------- --------- Net increase (decrease) in cash and cash equivalents 38,127 (5,661) Cash and cash equivalents at beginning of period 151,482 218,784 --------- --------- Cash and cash equivalents at end of period $ 189,609 $ 213,123 ========= ========= SUPPLEMENTAL DISCLOSURE OF OTHER CASH FLOW ACTIVITIES: Interest received $ 3,825 $ 6,473 Interest paid 13,080 4,253 Income taxes paid 12,483 72,669 SUPPLEMENTAL DISCLOSURE OF NON-CASH INVESTING AND FINANCING ACTIVITIES: Additional paid-in capital related to income tax benefits on stock options exercised $ 1,933 $ 539 Assets acquired under capital leases 535 12,569 Unrealized loss on investment securities, net of income taxes -- 45,682 THE ACCOMPANYING NOTES ARE AN INTEGRAL PART OF THESE STATEMENTS. </TABLE> 4
5 OFFICE DEPOT, INC. NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited) (Tabular amounts in thousands) NOTE A - BASIS OF PRESENTATION Office Depot, Inc. (the Company or Office Depot) is the world's largest seller of office products and services. The consolidated financial statements include the accounts of Office Depot and its subsidiaries after elimination of intercompany accounts and transactions. The Company operates on a 52- or 53-week fiscal year ending on the last Saturday of December. The balance sheet at December 30, 2000 has been derived from audited financial statements at that date. The condensed interim financial statements as of June 30, 2001 and for the 13- and 26-week periods ending June 30, 2001 (also referred to as "the second quarter of 2001" and "the first half of 2001," respectively) and June 24, 2000 (also referred to as "the second quarter of 2000" and "the first half of 2000," respectively) are unaudited. However, in our opinion, these financial statements reflect all adjustments (consisting only of normal, recurring items) necessary to provide a fair presentation of our financial position, results of operations and cash flows for the periods presented. Also, we have made certain reclassifications to our historical financial statements to conform to the current year's presentation. These interim results are not necessarily indicative of the results you should expect for the full year. For a better understanding of the Company and our financial statements, we recommend that you read these condensed interim financial statements in conjunction with our audited financial statements for the year ended December 30, 2000, which are included in our 2000 Annual Report on Form 10-K, filed on March 27, 2001. NOTE B - COMPREHENSIVE INCOME Comprehensive income (loss) represents all non-owner changes in stockholders' equity and consists of the following: <TABLE> <CAPTION> Second Quarter First Half ----------------------------- ----------------------------- 2001 2000 2001 2000 --------- --------- --------- --------- <S> <C> <C> <C> <C> Net earnings $ 41,974 $ 57,937 $ 98,303 $ 166,973 Other comprehensive income, net of tax: Foreign currency translation adjustments (6,542) (23,331) (28,887) (15,842) Unrealized loss on investment securities -- (36,013) -- (45,682) --------- --------- --------- --------- Total comprehensive income (loss) $ 35,432 $ (1,407) $ 69,416 $ 105,449 ========= ========= ========= ========= </TABLE> NOTE C - INVESTMENT TRANSACTIONS We have investments in companies that provide business-to-business e-commerce solutions for small- and medium-sized businesses. The carrying value of these investments as of June 30, 2001 and June 24, 2000 totaled $21.4 million and $98.2 million, respectively. The decline in carrying value resulted primarily from investment sales throughout 2000 and other than temporary impairments recorded in late 2000, with an additional $8.5 million ($5.4 million net of tax) impairment charge recorded in the second quarter of 2001. 5
6 NOTE D - LONG-TERM DEBT On May 10, 2001, we renewed our 364-day credit agreement with a syndicate of banks. This agreement provides us with a working capital line of credit of $255 million. Our five-year credit agreement entered into in February 1998 provides a $300 million line of credit. Both credit agreements contain similar restrictive covenants. As of June 30, 2001, we had $95.5 million in outstanding borrowings under our five-year credit agreement with an average effective interest rate of 5.4%; and we had $49.4 million in outstanding letters of credit. In July 1999, we entered into term loan and revolving credit agreements with several Japanese banks (the "yen facilities") to provide financing for our operating and expansion activities in Japan. As of June 30, 2001, the equivalent of $58.7 million was outstanding under these yen facilities. We entered into a yen interest rate swap (for a principal amount equivalent to $19.0 million as of June 30, 2001) in order to hedge against the volatility of the interest payments on a portion of our yen borrowings. The swap will mature in July 2002. See Note H - Subsequent Events. NOTE E - EARNINGS PER SHARE ("EPS") The information required to compute basic and diluted EPS is as follows: <TABLE> <CAPTION> Second Quarter First Half -------------------------- -------------------------- 2001 2000 2001 2000 -------- -------- -------- -------- <S> <C> <C> <C> <C> Basic: Weighted average number of common shares outstanding 297,085 313,696 296,590 318,651 ======== ======== ======== ======== Diluted: Net earnings $ 41,974 $ 57,937 $ 98,303 $166,973 Interest expense related to convertible notes, net of income taxes 1,764 3,190 3,528 6,357 -------- -------- -------- -------- Adjusted net earnings $ 43,738 $ 61,127 $101,831 $173,330 ======== ======== ======== ======== Weighted average number of common shares outstanding 297,085 313,696 296,590 318,651 Shares issued upon assumed conversion of convertible notes 13,845 24,741 13,845 24,741 Shares issued upon assumed exercise of dilutive stock options 2,550 2,130 2,575 2,564 -------- -------- -------- -------- Shares used in computing diluted EPS 313,480 340,567 313,010 345,956 ======== ======== ======== ======== </TABLE> Options to purchase 26.7 million shares of common stock were not included in our computation of diluted earnings per share for the second quarter of 2001 because their weighted average effect would have been antidilutive. 6
7 NOTE F - SEGMENT INFORMATION The following is a summary of our significant accounts and balances by segment, reconciled to consolidated totals. <TABLE> <CAPTION> Sales ----------------------------------------------------------------------------- Second Quarter First Half --------------------------------- --------------------------------- 2001 2000 2001 2000 ----------- ----------- ----------- ----------- <S> <C> <C> <C> <C> North American Retail Division $ 1,284,304 $ 1,416,041 $ 2,895,466 $ 3,211,753 Business Services Group 913,779 870,781 1,894,758 1,754,642 International Division 356,045 347,033 782,669 734,069 ----------- ----------- ----------- ----------- Total reportable segments 2,554,128 2,633,855 5,572,893 5,700,464 Eliminations (625) (1,005) (1,476) (1,957) ----------- ----------- ----------- ----------- Total $ 2,553,503 $ 2,632,850 $ 5,571,417 $ 5,698,507 =========== =========== =========== =========== </TABLE> <TABLE> <CAPTION> Earnings Before Income Taxes --------------------------------------------------------------------- Second Quarter First Half ----------------------------- ----------------------------- 2001 2000 2001 2000 --------- --------- --------- --------- <S> <C> <C> <C> <C> North American Retail Division $ 73,867 $ 100,012 $ 157,258 $ 254,239 Business Services Group 72,654 70,207 131,770 128,064 International Division 51,644 43,722 117,311 96,988 --------- --------- --------- --------- Total reportable segments 198,165 213,941 406,339 479,291 Eliminations and other (131,539) (121,977) (250,306) (214,254) --------- --------- --------- --------- Total $ 66,626 $ 91,964 $ 156,033 $ 265,037 ========= ========= ========= ========= </TABLE> <TABLE> <CAPTION> Assets ---------------------------------------- June 30, December 30, 2001 2000 ---------- ---------- <S> <C> <C> North American Retail Division $1,734,377 $2,184,976 Business Services Group 1,036,301 1,105,936 International Division 747,176 736,229 ---------- ---------- Total reportable segments 3,517,854 4,027,141 Other 211,192 169,193 ---------- ---------- Total $3,729,046 $4,196,334 ========== ========== </TABLE> A reconciliation of our earnings before income taxes from our reportable segments to earnings before income taxes in our condensed consolidated financial statements is as follows: <TABLE> <CAPTION> Second Quarter First Half ----------------------------- ----------------------------- 2001 2000 2001 2000 --------- --------- --------- --------- <S> <C> <C> <C> <C> Total from reportable segments $ 198,165 $ 213,941 $ 406,339 $ 479,291 General and administrative expenses (119,303) (115,053) (228,905) (221,402) Gain (loss) on investment securities (8,500) 33 (8,500) 18,993 Interest (expense) income, net (6,298) (3,549) (14,972) (7,381) Other (expense) income, net 2,584 (3,352) 2,151 (4,381) Inter-segment transactions (22) (56) (80) (83) --------- --------- --------- --------- Total $ 66,626 $ 91,964 $ 156,033 $ 265,037 ========= ========= ========= ========= </TABLE> 7
8 NOTE G - NEW ACCOUNTING PRONOUNCEMENTS In July 2001, the Financial Accounting Standards Board issued Statement No. 141, ACCOUNTING FOR BUSINESS COMBINATIONS, and Statement No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS. These Statements modify accounting for business combinations after June 30, 2001 and will affect the Company's treatment of goodwill and other intangible assets at the start of fiscal year 2002. The Statements require that goodwill existing at the date of adoption be reviewed for possible impairment and that impairment tests be periodically repeated, with impaired assets written-down to fair value. Additionally, existing goodwill and intangible assets must be assessed and classified consistent with the Statements' criteria. Intangible assets with estimated useful lives will continue to be amortized over those periods. Amortization of goodwill and intangible assets with indeterminate lives will cease. At this time, the Company has not determined the complete impact of these Statements. However, for the six months ended June 30, 2001, the Company has recognized $3.6 million of goodwill amortization. NOTE H - SUBSEQUENT EVENTS In July 2001, the Company issued $250 million of 10.00% Senior Subordinated Notes due July 15, 2008. The Notes contain provisions that, in certain circumstances, limit the financial flexibility of the Company. A portion of the proceeds from the issuance of these Notes was used to repay all amounts outstanding under domestic credit facilities, and the balance will be used for general corporate purposes. 8
9 ITEM 2 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL Office Depot, Inc. is the largest seller of office products and services in the world. Sales to consumers and businesses of all sizes are conducted through our three business segments: North American Retail Division, Business Services Group ("BSG") and International Division. Management's Discussion and Analysis ("MD&A") is intended to provide information to assist you in better understanding and evaluating our financial condition and results of operations. We recommend that you read this MD&A in conjunction with our condensed consolidated financial statements in Item 1 of this Quarterly Report on Form 10-Q, as well as our 2000 Annual Report on Form 10-K. This MD&A contains significant amounts of forward-looking information. Without limitation, when we use the words "believe," "estimate," "plan," "expect," "intend," "anticipate," "continue," "project," "probably," "should" and similar expressions in this Quarterly Report on Form 10-Q, we are identifying forward-looking statements. Our Cautionary Statements, which you will find immediately following this MD&A and the MD&A in our 2000 Annual Report on Form 10-K, apply to these forward-looking statements. In the following discussion, all comparisons are with the corresponding items in the prior year unless stated otherwise. RESULTS OF OPERATIONS Net earnings of $42 million for the second quarter of 2001 and $98 million for the six months ended June 30, 2001 were 27% and 41% lower than the comparable periods of the prior year. The decline in earnings reflects lower sales volume in the North American Retail Division, influenced by a soft economy, and the adverse effect of a strong U.S. dollar when translating international sales that increased in local currencies. Also during the second quarter of this year, the Company completed a domestic chain-wide re-merchandising program designed to enhance the customers' shopping experience. Operating expenses reflect the incremental period costs of completing this program. OVERALL - ------- ($ in millions) <TABLE> <CAPTION> Second Quarter First Half ------------------------------------------------ ------------------------------------------------ 2001 2000 2001 2000 ---------------------- ---------------------- ---------------------- ----------------------- <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales $ 2,553.5 100.0% $ 2,632.8 100.0% $ 5,571.4 100.0% $ 5,698.5 100.0% Cost of goods sold and occupancy costs 1,814.9 71.1% 1,881.3 71.5% 4,025.8 72.3% 4,109.3 72.1% ---------- ---------- ---------- ---------- Gross profit 738.6 28.9% 751.5 28.5% 1,545.6 27.7% 1,589.2 27.9% Store and warehouse operating and selling expenses 540.0 21.1% 534.0 20.3% 1,138.8 20.4% 1,105.7 19.4% ---------- ---------- ---------- ---------- Store and warehouse operating profit $ 198.6 7.8% $ 217.5 8.2% $ 406.8 7.3% $ 483.5 8.5% ========== ========== ========== ========== </TABLE> 9
10 Overall sales for the second quarter and first half of 2001 decreased 3% and 2%, respectively. Comparable worldwide sales in the 814 stores and 41 delivery centers that have been open for more than one year decreased 2% for the second quarter and 1% for the first half of 2001. Sales of technology hardware and software products, primarily in the North American Retail Division, declined in both periods. While overall sales decreased, sales through our e-commerce channels increased significantly. Worldwide e-commerce sales grew 64% to $360.2 million during the quarter and grew 74% to $719.6 million for the first half of 2001. These e-commerce sales are comprised of all worldwide online sales, including those from our domestic public Web sites - WWW.OFFICEDEPOT.COM and WWW.VIKINGOP.COM - and Office Depot's contract business-to-business sites, as well as the Company's nine international Web sites. For business segment reporting purposes, these sales are captured within the appropriate business segment. Gross profit as a percent of sales increased for the second quarter, primarily from the shift in the sales mix away from lower margin technology products in the North American Retail Division. Store and warehouse operating and selling expenses as a percent of sales increased for both the quarter and first half, reflecting the benefits of improved cost control that were more than offset by the declining sales base. NORTH AMERICAN RETAIL DIVISION - ------------------------------ ($ in millions) <TABLE> <CAPTION> Second Quarter First Half ------------------------------------------------ ------------------------------------------------ 2001 2000 2001 2000 ---------------------- ---------------------- ---------------------- ----------------------- <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales $ 1,284.3 100.0% $ 1,416.0 100.0% $ 2,895.5 100.0% $ 3,211.7 100.0% Cost of goods sold and occupancy costs 978.7 76.2% 1,085.0 76.6% 2,249.2 77.7% 2,472.0 77.0% ---------- ---------- ---------- ---------- Gross profit 305.6 23.8% 331.0 23.4% 646.3 22.3% 739.7 23.0% Store and warehouse operating and selling expenses 230.5 17.9% 228.0 16.1% 486.7 16.8% 479.9 14.9% ---------- ---------- ---------- ---------- Store and warehouse operating profit $ 75.1 5.9% $ 103.0 7.3% $ 159.6 5.5% $ 259.8 8.1% ========== ========== ========== ========== </TABLE> Sales in the North American Retail Division declined 9% for the second quarter of 2001 and declined 10% during the first six months of 2001. Comparable store sales in the 781 stores in the U.S. and Canada that have been open for more than one year also decreased 9% and 10% for the second quarter and first half of 2001, respectively. The slowing of the U.S. economy has had an adverse effect on sales and could continue to affect sales over the second half of the year. Sales of technology hardware and software products collectively declined 27% in both the second quarter and first half of 2001. While sales have declined, gross profit as a percent of sales increased as our product mix shifted away from lower margin technology products, and other merchandising initiatives were launched. Additionally, gross margins for the year-to-date period were adversely affected by promotional 10
11 pricing used during the first quarter of 2001 to complete targeted inventory reductions. During the second quarter, a chain-wide re-merchandising program was completed. This program included improvements in product adjacencies; more informative signage; increased availability of private label merchandise; and customer-friendly reference charts on technology products. The incremental period costs of completing this program are included in the quarter and year-to-date operating expenses. During the second quarter, five new retail stores were opened in four states. At the end of the quarter, Office Depot operated a total of 829 retail stores throughout the United States and Canada. BUSINESS SERVICES GROUP - ----------------------- ($ in millions) <TABLE> <CAPTION> Second Quarter First Half ------------------------------------------------ ------------------------------------------------ 2001 2000 2001 2000 ---------------------- ---------------------- ---------------------- ----------------------- <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales $ 913.8 100.0% $ 870.7 100.0% $ 1,894.8 100.0% $ 1,754.6 100.0% Cost of goods sold and occupancy costs 623.1 68.2% 587.9 67.5% 1,307.3 69.0% 1,196.1 68.2% -------- -------- ---------- ---------- Gross profit 290.7 31.8% 282.8 32.5% 587.5 31.0% 558.5 31.8% Store and warehouse operating and selling expenses 216.7 23.7% 211.3 24.3% 453.1 23.9% 427.8 24.4% -------- -------- ---------- ---------- Store and warehouse operating profit $ 74.0 8.1% $ 71.5 8.2% $ 134.4 7.1% $ 130.7 7.4% ======== ======== ========== ========== </TABLE> BSG sales increased 5% in the second quarter of 2001 and increased 8% in the first half of 2001 and included strong growth in e-commerce activity. While BSG experienced some declines in furniture and technology product sales during the quarter, they were more than offset by increases in office supplies, paper and business machines. The decline in gross profit as a percent of sales reflects weakness in the catalog business that offset margin improvement in our contract business. Several initiatives in our warehouses allowed us to better control costs while improving customer service through increased order-fill rates and better on-time delivery performance. Store and warehouse operating and selling expenses as a percent of sales declined, reflecting better payroll cost control, partially offset by additional advertising expenses. INTERNATIONAL DIVISION - ---------------------- ($ in millions) <TABLE> <CAPTION> Second Quarter First Half ------------------------------------------------ ------------------------------------------------ 2001 2000 2001 2000 ---------------------- ---------------------- ---------------------- ----------------------- <S> <C> <C> <C> <C> <C> <C> <C> <C> Sales $ 356.0 100.0% $ 347.0 100.0% $ 782.7 100.0% $ 734.0 100.0% Cost of goods sold and occupancy costs 213.4 59.9% 208.9 60.2% 470.2 60.1% 442.3 60.3% -------- -------- -------- -------- Gross profit 142.6 40.1% 138.1 39.8% 312.5 39.9% 291.7 39.7% Store and warehouse operating and selling expenses 93.0 26.0% 95.0 27.4% 199.6 25.5% 198.7 27.1% -------- -------- -------- -------- Store and warehouse operating profit $ 49.6 13.9% $ 43.1 12.4% $ 112.9 14.4% $ 93.0 12.6% ======== ======== ======== ======== </TABLE> 11
12 Sales in the International Division increased 3% (11% in local currencies) in the second quarter of 2001 and increased 7% (16% in local currencies) in the first six months of 2001. Virtually all countries reported increased sales in local currencies for the quarter and first half of 2001. However, the change in exchange rates from the corresponding periods of the prior year reduced sales reported in U.S. dollars by $30.2 million for the quarter and $68.6 million for the first six months of the year. In U.S. dollar terms, the sales increases in Europe more than offset the decline reported in Japan for the quarter. Gross profit as a percent of sales benefited from shifts in product mix away from lower margin technology products, as well as from certain pricing initiatives, primarily in the catalog business, implemented during the first six months. Store and warehouse operating profit in the International Division improved 15% (23% in local currencies) for the second quarter and improved 21% (31% in local currencies) for the first six months of 2001. The positive effect on operating margins from cost control and higher sales were slightly offset by the early start-up costs of our contract business in the U.K., Ireland and The Netherlands, and the integration of an acquired contract business in Australia. Operating profits were negatively impacted by unfavorable exchange rates by $3.6 million in the second quarter and $9.3 million in the first six months of 2001. CORPORATE AND OTHER Income and expenses not allocated to the store and warehouse operating profit of our segments consist of pre-opening expenses, general and administrative expenses, corporately-directed activities such as facility closures, our share of the earnings (losses) of our joint ventures, amortization of goodwill, interest income and expense, income taxes, and inter-segment transactions. GENERAL AND ADMINISTRATIVE EXPENSES: As a percentage of sales, general and administrative expenses increased in the second quarter and first half of 2001 to 4.7% and 4.4%, respectively. This increase resulted mainly from lost leverage because of decreased sales. OTHER OPERATING EXPENSES, NET: During the second quarter of 2001, certain sub-lease and lease termination arrangements for closed facilities were completed on terms better than expected. Accordingly, $3.2 million of facility closure costs accrued in the fourth quarter of 2000 were reversed in this period. Additionally, pre-opening expenses and other costs included in this caption decreased from prior periods. INTEREST INCOME AND EXPENSE: Interest income decreased in the second quarter and first six months of 2001 because of lower average cash balances and lower interest rates. Interest expense increased in the second quarter and first half of 2001 because of increased borrowings on our bank credit facility compared to the prior year. MISCELLANEOUS EXPENSE: Miscellaneous expense, net for the second quarter and first half of 2001, primarily reflects a write-down of investments in certain Internet investment partners totaling $8.5 million ($5.4 million net of tax). Miscellaneous income, net for the first half of 2000 included a $19.0 million gain ($12.0 million net of tax) on the sale of Internet-related investments. 12
13 LIQUIDITY AND CAPITAL RESOURCES Operating cash flows for the first six months of 2001 were 33% higher than the same period in 2000. A net reduction in working capital more than offset the reduction in net income for the period. Total inventory levels decreased $306.8 million, reflecting increased inventory turnover and our SKU reduction program. Additionally, lower inventory purchases contributed to a decrease in accounts payable and improved collections led to a decrease in accounts receivable. During the first half of 2001, capital expenditures decreased $54.8 million or 43%, primarily from fewer store openings. We have also been more closely scrutinizing capital expenditures with an emphasis on improving our return on assets. Eleven stores were opened during the first half of 2001, compared to 30 during the same period of 2000. We anticipate higher capital expenditures in the second half of 2001 compared to the first six months. We currently project opening approximately 45 stores during 2001. During the first six months of 2001, we made payments of $297.4 million on our short- and long-term domestic bank borrowings. As a result, total borrowings as of June 30, 2001 consisted of $95.5 million under our long-term domestic credit facility and $49.4 million in outstanding letters of credit. In addition, the equivalent of $58.7 million was outstanding under our term loan and revolving credit agreements with several Japanese banks. (See Note D of the Notes to the Condensed Consolidated Financial Statements for more information regarding our credit facilities.) During the first half of 2000, we repurchased $200.5 million of our stock under a stock repurchase program authorized by our Board of Directors. This stock repurchase program was completed in the latter half of 2000. In May 2001, the Company completed renewal of its 364-day unsecured revolving credit facility in the principal amount of $255 million. In July 2001, the Company completed the issuance of $250 million of senior subordinated Notes, due July 15, 2008. A portion of the proceeds of this issuance was used to repay amounts outstanding under domestic credit facilities, and the remainder will be used for general corporate purposes. NEW ACCOUNTING PRONOUNCEMENTS In July 2001, the Financial Accounting Standards Board issued Statement No. 141, ACCOUNTING FOR BUSINESS COMBINATIONS, and Statement No. 142, GOODWILL AND OTHER INTANGIBLE ASSETS. These Statements modify accounting for business combinations after June 30, 2001 and will affect the Company's treatment of goodwill and other intangible assets at the start of fiscal year 2002. The Statements require that goodwill existing at the date of adoption be reviewed for possible impairment and that impairment tests be periodically repeated, with impaired assets written-down to fair value. Additionally, existing goodwill and intangible assets must be assessed and classified consistent with the Statements' criteria. Intangible assets with estimated useful lives will continue to be amortized over those periods. Amortization of goodwill and intangible assets with indeterminate lives will cease. At this time, the Company has not determined the complete impact of these Statements. However, for the six months ended June 30, 2001, the Company has recognized $3.6 million of goodwill amortization. 13
14 CAUTIONARY STATEMENTS FOR PURPOSES OF THE "SAFE HARBOR" PROVISIONS OF THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 In December 1995, the Private Securities Litigation Reform Act of 1995 (the "Act") was enacted by the United States Congress. The Act, as amended, contains certain amendments to the Securities Act of 1933 and the Securities Exchange Act of 1934. These amendments provide protection from liability in private lawsuits for "forward-looking" statements made by public companies. We want to take advantage of the "safe harbor" provisions of the Act. In doing so, we have disclosed these forward-looking statements by informing you in specific cautionary statements of the circumstances which may cause the information in these statements not to transpire as expected. This Quarterly Report on Form 10-Q contains both historical information and other information that you may use to infer future performance. Examples of historical information include our quarterly financial statements and the commentary on past performance contained in our MD&A. While we have specifically identified certain information as being forward-looking in the context of its presentation, we caution you that, with the exception of information that is clearly historical, all the information contained in this Quarterly Report on Form 10-Q should be considered to be "forward-looking statements" as referred to in the Act. Without limitation, when we use the words "believe," "estimate," "plan," "expect," "intend," "anticipate," "continue," "project," "probably," "should" and similar expressions, we intend to clearly express that the information deals with possible future events and is forward-looking in nature. Forward-looking information involves risks and uncertainties, including certain matters that we discuss in more detail below and in our 2000 Annual Report on Form 10-K. This information is based on various factors and assumptions about future events that may or may not actually come true. As a result, our operations and financial results in the future could differ substantially from those we have discussed in the forward-looking statements in this Quarterly Report. In particular, the factors we discuss below and in our 2000 Annual Report on Form 10-K could affect our actual results and could cause our actual results during the remainder of 2001 and in future years to differ materially from those expressed in any forward-looking statement made by us in this Quarterly Report on Form 10-Q. Those Cautionary Statements contained in our 2000 Annual Report on Form 10-K are incorporated herein by this reference to them; and, in addition, we urge you to also consider the following cautionary statements: ECONOMIC DOWNTURN In the past decade, the favorable United States economy has contributed to the expansion and growth of retailers. Since the third quarter of 2000, the U.S. economy has shown signs of a downturn. The retail industry, in general, is displaying signs of a slowdown, with several specialty retailers, both in and outside our industry segment, reporting earnings shortfalls compared to market expectations over the last several months. This general economic slowdown negatively 14
15 impacted our results during the second half of 2000 and the first half of 2001, and may continue to adversely impact our business and the results of our operations. COMPETITION We compete with a variety of retailers, dealers and distributors in a highly competitive marketplace that includes high-volume office supply chains, warehouse clubs, computer stores, contract stationers, Internet-based merchandisers and well-established mass merchant retailers. In order to achieve and maintain expected profitability levels, we must continue to grow our business while maintaining the service levels and aggressive pricing necessary to retain existing customers in each of our business segments. Our failure to adequately address these challenges could put us at a competitive disadvantage relative to these competitors. EXECUTIVE MANAGEMENT Our success depends largely on the efforts and abilities of our current senior management team. Their experience and industry contacts significantly benefit us. Our management team has undergone changes in the last year with the appointment of a new Chief Executive Officer and presidents to each of our operating business segments. We are currently searching for a Chief Financial Officer. If we were to lose the benefit of their experience and contacts or if the changes in management do not generate the benefits we seek, our business could be adversely affected. INTERNATIONAL ACTIVITY We operate in a number of international markets and intend to continue to enter into additional international markets as attractive opportunities arise. In addition to the risks described above, we face such international risks as: foreign currency fluctuations; unstable political, economic, financial and market conditions; compromised operating control of some of our foreign operations that are not wholly owned; system changes and harmonization of prices to accommodate the adoption of the euro; and lack of adequate management resources. All of these risks have in the past and could have in the future a material adverse effect on our business and operating results. 15
16 ITEM 3 QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK INTEREST RATE RISKS See the disclosure in our 2000 Annual Report on Form 10-K. We do not believe that the risk we face related to interest rate changes is materially different than it was at the date of such Report. FOREIGN EXCHANGE RATE RISKS See the disclosure in our 2000 Annual Report on Form 10-K. While we realize that foreign currency exchange rates have fluctuated in the past year, we do not believe that the risk we face related to foreign currencies is materially different than it was at the date of such Report. PART II. OTHER INFORMATION ITEM 1 LEGAL PROCEEDINGS We are involved in litigation arising in the normal course of our business. While from time to time claims are asserted that make demands for large sums of money (including from time to time, actions which are asserted to be maintainable as class action suits), we do not believe that any of these matters, either individually or in the aggregate, will materially affect our financial position or the results of our operations. ITEM 6 EXHIBITS AND REPORTS ON FORM 8-K a. A Current Report on Form 8-K was filed on May 30, 2001 regarding mid-quarter performance update. b. A Current Report on Form 8-K was filed on June 18, 2001 regarding renewal of a credit facility. c. A Current Report on Form 8-K was filed on June 21, 2001 regarding the private placement of Senior Subordinated Notes. d. A Current Report on Form 8-K was filed on July 10, 2001 regarding the acquisition of 4Sure.com. e. A Current Report on Form 8-K was filed on July 19, 2001 regarding earnings for the second quarter of 2001. 16
17 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. OFFICE DEPOT, INC. (Registrant) Date: August 3, 2001 By: /s/ M. Bruce Nelson ------------------------------------ M. Bruce Nelson Chief Executive Officer Date: August 3, 2001 By: /s/ Charles E. Brown ------------------------------------ Charles E. Brown Senior Vice President, Finance and Controller (Principal Financial and Accounting Officer) 17
18 INDEX TO EXHIBITS Exhibit No. Description - ----------- ----------- 10.1 Revolving Credit Agreement dated as of May 10, 2001 by and among Office Depot, Inc. and Suntrust Bank, individually and as Administrative Agent; Solomon Smith Barney, Inc. (SSBI) and Bank One, NA, as joint lead arrangers, SSBI as sole bookrunner; Citibank, N.A.., individually and as sole Syndication Agent; Bank One, NA, individually and as Documentation Agent; and BNP Paribas and Wells Fargo Bank, N.A. individually and as Co-Documententation Agents and First Union National Bank, Fleet National Bank and The Royal Bank of Scotland. (Exhibits to the Revolving Credit Agreement have been omitted, but a copy may be obtained free of charge upon request to the Company) 18